-----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, HtvVZ2EgaYeSuU95Kq29SKUiVl7pCqtDBSa6tn7kUUBkDGBploz3MLln0ZLMlGqB /0LRQnn3i0Z/ANjFVB/33A== 0001031296-98-000030.txt : 19981116 0001031296-98-000030.hdr.sgml : 19981116 ACCESSION NUMBER: 0001031296-98-000030 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981113 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRSTENERGY CORP CENTRAL INDEX KEY: 0001031296 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 341843785 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 333-21011 FILM NUMBER: 98747623 BUSINESS ADDRESS: STREET 1: 76 SOUTH MAIN ST CITY: AKRON STATE: OH ZIP: 44308-1890 BUSINESS PHONE: 8007363402 MAIL ADDRESS: STREET 1: 76 SOUTH MAIN ST CITY: AKRON STATE: OH ZIP: 44308-1890 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CLEVELAND ELECTRIC ILLUMINATING CO CENTRAL INDEX KEY: 0000020947 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 340150020 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-02323 FILM NUMBER: 98747624 BUSINESS ADDRESS: STREET 1: 76 SOUTH MAIN STREET STREET 2: C/O FIRSTENERGY CORP CITY: AKRON STATE: OH ZIP: 44308 BUSINESS PHONE: 2166229800 FILER: COMPANY DATA: COMPANY CONFORMED NAME: OHIO EDISON CO CENTRAL INDEX KEY: 0000073960 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 340437786 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-02578 FILM NUMBER: 98747625 BUSINESS ADDRESS: STREET 1: 76 S MAIN ST CITY: AKRON STATE: OH ZIP: 44308 BUSINESS PHONE: 2163845100 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PENNSYLVANIA POWER CO CENTRAL INDEX KEY: 0000077278 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 250718810 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-03491 FILM NUMBER: 98747626 BUSINESS ADDRESS: STREET 1: 1 E WASHINGTON ST STREET 2: P O BOX 891 CITY: NEW CASTLE STATE: PA ZIP: 16103-0891 BUSINESS PHONE: 4126525531 FILER: COMPANY DATA: COMPANY CONFORMED NAME: TOLEDO EDISON CO CENTRAL INDEX KEY: 0000352049 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 344375005 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-03583 FILM NUMBER: 98747627 BUSINESS ADDRESS: STREET 1: 76 SOUTH MAIN STREET CITY: AKRON STATE: OH ZIP: 43308 BUSINESS PHONE: 2166229800 10-Q 1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ------- ------ Commission Registrant; State of Incorporation; I.R.S. Employer File Number Address; and Telephone Number Identification No. - ----------- ---------------------------------- ------------------ 333-21011 FIRSTENERGY CORP. 34-1843785 (An Ohio Corporation) 76 South Main Street Akron, Ohio 44308 Telephone (800)736-3402 1-2578 OHIO EDISON COMPANY 34-0437786 (An Ohio Corporation) 76 South Main Street Akron, OH 44308 Telephone (800)736-3402 1-2323 THE CLEVELAND ELECTRIC 34-0150020 ILLUMINATING COMPANY (An Ohio Corporation) c/o FirstEnergy Corp. 76 South Main Street Akron, OH 44308 Telephone (800)736-3402 1-3583 THE TOLEDO EDISON COMPANY 34-4375005 (An Ohio Corporation) c/o FirstEnergy Corp. 76 South Main Street Akron, OH 44308 Telephone (800)736-3402 1-3491 PENNSYLVANIA POWER COMPANY 25-0718810 (A Pennsylvania Corporation) 1 East Washington Street P. O. Box 891 New Castle, Pennsylvania 16103 Telephone (412)652-5531 Indicate by check mark whether each of the registrants (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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: OUTSTANDING CLASS AS OF NOVEMBER 13, 1998 ----- ----------------------- FirstEnergy Corp., $.10 par value 237,069,087 Ohio Edison Company, $9 par value 100 The Cleveland Electric Illuminating Company, no par value 79,590,689 The Toledo Edison Company, $5 par value 39,133,887 Pennsylvania Power Company, $30 par value 6,290,000 FirstEnergy Corp. is the sole holder of Ohio Edison Company, The Cleveland Electric Illuminating Company and The Toledo Edison Company common stock; Ohio Edison Company is the sole holder of Pennsylvania Power Company common stock. This combined Form 10-Q is separately filed by FirstEnergy Corp., Ohio Edison Company, Pennsylvania Power Company, The Cleveland Electric Illuminating Company and The Toledo Edison Company. Information contained herein relating to any individual registrant is filed by such registrant on its own behalf. No registrant makes any representation as to information relating to any other registrant, except that information relating to any of the four FirstEnergy subsidiaries is also attributed to FirstEnergy. This Form 10-Q includes forward looking statements based on information currently available to management. Such statements are subject to certain risks and uncertainties. These statements typically contain, but are not limited to, the terms "anticipate", "potential", "expect", "believe", "estimate" and similar words. Actual results may differ materially due to the speed and nature of increased competition and deregulation in the electric utility industry, economic or weather conditions affecting future sales and margins, changes in markets for energy services, changing energy market prices, legislative and regulatory changes (including revised environmental requirements), availability and cost of capital and other similar factors. TABLE OF CONTENTS Pages Part I. Financial Information Notes to Financial Statements 1-4 FirstEnergy Corp. Consolidated Statements of Income 5 Consolidated Balance Sheets 6-7 Consolidated Statements of Cash Flows 8 Report of Independent Public Accountants 9 Management's Discussion and Analysis of Results of Operations and Financial Condition 10-14 Ohio Edison Company Consolidated Statements of Income 15 Consolidated Balance Sheets 16-17 Consolidated Statements of Cash Flows 18 Report of Independent Public Accountants 19 Management's Discussion and Analysis of Results of Operations and Financial Condition 20-23 The Cleveland Electric Illuminating Company Consolidated Statements of Income 24 Consolidated Balance Sheets 25-26 Consolidated Statements of Cash Flows 27 Report of Independent Public Accountants 28 Management's Discussion and Analysis of Results of Operations and Financial Condition 29-32 The Toledo Edison Company Consolidated Statements of Income 33 Consolidated Balance Sheets 34-35 Consolidated Statements of Cash Flows 36 Report of Independent Public Accountants 37 Management's Discussion and Analysis of Results of Operations and Financial Condition 38-41 Pennsylvania Power Company Statements of Income 42 Balance Sheets 43-44 Statements of Cash Flows 45 Report of Independent Public Accountants 46 Management's Discussion and Analysis of Results of Operations and Financial Condition 47-49 Part II. Other Information PART I. FINANCIAL INFORMATION - ------------------------------ FIRSTENERGY CORP. AND SUBSIDIARIES OHIO EDISON COMPANY AND SUBSIDIARIES THE CLEVELAND ELECTRIC ILLUMINATING COMPANY AND SUBSIDIARY THE TOLEDO EDISON COMPANY AND SUBSIDIARY PENNSYLVANIA POWER COMPANY NOTES TO FINANCIAL STATEMENTS (Unaudited) 1 - FINANCIAL STATEMENTS: FirstEnergy Corp. (FirstEnergy) became a holding company on November 8, 1997, in connection with the merger of Ohio Edison Company (OE) and Centerior Energy Corporation (Centerior). FirstEnergy's principal business is the holding, directly or indirectly, of all of the outstanding common stock of its four principal electric utility operating subsidiaries, OE, The Cleveland Electric Illuminating Company (CEI), The Toledo Edison Company (TE) and Pennsylvania Power Company (Penn). These utility subsidiaries are referred to throughout as "Companies." Penn is a wholly owned subsidiary of OE. Prior to the merger in November 1997, CEI and TE were the principal operating subsidiaries of Centerior. The merger was accounted for using the purchase method of accounting in accordance with generally accepted accounting principles, and the applicable effects were reflected on CEI's and TE's financial statements as of the merger date. Accordingly, the post-merger financial statements reflect a new basis of accounting, and pre-merger period and post-merger period financial results of CEI and TE (separated by a heavy black line) are presented. The condensed financial statements of FirstEnergy and each of the Companies reflect all normal recurring adjustments that, in the opinion of management, are necessary to fairly present results of operations for the interim periods. These statements should be read in connection with the financial statements and notes included in the combined Annual Report on Form 10-K for the year ended December 31, 1997 for FirstEnergy and the Companies. The reported results of operations are not indicative of results of operations for any future period. The sole assets of the subsidiary trust that is the obligor on the preferred securities included in FirstEnergy's and OE's capitalization are $123,711,350 principal amount of 9% Junior Subordinated Debentures of OE due December 31, 2025. 2 - COMMITMENTS, GUARANTEES AND CONTINGENCIES: CAPITAL EXPENDITURES- FirstEnergy's current forecast reflects expenditures of approximately $1.2 billion (OE-$510 million, CEI-$430 million, TE- $200 million and Penn-$90 million) for property additions and improvements related to its regulated businesses from 1998-2002, of which approximately $282 million (OE-$133 million, CEI-$89 million, TE-$43 million and Penn-$17 million) is applicable to 1998. Investments for additional nuclear fuel during the 1998-2002 period are estimated to be approximately $518 million (OE-$169 million, CEI-$172 million, TE-$140 million and Penn-$37 million), of which approximately $85 million (OE-$24 million, CEI-$32 million, TE-$27 million and Penn-$2 million) applies to 1998. FirstEnergy also expects to invest approximately $300 million during 1998-2002 relating to various nonregulated business ventures. GUARANTEES- The Companies and Duquesne Light Company have each severally guaranteed certain debt and lease obligations in connection with a coal supply contract for the Bruce Mansfield Plant. As of September 30, 1998, the Companies' share of the guarantees was $43.2 million (OE-$24.8 million, CEI-$9.3 million, TE-$5.5 million and Penn-$3.6 million). The price under the coal supply contract, which includes certain minimum payments, has - 1 - been determined to be sufficient to satisfy the debt and lease obligations. ENVIRONMENTAL MATTERS- Various federal, state and local authorities regulate the Companies with regard to air and water quality and other environmental matters. The Companies estimate additional capital expenditures for environmental compliance of approximately $50 million (OE-$25 million, CEI-$12 million, TE-$11 million and Penn- $2 million), which is included in the construction forecast for their regulated businesses provided under "Capital Expenditures" for 1998 through 2002. The Companies are in compliance with the current sulfur dioxide (SO2) and nitrogen oxides (NOx) reduction requirements under the Clean Air Act Amendments of 1990. SO2 reductions through the year 1999 will be achieved by burning lower-sulfur fuel, generating more electricity from lower-emitting plants, and/or purchasing emission allowances. Plans for complying with reductions required for the year 2000 and thereafter have not been finalized. In September 1998, the Environmental Protection Agency (EPA) finalized regulations requiring additional NOx reductions from the Companies' Ohio and Pennsylvania facilities by May 2003. The EPA`s NOx Transport Rule imposes uniform reductions of NOx emissions across a region of twenty-two states and the District of Columbia, including Ohio and Pennsylvania, based on a conclusion that such NOx emissions are contributing significantly to ozone pollution in the eastern United States. By September 1999, each of the twenty-two states are required to submit revised State Implementation Plans (SIP) which comply with individual state NOx budgets established by the EPA. These state NOx budgets contemplate an 85% reduction in utility plant NOx emissions from 1990 emissions. A proposed Federal Implementation Plan accompanied the NOx Transport Rule and may be implemented by the EPA in states which fail to revise their SIP. In another separate but related action, eight states filed petitions with the EPA under Section 126 of the Clean Air Act seeking reductions of NOx emissions which are alleged to contribute to ozone pollution in the eight petitioning states. The EPA suggests that the Section 126 petitions will be adequately addressed by the NOx Transport Program, but a September 1998 proposed rulemaking established an alternative program which would require nearly identical 85% NOx reductions at the Companies' Ohio and Pennsylvania plants by May 2003 in the event implementation of the NOx Transport Rule is delayed. The Companies continue to evaluate their compliance plans and other compliance options and currently estimate the additional capital expenditures for NOx reductions may reach $500 million. The Companies are required to meet federally approved SO2 regulations. Violations of such regulations can result in shutdown of the generating unit involved and/or civil or criminal penalties of up to $25,000 for each day the unit is in violation. The EPA has an interim enforcement policy for SO2 regulations in Ohio that allows for compliance based on a 30-day averaging period. The Companies cannot predict what action the EPA may take in the future with respect to the interim enforcement policy. In July 1997, the EPA promulgated changes in the National Ambient Air Quality Standard (NAAQS) for ozone and proposed a new NAAQS for previously unregulated ultra-fine particulate matter. The cost of compliance with these regulations may be substantial and depends on the manner in which they are implemented by the states in which the Companies operate affected facilities. OE, CEI and TE have been named as "potentially responsible parties" (PRPs) at waste disposal sites which may require cleanup under the Comprehensive Environmental Response, Compensation and Liability Act of 1980. Allegations that the Companies disposed of hazardous substances at historical sites and the liability involved, are often unsubstantiated and subject to dispute. Federal law provides that all PRPs for a particular site be held liable on a joint and several basis. CEI and TE have accrued a liability of $4.8 million and $1.0 million, respectively, as of September 30, 1998, based on estimates of the costs of cleanup and the proportionate responsibility of other PRPs for such costs. OE, CEI and TE believe that waste disposal costs will not have a material adverse effect on their financial condition, cash flows or results of operations. Legislative, administrative and judicial actions will continue to change the way that the Companies must operate in order to comply with environmental laws and regulations. With respect to any such changes and to the environmental matters described above, the Companies expect that any resulting additional capital costs which may be required, as well as any - 2 - required increase in operating costs, would ultimately be recovered from their customers. PENDING EXCHANGE OF ASSETS- As discussed under "Item 5. Other Events" in the combined Current Report on Form 8-K dated October 15, 1998, FirstEnergy announced that it has signed an agreement in principle with Duquesne Light Company (Duquesne) that would result in the transfer of 1,436 megawatts owned by Duquesne at eight generating units in exchange for 1,298 megawatts at three power plants owned by the Companies. A definitive agreement on the exchange of assets, which will be structured as a tax-free transaction to the extent possible, is expected by the end of 1998. Duquesne will fund decommissioning costs equal to its percentage interest in the three nuclear generating units to be transferred. The asset transfer is expected to take twelve to eighteen months to close. 3 - REGULATORY ACCOUNTING: In June 1998, the Pennsylvania Public Utility Commission (PPUC) authorized a rate restructuring plan for Penn, which essentially resulted in the deregulation of Penn's generation business. Accordingly, Penn discontinued the application of Statement of Financial Accounting Standards (SFAS) No. 71, "Accounting for the Effects of Certain Types of Regulation" (SFAS 71), for its generation business as of June 30, 1998. In accordance with SFAS 101, "Regulated Enterprises - Accounting for the Discontinuation of Application of SFAS 71," Penn was required to remove from its balance sheet all regulatory assets and liabilities related to its generation business for which SFAS 71 was discontinued and assess all other assets for impairment. The Securities and Exchange Commission (SEC) recently issued interpretive guidance regarding asset impairment measurement when a regulated enterprise such as an electric utility discontinues SFAS 71 for separable portions of its operations and assets. That guidance concludes that any supplemental regulated cash flows such as a competitive transition charge (CTC) should be excluded from the cash flows of assets in a portion of the business not subject to regulatory accounting practices. If such assets are impaired, a regulatory asset should be established if such costs are recoverable through regulatory cash flows. Consistent with the SEC guidance, Penn reduced its nuclear generating unit investments by approximately $305 million, of which approximately $227 million was recognized as a regulatory asset to be recovered through a CTC over a seven-year transition period. The charge of $51.7 million ($30.5 million after income taxes) for discontinuing the application of SFAS 71 to Penn's generation business was recorded as an extraordinary item on FirstEnergy's and OE's respective Consolidated Statements of Income and Penn's Statements of Income. Based on the current regulatory environment and the Companies' respective regulatory plans, the Companies believe they will continue to be able to bill and collect cost-based rates relating to all of OE's operations, CEI's and TE's nonnuclear operations, and Penn's nongeneration operations; accordingly, it is appropriate that the Companies continue the application of SFAS 71 to those respective operations. 4 - PRO FORMA COMBINED CONDENSED STATEMENTS OF INCOME: The following pro forma statements of income for FirstEnergy, CEI and TE for the three months and nine months ended September 30, 1997, give effect to the OE-Centerior merger as if it had been consummated on January 1, 1997, with the purchase accounting adjustments actually recognized in the business combination. - 3 -
FE CEI TE -- --- -- (In millions, except per share amounts) Three Months Ended September 30, 1997 ------------------------------------- Operating Revenues $1,350 $ 499 $241 Operating Expenses and Taxes 1,022 365 188 ------ ------ ---- Operating Income 328 134 53 Other Income 21 10 6 Net Interest Charges 170 68 26 ------ ------ ---- Net Income $ 179 $ 76 $ 33 ====== ====== ==== Earnings per Share of Common Stock $ .81 ====== Nine Months Ended September 30, 1997 ------------------------------------ Operating Revenues $3,760 $1,359 $680 Operating Expenses and Taxes 2,942 1,063 552 ------ ------ ---- Operating Income 818 296 128 Other Income 47 8 9 Net Interest Charges 478 177 69 ------ ------ ---- Net Income $ 387 $ 127 $ 68 ====== ====== ==== Earnings per Share of Common Stock $ 1.74 ====== Pro forma adjustments reflected above include: (1) adjusting CEI and TE nuclear generating units to fair value based upon independent appraisals and estimated discounted future cash flows based on management's current view of cost recovery; (2) the effect of discontinuing SFAS 71 for CEI's and TE's nuclear operations; (3) amortization of the fair value adjustment for long-term debt; (4) goodwill recognized representing the excess of CEI's and TE's portion of the purchase price over the respective company's adjusted net assets; (5) the elimination of merger costs; and (6) adjustments for estimated tax effects of the above adjustments.
- 4 - FIRSTENERGY CORP. CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, ------------------- ---------------------- 1998 1997 1998 1997 ---------- -------- ---------- ---------- (In thousands, except per share amounts) OPERATING REVENUES $1,416,741 $652,660 $3,893,795 $1,850,684 OPERATING EXPENSES AND TAXES: Fuel and purchased power 291,228 111,724 833,412 321,514 Nuclear operating costs 124,508 66,990 365,858 202,833 Other operating costs 225,809 101,937 664,171 297,006 ---------- -------- ---------- ---------- Total operation and maintenance expenses 641,545 280,651 1,863,441 821,353 Provision for depreciation and amortization 162,478 106,402 496,375 292,975 Amortization of net regulatory assets 28,702 11,288 73,079 26,129 General taxes 138,471 58,986 409,953 175,959 Income taxes 125,080 54,277 263,863 140,909 ---------- -------- ---------- ---------- Total operating expenses and taxes 1,096,276 511,604 3,106,711 1,457,325 ---------- -------- ---------- ---------- OPERATING INCOME 320,465 141,056 787,084 393,359 OTHER INCOME (EXPENSE) (5,275) 12,035 9,961 39,605 ---------- -------- ---------- ---------- INCOME BEFORE NET INTEREST CHARGES 315,190 153,091 797,045 432,964 ---------- -------- ---------- ---------- NET INTEREST CHARGES: Interest on long-term debt 128,479 50,799 390,810 155,137 Allowance for borrowed funds used during construction and capitalized interest (2,461) (1,056) (5,129) (1,817) Other interest expense 6,513 7,669 17,308 23,342 Subsidiaries' preferred stock dividend requirements 19,568 6,981 47,359 20,943 ---------- -------- ---------- ---------- Net interest charges 152,099 64,393 450,348 197,605 ---------- -------- ---------- ---------- INCOME BEFORE EXTRAORDINARY ITEM 163,091 88,698 346,697 235,359 EXTRAORDINARY ITEM (NET OF INCOME TAXES) (Note 3) - - (30,522) - ---------- -------- ---------- ---------- NET INCOME $ 163,091 $ 88,698 $ 316,175 $ 235,359 ========== ======== ========== ========== WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING 229,482 144,586 225,292 144,466 ========== ======== ========== ========== BASIC AND DILUTED EARNINGS PER SHARE OF COMMON STOCK: Income before extraordinary item $ .71 $ .61 $ 1.54 $ 1.63 Extraordinary item (Net of income taxes) (Note 3) - - (.14) - ----- ----- ------ ------ Net income $ .71 $ .61 $ 1.40 $ 1.63 ===== ===== ====== ====== DIVIDENDS DECLARED PER SHARE OF COMMON STOCK $.375 $.375 $1.125 $1.125 ===== ===== ====== ====== The preceding Notes to Financial Statements as they relate to FirstEnergy Corp. are an integral part of these statements.
- 5 - FIRSTENERGY CORP. CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) ASSETS ------ UTILITY PLANT: In service $14,528,550 $15,008,448 Less--Accumulated provision for depreciation 5,738,191 5,635,900 ----------- ----------- 8,790,359 9,372,548 ----------- ----------- Construction work in progress- Electric plant 254,835 165,837 Nuclear fuel 32,358 34,825 ----------- ----------- 287,193 200,662 ----------- ----------- 9,077,552 9,573,210 ----------- ----------- OTHER PROPERTY AND INVESTMENTS: Capital trust investments 1,331,843 1,370,177 Nuclear plant decommissioning trusts 323,252 301,173 Letter of credit collateralization 277,763 277,763 Other 634,662 357,989 ----------- ----------- 2,567,520 2,307,102 ----------- ----------- CURRENT ASSETS: Cash and cash equivalents 117,671 98,237 Receivables- Customers (less accumulated provisions of $6,273,000 and $5,618,000, respectively, for uncollectible accounts) 266,487 284,162 Other (less accumulated provisions of $49,204,000 and $4,026,000,respectively, for uncollectible accounts) 407,389 219,106 Materials and supplies, at average cost- Owned 125,840 154,961 Under consignment 104,811 82,839 Prepayments and other 152,705 163,686 ----------- ----------- 1,174,903 1,002,991 ----------- ----------- DEFERRED CHARGES: Regulatory assets 2,736,580 2,624,144 Goodwill 2,194,940 2,107,795 Property taxes 270,888 270,585 Other 200,668 194,968 ----------- ----------- 5,403,076 5,197,492 ----------- ----------- $18,223,051 $18,080,795 =========== ===========
- 6 - FIRSTENERGY CORP. CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) CAPITALIZATION AND LIABILITIES ------------------------------ CAPITALIZATION: Common stockholders' equity- Common stock, $.10 par value, authorized 300,000,000 shares - 237,069,087 and 230,207,141 shares outstanding, respectively $ 23,707 $ 23,021 Other paid-in capital 3,843,946 3,636,908 Retained earnings 709,804 646,646 Unallocated employee stock ownership plan common stock - 7,533,164 and 7,829,538 shares, respectively (141,413) (146,977) ---------- ---------- Total common stockholders' equity 4,436,044 4,159,598 Preferred stock of consolidated subsidiaries- Not subject to mandatory redemption 660,195 660,195 Subject to mandatory redemption 193,460 214,864 OE obligated mandatorily redeemable preferred securities of subsidiary trust holding solely OE subordinated debentures 120,000 120,000 Long-term debt 6,606,324 6,969,835 ----------- ----------- 12,016,023 12,124,492 ----------- ----------- CURRENT LIABILITIES: Currently payable long-term debt and preferred stock 602,926 470,436 Short-term borrowings 348,450 302,229 Accounts payable 262,197 312,690 Accrued taxes 460,008 381,937 Accrued interest 148,336 147,694 Other 258,186 193,850 ----------- ----------- 2,080,103 1,808,836 ----------- ----------- DEFERRED CREDITS: Accumulated deferred income taxes 2,265,548 2,304,305 Accumulated deferred investment tax credits 291,044 324,200 Pensions and other postretirement benefits 518,588 492,425 Other 1,051,745 1,026,537 ----------- ----------- 4,126,925 4,147,467 ----------- ----------- COMMITMENTS, GUARANTEES AND CONTINGENCIES (Note 2) ----------- ----------- $18,223,051 $18,080,795 =========== =========== The preceding Notes to Financial Statements as they relate to FirstEnergy Corp. are an integral part of these balance sheets.
- 7 - FIRSTENERGY CORP. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, ------------------- ---------------------- 1998 1997 1998 1997 ---------- -------- ---------- ---------- (In thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 163,091 $ 88,698 $ 316,175 $ 235,359 Adjustments to reconcile net income to net cash from operating activities- Provision for depreciation and amortization 162,478 106,402 496,375 292,975 Nuclear fuel and lease amortization 21,974 12,040 62,606 40,682 Other amortization, net 28,214 10,996 62,637 25,225 Deferred income taxes, net 8,395 (14,796) (6,856) (31,492) Investment tax credits, net (5,841) (4,058) (17,180) (11,222) Extraordinary item - - 51,730 - Receivables (192,236) (3,405) (103,750) 20,559 Materials and supplies 21,275 (135) 11,478 (9,696) Accounts payable (97,985) (9,219) (133,134) (3,907) Accrued liabilities 171,765 25,702 82,871 75,731 Other (15,648) 20,132 (25,212) (28,763) --------- -------- --------- -------- Net cash provided from operating activities 265,482 232,357 797,740 605,451 --------- -------- --------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: New Financing- Common stock - - 203,855 - Long-term debt 10,151 9,694 272,556 80,217 Ohio Schools Council Prepayment Program - - 116,598 - Short-term borrowings, net 145,612 - 37,169 - Redemptions and Repayments- Preferred stock 6,000 5,000 21,379 5,000 Long-term debt 209,963 121,163 559,874 337,706 Short-term borrowings, net - 10,303 - 53,806 Common stock dividend payments 86,040 53,109 253,017 163,069 --------- -------- --------- -------- Net cash used for financing activities 146,240 179,881 204,092 479,364 --------- -------- --------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Property additions 76,614 52,147 447,838 115,724 Cash investments (205) - 111,405 - Other (3,873) 2,374 14,971 7,172 --------- -------- --------- --------- Net cash used for investing activities 72,536 54,521 574,214 122,896 --------- -------- --------- --------- Net increase (decrease) in cash and cash equivalents 46,706 (2,045) 19,434 3,191 Cash and cash equivalents at beginning of period 70,965 10,489 98,237 5,253 --------- -------- --------- -------- Cash and cash equivalents at end of period $ 117,671 $ 8,444 $ 117,671 $ 8,444 ========= ======== ========= ======== The preceding Notes to Financial Statements as they relate to FirstEnergy Corp. are an integral part of these statements.
- 8 - REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To FirstEnergy Corp.: We have reviewed the accompanying consolidated balance sheet of FirstEnergy Corp. (an Ohio corporation) and subsidiaries as of September 30, 1998, and the related consolidated statements of income and cash flows for the three-month and nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet of FirstEnergy Corp. and subsidiaries as of December 31, 1997 (not presented herein), and, in our report dated February 13, 1998, we expressed an unqualified opinion on that statement. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997, is fairly stated, in all material respects, in relation to the balance sheet from which it has been derived. ARTHUR ANDERSEN LLP Cleveland, Ohio November 13, 1998 - 9 - FIRSTENERGY CORP. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The Company, as a producer and trader of electricity, has certain financial risks inherent in its business activities. With respect to its trading operations, the Company uses principally over-the-counter contracts for the purchase and sale of electricity. These contracts expose the Company to commodity price fluctuations. Market risk represents the risk of loss that may impact financial position, results of operations or cash flow due to either changes in the commodity market prices for electricity or the failure of contract counterparties to perform. Various policies and procedures have been established to manage market risk exposure based on measures of historical market volatility. However, electricity is subject to unpredictable price fluctuations due to changing economic and weather conditions and constraints which arise from time to time in availability of supply. Financial results in the third quarter and year-to-date periods of 1998 were adversely affected by a combination of these factors as described below. Results of Operations Basic and diluted earnings per share of common stock decreased to $1.40 for the nine-month period ended September 30, 1998, compared to $1.63 per share for the same period last year. For the third quarter of 1998, net income increased to $.71 per share, compared to $.61 per share for the third quarter of 1997. Financial results reflect several factors including the merger of OE and Centerior, which was effective November 8, 1997. The former Centerior companies, which include CEI and TE, have been included in the third quarter and year-to-date 1998 results. The 1997 third quarter and nine-month results are for OE and Penn only (OE companies). Also, 1998 nine-month results include an extraordinary charge of $30.5 million after taxes, or $.14 per common share, resulting from Penn's discontinued application of SFAS 71 to its generation business (see Note 3). Sharp increases in the spot market price for electricity occasioned by constrained power supply conditions and heavy customer demand in the latter part of June 1998, combined with unscheduled outages at certain FirstEnergy generating units, resulted in spot market purchases of power at prices which substantially exceeded amounts recovered from retail customers. The recovery shortfall reduced year-to-date net income by approximately $50 million or $.22 per common share. Finally, unprecedented market prices for electricity in June 1998 contributed to credit losses totaling $28 million after taxes or $.12 per common share. Four power marketers with which the Company's FirstEnergy Trading and Power Marketing Corp. subsidiary had transactions under contract defaulted as a result of June's price movements. Operating revenues increased $2.043 billion during the nine-month period ending September 30, 1998, compared to the same period of 1997, and increased $764 million in the third quarter of 1998 compared to the third quarter of 1997. Excluding the contribution of the former Centerior companies, operating revenues were 6.7% higher during the quarter and 3.4% higher in the year-to-date period compared to the corresponding periods of 1997. For the OE companies, year-to-date retail kilowatt-hour sales increased 1.7%, with a 4.1% increase in residential sales and a 4.7% increase in commercial sales offset, in part, by a 2.1% decrease in industrial sales. Industrial sales for 1998 were affected by the August 1997 closure of a major customer's electric arc furnace in the Penn service area. Excluding sales to that customer, industrial sales increased 0.1% and retail sales were 2.6% higher. Sales to wholesale customers increased 7.8% compared to the first nine months of 1997. This increase contributed to the 2.7% increase in total kilowatt-hour sales during the period. Retail kilowatt-hour sales in the third quarter of 1998 for the OE companies increased 5.4% with residential and commercial sales being 13.1% and 7.5% higher, respectively. Residential sales benefited from higher air-conditioning loads due to hotter weather and commercial sales benefited from continued growth in the service sector of the area economy during the period. Industrial sales decreased 2.0% during the third quarter of 1998 compared to the same period of 1997; removing the impact of the electric arc furnace closure, industrial sales were relatively flat. A general decline in electricity demand by primary metal manufacturers and the General Motors strike also dampened industrial sales in the third quarter of 1998. Sales to - 10 - FIRSTENERGY CORP. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) wholesale customers increased 7.8% in the third quarter compared to the same period last year, contributing to the increase in total kilowatt-hour sales of 5.8%. All operation and maintenance expense categories increased substantially for the first nine months of 1998, compared to the same period of last year, due principally to the inclusion of the former Centerior companies. Excluding the 1998 costs of the former Centerior companies, operation and maintenance expenses increased $116.6 million for the first nine months of 1998 compared to the first nine months of 1997. Most of the increase for the OE companies resulted from purchased power expenses which were up $82.1 million in the first nine months of 1998 from the same period in 1997. Most of the increase occurred in the second quarter and resulted from a combination of factors. In late June 1998, the midwestern and southern regions of the United States experienced electricity shortages caused mainly by record temperatures and humidity and unscheduled generating unit outages. During that period, the Beaver Valley Plant was out of service and the Davis-Besse Plant was removed from service as a result of damage to transmission facilities caused by a tornado. Also, Avon Lake Unit 9 experienced an unscheduled outage during the period due to lightning-related transformer damage. As a result, the Companies purchased significant amounts of power on the spot market at unusually high prices (as discussed above), causing an increase in purchased power costs. Temperatures continued above last year's levels throughout the third quarter as well and the Beaver Valley Plant remained out of service for most of that period. Nuclear operating costs were higher in the first nine months of 1998 than the same period last year for the OE Companies due to higher costs at the Beaver Valley Plant, which were offset in part by lower costs at the Perry Plant. Reduced emission allowance sales in the year-to-date 1998 period and higher third quarter and year-to-date 1998 costs at the Sammis Plant compared to the corresponding periods of 1997 contributed to the increase in other operation and maintenance expenses. Inclusion of the former Centerior companies also increased other operating expenses. Excluding those companies' 1998 costs, the provision for depreciation and amortization decreased $13.4 million in the third quarter of 1998 from the same period in 1997 due primarily to the net effect of the OE and Penn rate plans. The rate restructuring plan authorized by the PPUC for Penn in the second quarter caused the reduction in depreciation expense in the third quarter due to the reduction of nuclear generating unit investment resulting from the discontinued application of SFAS 71. Penn's rate restructuring plan also resulted in a reclassification of accelerated Perry Plant depreciation in the third quarter to amortization of net regulatory assets, further reducing reported depreciation expense. The reclassification of depreciation resulted in a corresponding increase in the amortization of net regulatory assets in both the first nine months of 1998 and in the third quarter of 1998 compared to the same periods of 1997. Also contributing to the increase in year-to-date 1998 amortization was the absence in 1998 of certain regulatory credits which were fully amortized by the end of the second quarter of 1997. Other income (expense) for the year-to-date period ending September 30, 1998 reflects the $28 million after-tax reserve for credit losses discussed above. Also included in the third quarter of 1998 were after tax losses of $26 million resulting from purchases of energy to replace scheduled third quarter deliveries from a power marketer which defaulted on its power contracts to FirstEnergy Trading and Power Marketing Corp. due to the unprecedented June 1998 price fluctuations. Interest expenses increased due to the inclusion of the former Centerior companies for both the nine-month period ended September 30, 1998 and the third quarter of 1998, from the corresponding periods in 1997. Excluding the impact of the merger, interest on long-term debt for the OE companies decreased due to redemptions of long-term debt totaling $273.8 million since October 1997. Other interest expense increased as a result of increased short-term borrowing levels in 1998. - 11 - FIRSTENERGY CORP. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) from General Public Utilities 87 megawatts of capacity at the Seneca Pumped-Storage Hydroelectric Plant. The added hydroelectric plant capacity will enhance the Company's ability to meet demand during peak periods. Regulatory Matters On September 16, 1998, the Company, together with representatives of the three other Ohio investor-owned utilities, presented proposed legislation for restructuring the electric utility industry in Ohio to a private working group formed by the leadership of the Ohio General Assembly. The working group, which includes numerous interested parties, will consider the utility proposal -- a proposal that represents a balanced approach for bringing choice to Ohio's electric consumers -- as well as other restructuring proposals. Passage of a restructuring bill appears unlikely in 1998. On September 24, 1998, the Federal Environmental Protection Agency issued a final rule establishing tighter nitrogen oxide emission ceilings for Ohio, Pennsylvania and 20 other Eastern states and the District of Columbia (see "Environmental Matters" in Note 2). Controls must be in place by May 2003, with required reductions achieved during the five-month summer ozone season (May through September). The new rule is expected to increase the cost of producing electricity; however, the Company believes that it is in a better position than a number of other utilities in achieving compliance due to its nuclear and hydroelectric generation capability. In connection with the regulatory plans for its utility operating companies to reduce fixed costs and lower rates, the Company continued to take steps to restructure its operations for improved efficiency and effectiveness in the changing electric utility industry. The Company announced plans to transfer its transmission assets into a new subsidiary, American Transmission Systems, Inc. (ATS), with the transfer expected to be finalized by early 1999. The new subsidiary represents a first step toward the Company's goal of establishing or becoming part of a larger independent transmission company (TransCo). FirstEnergy believes that a TransCo better addresses the Federal Energy Regulatory Commission's (FERC) stated transmission objectives of providing non-discriminatory service, while providing for streamlined and cost-efficient operation. In working toward the goal of forming a larger regional transmission entity, the Company, American Electric Power and Virginia Power announced on November 6, 1998, that they would prepare a FERC filing during the first quarter of 1999 for such a regional transmission entity. The entity would be designed to meet the goals of reducing transmission costs that result when transferring power over several transmission systems, ensuring transmission reliability and providing non- discriminatory access to the transmission grid. Impact of the Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to identify the applicable year. Any of the Company's programs that have date- sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. The Company has developed a multi-phase program for Year 2000 compliance that consists of: (i) assessment of the corporate systems and operations of the Company that could be affected by the Year 2000 problem; (ii) remediation or replacement of noncompliant systems and components; and (iii) testing of systems and components following such remediation or replacement. The Company has focused its Year 2000 review on three areas: centralized system applications, noncentralized systems and relationships with third parties (including suppliers as well as end-use customers). The Company currently believes that with modifications to existing software and conversions to new software, the Year 2000 issue will pose no significant operational problems for its computer systems. Most of the Company's Year 2000 problems will be resolved through system replacement. Of the Company's major - 13 - FIRSTENERGY CORP. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) centralized systems, the general ledger system and inventory management and procurement accounts payable system will be replaced by the end of 1998. The Company's payroll system was enhanced to be Year 2000 compliant in July 1998; all employees will be converted to the new system by January 1999. The customer service system is due to be replaced in mid-1999. The Company has categorized its noncentralized systems into sixteen separate areas, and has already determined that five of such areas pose no material Year 2000 problem. The Company has identified certain Year 2000 issues in nine areas and is in the process of remediating them. The Company has plans to complete the assessment of the final two areas by the end of 1998. The Company plans to complete the entire Year 2000 project by September 1999. If the already identified modifications and conversions are not made or are not completed on a timely basis, or if the Company identifies material additional modifications which are not completed on a timely basis, the Year 2000 issue would have a material adverse impact on operations. The Company has initiated formal communications with many of its major suppliers to determine the extent to which it is vulnerable to those third parties' failure to resolve their own Year 2000 problems and is still in the assessment phase as to whether and to what extent such third parties have a Year 2000 issue. There can be no guarantee that the failure of other companies to resolve their own Year 2000 issue will not have a material adverse effect on the Company's business, financial condition and results of operations. The Company is utilizing both internal and external resources to reprogram and/or replace and test the Company's software for Year 2000 modifications. Of the $111 million total project cost, approximately $90 million will be capitalized since those costs are attributable to the purchase of new software for total system replacements (i.e., the Year 2000 solution comprises only a portion of the benefits resulting from the system replacements). The remaining $21 million will be expensed as incurred. As of September 30, 1998, the Company had expended a total of $43 million for Year 2000 capital projects and had expensed approximately $6 million for Year 2000 related maintenance activities. The Company's total Year 2000 project cost, as well as its estimates of the time needed to complete remedial efforts, are based on currently available information and do not include the estimated costs and time associated with the impact of third party Year 2000 issues. The Company believes the most reasonably likely worst case scenario from the Year 2000 issue to be disruption in power plant monitoring systems, thereby producing inaccurate data and potential failures in electronic switching mechanisms at transmission junctions. This would prolong localized outages, as technicians would have to manually activate switches. Such an event could have a material, but presently undeterminable, effect on the Company's financial results. The Company has not yet developed a contingency plan to address the effects of any delay in becoming Year 2000 compliant but currently expects to have a contingency plan by the spring of 1999. The costs of the project and the dates on which the Company plans to complete the Year 2000 modifications are based on management's best estimates, which were derived from numerous assumptions of future events including the continued availability of certain resources, and other factors. However, there can be no guarantee that this project will be completed as planned and actual results could differ materially from the estimates. Specific factors that might cause material differences include, but are not limited to, the availability and cost of trained personnel, the ability to locate and correct all relevant computer code, and similar uncertainties. - 14 - OHIO EDISON COMPANY CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, ------------------- ---------------------- 1998 1997 1998 1997 ---------- -------- ---------- ---------- (In thousands) OPERATING REVENUES $696,226 $652,660 $1,912,689 $1,850,684 -------- -------- ---------- ---------- OPERATING EXPENSES AND TAXES: Fuel and purchased power 146,194 111,724 413,242 321,514 Nuclear operating costs 69,336 66,990 210,324 202,833 Other operating costs 114,156 101,937 314,341 297,006 -------- -------- ---------- ---------- Total operation and maintenance expenses 329,686 280,651 937,907 821,353 Provision for depreciation 93,005 106,402 289,524 292,975 Amortization of net regulatory assets 17,849 11,288 40,424 26,129 General taxes 59,714 58,986 178,208 175,959 Income taxes 55,288 54,277 121,161 140,909 -------- -------- ---------- ---------- Total operating expenses and taxes 555,542 511,604 1,567,224 1,457,325 -------- -------- ---------- ---------- OPERATING INCOME 140,684 141,056 345,465 393,359 OTHER INCOME 12,589 12,035 36,857 39,605 -------- -------- ---------- ---------- INCOME BEFORE NET INTEREST CHARGES 153,273 153,091 382,322 432,964 -------- -------- ---------- ---------- NET INTEREST CHARGES: Interest on long-term debt 47,258 50,799 140,255 155,137 Allowance for borrowed funds used during construction and capitalized interest (363) (1,056) (1,492) (1,817) Other interest expense 7,811 7,669 26,696 23,342 Subsidiaries' preferred stock dividend requirements 3,857 3,857 11,570 11,570 -------- -------- ---------- ---------- Net interest charges 58,563 61,269 177,029 188,232 -------- -------- ---------- ---------- INCOME BEFORE EXTRAORDINARY ITEM 94,710 91,822 205,293 244,732 EXTRAORDINARY ITEM (NET OF INCOME TAXES) (Note 3) - - (30,522) - -------- -------- ---------- ---------- NET INCOME 94,710 91,822 174,771 244,732 PREFERRED STOCK DIVIDEND REQUIREMENTS 3,020 3,124 9,057 9,373 -------- -------- ---------- ---------- EARNINGS ON COMMON STOCK $ 91,690 $ 88,698 $ 165,714 $ 235,359 ======== ======== ========== ========== The preceding Notes to Financial Statements as they relate to Ohio Edison Company are an integral part of these statements.
- 15 - OHIO EDISON COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------- (In thousands) ASSETS ------ UTILITY PLANT: In service, at original cost $8,159,009 $8,666,272 Less--Accumulated provision for depreciation 3,542,085 3,546,594 ---------- ---------- 4,616,924 5,119,678 ---------- ---------- Construction work in progress- Electric plant 125,512 99,158 Nuclear fuel 14,129 21,360 ---------- ---------- 139,641 120,518 ---------- ---------- 4,756,565 5,240,196 ---------- ---------- OTHER PROPERTY AND INVESTMENTS: PNBV Capital Trust 477,986 482,220 Nuclear plant decommissioning trusts 114,496 109,883 Letter of credit collateralization 277,763 277,763 Other 314,740 419,525 ---------- ---------- 1,184,985 1,289,391 ---------- ---------- CURRENT ASSETS: Cash and cash equivalents 43,338 4,680 Receivables- Customers (less accumulated provisions of $6,273,000 and $5,618,000, respectively, for uncollectible accounts) 240,035 235,332 Associated companies 407,922 25,348 Other 54,347 87,566 Materials and supplies, at average cost- Owned 67,245 75,580 Under consignment 45,133 47,890 Prepayments and other 74,995 78,348 ---------- ---------- 933,015 554,744 ---------- ---------- DEFERRED CHARGES: Regulatory assets 1,753,528 1,601,709 Property taxes 101,119 100,043 Unamortized sale and leaseback costs 91,348 95,096 Other 55,646 96,276 ---------- ---------- 2,001,641 1,893,124 ---------- ---------- $8,876,206 $8,977,455 ========== ==========
- 16 - OHIO EDISON COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) CAPITALIZATION AND LIABILITIES ------------------------------ CAPITALIZATION: Common stockholder's equity- Common stock, $9 par value, authorized 175,000,000 shares - 100 shares outstanding $ 1 $ 1 Other paid-in capital 2,098,114 2,102,644 Retained earnings 533,398 621,674 ---------- ---------- Total common stockholder's equity 2,631,513 2,724,319 Preferred stock- Not subject to mandatory redemption 160,965 160,965 Subject to mandatory redemption 10,000 15,000 Preferred stock of consolidated subsidiary- Not subject to mandatory redemption 50,905 50,905 Subject to mandatory redemption 15,000 15,000 OE obligated mandatorily redeemable preferred securities of subsidiary trust holding solely OE subordinated debentures 120,000 120,000 Long-term debt 2,405,875 2,569,802 ---------- ---------- 5,394,258 5,655,991 ---------- ---------- CURRENT LIABILITIES: Currently payable long-term debt and preferred stock 276,337 278,492 Short-term borrowings- Associated companies 45,385 - Other 260,800 302,229 Accounts payable- Associated companies 212,470 1,751 Other 84,139 114,085 Accrued taxes 206,478 157,095 Accrued interest 46,573 53,165 Other 158,088 115,256 ---------- ---------- 1,290,270 1,022,073 ---------- ---------- DEFERRED CREDITS: Accumulated deferred income taxes 1,602,443 1,698,354 Accumulated deferred investment tax credits 157,483 184,804 Postretirement benefits 173,136 158,038 Other 258,616 258,195 ---------- ---------- 2,191,678 2,299,391 ---------- ---------- COMMITMENTS, GUARANTEES AND CONTINGENCIES (Note 2) ---------- ---------- $8,876,206 $8,977,455 ========== ========== The preceding Notes to Financial Statements as they relate to Ohio Edison Company are an integral part of these balance sheets.
- 17 - OHIO EDISON COMPANY CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, --------------------- --------------------- 1998 1997 1998 1997 --------- ---------- ---------- --------- (In thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 94,710 $ 91,822 $ 174,771 $244,732 Adjustments to reconcile net income to net cash from operating activities- Provision for depreciation 93,005 106,402 289,524 292,975 Nuclear fuel and lease amortization 8,244 12,040 21,590 40,682 Other amortization, net 17,954 10,996 39,992 25,225 Deferred income taxes, net (14,837) (14,796) (66,363) (31,492) Investment tax credits, net (3,897) (4,058) (11,345) (11,222) Extraordinary item - - 51,730 - Receivables (166,506) (3,405) (208,382) 20,559 Materials and supplies 6,512 (135) 11,092 (9,696) Accounts payable 76,043 (9,219) 185,633 (3,907) Other 60,844 46,527 106,967 47,565 --------- -------- ---------- -------- Net cash provided from operating activities 172,072 236,174 595,209 615,421 --------- -------- ---------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: New Financing- Long-term debt 10,039 9,694 117,499 80,217 Short-term borrowings, net - - 3,956 - Redemptions and Repayments- Preferred stock 5,000 5,000 5,000 5,000 Long-term debt 4,522 121,163 286,157 337,706 Short-term borrowings, net 79,581 10,303 - 53,806 Dividend Payments- Common stock 44,597 53,109 254,379 163,069 Preferred stock 3,093 3,817 8,952 9,970 --------- -------- ---------- -------- Net cash used for financing activities 126,754 183,698 433,033 489,334 --------- -------- ---------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Property additions 36,793 52,147 125,163 115,724 Other (1,767) 2,374 (1,645) 7,172 --------- -------- --------- -------- Net cash used for investing activities 35,026 54,521 123,518 122,896 --------- -------- --------- -------- Net increase (decrease) in cash and cash equivalents 10,292 (2,045) 38,658 3,191 Cash and cash equivalents at beginning of period 33,046 10,489 4,680 5,253 --------- -------- --------- -------- Cash and cash equivalents at end of period $ 43,338 $ 8,444 $ 43,338 $ 8,444 ========= ======== ========= ======== The preceding Notes to Financial Statements as they relate to Ohio Edison Company are an integral part of these statements.
- 18 - REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Ohio Edison Company: We have reviewed the accompanying consolidated balance sheet of Ohio Edison Company (an Ohio corporation and wholly owned subsidiary of FirstEnergy Corp.) and subsidiaries as of September 30, 1998, and the related consolidated statements of income and cash flows for the three-month and nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet of Ohio Edison Company and subsidiaries as of December 31, 1997 (not presented herein), and, in our report dated February 13, 1998, we expressed an unqualified opinion on that statement. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997, is fairly stated, in all material respects, in relation to the balance sheet from which it has been derived. ARTHUR ANDERSEN LLP Cleveland, Ohio November 13, 1998 - 19 - OHIO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Results of Operations Earnings were adversely affected in the nine-month period ended September 30, 1998, compared to the same period of 1997 by an extraordinary item resulting from deregulation of Penn's generation business and the corresponding discontinuation of SFAS 71 with respect to that business. This action was taken following the June 18, 1998, authorization by the PPUC of a restructuring plan for Penn (see below and Note 3). Excluding the extraordinary item, earnings on common stock were $196.2 million in the first nine months of 1998 compared to $235.4 million in the same period last year; for the third quarter of 1998, earnings on common stock were $91.7 million compared to $88.7 million in the third quarter of 1997. Earnings were also adversely affected in the nine-month period by increased purchased power costs in 1998 occasioned by unprecedented market prices for electricity and unscheduled generating unit outages. This increase in purchased power costs more than offset an increase in operating revenues. Operating revenues increased $62.0 million during the first nine months of 1998, compared to the same period of 1997, and increased $43.6 million in the third quarter of 1998 compared to the third quarter of 1997. Year-to-date retail kilowatt-hour sales increased 1.7%, with a 4.1% increase in residential sales and a 4.7% increase in commercial sales offset, in part, by a 2.1% decrease in industrial sales. Industrial sales for 1998 were affected by the August 1997 closure of a major customer's electric arc furnace in the Penn service area. Excluding sales to that customer, industrial sales increased 0.1% and retail sales were 2.6% higher. Sales to wholesale customers increased 7.8% compared to the first nine months of 1997. This increase contributed to the 2.7% increase in total kilowatt-hour sales during the period. Retail kilowatt-hour sales in the third quarter of 1998 increased 5.4% with residential and commercial sales being 13.1% and 7.5% higher, respectively. Residential sales benefited from higher air-conditioning loads due to hotter weather and commercial sales benefited from continued growth in the service sector of the area economy during the period. Industrial sales decreased 2.0% during the third quarter of 1998 compared to the same period of 1997; removing the impact of the electric arc furnace closure, industrial sales were relatively flat. A general decline in energy use by primary metal manufacturers and the General Motors strike also dampened industrial sales in the third quarter of 1998. Sales to wholesale customers increased 7.8% in the third quarter compared to the same period last year, contributing to the increase in total kilowatt-hour sales of 5.8%. Operation and maintenance expenses increased $116.6 million for the first nine months of 1998 compared to the first nine months of 1997. Most of the increase resulted from purchased power expenses which were up $82.1 million in the first nine months of 1998 from the same period in 1997. Most of the increase occurred in the second quarter and resulted from a combination of factors. In late June 1998, the midwestern and southern regions of the United States experienced electricity shortages caused mainly by record temperatures and humidity and unscheduled generating unit outages. Due in part to unscheduled outages at the Beaver Valley Plant, the OE companies' production capabilities were reduced to the point that they purchased significant amounts of power during this period. Temperatures continued above last year's levels in the third quarter of 1998 as well and the Beaver Valley Plant remained out of service for most of that period. As a result, OE purchased significant amounts of power at unusually high spot market prices, causing the increase in purchased power costs. Nuclear operating costs were higher in the first nine months of 1998 than the same period last year due to higher costs at the Beaver Valley Plant which were offset in part by lower costs at the Perry Plant. Reduced emission allowance sales in the year-to-date 1998 period and higher third quarter and year-to- - 20 - OHIO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) date 1998 costs at the Sammis Plant compared to the corresponding periods of 1997 contributed to the increase in other operation and maintenance expenses. The provision for depreciation and amortization decreased $13.4 million in the third quarter of 1998 from the same period in 1997 due primarily to the net effect of the OE and Penn rate plans. The rate restructuring plan authorized by the PPUC for Penn in the second quarter caused the reduction in depreciation expense in the third quarter due to the reduction of nuclear generating unit investment resulting from the discontinued application of SFAS 71. Penn's rate restructuring plan also resulted in a reclassification of accelerated Perry Plant depreciation in the third quarter to amortization of net regulatory assets, further reducing reported depreciation expense. The reclassification of depreciation resulted in a corresponding increase in the amortization of net regulatory assets in both the first nine months of 1998 and in the third quarter of 1998 compared to the same periods of 1997. Also contributing to the increase in year-to-date 1998 amortization was the absence in 1998 of certain regulatory credits which were fully amortized by the end of the second quarter 1997. Interest on long-term debt decreased due to redemptions of long-term debt totaling $273.8 million since October 1997. Other interest expense increased as a result of increased short- term borrowing levels in 1998. Capital Resources and Liquidity The OE companies have continuing cash requirements for planned capital expenditures and debt maturities. During the fourth quarter of 1998, capital requirements for property additions and capital leases are expected to be about $57 million, including $13 million for nuclear fuel. The OE companies have additional cash requirements of approximately $2.7 million to meet sinking fund requirements for maturing long-term debt during the remainder of 1998. These cash requirements are expected to be satisfied with internal cash and/or short-term credit arrangements. As of September 30, 1998, the OE companies had about $43.3 million of cash and temporary investments and $306.2 million of short-term indebtedness. In addition, the OE companies' unused borrowing capability included $100 million under revolving lines of credit and $22 million of bank facilities that provide for borrowings on a short-term basis at the banks' discretion. FirstEnergy signed an agreement in principle with Duquesne Light Company that would result in the transfer of 1,436 megawatts owned by Duquesne at five generating plants in exchange for 1,298 megawatts at three plants owned by FirstEnergy's electric utility operating companies (see "Pending Exchange of Assets" in Note 2), including the OE companies. A final agreement on the exchange of assets, which will be structured as a tax-free transaction to the extent possible, is expected to be reached by the end of the year. The transaction benefits the Companies by providing them with exclusive ownership and operating control of all the generating assets that are now jointly owned and operated under the Central Area Power Coordination Group agreement. Regulatory Matters On September 16, 1998, FirstEnergy, together with representatives of the three other Ohio investor-owned utilities, presented proposed legislation for restructuring the electric utility industry in Ohio to a private working group formed by the leadership of the Ohio General Assembly. The working group, which includes numerous interested parties, will consider the utility proposal -- a proposal that represents a balanced approach for bringing choice to Ohio's electric consumers -- as well as other restructuring proposals. Passage of a restructuring bill appears unlikely in 1998. - 21 - OHIO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) On September 24, 1998, the Federal Environmental Protection Agency issued a final rule establishing tighter nitrogen oxide emission ceilings for Ohio, Pennsylvania and 20 other Eastern states and the District of Columbia (see "Environmental Matters" in Note 2). Controls must be in place by May 2003, with required reductions achieved during the five-month summer ozone season (May through September). The new rule is expected to increase the cost of producing electricity; however, the OE companies believe that they are in a better position than a number of other utilities in achieving compliance due to their nuclear generation capability. In connection with the regulatory plans for its utility operating companies to reduce fixed costs and lower rates, FirstEnergy continued to take steps to restructure its operations for improved efficiency and effectiveness in the changing electric utility industry. FirstEnergy announced plans to transfer its transmission assets (including the OE companies' assets) into a new subsidiary, American Transmission Systems, Inc. (ATS), with the transfer expected to be finalized by early 1999. The new subsidiary represents a first step toward FirstEnergy's goal of establishing or becoming part of a larger independent transmission company (TransCo). FirstEnergy believes that a TransCo better addresses the Federal Energy Regulatory Commission's (FERC) stated transmission objectives of providing non-discriminatory service, while providing for streamlined and cost-efficient operation. In working toward the goal of forming a larger regional transmission entity, FirstEnergy, American Electric Power and Virginia Power announced on November 6, 1998, that they would prepare a FERC filing during the first quarter of 1999 for such a regional transmission entity. The entity would be designed to meet the goals of reducing transmission costs that result when transferring power over several transmission systems, ensuring transmission reliability and providing non- discriminatory access to the transmission grid. Impact of the Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to identify the applicable year. Any of the OE companies' programs that have date-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. The OE companies have developed a multi-phase program for Year 2000 compliance that consists of: (i) assessment of the corporate systems and operations of the OE companies that could be affected by the Year 2000 problem; (ii) remediation or replacement of non-compliant systems and components; and (iii) testing of systems and components following such remediation or replacement. The OE companies have focused their Year 2000 review on three areas: centralized system applications, non-centralized systems and relationships with third parties (including suppliers as well as end-use customers). The OE companies currently believe that with modifications to existing software and conversions to new software, the Year 2000 issue will pose no significant operational problems for their computer systems. Most of the OE companies' Year 2000 problems will be resolved through system replacement. Of the OE companies' major centralized systems, the general ledger system and inventory management and procurement accounts payable system will be replaced by the end of 1998. The OE companies' payroll system was enhanced to be Year 2000 compliant in July 1998. The customer service system is due to be replaced in mid-1999. The OE companies have categorized their non-centralized systems into sixteen separate areas, and have already determined that five of such areas pose no material Year 2000 problem. The OE companies have identified certain Year 2000 issues in nine of such areas and are in the process of remediating them. The OE companies have plans to complete the assessment of the final two areas by the end of 1998. The OE companies plan to complete the entire Year 2000 project by September 1999. If the already identified modifications and conversions are not made or are not completed on a timely basis, or if the OE companies identify - 22 - OHIO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) material additional modifications which are not completed on a timely basis, the Year 2000 issue would have a material adverse impact on operations. The OE companies have initiated formal communications with many of their major suppliers to determine the extent to which they are vulnerable to those third parties' failure to resolve their own Year 2000 problems and are still in the assessment phase as to whether and to what extent such third parties have a Year 2000 issue. There can be no guarantee that the failure of other companies to resolve their own Year 2000 issue will not have a material adverse effect on the OE companies' business, financial condition and results of operations. The OE companies are utilizing both internal and external resources to reprogram and/or replace and test the OE companies' software for Year 2000 modifications. Of the $53 million total project cost, approximately $43 million will be capitalized since those costs are attributable to the purchase of new software for total system replacements (i.e., the Year 2000 solution comprises only a portion of the benefits resulting from the system replacements). The remaining $10 million will be expensed as incurred. As of September 30, 1998, the OE companies have expended a total of $20 million for Year 2000 capital projects and have expensed approximately $3 million for Year 2000 related maintenance activities. The OE companies' total Year 2000 project cost, as well as their estimates of time needed to complete remedial efforts, are based on currently available information and do not include the estimated costs and time associated with the impact of third party Year 2000 issues. The OE companies believe the most reasonably likely worst case scenario from the Year 2000 issue to be disruption in power plant monitoring systems, thereby producing inaccurate data and potential failures in electronic switching mechanisms at transmission junctions. This would prolong localized outages, as technicians would have to manually activate switches. Such an event could have a material, but presently undeterminable, effect on the OE companies' financial results. The OE companies have not yet developed a contingency plan to address the effects of any delay in becoming Year 2000 compliant but currently expect to have a contingency plan by the spring of 1999. The costs of the project and the dates on which the OE companies plan to complete the Year 2000 modifications are based on management's best estimates, which were derived from numerous assumptions of future events including the continued availability of certain resources, and other factors. However, there can be no guarantee that this project will be completed as planned and actual results could differ materially from the estimates. Specific factors that might cause material differences include, but are not limited to, the availability and cost of trained personnel, the ability to locate and correct all relevant computer code, and similar uncertainties. - 23 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
September 30, 1998 September 30, 1997 ----------------------- --------------------- Three Nine Three Nine Months Months Months Months Ended Ended Ended Ended ---------- ----------- --------- ---------- (In thousands) OPERATING REVENUES $512,616 $1,392,868 | $499,468 $1,359,341 -------- ---------- | -------- ---------- OPERATING EXPENSES AND TAXES: | Fuel and purchased power 127,342 358,704 | 111,095 329,347 Nuclear operating costs 19,836 55,335 | 23,617 65,029 Other operating costs 82,272 249,774 | 77,407 251,002 -------- ---------- | -------- ---------- Total operation and maintenance expenses 229,450 663,813 | 212,119 645,378 Provision for depreciation and amortization 50,002 148,557 | 55,611 166,134 Amortization of net regulatory assets 6,567 19,701 | 6,567 19,701 General taxes 55,356 163,730 | 56,864 170,824 Income taxes 48,077 95,752 | 36,836 68,390 -------- ---------- | -------- ---------- Total operating expenses and taxes 389,452 1,091,553 | 367,997 1,070,427 -------- ---------- | -------- ---------- OPERATING INCOME 123,164 301,315 | 131,471 288,914 | OTHER INCOME (EXPENSE) 8,166 21,616 | 7,544 (1,341) -------- ---------- | -------- ---------- INCOME BEFORE NET INTEREST CHARGES 131,330 322,931 | 139,015 287,573 -------- ---------- | -------- ---------- NET INTEREST CHARGES: | Interest on long-term debt 57,072 177,883 | 66,901 174,451 Allowance for borrowed funds used during | construction (664) (1,620)| (729) (1,440) Other interest expense (credit) (95) (2,821)| 5,101 12,620 -------- ---------- | -------- ---------- Net interest charges 56,313 173,442 | 71,273 185,631 -------- ---------- | -------- ---------- NET INCOME 75,017 149,489 | 67,742 101,942 | PREFERRED STOCK DIVIDEND REQUIREMENTS 8,547 17,053 | 8,876 27,287 -------- ---------- | -------- ---------- EARNINGS ON COMMON STOCK $ 66,470 $ 132,436 | $ 58,866 $ 74,655 ======== ========== | ======== ========== The preceding Notes to Financial Statements as they relate to The Cleveland Electric Illuminating Company are an integral part of these statements.
- 24 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) ASSETS ------ UTILITY PLANT: In service $4,626,360 $4,578,649 Less--Accumulated provision for depreciation 1,589,311 1,470,084 ---------- ---------- 3,037,049 3,108,565 ---------- ---------- Construction work in progress- Electric plant 45,947 41,261 Nuclear fuel 10,115 6,833 ---------- ---------- 56,062 48,094 ---------- ---------- 3,093,111 3,156,659 ---------- ---------- OTHER PROPERTY AND INVESTMENTS: Shippingport Capital Trust 543,161 575,084 Nuclear plant decommissioning trusts 114,265 105,334 Other. 18,223 21,482 ---------- ---------- 675,649 701,900 ---------- ---------- CURRENT ASSETS: Cash and cash equivalents 27,776 33,775 Receivables- Customers 17,427 29,759 Associated companies 9,945 8,695 Other 241,175 98,077 Notes receivable from associated companies 26,628 - Materials and supplies, at average cost- Owned 29,483 47,489 Under consignment 40,455 25,411 Prepayments and other 52,068 57,763 ---------- ---------- 444,957 300,969 ---------- ---------- DEFERRED CHARGES: Regulatory assets 559,453 579,711 Goodwill 1,511,635 1,552,483 Property taxes 126,414 125,204 Other 15,627 23,358 ---------- ---------- 2,213,129 2,280,756 ---------- ---------- $6,426,846 $6,440,284 ========== ==========
- 25 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) CAPITALIZATION AND LIABILITIES ------------------------------ CAPITALIZATION: Common stockholder's equity- Common stock, without par value, authorized 105,000,000 shares - 79,590,689 shares outstanding $ 931,312 $ 931,614 Retained earnings 101,251 19,290 ---------- ---------- Total common stockholder's equity 1,032,563 950,904 Preferred stock- Not subject to mandatory redemption 238,325 238,325 Subject to mandatory redemption 168,460 183,174 Long-term debt 2,956,689 3,189,590 ---------- ---------- 4,396,037 4,561,993 ---------- ---------- CURRENT LIABILITIES: Currently payable long-term debt and preferred stock 181,476 121,965 Accounts payable- Associated companies 51,831 56,109 Other 58,332 90,737 Notes payable to associated companies 60,838 56,802 Accrued taxes 238,418 194,394 Accrued interest 70,078 67,896 Other 43,068 52,297 ---------- ---------- 704,041 640,200 ---------- ---------- DEFERRED CREDITS: Accumulated deferred income taxes 533,755 496,437 Accumulated deferred investment tax credits 92,242 96,131 Pensions and other postretirement benefits 204,152 198,642 Other 496,619 446,881 ---------- ---------- 1,326,768 1,238,091 ---------- ---------- COMMITMENTS, GUARANTEES AND CONTINGENCIES (Note 2) ---------- ---------- $6,426,846 $6,440,284 ========== ========== The preceding Notes to Financial Statements as they relate to The Cleveland Electric Illuminating Company are an integral part of these balance sheets.
- 26 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
September 30, 1998 September 30, 1997 ---------------------- --------------------- Three Nine Three Nine Months Months Months Months Ended Ended Ended Ended ---------- ---------- ---------- --------- (In thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 75,017 $ 149,489 | $ 67,742 $101,942 Adjustments to reconcile net income to net | cash from operating activities- | Provision for depreciation and amortization 50,002 148,557 | 55,611 166,134 Nuclear fuel and lease amortization 8,154 24,510 | 12,924 38,110 Other amortization 5,974 9,691 | 6,567 19,701 Deferred income taxes, net 4,229 35,020 | 12,057 34,254 Investment tax credits, net (1,296) (3,889)| (2,001) (6,003) Allowance for equity funds used during | construction - - | (465) (1,190) Receivables (44,448) (132,016)| (8,096) 6,869 Materials and supplies 13,684 2,962 | 2,465 (1,675) Accounts payable (69,068) (36,683)| (15,214) (26,535) Accrued taxes 76,357 44,024 | 8,379 (14,060) Other 4,771 (31,535)| 42,415 27,285 --------- ---------- | -------- -------- Net cash provided from operating activities 123,376 210,130 | 182,384 344,832 --------- ---------- | -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: | New Financing- | Equity contributions from parent - - | 4,500 4,500 Long-term debt - 5,822 | 168,118 743,065 Short-term borrowings, net 30,528 4,036 | - - Ohio Schools Council Prepayment Program - 116,598 | - - Redemptions and Repayments- | Preferred stock 1,000 14,714 | 1,000 29,714 Long-term debt 172,192 198,773 | 192,475 218,636 Short-term borrowings, net - - | 37,651 8,618 Dividend Payments- | Common stock 28,653 54,122 | 29,606 88,816 Preferred stock 8,559 26,300 | 8,889 27,631 --------- --------- | -------- -------- Net cash provided from (used for) financing | activities (179,876) (167,453)| (97,003) 374,150 --------- --------- | -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: | Property additions 16,327 43,741 | 31,733 86,705 Loans to associated companies - 26,628 | - - Loan payments from associated companies (110,272) - | - - Capital trust investments 35 (31,923)| (10,576) 558,813 Other 24,183 10,230 | (673) 16,714 --------- --------- | --------- --------- Net cash used for (provided from) | investing activities (69,727) 48,676 | 20,484 662,232 --------- --------- | --------- --------- Net increase (decrease) in cash and cash equivalents 13,227 (5,999)| 64,897 56,750 Cash and cash equivalents at beginning of period 14,549 33,775 | 22,126 30,273 --------- --------- | --------- --------- Cash and cash equivalents at end of period $ 27,776 $ 27,776 | $ 87,023 $ 87,023 ========= ========= | ========= ========= The preceding Notes to Financial Statements as they relate to The Cleveland Electric Illuminating Company are an integral part of these statements.
- 27 - REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To The Cleveland Electric Illuminating Company: We have reviewed the accompanying consolidated balance sheet of The Cleveland Electric Illuminating Company (an Ohio corporation and wholly owned subsidiary of FirstEnergy Corp.) and subsidiary as of September 30, 1998, and the related consolidated statements of income and cash flows for the three-month and nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet of The Cleveland Electric Illuminating Company and subsidiary as of December 31, 1997 (not presented herein), and, in our report dated February 13, 1998, we expressed an unqualified opinion on that statement. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997, is fairly stated, in all material respects, in relation to the balance sheet from which it has been derived. ARTHUR ANDERSEN LLP Cleveland, Ohio November 13, 1998 - 28 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Results of Operations Financial results reflect the application of purchase accounting to the merger of CEI's former parent company, Centerior, with OE to form FirstEnergy on November 8, 1997. The application of this accounting resulted in fair value adjustments which were "pushed down" or reflected on the separate financial statements of Centerior's direct subsidiaries as of the merger date, including CEI's financial statements. Accordingly, the post-merger financial statements for the first nine months and third quarter of 1998 and the December 31, 1997 Consolidated Balance Sheet reflect a new basis of accounting. Material effects of this new basis of accounting are identified below. Earnings on common stock increased to $132.4 million for the nine-month period ended September 30, 1998, from $74.7 million in the same period last year. For the third quarter of 1998, earnings increased to $66.5 million, compared to $58.9 million in the third quarter of 1997. The increases reflect increased operating revenues, benefits provided by the Bruce Mansfield Plant lease refinancing and net reductions in the provision for depreciation and amortization resulting from the fair value adjustment of nuclear plant in connection with the merger. The above factors were offset in part by an increase in purchased power costs. Operating revenues increased $33.5 million during the nine-month period ended September 30, 1998, compared to the same period of 1997 and increased $13.1 million in the third quarter of 1998 from the corresponding 1997 period. Operating revenues in the year-to-date 1998 period included $9.2 million received as a termination charge for a canceled power supply contract. Year-to- date retail kilowatt-hour sales increased 1.9% from the same period of 1997, with residential, commercial and industrial customers all contributing to the increase with increases of 2.4%, 1.9% and 1.6%, respectively. Sales to wholesale customers decreased 50.6% compared to the first nine months of 1997 due in part to unplanned generating unit outages which reduced available energy for sale to other utilities. This resulted in a 4.9% decrease in total kilowatt-hour sales during the nine-month period compared to 1997. Retail kilowatt-hour sales in the third quarter of 1998 increased 4.5% from the third quarter of 1997. Residential sales benefited from higher air-conditioning loads due to hotter weather in 1998, increasing 15.0%. The large increase in residential sales was offset in part by a 1.0% decline in commercial sales reflecting a softening in the service sector. However, sales to industrial customers increased 3.0%. Sales to wholesale customers decreased 48.1% in the third quarter of 1998 compared to the same period in 1997. Overall, reduced off-system sales more than offset the increase in retail sales leading to a decline in total kilowatt-hour sales of 3.0% for the third quarter of 1998 compared to the third quarter of 1997. Fuel and purchased power expenses increased in both the first nine months of 1998 and the third quarter of 1998 compared to the same periods of 1997. The increases resulted from higher purchased power costs, which were due to a combination of factors. In late June 1998, the midwestern and southern regions of the United States experienced electricity shortages caused mainly by record temperatures and humidity and unscheduled generating unit outages. During this period, Beaver Valley Unit 2 was out of service and the Davis-Besse Plant was removed from service as a result of damage to transmission facilities caused by a tornado. Also, Avon Lake Unit 9 experienced an unscheduled outage during the period due to lightning-related transformer damage. Temperatures continued above last year's levels throughout the third quarter of 1998 as well and Beaver Valley Unit 2 remained out of service for most of that period. As a result, CEI purchased significant amounts of power on the spot market at unusually high prices, causing the increase in purchased power costs. On a net basis, nuclear operating costs were lower for the year-to-date and third quarter periods of 1998 compared to 1997, offsetting part of the increase in fuel and purchased power expense discussed above. - 29 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) Lower depreciable asset balances resulting from the purchase accounting adjustment reduced the provision for depreciation in the first nine months of 1998 compared to the same period last year and for the third quarter of 1998 compared to the third quarter of 1997. These reductions were partially offset by the amortization of goodwill recognized with the application of purchase accounting. Interest income from investments related to the refinancing of the Mansfield Plant lease increased other income in the first nine months of 1998 compared to the same period of 1997. Interest expense decreased $15 million in the third quarter of 1998 compared to the same period of 1997 due to refinancings and redemptions completed in the last twelve months and the amortization of premiums associated with the revaluation of long- term debt in connection with the merger. Capital Resources and Liquidity CEI has continuing cash requirements for planned capital expenditures and debt maturities. During the fourth quarter of 1998, capital requirements for property additions and capital leases are expected to be about $45 million, including $4 million for nuclear fuel. CEI has additional cash requirements of approximately $51.5 million to meet sinking fund requirements for maturing long-term debt during the remainder of 1998. These cash requirements are expected to be satisfied with internal cash and/or short-term credit arrangements. As of September 30, 1998, CEI had approximately $54.4 million of cash and temporary investments and $60.8 million of short-term indebtedness to an associated company. Upon completion of the merger, application of purchase accounting reduced bondable property such that CEI is not currently able to issue additional first mortgage bonds, except against retired bonds. FirstEnergy signed an agreement in principle with Duquesne Light Company that would result in the transfer of 1,436 megawatts owned by Duquesne at five generating plants in exchange for 1,298 megawatts at three plants owned by FirstEnergy's electric utility operating companies (see "Pending Exchange of Assets" in Note 2), including CEI. A final agreement on the exchange of assets, which will be structured as a tax-free transaction to the extent possible, is expected to be reached by the end of the year. The transaction benefits the Companies by providing them with exclusive ownership and operating control of all the generating assets that are now jointly owned and operated under the Central Area Power Coordination Group agreement. Regulatory Matters On September 16, 1998, FirstEnergy, together with representatives of the three other Ohio investor-owned utilities, presented proposed legislation for restructuring the electric utility industry in Ohio to a private working group formed by the leadership of the Ohio General Assembly. The working group, which includes numerous interested parties, will consider the utility proposal -- a proposal that represents a balanced approach for bringing choice to Ohio's electric consumers -- as well as other restructuring proposals. Passage of a restructuring bill appears unlikely in 1998. On September 24, 1998, the Federal Environmental Protection Agency issued a final rule establishing tighter nitrogen oxide emission ceilings for Ohio, Pennsylvania and 20 other Eastern states and the District of Columbia (see "Environmental Matters" in Note 2). Controls must be in place by May 2003, with required reductions achieved during the five-month summer ozone season (May through September). The new rule is expected to increase the cost of producing electricity; however, CEI believes that it is in a better position than a number of other utilities in achieving compliance due to its nuclear and hydroelectric generation capability. - 30 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS (Cont.) In connection with the regulatory plans for its utility operating companies to reduce fixed costs and lower rates, FirstEnergy continued to take steps to restructure its operations for improved efficiency and effectiveness in the changing electric utility industry. FirstEnergy announced plans to transfer its transmission assets (including CEI's assets) into a new subsidiary, American Transmission Systems, Inc. (ATS), with the transfer expected to be finalized by early 1999. The new subsidiary represents a first step toward FirstEnergy's goal of establishing or becoming part of a larger independent transmission company (TransCo). FirstEnergy believes that a TransCo better addresses the Federal Energy Regulatory Commission's (FERC) stated transmission objectives of providing non-discriminatory service, while providing for streamlined and cost-efficient operation. In working toward the goal of forming a larger regional transmission entity, FirstEnergy, American Electric Power and Virginia Power announced on November 6, 1998, that they would prepare a FERC filing during the first quarter of 1999 for such a regional transmission entity. The entity would be designed to meet the goals of reducing transmission costs that result when transferring power over several transmission systems, ensuring transmission reliability and providing non- discriminatory access to the transmission grid. Impact of the Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to identify the applicable year. Any of CEI's programs that have date-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. CEI has developed a multi-phase program for Year 2000 compliance that consists of: (i) assessment of the corporate systems and operations of CEI that could be affected by the Year 2000 problem; (ii) remediation or replacement of noncompliant systems and components; and (iii) testing of systems and components following such remediation or replacement. CEI has focused its Year 2000 review on three areas: centralized system applications, noncentralized systems and relationships with third parties (including suppliers as well as end-use customers). CEI currently believes that, with modifications to existing software and conversions to new software, the Year 2000 issue will pose no significant operational problems for its computer systems. Most of CEI's Year 2000 problems will be resolved through system replacement. Of CEI's major centralized systems, the general ledger system and inventory management and procurement accounts payable system will be replaced by the end of 1998. CEI's payroll system was enhanced to be Year 2000 compliant in July 1998; all employees will be converted to the new system by January 1999. The customer service system is due to be replaced in mid-1999. CEI has categorized its noncentralized systems into sixteen separate areas, and has already determined that five of such areas pose no material Year 2000 problem. CEI has identified certain Year 2000 issues in nine of such areas and is in the process of remediating them. CEI has plans to complete the assessment of the final two areas by the end of 1998. CEI plans to complete the entire Year 2000 project by September 1999. If the already identified modifications and conversions are not made or are not completed on a timely basis, or if CEI identifies material additional modifications which are not completed on a timely basis, the Year 2000 issue would have a material adverse impact on operations. CEI has initiated formal communications with many of its major suppliers to determine the extent to which it is vulnerable to those third parties' failure to resolve their own Year 2000 problems and is still in the assessment phase as to whether and to what extent such third parties have a Year 2000 issue. There can be no guarantee that the failure of other companies to resolve their own Year 2000 issue will not have a material adverse effect on CEI's business, financial condition and results of operations. - 31 - THE CLEVELAND ELECTRIC ILLUMINATING COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS (Cont.) CEI is utilizing both internal and external resources to reprogram and/or replace and test CEI's software for Year 2000 modifications. Of the $38 million total project cost, approximately $31 million will be capitalized since those costs are attributable to the purchase of new software for total system replacements (i.e., the Year 2000 solution comprises only a portion of the benefits resulting from the system replacements). The remaining $7 million will be expensed as incurred. As of September 30,1998, CEI has expended a total of $15 million for Year 2000 capital projects and had expensed approximately $2 million for Year 2000 related maintenance activities. CEI's total Year 2000 project cost, as well as its estimates of time needed to complete remedial efforts, are based on currently available information and do not include the estimated costs and time associated with the impact of third party Year 2000 issues. CEI believes the most reasonably likely worst case scenario from the Year 2000 issue to be disruption in power plant monitoring systems, thereby producing inaccurate data and potential failures in electronic switching mechanisms at transmission junctions. This would prolong localized outages, as technicians would have to manually activate switches. Such an event could have a material, but presently undeterminable, effect on CEI's financial results. CEI has not yet developed a contingency plan to address the effects of any delay in becoming Year 2000 compliant but currently expects to have a contingency plan by the spring of 1999. The costs of the project and the dates on which CEI plans to complete the Year 2000 modifications are based on management's best estimates, which were derived from numerous assumptions of future events including the continued availability of certain resources, and other factors. However, there can be no guarantee that this project will be completed as planned and actual results could differ materially from the estimates. Specific factors that might cause material differences include, but are not limited to, the availability and cost of trained personnel, the ability to locate and correct all relevant computer code, and similar uncertainties. - 32 - THE TOLEDO EDISON COMPANY CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
September 30, 1998 September 30, 1997 ---------------------- --------------------- Three Nine Three Nine Months Months Months Months Ended Ended Ended Ended ---------- ----------- --------- ---------- (In thousands) OPERATING REVENUES $253,282 $714,116 | $241,282 $680,486 -------- -------- | -------- -------- OPERATING EXPENSES AND TAXES: | Fuel and purchased power 56,708 164,049 | 47,976 140,792 Nuclear operating costs 37,681 106,912 | 38,027 113,854 Other operating costs 42,680 115,515 | 40,214 123,042 -------- -------- | -------- -------- Total operation and maintenance expenses 137,069 386,476 | 126,217 377,688 Provision for depreciation and amortization 19,472 58,295 | 24,542 74,032 Amortization of net regulatory assets 4,286 12,954 | 4,291 12,873 General taxes 21,435 63,393 | 22,729 68,124 Income taxes 19,817 51,985 | 14,132 29,964 -------- -------- | -------- -------- Total operating expenses and taxes 202,079 573,103 | 191,911 562,681 -------- -------- | -------- -------- OPERATING INCOME 51,203 141,013 | 49,371 117,805 | OTHER INCOME 2,674 9,573 | 5,058 5,091 -------- -------- | -------- -------- INCOME BEFORE NET INTEREST CHARGES 53,877 150,586 | 54,429 122,896 -------- -------- | -------- -------- NET INTEREST CHARGES: | Interest on long-term debt 21,524 66,780 | 23,388 64,970 Allowance for borrowed funds used during | construction (344) (927) | (124) (239) Other interest expense (credit) 10 (1,089) | 3,946 8,990 -------- -------- | -------- -------- Net interest charges 21,190 64,764 | 27,210 73,721 -------- -------- | -------- -------- NET INCOME 32,687 85,822 | 27,219 49,175 | PREFERRED STOCK DIVIDEND REQUIREMENTS 4,145 9,680 | 4,185 12,590 -------- -------- | -------- -------- EARNINGS ON COMMON STOCK $ 28,542 $ 76,142 | $ 23,034 $ 36,585 ======== ======== | ======== ======== The preceding Notes to Financial Statements as they relate to The Toledo Edison Company are an integral part of these statements.
- 33 - THE TOLEDO EDISON COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) ASSETS ------ UTILITY PLANT: In service $1,741,913 $1,763,495 Less--Accumulated provision for depreciation 606,442 619,222 ---------- ---------- 1,135,471 1,144,273 ---------- ---------- Construction work in progress- Electric plant 23,885 19,901 Nuclear fuel 8,114 6,632 ---------- ---------- 31,999 26,533 ---------- ---------- 1,167,470 1,170,806 ---------- ---------- OTHER PROPERTY AND INVESTMENTS: Shippingport Capital Trust 310,696 312,873 Nuclear plant decommissioning trusts 94,491 85,956 Other 3,719 3,164 ---------- ---------- 408,906 401,993 ---------- ---------- CURRENT ASSETS: Cash and cash equivalents 21,356 22,170 Receivables- Associated companies 21,663 15,199 Other 10,501 21,664 Notes receivable from associated companies 79,595 40,802 Materials and supplies, at average cost- Owned 24,136 31,892 Under consignment 19,223 9,538 Prepayments and other 22,211 26,437 ---------- ---------- 198,685 167,702 ---------- ---------- DEFERRED CHARGES: Regulatory assets 423,599 442,724 Goodwill 500,532 514,462 Property taxes 43,355 45,338 Other 5,127 15,127 ---------- ---------- 972,613 1,017,651 ---------- ---------- $2,747,674 $2,758,152 ========== ==========
- 34 - THE TOLEDO EDISON COMPANY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) CAPITALIZATION AND LIABILITIES ------------------------------ CAPITALIZATION: Common stockholder's equity- Common stock, $5 par value, authorized 60,000,000 shares - 39,133,887 shares outstanding $ 195,670 $ 195,670 Other paid-in capital 328,193 328,364 Retained earnings 48,470 7,616 ---------- ---------- Total common stockholder's equity 572,333 531,650 Preferred stock- Not subject to mandatory redemption 210,000 210,000 Subject to mandatory redemption - 1,690 Long-term debt 1,086,227 1,210,190 ---------- ---------- 1,868,560 1,953,530 ---------- ---------- CURRENT LIABILITIES: Currently payable long-term debt and preferred stock 142,492 69,979 Accounts payable- Associated companies 24,676 21,173 Other 56,389 60,756 Accrued taxes 47,997 34,441 Accrued interest 24,806 26,633 Other 35,138 22,603 ---------- ---------- 331,498 235,585 ---------- ---------- DEFERRED CREDITS: Accumulated deferred income taxes 125,061 104,543 Accumulated deferred investment tax credits 41,319 43,265 Pensions and other postretirement benefits 116,584 113,254 Other 264,652 307,975 ---------- ---------- 547,616 569,037 ---------- ---------- COMMITMENTS, GUARANTEES AND CONTINGENCIES (Note 2) ---------- ---------- $2,747,674 $2,758,152 ========== ========== The preceding Notes to Financial Statements as they relate to The Toledo Edison Company are an integral part of these balance sheets.
- 35 - THE TOLEDO EDISON COMPANY CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
September 30, 1998 September 30, 1997 ---------------------- -------------------- Three Nine Three Nine Months Months Months Months Ended Ended Ended Ended ---------- ---------- --------- --------- (In thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 32,687 $ 85,822 | $ 27,219 $ 49,175 Adjustments to reconcile net income to net | cash from operating activities- | Provision for depreciation and amortization 19,472 58,295 | 24,542 74,032 Nuclear fuel and lease amortization 5,576 16,506 | 9,264 26,898 Amortization of net regulatory assets 4,286 12,954 | 4,291 12,873 Deferred income taxes, net 3,954 24,971 | (3,336) (6,462) Investment tax credits, net (648) (1,946) | (1,080) (3,240) Allowance for equity funds used during | construction - - | (291) (677) Receivables 1,473 4,699 | (203) 1,569 Accounts payable (3,216) (864) | 2,774 852 Accrued taxes 7,083 13,556 | 2,503 10,977 Other 19,891 (15,265) | 17,370 20,951 -------- -------- | -------- -------- Net cash provided from operating activities 92,136 196,799 | 102,950 201,742 -------- -------- | -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: | New Financing- | Long-term debt - 3,657 | 6,973 151,945 Short-term borrowings, net - - | - 24,500 Redemptions and Repayments- | Preferred stock - 1,665 | - 1,665 Long-term debt 33,273 74,968 | 49,692 75,952 Short-term borrowings, net - - | 60,500 - Dividend Payments- | Common stock 15,654 36,786 | - - Preferred stock 4,074 12,309 | 4,192 12,589 -------- -------- | -------- -------- Net cash provided from (used for) | financing activities (53,001) (122,071) | (107,411) 86,239 -------- -------- | -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: | Property additions 14,518 29,165 | 8,761 33,880 Loans to associated companies - 38,793 | - - Loan payments from associated companies (5,855) - | (27,651) (38,817) Capital trust investments (240) (2,177) | (17,115) 319,984 Other 13,923 9,761 | 5,902 6,244 -------- -------- | -------- -------- Net cash used for (provided from) | investing activities 22,346 75,542 | (30,103) 321,291 -------- -------- | -------- -------- Net increase (decrease) in cash and cash | equivalents 16,789 (814) | 25,642 (33,310) Cash and cash equivalents at beginning of period 4,567 22,170 | 22,502 81,454 -------- -------- | -------- -------- Cash and cash equivalents at end of period $ 21,356 $ 21,356 | $ 48,144 $ 48,144 ======== ======== | ======== ======== The preceding Notes to Financial Statements as they relate to The Toledo Edison Company are an integral part of these statements.
- 36 - REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To The Toledo Edison Company: We have reviewed the accompanying consolidated balance sheet of The Toledo Edison Company (an Ohio corporation and wholly owned subsidiary of FirstEnergy Corp.) and subsidiary as of September 30, 1998, and the related consolidated statements of income and cash flows for the three-month and nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet of The Toledo Edison Company and subsidiary as of December 31, 1997 (not presented herein), and, in our report dated February 13, 1998, we expressed an unqualified opinion on that statement. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997, is fairly stated, in all material respects, in relation to the balance sheet from which it has been derived. ARTHUR ANDERSEN LLP Cleveland, Ohio November 13, 1998 - 37 - THE TOLEDO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Results of Operations Financial results reflect the application of purchase accounting to the merger of TE's former parent company, Centerior, with OE to form FirstEnergy on November 8, 1997. The application of this accounting resulted in fair value adjustments which were "pushed down" or reflected on the separate financial statements of Centerior's direct subsidiaries as of the merger date, including TE's financial statements. Accordingly, the post- merger financial statements for the first nine months and third quarter of 1998 and the December 31, 1997 Consolidated Balance Sheet reflect a new basis of accounting. Material effects of this new basis of accounting are identified below. Earnings on common stock increased to $76.1 million for the nine-month period ended September 30, 1998, from $36.6 million in the same period last year. For the third quarter of 1998, earnings increased to $28.5 million, compared to $23.0 million in the third quarter of 1997. The increases reflect increased operating revenues, benefits provided by the Bruce Mansfield Plant lease refinancing and net reductions in the provision for depreciation and amortization resulting from the fair value adjustment of nuclear plant in connection with the merger. The above factors were offset in part by an increase in purchased power costs. Operating revenues increased $33.6 million during the nine-month period ended September 30, 1998 compared to the same period of 1997 and increased $12.0 million in the third quarter of 1998 from the corresponding period of 1997. Year-to-date retail kilowatt-hour sales increased 8.0% from the same period last year, with residential, commercial and industrial customers all contributing to the increase with increases of 5.3%, 5.1% and 10.5%, respectively. Expanded production at the North Star BHP Steel (North Star) facility was the primary factor in the increase in industrial sales in the first nine months of 1998 from last year's level. Excluding North Star, industrial sales increased 0.2%. Sales to wholesale customers decreased 39.4% compared to the first nine months of 1997 due in part to unplanned generating unit outages which reduced available energy for sale to other utilities. This resulted in a 2.1% decrease in total kilowatt-hour sales during the nine-month period compared to 1997. Retail kilowatt-hour sales in the third quarter of 1998 increased 5.7% from the third quarter of 1997 with increased demand from all customer groups. Residential sales benefited from higher air-conditioning loads due to hotter weather, increasing 12.4% in the third quarter of 1998, compared to the same period of 1997. Continued growth in the service sector of the area economy during the period contributed to a 2.2% increase in commercial sales in the third quarter of 1998 compared to the third quarter of 1997. Expanded production at North Star remained a major contributor to industrial sales in the period with sales up 4.5% in the third quarter of 1998 from the same period last year. Excluding sales to North Star, industrial sales decreased 4.7% in the third quarter of 1998 from the third quarter of 1997. A general decline in energy use by primary metal manufacturers and the General Motors strike dampened industrial sales in the third quarter of 1998. Sales to wholesale customers decreased 15.3% in the third quarter of 1998 compared to the same period of 1997. Reduced off-system sales offset, in part, the increase in retail sales resulting in a net increase in total sales of 1.8% for the third quarter of 1998 compared to the third quarter of 1997. Fuel and purchased power expenses increased in both the first nine months of 1998 and the third quarter of 1998 compared to the same periods of 1997. The increases resulted from higher purchased power costs, which resulted from a combination of factors. In late June 1998, the midwestern and southern regions of the United States experienced electricity shortages caused mainly by record temperatures and humidity and unscheduled generating unit outages. During this period, Beaver Valley Unit 2 was out of service and the Davis-Besse Plant was removed from service as a result of damage to transmission facilities caused - 38 - THE TOLEDO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) by a tornado. Temperatures continued above last year's levels throughout the third quarter of 1998 as well and Beaver Valley Unit 2 remained out of service for most of that period. As a result, TE purchased significant amounts of power on the spot market at unusually high prices, causing the increase in purchased power costs. Reduced nuclear operating costs and other operating costs combined to substantially offset the year-to-date 1998 increase in fuel and purchased power expense compared to the same period last year. On a net basis nuclear operating costs were down at the three nuclear plants. Other operating costs were lower for the first nine months of 1998 compared to the same period last year due to lower costs at the Bay Shore and Mansfield plants. Lower rent expense resulting from the refinancing of the Mansfield Plant lease and reduced employee levels contributed to these reduced costs. Lower depreciable asset balances resulting from the purchase accounting adjustment reduced the provision for depreciation in the first nine months of 1998 compared to the same period last year and for the third quarter of 1998 compared to the third quarter of 1997. These reductions were partially offset by the amortization of goodwill recognized with the application of purchase accounting. Interest income from investments related to the refinancing of the Mansfield Plant lease increased other income in the first nine months of 1998 compared to same period of 1997. Total interest charges decreased due in part to the amortization of net premiums associated with the revaluation of long-term debt in connection with the merger. Capital Resources and Liquidity TE has continuing cash requirements for planned capital expenditures and debt maturities. During the fourth quarter of 1998, capital requirements for property additions and capital leases are expected to be about $13 million, including $2 million for nuclear fuel. TE has additional cash requirements of approximately $12.4 million to meet sinking fund requirements for maturing long-term debt during the remainder of 1998. These cash requirements are expected to be satisfied with internal cash and/or short-term credit arrangements. As of September 30, 1998, TE had approximately $101.0 million of cash and temporary investments and no short-term indebtedness. Upon completion of the merger, application of purchase accounting reduced bondable property such that TE is not currently able to issue additional first mortgage bonds, except against retired bonds. Regulatory Matters On September 16, 1998, FirstEnergy, together with representatives of the three other Ohio investor-owned utilities, presented proposed legislation for restructuring the electric utility industry in Ohio to a private working group formed by the leadership of the Ohio General Assembly. The working group, which includes numerous interested parties, will consider the utility proposal -- a proposal that represents a balanced approach for bringing choice to Ohio's electric consumers -- as well as other restructuring proposals. Passage of a restructuring bill appears unlikely in 1998. On September 24, 1998, the Federal Environmental Protection Agency issued a final rule establishing tighter nitrogen oxide emission ceilings for Ohio, Pennsylvania and 20 other Eastern states and the District of Columbia (see "Environmental Matters" in Note 2). Controls must be in place by May 2003, with required reductions achieved during the five-month summer ozone season (May through September). The new rule is expected to increase the cost of producing electricity; however, - 39 - THE TOLEDO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) TE believes that it is in a better position than a number of other utilities in achieving compliance due to its nuclear generation capability. In connection with the regulatory plans for its utility operating companies to reduce fixed costs and lower rates, FirstEnergy continued to take steps to restructure its operations for improved efficiency and effectiveness in the changing electric utility industry. FirstEnergy announced plans to transfer its transmission assets (including TE's assets) into a new subsidiary, American Transmission Systems, Inc. (ATS), with the transfer expected to be finalized by early 1999. The new subsidiary represents a first step toward FirstEnergy's goal of establishing or becoming part of a larger independent transmission company (TransCo). FirstEnergy believes that a TransCo better addresses the Federal Energy Regulatory Commission's (FERC) stated transmission objectives of providing non-discriminatory service, while providing for streamlined and cost-efficient operation. In working toward the goal of forming a larger regional transmission entity, FirstEnergy, American Electric Power and Virginia Power announced on November 6, 1998, that they would prepare a FERC filing during the first quarter of 1999 for such a regional transmission entity. The entity would be designed to meet the goals of reducing transmission costs that result when transferring power over several transmission systems, ensuring transmission reliability and providing non- discriminatory access to the transmission grid. Impact of the Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to identify the applicable year. Any of TE's programs that have date-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. TE has developed a multi-phase program for Year 2000 compliance that consists of: (i) assessment of the corporate systems and operations of TE that could be affected by the Year 2000 problem; (ii) remediation or replacement of noncompliant systems and components; and (iii) testing of systems and components following such remediation or replacement. TE has focused its Year 2000 review on three areas: centralized system applications, noncentralized systems and relationships with third parties (including suppliers as well as end-use customers). TE currently believes that, with modifications to existing software and conversions to new software, the Year 2000 issue will pose no significant operational problems for its computer systems. Most of TE's Year 2000 problems will be resolved through system replacement. Of TE's major centralized systems, the general ledger system and inventory management and procurement accounts payable system will be replaced by the end of 1998. TE's payroll system was enhanced to be Year 2000 compliant in July 1998; all employees will be converted to the new system by January 1999. The customer service system is due to be replaced in mid-1999. TE has categorized its noncentralized systems into sixteen separate areas, and has already determined that five of such areas pose no material Year 2000 problem. TE has identified certain Year 2000 issues in nine of such areas and is in the process of remediating them. TE has plans to complete the assessment of the final two areas by the end of 1998. TE plans to complete the entire Year 2000 project by September 1999. If the already identified modifications and conversions are not made or are not completed on a timely basis, or if TE identifies material additional modifications which are not completed on a timely basis, the Year 2000 issue would have a material adverse impact on operations. TE has initiated formal communications with many of its major suppliers to determine the extent to which it is vulnerable to those third parties' failure to resolve their own Year 2000 problems and is still in the assessment phase as to whether and to what extent such third parties have a Year 2000 issue. There - 40 - THE TOLEDO EDISON COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) can be no guarantee that the failure of other companies to resolve their own Year 2000 issue will not have a material adverse effect on TE's business, financial condition and results of operations. TE is utilizing both internal and external resources to reprogram and/or replace and test TE's software for Year 2000 modifications. Of the $16 million total project cost, approximately $13 million will be capitalized since those costs are attributable to the purchase of new software for total system replacements (i.e., the Year 2000 solution comprises only a portion of the benefits resulting from the system replacements). The remaining $3 million will be expensed as incurred. As of September 30, 1998, TE has expended a total of $7 million for Year 2000 capital projects and had expensed approximately $1 million for Year 2000 related maintenance activities. TE's total Year 2000 project cost, as well as its estimates of time needed to complete remedial efforts, are based on currently available information and do not include the estimated costs and time associated with the impact of third party Year 2000 issues. TE believes the most reasonably likely worst case scenario from the Year 2000 issue to be disruption in power plant monitoring systems, thereby producing inaccurate data and potential failures in electronic switching mechanisms at transmission junctions. This would prolong localized outages, as technicians would have to manually activate switches. Such an event could have a material, but presently undeterminable, effect on TE's financial results. TE has not yet developed a contingency plan to address the effects of any delay in becoming Year 2000 compliant but currently expects to have a contingency plan by the spring of 1999. The costs of the project and the dates on which TE plans to complete the Year 2000 modifications are based on management's best estimates, which were derived from numerous assumptions of future events including the continued availability of certain resources, and other factors. However, there can be no guarantee that this project will be completed as planned and actual results could differ materially from the estimates. Specific factors that might cause material differences include, but are not limited to, the availability and cost of trained personnel, the ability to locate and correct all relevant computer code, and similar uncertainties. - 41 - PENNSYLVANIA POWER COMPANY STATEMENTS OF INCOME (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, -------------------- --------------------- 1998 1997 1998 1997 ---------- -------- ---------- --------- (In thousands) OPERATING REVENUES $87,885 $85,239 $246,732 $243,436 ------- ------- -------- -------- OPERATING EXPENSES AND TAXES: Fuel and purchased power 21,948 17,299 62,835 48,411 Nuclear operating costs 6,720 6,407 20,516 19,541 Other operating costs 14,952 13,870 40,725 45,122 ------- ------- -------- -------- Total operation and maintenance expenses 43,620 37,576 124,076 113,074 Provision for depreciation 4,719 15,621 34,037 42,903 Amortization of net regulatory assets 8,406 1,845 12,096 5,535 General taxes 5,335 5,913 16,608 17,620 Income taxes 9,375 8,649 20,847 22,032 ------- ------- -------- -------- Total operating expenses and taxes 71,455 69,604 207,664 201,164 ------- ------- -------- -------- OPERATING INCOME 16,430 15,635 39,068 42,272 OTHER INCOME 569 795 1,942 1,789 ------- ------- -------- -------- INCOME BEFORE NET INTEREST CHARGES 16,999 16,430 41,010 44,061 ------- ------- -------- -------- NET INTEREST CHARGES: Interest expense 5,234 5,669 15,951 17,066 Allowance for borrowed funds used during construction (52) (133) (196) (269) ------- ------- -------- ------- Net interest charges 5,182 5,536 15,755 16,797 ------- ------- -------- ------- INCOME BEFORE EXTRAORDINARY ITEM 11,817 10,894 25,255 27,264 EXTRAORDINARY ITEM (NET OF INCOME TAXES) (Note 3) - - (30,522) - ------- ------- -------- -------- NET INCOME (LOSS) 11,817 10,894 (5,267) 27,264 PREFERRED STOCK DIVIDEND REQUIREMENTS 1,157 1,157 3,470 3,470 ------- ------- -------- -------- EARNINGS (LOSS) ON COMMON STOCK $10,660 $ 9,737 $ (8,737) $ 23,794 ======= ======= ======== ======== The preceding Notes to Financial Statements as they relate to Pennsylvania Power Company are an integral part of these statements.
- 42 - PENNSYLVANIA POWER COMPANY BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) ASSETS ------ UTILITY PLANT: In service, at original cost $689,654 $1,237,562 Less--Accumulated provision for depreciation 285,242 508,981 -------- ---------- 404,412 728,581 -------- ---------- Construction work in progress- Electric plant 10,977 7,427 Nuclear fuel 118 6,788 -------- ---------- 11,095 14,215 -------- ---------- 415,507 742,796 -------- ---------- OTHER PROPERTY AND INVESTMENTS 32,259 26,157 -------- ---------- CURRENT ASSETS: Cash and cash equivalents 4,094 660 Notes receivable from parent company 34,400 17,500 Receivables- Customers (less accumulated provisions of $3,596,000 and $3,609,000, respectively, for uncollectible accounts) 34,949 33,934 Associated companies 15,674 15,764 Other 8,509 11,261 Materials and supplies, at average cost 15,985 14,973 Prepayments 5,511 1,707 -------- ---------- 119,122 95,799 -------- ---------- DEFERRED CHARGES: Regulatory assets 381,758 162,966 Other 6,155 6,739 -------- ---------- 387,913 169,705 -------- ---------- $954,801 $1,034,457 ======== ==========
- 43 - PENNSYLVANIA POWER COMPANY BALANCE SHEETS (Unaudited)
September 30, December 31, 1998 1997 ------------- ------------ (In thousands) CAPITALIZATION AND LIABILITIES ------------------------------ CAPITALIZATION: Common stockholder's equity- Common stock, $30 par value, authorized 6,500,000 shares - 6,290,000 shares outstanding $188,700 $ 188,700 Other paid-in capital (400) (400) Retained earnings 78,900 103,677 -------- ---------- Total common stockholder's equity 267,200 291,977 Preferred stock- Not subject to mandatory redemption 50,905 50,905 Subject to mandatory redemption 15,000 15,000 Long-term debt- Associated companies 7,785 9,231 Other 281,636 280,074 -------- ---------- 622,526 647,187 -------- ---------- CURRENT LIABILITIES: Currently payable long-term debt- Associated companies 5,960 6,958 Other 512 1,443 Accounts payable- Associated companies 7,768 6,788 Other 14,284 22,751 Accrued taxes 12,155 12,332 Accrued interest 3,982 6,588 Other 16,450 14,746 -------- ---------- 61,111 71,606 -------- ---------- DEFERRED CREDITS: Accumulated deferred income taxes 208,209 239,952 Accumulated deferred investment tax credits 8,359 26,052 Other 54,596 49,660 -------- ---------- 271,164 315,664 -------- ---------- COMMITMENTS, GUARANTEES AND CONTINGENCIES (Note 2) -------- ---------- $954,801 $1,034,457 ======== ========== The preceding Notes to Financial Statements as they relate to Pennsylvania Power Company are an integral part of these balance sheets.
- 44 - PENNSYLVANIA POWER COMPANY STATEMENTS OF CASH FLOWS (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, --------------------- --------------------- 1998 1997 1998 1997 ---------- --------- --------- ---------- (In thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 11,817 $10,894 $ (5,267) $27,264 Adjustments to reconcile net income to net cash from operating activities- Provision for depreciation 4,719 15,621 34,037 42,903 Nuclear fuel and lease amortization 1,460 1,658 3,252 6,467 Other amortization, net 8,511 1,553 11,664 4,631 Deferred income taxes, net 931 (1,857) (26,058) (8,464) Investment tax credits, net (573) (629) (1,717) (1,748) Extraordinary item - - 51,730 - Receivables 881 (122) 1,827 11,365 Materials and supplies (839) 328 (1,012) (600) Accounts payable (12,493) (5,025) (7,487) (9,177) Other (1,638) 2,013 (7,505) (3,051) -------- ------- -------- ------- Net cash provided from operating activities 12,776 24,434 53,464 69,590 -------- ------- -------- ------- CASH FLOWS FROM FINANCING ACTIVITIES: New Financing- Long-term debt - 10,007 1,621 10,007 Redemptions and Repayments- Long-term debt 1,443 12,103 3,994 26,415 Dividend Payments- Common stock 5,347 5,347 16,040 16,040 Preferred stock 1,232 1,232 3,470 3,470 -------- ------- -------- ------- Net cash used for financing activities 8,022 8,675 21,883 35,918 -------- ------- -------- ------- CASH FLOWS FROM INVESTING ACTIVITIES: Property additions 4,541 3,529 11,560 10,059 Loan to parent 4,400 11,500 16,900 22,000 Other (2,194) 1,211 (313) 2,988 -------- ------- -------- ------- Net cash used for investing activities 6,747 16,240 28,147 35,047 -------- ------- -------- ------- Net increase (decrease) in cash and cash equivalents (1,993) (481) 3,434 (1,375) Cash and cash equivalents at beginning of period 6,087 493 660 1,387 -------- ------- -------- ------- Cash and cash equivalents at end of period $ 4,094 $ 12 $ 4,094 $ 12 ======== ======= ======== ======= The preceding Notes to Financial Statements as they relate to Pennsylvania Power Company are an integral part of these statements.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Pennsylvania Power Company: We have reviewed the accompanying balance sheet of Pennsylvania Power Company (a Pennsylvania corporation and a wholly owned subsidiary of Ohio Edison Company) as of September 30, 1998, and the related statements of income and cash flows for the three- month and nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the balance sheet of Pennsylvania Power Company as of December 31, 1997 (not presented herein), and, in our report dated February 13, 1998, we expressed an unqualified opinion on that statement. In our opinion, the information set forth in the accompanying balance sheet as of December 31, 1997, is fairly stated, in all material respects, in relation to the balance sheet from which it has been derived. ARTHUR ANDERSEN LLP Cleveland, Ohio November 13, 1998 - 46 - PENNSYLVANIA POWER COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Results of Operations Earnings were adversely affected in the nine-month period ended September 30, 1998 compared to the same period of 1997, by an extraordinary item resulting from the deregulation of Penn's generation business and the corresponding discontinuation of SFAS 71 with respect to that business. This action was taken following the June 18, 1998, authorization by the PPUC of a restructuring plan for Penn (see below and Note 3). Excluding the extraordinary item, earnings on common stock were $21.8 million in the first nine months of 1998 compared to $23.8 million in the same period last year; for the third quarter of 1998, earnings on common stock were $10.7 million compared to $9.7 million in the third quarter of 1997. Retail kilowatt-hour sales decreased 1.7% in the first nine months of 1998 and increased 0.4% in the third quarter of 1998 from the same periods in 1997. Year-to-date results reflect a decline in industrial sales which was more than offset in the third quarter by growth in the residential and commercial sectors. Closure of an electric arc facility at Caparo Steel Company in August 1997, caused the reduced industrial sales. Excluding sales to Caparo, sales to industrial customers in the first nine months of 1998 increased 2.7% and sales in the third quarter of 1998 were up 0.9% from the corresponding periods last year. A general decline in electricity demand by primary metal manufacturers also dampened industrial sales in the third quarter of 1998. Residential sales increased 5.1% during the first nine months of 1998 compared to the first nine months of 1997 and 8.5% in the third quarter of 1998 from the same period last year. Residential sales benefited from higher air-conditioning loads due to hotter weather. Commercial sales also increased in both the nine month and third quarter periods of 1998 from the corresponding periods last year, by 7.8% and 10.7%, respectively, reflecting continued growth in the service sector economy. Sales to wholesale customers increased 9.9% in the first nine months of 1998 compared to the first nine months of 1997 and were up 34.1% in the third quarter of 1998 compared to the same period last year due to increased generation availability. Fuel and purchased power expenses increased in both the first nine months of 1998 and in the third quarter of 1998 compared to the same periods of 1997. Most of the increase in purchased power costs occurred in the second quarter of 1998, resulting from a combination of factors. In late June 1998, the midwestern and southern regions of the United States experienced electricity shortages caused mainly by record temperatures and humidity and unscheduled generating unit outages. Due in part to an unscheduled outage at Beaver Valley Unit 1, Penn's production capability was reduced to the point that Penn purchased significant amounts of power during this period. Temperatures continued above last year's levels in the third quarter of 1998 as well and Beaver Valley Unit 1 remained out of service for approximately half of that period. As a result, Penn purchased significant amounts of power at unusually high spot market prices, causing the increase in purchased power costs. Other operating costs decreased in the first nine months of 1998 compared to the same period of 1997 due to a $3 million charge for uncollectible accounts in the second quarter of 1997. The provision for depreciation and amortization decreased $10.9 million in the third quarter of 1998 from the same period of 1997 primarily due to the effects of Penn's rate restructuring plan authorized by the PPUC in the second quarter. The rate restructuring plan resulted in a reduction in nuclear generating unit investment due to the discontinued application of SFAS 71 with a corresponding reduction in reported depreciation expense. Penn's rate restructuring plan also resulted in a reclassification of accelerated Perry 1 depreciation in the third quarter of 1998 to amortization of net regulatory assets, further reducing depreciation. The reclassification of depreciation resulted in an increase in the amortization of net regulatory assets in the third quarter of 1998 compared to the third quarter of 1997. - 47 - PENNSYLVANIA POWER COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) Capital Resources and Liquidity Penn has continuing cash requirements for planned capital expenditures. During the fourth quarter of 1998, capital requirements for property additions and capital leases are expected to be about $8 million, including $2 million for nuclear fuel. These requirements are expected to be satisfied with internal cash. As of September 30, 1998, Penn had approximately $38.5 million of cash and temporary investments and no short-term indebtedness. Penn had $2 million of unused bank facilities as of September 30, 1998, which may be borrowed for up to several days at the banks' discretion. In connection with the regulatory plans for its utility operating companies to reduce fixed costs and lower rates, FirstEnergy continued to take steps to restructure its operations for improved efficiency and effectiveness in the changing electric utility industry. FirstEnergy announced plans to transfer its transmission assets (including Penn's assets) into a new subsidiary, American Transmission Systems, Inc. (ATS), with the transfer expected to be finalized by early 1999. The new subsidiary represents a first step toward FirstEnergy's goal of establishing or becoming part of a larger independent transmission company (TransCo). FirstEnergy believes that a TransCo better addresses the Federal Energy Regulatory Commission's (FERC) stated transmission objectives of providing non-discriminatory service, while providing for streamlined and cost-efficient operation. In working toward the goal of forming a larger regional transmission entity, FirstEnergy, American Electric Power and Virginia Power announced on November 6, 1998, that they would prepare a FERC filing during the first quarter of 1999 for such a regional transmission entity. The entity would be designed to meet the goals of reducing transmission costs that result when transferring power over several transmission systems, ensuring transmission reliability and providing non- discriminatory access to the transmission grid. FirstEnergy signed an agreement in principle with Duquesne Light Company that would result in the transfer of 1,436 megawatts owned by Duquesne at five generating plants in exchange for 1,298 megawatts at three plants owned by FirstEnergy's utility operating companies (see "Pending Exchange of Assets" in Note 2) including Penn. A final agreement on the exchange of assets, which will be structured as a tax-free transaction to the extent possible, is expected to be reached by the end of the year. The transaction benefits the Companies by providing them with exclusive ownership and operating control of all the generating assets that are now jointly owned and operated under the Central Area Power Coordination Group agreement. Certain details of the arrangement such as the specific allocation of generation assets among the Companies remains to be determined. On September 24, 1998, the Federal Environmental Protection Agency issued a final rule establishing tighter nitrogen oxide emission ceilings for Pennsylvania, Ohio and 20 other Eastern states and the District of Columbia (see "Environmental Matters" in Note 2). Controls must be in place by May 2003, with required reductions achieved during the five-month summer ozone season (May through September). The new rule is expected to increase the cost of producing electricity; however, Penn believes that it is in a better position than a number of other utilities in achieving compliance due to its nuclear generation capability. Impact of the Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to identify the applicable year. Any of Penn's programs that have date-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. - 48 - PENNSYLVANIA POWER COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Cont.) Penn has developed a multi-phase program for Year 2000 compliance that consists of: (i) assessment of the corporate systems and operations of Penn that could be affected by the Year 2000 problem; (ii) remediation or replacement of noncompliant systems and components; and (iii) testing of systems and components following such remediation or replacement. Penn has focused its Year 2000 review on three areas: centralized system applications, noncentralized systems and relationships with third parties (including suppliers as well as end-use customers). Penn currently believes that, with modifications to existing software and conversions to new software, the Year 2000 issue will pose no significant operational problems for its computer systems. Most of Penn's Year 2000 problems will be resolved through system replacement. Of Penn's major centralized systems, the general ledger system and inventory management and procurement accounts payable system will be replaced by the end of 1998. Penn's payroll system was enhanced to be Year 2000 compliant in July 1998. The customer service system is due to be replaced in mid-1999. Penn has categorized its noncentralized systems into sixteen separate areas, and has already determined that five of such areas pose no material Year 2000 problem. Penn has identified certain Year 2000 issues in nine areas and is in the process of remediating them. Penn has plans to complete the assessment of the final two areas by the end of 1998. Penn plans to complete the entire Year 2000 project by September 1999. If the already identified modifications and conversions are not made or are not completed on a timely basis, or if Penn identifies material additional modifications which are not completed on a timely basis, the Year 2000 issue would have a material adverse impact on operations. Penn has initiated formal communications with many of its major suppliers to determine the extent to which it is vulnerable to those third parties' failure to resolve their own Year 2000 problems and is still in the assessment phase as to whether and to what extent such third parties have a Year 2000 issue. There can be no guarantee that the failure of other companies to resolve their own Year 2000 issue will not have a material adverse effect on Penn's business, financial condition and results of operations. Penn is utilizing both internal and external resources to reprogram and/or replace and test Penn's software for Year 2000 modifications. Of the $7 million total project cost, approximately $6 million will be capitalized since those costs are attributable to the purchase of new software for total system replacements (i.e., the Year 2000 solution comprises only a portion of the benefits resulting from the system replacements). The remaining $1 million will be expensed as incurred. As of September 30, 1998, Penn had expended a total of $3 million for Year 2000 capital projects and had expensed approximately $400,000 for Year 2000 related maintenance activities. Penn's total Year 2000 project cost, as well as its estimates of the time needed to complete remedial efforts, are based on currently available information and do not include the estimated costs and time associated with the impact of third party Year 2000 issues. Penn believes the most reasonably likely worst case scenario from the Year 2000 issue to be disruption in power plant monitoring systems, thereby producing inaccurate data and potential failures in electronic switching mechanisms at transmission junctions. This would prolong localized outages, as technicians would have to manually activate switches. Such an event could have a material, but presently undeterminable, effect on Penn's financial results. Penn has not yet developed a contingency plan to address the effects of any delay in becoming Year 2000 compliant but currently expects to have a contingency plan by the spring of 1999. The costs of the project and the dates on which Penn plans to complete the Year 2000 modifications are based on management's best estimates, which were derived from numerous assumptions of future events including the continued availability of certain resources, and other factors. However, there can be no guarantee that this project will be completed as planned and actual results could differ materially from the estimates. Specific factors that might cause material differences include, but are not limited to, the availability and cost of trained personnel, the ability to locate and correct all relevant computer code, and similar uncertainties. - 49 - PART II. OTHER INFORMATION - --------------------------- Item 5. Other Information ----------------- FirstEnergy's Code of Regulations requires a shareholder to give appropriate notice to the Company before any business requested to be brought before an annual meeting of the Company's shareholders by that shareholder can be considered at the meeting. Appropriate notice in this case is notice to the Company's Corporate Secretary received at least 60 days prior to the meeting. Business that a shareholder requests be brought before the 1999 Annual Meeting as to which appropriate notice is given to the Company on or before February 3, 1999, will be referred to in the Company's proxy materials for that meeting, but such business as to which the Company receives notice after that date will not. In either case, the rules contained in Regulation 14a-4(c) under the Securities Exchange Act of 1934 relating to the conferring of discretionary voting authority in a proxy will apply. Item 6. Exhibits and Reports on Form 8-K -------------------------------- (a) Exhibits Exhibit Number ------- FirstEnergy, OE, CEI and Penn ----------------------------- 15 Letter from independent public accountants. TE -- None Pursuant to paragraph (b)(4)(iii)(A) of Item 601 of Regulation S-K, FirstEnergy, or, respectively, any of the Companies, has not filed as an exhibit to this Form 10-Q any instrument with respect to long-term debt if the respective total amount of securities authorized thereunder does not exceed 10% of the total assets of FirstEnergy and its subsidiaries on a consolidated basis, or respectively, any of the Companies, but hereby agrees to furnish to the Commission on request any such documents. (b) Reports on Form 8-K FirstEnergy, OE, CEI, TE, Penn - Two combined ------------------------------ reports on Form 8-K were filed since June 30, 1998. A report dated July 6, 1998 reported events affecting second quarter 1998 results of operations for FirstEnergy and its four operating subsidiaries including power supply transactions, power marketing and trading transactions, and Penn's rate restructuring plan. A report dated October 15, 1998 reported that FirstEnergy will transfer its transmission assets into a new subsidiary and has signed an agreement in principle with Duquesne Light Company (Duquesne) that would result in an exchange of certain generating assets between FirstEnergy's operating subsidiaries and Duquesne. - 50 - SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. November 13, 1998 FIRSTENERGY CORP. ----------------- Registrant OHIO EDISON COMPANY ------------------- Registrant THE CLEVELAND ELECTRIC ---------------------- ILLUMINATING COMPANY -------------------- Registrant THE TOLEDO EDISON COMPANY ------------------------- Registrant /s/ Harvey L. Wagner --------------------------------- Harvey L. Wagner Controller Principal Accounting Officer PENNSYLVANIA POWER COMPANY -------------------------- Registrant /s/ Harvey L. Wagner --------------------------------- Harvey L. Wagner Comptroller Principal Accounting Officer - 51 - EX-15 2 EXHIBIT 15 November 13, 1998 FirstEnergy Corp. 76 South Main Street Akron, OH 44308 Gentlemen: We are aware that FirstEnergy Corp. has incorporated by reference in its Registration Statements No. 333-48587, No. 333-48651, No. 333-58279 and No. 333-65409 its Form 10-Q for the quarter ended September 30, 1998, which includes our report dated November 13, 1998 covering the unaudited interim financial information contained therein. Pursuant to Regulation C of the Securities Act of 1933, that report is not considered a part of the registration statements prepared or certified by our firm or a report prepared or certified by our firm within the meaning of Sections 7 and 11 of the Act. Very truly yours, ARTHUR ANDERSEN LLP EX-27 3
UT This schedule contains summary financial information extracted from the related Form 10-Q financial statements for FirstEnergy Corp. and is qualified in its entirety by reference to such financial statements. (Amounts in 1,000's, except earnings per share). Income tax expense includes $(4,999,000) related to other income and $(21,208,000) related to extraordinary item. 0001031296 FIRSTENERGY CORP. 1,000 U.S. DOLLARS 9-MOS DEC-31-1998 SEP-30-1998 1 PER-BOOK 9,077,552 2,567,520 1,174,903 5,403,076 0 18,223,051 23,707 3,702,533 709,804 4,436,044 313,460 660,195 6,606,324 228,470 0 119,980 518,674 21,404 0 62,848 5,255,652 18,223,051 3,893,795 237,656 2,842,848 3,106,711 787,084 9,961 797,045 450,348 316,175 0 0 253,017 515,805 797,740 1.40 1.40
EX-15 4 EXHIBIT 15 November 13, 1998 Ohio Edison Company 76 South Main Street Akron, OH 44308 Gentlemen: We are aware that Ohio Edison Company has incorporated by reference in its Registration Statements No. 33-49135, No. 33- 49259, No. 33-49413, No. 33-51139, No. 333-01489 and No. 333-05277 its Form 10-Q for the quarter ended September 30, 1998, which includes our report dated November 13, 1998 covering the unaudited interim financial information contained therein. Pursuant to Regulation C of the Securities Act of 1933, that report is not considered a part of the registration statements prepared or certified by our firm or a report prepared or certified by our firm within the meaning of Sections 7 and 11 of the Act. Very truly yours, ARTHUR ANDERSEN LLP EX-27 5
UT This schedule contains summary financial information extracted from the related Form 10-Q financial statements for Ohio Edison Company and is qualified in its entirety by reference to such financial statements. (Amounts in 1,000's). Income tax expense includes $15,115,000 related to other income and $(21,208,000) related to extraordinary item. 0000073960 OHIO EDISON COMPANY 1,000 U.S. DOLLARS 9-MOS DEC-31-1998 SEP-30-1998 1 PER-BOOK 4,756,565 1,184,985 933,015 2,001,641 0 8,876,206 1 2,098,114 533,398 2,631,513 145,000 211,870 2,405,875 186,205 0 119,980 267,323 5,000 0 4,014 2,899,426 8,876,206 1,912,689 115,068 1,446,063 1,567,224 345,465 36,857 382,322 177,029 174,771 9,057 165,714 254,007 193,116 595,209 0 0
EX-15 6 EXHIBIT 15 November 13, 1998 The Cleveland Electric Illuminating Company 76 South Main Street Akron, OH 44308 Gentlemen: We are aware that The Cleveland Electric Illuminating Company has incorporated by reference in its Registration Statements No. 33- 55513 and No. 333-47651 its Form 10-Q for the quarter ended September 30, 1998, which includes our report dated November 13, 1998 covering the unaudited interim financial information contained therein. Pursuant to Regulation C of the Securities Act of 1933, that report is not considered a part of the registration statements prepared or certified by our firm or a report prepared or certified by our firm within the meaning of Sections 7 and 11 of the Act. Very truly yours, ARTHUR ANDERSEN LLP EX-27 7
UT This schedule contains summary financial information extracted from the related Form 10-Q financial statements for The Cleveland Electric Illuminating Company and is qualified in its entirety by reference to such financial statements. Income tax expense includes $6,389,000 related to other income. 0000020947 THE CLEVELAND ELECTRIC ILLUMINATING COMPANY 1,000 U.S. DOLLARS 9-MOS DEC-31-1998 SEP-30-1998 1 PER-BOOK 3,093,111 675,649 444,957 2,213,129 0 6,426,846 931,312 0 101,251 1,032,563 168,460 238,325 2,956,689 60,838 0 0 132,530 14,714 0 34,232 1,788,495 6,426,846 1,392,868 102,141 995,801 1,091,553 301,315 21,616 322,931 173,442 149,489 17,053 132,436 54,122 224,406 210,130 0 0
EX-27 8
UT This schedule contains summary financial information extracted from the related Form 10-Q financial statements for The Toledo Edison Company and is qualified in its entirety by reference to such financial statements. (Amounts in 1,000's). Income tax expense includes $5,277,000 related to other income. 0000352049 THE TOLEDO EDISON COMPANY 1,000 U.S. DOLLARS 9-MOS DEC-31-1998 SEP-30-1998 1 PER-BOOK 1,167,470 408,906 198,685 972,613 0 2,747,674 195,670 328,193 48,470 572,333 0 210,000 1,086,227 0 0 0 116,200 1,690 0 24,602 736,622 2,747,674 714,116 57,262 521,118 573,103 141,013 9,573 150,586 64,764 85,822 9,680 76,142 36,786 86,829 196,799 0 0
EX-15 9 EXHIBIT 15 November 13, 1998 Pennsylvania Power Company 1 E. Washington Street P. O. Box 891 New Castle, PA 16103 Gentlemen: We are aware that Pennsylvania Power Company has incorporated by reference in its Registration Statements No. 33-47372, No. 33- 62450 and No. 33-65156 its Form 10-Q for the quarter ended September 30, 1998, which includes our report dated November 13, 1998 covering the unaudited interim financial information contained therein. Pursuant to Regulation C of the Securities Act of 1933, that report is not considered a part of the registration statements prepared or certified by our firm or a report prepared or certified by our firm within the meaning of Sections 7 and 11 of the Act. Very truly yours, ARTHUR ANDERSEN LLP EX-27 10
UT This schedule contains summary financial information extracted from the related Form 10-Q financial statements for Pennsylvania Power Company and is qualified in its entirety by reference to such financial statements. (Amounts in 1,000's). Income tax includes $466,000 related to other income and $(21,208,000) related to extraordinary item. 0000077278 PENNSYLVANIA POWER COMPANY 1,000 U.S. DOLLARS 9-MOS DEC-31-1998 SEP-30-1998 1 PER-BOOK 415,507 32,259 119,122 387,913 0 954,801 188,700 (400) 78,900 267,200 15,000 50,905 289,421 0 0 0 0 0 0 6,472 325,803 954,801 246,732 105 186,817 207,664 39,068 1,942 41,010 15,755 (5,267) 3,470 (8,737) 16,040 19,192 53,464 0 0
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