UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(Mark One)

x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2007

OR

o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                  to               .

Commission file number:  1-16455

Reliant Energy, Inc.
(Exact Name of Registrant as Specified in Its Charter)

 

1000 Main Street
Houston, Texas 77002
(Address of Principal Executive Offices) (Zip Code)

(713) 497-3000
(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.  (Check one):

Large accelerated filer x  Accelerated filer o  Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o  No x

As of April 25, 2007, the latest practicable date for determination, Reliant Energy, Inc. had 341,621,856 shares of common stock outstanding and no shares of treasury stock.

TABLE OF CONTENTS

Forward-Looking Information
PART I. FINANCIAL INFORMATION
ITEM 1.		FINANCIAL STATEMENTS
		Consolidated Statements of Operations (unaudited) Three Months Ended March 31, 2007 and 2006
		Consolidated Balance Sheets March 31, 2007 (unaudited) and December 31, 2006
		Consolidated Statements of Cash Flows (unaudited) Three Months Ended March 31, 2007 and 2006
		Notes to Unaudited Consolidated Interim Financial Statements
ITEM 2.		MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
		Business Overview
		Consolidated Results of Operations
		Liquidity and Capital Resources
		Off-Balance Sheet Arrangements
		New Accounting Pronouncements, Significant Accounting Policies and Critical Accounting Estimates
ITEM 3.		QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
		Market Risks and Risk Management
		Non-Trading Market Risks
		Trading Market Risks
ITEM 4.		CONTROLS AND PROCEDURES
		Evaluation of Disclosure Controls and Procedures
		Changes in Internal Control Over Financial Reporting
PART II. OTHER INFORMATION
ITEM 1.		LEGAL PROCEEDINGS
ITEM 2.		UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ITEM 6.		EXHIBITS

 

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FORWARD-LOOKING INFORMATION

This report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  Forward-looking statements are statements that contain projections, assumptions or estimates about our revenues, income and other financial items, our plans and objectives for future operations or about our future economic performance, transactions and dispositions and financings related thereto.  In many cases you can identify forward-looking statements by terminology such as “anticipate,” “estimate,” “believe,” “continue,” “could,” “intend,” “may,” “plan,” “potential,” “predict,” “should,” “will,” “expect,” “objective,” “projection,” “forecast,” “goal,” “guidance,” “outlook,” “effort,” “target” and other similar words.  However, the absence of these words does not mean that the statements are not forward-looking.

Actual results may differ materially from those expressed or implied by forward-looking statements as a result of many factors or events, including, but not limited to, changes in our business plan, changes in legislative and regulatory developments, the outcome of pending lawsuits, governmental proceedings and investigations, the effects of competition, financial market conditions, access to capital, the timing and extent of changes in commodity prices and interest rates, weather conditions, and other factors we discuss in the “Risk Factors” section of our most recent Annual Report on Form 10-K filed with the Securities and Exchange Commission.

Each forward-looking statement speaks only as of the date of the particular statement and we undertake no obligation to update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

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PART I.
FINANCIAL INFORMATION

ITEM 1.                 FINANCIAL STATEMENTS

RELIANT ENERGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Thousands of Dollars, Except Per Share Amounts)
(Unaudited)

		Three Months Ended March 31,
		2007			2006
Revenues:
Revenues (including $14,570 and $149,506 unrealized gains)		$	2,362,601		$	2,452,685
Expenses:
Purchased power, fuel and cost of gas sold (including $507,659 and $(126,038) unrealized gains (losses))		1,443,491			2,250,049
Operation and maintenance		230,741			185,555
Selling, general and administrative		87,597			70,740
Western states and similar settlements		22,000			—
Gains on sales of assets and emission allowances, net		—			(151,476		)
Depreciation and amortization		91,969			80,505
Total operating expense		1,875,798			2,435,373
Operating Income		486,803			17,312
Other Income (Expense):
Income of equity investment, net		1,160			326
Other, net		1,068			85
Interest expense		(87,070		)	(108,162		)
Interest income		10,464			9,018
Total other expense		(74,378		)	(98,733		)
Income (Loss) from Continuing Operations Before Income Taxes		412,425			(81,421		)
Income tax expense		152,062			57,646
Income (Loss) from Continuing Operations		260,363			(139,067		)
Income (loss) from discontinued operations		(1,652		)	4,980
Income (Loss) Before Cumulative Effect of Accounting Change		258,711			(134,087		)
Cumulative effect of accounting change, net of tax		—			968
Net Income (Loss)		$	258,711		$	(133,119	)
Basic Earnings (Loss) per Share:
Income (loss) from continuing operations		$	0.77		$	(0.46	)
Income (loss) from discontinued operations		(0.01		)	0.02
Income (loss) before cumulative effect of accounting change		0.76			(0.44		)
Cumulative effect of accounting change, net of tax		—			—
Net income (loss)		$	0.76		$	(0.44	)
Diluted Earnings (Loss) per Share:
Income (loss) from continuing operations		$	0.75		$	(0.46	)
Income (loss) from discontinued operations		(0.01		)	0.02
Income (loss) before cumulative effect of accounting change		0.74			(0.44		)
Cumulative effect of accounting change, net of tax		—			—
Net income (loss)		$	0.74		$	(0.44	)

 

See Notes to our Unaudited Consolidated Interim Financial Statements

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RELIANT ENERGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Thousands of Dollars, Except Share and Per Share Amounts)

		March 31, 2007			December 31, 2006
		(Unaudited)
ASSETS
Current Assets:
Cash and cash equivalents		$	488,046		$	463,909
Restricted cash		10,838			24,980
Accounts and notes receivable, principally customer, net of allowance of $26,742 and $33,332		1,020,345			1,043,637
Inventory		243,043			275,437
Derivative assets		282,841			489,726
Margin deposits		349,736			452,605
Accumulated deferred income taxes		132,479			279,479
Prepayments and other current assets		145,756			141,016
Current assets of discontinued operations		2,567			2,460
Total current assets		2,675,651			3,173,249
Property, plant and equipment, gross		7,216,151			7,192,437
Accumulated depreciation		(1,509,961		)	(1,450,442		)
Property, Plant and Equipment, net		5,706,190			5,741,995
Other Assets:
Goodwill		379,644			381,594
Other intangibles, net		421,218			423,745
Derivative assets		232,456			203,857
Accumulated deferred income taxes		72,858			87,858
Prepaid lease		272,314			264,328
Other		286,996			290,507
Total other assets		1,665,486			1,651,889
Total Assets		$	10,047,327		$	10,567,133
LIABILITIES AND EQUITY
Current Liabilities:
Current portion of long-term debt and short-term borrowings		$	359,745		$	355,264
Accounts payable, principally trade		659,900			664,630
Derivative liabilities		511,565			1,164,809
Margin deposits		—			16,490
Other		424,025			488,764
Current liabilities of discontinued operations		3,382			3,286
Total current liabilities		1,958,617			2,693,243
Other Liabilities:
Derivative liabilities		323,262			420,534
Other		310,858			324,145
Total other liabilities		634,120			744,679
Long-term Debt		3,173,751			3,177,691
Commitments and Contingencies
Temporary Equity Stock-based Compensation		2,140			1,647
Stockholders’ Equity:
Preferred stock; par value $0.001 per share (125,000,000 shares authorized; none outstanding)		—			—
Common stock; par value $0.001 per share (2,000,000,000 shares authorized; 341,212,794 and 337,623,392 issued)		102			99
Additional paid-in capital		6,190,816			6,174,665
Retained deficit		(1,741,922		)	(2,026,316		)
Accumulated other comprehensive loss		(170,297		)	(198,575		)
Total stockholders’ equity		4,278,699			3,949,873
Total Liabilities and Equity		$	10,047,327		$	10,567,133

 

See Notes to our Unaudited Consolidated Interim Financial Statements

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RELIANT ENERGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Thousands of Dollars)
(Unaudited)

		Three Months Ended March 31,
		2007			2006
Cash Flows from Operating Activities:
Net income (loss)		$	258,711		$	(133,119	)
(Income) loss from discontinued operations		1,652			(4,980		)
Net income (loss) from continuing operations and cumulative effect of accounting change		260,363			(138,099		)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Cumulative effect of accounting change		—			(968		)
Depreciation and amortization		91,969			80,505
Deferred income taxes		147,422			55,238
Net changes in energy derivatives		(508,770		)	(13,869		)
Amortization of deferred financing costs		3,666			3,931
Gains on sales of assets and emission allowances, net		—			(151,476		)
Other, net		5,643			1,328
Changes in other assets and liabilities:
Accounts and notes receivable, net		45,811			88,805
Inventory		22,263			26,291
Margin deposits, net		86,379			120,392
Net derivative assets and liabilities		(19,944		)	(50,002		)
Western states and similar settlements payments		(35,000		)	(155,102		)
Accounts payable		24,385			(75,817		)
Other current assets		(4,741		)	(3,120		)
Other assets		(11,974		)	(20,653		)
Taxes payable/receivable		4,790			134
Other current liabilities		(82,471		)	(6,543		)
Other liabilities		5,691			10,636
Net cash provided by (used in) continuing operations from operating activities		35,482			(228,389		)
Net cash provided by (used in) discontinued operations from operating activities		(1,664		)	7,279
Net cash provided by (used in) operating activities		33,818			(221,110		)
Cash Flows from Investing Activities:
Capital expenditures		(42,167		)	(21,897		)
Proceeds from sales of assets, net		—			1,238
Proceeds from sales of emission allowances		1			187,910
Purchases of emission allowances		(990		)	—
Restricted cash		14,142			(33,739		)
Other, net		—			2,500
Net cash provided by (used in) continuing operations from investing activities		(29,014		)	136,012
Net cash provided by discontinued operations from investing activities		—			967,743
Net cash provided by (used in) investing activities		(29,014		)	1,103,755
Cash Flows from Financing Activities:
Payments of long-term debt		(3,466		)	(321,372		)
Increase in short-term borrowings and revolving credit facilities, net		6,554			27,241
Payments of financing costs		(440		)	—
Proceeds from issuances of stock		16,685			5,016
Net cash provided by (used in) continuing operations from financing activities		19,333			(289,115		)
Net cash used in discontinued operations from financing activities		—			(638,000		)
Net cash provided by (used in) financing activities		19,333			(927,115		)
Net Change in Cash and Cash Equivalents		24,137			(44,470		)
Cash and Cash Equivalents at Beginning of Period		463,909			88,397
Cash and Cash Equivalents at End of Period		$	488,046		$	43,927
Supplemental Disclosure of Cash Flow Information:
Cash Payments:
Interest paid (net of amounts capitalized) for continuing operations		$	74,845		$	95,447
Income taxes paid (net of income tax refunds received) for continuing operations		(150		)	$	1,195

 

See Notes to our Unaudited Consolidated Interim Financial Statements

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RELIANT ENERGY, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(1)         Background and Basis of Presentation

(a)         Background.

“Reliant Energy” refers to Reliant Energy, Inc. and “we,” “us” and “our” refer to Reliant Energy, Inc. and its consolidated subsidiaries.  Our business consists primarily of two business segments, retail energy and wholesale energy.  See note 12.  Our consolidated interim financial statements and notes (interim financial statements) are unaudited, omit certain disclosures and should be read in conjunction with our audited consolidated financial statements and notes in our Form 10-K.

(b)         Basis of Presentation.

Estimates.  Management makes estimates and assumptions to prepare financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) that affect:

·                  the reported amount of assets, liabilities and equity,

·                  the reported amounts of revenues and expenses and

·                  our disclosure of contingent assets and liabilities at the date of the financial statements.

Adjustments and Reclassifications.  The interim financial statements reflect all normal recurring adjustments necessary, in management’s opinion, to present fairly our financial position and results of operations for the reported periods.  Amounts reported for interim periods, however, may not be indicative of a full year period due to seasonal fluctuations in demand for electricity and energy services, changes in commodity prices, changes in our retail revenue rates and changes in regulations, timing of maintenance and other expenditures, dispositions, changes in interest expense and other factors.  We have reclassified certain immaterial amounts reported in this Form 10-Q from prior periods to conform to the 2007 presentation.  These reclassifications had no impact on reported earnings/losses.

New Accounting Pronouncement Not Yet Adopted — Fair Value.  The Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements,” which defines fair value, establishes a framework for measuring fair value in GAAP and expands disclosures about fair value measurements.  This statement is applicable for us beginning in 2008.  It applies under other accounting pronouncements that require or permit fair value measurements.  The adoption, which we plan to assess throughout 2007, could have a significant impact on our consolidated financial statements.

(2)         Stock-based Compensation

Our compensation expense for our stock-based incentive plans was:

		Three Months Ended March 31,
		2007			2006
		(in millions)
Stock-based incentive plans compensation expense (pre-tax)		$	7		$	7
Income tax impact		(3		)	(2		)
After-tax expense		$	4		$	5

 

During February 2007, the compensation committee of our board of directors granted stock-based compensation awards to 47 of our officers under the Reliant Energy, Inc. 2002 Long-Term Incentive Plan.  The committee granted 429,221 time-based stock options (exercise price of $16.26 per share, which vest in three equal installments during February 2008, 2009 and 2010), 200,314 time-based restricted stock units (which vest during February 2010) and 345,358 performance-based cash units (each payable into a cash amount equal to the market value of one share of our common stock if our common stock closes at $23 or higher for 20 consecutive trading days before February 2010).  In addition, during February 2007, the committee granted 126,790 time-based restricted stock units

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and 126,790 time-based cash units to other employees under the Reliant Energy, Inc. 2002 Stock Plan.  These awards will vest during February 2010.

No tax benefits related to stock-based compensation were realized during the three months ended March 31, 2007 and 2006 due to our net operating loss carryforwards.

(3)         Comprehensive Income (Loss)

The components of total comprehensive income (loss) are:

		Three Months Ended March 31,
		2007			2006
		(in millions)
Net income (loss)		$	259		$	(133	)
Other comprehensive income (loss), net of tax:
Deferred income (loss) from cash flow hedges		3			(96		)
Reclassification of net deferred loss from cash flow hedges realized in net income/loss		25			42
Comprehensive income (loss)		$	287		$	(187	)

 

(4)         Goodwill

2007 Annual Goodwill Impairment Tests.  We are in the process of performing our annual goodwill impairment tests for our wholesale energy and retail energy reporting units effective April 1, 2007.

Estimation of Our Wholesale Energy Reporting Unit’s Fair Value.  We anticipate using substantially the same subjective factors and significant assumptions to estimate fair value in our 2007 test as we used in our April 2006 test.  See note 4(a) to our consolidated financial statements in our Form 10-K.

(5)         Derivative Instruments

For discussion of our derivative activities, see notes 2(d) and 5 to our consolidated financial statements in our Form 10-K.  The income (loss) of our energy and interest rate derivative instruments is:

		Three Months Ended March 31,
		2007			2006
		(in millions)
Energy derivatives:
Hedge ineffectiveness		$	3		$	(49	)
Other net unrealized gains		519			72
Interest rate derivatives:
Hedge ineffectiveness		—			—
Other net unrealized losses		(3		)	(3		)
Total(1)(2)		$	519		$	20

 

(1)          No component of the derivatives’ gain or loss was excluded from the assessment of effectiveness.

(2)          During the three months ended March 31, 2007 and 2006, $0 and $3 million loss, respectively, were recognized in our results of continuing operations as a result of the discontinuance of cash flow hedges because it was probable that the forecasted transaction would not occur.

As of December 31, 2006, the maximum length of time we were hedging our exposure to the variability in future cash flows that may result from changes in commodity prices was six years.  During the first quarter of 2007, we de-designated our remaining cash flow hedges; therefore, as of March 31, 2007, we have no cash flow hedges.

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Amounts included in accumulated other comprehensive loss:

		March 31, 2007
		At the End of the Period			Expected to be Reclassified into Results of Operations in Next 12 Months
		(in millions)
Designated cash flow hedges		$	—		$	—
De-designated cash flow hedges		(144		)	(74		)
		$	(144	)	$	(74	)

 

Although we discontinued our proprietary trading business in March 2003, we have legacy positions, which will be closed as economically feasible or in accordance with their terms.  The impacts associated with these transactions are (income (loss)):

		Three Months Ended March 31,
		2007			2006
		(in millions)
Revenues		$	—		$	—
Purchased power, fuel and cost of gas sold		—			10
Total		$	—		$	10

 

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(6)         Debt

Our outstanding debt is:

		March 31, 2007								December 31, 2006
		Weighted  Average Stated Interest Rate(1)		Long-term			Current			Weighted Average Stated Interest Rate(1)		Long-term			Current
		(in millions, except interest rates)
Banking or Credit Facilities, Bonds and Notes:
Reliant Energy:
Senior secured revolver due 2009		9.63	%	$	—		$	—		9.63	%	$	—		$	—
Senior secured term loans (B) due 2010		7.70		396			4			7.73		397			3
Senior secured notes due 2010		9.25		550			—			9.25		550			—
Senior secured notes due 2013		9.50		550			—			9.50		550			—
Senior secured notes due 2014		6.75		750			—			6.75		750			—
Convertible senior subordinated notes due 2010 (unsecured)		5.00		2			—			5.00		2			—
Subsidiary Obligations:
Orion Power Holdings, Inc. senior notes due 2010 (unsecured)		12.00		400			—			12.00		400			—
Reliant Energy Seward, LLC PEDFA(2) fixed-rate bonds due 2036		6.75		500			—			6.75		500			—
Reliant Energy Channelview LP (Channelview):
Term loans and revolving working capital facility:
Floating rate debt due 2007 to 2024		6.94		—			270			6.95		—			267
Fixed rate debt due 2014 to 2024		9.55		—			75			9.55		—			75
Reliant Energy Power Supply, LLC working capital facility due 2012		5.77		—			—			5.80		—			—
Total facilities, bonds and notes				3,148			349					3,149			345
Other:
Adjustment to fair value of debt(3)				26			10					29			10
Total other debt				26			10					29			10
Total debt				$	3,174		$	359				$	3,178		$	355

 

(1)          The weighted average stated interest rates are as of March 31, 2007 or December 31, 2006.

(2)          PEDFA is the Pennsylvania Economic Development Financing Authority.

(3)          Debt acquired in the Orion Power acquisition was adjusted to fair value as of the acquisition date.  Included in interest expense is amortization of $3 million and $2 million for valuation adjustments for debt during the three months ended March 31, 2007 and 2006, respectively.

Amounts borrowed and available for borrowing under our revolving credit agreements as of March 31, 2007 are:

		Total Committed Credit			Drawn Amount			Letters of Credit			Unused Amount
		(in millions)
Reliant Energy senior secured revolver due 2009		$	700		$	—		$	156		$	544
Letter of credit facility due 2010		300			—			300			—
Retail working capital facility due 2012		300			—			—			300
Channelview revolving working capital facility due 2007(1)		14			14			—			—
		$	1,314		$	14		$	456		$	844

 

(1)          See below.

Channelview.  We are considering various strategic alternatives with respect to our interest in Channelview, including a transfer of ownership to the lenders, selling our equity interests to a third party or placing Channelview in bankruptcy.  There can be no assurances regarding the outcome of this process.  As of March 31, 2007,

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Channelview’s net property, plant and equipment is $365 million and its debt is $345 million.  As of March 31, 2007, our net investment in the Channelview companies, before considering any income tax impacts, is approximately $65 million.  Under Channelview’s credit agreement, the partnership is required to maintain a working capital requirement of $14 million.  This covenant is currently met by the commitments of the $14 million revolving working capital facility that matures by August 15, 2007.  The lenders have not agreed to extend the commitments and we do not know whether the working capital requirement will be met.  Failure to maintain the working capital requirement would constitute an event of default allowing Channelview’s lenders to demand immediate payment.  Due to this, we have classified the Channelview debt as a current liability as of March 31, 2007.  Channelview’s debt is non-recourse to Reliant Energy.

(7)         Earnings Per Share

		Three Months Ended March 31,
		2007		2006
		(shares in thousands)
Diluted Weighted Average Shares Calculation:
Weighted average shares outstanding (basic)		339,345		305,631
Plus: Incremental shares from assumed conversions:
Stock options		4,698		—	(1)
Restricted stock		478		—	(1)
Employee stock purchase plan		20		—	(1)
5.00% convertible senior subordinated notes		219		—	(1)
Warrants		4,692		—	(1)
Weighted average shares outstanding assuming conversion (diluted)		349,452		305,631

(1)          As we incurred a loss from continuing operations, basic and diluted weighted average shares outstanding are the same.

We excluded the following items from diluted earnings (loss) per common share due to the anti-dilutive effect:

		Three Months Ended March 31,
		2007			2006
		(shares in thousands, dollars in millions)
Shares excluded from the calculation of diluted earnings (loss) per share		415		(1)	35,505		(2)
Shares excluded from the calculation of diluted earnings (loss) per share because the exercise price exceeded the average market price		2,137			6,585
Interest expense that would be added to income if 5.00% convertible senior subordinated notes were dilutive		$	—	(3)	$	2

 

(1)          Includes stock options.

(2)          Potential shares excluded consist of convertible senior subordinated notes, warrants, stock options, restricted stock, performance-based shares and shares related to employee stock purchase plan.

(3)          In December 2006, we converted 99.2% of our convertible senior subordinated notes to common stock.

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(8)         Income Taxes

(a)         Tax Rate Reconciliation.

A reconciliation of the federal statutory income tax rate to the effective income tax rate is:

		Three Months Ended March 31,
		2007		2006
Federal statutory rate		35	%	35	%
Additions (reductions) resulting from:
Federal tax uncertainties		(1	)	(1	)
Federal valuation allowance		—		(86	)
Western states and similar settlements penalty		1		—
State income taxes, net of federal income taxes		2		(16	)
Other, net		—		(3	)
Effective rate		37	%	(71	)%

 

(b)         Valuation Allowances.

We assess quarterly our future ability to use federal, state and foreign net operating loss carryforwards, capital loss carryforwards and other deferred tax assets.  These assessments include an evaluation of our recent history of earnings and losses, future reversals of temporary differences and identification of other sources of future taxable income, including the identification of tax planning strategies in certain situations.

Our valuation allowances are:

		Federal			State			Capital, Foreign and Other, Net
		(in millions)
As of December 31, 2006		$	60		$	85		$	18
Changes in valuation allowance		1			4			—
As of March 31, 2007		$	61		$	89		$	18

 

(c)          Adoption of FIN 48 and Tax Uncertainties.

Effective January 1, 2007, we adopted Financial Accounting Standards Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes,” (FIN 48).  This interpretation addresses whether (and when) tax benefits claimed in our tax returns should be recorded in our financial statements.  Pursuant to FIN 48, we may only recognize the tax benefit from an “uncertain tax position” when it is more-likely-than-not that, based on the technical merits, the position will be sustained by taxing authorities or the courts.  The recognized tax benefits are measured as the largest benefit having a greater than fifty percent likelihood of being sustained upon settlement.  FIN 48 also provides guidance for derecognition, classification, interest and penalties, disclosures and related matters.  We classify accrued interest and penalties related to uncertain income tax positions in income tax expense/benefit.

In connection with the adoption, we recognized the following in our consolidated financial statements:

		Adoption Effect on January 1, 2007
		Increase (Decrease) (in millions)
Goodwill		$	(2	)
Other long-term liabilities		(27		)
Retained deficit		(25		)

 

9

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As of January 1, 2007, immediately after adoption, our consolidated balance sheet reflected $7 million for income tax uncertainties ($4 million in long-term liabilities and $3 million in additional paid-in capital).  Of the $7 million, $4 million relates to income taxes, $2 million relates to penalties and $1 million relates to interest.  Amounts reported as additional paid-in capital relate to tax uncertainties for years we were included in CenterPoint Energy, Inc.’s (CenterPoint) consolidated tax return.  As of March 31, 2007, we have accrued $4 million for uncertain income tax positions included in long-term liabilities.  Of the $4 million, $2 million relates to penalties, $1 million relates to income taxes and $1 million relates to interest.

Our income tax returns for the 1997 to 2005 tax reporting periods are under audit by federal and state taxing authorities.  These audits may result in additional taxes, interest and penalties or revisions of the timing of tax payments.  We do not currently estimate that our unrecognized tax benefits will change significantly within the next 12 months.

(9)         Guarantees and Indemnifications

We have guaranteed some non-qualified benefits of CenterPoint’s existing retirees at September 20, 2002.  The estimated maximum potential amount of future payments under the guarantee was approximately $56 million as of March 31, 2007.  We believe the likelihood that we would incur any significant losses under this guarantee is remote and, therefore, have not recorded a liability in our consolidated balance sheet as of March 31, 2007.

In addition, we are also required to indemnify CenterPoint for certain liabilities relating to the initial public offering of our common stock.

We also guarantee the $500 million PEDFA bonds, which are included in our consolidated balance sheet as outstanding debt.  Our guarantees are secured by guarantees from all of our subsidiaries that guarantee the December 2006 credit facilities.  The guarantees require us to comply with covenants substantially identical to those in the senior secured notes indentures.  The PEDFA bonds will become secured by certain assets of our Seward power plant if the collateral supporting both the senior secured notes and our guarantee is released.  Our maximum potential obligation under the guarantee is for payment of the principal of $500 million and related interest charges at a fixed rate of 6.75%.

We have guaranteed payments to a third party relating to energy sales from El Dorado Energy, LLC, a former investment.  The estimated maximum potential amount of future payments under this guarantee is approximately $21 million as of March 31, 2007.  We secured a portion of the guarantee with letters of credit.  We have not recorded a liability in our consolidated balance sheet for this guarantee.

We enter into contracts that include indemnification and guarantee provisions.  In general, we enter into contracts with indemnities for matters such as breaches of representations and warranties and covenants contained in the contract and/or against certain specified liabilities.  Examples of these contracts include asset sales agreements, retail supply agreements, service agreements and procurement agreements.

In our debt agreements, we typically indemnify against liabilities that arise from the preparation, entry into, administration or enforcement of the agreement.

We are unable to estimate our maximum potential exposure under these provisions until an event triggering payment under these provisions occurs.  We do not expect to make any material payments under these provisions.

(10) Contingencies

We are party to many legal proceedings, some of which may involve substantial amounts.  Unless otherwise noted, we cannot predict the outcome of the matters described below.

(a)         Legal Proceedings.

Pending Electricity and Natural Gas Litigation

The following proceedings relate to alleged conduct in the electricity and natural gas markets.  In 2005 and 2006, we settled a number of proceedings that were pending in California and other Western states; however, a number of other proceedings remain pending.

10

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Electricity Actions.  We are party to one remaining lawsuit relating to our participation in alleged conduct to increase electricity prices in violation of antitrust laws, unfair competition laws and similar laws.  The lawsuit seeks treble damages, restitution and expenses.  The lawsuit is on appeal from an order of the United States District Court, District of Oregon that dismissed this case in our favor.  We do not believe the appeal will materially impact the underlying 2005 settlement or other electricity lawsuits.  In March 2007, a lawsuit on appeal from an order of the United States District Court, Western District of Washington was dismissed in our favor.

Natural Gas Actions.  We are party to 27 lawsuits, several of which are class action lawsuits, in state and federal courts in California, Colorado, Kansas, Missouri, Nevada and Wisconsin, including a lawsuit filed in March 2007 in the Circuit Court of Buchanan County, Missouri.  These lawsuits relate to alleged conduct to increase natural gas prices in violation of antitrust and similar laws.  The lawsuits seek treble damages, restitution and/or expenses.  The lawsuits also name a number of unaffiliated energy companies as parties.  In April 2007, a lawsuit in Tennessee was dismissed in our favor from an order of the Chancery Court of Tennessee for the Twenty-Fifth Judicial District at Somerville and an action brought by the Nevada Attorney General on behalf of gas consumers in Nevada was dismissed in our favor from the District Court of Clark County, Nevada.

One of the natural gas cases is a case filed by the Los Angeles Department of Water and Power (LADWP) in the California Superior Court in 2004.  The lawsuit alleges that we conspired to manipulate natural gas prices in breach of our supply contract with LADWP and in violation of California’s antitrust laws and the California False Claims Act.  The lawsuit seeks treble damages for the alleged overcharges (estimated to be $218 million) for gas purchased by LADWP, interest and legal costs.  The lawsuit also seeks (a) a determination that an extension of the contract with LADWP was invalid in that the required municipal approvals for the extension were allegedly not obtained and (b) a return of all money paid by LADWP during that period (estimated to be $681 million).

Criminal Proceeding — Reliant Energy Services.  In April 2004, a California federal grand jury indicted Reliant Energy Services, Inc. (Reliant Energy Services) and some of its former and current employees for alleged violations of the Commodity Exchange Act, wire fraud and on conspiracy charges.  In March 2007, Reliant Energy Services resolved its pending indictment through a Deferred Prosecution Agreement with the United States Attorney’s Office for the Northern District of California.  Under the agreement, the government agreed to dismiss the pending indictment and not to re-indict Reliant Energy Services for the conduct alleged in the pending indictment if Reliant Energy Services complies with the agreement for the next two years.  As part of the agreement, Reliant Energy Services paid a $22 million penalty in March 2007.  Reliant Energy Services also committed to continue to implement compliance measures and cooperate with the government in any related investigations.

PUCT Cases

There are various proceedings pending before the state district court in Travis County, Texas, seeking reviews of the Public Utility Commission of Texas (PUCT) orders relating to the fuel factor component used in our “price-to-beat” tariff.  These proceedings pertain to the same issues affirmed by a district court in Travis County and later by the Travis County Court of Appeals in 2004 in a separate proceeding.

(b)         Environmental Matters.

New Source Review Matters.  The United States Environmental Protection Agency (EPA) and various states are investigating compliance of coal-fueled electric generating stations with the “New Source Review” requirements of the Clean Air Act.  The EPA has agreed to share information relating to its investigations with state environmental agencies.  We are unable to predict the ultimate outcome of the EPA’s investigation.  In November 2005, we received a notice of intent to sue pursuant to the Clean Air Act from the state of New Jersey relating to one of our power plants located in Pennsylvania.  The allegations relate to conduct that occurred prior to our ownership of the power plant.  If the state of New Jersey sues us and is successful, we could incur significant capital expenditures associated with the implementation of emissions reductions on an accelerated basis and possible penalties.  In February 2007, the state of New Jersey filed suit against the EPA to force a ruling on the petition filed by the state of New Jersey relating to renewal of an air permit for our plant.

Ash Disposal Site Closures.  We are responsible for environmental costs related to the future closures of seven ash disposal sites.  Based on our evaluations with assistance from third-party consultants and engineers, we recorded the estimated discounted costs associated with these environmental liabilities as part of our asset retirement obligations.  See note 2(p) to our consolidated financial statements in our Form 10-K.

11

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Remediation Obligations.  We are responsible for environmental costs related to site contamination investigations and remediation requirements at four power plants in New Jersey.  Based on our evaluations with assistance from third-party consultants and engineers, we recorded the estimated liability for the remediation costs of $7 million as of March 31, 2007 and December 31, 2006.

New Castle Notice of Violation.  In December 2006, we received a Notice of Violation from the Pennsylvania Department of Environmental Protection regarding the elevation of the permitted coal ash landfill at our generating site in New Castle, Pennsylvania.  We are currently negotiating a penalty amount with the agency, which we estimate will be approximately $100,000.

Conemaugh Actions.  In April 2007, the Pennsylvania Department of Environmental Protection (PADEP) filed suit against us in the Court of Common Pleas of Indiana County, Pennsylvania.  In addition, in April 2007, PennEnvironment and the Sierra Club filed a citizens’ suit against us in the United States District Court, Western District of Pennsylvania.  Each suit alleges that the Conemaugh plant is in violation of its water discharge permit and related state and federal laws and seeks civil penalties, remediation and/or to enjoin violations.  The Conemaugh plant is jointly owned by us and seven other companies and is governed by a consent order agreement with the PADEP.  We are confident that the Conemaugh plant has operated and will continue to operate in material compliance with the consent order agreement, its water discharge permit and related state and federal laws.  However, if PADEP or PennEnvironment and the Sierra Club are successful, we could incur significant capital expenditures associated with the implementation of discharge reductions on an accelerated basis and possible penalties.

Water Quality.  In late March 2007, the EPA issued a notice that its final regulations relating to the design and operation of cooling water intake structures at existing power plants should be considered suspended.  This action was in response to the Second Circuit Court of Appeals’ January 2007 remand of the regulations for substantial revisions.  The EPA also instructed that any requirements for design, construction and operation of cooling water intake structures be assessed on a plant-by-plant basis on a best professional judgment basis as permits are renewed.

(c)          Other.

PUCT Complaint.  A market participant has filed a complaint at the PUCT relating to the Electric Reliability Council of Texas’s (ERCOT’s) procedure for allocating replacement reserve charges for 2006.  Although it is very early in the process and we are still evaluating the complaint, if the PUCT orders resettlement of the charges and depending on the method of resettlement, our share of the resettlement charges could be up to $25 million.

CenterPoint Indemnity.  We have agreed to indemnify CenterPoint against certain losses relating to the lawsuits described in note 10(a) under “Pending Electricity and Natural Gas Litigation — Natural Gas Actions.”  We have also agreed to indemnify CenterPoint against losses relating to an alleged breach of fiduciary duties in violation of the Employee Retirement Income Security Act in a class action lawsuit in the United States District Court for the Southern District of Texas.  The lawsuit seeks monetary damages and restitution.  In January 2006, the court granted CenterPoint’s motion for summary judgment and dismissed the case with prejudice.  The court’s decision is on appeal to the United States Court of Appeals for the Fifth Circuit.

Texas Franchise Audit.  The state of Texas has issued preliminary audit findings indicating an estimated tax liability of approximately $75 million (excluding any interest and penalties) relating primarily to the sourcing of receipts for 2000 through 2005.  We plan to contest any proposed audit assessment related to this issue and believe that it is more-likely-than-not that we will prevail.

Sales Tax Contingencies.  We have some estimated sales tax exposure.  As of March 31, 2007, we have $19 million accrued in current and long-term liabilities relating to these contingencies.

(11)  Supplemental Guarantor Information

Our wholly-owned subsidiaries are either (a) full and unconditional guarantors, jointly and severally, or (b) non-guarantors of the senior secured notes.  Effective with the December 2006 refinancing and the credit-enhanced retail structure, RERH Holdings, LLC and its subsidiaries, which comprise our Texas retail energy business, became non-guarantors.  We have retrospectively adjusted the three months ended March 31, 2006 to be comparable to 2007.

12

Condensed Consolidating Statements of Operations.

		Three Months Ended March 31, 2007
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments (1)			Consolidated
		(in millions)
Revenues		$	—		$	822		$	2,071		$	(531	)	$	2,362
Purchased power, fuel and cost of gas sold		—			869			1,102			(528		)	1,443
Operation and maintenance		—			59			175			(3		)	231
Selling, general and administrative		—			4			83			—			87
Western states and similar settlements		—			22			—			—			22
(Gains) losses on sales of assets and emission allowances, net		—			3			(3		)	—			—
Depreciation and amortization		—			48			44			—			92
Total		—			1,005			1,401			(531		)	1,875
Operating income (loss)		—			(183		)	670			—			487
Income of equity investment, net		—			1			—			—			1
Income of equity investments of consolidated subsidiaries		216			—			—			(216		)	—
Other, net		1			—			—			—			1
Interest expense		(56		)	(8		)	(23		)	—			(87		)
Interest income		4			3			3			—			10
Interest income (expense) – affiliated companies, net		91			(73		)	(18		)	—			—
Total other income (expense)		256			(77		)	(38		)	(216		)	(75		)
Income (loss) from continuing operations before income taxes		256			(260		)	632			(216		)	412
Income tax expense (benefit)		(3		)	(74		)	229			—			152
Income (loss) from continuing operations		259			(186		)	403			(216		)	260
Loss from discontinued operations		—			—			(1		)	—			(1		)
Net income (loss)		$	259		$	(186	)	$	402		$	(216	)	$	259

 

		Three Months Ended March 31, 2006
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments (1)			Consolidated
		(in millions)
Revenues		$	—		$	2,237		$	1,856		$	(1,640	)	$	2,453
Purchased power, fuel and cost of gas sold		—			2,234			1,656			(1,640		)	2,250
Operation and maintenance		—			42			143			—			185
Selling, general and administrative		—			(1		)	71			—			70
(Gain) loss on sales of receivables		—			2			(2		)	—			—
Gains on sales of assets and emission allowances, net		—			(18		)	(133		)	—			(151		)
Depreciation and amortization		—			39			42			—			81
Total		—			2,298			1,777			(1,640		)	2,435
Operating income (loss)		—			(61		)	79			—			18
Income (loss) of equity investments of consolidated subsidiaries		(43		)	21			1			21			—
Interest expense		(76		)	(9		)	(23		)	—			(108		)
Interest income		—			7			2			—			9
Interest income (expense) – affiliated companies, net		55			(70		)	15			—			—
Total other expense		(64		)	(51		)	(5		)	21			(99		)
Income (loss) from continuing operations before income taxes		(64		)	(112		)	74			21			(81		)
Income tax expense (benefit)(2)		64			(41		)	35			—			58
Income (loss) from continuing operations		(128		)	(71		)	39			21			(139		)
Income (loss) from discontinued operations		(5		)	(1		)	11			—			5
Cumulative effect of accounting change, net of tax		—			1			—			—			1
Net income (loss)		$	(133	)	$	(71	)	$	50		$	21		$	(133	)

 

(1)          These amounts relate to either (a) eliminations and adjustments recorded in the normal consolidation process or (b) reclassifications recorded due to differences in classifications at the subsidiary levels compared to the consolidated level.

(2)          During the three months ended March 31, 2006, we recorded a federal valuation allowance of $70 million related to our net federal deferred tax assets.  These amounts are reflected in the “Reliant Energy” column.  See note 8.

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Condensed Consolidating Balance Sheets.

		March 31, 2007
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments (1)			Consolidated
		(in millions)
ASSETS
Current Assets:
Cash and cash equivalents		$	237		$	1		$	251		$	(1	)	$	488
Restricted cash		—			2			8			1			11
Accounts and notes receivable, principally customer, net		17			255			757			(9		)	1,020
Accounts and notes receivable - affiliated companies		1,796			356			240			(2,392		)	—
Inventory		—			117			126			—			243
Derivative assets		—			66			217			—			283
Other current assets		—			402			261			(35		)	628
Current assets of discontinued operations		—			—			3			—			3
Total current assets		2,050			1,199			1,863			(2,436		)	2,676
Property, Plant and Equipment, net		—			3,009			2,697			—			5,706
Other Assets:
Goodwill		—			51			210			119			380
Other intangibles, net		—			131			290			—			421
Notes receivable – affiliated companies		3,383			809			94			(4,286		)	—
Equity investments of consolidated subsidiaries		1,652			309			—			(1,961		)	—
Derivative assets		—			60			172			—			232
Other long-term assets		71			854			405			(698		)	632
Total other assets		5,106			2,214			1,171			(6,826		)	1,665
Total Assets		$	7,156		$	6,422		$	5,731		$	(9,262	)	$	10,047
LIABILITIES AND EQUITY
Current Liabilities:
Current portion of long-term debt and short-term borrowings		$	4		$	—		$	355		$	—		$	359
Accounts payable, principally trade		—			175			493			(8		)	660
Accounts and notes payable – affiliated companies		—			2,031			361			(2,392		)	—
Derivative liabilities		—			264			248			—			512
Other current liabilities		54			116			290			(36		)	424
Current liabilities of discontinued operations		—			—			3			—			3
Total current liabilities		58			2,586			1,750			(2,436		)	1,958
Other Liabilities:
Notes payable – affiliated companies		—			3,302			984			(4,286		)	—
Derivative liabilities		—			74			249			—			323
Other long-term liabilities		569			161			279			(698		)	311
Total other liabilities		569			3,537			1,512			(4,984		)	634
Long-term Debt		2,248			500			426			—			3,174
Commitments and Contingencies
Temporary Equity Stock-based Compensation		2			—			—			—			2
Total Stockholders’ Equity (Deficit)		4,279			(201		)	2,043			(1,842		)	4,279
Total Liabilities and Equity		$	7,156		$	6,422		$	5,731		$	(9,262	)	$	10,047

 

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		December 31, 2006
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments (1)			Consolidated
		(in millions)
ASSETS
Current Assets:
Cash and cash equivalents		$	286		$	24		$	154		$	—		$	464
Restricted cash		—			—			25			—			25
Accounts and notes receivable, principally customer, net		10			264			779			(9		)	1,044
Accounts and notes receivable – affiliated companies		1,737			418			259			(2,414		)	—
Inventory		—			144			131			—			275
Derivative assets		—			61			429			—			490
Other current assets		7			529			354			(17		)	873
Current assets of discontinued operations		—			—			2			—			2
Total current assets		2,040			1,440			2,133			(2,440		)	3,173
Property, Plant and Equipment, net		—			3,044			2,698			—			5,742
Other Assets:
Goodwill		—			51			212			119			382
Other intangibles, net		—			131			293			—			424
Notes receivable – affiliated companies		3,249			789			94			(4,132		)	—
Equity investments of consolidated subsidiaries		1,377			328			5			(1,710		)	—
Derivative assets		—			77			127			—			204
Other long-term assets		76			730			400			(564		)	642
Total other assets		4,702			2,106			1,131			(6,287		)	1,652
Total Assets		$	6,742		$	6,590		$	5,962		$	(8,727	)	$	10,567
LIABILITIES AND EQUITY
Current Liabilities:
Current portion of long-term debt and short-term borrowings		$	3		$	—		$	352		$	—		$	355
Accounts payable, principally trade		—			224			444			(3		)	665
Accounts and notes payable – affiliated companies		—			2,021			393			(2,414		)	—
Derivative liabilities		—			238			927			—			1,165
Other current liabilities		55			159			313			(23		)	504
Current liabilities of discontinued operations		—			—			3			—			3
Total current liabilities		58			2,642			2,432			(2,440		)	2,692
Other Liabilities:
Notes payable – affiliated companies		—			3,251			881			(4,132		)	—
Derivative liabilities		—			77			344			—			421
Other long-term liabilities		484			167			237			(564		)	324
Total other liabilities		484			3,495			1,462			(4,696		)	745
Long-term Debt		2,248			501			429			—			3,178
Commitments and Contingencies
Temporary Equity Stock-based Compensation		2			—			—			—			2
Total Stockholders’ Equity (Deficit)		3,950			(48		)	1,639			(1,591		)	3,950
Total Liabilities and Equity		$	6,742		$	6,590		$	5,962		$	(8,727	)	$	10,567

 

(1)          These amounts relate to either (a) eliminations and adjustments recorded in the normal consolidation process or (b) reclassifications recorded due to differences in classifications at the subsidiary levels compared to the consolidated level.

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Condensed Consolidating Statements of Cash Flows.

		Three Months Ended March 31, 2007
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments(1)			Consolidated
		(in millions)
Cash Flows from Operating Activities:
Net cash provided by (used in) continuing operations from operating activities		$	38		$	(128	)	$	125		$	—		$	35
Net cash used in discontinued operations from operating activities		—			—			(1		)	—			(1		)
Net cash provided by (used in) operating activities		38			(128		)	124			—			34
Cash Flows from Investing Activities:
Capital expenditures		—			(8		)	(34		)	—			(42		)
Investments in, advances to and from and distributions from subsidiaries, net (2)		(103		)	—			—			103			—
Net sales (purchases) of emission allowances		—			10			(11		)	—			(1		)
Restricted cash		—			(2		)	17			(1		)	14
Net cash used in continuing operations from investing activities		(103		)	—			(28		)	102			(29		)
Net cash used in investing activities		(103		)	—			(28		)	102			(29		)
Cash Flows from Financing Activities:
Payments of long-term debt		—			—			(3		)	—			(3		)
Increase in short-term borrowings and revolving credit facilities, net		—			—			6			—			6
Changes in notes with affiliated companies, net (3)		—			105			(2		)	(103		)	—
Payments of financing costs		(1		)	—			—			—			(1		)
Proceeds from issuances of stock		17			—			—			—			17
Net cash provided by continuing operations from financing activities		16			105			1			(103		)	19
Net cash provided by financing activities		16			105			1			(103		)	19
Net Change in Cash and Cash Equivalents		(49		)	(23		)	97			(1		)	24
Cash and Cash Equivalents at Beginning of Period		286			24			154			—			464
Cash and Cash Equivalents at End of Period		$	237		$	1		$	251		$	(1	)	$	488

 

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		Three Months Ended March 31, 2006
		Reliant Energy			Guarantors			Non-Guarantors			Adjustments(1)			Consolidated
		(in millions)
Cash Flows from Operating Activities:
Net cash provided by (used in) continuing operations from operating activities		$	(34	)	$	(259	)	$	65		$	—		$	(228	)
Net cash provided by (used in) discontinued operations from operating activities		3			(5		)	9			—			7
Net cash provided by (used in) operating activities		(31		)	(264		)	74			—			(221		)
Cash Flows from Investing Activities:
Capital expenditures		—			(8		)	(14		)	—			(22		)
Investments in, advances to and from and distributions from subsidiaries, net (2)		251			—			(209		)	(42		)	—
Proceeds from sales of assets, net		—			—			1			—			1
Proceeds from sales of emission allowances		—			97			91			—			188
Restricted cash		—			—			19			(53		)	(34		)
Other, net		—			3			—			—			3
Net cash provided by (used in) continuing operations from investing activities		251			92			(112		)	(95		)	136
Net cash provided by discontinued operations from investing activities		712			—			968			(712		)	968
Net cash provided by investing activities		963			92			856			(807		)	1,104
Cash Flows from Financing Activities:
Payments of long-term debt		(318		)	—			(3		)	—			(321		)
Increase in short-term borrowings and revolving credit facilities, net		26			—			1			—			27
Changes in notes with affiliated companies, net (3)		—			156			(198		)	42			—
Proceeds from issuances of stock		5			—			—			—			5
Net cash provided by (used in) continuing operations from financing activities		(287		)	156			(200		)	42			(289		)
Net cash used in discontinued operations from financing activities		(638		)	—			(712		)	712			(638		)
Net cash provided by (used in) financing activities		(925		)	156			(912		)	754			(927		)
Net Change in Cash and Cash Equivalents		7			(16		)	18			(53		)	(44		)
Cash and Cash Equivalents at Beginning of Period		3			36			49			—			88
Cash and Cash Equivalents at End of Period		$	10		$	20		$	67		$	(53	)	$	44

 

(1)          These amounts relate to either (a) eliminations and adjustments recorded in the normal consolidation process or (b) reclassifications recorded due to differences in classifications at the subsidiary levels compared to the consolidated level.

(2)          Net investments in, advances to and from and distributions from subsidiaries are classified as investing activities.

(3)          Net changes in notes with affiliated companies are classified as financing activities for subsidiaries of Reliant Energy and as investing activities for Reliant Energy.

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(12)  Reportable Segments

Financial data for our segments are as follows:

		Retail Energy			Wholesale  Energy			Other  Operations			Eliminations			Consolidated
		(in millions)
Three months ended
March 31, 2007 (except as denoted):
Revenues from external customers		$	1,701		$	661		$	—		$	—		$	2,362
Intersegment revenues		—			87			3			(90		)	—
Purchased power, fuel and cost of gas sold		909			621			—			(87		)	1,443
Gross margin, including unrealized gains/losses on energy derivatives(1)		792			127			3			(3		)	919
Contribution margin, including unrealized gains/losses on energy derivatives (2)		684			(42		)	2			(2		)	642
Total assets as of March 31, 2007		1,834			8,173			665		(3)	(625		)	10,047
Three months ended
March 31, 2006 (except as denoted):
Revenues from external customers		$	1,687		$	765		$	1		$	—		$	2,453
Intersegment revenues		—			146			—			(146		)	—
Purchased power, fuel and cost of gas sold		1,694			702			—			(146		)	2,250
Gross margin, including unrealized gains/losses on energy derivatives (1)		(7		)	209			1			—			203
Contribution margin, including unrealized gains/losses on energy derivatives (2)		(96		)	78			1			—			(17		)
Total assets as of December 31, 2006		1,984			8,402			848		(4)	(667		)	10,567

 

(1)          Gross margin (revenues less purchased power, fuel and cost of gas sold) excludes depreciation, amortization, labor and other product costs.

(2)          Gross margin less (a) operation and maintenance, (b) selling and marketing and (c) bad debt expense.

(3)          Other operations include discontinued operations of $3 million.

(4)          Other operations include discontinued operations of $2 million.

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		Three Months Ended March 31,
		2007			2006
		(in millions)
Reconciliation of Contribution Margin to Operating Income and Operating Income to Net Income (Loss):
Contribution margin, including unrealized gains/losses on energy derivatives		$	642		$	(17	)
Other general and administrative		41			35
Western states and similar settlements		22			—
Gains on sales of assets and emission allowances, net		—			(151		)
Depreciation		87			74
Amortization		5			7
Operating income		487			18
Income of equity investment, net		1			—
Other, net		1			—
Interest expense		(87		)	(108		)
Interest income		10			9
Income (loss) from continuing operations before income taxes		412			(81		)
Income tax expense		152			58
Income (loss) from continuing operations		260			(139		)
Income (loss) from discontinued operations		(1		)	5
Income (loss) before cumulative effect of accounting change		259			(134		)
Cumulative effect of accounting change, net of tax		—			1
Net income (loss)		$	259		$	(133	)

 

(13)  Sales of Assets and Emission Allowances

Emission Allowances.  Sales consist of:

		Three Months ended March 31,
		2007			2006
		(in millions)
SO2(1) allowances		$	—		$	187	(2)
		$	—		$	187

 

(1)          SO2 is sulfur dioxide.

(2)          Sold 157,000 tons relating to 2006 through 2009 vintage years.

Summary of Gains and Losses.

		Three Months Ended March 31,
		2007			2006
		(in millions)
Emission allowances		$	—		$	151
Gains on sales of assets and emission allowances, net		$	—		$	151

 

(14)  Discontinued Operations

(a)   New York Plants.

General.  In February 2006, we closed on the sale of our three remaining New York plants with an aggregate net generating capacity of approximately 2,100 megawatts (MW) for $979 million.  During the third quarter of 2005, we began to report the results of the New York plants as discontinued operations.  These plants were a part of our wholesale energy segment.

Use of Proceeds.  We applied $952 million of cash proceeds, which is net of estimated city, state and transfer taxes and transaction costs, to pay down our senior secured term loans.

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Assumptions Related to Debt, Deferred Financing Costs and Interest Expense on Discontinued Operations.  Based on our contractual obligation (at the time the purchase and sale agreement was executed) to utilize a portion of the net proceeds from the sale to prepay debt, we classified $638 million of debt as discontinued operations as of December 31, 2005 and through the date of sale.  We also classified as discontinued operations the related deferred financing costs and interest expense on this debt.  We allocated $15 million of related interest expense during the three months ended March 31, 2006 to discontinued operations.

(b)   All Discontinued Operations.

The following summarizes certain financial information of the businesses reported as discontinued operations:

		New York Plants
		(in millions)
Three months ended March 31, 2007:
Revenues		$	(1	)
Loss before income tax expense/benefit		(1		)
Three months ended March 31, 2006:
Revenues		$	112
Loss before income tax expense/benefit		(2		)

 

The following summarizes the assets and liabilities related to our New York discontinued operations:

		March 31, 2007			December 31, 2006
		(in millions)
Current Assets:
Accounts receivable, net		$	3		$	2
Total current assets		3			2
Total Assets		$	3		$	2
Current Liabilities:
Other current liabilities		$	3		$	3
Total current liabilities		3			3
Total Liabilities		$	3		$	3

 

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