WISCONSIN ELECTRIC POWER CO - Quarter Report: 2003 March (Form 10-Q)

 1.

The accompanying unaudited consolidated condensed financial statements for Wisconsin Electric Power Company should be read in conjunction with Item 8, Financial Statements and Supplementary Data, in Wisconsin Electric's 2002 Annual Report on Form 10-K. In the opinion of management, all adjustments, normal and recurring in nature, necessary to a fair statement of the results of operations, cash flows and financial position of Wisconsin Electric, have been included in the accompanying income statements, statements of cash flows and balance sheets. The results of operations for the three months ended March 31, 2003 are not necessarily indicative of the results which may be expected for the entire fiscal year 2003 because of seasonal and other factors.

 2.

Wisconsin Electric has modified certain cash flow presentations. Prior year financial statement amounts have been reclassified to conform to their current year presentation. These reclassifications had no effect on operating cash flows.

 3.

Asset Retirement Obligations:   The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 143, Accounting for Asset Retirement Obligations, effective January 1, 2003. Under SFAS 143, entities are required to record the fair value of a legal liability for an asset retirement obligation in the period in which it is incurred. When a new liability is recorded the entity capitalizes the costs of the liability by increasing the carrying amount of the related long-lived asset. The liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. At retirement, an entity settles the obligation for its recorded amount or incurs a gain or loss.

As it relates to regulated operations, the Company believes it is probable that any differences between expenses under SFAS 143 and expenses recovered currently in rates will be recoverable in future rates, and is deferring such expenses as a regulatory asset.

The Company has completed a detailed assessment of the specific applicability and implications of SFAS 143. The scope of SFAS 143 includes primarily decommissioning costs for the Point Beach Nuclear Plant ("Point Beach"). It also applies to several other utility assets, including removal of certain coal handling equipment and water intake facilities located on lakebeds, and the dismantlement of certain hydro facilities. Other than for Point Beach, the Company's asset retirement obligations are not significant.

Prior to January 2003, the Company recorded nuclear decommissioning charges in Accumulated Depreciation. Upon adoption of SFAS 143, the Company reversed the $550 million it had previously recorded in Accumulated Depreciation, and recorded a liability of approximately $675 million and a plant asset of approximately $127 million with offsetting accumulated depreciation of approximately $97 million. The approximate $95 million difference between amounts recorded prior to January 2003 and the net SFAS 143 liability is being deferred as a regulatory asset. The asset retirement obligations for the removal of certain coal handling equipment

and water intake facilities located on lakebeds have not been recorded because the amounts cannot be reasonably estimated.

The following table presents the details of the Company's asset retirement obligations which are included on the consolidated balance sheet in "Deferred Credits and Other Liabilities".

Balance at

Liabilities

Liabilities

Cash flow

Balance at

12/31/02

Incurred

Settled

Accretion

revisions

3/31/03

(Millions of Dollars)

Wisconsin Electric

$  -      

$675.4   

$  -     

$8.6    

$  -      

$684.0     

The following table presents pro forma information as if SFAS 143 had been adopted at the beginning of fiscal 2002.

Three Months Ended March 31

Twelve Months Ended December 31

   2003   

   2002   

   2002   

   2001   

   2000   

(Millions of Dollars)

Liabilities Incurred

   Reported

$684.0    

$  -    

$  -    

$  -    

$  -    

   Pro forma

$684.0    

$650.3    

$675.4    

$642.1    

$610.4    

The regulated operations of the Company also collect removal costs in rates for certain assets that do not have associated legal asset retirement obligations. As of March 31, 2003, the Company estimates that it has approximately $400 million related to removal costs recorded in Accumulated Depreciation.

Variable Interest Entities:   In January 2003, the Financial Accounting Standards Board issued Interpretation 46, Consolidation of Variable Interest Entities. This standard will require an enterprise that is the primary beneficiary of a variable interest entity to consolidate that entity. The Interpretation must be applied to any existing interests in variable interest entities beginning in the third quarter of 2003. The Company does not expect to consolidate any existing interest in unconsolidated entities as a result of Interpretation 46.

 4.

Comprehensive Income:   Comprehensive Income includes all changes in equity during a period except those resulting from investments by and distributions to owners. Wisconsin Electric had the following total Comprehensive Income during the three months ended March 31, 2003 and 2002:

 5.

The Company follows SFAS 133, Accounting for Derivative Instruments and Hedging Activities, which requires that every derivative instrument be recorded on the balance sheet as an asset or liability measured at its fair value and that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met. For any electric-related contracts in Wisconsin Electric's regulated electric operations that qualify as derivatives under SFAS 133, the Public Service Commission of Wisconsin ("PSCW") allows the effects of the fair market value accounting to be offset to regulatory assets and liabilities.

 6.

Wisconsin Electric enters into various guarantees to provide financial and performance assurance to third parties. As of March 31, 2003, Wisconsin Electric had the following guarantees:

Wisconsin Electric guarantees support the commercial paper and line of credit borrowings for the Wisconsin Electric Fuel Trust. Wisconsin Electric also guarantees the potential retrospective premiums that could be assessed under Wisconsin Electric's nuclear insurance program.

Postemployment benefits:   Postemployment benefits provided to former or inactive employees are recognized when an event occurs. The estimated liability for such benefits has not changed significantly from the $6.4 million accrual recorded by the Company as of December 31, 2002.

 7.

Summarized financial information concerning Wisconsin Electric's reportable operating segments for the three month periods ended March 31, 2003 and 2002 is shown in the following table.

 8.

Environmental Matters:   The Company periodically reviews its exposure for remediation costs as evidence becomes available indicating that its remediation liability has changed. Given current information, management believes that future costs in excess of the amounts accrued and/or disclosed on all presently known and quantifiable environmental contingencies will not be material to the Company's financial position or results of operations.

EPA Information Requests:   Wisconsin Electric received a request for information from the United States Environmental Protection Agency ("U.S. EPA") regional offices pursuant to Section 114(a) of the Clean Air Act in December 2000 and a supplemental request in December 2002. The Company and U.S. EPA have resolved all issues related to this matter through a comprehensive agreement under which Wisconsin Electric will significantly reduce its air emissions from its coal-fired generating facilities. The reductions will be achieved between now and 2013 through a combination of installing new pollution control equipment, upgrading existing equipment, and retiring certain older units. The capital cost of implementing this agreement is estimated to be approximately $600 million over 10 years. Under the agreement with U.S. EPA, Wisconsin Electric will spend between $20 and $25 million to conduct a research project at its Presque Isle facility, in cooperation with U.S. Department of Energy, to test new mercury reduction technologies. These steps and the associated costs are consistent with the Company's cost projections for implementing its Wisconsin Multi-Emission Cooperative Agreement and Power the Future plan. Wisconsin Electric will also pay a civil penalty of $3.2 million. This agreement is subject to federal court approval.

 9.

Long-Term Debt:   The Company issued $635 million of unsecured Debentures on May 6, 2003 ($300 million of ten year 4.50% Debentures due 2013 and $335 million of thirty year 5.625% Debentures due 2033). The Company used a portion of the proceeds from the offering to repay $150 million of short-term debt incurred to retire debt that matured in December 2002. The balance of the proceeds will be temporarily invested pending the Company's optional redemption of $425 million principal amount of four issues of the Company's debt securities in June 2003 that were called for optional redemption in May 2003 and $60 million principal amount of one debt issue pending its call for optional redemption, which the Company expects to occur in August 2003, or used to temporarily reduce short-term debt until the funds are needed to effect the redemptions.

ITEM 2.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS