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The following is an excerpt from a 10-Q SEC Filing, filed by GENON MID-ATLANTIC, LLC on 5/10/2012.
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GENON MID-ATLANTIC, LLC - 10-Q - 20120510 - MANAGEMENT_ANALYSIS

Table of Contents

 

ITEM 2.                         MANAGEMENT’S NARRATIVE ANALYSIS OF THE RESULTS OF OPERATIONS AND FINANCIAL CONDITION

 

This section is intended to provide the reader with information that will assist in understanding GenOn Americas Generation’s and GenOn Mid-Atlantic’s interim financial statements, the changes in those financial statements from period to period and the primary factors contributing to those changes.  The following discussion should be read in conjunction with GenOn Americas Generation’s and GenOn Mid-Atlantic’s interim financial statements and their 2011 Annual Report on Form 10-K.  The results of operations by segment (for GenOn Americas Generation) and critical accounting estimates have been omitted from this Item 2 pursuant to the reduced disclosure format permitted by General Instruction H(2) to Form 10-Q.  For discussion on the segments for GenOn Americas Generation, see note 7 to our interim financial statements.

 

Overview

 

GenOn Americas Generation is a wholesale generator with approximately 9,279 MW of net electric generating capacity located, in many cases, near major metropolitan load centers in the Eastern PJM and Northeast regions and northern California.  GenOn Mid-Atlantic is a wholesale generator with approximately 5,209 MW of net electric generating capacity located near major metropolitan load centers in the Eastern PJM region.  GenOn Americas Generation provides GenOn Mid-Atlantic with services that consist primarily of dispatching electricity, hedging the price of electricity we expect to generate, selling capacity and procuring and managing fuel and providing logistical support for the operation of the facilities (for example, by procuring transportation for coal and natural gas).  GenOn Americas Generation also operates integrated asset management and proprietary trading operations.  Our customers are principally ISOs, RTOs and investor-owned utilities.

 

Hedging Activities

 

We hedge economically a substantial portion of our PJM coal-fired baseload generation and certain of our other generation (for GenOn Americas Generation).  We generally do not hedge our intermediate and peaking units for tenors greater than 12 months.  We hedge economically using products which we expect to be effective to mitigate the price risk of our generation.  However, as a result of market liquidity limitations, our hedges often are not an exact match for the generation being hedged, and we have some risks resulting from price differentials for different delivery points.  In addition, we have risks for implied differences in heat rates when we hedge economically power using natural gas.  Currently, a significant portion of our hedges are financial swap transactions between GenOn Mid-Atlantic and financial counterparties that are senior unsecured obligations of GenOn Mid-Atlantic and the counterparties and do not require either party to post cash collateral for initial margin and, except as described in the next sentence, changes in power or natural gas prices.  Beginning in April 2012, certain agreements entered into by GenOn Mid-Atlantic were amended to provide for the counterparty thereto to post collateral to secure credit exposure above the agreed threshold as a result of changes in power or natural gas prices.  Some of GenOn Mid-Atlantic’s hedges are executed through an affiliate owned by GenOn Americas Generation.  At April 9, 2012, GenOn Americas Generation’s aggregate hedge levels based on expected generation were as follows:

 

 

 

2012 (1)

 

2013

 

2014

 

2015

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

 

Power

 

99

%

81

%

44

%

28

%

26

%

Fuel

 

78

%

63

%

11

%

%

%

 


(1)           Percentages represent the period from May through December 2012.

 

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At April 9, 2012, GenOn Mid-Atlantic’s aggregate hedge levels based on expected generation were as follows:

 

 

 

2012 (1)

 

2013

 

2014

 

2015

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

 

Power

 

104

%

89

%

48

%

30

%

27

%

Fuel

 

80

%

69

%

12

%

%

%

 


(1)           Percentages represent the period from May through December 2012.

 

Dodd-Frank Act

 

The Dodd-Frank Act, which was enacted in July 2010, increases the regulation of transactions involving OTC derivative financial instruments.  The statute provides that standardized swap transactions between dealers and large market participants will have to be cleared and traded on an exchange or electronic platform.  Although the provisions and legislative history of the Dodd-Frank Act provide strong evidence that market participants, such as us, which utilize OTC derivative financial instruments to hedge commercial risks are not to be subject to these clearing and exchange-trading requirements, it is uncertain what the final implementing regulations will provide.  Under the Dodd-Frank Act, entities defined as “swap dealers” and “major swap participants” (SD/MSPs) will face costly requirements for clearing and posting margin, as well as additional requirements for reporting and business conduct.  The Commodity Futures Trading Commission and the United States Securities and Exchange Commission voted in April 2012 to adopt a joint rule further defining the terms “swap dealer” and “major swap participant” among others.  The final entity definition rule was released in late April 2012, and we are currently reviewing the rule to determine the impact, if any, on our commercial activity.  Although we do not expect our commercial activity to result in our designation as an SD/MSP, the “swap dealer” definition in particular is ambiguous in certain respects and the designation as such will be decided by facts and circumstance tests.

 

Capital Expenditures and Capital Resources

 

During the three months ended March 31, 2012, GenOn Americas Generation invested $22 million (of which $17 million relates to GenOn Mid-Atlantic) for capital expenditures, excluding capitalized interest paid.  Capital expenditures for the period primarily relate to maintenance capital expenditures and the construction of an ash beneficiation facility.  At March 31, 2012, we have invested $1.592 billion of the $1.674 billion that was budgeted for capital expenditures related to compliance with the Maryland Healthy Air Act.  Provisions in the construction contracts for the scrubbers at our Maryland coal-fired units provide for certain payments to be made after final completion of the projects.  See note 8 to our interim financial statements for further discussion involving the scrubber contract litigation.

 

The following table details the expected timing of payments for GenOn Americas Generation’s estimated capital expenditures for the remainder of 2012 and 2013:

 

 

 

April 1, 2012
through
December 31, 2012

 

2013

 

 

 

(in millions)

 

 

 

 

 

 

 

Maryland Healthy Air Act

 

$

82

 

$

 

Other environmental

 

14

 

19

 

Maintenance

 

41

 

67

 

Other construction

 

10

 

 

Total

 

$

147

 

$

86

 

 

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The following table details the expected timing of payments for GenOn Mid-Atlantic’s estimated capital expenditures for the remainder of 2012 and 2013:

 

 

 

April 1, 2012
through
December 31, 2012

 

2013

 

 

 

(in millions)

 

 

 

 

 

 

 

Maryland Healthy Air Act

 

$

82

 

$

 

Other environmental

 

5

 

3

 

Maintenance

 

23

 

48

 

Other construction

 

10

 

 

Total

 

$

120

 

$

51

 

 

We expect that available cash and future cash flows from operations will be sufficient to fund these capital expenditures.  Other environmental capital expenditures set forth above could significantly increase subject to the content and timing of final rules and future market conditions.

 

We expect industry retirements of coal-fired generating facilities to contribute to a tightening of supply and demand fundamentals and higher prices for the remaining generating facilities will more than offset reduced earnings from our unit retirements.  Consequently, we expect the resulting higher market prices to provide adequate returns on investment in environmental controls necessary to meet promulgated and anticipated requirements.  Accordingly, we expect to invest approximately $373 million to $487 million, including $341 million to $452 million for Chalk Point unit 2 and Dickerson at GenOn Mid-Atlantic and $32 million to $35 million at Kendall, over the next ten years for selective catalytic reduction emissions controls and other major environmental controls to meet certain air and water quality requirements, which we expect to fund from existing sources of liquidity.

 

Environmental Matters

 

Federal Rules Regarding CO 2 .  In April 2012, the EPA proposed a rule under the New Source Performance Standard section of the Clean Air Act that will limit the CO 2  emissions from new fossil-fuel-fired boilers, integrated gasification combined cycle units and stationary combined cycle turbine units greater than 25 MWs.  The proposed limit is 1000 pounds of CO 2  per MWh, which cannot be achieved by coal-fired units unless technology to capture and store CO 2  is installed, which is not commercially available and faces several unresolved legal and regulatory issues.  The proposed rule does not apply to simple cycle combustion turbines or existing units.  Even though this proposed rule has not been finalized, it is applicable from the time it was proposed unless the EPA issues a final rule that is different or the courts or the United States Congress modify it.  We expect the EPA to issue another rule that will require states to develop CO 2  standards that would be applicable to existing fossil-fueled generating facilities.

 

Canal NPDES and SWD Permit.   In August 2008, the EPA renewed the NPDES permit for the Canal generating facility but sought to impose a requirement that the facility install a closed cycle cooling system.  The same permit was concurrently issued by MADEP as a state SWD permit.  We appealed both the NPDES permit and the SWD permit.  In December 2008, the EPA requested a stay to the appeal proceedings, withdrew the provisions related to the closed cycle cooling requirements and re-noticed those provisions for additional public comment.  Rather than grant the stay sought by the EPA, the Environmental Appeals Board has dismissed the appeal without prejudice.  The parallel MADEP proceeding, which had been stayed, also has been dismissed without prejudice.  In the absence of permit renewals, the Canal generating facility will continue to operate under its current NPDES and SWD permits.

 

Regulatory Matters

 

State and local regulatory authorities historically have overseen the distribution and sale of electricity at retail to the ultimate end user, as well as the siting, permitting and construction of generating and transmission facilities.

 

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In some markets, state regulators have proposed initiatives to provide long-term contracts for new generating capacity in order, among other things, to reduce future capacity prices in PJM.  In September 2011, the MPSC issued a request for proposal for up to 1,500 MWs of new natural gas-fired generating capacity to be located in the Southwestern Mid-Atlantic Area Council zone of PJM.  The order provided for project submittals in January 2012 and a MPSC hearing, later in January 2012, to determine whether new generating capacity is needed to meet the long-term anticipated demand in Maryland.  We filed comments with the MPSC stating there is no need for additional capacity at this time.  In April 2012, the MPSC ordered the state’s three public utility companies to enter into a contract with CPV Maryland, LLC for the output of a new 661 MW combined cycle facility in the Southwestern Mid-Atlantic Area Council zone of PJM to be constructed and operational by 2015.  The contract will require that the generating facility be bid into the PJM capacity market in a manner consistent with the PJM tariff.  On April 27, 2012, certain companies (not including us) filed in U.S. District Court for Maryland a complaint for declaratory and injunctive relief barring the implementation of the MPSC order.  We expect that the MPSC will continue to seek additional contracts for new generating capacity.  Such contracts could result in reduced future capacity prices and energy prices in PJM.

 

Commodity Prices and Generation Volumes

 

The prices for power and natural gas are low compared to several years ago.  The energy gross margin from our baseload coal units is negatively affected by these price levels.  For that portion of the volumes of generation that we have hedged, we are generally unaffected by subsequent changes in commodity prices because our realized gross margin will reflect the contractual prices of our power and fuel contracts.  We continue to add economic hedges to manage the risks associated with volatility in prices and to achieve more predictable realized gross margin.  However, we expect realized gross margin will be lower for 2012 compared with 2011.

 

We experienced a decrease in power generation volumes during the three months ended March 31, 2012, as compared to the same period in 2011, particularly in GenOn Americas Generation’s Eastern PJM segment (GenOn Mid-Atlantic).  The decrease in generation occurred primarily at our coal-fired facilities and was caused by a combination of unseasonably mild weather and contracting dark spreads resulting from decreasing natural gas prices.  Consequently, we have significant coal inventories at our generating facilities and, in the case of our GenOn Mid-Atlantic facilities, such inventories are at the maximum available storage capacity of such facilities.  As it is impossible for us to take coal at such facilities, we have issued notices of force majeure under the respective coal contracts.  A number of the suppliers dispute our invocation of force majeure.  In our communications with the affected coal suppliers, we have advised them that we expect to take all the coal for which we have contracted, at the contracted prices, as we are able to do so.

 

Results of Operations

 

Non-GAAP Performance Measures.   The following discussion includes the non-GAAP financial measures realized gross margin and unrealized gross margin to reflect how we manage our business.  In our discussion of the results, we include the components of realized gross margin, which are energy, contracted and capacity, and realized value of hedges.  Management generally evaluates our operating results excluding the impact of unrealized gains and losses.  When viewed with our GAAP financial results, these non-GAAP financial measures may provide a more complete understanding of factors and trends affecting our business.  Realized gross margin represents our gross margin (excluding depreciation and amortization) less unrealized gains and losses on derivative financial instruments.  Conversely, unrealized gross margin represents our unrealized gains and losses on derivative financial instruments.  None of our derivative financial instruments recorded at fair value is designated as a hedge and changes in their fair values are recognized currently in income as unrealized gains or losses.  As a result, our financial results are, at times, volatile and subject to fluctuations in value primarily because of changes in forward electricity and fuel prices.  Realized gross margin, together with its components energy, contracted and capacity, and realized value of hedges, provide a measure of performance that eliminates the volatility reflected in unrealized gross margin, which is created by significant shifts in market values between periods.

 

We use these non-GAAP financial measures in communications with investors, analysts, rating agencies, banks and other parties.  We think these non-GAAP financial measures provide meaningful representations of our

 

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consolidated operating performance and are useful to us and others in facilitating the analysis of our results of operations from one period to another.  We encourage our investors to review our financial statements and other publicly filed reports in their entirety and not to rely on a single financial measure.

 

The foregoing non-GAAP financial measures may not be comparable to similarly titled non-GAAP financial measures used by other companies.

 

Three Months Ended March 31, 2012 Compared to Three Months Ended March 31, 2011

 

GenOn Americas Generation

 

We reported net income of $46 million and net loss of $18 million during the three months ended March 31, 2012 and 2011, respectively.  The change in net income/loss is detailed as follows:

 

 

 

Three Months
Ended March 31,

 

Increase/

 

 

 

2012

 

2011

 

(Decrease)

 

 

 

(in millions)

 

Gross Margin:

 

 

 

 

 

 

 

Energy

 

$

(16

)

$

97

 

$

(113

)

Contracted and capacity

 

85

 

121

 

(36

)

Realized value of hedges

 

127

 

67

 

60

 

Total realized gross margin

 

196

 

285

 

(89

)

Unrealized gross margin

 

49

 

(71

)

120

 

Total gross margin (excluding depreciation and amortization)

 

245

 

214

 

31

 

Operating Expenses:

 

 

 

 

 

 

 

Operations and maintenance

 

82

 

79

 

3

 

Operations and maintenance—affiliate

 

58

 

60

 

(2

)

Depreciation and amortization

 

40

 

40

 

 

Total operating expenses

 

180

 

179

 

1

 

Operating income

 

65

 

35

 

30

 

Other income (expense), net:

 

 

 

 

 

 

 

Interest expense, net

 

(18

)

(30

)

12

 

Interest expense, net—affiliate

 

(1

)

 

(1

)

Other, net

 

 

(23

)

23

 

Total other expense, net

 

(19

)

(53

)

34

 

Net income (loss)

 

$

46

 

$

(18

)

$

64

 

 

Realized Gross Margin. Our realized gross margin consists of energy, contracted and capacity and realized value of hedges.  Energy represents gross margin from the generation of electricity, fuel sales and purchases at market prices, fuel handling, steam sales and our proprietary trading and fuel oil management activities.  Contracted and capacity represents gross margin received from capacity sold in ISO and RTO administered capacity markets, through RMR arrangements (which we had at Potrero through February 28, 2011), through PPAs and tolling agreements and from ancillary services.  Realized value of hedges represents the actual margin upon the settlement of our power and fuel hedging contracts and the difference between market prices and contract costs for fuel.  Power hedging contracts include sales of both power and natural gas used to hedge power prices, as well as hedges to capture the incremental value related to the geographic location of our physical assets.

 

During the three months ended March 31, 2012, our realized gross margin decrease of $89 million was principally a result of the following:

 

·              a decrease of $113 million in energy primarily as a result of (a) a $61 million decrease primarily resulting from reduced generation volumes as a result of contracting dark spreads, (b) $21 million related to lower of

 

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cost or market inventory adjustments, net and (c) a $32 million decrease in our Energy Marketing segment primarily as a result of decreases in proprietary trading and fuel oil management activities; and

 

·              a decrease of $36 million in contracted and capacity primarily from lower capacity prices in Eastern PJM and the Northeast; partially offset by

 

·              an increase of $60 million in realized value of hedges, primarily as a result of a $76 million increase in power hedges in Eastern PJM primarily resulting from prices, partially offset by a $9 million decrease in coal hedges in Eastern PJM resulting from prices.

 

Unrealized Gross Margin.  Unrealized gross margin represents the net unrealized gain or loss on our derivative contracts, including the reversal of unrealized gains and losses recognized in prior periods and changes in value for future periods.  Our unrealized gross margin for both periods reflects the following:

 

·              unrealized gains of $49 million during the three months ended March 31, 2012, which included a $152 million net increase in the value of hedge and proprietary trading contracts for future periods primarily related to decreases in forward power and natural gas prices, offset by decreases in forward coal prices.  The increase was offset by $103 million associated with the reversal of previously recognized unrealized gains from power and fuel contracts that settled during the period; and

 

·              unrealized losses of $71 million during the three months ended March 31, 2011, which included $67 million associated with the reversal of previously recognized unrealized gains from power and fuel contracts that settled during the period and a $4 million net decrease in the value of hedge and proprietary trading contracts for future periods.  The decrease in value was primarily related to increases in oil prices, offset by decreases in forward power and natural gas prices.

 

Interest Expense, Net.  Interest expense, net decrease of $12 million related to lower interest expense as a result of repayment in 2011 of GenOn Americas Generation senior unsecured notes.

 

Other, Net .  Other, net change of $23 million was a result of loss on early extinguishment of debt primarily related to a $16 million premium and a $7 million write-off of unamortized debt issuance costs related to the GenOn North America senior notes that were repaid in 2011.

 

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GenOn Mid-Atlantic

 

We reported net income of $72 million and $31 million during the three months ended March 31, 2012 and 2011, respectively.  The increase in net income is detailed as follows:

 

 

 

Three Months Ended
March 31,

 

Increase/

 

 

 

2012

 

2011

 

(Decrease)

 

 

 

(in millions)

 

Gross Margin:

 

 

 

 

 

 

 

Energy

 

$

(15

)

$

61

 

$

(76

)

Contracted and capacity

 

49

 

77

 

(28

)

Realized value of hedges

 

129

 

63

 

66

 

Total realized gross margin

 

163

 

201

 

(38

)

Unrealized gross margin

 

42

 

(39

)

81

 

Total gross margin (excluding depreciation and amortization)

 

205

 

162

 

43

 

Operating Expenses:

 

 

 

 

 

 

 

Operations and maintenance

 

63

 

62

 

1

 

Operations and maintenance—affiliate

 

40

 

40

 

 

Depreciation and amortization

 

29

 

29

 

 

Total operating expenses

 

132

 

131

 

1

 

Operating income

 

73

 

31

 

42

 

Other income (expense), net:

 

 

 

 

 

 

 

Interest expense, net—affiliate

 

(1

)

 

(1

)

Total other expense, net

 

(1

)

 

(1

)

Net income

 

$

72

 

$

31

 

$

41

 

 

Realized Gross Margin. Our realized gross margin consists of energy, contracted and capacity and realized value of hedges.  Energy represents gross margin from the generation of electricity, fuel sales and purchases at market prices and fuel handling.  Contracted and capacity represents gross margin received from capacity and ancillary services sold in the PJM market.  Realized value of hedges represents the actual margin upon the settlement of our power and fuel hedging contracts and the difference between market prices and contract costs for fuel.  Power hedging contracts include sales of both power and natural gas used to hedge power prices, as well as hedges to capture the incremental value related to the geographic location of our physical assets.

 

During the three months ended March 31, 2012, our realized gross margin decrease of $38 million was principally a result of the following:

 

·              a decrease of $76 million in energy, primarily as a result of a $55 million decrease in generation volumes as a result of contracting dark spreads and $21 million lower of cost or market inventory adjustments, net; and

 

·              a decrease of $28 million in contracted and capacity primarily as a result of lower capacity prices; partially offset by

 

·              an increase of $66 million in realized value of hedges, primarily as a result of a $76 million increase in power hedges primarily resulting from prices, partially offset by a $9 million decrease in coal hedges resulting from prices.

 

Unrealized Gross Margin.  Unrealized gross margin represents the net unrealized gain or loss on our derivative contracts, including the reversal of unrealized gains and losses recognized in prior periods and changes in value for future periods.  Our unrealized gross margin for both periods reflects the following:

 

·              unrealized gains of $42 million during the three months ended March 31, 2012, which included a $143 million net increase in the value of hedge contracts for future periods primarily related to decreases in

 

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forward power and natural gas prices, offset by decreases in coal prices.  The increase was offset by $101 million associated with the reversal of previously recognized unrealized gains from power and fuel contracts that settled during the period; and

 

·              unrealized losses of $39 million during the three months ended March 31, 2011, which included $54 million associated with the reversal of previously recognized unrealized gains from power and fuel contracts that settled during the period, partially offset by a $15 million net increase in the value of hedge contracts for future periods primarily related to decreases in forward power and natural gas prices and increases in forward coal prices.

 

Operating Statistics

 

The following table summarizes power generation volumes by segment for GenOn Americas Generation:

 

 

 

Three Months

 

 

 

 

 

 

 

Ended March 31,

 

Increase/

 

Increase/

 

 

 

2012

 

2011

 

(Decrease)

 

(Decrease)  (1)

 

 

 

(in gigawatt hours)

 

 

 

 

 

 

 

 

 

 

 

Eastern PJM:

 

 

 

 

 

 

 

 

 

Baseload

 

1,232

 

3,511

 

(2,279

)

(65

)%

Intermediate

 

224

 

21

 

203

 

NM

 

Peaking

 

10

 

14

 

(4

)

(29

)%

Total Eastern PJM

 

1,466

 

3,546

 

(2,080

)

(59

)%

 

 

 

 

 

 

 

 

 

 

Northeast:

 

 

 

 

 

 

 

 

 

Baseload

 

342

 

379

 

(37

)

(10

)%

Intermediate

 

5

 

20

 

(15

)

(75

)%

Total Northeast

 

347

 

399

 

(52

)

(13

)%

 

 

 

 

 

 

 

 

 

 

California:

 

 

 

 

 

 

 

 

 

Intermediate

 

8

 

11

 

(3

)

(27

)%

Total California

 

8

 

11

 

(3

)

(27

)%

 

 

 

 

 

 

 

 

 

 

Total

 

1,821

 

3,956

 

(2,135

)

(54

)%

 


(1)           NM means not meaningful.

 

GenOn Mid-Atlantic’s power generation volumes for the three months ended March 31, 2012 were 1,466 gigawatt hours compared to 3,546 gigawatt hours during the same period in 2011.

 

The total decrease in power generation volumes during the three months ended March 31, 2012, as compared to the same period in 2011, is primarily the result of the following:

 

Eastern PJM.   The decrease in our baseload generation volumes was primarily as a result of contracting dark spreads caused by milder temperature and lower demand.

 

Northeast.   The decrease in our baseload and intermediate generation was a result of contracting spark spreads caused by milder temperature and lower demand.

 

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California.   The decrease in our intermediate generation volumes was primarily the result of planned outages.

 

Financial Condition

 

Liquidity and Capital Resources

 

Management thinks that our liquidity position and cash flows from operations will be adequate (a) to fund operating, maintenance and capital expenditures, (b) to fund GenOn Americas Generation’s debt service, (c) to service GenOn Mid-Atlantic’s operating leases and (d) to meet other liquidity requirements.  Management regularly monitors our ability to fund our operating, financing and investing activities.  See note 4 to our interim financial statements for additional discussion of GenOn Americas Generation’s debt.

 

Sources of Funds and Capital Structure

 

The principal sources of our liquidity are expected to be:  (a) existing cash on hand and expected cash flows from our operations and the operations of our subsidiaries, (b) at its discretion, letters of credit issued or borrowings made under GenOn’s senior secured revolving credit facility and (c) at its discretion, capital contributions or intercompany loans from GenOn for GenOn Americas Generation or from GenOn North America for GenOn Mid-Atlantic.

 

Our operating cash flows may be affected by, among other things: (a) demand for electricity; (b) the difference between the cost of fuel used to generate electricity and the market value of the electricity generated; (c) commodity prices (including prices for electricity, emissions allowances, natural gas, coal and oil); (d) operations and maintenance expenses in the ordinary course; (e) planned and unplanned outages; (f) terms with trade creditors; and (g) cash requirements for capital expenditures relating to certain facilities (including those necessary to comply with environmental regulations).

 

The table below sets forth total cash and cash equivalents of GenOn Americas Generation and its subsidiaries at March 31, 2012 (in millions):

 

Cash and Cash Equivalents:

 

 

 

GenOn Americas Generation (excluding GenOn Mid-Atlantic)

 

$

276

 

GenOn Mid-Atlantic

 

119

 

Total cash and cash equivalents

 

$

395

 

 

We consider all short-term investments with an original maturity of three months or less to be cash equivalents.  At March 31, 2012, except for amounts held in bank accounts to cover upcoming payables, all of our cash and cash equivalents were invested in AAA-rated United States Treasury money market funds.

 

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GenOn Americas Generation is a holding company.  The chart below is a summary representation of our capital structure and is not a complete corporate organizational chart.

 

 


(1)     At March 31, 2012, the present value of lease payments under the GenOn Mid-Atlantic operating leases was $903 million (assuming a 10% discount rate) and the termination value of the GenOn Mid-Atlantic operating leases was $1.3 billion.

 

Except for existing cash on hand, GenOn Americas Generation is a holding company that is dependent on the distributions and dividends of its subsidiaries for liquidity and, at its discretion, additional capital contributions from GenOn.  A substantial portion of cash from its operations is generated by GenOn Mid-Atlantic.

 

GenOn Mid-Atlantic’s ability to pay dividends and make distributions is restricted under the terms of its operating leases.  Under the operating leases, GenOn Mid-Atlantic is not permitted to make any distributions and other restricted payments unless:  (a) it satisfies the fixed charge coverage ratio for the most recently ended period of four fiscal quarters; (b) it is projected to satisfy the fixed charge coverage ratio for each of the two following periods of four fiscal quarters, commencing with the fiscal quarter in which such payment is proposed to be made; and (c) no significant lease default or event of default has occurred and is continuing.  In the event of a default under the operating leases or if the restricted payments test is not satisfied, GenOn Mid-Atlantic would not be able to distribute cash.  At March 31, 2012, GenOn Mid-Atlantic satisfied the restricted payments test.  GenOn Mid-Atlantic’s ability to satisfy the criteria set by this covenant in the future could be impaired by the factors which negatively affect the performance of its generating facilities, including the interruptions in operations or curtailment of operations to comply with environmental restrictions.

 

As a result of certain lien restrictions in its lease documentation, GenOn Mid-Atlantic has reserved $165.6 million of cash (which is included in funds on deposit in the consolidated balance sheets) in respect of such liens.  See note 8 to our interim financial statements.

 

The ability of GenOn Americas Generation to pay its obligations is dependent on the receipt of dividends from GenOn North America and, in turn, GenOn Mid-Atlantic; capital contributions or intercompany loans from GenOn; and its ability to refinance all or a portion of those obligations as they become due.

 

Uses of Funds

 

Our requirements for liquidity and capital resources, other than for the day-to-day operation of our generating facilities, are significantly influenced by the following items:  (a) capital expenditures, including capital expenditures to meet environmental regulations, (b) debt service for GenOn Americas Generation, (c) payments under the GenOn Mid-Atlantic operating leases and (d) collateral required for GenOn Americas Generation’s asset management and proprietary trading and fuel oil management activities.

 

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Capital Expenditures.  Our estimated capital expenditures, excluding capitalized interest, for the period April 1, 2012 through December 31, 2013 will be $233 million, including $171 million relating to GenOn Mid-Atlantic.  See “Capital Expenditures and Capital Resources” for further discussion of our capital expenditures.

 

Cash Collateral and Letters of Credit.   In order to sell power and purchase fuel in the forward markets and perform other energy trading and marketing activities, we often are required to provide credit support to our counterparties or make deposits with brokers.  In addition, we often are required to provide credit support for various contractual and other obligations incurred in connection with our commercial and operating activities, including obligations in respect of transmission and interconnection access, participation in power pools, rent reserves, power purchases and sales, fuel and emission purchases and sales, construction, equipment purchases and other operating activities.  Credit support includes cash collateral, letters of credit, surety bonds and financial guarantees.  In the event that we default, the counterparty can draw on a letter of credit or surety bond or apply cash collateral held to satisfy the existing amounts outstanding under an open contract.  Our requirements for collateral and, accordingly, liquidity are highly dependent on the level of our hedging activities, forward prices for energy, emissions allowances and fuel, commodity market volatility, credit terms with third parties and regulation of energy contracts.

 

At March 31, 2012, we had $162 million of posted cash collateral and GenOn had $151 million of letters of credit outstanding under its revolving credit facility on our behalf primarily to support our asset management activities, trading activities, rent reserve requirements and other commercial arrangements.

 

The following table summarizes cash collateral posted with counterparties and brokers, letters of credit issued and surety bonds provided for GenOn Americas Generation:

 

 

 

March 31,
2012

 

December 31,
2011

 

 

 

(in millions)

 

 

 

 

 

 

 

Cash collateral posted—energy trading and marketing

 

$

104

 

$

118

 

Cash collateral posted—other operating activities

 

58

 

38

 

Letters of credit—rent reserves (1)  

 

98

 

101

 

Letters of credit—energy trading and marketing (1)  

 

42

 

39

 

Letters of credit—other operating activities (1)

 

11

 

31

 

Surety bonds

 

5

 

6

 

Total

 

$

318

 

$

333

 

 


(1)         Represents letters of credit posted by GenOn for the benefit of GenOn Americas Generation.

 

Historical Cash Flows

 

GenOn Americas Generation

 

Operating Activities .  Our cash provided by operating activities is affected by seasonality, changes in energy prices and fluctuations in our working capital requirements.  Net cash provided by operating activities decreased $126 million for the three months ended March 31, 2012 compared to the same period in 2011, primarily as a result of the following:

 

·                   Realized gross margin .  A decrease in cash provided of $64 million in 2012 compared to 2011 (excluding lower of cost or market inventory adjustments of $25 million) primarily due to a $88 million decrease in energy and a $36 million decrease in contracted and capacity, partially offset by a $60 million increase in realized value of hedges.  See “Results of Operations” in Item 2 for additional discussion of our performance in 2012 as compared to the same period in 2011;

 

·                   Inventories.   An increase in cash used of $102 million primarily related to changes in fuel oil and coal inventory;

 

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·                   Net receivables and accounts payable and accrued liabilities.   A decrease in cash provided of $61 million primarily as a result of an increase in accounts payable due to affiliates in 2011, partially offset by higher volume of settlements of power hedges in 2011 as compared to the same period in 2012; and

 

·                   Other operating assets and liabilities .  A decrease in cash provided of $24 million related to changes in other operating assets and liabilities.

 

The decreases in cash provided by and increases in cash used in operating activities were partially offset by the following:

 

·                   Accounts payable, collateral.  An increase in cash provided of $88 million primarily as a result of $87 million posted by our counterparties in 2012 compared to $1 million returned to our counterparties in 2011;

 

·                   Funds on deposit.   A decrease in cash used of $26 million primarily as a result of $6 million of additional collateral posted with our counterparties in 2012 compared to $32 million of additional collateral posted in 2011; and

 

·                   Interest expense .  A decrease in cash used of $11 million primarily as a result of repayment in 2011 of GenOn Americas Generation senior unsecured notes.

 

Investing Activities .   Net cash provided by/used in investing activities changed by $588 million for the three months ended March 31, 2012, compared to the same period in 2011.  This difference was primarily a result of the following:

 

·                   Withdrawals from restricted funds on deposit.  A decrease in cash provided of $866 million primarily related to funds received from the GenOn debt financing on December 3, 2010, which were subsequently placed in restricted deposits at December 31, 2010.  The withdrawal of cash was used to repay long-term debt during 2011; partially offset by

 

·                   Payments into restricted funds on deposit .  A decrease in cash used of $143 million primarily related to funds placed in restricted deposits in 2011 as a result of our scrubber contract litigation and related liens; and

 

·                   Issuance of notes receivable — affiliate.   An increase in cash provided of $140 million related to the repayment of intercompany debt in 2011.

 

Financing Activities .   Net cash provided by/used in financing activities changed by $954 million for the three months ended March 31, 2012, compared to the same period in 2011.  This difference was primarily a result of the following:

 

·                   Repayment of long-term debt.   A decrease in cash used of $866 million primarily related to repayment during 2011 of GenOn North America senior unsecured notes due 2013; and

 

·                   Distributions to member .  A decrease in cash used of $100 million related to distributions to our member in 2011.

 

GenOn Mid-Atlantic

 

Operating Activities .  Our cash provided by operating activities is affected by seasonality, changes in energy prices and fluctuations in our working capital requirements.  Net cash provided by operating activities decreased $123 million for the three months ended March 31, 2012, compared to the same period in 2011, primarily as a result of the following:

 

·             Realized gross margin .  A decrease in cash provided of $12 million in 2012 compared to 2011 (excluding lower of cost or market inventory adjustments of $25 million) primarily due to a $55 million decrease in

 

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energy and a $28 million decrease in contracted and capacity, partially offset by a $66 million increase in realized value of hedges.  See “Results of Operations” in Item 2 for additional discussion of our performance in 2012 as compared to the same period in 2011;

 

·             Net receivables and accounts payable and accrued liabilities.   A decrease in cash provided of $70 million primarily as a result of an increase in accounts payable due to affiliates in 2011, partially offset by higher volume of settlements of power hedges in 2011 as compared to the same period in 2012;

 

·             Inventories.   An increase in cash used of $22 million primarily related to changes in fuel oil and coal inventory; and

 

·              Other operating assets and liabilities.  A decrease in cash provided of $19 million related to changes in other operating assets and liabilities.

 

Investing Activities .   Net cash used in investing activities decreased by $145 million for the three months ended March 31, 2012, compared to the same period in 2011.  This difference was primarily a result of a decrease of cash used of $143 million primarily related to funds placed in restricted deposits in 2011 as a result of our scrubber contract litigation and related liens.

 

Financing Activities .   Net cash used in financing activities decreased by $100 million for the three months ended March 31, 2012, compared to the same period in 2011.  This difference was a result of a decrease in cash used related to distributions to our member in 2011.

 

Recently Adopted Accounting Guidance

 

See note 1 to our interim financial statements for further information related to our recently adopted accounting guidance.

 

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