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Management’s
Discussion
and Analysis |
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continued
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Outstanding
Debt/Interest Rate
(billions of
dollars)
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Market
Risk
Risk
Policies
TVA is
exposed to market risks including changes in interest rates, foreign
currency exchange rates, and volatility of certain commodity and equity
market prices. To manage the volatility attributable to these exposures,
TVA has entered into various non-trading derivative transactions, principally
interest rate swap agreements, foreign currency swap contracts, forwards,
futures, and option contracts. TVA has established its Risk Management
Committee, which maintains responsibility for reviewing and approving
controls and procedures for TVA-wide risk management activities including
the oversight of models and assumptions used to measure risk, the review
of counterparty exposure limits, and the establishment of formal procedures
for use of financial hedging instruments.
TVA is exposed
to losses in the event of counterparties’ nonperformance and accordingly
has established controls to determine the creditworthiness of counterparties
in order to mitigate exposure to counterparty credit risk. With respect
to hedging activities, TVA risk management policies allow the use of
derivative financial instruments to manage financial exposures but prohibit
the use of these instruments for speculative or trading purposes. TVA
currently accounts for such hedging activities using the deferral method,
and gains and losses are recognized in the accompanying financial statements
when the related hedged transaction occurs.
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Interest
Expense as a Percent of Revenue
(millions of
dollars)
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Interest
Rate and Foreign Currency Risk
TVA manages
its daily cash needs through issuance of discount notes and other short-term
borrowings. These borrowings with maturities of less than one year expose
TVA to fluctuations in short-term interest rates. TVA is not exposed
to changes in interest rates on most of its long-term debt until such
debt matures and may be refinanced at the then applicable rates. An
interest rate swap is used to hedge TVA’s exposure related to its
inflation-indexed accreting principal bonds, and currency swap contracts
are used as hedges for foreign currency denominated debt issues (see
note 5—Foreign
currency transactions and interest rate swap). Based on TVA’s
overall interest rate exposure at September 30, 1999, including derivative
and other interest rate sensitive instruments, a near-term 1 percentage
point change in interest rates would not have a material impact on TVA’s
financial position or results of operations for 1999.
Commodity
Price Risk
TVA
is exposed to the impact of market fluctuations in the price and transportation
costs of certain commodities and fuels including, but not limited to,
coal, natural gas and electricity. TVA employs established policies
and procedures to manage risks associated with these market fluctuations
by using various commodity-based derivative instruments, including futures,
forwards, and option contracts. To monitor the risk of commodity trading
activities, TVA employs a daily Value at Risk (VaR) methodology which
utilizes a statistical-based approach to determine adjusted historical
changes in the value of a market risk sensitive commodity-based financial
instrument to estimate the amount of change in the current value of
the instrument that could occur at a specified confidence level over
a specified interval. Based on TVA’s VaR analysis of its overall
commodity price risk exposure at September 30, 1999, management does
not anticipate a materially adverse effect on TVA’s financial position
or results of operations as a result of market fluctuations.
Equity
Price Risk
TVA maintains
trust funds, as required by the Nuclear Regulatory Commission, to fund
certain costs of decommissioning its nuclear generating units. These
funds are managed by various money managers and are primarily invested
in marketable equity securities, which are exposed to price fluctuations
in equity markets. TVA actively monitors the trust funds’ portfolios
by benchmarking the performance of their investments against certain
price indices. The accounting for nuclear decommissioning recognizes
that sufficient funds have been set aside to fully fund expected decommissioning
obligations, and, therefore, fluctuations in trust fund marketable security
returns do not affect the earnings of TVA (see note 1—Decommissioning
costs).
Other
Issues
Year
2000 Readiness
The “Year
2000” issue concerns the inability of information technology systems
to properly recognize and process date-sensitive information related
to the year 2000 and beyond. TVA’s Year 2000 efforts have generally
focused on (1) developing a Year 2000 remediation strategy, (2) inventorying
and assessing the priority of items that may be affected by the Year
2000 issue, (3) replacing, repairing, or converting items that are not
Year 2000 ready, (4) testing and validating the Year 2000 readiness
of replaced, repaired, and converted items, and (5) implementing the
use of replaced, repaired, and converted items. As of September 30,
1999, TVA had completed this five-step process with respect to 100 percent
of the over 20,000 mission-critical Year 2000 items that TVA has been
tracking in its Year 2000 program.
The Nuclear Regulatory
Commission (NRC) has notified all utilities operating nuclear power
plants that they are required to inform the NRC of steps they are taking
to ensure that their computer systems will function properly by the
year 2000. In a June 29, 1999, letter to the NRC, TVA confirmed that
those plant systems required for the safe and reliable operation of
TVA’s Browns Ferry, Sequoyah, and Watts Bar nuclear plants were
Year 2000 ready. TVA also noted that there still were actions to be
completed involving three computer programs that did not impact the
continued safe and reliable operation of the nuclear units. These three
computer programs have since been made Year 2000 ready. Onsite reviews
by the NRC at all three of TVA’s nuclear plants have indicated
that Year 2000 computer issues should not affect the ability of TVA’s
nuclear plants to generate electricity safely and reliably as the year
2000 begins.
In a July 7, 1999,
letter to the North American Electric Reliability Council, TVA said
that it believed its mission-critical systems used to produce and deliver
electricity were ready for date changes associated with the year 2000,
with one exception. This exception was a clean-air reporting module,
and the Year 2000 changes to this module have since been implemented
in production.
TVA has been working
with business partners to minimize the possibility of a Year 2000 problem
impacting TVA’s business. As of September 30, 1999, 100 percent
of all TVA’s mission-critical suppliers had declared their Year
2000 readiness. In addition, all 159 distributors of TVA power have
declared that they intend to be Year 2000 ready on or before December
31, 1999.
Costs. TVA
estimates the direct and indirect costs of its Year 2000 work to be
approximately $40 million. As of September 30, 1999, TVA had expended
approximately $37 million of this amount. TVA believes that it has allocated
sufficient resources to address the Year 2000 issue and does not expect
additional costs to be material to its financial position and results
of operations.
Risks. Some
of TVA’s operations are extensively computerized and are also dependent
on the information technology systems of others with whom it interfaces.
Thus, the failure by TVA or others with whom it interfaces to become
Year 2000 ready on a timely basis could have a material adverse effect
on, among other things, TVA’s results of operations, liquidity
and financial condition and its generation and transmission operations.
Specific risks to TVA associated with the Year 2000 issue include, among
other things, power production and delivery interruptions and administration,
billing, and accounting system malfunctions.
Contingency
Plans. While TVA expects to continue to provide a reliable power
supply as the Year 2000 begins, TVA is preparing contingency plans to
mitigate any Year 2000 problems that may arise. Particular elements
of TVA’s contingency plans include scheduling key personnel to
be on duty during the Year 2000 transition, carrying additional power
generation reserves, and implementing back-up communication systems.
As of September 30, 1999, TVA had developed contingency plans for approximately
89 percent of TVA’s enterprise-wide risks.
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