** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

### **Washington, D.C. 20549**

### ** **

#### **FORM 40-F**

####  

[Check one]

 

o            REGISTRATION STATEMENT PURSUANT TO SECTION 12 OFTHE SECURITIES EXCHANGE ACT OF 1934

 

OR

 

**x****        **ANNUALREPORT PURSUANT TO SECTION 13(a) OR 15(d) OF THE SECURITIESEXCHANGE ACT OF 1934

 
| For the fiscal year  ended | December 31, 2007 | Commission file  number   | 001-15214     |
|----------------------------|------------------------|-------------------------------------|-----------------------------------|

 

 

**TRANSALTA CORPORATION**

(Exact name of Registrant as specified in its charter)

 

 

**Not applicable**

(Translation of Registrant’s name into English (if applicable))

 

 

**Canada**

(Province or other jurisdiction of incorporation or organization)

 

 

**4911**

(Primary Standard Industrial Classification Code Number (ifapplicable))

 

 

**Not Applicable**

(I.R.S Employer Identification Number (if applicable))

 

 

**110-12th Avenue S.W., Box 1900, Station “M”,**

**Calgary, Alberta, Canada, T2P 2M1,**

**(403) 267-7110**

(Addressand telephone number of Registrant’s principal executive offices)

 

 

**CT Corporation System, 111 8th Avenue, 13thFloor,**

**New York, New York, 10011, (212) 894-8400**

(Name,address (including zip code) and telephone number (including area code)

ofagent for service in the United States)

 

 

Securities registered or to be registered pursuant to Section 12(b) ofthe Act:

 
| Title of each class          |   | Name of each exchange   |
|------------------------------|--------|-------------------------|
|                         |   | on which registered     |
|                         |   |                    |   |
|                         |   |                    |
| Common Shares, no par value  |   | New York Stock Exchange |
|                         |   |                    |
| Common Share Purchase Rights |   | New York Stock Exchange |
|                              |        |                         |  |

 

 

Securities registered or to be registered pursuant to Section 12(g) ofthe Act:

 

**None**

(Titleof Class)

 

Securities for which there is a reporting obligationpursuant to Section 15(d) of the Act:

 

**None**

 (Title of Class)

 

For annual reports, indicate by check mark theinformation filed with this form:

 
| **x** | Annual information form | ** ** | **x** | Audited annual financial statements            |
|-------|-------------------------|------------|-------|-------------------------------------------------------------------------------------------------------|

 

 

Indicate the number of outstanding shares of each ofthe issuer’s classes of capital or common stock as of the close of the periodcovered by the annual report:

 

At December 31, 2007, 201,366,771 common shareswere issued and outstanding.

 

Indicate by check mark whether the Registrant byfiling the information contained in this Form is also thereby furnishingthe information to the Commission pursuant to Rule 12g3-2(b) underthe Securities Exchange Act of 1934 (the “Exchange Act”). If “Yes” is marked,indicate the file number assigned to the Registrant in connection with suchRule.

 
| Yes  **o** | 82-           | No **x** |
|-----------------|-----------------------------------------------------------------|----------|

 

 

Indicate by check mark whether the Registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theExchange Act during the preceding 12 months (or for such shorter period thatthe Registrant was required to file such reports) and (2) has been subjectto such filing requirements for the past 90 days.

 
| Yes  **x** |   | No **o** |
|-----------------|--------|----------|

 

**INCORPORATION BY REFERENCE**

 

The documents (or portions thereof) forming part ofthis Form 40-F are incorporated by reference into the followingregistration statements under the Securities Act of 1933, as amended.

 
| Form | Registration No. |
|------|------------------|
| S-8  | 333-72454        |
| S-8  | 333-101470       |
| F-10 | 333-87762        |

 

**CONSOLIDATED AUDITED ANNUAL FINANCIAL STATEMENTS**

**AND MANAGEMENT’S DISCUSSION & ANALYSIS**

 

**A.****                       ****ConsolidatedAudited Annual Financial Statements**

 

For consolidated auditedannual financial statements, including the report of independent charteredaccountants with respect thereto, see pages 69 through 109 of theTransAlta Corporation 2007 Annual Report to shareholders included herein.  See Exhibit 13.4 for the relatedsupplementary note entitled “Reconciliation to United States Generally AcceptedAccounting Principles” for a reconciliation of the important differencesbetween Canadian and United States generally accepted accounting principles.

 

 

**B.****                       ****Management’sDiscussion & Analysis**

 

For management’sdiscussion & analysis, see pages 27 through 68 of the TransAltaCorporation 2007 Annual Report to shareholders included herein under theheading “Management’s Discussion & Analysis.”

 

For the purposes of this Form 40-F,only pages 69 through 109 and 27 through 68 of the TransAlta Corporation2007 Annual Report to shareholders as referred to above shall be deemedincorporated herein by reference and filed, and the balance of such 2007 AnnualReport, except as otherwise specifically incorporated by reference in theTransAlta Corporation Annual Information Form filed as Exhibit 13.1hereto, shall not be deemed to be filed under the Exchange Act with theSecurities and Exchange Commission as part of this Form 40-F.

 

**DISCLOSURE CONTROLS AND PROCEDURES**

 

As required by Rule 13a-15 under the Securities Exchange Act of1934, management has evaluated, with the participation of our Chief ExecutiveOfficer and Chief Financial Officer, the effectiveness of our disclosurecontrols and procedures as of the end of the period covered by thisreport.  Disclosure controls and proceduresrefer to controls and other procedures designed to ensure that informationrequired to be disclosed in the reports we file or submit under the ExchangeAct are recorded, processed, summarized and reported, within the time periodsspecified in the rules and forms of the Securities and ExchangeCommission.  Disclosure controls andprocedures include, without limitation, controls and procedures designed toensure that information required to be disclosed by us in our reports that wefile or submit under the Exchange Act is accumulated and communicated tomanagement, including our Chief Executive Officer and Chief Financial Officer,as appropriate to allow timely decisions regarding our requireddisclosure.  In designing and evaluatingour disclosure controls and procedures, management recognizes that any controlsand procedures, no matter how well designed and operated, can provide onlyreasonable assurance of achieving the desired control objectives, andmanagement was required to apply its judgment in evaluating and implementingpossible controls and procedures.  Basedon the foregoing evaluation, our Chief Executive Officer and Chief FinancialOfficer have concluded that, as of December 31, 2007, the end of theperiod covered by this report, our disclosure controls and procedures were effectiveat a reasonable assurance level.

 

**MANAGEMENT’SREPORT ON INTERNAL CONTROL**

**OVERFINANCIAL REPORTING**

 

Managementis responsible for establishing and maintaining adequate internal control overfinancial reporting.

 

Internalcontrol over financial reporting refers to a process designed by, or under thesupervision of, our chief executive officer and chief financial officer andeffected by our board of directors, management and other personnel, to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles and includes those policies andprocedures that:

 
| · | pertain  to the maintenance of records that in reasonable detail accurately and fairly  reflect the transactions and dispositions of our assets; |
|--------|--------------------------------------------------------------------------------------------------------------------------------------------------|

 

 

 
| · | provide  reasonable assurance that transactions are recorded as necessary to permit  preparation of financial statements in accordance with generally accepted  accounting principles, and that our receipts and expenditures are being made  only in accordance with authorizations of our management and members of our  board of directors; and |
|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                               |
| · | provide  reasonable assurance regarding prevention or timely detection of unauthorized  acquisition, use, or disposition of our assets that could have a material  effect on our financial statements.                                                                                                                                             |

 

Management evaluated theeffectiveness of our internal control over financial reporting as of December 31,2007 using the framework set forth in the report of the Treadway Commission’sCommittee of Sponsoring Organizations (COSO), “Internal Control — IntegratedFramework.”  Management has concludedthat our internal control over financial reporting was effective as of December 31,2007.  Certain matters relating to thescope of Management’s evaluation and limitations of management’s conclusionsare described below.  See “Limitationsand Scope of Management’s Report on Internal Control over Financial Reporting.”

 

Our independent registeredpublic accounting firm, Ernst & Young LLP, has issued an audit reportexpressing an opinion on the effectiveness of our internal control overfinancial reporting as of December 31, 2007.  For Ernst & Young LLP’s report see page 71of the TransAlta Corporation 2007 Annual Report to shareholders under theheading “Independent Auditors’ Report on Internal Controls Under Standards ofthe Public Company Accounting Oversight Board (United States)”.

 

There has been no change inthe internal control over financial reporting during the year covered by thisreport that has materially affected, or is reasonably likely to materiallyaffect, the Company’s internal control over financial reporting.

 

**LIMITATIONS AND SCOPE OF MANAGEMENT’S**

**REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING**

 

Internalcontrol over financial reporting cannot provide absolute assurance of achievingfinancial reporting objectives because of its inherent limitations.  Internal control over financial reporting isa process that involves human diligence and compliance and is subject to lapsesin judgment and breakdowns resulting from human failures.  Internal control over financial reportingalso can be circumvented by collusion or improper override.  Because of such limitations, there is a riskthat material misstatements may not be prevented or detected on a timely basisby internal control over financial reporting. However, these inherent limitations are known features of the financialreporting process, and it is possible to design into the process safeguards toreduce, though not eliminate, this risk.

 

Management has notevaluated the internal controls of the Sheerness, CE Generation and Genesee 3joint ventures (collectively, the “Excluded Entities”), in accordance withFrequently Asked Question No. 1, “Management’s Report on Internal ControlOver Financial Reporting and Certification of Disclosure in Exchange ActPeriodic Reports,” of the Office of the Chief Accountant of the Division ofCorporation Finance of the U.S. Securities and Exchange Commission (revised Oct. 6,2004).  Accordingly, management’sevaluation of the Company’s internal control over financialreporting did not include an evaluation of the internal controls of any of theExcluded Entities, and management’s conclusion regarding the effectiveness ofthe Company’s internal control over financial reporting does not extend to theinternal controls of any of the Excluded Entities.

 

 

Proportionate consolidation of the Excluded Entitiescontributes to the Company’s financial statements in the amount of $1,477.0 million of the Company’s totalassets, $706.6 million of netassets, $491.4 million ofrevenues and $95.7 million ofoperating income.  The Company’sfinancial statements include the accounts of the Excluded Entities, accountedfor via proportionate consolidation, in accordance with EITF 00-1, butmanagement has been unable to assess the effectiveness of internal control atthe Excluded Entities because the Company does not have the ability to dictateor modify the controls of the Excluded Entities and does not have the ability,in practice, to assess those controls.

 

**AUDIT COMMITTEE FINANCIAL EXPERT**

 

The Registrant’s board of directors has determinedthat it has at least one audit committee financial expert serving on its Auditand Risk Committee (the “ARC”).  Mr. WilliamD. Anderson has been determined to be an audit committee financial expert,within the meaning of Section 407 of the United States Sarbanes-Oxley Actof 2002 (“Sarbanes-Oxley”), and is independent, as that term is defined by theNew York Stock Exchange’s (“NYSE”) listing standards applicable to theRegistrant.  Mr. Gordon S.Lackenbauer has also been determined to be an audit committee financial expertfor purposes of Section 407 of Sarbanes-Oxley and independent under theapplicable NYSE listing standards.  UnderSecurities and Exchange Commission rules the designation of persons asaudit committee financial experts does not make them “experts” for any otherpurpose, impose any duties, obligations or liability on them that are greaterthan those imposed on members of their committee and the board of directors whodo not carry this designation or affect the duties, obligations or liability ofany other member of their committee.

 

**CODE OF ETHICS**

 

The Registrant has adopted a code of ethics as partof its “Corporate Code of Conduct” that applies to all employees and officerswhich has been filed with the SEC.  Inaddition, the Registrant has adopted a code of conduct applicable to alldirectors of the Company and a separate financial code of conduct which appliesto all financial management employees. The Registrant’s Corporate Codes of Conduct are available on itsInternet website at www.transalta.com. There has been no waiver of the codes granted during the 2007 fiscal year.

 

**PRINCIPAL ACCOUNTANT FEES AND SERVICES**

 

For the years ended December 31, 2007 and 2006,Ernst & Young LLP and its affiliates were paid approximately$2,838,740 and $3,596,689,respectively, as detailed below:

 
| ** **                 | ** ** | **Year-ended December 31** | ** **                      |
|----------------------------|------------|--------------------------------------|---------------------------------|
| ** **                 | ** ** | **2007**                             | ** **                      | **2006** | ** ** |
| Ernst & Young LLP |       |                                 |                            |   |   |
| Audit Fees                 |       | $                                    | 2,623,699                       |   | $ | 3,286,212 |   |
| Audit-Related Fees         |       | $                                    |    168,968            |   | $ |    300,892 |   |
| Tax Fees                   |       | $                                    |      45,743 |   | $ |        9,585 |   |
| All Other Fees             |       | $                                    |                            |   | $ |   |   |
| **Total**                  | ** ** | **$**                                | **2,838,740**                   | ** ** | **$** | **3,596,689** | ** ** |

 

No other audit firms provided audit services in 2007or 2006.

 

The nature of each category of fees is describedbelow.

 

 

*AuditFees*

 

Audit fees were paid for professional servicesrendered by the auditors for the audit of the Company’s annual financialstatements or services provided in connection with statutory and regulatoryfilings or engagements, including the translation from English into French ofthe Company’s financial statements and other documents.  Total audit fees paid in 2007 includepayments related to 2007 in the amount of $1,147,390 and for 2006 in the amount of $1,476,309.  Total audit fees for 2006 include paymentsrelated to 2006 of $1,193,763 and for 2005 in the amount of $2,092,449.

 

*Audit-RelatedFees*

 

The audit-related fees in2007 and 2006 were primarily for work performed by Ernst & Young LLPin relation to the Corporation’s financings.

 

*Tax Fees*

 

The majority of tax feesfor 2007 related to the finalization of tax credit recoveries

* *

*Pre-Approval Policies andProcedures*

 

TheARC has considered whether the provision of services other than audit servicesis compatible with maintaining the auditors’ independence.  The ARC has adopted a policy that prohibitsthe Company from engaging the auditors for “prohibited” categories of non-auditservices and requires pre-approval of the ARC for other permissible categoriesof non-audit services, such categories as determined under Sarbanes-Oxley.

 

*Percentageof Services Approved by the ARC*

 

Forthe year ended December 31, 2007, none of the services described abovewere approved by the ARC pursuant to paragraph (c)(7)(i)(C) of Rule 2-01of Regulation S-X.

 

**OFF-BALANCE SHEET ARRANGEMENTS**

 

See page 52 of Exhibit 13.3.

 

**TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS**

 

See page 51 of Exhibit 13.3and page 99 under the heading “Commitments” of Exhibit 13.2.

 

**IDENTIFICATION OF THE AUDIT COMMITTEE**

 

The Registrant has aseparately-designated standing ARC.  Themembers of the ARC are:

 

William D. Anderson (Chair)

Timothy W. Faithfull

Michael M. Kanovsky

Gordon S. Lackenbauer

Donna S. Kaufman   (ex-officio member)

 

**FORWARD LOOKING INFORMATION**

 

This document, documents incorporated herein byreference, and other reports and filings made with the securities regulatoryauthorities, include forward-looking statements.  All forward looking statements are based onTransAlta’s beliefs as well as assumptions based on information available atthe time the assumption was made.  Insome cases, forward-looking statements can be identified by terms such as “may”,“will”, “believe”, “expect”, “potential”, “enable”, “continue” or othercomparable terminology.  These statementsare not guarantees of TransAlta’s future performance and are subject to risks,uncertainties and other important factors that could cause TransAlta’s actualperformance to be materially different from those projected.  Some of the risks, uncertainties, and factorsinclude, but are not limited to electricity demand and generation capacity,plant availability, cost and availability of fuel necessary for the productionof electricity, legislative and regulatory developments, costs associated withenvironmental compliance, overall costs, competition, global capital marketsactivity, changes in prevailing interest rates, currency exchange rates,inflation levels and general economic conditions in geographic areas whereTransAlta operates, results of financing efforts, changes in counterparty riskand the impact of accounting policies issued by Canadian and U.S. standardsetters.  Given these uncertainties, readersare cautioned not to place undue reliance on this forward-looking information,which is given as of the date hereof or otherwise, and TransAlta undertakes noobligation to update publicly or revise any forward-looking information,whether as a result of new information, future events or otherwise.

 

**UNDERTAKING**

 

TransAlta Corporation undertakes to make available,in person or by telephone, representatives to respond to inquiries made by theCommission staff, and to furnish promptly, when requested to do so by theCommission staff, information relating to: the securities registered pursuantto Form 40-F; the securities in relation to which the obligation to filean annual report on Form 40-F arises; or transactions in said securities.

 

**SIGNATURES**

 

Pursuant to the requirements of the Exchange Act,the Registrant certifies that it meets all of the requirements for filing on Form 40-Fand has duly caused this annual report to be signed on its behalf by theundersigned, thereto duly authorized, in the City of Calgary, Province ofAlberta, Canada.

 

 
|   | **TRANSALTA CORPORATION**          |
|--------|------------------------------------|
|   |                               |
|   |                               |
|   | By: /s/ Brian Burden               |   |
|   | Brian Burden                       |
|   | Executive Vice-President and Chief |
|   | Financial Officer                  |
|        |                                    |  |  |

Dated: March 12, 2008

 

 

**EXHIBITS**

 
| 13.1   |   | TransAlta Corporation Annual Information Form for the year ended  December 31, 2007.                                                                                     |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                               |
| 13.2   |   | Consolidated Audited Financial Statements for the year ended  December 31, 2007 (included on pages 69 through 109 of the 2007 TransAlta Annual Report  to Shareholders). |
|   |   |                                                                                                                                                                               |
| 13.3   |   | Management’s Discussion and Analysis (included on pages 27  through 68 of the 2007 TransAlta Annual Report to Shareholders).                                             |
|   |   |                                                                                                                                                                               |
| 13.4   |   | Reconciliation to United States Generally Accepted Accounting  Principles of the 2007 Consolidated Audited Financial Statements.                                                   |
|   |   |                                                                                                                                                                               |
| 23.1   |   | Consent of Ernst and Young LLP Chartered Accountants.                                                                                                                              |
|   |   |                                                                                                                                                                               |
| 31.1   |   | Certification of Chief Executive Officer pursuant to Section 302  and Section 404 of the Sarbanes-Oxley Act of 2002.                                                     |
|   |   |                                                                                                                                                                               |
| 31.2   |   | Certification of Chief Financial Officer pursuant to Section 302  and Section 404 of the Sarbanes-Oxley Act of 2002.                                                     |
|   |   |                                                                                                                                                                               |
| 32.1   |   | Certification of President and Chief Executive Officer pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                            |
|   |   |                                                                                                                                                                               |
| 32.2   |   | Certification of Chief Financial Officer pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.                                                                          |
|   |   |                                                                                                                                                                               |

 

**EXHIBIT INDEX**

 
| 13.1   |   | TransAlta Corporation Annual Information Form for the year ended  December 31, 2007.                                                                                     |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                               |
| 13.2   |   | Consolidated Audited Financial Statements for the year ended  December 31, 2007 (included on pages 69 through 109 of the 2007 TransAlta Annual  Report to shareholders). |
|   |   |                                                                                                                                                                               |
| 13.3   |   | Management’s Discussion and Analysis (included on pages 27  through 68 of the 2007 TransAlta Annual Report to shareholders).                                             |
|   |   |                                                                                                                                                                               |
| 13.4   |   | Reconciliation to United States Generally Accepted Accounting  Principles of the 2007 Consolidated Audited Financial Statements.                                                   |
|   |   |                                                                                                                                                                               |
| 23.1   |   | Consent of Ernst and Young LLP Chartered Accountants.                                                                                                                              |
|   |   |                                                                                                                                                                               |
| 31.1   |   | Certification of Chief Executive Officer pursuant to Section 302  and Section 404 of the Sarbanes-Oxley Act of 2002.                                                     |
|   |   |                                                                                                                                                                               |
| 31.2   |   | Certification of Chief Financial Officer pursuant to Section 302  and Section 404 of the Sarbanes-Oxley Act of 2002.                                                     |
|   |   |                                                                                                                                                                               |
| 32.1   |   | Certification of President and Chief Executive Officer pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                            |
|   |   |                                                                                                                                                                               |
| 32.2   |   | Certification of Chief Financial Officer pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.                                                                          |

 

**Exhibit 13.1**

** **

** **

** **

** **

** **

** **

**TRANSALTACORPORATION**

** **

**2008 RENEWALANNUAL INFORMATION FORM**

** **

**FOR THE YEARENDED DECEMBER 31, 2007**

** **

** **

** **

**MARCH 13,2008**

 

 

**TABLE OF CONTENTS**

** **
| PRESENTATION  OF INFORMATION  ................................................................................................................................................                            | 1   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-----|
| SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS  ........................................................................................                                                               | 1   |
| MANAGEMENT’S  DISCUSSION AND ANALYSIS .........................................................................................................................                                      | 1   |
| CORPORATE  STRUCTURE ................................................................................................................................................................                     | 1   |
| OVERVIEW ...........................................................................................................................................................................................      | 2   |
| GENERAL  DEVELOPMENT OF THE BUSINESS .............................................................................................................................                                        | 3   |
| BUSINESS OF  TRANSALTA  ...............................................................................................................................................................                   | 6   |
| Generation  Business Segment  ............................................................................................................................................................                | 6   |
| Commercial Operations Development  ..............................................................................................................................................                         | 14  |
| ENVIRONMENTAL RISK MANAGEMENT ....................................................................................................................................                                        | 17  |
| RISK  FACTORS ...................................................................................................................................................................................         | 18  |
| EMPLOYEES  .......................................................................................................................................................................................        | 18  |
| CAPITAL  STRUCTURE ......................................................................................................................................................................                 | 19  |
| CREDIT  RATINGS  ..............................................................................................................................................................................           | 20  |
| DIVIDENDS  .........................................................................................................................................................................................      | 20  |
| MARKET FOR SECURITIES .............................................................................................................................................................                       | 21  |
| DIRECTORS AND OFFICERS  ...........................................................................................................................................................                       | 21  |
| INTERESTS OF MANAGEMENT AND OTHERS IN MATERIAL  TRANSACTIONS  .................................................................                                                                           | 26  |
| INDEBTEDNESS OF DIRECTORS, EXECUTIVE OFFICERS AND  SENIOR OFFICERS  ...........................................................                                                                           | 26  |
| LEGAL PROCEEDINGS AND REGULATORY ACTIONS  .............................................................................................................                                                   | 26  |
| TRANSFER AGENT AND REGISTRAR  ...........................................................................................................................................                                 | 27  |
| INTERESTS OF EXPERTS  .................................................................................................................................................................                   | 27  |
| ADDITIONAL INFORMATION  .........................................................................................................................................................                         | 27  |
| AUDIT AND RISK COMMITTEE  ......................................................................................................................................................                          | 27  |
| APPENDIX  “A” ................................................................................................................................................................................. | A-1 |
| APPENDIX  “B” ................................................................................................................................................................................. | B-1 |
|                                                                                                                                                                                                           |     |  |  |

 

(i)

 

# **PRESENTATIONOF INFORMATION**

#  

Unless otherwise noted, the information contained inthis annual information form (“Annual Information Form”) is given as at or forthe year ended December 31, 2007. Amounts are expressed in Canadian dollars unless otherwiseindicated.  Financial information ispresented in accordance with Canadian generally accepted accounting principles.

 

# **SPECIALNOTE REGARDING FORWARD-LOOKING STATEMENTS**

#  

This Annual Information Form, the documentsincorporated by reference in this Annual Information Form, and other  reports and filings made with the securitiesregulatory authorities in Canada and the United States include forward-lookingstatements.  All forward-lookingstatements are based on TransAlta Corporation’s (“TransAlta” or the “Corporation”)beliefs and assumptions from information available at the time the assumptionwas made.  In some cases, forward-lookingstatements can be identified by terms such as “may”, “will”, “believe”, “expect”,“potential”, “enable”, “continue” or other comparable terminology.  Forward-looking statements relate to, amongother things, statements regarding the anticipated business prospects andfinancial performance of TransAlta. These statements are not guarantees of TransAlta’s future performanceand are subject to risks, uncertainties and other important factors that couldcause TransAlta’s actual performance to be materially different from thoseprojected, including those material risks discussed in this Annual Information Form underthe heading “Risk Factors”, and in TransAlta’s Management’s Discussion andAnalysis of Financial Condition and Results of Operations (“MD&A”) for theyear ended December 31, 2007 under the heading “Risk Factors and RiskManagement”.  The material assumptions inmaking these forward-looking statements are disclosed in the MD&A under “Outlook”,“Risk Factors and Risk Management” and “Critical Accounting Policies andStatements”, and in this Annual Information Form under “CompetitiveEnvironment”, and “Competitive Strengths”. Given these uncertainties, the reader should not place undue reliance onthis forward-looking information, which is given as of the date it is expressedin this Annual Information Form or otherwise, and TransAlta undertakes noobligation to update publicly or revise any forward-looking information,whether as a result of new information, future events or otherwise.

 

# **MANAGEMENT’SDISCUSSION AND ANALYSIS**

#  

TransAlta’s MD&A for the year ended December 31,2007 and TransAlta’s Audited Consolidated Financial Statements for the yearended December 31, 2007 are hereby specifically incorporated by referencein this Annual Information Form.  Copiesof these documents are available on SEDAR at www.sedar.com.

 

# **CORPORATESTRUCTURE**

#  

**Name and Incorporation**

** **

TransAlta was formed by Certificate of Amalgamationissued under the *Canada Business**Corporations Act* on October 8, 1992.  On December 31, 1992 a Certificate ofAmendment was issued in connection with a plan of arrangement involving theCorporation and TransAlta Utilities Corporation (“TransAlta Utilities”) underthe *Canada Business Corporations Act*.  The plan of arrangement, which was approvedby shareholders on November 26, 1992, resulted in common shareholders ofTransAlta Utilities exchanging their common shares for shares of theCorporation on a one-for-one basis.  Uponcompletion of the arrangement, TransAlta Utilities became a wholly-ownedsubsidiary of TransAlta.  The registeredoffice and principal place of business of TransAlta is at 110 - 12thAvenue S.W., Calgary, Alberta, Canada, T2R 0G7.

 

Information relating to TransAlta Utilities is setforth in TransAlta Utilities’ Annual Information Form for the year ended December 31,2007, a copy of which is available on SEDAR at www.sedar.com.

 

1

 

**Intercorporate Relationships**

** **

The principal subsidiaries of the Corporation andtheir respective jurisdictions of formation are set out below.

 

Unlessthe context otherwise requires, all references to the “Corporation” and to “TransAlta”herein refer to TransAlta Corporation and its subsidiaries, including TransAltaUtilities and TransAlta Energy Corporation (“TransAlta Energy”).

 

# **OVERVIEW**

#  

TransAlta and its predecessors have been engaged inthe production and sale of electric energy since 1911.  The Corporation is among Canada’s largestnon-regulated wholesale electricity generation and energy marketing companieswith an aggregate net ownership interest of approximately 8,488 megawatts (“MW”)of electrical generating capacity (1) in facilities having approximately10,209 MW of aggregate gross electrical generating capacity.  The Corporation is focused on generatingelectricity in Canada, the United States, Mexico and Australia through itsdiversified portfolio of facilities fuelled by coal, gas, hydro, wind andgeothermal resources.  The following is abrief overview of the Corporation’s principal facilities.

 

In Canada, the Corporation holds a net ownershipinterest of approximately 5,634 MW of electrical generating capacity inthermal, gas-fired, wind-powered and hydroelectric facilities, including 4,937MW in Alberta and 697 MW in Ontario.

 

2

 

**Note:**

 

(1)   TransAlta measures capacity asnet maximum capacity (see glossary for definition of this and other key terms)which is consistent with industry standards. Capacity figures represent capacity owned and in operation unlessotherwise stated.

 

In the United States, the Corporation’s principal facilities include a1,404 MW thermal facility and a 248 MW gas-fired facility, both located inCentralia, Washington, which supply electricity to the Pacific northwest.  The Corporation holds a 50 per cent interestin CE Generation, LLC (“CE Generation”), resulting in an aggregate netownership interest of approximately 385 MW of geothermal and gas firedelectrical generating capacity in facilities in California, Texas, Arizona andNew York.  The Corporation also has 6 MWof electrical generating capacity through gas-fired and hydroelectricfacilities located in Washington and Hawaii.

 

In Mexico, the Corporation owns two facilities with a combined capacityof 511 MW.  (See “Recent Developments”below in this AIF for updated information regarding the Mexican assets.)

 

The Corporation also has 300 MW of net electrical generating capacityin Australia.

 

The Corporation is organized into two business segments: Generation andCorporate Developmentand Marketing. The Generation group is responsible for constructing, operating andmaintaining electricity generation facilities. The Commercial OperationsDevelopment groupis responsible for managing the sale of production, purchases of natural gas,transmission capacity and market risks associated with the Corporation’sgeneration assets and for non-asset backed trading activities.  Both segments are supported by a corporategroup which includes finance, treasury, legal, human resources and otheradministrative functions.  The corporategroup is also responsible for the Corporation’s sustainable developmentinitiatives, including investments in renewable energy resources.

 

# **GENERALDEVELOPMENT OF THE BUSINESS**

#  

The significant events and conditions affecting TransAlta’s businessduring the last three financial years are summarized below.  Certain of these events and conditions arediscussed in greater detail under the heading “Business of TransAlta” in thisAnnual Information Form.

 

**RecentDevelopments**

 

·                  On February 20, 2008, the Corporationannounced it had signed a purchase and sale agreement with Intergen GlobalVentures B.V. pursuant to which Intergen agrees to pay the Corporation US$303.5 in cash million for its Mexican assets.

 

·                  On February 13, 2008, the Corporationannounced that, commencing in 2009, it would be constructing a 66 MW windgeneration facility in southern Alberta, consisting of 22 Vestas V90 3 MW windturbines.  The total capital costs forthis Blue Trail wind power project is expected to be $115 million.  The capacity from this project is expected tobe sold on the spot market.

 

·                  On February 1, 2008, the Board ofDirectors of the Corporation announced it had approved an increase to theannual dividend to holders of common shares from $1.00 per share to $1.08 pershare.

 

**Year Ended December 31, 2007**

 

·                  During the third quarter, the Corporationcompleted an uprate on the Sundance Unit 4 facility. A final measurement tookplace in the fourth quarter of 2007 and the generating capacity added as aresult of this uprate was 53 MW.

 

·                  On September 11, 2007, the Corporationannounced it had received regulatory approval to increase the number of sharesit may purchase under its Normal Course Issuer Bid (“NCIB”) program.  The Corporation may now purchase forcancellation up to 20.2 million shares or approximately 10 per cent of the 202million common shares issued and outstanding as of April 23, 2007.

 

·                  On July 17, 2007, the Corporationamended the power purchase agreement with New Brunswick Power Distribution andCustomer Service Corporation (“New Brunswick Power”) to increase capacity from75 MW to 96

 

3

 

MW. As a result, total capital costs for the KentHills wind power project will also increase by $40 million, from $130 millionto $170 million. The Corporation also signed a purchase and sale agreement withVector Wind Energy, a wholly owned subsidiary of Canadian Hydro DevelopersInc., to acquire its Fairfield Hill wind power site, including an option todevelop the site at a future date.

 

·                  On June 21, 2007, TransAlta Utilitiesentered into an agreement with Bucyrus Canada Limited and Bucyrus InternationalInc. for the purchase of a dragline to be used primarily in the supply of coalfor the Keephills 3 joint venture project. The total dragline purchase costsare approximately $150 million, with final payments for goods and services dueby May 2010. The total payments made under this agreement in 2007 were $18million.

 

·                  On February 26, 2007, the Corporationand EPCOR Power Development Corporation (“EPCOR”) announced that they wereproceeding with building the 450 MW Keephills 3 power project locatedapproximately 70 kilometres west of Edmonton, Alberta.  The capital cost for the project, includingmine capital, is expected to be approximately $1.6 billion.  Through the Keephills 3 Limited Partnership (“K3LP”),an affiliate of the Corporation, TransAlta and EPCOR will be equal partnersin the ownership of Keephills 3, with TransAlta Energy responsible for managingthe joint venture and EPCOR responsible for the construction.  Upon completion, which is expected at the endof the first quarter in 2011, TransAlta Utilities will operate the facility andEPCOR and TransAlta will independently dispatch and market their share of theunit’s electrical output.  The projecthas received approval from the Alberta Energy and Utilities Board and fromAlberta Environment.

 

·                  On January 19, 2007, the Corporationannounced that it had been awarded a 25-year Power Purchase Agreement (“PPA”) toprovide 75 MW of wind power to New Brunswick Power.  Under the agreement, TransAlta willconstruct, own and operate a wind power facility in New Brunswick.  The capital cost of the project is estimatedto be $130 million.  The project issubject to regulatory and environmental approvals and is expected to begin commercialoperations by the end of 2008. Natural Forces Technologies Inc., an AtlanticCanada based wind developer, is TransAlta’s co-development partner in thisproject.

 

·                  On January 2, 2007, the Corporationredeemed, at par, all of its outstanding 7.75 per cent preferred securities,with an outstanding principal amount of $175 million.

 

**Year ended December 31, 2006**

 

·                 OnDecember 18, 2006, TransAlta Utilities assigned its rights in thedevelopment agreement it held with EPCOR, governing the joint development ofthe Keephills 3 power project, to K3LP. K3LP subsequently sold a 50% undivided interest in the Keephills 3 powerproject to the EPCOR Power Development (K3) Limited Partnership and has enteredinto a joint venture agreement governing the continued development of theKeephills 3 power project.  In the eventthe Keephills 3 power project proceeds to operation, TransAlta Utilities willbe the operator of the project pursuant to an operations and maintenanceagreement and coal supply agreement.

 

·                 OnNovember 27, 2006, TransAlta announced it would immediately stop miningoperations at its Centralia, Washington coal mine.  TransAlta also announced that it had enteredinto agreements to purchase and transport coal from the Powder River Basin tofuel TransAlta’s Centralia thermal facility.

 

·                 OnNovember 17, 2006, TransAlta Utilities entered into a settlement agreementwith Canadian National Railway Company for a portion of outstanding claims forlost margin and incremental expenses relating to the train derailment andresulting oil spill into Lake Wabamun in 2005. The terms of the settlement are subject to a confidentiality agreement andcannot be disclosed.

 

·                 OnFebruary 17, 2006, a wholly-owned subsidiary of TransAlta, together with asubsidiary of Mid-American Energy Company (“Mid-American”), entered into anagreement to purchase a 10 MW hydro facility in Hawaii to be held directly bythe Wailuku Holding Company LLC, a company jointly and equally owned byTransAlta and Mid-American.

 

·                 OnFebruary 15, 2006, TransAlta announced it had signed a five-year agreementwith the Ontario Power Authority (“OPA”) for the supply of electricity fromTransAlta’s Sarnia Regional Cogeneration Power Plant.  Under the

 

4

 

terms of the agreement, Transalta will be available tosupply an average of 400 MW of electricity to the Ontario electricitymarket.  The supply contract is effectiveuntil December 31, 2010.

 

·                 OnFebruary 1, 2006, TransAlta Utilities entered into a development agreementwith EPCOR to jointly pursue the Keephills 3 power project.  Keephills 3 is a proposed 450 MW facilityadjacent to TransAlta’s existing Keephills facility, approximately 70kilometres west of Edmonton, Alberta.

 

**Year ended December 31, 2005**

** **

·                 On December 9, 2005, the Corporationannounced that its wholly-owned subsidiary, TransAlta Energy Marketing (U.S.)Inc. had entered into an agreement for the sale of generation from theCorporation’s Centralia generating facility for the period from January 1,2007 to December 31, 2010.  Theagreement has a value of approximately US $450 million.

 

·                 On September 12, 2005, the Corporationannounced that its 279 MW Wabamun Unit 4 generating facility had resumed fulloperations on September 11, 2005 following the successful implementationof its return to service plan.  TransAltawas forced to shut down the Wabamun facility on August 3, 2005 due to atrain derailment and resulting oil spill into Lake Wabamun, Alberta.  The Wabamun unit was on standby until anappropriate return to service plan was developed and reviewed with regulatorsand Canadian National Railway Company. The Corporation estimated operating income was impacted by $15****to $18****million as aresult of the Wabamun shutdown.

 

·                 On March 1, 2005, the Corporationannounced the completion of the 450 MW Genesee 3 generating facility, a jointventure between the Corporation and EPCOR. See “Generation Business Segment –Alberta - Thermal facilities”.

 

·                 On February 15, 2005, the Corporationredeemed, at par, all of its outstanding 7.5 per cent and 8.15 per centpreferred securities, with an outstanding principal amount of $175 million and$125 million, respectively.

 

·                 On January 3, 2005, the Corporationannounced that it had shut down and retired Units 1 (62 MW) and 2 (57 MW) ofits Wabamun facility, effective December 31, 2004.  See “Generation Business Segment - Alberta -Thermal facilities”.

 

5

 

# **BUSINESSOF TRANSALTA**

#  

## **Generation Business Segment**

##  

The following table summarizes the Corporation’sgeneration facilities which are operating, under construction or underdevelopment, as at January 31, 2008:

 
| **Region**           | ** ** | **Facility**                                 | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)** | ** ** | **Net  Capacity  Ownership  Interest** | ** ** | **Fuel**   | ** ** | **Revenue  Source** | ** **                            | **Contract  Expiry Date** | ** ** |
|----------------------|------------|----------------------------------------------|------------|--------------------|------------|--------------------|------------|----------------------------------------|------------|------------|------------|---------------------|---------------------------------------|---------------------------|------------|
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |
| **Canada**           |       | Keephills                                    |       | 766                |       | 100                |       |                                   | 766        |       | Coal       |                | Alberta PPA                           |                      | 2020       |   |
| **Alberta**          |       | Sheerness                                    |       | 780                |       | 25                 |       |                                   | 195        |       | Coal       |                | Alberta PPA                           |                      | 2020       |   |
| **(25  facilities)** |       | Sundance                                     |       | 2,073              |       | 100                |       |                                   | 2,073      |       | Coal       |                | Alberta PPA                           |                      | 2017, 2020 |   |
|                 |       | Wabamun                                      |       | 279                |       | 100                |       |                                   | 279        |       | Coal       |                | Merchant                              |                      | -          |   |
|                 |       | Fort Saskatchewan                            |       | 118                |       | 30                 |       |                                   | 35         |       | Gas        |                | Long-term  contract (“LTC”) |                      | 2019       |   |
|                 |       | Meridian                                     |       | 220                |       | 25                 |       |                                   | 55         |       | Gas        |                | LTC                                   |                      | 2024       |   |
|                 |       | Poplar Creek                                 |       | 356                |       | 100                |       |                                   | 356        |       | Gas        |                | LTC/Merchant                          |                      | 2024       |   |
|                 |       | Genesee 3                                    |       | 450                |       | 50                 |       |                                   | 225        |       | Coal       |                | Merchant                              |                      | -          |   |
|                 |       | Keephills 3 (1)                              |       | 450                |       | 50                 |       |                                   | 225        |       | Coal       |                | Merchant                              |                      | -          |   |
|                 |       | Hydro assets (2)                             |       | 801                |       | 100                |       |                                   | 801        |       | Hydro      |                | Alberta PPA                           |                      | 2013-2020  |   |
|                 |       | Summerview(3)                                |       | 70                 |       | 100                |       |                                   | 70         |       | Wind       |                | Merchant                              |                      | -          |   |
|                 |       | Castle River (4)                             |       | 46                 |       | 100                |       |                                   | 46         |       | Wind       |                | LTC/Merchant                          |                      | 2011       |   |
|                 |       | McBride Lake                                 |       | 76                 |       | 50                 |       |                                   | 38         |       | Wind       |                | LTC                                   |                      | 2024       |   |
|                 |       | Blue Trail (2)                               |       | 66                 |       | 100                |       |                                   | 66         |       | Wind       |                | Merchant                              | ** **                | **-**      |   |
| ** **           | ** ** | **Total Alberta**                            | ** ** | **6,551**          | ** ** | ** **         | ** ** | ** **                             | **5,230**  | ** ** | ** ** | ** **          | ** **                            | ** **                | ** ** | ** ** |
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |   |
| **Eastern**          |       | Mississauga                                  |       | 108                |       | 50                 |       |                                   | 54         |       | Gas        |                | LTC                                   |                      | 2017       |   |
| **Canada**           |       | Ottawa                                       |       | 68                 |       | 50                 |       |                                   | 34         |       | Gas        |                | LTC                                   |                      | 2012       |   |
| **(5  facilities)**  |       | Sarnia                                       |       | 575                |       | 100                |       |                                   | 575        |       | Gas        |                | LTC/Merchant                          |                      | 2022       |   |
|                 |       | Windsor                                      |       | 68                 |       | 50                 |       |                                   | 34         |       | Gas        |                | LTC/Merchant                          |                      | 2016       |   |
|                 |       | Kent Hills (1)                               |       | 96                 |       | 100                |       |                                   | 96         |       | Wind       |                | PPA                                   |                      | 2033       |   |
| ** **           | ** ** | **Total Eastern Canada**                     | ** ** | **915**            | ** ** | ** **         | ** ** | ** **                             | **793**    | ** ** | ** ** | ** **          | ** **                            | ** **                | ** ** | ** ** |
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |   |
| **United  States**   |       | Centralia, WA                                |       | 1,404              |       | 100                |       |                                   | 1,404      |       | Coal       |                | Merchant                              |                      | -          |   |
| **(18  facilities)** |       | Centralia Gas                                |       | 248                |       | 100                |       |                                   | 248        |       | Gas        |                | Merchant                              |                      | -          |   |
|                 |       | Skookumchuk, WA                              |       | 1                  |       | 100                |       |                                   | 1          |       | Hydro      |                | -                                     |                      | -          |   |
|                 |       | Power Resources, TX                          |       | 212                |       | 50                 |       |                                   | 106        |       | Gas        |                | Merchant                              |                      | -          | ** ** |
|                 |       | Saranac, NY                                  |       | 240                |       | 37                 | .5         |                                   | 90         |       | Gas        |                | LTC                                   |                      | 2009       |   |
|                 |       | Yuma, AZ                                     |       | 50                 |       | 50                 |       |                                   | 25         |       | Gas        |                | LTC                                   |                      | 2024       |   |
|                 |       | Imperial Valley  Geothermal Facilities  5(8) |       | 327                |       | 50                 |       |                                   | 164        |       | Geothermal |                | LTC/Merchant                          |                      | 2016-2035  |   |
|                 |       | Wailuku                                      |       | 10                 |       | 50                 |       |                                   | 5          |       | Hydro      |                | LTC                                   |                      | 2023       |   |
| ** **           | ** ** | **Total US**                                 | ** ** | **2,492**          | ** ** | ** **         | ** ** | ** **                             | **2,043**  | ** ** | ** ** | ** **          | ** **                            | ** **                | ** ** | ** ** |
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |   |
| **Mexico**           |       | Campeche                                     |       | 252                |       | 100                |       |                                   | 252        |       | Gas/Diesel |                | LTC                                   |                      | 2028       |   |
| **(2  facilities)**  |       | Chihuahua                                    |       | 259                |       | 100                |       |                                   | 259        |       | Gas        |                | LTC                                   |                      | 2028       |   |
| ** **           | ** ** | **Total Mexico**                             | ** ** | **511**            | ** ** | ** **         | ** ** |                                   | **511**    |       |       |                |                                  |                      |       |   |
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |   |
| **Australia**        |       | Parkeston                                    |       | 110                |       | 50                 |       |                                   | 55         |       | Gas        |                | LTC                                   |                      | 2016       |   |
| **(5  facilities)**  |       | Southern Cross (6)                           |       | 245                |       | 100                |       |                                   | 245        |       | Gas/Diesel |                | LTC                                   |                      | 2016       |   |
| ** **           | ** ** | **Total Australia**                          | ** ** | **355**            | ** ** | ** **         | ** ** | ** **                             | **300**    | ** ** | ** ** | ** **          | ** **                            | ** **                | ** ** | ** ** |
|                 |       |                                         |       |               |       |               |       |                                   |       |       |       |                |                                  |                      |       |   |
| **Total**            | ** ** | ** **                                   | ** ** | **10,824**         | ** ** | ** **         | ** ** | ** **                             | **8,877**  | ** ** | ** ** | ** **          | ** **                            | ** **                | ** ** | ** ** |

 

**Notes:**

** **
| (1) | These  facilities are currently under development.  |
|-----|-----------------------------------------------------|
| (2) | Comprises  13 facilities.                           |
| (3) | Comprises  2 facilities.                            |
| (4) | Includes  6 individual turbines at other locations. |
| (5) | Comprises 10 facilities.                            |
| (6) | Comprises 4 facilities                              |

 

6

 

**Canada:  Alberta**

** **

*Thermal facilities*

* *

The followingtable summarizes the Corporation’s western Canadian thermal generationfacilities:

 
| **Location** | ** ** | **Plant**                      | ** ** | **Capacity  (MW)** | ** ** | **Ownership (%)** | ** ** | **Commissioning Dates** | ** ** |
|--------------|------------|--------------------------------|------------|--------------------|------------|------------------------|------------|------------------------------|------------|
|         |       |                           |       |               |       |                   |       |                         |       |
| Wabamun  (1) |       | Wabamun Unit  No. 4       |       | 279                |       | 100                    |       | 1968                         |       |
| Sundance     |       | Sundance Unit  No. 1      |       | 280                |       | 100                    |       | 1970                         |       |
|         |       | Sundance Unit  No. 2      |       | 280                |       | 100                    |       | 1973                         |       |
|         |       | Sundance Unit  No. 3      |       | 353                |       | 100                    |       | 1976                         |       |
|         |       | Sundance Unit  No. 4      |       | 406                |       | 100                    |       | 1977                         |       |
|         |       | Sundance Unit  No. 5      |       | 353                |       | 100                    |       | 1978                         |       |
|         |       | Sundance Unit  No. 6      |       | 401                |       | 100                    |       | 1980                         |       |
| Keephills    |       | Keephills  Unit No. 1     |       | 383                |       | 100                    |       | 1983                         |       |
|         |       | Keephills  Unit No. 2     |       | 383                |       | 100                    |       | 1984                         |       |
|         |       | Keephills  Unit No. 3 (2) |       | 450                |       | 50                     |       | -                            |       |
| Sheerness    |       | Sheerness  Unit No. 1     |       | 390                |       | 25                     |       | 1986                         |       |
|         |       | Sheerness  Unit No. 2     |       | 390                |       | 25                     |       | 1990                         |       |
| Genesee      |       | Genesee 3                      |       | 450                |       | 50                     |       | 2005                         |       |
| **Total**    | ** ** | ** **                     |       | **4,798**          |       |                   |       |                         |       |

** **

**Notes:**

** **

(1)        Wabamun unit 4 is expected to be removed from service uponthe expiry of its license in 2010.

(2)        Facility under development.

 

The Keephills, Sundance and Wabamun facilities (the “Albertathermal plants”) are located approximately 70 kilometres west of Edmonton,Alberta and are owned by the Corporation. The Sheerness facility is jointly owned by TransAlta Cogeneration, L.P.(“TA Cogen”), an Ontario limited partnership, and ATCO Power (2000) Ltd. (“ATCOPower”). The Genesee facility is jointly owned by the Corporation and EPCOR.  The Corporation completed the sale of its 50per cent interest in the Sheerness facility to TA Cogen on July 30,2003.  The Corporation’s thermal plantsare generally base load plants, meaning that they are expected to operate forlong periods of time at or near their rated capacity.  Availability(1) is an important measureof the economic success of a thermal plant.The weighted equivalentavailability factor for the Alberta thermal plants in 2007 was 87.1 per centcompared with 88.7 percent in 2006, 87.6 per cent in 2005 and 86.5 per cent in2004.  For the Sheerness facility, theweighted equivalent availability factor was 94.4 percent in 2007 compared to92.2 percent in 2006, 91.0 per cent in 2005 and 90.2 per cent in 2004.  For the Genesee 3 facility, the weightedequivalent availability factor was 92.9 percent in 2007 compared to 96.9 percent in 2006 and 91.8 per cent in 2005.

 

Fuel requirements for TransAlta’s thermal powerfacilities are supplied by surface strip coal mines located in close proximityto the facilities.  TransAlta owns twosurface mines in Alberta that supply coal to its Alberta thermal plants.  The Whitewood mine supplies the Wabamun plantand the Highvale mine supplies the Sundance and Keephills facilities.  TransAlta estimates that the recoverable coalreserves contained in these mines are potentially sufficient to supply theanticipated requirements for the life of these facilities including possiblelife extension and plant expansion.

 

Coal for the Sheerness facility is provided from theadjacent Sheerness mine.  The coalreserves of the mine are owned, leased or controlled jointly by TA Cogen, ATCOPower and Prairie Mines & Royalties Limited (“PMRL”).  TA Cogen and ATCO Power have entered intocoal supply agreements with PMRL, which operates the mine, to supply coal until2026.

 

**Note:**

** **

**(1)**              Availability means the weighted averageequivalent availability factor and is defined in the glossary of terms(Appendix B).

 

7

 

Coal for the Genesee 3 facility is provided from theadjacent Genesee mine.  The coal reservesof the mine are owned, leased or controlled jointly by PMRL and EPCOR.  The Corporation has entered into coal supplyagreements with PMRL, which operates the mine, to supply coal for the life ofthe facility.

 

In February 2001, the Corporation announced aproposal for a 900 MW expansion at its Keephills facility.  Although the Corporation received regulatoryapproval to proceed with the expansion, an application was made to the AEUB toamend its 900 MW permit to allow for the construction of a smaller 450 MWfacility using improved technology.

 

On February 1, 2006, the Corporation entered intoa development agreement with EPCOR to jointly pursue the Keephills 3 powerproject.  On December 18, 2006, theCorporation assigned its rights in the development agreement which it held withEPCOR for the joint development of the Keephills 3 power project to K3LP, anaffiliate of the Corporation.  K3LPsubsequently sold a 50% undivided interest in the Keephills 3 power project tothe EPCOR Power Development (K3) Limited Partnership and has entered into ajoint venture agreement governing the continued development of the Keephills 3power project.

 

On February 26, 2007, the Corporation and EPCORcommenced construction of the net 450 MW Keephills 3 power project.  The capital cost for the project, includingmine capital, is expected to be approximately $1.6 billion.  Through K3LP, TransAlta and EPCOR will beequal partners in the ownership of Keephills 3, with TransAlta Energyresponsible for managing the joint venture and EPCOR responsible forconstruction.  Upon completion, which isexpected at the end of the first quarter in 2011, TransAlta Utilities willoperate the facility and EPCOR and TransAlta will independently dispatch andmarket their share of the unit’s electrical output.  Through a subsidiary, the Corporation willalso provide coal to the facility through the Highvale mine.  The project received approval from theAlberta Energy and Utilities Board and from Alberta Environment.

 

*Gas-fired Facilities*

 

The followingtable summarizes the Corporation’s western Canadian gas-fired generationfacilities:

 
| **Location**           | ** ** | **Plant**         | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)** | ** ** | **Commissioning  Dates** | ** ** |
|------------------------|------------|-------------------|------------|--------------------|------------|--------------------|------------|--------------------------|------------|
|                   |       |              |       |               |       |               |       |                     |       |
| Lloydminster,  SK      |       | Meridian          |       | 220                |       | 25                 |       | 1999                     |       |
| Fort  McMurray, AB     |       | Poplar Creek      |       | 356                |       | 100                |       | 2001                     |       |
| Fort  Saskatchewan, AB |       | Fort Saskatchewan |       | 118                |       | 30                 |       | 1999                     |       |
| **Total**              | ** ** | ** **        | ** ** | **694**            | ** ** | ** **         | ** ** | ** **               | ** ** |

 

The Meridian plant is located in Lloydminster,Saskatchewan and is owned by TA Cogen and Husky Oil Operations Limited.  The Meridian plant sells electricity toSaskatchewan Power Corporation, a crown corporation owned by the Province of Saskatchewan,and steam to a heavy oil upgrader in Lloydminster, Saskatchewan.  The Corporation completed the sale of its 50per cent interest in the Meridian facility to TA Cogen on December 1,2004.

 

The Poplar Creek plant is located in Fort McMurray,Alberta and is owned by the Corporation. The Poplar Creek plant provides electricity and steam to Suncor EnergyInc.’s oil sands project.  This 356 MWcogeneration plant became fully operational in the first quarter of 2001 anddelivers approximately 200 MW of electricity and steam to Suncor Energy Inc. (“Suncor”).  Any surplus power not used by Suncor isavailable for sale by the Corporation to other parties, in which case Suncor isentitled to a share of that revenue, under certain conditions.

 

The Fort Saskatchewan plant is located in Fort Saskatchewan,Alberta and is owned by TA Cogen and Air Liquide Canada Inc .  The 118 MW Fort Saskatchewan gas-firedcombined cycle cogeneration plant in Alberta provides electricity and steam toDow Chemical Canada Inc.

 

The Corporation’s interests in the Meridian and FortSaskatchewan facilities are held through TA Cogen.  See “TA Cogen”.

 

8

 

*Hydroelectric facilities*

 
| **Location**                    | ** ** | **Plant**     | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)** | ** ** | **Commissioning  Dates** |
|---------------------------------|------------|---------------|------------|--------------------|------------|--------------------|------------|--------------------------|
|                            |       |          |       |               |       |               |       |                     |
| Bow River System                |       | Horseshoe     |       | 14                 |       | 100                |       | 1911                     |
|                            |       | Kananaskis    |       | 19                 |       | 100                |       | 1913, 1951               |
|                            |       | Ghost         |       | 51                 |       | 100                |       | 1929, 1954               |
|                            |       | Cascade       |       | 36                 |       | 100                |       | 1942, 1957               |
|                            |       | Barrier       |       | 13                 |       | 100                |       | 1947                     |
|                            |       | Bearspaw      |       | 17                 |       | 100                |       | 1953, 1954               |
|                            |       | Pocaterra     |       | 15                 |       | 100                |       | 1955                     |
|                            |       | Interlakes    |       | 5                  |       | 100                |       | 1955                     |
|                            |       | Spray         |       | 103                |       | 100                |       | 1951, 1960               |
|                            |       | Three Sisters |       | 3                  |       | 100                |       | 1951                     |
|                            |       | Rundle        |       | 50                 |       | 100                |       | 1951, 1960               |
|                            |       |          |       |               |       |               |       |                     |
| North Saskatchewan River System |       | Brazeau       |       | 355                |       | 100                |       | 1965, 1967               |
|                            |       | Bighorn       |       | 120                |       | 100                |       | 1972                     |
| **Total**                       | ** ** | ** **    | ** ** | **801**            | ** ** | ** **         | ** ** | ** **               |

 

TheCorporation’s hydroelectric facilities are primarily peaking plants, meaningthey are generally only operated during times of peak demand.

 

*Wind Generation Facilities*

* *

The followingtable summarizes the Corporation’s wind generation facilities:

 
| **Location**  | ** ** | **Plant**              | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)** | ** ** | **Commissioning  Dates** |
|---------------|------------|------------------------|------------|--------------------|------------|--------------------|------------|--------------------------|
|          |       |                   |       |               |       |               |       |                     |
| Fort MacLeod  |       | McBride Lake           |       | 76                 |       | 50                 |       | 2003                     |
| Pincher Creek |       | Castle River and Other |       | 46                 |       | 100                |       | 1997 – 2001         |
| Pincher Creek |       | Summerview             |       | 70                 |       | 100                |       | 2004                     |
| New Brunswick |       | Kent Hills (1)         |       | 96                 |       | 100                |       | 2008                     |
| Alberta       |       | Blue Trail (1)         |       | 66                 |       | 100                |       | 2009                     |
| **Total**     | ** ** | ** **             | ** ** | **354**            | ** ** | ** **         | ** ** | ** **               |

** **

**Note:**

(1)       Facilityunder development reflects expected capacity and commissioning date.

 

The Corporation owns and operates approximately 154 MWof net capacity (excluding facilities under development) and operatesapproximately 192 MW of capacity primarily in three wind farms in southwesternAlberta.

 

Castle River is a 42 MW facility comprised of 59Vestas V47 (660 kW) turbines and 1 Vestas V44 (600 kW) turbine located atPincher Creek, Alberta.  The facility is71 per cent contracted primarily to ENMAX Energy Corp. and is the sole GreenEnergy® provider to the City of Calgary’s “Ride the Wind” Light Rail Transitprogram.  The Corporation also owns andoperates seven additional turbines totalling 4 MW primarily located in thePincher Creek and Waterton areas of southwestern Alberta.

 

McBride Lake, one of Canada’s largest wind generationfacilities, is a 76 MW facility comprised of 114 Vestas V47 (660 kW) turbineslocated at Fort MacLeod, Alberta.  It wasconstructed by the Corporation and was completed and producing electricity inthe third quarter of 2003.  McBride Lakeis operated by the Corporation and is jointly owned with ENMAX Green PowerInc., with each partner owning a 50 per cent interest.  The output from the facility is 100 per centcontracted in the form of a 20-year PPA with ENMAX.  The Corporation is also entitled to receiveWind Power Production Incentive (“WPPI”) payments from the federal governmentat $12/MWh in respect of the McBride Lake facility until 2013.

 

On October 13, 2004, TransAlta announced thecommencement of commercial operations at its $100 million Summerview 68 MWwind farm located approximately 15 kilometres northeast of Pincher Creek,Alberta.  Along with an existing 1.8 MWturbine in the area, the Summerview facility, which comprises 38 x 1.8 MWturbines, brings the total owned wind generation capacity to approximately 152MW and total operated capacity to approximately 189 MW.  The Summerview 

 

9

 

wind farm is a merchant facility but is entitled toreceive WPPI payments from the Federal Government at $10/MWh until 2014.

 

On January 19, 2007,the Corporation announced that it had been awarded a 25 year PPA todeliver 75 MW of wind power to New Brunswick Power.  Under the agreement,TransAlta will construct, own and operate a wind power facility in NewBrunswick. On July 17, 2007, the Corporation announced it had amended itspower purchase agreement with New Brunswick Power from 75 MW to 96 MW bringingthe total capital costs for the project to an estimated $170 million.  The project is subject to regulatory andenvironmental approvals and is expected to begin commercial operations by theend of 2008.  The facility will use 3 MWturbines and once complete, will provide an estimated 280,000 MWh per year ofelectrical energy.  Natural ForcesTechnologies Inc. (“Natural Forces”), an Atlantic Canada based wind developeris TransAlta’s co-development partner in this project and Natural Forces has an option to purchase upto 17% of the Kent Hills project within 180 days of its completion.

 

The Corporation also signed a purchase and saleagreement with Vector Wind Energy, a wholly owned subsidiary of Canadian HydroDevelopers Inc., for acquisition of its Fairfield Hill wind power site, locatedin New Brunswick, including the option to develop the site at a future date.

 

On February 13, 2008, the Corporation announced that,commencing in 2009, it would be constructing a 66 MW wind generation facilityin southern Alberta, consisting of 22 Vestas V90 3 MW wind turbines.  The total capital costs for this Blue Trailwind power project is expected to be $115 million.  The capacity from this project is expected tobe sold on the spot market.

 

All of the electricity generated and sold by theCorporation’s wind division is from generation facilities that areEcoLogo-certified.  The Corporation is anEcoLogo-certified distributor of Alternative Source Electricity throughEnvironment Canada’s Environmental Choice program.  EcoLogo certification is granted to productswith environmental performance that meet or exceed all government, industrialsafety and performance standards.  TheCorporation’s wind facilities constructed after April 2001, also qualifyfor the Green E and Green Leaf certifications.

 

*Alberta PPAs*

* *

All of the Corporation’s Alberta thermal andhydroelectric facilities, other than the Wabamun and Genesee 3 facilities, operateunder Alberta PPAs.  The PPA for theWabamun plant expired on December 31, 2003.  The Alberta PPAs establish committed capacityand electrical energy generation requirements and availability targets to beachieved by each thermal plant, energy and ancillary services obligations forthe hydroelectric plants, and the price at which electricity is to besupplied.  The Corporation bears the riskor retains the benefit of volume variances (except for those arising fromevents considered to be *force majeure*,in the case of the thermal plants) and any change in costs (unless due to achange in law) required to maintain and operate the facilities.

 

Under the Alberta PPAs, for the formerly regulatedthermal facilities, the Corporation is exposed to electricity price risk ifavailability declines below contracted levels (other than as a result ofoutages caused by an event of *force majeure*).  In such circumstances, the Corporation mustpay a penalty for the lost availability based upon a price equal to the 30-dayrolling average of Alberta’s market electricity prices.  This rolling average provision attempts tomitigate price spikes that can occur as a result of sudden outages.  The Corporation attempts to further mitigatethis exposure by maintaining contracted and uncontracted capacity in themarket, through operating and maintenance practices, and through hedgingactivities.

 

The Corporation’s hydroelectric facilities are notcontracted on a facility-by-facility basis; rather, facilities are aggregatedin a single Alberta PPA which provides for financial obligations for energy andancillary services based on hourly targets. These targeted amounts are met by the Corporation through physicaldelivery or third party purchases.

 

The Corporation’s compensation under the Alberta PPAsis based on a pricing formula which replaced the cost of service regime thatapplied previously under utility regulation. Key elements of the pricing formula are the amount of common equitydeemed to form part of the capital structure, the amount of risk premiumattributable to deemed common equity and a recovery of fixed and variablecosts.  Common equity is deemed to be 45per cent of total capital and the return on equity is set annually at a 4.5 percent premium over the rate on a 10-year Government of Canada Bond.

 

10

 

The pricing formula includes a provision for siterestoration costs of the thermal generating plants for the whole term of thePPA.  Until 2017, if the costs recoveredare insufficient, then the Corporation can apply to the Balancing Pool torecover the incremental portion.  TheAlberta PPAs include, as part of the capacity payment for hydroelectricoperations, an amount for decommissioning.

 

The expiry dates for the Corporation’s Alberta PPAs,range from 2013 to 2020.  With the expiryof the PPA at the Wabamun facility, the Corporation procured an extension ofthe license to operate Unit four of the Wabamun facility until March 31,2010.  The Corporation holds variouslicenses from Alberta Environment and the AEUB to operate its other facilities,most of which are renewed every few years. The Corporation is evaluating life extension and may procure extensionsof the licenses for the other facilities upon the expiry of each respectiveAlberta PPA.  Upon the expiry of theAlberta PPAs and subject to procuring extension of the licenses, theCorporation will then be able to sell its electricity to the Alberta Power Pooland to third party purchasers through direct sales agreements.  The Corporation is currently selling most ofits electricity from the Wabamun facility on the spot market.

 

The Alberta PPAs (together with legislation whichapplies thereto) permit the Balancing Pool, an entity established by theGovernment of Alberta, directly or indirectly as successor to the powerpurchaser under the Alberta PPAs, to terminate the Alberta PPAs in certaincircumstances.  These terminationprovisions are similar to those found in some PPAs entered into bygovernment-related power purchasers.  TheCorporation will be entitled to receive a lump sum payment in connection withany such termination, other than a termination resulting from the Corporation’sdefault and will thereafter be able to sell the output from any affectedfacilities for its own account.

 

**Canada:  Ontario**

** **

The Corporation’s Ontario generating facilities aresummarized in the following table:

 
| **Location** | ** ** | **Plant**   | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)** | ** ** | **Commissioning  Dates** |
|--------------|------------|-------------|------------|--------------------|------------|--------------------|------------|--------------------------|
|         |       |        |       |               |       |               |       |                     |
| Sarnia       |       | Sarnia      |       | 575                |       | 100                |       | 2003                     |
| Ottawa       |       | Ottawa      |       | 68                 |       | 50                 |       | 1992                     |
| Mississauga  |       | Mississauga |       | 108                |       | 50                 |       | 1992                     |
| Windsor      |       | Windsor     |       | 68                 |       | 50                 |       | 1996                     |
| **Total**    | ** ** | ** **  | ** ** | **819**            | ** ** | ** **         | ** ** | ** **               |

 

The Sarnia facility is owned by the Corporation.  The Corporation acquired 135 MW of electricgeneration capacity in 2002, and in March 2003 the Corporation acquiredthe remaining 440 MW of capacity.  Thecombined 575 MW facility provides steam and electricity to nearby facilitiesowned by Dow Chemical Canada Inc., Lanxess (formerly Bayer Inc.), NovaChemicals (Canada) Ltd. and Suncor Energy Products Inc.  On February 15, 2006, TransAltaannounced that it had signed a five-year agreement with the OPA for productionat its Sarnia facility.  Under the termsof the contract, TransAlta will be available to supply an average of 400 MW ofelectricity to the Ontario electricity market. The supply contract is effective until December 31, 2010.

 

The Ottawa plant is owned by TA Cogen.  It is a combined cycle cogeneration facilitydesigned to produce 68 MW of electrical energy. This capacity is sold under a long-term contract with the OntarioElectricity Financial Corporation (“OEFC”), an agency of the Province ofOntario.  This agreement expires in2012.  The Ottawa plant also providesthermal energy to the member hospitals and treatment centers of the OttawaHealth Sciences Centre, National Defence Medical Centre and the Perley andRideau Veterans’ Health Centre.

 

The Mississauga plant is owned by TA Cogen.  It is a combined cycle cogeneration facilitydesigned to produce 108 MW of electrical energy.  This capacity is contracted under a long-termcontract with the OEFC which expires in 2017. The Mississauga Plant provided cogeneration services to Boeing CanadaInc. (“Boeing”) until July 2005 at which time Boeing exercised its rightunder the cogeneration services agreement to no longer take and pay forcogeneration services due to the recent closure of its manufacturingfacility.  Boeing remains entitled to anysteam credits based on the total plant electricity generation revenue.  On or prior to each of January 1, 2013,2018 and 2023, Boeing may give notice to purchase the Mississauga Plant at fairmarket value.  On January 1, 2028,all provisions under the cogeneration services agreement will 

 

11

 

terminate and Boeing will have the option at that timeto either require the removal of the Mississauga Plant from the leased lands orpurchase the Mississauga Plant at its net salvage value.

 

The Windsor plant is owned by TA Cogen.  It is a combined cycle cogeneration facilitydesigned to produce 68 MW of electrical energy. Currently, 50 MW of the capacity is sold under a long-term contract tothe OEFC.  This agreement expires in2016.  The Windsor plant also providesthermal energy to Chrysler Canada Inc.’s minivan assembly facility inWindsor.  In 2003, an agreement wasreached with the OEFC to sell the remaining 18 MW to the Ontario power marketwhen it is economic to do so.

 

**United States**

** **

The Corporation’s generation facilities in the UnitedStates are summarized in the following table:

 
| **Location** | ** ** | **Plant**                 | ** ** | **Capacity (MW)** | ** ** | **Ownership (%)** | ** ** | **Commissioning  Dates** |
|--------------|------------|---------------------------|------------|-------------------|------------|-------------------|------------|--------------------------|
|         |       |                      |       |              |       |              |       |                     |
| Washington   |       | Centralia Coal No. 1 |       | 702               |       | 100               |       | 1971                     |
|         |       | Centralia Coal No. 2 |       | 702               |       | 100               |       | 1971                     |
|         |       | Centralia Gas             |       | 248               |       | 100               |       | 2002                     |
|         |       | Skookumchuk               |       | 1                 |       | 100               |       | 1970                     |
|         |       |                      |       |              |       |              |       |                     |
| New York     |       | Saranac                   |       | 240               |       | 37.5              |       | 1994                     |
|         |       |                      |       |              |       |              |       |                     |
| California   |       | Vulcan                    |       | 34                |       | 50                |       | 1986                     |
|         |       | Del Ranch                 |       | 38                |       | 50                |       | 1989                     |
|         |       | Elmore                    |       | 38                |       | 50                |       | 1989                     |
|         |       | Leathers                  |       | 38                |       | 50                |       | 1990                     |
|         |       | CE Turbo                  |       | 10                |       | 50                |       | 2000                     |
|         |       | Salton Sea I              |       | 10                |       | 50                |       | 1987                     |
|         |       | Salton Sea II             |       | 20                |       | 50                |       | 1990                     |
|         |       | Salton Sea III            |       | 50                |       | 50                |       | 1989                     |
|         |       | Salton Sea IV             |       | 40                |       |              |       | 1996                     |
|         |       | Salton Sea V              |       | 49                |       | 50                |       | 2000                     |
|         |       |                      |       |              |       |              |       |                     |
| Texas        |       | Power Resources           |       | 200               |       | 50                |       | 1988                     |
|         |       |                      |       |              |       |              |       |                     |
| Arizona      |       | Yuma                      |       | 50                |       | 50                |       | 1994                     |
| Hawaii       |       | Wailuku                   |       | 10                |       | 50                |       | 1993                     |
| **Total**    | ** ** |                      |       | **2,480**         |       |              |       |                     |

 

*Centralia*

* *

The Corporation owns a two-unit 1,404 MW thermalfacility, an adjacent coal mine and a 248 MW gas-fired facility in Centralia,Washington, located south of Seattle. The Corporation also owns a 1 MW hydro-electric generating facility andrelated assets on the Skookumchuk River near Centralia, which facilities areused to provide reliable water supply to TransAlta’s other generationfacilities at Centralia.  On November 27,2006, the Corporation stopped all mining operations at its Centralia coal mine.

 

The Corporation has entered into a number of medium tolong-term energy sales agreements from the Centralia facility.  The Corporation also sells electricity fromthe Centralia facility into the Western Electricity Coordinating Council and,in particular, on the spot market in the U.S. Pacific Northwest energymarket.  The Corporation’s strategy is tobalance contracted and non-contracted sales of electricity to manage productionand price risk.

 

The Corporation stopped mining operations at itsCentralia coal mine on November 27, 2006. Prior to that date, the Centralia mine produced approximately five tosix million tons of coal annually, or approximately 70 to 85 per cent of theCentralia plant’s annual coal requirements. Although the Corporation estimates that certain coal reserves remain tobe extracted, the Corporation has not yet received permits for, nor developedthe new area, from which this coal could be produced.  The Corporation has entered into contracts topurchase and transport coal from the Powder River Basin in Montana and Wyomingto fuel its facility until it is economic to pursue the extraction of coal atits Centralia mine.

 

12

 

*CE Generation*

* *

On January 29, 2003, TransAlta announced thecompletion of the acquisition from El Paso Corporation (“El Paso”) of a 50 percent interest in CE Generation, for total consideration of approximately US$240 million, which included approximately US $35 million for workingcapital.  The CE Generation acquisitionincluded the right to a 50 per cent interest in a geothermal project in theImperial Valley, California. If TransAlta elects to retain an economic interestand participate in a future phase of this project, Salton Sea VI, TransAltawill be required to pay El Paso certain milestone payments of up to US$10 million.

 

CE Generation, through its subsidiaries, is primarilyengaged in the development, ownership and operation of independent powerproduction facilities in the United States using geothermal and natural gasresources.  CE Generation holds a netownership interest of approximately 385 MW in 13 facilities, having anaggregate operating capacity of 829 MW, including 327 MW of geothermalgeneration in California and 490 MW of gas-fired cogeneration in New York,Texas and Arizona.

 

CE Generation affiliates currently operate 10geothermal facilities in Imperial Valley, California.  Each of the geothermal facilities, excludingCE Turbo and Salton Sea V, sells electricity pursuant to independent, long-termcontracts which provide for energy payments, capacity payments and capacitybonus payments.  Salton Sea V iscurrently a merchant facility; however, it has a PPA to sell approximately 20MW of its net output.  The balance ofavailable capacity from Salton Sea V and CE Turbo is sold through markettransactions.

 

CE Generation affiliates currently operate threenatural gas-fired facilities in Texas, Arizona and New York State, having anaggregate generation capacity of 502 MW. The Arizona facility sells its output pursuant to long-term contractswhile the Texas facility has contracted a tolling agreement for capacity.  The New York facility sells its outputpursuant to long-term contracts until 2009, after which point its capacity willbe sold on the spot market.

 

*Wailuku*

 

On February 17, 2006, a subsidiary of TransAlta,together with a subsidiary of Mid-American entered into an arrangement topurchase a 10 MW hydro facility in Hawaii to be held directly by the WailukuHolding Company LLC. Each of TransAlta and Mid American hold a 50 per centinterest in the facility.  The facilitysells electricity pursuant to the terms of a 30 year long-term contract withthe Hawaii Electricity Light Company.

 

**Mexico**

** **

*Campeche*

* *

In May 2003, the Corporation announced thecommencement of commercial operations at its 252 MW combined cycle gas ordiesel fired facility located in the Mexican state of Campeche in the YucatanPeninsula.  The Corporation and Mexico’sstate owned Comisión Federal de Electricidad (“CFE”) have entered into a 25year long-term contract for all of the output of this plant, commencing on thedate commercial operations began.  TheCorporation has also entered into a related gas transportation agreement withCFE.  In addition to the long-termcontract and gas transportation agreement, the Corporation has entered into acorresponding 25 year fuel supply agreement with Pemex Gas y Petro QuimicaBasica.  CFE bears the price risk on fuelup to the guaranteed heat rate under the long-term contract.

 

*Chihuahua*

* *

In September 2003, the Corporation announced thecommencement of commercial operations at its 259 MW Chihuahua combined-cyclegas-fired facility located near Ciudad de Juarez, Mexico, located approximately40 kilometres south of the United States/Mexico border.  The Corporation has entered into a 25 yearlong-term contract with CFE for all of the output of this plant, commencing onthe date commercial operations began, along with a 25 year gas transportationagreement.   In addition, the Corporationhas secured a 5 year gas supply contract. CFE bears the price risk on fuel up to the guaranteed heat rate underthe long-term contract.

 

**On February 20, 2008, theCorporation announced it had signed a purchase and sale agreement with IntergenGlobal Ventures B.V. pursuant to which Intergen agrees to pay the CorporationUS $303.5 million in cash for its Mexican assets.**

 

13

 

**Australia**

** **

The Corporation holds interests in Western Australiaconsisting of the 110 MW Parkeston generation facility through a 50/50joint venture with NP Kalgoorlie Pty Ltd, a subsidiary of Newmount AustraliaLimited, and the 245 MW Southern Cross gas and diesel generationfacilities.  Most of TransAlta’s generationsupplies two large mining companies through long-term capacity contracts andthe remaining amount of surplus energy and capacity is sold into Australia’sWholesale Electricity Market which was introduced in Western Australia in late2006.

 

**TA Cogen**

** **

The Corporation’s interest in the 220 MW Meridiangas-fired generation facility in Saskatchewan, the 770 MW Sheerness thermalgeneration facility, the 118 MW Fort Saskatchewan gas-fired cogenerationfacility in Alberta, and the Mississauga, Ottawa and Windsor-Essex facilitiesin Ontario, are held through TA Cogen, an Ontario limited partnership owned50.01 per cent by subsidiaries of TransAlta and 49.99 per cent by Stanley PowerInc., a subsidiary of Cheung KongInfrastructure Holdings Limited.

 

## **Commercial Operations Development**

##  

The Commercial Operations Development group provides a number of strategicfunctions to the Corporation, including the following:

 
| · | Gathering and assessing market  intelligence, enabling management to more effectively engage in strategic  planning and decision-making for the Corporation. This includes identifying  and ranking markets which are the most attractive to enter, and developing  strategies and plans to effectively compete in each market where the  Corporation operates; |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                                            |
| · | Identifying specific opportunities to  develop, acquire, or divest of generation assets in markets where the  Corporation is operating or growing and completing the business arrangements  so the Corporation can either make investment or divesture decisions;                                                                                               |
|   |                                                                                                                                                                                                                                                                                                                                                            |
| · | Negotiating and entering into contractual  agreements with customers for the sale of output from the Corporation’s  generating assets, including electricity, steam or other energy related  commodities;                                                                                                                                                  |
|   |                                                                                                                                                                                                                                                                                                                                                            |
| · | Scheduling physical deliveries of natural  gas supplies used to generate electricity and the electrical generation  outputs from each asset to meet contractual obligations while managing the  physical and financial risks associated with the generation and transmission  of electrical energy, including during those periods of unplanned outages;        |
|   |                                                                                                                                                                                                                                                                                                                                                            |
| · | Increasing the value of electricity  output and fuel inputs from each generating asset through a variety of regional  portfolio optimization strategies in both the current year and over the  long-term; and,                                                                                                                                                  |
|   |                                                                                                                                                                                                                                                                                                                                                            |
| · | Recommending optimum maintenance  schedules and operating levels according to current and anticipated market  conditions that will maximize earnings from each of the generation assets.                                                                                                                                                                        |

 

Beyond these functions, the Commercial Operations Development group derives additionalrevenue and earnings from the wholesale trading of electricity and other energyrelated commodities and derivatives.

 

The group seeks to manage and limit risk exposuresfrom both financial and physical positions, as well as counterparty risks.  The key risk control activities of the Commercial Operations Development group, in conjunction withother functions of the Corporation, include credit review approval andreporting, risk measurement monitoring and reporting, validation oftransactions, and trading portfolio valuation monitoring and reporting.

 

The Corporation uses mark-to-market valuation and theapplication of a value at risk (“VAR”) determination for risk control practicesfor its trading portfolios.  Thisapproach is a measure of assessing the potential trading losses that the 

 

14

 

Corporation could experience over a given time, due tofluctuations in energy prices in each market. The Corporation’s policy is to actively manage and limit the group’saggregate VAR exposure within board approved limits.

 

**CompetitiveEnvironment**

** **

TransAlta is the largest generator of electricity inAlberta, measured by capacity, and has a significant portfolio of generationassets in the Pacific northwest and western U.S. The Corporation also owns andoperates generating assets in Eastern Canada, Mexico and Australia.

 

The Corporation expects that the demand forelectricity will grow in its core markets of western Canada and U.S. andreserve margins will continue to tighten. In addition to increased demand, many of the markets in which TransAltaparticipates have established renewable portfolio targets or standards thatrequire new renewable power investments.

 

As part of its balanced approach to capital allocationwhich includes returning capital to shareholders through dividends and sharebuybacks, TransAlta also has plans for investing in new capacity in its coremarkets where opportunities exist for renewable and co-generation assets.

 

Alberta is Canada’s fourth largest province bypopulation with approximately 3.5 million residents representingapproximately 11 per cent of Canada’s total population.  Alberta consumed approximately 69,660 GWh ofelectricity in 2007.  As at December 31,2007, the aggregate installed capacity of generating facilities in Alberta wasapproximately 12,000 MW.

 

Electrical utilities in the U.S. Pacific northwest areorganized into the Western Electricity Coordinating Council (“WECC”).  The WECC is the largest geographically of the10 regions in the North American Electric Reliability Council and is dividedinto four sub-regions, of which Region 1 includes British Columbia, Alberta,Washington, Oregon, Idaho, Montana, Utah, western Wyoming and northernNevada.  This sub-region is referred toas the Northwest Power Pool (“NWPP”). The WECC estimates that approximately 370,000 GWh of electricity wasconsumed in the NWPP in 2007.  The WECC alsoreported an estimated aggregate electrical generating capacity of approximately80,000 MW in the NWPP for the year ending 2007.

 

Ontario is Canada’s largest province withapproximately 13 million residents representing approximately 39****per cent of Canada’s total population.  Ontario consumed approximately 152,000 GWh ofelectricity in 2007.  Ontario PowerGeneration Inc., the successor to the generation business of Ontario’s formerintegrated electric utility, controls over two-thirds of Ontario’s approximately31,000 MW of installed capacity, the balance of which is owned by municipalelectric utilities and private independent power producers or industrialconsumers.

 

In October 2004, the provincial government of NewBrunswick officially opened the electricity market to partial competition andcorporate reorganization. The Electricity Act (2004) allows wholesale andindustrial consumer to either purchase power from either New Brunswick Power ora competing supplier. The new competitive market does not extend to retailcustomers, businesses or small industries. In 2007, New Brunswick announced the Charter for Change requiring 10% ofelectricity purchases to be from renewable sources commencing in 2016.

 

The Corporation expects that the demand for electricitywill continue to grow in its target markets. In addition to increased demand, the market for electricity in some ofthese regions has undergone deregulation. Legislation in Alberta and Ontario and many states in the United Stateshas mandated the unbundling of generation, transmission and distributionservices which were traditionally provided by vertically integrated utilitiesto promote competition in the market for generation, which caused someintegrated utilities to sell all or parts of their generation assets.  While the pace of this process has changed,the Corporation believes that the combination of increased demand forelectricity, deregulation and the increased availability of generation assetsmay provide it with an opportunity to increase its generation capacity andleverage itsCommercial Operations Development capabilities, provided that in doing so, the financialposition of the Corporation is not compromised.

 

Australiais heavily dependent on coal for electricity, more so than any other developedcountry except Denmark and Greece. About 80% of power produced is derived fromcoal.  Natural gas is increasingly usedfor electricity, especially in South Australia and Western Australia.  The Australian Bureau of Agriculture andResource Economics (“ABARE”) 

 

15

 

estimatedtotal production of 256,000 GWh for 2007 with a growth rate of approximately2.5% per annum from 2006 to 2012.  Themajor reform in the Australian electricity industry involved the establishmentin southern and eastern Australia of the National Electricity Market (“NEM”).  In Western Australia, whereTransAlta’s power assets are located, a new Wholesale Electricity Market (“WEM”)was introduced in late 2006. Total installed capacity in the WEM is about 4,300MWs, while TransAlta’s capacity in the region is approximately 350 MWs.  TransAlta enjoys a solid competitiveadvantage in power supply to mining operations, especially remotemining operations, and has built up significant knowledge and expertise in thisfield.

 

**CompetitiveStrengths**

** **

The Corporation believes it is well positioned toachieve its business strategy due to its competitive strengths, which includethe following:

 

*Financial strength* - The Corporation hasinvestment grade ratings from Moody’s Investor Services, Inc. (“Moody’s”),Standard & Poor’s, a division of the McGraw-Hill Companies, Inc.(“S&P”) and Dominion Bond Rating Service Limited (“DBRS”).

 

*Stable cash flow base* – Approximately 70 per centof the Corporation’s generating capacity is contracted through PPAs or LTC’s.  Revenues received under contractualarrangements are not subject to short-term fluctuations in the spot price forelectricity.

 

*Fuel diversity* - The Corporation has adiverse mix of fuels used for the generation of electricity, including coal,natural gas, hydro, geothermal and wind. The Corporation believes that this mix reduces the impact on corporateperformance in the event of external events affecting one fuel source.

 

*Management team* - The Corporation’smanagement team has substantial industry, international and local marketexperience.

 

*Commercial Operations Development expertise* - The Corporation believesthat its Commercial Operations Development group has enhanced returns from theCorporation’s existing generation base and has allowed the Corporation toobtain more favourable pricing for uncommitted electricity, secure fuel supplyon a cost-effective basis and fulfill electricity delivery obligations in theevent of an outage.

 

*Ownership or control of coal supply* - The Corporation owns,controls or leases extensive coal reserves in Alberta that provide a long-termand stable source of fuel for all of its thermal generation capacity inAlberta.  The Corporation’s mines inAlberta contain some of the lowest sulphur coal in North America, averaging0.25 per cent sulphur at the Whitewood mine and 0.25****percent at the Highvale mine.  Coal withlower sulphur content emits less sulphur dioxide when it is burned.

 

*Wind Generation* - The Corporation is one ofthe largest owners and operators of wind generation in Canada.  The Wind management team has developed keyrelationships with customers, suppliers and policy makers that provide acompetitive advantage in the development, operations and marketing of windgeneration.

 

*Environment* – The Corporation is a recognized leaderin Sustainable Development and has taken early preventative action on a numberof environmental fronts in advance of regulation.

 

**CapitalExpenditures**

** **

Capital expenditures for property and investments(including acquisitions) by TransAlta for the past five years were:

 
| 2007 ........................................................... | $599.7 million      |   | 2004 .......................................................... | $345.7 million |
|------------------------------------------------------------------|---------------------|--------|-----------------------------------------------------------------|---------------------|
| 2006 ........................................................... | $224.9 million      |   | 2003 .......................................................... | $757.8 million |
| 2005 ........................................................... | $325.5 million |   |                                                            |                |

 

16

 

# **ENVIRONMENTALRISK MANAGEMENT**

#  

TransAlta is subject to federal, provincial, state andlocal environmental laws, regulations and guidelines concerning the generationand transmission of electrical and thermal energy and surface mining.  TransAlta is committed to complying withlegislative and regulatory requirements and to minimizing the environmentalimpact of its operations.  TransAltaworks with governments and the public to develop appropriate frameworks toprotect the environment and to promote sustainable development.

 

TransAlta’s approach to managing its environmental,health and safety (“EHS”) risks has three elements:

·                  Compliance-based activities, such aspermitting and reporting;

·                  ISO-based EHS Management systems andprograms, such as safety programs and auditing; and

·                  Longer-term strategic initiatives,including climate change and government policy development.

 

These elements are integrated into TransAlta’scorporate-wide operations and management systems.  They are designed to mitigate risks ofTransAlta’s activities to employees, the public and the environment, and toaddress potential competitive risks from future changes in environmentalpolicy.  They are also supportive ofTransAlta’s corporate commitment to sustainability.

 

To meet regulatory requirements and improveenvironmental performance, TransAlta made environmental operating and capitalexpenditures in fiscal year 2007 of approximately $46 million.  Environmentalexpenditures are generally defined as expenditures incurred to comply withCanadian or international environmental regulations, conventions or voluntaryagreements.

 

All TransAlta’s facilities are in material compliancewith existing regulatory requirements. Environmental risk at the plantsoperated by TransAlta has been reduced by actions in several areas:

·                  Continued investment in mercury controltechnology evaluation leading to installation of mercury capture equipment atour Alberta coal plants in 2010;

·                  Uprate improvements delivering higherefficiency generation at the Sundance plant;

·                  Continued program of compliance andmanagement system audits at all facilities;

·                  The planned decommissioning of the olderWabamun thermal plant in 2010;

·                  Growth of a carbon offset portfolio;

·                  Continued expansion of the wind energybusiness, with minimal emissions footprint; and

·                  Investigation of carbon capture and storagetechnology.

 

On a longer time horizon, TransAlta anticipates futureenvironmental regulatory developments in areas such as climate change, airquality and water.  Regulatory changesand policy developments are tracked in all relevant jurisdictions.

 

Effective July 1, 2007, the *ClimateChange and Emissions Management Amendment Act* was enacted into lawin Alberta.  Under the legislation,baselines and targets for greenhouse gas (“GHG”) intensity are set on afacility by facility basis.  Thelegislation requires a 12 per cent reduction in greenhouse gas emissionintensity from a baseline of the average of 2003 to 2005 emission levels.  TransAlta’s climate change strategy addressesthe potential competitive risks to its fossil generation plants.  The strategy includes increased use of lesscarbon-intensive fuels such as natural gas and renewable resources, continuedinvestment in emission offsets and internal efficiency improvements anddevelopment of clean combustion technology. TransAlta continues to be an active participant with governments in thedevelopment of climate change policy in the international, national andprovincial arenas.

 

On April 26,2007, the Canadian government released details of its proposed environmentallegislation. The federal plan calls for an 18 per cent reduction in GHGemission intensity starting in 2010, increasing to a 20 per cent absolutereduction requirement by 2020. The proposed legislation also calls for areduction in air pollutants such as sulphur dioxide, nitrous oxide, mercury,and particulates starting in the 2012 - 2015 period. Proposed reduction capsrange from 45 per cent to 60 per cent of current levels.  A number of material details in the federalplan are still to be determined, including its interaction with provincialprograms, which will allow a reasonable determination of future compliancecosts.

 

17

 

On January 24,2008, Alberta released the long-term component part of its climate change planfor the province.  The plan providedlong-term targets for emissions reductions. At this time there is no indication that the reduction requirements forindustry will change significantly beyond the regulatory framework already inplace.

 

In the UnitedStates, the Washington State Climate Bill 6001 was enacted and came into effectJuly 22, 2007.  TransAlta’soperations will not be impacted by the bill’s performance standards at thecurrent time, provided the facilities do not change ownership or enter intopower sales contracts longer than five years. Additionally, further emissions requirements are being considered forthe Centralia plant for mercury and nitrous oxide, however final determinationsare several months away.  Federally, theU.S. Government continues to contemplate a number of proposed greenhouse gasbills but to date no clear outcome or schedule is evident.

 

Mercuryreduction requirements in Alberta are established at a 70 per cent reduction by2010.  TransAlta submitted its mercurycontrol plan in March of 2007. Requirements for capital control equipment are clear in Alberta, andwork is on schedule to select and install the necessary controltechnology.  Mercury control requirementsin the United States are on a similar schedule, although Washington State’sspecific rules for TransAlta’s Centralia plant are not yet finalized.

 

TransAlta is an active participant in the CanadianClean Power Coalition, which is committed to developing clean coal technologyin Canada.  The coalition has severalengineering initiatives underway which will provide important guidance onultimate clean coal solutions for TransAlta’s facilities.  The Corporation is also exploring thepossibilities for a CO2 network pipeline through the ICON industry consortium.

 

Environmental issues concerning water use are managedwithin the ISO 14001 framework. TransAlta continues to work with regulators in each jurisdiction inwhich it operates, to ensure water is used wisely on site and that allregulations pertaining to water and wetlands management, both on and off site,are met at all times.

 

TransAlta’s environmental efforts have been recognizedby the Dow Jones Sustainability Index for eight years in a row.  The Index represents the best environmentalperformance leaders worldwide.  TransAltawas also named a climate disclosure leader in 2007 by virtue of itscontribution to the global Carbon Disclosure Project.

 

To date, TransAlta does not believe that itscompetitive position in the wholesale generation business has been adverselyaffected by environmental concerns.  Wecontinue to make operational improvements and investments to its existinggenerating facilities to reduce the environmental impact of generatingelectricity.

 

# **RISKFACTORS**

#  

Regulatory and political risks exist in alljurisdictions in which TransAlta operates. TransAlta seeks to manage these risks by working with regulators andother stakeholders to resolve issues as fairly and expeditiously aspossible.  For a discussion of riskfactors affecting TransAlta, please refer to “Risk Factors and Risk Management”,in TransAlta’s MD&A for the year ended December 31, 2007, which isincorporated by reference herein.

 

# **EMPLOYEES**

#  

As of December 31, 2007, the Corporation had2,204 full and part-time employees, of which 1,559 were employed in TransAlta’sgeneration business and 136 were employed in TransAlta’s energy marketingbusiness.  Approximately 1,029 of theCorporation’s employees are represented by labour unions.  The Corporation is currently a party to 13different collective bargaining agreements. On November 5, 2007, 126 unionized workers at the Poplar Creekfacility went on a legal strike. The union and the Corporation reachedagreement on December 5, 2007 and the workers returned to work on December 12,2007.  Overall in 2007, the Corporationrenewed 8 of the agreements and an additional 2 collective agreements will bere-negotiated in 2008. The risk profile for each of these negotiations is low.

 

18

 

# **CAPITALSTRUCTURE**

#  

**General**

** **

The Corporation’s authorized share capital consists ofan unlimited number of common shares and an unlimited number of first preferredshares, issuable in series.  As at****March 13, 2008,there were 201,118,565 commonshares outstanding and no first preferred shares were outstanding.

 

**Common Shares**

** **

Each common share of the Corporation entitles theholder thereof to one vote for each common share held at all meetings ofshareholders of the Corporation, except meetings at which only holders ofanother specified class or series of shares are entitled to vote, to receivedividends if, as and when declared by the Board of Directors, subject to priorsatisfaction of preferential dividends applicable to any first preferredshares, and to participate rateably in any distribution of the assets of theCorporation upon a liquidation, dissolution or winding up and subject to priorrights and privileges attaching to first preferred shares.  The common shares are not convertible and arenot entitled to any pre-emptive rights. The common shares are not entitled to cumulative voting.

 

**FirstPreferred Shares**

** **

The Corporation is authorized to issue an unlimitednumber of first preferred shares, issuable in series and, with respect to eachseries, the Board of Directors is authorized to fix the number of sharescomprising the series and determine the designation, rights, privileges,restrictions and conditions attaching to such shares, subject to certainlimitations.

 

The first preferred shares of all series rank seniorto all other shares of the Corporation with respect to priority in payment ofdividends and with respect to distribution of assets in the event ofliquidation, dissolution or winding up of the Corporation, or a reduction ofstated capital.  Holders of firstpreferred shares are entitled to receive cumulative quarterly dividends on thesubscription price thereof as and when declared by the Board of Directors atthe rate established by the Board of Directors at the time of issue of shares ofa series.  No dividends may be declaredor paid on any other shares of the Corporation unless all cumulative dividendsaccrued upon all outstanding first preferred shares have been paid or declaredand set apart.  In the event of theliquidation, dissolution or winding up of the Corporation, or a reduction ofstated capital, no sum shall be paid or assets distributed to holders of othershares of the Corporation until the holders of first preferred shares shallhave been paid the subscription price of the shares, plus a sum equal to thepremium payable on a redemption, plus a sum equal to the arrears of dividendsaccumulated on the first preferred shares to the date of such liquidation,dissolution, winding up, or reduction of stated capital, as applicable.  After payment of such amount, the holders offirst preferred shares shall not be entitled to share further in thedistribution of the assets of the Corporation.

 

The Corporation’s Board of Directors may include, inthe share conditions attaching to a particular series of first preferredshares, certain voting rights effective upon the Corporation failing to makepayment of six quarterly dividend payments, whether or not consecutive.  These voting rights continue for so long asany dividends remain in arrears.  Thesevoting rights are the right to one vote for each $25 of subscription price onall matters in respect of which shareholders vote, and additionally, the rightof all series of first preferred shares, voting as a combined class, to electtwo directors of the Corporation if the Board of Directors then consists ofless than 16 directors, or three directors if the Board of Directors consistsof 16 or more directors.  Otherwise,except as required by law, the holders of first preferred shares shall not beentitled to vote or to receive notice of or attend any meeting of theshareholders of the Corporation.

 

Subject to the share conditions attaching to anyparticular series providing to the contrary, the Corporation may redeem firstpreferred shares of a series, in whole or from time to time in part, at theredemption price applicable to each series and the Corporation has the right toacquire any of the first preferred shares of one or more series by purchase forcancellation in the open market or by invitation for tenders at a price not toexceed the redemption price applicable to the series.

 

19

 

# **CREDITRATINGS**

#  

**Issuer Rating**

** **

As of December 31, 2007, the Corporation’s issuerrating from S&P was BBB (stable) and from Moody’s was Baa2 (stable).

 

**CommercialPaper**

** **

As of December 31, 2007, the Corporation’sguaranteed commercial paper was rated R-1(low) (stable) by DBRS.  The Corporation’s non-guaranteed commercialpaper was rated R-2(high) (stable) by DBRS.

 

**SeniorUnsecured Long-Term Debt**

** **

As of December 31, 2007, the Corporation’s seniorunsecured long-term debt is rated BBB (stable) by DBRS, BBB (stable) by S&Pand Baa2 (stable) by Moody’s.   Theratings for debt instruments range from a high of AAA to a low of D in the caseof both DBRS and S&P and from a high of Aaa to a low of C in the case ofMoody’s.

 

According to the DBRS rating system, debt securitiesrated BBB are of adequate credit quality. Protection of interest and principal is considered acceptable, but theentity is more susceptible to adverse changes in financial and economicconditions, or there may be other adverse conditions present which reduce thestrength of the entity and its rated securities.  “High” or “Low” grades indicate the relativestanding within a rating category.  DBRSalso assigns rating trends to each of its ratings to give investors anunderstanding of DBRS’ opinion regarding the outlook for the rating inquestion.

 

According to the S&P rating system, debtsecurities rated BBB exhibit adequate protection parameters.  However, adverse economic conditions orchanging circumstances are more likely to lead to a weakened capacity of theobligor to meet its financial commitment on such obligations than onobligations in the higher rating categories. The ratings from AA to B may be modified by the addition of a plus (+)or minus (-) sign to show relative standing within the major rating categories.

 

According to the Moody’s rating system, debtsecurities rated Baa are subject to moderate credit risk.  They are considered medium-grade and as suchmay possess certain speculative characteristics.  Numerical modifiers 1, 2 and 3 are applied toeach rating category, with 1 indicating that the obligation ranks in the higherend of the category, 2 indicating a mid-range ranking and 3 indicating aranking in the lower end of the category.

 

**NoteRegarding Credit Ratings**

** **

Credit ratings are intendedto provide investors with an independent measure of credit quality of an issueof securities.  The credit ratingsaccorded to the Corporation’s outstanding securities by S&P, Moody’s andDBRS, as applicable, are not recommendations to purchase, hold or sell suchsecurities inasmuch as such ratings do not comment as to market price orsuitability for a particular investor. There is no assurance that the ratings will remain in effect for anygiven period or that a rating will not be revised or withdrawn entirely byS&P, Moody’sor DBRS in the future if, in its judgement, circumstances so warrant.

 

# **DIVIDENDS**

#  

In setting its dividend, TransAlta’s Board ofDirectors considers the Corporation’s financial performance and balancesliquidity requirements, capital reinvestment and returning capital toshareholders.  The payment and level offuture dividends on the common shares are determined by the Board of Directorsof TransAlta upon consideration of such factors.  TransAlta has declared and paid the followingdividends per share on its outstanding common shares for the past three years:

 

20

 

| **Period** | ** ** | ** **     | ** ** | **Dividend  per Common Share** |
|------------|------------|----------------|------------|--------------------------------|
| ** ** | ** ** | ** **     | ** ** | ** **                     |
| 2005       |       | First Quarter  |       | $0.25                          |
|       |       | Second Quarter |       | $0.25                          |
|       |       | Third Quarter  |       | $0.25                          |
|       |       | Fourth Quarter |       | $0.25                          |
|       |       |           |       |                           |
| 2006       |       | First Quarter  |       | $0.25                          |
|       |       | Second Quarter |       | $0.25                          |
|       |       | Third Quarter  |       | $0.25                          |
|       |       | Fourth Quarter |       | $0.25                          |
|       |       |           |       |                           |
| 2007       |       | First Quarter  |       | $0.25                          |
|       |       | Second Quarter |       | $0.25                          |
|       |       | Third Quarter  |       | $0.25                          |
|       |       | Fourth Quarter |       | $0.25                          |

 

On January 1, 2008, TransAlta paid cash dividendsof $0.25 per common share.  On January 31,2008, the Corporation’s Board of Directors declared a cash dividend of $0.27per common share, payable on April 1, 2008 to shareholders of record on March 1,2008.

 

# **MARKETFOR SECURITIES**

#  

TransAlta’s common shares are listed on the TorontoStock Exchange (“TSX”) under the symbol “TA” and the New York Stock Exchangeunder the symbol “TAC”.  TransAlta’spreferred securities were listed on the Toronto Stock Exchange under the symbol“TA.PR.C” until January 2, 2007 at which time they were redeemed (see “GeneralDevelopment of the Business”).  Thefollowing table sets forth the reported high and low trading prices and tradingvolumes of the Corporation’s common shares as reported by the TSX for theperiods indicated:

 
| ** **         | ** ** | **Price ($)** | ** ** | ** ** |
|--------------------|------------|---------------|------------|------------|
| **Month**          | ** ** | **High**      | ** ** | **Low**    | ** ** | **Volume** |
|               |       |          |       |       |   |   |
| **2007**           | ** ** | ** **    | ** ** | ** ** | ** ** | ** ** |
| January            |       | 27.25         |       | 24.38      |   | 14,675,110 |
| February           |       | 25.71         |       | 24.01      |   | 20,305,992 |
| March              |       | 25.37         |       | 23.59      |   | 13,911,140 |
| April              |       | 28.23         |       | 24.76      |   | 18,912,768 |
| May                |       | 28.62         |       | 26.00      |   | 18,495,876 |
| June               |       | 28.45         |       | 26.07      |   | 20,985,557 |
| July               |       | 32.36         |       | 26.80      |   | 23,767,597 |
| August             |       | 30.31         |       | 27.06      |   | 19,190,389 |
| September          |       | 31.53         |       | 29.16      |   | 11,674,133 |
| October            |       | 34.00         |       | 29.85      |   | 22,731,155 |
| November           |       | 34.50         |       | 31.27      |   | 16,342,705 |
| December           |       | 34.43         |       | 31.20      |   | 11,258,481 |
|               |       |          |       |       |   |   |
| **2008**           | ** ** | ** **    | ** ** | ** ** | ** ** | ** ** |
| January            |       | 34.00         |       | 29.85      |   | 15,201,560 |
| February           |       | 35.80         |       | 32.01      |   | 27,280,079 |
| March 1  to 7 |       | 35.73         |       | 34.00      |   |   4,405,703 |

 

# **DIRECTORSAND OFFICERS**

#  

The name, province or state and country of residenceof each of the directors and officers of TransAlta as at March 13, 2008,their respective position and office and their respective principal occupationduring the five preceding years, are set out below.  The year in which each director was appointedto serve to the Board is also set out below. Each director is appointed to serve until the next annual meeting ofTransAlta or until his or her successor is elected or appointed.

 

21

 
| **Name, Province (State) and  Country of Residence** | ** ** | **Year first  became  Director** | ** **   | **Principal Occupation**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|------------------------------------------------------|------------|----------------------------------|--------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| **William D. Anderson**  Ontario, Canada             |       | 2003                             | *** *** | ***Corporate Director***.  Mr. Anderson  was President of BCE Ventures (a subsidiary of BCE Inc.) from 2001 to 2005  (telecommunications) and prior to that, CFO of BCE Inc., Bell Canada Inc. and  Bell Cablemedia plc (telecommunications). As President of BCE Ventures, he  was responsible for a number of significant operating companies as well as  being CEO of Bell Canada International Inc. In his CFO roles,  Mr. Anderson was responsible for all financial operations of the  respective companies and he executed numerous debt and equity financings, corporate  acquisition and disposition transactions as well as corporate and operational  restructurings. 

 

Mr. Anderson  is a director of Gildan Activewear Inc. and of MDS Inc. He is a past director  at BCE Emergis Inc., Bell Cablemedia plc, Bell Canada International Inc., CGI  Group Inc., Four Seasons Hotels Inc., Sears Canada Inc., and Videotron  Holdings plc. 

 

At  TransAlta, Mr. Anderson is Chair of the Audit and Risk Committee of the  Board.

 

Mr. Anderson  holds a bachelor degree in business administration from the University of  Western Ontario (London, ON) and is a Chartered Accountant. |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| **Stanley J. Bright********(1)**  Maryland, U.S.A.   |       | 1999                             | *** *** | ***Corporate Director***.  Mr. Bright  was President, CEO and Chairman of MidAmerican Energy Company from 1997 to  1999 (electric and gas utility). He was also President, CEO and Chairman, and  CEO of predecessor companies, including the Iowa-Illinois Gas &  Electric Company (IIG&E), from 1991 to 1997. As the CEO of IIG&E,  Mr. Bright led the consolidation of a number of Midwest utilities in  anticipation of emerging market competition, giving rise to the creation of  MidAmerican Energy. As the President, CEO and Chairman of the new entity,  Mr. Bright led the realization of significant synergies while working  through the post-merger transition. The Company also structured a long-term  rate plan with the Iowa Public Service Commission. He retired as CEO of  MidAmerican in 1999 but continued as a director until 2006.

 

At  TransAlta, Mr. Bright is Chair of the Human Resources Committee of the  Board.

Mr. Bright  holds a bachelor degree in accounting from The George Washington University  (Washington, DC) and is a Certified Public Accountant.                                                                                               |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| **Timothy W. Faithfull**England,  U.K.               |       | 2003                             | *** *** | ***Corporate Director.***  Mr. Faithfull  is a 36-year veteran of Royal Dutch/Shell plc (energy), where he filled  diverse roles that spanned the globe. As President and CEO of Shell Canada  Limited, he was responsible for bringing the $6 billion Athabasca Oil Sands  Project on line, the first fully integrated oil sands venture in 25 years.  Mr. Faithfull has extensive experience with commodity exposure and risk  management, the result of his time directing the global crude oil trading  operation for the Shell International Trading and Shipping Company from 1993  to 1996. 

 

Mr. Faithfull  is a director of Canadian Pacific Railway Limited, the Shell Pension Trust  Limited, and AMEC plc.

 

At  TransAlta, Mr. Faithfull is a member of the Audit and Risk Committee and  the Human Resources Committee of the Board.

 

Mr. Faithfull  holds a bachelor of arts degree in economics from the University of Oxford  (Oxford, UK).                                                                                                                                                                                                                                      |

 

22

 
| **Name, Province (State) and  Country of Residence** | ** ** | **Year first  became  Director** | ** **   | **Principal Occupation**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|------------------------------------------------------|------------|----------------------------------|--------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
| **Ambassador Gordon D. Giffin**  Georgia,  U.S.A     |       | 2002                             | *** *** | ***Lawyer and Senior Partner, McKenna,  Long & Aldridge LLP******(attorneys)*****.** From 1997 to 2001,  Mr. Giffin served as the United States Ambassador to Canada with  responsibility for managing Canada/US bilateral relations, including energy  and environmental policy. Prior to this appointment, he practiced law for 18  years as a senior partner in Atlanta, Georgia and Washington D.C. His  practice focused on energy regulatory work at the state and federal levels.  Prior to that, he served as Chief Counsel and Legislative Director to United  States Senator Sam Nunn, with responsibility for the legal and legislative  operations of the office. In 2001, Mr. Giffin returned to private  practice where he specializes in state and federal regulatory matters,  including those related to trade, energy and trans-border commerce.

Mr. Giffin  is a director of AbitibiBowater, Canadian Imperial Bank of Commerce, Canadian  National Railway Company, Canadian Natural Resources Limited, and Ontario  Energy Savings Ltd.

 

At  TransAlta, Mr. Giffin is Chair of the Governance and Environment  Committee of the Board. 

 

Mr. Giffin  holds a bachelor of arts from Duke University (Durham, NC) and a juris  doctorate from Emory University School of Law (Atlanta, GA).                                                                                                                                 |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
| **C. Kent Jespersen**  Alberta, Canada               |       | 2004                             | *** *** | ***Corporate Director***.  Mr. Jespersen  has been Chair and CEO of La Jolla Resources International Ltd. since 1998  (advisory and investments). He has also held senior executive positions with  NOVA Corporation of Alberta, Foothills Pipe Lines Ltd., and Husky Oil Limited  before assuming the presidency of Foothills Pipe Lines Ltd. and later, NOVA  Gas International Ltd. At NOVA, he led the non-regulated energy services  business (including energy trading and marketing) and all international  activities.

 

Mr. Jespersen  is Chairman and a director of Orvana Minerals Ltd. and CCR Technologies Ltd.  and a director of Matrikon Inc. and of Axia NetMedia Corporation. 

 

At  TransAlta, Mr. Jespersen is a member of the Governance and Environment  Committee and the Human Resources Committee of the Board. 

 

Mr. Jespersen  holds a bachelor of science in education and a master of science in education  from the University of Oregon (Eugene, OR).                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** **                                           | ** ** | ** **                       | ** **   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| **Michael M. Kanovsky**  British Columbia, Canada    |       | 2004                             | *** *** | ***Corporate Director and Independent  Businessman***.  Mr. Kanovsky co-founded Northstar  Energy Corporation (oil and gas) with initial capital of $400,000 and helped  build this entity into an oil and gas producer that was sold to Devon Energy  Corporation for approximately $600 million in 1998. During this period,  Mr. Kanovsky was responsible for strategy, finance as well as merger and  acquisition activity. He initiated Northstar’s entry into electrical  cogeneration through its wholly owned power subsidiary, Powerlink Corporation  (electricity generation). Powerlink developed one of the first independent  power producer (IPP) gas-fired co-generation plants in Ontario and also  internationally. In 1997, he founded Bonavista Energy which has grown to a  present day market cap of approximately $6 billion.

 

Mr. Kanovsky  is a director of Accrete Energy Corporation, ARC Energy Trust, Bonavista  Energy Trust, Devon Energy Corporation, and Pure Technologies Inc.. 

 

At  TransAlta, he is a member of the Audit and Risk Committee and the Governance  and Environment Committee of the Board. 

 

Mr. Kanovsky,  a professional engineer, holds a bachelor of science in mechanical  engineering from Queen’s University (Kingston, ON) as well as a master of  business administration from the Richard Ivey School of Business at the  University of Western Ontario (London, ON). |

 

23

 
| **Name, Province (State) and  Country of Residence** | ** ** | **Year first  became  Director** | ** **   | **Principal Occupation**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
|------------------------------------------------------|------------|----------------------------------|--------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| **Donna Soble Kaufman**  Ontario, Canada             |       | 1989                             | *** *** | ***Lawyer and Corporate Director***.  Mrs. Kaufman  is a former partner with Stikeman Elliott, an international law firm where  she practised antitrust law. She has served on a number of boards since 1987  when she became a director of Selkirk Communications Limited, a diversified  communications company. A year later she was appointed Chair of the Board and  President and CEO. Several other directorships followed. In addition to  TransAlta, Mrs. Kaufman currently serves on the boards of BCE Inc. and  Bell Canada. She is also a director of HISTORICA, a private-sector education  initiative, and a member of the Canadian Advisory Board of Catalyst, a  non-profit organization working to advance women in business.

 

At  TransAlta, Mrs. Kaufman is Chair of the Board of the Corporation and an  ex-officio member of all committees of the Board. 

 

Mrs. Kaufman  holds a bachelor of civil law degree from McGill University (Montréal, QC)  and a master of laws degree from the Université de Montréal.                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| **Gordon S. Lackenbauer********(1)**Alberta, Canada  |       | 2005                             | *** *** | ***Corporate Director***.  Mr. Lackenbauer  was Deputy Chairman of BMO Nesbitt Burns Inc. from 1990 to 2004 (investment  banking). Prior to this, he was responsible for the principal activities of  the firm, which included fixed income sales and trading, equity and debt, new  issue underwriting and syndication. Mr. Lackenbauer has worked with many  of Canada’s leading utilities and has frequently acted as an expert financial  witness testifying on the cost of capital, capital structure, and the fair rate  of return before the Alberta Utilities Commission, the National Energy Board,  and the Ontario Energy Board. His clients included Alberta Power (now ATCO  Electric), Consumers Gas, IPL (now Enbridge), and TransCanada PipeLines,  among others.

 

Mr. Lackenbauer  is a director of NAL Oil & Gas Trust, CTV Globemedia Inc., and is a  Governor of Mount Royal College. He was a director of Tembec Inc. until  August 2007. 

 

At  TransAlta, he is a member of the Governance and Environment Committee and the  Audit and Risk Committee of the Board.

 

Mr. Lackenbauer  holds a bachelor of arts in economics from Loyola College (Montreal, QC), as  well as a master of business administration from the University of Western  Ontario (London, ON). He is also a chartered financial analyst.                                                                                                                                           |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| **Martha C. Piper**  British Columbia, Canada        |       | 2006                             | *** *** | ***Corporate Director***.  Dr. Piper  was President and Vice-Chancellor of the University of British Columbia from  1997 to 2006 (education). Prior to her appointment at UBC, she served as  Vice-President, Research at the University of Alberta. She served on the  Boards of the Alberta Research Council, the Conference Board of Canada, and  the Centre for Frontier Engineering Research. Dr. Piper was also  appointed by the Prime Minister of Canada to the Advisory Council on Science  and Technology, and she served as a member of the Canada Foundation for  Innovation. 

 

Dr. Piper  is a director of the Bank of Montreal and Shoppers Drug Mart Corporation, and  is a member of the Canadian delegation to the Trilateral Commission, an organization  fostering closer cooperation among the core democratic industrialized areas  of the world. 

 

At  TransAlta, Dr. Piper is a member of the Human Resources Committee and  the Governance and Environment Committee of the Board. 

 

Dr. Piper  holds a bachelor of science in physical therapy from the University of  Michigan (Ann Arbor, MI), a master of arts in child development from the  University of Connecticut (Storrs, CT), a doctorate of philosophy in  epidemiology and biostatistics from McGill University (Montréal, QC). She has  received honorary degrees from 15 international universities. She is an  Officer of the Order of Canada and a recipient of the Order of British  Columbia. |

 

24

 
| **Name, Province (State) and  Country of Residence** | ** ** | **Year first  became  Director** | ** **   | **Principal Occupation**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|------------------------------------------------------|------------|----------------------------------|--------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **                                           | ** ** | ** **                       | ** **   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| **Luis Vázquez Senties**  Mexico                |       | 2001                             | *** *** | ***Corporate Director and Independent  Businessman***.  Mr. Vázquez is founder, President,  CEO and Chairman of Grupo Diavaz, an international constructor of offshore  oil and gas platforms, developer of oil and gas fields, and a distributor of  natural gas in Mexico (oil and gas). Grupo Diavaz began as a Mexican  underwater diving operation that grew to become the world’s second largest  firm of its kind, servicing the offshore oil and gas industry in both  exploration and production efforts.

 

Mr. Vázquez  is Chairman of the Mexican Gas Association and Vice-President of the Mexico  Chapter of the World Energy Council. He is a past director of the American  Gas Association. 

 

At  TransAlta, Mr. Vázquez is a member of the Human Resources Committee of  the Board.                                                                                                                                                                                                                                                                                                                                                                                                           |
|                                                 |       |                             |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| **Stephen G. Snyder**  Alberta, Canada               |       | 1996                             | *** *** | ***President and Chief Executive Officer of  TransAlta Corporation since 199******6***.  Mr. Snyder  guided TransAlta through its evolution from an Alberta-focused, regulated  utility to an international power generator. Prior to joining TransAlta,  Mr. Snyder held several CEO posts, namely with Camco Inc. (now a part of  General Electric), GE Canada Inc., and Noma Industries Limited. While at GE,  Mr. Snyder led the transformation of GE’s Canadian-based businesses into  global competitors. At Noma, he built a deeply-rooted Canadian consumer  products manufacturer into a North American industrial products company. 

 

Mr. Snyder  is a director of the Canadian Imperial Bank of Commerce, Chair of the Calgary  Stampede Foundation, and a director of the Calgary Stampede. He is the  past-chair of the Calgary Committee to End Homelessness, the Canada-Alberta  ecoEnergy Carbon Capture & Storage Task Force, and of the Conference  Board of Canada.

 

Mr. Synder  holds a bachelor of science in chemical engineering from Queen’s University  (Kingston, ON) as well as a master of business administration from the  University of Western Ontario (London, ON). |

 

**Note:**

(1)          Mr. Bright served as adirector of Access Air Inc. for the period of December 4, 1997 to January 31,2000, a privately held start-up airline company.   The company Mr. Bright was employed by,and whom he represented, supported this airline in the hope that it wouldimprove air service to the state of Iowa. Access Air Inc. filed for bankruptcy protection on November 29,1999.  Mr. Lackenbauer resigned fromthe Board of Directors of Tembec Inc. on August 2, 2007.  On December 19, 2007, Tembec announcedits proposed recapitalization transaction providing a consensual solution toboth noteholders and shareholders. If Tembec is successful in itsrecapitalization efforts, including obtaining the approval of noteholders of aPlan of Arrangement under the *Canada BusinessCorporations Act*, the matter is subject to the final approval of theCourt.

 

**Officers**

 
| **Name**              | ** ** | **Principal Occupation**                                          | ** ** | **Residence**    |
|-----------------------|------------|-------------------------------------------------------------------|------------|------------------|
| Stephen G. Snyder     |       | President and Chief Executive Officer                             |       | Calgary, Alberta |
| Brian Burden          |       | Executive Vice-President and Chief Financial Officer              |       | Calgary, Alberta |
| William D.A. Bridge   |       | Executive Vice-President, Generation Technology and  PMM          |       | Calgary, Alberta |
| Dawn L. Farrell       |       | Executive Vice-President, Corporate Development and  Marketing    |       | Calgary, Alberta |
| Richard P. Langhammer |       | Executive Vice-President, Generation Operations                   |       | Calgary, Alberta |
| Kenneth S. Stickland  |       | Executive Vice-President, Legal, SD and EH&S                  |       | Calgary, Alberta |
| Michael Williams      |       | Executive Vice-President, Human Resources, IT and  Communications |       | Calgary, Alberta |
| Jeff A. Curran        |       | Vice-President and Comptroller                                    |       | Calgary, Alberta |
| Frank Hawkins         |       | Vice-President and Treasurer                                      |       | Calgary, Alberta |
| Maryse C. St.-Laurent |       | Corporate Secretary                                               |       | Calgary, Alberta |

 

All of the officers of TransAlta have held theirpresent principal occupation or position for the past five years, except forthe following:

 

25

 

·                       Prior to December 2005,Brian Burden was Executive Vice-President and Chief Financial Officer of MolsonInc.; and prior to 2002, he was Senior Vice-President, SeagramCorporate/Venture Transition of Diageo PLC.

 

·                       Prior to July 2007,William Bridge was Vice-President, Western Canada Operations.  Prior to October 2005, Mr. Bridgewas Vice-President, Customer and Asset Management; prior to September 2003,he was Vice-President, Development & Acquisition; and prior to September 2001he was Director, Commercial Operations, Eastern Canada.

 

·                       Prior to July 2007, DawnFarrell served as Executive Vice-President, Corporate Development,Executive-Vice President, Independent Power Projects and Vice-President, EnergyMarketing and IPP Development at TransAlta Corporation.  From 2003 to 2006 served as ExecutiveVice-President Generation and in June 2006 she was appointed ExecutiveVice-President Engineering, Aboriginal Relations and Generation at B.C. Hydro.

 

·                       Prior to October 2005,Richard Langhammer was President, TransAlta Centralia Generation LLC andTransAlta Centralia Mining LLC, subsidiaries of the Corporation; and prior to December 2003,he was Vice-President, Plant Operations of TransAlta.

 

·                       Prior to April, 2007, KennethStickland was Executive Vice-President, Legal.

 

·                       Prior to July 2007, MichaelWilliams was Executive Vice-President, HR & Communications.

 

·            Prior to October 2006, Jeff Curran wasInterim Vice-President and Comptroller; prior to May 2006, he wasDirector, Financial Operations - Generation Technology; prior to June 2004,he was Manager, Investment Analysis; prior to March 2003, he was Manager -Financial Reporting & Planning; and prior to March 2001, he was aSenior Audit Manager with Arthur Andersen LLP.

 

·                       Prior to June 2007, FrankHawkins was Assistant Treasurer.

 

·                       Prior to June 2005,Maryse St.-Laurent was Secretary of TC PipeLines, LP since September 2003and Recording Secretary since January 2001; and Senior Legal CounselTransCanada Corporation since June 1997.

 

As of March 13, 2008, the directors and executiveofficers of TransAlta, as a group, beneficially owned, directly or indirectly,or exercised control or direction over an aggregate of 495,488 common shares ofTransAlta.  This constitutes less thanone percent of TransAlta’s outstanding common shares.

 

# **INTERESTSOF MANAGEMENT AND OTHERS IN MATERIAL TRANSACTIONS**

#  

No director or executive officer of the Corporation,no person or company that is the direct or indirect beneficial owner of, or whoexercises control or direction over more than 10 per cent of the common sharesof the Corporation, and no associate or affiliate of any of them, has or hashad any material interest, direct or indirect, in any transaction involving theCorporation since the commencement of the Corporation’s last financial year orin any proposed transactions that has materially affected or will materiallyaffect the Corporation.

 

# **INDEBTEDNESSOF DIRECTORS, EXECUTIVE OFFICERS AND SENIOR OFFICERS**

#  

Since January 1, 2007, there has been noindebtedness, other than routine indebtedness, outstanding to TransAlta fromany of TransAlta’s directors, nominees for election as directors, executiveofficers, senior officers or associates of any such directors, nominees orofficers.

 

# **LEGALPROCEEDINGS AND REGULATORY ACTIONS**

#  

TransAlta is occasionally named as a party in variousclaims and legal proceedings which arise during the normal course of itsbusiness.  TransAlta reviews each ofthese claims, including the nature of the claim, the amount in dispute orclaimed and the availability of insurance coverage.  Although there can be no assurance that anyparticular claim will be resolved in 

 

26

 

theCorporation’s favour, the Corporation does not believe that the outcome of anyclaims or potential claims of which it is currently aware will have a materialadverse effect on the Corporation, taken as a whole, after taking into accountamounts reserved by the Corporation.  Forfurther information, please refer to Notes 28 and 30 of the Corporation’saudited consolidated financial statements for the year ended December 31,2007, which note is hereby incorporated by reference herein.

 

# **TRANSFERAGENT AND REGISTRAR**

#  

The transfer agent and registrar forTransAlta’s common shares is CIBC Mellon Trust Company in Vancouver, Calgary,Winnipeg, Toronto and Montreal.  Thetransfer agent and registrar for the common shares in the United States isMellon Investor Services LLC at its principal office in New York, New York.

# **INTERESTSOF EXPERTS**

#  

Ernst & Young LLP, CharteredAccountants, 1000, 440 - 2nd Avenue, SW., Calgary, Alberta, T2P 5E9 are theauditors of the Corporation.

TransAlta’s auditors, Ernst &Young LLP, are independent in accordance with the Rules of ProfessionalConduct of the Institute of Chartered Accountants of Alberta and have compliedwith the SEC’s rules on auditor independence.

# **ADDITIONALINFORMATION**

#  

Additional information in relation to TransAlta may be found underTransAlta’s profile on SEDAR at www.sedar.com.

 

Additional information including directors’ and officers’ remunerationand indebtedness, principal holders of TransAlta’s securities and securitiesauthorized for issuance under equity compensation plans (all where applicable),is contained in TransAlta’s Proxy Circular for its most recent annual meetingof shareholders that involved the election of directors and can be obtainedupon request from the Corporate Secretary of TransAlta Corporation.

 

Additional financial information is provided in TransAlta’s auditedconsolidated financial statements and MD&A for its most recently completedfinancial year.

 

# **AUDITAND RISK COMMITTEE**

#  

**General**

** **

The members of TransAlta’s Audit and Risk Committee (“ARC”) satisfy therequirements for independence under the provisions of Canadian SecuritiesRegulators, Multilateral Instrument 52-110 Audit Committees, Section 303Aof the New York Stock Exchange Rules and Rule 10A-3 under the U.S.Securities and Exchange Act of 1934.  TheARC’s Charter requires that it be comprised of a minimum of three independentdirectors.  It currently has fourindependent members, William D. Anderson (Chair), Timothy W. Faithfull, MichaelM. Kanovsky and Gordon S. Lackenbauer, and the Chair of the Board, Donna SobleKaufman (who is independent), attends all meetings as an ex-officio member ofthe committee.  All members of thecommittee (including the Chair of the Board) are financially literate pursuantto both Canadian and U.S. securities requirements and each of Mr. WilliamD. Anderson and Mr. Gordon S. Lackenbauer have been determined by theBoard to be an “audit committee financial expert”, within the meaning of Section 407of the United States Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley Act”).

 

**Mandate ofthe Audit and Risk Committee**

 

The mandate of the ARC is to assist the Board in itsoversight responsibility to the shareholders of the Corporation, the investmentcommunity and others relating to the integrity of the Corporation’s financialstatements, the quality of its financial reporting processes, thesystems of internal accounting and financial controls, the risk identificationassessments conducted by management and the programs established to addresssuch risks, the internal audit function, the external auditors’ qualifications,independence, performance and reports and to provide oversight with respect tolegal compliance programs established by management which may have a material effecton the financial statements of the Corporation.  The 

 

27

 

ARC also reviews the Corporation’scompliance with the Corporation’s code of conduct, financial code of conductand the Corporation’s policy with respect to the hiring of employees of theexternal auditors.

 

The ARC’s function is oversight.  Management is responsible for thepreparation, presentation and integrity of the financial statements of theCorporation.  Management and the internalaudit group of the Corporation are responsible for maintaining appropriateaccounting and financial reporting principles and policy and internal controlsand procedures for compliance with accounting standards and applicable laws andregulations.

 

While the ARC has the responsibilities and powers setforth herein, it is not the duty of the ARC to plan or conduct audits or todetermine that the Corporation’s financial statements are complete and accurateand in accordance with generally accepted accounting principles.  This is the responsibility of management andthe external auditors.

 

Management is responsible for preparing the interimand annual financial statements and financial disclosure of the Corporation andfor maintaining a system of internal controls to provide reasonable assurancethat assets are safeguarded and that transactions are authorized, executed,recorded and reported properly.  The ARC’srole is to provide direct, meaningful and effective oversight of theCorporation’s financial reporting and counsel to management without assumingresponsibility for management’s day-to-day duties.

 

**Audit andRisk Committee Charter**

** **

The Charter of the Audit and Risk Committee isattached as Appendix “A”.

 

**RelevantEducation and Experience of Audit and Risk Committee Members**

** **

The following is a brief summary of the education orexperience of each member of the ARC that is relevant to the performance oftheir responsibilities as a member of the ARC, including any education orexperience that has provided the member with an understanding of the accountingprinciples used by TransAlta to prepare its annual and interim financialstatements.

 
| **Name of ARC Member** | ** ** | **Relevant Education and Experience**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| **W. D. Anderson**     |       | Mr. Anderson is a Chartered Accountant.  Mr. Anderson has served as Chief Executive Officer of a public company  and as Chief Financial Officer of several public companies. In such  capacities, Mr. Anderson actively supervised persons engaged in  preparing, auditing, analyzing or evaluating financial statements.  Mr. Anderson has also served as a principal financial officer,  accounting officer and controller and as a director and audit committee  member of several public companies.                                                                               |
| ** **             | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **T. W. Faithfull**    |       | Mr. Faithfull holds a Bachelor of Arts degree in  Economics and has acquired significant financial experience and exposure to  accounting and financial issues as Chief Executive Officer of Shell Canada  Limited and in his other capacities during his 36 years with the Royal  Dutch/Shell group of companies.                                                                                                                                                                                                                                                                                   |
| ** **             | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **M. M. Kanovsky**     |       | Mr. Kanovsky has over 30 years of financial and  industry experience gained through working in the investment banking business  as well as a director, officer and audit committee member of several public  companies and trusts. Mr. Kanovsky is a graduate of the MBA program from  the Richard Ivey School of Business at the University of Western Ontario.                                                                                                                                                                                                                                |
| ** **             | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **G. S. Lackenbauer**  |       | Mr. Lackenbauer has over 35 years of experience  in the investment banking industry. Mr. Lackenbauer has also appeared as  an expert financial witness with respect to financial markets, capital  structure, cost of capital and fair return on common equity, in over 40  regulatory proceedings. Mr. Lackenbauer also has extensive experience as  a director or governor of public companies and not-for-profit organizations.  Mr. Lackenbauer holds a Bachelor of Arts in Economics, a MBA degree from  the University of Western Ontario and is a Chartered Financial Analyst. |

 

28

 

**Other BoardCommittees**

** **

In addition to the Audit and Risk Committee, TransAltahas two other standing committees: the Governance and Environment Committee andthe Human Resources Committee.  Mrs. Kaufman,the Chair of the Board, is a non-voting ex-officio member of allcommittees.  The voting members of thesecommittees as of December 31, 2007 are:

 
| Governance  and Environment Committee |   | Human  Resources Committee |
|---------------------------------------|--------|----------------------------|
|                                  |   |                       |
| Chair:  Ambassador Gordon D. Giffin   |   | Chair:  Stanley J. Bright  |
| C. Kent  Jespersen                    |   | Timothy W.  Faithfull      |
| Michael M.  Kanovsky                  |   | C. Kent  Jespersen         |
| Gordon S.  Lackenbauer                |   | Dr. Martha  C. Piper  |
| Dr. Martha  C. Piper             |   | Luis Vázquez  Senties |

 

The Charters of the Governance and EnvironmentCommittee and the Human Resources Committee may be found on TransAlta’s websiteunder Corporate Responsibility - Governance at www.transalta.com.  Further information about the Board and theCorporation’s corporate governance may also be found on our website.

 

**Fees Paid toErnst & Young LLP**

** **

For the years ended December 31, 2007 and December 31,2006, Ernst & Young LLP and its affiliates were paid $2,838,740 and$3,596,689 respectively, as detailed below:

 

| Year ended  Dec. 31    |       |     |          |       |       |
|-----------------------------|------------|----------|---------------|------------|------------|
| Ernst &  Young LLP | ** ** | **2007** | ** **    | **2006**   | ** ** |
| Audit fees                  |       | $        | 2,623,699     |       | $          | 3,286,212 |   |
| Audit related  fees         |       | 168,968  |          | 300,892    |       |
| Tax fees                    |       | 45,743   |          | 9,585      |       |
| Total                       | ** ** | **$**    | **2,838,740** | ** ** | ** ** | **$** | **3,596,689** | ** ** |
|                             |            |          |               |            |            |  |  |  |

 

No other audit firms provided audit services in 2007or 2006.

 

The nature of each category of fees is describedbelow:

 

*Audit Fees*

 

Auditfees were paid for professional services rendered by the auditors for the auditof the Corporation’s annual financial statements or services provided inconnection with statutory and regulatory filings or engagements, including thetranslation from English to French of the Corporation’s financial statementsand other documents.  Total audit feesfor 2007 include payments related to 2007 ($1,147,390) and 2006($1,476,309).  Total audit fees for 2006include payments related to 2006 ($1,193,763) and 2005 ($2,092,449).

 

*Audit-Related Fees*

 

The audit-related fees in 2007 were primarily forwork performed by Ernst & Young LLP in relation to miscellaneousaccounting advice provided to the Corporation.

 

*Tax Fees*

 

Majority of tax fees for 2007 relate to thefinalization of tax credit recoveries.

 

29

 

**Pre-ApprovalPolicies and Procedures**

** **

The ARC has considered whether theprovision of services other than audit services is compatible with maintainingthe auditors’ independence. In May 2002, the ARC adopted a policy thatprohibits TransAlta from engaging the auditors for “prohibited” categories ofnon-audit services and requires pre-approval of the ARC for other permissiblecategories of non-audit services, such categories being determined under theSarbanes-Oxley Act.

 

Representatives of Ernst & Young LLP will be in attendance atthe Meeting, will have the opportunity to make a statement if they so wish andwill be available to respond to questions.

 

30

 

# **APPENDIX “A”**

 

**TRANSALTA CORPORATION**

**TRANSALTAUTILITIES CORPORATION**

**TRANSALTAENERGY CORPORATION**

 

**AUDIT AND RISKCOMMITTEE**

 

CHARTER

 

**A.****           ****Establishmentof Committee and Procedures**

 

1.             Composition of Committee

 

The Audit and Risk Committee (the “Committee”)of the Board of Directors of TransAlta Corporation (the “Corporation”) shallconsist of not less than three Directors. All members of the Committee shall be determined by the Board to beindependent as required under the provisions of Canadian Securities Regulators’Multilateral Instrument 52-110 Audit Committees, Section 303A of the NewYork Stock Exchange rules and Rule 10A-3 of the U.S. Securities andExchange Act of 1934, as such rules apply to audit committee members.  All members of the Committee must befinancially literate pursuant to both Canadian and U.S. securities requirementsand at least one member must be determined by the Board to be an “auditcommittee financial expert” within the meaning of Section 407 of theSarbanes-Oxley Act of 2002.  Determinationsas to whether a particular director satisfies the requirements for membershipon the Committee shall be made by the full Board of Directors (the “Board”) atthe recommendation of the Governance and Environment Committee.

 

2.             Appointment of Committee Members

 

Members of the Committee shall be appointedfrom time to time by the Board, on  therecommendation of the Governance and Environment Committee, and shall holdoffice until the next annual meeting of shareholders, or until their successorsare earlier appointed, or until they cease to be Directors of the Corporation.

 

3.             Vacancies

 

Where a vacancy occurs at any time in themembership of the Committee, it may be filled by the Board.  The Board shall fill any vacancy if themembership of the Committee is less than three directors.

 

4.             Committee Chair

 

The Board shall appoint a Chair for theCommittee on the recommendation of the Governance and Environment Committee.

 

5.             Absence of Committee Chair

 

If the Chair of the Committee is not present at anymeeting of the Committee, one of the members of the Committee who is present atthe meeting shall be chosen by the Committee to preside at the meeting.

 

6.             Secretary of Committee

 

The Committee shall appoint a Secretary who need notbe a director of the Corporation.

 

A-1

 

7.             Meetings

 

The Chair of the Committeeor any of its members may call a meeting of the committee.  The Committee shall meet at least quarterlyand at such other time during each year as it deems appropriate.  In addition, the Chair of the Committee orany of its members may call a special meeting of the Committee at any time.Although the Company’s Chief Executive Officer may attend meetings of theCommittee, the Committee shall also meet in separate executive sessions.

 

8.             Quorum

 

A majority of the members of the Committeepresent in person or by telephone or other telecommunication device that permitall persons participating in the meeting to speak to each other, shallconstitute a quorum.

 

9.             Notice of Meetings

 

Notice of the time and place of everymeeting shall be given in writing (including by way of written facsimilecommunication or email) to each member of the Committee at least 48 hours priorto the time fixed for such meeting, provided, however, that a member may in anymanner waive a notice of a meeting; and attendance of a member at a meetingconstitutes a waiver of notice of the meeting, except where a member attends ameeting for the express purpose of objecting to the transaction of any businesson the ground that the meeting is not lawfully called.  Notice of every meeting shall also beprovided to the external and internal auditors.

 

10.           Attendance at Meetings

 

At the invitation of the Chair of theCommittee, other Board members, officers or employees of the Corporation, theexternal auditors, outside counsel and other experts or consultants may attendany meeting of the Committee.

 

11.           Procedure, Records and Reporting

 

Subject to any statute or the articles and by-laws ofthe Corporation, the Committee shall fix its own procedures at meetings, keeprecords of its proceedings and report to the Board generally not later than thenext scheduled meeting of the Board.

 

12.           Review of Charter

 

The Committee shall evaluate its performanceand review and reassess the adequacy of its Charter at least annually orotherwise, as it deems appropriate, and if necessary propose changes to theBoard.

 

13.           Outside Experts andAdvisors

 

The Committee Chair, on behalf of theCommittee, or any of its members is authorized, at the expense of theCorporation, when deemed necessary or desirable, to retain independent counsel,outside experts and other advisors to advise the Committee independently on anymatter.

 

**B.****           ****GeneralMandate of Committee**

 

TheCommittee provides assistance to the Board in fulfilling its oversightresponsibility to the shareholders, the investment community and others,relating to the integrity of the Corporation’s financial statements, thefinancial reporting process, the systems of internal accounting and financialcontrols, the risk identification assessment conducted by management and theprograms established by management and the Board in response to such 

 

A-2

 

assessment, the internal audit function and theexternal auditors’ qualifications, independence, performance and reports.  In so doing, it is the Committee’sresponsibility to maintain an open avenue of communication between theCommittee, the external auditors, the internal auditors and management of theCorporation.

 

The function of the Committee is oversight.  Management is responsible for thepreparation, presentation and integrity of the interim and annual financialstatements and related disclosure. Management of the Corporation is also responsible for maintainingappropriate accounting and financial reporting policies and systems of internalcontrols and procedures that are in compliance with accounting standards,applicable laws and regulations and that provide reasonable assurances thatassets are safeguarded, that transactions are authorized, executed, recordedand reported properly.

 

While the Committee has the responsibilities andpowers set forth herein, it is not the duty of the Committee to plan or conductaudits or to determine that the Corporation’s financial statements are completeand accurate and are in accordance with generally accepted accountingprinciples.  This is the responsibilityof management and the external auditors. The designation of a member or members as an “audit committee financialexpert” is based on that individual’s education and experience, which theindividual will bring to bear in carrying out his or her duties on theCommittee.  Designation as an “auditcommittee financial expert” does not impose on such person any duties,obligations or liability that are greater than the duties, obligations andliability imposed on such person as a member of the Committee and Board in theabsence of such designation.

 

Management is also responsible for the identificationand management of the Corporation’s risks and the development andimplementation of policies and procedures to mitigate such risks.  The Committee’s role is to provide oversightin order to ensure that the Corporation’s assets are protected and safeguardedwithin reasonable business limits.

 

**C.****           ****Dutiesand Responsibilities of the Committee**

 

The Committee shall have the followingspecific duties and responsibilities:

 

**1.****            ****Audit and Financial Matters:**

 

The Committee shall:

 

(a)   have directresponsibility for the compensation and oversight of the external auditorsincluding nominating the external auditors to the Board for appointment by theshareholders at the Corporation’s general annual meeting.  In performing its function, the Committeeshall:

 

(i)            reviewthe experience and qualifications of the external auditors’ senior personnelwho are providing audit services to the Corporation and the quality controlprocedures of the external auditors, including obtaining confirmation that theexternal auditors are in compliance with Canadian and U.S. regulatoryregistration requirements;

 

(ii)           reviewand approve the basis and amount of the external auditors’ fees and ensure theCorporation has provided appropriate funding for payment of compensation to theexternal auditors;

 

(iii)          reviewand discuss with the external auditors all relationships that the externalauditors and their affiliates have with the Corporation and its affiliates inorder to determine the external auditors’ independence, including, withoutlimitation, (i) requesting, receiving and reviewing, at least annually, aformal written statement from the external auditors delineating allrelationships that may reasonably be thought to bear on the independence of theexternal auditors with respect to the Corporation, (ii) discussing withthe external auditors any disclosed relationships or services that the externalauditors believe may affect the objectivity and independence of the externalauditors, 

 

A-3

 

and (iii) recommending that the Board takeappropriate action in response to the external auditors’ report to satisfyitself of the external auditors’ independence;

 

(iv)          resolvedisagreements between management and the external auditors regarding financialreporting;

 

(v)           pre-approveaudit services including all non-prohibited non-audit services provided by theexternal auditors; the Chair of the Committee, on behalf of the Committee,  may at his discretion approve allnon-prohibited non-audit services provided by the external auditors, and reportall such approvals to the Committee at its next scheduled meeting;

 

(vi)          informthe external auditors and management that the external auditors shall haveaccess directly to the Committee at all times, as well as the Committee to theexternal auditors; and

 

(vii)         instructthe external auditors that they are ultimately accountable to the Committee asrepresentatives of the shareholders of the Corporation;

 

(b)   review withmanagement and the Corporation’s external auditors the Corporation’s financialreporting in connection with the annual audit and the preparation of thefinancial statements, including, without limitation, the annual audit plan ofthe external auditors, the judgment of the external auditors as to the quality,not just the acceptability, of and the appropriateness of the Corporation’saccounting principles as applied in its financial reporting and the degree ofaggressiveness or conservatism of the Corporation’s accounting principles andunderlying estimates;

 

(c)   review withmanagement and the external auditors all financial statements and financialdisclosure and

 

(i)            recommendto the Board for approval the Corporation’s audited annual financial statementsincluding the notes thereto and, “Management’s Discussion and Analysis”,

 

(ii)           review any report oropinion to be rendered in connection therewith;

 

(iii)          reviewwith the external auditors the cooperation they received during the course oftheir review and their access to all records, data and information requested;

 

(iv)          discusswith management and the external auditors all significant transactions whichwere not a normal part of the Corporation’s business;

 

(v)           reviewthe management processes for formulating sensitive accounting estimates and thereasonableness of the estimates;

 

(vi)          review with management andthe external auditors any changes in accounting principles and theirapplicability to the business;

 

(vii)         reviewwith management and the external auditors alternative treatments of financialinformation within generally accepted accounting principles that have beendiscussed with management, ramifications of the use of such alternativedisclosures and treatments and the treatment preferred by the externalauditors;

 

(viii)        satisfyitself that there are no unresolved issues between management and the externalauditors that could reasonably be expected to materially affect the financialstatements;

 

A-4

 

(d)   review withmanagement and the external auditors the Corporation’s interim financialstatements, including the notes thereto, “Management’s Discussion and Analysis”and earnings release, and approve the release thereof by management to thepublic;

 

(e)   review anddiscuss with management and external auditors the use of “pro forma” or “adjusted”non-GAAP information and the applicable reconciliation;

 

(f)    on behalf ofthe Committee, the Chair shall review as required the public disclosure offinancial information extracted or derived from the financial statements;

 

(g)   review withmanagement at least annually the approach and nature of the disclosure offinancial information and earnings guidance provided to analysts and ratingagencies;

 

(h)   review andrecommend to the Board for approval the Corporation’s issuance and redemptionof securities, financial commitments and limits, and any material changesunderlying any of these commitments;

 

(i)    at leastannually, obtain and review a report by the external auditors describing theauditing firm’s internal quality-control procedures, any material issues raisedby the most recent internal quality-control review or peer review of theauditing firm, any inquiry or investigation by governmental or professionalauthorities within the preceding five years undertaken respecting one or moreindependent audits carried out by the external auditors, and any steps taken todeal with any such issues;

 

(j)    reviewquarterly with senior management, the chief legal officer and, as necessary,outside legal advisors, and the Corporation’s internal and external auditors,the effectiveness of the Corporation’s internal controls to ensure theCorporation is in compliance with legal and regulatory requirements and withthe Corporation’s policies;

 

(k)   reviewquarterly with the chief legal officer, and, if necessary, outside legaladvisors, significant legal, compliance or regulatory matters that may have amaterial effect on the financial statements of the business;

 

(l)    recommend tothe Human Resources Committee the appointment and termination or transfer ofthe Vice-President, Internal Audit;

 

(m)  review andconsider, as appropriate, any significant reports and recommendations made byinternal audit relating to internal audit issues, together with management’sresponse thereto;

 

(n)   review changesin accounting practices or policies and the financial impact these may have onthe Corporation;

 

(o)   discuss withthe external auditors their perception of the Corporation’s financial andaccounting personnel, any recommendations which the external auditors may have,including those contained in the management letter, with respect to improvinginternal financial controls, choice of accounting principles or managementreporting systems, and review all management letters from the external auditorstogether with management’s written responses thereto;

 

(p)   review withmanagement, the external auditors and, as necessary, internal and externallegal counsel, any litigation, claim or contingency, including tax assessments,that could have a material effect upon the financial position of theCorporation, and the manner in which these matters may be, or have been,disclosed in the financial statements;

 

A-5

 

(q)   reviewannually the Annual Pension Report and financial statements of the Corporation’spension plans including the actuarial valuation, asset/liability forecast,asset allocation, manager performance and plan operating costs;

 

(r)    together withthe Human Resources Committee of the Board, review annually and as required theoverall governance of the Corporation’s Pension Plans, approve the broadobjectives of the plans and report to the Board at least annually;

 

(s)   reviewannually the internal audit department charter, review with the internalauditors the Corporation’s internal control procedures, the scope and plans forthe work of the internal audit group, the annual checklist of responsibilitiesof the Committee; review the adequacy of resources and ensure that the internalauditors have unrestricted access to all functions, records, property andpersonnel of the Corporation and inform the internal auditors and managementthat the internal auditors shall have unfettered access directly to theCommittee at all times, as well as the Committee to the internal auditors;

 

(t)    meetseparately with management, the external auditors and internal auditors toreview issues and matters of concern respecting audits and financial reporting;

 

(u)   review theannual audit of expense accounts and perquisites of the Directors, the CEO andhis direct reports, including the use of the Corporation’s assets, as well asthe Corporation’s annual sponsorship, donations and political contributions;

 

(v)   reviewmanagement’s processes relating to the assessment of potential fraud, programsand controls to mitigate the risk of fraud and the process put in place formonitoring the risks within targeted areas;

 

(w)  reviewdisclosures made to the Committee by the CEO and CFO during their certificationprocess for the relevant periodic reports filed with securities regulators toensure that information required to be disclosed is recorded, processed,summarized and reported within the time periods specified for the reportingperiod.  Obtain assurances from the CEOand CFO as to the adequacy and effectiveness of the Corporation’s disclosurecontrols and procedures and systems of internal control over financialreporting and that any fraud involving management or other employees who have asignificant role in the Company’s internal controls was reported to theCommittee;

 

(x)   ensure thatthe Corporation’s business practices and ethical behaviours are communicated toemployees and contractors on an annual basis, to review at least annually theCorporate Code of Conduct and the policies and practices in place to ensurecompliance.  Inquire of the internal andexternal auditors as to any instances of deviation from the Corporate Code ofConduct which has come to their attention and the action taken as a result of same;

 

(y)   establishprocedures for the receipt, retention and treatment of complaints received bythe Corporation regarding accounting, internal accounting controls or auditingmatters and the confidential, anonymous submission by employees of concerns regardingaccounting or auditing matters;

 

(z)    review allincidents, complaints or information reported through the Ethics Help Lineand/or management;

 

A-6

 

(aa)    review disclosure made to the Committee by the chief executiveofficer, chief financial officer and/or chief legal officer of a materialviolation of applicable securities laws, a material breach of a fiduciary dutyunder applicable laws or a similar material violation by the Corporation or byany officer, director, employee or agent of the Corporation, which has beenreported to the Committee, determine whether an investigation is necessaryregarding any such report and report to the board;

 

(bb)   discuss with management and theexternal auditors any correspondence from or with regulators or governmentalagencies, any employee complaints or any published reports that raise materialissues regarding the Corporation’s financial statements or accounting policies;

 

(cc)    annuallyprepare a report from the Committee to shareholders or others, concerning thework of the Committee during that year in the discharge of itsresponsibilities; and

 

(dd)   review and approve the Corporation’shiring policies for employees or former employees of the external auditors andmonitor the Corporation’s adherence to the policy.

 

**2.****            ****RiskManagement**

 

The Committee provides oversight ofmanagement’s establishment of an overall risk culture for the Corporation.  The Committee shall oversee and approve theprocesses established and developed by management for the identification of theCorporations principal risks, the evaluation of potential impact and theimplementation of appropriate systems to mitigate and manage the risks.

 

The Committee shall:

 

(a)   reviewannually with the Board management’s assessment of the significant risks towhich the Corporation is exposed; discuss with management the Corporation’spolicies and procedures for identifying and managing the principal risks of itsbusiness in order to ensure that management:

 

A.    has identified appropriatebusiness strategies taking into account the principal risks identified, and

 

B.    ismaintaining systems and procedures to manage or mitigate those risks, includingprograms of loss prevention, insurance and risk reduction and disaster responseand recovery programs;

 

(b)   receive and review managements’ quarterly riskassessment update including an update on residual risks and emergent risks andnext steps;

 

(c)   reviewthe Corporation’s enterprise risk management framework and reportingmethodology;

 

(d)   review annually the Corporation’s Financial andCommodity Exposure Management Policies and approve changes to such policies;review and authorize strategic hedging program guidelines and risk tolerance;review and monitor quarterly results of financial and commodity exposuremanagement activities, including foreign currency and interest rate riskstrategies, counterparty credit exposure and the use of derivative instruments;

 

(e)   review the Corporation’s annual insurance program,including the risk retention philosophy and resulting uninsured exposure andcorporate liability protection programs for directors and officers includingdirectors’ and officers’ insurance coverage;

 

(f)    periodically consider the respective roles andresponsibilities of the external auditor, the internal audit department,internal and external counsel concerning risk management of the Corporation andreview their performance in relation to such roles and responsibilities; and

 

A-7

 

(g)   annually, together with management report to the Boardof Directors on:

 

A.    theCorporation’s strategies in light of the overall risk profile of theCorporation;

 

B.    the natureand magnitude of all significant risks;

 

C.    theprocesses, policies, procedures and controls in place to manage thesesignificant risks; and

 

D.    the overall effectiveness of risk management processes includinghighlighting risk management problems and the actions that have been or will betaken to address them.

 

**D.****            Compliance and Powers of the Committee**

 

(a)           The responsibilities of the Committee complies withapplicable Canadian laws and regulations, such as the rules of theCanadian Securities Administrators, and with the disclosure and listingrequirements of the Toronto Stock Exchange, as they exist on the datehereof.  In addition this Chartercomplies with the applicable US laws, such as the Sarbanes-Oxley Act of 2002,and the rules and regulations adopted thereunder, and with the New YorkStock Exchanges’ corporate governance standards, as they exist on the datehereof.  This Charter is reviewed fromtime to time by the Corporate Secretary together with the Chair of theCommittee in order to ensure on going compliance with such standards.

 

(b)           The Committee may, at the request of the Board or onits own initiative, investigate such other matters as are considered necessaryor appropriate in carrying out its mandate.

 

A-8

 

** **

# **APPENDIX “B”**

# ** **

**GLOSSARY OFTERMS**

** **

This Annual Information Form includesthe following defined terms:

 

**“AEUB”** means the Alberta Energy andUtilities Board;

 

**“Alberta PPA”** means an Alberta governmentmandated power purchase arrangement;

 

**“availability”** means the “weighted averageequivalent availability factor”, which is a term used to calculate availabilityfor a pool or fleet of units of varying sizes. It is a measure of time and energy expressed in percentage of continuousoperation, 24 hours a day, 365 days a year, that a generating unit is capableof generating electricity, whether or not it is actually generatingelectricity;

 

**“capacity”** means net maximum capacitythat a unit can sustain over a period of time;

 

**“gigawatt hour”** or **“GWh”**means one million kilowatt hours of electrical power;

 

**“kilowatt”** or **“kW”**means 1,000 watts of electrical power;

 

**“kilowatt hour”** or **“kWh”**means one hour during which one kilowatt of electrical power has beencontinuously produced;

 

**“megawatt”** or **“MW”**means 1,000 kilowatts or one million watts of electrical power;

 

**“megawatt hour”** or **“MWh”**means 1,000 kilowatt hours;

 

**“PPA”** means a power purchaseagreement having an initial term of five years or greater;

 

**“watt”** means the scientific unit ofelectrical power, being the rate of energy use that gives rise to theproduction of energy at a rate of one joule per second;

 

**“watt hour”** is a measure of energyproduction or consumption equal to one watt produced or consumed for one hour;and

 

**“WPPI”** means the Government ofCanada’s Wind Power Production Incentive available to approved wind generationfacilities commissioned between April 1, 2002 and March 31, 2007.

 

B-1

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| **10**Financial Highlights**11**Message to  Shareholders**16**Performance Metrics**17**Sustainable  Development**19**Connecting  with Communities**20**Message  from the Chair**22**Board of  Directors**25**Corporate  Governance**26**Plant  Summary**27**Management’s  Discussion and Analysis**69**Consolidated  Financial Statements**110**Eleven-Year Financial and Statistical Summary**112**Shareholder  Information**113**Shareholder  Highlights**114**Corporate  Information**115**Glossary |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

 

 
| It’s  obvious...the world is changing.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| we’re  ready.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| As  one of western North America’s leading power generation companies, TransAlta  is uniquely positioned to take on the challenges of our changing times.

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   We have a highly  diversified portfolio of generation assets – primarily located in western  North America – with a variety of fuel types including renewables.

 

  Our fuel diversity  provides strong ongoing potential – hydro, wind, geothermal, natural gas and  coal.

 

  We maintain a low- to  moderate-risk business model, driven by our investment grade balance sheet  and long-term contracts.

 

  Our asset base can  be continuously renewed for the long-term sustainability of the Company  through efficient investments. This strength is  reflected in the strong cash flow we generate and our balanced approach to  capital allocation.

 

  We consistently take  a long-term view, keeping our focus on operations, costs and productivity,  and sustaining a strong balance sheet. These  fundamental keys to success are as true today as they were in the past.

** **

Looking ahead, we see exciting market opportunities, and we  have a sound strategy to deliver consistent and growing shareholder value.

 

We’re ready...

  |

 

1

 

 

TRANSALTA CORPORATION    Annual Report 2007

 

2

** **

 
|  

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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| **Our customers know they can  depend on us to supply their steadily growing demand for electricity****.**

                                                                                                                                                                                                                                                                                                                                                                                                       |   |   |
| We’re well  positioned to meet their needs for reliable, competitively priced electricity.                                                                                                                                                                                                                                                                                                                                                                                                                         |   |
| We keep  TransAlta’s existing assets in optimal condition to ensure they’re available  to supply our customers’ critical electricity needs when called on. And, as key markets like Alberta  grow, we’re adding much-needed new supply – “uprating” or retrofitting our  existing plants and constructing new renewable, cogeneration, and thermal  assets.

 

Our goal is to  build on our strengths to become a super-regional, western wholesale power  generation company. |   |  

**Clockwise  from top:**

*McBride**Lake  Wind Farm,*

*Kananaskis  Dam, Keephills Plant* |

 

3

** **

 

 

TRANSALTACORPORATION    Annual Report 2007

 

4

 

 
|  

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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
| **Electricity  is a long-cycle, capital-intensive industry****.**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|  

With a strong balance  sheet and financial flexibility, TransAlta is ready and able to  weather financial turbulence and commodity cycles.

 

Our financial strength  enables us to contract our assets for better and longer terms, and provides  us with the necessary access to Canadian and U.S. capital markets at  all times.It also gives us an edge in  capitalizing on opportunities as they arise.

 

Our goal is to  continue to strike the right balance between dividends, share buybacks, and  growth investments to deliver consistent, sustainable value to our  shareowners.

 

  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |   | **Above:***Centralia  Thermal Plant* |

 

5

** **

 

TRANSALTACORPORATION    Annual Report 2007

 

6

** **

 
|  

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| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |   |
| **A  number of advanced technologies are emerging for using coal as a cleaner fuel  source****.**

 

New technologies, like carbon capture and storage,  have the potential to reduce many of our environmental challenges. Once commercially viable, they’ll  play a critical role in the retrofitting of TransAlta’s thermal generation  facilities.

 

Carbon capture is a technically viable,  environmentally safe means of reducing greenhouse gasses, and is ideally  suited for our thermal energy plants.

 

These emerging technologies give us an excellent  opportunity to prolong the life cycle of our thermal plants and continue to  run them and serve our customers. And what’s good for the  environment is also good for business.

 

 

 

 

 

 

**Above:***TransAlta  employees are ready  for the technological challenges ahead**.* |   |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |

 

7

** **

 

 

TRANSALTACORPORATION    Annual Report 2007

 

8

 

 

 

**We’ve been a sustainable development leader forover a decadeand our efforts are producing results.**

 

In the last fewyears we’ve reduced our sulphur dioxide intensity by 62 per cent and ournitrogen oxide intensity by seven per cent. We’ve also made significant stridesin reducing mercury emissions. By testing new technology at our Sundance plant,we believe we’ll be able to reduce our overall mercury emissions by another 70per cent by 2010.

 
| We have also taken steps to reduce our greenhouse  gas emission intensity by improving the efficiency of our thermal plants and  investing in alternative energy projects. Over the last decade, we’ve become  Canada’s leading provider of wind power generation and we continue to invest  in this clean, renewable source of energy.

 

We’ve been recognized for our environmental  leadership, with a listing on the North American Dow Jones Sustainability  Index (“DJSI”) and on the FTSE4Good global index. The Carbon Disclosure  Project also selected us as one of 16 Canadian companies highlighted for  proactively addressing the challenges posed by climate change.

 

Our goal is to continue to find ways to reduce our  environmental footprint while delivering value to our shareowners. | ** **

**reduced  our**

**sulphur  dioxide**

**intensity  by**

**62%***

** **

**reduced  our**

**nitrogen  oxide**

**intensity  by**

**7%***

 

*«******based on best available data  at time of report production.*

  |
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| **Above:***Sundance Plant*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |

 

9

 

FinancialHighlights

 
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** | ** ** |
|--------------------------------------------|--------------------------------------|------------|-------------|------------|------------|-------------|------------|------------|
|                                            | **IN MILLIONS OF  CANADIAN DOLLARS** | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** | ** ** |
| except per common share data and ratios    | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| ** **                                 | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| ** **                                 | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| ** **                                 | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| ** **                                 | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| **Year ended Dec. 31**      | ** **                           | **2007**   | ** **  | **2006**   | ** ** | **2005**    | ** ** |
| ** **                                 | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Revenues                                   | ** **                           | **$**      | **2,774.7** | ** ** | **$**      | **2,677.6** | ** ** | **$**      | **2,664.4** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Net  earnings                              | ** **                           | **$**      | **308.8**   | ** ** | **$**      | **44.9**    | ** ** | **$**      | **186.3** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Comparable  earnings                       | ** **                           | **$**      | **264.3**   | ** ** | **$**      | **233.8**   | ** ** | **$**      | **161.3** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Cash flow  from operations                 | ** **                           | **$**      | **847.2**   | ** ** | **$**      | **489.6**   | ** ** | **$**      | **619.8** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Per common  share data                     | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Net  earnings                              | ** **                           | **$**      | **1.53**    | ** ** | **$**      | **0.22**    | ** ** | **$**      | **0.94** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Comparable  earnings                       | ** **                           | **$**      | **1.31**    | ** ** | **$**      | **1.16**    | ** ** | **$**      | **0.82** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Dividends                                  | ** **                           | **$**      | **1.00**    | ** ** | **$**      | **1.00**    | ** ** | **$**      | **1.00** | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Ratios                                     | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Cash flow  to interest coverage (times)    | ** **                           | **6.6**    | ** **  | **5.5**    | ** ** | **4.7**     | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Cash flow  to total debt (%)               | ** **                           | **30.7**   | ** **  | **26.2**   | ** ** | **23.0**    | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Debt to  invested capital (%)              | ** **                           | **46.8**   | ** **  | **44.5**   | ** ** | **43.9**    | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Return on  capital employed (%)            | ** **                           | **9.8**    | ** **  | **2.5**    | ** ** | **7.4**     | ** ** |
|                                       | ** **                           | ** ** | ** **  | ** ** | ** ** | ** **  | ** ** |
| Comparable  return on capital employed (%) | ** **                           | **9.7**    | ** **  | **9.0**    | ** ** | **7.4**     | ** ** |
|                                       |                                 | ** ** |        |       |       |        |       |
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** **

** **

TRANSALTA CORPORATION   Annual Report 2007

 

10

 

Message to

Shareholders

 

 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** | **STEVE SNYDER**

**President  & CEO** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|------------|--------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |   |       |
| TransAlta had a strong and productive year in 2007.  Thanks to all of our employees, we achieved record results for our comparable  earnings and for cash flow. Return on capital employed increased, total  shareholder returns exceeded our target, and our balance sheet at the end of  the year remained strong.

 

We were successful in  keeping operating costs below the rate of inflation. We successfully  implemented the first phase of our Centralia fuel transition plan. We  advanced our growth strategy by completing the uprate on our Sundance Unit 4  and began work on both the Keephills 3 and Kent Hills projects. We  accomplished all this while meeting our safety targets, and achieving our  lowest employee injury frequency rate.

 

These accomplishments,  along with steadily improving financial results and the potential for  positive market conditions ahead, position TransAlta to deliver low  double-digit earnings per share growth and strong cash flow in 2008 and the  years ahead.

 

**Building a Strategic Advantage**

 

We are a wholesale power generation company with  financial strength and flexibility focused on the growing western markets.  Our Company has elements of a regulated entity, due to the nature of our  long-term contracts, and also that of an independent power producer as we  also have access to merchant markets. That makes us unique relative to most  of our peers in the North American energy sector.

 

Approximately 70 per cent  of our capacity is contracted under government-mandated power purchase  agreements or long-term contracts. These contracts support our low- to |   |       |
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** **

MESSAGE TOSHAREHOLDERS

** **

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|  

 

 

 

 

**We are a  wholesale power  generation  company with  financial strength  and flexibility  focused on the  growing western  markets.**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
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| moderate-risk business profile and our capabilities  to deliver steady, stable earnings and cash flow. They secure our commitment  to growing total shareholder returns. Our modest merchant exposure provides  market upside potential.

 

The soundness of this  strategy has been seen in our performance over the last 10 years. That period  was marked by challenging credit and commodity markets. Many independent  power producers went bankrupt. At TransAlta, we not only retained our  investment grade credit rating, we improved it, while maintaining our  dividend.

 

A strong balance sheet  and investment grade credit rating benefit investors in a long-cycle, capital  intensive, commodity-sensitive business. It improves our competitiveness by  lowering our cost of capital compared to non-investment grade companies. It  enables TransAlta to contract its assets with customers on more favourable  terms. We prize financial flexibility, which allows us to access the capital  markets at the lowest all-in cost of financing. This financial strategy has  supported our strong total shareholder return over the last decade.

 

We have consistently paid  a dividend. I believe the dividend is an important part of the value  proposition we offer shareholders. In the last decade we have paid over $2  billion in dividends to shareholders. On February 7th, 2008, TransAlta’s  Board of Directors announced an increase in the annual dividend to $1.08 from  $1.00. This eight per cent increase reflects our growing earnings, the  confidence in our business, and our commitment to build sustainable earnings  and dividend growth.

 

In addition to this  steady dividend, our capital allocation decisions balance investment in new  capacity, share repurchases, and opportunities to optimize the portfolio as  we did early in 2008 with the sale of our Mexican business for $304 million.  Growing economies in our markets have created some very attractive  opportunities to create shareholder value by investing in additional capacity  such as renewable energy and co-generation facilities. These new assets can  deliver excellent returns and long-term, stable cash flow.

 

Share buyback is also  part of our balanced capital allocation plan. In 2007, under our normal  course issuer bid (“NCIB”) we spent $75 million to purchase approximately 2.4  million shares. For 2008, as we look at our requirements for liquidity, the  need to maintain our key financial ratios, and cash from the divestiture of  our Mexican business, we expect to continue to repurchase shares in accordance  with the TSX NCIB rules.

 

Our unique combination of  resources and proven strengths differentiates our Company and positions it to  fully capture the upside potential from today’s buoyant electricity markets.  Our legacy assets are profitable cash generators. We own long-term coal  reserves, untapped hydro resources, optioned wind development sites,  reservoirs for CO2 storage, and highly  sought brownfield sites with connectivity to transmission. We have access to  water and |

** **

** **

TRANSALTA CORPORATION   Annual Report 2007

 

12

 
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| *On Feb. 20, 2008, TransAlta announced the sale of  its Mexican business (511 MW gas-fired plants). The sale is still subject to  regulatory approval. For a more detailed breakdown of our assets, please turn  to page 26.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                                              |   |
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| multiple  fuels. All provide TransAlta with a multitude of development options to  profitably expand our portfolio, meet growing power demand, and create value  for shareowners.

 

In addition, we have the skills required to achieve top  decile operations at our plants and mines, build out our fleet, navigate and  influence regulatory and environmental challenges, and optimize our portfolio  to capture near-term upside and protect shareowners from increasing price  volatility.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                                                                                                                              |   |
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| **Ready  for Change**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | **Simply put,  our  industry must  struggle to break  the current  “triple E” equation:  energy growth =  economic growth =  environmental  problems.** |   |
|  

The  environment we operate in is changing.

 

Simply put, our industry must struggle to break the  current “triple E” equation: energy growth = economic growth = environmental  problems. It’s hard to grow the economy and the standard of living  competitively without using more energy, and it’s hard to use more energy and  not impact the environment.

 

Longer-term, the industry is facing one of the most  profound technological shifts in its history. This change is driven by the  need to reduce the power industry’s environmental footprint, particularly the  production of greenhouse gases. Consequently, we are going to have to  implement new technologies that can cost-effectively reduce our emissions and  still allow our plants, especially our thermal-fueled facilities, to be  competitive. That’s a tough challenge.

 

But we saw this shift coming many years ago and have been  preparing for it.

 

We have been a leader in developing renewable power and  the purchase of emission offsets. Both initiatives will help us to bridge the  transition until full-scale carbon capture |                                                                                                                                                                   |
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** **

** **

MESSAGE TO SHAREHOLDERS

 

13

 
| **MANAGEMENT TEAM (left to right)**

**Richard Langhammer, Executive Vice-President,**

**Generation Operations; Ken Stickland, Executive**

**Vice-President, Legal; Will Bridge, Executive  Vice-**

**President, Generation Technology & Procurement**

**& Material Management; Steve Snyder,  President &**

**Chief Executive Officer; Dawn Farrell, Executive**

**Vice-President, Commercial Operations &**

**Development; Mike Williams, Executive Vice-**

**President, Human Resources, Information**

**Technology & Communications; Brian Burden,**

**Executive Vice-President & Chief Financial  Officer** |   |  |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--|

 
|                                                                                                                                                             | technology can be developed and commercialized. We  also continuously invest in our plants to improve efficiency and increase  productivity – which also minimizes emissions. Over the last several years,  we have put in place a rigorous asset-planning process to predict the optimal  timing of investments in our fleet.

 

We are working with  policy-makers to develop an economic framework to provide incentives for  investment in CO2 capture and sequestration. As we transition  to this new framework, the terms of our Alberta power purchase arrangements  (“PPAs”) allow us to recover the costs related to legislated changes that  affect our Alberta plants.

 

We are also partnering  with key equipment manufacturers to obtain the necessary incentives and  support to build a pilot project on a TransAlta site. By selecting the  technology that will allow us to meet the most exacting environmental  standards while delivering the lowest-cost electricity to our customers, we  can continue to grow earnings after the Alberta PPAs expire.

 

In 2007 we continued our  progress in evaluating ways to cost-effectively run our thermal plants for  life cycles beyond 40 years while meeting the toughest environmental  standards. This has the potential to create the greatest value for the  Company in the coming years. Our high-level estimates today show a compelling  advantage in prolonging our thermal plants’ life cycle relative to building a  new plant.

 

Between 2008 and 2009, we  will conduct detailed engineering assessments on each of our units to  determine more precisely what technical changes are required to operate these  assets for an additional 10–20 years. We’ll also continue to work toward  finding the right CO2 capture technology.  This won’t be easy, but the potential payoff for our shareowners will be  compelling if the all-in cost of investing in our current fleet proves to be  superior to building new plants.

 

There is an urgent need  for new power capacity in many of our markets. Reserve margins are nearing or  are already below 15 per cent. That’s an industry warning signal for  decreased reliability of supply, and it creates opportunities for new  investments in North America. I believe these investment opportunities have  returns that are now better than what we could only find internationally in  years past. To take advantage of these conditions, we’ll focus our  development efforts on western North America. Our goal is to build on our  strength as a super-regional, western wholesale power competitor. |
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| **TransAlta, like  our industry, is  at a key juncture  in its history.  Ahead of us are  the best growth  opportunities and  market conditions  we have seen.** |
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** **

** **

TRANSALTA CORPORATION   Annual Report 2007

 

14

 
| To succeed in this effort, we’ll have to navigate through  some tough impediments – transmission constraints, rising component costs,  and equipment and labour shortages. But, with nearly 100 years of operating  experience behind us, I believe we’ll be successful. In the recent past, we  have developed key long-term strategic supplier relationships with industry  leaders to help secure materials and services when needed and at more  predictable prices.

 

We’ll also invest in technologies where we have proven  competencies and enjoy a competitive edge: wind, natural gas co-generation,  geothermal, and small-scale hydro. We are currently considering approximately  1,000 megawatt (“MW”) of project opportunities in these segments.

 

A decade ago, our industry believed it would move to a  deregulated wholesale power model. This has not happened. The U.S. in  particular is now a patchwork of traditional rate-of-return-based power  companies and others with hybrid elements of both market-based and traditional  regulation. Recognizing that reality, and consistent with our growth  objective and retaining a low-to-moderate risk profile, we must now consider  opportunities to acquire regulated assets. These efforts will be focused on  the western North American markets as we build an even stronger competitive  position.

 

TransAlta, like our industry, is at a key juncture in its  history. Ahead of us are the best growth opportunities and market conditions  we have seen. But there are also challenges – including environmental  challenges, technological change, an increasing trend to more regulatory  oversight, transmission constraints, and considerable cost uncertainties  around alternate fuel sources. With a strong balance sheet and a disciplined  and balanced approach to capital allocation, we are well positioned to  capitalize on the market potential and deliver excellent shareholder returns,  while meeting these challenges head on.

 

All these efforts are supported by our superb team of  employees. Time after time they have demonstrated resiliency, an ability to  rise to challenges, a focus on shareowner value, and an unwavering dedication  to excellence. Their skills, combined with the contribution of our worldwide  suppliers and our commitment to our customers, ensures we can deliver on the  opportunities ahead of us. I want to sincerely thank our employees, our  suppliers, and our customers for their role in our mutual success.

 

Change is coming, and we’re ready. As always, thank you  for your support. |  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

**A  strong balance  sheet and invest-  ment grade credit  rating benefit  investors in  a long-cycle,  capital intensive,  commodity-  sensitive business.** |
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Sincerely,

 

**STEVE SNYDER**

President & Chief Executive Officer

February 26, 2008

 

 

MESSAGE TO SHAREHOLDERS

 

15

 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **Performance  Metrics for a Changing World**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| **Availability and Production**

 

Availability  is a key factor in determining revenue in many of our contracts. Availability  is the percentage of time a generating unit is capable of running, regardless  of whether or not it is generating electricity. As plants need maintenance  and occasionally break down, 100 per cent availability over an extended  period of time is not achievable. Our goal is to achieve top decile  availability in the industry of 92 per cent.

 

Production is also a significant driver of revenue in  certain contracts. Production is the amount of electricity generated and is  measured in gigawatt hours (“GWh”). Our goal is to optimize production through  planned maintenance programs, the use of monitoring programs to minimize  unplanned outages and derates, and generate power from our plants when it is  most economic.

 

**Productivity**

** **

Managing our maintenance and  administration costs is essential to improving the bottom line. Productivity  is measured as operations, maintenance and administration (“OM&A”)  expense per installed megawatt hour (“MWh”). Our goal is to offset the impact  of inflation on OM&A.

 

**Safety**

** **

Safety is a core value at  TransAlta. We take it very seriously and measure ourselves against  industry-wide standards. The Injury Frequency Rate (“IFR”) measures all  fatal, lost time and medical aid injuries. While our ultimate goal is to have  zero injury incidents, we are aggressively targeting a 10 per cent reduction  year over year in our IFR.

 

**Sustaining Capital Expenditures**

 

We are in a long-cycle capital-intensive business that  needs consistent and****stable  capital expenditures. Sustaining capital expenditures are investments made to  maintain our current operations. They include routine and major maintenance  on our plants, equipment for our mines, and investment in our information  systems. Our goal is to make sustaining capital expenditures more predictable  and in line with our long-range plans.

 

**Earnings Per Share and Cash Flow**

** **

Comparable earnings per share (“EPS”) is frequently used to  measure a company’s ongoing profitability. Our target is to generate low  double-digit EPS growth on a comparable basis annually.

 

Cash generated from operations is  used to maintain our equipment, meet our debt repayment obligations, return  capital to shareowners through dividends and share buybacks, and invest in  new capacity. Our goal is to generate cash from operations of $850–$950  million per year.

 

 

**Investment Ratios**

 

Financial strength and flexibility are critical to the  Company’s ability to create value, capitalize on opportunities and manage  industry cyclicality. Our goal is to maintain investment grade credit ratings  and operate the business within established financial ratio ranges. These  ratios include: cash flow to interest, cash flow to total debt, and debt to  invested capital. Credit rating agencies use these ratios when evaluating the  financial strength of the Company.

 

 

 

**Sustainable Long–Term Shareholder Value**

 

We measure returns to our shareholders  and investors in two ways: comparable return on capital employed (“Comparable  ROCE”) and total shareholder return (“TSR”). Comparable ROCE measures the  economic value created from capital investments. TSR is the total amount  returned to investors over a specific holding period and includes capital  gains and dividends. Our goal is to achieve greater than 10 per cent for both  ROCE and TSR. | ** ** | ** ** | ** ** | ** ** | ** ** | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Availability | 89.4 | 89.0 | 87.2 | **90–92** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | (%) |   |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Production | 51,810 | 48,213 | 50,395 | **Optimize** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | (GWh) |   |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | **** | ** ** | ** ** | ** ** | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | OM&A | 8.16 | 7.93 | 7.81 | **Offset** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ($/installed  MWh) | ** ** |   |   | **inflation** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |    |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** |   |   |   | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Injury | 1.41 | 1.96 | 1.76 | **Reduce** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Frequency  Rate | ** ** |   |   | **>10%** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** |   |   |   | **annually** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** | ** ** | ** ** | ** ** | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Sustaining  Capex | 287 | 207 | 371 | **290–325****1** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ($millions) |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | * *

*1 Based on average yearly spend for 2008–2010*

  |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Earnings  per share | 0.82 | 1.16 | 1.31 | **Increase** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | (comparable | ** ** |   |   | **>10%** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | basis) ($) | ** ** |   |   | **annually** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Cash from | 620 | 490 | 847 | **850–950** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | operations |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ($millions) |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **Range** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Cash flow  to | 4.7 | 5.5 | 6.6 | **Minimum** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | interest  (times) | ** ** |   |   | **of  4** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Cash flow  to | 23.0 | 26.2 | 30.7 | **Minimum** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | total debt  (%) | ** ** |   |   | **of  25** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Debt to  invested | 43.9 | 44.5 | 46.8 | **Maximum** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | capital (%) | ** ** |   |   | **of  55** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | ** ** |   |   | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   | **Target** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   | 05 | 06 | 07 | **08–10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Comparable | 7.4 | 9.0 | 9.7 | **>10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ROCE (%) | ** ** |   |   | **annually** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | TSR (%) | 47.6 | 9.2 | 29.0 | **>10** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |   |   | **annually** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** ** |   |   |   |   |

** **

** **

TRANSALTA CORPORATION   Annual Report 2007

** **

16

 

Sustainable

Development

 
| **Committed  to a Sustainable Future**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |   | **Environmental  Sustainability**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| At TransAlta, we see sustainability  as a responsible and pro-active balancing of careful growth, environmental  stewardship, and positive and rewarding relationships with our employees and  the communities near our operations. This approach has positioned the Company  as a leader in sustainable development, a responsibility we take very  seriously.

 

We have  established a pattern of taking action and testing solutions ahead of  regulation. Examples include mercury reduction testing at our Alberta plants,  early and sustained greenhouse gas emissions trading and developing markets  for fly-ash, a by-product of coal combustion.

 

By  voluntarily leading the way, we can share what we learn with policy-makers  and the rest of industry, typically resulting in more workable and practical  answers. TransAlta is a trusted industry advisor to governments and is  involved in emerging regulations across all of our jurisdictions.

 

 

**Economic  Sustainability**

 

During 2007, the Governments of  Canada, Alberta, Ontario, and Washington state each released their  environmental plans to tackle air emissions. TransAlta is working with all  governments to encourage broad, uniform initiatives. We believe a consistent  approach will further environmental achievements and better support communities  and economic growth.

 

The rapidly  evolving regulatory framework has resulted in closer scrutiny of how  companies manage environmental risk. TransAlta’s continued investment grade  rating is one indicator of how the market evaluates our sustainability  efforts.

 

TransAlta’s  total shareholder return in 2007 was 29 per cent. Comparable earnings were up  13 per cent at $1.31 per share compared to $1.16 per share in 2006. Cash flow  increased to $847 million in 2007. We use this cash to maintain our plants,  pay down debt, return capital to shareholders through dividends and share  buybacks, and reinvest in new assets. Over the last 10 years TransAlta has  delivered 140 per cent cumulative total shareholder return; including more  than two billion dollars in dividends. |   | Our emissions reduction strategy  encompasses: investigating emission reduction technologies and improving fuel  usage; technology retrofits for older facilities or in building new plants;  offsets purchasing; and growing our renewables portfolio.

 

Air  emissions associated with generating electricity are a key environmental  issue. We have continually decreased our greenhouse gas emissions intensity  since 2000, and have been leading a major mercury emission reduction project  for the purpose of decreasing our mercury emissions in Alberta by 70 per cent  by 2010. TransAlta’s nitrous dioxide and nitrous oxide emission intensities  have also decreased steadily since 2000. We will continue to aggressively  pursue technologies and operational improvements, knowing that we are leading  change in our industry. 

 

For the  last two years, we have examined a number of options for low carbon power  generation. While we believe that the responsible approach is to continue to  investigate alternative or complementary solutions, we know that we are, and  will continue to be, primarily a thermal power provider. The challenge is to  keep it viable and socially acceptable.

 

We believe  carbon capture and sequestration is a significant part of the solution. Our  intent is to prove the possibilities of carbon capture in Alberta in  conjunction with other industry members and government.

 

 

 

**Social  Sustainability – Workplace Safety and Community Relations**

 

TransAlta’s Environment, Health,  and Safety management system ensures that our safety processes continually  improve and that performance is communicated to the Board level. Our  long-standing environment, health and safety program, Target Zero, guides the  organization toward our goal of zero safety incidents.

 

In 2007, we  succeeded in improving employee safety performance by 50 per cent, achieving  our best safety record ever. We believe this success has been achieved  through increased management commitment and intervention and through  implementing rigorous safety programs, inspections and audits at all of our  facilities. However, our contractor injury frequency rate increased by 17 per  cent. This is a significant |

** **

** **

SUSTAINABLE DEVELOPMENT

** **

17

 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
| *2007 data are estimates based on  best available data at time of report production. For more detail, refer to  the 2007 Report on Sustainability .Total GHG emissions increased from 2006 to  2007 due largely to higher plant availability.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |   |
| concern for us as it is our goal to  keep all of our employees and contractors safe while on our sites. Contractor  safety management is a major focus area as we move forward.

 

Labour  issues continued to be a challenge in 2007, along with an aging workforce. We  will continue to address both of these issues with new strategies for  recruitment, succession planning, and rotational job placement to keep our  people challenged and engaged.

 

Public  consultation is an integral part of our business, as we strive to minimize  our impacts. A stakeholder relations strategy was developed at our Alberta  Thermal operations in 2007, formalizing processes at the heart of our  operations. In New Brunswick, stakeholder consultation for our newest wind  farm, Kent Hills, was instrumental in educating the public and regulators who  had never been exposed to wind generation, and resulted in permits being  issued in a very short nine months.

 

Our  involvement with Aboriginal communities near our operations continued with  funding of elder programming, scholarship programs and targeted community  involvement. We built upon our relationship with the Paul Band near our  Alberta Thermal operations with the funding of a liaison position. We |   | also made considerable progress in  providing awareness to many First Nations of our transmission business  through a Transmission Advisory Committee.

 

Community  investment continues to be a key part of our commitment to sustainable  communities around our operations. Details on our involvement in 2007 are  described on the following page.

 

 

**Looking  Ahead**

 

We are pursuing organic growth  opportunities in the western U.S. and Canada with the goal of establishing a  super-regional, wholesale generation company. We will focus on increasing our  renewables portfolio, and in the short-term pursue wind, natural gas  co-generation, geothermal, and small-scale hydro opportunities. Our early  involvement in offsets trading has become a competitive advantage.

 

 

**TransAlta’s  2007 Report on Sustainability will be released in June 2008 at  www.transalta.com.** |

** **

** **

TRANSALTA CORPORATION   Annual Report 2007

** **

18

 

 

Connectingwith

Communities

** **

** **
| At TransAlta, strengthening  communities where our employees live and work is a commitment we take  seriously. Investing over $5 million in the focus areas of arts and culture,  environment, education, and health and human services, as well as employee  and retiree volunteer time, exemplifies this commitment.

 

Building on  our sustainable business practices, we committed $1.25 million to create the  TransAlta Professor of Environmental Management and Sustainability at the  Institute of Sustainable Energy, Environment and Economy (“ISEEE”) at the  University of Calgary. Former TransAlta Vice-President Sustainable  Development Dr. Bob Page leads innovative research, education, and  outreach as part of this important initiative.

 

We extended  our relationships with existing partners and made significant new  investments, including a $600,000 donation to the Fast Track early childhood  intervention program at Hull Child and Family Services. This school-based  program focuses on changing school cultures and individual behaviours, while  creating additional opportunities for youth and families. We also provided  significant support to The Young Canadians School of Performing Arts through  the Calgary Stampede Foundation, providing continued high-quality |   | training and year-round program  opportunities for students. We also furthered our investment in the TransAlta  Tri-Leisure Centre, a multi-use community health and wellness facility  located near our Alberta Thermal operations.

 

Our  employees and retirees are actively engaged in their communities. When  communities near our Centralia, Washington operations experienced severe  flooding, TransAlta dispatched teams of employees to support rescue and  relief efforts. In less than 11 days, these employees contributed 2,000 hours  to the community along with financial and in-kind donations. The Company  further responded by contributing heavy equipment, warehousing and  distribution expertise, in addition to $50,000 in financial support.

 

Thanks to  employee and retiree commitment to the United Way, TransAlta’s United Way  campaign achieved a new record of over $1.3 million, including a  dollar-for-dollar corporate match. Employees contributed about 14,400 hours  to the community, through volunteer projects like painting seniors’ homes, a  youth camp cleanup, food bank drives, building a school playground and Days  of Caring. Senior executives led by example, providing expertise to community  organizations through the Company’s Executive Connections program. |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|                                                                                                                                                                                                                                                            |  |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--|
| **TRANSALTA’S INVESTMENT**

**in the ISEEE at the University of**

**Calgary is part of our $5 million**

**commitment to communities**

**where our employees live and work.**

** **

** **

CONNECTING WITH  COMMUNITIES

** **

19 |

 

Message from

the Chair

 

 

 

| ** **

** **

** **                                           | ** ** |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               | **** |
|------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------|
| **DONNA SOBLE**

** **

**KAUFMAN**

** **

**Chair of the Board** |
| ** **                                                                   |
| ** **                                                                   |       | In  2007, TransAlta continued to execute on its plan and deliver value to our  shareowners. It was a good year for your Company and we are pleased to report  record results in several key areas. This reflects our continued focus on  consistent, long-term value for our shareowners. I believe it also reflects  the hard work and dedication of TransAlta’s employees.                                                                                                                  |
| ** **                                                                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                   |       | Our industry is experiencing a period of unprecedented  change. We are seeing increasing financial turbulence, varying commodity  cycles and fundamental shifts in environmental legislation and regulatory  frameworks.                                                                                                                                                                                                                                                                           |
| ** **                                                                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                   |       | **Your Company is Ready**                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** **                                                                   |       | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| ** **                                                                   |       | We  are ready to weather this change because we have continued to focus on  maintaining our strong balance sheet while striking an effective balance  between dividend growth, share buybacks, and capital investment. We also have  a strategy fully supported by your Board to continue to create shareowner  value, by capitalizing on TransAlta’s resources and proven skills to become a  super-regional, wholesale power company.                                                       |
| ** **                                                                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                   |       | TransAlta is ready because we have continued to invest in  new and innovative technologies, and we have continued to champion  sustainable development. We are proud that leading organizations like the  Carbon Disclosure Project have recognized our efforts. In 2007, it selected  TransAlta as one of 16 Canadian companies highlighted for proactively  addressing the challenges posed by climate change. It ranked TransAlta third  of 200 in a survey of Canada’s largest companies. |
| ** **                                                                   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                   |       | Finally, our commitment to an ethical culture and strong  corporate governance provides us with a solid foundation to operate from,  which is critically important in the face of increasing change and industry-wide  instability. On this front, TransAlta is not only keeping pace with Canada’s  rising governance standards, we are continuing to lead the way. For example,  in the area of compensation we have                                                                        |

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

20

 

| been recognized by  the *Globe & Mail*newspaper for  being among the first to adopt share ownership instead of options as the most  responsible manner to align management incentives with shareowner interests.  And, for the sixth consecutive year, the newspaper recognized TransAlta as  one of the best-governed corporations in Canada, and the top company in the  utilities sector for corporate governance. In the past, we’ve also been  awarded an AAA rating for corporate governance from the Clarkson Centre for  Business Ethics and Board Effectiveness. |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
| Your  Company is recognized for having a highly independent Board of Directors with  an effective combination of skill and expertise. Our directors have broad  experience in the energy industry, finance, risk management, operations, law  and current oversight practices. This knowledge base, together with the  expertise of our management team, has resulted in the structures and  processes that provide the transparency our investors expect.                                                                                                                              |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
| In  the years to come, we will continue to make investments in sustainability and  focus on governance initiatives, not just because it is the “right” thing to  do, but because it makes good business sense. Over the past several years,  this has become a consistent theme in Board discussions with our management  team. Building a sustainable company that continually drives toward long-term  growth for our shareowners is inherent in our governance model.                                                                                                      |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
| Our  commitment to our shareowners is to deliver a strong, sustainable yield with  a low-to-moderate risk profile. Along with our management team, we have  always taken a long-term approach to our business. We recognize that you, our  shareowners, entrust this duty to us and we are determined to continue to earn  that trust.                                                                                                                                                                                                                                                  |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
| After  a record year in 2007, we have turned our attention to 2008 and beyond, with  your interests foremost in our minds.                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   |
| Thank  you for placing your confidence in us.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |

 

**DONNA SOBLE KAUFMAN**

** **

Chair of the Board

 

February 26, 2008

 

 

MESSAGE FROM THECHAIR

** **

21

 

| ** **

**BOARD OF**

** **

**DIRECTORS**

** **

(left to right)

 

Gordon Giffin,

 

Kent Jespersen,

 

Luis Vázquez Senties,

 

Tim Faithfull,

 

Martha Piper,

 

Steve Snyder,

 

Stanley Bright,

 

Donna Soble Kaufman,

 

Bill Anderson,

 

Michael Kanovsky,

 

Gordon Lackenbauer

** ** |   | ****                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
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| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | **WILLIAM D. ANDERSON***Corporate Director* Mr. Anderson was President of BCE  Ventures (a subsidiary of BCE Inc.) from 2005 and prior to that, the CFO of  BCE Inc. and of Bell Cablemedia plc. As President of BCE Ventures he was  responsible for a number of significant operating companies as well as being  CEO of Bell Canada International Inc. In his CFO roles, Mr. Anderson was  responsible for all financial operations of the respective companies and he  executed numerous debt and equity financings, corporate acquisition and  disposition transactions as well as corporate and operational restructurings.                                                                                                                                                                                                                                                                     |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | Mr. Anderson is a director of Gildan Activewear Inc.  and of MDS Inc. He is a past director at BCE Emergis Inc., Bell Cablemedia  plc, Bell Canada International Inc., CGI Group Inc., Four Seasons Hotels  Inc., Sears Canada Inc., and Videotron Holdings plc. At TransAlta,  Mr. Anderson is Chair of the Audit and Risk Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | Mr. Anderson holds a bachelor’s degree in business  administration from the University of Western Ontario (London, ON), and is a  Chartered Accountant.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | **STANLEY J. BRIGHT***Corporate Director* Mr. Bright was President, CEO, and  Chairman of MidAmerican Energy Holdings Company from 1997 to 1999. He was  also President, CEO, and Chairman, and CEO, of predecessor companies,  including the Iowa-Illinois Gas & Electric Company (“IIG&E”),  from 1991 to 1997. As the CEO of IIG&E, Mr. Bright led the consolidation  of a number of Midwest utilities in anticipation of emerging market  competition, giving rise to the creation of MidAmerican. As the President,  CEO, and Chairman of the new entity, Mr. Bright led the realization of  significant synergies while working through the post-merger transition. The  company also structured a long-term rate plan with the Iowa Public Service  Commission. Mr. Bright retired as CEO of MidAmerican in 1999 but  continued as a director until 2006. |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | At TransAlta, Mr. Bright is Chair of the Human Resources  Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | Mr. Bright holds a bachelor’s degree in accounting  from The George Washington University (Washington, DC), and is a Certified  Public Accountant.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | **TIMOTHY W. FAITHFULL***Corporate Director* Mr. Faithfull is a 36-year veteran  of Royal Dutch/Shell plc, where he filled diverse roles that spanned the  globe. As President and CEO of Shell Canada Limited, he was responsible for  bringing the $6 billion Athabasca Oil Sands Project on line, the first fully  integrated oil sands venture in 25 years. Mr. Faithfull has extensive  experience with commodity exposure and risk management, the result of his  time directing the global crude oil trading operation for the Shell  International Trading and Shipping Company from 1993 to 1996.                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | Mr. Faithful is a director of Canadian Pacific  Railway Limited, the Shell Pension Trust Limited, and AMEC plc. At TransAlta,  Mr. Faithfull is a member of the Audit and Risk Committee and the Human  Resources Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| ** **                                                                                                                                                                                                                                                                                                                                                                                    |   | Mr. Faithfull holds a bachelor’s of arts degree in  economics from the University of Oxford (Oxford, UK).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

22

 

| **GORDON D. GIFFIN***Corporate Director, Lawyer and Senior Partner, McKenna,  Long & Aldridge LLP*. From 1997 to 2001, Ambassador Giffin  served as the United States Ambassador to Canada with responsibility for  managing Canada/U.S. bilateral relations, including energy and environmental  policy. Prior to this appointment, he practiced law for 18 years as a senior  partner in Atlanta, GA and Washington, DC. His practice focused on energy  regulatory work at the state and federal level. He previously served as Chief  Council and Legislative Director to U.S. Senator Sam Nunn, with responsibility  to manage the legal and legislative operations of the office. In 2001, he  returned to private practice where he specializes in state and federal  regulatory matters, including those related to trade, energy and trans-border  commerce. |   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |
| He  is a director of AbitibiBowater, Canadian Imperial Bank of Commerce, Canadian  National Railway Company, Canadian Natural Resources Limited, and Ontario  Energy Savings Ltd. At TransAlta, Ambassador Giffin is Chair of the  Governance and Environment Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| Ambassador  Giffin holds a bachelor of arts from Duke University (Durham, NC) and a juris  doctorate from Emory University School of Law (Atlanta, GA).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| **C. KENT JESPERSEN***Corporate Director and Chair and CEO of LaJolla Resources  International Ltd*. He also has held senior executive positions  with NOVA Corporation of Alberta, Foothills Pipe Lines Ltd., and Husky Oil  Limited before assuming the presidency of Foothills Pipe Lines Ltd. and  later, NOVA Gas International Ltd. At NOVA, he led the non-regulated energy  services business (including energy trading and marketing) and all  international activities.                                                                                                                                                                                                                                                                                                                                                                                              |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |
| Mr. Jespersen  is the Chairman and a director of Orvana Minerals Ltd. and CCR Technologies  Ltd., and a director of Matrikon Inc. and of Axia NetMedia Corporation. At  TransAlta, Mr. Jespersen is a member of the Governance and Environment  Committee and the Human Resources Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| Mr. Jespersen  holds a bachelor of science in education and a master of science in education  from the University of Oregon (Eugene, OR).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| **MICHAEL M. KANOVSKY***Corporate Director and Independent Businessman* He  co-founded Northstar Energy with initial capital of $400,000 and helped build  this entity into an oil and gas producer that was sold to Devon Energy for  approximately $600 million in 1998. During this period, Mr. Kanovsky was  responsible for strategy and finance, as well as merger and acquisition  activity. He initiated Northstar’s entry into electrical co-generation  through its wholly owned power subsidiary, Powerlink Corporation. Powerlink  developed one of the first independent power producer (“IPP”) gas-fired  co-generation plants in Ontario and also internationally. In 1997, he founded  Bonavista Energy, which has grown to a present-day market cap of  approximately $6 billion.                                                         |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |
| Mr. Kanovsky  is a director of Accrete Energy Corporation, ARC Energy Trust, Devon Energy  Corporation, Bonavista Energy Trust, and Pure Technologies Inc. At TransAlta,  he is a member of the Audit and Risk Committee and the Governance and  Environment Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| Mr. Kanovsky,  a professional engineer, holds a bachelor of science in mechanical  engineering from Queen’s University (Kingston, ON) as well as a master of  business administration from the Ivey School of Business at the University of  Western Ontario (London, ON).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| **DONNA SOBLE KAUFMAN***Lawyer and Corporate Director* Mrs. Kaufman is a  former partner with Stikeman Elliott, an international law firm, where she  practiced antitrust law. She has served on a number of boards since 1987,  when she became a director of Selkirk Communications Limited, a diversified  communications company. A year later she was appointed Chair of the Board and  President and CEO. Several other directorships followed. In addition to  TransAlta, Mrs. Kaufman currently serves on the boards of BCE Inc. and  Bell Canada. She is also a director of HISTOR!CA, a private sector education  initiative, and a member of the Canadian Advisory Board of Catalyst, a  non-profit organization working to advance women in business.                                                                                                    |   |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |
| At  TransAlta, Mrs. Kaufman is the Chair of the Board of the Company and an  ex-officio member of all committees of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| Mrs. Kaufman  holds a Bachelor of Civil Law degree from McGill University, Montreal, and a  Master of Laws degree from the Université de Montréal.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |

 

 

BOARD OF DIRECTORS

** **

23

 

| ** ** |   | **GORDON S. LACKENBAUER***Corporate Director* Mr. Lackenbauer was Deputy  Chairman of BMO Nesbitt Burns Inc. from 1990 to 2004. Prior to this, he was  responsible for the principal activities of the firm, which included fixed  income sales and trading, equity and debt, new issue underwriting and  syndication. Mr. Lackenbauer has worked with many of Canada’s leading  utilities and has frequently acted as an expert financial witness testifying  on the cost of capital, capital structure, and the fair rate of return before  the Alberta Utilities Commission (then the APUB), the National Energy Board,  and the Ontario Energy Board. His clients included Alberta Power (now ATCO  Electric), Consumers’ Gas IPL (now Enbridge), and TransCanada PipeLines,  among others. |
|------------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** ** |   | Mr. Lackenbauer  is a director of NAL Oil & Gas Trust, CTVglobemedia Inc., and is a  Governor of Mount Royal College. He was a director of Tembec Inc., until  August 2007. At TransAlta, he is a member of the Audit and Risk  Committee and the Governance and Environment Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | Mr. Lackenbauer  holds a bachelor of arts in economics from Loyola College (Montreal, QC), as  well as a master of business administration from the University of Western  Ontario (London, ON). He is also a Chartered Financial Analyst.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | **MARTHA C. PIPER***Corporate Director* Dr. Piper was President and  Vice-Chancellor of the University of British Columbia from 1997 to 2006.  Prior to her appointment at the University of British Columbia, she served as  Vice-President, Research at the University of Alberta. She served on the  Boards of the Alberta Research Council, the Conference Board of Canada, and  the Centre for Frontier Engineering Research. Dr. Piper was also  appointed by the Prime Minister of Canada to the Advisory Council on Science  and Technology, and she served as a member of the Canada Foundation for  Innovation.                                                                                                                                                                                 |
| ** ** |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** ** |   | Dr. Piper  is a director of the Bank of Montreal and of Shoppers Drug Mart Corporation,  and is a member of the Canadian delegation to the Trilateral Commission, an  organization fostering closer cooperation among the core democratic  industrialized areas of the world. At TransAlta, Dr. Piper is a member  of the Human Resources Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | Dr. Piper  holds a bachelor of science in physical therapy from the University of  Michigan (Ann Arbor, MI), a master of arts in child development from the  University of Connecticut (Storrs, CT), and a doctorate of philosophy in  epidemiology and biostatistics from McGill University (Montreal, QC). She has  received honourary degrees from 15 international universities. She is an  Officer of the Order of Canada and a recipient of the Order of British  Columbia.                                                                                                                                                                                                                                                                                                                              |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | **LUIS VÁZQUEZ SENTIES***Corporate Director and Independent**Businessman*  Mr. Vázquez is founder, President, CEO, and Chairman of Grupo Diavaz, an  international constructor of offshore oil and gas platforms, developer of oil  and gas fields, and a distributor of natural gas in Mexico. Grupo Diavaz  began as a Mexican underwater diving operation that grew to become the  world’s second largest firm of its kind, servicing the offshore oil and gas  industry in both exploration and production efforts.                                                                                                                                                                                                                                                                         |
| ** ** |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** ** |   | Mr. Vázquez  is Chairman of the Mexican Gas Association and vice-president of the Mexico  chapter of the World Energy Council. He is past director of the American Gas  Association. At TransAlta, Mr. Vázquez is a member of the Human  Resources Committee of the Board.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | **STEPHEN G. SNYDER***Director, President and Chief Executive Officer**of**TransAlta Corporation**since 1996.* Mr. Snyder guided  TransAlta through its evolution from an Alberta-focused, regulated utility to  an international power generator. Prior to joining TransAlta, Mr. Snyder  held several CEO posts, namely with Camco Inc. (a subsidiary GE Canada Inc.),  and Noma Industries Limited. While at GE, Mr. Snyder led the  transformation of GE’s Canadian-based businesses into global competitors. At  Noma, he built a deeply rooted Canadian consumer products manufacturer into a  North American industrial products company.                                                                                                                                                |
| ** ** |   | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
| ** ** |   | Mr. Snyder  is a director of the Canadian Imperial Bank of Commerce and Chair of the  Calgary Stampede Foundation. He is Chair of the Alberta Secretariat to End  Homelessness. He is the past-chair of the Calgary Committee to End  Homelessness, the Canada-Alberta ecoEnergy Carbon Capture & Storage  Task Force, and of the Conference Board of Canada.                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| ** ** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| ** ** |   | Mr. Snyder  holds a bachelor of science in chemical engineering from Queen’s University  (Kingston, ON) as well as a master of business administration from the  University of Western Ontario (London, ON).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |

 

 

TRANSALTA CORPORATION     Annual Report 2007

 

24

 

| TransAlta’s directors are  experienced senior business leaders bringing a broad mix of skills in the  electricity sector, finance, law, government, regulatory and corporate  governance. On behalf of TransAlta’s shareholders, the Board of Directors is  responsible for the stewardship of the Corporation, establishing overall  policies and standards and reviewing strategic plans. In 2007, the directors  met on 17 occasions, including one special meeting devoted exclusively to  TransAlta’s corporate strategy and direction.

 

After a detailed examination of the  relationships between each of the directors and TransAlta, the Board  determined that 10 of the existing 11 board members are independent,  excluding only Stephen Snyder, President and CEO of the Company. All of the  members of each of the committees of the Board are independent. In 2007, the  Board had three committees, which are briefly described below. Further  detailed information with respect to TransAlta’s approach to corporate  governance is contained in the 2007 Management Proxy Circular. | ** ** | ** **

**CORPORATE**

** **

**GOVERNANCE** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |       |                                                  |
| **AUDIT AND RISK COMMITTEE**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |       |                                                  |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |       |                                                  |
| The Committee provides oversight  relating to the integrity of the Corporation’s financial statements, the  financial reporting process, the systems of internal accounting and financial  controls, the risk identification assessment conducted by management and the  programs established by management and the Board in response to such  assessment, the internal audit function and the external auditors’ qualifications,  independence, performance, and reports. This committee met nine times in  2007. Committee chair: William D. Anderson. Members: Timothy W. Faithfull,  Michael M. Kanovsky, Gordon S. Lackenbauer, and Donna Soble Kaufman (as an  ex-officio member).                                                                                                                                                                                                                                                                                                                                                                                                                                   |       |                                                  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |       |                                                  |
| **GOVERNANCE AND ENVIRONMENT COMMITTEE**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |       |                                                  |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |       |                                                  |
| The mandate of the Committee is to  identify and recommend individuals to the Board for nomination as members of  the Board and to develop and recommend to the Board a set of corporate  governance principles applicable to the Corporation and to monitor compliance  therewith. The Committee also provides oversight responsibilities with  respect to environmental, health and safety practices, procedures and  policies as established by management in relation to required  legal/regulatory and industry standards or best practices. This committee met  six times in 2007. Committee chair: Ambassador Gordon D. Giffin. Members: C.  Kent Jespersen, Michael M. Kanovsky, Gordon S. Lackenbauer, Dr. Martha  C. Piper, and Donna Soble Kaufman (as an ex-officio member).                                                                                                                                                                                                                                                                                                                                        |       |                                                  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |       |                                                  |
| **HUMAN RESOURCES COMMITTEE**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |       |                                                  |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |       |                                                  |
| The Committee is responsible for  reviewing and approving key compensation and human resource policies for the  Corporation. Specifically, the committee is responsible for reviewing the Company’s  key human resources strategies, its equity-based and other compensation  programs, and for recommending to the Board the compensation of the  Corporation’s executives. The committee also reviews and approves the  succession management and development plan for key employees. This committee  met six times in 2007. Committee chair: Stanley J. Bright. Members: Timothy  W. Faithfull, C. Kent Jespersen, Dr. Martha C. Piper, Luis Vázquez  Senties, and Donna Soble Kaufman (as an ex-officio member).                                                                                                                                                                                                                                                                                                                                                                                             |       |                                                  |

 

 

CORPORATEGOVERNANCE

** **

25

** **

**Plant Summary**

 
| ** ** | ** **         | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                 | ** ** | ** **         | ** ** | ** **                                                                                                                                                                                                              | ** ** | ** **                                 | ** ** | ** ** | ** ** | ** ** | ** **                           | ** ** | ** **                     |
|------------|--------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|------------|------------|------------|--------------------------------------|------------|--------------------------------|
| ** ** | **Region**         | ** ** | **Facility**                                                                                                                                                                                                                                                                                                                                               | ** ** | **Capacity  (MW)** | ** ** | **Ownership  (%)**                                                                                                                                                                                                      | ****       | **Net capacity  ownership  interest** | ** ** | **Fuel**   | ** ** | ** ** | **Revenue  source**                  | ** ** | **Contract  expiry date** | ** ** |
| ** ** | **CANADA**         |       | Keephills                                                                                                                                                                                                                                                                                                                                                  |       | 766                |       | 100                                                                                                                                                                                                                     |       | 766                                        |       | Coal       |       |       | Alberta PPA                     |       | 2020                           |   |
| ** ** | **ALBERTA**        |       | Sheerness                                                                                                                                                                                                                                                                                                                                                  |       | 780                |       | 25                                                                                                                                                                                                                      |       | 195                                        |       | Coal       |       |       | Alberta PPA                          |       | 2020                           |   |
|       | 25 facilities      |       | Sundance                                                                                                                                                                                                                                                                                                                                                   |       | 2,073              |       | 100                                                                                                                                                                                                                     |       | 2,073                                      |       | Coal       |       |       | Alberta PPA                          |       | 2017, 2020                     |   |
|       |               |       | Wabamun 1                                                                                                                                                                                                                                                                                                                                                  |       | 279                |       | 100                                                                                                                                                                                                                     |       | 279                                        |       | Coal       |       |       | Merchant                             |       | –                         |   |
|       |               |       | Genesee 3                                                                                                                                                                                                                                                                                                                                                  |       | 450                |       | 50                                                                                                                                                                                                                      |       | 225                                        |       | Coal       |       |       | Merchant                             |       | –                         |   |
|       |               |       | Keephills 3 2                                                                                                                                                                                                                                                                                                                                              |       | 450                |       | 50                                                                                                                                                                                                                      |       | 225                                        |       | Coal       |       |       | Merchant                             |       | –                         |   |
|       |               |       | Fort Saskatchewan                                                                                                                                                                                                                                                                                                                                          |       | 118                |       | 30                                                                                                                                                                                                                      |       | 35                                         |       | Gas        |       |       | Long-term contract (“LTC”) |       | 2019                           |   |
|       |               |       | Meridian                                                                                                                                                                                                                                                                                                                                                   |       | 220                |       | 25                                                                                                                                                                                                                      |       | 55                                         |       | Gas        |       |       | LTC                                  |       | 2024                           |   |
|       |               |       | Poplar Creek                                                                                                                                                                                                                                                                                                                                               |       | 356                |       | 100                                                                                                                                                                                                                     |       | 356                                        |       | Gas        |       |       | LTC/Merchant                         |       | 2024                           |   |
|       |               |       | Hydro assets 3                                                                                                                                                                                                                                                                                                                                             |       | 801                |       | 100                                                                                                                                                                                                                     |       | 801                                        |       | Hydro      |       |       | Alberta PPA                          |       | 2013–2020                 |   |
|       |               |       | Summerview 4                                                                                                                                                                                                                                                                                                                                          |       | 70                 |       | 100                                                                                                                                                                                                                     |       | 70                                         |       | Wind       |       |       | Merchant                             |       | –                         |   |
|       |               |       | Castle River 5                                                                                                                                                                                                                                                                                                                                             |       | 46                 |       | 100                                                                                                                                                                                                                     |       | 46                                         |       | Wind       |       |       | LTC/Merchant                         |       | 2011                           |   |
|       |               |       | McBride Lake                                                                                                                                                                                                                                                                                                                                               |       | 76                 |       | 50                                                                                                                                                                                                                      |       | 38                                         |       | Wind       |       |       | LTC                                  |       | 2024                           |   |
|       |               |       | Blue Trail 2                                                                                                                                                                                                                                                                                                                                               |       | 66                 |       | 100                                                                                                                                                                                                                     |       | 66                                         |       | Wind       |       |       | Merchant                             |       | –                         |   |
| ** ** | ** **         | ** ** | **TOTAL ALBERTA**                                                                                                                                                                                                                                                                                                                                          | ** ** | **6,551**          | ** ** | ** **                                                                                                                                                                                                              |       | **5,230**                                  |       |       |       |       |                                 |       |                           |
| ** ** | **EASTERN CANADA** |       | Mississauga                                                                                                                                                                                                                                                                                                                                                |       | 108                |       | 50                                                                                                                                                                                                                      |       | 54                                         |       | Gas        |       |       | LTC                                  |       | 2017                           |   |
|       | 5 facilities       |       | Ottawa                                                                                                                                                                                                                                                                                                                                                     |       | 68                 |       | 50                                                                                                                                                                                                                      |       | 34                                         |       | Gas        |       |       | LTC                                  |       | 2012                           |   |
|       |               |       | Sarnia                                                                                                                                                                                                                                                                                                                                                     |       | 575                |       | 100                                                                                                                                                                                                                     |       | 575                                        |       | Gas        |       |       | LTC/Merchant                         |       | 2022                           |   |
|       |               |       | Windsor                                                                                                                                                                                                                                                                                                                                                    |       | 68                 |       | 50                                                                                                                                                                                                                      |       | 34                                         |       | Gas        |       |       | LTC/Merchant                         |       | 2016                           |   |
|       |               |       | Kent Hills 2                                                                                                                                                                                                                                                                                                                                               |       | 96                 |       | 100                                                                                                                                                                                                                     |       | 96                                         |       | Wind       |       |       | PPA                                  |       | 2033                           |   |
| ** ** | ** **         | ** ** | **TOTAL EASTERN CANADA**                                                                                                                                                                                                                                                                                                                                   | ** ** | **915**            |       |                                                                                                                                                                                                                    |       | **793**                                    |       |       |       |       |                                 |       |                           |   |
| ** ** | **UNITED STATES**  |       | Centralia, WA                                                                                                                                                                                                                                                                                                                                              |       | 1,404              |       | 100                                                                                                                                                                                                                     |       | 1,404                                      |       | Coal       |       |       | Merchant                             |       | –                         |   |
|       | 18 facilities      |       | Centralia Gas                                                                                                                                                                                                                                                                                                                                              |       | 248                |       | 100                                                                                                                                                                                                                     |       | 248                                        |       | Gas        |       |       | Merchant                             |       | –                         |   |
|       |               |       | Power Resources, TX                                                                                                                                                                                                                                                                                                                                        |       | 212                |       | 50                                                                                                                                                                                                                      |       | 106                                        |       | Gas        |       |       | Merchant                             |       | –                         |   |
|       |               |       | Saranac, NY                                                                                                                                                                                                                                                                                                                                                |       | 240                |       | 37.5                                                                                                                                                                                                                    |       | 90                                         |       | Gas        |       |       | LTC                                  |       | 2009                           |   |
|       |               |       | Yuma, AZ                                                                                                                                                                                                                                                                                                                                                   |       | 50                 |       | 50                                                                                                                                                                                                                      |       | 25                                         |       | Gas        |       |       | LTC                                  |       | 2024                           |   |
|       |               |       | Imperial Valley   geothermal facilities 6                                                                                                                                                                                                                                                                                                                  |       | 327                |       | 50                                                                                                                                                                                                                      |       | 164                                        |       | Geothermal |       |       | LTC /Merchant                        |       | 2016–2035                 |   |
|       |               |       | Skookumchuk, WA                                                                                                                                                                                                                                                                                                                                            |       | 1                  |       | 100                                                                                                                                                                                                                     |       | 1                                          |       | Hydro      |       |       | –                               |       | –                         |   |
|       |               |       | Wailuku                                                                                                                                                                                                                                                                                                                                                    |       | 10                 |       | 50                                                                                                                                                                                                                      |       | 5                                          |       | Hydro      |       |       | LTC                                  |       | 2023                           |   |
| ** ** | ** **         | ** ** | **TOTAL U.S.**                                                                                                                                                                                                                                                                                                                                             | ** ** | **2,492**          | ** ** | ** **                                                                                                                                                                                                              |       | **2,043**                                  |       |       |       |       |                                 |       |                           |   |
| ** ** | **MEXICO ***       |       | Campeche                                                                                                                                                                                                                                                                                                                                                   |       | 252                |       | 100                                                                                                                                                                                                                     |       | 252                                        |       | Gas/Diesel |       |       | LTC                                  |       | 2028                           |   |
|       | 2 facilities       |       | Chihuahua                                                                                                                                                                                                                                                                                                                                                  |       | 259                |       | 100                                                                                                                                                                                                                     |       | 259                                        |       | Gas        |       |       | LTC                                  |       | 2028                           |   |
| ** ** | ** **         | ** ** | **TOTAL MEXICO**                                                                                                                                                                                                                                                                                                                                           | ** ** | **511**            | ** ** | ** **                                                                                                                                                                                                              |       | **511**                                    |       |       |       |       |                                 |       |                           |   |
| ** ** | **AUSTRALIA**      |       | Parkeston                                                                                                                                                                                                                                                                                                                                                  |       | 110                |       | 50                                                                                                                                                                                                                      |       | 55                                         |       | Gas        |       |       | LTC                                  |       | 2016                           |   |
|       | 5 facilities       |       | Southern Cross 7                                                                                                                                                                                                                                                                                                                                      |       | 245                |       | 100                                                                                                                                                                                                                     |       | 245                                        |       | Gas/Diesel |       |       | LTC                                  |       | 2016                           |   |
| ** ** | ** **         | ** ** | **TOTAL AUSTRALIA**                                                                                                                                                                                                                                                                                                                                        | ** ** | **355**            | ** ** | ** **                                                                                                                                                                                                              |       | **300**                                    |       |       |       |       |                                 |       |                           |   |
| ** ** | **TOTAL**          | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                 | ** ** | **10,824**         |       |                                                                                                                                                                                                                    |       | **8,877**                                  |       |       |       |       |                                 |       |                           |   |
| ** ** | ** **         | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                 | ** ** | ** **         |       |                                                                                                                                                                                                                    |       | ** **                                 |       |       |       |       |                                 |       |                           |
| ** ** | ** **         | ** ** | *1  To be retired in 2010.*

*2  These facilities are currently under  development.*

*3  Comprised of 13 facilities.*

*4  Comprised of 2 facilities.*

*5  Includes 7 individual turbines at  other locations.*

*6  Comprised of 10 facilities.*

*7  Comprised of 4 facilities.* |       | ** **         |       | **  On February 20, 2008 TransAlta announced the sale  of its Mexican business (511 MW gas-fired plants). The sale is subject to  regulatory approvals.*

* *

* *

*As of February 26, 2008.* |       |
|            |                    |            |                                                                                                                                                                                                                                                                                                                                                            |            |                    |            |                                                                                                                                                                                                                         |            |                                            |            |            |            |            |                                      |            |                                |  |  |  |  |

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

26

 

Management’sDiscussion

and Analysis

 

 

 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **

**28**Performance  Metrics**29**Business  Environment**31**Results  of Operations**32**Reported  Earnings**33**Significant  Events**37**Subsequent  Events**37 **Discussion of Segmented Results**44**Financial  Position**45**Financial  Instruments**49**Statements  of Cash Flows**50**Liquidity and Capital Resources**52**Climate Change and Air Emissions**53**2008  Outlook**55**Risk  Management**62**Critical Accounting Policies and Estimates**65**Future  Accounting Changes**66**Non-GAAP  Measures                                                                                                                                                                                                                                                                             |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| This management’s discussion and  analysis (“MD&A”) should be read in conjunction with the consolidated  financial statements included in this Annual Report. The consolidated  financial statements have been prepared in accordance with Canadian generally  accepted accounting principles (“GAAP”). All dollar amounts in the following  discussion including the tables are in millions of Canadian dollars unless otherwise  noted. This MD&A is dated Feb. 26, 2008. Additional information  respecting TransAlta Corporation (“TransAlta”, “we”, “our”, “us”, or the  “Corporation”), including its annual information form, is available on SEDAR  at www.sedar.com and on our website at www.transalta.com. |

 

 

MANAGEMENT’SDISCUSSION AND ANALYSIS

 

27

 

|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | **Performance Metrics**

** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------|
| * *                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    | *We are a wholesale power  generator and marketer focused on the western regions of Canada and the  United States. We own, operate, and manage a highly contracted and  geographically diversified portfolio of assets and have expertise in  generation fuels including coal, natural gas, hydro, and renewable energy.*

* *

*We have key measures  that, in our opinion, are critical to meeting our goals. These measures,  which include a mix of operational, risk management, and financial metrics,  are discussed below.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | ** **

** **

**Availability**

** **

Our plants must be available  throughout the year at all times to meet demand. However, this ability to meet  demand is limited by the requirement to shut down for planned maintenance and  unplanned outages, and reduced production as a result of derates. Our goal is  to minimize these events through regular assessments of our equipment and a  comprehensive review of our maintenance plans. Over the past three years we  have achieved an average availability of 88.5 per cent, which is in line with  our long-term target between 90 and 92 per cent availability. Our  availability in 2007 was 90.5 per cent after adjusting for derates at  Centralia Thermal.

** **

** **

**Production**

 

Production is a significant driver  of revenue in certain of our contracts and in our ability to capture market  opportunities. Our goal is to optimize production through planned maintenance  programs and the use of monitoring programs to minimize unplanned outages and  derates. We combine these programs with our monitoring of market prices to  optimize our results under both our contracts and in our merchant facilities.

 

For the year ended Dec. 31,  2007, production increased 2,182 GWh due to higher production at Centralia  Thermal and lower planned outages and increased market demand at Sarnia  partially offset by higher unplanned outages at Alberta Thermal.

** **

** **

**Productivity**

 

Our operations, maintenance, and  administration (“OM&A”) costs reflect the operating cost of our  facilities. These costs can fluctuate due to the timing and nature of planned  maintenance activities. The remainder of OM&A costs reflect the cost of  day-to-day operations. Our target is to absorb the impact of inflation in our  recurring operating costs as much as possible through cost control and  targeted productivity initiatives. We measure our ability to maintain  productivity on OM&A based on the cost per installed megawatt-hour  (“MWh”) of capacity which has declined over the past three years.

 

OM&A  costs have decreased over the last three years primarily due to reduced  operational spending across the Generation fleet and general cost reductions,  partially offset by the impact of the economic dispatch at Centralia Thermal  in the second quarter of 2006, increased investment in our technological  infrastructure, and higher stock compensation costs.

 

 

**Safety**

 

Safety  is a top priority with all our staff, contractors and visitors. Our goal is  to improve safety by 10 per cent each year and our ultimate target is for no  incidents to occur.

* * |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | **2005**                            | **2006** | **2007** | **Target 2008–2010** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | Injury Frequency  Rate (“IFR”)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           | **1.41**                            | **1.96** | **1.76** | Reduce >10% annually | ** ** |
| ** **

** **

**Sustaining  Capital Expenditures**

 

We  are in a long-cycle capital-intensive business that needs consistent and  stable capital expenditures.

 

In  2007, we spent $293 million on routine and mine capital and $78 million on  planned maintenance. In 2006, we spent $123 million on routine and mine  capital and $84 million on planned maintenance.

 

Our  annual target for sustaining capital expenditures for the years 2009 and 2010  is approximately $230 to $260 million. In 2008, this spend is approximately  $420 to $460 million due to equipment modifications at Centralia Thermal,  investments in our mining operations, and productivity initiatives. These  investments will result in improvements in reliability, heat rate,  efficiency, and lower materials and labour costs. The projects are expected  to pay back over the next two years. We expect to return to normal routine  capital expenditure levels in 2010. We seek to reach these targets through  focused planning, sound investment decisions, and solid execution against  those plans.

 

 

**Earnings  and Cash Flow**

 

We  focus our base business on delivering strong earnings and cash flow growth.  Comparable earnings per share1 are targeted to increase in the low  double-digit range per year with operating cash flows targeted between  approximately $850 and $950 million. |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | **2005**                            | **2006** | 2007 | **2008-2010** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | Earnings  per share (comparable basis)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | **0.82**                            | **1.16** | **1.31** | Low  double-digit growth | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | Cash from  operating activities ($ millions)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | **620**                             | **490** | **847** | 850-950 | ** ** |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | ** **                          | ** ** | ** ** | ** ** | ** ** |
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TRANSALTA CORPORATION  Annual Report 2007

 

28

 

In 2007, earnings pershare on a comparable basis increased 13 per cent to $1.31 due to favourablepricing, higher production, and lower coal costs at Centralia Thermal,partially offset by higher unplanned outages at Alberta Thermal.

 

In 2006, earnings pershare on a comparable basis increased to $1.16 due to incremental productionfrom the addition of Genesee 3 and higher pricing in Alberta and at CentraliaThermal, partially offset by lower production at Centralia Thermal, higher coalcosts, and lower hydro production.

 

In 2007, cash flow fromoperating activities increased $357 million mainly due to higher cash earnings,and receiving 12 months of contractually scheduled payments in 2007, comparedto 11 in 2006.

 

In 2006, cash flow fromoperating activities decreased $130 million due to the timing of collection ofreceivables amounting to $185 million, partially offset by higher cashearnings. These accounts receivable balances in respect of November 2006revenues were contractually scheduled to be paid, and were received, onJan. 2, 2007. In 2005, the November contractually scheduled paymentswere received on Dec. 30, 2005.

 

**Investment Ratios**

Investment grade ratingssupport contracting activities and provide better access to capital marketsthrough commodity and credit cycles.  Weare focused on maintaining a strong balance sheet and stable investment gradecredit ratings. Our objective is to maintain a cash flow to interest ratio ofat least 4 times, a cash flow to debt ratio of at least 25 per cent, and a debtto invested capital ratio of at most 55 per cent.

 

At Dec. 31, 2007,our total debt (including non-recourse debt) to invested capital was 46.8 percent (44.2 per cent excluding non-recourse debt) compared to the Dec. 31,2006 ratio of 44.5 per cent and Dec. 31, 2005 ratio of 43.9 per cent. Cashflow to interest increased to 6.6 times compared to 5.5 times in 2006 and 4.7times in 2005. Cash flow to total debt increased to 30.7 per cent from 26.2 percent in 2006 and 23.0 per cent in 2005.

 
| ** **                     | ** ** | **2005**        | ** ** | **2006**        | ** ** | **2007**            | ** ** | **Target 2008–2010** | ** ** |
|--------------------------------|------------|-----------------|------------|-----------------|------------|---------------------|------------|---------------------------|------------|
| Cash flow to interest  (times) |       |   4.7 |       |   5.5 | ** ** | **  6.6** |       | Minimum 4                 |       |
| Cash flow to total debt  (%)   |       |  23.0      |       |  26.2      | ** ** | ** 30.7**      |       | Minimum 25                |       |
| Debt to invested  capital (%)  |       |  43.9      |       |  44.5      | ** ** | ** 46.8**      |       | Maximum 55                |       |

 

We seek to maintain financial flexibility by using multiplesources of capital to finance capital allocation plans effectively, whilemaintaining sufficient liquidity in our investments to support contracting andtrading activities. Further, it allows our commercial teams to contract our portfoliowith a variety of counterparties on terms and prices that are beneficial to ourfinancial results.

 

**ShareholderValue**

Our business model is designed to deliver low- tomoderate-risk-adjusted sustainable returns and maintain financial strength andflexibility, which enhances shareholder value in a capital intensive,long-cycle, commodity-based business. Our goal is to achieve consistent returnon common shareholders equity (“ROCE”)2 of greater than 10 per cent and totalshareholder return (“TSR”) 2 of 10 per cent or more per year.

 

The table below shows our historical performance on thesemeasures:

 
| ** **          | ** ** | **2005**        | ** ** | **2006**        | ** ** | **2007**            | ** ** | **Target  2008–2010** | ** ** |
|---------------------|------------|-----------------|------------|-----------------|------------|---------------------|------------|----------------------------|------------|
| ROCE (%)            |       |   7.4 |       |   2.5 |       | **  9.8** |       | >10                     |       |
| Comparable ROCE (%) |       |  7.4       |       |   9.0 |       | **  9.7** |       | >10                     |       |
| TSR (%)             |       | 47.6            |       |   9.2 |       | **29.0**            |       | >10                     |       |

 

**Business Environment**

*We operate in avariety of business environments to generate electricity, find buyers for thepower we generate, and arrange for its transmission. The major markets weoperate in are Western Canada, the Pacific Northwest, and Eastern Canada. Thekey characteristics of these markets are described below.*

 

**Demand**

Demand for electricity isa key fundamental driver of prices in all markets. Weather and economic growthare the key drivers of changes in demand. Demand in all three of our majormarkets is growing at an average rate of one to three per cent per year.Alberta has seen the highest rate of demand growth, driven by a strong economyand development of the oilsands. In the Pacific Northwest, demand has grown ata moderate but steady pace. Demand in Ontario has been relatively weak due toreduced manufacturing activity and conservation.

 

 

 

*1*      *Comparable earnings is not defined under Canadian GAAP. Presentingearnings on a comparable basis from period to period provides management andinvestors with the ability to evaluate earnings trends more readily incomparison with prior periods’ results. Refer to the Non-GAAP Measures sectionon page 66 of this MD&A for a further discussion of comparableearnings, including a reconciliation to net earnings.*

*2**   **These measures are not defined underCanadian GAAP. We evaluate our performance and the performance of our businesssegments using a variety of measures. These measures are not necessarilycomparable to a similarly titled measure of another company. ROCE is a measureof the efficiency and profitablility of capital investments and is calculatedby taking earnings before income tax and dividing by total assets less currentliabilities. Comparable ROCE measures economic value created from capitalinvestments and is calculated by taking comparable earnings before tax anddividing by total assets less current liabilities. Presenting this calculationusing comparable earnings before tax provides management and investors with theability to evaluate trends on the returns generated in comparison with otherperiods.TSR is the total amount returned to investors over a specific holdingperiod and includes capital gains and dividends and is calculated by taking theinternal rate of return of all cash flows.*

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

29

 
|                               | **Supply**

In all markets the cost of building  new generating capacity has increased due to a shortage of component parts  and increased costs of raw materials.

In Alberta, the existing thermal fleet is aging,  resulting in more outages. As a result of strong growth, new generation is  needed but is limited by transmission connections both within the province  and to other markets. In the Pacific Northwest, sufficient supply exists in  the nearer term. In Ontario, the anticipated retirement of thermal generation  is placing demand on new nuclear, gas-fired, and wind sites, although  transmission capacity constraints may affect how much new generation can be  added.

** **

**Transmission**

In simple  terms, “Transmission” refers to the bulk delivery system of power and energy  between the generating unit and the distribution system that links to  wholesale and/or retail customers. Transmission lines themselves serve as the  means to transport electricity from the generating unit to the individual  distribution systems. Transmission systems are designed with additional  capacity to allow for plants to go offline while still maintaining service to  those connected to the transmission system.

 

“Transmission Capacity” refers to the ability of the  transmission line, or lines, to transport this bulk supply of electricity, in  an amount that balances the demand needs to the generating supply, allows for  an amount of power required for system integrity and security, and for  reserve capacity to respond to contingency situations on the system. In the  past, “adequate” transmission capacity, tightly correlated to demand growth,  acted as a buffer to maintaining adequate supply during this period of new  generation builds. Most transmission businesses in North America are still  regulated.

 

However, in many markets,  including Alberta, investment in transmission capacity has not kept pace with  growth in demand for electricity. Delays in new transmission infrastructure  projects were also caused by extensive consultation processes with landowners  and changing regulatory requirements. As a result, additions of generating  capacity, specifically wind projects, may not have access to markets  depending upon their location until transmission upgrades and additions are  completed.

 

**Environmental  Legislation and Technologies**

Environmental issues and related legislation have,  and will continue to have, an impact upon our business. In 2007, we began to  incur costs as a result of greenhouse gas (“GHG”) legislation in Alberta.  Legislation in other jurisdictions and at different levels of government is  in various stages of being drafted. Our exposure to increased costs as a  result of environmental legislation is minimized in Alberta through  change-in-law provisions in our Power Purchase Arrangements (“PPAs”).

** **

While carbon dioxide capture and sequestration  technologies are being developed, storage technologies are not sufficiently  advanced. Consequently, we are expecting environmental compliance costs to  increase the cost of generating electricity.

** **

**Electricity  Prices**

Spot electricity prices are important to our  business as our merchant gas, wind, hydro, and thermal facilities are exposed  to these prices. Changes in these prices will affect our profitability as  well as any contracting strategy. Our Alberta plants operating under PPAs pay  penalties or receive payments based upon a rolling 30-day average of spot  prices. Long-term contracts at Centralia Thermal, Genesee 3, Wabamun, and our  contract at Sarnia minimize the impact of spot price changes.

 

Spot electricity prices in our markets are driven by  customer demand, generator supply, and the other business environment  dynamics discussed above. We monitor these trends in prices and schedule  maintenance, where possible, during times of lower prices.

 

The average spot electricity prices in each of the  past three years in our three main markets are shown in the adjacent graph.

 

For the year ended Dec. 31, 2007, spot prices  in Alberta decreased due to unseasonably warmer weather, while prices in the  Pacific Northwest and Ontario were higher compared to the same period in  2006.

 

**Fuel  Costs**

Our generating facilities use either renewable fuel  sources such as water, wind, and geothermal or use combustible fuels such as  coal and natural gas. The costs that are incurred to supply fuel to our  generating facilities affect our financial results.

 

Mining coal in Alberta is subject to cost increases  due to increased overburden removal, inflation, and diesel commodity prices.  Seasonal variations in coal mining are minimized through the application of  standard costing.

 

We have contracted out the supply of coal and  transportation at Centralia Thermal to control these costs as our existing  mines could not supply coal at an economical cost.

 

We purchase natural gas from outside companies coincident  with production or it is supplied by our customers thereby minimizing our  risk to changes in prices. |
|------------------------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------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|  

 

 

** ** |

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

30

 

We closely monitor the risks associated with changes inelectricity and natural gas prices on our future operations and, where weconsider it appropriate, use various physical and financial instruments tohedge our assets and operations from such price risk.

 

**SparkSpreads**

Spark spread is the difference between the market price ofelectricity and its cost of production, including the cost of fuel and the heatrate of the plant generating electricity. This measure is important to us as itdetermines our potential profit. The price of fuel is also very important asthis is the main variable cost in generating electricity.

 

Spark spreads will also vary between different plants due totheir design, the region of the world in which they operate, and therequirements of the customer and/or market the plant serves. The change inprices of electricity, natural gas, and resulting spark spreads in our threemajor markets affect our Generation and Energy Trading businesses.

 

The effect of these prices upon the margins from ourgenerating facilities and our trading activities are described in furtherdetail below.

 

**Resultsof Operations**

 

*The results of operations arepresented on a consolidated basis and by business segment. We have two businesssegments: Generation and Commercial Operations & Development (“COD”).Our segments are supported by a corporate group that provides finance,treasury, legal, regulatory, environmental health and safety, sustainabledevelopment, corporate communications, government relations, informationtechnology, human resources, internal audit, and other administrative support.*

* *

*Some of our accounting policiesrequire management to make estimates or assumptions that in some cases mayrelate to matters that are inherently uncertain. Critical accounting policiesand estimates include: revenue recognition, valuation and useful life ofproperty, plant and equipment (“PP&E”), financial instruments, assetretirement obligations (“ARO”), valuation of goodwill, income taxes, andemployee future benefits. See additional discussion under Critical AccountingPolicies and Estimates in this MD&A.*

* *

*In this MD&A, the impact offoreign exchange fluctuations on foreign currency denominated transactions andbalances is discussed with the relevant income statement and balance sheetitems. While individual balance sheet line items will be impacted by foreignexchange fluctuations, the net impact of the translation of individual items isreflected in the equity section of the consolidated balance sheets.*

 

**Highlightsand Summary of Results**

During 2007, we:

     generated net earnings of $308.8 millioncompared to $44.9 million in 2006 and $186.3 million in 2005,

     generated earnings on a comparable basis1 of $264.3 million compared to $233.8 millionfor 2006 and $161.3 million for 2005,

     generated cash flow from operations of$847.2 million compared to $489.6 million in 2006 and $619.8 million in 2005,and

     generated free cash flow2 of $111.0 million compared to $229.9 million in2006 and $159.7 million in 2005.

 

The following table depicts key financial results andstatistical operating data:
| **Year ended Dec. 31**                                          | ** ** | **2007**   | ** **  | **2006**   | ** ** | **2005**   |       |
|----------------------------------------------------------------------|------------|------------|-------------|------------|------------|------------|------------|
| Availability (%)                                                     | ** ** | **87.2**   |        | 89.0       |       | 89.4       |       |
| Production (GWh)                                                     | ** ** | **50,395** |        | 48,213     |       | 51,810     |       |
| Revenue                                                              | ** ** | **$**      | **2,774.7** |       | $          | 2,677.6    |       | $ | 2,664.4 |   |
| Gross margin 3                                                       | ** ** | **$**      | **1,544.0** |       | $          | 1,491.4    |       | $ | 1,442.0 |   |
| Operating income before mine  closure and asset impairment charges 3 | ** ** | **$**      | **541.1**   |       | $          | 478.5      |       | $ | 456.8 |   |
| Mine closure charges                                                 | ** ** | **–** |        | (191.9     | )          | –     |       |
| Asset impairment charges                                             | ** ** | **–** |        | (130.0     | )          | (36.2      | )          |
| Operating income 3                                                   | ** ** | **$**      | **541.1**   |       | $          | 156.6      |       | $ | 420.6 |   |
| Earnings from continuing operations                                  | ** ** | **$**      | **308.8**   |       | $          | 44.9       |       | $ | 174.3 |   |
| Earnings from discontinued  operations, net of tax                   | ** ** | **–** |        | –     |       | 12.0       |       |
| Net earnings                                                         | ** ** | **$**      | **308.8**   |       | $          | 44.9       |       | $ | 186.3 |   |
| Basic and diluted earnings per  common share                         | ** ** | **$**      | **1.53**    |       | $          | 0.22       |       | $ | 0.94 |   |
| Cash flow from operating activities                                  | ** ** | **$**      | **847.2**   |       | $          | 489.6      |       | $ | 619.8 |   |
| Cash dividends declared per share                                    | ** ** | **$**      | **1.00**    |       | $          | 1.00       |       | $ | 1.00 |   |
| ** **                                                           | ** ** | ** ** | ** **  | ** ** | ** ** | ** ** | ** ** |
| **As at Dec. 31**                                               | ** ** | **2007**   | ** **  | **2006**   | ** ** | ** ** | ** ** |
| Total assets                                                         | ** ** | **$**      | **7,178.7** |       | $          | 7,460.1    |       |   |   |
| Total long-term financial  liabilities                               | ** ** | **$**      | **2,880.7** |       | $          | 3,094.1    |       |   |   |

 

*1**    **Earnings on a comparable basis isnot defined under Canadian GAAP. Refer to the Non-GAAP Measures section onpage 66 of this MD&A for a further discussion of earnings on acomparable basis, including a reconciliation to net earnings.*

*2**    **Free cash flow is not definedunder Canadian GAAP. Refer to the Non-GAAP Measures section on page 66 ofthis MD&A for a further discussion of these items, including areconciliation to cash flow from operating activities.*

*3**    **Gross margin, Operating incomebefore mine closure and asset impairment charges, and Operating income are notdefined under Canadian GAAP. Refer to the Non-GAAP Measures section onpage 66 of this MD&A for a further discussion of these items,including a reconciliation to net earnings.*

 

 

MANAGEMENT’SDISCUSSION AND ANALYSIS

* *

31

 

**Reported Earnings**

In 2007, reported earnings increased to $308.8 million,compared to $44.9 million in 2006 and $186.3 million in 2005, as shown below:

 
| Net earnings for  the year ended Dec. 31, 2005                                              | $          | 186.3  |      |
|--------------------------------------------------------------------------------------------------|------------|--------|-----------|
| Increased  Generation gross margins before writedown of coal inventory and  mark-to-market gains |       | 49.5   |      |
| Generation  mark-to-market gains                                                                 |       | 35.5   |      |
| Higher COD  gross margins                                                                        |       | 8.8    |      |
| Decrease in  operations, maintenance, and administration costs                                   |       | 14.7   |      |
| Increase in  depreciation expense                                                                |       | (42.4  | )         |
| Writedown  of coal inventory to lower of cost and market (2006)                                  |       | (44.4  | )         |
| Centralia  coal mine closure charges (2006)                                                      |       | (191.9 | )         |
| Increase in  asset impairment charges                                                            |       | (93.8  | )         |
| Decrease in  net interest expense                                                                |       | 20.1   |      |
| Increase in  equity loss                                                                         |       | (16.1  | )         |
| Increase in  non-controlling interests                                                           |       | (33.0  | )         |
| Decrease in  income tax expense                                                                  |       | 165.4  |      |
| Earnings  from discontinued operations, net of tax (2005)                                        |       | (12.0  | )         |
| Other                                                                                            |       | (1.8   | )         |
| Net  earnings for the year ended Dec. 31, 2006                                              |       | $      | 44.9      |   |
| Increase in  Generation gross margins before mark-to-market losses                               |       | 83.2   |      |
| Generation  mark-to-market losses                                                                |       | (64.4  | )         |
| Writedown  of coal inventory to lower of cost and market (2006)                                  |       | 44.4   |      |
| Decrease in  COD margins                                                                         |       | (10.6  | )         |
| Decrease in  operations, maintenance, and administration costs                                   |       | 4.5    |      |
| Decrease in  depreciation expense                                                                |       | 4.4    |      |
| Centralia  coal mine closure charges (2006)                                                      |       | 191.9  |      |
| Asset  impairment charges (2006)                                                                 |       | 130.0  |      |
| Gain on  sale of Centralia mining equipment                                                      |       | 15.7   |      |
| Decrease in  net interest expense                                                                |       | 35.2   |      |
| Increase in  equity loss                                                                         |       | (32.5  | )         |
| Decrease in  non-controlling interest                                                            |       | 3.5    |      |
| Decrease in  income tax expense                                                                  |       | (146.2 | )         |
| Other                                                                                            |       | 4.8    |      |
| **Net earnings for the year ended Dec. 31, 2007**                                           | ** ** | **$**  | **308.8** | ** ** |

 

Generation gross margins, before mark-to-market movements,increased by $83.2 million for the year ended Dec. 31, 2007 as a result oflower planned outages in Western Canada combined with favourable pricing,higher production, and lower fuel costs at Centralia Thermal, partially offsetby higher coal costs and higher unplanned outages in Western Canada and thestrengthening of the Canadian dollar relative to the U.S. dollar. In 2006,Generation gross margins increased before the writedown of coal inventory andmark-to-market gains by $49.5 million compared to 2005 due to incrementalproduction from Genesee 3, favourable spark spreads and production at PoplarCreek, higher pricing and lower unplanned outages at Alberta Thermal, highercontract pricing at Centralia, increased gross margins at Sarnia, and highertrading margins. These increases were partially offset by higher unplannedoutages and derates at Centralia Thermal, higher coal costs, and lower hydroproduction.

 

The majority of our electricity contracts in our Generationfleet are recorded under normal purchase/normal sale accounting or qualify for,and are recorded under, hedge accounting rules. To qualify for hedgeaccounting, the contract must be probable to be delivered to the customer fromelectricity generated from our facilities. As a result, for those contractswhich we have elected hedge accounting, no gains or losses are recorded throughthe statement of earnings as a result of differences between the contract priceand the current forecast of future prices. We do, however, record the changesin value of these contracts through the Statement of Other Comprehensive Income(“OCI”), but the amount of cash we receive under these contracts does notchange. Upon settlement of these contracts, the difference between fair valueand the contracted value is recorded in OCI and cash received.

 

Under hedge accounting rules we test for effectivenessat the end of each reporting period. This ensures that the amount ofelectricity we have contracted to supply is still likely to be provided andthat the hedge provides a fixed cash flow. Where hedges are *effective,* we continue the accounting treatment describedabove. Where hedges are *ineffective,* thatis where it is unlikely that we will have sufficient production capacity tofulfill those contracts and we will be required to fulfill that contract withelectricity purchased in the market, or cash flow exposure exists, thesehedges, in total or in part, are considered ineffective. The ineffectiveportion is no longer recorded as hedges and the changes in fair value arerecorded in income and no longer through OCI.

 

As well, there are certain contracts in our Generation fleetthat at their inception do not qualify for, or we have chosen not to elect,hedge accounting. For these contracts we recognize mark-to-market gains andlosses resulting from changes in forward prices compared to the price at whichthese contracts were transacted. These changes in price alter the timing ofearnings recognition, but do not affect the final settlement amount received.The fair value of future contracts will continue to fluctuate as market priceschange. Please refer to the ‘Financial Instruments’ section of this MD&Afor further details.

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

32

 

For the year ended Dec. 31, 2007, we recognized pre-taxmark-to-market losses of $28.9 million as a result of settlement of prior yearmark-to-market contracts, new contracts entered into in the year and changes inforward prices. These amounts represented an increase in mark-to-market lossesof $64.4 million for the year ending Dec. 31, 2007 compared to the sameperiod in 2006. In 2006, we recognized mark-to-market gains of $35.5 million asa result of certain contracts at Centralia Thermal no longer qualifying forhedge accounting and from value changes in new contracts.

 

For the year ended Dec. 31, 2007, COD gross marginsdecreased $10.6 million compared to the same period in 2006 due to decreasedgas and Eastern region trading margins in 2007 as a result of natural gasmarket volatility and the strengthening of the Canadian dollar relative to theU.S. dollar. In 2006, COD gross margins increased due to timing and maintenanceof positions in the western region, partially offset by lower Eastern regionresults.

 

OM&A costs for the year ended Dec. 31, 2007decreased $4.5 million compared to the same period in 2006 primarily due toreduced operational spending across the Generation fleet, partially offset bythe impact of the economic dispatch at Centralia Thermal in the second quarterof 2006, increased investment in our technological infrastructure, and higherstock compensation costs. In 2006, OM&A decreased $14.7 million compared to2005 due to lower planned maintenance and general cost reductions.

 

For the year ended Dec. 31, 2007, depreciation expensedecreased $4.4 million compared to the same period in 2006 due to theimpairment recorded in 2006 on turbines held in inventory and by lowerdepreciation as a result of the impairment of the Centralia Gas-fired facility(“Centralia Gas”) recorded in 2006. In 2006, depreciation increased $42.4million compared to 2005 due to recording an impairment on turbines held ininventory, revised depreciation rates at the Ottawa, Mississauga,Windsor-Essex, Fort Saskatchewan, and Meridian plants, and revised AROestimates.

 

In 2007, we sold equipment previously used in our Centraliamining operations and recorded a pre-tax gain of $15.7 million.

 

For the year ended Dec. 31, 2007, net interest expensedecreased $35.2 million mainly due to lower long-term debt levels, higherinterest income on cash deposits, and the strengthening of the Canadian dollarrelative to the U.S. dollar. In 2006, net interest expense decreased $20.1million due to lower long-term debt levels, recognition of settlement ofhedges, and the strengthening of the Canadian dollar relative to the U.S.dollar, partially offset by higher interest rates.

 

For the year ended Dec. 31, 2007, equity loss increased$32.5 million compared to the same period in 2006 as a result of changes inMexican tax laws, lower margins, and higher interest expense as a result ofrefinancing these subsidiaries, partially offset by the recognition of deferredfinancing fees in 2006. In 2006, equity loss increased $16.1 million due tolower margins and the recognition of deferred financing fees.

 

For the year ended Dec. 31, 2007, non-controllinginterests decreased by $3.5 million due to lower earnings at TransAltaCogeneration, L.P. (“TA Cogen”) as a result of lower margins at Sheerness andOttawa, partially offset by higher margins at Meridian. In 2006,non-controlling interests increased by $33.0 million due to the impairment ofthe Ottawa facility in 2005.

 

Income taxes increased compared to 2006 due to higherpre-tax earnings in 2007, lower benefits from tax rate reductions relating toprior periods, and tax recoveries on the 2006 asset impairment and mine closurecharges, partially offset by the recovery from resolution of uncertain taxpositions in 2007. In 2006, income taxes decreased due to the recording ofapplicable tax recoveries on the impairment charge at Centralia Gas as well asthe costs recorded as a result of ceasing mining activities at the Centraliacoal mine. Adjusting for these items, the effective tax rate for the year endedDec. 31, 2007 was 24.2 per cent compared to 20.7 per cent in 2006, and24.6 per cent in 2005.

 

**Significant Events**

Our consolidated financial results include the followingsignificant events:

 

**2007**

** **

**TaxRate Change**

On Dec. 14, 2007, Bill C-28 received Royal Assent,lowering the federal corporate income tax rate to 15 per cent by 2012. Theseare further rate reductions from the ones included in Bill C-52, which receivedRoyal Assent on June 22, 2007. A total of $47.4 million of future incometax benefit was recorded in 2007.

 

**TransAltaPower, L.P.**

On Dec. 6, 2007, Stanley Power, an indirect wholly ownedsubsidiary of Cheung Kong Infrastructure Holdings Limited (“CKI”), announcedthat it had paid for and acquired all of the limited partnership units ofTransAlta Power, L.P. (“TransAlta Power”) at the price of $8.38 in cash perunit. The transaction was valued at approximately $629 million. Thistransaction had no material impact on us.

 

**OttawaPower Purchase Agreement**

On Oct. 12, 2007, we signed an agreement amending ouroriginal PPA with the Ontario Electricity Financial Corporation (“OEFC”) forthe Ottawa Cogeneration Power Plant. The agreement was entered into to ensurecontinued plant operations following the expiry of long-term natural gas supplycontracts. The agreement will be in effect from Nov. 1, 2007 untilDec. 31, 2012.

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

33

 

**MexicoTax Reform**

On Oct. 1, 2007, the Mexican government enacted lawreplacing the existing asset tax with a new flat tax starting Jan. 1,2008. The flat tax is a minimum tax whereby the greater of income tax or flattax is paid. In computing the flat tax, only 50 per cent of the undepreciatedtax balance of certain capital assets acquired before Sept. 1, 2007 isdeductible over 10 years. In addition, no deduction or credit is permitted inrespect of interest expense, and net operating losses for income taxes as atDec. 31, 2007 cannot be carried forward to shelter flat tax. We recorded a$28.2 million charge in equity losses as a result of this change.

 

**NormalCourse Issuer Bid (“NCIB”) Program**

On Sept. 11, 2007, we announced an expansion of our NCIBprogram. We may purchase, for cancellation, up to 20.2 million of our commonshares or approximately 10 per cent of the 202.0 million common shares issuedand outstanding as at April 23, 2007. The 2007 NCIB program started onMay 3, 2007 and will continue until May 2, 2008. Purchases will bemade on the open market through the Toronto Stock Exchange (“TSX”) at themarket price of such shares at the time of acquisition.

 

For the year ended Dec. 31, 2007, we purchased2,371,800 shares at an average price $31.59 per share. This purchase price wasin excess of the weighted average book value of $8.92 per share, resulting in areduction to retained earnings of $53.8 million.

 
| **Year ended Dec. 31**                      | ** ** | **2007**      | ** ** |
|--------------------------------------------------|------------|---------------|------------|
| Total shares purchased                           | ** ** | **2,371,800** | ** ** |
| Average purchase price per share                 | ** ** | **$**         | **31.59**  | ** ** |
| Total cash paid                                  | ** ** | **$**         | **74.9**   | ** ** |
| Weighted average book value of  shares cancelled | ** ** | **21.1**      | ** ** |
| Reduction to retained earnings                   | ** ** | **$**         | **53.8**   | ** ** |

 

**NewBrunswick Power Purchase Agreement**

On Jan. 19, 2007, we announced a 25-year contract withNew Brunswick Power Distribution and Customer Service Corporation (“NewBrunswick Power”) to provide 75 megawatts (“MW”) of wind power. We willconstruct, own, and operate a wind power facility in New Brunswick (“KentHills”). Commercial operations are expected to begin by the end of 2008.

 

On July 17, 2007, we amended our PPA with New BrunswickPower to increase capacity under the agreement from 75 MW to 96 MW. As aresult, total capital costs for the Kent Hills wind power project will alsoincrease to $170 million from $130 million. We also signed a purchase and saleagreement with Vector Wind Energy, a wholly owned subsidiary of Canadian HydroDevelopers Inc., for its Fairfield Hill wind power site.

 

Natural Forces Technologies Inc. has an option to purchaseup to 17 per cent of the Kent Hills project within 180 days of its completion.

 

**SundanceUnit 4 Uprate**

During 2007 we completed an uprate on Unit 4 of our Sundancefacility that added 53 MW of capacity to this facility.

 

**GreenhouseGas Emissions Standards**

Effective July 1, 2007, the *ClimateChange and Emissions Management Amendment Act* was enacted into lawin Alberta. Under the legislation, baselines and targets for GHG emissionsintensity are set on a facility-by-facility basis. The legislation requires a12 per cent reduction in carbon emission intensity over a baseline for theperiod 2003 to 2005, established as at Dec. 31, 2007. New facilities orthose in operation for less than three years are exempt; however, upon thefourth year of operations, the facility baseline is established and graduallyreduces by year of operation until the eighth year, by which emissions must be12 per cent below the established baseline. Emissions over the baseline aresubject to a charge that must be paid annually. The PPAs for our Alberta-basedcoal facilities contain change-in-law provisions that allow us to recover mostcompliance costs from the PPA customers. After flow-through, the net compliancecosts are estimated to be approximately $5 million per year until we are ableto meet the targets for GHG emissions under the Act.

 

**DraglineDeposit**

On June 21, 2007, TransAlta Utilities Corporation, awholly owned subsidiary, entered into an agreement with Bucyrus Canada Limitedand Bucyrus International Inc. for the purchase of a dragline to be usedprimarily in the supply of coal for the Keephills 3 joint venture project. Thetotal dragline purchase costs are approximately $150 million, with finalpayments for goods and services due by May 2010. The total payments madeunder this agreement in 2007 were $18.0 million.

 

**Keephills3 Power Plant**

On Feb. 26, 2007, we announced that we will be buildingthe 450 MW Keephills 3 coal-fired power plant. The plant will be developedjointly by EPCOR Utilities Inc. (“EPCOR”) and by us. The capital cost of theproject is expected to be approximately $1.6 billion, including associated minecapital, and is anticipated to begin commercial operations in the first quarterof 2011. We own a 50 per cent interest in this unit.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

34

** **

**2006**

 

**CentraliaCoal Mine**

On Nov. 27, 2006, we ceased mining activities at ourCentralia coal mine as a result of increased costs and unfavourable geologicalconditions. Inventory extracted up to the date on which we ceased operationswas mostly consumed throughout 2007. Coal requirements for the foreseeablefuture are expected to be sourced from coal imported from the Powder RiverBasin (“PRB”). In 2007, we reduced production at the plant by approximately2,500 gigawatt hours (“GWh”). The modifications to the equipment at CentraliaThermal are anticipated to be completed after the maintenance turnarounds.

 

We incurred an after-tax charge of $153.6 million ($0.76 pershare) due to asset and inventory writedowns, reclamation liabilities,severance costs and other charges.

 

As required by GAAP, the restructuring charges appear ontheir appropriate lines on the Statements of Earnings. These have beensummarized in the following table and are described below:

 
| Writedown of coal inventory                  |   | $      | 44.4   |   |
|----------------------------------------------|--------|--------|--------|--------|
| Impact on gross margin                       |   | (44.4  | )      |
| **Mine closure charges**                     |   |   |   |
| Mine equipment and infrastructure  writedown |   | $      | 72.1   |   |
| ARO writedown                                |   | 81.3   |   |
| Severance costs and other                    |   | 38.5   |   |
| Total mine closure charges                   |   | 191.9  |   |
| **Loss before income taxes**                 |   | $      | (236.3 | )      |
| Income tax recovery                          |   | 82.7   |   |
| **Net loss impact of event**                 |   | $      | (153.6 | )      |

 

**Writedown of Coal Inventory**

Since all coal requirements are now being sourced from anexternal source, the existing internally produced coal inventory was writtendown to fair market value, which was the current PRB cost at the time ofcessation of mining activities.

 

**Mine Equipment and InfrastructureWritedown**

Mine equipment was valued at the lower of current net bookvalue and fair value. The majority of this equipment was anticipated to be soldin 2007. Mining infrastructure, which includes processing facilities, was alsowritten down to its expected fair values.

 

**ARO Writedown**

The unamortized cost of future reclamation expenses wasrecognized immediately.

 

**Severance Costs and Other**

This includes salaries payable to employees, estimatedbenefit obligations, other transition payments as a result of the closure,amounts accrued for estimated contract termination penalties, and writedown ofmaterials and supplies. These costs were paid in 2007 for a total of $24.2million with the difference between this amount and the amount above of $38.5million due to the strengthening of the Canadian dollar relative to the U.S.dollar.

 

Further, since Centralia Thermal was not operating at fullcapacity in 2007 and 2008, certain contracts were no longer backed by physicalproduction at the plant and therefore no longer qualified for hedge accounting.Therefore, under GAAP, we recorded these contracts at fair value and as aresult of differences between market prices at that time and those of thecontracts, recognized mark-to-market gains on these contracts. As well, weentered into additional contracts to offset some of this exposure and recordedthese contracts at fair market value. As a result, on a net basis, based oncurrent forward price estimates at that time, we recorded mark-to-market gainsof $35.5 million. These mark-to-market adjustments, which are not included inthe table above, had no cash impact on the 2006 financial statements but thefair market value will continue to change as market prices change untilsettlement occurs in future periods.

 

**CentraliaGas Impairment**

During our annual impairment review, we concluded that thefull book value of our Centralia Gas facility was unlikely to be recovered fromfuture cash flows due to changes in our outlook for the plant’s profitabilitybased on market dispatch rates and trading values. As a result, we recorded an$84.4 million after-tax ($0.42 per share) impairment charge to write the plantdown to fair value.

 

**Noticeof Preferred Securities Redemption**

On Nov. 22, 2006, we announced our intention to redeemall of our 7.75 per cent Preferred Securities, which had an aggregate principalof $175.0 million. We redeemed these securities on Jan. 2, 2007.

 

 

MANAGEMENT’SDISCUSSION AND ANALYSIS

 

35

 

**Designationof Eligible Dividends**

Under the 2007 legislation enacted by the Department ofFinance, Canadian residents are entitled to a higher gross-up and dividend taxcredit in 2006 and subsequent years if they receive eligible dividends. Thedividends paid by us during 2006 and 2007 are eligible dividends.

 

**Amendmentto Dividend Reinvestment and Share Purchase (“DRASP”) Plan**

On Oct. 20, 2006, we announced that effectiveJan. 1, 2007, we were amending and thereby removing the five per centdiscount on the price of shares purchased through the DRASP plan and suspendingthe issuance of shares from treasury. Instead, shares purchased under the DRASPplan are acquired in the open market at 100 per cent of the average purchaseprice of common shares acquired on the TSX on the investment dates. Sharesissuable under the DRASP plan have not been registered under any U.S. Federalor State Securities laws and U.S. persons or residents are not eligible toparticipate in the DRASP plan.

 

**WabamunOutage**

In 2005, an oil spill at Lake Wabamun, Alberta forced us toshut down unit four of our Wabamun coal-fired plant for 39 days. In the fourthquarter of 2006, we settled a portion of our outstanding claim for lost marginand incremental expenses. The terms of the settlement are subject to aconfidentiality agreement. The settlement is included in merchant revenues.

 

**SarniaPower Plant**

On Feb. 15, 2006, we signed a five-year contract withthe Ontario Power Authority (“OPA”) for our Sarnia Regional Cogeneration PowerPlant to supply an average of 400 MW of electricity to the Ontario electricitymarket. The contract was effective Jan. 1, 2006.

 

**CentraliaThermal Reduced Production and Economic Dispatch**

Due to heavy rainfall in the Pacific Northwest in the firstquarter of 2006, we derated Centralia Thermal and started rebuilding our coalinventory. The impact of derating the plant during this time was partiallyoffset by increasing coal imports and purchasing replacement power. Weexperienced 875 GWh of lower production during the first quarter of 2006compared to the same period of 2005.

 

During the second quarter of 2006, lower market pricesallowed us to purchase power at a price lower than our variable cost ofproduction. As a result, Centralia Thermal did not operate for the majority ofthe second quarter. We experienced 1,936 GWh of lower production during thesecond quarter compared to the same period of 2005.

 

In the third quarter of 2006, the 702 MW unit 2 experienceda turbine blade failure. As a result of the event, total production was reducedby 727 GWh. Also, in the third quarter of 2006, higher unplanned outagesresulted in 232 GWh of lower production.

 

In the fourth quarter of 2006, 358 GWh of production atCentralia Thermal was lost as a result of PRB coal test burns at the plant.

 

For the year ended Dec. 31, 2006, as a result of theabove-mentioned events, total production at Centralia was 4,128 GWh lower thanin 2005.

 

**Purchaseof Wailuku River Hydroelectric L.P.**

On Feb. 17, 2006, we purchased a 50 per cent interestin Wailuku River Hydroelectric L.P. through Wailuku Holding Company, LLC(“Wailuku”) for cash of U.S.$1.0 million (CDN$1.2 million). Wailuku had debt ofU.S.$19.2 million (CDN$22.3 million) at the time of acquisition. Wailuku owns arun-of-river hydro facility with an operating capacity of 10 MW. MidAmericanEnergy Holdings Company (“MidAmerican”) owns the other 50 per cent interest inWailuku.

 

**Changein Depreciation Rate**

In the first quarter of 2006, we changed the depreciationmethod of the Windsor-Essex, Mississauga, Ottawa, Meridian, and FortSaskatchewan plants. Previously, these plants were amortized on aunit-of-production method over the life of the plants. After reviewing theestimated useful life and considering the uncertainty for the plants’operations beyond the terms of the current sales contracts, we determined thatit was more reasonable to allocate the remaining net book value of the plantson a straight-line basis over the remaining term of the respective contracts.This increase in depreciation is offset by a reduction in earnings attributableto the non-controlling interests in our consolidated statement of earnings.

 

**Keephills3 Project**

On March 14, 2006, we signed a development agreementwith EPCOR Utilities Inc. (“EPCOR”) to jointly examine the development of theKeephills 3 power project, a proposed 450 MW supercritical coal-fired plantadjacent to our existing Keephills facility.

 

**2006Federal and Alberta Budgets**

On May 24, 2006, the Alberta budget received RoyalAssent. As a result, the general corporate income tax rate for Alberta wasreduced from 11.5 per cent to 10 per cent effective April 1, 2006. Thefederal budget received Royal Assent on June 22, 2006. As a result, thegeneral corporate federal tax rate is to be reduced from 21 per cent to 19 percent by Jan. 1, 2010. The corporate surtax was eliminated for taxationyears ended after Dec. 31, 2007 and the federal capital tax has been eliminatedeffective Jan. 1, 2006. The carry-forward period for non-capital lossesand investment tax credits earned after 2005 was extended from 10 to 20 years.As a result of these changes, we reduced income tax expense by $55.3 million.

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

36

 

**2005**

** **

**Commissioningof Genesee 3**

On March 1, 2005, we, jointly with EPCOR, commissionedthe Genesee 3 coal-fired facility. We own a 50 per cent interest in this unit.

 

**WabamunOutage**

On Aug. 3, 2005, a CN Rail train derailment resulted inan oil spill in Lake Wabamun, Alberta. We were forced to shut down unit four ofour Wabamun coal plant as a result. The facility was restored to fulloperations on Sept. 11, 2005.

 

**Impairmentof the Ottawa Facility**

In the fourth quarter of 2005, after completing ourimpairment reviews, we concluded that the carrying value of the Ottawacogeneration facility exceeded its fair value in the accounts of TA Cogen, amajority-owned subsidiary. Consequently, TA Cogen recorded an impairmentprovision of $78.3 million in the fourth quarter of 2005. However, in ouraccounts, the carrying value of the Ottawa facility is lower than that of TACogen. TA Cogen purchased this facility from us at a price that was higher thanwhat we paid to construct it. We recognized a $36.2 million charge to reflectthe difference in carrying values between our accounts and those of TA Cogen.This charge was offset by a reduction in the earnings attributable to thenon-controlling interests in our consolidated statement of earnings. The netresult is that the impairment of the plant in the accounts of TA Cogen had noimpact on our net earnings.

 

**SubsequentEvents**

** **

**MexicoBusiness**

On Feb. 20, 2008, we announced the sale of our Mexicanoperations to InterGen Global Ventures B.V. (“InterGen”) for U.S.$303.5million. The transaction is subject to regulatory approvals in Mexico and isexpected to close by the end of the second quarter of 2008. We will record acharge to the first quarter earnings of approximately $55 – $65 million toreflect the difference between the book value and sale price of these assets.

 

**BlueTrail Wind Power Project**

On Feb. 13, 2008, we announced plans to design, build,and operate Blue Trail, a 66 MW wind power project in southern Alberta. Thecapital cost of the project is estimated at $115 million. Commercial operationsare expected to commence in the fourth quarter of 2009.

 

**DividendIncrease**

On Jan. 31, 2008, our Board of Directors approved anincrease to the annual dividend from $1.00 to $1.08 per share. Our Board alsodeclared a quarterly dividend of $0.27 per share on common shares, payableApril 1, 2008 to shareholders of record at the close of businessMarch 1, 2008.

 

**GreenhouseGas Emissions**

On Jan. 24, 2008, the Government of Alberta announcedits intention to cut greenhouse gas emissions to 14 per cent below 2005 levelsby 2050 through developing and implementing carbon capture and storagetechnologies, developing conservation and energy efficiency programs, andthrough increased investment in clean energy technologies. The first stage ofthis program is to create focus groups or task forces for each of these threeareas and develop action plans. We are assessing the impact of this proposalupon our operations and our own investment in environmental technologies andprograms. The PPAs for our Alberta-based coal facilities contain change-in-lawprovisions that allow us to recover compliance costs from the PPA customers.

 

**Discussionof Segmented Results**

 

**GENERATION***Owns and operates hydro, wind, geothermal, gas- and coal-fired plants,and related mining operations in Canada, the U.S., and Australia. Generation’srevenues are derived from the availability and production of electricity andsteam as well as ancillary services such as system support. At Dec. 31,2007, Generation had 8,431 MW of gross generating capacity*1* in operation (8,024 MW net ownership interest)and 387 MW net under construction. For a full listing of all of our generatingassets and the regions in which they operate, refer to page 26 of thisannual report.*

* *

*During 2007, we completed anuprate on Unit 4 of our Sundance facility that added 53 MW of generatingcapacity. As well, during 2007 we increased the measured gross generatingcapacity of Sheerness by 5 MW (2.5 MW net of ownership interest) and PowerResources by 12 MW (6 MW net of ownership interest).*

 

We have strategic alliances with EPCOR, ENMAX Corporation(“ENMAX”), and MidAmerican. The EPCOR alliance provided the opportunity for usto acquire a 50 per cent ownership in the 450 MW Genesee 3 project to build theKeephills 3 project. ENMAX and our Company each own 50 per cent of thepartnership in the McBride Lake wind project. MidAmerican owns the other 50 percent interest in CE Generation, LLC (“CE Gen”) and Wailuku.

 

Our results are seasonal due to the nature of theelectricity market and related fuel costs. Higher maintenance costs areordinarily incurred in the second and third quarters when electricity pricesare expected to be lower, as electricity prices generally increase in thewinter months in the Canadian market. Margins are also typically impacted inthe second quarter due to the volume of hydro production resulting from springrunoff and rainfall in the Canadian and U.S. markets.

 

*1     We measure capacity as netmaximum capacity (see glossary for definition of this and other key items),which is consistent with industry standards. Capacity figures representcapacity owned and in operation unless otherwise stated.*

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

37

 

The results of the Generation segment are as follows:

 
| **Year ended Dec. 31**                                | ** ** | **2007**     | ** **  | **2006**                    | ** ** | **2005**  | ** ** |
|----------------------------------------------------------------------|------------|--------------|-------------|-----------------------------|------------|-----------|------------|
| ** **                                                           | ** ** | **Total**    | ** **  | **Per installed  MWh** | **2**      | **Total** | ** ** | **Per installed  MWh** | 2 | **Total** | ** ** | **Per installed**

**MWh** | **2** |
| Revenues                                                             | ** ** | **$**        | **2,719.6** | ** **                  | **$**      | **37.03** | ** ** | $ | 2,611.9 |   | $ | 35.64 |   | $ | 2,607.5 |   | $ | 37.50 |   |
| Fuel and  purchased power                                            | ** ** | **(1,230.7** | **)**       | **(16.76**                  | **)**      | (1,186.2  | )          | (16.19 | ) | (1,222.4 | ) | (17.58 | ) |
| Gross  margin                                                        | ** ** | **1,488.9**  | ** **  | **20.27**                   |       | 1,425.7   |       | 19.45 |   | 1,385.1 |   | 19.92 |   |
| Operations,  maintenance  and administration                         | ** ** | **446.9**    | ** **  | **6.08**                    |       | 458.3     |       | 6.25 |   | 481.1 |   | 6.92 |   |
| Depreciation  and amortization                                       | ** ** | **391.3**    | ** **  | **5.33**                    |       | 396.9     |       | 5.42 |   | 354.9 |   | 5.10 |   |
| Taxes,  other than income taxes                                      | ** ** | **19.9**     | ** **  | **0.27**                    |       | 21.1      |       | 0.29 |   | 21.3 |   | 0.31 |   |
| Intersegment  cost allocation                                        | ** ** | **27.3**     | ** **  | **0.37**                    |       | 27.8      |       | 0.38 |   | 26.0 |   | 0.37 |   |
| Operating  expenses                                                  | ** ** | **885.4**    | ** **  | **12.05**                   |       | 904.1     |       | 12.34 |   | 883.3 |   | 12.70 |   |
| Operating income  before mine closure and asset impairment charges 1 | ** ** | **603.5**    | ** **  | **8.22**                    |       | 521.6     |       | 7.11 |   | 501.8 |   | 7.22 |   |
| Mine  closure charges                                                | ** ** | **–**   | ** **  | **–**                  |       | 191.9     |       | 2.62 |   | – |   | – |   |
| Asset  impairment charges                                            | ** ** | **–**   | ** **  | **–**                  |       | 130.0     |       | 1.77 |   | 36.2 |   | 0.52 |   |
| Operating  income                                                    | ** ** | **$**        | **603.5**   | ** **                  | **$**      | **8.22**  |       | $ | 199.7 |   | $ | 2.72 |   | $ | 465.6 |   | $ | 6.70 |   |
| Installed  capacity (GWh)                                            | ** ** | **73,447**   | ** **  | ** **                  |       | 73,287    |       |   |   | 69,528 |   |   |   |
| Production  (GWh)                                                    | ** ** | **50,395**   | ** **  | ** **                  |       | 48,213    |       |   |   | 51,810 |   |   |   |
| Availability  (%)                                                    | ** ** | **87.2**     | ** **  | ** **                  |       | 89.0      |       |   |   | 89.4 |   |   |   |

 

**Availability**

Availability for the year ended Dec. 31, 2007 decreasedto 87.2 per cent from 89.0 per cent compared to the same period in 2006primarily as a result of derating at Centralia Thermal due to test burning PRBcoal in 2007 and higher unplanned outages in Western Canada. The underlyingavailability after adjusting for Centralia Thermal derates is 90.5 per cent forthe year ended Dec. 31, 2007.

 

In 2006, availability was slightly lower than 2005 due to higherunplanned outages and derates at Centralia Thermal, mostly offset by lowerplanned outages in Western Canada and lower planned and unplanned outages inEastern Canada.

 

**GenerationProduction and Gross Margins**

Generation’s production volumes, electricity and steamproduction revenues, and fuel and purchased power costs are presented below,based on geographical regions.
| **Year ended  Dec. 31, 2007** | ** ** | **Production  (GWh** | **)**      | **Installed  (GWh** | **)**      | **Revenue** | ** **  | **Fuel &  purchased  power** | ** ** | **Gross  margin** | ** ** | **Revenue per  installed  MWh** | ** **  | **Fuel &  purchased  power per  installed MWh** | ** ** | **Gross  margin per  installed  MWh** | ** ** |
|----------------------------------------------|------------|----------------------|------------|---------------------|------------|-------------|-------------|---------------------------------------|------------|-------------------|------------|--------------------------------------|-------------|---------------------------------------------------------------|------------|--------------------------------------------|------------|
| Western  Canada                              | ** ** | **33,398**           | ** ** | **45,385**          | ** ** | **$**       | **1,302.1** | ** **                            | **$**      | **449.4**         | ** ** | **$**                                | **852.7**   | ** **                                                    | **$**      | **28.69**                                  | ** ** | **$** | **9.90** | ** ** | **$** | **18.79** | ** ** |
| Eastern  Canada                              | ** ** | **3,775**            | ** ** | **7,173**           | ** ** | **442.9**   | ** **  | **302.6**                             | ** ** | **140.3**         | ** ** | **61.75**                            | ** **  | **42.19**                                                     | ** ** | **19.56**                                  | ** ** |
| International                                | ** ** | **13,222**           | ** ** | **20,889**          | ** ** | **974.6**   | ** **  | **478.7**                             | ** ** | **495.9**         | ** ** | **46.66**                            | ** **  | **22.92**                                                     | ** ** | **23.74**                                  | ** ** |
| ** **                                   | ** ** | **50,395**           | ** ** | **73,447**          | ** ** | **$**       | **2,719.6** | ** **                            | **$**      | **1,230.7**       | ** ** | **$**                                | **1,488.9** | ** **                                                    | **$**      | **37.03**                                  | ** ** | **$** | **16.76** | ** ** | **$** | **20.27** | ** ** |

 
| **Year ended  Dec. 31, 2006** | ** ** | **Production  (GWh** | **)**  | **Installed  (GWh** | **)**  | **Revenue** | ** ** | **Fuel &  purchased  power** | ** ** | **Gross  margin** | ** ** | **Revenue per  installed  MWh** | ** ** | **Fuel &  purchased  power per  installed MWh** | ** ** | **Gross  margin per  installed  MWh** | ** ** |
|----------------------------------------------|------------|----------------------|--------|---------------------|--------|-------------|------------|---------------------------------------|------------|-------------------|------------|--------------------------------------|------------|---------------------------------------------------------------|------------|--------------------------------------------|------------|
| Western  Canada                              |       | 33,501               |   | 45,238              |   | $           | 1,291.4    |                                  | $          | 402.7             |       | $                                    | 888.7      |                                                          | $          | 28.55                                      |       | $ | 8.90 |   | $ | 19.65 | ** ** |
| Eastern  Canada                              |       | 3,353                |   | 7,174               |   | 453.6       |       | 300.4                                 |       | 153.2             |       | 63.23                                |       | 41.87                                                         |       | 21.36                                      | ** ** |
| International                                |       | 11,359               |   | 20,875              |   | 866.9       |       | 483.1                                 |       | 383.8             |       | 41.53                                |       | 23.14                                                         |       | 18.39                                      | ** ** |
|                                         |       | 48,213               |   | 73,287              |   | $           | 2,611.9    |                                  | $          | 1,186.2           |       | $                                    | 1,425.7    |                                                          | $          | 35.64                                      |       | $ | 16.19 |   | $ | 19.45 | ** ** |

 
| **Year ended  Dec. 31, 2005** | ** ** | **Production  (GWh** | **)**  | **Installed  (GWh** | **)**  | **Revenue** | ** ** | **Fuel &  purchased  power** | ** ** | **Gross  margin** | ** ** | **Revenue per  installed  MWh** | ** ** | **Fuel &  purchased  power per  installed MWh** | ** ** | **Gross  margin per  installed  MWh** | ** ** |
|----------------------------------------------|------------|----------------------|--------|---------------------|--------|-------------|------------|---------------------------------------|------------|-------------------|------------|--------------------------------------|------------|---------------------------------------------------------------|------------|--------------------------------------------|------------|
| Western  Canada                              |       | 33,031               |   | 42,766              |   | $           | 1,234.6    |                                  | $          | 418.1             |       | $                                    | 816.5      |                                                          | $          | 28.87                                      |       | $ | 9.78 |   | $ | 19.09 | ** ** |
| Eastern  Canada                              |       | 3,510                |   | 6,106               |   | 426.3       |       | 337.4                                 |       | 88.9              |       | 69.82                                |       | 55.26                                                         |       | 14.56                                      | ** ** |
| International                                |       | 15,269               |   | 20,656              |   | 946.6       |       | 466.9                                 |       | 479.7             |       | 45.83                                |       | 22.60                                                         |       | 23.22                                      | ** ** |
|                                         |       | 51,810               |   | 69,528              |   | $           | 2,607.5    |                                  | $          | 1,222.4           |       | $                                    | 1,385.1    |                                                          | $          | 37.50                                      |       | $ | 17.58 |   | $ | 19.92 | ** ** |

 

 
| *1* | * * | *Operating income before mine closure and asset  impairment charges is not defined under Canadian GAAP. Refer to the Non-GAAP  Measures section on page 66 of this MD&A for a further discussion of  these items, including a reconciliation to cash flow from operating activities.*                                                                                                                                                                                                                                                            |
|-----|----------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| *2* | * * | *We have traditionally presented gross margins and  other key elements of the income statement on a per MWh produced. While for  specific types of contracts this is an effective measure of profitability  between periods, levels of production and associated revenues and costs are  not comparable across all plants within the Generation segment. To better  gauge overall fleet performance and return on the investment in assets, we  have presented overall results on an installed MWh basis, which is a measure  of overall fleet capacity.* |

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

38

 

**WesternCanada**

Our Western Canadaassets consist of five coal facilities, three gas-fired facilities, thirteenhydro facilities, and three wind farms with a total gross generating capacityof 5,222 MW (4,937 MW net of ownership interest). We are currently constructinga 450 MW (225 MW net of ownership interest) merchant thermal plant at ourKeephills facility under a joint venture with EPCOR. The additional unit at ourKeephills facility is scheduled to enter commercial production in 2011.

 

Our Sundance, Keephills,and Sheerness plants and hydro facilities operate under PPAs with a grossgenerating capacity of 4,030 MW (3,835 MW net of ownership interest). Under thePPAs, we earn monthly capacity revenues, which are designed to recover fixedcosts and provide a return on capital for our plants and mines. We also earnenergy payments for the recovery of predetermined variable costs of producingenergy, an incentive/penalty for achieving above/below the targetedavailability, and an excess energy payment for power production above committedcapacity. Additional capacity added to these units that is not included incapacity covered by the PPAs is sold on the merchant market.

 

Our Wabamun, Genesee3, Summerview, and a portion of our Poplar Creek facilities sell theirproduction on the merchant spot market. In order to manage our exposure tochanges in spot electricity prices as well as capture value, we contract aportion of this production to guarantee cash flows.

 

Due to their close physical proximity, three of our coalunits, Sundance, Keephills, and Wabamun, are operated and managed collectively andare referred to as “Alberta Thermal.”

 

Our Castle River,McBride Lake, Meridian, Fort Saskatchewan, and a significant portion of ourPoplar Creek assets earn revenues under long-term contracts for which revenuesare derived from payments for capacity and/or the production of electricalenergy and steam as well as for ancillary services. These contracts are for anoriginal term of at least ten years and payments do not fluctuate significantlywith changes in levels of production.

 

For the year ended Dec. 31,2007, production decreased 103 GWh compared to 2006 due to higher unplannedoutages at Alberta Thermal, partially offset by increased customer demand atFort Saskatchewan, increased hydro production, and lower planned outages atAlberta Thermal.

 

In 2006, productionincreased 470 GWh compared to 2005 due to lower planned and unplanned outagesat Alberta Thermal, increased production from Genesee 3, Poplar Creek, andAlberta Thermal, partially offset by lower PPA customer demand.

 

Gross margin for theyear ended Dec. 31, 2007 decreased $36.0 million ($0.86 per installed MWh)compared to the same period in 2006 due to higher coal costs, higher unplannedoutages at Alberta Thermal, and lower prices, partially offset by lower plannedoutages at Alberta Thermal and higher excess energy due to the uprate on Unit 4of our Sundance facility.

 

In 2006, grossmargin increased $72.2 million ($0.56 per installed MWh) compared to 2005 dueto higher prices and increased production at various facilities, partiallyoffset by lower hydro production and higher coal costs.

 

**Eastern Canada**

Our Eastern Canada assets consist of four gas-firedfacilities with a total gross generating capacity of 819 MW (697 MW net ofownership interest). All four facilities earn revenue under long-term contractsfor which revenues are derived from payments for capacity and/or the productionof electrical energy and steam. Kent Hills, a 96 MW wind farm located in NewBrunswick, is currently under development and is scheduled to begin commercialoperations late in 2008.

 

Production for theyear ended Dec. 31, 2007 increased 422 GWh primarily resulting from favourablemarket conditions, higher customer demand and lower planned maintenance atSarnia and increased production at Ottawa due to gas sales in the first quarterof 2006.

 

Production for theyear ended Dec. 31, 2006 decreased 157 GWh primarily due to lowerproduction at Ottawa and lower customer demand and higher planned maintenanceat Sarnia.

 

For the year ended Dec. 31,2007, gross margins decreased $12.9 million ($1.80 per installed MWh) mainly asa result of lower gas sales at Ottawa.

 

For the year ended Dec. 31,2006, gross margins increased $64.3 million ($6.80 per installed MWh) primarilydue to gas sales at Ottawa and incremental revenue at Sarnia.

 

**International**

Our internationalassets consist of gas, coal, hydro, and geothermal assets in various locationsin the United States with a generating capacity of 2,090 MW and gas- anddiesel-fired assets in Australia with a generating capacity of 300 MW. 385 MWof our United States assets are operated by CE Gen, a joint venture owned 50per cent by us.

 

Our CentraliaThermal, Centralia Gas, Power Resources, Skookumchuck, and one unit of ourImperial Valley assets are merchant facilities. To reduce the volatility andrisk in merchant markets, we use a variety of physical and financial hedges tosecure prices received for electrical production. The remainder of ourinternational facilities operate under long-term contracts.

 

For the year ended Dec. 31,2007, production increased 1,863 GWh due to lower unplanned outages combinedwith higher production at Centralia Thermal due to the facility beingeconomically dispatched in the second quarter of 2006, partially offset bylower production at Centralia Gas.

 

For the year ended Dec. 31,2006, production decreased 3,910 GWh due to higher unplanned outages, economicdispatch, and derates at Centralia Thermal.

 

 

MANAGEMENT’SDISCUSSION AND ANALYSIS

 

39

 

For the year ended Dec. 31,2007, gross margins increased $112.1 million ($5.35 per installed MWh) due tofavourable market and contractual pricing and increased production at CentraliaThermal, the writedown of inventory related to the cessation of miningactivities of the Centralia coal mine in 2006, and lower coal costs atCentralia Thermal, partially offset by mark-to-market losses in 2007 versusmark-to-market gains in 2006 and the strengthening of the Canadian dollarcompared to the U.S. dollar.

 

For the year ended Dec. 31,2006, gross margins decreased $95.9 million ($4.83 per installed MWh) due toreduced production at Centralia Thermal, higher coal costs, and the writedownof internally produced inventory to the lower of cost and market, partiallyoffset by mark-to-market gains.

 

**Operations, Maintenance, and Administration**

For the year ended Dec. 31,2007, OM&A expense decreased by $11.4 million primarily due to loweroperational spending and planned maintenance expenditures, partially offset bysavings realized from the economic dispatch at Centralia Thermal in the secondquarter of 2006.

 

In 2006, OM&Aexpenses decreased $22.8 million from 2005 due to lower planned outages,general cost reductions, and from the economic dispatch at Centralia Thermal.

 

**Planned Maintenance**

The table below shows the amount of planned maintenancecapitalized and expensed, excluding CE Gen:

 
| **Year ended Dec. 31** | ** ** | **2007**  | ** ** | **2006** | ** ** | **2005** |   |
|-----------------------------|------------|-----------|------------|----------|------------|----------|--------|
| Capitalized                 | ** ** | **$**     | **78.0**   |     | $          | 84.2     |   | $ | 119.1 |   |
| Expensed                    | ** ** | **54.0**  |       | 55.4     |       | 68.3     |   |
|                        | ** ** | **$**     | **132.0**  |     | $          | 139.6    |   | $ | 187.4 |   |
| GWh lost                    | ** ** | **2,056** |       | 2,325    |       | 2,818    |   |

 

Production lost inthe year ended Dec. 31, 2007, decreased by 269 GWh from 2006 due toreduced planned outages across the fleet. In 2006, production lost decreased by493 GWh for the same reason.

 

For the year ended Dec. 31,2007, total capital and expensed maintenance costs decreased compared to thesame period in 2006 primarily due to lower planned maintenance activity at ourgas-fired facilities. During the year ended Dec. 31, 2006, capitalized andexpensed maintenance costs were lower compared to the same period in 2005 dueto the benefits from multi-year maintenance plans.

 

**Depreciation Expense**

For the year ended Dec. 31,2007, depreciation expense decreased $5.6 million compared to 2006 due to theimpairment recorded in 2006 on turbines held in inventory, lower depreciationat Centralia Gas, and the strengthening of the Canadian dollar versus the U.S.dollar, partially offset by the recording of ARO accretion at the Centraliacoal mine, increased depreciation as a result of capital spending in 2006, andreduced life of certain parts at Centralia Thermal.

 

For active mines,accretion expense related to ARO is included in cost of sales. However, theCentralia coal mine is currently considered to be inactive and therefore,accretion expense is now recorded in depreciation expense. Accretion expense of$8.7 million and $8.2 million related to the Centralia coal mine was recorded incost of sales, respectively, for the years ended Dec. 31, 2006 and Dec. 31,2005.

 

Depreciation andamortization increased $42.0 million in 2006 compared to 2005 primarily due tothe change in depreciation rates at the Windsor-Essex, Mississauga, Ottawa, Meridian,and Fort Saskatchewan plants, revised ARO estimates at Alberta Thermal, and theimpairment recorded on turbines held in inventory. The change in depreciationrates at the above-mentioned plants resulted in an increase in depreciationexpense that was offset by a decrease in non-controlling interests.

 

**COMMERCIAL OPERATIONS & DEVELOPMENT (“COD”)*******derives revenue and earnings fromthe wholesale trading of electricity and other energy-related commodities andderivatives. Achieving gross margins while remaining within value at risk (“VAR”)limits is a key measure of COD’s trading activities.*

 

*COD is responsible for themanagement of commercial activities for our current generating assets. COD alsomanages available generating capacity as well as the fuel and transmissionneeds of the Generation business by utilizing contracts of various durationsfor the forward sales of electricity and for the purchase of natural gas, coal,and transmission capacity. Further, COD is responsible for developing or acquiringnew cogeneration, wind, geothermal, and hydro generating assets and makingportfolio optimization decisions. The results of all of these activities areincluded in the Generation segment.*

 

Our trading activities utilize a variety of instruments tomanage risk, earn trading revenue, and gain market information. Our tradingstrategies consist of shorter-term physical and financial trades in regionswhere we have assets and the markets that interconnect with those regions. Theportfolio primarily consists of physical and financial derivative instrumentsincluding forwards, swaps, futures, and options in various commodities. Thesecontracts meet the definition of trading activities and have been accounted forat fair value under Canadian GAAP. Changes in the fair value of the portfolioare recognized in income in the period they occur.

 

While tradingproducts are generally consistent between periods, positions held and resultingearnings impacts will vary due to current and forecasted external marketconditions. Positions for each region are established based on the marketconditions and the risk/reward ratio established for each trade at the timethey are transacted. Results, therefore, will vary regionally or by strategyfrom one reported period to the next.

 

A portion ofOM&A costs incurred within COD is allocated to the Generation segment basedon an estimate of operating expenses and an estimated percentage of resourcesdedicated to providing support and analysis. This fixed fee intersegmentallocation is represented as a cost recovery in COD and an operating expensewithin Generation.

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

40

 

Previously, werecorded revenues and related costs for contracts settled in real-time physicalmarkets on a gross basis. However, all of these contracts are held for trading,irrespective of the market in which they are settled. Therefore, we haveconcluded that it is more representative of the actual trading activities ofCOD to report the results of these contracts on a net basis.

 

Prior year balanceshave been reclassified to conform with the current year’s presentation, asshown below. Current year balances have been prepared in the following tableusing previously disclosed methodologies for information purposes only.

 
| **Year ended Dec. 31** | ** ** | **2007**   | ** ** | **2006** | ** ** | **2005** |   |
|-----------------------------|------------|------------|------------|----------|------------|----------|--------|
| Revenue                     | ** ** | **$**      | **272.9**  |     | $          | 184.6    |   | $ | 231.0 |   |
| Trading purchases           | ** ** | **(217.8** | **)**      | (118.9   | )          | (174.1   | )      |
| Net revenue                 | ** ** | **$**      | **55.1**   |     | $          | 65.7     |   | $ | 56.9 |   |

 

The results of the COD segment, with all trading resultspresented net, are as follows:

 
| **Year ended Dec. 31**                 | ** ** | **2007**       | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|---------------------------------------------|------------|----------------|------------|------------|------------|------------|------------|
| Gross margin                                | ** ** | **$**          | **55.1**   |       | $          | 65.7       |       | $ | 56.9 |   |
| Operations, maintenance and  administration | ** ** | **33.7 ** |       | 36.9  |       | 38.5  |       |
| Depreciation and amortization               | ** ** | **1.4**        |       | 1.3        |       | 1.7        |       |
| Intersegment cost allocation                | ** ** | **(27.3**      | **)**      | (27.8      | )          | (26.0      | )          |
| Operating expenses                          | ** ** | **7.8**        |       | 10.4       |       | 14.2       |       |
| Operating income                            | ** ** | **$**          | **47.3**   |       | $          | 55.3       |       | $ | 42.7 |   |

 

For the year ended Dec. 31,2007, gross margins decreased $10.6 million compared to the same period in 2006due to decreased gas and Eastern region trading margins as a result of naturalgas market volatility and the strengthening of the Canadian dollar relative tothe U.S. dollar.

 

For the year ended Dec. 31,2006, gross margins increased $8.8 million due to timing and management ofpositions in the western region, partially offset by lower margins in theEastern region.

 

OM&A costs for2007 decreased $3.2 million due to lower incentive costs as a result ofdecreased margins as well as lower project consulting expenses.

 

For the year ended Dec. 31,2006, OM&A costs decreased $1.6 million compared to the same period in 2005due to lower consulting costs, partially offset by increased trading stafflevels.

 

The intersegment cost allocations are consistent with priorcomparable periods.

 

**Value at Risk and Trading Positions**

VAR is the mostcommonly used metric employed to track the risk of trading positions. A VARmeasure gives, for a specific confidence level, an estimated maximum loss overa specified period of time.

 

VAR is the primarymeasure used to manage COD’s exposure to market risk resulting from tradingactivities. VAR is monitored on a daily basis, and is used to determine thepotential change in the value of our marketing portfolio over a three-dayperiod within a 95 per cent confidence level resulting from normal marketfluctuations. Stress tests are performed weekly on both earnings and VAR tomeasure the potential effects of various market events that could impactfinancial results, including fluctuations in market prices, volatilities ofthose prices, and the relationships between those prices.

 

We estimate VARusing the historical variance/covariance approach. Currently, there is nouniform energy industry methodology for estimating VAR. An inherent limitationof historical variance/covariance VAR is that historical information used inthe estimate may not be indicative of future market risk. See additionaldiscussion under commodity price risk in the Risk Management section.

 

**Net Interest Expense**
| **Year ended Dec. 31**      | ** ** | **2007**   | ** ** | **2006** | ** ** | **2005** | ** ** |
|----------------------------------|------------|------------|------------|----------|------------|----------|------------|
| Interest on long-term debt       | ** ** | **$**      | **144.7**  |     | $          | 155.5    |       | $ | 169.3 |   |
| Interest on short-term debt      | ** ** | **26.3**   |       | 12.7     |       | 14.9     |       |
| Interest on preferred securities | ** ** | **–** |       | 13.6     |       | 16.5     |       |
| Interest income                  | ** ** | **(31.7**  | **)**      | (13.3    | )          | (8.7     | )          |
| Capitalized interest             | ** ** | **(6.0**   | **)**      | –   |       | (3.4     | )          |
| Net interest expense             | ** ** | **$**      | **133.3**  |     | $          | 168.5    |       | $ | 188.6 |   |

 

For the year ended Dec. 31,2007, net interest expense decreased $35.2 million compared to the same periodin 2006 due to lower long-term debt balances, the strengthening of the Canadiandollar relative to the U.S. dollar, the redemption of preferred securities,higher interest on cash deposits, and interest capitalized related to assetsunder construction, partially offset by higher short-term debt balances andgains recorded on financial instruments in 2006.

 

For the year ended Dec. 31,2006, net interest expense decreased $20.1 million due to lower long-term debtbalances, higher interest on cash balances, and the strengthening of theCanadian dollar to the U.S. dollar, partially offset by the recognition ofgains on financial instruments in 2005.

 

 

**MANAGEMENT’S DISCUSSION AND ANALYSIS**

** **

**41**

 

**Gain on Sale of Assets**

As a result of thedecision to cease mining activities at the Centralia coal mine, all associatedmining and reclamation equipment was classified as being held for sale. Allequipment was recorded at the lower of net book value or anticipated realizedproceeds. These assets are included in the Generation segment.

 

During 2007, some ofthis equipment has been retained for reclamation activities and some wastransferred to the Highvale mine for use in production of coal inventory. Theequipment retained has been reclassified to property, plant, and equipment. Thedecision to retain equipment for use in reclamation activities at the Centraliacoal mine and in operations at the Highvale mine was arrived at as theeconomics of retaining these assets was greater than the potential cashproceeds from disposing of these assets. 

 

In 2006 we soldexcess turbines in inventory for net proceeds of $20.3 million, which equaledtheir net book value.

 

**Non–Controlling Interests**

 

*We own 50.01 percent of TA Cogen, which owns, operates, or has an interest in five gas-firedand one coal-fired generating facility with a total gross generating capacityof 814 MW.  A private investor owns theminority interest in TA Cogen. Since we own a controlling interest in TA Cogen,under Canadian GAAP, we consolidate the entire earnings, assets, andliabilities in relation to TA Cogen’s ownership of those assets.Non-controlling interests on the income statement and balance sheet relate tothe earnings and net assets attributable to TA Cogen that are not owned by us.On the statement of cash flow, cash paid to the minority shareholder of TACogen is shown as ‘Distributions to subsidiaries’ non-controlling interests’ inthe financing section.*

 

For the year ended Dec. 31, 2007, earnings attributableto non-controlling interests decreased $3.5 million due to lower margins atSheerness and Ottawa, partially offset by higher margins at Meridian.

 

In 2006, non-controlling interests increased $33.0 millionfrom the same period in 2005 due to the impairment recorded on TA Cogen’s valuein the Ottawa facility. Excluding the impairment charge, non-controllinginterests decreased $3.2 million compared to the same period in 2005 due tohigher earnings at TA Cogen in 2005.

 

**Equity Loss**

 

*As required under AccountingGuideline 15, Consolidation of Variable Interest Entities, of the CanadianInstitute of Chartered Accountants (“CICA”), our Mexican operations areaccounted for as equity subsidiaries. However, these plants are owned by us andmanaged as part of the Generation segment.*

 

The table below summarizes key information from theseoperations.

 
| **Year ended Dec. 31** | ** ** | **2007**   | ** ** | **2006** | ** ** | **2005** | ** ** |
|-----------------------------|------------|------------|------------|----------|------------|----------|------------|
| Availability (%)            | ** ** | **92.7**   |       | 90.8     |       | 93.4     |       |
| Production (GWh)            | ** ** | **3,084**  |       | 2,918    |       | 2,751    |       |
| Equity loss                 | ** ** | **$**      | **(49.5**  | **)**    | $          | (17.0    | )          | $ | (0.9 | ) |
| Capital expenditures        | ** ** | **$**      | **1.0**    |     | $          | 10.0     |       | $ | 13.1 |   |
| Operating cash flow         | ** ** | **$**      | **(3.3**   | **)**    | $          | (7.2     | )          | $ | 9.2 |   |
| Interest expense            | ** ** | **$**      | **27.4**   |     | $          | 31.6     |       | $ | 14.4 |   |
| **As at Dec. 31**      | ** ** | ** ** | ** ** | **2007** | ** ** | **2006** | ** ** |
| Total assets                | ** ** | ** ** |       | **$**    | **450.5**  |     | $          | 526.9 |   |
| Total liabilities           | ** ** | ** ** |       | **$**    | **368.7**  |     | $          | 404.1 |   |

 

For the year ended Dec. 31, 2007, availabilityincreased primarily due to lower planned outages at Campeche and Chihuahua andunplanned outages at Chihuahua. Availability decreased for the year ended Dec. 31,2006 compared to the same period in 2005 as a result of higher planned outagesat the Chihuahua plant.

 

For the year ended Dec. 31,2007, production increased 166 GWh due to higher customer demand at Chihuahuaand lower planned outages at Campeche and Chihuahua.

 

In 2006, productionincreased 167 GWh compared to 2005 due to increased customer demand, partiallyoffset by higher planned and unplanned outages.

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

42

 

As described in the ‘SignificantEvents’ section of this MD&A, on Oct. 1, 2007, the Mexican governmentenacted law introducing a flat tax system starting Jan. 1, 2008 and, as aresult, we have recorded a $28.2 million charge to equity losses and acorresponding reduction in investments reflecting the expected impact of thischange in law.

 

For the year ended Dec. 31, 2007, equity loss increased$32.5 million due to the income tax expense described above, lower margins, andincreased interest costs as a result of refinancing these subsidiaries in 2006,partially offset by the recognition of deferred financing fees and the lossincurred on unwinding a cross-currency swap in 2006 related to the refinancing.

 

For the year ended Dec. 31,2006, equity loss increased $16.1 million compared to 2005 due to recognitionof the deferred financing fees resulting from the repayment of non-recoursedebt and settlement of interest rate swaps.

 

We have initiated astrategic review of our Mexican operations and process to identify potentialbuyers for these assets. On Feb. 20, 2008, we announced the sale of ourMexican operations to InterGen for U.S.$303.5 million. Refer to the ‘SubsequentEvents’ section in this MD&A for further details.

 

**Income Taxes**

 

*Income tax expense under GAAP isbased on the earnings of the period, the jurisdiction in which the income isearned, and if there are any differences between how pre-tax income iscalculated under GAAP versus income tax law. Income tax rates and amountsdiffer based upon these factors. When calculating income tax expense, if thereis a difference from when an expense or revenue is recognized under eitheraccounting or income tax rules, we make an estimate of when in the future thisdifference will no longer be in effect and the anticipated income tax rate atthat time. These items are deductible or taxable temporary differences. We basethese tax rates upon the rates the government expects to be in effect when thesetemporary differences reverse.*

 

*Therefore, when a governmentannounces a change in future income tax rates, it will affect the anticipatedincome tax asset or liability that will appear in our financial statements. Wehave seen several large reductions in future tax expense as a result of theCanadian government reducing future tax rates.*

 

A reconciliation of income tax expense and effective taxrates is presented below:

 
| **Year ended Dec. 31**                            | ** ** | **2007**   | ** ** | **2006** | ** ** | **2005** | ** ** |
|--------------------------------------------------------|------------|------------|------------|----------|------------|----------|------------|
| Earnings (loss) before income taxes 1                  | ** ** | **$**      | **329.2**  |     | $          | (80.9    | )          | $ | 213.9 |   |
| Adjustments:                                           |       |       |       |     |       |     |       |
| Coal  inventory writedown                              | ** ** | **–** |       | 44.4     |       | –   |       |
| Mine  closure charges                                  | ** ** | **–** |       | 191.9    |       | –   |       |
| Asset  impairment charges                              | ** ** | –     |       | 130.0    |       | –   |       |
| Turbine  impairment                                    | ** ** | –     |       | 9.6      |       | –   |       |
| Change in  tax law in Mexico                           | ** ** | **28.2**   |       | –   |       | –   |       |
| Earnings before income taxes and other adjustments 1   | ** ** | **$**      | **357.4**  |     | $          | 295.0    |       | $ | 213.9 |   |
| Income tax prior to adjustment for rate change 1       | ** ** | **86.5**   |       | 61.2     |       | 52.6     |       |
| Income tax recovery on one time adjustments            | ** ** | –     |       | (131.7   | )          | –   |       |
| Income tax recovery from settlement of tax positions   | ** ** | **(18.4**  | **)**      | –   |       | (13.0    | )          |
| Change in tax rate related to prior periods            | ** ** | **(47.7**  | **)**      | (55.3    | )          | –   |       |
| Income tax expense (recovery) per financial statements | ** ** | **$**      | **20.4**   |     | $          | (125.8   | )          | $ | 39.6 |   |
| Net income                                             | ** ** | **$**      | **308.8**  |     | $          | 44.9     |       | $ | 174.3 |   |
| Effective tax rate (%) 2                               | ** ** | **24.2**   |       | 20.7     |       | 24.6     |       |

 

During 2007, wesettled certain taxation issues with the associated taxation authorities. As aresult, we recorded a future income tax recovery of $18.4 million related tothese items.

 

As a result of areduction in Canadian corporate income tax rates expected to apply to futuretax liabilities, income tax expense was reduced by $47.7 million for year endedDec. 31, 2007. The comparable figure for the year ended Dec. 31, 2006was $55.3 million.

 

Adjusting for theitems mentioned above, tax expense increased for the year ended Dec. 31,2007 from the same period in 2006 due to an increase in pre-tax income earningsand the effect of the change in mix of jurisdictions in which pre-tax income isearned.

 

 
| *1* | *Earnings before income  taxes and other adjustments, and income tax prior to adjustment for rate  changes, are not defined under Canadian GAAP.*R*efer to the Non-GAAP Measures section on  page 66 of this MD&A for a further discussion of this item,  including a reconciliation to net earnings.* |
|-----|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| *2* | *Effective tax rate is  defined as income taxes prior to adjustment for rate change, divided by  earnings before income taxes and other adjustments.*                                                                                                                                                           |

* *

* *

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

43

 

**Financial Position**

 

The following chart outlines significant changes in theconsolidated balance sheet from Dec. 31, 2006 to Dec. 31, 2007:

 
|                                                                          |   | **Increase/ ** | ** ** | ** **                                                                                                                                         |
|-------------------------------------------------------------------------------|--------|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                          |   | **(decrease**       | **)**      | **Explanation of change**                                                                                                                          |
|                                                                          |   |                |       |                                                                                                                                               |   |
| Cash  and cash equivalents                                                    |   | $                   | (14.7      | )                                                                                                                                                  | Refer  to Consolidated Statements of Cash Flows |
|                                                                          |   |                |       |                                                                                                                                               |
| Accounts  receivable                                                          |   | (71.9               | )          | Timing  of receipt of contractually scheduled payments                                                                                             |
|                                                                          |   |                |       |                                                                                                                                               |
| Inventory                                                                     |   | (22.9               | )          | Lower  inventory balances at Centralia Thermal                                                                                                     |
|                                                                          |   |                |       |                                                                                                                                               |
| Restricted  cash                                                              |   | (105.4              | )          | Decrease  in exchange rates of $48.6 and return of funds to TransAlta of $56.8                                                                     |
|                                                                          |   |                |       |                                                                                                                                               |
| Investments                                                                   |   | (29.9               | )          | Net  loss and debt repayments by equity subsidiaries                                                                                               |
|                                                                          |   |                |       |                                                                                                                                               |
| Long-term  receivables                                                        |   | (26.6               | )          | Revised  estimate and reclassification of the current portion to accounts receivable                                                               |
|                                                                          |   |                |       |                                                                                                                                               |
| Risk  management assets                                                       |   | 77.9                |       | Adopting  new accounting standards on financial instruments                                                                                        |
| (current  and long-term)                                                      |   |                |       | and  from price changes                                                                                                                            |
|                                                                          |   |                |       |                                                                                                                                               |
| Property,  plant and equipment, net                                           |   | 75.4                |       | Capital  additions, partially offset by the strengthening of the Canadian dollar  compared to the U.S. dollar and depreciation expense             |
|                                                                          |   |                |       |                                                                                                                                               |
| Goodwill                                                                      |   | (12.6               | )          | Strengthening  of the Canadian dollar compared to the U.S. dollar                                                                                  |
|                                                                          |   |                |       |                                                                                                                                               |
| Assets  held for sale, net                                                    |   | (80.7               | )          | Assets  retained for use in reclamation activities and for use in operations at the  Highvale mine combined with sale of other assets              |
|                                                                          |   |                |       |                                                                                                                                               |
| Intangible  assets                                                            |   | (82.9               | )          | Amortization  expense and the strengthening of the Canadian dollar                                                                                 |
|                                                                          |   |                |       |                                                                                                                                               |
| Short-term  debt                                                              |   | 288.9               |       | Net  increase in short-term debt                                                                                                                   |
|                                                                          |   |                |       |                                                                                                                                               |
| Accounts  payable and accrued liabilities                                     |   | 30.2                |       | Timing  of operational payments and the strengthening of the Canadian dollar                                                                       |
|                                                                          |   |                |       |                                                                                                                                               |
| Recourse  long-term debt  (including current portion)                         |   | (268.8              | )          | Scheduled  debt payments and strengthening of the Canadian dollar compared to the U.S.  dollar                                                     |
|                                                                          |   |                |       |                                                                                                                                               |
|                                                                          |   |                |       |                                                                                                                                               |
| Non-recourse  long-term debt   (including current portion)                    |   | (92.7               | )          | Scheduled  debt payments and strengthening of the Canadian dollar compared to the U.S.  dollar                                                     |
|                                                                          |   |                |       |                                                                                                                                               |
| Risk  management liabilities   (current and long-term)                        |   | 262.9               |       | Result  of adopting new accounting standards on financial instruments and from price  changes                                                      |
|                                                                          |   |                |       |                                                                                                                                               |
| Deferred  credits and other long-term liabilities (including current portion) |   | (81.8               | )          | Normal  accretion expense less liabilities settled, payment of Centralia coal mine  closure costs, and revised ARO estimate                        |
|                                                                          |   |                |       |                                                                                                                                               |
| Net  future income tax liabilities (including current portions)               |   | (92.7               | )          | Tax  effect of adjustments related to new accounting standards on financial  instruments and current year provisions                               |
|                                                                          |   |                |       |                                                                                                                                               |
| Non-controlling  interests                                                    |   | (38.6               | )          | Distributions  in excess of earnings                                                                                                               |
|                                                                          |   |                |       |                                                                                                                                               |
| Preferred  securities   (including current portion)                           |   | (175.0              | )          | Preferred  securities redeemed in the first quarter of 2007                                                                                        |
|                                                                          |   |                |       |                                                                                                                                               |
| Shareholders’  equity                                                    |   | (129.4              | )          | Adoption  of new accounting standards, shares redeemed under the NCIB, and dividends  declared, partially offset by net earnings and shares issued |

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

44

 

**Financial Instruments**

 

On Jan. 1, 2007, we adopted four newaccounting standards that were issued by the CICA: Section 1530, *Comprehensive Income;*Section 3855, *FinancialInstruments – Recognition and Measurement;*Section 3861, *Financial Instruments – Disclosure and Presentation;*and Section 3865,*Hedges*. We adopted these standardsretroactively with an adjustment of opening accumulated other comprehensiveincome (“AOCI”).

 

The adoption of these new standardsrequire us to “fair value” virtually all of our financial instruments, even insituations where hedge accounting is permitted. Prior to the adoption of thesestandards, only financial instruments where we were not permitted or did notelect to use hedge accounting were recorded at their fair values with changesin those values flowing directly through earnings.

 

The table below summarizes the current and prior accountingtreatment of our financial instruments:

 
|                          |   | **Previous accounting treatment**                                      | ** ** | **Current accounting treatment**                                                                   |
|-------------------------------|--------|------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------|
| Energy trading contracts      |   | Fair value with changes in value recorded in earnings                  |       | Fair value with changes in value recorded in earnings                                              |
|                          |   |                                                                   |       |                                                                                               |
| Electricity  supply contracts |   | Settlement  accounting                                                 |       | Settlement  accounting                                                                             |
|                          |   |                                                                   |       |                                                                                               |
| Commodity-based  contracts    |   | Settlement  accounting                                                 |       | Fair  value with changes in value recorded in OCI; OCI reverses to earnings when  contract settles |
| Net investment hedges         |   | Fair value with changes recorded in cumulative translation  adjustment |       | Fair value with changes recorded in OCI                                                            |
|                          |   |                                                                   |       |                                                                                               |
| Interest  rate swaps          |   | Settlement  accounting                                                 |       | Fair  value with changes recorded in earnings                                                      |
|                          |   |                                                                   |       |                                                                                               |
| Foreign  exchange forwards    |   | Fair  value with changes recorded in asset                             |       | Fair  value with changes recorded in asset                                                         |

 

The most significant change related to the adoption of thesenew accounting standards is the requirement to fair value certain contractualpositions related to our generating assets that have been designated as hedges.These positions were formerly accounted for on a settlement basis whererevenues were recorded when the contracts were settled. The new standardsrequire these contracts to be recorded at fair value at each balance sheet datewith any change in fair value recorded in OCI. Fair values are based on currentmarket curves and therefore fluctuate from period to period as prices change.When these contracts are ultimately settled, the fair value is removed from thebalance sheet along with the related balance in OCI and revenue is recorded andcash is received.

 

Therefore, at the end of each period, the balance in AOCIand the corresponding risk management liability represents the value of ourcontract positions for our generating assets. However, though we have presentedthese balances accurately under GAAP, it does not fully represent theunderlying economic reality and rationale. First, the amount that we willreceive in the future when we deliver electricity under these contracts doesnot change; we will still receive the amount for which we have contracted.Second, this liability may imply that we could exit out of these contracts,which is often not possible in the short term due to market illiquidity. Third,these contracts have been entered into to seek stable cash flows, which is animportant factor in maintaining investment grade credit ratios, which are a keyelement of our strategy. While we could leave these positions unhedged, wewould be exposed to market volatility that would directly affect our actualcash flows. Finally, some of these contracts were entered into several yearsago; given the movements in forward prices as these contracts are renewed theywill be at higher prices and therefore reduce the amount recorded in AOCI.

 

To present comparable 2006 balance sheet figures, prior yearbalances for foreign currency and interest rate financial instruments werereclassified. Short-term and long-term risk management assets were increased by$11.2 million and $43.2 million respectively, and current and long-termportions of other assets were reduced by the corresponding amounts. Short-termand long-term risk management liabilities were increased by $2.1 million and$13.0 million respectively, and current and long-term portions of deferredcredits and other long-term liabilities were decreased by the correspondingamounts. As required under Section 1530, cumulative translation loss of$64.5 million was reclassified as the opening balance of AOCI.

 

The majority of the changes in the values recorded in riskmanagement assets and liabilities were reflected in the carrying value of cashflow hedges included in COD risk management assets and liabilities as well asin financial instruments used as hedges of debt and net investment inself-sustaining foreign subsidiaries. The impact of adopting these standards toour Dec. 31, 2006 balance sheet is outlined below:

 
|                                                      |   | **Price risk assets** | ** ** | **Price risk liabilities** | ** ** | ** **  |       |
|-----------------------------------------------------------|--------|-----------------------|------------|----------------------------|------------|-------------|------------|
|                                                      |   | **Current**           | ** ** | **Long-term**              | ** ** | **Current** | ** ** | **Long-term** | ** ** | **Net** |   |
| Net risk management assets  (liabilities)                 |   |                  |       |                       |       |        |       |   |   |   |   |
| outstanding at Dec. 31, 2006 –*as  reported**1* |   | $                     | 72.2       |                       | $          | 65.1        |       | $ | (32.4 | ) | $ | (14.0 | ) | $ | 90.9 |   |
|                                                      |   |                  |       |                       |       |        |       |   |   |   |   |
| Fair value of COD net risk management assets              |   |                  |       |                       |       |        |       |   |   |   |   |
| (liabilities) outstanding at Jan. 1, 2007            |   | 99.6                  |       | 77.7                       |       | (122.2      | )          | (276.3 | ) | (221.2 | ) |
| Fair value of hedges of debt and  net investment          |   |                  |       |                       |       |        |       |   |   |   |   |
| of foreign subsidiaries at  Jan. 1, 2007             |   | 12.6                  |       | 61.1                       |       | (3.9        | )          | (22.1 | ) | 47.7 |   |
| Total fair values                                         |   | $                     | 112.2      |                       | $          | 138.8       |       | $ | (126.1 | ) | $ | (298.4 | ) | $ | (173.5 | ) |

 
| *1* | *Previously reported  balances have been reclassified* (Note 1  (T)). |
|-----|-----------------------------------------------------------------------|

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

** **

**45**

 

The gross and net of tax impact of adopting these standardsto the opening balance of AOCI are outlined below:

 
| Net risk management assets outstanding at Dec. 31,  2006 – *as reported*            |   | $      | 90.9   |   |
|-----------------------------------------------------------------------------------------------|--------|--------|--------|--------|
|                                                                                          |   |   |   |
| Fair value of COD net risk management liabilities  outstanding at Jan. 1, 2007           |   | (221.2 | )      |
| Fair value of hedges of debt and  net investment of foreign subsidiaries at Jan. 1, 2007 |   | 47.7   |   |
| Total fair value of risk management  liabilities                                              |   | (173.5 | )      |
| Change in fair value                                                                          |   | (264.4 | )      |
| Tax                                                                                           |   | (87.1  | )      |
| Adjustment to opening Accumulated  Other Comprehensive Loss from fair values                  |   | $      | (177.3 | )      |
| Cumulative translation adjustment  at Dec. 31, 2006                                      |   | (64.5  | )      |
| Opening balance, Accumulated Other  Comprehensive Loss                                        |   | $      | (241.8 | )      |

 

The impact of these new accounting standards on our riskmanagement assets and liabilities is described in more detail below along withthe changes in the values of these assets and liabilities in the currentperiod.

 

Section 3861 outlines disclosure requirements that aredesigned to enhance financial statement users’ understanding of thesignificance of financial instruments to an entity’s financial position,performance, and cash flows. The presentation requirements outlined in this Section havebeen adopted to our financial instruments presentation and related disclosure.

 

**Risk Management Assets and Liabilities**

 

*Wehave two types of risk management assets and liabilities: (1) those thatare used in the COD and Generation segments in relation to Energy Tradingactivities, commodity hedging activities, and other contracting activities and (2) thoseused in the hedging of debt and the net investment in self-sustaining foreignsubsidiaries.*

 

**Consolidated**

The overall balance reported in risk management assets andliabilities is shown below:

 
| **As at Dec. 31**                                | ** ** | ** **  | ** ** | **2007**   | ** ** | ** ** | ** ** | ** **  | ** ** | **2006**  | ** ** | ** ** | ** ** |
|-------------------------------------------------------|------------|-------------|------------|------------|------------|------------|------------|-------------|------------|-----------|------------|------------|------------|
|                                                  | ** ** | **Energy**  | ** ** | ** ** | ** ** | ** ** | ** ** | **Energy**  | ** ** |      |       |       |       |
| **Balance Sheet – Totals**                       | ** ** | **Trading** | ** ** | **Other**  | ** ** | **Total**  | ** ** | **Trading** | ** ** | **Other** | ** ** | **Total**  |       |
| Risk management assets                                |       |        |       |       |       |       |       |        |       |      |       |       |       |
| Current                                               | ** ** | **$**       | **34.0**   | ** ** | **$**      | **59.2**   | ** ** | **$**       | **93.2**   |      | $          | 61.0       |       | $ | 11.2 |   | $ | 72.2 |   |
| Long-term                                             | ** ** | **(4.1**    | **)**      | **126.1**  | ** ** | **122.0**  |       | 21.9        |       | 43.2      |       | 65.1       |       |
| Risk management liabilities                           |       |        |       |       |       |       |       |        |       |      |       |       |       |
| Current                                               | ** ** | **(86.5**   | **)**      | **(18.6**  | **)**      | **(105.1** | **)**      | (30.3       | )          | (2.1      | )          | (32.4      | )          |
| Long-term                                             | ** ** | **(192.5**  | **)**      | **(11.7**  | **)**      | **(204.2** | **)**      | (1.0        | )          | (13.0     | )          | (14.0      | )          |
| Net risk management (liabilities)  assets outstanding | ** ** | **$**       | **(249.1** | **)**      | **$**      | **155.0**  | ** ** | **$**       | **(94.1**  | **)**     | $          | 51.6       |       | $ | 39.3 |   | $ | 90.9 |   |

 

The breakdown of the two components and their associatedmovements are described below.

 

**1. Energy Trading**

Our Energy Trading risk management assets and liabilitiesrepresent the fair value of unsettled (unrealized) COD transactions and certainGeneration contracting activities that are accounted for on a fair value basis.Contracts qualifying for hedge accounting are identified as “Hedges.” All othercontracts are identified as “Non-hedges.” With the exception of physicaltransmission contracts, the fair value of all Energy Trading activities isbased on quoted market prices or model valuations.

 

The following table shows the balance sheet classificationsfor Energy Trading risk management assets and liabilities separately by sourceof valuation:

 
| **As at Dec. 31**                               | ** ** | ** ** | ** ** | **2007**       | ** ** | ** ** | ** ** | **2006**             | ** ** |
|------------------------------------------------------|------------|------------|------------|----------------|------------|------------|------------|----------------------|------------|
|                                                 | ** ** | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** | **Total related to** | ** ** |
| **Balance Sheet – Energy Trading**              | ** ** | **Hedges** | ** ** | **Non-hedges** | ** ** | **Total**  | ** ** | **Energy Trading**   | ** ** |
| Risk management assets                               |       |       |       |           |       |       |       |                 |       |
| Current                                              | ** ** | **$**      | **12.3**   | ** **     | **$**      | **21.7**   | ** ** | **$**                | **34.0**   |   |   $ | 61.0 |   |
| Long-term                                            | ** ** | **(4.5**   | **)**      | **0.4**        | ** ** | **(4.1**   | **)**      | 21.9                 |       |
| Risk management liabilities                          |       |       |       |           |       |       |       |                 |       |
| Current                                              | ** ** | **(76.7**  | **)**      | **(9.8**       | **)**      | **(86.5**  | **)**      | (30.3                | )          |
| Long-term                                            | ** ** | **(191.9** | **)**      | **(0.6**       | **)**      | **(192.5** | **)**      | (1.0                 | )          |
| Net risk management (liabilities) assets outstanding | ** ** | **$**      | **(260.8** | **)**          | **$**      | **11.7**   | ** ** | **$**                | **(249.1** | **)** |   $ | 51.6 |   |

 

 

TRANSALTACORPORATION   Annual Report 2007

 

46

 

As a result of adopting new accounting standards on financialinstruments, as described on page 45, risk management assets andliabilities receiving hedge accounting are recorded at fair value. The impactupon previously reported values is shown in the table below along with thechanges in those values during 2007:

 
| **As at Dec. 31**                                    | ** ** | **Hedges**     | ** ** | **Non-hedges** | ** ** | ** **     | ** ** |
|-----------------------------------------------------------|------------|----------------|------------|----------------|------------|----------------|------------|
| ** **                                                | ** ** | **Fair value** | ** ** | **Fair value** | ** ** | **Fair value** | ** ** | **Fair value** | ** ** | ** ** | ** ** |
| **Change in fair value of net assets (liabilities)**      | ** ** | **(market)**   | ** ** | **(model)**    | ** ** | **(market)**   | ** ** | **(model)** | ** ** | **Total** | ** ** |
| Net risk management assets  (liabilities)                 |       |           |       |           |       |           |       |   |   |   |   |
| outstanding at Dec. 31, 2006 – *as  reported*   |       | $              | –     |           | $          | –         |       | $ | 52.7 |   | $ | (1.1 | ) | $ | 51.6 |   |
|                                                      |       |           |       |           |       |           |       |   |   |   |   |
| Net risk management liabilities                           |       |           |       |           |       |           |       |   |   |   |   |
| outstanding at Jan. 1, 2007 – *fair value*1     |       | (253.0         | )          | (19.8          | )          | 52.7           |       | (1.1 | ) | (221.2 | ) |
| Contracts  realized, amortized or                         |       |           |       |           |       |           |       |   |   |   |   |
| settled  during the period                                |       | 47.9           |       | 4.5            |       | (31.9          | )          | (3.9 | ) | 16.6 |   |
| Changes in  values attributable to market price           |       |           |       |           |       |           |       |   |   |   |   |
| and other  market changes                                 |       | (59.9          | )          | 0.9            |       | 19.9           |       | (1.8 | ) | (40.9 | ) |
| New  contracts entered into during                        |       |           |       |           |       |           |       |   |   |   |   |
| the current  period                                       |       | (21.6          | )          | –         |       | (9.2           | )          | 8.6 |   | (22.2 | ) |
| Changes in  foreign exchange values                       |       | 22.9           |       | –         |       | (4.1           | )          | (0.2 | ) | 18.6 |   |
| Changes in  values attributable to discontinued           |       |           |       |           |       |           |       |   |   |   |   |
| hedge  treatment of certain contracts                     |       | 17.3           |       | –         |       | (17.3          | )          | – |   | – |   |
| **Net risk management  (liabilities) assets**             | ** ** | ** **     | ** ** | ** **     | ** ** | ** **     | ** ** | ** ** | ** ** | ** ** | ** ** |
| **outstanding at Dec. 31, 2007 – *fair value*** | ** ** | **$**          | **(246.4** | **)**          | **$**      | **(14.4**      | **)**      | **$** | **10.1** | ** ** | **$** | **1.6** | ** ** | **$** | **(249.1** | **)** |

** **

For the year ended Dec. 31, 2007, the fair value of ournet risk management liabilities associated with hedge positions decreased $12.0million compared to Dec. 31, 2006 primarily due to value changesassociated with contracts in existence at both Dec. 31, 2006 and Dec. 31,2007, and the change in value of contracts settled in 2007. Changes in net riskmanagement assets and liabilities for hedge positions are reflected within thegross margin of the Generation business segment to the extent transactions havesettled during the period or ineffectiveness exists in the hedgingrelationship. To the extent these hedges remain effective and qualify for hedgeaccounting, the change in value of existing and new contracts will be deferredin OCI until the delivery date of the underlying product and contractsettlement occurs.

 

For the year ended Dec. 31, 2007, the fair value of ournet risk management assets associated with non-hedge positions decreased $39.9million compared to Dec. 31, 2006 primarily due to the value of contractssettled during the 2007, value changes associated with contracts in existenceat both Dec. 31, 2006 and Dec. 31, 2007, and the value of contractsno longer receiving hedge accounting. To the extent applicable, changes in netrisk management assets and liabilities for non-hedge positions are reflectedwithin the gross margin of both the COD and the Generation business segments.

 

The anticipated timing of settlement (cash received) of theabove contracts over each of the next five calendar years and thereafter are asfollows:

 
| ** **                         | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **2013 and thereafter** | ** ** | **Total** | ** ** |
|------------------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|-------------------------|------------|-----------|------------|
| Hedges                             |       |     |       |     |       |     |       |     |       |     |       |                    |       |      |       |
| Fair value based  on market prices |       | $        | (61.1      | )        | $          | (92.8    | )          | $        | (65.6      | )        | $          | (25.8                   | )          | $         | (1.1       | ) | $ | – |   | $ | (246.4 | ) |
| Fair value based   on models       |       | (3.9     | )          | (5.3     | )          | (3.9     | )          | (1.3     | )          | –   |       | –                  |       | (14.4     | )          |
|                               |       | $        | (65.0      | )        | $          | (98.1    | )          | $        | (69.5      | )        | $          | (27.1                   | )          | $         | (1.1       | ) | $ | – |   | $ | (260.8 | ) |
| Non-hedges                         |       |     |       |     |       |     |       |     |       |     |       |                    |       |      |       |
| Fair value based  on market prices |       | $        | 9.8        |     | $          | 0.3      |       | $        | –     |     | $          | –                  |       | $         | –     |   | $ | – |   | $ | 10.1 |   |
| Fair value based   on models       |       | 2.0      |       | (0.4     | )          | –   |       | –   |       | –   |       | –                  |       | 1.6       |       |
|                               |       | $        | 11.8       |     | $          | (0.1     | )          | $        | –     |     | $          | –                  |       | $         | –     |   | $ | – |   | $ | 11.7 |   |
| Grand total                        |       | $        | (53.2      | )        | $          | (98.2    | )          | $        | (69.5      | )        | $          | (27.1                   | )          | $         | (1.1       | ) | $ | – |   | $ | (249.1 | ) |

 

Non-hedge transactions extending past 2008 are generallyGeneration asset-backed contracts that do not qualify for hedge accounting andhave a low risk profile including long-term fixed for floating power swaps andheat rate swaps. Our Energy Trading activities are mainly transactions under 18months in duration, thereby reducing credit risk and working capitalrequirements compared to longer term transactions.

 

 
| *1* | *As a result of adopting  new accounting standards* (Note  1(T)). |
|-----|-------------------------------------------------------------------|

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

47

 

**2. Other Risk Management Assetsand Liabilities**

The following table shows the balance sheet classificationsfor other risk management assets and liabilities separately by source ofvaluation:

 
| **As at Dec. 31**                                | ** ** | ** ** | ** ** | **2007**       | ** ** | ** ** | ** ** | **2006**          | ** ** |
|-------------------------------------------------------|------------|------------|------------|----------------|------------|------------|------------|-------------------|------------|
|                                                  | ** ** | ** ** | ** ** | ** **     | ** ** | ** ** |       | **Total related** |       |
|                                                  | ** ** | ** ** | ** ** | ** **     | ** ** | ** ** |       | **to non-Energy** |       |
| **Balance Sheet – Other**                        | ** ** | **Hedges** | ** ** | **Non-hedges** | ** ** | **Total**  |       | **Trading**       |       |
| Risk management assets                                | ** ** | ** ** | ** ** | ** **     | ** ** | ** ** |       |              |       |
| Current                                               | ** ** | **$**      | **56.9**   | ** **     | **$**      | **2.3**    | ** ** | **$**             | **59.2**   |   | $ | 11.2 |   |
| Long-term                                             | ** ** | **126.1**  | ** ** | **–**     | ** ** | **126.1**  |       | 43.2              |       |
| Risk management liabilities                           |       |       |       |           |       |       |       |              |       |
| Current                                               | ** ** | **(16.0**  | **)**      | **(2.6**       | **)**      | **(18.6**  | **)**      | (2.1              | )          |
| Long-term                                             | ** ** | **1.2**    | ** ** | **(12.9**      | **)**      | **(11.7**  | **)**      | (13.0             | )          |
| Net risk management assets  (liabilities) outstanding | ** ** | **$**      | **168.2**  | ** **     | **$**      | **(13.2**  | **)**      | **$**             | **155.0**  |   | $ | 39.3 |   |

 

As a result of adopting new accounting standards onfinancial instruments, risk management assets and liabilities receiving hedgeaccounting were recorded at fair value. The impact upon previously reportedvalues is shown below along with changes in those values during 2007:

 
| ** **                                                                                            | ** ** | **Hedges** | ** ** | **Non-hedges** | ** ** | **Total** | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|------------|------------|----------------|------------|-----------|------------|
| Net other risk management assets  (liabilities) at Dec. 31, 2006 – *as reported*            |       | $          | 50.1       |           | $          | (10.8     | )          | $ | 39.3 |   |
| Net other risk management assets  (liabilities) at Jan. 1, 2007 –*fair value*1              |       | 58.0       |       | (10.3          | )          | 47.7      |       |
| Contracts  realized, amortized or settled during the period                                           |       | (39.5      | )          | (1.3           | )          | (40.8     | )          |
| Changes in  values attributable to market price and other market changes                              |       | 112.0      |       | (1.6           | )          | 110.4     |       |
| New  contracts entered into during the current period                                                 |       | 37.7       |       | —         |       | 37.7      |       |
| Net other risk management assets (liabilities) outstanding  at Dec. 31, 2007 – *fair value* |       | $          | 168.2      |           | $          | (13.2     | )          | $ | 155.0 |   |

 

For the year ended Dec. 31, 2007, the fair value of ournet risk management liabilities associated with non-hedge positions increased$2.9 million compared to Dec. 31, 2006 primarily due to market valuechanges. Changes in net risk management assets and liabilities for non-hedgepositions are reflected within interest expense.

 

For the year ended Dec. 31, 2007, the fair value of ournet risk management assets associated with hedge positions increased $110.2million compared to Dec. 31, 2006 primarily due to market value changes.Changes in net risk management assets and liabilities for hedge positions arereflected within interest expense to the extent transactions have settledduring the period or ineffectiveness exists in the hedging relationship. To theextent these hedges remain effective and qualify for hedge accounting, thechange in value of existing and new contracts will be deferred in OCI untilsettlement of the instrument, change in ownership, liquidation or reduction inthe net investments of the foreign operation, or financial instrument beinghedged.

 

The anticipated timing of settlement (cash received) of theabove contracts over each of the next five calendar years and thereafter are asfollows:

 
|       |   | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **2013 and  thereafter** | ** ** | **Total** | ** ** |
|------------|--------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|--------------------------|------------|-----------|------------|
| Hedges     |   | $        | 41.0       |     | $          | 72.4     |       | $        | 24.0       |     | $          | 10.9                     |       | $         | 4.1        |   | $ | 15.8 |   | $ | 168.2 |   |
| Non-hedges |   | (0.4     | )          | (12.8    | )          | –   |       | –   |       | –   |       | –                   |       | (13.2     | )          |
|       |   | $        | 40.6       |     | $          | 59.6     |       | $        | 24.0       |     | $          | 10.9                     |       | $         | 4.1        |   | $ | 15.8 |   | $ | 155.0 |   |

 

**Employee ShareOwnership**

We employ a variety of stock-based compensation plans toalign employee and corporate objectives. At Dec. 31, 2007, 1.2 millionoptions to purchase our common shares were outstanding, with 0.8 millionexercisable at the reporting date. At Dec. 31, 2006, 2.2 million optionsto purchase our common shares were outstanding, with 1.4 million exercisable atthe reporting date. There is no impact on diluted EPS as per *Note 23* to the consolidated financial statements.

 

Under the terms of the Performance Share Ownership Plan (“PSOP”),certain employees receive grants which, after three years, make them eligibleto receive a set number of common shares or cash equivalent plus dividendsthereon based upon our performance relative to companies comprising theStandard & Poor’s (“S&P”)/TSX composite total index. After threeyears, once PSOP eligibility has been determined, 50 per cent of the commonshares may be released to the participant, while the remaining 50 per cent willbe held in trust for one additional year. At Dec. 31, 2007, there were 1.0million PSOP awards outstanding (2006 – 1.2 million). There is no impact ondiluted EPS as per *Note 23* to theconsolidated financial statements.

 

Under the terms of the Employee Share Purchase Plan, weextend an interest-free loan to our employees below executive level for up to30 per cent of the employee’s base salary for the purchase of our common sharesfrom the open market. The loan is repaid over a three-year period by theemployee through payroll deductions unless the shares are sold, at which pointthe loan becomes due on demand. At Dec. 31, 2007, 0.7 million shares hadbeen purchased by employees under this program (2006 – 0.6 million). Thisprogram is not available to officers and senior management.

 

 
| *1* | *As a result of adopting  new accounting standards*(Note  1(T)). |
|-----|------------------------------------------------------------------|

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

48

 

 

**EmployeeFuture Benefits**

We have registered pension plans in Canada and the U.S.covering substantially all employees of the Corporation, its domesticsubsidiaries, and specific named employees working internationally. These planshave defined benefit and defined contribution options. In Canada, there is asupplemental defined benefit plan for Canadian-based defined contributionmembers whose annual earnings exceed the Canadian income tax limit. The definedbenefit option of the registered pension plan ceased for new employees on June 30,1998. The latest actuarial valuations of the registered and supplementalpension plans were as at Dec. 31, 2006.

 

We provide other health and dental benefits to the age of 65for both disabled members (other post-employment benefits) and retired members(other post-retirement benefits). The last actuarial valuation of these planswas conducted at Dec. 31, 2007.

 

The supplemental pension plan is an obligation of theCorporation. We are not obligated to fund the supplemental plan but areobligated to pay benefits under the terms of the plan as they come due. We haveposted a letter of credit in the amount of $48.2 million to secure theobligations under the supplemental plan. Refer to *Note 33*to the consolidated financial statements.

 

**Statementsof Cash Flows**

 
| **Year ended Dec. 31**         | ** ** | **2007**                                | ** ** |   |       | **2006**   | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | **Explanation of change** |   |
|-----------------------------------------------|------------|-----------------------------------------|------------|--------|------------|------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|---------------------------|--------|
| Cash and cash equivalents,  beginning of year | ** ** | **$     65.6** | ** ** |   | $          | 79.3       | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |                      |   |
| Provided by  (used in):                       |       | ** **                              |       |   | ** ** |       |       |
|                                          |       | ** **                              |       |   | ** ** |       |       |
| Operating  activities                         | ** ** | **847.2**                               | ** ** |   | 489.6      | ** ** | ** ** | In 2007, cash  inflows were due to cash earnings of $781.5 million and favourable change in  working capital of $65.7 million, due to the timing of collections of  revenues.

 

In 2006, cash  inflows were due to timings of collections from customers, and lower cash  earnings.                                                                                                                                                                                                                                                                                                                                                                                                                                  |                      |
|                                          |       | ** **                              |       |   | ** ** |       |       |
| Investing  activities                         | ** ** | **(410.1**                              | **)**      |   | (261.3     | )          | ** ** | In 2007, cash  outflows were primarily due to additions of property, plant and equipment of  $599.1 million and equity investment of $19.6 million, partially offset by  realized gains on financial instruments of $107.0 million, proceeds on sale  of property, plant and equipment at $46.9 million, and reduction in  restricted cash of $56.8 million.

 

In 2006, cash  outflows were related to capital expenditures of $223.7 million and an  increase in restricted cash of $333.1 million, partially offset by a decrease  in equity investments of $226.4 million, realized gains on net investment  hedges of $53.9 million, and proceeds on sale of assets of $29.4 million.                            |                      |
|                                          |       | ** **                              |       |   | ** ** |       |       |
| Financing  activities                         | ** ** | **(443.8**                              | **)**      |   | (243.2     | )          | ** ** | In 2007, cash  outflows were due to dividends on common shares of $204.8 million, net  repayment of long-term debt of $221.6 million, redemption of preferred  securities of $175.0 million, distributions paid to non-controlling interests  of $86.5 million, and repurchase of common shares under the NCIB of $74.9  million, partially offset by an increase in short-term debt of $288.9  million.

 

In 2006, the cash  used in financing activities increased due to repayment of long-term debt of  $396.7 million, payment of distributions to non-controlling interests of  $74.4 million, and dividend payments of $133.9 million, partially offset by  an increase in short-term debt of $348.1 million. |                      |
|                                          |       | ** **                              |       |   | ** ** |       |       |
| Translation of  foreign currency cash         | ** ** | **(8.0**                                | **)**      |   | 1.2        | ** ** | ** ** |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |                      |
| Cash and  cash equivalents,  end of year      | ** ** | **$     50.9** | ** ** |   | $          | 65.6       |       | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |                      |   |
|                                               |            |                                         |            |        |            |            |            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |                           |        |  |

 

 
| MANAGEMENT’S  DISCUSSION AND ANALYSIS

 

49 |
|--------------------------------------------------------|

 

 
| **Year ended Dec. 31**                    |   | **2006**                                  |   |   |                                      | **2005**   | ** ** |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | **Explanation** |   |
|------------------------------------------------|--------|-------------------------------------------|--------|--------|-------------------------------------------|------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-----------------|--------|
| Cash and  cash equivalents,  beginning of year |   | $      79.3 |   |   | $                                         | 101.2      | ** ** |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |   |
| Provided by (used in):                         |   |                                      |   |   |                                      | ** ** |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |
| Operating activities                           |   | 489.6                                     |   |   | 619.8                                     | ** ** |       | In 2006,  cash inflows were due to timings of collections from customers, and lower  cash earnings.

 

In 2005, cash inflows were due to  increased cash earnings offset by higher working capital requirements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |            |
| Investing  activities                          |   |                                      |   |   |                                      |       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |
|                                           |   | (261.3                                    | )      |   | (242.5                                    | )          |       | In 2006, cash outflows were related  to capital expenditures of $223.7 million and an increase in restricted cash  of $333.1 million, partially offset by a decrease in equity investments of  $226.4 million, realized gains on net investment hedges of $53.9 million, and  proceeds on sale of assets of $29.4 million.

 

In 2005,  capital expenditures of $325.9 million were offset by realized gains on net  investment hedges of $89.8 million.                                                                                                                                                                                                                                                           |            |
| Financing  activities                          |   |                                      |   |   |                                      |       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |
|                                           |   | (243.2                                    | )      |   | (396.3                                    | )          |       | In 2006,  the cash used in financing activities increased due to repayment of long-term  debt of $396.7 million, payment of distributions to non-controlling interests  of $74.4 million, and dividend payments of $133.9 million, partially offset  by an increase in short-term debt of $348.1 million.

 

In 2005,  cash outflows were due to the redemption of preferred securities of $300.0  million, dividends on common shares of $99.2 million, distribution to subsidiaries’  non-controlling interests of $77.5 million, repayment of long-term debt of  $139.3 million, and repayment of short-term debt of $23.6 million, partially  offset by the issuance of long-term debt of $200.0 million. |            |
| Translation of foreign currency cash           |   | 1.2                                       |   |   | (2.9                                      | )          |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |
| Cash and cash equivalents,  end of year        |   | $      65.6 |   |   | $      79.3 | ** ** |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |            |

 

**Operating********Activities**

 

For the year ended Dec. 31, 2007, we paid $24.2 millionof costs related to the closure of the Centralia coal mine.

 

**Investing********Activities**

** **

In 2007, we incurred $228.7 million in capital expendituresrelating to the Kent Hills, Sundance Unit 4 uprate, and Keephills 3 projects.As well, we incurred $91.7 million in capital expenditures related to the railhandling and plant modifications at Centralia Thermal.

 

For the year ended Dec. 31, 2007, we realized $15.7million from the sale of assets relating to our Centralia coal mine.

 

**Liquidity********and********Capital********Resources**

 

*Liquidityrisk arises from our ability to meet general funding needs, engage in tradingand hedging activities, and manage the assets, liabilities and capitalstructure of the Corporation. Liquidity risk is managed to maintain sufficientliquid financial resources to fund obligations as they come due in the mostcost-effective manner.*

* *

*Our liquidity needs are met througha variety of sources, including: cash generated from operations, short-termborrowings against our credit facilities, commercial paper program, andlong-term debt issued under our U.S. shelf registrations and Canadianmedium-term note program. Our primary uses of funds are operational expenses,capital expenditures, dividends, distributions to non-controlling limitedpartners, and interest and principal payments on debt securities.*

 

We have a total of $725.0 million of credit available fromour committed and uncommitted credit facilities. At Dec. 31, 2007, creditutilized under these facilities is comprised of short-term debt of $651 millionless cash on hand of $51 million and letters of credit of $550 million.

 

We have obligations to issue letters of credit to securepotential liabilities to certain parties including those related to potentialenvironmental obligations, trading activities, hedging activities, and purchaseobligations. At Dec. 31, 2007, we had issued letters of credit totalling$550 million compared to $633 million at Dec. 31, 2006. This decrease inletters of credit is due primarily to lower forward electricity prices in thePacific Northwest. These letters secure certain amounts included in our balancesheets under ‘Risk Management Liabilities‘ and ‘Asset Retirement Obligations.’

 

 
| TRANSALTA  CORPORATION   Annual Report 2007

** **

50 |
|----------------------------------------------------------------------------|

 

 

We expect that our ability to generate adequate cash flowfrom operations in the short term and the long term to maintain financialcapacity and flexibility to provide for planned growth remains substantiallyunchanged since Dec. 31, 2006. In the first quarter of 2008 we received$115.5 million worth of PPA revenue due to timing of contractually scheduledpayments. Consequently, the effect of the timing of these payments is that wewill receive 13 months of revenue in 2008.

 

On Feb. 25, 2008, we had approximately 201.2 millioncommon shares outstanding.

 

On Feb. 24, 2008, we had 1.1 million outstandingemployee stock options with a weighted average exercise price of $19.61. Forthe year ended Dec. 31, 2007, 0.8 million options with a weighted averageexercise price of $20.84 were exercised resulting in 0.8 million shares issued,and 0.2 million options were cancelled with a weighted average exercise priceof $17.52.

 

**Guarantee********Contracts**

 

We have provided guarantees of subsidiaries’ obligationsunder contracts that facilitate physical and financial transactions using variousderivatives. The guarantees provided for under all contracts facilitatingphysical and financial transactions in various derivatives at Dec. 31,2007 was a maximum of $2.0 billion. In addition, we have a number of unlimitedguarantees. The fair value of the trading and hedging positions under contractswhere we have a net liability at Dec. 31, 2007, under the limited andunlimited guarantees, was $331.5 million as compared to $285.3 million at Dec. 31,2006. The liabilities for these amounts are included in our balance sheetsunder ‘Risk Management Liabilities’ and ‘Accounts Payable and AccruedLiabilities.’

 

We have also provided guarantees of subsidiaries’obligations to perform and make payments under various other contracts. The amountguaranteed under these contracts at Dec. 31, 2007 was a maximum of $1.3billion, as compared to $788.3 million at Dec. 31, 2006. In addition, wehave a number of unlimited guarantees.

 

We have approximately $0.7 billion of credit available fromour committed and uncommitted credit facilities to secure these exposures.

 

**Working********Capital**

 

For the year ended Dec. 31, 2007, the excess of currentliabilities over current assets of $686 million is mainly due to highershort-term debt balances, and lower accounts receivable balances, partiallyoffset by receiving November 2006 revenues, as contractually scheduled, onJan. 2, 2007.

 

For the year ended Dec. 31, 2006, the negative changein working capital is primarily due to the timing of collection of revenuesunder PPAs, as described above and the reclassification of $175.0 million ofpreferred securities to current liabilities that were redeemed in January 2007,offset by an increase in accounts receivable.

 

**Capital********Structure**

 

Section 1535 specifies the disclosureof (i) an entity’s objectives, policies and processes for managing capital;(ii) quantitative data about what the entity regards as capital; (iii) whetherthe entity has complied with any capital requirements; and (iv) if it has notcomplied, the consequences of such non-compliance.

 

Our capital structure consisted ofthe following components as shown below:

 
| **As at Dec. 31**           | ** ** | **2007**    | ** **  | **2006**   |       | **2005**             |   |
|----------------------------------|------------|-------------|-------------|------------|------------|----------------------|--------|
| * *                         | * *   | * *    |        |       | ** ** | *(Restated, Note 1)* |   | *(Restated, Note 1*) |   |
| Debt, net of cash, and interest- |       |        |        |       | ** ** |                 |   |   |   |   |   |   |   |
| earning investments              | ** ** | **$**       | **2,459.2** | ** ** | **47**     | **%**                | $      | 2,517.1 |   | 45 | % | $ | 2,525.7 |   | 44 | % |
|                             | ** ** | ** **  | ** **  | ** ** | ** ** | ** **           |   |   |   |   |   |   |   |   |   |   |
| Preferred securities,            |       |        |        |       | ** ** |                 |   |   |   |   |   |   |   |
| including current portion        | ** ** | **–**  | ** **  | **–** | ** ** | 175.0                |   | 3 | % | 175.0 |   | 3 | % |
|                             | ** ** | ** **  | ** **  | ** ** | ** ** |                 |   |   |   |   |   |   |   |
| Non-controlling interests        | ** ** | **496.4**   | ** **  | **9**      | **%**      | 535.0                |   | 9 | % | 558.6 |   | 10 | % |
| Common shareholders’ equity |       | **2,298.5** |        | **44**     | **%**      | 2,427.9              |   | 43 | % | 2,497.0 |   | 43 | % |
| ** **                       | ** ** | **$**       | **5,254.1** | ** ** | **100**    | **%**                | $      | 5,655.0 |   | 100 | % | $ | 5,756.3 |   | 100 | % |

 

Contractual repayments of long-termdebt, commitments under operating leases, fixed price purchase contracts, andcommitments under mining agreements are as follows:

 
|                 |   | **Fixed price**  |   |          |   | **Coal supply** |   |          |   | **Interest on** |        |       |   |
|----------------------|--------|------------------|--------|---------------|--------|-----------------|--------|---------------|--------|-----------------|-------------|------------|--------|
|                 |   | **gas purchase** |   | **Operating** |   | **and mining**  |   | **Long-term** |   | **long-term**   |        | ** ** |   |
|                 |   | **contracts**    |   | **leases**    |   | **agreements**  |   | **debt**      |   | **debt**        | ** 1** | **Total**  |   |
|                 |   | ** **       |   | ** **    |   | ** **      |   | ** **    |   | ** **      | ** **  | ** ** |   |
| 2008                 |   | $                | 47.0   |          | $      | 10.8            |   | $             | 45.2   |            | $           | 153.8      |   | $ | 120.9 |   | $ | 377.7 |   |
|                 |   |             |   |          |   |            |   |          |   |            |        |       |   |   |   |   |   |   |   |
| 2009                 |   | 26.3             |   | 9.5           |   | 49.3            |   | 237.6         |   | 112.5           |        | 435.2      |   |
|                 |   |             |   |          |   |            |   |          |   |            |        |       |   |
| 2010                 |   | 6.8              |   | 9.1           |   | 45.0            |   | 27.8          |   | 99.3            |        | 188.0      |   |
|                 |   |             |   |          |   |            |   |          |   |            |        |       |   |
| 2011                 |   | 6.8              |   | 8.9           |   | 44.8            |   | 250.5         |   | 88.1            |        | 399.1      |   |
|                 |   |             |   |          |   |            |   |          |   |            |        |       |   |
| 2012                 |   | 6.8              |   | 8.9           |   | 44.5            |   | 319.5         |   | 69.1            |        | 448.8      |   |
|                 |   |             |   |          |   |            |   |          |   |            |        |       |   |
| 2013 and  thereafter |   | 40.9             |   | 67.3          |   | 355.1           |   | 857.7         |   | 502.4           |        | 1,823.4    |   |
| Total                |   | $                | 134.6  |          | $      | 114.5           |   | $             | 583.9  |            | $           | 1,846.9    |   | $ | 992.3 |   | $ | 3,672.2 |   |

 

 

*1*    *Interest on long-term debt is based on debt currently in place with noassumption as to re-financing an instrument on maturity.*

* *

* *
| MANAGEMENT’S DISCUSSION AND  ANALYSIS

 

51 |
|--------------------------------------------------------|

 

 

**Off-Balance********Sheet********Arrangements**

 

Disclosure is required of all off-balance sheet arrangementssuch as transactions, agreements or contractual arrangements withunconsolidated entities, structured finance entities, special purpose entitiesor variable interest entities that are reasonably likely to materially affectliquidity or the availability of, or requirements for, capital resources. Wehave no such off-balance sheet arrangements.

 

**Related********Party********Transactions**

 

In August 2006, we entered into an agreement with CEGen, a corporation jointly controlled by ourselves and MidAmerican, asubsidiary of Berkshire Hathaway, whereby we buy available power from certainCE Gen subsidiaries at a fixed price. In addition, CE Gen has entered intocontracts with related parties to provide administrative and maintenanceservices.

 

For the period November 2002 to November 2012, TA Cogenentered into various transportation swap transactions with a wholly ownedsubsidiary, TransAlta Energy Corporation (“TEC”). TEC operates and maintains TACogen’s three combined-cycle power plants in Ontario and a plant in FortSaskatchewan, Alberta. TEC also provides management services to Sheerness,which is operated by Canadian Utilities. The business purpose of thesetransportation swaps is to provide TA Cogen with the delivery of fixed pricegas without being exposed to escalating costs of pipeline transportation forthree of its plants over the period of the swap. The notional gas volume in thetransaction was the total delivered fuel for each of the facilities. Exchangeamounts are based on the market value of the contract. We entered into anoffsetting contract with an external third party and therefore have no riskother than counterparty risk.

 

**Climate Change and Air Emissions**

 

*The variety of combustible fuelsused to generate electricity all have some impact on the environment. While weare pursuing a climate change strategy that includes, among other elements,investing in renewable energy resources such as wind and hydro, we believe thatcoal and natural gas as fuels will continue to play an important role inmeeting the energy needs of the future. We place significant importance onenvironmental compliance to ensure we are able to continuously deliver low costelectricity.*

 

**Recently Passed Environmental Legislation**

 

While we continue to pursue clean coal and othertechnologies to reduce the impact of our power generating activities upon theenvironment, changes in current environmental legislation do have, and willcontinue to have, an impact upon our business.

 

On Jan. 24, 2008, the Government of Alberta announcedits intention to cut greenhouse gas emissions to 14 per cent below 2005 levels by2050 through developing and implementing carbon capture and storagetechnologies, developing conservation and energy efficiency programs, andthrough increased investment in clean energy technologies. The first stage ofthis program is to create focus groups or task forces for each of these threeareas and develop action plans. We are assessing the impact of this proposalupon our operations and our own investment in environmental technologies andprograms.

 

Effective July 1, 2007, the *ClimateChange and Emissions Management Amendment Act* was enacted into lawin Alberta. Under the legislation, baselines and targets for GHG intensity areset on a facility by facility basis. The legislation requires a 12 per centreduction in GHG emission intensity from a baseline of the average of 2003 to2005 emission levels. New facilities or those in operation for less than threeyears are exempt; however, upon the fourth year of operations, the facility baselineis established and reduction requirements gradually increase until the eighthyear by which time emissions must be 12 per cent below the establishedbaseline. Emissions over the baseline must be mitigated either throughcontributions to an Alberta Technology Fund at $15 per tonne, or through thepurchase and retirement of Alberta-based offsets from non-regulated sectors.The PPAs for our Alberta-based coal facilities contain change-in-law provisionsthat allow us to recover compliance costs from the PPA customers. Afterflow-through, the annual net compliance costs were $1.4 million for 2007, andare estimated to be approximately $5 million per year until we are able to meetthe targets for GHG emissions under the Act.

 

On April 26, 2007, the Canadian government releaseddetails of its proposed environmental legislation. The federal plan calls foran 18 per cent reduction in GHG emission intensity starting in 2010, increasingto a 20 per cent absolute reduction requirement by 2020. The proposed legislationalso calls for a reduction in air pollutants such as sulphur dioxide, nitrousoxide, mercury, and particulates starting in the 2012 – 2015 period. Proposedreduction caps range from 45 per cent to 60 per cent of current levels. Anumber of material details in the federal plan are still to be determined,including its interaction with provincial programs, which will allow areasonable determination of future compliance costs.

 

Both the Saskatchewan and Ontario governments, on June 14and 18, 2007 respectively, introduced GHG programs. However, neither governmentprovided any details as to how the plans would affect power generationfacilities other than Ontario’s commitment to close coal-fired units by 2014.

 

In the United States, the Washington State Climate Bill 6001was enacted and came into effect on July 22, 2007. Our operations will notbe impacted by the bill’s performance standards at the current time, providedthe facilities do not change ownership or enter into power sales contractslonger than five years. Additionally, further emissions requirements are beingconsidered for our Centralia plant for mercury and nitrous oxide; however,final determinations are not anticipated until late 2008. Federally, the U.S.government continues to contemplate a number of proposed GHG bills but to dateno clear outcome or schedule is evident.

 

Mercury reduction requirements in Alberta are established ata 70 per cent reduction by 2010. We submitted our mercury control plan in March 2007.We expect to formalize our investment plan in this new technology in early2008.

 

 
| **TRANSALTA CORPORATION   Annual  Report 2007**

** **

52 |
|--------------------------------------------------------------------------------|

 

 

**TransAltaActivities**

 

Reducing the environmental impact of our activities has abenefit not only to our operations and financial results, but also to thecommunities in which we operate. We believe that increased scrutiny will beplaced on environmental emissions and compliance, and we therefore have aproactive approach to minimizing risks to our results. Our environmentmanagement programs encompasses several elements:

 
|  |   | construction of renewable power sources,            |
|--|--------|-----------------------------------------------------|
|  |   | active participation in policy discussions,         |
|  |   | development of cleaner generation technologies, and |
|  |   | continued investment in an offsets portfolio.       |

 

Our investment in renewable power sources continues throughthe building of renewable power resources such as the Kent Hills and Blue Trailwind farms.

 

We are active in policy discussions at a variety of levels.These stakeholder negotiations have allowed us to engage in proactivediscussions with governments to meet environmental requirements over the longerterm.

 

As one of the founders, and active members, of the CleanCoal Power Coalition, we aim to secure a future for coal-fired electricitygeneration, within the context of Canada’s multi-fuelled electricity industry,by proactively addressing environmental issues in cooperation with governmentand our stakeholders.

 

We are also part of a group of companies participating inthe Integrated CO2 Network to work with the Albertan and Canadiangovernments to develop carbon capture and storage systems for Canada.

 

We continue to make operational improvements and investmentsto our existing generating facilities to reduce the environmental impact ofgenerating electricity. As described earlier, we are in the process offinalizing mercury control technology. In prior years we have invested in othercapture technologies such as those for sulfur dioxide. We are currentlyinvestigating opportunities for carbon capture, sequestration, and storagetechnologies.

 

The PPAs for our Alberta-based coal facilities containchange-in-law provisions that allow us the opportunity to recover compliancecosts from the PPA customers.

 

In addition, we continue to pursue emission offsetopportunities that also allow us to meet emission targets at a competitivecost. We ensure that any investments in offsets will meet certificationcriteria in the market in which they are to be used.

 

 
| ** **       |
|------------------|
| **2008 Outlook** |
| ** **       |

 

**Business Environment**

** **

**Demandand Supply**

 

In 2008, we believe that the growth in demand forelectricity will continue at the level seen over the past three years. Withoutsignificant new generating capacity additions over the next five years andincreased environmental compliance costs, the continued upward pressure onprices will continue.

 

**PowerPrices**

 

For the remainder of 2008, power prices in Alberta areexpected to remain strong due to an expected cooler than average winter. Pricesin the Pacific Northwest are anticipated to face upside pressure in 2008 due tocooler than normal temperatures. Ontario power prices are forecast tostrengthen compared with 2007 because of a tighter supply and a cooler winter.

 

In 2008, approximately four per cent of production at our gas-firedfacilities and 19 per cent of production at our coal-fired facilities isexposed to market fluctuations in energy commodity prices. We closely monitorthe risks associated with these commodity price changes on our futureoperations and, where we consider it appropriate, use various physical andfinancial instruments to hedge our assets and operations from such price risk.

 

 

**Operations**

 

**Production,Availability, and Capacity**

 

Generating capacity is expected to increase due to thecompletion of Kent Hills late in 2008. Production and availability are expectedto increase due to lower unplanned outages and lower derates as a result oftest burning at Centralia in 2007, partially offset by higher plannedmaintenance.

 

**FuelCosts**

 

Mining coal in Alberta is subject to cost increases due toincreased overburden removal, inflation, and diesel commodity prices. Seasonalvariations in coal mining at our Alberta mines are minimized through theapplication of standard costing. 2008 Alberta mining costs are expected to beconsistent with those seen in 2007. Fuel at Centralia Thermal is purchased froman external supplier. These contract prices are expected to increase slightlyfrom those seen in 2007 due to contract and commodity escalations.

 

Exposure to gas costs for facilities under long-term salescontracts are minimized to the extent possible through long-term gas purchasecontracts. Merchant gas facilities are exposed to the changes in spark spreads,as discussed in the Power Prices section. We have not entered into fixedcommodity agreements for gas for these merchant plants as gas will be purchasedcoincident with spot pricing.

 

 
| MANAGEMENT’S DISCUSSION AND  ANALYSIS

** **

53 |
|------------------------------------------------------------|

 

 

**Operations,Maintenance, and Administration Costs**

 

OM&A costs per MWh of installed capacity fluctuate byquarter and are dependent on the timing and nature of maintenance activities.OM&A costs per MWh of installed capacity are anticipated in 2008 to behigher compared to 2007 due to higher planned maintenance activities.

 

**PlannedMaintenance**

 
| ** **  | ** ** | **Coal**         | ** **   | **Gas and hydro** | ** ** | **Total**        | ** ** |
|-------------|------------|------------------|--------------|-------------------|------------|------------------|------------|
| Capitalized |       | $                | 65–70   |              | $          | 45–50       |       | $ | 110–120 |   |
| Expensed    |       | 65–70       |         | 5–10         |       | 70–80       |       |
|        |       | $                | 130–140 |              | $          | 50–60       |       | $ | 180–200 |   |
| GWh lost    |       | 2,200–2,300 |         | 425–475      |       | 2,625–2,775 |       |

 

In 2008, we expect to lose approximately 2,625 to 2,775 GWhof production due to planned maintenance. During 2008, we have no significantplanned maintenance activities at our Mexican operations.

 

**Changein Estimate of Certain Components at Centralia Thermal**

 

As a result of our decision to stop mining at the Centraliacoal mine, we are now procuring all of the coal used in production at CentraliaThermal from several selected third-party vendors. The coal that is deliveredfrom these vendors is of a different chemical composition and has a differentthermal content than the coal from our Centralia coal mine. Previously, thisexternally sourced coal was blended with internally produced coal to maximizethe output from Centralia Thermal. However, with the cessation of mining, thislocally mined coal is no longer available to be blended and therefore the coalbeing consumed burns at a higher temperature and produces a differentcomposition of ash. The boiler at Centralia Thermal is not currently configuredto run optimally at these higher temperatures or with the different ashcompositions.

 

During 2007, test burns were conducted to determine whatequipment modifications needed to be performed to optimize this consumption ofthird-party delivered coal. At the end of the third quarter of 2007, atechnical plan was completed including which components needed to be replacedto ensure continued maximum output from Centralia Thermal. These equipmentmodifications are scheduled to occur during planned maintenance outages in 2008and 2009. As a result, the estimated useful life of the component parts thatare to be replaced during these planned outages have been reduced and thischange in estimate of useful life will be recognized over the period up to therelated maintenance outage.

 

As a result, depreciation expense is expected to increaseover the same comparative periods in 2006 by:

 
| ** **                | ** ** | **        2008** | ** ** | **   2009** | ** ** |
|---------------------------|------------|----------------------------------------------------------|------------|----------------------------|------------|
| ** **                | ** ** | **Q1**                                                   | ** ** | **Q2**                     | ** ** | **Q3** | ** ** | **Q4** | ** ** | **Q1** | ** ** | **Q2** | ** ** |
| Increase in  depreciation |       | $                                                        | 5.5        |                       | $          | 5.5 |   | $ | 1.3 |   | $ | 1.3 |   | $ | 1.3 |   | $ | 1.3 |   |
|                           |            |                                                          |            |                            |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**EnergyTrading**

 

Earnings from our Energy Trading business are affected byprices in the market, the positions taken, and duration of those positions. Weroutinely monitor both the market and our exposure to maximize earnings whilestill maintaining an acceptable risk profile. Our objective is for proprietarytrading to contribute annually between $50 million and $70 million in grossmargin.

** **

**Exposureto Fluctuations in Foreign Currencies**

 

Our strategy is to minimize the impact of fluctuations inthe Canadian dollar against the U.S. dollar by offsetting foreign-denominatedassets with foreign-denominated liabilities and foreign exchange contracts. Wealso have foreign currency expenses, including interest charges, which mostlyoffset foreign currency revenues.

 

**NetInterest Expense**

 

Net interest expense for 2008 is expected to be higher dueto increased borrowings as a result of growth. However, changes in interestrates and in the value of the Canadian dollar to the U.S. dollar could affectthe amount of net interest expense incurred.

 

**Liquidityand Capital Resources**

 

With the anticipated increased volatility in power and gasmarkets, market trading opportunities are expected to increase, which canpotentially cause the need for additional liquidity. To mitigate this liquidityrisk, we maintain and monitor a $1.8 billion committed credit facility andmonitor exposures to determine any expected liquidity requirements.

 

 
| TRANSALTA  CORPORATION   Annual Report 2007

** **

54 |
|----------------------------------------------------------------------------|

 

 

**Projects and Growth**

 

Our capital expenditures and major projects are comprised ofspending on sustaining our current operations and for growth activities. 

 

Four significant capital projects that we are currentlyworking on are Keephills 3, Kent Hills, Centralia modifications, and Blue Trailprojects. A summary of each of these projects is outlined below:

 
| **Project**             |   | **Total  spend  (millions** | **)** | **Expected  2008 spend  (millions** | **)** | **Expected  completion  date** |   | **Details** |   | **Status**                                                                                                                                                                                |   |
|-------------------------|--------|-----------------------------|-------|-------------------------------------|-------|--------------------------------|--------|-------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| Keephills 3             |   | $                           | 815   |                                | $     | 320–330                   |   | Q1 2011     |   | A 450 MW (225 MW  net of ownership) coal-fired supercritical plant in a partnership with EPCOR                                                                                            |   | On track |   |
| Kent Hills              |   | $                           | 170   |                                | $     | 135–145                   |   | Q4 2008     |   | 96 MW wind  farm in New Brunswick to operate under a power purchase agreement with New  Brunswick Power Distribution and Customer Service Corporation                                     |   | On track |   |
| Centralia modifications |   | $                           | 185   |                                | $     | 60–65                     |   | Q3 2009     |   | Convert the  boilers and critical fuel systems at Centralia Thermal to ensure that both  units at this facility can produce full output, on a sustainable basis,  solely burning PRB coal |   | On track |   |
| Blue Trail              |   | $                           | 115   |                                | $     | 20–25                     |   | Q4 2009     |   | A 66 MW  wind farm in southern Alberta                                                                                                                                                    |   | On track |   |

 

**SustainingExpenditures**

 

Sustaining expenditures include planned maintenance, regularexpenditures on plant equipment, systems and related infrastructure, as well asinvestments in our mines. For 2008, our estimate for total sustaining capitalexpenditures, excluding Mexico and Centralia modifications listed above, isbetween $365 million and $395 million, allocated among:

 
|  |   | $155–$165 million for routine capital,      |
|--|--------|--------------------------------------------------|
|  |   | $100–$110 million for mining equipment, and |
|  |   | $110–$120 million on planned maintenance.   |

 

**Financing**

 

Financing for these expenditures is expected to be providedby cash flow from operating activities and from existing borrowing capacity.

 

**Risk Management**

 

*Our business activities expose us toa wide variety of risks. Our goal in managing these risks is to protect ourCompany from an unacceptable level of earnings or financial exposure whilestill enabling business processes and opportunities. We use a multi-level riskmanagement oversight structure to manage these objectives, by ensuring that therisks arising from our business activities, the markets in which we operate,and the political environments in which we operate is mitigated.*

 

The responsibilities of the various stakeholders of our riskmanagement oversight structure are described below:

 

**Board of Directors** providesstewardship of the Corporation and establishes policies and procedures.

 

**Audit and Risk (“A&R”) Committee,**establishedby the Board of Directors, provides assistance to the Board of Directors infulfilling its over-sight responsibility relating to the integrity of ourfinancial statements and the financial reporting process; the systems ofinternal accounting and financial controls; the internal audit function; theexternal auditors’ qualifications, terms and conditions of appointment, includingremuneration, independence, performance and reports; and the legal and riskcompliance programs as established by management and the Board of Directors.The A&R Committee approves our Commodity Risk and Financial ExposureManagement policies.

 

**Exposure Management Committee (“EMC”)**is chaired by our Chief FinancialOfficer and is comprised of the Executive Vice-President of CommercialOperations and Development, Vice-President and Treasurer, Vice-PresidentFinancial Operations, Vice-President and Comptroller, and the Director of RiskManagement. The EMC is responsible for reviewing, monitoring, and reporting onour compliance with approved financial and commodity risk exposure managementpolicies.

 

**Corporate Treasury**isresponsible for the management, oversight, and reporting of our capitalposition, credit risk, and funding risks. One of its goals is to minimize thecost of capital while optimizing returns to shareholders.

 

**Risk Management**is staffed bycompetent and experienced risk professionals who are responsible for enterpriserisk reporting to the Board, analyzing commercial risk exposures in our assetsand trading operations, as well as ensuring our daily market price exposure iskept within VAR limits. The Risk Management group uses a variety of processesand models to perform this analysis.

 

Our risk management practices address key risk factors.These are described in greater detail as follows.

 

 
| MANAGEMENT’S  DISCUSSION AND ANALYSIS

** **

55 |
|------------------------------------------------------------|

 

 

**RiskControls**

 

Our management of these risks is also described in therespective sections. Our risk controls have several key components:

 

**Enterprise Tone**Our corporatevalues are clearly articulated throughout the organization. Employees signagreements outlining their commitment to our corporate code of conduct.

 

**Policies**We maintain a set ofenterprise-wide policies that have been established to address key risks. Thesepolicies establish delegated authorities and limits for business transactions.We perform periodic reviews and audits to ensure compliance with thesepolicies.

 

**Reporting**We regularly reportrisk exposures to key decision makers including the Board of Directors, seniormanagement, and the EM Committee. This reporting includes analysis of risksbeing assumed, existing risk exposures, and recommendations for any suggestedcourse of action. This frequent reporting provides for effective and timelyrisk management and oversight.

 

**Whistleblower System**We have asystem in place where employees may report any potential ethical concerns.These concerns are directed to the Vice-President Internal Audit who engagesCorporate, Legal and Human Resources in determining the appropriate course ofaction. These concerns and any actions taken are discussed with the Audit andRisk Committee.

 

**Risk Factors**

 

Risk is inherent in all business activities and cannot beentirely eliminated. However, shareholder value can be maintained and enhancedby identifying, mitigating, and where possible, insuring against these risks.

 

The following section addresses some, but not all, riskfactors that could affect our future results and our activities in mitigatingthose risks. These risks do not occur in isolation, but must be considered inconjunction with each other.

 

Certain sections will show the after-tax effect on netearnings and/or cash flows of changes in certain key variables. The analysis isbased on business conditions and production volumes in 2007. Each item in thesensitivity analysis assumes all other potential variables are held constant.While these sensitivities are applicable to the period and magnitude of changeson which they are based, they may not be applicable in other periods, underother economic circumstances, or for greater magnitude of changes.

 

**Volume Risk**

 

Volume risk relates to the variances from our expectedproduction. Where we are unable to produce sufficient quantities of outputin  relation to contractually specifiedvolumes, we may be required to pay penalties or purchase replacement power inthe market.

 

Our hydro operations’ financial performance is partiallydependent upon the availability of water in a given year. The availability ofwater is difficult to forecast as it is primarily driven by weather. Such wateravailability introduces a degree of volatility in revenues earned by our hydrooperations from year to year. This risk is complicated by obligations imposedwithin the PPA applicable to our Alberta hydro facilities. A monthly financialobligation must be paid to the PPA buyer, based on a predetermined quantity ofenergy and ancillary services at market prices, regardless of our ability togenerate such quantities.

 

We also play an important role in the management of waterflows and levels in several key areas of Alberta, including two major cities.We carefully balance all of these factors together to achieve optimalproductivity with the water resources available.

 

Our wind and geothermal operations are dependant upon theavailability of wind and geothermal resources.

 

We manage these risks by:

 
|  |   | actively managing our assets and their condition through  the Generation and Generation Technology groups in order to be proactive in  plant maintenance,                                                                                                                                                                                  |
|--|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  |   | monitoring water resources throughout Alberta to the  best of our ability and optimizing this resource against real-time  electricity market opportunities,                                                                                                                                                                                |
|  |   | placing our wind and geothermal facilities in  locations that we believe have sufficient resources in order for us to be  able to generate sufficient electricity to meet the requirements of  contracts. However, we cannot guarantee that these resources will be  available when we need them or in the quantities that we require, and |
|  |   | monitoring market volumes and liquidity to ensure  sufficient volumes are available to fulfill proprietary trading requirements.                                                                                                                                                                                                           |

 

The sensitivities of volumes to ournet income are described below:

 
| **Factor**              | ** ** | **Increase  or decrease** | ** ** | **Approximate impact on  earnings and cash flow  (after-tax** | **)** |
|-------------------------|------------|---------------------------|------------|---------------------------------------------------------------|-------|
| Availability/production |       | 1%                        |       | $                                                             | 20.5  |   |
|                         |            |                           |            |                                                               |       |  |

 

 
| TRANSALTA  CORPORATION   Annual Report 2007

** **

56 |
|----------------------------------------------------------------------------|

 

 

**Generation Equipment and Technology Risk**

 

Our plants are exposed to operational risks such as fatiguecracks in boilers, corrosion in boiler tubing, turbine failures, and otherissues that can lead to outages. If plants do not meet availability orproduction targets specified in their PPA or other long-term contracts, we musteither compensate the purchaser for the loss in the availability of productionor suffer a reduction in electrical or capacity payments. For merchantfacilities, an extended outage can result in lost merchant opportunities.Therefore, an extended outage could have a material adverse effect on ourbusiness, financial condition, results of operations, or our cash flows.

 

Technology used in our generating facilities is selected andmaintained with the goal of maximizing the return on those assets. Iftechnology advances significantly beyond the capabilities of our existingfleet, our profitability and carrying value of assets may be affected.

 

As well, we are exposed to procurement risk for specializedparts that may have long lead times. If we are unable to procure these partswhen they are needed for maintenance activities, we could face an extendedperiod with our equipment unavailable to produce electricity.

 

We manage our generation equipment and technology risk by:

 
|  |   | operating our generating facilities within defined and  proven operating standards that are designed to maximize the output of our  generating facilities for the longest period of time, |
|--|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  |   | performing preventative maintenance on a regular  basis,                                                                                                                                  |
|  |   | adhering to a comprehensive plant maintenance  program and regular turnaround schedules,                                                                                                  |
|  |   | having sufficient business interruption insurance in  place in the event of an extended outage,                                                                                           |
|  |   | having force majeure clauses in the PPAs and other  long-term contracts,                                                                                                                  |
|  |   | monitoring technological advances and evaluating  their impact upon our existing generating fleet and related maintenance  programs,                                                      |
|  |   | negotiating strategic supply agreements with  selected vendors to ensure key components are available in the event of a  significant outage, and                                          |
|  |   | developing a long-term asset management strategy  with the objective of maximizing the life cycles of our existing facilities  and/or replacement of selected generating assets.          |

 

**Commodity Price Risk**

 

We have exposure to movements in certain commodity prices,including the market price of electricity and fuels used to produce electricityin both our electricity generation and proprietary trading businesses.

 

We manage electricity price commodity risk by:

 
|  |   | entering into long-term contracts that specify the price  at which electricity, steam and other services are provided,                                                                                                                                 |
|--|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  |   | entering into a variety of short- and long-term  contracts to minimize our exposure to short-term fluctuations in electricity  prices,                                                                                                                 |
|  |   | purchasing natural gas coincident with production  for merchant plants so spot market spark spreads are adequate to produce and  sell electricity at a profit, and                                                                                     |
|  |   | ensuring limits and controls are in place for our  proprietary trading activities to ensure they are in line with VAR  methodologies. VAR is the primary measure used to manage COD’s exposure to  market risk resulting from trading activities. |

 

In 2007, we had approximately 96 per cent of productionunder short-term and long-term contracts and hedges (2006 – 95 per cent ). Inthe event of a planned or unplanned plant outage or other similar event,however, we are exposed to changes in electricity prices on purchases ofelectricity from the market to fulfill our supply obligations under theseshort- and long-term contracts.

 

We manage fuel price commodity risk by:

 
|  |   | entering into long-term contracts that specify the price  at which fuel is to be supplied to our plants, and |
|--|--------|--------------------------------------------------------------------------------------------------------------|
|  |   | using hedges, where available, to set prices for fuel.                                                       |

 

We are exposed to increases in the cost of fuels used inproduction to the extent such increases are greater than the increases in theprice that we can obtain for the electricity we produce. In 2007, 81 per cent(2006 – 68 per cent) of our cost of gas used in generating electricity wascontractually fixed or passed through to our customers and 100 per cent (2006 –100 per cent) of our purchased coal costs were contractually fixed.

 

We monitor the market for opportunities to enter intofavorably priced long-term gas contracts.

 

The sensitivities of price changes to our net income aredescribed below:

 
| **Factor**         | ** ** | **Increase  or decrease** | ** ** | **Approximate impact on  earnings and cash flow  (after-tax** | **)** |
|--------------------|------------|---------------------------|------------|---------------------------------------------------------------|-------|
| Electricity  price |       | $                         | 1.00/MWh   |                                                          | $     | 8.3 |   |
| Natural gas  price |       | $                         | 0.1/GJ     |                                                          | $     | 1.5 |   |
| Coal price         |       | $                         | 1.00/tonne |                                                          | $     | 15.0 |   |

 

 
| **MANAGEMENT’S DISCUSSION  AND ANALYSIS**

** **

57 |
|----------------------------------------------------------------|

 

 

**Fuel Supply Risk**

 

We buy natural gas and some of our coal to supply the fuelneeded to operate our facilities. The ability to have sufficient fuel availablewhen required for generation could have an impact upon our ability to produceelectricity under contracts and for merchant sale opportunities.

 

Higher input costs, such as diesel, tires, the price ofmining equipment, increased amounts of overburden being removed to access coalreserves, and mining operations moving further away from the power plants areall contributing to increased mining costs to our customers. Additionally, theability of the mines to deliver coal to the power plants can be impacted byweather conditions and labour relations. At Centralia Thermal, interruptions atour suppliers’ mines and the availability of trains to deliver coal couldaffect our ability to generate electricity.

 

We manage fuel supply risk by:

 
|  |   | ensuring that the majority of the coal used in electrical  generation is from coal reserves owned by us, thereby limiting our exposure  to fluctuations in supply of coal from third parties. As at Dec. 31,  2007, approximately 70 per cent of the coal used in generating activities is  from coal reserves owned by us, |
|--|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  |   | using longer term mining plans to ensure the optimal  supply of coal from our mines,                                                                                                                                                                                                                                             |
|  |   | sourcing the majority of the coal used at Centralia  Thermal under a mix of short-, medium-, and long-term contracts and from  multiple mine sources to ensure sufficient coal is available at a competitive  cost,                                                                                                              |
|  |   | negotiating for the availability of sufficient  trains to deliver the coal requirements at Centralia Thermal in excess of five  years, and                                                                                                                                                                                       |
|  |   | upgrading the coal handling and storage facilities  at Centralia Thermal to ensure that the coal being delivered can be processed  in a timely and efficient manner.                                                                                                                                                             |

 

We believe adequate supplies of natural gas at reasonableprices will be available for plants when existing supply contracts expire.

 

**Environmental Risk**

 

Environmental risks are risks to our business associatedwith changes in environmental regulations or exposures. New emission reductionobjectives for the power sector are being established by governments in Canadaand the United States. We anticipate continued and growing scrutiny byinvestors relating to sustainability performance. These changes to regulationsmay affect our earnings by imposing additional costs on the generation ofelectricity from exceeding emission caps, requiring additional capitalinvestments in emission capture technology, or requiring us to invest in offsetcredits. It is anticipated that these costs will increase due to increasedpolitical and public attention to environmental concerns.

 

Wemanage environmental risk by:

 
|  |   | seeking continuous improvement in numerous performance  metrics such as emissions, safety, land and water impacts, and environmental  incidents,                                                                |
|--|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  |   | having an ISO-based EHS management system in place  that is designed to continuously improve environmental performance,                                                                                         |
|  |   | committing significant effort to work with  regulators in Canada and the United States to ensure regulatory changes are  well-designed and cost-effective,                                                      |
|  |   | developing compliance plans that address how to meet  or exceed emission standards for greenhouse gases, mercury, sulphur dioxide  and oxides of nitrogen, which will be adjusted as regulations are finalized, |
|  |   | purchasing emission reduction offsets outside of our  operations,                                                                                                                                               |
|  |   | investing in renewable energy projects, such as wind  generation, and                                                                                                                                           |
|  |   | investing in clean coal technology development,  which provides long-term promise for large emission reductions from  fossil-fired generation.                                                                  |

 

We strive to maintain compliance with all environmentalregulations relating to operations and facilities. Compliance with bothregulatory requirements and management system standards is regularly auditedthrough our performance assurance policy and results are reported quarterly toour Board of Directors.

 

In 2007, we spent approximately $46 million (2006 – $50million) on environmental management activities, systems, and processes.

 

We are a founder of the Canadian Clean Power Coalition,which is an industry consortium developed to build Canada’s first clean coalpower plant.

 

 
| TRANSALTA CORPORATION  Annual Report 2007

** **

58 |
|----------------------------------------------------------------|

 

 

**Credit Risk**

 

Credit risk is the risk to our business associated withchanges in creditworthiness of entities with which we have commercialexposures. This risk is comprised of the ability of a counterparty to fulfilltheir financial obligations to us or where we have made a payment in advance ofa product or service being delivered. The inability to collect cash due to usor receiving products or services would have an adverse impact upon our cashflows.

 

We manage our exposure to credit risk by:

 
|  | establishing and adhering to established policies  that define credit limits based on creditworthiness of counterparties, define  contract term limits, and credit concentration with any specific  counterparties,                                           |
|--|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | using formal signoff on contracts that include commercial,  finance, legal, and operational reviews,                                                                                                                                                          |
|  | using security instruments, such as parental  guarantees, letters of credit, and cash collateral that can be collected if a  counterparty fails to fulfill their obligation, and                                                                              |
|  | reporting our exposure on a variety of methods which  allow key decision makers to assess credit exposure by counterparty. This  reporting allows us to assess credit limits for counterparties and the mix of  counterparties based on their credit ratings. |

 

If the credit exposure limits are exceeded, we take steps toreduce this exposure such as requesting collateral, if applicable, or byhalting commercial activities with the affected counterparty. However, therecan be no assurances that we will be successful in avoiding losses as a resultof a contract counterparty not meeting its obligations.

 

We are exposed to minimal credit risk for Alberta PPAsbecause under the terms of these arrangements, receivables are substantially allsecured by letters of credit.

 

A summary of our credit exposure for commodity tradingoperations at Dec. 31, 2007 is provided below:

 
| **Counterparty credit rating**                      | ** ** | **Net exposure** | ** ** |
|---------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                    | ** ** | ** **            | ** ** |
| Investment grade                                              |       | **$**                 | **47.2**   |   |
| Non-investment grade                                          |       | **$**                 | **5.1**    |   |
| No external rating, internally  rated as investment grade     |       | **$**                 | **20.2**   |   |
| No external rating, internally  rated as non-investment grade |       | **$**                 | **2.2**    |   |
|                                                          |       | ** **            | ** ** |   |

 

In addition to the above, we have credit exposure tocounterparties under long-term sales contracts. There is no net exposure in ourcommodity trading operations for any counterparty greater than 10 per cent.

 

The maximum credit exposure to any one customer forcommodity trading operations, excluding the California Independent System Operator(“ISO”) and California Power Exchange (“PX”), and including the fair value ofopen trading positions, is $6.3 million.

 

**Currency Rate Risk**

 

We have exposure to various currencies as a result of ourinvestments and operations in foreign jurisdictions, the earnings from those operations,and the acquisition of equipment and services from foreign suppliers. We haveexposures primarily to the U.S., Mexican, and Australian currencies. Changes inthe values of these currencies in relation to the Canadian dollar may affectour earnings or value of our foreign investments, to the extent these positionsor cash flows are not hedged.

 

We manage our currency rate risk by:

 
|  | hedging our net investments in foreign operations  using a combination of foreign-denominated debt and financial instruments.  Our strategy is to offset 90 to 100 per cent of all foreign currency  exposures. At Dec. 31, 2007, we hedged approximately 99 per cent (2006 –  88 per cent) of our foreign currency net investment exposure, and |
|--|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | offsetting earnings from our foreign operations as  much as possible by using expenditures denominated in the same foreign  currencies. We use financial instruments to hedge the balance of our foreign  operations earnings.                                                                                                                             |

 

Translation gains and losses related to the carrying valueof our foreign operations are included in AOCI in shareholders’ equity. At Dec. 31,2007, the balance in this account was a $244.8 million loss (2006 – $64.5million loss).

 

The sensitivity of changes in foreign exchange rates uponour earnings is shown below:

 
| ** **    | ** ** | **Increase**          | ** ** | **Approximate impact on**                                  | ** ** |
|---------------|------------|-----------------------|------------|------------------------------------------------------------|------------|
| ** **    | ** ** | **or decrease**       | ** ** | **earnings and cash flow**                                 | ** ** |
| **Factor**    | ** ** | **(Foreign Currency** | **)**      | **(after-tax**                                             | **)**      |
| ** **    | ** ** | ** **            | ** ** | ** **                                                 | ** ** |
| Exchange rate |       | $0.10                 |       | $         0.2 |       |
|          |       |                  |       |                                                       |       |

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

59

** **

**Liquidity Risk**

 

Liquidity risk relates to our ability to access capital tobe used in proprietary trading activities, commodity contracting, and in debtand equity markets. Investment grade ratings support contracting activities andprovide better access to capital markets through commodity and credit cycles.We are focused on maintaining a strong balance sheet and stable investmentgrade credit ratings.

 

We are exposed to liquidity risk under certain electricityand natural gas purchase and sale contracts entered into for the purposes ofasset-backed sales and proprietary trading. The terms and conditions of thesecontracts require us to provide collateral when the fair value of these contractsis in excess of any credit limits granted by our counterparties and thecontract obliges us to provide the collateral. Downgrades in ourcreditworthiness by certain credit rating agencies may decrease the creditlimits granted by our counterparties and accordingly increase the amount ofcollateral we may have to provide.

 

We manage liquidity risk by:

 
|  | monitoring liquidity on trading positions,                                                                                                           |
|--|------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | preparing and revising longer-term financing plans  to reflect changes in business plans and market availability of capital,                         |
|  | reporting liquidity risk exposure for proprietary  trading activities on a regular basis to the EMC, senior management, and  Board of Directors, and |
|  | maintaining investment grade credit ratings.                                                                                                         |

 

The maximum amount of collateral that we would have toprovide under existing contracts for our commodity trading operations and with ourexisting credit ratings is $33.4 million at Dec. 31, 2007. Totalcollateral available to the Corporation was approximately $725 million.

 

**Interest Rate Risk**

 

Changes in interest rates can impact our borrowing costs andthe capacity revenues we receive from our Alberta PPA plants. Changes in our costof capital may also affect the feasibility of new growth initiatives.

 

We manage interest rate risk by:

 
|  | employing a combination of fixed and floating rate  debt instruments, and                                                                              |
|--|--------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | monitoring the mixture of floating and fixed rate  debt and adjusting where necessary to ensure a continued efficient mixture of  these types of debt. |

 

At Dec. 31, 2007, approximately 34.8 per cent (2006 –28.4 per cent) of our total debt portfolio was subject to movements in floatinginterest rates through a combination of floating rate debt and interest rateswaps.

 

The sensitivity of changes in interest rates upon ourearnings is shown below:

 
| ** **    | ** ** | ** **      | ** ** | **Approximate impact on**                            | ** ** |
|---------------|------------|-----------------|------------|------------------------------------------------------|------------|
| ** **    | ** ** | **Increase**    | ** ** | **earnings and cash flow**                           | ** ** |
| **Factor**    | ** ** | **or decrease** | ** ** | **(after-tax**                                       | **)**      |
| Interest rate |       | 1%              |       | $        6.2 |       |
|          |       |            |       |                                                 |       |

 

**Project ManagementRisk**

 

As we are currently building three generating projects, weface risks associated with cost-overruns, delays, and performance.

 

We attempt to minimize these risks by:

 
|  | performing detailed analysis of project economics  prior to construction or acquisition and by determining our asset contracting  strategy to ensure the right mix of contracted and merchant capacity prior to  commencement of construction, |
|--|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | partnering with those who have previously been able  to deliver projects economically and on budget. Our partnership with EPCOR on  the construction of Keephills 3 is a direct result of this type of  partnership,                           |
|  | developing and following through with comprehensive  plans that include critical paths identified, key delivery points, and backup  plans,                                                                                                     |
|  | ensuring project closeouts so that any learnings  from the project are incorporated into the next significant project,                                                                                                                         |
|  | fixing the price and availability of the equipment,  warranties and source agreements prior to proceeding with the project, and                                                                                                                |
|  | entering into labour agreements to provide security  around cost and productivity.                                                                                                                                                             |

 

**Human Resource Risk**

 

Human resource risk relates to the potential impact upon ourbusiness as a result of changes in the workplace.

 

This risk can occur in several ways:

 
|  | potential disruption as a result of labour action at  our generating facilities,                                                                                |
|--|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | reduced productivity due to turnover in out-of-scope  positions,                                                                                                |
|  | inability to complete critical work due to vacant  positions,                                                                                                   |
|  | failure to maintain fair compensation with respect  to market rate changes, and                                                                                 |
|  | reduced competencies due to insufficient training,  failure to transfer knowledge from existing employees, or insufficient  expertise within current employees. |

** **

** **

TRANSALTA CORPORATION   AnnualReport 2007

 

60

 

We manage this risk by:

 
|  | monitoring industry compensation and aligning  salaries with those benchmarks,                  |
|--|-------------------------------------------------------------------------------------------------|
|  | using incentive pay to align employee goals with  corporate goals,                              |
|  | monitoring and managing target levels of employee  turnover, and                                |
|  | ensuring new employees have the appropriate training  and qualifications to perform their jobs. |

 

Of our labour force, 46 per cent is covered by 13 collectivebargaining agreements. In 2007, eight agreements were renegotiated. Weanticipate negotiating two agreements in 2008. We do not anticipate anysignificant issues in the renewal of these agreements.

 

**Regulatory andPolitical Risk**

 

Regulatory and political risk describes the risk to ourbusiness associated with existing regulatory structures and the politicalinfluence upon those structures. The generation of electricity is underincreased political scrutiny due to decreasing reserve margins, increaseddemand, and a lack of new generating capacity. This risk can come from marketre-regulation, increased oversight and control, or other unforeseen influences.We are not able to predict whether there will be any changes in the regulatoryenvironment or the ultimate effect of changes in the regulatory environment onour business.

 

We manage these risks by working with governments,regulators, and other stakeholders to resolve issues. We are active in policydiscussions at a variety of levels. These stakeholder negotiations have allowedus to engage in proactive discussions with governments over the longer term.

 

International investments are subject to unique risks anduncertainties relating to the political, social, and economic structures of therespective country and such country’s regulatory regime. We mitigate this riskthrough the use of non-recourse financing and political risk insurance.

 

**Transmission Risks**

 

Access to transmission lines and sufficient capacity inthose transmission lines are key in our ability to deliver power to ourcustomers. However, with the continued growth in demand for electricity coupledwith very little transmission capacity being added to existing infrastructures,the reliability and capacity on the existing transmission facilities, the riskassociated with the existing transmission infrastructure in Alberta, Ontario,and the Pacific Northwest continues to develop.

 

Transmission risks are mitigated through:

 
|  | force majeure clauses in the Alberta PPAs,                                                                                                                                    |
|--|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | developing and ensuring continued access to multiple  transmission lines, and                                                                                                 |
|  | working with governments, regulators, and  stakeholders to ensure that transmission constraints are removed through  timely transmission development or technology additions. |

 

**Reputation Risk**

 

Our reputation is one of our most valued assets. Reputationrisk relates to the risk associated with our business because of changes in opinionfrom the general public, private stakeholders, governments, and other entities.

 

We manage reputation risk by:

 
|  | clearly communicating our business objectives and  priorities to a variety of stakeholders on a routine basis, |
|--|----------------------------------------------------------------------------------------------------------------|
|  | maintaining positive relationships with various levels of  government,                                         |
|  | pursuing sustainable development as a longer-term  corporate strategy,                                         |
|  | ensuring that each business decision is made with  integrity and in line with our corporate values, and        |
|  | communicating the impact and rationale of business  decisions to stakeholders in a timely manner.              |

 

We are dedicated to operating a safe and ethicalorganization. We have a system in place where employees may report anypotential ethical concerns. These concerns are directed to the Vice-PresidentInternal Audit who engages Corporate, Legal, and Human Resources in determiningthe appropriate course of action. These concerns and any actions taken are discussedwith the Audit and Risk Committee. All employees are required to sign acorporate code of conduct on an annual basis.

 

**Corporate StructureRisk**

 

We conduct a significant amount of business throughsubsidiaries and partnerships. Our ability to meet and service debt obligationsis dependent upon the results of operations of our subsidiaries and the paymentof funds by our subsidiaries in the form of distributions, loans, dividends, orotherwise. In addition, our subsidiaries may be subject to statutory orcontractual restrictions that limit their ability to distribute cash to us.

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

61

 

**General EconomicConditions**

 

Changes in general economic conditions impact productdemand, revenue, operating costs, timing and extent of capital expenditures,the net recoverable value of PP&E, results of financing efforts, creditrisk, and counterparty risk.

 

**Income Taxes**

 

Our operations are complex, and located in differentcountries. The computation of the provision for income taxes involves taxinterpretations, regulations, and legislation that are continually changing.Our tax filings are subject to audit by taxation authorities. Managementbelieves that it has adequately provided for income taxes as required by GAAP,based on all information currently available.

 

The sensitivity of changes in income tax rates upon ourearnings is shown below:

 
| ** ** | ** ** | ** **      | ** ** | **Approximate impact on**                            | ** ** |
|------------|------------|-----------------|------------|------------------------------------------------------|------------|
| ** ** | ** ** | **Increase**    | ** ** | **earnings and cash flow**                           | ** ** |
| **Factor** | ** ** | **or decrease** | ** ** | **(after-tax**                                       | **)**      |
| Tax rate   |       | 1%              |       | $        3.8 |       |
|       |       |            |       |                                                 |       |

 

The effective income tax rate can change depending on themix of earnings from various countries. Increased operating income will incur incometax expense at a rate of approximately 30 per cent compared to the forecastedoverall range of 23 to 28 per cent.

 

**Legal Contingencies**

 

We are occasionally named as a defendant in various claimsand legal actions. Exposure to these claims is mitigated through levels ofinsurance coverage considered appropriate by management and active managementof these claims. Except as disclosed in *Note 28* to the consolidatedfinancial statements, we do not expect the outcome of the claims or potentialclaims to have a materially adverse effect on the Corporation as a whole.

 

**Other Contingencies**

 

We maintain a level of insurance coverage deemed appropriateby management. There were no significant changes to our insurance coverage during2007. Our insurance coverage may not be available in the future on commerciallyreasonable terms. There can be no assurance that insurance proceeds received bythe Corporation for any loss or damage will be fully adequate to compensate forlosses incurred.

 

**CriticalAccounting Policies and Estimates**

 

*The selection and application of accountingpolicies is an important process that has developed as our business activitieshave evolved and as accounting rules have changed. Accounting rules generallydo not involve a selection among alternatives, but involve an implementation andinterpretation of existing rules and the use of judgment relative to thecircumstances existing in the business. Every effort is made to comply with allapplicable rules on or before the effective date, and we believe theproper implementation and consistent application of accounting rules iscritical.*

* *

*However, not all situations are specificallyaddressed in the accounting literature. In these cases, our best judgment isused to adopt a policy for accounting for these situations. We draw analogiesto similar situations and the accounting guidelines governing them, consider foreignaccounting standards, and consult with our independent auditors about theappropriate interpretation and application of these policies. Each of thecritical accounting policies involves complex situations and a high degree ofjudgment either in the application and interpretation of existing literature orin the development of estimates that impact our consolidated financialstatements.*

 

Our significant accounting policies are described in *Note 1* to the consolidated financial statements. The mostcritical of these policies are those related to revenue recognition, PP&E,goodwill, asset retirement obligations, income taxes, employee future benefits,and financial instruments *(Notes 1(C), (F), (G),(I), (L), (M), and (O), respectively)*. Each policy involves a numberof estimates and assumptions to be made about matters that are highly uncertainat the time the estimate is made. Different estimates, with respect to keyvariables used for the calculations, or changes to estimates, could potentiallyhave a material impact on our financial position or results of operations.

 

We have discussed the development and selection of thesecritical accounting estimates with our A&R Committee and our independent auditors.The A&R Committee has reviewed and approved our disclosure relating tocritical accounting estimates in this MD&A.

 

Tables are provided in the following discussion to reflectthe sensitivities associated with changes in key assumptions used in theestimates. The tables reflect an increase or decrease in the percentage orother factor for each assumption. The inverse of each change is generally expectedto have a similar opposite impact. Each separate item in the sensitivityassumes all other factors remain constant.

 

These critical accounting estimates are described below.

 

**Revenue Recognition**

 

The majority of our revenues are derived from the sale ofphysical power and from energy marketing and trading activities. Revenues underlong-term electricity and thermal sales contracts generally include one or moreof the following components: fixed capacity payments for being available,energy payments for generation of electricity, availability incentives orpenalties for exceeding or not meeting availability targets, excess energypayments for power generation above committed capacity, and ancillary services.Each of these components is recognized upon output, delivery, or satisfactionof contractually specific targets. Revenues from non-contracted capacity arecomprised of energy payments for each MWh produced at market prices and arerecognized upon delivery.

 

Trading activities use derivatives such as physical andfinancial swaps, forward sales contracts, and futures contracts and options,which are used to earn trading revenues and to gain market information. Thesederivatives are accounted for using fair value accounting and are presented ona net basis in the statements of earnings. The initial recognition of fairvalue and subsequent changes in fair value affect

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

62

 

reported earnings in the period the change occurs. The fairvalues of those instruments that remain open at the balance sheet daterepresent unrealized gains or losses and are presented on the balance sheets asrisk management assets or liabilities. Non-derivative contracts are accountedfor using the accrual method with changes in fair value being recorded in theStatements of Other Comprehensive Income and are presented on the balancesheets as risk management assets or liabilities.

 

The determination of the fair value of Energy Tradingcontracts and derivative instruments is complex and relies on judgmentsconcerning future prices, volatility, and liquidity, among other factors. Themajority of derivatives traded by us have quoted market prices orover-the-counter quotes available from brokers. However, some derivatives arenot traded on an active exchange or extend beyond the time period for which exchange-basedquotes are available. These derivatives require the use of internal valuationtechniques or models (mark-to-model accounting).

 

Mark-to-model accounting is currently used for physical andfinancial forward contracts and option contracts on transmission andtransmission congestion. Accrual accounting is used for transmission rightsacquired to sell production from our plants and physical transmission rightsused by the COD segment. Changes in fair value of derivatives subsequent toinception are recorded on the consolidated balance sheets as price riskmanagement assets or liabilities with the offset recorded in revenues. Thevalues can be favourable or unfavourable, and depending on current marketconditions, values can fluctuate significantly with the effect of changes beingrecorded through earnings in the period of the change. Modelling techniquesrequire us to model future prices, price correlation, market volatility,liquidity, and other forecasted market intelligence, as well as the use ofmathematical extrapolation techniques. Where appropriate, the estimates used toderive fair value reflect the potential impact for uncertainties in themodelling process, the potential impact of liquidating our position in anorderly manner over a reasonable period of time under present market conditionsand operational risk. We validate our mark-to-model results by comparing themagainst settled data. The amounts reported in the financial statements maychange as estimates are revised to reflect actual results or new information,changes in market conditions, or other factors, many of which are beyond ourcontrol, and may be material.

 

Key variables used in the models are uncertain.Sensitivities of the valuation, which would have been recorded in earnings inthe current year, are as follows:

 
| ** **                | ** ** | ** **      | ** ** | **Approximate impact on**                            | ** ** |
|---------------------------|------------|-----------------|------------|------------------------------------------------------|------------|
| ** **                | ** ** | **Increase**    | ** ** | **earnings and cash flow**                           | ** ** |
| **Factor**                | ** ** | **or decrease** | ** ** | **(after-tax**                                       | **)**      |
| Change in volatility      |       | 1%              |       | $        0.3 |       |
| Change in commodity price |       | 1%              |       | $        0.8 |       |
|                      |       |            |       |                                                 |       |

 

There have been no significant changes to the modellingtechniques in the past three years.

 

**Valuation ofPP&E**

 

As at Dec. 31, 2007, PP&E makes up 71.3 per cent ofour assets, of which 99 per cent relates to the Generation segment. On anannual basis, and when indicators of impairment exist, we determine whether thenet carrying amount of PP&E is recoverable from future undiscounted cashflows. Factors which could indicate that an impairment exists includesignificant underperformance relative to historical or projected operatingresults, significant changes in the manner or use of the assets, the strategyfor our overall business, and significant negative industry or economic trends.In some cases, these events are clear. However, in many cases, a clearlyidentifiable event indicating possible impairment does not occur. Instead, aseries of individually insignificant events occur over a period of time leadingto an indication that an asset may be impaired. This can be further complicatedin situations where we are not the operator of the facility. Events can occurin these situations that may not be known until a date subsequent to theiroccurrence.

 

Our businesses, the markets, and the business environmentare continually monitored, and judgments and assessments are made to determine whetheran event has occurred that indicates possible impairment. If such an event hasoccurred, an estimate is made of the future undiscounted cash flows from theasset. If the total of the undiscounted future cash flows (excluding financingcharges, with the exception of plants that have specifically dedicated debt),is less than the carrying amount of the asset, an asset impairment charge mustbe recognized in our financial statements. The amount of the impairmentrecognized is calculated by subtracting the fair value of the asset from thecarrying value of the asset. Fair value is the amount at which an item could bebought or sold in a current transaction between willing parties, and is bestestimated by calculating the net present value of future expected cash flowsrelated to the asset. Both the identification of events that may trigger animpairment and the estimates of future cash flows and the fair value of theasset require considerable judgment.

 

The assessment of asset impairment requires management tomake significant assumptions about future sales prices, cost of sales,production and fuel consumed over the life of the plants (up to 30 years),retirement costs, and discount rates. In addition, when impairment tests areperformed, the estimated useful lives of the plants are reassessed, with anychange accounted for prospectively.

 

In estimating future cash flows of the plants, we useestimates of contracted and future market prices based on expected marketsupply and demand in the region in which the plant operates, anticipatedproduction levels, planned and unplanned outages, and transmission capacity orconstraints for the remaining life of the plant. Actual results can, and oftendo, differ from the estimates, and can have either a positive or negativeimpact on the estimate of the impairment charge, and may be material.

 

On an annual basis, or as events indicate, we perform animpairment review of our plants. As a result of this review, in 2007, therewere no material changes. In 2006, we recorded an impairment charge for theCentralia Gas plant as the full book value of this plant was unlikely to be recoveredfrom future cash flows due to changes in outlook for dispatch rates and tradingvalues and their impact on plant profitability (for further discussion pleaserefer to the Significant Events of this MD&A). From the results of ourcurrent impairment review, had assumptions been made that resulted in futurecash flows of the plants declining by 10 per cent, none of our plants wouldhave been impaired at Dec. 31, 2007.

 

As a result of the decision to cease mining activities atthe Centralia coal mine, we wrote down mining and reclamation equipment as wellas mining infrastructure to the lower of net book value and fair value. Forfurther discussion please refer to the ‘Significant Events’ section of thisMD&A.

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

63

 

In 2005, we determined that the Ottawa plant was impaired inthe accounts of TA Cogen. A fundamental shift in the gas markets and forecast increasesin the cost of natural gas lowered expected margins from the Ottawa plant as TACogen does not have a gas supply contract in place for the period 2008 – 2012to match the contract to provide electricity under predetermined prices to theOntario Electricity Financial Corporation (“OEFC”). Based upon the current viewof gas costs and market conditions for that period and the likelihood that theplant will not operate as extensively beyond 2012, a reduction in the carryingvalue was required and a charge of $36.2 million was recognized in 2005. Forfurther discussion please refer to the ‘Significant Events’ section of thisMD&A.

 

**Asset RetirementObligations (“ARO”)**

 

We recognize ARO for PP&E in the period in which theyare incurred if there is a legal obligation for us to reclaim the plant and/orsite and if a reasonable estimate of a fair value can be determined. The fairvalue of the liability is described as the amount at which the liability could besettled in a current transaction between willing parties. Expected values areprobability weighted to deal with the risks and uncertainties inherent in thetiming and amount of settlement of many ARO. Expected values are discounted atthe risk-free interest rate adjusted to reflect the market’s evaluation of ourcredit standing.

 

At Dec. 31, 2007, the ARO recorded on the consolidatedbalance sheets were $276.2 million. We estimate the undiscounted amount of cashflow required to settle the ARO is approximately $0.8 billion, which will beincurred between 2008 and 2072. The majority of the costs will be incurredbetween 2020 and 2030. A discount rate of eight per cent was used to calculatethe carrying value of the ARO.

 

Sensitivities for the major assumptions are as follows:

 
| ** **       | ** ** | ** **      | ** ** | **Approximate impact on**                            | ** ** |
|------------------|------------|-----------------|------------|------------------------------------------------------|------------|
| ** **       | ** ** | **Increase**    | ** ** | **earnings and cash flow**                           | ** ** |
| **Factor**       | ** ** | **or decrease** | ** ** | **(after-tax**                                       | **)**      |
| Discount rate    |       | 1%              |       | $        1.9 |       |
| Undiscounted ARO |       | 1%              |       | $        0.1 |       |
|             |       |            |       |                                                 |       |

 

**Useful Life ofPP&E**

 

PP&E is depreciated over its estimated useful life.Estimated useful lives were determined based on current facts and pastexperience, and take into consideration the anticipated physical life of theasset, existing long-term sales agreements and contracts, current andforecasted demand, and the potential for technological obsolescence. Majorcomponents of plants are depreciated over their own useful lives. A componentis a tangible asset that can be separately identified as an asset and isexpected to provide a benefit of greater than one year.

 

Depreciation and amortization expense was $405.9 million in2007, of which $32.8 million relates to mining equipment, and is included in fueland purchased power.

 

The rates used are reviewed on an ongoing basis to ensurethey continue to be appropriate, and are also reviewed in conjunction withimpairment testing, as discussed above.

 

A five per cent change in the estimated useful life ofdepreciable assets will result in a change of $20.3 million in depreciation andamortization expense (2006 – $19.2 million).

 

**Valuation ofGoodwill**

 

We evaluate goodwill for impairment at least annually ormore frequently if indicators of impairment exist. If the carrying value of areporting unit, including goodwill, exceeds the reporting unit’s fair value,any excess represents a goodwill impairment loss. A reporting unit is a portionof the business for which we can identify specific cash flows.

 

Goodwill was recorded on the acquisitions of Merchant EnergyGroup of the Americas, Vision Quest, and CE Gen. At Dec. 31, 2007, thisgoodwill had a total carrying value of $124.9 million. The change in value fromDec. 31, 2006 is due to changes in foreign exchange rates.

 

We reviewed the recorded value of goodwill and determinedthat the fair values of our reporting units, based on historical cash flows andestimates of future cash flows, exceeded their carrying values and therefore noimpairment charges were recorded.

 

Determining the fair value of the reporting units issusceptible to changes from period to period as management is required to makeassumptions about future cash flows, production and trading volumes, marginsand fuel and operating costs. Had assumptions been made that resulted in fairvalues of the reporting units declining by 10 per cent from current levels,there would not have been any impairment of goodwill.

 

**Income Taxes**

 

In accordance with Canadian GAAP, we use the liabilitymethod of accounting for future income taxes and provide future income taxesfor all significant income tax temporary differences.

 

Preparation of the consolidated financial statementsrequires an estimate of income taxes in each of the jurisdictions in which weoperate. The process involves an estimate of our current tax exposure and anassessment of temporary differences resulting from differing treatment ofitems, such as depreciation and amortization, for tax and accounting purposes.These differences result in future tax assets and liabilities that are includedin our consolidated balance sheets.

 

An assessment must also be made to determine the likelihoodthat our future tax assets will be recovered from future taxable income. To theextent that recovery is not considered likely, a valuation allowance must bedetermined. Judgment is required in determining the provision for income taxes,future income tax assets and liabilities, and any related valuation allowance.To the extent a valuation allowance is created or revised, current periodearnings will be affected.

 

Future tax assets of $342.7 million have been recorded onthe consolidated balance sheets at Dec. 31, 2007 (2006 – $319.8 million).These assets are comprised primarily of unrealized losses from risk managementtransactions, asset retirement obligation costs, and net operating

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

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and capital loss carryforwards. We believe there will besufficient taxable income and capital gains that will permit the use of thesedeductions and carryforwards in the tax jurisdictions where they exist.

 

Future tax liabilities of $648.7 million have been recordedon the consolidated balance sheets at Dec. 31, 2007 (2006 – $718.5million). These liabilities are comprised primarily of unrealized gains fromrisk management transactions and income tax deductions in excess of related depreciationof PP&E.

 

Judgment is required to assess continually changing taxinterpretations, regulations and legislation, to ensure liabilities arecomplete and to ensure assets, net of valuation allowances, are realizable. Theimpact of different interpretations and applications could be material.

 

Our tax filings are subject to audit by taxationauthorities. The outcome of some audits may change our tax liability, althoughwe believe that we have adequately provided for income taxes based on allinformation currently available. The outcome of the audits is not known nor is thepotential impact on the financial statements determinable.

 

**Employee FutureBenefits**

 

We provide selected post-retirement benefits to employees.The cost of providing these benefits is dependent upon many factors that resultfrom actual plan experience and assumptions of future experience.

 

The liability for future benefits and associated pensioncosts included in annual compensation expenses are impacted by employeedemographics, including age, compensation levels, employment periods, the levelof contributions made to the plans, and earnings on plan assets.

 

Changes to the provisions of the plans may also affectcurrent and future pension costs. Pension costs may also be significantlyimpacted by changes in key actuarial assumptions, including anticipated ratesof return on plan assets and the discount rates used in determining the projectedbenefit obligation and pension costs.

 

The plan assets are comprised primarily of equity and fixedincome investments. Fluctuations in actual equity market returns and changes ininterest rates may result in increased or decreased pension costs in futureperiods.

 

The discount rate used reflects high-quality fixed incomesecurities currently available and expected to be available during the periodto maturity of the pension benefits. We do not expect to make any changes tothe rate in 2008.

 

The expected long-term rate of return on plan assets isbased on past performance and economic forecasts for the types of investmentsheld by the plan. For the year ended Dec. 31, 2007, the plan assets had areturn of $10.4 million compared to a return of $35.5 million in 2006 and $43.9million in 2005. The 2007 actuarial valuation used the same rate of return onplan assets (seven per cent) as was used in 2006 and 2005.

 

**FutureAccounting Changes**

 

**FinancialInstruments – Disclosures and Presentation**

 

On Dec. 1, 2006, the CICA issued two new accountingstandards: Handbook Section 3862, *Financial Instruments –Disclosures* and Handbook Section 3863, *FinancialInstruments – Presentation.* These new standards were effective on Jan. 1,2008.

 

The new CICA Handbook Sections 3862 and 3863 replaceHandbook Section 3861, *Financial Instruments –Disclosure**and Presentation*,revising and enhancing its disclosure requirements, and carrying forwardunchanged its presentation requirements. These new sections place increasedemphasis on disclosures about the nature and extent of risks arising fromfinancial instruments and how the entity manages those risks.

 

**InternationalFinancial Reporting Standards (“IFRS”)**

 

On Feb. 13, 2008, the Accounting Standards Board ofCanada (“AcSB”) announced that accounting standards in Canada are to converge withIFRS. The AcSB has confirmed that Canadian firms will need to begin reportingunder IFRS by Jan. 1, 2011 with appropriate comparative data from theprior year. Under IFRS, the primary audience is capital markets and as aresult, there is significantly more disclosure required, specifically forquarterly reporting. Further, while IFRS uses a conceptual framework similar toCanadian GAAP, there are significant differences in accounting policy that mustbe addressed.

 

On Dec. 31, 2007, the Securities and ExchangeCommission approved rule amendments that will allow foreign privateissuers to use financial statements without reconciliation to U.S. GAAP, ifthey are prepared using the English language version of IFRS as issued by theInternational Accounting Standards Board.

 

The impact of these new standards on our financialstatements is currently being assessed.

 

**Deferral of Costsand Internally Developed Intangibles**

 

In November 2007, the AcSB approved Section 3064, *Goodwill and Intangible**Assets*, replacingSection 3062, *Goodwill and OtherIntangible Assets*, and Section 3450, *Research andDevelopment Costs.* Section 3064 incorporates material from IAS38, *Intangible Assets,* addressing when aninternally developed intangible asset meets the criteria for recognition as anasset. The AcSB also approved amendments to Section 1000, *Financial Statement Concepts*, and Accounting GuidelineAcG-11, *Enterprises in the Development Stage.* Theamendments to AcG-11 provide consistency with Section 3064. EIC-27, *Revenues and Expenditures during the Pre-operating Period,*will not apply to entities that have adopted Section 3064. These changesare effective for us on Jan. 1, 2009, and the impact on our financialstatements is currently being assessed.

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

65

 

**Embedded ForeignCurrency Derivatives**

 

On Jan. 8, 2008, the CICA emerging issues committeeissued EIC-169, *Determining whether a contract is routinelydenominated in a single currency.* The EIC is intended to provideguidance on when an embedded foreign currency derivative would requirebifurcation from a host contract. EIC-169 is effective for us on Jan. 1,2008 with retrospective application, and is currently not anticipated to have amaterial impact on our financial statements.

 

**Future AccountingChanges – Early Adopted**

 

**Capital Disclosure**

 

On Dec. 1, 2006, the CICA issued Handbook Section 1535,*Capital Disclosures*, which specifies thedisclosure of (i) an entity’s objectives, policies, and processes formanaging capital; (ii) quantitative data about what the entity regards ascapital; (iii) whether the entity has complied with any capitalrequirements; and (iv) if it has not complied, the consequences of suchnon-compliance. We have early adopted this standard. This standard did not havea material effect on our financial statements.

 

**Inventories**

 

In March 2007, the CICA issued Handbook Section 3031,*Inventories,* which aligns accounting forinventories under Canadian GAAP with IFRS. We have early adopted this standard.This standard did not have a material effect on our financial statements.

 

**Non-GAAPMeasures**

 

*We evaluate our performance and the performance ofour business segments using a variety of measures. Those discussed below arenot defined under GAAP and therefore should not be considered in isolation oras an alternative to or more meaningful than, net income or cash flow fromoperating activities as determined in accordance with GAAP as an indicator ofthe Corporation’s financial performance or liquidity. These measures are notnecessarily comparable to a similarly titled measure of another company.*

 

Each business unit assumes responsibility for its operatingresults measured to gross margin and operating income. Operating income and grossmargin provides management and investors with a measurement of operatingperformance that is readily comparable from period to period.

 

Gross margin and operating income are reconciled to netearnings below:

 
| **Year ended Dec. 31**                                 | ** ** | **2007**     | ** **  | 2006       |   | 2005    |   |
|-----------------------------------------------------------------------|------------|--------------|-------------|------------|--------|---------|--------|
| **Gross margin**                                                      | ** ** | **$**        | **1,544.0** | ** ** | $      | 1,491.4 |   | $ | 1,442.0 |   |
| **Operating expenses**                                                | ** ** | **(1,002.9** | **)**       | (1,012.9   | )      | (985.2  | )      |
| **Operating income before mine closure and asset impairment charges** | ** ** | **541.1**    | ** **  | 478.5      |   | 456.8   |   |
| Mine  closure charges                                                 |       | **–**   |        | (191.9     | )      | –  |   |
| Asset  impairment charges                                             |       | **–**   |        | (130.0     | )      | (36.2   | )      |
| **Operating income**                                                  | ** ** | **541.1**    | ** **  | 156.6      |   | 420.6   |   |
| Foreign  exchange (loss) gain                                         |       | **3.2**      | ** **  | (0.5       | )      | 1.3     |   |
| Gain on  sale of equipment                                            |       | **15.7**     | ** **  | –     |   | –  |   |
| Net  interest expense                                                 |       | **(133.3**   | **)**       | (168.5     | )      | (188.6  | )      |
| Equity  (loss) / income                                               |       | **(49.5**    | **)**       | (17.0      | )      | (0.9    | )      |
| **Earnings before non-controlling interests and income taxes**        | ** ** | **377.2**    | ** **  | (29.4      | )      | 232.4   |   |
| Non-controlling  interests                                            |       | **48.0**     |        | 51.5       |   | 18.5    |   |
| **Earnings before income taxes**                                      | ** ** | **329.2**    | ** **  | (80.9      | )      | 213.9   |   |
| Income tax  (recovery) / expense                                      |       | **20.4**     |        | (125.8     | )      | 39.6    |   |
| Earning  from continuing operations                                   |       | **308.8**    |        | 44.9       |   | 174.3   |   |
| Earning  from discontinued operations, net of tax                     |       | **–**   |        | –     |   | 12.0    |   |
| **Net earnings**                                                      |       | **$**        | **308.8**   |       | $      | 44.9    |   | $ | 186.3 |   |

 

Presenting earnings on a comparable basis from period toperiod provides management and investors with the ability to evaluate earnings trendsmore readily in comparison with prior periods’ results.

 

In calculating comparable earnings for 2007, we haveexcluded the gains recorded on the sale of assets at the previously operatedCentralia coal mine as we do not normally dispose of large quantities of fixedassets.

 

In arriving at comparable earnings for 2006 we have excludedthe turbine impairment charge recorded in the first quarter of 2006.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

66

 

For both years we have excluded the impact of the tax ratechanges, resolution of outstanding uncertain tax positions, and the tax law changein Mexico as they do not relate to current period earnings.

 
| **Year ended Dec. 31**                        | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005** | ** ** |
|--------------------------------------------------------------|------------|------------|------------|------------|------------|----------|------------|
| **Earnings on a comparable basis**                           |       | **$**      | **264.3**  | ** ** | $          | 233.8    |       | $ | 161.3 |   |
| Sale of  assets at Centralia                                 |       | **10.2**   | ** ** | –     |       | –   |       |
| Change in  life of Centralia parts, net of tax               |       | **(3.6**   | **)**      | –     |       | –   |       |
| Change in  tax law in Mexico                                 |       | **(28.2**  | **)**      | –     |       | –   |       |
| Tax rate  change                                             |       | **47.7**   | ** ** | 55.3       |       | –   |       |
| Turbine  impairment, net of tax                              |       | **–** | ** ** | (6.2       | )          | –   |       |
| Recovery  from resolution of uncertain tax positions         |       | **18.4**   | ** ** | –     |       | –   |       |
| Centralia  Gas impairment, net of tax                        |       | **–** | ** ** | (84.4      | )          | –   |       |
| Centralia  coal mine writedown, net of tax                   |       | **–** | ** ** | (153.6     | )          | –   |       |
| Earnings  from discontinued operations                       |       | **–** | ** ** | –     |       | 12.0     |       |
| Tax  settlement on deferred receivable                       |       | **–** | ** ** | –     |       | 13.0     |       |
| **Net earnings**                                             |       | **$**      | **308.8**  | ** ** | $          | 44.9     |       | $ | 186.3 |   |
| **Weighted average common shares outstanding in the period** |       | **202.5**  | ** ** | 200.8      |       | 196.8    |       |
| **Earnings on a comparable basis per share**                 |       | **$**      | **1.31**   | ** ** | $          | 1.16     |       | $ | 0.82 |   |

 

Free cash flow is intended to demonstrate the amount of cashwe have available to invest in capital growth initiatives, repay recourse debt,or repurchase common shares.

 

The payment of Centralia coal mine closure costs have alsobeen excluded as they are one-time in nature. Sustaining capital expenditures representstotal capital expenditures per the statement of cash flow less the amount wehave invested in growth projects for the year ended Dec. 31, 2007.

 

The reconciliation between cash flow from operatingactivities and free cash flow is calculated below:

 
| **Year ended Dec. 31**                        | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005** | ** ** |
|--------------------------------------------------------------|------------|------------|------------|------------|------------|----------|------------|
| **Cash flow from operating activities**                      |       | **$**      | **847.2**  | ** ** | $          | 489.6    |       | $ | 619.8 |   |
| Add  (Deduct):                                               |       | ** ** | ** ** |       |       |     |       |
| Sustaining  capital expenditures                             |       | **(417.1** | **)**      | (213.7     | )          | (286.5   | )          |
| Dividends  on common shares                                  |       | **(204.8** | **)**      | (133.9     | )          | (79.6    | )          |
| Distribution  to subsidiaries’ non-controlling interest |       | **(86.5**  | **)**      | (74.4      | )          | (77.5    | )          |
| Non-recourse  debt repayments                                |       | **(47.7**  | **)**      | (51.3      | )          | (36.1    | )          |
| Timing of  contractually scheduled payments                  |       | **–** | ** ** | 185.0      |       | –   |       |
| Centralia  coal mine closure costs                           |       | **24.2**   | ** ** | –     |       | –   |       |
| Cash flows  from equity investments                          |       | **(4.3**   | **)**      | 28.6       |       | 19.6     |       |
| **Free cash flow**                                           |       | **$**      | **111.0**  | ** ** | $          | 229.9    |       | $ | 159.7 |   |

 

Cash flows from equity investments represent operationalcash flow from our equity subsidiaries less sustaining and growth capitalexpenditures.

 

Comparable ROCE measures economic value created from capitalinvestments and is calculated by taking comparable earnings before tax anddividing by total assets less current liabilities. Presenting this calculationusing comparable earnings before tax provides management and investors with theability to evaluate trends on the returns generated in comparison with otherperiods.

 

The calculation of comparable earnings before tax ispresented below:

 
| **Year ended Dec. 31**                             | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005** | ** ** |
|-------------------------------------------------------------------|------------|------------|------------|------------|------------|----------|------------|
| Earnings  (loss) before income taxes as per statement of earnings |       | **$**      | **329.2**  | ** ** | $          | (80.9    | )          | $ | 213.9 |   |
| Net  interest expense                                             |       | **133.3**  | ** ** | 168.5      |       | 188.6    |       |
| Non-controlling  interest                                         |       | **48.0**   | ** ** | 51.5       |       | 18.5     |       |
| Mine  closure charges and inventory writedown, pre-tax            |       | **–** | ** ** | 236.3      |       | –   |       |
| Asset  impairment charges, pre-tax                                |       | **–** | ** ** | 130.0      |       | –   |       |
| Turbine  impairment, pre-tax                                      |       | **–** | ** ** | 9.2        |       | –   |       |
| Change in  life of Centralia parts, pre-tax                       |       | **5.5**    | ** ** | –     |       | –   |       |
| Sale of  assets at Centralia                                      |       | **(15.7**  | **)**      | –     |       | –   |       |
| Change in  tax law in Mexico                                      |       | **28.2**   | ** ** | –     |       | –   |       |
| **Comparable earnings, pre-tax**                                  |       | **$**      | **528.5**  | ** ** | $          | 514.6    |       | $ | 421.0 |   |

 

 

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

67

 

**Selected QuarterlyInformation**

 
| ***(in millions of Canadian dollars except per share amounts)*** | ** ** | **Q1 2007** | ** ** | **Q2 2007** | ** ** | **Q3 2007** | ** ** | **Q4 2007** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| Revenue                                                                                                  | ** ** | **$**            | **668.6**  | ** **       | **$**      | **611.6**        | ** ** | **$**            | **711.6**  | ** ** | **$** | **782.9** | ** ** |
| Net  earnings                                                                                            | ** ** | **56.2**         | ** ** | **57.2**         | ** ** | **65.9**         | ** ** | **129.5**        | ** ** |
| Basic  earnings per common share                                                                         | ** ** | **0.28**         | ** ** | **0.28**         | ** ** | **0.33**         | ** ** | **0.64**         | ** ** |
| Diluted  earnings per common share                                                                       | ** ** | **0.28**         | ** ** | **0.28**         | ** ** | **0.33**         | ** ** | **0.64**         | ** ** |
|                                                                                                          |            |                  |            |                  |            |                  |            |                  |            |  |  |  |  |

 
| ** **                                | ** ** | **Q1 2006** | ** ** | **Q2 2006** | ** ** | **Q3 2006** | ** ** | **Q4 2006** | ** ** |
|-------------------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-------------|------------|
| Revenue                                   |       | $           | 689.3      |        | $          | 580.3       |       | $           | 656.0      |   | $ | 752.0 |   |
| Net  earnings (loss)                      |       | 69.2        |       | 86.4        |       | 35.3        |       | (146.0      | )          |
| Basic  earnings (loss) per common share   |       | 0.35        |       | 0.43        |       | 0.18        |       | (0.72       | )          |
| Diluted  earnings (loss) per common share |       | 0.35        |       | 0.43        |       | 0.18        |       | (0.72       | )          |
|                                           |            |             |            |             |            |             |            |             |            |  |  |  |  |

 

**Controls andProcedures**

 

As required by Rule 13a-15 under the *Securities Exchange Act* of 1934, management has evaluated,with the participation of our Chief Executive Officer and Chief FinancialOfficer, the effectiveness of our disclosure controls and procedures as of theend of the period covered by this report. Disclosure controls and proceduresrefer to controls and other procedures designed to ensure that informationrequired to be disclosed in the reports we file or submit under the ExchangeAct are recorded, processed, summarized, and reported within the time periods specifiedin the rules and forms of the Securities and Exchange Commission.Disclosure controls and procedures include, without limitation, controls andprocedures designed to ensure that information required to be disclosed by usin our reports that we file or submit under the Exchange Act are accumulatedand communicated to management, including our Chief Executive Officer and ChiefFinancial Officer, as appropriate to allow timely decisions regarding ourrequired disclosure. In designing and evaluating our disclosure controls and procedures,management recognizes that any controls and procedures, no matter how welldesigned and operated, can provide only reasonable assurance of achieving thedesired control objectives, and management was required to apply its judgmentin evaluating and implementing possible controls and procedures. Based on theforegoing evaluation, our Chief Executive Officer and Chief Financial Officer haveconcluded that, as of Dec. 31, 2007, the end of the period covered by thisreport, our disclosure controls and procedures were effective at a reasonableassurance level.

 

**Forward–LookingStatements**

 

This MD&A and other reports and filings made with thesecurities regulatory authorities include forward-looking statements. Allforward-looking statements are based on TransAlta Corporation’s beliefs andassumptions based on information available at the time the assumption was made.In some cases, forward-looking statements can be identified by terms such as ‘may’,‘will’, ‘believe’, ‘expect’, ‘potential’, ‘enable’, ‘continue’ or othercomparable terminology. The forward-looking statements relate to, among otherthings, statements regarding the anticipated business prospects and financialperformance of TransAlta. These statements are not guarantees of TransAlta’sfuture performance and are subject to risks, uncertainties, and other importantfactors that could cause the Corporation’s actual performance to be materiallydifferent from those projected, including those material risks and assumptionsdiscussed in this MD&A under the headings ‘Outlook’ and ‘BusinessEnvironment’ in our annual report for the year ended Dec. 31, 2007 underthe heading ‘Risk Factors and Risk Management’. Some of the risks,uncertainties, and factors include, but are not limited to: legislative andregulatory developments that could affect revenues; costs associated withenvironmental compliance; overall costs; cost and availability of fuel toproduce electricity; the speed and degree of competition entering the market;plant availability; global capital markets activity; timing and extent ofchanges in commodity prices, prevailing interest rates, currency exchangerates, inflation levels and general economic conditions where TransAltaCorporation operates; results of financing efforts; changes in counterpartyrisk; and the impact of accounting standards issued by Canadian standard setters.Given these uncertainties, the reader should not place undue reliance on theseforward-looking statements that are given as of the date it is expressed inthis MD&A or otherwise and TransAlta undertakes no obligation to updatepublicly or revise any forward-looking information, whether as a result of newinformation, future events or otherwise, except as required by law.

** **

** **

TRANSALTA CORPORATION   AnnualReport 2007

 

68

 

Management’s Report

 

To the Shareholdersof TransAlta Corporation

 

The ConsolidatedFinancial Statements and other financial information included in this annualreport have been prepared by management. It is management’s responsibility toensure that sound judgment, appropriate accounting principles and methods andreasonable estimates have been used in the preparation of this information.They also ensure that all information presented is consistent.

 

Management is alsoresponsible for establishing and maintaining internal controls and proceduresover the financial reporting process. The internal control system includes aninternal audit function and an established business conduct policy that appliesto all employees. In addition, the Company has a code of conduct that appliesto all employees and is signed annually. The code of conduct can be viewed on TransAlta’swebsite (www.transalta.com). Management believes the system of internalcontrols, review procedures and established policies provide reasonableassurance as to the reliability and relevance of financial reports. Managementalso believes that TransAlta’s operations are conducted in conformity with thelaw and with a high standard of business conduct.

 

The Board of Directors is responsible for ensuring thatmanagement fulfills its responsibilities for financial reporting and internalcontrol. The Board carried out its responsibility principally through its Auditand Risk Committee. The Committee, which consists solely of independent directors,reviews the financial statements and annual report and recommends them to theBoard for approval. The Committee meets with management, internal auditors andexternal auditors to discuss internal controls, auditing matters and financialreporting issues. Internal and external auditors have full and unrestrictedaccess to the Audit and Risk Committee. The Committee also recommends the firmof external auditors to be appointed by the shareholders.

 
|                                               |                                                              |
|-----------------------------------------------|--------------------------------------------------------------|
| **STEPHEN G. SNYDER**                         | **BRIAN BURDEN**                                             |
| President &  Chief Executive Officer | Executive  Vice-President & Chief Financial Officer |
|                                          |                                                         |
| February 26,  2008                       |                                                         |

 

 

REPORTSTO CONSOLIDATED FINANCIAL STATEMENTS

 

69

 

Management’s AnnualReport on

Internal Control overFinancial Reporting

 

To the Shareholdersof TransAlta Corporation

 

The following reportis provided by management in respect of TransAlta Corporation’s internalcontrol over financial reporting (as defined in Rules 13a-15f and 15d-15f underthe *United States Securities Exchange Act* of1934).

 

TransAlta’smanagement is responsible for establishing and maintaining adequate internalcontrol over financial reporting for TransAlta.

 

Management has usedthe Committee of Sponsoring Organizations of the Treadway Commission (“COSO”)framework to evaluate the effectiveness of TransAlta Corporation’s internalcontrol over financial reporting. Management believes that the COSO frameworkis a suitable framework for its evaluation of TransAlta Corporation’s internalcontrol over financial reporting because it is free from bias, permitsreasonably consistent qualitative and quantitative measurements of TransAltaCorporation’s internal controls, is sufficiently complete so that thoserelevant factors that would alter a conclusion about the effectiveness ofTransAlta Corporation’s internal controls are not omitted, and is relevant toan evaluation of internal control over financial reporting.

 

Internal control overfinancial reporting cannot provide absolute assurance of achieving financialreporting objectives because of its inherent limitations. Internal control overfinancial reporting is a process that involves human diligence and complianceand is subject to lapses in judgment and breakdowns resulting from humanfailures. Internal control over financial reporting also can be circumvented bycollusion or improper overrides. Because of such limitations, there is a riskthat material misstatements may not be prevented or detected on a timely basisby internal control over financial reporting. However, these inherentlimitations are known features of the financial reporting process, and it ispossible to design into the process safeguards to reduce, though not eliminate,this risk.

 

TransAlta Corporation’sConsolidated Financial Statements include the accounts of the Sheerness, CEGeneration, Wailuku, and Genesee 3 joint ventures via proportionateconsolidation in accordance with Canadian GAAP. Management does not have thecontractual ability to assess the internal controls of these joint ventures butthrough commercial agreements, representation on boards of directors of thesejoint ventures, and through our daily interactions, management is able toassess that key financial and commercial transactions are occurring properly.Once the financial information is obtained from the joint ventures it fallswithin the scope of TransAlta Corporation’s internal controls framework.Management’s conclusion regarding the effectiveness of internal controls doesnot extend to the internal controls at the transactional level of the jointventures. The 2007 Consolidated Financial Statements of TransAlta Corporationincluded $1,477.0 million and $706.6 million of total and net assets,respectively, as of Dec. 31, 2007, and $491.4 million and $95.7 million ofrevenues and operational earnings, respectively, for the year then endedrelated to these joint ventures.

 

Management hasassessed the effectiveness of TransAlta Corporation’s internal control overfinancial reporting, as at Dec. 31, 2007, and has concluded that such internalcontrol over financial reporting is effective.

 

Ernst &Young LLP, who has audited the Consolidated Financial Statements of TransAltaCorporation for the year ended Dec. 31, 2007, has also issued a report oninternal control over financial reporting under Auditing Standard No. 5 ofthe Public Company Accounting Oversight Board (United States). This report islocated on page 71 of this Annual Report.

 
|                                               |                                                              |
|-----------------------------------------------|--------------------------------------------------------------|
| **STEPHEN G. SNYDER**                         | **BRIAN BURDEN**                                             |
| President &  Chief Executive Officer | Executive  Vice-President & Chief Financial Officer |
|                                          |                                                         |
| February 26,  2008                       |                                                         |

 

 

TRANSALTACORPORATION   Annual Report 2007

 

70

 

IndependentAuditors’ Report on Internal Controls Under Standards

ofthe Public Company Accounting Oversight Board (United States)

 

To the Shareholdersof TransAlta Corporation

 

We have auditedTransAlta Corporation’s internal control over financial reporting as ofDecember 31, 2007, based on criteria established in Internal Control –Integrated Framework issued by the Committee of Sponsoring Organizations of theTreadway Commission (the “COSO criteria”). The Corporation’s management isresponsible for maintaining effective internal control over financialreporting, and for its assessment of the effectiveness of internal control overfinancial reporting included in the accompanying Management’s Annual Report onInternal Control over Financial Reporting. Our responsibility is to express anopinion on the Corporation’s internal control over financial reporting based onour audit.

 

We conducted ouraudit in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan andperforms the audit to obtain reasonable assurance about whether effective internalcontrol over financial reporting was maintained in all material respects. Ouraudit included obtaining an understanding of internal control over financialreporting, assessing the risk that a material weakness exists, testing andevaluating the design and operating effectiveness of internal control based onthe assessed risk, and performing such other procedures as we considerednecessary in the circumstances. We believe that our audit provides a reasonablebasis for our opinion.

 

A company’s internalcontrol over financial reporting is a process designed to provide reasonableassurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generallyaccepted accounting principles. A company’s internal control over financialreporting includes those policies and procedures that (1) pertain to themaintenance of records, that in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2)provide reasonable assurance that transactions are recorded as necessary topermit preparation of financial statements in accordance with generallyaccepted accounting principles, and that receipts and expenditures of thecompany are being made only in accordance with authorizations of management anddirectors of the company; and (3) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof the company’s assets that could have a material effect on the financialstatements.

 

Because of itsinherent limitations, internal control over financial reporting may not preventor detect misstatements. Also, projections of any evaluation of effectivenessto future periods are subject to the risk that controls may become inadequatebecause of changes in conditions, or that the degree of compliance with thepolicies or procedures may deteriorate.

 

As indicated inManagement’s Annual Report on Internal Control Over Financial Reporting, management’sassessment of and conclusion on the effectiveness of internal control overfinancial reporting did not include the internal controls of the CE Generation,Sheerness, Wailuku, and Genesee 3 joint ventures, included in the Corporation’s2007 consolidated financial statements and constituting $1,477.0 million and $706.6million of total and net assets, respectively, as at December 31, 2007, and$491.4 million and $95.7 million of revenues and net earnings, respectively,for the year then ended. Our audit of internal control over financial reportingof the Corporation did not include an evaluation of the internal controls overfinancial reporting of these joint ventures. 

 

In our opinion,TransAlta Corporation maintained, in all material respects, effective internalcontrol over financial reporting as of December 31, 2007, based on the COSOcriteria.

 

We have also audited,in accordance with Canadian generally accepted auditing standards and thestandards of the Public Company Accounting Oversight Board (United States), theconsolidated balance sheets of TransAlta Corporation as at December 31,2007 and 2006 and the consolidated statements of earnings and retainedearnings, comprehensive income and cash flows for each of the years in thethree year period ended December 31, 2007, and our report dated February 26,2008, expressed an unqualified opinion thereon.

 
|                                |
|--------------------------------|
| **ERNST & YOUNG LLP** |
| Chartered  Accountants         |
|                           |
| Calgary, Canada                |
| February 26,  2008        |

 

** **

REPORTS TO CONSOLIDATED FINANCIAL STATEMENTS

 

71

 

Independent Auditors’Report

on FinancialStatements

 

To the Shareholdersof TransAlta Corporation

 

We have audited theconsolidated balance sheets of TransAlta Corporation as at December 31, 2007and 2006 and the consolidated statements of earnings and retained earnings,comprehensive income and cash flows for each of the years in the three yearperiod ended December 31, 2007. These financial statements are theresponsibility of the Corporation’s management. Our responsibility is toexpress an opinion on these financial statements based on our audits.

 

We conducted ouraudits in accordance with Canadian generally accepted auditing standards andthe standards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform an audit to obtain reasonableassurance whether the financial statements are free of material misstatement.An audit includes examining, on a test basis, evidence supporting the amountsand disclosure in the financial statements. An audit also includes assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. We believe ouraudits provide a reasonable basis for our opinion.

 

In our opinion, theseconsolidated financial statements present fairly, in all material respects, thefinancial position of the Corporation as at December 31, 2007 and 2006 andthe results of its operations and its cash flows for each of the years in thethree year period ended December 31, 2007 in conformity with Canadiangenerally accepted accounting principles.

 

As discussed in *Note 1 (T) *to the consolidatedfinancial statements, in 2007 the Corporation changed its method of accountingfor inventories, comprehensive income, financial instruments and hedges.

 

We also have audited,in accordance with the standards of the Public Company Accounting OversightBoard (United States), the Corporation’s internal control over financialreporting as of December 31, 2007, based on criteria established in InternalControl-Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission and our report dated February 26, 2008expressed an unqualified opinion thereon.

 
|                                |
|--------------------------------|
| **ERNST & YOUNG LLP** |
| Chartered  Accountants         |
|                           |
| Calgary, Canada                |
| February 26,  2008        |

 

 

TRANSALTACORPORATION   Annual Report 2007

 

72

 

ConsolidatedStatements of Earnings

andRetained Earnings

** **
| **Year ended Dec. 31 ***(in millions of Canadian dollars)* | ** ** | **2007**     | ** **        | **2006**                 | ** ** | **2005**                 | ** ** |
|----------------------------------------------------------------------------------------------------|------------|--------------|-------------------|--------------------------|------------|--------------------------|------------|
| ** **                                                                                         | ** ** | ** **   | ** **        | *(Restated, Note 1* | *)*        | *(Restated, Note 1* | *)*        |
| **R****evenues***(Note 1)*                                                                         | ** ** | **$**        | ** 2,774.7** | ** **               | $          | 2,677.6                  |       | $ | 2,664.4 |   |
| Fuel and purchased power***(Notes 1 and 2)*                                                        | ** ** | **(1,230.7** | **)**             | (1,186.2                 | )          | (1,222.4                 | )          |
| **Gross margin**                                                                                   | ** ** | **1,544.0**  | ** **        | 1,491.4                  |       | 1,442.0                  |       |
| Operations, maintenance and administration                                                         | ** ** | **576.8**    | ** **        | 581.3                    |       | 596.0                    |       |
| Depreciation and amortization***(Note 1)*                                                          | ** ** | **405.9**    | ** **        | 410.3                    |       | 367.9                    |       |
| Taxes, other than income taxes                                                                     | ** ** | **20.2**     | ** **        | 21.3                     |       | 21.3                     |       |
| **Operating expenses**                                                                             | ** ** | **1,002.9**  | ** **        | 1,012.9                  |       | 985.2                    |       |
| Mine closure charges***(Note 2)*                                                                   | ** ** | **–**   | ** **        | 191.9                    |       |                     |       |
| Asset impairment charges***(Note 3)*                                                               | ** ** | **–**   | ** **        | 130.0                    |       | 36.2                     |       |
| **Operating income**                                                                               | ** ** | **541.1**    | ** **        | 156.6                    |       | 420.6                    |       |
| Foreign exchange gain (loss)                                                                       | ** ** | **3.2**      | ** **        | (0.5                     | )          | 1.3                      |       |
| Gain on sale of equipment***(Note 14)*                                                             | ** ** | **15.7**     | ** **        | –                   |       | –                   |       |
| Net interest expense***(Note 19)*                                                                  | ** ** | **(133.3**   | **)**             | (168.5                   | )          | (188.6                   | )          |
| Equity loss***(Note 11)*                                                                           | ** ** | **(49.5**    | **)**             | (17.0                    | )          | (0.9                     | )          |
| **Earnings (loss) before  non-controlling interests and income taxes**                             | ** ** | **377.2**    | ** **        | (29.4                    | )          | 232.4                    |       |
| Non-controlling interests***(Note 22)*                                                             | ** ** | **48.0**     | ** **        | 51.5                     |       | 18.5                     |       |
| **Earnings (loss) before income  taxes**                                                           | ** ** | **329.2**    | ** **        | (80.9                    | )          | 213.9                    |       |
| Income tax expense (recovery)***(Note 4)*                                                          | ** ** | **20.4**     | ** **        | (125.8                   | )          | 39.6                     |       |
| **Earnings from continuing  operations**                                                           | ** ** | **308.8**    | ** **        | 44.9                     |       | 174.3                    |       |
| Earnings from discontinued operations, net of tax***(Note 5)*                                      | ** ** | **–**   | ** **        | –                   |       | 12.0                     |       |
| **Net earnings**                                                                                   | ** ** | **$**        | ** 308.8**   | ** **               | $          | 44.9                     |       | $ | 186.3 |   |
| **Retained earnings**                                                                              |       |         | ** **        |                     |       |                     |       |
| **Opening balance**                                                                                | ** ** | **710.0**    | ** **        | 866.1                    |       | 876.7                    |       |
| Common share dividends                                                                             | ** ** | **(202.5**   | **)**             | (201.0                   | )          | (196.9                   | )          |
| Shares cancelled under NCIB***(Note 24)*                                                           | ** ** | **(53.8**    | **)**             | –                   |       | –                   |       |
| **Closing balance**                                                                                | ** ** | **$**        | ** 762.5**   | ** **               | $          | 710.0                    |       | $ | 866.1 |   |
| **Weighted average number of  common shares outstanding in the period**                            | ** ** | **202.5**    | ** **        | 200.8                    |       | 196.8                    |       |
| **Basic and diluted earnings per  share*****(Note 23)*                                             |       |         | ** **        |                     |       |                     |       |
| Net earnings from continuing operations                                                            | ** ** | **$**        | ** 1.53**    | ** **               | $          | 0.22                     |       | $ | 0.88 |   |
| Earnings from discontinued operations                                                              | ** ** | **–**   | ** **        | –                   |       | 0.06                     |       |
| **Net earnings per share, basic  and diluted**                                                     | ** ** | **$**        | ** 1.53**    | ** **               | $          | 0.22                     |       | $ | 0.94 |   |

 

*Seeaccompanying notes.*

 

 

REPORTSTO CONSOLIDATED FINANCIAL STATEMENTS

 

73

 

Consolidated

Balance Sheets

 
| **Dec. 31*****(in millions of Canadian  dollars)*                        | ** ** | **2007**     | ** **   | **2006**            | ** ** |
|-------------------------------------------------------------------------------|------------|--------------|--------------|---------------------|------------|
| **Assets**                                                                    | * *   | *** *** | *** *** | *(Restated, Note 1* | *)*        |
| **Current assets**                                                            |       | ** **   | ** **   |                |       |
| Cash and cash equivalents                                                     | ** ** | **$**        | **50.9**     | ** **          | $          | 65.6 |   |
| Accounts receivable *(Notes 6, 27 and 28)*                                    | ** ** | **546.4**    | ** **   | 618.3               |       |
| Prepaid expenses                                                              | ** ** | **8.9**      | ** **   | 9.1                 |       |
| Risk management assets***(Notes 1, 7 and 8)*                                  | ** ** | **93.2**     | ** **   | 72.2                |       |
| Future income tax assets***(Note 4)*                                          | ** ** | **40.2**     | ** **   | 25.8                |       |
| Income taxes receivable                                                       | ** ** | **48.8**     | ** **   | 47.6                |       |
| Inventory***(Note 9)*                                                         | ** ** | **30.1**     | ** **   | 53.0                |       |
| Current portion of other assets *(Note 17)*                                   | ** ** | **–**   | ** **   | 5.4                 |       |
| ** **                                                                    |       | **818.5**    | ** **   | 897.0               |       |
| **Restricted cash*********(Note 10)*                                          | ** ** | **242.4**    | ** **   | 347.8               |       |
| **Investments***(Note 11)*                                                    | ** ** | **124.6**    | ** **   | 154.5               |       |
| **Long-term receivables*****(Note 12)*                                        | ** ** | **5.6**      | ** **   | 32.2                |       |
| **Property, plant and equipment*********(Note 13)*                            |       | ** **   | ** **   |                |       |
| Cost                                                                          | ** ** | **8,592.7**  | ** **   | 8,248.9             |       |
| Accumulated depreciation and amortization                                     | ** ** | **(3,475.4** | **)**        | (3,207.0            | )          |
| ** **                                                                    |       | **5,117.3**  | ** **   | 5,041.9             |       |
| **Assets held for sale, net*********(Note 14)*                                | ** ** | **29.1**     | ** **   | 109.8               |       |
| **Goodwill***(Notes 15 and 31)*                                               | ** ** | **124.9**    | ** **   | 137.5               |       |
| **Intangible assets*********(Note 16)*                                        | ** ** | **209.2**    | ** **   | 292.1               |       |
| **Future income tax assets*********(Note 4)*                                  | ** ** | **302.5**    | ** **   | 294.0               |       |
| **Risk management assets*********(Notes 1, 7 and 8)*                          | ** ** | **122.0**    | ** **   | 65.1                |       |
| **Other assets*****(Notes 1 and 17)*                                          | ** ** | **82.6**     | ** **   | 88.2                |       |
| **Total assets**                                                              | ** ** | **$**        | **7,178.7**  | ** **          | $          | 7,460.1 |   |
| **Liabilities and  Shareholders’ Equity**                                | ** ** | ** **   | ** **   | ** **          | ** ** |
| **Current liabilities**                                                       |       | ** **   | ** **   |                |       |
| Short-term debt***(Note 18)*                                                  | ** ** | **$**        | **650.8**    | ** **          | $          | 361.9 |   |
| Accounts payable and accrued liabilities***(Notes 28 and 33)*                 | ** ** | **472.1**    | ** **   | 441.9               |       |
| Risk management liabilities *(Notes 1, 7 and 8)*                              | ** ** | **105.1**    | ** **   | 32.4                |       |
| Income taxes payable                                                          | ** ** | **17.2**     | ** **   | 22.3                |       |
| Future income tax liabilities***(Note 4)*                                     | ** ** | **12.0**     | ** **   | 19.9                |       |
| Dividends payable                                                             | ** ** | **49.3**     | ** **   | 51.5                |       |
| Current portion of long-term debt – recourse***(Notes 7 and 19)*         | ** ** | **121.5**    | ** **   | 205.0               |       |
| Current portion of long-term debt – non-recourse***(Notes 7 and 19)*     | ** ** | **32.3**     | ** **   | 44.7                |       |
| Current portion of asset retirement obligations***(Note 20)*                  | ** ** | **42.8**     | ** **   | 48.5                |       |
| Preferred securities***(Note 19)*                                             | ** ** | **–**   | ** **   | 175.0               |       |
| ** **                                                                    |       | **1,503.1**  | ** **   | 1,403.1             |       |
| **Long-term debt – recourse*********(Notes 7 and 19)*                    | ** ** | **1,496.2**  | ** **   | 1,681.5             |       |
| **Long-term debt – non-recourse*******(Notes 7 and 19)*                  | ** ** | **209.3**    | ** **   | 289.6               |       |
| **Asset retirement obligations*****(Note 20)*                                 | ** ** | **233.4**    | ** **   | 280.0               |       |
| **Deferred credits and other long-term  liabilities*********(Notes 1 and 21)* | ** ** | **100.9**    | ** **   | 130.4               |       |
| **Future income tax liabilities*****(Note 4)*                                 | ** ** | **636.7**    | ** **   | 698.6               |       |
| **Risk management liabilities*****(Notes 1, 7 and 8)*                         | ** ** | **204.2**    | ** **   | 14.0                |       |
| **Non-controlling interests*****(Note 22)*                                    | ** ** | **496.4**    | ** **   | 535.0               |       |
| **Shareholders’ equity**                                                 |       | ** **   | ** **   |                |       |
| Common shares***(Note 23 and 24)*                                             | ** ** | **1,780.8**  | ** **   | 1,782.4             |       |
| Retained earnings***(Note 24)*                                                | ** ** | **762.5**    | ** **   | 710.0               |       |
| Accumulated other comprehensive loss *(Notes 1 and 24)*                       | ** ** | **(244.8**   | **)**        | (64.5               | )          |
| **Total shareholders’ equity**                                           | ** ** | **2,298.5**  | ** **   | 2,427.9             |       |
| **Total liabilities and shareholders’  equity**                          | ** ** | **$**        | **7,178.7**  | ** **          | $          | 7,460.1 |   |

 
| Contingencies *(Notes 27, 28 and 30)* |                    |                    |
|---------------------------------------|-------------------------|-------------------------|
| Commitments *(Notes 8, 28 and 29)*    |                    |                    |
| On behalf of  the Board:              |                    |                    |
|                                  |                         |                         |
| ** **                            | **DONNA SOBLE KAUFMAN** | **WILLIAM D. ANDERSON** |
| *See accompanying notes.*             | Director                | Director                |

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

74

 

ConsolidatedStatements of

ComprehensiveIncome

 
| **Year  ended Dec. 31***(in millions of Canadian dollars)*                 | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|---------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| **Net earnings**                                                                | ** ** | **$**      | **308.8**  | ** ** | $          | 44.9       |       | $ | 186.3 |   |
| **Other comprehensive income / (loss)**                                         |       | ** ** | ** ** |       |       |       |       |
| (Losses)  gains on translating net assets of self-sustaining foreign operations | ** ** | **(196.2** | **)**      | 3.6        |       | (61.2      | )          |
| Gains  (losses) on financial instruments designated as hedges                   |       | ** ** | ** ** |       |       |       |       |
| of  self-sustaining foreign operations                                          | ** ** | **240.7**  | ** ** | (1.5       | )          | 54.2       |       |
| Tax  expense (recovery)                                                         | ** ** | **25.4**   | ** ** | (0.3       | )          | 7.8        |       |
|                                                                            |       | **215.3**  | ** ** | (1.2       | )     | 46.4       |       |
| **Gains (losses) on translation of self-sustaining foreign operations**         | ** ** | **19.1**   | ** ** | 2.4        |       | (14.8      | )          |
| Losses  on derivatives designated as cash flow hedges                           | ** ** | **(56.7**  | **)**      | –     |       | –     |       |
| Tax  recovery                                                                   | ** ** | **(15.9**  | **)**      | –     |       | –     |       |
| **Losses on derivatives designated as cash flow hedges**                        | ** ** | **(40.8**  | **)**      | –     |       | –     |       |
| Derivatives  designated as cash flow hedges in prior periods                    |       | ** ** | ** ** |       |       |       |       |
| transferred  to balance sheet in the current period                             | ** ** | **0.7**    | ** ** | –     |       | –     |       |
| Derivatives  designated as cash flow hedges in prior periods                    |       | ** ** | ** ** |       |       |       |       |
| transferred  to net earnings in the current period                              | ** ** | **25.2**   | ** ** | –     |       | –     |       |
| Tax  expense                                                                    | ** ** | **7.2**    | ** ** | –     |       | –     |       |
| ** **                                                                      | ** ** | **18.7**   | ** ** | **–** | ** ** | **–** | ** ** |
| **Other comprehensive (loss) income**                                           | ** ** | **(3.0**   | **)**      | 2.4        |       | (14.8      | )          |
| **Comprehensive income**                                                        | ** ** | **$**      | **305.8**  | ** ** | $          | 47.3       |       | $ | 171.5 |   |

 

*Seeaccompanying notes.*

 

 

CONSOLIDATED FINANCIAL STATEMENTS

 

75

 

ConsolidatedStatements

of Cash Flows

 
| **Year  ended Dec. 31***(in millions of Canadian dollars)*     | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005** | ** ** |
|---------------------------------------------------------------------|------------|------------|------------|------------|------------|----------|------------|
| **Operating activities**                                            |       |       | ** ** |       |       |     |       |
| Net earnings                                                        | ** ** | **$**      | **308.8**  | ** ** | $          | 44.9     |       | $ | 186.3 |   |
| Depreciation  and amortization *(Note 31)*                          | ** ** | **415.1**  | ** ** | 437.8      |       | 400.9    |       |
| Gain on sale  of equipment *(Note 14)*                              | ** ** | **(15.7**  | **)**      | –     |       | –   |       |
| Non-controlling  interests *(Note 22)*                              | ** ** | **48.0**   | ** ** | 51.5       |       | 18.5     |       |
| Asset  retirement obligation accretion *(Note 20)*                  | ** ** | **23.6**   | ** ** | 21.5       |       | 19.3     |       |
| Asset  retirement costs settled *(Note 20)*                         | ** ** | **(38.4**  | **)**      | (29.2      | )          | (29.4    | )          |
| Future income  taxes*(Note 4)*                                      | ** ** | **(33.8**  | **)**      | (163.7     | )          | 5.6      |       |
| Unrealized  (gains) losses from risk management activities          | ** ** | **26.3**   | ** ** | (32.2      | )          | 4.9      |       |
| Foreign  exchange (gain) loss                                       | ** ** | **(3.2**   | **)**      | 0.5        |       | (1.3     | )          |
| Mine closure  charges *(Note  2)*                                   | ** ** | **–** | ** ** | 191.9      |       | –   |       |
| Asset  impairment charges *(Note 3)*                                | ** ** | **–** | ** ** | 130.0      |       | 36.2     |       |
| Equity loss *(Note 11)*                                             | ** ** | **49.5**   | ** ** | 17.0       |       | 0.9      |       |
| Other  non-cash items                                               | ** ** | **1.3**    | ** ** | 8.8        |       | (3.0     | )          |
| ** **                                                          |       | **781.5**  | ** ** | 678.8      |       | 638.9    |       |
| Change in  non-cash operating working capital balances              | ** ** | **65.7**   | ** ** | (189.2     | )          | (19.1    | )          |
| Cash flow  from operating activities                                | ** ** | **847.2**  | ** ** | 489.6      |       | 619.8    |       |
| **Investing activities**                                            |       |       | ** ** |       |       |     |       |
| Additions to  property, plant and equipment                         | ** ** | **(599.1** | **)**      | (223.7     | )          | (325.9   | )          |
| Proceeds on  sale of property, plant and equipment *(Note 14)*      | ** ** | **46.9**   | ** ** | 29.4       |       | 1.6      |       |
| Equity  investment *(Note 11)*                                      | ** ** | **(19.6**  | **)**      | 226.4      |       | (9.3     | )          |
| Restricted  cash *(Note  10)*                                       | ** ** | **56.8**   | ** ** | (333.1     | )          | 2.3      |       |
| Acquisition  of Wailuku Hydro facility *(Note 26)*                  | ** ** | **–** | ** ** | (1.2       | )          | –   |       |
| Realized  gains on financial instruments                            | ** ** | **107.0**  | ** ** | 53.9       |       | 89.8     |       |
| Proceeds on  sale of long-term investments                          | ** ** | **–** | ** ** | 3.0        |       | –   |       |
| Other                                                               | ** ** | **(2.1**   | **)**      | (16.0      | )          | (1.0     | )          |
| Cash flow  used in investing activities                             | ** ** | **(410.1** | **)**      | (261.3     | )          | (242.5   | )          |
| **Financing activities**                                            |       |       | ** ** |       |       |     |       |
| Increase (decrease)  in short-term debt                             | ** ** | **288.9**  | ** ** | 348.1      |       | (23.6    | )          |
| Issuance of  long-term debt *(Note 19)*                             | ** ** | **30.3**   | ** ** | –     |       | –   |       |
| Repayment of  long-term debt *(Note 19)*                            | ** ** | **(251.9** | **)**      | (396.7     | )          | 60.7     |       |
| Dividends  paid on common shares                                    | ** ** | **(204.8** | **)**      | (133.9     | )          | (99.2    | )          |
| Redemption of  preferred securities *(Note 19)*                     | ** ** | **(175.0** | **)**      | –     |       | (300.0   | )          |
| Funds paid to  repurchase common shares under NCIB *(Note 24)*      | ** ** | **(74.9**  | **)**      | –     |       | –   |       |
| Net proceeds  on issuance of common shares *(Note 23)*              | ** ** | **19.5**   | ** ** | 12.9       |       | 19.6     |       |
| Distributions  to subsidiaries’ non-controlling interests      |       | **(86.5**  | **)**      | (74.4      | )          | (77.5    | )          |
| Decrease  (increase) in advances to TransAlta Power                 |       | **6.1**    | ** ** | 0.8        |       | 23.7     |       |
| Other                                                               | ** ** | **4.5**    | ** ** | –     |       | –   |       |
| Cash flow  used in financing activities                             | ** ** | **(443.8** | **)**      | (243.2     | )          | (396.3   | )          |
| **Cash flow used in operating, investing and financing activities** | ** ** | **(6.7**   | **)**      | (14.9      | )          | (19.0    | )          |
| **Effect of translation on foreign currency cash**                  | ** ** | **(8.0**   | **)**      | 1.2        |       | (2.9     | )          |
| **Decrease in cash and cash equivalents**                           | ** ** | **(14.7**  | **)**      | (13.7      | )          | (21.9    | )          |
| **Cash and cash equivalents, beginning of year**                    | ** ** | **65.6**   | ** ** | 79.3       |       | 101.2    |       |
| **Cash and cash equivalents, end of year**                          | ** ** | **$**      | **50.9**   | ** ** | $          | 65.6     |       | $ | 79.3 |   |
| Cash taxes  paid                                                    | ** ** | **$**      | **75.1**   | ** ** | $          | 35.6     |       | $ | 14.7 |   |
| Cash interest  paid                                                 | ** ** | **$**      | **141.7**  | ** ** | $          | 181.2    |       | $ | 183.7 |   |

 

*Seeaccompanying notes.*

 

 

TRANSALTACORPORATION   Annual Report 2007

 

76

 

Notesto Consolidated

FinancialStatements

 

*(Tabular amounts in millions of Canadian dollars, except as otherwisenoted)*

 

**1. Summary of Significant Accounting Policies**

 

**A.  Consolidation**

** **

These consolidatedfinancial statements have been prepared by management in accordance withCanadian Generally Accepted Accounting Principles (“Canadian GAAP”).

 

The consolidatedfinancial statements include the accounts of TransAlta Corporation (“TransAlta”or “the Corporation”), all subsidiaries, and the proportionate share of theaccounts of joint ventures and jointly controlled corporations.

 

**B.  Useof Estimates**

** **

The preparation offinancial statements in accordance with Canadian GAAP requires management tomake estimates and assumptions that affect the reported amounts of assets andliabilities and disclosures of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenues and expensesduring the period. These estimates are subject to uncertainty. Actual resultscould differ from those estimates due to factors such as fluctuations ininterest rates, currency exchange rates, inflation levels and commodity prices,changes in economic conditions and legislative and regulatory changes (*Notes 7, 8, 11, 13, 15, 16, 19, 28, and 33).*

 

**C.  RevenueRecognition**

** **

The majority of theCorporation’s revenues are derived from the sale of physical power and fromenergy marketing and trading activities. Revenues under long-term electricityand thermal sales contracts generally include one or more of the followingcomponents: fixed capacity payments for being available, energy payments forgeneration of electricity, availability payments or penalties for exceeding ornot meeting availability targets, excess energy payments for power generation abovecommitted capacity, and ancillary services. Each is recognized upon output,delivery, or satisfaction of specific targets, all as specified by contractualterms. Revenues from non-contracted capacity are comprised of energy paymentsfor each megawatt hour (“MWh”) produced at market prices, and are recognizedupon delivery.

 

Derivatives used intrading activities are used to earn trading revenues and to gain marketinformation and include physical and financial swaps, forward sales contracts,futures contracts, and options. These derivatives are accounted for using thefair value method of accounting. Derivatives are presented on a net basis onthe statement of earnings. The initial recognition of fair value and subsequentchanges in fair value affect reported earnings in the period the change occurs.The fair values of those instruments that remain open at the balance sheet daterepresent unrealized gains or losses and are presented on the balance sheets asrisk management assets and liabilities.

 

The majority of theCorporation’s derivatives have quoted market prices on active exchanges orover-the-counter quotes available from brokers. However, some derivatives arenot traded on an active exchange or the contracts extend beyond the time periodfor which market-based quotes are available, requiring the use of internalvaluation techniques or models (“mark-to-model accounting”).

 

**D.  DiscontinuedOperations**

 

The results ofdiscontinued operations are presented net of tax on a one-line basis in theconsolidated statements of earnings. Interest expense, direct corporateoverheads and income taxes are allocated to discontinued operations. Generalcorporate overheads are not allocated to discontinued operations.

 

**E.  Inventory**

** **

The majority of costof goods sold as recorded on the statement of earnings reflects the cost ofinventory consumed in the generation of electricity. All inventory is carriedat the lower of cost and net realizable value.

 

The cost ofinternally produced coal inventory is determined using absorption costing whichis defined as the sum of all applicable expenditures and charges directlyincurred in bringing inventory to its existing condition and location.Available coal inventory tends to increase during the second and third quartersas a result of favourable weather conditions. Due to the limited amount ofprocessing steps incurred in mining coal and the relatively low value on a perunit basis, management does not distinguish between work in process and coalavailable for consumption.

 

The cost of naturalgas inventory is also determined using direct costing which includes allapplicable expenditures and charges incurred in bringing inventory to itsexisting condition and location.

 

**F.  Property,Plant and Equipment**

** **

The Corporation’s investmentin property, plant and equipment (“PP&E”) is stated at original cost at thetime of construction, purchase, or acquisition. Original cost includes itemssuch as materials, labour, interest, and other appropriately allocated costs.As costs are expended for new construction, these costs are capitalized asPP&E on the consolidated balance sheet and are subject to depreciation uponcommencement of commercial operations. The cost of routine maintenance andrepairs, such as inspections and corrosion removal, and the replacement ofminor parts, are charged to expense as incurred. Certain expenditures relatingto replacement of components incurred during major maintenance are capitalizedand amortized over the estimated benefit period of such expenditures. Acomponent is a tangible portion of the asset that can be separately identifiedas an asset and depreciated over its own expected useful life, and is expectedto provide a benefit of greater than one year.

 

The estimate of theuseful life of PP&E is based on current facts and past experience, andtakes into consideration existing long-term sales agreements and contracts,current and forecasted demand, and the potential for technologicalobsolescence. The useful life is used to estimate the rate at which thePP&E is depreciated or amortized. These estimates are subject to revisionin future periods based on new or additional information. Depreciation andamortization are calculated using straight-line and unit-of-production methods.Coal rights are amortized on a unit-of-production basis, based on the estimatedmine reserves.

 

 

NOTESTO CONSOLIDATED FINANCIAL STATEMENTS

 

77

 

TransAlta capitalizesinterest on capital invested in projects under construction. Upon commencementof commercial operations, capitalized interest, as a portion of the total costof the plant, is amortized over the estimated useful life of the plant.

 

On an annual basis,and when indicators of impairment exist, TransAlta determines whether the netcarrying amount of PP&E is recoverable from future undiscounted cash flows.Factors that could indicate an impairment exists, include significantunderperformance relative to historical or projected future operating results,significant changes in the manner or use of the assets, significant negativeindustry or economic trends, or a change in the strategy for the Corporation’soverall business. In some cases, these events are clear. However, in manycases, a clearly identifiable event indicating possible impairment does notoccur. Instead, a series of individually insignificant events occur over aperiod of time leading to an indication that an asset may be impaired. This canbe further complicated where TransAlta is not the operator of the facility. Eventscan occur in these situations that may not be known until a date subsequent totheir occurrence.

 

The Corporation’sbusinesses, the markets and business environment are routinely monitored, andjudgments and assessments are made to determine whether an event has occurredthat indicates possible impairment. If such an event has occurred, an estimateis made of future undiscounted cash flows from the PP&E. If the total ofthe undiscounted future cash flows, excluding financing charges with the exceptionof plants that have specifically dedicated debt, is less than the carryingamount of the PP&E, an asset impairment must be recognized in the financialstatements. The amount of the impairment charge to be recognized is calculatedby subtracting the fair value of the asset from the carrying value of theasset. Fair value is the amount at which an item could be bought or sold in acurrent transaction between willing parties, and is normally estimated bycalculating the present value of expected future cash flows related to theasset.

 

**G.  Goodwill**

** **

Goodwill is the costof an acquisition less the fair value of the net assets of an acquiredbusiness. Goodwill and certain intangibles are not subject to amortization, butare instead tested for impairment at least annually, or more frequently if ananalysis of events and circumstances indicate that a possible impairment mayexist. These events could include a significant change in financial position ofthe reporting unit to which the goodwill relates or significant negativeindustry or economic trends. To test for impairment, the fair value of thereporting units to which the goodwill relates is compared to the carryingvalues of the reporting units. The Corporation determined that the fair valuesof the reporting units, exceeded their carrying values as at Dec. 31, 2007and 2006.

 

**H.  IntangibleAssets**

 

Intangible assetsconsist of power sale contracts, with rates higher than market rates at thedate of acquisition, primarily acquired in the purchase of CE Generation LLC (“CEGen”), a jointly controlled enterprise *(Note 34)*. Salecontracts are valued at cost and are amortized on a straight-line basis overthe remaining applicable contract period, which ranges from two to 27 years.

 

**I.  AssetRetirement Obligations (“ARO”)**

 

The Corporationrecognizes ARO in the period in which they are incurred if a reasonableestimate of a fair value can be determined. The associated asset retirementcosts are capitalized as part of the carrying amount of the long-lived asset.The liability is accrued over the estimated time period until settlement of theobligation and the asset is depreciated over the estimated useful life of theasset. Reclamation costs for mining assets are recognized on aunit-of-production basis. 

 

TransAlta hasrecorded an ARO for all generating facilities for which it is legally requiredto remove the facilities at the end of their useful lives and restore the plantand mine sites to their original condition. For some hydro facilities, theCorporation is required to remove the generating equipment, but is not legallyrequired to remove the structures. TransAlta has recognized legal obligationsarising from government legislation, written agreements between entities, andcase law. The asset retirement liabilities are recognized when the ARO isincurred. Asset retirement liabilities for coal mines are incurred over time,as new areas are mined, and a portion of the liability is settled over time asareas are reclaimed prior to final pit reclamation.

 

**J.  Investments**

 

The wholly ownedsubsidiaries that hold TransAlta’s interests in the Campeche and Chihuahuapower plants are considered Variable Interest Entities (“VIEs”) and are shownas equity investments.

 

Investments in sharesof companies over which the Corporation exercises significant influence areaccounted for using the equity method. Other investments are carried at cost.If there is other than a temporary decline in the value of an investment, it iswritten down to net realizable value.

 

**K.  OtherAssets**

 

Deferred license feesand deferred contract costs are amortized on a straight-line basis over theuseful life of the related assets or long-term contracts. 

 

Other costscapitalized on the balance sheet include project development costs, whichincludes external, direct and incremental costs which are necessary forcompletion of an acquisition or construction project. Such costs are includedin operating expenses until construction of a plant or acquisition of aninvestment is likely to occur, there is reason to believe that future costs arerecoverable, and that efforts will result in future value to the Corporation,at which time the future costs are included in PP&E or investments. Theappropriateness of the carrying value of these costs is evaluated each reportingperiod, and unrecoverable amounts of capitalized costs for projects no longerprobable of occurring are charged to expense.

 

**L.  IncomeTaxes**

 

The Corporation usesthe liability method of accounting for income taxes for its operations. Underthe liability method, income taxes are recognized for the differences betweenfinancial statement carrying values and the respective income tax basis ofassets and liabilities (temporary differences), and the carryforward of unusedtax losses. Future income tax assets and liabilities are measured using incometax rates expected to apply in the years in which temporary differences areexpected to be recovered or settled. The effect on future income tax assets andliabilities of a change in tax rates is included in earnings in the period thechange is substantively enacted. Future income tax assets are evaluatedannually and if realization is not considered ‘more likely than not’, avaluation allowance is provided.

 

 

TRANSALTACORPORATION   Annual Report 2007

 

78

 

 

**M.  Employee Future Benefits**

The Corporation accrues itsobligations under employee benefit plans and the related costs, net of planassets. The cost of pensions and other post-employment and post-retirementbenefits earned by employees is actuarially determined using the projectedbenefit method pro-rated on services and management’s best estimate of expectedplan investment performance, salary escalation, retirement ages of employees,and expected health care costs. The defined benefit pension plans are based onan employee’s final average earnings and years of service. The expected returnon plan assets is based on expected future capital market returns. The discountrate used to calculate the interest cost on the accrued benefit obligation isdetermined by reference to market interest rates at the balance sheet date onhigh-quality debt instruments with cash flows that match the timing and amountof expected benefit payments. Past service costs from plan amendments areamortized on a straight-line basis over the Estimated Average Remaining ServiceLife (“EARSL”) of employees active at the date of amendment. The excess of thenet cumulative unamortized actuarial gain or loss over 10 per cent of thegreater of the accrued benefit obligation and the market value of plan assetsis amortized over the estimated average remaining service period of the activeemployees. When the restructuring of a benefit plan gives rise to both acurtailment and settlement of obligations, the curtailment is accounted forprior to the settlement. Transition obligations and assets arising from theprospective adoption of new accounting standards are amortized over EARSL.

 

**N.  Foreign Currency Translation**

The Corporation’s functional currencyis Canadian dollars while self-sustaining foreign operations’ functionalcurrencies are U.S. and Australian dollars.

 

The Corporation’s self-sustaining foreign operations aretranslated using the current rate method. Translation gains and lossesresulting from translating these foreign operations are included in OtherComprehensive Income (“OCI”) and with the cumulative gain or loss reported inAccumulated Other Comprehensive Income (“AOCI”). Foreign currency denominatedmonetary and non-monetary assets and liabilities of self-sustaining foreign operationsare translated at exchange rates in effect on the balance sheet date.

 

Transactions denominated in foreign currencies aretranslated at the exchange rate on the transaction date. The resulting exchangegains and losses on these items are included in net earnings.

 

**O.Derivatives and Financial Instruments**

To be accounted for as a hedge, aderivative must be designated and documented as a hedge, and must be effectiveat inception and on an ongoing basis. The documentation defines allrelationships between hedging instruments and hedged items, as well as theCorporation’s risk management objective and strategy for undertaking varioushedge transactions. The process includes linking derivatives to specific assetsand liabilities on the balance sheet or to specific firm commitments oranticipated transactions. The Corporation also formally assesses, both at thehedge’s inception and on an ongoing basis, whether the derivatives used arehighly effective in offsetting changes in fair values or cash flows of hedgeditems. Hedge effectiveness of cash flow hedges are achieved if the derivatives’cash flows substantially offset the cash flows of the hedged item and thetiming of the cash flows are similar. Hedge effectiveness of fair values isachieved if changes in the fair value of the derivative substantially offsetchanges in the fair value of the item hedged. Any ineffective portion in highlyeffective hedges is recognized in earnings in the current period. If the abovehedge criteria are not met, the derivative is accounted for on the balancesheet at fair value, with the initial fair value and subsequent changes in fairvalue recorded in earnings in the period of change.

 

If a derivative that has been accorded hedge accountingmatures, expires, is sold, terminated or cancelled, the termination gain orloss is deferred and recognized when the gain or loss on the item hedged isrecognized. If a designated hedged item matures, expires, is sold, extinguishedor terminated, or the hedged item is no longer probable of occurring, anyamounts in OCI associated with the hedging item are recognized in currentearnings along with the corresponding gains or losses recognized on the hedgeditem. If a hedging relationship is terminated or ceases to be effective, hedgeaccounting is not applied to subsequent gains or losses. Any previouslydeferred amounts are carried forward and recognized in earnings in the sameperiod as the hedged item.

 

Derivatives used in trading activities are described in *Note 1(C).*

* *

Physical and financial swaps, forward sales contracts,futures contracts, and options are used in cash flow hedges to hedge theCorporation’s exposure to fluctuations in electricity and natural gas prices.If hedging criteria are met, as described above, gains and losses on thesederivatives are recognized in earnings in the same period and financialstatement caption as the hedged exposure. Up to the date of settlement, thefair value of the hedges is recorded in risk management assets or liabilitieswith changes in value being reported in OCI. For those swaps, forwards,futures, and contracts that the Corporation does not seek or is ineligible forhedge accounting, changes in fair value are recorded in earnings.

 

Cross-currency interest rate swaps, foreign currency forwardcontracts, and foreign currency debts are used to hedge exposure to changes inthe carrying values of the Corporation’s net investments in foreign operationsas a result of changes in foreign exchange rates. Gains and losses on theseinstruments that qualify for hedge accounting are reported in OCI with fairvalues recorded in risk management assets or liabilities. For those instrumentsthat the Corporation does not seek or are ineligible for hedge accounting,changes in fair value are recorded in earnings.

 

Foreign currency forward contracts are used in cash flowhedges to hedge the foreign exchange exposures resulting from anticipatedcontracts and firm commitments denominated in foreign currencies. If hedgecriteria are met, changes in value are reported in OCI with the fair valuebeing reported in risk management assets or liabilities, as appropriate. Uponsettlement of the derivative, any gain or loss on the forward contracts areincluded in the cost of the asset or liability when the asset is purchased anddepreciated over the asset’s estimated useful life.

 

Interest rate swaps are used to manage the ratio of floatingrates versus fixed rate debt. Interest rate swaps require the periodic exchangeof payments without the exchange of the notional principal amount on which thepayments are based. If hedge criteria are met, interest expense on the debt isadjusted to include the payments made or received under the interest rateswaps.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

79

 

**P.Stock-Based Compensation Plans**

The Corporation has three types ofstock-based compensation plans comprised of two stock option-based plans, and aPerformance Share Ownership Plan (“PSOP”), described in *Note 32*.Under the fair value method, compensation expense is measured at the grant dateat fair value and recognized over the service period. In 2007, the Corporationdid not grant options to its employees.

 

Stock grants under PSOP are accrued in operations,maintenance, and administration (“OM&A”) expense as earned to the balancesheet date, based upon the percentile ranking of the total shareholder returnof the Corporation’s common shares in comparison to the total shareholderreturns of companies comprising the Standard & Poor’s (“S&P”)/TorontoStock Exchange (“TSX”) composite index. Compensation expense under the phantomstock option plan is recognized in OM&A for the amount by which the quotedmarket price of TransAlta’s shares exceed the option price, and adjusted forchanges in each period for changes in the excess over the option price. Ifstock options or stock are repurchased from employees, the excess of theconsideration paid over the carrying amount of the stock option or stockcancelled is charged to retained earnings.

 

**Q.Cash and Cash Equivalents**

Cash and cash equivalents arecomprised of cash and highly liquid investments with original maturities ofthree months or less.

 

**R.Accounting for Emission Credits and Allowances**

Purchased emission allowances arerecorded on the balance sheet at historical cost and are carried at the lowerof weighted average cost and net realizable value. Allowances granted toTransAlta or internally generated are recorded at nil. TransAlta recordsemissions liability on the balance sheet using the best estimate of the amountrequired to settle the Corporation’s obligation in excess ofgovernment-established caps and targets. To the extent compliance costs arerecoverable under the terms of contracts with third parties, these amounts arerecognized as revenue in the period of recovery.

 

Proprietary trading of emissions allowances that meet thedefinition of a derivative are accounted for using the fair value method ofaccounting. Allowances that do not satisfy the criteria of a derivative areaccounted for using the accrual method.

 

**S.Planned Maintenance**

Planned maintenance expendituresinclude both expense and capital portions. Expense portions are expensed in theperiod incurred. Capitalized amounts are capitalized in the period of maintenanceactivities and are amortized on a straight-line basis over the life of theasset.

 

**T.Accounting Changes**

**DepreciationExpense**

For active mines, accretion expenseis included in fuel and purchased power. However, as the Centralia coal mine isnow considered inactive, related accretion expense is included as part ofdepreciation expense. In 2006 and 2005, $8.7 million and $8.2 million,respectively, was recorded in fuel expense related to accretion expenseincurred at the Centralia coal mine.

 

**Change in Estimate of CertainComponents at Centralia Thermal**

As a result of the Corporation’sdecision to stop mining at the Centralia coal mine, TransAlta is now procuringall of the coal used in production at Centralia Thermal from several selectedthird party vendors. The coal that is delivered from these vendors is of adifferent chemical composition and has a different thermal content than thecoal from the Centralia coal mine. Previously, this externally sourced coal wasblended with internally produced coal to maximize the output from CentraliaThermal. However, with the cessation of mining, this locally mined coal is nolonger available to be blended and therefore the coal being consumed burns at ahigher temperature and produces a different composition of ash. The boiler atCentralia Thermal is not currently configured to run optimally at these highertemperatures or with the different ash compositions. 

 

During 2007, test burns were conducted to determine whatequipment modifications are needed to be performed to optimize this consumptionof third party delivered coal. During 2007, a technical plan was completedincluding which components needed to be replaced to ensure continued maximumoutput from Centralia Thermal. These equipment modifications are scheduled tooccur during planned maintenance outages in 2008 and 2009. As a result, theestimated useful life of the component parts that are to be replaced duringthese planned outages has been reduced and this change in estimate of usefullife will be recognized over the period up to the related maintenance outage.

 

As a result, depreciation expense increased $5.5 million in2007 compared to 2006. In 2008 and 2009 depreciation expense will increase by$13.6 million and $2.6 million, respectively, compared to 2006.

 

**Presentation of Gross Margins**

Previously, revenues and relatedcosts for contracts settled in real-time physical markets were recorded on agross basis. However, all of these contracts are being held for trading,irrespective of the market in which they are settled. Therefore, it is morerepresentative of the actual trading activities of Commercial Operations andDevelopment (“COD”) to report the results of these contracts on a net basis.

 

Consolidated prior year balances have been reclassified toconform with the current year’s presentation, as shown below. Consolidatedcurrent year balances have been prepared in the following table usingpreviously disclosed methodologies for information purposes only.

 
| **Year ended Dec. 31**               | ** ** | **2007**   | ** **  | **2006** | ** ** | **2005** | ** ** |
|-------------------------------------------|------------|------------|-------------|----------|------------|----------|------------|
| Revenue – *as previously calculated* | ** ** | **$**      | **2,992.5** |     | $          | 2,796.5  |       | $ | 2,838.5 |   |
| Trading purchases                    | ** ** | **(217.8** | **)**       | (118.9   | )          | (174.1   | )          |
| **Revenue –*as revised***            | ** ** | **$**      | **2,774.7** |     | $          | 2,677.6  |       | $ | 2,664.4 |   |

 

**Inventories**

In March 2007, the CanadianInstitute of Chartered Accountants (“CICA”) issued Section 3031, *Inventories*, which aligns accounting for inventories underCanadian GAAP with International Financial Reporting Standards (“IFRS”).TransAlta early adopted this standard. This standard did not have a materialeffect on the financial statements *(Note 9)*.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

80

 

**Capital Disclosure**

On Dec. 1, 2006, the CICA issuedSection 1535, *Capital Disclosures*.TransAlta early adopted this standard and provided the required disclosure in *Note 25*.

 

**General Standards on FinancialStatement Presentation**

On June 1, 2007, the CICA issuedSection 1400, *General Standards onFinancial Statement Presentation.* TransAlta early adopted thisstandard and did not require any additional disclosures.

 

**Financial Instruments**

On Jan.1, 2007, TransAlta adoptedfour new accounting standards that were issued by the CICA: Section 1530, *Comprehensive Income*, Section 3855, *FinancialInstruments – Recognition and Measurement,* Section 3861, *Financial Instruments – Disclosure and Presentation,* and Section3865, *Hedges*. TransAlta adopted thesestandards retroactively with an adjustment of opening AOCI solely related toaccumulated losses on the translation of self-sustaining foreign operations.

 

Section 3861 outlines disclosurerequirements that are designed to enhance financial statement users’understanding of the significance of financial instruments to an entity’sfinancial position, performance, and cash flows. The presentation requirementsoutlined in this Section have been adopted in the Corporation’s financialinstruments presentation and related disclosure.

 

To present comparable 2006 balancesheet figures, prior year balances were reclassified. Short-term and long-termrisk management assets were increased by $11.2 million and $43.2 millionrespectively, and current and long-term portions of other assets were reducedby the corresponding amounts. Short-term and long-term risk managementliabilities were increased by $2.1 million and $13.0 million respectively, andcurrent and long-term portions of deferred credits and other long-termliabilities were decreased by the corresponding amounts. Cumulative losses onthe translation of self-sustaining foreign subsidiaries of $64.5 million werereclassified as the opening balance of AOCI.

 

**Comprehensive Income**

Section 1530 introducescomprehensive income, which consists of net earnings and OCI. OCI representschanges in shareholders’ equity during a period arising from transactions andchanges in prices, markets, interest rates, and exchange rates and includesunrealized gains and losses on financial assets classified asavailable-for-sale, unrealized foreign currency translation gains or lossesarising from self-sustaining foreign operations, net of hedging activities, andchanges in the fair value of the effective portion of cash flow hedginginstruments. TransAlta has included in the consolidated financial statementsconsolidated statements of comprehensive income. The cumulative changes in OCIare included in AOCI, which is presented as a new category of shareholders’equity on the consolidated balance sheet.

 

**Financial Instruments – Recognitionand Measurement**

Section 3855 establishesstandards for recognizing and measuring financial assets, financialliabilities, and non-financial derivatives. It requires that financial assetsand financial liabilities, including derivatives, be recognized on theconsolidated balance sheet when the Corporation becomes a party to thecontractual provisions of the financial instrument or non-financial derivativecontract. Under this standard, all financial instruments are required to bemeasured at fair value upon initial recognition except for certain relatedparty transactions. Measurement in subsequent periods depends on whether thefinancial instrument has been classified as held-for-trading,available-for-sale, held-to-maturity, loans and receivables, or other financialliabilities. Transaction costs are expensed as incurred for financialinstruments classified or designated as held-for-trading. For other financialinstruments, transaction costs are capitalized on initial recognition andamortized using the effective interest rate method. Financial liabilities areremoved from the financial statements when the liability is extinguished eitherthrough settlement of or release from the obligation of the underlyingliability.

 

Financial assets and financial liabilities held-for-tradingare measured at fair value with changes in those fair values recognized in netearnings. Financial assets held-to-maturity, loans and receivables, and otherfinancial liabilities are measured at amortized cost using the effectiveinterest method of amortization. Investments in equity instruments classifiedas available-for-sale that do not have a quoted market price in an activemarket are measured at cost.

 

Derivative instruments are recorded on the consolidatedbalance sheet at fair value, including those derivatives that are embedded infinancial or non-financial contracts that are not closely related to the hostcontracts. Changes in the fair values of derivative instruments are recognizedin net earnings with the exception of the effective portion of (i) derivativesdesignated as effective cash flow hedges or (ii) hedges of foreigncurrency exposure of a net investment in a self-sustaining foreign operation,which are recognized in OCI.

 

Section 3855 also provides an entity the option todesignate a financial instrument as held-for-trading (the fair value option) onits initial recognition or upon adoption of the standard, even if the financialinstrument, other than loans and receivables, was not acquired or incurredprincipally for the purpose of selling or repurchasing it in the near term. Aninstrument that is classified as held for-trading by way of this fair valueoption must have reliable fair values and satisfy one of the following criteria(i) when doing so eliminates or significantly reduces a measurement orrecognition inconsistency that would otherwise arise from measuring assets orliabilities, or recognizing gains and losses on them on a different basis or (ii) itbelongs to a group of financial assets, financial liabilities or both which aremanaged and evaluated on a fair value basis in accordance with TransAlta’s riskmanagement strategy, and are reported to senior management personnel on thatbasis.

 

Other significant accounting implications arising upon theadoption of Section 3855 include the use of the effective interest ratemethod of amortization for any transaction costs or fees, premiums or discountsearned or incurred for financial instruments measured at amortized cost, andthe recognition of the inception fair value of the obligation undertaken inissuing a guarantee that meets the definition of a guarantee pursuant toAccounting Guideline 14, *Disclosure of Guarantees*(“AcG-14”).No subsequent re-measurement at fair value is required unless the financialguarantee qualifies as a derivative. If the financial guarantee meets thedefinition of a derivative it is re-measured at fair value at each balancesheet date and reported as a derivative in other assets or other liabilities,as appropriate.

 

In addition, Section 3855 requires that an entity mustselect an accounting policy of either expensing debt issue costs as incurred orapplying them against the carrying value of the related asset or liability.TransAlta is currently applying all eligible debt transaction costs against thecarrying value of the debt.

 

As part of the implementation of Handbook Section 3855,TransAlta selected Jan. 1, 2003 as the transition date with respect to theassessment of embedded derivatives. TransAlta recognizes as separate assets andliabilities only those derivatives embedded in hybrid instruments issued,acquired or substantively modified on or after the selected transition date.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

81

 

**Hedges**

Section 3865 specifies thecriteria that must be satisfied in order for hedge accounting to be applied andthe accounting for each of the permitted hedging strategies: fair value hedges,cash flow hedges, and hedges of foreign currency exposures of net investmentsin self-sustaining foreign operations. Hedge accounting is discontinuedprospectively when the derivative no longer qualifies as an effective hedge, orthe derivative is terminated or sold, or upon the sale or early termination ofthe hedged item.

 

In a fair value hedging relationship, the carrying value ofthe hedged item is adjusted for changes in fair value attributable to thehedged risk and recognized in net earnings. Changes in the fair value of thehedged item, to the extent that the hedging relationship is effective, areoffset by changes in the fair value of the hedging derivative, which is alsorecorded in net earnings. When hedge accounting is discontinued, the carryingvalue of the hedged item is no longer adjusted and the cumulative fair valueadjustments to the carrying value of the hedged item are amortized to netearnings over the remaining term of the original hedging relationship.

 

In a cash flow hedging relationship, the effective portionof the change in the fair value of the hedging derivative is recognized in OCIwhile any ineffective portion is recognized in net earnings. When hedgeaccounting is discontinued, the amounts previously recognized in AOCI arereclassified to net earnings during the periods when the variability in thecash flows of the hedged item affects net earnings. Gains and losses onderivatives are reclassified immediately to net earnings when the hedged itemis sold or early terminated, or the hedged anticipated transaction is probableof not occurring.

 

In hedging a foreign currency exposure of a net investmentin a self-sustaining foreign operation, the effective portion of foreignexchange gains and losses on the hedging instruments is recognized in OCI andthe ineffective portion is recognized in net earnings. The amounts previouslyrecognized in AOCI are recognized in net earnings when there is a reduction inthe hedged net investment as a result of a dilution or sale of the netinvestment; or reduction in equity of the foreign operation as a result ofdividend distributions.

 

Prior to the adoption of Section 3865, gains and losseson physical and financial swaps, forward sales contracts, futures contracts andoptions used to hedge the Corporation’s exposure to fluctuations in electricityand natural gas prices related to output from the plants and designated ashedges were recognized in earnings in the same period and financial statementcaption as the hedged exposure (settlement accounting). The derivatives werenot recorded on the balance sheet. Foreign currency forward contracts used tohedge the foreign exchange exposures resulting from anticipated contracts andfirm commitments denominated in foreign currencies where hedge criteria weremet were not recognized on the balance sheet. Interest rate swaps used tomanage the impact of fluctuating interest rates on existing debt were notrecognized on the balance sheet if they met hedge criteria.

 

**Impactupon Adoption of Sections 1530, 3855 and 3865**

The transition adjustments attributable to there-measurement of financial assets and financial liabilities at fair value,other than hedging instruments designated as cash flow hedges or hedges offoreign currency exposure of net investment in self-sustaining foreignoperations available for sale financial assets, were recognized in openingretained earnings (the value of which was nil) as at Jan. 1, 2007.Adjustments arising from re-measuring financial assets classified asavailable-for-sale at fair value were recognized in opening AOCI as at thatdate.

 

For hedging relationships existing prior to adopting Section 3865that continue to qualify for hedge accounting under the new standard, thetransition accounting is as follows: (i) fair value hedges – any gain orloss on the hedging instrument was recognized in opening retained earnings andthe carrying amount of the hedged item was adjusted by the cumulative change infair value attributable to the designated hedged risk and was also included inopening retained earnings and (ii) cash flow hedges and hedges of netinvestments in self-sustaining foreign operations – the effective cumulativeportion of any gain or loss on the hedging instrument was recognized in AOCIand the cumulative ineffective portion was included in opening retainedearnings *(Note 24)*.

 

The following transition adjustments were recorded in theconsolidated financial statements: recognition in AOCI of $177.3 million, netof taxes, related to the cumulative losses on the effective portion of theCorporation’s cash flow hedges that are now required to be recognized underSections 3855 and 3865. In addition, $64.5 million of net foreign currencylosses that were previously presented as a separate item in shareholders’equity were reclassified to AOCI. This adjustment was applied retroactively,with restatement, to the consolidated balance sheets and statements of othercomprehensive income. There was no impact to net earnings or earnings per shareof prior periods as a result of adopting these standards.

 

The majority of the changes were reflected in the value ofCOD risk management assets and liabilities as well as in financial instrumentsused as hedges of debt and net investment of self-sustaining foreignsubsidiaries. The impact of adopting these standards on the Corporation’s Jan. 1,2007 balance sheet is outlined below:

 
| ** **                                                                                         | ** ** | **Price risk assets** |       | **Price risk liabilities** |       |        |       |
|----------------------------------------------------------------------------------------------------|------------|-----------------------|------------|----------------------------|------------|-------------|------------|
| ** **                                                                                         | ** ** | **Current**           | ** ** | **Long-term**              | ** ** | **Current** | ** ** | **Long-term** | ** ** | **Net** | ** ** |
| Net risk management assets (liabilities)  outstanding at Dec. 31, 2006 – *as  reported*1 |       |                  |       |                       |       |        |       |   |   |   |   |
|                                                                                               | $          | 72.2                  |       | $                          | 65.1       |        | $          | (32.4 | ) | $ | (14.0 | ) | $ | 90.9 |   |
|                                                                                               |       |                  |       |                       |       |        |       |   |   |   |   |
| Fair value of COD net risk management assets                                                       |       |                  |       |                       |       |        |       |   |   |   |   |
| (liabilities) outstanding at Jan. 1, 2007                                                     |       | 99.6                  |       | 77.7                       |       | (122.2      | )          | (276.3 | ) | (221.2 | ) |
| Fair value of hedges of debt and net investment                                                    |       |                  |       |                       |       |        |       |   |   |   |   |
| of foreign subsidiaries at Jan. 1, 2007                                                       |       | 12.6                  |       | 61.1                       |       | (3.9        | )          | (22.1 | ) | 47.7 |   |
| **Total fair values**                                                                              |       | $                     | 112.2      |                       | $          | 138.8       |       | $ | (126.1 | ) | $ | (298.4 | ) | $ | (173.5 | ) |

 

*1  Previously reported balances have beenreclassified*(Note 1 (T)).

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

82

 

The gross and net of tax impact of adopting these standardsto the opening balance of AOCI are outlined below:

 
| Net risk management assets outstanding at Dec. 31,  2006 – *as reported*            |   | $      | 90.9   |   |
|-----------------------------------------------------------------------------------------------|--------|--------|--------|--------|
|                                                                                          |   |   |   |
| Fair value of COD net risk management liabilities  outstanding at Jan. 1, 2007           |   | (221.2 | )      |
| Fair value of hedges of debt and net investment of  foreign subsidiaries at Jan. 1, 2007 |   | 47.7   |   |
| **Total fair value of risk management  liabilities**                                          |   | (173.5 | )      |
| Change in fair value                                                                          |   | (264.4 | )      |
| Tax                                                                                           |   | (87.1  | )      |
| **Adjustment to opening Accumulated Other  Comprehensive Loss from fair values**              |   | $      | (177.3 | )      |
| Cumulative translation adjustment at Dec. 31, 2006                                       |   | (64.5  | )      |
| **Opening balance, Accumulated Other  Comprehensive Loss**                                    |   | $      | (241.8 | )      |

 

**VariableInterest Entities (“VIEs”)**

On Sept. 15, 2006, the Emerging Issues Committee issuedAbstract No. 163, *Determining theVariability to be Considered in Applying AcG-15*(“EIC-163”). EIC-163provides additional clarification on how to analyze and consolidate VIEs whentransactions take place to reduce the variability in the entity. EIC-163 becameeffective on Jan. 1, 2007, and its implementation does not have a materialimpact upon the consolidated financial position or results of operations.

 

**U. Future Accounting Changes**

**Deferralof Costs and Internally Developed Intangibles**

In November 2007, the Accounting Standards Board (“AcSB”)approved Section 3064, *Goodwill and IntangibleAssets,* replacing Section 3062, *Goodwill andOther Intangible Assets,* and Section 3450, *Research andDevelopment Costs.* Section 3064 incorporates material from IAS38, *Intangible Assets,*addressing when aninternally developed intangible asset meets the criteria for recognition as anasset. The AcSB also approved amendments to Section 1000, *Financial Statement Concepts,*and Accounting GuidelineAcG-11, *Enterprises in the Development Stage.*The amendments to AcG-11 provide consistency with Section 3064. EIC-27, *Revenues and Expenditures during the Pre-operating Period,*will not apply to entities that have adopted Section 3064. These changesare effective for TransAlta on Jan. 1, 2009, and the impact on TransAlta’sfinancial statements is currently being assessed.

 

**EmbeddedForeign Currency Derivatives**

On Jan. 8, 2008, the CICA Emerging Issues Committeeissued EIC-169 *Determining whether a contract is routinelydenominated in a single currency.* The EIC is intended to provideguidance on when an embedded foreign currency derivative would requirebifurcation from a host contract. EIC-169 is effective for TransAlta on Jan. 1,2008 with retrospective application, and is currently not anticipated to have amaterial impact on TransAlta’s financial statements.

 

**FinancialInstruments – Disclosures and Presentation**

On Dec. 1, 2006, the CICA issued Handbook Section 3862,*Financial Instruments –**Disclosures,*and Handbook Section 3863*, Financial Instruments – Presentation.* These new standardswere effective on Jan. 1, 2008 and replace Handbook Section 3861, *Financial Instruments – Disclosure**andPresentation,* revising and enhancing its disclosure requirements,and carrying forward unchanged its presentation requirements. These newsections place increased emphasis on disclosures about the nature and extent ofrisks arising from financial instruments and how the entity manages thoserisks.

 

The impact of these new standards on TransAlta’s financialstatements is currently being assessed.

 

**InternationalFinancial Reporting Standards**

In 2005, the AcSB announced that accounting standards inCanada are to converge with IFRS. On Feb. 13, 2008, the AcSB had confirmedthat the use of IFRS will be required by Jan. 1, 2011, with appropriatecomparative data from the prior year. Under IFRS, the primary audience iscapital markets and as a result, there is significantly more disclosurerequired, specifically for quarterly reporting. Further, while IFRS uses aconceptual framework similar to Canadian GAAP, there are significantdifferences in accounting policy that must be addressed.

 

On Dec. 31, 2007, the Securities and ExchangeCommission approved rule amendments that will allow foreign privateissuers to use financial statements without reconciliation to U.S. GAAP, ifthey are prepared using the English language version of IFRS as issued by theInternational Accounting Standards Board.

 

The impact of these new standards on TransAlta’s financialstatements is currently being assessed.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

83

 

**2. Mine ClosureCharges**

On Nov. 27, 2006, TransAlta ceased mining activities atthe Centralia coal mine as a result of increased costs and unfavourable geologicalconditions. All associated mining and reclamation equipment was written down tothe lower of net book value or anticipated realized proceeds. Mineinfrastructure, including coal processing equipment and structures, haul roads,and other equipment were written down to anticipated net salvage value. Assetretirement costs, representing the unamortized cost of future reclamation, werealso written off. In addition, employee termination costs and othermiscellaneous expenses were recorded. The total of these write-downs andprovisions before taxes was $191.9 million.

 

As a result of the cessation of mining activities, allinternally produced coal was also written down to fair market value, which isreplacement cost, resulting in an expense of $44.4 million being recorded infuel and purchased power. The total amounts are summarized in the table below:

 
| Writedown of coal inventory                  |   | $      | 44.4   |   |
|----------------------------------------------|--------|--------|--------|--------|
| Impact on gross margin                       |   | (44.4  | )      |
| **Mine closure charges**                     |   |   |   |
| Mine equipment and infrastructure  writedown |   | 72.1   |   |
| ARO writedown                                |   | 81.3   |   |
| Severance costs and other                    |   | 38.5   |   |
| Total mine closure charges                   |   | 191.9  |   |
| **Loss before income taxes**                 |   | $      | (236.3 | )      |
| Income tax recovery                          |   | 82.7   |   |
| **Net loss impact of event**                 |   | $      | (153.6 | )      |

 

**3. Asset ImpairmentCharges**

For the year ended Dec. 31, 2006, changes in theoutlook for dispatch rates and trading values and their impact on plantprofitability resulted in the determination that the full book value of theCentralia Gas facility was unlikely to be recovered from future cash flows. Asa result of a market valuation, TransAlta recorded a $130.0 million pre-taximpairment charge to write this plant down to its fair value. This asset isincluded in the Generation segment.

 

For the year ended Dec. 31, 2005, TransAltaCogeneration, L.P. (“TA Cogen”), a subsidiary that is owned 50.01 per cent byTransAlta, recorded an impairment charge of $78.3 million in respect of theOttawa facility as the net book value of that facility exceeded its netrecoverable amount, measured as the future cash flows from the facility. Thenet book value of the Ottawa facility in the accounts of the Corporation islower than that in TA Cogen. The carrying value in TransAlta is fullyrecoverable from future cash flows of the facility. The difference in net bookvalue between the accounts of the Corporation and TA Cogen is due to the higherpurchase price of the plant paid by TA Cogen. The Corporation has recognized anincrease in depreciation expense of $36.2 million related to TransAlta Power,L.P.’s share of the impairment charge. This amount is offset by a recovery inthe earnings attributable to non-controlling interests in the Corporation’sincome statement.

 

**4. Income Taxes**

The Corporation follows Canadian GAAP for non-regulatedentities for all electricity generation operations and as a result, futureincome taxes have been recorded for all operations.

 

The Corporation’s operations are complex, and thecomputation and provision for income taxes involves tax interpretations,regulations and legislation that are continually changing. The Corporation’stax filings are subject to audit by taxation authorities. The outcome of someaudits may change the tax liability of the Corporation. Management believes ithas adequately provided for income taxes based on all information currentlyavailable.

 

**A. Statements of Earnings**

**I.   Rate Reconciliations**

 
| **Year ended  Dec. 31**                                             | ** ** | **2007**   | ** **   | **2006**                  | ** **   | **2005**                  | ** ** |
|--------------------------------------------------------------------------|------------|------------|--------------|---------------------------|--------------|---------------------------|------------|
|                                                                     | * *   | * *   | *** *** | ***(Restated,  Note 1)*** | *** *** | ***(Restated,  Note 1)*** | * *   |
| **Earnings (loss) from continuing  operations before income taxes**      | ** ** | **$**      | **329.2**    | ** **                | $            | (80.9                     | )          | $ | 213.9 |   |
| Equity loss                                                              | ** ** | **(49.5**  | **)**        | (17.0                     | )            | (0.9                      | )          |
| **Earnings (loss) before income taxes and  excluding equity loss**       | ** ** | **$**      | **378.7**    | ** **                | $            | (63.9                     | )          | $ | 214.8 |   |
| Statutory Canadian federal and provincial income tax rate  (%)           | ** ** | **32.1**   | ** **   | 32.5                      |         | 33.6                      |       |
| Expected taxes (recovery) on income                                      | ** ** | **121.6**  | ** **   | (20.8                     | )            | 72.2                      |       |
| Increase (decrease) in income taxes resulting from:                      |       |       | ** **   |                      |         |                      |       |
| Lower effective foreign tax rates                                        | ** ** | **(35.9**  | **)**        | (32.9                     | )            | (28.0                     | )          |
| Asset impairment and mine closure  charges recognized at higher tax rate | ** ** | **–** | ** **   | (9.2                      | )            | –                    |       |
| Resolution of uncertain tax  positions, net                              | ** ** | **(18.4**  | **)**        | –                    |         | (13.0                     | )          |
| Capital taxes                                                            | ** ** | **2.0**    | ** **   | 3.2                       |         | 10.0                      |       |
| Effect of tax rate changes                                               | ** ** | **(47.7**  | **)**        | (55.3                     | )            | –                    |       |
| Statutory and other rate  differences                                    | ** ** | **(1.4**   | **)**        | (4.4                      | )            | 3.3                       |       |
| Other                                                                    | ** ** | **0.2**    | ** **   | (6.4                      | )            | (4.9                      | )          |
| **Income tax expense (recovery)**                                        | ** ** | **$**      | **20.4**     | ** **                | $            | (125.8                    | )          | $ | 39.6 |   |
| **Effective tax rate**(%)                                                | ** ** | **5.4**    | ** **   | 196.9                     |         | 18.4                      |       |

 

To present comparable reconciliations, prior years’effective tax rate analysis were reclassified and calculated on earnings (loss)before income tax and excluding equity loss *(Note 11)*.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

84

 

**II.  Components of Income Tax Expense (Recovery)**

 
| **Year  ended Dec. 31**                                                                            | ** ** | **2007**  | ** ** | **2006**   | ** ** | **2005** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|-----------|------------|------------|------------|----------|------------|
| Current tax  expense                                                                                    | ** ** | **$**     | **54.2**   | ** ** | $          | 37.9     |       | $ | 34.0 |   |
| Future  income tax expense (recovery) related to the origination and reversal of  temporary differences | ** ** | **13.9**  | ** ** | (108.4     | )          | 9.4      |       |
| Future income tax  recovery resulting from changes in tax rates or laws                                 | ** ** | **(47.7** | **)**      | (55.3      | )          | (3.8     | )          |
| **Income tax expense  (recovery)**                                                                      | ** ** | **$**     | **20.4**   | ** ** | $          | (125.8   | )          | $ | 39.6 |   |

 

**B.Balance Sheets**

Significant components of the Corporation’s future incometax assets and (liabilities) are as follows:

 
| **As at Dec. 31**                           | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|--------------------------------------------------|------------|------------|------------|------------|------------|
| Net operating and  capital loss carryforwards    | ** ** | **$**      | **178.1**  | ** ** | $          | 255.4 |   |
| Future site  restoration costs                   | ** ** | **77.3**   | ** ** | 79.5       |       |
| Property, plant  and equipment                   | ** ** | **(717.1** | **)**      | (803.6     | )          |
| Risk management  assets and liabilities          | ** ** | **75.3**   | ** ** | (23.2      | )          |
| Employee future  benefits and compensation plans | ** ** | **21.2**   | ** ** | 26.5       |       |
| Allowance for  doubtful accounts                 | ** ** | **18.0**   | ** ** | 21.3       |       |
| Other deductible  temporary differences          | ** ** | **41.2**   | ** ** | 45.4       |       |
| **Future income tax  (liabilities) and assets**  | ** ** | **$**      | **(306.0** | **)**      | $          | (398.7 | ) |

 

Presented in the balance sheet asfollows:

 
| **As at Dec. 31**                          | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|-------------------------------------------------|------------|------------|------------|------------|------------|
| Assets                                          |       | ** ** | ** ** |       |       |
| Current                                         | ** ** | **$**      | **40.2**   | ** ** | $          | 25.8 |   |
| Long-term                                       | ** ** | **302.5**  | ** ** | 294.0      |       |
| Liabilities                                     |       | ** ** | ** ** |       |       |
| Current                                         | ** ** | **(12.0**  | **)**      | (19.9      | )          |
| Long-term                                       | ** ** | **(636.7** | **)**      | (698.6     | )          |
| **Future income tax  (liabilities) and assets** | ** ** | **$**      | **(306.0** | **)**      | $          | (398.7 | ) |

 

As at Dec. 31, 2007, there were income tax losscarryforwards of $61.3 million (2006 – $37.5 million) for which no tax benefithas been recognized. These losses begin to expire in 2013.

 

**5. DiscontinuedOperations**

In August 2000, the Corporation sold its AlbertaDistribution and Retail (“D&R”) business. During 2005, the Corporationsettled an outstanding income tax dispute related to this business.

 

**6. Accounts Receivable**
| **As at Dec. 31**                                                            | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|-----------------------------------------------------------------------------------|------------|------------|------------|------------|------------|
| Gross accounts receivable                                                         | ** ** | **$**      | **591.9**  | ** ** | $          | 672.2 |   |
| Allowance for doubtful accounts *(Note 30)*                                       | ** ** | **(45.5**  | **)**      | (53.9      | )          |
| **Net accounts receivable**                                                       | ** ** | **$**      | **546.4**  | ** ** | $          | 618.3 |   |
|  

The change in allowance for doubtful accounts is outlined  below:

  |       | ** ** | ** ** |       |       |
| Balance, Dec. 31, 2006                                                       |       | ** ** | ** ** | $          |  53.9 |   |
| Change in foreign exchange rates                                                  |       | ** ** | ** ** | (8.4       | )          |
| **Balance, Dec. 31, 2007**                                                   | ** ** | ** ** | ** ** | **$**      | **45.5**   | ** ** |

 

**7. Fair Values ofFinancial Instruments**

The fair value of a financial instrument is the amount ofconsideration that would be agreed upon in an arm’s-length transaction betweenknowledgeable, willing parties who are under no compulsion to act. Fair valuesare determined by reference to prices in active markets for that instrument towhich the Corporation has access. In the absence of an active market, theCorporation determines fair values based on valuation models, such as optionpricing models and cash flow analysis, using observable market-based inputs.

 

Fair values determined using valuation models require theuse of assumptions concerning the amount and timing of estimated future cashflows. In determining those assumptions, the Corporation looks primarily toexternal readily observable market inputs including factors such as electricityprices, gas prices, and anticipated market growth. In limited circumstances,the Corporation uses input parameters that are not based on observable marketdata and believes that using possible alternative assumptions will not resultin significantly different fair values.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

85

 

**A. Accounting for Changes in Fair Value ofFinancial Instruments During the Period**

As described in *Note 1*,financial instruments classified as held-for-trading are carried at fair valueon the consolidated balance sheet. Any changes in the fair values of financialinstruments classified as held-for-trading are recognized in net earningsexcept those contracts that are part of effective hedge relationships.

 

**CarryingValue and Fair Value of Selected Financial Instruments**

While most financial assets and liabilities are carried atfair value, the following table provides a comparison of carrying values tofair values as at Dec. 31, 2007, and Dec. 31, 2006, for selectedfinancial instruments:

 
| **Carrying value and fair value of financial  instruments as at Dec. 31, 2007** | ** ** | **Classified as  held-for-trading** | ** ** | **Derivatives  used for hedging** | ** ** | **Per consolidated  balance sheet** | ** ** | **Total fair value**      | ** ** |
|--------------------------------------------------------------------------------------|------------|-------------------------------------|------------|-----------------------------------|------------|-------------------------------------|------------|---------------------------|------------|
| Risk  management assets                                                              | ** ** | ** **                          | ** ** | ** **                        | ** ** | ** **                          | ** ** | ** **                | ** ** |
| Current                                                                              | ** ** | **$**                               | **24.0**   | ** **                        | **$**      | **69.2**                            | ** ** | **$**                     | **93.2**   | ** ** | **$** | **93.2** | ** ** |
| Long-term                                                                            | ** ** | **0.4**                             | ** ** | **121.6**                         | ** ** | **122.0**                           | ** ** | **122.0**                 | ** ** |
| **Total risk management assets**                                                     | ** ** | **$**                               | **24.4**   | ** **                        | **$**      | **190.8**                           | ** ** | **$**                     | **215.2**  | ** ** | **$** | **215.2** | ** ** |
| Risk  management liabilities                                                         | ** ** | ** **                          | ** ** | ** **                        | ** ** | ** **                          | ** ** | ** **                | ** ** |
| Current                                                                              | ** ** | **$**                               | **12.4**   | ** **                        | **$**      | **92.7**                            | ** ** | **$**                     | **105.1**  | ** ** | **$** | **105.1** | ** ** |
| Long-term                                                                            | ** ** | **13.5**                            | ** ** | **190.7**                         | ** ** | **204.2**                           | ** ** | **204.2**                 | ** ** |
| **Total risk management liabilities**                                                | ** ** | **$**                               | **25.9**   | ** **                        | **$**      | **283.4**                           | ** ** | **$**                     | **309.3**  | ** ** | **$** | **309.3** | ** ** |
|                                                                                 |       |                                |       |                              |       |                                |       |                      |       |
| **Carrying value and fair value of financial  instruments as at Dec. 31, 2006** | ** ** | **Classified as  held-for-trading** | ** ** | **Derivatives  used for hedging** | ** ** | **Per consolidated  balance sheet** |       | **Total fair value****1** | ** ** |
| Risk  management assets                                                              |       |                                |       |                              |       |                                |       |                      |       |
| Current                                                                              |       | $                                   | 61.0       |                              | $          | 11.2                                |       | $                         | 72.2       |   | $ | 112.2 |   |
| Long-term                                                                            |       | 21.9                                |       | 43.2                              |       | 65.1                                |       | 138.8                     |       |
| **Total risk management assets**                                                     |       | $                                   | 82.9       |                              | $          | 54.4                                |       | $                         | 137.3      |   | $ | 251.0 |   |
| Risk management  liabilities                                                         |       |                                |       |                              |       |                                |       |                      |       |
| Current                                                                              |       | $                                   | 30.3       |                              | $          | 2.1                                 |       | $                         | 32.4       |   | $ | 126.1 |   |
| Long-term                                                                            |       | 11.8                                |       | 2.2                               |       | 14.0                                |       | 298.4                     |       |
| **Total risk management liabilities**                                                |       | $                                   | 42.1       |                              | $          | 4.3                                 |       | $                         | 46.4       |   | $ | 424.5 |   |

 

*1*  *Differences between fair value and carrying value area result of cash flow hedges that were not previously recorded, but have beenaccounted for under Section 3865.*

 

**B. Hedging Activities**

Derivative and non-derivative financial instruments are usedto manage exposures to interest, commodity prices, currency, credit, and othermarket risks. When derivatives are used to manage the Corporation’s ownexposures, the Corporation determines for each derivative whether hedgeaccounting can be applied. Where hedge accounting can be applied and theCorporation chooses to seek hedge accounting treatment, a hedge relationship isdesignated as a fair value hedge, a cash flow hedge or a hedge of foreigncurrency exposure of a net investment in a self-sustaining foreign operation.The derivative must be highly effective in accomplishing the objective ofoffsetting either changes in the fair value or cash flows attributable to thehedged risk both at inception and over the life of the hedge. If it isdetermined that the derivative is not highly effective as a hedge, hedgeaccounting will be discontinued prospectively.

 

**Fair Value Hedges**

 

Interest rate swaps are used to hedgeexposures to the changes in a fixed interest rate instrument’s fair valuecaused by changes in interest rates. Foreign exchange contracts are also usedto hedge foreign currency denominated assets and liabilities. See *Note 19*for a further description of the terms and rates ofthese swaps.

 

No ineffective portion of fair value hedges was recorded in2007, 2006 and 2005.

 

**CashFlow Hedges**

Forward sale and purchasecontracts, as well as foreign exchange contracts, are used to hedge thevariability in future cash flows. All components of each derivative’s change infair value have been included in the assessment of cash flow hedgeeffectiveness.

 

For the year ended Dec. 31, 2007, a pre-tax unrealizedloss of $56.7 million was recorded in OCI for the effective portion of the cashflow hedges, and an unrealized pre-tax gain of $25.2 million was reclassifiedto net income. No net unrealized gain or loss was recognized in income for theineffective portion.

 

At Dec. 31, 2006, the Corporation’s cash flow hedges of theforecasted sales and the forecasted purchases for the Corporation’s generatingfacilities were accounted for using settlement accounting.

 

Over the next 12 months, the Corporation estimates that$43.8 million of after-tax losses will be reclassified from AOCI to earnings.These estimates assume constant gas and power prices, interest rates andexchange rates over time; however, the actual amounts that will be reclassifiedwill vary based on changes in these factors. Therefore, management is unable topredict what the actual reclassification from AOCI to earnings, either positiveor negative, will be for the next 12 months. These contracts have a maximumduration of five years (*Note 8)*.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

86

 

**NetInvestment Hedges**

Foreign exchange contracts and foreign currency-denominatedliabilities are used to manage the Corporation’s foreign currency exposures tonet investments in self-sustaining foreign operations having a functionalcurrency other than the Canadian dollar. Foreign denominated expenses are also usedto assist in managing foreign currency exposures on earnings from self-sustainingforeign operations.

 

For the year ended Dec. 31, 2007, the net after-taxgain of $19.1 million (2006 – $2.4 million gain, 2005 – $14.8 million loss)relating to the net investment in foreign operations, net of hedging, wasrecognized in OCI.

 

The following table presents the fair values of derivativeinstruments categorized by their hedging relationships, as well as derivativesthat are not designated in hedging relationships:

 
| ** **              |       | **Fair value  hedges** | ** ** | **Cash flow  hedges** | ** ** | **Net investment  hedges** | ** ** | **Not designated  in a hedging  relationship** | ** ** | **Total**  | ** ** |
|-------------------------|------------|------------------------|------------|-----------------------|------------|----------------------------|------------|------------------------------------------------|------------|------------|------------|
| Financial  assets       |       | ** **             | ** ** | ** **            | ** ** | ** **                 | ** ** | ** **                                     | ** ** | ** ** | ** ** |
| Derivative  instruments | ** ** | **$**                  | **12.5**   | ** **            | **$**      | **17.7**                   | ** ** | **$**                                          | **160.6**  | ** ** | **$**      | **24.4** | ** ** | **$** | **215.2** | ** ** |
| Financial  liabilities  |       | ** **             | ** ** | ** **            | ** ** | ** **                 | ** ** | ** **                                     | ** ** | ** ** | ** ** |
| Derivative  instruments | ** ** | **$**                  | **–** | ** **            | **$**      | **(282.9**                 | **)**      | **$**                                          | **(0.5**   | **)**      | **$**      | **(25.9** | **)** | **$** | **(309.3** | **)** |

 

U.S. dollar denominated debt with a face value of U.S.$600million has also been designated as a part of the hedge of TransAlta’sself-sustaining foreign operations.

 

**8. Risk ManagementAssets and Liabilities**

Risk management assets and liabilities are comprised of twomajor types: those that are used in the COD and Generation segments in relationto trading activities and certain contracting activities (A. Energy Trading)and those used in hedging non-Energy Trading transactions, debt, and the netinvestment in self-sustaining foreign subsidiaries (B. Other Risk ManagementAssets and Liabilities).

 

The overall balances reported in risk management assets andliabilities are shown below:

 
| **As at Dec. 31**                                   | ** ** | ** **  | ** ** | **2007**   | ** ** | ** ** | ** ** |        |       | **2006**   |       |      |       |
|----------------------------------------------------------|------------|-------------|------------|------------|------------|------------|------------|-------------|------------|------------|------------|-----------|------------|
| ** **                                               | ** ** | **Energy**  | ** ** | ** ** | ** ** | ** ** | ** ** | **Energy**  |       |       |       |      |       |
| **Balance Sheet – Totals**                          | ** ** | **Trading** | ** ** | **Other**  | ** ** | **Total**  | ** ** | **Trading** | ** ** | **Other**  | ** ** | **Total** | ** ** |
| Risk  management assets                                  |       | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** |        |       |       |       |      |       |
| Current                                                  | ** ** | **$**       | **34.0**   | ** ** | **$**      | **59.2**   | ** ** | **$**       | **93.2**   | ** ** | $          | 61.0      |       | $ | 11.2 |   | $ | 72.2 |   |
| Long-term                                                | ** ** | **(4.1**    | **)**      | **126.1**  | ** ** | **122.0**  | ** ** | 21.9        |       | 43.2       |       | 65.1      |       |
| Risk  management liabilities                             |       | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** |        |       |       |       |      |       |
| Current                                                  | ** ** | **(86.5**   | **)**      | **(18.6**  | **)**      | **(105.1** | **)**      | (30.3       | )          | (2.1       | )          | (32.4     | )          |
| Long-term                                                | ** ** | **(192.5**  | **)**      | **(11.7**  | **)**      | **(204.2** | **)**      | (1.0        | )          | (13.0      | )          | (14.0     | )          |
| **Net risk management (liabilities) assets outstanding** |       | **$**       | **(249.1** | **)**      | **$**      | **155.0**  | ** ** | **$**       | **(94.1**  | **)**      | $          | 51.6      |       | $ | 39.3 |   | $ | 90.9 |   |

 

**A. Energy Trading**

The values of risk management assets and liabilities forEnergy Trading are included on the consolidated balance sheets as follows:

 
| **As at Dec. 31**                                   | ** ** | ** ** | ** ** | **2007**       | ** ** | ** ** | ** ** | **2006**             | ** ** |
|----------------------------------------------------------|------------|------------|------------|----------------|------------|------------|------------|----------------------|------------|
| ** **                                               | ** ** | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** | **Total related to** | ** ** |
| **Balance Sheet – Energy Trading**                  | ** ** | **Hedges** | ** ** | **Non-hedges** | ** ** | **Total**  | ** ** | **Energy  Trading**  | ** ** |
| Risk  management assets                                  |       | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** |                 |       |
| Current                                                  | ** ** | **$**      | **12.3**   | ** **     | **$**      | **21.7**   | ** ** | **$**                | **34.0**   | ** ** | $ | 61.0 |   |
| Long-term                                                | ** ** | **(4.5**   | **)**      | **0.4**        | ** ** | **(4.1**   | **)**      | 21.9                 |       |
| Risk  management liabilities                             |       | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** |                 |       |
| Current                                                  | ** ** | **(76.7**  | **)**      | **(9.8**       | **)**      | **(86.5**  | **)**      | (30.3                | )          |
| Long-term                                                | ** ** | **(191.9** | **)**      | **(0.6**       | **)**      | **(192.5** | **)**      | (1.0                 | )          |
| **Net risk management (liabilities) assets outstanding** | ** ** | **$**      | **(260.8** | **)**          | **$**      | **11.7**   | ** ** | **$**                | **(249.1** | **)** | $ | 51.6 |   |

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

87

 

The following table illustrates the impact of adopting newstandards for financial instruments *(Note 1(T)*) andthe movements in the fair value of the Corporation’s Energy Trading net riskmanagement assets and liabilities separately by source of valuation during2007:

 
| ** **                                                                                           | ** ** | **Hedges**      |       | **Non-hedges**  |       |            |       |
|------------------------------------------------------------------------------------------------------|------------|-----------------|------------|-----------------|------------|-----------------|------------|
| ** **                                                                                           | ** ** | **Fair  value** | ** ** | **Fair  value** | ** ** | **Fair  value** | ** ** | **Fair  value** |   |   |   |
| **Change in fair value of net assets  (liabilities)**                                                | ** ** | **(market**     | **)**      | **(model**      | **)**      | **(market**     | **)**      | **(model** | **)** | **Total** | ** ** |
| Net risk management assets (liabilities) outstanding                                                 |       |            |       |            |       |            |       |   |   |   |   |
| at Dec. 31, 2006 – *as  reported*                                                          |       | $               | –     |            | $          | –          |       | $ | 52.7 |   | $ | (1.1 | ) | $ | 51.6 |   |
|                                                                                                 |       |            |       |            |       |            |       |   |   |   |   |
| Net risk management liabilities outstanding                                                          |       |            |       |            |       |            |       |   |   |   |   |
| at Jan. 1, 2007 – *fair  value*1                                                           |       | (253.0          | )          | (19.8           | )          | 52.7            |       | (1.1 | ) | (221.2 | ) |
| Contracts realized, amortized or  settled                                                            |       |            |       |            |       |            |       |   |   |   |   |
| during the period                                                                                    |       | 47.9            |       | 4.5             |       | (31.9           | )          | (3.9 | ) | 16.6 |   |
| Changes in values attributable to  market price                                                      |       |            |       |            |       |            |       |   |   |   |   |
| and other market changes                                                                             |       | (59.9           | )          | 0.9             |       | 19.9            |       | (1.8 | ) | (40.9 | ) |
| New contracts entered into during the  current period                                                |       | (21.6           | )          | –          |       | (9.2            | )          | 8.6 |   | (22.2 | ) |
| Changes in foreign exchange values                                                                   |       | 22.9            |       | –          |       | (4.1            | )          | (0.2 | ) | 18.6 |   |
| Changes in values attributable to  discontinued                                                      |       |            |       |            |       |            |       |   |   |   |   |
| hedge treatment of certain  contracts                                                                |       | 17.3            |       | –          |       | (17.3           | )          | – |   | – |   |
| **Net risk management (liabilities) assets  outstanding  at Dec. 31, 2007 – *fair value*** |       | **$**           | **(246.4** | **)**           | **$**      | **(14.4**       | **)**      | **$** | **10.1** | ** ** | **$** | **1.6** | ** ** | **$** | **(249.1** | **)** |

 

*1  As a result of adopting newaccounting standards*(Note 1(T)).

 

To the extent applicable, changes in net risk management assetsand liabilities for non-hedge positions are reflected within the gross marginof both the COD and the Generation business segments.

 

The anticipated timing of settlement of the above contractsover each of the next five calendar years and thereafter is as follows:

 
| ** **        |   | **2008** |   | **2009** |   | **2010** |   | **2011** |   | **2012** |   | **2013  and  thereafter** |   | **Total** |   |
|-------------------|--------|----------|--------|----------|--------|----------|--------|----------|--------|----------|--------|---------------------------|--------|-----------|--------|
| Hedges            |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| Fair value  based |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| on market  prices |   | $        | (61.1  | )        | $      | (92.8    | )      | $        | (65.6  | )        | $      | (25.8                     | )      | $         | (1.1   | ) | $ | – |   | $ | (246.4 | ) |
| Fair value  based |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| on models         |   | (3.9     | )      | (5.3     | )      | (3.9     | )      | (1.3     | )      | –   |   | –                    |   | (14.4     | )      |
|              |   | $        | (65.0  | )        | $      | (98.1    | )      | $        | (69.5  | )        | $      | (27.1                     | )      | $         | (1.1   | ) | $ | – |   | $ | (260.8 | ) |
| Non-hedges        |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| Fair value  based |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| on market  prices |   | $        | 9.8    |     | $      | 0.3      |   | $        | – |     | $      | –                    |   | $         | – |   | $ | – |   | $ | 10.1 |   |
| Fair value  based |   |     |   |     |   |     |   |     |   |     |   |                      |   |      |   |
| on models         |   | 2.0      |   | (0.4     | )      | –   |   | –   |   | –   |   | –                    |   | 1.6       |   |
|              |   | $        | 11.8   |     | (0.1   | )        | – |     | – |     | – |                      | – |      | 11.7   |   |
| **Total**         |   | $        | (53.2  | )        | $      | (98.2    | )      | $        | (69.5  | )        | $      | (27.1                     | )      | $         | (1.1   | ) | $ | – |   | $ | (249.1 | ) |

 

The Corporation’s fixed price proprietary trading positionsat Dec. 31, 2007 and Dec. 31, 2006, were as follows:

 
| **Units (000s)**                                            | ** ** | **Electricity  (MWh** | **)**      | **Natural  gas  (GJ** | **)**      | **Transmission  (MWh** | **)**      | **Coal  (tonnes** | **)**      | **Emissions  (tonnes** | **)**      |
|-------------------------------------------------------------|------------|-----------------------|------------|-----------------------|------------|------------------------|------------|-------------------|------------|------------------------|------------|
| Fixed price  payor, notional amounts, Dec. 31, 2007    | ** ** | **16,189**            | ** ** | **54,523**            | ** ** | **1,854**              | ** ** | **1,644**         | ** ** | **6**                  | ** ** |
| Fixed price  payor, notional amounts, Dec. 31, 2006    |       | 13,944                |       | 20,289                |       | 1,479                  |       | –            |       | –                 |       |
| Fixed price  receiver, notional amounts, Dec. 31, 2007 | ** ** | **16,009**            | ** ** | **61,977**            | ** ** | **–**             | ** ** | **1,644**         | ** ** | **15**                 | ** ** |
| Fixed price  receiver, notional amounts, Dec. 31, 2006 |       | 21,536                |       | 26,231                |       | –                 |       | –            |       | –                 |       |
| Maximum  term in months, Dec. 31, 2007                 | ** ** | **24**                | ** ** | **12**                | ** ** | **76**                 | ** ** | **23**            | ** ** | **2**                  | ** ** |
| Maximum  term in months, Dec. 31, 2006                 |       | 33                    |       | 16                    |       | 24                     |       | –            |       | –                 |       |

 

**B. Other Risk Management Assets and Liabilities**

The values of non-Energy Trading risk management assets andliabilities included on the consolidated balance sheets are as follows:

 
| **As at Dec. 31**                                   | ** ** | ** ** | ** ** | **2007**       | ** ** | ** ** | ** ** | **2006**                                   | ** ** |
|----------------------------------------------------------|------------|------------|------------|----------------|------------|------------|------------|--------------------------------------------|------------|
| **Balance Sheet – Other**                           | ** ** | **Hedges** | ** ** | **Non-hedges** | ** ** | **Total**  | ** ** | **Total  related  to non-Energy  Trading** | ** ** |
| Risk management  assets                                  |       | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** |                                       |       |
| Current                                                  | ** ** | **$**      | **56.9**   | ** **     | **$**      | **2.3**    | ** ** | **$**                                      | **59.2**   | ** ** | $ | 11.2 |   |
| Long-term                                                | ** ** | **126.1**  | ** ** | **–**     | ** ** | **126.1**  | ** ** | 43.2                                       |       |
| Risk  management liabilities                             |       | ** ** | ** ** | ** **     | ** ** | ** ** | ** ** |                                       |       |
| Current                                                  | ** ** | **(16.0**  | **)**      | **(2.6**       | **)**      | **(18.6**  | **)**      | (2.1                                       | )          |
| Long-term                                                | ** ** | **1.2**    | ** ** | **(12.9**      | **)**      | **(11.7**  | **)**      | (13.0                                      | )          |
| **Net risk management assets (liabilities) outstanding** | ** ** | **$**      | **168.2**  | ** **     | **$**      | **(13.2**  | **)**      | **$**                                      | **155.0**  | ** ** | $ | 39.3 |   |

 

 

TRANSALTA CORPORATION Annual Report 2007

 

88

 

The following table illustrates the impact of adopting newstandards for financial instruments *(Note 1(T))*and the movements in the fair value of the Corporation’s othernet risk management assets and liabilities during the year ended Dec. 31, 2007:

 
| ** **                                                                                                | ** ** | **Hedges** | ** 2** | **Non-hedges** | ** 2** | **Total** | ** ** |
|-----------------------------------------------------------------------------------------------------------|------------|------------|-------------|----------------|-------------|-----------|------------|
| Net other  risk management assets (liabilities) at Dec. 31, 2006 – *as reported*                |       | $          | 50.1        |           | $           | (10.8     | )          | $ |  39.3 |   |
|                                                                                                      |       |       |        |           |        |      |       |
| Net other  risk management assets (liabilities) at Jan. 1, 2007 – *fair value*1                 |       | 58.0       |        | (10.3          | )           | 47.7      |       |
| Contracts  realized, amortized or settled during the period                                               |       | (39.5      | )           | (1.3           | )           | (40.8     | )          |
| Changes in  values attributable to market price and other market changes                                  |       | 112.0      |        | (1.6           | )           | 110.4     |       |
| New  contracts entered into during the current period                                                     |       | 37.7       |        | –         |        | 37.7      |       |
| **Net other risk management  assets (liabilities) outstanding at Dec. 31, 2007 – *fair value*** | ** ** | **$**      | **168.2**   | ** **     | **$**       | **(13.2** | **)**      | **$** | **155.0** | ** ** |

 

*1*    *As a result ofadopting new accounting standards*(Note 1(T)).

*2*    *Based on marketinputs, which are directly observable.*

 

Changes in net risk management assets and liabilities forhedge positions are reflected within interest expense to the extenttransactions have settled during the period or ineffectiveness exists in thehedging relationship. To the extent these hedges remain effective and qualifyfor hedge accounting, the change in value of existing and new contracts will bedeferred in OCI until settlement of the instrument or reduction in the netinvestment. 

 

The anticipated timing of settlement of the above contractsover each of the next five calendar years and thereafter is as follows:

 
| ** ** |       |     |       |     |       |     |       |     |       |     |       | **2013 and**   |       |      |       |
|------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|-----------|------------|
| ** ** | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **thereafter** | ** ** | **Total** | ** ** |
| Hedges     |       | $        | 41.0       |     | $          | 72.4     |       | $        | 24.0       |     | $          | 10.9           |       | $         | 4.1        |   | $ | 15.8 |   | $ | 168.2 |   |
| Non-hedges |       | $        | (0.4       | )        | $          | (12.8    | )          | $        | –     |     | $          | –         |       | $         | –     |   | $ | – |   | $ | (13.2 | ) |
| **Total**  |       | $        | 40.6       |     | $          | 59.6     |       | $        | 24.0       |     | $          | 10.9           |       | $         | 4.1        |   | $ | 15.8 |   | $ | 155.0 |   |

 

**I.**             **Hedgesof Foreign Operations**

 

Details of the notional amounts of cross-currency interestrate swaps are as follows:

 
| **As at Dec. 31** | ** ** | **2007**       |       |            | **2006**   |           |               |
|------------------------|------------|----------------|------------|-----------------|------------|----------------|--------------------|
| ** **             | ** ** | **Amount**     | ** ** | **Fair  value** | ** ** | **Maturities** | ** **         | **Amount** | ** ** | **Fair value** | ** ** | **Maturities** | ** ** |
| Australian dollars     | ** ** | **AUD$34.0**   | ** ** | **$**           | **1.2**    | ** **     | **2009**           |   | AUD$34.0 |   | $ | (0.6 | ) | 2009 |   |
| U.S. dollars           | ** ** | **U.S.$533.1** | ** ** | **$**           | **105.7**  | ** **     | **2009–2014** |   | U.S.$528.2 |   | $ | 41.1 |   | 2007–2014 |   |

 

In addition, the Corporation has designated U.S. dollardenominated long-term debt *(Note 19)*inthe amount of U.S.$600.0 million (2006 – U.S.$600.0 million) as a hedge of itsnet investment in U.S. dollar denominated companies with $265.8 million ofrelated foreign currency losses (2006 –$173.6 million) included in OCI, withcumulative gain or loss reported in AOCI.

 

The Corporation has also hedged a portion of its netinvestment in self-sustaining subsidiaries with foreign currency forward salescontracts as shown below:

 
| **As at Dec. 31** | ** ** | **2007**       |       |            | **2006**   |           |       |
|------------------------|------------|----------------|------------|-----------------|------------|----------------|------------|
| ** **             | ** ** | **Amount**     | ** ** | **Fair  value** | ** ** | **Maturities** | ** ** | **Amount** | ** ** | **Fair value** | ** ** | **Maturities** | ** ** |
| U.S. dollars           | ** ** | **U.S.$472.7** | ** ** | **$**           | **52.3**   | ** **     | **2008**   |   | U.S.$472.5 |   | $ | 9.9 |   | 2007–2008 |   |
| Australian dollars     | ** ** | **AUD$81.8**   | ** ** | **$**           | **1.1**    | ** **     | **2008**   |   | AUD$48.8 |   | $ | (0.2 | ) | 2007 |   |

 

**II.   Hedgesof Future Foreign Currency Obligations**

 

The Corporation has hedged future foreign currencyobligations through forward purchase contracts as follows:

 
| **As at Dec. 31** | ** ** | **2007**   |       |          |       |          | **2006**      |            |       |
|------------------------|------------|------------|------------|---------------|------------|---------------|---------------|-----------------|------------|
| ** **             | ** ** | ** ** |       |          |       |          |          | **Fair  value** |       |   |   |   |   |   |   | **Fair value** |   |   |   |
| **Currency**           | ** ** | **Amount** | ** ** | **Currency**  | ** ** | **Amount**    | ** **    | **asset**       | ** ** | ** ** | ** ** | **Amount** | ** ** | **Amount** |   | **asset** |   |   |   |
| **sold**               | ** ** | **sold**   | ** ** | **purchased** | ** ** | **purchased** | ** **    | **(liability**  | **)**      | **Maturities** | ** ** | **sold** | ** ** | **purchased** | ** ** | **(liability** | **)** | **Maturities** | ** ** |
| Canadian dollars       | ** ** | **$**      | **95.7**   | ** **    | **U.S.$**  | ** **    | **U.S.$86.6** | ** **      | **$**      | **(10.7** | **)** | **2008–2010** |   | $ | 32.9 |   | U.S.$28.8 |   | $ | 0.3 |   | 2007 |   |
| U.S. dollars           | ** ** | **–** | ** ** | **CDN$**      | ** ** | **–**    | ** **    | **–**      |       | **–** |   | $ | 2.1 |   | **$**2.3 |   | – |   | 2007 |   |
| Australian dollars     | ** ** | **$**      | **6.0**    | ** **    | **CDN$**   | ** **    | **$5.2**      | ** **      | **$**      | **0.1** | ** ** | **2008** |   | – |   | – |   | – |   | – |   |
| Australian dollars     | ** ** | **$**      | **2.0**    | ** **    | **U.S.$**  | ** **    | **$1.7**      | ** **      | **–** | ** ** | **2008** |   | – |   | – |   | – |   | – |   |
| U.S. dollars           | ** ** | **$**      | **1.7**    | ** **    | **GBP**    | ** **    | **GBP0.9**    | ** **      | **–** | ** ** | **2008** |   | – |   | – |   | – |   | – |   |
| Canadian  dollars      | ** ** | **$**      | **69.1**   | ** **    | **Euro**   | ** **    | **EUR45.7**   | ** **      | **$**      | **(3.3** | **)** | **2008** |   | $ | 36.9 |   | EUR24.2 |   | $ | (0.2 | ) | 2007–2008 |   |
|                        |            |            |            |               |            |               |               |                 |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

** **

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

** **

89

 

**C.**   **Credit Risk Management**

 

The Corporation actively manages its exposure to credit riskby assessing the ability of counterparties to fulfill their obligations underthe related contracts prior to entering into such contracts. The Corporationmakes detailed assessments of the credit quality of all counterparties and,where appropriate, obtains corporate guarantees and/or letters of credit tosupport the ultimate collection of these receivables. For commodity trading andorigination, the Corporation sets strict credit limits for each counterpartyand monitors exposures on a daily basis. TransAlta uses standard agreementsthat allow for the netting of exposures and often include margining provisions.If credit limits are exceeded, TransAlta will request collateral from thecounterparty or halt trading activities with the counterparty. TransAlta isexposed to minimal credit risk for Alberta Generation Power PurchaseArrangements (“PPA”) as receivables are substantially all secured by letters ofcredit.

 

The maximum credit exposure to any one customer forcommodity trading and origination, excluding the California market receivablesdiscussed in *Note 30* andincluding the fair value of open trading positions, is $6.3 million (2006 –$11.3 million).

 

**9. Inventory**

 

Inventory represents coal and natural gas fuels which arevalued at the lower of cost and net realizable value. The classifications areas follows:

 
| **As at Dec. 31** | ** ** | **2007** | ** ** | **2006 ** | ** ** |
|------------------------|------------|----------|------------|----------------|------------|
| Coal                   | ** ** | **$**    | **23.5**   |           | $          | 44.9 |   |
| Natural gas            | ** ** | **6.6**  |       | 8.1            |       |
| **Total**              | ** ** | **$**    | **30.1**   |           | $          | 53.0 |   |

 

The change ininventory is outlined below:

 
| Balance, Dec. 31, 2006      |       |       |       | $     | 53.0     |       |
|----------------------------------|------------|------------|------------|-------|----------|------------|
| Consumed                         |       |       |       | (19.6 | )   |
| Change in foreign exchange rates |       |       |       | (3.3  | )   |
| **Balance, Dec. 31,  2007** | ** ** | ** ** | ** ** | **$** | **30.1** | ** ** |

 

No inventory is pledged as security for liabilities.

 

For the year ended Dec. 31, 2007, no inventory waswritten down from its carrying value nor were any writedowns recorded inprevious periods reversed back into income. During 2006, internally producedcoal inventory at Centralia Thermal was written down to net realizable value.This writedown totaled $44.4 million *(Note2)*and occurred as a result of the decision to cease activities atthe Centralia coal mine. The Dec. 31, 2006 coal inventory balance reflectsthe value of inventory after this writedown.

 

**10. Restricted Cash**

 

Restricted cash is primarilycomprised of an investment in Notes held in trust as security for a subsidiary’sobligation under a credit derivative agreement. Should the subsidiary fail toperform its obligations under this agreement, the counterparty has the right toretain the Notes in satisfaction of the subsidiary’s obligation. The Notes earninterest at six month LIBOR and mature in 2016.

 

Restricted cash is also comprised ofdebt service funds which are legally restricted, and require the maintenance ofspecific minimum balances equal to the next debt service payment, and amountsrestricted for capital and maintenance expenditures.

 

The change in restricted cash is outlined below:

 
| Balance,  Dec. 31, 2006      |       | $     | 347.8     |       |
|-----------------------------------|------------|-------|-----------|------------|
| Change in  foreign exchange rates |       | (48.6 | )         |
| Amount  returned to TransAlta     |       | (56.8 | )         |
| **Balance, Dec. 31,  2007**  | ** ** | **$** | **242.4** | ** ** |

 

**11. Investments**

 

Investments mainly represent TransAlta’s investment in theCorporation’s wholly owned Mexican operations. As required under Accounting Guideline15, *Consolidation of Variable InterestEntities*, of the CICA, TransAlta’s Mexican operations are accountedfor as equity subsidiaries. However, these plants are owned by TransAlta andmanaged as part of the Generation segment. The table below summarizes keyinformation from these operations.

 

The change in investments is shown below:

 
| Opening  balance, Dec. 31, 2006     |       | $     | 154.5     |       |
|------------------------------------------|------------|-------|-----------|------------|
| Repayment  of debt by Mexican operations |       | 19.6  |      |
| Equity loss                              |       | (49.5 | )    |
| **Closing balance,  Dec. 31, 2007** | ** ** | **$** | **124.6** | ** ** |

 

The tablebelow summarizes total assets and liabilities for the Mexican operations:

 
| **As at Dec. 31** | ** ** | **2007** | ** ** | **2006** | ** ** |
|------------------------|------------|----------|------------|----------|------------|
| Total  assets          | ** ** | **$**    | **450.5**  |     | $          | 526.9 |   |
| Total liabilities      | ** ** | **$**    | **368.7**  |     | $          | 404.1 |   |

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

90

 

On Oct. 1, 2007 the Mexican government enacted lawintroducing a flat tax system starting Jan. 1, 2008. The flat tax is aminimum tax whereby the greater of income tax or flat tax is paid. In computingthe flat tax, only 50 per cent of the undepreciated tax balance of certaincapital assets acquired before Sept. 1, 2007 is deductible over 10 years. Inaddition, no deduction or credit is permitted in respect of interest expenseand net operating losses for income taxes as at Dec. 31, 2007 cannot becarried forward to shelter flat tax. TransAlta has recorded a $28.2 millioncharge in equity loss above and a corresponding reduction in investments as aresult of this change.

 

TransAlta has initiated a strategic review of the Mexicanoperations and has initiated a process to look for potential buyers for theseassets. On Feb.20, 2008, TransAlta announced the sale of the Mexican operationsto InterGen Global Ventures B.V. (“InterGen”) for U.S.$303 .5 million *(Note 35)*.

 

**12. Long–Term Receivables**

 

The Corporation has a right to recover a portion of futureasset retirement costs. The estimated present value of these payments have beenrecorded as a long-term receivable.

 

During 2007, the Corporation prepared a reviseddecommissioning cost estimate of the future asset retirement costs *(Note 20)*. As a result, the total expectedcosts have been reduced by $18.7 million and the future recoveries have beenreduced by $19.8 million and $6.8 million of the receivable expected to bereceived in the next 12 months has been reclassified to accounts receivable.

 

**13. Property, Plant, and Equipment (“PP&E”)**

 
| **As at Dec. 31**           | ** ** | ** **       | ** ** | ** **  | ** **        | **2007**                          | ** ** | ** **        |       |       |              | **2006**                          |       |          |       |
|----------------------------------|------------|------------------|------------|-------------|-------------------|-----------------------------------|------------|-------------------|------------|------------|-------------------|-----------------------------------|------------|---------------|------------|
| ** **                       | ** ** | **Depreciation** | ** ** | ** **  | ** **        | **Accumulated  depreciation and** | ** ** | **Net book**      | ** ** | ** ** | ** **        | **Accumulated  depreciation and** | ** ** | **Net book**  | ** ** |
| ** **                       | ** ** | **rates**        | ** ** | **Cost**    | ** **        | **amortization**                  | ** ** | **value**         | ** ** | **Cost**   | ** **        | **amortization**                  | ** ** | **value**     | ** ** |
| Thermal  generation              |       | 2%–50%      | ** ** | **$**       | ** 3,762.7** | ** **                        | **$**      | ** 1,452.6** | ** ** | **$**      | ** 2,310.1** |                              | $          |  3,287.3 |       | $ |  1,300.6 |   | $ |  1,986.7 |   |
| Thermal  environmental equipment |       | 2%–25%      |       | **575.3**   |              | **299.1**                         |       | **276.2**         |       | 611.5      |              | 288.5                             |       | 323.0         |       |
| Mining  property and equipment   |       | 2%–50%      |       | **617.3**   |              | **330.0**                         |       | **287.3**         |       | 493.7      |              | 309.0                             |       | 184.7         |       |
| Gas  generation                  |       | 3%–50%      | ** ** | **2,156.8** | ** **        | **944.3**                         | ** ** | **1,212.5**       |       | 2,533.6    |              | 908.4                             |       | 1,625.2       |       |
| Geothermal  generation           |       | 3%–33%      | ** ** | **288.4**   | ** **        | **41.5**                          | ** ** | **246.9**         |       | 303.5      |              | 15.6                              |       | 287.9         |       |
| Hydro  generation                |       | 1%–5%       | ** ** | **384.9**   | ** **        | **215.4**                         | ** ** | **169.5**         |       | 375.2      |              | 210.9                             |       | 164.3         |       |
| Wind generation                  |       | 3%–50%      | ** ** | **208.6**   | ** **        | **32.4**                          | ** ** | **176.2**         |       | 207.8      |              | 25.2                              |       | 182.6         |       |
| Capital  spares and other        |       | 2%–50%      | ** ** | **185.7**   | ** **        | **61.8**                          | ** ** | **123.9**         |       | 206.2      |              | 55.9                              |       | 150.3         |       |
| Assets  under construction       |       | –           | ** ** | **181.2**   | ** **        | **–**                        | ** ** | **181.2**         |       | –     |              | –                            |       | –        |       |
| Coal rights  1                   |       | –           | ** ** | **132.9**   | ** **        | **80.2**                          | ** ** | **52.7**          |       | 132.7      |              | 76.0                              |       | 56.7          |       |
| Land                             |       | –           | ** ** | **51.8**    | ** **        | **–**                        | ** ** | **51.8**          |       | 53.7       |              | –                            |       | 53.7          |       |
| Transmission  systems            |       | 3%–4%       | ** ** | **47.1**    | ** **        | **18.1**                          | ** ** | **29.0**          |       | 43.7       |              | 16.9                              |       | 26.8          |       |
| **Total**                        | ** ** | ** **       | ** ** | **$**       | ** 8,592.7** | ** **                        | **$**      | ** 3,475.4** | ** ** | **$**      | ** 5,117.3** |                              | $          |  8,248.9 |       | $ |  3,207.0 |   | $ |  5,041.9 |   |

 

*1*    *Coal rights areamortized on a unit of production basis, based on the estimated mine reserve.*

 

The Corporation capitalized $6.0 million of interest toPP&E in 2007 (2006 – nil, 2005 – $3.4 million).

 

A decrease in foreign exchange rate from 2006 to 2007 hasresulted in a $196.0 million decrease in net book value. The change in foreignexchange rates related to translation of self-sustaining foreign operationsdoes not affect earnings and the cumulative translation loss is reflected inAOCI.

 

On Nov. 27, 2006, TransAlta ceased mining activities atthe Centralia coal mine as a result of increased costs and unfavourablegeological events. As a result of the associated mining and reclamationequipment including coal processing equipment and structures, haul roads, andother equipment were written down to the lower of net book value and netrealizable value and are classified as assets held for sale *(Note 14)*.

 

In 2006, TransAlta sold excess turbines in inventory for netproceeds of $20.3 million which equaled their net book value.

 

During the first quarter of 2006, there was a change in theamortization period for the Ottawa, Mississauga, Windsor-Essex, FortSaskatchewan, and Meridian plants. Previously, these plants were beingamortized using the unit-of-production method over the life of the plants.After reviewing the estimated useful life and considering the uncertainty forthe plants’ operations beyond the terms of the current sales contracts,TransAlta determined that it was more reasonable to allocate the remaining netbook value of the plants on a straight-line basis over the remaining term ofthe respective contracts. For the year ended Dec. 31, 2006 theamortization related to the Ottawa, Mississauga, Windsor-Essex, FortSaskatchewan, and Meridian plants is $13.4 million higher than the same periodin 2005.

 

**14. Assets Held for Sale**

 

As a result of the decision to cease mining activities atthe Centralia coal mine, all associated mining and reclamation equipment isbeing held for sale. All equipment has been recorded at the lower of net bookvalue or anticipated realized proceeds. These assets are included in theGeneration segment. During 2007, some of this equipment had been retained forreclamation activities, transferred to the Highvale mine for use in productionof coal inventory, and allocated to potential future Westfields development andhas been reclassified to property, plant, and equipment. The decision to retainequipment for use in reclamation activities at the Centralia coal mine and inoperations at the Highvale mine was arrived at as the economics of retainingthese assets was greater than the potential cash proceeds from disposing ofthese assets. The remainder of the change is due to the strengthening of theCanadian dollar relative to the U.S. dollar.

** **

** **

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

** **

91

 

**15. Goodwill**

 

The change in goodwill is outlined below:

 
| Balance,  Dec. 31, 2006     |       | $     | 137.5     |       |
|----------------------------------|------------|-------|-----------|------------|
| Change in foreign exchange rates |       | (12.6 | )         |
| **Balance, Dec. 31,  2007** | ** ** | **$** | **124.9** | ** ** |

 

A portion of goodwill is related to CE Gen and is thereforedenominated in U.S. dollars. The change in foreign exchange rates related totranslation of self-sustaining foreign operations does not affect earnings andthe cumulative translation loss is reflected in AOCI.

 

**16. Intangible Assets**

 

Intangible assets consist of power sale contracts, withrates higher than market rates at the date of acquisition, primarily acquiredin the purchase of CE Gen.

 

The majority of intangible assets are related to CE Gen andare therefore denominated in U.S. dollars. The change in foreign exchange ratesrelated to translation of self-sustaining foreign operations does not affectearnings and the cumulative translation loss is reflected in AOCI.

 
| ** **                        | ** ** | ** ** | ** ** | **Accumulated**  | ** ** | **Net book** | ** ** |
|-----------------------------------|------------|------------|------------|------------------|------------|--------------|------------|
| ** **                        | ** ** | **Cost**   | ** ** | **amortization** | ** ** | **value**    | ** ** |
| Balance,  Dec. 31, 2006      |       | $          | 473.0      |             | $          | 180.9        |       | $ | 292.1 |   |
| Change in  foreign exchange rates |       | (72.4      | )          | (34.8            | )          | (37.6        | )          |
| Amortization                      |       | –     |       | 45.3             |       | (45.3        | )          |
| **Balance, Dec. 31,  2007**  | ** ** | **$**      | **400.6**  | ** **       | **$**      | **191.4**    | ** ** | **$** | **209.2** | ** ** |

 
| **17. Other Assets** |   |   |   |   |   |
|----------------------|--------|--------|--------|--------|--------|

 
| **As at Dec. 31**           | ** ** | **2007**   | ** ** | **2006** | ** ** |
|----------------------------------|------------|------------|------------|----------|------------|
| Interest  rate swaps*(Note  19)* |       | **$**      | **21.7**   |     | $          | 25.8 |   |
| Deferred  license fees           |       | **22.3**   |       | 26.8     |       |
| Deferred  contract costs         |       | **14.4**   |       | 16.1     |       |
| Other                            |       | **24.2**   |       | 24.9     |       |
| ** **                       |       | **$**      | **82.6**   |     | $          | 93.6 |   |
| Less  current portion            |       | **–** |       | (5.4     | )     |
| **Total other assets**           |       | **$**      | **82.6**   |     | $          | 88.2 |   |

 

Deferred license fees consist primarily of an Australianlicense which is being amortized on a straight-line basis over the useful lifeof the power station assets to which the license relates.

 

Deferred contract costs consist of prepayments related tolong-term contracts, which are being amortized on a straight-line basis overthe term of the related contracts.

 

**18. Short–Term Debt**

 
| **As at Dec. 31**    | ** ** | ** **      | ** ** | **2007**     | ** ** | ** **      | ** ** | **2006**     | ** ** |
|---------------------------|------------|-----------------|------------|--------------|------------|-----------------|------------|--------------|------------|
| ** **                | ** ** | **Outstanding** | ** ** | **Interest** | **1**      | **Outstanding** | ** ** | **Interest** | 1          |
| Commercial  paper         | ** ** | **$**           | **447.2**  | ** **   | **5.2%**   |            | $          | 199.3        |       | 4.3% |   |
| Bank debt 2               | ** ** | **203.6**       | ** ** | **4.9%**     |       | 162.6           |       | 4.4%         |       |
| **Total short-term debt** | ** ** | **$**           | **650.8**  |         |       |            | $          | 361.9        |       |   |   |

 

*1*    *Interest is anaverage rate weighted by principal amounts outstanding before the effect ofhedging.*

*2*    *Bank debt is in theform of Bankers’ Acceptances.*

 

The short-term debt instruments are drawn on the $1.5billion committed syndicated bank credit facility.

 

The $1.5 billion committed syndicated bank facility is datedJuly 2003 and is the primary source for short term liquidity. The facilityis a five year revolver and was last renewed in May 2007, extending thematurity date to 2012. The syndicate is governed by reasonable commercialterms.

 

 

TRANSALTA CORPORATION  Annual Report 2007

** **

 

92

 

**19. Long–Term Debt and Net Interest Expense**

 

**A. Amounts Outstanding**

 
| **As at Dec. 31**              | ** ** | **2007**     |        |        | **2006**   |         |        |
|-------------------------------------|------------|--------------|-------------|-------------|------------|--------------|-------------|
| ** **                          | ** ** | **Carrying** | ** **  | ** **  | ** ** | ** **   | ** **  | **Carrying** | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                | ** ** | **value**    | ** **  | **Cost**    | ** ** | **Interest** | ** 1** | **value** | ** ** | **Cost** | ** ** | **Interest** | ** 1** |
| Debentures,  due 2008 to 2033       | ** ** | **$**        | **956.9**   | ** **  | **$**      | **946.1**    | ** **  | **6.5%** |   | $ | 1,161.3 |   | $ | 1,146.4 |   | 6.1% |   |
| Senior  Notes, U.S.$600.0 million   | ** ** | **587.7**    | ** **  | **586.1**   | ** ** | **6.3%**     |        | 683.6 |   | 693.2 |   | 6.3% |   |
| Non-recourse  debt                  | ** ** | **241.6**    | ** **  | **241.6**   | ** ** | **7.4%**     |        | 334.3 |   | 334.3 |   | 7.7% |   |
| Notes  payable – Windsor plant | ** ** | **42.8**     | ** **  | **42.8**    | ** ** | **7.4%**     |        | 46.9 |   | 46.9 |   | 7.4% |   |
| Commercial  Loan Obligation         | ** ** | **30.3**     | ** **  | **30.3**    | ** ** | **5.9%**     |        | – |   | – |   | – |   |
| Preferred  securities               | ** ** | **–**   | ** **  | **–**  | ** ** | **–**   |        | 175.0 |   | 175.0 |   | 7.8% |   |
| ** **                          | ** ** | **1,859.3**  | ** **  | **1,846.9** |       |         |        | 2,401.1 |   | 2,395.8 |   |   |   |
| Less: current portion               | ** ** | **(153.8**   | **)**       | **(153.8**  | **)**      |         |        | (424.7 | ) | (424.7 | ) |   |   |
| **Total long-term debt**            | ** ** | **$**        | **1,705.5** | ** **  | **$**      | **1,693.1**  |        |   |   | $ | 1,976.4 |   | $ | 1,971.1 |   |   |   |
|                                     |            |              |             |             |            |              |             |  |  |  |  |  |  |  |  |  |  |  |

 

*1*    *Interest is an average rate weighted by principal amounts outstandingbefore the effect of hedging.*

 

Fixed rate components of debentures and senior notes arehedged and therefore recorded at fair value. Non-recourse debt is not hedgedand therefore recorded at cost.

 

**Debentures**bear interestat fixed rates ranging from 5.5 per cent to 7.3 per cent. A floating charge onthe property and assets of TransAlta Utilities Corporation (“TAU”), a whollyowned subsidiary, has been provided as collateral for $265.0 million of thedebentures as at Dec. 31, 2007. The interest rate on $200.0 million of the debentures amount has beenconverted to floating rates based on bankers’ acceptance rates using receivefixed, pay floating interest rate swaps maturing in 2011 *(Note 8)*. Debentures of $100.0 millionmaturing in 2023 and $50.0 million maturing in 2033 are redeemable at theoption of the holder in 2008 and 2009, respectively. Debentures in the amountof $200.0 million matured in 2007.

 

**Senior notes**U.S.$100.0million of the U.S.$600.00 million has been converted to a floating rate basedon LIBOR using receive fixed, pay floating interest rate swaps maturing in2013. U.S.$300.0 million of the U.S.$600.0 million senior notes bear aninterest rate of 5.75 per cent and mature in 2013. The remaining U.S.$300.0million of the U.S.600.0 million senior notes bear an interest rate of 6.75 percent and mature on July 15, 2012. All senior notes have been designated asa hedge of the Corporation’s net investment in U.S. and Mexican operations *(Note 8)*. 

 

**Non-recourse debt**consists ofproject financing debt, debt securities and senior secured bonds of CE Gen anddebt related to the Wailuku acquisition. The CE Gen related assets have beenpledged as security for the project financing debt which will mature in 2008,with a fixed interest rate of 8.56 per cent. The CE Gen debt securities arenon-recourse, have maturity dates ranging from 2010 to 2018 and interest ratesranging from 7.48 per cent to 8.30 per cent. This debt is recorded at cost, thefair value as at Dec. 31, 2007, was $256.6 million (2006 – $345.3million). The outstanding balance of the non-recourse senior secured bonds asof Dec. 31, 2007 was $133.0 million, bear interest at 7.42 per cent, andare due in 2018. The Wailuku debt at Dec. 31, 2007 is U.S.$9.0 million andbears interest at a floating rate of 3.75 per cent.

 

**Notes payable – Windsor plant**notes bearinterest at fixed rates and are recourse to the Corporation through a standbyletter of credit. These mature in 2008 to 2014.

 

**Commercial loan obligation**bears aninterest rate of 5.89 per cent and will mature in 2023. This is an unsecuredloan and requires annual payments of interest and principal.

 

**Preferred securities**In 2006, theCorporation provided irrevocable notice of redemption on Jan. 2, 2007 at aredemption price equal to 100 per cent of the principal amount of the preferredsecurities plus accrued and unpaid distributions thereon to the date of suchredemption. Due to redemption, the supplemental diluted earnings per share arenot calculated for 2007 (2006 – $0.22).

 
| **B. Principal Repayments** |   |   |   |
|-----------------------------|--------|--------|--------|

 
| 2008                 |   | $     | 153.8   |   |
|----------------------|--------|-------|---------|--------|
| 2009                 |   | 237.6 |    |
| 2010                 |   | 27.8  |    |
| 2011                 |   | 250.5 |    |
| 2012                 |   | 319.5 |    |
| 2013 and  thereafter |   | 857.7 |    |
| **Total****1**       |   | $     | 1,846.9 |   |
|                      |        |       |         |        |  |

 

*1  Excludes impact ofderivatives.*

 
| **C. Interest Expense** |   |   |   |   |   |   |   |
|-------------------------|--------|--------|--------|--------|--------|--------|--------|

 
| **Year ended Dec. 31**       | ** ** | **2007**   | ** ** | **2006** | ** ** | **2005** | ** ** |
|-----------------------------------|------------|------------|------------|----------|------------|----------|------------|
| Interest on  long-term debt       | ** ** | **$**      | **144.7**  |     | $          | 155.5    |       | $ | 169.3 |   |
| Interest on  short-term debt      | ** ** | **26.3**   |       | 12.7     |       | 14.9     |       |
| Interest on  preferred securities | ** ** | **–** |       | 13.6     |       | 16.5     |       |
| Interest  income                  | ** ** | **(31.7**  | **)**      | (13.3    | )          | (8.7     | )          |
| Capitalized  interest             | ** ** | **(6.0**   | **)**      | –   |       | (3.4     | )          |
| **Net interest expense**          | ** ** | **$**      | **133.3**  |     | $          | 168.5    |       | $ | 188.6 |   |

 

The Corporation capitalizes interest during the constructionphase of longer-term capital projects. The capitalized interest in 2007 relatesto the Corporation’s investment in Keephills 3 and Kent Hills (2005 – Genesee3).

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

** **

93

 

**D. Interest Rate Risk Management**

 

The Corporation has converted fixed interest rate debt withrates ranging from 5.75 per cent to 6.90 per cent to floating rates throughreceive fixed pay floating interest rate swaps *(Note8)*as shown below:

 
| **As at Dec. 31** | ** ** | **               2007** |       | **             2006** |       |
|------------------------|------------|----------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------|------------|
| ** **             | ** ** | **Notional**                                                                                       | ** ** | **Fair value**                                                                         | ** ** | ** ** | ** ** | **Notional** | ** ** | **Fair value** | ** ** | ** ** | ** ** |
|                   | ** ** | **amount**                                                                                         | ** ** | **of swaps**                                                                           | ** ** | **Maturities** |   | **amount** | ** ** | **of swaps** | ** ** | **Maturities** |   |
| Fixed rate  debt       | ** ** | **$**                                                                                              | **200.0**  | ** **                                                                             | **$**      | **10.9** | ** ** | **2011** |   | $ | 200.0 |   | $ | 15.2 |   | 2011 |   |
| ** **             | ** ** | **U.S.$100.0**                                                                                     | ** ** | **$**                                                                                  | **1.6**    | ** ** | **2013** |   | U.S.$300.0 |   | $ | (9.7 | ) | 2013 |   |
|                        |            |                                                                                                    |            |                                                                                        |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

The Corporation has a forward startpay fixed swap outstanding at fixed rates ranging from 4.04 per cent to 4.07per cent, as shown below:

 
| **As at Dec. 31** | ** ** | **                 2007** |       | **              2006** |       |
|------------------------|------------|----------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------|------------|
| ** **             | ** ** | **Notional**                                                                                                   | ** ** | **Fair value**                                                                               | ** ** | ** ** | ** ** | **Notional** | ** ** | **Fair value** | ** ** | ** ** | ** ** |
|                   | ** ** | **amount**                                                                                                     | ** ** | **of swaps**                                                                                 | ** ** | **Maturity** |   | **amount** | ** ** | **of swaps** | ** ** | **Maturity** |   |
| Floating rate debt     | ** ** | **U.S.$200.0**                                                                                                 | ** ** | **$**                                                                                        | **9.3**    | ** ** | **2018** |   | $ | 125.0 |   | $ | 0.2 |   | 2017 |   |
|                        |            |                                                                                                                |            |                                                                                              |            |  |  |  |  |  |  |  |  |  |  |  |

 

Including the interest rate swaps above, 38.3 per cent ofthe Corporation’s debt is subject to floating interest rates (2006 – 28.4 percent).

 

At Dec. 31, 2007, a $12.5 million asset (2006 – nil) relatedto the fair value of the interest rate swaps was recorded in long-term riskmanagement assets

*(Note 8).*

 

**E. Guarantees**

 

**I.**             **Letters of Credit***(also refer toNotes 20 and 33)*

 

Letters of credit are issued to counterparties that havecredit exposure to certain subsidiaries. If the Corporation or its subsidiarydoes not pay amounts due under the contract, the counterparty may present itsclaim for payment to the financial institution through which the letter ofcredit was issued. Any amounts owed by the Corporation or its subsidiaries arereflected in the consolidated balance sheet. All letters of credit expirewithin one year and are expected to be renewed, as needed, through the normalcourse of business. The total outstanding letters of credit as at Dec. 31,2007 was $550.1 million (2006 – $633.1 million) with nil (2006 – nil) amountsexercised by third parties under these arrangements.

 

TransAlta letters of credit do not contain recourseprovisions nor does the Corporation hold any assets as collateral against theguarantees issued.

 

**II.****         ****Other Credit Support Instruments**

 

A subsidiary of the Corporation has entered into a creditderivative agreement. Under the terms of the agreement, upon any specifiedcredit event by the Corporation or any named subsidiary, the counterparty wouldhave the right to deliver senior debt of the Corporation or any namedsubsidiary in return for payment. The debt obligations referenced by thisagreement have been included in the consolidated balance sheet and also includeU.S.$243.0 million at Dec. 31, 2007 (2006 – U.S.$295.0 million) of loansmade to subsidiaries of the Corporation *(Note10)*. The carrying value as at Dec. 31, 2007 was nil (2006 –nil).

 

**20. Asset Retirement Obligations**

 

A reconciliation between the opening and closing assetretirement obligation balances is provided below:

 
| Balance,  Dec. 31, 2005       |       | $          | 249.2      |       |
|------------------------------------|------------|------------|-----------------|------------|
| Liabilities  incurred in period    |       | 7.6   |            |
| Liabilities  settled in period     |       | (29.2)     |            |
| Accretion  expense                 |       | 21.5  |            |
| Revisions  in estimated cash flows |       | 79.1  |            |
| Change in  foreign exchange rates  |       | 0.3   |            |
| Balance, Dec. 31, 2006        |       | $          | 328.5      |       |
|                               |       |       |            |
| Liabilities  incurred in period    |       | 3.3   |            |
| Liabilities  settled in period     |       | (38.4)     |            |
| Accretion  expense                 |       | 23.6  |            |
| Revisions  in estimated cash flows |       | (18.7)     |            |
| Change in foreign exchange rates   |       | (22.1)     |            |
|                               |       | $          | 276.2      |       |
| Less current portion               |       | (42.8)     |            |
| **Balance, Dec. 31,  2007**   | ** ** | **$**      | **233.4 ** | ** ** |

 

The Corporation has a right to recover a portion of futureasset retirement costs. The estimated present value of these payments has beenrecorded as a long-term receivable *(Note 12)*.

 

During 2007, the Corporation prepared a reviseddecommissioning cost estimate of the future asset retirement costs at certainfacilities. As a result, the total expected costs have been reduced by $18.7million.

 

As a result of the decision to cease mining activities atthe Centralia coal mine in 2006, reclamation activities were accelerated fromthe original end of mine life of 2032. This change in timing of cash flowsincreased the asset retirement obligation by $34.0 million. The remainder ofthe change in 2006 is from revised estimates at TransAlta’s other facilities.

 

 

TRANSALTA CORPORATION   Annual Report 2007

 

94

 

TransAlta estimates the undiscounted amount of cash flowrequired to settle the asset retirement obligations is approximately $0.8billion, which will be incurred between 2008 and 2072. The majority of thecosts will be incurred between 2020 and 2030. A discount rate of eight per centand an inflation rate of 2.4 per cent were used to calculate the carrying valueof the asset retirement obligations. At Dec. 31, 2007, the Corporation hada surety bond in the amount of U.S.$192.0 million (2006 – U.S.$192.0 million)in support of future retirement obligations at the Centralia coal mine. At Dec. 31,2007, the Corporation had letters of credit in the amount of $49.7 million(2006 – $47.3 million) in support of future retirement obligations at theAlberta mines.

 

**21. Deferred Credits and Other Long-Term Liabilities**

 
| **As at Dec. 31**                                      | ** ** | **2007**   | ** ** | **2006** | ** ** |
|-------------------------------------------------------------|------------|------------|------------|----------|------------|
| Deferred  revenues and other                                | ** ** | **$**      | **28.0**   |     | $          | 19.7 |   |
| Power  purchase arrangement in limited partnership          | ** ** | **24.9**   |       | 27.1     |       |
| Accrued  benefit liability *(Note 33)*                      | ** ** | **48.0**   |       | 58.0     |       |
| Centralia  coal mine closure costs                          | ** ** | **–** |       | 25.6     |       |
| **Total deferred credits  and other long term liabilities** | ** ** | **$**      | **100.9**  |     | $          | 130.4 |   |

 

The power purchase arrangement in the limited partnershiprepresents the fair value adjustments for the Sheerness Generating Station todeliver power at less than the prevailing market price at the time of theacquisition of the plant by TA Cogen.

 

Deferred revenue and other includes future revenues relatedto the sale of emission credits.

 

For the year ended Dec. 31, 2007, the Corporation paid$24.2 million of costs related to the closure of the Centralia coal mine. Thedifference between actual cash payments and the balance recorded as at Dec. 31,2006 is due to the strengthening of the Canadian dollar relative to the U.S.dollar.

 

**22. Non–Controlling Interests**

 

**A. Statements of Earnings**

 
| **Year ended Dec. 31**                                      | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Stanley  Power’s interest in TA Cogen *(Note 34)*           |       | ***$***  | ***29.2*** |     | $          | 35.3     |       | $ | 2.1 |   |
| 25 per cent  interest in Saranac Partnership not owned by CE Gen | ** ** | **18.8** |       | 16.2     |       | 16.4     |       |
| **Total**                                                        | ** ** | **$**    | **48.0**   |     | $          | 51.5     |       | $ | 18.5 |   |

 
| **B. Balance Sheets** |   |   |   |   |   |   |   |
|-----------------------|--------|--------|--------|--------|--------|--------|--------|

 
| **As at Dec. 31**                                           | ** ** | **2007** | ** ** | **2006** | ** ** |
|------------------------------------------------------------------|------------|----------|------------|----------|------------|
| Stanley  Power’s interest in TA Cogen                       |       | **$**    | **467.0**  |     | $          | 502.6 |   |
| 25 per cent  interest in Saranac Partnership not owned by CE Gen |       | **29.4** |       | 32.4     |       |
| **Total**                                                        |       | **$**    | **496.4**  |     | $          | 535.0 |   |

 

**23. Common Shares**

 

**A. Issued and Outstanding**

 

The Corporation is authorized to issue an unlimited numberof voting common shares without nominal or par value.

 
| **Year ended Dec. 31**                                 | ** ** | **2007**                              | ** ** | **2006**   | ** **  | **2005**                              | ** ** |
|-------------------------------------------------------------|------------|---------------------------------------|------------|------------|-------------|---------------------------------------|------------|
| ** **                                                  | ** ** | **Common**

**shares**

**(millions** | **)**      | **Amount** | ** **  | **Common**

**shares**

**(millions** | **)**      | **Amount** | ** ** | **Common**

**shares**

**(millions** | **)** | **Amount** | ** ** |
| **Issued and outstanding,  beginning of year**              |       | **202.4**                             |       | **$**      | **1,782.4** |                                  | 198.7      |   | $ | 1,697.9 |   | 194.1 |   | $ | 1,611.9 |   |
| Issued under dividend reinvestment and  share purchase plan |       | **–**                            |       | **–** |        | 3.0                                   |       | 70.0 |   | 3.5 |   | 68.1 |   |
| Stock  options expired                                      | ** ** | **–**                            | ** ** | **(2.2**   | **)**       | –                                |       | – |   | – |   | – |   |
| Issued on  purchase of Vision Quest                         | ** ** | **–**                            | ** ** | **–** |        | –                                |       | – |   | – |   | 0.2 |   |
| Issued for  cash under stock option plans                   | ** ** | **0.8**                               | ** ** | **18.8**   |        | 0.6                                   |       | 14.3 |   | 1.0 |   | 16.3 |   |
| Issued  under Performance Share Ownership Plan              |       | **0.1**                               |       | **2.8**    |        | 0.1                                   |       | 0.1 |   | 0.1 |   | 1.2 |   |
| Shares  purchased under NCIB*(Note 24)*                     | ** ** | **(2.4**                              | **)**      | **(21.1**  | **)**       | –                                |       | – |   | – |   | – |   |
| Employee  share purchase loans                              | ** ** | **–**                            | ** ** | **0.1**    |        | –                                |       | 0.1 |   | – |   | 0.2 |   |
| **Issued and outstanding,  end of year**                    | ** ** | **200.9**                             | ** ** | **$**      | **1,780.8** |                                  | 202.4      |   | $ | 1,782.4 |   | 198.7 |   | $ | 1,697.9 |   |

 

The Corporation had 1.2 million outstanding employee stockoptions (2006 – 2.2 million, 2005 – 2.9 million). For the year ended Dec. 31,2007, 0.8 million options with a weighted average exercise price of $20.84were exercised resulting in 0.8 million shares issued, and 0.2 million optionswere cancelled with a weighted average exercise price of $17.52.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

** **

95

 

**B. Shareholder Rights Plan**

 

The primary objective of the shareholder rights plan is toprovide the Corporation’s Board of Directors sufficient time to explore anddevelop alternatives for maximizing shareholder value if a takeover bid is madefor the Corporation and to provide every shareholder with an equal opportunityto participate in such a bid. The plan was originally approved in 1992, and hasbeen revised since that time to ensure conformity with current practices. Theplan was last approved by shareholders on April 26, 2007.

 

When an acquiring shareholder commences a bid to acquire 20per cent or more of the Corporation’s common shares, other than by way of a PermittedBid, where the offer is made to all shareholders by way of a takeover bidcircular, the rights granted under the Shareholder Rights Plan becomeexercisable by all shareholders except those held by the acquiring person. Eachright will entitle the shareholder to acquire an additional $200 worth ofcommon shares for $100.

 

**C. Dividend Reinvestment and SharePurchase (“DRASP”) Plan**

 

Under the terms of the DRASP plan, participants are able topurchase additional common shares by reinvesting dividends. Effective Jan. 1,2007, the Corporation amended the DRASP plan whereby after, Dec. 31, 2006,the five per cent discount on the price of shares purchased through the DRASPplan and issued from treasury was suspended. After Dec. 31, 2006, sharespurchased under the DRASP plan are acquired in the open market at 100 percent of the average purchase price of common shares acquired on the TSX on theinvestment dates.

 

**D. Earnings Per Share (“EPS”)**

 
| **Year ended Dec. 31**                                       | ** ** | **2007**   | ** ** | **2006** | ** ** |
|-------------------------------------------------------------------|------------|------------|------------|----------|------------|
| **Net earnings**                                                  | ** ** | **$**      | **308.8**  |     | $          | 44.9 |   |
| ** **                                                        | ** ** | ** ** | ** ** |     |       |   |   |
| **Basic weighted average number of common shares outstanding**    | ** ** | **202.5**  |       | 200.8    |       |
| Impact of  PSOP                                                   | ** ** | **0.4**    |       | 0.4      |       |
| **Diluted weighted average  number of common shares outstanding** | ** ** | **202.9**  |       | 201.2    |       |
| **Earnings per share**                                            |       |       |       |     |       |
| Basic                                                             | ** ** | **$**      | **1.53**   |     | $          | 0.22 |   |
| Diluted                                                           | ** ** | **$**      | **1.53**   |     | $          | 0.22 |   |

 

**24. Shareholders’ Equity**

 
| ** **                                                                                                                            | ** ** | **Common**

**shares** | ** **  | **Retained**

**earnings** | ** ** | **Accumulated Other**

**Comprehensive**

**(Loss) Income** |       | **Total**

**shareholders’  equity** |       |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|-------------|----------------------------|------------|-------------------------------------------------------------|------------|-------------------------------------------|------------|
| **Balance, Dec. 31, 2006***(Note  1)*                                                                                            |       | $                      | 1,782.4     |                       | $          | 710.0                                                       |       | $                                         | (64.5      | ) | $ | 2,427.9 |   |
| Change in  accounting policy *(Note 1)*                                                                                               |       | –                 |        | –                     |       | (177.3                                                      | )          | (177.3                                    | )          |
| **Balance, Dec. 31, 2006 – *as  adjusted***                                                                                 |       | 1,782.4                |        | 710.0                      |       | (241.8                                                      | )          | 2,250.6                                   |       |
| Net income  for the year ended Dec. 31, 2007                                                                                     |       | –                 |        | 308.8                      |       | –                                                      |       | 308.8                                     |       |
| Common  shares issued (dividends declared)                                                                                            |       | 19.5                   |        | (202.5                     | )          | –                                                      |       | (183.0                                    | )          |
| Shares  purchased under NCIB                                                                                                          |       | (21.1                  | )           | (53.8                      | )          | –                                                      |       | (74.9                                     | )          |
| Gains on translating financial  statements of self-sustaining foreign operations                                                      |       | –                 |        | –                     |       | 19.1                                                        |       | 19.1                                      |       |
| Losses on  derivatives designated as cash flow hedges                                                                                 |       | –                 |        | –                     |       | (40.8                                                       | )          | (40.8                                     | )          |
| Derivatives designated as cash flow  hedges in prior periods transferred  to the balance sheet and net earnings in the current period |       | –                 |        | –                     |       | 18.7                                                        |       | 18.7                                      |       |
| **Balance, Dec. 31,  2007**                                                                                                      | ** ** | **$**                  | **1,780.8** | ** **                 | **$**      | **762.5**                                                   | ** ** | **$**                                     | **(244.8** | **)** | **$** | **2,298.5** | ** ** |

 
| **Components of AOCI**                                             |       |   |       |
|--------------------------------------------------------------------|------------|--------|------------|
| Cumulative  unrealized losses on translating financial statements  |       |   |       |
| of  self-sustaining foreign operations, net of tax                 |       | $      | (45.4      | ) |
| Cumulative  unrealized losses on cash flow hedges, net of tax      |       | (199.4 | )          |
| **Accumulated Other  Comprehensive Loss as at Dec. 31, 2007** | ** ** | **$**  | **(244.8** | **)** |

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

96

 

**NormalCourse Issuer Bid (“NCIB”) Program**

 

On Sept. 11, 2007, TransAlta announced an expansion of itsNCIB program. The Corporation may purchase, for cancellation, up to 20.2million of its common shares or approximately 10 per cent of the 202.0 millioncommon shares issued and outstanding as at April 23, 2007. The NCIBprogram started on May 3, 2007 and will continue until May 2, 2008.Purchases will be made on the open market through the TSX at the market priceof such shares at the time of acquisition.

 

For the year ended Dec. 31, 2007, TransAlta purchased2,371,800 shares at an average price of $31.59 per share. The units werepurchased for an amount higher than their weighted average book value per share($8.92 per share) resulting in a reduction of retained earnings of $53.8million.

 
| **Year ended Dec. 31**                     | ** ** | **2007**      | ** ** |
|-------------------------------------------------|------------|---------------|------------|
| Total  shares purchased                         | ** ** | **2,371,800** | ** ** |
| Average purchase price per share                | ** ** | **$**         | **31.59**  | ** ** |
| **Total cash paid**                             | ** ** | **$**         | **74.9**   | ** ** |
| Weighted average book value of shares cancelled | ** ** | **21.1**      | ** ** |
| **Reduction to retained  earnings**             | ** ** | **$**         | **53.8**   | ** ** |

 

**25. Capital**

 

TransAlta’scomponents of capital are listed below:

 
| ** **                                                   | ** ** | ** **  | ** **  | ** ** | ** ** | **Increase/** | ** ** |
|--------------------------------------------------------------|------------|-------------|-------------|------------|------------|---------------|------------|
| **As at Dec. 31**                                       | ** ** | **2007**    | ** **  | **2006**   | ** ** | **(decrease** | )          |
| Short term  debt including current portion of long-term debt | ** ** | **$**       | **804.6**   |       | $          | 611.6         |       | $ | 193.0 |   |
| Less: cash  and cash equivalents                             | ** ** | **(50.9**   | **)**       | (65.6      | )          | 14.7          |       |
| ** **                                                   |       | **753.7**   |        | 546.0      |       | 207.7         |       |
| Long-term  debt                                              |       |        |        |       |       |          |       |
| Recourse                                                     | ** ** | **1,496.2** |        | 1,681.5    |       | (185.3        | )          |
| Non-recourse                                                 | ** ** | **209.3**   |        | 289.6      |       | (80.3         | )          |
| Preferred  securities                                        | ** ** | **–**  |        | 175.0      |       | (175.0        | )          |
| Non-controlling  interests                                   | ** ** | **496.4**   |        | 535.0      |       | (38.6         | )          |
| Preferred  shares                                            | ** ** | **–**  |        | –     |       | –        |       |
| Common  shareholders’ equity                            |       |        |        |       |       |          |       |
| Common  shares                                               | ** ** | **1,780.8** |        | 1,782.4    |       | (1.6          | )          |
| Retained  earnings                                           | ** ** | **762.5**   |        | 710.0      |       | 52.5          |       |
| Accumulated Other Comprehensive  Loss                        | ** ** | **(244.8**  | **)**       | (64.5      | )          | (180.3        | )          |
| ** **                                                   |       | **4,500.4** |        | 5,109.0    |       | (608.6        | )          |
| **Total Capital**                                            | ** ** | **$**       | **5,254.1** |       | $          | 5,655.0       |       | $ | (400.9 | ) |

 

The long-term portion of recourse debt was reduced from Dec. 31,2006 as a result of scheduled payments. Preferred securities of $175 millionwere repaid on Jan. 2, 2007. Short-term debt has increased from Dec. 31,2006 as a result of the timing of collection of revenue under Alberta PPAs. 

 

TransAlta’s objectives in managing capital are to:

 

**A. Maintainan Investment Grade Credit Rating:**

 

The Corporation operates in a long-cycle and capitalintensive commodity business, therefore maintaining an investment grade creditrating is a  priority. TransAlta monitorskey capital ratios similar to those used by key rating agencies. While these ratiosare not publicly available from credit agencies, TransAlta’s management hasdefined these ratios and manages capital in line with those expectations:

 

**Cash flow to interest**Cash flowfrom operating activities divided by net interest expense per the consolidatedstatements of earnings. TransAlta estimates the target of this ratio to be aminimum multiple of four.

 

**Cash flow to total debt**Cash flowfrom operating activities per the consolidated statements of cash flow lesschanges in working capital divided by two year average of total debt. TransAltaestimates the target of this ratio to be minimum 25 per cent.

 

**Debt to invested capital**Short-termdebt and long-term debt less cash divided by total debt, preferred securities,non-controlling interests, and common equity. TransAlta estimates the target ofthis ratio to be less than 55 per cent.

 

These ratios are presented below:

 
| **Year ended Dec. 31**    | ** ** | **2007** | ** ** | **2006** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|
| Cash flow  to interest (times) | ** ** | **6.6**  |       | 5.5      |       |
| Cash flow  to total debt (%)   | ** ** | **30.7** |       | 26.2     |       |
| Debt to invested capital (%)   | ** ** | **46.8** |       | 44.5     |       |

 

The increase in cash flow to interest resulted fromincreased cash from operating activities and lower interest expense. Theincrease in cash flow to total debt resulted from increased cash flow fromoperating activities and lower debt balances *(Notes18 and 19)*. Debt to invested capital increased as a result ofadopting new accounting standards (*Note 1(T)*).TransAlta routinely monitors forecasts for earnings, capital expenditures, andscheduled repayment of debt to ensure that the above ratio targets can be met.

 

 

NOTES TO CONSOLIDATED FINANCIALSTATEMENTS

 

97

 

**B. Ensure Sufficient Cash and Credit isAvailable to Fund Operations, Pay Dividends, and Invest in Capital Assets:**

 

These amounts are summarized in the table below:

 
| ** **                           | ** ** | ** ** | ** ** | ** ** | ** ** | **Increase/** | ** ** |
|--------------------------------------|------------|------------|------------|------------|------------|---------------|------------|
| **Year ended Dec. 31**          | ** ** | **2007**   | ** ** | **2006**   | ** ** | **(decrease** | **)**      |
| Cash flow  from operating activities | ** ** | **$**      | **847.2**  |       | $          | 489.6         |       | $ | 357.6 |   |
| Dividends  paid                      | ** ** | **(204.8** | **)**      | (133.9     | )          | (70.9         | )          |
| Capital  asset expenditures          | ** ** | **(599.1** | **)**      | (223.7     | )          | (375.4        | )          |
| **Net cash inflow**                  | ** ** | **$**      | **43.3**   |       | $          | 132.0         |       | $ | (88.7 | ) |

 

The decrease in the total above net cash flows resulted fromhigher capital expenditures on growth and higher dividends paid, partiallyoffset by higher cash earnings. TransAlta will use these excess funds to investin growth projects, reduce debt levels, and repurchase common shares.

 

TransAlta’s strategy for managing capital remained unchangedfrom Dec. 31, 2006. 

 

While any of the existing debentures are outstanding theCorporation will not issue or in any other manner become liable for anyindebtedness, unless the aggregate principal amount of the Corporations’sindebtedness does not exceed 75 per cent of total capital.

 

TransAlta’s credit facilities are unsecured and providefunds in either Canadian or U.S. currencies. They contain standard terms andconditions including

covenants with respect to financial leverage and cashflowcoverage that would be considered typical of bank credit facilities of thisnature.

 

**26. Acquisitions and Disposals**

 

**A. Acquisitions**

 

On Feb. 17, 2006, the Corporation acquired a 50 percent ownership in Wailuku River Hydroelectric L.P. (“Wailuku”) for U.S.$1.0million (CDN$1.2 million). The acquisition is accounted for using the purchasemethod of accounting. The following table summarizes the estimated fair valueof the assets acquired and liabilities assumed at the date of acquisition. Thefinancial operations of Wailuku have been proportionately consolidated withthose of TransAlta.

 

Net assets acquired at assigned values:

 
| Working  capital, including cash of $0.3 million |   | $      | (2.7   | )      |
|--------------------------------------------------|--------|--------|--------|--------|
| Property,  plant and equipment                   |   | 26.2   |   |
| Long-term  debt, including current portion       |   | (22.3  | )      |
| **Total**                                        |   | $      | 1.2    |   |
|                                             |   |   |   |
| Consideration:                                   |   |   |   |
| Cash                                             |   | $      | 1.2    |   |

 

**B. Disposals**

 

On Dec. 1, 2004, TransAlta completed the sale of its 50per cent interest in the 220 megawatt (“MW”) Meridian cogeneration facilitylocated in Lloydminster, Saskatchewan to TA Cogen, owned 50.01 per cent byTransAlta for its fair value of $110.0 million.

 

**27. Related Party Transactions**

 

In August 2006, TransAlta entered into an agreementwith CE Gen, a Corporation jointly controlled by TransAlta and MidAmericanEnergy Holdings Company (“MidAmerican”), a subsidiary of Berkshire Hathaway,whereby TransAlta buys available power from certain CE Gen subsidiaries at afixed price. In addition, CE Gen has entered into contracts with relatedparties to provide administrative and maintenance services.

 

On March 8, 2006, TA Cogen entered into an agreementwith TEC whereby TEC provided a financial fixed-for-floating price swap to TACogen at market prices during planned maintenance at the Sheerness plant in thesecond quarter of 2006. The swap was settled in the second quarter of 2006 anddid not have a material effect on the financial statements. TA Cogen is 50.01per cent owned by TransAlta and TEC is 100 per cent owned by TransAlta.

 

For the period November 2002 to November 2012, TA Cogenentered into various transportation swap transactions with a wholly ownedsubsidiary of TransAlta, TEC. TEC operates and maintains TA Cogen’s threecombined-cycle power plants in Ontario and a plant in Fort Saskatchewan,Alberta. TEC also provides management services to Sheerness, which is operatedby Canadian Utilities. The business purpose of these transportation swaps is toprovide TA Cogen with the delivery of fixed price gas without being exposed toescalating costs of pipeline transportation for three of its plants over theperiod of the swap. The notional gas volume in the transaction was the total deliveredfuel for each of the facilities. Exchange amounts are based on the market valueof the contract. TransAlta entered into an offsetting contract with an externalthird party; therefore, TransAlta has no risk other than counterparty risk.

 

On March 8, 2005, TA Cogen entered into an agreementwith TEC whereby TEC provided a financial fixed-for-floating price swap to TACogen during planned maintenance at Sheerness in the second quarter of 2005.This transaction did not have a material impact upon the financial statementsof TransAlta.

 

**28. Contingencies**

 

Effective July 1, 2007, the *ClimateChange and Emissions Management Amendment**Act*was enacted into law in Alberta. Under the legislation, baselines and targetsfor greenhouse gas emissions (“GHG”) intensity are set on a facility byfacility basis. The legislation requires a 12 per cent reduction in carbonemission intensity from a baseline established as at Dec. 31, 2007. Newfacilities or those in operation for less than three years are exempt, however,upon the fourth year of operations, the facility baseline is established andgradually reduces by year of operation until the eighth year by which emissionsmust be 12 per cent below the established baseline. Emissions over the baselineare subject to a charge that must be paid annually. The PPAs for TransAlta’sAlberta-based coal facilities contain change-in-law provisions which allowsTransAlta to recover most compliance costs from the PPA customers. Afterflow-through, the annual net compliance costs were $1.4 million for 2007. As atDec. 31, 2007 $26.3 million was recorded in accounts payable and $24.9 millionwas recorded in accounts receivable related to GHG.

 

 

TRANSALTA CORPORATION  Annual Report 2007

 

98

** **

The Corporation has recorded the liability for compliancecosts and applicable offsetting accounts receivable for expected revenuerecoveries based on the upper limits defined under the applicable legislation.The actual obligation will be settled in 2008, at which time the actual amountmay differ but is not anticipated to affect the net position of theCorporation.

 

TransAlta is occasionally named as a party in various claimsand legal proceedings which arise during the normal course of its business. TransAltareviews each of these claims, including the nature of the claim, the amount indispute or claimed and the availability of insurance coverage. Although therecan be no assurance that any particular claim will be resolved in theCorporation’s favour, the Corporation does not believe that the outcome of anyclaims or potential claims of which it is currently aware will have a materialadverse effect on the Corporation, taken as a whole.

 

**29. Commitments**

 

A significant portion of the Corporation’s electricity andthermal sales revenues are subject to PPAs and long-term contracts. CommencingJan. 1, 2001, a large portion of Alberta’s coal generating assets becamesubject to long-term PPAs for a period approximating the remaining life of eachplant or unit. These PPAs set a production requirement and availability targetfor each plant or unit and the price at which each MWh will be supplied to the customer.Remaining coal capacity in Alberta is sold on the open electricity market.

 

A portion of Poplar Creek’s gas-fired capacity and all ofits steam is committed to the customer under a long-term contract. Theremaining capacity may be taken by the customer at specified rates or sold onthe open electricity market by TransAlta. Other gas-fired facilities in Albertasupply steam and/or electricity to specified customers under long-termcontracts with additional requirements for availability, reliability and otherplant-specific performance measures.

 

Mexico’s energy production is subject to 25-year contractswith the Comisión Federal de Electricidad. These contracts set availabilitytargets and the price at which the plant will be paid per kilowatt of availablecapacity, as well as plant efficiency targets for recovery of fuel costs basedon market prices. 

 

Sarnia has 20-year contracts with a customer group withthree five-year options for extensions to the contracts. The contracts allowfor up to 40 per cent of the plant’s maximum capacity. These contracts setpayments for peak megawatts, total megawatt hours and steam consumed, while TransAltaassumes the availability and heat rate risk. Effective Jan. 1, 2006, TransAltasigned a five-year agreement with the Ontario Power Authority to supply 400 MWof electricity to the Ontario electricity market. The remaining capacity isavailable for export to the merchant market, based on market prices. Productionat the remaining Ontario plants is subject to contracts expiring in five to 10years.

 

Mississauga, Windsor-Essex and Ottawa have contracts thatset availability targets and the price at which the plant will be paid per MWhproduced, as well as risk sharing of fuel costs based on market prices. Thermalenergy contracts for these plants expire the same time as the energy productioncontracts and are with a different customer base. Ottawa has thermal contractswith three different customers. These contracts set payments for volumesconsumed, while TA Cogen assumes the heat rate risk. On Oct. 12, 2007, theCorporation signed an agreement amending the original power purchase agreementwith the Ontario Electricity Financial Corporation (“OEFC”) for the OttawaCogeneration Power Plant. The agreement was entered into to ensure continuedplant production following the expiry of long term natural gas supplycontracts. The agreement will be in effect from Nov. 1, 2007 until Dec. 31,2012.

 

At Centralia Thermal, a significant portion of production issubject to short- to medium-term energy sales contracts. In addition, a portionof the Corporation’s energy sales from its gas plants are subject to medium- tolong-term energy sales contracts.

 

Centralia Thermal has various coal supply and associatedrail transport contracts to provide coal for the use in production. At AlbertaThermal, the mines are operated by a third party who is paid a fixed amount toprovide a budgeted supply of coal. Both of these amounts are included undercoal supply and mining agreements.

 

On June 21, 2007, TAU entered into an agreement with BucyrusCanada Limited and Bucyrus International Inc. for the purchase of a dragline tobe used primarily in the supply of coal to the Keephills 3 joint ventureproject. The total dragline purchase costs include approximately U.S.$104million for the purchase of the equipment, and an additional $29 million forthe assembly and commissioning of the dragline, for a total of approximately $150million, with final payments for goods and services due by May 2010. Totalpayments under this agreement in 2007 were $18 million.

 

Keephills 3 plant construction costs via the Keephills 3Limited Partnership are anticipated to be approximately $1.6 billion with finalpayments for goods and services due by 2011. TransAlta’s proportionate share isapproximately $800 million.

 

On Jan. 19, 2007, TransAlta announced a 25-year contractwith New Brunswick Power Distribution and Customer Service Corporation (“New BrunswickPower”) to provide 75 MW of wind power. TransAlta will construct, own, andoperate a wind power facility in New Brunswick (“Kent Hills”). Commercialoperations are expected to begin by the end of 2008. On July 17, 2007,TransAlta amended the power purchase agreement with New Brunswick Power toincrease capacity under the agreement from 75 MW to 96 MW. Total capital costsfor the Kent Hills wind power project will be approximately $170 million.TransAlta also signed a purchase and sale agreement with Vector Wind Energy, awholly owned subsidiary of Canadian Hydro Developers Inc., for its FairfieldHill wind power site. Under the purchase and sale agreement, TransAlta acquiredCanadian Hydro’s Fairfield Hill wind power site, including the option todevelop the site at a future date, for $1.3 million. Natural ForcesTechnologies Inc. has an option to purchase up to 17 per cent of the Kent Hillsproject within 180 days of its completion.

 

The Corporation has entered into a number of long-term gaspurchase agreements, transportation and transmission agreements, royalty andright-of-way agreements in the normal course of operations.

 

Approximate future payments under the fixed price purchasecontracts, operating leases, mining agreements, and interest on long-term debtare as follows:

 

 
| ** **           | ** ** | **Fixed price**  | ** ** | ** **    | ** ** | **Coal supply** | ** ** | **Interest on** | ** **      | ** ** | ** ** |
|----------------------|------------|-----------------------|------------|---------------|------------|----------------------|------------|----------------------|-----------------|------------|------------|
| ** **           | ** ** | **gas purchase** | ** ** | **Operating** | ** ** | **and mining**  | ** ** | **long-term**        | ** **      | ** ** | ** ** |
| ** **           | ** ** | **contracts**         | ** ** | **leases**    | ** ** | **agreements**       | ** ** | **debt**             | ** ****1** | **Total**  | ** ** |
|                 |       |                  |       |          |       |                 |       |                 |            |       |       |
| 2008                 |       | $                     | 47.0       |          | $          | 10.8                 |       | $                    | 45.2            |       | $          | 120.9 |   | $ | 223.9 |   |
| 2009                 |       |                  | 26.3       |          | 9.5        |                 | 49.3       |                 | 112.5           |       | 197.6      |   |
| 2010                 |       |                  | 6.8        |          | 9.1        |                 | 45.0       |                 | 99.3            |       | 160.2      |   |
| 2011                 |       |                  | 6.8        |          | 8.9        |                 | 44.8       |                 | 88.1            |       | 148.6      |   |
| 2012                 |       |                  | 6.8        |          | 8.9        |                 | 44.5       |                 | 69.1            |       | 129.3      |   |
| 2013 and  thereafter |       |                  | 40.9       |          | 67.3       |                 | 355.1      |                 | 502.4           |       | 965.7      |   |
| **Total**            |       | $                     | 134.6      |          | $          | 114.5                |       | $                    | 583.9           |       | $          | 992.3 |   | $ | 1,825.3 |   |

 

*1   Includes impact of derivatives.*

 

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

 

99

 

**30. Prior Period Regulatory Decision**

 

In response to a complaint filed by San Diego Gas &Electric Company under Section 206 of the *Federal Power Act*(“FPA”),Federal Energy Regulatory Commission (“FERC”) established a claim ofapproximately U.S.$46 million in refunds owing by TransAlta for sales made byit in the organized markets of the California Power Exchange (“PX”) and theCalifornia Independent System Operator (“ISO”) during the Oct. 2, 2000 throughJune 20, 2001 period (the “Main Refund Transactions”). TransAlta has providedU.S.$46 million to account for refund liabilities relating to Main RefundTransactions.

 

TransAlta filed a cost of service based petition for relieffrom these refund obligations. FERC rejected TransAlta’s relief petition. OnDec. 1, 2006, TransAlta filed for rehearing of FERC’s rejection. On Aug. 24,2007, the U.S. Court of Appeals for the Ninth Circuit granted the appeal.TransAlta has requested rehearing, however, FERC has yet to make a ruling onsuch a request and such a decision is not expected in the near future. 

 

During settlement negotiations, the complaintants havesought to obtain refunds for two sets of transactions beyond the Main RefundTransactions. The first set includes sales made by sellers in the PX and ISOmarkets in the period May 1 to Oct. 1, 2001 (the “Summer Transactions”). Theother set includes bilateral transactions between all sellers and a componentof the California Department of Water Resources (“CDWR”) referred to as CERS (the“CERS Transactions”). FERC has specifically rejected attempts to introducerefunds for the Summer and CERS Transactions. Nonetheless, the Californiaparties have sought rehearing of FERC’s refusal and appealed the refusal to theU.S. Court of Appeals for the Ninth Circuit. TransAlta does not presentlybelieve the California parties will be successful in obtaining refunds allegedfor the Summer and CERS transactions. TransAlta has not made any provision forsuch alleged refunds at this time.

** **

**31. Segment Disclosures**

** **

**A.**        **Description of Reportable Segments**

 

The Corporation has two reportable segments: Generation andCommercial Operations & Development (“COD”). TransAlta’s segments aresupported by a corporate group that provides finance, treasury, legal,environmental health and safety, sustainable development, corporatecommunications, government relations, information technology, human resources,internal audit, and other administrative support.

 

Each business segment assumes responsibility for itsoperating results measured as operating income or loss.

 

The Generation segment owns coal, gas, wind, geothermal andhydro power plants in Canada, the United States, Mexico, and Australia, andgenerates its revenue from the sale of electricity, steam, gas and ancillaryservices. As required under Accounting Guideline 15, *Consolidationof Variable Interest**Entities*, ofthe CICA, the Mexican operations are accounted for as equity subsidiaries *(Note 11)*. Generation expenses include COD’s intersegment chargefor energy marketing and financial risk management services in the amount of$27.3 million (2006 – $27.8 million; 2005 – $26.0 million).

 

The COD segment derives revenue and earnings from thewholesale trading of electricity and other energy-related commodities andderivatives not supported by TransAlta-owned generation assets. COD alsoutilizes contracts of various durations for the forward sales of electricityand purchases of natural gas and transmission capacity to effectively manageavailable generating capacity and fuel and transmission needs on behalf ofGeneration. These results are included in the Generation segment. Operatingexpenses are net of the intersegment charges for provision of these energymarketing, financial risk management, commercial, portfolio and regulatorymanagement services of $27.3 million (2006 – $27.8 million; 2005 – $26.0million). 

 

The accounting policies of the segments are the same asthose described in *Note 1*.Intersegment transactions are accounted for on a cost recovery

basis that approximates market rates. Segment revenues arenet of intersegment transactions.

 

**B.****        ****Reported Segment Earnings and SegmentAssets**

 

**I.****            ****Earnings Information**

 
| **Year ended Dec. 31, 2007**               | ** ** | **Generation** | ** **  | **COD**    | ** ** | **Corporate** | ** ** | **Total**    | ** ** |
|----------------------------------------------------------------|------------|----------------|-------------|------------|------------|---------------|------------|--------------|------------|
| ** **                                                     | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | ** **   | ** ** |
| Revenues *(Note 1)*                                            | ** ** | **$**          | **2,719.6** | ** ** | **$**      | **55.1**      | ** ** | **$**        | **–** | ** ** | **$** | **2,774.7** | ** ** |
| Fuel and  purchased power***(Note  1)*                         | ** ** | **(1,230.7**   | **)**       | **–** | ** ** | **–**    | ** ** | **(1,230.7** | **)**      |
| Gross  margin                                                  | ** ** | **1,488.9**    | ** **  | **55.1**   | ** ** | **–**    | ** ** | **1,544.0**  | ** ** |
| Operations,  maintenance and administration                    | ** ** | **446.9**      | ** **  | **33.7**   | ** ** | **96.2**      | ** ** | **576.8**    | ** ** |
| Depreciation  and amortization *(Note 1)*                      | ** ** | **391.3**      | ** **  | **1.4**    | ** ** | **13.2**      | ** ** | **405.9**    | ** ** |
| Taxes,  other than income taxes                                | ** ** | **19.9**       | ** **  | **–** | ** ** | **0.3**       | ** ** | **20.2**     | ** ** |
| Intersegment  cost allocation                                  | ** ** | **27.3**       | ** **  | **(27.3**  | **)**      | **–**    | ** ** | **–**   | ** ** |
| Operating  expenses                                            | ** ** | **885.4**      | ** **  | **7.8**    | ** ** | **109.7**     | ** ** | **1,002.9**  | ** ** |
| Operating  income (loss)                                       | ** ** | **$**          | **603.5**   | ** ** | **$**      | **47.3**      | ** ** | **$**        | **(109.7** | **)** | **$** | **541.1** | ** ** |
| Foreign  exchange gain                                         | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | **3.2**      | ** ** |
| Gain on  sale of equipment *(Note 14)*                         | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | **15.7**     | ** ** |
| Net  interest expense***(Note  19**)*                          | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | **(133.3**   | **)**      |
| Equity loss  *(Note 11)*                                       | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | **(49.5**    | **)**      |
| **Earnings before non-controlling interests and income taxes** | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | **$**        | **377.2**  | ** ** |

 

 

TRANSALTACORPORATION   Annual Report 2007

 

 

100

 
| **Year ended Dec. 31, 2006 ***(Restated, Note 1)* | ** ** | **Generation** | ** ** | **COD**    | ** ** | **Corporate** | ** ** | **Total**  | ** ** |
|--------------------------------------------------------------------------------------|------------|----------------|------------|------------|------------|---------------|------------|------------|------------|
| ** **                                                                           | ** ** | ** **     | ** ** | ** ** | ** ** | ** **    | ** ** | ** ** | ** ** |
| Revenues *(Note 1)*                                                                  |       | $              | 2,611.9    |       | $          | 65.7          |       | $          | –     |   | $ | 2,677.6 |   |
| Fuel and purchased power *(Notes  1 and 2)*                                          |       | (1,186.2       | )          | –     |       | –        |       | (1,186.2   | )          |
| Gross margin                                                                         |       | 1,425.7        |       | 65.7       |       | –        |       | 1,491.4    |       |
| Operations, maintenance and administration                                           |       | 458.3          |       | 36.9       |       | 86.1          |       | 581.3      |       |
| Depreciation and amortization *(Note 1)*                                             |       | 396.9          |       | 1.3        |       | 12.1          |       | 410.3      |       |
| Taxes, other than income taxes                                                       |       | 21.1           |       | –     |       | 0.2           |       | 21.3       |       |
| Intersegment cost allocation                                                         |       | 27.8           |       | (27.8      | )          | –        |       | –     |       |
| Operating expenses                                                                   |       | 904.1          |       | 10.4       |       | 98.4          |       | 1,012.9    |       |
| Mine closure charges *(Note  2)*                                                     |       | 191.9          |       | –     |       | –        |       | 191.9      |       |
| Asset impairment charges***(Note 3)*                                                 |       | 130.0          |       | –     |       | –        |       | 130.0      |       |
| Operating income (loss)                                                              |       | $              | 199.7      |       | $          | 55.3          |       | $          | (98.4      | ) | $ | 156.6 |   |
| Foreign exchange loss                                                                |       |           |       |       |       |          |       | (0.5       | )          |
| Net interest expense *(Note  19)*                                                    |       |           |       |       |       |          |       | (168.5     | )          |
| Equity loss *(Note 11)*                                                              |       |           |       |       |       |          |       | (17.0      | )          |
| **Loss before non-controlling  interests and income taxes**                          |       |           |       |       |       |          |       | $          | (29.4      | ) |

 
| **Year ended Dec. 31, 2005 ***(Restated, Note 1)* | ** ** | **Generation** | ** ** | **COD** | ** ** | **Corporate** | ** ** | **Total** | ** ** |
|--------------------------------------------------------------------------------------|------------|----------------|------------|---------|------------|---------------|------------|-----------|------------|
| Revenues *(Note 1)*                                                                  |       | $              | 2,607.5    |    | $          | 56.9          |       | $         | –     |   | $ | 2,664.4 |   |
| Fuel and purchased power***(Note 1)*                                                 |       | (1,222.4       | )          | –  |       | –        |       | (1,222.4  | )          |
| Gross margin                                                                         |       | 1,385.1        |       | 56.9    |       | –        |       | 1,442.0   |       |
| Operations, maintenance and administration                                           |       | 481.1          |       | 38.5    |       | 76.4          |       | 596.0     |       |
| Depreciation and amortization *(Note 1)*                                             |       | 354.9          |       | 1.7     |       | 11.3          |       | 367.9     |       |
| Taxes, other than income taxes                                                       |       | 21.3           |       | –  |       | –        |       | 21.3      |       |
| Intersegment cost allocation                                                         |       | 26.0           |       | (26.0   | )          | –        |       | –    |       |
| Operating expenses                                                                   |       | 883.3          |       | 14.2    |       | 87.7          |       | 985.2     |       |
| Asset impairment charges *(Note  3)*                                                 |       | 36.2           |       | –  |       | –        |       | 36.2      |       |
| Operating income (loss)                                                              |       | $              | 465.6      |    | $          | 42.7          |       | $         | (87.7      | ) | $ | 420.6 |   |
| Foreign exchange gain                                                                |       |           |       |    |       |          |       | 1.3       |       |
| Net interest expense***(Note 19)*                                                    |       |           |       |    |       |          |       | (188.6    | )          |
| Equity loss *(Note 11)*                                                              |       |           |       |    |       |          |       | (0.9      | )          |
| **Earnings before non-controlling  interests and income taxes**                      |       |           |       |    |       |          |       | $         | 232.4      |   |

 
| **II. Selected Balance Sheet Information** | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | ** ** | ** **  |
|----------------------------------------------------------------|------------|----------------|-------------|------------|------------|---------------|------------|------------|-------------|
| ** **                                                     | ** ** | ** **     | ** **  | ** ** | ** ** | ** **    | ** ** | ** ** | ** **  |
| **Dec. 31, 2007**                                    | ** ** | **Generation** | ** **  | **COD**    | ** ** | **Corporate** | ** ** | **Total**  | ** **  |
| Goodwill *(Note 15)*                                           | ** ** | **$**          | **95.4**    | ** ** | **$**      | **29.5**      | ** ** | **$**      | **–**  | ** ** | **$** | **124.9** | ** ** |
| Total segment assets                                           | ** ** | **$**          | **5,949.6** | ** ** | **$**      | **146.7**     | ** ** | **$**      | **1,082.4** | ** ** | **$** | **7,178.7** | ** ** |

 
| **Dec. 31, 2006** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|-----------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| Goodwill *(Note 15)*        |       | $          | 108.0      |       | $          | 29.5       |       | $          | –     |   | $ | 137.5 |   |
| Total segment assets        |       | $          | 6,159.3    |       | $          | 185.0      |       | $          | 1,115.8    |   | $ | 7,460.1 |   |

 
| **III. Selected Cash Flow Information** | ** ** | ** **     | ** ** | ** ** | ** ** | ** **    | ** ** | ** ** | ** ** |
|-------------------------------------------------------------|------------|----------------|------------|------------|------------|---------------|------------|------------|------------|
| ** **                                                  | ** ** | ** **     | ** ** | ** ** | ** ** | ** **    | ** ** | ** ** | ** ** |
| **Year ended Dec. 31, 2007**            | ** ** | **Generation** | ** ** | **COD**    | ** ** | **Corporate** | ** ** | **Total**  | ** ** |
| Capital expenditures                                        | ** ** | **$**          | **577.8**  | ** ** | **$**      | **4.7**       | ** ** | **$**      | **16.6**   | ** ** | **$** | **599.1** | ** ** |
|                                                             |            |                |            |            |            |               |            |            |            |  |  |  |  |

 
| **Year ended Dec. 31, 2006** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| Capital expenditures                             |       | $          | 205.9      |       | $          | 1.6        |       | $          | 16.2       |   | $ | 223.7 |   |
| Acquisitions                                     |       | $          | 1.2        |       | $          | –     |       | $          | –     |   | $ | 1.2 |   |

 
| **Year ended Dec. 31, 2005** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| Capital expenditures                             |       | $          | 313.6      |       | $          | 1.5        |       | $          | 10.8       |   | $ | 325.9 |   |
|                                                  |            |            |            |            |            |            |            |            |            |  |  |  |  |

 

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

 

101

 

**IV. Depreciation and Amortization Expense perStatements of Cash Flows**

 

The reconciliation between depreciation and amortizationexpense on the statements of earnings and statements of cash flows is presentedbelow:

 
| **Year ended Dec. 31**                                   | ** ** | **2007**  | ** ** | **2006** | ** ** | **2005** | ** ** |
|-------------------------------------------------------------------------|------------|-----------|------------|----------|------------|----------|------------|
| Depreciation and amortization expense for reportable  segments          | ** ** | **$**     | **405.9**  |     | $          | 410.3    |       | $ | 367.9 |   |
| Mining equipment depreciation, included in fuel and  purchased power    | ** ** | **32.8**  |       | 49.0     |       | 52.3     |       |
| Accretion expense, included in depreciation and  amortization expense   | ** ** | **(23.6** | **)**      | (21.5    | )          | (19.3    | )          |
| **Depreciation and amortization  expense per statements of cash flows** | ** ** | **$**     | **415.1**  |     | $          | 437.8    |       | $ | 400.9 |   |

 

**C.****       **** Geographic Information**

 

**I.****            **** Revenues**

 
| **Year ended Dec. 31**              | ** ** | **2007**                                                         | ** **  | **2006**                     | ** ** | **2005** | ** ** |
|----------------------------------------------------|------------|------------------------------------------------------------------|-------------|------------------------------|------------|----------|------------|
| Canada                                             | ** ** | **$**                                                            | **1,742.0** |                         | $          | 1,761.7  |       | $ | 1,699.0 |   |
| U.S.                                               | ** ** | **931.8**                                                        |        | 825.1                        |       | $        | 869.2      |   |
| Australia                                          | ** ** | **100.9**                                                        |        | 90.8                         |       | 96.2     |       |
| **Total revenue**                                  | ** ** | **$**                                                            | **2,774.7** |                         | $          | 2,677.6  |       | $ | 2,664.4 |   |
|                                               | ** ** | ** **                                                       |        |                         |       |     |       |
| **II. Property, Plant and Equipment and Goodwill** | ** ** | ** **                                                       |        |                         |       |     |       |
|                                               | ** ** | ** **                                                       |        |                         |       |     |       |
| ** **                                         | ** ** | **Property, plant and equipment***(Note 13)* | ** **  | **Goodwill***(Note 15)* | ** ** |
| **As at Dec. 31**                   | ** ** | **2007**                                                         | ** **  | **2006**                     | ** ** | **2007** | ** ** | **2006** | ** ** |
| Canada                                             | ** ** | **$**                                                            | **3,876.9** |                         | $          | 3,694.2  |       | $ | 56.5 |   | $ | 56.5 |   |
| U.S.                                               | ** ** | **1,087.3**                                                      |        | 1,182.2                      |       | 68.4     |       | 81.0 |   |
| Australia                                          | ** ** | **153.1**                                                        |        | 165.5                        |       | –   |       | – |   |
| **Total**                                          | ** ** | **$**                                                            | **5,117.3** |                         | $          | 5,041.9  |       | $ | 124.9 |   | $ | 137.5 |   |

 

**32. Stock-Based Compensation Plans**

At Dec. 31, 2007, theCorporation had three types of stock-based compensation plans and an employeeshare purchase plan.

 

The Corporation is authorized to grant employees options topurchase up to an aggregate of 13.0 million common shares at prices based onthe market price of the shares as determined on the grant date. The Corporationhas reserved 13.0 million common shares for issue.

 

**A.****       ****Fixed Stock Option Plans**

 

**I.****            ****Canadian Employee Plan**

This plan is offered to all full-timeand part-time employees in Canada at or below the level of manager. Optionsgranted under this plan may not be exercised until one year after grant andthereafter at an amount not exceeding 25 per cent of the grant per year on acumulative basis until the fifth year, after which the entire grant may beexercised until the tenth year, which is the expiry date.

 

**II. U.S. Plan**

This plan mirrors the rules ofthe Canadian plan.

 

**III. Australian Phantom Plan**

This plan came into effect in 2001 and was offered to allfull-time and part-time employees in Australia, excluding directors andofficers. Options under this plan are not physically granted; rather, employeesreceive the equivalent value of shares in cash when exercised. Options grantedunder this plan may not be exercised until one year after grant and thereafterat an amount not exceeding 25 per cent of the grant per year on a cumulativebasis until the fifth year, after which the entire grant may be exercised untilthe tenth year, which is the expiry date.

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

102

 

**IV. Mexican Phantom Plan**

 

The Mexican phantom plan mirrors the rules of theAustralian plan, with the first grant occurring in 2005.

 

Summary of the total options outstanding and optionsexercisable at Dec. 31, 2007 are shown below:

 
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **     Options outstanding** | ** ** | **Options exercisable     ** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | ** **                                                 | ** ** | **Weighted**                                               | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **Number**                                                 | ** ** | **average**                                                | ** ** | **Weighted** | ** ** | **Number** | ** ** | **Weighted** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **outstanding at**                                    | ** ** | **remaining**                                              | ** ** | **average** | ** ** | **exercisable at** | ** ** | **average** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **Dec. 31, 2007  (millions)**                    | ** ** | **contractual  life (years)**                         | ** ** | **exercise  price** | ** ** | **Dec. 31, 2007  (millions)** | ** ** | **exercise  price** | ** ** |
| Range of exercise prices                                                                                                                                                                                                                                                                                   |       |                                                       |       |                                                       |       |   |   |   |   |   |   |
| $10.67–$18.00                                                                                                                                                                                                                                                                                         | ** ** | **0.7**                                                    | ** ** | **6.2**                                                    | ** ** | **$ ** | **16.21** | ** ** | **0.3** | ** ** | **$ ** | **15.26** | ** ** |
| $18.01–$23.00                                                                                                                                                                                                                                                                                         | ** ** | **0.2**                                                    | ** ** | **4.0**                                                    | ** ** | **20.83** | ** ** | **0.2** | ** ** | **20.83** | ** ** |
| $23.01–$27.70                                                                                                                                                                                                                                                                                         | ** ** | **0.2**                                                    | ** ** | **3.3**                                                    | ** ** | **27.70** | ** ** | **0.2** | ** ** | **27.70** | ** ** |
| **$10.67–$27.70**                                                                                                                                                                                                                                                                                     | ** ** | **1.1**                                                    | ** ** | **5.3**                                                    | ** ** | **$ ** | **19.28** | ** ** | **0.7** | ** ** | **$ ** | **20.51** | ** ** |
|                                                                                                                                                                                                                                                                                                       |       |                                                       |       |                                                       |       |   |   |   |   |   |   |
| **B.**         **Performance  Stock Option Plan**                                                                                                                                                                                                                  |
|                                                                                                                                                                                                                                                                                                       |
| In 1999, the Corporation expanded enrolment in the stock  option program to include all Canadian employees of the Corporation,  excluding the level of director and above, by issuing stock options with an  expiry date of 2009 and vesting dependent upon achieving certain earnings per  share targets. |
|                                                                                                                                                                                                                                                                                                       |       |                                                       |       |                                                       |       |   |   |   |   |   |   |
| **Year ended Dec. 31**                                                                                                                                                                                                                                                                      | ** ** | **       2007**         | ** ** | **       2006**         | ** ** | **       2005** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **Number of**                                         | ** ** | **Weighted**                                               | ** ** | **Number of** | ** ** | **Weighted** | ** ** | **Number of** | ** ** | **Weighted** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **share options**                                     | ** ** | **average**                                                | ** ** | **share options** | ** ** | **average** | ** ** | **share options** | ** ** | **average** | ** ** |
| ** **                                                                                                                                                                                                                                                                                                 | ** ** | **(millions)**                                             | ** ** | **exercise price**                                    | ** ** | **(millions)** | ** ** | **exercise price** | ** ** | **(millions)** | ** ** | **exercise price** | ** ** |
| Outstanding, beginning of year                                                                                                                                                                                                                                                                             | ** ** | **0.2**                                                    | ** ** | **$**                                                      | **22.73**  |   | 0.2 |   | $ | 22.62 |   | 0.2 |   | $ | 22.44 |   |
| Exercised                                                                                                                                                                                                                                                                                                  | ** ** | **(0.1**                                                   | **)**      | **22.75**                                                  |       | – |   | 21.99 |   | – |   | 21.33 |   |
| Cancelled or expired                                                                                                                                                                                                                                                                                       | ** ** | **–**                                                 | ** ** | **–**                                                 |       | – |   | 23.05 |   | – |   | 23.05 |   |
| **Outstanding, end of year**                                                                                                                                                                                                                                                                               | ** ** | **0.1**                                                    | ** ** | **$**                                                      | **22.71**  |   | 0.2 |   | $ | 22.73 |   | 0.2 |   | $ | 22.62 |   |

 

At Dec. 31, 2007, the Corporation had 3,500 optionsunder this plan with an exercise price of $14.15 and a weighted averageremaining contractual life of 2.0 years and 88,625 options with an exerciseprice of $23.05 and a weighted average remaining contractual life of 1.1 yearsoutstanding. At Dec. 31, 2007, all outstanding options had vested.

 

**C.**        **Performance Share Ownership Plan (“PSOP”)**

 

Under the terms of the PSOP, which commenced in 1997, theCorporation was authorized to grant to employees and directors up to anaggregate of 2.0 million common shares. The number of common shares whichcould be issued under both the PSOP and the share option plans, however, could notexceed 6.0 million common shares. Participants in the PSOP receive grantswhich, after three years, make them eligible to receive a set number of commonshares or cash equivalent up to the maximum of the grant amount plus anyaccrued dividends thereon. The actual number of common shares or cashequivalent a participant may receive is determined by the percentile ranking ofthe total shareholder return over three years of the Corporation’s commonshares amongst the companies comprising the S&P/TSX Composite Index.Expense related to this plan is recorded during the period earned, with thecorresponding payable recorded in liabilities.

 

On Dec. 31, 2001, the plan was modified so that afterthree years, once the PSOP eligibility has been determined, 50 per cent of theshares may be released to the participant, while the remaining 50 per cent willbe held in trust for one additional year. In addition, the number of commonshares the Corporation is authorized to grant under the terms of the PSOP wasincreased to 4.0 million common shares and the maximum number of common shareswhich may be issued under both the PSOP and share option plans was increased to13.0 million common shares.

 
| **Year ended Dec. 31**                          | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|----------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Number of awards outstanding, beginning of year (in  millions) | ** ** | **1.2**  |       | 1.1      |       | 1.5      |       |
| Granted                                                        | ** ** | **0.4**  |       | 0.6      |       | 0.4      |       |
| Awarded                                                        | ** ** | **(0.1** | **)**      | (0.1     | )          | (0.1     | )          |
| Cancelled or expired                                           | ** ** | **(0.5** | **)**      | (0.4     | )          | (0.7     | )          |
| **Number of awards outstanding,  end of year**                 | ** ** | **1.0**  |       | 1.2      |       | 1.1      |       |

 

In 2007, PSOP compensation expense was $7.2 millionafter-tax (2006 – $3.7 million after-tax, 2005 – $7.0 million after-tax), whichis included in OM&A expense in the statements of earnings. In 2007, 103,896common shares were issued at $33.35 per share. In 2006, 137,039 common shareswere issued at $25.41 per share. In 2005, 65,332 common shares were issued at$25.41 per share.

 

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

 

103

 

**D.**         **Employee Share Purchase Plan**

 

Under the terms of the employee share purchase plan, theCorporation will extend an interest-free loan (up to 30 per cent of anemployee’s base salary) to employees below executive level and allow forpayroll deductions over a three-year period to repay the loan. Executives areno longer eligible for this program in accordance with the Sarbanes-Oxleylegislation. The Corporation will purchase these common shares on the openmarket on behalf of employees at prices based on the market price of the sharesas determined on the date of purchase. Employee sales of these shares arehandled in the same manner. At Dec. 31, 2007, accounts receivable fromemployees under the plan totalled $0.3 million (2006 – $0.4 million).

 

**E.****        ****Stock-Based Compensation**

 

At Dec. 31, 2007, the Corporation had 1.2 millionoutstanding employee stock options (2006 – 2.2 million).

 
| Employee stock options, outstanding at Dec. 31, 2006      |       | 2.2     |       |
|----------------------------------------------------------------|------------|---------|------------|
| Exercised                                                      |       | (0.8    | )          |
| Cancelled                                                      |       | (0.2    | )          |
| **Employee stock options,  outstanding at Dec. 31, 2007** | ** ** | **1.2** | ** ** |

 

The Corporation uses the fair value method of accounting forawards granted under its fixed stock option plans and its performance stockoption plan. In March 2005, 1.2 million options were granted. One quarterof the options granted vest on each of the first, second, third and fourthanniversaries of the date of grant and expire after 10 years. The estimatedfair value of these options granted was determined using the binomial model andthe following assumptions, resulting in a fair value of $6.84 per option:

 
| Risk free interest rate (%)                                  |   | 4.3  |   |
|--------------------------------------------------------------|--------|------|--------|
| Life of the options (years)                                  |   | 10   |   |
| Dividend rate (%)                                            |   | 5.6  |   |
| Volatility in the price of the Corporation’s shares (%) |   | 47.0 |   |

 

The estimated fair value of these stock options granted in2002 and prior was determined using the binomial model using the followingassumptions, resulting in a weighted-average fair value of $4.25:

 
| Risk free interest rate (%)                                   |   | 5.9  |   |
|---------------------------------------------------------------|--------|------|--------|
| Expected hold period to exercise (years)                      |   | 7.0  |   |
| Volatility  in the price of the Corporation’s shares (%) |   | 28.3 |   |

 

**33. Employee Future Benefits**

 

**A.**        **Description**

 

The Corporation has registered pension plans in Canada,Mexico and the U.S. covering substantially all employees of the Corporation inthese countries and specific named employees working internationally. Theseplans have defined benefit and defined contribution options, and in Canadathere is an additional supplemental defined benefit plan for certain employeeswhose annual earnings exceed the Canadian income tax limit. The defined benefitoption of the registered pension plans have been closed for new employees forall periods presented.

 

The latest actuarial valuations of the registered andsupplemental pension plans were as at Dec. 31, 2006. The measurement dateused to determine plan assets and accrued benefit obligation was Dec. 31,2007. The effective date of the next required valuation for funding purposes isDec. 31, 2008. The supplemental pension plan is solely the obligation ofthe Corporation. The Corporation is not obligated to fund the supplemental planbut is obligated to pay benefits under the terms of the plan as they come due.The Corporation has posted a letter of credit in the amount of $48.2 million tosecure the obligations under the supplemental plan.

 

The Corporation provides other health and dental benefits tothe age of 65 for both disabled members (other post-employment benefits) andretired members (other post-retirement benefits). The latest actuarialvaluation of these other plans was as at Dec. 31, 2007. The measurementdate used to determine the accrued benefit obligation was also Dec. 31,2007. The effective date of the next required valuation for funding purposes isDec. 31, 2010.

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

104

 

**B.****        ****Costs Recognized**

 
| **Year ended Dec. 31, 2007**                                                            | ** ** | **Registered** | ** ** | **Supplemental** | ** **  | **Other**  | ** ** | **Total** | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|----------------|------------|------------------|-------------|------------|------------|-----------|------------|
| Current service cost                                                                                        | ** ** | **$ **    | **3.7**    | ** **       | **$ ** | **1.5**    | ** ** | **$**     | **1.4**    | ** ** | **$** | **6.6** | ** ** |
| Interest cost                                                                                               | ** ** | **19.4**       | ** ** | **2.4**          | ** **  | **1.2**    | ** ** | **23.0**  | ** ** |
| Actual return on plan assets                                                                                | ** ** | **(10.4**      | **)**      | **–**       | ** **  | **–** | ** ** | **(10.4** | **)**      |
| Actuarial (gains) losses in 2007                                                                            | ** ** | **(14.8**      | **)**      | **5.5**          | ** **  | **(1.5**   | **)**      | **(10.8** | **)**      |
| Difference between expected return and actual return on  plan assets                                        | ** ** | **(15.0**      | **)**      | **–**       | ** **  | **–** | ** ** | **(15.0** | **)**      |
| Difference  between amortized and actuarial (gain) loss  on accrued benefit obligation for year             |       | **16.0**       |       | **(3.9**         | **)**       | **1.7**    |       | **13.8**  |       |
| Difference  between amortization of past service costs for theyear and actual plan amendments  for the year |       | **0.1**        |       | **(0.2**         | **)**       | **0.3**    |       | **0.2**   |       |
| Amortization  of net transition obligation (asset)                                                          | ** ** | **(9.1**       | **)**      | **0.3**          | ** **  | **–** | ** ** | **(8.8**  | **)**      |
| Defined benefit (income) cost                                                                               | ** ** | **(10.1**      | **)**      | **5.6**          | ** **  | **3.1**    | ** ** | **(1.4**  | **)**      |
| Defined contribution option expense of registered pension  plan                                             | ** ** | **15.4**       | ** ** | **–**       | ** **  | **–** | ** ** | **15.4**  | ** ** |
| **Net  expense**                                                                                            | ** ** | **$ **    | **5.3**    | ** **       | **$ ** | **5.6**    | ** ** | **$**     | **3.1**    | ** ** | **$** | **14.0** | ** ** |

 
| **Year ended Dec. 31, 2006**                                                              | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** | **Total** | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|----------------|------------|------------------|------------|-----------|------------|-----------|------------|
| Current service cost                                                                                          |       | $         | 4.4        |             | $     | 1.2       |       | $         | 1.5        |   | $ | 7.1 |   |
| Interest cost                                                                                                 |       | 19.7           |       | 2.0              |       | 1.1       |       | 22.8      |       |
| Actual return on plan assets                                                                                  |       | (35.4          | )          | –           |       | –    |       | (35.4     | )          |
| Actuarial (gains) losses in 2006                                                                              |       | (0.5           | )          | 1.0              |       | (0.2      | )          | 0.3       |       |
| Difference between expected return and actual return on  plan assets                                          |       | 10.2           |       | –           |       | –    |       | 10.2      |       |
| Difference  between amortized and actuarial loss   on accrued benefit obligation for year                     |       | 3.1            |       | –           |       | 0.5       |       | 3.6       |       |
| Difference  between amortization of past service costs for the   year and actual plan amendments for the year |       | 0.1            |       | (0.2             | )          | 0.3       |       | 0.2       |       |
| Centralia coal mine closure charges                                                                           |       | 1.4            |       | –           |       | –    |       | 1.4       |       |
| Amortization  of net transition obligation (asset)                                                            |       | (9.2           | )          | 0.3              |       | –    |       | (8.9      | )          |
| Defined benefit (income) cost                                                                                 |       | (6.2           | )          | 4.3              |       | 3.2       |       | 1.3       |       |
| Defined  contribution option expense of registered pension plan                                               |       | 17.5           |       | –           |       | –    |       | 17.5      |       |
| **Net  expense**                                                                                              |       | $         | 11.3       |             | $     | 4.3       |       | $         | 3.2        |   | $ | 18.8 |   |
|                                                                                                          |       |           |       |             |       |      |       |      |       |
| **Year ended Dec. 31, 2005**                                                              | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** | **Total** | ** ** |
| Current service cost                                                                                          |       | $         | 4.2        |             | $     | 1.1       |       | $         | 1.3        |   | $ | 6.6 |   |
| Interest cost                                                                                                 |       | 20.4           |       | 2.0              |       | 1.2       |       | 23.6      |       |
| Actual return on plan assets                                                                                  |       | (43.9          | )          | –           |       | –    |       | (43.9     | )          |
| Actuarial losses in 2005                                                                                      |       | 26.3           |       | 4.6              |       | 0.9       |       | 31.8      |       |
| Past service cost in 2005                                                                                     |       | 0.5            |       | (1.2             | )          | –    |       | (0.7      | )          |
| Difference between expected return and actual return on  plan assets                                          |       | 19.8           |       | –           |       | –    |       | 19.8      |       |
| Difference  between amortized and actuarial gainon accrued benefit obligation  for year                       |       | (23.9          | )          | (4.3             | )          | (0.6      | )          | (28.8     | )          |
| Difference  between amortization of past service costs for theyear and actual plan amendments  for the year   |       | (0.4           | )          | 1.2              |       | 0.3       |       | 1.1       |       |
| Amortization  of net transition obligation (asset)                                                            |       | (9.2           | )          | 0.3              |       | –    |       | (8.9      | )          |
| Defined benefit (income) cost                                                                                 |       | (6.2           | )          | 3.7              |       | 3.1       |       | 0.6       |       |
| Defined contribution option expense of registered pension  plan                                               |       | 16.1           |       | –           |       | –    |       | 16.1      |       |
| **Net  expense**                                                                                              |       | $         | 9.9        |             | $     | 3.7       |       | $         | 3.1        |   | $ | 16.7 |   |

 

In 2007, 2006 and 2005, the entire net expense is related tocontinuing operations.

 

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

 

105

 

**C.****       ****Status of Plans**

 
| **Year ended Dec. 31, 2007**    | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other**  | ** ** |
|-----------------------------------------------------|------------|----------------|------------|------------------|------------|------------|------------|
| Fair value of plan assets                           | ** ** | **$**          | **356.2**  | ** **       | **$**      | **2.3**    | ** ** | **$** | **–** | ** ** |
| Accrued  benefit obligation                         | ** ** | **372.5**      | ** ** | **48.7**         | ** ** | **23.0**   | ** ** |
| Funded status plan deficit                          | ** ** | **(16.3**      | **)**      | **(46.4**        | **)**      | **(23.0**  | **)**      |
| Amounts not yet recognized in financial statements: |       |           |       |             |       |       |       |
| Unrecognized past service costs                     | ** ** | **0.6**        | ** ** | **(1.1**         | **)**      | **3.0**    | ** ** |
| Unamortized transition (asset) obligation           | ** ** | **(27.6**      | **)**      | **2.0**          | ** ** | **–** | ** ** |
| Unamortized  net actuarial gains                    | ** ** | **40.7**       | ** ** | **14.6**         | ** ** | **4.2**    | ** ** |
| Total recognized in financial statements:           |       |           |       |             |       |       |       |
| Accrued benefit liability                           | ** ** | **$**          | **(2.6**   | **)**            | **$**      | **(30.9**  | **)**      | **$** | **(15.8** | **)** |
| Amortization  period in years (EARSL)               | ** ** | **7**          | ** ** | **6**            | ** ** | **14**     | ** ** |

 
| **Year ended Dec. 31, 2006**    | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** |
|-----------------------------------------------------|------------|----------------|------------|------------------|------------|-----------|------------|
| Fair value of plan assets                           |       | $              | 374.3      |             | $          | 2.1       |       | $ | – |   |
| Accrued  benefit obligation                         |       | 398.6          |       | 43.6             |       | 23.5      |       |
| Funded status plan deficit                          |       | (24.3          | )          | (41.5            | )          | (23.5     | )          |
| Amounts not yet recognized in financial statements: |       |           |       |             |       |      |       |
| Unrecognized past service costs                     |       | 0.8            |       | (1.4             | )          | 3.2       |       |
| Unamortized transition (asset) obligation           |       | (36.6          | )          | 2.3              |       | –    |       |
| Unamortized  net actuarial gains                    |       | 46.3           |       | 10.7             |       | 5.5       |       |
| Total recognized in financial statements:           |       |           |       |             |       |      |       |
| Accrued benefit liability                           |       | $              | (13.8      | )                | $          | (29.9     | )          | $ | (14.8 | ) |
| Amortization  period in years (EARSL)               |       | 7              |       | 7                |       | 15        |       |

 

The current portion of the accrued benefit liability isincluded in accounts payable and accrued liabilities on the consolidatedbalance sheets. The long-term portion is included in deferred credits and otherlong-term liabilities.

 
| **Year ended Dec. 31, 2007** | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** |
|--------------------------------------------------|------------|----------------|------------|------------------|------------|-----------|------------|
| Accrued current liabilities                      | ** ** | **$**          | **0.2**    | ** **       | **$**      | **0.1**   | ** ** | **$** | **1.0** | ** ** |
| Other  long-term liabilities                     | ** ** | **2.4**        | ** ** | **30.8**         | ** ** | **14.8**  | ** ** |
| **Accrued  benefit liability**                   | ** ** | **$**          | **2.6**    | ** **       | **$**      | **30.9**  | ** ** | **$** | **15.8** | ** ** |

 
| **Year ended Dec. 31, 2006**                         | ** ** | **Registered**                                                                                    | ** ** | **Supplemental** | ** ** | **Other** | ** ** |
|--------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------|------------|------------------|------------|-----------|------------|
| Accrued current liabilities                                              |       | $               – |       | $                | 0.5        |      | $          | – |   |
| Other  long-term liabilities                                             |       | 13.8                                                                                              |       | 29.4             |       | 14.8      |       |
| **Accrued  benefit liability**                                           |       | $          13.8                                 |       | $                | 29.9       |      | $          | 14.8 |   |
|                                                                     |       |                                                                                              |       |             |       |      |       |   |   |
| **D.**         **Contributions** |       |                                                                                              |       |             |       |      |       |   |   |
|                                                                     |       |                                                                                              |       |             |       |      |       |   |   |
| Expected  cash flows are as follows:                                     |       |                                                                                              |       |             |       |      |       |   |   |
|                                                                     |       |                                                                                              |       |             |       |      |       |   |   |
| ** **                                                               | ** ** | **Registered**                                                                                    | ** ** | **Supplemental** | ** ** | **Other** | ** ** | **Total** | ** ** |
| Employer contributions                                                   |       |                                                                                              |       |             |       |      |       |   |   |
| 2008 (expected)                                                          |       | $                                                                                                 | 3.9        |             | $          | 2.6       |       | $ | 1.9 |   | $ | 8.4 |   |
| Expected benefit payments                                                |       |                                                                                              |       |             |       |      |       |   |   |
| 2008                                                                     |       | 24.7                                                                                              |       | 2.4              |       | 1.8       |       | 28.9 |   |
| 2009                                                                     |       | 25.2                                                                                              |       | 2.5              |       | 1.9       |       | 29.6 |   |
| 2010                                                                     |       | 25.8                                                                                              |       | 2.7              |       | 1.9       |       | 30.4 |   |
| 2011                                                                     |       | 26.5                                                                                              |       | 2.8              |       | 2.0       |       | 31.3 |   |
| 2012                                                                     |       | 26.9                                                                                              |       | 2.9              |       | 1.9       |       | 31.7 |   |
| 2013–2017                                                           |       | 138.2                                                                                             |       | 16.5             |       | 10.1      |       | 164.8 |   |
|                                                                          |            |                                                                                                   |            |                  |            |           |            |  |  |  |  |  |  |

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

106

 

**E.****        ****Plan Assets**

 
| ** **                                           | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** |
|------------------------------------------------------|------------|----------------|------------|------------------|------------|-----------|------------|
| Fair value of plan assets at Dec. 31, 2005      |       | $              | 369.4      |             | $          | 1.7       |       | $ | – |   |
| Contributions                                        |       | (2.6           | )          | 0.5              |       | 1.2       |       |
| Benefits paid                                        |       | (27.6          | )          | (0.1             | )          | (1.2      | )          |
| Effect of translation on U.S. plans                  |       | (0.4           | )          | –           |       | –    |       |
| Actual  return on plan assets 1                      |       | 35.5           |       | –           |       | –    |       |
| Fair value of plan assets at Dec. 31, 2006      |       | $              | 374.3      |             | $          | 2.1       |       | $ | – |   |
| Contributions                                        |       | 1.5            |       | 4.5              |       | 2.3       |       |
| Benefits paid                                        |       | (28.9          | )          | (4.3             | )          | (2.3      | )          |
| Effect of translation on U.S. plans                  |       | (1.1           | )          | –           |       | –    |       |
| Actual  return on plan assets 1                      |       | 10.4           |       | –           |       | –    |       |
| **Fair  value of plan assets at Dec. 31, 2007** | ** ** | **$**          | **356.2**  | ** **       | **$**      | **2.3**   | ** ** | **$** | **–** | ** ** |

 

*1*       *Net of expenses.*

 

The Corporation’s investment policy is to achieve aconsistently high investment return over time while maintaining an acceptablelevel of risk to satisfy the benefit obligations of the pension plans. The goalis to maintain a long-term rate of return on the fund that at least equals thegrowth of liabilities, currently seven per cent. The pension fund may beinvested in publicly traded common or preferred equity shares, rights orwarrants, convertible debentures or preferred securities, bonds, debentures,mortgages, notes or other debt instruments of government agencies orcorporations, private company securities, guaranteed investment contracts, termdeposits, cash or money market securities, and mutual or pooled funds eligiblefor pension fund investment. The target allocation percentages are 60 per centequity and 40 per cent fixed income. Cash and money market instruments may beheld from time-to-time as short-term investment decisions or as defensivereserves within the portfolios of each asset class. The fund may invest inderivatives for the purpose of hedging the portfolio or altering the desiredmix of the fund. Derivative transactions that leverage the fund in any way arenot permitted without the specific approval of the Corporation’s pensioncommittee.

 

The allocation of plan assets by major asset category atDec. 31, 2007 and 2006 is as follows:

 
| **Year ended Dec. 31, 2007** | ** ** | **Registered** | ** ** | **Supplemental** | ** ** |
|--------------------------------------------------|------------|----------------|------------|------------------|------------|
| Equity securities                                | ** ** | **58.6%**      | ** ** | **–**       | ** ** |
| Debt securities                                  | ** ** | **40.8%**      | ** ** | **–**       | ** ** |
| Cash  equivalents                                | ** ** | **0.6%**       | ** ** | **100.0%**       | ** ** |
| **Total**                                        | ** ** | **100.0%**     | ** ** | **100.0%**       | ** ** |

 
| **Year ended Dec. 31, 2006** | ** ** | **Registered** | ** ** | **Supplemental** | ** ** |
|--------------------------------------------------|------------|----------------|------------|------------------|------------|
| Equity securities                                |       | 62.3%          |       | –           |       |
| Debt securities                                  |       | 37.4%          |       | –           |       |
| Cash  equivalents                                |       | 0.3%           |       | 100.0%           |       |
| **Total**                                        |       | 100.0%         |       | 100.0%           |       |

 

Plan assets include common shares of the Corporation havinga fair value of $0.8 million at Dec. 31, 2007 (2006 – $1.1 million). TheCorporation charged the registered plan $0.1 million for administrativeservices provided for the year ended Dec. 31, 2007 (2006 – $0.1 million).

 

**F.****        ****Reconciliation of Accrued BenefitObligations**

 
| ** **                                               | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other** | ** ** |
|----------------------------------------------------------|------------|----------------|------------|------------------|------------|-----------|------------|
| Accrued benefit obligation as at Dec. 31, 2005      |       | $              | 402.7      |             | $          | 41.2      |       | $ | 23.4 |   |
| Current service cost                                     |       | 4.3            |       | 1.2              |       | 1.5       |       |
| Interest cost                                            |       | 19.7           |       | 2.1              |       | 1.2       |       |
| Expected benefits paid                                   |       | (25.9          | )          | (1.8             | )          | (1.2      | )          |
| Effect of translation on U.S. plans                      |       | (0.7           | )          | –           |       | (0.2      | )          |
| Actuarial  (gain) loss                                   |       | (1.5           | )          | 0.9              |       | (1.2      | )          |
| Accrued benefit obligation as at Dec. 31, 2006      |       | $              | 398.6      |             | $          | 43.6      |       | $ | 23.5 |   |
| Current service cost                                     |       | 3.7            |       | 1.5              |       | 1.4       |       |
| Interest cost                                            |       | 19.4           |       | 2.4              |       | 1.3       |       |
| Expected benefits paid                                   |       | (28.9          | )          | (4.3             | )          | (2.3      | )          |
| Plan amendments                                          |       | (0.1           | )          | –           |       | –    |       |
| Effect of translation on U.S. plans                      |       | (1.6           | )          | –           |       | (0.4      | )          |
| Actuarial (gain) loss                                    |       | (18.6          | )          | 5.5              |       | (0.5      | )          |
| **Accrued  benefit obligation as at Dec. 31, 2007** | ** ** | **$**          | **372.5**  | ** **       | **$**      | **48.7**  | ** ** | **$** | **23.0** | ** ** |

 

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

 

107

 

**G.****      ****Assumptions**

 

The significant actuarial assumptions adopted in measuring theCorporation’s accrued benefit obligations were as follows:

 
| **Year ended Dec. 31, 2007**    | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other**              | ** ** |
|-----------------------------------------------------|------------|----------------|------------|------------------|------------|------------------------|------------|
| Accrued benefit obligation at Dec. 31          |       |           |       |             |       |                   |       |
| Discount rate (%)                                   | ** ** | **5.5**        | ** ** | **5.5**          | ** ** | **5.7**                | ** ** |
| Rate of compensation increase (%)                   | ** ** | **3.7**        | ** ** | **3.8**          | ** ** | **–**             | ** ** |
| Benefit cost for year ended Dec. 31            |       |           |       |             |       |                   |       |
| Discount rate (%)                                   | ** ** | **5.0**        | ** ** | **5.0**          | ** ** | **5.3**                | ** ** |
| Rate of compensation increase (%)                   | ** ** | **3.8**        | ** ** | **3.8**          | ** ** | **–**             | ** ** |
| Expected rate of return on plan assets (%)          | ** ** | **7.1**        | ** ** | **–**       | ** ** | **–**             | ** ** |
| Assumed health care cost trend rate at Dec. 31 |       |           |       |             |       |                   |       |
| Health care cost escalation (%)                     | ** ** | **–**     | ** ** | **–**       | ** ** | **9.0–10.0****1** | ** ** |
| Dental care cost escalation (%)                     | ** ** | **–**     | ** ** | **–**       | ** ** | **4.0**                | ** ** |
| Provincial health care premium escalation (%)       | ** ** | **–**     | ** ** | **–**       | ** ** | **2.5**                | ** ** |

 
| **Year ended Dec. 31, 2006**    | ** ** | **Registered** | ** ** | **Supplemental** | ** ** | **Other**     | ** ** |
|-----------------------------------------------------|------------|----------------|------------|------------------|------------|---------------|------------|
| Accrued benefit obligation at Dec. 31          |       |           |       |             |       |          |       |
| Discount rate (%)                                   |       | 5.1            |       | 5.0              |       | 5.3           |       |
| Rate of compensation increase (%)                   |       | 3.8            |       | 3.8              |       | –        |       |
| Benefit cost for year ended Dec. 31            |       |           |       |             |       |          |       |
| Discount rate (%)                                   |       | 5.0            |       | 5.0              |       | 5.2           |       |
| Rate of compensation increase (%)                   |       | 3.5            |       | 3.5              |       | –        |       |
| Expected rate of return on plan assets (%)          |       | 7.1            |       | –           |       | –        |       |
| Assumed health care cost trend rate at Dec. 31 |       |           |       |             |       |          |       |
| Health care cost escalation (%)                     |       | –         |       | –           |       | 9.0–9.51 |       |
| Dental care cost escalation (%)                     |       | –         |       | –           |       | 4.0           |       |
| Provincial  health care premium escalation (%)      |       | –         |       | –           |       | 2.5           |       |

 

*1*    *Decreasing gradually to 5.0 per cent by 2015 for Canadian plans and by2012 for U.S. plans and remaining at that level thereafter.*

 

The expected long-term rate of return on plan assets isbased on past performance and economic forecasts for the types of investmentsheld by the plan. The estimated rate of return is lower than the historicalreturns of the appropriate indices.

** **

**34. Joint Ventures**

 

Joint ventures at Dec. 31, 2007 included the following:

 
| **Joint venture**               | ** ** | **Ownership  interest** | ** ** | **Description**                                                                                                  |
|---------------------------------|------------|-------------------------|------------|------------------------------------------------------------------------------------------------------------------|
| Sheerness joint venture         |       | 50%                     |       | Coal-fired plant in Alberta, of which TA Cogen has a  50 per cent interest,                                      |
|                            |       |                    |       | and is operated by Canadian Utilities                                                                            |
| Meridian joint venture          |       | 50%                     |       | Cogeneration plant in Alberta, of which TA Cogen has  a 50 per cent interest,                                    |
|                            |       |                    |       | and is operated by TransAlta                                                                                     |
| Fort Saskatchewan joint venture |       | 60%                     |       | Cogeneration plant in Alberta, of which TA Cogen has  a 60 per cent interest,                                    |
|                            |       |                    |       | and is operated by TransAlta                                                                                     |
| McBride Lake joint venture      |       | 50%                     |       | Wind generation facilities in Alberta, operated by  TransAlta                                                    |
| Goldfields Power joint venture  |       | 50%                     |       | Gas-fired plant in Australia, operated by TransAlta                                                              |
| CE Generation LLC               |       | 50%                     |       | Geothermal and gas plants in the United States,  operated by CE Gen affiliates                                   |
| Genesee 3                       |       | 50%                     |       | Coal-fired plant in Alberta, operated by EPCOR  Utilities Inc.                                                   |
| Wailuku                         |       | 50%                     |       | A run-of-river generation facility in Hawaii,  operated by MidAmerican                                           |
| Keephills 3                     |       | 50%                     |       | Coal-fired plant under construction in Alberta. The plant  is being developed jointly  with EPCOR Utilities Inc. |

 

 

TRANSALTA CORPORATION   AnnualReport 2007

 

108

 

Summarized information on the resultsof operations, financial position and cash flows relating to the Corporation’spro-rata interests in its jointly controlled corporations was as follows:

 
| ** **                                                               | ** ** | **2007**    | ** **  | **2006**   | ** ** | **2005** | ** ** |
|--------------------------------------------------------------------------|------------|-------------|-------------|------------|------------|----------|------------|
| **Results of operations**                                                |       |        | ** **  |       |       |     |       |
| Revenues                                                                 | ** ** | **$**       | **609.0**   | ** ** | $          | 611.0    |       | $ | 619.9 |   |
| Expenses                                                                 | ** ** | **(454.3**  | **)**       | (457.2     | )          | (481.1   | )          |
| Non-controlling  interests                                               | ** ** | **(43.7**   | **)**       | (41.9      | )          | (43.7    | )          |
| Proportionate share of net earnings                                      | ** ** | **$**       | **111.0**   | ** ** | $          | 111.9    |       | $ | 95.1 |   |
| **Cash flows**                                                           |       |        | ** **  |       |       |     |       |
| Cash flow  from operations                                               | ** ** | **$**       | **111.7**   | ** ** | $          | 115.1    |       | $ | 111.5 |   |
| Cash flow  used in investing activities                                  | ** ** | **(146.7**  | **)**       | (44.4      | )          | (10.3    | )          |
| Cash flow  used in financing activities                                  | ** ** | **(92.9**   | **)**       | (51.8      | )          | (76.3    | )          |
| Non-controlling  interests                                               |       |        | ** **  |       |       |     |       |
| Proportionate  share of (decrease)/increase in cash and cash equivalents | ** ** | **$**       | **(127.9**  | **)**      | $          | 18.9     |       | $ | 24.9 |   |
| **Financial position**                                                   |       |        | ** **  |       |       |     |       |
| Current  assets                                                          | ** ** | **$**       | **91.1**    | ** ** | $          | 147.3    |       | $ | 162.5 |   |
| Long-term  assets                                                        | ** ** | **1,924.2** | ** **  | 1,849.7    |       | 1,930.7  |       |
| Current  liabilities                                                     | ** ** | **(144.2**  | **)**       | (117.2     | )          | (118.0   | )          |
| Long-term  liabilities                                                   | ** ** | **(389.8**  | **)**       | (503.2     | )          | (552.7   | )          |
| Non-controlling  interests                                               | ** ** | **(373.0**  | **)**       | (393.9     | )          | (413.8   | )          |
| Proportionate  share of net assets                                       | ** ** | **$**       | **1,108.3** | ** ** | $          | 982.7    |       | $ | 1,008.7 |   |

 

**35. SubsequentEvents**

** **

**Mexico Business**

 

On Feb. 20, 2008, TransAlta announced the sale of theMexican operations to InterGen for U.S.$303.5 million. The transaction issubject to regulatory approvals in Mexico and is expected to close by the endof the second quarter of 2008. TransAlta will record a charge to the firstquarter earnings of approximately $55 – $65 million to reflect the differencebetween the book value and sale price of these assets.

 

**Blue Trail**

 

On Feb. 13, 2008 TransAlta announced plans to design,build, and operate Blue Trail, a 66 MW wind power project in southern Alberta.The capital cost of the project is estimated at $115 million. Commercialoperations are expected to commence in the fourth quarter of 2009.

 

**Dividend**

 

On Jan. 31, 2008, TransAlta’s Board of Directorsapproved an increase to the annual dividend to common shareholders to $1.08from $1.00 per share.TransAlta’s  Boardalso declared a quarterly dividend of $0.27 per share on common shares payableApril 1, 2008 to shareholders of record at the close  of business March 1, 2008.

 

**Greenhouse GasEmissions**

 

On Jan. 24, 2008 the Government of Alberta announced itsintention to cut greenhouse gas emissions to 14 per cent below 2005 levels by2050 through developing and implementing carbon capture and storagetechnologies, developing conservation and energy efficiency programs, andthrough increased investment in clean energy technologies. The first stage ofthis program is to create focus groups or task forces for each of these threeareas and develop action plans. The Corporation is assessing the impact of thisproposal upon TransAlta’s operations and TransAlta’s own investment inenvironmental technologies and programs. The PPAs for TransAlta’s Alberta-basedcoal facilities contain change-in-law provisions that allow the Corporation torecover compliance costs from the PPA customers.

 

**36. ComparativeFigures**

 

Certain of the comparative figures have been reclassified toconform with the current year’s presentation. Such reclassification did notimpact previously reported net income or retained earnings.

 

 
| NOTES TO CONSOLIDATED FINANCIAL  STATEMENTS

**109** |
|------------------------------------------------------|

 

 

Eleven–Year Financial and Statistical Summary

 

*(in millions of Canadian dollars, exceptwhere noted)*

 
| **Year ended Dec. 31**                                                                                                                                                                                                                                          | ** **                                                                                                                                           | 2007                                                                                                                                                                                   | ** **  | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------------------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-------------|----------|------------|----------|------------|----------|------------|
| **Financial  Summary**                                                                                                                                                                                                                                                         |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| **EARNINGS STATEMENT**                                                                                                                                                                                                                                                         |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Revenues                                                                                                                                                                                                                                                                       | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **2,774.7** |     | $          | 2,677.6  |       | $        | 2,664.4    |   | $ | 2,838.3 |   |
| Operating  income                                                                                                                                                                                                                                                              | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **541.1**   |     | $          | 156.6    |       | $        | 420.6      |   | $ | 478.1 |   |
| Net  earnings applicable to common shareholders                                                                                                                                                                                                                                | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **308.8**   |     | $          | 44.9     |       | $        | 198.8      |   | $ | 170.2 |   |
| **BALANCE SHEET**                                                                                                                                                                                                                                                              |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Total  assets                                                                                                                                                                                                                                                                  | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **7,178.7** |     | $          | 7,460.1  |       | $        | 7,740.7    |   | $ | 8,133.0 |   |
| Short-term  debt, net of cash                                                                                                                                                                                                                                                  |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| and  interest-earning investments                                                                                                                                                                                                                                              | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **599.9**   |     | $          | 296.3    |       | $        | (66.2      | ) | $ | (102.7 | ) |
| Long-term  debt                                                                                                                                                                                                                                                                | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **1,859.3** |     | $          | 2,220.8  |       | $        | 2,605.0    |   | $ | 3,057.9 |   |
| Preferred  shares of a subsidiary                                                                                                                                                                                                                                              | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **–**  |     | $          | –   |       | $        | –     |   | $ | – |   |
| Other  non-controlling interests                                                                                                                                                                                                                                               | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **496.4**   |     | $          | 535.0    |       | $        | 558.6      |   | $ | 616.4 |   |
| Preferred  securities                                                                                                                                                                                                                                                          | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **–**  |     | $          | 175.0    |       | $        | 175.0      |   | $ | 175.0 |   |
| Common  shareholders’ equity                                                                                                                                                                                                                                              |                                                                                                                                                 | **$**                                                                                                                                                                                  | 2,298.5     |     | **$**      | 2,427.9  |       | $        | 2,543.1    |   | $ | 2,472.7 |   |
| Total  invested capital                                                                                                                                                                                                                                                        | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **5,254.1** |     | $          | 5,655.0  |       | $        | 5,756.3    |   | $ | 6,061.4 |   |
| **CASH FLOW**                                                                                                                                                                                                                                                                  |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Cash flow  from operating activities                                                                                                                                                                                                                                           | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **847.2**   |     | $          | 489.6    |       | $        | 619.4      |   | $ | 613.4 |   |
| Cash flow  used in investing activities                                                                                                                                                                                                                                        | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **410.1**   |     | $          | 261.3    |       | $        | (242.1     | ) | $ | (65.4 | ) |
| Common  share information (per share)                                                                                                                                                                                                                                          |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Net  earnings                                                                                                                                                                                                                                                                  | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **1.53**    |     | $          | 0.22     |       | $        | 1.01       |   | $ | 0.88 |   |
| Dividends  declared                                                                                                                                                                                                                                                            | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **1.00**    |     | $          | 1.00     |       | $        | 1.00       |   | $ | 1.00 |   |
| Book value  (at year-end)                                                                                                                                                                                                                                                      | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **11.39**   |     | $          | 11.99    |       | $        | 12.80      |   | $ | 12.74 |   |
| Market  price:                                                                                                                                                                                                                                                                 |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| High                                                                                                                                                                                                                                                                           | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **34.00**   |     | $          | 26.91    |       | $        | 26.66      |   | $ | 18.75 |   |
| Low                                                                                                                                                                                                                                                                            | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **23.76**   |     | $          | 20.22    |       | $        | 17.67      |   | $ | 15.25 |   |
| Close (TSX  at Dec. 31)                                                                                                                                                                                                                                                   | ** **                                                                                                                                           | **$**                                                                                                                                                                                  | **33.35**   |     | $          | 26.64    |       | $        | 25.41      |   | $ | 18.05 |   |
| **RATIOS**(percentage except where noted)                                                                                                                                                                                                                                      |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Debt/invested  capital                                                                                                                                                                                                                                                         | ** **                                                                                                                                           | **46.8**                                                                                                                                                                               |        | 44.5     |       | 43.9     |       | 47.4     |       |
| Return on common  shareholders’ equity                                                                                                                                                                                                                                    |                                                                                                                                                 | **13.1**                                                                                                                                                                               |        | 1.8      |       | 7.0      |       | 6.5      |       |
| Return on  invested capital                                                                                                                                                                                                                                                    | ** **                                                                                                                                           | **9.8**                                                                                                                                                                                |        | 2.4      |       | 7.1      |       | 7.5      |       |
| Cash flow  to total debt                                                                                                                                                                                                                                                       | ** **                                                                                                                                           | **30.7**                                                                                                                                                                               |        | 26.2     |       | 23.0     |       | 18.5     |       |
| Cash flow  to interest coverage (times)                                                                                                                                                                                                                                        | ** **                                                                                                                                           | **6.6**                                                                                                                                                                                |        | 5.5      |       | 4.7      |       | 4.1      |       |
| Dividend  payout                                                                                                                                                                                                                                                               | ** **                                                                                                                                           | **65.6**                                                                                                                                                                               |        | 447.7    |       | 113.0    |       | 120.0    |       |
| Dividend  yield                                                                                                                                                                                                                                                                | ** **                                                                                                                                           | **3.0**                                                                                                                                                                                |        | 3.8      |       | 3.9      |       | 5.5      |       |
| Price/earnings  multiple                                                                                                                                                                                                                                                       | ** **                                                                                                                                           | **21.8**                                                                                                                                                                               |        | 121.1    |       | 26.7     |       | 21.7     |       |
| Weighted  average common shares for the year (in millions)                                                                                                                                                                                                                     | ** **                                                                                                                                           | **202.5**                                                                                                                                                                              |        | 200.8    |       | 196.8    |       | 192.7    |       |
| Common  shares outstanding at Dec. 31 (in millions)                                                                                                                                                                                                                       | ** **                                                                                                                                           | **200.9**                                                                                                                                                                              |        | 202.4    |       | 198.7    |       | 194.1    |       |
| **Statistical  Summary**                                                                                                                                                                                                                                                       |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Number of  employees                                                                                                                                                                                                                                                           | ** **                                                                                                                                           | **2,201**                                                                                                                                                                              |        | 2,687    |       | 2,657    |       | 2,505    |       |
| **GENERATING CAPACITY**(net MW) 3                                                                                                                                                                                                                                              |                                                                                                                                                 |                                                                                                                                                                                   |        |     |       |     |       |     |       |
| Hydro                                                                                                                                                                                                                                                                          | ** **                                                                                                                                           | **807**                                                                                                                                                                                |        | 807      |       | 802      |       | 802      |       |
| Coal                                                                                                                                                                                                                                                                           | ** **                                                                                                                                           | **4,942**                                                                                                                                                                              |        | 4,887    |       | 4,885    |       | 4,778    |       |
| Gas                                                                                                                                                                                                                                                                            | ** **                                                                                                                                           | **1,950**                                                                                                                                                                              |        | 1,953    |       | 1,933    |       | 2,444    |       |
| Renewables                                                                                                                                                                                                                                                                     | ** **                                                                                                                                           | **315**                                                                                                                                                                                |        | 315      |       | 315      |       | 313      |       |
| Total  generating capacity                                                                                                                                                                                                                                                     | ** **                                                                                                                                           | **8,024**                                                                                                                                                                              |        | 7,962    |       | 7,935    |       | 8,337    |       |
| Total  generation production (GWh) 4                                                                                                                                                                                                                                           | ** **                                                                                                                                           | **50,395**                                                                                                                                                                             |        | 48,213   |       | 51,810   |       | 54,560   |       |
| **Prior years have  not been restated to conform with the current year’s presentation.**                                                                                                                                                                                  | ** **                                                                                                                                           | **Ratio Formulas**                                                                                                                                                                     |
| *1*  *2002 and 2001 Energy Marketing real-time trading  contract revenues restated to be presented on a gross basis.*

*2*  *Includes  discontinued operations.*

*3*  *Represents TransAlta’s ownership.*

*4*  *Includes  discontinued operations.* | ** **                                                                                                                                           | *Debt/invested capital =  (short-term debt + long-term debt – cash and interest-earning  investments)/(debt + preferred securities + non-controlling interests +  common equity)* |
| ** **                                                                                                                                                                                                                                                                     | *Return on common shareholders’  equity = net earnings excluding gain on discontinued operations/average of  opening and closing common equity* |

 

 
| TRANSALTA CORPORATION   Annual Report 2007

 

110 |
|------------------------------------------------------------------------|

 

 
| ** ** | ** ** | **2003**                                                                                                                                                                                                                                                                    | ** ** | **2002**                                                                                                                                                                               | ** ** | **2001**   | ** ** | **2000**   | ** ** | **1999**   | ** ** | **1998**   | ** ** | **1997**   | ** ** |
|------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| ** ** | ** ** | ** **                                                                                                                                                                                                                                                                  | ** ** | ** **                                                                                                                                                                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|       |       | $                                                                                                                                                                                                                                                                           | 2,508.6    |                                                                                                                                                                                   | $          | 1,814.9    |  1    | $          | 2,559.5    |  1    | $          | 1,587.0    |       | $          | 1,029.4    |   | $ | 1,089.9 |   | $ | 1,656.4 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 553.7      |                                                                                                                                                                                   | $          | 223.9      |  2    | $          | 468.9      |  2    | $          | 604.6      |  2    | $          | 442.0      |  2 | $ | 660.1 |  2 | $ | 586.6 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 234.2      |                                                                                                                                                                                   | $          | 189.9      |       | $          | 214.6      |       | $          | 279.8      |       | $          | 170.1      |   | $ | 211.4 |   | $ | 182.6 |   |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | $                                                                                                                                                                                                                                                                           | 8,420.2    |                                                                                                                                                                                   | $          | 7,419.6    |       | $          | 7,877.9    |       | $          | 7,627.1    |       | $          | 6,038.4    |   | $ | 5,392.6 |   | $ | 4,882.2 |   |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | $                                                                                                                                                                                                                                                                           | (35.2      | )                                                                                                                                                                                      | $          | 146.7      |       | $          | 475.2      |       | $          | 220.5      |       | $          | (173.6     | ) | $ | (149.4 | ) | $ | (20.3 | ) |
|       |       | $                                                                                                                                                                                                                                                                           | 3,162.1    |                                                                                                                                                                                   | $          | 2,706.6    |       | $          | 2,511.1    |       | $          | 2,201.4    |       | $          | 2,177.4    |   | $ | 1,903.6 |   | $ | 2,198.0 |   |
|       |       | $                                                                                                                                                                                                                                                                           | –     |                                                                                                                                                                                   | $          | –     |       | $          | –     |       | $          | 121.6      |       | $          | 268.3      |   | $ | 268.4 |   | $ | 267.6 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 477.9      |                                                                                                                                                                                   | $          | 263.0      |       | $          | 281.0      |       | $          | 253.4      |       | $          | 377.4      |   | $ | 503.3 |   | $ | 162.9 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 450.8      |                                                                                                                                                                                   | $          | 451.7      |       | $          | 452.6      |       | $          | 292.0      |       | $          | 287.1      |   | $ | – |   | $ | – |   |
|       |       | $                                                                                                                                                                                                                                                                           | 2,460.6    |                                                                                                                                                                                   | $          | 2,039.6    |       | $          | 1,989.7    |       | $          | 1,957.4    |       | $          | 1,835.6    |   | $ | 1,855.0 |   | $ | 1,594.3 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 6,516.2    |                                                                                                                                                                                   | $          | 5,607.6    |       | $          | 5,709.6    |       | $          | 5,046.3    |       | $          | 4,772.2    |   | $ | 4,380.9 |   | $ | 4,202.5 |   |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | $                                                                                                                                                                                                                                                                           | 756.5      |                                                                                                                                                                                   | $          | 437.7      |       | $          | 715.6      |       | $          | 188.7      |       | $          | 422.0      |   | $ | 470.7 |   | $ | 666.4 |   |
|       |       | $                                                                                                                                                                                                                                                                           | (535.1     | )                                                                                                                                                                                      | $          | (36.2      | )          | $          | (1,076.9   | )          | $          | (205.0     | )          | $          | (988.8     | ) | $ | (137.2 | ) | $ | (319.7 | ) |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | $                                                                                                                                                                                                                                                                           | 1.26       |                                                                                                                                                                                   | $          | 1.12       |       | $          | 1.27       |       | $          | 1.66       |       | $          | 1.00       |   | $ | 1.31 |   | $ | 1.14 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 1.00       |                                                                                                                                                                                   | $          | 1.00       |       | $          | 1.00       |       | $          | 1.00       |       | $          | 1.00       |   | $ | 0.99 |   | $ | 0.98 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 12.90      |                                                                                                                                                                                   | $          | 12.01      |       | $          | 11.82      |       | $          | 11.61      |       | $          | 10.85      |   | $ | 10.94 |   | $ | 9.96 |   |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | $                                                                                                                                                                                                                                                                           | 19.55      |                                                                                                                                                                                   | $          | 23.95      |       | $          | 30.13      |       | $          | 22.55      |       | $          | 25.15      |   | $ | 25.40 |   | $ | 22.75 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 15.36      |                                                                                                                                                                                   | $          | 16.69      |       | $          | 19.15      |       | $          | 13.20      |       | $          | 12.25      |   | $ | 18.20 |   | $ | 15.10 |   |
|       |       | $                                                                                                                                                                                                                                                                           | 18.53      |                                                                                                                                                                                   | $          | 17.11      |       | $          | 21.60      |       | $          | 22.00      |       | $          | 14.15      |   | $ | 22.60 |   | $ | 22.55 |   |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | 47.9                                                                                                                                                                                                                                                                        |       | 50.9                                                                                                                                                                                   |       | 52.3       |       | 48.0       |       | 45.6       |       | 40.0       |       | 51.8       |       |
|       |       | 10.3                                                                                                                                                                                                                                                                        |       | 3.5                                                                                                                                                                                    |       | 10.9       |       | 11.7       |       | 9.2        |       | 12.3       |       | 11.5       |       |
|       |       | 9.1                                                                                                                                                                                                                                                                         |       | 4.0                                                                                                                                                                                    |       | 8.7        |       | 12.3       |       | 9.7        |       | 15.4       |       | 13.7       |       |
|       |       | 17.9                                                                                                                                                                                                                                                                        |       | 16.1                                                                                                                                                                                   |       | 21.8       |       | 25.3       |       | 21.7       |       | 22.8       |       | 22.0       |       |
|       |       | 3.3                                                                                                                                                                                                                                                                         |       | 3.8                                                                                                                                                                                    |       | –     |       | –     |       | –     |       | –     |       | –     |       |
|       |       | 79.0                                                                                                                                                                                                                                                                        |       | 241.8                                                                                                                                                                                  |       | 78.5       |       | 75.8       |       | 99.7       |       | 75.8       |       | 85.7       |       |
|       |       | 5.4                                                                                                                                                                                                                                                                         |       | 5.8                                                                                                                                                                                    |       | 4.6        |       | 4.6        |       | 7.1        |       | 4.4        |       | 4.4        |       |
|       |       | 14.7                                                                                                                                                                                                                                                                        |       | 41.7                                                                                                                                                                                   |       | 17.3       |       | 16.7       |       | 14.2       |       | 17.3       |       | 19.8       |       |
|       |       | 185.3                                                                                                                                                                                                                                                                       |       | 169.6                                                                                                                                                                                  |       | 169.0      |       | 168.8      |       | 169.5      |       | 161.3      |       | 159.7      |       |
|       |       | 190.7                                                                                                                                                                                                                                                                       |       | 169.8                                                                                                                                                                                  |       | 168.3      |       | 168.6      |       | 169.2      |       | 169.6      |       | 160.0      |       |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | 2,563                                                                                                                                                                                                                                                                       |       | 2,573                                                                                                                                                                                  |       | 2,656      |       | 2,363      |       | 2,679      |       | 2,455      |       | 2,667      |       |
|       |       |                                                                                                                                                                                                                                                                        |       |                                                                                                                                                                                   |       |       |       |       |       |       |       |       |       |       |       |
|       |       | 801                                                                                                                                                                                                                                                                         |       | 801                                                                                                                                                                                    |       | 800        |       | 800        |       | 800        |       | 800        |       | 800        |       |
|       |       | 4,777                                                                                                                                                                                                                                                                       |       | 4,966                                                                                                                                                                                  |       | 5,090      |       | 5,016      |       | 3,676      |       | 3,676      |       | 3,676      |       |
|       |       | 2,499                                                                                                                                                                                                                                                                       |       | 1,333                                                                                                                                                                                  |       | 1,108      |       | 1,054      |       | 1,464      |       | 1,008      |       | 832        |       |
|       |       | 245                                                                                                                                                                                                                                                                         |       | 44                                                                                                                                                                                     |       | –     |       | –     |       | –     |       | –     |       | –     |       |
|       |       | 8,322                                                                                                                                                                                                                                                                       |       | 7,144                                                                                                                                                                                  |       | 6,998      |       | 6,870      |       | 5,940      |       | 5,484      |       | 5,308      |       |
|       |       | 53,134                                                                                                                                                                                                                                                                      |       | 46,877                                                                                                                                                                                 |       | 44,136     |       | 40,644     |       | 37,771     |       | 39,001     |       | 36,401     |       |
|       |       | *Return on invested capital =  earnings before non-controlling interests, income taxes and net interest  expense/average annual invested capital*

*Cash flow to total debt = cash  flow from operations before changes in working capital/two-year average of  total debt* |       | *Dividend yield = common share dividends/current  year’s close price*

*Price/earnings multiple = current year’s  close/basic earnings per share from continuing operations* |
|       |       | *Dividend payout = dividends/net  earnings excluding gain on discontinued operations*                                                                                                                                                                                       |       |                                                                                                                                                                                   |
|            |            |                                                                                                                                                                                                                                                                             |            |                                                                                                                                                                                        |            |            |            |            |            |            |            |            |            |            |            |  |  |  |  |  |  |  |  |  |  |

 

 
| ELEVEN-YEAR FINANCIAL AND STATISTICAL SUMMARY

** **

**111** |
|--------------------------------------------------------------------|

 

 

ShareholderInformation

 
| **Annual  Meeting**

The Annual meeting will be held at  5:00 p.m. MST on Tuesday, April 22, 2008 at  The Westin Edmonton, 10135 100th Street,  Edmonton, Alberta.

** **

** **

**Transfer  Agent**

CIBC Mellon Trust Company   P.O. Box 7010   Adelaide Street Station   Toronto, Ontario M5C 2W9

** **

**Phone**

North America:  1.800.387.0825 toll-free   Toronto/outside North America: 416.643.5500

** **

**E-mail**

inquiries@cibcmellon.com

**Fax**

416.643.5501

**Website**

www.cibcmellon.com

 

 

**Exchanges**

Toronto Stock Exchange (TSX)  New York Stock Exchange (NYSE)

 

 

**Ticker  Symbols**

TransAlta Corporation common shares:

TSX: TA    NYSE: TAC

** **

**Voting  Rights**

Common shareholders receive one vote  for each common share held

** **

** **

**Additional  Information**

Requests can be directed to:  Investor Relations   TransAlta Corporation   P.O. Box 1900, Station “M”   110 - 12th Avenue S.W.   Calgary, Alberta T2P 2M1  

**Phone**North America:   1.800.387.3598 toll-free   Calgary/outside North America:   403.267.2520

**E-mail**

investor_relations@transalta.com

**Fax**403.267.2590**Website**www.transalta.com | **Special  Services for Registered Shareholders**                                                  |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------------------|
| **Service**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | **Description**                                                                                    |
| Dividend reinvestment and share purchase plan*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | Conveniently reinvest your TransAlta dividends and  purchase common shares without brokerage costs |
| Direct deposit for dividend payments                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Automatically have dividend payments deposited to  your bank account                               |
| Account consolidations                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          | Eliminate costly duplicate mailings by consolidating  account registrations                        |
| Address changes and share transfers                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Receive tax slips and dividends without the delays  resulting from address and ownership changes   |
| *To use these services please  contact our transfer agent.  * Also available to non-registered shareholders.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| **Stock  Splits and Share Consolidations**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                               |
| ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                               |
| **Date**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | ** **                                                                                         | **Events** | **Ratio** |
| May 8, 1980                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                               | Stock split | 3:1 |
| Feb. 1, 1988                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                                                                                               | Stock split 1 | 2:1 |
| Dec. 31, 1992                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                               | Reorganization – TransAlta Utilities shares  exchanged for TransAlta Corporation shares 2 | 1:1 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |                                                                                               |   |   |
| *The valuation date value of common  shares owned on Dec. 31, 1971,  adjusted for stock splits, is $4.54 per share.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| *1   The adjusted cost base for shares held on Jan. 31, 1988 was  reduced by   $0.75 per share following the Feb. 1, 1988 share split.*

*2** TransAlta  Utilities Corporation became a wholly owned subsidiary of   TransAlta Corporation as a result of this reorganization.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| * *                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |                                                                                               |
| **Dividend  Declaration**

Dividends are paid quarterly as determined by the  Board. In determining the dividend, the Board reviews the Company’s financial  performance and balances financial liquidity requirements, capital  investment, and returning capital to shareholders. The Board continues to  focus on building sustainable earnings and dividend growth.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| **Important  Dividend Dates**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                               |
| **Payment Date**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | **Record Date**                                                                                    | **Ex-Dividend Date** | **Dividend** |
| April 1, 2007                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              | March 1, 2007                                                                                 | Feb. 27, 2006 | .25 |
| July 1, 2007                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               | June 1, 2007                                                                                  | May 30, 2006 | .25 |
| Oct. 1, 2007                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               | Sept. 1, 2007                                                                                      | Aug. 30, 2006 | .25 |
| Jan. 1, 2008                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               | Dec. 1, 2007                                                                                  | Nov. 29, 2006 | .25 |
| April 1, 2008                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              | March 1, 2008                                                                                 | Feb. 27, 2007 | .27 |
| *Dividends are paid on the first of the month in  January, April, July and October. When a dividend payment date falls on  a weekend or holiday, the payment is made on the following business day. Only  dividend payments that have been approved by the Board of Directors are  included in this table.*                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **Submission  of Concerns Regarding Accounting or Auditing Matters**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| TransAlta has adopted a procedure for employees,  shareholders or others to report concerns or complaints regarding accounting  or auditing matters on an anonymous, confidential basis to the Audit and Risk  Committee of the Board of Directors. Such submissions may be directed to the  Audit and Risk Committee c/o the Corporate Secretary of the Corporation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                    |  |  |  |  |  |  |  |

 

 
| TRANSALTA CORPORATION   Annual Report 2007

 

112 |
|------------------------------------------------------------------------|

 

 

ShareholderHighlights

 
|   | **Total Shareholder Return vs.**

**S&P/TSX Composite Total Return Index**

**Years Ended  Dec 31 ($)** |   | **Ten-Year Trading Range and**

**Market Value vs. Book Value**

**($ per  share)** |   |
|--------|-------------------------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------|--------|
|   |                                                                                                             |   |                                                                                          |   |
|   | **Monthly Volume  and Market Price****(2007)**                                                              |   | **Return on Common  Shareholders’ Equity****(%)**                                   |   |
|   |                                                                                                             |   |                                                                                          |   |

 

 
| **SHAREHOLDER HIGHLIGHTS**

** **

**113** |
|-------------------------------------------------|

 

 

CorporateInformation

 
| **TransAlta  Corporate**                     | **TransAlta**                           | **TransAlta**                                         |
|----------------------------------------------|-----------------------------------------|-------------------------------------------------------|
| **Officers**                                 | **Senior Management**                   | **Subsidiaries**                                      |
| **Stephen G. Snyder**                        | **Mike Bartel**                         | **Colin J. Mills**                                    |
| President &                         | Vice-President, Engineering Services    | Country Manager, TransAlta Mexico                     |
| Chief Executive Officer                      |                                    | S.A. de C.V.                                          |
|                                         | **Dawn de Lima**                        |                                                  |
| **Brian Burden**                             | Vice-President, Corporate               | **Doug Jackson**                                      |
| Executive Vice-President                     | Human Resources                         | President, TransAlta Centralia                        |
| & Chief Financial Officer                |                                    | Generation LLC & Mining LLC                  |
|                                         | **Darcy Fedorchuk**                     |                                                  |
| **William D.A. Bridge**                      | Vice-President, Procurement             | **Aron Willis**                                       |
| Executive Vice-President,                    | & Material Management               | Country Manager,                                      |
| Generation Technology &             |                                    | TransAlta Energy (Australia) Pty Ltd.                 |
| Procurement & Material Management   | **Stephen W. Foster**                   | **Corporate  Governance**                             |
|                                         | Vice-President, Generation              |
| **Dawn Farrell**                             | Human Resources                         |
| Executive Vice-President,                    |                                    | TransAlta’s Corporate Governance Guidelines,     |
| Commercial Operations & Development | **Derek Goodmanson**                    | Board Charter, Committee charters, position           |
|                                         | Vice-President, Major Maintenance       | descriptions for the Chair, Committee Chair,          |
| **Richard P. Langhammer**                    | ** **                              | President & CEO and codes of business        |
| Executive Vice-President, Generation         | **Kelly L. Gunsch**                     | conduct and ethics are available on our website       |
| Operations                                   | Vice-President, Commercial Operations   | at www.transalta.com. Also available on our           |
|                                         |                                    | website is a summary of the significant ways in       |
| **Ken Stickland**                            | **David J. Koch**                       | which TransAlta’s corporate governance practices |
| Executive Vice-President,                    | Vice-President, Financial Operations    | differ from those required to be followed             |
| Legal, Sustainable Development               |                                    | by U.S. domestic companies under the                  |
| & Environment, Health & Safety  | **Mark B. Mackay**                      | New York Stock Exchange’s listing standards.     |
|                                         | Vice-President, Energy Technology       |                                                  |
| **Michael Williams**                         | ** **                              | **Ethics Help-Line**                                  |
| Executive Vice-President,                    | **Alex R. McFadden**                    |
| Human Resources, Information                 | Vice-President, Environment,            | The Audit and Risk Committee of the Board of          |
| Technology & Communications         | Health & Safety                | Directors has established an anonymous and            |
|                                         |                                    | confidential toll-free telephone number for           |
| **Jeff A. Curran**                           | **Parviz Mohamed**                      | employees, contractors and others to call with        |
| Vice-President & Comptroller        | Vice-President, Information Technology  | respect to accounting irregularities and ethical      |
|                                         |                                    | violations. The Ethics Help-Line number is            |
| **Frank Hawkins**                            | **Gregory P. Reinhart**                 | 1-888-806-6646.                                       |
| Vice-President & Treasurer          | Vice-President, Commercial Operations   |                                                  |
|                                         | & Development Human Resources       |                                                  |
| **Maryse St.-Laurent**                       |                                    |                                                  |
| Corporate Secretary                          | **Martin Ridge**                        |                                                  |
|                                         | Vice-President, Internal Audit          |                                                  |
|                                         |                                    |                                                  |
|                                         | **Don Wharton**                         |                                                  |
|                                         | Vice-President, Sustainable Development |                                                  |

 
| In an effort to be environmentally responsible, please  notify your financial institution to avoid duplicate mailings of this annual  report.

**Design**Karo Group   **Photography**Jason Stang   **Production**DaSilva Graphics   **Printing**grafikom.MIL

* The TransAlta design and TransAlta wordmark are  trademarks of TransAlta Corporation.

This report was printed in Canada by grafikom.MIL on  FSC Certified paper. The paper, paper mills and printer are all Forest Stewardship  Council certified, which is an international network that promotes  environmentally appropriate and socially beneficial management of the world’s  forests. The report was produced in a printing facility that results in  nearly zero volatile organic compound (VOC) emissions. |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |

 

 
| TRANSALTA CORPORATION   Annual Report 2007******114** |
|----------------------------------------------------------------------|

 

 

Glossary

 
| **Air Emissions**  Substances  released to the        | ** ** | **Derate**  To  lower the rated electrical capability          | ** ** | **Net Maximum Capacity**  The  maximum                 |
|------------------------------------------------------------|------------|---------------------------------------------------------------------|------------|-------------------------------------------------------------|
| **atmosphere through industrial operations. For**          | ** ** | **of a power generating facility or unit.**                         | ** ** | **capacity or effective rating, modified**                  |
| **the fossil-fuel-fired power sector, the most com-**      | ** ** | ** **                                                          | ** ** | **for ambient limitations, that a generating unit or**      |
| **mon air emissions are sulphur dioxide, oxides of**       | ** ** | **Expected Capability**  Plant  capacity after                 | ** ** | **power plant can sustain over a specific period,**         |
| **nitrogen, mercury and greenhouse gases.**                | ** ** | **consideration of station service use, planned**                   | ** ** | **less the capacity used to supply the demand**             |
| ** **                                                 | ** ** | **outages, forced and maintenance outages,**                        | ** ** | **of station service or auxiliary needs.**                  |
| **Alberta Power  Purchase Arrangement (PPA)**              | ** ** | **and derates.**                                                    | ** ** | ** **                                                  |
| **A long-term arrangement established by regula-**         | ** ** | ** **                                                          | ** ** | **Peaker Plant**  A  plant usually housing low-        |
| **tion for the sale of electric energy from formerly**     | ** ** | **Flue Gas  Desulfurization Unit (Scrubber)**                       | ** ** | **efficiency steam units, gas turbines, diesels**           |
| **regulated generating units to PPA buyers.**              | ** ** | **Equipment used to remove sulfur oxides from**                     | ** ** | **or pumped-storage hydroelectric equipment**               |
| ** **                                                 | ** ** | **the combustion gases of a boiler plant before**                   | ** ** | **normally used during peakload periods.**                  |
| **Availability**  A  measure of time, expressed as a  | ** ** | **discharge to the atmosphere. Chemicals, such**                    | ** ** | ** **                                                  |
| **percentage of continuous operation 24 hours a**          | ** ** | **as lime, are used as the scrubbing media.**                       | ** ** | **Renewable Power**  Power  generated from             |
| **day, 365 days a year that a generating unit is**         | ** ** | ** **                                                          | ** ** | **renewable terrestrial mechanisms including**              |
| **capable of generating electricity, regardless of**       | ** ** | **Force Majeure**  Literally  means “greater force”. | ** ** | **wind, geothermal, solar and biomass with**                |
| **whether or not it is actually generating  electricity.** | ** ** | **These clauses excuse a party from liability if**                  | ** ** | **regeneration.**                                           |
| ** **                                                 | ** ** | **some unforeseen event beyond the control**                        | ** ** | ** **                                                  |
| **Boiler**  A  device for generating steam for        | ** ** | **of that party prevents it from performing its**                   | ** ** | **Reserve Margin**  An  indication of a market’s  |
| **power, processing or heating purposes or**               | ** ** | **obligations under the contract.**                                 | ** ** | **capacity to meet unusual demand or deal with**            |
| **for producing hot water for heating purposes**           | ** ** | ** **                                                          | ** ** | **unforeseen outages/shutdowns of generating**              |
| **or hot water supply. Heat from an external**             | ** ** | **Geothermal Plant**  A  plant in which the prime              | ** ** | **capacity.**                                               |
| **combustion source is transmitted to a fluid**            | ** ** | **mover is a steam turbine. The turbine is driven**                 | ** ** | ** **                                                  |
| **contained within the tubes of the boiler shell.**        | ** ** | **either by steam produced from hot water or**                      | ** ** | **Run Rate**  The  result of extrapolating financial   |
| ** **                                                 | ** ** | **by natural steam that derives its energy from**                   | ** ** | **data collected from a period of time less than**          |
| **Brownfield Asset**  A  previously constructed       | ** ** | **heat found in rocks or fluids at various depths**                 | ** ** | **one year to a full year.**                                |
| **electric power generating facility.**                    | ** ** | **beneath the surface of the earth. The energy is**                 | ** ** | ** **                                                  |
| ** **                                                 | ** ** | **extracted by drilling and/or pumping.**                           | ** ** | **Spark Spread**  A  measure of gross margin           |
| **BTU (British Thermal  Unit)**  A measure of         | ** ** | ** **                                                          | ** ** | **per MW (sales price less cost of natural gas).**          |
| **energy. The amount of energy required to raise**         | ** ** | **Gigajoule (GJ)**  A  metric unit of energy com-              | ** ** | ** **                                                  |
| **the temperature of one pound of water one**              | ** ** | **monly used in the energy industry. One GJ**                       | ** ** | **Supercritical  Technology**  The most                |
| **degree Fahrenheit, when the water is near**              | ** ** | **equals 947,817 BTU.**                                             | ** ** | **advanced coal-combustion technology in**                  |
| **39.2 degrees Fahrenheit.**                               | ** ** | ** **                                                          | ** ** | **Canada employing a supercritical boiler, high**           |
| ** **                                                 | ** ** | **Gigawatt (GW)**  A  measure of electric power                | ** ** | **efficiency multi-stage turbine, flue gas**                |
| **Capacity**  The  rated continuous load-carrying     | ** ** | **equal to 1,000 megawatts.**                                       | ** ** | **desulfurization unit (scrubber), bag house and**          |
| **ability, expressed in megawatts, of generation**         | ** ** | ** **                                                          | ** ** | **low nitrogen oxide burners.**                             |
| **equipment.**                                             | ** ** | **Gigawatt Hour (GWh)**  A  measure of electric-               | ** ** | ** **                                                  |
| ** **                                                 | ** ** | **ity consumption equivalent to the use of 1,000**                  | ** ** | **Target Zero**  TransAlta’s  initiative designed |
| **Clean Coal Technology**  New  technologies          | ** ** | **megawatts of power over a period of one hour.**                   | ** ** | **to drive health, safety, and environmental**              |
| **such as gasification using solid fuels (coal and**       | ** ** | ** **                                                          | ** ** | **performance to zero lost-time, medical aid,**             |
| **coke) to produce power and chemical products**           | ** ** | **Greenfield Asset**  A  new electric power gener-             | ** ** | **and environmental incidents.**                            |
| **with very low emissions.**                               | ** ** | **ating facility built from the ground up on a new**                | ** ** | ** **                                                  |
| ** **                                                 | ** ** | **site.**                                                           | ** ** | **Turbine**  A  machine for generating rotary          |
| **CO**2 Emissions Intensity  Amount  of carbon   | ** ** | ** **                                                          | ** ** | **mechanical power from the energy of a stream**            |
| **dioxide emitted per MWh produced.**                      | ** ** | **Greenhouse Gas (GHG)**  Gases  having poten-                 | ** ** | **of fluid (such as water, steam or hot gas).**             |
| ** **                                                 | ** ** | **tial to retain heat in the atmosphere, including**                | ** ** | **Turbines convert the kinetic energy of fluids**           |
| **Coal Gasification**  The  conversion of solid fuel  | ** ** | **water vapour, carbon dioxide, methane, nitrous**                  | ** ** | **to mechanical energy through the principles of**          |
| **to gaseous form, for subsequent conversion**             | ** ** | **oxide and hydrofluorocarbons.**                                   | ** ** | **impulse and reaction or a mixture of the two.**           |
| **into power, synthetic gas, hydrogen or a variety**       | ** ** | ** **                                                          | ** ** | ** **                                                  |
| **of other chemical products.**                            | ** ** | **Heat Rate**  A  measure of conversion, expressed             | ** ** | **Turnaround**  Periodic  planned shutdown             |
| ** **                                                 | ** ** | **as BTU/MWh, of the amount of thermal energy**                     | ** ** | **of a generating unit for major maintenance**              |
| **Cogeneration**  A  generating facility that         | ** ** | **required to generate electrical energy.**                         | ** ** | **and repairs. Duration is normally in weeks.**             |
| **produces electricity and another form of useful**        | ** ** | ** **                                                          | ** ** | **The time is measured from unit shutdown**                 |
| **thermal energy (such as heat or steam) used**            | ** ** | **Megawatt (MW)**  A  measure of electric power                | ** ** | **to putting the unit back on line.**                       |
| **for industrial, commercial, heating or cooling**         | ** ** | **equal to 1,000,000 watts.**                                       | ** ** | ** **                                                  |
| **purposes.**                                              | ** ** | ** **                                                          | ** ** | **Unplanned Outage**  The  shutdown of a gener-        |
| ** **                                                 | ** ** | **Megawatt Hour (MWh)**  A  measure of                         | ** ** | **ating unit due to an unanticipated breakdown.**           |
| **Combined Cycle**  An  electric generating tech-     | ** ** | **electricity consumption equivalent to the use**                   | ** ** | ** **                                                  |
| **nology in which electricity is produced from**           | ** ** | **of 1,000,000 watts of power over a period of**                    | ** ** | **Uprate**  To  increase the rated electrical          |
| **otherwise lost waste heat exiting from one or**          | ** ** | **one hour.**                                                       | ** ** | **capability of a power generating facility or unit.**      |
| **more gas (combustion) turbines. The exiting**            | ** ** | ** **                                                          | ** ** | ** **                                                  |
| **heat is routed to a conventional boiler or to**          | ** ** | **Merchant Asset**  TransAlta  uses the term                   | ** ** | **Value At Risk (VAR)**  A  measure to manage          |
| **a heat recovery steam generator for use by a**           | ** ** | **merchant to describe assets that have contracts**                 | ** ** | **earnings exposure from trading activities.**              |
| **steam turbine in the production of electricity.**        | ** ** | **with terms less than five years. Given our low-**                 | ** ** | ** **                                                  |
| **This process increases the efficiency of the**           | ** ** | **to moderate-risk profile, TransAlta contracts**                   | ** ** | ** **                                                  |
| **electric generating unit.**                              | ** ** | **a significant portion of its merchant capability**                | ** ** | ** **                                                  |
| ** **                                                 | ** ** | **through short- and medium-term contracts.**                       | ** ** | ** **                                                  |

 

 
| GLOSSARY

** **

**115** |
|-------------------------------|

 

 

 

Exhibit 13.4

 

TRANSALTA CORPORATION

RECONCILIATION TO UNITED STATES GAAP

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2007

 

 

INDEPENDENTAUDITORS’ REPORT ON RECONCILIATION TO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES

 

 

Tothe Board of Directors of TransAlta Corporation

 

OnFebruary 26, 2007, we reported on the consolidated balance sheets ofTransAlta Corporation as at December 31, 2007 and 2006 and theconsolidated statements of earnings and retained earnings, comprehensive income(loss) and cash flows for each of the years in the three year period ended December 31,2007 (the “Consolidated Financial Statements”) which are included in the AnnualReport on Form 40-F.

 

Inconnection with our audits conducted in accordance with Canadian generallyaccepted auditing standards and the standards of the Public Company AccountingOversight Board (United States) of the Consolidated Financial Statements, wealso have audited the related supplemental note entitled “Reconciliation toUnited States Generally Accepted Accounting Principles” included in the Form 40-F.  This supplemental note is the responsibilityof the Corporation’s management.  Ourresponsibility is to express an opinion on this supplemental note based on ouraudit.

 

Inour opinion, such supplemental note, when considered in relation to theConsolidated Financial Statements taken as a whole, presents fairly, in allmaterial respects, the information set forth therein.

 

 

Ernst &Young LLP

 

CharteredAccountants

 

 

Calgary,Canada

 

February 26,2008

 

1

 

**RECONCILIATIONTO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES**

 

Theseconsolidated financial statements have been prepared in accordance withCanadian Generally Accepted Accounting Principles (“Canadian GAAP”), which, inmost respects, conform to the United States Generally Accepted AccountingPrinciples (“U.S. GAAP”).  The materialdifferences to reconcile Canadian GAAP to U.S. GAAP are described below:

 

**A.  EARNINGS AND EARNINGS PER SHARE (EPS)**

 
|                                                                            |       | *Reconciling* |       |              |        |          |   |          |   |
|---------------------------------------------------------------------------------|------------|---------------|------------|-------------------|-------------|---------------|--------|---------------|--------|
| Year ended Dec. 31                                                         |       | *items*       |       | 2007              |        | 2006          |   | 2005          |   |
| Earnings from continuing operations - Canadian GAAP                             |       |          | ** ** | $                 |  308.8 |          | $      |  44.9    |   | $ |  174.3 |   |
| Hedging and Derivatives activities, net of tax                                  |       | *I*           |       |              |        | -   |   | 10.5          |   |
| Start-up costs, net of tax                                                      |       | *IV*          |       | (0.1              | )           | (0.1          | )      | (0.1          | )      |
| Amortization of pension transition adjustment, net of  tax                      |       | *III*         |       | (5.1              | )           | (4.4          | )      | (4.0          | )      |
| **Earnings from continuing operations  - U.S. GAAP**                            | ** ** |          |       | 303.6             |        | 40.4          |   | 180.7         |   |
| Earnings from discontinued operations, net of tax -  Canadian and U.S. GAAP     |       |          |       | **-  ** |        | -   |   | 12.0          |   |
| **Net earnings - U.S. GAAP**                                                    | ** ** |          |       | $                 |  303.6 |          | $      |  40.4    |   | $ |  192.7 |   |
|                                                                            |       |          |       |              |        |          |   |          |   |
| **Other comprehensive (loss) income,  net of tax - Canadian GAAP**              | ** ** |          | ** ** | $                 |  (3.0  | )             | 2.4    |          | (14.8  | ) |
| Net gain (loss) on derivative instruments                                       |       | *I,VIII*      |       | -       |        | 73.3          |   | (222.4        | )      |
| Difference in cumulative translation adjustment  between U.S. and Canadian GAAP |       | *VIII*        |       | 7.2               |        | -   |   | -   |   |
| Employee future benefits                                                        |       | *III*         |       | 12.1              |        | -   |   | -   |   |
| Registered pension alternate minimum liability                                  |       | *III,VIII*    |       | **-  ** |        | 13.2          |   | (11.5         | )      |
| **Comprehensive income (loss) - U.S.  GAAP**                                    | ** ** |          |       | $                 |  319.9 |          | 129.3  |          | $      | (56.0 | ) |
|                                                                            |       |          |       |              |        |          |   |          |   |
| **Basic and diluted EPS - U.S. GAAP**                                           | ** ** |          |       |              |        |          |   |          |   |
| Earnings from continuing operations                                             |       |          |       | $                 |  1.50  |          | 0.20   |          | $      |  0.92 |   |
| Earnings from discontinued operations                                           |       |          |       | -       |        | -   |   | -   |   |

 

 

**B.            BALANCE SHEET INFORMATION**

 
|                                                                       |       |                   |       |              |       | 2007      |       |          |       | 2006       |       |
|----------------------------------------------------------------------------|------------|------------------------|------------|-------------------|------------|----------------|------------|---------------|------------|------------|------------|
|                                                                       |       |                   |       |              |       |           |       |          |       |       |       |
|                                                                       |       | Reconciling            | ** ** | **Canadian**      |       |           |       | Canadian      |       | U.S.       |       |
| As at Dec. 31                                                         | ** ** | items                  | ** ** | **GAAP**          | ** ** | **U.S.  GAAP** | ** ** | GAAP          | ** ** | GAAP       | ** ** |
|                                                                       | ** ** |                   | ** ** | ** **        | ** ** | ** **     | ** ** |          | ** ** |       | ** ** |
| **Assets**                                                                 | ** ** | ** **             | ** ** | ** **        | ** ** | ** **     | ** ** | ** **    | ** ** | ** ** | ** ** |
| Property, plant and equipment, net                                         | * *   | *IV*                   | ** ** | **5,117.3**       | ** ** | **5,114.5**    |       | 5,041.9       |       | 5,038.8    |       |
| Risk management assets (including current portion)                         | * *   | *I*                    | ** ** | **215.2**         | ** ** | **215.2**      |       | 137.3         |       | 251.0      |       |
| Other assets (including current portion)                                   | * *   | *I,III,IV*             | ** ** | **82.6**          | ** ** | **77.7**       |       | 93.6          |       | 88.7       |       |
|                                                                       | * *   | * *               | ** ** | ** **        | ** ** | ** **     |       |          |       |       |       |
| **Liabilities**                                                            | ** ** | ** **             | ** ** | ** **        | ** ** | ** **     | ** ** | ** **    | ** ** | ** ** | ** ** |
| Deferred credits and other liabilities (including  current portion)        | * *   | *I*                    | ** ** | **100.9**         | ** ** | **148.0**      |       | 130.4         |       | 177.6      |       |
| Price risk management liabilities (including current  portion)             | * *   | *I*                    | ** ** | **309.3**         | ** ** | **309.3**      |       | 46.4          |       | 434.8      |       |
| Net Future or deferred income tax liabilities  (including current portion) | * *   | *I, III,  IV, VI* | ** ** | **306.0**         | ** ** | **289.8**      |       | 398.7         |       | 306.7      |       |
|                                                                       | * *   | * *               | ** ** | ** **        | ** ** | ** **     |       |          |       |       |       |
| **Equity**                                                                 | ** ** | ** **             | ** ** | ** **        | ** ** | ** **     | ** ** | ** **    | ** ** | ** ** | ** ** |
| Contributed surplus                                                        | * *   | *II, V*                | ** ** | **-  ** | ** ** | **133.0**      |       | -   |       | 133.0      |       |
| Retained earnings                                                          | * *   | *I,III,  IV*           | ** ** | **762.5**         | ** ** | **619.8**      |       | 710.0         |       | 567.7      |       |
| Accumulated other comprehensive loss                                       | * *   | *I,IV,  VIII*          | ** ** | **(244.8**        | **)**      | **(273.8**     | **)**      | (64.5         | )          | (293.1     | )          |
|                                                                            |            |                        |            |                   |            |                |            |               |            |            |            |  |

 

**C.            ADJUSTMENTS AND RECONCILING ITEMS**

 

**I.  Derivatives and Hedging Activities**

 

OnJan. 1, 2007, TransAlta adopted four new accounting standards that wereissued by the Canadian Institute of Chartered Accountants (“CICA”):Section 1530, *Comprehensive Income*,Section 3855, *Financial Instruments –Recognition and Measurement*, Section 3861, *FinancialInstruments – Disclosure and Presentation*, and Section 3865, *Hedges*.  We adoptedthese standards retroactively with an adjustment to the opening balance ofAccumulated Other Comprehensive Income (“AOCI”).  As a result of adopting these standards, 2007is aligned between Canadian GAAP and U.S. GAAP *(Notes 1, 7,and 8).*

 

Fordetails on derivatives and hedging activities for 2006, refer to 2006 Annualreport (*Note 30*).

 

2

 

**II. Contributed surplus**

In1998, the corporation transferred generation assets to one of its subsidiariesTA Cogen. TA Power, an unrelated entity, concurrently subscribed to a minorityinterest in TA Cogen.  The fair valuepaid by TA Cogen for the assets exceeded their historical carrying values.  For Canadian GAAP, the corporation recognizeda portion of this difference, to the extent it was funded by TA Power’sinvestment in TA Cogen, as a gain on disposition.  As TA Power held an option to resell theirinterest in TA Cogen to the corporation in 2018, TA Power’s option to resellthese units was eliminated and the unamortized balance of the gain wasrecognized in income.

 

UnderU.S. Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin No. 51,the option initially held by TA Power to potentially resell TA Cogen units tothe corporation in 2018 causes the excess of the consideration paid by TA Powerover the corporation’s historical carrying value in these assets to becharacterized as contributed surplus in 1998. This amount of contributed surplus is reduced by the related tax effect.

** **

**III.  Employee FutureBenefits**

U.S.GAAP requires that the cost of employee pension benefits be determined usingthe accrual method with application from 1989.  It was not feasible to apply this standardusing this effective date.  Thetransition asset as at Jan. 1, 1998 was determined in accordance withelected practice prescribed by the SEC and is amortized over 10 years.

 

Asa result of the corporation’s plan asset return experience for its U.S.registered pension plan, at Dec. 31, 2005, the corporation was requiredunder U.S. GAAP to recognize an additional minimum liability.  The liability was recorded as a reduction incommon equity through a charge to Other Comprehensive Income (“OCI”), and didnot affect net income for 2005.

 

In September 2006,the Financial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standards (“SFAS”) No. 158 (“SFAS 158”), *Employers’Accounting for Defined Benefit Pension and Other Postretirement Plans*– an amendment of FASB Statements No. 87, 88, 106, and 132(R). SFAS 158requires companies to report the funded status of their defined benefit pensionplans on the balance sheet with changes in the funded status recognized in OCIin the year of the change. SFAS 158 also requires additional disclosure. SFAS158 is effective for years ending after Dec. 15, 2006. TransAlta hascomplied with the requirements of SFAS 158.

 

**IV.  Start-up Costs**

UnderU.S. GAAP, certain start-up costs, including revenues and expenses in thepre-operating period, are expensed rather than capitalized to deferred chargesand property, plant and equipment as under Canadian GAAP, which also results indecreased depreciation and amortization expense under U.S. GAAP.

 

**V.  Debt extinguishment**

UnderU.S. GAAP, the premium on redemption of long-term debt related to the 1998limited partnership transaction was recorded when incurred, whereas forCanadian GAAP, the loss was being amortized to earnings over the period of thelimited partnership (20 years).  As thebuyback option was terminated in connection with the sale of the Sheernessplant, the deferred amount was recognized in earnings in 2003.

 

3

 

**VI.  Income taxes**

Futureincome taxes under Canadian GAAP are referred to as deferred income taxes underU.S. GAAP.

 

Deferredincome taxes under U.S. GAAP would be as follows:

 
| As at Dec. 31                                       | ** ** | **200**                       | **7**            | 200    | 6      |
|----------------------------------------------------------|------------|-------------------------------|------------------|--------|--------|
|                                                     |       |                          |             |   |   |
| Future income tax liabilities (net) under Canadian  GAAP | ** ** | **$**                         | ** (306.0** | **)**  | (398.7 | ) |
| Derivatives                                              | ** ** | **-    ** |             | 86.8   |   |
| Start-up costs                                           | ** ** | **3.1**                       |             | 3.1    |   |
| Pensions                                                 | ** ** | **13.1**                      |             | 2.1    |   |
| Future income tax liabilities (net) under U.S. GAAP      | ** ** | **$**                         | **(289.8**       | **)**  | (306.7 | ) |

 
| Comprised of the following:               |       |       |             |   |   |
|-------------------------------------------|------------|------------|------------------|--------|--------|
| As at Dec. 31                        | ** ** | **2007**   |             | 2006   |   |
|                                      |       |       |             |   |   |
| Current deferred income tax assets        | ** ** | **$**      | **40.2**         |   | 25.8   |   |
| Long-term deferred income tax assets      | ** ** | **315.6**  |             | 290.4  |   |
| Current deferred income tax liabilities   | ** ** | **(6.6**   | **)**            | (19.9  | )      |
| Long-term deferred income tax liabilities | ** ** | **(639.0** | **)**            | (603.0 | )      |
|                                      | ** ** | **$**      | ** (289.8** | **)**  | (306.7 | ) |

 

**VII.  Joint Ventures**

Inaccordance with Canadian GAAP, joint ventures are required to beproportionately consolidated regardless of the legal form of the entity.  Under U.S. GAAP, incorporated joint venturesare required to be accounted for by the equity method.  However, in accordance with practicesprescribed by the SEC, the corporation, as a Foreign Private Issuer, haselected to disclose the amounts proportionately consolidated in Note 33.

 

**VIII.  OtherComprehensive Income (Loss)**

Thedifference between AOCI under Canadian and U.S. GAAP in 2007 is related to theadoption of Financial Accounting Standards (“SFAS”) No. 158 (“SFAS 158”), *Employers’ Accounting for Defined Benefit Pension and OtherPostretirement Plans*– an amendment of FASB Statements No. 87,88, 106, and 132(R).  All otherdifferences between Canadian and U.S. GAAP have been eliminated upon adoptionof Handbook Section 3855.

 

Thecomponents of AOCI were as follows:

 
| Year ended Dec. 31                                                                                             | ** ** | **2007**    |              | 2006    |
|---------------------------------------------------------------------------------------------------------------------|------------|-------------|-------------------|------------------------|
| Cumulative unrealized losses on translating financial  statements of self-sustaining foreign operations, net of tax | ** ** | **$**       | ** (45.4)**  |                   | $ |  (57.5) |   |
| Cumulative unrealized losses on cash flow hedges, net  of tax                                                       | ** ** | **(199.4)** |              | (194.9)                |   |
| Pensions, net of tax                                                                                                | ** ** | **(29.0)**  |              | (40.7)                 |   |
| **Accumulated other comprehensive loss**                                                                            | ** ** | **$**       | ** (273.8)** | * *               | $ |  (293.1) | * * |

 

In 2006, the difference between AOCI underCanadian and U.S. GAAP was related to the SFAS 158 and accounting for financialinstruments.

 

In2006 TransAlta adopted Statement of Financial Accounting Standards (SFAS) No. 158(SFAS 158), *Employers’ Accounting for Defined Benefit Pensionand Other Postretirement Plans* – an amendment of FASB Statements No. 87,88, 106, and 132(R).  SFAS 158 requiresthe cumulative impact of adopting this change in accounting principle to becharged to the opening balance AOCI.  Forthe year ended Dec. 31, 2006, TransAlta recorded this as a charge to OCIduring the period ended Dec. 31, 2006, in the amount of $40.7 million,rather than to the opening balance of AOCI for the same amount.  AOCI as at Dec. 31, 2006 is not impactedby this change.

 

Thisamount is also included in the U.S. GAAP net earnings reconciliation.  After correcting this treatment, U.S. GAAPnet earnings and earnings per share should be $40.4 million and $0.20 pershare, versus reported net losses of $0.3 million and $nil per share.

 

4

 

**VIII.  Changes in Accounting Standards**

 

1.  Income Taxes

 

On January 1, 2008TransAlta adopted FASB Interpretation 48, *Accounting for Uncertaintyin Income Taxes* (“FIN 48”), an interpretation of FASB Statement No. 109,*Accounting for Income Taxes*.  This Interpretation provides guidance onrecognition, measurement and disclosure of tax positions taken or to be takenin the company’s income tax returns.

 

As of December 31,2007, the company has $77 million of unrecognized tax benefits, all of which,if recognized, would affect the effective tax rate. No material increase ordecrease in unrecognized tax benefits is expected in the next 12 months.

 

The company’s income taxfilings are subject to audit examination by taxation authorities.  As at December 31, 2007, the tax yearsremain subject to examination in major jurisdictions are: 1996 *–* 2006 in Canada, 2004 – 2006 in the U.S., and 2001 – 2006in Mexico.

 

The company’s accountingpolicy is to include interest and penalties relating to the unrecognized taxbenefits as a component of income taxes. As at December 31, 2007, the amount of accrued interest andpenalties included in future income tax liabilities is $8 million.

 

**Accountingfor Uncertainty in Income Taxes**

 
| Total amounts of unrecognized tax benefits at  Dec. 31, 2006        | ** ** | **$** | ** 113.0** | ** ** |
|--------------------------------------------------------------------------|------------|-------|-----------------|------------|
| Increase as a result of tax positions taken during a  prior period       |       | 37. 0 |            |
| Decrease as a result of settlements with taxation  authorities           |       | (73.0 | )               |
| **Total amounts of unrecognized tax  benefits as at Dec. 31, 2007** | ** ** | **$** | ** 77.0**  | ** ** |

 

2.  Accounting for certain hybrid financialinstruments – FAS 155

 

On Jan. 1, 2007, the Corporation adopted FASBStatement No. 155, *Accounting for CertainHybrid Financial Instruments – an amendment of FASB Statement No. 133 and140* (“FAS 155”). FAS 155 allows an entity to measure any hybridfinancial instrument that contains an embedded derivative that requiresbifurcation at its fair value, with changes in fair value recognized inearnings.  The adoption of this U.S.accounting standard did not have a material impact upon the Corporation’sconsolidated financial position or results of operations.

 

 

**IX.Future changes in accounting standards**

 

1.  Framework onfair value measurement – FAS 157

 

On Sept. 15, 2006, FASB issued Statement No. 157,*Fair Value Measurements* (“FAS 157”),which establishes a framework for measuring fair value in U.S. GAAP, and isapplicable to other accounting pronouncements where fair value is considered tobe the relevant measurement attribute. FAS 157 also expands disclosures aboutfair value measurements and will be effective for us on Jan. 1, 2008except  that the fair-value measurementrequirements for some nonfinancial assets and liabilities will not be effectivefor the Corporation until Jan. 1, 2009.

 

TransAlta is currently assessing the impact ofadopting the above standard on the consolidated financial position and resultsof operations.

 

2. Fair value option for financial assets andliabilities – FAS 159

 

On Feb. 15, 2007, the FASB issued Statement No. 159,*The Fair Value Option for Financial Assets andLiabilities*(“FAS 159”). FAS 159 provides an entity the option toreport selected financial assets and liabilities at fair value and establishesnew disclosure requirements for assets and liabilities to which the fair valueoption is applied. FAS 159 will be effective for the Corporation on Jan. 1,2008.

 

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The Corporation is currently assessing the impact ofadopting the above standard on the consolidated financial position and resultsof operations.

 

3. Business Combinations and Non-controlling interests– FAS 141 and FAS 160

 

The FASB and the IASB have developed common standardson Business Combinations and Non-controlling interests. The primary objectivewas to develop a single set of high-quality standards of accounting forbusiness combinations that could be used for both domestic and cross-borderfinancial reporting.  These standardspropose significant changes with respect to accounting for businesscombinations, as well as the accounting and reporting of non-controllinginterests in consolidated financial statements.

 

The Boards have completed re-deliberations, and issuedfinal standards in Q4 2007 (IASB issued standards in January 2008), thatwill be effective for TransAlta on Jan. 1, 2009. FASB issued Statement No. 141(R),*Business Combinations – a replacement of FASBStatement No. 141*, and Statement No. 160, Non-controllingInterests in Consolidated Financial Statements – an amendment of ARB No. 51,in conjunction with the IASB standards.

 

Transalta is currently assessing the impact ofadopting the above standard on the consolidated financial position and resultsof operations.

 

4. Written Loan Commitments Recorded at Fair ValueThrough Earnings

 

On Nov. 5, 2007 the SEC staff issued SAB 109, *Written Loan Commitments Recorded at Fair Value Through Earnings*.SAB 109 provides that fair-value measurements of derivative or other writtenloan commitments that are recorded through earnings should include the futurecash flows related to the loan’s servicing rights. SAB 109 supersedes SAB 105.

 

The Corporation is assessing the impact, if any, ofadopting the above standard on the consolidated financial position and resultsof operations.

 

 

5. Share-based Payment – SAB 110

 

On Dec. 21, 2007 the SEC staff issued StaffAccounting Bulletin, *Share-based Payments*.SAB 110 states that SEC staff will continue to accept the “simplified” methodfor estimating the expected term of a “plain vanilla” share option grant underspecified conditions, the new guidance eliminates the Dec. 31, 2007 sunsetprovision in SAB 107’s permission to use the method.

 

The Corporation is currently assessing the impact ofadopting the above standard on the consolidated financial position and resultsof operations.

 

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