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UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 Form 10-Q    (Mark One) þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period
ended September 30, 2004 OR o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from            to Commission file number: 333-117335 Calpine Generating Company, LLC
CalGen Finance Corp. Delaware
    
    770555128Delaware
    
    201162632(State or Other Jurisdiction of
Incorporation or Organization)
    
    (I.R.S. Employer Identification Number)
 50 West San Fernando Street
San Jose, California 95113
Telephone: (408) 995-5115(Address of principal executive offices and
Registrants telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes
o No þ Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes o No þ Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date: Calpine Generating Company,
LLC is a Limited Liability Company and has no common stock. With respect to CalGen
Finance Corp., the number of shares outstanding of such issuers
common stock as of the date hereof is: 1,000.




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CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) CALGEN FINANCE
CORP.
 REPORT ON FORM 10-Q
For the Quarter Ended September 30, 2004 TABLE OF CONTENTS Page No.PART I  FINANCIAL INFORMATIONItem 1.
    
    Consolidated Financial Statements (unaudited)Consolidated Balance Sheets as of September 30, 2004 and December 31, 2003
    
    
    1Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2004 and 2003
    
    
    2Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2004 and 2003
    
    
    3Notes to Consolidated Financial Statements
    
    
    5Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    26Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    34Item 4.
    
    Controls and Procedures
    
    
    34PART II  OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    34Item 6.
    
    Exhibits
    
    
    35Signatures
    
    
    
    
    36EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1


The collateral for the outstanding notes described in Note 6
to the consolidated financial statements of Calpine Generating
Company, LLC includes the pledge of Calpine
Generating Company, LLCs membership interest in CalGen Expansion
Company, LLC. Separate financial statements pursuant to Rule 3.16 of
Regulation S-X are not included herein for CalGen Expansion Company,
LLC because, with the exception of the nominal capitalization of
$1,000 associated with CalGen Finance Corp., the consolidated financial
statements of CalGen Expansion Company, LLC are identical to the
consolidated financial statements of Calpine Generating Company, LLC
included herein.



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PART I  FINANCIAL INFORMATION 
 Item 1. Consolidated Financial Statements (unaudited) CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) 
 CONSOLIDATED BALANCE SHEETS
(in thousands) September 30, 2004
    
    December 31, 2003(Unaudited)ASSETSCurrent assets:Cash and cash equivalents
    
    $
    97,751
    
    
    $
    39,598Restricted cash
    
    
    
    
    
    
    152,290Accounts receivable, net
    
    
    51,282
    
    
    
    47,555Accounts receivable  related party
    
    
    43,355
    
    
    
    21,350Inventories
    
    
    17,624
    
    
    
    13,301Prepaid expenses and other current assets
    
    
    58,778
    
    
    
    29,444Current derivative assets
    
    
    11,372
    
    
    
    Total current assets
    
    
    280,162
    
    
    
    303,538Property, plant and equipment, net
    
    
    6,295,431
    
    
    
    6,314,166Deferred financing costs
    
    
    53,817
    
    
    
    17,775Other assets
    
    
    48,908
    
    
    
    44,289Notes receivable, net of current portion
    
    
    19,476
    
    
    
    Long-term derivative assets
    
    
    31,133
    
    
    
    Total assets
    
    $
    6,728,927
    
    
    $
    6,679,768LIABILITIES AND MEMBERS EQUITY (DEFICIT)Current liabilities:Accounts payable
    
    $
    102,684
    
    
    $
    113,947Accounts
payable  related party
    
    
    28,916
    
    
    
    22,131Accrued interest payable
    
    
    73,269
    
    
    
    99Other current liabilities
    
    
    2,914
    
    
    
    4,839Notes payable, current portion
    
    
    168
    
    
    
    154Credit agreement
    
    
    
    
    
    
    2,200,358Total current liabilities
    
    
    207,951
    
    
    
    2,341,528Notes payable, net of current portion
    
    
    2,109
    
    
    
    2,285Priority
notes and term loans
    
    
    2,394,870
    
    
    
    Revolving
credit facility
    
    
    36,500
    
    
    
    Subordinated parent debt
    
    
    
    
    
    
    4,615,276Other liabilities
    
    
    12,750
    
    
    
    3,651Total liabilities
    
    
    2,654,180
    
    
    
    6,962,740Members equity (deficit)
    
    
    4,074,747
    
    
    
    (282,972
    )Total liabilities and members equity (deficit)
    
    $
    6,728,927
    
    
    $
    6,679,768
 The accompanying notes are an integral part of these consolidated financial statements. 1




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CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) 
 CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands) Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    2004
    
    2003(Unaudited)
    
    (Unaudited)Revenue:Revenue  related party
    
    $
    438,695
    
    
    $
    251,333
    
    
    $
    959,663
    
    
    $
    621,763Revenue
 third party
    
    
    123,641
    
    
    
    126,309
    
    
    
    344,394
    
    
    
    289,811Mark-to-market activities, net
    
    
    (574
    )
    
    
    
    
    
    
    (2,495
    )
    
    
    Total revenue
    
    
    561,762
    
    
    
    377,642
    
    
    
    1,301,562
    
    
    
    911,574Cost of revenue:Fuel expense  related party
    
    
    385,059
    
    
    
    238,563
    
    
    
    887,364
    
    
    
    602,612Fuel expense  third party
    
    
    288
    
    
    
    321
    
    
    
    211
    
    
    
    4,721Plant operating expense
    
    
    38,502
    
    
    
    32,145
    
    
    
    137,795
    
    
    
    107,636Depreciation expense
    
    
    39,224
    
    
    
    33,943
    
    
    
    110,960
    
    
    
    87,342Total cost of revenue
    
    
    463,073
    
    
    
    304,972
    
    
    
    1,136,330
    
    
    
    802,311Gross profit
    
    
    98,689
    
    
    
    72,670
    
    
    
    165,232
    
    
    
    109,263General and administrative expense
    
    
    2,201
    
    
    
    1,674
    
    
    
    9,236
    
    
    
    3,890Income from operations
    
    
    96,488
    
    
    
    70,996
    
    
    
    155,996
    
    
    
    105,373Interest expense  related party
    
    
    
    
    
    
    73,840
    
    
    
    72,173
    
    
    
    181,586Interest expense
    
    
    41,175
    
    
    
    17,149
    
    
    
    110,814
    
    
    
    42,138Interest income
    
    
    (444
    )
    
    
    (1,248
    )
    
    
    (1,939
    )
    
    
    (1,381
    )Other (income) expense, net
    
    
    751
    
    
    
    (85
    )
    
    
    336
    
    
    
    53Income (loss) before income taxes
    
    
    55,006
    
    
    
    (18,660
    )
    
    
    (25,388
    )
    
    
    (117,023
    )Income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Income (loss) before cumulative effect of
a change in accounting principle
    
    
    55,006
    
    
    
    (18,660
    )
    
    
    (25,388
    )
    
    
    (117,023
    )Cumulative effect of a change in accounting
principle, net of applicable taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (241
    )Net income (loss)
    
    $
    55,006
    
    
    $
    (18,660
    )
    
    $
    (25,388
    )
    
    $
    (117,264
    )
 The accompanying notes are an integral part of these consolidated financial statements. 2




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CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) Nine Months Ended September 30,2004
    
    2003(Unaudited)Cash flows from operating activities:Net loss from operations
    
    $
    (25,388
    )
    
    $
    (117,264
    )Adjustments to reconcile net loss to net cash provided
by operating activities:Depreciation expense
    
    
    110,960
    
    
    
    87,342Amortization of deferred financing costs and debt discount
    
    
    7,238
    
    
    
    8,899Write-off of deferred financing costs
    
    
    12,457
    
    
    
    Mark-to-mark
activities, net
    
    
    2,495
    
    
    
    Interest on subordinated parent debt
    
    
    72,173
    
    
    
    181,586Cumulative effect of change in accounting principle
    
    
    
    
    
    
    241Costs allocated from parent
    
    
    3,633
    
    
    
    3,636Changes in operating assets and liabilities:Accounts receivable
    
    
    (5,248
    )
    
    
    (26,656
    )Accounts receivable  related party
    
    
    (22,005
    )
    
    
    (28,559
    )Inventories
    
    
    (2,724
    )
    
    
    (3,124
    )Prepaid expenses and other current assets
    
    
    (12,403
    )
    
    
    679Notes receivable and other assets
    
    
    (17,771
    )
    
    
    (9,672
    )Accounts payable
    
    
    30,277
    
    
    
    8,212Accounts
payable  related party
    
    
    6,785
    
    
    
    (14,909
    )Accrued interest payable
    
    
    73,170
    
    
    
    555Other liabilities
    
    
    473
    
    
    
    2,542Net cash provided by operating activities
    
    
    234,122
    
    
    
    93,508Cash flows from investing activities:Changes in restricted cash
    
    
    152,290
    
    
    
    (85,847
    )Purchases of derivative asset
    
    
    (45,000
    )
    
    
    Purchases of property, plant and equipment
    
    
    (262,426
    )
    
    
    (364,958
    )Net cash used in investing activities
    
    
    (155,136
    )
    
    
    (450,805
    )Cash flows from financing activities:Financing costs
    
    
    (59,389
    )
    
    
    (3,817
    )Repayments of notes payable
    
    
    (162
    )
    
    
    (147
    )Borrowings from credit facility
    
    
    178,995
    
    
    
    47,456Repayments of credit facility
    
    
    (2,379,353
    )
    
    
    (193,151
    )Borrowings
from priority notes and term loans
    
    
    2,393,900
    
    
    
    Borrowings from revolver line of credit
    
    
    117,500
    
    
    
    Repayments of revolver line of credit
    
    
    (81,000
    )
    
    
    Borrowings from subordinated parent debt
    
    
    46,813
    
    
    
    506,771Repayments of subordinated parent debt
    
    
    (238,137
    )
    
    
    Net cash provided by (used in) financing activities
    
    
    (20,833
    )
    
    
    357,112Net increase in cash
    
    
    58,153
    
    
    
    (185
    )Cash and cash equivalents, beginning of period
    
    
    39,598
    
    
    
    25,643Cash and cash equivalents, end of period
    
    $
    97,751
    
    
    $
    25,458
 The accompanying notes are an integral part of these consolidated financial statements. 3




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CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) CONSOLIDATED STATEMENTS OF CASH FLOWS (continued) (in thousands) Nine Months Ended September 30,2004
    
    2003(Unaudited)Supplemental cash flow information:Cash paid for interest, net of amounts capitalized
    
    $
    34,741
    
    
    $
    30,740Non cash
investing and financing transactions:Interest on subordinated parent debt added to
principal balance
    
    $
    72,173
    
    
    $
    181,586Capital expenditures included in accounts payable
    
    $
    39,301
    
    
    $
    73,430Financing costs contributed by parent
    
    $
    5,407
    
    
    $
    4,030Acquisition of property, plant and equipment through
subordinated parent debt
    
    $
    
    
    
    $
    108,089Disposition of property, plant and equipment through
subordinated parent debt
    
    $
    119,647
    
    
    $
    215,170Conversion of subordinated parent debt to equity
    
    $
    4,381,619
    
    
    $
    
 The accompanying notes are an integral part of these consolidated financial statements. 4




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CALPINE GENERATING COMPANY, LLC
(a wholly owned subsidiary of Calpine CalGen Holdings, Inc.) 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2004
(Unaudited) 1. Organization and Operations of CalGen Calpine Generating Company, LLC (the Company or CalGen), a Delaware
limited liability company, is an indirect wholly owned subsidiary of Calpine
Corporation (Calpine or the Parent). CalGen is engaged, through its
subsidiaries, in the construction, ownership and operation of electric power
generation facilities and the sale of energy, capacity and related products in
the United States. The purpose of these consolidated financial statements is to
present the financial position, results of operations and cash
flows of the 14 power
projects (collectively, the Projects or the Facilities) listed below and
other legal entities that are indirectly owned by CalGen. CalGen is comprised of the following 14 power projects (the dates
represent commercial operation of the project or expected commercial operation
for projects under construction): (1) Delta project near Pittsburg, California,
June 2002; (2) Goldendale project near Goldendale, Washington, September 2004;
(3) Los Medanos project near Pittsburg, California, August 2001; (4) Pastoria
project under construction near Kern County, California, Phase 1 February 2005,
Phase 2 June 2005; (5) Baytown project near Baytown, Texas, June 2002; (6)
Channel project near Houston, Texas, Phase 1 August 2001, Phase 2 April 2002;
(7) Corpus Christi project located near Corpus Christi, Texas, October 2002;
(8) Freestone project near Fairfield, Texas, Phase 1 June 2002, Phase 2 July
2002; (9) Carville project near St. Gabriel, Louisiana, June 2003; (10)
Columbia project near Columbia, South Carolina, May 2004; (11) Decatur project
near Decatur, Alabama, Phase 1 June 2002, Phase 2 June 2003; (12) Morgan
project near Morgan County, Alabama, Phase 1 July 2003, Phase 2 January 2004;
(13) Oneta project near Coweta, Oklahoma; Phase 1 July 2002, Phase 2 June 2003;
and (14) Zion project near Zion, Illinois, June 2002. These facilities comprise
substantially all of CalGens assets. At December 31, 2003, CalGen included an
equipment company business unit containing progress payments related to turbine
purchases. On March 23, 2004, CalGen issued $2.4 billion in debt securities
(the March 23, 2004 Refinancing) to replace $2.5 billion in debt securities
issued in October 2000 (the Construction Facility). In connection with the
March 23, 2004 Refinancing, these turbine balances were transferred to another
Calpine business unit outside of CalGen. CalGen
Finance Corp. (CalGen Finance) is a wholly-owned subsidiary of CalGen. CalGen Finance was
formed solely for the purpose of facilitating the offering of the
Companys debt securities, including the March 23, 2004
Refinancing, by acting as a co-issuer of those securities. CalGen
Finance is nominally capitalized and does not have any operations or
revenues. 2. Basis of Presentation The financial information for the interim periods presented in the
consolidated financial statements included in this report is unaudited and
includes all known accruals and adjustments that, in the opinion of management,
are necessary for a fair presentation of the consolidated financial position of
CalGen and its results of operations and cash flows for such periods. All such
adjustments are of a normal and recurring nature. Certain information and note
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles in the United States of America
have been condensed or omitted from these statements pursuant to such rules and
regulations and, accordingly, these consolidated financial statements should be
read in conjunction with the audited consolidated financial statements of
CalGen for the year ended December 31, 2003, included in
CalGens
Form S-4 registration statement which was
declared effective by the Securities and Exchange Commission on October 19, 2004. The
results for interim periods are not necessarily indicative of the results for
the entire year. CalGens consolidated financial statements for all periods reflect an
allocation of charges for Calpines common expenditures. Such charges have been
made in accordance with Staff Accounting Bulletin (SAB) No. 55, Allocation
of Expenses and Related Disclosure in Financial Statements of Subsidiaries,
Divisions or Lesser Business Components of Another Entity. The accompanying consolidated financial statements reflect all costs of
doing business, including those incurred by the Parent on CalGens behalf.
Costs that are clearly identifiable as being applicable to CalGen have been
allocated to CalGen. The most significant costs included in this category
include costs incurred during the construction phase of the facilities when
salaries and other costs are charged directly to the related construction
project. Costs of centralized departments that serve all business segments have
been allocated, where such charges would be material, using relevant allocation
measures, primarily the base labor of CalGen as a percentage of the base labor
of the Parent. The most significant costs in this category include salary and
benefits of certain employees; legal and other professional fees; information
technology costs; and facilities costs, including office rent. Parent corporate
costs that clearly relate to other business segments of Calpine have not been
allocated to CalGen. Charges for Calpines common general and administrative
expenses that have been allocated to CalGen and certain major maintenance costs
paid by Calpine have been recorded as contributions from the Parent. These
amounts totaled $1.0 million and $1.5 million for the three months ended
September 30, 2004 5




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and 2003, respectively, and $3.6 million and $3.6 million for the nine
months ended September 30, 2004 and 2003, respectively. CalGen believes that the allocation methods described herein are
reasonable and fairly reflect its financial position and results of operations. For all periods presented, CalGen accounted for income taxes associated
with the projects using the separate return method, pursuant to Statement of
Financial Accounting Standard (SFAS) No. 109,
Accounting for Income Taxes (SFAS 109). See Note 4 for additional information. 3. Change in Accounting Principle Effective January 1, 2003, CalGen adopted SFAS No. 143, Accounting for
Asset Retirement Obligations, (SFAS 143) which applies to legal obligations associated
with the retirement and removal of long-lived assets. SFAS No. 143 requires
entities to record the fair value of a liability for an asset retirement
obligation in the period when it is incurred. When the liability is initially
recorded, the entity capitalizes the cost by increasing the carrying amount of
the related properties, plants and equipment. Over time, the liability is
increased for the change in its present value each period, and the initial
capitalized cost is depreciated over the useful life of the related asset. The
cumulative effect of the change increased net loss for the nine months ended
September 30, 2003 by $0.2 million (net of applicable income taxes). 4. Summary of Significant Accounting Policies The accompanying consolidated financial statements include all accounts of
CalGen, the Projects and other legal entities that are indirectly owned by
CalGen. The basis of consolidating the financial statements is common ownership
of the facilities and other assets. Intercompany accounts and transactions are
eliminated in the consolidated financial statements. Use of Estimates in Preparation of Financial Statements- The preparation
of financial statements in conformity with accounting principles generally
accepted in the United States of America requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities, and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expense during the reporting
period. Actual results could differ from those estimates. The most significant
estimates reflected in these consolidated financial statements relate to useful
lives and carrying values of the facilities and the related depreciation, salvage value
assumptions, the ability of CalGen to recover the carrying value of the
facilities, the allocation of the Parents shared expenditures,
and fair value calculations of derivative instruments and associated
reserves. Reclassifications- Certain amounts in the December 31, 2003 consolidated
balance sheet included in this report have been reclassified to conform to the
2004 presentation. Cash and Cash Equivalents- Cash and cash equivalents represent money
market funds and cash deposits with original or remaining maturities at the
date of purchase of three months or less. Restricted Cash- At December 31, 2003, the Company was required to
maintain cash balances that were restricted by the provisions of the
Construction Facility. All revenues were deposited into restricted accounts at depository
banks in order to comply with the depository agreement. The agreements executed
in connection with the March 23, 2004 Refinancing do not require CalGen to
maintain restricted cash accounts. As a result, the balance in these accounts
was zero at September 30, 2004. At December 31, 2003, restricted cash was
invested in accounts earning market rates; therefore, the carrying value
approximated fair value. Accounts Receivable- The Companys trade receivables result primarily
from its operations and have payment terms of 30 days or less. The Company
continually monitors this exposure and the creditworthiness of the
counterparties and does not generally require collateral to limit the exposure
to loss. CalGen recorded an allowance for doubtful accounts of
approximately $1.4 million and $1.9 million at September 30, 2004 and December
31, 2003, respectively. Inventories- CalGens inventories primarily include spare parts and
operating supplies. Operating supplies are valued at the lower of cost or
market using the average cost method. The cost of large replacement parts to be
used within one year is determined using the specific identification method.
For other replacement parts, cost is generally determined using the
weighted-average cost method. Prepaid Expenses and Other Current Assets and Other Assets- Prepaid
expenses and other current assets represent amounts consisting primarily of
prepaid insurance and service agreements. The service agreements are long-term
contracts with major equipment suppliers covering the maintenance, spare parts
and technical services required by the facilities. Payments are classified as
prepayments and charged to expense or capital in the period that the work is
performed. Other assets primarily represent deferred transmission credits 6




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and the long-term component of service agreements. The
balances related to prepaid expenses, other current assets and
other assets are as follows (in thousands): September 30,
    
    December 31,2004
    
    2003Prepaid expenses and other current assets:Service agreements
    
    $
    36,138
    
    
    $
    18,886Insurance and other
    
    
    22,640
    
    
    
    10,558Total prepaid expense and other current assets
    
    $
    58,778
    
    
    $
    29,444
 September 30,
    
    December 31,2004
    
    2003Other assets:Service agreements and other
    
    $
    13,490
    
    
    $
    6,981Deferred transmission credits
    
    
    35,418
    
    
    
    37,308Total other assets
    
    $
    48,908
    
    
    $
    44,289
 Deferred Financing Costs- Deferred financing costs are amortized to
interest expense over the life of the related debt instrument, ranging from
five to seven years, using the effective interest rate method. CalGen recorded $2.9 million and $4.8
million in such amortization for the three months ended September 30, 2004 and
2003, respectively. Of these amounts, $2.3 million and $1.2 million was
capitalized, respectively as capitalized interest during the development and construction phases of certain of the facilities. CalGen recorded $29.0 million and $11.7 million in
such amortization for the nine months ended September 30, 2004 and 2003,
respectively. Of these amounts, $10.0 million and $3.7 million was capitalized,
respectively. As a result of the March 23, 2004 Refinancing, approximately
$59.4 million in new deferred financing costs were incurred. The balance of
deferred financing costs relating to the Construction Facility of
approximately $12.5 million was recorded as interest expense in the first
quarter of 2004. Revenue Recognition- Capacity revenue is recognized monthly, based on the
plants availability. Energy revenue is recognized upon transmission or
delivery to the customer. In addition to various third-party contracts, CalGen
has entered into long-term power sales agreements with a subsidiary of the
Parent, Calpine Energy Services, L.P. (CES), whereby CES purchases virtually
all of the projects available electric energy and capacity (other than that
sold under third-party power and steam agreements) and provides the facilities
substantially all of their required natural gas needs. Prior to the March 23,
2004 Refinancing, for those fuel contracts for which title of fuel did not
transfer to CalGen, the related power sales agreements were accounted for as
tolling agreements, and the associated fuel costs were presented as a reduction
of the related power revenues. New contracts were executed with CES that became
effective March 23, 2004. These are not considered to be tolling agreements
since title to the gas transfers, and as such, the projects now record gross
revenues and fuel expense. In connection with the new contracts
executed on March 23, 2004, CalGen purchases some of its fuel
from a third-party provider and sells this fuel to CES at cost.
Revenues from these sales are netted against the related fuel
purchase cost. For the nine months ended September 30, 2004,
approximately $35.8 million of revenues were netted against
fuel cost. Income Taxes- CalGen is a single member limited liability company that
has been appropriately treated as taxable for financial reporting purposes. For
all periods presented, CalGen accounted for income taxes using the separate
return method, pursuant to SFAS No. 109. In accordance with SFAS No. 109,
CalGen has recorded a valuation allowance to reduce deferred tax assets to the
amount of future tax benefit that is more likely than not to be realized.
Because of significant historical net losses incurred by CalGen, a valuation
allowance has been established for the entire amount of the excess of deferred
tax assets over deferred tax liabilities generated to date, and no tax provision or
benefit has been recorded. Concentrations of Credit Risk- Financial instruments that potentially
subject CalGen to concentrations of credit risk consist primarily of cash and
cash equivalents and accounts receivable. CalGens cash accounts are held in
major financial institutions. CalGens accounts receivable are concentrated
within entities engaged in the energy industry within the United States. The
majority of CalGens revenues are from related-party sales. Fair Value of Financial Instruments- For certain financial instruments,
including cash equivalents and accounts payable, the carrying amounts
approximate their respective fair values due to their short maturities. Amounts
outstanding under the project financing debt carry a fixed and
floating-interest rate. The floating rate debt approximates fair value. The
Third Priority Secured Notes Due 2011 carry a fixed interest rate. The fair
value of this debt at September 30, 2004 was $129.9 million. Derivative
Instruments- SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, (SFAS 133)  as amended and 7




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interpreted by other related accounting literature, establishes accounting
and reporting standards for derivative instruments (including certain
derivative instruments embedded in other contracts). SFAS No. 133 requires
companies to record derivatives on their balance sheets as either assets or
liabilities measured at their fair value unless exempted from derivative
treatment as a normal purchase and sale. All changes in the fair value of
derivatives are recognized currently in earnings unless specific hedge criteria
are met, which requires that a company must formally document, designate, and
assess the effectiveness of transactions that receive hedge accounting. Accounting for derivatives at fair value requires the Company to make
estimates about future prices during periods for which price quotes are not
available from sources external to the Company. As a result, the Company is
required to rely on internally developed price estimates when external price
quotes are unavailable. The Company derives its future price estimates, during
periods where external price quotes are unavailable, based on an extrapolation
of prices from periods where external price quotes are available. The Company
performs this extrapolation using liquid and observable market prices and
extending those prices to an internally generated long-term price forecast
based on a generalized equilibrium model. SFAS No. 133 sets forth the accounting requirements for cash flow and fair
value hedges. SFAS No. 133 provides that the effective portion of the gain or
loss on a derivative instrument designated and qualifying as a cash flow
hedging instrument be reported as a component of other comprehensive income and
be reclassified into earnings in the same period during which the hedged
forecasted transaction affects earnings. The remaining gain or loss on the
derivative instrument, if any, must be recognized currently in earnings. SFAS
No. 133 provides that the changes in fair value of derivatives designated as
fair value hedges and the corresponding changes in the fair value of the hedged
risk attributable to a recognized asset, liability, or unrecognized firm
commitment be recorded in earnings. If the fair value hedge is effective, the
amounts recorded will offset in earnings. With respect to cash flow hedges, if the forecasted transaction is no
longer probable of occurring, the associated gain or loss recorded in other
comprehensive income is recognized currently. In the case of fair value hedges,
if the underlying asset, liability or firm commitment being hedged is disposed
of or otherwise terminated, the gain or loss associated with the underlying
hedged item is recognized currently. If the hedging instrument is terminated
prior to the occurrence of the hedged forecasted transaction for cash flow
hedges, or prior to the settlement of the hedged asset, liability or firm
commitment for fair value hedges, the gain or loss associated with the hedge
instrument remains deferred. Mark-to-Market Activity, Net- This includes realized settlements of and
unrealized mark-to-market gains and losses on power derivative instruments not
designated as cash flow hedges, including those held for trading
purposes. See Note 9 for a discussion of a derivative instrument held by CalGen. Although CalGen has not entered into any hedges to date, gains and losses due
to ineffectiveness on hedging instruments would be included in unrealized
mark-to-market gains and losses. Trading activity is presented net in
accordance with Emerging Issues Task Force (EITF) Issue No. 02-3, Accounting
for Contracts Involved in Energy Trading and Risk Management Activities (EITF
02-3). Comprehensive Income- Comprehensive income is the total of net income and
all other non-owner changes in equity. Accumulated Other Comprehensive Income
(AOCI) typically includes unrealized gains and losses from derivative
instruments that qualify as cash flow hedges and the effects of foreign
currency translation adjustments. The Company did not have any AOCI at
September 30, 2004 or at December 31, 2003. Accounting for Long-Lived Assets: Property, Plant and Equipment- Property, plant and equipment, net, are
stated at cost less accumulated depreciation and amortization. The cost of
renewals and betterments that extend the useful life of property, plant and
equipment are also capitalized. Depreciation and amortization are computed on a
straight-line method over the estimated original composite useful lives of the
assets, generally 35 years for baseload power plants and 40 years for peaker
facilities, exclusive of the estimated salvage value, typically 10 percent of
the original cost. Impairment of Long-Lived Assets- The Company evaluates long-lived assets,
such as property, plant and equipment when events or changes in circumstances
indicate that the carrying value of such assets may not be recoverable. Factors
which could trigger an impairment include significant underperformance relative
to historical or projected future operating results; significant changes in how
the Company uses the assets or in its overall business strategy; and
significant negative industry or economic trends. Certain of our generating
assets are located in regions with depressed demands and market spark spreads.
The Companys forecasts assume that spark spreads will increase in future years
in these regions as the supply and demand relationships improve. The determination of whether impairment has occurred is based on comparing an
estimate of undiscounted cash flows attributable to the assets to
the carrying value of the assets. The significant assumptions used in
the Companys undiscounted future cash flow estimates include the future supply and demand
relationships for electricity and natural gas, and the expected pricing for
those 8




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commodities and the resultant spark spreads in the various regions where
the Company generates. If an impairment has occurred, the amount of the
impairment loss recognized is determined by estimating the fair value of
the assets and recording a loss if the fair value is less than the book value. The Companys assessment regarding the existence of impairment factors is
based on market conditions, operational performance and legal factors of its
projects. The Companys review of factors present and the resulting appropriate
carrying value of long-lived assets are subject to judgments and estimates that
management is required to make. No impairment charge has been recorded to date
for any projects. Future events could cause the Company to conclude that impairment
indicators exist and that long-lived assets might be impaired. Capitalized Interest- CalGen capitalizes interest using two methods: (1)
capitalized interest on funds borrowed for specific construction projects and
(2) capitalized interest on subordinated parent debt. For capitalization of
interest on specific funds, CalGen capitalizes the interest cost incurred
related to debt entered into for specific projects under construction. The
methodology for capitalizing interest on subordinate parent debt, consistent
with paragraphs 13 and 14 of FASB No. 34, Capitalization of Interest Cost, as
amended by SFAS No. 58, Capitalization of Interest Cost in Financial
Statements That Include Investments Accounted for by the Equity Method (an
Amendment of FASB Statement No. 34), begins with a determination of the borrowings
applicable to qualified asset. The basis of this approach is the assumption
that the portion of the interest costs that are capitalized on expenditures
during an assets acquisition period could have been avoided if the
expenditures had not been made. This methodology takes the view that if the
funds were not required for construction, then they would have been used to pay
off other debt. CalGens qualifying
assets include construction in progress. For the three months ended September 30, 2004 and 2003, the amount of
interest capitalized was $8.7 million and $30.3 million, respectively. For the
nine months ended September 30, 2004 and 2003, the amount of interest
capitalized was $51.1 million and $112.5 million, respectively. These amounts
include the capitalized amortization expenses discussed above in Deferred
Financing Costs. Upon commencement of plant operation, capitalization of
interest ceases. Total capitalized interest, as a component of the total cost
of the plant, is then amortized over the estimated useful life of the plant. Major Maintenance and CapitalSpares  CalGen capitalizes costs for major
gas turbine generator refurbishments for the hot gas path section and
compressor components, which includes such significant items as combustor parts
(e.g. fuel nozzles, transition pieces and baskets) and compressor blades,
vanes and diaphragms. These refurbishments are done either under long-term
service agreements by the original equipment manufacturer or by Calpines
Turbine Maintenance Group. The capitalized costs are depreciated over their
estimated useful lives ranging from three to twelve years. The weighted average
deprecation period is five years. CalGen expenses annual planned maintenance.
Capital spare parts are capitalized and are generally amortized over a period
consistent with the major maintenance cycles of CalGens plants. New Accounting Pronouncements In January 2003, FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities, an interpretation of ARB 51 (FIN 46). FIN 46
requires the consolidation of entities in which an enterprise absorbs a
majority of the entitys expected losses, receives a majority of the entitys
expected residual returns, or both, as a result of ownership, contractual or
other financial interest in the entity. Historically, entities have generally
been consolidated by an enterprise when it has a controlling financial interest
through ownership of a majority voting interest in the entity. The objectives
of FIN 46 are to provide guidance on the identification of Variable Interest
Entities (VIEs) for which control is achieved through means other than a
ownership of a majority of the voting interest of the entity, and how to
determine which business enterprise (if any), as the primary beneficiary,
should consolidate the VIE. This model for consolidation applies to an entity
in which either (1) the at-risk equity is insufficient to absorb expected
losses without additional subordinated financial support or (2) its at-risk
equity holders as a group are not able to make decisions that have a
significant impact on the success or failure of the entitys ongoing
activities. A variable interest in a VIE, by definition, is an asset,
liability, equity, contractual arrangement or other economic interest that
absorbs the entitys variability. In December 2003, the FASB modified FIN 46 with FIN 46-R to make certain
technical corrections to the standard and to address certain implementation
issues. FIN 46, as originally issued, was effective immediately for VIEs
created or acquired after January 31, 2003. FIN 46-R delayed the effective date
of the interpretation to no later than March 31, 2004, (for calendar-year
enterprises), except for Special Purpose Entities (SPEs) for which the
effective date was December 31, 2003. The determination of whether CalGen or the purchaser of the power in a
long-term power sales or tolling agreement consolidates a VIE is based on which
variable interest holder absorbs the majority of the risk of the VIE and is,
therefore, the primary beneficiary. If a CalGen project had been deemed a VIE
by virtue of its long-term power sales or tolling agreement and if the power
purchaser was 9




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the primary beneficiary because it absorbs the majority of the CalGen
projects risk, CalGen would have been required to de-consolidate the project. An analysis was performed for CalGen subsidiaries with significant
long-term power sales or tolling agreements. Certain of the CalGen subsidiaries
were deemed to be VIEs and held long-term power sales or tolling
agreements. CalGen qualitatively determined that power sales or tolling
agreements less than 10 years in length and for less than 50% of the entitys
capacity would not cause the power purchaser to be the primary beneficiary, due
to the length of the economic life of the underlying assets. As all of CalGens
contracts are of this nature, CalGen is deemed to absorb a majority of the
entitys variability and, accordingly, continues to consolidate the assets and
liabilities of all of the Projects. The Company qualitatively
determined that power sales or tolling agreements with a term for
less than one-third of the facilitys remaining useful life or for
less than 50% of the entitys capacity would not cause the power
purchaser to be the Primary Beneficiary, due to the length of the
economic life of the underlying assets. An integral part of applying FIN 46-R is determining which economic
interests are variable interests. In order for an interest to be considered a
variable interest, it must absorb variability of changes in the fair value of
the VIEs underlying net assets. Questions have arisen regarding (a) how to
determine whether an interest absorbs variability, and (b) whether the nature
of how a long position is created, either synthetically through derivative
transactions or through cash transactions, should affect the assessment of
whether an interest is a variable interest. EITF Issue No. 04-7: Determining
Whether an Interest Is a Variable Interest in a Potential Variable Interest
Entity (EITF Issue No. 04-7) is still in the discussion phase, but will
eventually provide a model to assist in determining whether an economic
interest in a VIE is a variable interest. The Task Forces discussions on this
Issue have centered on determining if the variability should be based on whether
(a) the interest absorbs fair value variability, (b) the interest absorbs cash
flow variability, or (c) the interest absorbs both fair value and cash flow
variability. The final conclusions reached on this issue may impact the
Companys methodology used in making quantitative assessments of the
variability of the Companys wholly owned subsidiaries that have entered into
longer term power sales agreements with third parties. However, until the EITF
reaches a final consensus, the Company is unable to determine the effects of this issue on the Companys financial
statements. 5. Property, Plant and Equipment The components of property, plant and equipment, net are as follows (in
thousands): September 30,
    
    December 31,2004
    
    2003Buildings, machinery, and equipment
    
    $
    5,916,701
    
    
    $
    4,847,734Less: Accumulated depreciation and amortization
    
    
    (298,082
    )
    
    
    (187,557
    )5,618,619
    
    
    
    4,660,177Land
    
    
    7,235
    
    
    
    7,235Construction in progress
    
    
    669,577
    
    
    
    1,646,754Property, plant and equipment, net
    
    $
    6,295,431
    
    
    $
    6,314,166
 Depreciation expense for the three months ended September 30, 2004 and
2003 was $39.2 million and $33.9 million, respectively. Depreciation expense
for the nine months ended September 30, 2004 and 2003 was $111.0 million and
$87.3 million, respectively. Construction in progress is primarily attributable
to gas-fired projects under construction and prepayments, which include costs
incurred under certain contracts. At December 31, 2003, the property, plant and equipment balances included
the cost of three turbines held in an equipment company business unit that was
included in the consolidated financial statements. The value of the turbines
was approximately $119.6 million. At March 23, 2004, these turbines were
transferred to Calpine in a non-cash transaction which reduced subordinated
parent debt. On May 22, 2004 and September 17, 2004, Columbia Energy Center and
Goldendale Energy Center, respectively, commenced commercial operations. The
Columbia facility is a 455-megawatt combined cycle energy center located in
Columbia, South Carolina. The Goldendale facility is a 271-megawatt
combined-cycle energy center located in Goldendale, Washington. The electric
generating facility is interconnected with the Klickitat Public Utility
District and the Bonneville Power Administration grid and will sell power into
the Pacific Northwests Mid-Columbia and California-Oregon Border delivery
hubs. Assets associated with these two facilities were transferred from
construction in progress to building, machinery and equipment upon completion
of construction and commencement of operations. 6. Priority Notes, Term
Loans and Revolving Credit Facility On March 23, 2004, CalGen issued $2.4 billion in debt securities (the
Notes) to replace the Construction Facility as outlined
in the table below: 10




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OutstandingBalance as ofFace Amount
    
    Description
    
    Interest Rate
    
    September 30, 2004$
    235.0
    
    
    million
    
    First Priority Secured Floating Rate Notes Due 2009
    
    LIBOR plus 375 basis points
    
    $   235.0 million640.0
    
    
    million
    
    Second Priority Secured Floating Rate Notes Due
2010
    
    LIBOR plus 575 basis points
    
    631.3 million680.0
    
    
    million
    
    Third Priority Secured Floating Rate Notes Due 2011
    
    LIBOR plus 900 basis points
    
    680.0 million150.0
    
    
    million
    
    Third Priority Secured Notes Due 2011
    
    
    11.50
    %
    
    150.0 million600.0
    
    
    million
    
    First Priority Secured Term Loans Due 2009
    
    LIBOR plus 375 basis
points(1)
    
    600.0 million100.0
    
    
    million
    
    Second Priority Secured Term Loans Due 2010
    
    LIBOR plus 575 basis
points(2)
    
    98.6 million$
    2,405.0
    
    
    million
    
    
    
    
    
    
    
    $2,394.9 million
   (1)
    
    CalGen may also elect a Base Rate plus 275 basis points.(2)
    
    CalGen may also elect a Base Rate plus 475 basis points. First Priority Secured Floating Rate Notes Due 2009 The First Priority Secured Floating Rate Notes Due 2009 were issued at
par. The Company must repay these notes in seven quarterly installments of
0.250% of the original principal amount, commencing on July 1 2007, and ending
on January 1, 2009. The remaining principal will be payable on April 1, 2009.
At September 30, 2004, the outstanding balance of these notes was $235.0
million. Interest on these notes is based on LIBOR plus 375 basis points and
the effective interest rate, after amortization of deferred financing costs,
was 5.6% per annum at September 30, 2004. CalGen may redeem any of the First
Priority Notes beginning on April 1, 2007, at an initial redemption price of
102.5% of the principal amount, plus interest. Second Priority Secured Floating Rate Notes Due 2010 The Second Priority Secured Floating Rate Notes Due 2010 were issued at a
discount of 98.5% of par and CalGen recorded total discount of $9.6 million.
The discount is deferred and amortized over the terms of the notes. For the
three and nine months ended September 30, 2004, amortization of the debt
discount for the notes amounted to $0.4 million and $0.8 million, respectively.
The Company must repay these notes in seven consecutive quarterly installments
of 0.250% of the original principal amount, commencing on July 1, 2008 and
ending on January 1, 2010. The remaining principal is payable on April 1, 2010.
At September 30, 2004, both the book and face value of these
notes was $631.3 million. Interest on these notes is based on LIBOR plus 575 basis points and
the effective interest rate, after amortization of deferred financing costs,
was 7.5% per annum at September 30, 2004. CalGen may redeem any of the Second
Priority Notes beginning on April 1, 2008 at an initial redemption price of
103.5% of the principal amount plus accrued interest. Third Priority Secured Floating and Fixed Rate Notes Due 2011 The Third Priority Secured Floating Rate Notes Due 2011 were issued at par. These notes will mature on April 1, 2011. There are no scheduled mandatory
principal payments prior to maturity. At September 30, 2004, both the book and
face value of these notes was $680.0 million. Interest on these notes is based
on LIBOR plus 900 basis points and the effective interest rate, after
amortization of deferred financing costs, was 10.6% per annum at September 30,
2004. The Third Priority Secured (Fixed) Rate Notes Due 2011 were issued at par.
These notes will mature on April 1, 2011. There are no scheduled mandatory
principal payments prior to maturity. At September 30, 2004, both the book and
face value of these notes was $150.0 million. Interest on these notes fixed at
11.5% and the effective interest rate, after amortization of deferred financing
costs, was 11.8% per annum at September 30, 2004. The Third Priority Floating
Rate and Fixed Rate notes will not be redeemable at the Companys option prior
to maturity. First Priority Secured
Term Loans Due 2009 The First Priority Secured Term Loans were issued at par. The Company must
repay these notes in consecutive quarterly installments of 0.250% of the
original principal amount, commencing on April 1, 2007 and ending on January 1,
2009. The remaining principal is payable on April 1, 2009. Interest on the
loans is at LIBOR plus 375 basis points. The Company may also elect a Base Rate
plus 275 basis points. At September 30, 2004, both the book and face value of
these notes was $600.0 million. The effective interest rate, after amortization
of deferred financing costs, was 5.6% per annum at September 30, 2004.
Prepayments on the First Priority Term Loans are not permitted prior to April
1, 2007. However on or after that date, CalGen may, at its option, prepay some
or 11




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all of the loans at 102.50% of the principal amount plus accrued and
unpaid interest. On or after April 1, 2008, CalGen will be permitted at its
option to prepay some or all of the loans at par plus accrued and unpaid
interest. Second Priority Secured
Term Loans Due 2010 The Second Priority Secured Term Loans were issued at 98.5% of par. CalGen
recorded a discount of $1.5 million, which is deferred and amortized over the
term of the loans. For both the three and nine month periods ended September
30, 2004, amortization of the debt discount on the loans amounted to $0.1
million. The Company must repay these loans in consecutive quarterly
installments of 0.250% of the original principal amount, commencing on April 1,
2008 and ending on January 1, 2010. The remaining principal is payable on April
1, 2010. Interest on the loans is at LIBOR plus 575 basis points. The Company
may also elect a Base Rate plus 475 basis points. At September 30, 2004, the
book value of these loans was $98.6 million. The effective interest rate, after
amortization of deferred financing costs and debt discount, was 7.5% per annum
at September 30, 2004. Prepayments on the Second Priority Term Loans are not
permitted prior to April 1, 2008. On or after April 1, 2008, CalGen may, at its
option, prepay some or all of the loans at 103.50% of the principal amount plus
accrued and unpaid interest. On or after April 1, 2009, CalGen will be
permitted at its option to prepay some or all of the loans at par plus accrued
and unpaid interest The terms loans and notes described above are secured by collateral
consisting of substantially all of CalGens assets, including the assets owned
by most of CalGens subsidiaries and its direct interests in the projects (see
Note 11, Guarantor Subsidiaries  Supplemental Consolidating Financial
Statements). Other Financings Concurrent with the March 23, 2004 Refinancing, CalGen entered into an
agreement with a group of banks led by The Bank of Nova Scotia for a $200.0
million revolving credit facility (the Revolving Credit Facility). This
three-year facility is available for specified working capital purposes
and for letters of credit. All amounts outstanding under the Revolving Credit
Facility bear interest at either (i) the Base Rate (as
determined with respect to the term loans described above) plus 250 basis points,
or (ii) at LIBOR plus 350 basis points. Collateral for the Revolving Credit
Facility includes first priority security interests in the same collateral
securing the notes and term loans. This new facility requires us to comply
with various affirmative and negative covenants, including restrictions on our
ability to incur new debt, make certain investments and acquisitions and sale
of our assets, and covenants which requires us generally to maintain
minimum interest coverage ratios, and a consolidated first priority and second
priority secured lien debt to kilowatt ratio. Fees associated with the placing
of the Revolving Credit Facility amounted to approximately $4.6 million. These
fees are amortized over the life of the facility. At September 30, 2004,
outstanding borrowing under the facility was $36.5 million and amortization of
the fees for the three and nine-month periods ended
September 30, 2004 totaled
$0.4 million and $0.8 million, respectively. In addition, $148.7 million in
letters of credit were issued and outstanding at September 30, 2004. These
letters of credit were primarily issued to support operational
activities. Borrowings under the Revolving Credit Facility are
guaranteed by the same subsidiaries that guarantee the notes
described above, and are secured by the same collateral that secures
such notes. CalGen also entered into a $750.0 million unsecured subordinated working
capital facility (the Working Capital Facility) with CalGen Holdings, Inc.,
CalGens sole member. Under the Working Capital Facility, CalGen may borrow funds
only for specific purposes including claims under its business interruption
insurance with respect to any of the facilities or a delay in the start up of
the Pastoria facility; losses incurred as a result
of uninsured force majeure events; claims for liquidated damages against third
party contractors with respect to the Goldendale and Pastoria facilities and
spark spread diminution after expiration of the three-year index hedge
agreement with Morgan Stanley Capital Group (MSCG)
discussed below. Borrowings under the
Working Capital Facility will bear interest at LIBOR plus 4.0% and interest
will be payable annually in arrears and will mature in 2019. The Working
Capital Facility is not part of the collateral that secures the notes, the term
loans, or the Revolving Credit Facility and will not be available to the
holders of the notes, the term loans or the new Revolving Credit Facility upon
a foreclosure or available in a bankruptcy of the company. There were no fees
paid in connection with establishing the Working Capital Facility. At September
30, 2004, there were no outstanding borrowings under the Working Capital
Facility. To manage forward exposure to price fluctuations, CalGen entered into
a three-year Index Hedge with MSCG in March 2004. The index hedge will provide for
semi-annual payments to CalGen if the aggregate spark spread amount calculated
under the index hedge for any six-month period during the term of the index
hedge is less than $50.0 million. The semi-annual payment dates are March 31
and September 30, beginning September 30, 2004. Based on the aggregate spark
spread calculation, no payment was made to CalGen under the index hedge on
September 30, 2004. CalGen paid $45.0 million for the index hedge. The amount
paid includes value of $38.3 million over the estimated exercise value of the
index hedge calculated based on CalGen internally developed models. CalGen
recorded the valuation difference as a component of derivative assets. In
accordance with EITF 02-03, the valuation difference is accounted for as a
deferred amount that will be amortized to income over the term of the contract.
The index hedge is accounted for as a derivative instrument with changes in the
value recognized in the consolidated statement of operations. See Note 9 for
more information regarding this index hedge. 12




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##### Table of Contents



Prior
to the March 23, 2004 Refinancing, CalGen received additional
financing in the form of subordinated debt from the Parent (the Subordinated
Parent Debt) pursuant to a note agreement dated January 1, 2002. The
Subordinated Parent Debt bore interest at 8.75% per annum and was subordinated
to borrowings under the Construction Facility. The Subordinated Parent Debt of
$4.6 billion at December 31, 2003 reflected on the accompanying consolidated
balance sheet includes accrued interest. Under the debt subordination
agreement, interest payments to the Parent were not permissible until all
senior debt was liquidated. Accordingly, the interest on the Subordinated
Parent Debt has been treated as a non-cash transaction and has been added back
to net income for purposes of computing cash flows from operations in the
accompanying statements of cash flows. Effective March 23, 2004, the Parent
transferred the Subordinated Parent Debt balance, which included accrued
interest, totaling $4.4 billion to equity as a non-cash capital contribution. In connection with a Raw Water Service Agreement (Water Agreement)
entered into with Contra Costa Water District for raw water service through
April 2015, Delta and Los Medanos issued a promissory note valued at $3.5
million for the service connection fee. Payments are due on an annual
basis on April 1st of
each year. The interest rate charged is based on the average rate for the
preceding calendar year for the Local Agency Investment Fund plus 2.5%. The
note is divided as follows: 70% Delta and 30% Los Medanos per the terms of the Water
Agreement. At September 30, 2004 and December 31, 2003, the balance of the note
was $2.3 million and $2.4 million, respectively. 7. Significant Customers In addition to third-party agreements, the projects currently have
contracts with CES whereby CES purchases virtually all available capacity of
the projects including ancillary services and other generation-based products
and services. In addition, CES supplies substantially all of the projects fuel
requirements. Under the new agreements executed in connection with the March
23, 2004 Refinancing, CES pays a net contract price to CalGen each month for
energy purchased and gas sold by CES. The contract price equals the sum of an
aggregate net payment for products provided during on-peak periods, plus an
aggregate fixed monthly payment (total of $13.7 million once all the facilities
have achieved commercial operation), plus the total variable operation and
maintenance payment for the facilities (ranging from $0.24 to $1.37 per
megawatt hours (MWh)) and minus the cost of fuel supplied to support
third-party power supply and steam host contracts. For the three months and nine months ended September 30, 2004 and 2003,
CES was a significant customer and accounted for more than ten percent of
CalGens consolidated revenues. Revenues
earned from CES were as follows (in
thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Revenues
    
    $
    438,695
    
    
    $
    251,333
    
    
    $
    959,663
    
    
    $
    621,763
 Receivables
due from CES were as follows (in
thousands): September 30,
    
    December 31,2004
    
    2003Receivables
    
    $
    43,355
    
    
    $
    21,350
 8. Related-Party Transactions CalGen entered into various agreements with Calpine or a Calpine affiliate
to provide a number of services with respect to each project. The agreements
under the Construction Facility were replaced concurrently with the March 23,
2004 Refinancing. Following is a general description of each of the various agreements that
became effective with the March 23, 2004 Refinancing: Index Based Gas Sale and Power Purchase Agreement- Under this amended
agreement, CES purchases the available electric output of each facility not
previously sold under another long-term agreement. In addition, CES sells to
each facility substantially all of the gas required to operate. Calpine
guarantees CESs performance under this agreement. Transactions under this
agreement are accounted for as purchases and sales versus as a tolling
agreement, as title to the gas procured transfers to the projects. For these
agreements, the projects account for the gross revenue received from CES and
gross fuel expense paid to CES in their respective 13




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##### Table of Contents



income statement accounts. CalGen has amended the Index Based Gas Sale and Power Purchase Agreement three
times. The First Amendment provided for the use of letters of credit issued
under CalGens revolving credit facility to support gas supply agreements
entered into by CES so long as, among other things, CES gives CalGen a net
reduction (taking into account letter of credit fees and other charges paid by
CalGen) in the price of gas supplied under these arrangements and the gas
supply agreements are used exclusively to supply gas to CalGen facilities. The
amendment also requires that CalGen have step-in rights under the CES gas
supply agreements so that it can take them over directly in the event of a
default by CES. The Second Amendment accounted for the bankruptcy of Solutia,
Inc., the steam host at the Decatur Energy Center facility. As part of the
bankruptcy settlement that preserved CalGens occupancy and operating rights,
Solutia rejected its agreements to purchase steam and electric energy from the
Decatur Energy Center facility. This amendment added the amount of capacity
that had previously been purchased by Solutia to the capacity being purchased
by CES under the Index Based Gas Sale and Power Purchase Agreement. The Third
Amendment authorized buy-sell arrangements between CalGen and CES that
provides for transportation of gas already being purchased by CalGen from third
parties under Direct Gas Supply Agreements using CESs existing transportation
arrangements. Under these arrangements, CES purchases the gas from CalGen at
the third party receipt point and resells it to CalGen at the applicable CalGen
facility. The amendment requires that the difference between the purchase and
resale prices (the effective transportation cost) not exceed either CESs cost
or the cost of firm transportation available to CalGen from third parties. WECC Fixed Price Gas Sale and Power Purchase Agreement- Under this
agreement, CES purchases a total of 500 MW from the Delta and Los Medanos
facilities for a fixed price. Calpine guarantees CESs performance under this
agreement. Master Operation and Maintenance Agreement- Under this agreement, each of
the facilities is operated and maintained under a 10-year agreement with
Calpine Operating Services Company, Inc. (COSCI). As the operator, COSCI
provides all services necessary to operate and maintain each facility including
providing and training personnel to perform the operation and maintenance
services as described in the agreement. Calpine guarantees COSCIs obligations
under this agreement. Master Maintenance Services Agreement- At September 30, 2004, major
maintenance services for the operational facilities were provided for under
agreements with Siemens Westinghouse Power Corporation or General Electric
Company. There is also a ten-year Master Maintenance Services
Agreement, under which COSCI will provide major maintenance services to the projects when
agreements with third parties are terminated. Prior to the terminations, COSCI
administers the agreements with the third parties. Calpine will indemnify the
facilities against costs and expenses incurred in connection with such service
agreement terminations. This agreement is distinct from the Master Operation
and Maintenance Services Agreement (which provides routine operation and
maintenance) and will apply separately and independently to each facility.
Calpine will guarantee COSCIs performance under this agreement. Master Construction Management Agreement- Under this agreement, the
construction of the Columbia, Goldendale, and Pastoria facilities and the
coordination of the various construction and supply contracts is managed by
Calpine Construction Management Company, Inc. (CCMCI). CCMCI is responsible
for the day-to-day management and administration of CalGens responsibilities
relating to the design, engineering and procurement, construction, start-up and
testing, for managing all of the construction and supply contracts and for
supervising and coordinating all construction activities (including acceptance
and commissioning of the facility). Calpine guarantees CCMCIs performance
under this agreement. Master
Administrative Services Agreement- Under this agreement, Calpine
Administrative Services Company, Inc. performs a number of
administrative services for CalGen, including accounting, auditing,
financial reporting, budgeting and forecasting, tax, cash management,
contract administrative services, invoicing, and other similar
services. The related-party balances as of September 30, 2004 and December 31, 2003,
reflected in the accompanying consolidated balance sheet and the related-party
transactions for the three months and nine months ended September 30, 2004 and
2003, reflected in the accompanying consolidated statements of operations are
summarized as follows (in thousands): 2004
    
    2003As of September 30 and December 31, respectivelyAccounts receivable
    
    $
    43,355
    
    
    $
    21,350Accounts payable
    
    
    28,916
    
    
    
    22,131Subordinated parent debt
    
    
    
    
    
    
    4,615,276For the Three Months Ended September 30Revenue
    
    $
    438,695
    
    
    $
    251,333Fuel expense
    
    
    385,059
    
    
    
    238,563Plant operating expense
    
    
    8,081
    
    
    
    7,761General and administrative expense
    
    
    1,051
    
    
    
    1,514Interest expense
    
    
    
    
    
    
    73,840For the Nine Months Ended September 30Revenue
    
    $
    959,663
    
    
    $
    621,763Fuel expense
    
    
    887,364
    
    
    
    602,612Plant operating expense
    
    
    24,399
    
    
    
    27,918General and administrative expense
    
    
    3,634
    
    
    
    3,636Interest expense
    
    
    72,173
    
    
    
    181,586
 The general and administrative costs reflected in the table above were
allocated to CalGen in accordance with the guidance of SAB No. 55 (see Note 2)
and treated as contributions from the Parent. Additionally, annual amounts
borrowed from the Parent as subordinated parent debt are summarized in the
accompanying consolidated statements of cash flows. 9. Derivative Instruments As CalGen is engaged in the construction, ownership, and operation of
power-generation facilities with a focus on generation of electricity using
gas-fired turbines, CalGens natural physical commodity position is short
fuel (i.e., natural gas consumer) and 14




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##### Table of Contents



long power (i.e., electricity seller). To manage forward exposure to
price fluctuations in these positions, CalGen entered into an Index Hedge with
MSCG, as discussed in Note 6. The transaction qualifies as a derivative under
SFAS No. 133, but does not meet hedge requirements and,
therefore, is marked-to-market in the consolidated statements of operations. The table below reflects the amounts that are recorded as assets and
liabilities as of September 30, 2004 for CalGens derivative instruments (in
thousands): Current derivative assets
    
    $
    11,372Long-term derivative assets
    
    
    31,133Total
derivative assets
    
    $
    42,505Total
derivative liabilities
    
    $
    Net derivative assets
    
    $
    42,505
 The table below reflects the impact of CalGens derivative instruments on
its pre-tax earnings from mark-to-market activity of derivatives (in
thousands): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    2004
    
    2003Unrealized
mark-to-market loss
    
    $
    (574
    )
    
    $
    
    
    
    $
    (2,495
    )
    
    $
    Realized
mark-to-market gain (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total
mark-to-market activities, net
    
    $
    (574
    )
    
    $
    
    
    
    $
    (2,495
    )
    
    $
    
 10. Commitments and Contingencies CalGen has long-term service agreements that provide for parts and
services related to the performance of scheduled maintenance on combustion
turbines at the facilities. The terms of the agreements generally cover the
period from commercial operation of the project through the twelfth scheduled
outage for each combustion turbine. In some agreements, the term is the earlier
of sixteen years or twelve scheduled outages. Maintenance schedules and payment schedules are based on estimates of when
maintenance will occur on the various turbines based on the number of hours the
turbines operate. The actual timing of maintenance may vary based on actual
operating hours versus estimated hours due to operational and performance
considerations. Set forth below is an estimated schedule of payments to be made in
connection with the long-term service agreement and other obligations (in
thousands): Long-Term
    
    Priority
    
    
    
    
    
    
    
    
    
    RevolvingService
    
    Notes and
    
    Notes
    
    
    
    
    
    CreditAgreements
    
    Term Loans
    
    Payable
    
    Leases
    
    Agreement
    
    Total2004
    
    $
    11,861
    
    
    $
    
    
    
    $
    
    
    
    $
    62
    
    
    $
    
    
    
    $
    11,9232005
    
    
    30,354
    
    
    
    
    
    
    
    151
    
    
    
    333
    
    
    
    
    
    
    
    30,8382006
    
    
    48,367
    
    
    
    
    
    
    
    161
    
    
    
    336
    
    
    
    
    
    
    
    48,8642007
    
    
    58,887
    
    
    
    4,175
    
    
    
    171
    
    
    
    348
    
    
    
    36,500
    
    
    
    100,0812008
    
    
    58,965
    
    
    
    12,050
    
    
    
    182
    
    
    
    361
    
    
    
    
    
    
    
    71,5582009 and thereafter
    
    
    629,354
    
    
    
    2,388,775
    
    
    
    1,646
    
    
    
    22,582
    
    
    
    
    
    
    
    3,042,357Total
    
    $
    837,788
    
    
    $
    2,405,000
    
    
    $
    2,311
    
    
    $
    24,022
    
    
    $
    36,500
    
    
    $
    3,305,621
 In addition to the amounts outstanding under the revolving credit
agreement shown in the table above, $148.7 million in letters of credit were
issued and outstanding at September 30, 2004. These letters of credit were
primarily issued to support operational activities. Litigation 15




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##### Table of Contents



The
Company is party to various litigation matters arising out of the
normal course of business, the more significant of which are
summarized below. The ultimate outcome of each of these matters
cannot presently be determined, nor can the liability that could
potentially result form a negative outcome be reasonably estimated
presently for every case. The liability the Company may ultimately
incur with respect to any one of these matters in the event of a
negative outcome may be in excess of amounts currently accrued with
respect to such matters and, as a result of these matters, may
potentially be material to the Companys consolidated financial
statements. Gary
E. Jones, et al v. Calpine Corporation On September 11, 2003, the
Estate of Darrell Jones and the Estate of Cynthia Jones filed a complaint
against Calpine in the U.S. District Court, Western District of Washington.
Calpine purchased Goldendale Energy, Inc, a Washington corporation, from
Darrell Jones of National Energy Service Company (NESCO). The agreement provided, among other things, that upon
substantial completion of the Goldendale facility, Calpine would pay Mr. Jones
(i) $6.0 million and (ii) $18.0 million less $0.2 million per day for each day
that elapsed between July 1, 2002 and the date of substantial completion.
Substantial completion of the Goldendale facility occurred September 2004 and
the daily reduction in the payment amount has reduced the $18.0 million payment
to zero. Calpine has made the $6 million payment to the estates. The complaint
alleges that by not achieving substantial completion by July 1, 2002, Calpine
breached its contract with Mr. Jones, violated a duty of good faith and fair
dealing, and caused an inequitable forfeiture. The complaint seeks damages in
an unspecified amount in excess of $0.075 million. On July 28, 2003, Calpine
filed a motion to dismiss the complaint for failure to state a claim upon which
relief can be granted. By order of the court dated March 10, 2004, plaintiffs
claims were dismissed with prejudice. Plaintiff filed a motion for
reconsideration which was denied. Subsequently, on September 7, 2004,
plaintiffs filed a notice of appeal. Calpine filed a motion to recover
attorneys fees from NESCO, which was recently granted at a reduced amount.
Calpine held back $0.1 million of the $6 million payment to ensure payment of
those fees. Solutia Bankruptcy Solutia, Inc. (Decatur steam host) filed for
bankruptcy on December 17, 2003. Effective May 27, 2004, Solutia Inc. rejected
certain cogeneration agreements relating to the sale of steam and supply of
electricity and entered into a term sheet with Decatur confirming the agreement
of the parties with respect to property rights going forward. By executing this
term sheet, Decatur has secured all necessary rights to continue operating the
plant. The parties are in active discussions to attempt to reach a negotiated
settlement on the rejection damage claim but if such discussions are not
successful, Decatur maintains the rights to litigate the amount of the damage
claim. The bankruptcy court has set a bar date of November 30, 2004, for claims
and Decatur will file its proofs of claim on or before this date. The parties
entered into an amended and restated agreement setting forth their respective
rights and obligations going forward pursuant to the term sheet that the
bankruptcy court approved on June 30, 2004. Panda
Energy International Inc., et al. v. Calpine Corporation et al. On
November 5, 2003, Panda Energy International, Inc. and certain related parties,
including PLC II, LLC, (collectively Panda) filed suit against Calpine and
certain of its affiliates alleging, among other things, that Calpine breached
duties of care and loyalty allegedly owed to Panda by failing to correctly
construct and operate the Oneta Energy Center (Oneta) power plant, which
Calpine acquired from Panda, in accordance with Pandas original plans. Panda
alleges that it is entitled to a portion of the profits of the Oneta plant and
that Calpines actions have reduced the profits from the Oneta plant thereby
undermining Pandas ability to repay monies owed to Calpine on December 1,
2003, under a promissory note on which approximately $38.6 million (including
accrued interest net of reserve) is currently outstanding and past due. Calpine has filed a
counterclaim against Panda Energy International, Inc. (and PLC II, LLC) based
on a guaranty, and has also filed a motion to dismiss as to the causes of
action alleging federal and state securities laws violations. The motion to
dismiss is currently pending before the court. On August 17, 2004, the case was
transferred to a different judge, which will likely delay the ruling on the
motion to dismiss. However, at the present time, Calpine cannot estimate the
potential loss, if any, that might arise from this matter. Calpine considers
Pandas lawsuit to be without merit and intends to defend vigorously against
it. Discovery is currently in progress. Calpine stopped accruing interest
income on the promissory note due December 1, 2003, as of the due date because
of Pandas default on repayment of the note. In
addition, the Company is involved in various other claims and legal
actions arising out of the normal course of its business. The Company
does not expect that the outcome of these proceedings will have a
material adverse effect on its financial position or results of
operations. 11. Guarantor Subsidiaries  Supplemental Consolidating Financial Statements The securities issued in connection with the March 23, 2004 Refinancing
were guaranteed by substantially all of CalGens assets and the assets of its
subsidiaries (the Subsidiary Guarantors) other than CalGen Finance and CalGens
subsidiary that owns the Goldendale facility (the Other Subsidiaries). The
Other Subsidiaries are collateralized through CalGens equity interest in
CalGen Expansion Company. CalGen Expansion Company owns, through its direct and
indirect wholly owned subsidiaries, 100% of the interests in CalGens
facilities. CalGen Holdings membership interest in CalGen is pledged as
collateral. CalGen Holdings has no assets or operations separate from its
investment in CalGen. The Notes discussed in Note 6 are guaranteed on a joint
and several and unconditional basis by the Subsidiary Guarantors. Each
guarantee is a non-recourse senior secured obligation of the respective
guarantor. 16




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##### Table of Contents



Pursuant to Rule 3.10 of Regulation S-X, CalGen is required to present
consolidating financial information with respect to the Subsidiary Guarantors
and the Other Subsidiaries. Consolidating balance sheets as of September 30,
2004 and December 31, 2003, consolidating statements of operations for the
three and nine months ended September 30, 2004 and 2003, and consolidating cash
flows for the nine months ended September 30, 2004 and 2003 are presented
below. 17




---



##### Table of Contents



SUPPLEMENTAL CONSOLIDATING BALANCE SHEET
September 30, 2004
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedASSETSCurrent assets:Cash and cash equivalents
    
    $
    97,751
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    97,751Accounts receivable, net
    
    
    
    
    
    
    51,282
    
    
    
    
    
    
    
    
    
    
    
    51,282Accounts receivable  related party
    
    
    12,660
    
    
    
    193,314
    
    
    
    
    
    
    
    (162,619
    )
    
    
    43,355Inventories
    
    
    
    
    
    
    17,473
    
    
    
    151
    
    
    
    
    
    
    
    17,624Prepaid expenses and other current assets
    
    
    48
    
    
    
    57,499
    
    
    
    1,231
    
    
    
    
    
    
    
    58,778Current derivative assets
    
    
    11,372
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11,372Total current assets
    
    
    121,831
    
    
    
    319,568
    
    
    
    1,382
    
    
    
    (162,619
    )
    
    
    280,162Property, plant and equipment, net
    
    
    8
    
    
    
    5,968,232
    
    
    
    327,191
    
    
    
    
    
    
    
    6,295,431Investment in affiliates
    
    
    4,077,543
    
    
    
    
    
    
    
    
    
    
    
    (4,077,543
    )
    
    
    Notes receivable, net of current portion
    
    
    
    
    
    
    19,476
    
    
    
    
    
    
    
    
    
    
    
    19,476Deferred financing costs, net
    
    
    53,817
    
    
    
    51,659
    
    
    
    2,158
    
    
    
    (53,817
    )
    
    
    53,817Other assets
    
    
    2,450,822
    
    
    
    48,908
    
    
    
    
    
    
    
    (2,450,822
    )
    
    
    48,908Long-term derivative assets
    
    
    31,133
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    31,133Total assets
    
    $
    6,735,154
    
    
    $
    6,407,843
    
    
    $
    330,731
    
    
    $
    (6,744,801
    )
    
    $
    6,728,927LIABILITIES AND MEMBERS EQUITYCurrent liabilities:Accounts payable
    
    $
    13,263
    
    
    $
    80,651
    
    
    $
    8,770
    
    
    $
    
    
    
    $
    102,684Accounts
payable  related party
    
    
    142,505
    
    
    
    29,614
    
    
    
    19,416
    
    
    
    (162,619
    )
    
    
    28,916Accrued interest payable
    
    
    73,269
    
    
    
    70,035
    
    
    
    3,234
    
    
    
    (73,269
    )
    
    
    73,269Other current liabilities
    
    
    
    
    
    
    2,837
    
    
    
    77
    
    
    
    
    
    
    
    2,914Notes payable, current portion
    
    
    
    
    
    
    168
    
    
    
    
    
    
    
    
    
    
    
    168Total current liabilities
    
    
    229,037
    
    
    
    183,305
    
    
    
    31,497
    
    
    
    (235,888
    )
    
    
    207,951Notes payable, net of current portion
    
    
    
    
    
    
    2,109
    
    
    
    
    
    
    
    
    
    
    
    2,109Priority
notes and term loans
    
    
    2,394,870
    
    
    
    2,284,866
    
    
    
    110,004
    
    
    
    (2,394,870
    )
    
    
    2,394,870Revolving
credit facility
    
    
    36,500
    
    
    
    25,605
    
    
    
    10,895
    
    
    
    (36,500
    )
    
    
    36,500Other liabilities
    
    
    
    
    
    
    12,750
    
    
    
    
    
    
    
    
    
    
    
    12,750Total liabilities
    
    
    2,660,407
    
    
    
    2,508,635
    
    
    
    152,396
    
    
    
    (2,667,258
    )
    
    
    2,654,180Members equity
    
    
    4,074,747
    
    
    
    3,899,208
    
    
    
    178,335
    
    
    
    (4,077,543
    )
    
    
    4,074,747Total liabilities and members
equity
    
    $
    6,735,154
    
    
    $
    6,407,843
    
    
    $
    330,731
    
    
    $
    (6,744,801
    )
    
    $
    6,728,927
 18




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##### Table of Contents



SUPPLEMENTAL CONSOLIDATING BALANCE SHEET
December 31, 2003
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedASSETSCurrent assets:Cash and cash equivalents
    
    $
    
    
    
    $
    39,595
    
    
    $
    3
    
    
    $
    
    
    
    $
    39,598Restricted cash
    
    
    
    
    
    
    152,290
    
    
    
    
    
    
    
    
    
    
    
    152,290Accounts receivable, net
    
    
    
    
    
    
    47,555
    
    
    
    
    
    
    
    
    
    
    
    47,555Accounts receivable  related party
    
    
    
    
    
    
    21,350
    
    
    
    
    
    
    
    
    
    
    
    21,350Inventories
    
    
    
    
    
    
    13,301
    
    
    
    
    
    
    
    
    
    
    
    13,301Prepaid expenses and other current assets
    
    
    
    
    
    
    28,818
    
    
    
    626
    
    
    
    
    
    
    
    29,444Total current assets
    
    
    
    
    
    
    302,909
    
    
    
    629
    
    
    
    
    
    
    
    303,538Property, plant and equipment, net
    
    
    
    
    
    
    6,034,006
    
    
    
    280,160
    
    
    
    
    
    
    
    6,314,166Deferred financing costs, net
    
    
    
    
    
    
    17,775
    
    
    
    
    
    
    
    
    
    
    
    17,775Other assets
    
    
    
    
    
    
    44,289
    
    
    
    
    
    
    
    
    
    
    
    44,289Total assets
    
    $
    
    
    
    $
    6,398,979
    
    
    $
    280,789
    
    
    $
    
    
    
    $
    6,679,768LIABILITIES AND MEMBERS DEFICITCurrent liabilities:Accounts payable
    
    $
    
    
    
    $
    104,049
    
    
    $
    9,898
    
    
    $
    
    
    
    $
    113,947Accounts
payable  related party
    
    
    
    
    
    
    22,131
    
    
    
    
    
    
    
    
    
    
    
    22,131Accrued interest payable
    
    
    
    
    
    
    99
    
    
    
    
    
    
    
    
    
    
    
    99Other current liabilities
    
    
    
    
    
    
    4,828
    
    
    
    11
    
    
    
    
    
    
    
    4,839Notes payable, current portion
    
    
    
    
    
    
    154
    
    
    
    
    
    
    
    
    
    
    
    154Credit agreement
    
    
    
    
    
    
    2,200,358
    
    
    
    
    
    
    
    
    
    
    
    2,200,358Total current liabilities
    
    
    
    
    
    
    2,331,619
    
    
    
    9,909
    
    
    
    
    
    
    
    2,341,528Notes payable, net of current portion
    
    
    
    
    
    
    2,285
    
    
    
    
    
    
    
    
    
    
    
    2,285Subordinated parent debt
    
    
    
    
    
    
    4,343,254
    
    
    
    272,022
    
    
    
    
    
    
    
    4,615,276Other liabilities
    
    
    
    
    
    
    3,651
    
    
    
    
    
    
    
    
    
    
    
    3,651Total liabilities
    
    
    
    
    
    
    6,680,809
    
    
    
    281,931
    
    
    
    
    
    
    
    6,962,740Members deficit
    
    
    
    
    
    
    (281,830
    )
    
    
    (1,142
    )
    
    
    
    
    
    
    (282,972
    )Total liabilities and members deficit
    
    $
    
    
    
    $
    6,398,979
    
    
    $
    280,789
    
    
    $
    
    
    
    $
    6,679,768
 19




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##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF OPERATIONS
For the three months ended September 30, 2004
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedRevenue:Revenue  related party
    
    $
    
    
    
    $
    438,139
    
    
    $
    556
    
    
    $
    
    
    
    $
    438,695Revenue
 third party
    
    
    
    
    
    
    123,641
    
    
    
    
    
    
    
    
    
    
    
    123,641Mark-to-market activities, net
    
    
    (574
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (574
    )Total revenue
    
    
    (574
    )
    
    
    561,780
    
    
    
    556
    
    
    
    
    
    
    
    561,762Cost of revenue:Fuel expense  related party
    
    
    
    
    
    
    384,119
    
    
    
    940
    
    
    
    
    
    
    
    385,059Fuel expense  third party
    
    
    
    
    
    
    288
    
    
    
    
    
    
    
    
    
    
    
    288Plant operating expense
    
    
    
    
    
    
    38,466
    
    
    
    36
    
    
    
    
    
    
    
    38,502Depreciation expense
    
    
    
    
    
    
    38,881
    
    
    
    343
    
    
    
    
    
    
    
    39,224Total cost of revenue
    
    
    
    
    
    
    461,754
    
    
    
    1,319
    
    
    
    
    
    
    
    463,073Gross profit (loss)
    
    
    (574
    )
    
    
    100,026
    
    
    
    (763
    )
    
    
    
    
    
    
    98,689General and administrative expense
    
    
    243
    
    
    
    1,902
    
    
    
    56
    
    
    
    
    
    
    
    2,201Income (loss) from operations
    
    
    (817
    )
    
    
    98,124
    
    
    
    (819
    )
    
    
    
    
    
    
    96,488Interest income  related party
    
    
    (41,170
    )
    
    
    
    
    
    
    
    
    
    
    41,170
    
    
    
    Interest income
    
    
    (102
    )
    
    
    (342
    )
    
    
    
    
    
    
    
    
    
    
    (444
    )Interest expense  related party
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Interest expense
    
    
    41,170
    
    
    
    40,798
    
    
    
    377
    
    
    
    (41,170
    )
    
    
    41,175Earnings in equity investment
    
    
    55,676
    
    
    
    
    
    
    
    
    
    
    
    (55,676
    )
    
    
    Other (income) expense, net
    
    
    (45
    )
    
    
    796
    
    
    
    
    
    
    
    
    
    
    
    751Income (loss) before income taxes
    
    
    55,006
    
    
    
    56,872
    
    
    
    (1,196
    )
    
    
    (55,676
    )
    
    
    55,006Income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net income (loss)
    
    $
    55,006
    
    
    $
    56,872
    
    
    $
    (1,196
    )
    
    $
    (55,676
    )
    
    $
    55,006
 20




---



##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF OPERATIONS
For the nine months ended September 30, 2004
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedRevenue:Revenue  related party
    
    $
    
    
    
    $
    959,107
    
    
    $
    556
    
    
    $
    
    
    
    $
    959,663Revenue  third party
    
    
    
    
    
    
    344,394
    
    
    
    
    
    
    
    
    
    
    
    344,394Mark-to-market activities, net
    
    
    (2,495
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,495
    )Total revenue
    
    
    (2,495
    )
    
    
    1,303,501
    
    
    
    556
    
    
    
    
    
    
    
    1,301,562Cost of revenue:Fuel expense  related party
    
    
    
    
    
    
    886,424
    
    
    
    940
    
    
    
    
    
    
    
    887,364Fuel expense  third party
    
    
    
    
    
    
    211
    
    
    
    
    
    
    
    
    
    
    
    211Plant operating expense
    
    
    
    
    
    
    137,759
    
    
    
    36
    
    
    
    
    
    
    
    137,795Depreciation expense
    
    
    
    
    
    
    110,617
    
    
    
    343
    
    
    
    
    
    
    
    110,960Total cost of revenue
    
    
    
    
    
    
    1,135,011
    
    
    
    1,319
    
    
    
    
    
    
    
    1,136,330Gross profit (loss)
    
    
    (2,495
    )
    
    
    168,490
    
    
    
    (763
    )
    
    
    
    
    
    
    165,232General and administrative expense
    
    
    532
    
    
    
    7,486
    
    
    
    1,218
    
    
    
    
    
    
    
    9,236Income (loss) from operations
    
    
    (3,027
    )
    
    
    161,004
    
    
    
    (1,981
    )
    
    
    
    
    
    
    155,996Interest expense  related party
    
    
    
    
    
    
    72,026
    
    
    
    147
    
    
    
    
    
    
    
    72,173Interest income  related party
    
    
    (80,035
    )
    
    
    
    
    
    
    
    
    
    
    80,035
    
    
    
    Interest expense
    
    
    80,035
    
    
    
    110,413
    
    
    
    401
    
    
    
    (80,035
    )
    
    
    110,814Interest income
    
    
    (168
    )
    
    
    (1,771
    )
    
    
    
    
    
    
    
    
    
    
    (1,939
    )Loss in equity investment
    
    
    (22,592
    )
    
    
    
    
    
    
    
    
    
    
    22,592
    
    
    
    Other (income)/expense, net
    
    
    (63
    )
    
    
    399
    
    
    
    
    
    
    
    
    
    
    
    336Loss before income taxes
    
    
    (25,388
    )
    
    
    (20,063
    )
    
    
    (2,529
    )
    
    
    22,592
    
    
    
    (25,388
    )Income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net loss
    
    $
    (25,388
    )
    
    $
    (20,063
    )
    
    $
    (2,529
    )
    
    $
    22,592
    
    
    $
    (25,388
    )
 21




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##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF OPERATIONS
For the three months ended September 30, 2003
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedRevenue:Revenue  related party
    
    $
    
    
    
    $
    251,333
    
    
    $
    
    
    
    $
    
    
    
    $
    251,333Revenue  third party
    
    
    
    
    
    
    126,309
    
    
    
    
    
    
    
    
    
    
    
    126,309Mark-to-market activities, net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total revenue
    
    
    
    
    
    
    377,642
    
    
    
    
    
    
    
    
    
    
    
    377,642Cost of revenue:Fuel expense  related party
    
    
    
    
    
    
    238,563
    
    
    
    
    
    
    
    
    
    
    
    238,563Fuel expense  third party
    
    
    
    
    
    
    321
    
    
    
    
    
    
    
    
    
    
    
    321Plant operating expense
    
    
    
    
    
    
    32,145
    
    
    
    
    
    
    
    
    
    
    
    32,145Depreciation expense
    
    
    
    
    
    
    33,943
    
    
    
    
    
    
    
    
    
    
    
    33,943Total cost of revenue
    
    
    
    
    
    
    304,972
    
    
    
    
    
    
    
    
    
    
    
    304,972Gross profit
    
    
    
    
    
    
    72,670
    
    
    
    
    
    
    
    
    
    
    
    72,670General and administrative expense
    
    
    
    
    
    
    1,544
    
    
    
    130
    
    
    
    
    
    
    
    1,674Income (loss) from operations
    
    
    
    
    
    
    71,126
    
    
    
    (130
    )
    
    
    
    
    
    
    70,996Interest expense  related party
    
    
    
    
    
    
    73,704
    
    
    
    136
    
    
    
    
    
    
    
    73,840Interest expense
    
    
    
    
    
    
    16,785
    
    
    
    364
    
    
    
    
    
    
    
    17,149Interest income
    
    
    
    
    
    
    (1,248
    )
    
    
    
    
    
    
    
    
    
    
    (1,248
    )Other (income) expense, net
    
    
    
    
    
    
    (85
    )
    
    
    
    
    
    
    
    
    
    
    (85
    )Loss before income taxes
    
    
    
    
    
    
    (18,030
    )
    
    
    (630
    )
    
    
    
    
    
    
    (18,660
    )Income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net Loss
    
    $
    
    
    
    $
    (18,030
    )
    
    $
    (630
    )
    
    $
    
    
    
    $
    (18,660
    )
 22




---



##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF OPERATIONS
For the nine months ended September 30, 2003
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedRevenue:Revenue  related party
    
    $
    
    
    
    $
    621,763
    
    
    $
    
    
    
    $
    
    
    
    $
    621,763Revenue  third party
    
    
    
    
    
    
    289,808
    
    
    
    3
    
    
    
    
    
    
    
    289,811Mark-to-market activities, net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total revenue
    
    
    
    
    
    
    911,571
    
    
    
    3
    
    
    
    
    
    
    
    911,574Cost of revenue:Fuel expense  related party
    
    
    
    
    
    
    602,612
    
    
    
    
    
    
    
    
    
    
    
    602,612Fuel expense  third party
    
    
    
    
    
    
    4,721
    
    
    
    
    
    
    
    
    
    
    
    4,721Plant operating expense
    
    
    
    
    
    
    107,636
    
    
    
    
    
    
    
    
    
    
    
    107,636Depreciation expense
    
    
    
    
    
    
    87,342
    
    
    
    
    
    
    
    
    
    
    
    87,342Total cost of revenue
    
    
    
    
    
    
    802,311
    
    
    
    
    
    
    
    
    
    
    
    802,311Gross profit
    
    
    
    
    
    
    109,260
    
    
    
    3
    
    
    
    
    
    
    
    109,263General and administrative expense
    
    
    
    
    
    
    3,759
    
    
    
    131
    
    
    
    
    
    
    
    3,890Income (loss) from operations
    
    
    
    
    
    
    105,501
    
    
    
    (128
    )
    
    
    
    
    
    
    105,373Interest expense  related party
    
    
    
    
    
    
    181,046
    
    
    
    540
    
    
    
    
    
    
    
    181,586Interest expense
    
    
    
    
    
    
    41,771
    
    
    
    367
    
    
    
    
    
    
    
    42,138Interest income
    
    
    
    
    
    
    (1,381
    )
    
    
    
    
    
    
    
    
    
    
    (1,381
    )Other expense
    
    
    
    
    
    
    16
    
    
    
    37
    
    
    
    
    
    
    
    53Loss before
income taxes and
cumulative effect of a change
in accounting principle
    
    
    
    
    
    
    (115,951
    )
    
    
    (1,072
    )
    
    
    
    
    
    
    (117,023
    )Income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Loss before cumulative effect of
a change in accounting principle
    
    
    
    
    
    
    (115,951
    )
    
    
    (1,072
    )
    
    
    
    
    
    
    (117,023
    )Cumulative effect of a change in
accounting principle
    
    
    
    
    
    
    (241
    )
    
    
    
    
    
    
    
    
    
    
    (241
    )Net Loss
    
    $
    
    
    
    $
    (116,192
    )
    
    $
    (1,072
    )
    
    $
    
    
    
    $
    (117,264
    )
 23




---



##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF CASH FLOWS
For the nine months ended September 30, 2004
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedCash flows from operating activities:Net loss from operations
    
    $
    (25,388
    )
    
    $
    (20,063
    )
    
    $
    (2,529
    )
    
    $
    22,592
    
    
    $
    (25,388
    )Adjustments to reconcile net loss to net
cash provided by operating activities:Depreciation
expense
    
    
    
    
    
    
    110,617
    
    
    
    343
    
    
    
    
    
    
    
    110,960Amortization
of deferred financing costs and debt discount
    
    
    7,238
    
    
    
    6,633
    
    
    
    605
    
    
    
    (7,238
    )
    
    
    7,238Write-off of deferred financing costs
    
    
    
    
    
    
    12,457
    
    
    
    
    
    
    
    
    
    
    
    12,457Mark-to-market activities, net
    
    
    2,495
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,495Interest on subordinated parent debt
    
    
    
    
    
    
    72,026
    
    
    
    147
    
    
    
    
    
    
    
    72,173Earnings in equity investment
    
    
    22,592
    
    
    
    
    
    
    
    
    
    
    
    (22,592
    )
    
    
    Costs allocated from parent
    
    
    
    
    
    
    3,633
    
    
    
    
    
    
    
    
    
    
    
    3,633Changes in operating assets and liabilities:Accounts receivable
    
    
    
    
    
    
    (5,248
    )
    
    
    
    
    
    
    
    
    
    
    (5,248
    )Accounts receivable  related party
    
    
    (12,660
    )
    
    
    (171,964
    )
    
    
    
    
    
    
    162,619
    
    
    
    (22,005
    )Inventories
    
    
    
    
    
    
    (2,573
    )
    
    
    (151
    )
    
    
    
    
    
    
    (2,724
    )Prepaid expenses and other current assets
    
    
    (48
    )
    
    
    (10,886
    )
    
    
    (1,469
    )
    
    
    
    
    
    
    (12,403
    )Notes receivable and other assets
    
    
    (2,450,822
    )
    
    
    (17,771
    )
    
    
    
    
    
    
    2,450,822
    
    
    
    (17,771
    )Accounts payable
    
    
    13,263
    
    
    
    20,372
    
    
    
    (3,358
    )
    
    
    
    
    
    
    30,277Accounts payable  related party
    
    
    142,505
    
    
    
    7,483
    
    
    
    19,416
    
    
    
    (162,619
    )
    
    
    6,785Accrued interest payable
    
    
    73,269
    
    
    
    69,936
    
    
    
    3,234
    
    
    
    (73,269
    )
    
    
    73,170Other current liabilities
    
    
    
    
    
    
    407
    
    
    
    66
    
    
    
    
    
    
    
    473Net cash
provided by (used in) operating
activities
    
    
    (2,227,556
    )
    
    
    75,059
    
    
    
    16,304
    
    
    
    2,370,315
    
    
    
    234,122Cash flows from investing activities:Change in restricted cash
    
    
    
    
    
    
    152,290
    
    
    
    
    
    
    
    
    
    
    
    152,290Purchase of derivative asset
    
    
    (45,000
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (45,000
    )Additions to property, plant and
equipment, net
    
    
    (704
    )
    
    
    (218,138
    )
    
    
    (44,280
    )
    
    
    696
    
    
    
    (262,426
    )Net cash used in investing activities
    
    
    (45,704
    )
    
    
    (65,848
    )
    
    
    (44,280
    )
    
    
    696
    
    
    
    (155,136
    )Cash flows from financing activities:Financing costs
    
    
    (59,389
    )
    
    
    (56,626
    )
    
    
    (2,763
    )
    
    
    59,389
    
    
    
    (59,389
    )Repayments of
notes payable
    
    
    
    
    
    
    (162
    )
    
    
    
    
    
    
    
    
    
    
    (162
    )Borrowings
from credit facility
    
    
    
    
    
    
    178,995
    
    
    
    
    
    
    
    
    
    
    
    178,995Repayments of credit facility
    
    
    
    
    
    
    (2,379,353
    )
    
    
    
    
    
    
    
    
    
    
    (2,379,353
    )Borrowings
from priority notes and term loans
    
    
    2,393,900
    
    
    
    2,283,896
    
    
    
    110,004
    
    
    
    (2,393,900
    )
    
    
    2,393,900Borrowings
from revolver line of credit
    
    
    117,500
    
    
    
    92,049
    
    
    
    25,451
    
    
    
    (117,500
    )
    
    
    117,500Repayment
of revolver line of credit
    
    
    (81,000
    )
    
    
    (66,444
    )
    
    
    (14,556
    )
    
    
    81,000
    
    
    
    (81,000
    )Borrowings
from subordinated parent debt
    
    
    
    
    
    
    29,935
    
    
    
    16,878
    
    
    
    
    
    
    
    46,813Repayments of subordinated parent debt
    
    
    
    
    
    
    (131,096
    )
    
    
    (107,041
    )
    
    
    
    
    
    
    (238,137
    )Net cash provided by (used in) financing
activities
    
    
    2,371,011
    
    
    
    (48,806
    )
    
    
    27,973
    
    
    
    (2,371,011
    )
    
    
    (20,833
    )Net increase (decrease) in cash
    
    
    97,751
    
    
    
    (39,595
    )
    
    
    (3
    )
    
    
    
    
    
    
    58,153Cash and cash equivalents, beginning of
period
    
    
    
    
    
    
    39,595
    
    
    
    3
    
    
    
    
    
    
    
    39,598Cash and cash equivalents, end of
period
    
    $
    97,751
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    97,751
 24




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##### Table of Contents



SUPPLEMENTAL CONSOLIDATING STATEMENT OF CASH FLOWS
For the nine months ended September 30, 2003
(in thousands) Subsidiary
    
    Other
    
    Consolidating
    
    CalGenParent
    
    Guarantors
    
    Subsidiaries
    
    Adjustments
    
    ConsolidatedCash flows from operating activities:Net loss from operations
    
    $
    
    
    
    $
    (116,192
    )
    
    $
    (1,072
    )
    
    $
    
    
    
    $
    (117,264
    )Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:Depreciation
expense
    
    
    
    
    
    
    87,342
    
    
    
    
    
    
    
    
    
    
    
    87,342Amortization
of deferred financing costs and debt discount
    
    
    
    
    
    
    8,899
    
    
    
    
    
    
    
    
    
    
    
    8,899Interest on subordinated parent debt
    
    
    
    
    
    
    181,046
    
    
    
    540
    
    
    
    
    
    
    
    181,586Change in accounting principle
    
    
    
    
    
    
    241
    
    
    
    
    
    
    
    
    
    
    
    241Costs allocated from parent
    
    
    
    
    
    
    3,636
    
    
    
    
    
    
    
    
    
    
    
    3,636Changes in operating assets and
liabilities:Accounts receivable
    
    
    
    
    
    
    (26,675
    )
    
    
    19
    
    
    
    
    
    
    
    (26,656
    )Accounts receivable  related party
    
    
    
    
    
    
    (28,559
    )
    
    
    
    
    
    
    
    
    
    
    (28,559
    )Inventories
    
    
    
    
    
    
    (3,124
    )
    
    
    
    
    
    
    
    
    
    
    (3,124
    )Prepaid expenses and other current assets
    
    
    
    
    
    
    679
    
    
    
    
    
    
    
    
    
    
    
    679Other assets
    
    
    
    
    
    
    (9,672
    )
    
    
    
    
    
    
    
    
    
    
    (9,672
    )Accounts payable
    
    
    
    
    
    
    11,360
    
    
    
    (3,148
    )
    
    
    
    
    
    
    8,212Accounts payable  related party
    
    
    
    
    
    
    (14,909
    )
    
    
    
    
    
    
    
    
    
    
    (14,909
    )Accrued interest payable
    
    
    
    
    
    
    555
    
    
    
    
    
    
    
    
    
    
    
    555Other current liabilities
    
    
    
    
    
    
    2,533
    
    
    
    9
    
    
    
    
    
    
    
    2,542Net cash
provided by (used in) operating
activities
    
    
    
    
    
    
    97,160
    
    
    
    (3,652
    )
    
    
    
    
    
    
    93,508Cash flows from investing activities:Change in restricted cash
    
    
    
    
    
    
    (85,847
    )
    
    
    
    
    
    
    
    
    
    
    (85,847
    )Additions to property, plant and
equipment, net
    
    
    
    
    
    
    (338,882
    )
    
    
    (26,076
    )
    
    
    
    
    
    
    (364,958
    )Net cash used in investing activities
    
    
    
    
    
    
    (424,729
    )
    
    
    (26,076
    )
    
    
    
    
    
    
    (450,805
    )Cash flows from financing activities:Financing costs
    
    
    
    
    
    
    (3,817
    )
    
    
    
    
    
    
    
    
    
    
    (3,817
    )Repayments of
notes payable
    
    
    
    
    
    
    (147
    )
    
    
    
    
    
    
    
    
    
    
    (147
    )Borrowings
from credit facility
    
    
    
    
    
    
    47,456
    
    
    
    
    
    
    
    
    
    
    
    47,456Repayments of credit facility
    
    
    
    
    
    
    (193,151
    )
    
    
    
    
    
    
    
    
    
    
    (193,151
    )Borrowings
from subordinated parent debt
    
    
    
    
    
    
    477,040
    
    
    
    29,731
    
    
    
    
    
    
    
    506,771Net cash provided by financing activities
    
    
    
    
    
    
    327,381
    
    
    
    29,731
    
    
    
    
    
    
    
    357,112Net increase (decrease) in cash
    
    
    
    
    
    
    (188
    )
    
    
    3
    
    
    
    
    
    
    
    (185
    )Cash and cash equivalents, beginning of
period
    
    
    
    
    
    
    25,643
    
    
    
    
    
    
    
    
    
    
    
    25,643Cash and cash equivalents, end of
period
    
    $
    
    
    
    $
    25,455
    
    
    $
    3
    
    
    $
    
    
    
    $
    25,458
 25




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations In addition to historical information, this report contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of
1934, as amended. We use words such as believe, intend, expect,
anticipate, plan, may, will and similar expressions to identify
forward-looking statements. Such statements include, among others, those
concerning our expected financial performance and strategic and operational
plans, as well as all assumptions, expectations, predictions, intentions or
beliefs about future events. You are cautioned that any such forward-looking
statements are not guarantees of future performance and that a number of risks
and uncertainties could cause actual results to differ materially from those
anticipated in the forward-looking statements. Such risks and uncertainties
include, but are not limited to, (i) the timing and extent of deregulation of
energy markets and the rules and regulations adopted on a transitional basis
with respect thereto, (ii) the timing and extent of changes in commodity prices
for energy, particularly natural gas and electricity, and the impact of related
derivatives transactions, (iii) unscheduled outages of operating plants, (iv)
unseasonable weather patterns that reduce demand for power, (v) economic
slowdowns that can adversely affect consumption of power by businesses and
consumers, (vi) various development and construction risks that may delay or
prevent commercial operations of new plants, such as failure to obtain the
necessary permits to operate, failure of third-party contractors to perform
their contractual obligations or failure to obtain project financing on
acceptable terms, (vii) uncertainties associated with cost estimates, that
actual costs may be higher than estimated, (viii) development of lower-cost
power plants or of a lower cost means of operating a fleet of power plants by
our competitors, (ix) uncertainties associated with estimates of sources and
uses of cash, that actual sources may be lower and actual uses may be higher
than estimated, (x) present and possible future claims, litigation and
enforcement actions, (xi) effects of the application of regulations, including
changes in regulations or the interpretation thereof, (xii)  the
enforeceability of, and continued performance by counter-parties
under, our key contracts, including contracts to which Calpine
Corporation and certain of its subsidiaries are a party;
(xiii) the limited operating history of our power generation
facilities and (xiv) other risks
identified in this report. You should also carefully review the risks described
in other reports that we file with the Securities and Exchange Commission,
including without limitation our Form S-4 filed on July 13, 2004 and amended on
October 19, 2004. We undertake no obligation to update any forward-looking
statements, whether as a result of new information, future developments or
otherwise. We file annual, quarterly and periodic reports and other information with
the SEC. You may obtain and copy any document we file with the SEC at the SECs
public reference room at 450 Fifth Street, N.W., Washington, D.C. 20549. You
may obtain information on the operation of the SECs public reference
facilities by calling the SEC at 1-800-SEC-0330. You can request copies of
these documents, upon payment of a duplicating fee, by writing to the SEC at
its principal office at 450 Fifth Street, N.W., Washington, D.C. 20549-1004.
The SEC maintains an Internet website at http://www.sec.gov that contains
reports, proxy and information statements, and other information regarding
issuers that file electronically with the SEC. Our SEC filings are accessible
through the Internet at that website. Our
reports on Form 10-K, 10-Q and 8-K, and amendments to those
reports are available for download, free of charge, as soon as
reasonably practicable after these reports are filed with the SEC, at
our website at www.calpine.com. You may request a copy of our SEC filings, at no cost to you, by writing
or telephoning us at: Calpine Generating Company, LLC, c/o Calpine Corporation, 50 West San Fernando Street, San
Jose, California 95113, Attention: Lisa M. Bodensteiner, Assistant Secretary,
telephone: (408) 995-5115. We will not send exhibits to the documents, unless
the exhibits are specifically requested and you pay our fee for duplication and
delivery. The financial results discussed below reflect past performance of the
projects that have commenced commercial operation and are not indicative of
future results. As discussed below, in March 2004 we entered into new contractual
arrangements that have materially changed our revenues and
expenses as compared with past periods.
In addition, in the past, our business had been focused on the development and
construction of power facilities. With the exception of the Pastoria
facility, we have completed development and construction of the facilities. General Calpine Generating Company, LLC (CalGen), a Delaware limited liability
company, is an indirect wholly owned subsidiary of Calpine Corporation
(Calpine or the Parent). CalGen is engaged, through its subsidiaries, in
the construction, ownership and operation of electric power generation
facilities and the sale of energy, capacity and related products in the United
States of America. We indirectly own 14 power generation facilities
(collectively, the Projects or the Facilities) that are expected to have an
aggregate consolidated estimated peak capacity of 9,834 megawatts (nominal
8,425 megawatts without peaking capacity) assuming completion of the Pastoria facility currently under construction. Thirteen of our facilities are, or
will be upon completion, natural gas-fired combined cycle facilities, and
one is a natural gas-fired simple cycle facility. Thirteen of our facilities
are currently operating and have an aggregate estimated peak capacity of 9,065
megawatts, which represents approximately 34.2% of Calpines
26,477 megawatts
of aggregate estimated peak capacity. On March 23, 2004, CalGen issued $2.4 billion in debt securities (the
March 23, 2004 Refinancing) to replace the $2.5 billion in debt securities
issued in October 2000 (the Construction Facility). The new debt securities
were issued in various traunches and except for the Third Priority Secured
Notes Due 2011, carry a floating interest rate based on LIBOR plus a spread.
The Third Priority Secured Notes Due 2011 carry a fixed interest rate of 11.5%. Concurrent with the March 23, 2004 Refinancing, CalGen entered into an
agreement for a $200 million revolving credit facility 26




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##### Table of Contents



(the Revolving Credit Facility) with a group of banks led by The Bank of
Nova Scotia and a $750 million unsecured subordinated
working capital facility (the Working Capital Facility) with CalGen
Holdings, Inc., our sole member. In addition, CalGen had previously received
additional financing from Calpine in the form of subordinated debt (the
Subordinated Parent Debt). Effective March 23, 2004, Calpine converted the
Subordinated Parent Debt, totaling approximately $4.4 billion, to equity as a
non-cash capital contribution. We have entered into long-term power sales agreements with a subsidiary of
the Parent, Calpine Energy Services, L.P. (CES), whereby CES purchases
virtually all of the projects available electric energy and capacity (other
than that sold under third-party power and steam agreements) and provides the
facilities substantially all of their required natural gas needs. Prior to the
March 23, 2004 Refinancing, for those fuel contracts for which title of fuel
does not transfer to CalGen, the related power sales agreements were accounted
for as tolling agreements, and the associated fuel costs were presented as a
reduction of the related power revenues. New contracts were executed with CES
that became effective March 23, 2004. These are not considered to be tolling
agreements since title to the gas transfers, therefore, the projects
now record gross revenues and fuel expense. On May 21, 2004 and September 17, 2004, Columbia Energy Center and
Goldendale Energy Center, respectively, commenced commercial operations. The
Columbia facility is a 455-megawatt combined cycle energy center located in
Columbia, South Carolina. The Goldendale facility is a 271-megawatt
combined-cycle energy center located in Goldendale, Washington. Energy
generated by the facility is sold directly into the Northwest Power Pool.
Assets associated with these two facilities were transferred from construction
in progress to building, machinery and equipment upon completion and
commencement of operations. Revenue In connection with the March 23, 2004 Refinancing, CalGen entered into new
power purchase agreements with CES, thereby replacing a significant portion of the revenue agreements in effect prior to
the March 23, 2004 Refinancing. Under the previous arrangement, CES purchased
most of the available capacity and energy of our facilities, including
ancillary services and other generation-based products and services, at
negotiated internal transfer prices agreed upon when the various facilities
commenced operations. In addition, CES supplied substantially all fuel
requirements to the facilities, also at negotiated internal transfer prices.
Under the new agreements with CES, a greater proportion of our energy sales are
at floating prices based on day-ahead energy and gas prices. In addition, we have a number of long-term contracts with third parties
where we generate revenue from the sale of electricity and steam. Expenses Prior
to the March 23, 2004 Refinancing, major expenses consisted of
fuel, plant
operating expense and interest expense on our Construction Facility and
Subordinated Parent Debt. Interest expense on the Subordinated Parent Debt was
recorded through March 23, 2004 and accrued to the subordinated debt balance.
The total balance in Subordinated Parent Debt of $4.4 billion was converted to
equity on March 23, 2004 as a non-cash contribution to capital
by Calpine. After the March 23, 2004, Refinancing, interest
expense consists mainly of interest on the debt securities issued in
the March 23, 2004 refinancing. Operating expenses consist primarily of fixed expenses (operating,
maintenance and general and administrative expenses) and variable expenses
(certain operating and maintenance expenses that fluctuate with the operation
of the facility). Results of Operations Set forth below is a discussion of our results of operations for the three
and nine-month periods ended September 30, 2004 and 2003. The financial results
discussed below reflect past performance of projects that have commenced
commercial operation at varying times over the past three years, but those
results are not indicative of future results. As discussed below, in connection
with the March 23, 2004 Refinancing, we entered into new
contractual arrangements that have materially changed our revenues and
expenses. Three months ended September 30, 2004 compared to three months ended
September 30, 2003 Total revenue increased by $184.1 million to $561.8 million for the three
months ended September 30, 2004, as compared to the three months ended
September 30, 2003. Related-party revenue increased $187.4 million. Major
factors contributing to the increase include revenues associated with fuel cost
at Delta and Los Medanos in the current period as a result of the new contracts
with CES. Prior to the March 23, 2004 Refinancing, these projects contracts
were accounted for as tolling agreements with no fuel component included in
revenues. This accounted for approximately $98.9 million of the revenue
increase. These two projects also experienced continued improved
reliability-must-run (RMR) revenue generating a $13.0 million increase in
the current period. Also contributing to the increase was the addition of the
Carville, Morgan and Columbia plants in 2004, which accounted for $63.9 million 27




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##### Table of Contents



of revenue, and the phase two turbines at Decatur and Oneta added $15.3
million of revenue. Increased prices and megawatt production contributed
another $18.1 million of revenue. These increases were partially offset by a
$21.9 million decrease in revenue
at the Freestone facility related to the loss of capacity revenue
resulting from the new contracts put into place with the March 23, 2004
Refinancing. Total cost of revenue, which includes fuel, plant operating and
depreciation expense increased $158.1 million to $463.1 in the current quarter
compared to $305.0 million in 2003. Fuel expense accounted for approximately $146.5 million of this increase
due in large part to the inclusion of fuel expense for the Delta and Los
Medanos projects subsequent to the March 23, 2004 Refinancing as noted above.
This change amounted to $98.9 million of the increase. The addition of
Carville, Morgan and Columbia increased fuel expense by $28.4 million. The
remaining $19.2 million increase in fuel expense is mainly attributable to
increases in megawatt production in the current quarter versus the prior year
quarter. Plant operating expenses, which include plant operations, maintenance and
taxes and insurance, increased by $6.4 million to $38.5 million. The operation
of Carville, Morgan and Columbia, which commenced operations in the
second half of 2003 or 2004, in the current period accounted for $6.8
million of the increase. In addition, Freestone and Baytown expenses increased
$2.4 million due to scheduled major maintenance in the current quarter. These
increases were partially offset by a decrease in Los Medanos of $2.7 million. Depreciation expense increased by $5.3 million to $39.2 million. The
operation of Carville, Morgan and Columbia, which commenced operations in the
second half of 2003 or 2004, accounted for $4.9 million of the
increase in the current period. Interest expense, net of capitalized amounts, decreased $49.8 million in
the current quarter to $41.2 million versus $91.0 million in the third quarter
of 2003. Related party interest decreased $73.8 million due to the conversion
of $4.4 billion in subordinated parent debt to equity as a non-cash capital
contribution, offset in part by a $24.0 million increase in third-party
interest expense attributable to the March 23, 2004 Refinancing. The net income for the three months ended September 30, 2004 was $55.0
million compared to a net loss for the year ago period of $18.7 million, an
improvement of $73.7 million due to a $26.0 million
increase in gross profit and a
$49.8 million reduction in interest expense, offset by an
increase of $0.5 million in general and administrative
(G&A) expense. Nine months ended September 30, 2004 compared to nine months ended September 30, 2003 Total revenue increased by $390.0 million to $1,301.6 million for the nine
months ended September 30, 2004, as compared to the nine months ended September
30, 2003. Related-party revenue increased $337.9 million mainly due to the
commercial operation of Carville, Morgan and Columbia in 2004 totaling
approximately $115.3 million and additional turbines at Oneta and Decatur
totaling approximately $44.2 million. Delta and Los Medanos began reporting
fuel expense as a result of the new purchase and sale contracts effective with
the March 23, 2004 Refinancing which added approximately $189.3 million to
total revenue in the current period. These increases were partially offset by
decreases in revenues at Baytown of approximately $9.8 million due to scheduled
and unscheduled maintenance and decreases in revenue at Freestone of
approximately $45.2 million related to the loss of capacity revenue resulting
from the new contracts put into place with the March 23, 2004 Refinancing and
scheduled maintenance in the current period. Third party revenue increased
$54.6 million due primarily to the addition of plants and turbines as noted
above amounting to $14.3 million and increases in RMR revenues at Delta
amounting to $11.2 million and increased RMR and steam revenues at Los Medanos
totaling $12.6 million. In addition, revenue increased approximately $16.5
million due to price increases and increases in megawatt production. Total cost of revenue, which includes fuel, plant operating and
depreciation expenses, increased $334.0 million to
$1,136.3 million in the current
nine-month period compared to $802.3 million in 2003. Fuel expense for the first nine months of 2004 increased $280.3 million to
$887.6 million compared to $607.3 million in the prior year. The increase was
primarily due to the addition of Carville, Morgan and Columbia totaling $87.7
million; the addition of a turbine at Oneta, $4.8 million; the elimination of
the tolling arrangement between CES and Delta and Los Medanos added
approximately $189.3 million to fuel expense; and other increases primarily due
to operations of $18.1 million. These increases were partially offset by
decreases at Baytown and Freestone of approximately $19.7 million due to
outages for scheduled major maintenance at Freestone and scheduled and
unscheduled maintenance at Baytown. Plant operating expenses, which include plant operations, maintenance,
taxes and insurance, increased $30.2 million to $137.8 due to the additional
projects and turbines noted above totaling $17.2 million and increases at
Freestone and Baytown of $11.1 million and $6.2 million, respectively, due to
planned major maintenance at Freestone and scheduled and unscheduled
maintenance at Baytown. These increases were partially offset by decreases at
Channel, Corpus Christi and Decatur of $5.2 million, $0.9 million and $0.6 28




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##### Table of Contents



million, respectively. Depreciation expense increased by $23.6 million to $111.0 million due to
the operation of Carville, Morgan and Columbia, totaling
$17.1 million, and the added turbines at Decatur and Oneta totaling $4.6
million. G&A
expense increased $5.3 million in the current
nine month period to $9.2 million primarily due to increases in audit fees
incurred in connection with the March 23, 2004 Refinancing and registration
statement preparation in the amount of $1.6 million. Interest expense, net of capitalized amounts, decreased $40.7 million in
the current period to $183.0 million versus $223.7 million in the first nine
months of 2003. Related party interest decreased $109.4 million due to the
conversion of the Subordinated Parent Debt to equity as a capital contribution
on March 23, 2004 in the amount of $4.4 billion. The increase in third party
interest of $68.7 million reflects three months interest in 2004 related to the
March 23, 2004 Refinancing and its higher outstanding balance and interest
rates compared to the balances and rates under the Construction Facility. The net loss for the nine months ended September 30, 2004 decreased by
$91.9 million to $25.4 million primarily due to the $56.0 million increase in
gross profit, a $40.7 million decrease in interest expense and a $0.6 million
increase in interest income, offset by higher G&A and other expenses of $5.6
million. In addition, CalGen recorded an additional expense of $0.2 million
related to the cumulative effect of a change in accounting principle for the
nine months ended September 30, 2003. Liquidity and Capital Resources General In
October 2000, we entered into the Construction Facility, a four-year, non-recourse credit
agreement for $2.5 billion with a consortium of banks. This revolving credit
facility was utilized to finance the development and construction of our
facilities. As of December 31, 2003, approximately $2.2 billion in borrowings
and $53.2 million in letters of credit attributable to the facilities were
outstanding under this facility. This facility was scheduled to mature in
November 2004. On March 23, 2004, we (i) issued $1,705.0 million in aggregate principal
amount of our original notes, (ii) borrowed $700.0 million in aggregate
principal amount under our term loans, (iii) entered into a three-year $200.0
million revolving credit facility and (iv) entered into a $750.0 million
working capital facility with CalGen Holdings. We repaid the
outstanding indebtedness under the Construction Facility with
the proceeds of the offering of the original notes and borrowings under our
term loan facilities. The post-offering balance sheet for CalGen reflects the
full amount of borrowings under the notes and our term loans and any borrowing
under our revolving credit facility. We funded development of the facilities, in part, with intercompany
loans from Calpine. As of December 31, 2003, there was approximately $4.6
billion in subordinated parent debt outstanding. This intercompany debt bore
interest at 8.75% per annum. The debt was evidenced by a demand note; however,
due to the restriction imposed by the subordination agreement entered into in
connection with our former revolving credit facility, no interest payments were
made with respect to this subordinated parent debt. All of this subordinated
parent debt, which totaled $4.4 billion, was converted to equity as of the
closing of the offering of the original notes. Pastoria
is the only remaining facility under construction. Calpine has agreed to pay all costs and expenses, estimated to be
approximately $99.8 million in the aggregate, necessary to achieve the
commercial operation of the Pastoria facility. Calpine is not, however,
required to pay any other costs or consequential damages (including lost
revenues) or liquidated damages resulting from a delay in achieving mechanical
completion or commercial operation of this facility. Capital Expenditures and Sources Our estimated capital expenditures for 2004 through 2005 include
approximately $99.8 million in construction costs required to complete the
Pastoria facility, and an additional $32.9 million in construction related
costs for the Columbia, Goldendale and Morgan facilities. We also expect to
make capital expenditures in 2004 with respect to operations and maintenance,
including major maintenance, of approximately $21.5 million. We expect to fund
these expenditures through cash on hand (cash and cash equivalents) and operating cash flow, as well as from borrowings
under our revolving credit facility. Actual costs for the projected use of
funds identified above, and net proceeds from the projected sources of funds
identified above, could vary from those estimates, potentially in material
respects. Concurrently with the closing of the offering of the original notes, we
entered into a three-year $200.0 million revolving credit facility. Security
for our revolving credit facility includes first priority security interests in
the same collateral that secures the notes 29




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##### Table of Contents



and our term loans. Our revolving credit facility requires us to comply
with various affirmative and negative covenants, including restrictions on our
ability to incur new debt, make certain investments and acquisitions and sell
our assets, and covenants that require us generally to maintain minimum
interest coverage ratios, as adjusted and a consolidated first priority and
second priority secured lien debt to kilowatt ratio. At September 30, 2004
outstanding borrowings under the revolving credit facility were
$36.5 million and there were $148.7 million of letters of
credit outstanding. Concurrently with the closing of the offering of the original notes, we
entered into a $750.0 million working capital facility with CalGen Holdings. We
may only borrow under our working capital facility in limited circumstances.
Borrowings under our working capital facility bear interest at LIBOR plus 4.0%
and interest will be payable annually in arrears. In addition, borrowings under
our working capital facility are subordinated to our senior indebtedness,
including the notes, our term loans or our revolving credit facility, and will
mature in 2019. Interest will be required to be paid on a current basis. Our
working capital facility may be an additional source of liquidity for us in
certain limited circumstances; however, we do not expect to borrow under our
working capital facility. At September 30, 2004, there were no outstanding
borrowings under the working capital facility. To
manage forward exposure to price fluctuations, in March 2004 we entered into a
three-year
Index Hedge with MSCG. The Index Hedge provides for semi-annual payments to us equal to
the amount, if any, that the aggregate spark spread amount calculated under the
Index Based Gas Sale and Power Purchase Agreement, in each six-month period,
falls below $50.0 million. The Index Hedge is in place until April 1, 2007. We
paid $45.0 million for the Index Hedge. The amount paid includes value of
$38.3 million over the estimated exercise value of the Index
Hedge calculated based on CalGen internally developed models. CalGen
recorded the valuation difference as a component of derivative
assets. In accordance with EITF 02-03: Issues Involved in
Accounting for Derivative Contracts Held for Trading Purposes and
Contracts Involved in Energy Trading and Risk Management
Activities, the valuation difference is accounted for as a
deferred amount that will be amortized to income over the term of the
contract. In connection with a Raw Water Service Agreement (Water Agreement)
entered into with Contra Costa Water District for raw water service through
April 2015, Delta and Los Medanos issued a promissory note valued at $3.5
million for the service connection fee. Payments are due on an annual
basis on April 1st of
each year. The interest rate charged is based on the average rate for the
preceding calendar year for the Local Agency Investment Fund plus 2.5%. The
note is divided as follows: 70% Delta and 30% Los Medanos per the terms of the Water
Agreement. At September 30, 2004 and December 31, 2003, the balance of the note
was $2.3 million and $2.4 million, respectively. We do not expect to need to obtain capital from sources other than
described herein. Under the indentures governing the notes, our ability to
borrow additional indebtedness is severely limited. If a need for capital does
arise, either because our business changes or because the sources on which we
are depending are not available, we may not be able to obtain such capital
under the indentures governing the notes or on terms that are attractive to us.
In addition, timing of the availability of capital is uncertain and is
dependent, in part, on market conditions that are difficult to predict and are
outside of our control. Distributions to Sole Member Under the indentures governing the notes, we are generally permitted to
make distributions to CalGen Holdings, our sole member, out of excess cash flow
generated by operations, provided that no default or event of default exists
and there are no amounts outstanding under our new working capital facility. We
expect that all distributable collections (after the payment of operating
expenses, debt service and deposits to the reserve accounts) will be
distributed to our sole member. Financial Market Risks Derivatives- We are primarily focused on generation of electricity using
gas-fired turbines. As a result, our natural physical commodity position is
short fuel (i.e., natural gas consumer) and long power (i.e., electricity
seller). To manage forward exposure to price fluctuations in these commodities,
we entered into an Index Hedge which is discussed in Note 9 of the Consolidated
Financial Statements. The Index Hedge will provide for semi-annual payments to us equal to the
amount, if any, that the aggregate spark spread amount calculated under the
Index Based Gas Sale and Power Purchase Agreement, in each nine-month period,
falls below $50 million. The hedge is in place until April 1, 2007. The change in fair value of outstanding derivative instruments from
January 1, 2004 through September 30, 2004, is summarized in the table below
(in thousands): Fair value of contracts outstanding at January 1, 2004
    
    $
    Changes in fair value attributable to new contracts
    
    
    45,000Changes in fair value attributable to price movements, net
    
    
    (2,495
    )Fair value of contracts outstanding at September 30, 2004(1)
    
    $
    42,505
   (1)
    
    Net derivative assets are reported in Note 9 of the Notes to the
Consolidated Financial Statements. 30




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The fair value of outstanding derivative instruments at September 30,
2004, based on price source and the period during which the instruments will
mature, are summarized in the table below (in thousands): Fair Value Source
    
    2004
    
    2005-2006
    
    2007-2008
    
    After 2008
    
    TotalPrices actively quoted
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Prices provided by other external sources
    
    
    5,611
    
    
    
    26,722
    
    
    
    2,851
    
    
    
    
    
    
    
    35,184Prices based on models and other
valuation methods
    
    
    
    
    
    
    1,102
    
    
    
    6,219
    
    
    
    
    
    
    
    7,321Total fair value
    
    $
    5,611
    
    
    $
    27,824
    
    
    $
    9,070
    
    
    $
    
    
    
    $
    42,505
 Our risk managers maintain fair value price information derived from
various sources in our risk management systems. The propriety of this
information is validated by our Risk Control group. Prices actively quoted
include validation with prices sourced from commodities exchanges (e.g., New
York Mercantile Exchange). Prices provided by other external sources include
quotes from commodity brokers and electronic trading platforms. Prices based on
models and other valuation methods are validated using quantitative methods. The counterparty credit quality associated with the fair value of
outstanding derivative instruments at September 30, 2004 and the period during
which the instruments will mature are summarized in the table below (in
thousands): Credit Quality (based on Standard & Poor'sRatings as of September 30, 2004)
    
    2004
    
    2005-2006
    
    2007-2008
    
    After 2008
    
    TotalInvestment grade
    
    $
    5,611
    
    
    $
    27,824
    
    
    $
    9,070
    
    
    $
    
    
    
    $
    42,505Non-investment grade
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    No external ratings.
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total fair value
    
    $
    5,611
    
    
    $
    27,824
    
    
    $
    9,070
    
    
    $
    
    
    
    $
    42,505
 The fair value of our outstanding derivative instrument and the fair value
that would be expected after a ten percent adverse price change is shown in the
table below (in thousands): Fair ValueAfter 10%AdverseFair Value
    
    Price ChangeAt September 30, 2004:Other mark-to-market activity
    
    $
    42,505
    
    
    $
    38,721
 The derivative instrument included in this table is the Index Hedge
included in Note 9 of the Notes to the Consolidated Financial Statements.
Valuation of the index hedge depends, to a large degree, upon assumptions about
future gas and power prices. Accordingly, we have calculated the change in fair
value shown above based upon an assumed ten percent increase in power prices
and an assumed ten percent decrease in gas prices. Changes in fair value of the
index hedge economically offset the price risk exposure of our physical assets.
We have included none of the offsetting changes in value of our physical assets
in the table above. The primary factors affecting the fair value of our derivative at any
point in time are (1) the remaining term of the open derivative position; and
(2) changing market prices for electricity and natural gas. The index hedge is
valued using the mean reversion model, and as prices for electricity and
natural gas are among the most volatile of all commodity prices, there may be
material changes in the fair value of our derivative over time, driven both by
price volatility and the realized portion of the derivative asset. Under
Statement of Financial Accounting Standards (SFAS) No. 133, Accounting for Derivative
Instruments and Hedging Activities, the change since the last balance sheet
date in the total value of the derivative is reflected in the statement of
operations as an item (gain or loss) of current earnings. 31




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Debt financing Our new notes, term loans, and revolving credit facility
are subject to market risk. Significant LIBOR increases could have a negative
impact on our future interest expense with respect to our floating-rate
debt(1). The following table summarizes our variable-rate debt exposed to
interest rate risk as of September 30, 2004. All outstanding balances and fair
value are shown net of applicable discount, if any (in thousands): Fair Value2004 (1)
    
    2005
    
    2006
    
    2007
    
    2008
    
    Thereafter
    
    9/30/2004 (2)1-month US$LIBOR weighted average interest rate basis (3)First Priority Secured Floating Rate Notes Due 2009
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    1,175
    
    
    $
    2,350
    
    
    $
    231,475
    
    
    $
    235,000Revolving Credit Facility
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    36,500
    
    
    
    
    
    
    
    
    
    
    
    36,500Total of 1-month US$LIBOR rate debt
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    37,675
    
    
    
    2,350
    
    
    
    231,475
    
    
    
    271,5006-month US$LIBOR weighted average interest rate basis (3)
Third Priority Secured Floating Rate Notes Due 2011
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    680,000
    
    
    
    680,000Total of 6-month US$LIBOR rate debt
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    680,000
    
    
    
    680,000(4)(3)First Priority Secured Term Loans Due 2009
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,000
    
    
    
    6,000
    
    
    
    591,000
    
    
    
    600,000Second Priority Secured Floating Rate Notes Due 2010
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,200
    
    
    
    627,639
    
    
    
    630,839Second Priority Secured Term Loans Due 2010
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    500
    
    
    
    98,068
    
    
    
    98,568Total of variable rate debt as defined at (4) below
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,000
    
    
    
    9,700
    
    
    
    1,316,707
    
    
    
    1,329,407Grand total variable-rate debt instruments
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    40,675
    
    
    $
    12,050
    
    
    $
    2,228,182
    
    
    $
    2,280,907
   (1)
    
    For the three months remaining in 2004.(2)
    
    Fair value equals carrying value.(3)
    
    Actual interest rates include a spread over the basis amount.(4)
    
    Choice of 1-month US $LIBOR, 2-month US $LIBOR, 3-month US $LIBOR, 6-month US $LIBOR, 12-month US $LIBOR or a base rate. Critical Accounting Policies Below are our accounting policies that are both important to our financial
condition and operating results, and require the subjective judgment of
management in determining underlying estimates and assumptions. The estimates
and assumptions affect the reported amounts of assets and liabilities, and
disclosure of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts of revenue and expense during the
reporting period. Actual results could differ from those estimates. We believe
the following reflect the more critical accounting policies that currently
affect our financial condition and results of operations. Accounting for Long-Lived Assets: Property, Plant and Equipment Property, plant and equipment, net, is stated at cost less accumulated
depreciation and amortization. The cost of renewals and betterments that extend
to useful life of property, plant and equipment are also capitalized.
Depreciation and amortization are computed on a straight-line method over the
estimated original composite useful lives of the assets, generally 35 years for
baseload power plants and 40 years for peaker facilities, exclusive of the
estimated salvage value, typically 10 percent of the original cost. Impairment of Long-Lived Assets We evaluate long-lived assets, such as property, plant and equipment, when
events or changes in circumstances indicate that the carrying value of such
assets may not be recoverable. Factors which could trigger an impairment
include significant underperformance relative to historical or projected future
operating results; significant changes in the manner of our use of the
assets or the strategy for our overall business; and significant negative
industry or economic trends. Certain of our generating assets are located in
regions with depressed demands and market spark spreads. Our forecasts assume
that spark spreads will increase in future years in these regions as the supply
and demand relationships improve. The
determination of whether an impairment has occurred is based on
comparing an
estimate of undiscounted cash flows attributable to the assets, to
the carrying value of the assets. The significant assumptions that we use in
our undiscounted future cash flow estimates include the future supply and
demand relationships for electricity and natural gas, and the expected pricing
for those commodities and the resultant spark spreads in the various regions
where we generate. If an impairment has occurred, the amount of the impairment
loss recognized would be determined by estimating the fair value of the assets
and recording a loss if the fair value was less than the book value. Our assessment regarding the existence of impairment factors is based on
market conditions, operational performance and legal factors of our projects.
Our review of factors present and the resulting appropriate carrying value of
our long-lived assets are subject to judgments and estimates that management is
required to make. No impairment charge has been recorded to date for any of our
projects. Future events could cause us to conclude that impairment indicators
exist and that our long-lived assets might be impaired. 32




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Capitalized Interest We capitalize interest using two methods: (1) capitalized interest on
funds borrowed for specific construction projects and (2) capitalized interest
on subordinated parent debt. For capitalization of interest on specific funds,
we capitalize the interest cost incurred related to debt associated with
specific projects under construction. The methodology for capitalizing interest
on subordinated parent debt, consistent with paragraphs 13 and 14 SFAS No. 34,
Capitalization of Interest Cost, as amended by SFAS No. 58, Capitalization
of Interest Cost in Financial Statements That Include Investments Accounted for
by the Equity Method (an Amendment of FASB Statement
No. 34), begins with a
determination of the borrowings applicable to our qualifying assets. The basis
of this approach is the assumption that the portion of the interest costs that
are capitalized on expenditures during an assets
acquisition period could have been avoided if the expenditures had not
been made. This methodology takes the view that if the funds were not required
for construction, then they would have been used to pay off other
debt. Our qualifying assets include construction
in progress. For the three months ended September 30, 2004 and 2003, the amount of
interest capitalized was $8.7 million and $30.3 million, respectively. For the
nine months ended September 30, 2004 and 2003, the amount of interest
capitalized was $51.1 million and $112.5 million, respectively. These amounts
include capitalized amortization expenses. Upon commencement of plant operation, capitalization of
interest ceases. Total capitalized interest, as a component of the total cost
of the plant, is then amortized over the estimated useful life of the plant. Major Maintenance and Capital Spares We capitalize costs for major gas turbine generator refurbishments for
the hot gas path section and compressor components, which includes such
significant items as combustor parts (e.g. fuel nozzles, transition pieces and
baskets) and compressor blades, vanes and diaphragms. These refurbishments
are done either under long-term service agreements by the original equipment
manufacturer or by Calpines Turbine Maintenance Group. The capitalized costs
are depreciated over their estimated useful lives ranging from three to twelve
years. We expense annual planned maintenance. Capital spare parts costs are
capitalized and are generally amortized over a period consistent with the major
maintenance cycles of CalGens plants. Revenue Recognition Capacity revenue is recognized monthly, based on the plants availability,
and energy revenue is recognized upon transmission or delivery to the customer.
In addition to various third-party contracts, we have entered into long-term
power sales agreements with CES, whereby CES purchases virtually all of the
projects available electric energy and capacity (other than that sold under
third-party power and steam agreements) and provides the facilities
substantially all of their required natural gas needs. Prior to the March 23,
2004 Refinancing, for those fuel contracts for which title of fuel does not
transfer to us, the related power sales agreements were accounted for as
tolling agreements, and the associated fuel costs were presented as a reduction
of the related power revenues. New contracts were executed with CES that became
effective March 23, 2004. These are not considered to be tolling agreements
since title to the gas transfers, and as such, the projects will record gross
revenues and fuel expenses. In connection with the new contracts
executed on March 23, 2004, CalGen purchases some of its fuel
from a third-party provider and sells this fuel to CES at cost.
Revenues from these sales are netted against the related fuel
purchase cost. For the nine months ended September 30, 2004,
approximately $35.8 million of revenues were netted against
fuel cost. Income Taxes The projects are owned through single member limited liability companies
that have been appropriately treated as taxable for financial reporting
purposes. For all periods presented, we accounted for income taxes using the
separate return method, pursuant to SFAS No. 109,
Accounting for Income Taxes
(SFAS No. 109). In accordance with SFAS No. 109, we have recorded a
valuation allowance to reduce deferred tax assets to the amount of future tax
benefit that is more likely than not to be realized. Because of significant
historical net losses incurred by us, a valuation allowance has been
established for the entire amount of the excess of deferred tax assets over
deferred tax liabilities generated to date, and accordingly, our tax liability
has been reduced to zero and we have not recorded a tax provision or benefit. New Accounting Pronouncements In January 2003, FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities, an interpretation of ARB 51 (FIN 46). FIN 46
requires the consolidation of entities in which an enterprise absorbs a
majority of the entitys expected losses, receives a majority of the entitys
expected residual returns, or both, as a result of ownership, contractual or
other financial interest in the entity. Historically, entities have generally
been consolidated by an enterprise when it has a controlling financial interest
through ownership of a majority voting interest in the entity. The objectives
of FIN 46 are to provide guidance on the identification of Variable Interest
Entities (VIEs) for which control is achieved through means other than a
ownership of a majority of the voting interest of the entity, and how to
determine which business enterprise (if any), as the primary beneficiary,
should consolidate the VIE. This model for consolidation applies to an entity
in which either (1) the at-risk equity is insufficient to absorb expected
losses without additional subordinated financial support or (2) its at-risk
equity holders as a group are not able to make decisions that have a
significant impact on the success or failure of the entitys ongoing
activities. A variable interest in a VIE, by definition, is an asset, 33




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##### Table of Contents



liability, equity, contractual arrangement or other economic interest that
absorbs the entitys variability. In December 2003, the FASB modified FIN 46 with FIN 46-R to make certain
technical corrections to the standard and to address certain implementation
issues. FIN 46, as originally issued, was effective immediately for VIEs
created or acquired after January 31, 2003. FIN 46-R delayed the effective date
of the interpretation to no later than March 31, 2004, (for calendar-year
enterprises), except for Special Purpose Entities (SPEs) for which the
effective date was December 31, 2003. The determination of whether CalGen or the purchaser of the power in a
long-term power sales or tolling agreement consolidates a
VIE is based on which variable interest holder absorbs the majority of the
risk of the VIE and is, therefore, the primary beneficiary. If a CalGen project
had been deemed a VIE and if the power purchaser was the primary beneficiary because it
absorbs the majority of the CalGen projects risk, CalGen would have been
required to de-consolidate the project. An analysis was performed for CalGen subsidiaries with significant
long-term power sales or tolling agreements. Certain of the CalGen subsidiaries
were deemed to be VIEs and held long-term power sales or tolling
agreements. CalGen qualitatively determined that power sales or tolling
agreements less than 10 years in length and for less than 50% of the entitys
capacity would not cause the power purchaser to be the primary beneficiary, due
to the length of the economic life of the underlying assets. As all of CalGens
contracts are of this nature, CalGen is deemed to absorb a majority of the
entitys variability and, accordingly, continues to consolidate the assets and
liabilities of all of the Projects. The Company qualitatively
determined that power sales or tolling agreements with a term for
less than one-third of the facilitys remaining useful life or for
less than 50% of the entitys capacity would not cause the power
purchaser to be the Primary Beneficiary, due to the length of the
economic life of the underlying assets. An integral part of applying FIN 46-R is determining which economic
interests are variable interests. In order for an interest to be considered a
variable interest, it must absorb variability of changes in the fair value of
the VIEs underlying net assets. Questions have arisen regarding (a) how to
determine whether an interest absorbs variability, and (b) whether the nature
of how a long position is created, either synthetically through derivative
transactions or through cash transactions, should affect the assessment of
whether an interest is a variable interest. EITF Issue No. 04-7: Determining
Whether an Interest Is a Variable Interest in a Potential Variable Interest
Entity (EITF Issue No. 04-7) is still in the discussion phase, but will
eventually provide a model to assist in determining whether an economic
interest in a VIE is a variable interest. The Task Forces discussions on this
Issue have centered around whether the variability should be based on whether
(a) the interest absorbs fair value variability, (b) the interest absorbs cash
flow variability, or (c) the interest absorbs both fair value and cash flow
variability. The final conclusions reached on this issue may impact the
Companys methodology used in making quantitative assessments of the
variability of the Companys wholly owned subsidiaries that have entered into
longer term power sales agreements with third parties. However, until the EITF
reaches a final consensus, the effects of this issue on the Companys financial
statements is indeterminable. 
 Item 3. Quantitative and Qualitative Disclosure About Market Risk See Financial Market Risks in Item 2. 
 Item 4. Controls and Procedures The Companys senior management, including the Companys Chief Executive
Officer and Chief Financial Officer, evaluated the effectiveness of the
Companys disclosure controls and procedures as of the end of the period
covered by this quarterly report. Based upon this evaluation, the Companys
Chairman, President and Chief Executive Officer along with the Companys
Executive Vice President and Chief Financial Officer concluded that the
Companys disclosure controls and procedures are effective in ensuring that
information we are required to disclose in reports that we file or submit under
the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in Securities and Exchange
Commission rules and forms. There was no change in our internal control over
financial reporting that occurred during the period covered by this Quarterly
Report on Form 10-Q that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting. The
certificates required by this item are filed as Exhibit 31 to this Form 10-Q. 
 PART II  OTHER INFORMATION 
 Item 1. Legal Proceedings The
Company is party to various litigation matters arising out of the
normal course of business, the more significant of which are
summarized below. The ultimate outcome of each of these matters
cannot presently be determined, nor can the liability that could
potentially result form a negative outcome be reasonably estimated
presently for every case. The liability the Company may ultimately
incur with respect to any one of these matters in the event of a
negative outcome may be in excess of amounts currently accrued with
respect to such matters and, as a result of these matters, may
potentially be material to the Companys consolidated financial
statements. 34




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Gary E. Jones, et al v. Calpine Corporation On September 11, 2003, the
Estate of Darrell Jones and the Estate of Cynthia Jones filed a complaint
against Calpine in the U.S. District Court, Western District of Washington.
Calpine purchased Goldendale Energy, Inc, a Washington corporation, from
Darrell Jones of National Energy Service Company (NESCO). The agreement provided, among other things, that upon
substantial completion of the Goldendale facility, Calpine would pay Mr. Jones
(i) $6.0 million and (ii) $18.0 million less $0.2 million per day for each day
that elapsed between July 1, 2002 and the date of substantial completion.
Substantial completion of the Goldendale facility occurred September 2004 and
the daily reduction in the payment amount has reduced the $18.0 million payment
to zero. Calpine has made the $6 million payment to the estates. The complaint
alleges that by not achieving substantial completion by July 1, 2002, Calpine
breached its contract with Mr. Jones, violated a duty of good faith and fair
dealing, and caused an inequitable forfeiture. The complaint seeks damages in
an unspecified amount in excess of $0.075 million. On July 28, 2003, Calpine
filed a motion to dismiss the complaint for failure to state a claim upon which
relief can be granted. By order of the court dated March 10, 2004, plaintiffs
claims were dismissed with prejudice. Plaintiff filed a motion for
reconsideration which was denied. Subsequently, on September 7, 2004,
plaintiffs filed a notice of appeal. Calpine filed a motion to recover
attorneys fees from NESCO, which was recently granted at a reduced amount.
Calpine held back $0.1 million of the $6 million payment to ensure payment of
those fees. Solutia Bankruptcy Solutia, Inc. (Decatur steam host) filed for
bankruptcy on December 17, 2003. Effective May 27, 2004, Solutia Inc. rejected
certain cogeneration agreements relating to the sale of steam and supply of
electricity and entered into a term sheet with Decatur confirming the agreement
of the parties with respect to property rights going forward. By executing this
term sheet, Decatur has secured all necessary rights to continue operating the
plant. The parties are in active discussions to attempt to reach a negotiated
settlement on the rejection damage claim but if such discussions are not
successful, Decatur maintains the rights to litigate the amount of the damage
claim. The bankruptcy court has set a bar date of November 30, 2004, for claims
and Decatur will file its proofs of claim on or before this date. The parties
entered into an amended and restated agreement setting forth their respective
rights and obligations going forward pursuant to the term sheet that the
bankruptcy court approved on June 30, 2004. Panda Energy International Inc., et al. v. Calpine Corporation et al. On
November 5, 2003, Panda Energy International, Inc. and certain related parties,
including PLC II, LLC, (collectively Panda) filed suit against Calpine and
certain of its affiliates alleging, among other things, that Calpine breached
duties of care and loyalty allegedly owed to Panda by failing to correctly
construct and operate the Oneta Energy Center (Oneta) power plant, which
Calpine acquired from Panda, in accordance with Pandas original plans. Panda
alleges that it is entitled to a portion of the profits of the Oneta plant and
that Calpines actions have reduced the profits from the Oneta plant thereby
undermining Pandas ability to repay monies owed to Calpine on December 1,
2003, under a promissory note on which approximately $38.6 million (including
accrued interest net of reserve) is currently outstanding and past due. Calpine has filed a
counterclaim against Panda Energy International, Inc. (and PLC II, LLC) based
on a guaranty, and has also filed a motion to dismiss as to the causes of
action alleging federal and state securities laws violations. The motion to
dismiss is currently pending before the court. On August 17, 2004, the case was
transferred to a different judge, which will likely delay the ruling on the
motion to dismiss. However, at the present time, Calpine cannot estimate the
potential loss, if any, that might arise from this matter. Calpine considers
Pandas lawsuit to be without merit and intends to defend vigorously against
it. Discovery is currently in progress. Calpine stopped accruing interest
income on the promissory note due December 1, 2003, as of the due date because
of Pandas default on repayment of the note. In
addition, the Company is involved in various other claims and legal
actions arising out of the normal course of its business. The Company
does not expect that the outcome of these proceedings will have a
material adverse effect on its financial position or results of
operations. 
 Item 6. Exhibits The following exhibits are filed herewith unless otherwise indicated: EXHIBIT INDEX ExhibitNumber
    
    Description10.1
    
    Third Amendment to Index Based Gas Sale and Power Purchase Agreement, dated August 1, 2004, among
Calpine Energy Services, L.P. and Calpine Generating Company, LLC and each of its subsidiaries
named therein.*31.1
    
    Certification of the Chairman, President and Chief Executive Officer pursuant to Rule 13a-14(a)
or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of the Executive Vice President and Chief Financial Officer pursuant to Rule
13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
   *
    
    Incorporated by reference to Exhibit
No. 10.10 to the registrants registration statement on
Form S-4 (File No. 333-117335)
    
    Filed herewith 35




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##### Table of Contents



SIGNATURES Pursuant
to the requirements of the Securities Exchange Act of 1934, each of the
registrants has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. Calpine Generating Company, LLCCalGen
Finance Corp.By: /s/ ROBERT D. KELLYRobert D. KellyExecutive Vice President andChief Financial Officer(Principal Financial Officer)
 Date: November 16, 2004 By: /s/ CHARLES B. CLARK, JR.Charles B. Clark, Jr.Senior Vice President,Chief Accounting Officer and Controller(Principal Accounting Officer)
 Date: November 16, 2004 36




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##### Table of Contents



EXHIBIT INDEX ExhibitNumber
    
    Description10.1
    
    Third Amendment to Index Based Gas Sale and Power Purchase Agreement, dated August 1, 2004, among
Calpine Energy Services, L.P. and Calpine Generating Company, LLC and each of its subsidiaries
named therein.*31.1
    
    Certification of the Chairman, President and Chief Executive Officer pursuant to Rule 13a-14(a)
or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of the Executive Vice President and Chief Financial Officer pursuant to Rule
13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
   *
    
    Incorporated by reference to Exhibit
No. 10.10 to the registrants registration statement on
Form S-4 (File No. 333-117335)
    
    Filed herewith