##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
  þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the quarterly period ended September 30, 2006
 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 0-368
 OTTER TAIL CORPORATION
  Minnesota
    
    41-0462685(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)
 215 South Cascade Street, Box 496, Fergus Falls, Minnesota
    
    56538-0496(Address of principal executive offices)
    
    (Zip Code)
 (Registrants telephone number, including area code)
 (Former name, former address and former fiscal year, if changed since last report.)
 þ o
  þ o o
 o þ
  October 31, 2006  29,505,159 Common Shares ($5 par value)




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##### 



OTTER TAIL CORPORATION
 INDEX
 Page No.Part I.
    
    Financial InformationItem 1.
    
    Financial StatementsConsolidated Balance Sheets  September 30, 2006 and December 31, 2005 (not audited)
    
    
    2 & 3Consolidated Statements of Income  Three and Nine Months Ended September 30, 2006 and 2005 (not audited)
    
    
    4Consolidated Statements of Cash Flows  Nine Months Ended September 30, 2006 and 2005 (not audited)
    
    
    5Notes to Consolidated Financial Statements (not audited)
    
    
    6-22Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    23-40Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    41-43Item 4.
    
    Controls and Procedures
    
    
    43Part II.
    
    Other InformationItem 1.
    
    Legal Proceedings
    
    
    44Item 1A.
    
    Risk Factors
    
    
    44Item 6.
    
    Exhibits
    
    
    45Signatures
    
    
    
    
    45CertificationCertificationCertificationCertification




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Financial Statements
 Otter Tail Corporation
 
 Consolidated Balance Sheets
  -Assets-
 September 30,
    
    
    December 31,2006
    
    
    2005(Thousands of dollars)Current assetsCash and cash equivalents
    
    $
    7,999
    
    
    $
    5,430Accounts receivable:Tradenet
    
    
    130,421
    
    
    
    117,796Other
    
    
    9,599
    
    
    
    11,790Inventories
    
    
    106,601
    
    
    
    88,677Deferred income taxes
    
    
    6,967
    
    
    
    6,871Accrued utility revenues
    
    
    20,091
    
    
    
    22,892Costs and estimated earnings in excess of billings
    
    
    41,733
    
    
    
    21,542Other
    
    
    14,360
    
    
    
    16,476Assets of discontinued operations
    
    
    409
    
    
    
    13,701Total current assets
    
    
    338,180
    
    
    
    305,175Investments and other assets
    
    
    36,992
    
    
    
    33,824Goodwillnet
    
    
    98,110
    
    
    
    98,110Other intangiblesnet
    
    
    20,360
    
    
    
    21,160Deferred debitsUnamortized debt expense and reacquisition premiums
    
    
    6,193
    
    
    
    6,520Regulatory assets and other deferred debits
    
    
    17,259
    
    
    
    19,616Total deferred debits
    
    
    23,452
    
    
    
    26,136PlantElectric plant in service
    
    
    921,642
    
    
    
    910,766Nonelectric operations
    
    
    235,893
    
    
    
    228,548Total plant
    
    
    1,157,535
    
    
    
    1,139,314Less accumulated depreciation and amortization
    
    
    472,876
    
    
    
    459,438Plantnet of accumulated depreciation and amortization
    
    
    684,659
    
    
    
    679,876Construction work in progress
    
    
    37,042
    
    
    
    17,215Net plant
    
    
    721,701
    
    
    
    697,091Total
    
    $
    1,238,795
    
    
    $
    1,181,496
  2




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##### Table of Contents



Otter Tail Corporation
Consolidated Balance Sheets   -Liabilities-
 September 30,
    
    
    December 31,2006
    
    
    2005(Thousands of dollars)Current liabilitiesShort-term debt
    
    $
    54,037
    
    
    $
    16,000Current maturities of long-term debt
    
    
    3,087
    
    
    
    3,340Accounts payable
    
    
    115,118
    
    
    
    97,239Accrued salaries and wages
    
    
    25,684
    
    
    
    24,326Accrued federal and state income taxes
    
    
    2,108
    
    
    
    8,449Other accrued taxes
    
    
    10,008
    
    
    
    12,518Other accrued liabilities
    
    
    16,248
    
    
    
    14,124Liabilities of discontinued operations
    
    
    187
    
    
    
    10,983Total current liabilities
    
    
    226,477
    
    
    
    186,979Pensions benefit liability
    
    
    24,397
    
    
    
    23,216Other postretirement benefits liability
    
    
    28,033
    
    
    
    26,982Other noncurrent liabilities
    
    
    17,137
    
    
    
    18,683Deferred creditsDeferred income taxes
    
    
    112,351
    
    
    
    113,737Deferred investment tax credit
    
    
    8,467
    
    
    
    9,327Regulatory liabilities
    
    
    65,343
    
    
    
    61,624Other
    
    
    1,430
    
    
    
    1,500Total deferred credits
    
    
    187,591
    
    
    
    186,188CapitalizationLong-term debt, net of current maturities
    
    
    256,223
    
    
    
    258,260Class B stock options of subsidiary
    
    
    1,258
    
    
    
    1,258Cumulative preferred shares
authorized 1,500,000 shares without par value;

outstanding 2006 and 2005  155,000 shares
    
    
    15,500
    
    
    
    15,500Cumulative preference shares  authorized 1,000,000
shares without par value; outstanding  none
    
    
    
    
    
    
    Common shares, par value $5 per share 
authorized 50,000,000 shares; 
outstanding 2006  29,499,053 and 2005  29,401,223
    
    
    147,495
    
    
    
    147,006Premium on common shares
    
    
    98,124
    
    
    
    96,768Unearned compensation
    
    
    
    
    
    
    (1,720
    )Retained earnings
    
    
    242,392
    
    
    
    228,515Accumulated other comprehensive loss
    
    
    (5,832
    )
    
    
    (6,139
    )Total common equity
    
    
    482,179
    
    
    
    464,430Total capitalization
    
    
    755,160
    
    
    
    739,448Total
    
    $
    1,238,795
    
    
    $
    1,181,496
  3




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##### Table of Contents



Otter Tail Corporation
 
 Consolidated Statements of Income
  Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands, except share and
    
    
    (In thousands, except share andper share amounts)
    
    
    per share amounts)Operating revenuesElectric
    
    $
    71,206
    
    
    $
    85,770
    
    
    $
    227,308
    
    
    $
    233,403Non-electric
    
    
    209,336
    
    
    
    175,417
    
    
    
    590,945
    
    
    
    489,667Total operating revenues
    
    
    280,542
    
    
    
    261,187
    
    
    
    818,253
    
    
    
    723,070Operating expensesProduction fuel  electric
    
    
    15,846
    
    
    
    14,485
    
    
    
    42,108
    
    
    
    40,211Purchased power  electric system use
    
    
    8,590
    
    
    
    13,295
    
    
    
    44,990
    
    
    
    44,737Electric operation and maintenance expenses
    
    
    26,433
    
    
    
    23,383
    
    
    
    77,889
    
    
    
    72,635Cost of goods sold  non-electric (excludes depreciation; included below)
    
    
    161,148
    
    
    
    135,662
    
    
    
    449,905
    
    
    
    372,894Other non-electric expenses
    
    
    29,543
    
    
    
    26,428
    
    
    
    85,097
    
    
    
    74,712Depreciation and amortization
    
    
    12,552
    
    
    
    11,720
    
    
    
    37,155
    
    
    
    34,658Property taxes  electric
    
    
    2,260
    
    
    
    2,735
    
    
    
    7,429
    
    
    
    7,816Total operating expenses
    
    
    256,372
    
    
    
    227,708
    
    
    
    744,573
    
    
    
    647,663Operating income
    
    
    24,170
    
    
    
    33,479
    
    
    
    73,680
    
    
    
    75,407Other income
    
    
    1,060
    
    
    
    1,071
    
    
    
    2,147
    
    
    
    1,472Interest charges
    
    
    5,078
    
    
    
    4,633
    
    
    
    14,622
    
    
    
    14,007Income from continuing operations before income taxes
    
    
    20,152
    
    
    
    29,917
    
    
    
    61,205
    
    
    
    62,872Income taxes  continuing operations
    
    
    6,676
    
    
    
    10,749
    
    
    
    21,737
    
    
    
    21,676Net income from continuing operations
    
    
    13,476
    
    
    
    19,168
    
    
    
    39,468
    
    
    
    41,196Discontinued operations(Loss) income from discontinued operations net of taxes of
$0; ($391); $28 and ($161) for the respective periods
    
    
    
    
    
    
    (589
    )
    
    
    26
    
    
    
    (252
    )Goodwill impairment loss
    
    
    
    
    
    
    (1,003
    )
    
    
    
    
    
    
    (1,003
    )Net gain on disposition of discontinued operations  net of taxes of
$0; $17; $224 and $5,786 for the respective periods
    
    
    
    
    
    
    27
    
    
    
    336
    
    
    
    9,937Net income from discontinued operations
    
    
    
    
    
    
    (1,565
    )
    
    
    362
    
    
    
    8,682Net income
    
    
    13,476
    
    
    
    17,603
    
    
    
    39,830
    
    
    
    49,878Preferred dividend requirements
    
    
    183
    
    
    
    185
    
    
    
    551
    
    
    
    552Earnings available for common shares
    
    $
    13,293
    
    
    $
    17,418
    
    
    $
    39,279
    
    
    $
    49,326Basic earnings per common share:Continuing operations (net of preferred dividend requirement)
    
    $
    0.45
    
    
    $
    0.65
    
    
    $
    1.33
    
    
    $
    1.39Discontinued operations
    
    $
    
    
    
    $
    (0.05
    )
    
    $
    0.01
    
    
    $
    0.30$
    0.45
    
    
    $
    0.60
    
    
    $
    1.34
    
    
    $
    1.69Diluted earnings per common share:Continuing operations (net of preferred dividend requirement)
    
    $
    0.45
    
    
    $
    0.64
    
    
    $
    1.31
    
    
    $
    1.39Discontinued operations
    
    $
    
    
    
    $
    (0.05
    )
    
    $
    0.01
    
    
    $
    0.29$
    0.45
    
    
    $
    0.59
    
    
    $
    1.32
    
    
    $
    1.68Average number of common shares outstanding  basic
    
    
    29,412,526
    
    
    
    29,245,640
    
    
    
    29,377,158
    
    
    
    29,176,625Average number of common shares outstanding  diluted
    
    
    29,805,897
    
    
    
    29,441,410
    
    
    
    29,764,752
    
    
    
    29,289,438Dividends per common share
    
    $
    0.2875
    
    
    $
    0.2800
    
    
    $
    0.8625
    
    
    $
    0.8400
  4




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##### Table of Contents



Otter Tail Corporation
 
 Consolidated Statements of Cash Flows
  Nine months endedSeptember 30,2006
    
    
    2005(Thousands of dollars)Cash flows from operating activitiesNet income
    
    $
    39,830
    
    
    $
    49,878Adjustments to reconcile net income to net cash
provided by operating activities:Net gain from sale of discontinued operations
    
    
    (336
    )
    
    
    (9,937
    )(Income) loss from discontinued operations
    
    
    (26
    )
    
    
    1,255Depreciation and amortization
    
    
    37,155
    
    
    
    34,658Deferred investment tax credit
    
    
    (860
    )
    
    
    (864
    )Deferred income taxes
    
    
    52
    
    
    
    (1,854
    )Change in deferred debits and other assets
    
    
    (564
    )
    
    
    3,310Discretionary contribution to pension plan
    
    
    (4,000
    )
    
    
    (4,000
    )Change in noncurrent liabilities and deferred credits
    
    
    4,552
    
    
    
    4,466Allowance for equity (other) funds used during construction
    
    
    (611
    )
    
    
    (601
    )Change in derivatives net of regulatory deferral
    
    
    3,364
    
    
    
    (2,927
    )Stock compensation expense
    
    
    1,871
    
    
    
    1,885Other  net
    
    
    (123
    )
    
    
    349Cash (used for) provided by current assets and current liabilities:Change in receivables
    
    
    (9,063
    )
    
    
    (7,605
    )Change in inventories
    
    
    (17,663
    )
    
    
    (7,682
    )Change in other current assets
    
    
    (19,260
    )
    
    
    (9,370
    )Change in payables and other current liabilities
    
    
    12,248
    
    
    
    (7,840
    )Change in interest and income taxes payable
    
    
    (3,831
    )
    
    
    (3,996
    )Net cash provided by continuing operations
    
    
    42,735
    
    
    
    39,125Net cash provided by discontinued operations
    
    
    1,011
    
    
    
    3,117Net cash provided by operating activities
    
    
    43,746
    
    
    
    42,242Cash flows from investing activitiesCapital expenditures
    
    
    (53,291
    )
    
    
    (42,150
    )Proceeds from disposal of noncurrent assets
    
    
    3,623
    
    
    
    3,923Acquisitionsnet of cash acquired
    
    
    
    
    
    
    (11,223
    )(Increases) decreases in other investments
    
    
    (3,540
    )
    
    
    3,369Net cash used in investing activities  continuing operations
    
    
    (53,208
    )
    
    
    (46,081
    )Net proceeds from the sales of discontinued operations
    
    
    1,898
    
    
    
    33,685Net cash provided by investing activities  discontinued operations
    
    
    
    
    
    
    559Net cash used in investing activities
    
    
    (51,310
    )
    
    
    (11,837
    )Cash flows from financing activitiesChange in checks written in excess of cash
    
    
    (11
    )
    
    
    1,970Net short-term borrowings
    
    
    38,037
    
    
    
    (6,950
    )Proceeds from issuance of common stock, net of issuance expenses
    
    
    1,634
    
    
    
    8,266Payments for retirement of common stock
    
    
    (463
    )
    
    
    (365
    )Proceeds from issuance of long-term debt
    
    
    142
    
    
    
    339Debt issuance expenses
    
    
    (302
    )
    
    
    Payments for retirement of long-term debt
    
    
    (2,523
    )
    
    
    (5,304
    )Dividends paid
    
    
    (25,954
    )
    
    
    (25,060
    )Net cash provided by (used in) financing activities  continuing operations
    
    
    10,560
    
    
    
    (27,104
    )Net cash used in financing activities  discontinued operations
    
    
    
    
    
    
    (2,996
    )Net cash provided by (used in) financing activities
    
    
    10,560
    
    
    
    (30,100
    )Effect of foreign exchange rate fluctuations on cash
    
    
    (427
    )
    
    
    (305
    )Net change in cash and cash equivalents
    
    
    2,569
    
    
    
    Cash and cash equivalents at beginning of period  continuing operations
    
    
    5,430
    
    
    
    Cash and cash equivalents at end of period  continuing operations
    
    $
    7,999
    
    
    $
    Supplemental cash flow informationCash paid during the year from continuing operations for:Interest (net of amount capitalized)
    
    $
    11,419
    
    
    $
    11,321Income taxes
    
    $
    28,967
    
    
    $
    26,625Cash paid during the year from discontinued operations for:Interest
    
    $
    91
    
    
    $
    118Income taxes
    
    $
    423
    
    
    $
    2,293
  5




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##### Table of Contents



OTTER TAIL CORPORATION
 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
   Revenue Recognition
    September 30,
    
    
    December 31,(in thousands)
    
    2006
    
    
    2005Costs incurred on uncompleted contracts
    
    $
    224,633
    
    
    $
    194,076Less billings to date
    
    
    (240,269
    )
    
    
    (203,862
    )Plus estimated earnings recognized
    
    
    26,782
    
    
    
    22,834$
    11,146
    
    
    $
    13,048
 6




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##### Table of Contents



September 30,
    
    
    December 31,(in thousands)
    
    2006
    
    
    2005Costs and estimated earnings in excess of billings on uncompleted contracts
    
    $
    41,733
    
    
    $
    21,542Billings in excess of costs and estimated earnings on uncompleted contracts
    
    
    (30,587
    )
    
    
    (8,494
    )$
    11,146
    
    
    $
    13,048
 Adjustments and Reclassifications
  Inventories
  September 30,
    
    
    December 31,(in thousands)
    
    2006
    
    
    2005Finished goods
    
    $
    45,429
    
    
    $
    38,928Work in process
    
    
    9,546
    
    
    
    7,146Raw material, fuel and supplies
    
    
    51,626
    
    
    
    42,603$
    106,601
    
    
    $
    88,677
 Goodwill and Other Intangible Assets
   September 30, 2006
    
    
    December 31, 2005Gross
    
    
    
    
    
    
    Net
    
    
    Gross
    
    
    
    
    
    
    Netcarrying
    
    
    Accumulated
    
    
    carrying
    
    
    carrying
    
    
    Accumulated
    
    
    carrying(in thousands)
    
    amount
    
    
    amortization
    
    
    amount
    
    
    amount
    
    
    amortization
    
    
    amountAmortized intangible assets:Covenants not to compete
    
    $
    2,198
    
    
    $
    1,734
    
    
    $
    464
    
    
    $
    2,338
    
    
    $
    1,620
    
    
    $
    718Customer relationships
    
    
    10,599
    
    
    
    910
    
    
    
    9,689
    
    
    
    10,575
    
    
    
    583
    
    
    
    9,992Other intangible assets including contracts
    
    
    2,083
    
    
    
    1,229
    
    
    
    854
    
    
    
    2,785
    
    
    
    1,680
    
    
    
    1,105Total
    
    $
    14,880
    
    
    $
    3,873
    
    
    $
    11,007
    
    
    $
    15,698
    
    
    $
    3,883
    
    
    $
    11,815Non-amortized intangible assets:Brand/trade name
    
    $
    9,353
    
    
    $
    
    
    
    $
    9,353
    
    
    $
    9,345
    
    
    $
    
    
    
    $
    9,345
 7




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##### Table of Contents



Comprehensive Income
 Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Net income
    
    $
    13,476
    
    
    $
    17,603
    
    
    $
    39,830
    
    
    $
    49,878Other comprehensive income (net-of-tax)Minimum pension liability adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,263
    )Foreign currency translation (loss) gain
    
    
    (19
    )
    
    
    666
    
    
    
    545
    
    
    
    407Unrealized (loss) on cash flow hedges
    
    
    (271
    )
    
    
    
    
    
    
    (271
    )
    
    
    Unrealized gain (loss) on available-for-sale securities
    
    
    45
    
    
    
    (15
    )
    
    
    33
    
    
    
    (21
    )Total other comprehensive income
    
    
    (245
    )
    
    
    651
    
    
    
    307
    
    
    
    (877
    )Total comprehensive income
    
    $
    13,231
    
    
    $
    18,254
    
    
    $
    40,137
    
    
    $
    49,001
  New Accounting Standards
 SFAS No. 123(R) (revised 2004), Share-Based Payment, Accounting for Stock-based Compensation Accounting for Stock Issued to Employees Share-based Payments
 SFAS No. 155, Accounting for Certain Hybrid Financial Instruments, Accounting for Derivative Instruments and Hedging Activities Application of Statement 133
to Beneficial Interests in Securitized Financial Assets Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities
 8




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FASB Interpretation (FIN) No. 48 Accounting for Uncertainty in Income Taxes  an interpretation of
FASB Statement No. 109, Accounting for Income Taxes
 SFAS No. 157 Fair Value Measurements
 SFAS No. 158 Employers Accounting for Defined Benefit Pension and Other Postretirement Plans Accounting for the Effects of Certain Types of Regulation
 Securities and Exchange Commission Staff Accounting Bulletin (SAB) No. 108 Considering the Effects
of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,
 9




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Segment Information
          10




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##### Table of Contents



Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Electric
    
    $
    71,206
    
    
    $
    85,770
    
    
    $
    227,308
    
    
    $
    233,403Plastics
    
    
    45,941
    
    
    
    45,462
    
    
    
    136,731
    
    
    
    113,621Manufacturing
    
    
    76,667
    
    
    
    59,803
    
    
    
    226,555
    
    
    
    183,190Health services
    
    
    35,432
    
    
    
    30,653
    
    
    
    100,341
    
    
    
    89,775Food ingredient processing
    
    
    11,474
    
    
    
    9,808
    
    
    
    30,635
    
    
    
    27,297Other business operations
    
    
    40,739
    
    
    
    30,805
    
    
    
    99,397
    
    
    
    78,781Intersegment eliminations
    
    
    (917
    )
    
    
    (1,114
    )
    
    
    (2,714
    )
    
    
    (2,997
    )Total
    
    $
    280,542
    
    
    $
    261,187
    
    
    $
    818,253
    
    
    $
    723,070
  Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Electric
    
    $
    9,982
    
    
    $
    24,351
    
    
    $
    29,958
    
    
    $
    43,906Plastics
    
    
    7,645
    
    
    
    4,873
    
    
    
    23,450
    
    
    
    13,230Manufacturing
    
    
    4,146
    
    
    
    1,459
    
    
    
    14,849
    
    
    
    10,678Health services
    
    
    543
    
    
    
    1,898
    
    
    
    2,044
    
    
    
    5,282Food ingredient processing
    
    
    (1,768
    )
    
    
    505
    
    
    
    (5,156
    )
    
    
    2,114Other business operations*
    
    
    (396
    )
    
    
    (3,169
    )
    
    
    (3,940
    )
    
    
    (12,338
    )Total
    
    $
    20,152
    
    
    $
    29,917
    
    
    $
    61,205
    
    
    $
    62,872
 
 *
    
    Other business operations includes unallocated corporate expenses of $2,606,000 and
$3,224,000 for the three months ended September 30, 2006 and 2005, respectively, and
$8,645,000 and $11,078,000 for the nine months ended September 30, 2006 and 2005,
respectively.  September 30,
    
    
    December 31,(in thousands)
    
    2006
    
    
    2005Electric
    
    $
    663,349
    
    
    $
    654,175Plastics
    
    
    81,502
    
    
    
    76,573Manufacturing
    
    
    219,118
    
    
    
    177,969Health services
    
    
    65,636
    
    
    
    67,066Food ingredient processing
    
    
    96,004
    
    
    
    96,023Other business operations
    
    
    112,777
    
    
    
    95,989Discontinued operations
    
    
    409
    
    
    
    13,701Total
    
    $
    1,238,795
    
    
    $
    1,181,496
  11




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##### Table of Contents



Three months ended
    
    Nine months endedSeptember 30,
    
    September 30,(in thousands)
    
    2006
    
    2005
    
    2006
    
    2005United States of America
    
    
    96.8
    %
    
    
    97.8
    %
    
    
    97.0
    %
    
    
    97.9
    %Canada
    
    
    1.4
    %
    
    
    0.8
    %
    
    
    1.5
    %
    
    
    1.0
    %All other countries
    
    
    1.8
    %
    
    
    1.4
    %
    
    
    1.5
    %
    
    
    1.1
    %
 Rate and Regulatory Matters
    12




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13




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##### Table of Contents



Regulatory Assets and Liabilities
 Accounting for the Effect of Certain Types of
Regulation
  September 30,
    
    
    December 31,(in thousands)
    
    2006
    
    
    2005Regulatory assets:Deferred income taxes
    
    $
    14,718
    
    
    $
    16,724Accrued cost-of-energy revenue
    
    
    11,529
    
    
    
    10,400Reacquisition premiums
    
    
    2,768
    
    
    
    2,995Deferred marked-to-market losses
    
    
    1,722
    
    
    
    1,423Deferred conservation program costs
    
    
    546
    
    
    
    1,064Accumulated ARO accretion/depreciation adjustment
    
    
    279
    
    
    
    209Plant acquisition costs
    
    
    163
    
    
    
    196Total regulatory assets
    
    $
    31,725
    
    
    $
    33,011Regulatory liabilities:Accumulated reserve for estimated removal costs
    
    $
    58,056
    
    
    $
    52,582Deferred income taxes
    
    
    5,412
    
    
    
    5,961Deferred marked-to-market gains
    
    
    1,723
    
    
    
    2,925Gain on sale of division office building
    
    
    152
    
    
    
    156Total regulatory liabilities
    
    $
    65,343
    
    
    $
    61,624Net regulatory liability position
    
    $
    33,618
    
    
    $
    28,613
 Accounting for Income Taxes Unamortized debt expense and reacquisition premiums Accrued utility revenues
  14




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##### Table of Contents



Share-based Payments
 Share-Based Payment, Accounting for Stock-based Compensation Accounting for
Stock Issued to Employees Unearned compensation Premium on common shares.
    1999 Employee Stock Purchase Plan, as Amended (Purchase Plan)
   Stock Options Granted Under the Incentive Plan
  15




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##### Table of Contents



Three months ended
    
    
    Nine months ended(in thousands)
    
    September 30, 2005
    
    
    September 30, 2005Net incomeAs reported
    
    $
    17,603
    
    
    $
    49,878Total stock-based employee compensation expense
determined under fair value based method for all
stock option awards net of related tax effects
    
    
    (213
    )
    
    
    (497
    )Pro forma
    
    $
    17,390
    
    
    $
    49,381Basic earnings per share:As reported
    
    
    $0.60
    
    
    
    $1.69Pro forma
    
    
    $0.59
    
    
    
    $1.67Diluted earnings per share:As reported
    
    
    $0.59
    
    
    
    $1.68Pro forma
    
    
    $0.58
    
    
    
    $1.67
   AggregateWeighted average
    
    
    intrinsic valueOptions
    
    
    Exercise price
    
    
    (000s)Outstanding, January 1, 2006
    
    
    1,237,164
    
    
    
    $25.58Granted
    
    
    Exercised
    
    
    85,523
    
    
    
    $22.85
    
    
    
    $   614Forfeited
    
    
    28,468
    
    
    
    $28.90
    
    
    
    $     52Outstanding, September 30, 2006
    
    
    1,123,173
    
    
    
    $25.71
    
    
    
    $4,652Exercisable, September 30, 2006
    
    
    1,081,085
    
    
    
    $25.65
    
    
    
    $4,556
 16




---



##### Table of Contents



Options outstanding
    
    
    Options exercisableWeighted-average
    
    
    Weighted-
    
    
    
    
    
    
    Weighted-Outstanding
    
    
    remaining
    
    
    average
    
    
    Exercisable
    
    
    averageRange of
    
    as of
    
    
    contractual
    
    
    exercise
    
    
    as of
    
    
    exerciseexercise prices
    
    9/30/06
    
    
    life (yrs)
    
    
    price
    
    
    9/30/06
    
    
    price$18.80-$21.94
    
    
    261,871
    
    
    
    3.0
    
    
    $
    19.49
    
    
    
    261,871
    
    
    $
    19.49$21.95-$25.07
    
    
    61,350
    
    
    
    8.5
    
    
    $
    24.93
    
    
    
    61,350
    
    
    $
    24.93$25.08-$28.21
    
    
    580,952
    
    
    
    5.3
    
    
    $
    26.52
    
    
    
    538,864
    
    
    $
    26.47$28.22-$31.34
    
    
    219,000
    
    
    
    5.5
    
    
    $
    31.19
    
    
    
    219,000
    
    
    $
    31.19
 Restricted Stock Granted to Directors
   Weighted averagegrant-dateShares
    
    
    fair valueNonvested, January 1, 2006
    
    
    27,000
    
    
    $
    24.59Granted
    
    
    19,800
    
    
    $
    28.24Vested (fair value: $376,000)
    
    
    14,025
    
    
    $
    26.82Forfeited
    
    
    Nonvested, September 30, 2006
    
    
    32,775
    
    
    $
    27.27
 17




---



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Restricted Stock Granted to Employees
  Unearned compensation, Premium on common shares
  Weighted averagereporting-dateShares
    
    
    fair valueNonvested, January 1, 2006
    
    
    72,974
    
    
    $
    28.91Granted
    
    
    Vested (fair value: $1,167,000)
    
    
    41,308
    
    
    $
    28.25Forfeited
    
    
    Nonvested, September 30, 2006
    
    
    31,666
    
    
    $
    29.52
 Restricted Stock Units Granted to Employees
  18




---



##### Table of Contents



Restricted
    
    
    Aggregate grant-datestock
    
    
    fair valueunits
    
    
    (000s)Outstanding, January 1, 2006
    
    
    
    
    
    $
    Granted
    
    
    47,425
    
    
    
    1,205Converted
    
    
    7,450
    
    
    
    220Forfeited
    
    
    1,105
    
    
    
    27Outstanding, September 30, 2006
    
    
    38,870
    
    
    $
    958
  Stock Performance Awards granted to Executive Officers
   19




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##### Table of Contents



Maximum
    
    Shares
    
    Amount of expense
    
    Amount of expenseshares
    
    used to
    
    during the three
    
    during the ninePerformance
    
    subject
    
    estimate
    
    months ended
    
    months endedperiod
    
    to award
    
    expense
    
    September 30,
    
    September 30,2006
    
    2005
    
    2006
    
    20052004-2006
    
    
    70,500
    
    
    
    23,500
    
    
    $
    47,000
    
    
    $
    101,000
    
    
    $
    140,000
    
    
    $
    423,0002005-2007
    
    
    75,150
    
    
    
    50,872
    
    
    
    94,000
    
    
    
    223,000
    
    
    
    281,000
    
    
    
    393,0002006-2008
    
    
    88,050
    
    
    
    58,700
    
    
    
    127,000
    
    
    
    
    
    
    
    381,000
    
    
    
    Total
    
    
    233,700
    
    
    
    133,072
    
    
    $
    268,000
    
    
    $
    324,000
    
    
    $
    802,000
    
    
    $
    816,000
  Class B Stock Options and Class B Stock of Subsidiary
  Common Shares and Earnings per Share
    Options Outstanding
    
    Range of Exercises PricesThree Months Ended September 30, 2006
    
    213,000
    
    $29.74 - $31.34Three Months Ended September 30, 2005
    
    234,374
    
    $29.74 - $31.34Nine Months Ended September 30, 2006
    
    213,000
    
    $29.74 - $31.34Nine Months Ended September 30, 2005
    
    409,749
    
    $27.245 - $31.34
 20




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##### Table of Contents



Pension Plan and Other Postretirement Benefits
 Pension Plan
 Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Service costbenefit earned during the period
    
    $
    1,373
    
    
    $
    1,313
    
    
    $
    3,793
    
    
    $
    3,381Interest cost on projected benefit obligation
    
    
    2,738
    
    
    
    2,413
    
    
    
    7,826
    
    
    
    7,309Expected return on assets
    
    
    (3,086
    )
    
    
    (3,040
    )
    
    
    (9,216
    )
    
    
    (9,032
    )Amortization of prior-service cost
    
    
    185
    
    
    
    805
    
    
    
    557
    
    
    
    1,286Amortization of net actuarial loss
    
    
    627
    
    
    
    
    
    
    
    1,383
    
    
    
    Net periodic pension cost
    
    $
    1,837
    
    
    $
    1,491
    
    
    $
    4,343
    
    
    $
    2,944
  Executive Survivor and Supplemental Retirement Plan
 Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Service costbenefit earned during the period
    
    $
    107
    
    
    $
    111
    
    
    $
    320
    
    
    $
    295Interest cost on projected benefit obligation
    
    
    325
    
    
    
    318
    
    
    
    977
    
    
    
    950Amortization of prior-service cost
    
    
    18
    
    
    
    17
    
    
    
    53
    
    
    
    53Recognized net actuarial loss
    
    
    118
    
    
    
    145
    
    
    
    354
    
    
    
    353Net periodic pension cost
    
    $
    568
    
    
    $
    591
    
    
    $
    1,704
    
    
    $
    1,651
 Postretirement Benefits
 Three months ended
    
    
    Nine months endedSeptember 30,
    
    
    September 30,(in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Service costbenefit earned during the period
    
    $
    321
    
    
    $
    342
    
    
    $
    989
    
    
    $
    964Interest cost on projected benefit obligation
    
    
    643
    
    
    
    574
    
    
    
    1,917
    
    
    
    1,906Amortization of transition obligation
    
    
    187
    
    
    
    187
    
    
    
    561
    
    
    
    561Amortization of prior-service cost
    
    
    (77
    )
    
    
    (76
    )
    
    
    (229
    )
    
    
    (230
    )Amortization of net actuarial loss
    
    
    151
    
    
    
    215
    
    
    
    417
    
    
    
    527Effect of Medicare Part D expected subsidy
    
    
    (571
    )
    
    
    (424
    )
    
    
    (1,157
    )
    
    
    (826
    )Net periodic postretirement benefit cost
    
    $
    654
    
    
    $
    818
    
    
    $
    2,498
    
    
    $
    2,902
 21




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##### Table of Contents



Discontinued Operations
 Accounting for the Impairment or Disposal of Long-Lived Assets
  Three months endedSeptember 30, 2005OTESCO(in thousands)
    
    GAS
    
    SGS
    
    CLC
    
    TotalOperating revenues
    
    $
    11,471
    
    
    $
    213
    
    
    $
    1,868
    
    
    $
    13,552(Loss) before income taxes
    
    
    (1,145
    )
    
    
    (161
    )
    
    
    (677
    )
    
    
    (1,983
    )Gain on disposition  pretax
    
    
    
    
    
    
    44
    
    
    
    
    
    
    
    44Income tax (benefit)
    
    
    (57
    )
    
    
    (47
    )
    
    
    (270
    )
    
    
    (374
    )
 Nine months ended
    
    
    Nine months endedSeptember 30, 2006
    
    
    September 30, 2005OTESCO
    
    
    OTESCO(in thousands)
    
    GAS
    
    
    GAS
    
    MIS
    
    SGS
    
    CLC
    
    TotalOperating revenues
    
    $
    28,234
    
    
    
    $
    38,099
    
    
    $
    3,773
    
    
    $
    6,542
    
    
    $
    5,640
    
    
    $
    54,054Income (loss) before income taxes
    
    
    54
    
    
    
    
    (1,163
    )
    
    
    2,167
    
    
    
    (1,724
    )
    
    
    (696
    )
    
    
    (1,416
    )Gain (loss) on disposition  pretax
    
    
    560
    
    
    
    
    
    
    
    
    19,025
    
    
    
    (3,002
    )
    
    
    (300
    )
    
    
    15,723Income tax expense (benefit)
    
    
    252
    
    
    
    
    (64
    )
    
    
    7,975
    
    
    
    (1,890
    )
    
    
    (396
    )
    
    
    5,625
  September 30, 2006
    
    
    
    December 31, 2005OTESCO(in thousands)
    
    SGS
    
    
    
    Gas
    
    
    SGS
    
    
    CLC
    
    
    TotalCurrent assets
    
    $
    409
    
    
    
    $
    11,384
    
    
    $
    857
    
    
    $
    1,455
    
    
    $
    13,696Investments and other assets
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5
    
    
    
    5Assets of discontinued operations
    
    $
    409
    
    
    
    $
    11,384
    
    
    $
    857
    
    
    $
    1,460
    
    
    $
    13,701Current liabilities
    
    $
    187
    
    
    
    $
    10,611
    
    
    $
    328
    
    
    $
    44
    
    
    $
    10,983Liabilities of discontinued operations
    
    $
    187
    
    
    
    $
    10,611
    
    
    $
    328
    
    
    $
    44
    
    
    $
    10,983
  22




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##### Table of Contents



Managements Discussion and Analysis of Financial Condition and Results of
Operations
 RESULTS OF OPERATIONS
 Comparison of the Three Months Ended September 30, 2006 and 2005
    Three months endedSeptember 30,(in thousands)
    
    2006
    
    2005Operating revenues
    
    $
    917
    
    
    $
    1,114Cost of goods sold
    
    
    359
    
    
    
    710Other nonelectric expenses
    
    
    558
    
    
    
    404
 Electric
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeRetail sales revenues
    
    $
    59,694
    
    
    $
    61,481
    
    
    $
    (1,787
    )
    
    
    (2.9
    )Wholesale revenues
    
    
    6,099
    
    
    
    17,467
    
    
    
    (11,368
    )
    
    
    (65.1
    )Net marked-to-market gain
    
    
    (207
    )
    
    
    2,406
    
    
    
    (2,613
    )
    
    
    (108.6
    )Other revenues
    
    
    5,620
    
    
    
    4,416
    
    
    
    1,204
    
    
    
    (27.3
    )Total operating revenues
    
    $
    71,206
    
    
    $
    85,770
    
    
    $
    (14,564
    )
    
    
    (17.0
    )Production fuel
    
    
    15,846
    
    
    
    14,485
    
    
    
    1,361
    
    
    
    9.4Purchased power  system use
    
    
    8,590
    
    
    
    13,295
    
    
    
    (4,705
    )
    
    
    (35.4
    )Other operation and maintenance expenses
    
    
    26,433
    
    
    
    23,383
    
    
    
    3,050
    
    
    
    13.0Depreciation and amortization
    
    
    6,430
    
    
    
    6,084
    
    
    
    346
    
    
    
    5.7Property taxes
    
    
    2,260
    
    
    
    2,735
    
    
    
    (475
    )
    
    
    (17.4
    )Operating income
    
    $
    11,647
    
    
    $
    25,788
    
    
    $
    (14,141
    )
    
    
    (54.8
    )
 23




---



##### Table of Contents



24




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##### Table of Contents



Plastics
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    45,941
    
    
    $
    45,462
    
    
    $
    479
    
    
    
    1.1Cost of goods sold
    
    
    34,172
    
    
    
    37,684
    
    
    
    (3,512
    )
    
    
    (9.3
    )Operating expenses
    
    
    3,284
    
    
    
    1,974
    
    
    
    1,310
    
    
    
    66.4Depreciation and amortization
    
    
    693
    
    
    
    629
    
    
    
    64
    
    
    
    10.2Operating income
    
    $
    7,792
    
    
    $
    5,175
    
    
    $
    2,617
    
    
    
    50.6
  Manufacturing
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    76,667
    
    
    $
    59,803
    
    
    $
    16,864
    
    
    
    28.2Cost of goods sold
    
    
    61,315
    
    
    
    49,074
    
    
    
    12,241
    
    
    
    24.9Operating expenses
    
    
    6,563
    
    
    
    5,493
    
    
    
    1,070
    
    
    
    19.5Depreciation and amortization
    
    
    2,845
    
    
    
    2,497
    
    
    
    348
    
    
    
    13.9Operating income
    
    $
    5,944
    
    
    $
    2,739
    
    
    $
    3,205
    
    
    
    117.0
  
    
    Revenues at DMI Industries, Inc. (DMI) increased $16.6 million, of which $8.6 million is
related to the new Ft. Erie plant, as a result of increases in production and sales
activity.
    
    Revenues at ShoreMaster increased $1.4 million between the quarters mainly as a result
of price increases driven by higher material costs, especially aluminum.
    
    Revenues at T.O. Plastics decreased $0.1 million as a result of a slight decrease in
unit sales between the quarters.
 25




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##### Table of Contents




    
    Revenues at BTD Manufacturing, Inc. (BTD) decreased $1.0 million mainly as a result of a
7.8% decrease in units sold between the quarters.
  
    
    DMIs cost of goods sold increased $12.9 million between the quarters, including $10.0
million in material cost increases. The increase in cost of goods sold is directly related
to the increase in DMIs production and sales activity.
    
    Cost of goods sold at ShoreMaster increased $1.1 million between the quarters as a
result of increases in aluminum, subcontractor, labor and benefit costs.
    
    Cost of goods sold at T.O. Plastics decreased $0.1 million as a result of a decrease in
material costs related to a slight decrease in unit sales between the quarters.
    
    Cost of goods sold at BTD decreased $1.7 million between the quarters mainly due to a
decrease in material costs related to the decrease in unit sales between the quarters.
  
    
    Operating expenses at DMI increased $0.6 million as a result of increases in labor,
advertising and professional service expenses mainly related to operations at the new Ft.
Erie plant.
    
    ShoreMasters operating expenses increased $0.3 million as a result of an increase in
bad debt expense between the quarters.
    
    T.O. Plastics operating expenses increased $0.1 million mostly in sales-related expenses.
    
    BTDs operating expenses were essentially flat between the quarters.
  Health Services
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    35,432
    
    
    $
    30,653
    
    
    $
    4,779
    
    
    
    15.6Cost of goods sold
    
    
    28,100
    
    
    
    21,795
    
    
    
    6,305
    
    
    
    28.9Operating expenses
    
    
    5,686
    
    
    
    5,798
    
    
    
    (112
    )
    
    
    (1.9
    )Depreciation and amortization
    
    
    897
    
    
    
    973
    
    
    
    (76
    )
    
    
    (7.8
    )Operating income
    
    $
    749
    
    
    $
    2,087
    
    
    $
    (1,338
    )
    
    
    (64.1
    )
  26




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##### Table of Contents



Food Ingredient Processing
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    11,474
    
    
    $
    9,808
    
    
    $
    1,666
    
    
    
    17.0Cost of goods sold
    
    
    11,409
    
    
    
    7,625
    
    
    
    3,784
    
    
    
    49.6Operating expenses
    
    
    728
    
    
    
    752
    
    
    
    (24
    )
    
    
    (3.2
    )Depreciation and amortization
    
    
    939
    
    
    
    873
    
    
    
    66
    
    
    
    7.6Operating (loss) income
    
    $
    (1,602
    )
    
    $
    558
    
    
    $
    (2,160
    )
    
    
    (387.1
    )
  Other Business Operations
 Three months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    40,739
    
    
    $
    30,805
    
    
    $
    9,934
    
    
    
    32.2Cost of goods sold
    
    
    26,511
    
    
    
    20,194
    
    
    
    6,317
    
    
    
    31.3Operating expenses
    
    
    13,840
    
    
    
    12,815
    
    
    
    1,025
    
    
    
    8.0Depreciation and amortization
    
    
    748
    
    
    
    664
    
    
    
    84
    
    
    
    12.7Operating loss
    
    $
    (360
    )
    
    $
    (2,868
    )
    
    $
    2,508
    
    
    
    (87.4
    )
  
    
    Revenues at Foley Company increased $9.2 million in the third quarter of 2006 compared
to the third quarter of 2005 due to an increase in the volume of work performed between the
periods.
    
    Revenues at E.W. Wylie Corporation (Wylie) increased $1.1 million between the quarters
due to a 4.8% net increase in miles driven by owner-operated and company-operated trucks.
Miles driven by owner-operated trucks increased 45.4% while miles driven by
company-operated trucks decreased 14.1%, between the quarters. Wylies increased revenues
also reflect higher rates related to increased fuel costs recovered through fuel surcharges
between the periods for both owner-operated and company-operated trucks.
 27




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##### Table of Contents




    
    Revenues at Midwest Construction Services, Inc. (MCS) decreased $0.3 million between the
quarters.
 
  
    
    Foley Companys cost of goods sold increased $8.1 million mainly in the areas of
construction materials, subcontractor and labor and benefit costs as a result of increased
volume of work performed between the periods.
    
    Cost of goods sold at MCS decreased $1.8 million mainly due to a reduction in material
and labor costs between the quarters mostly related to a job completed in 2005 which had
higher than expected costs.
  
    
    Wylies revenue increase was offset by a $1.1 million increase in contractor costs
related to higher fuel costs combined with an increase in miles driven by owner-operated
trucks between the periods.
    
    Foley Companys operating expenses increased $0.4 million between the quarters, mainly
as a result of increases in compensation costs.
    
    Other operating expenses in this segment decreased $0.5 million between the quarters
mainly related to a gain on the sale of property owned by our subsidiary that owns
substantially all of our nonelectric companies.
 Income Taxes  Continuing Operations
  Discontinued Operations
  Three months endedSeptember 30, 2005(in thousands)
    
    OTESCO Gas
    
    
    SGS
    
    
    CLC
    
    
    Total(Loss) before income taxes
    
    $
    (1,145
    )
    
    $
    (161
    )
    
    $
    (677
    )
    
    $
    (1,983
    )Gain on disposition  pretax
    
    
    
    
    
    
    44
    
    
    
    
    
    
    
    44Income tax (benefit)
    
    
    (57
    )
    
    
    (47
    )
    
    
    (270
    )
    
    
    (374
    )Net (loss)
    
    $
    (1,088
    )
    
    $
    (70
    )
    
    $
    (407
    )
    
    $
    (1,565
    )
 28




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##### Table of Contents



Comparison of the Nine Months Ended September 30, 2006 and 2005
   Nine months endedSeptember 30,(in thousands)
    
    2006
    
    2005Operating revenues
    
    $
    2,714
    
    
    $
    2,997Cost of goods sold
    
    
    1,127
    
    
    
    1,663Other nonelectric expenses
    
    
    1,587
    
    
    
    1,334
 Electric
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeRetail sales revenues
    
    $
    194,858
    
    
    $
    184,328
    
    
    $
    10,530
    
    
    
    5.7Wholesale revenues
    
    
    18,395
    
    
    
    31,824
    
    
    
    (13,429
    )
    
    
    (42.2
    )Net marked-to-market gain
    
    
    144
    
    
    
    3,509
    
    
    
    (3,365
    )
    
    
    (95.9
    )Other revenues
    
    
    13,911
    
    
    
    13,742
    
    
    
    169
    
    
    
    1.2Total operating revenues
    
    $
    227,308
    
    
    $
    233,403
    
    
    $
    (6,095
    )
    
    
    (2.6
    )Production fuel
    
    
    42,108
    
    
    
    40,211
    
    
    
    1,897
    
    
    
    4.7Purchased power  system use
    
    
    44,990
    
    
    
    44,737
    
    
    
    253
    
    
    
    0.6Other operation and maintenance expenses
    
    
    77,889
    
    
    
    72,635
    
    
    
    5,254
    
    
    
    7.2Depreciation and amortization
    
    
    19,234
    
    
    
    18,287
    
    
    
    947
    
    
    
    5.2Property taxes
    
    
    7,429
    
    
    
    7,816
    
    
    
    (387
    )
    
    
    (5.0
    )Operating income
    
    $
    35,658
    
    
    $
    49,717
    
    
    $
    (14,059
    )
    
    
    (28.2
    )
  29




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30




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##### Table of Contents



Plastics
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    136,731
    
    
    $
    113,621
    
    
    $
    23,110
    
    
    
    20.3Cost of goods sold
    
    
    103,794
    
    
    
    92,765
    
    
    
    11,029
    
    
    
    11.9Operating expenses
    
    
    6,790
    
    
    
    4,943
    
    
    
    1,847
    
    
    
    37.4Depreciation and amortization
    
    
    2,101
    
    
    
    1,848
    
    
    
    253
    
    
    
    13.7Operating income
    
    $
    24,046
    
    
    $
    14,065
    
    
    $
    9,981
    
    
    
    71.0
  Manufacturing
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    226,555
    
    
    $
    183,190
    
    
    $
    43,365
    
    
    
    23.7Cost of goods sold
    
    
    178,970
    
    
    
    145,952
    
    
    
    33,018
    
    
    
    22.6Operating expenses
    
    
    19,668
    
    
    
    16,247
    
    
    
    3,421
    
    
    
    21.1Depreciation and amortization
    
    
    8,124
    
    
    
    7,047
    
    
    
    1,077
    
    
    
    15.3Operating income
    
    $
    19,793
    
    
    $
    13,944
    
    
    $
    5,849
    
    
    
    41.9
  
    
    Revenues at DMI increased $39.7 million as a result of increases in production and sales
activity due in part to plant additions, including initial operations at the Ft. Erie
facilities, and continued improvements in productivity and capacity utilization.
    
    Revenues at ShoreMaster increased $3.6 million between the periods due to the
acquisition of Southeast Floating Docks in May 2005 and price increases driven by higher
material costs, especially aluminum.
 31




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##### Table of Contents




    
    Revenues at T.O. Plastics increased $1.1 million between the periods as a result of a
1.9% increase in unit sales combined with an 11.6% increase in revenue per unit sold.
    
    Revenues at BTD decreased $1.0 million mainly as a result of a 6.9% decrease in units
sold between the periods.
  
    
    DMIs cost of goods sold increased $32.2 million between the periods, including
increases of $24.1 million in material costs, $5.9 million in labor and benefit costs and
$2.0 in tools and supplies expenditures. The increase in cost of goods sold is directly
related to the increase in DMIs production and sales activity and start up costs at its
Ft. Erie facilities.
    
    Cost of goods sold at ShoreMaster increased $2.6 million between the periods as a result
of increases in labor, material (especially aluminum) and other direct costs and the
acquisition of Southeast Floating Docks in May 2005.
    
    Cost of goods sold at T.O. Plastics increased $1.4 million, reflecting $1.1 million in
material cost increases and $0.4 million in increased labor costs between the periods
related to a 1.9% increase in unit sales.
    
    Cost of goods sold at BTD decreased $3.4 million between the periods due to a $2.1
million decrease in material costs and a $1.4 million decrease in labor costs between the
periods. The decrease in material costs is related to a 6.9% decrease in unit sales. The
decrease in labor costs is related to a reduction in the number of production employees and
a decrease in overtime pay between the periods. Productivity gains at BTD were achieved
through efforts to better utilize and allocate available labor resources.
  
    
    Operating expenses at DMI increased $1.9 million as a result of increases in labor,
professional services and maintenance expenses mainly related to start-up costs at the Ft.
Erie plant.
    
    ShoreMasters operating expenses increased $0.7 million as a result of increases in bad
debt and sales related expenses.
    
    An increase in incentive accruals contributed to a $0.4 million increase in BTDs
operating expenses between the periods.
    
    T.O. Plastics operating expenses increased $0.4 million due to a reduction in gains on
sales of fixed assets related to fixed asset sales in the second quarter of 2005 and
increases in labor and payroll tax expenses.
  32




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##### Table of Contents



Health Services
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    100,341
    
    
    $
    89,775
    
    
    $
    10,566
    
    
    
    11.8Cost of goods sold
    
    
    78,147
    
    
    
    64,882
    
    
    
    13,265
    
    
    
    20.4Operating expenses
    
    
    16,768
    
    
    
    15,983
    
    
    
    785
    
    
    
    4.9Depreciation and amortization
    
    
    2,733
    
    
    
    3,050
    
    
    
    (317
    )
    
    
    (10.4
    )Operating income
    
    $
    2,693
    
    
    $
    5,860
    
    
    $
    (3,167
    )
    
    
    (54.0
    )
  Food Ingredient Processing
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    30,635
    
    
    $
    27,297
    
    
    $
    3,338
    
    
    
    12.2Cost of goods sold
    
    
    30,419
    
    
    
    20,731
    
    
    
    9,688
    
    
    
    46.7Operating expenses
    
    
    2,203
    
    
    
    1,831
    
    
    
    372
    
    
    
    20.3Depreciation and amortization
    
    
    2,805
    
    
    
    2,519
    
    
    
    286
    
    
    
    11.4Operating (loss) income
    
    $
    (4,792
    )
    
    $
    2,216
    
    
    $
    (7,008
    )
    
    
    (316.2
    )
  33




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##### Table of Contents



Other Business Operations
 Nine months endedSeptember 30,
    
    
    
    
    
    
    %(in thousands)
    
    2006
    
    
    2005
    
    
    Change
    
    
    ChangeOperating revenues
    
    $
    99,397
    
    
    $
    78,781
    
    
    $
    20,616
    
    
    
    26.2Cost of goods sold
    
    
    59,702
    
    
    
    50,227
    
    
    
    9,475
    
    
    
    18.9Operating expenses
    
    
    41,255
    
    
    
    37,042
    
    
    
    4,213
    
    
    
    11.4Depreciation and amortization
    
    
    2,158
    
    
    
    1,907
    
    
    
    251
    
    
    
    13.2Operating loss
    
    $
    (3,718
    )
    
    $
    (10,395
    )
    
    $
    6,677
    
    
    
    (64.2
    )
  
    
    Revenues at Foley Company increased $20.3 million in the first nine months of 2006
compared to the first nine months of 2005 due to an increase in the volume of work
performed between the periods.
    
    Revenues at Wylie increased $3.8 million between the periods mainly due to a 6.8% net
increase in miles driven by owner-operated and company-operated trucks. Miles driven by
owner-operated trucks increased 51.9% while miles driven by company-operated trucks
decreased 11.2% between the periods. Wylies increased revenues also reflect higher rates
related to increased fuel costs recovered through fuel surcharges between the periods for
both owner-operated and company-operated trucks.
    
    Revenues at MCS decreased $3.4 million between the periods as a result of a delay on the
start-up of several wind projects. Selected projects had been delayed nationwide due to
Federal Aviation Administration actions related to possible radar issues.
  
    
    Foley Companys cost of goods sold increased $17.1 million mainly in the areas of
materials, subcontractor and labor costs as a result of an increase in the volume of work
performed between the periods.
    
    Cost of goods sold at MCS decreased $7.6 million mainly due to a reduction in material
and labor costs between the periods mostly related to a job completed in 2005 on which
large losses were incurred as a result of higher than expected costs.
  
    
    Wylies revenue increase was entirely offset by a $3.8 million increase in operating
expenses, including $3.4 million in contractor costs related to higher fuel costs combined
with an increase in miles driven by owner-operated trucks between the periods and $0.4
million in increased insurance costs.
    
    Foley Companys operating expenses increased $0.8 million between the periods as a
result of increases in compensation costs.
    
    MCS operating expenses increased $0.3 million between the periods, mainly due to
increases in salary and benefit expenses.
    
    Operating expenses in this segment decreased $0.7 million mainly related to a gain on
the sale of property owned by our subsidiary that owns substantially all of our nonelectric
companies.
 34




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##### Table of Contents



Income Taxes  Continuing Operations
  Discontinued Operations
  Nine months ended
    
    
    
    Nine months endedSeptember 30, 2006
    
    
    
    September 30, 2005OTESCO
    
    
    
    OTESCO(in thousands)
    
    Gas
    
    
    
    Gas
    
    
    MIS
    
    
    SGS
    
    
    CLC
    
    
    TotalIncome (loss) before income taxes
    
    $
    54
    
    
    
    $
    (1,163
    )
    
    $
    2,167
    
    
    $
    (1,724
    )
    
    $
    (696
    )
    
    $
    (1,416
    )Gain (loss) on disposition  pretax
    
    
    560
    
    
    
    
    
    
    
    
    19,025
    
    
    
    (3,002
    )
    
    
    (300
    )
    
    
    15,723Income tax expense (benefit)
    
    
    252
    
    
    
    
    (64
    )
    
    
    7,975
    
    
    
    (1,890
    )
    
    
    (396
    )
    
    
    5,625Net income (loss)
    
    $
    362
    
    
    
    $
    (1,099
    )
    
    $
    13,217
    
    
    $
    (2,836
    )
    
    $
    (600
    )
    
    $
    8,682
 2006 OUTLOOK
   
    
    Due to the coal supply issues late in the first quarter and early second quarter of
2006, decreasing margins on wholesale energy sales involving the purchase and sale of
electric energy contracts and increasing transmission and wage and benefit costs, we expect
earnings in the electric segment in 2006 to be in a range of $26.5 million to $28.0 million
which is consistent with 2006 second quarter expectations.
    
    We expect plastics segment earnings to be slightly higher in 2006 compared to 2005
levels due to the strong performance during the first nine months of 2006.
    
    Our forecasted 2006 net income from the manufacturing segment is in line with initial
2006 expectations. The improving economy, continued enhancements in productivity and
capacity utilization, expanded markets, and expansion of production capacity with the
opening of a new wind tower production facility in Ft. Erie, Ontario, Canada, are expected
to result in increased net income in our manufacturing segment in 2006.
 35




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##### Table of Contents




    
    Our health services segment is expected to have earnings in the range of $1.7 million to
$2.3 million in 2006 due to the lower than expected results in the first nine months of
2006.
    
    We expect to record a net loss in the range of $1.6 million to $3.4 million from our
food ingredient processing business in 2006. This is consistent with 2006 second quarter
expectations.
    
    Our other business operations segment is expected to show improved results over 2005,
consistent with our expectations at the beginning of 2006, due to an improving economy and
an increase in backlog of construction contracts. An increase in wind energy projects
activity is expected to have a positive impact on our electrical contracting business.
 FINANCIAL POSITION
     36




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##### Table of Contents



MoodysInvestors
    
    StandardService
    
    & PoorsSenior unsecured debt
    
    
    A3
    
    
    BBB+Preferred stock
    
    Baa2
    
    BBB-Outlook
    
    Stable
    
    Stable
    37




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##### Table of Contents



Critical Accounting Policies Involving Significant Estimates
  38




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##### Table of Contents



Goodwill Impairment
  
  Forward Looking Information  Safe Harbor Statement Under the Private Securities Litigation
Reform Act of 1995
   
    
    We are subject to government regulations and actions that may have a negative impact on
our business and results of operations.
    
    Certain MISO-related costs currently included in the FCA in Minnesota retail rates may
be excluded from recovery through the FCA and subject to future recovery through rates
established in a general rate case.
    
    Weather conditions can adversely affect our operations and revenues.
 39




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##### Table of Contents




    
    Electric wholesale trading margins could be reduced or eliminated by losses due to trading activities.
    
    Wholesale sales of electricity from excess generation could be reduced by reductions in
coal shipments to Big Stone and Hoot Lake plants due to supply constraints or rail
transportation problems beyond our control.
    
    Our electric segment has capitalized $4.6 million in costs related to the planned
construction of a second electric generating unit at its Big Stone Plant site as of
September 30, 2006. Should approvals of permits not be received on a timely basis, the
project could be at risk. If the project is abandoned for permitting or other reasons,
these capitalized costs and others incurred in future periods would be subject to expense
and may not be recoverable.
    
    Our manufacturer of wind towers operates in a market that has been dependent on the
Production Tax Credit. This tax credit is currently in place through December 31, 2007.
Should this tax credit not be renewed, the revenues and earnings of this business could be
reduced.
    
    Federal and state environmental regulation could cause us to incur substantial capital
expenditures which could result in increased operating costs.
    
    Our plans to grow and diversify through acquisitions may not be successful and could
result in poor financial performance.
    
    Competition is a factor in all of our businesses.
    
    Economic uncertainty could have a negative impact on our future revenues and earnings.
    
    Volatile financial markets could restrict our ability to access capital and could
increase borrowing costs and pension plan expenses.
    
    Our food ingredient processing segment operates in a highly competitive market and is
dependent on adequate sources of raw materials for processing. Should the supply of these
raw materials be affected by poor growing conditions, this could negatively impact the
results of operations for this segment. This segment could also be impacted by foreign
currency changes between Canadian and United States currency and prices of natural gas.
    
    Our plastics segment is highly dependent on a limited number of vendors for PVC resin.
In the first nine months of 2006, 99% of resin purchased was from two vendors, 52% from one
and 47% from the other. The loss of a key vendor or an interruption or delay in the supply
of PVC resin could result in reduced sales or increased costs for this business. Reductions
in PVC resin prices could negatively impact PVC pipe prices, profit margins on PVC pipe
sales and the value of PVC pipe held in inventory.
    
    Our health services businesses may not be able to retain or comply with the dealership
arrangement and other agreements with Philips Medical.
  40




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##### Table of Contents



Quantitative and Qualitative Disclosures About Market Risk
      Megawatt Daily
  41




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##### Table of Contents



September 30,(in thousands)
    
    2006Current asset  marked-to-market gain
    
    $
    5,069Regulatory asset  deferred marked-to-market loss
    
    
    1,722Total assets
    
    
    6,791Current liability  marked-to-market loss
    
    
    (5,065
    )Regulatory liability  deferred marked-to-market gain
    
    
    (1,723
    )Total liabilities
    
    
    (6,788
    )Net fair value of marked-to-market energy contracts
    
    $
    3
 Year-to-dateSeptember 30,(in thousands)
    
    2006Fair value at beginning of year
    
    $
    2,916Amount realized on contracts entered into in 2005 and settled in 2006
    
    
    (2,090
    )Changes in fair value of contracts entered into in 2005
    
    
    (826
    )Net fair value of contracts entered into in 2005 at end of period
    
    
    Changes in fair value of contracts entered into in 2006
    
    
    3Net fair value end of period
    
    $
    3
  4th Quarter
    
    1st Quarter(in thousands)
    
    2006
    
    2007
    
    TotalNet (loss) gain
    
    $
    (5
    )
    
    $
    8
    
    
    $
    3
   42




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##### Table of Contents



September 30,(in thousands)
    
    2006Current asset  marked-to-market gain
    
    $
    Current liability  marked-to-market loss
    
    
    (452
    )Total liabilities
    
    
    (452
    )Net fair value of marked-to-market energy contracts
    
    $
    (452
    )
   4th Quarter
    
    1st Quarter(in thousands)
    
    2006
    
    2007
    
    TotalNet (loss)
    
    $
    (236
    )
    
    $
    (216
    )
    
    $
    (452
    )
 
 Controls and Procedures
   43




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PART II. OTHER INFORMATION
 
 Legal Proceedings
  
 Risk Factors
  We may experience fluctuations in revenues and expenses related to our electric operations, which
may cause our financial results to fluctuate and could impair our ability to make distributions to
shareholders or scheduled payments on our debt obligations.
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##### Table of Contents



Exhibits
 4.1
    
    Credit Agreement, dated as of September 1, 2006, between Otter Tail Corporation dba
Otter Tail Power Company and U.S. Bank National Association (incorporated by reference to
Exhibit 4.1 to the Companys Form 8-K filed September 6, 2006)10.1
    
    Amendment No. 1 to Joint Facilities Agreement, dated July 13, 2006, by and among
Central Minnesota Municipal Power Agency, Great River Energy, Heartland Consumers Power
District, Montana-Dakota Utilities Co., a division of MDU Resources Group, Inc.,
NorthWestern Corporation, dba NorthWestern Energy, Otter Tail Corporation dba Otter Tail
Power Company, Southern Minnesota Municipal Power Agency and Western Minnesota Municipal
Power Agency, as Owners, amending the Joint Facilities Agreement, dated as of June 30,
2005, by and among the Owners (incorporated by reference to Exhibit 10.1 to the Companys
Form 8-K filed August 25, 2006)10.2
    
    Amendment No. 2 to Participation Agreement, dated as of August 18, 2006, by and among
the Owners, amending the Participation Agreement, dated as of June 30, 2005, by and among
the Owners (incorporated by reference to Exhibit 10.1 to the Companys Form 8-K filed
August 31, 2006)*10.3
    
    Amendment No. 3 to Participation Agreement, effective September 1, 2006, by and among
the Owners, amending the Participation Agreement, dated as of June 30, 2005, by and among
the Owners (incorporated by reference to Exhibit 10.1 to the Companys Form 8-K filed
October 11, 2006)31.1
    
    Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 200231.2
    
    Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 200232.1
    
    Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 200232.2
    
    Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 *
    
    Confidential information has been omitted from this Exhibit and filed separately with the
Commission pursuant to a confidential treatment request under Rule 24b-2. 
 SIGNATURES
  OTTER TAIL CORPORATIONBy:
    /s/ Kevin G. MougKevin G. MougChief Financial Officer and Treasurer
(Chief Financial Officer/Authorized Officer) November 9, 2006
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##### Table of Contents



EXHIBIT INDEX
 Exhibit Number
    
    Description4.1
    
    Credit Agreement, dated as of September 1, 2006, between Otter Tail Corporation dba
Otter Tail Power Company and U.S. Bank National Association (incorporated by reference to
Exhibit 4.1 to the Companys Form 8-K filed September 6, 2006)10.1
    
    Amendment No. 1 to Joint Facilities Agreement, dated July 13, 2006, by and among
Central Minnesota Municipal Power Agency, Great River Energy, Heartland Consumers Power
District, Montana-Dakota Utilities Co., a division of MDU Resources Group, Inc.,
NorthWestern Corporation, dba NorthWestern Energy, Otter Tail Corporation dba Otter Tail
Power Company, Southern Minnesota Municipal Power Agency and Western Minnesota Municipal
Power Agency, as Owners, amending the Joint Facilities Agreement, dated as of June 30,
2005, by and among the Owners (incorporated by reference to Exhibit 10.1 to the Companys
Form 8-K filed August 25, 2006)10.2
    
    Amendment No. 2 to Participation Agreement, dated as of August 18, 2006, by and
among the Owners, amending the Participation Agreement, dated as of June 30, 2005, by and
among the Owners (incorporated by reference to Exhibit 10.1 to the Companys Form 8-K
filed August 31, 2006)*10.3
    
    Amendment No. 3 to Participation Agreement, effective September 1, 2006, by and
among the Owners, amending the Participation Agreement, dated as of June 30, 2005, by and
among the Owners (incorporated by reference to Exhibit 10.1 to the Companys Form 8-K
filed October 11, 2006)31.1
    
    Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 200231.2
    
    Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 200232.1
    
    Certification of Chief Executive Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 200232.2
    
    Certification of Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
 
 *
    
    Confidential information has been omitted from this Exhibit and filed separately with the
Commission pursuant to a confidential treatment request under Rule 24b-2.