P N M R E S O U R C E S • 2 0 0 3 A n n u a l R e p o r t t o S h a r e h o l d e r s 71 70 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2003, 2002, 2001 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2003, 2002, 2001 2003 2002 2001 Components of Net Periodic Benefit Cost: Service cost $ 3,086)% $ $^{2,694}$)% $ $^{2,644}$)% Interest cost 7,840)% $^{8,082}$)% $^{7,906}$)% Expected return on plan assets (4,592)% $^{(4,505)}$% $^{(3,412)}$% Prior service cost amortization (2,593)% $^{–}$)% $^{–}$)% Amortization of net loss 4,124)% $^{1,320}$)% $^{799}$% Amortization of transition obligation 1,817)% $^{1,817}$)% $^{1,817}$% NET PERIODIC POST-RETIREMENT BENEFIT COST $ 9,682)% $ $^{9,408}$)% $ $^{9,754}$% 2003 2002 2001 WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE FIXED OPTIONS SHARES PRICE SHARES PRICE SHARES PRICE Outstanding at beginning of year 3,510,622 $ 20.906 2,981,301 $ 19.100 3,336,221 $19.120 Granted 861,900 $19.833 901,620 $25.745 6,000 $22.610 Exercised 1,057,725 $17.578 356,132 $18.044 299,951 $19.610 Forfeited 24,451 $19.963 16,167 $21.390 60,969 $17.961 Outstanding at end of year 3,290,346 3,510,622 2,981,301 Options exercisable at year-end 1,528,749 1,525,345 981,197 Options available for future grant 990,471 1,777,880 2,500,000 December 31, 2000 was 5.0 million shares of Holding Company common stock. Although the authority to grant options under the PSP expired on December 31, 2000, the options that were granted continue to be effective according to their terms. A new employee stock incentive plan, the Omnibus Performance Equity Plan (“PEP”), became effective with the formation of the Holding Company on December 31, 2001. The PEP provides for the granting of non-qualified stock options, incentive stock options, restricted stock rights, performance shares, performance units and stock appreciation rights to officers and key employees. The total number of shares of Holding Company common stock subject to all awards under the PEP may not exceed 2.5 million, subject to adjustment under certain circumstances defined in the PEP. The number of shares of Holding Company common stock subject to the grant of restricted stock rights, performance shares and units and stock appreciation rights is limited to 500,000 shares. Re-pricing of stock options is prohibited unless specific shareholder approval is obtained. In 2003, 811,900 options were awarded. Under the PEP, 47,157 options were exercised in 2003. The number of options and restricted stock rights outstanding as of December 31, 2003 were 1,586,409 and 1,620, respectively. Stock options may also be provided to non-employee directors of the Company under the Company’s Director Retainer Plan (“DRP”). The number of options granted in 2003 under the DRP was 40,000 shares with an exercise price of $24.07 and 10,000 shares with an exercise price of $25.90. Under the DRP plan, vesting occurs on the date of the next annual meeting after the award. Under the DRP 1,500 options were exercised in 2003, 4,000 in 2002 and 4,000 in 2001. The number of options outstanding as of December 31, 2003, was 121,500. Restricted stock issuances were based on the fair market value of the Company’s common stock at the close of business on the date of grant and vest ratably three years on the anniversary of the grant date. Amendments to the DRP were approved by the shareholders on July 3, 2001 and the amended plan became the DRP for the new Holding Company on December 31, 2001. Under the DRP, the maximum number of authorized shares was 200,000 (including shares previously granted) through July 1, 2005. The annual retainer is payable in cash and stock options. The exercise price of stock options granted under the DRP is determined by the fair market value of the stock at the close of business on the grant date. All stock incentives (options, restricted stock and performance shares) issued to employees are awarded under the initial amount of shares authorized according to the PEP and DRP plan. Exercised stock options are purchased and sold on the open-market on the date of exercise. A summary of the status of the Company’s stock option plans at December 31, and changes during the years then ended is presented below.  The following table summarizes information about stock options outstanding at December 31, 2003: Weighted - Average Assumptions Used to Determine Net Periodic Benefit Cost as of December 31, 2003 and September 30, 2002 and 2001 OTHER BENEFITS In 2003, the other post-retirement benefits plan was amended to reflect the changes to the benefit coverage provided to both current and future retirees. In 2002, the other post-retirement benefits plan was amended to reflect the charge in cost-sharing provisions of the retiree’s contribution made toward medical costs and the elimination of a tobacco surcharge. The effect of a 1% increase in the health care trend rate assumption would increase the accumulated post-retirement benefit obligation as of December 31, 2003, by approximately $9.2 million and the aggregate service and interest cost components of net periodic post-retirement benefit cost for 2003 by approximately $2.2 million. The health care cost trend rate is expected to decrease to 6.0% by 2010 and to remain at that level thereafter. The following table outlines the asset allocation for the other post-retirement benefits as of December 31: The Company is currently targeting an asset allocation of 50% equity securities and 50% debt securities in 2004. The Company has an executive retirement program for a group of management employees. The program was intended to attract, motivate and retain key management employees. The Company’s projected benefit obligation for this program, as of the plan measurement date of December 31, 2003 and 2002, was $19.9 million and $19.0 million, respectively. As of December 31, 2003 and 2002, the Company has recognized an additional minimum liability of $4.7 million and $4.1 million, respectively, for the amount of unfunded accumulated benefits in excess of accrued pension costs. The net periodic cost for 2003, 2002 and 2001 was $1.6 million, $1.7 million and $1.7 million, respectively. In 1989, the Company established an irrevocable grantor trust in connection with the executive retirement program. Under the terms of the trust, the Company may, but is not obligated to, provide funds to the trust, which was established with an independent trustee, to aid it in meeting its obligations under the program. Marketable securities in the amount of approximately $6.9 million (fair market value of $7.8 million) are presently in the trust. No additional funds have been provided to the trust since 1989. Executive Retirement Program (10) STOCK-BASED COMPENSATION PLANS The Company’s Performance Stock Plan (“PSP”) expired on December 31, 2000. The PSP was a non-qualified stock option plan, covering a group of management employees. Options to purchase shares of the Holding Company’s common stock were granted at the fair market value of the shares at the close of business on the date of the grant. Options granted through December 31, 1995 vested on June 30, 1996 and have an exercise term of up to 10 years. All subsequent awards granted between December 31, 1995 and February 2000, vest three years from the grant date of the awards. All options vest upon death, disability, retirement, impaction or involuntary termination other than for cause. Awards granted in December 2000 vest ratably over three years on the anniversary of the grant date. The maximum number of options authorized that could be granted through 2003 2002 2001 Discount rate 6.75%) $^{7.50%}$) $^{8.25%}$) Expected return on plan assets: 401 (h) and union VEBA 9.00%) $^{9.00%}$) $^{7.75%}$) Non-union VEBA 9.00%) $^{7.50%}$) $^{6.25%}$) Rate of compensation increase N/A%) $^{N/A}$%) $^{N/A}$%) 2003 2002 Equity securities 43%) $^{100%}$) Debt securities 57%) $^{–}$%) OPTIONS OUTSTANDING OPTIONS EXERCISABLE WEIGHTED AVERAGE WEIGHTED WEIGHTED NUMBER REMAINING AVERAGE NUMBER AVERAGE OUTSTANDING CONTRACTUAL EXERCISE EXERCISABLE EXERCISE RANGE OF EXERCISE PRICES AT 12/31/03 LIFE PRICES AT 12/31/03 PRICES DRP $ 0 - $27.35 121,500 7.07 years $ 21.152 76,835 $19.016 PSP $11.50 - $24.313 1,580,817 5.56 years $ 20.724 1,227,959 $21.039 PEP $ 0 - $28.22 1,588,029 8.45 years $ 22.665 223,955 $25.803 3,290,346 7.02 years $21.676 1,528,749 $21.635