UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

~~WASHINGTON, D.C. 20549~~ Form 10-Q

FORM 10-Q


(Mark One)
þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the quarter 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

(Mark One)


Commission		I.R.S. Employer
File Number	Registrants and State of Incorporation or Organization	Identification No.

0001261679	MSW Energy Holdings LLC	14-1873119
	Delaware

0001261680	MSW Energy Finance Co., Inc	20-0047886
	Delaware

0001276518	MSW Energy Holdings II LLC	13-3213489
	Delaware

0001276517	MSW Energy Finance Co. II, Inc	20-0400947
	Delaware

þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarter ended March 31, 2006

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

00012616790001261680Commission File Number

MSW Energy Holdings LLCMSW Energy Finance Co., Inc.

(Exact name of each registrant as specified in its charter)

Delaware		14-1873119
Delaware		20-0047886
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

c/o Covanta Holding Corporation

40 Lane Road

Fairfield, New Jersey 07004

973-882-9000

(Address, including zip code, and telephone number, ~~including area code, of the registrants’ principal executive offices)~~

~~Indicate by check mark whether the registrant (1) has filed all reports required to be filed~~ by including ~~Section 13~~area orcode, ~~15(d)~~ of the ~~Securities Exchange Act of 1934 during the preceding 12 months (or~~ ~~for~~ registrants’ ~~such~~principal ~~shorter~~executive ~~period that the registrant was required to file such reports~~offices)~~, and (2) has been~~ ~~subject to such filing requirements for the past 90 days. Yes þ No o~~

Indicate by check mark whether the ~~registrant~~registrants is(1) have filed aall ~~large~~reports ~~accelerated~~required ~~filer,~~to anbe ~~accelerated filer,~~filed by Section 13 or 15(d) aof ~~non-accelerated~~the ~~filer.~~Securities ~~See~~Exchange ~~definition~~Act of ~~“accelerated~~1934 ~~filer~~during ~~and~~the preceding ~~large~~12 months ~~accelerated~~(or for such shorter period that the ~~filer”~~ registrants inwere ~~Rule 12b-~~required to file such reports), and (2) have ofbeen ~~the~~subject ~~Exchange~~to ~~Act:~~such filing requirements for the past 90 days. Yes þ No o

~~MSW~~ Indicate ~~Energy~~by ~~Holdings~~check ~~LLC:~~mark ~~Large~~whether ~~accelerated~~each ~~filer~~registrant ois ~~Accelerated~~a large accelerated filer, oan ~~Non-~~accelerated filer, þor ~~MSW~~a ~~Energy Finance Co~~non-accelerated filer., ~~Inc:~~See ~~Large~~definition of “accelerated filer oand ~~Accelerated~~large accelerated filer” ~~o Non~~in Rule 12b-~~accelerated~~2 of ~~filer~~the þExchange Act:

~~Indicate~~MSW byEnergy ~~check~~Holdings ~~mark~~LLC: ~~whether~~MSW ~~the~~Energy ~~registrant~~Finance isCo., aInc: ~~shell~~MSW ~~company~~Energy ~~(as~~Holdings ~~defined~~II inLLC: ~~Rule 12b-2~~MSW ~~of the~~Energy ~~Exchange~~Finance ~~Act)~~Co. II, Inc: Large accelerated filer o Large accelerated filer o Large accelerated filer o Large accelerated filer o Accelerated filer o Accelerated filer o Accelerated filer o Accelerated filer o Non-accelerated filer þ Non-accelerated filer þ Non-accelerated filer þ Non-accelerated filer þ

~~MSW~~ Indicate ~~Energy~~by ~~Holdings~~check ~~LLC:~~mark ~~Yes~~whether oany Noof þthe ~~MSW~~registrants ~~Energy~~are ~~Finance~~a shell ~~Co.,~~company ~~Inc:~~(as ~~Yes~~defined oin Rule 12b-2 of Nothe Exchange Act). Yes o No þ

Indicate the number of shares outstanding of each of the registrants’ classes of common stock, as of the latest practicable date.

MSW Energy Holdings LLC:		None, as of the close of business on May 1, 2006
MSW Energy Finance Co., Inc:		100 shares of Common Stock, as of the close of business on May 1, 2006


MSW Energy Holdings LLC: MSW Energy Finance Co., Inc: MSW Energy Holdings II LLC: MSW Energy Finance Co. II, Inc:		None, as of the close of business on October 30, 2006 100 shares of Common Stock, as of the close of business on October 30, 2006 None, as of the close of business on October 30, 2006 100 shares of Common Stock, as of the close of business on October 30, 2006

MSW Energy Holdings LLC, MSW Energy Finance Co., Inc., MSW Energy Holdings II LLC and MSW Energy Finance Co. II, Inc. meet the conditions set forth in General Instruction H (1)(a) and (b) of Form 10-Q and are therefore filing this Form 10-Q with the reduced disclosure format.

TABLE OF CONTENTS

Cautionary Note Regarding Forward–Looking Statements		3
Cautionary Note Regarding Forward — Looking Statements			3
Part I. Financial Information
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements		4
Item 1.	Financial Statements		4
Condensed Consolidated Statements of Operations for the Three Months Ended March 31, 2006 and 2005 (Unaudited).		4
	Condensed Consolidated Financial Statements		4
Condensed Consolidated Balance Sheets as of March 31, 2006 (Unaudited) and December 31, 2005		5
	MSW Energy Holdings LLC and Subsidiaries		4
Condensed Consolidated Statement of Members’ Equity as of March 31, 2006 (Unaudited)		6
	MSW Energy Holdings II LLC and Subsidiaries		9
Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2006 and 2005 (Unaudited).		7
	Notes to Condensed Consolidated Financial Statements (Unaudited)		14
Notes to Condensed Consolidated Financial Statements (Unaudited)		8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		27
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		18
Item 3.	Quantitative and Qualitative Disclosures about Market Risk		37
Item 3. Quantitative and Qualitative Disclosures about Market Risk		22
Item 4.	Controls and Procedures		37
Item 4. Controls and Procedures		22
PART II. OTHER INFORMATION
Part II. Other Information
Item 1.	Legal Proceedings		38
Item 1. Legal Proceedings		23
Item 1A.	Risk Factors		38
Item 1A. Risk Factors		24
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		38
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		24
Item 3.	Defaults Upon Senior Securities		38
Item 3. Defaults Upon Senior Securities		24
Item 4.	Submission of Matters to a Vote of Security Holders		38
Item 4. Submission of Matters to a Vote of Security Holders		24
Item 5.	Other Information		38
Item 5. Other Information		24
Item 6.	Exhibits		38
Item 6. Exhibits		25
OTHER
Other
Signatures			39
Signatures		26
Statement Regarding Computation of Ratio of Earnings to Fixed Charges
Statement re Computation of Ratio of Earnings to Fixed Charges
Statement Regarding Computation of Ratio of Earnings to Fixed Charges
15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings LLC.
Certification
15d-14(a) Certification of Craig D. Abolt for MSW Energy Holdings LLC.
Certification
15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co., Inc.
Certification
15d-14(a) Certification of Craig D. Abolt for MSW Energy Finance Co., Inc.
Certification
Section 1350 Certification for MSW Energy Holdings LLC.
Certification
Section 1350 Certification for MSW Energy Finance Co., Inc.
Certification
Certification
Certification
Certification
Certification
Certification
Certification

Cautionary Note Regarding Forward-Looking Statements

Certain statements in the Quarterly Report on Form 10-Q may constitute “forward-looking” statements as defined in Section 27A of the Securities Act of 1933 (the “Securities Act”), Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”), the Private Securities Litigation Reform Act of 1995 (the “PSLRA”) or in releases made by the Securities and Exchange Commission (“SEC”), all as may be amended from time to time. Such forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause the actual results, performance or achievements of MSW Energy Holdings LLC ~~and~~(together with its subsidiaries, “MSW I”), and MSW Energy Holdings II LLC (~~the~~together with its subsidiaries, “~~Company~~MSW II”), or industry results, to differ materially from any future results, performance or ~~achievements~~ achievements expressed or implied by such forward-looking statements. Statements that are not historical fact ~~are~~ are forward-looking statements. Forward-looking statements can be identified by, among other things, the use of forward-looking language, such as the words “plan,” “believe,” “expect,” “anticipate,” “intend,” “estimate,” “project,” “may,” “will,” “would,” “could,” “should,” “seeks,” or or “scheduled to,” or other similar words, or the negative of these terms or other variations of these terms or comparable language, or by discussion of strategy or intentions. These cautionary statements are being made pursuant to the Securities Act, the Exchange Act and the PSLRA with the intention of obtaining the benefits of the “safe harbor” provisions of such laws. ~~The~~MSW ~~Company~~I and MSW II ~~cautions~~ caution investors that any forward-looking statements made by MSW ~~the~~I ~~Company~~and MSW II are not guarantees ~~or indicative~~nor are they indicative of future performance. Important assumptions and other important factors that could cause actual results to differ materially from those forward-looking statements with respect to ~~the~~MSW I and ~~Company~~ MSW II, include, but are not limited to, the risks and uncertainties affecting ~~its~~their businesses described in Item 1A of ~~the~~their ~~Company’s~~respective ~~Annual~~MSW ~~Report~~I onand ~~Form~~MSW II Annual Reports on Form 10-K for the year ended December 31, 2005 and in other securities filings by ~~the~~MSW ~~Company,~~I and MSW II and in Item 1A of Covanta Holding Corporation’s (“Covanta”) Annual Report on Form 10-K for the year ended December 31, 2005 and Item 1A of Part II of Covanta’s Quarterly Report on form 10-Q for the quarter ended September 30, 2006 and in other securities filings by Covanta ~~Holding Corporation~~.

Although ~~the~~MSW ~~Company~~I ~~believes~~and MSW II believe that ~~its~~their plans, intentions and expectations reflected in or suggested by such forward-looking statements are reasonable, actual results could differ materially from a projection or assumption in any of their ~~its~~ forward-looking statements. The ~~Company’s~~ future financial condition and results of operations for MSW I and MSW II, as well as any forward-looking statements, are subject to change and inherent risks and uncertainties. The forward-looking statements contained in this Quarterly Report on Form 10-Q are made only as of the date hereof and ~~the~~MSW ~~Company~~I ~~does~~and ~~not~~MSW II do not have or undertake any obligation to update or revise any forward-looking statements whether as a result of new information, subsequent events or otherwise, unless otherwise required by law.

PART I. FINANCIAL INFORMATION


ITEM 1.	*FINANCIAL STATEMENTS*

MSW ENERGY HOLDINGS LLC AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited, in thousands of dollars)

(Unaudited, in thousands of dollars)


	For the Three			For the Three
	Months Ended			Months Ended
	September 30, 2006			September 30, 2005

Operating Revenues
Waste and service revenues	$	82,507		$	81,719
Electricity and steam sales		46,580			43,482

Total operating revenues		129,087			125,201

Operating Expenses
Plant operating expenses		45,932			47,028
Depreciation and amortization expense		30,108			26,802
Net interest expense on project debt		6,451			7,692
General and administrative expenses		6,412			3,704
Loss (gain) on asset retirements		29			(494	)

Total operating expenses		88,932			84,732

Operating income		40,155			40,469

Other Income (Expense)
Interest income		779			350
Interest expense		(7,319	)		(8,514	)

Total other expenses		(6,540	)		(8,164	)

Income before income tax expense and minority interests		33,615			32,305
Income tax expense		(6,214	)		(5,963	)
Minority interests		(18,762	)		(18,408	)

Net Income	$	8,639		$	7,934

	For the Three			For the Three
	Months Ended			Months Ended
	March 31, 2006			March 31, 2005
Operating Revenues
Waste and service revenues	$	74,501		$	72,473
Electricity and steam sales		42,940			40,284
Total operating revenues		117,441			112,757
Operating Expenses
Plant operating expenses		63,842			56,715
Depreciation and amortization expense		30,308			29,738
Net interest expense on project debt		6,887			7,318
General and administrative expenses		6,604			6,273
Loss on asset retirements		—			1,386
Total operating expenses		107,641			101,430
Operating income		9,800			11,327
Other Income (Expense)
Interest income		421			558
Interest expense		(7,690	)		(9,023	)
Total other expenses		(7,269	)		(8,465	)
Income before income tax benefit and minority interests		2,531			2,862
Minority interests		(3,608	)		(4,101	)
Income tax benefit		449			519
Net Loss	$	(628	)	$	(720	)

The accompanying notes are an integral part of the condensed consolidated financial statements.

The accompanying notes are an integral part of these condensed consolidated financial statements.

MSW ENERGY HOLDINGS LLC AND SUBSIDIARIES

CONDENSED CONSOLIDATED ~~BALANCE~~STATEMENTS ~~SHEETS~~OF OPERATIONS

(InUnaudited, in thousands of dollars)

	As of
	For the Nine			For the Period from			For the Period from
	March 31, 2006				December 31, 2005
	Months Ended			June 25 through			January 1 through
	(unaudited)
	September 30, 2006			September 30, 2005			June 24, 2005
Assets
Operating Revenues
Current assets
Waste and service revenues	$	242,315		$	87,411		$	148,792
Cash and cash equivalents	$	31,931			$	48,895
Electricity and steam sales		133,924			46,450			79,660
Restricted cash and short-term investments		42,447				74,095
Total operating revenues		376,239			133,861			228,452
Accounts receivable, net of allowance for doubtful accounts of $2,327 and $2,267, respectively		71,955				73,994
Operating Expenses
Prepaid expenses and other current assets		15,931				16,542
Plant operating expenses		158,603			49,797			103,616
Total current assets		162,264				213,526
Depreciation and amortization expense		91,161			28,737			57,032
Long-term assets
Net interest expense on project debt		20,018			8,150			13,964
Property, plant and equipment, net		1,913,126				1,928,144
General and administrative expenses		19,279			3,962			39,745
Intangible assets, net		263,115				271,787
Loss (gain) on asset retirements		907			(494	)		519
Goodwill		255,927				255,927
Total operating expenses		289,968			90,152			214,876
Restricted cash and long-term investments		124,060				123,483
Operating income		86,271			43,709			13,576
Other long-term assets		17,005				10,254
Other Income (Expense)
Total long-term assets		2,573,233				2,589,595
Interest income		1,692			388			1,076
Total assets	$	2,735,497			$	2,803,121
Interest expense		(20,768	)		(9,130	)		(17,553	)
Liabilities and Members’ Equity
Total other expenses		(19,076	)		(8,742	)		(16,477	)
Current liabilities
Income (loss) before income tax (expense) benefit and minority interests		67,195			34,967			(2,901	)
Accounts payable trade	$	5,975			$	3,007
Income tax (expense) benefit		(11,711	)		(6,440	)		2,761
Accounts payable to related party, net		15,455				4,243
Minority interests		(39,178	)		(19,922	)		(3,637	)
Current portion of intermediate debt		32,056				45,997
Net Income (Loss)	$	16,306		$	8,605		$	(3,777	)
Current portion of project debt		59,752				59,668
Other current liabilities		55,400				69,470
Total current liabilities		168,638				182,385
Long-term liabilities
Intermediate debt		403,456				404,567
Project debt		678,879				699,056
Deferred income taxes		166,860				165,417
Other long-term liabilities		173,544				176,184
Total long-term liabilities		1,422,739				1,445,224
Total liabilities		1,591,377				1,627,609
Commitments and contingencies (Note 10)
Minority interests		766,820				779,637
Members’ equity
Total members’ equity		377,300				395,875
Total liabilities and members’ equity	$	2,735,497			$	2,803,121

The accompanying notes are an integral part of ~~these~~the condensed consolidated financial statements.

MSW ENERGY HOLDINGS LLC AND SUBSIDIARIES

CONDENSED CONSOLIDATED ~~STATEMENT~~BALANCE ~~OF MEMBERS’ EQUITY~~SHEETS

(~~Unaudited, in~~ In thousands of dollars)

	Members’
	As of
	Equity
	September 30, 2006			December 31, 2005
Balance, December 31, 2005	$	395,875
	(Unaudited)
Distribution to members		(16,096	)
ASSETS
Current tax benefit contributed to members		(1,851	)
Current assets
Net loss		(628	)
Cash and cash equivalents	$	46,233		$	48,895
Balance, March 31, 2006	$	377,300
Restricted funds held in trust		71,361			74,095
Accounts receivable (less allowances of $3,293 and $2,267)		73,335			73,994
Prepaid expenses and other current assets		18,840			16,542
Total current assets		209,769			213,526
Property, plant and equipment, net		1,868,693			1,928,144
Intangible assets, net		246,590			271,787
Goodwill		217,548			255,927
Restricted funds held in trust		123,519			123,483
Other assets		10,116			10,254
Total assets	$	2,676,235		$	2,803,121
LIABILITIES AND MEMBERS’ EQUITY
Current liabilities
Accounts payable trade	$	5,241		$	3,007
Accounts payable to related party, net		9,479			4,243
Current portion of intermediate debt		31,825			45,997
Current portion of project debt		45,315			59,668
Other current liabilities		56,519			69,470
Total current liabilities		148,739			182,385
Intermediate debt		393,558			404,567
Project debt		674,788			699,056
Deferred income taxes		179,510			165,417
Other liabilities		159,471			176,184
Total liabilities		1,555,706			1,627,609
Commitments and contingencies (Note 9)
Minority interests		753,866			779,637
Members’ equity
Total members’ equity		366,663			395,875
Total liabilities and members’ equity	$	2,676,235		$	2,803,121

The accompanying notes are an integral part of ~~these~~the condensed consolidated financial statements.

MSW ENERGY HOLDINGS LLC AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF MEMBERS’ EQUITY
For The Nine Months Ended September 30, 2006
(Unaudited, in thousands of dollars)


	Members’
	Equity

Balance, December 31, 2005	$	395,875
Adjustments to purchase accounting, net of tax		(6,323	)
Distribution paid to members		(39,195	)
Net income		16,306

Balance, September 30, 2006	$	366,663

The accompanying notes are an integral part of the condensed consolidated financial statements.

MSW ENERGY HOLDINGS LLC AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, in thousands of dollars)

	For the Three Months				For the Three Months
	For the Nine			For the Period from				For the Period from
	Ended March 31, 2006				Ended March 31, 2005
	Months Ended			June 25 through				January 1 through
Cash flows from operating activities
	September 30, 2006			September 30, 2005				June 24, 2005
Net loss	$	(628	)		$	(720	)
Cash flows from operating activities
Adjustments to reconcile net loss to net cash provided by operating activities:
Net income (loss)	$	16,306		$	8,605			$	(3,777	)
Depreciation and amortization		30,308				29,738
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Deferred income taxes		1,403				5,394
Depreciation and amortization expense		91,161			28,737				57,032
Revenue contract levelization		1,061				328
Deferred income taxes		4,989			2,199				8,380
Amortization of lease liability		748				(824	)
Revenue contract levelization		3,312			1,007				692
Amortization of debt premium and deferred financing costs		(3,459	)			(2,757	)
Amortization of lease liability		2,245			748				(1,593	)
Interest on loss contracts		456				547
Amortization of debt premium and deferred financing costs		(9,674	)		(3,020	)			(5,287	)
Loss asset retirements		—				1,386
Interest on loss contracts		(991	)		462				1,069
Minority interests		3,608				4,101
Loss (gain) on asset retirements		907			(494	)			519
Amortization of deferred revenue		—				(33	)
Minority interests		39,178			19,922				3,637
Changes in assets and liabilities:
Amortization of deferred revenue		—			(6	)			(75	)
Accounts receivable, net		2,039				3,786
Changes in assets and liabilities:
Prepaid expenses and other current assets		611				(3,466	)
Accounts receivable, net		659			1,916				(4,211	)
Other long-term assets		(6,751	)			(6,902	)
Prepaid expenses and other current assets		(2,524	)		(274	)			(2,732	)
Accounts payable and other current liabilities		(5,945	)			3,914
Other long-term assets		30			(1,186	)			(2,944	)
Accounts payable to related party, net		11,212				—
Accounts payable trade and other current liabilities		(2,747	)		2,754				(15,901	)
Accrued interest payable		(6,968	)			3,738
Accounts payable to related party, net		5,236			758				—
Other long-term liabilities		(1,402	)			(1,915	)
Accrued interest payable		(7,102	)		(5,584	)			5,626
Net cash provided by operating activities		26,293				36,315
Other long-term liabilities		(2,747	)		405				(849	)
Cash flows from investing activities
Net cash provided by operating activities		138,238			56,949				39,586
Additions of property, plant and equipment		(10,121	)			(17,076	)
Cash flows from investing activities
Proceeds from sale of assets		—				1,036
Purchase of property, plant and equipment		(10,058	)		(1,898	)			(25,228	)
Net cash used in investing activities		(10,121	)			(16,040	)
Acquisition of Duke minority interest		—			(1,307	)			—
Cash flows from financing activities
Proceeds from sale of assets		243			487				2,651
Change in restricted cash and investments, net		31,071				16,694
Net cash used in investing activities		(9,815	)		(2,718	)			(22,577	)
Payment of long-term debt		(31,686	)			(29,156	)
Cash flows from financing activities
Distributions paid to members		(16,096	)			(25,302	)
Decrease (increase) in restricted funds held in trust		2,698			7,203				(8,110	)
Distributions paid to holders of minority interests in consolidated subsidiary		(16,425	)			(19,578	)
Principal payments of intermediate debt		(22,400	)		(10,257	)			—
Net cash used in financing activities		(33,136	)			(57,342	)
Principal payments of project debt		(31,767	)		(13,089	)			(29,178	)
Net decrease in cash and cash equivalents		(16,964	)			(37,067	)
Distributions paid to members		(39,195	)		(3,824	)			(19,395	)
Cash and cash equivalents, beginning of fiscal year		48,895				86,310
Distributions paid to holders of minority interests in consolidated subsidiary		(40,421	)		(15,883	)			(25,100	)
Cash and cash equivalents, end of quarter	$	31,931			$	49,243
Net cash used in financing activities		(131,085	)		(35,850	)			(81,783	)
Net (decrease) increase in cash and cash equivalents		(2,662	)		18,381				(64,774	)
Cash and cash equivalents, beginning of period		48,895			21,536				86,310
Cash and cash equivalents, end of period	$	46,233		$	39,917			$	21,536

The accompanying notes are an integral part of ~~these~~the condensed consolidated financial statements.

MSW Energy Holdings LLC and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)

Note 1. Organization and Basis of Presentation

Organization

MSW Energy Holdings LLC (“MSW Energy Holdings”) (collectively herein with its subsidiaries the “Company”) was formed in March 2003 as a Delaware limited liability company for the purpose of acquiring a 50% indirect membership interest in Covanta Ref-Fuel Holdings LLC (“Covanta Ref-Fuel”). At the initial closing on June 30, 2003, MSW Energy Holdings acquired MSW Energy Hudson LLC (“MSW Hudson”), which held a 49.8% membership interest in Covanta Ref-Fuel. MSW Energy Holdings had agreed to acquire Duke Energy Erie LLC (“Erie”), a wholly-owned subsidiary of Duke Energy Corporation (“Duke”), that held an additional 0.2% membership interest in Covanta Ref-Fuel within two years and six months after the purchase of MSW Hudson (the “second closing”). MSW Energy Holdings consummated this transaction and acquired the remaining 0.2% membership interest on September 30, 2005. MSW Energy Holdings currently owns 50% of Covanta Ref-Fuel, which owns 100% of Covanta ARC LLC (“Covanta ARC”). MSW Energy Holdings II LLC (“MSW Energy Holdings II”) holds membership interests directly and indirectly that constitute in the aggregate the other 50% membership interest in Covanta Ref-Fuel.

Covanta ARC, a wholly-owned subsidiary of Covanta Ref-Fuel, owns partnerships that develop, own and operate waste-to-energy facilities, which combust municipal solid waste and produce energy in the form of electricity and steam. Through such partnerships, Covanta ARC owns or controls six waste-to-energy facilities located in the northeastern United States (the “ARC operating facilities”). The subsidiaries of Covanta ARC that operate the ARC operating facilities (the “ARC operating companies”) derive revenues principally from disposal or tipping fees received for accepting waste and from the sale of electricity and steam produced by the ARC operating facilities. ARC operating subsidiaries include: (a) Covanta ARC Company (“Ref-Fuel Management”); (b) TransRiver Marketing Company, L.P. (“TransRiver”); (c) Covanta Company of Hempstead (“Hempstead”); (d) Covanta Essex Company (“Essex”); (e) Covanta Southeastern Connecticut Company (“Seconn”); (f) Covanta Niagara, L.P. (“Niagara”); (g) Covanta Company of Semass, L.P. (“Ref-Fuel Semass”); (h) Covanta of Semass, L.P. (“Semass Operator”); and (i) Covanta Delaware Valley, L.P. (“Delaware Valley”).

Effective June 24, 2005, Covanta Holding Corporation (“Covanta”), a Delaware corporation, through its wholly-owned subsidiary, Covanta Energy Corporation (“Covanta Energy”), a Delaware corporation, acquired all of the issued and outstanding shares of capital stock of Covanta ARC Holdings, Inc. (“Covanta ARC Holdings”) (the “Acquisition”). The Acquisition was made pursuant to the terms of a Stock Purchase Agreement, dated as of January 31, 2005 among Covanta, Covanta ARC Holdings and the stockholders of Covanta ARC Holdings (the “Purchase Agreement”). As a result of the Acquisition, Covanta, through Covanta Energy, owns 100% of the voting securities of Covanta ARC Holdings.

Covanta Energy paid approximately $747 million, including transaction costs, for the shares of Covanta ARC Holdings and assumed the consolidated net debt of Covanta ARC Holdings, which was approximately $1.3 billion as of June 24, 2005 ($1.5 billion of consolidated indebtedness net of $0.2 billion of cash and restricted cash). Upon consummation of the Acquisition, a change in ownership occurred, and in accordance with Emerging Issues Task Force (“EITF”) Topic D-97, “Push-Down Accounting” (“EITF D-97”), the Company’s financial statements reflect the effects of its change in ownership and the new owner’s basis in the net assets and liabilities acquired. As a result, the statement of operations and the statement of cash flows for the three months ended March 31, 2005 reflect the results of the Company prior to purchase accounting adjustments (referred to as “predecessor”) and the balance sheet at December 31, 2005 and the statement of operations and statement of cash flows for the three months ended March 31, 2006, reflect the impact of preliminary purchase accounting adjustments arising from the Acquisition (referred to as “successor”).

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements as of March 31, 2006 and for the three months ended March 31, 2006 and 2005, have been prepared in accordance with the instructions to Form 10-Q. As permitted by the rules and regulations of the Securities and Exchange Commission (the “SEC”), the financial statements contain certain condensed financial information and exclude certain footnote disclosures normally included in audited consolidated financial statements prepared in accordance with United States generally accepted accounting principles (“GAAP”). In presenting the unaudited condensed consolidated financial statements, management makes estimates and assumptions that affect the amounts reported and related disclosures. Estimates, by their nature, are based on judgments and available information. Accordingly, actual results could differ from those estimates. In the opinion of management, the accompanying financial statements contain all adjustments, including normal recurring accruals, necessary to fairly present the accompanying financial statements. For further information, refer to the consolidated financial

MSW ENERGY ~~Energy~~HOLDINGS II ~~Holdings~~ LLC ~~and~~AND ~~Subsidiaries~~SUBSIDIARIES

~~Notes~~ CONDENSED toCONSOLIDATED ~~Condensed~~STATEMENTS ~~Consolidated~~OF ~~Financial Statements~~ OPERATIONS (Unaudited, in thousands of dollars)

statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005. Operating results for the interim period are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2006. Certain prior period amounts have been reclassified to conform to the current year’s presentation. See Note 4 — Reclassifications of Prior Periods of the Notes to Condensed Consolidated Financial Statements.


	For the Three			For the Three
	Months Ended			Months Ended
	September 30, 2006			September 30, 2005

Operating Revenues
Waste and service revenues	$	82,507		$	81,719
Electricity and steam sales		46,580			43,482

Total operating revenues		129,087			125,201

Operating Expenses
Plant operating expenses		45,932			47,028
Depreciation and amortization expense		30,108			26,802
Net interest expense on project debt		6,451			7,692
General and administrative expenses		6,424			3,682
Loss (gain) on asset retirements		29			(494	)

Total operating expenses		88,944			84,710

Operating income		40,143			40,491

Other Income (Expense)
Interest income		737			293
Interest expense		(7,610	)		(8,354	)

Total other expenses		(6,873	)		(8,061	)

Income before income tax expense and minority interests		33,270			32,430
Income tax expense		(6,070	)		(6,056	)
Minority interests		(18,762	)		(18,321	)

Net Income	$	8,438		$	8,053

~~Note~~ The 2.accompanying ~~Significant~~notes ~~Accounting~~are ~~Policies~~an ~~and~~integral ~~New~~part ~~Accounting~~of the condensed ~~Pronouncements~~ consolidated financial statements.

Significant Accounting Policies

Stock-Based Compensation

The Company had adopted the disclosure-only provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), as amended by SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — an Amendment of FAS No. 123,” concerning certain transition and disclosure provisions, but applied the intrinsic value recognition provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), and related interpretations in accounting for stock-based compensation plans of the Company. During 2005, the Company’s stock plan was cancelled as a result of the Acquisition and there were no stock options or shares of restricted stock outstanding as of December 31, 2005. The employees of the Company are eligible to participate in Covanta’s equity award plans. See Note 11 — Employee Compensation and Benefit Plans of the Notes to Condensed Consolidated Financial Statements.

The Company has adopted SFAS 123 (revised 2004),“Share-Based Payment” (“SFAS 123R”), as of January 1, 2006 and pro forma disclosures under SFAS 123 are no longer an alternative after such date. Generally, the approach to determining fair value under the SFAS 123 has not changed. However, there are revisions to the accounting guidelines established, such as accounting for forfeitures that will affect the Company’s accounting for stock-based awards in the future.

The adoption of SFAS 123R did not have a material impact on the Company’s consolidated results of operations upon adoption, but depending on the number and type of stock-based compensation awards that will be granted in the future, this expense may become material.

New Accounting Pronouncements

The following new pronouncements were issued during the first quarter of 2006. None of these pronouncements have an impact on the Company’s consolidated results of operations and earnings per share.

In February 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Staff Position (“FSP”) No. FAS 123(R)-4, “Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event” (“FSP 123(R)-4”). FSP 123(R)-4 is effective upon initial adoption of SFAS 123R. FSP 123(R)-4 requires that an option or similar instrument that is classified as equity, but subsequently becomes a liability because a contingent cash settlement event is probable of occurring, be accounted for similar to a modification from an equity to liability award. The Company does not have any options or similar instruments that allow for cash settlement upon the occurrence of an event.

MSW ENERGY ~~Energy~~HOLDINGS II ~~Holdings~~ LLC ~~and~~AND ~~Subsidiaries~~SUBSIDIARIES

~~Notes~~ CONDENSED CONSOLIDATED toSTATEMENTS ~~Condensed~~OF ~~Consolidated Financial Statements (Unaudited)~~OPERATIONS

~~Note~~ (Unaudited, in 3.thousands ~~Business~~of ~~Combinations~~dollars)

In connection with the Acquisition, the Company’s assets have been valued by independent appraisers in order to assist management in the determination of the purchase price allocations relating to the fair market value of the assets and liabilities acquired by Covanta on June 24, 2005.


	For the Nine			For the Period from			For the Period from
	Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Operating Revenues
Waste and service revenues	$	242,315		$	87,411		$	148,792
Electricity and steam sales		133,924			46,450			79,660

Total operating revenues		376,239			133,861			228,452

Operating Expenses
Plant operating expenses		158,603			49,797			103,616
Depreciation and amortization expense		91,161			28,737			57,032
Net interest expense on project debt		20,018			8,150			13,964
General and administrative expenses		19,247			3,932			39,630
Loss (gain) on asset retirements		907			(494	)		519

Total operating expenses		289,936			90,122			214,761

Operating income		86,303			43,739			13,691

Other Income (Expense)
Interest income		1,529			327			1,012
Interest expense		(22,630	)		(8,930	)		(16,394	)

Total other expenses		(21,101	)		(8,603	)		(15,382	)

Income (loss) before income tax (expense) benefit and minority interests		65,202			35,136			(1,691	)
Income tax (expense) benefit		(10,878	)		(6,546	)		2,317
Minority interests		(39,178	)		(19,842	)		(3,690	)

Net Income (Loss)	$	15,146		$	8,748		$	(3,064	)

~~In recording the Acquisition and in accordance with EITF D-97, the Company recorded~~ ~~incremental~~ The ~~fair~~accompanying ~~value~~notes ofare ~~$296.7 million as~~ an ~~addition~~integral topart ~~members’ equity and applied the respective fair value~~ of the ~~acquisitions in accordance with SFAS No. 141 “Business Combinations”~~condensed ~~(“SFAS~~ consolidated ~~141”).~~financial ~~The assets acquired and liabilities assumed were recorded at estimated fair values as determined by the Company’s management, using a preliminary valuation prepared by the independent appraisers~~statements.

The purchase price was allocated as follows, as of March 31, 2006 (in thousands of dollars):

Fair value of assets acquired
Current assets	$	180,805
Property, plant and equipment		1,973,317
Intangible assets (excluding goodwill)		287,421
Other assets		146,604
Goodwill		255,927
Total Assets Acquired		2,844,074
Fair value of liabilities assumed
Current liabilities		67,987
Current portion of Intermediate debt		28,212
Current portion of Project debt		64,305
Long-term Intermediate debt		434,746
Long-term Project debt		737,385
Deferred income taxes		157,311
Other liabilities		177,438
Total Liabilities Assumed		1,667,384
Minority interest account		783,129
Net assets acquired	$	393,561

As a result of the Acquisition, the Company recorded a liability relating to the closure of its headquarters of approximately $2.1 million and liabilities for severance and other compensation in the amount of $9.0 million, approximately $4.1 million of which has been paid relating to these liabilities as of March 31, 2006.

MSW ENERGY ~~Energy~~HOLDINGS II ~~Holdings~~ LLC ~~and~~AND ~~Subsidiaries~~SUBSIDIARIES

~~Notes~~ CONDENSED CONSOLIDATED toBALANCE ~~Condensed Consolidated Financial Statements (Unaudited)~~SHEETS

~~Pro~~ (In thousands ~~Forma~~of ~~Information~~dollars)

The following results represent the unaudited pro forma results as if the Acquisition had occurred on January 1, 2005. These results are presented for informational purposes only, and are not necessarily indicative of the actual results that would have resulted had the Acquisition actually occurred on January 1, 2005 (in thousands of dollars):


	As of
	September 30, 2006		December 31, 2005
	(Unaudited)

ASSETS
Current assets
Cash and cash equivalents	$	46,251	$	48,844
Restricted funds held in trust		71,334		71,513
Accounts receivable (less allowances of $3,293 and $2,267)		73,335		73,994
Prepaid expenses and other current assets		18,814		16,543

Total current assets		209,734		210,894
Property, plant and equipment, net		1,868,693		1,928,144
Intangible assets, net		246,590		271,787
Goodwill		217,548		255,927
Restricted funds held in trust		123,519		118,301
Other assets		10,099		10,254

Total assets	$	2,676,183	$	2,795,307


LIABILITIES AND MEMBER’S EQUITY
Current liabilities
Accounts payable trade	$	5,241	$	3,009
Accounts payable to related party, net		9,479		4,243
Current portion of intermediate debt		30,549		44,721
Current portion of project debt		45,315		59,668
Other current liabilities		55,732		67,001

Total current liabilities		146,316		178,642
Intermediate debt		418,150		428,202
Project debt		674,788		699,056
Deferred income taxes		263,101		260,369
Other liabilities		159,471		150,583

Total liabilities		1,661,826		1,716,852
Commitments and contingencies (Note 9)
Minority interests		753,866		779,637
Member’s equity
Total member’s equity		260,491		298,818

Total liabilities and member’s equity	$	2,676,183	$	2,795,307

	Pro Forma
	For the Three
	Months Ended
	March 31, 2005
Operating Revenues
Waste and service revenues	$	73,142
Electricity and steam sales		40,284
Total operating revenues		113,426
Operating Expenses
Plant operating expenses		58,422
Depreciation and amortization expense		29,906
Net interest expense on project debt		7,955
General and administrative expenses		5,871
Loss on asset retirements		1,386
Total operating expenses		103,540
Operating income		9,886
Interest income		584
Interest expense		(7,128	)
Income before minority interests and income taxes	$	3,342

The accompanying notes are an integral part of the condensed consolidated financial statements.

4. Reclassifications of Prior Periods

In order to conform to Covanta’s statement of operations presentation, the following reclassifications were made to the statement of operations for the three months ended March 31, 2005 (unaudited, in thousands of dollars):

	As Previously						As Reported
	Reported For the						For the
	Three Months Ended						Three Months Ended
	March 31, 2005			Reclassifications			March 31, 2005
Operating Revenues
Waste and service revenues	$	64,639		$	7,834		$	72,473
Electricity and steam sales		32,388			7,896			40,284
Other revenues		3,204			(3,204	)		—
Total operating revenues		100,231			12,526			112,757
Operating Expenses
Plant operating expenses		52,794			3,921			56,715
Depreciation and amortization expense		16,736			13,002			29,738
Net interest expense on project debt		—			7,318			7,318
General and administrative expenses		11,030			(4,757	)		6,273
Loss on asset retirements		1,386			—			1,386
Total operating expenses		81,946			19,484			101,430
Operating income		18,285			(6,958	)		11,327
Interest income		1,130			(572	)		558
Interest expense		(16,913	)		7,890			(9,023	)
Minority interests		(4,101	)		—			(4,101	)
Other income, net		360			(360	)		—
Loss before income taxes	$	(1,239	)	$	—		$	(1,239	)

These reclassifications consisted of the following:

• The amortization of above and below market contracts were reclassified from waste and service revenues ($1.8 million decrease to depreciation and amortization expense) and electricity and steam sales ($14.8 million increase to depreciation and amortization expense) into depreciation and amortization expense.

MSW ENERGY ~~Energy~~HOLDINGS II ~~Holdings~~ LLC ~~and~~AND ~~Subsidiaries~~SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF MEMBER’S EQUITY For The Nine Months Ended September 30, 2006 (Unaudited, in thousands of dollars)

Notes to Condensed Consolidated Financial Statements (Unaudited)


	Member’s
	Equity

Balance, December 31, 2005	$	298,818
Adjustments to purchase accounting, net of tax		(22,325	)
Distribution paid to member		(31,148	)
Net income		15,146

Balance, September 30, 2006	$	260,491

• The ~~Other~~accompanying ~~revenues,~~notes ~~which~~are ~~primarily~~an ~~consisted~~integral ofpart ~~sales~~ of ~~scrap metals, were reclassified from other revenues into waste and service revenues ($3.2 million). • Net interest expense on project debt and interest income on funds restricted for~~ the ~~payment~~condensed consolidated offinancial ~~project debt were reclassified as part of operating income (a net $7~~statements.3 million). • Certain costs associated with operating facilities and TransRiver were reclassified from general and administrative expenses into plant operating expenses ($4.8 million). • Reimbursements from certain municipal clients for operating expenses were reclassified from revenues to reductions of plant operating expenses ($1.1 million reduction). • Reductions of revenues shared with certain municipal customers for energy produced were reclassified from waste and service revenues to electricity and steam sales ($6.9 million reduction in electricity and steam sales). • Other minor miscellaneous reclassifications were also made to conform to Covanta’s presentation.

In addition to the reclassifications made to the Condensed Consolidated Statement of Operations, the “Change in restricted cash and investments, net” line on the Condensed Consolidated Statement of Cash Flows was reclassified from Investing Activities into Financing Activities, also to conform to Covanta’s presentation.

5. Intangible Assets and Goodwill

Intangible assets consisted of the following at (in thousands of dollars):

		As of
	Useful Life	March 31, 2006			December 31, 2005
Waste and energy contracts	4 — 11 years	$	194,562		$	194,562
Lease interest	24 years		71,845			71,845
Landfill	8 years		17,985			17,985
Other intangibles	Indefinite		3,029			3,029
			287,421			287,421
Accumulated amortization			(24,306	)		(15,634	)
Intangible assets, net		$	263,115		$	271,787

The following table details the amount of actual and expected amortization expense associated with intangible assets as of March 31, 2006 included, or expected to be included, in the Company’s statement of operations for each of the years indicated (in thousands of dollars):

	Waste and		Lease Interest
	Energy		and
	Contracts		Landfill		Totals
Three Months ended March 31, 2006	$	6,889	$	1,783	$	8,672
Remainder of 2006	$	20,600	$	3,844	$	24,444
2007		27,489		5,125		32,614
2008		27,478		5,125		32,603
2009		23,933		5,125		29,058
2010		13,593		5,125		18,718
2011		13,171		5,125		18,296
Thereafter		47,701		56,652		104,353
Total	$	173,965	$	86,121	$	260,086

Goodwill

In connection with the Acquisition, approximately $255.9 million of goodwill was recorded, which represents the total consideration paid in excess of the fair value of net tangible and intangible assets acquired in accordance with SFAS No. 142, “Goodwill and Other Intangibles” (“SFAS 142”).

MSW ENERGY ~~Energy~~HOLDINGS II ~~Holdings~~ LLC ~~and~~AND ~~Subsidiaries~~SUBSIDIARIES

~~Notes~~ CONDENSED CONSOLIDATED toSTATEMENTS ~~Condensed~~OF ~~Consolidated~~CASH ~~Financial Statements (Unaudited)~~FLOWS

6. (Unaudited, in ~~Other~~thousands ~~Current~~of ~~Liabilities~~dollars)

Other current liabilities consisted of the following (in thousands of dollars):


	For the Nine			For the Period from			For the Period from
	Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Cash flows from operating activities
Net income (loss)	$	15,146		$	8,748		$	(3,064	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization expense		91,161			28,737			57,032
Deferred income taxes		4,985			2,200			910
Revenue contract levelization		3,312			1,007			692
Amortization of lease liability		2,245			748			(1,593	)
Amortization of debt premium and deferred financing costs		(8,717	)		(2,700	)		(5,182	)
Loss (gain) on asset retirements		907			(494	)		519
Minority interests		39,178			19,842			3,690
Amortization of deferred revenue		—			(7	)		(75	)
Changes in assets and liabilities:
Accounts receivable, net		659			1,916			(4,211	)
Prepaid expenses and other current assets		(2,497	)		(235	)		(2,893	)
Other long-term assets		47			(1,186	)		(2,943	)
Accounts payable trade and other current liabilities		(3,595	)		5,224			(7,912	)
Accounts payable to related party, net		5,236			759			—
Accrued interest payable		(7,074	)		(5,348	)		5,515
Other long-term liabilities		(2,996	)		407			(772	)

Net cash provided by operating activities		137,997			59,618			39,713

Cash flows from investing activities
Purchase of property, plant and equipment		(10,058	)		(1,898	)		(25,228	)
Proceeds from sale of assets		243			487			2,651

Net cash used in investing activities		(9,815	)		(1,411	)		(22,577	)

Cash flows from financing activities
(Increase) decrease in restricted funds held in trust		(5,039	)		7,248			(8,273	)
Principal payments of intermediate debt		(22,400	)		(6,909	)		—
Principal payments of project debt		(31,767	)		(13,089	)		(29,178	)
Distributions paid to member		(31,148	)		(11,262	)		(19,469	)
Distributions paid to holders of minority interests in consolidated subsidiary		(40,421	)		(15,820	)		(25,000	)

Net cash used in financing activities		(130,775	)		(39,832	)		(81,920	)

Net (decrease) increase in cash and cash equivalents		(2,593	)		18,375			(64,784	)
Cash and cash equivalents, beginning of period		48,844			21,563			86,347

Cash and cash equivalents, end of period	$	46,251		$	39,938		$	21,563

	As of
	March 31, 2006		December 31, 2005
Accrued interest expense	$	15,752	$	22,720
Accrued expenses		23,611		22,928
Incentive plan accruals		1,693		3,135
Compensation liabilities		6,388		11,307
Duke liability		2,500		2,500
Other		5,456		6,880
Total other current liabilities	$	55,400	$	69,470

The accompanying notes are an integral part of the condensed consolidated financial statements.

7. Financing Arrangements

Long-term debt obligations consisted of the following (in thousands of dollars):

						As of
						March 31,			December 31,
	Interest Rate			Maturity		2006			2005
Company and Intermediate debt
Senior Notes		8.50	%		2010	$	195,785		$	195,785
Covanta ARC Senior Notes		6.26	%		2015		220,000			234,000
Subtotal of Company and Intermediate debt							415,785			429,785
Project debt
Project debt related to Service Fee Structure:
Seconn project debt		5.125% — 5.50	%		2015		53,705			53,705
Seconn Corporate Credit Bonds — 1992 Series A		6.45	%		2022		30,000			30,000
Seconn Corporate Credit Bonds I Series A and II Series A		5.50	%		2015		13,500			13,500
Essex project debt		5.248% — 7.375	%		2020		83,422			83,422
Tip fee structure related Project debt:
Niagara Series 2001		5.45% — 5.625	%		2015		165,010			165,010
Hempstead Corporate Credit Bonds		5.00	%		2010		42,670			42,670
Hempstead project debt		4.875% — 5.00	%		2009		123,625			123,625
Semass Series 2001A		5.50% — 5.625	%		2016		134,345			134,345
Semass Series 2001B		5.25% — 5.50	%		2010		57,580			75,250
Other obligations							183			199
Subtotal of Project debt							704,040			721,726
Total debt at par value							1,119,825			1,151,511
Unamortized premium							54,318			57,777
Current portion							(91,808	)		(105,665	)
Total long-term debt obligations						$	1,082,335		$	1,103,623

Project debt associated with the financing of facilities is generally arranged by municipal entities through the issuance of tax-exempt and taxable revenue bonds.

Certain of the debt agreements held by the Company contain restrictions on cash distributions, new borrowings and require certain defined leverage ratios and adjusted cash flow coverage ratios. As of March 31, 2006, the Company was not in default under the provisions of its debt obligations. Substantially all of the assets and revenues of the ARC operating facilities owned or controlled and operated by subsidiaries of the Company are pledged to trustees under the terms of the debt agreements. In addition, the terms of the documents governing these obligations limit the business activities and the circumstances and timing of making partnership distributions. In the event of any bankruptcy or liquidation, the Covanta ARC debt would be repaid prior to the repayment of the Senior Notes.

MSW Energy Holdings LLC and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)

8Note 1. ~~Other~~Organization ~~Long-Term~~and ~~Liabilities~~ Basis of Presentation

~~Other long-term liabilities consist of the following (in thousands of dollars):~~ Organization

			As of
	Amortization		March 31,		December 31,
	Period (years)		2006		2005
Waste contracts		9 — 17	$	129,795	$	132,371
Duke liability		15		26,058		25,602
Energy contract levelization		12		3,129		2,068
Landfill liabilities and ARO		8		11,768		11,577
Other		N/A		1,889		1,842
Incentive plan accruals		N/A		905		2,724
			$	173,544	$	176,184

MSW Energy Holdings LLC

In MSW ~~connection~~Energy Holdings LLC, a Delaware limited liability company (collectively herein with ~~the~~its ~~acquisition~~subsidiaries “MSW I”) and currently a subsidiary of Covanta ARC Holdings Inc. (“Covanta ARC Holdings”), ~~waste~~was ~~and~~formed in ~~service~~March ~~contracts~~2003 ~~were~~for ~~recorded~~the atpurpose ~~their~~of ~~fair~~acquiring a 50% indirect ~~market~~ membership ~~values,~~interest in ~~accordance~~Covanta ~~with~~Ref-Fuel ~~SFAS~~Holdings ~~141~~LLC (“Covanta Ref-Fuel”). At the initial closing on June 30, ~~based~~2003, ~~upon~~MSW ~~discounted~~I ~~cash~~acquired ~~flows~~MSW ~~attributable~~Energy Hudson LLC (“MSW Hudson”), which held a 49.8% membership interest in Covanta Ref-Fuel. MSW I had agreed to acquire MSW Energy Erie LLC, formerly known as Duke Energy Erie LLC (“Erie”), a wholly-owned subsidiary of Duke Energy Corporation (“Duke”) that held an additional 0.2% membership interest in Covanta Ref-Fuel within two years and six months after the purchase of MSW Hudson. MSW I consummated this transaction and acquired the remaining 0.2% membership interest on September 30, 2005. MSW Energy Finance Co., Inc. (“~~below~~MSW ~~market~~Energy Finance”), ~~portion~~a Delaware corporation and wholly-owned subsidiary of MSW I, was formed in June 2003 solely for the ~~waste~~purpose ~~contracts~~of ~~using~~serving ~~currently~~as ~~available~~a ~~information~~co-issuer of the MSW I 8.50% Senior Notes due 2010 described below. Other than serving as a co-issuer of the MSW I 8.50% Senior Notes due 2010, MSW Energy Finance does not have any operations or assets and does not have any revenues.

~~The following table details the amount of the actual/estimated amortization expense associated~~ ~~with the below market waste and service contracts liability as of March 31, 2006 included or~~ ~~expected to be included in the Company’s statements of operations for each of the years indicated~~ MSW ~~(in~~ Energy ~~thousands~~Holdings II ~~of dollars):~~LLC

	Waste
	Contracts
Three Months ended March 31, 2006	$	2,576
Remainder of 2006	$	7,726
2007		10,302
2008		10,302
2009		10,302
2010		10,302
2011		10,302
Thereafter		70,559
Total	$	129,795

MSW Energy Holdings II LLC, a Delaware limited liability company (collectively herein with its subsidiaries “MSW II”), and its wholly-owned subsidiary MSW Energy Finance Co. II, Inc. (“MSW Energy Finance II”), a Delaware corporation, were formed in August 2003 for the purpose of issuing debt, the proceeds of which, along with capital contributions, were used to fund the merger of MSW Merger LLC, MSW II’s then indirect parent, with and into an indirect, wholly-owned subsidiary of Covanta ARC Holdings (the “Merger”). After the Merger, Covanta Ref-Fuel II Corp. (“Covanta Ref-Fuel II”), a Delaware corporation and an indirect subsidiary of Covanta ARC Holdings, became a subsidiary of MSW II. The Merger was completed on December 12, 2003, and after the completion of the Merger, MSW II held a direct 49.9% capital interest in Covanta Ref-Fuel and wholly-owned Covanta Ref-Fuel II, which owned a 0.1% capital interest in Covanta Ref-Fuel. Both interests were contributed to MSW II by Covanta ARC Holdings. Other than serving as a co-issuer of the MSW II 7.375% Senior Notes due 2010, MSW Energy Finance II does not have any operations or assets and does not have any revenues.

9. MSW ~~Income~~I ~~Taxes~~and MSW II

The ~~components~~following chart reflects a simplified ownership structure of MSW I, ~~the~~MSW ~~provision~~Energy ~~for~~Finance, ~~income~~MSW II ~~taxes~~and ~~consisted~~MSW ofEnergy Finance II. ~~the~~Unless ~~following~~otherwise ~~(in~~noted, ~~thousands~~ownership ofinterests are ~~dollars)~~ 100%:

	For the Three			For the Three
	Months Ended			Months Ended
	March 31, 2006			March 31, 2005
Current provision	$	(1,852	)	$	(5,913	)
Deferred provision		1,403			5,394
Total consolidated income tax benefit	$	(449	)	$	(519	)

The Company had federal net operating loss carryforwards of approximately $1.5 million at December 31, 2005, which will expire between 2021 and 2024, and state net operating loss carryforwards of approximately $2.4 million, which have various expiration dates.

~~MSW~~ Notes ~~Energy~~to Condensed ~~Holdings~~Consolidated ~~LLC and Subsidiaries~~Financial Statements — (Unaudited)

~~Notes~~ Covanta ARC LLC (“Covanta ARC”), a wholly-owned subsidiary of Covanta Ref-Fuel, owns partnerships that develop, own and operate waste-to-energy facilities, ~~Condensed~~which ~~Consolidated~~combust ~~Financial~~municipal ~~Statements~~solid waste and produce energy in the form of electricity and steam. Through such partnerships, Covanta ARC owns or controls six waste-to-energy facilities located in the northeastern United States (~~Unaudited~~the “ARC operating facilities”). The subsidiaries of Covanta ARC that operate the ARC operating facilities (the “ARC operating companies”) derive revenues principally from disposal or tipping fees received for accepting waste and from the sale of electricity and steam produced by the ARC operating facilities. ARC operating subsidiaries include: (a) Covanta ARC Company; (b) TransRiver Marketing Company, L.P.; (c) Covanta Hempstead Company (“Hempstead”); (d) Covanta Essex Company (“Essex”); (e) Covanta Southeastern Connecticut Company (“Seconn”); (f) Covanta Niagara, L.P. (“Niagara”); (g) Covanta Company of Semass, L.P. (“Semass”); (h) Covanta of Semass, L.P.; and (i) Covanta Delaware Valley, L.P. (“Delaware Valley”).

10 Effective June 24, 2005, Covanta Holding Corporation (“Covanta”), a Delaware corporation, through its wholly-owned subsidiary, Covanta Energy Corporation (“Covanta Energy”), a Delaware corporation, acquired all of the issued and outstanding shares of capital stock of Covanta ARC Holdings (the “Acquisition”). ~~Commitments~~The Acquisition was made pursuant to the terms of a Stock Purchase Agreement, dated as of January 31, 2005 among Covanta, Covanta ARC Holdings and ~~Contingencies~~the stockholders of Covanta ARC Holdings. As a result of the Acquisition, Covanta, through Covanta Energy, owns 100% of the voting securities of Covanta ARC Holdings.

~~The~~ ~~Company~~ Covanta ~~and/or~~Energy ~~its~~paid ~~subsidiaries~~approximately ~~are~~$747 million, ~~party~~including transaction tocosts, afor ~~number~~the shares of ~~claims~~Covanta ARC Holdings and assumed the consolidated net debt of Covanta ARC Holdings, which ~~lawsuits~~ was ~~and~~approximately ~~pending~~$1.3 billion ~~actions~~as of June 24, ~~most~~2005 ($1.5 billion of ~~which~~consolidated ~~are~~indebtedness ~~routine~~net of $0.2 billion of cash and ~~all~~restricted cash). Upon consummation of the Acquisition, a change in ownership occurred, ~~which~~ and ~~are~~in ~~incidental~~accordance towith ~~its~~Emerging ~~business.~~Issues ~~The~~Task ~~Company~~Force (“EITF”) ~~assess~~Topic D-97, “Push-Down Accounting” (“EITF D-97”), the financial statements of MSW I and ~~likelihood~~ MSW II reflect the effects of ~~potential~~their ~~losses~~change onin anownership ~~ongoing~~and the new owner’s basis ~~and~~in ~~when~~the ~~losses~~net assets and liabilities ~~are~~ acquired. ~~considered~~Further, ~~probable~~the change in basis in the net assets and liabilities ~~reasonably~~acquired, ~~estimable~~including goodwill that was recorded in connection with the Acquisition, ~~records~~was aspushed adown ~~loss~~to anCovanta ARC ~~estimate~~ and certain of ~~the~~its ~~ultimate~~subsidiaries ~~outcome~~in accordance with EITF D-97. IfAs a result, the ~~company~~statement ~~can~~of ~~only~~operations ~~estimate~~ and the ~~range~~statement of acash flows ~~possible~~for ~~loss~~the period from January 1 through June 24, an2005 reflect ~~amount~~the ~~representing~~results of operations prior to purchase accounting adjustments and the ~~low~~balance ~~end~~sheet at December 31, 2005, the statements of operations for the three and nine months ended September 30, 2006 and for the ~~range~~period from June 25 through September 30, 2005 and statements of ~~possible~~cash ~~outcomes~~flows isfor ~~recorded.~~the nine ~~The~~months ~~final~~ended ~~consequences~~September 30, of2006 and for the period ~~these~~ from ~~proceedings~~June ~~are~~25 ~~not~~through ~~presently~~September 30, ~~determinable~~2005, ~~with~~reflect ~~certainty~~the impact of the purchase price allocation arising from the Acquisition.

~~Environmental~~ ~~Matters~~ Basis of Presentation

~~The~~ This ~~Company~~combined ~~operates~~Quarterly inReport ~~an environmentally sensitive industry and~~ on Form 10-Q is ~~subject~~filed tofor ~~extensive federal~~MSW I, ~~state~~MSW ~~and~~Energy ~~local~~Finance, ~~laws~~MSW II and MSW Energy ~~regulations~~Finance II. ~~adopted~~Information ~~for~~contained ~~the protection of the environment. The~~herein ~~laws~~ relating ~~and regulations primarily applicable~~ to ~~the~~any ~~Company~~individual ~~are~~company ~~those~~is ~~related~~filed toby ~~discharge~~such ofcompany on ~~emissions~~ its ~~into~~own ~~the~~behalf. ~~air and management of solid waste~~MSW I, ~~but~~MSW ~~can~~Energy ~~also include those related to water use~~Finance, ~~discharges~~MSW II ~~to water, wetlands preservation~~ and ~~hazardous waste management. Certain of these~~ ~~laws~~ MSW ~~have~~Energy ~~extensive~~Finance II ~~and~~each ~~complex~~make ~~requirements~~representations ~~relating~~only as to itself ~~obtaining construction~~ and ~~operating permits,~~its ~~monitoring,~~subsidiaries ~~record keeping~~ and ~~reporting.~~make ~~While~~no ~~management believes that it is in substantial compliance with permits and~~ other ~~applicable environmental laws relating to the~~representations ~~Company,~~ whatsoever ~~its~~as ~~facilities, from time~~ to ~~time,~~any ~~may~~other ~~not be in full compliance with all such laws~~company.

~~Noncompliance~~ The ~~with~~statements ~~environmental~~of ~~laws~~operations, ~~and~~balance ~~regulations~~sheets ~~can~~and ~~result~~cash ~~in the imposition of civil or~~flow ~~criminal~~ statements ~~fines~~for orMSW ~~penalties.~~I Inand ~~some~~MSW II ~~instances,~~each ~~environmental~~include ~~laws~~the consolidated ~~also~~results ~~may~~of ~~impose~~their ~~clean-up~~respective ~~or other~~operations ~~remedial~~and ~~obligations in~~ the results ~~event~~ of aoperations ~~release~~ of ~~pollutants~~Covanta orRef-Fuel ~~contaminants~~and ~~into~~its ~~the environment~~subsidiaries. As ~~The~~shown ~~Company~~in ~~incurs~~the ~~operating~~chart ~~costs~~above, ~~and~~MSW ~~capital~~I ~~expenditures~~and ~~related~~MSW II toeach ~~various~~own, ~~environmental~~ directly ~~protection~~ and ~~monitoring~~indirectly, ~~programs.~~50% ~~Such~~of ~~expenditures~~Covanta ~~have~~Ref-Fuel, ~~not~~which ~~had a material adverse~~owns ~~effect~~ 100% onof ~~the~~Covanta ~~Company’s~~ARC. ~~consolidated~~As ~~financial~~such, ~~position~~the or results of operations~~. However~~, ~~federal,~~balance ~~state~~ sheets and ~~local~~cash ~~regulatory~~flow ~~authorities~~statements ~~may~~for ~~consider~~each ~~proposals~~of toMSW ~~restrict~~I orand MSW II ~~tax~~include ~~certain~~the ~~emissions, which~~consolidated ~~proposals,~~results ifof ~~adopted,~~Covanta ~~could~~Ref-Fuel along ~~impose~~with ~~additional~~the ~~costs~~minority oninterest adjustment for the ~~operation~~50% ownership interest of the ~~Company~~other.

~~Lower Passaic River Study. By letters dated August 13, 2004 and May 3, 2005, the~~ ~~Environmental~~ The ~~Protection~~accompanying ~~Agency~~unaudited ~~(“EPA”)~~condensed ~~notified~~consolidated ~~the Essex facility that it was potentially liable~~financial ~~under~~ statements ~~CERCLA~~have ~~Section~~been ~~107(a)~~prepared ~~for response actions~~ in ~~the~~accordance ~~Lower~~with ~~Passaic River Study Area (“LPRSA”), a 17-mile stretch of river in northern New Jersey. Essex is one of at least 52 PRPs named thus far. EPA alleged that hazardous substances found in~~ the ~~LPRSA were being released from the Essex site,~~ ~~which~~ instructions ~~abuts the river. EPA’s notice letters stated that Essex may be liable for costs related~~ to a ~~proposed $10~~ Form ~~million~~10-Q. As ~~study~~permitted ofby the ~~Lower~~rules ~~Passaic River, for certain past costs incurred by EPA totaling approximately $2.8 million~~ and ~~for~~regulations ~~unspecified natural resource damages. Considering the history~~ of ~~industrial and other discharges into~~ the ~~LPRSA~~Securities ~~from other sources, including named PRPs,~~and ~~Essex~~ Exchange ~~believes~~Commission ~~any releases from its site to be de minimus in comparison; however, it is not possible at this time to predict that outcome with certainty or to estimate Essex’s ultimate liability in~~ (the ~~matter~~“SEC”), ~~including for natural resource damages. Given~~ the ~~uncertainty, Essex has~~financial ~~entered~~ statements ~~into~~contain ancertain ~~arrangement~~condensed ~~with~~financial ~~EPA~~information and exclude ~~the~~certain ~~cooperating~~footnote ~~PRP~~disclosures ~~group~~normally toincluded ~~settle the potential~~in ~~liability~~ audited ~~Essex~~consolidated ~~might~~financial ~~have~~statements ~~for~~prepared ~~the $2.8 million~~ in ~~past costs incurred by EPA, and for the $10~~accordance ~~million~~ with ~~cost~~United ofStates ~~the~~generally ~~study,~~accepted byaccounting ~~contributing $0~~principles.~~25 million~~ ~~to the cost of the study and by agreeing~~In to presenting ~~share in certain past and ongoing legal fees and other costs of~~ the ~~cooperating~~unaudited ~~PRP~~condensed ~~group.~~consolidated

~~MSW~~ Notes ~~Energy~~to Condensed ~~Holdings~~Consolidated ~~LLC and Subsidiaries~~Financial Statements — (Unaudited)

~~Notes~~ financial statements, management made estimates and assumptions that affected the amounts reported and related disclosures. Estimates, by their nature, are based on judgments and available information. Accordingly, actual results could differ from those estimates. In the opinion of management, the accompanying financial statements contain all adjustments, including normal recurring accruals, necessary to ~~Condensed~~fairly ~~Consolidated~~present ~~Financial~~the ~~Statements~~accompanying condensed ~~(Unaudited)~~consolidated financial statements. Operating results for the interim period are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2006. Certain prior period amounts have been reclassified to conform to the current year’s presentation. For further information, refer to the consolidated financial statements and footnotes thereto included in the respective MSW I and MSW II Annual Reports on Form 10-K for the year ended December 31, 2005.

~~Other~~Note ~~Matters~~ 2. New Accounting Pronouncements

~~The~~ In ~~Company~~June is2006, ~~involved~~the inFinancial ~~various~~Accounting ~~claims~~Standards orBoard (“FASB”) ~~litigation~~issued FASB Interpretation No. 48, “Accounting for Uncertainty in ~~the~~Income ~~ordinary~~Taxes — ~~course~~an interpretation of ~~business~~FASB Statement No. 109” ~~Management~~ (“FIN 48”). ~~believes~~This ~~that~~interpretation increases the relevancy ~~ultimate~~and ~~resolution~~comparability of ~~these~~financial ~~matters,~~reporting ~~either~~by ~~individually~~clarifying the orway companies account for uncertainty in ~~the~~income taxes. ~~aggregate~~ FIN 48 prescribes a consistent recognition threshold and measurement attribute, ~~will~~as ~~not~~well ~~have~~as aclear ~~material~~criteria ~~impact~~for subsequently onrecognizing, derecognizing and measuring such tax positions for financial statement purposes. The interpretation also requires expanded disclosure with respect to the uncertainty ~~future~~in ~~results~~income oftaxes. ~~operations~~FIN 48 is effective for fiscal years beginning after December 15, ~~cash~~2006. ~~flows~~MSW orI and ~~financial~~ MSW II ~~position~~are ofcurrently evaluating the ~~Company~~potential impact of this interpretation on its consolidated financial statements.

~~Mercury~~ In ~~Regulation~~September ~~at Essex. On December 6~~2006, ~~2004,~~ the ~~New~~FASB ~~Jersey~~issued ~~Department~~Statement of ~~Environmental~~Financial ~~Protection~~ Accounting Standards (“~~NJDEP~~SFAS”) ~~promulgated regulations applicable to the Essex facility that will make mercury emission requirements more stringent~~No. ~~Specifically~~ 157, ~~the new regulations increase the~~“Fair ~~required~~ Value ~~removal~~Measurements” ~~efficiency to 85% removal on January~~(“SFAS 3,157”). SFAS 157 ~~2006~~defines ~~and~~fair ~~95% removal on January 3~~value, ~~2012, while~~establishes ~~retaining the alternative limit of 28 micrograms per cubic meter. As~~ a ~~result~~framework ~~of the new~~for ~~regulations,~~ measuring ~~there~~fair isvalue anin ~~increased~~generally ~~risk~~accepted ~~that~~accounting ~~emission~~principles and ~~exceedances~~expands ~~will~~disclosures ~~occur~~about ~~and~~fair ~~therefore~~value anmeasurements. ~~increased~~ SFAS 157 ~~probability that additional controls~~ will ~~ultimately~~ be ~~required~~applied tounder ~~prevent~~other ~~such exceedances.~~accounting ~~The Company believes~~ principles that ~~the~~require ~~new~~or ~~requirements~~permit ~~may~~fair atvalue ameasurements, ~~minimum~~as ~~result~~this inis ~~increased~~a ~~operating~~ relevant ~~costs~~measurement ~~due to increased use of activated carbon in the existing control equipment~~attribute. ~~The Company~~This ~~cannot~~statement ~~currently~~does ~~determine~~not ~~the likelihood of additional capital and operating costs being~~require ~~incurred~~ any innew ~~connection~~fair ~~with~~value ~~these changes in regulation, or the total of any such costs~~measurements. ~~If additional~~SFAS 157 ~~cost~~ is ~~required,~~effective itfor fiscal isyears ~~not~~beginning ~~anticipated~~after toNovember 15, ~~have~~2007 aand ~~material impact on the Company because~~interim ~~the~~ periods ~~Essex~~within ~~service~~those ~~agreement~~fiscal ~~provides~~years. aMSW ~~mechanism~~I ~~for~~and aMSW II ~~pass-through to the Port Authority of New~~are ~~York~~ currently ~~and~~evaluating ~~New Jersey of~~ the ~~majority~~impact of ~~any~~this ~~additional~~statement ~~capital~~on ~~costs and all operating costs that~~its ~~may~~ consolidated befinancial ~~required~~statements.

~~CMW Landfill. Semass Partnership, a 90% owned subsidiary of Ref-Fuel Semass, has a waste~~ ~~management agreement (the “WMA”) dated May 25, 1982, as amended, with the Carver, Marion, Wareham~~ ~~Regional Refuse Disposal District (“CMW”)~~ Note 3. ~~The WMA allows Semass Partnership to utilize a portion~~ Business ~~of a landfill (the “CMW Landfill”), which CMW leases from Wankinco River, Inc. (“Wankinco”).~~ Combinations

~~In March 1990, the Semass Partnership, CMW and Wankinco entered into an agreement related to~~ ~~the CMW Landfill, as amended (the “Settlement Agreement”), which requires, among other things, the~~ ~~Semass~~ MSW ~~Partnership~~I to make annual deposits into an environmental protection trust fund (the “Fund”) in lieu of obtaining environmental impairment liability insurance for the CMW Landfill. The Semass Partnership is required under the Settlement Agreement to deposit $0.5 million annually into the Fund, payable in equal quarterly installments. Certain additional deposits are required subject to the availability of cash in accordance with the Loan Agreement. The Semass Partnership’s obligation to make deposits into the Fund ceases when the Fund reaches a balance of $20 million unless the fund limit is increased by agreement of the parties, or absent such agreement, by arbitration, wherein it is determined the fund limit needs to be increased to adequately protect against environmental damage. Wankinco by letter dated March 29, 2005, and ~~pursuant to its rights under the~~ ~~Settlement Agreement, has requested a re-evaluation of the Fund limit and an increase of such limit to $29.7~~ MSW ~~million. Management believes that the $20 million fund limit is adequate for its intended~~II purpose. Discussions between Semass Partnership and Wankinco about the Fund limit are ongoing; no arbitration has been commenced. Proceeds from the Fund are to be used primarily for remediation of the CMW Landfill in the event of environmental damage. The Semass Partnership and Wankinco are each entitled to receive one-half of the balance of the Fund upon final closure of the CMW Landfill and receipt of required governmental approvals. During the three months ended March 31, 2006 and the year ended December 31, 2005, the Semass Partnership made the required quarterly deposits into the Fund and charged operations for one-half of the deposits into the Fund, representing one-half of the balance of the Fund which will be disbursed to Wankinco upon final closure of the CMW Landfill. Additional charges to operations may be required in future years if any disbursements are required from the Fund to remediate any environmental damages. To date, management is not aware of any such environmental damages. As of March 31, 2006 and December 31, 2005, the balance in the Fund was approximately $17.5 million and $17.3 million, respectively, and was included in restricted cash and long-term investments. A corresponding liability, representing approximately one-half of the deposits and related earnings in the Fund, was included in other long-term liabilities.

~~The~~ ~~Company~~ In ~~and~~connection ~~certain~~with of its subsidiaries have issued or are party to performance guarantees and related contractual support obligations undertaken mainly pursuant to agreements to construct and operate certain waste-to-energy facilities. The Company and certain of its subsidiaries have issued guarantees to municipal clients and other parties that the ~~Company’s subsidiaries will perform in accordance with contractual terms~~Acquisition, ~~including, where required,~~ the ~~payment~~ assets of ~~damages~~Covanta ~~or other obligations. Such contractual damages or~~ARC ~~other~~ Holdings ~~obligations~~were ~~could~~valued beby ~~material,~~independent ~~and~~appraisers in ~~circumstances~~order ~~where one or more subsidiary’s contract has been terminated for its default, such damages could include amounts sufficient~~ to ~~repay project debt.~~ ~~The~~ assist ~~Company~~Covanta ~~has~~management ~~not recorded any amount as a liability~~ in ~~its condensed~~the ~~consolidated~~determination ~~balance sheet as~~ of ~~March 31, 2006 as it believes that it had not incurred such liability at~~ the ~~date of~~purchase ~~the~~ price ~~financial~~allocations ~~statements.~~relating Ifto the ~~Company~~fair ismarket ~~asked~~value toof ~~perform under~~the ~~one~~ assets ~~or more such guarantees, its liability for damages upon contract termination could be reduced by funds held in trust~~ and ~~proceeds~~liabilities ~~from sales~~acquired ofon ~~the facilities securing the project debt~~June 24, ~~which is presently not estimable~~2005.

11. Employee Compensation and Benefit Plans

Stock Option Plan

On August 11, 2004, the Board of Directors of Covanta ARC Holdings adopted the 2004 Stock Option Plan (the “SOP”), effective January 1, 2004, as further modified on September 16, 2004. The SOP was designed to link the interests of former officers of Covanta ARC Holdings (who were also the senior management of Covanta Ref-Fuel) to the interests of Covanta ARC Holdings shareholders through the granting of options to purchase stock of Covanta ARC Holdings. Covanta ARC Holdings is a privately held company. During 2004, Covanta ARC Holdings granted 13,199 options to the executive officers of Covanta Ref-Fuel under the SOP, with a weighted average exercise price per share of $1,189.51.

~~MSW~~ Notes ~~Energy~~to Condensed ~~Holdings~~Consolidated ~~LLC and Subsidiaries~~Financial Statements — (Unaudited)

~~Notes~~ In recording the Acquisition and in accordance with EITF D-97, MSW I and MSW II recorded incremental fair value of $290.4 million and $158.1 million, respectively, as an addition to ~~Condensed~~MSW ~~Consolidated~~I ~~Financial~~members’ ~~Statements~~equity and MSW II member’s equity, respectively, and applied the respective fair value of the acquisitions in accordance with SFAS No. 141, “Business Combinations” (~~Unaudited~~“SFAS 141”). The following table summarizes the purchase price allocation of the assets acquired and the liabilities assumed (in thousands of dollars):

On January 31, 2005, in conjunction with the Acquisition, the Board of Directors of Covanta ARC Holdings and optionees under the SOP adopted an Option Modification Agreement (“OMA”). Under the terms of the OMA, immediately prior to the Acquisition, the SOP plan was terminated, and on June 24, 2005, a cash payment representing all outstanding options granted or ungranted, but authorized under the terms of the SOP, together with certain amounts due and anticipated under other long term compensation plans, was made in the amount of approximately $30.2 million and was recorded as compensation expense prior to the Acquisition.


	MSW I		MSW II

Fair value of assets acquired
Current assets	$	180,579	$	175,048
Property, plant and equipment		1,982,847		1,982,847
Intangible assets (excluding goodwill)		287,421		287,421
Goodwill		217,548		217,548
Other assets		146,496		141,404

Total assets acquired		2,814,891		2,804,268

Fair value of liabilities assumed
Current liabilities		68,409		66,980
Current portion of intermediate debt		28,212		23,601
Current portion of project debt		64,344		64,344
Long-term intermediate debt		434,746		457,730
Long-term project debt		737,385		737,385
Deferred income taxes		166,419		251,421
Other liabilities		169,537		167,284

Total liabilities assumed		1,669,052		1,768,745

Minority interests		758,601		755,541

Net assets acquired	$	387,238	$	279,982

~~The~~ As ~~weighted~~a ~~average~~result ~~fair value~~ of ~~these options granted for~~ the ~~three~~Acquisition, ~~months~~liabilities ~~ended~~were ~~March 31,~~recorded ~~2005~~ relating ~~was~~to ~~$133.24~~the ~~per~~closure ~~share.~~of ~~The~~its ~~weighted~~headquarters ~~average fair value~~ of ~~each stock option at March~~approximately $2.1 ~~31,~~million ~~2005 was~~and ~~calculated~~for ~~using~~severance ~~the~~and ~~minimum~~other ~~value~~compensation ~~option pricing model with~~ in the ~~following~~amount ~~assumptions: expected life three years; expected dividend~~ of ~~zero; and risk free interest rate or 3.~~$9%.0 million. ~~Options awarded~~As ~~under the SOP vest over a period~~ of ~~four~~September 30, ~~years and expire ten years from~~ 2006 the ~~date~~remaining ofrestructuring ~~grant. Such~~liability ~~ten-year period~~ is ~~automatically extended under certain circumstances~~approximately $4.4 million.

~~The Company had applied the recognition provisions of APB 25 and related interpretations in~~ ~~accounting for its stock-based compensation plans. No compensation cost had been recognized for the~~ ~~stock~~ Pro Forma ~~option plan prior to its termination.~~Information

The ~~Company~~following ~~applied~~summarized ~~the~~results ~~recognition~~represent ~~provisions~~the ofunaudited ~~APB 25 and related interpretations in~~pro ~~accounting~~ forma ~~for~~results ~~its~~as ~~stock-based~~if ~~compensation plans. No compensation cost was recognized for~~ the ~~stock~~ ~~option~~Acquisition ~~plan~~had ~~during~~occurred ~~the three months ended March~~on January 311, 2005. ~~The~~These ~~Company’s~~results ~~net~~are ~~loss~~presented ~~as reported~~for ~~would~~ informational ~~have~~purposes ~~been~~only, ~~increased~~and byare ~~$1.8 million,~~not ~~resulting~~necessarily inindicative of athe ~~pro~~actual ~~forma,~~results asthat ifwould ~~compensation~~have ~~cost~~resulted had ~~been~~ ~~determined consistent with~~ the Acquisition ~~provisions~~actually ofoccurred ~~SFAS~~on ~~No. 123 for~~ the ~~three~~same ~~months~~terms ~~ended March~~on January 311, 2005, ~~net~~(in ~~loss~~thousands of ~~$2.5 million.~~dollars):

~~Certain employees are covered under comparable Covanta long-term incentive plans, and the~~ ~~provisions of SFAS 123R have been followed. See Note 2 –~~ ~~Significant Accounting Policies and New Accounting Pronouncements of the~~ MSW ~~Notes to Condensed Consolidated Financial Statements.~~ I

12. Related Party Transactions


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
Pro Forma	2006		2005		2006		2005

Total operating revenues	$	129,087	$	125,201	$	376,239	$	364,173
Income before income tax expense and minority interests	$	33,615	$	31,749	$	67,195	$	62,096

As a result of the Acquisition, Covanta and its subsidiaries became affiliates of the Company. As of March 31, 2006 and December 31, 2005, the Company had a net payable to affiliate of $15.5 million and $4.2 million, respectively, which related to certain costs paid on behalf of the Company by its affiliates. The affiliate balances are and will continue to be cash settled, and relate to services in the ordinary course of business.

~~ITEM~~ Notes 2.to Condensed ~~MANAGEMENT’S~~Consolidated ~~DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS~~Financial Statements — (Unaudited)

~~The following discussion addresses the financial condition of MSW Energy Holdings LLC (the~~ ~~“Company”) as of March 31, 2006, and its results of operations for the three months ended March 31,~~ 2006, compared with the same period last year. It should be read in conjunction with the Company’s Unaudited Condensed Consolidated Financial Statements and Notes thereto for the periods ended March 31, 2006 and 2005 which is contained in this report. Additionally, it should be read in conjunction with the Company’s Audited Consolidated Financial Statements and Notes thereto for the year ended December MSW ~~31, 2005 and Management’s Discussion~~II ~~and Analysis included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005.~~

The preparation of interim financial statements necessarily relies heavily on estimates. This and certain other factors, such as the seasonal nature of portions of the Company’s business as well as competitive and other market conditions, call for caution in estimating full year results based on interim results of operations. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts and classification of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
Pro Forma	2006		2005		2006		2005

Total operating revenues	$	129,087	$	125,201	$	376,239	$	364,173
Income before income tax expense and minority interests	$	33,270	$	31,449	$	65,202	$	60,188

~~Effective~~Note June 24, 2005, Covanta Holding Corporation (“Covanta”), a Delaware corporation, through its wholly-owned subsidiary, Covanta Energy Corporation (“Covanta Energy”), a Delaware corporation, acquired all of the issued and outstanding shares of capital stock of Covanta ARC Holdings, Inc4. ~~(“Covanta~~Intangible ~~ARC~~Assets ~~Holdings”) (the “Acquisition”). The Acquisition was made pursuant to the terms of a Stock Purchase Agreement, dated as of January 31, 2005 among Covanta, Covanta ARC Holdings~~ and ~~the stockholders of Covanta ARC Holdings (the “Purchase Agreement”). As a result of the Acquisition, Covanta, through Covanta Energy, owns 100% of the voting securities of Covanta ARC Holdings.~~ Goodwill

~~Covanta Energy paid approximately $747 million, including transaction costs, for the shares of~~ ~~Covanta ARC Holdings and assumed the consolidated net debt of Covanta ARC Holdings, which was~~ ~~approximately~~ MSW ~~$1.3 billion~~I ~~as of June 24, 2005 ($1.5 billion of consolidated indebtedness net of $0.2 billion of cash~~ and ~~restricted cash). Upon consummation of the Acquisition, a change in~~ ownership occurred, and in accordance with Emerging Issues Task Force (“EITF”) Topic D-97, “Push-Down Accounting” (“EITF D-97”), the Company’s financial statements reflect the effects of its change in ownership and the new owner’s basis in the net assets and liabilities acquired. As a result, the Company’s statements of operations and the statements of cash flows for the period from January MSW ~~1, 2005 through March 31, 2005, reflect the results of the Company prior to purchase~~II accounting adjustments (referred to as “predecessor”) and the balance sheet at December 31, 2005 and the statement of operations and statement of cash flows for the three months ended March 31, 2006 reflect the impact of preliminary purchase accounting adjustments arising from the Acquisition (referred to as “successor”).

~~Overview~~ Intangible assets for each of MSW I and MSW II consisted of the following (in thousands of dollars):

The Company is organized as a holding company with all of its operations conducted through subsidiaries in the waste and energy services business. As of June 24, 2005, Covanta purchased 100% of the stock of Covanta ARC Holdings. Covanta also conducts its operations through subsidiaries in the waste and energy services business, and the Company’s management, and that of its subsidiaries, is now controlled by Covanta.


		As of
	Useful Life (Years)	September 30, 2006			December 31, 2005

Waste and energy contracts	3 — 10	$	194,562		$	194,562
Lease interest	23		71,845			71,845
Landfill	7		17,985			17,985
Other intangibles	Indefinite		3,029			3,029

			287,421			287,421
Accumulated amortization			(40,831	)		(15,634	)

Intangible assets, net		$	246,590		$	271,787

~~The~~ Amortization ~~Company~~expense ~~has~~for ~~issued~~each ~~its~~of ~~8.50%~~MSW ~~Series B~~I ~~Senior~~and ~~Secured~~MSW II ~~Notes~~for ~~due 2010 (“Senior Notes”). In~~the ~~order~~ three toand ~~pay~~nine ~~periodic~~months ~~debt~~ended ~~service when due on the Senior Notes~~September 30, ~~the~~2006 ~~Company relies on cash~~was ~~distributions~~ $8.4 million ~~from~~and ~~its~~$25.2 million, ~~subsidiaries~~respectively. ~~Its~~The following ~~ability~~table todetails ~~pay such debt service is dependent upon~~ the ~~ability~~ ofamortization ~~its~~expense ~~operating subsidiaries to generate cash flow~~ for ~~distributions,~~each ~~and~~of ~~upon the ability~~MSW of I ~~its~~and ~~intermediate~~MSW II ~~subsidiary,~~associated ~~Covanta~~with ~~ARC~~intangible ~~LLC~~assets ~~(“Covanta~~expected ~~ARC”),~~ to ~~satisfy financial and other~~ ~~covenants~~ be ~~applicable~~included toin ~~it under its debt arrangements. The Company has historically received sufficient cash distributions to pay periodic debt service on~~ the ~~Senior~~statement ~~Notes.~~of ~~For~~operations ~~additional detail~~for ~~regarding~~each ~~risks attendant to the businesses~~ of the ~~Company’s operating subsidiaries, see~~years ~~“Risk~~ indicated ~~Factors”~~ (in ~~Item 1A~~thousands of ~~the Company’s Annual Report on Form 10-K for the year ended December~~dollars): ~~31, 2005.~~

The Company’s quarterly operating income within the same fiscal year typically differs substantially due to seasonal factors, primarily as a result of the timing of scheduled plant maintenance. The Company has typically experienced lower operating income from its projects during the first six months of each year, and higher operating income during the second six months of each year.


	Waste and		Lease Interest
	Energy		and
	Contracts		Landfill		Totals

Remainder of 2006	$	6,872	$	1,047	$	7,919
2007		27,489		5,125		32,614
2008		27,478		5,125		32,603
2009		23,933		5,125		29,058
2010		13,593		5,125		18,718
2011		13,171		5,125		18,296
Thereafter		47,701		56,652		104,353

Total	$	160,237	$	83,324	$	243,561

The following discussion of the Company’s financial condition and operating results should be read in conjunction with the condensed consolidated financial statements and related notes appearing in this Quarterly Report on Form 10-Q, and in its Annual Report on

~~Form 10-K~~ Notes ~~for the year ended December 31, 2005, which includes the financial statements of~~to ~~Covanta~~ Condensed ~~Ref-Fuel~~Consolidated ~~Holdings LLC, and the supplemental information that follows.~~Financial Statements — (Unaudited)

~~Results of Operations~~ Goodwill

~~The results of operations for the three months ended March 31, 2006 are not comparable to the~~ ~~Company’s results of operations for the three months ended March 31, 2005, due to revaluation of~~ ~~the~~ MSW ~~Company’s~~I ~~balance sheet as of June~~and MSW ~~24, 2005 in connection with Covanta’s acquisition of Covanta~~II ~~ARC Holdings.~~

~~The~~ In ~~Company~~connection ~~believes~~with ~~that~~the ~~an understanding of its reported results~~Acquisition, ~~trends and ongoing~~approximately ~~performance~~ $217.5 million isof ~~enhanced~~goodwill byrelated ~~presenting~~to ~~results~~each onof aMSW ~~pro~~I ~~forma basis as if the acquisition of Covanta~~and ~~ARC~~ MSW II ~~Holdings~~was ~~by Covanta occurred on January 1~~recorded, ~~2005.~~which ~~This~~represented ~~pro forma supplemental data is presented because~~ the ~~Company believes that it provides a more useful presentation of the Company’s~~total ~~financial~~ consideration ~~condition~~paid ~~than does the data included~~ in ~~historical~~excess ~~financial statements. As a result~~ of ~~the~~ ~~Acquisition,~~ the ~~Company’s~~fair ~~balance~~value ~~sheet was revalued as~~ of ~~June 24,~~net ~~2005. These results are~~tangible ~~presented~~ and ~~because~~intangible ~~the~~assets ~~Company~~acquired ~~believes they may be useful~~ in ~~measuring~~accordance ~~its ability to meet debt~~with ~~service obligations~~ SFAS No. 142, ~~but~~“Goodwill ~~they are not necessarily indicative of actual results~~ and ~~should not be~~Other ~~considered as an alternative to cash flow from operating activities as a measure of liquidity~~ Intangibles.” The ~~Company’s~~ ~~consolidated~~changes ~~results of operations, as reported and where applicable, on a pro forma basis, are summarized~~ in the ~~tables~~carrying ~~and~~value ~~discussions below. The pro forma adjustments are described~~of on goodwill ~~page 20. The pro forma financial information is presented~~ for ~~informational~~MSW ~~purposes~~I ~~only~~ and is ~~not~~MSW ~~indicative~~II offor the ~~results~~nine ofmonths ~~operations that would have been~~ended ~~achieved if the Acquisition had taken place on January~~ September 130, ~~2005~~2006 orare ~~that~~as ~~may~~follows ~~result~~ (in ~~the~~thousands ~~future.~~of dollars):

Results of Operations — Three Months Ended March 31, 2006 vs. Three Months Ended March 31, 2005


	MSW I			MSW II

Balance, December 31, 2005	$	255,927		$	255,927
Purchase accounting adjustments
Duke liability		(27,358	)		—
Waste contract liability		12,140			12,140
Fair value adjustment through equity		(6,323	)		(22,325	)
Minority interest		(24,528	)		(24,528	)
Deferred income taxes		9,108			(2,248	)
Other		(1,418	)		(1,418	)

Balance, September 30, 2006	$	217,548		$	217,548

	For the Three Months Ended March 31,
	Reported				Pro Forma
	2006		2005		2006		2005
	(Unaudited, in thousands of dollars)
Operating Revenues
Waste and service revenues	$	74,501	$	72,473	$	74,501	$	73,142
Electricity and steam sales		42,940		40,284		42,940		40,284
Total operating revenues		117,441		112,757		117,441		113,426
Operating Expenses
Plant operating expenses		63,842		56,715		63,842		58,422
Depreciation and amortization expense		30,308		29,738		30,308		29,906
Net interest expense on project debt		6,887		7,318		6,887		7,955
General and administrative expenses		6,604		6,273		6,604		5,871
Loss on asset retirement		—		1,386		—		1,386
Total operating expenses		107,641		101,430		107,641		103,540
Operating income	$	9,800	$	11,327	$	9,800	$	9,886

See “MSW I” of Note 9 — Commitments and Contingencies for a discussion of the Duke liability termination.

~~Comparison~~Note ~~of Reported Results for the Three Months Ended March 31, 2006 vs~~5. ~~Three~~Other ~~Months~~Current ~~Ended March 31, 2005~~ Liabilities

~~Total Operating Revenues. Total operating revenues were $117.4 million for the three~~ ~~months~~ Other ~~ended~~current ~~March 31,~~liabilities ~~2006,~~consisted ~~an increase~~ of ~~$4.7 million when compared to~~ the ~~same~~following ~~period~~ (in ~~the~~ ~~prior~~ thousands ~~year.~~of dollars):

~~Waste~~ ~~and service revenues increased by $2.0 million due primarily to~~ ~~favorable pricing during the three months ended March 31, 2006,~~ MSW ~~compared to the same period in 2005. Electricity and steam sales~~ I ~~increased by $2.7 million for the three months ended March 31, 2006, compared to the same period in 2005 due primarily to improved energy pricing.~~

Total Operating Expenses. Total operating expenses were $107.6 million for the three months ended March 31, 2006, an increase of $6.2 million when compared to the same period in the prior year due primarily to higher levels of maintenance costs and increased compensation expense.


	As of
	September 30, 2006		December 31, 2005

Accrued interest expense	$	15,618	$	22,720
Accrued expenses		20,072		22,928
Incentive plan accruals		2,290		3,135
Compensation liabilities		6,589		11,307
Duke liability		—		2,500
Other		11,950		6,880

Total other current liabilities	$	56,519	$	69,470

~~Operating~~ See ~~Income.~~“MSW ~~Total~~I” ~~operating~~of ~~income was $~~Note 9.8 ~~million~~— ~~for~~Commitments ~~the three months ended~~and ~~March 31,~~ Contingencies ~~2006,~~for a ~~decrease~~discussion of ~~$1.5 million for~~ the ~~same~~Duke ~~period~~liability ~~in 2005~~termination.

Comparison of Pro Forma Results for the Three Months Ended March 31, 2006 vs. Three Months Ended March 31, 2005

Total Operating Revenues. Total operating revenues were $117.4 million for the three months ended March 31, 2006, an increase of $4.0 million over the comparable prior year period.

~~Waste and service revenues were $74.5 million for the three months ended March 31, 2006, an~~ ~~increase of $1.4 million when compared to the same period in 2005. The~~ ~~increase~~ Notes ~~in waste and service revenue was primarily attributable~~ to ~~favorable pricing during the~~ ~~three~~ Condensed ~~months~~Consolidated ~~ended March~~Financial Statements ~~31, 2006 when compared to the same period in 2005.~~— (Unaudited)

~~Electricity and steam sales were $42.9 million for the three months ended March 31, 2006, an~~ ~~increase of $2.7~~ MSW ~~million compared to the same period in 2005.~~II ~~This increase was primarily attributable to improved energy pricing in 2006 as compared to the same period in 2005.~~

Plant Operating Expenses. Plant operating expenses were $63.8 million for the three months ended March 31, 2006, an increase of $5.4 million as compared to the prior year period. The increase was primarily due to higher levels of maintenance costs and increased compensation expense in the current period as compared to the period from the prior year.


	As of
	September 30, 2006		December 31, 2005

Accrued interest expense	$	15,609	$	22,683
Accrued expenses		20,034		22,894
Incentive plan accruals		2,290		3,135
Compensation liabilities		6,589		11,307
Other		11,210		6,982

Total other current liabilities	$	55,732	$	67,001

~~Net Interest~~Note ~~Expense on Project Debt~~6. ~~Net~~Financing interest expense on project debt decreased approximately $1.1 million for the three months ended March 31, 2006 primarily as a result of lower project debt, as compared to the three months ended March 31, 2005. Arrangements

Intermediate debt consisted of the following (in thousands of dollars):

MSW I


	As of
	September 30, 2006		December 31, 2005

8.50% Senior Notes due 2010	$	195,785	$	195,785
6.26% Covanta ARC Senior Notes due 2015		211,600		234,000
Unamortized premium		17,998		20,779

Total intermediate debt		425,383		450,564
Less: current portion (includes $4,125 and $3,997 of unamortized premium, respectively)		31,825		45,997

Total long-term portion of intermediate debt	$	393,558	$	404,567

MSW II


	As of
	September 30, 2006		December 31, 2005

7.375% Senior Notes due 2010	$	224,100	$	224,100
6.26% Covanta ARC Senior Notes due 2015		211,600		234,000
Unamortized premium		12,999		14,823

Total intermediate debt		448,699		472,923
Less: current portion (includes $2,849 and $2,721 of unamortized premium, respectively)		30,549		44,721

Total long-term portion of intermediate debt	$	418,150	$	428,202

Notes to Condensed Consolidated Financial Statements — (Unaudited)

MSW I and MSW II

Project debt for MSW I and MSW II consisted of the following (in thousands of dollars):


	As of
	September 30, 2006		December 31, 2005

Project debt related to Service Fee Structure:
5.125 — 5.50% Seconn project debt due 2015	$	53,705	$	53,705
6.45% Seconn Corporate Credit Bonds — 1992 Series A due 2022		30,000		30,000
5.50% Seconn Corporate Credit Bonds I Series A and II Series A due 2015		13,500		13,500
5.248 — 7.375% Essex project debt due 2020		69,373		83,422

Subtotal		166,578		180,627
Unamortized premium		8,224		10,901

Total Service Fee Structure related project debt		174,802		191,528

Tip fee structure related Project debt:
5.45 — 5.625% Niagara Series 2001 due 2015		165,010		165,010
5.00% Hempstead Corporate Credit Bonds due 2010		42,670		42,670
4.875 — 5.00% Hempstead project debt due 2009		123,625		123,625
5.50 — 5.625% Semass Series 2001A due 2016		134,345		134,345
5.25 — 5.50% Semass Series 2001B due 2010		57,580		75,250

Subtotal		523,230		540,900
Unamortized premium		21,919		26,097

Total Tip Fee Structure related project debt		545,149		566,997

Other obligations		152		199

Total project debt		720,103		758,724
Less: current portion (includes $8,329 and $8,600 of unamortized premium, respectively)		45,315		59,668

Total long-term portion of project debt	$	674,788	$	699,056

Project debt associated with the financing of facilities is generally arranged by municipal entities through the issuance of tax-exempt and taxable revenue bonds.

Certain of the debt agreements held by MSW I and MSW II and each of their subsidiaries contain restrictions on cash distributions, new borrowings and require certain defined leverage ratios and adjusted cash flow coverage ratios. As of September 30, 2006, MSW I and MSW II were in compliance with the provisions of their respective intermediate and project debt obligations. Substantially all of the assets and revenues of the ARC operating facilities owned or controlled and operated by subsidiaries of MSW I and MSW II are pledged to trustees under the terms of the debt agreements. In addition, the terms of the documents governing these obligations limit the business activities and the circumstances and timing of making partnership distributions. In the event of any bankruptcy or liquidation, the Covanta ARC senior notes would be repaid prior to the repayment of the respective MSW I or MSW II senior notes.

Notes to Condensed Consolidated Financial Statements — (Unaudited)


Note 7.	Other Noncurrent Liabilities

Other noncurrent liabilities consist of the following (in thousands of dollars):

MSW I


	Amortization	As of
	Period (Years)	September 30, 2006		December 31, 2005

Waste contracts	1 — 17	$	136,122	$	132,371
Duke liability	N/A		—		25,602
Energy contract levelization	11		5,379		2,068
Landfill liabilities and asset retirement obligations	8		16,959		11,577
Incentive plan accruals	N/A		959		2,724
Other	N/A		52		1,842

Total other noncurrent liabilities		$	159,471	$	176,184

MSW II


	Amortization	As of
	Period (Years)	September 30, 2006		December 31, 2005

Waste contracts	1 — 17	$	136,122	$	132,371
Energy contract levelization	11		5,379		2,068
Landfill liabilities and asset retirement obligations	8		16,959		11,577
Incentive plan accruals	N/A		959		2,724
Other	N/A		52		1,843

Total other noncurrent liabilities		$	159,471	$	150,583

MSW I and MSW II

In connection with the Acquisition, certain waste contracts acquired were determined to be “below market” and therefore were recorded at their fair market values, in accordance with SFAS 141, based upon discounted cash flows using currently available information.

Amortization of the below market waste contracts for the three and nine months ended September 30, 2006 was $2.9 million and $8.4 million, respectively. The following table lists the amortization associated with the below market waste contracts liability expected to be included in the statement of operations for each of the years indicated (in thousands of dollars):


	Below Market
	Waste Contracts

Remainder of 2006	$	2,909
2007		11,631
2008		11,644
2009		11,719
2010		11,831
2011		11,890
Thereafter		74,498

Total	$	136,122

Notes to Condensed Consolidated Financial Statements — (Unaudited)


Note 8.	Income Taxes

The components of the income tax (expense) benefit consisted of the following (in thousands of dollars):

MSW I


	For the			For the Period from			For the Period from
	Nine Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Current provision	$	(6,722	)	$	(4,241	)	$	11,141
Deferred provision		(4,989	)		(2,199	)		(8,380	)

Total consolidated income tax (expense) benefit	$	(11,711	)	$	(6,440	)	$	2,761

MSW II


	For the			For the Period from			For the Period from
	Nine Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Current provision	$	(5,893	)	$	(4,346	)	$	3,227
Deferred provision		(4,985	)		(2,200	)		(910	)

Total consolidated income tax (expense) benefit	$	(10,878	)	$	(6,546	)	$	2,317

MSW I and MSW II had federal net operating loss carryforwards of approximately $1.5 million at December 31, 2005, which if not used will expire between 2021 and 2023, and state net operating loss carryforwards of approximately $2.4 million, which have various expiration dates.


Note 9.	Commitments and Contingencies

MSW I and MSW II

MSW I and MSW II and/or their subsidiaries are party to a number of claims, lawsuits and pending actions, most of which are routine and all of which are incidental to their business. MSW I and MSW II assess the likelihood of potential losses on an ongoing basis and when losses are considered probable and reasonably estimable, record as a loss an estimate of the ultimate outcome. If MSW I and MSW II can only estimate the range of a possible loss, an amount representing the low end of the range of possible outcomes is recorded. The final consequences of these proceedings are not presently determinable with certainty.

Environmental Matters

MSW I and MSW II

MSW I and MSW II operate in an environmentally sensitive industry and are subject to extensive federal, state and local laws and regulations adopted for the protection of the environment. The laws and regulations primarily applicable to MSW I and MSW II are those related to discharge of emissions into the air and management of solid waste, but can also include those related to water use, discharges to water, wetlands preservation and hazardous waste management. Certain of these laws have extensive and complex requirements relating to obtaining construction and operating permits, monitoring, record keeping and reporting. While management of each respective company believes that it is in substantial compliance with permits and other applicable environmental laws relating to MSW I and MSW II, their facilities, from time to time, may not be in full compliance with all such laws.

Noncompliance with environmental laws and regulations can result in the imposition of civil or criminal fines or penalties. In some instances, environmental laws may also impose clean-up or other remedial obligations in the event of a release of pollutants or contaminants into the environment. MSW I and MSW II incur operating costs and

Notes to Condensed Consolidated Financial Statements — (Unaudited)

capital expenditures related to various environmental protection and monitoring programs. Such expenditures have not had a material adverse effect on the consolidated financial position or results of operations of MSW I and MSW II, respectively. However, federal, state and local regulatory authorities may consider proposals to restrict or tax certain emissions, which proposals, if adopted, could impose additional costs on the operation of MSW I and MSW II.

Lower Passaic River Study. By letters dated August 13, 2004 and May 3, 2005, the Environmental Protection Agency (“EPA”) notified the Essex facility that it was potentially liable under Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”) Section 107(a) for response actions in the Lower Passaic River Study Area (“LPRSA”), a 17-mile stretch of river in northern New Jersey. Essex is one of at least 60 potentially responsible parties (“PRPs”) named thus far. EPA alleged that hazardous substances found in the LPRSA were being released from the Essex site, which abuts the river. EPA’s notice letters stated that Essex may be liable for costs related to a proposed remedial investigation and feasibility study (“RI/FS”) of the Lower Passaic River, for certain past costs incurred by EPA and for unspecified natural resource damages. Essex entered into an arrangement with EPA and the cooperating PRP group of which Essex is a member to settle the potential liability Essex might have for the $2.8 million in past costs incurred by EPA, and for the $10 million then estimated by EPA as the cost of the RI/FS by contributing $0.25 million to the cost of the RI/FS and by agreeing to share in certain past and ongoing legal fees and other costs of the cooperating PRP group. It is anticipated that additional contributions to the cost of the RI/FS will be required of PRP’s, including Essex, as the RI/FS proceeds through its predicted completion in 2010. Considering the history of industrial and other discharges into the LPRSA from other sources, including named PRPs, Essex believes any releases from its site to be de minimus in comparison; however, it is not possible at this time to predict that outcome with certainty or to estimate Essex’s ultimate liability in the matter, including for natural resource damages.

Other Matters

MSW I and MSW II

MSW I and MSW II are involved in various claims or litigation in the ordinary course of business. Management believes that the ultimate resolution of these matters, either individually or in the aggregate, will not have a material impact on the future results of operations, cash flows or financial position of MSW I or MSW II.

Mercury Regulation at Essex. On December 6, 2004, the New Jersey Department of Environmental Protection (“NJDEP”) promulgated regulations applicable to the Essex facility that will make mercury emission requirements more stringent. Specifically, the new regulations increase the required removal efficiency to 85% removal on January 3, 2006 and 95% removal on January 3, 2012, while retaining the alternative limit of 28 micrograms per cubic meter. As a result of the new regulations, there is an increased risk that emission exceedances will occur and therefore an increased probability that additional controls will ultimately be required to prevent such exceedances. MSW I and MSW II believe that the new requirements may at a minimum result in increased operating costs due to increased use of activated carbon in the existing control equipment. MSW I and MSW II have not incurred increased costs to date as the facility is in compliance with the currently applicable mercury regulations, but cannot currently determine the likelihood of additional future capital and operating costs being incurred to maintain compliance with those changes in regulations, or the total of any such costs. If additional cost is required, it is not anticipated to have a material impact on MSW I or MSW II because the Essex service agreement provides a mechanism for a pass-through to the Port Authority of New York and New Jersey for the majority of any additional capital costs and all operating costs that may be required.

CMW Landfill. Semass Partnership, a 90% owned subsidiary of Semass, has a waste management agreement (the “WMA”) dated May 25, 1982, as amended, with the Carver, Marion, Wareham Regional Refuse Disposal District (“CMW”). The WMA allows Semass Partnership to utilize a portion of a landfill (the “CMW Landfill”), which CMW leases from Wankinco River, Inc. (“Wankinco”).

Notes to Condensed Consolidated Financial Statements — (Unaudited)

make annual deposits into an environmental protection trust fund (the “Fund”) in lieu of obtaining environmental impairment liability insurance for the CMW Landfill. The Semass Partnership is required under the Settlement Agreement to deposit $0.5 million annually into the Fund, payable in equal quarterly installments. Certain additional deposits are required subject to the availability of cash in accordance with the Loan Agreement. The Semass Partnership’s obligation to make deposits into the Fund ceases when the Fund reaches a balance of $20 million unless the fund limit is increased by agreement of the parties, or absent such agreement, by arbitration, wherein it is determined the fund limit needs to be increased to adequately protect against environmental damage. Wankinco by letter dated March 29, 2005, and pursuant to its rights under the Settlement Agreement, has requested a re-evaluation of the Fund limit and an increase of such limit to $29.7 million. Management believes that the $20 million fund limit is adequate for its intended purpose. Discussions between Semass Partnership and Wankinco about the Fund limit are ongoing; no arbitration has been commenced. Proceeds from the Fund are to be used primarily for remediation of the CMW Landfill in the event of environmental damage. The Semass Partnership and Wankinco are each entitled to receive one-half of the balance of the Fund upon final closure of the CMW Landfill and receipt of required governmental approvals. During the nine months ended September 30, 2006 and the year ended December 31, 2005, the Semass Partnership made the required quarterly deposits into the Fund and charged operations for one-half of the deposits into the Fund, representing one-half of the balance of the Fund which will be disbursed to Wankinco upon final closure of the CMW Landfill. Additional charges to operations may be required in future years if any disbursements are required from the Fund to remediate any environmental damages. To date, management is not aware of any such environmental damages. As of September 30, 2006 and December 31, 2005, the balance in the Fund was approximately $18.0 million and $17.3 million, respectively, and was included in the long-term portion of restricted funds held in trust. A corresponding liability, representing approximately one-half of the deposits and related earnings in the Fund, was included in other long-term liabilities.

MSW I and MSW II and certain of their subsidiaries have issued or are party to performance guarantees and related contractual support obligations undertaken mainly pursuant to agreements to construct and operate certain waste-to-energy facilities. MSW I and MSW II and certain of their subsidiaries have issued guarantees to municipal clients and other parties that their subsidiaries will perform in accordance with contractual terms, including, where required, the payment of damages or other obligations. Such contractual damages or other obligations could be material, and in circumstances where one or more subsidiary’s contract has been terminated for its default, such damages could include amounts sufficient to repay project debt. MSW I and MSW II have not recorded any amount as a liability in their condensed consolidated balance sheet as of September 30, 2006 as they believe that they have not incurred such liability at the date of the financial statements. If MSW I and MSW II are asked to perform under one or more such guarantees, their liability for damages upon contract termination could be reduced by funds held in trust and proceeds from sales of the facilities securing the project debt, which is presently not estimable.

MSW I

Agreements dated June 30, 2003 between MSW I and Duke Capital Corporation (the “Duke Agreement”) and the related escrow agreement entered into as of the same date have been terminated effective as of June 14, 2006. MSW I’s liability related to the Duke Agreement has been adjusted to recognize a reduction of an obligation of MSW I and the termination of the excess liability. See Note 4 — Intangible Assets and Goodwill of the Notes to Condensed Consolidated Financial Statements for the adjustment made to the purchase price allocation in connection with the termination of the Duke Agreement.

Notes to Condensed Consolidated Financial Statements — (Unaudited)


Note 10.	Employee Compensation and Benefit Plans

Stock Option Plan

MSW I and MSW II

During 2005, the MSW I and MSW II stock plans were cancelled as a result of the Acquisition and there were no stock options or shares of restricted stock outstanding as of December 31, 2005. The employees of MSW I and MSW II are eligible to participate in Covanta’s equity award plans. Certain employees are covered under comparable Covanta long-term incentive plans, which costs are allocated to MSW I and MSW II from Covanta.

On August 11, 2004, the Board of Directors of Covanta ARC Holdings adopted the 2004 Stock Option Plan (the “2004 Plan”), effective January 1, 2004, as further modified on September 16, 2004. The 2004 Plan was designed to link the interests of former officers of Covanta ARC Holdings (who were also the senior management of Covanta Ref-Fuel) to the interests of Covanta ARC Holdings shareholders through the granting of options to purchase stock of Covanta ARC Holdings. Covanta ARC Holdings was at that time a privately held company. During 2004, Covanta ARC Holdings granted 13,199 options to the executive officers of Covanta Ref-Fuel under the 2004 Plan, with a weighted average exercise price per share of $1,189.51.

On January 31, 2005, in conjunction with the Acquisition, the Board of Directors of Covanta ARC Holdings and optionees under the 2004 Plan adopted an Option Modification Agreement (“OMA”). Under the terms of the OMA, immediately prior to the Acquisition, the 2004 Plan was terminated, and on June 24, 2005, a cash payment representing all outstanding options granted or ungranted, but authorized under the terms of the 2004 Plan, together with certain amounts due and anticipated under other long-term compensation plans, was made in the amount of approximately $30.2 million and was recorded as compensation expense prior to the Acquisition.

MSW I and MSW II applied the recognition provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in accounting for their stock-based compensation plans. No compensation cost was recognized for the 2004 Plan during the period from January 1 through June 24, 2005.


Note 11.	Related Party Transactions

MSW I and MSW II

As a result of the Acquisition, Covanta and its subsidiaries became affiliates of MSW I and MSW II. As of September 30, 2006 and December 31, 2005, MSW I had a net payable to affiliate of $9.5 million and $4.2 million, respectively, and MSW II had a net payable to affiliate of $9.5 million and $4.2 million, respectively, which related to certain costs that were paid on behalf of MSW I and MSW II by their affiliates. The affiliate balances are and will continue to be cash settled, and relate to services in the ordinary course of business.


ITEM 2.	*MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS*

The following discussion addresses the financial condition of MSW Energy Holdings LLC (collectively herein with its subsidiaries “MSW I”) and MSW Energy Holdings II LLC (collectively herein with its subsidiaries “MSW II”) as of September 30, 2006, and its results of operations for the three and nine months ended September 30, 2006, compared with the same periods last year. It should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements and Notes thereto for the period ended September 30, 2006 which is included elsewhere in this quarterly report. Additionally, it should be read in conjunction with the MSW I and MSW II Audited Consolidated Financial Statements and Notes thereto for the year ended December 31, 2005 and Management’s Discussion and Analysis included in their respective Annual Reports on Form 10-K for the year ended December 31, 2005.

The preparation of interim financial statements necessarily relies heavily on estimates. Due to the use of estimates and certain other factors, such as the seasonal nature of portions of the MSW I and MSW II businesses as well as competitive and other market conditions, MSW I and MSW II do not believe that interim results of operations are indicative of full year results of operations. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts and classification of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.

MSW Energy Finance Co., Inc. (“MSW Energy Finance”), a Delaware corporation and wholly-owned subsidiary of MSW I, was formed in June 2003 solely for the purpose of serving as a co-issuer of the MSW I 8.50% Senior Notes due 2010 and it does not have any operations, assets or revenues. MSW Energy Finance Co. II, Inc. (“MSW Energy Finance II”), a Delaware corporation and wholly-owned subsidiary of MSW II, was formed in August 2003 solely for the purpose of serving as a co-issuer of the MSW II 7.375% Senior Notes due 2010 and it does not have any operations, assets or revenues.

On June 24, 2005, Covanta Holding Corporation (“Covanta”), a Delaware corporation, through its wholly-owned subsidiary, Covanta Energy Corporation (“Covanta Energy”), a Delaware corporation, acquired all of the issued and outstanding shares of capital stock of Covanta ARC Holdings, Inc. (“Covanta ARC Holdings”) (the “Acquisition”). The Acquisition was made pursuant to the terms of a Stock Purchase Agreement, dated as of January 31, 2005 among Covanta, Covanta ARC Holdings and the stockholders of Covanta ARC Holdings. As a result of the Acquisition, Covanta, through Covanta Energy, owns 100% of the voting securities of Covanta ARC Holdings.

Covanta Energy paid approximately $747 million, including transaction costs, for the shares of Covanta ARC Holdings and assumed the consolidated net debt of Covanta ARC Holdings, which was approximately $1.3 billion as of June 24, 2005 ($1.5 billion of consolidated indebtedness net of $0.2 billion of cash and restricted cash). Upon consummation of the Acquisition, a change in ownership occurred, and in accordance with Emerging Issues Task Force (“EITF”) Topic D-97, “Push-Down Accounting” (“EITF D-97”), the MSW I and MSW II financial statements reflect the effects of their change in ownership and the new owner’s basis in the net assets and liabilities acquired. As a result, the statements of operations and the statements of cash flows for the period from January 1, 2005 through June 24, 2005, reflect the results of MSW I and MSW II prior to purchase accounting adjustments and the balance sheet at December 31, 2005, the statements of operations for the three and nine months ended September 30, 2006 and for the period from June 25 through September 30, 2005 and statements of cash flows for the nine months ended September 30, 2006 and for the period from June 25 through September 30, 2005, reflect the impact of the purchase price allocation arising from the Acquisition.

The following chart reflects a simplified ownership structure of MSW I, MSW Energy Finance, MSW II and MSW Energy Finance II. Unless otherwise noted, ownership interests are 100%:

Covanta ARC LLC (“Covanta ARC”), a wholly-owned subsidiary of Covanta Ref-Fuel Holdings LLC (“Covanta Ref-Fuel”) owns partnerships that develop, own and operate waste-to-energy facilities, which combust municipal solid waste and produce energy in the form of electricity and steam. Through such partnerships, Covanta ARC owns or controls six waste-to-energy facilities located in the northeastern United States (the “ARC operating facilities”). The subsidiaries of Covanta ARC that operate the ARC operating facilities (the “ARC operating companies”) derive revenues principally from disposal or tipping fees received for accepting waste and from the sale of electricity and steam produced by the ARC operating facilities.

The statements of operations, balance sheets and cash flow statements for MSW I and MSW II each include the consolidated results of their respective operations and the results of operations of Covanta Ref-Fuel and its subsidiaries. As shown in the chart above, MSW I and MSW II each own, directly and indirectly, 50% of Covanta Ref-Fuel, which owns 100% of Covanta ARC. As such, the results of operations, balance sheets and cash flow statements for each of MSW I and MSW II include the consolidated results of Covanta Ref-Fuel along with the minority interest adjustment for the corresponding entity’s 50% ownership.

MSW I and MSW II are organized as holding companies with all of their operations conducted through subsidiaries in the waste and energy services business. As of June 24, 2005, Covanta purchased 100% of the stock of Covanta ARC Holdings. Covanta also conducts its operations through subsidiaries in the waste and energy services business, and the management for MSW I and MSW II, and that of their subsidiaries, is now controlled by Covanta.

MSW I has issued 8.50% Senior Notes due 2010 and MSW II has issued 7.375% Senior Notes due 2010. MSW I and MSW II rely on cash distributions from their subsidiaries in order to pay periodic debt service when due on their respective senior notes. Their ability to pay such debt service is dependent upon the ability of the ARC operating subsidiaries to generate cash flow for distributions, and upon the ability of their intermediate subsidiary, Covanta ARC, to satisfy financial and other covenants applicable to it under their respective debt arrangements. MSW I and MSW II have historically received sufficient cash distributions to pay periodic debt service on their respective senior notes. For additional detail regarding risks attendant to the businesses of the operating subsidiaries of MSW I and MSW II, see “Risk Factors” in Item 1A of the respective MSW I and MSW II Annual Reports on Form 10-K for the year ended December 31, 2005.

MSW I and MSW II quarterly operating income within the same fiscal year typically differs substantially due to seasonal factors, primarily as a result of the timing of scheduled plant maintenance. MSW I and MSW II have typically experienced lower operating income from their projects during the first six months of each year when they conduct their plant maintenance and higher operating income during the second six months of each year.

The following discussion of MSW I and MSW II financial condition and operating results should be read in conjunction with the condensed consolidated financial statements and related notes appearing in this Quarterly

Report on Form 10-Q, and in the respective MSW I and MSW II Annual Reports on Form 10-K for the year ended December 31, 2005.

Results of Operations

The results of operations for MSW I and MSW II for the nine months ended September 30, 2006 are not comparable to their respective results of operations for the nine months ended September 30, 2005, due to the revaluation of each of their respective balance sheets as of June 24, 2005 in connection with the Acquisition. The respective results of operations for MSW I and MSW II for the three months ended September 30, 2006 and 2005 are comparable as both periods have reflected the revaluation of each of their respective balance sheets in connection with the acquisition.

MSW I and MSW II believe that an understanding of their reported results, trends and ongoing performance is enhanced by presenting results on a pro forma basis as if the Acquisition occurred on January 1, 2005. This pro forma supplemental data is presented because MSW I and MSW II believe that it provides a more useful presentation of their financial condition than the data included in their respective historical financial statements. Additionally, these results are presented because MSW I and MSW II believe they may be useful in measuring their respective ability to meet debt service obligations, but they are not necessarily indicative of actual results and should not be considered as an alternative to cash flow from operating activities as a measure of liquidity. However, the pro forma results are equivalent to reported results for the nine months ended September 30, 2006, as there are no pro forma adjustments for this period. The consolidated results of operations for MSW I and MSW II, as reported and where applicable, on a pro forma basis, are summarized in the tables and discussions below. The pro forma reconciliations and description of adjustments are described starting on page 32. The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the Acquisition had taken place on January 1, 2005.

The results of operations for the period from January 1 through June 24, 2005 and June 25 through September 30, 2005 have been combined for the nine months ended September 30, 2005 for informational and comparative purposes only. It is not appropriate under United States generally accepted accounting principles (“US GAAP”) to combine two different bases of accounting; however, in order to provide a more useful comparison, these periods have been combined in the discussion below.

MSW I


	Three Months Ended
	September 30,					Nine Months Ended September 30,
	Reported					Reported				Pro Forma
	2006		2005			2006		2005*		2006		2005
	(Unaudited, in thousands of dollars)

Operating Revenue
Waste and service revenues	$	82,507	$	81,719		$	242,315	$	236,203	$	242,315	$	238,063
Electricity and steam sales		46,580		43,482			133,924		126,110		133,924		126,110

Total operating revenues		129,087		125,201			376,239		362,313		376,239		364,173

Operating Expenses
Plant operating expenses		45,932		47,028			158,603		153,413		158,603		156,550
Depreciation and amortization		30,108		26,802			91,161		85,769		91,161		87,592
Net interest expense on project debt		6,451		7,692			20,018		22,114		20,018		23,216
General and administrative expenses		6,412		3,704			19,279		43,707		19,279		14,934
Loss (gain) on asset retirement		29		(494	)		907		25		907		25

Total operating expenses		88,932		84,732			289,968		305,028		289,968		282,317

Operating income	$	40,155	$	40,469		$	86,271	$	57,285	$	86,271	$	81,856


*		Represents the combined period of June 25 through September 30, 2005 and January 1 through June 24, 2005.

Comparison of Reported Results for the Three Months Ended September 30, 2006 vs. Reported Results for the Three Months Ended September 30, 2005

Total Operating Revenues. Total operating revenues were $129.1 million for the three months ended September 30, 2006, an increase of $3.9 million when compared to the same period in the prior year. Waste and service revenues increased by $0.8 million due primarily due to higher volumes and higher scrap metal pricing during the three months ended September 30, 2006, compared to the same period in 2005. Electricity and steam sales increased by $3.1 million for the three months ended September 30, 2006, compared to the same period in 2005 due primarily to improved energy pricing and increased production.

Plant Operating Expenses. Plant operating expenses were $45.9 million for the three months ended September 30, 2006, a decrease of $1.1 million when compared to the same period in the prior year. This decrease is attributed to cost reduction initiatives.

Net Interest Expense on Project Debt. Net interest expense on project debt decreased $1.2 million for the three months ended September 30, 2006 primarily as a result of lower project debt balances, as compared to the three months ended September 30, 2005.

General and Administrative Expenses. General and Administrative expenses were $6.4 million for the three months ended September 30, 2006, an increase of $2.7 million when compared to the same period in the prior year. This increase is due primarily to the allocation of costs for support services received from Covanta ARC Holdings, its parent company, which were not allocated in the same quarter of the prior year.

Comparison of Reported Results for the Nine Months Ended September 30, 2006 vs. Combined Results for the Nine Months Ended September 30, 2005

Total Operating Revenues. Total operating revenues were $376.2 million for the nine months ended September 30, 2006, an increase of $13.9 million when compared to the same period in the prior year. Waste and service revenues increased by $6.1 million due primarily to favorable pricing and higher volume during the nine months ended September 30, 2006, compared to the same period in 2005. Electricity and steam sales increased by $7.8 million for the nine months ended September 30, 2006, compared to the same period in 2005 due primarily to improved energy pricing and increased production.

Total Operating Expenses. Total operating expenses were $289.9 million for the nine months ended September 30, 2006, a decrease of $15.1 million when compared to the same period in the prior year. The reduction was primarily attributable to an expense in the three months ended June 30, 2005 of $30.2 million related to payments made to Covanta ARC Holdings’ management, in connection with the Acquisition, which did not occur in the same period of the current year, offset by normal expense escalations.

Operating Income. Total operating income was $86.3 million for the nine months ended September 30, 2006, an increase of $29.0 million from the same period in 2005.

Comparison of Reported Results for the Nine Months Ended September 30, 2006 vs. Pro Forma Results for the Nine Months Ended September 30, 2005

Total Operating Revenues. Total operating revenues were $376.2 million for the nine months ended September 30, 2006, an increase of $12.1 million over the comparable prior year period. Waste and service revenues were $242.3 million for the nine months ended September 30, 2006, an increase of $4.3 million when compared to the same period in 2005. The increase in waste and service revenue was primarily attributable to favorable pricing and higher volumes and higher scrap metal pricing during the nine months ended September 30, 2006 when compared to the same period in 2005. Electricity and steam sales were $133.9 million for the nine months ended September 30, 2006, an increase of $7.8 million compared to the same period in 2005. This increase was primarily attributable to improved energy pricing and increased production in 2006 as compared to the same period in 2005.

due to normal expense escalations, offset by cost reduction initiatives in the current period as compared to the period from the prior year.

Net Interest Expense on Project Debt. Net interest expense on project debt decreased approximately $3.2 million for the nine months ended September 30, 2006 primarily as a result of lower project debt balances, as compared to the nine months ended September 30, 2005.

General and Administrative Expenses. General and Administrative expenses were $19.3 million for the nine months ended September 30, 2006, an increase of $4.3 million when compared to the same period in the prior year. This increase is due primarily to the allocation of costs for support services received from Covanta ARC Holdings, its parent company, which were not allocated in the same period of the prior year.

MSW II


	Three Months Ended September 30,					Nine Months Ended September 30,
	Reported					Reported				Pro Forma
	2006		2005			2006		2005*		2006		2005
	(Unaudited, in thousands of dollars)

Operating Revenue
Waste and service revenues	$	82,507	$	81,719		$	242,315	$	236,203	$	242,315	$	238,063
Electricity and steam sales		46,580		43,482			133,924		126,110		133,924		126,110

Total operating revenues		129,087		125,201			376,239		362,313		376,239		364,173

Operating Expenses
Plant operating expenses		45,932		47,028			158,603		153,413		158,603		156,550
Depreciation and amortization		30,108		26,802			91,161		85,769		91,161		87,592
Net interest expense on project debt		6,451		7,692			20,018		22,114		20,018		23,216
General and administrative expenses		6,424		3,682			19,247		43,562		19,247		14,791
Loss (gain) on asset retirement		29		(494	)		907		25		907		25

Total operating expenses		88,944		84,710			289,936		304,883		289,936		282,174

Operating income	$	40,143	$	40,491		$	86,303	$	57,430	$	86,303	$	81,999


*		Represents the combined period of June 25 through September 30, 2005 and January 1 through June 24, 2005.

Comparison of Reported Results for the Three Months Ended September 30, 2006 vs. Reported Results for the Three Months Ended September 30, 2005

Total Operating Revenues. Total operating revenues were $129.1 million for the three months ended September 30, 2006, an increase of $3.9 million over the comparable prior year period. Waste and service revenues increased $0.8 million due primarily due to higher volumes and higher scrap metal pricing during the three months ended September 30, 2006, compared to the same period in 2005. Electricity and steam sales increased $3.1 million for the three months ended September 30, 2006, compared to the same period in 2005 due primarily to improved energy pricing and increased production.

Net Interest on Project Debt. Net interest expense on project debt decreased $1.2 million for the three months ended September 30, 2006 primarily as a result of lower project debt balances, as compared to the three months ended September 30, 2005.

Comparison of Reported Results for the Nine Months Ended September 30, 2006 vs. Combined Results for the Nine Months Ended September 30, 2005

Total Operating Revenues. Total operating revenues were $376.2 million for the nine months ended September 30, 2006, an increase of $13.9 million when compared to the same period in the prior year. Waste and service revenues increased by $6.1 million due primarily to favorable pricing and higher volumes during the nine months ended September 30, 2006, compared to the same period in 2005. Electricity and steam sales increased by $7.8 million for the nine months ended September 30, 2006, compared to the same period in 2005 due primarily to improved energy pricing and increased production.

Total Operating Expenses. Total operating expenses were $289.9 million for the nine months ended September 30, 2006, a decrease of $14.9 million when compared to the same period in the prior year. The reduction was primarily attributable to an expense in the three months ended June 30, 2005 of $30.2 million related to payments made to Covanta ARC Holdings management, in connection with the Acquisition, which did not occur in the same period of the current year, offset by normal expense escalations.

Operating Income. Total operating income was $86.3 million for the nine months ended September 30, 2006, an increase of $28.8 million from the same period in 2005.

Comparison of Reported Results for the Nine Months Ended September 30, 2006 vs. Pro Forma Results for the Nine Months Ended September 30, 2005

Plant Operating Expenses. Plant operating expenses were $158.6 million for the nine months ended September 30, 2006, an increase of $2.1 million as compared to the prior year period. The increase was primarily due to normal expense escalations, offset by cost reduction initiatives in the current period as compared to the period from the prior year.

General and Administrative Expenses. General and Administrative expenses were $19.2 million for the nine months ended September 30, 2006, an increase of $4.5 million when compared to the same period in the prior year. This increase is due primarily to the allocation of costs for support services received from Covanta ARC Holdings, its parent company, which were not allocated in the same period of the prior year.

Pro Forma Reconciliations

	Reported Three					Pro Forma Three
	Months Ended		Pro Forma			Months Ended
	March 31, 2005		Adjustments			March 31, 2005
	(Unaudited, in thousands of dollars)
Operating Revenues
Waste service revenues	$	72,473	$	669		$	73,142
Electricity and steam sales		40,284		—			40,284
Total operating revenues		112,757		669			113,426
Operating Expenses
Plant operating expenses		56,715		1,707			58,422
Depreciation and amortization expense		29,738		168			29,906
Net interest expense on project debt		7,318		637			7,955
General and administrative expenses		6,273		(402	)		5,871
Loss on asset retirements		1,386		—			1,386
Total operating expenses		101,430		2,110			103,540
Operating income	$	11,327	$	(1,441	)	$	9,886

MSW I

Notes To Pro Forma Reconciliations


	Reported Nine					Pro Forma Nine
	Months Ended		Pro Forma			Months Ended
	September 30, 2005*		Adjustments			September 30, 2005
	(Unaudited, in thousands of dollars)

Operating Revenues
Waste and service revenues	$	236,203	$	1,860		$	238,063
Electricity and steam sales		126,110		—			126,110

Total operating revenues		362,313		1,860			364,173
Operating Expenses
Plant operating expenses		153,413		3,137			156,550
Depreciation and amortization expense		85,769		1,823			87,592
Net interest expense on project debt		22,114		1,102			23,216
General and administrative expenses		43,707		(28,773	)		14,934
Loss on asset retirements		25		—			25

Total operating expenses		305,028		(22,711	)		282,317

Operating income	$	57,285	$	24,571		$	81,856


*		Represents the combined period of June 25 through September 30, 2005 and January 1 through June 24, 2005.

MSW II


	Reported Nine					Pro Forma Nine
	Months Ended		Pro Forma			Months Ended
	September 30, 2005*		Adjustments			September 30, 2005
	(Unaudited, in thousands of dollars)

Operating Revenues
Waste and service revenues	$	236,203	$	1,860		$	238,063
Electricity and steam sales		126,110		—			126,110

Total operating revenues		362,313		1,860			364,173
Operating Expenses
Plant operating expenses		153,413		3,137			156,550
Depreciation and amortization expense		85,769		1,823			87,592
Net interest expense on project debt		22,114		1,102			23,216
General and administrative expenses		43,562		(28,771	)		14,791
Loss on asset retirements		25		—			25

Total operating expenses		304,883		(22,709	)		282,174

Operating income	$	57,430	$	24,569		$	81,999


*		Represents the combined period of June 25 through September 30, 2005 and January 1 through June 24, 2005.

Notes to Pro Forma Reconciliations

Pro Forma Assumptions

The unaudited pro forma condensed combined financial statements reflect the following assumptions:

• Covanta, through Covanta Energy, purchased 100% of the issued and outstanding shares of Covanta ARC Holdings’ capital stock on January 1, 2005 following the same terms as the Acquisition. As a result of this assumption, each of the respective assets and liabilities of ~~the~~MSW ~~Company~~I and MSW II were assumed to be stated at their acquired fair value as of January 1, 2005.

Pro Forma Adjustments

The following is a summary of the pro forma adjustments made:

• Waste and service revenues: To record additional revenues prior to June 25, 2005 as a result of conforming debt service revenue recognition to Covanta’s debt service revenue recognition policy, which policy has been implemented for the periods subsequent to June 25, 2005. • Plant operating expenses: To record as rent expense the net impact of the change in the fair value of the ~~Company’s~~ lease offor the Delaware Valley facility as of January 1, 2005. • Depreciation and amortization expense: To reverse historical depreciation and amortization expense and record pro forma depreciation and amortization expense based on fair values assigned to ~~the Company’s~~ property, plant and equipment, ~~and~~ amortizable intangible assets and waste contract liabilities as part of the Acquisition. • General and administrative expenses: To reverse ~~the~~ compensation ~~expense~~and related expenses associated with the ~~Company’s~~MSW ~~compensation~~I and ~~related~~MSW ~~expenses~~II ~~of its~~ executives in the periods prior to the Acquisition ~~date~~. ~~In addition~~Additionally, the ~~Company’s~~ expense associated with ~~its~~the MSW I and MSW II headquarters was removed. An estimated allocation of overhead expenses for certain Covanta key senior management, as well as building services was added. • Net interest expense on project debt: To reverse the prior amortization of the project debt and to record the impact of the fair value adjustment as a result of the Acquisition.

headquarters was also removed and an estimated allocation of overhead expenses for certain Covanta key senior management, as well as building services was added. • Net interest expense on project debt: To reverse the prior amortization of the project debt and to record the impact of the fair value adjustment as a result of the Acquisition. • Interest expense: To reverse the Company’s pre-acquisition period amortization of deferred financing costs and to record the impact of the fair value adjustment to the intermediate debt of the Company.

Liquidity and Capital Resources

~~As of March 31, 2006, the Company’s assets related primarily to its indirect membership~~ ~~interest in the ARC operating facilities. Covanta ARC and the ARC operating facilities have~~ ~~historically~~ MSW ~~generated~~I ~~adequate funds from operations for working capital requirements, capital spending, debt repayments~~ and ~~dividend payouts. Accordingly, the Company’s performance and~~ significant source of future liquidity will depend solely on cash distributions, if any from these entities. The Company will need to continue to receive sufficient ongoing cash distributions from these entities in order to pay principal and interest on the Senior Notes, however such distributions are not assured. Interest only is payable throughout the term of the Senior Notes with principal and unpaid interest payable at maturity on September MSW ~~1, 2010.~~II

~~Sources~~ ~~and~~ As ~~Uses~~of September 30, 2006, the assets of ~~Cash~~MSW I and MSW II related primarily to their indirect membership interests in the ARC operating facilities. Covanta ARC and the ARC operating facilities have historically generated adequate funds from operations for working capital requirements, capital spending, debt repayments and dividend payouts. Accordingly, MSW I and MSW II’s performance and source of future liquidity will depend solely on cash distributions, if any, from Covanta ARC and the ~~Three~~ARC ~~Months~~operating ~~Ended~~facilities. ~~March~~MSW I and MSW 31II will need to continue to receive sufficient ongoing cash distributions from these entities in order to pay principal and interest on their respective senior notes, ~~2006~~however such distributions are not assured. Interest only is payable throughout the term of their respective senior notes with principal and unpaid interest payable at maturity on September 1, 2010.

A ~~condensed statement of cash flows were as follows:~~ 34

	For the Three Months Ended
	March 31,
	2006			2005
	(Unaudited, in thousands of dollars)
Net cash provided by (used in):
Operating Activities	$	26,293		$	36,315
Investing Activities		(10,121	)		(16,040	)
Financing Activities		(33,136	)		(57,342	)
Net decrease in cash and cash equivalents		(16,964	)		(37,067	)
Cash and cash equivalents, beginning of fiscal year		48,895			86,310
Cash and cash equivalents, end of quarter	$	31,931		$	49,243

Sources and Uses of Cash for the Nine Months Ended September 30, 2006

A condensed statement of cash flows follows (unaudited, in thousands of dollars):

MSW I


	For the Nine			For the Period from			For the Period from
	Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Net cash provided by (used in):
Operating Activities	$	138,238		$	56,949		$	39,586
Investing Activities		(9,815	)		(2,718	)		(22,577	)
Financing Activities		(131,085	)		(35,850	)		(81,783	)

Net (decrease) increase in cash and cash equivalents		(2,662	)		18,381			(64,774	)
Cash and cash equivalents, beginning of period		48,895			21,536			86,310

Cash and cash equivalents, end of period	$	46,233		$	39,917		$	21,536

Operating Activities

The net cash provided by operating activities was $26138.32 million for the ~~three~~nine months ended ~~March~~ September 3130, 2006, compared to $3696.35 million for the ~~same~~combined ~~period~~nine months inended September 30, 2005. The ~~decline~~increase in net cash provided by operating activities was primarily attributable to ~~changes~~ higher earnings in ~~working~~the ~~capital~~nine asmonths ~~well~~ended asSeptember 30, 2006 compared to the prior year and a payment of $30.2 million ~~reduction~~ made to ~~accrued~~Covanta ~~interest~~ARC Holdings management in the nine months ended September 30, 2005, which did not recur in the current period.

Investing Activities

The ~~Company’s~~ net cash used in investing activities was $109.18 million for the ~~three~~nine months ended ~~March~~September 3130, 2006, compared to $1625.03 million for the ~~same~~combined ~~period~~nine inmonths ended September 30, 2005. Capital expenditures were the primary use of cash from investing activities and were $10.1 million and $1727.1 million for the ~~three~~nine months ended ~~March~~September 3130, 2006 and the combined nine months ended September 30, 2005, respectively.

Financing Activities

The net cash used in financing activities was $33131.1 million for the ~~three~~nine months ended ~~March 31~~September 30, 2006, compared to $57117.36 million for the ~~same~~combined ~~period~~nine months inended September 30, 2005. Cash used in the current ~~quarter~~ period primarily related to $1731.78 million of repayments of project debt, a $1422.04 million repayment of ~~intermediate~~ intermediate debt, distributions of $1639.12 million to ~~the~~MSW ~~Company~~I’s members, ~~and~~ $1640.4 million paid to holders of minority interests in consolidated subsidiary. This use of cash was ~~partially~~ partially offset by a net ~~receipt~~decrease of $312.1 7 million ~~relating~~ to restricted ~~cash~~funds ~~and~~held ~~investment~~in ~~activity~~trust which was used to ~~fund~~make project and intermediate debt payments. Cash used in the ~~same~~combined ~~quarter~~nine months ofended September 30, 2005 primarily related to $2942.1 million of repayments of project debt, ~~distributions~~a $10.3 million repayment of intermediate debt, distributions of $2523.32 million to ~~the~~MSW ~~Company~~I’s members ~~and~~ , $1941.60 million paid to holders of minority interests in consolidated subsidiary, and a net increase of $1.0 million to restricted funds held in trust which was funded to make project and intermediate debt payments.

21 Duke Agreement

Agreements dated June 30, 2003 between MSW I and Duke Capital Corporation (the “Duke Agreement”) and the related escrow agreement entered into as of the same date, have been terminated effective as of June 14, 2006. MSW I’s liability related to the Duke Agreement has been adjusted to recognize a reduction of an obligation of MSW I and the termination of the excess liability. See Note 4 — Intangible Assets and Goodwill of the Notes to Condensed Consolidated Financial Statements for the adjustment made to the purchase price allocation in connection with the termination of the Duke Agreement.

~~interests.~~ ~~This use of cash was partially offset by a net receipt of $16.7~~ MSW ~~million relating to~~II ~~restricted cash and investment activity which was used to fund project debt payments.~~

Debt Covenant


	For the Nine			For the Period from			For the Period from
	Months Ended			June 25 through			January 1 through
	September 30, 2006			September 30, 2005			June 24, 2005
Net cash provided by (used in):
Operating Activities	$	137,997		$	59,618		$	39,713
Investing Activities		(9,815	)		(1,411	)		(22,577	)
Financing Activities		(130,775	)		(39,832	)		(81,920	)

Net (decrease) increase in cash and cash equivalents		(2,593	)		18,375			(64,784	)
Cash and cash equivalents, beginning of period		48,844			21,563			86,347

Cash and cash equivalents, end of period	$	46,251		$	39,938		$	21,563

~~The indenture under which the Senior Notes were issued contains certain restrictions which~~ ~~will, among other things, prevent the Company from incurring additional indebtedness, making~~ ~~restricted payments, making investments, selling assets or merging with other companies, subject to~~ Operating ~~certain exceptions. The Senior Notes are redeemable with the payment of certain stated make whole~~ Activities amounts before September 1, 2007 and, thereafter, at the face amount of the Senior Notes, plus accrued interest. Restricted payments are not permitted unless certain ratio covenants based on the proportionate ownership of Covanta Ref-Fuel Holdings have been met. At March 31, 2006, the Company was in compliance with all of its debt covenants.

The net cash provided by operating activities was $138.0 million for the nine months ended September 30, 2006, compared to $99.3 million for the combined nine months ended September 30, 2005. The increase in net cash provided by operating activities was primarily attributable to higher earnings in the nine months ended September 30, 2006 compared to the prior year and a payment of $30.2 million made to Covanta ARC Holdings management in the nine months ended September 30, 2005, which did not recur in the current period.

Investing Activities

The net cash used in investing activities was $9.8 million for the nine months ended September 30, 2006, compared to $24.0 million for the combined nine months ended September 30, 2005. Capital expenditures were the primary use of cash from investing activities and were $10.1 million and $27.1 million for the nine months ended September 30, 2006 and the combined nine months ended September 30, 2005, respectively.

Financing Activities

The net cash used in financing activities was $130.8 million for the nine months ended September 30, 2006, compared to $121.8 million for the combined nine months ended September 30, 2005. Cash used in the current period primarily related to $31.8 million of repayments of project debt, $22.4 million of repayments for intermediate debt, distributions of $31.1 million to MSW II’s member, $40.4 million paid to holders of minority interests and a net increase of $5.1 million to restricted funds held in trust which was funded to make project and intermediate debt payments. Cash used in the combined nine months ended September 30, 2005 primarily related to $42.3 million of repayments of project debt, a $7.0 million repayment of intermediate debt, distributions of $30.7 million to MSW II’s member, $40.8 million paid to holders of minority interests, and a net increase of $1.0 million to restricted funds held in trust which was funded to make project and intermediate debt payments.

Debt Covenants

MSW I and MSW II

The indentures under which each of the MSW I and MSW II senior notes were issued contain certain restrictions which will, among other things, prevent MSW I and MSW II each from incurring additional indebtedness, making restricted payments, making investments, selling assets or merging with other companies, subject to certain exceptions. Each of the MSW I and MSW II senior notes are redeemable with the payment of certain stated make whole amounts before September 1, 2007 and, thereafter, at the face amount of such senior notes, plus accrued interest. Restricted payments are not permitted unless certain ratio covenants based on the proportionate ownership of Covanta Ref-Fuel have been met. As of September 30, 2006, MSW I and MSW II were in compliance with all of their respective debt covenants.

Critical Accounting Policies

~~In preparing its condensed consolidated financial statements in accordance with U.S. generally~~ ~~accepted accounting principles the Company is required to use its judgment in making estimates and~~ ~~assumptions~~ MSW ~~that~~I ~~affect the amounts reported in its financial statements~~ and ~~related notes.~~ Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Many of the Company’s critical accounting policies are those subject to significant judgments and uncertainties which could potentially result in materially different results under different conditions and assumptions. Future events rarely develop exactly as forecast, and the best estimates routinely require adjustment. See the Company’s Discussion of Critical Accounting Policies in Item MSW ~~7 of its Annual Report on Form 10-K for the year ended December 31, 2005.~~II

In preparing their respective condensed consolidated financial statements in accordance with US GAAP, MSW I and MSW II are required to use judgment in making estimates and assumptions that affect the amounts reported in their respective financial statements and related notes. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Many of the critical accounting policies of MSW I and MSW II are those subject to significant judgments and uncertainties which could potentially result in materially different results under different conditions and assumptions. Future events rarely develop exactly as forecast, and the best estimates routinely require adjustment. See the Discussion of Critical Accounting Policies in Item 7 of the respective MSW I and MSW II Annual Reports on Form 10-K for the year ended December 31, 2005.

Recent Accounting Pronouncements

~~See~~ ~~Note~~ See Note 2 — ~~Significant Accounting Polices and~~ New Accounting Pronouncements of the Notes to the Condensed Consolidated Financial Statements for information related to new accounting pronouncements.


ITEM 3.	*QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK*

The item has been intentionally omitted as allowed under General Instruction H(2)(c) on Form 10-Q.


ITEM 4.	*CONTROLS AND PROCEDURES*

MSW ~~Energy~~I ~~Holdings~~ and ~~Subsidiaries~~ MSW II

As of ~~the~~September 30, ~~end~~2006, of the ~~period~~management ~~covered~~of byeach ~~this~~of ~~report,~~MSW ~~the~~I and ~~Company’s management~~MSW II, with the participation of ~~its~~the Chief Executive Officer and Chief Financial Officer, of each respective company, have reviewed and evaluated the effectiveness of ~~the~~their respective ~~Company’s~~ disclosure controls and procedures, as required by Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934. ~~Based~~The ~~upon the results of~~disclosure ~~that~~ controls ~~evaluation,~~and ~~the~~procedures ~~Company’s~~for ~~Chief~~MSW ~~Executive~~I ~~Officer~~ and ~~Chief~~MSW II ~~Financial~~are ~~Officer~~designed to ~~have~~reasonably ~~concluded~~ assure that, asinformation ofrequired ~~the~~to ~~end~~be ofdisclosed in ~~the~~reports ~~period~~they ~~covered~~file byor ~~this~~submit ~~report,~~under the ~~Company’s~~Securities ~~disclosure~~Exchange ~~controls and~~Act ~~procedures~~ of ~~were~~1934 ~~effective~~is toaccumulated ~~provide~~and ~~reasonable~~communicated ~~assurance~~to ~~that~~management, including the ~~information~~Chief ~~required~~Executive toOfficer ~~be disclosed~~and byChief ~~the~~Financial ~~Company~~Officer inof ~~reports~~each respective itcompany, ~~files~~as orappropriate ~~submits~~to ~~under~~allow ~~the~~timely ~~Exchange~~decisions regarding ~~Act~~disclosure ofand ~~1934~~ is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Accordingly, management of each of MSW I and MSW II have concluded that the disclosure controls and procedures for each of MSW I and MSW II were effective as of September 30, 2006.

~~The Company’s disclosure controls and procedures are designed to reasonably assure that~~ ~~information~~ Management ~~required to be disclosed by the Company in reports it files or submits under the Exchange Act~~ of ~~1934~~MSW isI ~~accumulated~~ and ~~communicated~~MSW II, towith the ~~Company’s~~participation ~~management, including its~~of its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding disclosure and is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. The Company’s management, with the participation of ~~its~~each ~~Chief~~ respective ~~Executive Officer and Chief Financial Officer~~company, believes that its disclosure controls and procedures are effective to provide such reasonable assurance.

The ~~Company’s~~ management of MSW I and MSW II, including the Chief Executive Officer and Chief Financial Officer, of each respective company, believe that any disclosure controls and procedures or internal controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the ~~fact~~ fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, they cannot provide absolute assurance that all control issues and instances of fraud, if any, have been prevented or detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by unauthorized override of the control. The design of any systems of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Accordingly, because of the inherent limitations in a cost effective control system, misstatements due to error or fraud may occur and not be detected.

22 37

limitations in all control systems, they cannot provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been prevented or detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by unauthorized override of the control. The design of any systems of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Accordingly, because of the inherent limitations in a cost effective control system, misstatements due to error or fraud may occur and not be detected.

PART II. OTHER INFORMATION


ITEM 1.	*LEGAL PROCEEDINGS*

~~Lower Passaic River Study. By letters dated August 13, 2004 and May 3, 2005, the~~ ~~Environmental Protection Agency (“EPA”) notified the Essex facility that it was potentially liable~~ ~~under~~ MSW ~~CERCLA~~I Section 107(a) for response actions in the Lower Passaic River Study Area (“LPRSA”), a 17-mile stretch of river in northern New Jersey. Essex is one of at least 52 PRPs named thus far. EPA alleged that hazardous substances found in the LPRSA were being released from the Essex site, which abuts the river. EPA’s notice letters stated that Essex may be liable for costs related to a proposed $10 million study of the Lower Passaic River, for certain past costs incurred by EPA totaling approximately $2.8 million and ~~for unspecified natural resource damages. Considering the~~ history of industrial and other discharges into the LPRSA from other sources, including named PRPs, Essex believes any releases from its site to be de minimus in comparison; however, it is not possible at this time to predict that outcome with certainty or to estimate Essex’s ultimate liability in the matter, including for natural resource damages. Given the uncertainty, Essex has entered into an arrangement with EPA and the cooperating PRP group to settle the potential liability Essex might have for the $2.8 MSW ~~million in past costs incurred by EPA, and for the $10~~II ~~million cost of the study, by contributing $0.25 million to the cost of the study and by agreeing to share in certain past and ongoing legal fees and other costs of the cooperating PRP group.~~

~~CMW~~ See ~~Landfill~~Note 9. ~~Semass~~Commitments ~~Partnership,~~and aContingent ~~90%~~Liabilities ~~owned subsidiary~~ of ~~Ref-Fuel Semass, has a waste management agreement (~~the ~~“WMA”) dated May 25, 1982, as amended, with the Carver, Marion, Wareham~~ ~~Regional~~ Notes ~~Refuse Disposal District (“CMW”). The WMA allows Semass Partnership~~ to ~~utilize a portion of a landfill (~~the ~~“CMW~~Condensed ~~Landfill”),~~Consolidated ~~which~~Financial ~~CMW leases from Wankinco River, Inc~~Statements. ~~(“Wankinco”).~~

In March 1990, the Semass Partnership, CMW and Wankinco entered into an agreement related to the CMW Landfill, as amended (the “Settlement Agreement”), which requires, among other things, the Semass Partnership to make annual deposits into an environmental protection trust fund (the “Fund”) in lieu of obtaining environmental impairment liability insurance for the CMW Landfill. The Semass Partnership is required under the Settlement Agreement to deposit $0.5 million annually into the Fund, payable in equal quarterly installments. Certain additional deposits are required subject to the availability of cash in accordance with the Loan Agreement. The Semass Partnership’s obligation to make deposits into the Fund ceases when the Fund reaches a balance of $20 million unless the fund limit is increased by agreement of the parties, or absent such agreement, by arbitration, wherein it is determined the fund limit needs to be increased to adequately protect against environmental damage. Wankinco by letter dated March 29, 2005, and pursuant to its rights under the Settlement Agreement, has requested a re-evaluation of the Fund limit and an increase of such limit to $29.7 million. Management believes that the $20 million fund limit is adequate for its intended purpose. Discussions between Semass Partnership and Wankinco about the Fund limit are ongoing; no arbitration has been commenced. Proceeds from the Fund are to be used primarily for remediation of the CMW Landfill in the event of environmental damage. The Semass Partnership and Wankinco are each entitled to receive one-half of the balance of the Fund upon final closure of the CMW Landfill and receipt of required governmental approvals. During the three months ended March 31, 2006 and the year ended December 31, 2005, the Semass Partnership made the required quarterly deposits into the Fund and charged operations for one-half of the deposits into the Fund, representing one-half of the balance of the Fund which will be disbursed to Wankinco upon final closure of the CMW Landfill. Additional charges to operations may be required in future years if any disbursements are required from the Fund to remediate any environmental damages. To date, management is not aware of any such environmental damages. As of March 31, 2006 and December 31, 2005, the balance in the Fund was approximately $17.5 million and $17.3 million, respectively, and was included in restricted cash and long-term investments. A corresponding liability, representing approximately one-half of the deposits and related earnings in the Fund, was included in other long-term liabilities.


ITEM 1A.	*RISK FACTORS*

There have been no material changes in the ~~Company’s~~ risk factors for MSW I or MSW II from those disclosed in Item 1A of ~~its~~their respective Annual ~~Report~~Reports on Form 10-K for the year ended December 31, 2005.


ITEM 2.	*UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS*

The item has been intentionally omitted as allowed under General Instruction H(2)(b) on Form 10-Q.


ITEM 3.	*DEFAULTS UPON SENIOR SECURITIES*

The item has been intentionally omitted as allowed under General Instruction H(2)(b) on Form 10-Q.


ITEM 4.	*SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS*

The item has been intentionally omitted as allowed under General Instruction H(2)(b) on Form 10-Q.


ITEM 5.	*OTHER INFORMATION*

None.


ITEM 6.	*EXHIBITS*

Exhibit
Number		~~Description~~	Description
12	12	~~Statement re Computation of Ratio of Earnings to Fixed Charges~~.1	MSW Energy Holdings LLC — Statement re Computation of Ratio of Earnings to Fixed Charges.
31.1		15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings LLC.
	12	.2	MSW Energy Holdings II LLC — Statement re Computation of Ratio of Earnings to Fixed Charges.
31.2		15d-14(a) Certification of Craig D. Abolt for MSW Energy Holdings LLC.
	31	.1	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings LLC.
31.3		15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co., Inc.
	31	.2	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Holdings LLC.
31.4		15d-14(a) Certification of Craig D. Abolt for MSW Energy Finance Co., Inc.
	31	.3	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co., Inc.
32.1		Section 1350 Certification of Anthony J. Orlando and Craig D. Abolt for MSW Energy Holdings LLC.
	31	.4	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Finance Co., Inc.
32.2		Section 1350 Certification of Anthony J. Orlando and Craig D. Abolt for MSW Energy Finance Co., Inc.
	31	.5	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings II LLC.
	31	.6	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Holdings II LLC.
	31	.7	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co. II, Inc.
	31	.8	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Finance Co. II, Inc.
	32	.1	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Holdings LLC.
	32	.2	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Finance Co., Inc.
	32	.3	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Holdings II LLC.
	32	.4	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Finance Co. II, Inc.

25 38

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, MSW Energy Holdings LLC has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

MSW ENERGY HOLDINGS LLC ~~By: /s/ Craig D. Abolt Craig D. Abolt Senior Vice President and Chief Financial Officer By: /s/ Thomas E. Bucks Thomas E. Bucks Vice President and Chief Accounting Officer~~

~~Date~~By: ~~May 4,~~/s/ ~~2006~~ Mark A. Pytosh

26 Mark A. Pytosh

Senior Vice President and Chief Financial Officer


	By:	/s/ Thomas E. Bucks

Thomas E. Bucks

Vice President and Chief Accounting Officer

Date: October 30, 2006

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, MSW Energy Finance Co., Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

MSW ENERGY FINANCE CO., INC. ~~By: /s/ Craig D. Abolt Craig D. Abolt Senior Vice President and Chief Financial Officer By: /s/ Thomas E. Bucks Thomas E. Bucks Vice President and Chief Accounting Officer~~

~~Date~~By: ~~May 4,~~/s/ ~~2006~~ Mark A. Pytosh

27 Mark A. Pytosh

Senior Vice President and Chief Financial Officer


	By:	/s/ Thomas E. Bucks

Thomas E. Bucks

Vice President and Chief Accounting Officer

Date: October 30, 2006

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, MSW Energy Holdings II LLC has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

MSW ENERGY HOLDINGS II LLC


	By:	/s/ Mark A. Pytosh

Mark A. Pytosh

Senior Vice President and Chief Financial Officer


	By:	/s/ Thomas E. Bucks

Thomas E. Bucks

Vice President and Chief Accounting Officer

Date: October 30, 2006

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, MSW Energy Finance Co. II, Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

MSW ENERGY FINANCE CO. II, INC.


	By:	/s/ Mark A. Pytosh

Mark A. Pytosh

Senior Vice President and Chief Financial Officer


	By:	/s/ Thomas E. Bucks

Thomas E. Bucks

Vice President and Chief Accounting Officer

Date: October 30, 2006

EXHIBIT INDEX

Exhibit
Number		~~Description~~	Description
12	12	~~Statement re Computation of Ratio of Earnings to Fixed Charges~~.1	MSW Energy Holdings LLC — Statement re Computation of Ratio of Earnings to Fixed Charges.
31.1		15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings LLC.
	12	.2	MSW Energy Holdings II LLC — Statement re Computation of Ratio of Earnings to Fixed Charges.
31.2		15d-14(a) Certification of Craig D. Abolt for MSW Energy Holdings LLC.
	31	.1	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings LLC.
31.3		15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co., Inc.
	31	.2	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Holdings LLC.
31.4		15d-14(a) Certification of Craig D. Abolt for MSW Energy Finance Co., Inc.
	31	.3	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co., Inc.
32.1		Section 1350 Certification of Anthony J. Orlando and Craig D. Abolt for MSW Energy Holdings LLC.
	31	.4	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Finance Co., Inc.
32.2		Section 1350 Certification of Anthony J. Orlando and Craig D. Abolt for MSW Energy Finance Co., Inc.
	31	.5	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Holdings II LLC.
	31	.6	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Holdings II LLC.
	31	.7	15d-14(a) Certification of Anthony J. Orlando for MSW Energy Finance Co. II, Inc.
	31	.8	15d-14(a) Certification of Mark A. Pytosh for MSW Energy Finance Co. II, Inc.
	32	.1	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Holdings LLC.
	32	.2	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Finance Co., Inc.
	32	.3	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Holdings II LLC.
	32	.4	Section 1350 Certification of Anthony J. Orlando and Mark A. Pytosh for MSW Energy Finance Co. II, Inc.

28 43

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Filing Compare · MSW ENERGY HOLDINGS LLC