Fair Value Measurements

12 Months Ended

Dec. 31, 2011

Recurring Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (referred to as an "exit price"). Fair value of an asset or a liability should consider assumptions that market participants would use in pricing the asset or liability, including assumptions about nonperformance risk. The fair value of derivative assets' nonperformance risk was not material as of December 31, 2011 and 2010.

Midwest Generation categorizes financial assets and liabilities into a fair value hierarchy based on valuation inputs used to derive fair value. The hierarchy, established by authoritative accounting guidance, gives the highest priority to unadjusted quoted market prices in active markets for identical assets and liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).

The following table sets forth Midwest Generation's assets and liabilities that were accounted for at fair value by level within the fair value hierarchy:



	December 31, 2011
(in millions)	Level 1		Level 2		Level 3		Netting¹			Total
Assets at Fair Value
Money market funds²	$	195	$	—	$	—	$	—		$	195
Derivative contracts
Electricity	$	—	$	40	$	—	$	4		$	44
Fuel oil	4		—		—		(4		)	—
Total commodity contracts	$	4	$	40	$	—	$	—		$	44
Total assets	$	199	$	40	$	—	$	—		$	239
Liabilities at Fair Value
Derivative contracts
Electricity	$	—	$	2	$	—	$	—		$	2
Total liabilities	$	—	$	2	$	—	$	—		$	2
	December 31, 2010
Assets at Fair Value
Money market funds²	$	270	$	—	$	—	$	—		$	270
Derivative contracts
Electricity	$	—	$	42	$	—	$	8		$	50
Fuel oil	8		—		—		(8		)	—
Total commodity contracts	$	8	$	42	$	—	$	—		$	50
Total assets	$	278	$	42	$	—	$	—		$	320
Liabilities at Fair Value
Derivative contracts
Electricity	$	—	$	5	$	—	$	—		$	5
Total liabilities	$	—	$	5	$	—	$	—		$	5


¹	Represents the impact of netting across the levels of the fair value hierarchy. Netting among positions classified within the same level is included in that level.


²	Money market funds are included in cash and cash equivalents on Midwest Generation's consolidated balance sheets.

The following table sets forth a summary of changes in the fair value of derivative assets and liabilities, net categorized as Level 3:



(in millions)	2011		2010
Fair value, net assets at beginning of period	$	—	$	3
Total realized/unrealized gains (losses):
Included in earnings¹	—		—
Included in accumulated other comprehensive income	—		3
Settlements	—		(3		)
Transfers in or out of Level 3	—		(3		)
Fair value, net assets at end of period	$	—	$	—
Change during the period in unrealized gains related to assets and liabilities, net held at end of period¹	$	—	$	1


¹	Reported in operating revenues on Midwest Generation's consolidated statements of operations.

Midwest Generation determines the fair value of transfers in and out of each level at the end of each reporting period. There were no significant transfers between levels during 2011, 2010 and 2009.

Valuation Techniques used to Determine Fair Value

Level 1

Level 1 includes financial assets and liabilities where unadjusted quoted prices in active markets are available at the measurement date for identical assets and liabilities. Financial assets and liabilities classified as Level 1 include exchange-traded derivatives and money market funds.

Level 2

Level 2 pricing inputs include quoted prices for similar assets and liabilities in active markets and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the derivative instrument. Financial assets and liabilities utilizing Level 2 inputs include over-the-counter derivatives.

Derivative contracts that are over-the-counter traded are valued using pricing models and are generally classified as Level 2. Inputs to the pricing models include forward published or posted clearing prices from exchanges (New York Mercantile Exchange and Intercontinental Exchange) for similar instruments and discount rates. Forward market prices are developed based on the source that best represents trade activity in each market. Broker quotes or prices from exchanges are used to validate and corroborate the primary source. These price quotations reflect mid-market prices (average of bid and ask) and are obtained from sources believed to provide the most liquid market for the commodity. Broker quotes are incorporated when corroborated with other information which may include a combination of prices from exchanges, other brokers, and comparison to executed trades.

Level 3

Level 3 includes financial assets and liabilities where fair value is determined using techniques that require significant unobservable inputs. Over-the-counter options, bilateral contracts, capacity contracts, qualifying facilities contracts, derivative contracts that trade infrequently (such as financial transmission rights), and derivative contracts with counterparties that have significant nonperformance risks are classified as Level 3. In circumstances where EMMT cannot verify fair value with observable market transactions, it is possible that a different valuation model could produce a materially different estimate of fair value. As markets continue to develop and more pricing information becomes available, EMMT continues to assess valuation methodologies used to determine fair value.

For derivative contracts that trade infrequently (illiquid financial transmission rights), changes in fair value are based on the hypothetical sale of illiquid positions. Objective criteria are reviewed, including system congestion and other underlying drivers and fair value is adjusted when it is concluded that a change in objective criteria would result in a new valuation that better reflects fair value. For illiquid long-term power agreements, fair value is based upon a discounting of future electricity and natural gas prices derived from a proprietary model using the risk free discount rate for a similar duration contract, adjusted for credit risk and market liquidity. Changes in fair value are based on changes to forward market prices, including forecasted prices for illiquid forward periods. The fair value of the majority of Midwest Generation's derivatives that are classified as Level 3 is determined using uncorroborated non-binding broker quotes and models that may require EMMT to extrapolate short-term observable inputs in order to calculate fair value. Broker quotes are obtained from several brokers and compared against each other for reasonableness.

Non-Recurring Fair Value Measurements

For a discussion of non-recurring fair value measurements, see Note 12—Asset Impairments and Other Charges.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

+ References

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MIDWEST GENERATION LLC 10-K