Allete Inc – ‘10-K’ for 12/31/03

On:  Thursday, 3/11/04, at 12:09pm ET   ·   For:  12/31/03   ·   Accession #:  66756-4-34   ·   File #:  1-03548

in

this entire Filing. an “Entity” Search.

Show

Documents searched

and

each “hit”. the 1st “hit”.

↓↑Hints

Annual Report   —   Form 10-K
Filing Table of Contents

Document/Exhibit                   Description                      Pages   Size 

 1: 10-K        Allete 2003 Form 10-K                                141±   647K 
18: 10-K        Unofficial PDF -- r10k03withexhibits                 PDF   2.29M 
 2: EX-2        Ex-2(B) Heater Utilities Stock Purchase Agreement     71    364K 
11: EX-10       Ex-10(Aa)2 Director Compensation Deferral Plan         1      8K 
                          October 2003 Amendment                                 
 3: EX-10       Ex-10(O)3 Split Rock Energy Amended Wholesale         15     54K 
                          Power Coordination and Dispatch                        
                          Operating Agmt 1-30-04                                 
 4: EX-10       Ex-10(P) Split Rock Energy Amended and Restated       41    168K 
                          Withdrawal Agreement 1-30-04                           
 5: EX-10       Ex-10(S) Third Amended and Restated Lasalle           34    122K 
                          Committed Facility Letter 12-23-03                     
 6: EX-10       Ex-10(T)2 Executive Annual Incentive Plan 11-03        1      9K 
                          Amendment                                              
 7: EX-10       Ex-10(U) Supplemental Executive Retirement Plan       27     95K 
                          Effective 1-1-04                                       
 8: EX-10       Ex-10(V)2 Executive Investment Plan-I Amendments       2     13K 
                          Through December 2003                                  
 9: EX-10       Ex-10(W)2 Executive Investment Plan-Ii Amendments      2     13K 
                          Through December 2003                                  
10: EX-10       Ex-10(Z)2 Director Stock Plan Amendments Through       2     12K 
                          December 2003                                          
12: EX-12       EX-12 Ratio of Earnings to Fixed Charges               1     10K 
13: EX-23       Ex-23(A) Consent of Independent Accountants            1      9K 
14: EX-23       Ex-23(B) Consent of General Counsel                    1      9K 
15: EX-31       Ex-31(A) 302 Certification - CEO                       2±    12K 
16: EX-31       Ex-31(B) 302 Certification - CFO                       2±    12K 
17: EX-32       EX-32 906 Certification - CEO and CFO                  1     10K 

10-K   —   Allete 2003 Form 10-K
Document Table of Contents

10-K
1st “Page” of 80
TOC
↑Top
Previous
Next
↓Bottom
Just 1st
 
`                                                                               

10-K
2nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 2nd
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------

 FORM 10-K

United States 
Securities and Exchange Commission
Washington, D.C. 20549
(Mark One)                                                                      

/X/      Annual Report Pursuant to Section 13 or 15(d) of the Securities        
Exchange Act of 1934                                          

For the fiscal year ended DECEMBER 31, 2003                   

/ /     Transition Report Pursuant to Section 13 or 15(d) of the Securities   
Exchange Act of 1934                                          

For the transition period from              to                
                            ------------    ------------

Commission File No. 1-3548                                    

ALLETE, INC.
(Exact name of registrant as specified in its charter)

     MINNESOTA                            41-0418150
       (State or other jurisdiction of    (I.R.S. Employer Identification No.)
incorporation or organization)                                  

 30 WEST SUPERIOR STREET, DULUTH, MINNESOTA 55802-2093
 (Address of principal executive offices including zip code)

(218) 279-5000
(Registrant's telephone number, including area code)

 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

                                           Name of Each Stock Exchange
     Title of Each Class                   on Which Registered
     -------------------                   -------------------
 Common Stock, without par value           New York Stock Exchange

 SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

None

   Indicate by  check  mark  whether  the registrant (1) has  filed  all reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days.                                       

Yes  /X/    No  / /                                                       

   Indicate by check mark if disclosure of  delinquent filers  pursuant to  Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's  knowledge,  in definitive proxy or information  statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. / /                                                                  

   Indicate by check mark whether  the registrant is  an  accelerated  filer (as
defined in Rule 12b-2 of the Act).                                              

Yes /X/   No / /                                                          

   The aggregate market value of voting stock held by  nonaffiliates on June 30,
2003 was $2,281,896,734.                                                  

   As of March 8, 2004  there were  87,880,279  shares of ALLETE  Common  Stock,
without par value, outstanding.                                                 

 DOCUMENTS INCORPORATED BY REFERENCE

   Portions of the Proxy Statement for the 2004 Annual  Meeting  of Shareholders
are incorporated by reference in Part III.                                      

--------------------------------------------------------------------------------
PAGE 7

10-K
3rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 3rd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
TABLE OF CONTENTS 

DEFINITIONS....................................................................9

SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT        
OF 1995.......................................................................10

PART I                                                                          
Item 1.  Business.............................................................11
         Energy Services......................................................12
          Regulated Utility Electric Sales....................................12
          Regulated Utility Purchased Power...................................15
          Fuel................................................................15
          Nonregulated Generation and Power Marketing.........................16
          Regulatory Issues...................................................16
          Competition.........................................................18
          Franchises..........................................................18
          Employees...........................................................18
          Environmental Matters...............................................18
         Automotive Services..................................................20
          Wholesale Vehicle Auctions..........................................20
          Dealer Financing....................................................23
          Competition.........................................................25
          Employees...........................................................25
          Vehicle Regulation..................................................25
          Environmental Matters...............................................26
         Investments and Corporate Charges....................................27
          Real Estate Operations..............................................27
          Emerging Technology Investments.....................................27
          Environmental Matters...............................................27
         Executive Officers of the Registrant.................................28
Item 2.  Properties...........................................................29
Item 3.  Legal Proceedings....................................................29
Item 4.  Submission of Matters to a Vote of Security Holders..................29

PART II                                                                         
Item 5.  Market for Registrant's Common Equity, Related Stockholder             
         Matters and Issuer Purchases of Equity Securities....................29
Item 6.  Selected Financial Data..............................................30
Item 7.  Management's Discussion and Analysis of Financial                      
         Condition and Results of Operations..................................32
          Consolidated Overview...............................................32
          Net Income..........................................................33
          2003 Compared to 2002...............................................35
          2002 Compared to 2001...............................................36
          Critical Accounting Policies........................................36
          Outlook.............................................................37
          Liquidity and Capital Resources.....................................41
          Capital Requirements................................................43
          Environmental and Other Matters.....................................44
          Market Risk.........................................................45
          New Accounting Standards............................................46
          Factors that May Affect Future Results..............................46
Item 7A. Quantitative and Qualitative Disclosures about Market Risk...........53
Item 8.  Financial Statements and Supplementary Data..........................53
Item 9.  Changes in and Disagreements with Accountants on                       
         Accounting and Financial Disclosure..................................53
Item 9A. Controls and Procedures..............................................53

PART III                                                                        
Item 10. Directors and Executive Officers of the Registrant...................54
Item 11. Executive Compensation...............................................54
Item 12. Security Ownership of Certain Beneficial Owners and                    
         Management and Related Stockholder Matters...........................54
Item 13. Certain Relationships and Related Transactions.......................54
Item 14. Principal Accountant Fees and Services...............................54

PART IV                                                                         
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K......55

SIGNATURES....................................................................59

CONSOLIDATED FINANCIAL STATEMENTS.............................................60

--------------------------------------------------------------------------------
PAGE 8

10-K
4th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 4th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
DEFINITIONS 

ABBREVIATION                                                                    
OR ACRONYM                            TERM                                      
--------------------------------------------------------------------------------
ACE                                   ACE Limited                               
ADESA Impact                          Automotive Recovery Services, Inc. and    
                         Impact Auto, collectively
AFC                                   Automotive Finance Corporation            
ALLETE                                ALLETE, Inc. and its subsidiaries         
APB                                   Accounting Principles Board               
BNI Coal                              BNI Coal, Ltd.                            
Boswell                               Boswell Energy Center                     
Capital Re                            Capital Re Corporation                    
CIP                                   Conservation Improvement Program(s)       
Company                               ALLETE, Inc. and its subsidiaries         
EBITDA                                Earnings Before Interest, Taxes,          
                                     Depreciation and Amortization Expense
EITF                                  Emerging Issues Task Force                
Enventis Telecom                      Enventis Telecom, Inc.                    
EPA                                   Environmental Protection Agency           
ESOP                                  Employee Stock Ownership Plan             
FASB                                  Financial Accounting Standards Board      
FERC                                  Federal Energy Regulatory Commission      
Florida Water                         Florida Water Services Corporation        
Form 8-K                              ALLETE Current Report on Form 8-K         
Form 10-K                             ALLETE Annual Report on Form 10-K         
Form 10-Q                             ALLETE Quarterly Report on Form 10-Q      
FPSC                                  Florida Public Service Commission         
GAAP                                  Generally Accepted Accounting Principles  
                    in the United States
GeoInsight                            GeoInsight, Inc.                          
Hibbard                               M.L. Hibbard Station                      
Impact Auto                           Impact Auto Auctions Ltd. and             
                                      Suburban Auto Parts Inc., collectively
Invest Direct                         ALLETE's Direct Stock Purchase and        
                          Dividend Reinvestment Plan
kWh                                   Kilowatthour(s)                           
kV                                    Kilovolt(s)                               
Laskin                                Laskin Energy Center                      
Lehigh                                Lehigh Acquisition Corporation            
LIBOR                                 London Interbank Offer Rate               
LTV                                   LTV Steel Mining Co.                      
MAPP                                  Mid-Continent Area Power Pool             
MBtu                                  Million British thermal units             
Minnesota Power                       An operating division of ALLETE, Inc.     
Minnkota Power                        Minnkota Power Cooperative, Inc.          
MISO                                  Midwest Independent Transmission System   
              Operator, Inc.
MPCA                                  Minnesota Pollution Control Agency        
MPUC                                  Minnesota Public Utilities Commission     
MTBE                                  Methyl Tertiary-Butyl Ether               
MW                                    Megawatt(s)                               
MWh                                   Megawatthour(s)                           
NCUC                                  North Carolina Utilities Commission       
Note ___                              Note ___ to the consolidated financial    
                                        statements indexed in Item 15(a) of this
         Form 10-K
NPDES                                 National Pollutant Discharge Elimination  
      System
NRG Energy                            NRG Energy, Inc.                          
PSCW                                  Public Service Commission of Wisconsin    
QUIPS                                 Quarterly Income Preferred Securities     
Rainy River Energy                    Rainy River Energy Corporation            
SEC                                   Securities and Exchange Commission        
SFAS                                  Statement of Financial Accounting         
             Standards No.
Split Rock Energy                     Split Rock Energy LLC                     
Square Butte                          Square Butte Electric Cooperative         
SWL&P                                 Superior Water, Light and Power Company   
Taconite Harbor                       Taconite Harbor Energy Center             
WDNR                                  Wisconsin Department of Natural Resources 
WPPI                                  Wisconsin Public Power, Inc.              

--------------------------------------------------------------------------------
PAGE 9

10-K
5th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 5th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
SAFE HARBOR STATEMENT UNDER THE 
PRIVATE SECURITIES LITIGATION 
REFORM ACT OF 1995

   In  connection  with the safe harbor  provisions  of the  Private  Securities
Litigation  Reform  Act of 1995,  we are  hereby  filing  cautionary  statements
identifying  important  factors  that could  cause our actual  results to differ
materially from those projected in  forward-looking  statements (as such term is
defined in the Private  Securities  Litigation Reform Act of 1995) made by or on
behalf of ALLETE  in this  Annual  Report on Form  10-K,  in  presentations,  in
response to questions or otherwise.  Any  statements  that  express,  or involve
discussions as to,  expectations,  beliefs,  plans,  objectives,  assumptions or
future events or performance (often, but not always, through the use of words or
phrases such as "anticipates,"  "believes,"  "estimates,"  "expects," "intends,"
"plans,"   "projects,"   "will  likely   result,"  "will  continue"  or  similar
expressions) are not statements of historical facts and may be forward-looking. 
   Forward-looking   statements  involve  estimates,   assumptions,   risks  and
uncertainties  and are  qualified  in their  entirety by  reference  to, and are
accompanied by, the following important factors, which are difficult to predict,
contain  uncertainties,  are beyond our control and may cause actual  results or
outcomes  to  differ   materially  from  those   contained  in   forward-looking
statements:                                                                     
   - our ability to successfully implement  our strategic  objectives, including
     the  completion  and  impact of the  proposed  spin-off  of our  Automotive
Services business and the sale of our Water Services businesses;      
- war and acts of terrorism;                                              
   - prevailing governmental policies and regulatory actions, including those of
     the  United  States  Congress,  Canadian   federal  government,  state  and
     provincial legislatures, the FERC, the MPUC, the FPSC, the  NCUC, the PSCW,
     and various county regulators and city administrators, about allowed  rates
     of  return,  financings,  industry  and  rate  structure,  acquisition  and
     disposal of assets and  facilities, operation  and  construction  of  plant
     facilities,  recovery  of  purchased  power  and  capital  investments, and
     present or prospective wholesale and retail competition (including but  not
     limited to transmission  costs)  as well as vehicle-related laws, including
vehicle brokerage and auction laws;                                   
   - unanticipated  effects  of   restructuring   initiatives  in  the  electric
and automotive industries;                                            
- economic and geographic factors, including political and economic risks;
  - changes in and compliance with environmental and safety laws and policies;
- weather conditions;                                                     
- natural disasters;                                                      
- market factors affecting supply and demand for used vehicles;           
- wholesale power market conditions;                                      
- population growth rates and demographic patterns;                       
   - the effects of competition, including competition for retail and  wholesale
customers, as well as sellers and buyers of vehicles;                 
- pricing and transportation of commodities;                              
- changes in tax rates or policies or in rates of inflation;              
- unanticipated project delays or changes in project costs;               
- unanticipated changes in operating expenses and capital expenditures;   
- capital market conditions;                                              
- competition for economic expansion or development opportunities;        
- our ability to manage expansion and integrate acquisitions; and         
   - the  outcome of  legal  and  administrative  proceedings (whether civil  or
     criminal)  and  settlements  that  affect the business and profitability of
ALLETE.                                                               

   Additional  disclosures  regarding  factors  that could cause our results and
performance to differ from results or performance anticipated by this report are
discussed in Item 7. under the heading  "Factors that May Affect Future Results"
located on page 46 of this Form 10-K. Any forward-looking  statement speaks only
as of the date on which such  statement is made,  and we undertake no obligation
to update any forward-looking statement to reflect events or circumstances after
the date on  which  that  statement  is made or to  reflect  the  occurrence  of
unanticipated  events.  New  factors  emerge  from  time to  time  and it is not
possible for management to predict all of these  factors,  nor can it assess the
impact of each of these  factors  on the  businesses  of ALLETE or the extent to
which any factor, or combination of factors,  may cause actual results to differ
materially from those contained in any  forward-looking  statement.  Readers are
urged to carefully  review and consider  the various  disclosures  made by us in
this Form 10-K and in our  other  reports  filed  with the SEC that  attempt  to
advise interested parties of the factors that may affect our business.          

--------------------------------------------------------------------------------
 PAGE 10

10-K
6th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 6th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

ITEM 1.  BUSINESS                                                               

   ALLETE  has  been  incorporated  under  the  laws of  Minnesota  since  1906.
References  in this  report  to  "we,"  "us" and  "our"  are to  ALLETE  and its
subsidiaries, collectively.                                                     
   ALLETE files annual,  quarterly and other  reports and  information  with the
SEC. You can read and copy any  information  filed by ALLETE with the SEC at the
SEC's Public Reference Room at 450 Fifth Street, N.W.,  Washington,  D.C. 20549.
You can obtain additional information about the Public Reference Room by calling
the SEC at  1-800-SEC-0330.  In addition,  the SEC  maintains  an Internet  site
(www.sec.gov) that contains reports, proxy and information statements, and other
information  regarding issuers that file  electronically with the SEC, including
ALLETE.  ALLETE also maintains an Internet site  (www.allete.com)  that contains
documents   as  soon  as   reasonably   practicable   after  such   material  is
electronically filed with or furnished to the SEC.                              
   As of December 31, 2003 we had approximately 13,000 employees, 4,000 of which
were part time. Our core  operations in 42 states,  nine Canadian  provinces and
Mexico focus on two segments:  ENERGY  SERVICES which includes  electric and gas
services,  coal mining and  telecommunications;  and  AUTOMOTIVE  SERVICES which
includes wholesale vehicle auctions and related vehicle redistribution  services
and dealer financing.                                                           
   INVESTMENTS  AND  CORPORATE  CHARGES  include  our  real  estate  operations,
investments in emerging  technologies  related to the electric  utility industry
and corporate charges.  Corporate charges represent general corporate  expenses,
including interest, not specifically related to any one business segment.       
   For a detailed  discussion of results of operations  and trends,  see Item 7.
Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations. For business segment information, see Notes 1 and 2.                
   SPIN-OFF OF  AUTOMOTIVE  SERVICES.  After a lengthy  review of our  strategic
alternatives,  in  October  2003  we  announced  plans  to  spin  off to  ALLETE
shareholders  our  Automotive  Services  business  which would become a publicly
traded company doing business as ADESA.  The decision  reflects our intention to
maximize the long-term  value of each  business by creating two  separate,  more
focused  companies,  and create  long-term  shareholder  value.  The spin-off is
expected to take the form of a tax-free stock dividend to ALLETE's shareholders,
who would receive one ADESA share for each share of ALLETE stock they own.      
   Our Energy Services and Automotive  Services businesses are two very distinct
businesses  and we  believe  that  this  spin-off  will  better  facilitate  the
strategic objectives of both businesses. We believe that our Automotive Services
business  will be  better  able to  pursue  a  business  growth  strategy  as an
independent  company.  For  ALLETE,  we  believe  the  spin-off  will  create  a
simplified  regulatory and risk profile and a more stable credit  rating,  which
will enhance our ability to pursue strategic growth initiatives.                

                                                                [Download Table]

YEAR ENDED DECEMBER 31                            2003     2002     2001  
==========================================================================
                                                                          
Consolidated Operating                                                    
     Revenue - Millions                          $1,619   $1,494   $1,526 

Percentage of Consolidated                                                
     Operating Revenue                                                    

Energy Services                                                           
     Regulated Utility                                                    
         Industrial                                                       
              Taconite Producers                      9%      10%      10%
              Paper and Wood Products                 4        4        4 
              Pipelines and Other Industries          2        3        3 
--------------------------------------------------------------------------
                  Total Industrial                   15       17       17 
         Residential                                  5        5        4 
         Commercial                                   5        5        5 
         Wholesale                                    5        5        6 
         Other Revenue                                2        2        3 
--------------------------------------------------------------------------
                  Total Regulated Utility            32       34       35 
     Nonregulated                                     9        8        5 
--------------------------------------------------------------------------
         Total Energy Services                       41       42       40 
Automotive Services                                  57       56       55 
Investments                                           2        2        5 
--------------------------------------------------------------------------
                                                    100%     100%     100%
==========================================================================

   Our Automotive  Services business,  which will do business as ADESA after the
spin-off,  operates two main  businesses  that are integral parts of the vehicle
redistribution industry in North America.  Wholesale vehicle auctions include 53
used vehicle auctions,  27 salvage vehicle auctions and related services,  while
dealer financing  consists of AFC's 80 loan production  offices.  Our Automotive
Services business will remain based in Indiana.                                 
   After the spin-off, ALLETE will be comprised of our Energy Services business,
which includes  Minnesota  Power,  SWL&P,  BNI Coal,  Enventis Telecom and Rainy
River Energy,  ALLETE  Properties,  Inc., our real estate operations in Florida,
and our emerging technology  investments.  ALLETE's  headquarters will remain in
Duluth, Minnesota.                                                              
   Our Board of Directors has retained financial and legal advisors to work with
management on the  refinancing of ALLETE's and  Automotive  Services' debt which
will precede the spin-off.  The spin-off is subject to the approval of the final
plan by ALLETE's Board of Directors, favorable market conditions, receipt of tax
opinions,  satisfaction of SEC requirements and other customary conditions,  and
is expected to occur in the third quarter of 2004.                              
   SALE OF WATER PLANT ASSETS.  During 2003 we substantially  completed the sale
of our Water  Services  businesses.  Approximately  90% of our  water  assets in
Florida were sold, under condemnation or imminent threat of condemnation, during
2003 for a total sales price of approximately  $445 million.  Proceeds were used
to pay down debt which  strengthened our balance sheet. In addition,  we reached
an agreement to sell our North Carolina water assets for                        

--------------------------------------------------------------------------------
PAGE 11 

10-K
7th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 7th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

$48  million  and the  assumption  of  approximately  $28 million in debt by the
purchaser.  The North  Carolina  sale is  awaiting  approval  of the NCUC and is
expected to close in mid-2004.  We expect to enter into  agreements  to sell our
remaining water assets in Florida and Georgia in 2004.                          
   In October  2003 the FPSC voted to initiate a proceeding  to examine  whether
the sale of Florida  Water's  assets  involves a gain that should be shared with
Florida Water's  customers.  The question raised is whether the entire gain from
the asset sales should go to Florida Water and its shareholders, or should it be
shared with customers.  In November 2003 the FPSC issued a final order regarding
a similar gain on sale issue for Utilities,  Inc. of Florida.  In that order the
FPSC made several findings that could be helpful to Florida Water's case, namely
that courts have found that rates paid by customers do not vest  ratepayers with
ownership rights to the property used to render service,  and shareholders  bear
the risk of gain or loss associated with  investments  made to provide  service.
Florida Water intends to vigorously  contest any decision to seek sharing of the
gain with  customers.  Florida  Water is unable to predict  the  outcome of this
proceeding.                                                                     

ENERGY SERVICES                                                                 

   We categorize our Energy Services  businesses as regulated utility operations
or nonregulated operations.  Regulated utility operations include rate regulated
activities   associated  with  generation,   transmission  and  distribution  of
electricity under the jurisdiction of state and federal regulatory  authorities.
Nonregulated   operations  consist  of  coal  mining,   nonregulated  generation
(non-rate base generation sold at  market-based  rates to the wholesale  market)
and telecommunications.  The discussion below summarizes the major businesses we
include in Energy Services.  Statistical information is presented as of December
31, 2003 unless  otherwise  indicated.  All subsidiaries are wholly owned unless
otherwise specifically indicated.                                               
   MINNESOTA POWER, an operating  division of ALLETE,  Inc.,  provides regulated
utility  electric  service  in  a  26,000  square  mile  service   territory  in
northeastern  Minnesota.  Minnesota Power supplies  regulated  utility  electric
service  to  135,000  retail  customers  and  wholesale  electric  service to 16
municipalities.   In  addition,  Minnesota  Power  has  nonregulated  generation
operations at the Taconite Harbor facility in northern Minnesota. SWL&P provides
regulated  utility  electric,  natural  gas and water  service  in  northwestern
Wisconsin. SWL&P has 14,000 electric customers, 12,000 natural gas customers and
10,000 water customers.                                                         
   Minnesota  Power had an annual net peak load of 1,463 MW on January 13, 2003.
Our power supply sources are listed on the following page.                      
   We have electric transmission and distribution lines of 500 kV (8 miles), 230
kV (606 miles),  161 kV (43 miles),  138 kV (66 miles), 115 kV (1,259 miles) and
less than 115 kV (6,935 miles).  We own and operate 179 substations with a total
capacity of 8,562  megavoltamperes.  Some of our  transmission  and distribution
lines interconnect with other utilities.                                        
   We own offices and service  buildings,  an energy  control  center and repair
shops, and lease offices and storerooms in various localities. Substantially all
of  our  electric  plant  is  subject  to  mortgages  which   collateralize  the
outstanding first mortgage bonds of Minnesota Power and of SWL&P.  Generally, we
hold  fee  interest  in our  real  properties  subject  only to the  lien of the
mortgages.  Most of our electric lines are located on land not owned in fee, but
are  covered  by  appropriate  easement  rights  or by  necessary  permits  from
governmental authorities. WPPI owns 20% of Boswell Unit 4. WPPI has the right to
use  our  transmission  line  facilities  to  transport  its  share  of  Boswell
generation. (See Note 14.)                                                      
   As of February 2004  Minnesota  Power withdrew from active  participation  in
Split Rock Energy,  a joint venture with Great River Energy,  and will terminate
its ownership  interest  upon receipt of FERC approval  which is expected in the
first half of 2004. (See Nonregulated Generation and Power Marketing.)          
   BNI COAL owns and  operates a lignite mine in North  Dakota.  BNI Coal is the
lowest-cost  supplier of lignite in North Dakota  producing about 4 million tons
annually. Two electric generating cooperatives, Minnkota Power and Square Butte,
presently  consume  virtually  all of BNI Coal's  production  of  lignite  under
cost-plus fixed fee coal supply agreements  expiring in 2027. (See Fuel and Note
15.)                                                                            
   ENVENTIS  TELECOM is an integrated  data  services  provider  offering  fiber
optic-based   communication   and  advanced  data  services  to  businesses  and
communities in the Upper Midwest.  Enventis  Telecom  provides  converged IP (or
Internet  protocol)  services that allow all  communications  (voice,  video and
data) to use the same optic-based delivery technology.  Enventis Telecom owns or
has rights to approximately  1,600 route miles of fiber optic cable. These route
miles  contain  multiple  fibers that total  approximately  47,000  fiber miles.
Enventis Telecom also owns optronic and data switching equipment that is used to
"light up" the fiber optic  cable.  Enventis  Telecom  services  customers  from
facilities that are primarily leased from third parties.                        
   RAINY  RIVER  ENERGY  is  engaged  in  the  acquisition  and  development  of
nonregulated  generation and wholesale power  marketing.  Rainy River Energy has
entered into a 15-year power purchase agreement with NRG Energy at a facility in
Kendall County,  Illinois.  (See  Nonregulated  Generation and Power Marketing -
Kendall County.)                                                                

REGULATED UTILITY ELECTRIC SALES                                                
   Our regulated  utility  operations  include  retail and wholesale  activities
under  the  jurisdiction  of state  and  federal  regulatory  authorities.  (See
Regulatory Issues.)                                                             

--------------------------------------------------------------------------------
PAGE 12 

10-K
8th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 8th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

                                                        [Enlarge/Download Table]

POWER SUPPLY                                                                                                           
=======================================================================================================================
                                                                                               FOR THE YEAR ENDED      
                                                    UNIT         YEAR      NET WINTER           DECEMBER 31, 2003      
REGULATED UTILITY                                   NO.       INSTALLED    CAPABILITY         ELECTRIC REQUIREMENTS    
-----------------------------------------------------------------------------------------------------------------------
                                                                              MW                 MWh         %         

                                                                                                                       
Steam                                                                                                                  
    Coal-Fired                                                                                                         
       Boswell Energy Center                         1           1958          69                                      
       near Grand Rapids, MN                         2           1960          69                                      
                                                     3           1973         349                                      
                                                     4           1980         427                                      
-----------------------------------------------------------------------------------------------------------------------
                                                                              914              6,445,652    55.0%      
-----------------------------------------------------------------------------------------------------------------------
       Laskin Energy Center                          1           1953          55                                      
       in Hoyt Lakes, MN                             2           1953          55                                      
-----------------------------------------------------------------------------------------------------------------------
                                                                              110                643,340     5.5       
-----------------------------------------------------------------------------------------------------------------------
    Purchased Steam                                                                                                    
       M.L. Hibbard Station in Duluth, MN          3 & 4      1949, 1951       48                      -       -       
-----------------------------------------------------------------------------------------------------------------------
           Total Steam                                                      1,072              7,088,992    60.5       
-----------------------------------------------------------------------------------------------------------------------
Hydro                                                                                                                  
    Group consisting of ten stations in MN                      Various       115                409,521     3.5       
-----------------------------------------------------------------------------------------------------------------------
Purchased Power                                                                                                        
    Square Butte burns lignite coal near Center, ND                           322              2,288,921    19.5       
    All Other - Net                                                             -              1,938,958    16.5       
-----------------------------------------------------------------------------------------------------------------------
           Total Purchased Power                                              322              4,227,879    36.0       
-----------------------------------------------------------------------------------------------------------------------
           Total                                                            1,509             11,726,392   100.0%      
-----------------------------------------------------------------------------------------------------------------------


                                                    UNIT           YEAR            YEAR           NET                  
NONREGULATED                                        NO.          INSTALLED       ACQUIRED     CAPABILITY               
-----------------------------------------------------------------------------------------------------------------------
                                                                                                  MW                   
                                                                                                                       
Steam                                                                                                                  
    Coal-Fired                                                                                                         
       Taconite Harbor Energy Center              1, 2 & 3    1957, 1957, 1967     2001          200                   
       in Taconite Harbor, MN                                                                                          

       Cloquet Energy Center                         5              2001           2001           23                   
       in Cloquet, MN                                                                                                  

       Rapids Energy Center <F1>                   6 & 7            1980           2000           29                   
       in Grand Rapids, MN                                                                                             
-----------------------------------------------------------------------------------------------------------------------
Hydro                                                                                                                  
    Conventional Run-of-River                                                                                          
       Rapids Energy Center <F1>                   4 & 5            1917           2000            1                   
       in Grand Rapids, MN                                                                                             
-----------------------------------------------------------------------------------------------------------------------
Power Purchase Agreement                                                                                               
    Kendall County (Rainy River Energy)              3              2002           2002          275                   
    located southwest of Chicago, IL                                                                                   
=======================================================================================================================
<FN>                                                                                                                   
<F1>  The net generation is primarily dedicated to the needs of one customer.                                          
</FN>                                                                                                                  

--------------------------------------------------------------------------------
PAGE 13 

10-K
9th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 9th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

                                                                [Download Table]
REGULATED UTILITY ELECTRIC SALES                               

FOR THE YEAR ENDED DECEMBER 31      2003      2002      2001   
===============================================================
MILLIONS OF KILLOWATTHOURS                                     
                                                               
Retail                                                         
      Residential                   1,066     1,044       998  
      Commercial                    1,286     1,257     1,234  
      Industrial                    6,558     6,946     6,549  
      Other                            79        78        75  
Wholesale                                                      
      Municipals and Others         2,155     1,807     2,086  
---------------------------------------------------------------
                                   11,144    11,132    10,942  
===============================================================

   Minnesota  Power has wholesale  contracts with 16 municipal  customers.  (See
Regulatory Issues - Federal Energy Regulatory Commission.)                      
   Approximately  60% of the ore consumed by integrated  steel facilities in the
United  States  originates  from six  taconite  customers  of  Minnesota  Power.
Taconite, an iron-bearing rock of relatively low iron content that is abundantly
available in Minnesota,  is an important domestic source of raw material for the
steel  industry.  Taconite  processing  plants use large  quantities of electric
power to grind the  ore-bearing  rock,  and  agglomerate  and pelletize the iron
particles into taconite pellets.  Annual taconite production in Minnesota was 34
million  tons in 2003 (39 million tons in 2002;  33 million  tons in 2001).  The
decrease in 2003  taconite  production  was due to the May 2003  shutdown of the
Eveleth  Mines LLC  operations  that then  reopened in  December  2003 as United
Taconite LLC under new ownership that includes  Cleveland-Cliffs  Inc. and Laiwu
Steel Group, a Chinese-based steel producer.  A rise in Chinese steel demand and
production  has  created a new market for the  producers  of  taconite  in North
America.  United Taconite has the ability to produce 5 million to 6 million tons
of  taconite  annually  with a portion  of that  production  replacing  taconite
pellets  that will be shipped to China from other  Cleveland-Cliffs  Inc.  owned
taconite  operations.  The decrease in 2001 taconite  production  was due to the
closing of LTV and the reduced demand for iron ore from the operating mines as a
result of high steel import levels and a softer  economy.  LTV,  which was not a
Large Power Customer  (defined below),  formerly produced 7 million to 8 million
tons of  taconite  annually.  Based on our  research of the  taconite  industry,
Minnesota  taconite  production  for 2004 is  anticipated to be about 39 million
tons. As a result of continuing  consolidation  in the integrated steel business
and its resulting  impact on taconite  producers,  Minnesota  Power is unable to
predict taconite production levels for the next two to five years. We expect any
excess energy not used by our retail customers will be marketed primarily to the
regional wholesale market.                                                      
   LARGE POWER  CUSTOMER  CONTRACTS.  Minnesota  Power has large power  customer
contracts with 12 customers (Large Power  Customers),  each of which requires 10
MW or more of  generating  capacity.  Large  Power  Customer  contracts  require
Minnesota Power to have a certain amount of generating capacity available.  (See
Minimum  Revenue and Demand  Under  Contract  Table.) In turn,  each Large Power
Customer  is  required to pay a minimum  monthly  demand  charge that covers the
fixed  costs  associated  with  having  this  capacity  available  to serve  the
customer, including a return on common equity. Most contracts allow customers to
establish the level of megawatts subject to a demand charge on a biannual (power
pool  season)  basis and  require  that a  portion  of their  megawatt  needs be
committed on a  take-or-pay  basis for at least a portion of the  agreement.  In
addition to the demand  charge,  each Large  Power  Customer is billed an energy
charge for each  kilowatthour  used that recovers the variable costs incurred in
generating  electricity.  Six of the Large Power  Customers  have  interruptible
service for a portion of their needs which provides a discounted demand rate and
energy priced at Minnesota Power's incremental cost after serving all firm power
obligations.  Minnesota Power also provides  incremental  production service for
customer demand levels above the contract take-or-pay levels. There is no demand
charge for this  service and energy is priced at an  increment  above  Minnesota
Power's cost. Incremental production service is interruptible.  Contracts with 8
of the 12 Large  Power  Customers  provide  for  deferral  without  interest  of
one-half of demand charge obligations  incurred during the first three months of
a strike or illegal walkout at a customer's facilities,  with repayment required
over the 12-month period following resolution of the work stoppage.             
   All contracts continue past the contract termination date unless the required
advance  notice  of  cancellation   has  been  given.   The  advance  notice  of
cancellation  varies from one to four years. Such contracts  minimize the impact
on  earnings  that  otherwise  would  result  from  significant   reductions  in
kilowatthour  sales to such  customers.  Large Power  Customers  are required to
purchase all electric service requirements from Minnesota Power for the duration
of their contracts. The rates and corresponding revenue associated with capacity
and energy provided under these contracts are subject to change through the same
regulatory process governing all retail electric rates. (See Regulatory Issues -
Electric Rates.)                                                                

                                                                [Download Table]
MINIMUM REVENUE AND DEMAND UNDER CONTRACT                   
AS OF MARCH 1, 2004                                         


                      MINIMUM                    MONTHLY    
                   ANNUAL REVENUE <F1>          MEGAWATTS   
=========================================================== 
                                                            
2004               $99.5 million                   635      
2005               $50.5 million                   294      
2006               $36.1 million                   202      
2007               $30.6 million                   181      
2008               $16.2 million                    93      
=========================================================== 
<FN>                                                        
<F1> Based on past experience, we believe revenue from Large
     Power Customers will be substantially in excess  of the
     minimum contract amounts.                              
</FN>                                                       

--------------------------------------------------------------------------------
PAGE 14 

10-K
10th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 10th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

                                                        [Enlarge/Download Table]
CONTRACT STATUS FOR MINNESOTA POWER LARGE POWER CUSTOMERS                                                                           
AS OF MARCH 1, 2004                                                                                                                 

                                                                                                                EARLIEST            
CUSTOMER                              INDUSTRY         LOCATION                 OWNERSHIP                       TERMINATION DATE    
====================================================================================================================================

                                                                                                                                    
Hibbing Taconite Co.                  Taconite         Hibbing, MN              62.3% International Steel       December 31, 2008   
                                                                                 Group, Inc.                                        
                                                                                23% Cleveland-Cliffs Inc.                           
                                                                                14.7% Stelco Inc.                                   
Ispat Inland Mining Company <F1>      Taconite         Virginia, MN             Ispat Inland Steel Company      March 31, 2008      
U.S. Steel Corp. (USS) Minntac <F1>   Taconite         Mt. Iron, MN             U.S. Steel Corp.                March 31, 2008      
USS Keewatin Taconite <F1><F2>        Taconite         Keewatin, MN             U.S. Steel Corp.                March 31, 2008      
United Taconite LLC <F3>              Taconite         Eveleth, MN              70% Cleveland-Cliffs Inc.       October 31, 2008    
                                                                                30% Laiwu Steel Group                               
Blandin Paper Company                 Paper            Grand Rapids, MN         UPM-Kymmene Corporation         April 30, 2007      
Boise Paper Solutions                 Paper            International Falls, MN  Boise Cascade Corporation       December 31, 2008   
Sappi Cloquet LLC                     Paper            Cloquet, MN              Sappi Limited                   December 31, 2008   
Stora Enso North America,             Paper and Pulp   Duluth, MN               Stora Enso Oyj                  April 30, 2009      
   Duluth Paper Mill and                                                                                                            
   Duluth Recycled Pulp Mill                                                                                                        

USG Interiors, Inc.                   Manufacturer     Cloquet, MN              USG Corporation                 December 31, 2005   

Enbridge Energy Company,              Pipeline         Deer River, MN           Enbridge Energy Company,        March 31, 2005      
   Limited Partnership <F4>                            Floodwood, MN             Limited Partnership                                

Minnesota Pipeline Company <F4>       Pipeline         Staples, MN              60% Koch Pipeline Co. L.P.      March 31, 2005      
                                                       Little Falls, MN         40% Marathon Ashland                                
                                                       Park Rapids, MN           Petroleum LLC                                      
====================================================================================================================================
<FN>                                                                                                                                
<F1> The contract will terminate four years from the date of  written notice from either  Minnesota Power or the customer. No notice
     of contract cancellation has been given by either party. Thus, the earliest date of cancellation is March 31, 2008.            
<F2> Formerly National Steel Pellet Co., now  renamed USS  Keewatin Taconite. USS assumed  the National Steel Pellet Co. Large Power
     Customer contract.                                                                                                             
<F3> In late 2003 United Taconite LLC was the successful bidder in  a  bankruptcy auction sale of  the assets of  Eveleth Mines LLC,
     previously a Large Power Customer of Minnesota Power. United Taconite assumed the Eveleth  Mines Large Power Customer contract.
<F4> The contract will terminate one year from the date of written notice from either Minnesota Power or  the customer. No notice of
     contract cancellation has been given by either party. Thus, the earliest date of cancellation is March 31, 2005.               
</FN>                                                                                                                               

REGULATED UTILITY PURCHASED POWER                                               
   Minnesota  Power has  contracts to purchase  capacity and energy from various
entities.  The largest  contract is with Square Butte.  Under an agreement  with
Square Butte expiring at the end of 2026,  Minnesota Power is currently entitled
to  approximately  71%  (66%  beginning  in  2006)  of the  output  of a  455-MW
coal-fired generating unit located near Center, North Dakota. (See Note 15.)    

FUEL                                                                            
   Minnesota Power  purchases  low-sulfur,  sub-bituminous  coal from the Powder
River Basin coal field located in Montana. Coal consumption in 2003 for electric
generation at Minnesota Power's  Minnesota  coal-fired  generating  stations was
about 5.6 million  tons.  As of December  31,  2003  Minnesota  Power had a coal
inventory  of  about  632,000  tons.  Minnesota  Power  has  three  coal  supply
agreements with various  expiration  dates extending  through 2009.  Under these
agreements Minnesota Power has the tonnage flexibility to procure 70% to 100% of
its total coal  requirements.  In 2004  Minnesota  Power will  obtain coal under
these coal supply  agreements  and in the spot  market.  This  diversity in coal
supply options allows Minnesota Power to manage market price and supply risk and
to take advantage of favorable spot market prices.  Minnesota Power is exploring
future coal supply  options.  It believes that adequate  supplies of low-sulfur,
sub-bituminous coal will continue to be available.                              
   In 2001 Minnesota Power and Burlington  Northern and Santa Fe Railway Company
(Burlington  Northern) entered into a long-term agreement under which Burlington
Northern  transports all of Minnesota Power's coal by unit train from the Powder
River  Basin  directly  to  Minnesota  Power's  generating  facilities  or  to a
designated  interconnection  point.  Minnesota  Power also has  agreements  with
Duluth  Missabe and Iron Range Railway and Midwest Energy  Resources  Company to
transport coal from the  Burlington  Northern  interconnection  point to certain
Minnesota Power facilities.                                                     

--------------------------------------------------------------------------------
PAGE 15 

10-K
11th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 11th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

                                                                [Download Table]
COAL DELIVERED TO MINNESOTA POWER                           

YEAR ENDED DECEMBER 31              2003     2002    2001   
============================================================
                                                            
Average Price Per Ton              $20.02   $21.48  $20.52  
Average Price Per MBtu              $1.12    $1.19   $1.18  
============================================================

   The Square  Butte  generating  unit  operated by  Minnkota  Power burns North
Dakota  lignite coal  supplied by BNI Coal,  in  accordance  with the terms of a
contract  expiring in 2027.  Square  Butte's cost of lignite  burned in 2003 was
approximately  66 cents per MBtu. The lignite acreage that has been dedicated to
Square Butte by BNI Coal is located on lands  essentially all of which are under
private  control  and  presently  leased by BNI  Coal.  This  lignite  supply is
sufficient to provide the fuel for the anticipated useful life of the generating
unit.                                                                           

NONREGULATED GENERATION AND POWER MARKETING                                     
   Nonregulated  generation is non-rate  base  generation  sold at  market-based
rates to the wholesale market.                                                  
   TACONITE HARBOR. In 2002 we started the Taconite Harbor generating facilities
which we purchased in 2001. The generation output is primarily being sold in the
wholesale market and is allocated in limited  circumstances to Minnesota Power's
utility customers.                                                              
   KENDALL COUNTY.  In September 1999 Rainy River Energy entered into an amended
15-year  power  purchase  agreement  (Kendall  County)  with a company  that was
subsequently purchased by NRG Energy, an independent power producer. The Kendall
County  agreement  includes  the  purchase  of the  output  of one  entire  unit
(approximately 275 MW) of a four unit (approximately 1,100 MW) natural gas-fired
combined cycle generation facility located near Chicago, Illinois.  Construction
of  the  generation  facility  was  completed  in  2002.  Rainy  River  Energy's
obligation to pay fixed capacity  related charges began May 1, 2002 and will end
on September  16, 2017.  We currently  have 130 MW (100 MW in 2003) of long-term
capacity sales contracts for the Kendall County generation,  with 50 MW expiring
in April 2012 and 80 MW in September 2017.                                      
   SPLIT ROCK  ENERGY is a joint  venture  of  Minnesota  Power and Great  River
Energy  from which  Minnesota  Power is  withdrawing.  Great  River  Energy is a
consumer-owned generation and transmission cooperative and is Minnesota's second
largest utility in terms of generating capacity.  The joint venture combined the
two  companies'  power supply  capabilities  and  customer  loads for power pool
operations and generation outage protection.  As of February 2004 in response to
the changing  strategies of both parties,  Minnesota  Power withdrew from active
participation  in Split Rock Energy,  and will terminate its ownership  interest
upon receipt of FERC approval which is expected in the first half of 2004.  Some
of the benefits of this partnership  have been retained,  such as joint load and
capability  reporting  with Great  River  Energy.  Minnesota  Power has  resumed
functions  that provide least cost supply to our retail  customers and marketing
power in our region based on supplies available from our generating assets.     
   OTHER.  Rainy River  Energy  Corporation  - Wisconsin  continues to study the
feasibility  of the  construction  of a natural  gas-fired  electric  generating
facility in  Superior,  Wisconsin.  In  accordance  with the PSCW's  final order
approving the project, Rainy River Energy undertook preliminary site preparation
work in  November  and  December  of 2003.                                      
   In 2003 we sold 1.5 million MWh of  nonregulated  generation  (1.2 million in
2002 and 0.2 million in 2001).                                                  

REGULATORY ISSUES                                                               
   We are exempt from regulation under the Public Utility Holding Company Act of
1935  (PUHCA),  except as to Section  9(a)(2) which  relates to  acquisition  of
securities  of public  utility  companies.  If passed in its current  form,  the
pending  federal energy bill will repeal PUHCA.  However,  we cannot predict the
future of this legislative effort.                                              
   We are subject to the  jurisdiction of various  regulatory  authorities.  The
MPUC has regulatory  authority over Minnesota Power's service area in Minnesota,
retail rates,  retail  services,  issuance of securities and other matters.  The
FERC  has  jurisdiction  over  the  licensing  of  hydroelectric  projects,  the
establishment  of rates and charges for the sale of  electricity  for resale and
transmission of electricity in interstate  commerce,  and certain accounting and
record  keeping  practices.  The PSCW has  regulatory  authority over the retail
sales of  electricity,  water  and gas by  SWL&P.  The  MPUC,  FERC and PSCW had
regulatory authority over 23%, 3% and 3%, respectively, of our 2003 consolidated
operating revenue.                                                              
   ELECTRIC  RATES.  Minnesota  Power has  historically  designed  its  electric
service rates based on cost of service studies under which  allocations are made
to the various  classes of customers.  Nearly all retail sales  include  billing
adjustment  clauses which adjust electric  service rates for changes in the cost
of fuel  and  purchased  energy,  and  recovery  of  current  and  deferred  CIP
expenditures.                                                                   
   In addition  to Large  Power  Customer  contracts,  Minnesota  Power also has
contracts with large industrial and commercial customers with monthly demands of
more than 2 MW but less  than 10 MW of  capacity.  The terms of these  contracts
vary depending  upon the  customer's  demand for power and the cost of extending
Minnesota Power's facilities to provide electric service.                       
   Minnesota Power requires that all large  industrial and commercial  customers
under contract  specify the date when power is first required.  Thereafter,  the
customer is generally  billed  monthly for at least the minimum  power for which
they contracted. These conditions are part of all contracts covering power to be
supplied  to new  large  industrial  and  commercial  customers  and to  current
customers as their contracts expire or are amended. All rates and other contract
terms are subject to approval by  appropriate  regulatory  authorities.         
   FEDERAL ENERGY  REGULATORY  COMMISSION.  The FERC has  jurisdiction  over our
wholesale  electric  service and  operations.  Minnesota  Power's  hydroelectric
facilities,  which are located in  Minnesota,  are  licensed  by the FERC.  (See
Environmental Matters - Water.)                                                 

--------------------------------------------------------------------------------
PAGE 16 

10-K
12th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 12th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

   Minnesota  Power has  contracts  with 16 Minnesota  municipalities  receiving
wholesale  electric  service.  Two contracts are for service through 2005, while
the other 14 are for service through at least 2007. In 2003 municipal  customers
purchased 735,000 MWh from Minnesota Power.                                     
   Minnesota Power and SWL&P are members of the MISO.  Minnesota Power and SWL&P
retain  ownership  of their  respective  transmission  assets and  control  area
functions,  but their  transmission  network is under the  regional  operational
control of the MISO. They take and provide  transmission  service under the MISO
open access transmission  tariff. In December 2001 FERC approved the MISO as the
nation's first regional  transmission  organization (RTO) under FERC's Order No.
2000 criteria, noting that it believes the MISO will benefit the public interest
by enhancing the reliability of the Midwest  electric grid and  facilitating and
enhancing  wholesale  competition.  The MISO plans to accomplish  this primarily
through  standardization of rates, terms and conditions of transmission  service
over a broad  region  encompassing  all or parts of 20 states  and one  Canadian
province,  and over 120,000 MW of  generating  capacity.  MISO  operations  were
phased  in  during  the  first  half of 2002.  In late 2003 the MISO and the PJM
Interconnection  LLC, an RTO serving all or parts of  Pennsylvania,  New Jersey,
the District of Columbia,  Maryland, Ohio, Virginia, West Virginia and Delaware,
executed a joint operating agreement. The joint operating agreement,  filed with
the FERC, will provide detailed  information  about each others'  operations and
establishes procedures to strengthen and coordinate reliability.                
   The FERC is currently  developing rules for a standard market design intended
to further  define the functions and  transmission  tariff of the MISO and other
regional transmission providers.  The MISO is focusing on reliability procedures
and  on  implementation  of  the  FERC's  standard  market  design  elements  by
development of an energy market tariff or tariffs if MISO membership  determines
to form subregional  markets within MISO. The MISO expects that an energy market
tariff  will be filed with the FERC in the first half of 2004.  Minnesota  Power
will review the effects of the proposed definitive energy tariff at that time.  
   Minnesota Power also participates in MAPP, a power pool operating in parts of
eight  states  in the Upper  Midwest  and in three  provinces  in  Canada.  MAPP
functions  include a regional  reliability  council  that  maintains  generation
reserve sharing  requirements.  Minnesota Power is a member of the Mid-Continent
Area Energy Marketers Association (MEMA),  recently formed to provide a regional
tariff for wholesale  power and energy  marketing under which its members trade.
On December 2, 2003 MEMA's wholesale  capacity and energy tariff was approved by
the FERC and became effective.                                                  
   MINNESOTA PUBLIC  UTILITIES  COMMISSION.  Minnesota  Power's retail rates are
based on a 1994 MPUC retail rate order that allows for an 11.6% return on common
equity  dedicated to utility  plant and resulted in an average rate  increase of
approximately 6%. Minnesota Power is in the early stages of preparing a  request
to increase rates for its utility operations sometime in the first half of 2005.
The request may be necessary  to cover  changes in the  increased  cost of doing
business.                                                                       
   At the end of 2003 our equity  ratio was 64.44%,  which was greater  than the
55.03%  plus or minus 15%  (46.78% to 63.29%)  approved  by the MPUC in its 2003
order  authorizing our capital  structure.  Our equity ratio was higher than the
approved MPUC ratio due to the  recognition  of gains from the sale of our Water
Services businesses and the redemption of long-term debt. On January 23, 2004 we
filed an amendment with the MPUC  requesting  that effective no later than March
1, 2004 a new  equity  ratio of 61.53%  plus or minus 15%  (52.30% to 70.76%) be
established  until  such time as our 2004  capital  structure  is  approved.  On
February 18, 2004 the MPUC approved at Minnesota Power's request.               
   In June  2003  the  MPUC  initiated  an  investigation  into  the  continuing
usefulness  of the fuel  clause as a  regulatory  tool for  electric  utilities.
Minnesota  Power's  initial  comments on the proposed scope and procedure of the
investigation  were filed in July 2003.  In November  2003 the MPUC approved the
initial scope and procedure of the  investigation.  The investigation will focus
on whether the fuel clause  continues to be an appropriate  regulatory tool. The
initial  steps will be to review the clause's  original  purpose,  structure and
rationale of the fuel  adjustment  clause  (including its current  operation and
relevance  in today's  regulatory  environment),  and then  address  its ongoing
appropriateness  and  other  issues  if the need for  continued  use of the fuel
adjustment clause is shown.  Because this  investigation is in its early stages,
we are unable to predict the outcome or impact, if any, at this time.           
   Minnesota  requires  investor owned electric  utilities to spend a minimum of
1.5% of gross annual retail electric revenue on CIP each year. These investments
are recovered  from retail  customers  through a billing  adjustment and amounts
included in retail base rates.  The MPUC allows  utilities to  accumulate,  in a
deferred account for future recovery, all CIP expenditures as well as a carrying
charge on the deferred  account balance.  Minnesota  Power's CIP investment goal
was $2.9  million for 2003 ($2.9  million for 2002;  $2.7 million for 2001) with
actual  spending of $5.2 million in 2003 ($4.0 million in 2002;  $2.6 million in
2001).  These amounts  satisfied  current  spending  requirements  and all prior
years' spending shortfalls.                                                     
   PUBLIC SERVICE COMMISSION OF WISCONSIN. SWL&P's current electric retail rates
are based on a  September  2001 PSCW  retail rate order that allows for a 12.25%
return on common equity and resulted in an average rate decrease of 3.4%.  SWL&P
is  preparing  to file with the PSCW in  mid-2004 a request to  increase  retail
rates for its utility  operations  to be effective  sometime in early 2005.  The
request would cover changes in the cost of doing business.                      
   The ownership, control and operation of any affiliated wholesale nonregulated
generating plants in Wisconsin is subject to PSCW approval.                     

--------------------------------------------------------------------------------
PAGE 17 

10-K
13th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 13th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

   In December 2003 the PSCW unanimously  approved the revised $420 million cost
estimate for the  Wausau-to-Duluth  electric  transmission  line that  Minnesota
Power,  the American  Transmission  Company (ATC) and Wisconsin  Public  Service
Corporation  have  proposed.  The line had been  projected  to cost  about  $215
million.  The increased costs for the 220-mile,  345-kV line are attributable to
higher prices for construction materials, increased payments to landowners, more
aggressive  environmental  safeguards and a different accounting calculation for
interest on funds used during  construction  for ATC. Despite the cost increase,
Minnesota  Power and  transmission  planners  throughout  the region believe the
transmission  line is  necessary.  Minnesota  Power is actively  involved in the
permitting and  construction  activities which began at the end of January 2004;
however,  it does not intend to finance or own the proposed line. An application
to cross the  Namekagon  River in  Wisconsin  was filed with the  National  Park
Service (NPS) in November 2001, and a draft  Environmental  Impact  Statement is
expected  to be  issued  by the NPS in early  2004.  Construction  is  currently
anticipated to be complete in 2008.                                             

COMPETITION                                                                     
   INDUSTRY  RESTRUCTURING.  State efforts across the country to restructure the
electric  utility  industry have slowed.  Legislation  or regulation  that would
allow retail customer choice of their electric  service  provider has not gained
momentum in either Minnesota or Wisconsin.                                      
   At the national  level the FERC  continues  in its efforts to have  companies
join RTOs.  FERC's  sweeping  Standard  Market  Design  rulemaking,  renamed the
Wholesale  Market  Platform,  appears to have  stalled,  although  FERC  remains
committed  to  implementing  most  of  the  rule  in a more  piecemeal  fashion.
Minnesota Power supports the creation of a robust wholesale electric market.    
   The  electricity  title of the pending  federal energy  legislation  seeks to
maintain  reliability,  increase  investments in new  transmission  capacity and
energy  supply,   and  address  wholesale  price  volatility  while  encouraging
wholesale  competition.  This  legislation  remains the  subject of  significant
controversy. We cannot predict the timing or substance of any future legislation
or regulation.                                                                  

FRANCHISES                                                                      
   Minnesota  Power  holds  franchises  to  construct  and  maintain an electric
distribution and  transmission  system in 90 cities and towns located within its
electric service territory. SWL&P holds similar franchises for electric, natural
gas and/or water  systems in 15 cities and towns  within its service  territory.
The  remaining  cities and towns  served do not require a  franchise  to operate
within their boundaries.  Our exclusive  service  territories are established by
state regulatory agencies.                                                      

EMPLOYEES                                                                       
At December 31, 2003 Energy Services had 1,400 full-time employees.       
   Minnesota  Power,  SWL&P and  Enventis  Telecom  have 596  employees  who are
members of the International Brotherhood of Electrical Workers (IBEW), Local 31.
A labor agreement  between Minnesota Power and Local 31, which includes Enventis
Telecom, was in effect through January 31, 2004. On February 25, 2004 IBEW Local
31 approved a new two-year  labor  agreement  with  Minnesota  Power,  SWL&P and
Enventis  Telecom that will be in effect through January 31, 2006. The agreement
provides wage  increases of 3.25% in each of the two contract  years.  The union
voted to discontinue  their  participation  in the Results Sharing program as of
the end of 2003.                                                                
   BNI Coal had 96 employees  who were members of the IBEW Local 1593.  BNI Coal
and Local  1593 have a labor  agreement  which  expires  on March 31,  2004.  In
accordance with terms of that agreement, a 3% increase took effect July 1, 2003.
Negotiations  are underway  for a new contract  that would begin after the March
31, 2004 expiration date.                                                       

ENVIRONMENTAL MATTERS                                                           
   Certain  businesses  included in our Energy  Services  segment are subject to
regulation by various federal, state and local authorities of air quality, water
quality,  solid  wastes  and other  environmental  matters.  We  consider  these
businesses to be in substantial compliance with those environmental  regulations
currently  applicable to their  operations and believe all necessary  permits to
conduct such operations have been obtained. We review environmental matters on a
quarterly  basis.  Accruals for  environmental  matters are recorded  when it is
probable  that a liability has been incurred and the amount of the liability can
be reasonably estimated,  based on current law and existing technologies.  These
accruals  are  adjusted  periodically  as  assessment  and  remediation  efforts
progress,  or as additional  technical or legal  information  become  available.
Accruals for  environmental  liabilities  are  included in the balance  sheet at
undiscounted  amounts and exclude claims for recoveries  from insurance or other
third  parties.  Costs  related to  environmental  contamination  treatment  and
cleanups are charged to expense.                                                
   AIR.  Minnesota Power's regulated  generating  facilities in Minnesota mainly
burn low-sulfur western  sub-bituminous coal and Square Butte,  located in North
Dakota,  burns lignite coal. All of these facilities are equipped with pollution
control equipment such as scrubbers,  baghouses or electrostatic  precipitators.
The federal Clean Air Act  Amendments  of 1990 (Clean Air Act) created  emission
allowances for sulfur dioxide.  Each allowance is an  authorization  to emit one
ton of sulfur dioxide, and each utility must have sufficient allowances to cover
its annual emissions.  Sulfur dioxide emission  requirements are currently being
met by all of Minnesota  Power's  generating  facilities.  Most Minnesota  Power
facilities have surplus  allowances.  Taconite Harbor expects to meet its sulfur
dioxide  requirements by annually  purchasing  allowances,  since it receives no
allowance  allocation.  Square  Butte  anticipates  meeting  its sulfur  dioxide
requirements                                                                    

--------------------------------------------------------------------------------
PAGE 18 

10-K
14th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 14th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

through  increased  use  of  existing  scrubbers  and  by  annually   purchasing
additional allowances as necessary.                                             
   In accordance with the Clean Air Act, the EPA has established  nitrogen oxide
limitations for electric  generating units. To meet nitrogen oxide  limitations,
Minnesota Power installed advanced low-emission burner technology and associated
control  equipment to operate the Boswell and Laskin  facilities at or below the
compliance emission limits. Nitrogen oxide limitations at Square Butte are being
met by combustion tuning.                                                       
   Minnesota Power has obtained all necessary Title V air operating permits from
the MPCA for its applicable facilities to conduct electric operations.          
   In December 2000 the EPA announced its decision to regulate mercury emissions
from coal and  oil-fired  power plants  under  Section 112 of the Clean Air Act.
Section 112 will require all such power plants in the United States to adhere to
the EPA maximum achievable control technology (MACT) standards for mercury.  The
EPA issued a proposed rule in December 2003. Final regulations  defining control
requirements  are  planned  for  December  2004.  The  proposed  rule offers two
different types of regulation:  imposition of an annual average mercury emission
limitation  applied  at each unit or  facility  average  under  Section  112 and
imposition of a cap and trade program under Section 111,  where an allocation of
mercury  credits  would be assigned  and  utilities  would need to provide for a
combination  of  emission   reductions  and  credit   purchases  to  demonstrate
compliance.  The EPA is soliciting  comments about these  approaches.  In either
approach,  continuous monitoring of mercury stack emissions is required to be in
service around 2008. Minnesota Power's preliminary estimates suggest that all of
our  affected  facilities  can be outfitted  with  continuous  mercury  emission
monitors for under $2 million.  Our unit mercury emissions tests indicate all of
our units should  comply with the proposed unit  specific  target  emission rate
without significant  additional cost. Cost estimates about mercury cap and trade
program  impacts  would be premature at this time.  The EPA is still  soliciting
comments about this proposed  alternative  program and associated  final mercury
credit allocations to units have not yet been defined.                          
   During 2002  Minnesota  Power  received and responded to a third request from
the EPA, under Section 114 of the Clean Air Act, seeking additional  information
regarding  capital  expenditures at all of its coal-fired  generating  stations.
This action is part of an industry-wide  investigation assessing compliance with
the New  Source  Review  and the New  Source  Performance  Standards  (emissions
standards  that apply to new and changed units) of the Clean Air Act at electric
generating  stations.  We have  received no  feedback  from the EPA based on the
information we submitted.  There is, however,  ongoing litigation  involving the
EPA and other electric  utilities for alleged  violations of these rules.  It is
expected  that the  outcome  of some of the  cases  could  provide  the  utility
industry direction on this topic. We are unable to predict what actions, if any,
may be required as a result of the EPA's request for  information.  As a result,
we have not accrued any liability  for this  environmental  matter.             
   In December 2002 the EPA issued changes to the  existing  New  Source  Review
rules.  These rules  changed the  procedures  for MPCA review of projects at our
electric  generating  facilities.  In  October  2003 the EPA  announced  changes
clarifying the  application of certain  sections of the New Source Review rules.
These changes are not expected to have a material impact on Minnesota  Power. On
December 24, 2003 the U.S. Court of Appeals for the District of Columbia Circuit
stayed the  implementation of the October 2003 rule pending their further review
which is expected sometime in 2004.                                             
   In June 2002 Minnkota Power, the operator of Square Butte,  received a Notice
of Violation from the EPA regarding  alleged New Source Review violations at the
M.R.  Young Station which  includes the Square Butte  generating  unit.  The EPA
claims  certain  capital  projects  completed by Minnkota Power should have been
reviewed pursuant to the New Source Review regulations  potentially resulting in
new air permit  operating  conditions.  Minnkota Power has held several meetings
with  the EPA to  discuss  the  alleged  violations.  Based  on an EPA  request,
Minnkota  Power  performed a study related to the  technological  feasibility of
installing  various  controls for the  reduction  of nitrogen  oxides and sulfur
dioxide emissions.  Discussions with the EPA are ongoing and we are still unable
to predict  the  outcome or cost  impacts.  If Square  Butte is required to make
significant capital expenditures to comply with EPA requirements, we expect such
capital  expenditures  to be debt financed.  Our future cost of purchased  power
would include our pro rata share of this additional debt service. (See Note 15.)
   WATER. The Federal Water Pollution Control Act of 1972 (FWPCA), as amended by
the Clean Water Act of 1977 and the Water Quality Act of 1987,  established  the
National  Pollutant  Discharge  Elimination  System (NPDES) permit program.  The
FWPCA  requires  NPDES permits to be obtained from the EPA (or, when  delegated,
from individual state pollution control agencies) for any wastewater  discharged
into navigable waters. Minnesota Power has obtained all necessary NPDES permits,
including  NPDES storm water permits for applicable  facilities,  to conduct its
electric operations.                                                            
   Minnesota  Power holds FERC licenses  authorizing the ownership and operation
of seven  hydroelectric  generating projects with a total generating capacity of
about 115 MW. In June 1996  Minnesota  Power filed in the U.S.  Court of Appeals
for the  District  of Columbia  Circuit a petition  for review of the license as
issued by the FERC for Minnesota Power's St. Louis River Hydro Project. Separate
petitions for review were also filed by the U.S.  Department of the Interior and
the  Fond  du Lac  Band  of Lake  Superior  Chippewa  (Fond  du Lac  Band),  two
intervenors  in the  licensing  proceedings.  The court  consolidated  the three
petitions for                                                                   

--------------------------------------------------------------------------------
PAGE 19 

10-K
15th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 15th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

review and suspended the briefing schedule while Minnesota Power and the Fond du
Lac Band  negotiate a reasonable  fee for the use of tribal lands as mandated by
the new license.  Both parties  informed the court that these  negotiations  may
resolve other disputed issues, and they are obligated to report  periodically to
the court the status of these discussions.  Beginning in 1996, and most recently
in February 2004, Minnesota Power filed requests with the FERC for extensions of
time to comply with certain plans and studies required by the license that might
conflict  with  the  settlement  discussions.  The  Fond du Lac  Band,  the U.S.
Department  of the  Interior  and  Minnesota  Power  have  reached a  settlement
agreement  for the St.  Louis  River  Hydro  Project.  This  settlement  must be
approved  by the FERC who would then amend the  project  license to reflect  the
conditions of the  settlement  agreement.  Minnesota  Power is in the process of
preparing the filing for submission to the FERC in mid 2004.                    
   SOLID AND HAZARDOUS WASTE. The Resource Conservation and Recovery Act of 1976
regulates the management and disposal of solid wastes and hazardous wastes. As a
result of this  legislation,  the EPA has  promulgated  various  hazardous waste
rules. Minnesota Power is required to notify the EPA of hazardous waste activity
and routinely  submits the necessary annual reports to the EPA. The MPCA and the
Wisconsin   Department  of  Natural   Resources   (WDNR)  are   responsible  for
administering  solid and hazardous waste rules on the state level with oversight
by the EPA.                                                                     
   In response to EPA Region V's request for  utilities  to  participate  in the
Great  Lakes  Initiative  by  voluntarily  removing  remaining   polychlorinated
biphenyl (PCB)  inventories,  Minnesota  Power has scheduled  replacement of PCB
capacitor banks and  PCB-contaminated  oil by the end of 2004. The total cost is
expected  to be about  $2.0  million  of which $1.5  million  was spent  through
December 31, 2003.                                                              
   In May 2001 SWL&P received notice from the WDNR that the City of Superior had
found soil contamination on property  adjoining a former  Manufactured Gas Plant
(MGP) site owned and  operated by SWL&P's  predecessors  from 1889 to 1904.  The
WDNR requested SWL&P to initiate an environmental  investigation.  The WDNR also
issued SWL&P a  Responsible  Party letter in February  2002.  The  environmental
investigation  is  underway.  In  February  2003  SWL&P  submitted  a  Phase  II
environmental site investigation report to the WDNR. This report identified some
MGP-like  chemicals  that were  found in the soil.  During  March and April 2003
sediment  samples were taken from nearby Superior Bay. The report on the results
of this  sampling is expected  to be  completed  and sent to the WDNR during the
first  quarter of 2004. A work plan for  additional  investigation  by SWL&P was
filed on December 17, 2003 with the WDNR.  This part of the  investigation  will
determine any impact to soil or ground water between the former MGP site and the
Superior  Bay.  Although it is not possible to quantify the  potential  clean-up
cost until the  investigation is completed and a work plan is developed,  a $0.5
million  liability  was  recorded as of  December  31, 2003 to address the known
areas of  contamination.  We have  recorded a  corresponding  dollar amount as a
regulatory  asset to  offset  this  liability.  The PSCW  has  approved  SWL&P's
deferral of these MGP environmental  investigation and potential  clean-up costs
for future recovery in rates, subject to regulatory prudency review.            

AUTOMOTIVE SERVICES                                                             

   Automotive  Services,  headquartered  in Carmel,  Indiana,  operates two main
businesses that are integral parts of the vehicle redistribution industry in the
United States and Canada:  auctions and related services,  and dealer financing.
Automotive Services includes several wholly owned subsidiaries, including ADESA,
ADESA Impact and AFC.  The  proposed  spin-off is expected to take the form of a
tax-free stock dividend to ALLETE's  shareholders,  who would receive one ADESA,
Inc. share for each share of ALLETE common stock. ADESA, Inc. will be the parent
company  of the  subsidiaries  we  include in  Automotive  Services.  Automotive
Services plans to grow by growing auction sales volume,  optimizing  revenue per
vehicle sold,  continuing to improve  operating  efficiency,  expanding into new
markets, and growing on-line auctions and related services. The discussion below
summarizes  the  businesses  we  include  in  Automotive  Services.  Statistical
information is presented as of December 31, 2003 unless otherwise indicated.    

WHOLESALE  VEHICLE AUCTIONS                                                     
   We  are  the  leading, national  provider of wholesale  vehicle  auctions and
related  vehicle  redistribution  services for the automotive  industry in North
America.  Most of our locations are stand-alone  facilities  dedicated to either
used vehicle auctions or salvage  auctions,  but in several  locations,  we have
been able to capitalize on the  synergies of utilizing our  facilities  for both
types of  auctions.  In addition to vehicle  auction  services,  we also provide
auctions and related services for specialty vehicles and equipment unique to the
recreational vehicle, commercial trucking, construction and utility industries. 
   We provide  Internet-based  solutions  to  institutional  sellers who wish to
redistribute  their vehicles to either  franchised and/or  independent  dealers,
including   on-line  and   bulletin   board   on-line  live   auctions   running
simultaneously with our physical auctions. We feel that the physical auctions we
operate  offer a superior  method of vehicle  redistribution  when  compared  to
on-line auctions. As the use of on-line auctions has become an accepted practice
in the  vehicle  redistribution  industry,  we have  developed  on-line  auction
technologies to complement our physical auction business. We believe we are well
positioned  to offer the  appropriate  mix of physical and on-line  auctions and
services  to  our   customers  to  ensure  the  most   effective  and  efficient
redistribution of their vehicles.                                               

--------------------------------------------------------------------------------
PAGE 20 

10-K
16th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 16th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

   USED  VEHICLE  AUCTIONS  AND  RELATED  SERVICES.  We are the  second  largest
wholesale used vehicle  auction  network in the United States and the largest in
Canada.  We operate 53 used vehicle  auction  facilities  in close  proximity to
large concentrations of used vehicle dealers throughout North America,  which we
own or lease. Each auction is a multi-lane, drive-through facility, and may have
additional buildings for reconditioning,  registration,  maintenance,  bodywork,
and other ancillary and  administrative  services.  Each auction also has secure
parking areas to store vehicles for auction.  (See Used Vehicle Auctions Table.)
Our customers sold 1,810,000 used vehicles at our auctions in 2003 (1,741,000 in
2002; 1,761,000 in 2001).                                                       
   Auctions are the hub of a massive  redistribution  system for used  vehicles.
Our auctions  enable  institutional  customers and selling  dealers to sell used
vehicles to licensed franchised, independent and wholesale used vehicle dealers.
Our  mission is to  maximize  the  auction  sales  price for the sellers of used
vehicles by effectively and  efficiently  transferring  the vehicles,  paperwork
(including certificates of title and other evidence of ownership),  and funds as
quickly as possible from the sellers to a large population of dealers seeking to
fill their inventory for resale to retail consumers.  Auctions are held at least
weekly at every location and provide  real-time  wholesale market prices for the
vehicle redistribution  industry.  During the sales process, we do not generally
take title to or  ownership of the  vehicles  consigned  for auction but instead
facilitate the transfer of vehicle ownership directly from seller to buyer.     
   A central  measure to the results of the used vehicle  auction process is the
conversion percentage, which represents the number of vehicles sold as a percent
of the vehicles offered for sale. The number of vehicles offered for sale is the
key driver of the costs  incurred in, and the number of vehicles sold is the key
driver of the related fees generated by, the redistribution process.  Generally,
as the conversion percentage  increases,  so do the profitability and efficiency
of our auctions.                                                                
We provide a full range of services to both buyers and sellers, including:
   -  Auction services, such  as  marketing and advertising the vehicles  to  be
      auctioned,  dealer  registration,   storage  of  consigned  and  purchased
      inventory, clearing of funds, arbitration  of  disputes,  auction  vehicle
      registration,   condition  report  processing,  security  for    consigned
      inventory, sales results reports, pre-sale  lineups, and actual auctioning
of vehicles by licensed auctioneers.                                
   -  Internet-based solutions,  including  on-line  bulletin board auctions and
      on-line  live  auctions running simultaneously with our physical auctions.
   -  Inbound  and  outbound  logistics administration with services provided by
both third party carriers and our auctions.                         
   -  Reconditioning services, including detailing, washing,  body  work,  light
      mechanical work, glass repair, dent repair, tire and key replacement,  and
upholstery repair.                                                  
   -  Inspection and certification  services  whereby  the  auction  performs  a
      physical  inspection  and  produces  a  condition  report,  in addition to
varying levels of diagnostic testing for purposes of certification. 
-  Title processing and other paperwork administration.                   
-  Outsourcing of remarketing functions and end of lease term management. 
Each of  these  services  may also be  purchased  separately  from  the  auction
process.                                                                        
   SALVAGE AUCTIONS  AND  RELATED  SERVICES.  We are currently the third largest
salvage  auction  operator  in North  America,  where  the top  three  operators
constitute an estimated 72% of the vehicles sold through auctions. We operate 27
salvage auction facilities in the United States and Canada. Salvage auctions are
generally  smaller than used  vehicle  auctions in terms of acreage and building
size and some locations share  facilities with our used vehicle  auctions.  Most
salvage vehicles cannot be driven through lanes, and salvage auction  facilities
are  therefore  less complex than  wholesale  used vehicle  auction  facilities,
consisting  primarily of large lots for  depositing  salvage  vehicles.  Salvage
auction facilities typically have a small office building and a garage for truck
and loader  repairs.  (See  Salvage  Vehicle  Auctions  Table.)  Our  customers,
primarily insurance companies, sold an estimated 191,000 salvage vehicles at our
auctions in 2003 (175,000 in 2002; 148,000 in 2001).                            
   Salvage  vehicles are damaged  vehicles  that are branded as total losses for
insurance or business purposes as well as recovered stolen vehicles for which an
insurance  settlement  with the vehicle  owner has already been made. We offer a
comprehensive  selection of salvage recovery  services.  In addition to the core
auction process including inbound and outbound  logistics,  remarketing  vehicle
claims services such as vehicle inspection,  evaluation,  titling and settlement
administration, remarketing and theft-recovered vehicle services. Used together 
or independently,  these services provide efficiency and speed of service to our
customers, helping them to mitigate their losses and manage the costs related to
processing  the claims and  related  vehicles.  We also  provide  the  insurance
industry  with  professional  claims  outsourcing  and recycled  parts  locating
services via an extensive network of third party suppliers of                   
used vehicle parts.                                                             
   We  provide  solutions  for  all  aspects  of the  salvage  auction  process,
including:                                                                      
   -  Auction  services,  such  as  registering  vehicles,  clearing  of  funds,
      reporting sales results and pre-sale lineups to  customers,  paying  third
      party  storage  centers  for  the  release  of  vehicles  and the physical
auctioning of the vehicles by licensed auctioneers.                 
   -  Inbound  and  outbound  logistics  administration  with   actual  services
provided by both third party carriers and our auctions.             
   -  Other  services  including  vehicle  inspections,   evaluations,  titling,
settlement administration, drive through damage                     

--------------------------------------------------------------------------------
PAGE 21 

10-K
17th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 17th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
PART I

                                                        [Enlarge/Download Table]

                                                                                  NUMBER OF  
                                                            STATE/                 AUCTION   
USED VEHICLE AUCTIONS              CITY                     PROVINCE                LANES    
=============================================================================================
                                                                                             
UNITED STATES                                                                                
    ADESA Birmingham               Moody                    Alabama                  10      
    ADESA Phoenix                  Chandler                 Arizona                  12      
    ADESA Little Rock <F1>         North Little Rock        Arkansas                 10      
    ADESA Golden Gate              Tracy                    California               12      
    ADESA Los Angeles <F2>         Mira Loma                California                6      
    ADESA Sacramento               Sacramento               California                5      
    ADESA San Diego <F1>           San Diego                California                6      
    ADESA Colorado Springs         Colorado Springs         Colorado                  5      
    ADESA Jacksonville <F3>        Jacksonville             Florida                   6      
    ADESA Ocala                    Ocala                    Florida                   5      
    ADESA Orlando-Sanford          Sanford                  Florida                   8      
    ADESA Tampa                    Tampa                    Florida                   8      
    ADESA Atlanta <F1>             Fairburn                 Georgia                   8      
    ADESA Indianapolis             Plainfield               Indiana                  10      
    ADESA Southern Indiana         Edinburgh                Indiana                   3      
    ADESA Des Moines               Grimes                   Iowa                      5      
    ADESA Lexington                Lexington                Kentucky                  6      
    ADESA Shreveport               Shreveport               Louisiana                 5      
    ADESA Boston                   Framingham               Massachusetts            11      
    ADESA Concord <F3>             Acton                    Massachusetts             5      
    ADESA Lansing                  Dimondale                Michigan                  5      
    ADESA Kansas City              Lee's Summit             Missouri                  7      
    ADESA St. Louis                Barnhart                 Missouri                  3      
    ADESA New Jersey               Manville                 New Jersey                8      
    ADESA Buffalo <F3>             Akron                    New York                 10      
    ADESA Long Island              Yaphank                  New York                  6      
    ADESA Charlotte                Charlotte                North Carolina           10      
    ADESA Cincinnati/Dayton        Franklin                 Ohio                      8      
    ADESA Cleveland                Northfield               Ohio                      8      
    ADESA Tulsa                    Tulsa                    Oklahoma                  6      
    ADESA Pittsburgh               Mercer                   Pennsylvania              8      
    ADESA Knoxville                Lenoir City              Tennessee                 6      
    ADESA Memphis                  Memphis                  Tennessee                 6      
    ADESA Austin <F1>              Austin                   Texas                     6      
    ADESA Dallas                   Mesquite                 Texas                     8      
    ADESA Houston                  Houston                  Texas                     8      
    ADESA San Antonio              San Antonio              Texas                     8      
    ADESA Seattle                  Auburn                   Washington                4      
    ADESA Wisconsin                Portage                  Wisconsin                 5      

CANADA                                                                                       
    ADESA Calgary                  Airdrie                  Alberta                   4      
    ADESA Edmonton  <F3>           Nisku                    Alberta                   5      
    ADESA Vancouver <F1><F3>       Richmond                 British Columbia          7      
    CAG Vancouver <F1>             Surrey                   British Columbia          2      
    ADESA Winnipeg                 Winnipeg                 Manitoba                  4      
    ADESA Moncton                  Moncton                  New Brunswick             2      
    ADESA St. John's <F1>          St. John's               Newfoundland              1      
    ADESA Halifax <F3>             Enfield                  Nova Scotia               5      
    ADESA Kitchener                Ayr                      Ontario                   4      
    ADESA Ottawa <F3>              Vars                     Ontario                   5      
    ADESA Toronto                  Brampton                 Ontario                   8      
    ADESA Montreal                 St. Eustache             Quebec                   12      
    ADESA Saskatoon <F1>           Saskatoon                Saskatchewan              2      

MEXICO                                                                                       
    ADESA Mexico <F4>              Mexico City                                               
=============================================================================================
<FN>                                                                                         
<F1> Leased auction facilities. (See Note 15.)                                               
<F2> We currently lease part of the property on which this auction is located.               
<F3> Shares facilities with salvage auction at the same location.                            
<F4> Holds auctions at one of our customer's facilities in Mexico City, Mexico.              
</FN>                                                                                        

--------------------------------------------------------------------------------
 PAGE 22

10-K
18th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 18th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

                                                        [Enlarge/Download Table]


                                                                   STATE/                   TOTAL           
SALVAGE VEHICLE AUCTIONS                   CITY                    PROVINCE                ACREAGE          
============================================================================================================
                                                                                                            
UNITED STATES                                                                                               
   ADESA Impact - Fremont                  Fremont                 California                 63            
   ADESA Impact - Jacksonville <F1>        Jacksonville            Florida                     6            
   ADESA Impact - Miami <F2>               Opa-Locka               Florida                    29            
   ADESA Impact - Orlando <F2>             Orlando                 Florida                     8            
   ADESA Impact - Clinton                  Clinton                 Maine                       7            
   ADESA Impact - Saco                     Saco                    Maine                       9            
   ADESA Impact - Concord <F1>             Acton                   Massachusetts              10            
   ADESA Impact - Taunton                  East Taunton            Massachusetts              29            
   ADESA Impact - Salem <F3>               Salem                   New Hampshire              13            
   ADESA Impact - Albany                   Colonie                 New York                   25            
   ADESA Impact - Buffalo <F1>             Akron                   New York                   15            
   ADESA Impact - Long Island <F2>         Medford                 New York                    4            
   ADESA Impact - Montgomery <F1>          Rock Tavern             New York                   64            
   ADESA Impact - Clayton                  Clayton                 North Carolina             21            
   ADESA Impact - Rhode Island             East Providence         Rhode Island               15            
   ADESA Impact - Vermont                  Essex                   Vermont                    28            

CANADA                                                                                                      
   Impact Calgary <F2>                     Calgary                 Alberta                    10            
   Impact Edmonton <F1><F2>                Nisku                   Alberta                    10            
   Impact Vancouver <F1><F2>               Richmond                British Columbia            3            
   Impact Moncton <F2>                     Moncton                 New Brunswick               8            
   Impact Halifax <F1><F2>                 Enfield                 Nova Scotia                 6            
   Impact Hamilton <F2>                    Hamilton                Ontario                    12            
   Impact London <F2>                      London                  Ontario                    17            
   Impact Toronto <F2>                     Stouffville             Ontario                    28            
   Impact Sudbury <F4>                     Sudbury                 Ontario                    10            
   Impact Ottawa <F1><F2>                  Vars                    Ontario                     9            
   Impact Montreal <F2><F5>                Les Cedres              Quebec                     50            
============================================================================================================
<FN>                                                                                                        
<F1> Shares facilities with ADESA used vehicle auction at the same location.                                
<F2> Leased auction facilities. (See Note 15.)                                                              
<F3> We currently lease part of the property on which this auction is located.                              
<F4> Impact Auto owns 50% of this auction facility.                                                         
<F5> Holds a monthly auction at an independent auction facility in Quebec City, Quebec.                     
</FN>                                                                                                       

      assessment  centers,  claims  auditing,  recycled  parts locating,  and  a
national call center.                                               
   -  Internet-based solutions, including on-line bulletin  board  auctions  and
    on-line live auctions running simultaneously with our physical auctions.
Each of  these  services  may also be  purchased  separately  from  the  auction
process.                                                                        

DEALER FINANCING                                                                
   AFC  primarily  provides  short-term  inventory-secured  financing,  known as
floorplan  financing,  for used  vehicle  dealers in North  America who purchase
vehicles from our auctions, independent auctions, auctions affiliated with other
auction networks and outside sources.  In 2003 approximately 85% of the vehicles
floorplanned  by AFC were vehicles  purchased by dealers at auction.  AFC has 80
loan  production  offices at or near vehicle  auctions  across North America and
arranged 950,000 loan  transactions in 2003 (946,000 in 2002;  904,000 in 2001).
Our ability to provide  floorplan  financing  facilitates  the growth of vehicle
sales at  auction,  and also  allows  us to have  a  larger  role in the  entire
vehicle redistribution industry.                                                
   AFC's  procedures and proprietary  computer-based  system enable us to manage
our  credit  risk by  following  each loan from  origination  to  payoff,  while
expediting  services through its branch network.  Our approximately 8,200 active
accounts (those  accounts with financing for at least one vehicle  outstanding),
had an average  line of credit of  $112,000.  An average of nine  vehicles  were
floorplanned  per active dealer with an approximate  average value of $6,500 per
vehicle.  Up to 12,000  dealers  utilize their lines of credit during any twelve
month period.                                                                   
   AFC offices are  conveniently  located at or within  close  proximity  of our
auctions and other auctions,  which allows dealers to reduce transaction time by
providing immediate payment for vehicles purchased at auction. On-site financing
also enables AFC to share its information with auction representatives regarding
the financing capacity of customers, thereby increasing the purchasing potential
at auctions.  Of AFC's 80 offices in North America, 58 are physically located at
auction  facilities.  Each of the  remaining  22 AFC  offices  is               
--------------------------------------------------------------------------------
 PAGE 23

10-K
19th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 19th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

strategically located in close proximity to at least one of the auctions that it
services.  In  addition,  AFC has the  ability to send  finance  representatives
on-site  to  most  approved   independent  auctions  during  auction  sale-days.
Geographic  proximity to our  customers  also gives our employees the ability to
stay in close contact with our  outstanding  accounts,  thereby better  enabling
them to manage credit risk.                                                     
   Every floorplan financed vehicle is treated as an individual loan. Typically,
AFC  assesses a floorplan  fee at the  inception  of a loan and collects the fee
along with interest (accrued daily) when the loan is paid in full. AFC generally
only  allows one loan per  vehicle  and  permits  payoffs to occur with only one
check per vehicle.  In addition,  AFC holds title or other evidence of ownership
to all vehicles  which are  floorplanned,  except for vehicles  floorplanned  in
Michigan. Typical loan terms are 30 or 45 days, each with a possible curtailment
extension. For an additional fee, the curtailment extension allows the dealer to
extend the  duration of the loan beyond the  original  term for another 30 to 45
days if the dealer  makes an upfront  payment  towards  principal,  interest and
fees.                                                                           
   The  extension  of a credit  line to a dealer  starts  with the  underwriting
process.  Credit lines up to $150,000 are extended  using a proprietary  scoring
model developed internally by AFC with no requirement for financial  statements.
Credit lines in excess of $150,000 may be extended using underwriting guidelines
which require dealership and personal financial  statements and tax returns. The
underwriting  of  each  line  of  credit  requires  an  analysis,  write-up  and
recommendation by the credit department and final review by a credit committee. 
   AFC takes a  security  interest  in each  financed  vehicle,  and  collateral
management is an integral  part of day-to-day  operations at each AFC branch and
its Corporate headquarters.  AFC's proprietary computer-based system facilitates
collateral  management by providing real time access to dealer  information  and
enables our branch  personnel to manage potential  collection  issues as soon as
they arise.  Restrictions are  automatically  placed on customer accounts in the
event of a  delinquency,  insufficient  funds  received  or poor audit  results.
Branch  personnel are proactive in managing  collateral by monitoring  loans and
notifying dealers that payments are coming due. In addition,  routine audits, or
lot checks, are performed by an affiliated company. Poor results from lot checks
typically  require  branch  personnel to take actions to determine the status of
missing  collateral,  including visiting the dealer personally,  verifying units
held off-site and collecting payments for units sold. In some instances an audit
may identify a troubled account which could cause our collections  department to
become involved.                                                                
   AFC operates four  divisions  which are  organized  into ten regions in North
America.  Each  division and region is  monitored by managers who oversee  daily
operations. At the corporate level, AFC employs full-time collection specialists
and  collection  attorneys  who are  assigned  to  specific  regions and monitor
collection  activity for these areas.  Collection  specialists work closely with
the branches to track trends before an account becomes a troubled account and to
determine,  together with collection attorneys,  the best strategy to secure the
collateral  once a  troubled  account  is  identified.                          
   Once a new  customer is extended  credit,  we emphasize  service,  growth and
management. All AFC employees at the management level participate in a two-stage
interactive  training  program at Automotive  Services'  corporate  headquarters
that allows  us to provide  consistent  services to our customers and consistent
monitoring of our accounts at local, regional and central levels.               
   The  Eligible  Active  Dealers  table  depicts a range of the lines of credit
available to eligible dealers.                                                  
   As of December 31, 2003 no single line of credit  accounted for more than 10%
of the total credit extended by AFC. AFC's top five active dealers represented a
total committed credit of $93 million with a total outstanding  principal amount
of $31 million.  The single  largest  committed line of credit granted by AFC is
for $45 million,  for which the obligor had $3.5 million outstanding on December
31,  2003.  This  obligor  operates   outside  of  AFC's  normal   floorplanning
arrangements with specific  covenants that must be maintained,  and borrows on a
revolving based line of credit with advances based on eligible inventory.       
   AFC's  five  largest  write-offs  for the past five  years  amounted  to $3.8
million in  aggregate,  of which $1.4  million  was  recovered  through  ongoing
collection activity as well as insurance claims.                                

                                                        [Enlarge/Download Table]
ELIGIBLE ACTIVE DEALERS - 2003                                                                              

============================================================================================================
                                                            NUMBER OF DEALERS    AGGREGATE MANAGED PRINCIPAL
                                 NUMBER OF ELIGIBLE          WITH OUTSTANDING       AMOUNT OUTSTANDING AS   
AVAILABLE LINE OF CREDIT           ACTIVE DEALERS                BALANCES           OF DECEMBER 31, 2003    
------------------------------------------------------------------------------------------------------------
                                                                                                            
Less than $150,000                    11,337                      7,648                 $320,787,232        
$150,001 to $500,000                     512                        495                  102,780,909        
$500,001 to $2,500,000                    93                         92                   61,455,681        
$2,500,001 to $5,000,000                   6                          6                   11,998,355        
$5,000,001 to $10,000,000                  1                          1                    5,104,360        
$10,000,001 and Greater                    2                          2                   16,036,280        
------------------------------------------------------------------------------------------------------------
Total                                 11,951                      8,244                 $518,162,817        
============================================================================================================

--------------------------------------------------------------------------------
 PAGE 24

10-K
20th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 20th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

COMPETITION                                                                     
   We  are the  only  company to offer both used  vehicle and salvage  auctions,
floorplan financing for used vehicle dealers and a wide array of related vehicle
redistribution services. In the used vehicle auction  industry,  we compete with
Manheim Auctions, Inc. (Manheim), a subsidiary of Cox Enterprises, Inc., as well
as several smaller chains of auctions,  and independent auctions,  some of which
are  affiliated  through  their  membership  in an industry  organization  named
ServNet(registered). Due to our national presence, competition is strongest with
Manheim  for the  supply  of used  vehicles  from  national  level  accounts  of
institutional  customers.  Although  the supply of these  vehicles is  dispersed
among all of the  auctions in the used vehicle  market,  we compete most heavily
with the independent  auctions (as well as Manheim and all others in the market)
for the supply of vehicles from dealers.                                        
   Due  to  the  increased  visibility  of  the  Internet  as  a  marketing  and
distribution  channel,  new competition has arisen recently from  Internet-based
companies  and our own customers who have  historically  redistributed  vehicles
through  various  channels  including  auctions.  Direct  sales of  vehicles  by
institutional  customers and large dealer groups through internally developed or
third  party  on-line  auctions  have  largely  replaced  telephonic  and  other
non-auction  methods,  becoming an  increasing  portion of overall  used vehicle
redistribution.  The extent of use of direct, on-line systems varies by customer
and, based upon our estimates,  currently  comprises  approximately  3% to 5% of
overall used vehicle auction sales.  Typically,  these on-line auctions serve to
redistribute  vehicles  that  have  come off  lease.  In  addition,  some of our
competitors have begun to offer on-line auctions as all or part of their auction
business and other on-line auction companies now include used vehicles among the
products  offered  at their  auctions.  On-line  auctions  or other  methods  of
redistribution  may diminish  both the quality and quantity and reduce the value
of vehicles sold through traditional auction facilities.                        
   In the salvage  auction  services  industry,  we compete with  Copart,  Inc.,
Insurance  Auto  Auctions,   Inc.,  independent  auctions,  some  of  which  are
affiliated   through  their  membership  in  an  industry   organization   named
Sadisco(registered),  and  a  limited  number  of  used  vehicle  auctions  that
regularly  redistribute  salvage  vehicles.  Additionally,  some  dismantlers of
salvage  vehicles and  Internet-based  companies  have entered the market,  thus
providing  alternate avenues for sellers to redistribute  salvage  vehicles.  We
believe further consolidation of the salvage auction service industry will occur
and are  evaluating  various  means by which we can  continue  our growth  plan.
Through strategic acquisitions, shared facilities with our used vehicle auctions
and greenfield  expansion,  we believe our salvage auction service  business can
become a prominent  salvage services auction provider to the insurance  industry
in the United States.                                                           
   In Canada we are the largest  provider of used and  salvage  vehicle  auction
services. Our competitors include vehicle recyclers and dismantlers, independent
vehicle auctions,  brokers, Manheim and on-line auction companies. We believe we
are  strategically  positioned  in this  market  by  providing  a full  array of
value-added  services to our customers  including auctions and related services,
on-line programs, data analyses, and consultation.                              
   The used vehicle  inventory  floorplan  financing  sector is characterized by
diverse and fragmented  competition.  AFC primarily  provides  short-term dealer
floorplan  financing of wholesale  vehicles to  independent  vehicle  dealers in
North America. AFC's competition includes Manheim Automotive Financial Services,
other specialty lenders,  banks and other financial  institutions.  AFC competes
primarily on the basis of quality of services,  convenience of payment, scope of
services offered, and historical and consistent commitment to the sector.       

EMPLOYEES                                                                       
   At December 31, 2003 Automotive Services had approximately  11,200 employees,
with 9,000  located in the United States and Mexico and 2,200 located in Canada.
About 64% of Automotive  Services' work force  consists of full-time  employees.
Currently  none of  Automotive  Services'  employees  participate  in collective
bargaining  agreements.  In addition to our work force of employees,  Automotive
Services  also  utilizes  temporary  labor  services to assist in  handling  the
vehicles consigned during periods of peak volume and staff shortages. Nearly all
of  Automotive  Services'  auctioneers  are contract  laborers  providing  their
services for a daily or weekly rate.  Many of the services  Automotive  Services
provides  are  outsourced  to third party  providers  that  perform the services
either on-site or off-site.  The use of third party  providers  depends upon the
resources  available at each auction  facility as well as peaks in the volume of
vehicles offered at auction.                                                    

VEHICLE REGULATION                                                              
   Automotive  Services'  operations are subject to regulation,  supervision and
licensing under various U.S. or Canadian  federal,  state,  provincial and local
statutes,  ordinances  and  regulations.  Each auction is subject to laws in the
state or province in which it operates which regulate auctioneers and/or vehicle
dealers.  Some of the  transport  vehicles used at our auctions are regulated by
the U.S. Department of Transportation or the Canadian Transportation Agency. The
acquisition  and sale of salvage and theft  recovered  vehicles is  regulated by
governmental  agencies in each of the  locations  in which we  operate.  In many
states and  provinces,  regulations  require  that a salvage  vehicle be forever
"branded" with a salvage notice in order to notify prospective purchasers of the
vehicle's previous salvage status. Some state,  provincial and local regulations
also limit who can purchase  salvage  vehicles,  as well as determine  whether a
salvage  vehicle can be sold as rebuildable or must be sold for parts only. Such
regulations  can reduce the number of  potential  buyers of  vehicles at salvage
auctions.  In  addition  to the  regulation  of the  sales  and  acquisition  of
vehicles,  we are also subject to various local zoning  requirements with regard
to the location and operation of our auction and storage facilities.            

--------------------------------------------------------------------------------
 PAGE 25

10-K
21st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 21st
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

ENVIRONMENTAL MATTERS                                                           
   Certain  businesses  in  our  Automotive  Services  segment  are  subject  to
regulation by various U.S. and Canadian  federal,  state,  provincial  and local
authorities  concerning  air  quality,  water  quality,  solid  wastes and other
environmental matters. In the vehicle redistribution  industry, large numbers of
vehicles,  including damaged vehicles at salvage auctions, are stored at auction
facilities and, during that time,  releases of fuel,  motor oil and other fluids
may occur,  resulting in soil, air, surface water or groundwater  contamination.
In addition,  our facilities  generate and/or store petroleum products and other
hazardous materials,  including wastewater waste solvents and used oil, and body
shops at our  facilities  may release  harmful  air  emissions  associated  with
painting.   We  could   incur   substantial   expenditures   for   preventative,
investigative or remedial action and could be exposed to liability  arising from
our operations,  contamination by previous users of our acquired facilities,  or
the disposal of our waste at off-site locations. We consider these businesses to
be in substantial  compliance  with those  environmental  regulations  currently
applicable to their operations and believe all necessary permits to conduct such
operations have been obtained.  We review  environmental  matters on a quarterly
basis.  Accruals for environmental matters are recorded when it is probable that
a liability  has been incurred and the amount of the liability can be reasonably
estimated,  based on current law and existing  technologies.  These accruals are
adjusted  periodically as assessment and  remediation  efforts  progress,  or as
additional  technical  or legal  information  becomes  available.  Accruals  for
environmental  liabilities  are  included in the balance  sheet at  undiscounted
amounts and exclude claims for recoveries from insurance or other third parties.
Costs related to environmental  contamination  treatment and cleanup are charged
to expense.                                                                     
   ADESA IMPACT TAUNTON FACILITY. In December 2003 the Massachusetts  Department
of  Environmental  Protection  (MDEP)  identified  ADESA Impact as a potentially
responsible  party regarding  contamination  of several  private  drinking water
wells in a residential development that abuts the Taunton, Massachusetts salvage
vehicle auction facility. The wells had elevated levels of methyl tertiary-butyl
ether  (MTBE).  MTBE is an  oxygenating  additive in gasoline to reduce  harmful
emissions.  The EPA has identified MTBE as a possible  carcinogen.  ADESA Impact
engaged GeoInsight, an environmental services firm, to conduct tests of its soil
and  groundwater  at the salvage  vehicle  auction  site,  and we are  providing
bottled water to some affected residents.                                       
   GeoInsight  prepared  an  immediate  response  action  (IRA)  plan,  which is
required by the MDEP to  determine  the extent of the  environmental  impact and
define activities to prevent further environmental contamination.  The IRA plan,
which was filed on January 24,  2004,  describes  the initial  activities  ADESA
Impact performed,  and proposes  additional measures that it will use to further
assess the  existence of any imminent  hazard to human health.  In addition,  as
required  by the MDEP,  ADESA  Impact is  conducting  an  analysis  to  identify
sensitive  receptors  that may have been  affected,  including  area schools and
municipal  wells.  GeoInsight does not believe that an imminent hazard condition
exists at the Taunton site;  however,  the  investigation and assessment of site
conditions are ongoing.                                                         
   In December 2003  GeoInsight  collected soil samples,  conducted  groundwater
tests and provided oversight for the installation of monitoring wells in various
locations on and adjacent to the property  adjoining the residential  community.
The results of the soil and water tests indicated  levels of MTBE exceeding MDEP
standards.  In January 2004 we collected air samples from two residences that we
identified as having  elevated  drinking water  concentrations  of MTBE. We have
determined  that  inhalation of, or contact  exposure to, this air poses minimal
risk to human health. In response to our empirical findings, we have proposed to
the MDEP that we install  granular  activated carbon  filtration  systems in the
approximately 30 affected residences.                                           
   ADESA Impact is preparing an IRA status  report that must be submitted to the
MDEP by March 30,  2004,  and will  continue  to prepare  additional  reports as
necessary.  As of December  31, 2003 ADESA  Impact has accrued  $0.7  million to
cover the costs associated with ongoing testing,  remediation and cleanup of the
site. We have filed a claim under our pollution  liability  insurance  plan with
respect  to  this  matter. We  and  our  insurer  are  currently  discussing the
availability of insurance coverage for this claim.                              

--------------------------------------------------------------------------------
 PAGE 26

10-K
22nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 22nd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

INVESTMENTS AND CORPORATE CHARGES                                               

   Our  Investments  and  Corporate  Charges  segment  consists  of real  estate
operations, investments in emerging technologies related to the electric utility
industry and corporate  charges.  Corporate  Charges represent general corporate
expenses,  including  interest,  not  specifically  related to any one  business
segment. The discussion below summarizes the major components of the Investments
and  Corporate  Charges  segment.  Statistical  information  is  presented as of
December 31, 2003 unless  otherwise  noted.  All  subsidiaries  are wholly owned
unless otherwise specifically indicated.                                        

REAL ESTATE OPERATIONS                                                          
   Our real estate  operations  include CAPE CORAL  HOLDINGS,  INC.;  PALM COAST
LAND,  LLC;  PALM COAST  FOREST,  LLC;  TOMOKA  HOLDINGS, LLC; WINTER HAVEN CITI
CENTRE,  LLC;  and an 80%  ownership  in LEHIGH.  Through  subsidiaries,  we own
Florida real estate operations in five different locations:                     
   -  Lehigh Acres with 890 acres  of  residential  and  commercial  land,  east
of Fort Myers, Florida;                                             
   -  Cape Coral, located west  of Fort Myers, Florida, with 160 acres of mostly
commercially zoned land;                                            
   -  Palm Coast, a planned community  between St. Augustine and Daytona  Beach,
      Florida, with 12,000 acres of residential, commercial and industrial land;
   -  Tomoka, located near Ormand Beach, Florida with 6,200 acres  of  property;
and                                                                 
 -  Winter Haven, located in central Florida, with a retail shopping center.
   Our real  estate  operations  may,  from time to time,  acquire  packages  of
diversified  properties  at low cost,  then add value through  entitlements  and
infrastructure enhancements, and sell the properties at current market prices.  

EMERGING TECHNOLOGY INVESTMENTS                                                 
   From 1985  through  2003 we have  invested  more than $50 million in start-up
companies which are developing technologies that may be utilized by the electric
utility  industry.  We are  committed  to invest an  additional  $4.8 million at
various times through 2007.  The  investments  were first made through  emerging
technology funds (Funds)  initiated by other electric  utilities and us. We have
also made investments directly in privately held companies.                     
   The  Funds  have  made   investments  in  companies  that  develop   advanced
technologies to be used by the utility industry, including  electrotechnologies,
renewable  energy  technologies,  and software and  communications  technologies
related to utility customer support systems.                                    
   Companies in the Funds'  portfolios  may complete  initial  public  offerings
(IPOs),  and the Funds,  may in some  instances,  distribute  publicly  tradable
shares to us. Some restrictions on sales may apply,  including,  but not limited
to, underwriter  lock-up periods that typically extend for 180 days following an
IPO. As companies included in our emerging  technology  investments are sold, we
will recognize a gain or loss.                                                  
   Since going public,  the market value of the publicly traded  investments has
experienced  significant  volatility.  During  2003 we sold  at a net  loss  the
remainder of our direct  investment in the companies  that have gone public.    
   We also have several  minority  investments  in the Funds and  privately-held
start-up  companies.  These  investments are accounted for under the cost method
and included with  Investments  on our  consolidated  balance  sheet.  The total
carrying  value of these  investments  was $37.5  million at  December  31, 2003
($38.7 million at December 31, 2002).                                           
   Our  policy  is to review  these  investments  quarterly  for  impairment  by
assessing such factors as continued commercial viability of products,  cash flow
and earnings. Any impairment would reduce the carrying value of the investment. 

ENVIRONMENTAL MATTERS                                                           
   Certain businesses  included in our Investments and Corporate Charges segment
are  subject to  regulation  by  various  federal,  state and local  authorities
concerning  air quality,  water  quality,  solid wastes and other  environmental
matters. We consider these businesses to be in substantial compliance with those
environmental  regulations  currently applicable to their operations and believe
all necessary  permits to conduct such operations have been obtained.  We review
environmental  matters on a quarterly basis.  Accruals for environmental matters
are  recorded  when it is probable  that a liability  has been  incurred and the
amount of the liability can be  reasonably  estimated,  based on current law and
existing  technologies.  These accruals are adjusted  periodically as assessment
and  remediation  efforts  progress,   or  as  additional   technical  or  legal
information  becomes  available.  Accruals  for  environmental  liabilities  are
included in the balance  sheet at  undiscounted  amounts and exclude  claims for
recoveries from insurance or other third parties. Costs related to environmental
contamination treatment and cleanup are charged to expense.                     

--------------------------------------------------------------------------------
 PAGE 27

10-K
23rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 23rd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
EXECUTIVE OFFICERS OF THE REGISTRANT

                                                        [Enlarge/Download Table]


EXECUTIVE OFFICERS                                                                                            INITIAL EFFECTIVE DATE
====================================================================================================================================
                                                                                                                                    
DAVID G. GARTZKE, Age 60                                                                                                            
   Chairman - ALLETE;                                                                                                               
     Chairman, President and Chief Executive Officer - ALLETE Automotive Services, Inc.;                                            
     Chairman, President and Chief Executive Officer - ADESA, Inc.; and                                                             
     Chairman and Chief Executive Officer - ADESA Corporation                                                 January 23, 2004      
   Chairman - ALLETE;                                                                                                               
     Chairman, President and Chief Executive Officer - ALLETE Automotive Services, Inc.; and                                        
     Chairman and Chief Executive Officer - ADESA Corporation                                                 January 21, 2004      
   Chairman, President and Chief Executive Officer - ALLETE;                                                                        
     Chairman, President and Chief Executive Officer - ALLETE Automotive Services, Inc.; and                                        
     Chairman and Chief Executive Officer - ADESA Corporation                                                 July 7, 2003          
   Chairman, President and Chief Executive Officer - ALLETE                                                   January 23, 2002      
   President - ALLETE                                                                                         August 28, 2001       
   Senior Vice President - Finance and Chief Financial Officer - ALLETE                                       December 1, 1994      

DONALD J. SHIPPAR, Age 55                                                                                                           
   President and Chief Executive Officer - ALLETE                                                             January 21, 2004      
   Executive Vice President - ALLETE and                                                                                            
     President - Minnesota Power                                                                              May 13, 2003          
   President and Chief Operating Officer - Minnesota Power                                                    January 1, 2001       

DEBORAH A. AMBERG, Age 38                                                                                                           
   Vice President, General Counsel and Secretary                                                              March 8, 2004         

BRENDA J. FLAYTON, Age 48                                                                                                           
   Vice President - Human Resources - ALLETE and                                                                                    
     Vice President - Human Resources - ALLETE Automotive Services, Inc.                                      October 22, 2003      
   Vice President - Human Resources - ALLETE                                                                  July 22, 1998         

JAMES P. HALLETT, Age 50                                                                                                            
   Executive Vice President - ALLETE;                                                                                               
     Vice President - ADESA, Inc.; and                                                                                              
     President and Chief Operating Officer - ADESA Corporation, LLC                                           March 4, 2004         
   Executive Vice President - ALLETE;                                                                                               
     Vice President - ADESA, Inc.; and                                                                                              
     President and Chief Operating Officer - ADESA Corporation                                                March 1, 2004         
   Executive Vice President - ALLETE and                                                                                            
     President and Chief Operating Officer - ADESA Corporation                                                January 30, 2004      
   Executive Vice President - ALLETE and                                                                                            
     President - ADESA Corporation                                                                            July 7, 2003          
   Executive Vice President - ALLETE and                                                                                            
     President and Chief Executive Officer - ALLETE Automotive Services, Inc.                                 November 5, 2001      
   Executive Vice President - ALLETE and Chief Executive Officer - ADESA Corporation                          October 1, 2001       
   Executive Vice President - ALLETE and                                                                                            
     President and Chief Executive Officer - ADESA Corporation                                                April 23, 1997        

PHILIP R. HALVERSON, Age 55                                                                                                         
   Retired                                                                                                    March 5, 2004         
   Vice President, General Counsel and Secretary                                                              January 1, 1996       

MARK A. SCHOBER, Age 48                                                                                                             
   Senior Vice President and Controller                                                                       February 1, 2004      
   Vice President and Controller                                                                              April 18, 2001        
   Controller                                                                                                 March 1, 1993         

TIMOTHY J. THORP, Age 49                                                                                                            
   Vice President - Investor Relations and Corporate Communications                                           November 16, 2001     

JAMES K. VIZANKO, Age 50                                                                                                            
   Senior Vice President, Chief Financial Officer and Treasurer                                               January 21, 2004      
   Vice President, Chief Financial Officer and Treasurer                                                      August 28, 2001       
   Vice President and Treasurer                                                                               April 18, 2001        
   Treasurer                                                                                                  March 1, 1993         

--------------------------------------------------------------------------------
 PAGE 28

10-K
24th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 24th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART I

   All of the  executive  officers  have been  employed by us for more than five
years in executive or management positions.  In the five years prior to election
to the positions shown on the previous page, Ms. Amberg was senior attorney, Ms.
Flayton was director of human resources, Mr. Shippar was Minnesota Power's chief
operating officer,  senior vice president of customer service and delivery,  and
vice president of transmission and  distribution,  and Mr. Thorp was director of
investor relations.                                                             
   There are no family relationships between any of the executive officers.  All
officers and directors are elected or appointed annually.                       
   The present term of office of the executive  officers  listed on the previous
page  extends  to the first  meeting  of our Board of  Directors  after the next
annual  meeting of  shareholders.  Both meetings are scheduled for May 11, 2004.

ITEM 2.  PROPERTIES                                                             

   Properties  are included in the discussion of our business in Item 1. and are
incorporated by reference herein.                                               

ITEM 3.  LEGAL PROCEEDINGS                                                      

   Material legal and regulatory  proceedings  are included in the discussion of
our  business  in Item 1.  and are  incorporated  by  reference  herein.        
   We are involved in litigation arising in the normal course of business.  Also
in the normal course of business,  we are involved in tax,  regulatory and other
governmental  audits,  inspections,  investigations  and other  proceedings that
involve state and federal taxes, safety, compliance with regulations,  rate base
and cost of service  issues,  among other things.  While the  resolution of such
matters  could have a material  effect on earnings and cash flows in the year of
resolution,  none of these matters are expected to change materially our present
liquidity  position,  nor  have a  material  adverse  effect  on  our  financial
condition.                                                                      
   The staff  of  the SEC is  conducting  an  informal  inquiry  relating to our
internal  audit  function,  internal  financial  reporting  and  the  loan  loss
methodology at AFC. We are fully and voluntarily  cooperating  with the informal
inquiry,  and the SEC staff has not asserted  that we have acted  improperly  or
illegally.  Although  we cannot  predict  the  length,  scope or  results of the
informal  inquiry,  based upon  extensive  review by the Audit  Committee of our
Board  of  Directors  with  the  assistance  of  independent   counsel  and  our
independent  auditors, we believe that we have acted appropriately and that this
inquiry  will not result in action that has a material  adverse  impact on us or
our reported results of operations.                                             

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

   No matters  were  submitted to a vote of security  holders  during the fourth
quarter of 2003.                                                                

--------------------------------------------------------------------------------
 PART II

ITEM 5.  MARKET  FOR  REGISTRANT'S  COMMON EQUITY,  RELATED  STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES                     

   We have paid dividends without interruption on our common stock since 1948. A
quarterly  dividend  of $0.2825  per share on our  common  stock will be paid on
March 1, 2004 to the holders of record on February 16, 2004. Our common stock is
listed on the New York Stock  Exchange under the symbol ALE and our CUSIP number
is  018522102.  Dividends  paid per  share,  and the high and low prices for our
common  stock  for the  periods  indicated  as  reported  by the New York  Stock
Exchange on its NYSEnet website,  are in the accompanying  chart.               
   The amount and timing of dividends payable on our common stock are within the
sole  discretion of our Board of  Directors.  In 2003 we paid out 40% of our per
share earnings in dividends.                                                    
   Our  Articles  of  Incorporation,  and  Mortgage  and Deed of  Trust  contain
provisions  which under  certain  circumstances  would  restrict  the payment of
common  stock  dividends.  As of December  31, 2003 no  retained  earnings  were
restricted  as  a  result  of  these  provisions.  At  March 1,  2004 there were
approximately 37,000 common stock shareholders of record.                       

                                                                [Download Table]

                                  PRICE RANGE                         
                             ---------------------        DIVIDENDS   
QUARTER                       HIGH           LOW            PAID      
======================================================================
                                                                      
2003 -   First               $24.05        $18.75          $0.2825    
         Second               26.70         20.50           0.2825    
         Third                27.86         25.45           0.2825    
         Fourth               31.00         27.05           0.2825    
----------------------------------------------------------------------
         Annual Total                                      $1.13      
----------------------------------------------------------------------
2002 -   First               $29.43        $24.25          $0.275     
         Second               31.10         27.09           0.275     
         Third                27.62         18.50           0.275     
         Fourth               23.80         18.65           0.275     
----------------------------------------------------------------------
         Annual Total                                      $1.10      
======================================================================

--------------------------------------------------------------------------------
 PAGE 29

10-K
25th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 25th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

ITEM 6.  SELECTED FINANCIAL DATA                                                

   Operating  results  of our  Water  Services businesses, our vehicle transport
and  import  businesses, and our  retail  stores are  included  in  discontinued
operations  and,  accordingly,  amounts  have  been  adjusted  for  all  periods
presented.  Common share and per share  amounts have also been  adjusted for all
periods to reflect our March 2, 1999 two-for-one common stock split.            

                                                        [Enlarge/Download Table]

                                                      2003          2002           2001         2000          1999          1998    
====================================================================================================================================
MILLIONS                                                                                                                            
                                                                                                                                    
BALANCE SHEET                                                                                                                       

Assets                                                                                                                              
   Current Assets                                   $  680.5      $  629.6      $  853.3      $  677.2      $  506.0      $  444.6  
   Discontinued Operations - Current                    14.9          28.8          42.2          41.5          43.7          29.1  
   Property, Plant and Equipment                     1,499.0       1,364.7       1,323.3       1,201.1       1,003.4         955.5  
   Investments                                         204.6         170.9         155.4         128.7         212.0         277.3  
   Goodwill                                            511.0         502.0         491.9         472.8         181.0         169.8  
   Other Assets                                        103.4         105.1         106.1          87.3          82.4          91.2  
   Discontinued Operations - Other                      87.9         346.1         310.3         305.4         284.1         241.4  
------------------------------------------------------------------------------------------------------------------------------------
                                                    $3,101.3      $3,147.2      $3,282.5      $2,914.0      $2,312.6      $2,208.9  
------------------------------------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' Equity                                                                                                
   Current Liabilities                              $  476.7      $  708.5      $  658.6      $  661.9      $  366.1      $  326.3  
   Discontinued Operations - Current                    49.5          29.7          45.9          45.1          32.2          19.7  
   Long-Term Debt                                      747.7         696.4         968.9         852.3         613.0         575.7  
   Mandatorily Redeemable Preferred Securities             -          75.0          75.0          75.0          75.0          75.0  
   Other Liabilities                                   322.2         277.4         270.5         257.5         265.3         286.1  
   Discontinued Operations - Other                      45.0         127.8         119.8         121.4         123.7         109.0  
   Redeemable Preferred Stock                              -             -             -             -          20.0          20.0  
   Shareholders' Equity                              1,460.2       1,232.4       1,143.8         900.8         817.3         797.1  
------------------------------------------------------------------------------------------------------------------------------------
                                                    $3,101.3      $3,147.2      $3,282.5      $2,914.0      $2,312.6      $2,208.9  
------------------------------------------------------------------------------------------------------------------------------------

INCOME STATEMENT                                                                                                                    

Operating Revenue                                                                                                                   
   Energy Services                                  $  659.6      $  626.0      $  618.7      $  586.4      $  553.1      $  558.9  
   Automotive Services                                 922.3         835.8         832.1         522.6         383.2         305.5  
   Investments                                          36.9          32.5          74.8          77.4          57.8          55.5  
------------------------------------------------------------------------------------------------------------------------------------
                                                     1,618.8       1,494.3       1,525.6       1,186.4         994.1         919.9  
------------------------------------------------------------------------------------------------------------------------------------
Expenses                                                                                                                            
   Fuel and Purchased Power                            252.5         234.8         233.1         229.0         200.2         205.7  
   Operations                                        1,064.7         997.9       1,007.3         725.3         595.8         538.7  
   Interest Expense                                     66.6          70.5          83.0          67.1          57.8          62.9  
------------------------------------------------------------------------------------------------------------------------------------
                                                     1,383.8       1,303.2       1,323.4       1,021.4         853.8         807.3  
------------------------------------------------------------------------------------------------------------------------------------
Operating Income Before Capital Re and ACE             235.0         191.1         202.2         165.0         140.3         112.6  
Income (Loss) from Investment in Capital Re                                                                                         
   and Related Disposition of ACE                          -             -             -          48.0         (34.5)         15.2  
------------------------------------------------------------------------------------------------------------------------------------
Operating Income from Continuing Operations            235.0         191.1         202.2         213.0         105.8         127.8  
Income Tax Expense                                      91.9          72.2          73.3          76.1          50.0          48.2  
------------------------------------------------------------------------------------------------------------------------------------
Income from Continuing Operations                      143.1         118.9         128.9         136.9          55.8          79.6  
Income from Discontinued Operations                     93.3          18.3           9.8          11.7          12.2           8.9  
------------------------------------------------------------------------------------------------------------------------------------
Net Income                                             236.4         137.2         138.7         148.6          68.0          88.5  
Preferred Dividends                                        -             -             -           0.9           2.0           2.0  
------------------------------------------------------------------------------------------------------------------------------------
Earnings Available for Common Stock                    236.4         137.2         138.7         147.7          66.0          86.5  
Common Stock Dividends                                  93.2          89.2          81.8          74.5          73.0          65.0  
------------------------------------------------------------------------------------------------------------------------------------
Retained (Deficit) in the Business                  $  143.2      $   48.0      $   56.9      $   73.2      $   (7.0)     $   21.5  
====================================================================================================================================

--------------------------------------------------------------------------------
 PAGE 30

10-K
26th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 26th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

                                                        [Enlarge/Download Table]

                                                      2003          2002          2001          2000          1999          1998    
====================================================================================================================================
                                                                                                                                    

Shares Outstanding - Millions                                                                                                       
   Year-End                                           87.3          85.6          83.9          74.7          73.5          72.3    
   Average <F1>                                                                                                                     
     Basic                                            82.8          81.1          75.8          69.8          68.4          64.0    
     Diluted                                          83.3          81.7          76.5          70.1          68.6          64.2    
Diluted Earnings Per Share                                                                                                          
   Continuing Operations                             $1.72         $1.46 <F3>    $1.68         $1.95 <F6>    $0.79 <F6>    $1.21    
   Discontinued Operations                            1.12 <F2>     0.22 <F4>     0.13 <F5>     0.16          0.18          0.14    
------------------------------------------------------------------------------------------------------------------------------------
                                                     $2.84         $1.68         $1.81         $2.11         $0.97         $1.35    
------------------------------------------------------------------------------------------------------------------------------------
Return on Common Equity                              17.7%         11.4%         13.3%         17.1%          8.3%         12.4%    
Common Equity Ratio                                  64.4%         51.7%         49.9%         46.3%         49.3%         49.9%    
Dividends Paid Per Share                             $1.13         $1.10         $1.07         $1.07         $1.07         $1.02    
Dividend Payout                                        40%           66%           59%           51%          110%           76%    
Book Value Per Share at Year-End                    $16.73        $14.39        $13.63        $12.06        $10.97        $10.86    
Market Price Per Share                                                                                                              
   High                                             $31.00        $31.10        $26.89        $25.50        $22.09        $23.13    
   Low                                              $18.75        $18.50        $20.19        $14.75        $16.00        $19.03    
   Close                                            $30.60        $22.68        $25.20        $24.81        $16.94        $22.00    
Market/Book at Year-End                               1.83          1.58          1.85          2.06          1.54          2.03    
Price Earnings Ratio at Year-End                      10.8          13.5          13.9          11.8          17.5          16.3    
Dividend Yield at Year-End                            3.7%          4.9%          4.2%          4.3%          6.3%          4.6%    
Employees                                           13,115        14,181        13,763        12,633         8,246         7,003    
Net Income                                                                                                                          
   Energy Services                                  $ 42.4        $ 41.8 <F3>   $ 51.7        $ 44.5         $46.0         $48.3    
   Automotive Services                               114.8          94.2          74.8          49.9          40.3          24.6    
   Investments and Corporate Charges                 (14.1)        (17.1)          2.4          42.5 <F6>    (30.5) <F6>     6.7    
------------------------------------------------------------------------------------------------------------------------------------
   Continuing Operations                             143.1         118.9         128.9         136.9          55.8          79.6    
   Discontinued Operations                            93.3 <F2>     18.3 <F4>      9.8 <F5>     11.7          12.2           8.9    
------------------------------------------------------------------------------------------------------------------------------------
                                                    $236.4        $137.2        $138.7        $148.6         $68.0         $88.5    
------------------------------------------------------------------------------------------------------------------------------------
Electric Customers - Thousands                       149.0         147.0         145.0         144.0         139.7         138.1    
Electric Sales - Millions of MWh                                                                                                    
   Regulated Utility                                  11.1          11.1          10.9          11.7          11.3          12.0    
   Nonregulated                                        1.5           1.2           0.2           0.2             -             -    
   Company Use and Losses                             (0.9)         (0.5)          0.5           0.5           0.5           0.2    
------------------------------------------------------------------------------------------------------------------------------------
                                                      11.7          11.8          11.6          12.4          11.8          12.2    
------------------------------------------------------------------------------------------------------------------------------------
Regulated Utility Power Supply - Millions of MWh                                                                                    
   Steam Generation                                    7.1           7.2           6.9           6.4           6.2           6.3    
   Hydro Generation                                    0.4           0.5           0.5           0.5           0.7           0.6    
   Long-Term Purchase - Square Butte                   2.3           2.3           1.9           2.4           2.3           2.1    
   Purchased Power                                     1.9           1.8           2.3           3.1           2.6           3.2    
------------------------------------------------------------------------------------------------------------------------------------
                                                      11.7          11.8          11.6          12.4          11.8          12.2    
------------------------------------------------------------------------------------------------------------------------------------
Coal Sold - Millions of Tons                           4.3           4.6           4.1           4.4           4.5           4.2    
Vehicles Sold - Thousands                                                                                                           
   Used                                              1,810         1,741         1,761         1,286         1,037           897    
   Salvage                                             191           175           148            33             -             -    
Loan Transactions - Thousands                          950           946           904           795           695           531    
Capital Expenditures - Millions                     $136.3        $201.2        $149.2        $168.7         $99.7         $80.8    
====================================================================================================================================
<FN>                                                                                                                                
<F1> Excludes unallocated ESOP shares.                                                                                              
<F2> Included a $71.6 million, or $0.86 per share, after-tax gain on the sale of substantially all our Water Services businesses.   
<F3> Included a $5.5  million,  or $0.07 per share,  charge  related to the  indefinite  delay of a generation  project in Superior,
     Wisconsin.                                                                                                                     
<F4> Included  $3.9 million,  or $0.05 per share, in charges to complete the exit from the vehicle transport business and the retail
     stores.                                                                                                                        
<F5> Included a $4.4 million, or $0.06 per share, estimated charge to exit the vehicle transport business.                          
<F6> In 2000 we recorded a $30.4 million, or $0.44 per share, gain on the sale of 4.7 million shares of ACE that we received in 1999
     when Capital Re merged with ACE. As a result of the merger, in 1999 we recorded a $36.2 million, or $0.52 per share, charge.   
</FN>                                                                                                                               

--------------------------------------------------------------------------------
 PAGE 31

10-K
27th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 27th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

ITEM 7.  MANAGEMENT'S  DISCUSSION  AND  ANALYSIS OF FINANCIAL  CONDITION  AND   
RESULTS OF OPERATIONS                                         

CONSOLIDATED OVERVIEW                                                           

   During 2003 our efforts focused on our two core  businesses,  Energy Services
and Automotive Services.  After a lengthy review of our strategic  alternatives,
in October 2003 we announced plans to spin off our Automotive Services business.
We expect the  spin-off  to occur in the third  quarter of 2004.  This  decision
reflects  our  intention  to maximize the  long-term  value of each  business by
creating two separate, more focused companies,  and create long-term shareholder
value.  (See  Outlook.) We also  substantially  completed  the sale of our Water
Services businesses. Proceeds from the sale of our water assets were used to pay
down debt which strengthened our balance sheet.                                 
   Net income and diluted earnings per share for 2003 increased 72% and 69% from
2002,  respectively.  Gains recognized in 2003 on the sale of substantially  all
our water and wastewater systems in Florida  contributed to increased  earnings.
Net income and diluted  earnings per share from  continuing  operations for 2003
increased  20% and 18% from  2002,  respectively.  A strong  performance  by our
Automotive  Services  businesses  in 2003  increased  earnings  from  continuing
operations.                                                                     

                                                                [Download Table]

                                         2003           2002           2001     
================================================================================
MILLIONS EXCEPT                                                                 
   PER SHARE AMOUNTS                                                            
                                                                                
Operating Revenue                                                               
     Energy Services                   $  659.6       $  626.0       $  618.7   
     Automotive Services                  922.3          835.8          832.1   
     Investments                           36.9           32.5           74.8   
--------------------------------------------------------------------------------
                                       $1,618.8       $1,494.3       $1,525.6   
--------------------------------------------------------------------------------
Operating Expenses                                                              
     Energy Services                   $  590.6       $  560.5       $  534.6   
     Automotive Services                  732.7          681.7          713.1   
     Investments and                                                            
        Corporate Charges                  60.5           61.0           75.7   
--------------------------------------------------------------------------------
                                       $1,383.8       $1,303.2       $1,323.4   
--------------------------------------------------------------------------------
Net Income                                                                      
     Energy Services                     $ 42.4         $ 41.8         $ 51.7   
     Automotive Services                  114.8           94.2           74.8   
     Investments and                                                            
        Corporate Charges                 (14.1)         (17.1)           2.4   
--------------------------------------------------------------------------------
     Continuing Operations                143.1          118.9          128.9   
     Discontinued Operations               93.3           18.3            9.8   
--------------------------------------------------------------------------------
                                         $236.4         $137.2         $138.7   
--------------------------------------------------------------------------------
Diluted Average Shares                                                          
   of Common Stock                         83.3           81.7           76.5   
--------------------------------------------------------------------------------
Diluted Earnings Per Share                                                      
   of Common Stock                                                              
   Continuing Operations                  $1.72          $1.46          $1.68   
   Discontinued Operations                 1.12           0.22           0.13   
--------------------------------------------------------------------------------
                                          $2.84          $1.68          $1.81   
--------------------------------------------------------------------------------
Return on Common Equity                   17.7%          11.4%          13.3%   
================================================================================

   We measure  performance  of our  operations  through  careful  budgeting  and
monitoring of contributions to consolidated net income by each business segment.
   Our  financial  results  for the  past  three  years  include  the  following
significant factors which impact the comparisons between years:                 

   - SALE OF WATER PLANT ASSETS. Earnings from Discontinued  Operations for 2003
     included a $71.6 million, or $0.86 per share, after-tax gain on the sale of
substantially all our Water Services businesses.                      
   - CHARGES. Earnings from Energy Services for 2002 included a $5.5 million, or
     $0.07 per share, after-tax charge related  to  the  indefinite delay  of  a
     generation  project  in  Superior,  Wisconsin.  Earnings from  Discontinued
     Operations for 2002 included $3.9 million, or $0.05 per share, of after-tax
     charges to exit the vehicle transport business and the  retail stores ($4.4
million, or $0.06 per share in 2001).                                 
   - GOODWILL. Earnings from Automotive Services for 2001 included $9.9 million,
     or $0.13 per share, of goodwill amortization expense after tax. As required
by SFAS 142, goodwill amortization was discontinued in 2002.          
   - REAL ESTATE TRANSACTION. Earnings  from  Investments for  2001 included  an
     $11.1  million, or $0.15  per  share, after-tax gain  associated  with  our
largest ever single real estate transaction.                          

                                                                [Download Table]


STATISTICAL INFORMATION               2003         2002         2001    
========================================================================
ENERGY SERVICES                                                         
Millions of Kilowatthours Sold                                          

                                                                        
   Regulated Utility                                                    
      Retail                                                            
         Residential                  1,066        1,044          998   
         Commercial                   1,286        1,257        1,234   
         Industrial                   6,558        6,946        6,549   
         Other                           79           78           75   
      Resale                          2,155        1,807        2,086   
------------------------------------------------------------------------
                                     11,144       11,132       10,942   
   Nonregulated                       1,462        1,149          140   
------------------------------------------------------------------------
                                     12,606       12,281       11,082   
------------------------------------------------------------------------

AUTOMOTIVE SERVICES                                                     
Thousands                                                               
   Vehicles Sold                                                        
      Used                            1,810        1,741        1,761   
      Salvage                           191          175          148   
------------------------------------------------------------------------
                                      2,001        1,916        1,909   
------------------------------------------------------------------------
   Conversion Rate <F1> -                                               
      Used Vehicles                   61.0%        59.0%        58.1%   

   Loan Transactions                    950          946          904   
========================================================================
<FN>                                                                    
<F1> Conversion rate is the percentage of vehicles sold from those that 
     were offered at auction.                                           
</FN>                                                                   

--------------------------------------------------------------------------------
 PAGE 32

10-K
28th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 28th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

   NON-GAAP MEASURE OF LIQUIDITY.  We believe  earnings before interest,  taxes,
depreciation and amortization  expense (EBITDA) provides  meaningful  additional
information  that helps us monitor and evaluate our ongoing  results and trends.
EBITDA should not be considered in isolation nor as a substitute for measures of
liquidity prepared in accordance with GAAP which include:                       

                                                        [Enlarge/Download Table]
CONSOLIDATED CASH FLOW                                                                

FOR THE YEAR ENDED DECEMBER 31               2003            2002             2001    
======================================================================================
MILLIONS                                                                              
                                                                                      
Cash from Operating Activities              $245.8          $453.0           $103.6   
Cash from (for) Investing Activities        $212.3         $(244.4)         $(297.4)  
Cash from (for) Financing Activities       $(470.7)        $(242.6)          $220.0   
======================================================================================

   We believe  EBITDA is a widely  accepted  measure of liquidity  considered by
investors,  financial analysts and rating agencies. EBITDA is not an alternative
to cash flow as a measure of liquidity and may not be comparable  with EBITDA as
defined by other companies.                                                     

                                                        [Enlarge/Download Table]

EBITDA                                                                                                            

                                                                                                    INVESTMENTS   
                                                                          ENERGY     AUTOMOTIVE    AND CORPORATE  
FOR THE YEAR ENDED                                       CONSOLIDATED    SERVICES     SERVICES        CHARGES     
==================================================================================================================
MILLIONS                                                                                                          
                                                                                                                  
2003                                                                                                              
Net Income                                                  $236.4                                                
Less: Income from Discontinued Operations                     93.3                                                
------------------------------------------------------------------                                                
Income (Loss) from Continuing Operations                     143.1        $ 42.4       $114.8          $(14.1)    
Add Back:  Income Tax Expense (Benefit)                       91.9          26.6         74.8            (9.5)    
           Interest Expense                                   66.6          22.4         16.0            28.2     
           Depreciation and Amortization Expense              86.5          51.1         35.3             0.1     
------------------------------------------------------------------------------------------------------------------
EBITDA                                                      $388.1        $142.5       $240.9          $  4.7     
------------------------------------------------------------------------------------------------------------------

2002                                                                                                              
Net Income                                                  $137.2                                                
Less: Income from Discontinued Operations                     18.3                                                
------------------------------------------------------------------                                                
Income (Loss) from Continuing Operations                     118.9        $ 41.8       $ 94.2          $(17.1)    
Add Back:  Income Tax Expense (Benefit)                       72.2          23.7         59.9           (11.4)    
           Interest Expense                                   70.5          21.2         21.2            28.1     
           Depreciation and Amortization Expense              81.7          48.8         32.8             0.1     
------------------------------------------------------------------------------------------------------------------
EBITDA                                                      $343.3        $135.5       $208.1          $ (0.3)    
------------------------------------------------------------------------------------------------------------------

2001                                                                                                              
Net Income                                                  $138.7                                                
Less: Income from Discontinued Operations                      9.8                                                
------------------------------------------------------------------                                                
Income from Continuing Operations                            128.9        $ 51.7       $ 74.8          $  2.4     
Add Back:  Income Tax Expense (Benefit)                       73.3          32.4         44.2            (3.3)    
           Interest Expense                                   83.0          22.5         35.3            25.2     
           Depreciation and Amortization Expense              88.9          45.9         42.7             0.3     
------------------------------------------------------------------------------------------------------------------
EBITDA                                                      $374.1        $152.5       $197.0           $24.6     
==================================================================================================================

NET INCOME                                                                      

   ENERGY  SERVICES.  Income  from  continuing  operations  in 2003  was up $0.6
million, or 1%, from 2002 reflecting increased sales of nonregulated  generation
at our Taconite Harbor facility and improved wholesale power prices.            
   Increased  sales of nonregulated  generation and higher  expenses  related to
that  generation  resulted  from Taconite  Harbor being  available for a full 12
months in 2003.  Taconite Harbor  generation  first came online at various times
during the first half of 2002.  Generation  secured  through the Kendall  County
power  purchase  agreement  began in May 2002.  In  total,  the  Kendall  County
facility  operated  at a  loss  in  2003  due to  negative  spark  spreads  (the
differential  between  electric and natural gas prices) in the  wholesale  power
market  and our  resulting  inability  to cover  the  fixed  capacity  charge on
approximately  175 MW. We expect the  facility to  continue  to generate  losses
until such time as spark spreads improve or we are able to enter into additional
long-term capacity sales contracts.                                             

--------------------------------------------------------------------------------
 PAGE 33

10-K
29th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 29th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

   Wholesale  power  prices  were  higher  in 2003  compared  to 2002  when weak
wholesale  power  prices  more than  offset  the  positive  impact of  increased
nonregulated   megawatthour   sales.  In  2001  our  wholesale  power  marketing
activities  were more  profitable  compared to 2002 due to warmer summer weather
and overall market conditions.                                                  
   In 2003 higher employee  pension and benefit  expenses,  and a charge to exit
our Split Rock Energy joint venture reduced income, while in 2002 a $5.5 million
charge  related to the  indefinite  delay of a  generation  project in Superior,
Wisconsin,  reduced income. Income in 2002 also included a $2.3 million one-time
deferral of costs  recoverable  through the  regulated  utility fuel clause that
increased income.  Income in 2001 included the recovery of $2.6 million for 1998
CIP lost margins.                                                               
   AUTOMOTIVE SERVICES.  Income from continuing  operations in 2003 was up $20.6
million,  or 22%,  from  2002.  Higher  income  in 2003 was  attributable  to an
increased number of vehicles sold, fee increases, the introduction and expansion
of our service  offerings,  lower  interest  expense due to lower debt balances,
gains on sale of property and strong receivable portfolio management at AFC, our
floorplan financing business.                                                   
   At ADESA used vehicle  auction  facilities,  vehicles sold  increased 4% over
2002. Total vehicles sold at our auctions decreased in 2002 as the price spreads
between new and used  vehicles  were  disrupted  by the  increased  manufacturer
incentives  on new vehicles that were first  introduced  following the events of
September 11, 2001. The aggressive  incentives offered by vehicle  manufacturers
lowered the cost of owning a new  vehicle,  which in turn  depressed  prices for
late-model used vehicles.  Sellers at used vehicle auctions tended to hold their
vehicles  rather  than  immediately  accept  lower  prices.  In  addition to the
incentives,  the supply of program  vehicles  from  rental  repurchase  programs
maintained by our institutional customers were lower in 2002 due to the decrease
in the sizes of rental  car fleets in  response  to the  decrease  in the travel
industry after September 11, 2001. The size of the rental car fleets remained at
a lower level  throughout  2002 as compared to the levels  prior to September 11
leading to fewer turns of the fleets.  Costs of assimilating the 28 used vehicle
auction facilities acquired or opened in 2000 also impacted 2001 results.       
   At our  salvage  vehicle  auction  facilities,  vehicle  sales  continued  to
increase  reflecting  expansion into new markets,  which included adding salvage
auctions  at some of our used  vehicle  auction  facilities.  During  2003 ADESA
Impact opened two auction facilities (two in 2002; 13 in 2001). In 2003, 9% more
vehicles  were sold at our  salvage  vehicle  auction  facilities  than in 2002.
Despite  unseasonably dry weather  conditions in 2002, which usually means fewer
salvage  vehicles,  the number of vehicles sold at our salvage  vehicle  auction
facilities was 18% higher in 2002 compared to 2001.                             
   AFC contributed  32% of the income from  Automotive  Services in 2003 (37% in
2002; 40% in 2001). Income from AFC was higher in 2003 because of lower interest
and bad debt expense.  Interest expense decreased due to lower debt balances and
rates.  Bad debt  expense was down  reflecting  improved  credit  quality of the
receivable   portfolio  and  strong  receivable   portfolio   management.   Loan
transactions   increased   slightly  to  950,000  in  2003.  AFC  managed  total
receivables  of $539 million at December 31, 2003 ($501  million at December 31,
2002; $505 million at December 31, 2001).                                       
   As required by SFAS 142, goodwill amortization was discontinued in 2002. This
mandated  accounting change is a significant factor when comparing 2002 and 2001
earnings from  Automotive  Services.  Earnings for 2001 included $9.9 million of
goodwill amortization expense after tax.                                        
   INVESTMENTS AND CORPORATE  CHARGES.  Net loss in 2003 decreased $3.0 million,
or 18%, from 2002. In 2003 more real estate sales were  partially  offset by net
losses  on the sale of  shares  we held  directly  in  publicly-traded  emerging
technology  investments.  Financial  results for 2002  included net gains on the
sale of  certain  emerging  technology  investments  and  losses  related to our
trading  securities  portfolio  which was  liquidated  during the second half of
2002.  In 2001 our real estate  operations  reported  strong sales  including an
$11.1 million gain on its largest single sale ever,  and our trading  securities
portfolio  earned  a  negative  1.5%  after-tax   annualized   return  prior  to
liquidation in 2002 compared to a positive 5.6% in 2001.                        
   Corporate  charges in 2003 reflected less interest  expense due to lower debt
balances and lower interest rates. In 2002 and 2001 interest  expense was higher
as a  result  of debt  issued  to fund  strategic  initiatives  in  early  2001.
Corporate  charges  in 2003  also  reflected  costs  incurred  for  professional
services related to the business  separation  study, as well as higher incentive
compensation  expenses.  Incentive  compensation  expenses were lower in 2002 in
part due to lower 2002 earnings.  In 2001 additional  compensation expenses were
incurred for severance packages.                                                
   DISCONTINUED  OPERATIONS included the financial results of our Water Services
businesses,  our vehicle transport and import businesses, and our retail stores.
   Net income from  Discontinued  Operations  in 2003 was up $75.0  million from
2002 primarily due to the sale of water and wastewater  systems  serving various
counties  and  communities  in  Florida.  A $71.6  million  after-tax  gain  was
recognized on the sale of these  systems,  net of all selling,  transaction  and
employee  termination benefit expenses,  as well as impairment losses on certain
remaining assets.                                                               
   Our Water Services  businesses in North  Carolina  reported a 14% decrease in
water consumption because above normal  precipitation  decreased  consumption in
2003.                                                                           
   Net income from Discontinued  Operations was also higher in 2003 and 2002 due
to the adoption of SFAS 144 which  required  suspension of  depreciation  on our
Water Services assets. Income from Discontinued Operations included $7.5 million
of depreciation expense after tax in 2001.                                      
   Net income from other discontinued operations in 2003 included a $1.3 million
recovery from the settlement of a                                               

--------------------------------------------------------------------------------
 PAGE 34

10-K
30th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 30th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

lawsuit associated with our vehicle transport business, while net income in 2002
included $3.9 million of exit charges related to the vehicle transport  business
and the  retail  stores,  and 2001  included a $4.4  million  charge to exit the
vehicle transport business.                                                     

2003 COMPARED TO 2002                                                           

ENERGY SERVICES                                                                 
   Regulated  utility  operations  include  retail and wholesale  rate regulated
activities under the jurisdiction of state and federal  regulatory  authorities.
Nonregulated  operations consist of nonregulated  electric generation  (non-rate
base generation sold at market-based rates to the wholesale market), coal mining
and telecommunications  activities.  Nonregulated  generation operations consist
primarily  of  Taconite  Harbor in northern  Minnesota  and  generation  secured
through the Kendall County power purchase  agreement,  a 15-year  agreement with
NRG Energy at a facility near Chicago, Illinois, ending in 2017.                
   OPERATING  REVENUE in total was up $33.6 million,  or 5%, in 2003  reflecting
increases from both regulated  utility and  nonregulated  operations.  Regulated
utility operating revenue was up $7.2 million,  or 1%, mainly due to higher fuel
clause recoveries and natural gas prices.  Regulated utility  kilowatthour sales
were  similar to last  year.  Fuel  clause  recoveries  increased  due to higher
purchased  power  costs.  Our 2003  equity in net income  from Split Rock Energy
reflected a $2.3 million  charge  accrued at the time we reached an agreement to
withdraw from this joint venture.  Nonregulated revenue increased $26.4 million,
or 22%, in 2003 primarily due to increased sales of  nonregulated  generation at
our Taconite  Harbor  facility,  improved  wholesale power prices and more sales
activity at our  telecommunications  business.  Increased  sales of nonregulated
generation resulted from Taconite Harbor being available for a full 12 months in
2003.  Taconite Harbor  generation first came online at various times during the
first half of 2002.                                                             
   OPERATING EXPENSES in total were up $30.1 million, or 5%, in 2003.  Regulated
utility operating  expenses were up $26.3 million,  or 6%, in 2003 primarily due
to  increased  purchased  power and gas expense,  as well as increased  employee
pension and benefit  expenses.  Higher  purchased power costs resulted from both
increased wholesale prices and quantities purchased. Planned maintenance outages
at our  generating  stations  and lower  output from our hydro  facilities  as a
result of drier weather  necessitated  higher quantities of purchased power this
year.  Gas  expense was higher in 2003 due to  increased  prices.  Expenses  for
pension  and  post-retirement  health  benefits  increased  mainly  due to lower
discount rates and expected rates of return on plan assets.  Operating  expenses
in 2002 included a $4 million one-time deferral of costs recoverable through the
utility fuel clause.  Nonregulated operating expenses increased $3.8 million, or
3%,  over the prior year mainly due to fuel and  purchased  power  expenses  for
nonregulated  generation  that  came  online  during  the  first  half of  2002.
Purchased  power  expense in 2003  included  a full 12 months of demand  charges
related to the Kendall County power purchase agreement, while 2002 included only
eight months. Operating expenses were also higher in 2003 due to increased sales
activity at our telecommunications business. Operating expenses in 2002 included
a $9.5 million charge related to the indefinite delay of the generation  project
in Superior, Wisconsin.                                                         

AUTOMOTIVE SERVICES                                                             
   OPERATING  REVENUE was up $86.5  million,  or 10%, in 2003.  Revenue from our
auction and related  services was higher in 2003  primarily  due to an increased
number of vehicles sold through our  auctions,  a shift towards the sale of more
institutional  vehicles,  selective fee  increases  and the  increased  Canadian
dollar currency exchange rate. At our used vehicle auction  facilities,  4% more
vehicles  were sold in 2003.  Most of the auction  volume  growth  consisted  of
internal same store growth.  Volumes  increased in 2003 due to the stabilization
of wholesale used vehicle prices in mid-2003, increased demand for used vehicles
as retail  demand  increased  during the year and an increase in volume from our
institutional  customers.  At our  salvage  auction  facilities,  vehicles  sold
increased 9% as we expanded into new markets,  including sites where we combined
salvage auctions with our existing used vehicle auction  facilities.  Same store
vehicles sold at our salvage auctions increased slightly less than 1%.          
   While the number of loan  transactions by AFC was up slightly from last year,
revenue from AFC was up in 2003 primarily  because strong  receivable  portfolio
management  lowered bad debt  expense.  As customary for a finance  company,  we
report revenue net of interest expense and bad debt expense.                    
   OPERATING  EXPENSES were up $51.0  million,  or 7%, in 2003  primarily due to
additional  expenses  incurred for  reconditioning  and logistics  services as a
result  of a  shift  towards  the  sale of more  institutional  vehicles  at our
auctions,  increased  Canadian dollar currency exchange rate, and costs incurred
due to inclement weather and general inflationary increases.                    

INVESTMENTS AND CORPORATE CHARGES                                               
   OPERATING  REVENUE was up $4.4  million,  or 14%, in 2003 as more real estate
sales offset less revenue from our emerging technology investments.  In 2003, 11
large real estate sales  contributed  $18.5 million to revenue  compared to 2002
when five large real estate sales  contributed $8.5 million to revenue.  In 2003
we recognized a $3.5 million loss related to the sale of shares the Company held
directly in publicly-traded  emerging technology  investments,  while in 2002 we
recognized  a $3.3  million  gain on the  sale of  certain  emerging  technology
investments.  Revenue in 2002 also  included  losses on our  trading  securities
portfolio  which  was  liquidated  during  the  second  half of 2002.           
   OPERATING  EXPENSES  were  down $0.5  million,  or 1%, in 2003 in part due to
lower  expenses  related  to our  real  estate  operations  because  the cost of
property sold in 2003 was lower than in 2002.                                   

--------------------------------------------------------------------------------
 PAGE 35

10-K
31st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 31st
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

   Corporate Charges included operating and other expense totaling $17.6 million
in 2003 ($16.5 million in 2002) for general corporate  expenses such as employee
salaries and benefits,  and legal and other outside  contract  service fees, and
interest expense of $28.0 million in 2003 ($28.1 million in 2002).              

2002 COMPARED TO 2001                                                           

ENERGY SERVICES                                                                 
   OPERATING  REVENUE in total was up $7.3 million,  or 1%, in 2002 as increased
revenue  from  nonregulated  operations  was  partially  offset by a decrease in
regulated  utility  revenue.  Despite a slight  increase  in  regulated  utility
megawatthour  sales,  regulated utility revenue decreased $33.1 million,  or 6%,
due to lower wholesale prices and fuel clause recoveries. Fuel clause recoveries
in 2002 were lower due to lower purchased  power costs in 2002.  Total regulated
utility  megawatthour sales were up 2% over the prior year reflecting  increased
retail sales to taconite  customers.  In addition,  regulated utility revenue in
2001  included  the  recovery  of  $4.5  million  for  1998  CIP  lost  margins.
Nonregulated  revenue  increased  $40.4 million,  or 51%, in 2002 primarily as a
result  of about 500 MW of  nonregulated  generation  that came  online in 2002.
There were 1.2 million megawatthours of nonregulated generation sold in 2002.   
   OPERATING  EXPENSES in total  increased  $25.9  million,  or 5%, in 2002. The
increase was  attributable to additional  expenses for  nonregulated  generation
that came online in 2002 which were partially offset by lower regulated  utility
operating  expenses.  Regulated  utility  operating  expenses  were  down  $33.3
million,  or 7%, in 2002  primarily due to lower  purchased  power costs.  Lower
purchased power costs resulted from both lower wholesale  prices and a reduction
in the quantity of power purchased. Extended planned maintenance outages in 2001
necessitated  higher  quantities  of  purchased  power.  Nonregulated  operating
expenses  increased  $59.2  million,  or 77%,  over the prior year mainly due to
expenses for  nonregulated  generation that came online in 2002. The increase in
nonregulated operating expenses also included the $9.5 million charge related to
the indefinite delay of the generation project in Superior, Wisconsin.          

AUTOMOTIVE SERVICES                                                             
   OPERATING  REVENUE was up $3.7  million,  or less than 1%, in 2002.  At ADESA
used vehicle auction facilities, the number of vehicles sold in 2002 was similar
to 2001  because  the rental car  market  had yet to restore  vehicle  fleets to
levels prior to the events of September 11, 2001, and manufacturer incentives on
new  vehicles  temporarily  disrupted  the price  spreads  between  new and used
vehicles.                                                                       
   Despite unseasonably dry weather conditions in 2002 which usually means fewer
salvage vehicles,  vehicles sold at our salvage vehicle auction  facilities were
up 18%  reflecting  expansion into new markets,  which  included  adding salvage
auctions at some of our used vehicle auction facilities.  Operating revenue from
AFC was up in 2002 due to a 5% increase in loan  transactions  arranged  through
our loan  production  offices  and lower bad debt  expense as a result of strong
portfolio management.                                                           
   OPERATING  EXPENSES  were down $31.4  million,  or 4%, in 2002 due to reduced
interest expense ($14.1 million) as a result of lower interest rates and a lower
debt balance,  the discontinuance of goodwill  amortization  ($12.5 million) and
improved  operating  efficiencies.  These decreases were partially  offset by an
increase in operating expenses incurred to standardize  operations at all of our
salvage vehicle auction  facilities and expenditures for information  technology
initiatives.                                                                    

INVESTMENTS AND CORPORATE CHARGES                                               
   OPERATING REVENUE was down $42.3 million,  or 57%, in 2002 primarily due to a
large real estate transaction  recorded in 2001. Five large real estate sales in
2002  contributed  $8.5 million to revenue,  while in 2001 six large real estate
sales  contributed  $37.5  million to revenue,  one of which was our real estate
operations'  largest single  transaction  ever.  Operating  revenue in 2002 also
reflected  less  income  from  our  trading   securities   portfolio  which  was
substantially   liquidated   during  the  second   half  of  the  year  and  had
significantly lower returns during the year.                                    
   OPERATING  EXPENSES  were down  $14.7  million,  or 19%,  in 2002  because of
expenses  associated  with  larger  real  estate  sales in 2001.  Also,  in 2001
additional compensation expenses were incurred for severance packages.          
   Corporate Charges included operating and other expense totaling $16.5 million
in 2002 ($22.8 million in 2001) for general corporate  expenses such as employee
salaries and benefits,  and legal and other outside  contract  service fees, and
interest expense of $28.1 million in 2002 ($25.2 million in 2001).              

CRITICAL ACCOUNTING POLICIES                                                    

   Certain   accounting   measurements   under  applicable   generally  accepted
accounting principles involve management's judgment about subjective factors and
estimates,  the effects of which are  inherently  uncertain.  These policies are
reviewed with the audit  committee of our Board of Directors on a regular basis.
The  following  summarizes  those  accounting  measurements  we believe are most
critical to our reported results of operations and financial condition.         
   UNCOLLECTIBLE  RECEIVABLES AND ALLOWANCE FOR DOUBTFUL ACCOUNTS. The allowance
for doubtful accounts and related bad debt expense is primarily  attributable to
the financing activities of AFC. In establishing a proper allowance for doubtful
accounts,   our  quarterly  evaluation  includes   consideration  of  historical
charge-off  experience,  current  economic  conditions  and specific  collection
issues.  Changes  to  historical  charge-off  experience  or  existing  economic
conditions  would  necessitate  a  corresponding  increase  or  decrease  in the
allowance for doubtful accounts. The credit quality of AFC's finance            

--------------------------------------------------------------------------------
 PAGE 36

10-K
32nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 32nd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

receivable  portfolio has remained  strong and the total amount of the allowance
for doubtful  accounts has not changed  materially  over the last three years. A
10% increase in AFC's current allowance for doubtful accounts would increase bad
debt expense by approximately $1 million after tax; likewise,  a 10% decrease in
the current  allowance for doubtful  accounts would decrease bad debt expense by
approximately $1 million after tax.                                             
   IMPAIRMENT OF GOODWILL AND LONG-LIVED  ASSETS.  We annually review our assets
for impairment.  SFAS 142,  "Goodwill and Other Intangible Assets" and SFAS 144,
"Accounting for the Impairment and Disposal of Long-Lived  Assets" are the basis
for these  analyses.  Judgments and  uncertainties  affecting the application of
accounting for asset impairment include:  economic  conditions  affecting market
valuations;  changes in our  business  strategy;  and changes in our forecast of
future operating cash flows and earnings.                                       
   We conduct our annual  goodwill  impairment  testing in the second quarter of
each year and the 2003 test  resulted in no  impairment.  No event or change has
occurred that would  indicate the carrying  amount has been  impaired  since our
annual  test.  All  goodwill  relates to the  Automotive  Services  segment  and
represents  the excess of cost over  identifiable  tangible and  intangible  net
assets of businesses acquired.                                                  
   We account  for our  long-lived  assets at  depreciated  historical  cost.  A
long-lived  asset is tested  for  recoverability  whenever  events or changes in
circumstances indicate that its carrying amount may not be recoverable. We would
recognize an impairment loss only if the carrying  amount of a long-lived  asset
is not recoverable  from its  undiscounted  cash flows.  Management  judgment is
involved in both  deciding if testing for  recoverability  is  necessary  and in
estimating  undiscounted  cash flows.  Excluding  impairment  losses recorded on
certain  remaining  water  assets  held for sale,  as of  December  31,  2003 no
write-downs were required.                                                      
   PENSION AND POSTRETIREMENT HEALTH AND LIFE ACTUARIAL ASSUMPTIONS.  We account
for our pension and  postretirement  benefit  obligations in accordance with the
provisions  of SFAS  87,  "Employers'  Accounting  for  Pensions"  and  SFAS 106
"Employers'  Accounting for Postretirement  Benefits Other Than Pensions." These
standards  require the use of  assumptions in determining  the  obligations  and
annual  cost.  An  important   actuarial   assumption   for  pension  and  other
postretirement  benefit plans is the expected  long-term  rate of return on plan
assets. In establishing  this assumption,  we consider the  diversification  and
allocation of plan assets, the actual long-term  historical  performance for the
type of securities invested in, the actual long-term  historical  performance of
plan assets and the impact of current economic conditions,  if any, on long-term
historical returns. Our pension asset allocation is approximately 70% equity and
30%  fixed-rate  securities.  Equity  securities  consist  of a  mix  of  market
capitalization  sizes and also  include  investments  in real estate and venture
capital.  In  response  to  changing  market  conditions,  we have  lowered  our
actuarial  assumption  for the expected  long-term rate of return and used 9% in
the September 30, 2003 pension  actuarial study (9.5% at September 30, 2002; 10%
at September 30, 2001). We annually review our expected long-term rate of return
assumption,  and will  continue to adjust it to respond to any  changing  market
conditions.  A 1/2%  decrease in the  expected  long-term  rate of return  would
increase  the annual  expense for pension and other  postretirement  benefits by
approximately  $1 million after tax;  likewise,  a 1/2% increase in the expected
long-term rate of return would decrease the annual expense by  approximately  $1
million after tax.                                                              
   VALUATION OF INVESTMENTS.  As part of our emerging technology  portfolio,  we
have several  minority  investments in venture capital funds and  privately-held
start-up  companies.  These  investments are accounted for using the cost method
and included with Investments on our  consolidated  balance sheet. Our policy is
to quarterly  review these  investments for impairment by assessing such factors
as  continued  commercial  viability of products,  cash flow and  earnings.  Any
impairment  would reduce the carrying  value of the investment and be recognized
as a loss. We did not record any  impairment  loss on these  investments in 2003
($1.5 million pretax in 2002; $0.2 million pretax in 2001).                     
   PROVISION  FOR  ENVIRONMENTAL  REMEDIATION.  Our  businesses  are  subject to
regulation  by various U.S. and Canadian  federal,  state and local  authorities
concerning environmental matters. We review environmental matters on a quarterly
basis.  Accruals for environmental matters are recorded when it is probable that
a liability  has been incurred and the amount of the liability can be reasonably
estimated,  based on current law and existing  technologies.  These accruals are
adjusted  periodically as assessment and  remediation  efforts  progress,  or as
additional  technical  or  legal  information  become  available.  Accruals  for
environmental  liabilities  are  included in the balance  sheet at  undiscounted
amounts and exclude claims for recoveries from insurance or other third parties.
Costs related to environmental  contamination  treatment and cleanup are charged
to expense.  We do not currently  anticipate  that  potential  expenditures  for
environmental  matters will be material;  however,  if we become subject to more
stringent  remediation at known sites, if we discover additional  contamination,
or discover  previously  unknown sites, or become subject to related personal or
property  damage,   we  could  incur  material  costs  in  connection  with  our
environmental remediation.                                                      

OUTLOOK                                                                         
   Our  operations  in 42 states,  nine  Canadian  provinces  and Mexico  employ
approximately 13,000 employees.  Since 1980 our average annual total shareholder
return is 17%.  Approximately 44% of this average was attributed to dividends. A
$100  investment in ALLETE stock at the end of 1980 would have been worth $3,800
at the end of 2003, assuming  reinvestment of dividends on the ex-dividend date.
By comparison, the Standard & Poor's 500 Index averaged                         

--------------------------------------------------------------------------------
 PAGE 37

10-K
33rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 33rd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

13%  for  the  same  period,  of  which  approximately  24% of the  average  was
attributed to dividends. A $100 investment in the Standard & Poor's 500 Index at
the end of 1980  would  have  been  worth  $1,600  at the end of 2003,  assuming
reinvestment of dividends on the ex-dividend date.                              
   We remain focused on  continuously  improving the performance of our two core
businesses, Energy and Automotive Services.                                     
   As part of a  strategic  initiative  to exit our Water  Services  businesses,
during 2003 we sold,  under  condemnation  or imminent  threat of  condemnation,
substantially  all of our water  assets in Florida  for a total  sales  price of
approximately  $445  million.  In addition,  we reached an agreement to sell our
North Carolina water assets for $48 million and the assumption of  approximately
$28  million  in debt by the  purchaser.  The North  Carolina  sale is  awaiting
approval of the NCUC and is expected to close in mid-2004. We expect to sell our
remaining water assets in 2004.                                                 
   Our two core  businesses  remain  strong  and are  poised for growth in their
respective markets.                                                             
   SPIN-OFF  OF  AUTOMOTIVE  SERVICES.  In October  2003 our Board of  Directors
approved  a plan to spin off to  ALLETE  shareholders  our  Automotive  Services
business  which will become a publicly  traded  company doing business as ADESA.
The spin-off,  anticipated to occur in the third quarter of 2004, is expected to
take the form of a tax-free stock dividend to ALLETE's  shareholders,  who would
receive one ADESA share for each share of ALLETE stock they own. The spin-off is
subject  to the  approval  of the final  plan by  ALLETE's  Board of  Directors,
favorable  market  conditions,  receipt  of tax  opinions,  satisfaction  of SEC
requirements and other customary conditions.                                    
   In March 2004 our Board of  Directors  approved  an initial  public  offering
(IPO) of approximately $150 million in common shares of ADESA, representing less
than 20% of all ADESA common stock  outstanding.  A  registration  statement was
filed with the SEC in March 2004,  with the sale of ADESA stock expected to take
place as soon as practical after the registration  statement becomes  effective.
Subsequent to the IPO, ALLETE will continue to own and consolidate the remaining
portion of ADESA until consummation of the spin-off.                            
   Our Energy Services and Automotive  Services businesses are two very distinct
businesses  and we  believe  that  this  spin-off  will  better  facilitate  the
strategic objectives of both businesses. We believe that our Automotive Services
business  will be  better  able to  pursue  a  business  growth  strategy  as an
independent  company.  For  ALLETE,  we  believe  the  spin-off  will  create  a
simplified  regulatory and risk profile and a more stable credit  rating,  which
will enhance its ability to pursue strategic growth initiatives.                
   Our  Automotive  Services  business  operates  two main  businesses  that are
integral parts of the vehicle redistribution industry in North America. Auctions
and  related  services  include 53 used  vehicle  auctions,  27 salvage  vehicle
auctions and other related services, while dealer financing consists of AFC's 80
loan production  offices.  Our Automotive Services business will remain based in
Indiana.                                                                        
   After the spin-off, ALLETE will be comprised of our Energy Services business,
which includes  Minnesota  Power,  SWL&P,  BNI Coal,  Enventis Telecom and Rainy
River Energy,  ALLETE  Properties,  Inc., our real estate operations in Florida,
and our emerging technology  investments.  ALLETE's  headquarters will remain in
Duluth, Minnesota.                                                              
   ALLETE has a history of growing  our  nonregulated  asset and  earnings  base
through careful  analysis by our experienced  management team. Near term we will
focus on growth opportunities in our existing business segments and on improving
both  operational  and  financial  performance.  Longer term our  strategy is to
expand into businesses or investments that meet our free cash flow and return on
investment  criteria.   We  will  continue  to  capitalize  on  our  experienced
management team in finding  businesses that ultimately  enable ALLETE to provide
superior total shareholder returns.                                             
   Prior to the spin-off,  ALLETE and ADESA will enter into recapitalization and
debt reallocation transactions. As part of this recapitalization, ADESA will use
a portion of the proceeds from the IPO and  additional  debt  issuances to pay a
$100  million  dividend  to  ALLETE,  as well as repay  intercompany  debt ($136
million at December 31,  2003).  ALLETE  expects to use the funds  received from
ADESA to reduce debt by  approximately  $150  million to $200  million,  provide
capital for strategic  initiatives  and for general  corporate  purposes.  ADESA
expects to use the remaining proceeds from the IPO and additional debt issuances
to repay  existing debt and  repurchase  ADESA common stock from certain  ALLETE
employee benefit plans upon consummation of the spin-off.  Immediately following
the spin-off, we expect ALLETE's debt to capital ratio to be approximately 40%. 
   The amount and timing of future  dividends  on ALLETE  common stock and ADESA
common stock  following  the spin-off is subject to the sole  discretion of each
company's Board of Directors in light of all relevant facts, including earnings,
general business conditions and working capital requirements.  ALLETE's Board of
Directors  expects to continue  quarterly  dividend payments at the current rate
until  the time of the  spin-off.  At that  time,  ALLETE's  Board of  Directors
anticipates  it will adjust the dividend rate to equal a payout ratio similar to
that of comparable companies.                                                   
   Subsequent  to the  spin-off  of  ADESA,  our  Retirement  Savings  and Stock
Ownership  Plan, or RSOP,  (see Note 19) will have a significant  amount of cash
generated  from the sale of  ADESA  stock  received  in the  spin-off.  The RSOP
intends to use this cash to purchase ALLETE common stock, and federal income tax
laws generally  provide up to 90 days to complete this  purchase.  To facilitate
the RSOP's  purchase of ALLETE stock,  we have sought  Internal  Revenue Service
(IRS)  approval to extend the  purchase  period to  approximately  600 days.  We
expect the IRS to rule on our request later this year.                          
   In connection with the IPO of ADESA common stock and the subsequent  spin-off
of ADESA to ALLETE  shareholders,  ALLETE and ADESA have  entered  into  various
separation  agreements and  indemnifications  customary to a transaction of this
nature.                                                                         

--------------------------------------------------------------------------------
 PAGE 38

10-K
34th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 34th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

   ENERGY  SERVICES.  In 2004 net income from Energy Services will be negatively
impacted by higher pension and  postretirement  health expenses,  and additional
expenses  associated  with  planned  maintenance  at Square  Butte.  Pension and
postretirement  health  expenses  are  expected to be  approximately  $7 million
pretax  higher than 2003,  primarily  due to a lower  discount rate and expected
long-term  return  on plan  assets.  (See Note 18.) In 2004  Square  Butte  will
perform a planned  multi-week  maintenance  outage,  and we expect  our pro rata
share of the cost to be approximately $6 million pretax.                        
   In February  2004 we  experienced a generator  failure at our 534-MW  Boswell
Energy  Center  Unit 4. As a result of the  failure we expect to have to replace
significant  components  of the  generator  at an  estimated  capital cost of $5
million.  The majority of the replacement cost is covered by insurance,  subject
to a deductible of $1 million. We have entered into power purchase agreements to
replace the power lost  during the Unit 4 outage,  which is expected to continue
through May 2004. The cost of this  additional  power will be recovered  through
the  regulated  utility  fuel  clause.  We do not expect  this  outage to have a
material  impact on our  results of  operations.                                
   Over the next five years, we believe electric utilities will face three major
issues:  the ongoing changes in regional  transmission  structure,  the probable
enactment of stricter environmental regulations and possible federal legislation
impacting the structure and organization of the electric utility  industry.  The
FERC  plans to  consolidate  transmission  regions,  which  may  impact  states'
transmission  regulation  rights and  create a more  standard  market  design to
oversee how transmission  prices are determined.  Specifics are being debated by
legislative  and regulatory  bodies.  Stricter  environmental  requirements  may
require  significant  capital  investments  in the 2008 to 2012  timeframe.  The
expenditures will relate to new emission controls on existing  generating units.
Proposed rules defining  requirements are expected to be finalized over the next
one to four years.  Though stalled in 2003, a revised  federal energy bill could
pass in 2004. More electric industry  consolidation  could occur and new players
could enter the industry  if  the Public Utility  Holding Company Act of 1935 is
repealed as part of this legislation.  This act imposes geographic  restrictions
on large  electric and gas utility  operations and limits  diversification  into
nonutility businesses.                                                          
   We believe our Energy  Services  business is well  positioned to successfully
deal with these issues and to successfully  compete. Our access to and ownership
of low-cost  power are Energy  Services'  greatest  strengths.  We have adequate
generation  to serve our  native  load.  Power  over and  above  our  customers'
requirements will be marketed. We also have adequate  transmission  capacity. We
believe electric industry  deregulation is unlikely in Minnesota or Wisconsin in
the next five years.  We anticipate  any load losses will be manageable and that
we will have ready access to sufficient capital for general business purposes.  
   Approximately  50% of our  regulated  utility  electric  sales  are  made  to
taconite  mines,  paper  producers and oil pipeline  operators.  Global economic
conditions  continue to affect our largest  industrial  retail customers and are
likely to continue over the next few years,  as  consolidation  in the steel and
taconite  industries  continues,  and while paper and pulp companies  search for
even more efficiency and cost-cutting measures to compete in the marketplace.  A
rise in Chinese  steel  demand and  production  has created a new market for the
producers  of taconite in North  America.  Based on our research of the taconite
industry,  Minnesota taconite  production for 2004 is anticipated to be about 39
million tons. The annual taconite production in Minnesota was 34 million tons in
2003 (39 million tons in 2002; 33 million tons in 2001).                        
   Though  changes may occur with some of our large  industrial  customers,  the
taconite  industry  is  stable  at this  time.  Our  strong  relationships  with
industrial  customers are unique in the electric  industry and enable us to work
closely with them to help ensure their success. We continue  strengthening these
relationships  to retain a strong  industrial base in our region.  On average we
expect  approximately 1% growth in retail electric  kilowatthour  sales annually
over the next five  years.  We  continue to make  investments  to  maintain  and
improve the integrity of our generating,  transmission and distribution  assets,
and maintain environmental compliance. Minnesota Power is in the early stages of
preparing a request to the MPUC to  increase  rates for its  Minnesota  electric
utility  operations  sometime  in the first  half of 2005.  The  request  may be
necessary to cover the increased cost of doing business.  Minnesota Power's last
rate  increase  for its  electric  utility  operations  was in  1994.  SWL&P  is
preparing  to file with the PSCW in mid-2004 a request to increase  retail rates
for its Wisconsin  electric utility operations to be effective sometime in early
2005. The request would cover increases in the cost of doing  business.  SWL&P's
last rate order for its electric utility operations was in 2001.                
   In June  2003  the  MPUC  initiated  an  investigation  into  the  continuing
usefulness of the fuel clause as a regulatory tool for electric  utilities.  The
investigation  will  focus  on  whether  the  fuel  clause  continues  to  be an
appropriate  regulatory  tool.  The initial steps will be to review the clause's
original purpose,  structure and rationale  (including its current operation and
relevance  in today's  regulatory  environment),  and then  address  its ongoing
appropriateness  and  other  issues  if the need for  continued  use of the fuel
adjustment clause is shown.  Because this  investigation is in its early stages,
we are unable to predict the outcome or impact, if any, at this time.           
   In response to the changing  strategies of both parties,  as of February 2004
we withdrew from active  participation  in Split Rock Energy and will  terminate
our ownership  interest  upon receipt of FERC approval  which is expected in the
first half of 2004. We have  reestablished  our least-cost  supply and marketing
functions within the Company.                                                   
   Alternatives are being explored to reduce the negative earnings impact of the
Kendall County power contract.                                                  
   Our  strategy is to solidify our existing  customer  base and seek  regulated
utility growth opportunities by: (1) being an advocate                          

--------------------------------------------------------------------------------
 PAGE 39

10-K
35th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 35th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

in our region for additional industrial customers to build or expand thus adding
new customer load growth;  (2) using our existing  assets and enhancing  them to
develop  new  opportunities  to  primarily  serve  retail  customers;   and  (3)
evaluating and developing  Large Power Customer  projects.  We will also seek to
increase  our  presence  as a supplier  to  regional  utilities  by looking  for
nonregulated  generation  opportunities,  joint  ownership of newly  constructed
generation,  and promoting our  capabilities  as a regional  capacity and energy
supplier to meet increasing regional load requirements.                         
   AUTOMOTIVE  SERVICES is pursuing  strategic  initiatives that are designed to
capitalize on its underlying business  strengths,  grow its business and improve
its profitability.                                                              
   We seek  continuing  growth through  various  channels,  including  alternate
auction venues, combination used and salvage vehicle auction sites, acquisitions
of independent  auctions,  and greenfield  development of new auctions. In areas
where  we  have  existing   operations,   we  seek  to  leverage  upon  existing
infrastructure and capital investments in used vehicle operations by opening new
salvage  auction sites.  Our auction sites in  Jacksonville,  Concord,  Buffalo,
Edmonton,  Vancouver,  Halifax  and  Ottawa  are  shared  facilities  that  have
successfully  executed this  strategy.  We will continue to examine our existing
sites for opportunities to combine used vehicle and salvage auction operations. 
   We have been a consolidator in used vehicle  auctions,  which has fueled much
of our historical  growth.  We continue to consider  acquiring  independent used
vehicle auctions in markets where we do not have a presence. We also expect that
consolidation  opportunities will be available for salvage auctions.  In regions
where we do not have a presence or where we are not able to identify acquisition
sites or we do have a  presence  but our  auction  sites  are  inadequate  or at
capacity,  we will  consider  greenfield  development  or  relocation of auction
sites. We have  successfully  demonstrated  this strategy in recent years in the
following  markets:  Los Angeles,  Boston,  Des Moines,  Colorado  Springs,  San
Francisco,  Vancouver,  Long Island,  Atlanta and  Edmonton.  We also opened new
salvage  auction sites in Orlando and Long Island separate from our used vehicle
operations in those markets. We may not, however,  adequately  anticipate all of
the  demands  that  our  growth  will  impose  on our  systems,  procedures  and
structures,   including  our  financial  and  reporting  control  systems,  data
processing systems and management structure.                                    
   We strive to capitalize on the growing pool of redistributed  vehicles and to
increase  the volume of used and  salvage  vehicles  redistributed  through  our
auctions.  Our initiatives include expanding marketing of our services,  such as
selling additional  reconditioning  services and offering post-sale  inspections
and  certifications.  We intend to increase  the volume of vehicles  sold by our
existing  institutional  customers and add to new accounts by enabling customers
to maximize the value of their vehicles through the redistribution  process.  We
believe we can  continue  to expand our market  share by  realizing  the highest
prices for our customers' vehicles and providing the best service.              
   We plan to increase  revenue by selling more  services  per vehicle,  such as
reconditioning, inspection, certification, titling and settlement administration
services.  We believe we can  significantly  increase service  penetration among
both  sellers  and  buyers  due to the  economic  benefits  that  our  pre-  and
post-auction services provide.                                                  
   We are  improving our operating  efficiency by further  centralizing  certain
administrative  functions,   optimizing  and  standardizing  our  redistribution
processes,  improving  our use of technology  and better  utilizing our existing
infrastructure.   Current   initiatives  aim  at  providing  better  information
throughout the auction process and moving vehicles  faster,  more accurately and
more efficiently through the auction process.                                   
   We plan to continue  to expand our  existing  on-line  service  offerings  in
addition to introducing new on-line  services to our customers.  Direct sales of
used  vehicles  by  institutional  customers  and large  dealer  groups  through
internally  developed or third party  on-line  auctions  have  largely  replaced
telephonic  and other  non-auction  methods,  becoming an increasing  portion of
overall used vehicle  redistribution over the past several years. In addition, a
portion of the vehicles that were sold through a physical  auction are now being
sold on-line.  Although we have embraced the Internet and offer on-line auctions
and services as part of our standard service  offerings,  we cannot predict what
portion of overall  sales will be conducted  through  on-line  auctions or other
redistribution  methods  in the  future  and  what  impact  this may have on our
auction facilities.                                                             
   We are committed to investing  additional  capital and resources for emerging
technologies and service offerings in the vehicle  redistribution  industry.  We
will continue to tailor on-line  services to each of our customers to include an
appropriate mix of physical auctions and on-line services.                      
   INVESTMENTS  AND  CORPORATE  CHARGES.  In   2004,  excluding   the  financial
implications of the spin-off of Automotive  Services,  we expect net income from
Investments and Corporate  Charges to be approximately $5 million to $10 million
higher  primarily  as a result of debt paid off in 2003 with  proceeds  from the
sale of our  Water  Services  businesses  and  internally  generated  cash.  The
financial  implications of the spin-off of Automotive  Services include one-time
expenses of the transaction  for advisor fees, debt retirement  premiums and the
impact of cash received from ADESA after the IPO.                               
   Revenue from property sales by real  estate  operations continues to be three
to four times more than the  acquisition  cost,  creating strong cash generation
and  profitability.  Our real estate operations may, from time to time,  acquire
packages of diversified  properties at low cost, add value through  entitlements
and  infrastructure  enhancements,  and sell the  properties  at current  market
prices.                                                                         
   We have the potential to recognize gains or losses on the sale of investments
in our  emerging  technology  portfolio.  We  plan to  sell  investments  in our
emerging technology portfolio as shares are distributed to us. Some restrictions
on sales may apply,  including,  but not limited to, underwriter lock-up        

--------------------------------------------------------------------------------
 PAGE 40

10-K
36th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 36th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

periods that typically extend for 180 days following an initial public offering.
We have committed to make additional  investments in certain emerging technology
holdings.  The total future commitment was $4.8 million at December 31, 2003 and
is expected to be invested at various times through 2007.                       

LIQUIDITY AND CAPITAL RESOURCES                                                 

CASH FLOW ACTIVITIES                                                            
   A primary goal of our strategic plan is to improve cash flow from operations.
Our strategy includes growing the businesses                                    
both  internally by expanding  facilities,  services and operations (see Capital
Requirements), and externally through acquisitions.                             
   During 2003 cash flow from operating  activities  reflected  strong operating
results  and  continued  focus on  working  capital  management.  Cash flow from
operating  activities  was higher in 2002 due to the  liquidation of the trading
securities  portfolio  and the  timing  of the  collection  of  certain  finance
receivables outstanding at December 31, 2001. Cash flow from operations was also
affected by a number of factors representative of normal operations.            
   Using  both the  proceeds  from the sale of  Water  Services  and  internally
generated  cash,  we repaid $360 million in debt and $75 million in  manditorily
redeemable  preferred  securities  during  2003.  By year end, we  significantly
strengthened our balance sheet and reduced our debt to total capital  percentage
to 36% (46% at December 31, 2002),  while at the same time improving our current
ratio to 1.3 (0.9 at December 31, 2002).                                        
   WORKING CAPITAL. Additional working capital, if and when needed, generally is
provided by the sale of commercial paper.  During 2002 we liquidated our trading
securities  portfolio  and used the  proceeds  to reduce  our  short-term  debt.
Approximately  3.8  million  original  issue  shares  of our  common  stock  are
available for issuance  through  Invest  Direct,  our direct stock  purchase and
dividend  reinvestment  plan.  We have bank lines of credit  aggregating  $196.5
million,  the majority of which expire in December 2004 and are negotiated on an
annual  basis.  These  bank  lines of  credit  provide  credit  support  for our
commercial  paper  program.  The  amount  and  timing  of  future  sales  of our
securities  will depend upon market  conditions and our specific  needs.  We may
sell securities to meet capital  requirements,  to provide for the retirement or
early redemption of issues of long-term debt, to reduce  short-term debt and for
other corporate purposes.                                                       
   A substantial amount of ADESA's working capital is generated  internally from
payments for services provided. ADESA, however, has arrangements to use proceeds
from the sale of commercial  paper issued by ALLETE to meet  short-term  working
capital  requirements  arising from the timing of payment obligations to vehicle
sellers and the availability of funds from vehicle purchasers.  During the sales
process,  ADESA does not  generally  take title to or  ownership of the vehicles
consigned for auction but instead  facilitate the transfer of vehicle  ownership
directly from sellers to buyers.                                                
   AFC offers  floorplan  financing for dealers to purchase  vehicles  mostly at
auctions and takes a security interest in each financed  vehicle.  The financing
is provided  through  the earlier of the date the dealer  sells the vehicle or a
general  borrowing term of 30 to 45 days. AFC has  arrangements  to use proceeds
from the sale of  commercial  paper  issued  by  ALLETE  to meet its  short-term
working capital requirements not funded through securitization.                 
   SALE OF WATER  PLANT  ASSETS.  During  2003 we sold,  under  condemnation  or
imminent  threat  of  condemnation,  substantially  all of our  water  assets in
Florida for a total sales price of approximately $445 million.  In addition,  we
reached an agreement to sell our North Carolina water assets for $48 million and
the assumption of approximately $28 million in debt by the purchaser.  The North
Carolina  sale is  awaiting  approval  of the NCUC and is  expected  to close in
mid-2004. We expect to sell our remaining water assets in 2004.                 
   Earnings  from  Discontinued  Operations  for 2003  included a $71.6  million
after-tax gain on the sale of substantially  all our Water Services  businesses.
The gain was net of all selling,  transaction and employee  termination  benefit
expenses, as well as impairment losses on certain remaining assets.             
   The net cash proceeds from the sale of all water  assets,  after  transaction
costs,  retirement of most Florida  Water debt and payment of income taxes,  are
expected to be  approximately  $300 million.  These net proceeds have been,  and
will be, used to retire debt at ALLETE.                                         

OFF-BALANCE SHEET ARRANGEMENTS                                                  
   AFC sells the majority of U.S. dollar  denominated  finance  receivables on a
revolving basis to a wholly owned, bankruptcy remote, special purpose subsidiary
that is consolidated for accounting purposes. The special purpose subsidiary has
entered into a securitization agreement,  which expires in 2005, that allows for
the revolving sale to a bank conduit facility of up to a maximum of $500 million
in undivided interests in eligible finance receivables. Receivables sold are not
reported on our consolidated financial statements.                              
   At December 31, 2003 AFC managed  total finance  receivables  of $539 million
($501 million at December 31, 2002),  of which $464 million had been sold to the
special  purpose  subsidiary  ($423 million at December 31,  2002).  The special
purpose  subsidiary  then in turn sold,  with  recourse to the  special  purpose
subsidiary, $334 million to the bank conduit facility at December 31, 2003 ($304
million at  December  31,  2002)  leaving  $205  million of finance  receivables
recorded on our consolidated balance sheet at December 31, 2003 ($197 million at
December 31, 2002).                                                             
   AFC's  proceeds from the revolving  sale of  receivables  to the bank conduit
facility  were  used to repay  borrowings  from  ALLETE  and  fund new  loans to
customers.  AFC  and  the  special  purpose  subsidiary  must  maintain  certain
financial  covenants such as minimum tangible net worth to comply with the terms
of the securitization  agreement. AFC has historically performed better than the
covenant  thresholds set                                                        

--------------------------------------------------------------------------------
 PAGE 41

10-K
37th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 37th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

forth in the  securitization  agreement,  and we are not  aware of any  changing
circumstances that would put AFC in noncompliance with the covenants.           

SECURITIES                                                                      
   In March 2001 ALLETE, ALLETE Capital II and ALLETE Capital III, jointly filed
a registration  statement with the SEC pursuant to Rule 415 under the Securities
Act of 1933. The registration  statement,  which has been declared  effective by
the SEC,  relates to the possible  issuance of a remaining  aggregate  amount of
$387 million of securities which may include ALLETE common stock, first mortgage
bonds and other debt  securities,  and ALLETE  Capital II and ALLETE Capital III
preferred  trust  securities.   ALLETE  also  previously  filed  a  registration
statement,  which  has  been  declared  effective  by the SEC,  relating  to the
possible  issuance  of $25  million  of first  mortgage  bonds  and  other  debt
securities.  We may sell all or a portion of the remaining registered securities
if warranted by market  conditions and our capital  requirements.  Any offer and
sale  of the  above  mentioned  securities  will  be made  only  by  means  of a
prospectus  meeting the requirements of the Securities Act of 1933 and the rules
and regulations thereunder.                                                     
   In June 2003 ADESA  restructured its financial  arrangements  with respect to
its used  vehicle  auction  facilities  located  in Tracy,  California;  Boston,
Massachusetts;  Charlotte, North Carolina; and Knoxville,  Tennessee. These used
vehicle auction  facilities were previously  accounted for as operating  leases.
The  transactions  included the assumption of $28 million of long-term debt, the
issuance of $45 million of long-term debt and the  recognition of $73 million of
property, plant and equipment. The $28 million of assumed long-term debt matures
April 1,  2020 and has a  variable  interest  rate  equal  to the  seven-day  AA
Financial  Commercial Paper Rate plus approximately  1.2%, while the $45 million
of long-term debt issued to finance the used vehicle auction  facility in Tracy,
California,  matures July 30, 2006 and has a variable  interest rate of prime or
LIBOR plus 1%.                                                                  
   In July 2003 ALLETE used internally  generated funds to retire $25 million in
principal  amount of the Company's First Mortgage Bonds,  Series 6 1/4% due July
1, 2003.                                                                        
   In July 2003 ALLETE  entered  into a credit  agreement to borrow $250 million
from a consortium of financial institutions,  the proceeds of which were used to
redeem $250 million in principal  amount of the  Company's  Floating  Rate First
Mortgage Bonds due October 20, 2003. The credit agreement  expires in July 2004,
has an  interest  rate of LIBOR  plus  0.875%  and is secured by the lien of the
Company's  Mortgage  and Deed of Trust.  The credit  agreement  also has certain
mandatory  prepayment  provisions,  including a  requirement  to repay an amount
equal to 75% of the net proceeds  from the sale of water  assets.  In accordance
with these  provisions,  $197.0 million was repaid in 2003 and $53.0 million was
outstanding at December 31, 2003.                                               
   In November  2003 ALLETE  redeemed  $50  million in  principal  amount of the
Company's  First  Mortgage  Bonds,  7 3/4%  Series due June 1, 2007.  Internally
generated  funds and proceeds from the sale of Florida Water assets were used to
repay the principal,  premium and accrued interest, totaling approximately $52.1
million, to the bondholders.                                                    
   In December 2003 ALLETE  redeemed  through  ALLETE  Capital I, a wholly owned
statutory trust of ALLETE,  all $75 million aggregate  liquidation amount of its
8.05% Cumulative  Quarterly Income Preferred  Securities (QUIPS). The redemption
price  was $25 per  QUIPS  plus  accumulated  and  unpaid  distributions  to the
redemption  date.  Proceeds  from the sale of Florida  Water assets were used to
fund this redemption.                                                           
   In January 2004 we used internally  generated  funds to retire  approximately
$3.5 million in principal amount of Industrial  Development Revenue Bonds Series
1994-A,  due  January 1, 2004.                                                  
   ALLETE's long-term debt arrangements  contain financial  covenants.  The most
restrictive  covenant  requires  ALLETE not to exceed a maximum  ratio of funded
debt to total capital of .65 to 1.0.  Failure to meet this  covenant  could give
rise to an event of default,  if not corrected  after notice from the trustee or
security holder; in which event ALLETE may need to pursue alternative sources of
funding.  As of December 31, 2003 ALLETE's ratio of funded debt to total capital
was .36 to 1.0 and ALLETE was in compliance with its financial covenants.       
   Some  of  ALLETE's  long-term  debt  arrangements   contain   "cross-default"
provisions  that would result in an event of default if there is a failure under
other financing arrangements to meet payment terms or to observe other covenants
that would result in an acceleration of payments due.                           
   Our lines of credit contain  financial  covenants.  These  covenants  require
ALLETE (1) not to exceed a maximum  ratio of funded debt to total capital of .60
to 1.0 and (2) to maintain an interest  coverage  ratio of not less than 3.00 to
1.00. Failure to meet these covenants could give rise to an event of default, if
not  corrected  after notice from the lender;  in which event ALLETE may need to
pursue alternative sources of funding. As of December 31, 2003 ALLETE's ratio of
funded debt to total  capital was .36 to 1.0,  the interest  coverage  ratio was
5.83 to 1.00 and ALLETE was in compliance with these financial covenants.       
   ALLETE's lines of credit  contain  cross-default  provisions,  under which an
event of  default  would  arise if other  ALLETE  obligations  in excess of $5.0
million were in default.                                                        

CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS                              
   Our long-term debt obligations, including long-term debt due within one year,
represent the principal  amount of bonds,  notes and loans which are recorded on
our consolidated balance sheet plus interest.                                   
   Unconditional  purchase  obligations  represent  our Square Butte and Kendall
County power purchase  agreements,  and minimum purchase  commitments under coal
and rail contracts.                                                             
   Under our power  purchase  agreement  with Square Butte that extends  through
2026, we are  obligated to pay our pro rata share of Square  Butte's costs based
on our entitlement to the output of Square Butte's 455 MW coal-fired  generating
unit near Center, North Dakota. Our payment obligation is                       

--------------------------------------------------------------------------------
 PAGE 42

10-K
38th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 38th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

                                                        [Enlarge/Download Table]


                                                                 PAYMENTS DUE BY PERIOD                             
                                     -------------------------------------------------------------------------------
CONTRACTUAL OBLIGATIONS               TOTAL      LESS THAN 1 YEAR    1 TO 3 YEARS    4 TO 5 YEARS    AFTER 5 YEARS  
====================================================================================================================
MILLIONS                                                                                                            

                                                                                                                    
Long-Term Debt                       $1,142.3        $ 84.6             $414.2          $211.1          $432.4      
Operating Lease Obligations             104.4          14.8               25.0            10.7            53.9      
Unconditional Purchase Obligations      550.7          22.9               68.8            45.9           413.1      
--------------------------------------------------------------------------------------------------------------------
                                     $1,797.4        $122.3             $508.0          $267.7          $899.4      
====================================================================================================================

suspended  if Square  Butte  fails to deliver  any power,  whether  produced  or
purchased,  for a  period  of one  year.  Square  Butte's  fixed  costs  consist
primarily  of debt  service.  The table above  reflects our share of future debt
service  based on our current  output  entitlement  of 71% through  2005 and 66%
thereafter.  In December 2003 we received  notice from Minnkota  Power that they
will  reduce  our  output  entitlement,  effective  January  1,  2006,  by 5% to
approximately 66%. Minnkota Power has the option to reduce our entitlement by 5%
annually, to a minimum of 50%. (See Note 15.)                                   
   Under the Kendall County  agreement,  we pay a fixed capacity  charge for the
right,  but not the  obligation,  to  utilize  one 275 MW  generating  unit near
Chicago,  Illinois. We are responsible for arranging the natural gas fuel supply
and are entitled to the electricity produced. (See Note 15.)                    
   EMERGING TECHNOLOGY INVESTMENTS. We have investments in emerging technologies
through the minority  investments  in venture  capital funds and  privately-held
start-up companies.  We have committed to make additional investments in certain
emerging  technology  holdings.  The total future commitment was $4.8 million at
December  31,  2003 ($7.7  million at December  31,  2002) and is expected to be
invested at various times through 2007.                                         

CREDIT RATINGS                                                                  
   Our  securities  have been rated by  Standard & Poor's  Ratings  Services,  a
division of The McGraw-Hill  Companies,  Inc. (Standard & Poor's) and by Moody's
Investors Service,  Inc. (Moody's).  In October 2003, following our announcement
that we will implement a major  corporate  restructuring  that will separate our
two core businesses, Standard & Poor's reaffirmed that our BBB+ corporate credit
rating remains on CreditWatch with developing  implications.  Our BBB+ corporate
credit  rating has been on  CREDITWATCH  DEVELOPING  since  January 2003 when we
first announced that we were considering a major corporate restructuring.  In an
October 2003 press release Standard & Poor's stated that the CREDITWATCH listing
will be resolved in the very near future and is likely to result in no change to
ALLETE's ratings.                                                               
   Rating agencies use both quantitative and qualitative measures in determining
a company's credit rating. These measures include business risk, liquidity risk,
competitive position,  capital mix, financial condition,  predictability of cash
flows,  management  strength  and  future  direction.  Some of the  quantitative
measures  can  be  analyzed  through  a few  key  financial  ratios,  while  the
qualitative ones are more subjective.  The disclosure of these credit ratings is
not a recommendation to buy, sell or hold our securities. Ratings are subject to
revision or withdrawal at any time by the assigning  rating  organization.  Each
rating should be evaluated independently of any other rating.                   

                                                                [Download Table]


                               STANDARD &                  
CREDIT RATINGS                   POOR'S          MOODY'S   
===========================================================
                                                           
Issuer Credit Rating              BBB+            Baa2     
Commercial Paper                  A-2             P-2      
Senior Secured                                             
   First Mortgage Bonds           A               Baa1     
   Pollution Control Bonds        A               Baa1     
Senior Unsecured                                           
   Senior Notes                   BBB             Baa2     
   Unsecured Debt                 BBB             Baa2     
===========================================================

PAYOUT RATIO                                                                    
   In 2003 we paid out 40% (66% in 2002;  59% in 2001) of our per share earnings
in dividends.                                                                   

CAPITAL REQUIREMENTS                                                            

   Consolidated  capital  expenditures  totaled  $136.3  million in 2003 ($201.2
million in 2002;  $149.2 million in 2001).  Expenditures for 2003 included $73.6
million  for  Energy  Services  and  $26.9  million  for  Automotive   Services.
Expenditures for 2003 also included $35.8 million to maintain our Water Services
businesses  while they are in the process of being sold.  An existing  long-term
line of credit  and  internally  generated  funds  were the  primary  sources of
funding for these  expenditures.  The 2003  capital  expenditure  amounts do not
include  $73  million  of  property,  plant and  equipment  recognized  upon the
restructuring of financial arrangements with respect to four of our used vehicle
auction facilities previously accounted for as operating leases.                
   Capital  expenditures  are expected to be $98 million in 2004 and total about
$500 million for 2005  through  2008.  The 2004 amount  includes $63 million for
Energy  Services  and $35  million for  Automotive  Services.  Energy  Services'
expenditures    are   for   system    component    replacement   and   upgrades,
telecommunication  fiber  and  coal  handling  equipment.  Automotive  Services'
expenditures  are for expansions and on-going  improvements at existing  vehicle
auction  facilities  and  associated  computer  systems.  We  expect  to draw an
additional $8 million from an existing  long-term                               

--------------------------------------------------------------------------------
 PAGE 43

10-K
39th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 39th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

line of credit to complete an investment in new coal handling  equipment and use
internally generated funds to fund all other capital expenditures.              

ENVIRONMENTAL AND OTHER MATTERS                                                 

   As previously  mentioned in our Critical  Accounting  Policies  section,  our
businesses  are subject to  regulation  by various U.S.  and  Canadian  federal,
state, provincial and local authorities concerning  environmental matters. We do
not currently anticipate that potential  expenditures for environmental  matters
will be  material;  however,  we are unable to predict the outcome of the issues
discussed below.                                                                
   SWL&P MANUFACTURED GAS PLANT. In May 2001 SWL&P received notice from the WDNR
that the City of Superior had found soil  contamination on property  adjoining a
former  Manufactured  Gas  Plant  (MGP)  site  owned  and  operated  by  SWL&P's
predecessors  from  1889 to  1904.  The WDNR  requested  SWL&P  to  initiate  an
environmental  investigation.  The WDNR also issued  SWL&P a  Responsible  Party
letter in  February  2002.  The  environmental  investigation  is  underway.  In
February 2003 SWL&P submitted a Phase II environmental site investigation report
to the WDNR. This report  identified some MGP-like  chemicals that were found in
the soil.  During March and April 2003  sediment  samples were taken from nearby
Superior  Bay.  The report on the  results of this  sampling  is  expected to be
completed and sent to the WDNR during the first quarter of 2004. A work plan for
additional  investigation by SWL&P was filed on December 17, 2003 with the WDNR.
This part of the investigation will determine any impact to soil or ground water
between the former MGP site and the Superior Bay. Although it is not possible to
quantify the potential  clean-up cost until the investigation is completed and a
work plan is developed, a $0.5 million liability was recorded as of December 31,
2003  to  address  the  known  areas  of  contamination.   We  have  recorded  a
corresponding dollar amount as a regulatory asset to offset this liability.  The
PSCW has approved SWL&P's deferral of these MGP environmental  investigation and
potential  clean-up  costs for future  recovery in rates,  subject to regulatory
prudency review.                                                                
   MINNESOTA POWER COAL-FIRED GENERATING FACILITIES. During 2002 Minnesota Power
received and responded to a third request from the EPA, under Section 114 of the
Clean Air Act, seeking additional  information regarding capital expenditures at
all  of  its  coal-fired  generating  stations.   This  action  is  part  of  an
industry-wide  investigation assessing compliance with the New Source Review and
the New Source Performance  Standards (emissions standards that apply to new and
changed  units) of the Clean Air Act at electric  generating  stations.  We have
received no feedback from the EPA based on the  information we submitted.  There
is, however,  ongoing litigation  involving the EPA and other electric utilities
for alleged  violations of these rules.  It is expected that the outcome of some
of the cases could provide the utility industry  direction on this topic. We are
unable to predict what actions, if any, may be required as a result of the EPA's
request for information. As a result, we have not accrued any liability for this
environmental matter.                                                           
   SQUARE BUTTE GENERATING  FACILITY.  In June 2002 Minnkota Power, the operator
of Square Butte,  received a Notice of Violation from the EPA regarding  alleged
New Source Review violations at the M.R. Young Station which includes the Square
Butte  generating  unit. The EPA claims certain  capital  projects  completed by
Minnkota  Power  should have been  reviewed  pursuant  to the New Source  Review
regulations  potentially  resulting  in new  air  permit  operating  conditions.
Minnkota  Power has held  several  meetings  with the EPA to discuss the alleged
violations. Based on an EPA request, Minnkota Power performed a study related to
the technological  feasibility of installing  various controls for the reduction
of nitrogen oxides and sulfur dioxide  emissions.  Discussions  with the EPA are
ongoing  and we are still  unable to predict  the  outcome or cost  impacts.  If
Square Butte is required to make significant capital expenditures to comply with
EPA requirements,  we expect such capital expenditures to be debt financed.  Our
future  cost of  purchased  power  would  include  our pro  rata  share  of this
additional debt service.                                                        
   ADESA IMPACT TAUNTON FACILITY. In December 2003 the Massachusetts  Department
of  Environmental  Protection  (MDEP)  identified  ADESA Impact as a potentially
responsible  party regarding  contamination  of several  private  drinking water
wells in a residential development that abuts the Taunton, Massachusetts salvage
vehicle  auction  facility.  The wells had elevated  levels of MTBE.  MTBE is an
oxygenating  additive in gasoline which reduces harmful  emissions.  The EPA has
identified MTBE as a possible  carcinogen.  ADESA Impact engaged GeoInsight,  an
environmental services firm, to conduct tests of its soil and groundwater at the
salvage vehicle auction site and we are providing bottled water to some affected
residents.                                                                      
   GeoInsight  prepared  an  immediate  response  action  (IRA)  plan,  which is
required by the MDEP,  to determine the extent of the  environmental  impact and
define activities to prevent further environmental contamination.  The IRA plan,
which was filed on January 24,  2004,  describes  the initial  activities  ADESA
Impact performed,  and proposes  additional measures that it will use to further
assess the  existence of any imminent  hazard to human health.  In addition,  as
required  by the MDEP,  ADESA  Impact is  conducting  an  analysis  to  identify
sensitive  receptors  that may have been  affected,  including  area schools and
municipal  wells.  GeoInsight does not believe that an imminent hazard condition
exists at the Taunton site;  however,  the  investigation and assessment of site
conditions are ongoing.                                                         
   In December 2003  GeoInsight  collected soil samples,  conducted  groundwater
tests and provided oversight for the installation of monitoring wells in various
locations on and adjacent to the property  adjoining the residential  community.
The results of the soil and water tests indicated  levels of MTBE exceeding MDEP
standards.  In January 2004 we collected air samples from two residences that we
identified as                                                                   

--------------------------------------------------------------------------------
 PAGE 44

10-K
40th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 40th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

having elevated  drinking water  concentrations of MTBE. We have determined that
inhalation  of, or contact  exposure  to, this air poses  minimal  risk to human
health. In response to our empirical findings, we have proposed to the MDEP that
we install granular  activated carbon filtration systems in the approximately 30
affected residences.                                                            
   ADESA Impact is preparing an IRA status  report that must be submitted to the
MDEP by March 30,  2004,  and will  continue  to prepare  additional  reports as
necessary.  As of December  31, 2003 ADESA  Impact has accrued  $0.7  million to
cover the costs associated with ongoing testing,  remediation and cleanup of the
site.                                                                           
   ALLETE maintains pollution liability insurance coverage and has filed a claim
with respect to this matter. We and our insurer are determining the availability
of insurance coverage at this time.                                             

OTHER                                                                           
   We are involved in litigation arising in the normal course of business.  Also
in the normal course of business,  we are involved in tax,  regulatory and other
governmental  audits,  inspections,  investigations  and other  proceedings that
involve state and federal taxes, safety, compliance with regulations,  rate base
and cost of service  issues,  among other things.  While the  resolution of such
matters  could have a material  effect on earnings and cash flows in the year of
resolution,  none of these matters are expected to materially change our present
liquidity  position,  nor  have a  material  adverse  effect  on  our  financial
condition.                                                                      

MARKET RISK                                                                     

SECURITIES INVESTMENTS                                                          
   Our securities  investments include certain securities held for an indefinite
period  of  time  which  are  accounted  for as  available-for-sale  securities.
Available-for-sale  securities are recorded at fair value with unrealized  gains
and losses  included in  accumulated  other  comprehensive  income,  net of tax.
Unrealized  losses that are other than temporary are recognized in earnings.  At
December  31, 2003 our  available-for-sale  securities  portfolio  consisted  of
securities in a grantor trust established to fund certain employee benefits. Our
available-for-sale  securities  portfolio  had a fair value of $20.2  million at
December 31, 2003 ($20.9  million at December  31, 2002) and a total  unrealized
after-tax  gain of $0.8  million at  December  31,  2003 ($2.8  million  loss at
December 31, 2002).  During 2003 we sold the investments we held directly in our
publicly-traded  emerging  technology  portfolio  and  recognized a $2.3 million
after-tax loss.  These  publicly-traded  emerging  technology  investments  were
accounted for as available-for-sale securities prior to sale.                   
   As part of our emerging technology  portfolio,  we also have several minority
investments  in venture  capital funds and  privately-held  start-up  companies.
These  investments  are  accounted  for using the cost method and included  with
Investments on our consolidated balance sheet. The total carrying value of these
investments  was $37.5  million at December 31, 2003 ($38.7  million at December
31, 2002).  Our policy is to review these  investments on a quarterly  basis for
impairment  by  assessing  such  factors as  continued  commercial  viability of
products, cash flow and earnings. Any impairment would reduce the carrying value
of the investment. We did not record any impairment loss on these investments in
2003 ($1.5 million pretax in 2002; $0.2 million pretax in 2001).                

                                                        [Enlarge/Download Table]


INTEREST RATE SENSITIVE                                         PRINCIPAL CASH FLOW BY EXPECTED MATURITY DATE                    
FINANCIAL INSTRUMENTS                     ---------------------------------------------------------------------------------------
                                                                                                                         FAIR    
DECEMBER 31, 2003                          2004       2005       2006     2007        2008      THEREAFTER    TOTAL      VALUE   
=================================================================================================================================
DOLLARS IN MILLIONS                                                                                                              

                                                                                                                                 
Long-Term Debt                                                                                                                   
      Fixed Rate                           $4.3       $0.8       $91.3   $115.7      $181.4       $224.7      $618.2     $666.4  
      Average Interest Rate - %             6.4        7.6         7.7      7.1         7.6          6.3         7.0             
      Variable Rate                       $33.2      $29.4       $45.8     $3.3        $0.9        $54.4      $167.0     $169.4  
      Average Interest Rate - % <F1>        3.2        2.6         2.1      1.7         3.0          1.6         2.2             
=================================================================================================================================
<FN>                                                                                                                             
<F1> Assumes rate in effect at December 31, 2003 remains constant through remaining term.                                        
</FN>                                                                                                                            

FOREIGN CURRENCY                                                                
   Our foreign  currency  exposure  is limited to the  conversion  of  operating
results of our Canadian and, to a lesser extent,  Mexican subsidiaries.  We have
not entered into any foreign  exchange  contracts to hedge the conversion of our
Canadian or Mexican  operating  results  into  United  States  dollars.  Mexican
operations are not material.                                                    

POWER MARKETING                                                                 
   Minnesota  Power  purchases  power for retail sales in our regulated  utility
service  territory and sells excess  generation in the wholesale market. We have
about 500 MW of  nonregulated  generation  available  for sale to the  wholesale
market. Our nonregulated  generation  includes about 200 MW from Taconite Harbor
in northern Minnesota that was acquired in October 2001. It also includes 275 MW
of generation obtained through a 15-year agreement, which commenced in May 2002,
with NRG Energy at the Kendall County facility near Chicago, Illinois.          
   Under the Kendall County  agreement,  we pay a fixed capacity  charge for the
right,  but not the obligation,  to capacity and energy from a 275 MW generating
unit.  We are  responsible  for  arranging  the  natural gas fuel supply and are
entitled to the  electricity  produced.  Our  strategy is to sell a             

--------------------------------------------------------------------------------
 PAGE 45

10-K
41st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 41st
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

significant  portion of our nonregulated  generation through long-term contracts
of  various  durations.  The  balance  will be sold in the spot  market  through
short-term  contracts and in the daily spot market.  We currently have long-term
capacity  sales  contracts  for  130 MW  (100  MW in  2003)  of  Kendall  County
generation, with 50 MW expiring in April 2012 and the balance in September 2017.
In total, the Kendall County facility operated at a loss in 2003 due to negative
spark spreads (the differential  between electric and natural gas prices) in the
wholesale  power market and our resulting  inability to cover the fixed capacity
charge on  approximately  175 MW. We expect the facility to continue to generate
losses  until  such time as spark  spreads  improve or we are able to enter into
additional long-term capacity sales contracts.                                  
   Split Rock Energy is a joint venture between  Minnesota Power and Great River
Energy  from which we are  withdrawing.  Split Rock Energy was formed to combine
power supply  capabilities  and  customer  loads for power pool  operations  and
generation  outage  protection.  In response to the changing  strategies of both
parties, as of February 2004 we withdrew from active participation in Split Rock
Energy and will  terminate our ownership  interest upon receipt of FERC approval
which is  expected  in the  first  half of 2004.  We have  retained  some of the
benefits of this partnership,  such as joint load and capability  reporting.  We
have resumed  performing  the  functions  that provide  least cost supply to our
retail customers and sell our excess generation.                                

NEW ACCOUNTING STANDARDS                                                        

   In January 2004 the FASB issued FASB Staff  Position SFAS 106-1,  "Accounting
and  Disclosure   Requirements  Related  to  the  Medicare   Prescription  Drug,
Improvement  and  Modernization  Act of 2003" (Act).  This Staff Position allows
employers who sponsor a  postretirement  health plan that provides  prescription
drug benefits to defer  recognizing the effects of the Act in accounting for its
plan under SFAS 106,  "Employers'  Accounting for Postretirement  Benefits Other
Than Pensions" until  authoritative  accounting  guidance is issued.  We provide
postretirement  health benefits that include prescription drug benefits,  and in
accordance with this Staff  Position,  have elected not to reflect the impact of
the Act in our 2003  financial  statements.  We expect  the Act will  eventually
reduce our costs for postretirement health benefits and are reviewing the impact
on our accumulated plan benefit obligation and expense going forward.           
   In May 2003 the FASB  issued  SFAS 150,  "Accounting  for  Certain  Financial
Instruments  with  Characteristics  of both Liabilities and Equity." In general,
SFAS 150  established  standards for  classification  and measurement of certain
financial  instruments with the  characteristics of both liabilities and equity.
Mandatorily  redeemable financial  instruments must be classified as a liability
and the related  payments  must be reported as interest  expense.  The new rules
became effective in the third quarter of 2003 for previously  existing financial
instruments.  Beginning  with the third  quarter of 2003,  we  reclassified  our
Mandatorily  Redeemable  Preferred  Securities  as  a  long-term  liability  and
reclassified  the  quarterly  distributions  as  interest  expense.  This  was a
reclassification  only  and  did not  impact  our  results  of  operations.  The
Mandatorily  Redeemable  Preferred Securities were redeemed in December 2003.   
   In January  2003 the FASB issued  Interpretation  No. 46,  "Consolidation  of
Variable Interest  Entities." In general, a variable interest entity is one with
equity  investors  that do not have voting  rights or do not provide  sufficient
financial  resources  for the entity to support  its  activities.  Under the new
rules,  variable interest entities are consolidated by the party that is subject
to the  majority of the risk of loss or entitled to the majority of the residual
returns. In December 2003 the FASB issued  Interpretation No. 46R to replace and
clarify some of the provisions of  Interpretation  No. 46. Under  Interpretation
46R,  the rules  became  effective  on December 15, 2003 for interest in certain
structures,  and March 15, 2004 for interest in all other structures. We are not
a party to any  variable  interest  entity  required  to be  consolidated  under
Interpretation No. 46R.                                                         

--------------------------------------------

FACTORS THAT MAY AFFECT FUTURE RESULTS                                          

   READERS  ARE  CAUTIONED  THAT  FORWARD-LOOKING  STATEMENTS,  INCLUDING  THOSE
CONTAINED IN THIS FORM 10-K,  SHOULD BE READ IN CONJUNCTION WITH OUR DISCLOSURES
UNDER  THE  HEADING:   "SAFE  HARBOR  STATEMENT  UNDER  THE  PRIVATE  SECURITIES
LITIGATION  REFORM  ACT OF 1995"  LOCATED  ON PAGE 10 OF THIS  FORM 10-K AND THE
FACTORS DESCRIBED BELOW. THE RISKS AND UNCERTAINTIES DESCRIBED IN THIS FORM 10-K
ARE NOT THE ONLY ONES FACING OUR  COMPANY.  ADDITIONAL  RISKS AND  UNCERTAINTIES
THAT WE ARE NOT PRESENTLY  AWARE OF, OR THAT WE CURRENTLY  CONSIDER  IMMATERIAL,
MAY ALSO AFFECT OUR BUSINESS  OPERATIONS.  OUR BUSINESS,  FINANCIAL CONDITION OR
RESULTS OF OPERATIONS COULD SUFFER IF THE CONCERNS SET FORTH BELOW ARE REALIZED.

THERE ARE RISKS ASSOCIATED WITH OUR RESTRUCTURING OF THE COMPANY.               

   In October 2003 we announced  plans to restructure  ALLETE by spinning off to
ALLETE  shareholders  our  Automotive  Services  business  which  will  become a
publicly traded company doing business as ADESA.  Although we expect to complete
the  restructuring in the third quarter of 2004, there are risks associated with
proceeding that could have adverse consequences, including:                     
   - Cost synergies  may  be  eliminated  as  some fixed operating costs will no
     longer be shared,  thereby  potentially  adversely affecting the results of
     operations of the separate entities.  For example,  costs may increase as a
     result of having two boards of directors and management  teams,  as well as
     separate   computer   systems,   financial   audits   and  SEC   compliance
requirements.                                                         
   - The spin-off requires a  favorable  tax  opinion. If  not  obtained and the
     spin-off is not consummated for that or any other reason, ALLETE could face
challenges in                                                         

--------------------------------------------------------------------------------
 PAGE 46

10-K
42nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 42nd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

     refocusing the company,  suffer a credibility crisis from the standpoint of
     the financial  markets and our  shareholders  and,  consequently,  ALLETE's
     share price could be negatively  impacted.  If the spin-off is delayed, the
cost of the separation could increase.                                
   - Shareholders could  experience  significant stock price volatility when the
     businesses begin trading as separate  companies.  The value of the separate
     shares  could  differ  significantly  from the  value of the  shares of the
     combined  company as the  marketplace  determines the price of the separate
     shares. We are unable to predict how or at what level the shares will trade
publicly.                                                             
   - There is no assurance as to the extent that dividends, if any, will be paid
     on the shares of ADESA and the amount of dividends to be paid on the shares
     of  ALLETE  after  the  spin-off  may vary  significantly  from the  amount
currently paid on the shares of the combined company.                 
   - The ability of the separate companies to  raise  capital  may  be adversely
     impacted.  The cost of  borrowing  may  increase  and new  separate  credit
ratings will be assigned.                                             
   - ALLETE as a combined company  has  benefited  from  the  diversification of
     business  operations.   The  lack  of  diversification  faced  by  separate
     companies may result in more stock price volatility.  For example, if there
     is a downturn  in the auto  business  the share  price of ADESA may decline
more  sharply  than if it was  part of a more  diversified  entity.   

WE ARE DEPENDENT ON OUR ABILITY TO SUCCESSFULLY ACCESS CAPITAL MARKETS.         

   Inability to access capital may limit our ability to execute  business plans,
pursue  improvements  or make  acquisitions  that we may  otherwise  rely on for
future growth.  We rely on access to both short-term  borrowings,  including the
issuance of commercial  paper,  and long-term  capital  markets as a significant
source of liquidity for capital requirements not satisfied by the cash flow from
our operations.  If we are not able to access capital at competitive  rates, the
ability to  implement  our  business  plans may be  adversely  affected.  Market
disruptions  or a  downgrade  of our credit  ratings  may  increase  the cost of
borrowing  or  adversely  affect our  ability  to access  one or more  financial
markets.                                                                        

OUR CREDIT RATINGS COULD BE REVISED DOWNWARD.                                   

   The current credit ratings for ALLETE's  long-term debt are investment grade.
A  rating  reflects  only  the  view  of a  rating  agency,  and  it  is  not  a
recommendation to buy, sell or hold securities. Any rating can be revised upward
or downward at any time by a rating  agency if such rating  agency  decides that
circumstances  warrant  such a change.  If Standard & Poor's or Moody's  were to
downgrade  ALLETE's  long-term  ratings,  particularly  below investment  grade,
borrowing  costs would  increase and the potential pool of investors and funding
sources would likely decrease.                                                  

WE ARE SUBJECT TO EXTENSIVE  GOVERNMENTAL  REGULATIONS  THAT MAY HAVE A NEGATIVE
IMPACT ON OUR BUSINESS AND RESULTS OF OPERATIONS.                               

   We are subject to prevailing  governmental  policies and regulatory  actions,
including  those of the United States  Congress,  Canadian  federal  government,
state and provincial  legislatures,  the FERC, the MPUC, the FPSC, the NCUC, the
PSCW, and various county regulators and city administrators, about allowed rates
of return, financings, industry and rate structure,  acquisition and disposal of
assets and facilities,  operation and construction of plant facilities, recovery
of purchased power and capital investments, and present or prospective wholesale
and retail competition (including but not limited to transmission costs) as well
as general  vehicle-related  laws, including vehicle brokerage and auction laws.
These governmental regulations significantly influence our operating environment
and may affect our ability to recover costs from our customers.  We are required
to have  numerous  permits,  approvals and  certificates  from the agencies that
regulate  our  business.  We  believe  the  necessary  permits,   approvals  and
certificates have been obtained for existing operations and that our business is
conducted in accordance with applicable laws;  however, we are unable to predict
the impact on operating results from the future regulatory  activities of any of
these  agencies.   Changes  in  regulations  or  the  imposition  of  additional
regulations could have an adverse impact on our results of operations.          
   Recent  events  in the  energy  markets  that are  beyond  our  control  have
increased the level of public and regulatory scrutiny in our industry and in the
capital  markets and have resulted in increased  regulation  and new  accounting
standards.  The  reaction  to these  events  may have  negative  impacts  on our
business, financial condition and access to capital.                            

OUR OPERATIONS POSE CERTAIN ENVIRONMENTAL RISKS WHICH COULD ADVERSELY AFFECT OUR
RESULTS OF OPERATIONS AND FINANCIAL CONDITION.                                  

   We are subject to extensive environmental laws and regulations affecting many
aspects of our  present  and future  operations  including  air  quality,  water
quality, waste management and other environmental considerations. These laws and
regulations can result in increased  capital,  operating,  and other costs, as a
result of  compliance,  remediation,  containment  and  monitoring  obligations,
particularly  with regard to laws relating to power plant emissions.  These laws
and regulations generally require us to obtain and comply with a wide variety of
environmental licenses,  permits,  inspections and other approvals.  Both public
officials and private  individuals may seek to enforce applicable  environmental
laws and regulations.  We cannot predict the financial or operational outcome of
any related litigation that may arise.                                          
   There are no assurances that existing  environmental  regulations will not be
revised or that new regulations  seeking to protect the environment  will not be
adopted or become  applicable to us.  Revised or additional  regulations,  which
result in  increased  compliance  costs or  additional  operating  restrictions,
particularly if those costs are not fully recoverable                           

--------------------------------------------------------------------------------
 PAGE 47

10-K
43rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 43rd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

from customers,  could have a material effect on our results of operations.     
   We  cannot  predict  with  certainty  the  amount  or  timing  of all  future
expenditures  related to  environmental  matters  because of the  difficulty  of
estimating clean up costs. There is also uncertainty in quantifying  liabilities
under  environmental  laws  that  impose  joint  and  several  liability  on all
potentially responsible parties. (See Environmental and Other Matters.)         
   In the vehicle redistribution industry, large numbers of vehicles,  including
damaged vehicles at salvage vehicle auctions,  are stored at auction  facilities
and, during that time,  releases of fuel,  motor oil and other fluids may occur,
resulting in soil, surface water, air or groundwater contamination. In addition,
we generate  and/or  store  petroleum  products and other  hazardous  materials,
including  wastewater,  waste  solvents  and used oil  run-off  from our vehicle
reconditioning  and detailing  facilities,  and body shops at our facilities may
release  harmful  air  emissions  associated  with  painting.   We  could  incur
substantial expenditures for preventative,  investigative or remedial action and
could be exposed to liability  arising  from our  operations,  contamination  by
previous  users of our  acquired  facilities,  or the  disposal  of our waste at
off-site  locations.  Any such expenditures or liabilities could have a material
adverse effect on our results of operations and financial condition.            

THE OPERATION AND MAINTENANCE OF OUR GENERATING  FACILITIES  INVOLVES RISKS THAT
COULD SIGNIFICANTLY INCREASE THE COST OF DOING BUSINESS.                        

   The operation of generating  facilities involves many risks,  including start
up risks,  breakdown or failure of  facilities,  lack of  sufficient  capital to
maintain the facilities,  the dependence on a specific fuel source or the impact
of unusual or adverse weather conditions or other natural events, as well as the
risk  of  performance  below  expected  levels  of  output  or  efficiency,  the
occurrence  of any of  which  could  result  in lost  revenue  and/or  increased
expenses.  A significant portion of Minnesota Power's facilities was constructed
many years ago. In particular, older generating equipment, even if maintained in
accordance with good  engineering  practices,  may require  significant  capital
expenditures  to keep it operating at peak  efficiency.  This  equipment is also
likely to require periodic  upgrading and improvement.  Minnesota Power could be
subject to costs  associated  with any  unexpected  failure  to  produce  power,
including  failure  caused by breakdown or forced  outage,  as well as repairing
damage to facilities due to storms, natural disasters,  wars, terrorist acts and
other  catastrophic  events.  Further,  our ability to  successfully  and timely
complete capital  improvements to existing  facilities or other capital projects
is contingent upon many variables and subject to substantial  risks.  Should any
such efforts be unsuccessful, we could be subject to additional costs and/or the
write-off of our investment in the project or improvement.                      

ENERGY SERVICES MUST HAVE ADEQUATE AND RELIABLE  TRANSMISSION  AND  DISTRIBUTION
FACILITIES TO DELIVER OUR ELECTRICITY TO OUR CUSTOMERS.                         

   Minnesota Power depends on transmission and distribution facilities owned and
operated by other utilities, as well as its own such facilities,  to deliver the
electricity it produces and sells to its  customers,  as well as to other energy
suppliers.  If  transmission  capacity  is  inadequate,  our ability to sell and
deliver  electricity may be hindered,  we may have to forgo sales or we may have
to  buy  more  expensive   wholesale   electricity  that  is  available  in  the
capacity-constrained  area. The cost to provide  service to these  customers may
exceed the cost to service other customers, resulting in lower gross margins. In
addition,  any  infrastructure  failure that  interrupts or impairs  delivery of
electricity to our customers  could  negatively  impact the  satisfaction of our
customers with our service.                                                     

THE PRICE OF ONE OF  OUR MAJOR  PRODUCTS,  ELECTRICITY, AND/OR  ONE OF OUR MAJOR
EXPENSES, FUEL, MAY BE VOLATILE.                                                

Volatility in market prices for fuel and electricity may result from:     
- severe or unexpected weather conditions;                                
- seasonality;                                                            
- changes in electricity usage;                                           
   - the current diminished liquidity in the wholesale power markets as  well as
any future illiquidity in these or other markets;                     
   - transmission    or    transportation    constraints,    inoperability    or
inefficiencies;                                                       
- availability of competitively priced alternative energy sources;        
- changes in supply and demand for energy commodities;                    
- changes in power production capacity;                                   
   - outages  at  Minnesota  Power's  generating  facilities  or  those  of  our
competitors;                                                          
   - changes in production and  storage levels of natural gas, lignite, coal and
crude oil and refined products;                                       
   - natural  disasters, wars,  sabotage,  terrorist acts, embargoes  and  other
catastrophic events; and                                              
   - federal,  state,  local  and   foreign  energy,  environmental  and   other
regulation and legislation.                                           
   Since   fluctuations  in  fuel  expense  related  to  our  regulated  utility
operations  are  passed  on to  customers  through  our  fuel  clause,  risk  of
volatility  in  market  prices  for  fuel and  electricity  mainly  impacts  our
nonregulated  operations at this time.                                          

THE VOLATILE NATURE OF VEHICLE SALES MAY ADVERSELY AFFECT OUR PROFITABILITY.    

   The vehicle industry is cyclical and  historically  has experienced  periodic
downturns  characterized by oversupply and weak demand.  Many factors affect the
industry,  including general economic conditions and consumer  confidence,  fuel
prices, the level of discretionary personal income, unemployment rates, interest
rates, credit availability and insurance premiums.                              
   New and used vehicle sales  substantially  slowed  immediately  following the
terrorist attacks of September 11, 2001. In response,  manufacturers  introduced
new incentives (including                                                       

--------------------------------------------------------------------------------
 PAGE 48

10-K
44th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 44th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

0% financing) and rental car companies began to downsize their inventories. This
led to decreases in the prices of both used and salvage vehicles and a temporary
decline in conversion  percentages  in the auction  industry  because the prices
that  buyers  were  willing to pay for  vehicles  did not match the prices  that
sellers were willing to accept. In 2002 the manufacturers extended and increased
the  incentives  leading to additional  declines in both used vehicle prices and
conversion percentages.  We are not able to determine the long-term consequences
the terrorist attacks and/or  subsequent  outbreaks of hostilities might have on
general economic conditions,  our industry, or ADESA, nor are we able to predict
how used vehicle  prices and conversion  percentages  may be affected by new and
additional incentives or other changes by the manufacturers aimed at the new car
market.                                                                         
   Used  vehicle  sales are  driven  by  consumer  demand.  As  consumer  demand
fluctuates,  the volume  and prices of used  vehicles  may be  affected  and the
demand for used  vehicles at auction by dealers may  likewise be  affected.  The
demand for used vehicles at auction by dealers may  therefore  have an effect on
the wholesale  price of used vehicles and the conversion  percentage of vehicles
sold at auction.                                                                
   The number of new and used vehicles that are leased by consumers  affects the
supply of vehicles coming to auction.  As  manufacturers  and other lenders have
decreased  the  number of leases  in the last few years and  extended  the lease
terms of some of the leases that were written,  the number of off-lease vehicles
available  at auction  declined in 2003 and that decline is expected to continue
in 2004 and  2005.  We are not able to  predict  the  manufacturers'  and  other
lenders'  approaches to leasing,  and thus future volumes of off-lease  vehicles
may be affected based upon leasing trends.                                      
   Program  vehicles  are  vehicles  used by  rental  car  companies  and  other
companies  with  individual  corporate  fleets of vehicles  that are returned to
manufacturers through repurchasing  programs. The volume of program vehicles and
the  terms  of the  programs  have an  effect  on the  volume  of used  vehicles
available  for  sale at  auction  since  the  majority  of  these  vehicles  are
redistributed via the used vehicle auction process.                             
   Repossessed vehicles are a source of volume for used vehicle auctions and are
dependent upon both economic  conditions  and the policies of lenders  regarding
their credit practices.  As these economic  conditions and policies change,  the
volume of vehicles available for sale at auction may also be affected.          
   Insurance  companies  are the main source of salvage  vehicles  available for
sale at auction.  The number of vehicles  branded as salvage is  dependent  upon
several factors including  government  regulations,  the extent of damage to the
vehicle,  the number of accidents,  and the policies of the insurance  companies
with respect to claims settlement and redistribution of the salvage vehicles.   
   If the  volume  of used or  salvage  vehicles  sold at our  auctions  were to
decline due to any of the factors  described above or for any other reason,  the
revenue we earn from  successful  auction  transactions  and ancillary  services
would  decline.  In  addition,  the  fixed  costs  associated  with our  auction
facilities would remain relatively constant.  As a result of these consequences,
our profitability could be adversely affected.                                  

ALLETE'S ENERGY SERVICES BUSINESS IS SUBJECT TO INCREASED COMPETITION.          

   The  independent   power  industry   includes  numerous  strong  and  capable
competitors,   many  of  which  have  extensive  experience  in  the  operation,
acquisition and development of power  generation  facilities.  Energy  Services'
competition is based  primarily on price and reputation for quality,  safety and
reliability.   The  electric   utility  and  natural  gas  industries  are  also
experiencing  increased  competitive  pressures as a result of consumer demands,
technological advances, deregulation,  greater availability of natural gas-fired
generation and other factors.                                                   

THE VEHICLE REDISTRIBUTION INDUSTRY IS HIGHLY COMPETITIVE AND WE MAY NOT BE ABLE
TO COMPETE SUCCESSFULLY.                                                        

   We face  significant  competition for the supply of used and salvage vehicles
and for the buyers of those  vehicles.  We  believe  our  principal  competitors
include  other used  and/or  salvage  vehicle  auction  companies,  wholesalers,
dealers,  manufacturers  and dismantlers,  a number of whom may have established
relationships with sellers and buyers of vehicles and may have greater financial
resources  than we have.  Due to  the  limited  number  of  sellers  of used and
salvage vehicles,  the absence of long-term  contractual  commitments between us
and our customers and the increasingly competitive market environment, there can
be no assurance that our competitors will not gain market share at our expense. 
   We may encounter  significant  competition  for local,  regional and national
supply  agreements  with sellers of used and salvage  vehicles.  There can be no
assurance  that the  existence  of other local,  regional or national  contracts
entered into by our competitors  will not have a material  adverse effect on our
business or our expansion plans. Furthermore,  we are likely to face competition
from major  competitors in the  acquisition of auction  facilities,  which could
significantly  increase  the cost of such  acquisitions  and thereby  materially
impede our expansion objectives or have a material adverse effect on our results
of operations.  These potential  competitors may include  consolidators  of used
vehicle  auctions,  vehicle  dismantling  businesses,  organized salvage vehicle
buying groups,  vehicle manufacturers and on-line auction companies.  While most
of our  institutional  customers  have  abandoned  or  reduced  efforts  to sell
vehicles  directly without the use of service providers such as us, there can be
no assurance that this trend will  continue,  which could  adversely  affect our
market share, results of operations and financial condition.                    
   We may also encounter  competition in our floorplan financing  business.  The
floorplan   financing   sector  is                                              

--------------------------------------------------------------------------------
 PAGE 49

10-K
45th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 45th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

characterized by diverse and fragmented competition.  AFC's competition includes
the financing arms of other auction providers,  other speciality lenders,  banks
and other financial  institutions.  There can be no assurance that the existence
of other floorplan financing  providers nor the entrance of new providers to the
sector will not have a material  adverse  effect on AFC,  its ability to compete
successfully  in the  floorplan  financing  sector,  or our  overall  ability to
compete in the vehicle redistribution industry.                                 
   Additionally,  existing or new  competitors may be  significantly  larger and
have greater financial and marketing  resources than we have;  therefore,  there
can be no assurance that we will be able to compete successfully in the future. 

INCREASED USE OF ON-LINE WHOLESALE AUCTIONS MAY DIMINISH OUR SUPPLY OF VEHICLES.

   Direct sales of used  vehicles by  institutional  customers  and large dealer
groups through internally developed or third party on-line auctions have largely
replaced  telephonic  and other  non-auction  methods,  becoming  an  increasing
portion of overall used vehicle  redistribution  over the past several years. In
addition,  a portion of the vehicles  that were sold through a physical  auction
are now being sold on-line.  Typically,  on-line  auctions serve to redistribute
vehicles that have come off lease. The extent of use of direct,  on-line systems
varies among institutional customers and currently comprises approximately 3% to
5% of overall used vehicle auction sales.  In addition,  some of our competitors
have begun to offer on-line  auctions as all or part of their  auction  business
and other on-line  auctions now include used vehicles among the products offered
at their  auctions.  On-line  auctions or other  methods of  redistribution  may
diminish  both the quality and  quantity  and reduce the value of vehicles  sold
through traditional  auction facilities.  Although we have embraced the Internet
and  offer  on-line  auctions  and  services  as  part of our  standard  service
offerings,  we cannot  predict what  portion of overall  sales will be conducted
through on-line auctions or other redistribution  methods in the future and what
impact this may have on our auction facilities.                                 

OUR OPERATIONS ARE WEATHER SENSITIVE.                                           

   Our results of operations can be affected by changes in the weather.  Weather
conditions directly influence the demand for electricity and natural gas, affect
the price of energy  commodities  and affect the  ability to perform  energy and
automotive services. Auction volumes tend to decline during prolonged periods of
winter weather conditions. In addition, mild weather conditions and decreases in
traffic volume can lead to a decline in the available supply of salvage vehicles
because  fewer traffic  accidents  occur,  resulting in fewer  damaged  vehicles
overall.  We cannot predict future weather  conditions and as a result,  adverse
weather   conditions  could  negatively  affect  our  operations  and  financial
condition.                                                                      

SEASONALITY OF THE AUCTION BUSINESS AFFECTS OUR QUARTERLY REVENUE AND EARNINGS. 

   Generally, the volume of vehicles sold at auction is highest in the first and
second  calendar  quarters of each year and slightly lower in the third quarter.
Fourth  quarter  sales  are  generally  lower  than  all  other  quarters.  This
seasonality is affected by several factors including weather, the timing of used
vehicles available for sale from the institutional customers,  holidays, and the
seasonality of the retail market for used vehicles which affects the demand side
of the auction industry. As a result, the revenue and operating expenses related
to volume will fluctuate accordingly on a quarterly basis.                      

IF OUR SIGNIFICANT  ENERGY SERVICES  CUSTOMERS ARE NEGATIVELY  IMPACTED BY WORLD
ECONOMICS, OUR REVENUE MAY BE NEGATIVELY IMPACTED.                              

   Our Large Power  Customers are impacted by world  economics that affect their
competitive  position and  profitability.  Taconite producers and paper and wood
products  customers served by Minnesota Power compete in this world marketplace.
Their inability to compete in their global markets could have a material adverse
effect on their  operations  and  continuation  as a business.  Any such failure
could have a material  adverse effect on Energy  Services  results of operations
and the  surrounding  communities  we  serve.                                   

WE ARE DEPENDENT ON GOOD LABOR RELATIONS.                                       

   We believe our relations to be good with our approximately  13,000 employees.
   Energy  Services  has  approximately  1,400  full-time  employees,  of  which
approximately  700 are  either  a member  of the  International  Brotherhood  of
Electrical Workers Local 31 or Local 1593.  Failure to successfully  renegotiate
labor  agreements could adversely affect the services we provide and our results
of operations.  The labor  agreements  with Local 31 expire on January 31, 2006.
Negotiations  are  underway  for a new  contract  with Local 1593.  The existing
agreement with Local 1593 ends on March 31, 2004.                               
   In addition to its regular employees,  Automotive Services utilizes temporary
labor services to assist in handling the vehicles consigned to it during periods
of peak volume and staff shortages. Many of Automotive Services' employees, both
full-time  and  part-time,  are  unskilled,  and in periods  of strong  economic
growth, we may find it difficult to compete for sufficient unskilled labor. Many
of the services we provide are outsourced to third party  providers that perform
the  services  either  on-site or  off-site.  The use of third  party  providers
depends upon the resources  available at each auction  facility as well as peaks
in the volume of vehicles  offered at auction.  If we are unable to maintain our
full-time,  part-time or contract workforce or the necessary  relationships with
third party providers, our operations may be adversely affected.                
   In addition,  auctioneers at our auctions are highly skilled  individuals who
are essential to the successful operation of our auction business. Nearly all of
our  auctioneers  are  independent  contractors who provide their services for a
daily or  weekly  rate.  If we are  unable  to  retain a  sufficient  number  of
experienced auctioneers, our operations may be adversely affected.              

--------------------------------------------------------------------------------
 PAGE 50

10-K
46th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 46th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

OUR  AUTOMOTIVE  SERVICES  OPERATIONS  SUBJECT  US TO  THE  RISK  OF  COLLUSION,
MISCONDUCT AND OTHER  IMPROPER  BUSINESS  PRACTICES BY OUR  AUTOMOTIVE  SERVICES
EMPLOYEES AND THIRD PARTIES.                                                    

   In the  past,  some  of our  Automotive  Services  employees  have  acted  in
collusion with one another,  with individual  contractors or third party service
providers,   and/or  with  customers,  in  order  to  manipulate  our  policies,
procedures  and  systems.  Some of our auction  employees  also have  engaged in
misconduct or wrongdoing, including isolated acts of dishonesty and malfeasance,
exercised poor judgment or otherwise  conducted  business in an improper manner.
In addition,  customers acting in collusion have redistributed  vehicles through
our  auctions  on  terms  that  were  not  arms  length.  As a  result  of these
activities,  our services have been sold at a discount or for no fee, credit has
been extended outside of the normal course of operations,  unnecessary  services
have been  provided and  operating  costs have  increased.  We have enhanced our
internal control systems and conduct random on-site audits of auction facilities
to identify and minimize these activities. While collusion, misconduct and other
improper  business  practices  have not had a  material  adverse  effect  on our
operating  results in the past, we cannot assure you that activities  similar to
those  described above will not occur in the future or will be detected by us in
a timely manner or before a material loss is incurred.  If our internal controls
fail to prevent future acts of collusion, misconduct and other improper business
practices,  resulting losses could have a material adverse effect on our results
of operations and financial condition.                                          

IF WE ARE NOT ABLE TO RETAIN OUR EXECUTIVE  OFFICERS AND KEY  EMPLOYEES,  WE MAY
NOT BE ABLE TO IMPLEMENT OUR BUSINESS STRATEGY AND OUR BUSINESS COULD SUFFER.   

   If we fail to retain our executive  officers or key employees,  our  business
could suffer.  We may have  difficulty in retaining  and  attracting  customers,
developing new services,  negotiating  favorable  agreements  with customers and
providing  acceptable levels of customer service.  Although  leadership  changes
will  occur  in  connection  with  the  spin-off,   we  cannot  predict  whether
significant resignations will occur. The success of our business heavily depends
on the leadership of our executive officers,  all of whom are  employees-at-will
and none of whom are subject to any  agreements  not to compete.  If we lose the
service of one or more of our executive officers or key employees,  or if one or
more of them  decides to join a  competitor  or  otherwise  compete  directly or
indirectly  with us, we may not be able to  successfully  manage our business or
achieve our business objectives.                                                

WE ASSUME THE SETTLEMENT RISK FOR ALL VEHICLES SOLD THROUGH OUR AUCTIONS.       

   As part of the fees earned for the  services we provide  relative to the sale
of each vehicle at auction,  we assume the risk  associated  with collecting the
gross  sales  proceeds  from  buyers  and  likewise  assume  responsibility  for
distributing  to sellers the net sales  proceeds of vehicles.  The fees for each
vehicle  are  collected  by adding  the  buyer-related  fees to the gross  sales
proceeds due from the buyer and deducting the seller-related fees from the gross
sales proceeds prior to distributing  the net sales proceeds to the seller.  The
amount we report as revenue for each vehicle only represents the fees associated
with our  services  and does not include the gross sales price of the  consigned
vehicle.  As a result, the accounts  receivable from buyers are much larger on a
per vehicle basis than the combined  seller- and  buyer-related  fees associated
with each  transaction.  We do not have recourse against sellers for any buyer's
failure to satisfy its debt. Since our revenue for each vehicle does not include
the gross  sales  proceeds,  failure to collect  the  receivables  in full would
result in a net loss up to the gross sales  proceeds  on a per vehicle  basis in
addition to any expenses  incurred to collect the receivables and to provide the
services  associated  with the vehicle.  Although we take steps to mitigate this
risk,  if we are unable to collect  payments on a large  number of vehicles  our
resulting  payment  obligations  and  decreased  fee revenue may have a material
adverse effect on our results of operations and financial condition.            
   In addition,  in the ordinary course of business, it is our responsibility to
fully  disclose  any  defects or other  information  relevant  to the value of a
vehicle sold through our auctions  that we have  discovered  or of which we have
been  informed  by the  seller.  In  cases  where we fail to  properly  disclose
information about a particular  vehicle,  we typically refund the fees collected
and  void the  sale of the  vehicle.  If we are  unable  to  reach a  settlement
satisfactory to the seller, we generally purchase the vehicle, which subjects us
to the costs and risks of resale.                                               

WE RELY  HEAVILY  ON  TECHNOLOGY  TO  PROTECT  OUR  RIGHTS  WITH  RESPECT TO OUR
BUSINESSES AND MUST ADAPT TO EVOLVING APPLICATIONS. CHANGES  IN TECHNOLOGY COULD
CAUSE OUR SERVICES TO BECOME OBSOLETE AND, AS A RESULT, WE MAY LOSE CUSTOMERS.  

   In both our Energy Services and Automotive Services businesses, technology is
an  integral  part  of  our  operations  and is  subject  to  evolving  industry
standards.  The  information  systems and  processes  necessary  to support risk
management,  sales, customer service and procurement and supply are new, complex
and  extensive.  To be  successful,  we must  adapt to this  evolving  market by
continually  improving  the  responsiveness,  functionality  and features of our
services  and  systems  to meet our  customers'  changing  needs.  We may not be
successful  in  developing  or acquiring  technology  which is  competitive  and
responsive to the needs of our customers and might lack sufficient  resources to
continue to make the  necessary  investments  in  technology to compete with our
competitors.  Without the timely  introduction of new services and  enhancements
that take advantage of the latest technology,  some of our services could become
obsolete over time and we could lose a number of our customers.                 
   We develop software internally and through outsourcing relationships,  and we
have also licensed and may license in the future,  copyrighted  computer systems
software and trade secrets from third  parties.  While we attempt to ensure that
our intellectual  property and similar proprietary rights are protected and that
the third party rights we need are licensed                                     

--------------------------------------------------------------------------------
 PAGE 51

10-K
47th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 47th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART II

to  us  when  entering  into  business  relationships,  our  business  partners,
consultants  or other third parties may take actions that could  materially  and
adversely affect our rights or the value of our intellectual  property,  similar
proprietary  rights  or  reputation.  In  addition,  if we  are  subject  to any
infringement  claims,  such  claims may have an adverse  effect on our  business
operations.                                                                     

OUR  OPERATIONS MAY BE RESTRICTED BY  VEHICLE-RELATED  OR LENDING LAWS AND OTHER
REGULATIONS, INCLUDING VEHICLE BROKERAGE AND AUCTION LAWS.                      

   Our  operations are subject to regulation,  supervision  and licensing  under
various  U.S.  or  Canadian  federal,  state,  provincial  and  local  statutes,
ordinances  and  regulations.  Each  auction  is subject to laws in the state or
province in which it operates which regulate auctioneers and/or vehicle dealers.
Some of the  transport  vehicles  used at our auctions are regulated by the U.S.
Department  of  Transportation  or  the  Canadian   Transportation  Agency.  The
acquisition  and sale of salvage and theft  recovered  vehicles is  regulated by
governmental  agencies in each of the  locations  in which we  operate.  In many
states and provinces, regulations require that the title of a salvage vehicle be
forever  "branded"  with  a  salvage  notice  in  order  to  notify  prospective
purchasers of the vehicle's previous salvage status. Some state,  provincial and
local  regulations  also limit who can  purchase  salvage  vehicles,  as well as
determine  whether a salvage  vehicle can be sold as rebuildable or must be sold
for parts only. Such  regulations  can reduce the number of potential  buyers of
vehicles at salvage  auctions.  In addition to the  regulation  of the sales and
acquisition   of  vehicles,   we  are  also  subject  to  various  local  zoning
requirements  with  regard to the  location  and  operation  of our  auction and
storage facilities.                                                             
   If we fail to comply with applicable  regulations and requirements,  we could
be subject to civil or criminal  liability and the imposition of liens or fines.
In addition, existing regulations may be revised or reinterpreted,  new laws and
regulations  may be adopted or become  applicable to us or our  facilities,  and
future  changes  in laws and  regulation  may have a  detrimental  effect on our
businesses.                                                                     

A PORTION OF OUR REVENUE MAY BE DERIVED FROM NON-UNITED  STATES  SOURCES,  WHICH
EXPOSES US TO FOREIGN EXCHANGE AND OTHER RISKS.                                 

   Approximately  10% of our  consolidated  revenue is derived from our Canadian
facilities.  We also conduct  operations  in Mexico.  As a result,  fluctuations
between United States and non-United States currency values may adversely affect
our results of operations  and financial  position.  In addition,  there are tax
inefficiencies in repatriating cash flow from non-United States subsidiaries. To
the extent such  repatriation  is  necessary  for us to meet our debt service or
other  obligations,  these tax  inefficiencies may adversely affect us.         

ADEQUATE INSURANCE PROTECTION MAY NOT BE COST EFFECTIVE OR AVAILABLE TO MINIMIZE
RISK.                                                                           

   Insurance,  warranties or performance  guarantees may not cover any or all of
the lost revenue or increased expenses,  including the cost of replacement power
and cancellation of sale days at auction sites.  Likewise, our ability to obtain
insurance,  and the cost of and coverage  provided by such  insurance,  could be
affected by events outside our control.                                         

RISKS  ASSOCIATED WITH  ACQUISITIONS  MAY HINDER OUR ABILITY TO INCREASE REVENUE
AND EARNINGS.                                                                   

   Both the energy and vehicle  redistribution  industries are considered mature
industries  in which low single digit growth is expected in industry unit sales.
Accordingly,  our future growth depends in large part on our ability to increase
our volumes relative to our competition,  acquire additional businesses,  manage
expansion,  control  costs  in  our  operations,  introduce  new  services,  and
consolidate future acquisitions into existing operations. In pursuing a strategy
of acquiring other  businesses,  we face risks commonly  encountered with growth
through acquisitions. These risks include, but are not limited to:              
   - incurring significantly higher capital expenditures and operating expenses;
   - failing  to  assimilate  the  operations  and  personnel  of  the  acquired
businesses;                                                           
- entering new markets with which we are unfamiliar;                      
- potential undiscovered liabilities at acquired businesses;              
- disrupting our ongoing business;                                        
- diverting our limited management resources;                             
- failing to maintain uniform standards, controls and policies;           
   - impairing relationships with employees and customers as a result of changes
in management; and                                                    
   - increasing  expenses  for  accounting  and  computer  systems,  as well  as
integration difficulties.                                             
   We may not  adequately  anticipate  all of the  demands  that our growth will
impose on our systems,  procedures and  structures,  including our financial and
reporting control systems, data processing systems and management structure.  If
we cannot adequately anticipate and respond to these demands, our business could
be materially harmed.                                                           
   Although we conduct  what we believe to be a prudent  level of  investigation
regarding the operating condition of the businesses we purchase, in light of the
circumstances  of  each  transaction,  an  unavoidable  level  of  risk  remains
regarding the actual operating condition of these businesses.  Until we actually
assume  operating  control  of  such  business  assets,  we may  not be  able to
ascertain the actual value of the acquired entity.                              

WE  CANNOT  GUARANTEE THAT GREENFIELD DEVELOPMENT OR RELOCATION OF AUCTION SITES
WILL BE PROFITABLE.                                                             

   The costs of greenfield development or relocation of our auction sites may be
substantial.  In addition,  we may  encounter  delays and scope changes while an
auction site is under development that cause our capital  investment to increase
and our returns to be lower than  expected.  Although  our strategy is to secure
support from institutional customers and insurance companies prior to developing
new or  relocated  facilities,  there  is no  guarantee  that  new or  relocated
facilities will be able to attract these customers or deliver  sustained revenue
or profit.                                                                      

--------------------------------------------------------------------------------
 PAGE 52

10-K
48th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 48th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART II 

WE CAN OFFER YOU NO  ASSURANCES  THAT WE WILL BE ABLE TO CONTINUE  EXECUTING  AN
ACQUISITION STRATEGY WITHOUT THE COSTS OF FUTURE ACQUISITIONS ESCALATING.       

   Although there are potential acquisition  candidates that fit our acquisition
criteria,  we are not  certain  that we will  be  able to  consummate  any  such
transactions in the future or identify those candidates that would result in the
most successful  combinations,  or that future  acquisitions  will be able to be
consummated at acceptable prices and terms. In addition,  increased  competition
for acquisition  candidates could result in fewer acquisition  opportunities for
us and higher acquisition prices. The magnitude,  timing,  pricing and nature of
future acquisitions will depend upon various factors, including:                
- the availability of suitable acquisition candidates;                    
   - competition with other industry groups or new  industry  consolidators  for
suitable acquisitions;                                                
- the negotiation of acceptable terms;                                    
- our financial capabilities;                                             
   - the availability of skilled employees to manage the acquired companies; and
- general economic and business conditions.                               
   We  may  be  required  to  file  applications  and  obtain  clearances  under
applicable  federal  antitrust  laws before  completing  an  acquisition.  These
regulatory requirements may restrict or delay our acquisitions, and may increase
the cost of completing acquisitions.                                            

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK             

   See Item 7. Management's Discussion and Analysis of Results of Operations and
Financial  Condition - Market Risk for information  related to quantitative  and
qualitative  disclosure  about market risk.                                     

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA                             

   See our  consolidated  financial  statements as of December 31, 2003 and 2002
and for each of the three  years in the period  ended  December  31,  2003,  and
supplementary data, also included, which are indexed in Item 15(a).             

ITEM  9.  CHANGES  IN AND  DISAGREEMENTS  WITH  ACCOUNTANTS  ON  ACCOUNTING  AND
FINANCIAL DISCLOSURE                                        

Not applicable.                                                           

ITEM 9A. CONTROLS AND PROCEDURES                                                

   We  maintain  a  system  of  controls  and  procedures  designed  to  provide
reasonable assurance as to the reliability of the financial statements and other
disclosures  included  in  this  report,  as well as to  safeguard  assets  from
unauthorized  use or disposition.  We evaluated the  effectiveness of the design
and operation of our disclosure  controls and procedures  under the  supervision
and with the participation of management,  including our chief executive officer
and chief  financial  officer,  as of the end of the period covered by this Form
10-K.  Based  upon  that  evaluation,  our  chief  executive  officer  and chief
financial  officer  concluded  that our  disclosure  controls and procedures are
effective  in  timely  alerting  them to  material  information  required  to be
included in our periodic  SEC filings.  There has been no change in our internal
control over  financial  reporting  that occurred  during our most recent fiscal
quarter that has  materially  affected,  or is  reasonably  likely to materially
affect, our internal control over financial reporting.                          

--------------------------------------------------------------------------------
 PAGE 53

10-K
49th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 49th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT                     

   Unless  otherwise  stated,   the  information   required  for  this  Item  is
incorporated  by reference  herein from our Proxy  Statement for the 2004 Annual
Meeting of Shareholders (2004 Proxy Statement). Our 2004 Proxy Statement will be
filed with the SEC within 120 days after the end of our 2003 fiscal year.       

   - DIRECTORS. The information regarding  directors  will be  included  in  the
"Election of Directors" section;                                      
   - AUDIT COMMITTEE FINANCIAL  EXPERT.  The  information  regarding  the  audit
     committee financial expert will be included in  the "Report  of  the  Audit
Committee" section;                                                   
   - EXECUTIVE  OFFICERS. The   information   regarding  executive  officers  is
included in Part I of this Form 10-K;                                 
   - SECTION  16(a)  COMPLIANCE.  The  information   regarding   Section   16(a)
     compliance  will  be included  in  the "Section 16(a) Beneficial  Ownership
Reporting Compliance" section; and                                    
   - CODE OF ETHICS. We  have  adopted a  written Code of Ethics that applies to
     all  of  our  employees,  including  our  chief  executive  officer,  chief
     financial officer and controller. A copy of our Code of Ethics is available
     on our website at  www.allete.com  and print  copies are  available  to any
     shareholder  that  requests a copy.  Any amendment to the Code of Ethics or
     any  waiver of the Code of  Ethics  will be  disclosed  on our  website  at
 www.allete.com promptly following the date of such amendment or waiver.

ITEM 11. EXECUTIVE COMPENSATION                                                 

   The information  required for this Item is  incorporated by reference  herein
from  the  "Compensation  of  Executive  Officers"  section  in our  2004  Proxy
Statement.                                                                      

ITEM 12. SECURITY  OWNERSHIP  OF CERTAIN  BENEFICIAL OWNERS  AND  MANAGEMENT AND
RELATED STOCKHOLDER MATTERS                                   

   The information  required for this Item is  incorporated by reference  herein
from the "Security  Ownership of  Beneficial  Owners  and  Management"  and  the
"Equity Compensation Plan Information" sections in our 2004 Proxy Statement.    

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS                         

None.                                                                     

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES                                 

   The information  required by this Item is  incorporated  by reference  herein
from the "Report of the Audit Committee" section in our 2004 Proxy Statement.   

--------------------------------------------------------------------------------
 PAGE 54

10-K
50th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 50th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K        

(a)   Certain Documents Filed as Part of this Form 10-K.                        

(1)   Financial Statements                                                  PAGE
ALLETE                                                          
        Report of Independent Auditors .......................................60
Consolidated Balance Sheet at                                   
         December 31, 2003 and 2002 ..........................................61
For the Three Years Ended December 31, 2003                     
         Consolidated Statement of Income ....................................62
         Consolidated Statement of Cash Flows ................................63
         Consolidated Statement of Shareholders' Equity ......................64
        Notes to Consolidated Financial Statements ........................65-83

(2)   Financial Statement Schedules                                             
Report of Independent Auditors on                               
         Financial Statement Schedule ........................................84
Schedule II - ALLETE Valuation and                              
         Qualifying Accounts and Reserves ....................................84

      All other schedules have been omitted  either because  the information  is
      not required to be  reported  by  ALLETE or  because  the  information  is
included  in the consolidated financial statements or the notes.    

(3)   Exhibits including those incorporated by reference.                       

EXHIBIT NUMBER                                                                  
--------------------------------------------------------------------------------
      *2(a) - First  Amended  and  Restated  Utility  System  Asset  Acquisition
              Agreement (without  Appendices),  entered into on August 25, 2003,
              by and among Hernando County,  the City of Marco Island,  the City
              of  Palm  Coast,  Osceola  County,  Florida  Governmental  Utility
              Authority,   the  City  of  Deltona  and  Florida  Water  Services
              Corporation  (filed as Exhibit 2 to the August 27,  2003 Form 8-K,
File No. 1-3548).                                   

       2(b) - Stock  Purchase Agreement (without  Exhibits and Schedules), dated
              November  20,   2003,   by  and  between   Philadelphia   Suburban
              Corporation (now Aqua America, Inc.),  as  Purchaser,  and  ALLETE
Water  Services,  Inc., as Shareholder.             

     *3(a)1 - Articles of Incorporation, amended and  restated as of May 8, 2001
              (filed as Exhibit 3(b) to the March 31, 2001 Form 10-Q,  File  No.
1-3548).                                            

     *3(a)2 - Amendment to Certificate of Assumed Name, filed with the Minnesota
              Secretary  of State on May 8, 2001  (filed as Exhibit  3(a) to the
March 31, 2001 Form 10-Q, File No. 1-3548).         

      *3(b) - Bylaws, as amended effective May 8, 2001 (filed as Exhibit 3(c) to
the March 31, 2001 Form 10-Q, File No. 1-3548).     

     *4(a)1 - Mortgage and Deed of Trust, dated as of September 1, 1945, between
              Minnesota  Power & Light  Company (now ALLETE) and The Bank of New
              York  (formerly  Irving  Trust  Company)  and Douglas J.  MacInnes
              (successor to Richard H. West),  Trustees  (filed as Exhibit 7(c),
File No. 2-5865).                                   

  *4(a)2 - Supplemental Indentures to ALLETE's Mortgage and Deed of Trust:

NUMBER             DATED AS OF            REFERENCE FILE             EXHIBIT    
--------------------------------------------------------------------------------
First              March 1, 1949          2-7826                     7(b)       
Second             July 1, 1951           2-9036                     7(c)       
Third              March 1, 1957          2-13075                    2(c)       
Fourth             January 1, 1968        2-27794                    2(c)       
Fifth              April 1, 1971          2-39537                    2(c)       
Sixth              August 1, 1975         2-54116                    2(c)       
Seventh            September 1, 1976      2-57014                    2(c)       
Eighth             September 1, 1977      2-59690                    2(c)       
Ninth              April 1, 1978          2-60866                    2(c)       
Tenth              August 1, 1978         2-62852                    2(d)2      
Eleventh           December 1, 1982       2-56649                    4(a)3      
Twelfth            April 1, 1987          33-30224                   4(a)3      
Thirteenth         March 1, 1992          33-47438                   4(b)       
Fourteenth         June 1, 1992           33-55240                   4(b)       
Fifteenth          July 1, 1992           33-55240                   4(c)       
Sixteenth          July 1, 1992           33-55240                   4(d)       
Seventeenth        February 1, 1993       33-50143                   4(b)       
Eighteenth         July 1, 1993           33-50143                   4(c)       
Nineteenth         February 1, 1997       1-3548                                
                                    (1996 Form 10-K)           4(a)3
Twentieth          November 1, 1997       1-3548                                
                                    (1997 Form 10-K)           4(a)3
Twenty-first       October 1, 2000        333-54330                  4(c)3      
Twenty-second      July 1, 2003           1-3548                                
                                (June 30, 2003 Form 10-Q)  4

     *4(b)1 - Indenture (for Unsecured Debt Securities), dated as of February 1,
              2001,  between  ALLETE and LaSalle Bank National  Association,  as
              Trustee (filed as Exhibit 4(d)1, File Nos. 333-57104, 333-57104-01
and 333-57104-02).                                  

     *4(b)2 - Officer's Certificate, dated  February 21, 2001, establishing  the
              terms of the 7.80% Senior Notes,  due February 15, 2008, of ALLETE
              (filed as Exhibit 4(d)2,  File Nos.  333-57104,  333-57104-01  and
333-57104-02).                                      

     *4(c)1 - Mortgage and Deed  of Trust,  dated  as of March 1, 1943,  between
              Superior Water,  Light and Power Company and Chemical Bank & Trust
              Company and Howard B. Smith,  as Trustees,  both succeeded by U.S.
              Bank Trust  N.A.,  as Trustee  (filed as  Exhibit  7(c),  File No.
2-8668).                                            

--------------------------------------------------------------------------------
 PAGE 55

10-K
51st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 51st
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART IV

EXHIBIT NUMBER                                                                  
--------------------------------------------------------------------------------
     *4(c)2 - Supplemental  Indentures  to  Superior  Water,  Light  and   Power
Company's Mortgage and Deed of Trust:               

NUMBER             DATED AS OF            REFERENCE FILE             EXHIBIT    
--------------------------------------------------------------------------------
First              March 1, 1951          2-59690                    2(d)(1)    
Second             March 1, 1962          2-27794                    2(d)1      
Third              July 1, 1976           2-57478                    2(e)1      
Fourth             March 1, 1985          2-78641                    4(b)       
Fifth              December 1, 1992       1-3548                                
                                    (1992 Form 10-K)           4(b)1
Sixth              March 24, 1994         1-3548                                
                                    (1996 Form 10-K)           4(b)1
Seventh            November 1, 1994       1-3548                                
                                    (1996 Form 10-K)           4(b)2
Eighth             January 1, 1997        1-3548                                
                                    (1996 Form 10-K)           4(b)3

      *4(d) - Rights  Agreement, dated  as of  July 24, 1996, between  Minnesota
              Power & Light Company (now ALLETE) and the Corporate  Secretary of
              the Company,  as Rights Agent (filed as Exhibit 4 to the August 2,
1996 Form 8-K, File No. 1-3548).                    

      *4(e) - Indenture (for Unsecured  Debt  Securities), dated  as  of May 15,
              1996,  between  ADESA  Corporation  and The Bank of New  York,  as
              Trustee,  relating to the ADESA  Corporation's 7.70% Senior Notes,
              Series A, Due 2006, and its 8.10% Senior Notes, Series B, Due 2010
           (filed as Exhibit 4(k) to the 1996 Form 10-K, File No. 1-3548).

      *4(f) - Guarantee of  the  Company, dated as of May 30, 1996, relating  to
              the ADESA  Corporation's  7.70% Senior  Notes,  Series A, Due 2006
           (filed as Exhibit 4(l) to the 1996 Form 10-K, File No. 1-3548).

      *4(g) - ADESA Corporation Officer's Certificate 1-D-1, dated May 30, 1996,
              relating to the ADESA  Corporation's 7.70% Senior Notes, Series A,
              Due 2006  (filed as Exhibit  4(m) to the 1996 Form 10-K,  File No.
1-3548).                                            

      *4(h) - Guarantee of Minnesota Power, Inc. (now ALLETE), dated as of March
              30, 2000,  relating to ADESA  Corporation's  8.10%  Senior  Notes,
              Series B, Due 2010  (filed as Exhibit  4(a) to the March 31,  2000
Form 10-Q, File No. 1-3548).                        

      *4(i) - ADESA Corporation  Officer's Certificate 2-D-2, dated  as of March
              30, 2000,  relating to ADESA  Corporation's  8.10%  Senior  Notes,
              Series B, Due 2010  (filed as Exhibit  4(b) to the March 31,  2000
Form 10-Q, File No. 1-3548).                        

     *10(a) - Participation Agreement, dated  as of  March 31, 2000, among Asset
              Holdings  III,  L.P.,  as Lessor,  ADESA  Corporation,  as Lessee,
              SunTrust Bank, as Credit Bank, and Cornerstone Funding Corporation
              I, as Issuer  (filed as Exhibit  10(a) to the March 31,  2000 Form
10-Q, File No. 1-3548).                             

     *10(b) - Lease Agreement, dated as  of   March 31,  2000,   between   Asset
              Holdings III, L.P., as Lessor,  and ADESA  Corporation,  as Lessee
              (filed as Exhibit 10(b) to the March 31, 2000 Form 10-Q,  File No.
1-3548).                                            

     *10(c) - Reimbursement   Agreement, dated  as  of  March 31, 2000,  between
              SunTrust  Bank, as Credit Bank,  and Asset  Holdings III, L.P., as
              Lessor  (filed as Exhibit  10(c) to the March 31,  2000 Form 10-Q,
File No. 1-3548).                                   

     *10(d) - Appendix  I  to   Participation  Agreement,  Lease  Agreement  and
              Reimbursement Agreement, all which are dated as of March 31, 2000,
              relating to the Lease Financing for ADESA Corporation Auto Auction
              Facilities  (filed as  Exhibit  10(d) to the  March 31,  2000 Form
10-Q, File No. 1-3548).                             

     *10(e) - Assignment of Lease and Rents (without Exhibit A) entered  into as
              of March 31, 2000,  by and between Asset  Holdings  III,  L.P., as
              Lessor,  and SunTrust Bank, as Credit Bank (filed as Exhibit 10(e)
to the March 31, 2000 Form 10-Q, File No. 1-3548).  

     *10(f) - Limited Guaranty of Minnesota Power, Inc.(now ALLETE), dated as of
              March  31,  2000,  relating  to  the  Lease  Financing  for  ADESA
              Corporation Auto Auction Facilities (filed as Exhibit 10(f) to the
March 31, 2000 Form 10-Q, File No. 1-3548).         

     *10(g) - Borrower  Promissory  Note,  dated  April 3, 2000,  between  Asset
              Holdings  III,   L.P.  as  Borrower,   and   Cornerstone   Funding
              Corporation  I, as Issuer  (filed as Exhibit 10(d) to the June 30,
2003 Form 10-Q, File No. 1-3548).                   

     *10(h) - Trust Indenture (without Exhibits) between  Development  Authority
              of Fulton  County  and  SunTrust  Bank,  as  Trustee,  dated as of
              December  1, 2002  (filed as Exhibit  10(k) to the 2002 Form 10-K,
File No. 1-3548).                                   

     *10(i) - Bond  Purchase  Agreement (without  Exhibits),  dated  December 1,
              2002,  for the  Development  Authority  of Fulton  County  Taxable
              Economic  Development  Revenue Bonds (ADESA Atlanta,  LLC Project)
              Series  2002 (filed as Exhibit  10(l) to the 2002 Form 10-K,  File
No. 1-3548).                                        

--------------------------------------------------------------------------------
 PAGE 56

10-K
52nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 52nd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART IV

EXHIBIT NUMBER                                                                  
--------------------------------------------------------------------------------

     *10(j) - Lease Agreement (without Exhibits)  between Development  Authority
              of Fulton County and ADESA  Atlanta,  LLC, dated as of December 1,
              2002  (filed  as  Exhibit  10(m) to the 2002 Form  10-K,  File No.
1-3548).                                            

     *10(k) - Term Loan Agreement (without Exhibits), dated as of June 30, 2003,
              among ADESA  California,  Inc.,  as  Borrower,  the Lenders  Party
              Thereto,  and SunTrust  Bank,  as  Administrative  Agent (filed as
           Exhibit 10(b) to the June 30, 2003 Form 10-Q, File No. 1-3548).

     *10(l) - Guaranty  Agreement, dated  as of  June 30, 2003, among  ADESA and
              ALLETE, as Guarantors of ADESA California, Inc., the Borrower, and
              SunTrust Bank, the Administrative Agent (filed as Exhibit 10(c) to
the June 30, 2003 Form 10-Q, File No. 1-3548).      

     *10(m) - Receivables Purchase Agreement dated as of May 31, 2002, among AFC
              Funding Corporation, as Seller, Automotive Finance Corporation, as
              Servicer,  Fairway Finance Corporation,  as initial Purchaser, BMO
              Nesbitt Burns Corp.,  as initial Agent and as Purchaser  Agent for
              Fairway  Finance  Corporation  and XL Capital  Assurance  Inc., as
              Insurer  (filed as Exhibit  10(a) to the June 30,  2002 Form 10-Q,
File No. 1-3548).                                   

     *10(n) - Amended and Restated Purchase and Sale Agreement  dated as of  May
              31, 2002,  between AFC Funding  Corporation and Automotive Finance
              Corporation  (filed  as  Exhibit  10(b) to the June 30,  2002 Form
10-Q, File No. 1-3548).                             

    *10(o)1 - Wholesale  Power Coordination and  Dispatch  Operating  Agreement,
              dated April 14, 2000,  between  Minnesota Power, Inc. (now ALLETE)
              and Split Rock Energy LLC (filed as Exhibit  10(a) to the June 30,
2000 Form 10-Q, File No. 1-3548).                   

    *10(o)2 - Letter addressed to  the  Federal  Energy  Regulatory  Commission,
              dated April 21, 2000,  amending the Wholesale  Power  Coordination
              and Dispatch  Operating  Agreement,  dated April 14, 2000, between
              Minnesota  Power,  Inc.  (now  ALLETE)  and Split Rock  Energy LLC
              (filed as Exhibit  10(b) to the June 30, 2000 Form 10-Q,  File No.
1-3548).                                            

     10(o)3 - Amended   Wholesale  Power  Coordination  and  Dispatch  Operating
              Agreement,  dated January 30, 2004,  between Minnesota Power, Inc.
(now ALLETE) and Split Rock Energy LLC.             

      10(p) - Amended and  Restated Withdrawal  Agreement  (without Exhibits and
              Schedules),  dated  January 30, 2004,  by and between  Great River
              Energy and Minnesota Power (now ALLETE). [Portions of this exhibit
              have been omitted pursuant to a request for confidential treatment
and filed separately with the SEC.]                 

     *10(q) - Power Purchase and  Sale Agreement,  dated  as  of  May 29,  1998,
              between  Minnesota  Power,  Inc.  (now  ALLETE)  and Square  Butte
              Electric  Cooperative  (filed as Exhibit  10 to the June 30,  1998
Form 10-Q, File No. 1-3548).                        

     *10(r) - Credit  Agreement,  dated  as of  July 18, 2003, among  ALLETE, as
              Borrower,  Wells Fargo Bank,  National  Association,  as Sole Lead
              Arranger and Administrative  Agent, Bank One, N.A., as Syndication
              Agent, and the Other Financial  Institutions  Party Thereto (filed
              as Exhibit 10(a) to the June 30, 2003 Form 10-Q, File No. 1-3548).

      10(s) - Third  Amended  and  Restated  Committed  Facility Letter (without
              Exhibits),  dated  December 23, 2003,  to ALLETE from LaSalle Bank
National Association, as Agent.                     

   +*10(t)1 - Minnesota Power (now ALLETE) Executive  Annual Incentive  Plan, as
              amended, effective January 1, 1999 with amendments through January
              2003  (filed as Exhibit 10 to the  September  30,  2003 Form 10-Q,
File No. 1-3548).                                   

    +10(t)2 - November  2003  Amendment  to  the  Minnesota   Power (now ALLETE)
Executive Annual Incentive Plan.                    

     +10(u) - ALLETE and Affiliated Companies Supplemental Executive  Retirement
        Plan,  as  amended  and restated, effective January 1, 2004.

   +*10(v)1 - Executive Investment Plan-I, as  amended and  restated,  effective
              November  1, 1988  (filed as Exhibit  10(c) to the 1988 Form 10-K,
File No. 1-3548).                                   

    +10(v)2 - Amendments through   December  2003  to  the  Minnesota  Power and
Affiliated Companies Executive Investment Plan-I.   

   +*10(w)1 - Executive Investment Plan-II, as  amended and  restated, effective
              November  1, 1988  (filed as Exhibit  10(d) to the 1988 Form 10-K,
File No. 1-3548).                                   

--------------------------------------------------------------------------------
 PAGE 57

10-K
53rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 53rd
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
 PART IV

EXHIBIT NUMBER                                                                  
--------------------------------------------------------------------------------

    +10(w)2 - Amendments through  December  2003  to  the  Minnesota  Power  and
Affiliated Companies Executive Investment Plan-II.  

    +*10(x) - Deferred Compensation Trust  Agreement, as  amended and  restated,
              effective January 1, 1989 (filed as Exhibit 10(f) to the 1988 Form
10-K, File No. 1-3548).                             

   +*10(y)1 - Minnesota   Power  (now  ALLETE)  Executive  Long-Term   Incentive
              Compensation  Plan,  effective  January 1, 1996  (filed as Exhibit
   10(a) to the June 30, 1996 Form 10-Q, File No. 1-3548).

   +*10(y)2 - Amendments through  January  2003  to  the  Minnesota  Power  (now
              ALLETE) Executive Long-Term Incentive  Compensation Plan (filed as
   Exhibit 10(z)2 to the 2002 Form 10-K, File No. 1-3548).

   +*10(z)1 - Minnesota  Power  (now  ALLETE)  Director  Stock  Plan,  effective
              January 1, 1995  (filed as  Exhibit 10 to the March 31,  1995 Form
10-Q, File No.  1-3548).                            

    +10(z)2 - Amendments  through  December  2003 to  the  Minnesota  Power (now
ALLETE) Director Stock Plan.                        

  +*10(aa)1 - Minnesota Power (now ALLETE) Director Compensation  Deferral  Plan
              Amended and Restated,  effective January 1, 1990 (filed as Exhibit
10(ac) to the 2002 Form 10-K, File No. 1-3548).     

   +10(aa)2 - October  2003  Amendment  to  the  Minnesota  Power   (now ALLETE)
Director Compensation Deferral Plan.                

      12 - Computation of Ratios of Earnings to Fixed Charges (Unaudited).

        *21 - Subsidiaries of the Registrant (reference is made to ALLETE's Form
         U-3A-2 for the year ended December 31, 2003, File No. 69-78).

23(a) - Consent  of  Independent  Accountants.                      

23(b) - Consent  of   General Counsel.                              

      31(a) - Rule 13a-14(a)/15d-14(a)  Certification  by  the  Chief  Executive
              Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

      31(b) - Rule 13a-14(a)/15d-14(a) Certification  by  the  Chief   Financial
              Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

         32 - Section 1350 Certification of Annual Report by the Chief Executive
              Officer and Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.                         

------------------------------------                                            

*  Incorporated herein by reference as indicated.                               

+  Management contract or compensatory plan or arrangement required  to be filed
as an exhibit to this report pursuant to Item 15(c) of Form 10-K.         

(b)   Reports on Form 8-K.                                                      

      Report on Form 8-K filed October 15, 2003 with  respect  to  Item 5. Other
Events and Regulation FD Disclosure.                                

      Report on Form 8-K filed October 24, 2003 with  respect  to  Item 5. Other
      Events and Regulation FD Disclosure and Item 7. Financial  Statements  and
Exhibits.                                                           

      Report on Form 8-K filed October 30, 2003  with  respect to Item 5.  Other
Events  and Regulation FD Disclosure.                               

      Report on Form 8-K filed October 31, 2003 with  respect  to  Item 5. Other
Events and Regulation FD Disclosure.                                

      Report on Form 8-K filed November 6, 2003 with  respect  to  Item 5. Other
Events and Regulation FD Disclosure.                                

      Report on Form 8-K filed November 13, 2003 with  respect  to Item 5. Other
      Events and Regulation FD Disclosure and  Item 7. Financial  Statements and
Exhibits.                                                           

      Report  on  Form 8-K  filed December 5, 2003 with respect to Item 5. Other
Events and Regulation FD Disclosure.                                

      Report  on Form 8-K filed January 26, 2004 with  respect to  Item 5. Other
Events and Regulation FD Disclosure.                                

--------------------------------------------------------------------------------
 PAGE 58

10-K
54th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 54th
 ALLETE FORM 10-K 2003
--------------------------------------------------------------------------------
SIGNATURES

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

                                                    ALLETE, INC.

Dated: March 11, 2004                       By           David G. Gartzke       
                                                 -------------------------------
                                                  David G. Gartzke
                                                  Chairman

   Pursuant to the  requirements  of the Securities  Exchange Act of 1934,  this
report  has  been  signed  below  by the  following  persons  on  behalf  of the
registrant and in the capacities and on the dates indicated.                    

                                                        [Enlarge/Download Table]

               SIGNATURE                              TITLE                                     DATE         
-------------------------------------------------------------------------------------------------------------
                                                                                                             
         David G. Gartzke                      Chairman and Director                      March 11, 2004     
----------------------------------                                                                           
         David G. Gartzke                                                                                    

         Donald J. Shippar            President and Chief Executive Officer               March 11, 2004     
----------------------------------                                                                           
         Donald J. Shippar                                                                                   

         James K. Vizanko                    Senior Vice President,                       March 11, 2004     
----------------------------------                                                                           
         James K. Vizanko             Chief Financial Officer and Treasurer                                  

         Mark A. Schober               Senior Vice President and Controller               March 11, 2004     
----------------------------------                                                                           
         Mark A. Schober                                                                                     

         Wynn V. Bussmann                           Director                              March 11, 2004     
----------------------------------                                                                           
         Wynn V. Bussmann                                                                                    

         Thomas L. Cunningham                       Director                              March 11, 2004     
----------------------------------                                                                           
         Thomas L. Cunningham                                                                                

         Dennis O. Green                            Director                              March 11, 2004     
----------------------------------                                                                           
         Dennis O. Green                                                                                     

         Peter J. Johnson                           Director                              March 11, 2004     
----------------------------------                                                                           
         Peter J. Johnson                                                                                    

         George L. Mayer                            Director                              March 11, 2004     
----------------------------------                                                                           
         George L. Mayer                                                                                     

         Jack I. Rajala                             Director                              March 11, 2004     
----------------------------------                                                                           
         Jack I. Rajala                                                                                      

         Nick Smith                                 Director                              March 11, 2004     
----------------------------------                                                                           
         Nick Smith                                                                                          

         Bruce W. Stender                           Director                              March 11, 2004     
----------------------------------                                                                           
         Bruce W. Stender                                                                                    

         Donald C. Wegmiller                        Director                              March 11, 2004     
----------------------------------                                                                           
         Donald C. Wegmiller                                                                                 

         Deborah L. Weinstein                       Director                              March 11, 2004     
----------------------------------                                                                           
         Deborah L. Weinstein                                                                                

--------------------------------------------------------------------------------
 PAGE 59

10-K
55th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 55th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
REPORTS 

REPORT OF INDEPENDENT AUDITORS                                                  
                                               [PRICEWATERHOUSECOOPERS LLP LOGO]
To the Shareholders and                                                         
Board of Directors of ALLETE, Inc.                                              

   In our opinion,  the accompanying  consolidated balance sheet and the related
consolidated  statements of income,  of cash flows and of  shareholders'  equity
present fairly, in all material respects, the financial position of ALLETE, Inc.
and its  subsidiaries  at December  31, 2003 and 2002,  and the results of their
operations  and their cash flows for each of the three years in the period ended
December 31, 2003, in conformity with accounting  principles  generally accepted
in  the  United  States  of  America.   These   financial   statements  are  the
responsibility of the Company's management;  our responsibility is to express an
opinion on these  financial  statements  based on our audits.  We conducted  our
audits of these  statements in  accordance  with  auditing  standards  generally
accepted in the United States of America, which require that we plan and perform
the audit to obtain reasonable  assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence  supporting the amounts and  disclosures  in the financial  statements,
assessing the  accounting  principles  used and  significant  estimates  made by
management,  and evaluating the overall  financial  statement  presentation.  We
believe that our audits provide a reasonable basis for our opinion.             
   As  discussed  in  Note 6  to  the  consolidated  financial  statements,  the
Company  adopted  Statement  of  Financial   Accounting   Standards,   No.  143,
"Accounting for Asset  Retirement  Obligations" on January 1, 2003. As discussed
in Notes 2 and 9 to the consolidated  financial statements,  the Company adopted
Statement  of  Financial  Accounting  Standards,  No. 142,  "Goodwill  and Other
Intangible Assets" on January 1, 2002.                                          

PricewaterhouseCoopers LLP                                                      

Minneapolis, Minnesota                                                          
February 9, 2004, except as to Note 3 which is as of March 8, 2004              

--------------------------------------------------------------------------------

REPORT OF MANAGEMENT                                                            

   The consolidated  financial  statements and other financial  information were
prepared by management,  who is responsible for their integrity and objectivity.
The  financial  statements  have been  prepared  in  conformity  with  generally
accepted  accounting  principles and  necessarily  include some amounts that are
based on informed judgments and best estimates and assumptions of management.   
   To meet management's  responsibilities with respect to financial information,
we maintain  and enforce a system of internal  accounting  controls  designed to
provide assurance,  on a cost effective basis, that transactions are carried out
in accordance with management's  authorizations  and that assets are safeguarded
against  loss from  unauthorized  use or  disposition.  The system  includes  an
organizational   structure   that  provides  an   appropriate   segregation   of
responsibilities,  careful selection and training of personnel, written policies
and  procedures,  and periodic  reviews by our  internal  audit  department.  In
addition,  we have  personnel  policies that require all employees to maintain a
high standard of ethical  conduct.  Management  believes the system is effective
and provides  reasonable  assurance that all transactions are properly  recorded
and have been executed in accordance with management's authorization. Management
modifies and improves our system of internal  accounting controls in response to
changes in business  conditions.  Our  internal  audit staff is charged with the
responsibility for determining compliance with our procedures.                  
   Six  of our  directors,  not  members  of  management,  serve  as  the  Audit
Committee.  Our  Board of  Directors,  through  the  Audit  Committee,  oversees
management's responsibilities for financial reporting. The Audit Committee meets
regularly with management, the internal auditors and the independent auditors to
discuss  auditing and financial  matters and to assure that each is carrying out
their responsibilities.  The internal auditors and the independent auditors have
full  and  free  access  to the  Audit  Committee  without  management  present.
PricewaterhouseCoopers  LLP,  independent  auditors,  are  engaged to express an
opinion on the financial statements. Their audit is conducted in accordance with
generally accepted auditing standards and includes a review of internal controls
and tests of transactions to the extent necessary to allow them to report on the
fairness of our operating results and financial condition.                      

David G. Gartzke                                                                

David G. Gartzke                                                                
Chairman                                                                        

Donald Shippar                                                                  

Donald J. Shippar                                                               
President and Chief Executive Officer                                           

James Vizanko                                                                   

James K. Vizanko                                                                
Chief Financial Officer                                                         

--------------------------------------------------------------------------------
PAGE 60 

10-K
56th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 56th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL STATEMENTS 

                                                        [Enlarge/Download Table]
ALLETE CONSOLIDATED BALANCE SHEET                                                                 

DECEMBER 31                                                           2003                 2002   
==================================================================================================
MILLIONS                                                                                          
                                                                                                  

Assets                                                                                            
Current Assets                                                                                    
   Cash and Cash Equivalents                                       $  223.0              $  193.3 
   Trading Securities                                                     -                   1.8 
   Accounts Receivable - Net                                          403.8                 383.8 
   Inventories                                                         37.9                  36.6 
   Prepayments and Other                                               15.8                  14.1 
   Discontinued Operations                                             14.9                  28.8 
--------------------------------------------------------------------------------------------------
         Total Current Assets                                         695.4                 658.4 
Property, Plant and Equipment - Net                                 1,499.0               1,364.7 
Investments                                                           204.6                 170.9 
Goodwill                                                              511.0                 502.0 
Other Intangible Assets                                                33.3                  37.6 
Other Assets                                                           70.1                  67.5 
Discontinued Operations                                                87.9                 346.1 
--------------------------------------------------------------------------------------------------
Total Assets                                                       $3,101.3              $3,147.2 
--------------------------------------------------------------------------------------------------

Liabilities and Shareholders' Equity                                                              
Liabilities                                                                                       
Current Liabilities                                                                               
   Accounts Payable                                                $  243.9              $  202.6 
   Accrued Taxes, Interest and Dividends                               35.2                  36.4 
   Notes Payable                                                       53.0                  74.5 
   Long-Term Debt Due Within One Year                                  37.5                 283.7 
   Other                                                              107.1                 111.3 
   Discontinued Operations                                             49.5                  29.7 
--------------------------------------------------------------------------------------------------
         Total Current Liabilities                                    526.2                 738.2 
Long-Term Debt                                                        747.7                 696.4 
Mandatorily Redeemable Preferred Securities                               -                  75.0 
Accumulated Deferred Income Taxes                                     160.7                 139.8 
Other Liabilities                                                     161.5                 137.6 
Discontinued Operations                                                45.0                 127.8 
Commitments and Contingencies                                                                     
--------------------------------------------------------------------------------------------------
         Total Liabilities                                          1,641.1               1,914.8 
--------------------------------------------------------------------------------------------------
Shareholders' Equity                                                                              
Common Stock Without Par Value, 130.0 Shares Authorized                                           
   87.3 and 85.6 Shares Outstanding                                   859.2                 814.9 
Unearned ESOP Shares                                                  (45.4)                (49.0)
Accumulated Other Comprehensive Gain (Loss)                            14.5                 (22.2)
Retained Earnings                                                     631.9                 488.7 
--------------------------------------------------------------------------------------------------
         Total Shareholders' Equity                                 1,460.2               1,232.4 
--------------------------------------------------------------------------------------------------
Total Liabilities and Shareholders' Equity                         $3,101.3              $3,147.2 
==================================================================================================
                 The accompanying notes are an integral part of these statements.                 


--------------------------------------------------------------------------------
PAGE 61 

10-K
57th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 57th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL STATEMENTS 

                                                        [Enlarge/Download Table]
ALLETE CONSOLIDATED STATEMENT OF INCOME                                                           

FOR THE YEAR ENDED DECEMBER 31                               2003          2002          2001     
==================================================================================================
MILLIONS EXCEPT PER SHARE AMOUNTS                                                                 
                                                                                                  
Operating Revenue                                                                                 
      Energy Services                                                                             
         Regulated Utility                                 $  512.8      $  505.6      $  538.7   
         Nonregulated                                         146.8         120.4          80.0   
      Automotive Services                                     922.3         835.8         832.1   
      Investments                                              36.9          32.5          74.8   
--------------------------------------------------------------------------------------------------
         Total Operating Revenue                            1,618.8       1,494.3       1,525.6   
--------------------------------------------------------------------------------------------------
Operating Expenses                                                                                
      Fuel and Purchased Power                                                                    
         Regulated Utility                                    212.5         206.7         233.1   
         Nonregulated                                          40.0          28.1             -   
      Operations                                                                                  
         Regulated Utility                                    217.7         197.0         204.1   
         Nonregulated                                          98.0         107.5          74.9   
         Automotive and Investments                           749.0         693.4         728.3   
      Interest                                                 66.6          70.5          83.0   
--------------------------------------------------------------------------------------------------
         Total Operating Expenses                           1,383.8       1,303.2       1,323.4   
--------------------------------------------------------------------------------------------------
Operating Income from Continuing Operations                   235.0         191.1         202.2   
Income Tax Expense                                             91.9          72.2          73.3   
--------------------------------------------------------------------------------------------------
Income from Continuing Operations                             143.1         118.9         128.9   
Income from Discontinued Operations - Net of Tax               93.3          18.3           9.8   
--------------------------------------------------------------------------------------------------
Net Income                                                 $  236.4      $  137.2      $  138.7   
--------------------------------------------------------------------------------------------------
Average Shares of Common Stock                                                                    
      Basic                                                    82.8          81.1          75.8   
      Diluted                                                  83.3          81.7          76.5   
--------------------------------------------------------------------------------------------------
Earnings Per Share of Common Stock                                                                
      Basic                                                                                       
         Continuing Operations                                $1.72         $1.47         $1.70   
         Discontinued Operations                               1.13          0.22          0.13   
--------------------------------------------------------------------------------------------------
                                                              $2.85         $1.69         $1.83   
--------------------------------------------------------------------------------------------------
      Diluted                                                                                     
         Continuing Operations                                $1.72         $1.46         $1.68   
         Discontinued Operations                               1.12          0.22          0.13   
--------------------------------------------------------------------------------------------------
                                                              $2.84         $1.68         $1.81   
--------------------------------------------------------------------------------------------------
Dividends Per Share of Common Stock                           $1.13         $1.10         $1.07   
==================================================================================================
                 The accompanying notes are an integral part of these statements.                 

--------------------------------------------------------------------------------
PAGE 62 

10-K
58th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 58th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL STATEMENTS 

                                                        [Enlarge/Download Table]
ALLETE CONSOLIDATED STATEMENT OF CASH FLOWS                                                             

FOR THE YEAR ENDED DECEMBER 31                                    2003           2002           2001    
======================================================================================================= 
MILLIONS                                                                                                
                                                                                                        
Operating Activities                                                                                    
   Net Income                                                    $ 236.4        $ 137.2       $ 138.7   
   Gain on Sale of Plant                                          (141.5)             -             -   
   Depreciation and Amortization                                    86.7           82.1         101.6   
   Deferred Income Taxes                                            14.3           26.9          10.3   
   Changes in Operating Assets and Liabilities - Net of the                                             
      Effects of Acquisitions                                                                           
           Trading Securities                                        1.8          153.8         (64.8)  
           Accounts Receivable                                      (8.8)          74.9         (82.4)  
           Inventories                                              (1.0)          (3.8)         (3.0)  
           Prepayments and Other                                    (2.5)           2.0          (9.2)  
           Accounts Payable                                         37.0          (38.0)        (23.9)  
           Other Current Liabilities                                 7.3           (7.8)         16.4   
   Other Assets                                                     (2.0)          (3.9)         (8.9)  
   Other Liabilities                                                18.1           29.6          28.8   
------------------------------------------------------------------------------------------------------- 
           Cash from Operating Activities                          245.8          453.0         103.6   
------------------------------------------------------------------------------------------------------- 
Investing Activities                                                                                    
   Proceeds from Sale of Plant                                     444.7              -             -   
   Proceeds from Sale of Available-For-Sale Securities               7.4            1.9           2.6   
   Additions to Investments                                        (49.1)         (24.5)        (11.2)  
   Additions to Property, Plant and Equipment                     (181.3)        (201.2)       (149.2)  
   Acquisitions - Net of Cash Acquired                              (1.8)         (32.7)       (157.1)  
   Other                                                            (7.6)          12.1          17.5   
------------------------------------------------------------------------------------------------------- 
           Cash from (for) Investing Activities                    212.3         (244.4)       (297.4)  
------------------------------------------------------------------------------------------------------- 
Financing Activities                                                                                    
   Issuance of Long-Term Debt                                       85.2           18.4         125.2   
   Issuance of Common Stock                                         44.3           43.2         189.2   
   Changes in Notes Payable - Net                                  (18.6)        (200.5)          5.5   
   Reductions of Long-Term Debt                                   (413.4)         (14.5)        (18.1)  
   Reductions of Mandatorily Redeemable Preferred Securities       (75.0)             -             -   
   Dividends on Common Stock                                       (93.2)         (89.2)        (81.8)  
------------------------------------------------------------------------------------------------------- 
           Cash from (for) Financing Activities                   (470.7)        (242.6)        220.0   
------------------------------------------------------------------------------------------------------- 
Effect of Exchange Rate Changes on Cash                             39.2            2.7         (11.3)  
------------------------------------------------------------------------------------------------------- 
Change in Cash and Cash Equivalents                                 26.6          (31.3)         14.9   
Cash and Cash Equivalents at Beginning of Period <F1>              202.9          234.2         219.3   
------------------------------------------------------------------------------------------------------- 
Cash and Cash Equivalents at End of Period <F1>                  $ 229.5        $ 202.9       $ 234.2   
------------------------------------------------------------------------------------------------------- 
Supplemental Cash Flow Information                                                                      
   Cash Paid During the Period for                                                                      
      Interest - Net of Capitalized                                $69.2          $71.9         $84.2   
      Income Taxes                                                 $87.4          $49.2         $60.5   
======================================================================================================= 
<FN>                                                                                                    
<F1> Included $6.5 million  of  cash  from Discontinued Operations at December 31, 2003 ($9.6 million at
     December 31, 2002).                                                                                
</FN>                                                                                                   
                     The accompanying notes are an integral part of these statements.                   

--------------------------------------------------------------------------------
PAGE 63 

10-K
59th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 59th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL STATEMENTS 

                                                        [Enlarge/Download Table]
ALLETE CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY                                                                        

                                                                                        ACCUMULATED                          
                                                           TOTAL                           OTHER        UNEARNED             
                                                       SHAREHOLDERS'     RETAINED      COMPREHENSIVE      ESOP       COMMON  
                                                          EQUITY         EARNINGS      INCOME (LOSS)     SHARES       STOCK  
=============================================================================================================================
MILLIONS                                                                                                                     
                                                                                                                             
Balance at December 31, 2000                            $  900.8          $383.8          $(4.2)        $(55.7)      $576.9  

Comprehensive Income                                                                                                         
    Net Income                                             138.7           138.7                                             
    Other Comprehensive Income - Net of Tax                                                                                  
        Unrealized Gains on Securities - Net                 2.5                            2.5                              
        Interest Rate Swap                                  (1.5)                          (1.5)                             
        Foreign Currency Translation Adjustments           (11.3)                         (11.3)                             
                                                        --------                                                             
           Total Comprehensive Income                      128.4                                                             
Common Stock Issued - Net                                  193.4                                                      193.4  
Dividends Declared                                         (81.8)          (81.8)                                            
ESOP Shares Earned                                           3.0                                           3.0               
-----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2001                             1,143.8           440.7          (14.5)         (52.7)       770.3  

Comprehensive Income                                                                                                         
    Net Income                                             137.2           137.2                                             
    Other Comprehensive Income - Net of Tax                                                                                  
        Unrealized Gains on Securities - Net                (8.1)                          (8.1)                             
        Interest Rate Swap                                   1.3                            1.3                              
        Foreign Currency Translation Adjustments             2.6                            2.6                              
        Additional Pension Liability                        (3.5)                          (3.5)                             
                                                        --------                                                             
           Total Comprehensive Income                      129.5                                                             
Common Stock Issued - Net                                   44.6                                                       44.6  
Dividends Declared                                         (89.2)          (89.2)                                            
ESOP Shares Earned                                           3.7                                           3.7               
-----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2002                             1,232.4           488.7          (22.2)         (49.0)       814.9  

Comprehensive Income                                                                                                         
    Net Income                                             236.4           236.4                                             
    Other Comprehensive Income - Net of Tax                                                                                  
        Unrealized Gains on Securities - Net                 3.6                            3.6                              
        Interest Rate Swap                                   0.2                            0.2                              
        Foreign Currency Translation Adjustments            39.2                           39.2                              
        Additional Pension Liability                        (6.3)                          (6.3)                             
                                                        --------                                                             
           Total Comprehensive Income                      273.1                                                             
Common Stock Issued - Net                                   44.3                                                       44.3  
Dividends Declared                                         (93.2)          (93.2)                                            
ESOP Shares Earned                                           3.6                                           3.6               
-----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2003                            $1,460.2          $631.9          $14.5         $(45.4)      $859.2  
=============================================================================================================================
                              The accompanying notes are an integral part of these statements.                               


--------------------------------------------------------------------------------
PAGE 64 

10-K
60th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 60th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
 NOTES TO FINANCIAL STATEMENTS

1  BUSINESS SEGMENTS                                                            

                                                        [Enlarge/Download Table]
BUSINESS SEGMENTS                                                                                                   

                                                                                                         INVESTMENTS
                                                                                                             AND    
                                                                           ENERGY      AUTOMOTIVE         CORPORATE 
FOR THE YEAR ENDED DECEMBER 31                          CONSOLIDATED      SERVICES      SERVICES           CHARGES  
====================================================================================================================
MILLIONS                                                                                                            
                                                                                                                    
2003                                                                                                                
Operating Revenue                                         $1,618.8         $659.6         $922.3 <F3>      $ 36.9   
Operation and Other Expense                                1,230.7          517.1          681.4             32.2   
Depreciation and Amortization Expense                         86.5           51.1           35.3              0.1   
Interest Expense                                              66.6           22.4           16.0             28.2   
--------------------------------------------------------------------------------------------------------------------
Operating Income (Loss) from Continuing Operations           235.0           69.0          189.6            (23.6)  
Income Tax Expense (Benefit)                                  91.9           26.6           74.8             (9.5)  
--------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations                     143.1           42.4          114.8            (14.1)  
Income from Discontinued Operations - Net of Tax              93.3 <F1>         -            0.3                -   
--------------------------------------------------------------------------------------------------------------------
Net Income                                                $  236.4 <F1>     $42.4         $115.1           $(14.1)  
--------------------------------------------------------------------------------------------------------------------
Total Assets                                              $3,101.3 <F2>  $1,213.3       $1,632.7 <F4>      $152.5   
Capital Expenditures                                        $136.3 <F2>     $73.6          $26.9                -   
--------------------------------------------------------------------------------------------------------------------
2002                                                                                                                
Operating Revenue                                         $1,494.3         $626.0         $835.8 <F3>      $ 32.5   
Operation and Other Expense                                1,151.0          490.5          627.7             32.8   
Depreciation and Amortization Expense                         81.7           48.8           32.8              0.1   
Interest Expense                                              70.5           21.2           21.2             28.1   
--------------------------------------------------------------------------------------------------------------------
Operating Income (Loss) from Continuing Operations           191.1           65.5          154.1            (28.5)  
Income Tax Expense (Benefit)                                  72.2           23.7           59.9            (11.4)  
--------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations                     118.9           41.8           94.2            (17.1)  
Income (Loss) from Discontinued Operations - Net of Tax       18.3 <F1>      (1.2)          (5.9)               -   
--------------------------------------------------------------------------------------------------------------------
Net Income                                                $  137.2 <F1>     $40.6          $88.3           $(17.1)  
--------------------------------------------------------------------------------------------------------------------
Total Assets                                              $3,147.2 <F2>  $1,150.9       $1,471.1 <F4>      $150.3   
Capital Expenditures                                        $201.2 <F2>     $80.9          $66.5             $5.7   
--------------------------------------------------------------------------------------------------------------------
2001                                                                                                                
Operating Revenue                                         $1,525.6         $618.7         $832.1 <F3>       $74.8   
Operation and Other Expense                                1,151.5          466.2          635.1             50.2   
Depreciation and Amortization Expense                         88.9           45.9           42.7              0.3   
Interest Expense                                              83.0           22.5           35.3             25.2   
--------------------------------------------------------------------------------------------------------------------
Operating Income (Loss) from Continuing Operations           202.2           84.1          119.0             (0.9)  
Income Tax Expense (Benefit)                                  73.3           32.4           44.2             (3.3)  
--------------------------------------------------------------------------------------------------------------------
Income from Continuing Operations                            128.9           51.7           74.8              2.4   
Income (Loss) from Discontinued Operations - Net of Tax        9.8 <F1>      (1.6)          (7.0)               -   
--------------------------------------------------------------------------------------------------------------------
Net Income                                                  $138.7 <F1>     $50.1          $67.8             $2.4   
--------------------------------------------------------------------------------------------------------------------
Total Assets                                              $3,282.5 <F2>  $1,049.1       $1,515.4 <F4>      $365.5   
Capital Expenditures                                        $149.2 <F2>     $59.9          $57.2                -   
====================================================================================================================
<FN>                                                                                                                
<F1> Included $93.0 million of income from Water Services businesses ($25.4 million in 2002; $18.4 million in 2001).
<F2> Discontinued operations  represented  $102.8  million  of  total assets in 2003 ($374.9 million in 2002; $352.5
     million in 2001) and $35.8 million of capital expenditures in 2003 ($48.1 million  in  2002;  $32.1  million in
     2001).                                                                                                         
<F3> Included $173.1 million of Canadian operating revenue in 2003 ($141.9 million in 2002; $139.4 million in 2001).
<F4> Included $220.1 million of Canadian assets in 2003 ($184.7 million in 2002; $187.6 million in 2001).           
</FN>                                                                                                               

--------------------------------------------------------------------------------
PAGE 65 

10-K
61st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 61st
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

2  OPERATIONS AND SIGNIFICANT ACCOUNT POLICIES                                  

   FINANCIAL STATEMENT PREPARATION.  References in this report to "we," "us" and
"our" are to ALLETE and its subsidiaries, collectively. We prepare our financial
statements in conformity with generally accepted  accounting  principles.  These
principles  require  management to make informed  judgments,  best estimates and
assumptions that affect the reported amounts of assets, liabilities, revenue and
expenses. Actual results could differ from those estimates.                     
   PRINCIPLES OF CONSOLIDATION.  Our consolidated  financial  statements include
the accounts of ALLETE and all of our majority owned subsidiary  companies.  All
material   intercompany  balances  and  transactions  have  been  eliminated  in
consolidation.  Information  for prior periods has been  reclassified to present
comparable information for all periods.                                         
   BUSINESS  SEGMENTS.  Energy  Services and Automotive  Services  segments were
determined based on products and services provided. The Investment and Corporate
Charges segment was determined based on short-term corporate liquidity needs and
the need to provide financial flexibility to pursue strategic initiatives in the
other  business  segments.  We measure  performance  of our  operations  through
careful  budgeting and monitoring of contributions to consolidated net income by
each business segment. Discontinued Operations included financial results of our
Water  Services  businesses,  our vehicle  transport  and import businesses, and
our retail stores.                                                              
   ENERGY SERVICES. Energy Services is engaged in the generation,  transmission,
distribution  and  marketing  of  electricity,   as  well  as  coal  mining  and
telecommunications.                                                             
   Minnesota Power, an operating  division of ALLETE,  and SWL&P, a wholly owned
subsidiary,  provide  regulated  utility  electric  service  to  149,000  retail
customers in northeastern  Minnesota and northwestern  Wisconsin.  Approximately
50% of regulated  utility  electric  sales are to large power  customers  (which
consists of five  taconite  producers,  four paper and pulp mills,  two pipeline
companies and one manufacturer) under all-requirements contracts with expiration
dates extending from March 2005 through April 2009.  Regulated  utility electric
rates  are under the  jurisdiction  of  various  state  and  federal  regulatory
authorities.  Billings  are  rendered on a cycle  basis.  Revenue is accrued for
service  provided  but not billed.  Regulated  utility  electric  rates  include
adjustment  clauses that bill or credit  customers for fuel and purchased energy
costs  above or below the base  levels in rate  schedules  and that bill  retail
customers for the recovery of CIP expenditures not collected in base rates.     
   Minnesota Power and wholly owned subsidiary  Rainy River Energy,  through its
Kendall County power purchase  agreement,  also engage in nonregulated  electric
generation  and  power  marketing.  Nonregulated  generation  is  non-rate  base
generation sold at market-based rates to the wholesale market.                  
   BNI Coal,  a wholly  owned  subsidiary,  mines and sells  lignite coal to two
North Dakota mine-mouth  generating units, one of which is Square Butte.  Square
Butte supplies approximately 71% (323 MW) of its output to Minnesota Power under
a long-term contract. (See Note 15.)                                            
   Enventis  Telecom,  a  wholly  owned  subsidiary,  is our  telecommunications
business  which  is  an  integrated  data  services   provider   offering  fiber
optic-based   communication   and  advanced  data  services  to  businesses  and
communities in Minnesota, Wisconsin and Missouri.                               
   Split Rock Energy is a joint venture between  Minnesota Power and Great River
Energy  from which we are  withdrawing.  Split Rock Energy was formed to combine
power supply  capabilities  and  customer  loads for power pool  operations  and
generation  outage  protection.  In response to the changing  strategies of both
parties, as of February 2004 we withdrew from active participation in Split Rock
Energy and will  terminate our ownership  interest upon receipt of FERC approval
which is expected in the first half  of 2004.  We  have  retained  some  of  the
benefits of the partnership,  such as joint load and capability reporting.  As a
result of  withdrawing  from active  participation,  we received a $10.0 million
distribution in February 2004  representing  the majority of our capital account
balance on the date of withdrawal.  The remaining balance in our capital account
will be  distributed  upon  FERC  approval.  Prior to  withdrawing  from  active
participation,  we accounted for our 50% ownership interest in Split Rock Energy
under the equity method of accounting.  For the year ended December 31, 2003 our
pre-tax  equity  income from Split Rock Energy was $2.9 million ($7.3 million in
2002;  $3.6  million in 2001).  We did not receive any cash  distributions  from
Split Rock  Energy in 2003  ($2.6  million in 2002;  $2.1  million in 2001).  We
purchased  power from Split Rock Energy to serve  native load  requirements  and
sold generation to Split Rock Energy.  Purchases and sales were at market rates.
In 2003 we made power  purchases  from Split Rock Energy of $50.9 million ($34.3
million in 2002;  $56.1 million in 2001) and power sales to Split Rock Energy of
$19.6 million ($14.5 million in 2002; $13.3 million in 2001).                   
   AUTOMOTIVE  SERVICES.  Automotive  Services  operates (through several wholly
owned  subsidiaries)  two main businesses that are integral parts of the vehicle
redistribution  industry: auctions and related  services, and dealer  financing.
   We are a service  provider  and do not  actually  buy and sell  vehicles.  We
provide auction, reconditioning, logistics, and other administrative outsourcing
services to wholesale  vehicle buyers and sellers for a fee. Buyers are licensed
franchised,  independent  and  wholesale  used vehicle  dealers,  while  sellers
include vehicle manufacturers, dealers, automotive fleet/lease companies, credit
unions  and other  financial  institutions,  finance  companies  and  rental car
companies. We also provide floorplan financing.                                 

--------------------------------------------------------------------------------
PAGE 66 

10-K
62nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 62nd
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   Revenue is  recognized  when the services we provide are  performed.  Revenue
includes the Company's  fees for such services and interest  earned on floorplan
receivables.  We do not report the gross sales price of the  vehicles in revenue
nor the related purchase price in operating expense.                            
   Wholesale  vehicle  auctions  include 53 used  vehicle  auctions,  27 salvage
vehicle auctions and other related  services.  Used vehicles are sold to dealers
through our used vehicle  auctions,  and salvage  vehicle  services are provided
primarily to insurance  companies  through our salvage  auctions.  Other related
services  include  inbound  and  outbound  logistics,  reconditioning,   vehicle
inspection and certification, and titling services.                             
   Dealer financing consists of AFC which provides  short-term inventory-secured
financing for used vehicle dealers who purchase vehicles at auctions. AFC has 80
loan  production  offices  located across North America.  These offices  provide
qualified  dealers  credit to purchase  vehicles at any of the 500 plus auctions
and other outside sources approved by AFC.                                      
   AFC's revenue is comprised of gains on sales of receivables, and interest and
fee income.  Revenue from AFC was $104.0 million in 2003 ($98.6 million in 2002;
$91.7 million in 2001). As is customary for finance companies,  AFC's revenue is
reported net of interest  expense of $0.3 million in 2003 ($1.3 million in 2002;
$3.4 million in 2001) and is included in Operating Revenue - Automotive Services
on our  consolidated  statement of income.  Interest on finance  receivables  is
recognized  based  on the  number  of days the  vehicle  remains  financed.  AFC
generally sells its United States dollar denominated finance receivables through
a private securitization structure. Gains and losses on such sales are generally
recognized at the time of settlement  based on the difference  between the sales
proceeds and the allocated basis of the finance  receivables sold,  adjusted for
transaction fees.                                                               
   INVESTMENTS AND CORPORATE CHARGES.  Investments and Corporate Charges include
real estate  operations,  investments  in emerging  technologies  related to the
electric utility industry and general corporate  expenses,  including  interest,
not specifically related to any one business segment. Our real estate operations
include several wholly owned  subsidiaries  and an 80% ownership in Lehigh which
are consolidated in ALLETE's financial  statements.  All are Florida real estate
companies  principally engaged in real estate acquisition,  sales and investment
activities.  Full profit  recognition is recorded on sales upon closing provided
cash  collections  are  at  least  20% of  the  contract  price  and  the  other
requirements of GAAP concerning profit recognition are met.                     
   Investments  and  corporate  charges  included  Operation  and Other  Expense
totaling  $17.6 million in 2003 ($16.5  million in 2002;  $22.8 million in 2001)
for general corporate expenses such as employee salaries and benefits, and legal
and other outside  contract  service fees, and Interest Expense of $28.0 million
in 2003  ($28.1  million in 2002;  $25.2  million  in 2001).  Also  included  in
Investments and Corporate Charges was our trading securities portfolio which was
liquidated during the second half of 2002.                                      
   PROPERTY, PLANT AND EQUIPMENT.  Property, plant and equipment are recorded at
original  cost  and  are  reported  on the  balance  sheet  net  of  accumulated
depreciation.  Expenditures  for  additions  and  significant  replacements  and
improvements  are  capitalized;  maintenance  and repair  costs are  expensed as
incurred.  Expenditures  for major plant  overhauls are also accounted for using
this same policy. Gains or losses on nonregulated property,  plant and equipment
are  recognized  when they are retired or otherwise  disposed of. When regulated
utility property,  plant and equipment are retired or otherwise  disposed of, no
gain or loss is recognized.                                                     
   LONG-LIVED ASSET  IMPAIRMENTS.  We periodically  review our long-lived assets
whenever  events  indicate  the  carrying  amount  of  the  assets  may  not  be
recoverable.  Excluding  impairment  losses recorded on certain  remaining water
assets held for sale,  as of December  31, 2003 no  write-downs  were  required.
   ACCOUNTS  RECEIVABLE.  Accounts  receivable are reported on the balance sheet
net of an  allowance  for  doubtful  accounts.  The  allowance  is  based on our
evaluation of the receivable portfolio under current conditions, the size of the
portfolio, overall portfolio quality, review of specific problems and such other
factors that in our judgment deserve recognition in estimating losses.          

                                                                [Download Table]
ACCOUNTS RECEIVABLE                                                             

DECEMBER 31                                              2003          2002     
================================================================================
MILLIONS                                                                        
                                                                                
Trade Accounts Receivable                               $224.2        $214.9    
   Less:Allowance for Doubtful Accounts                    8.4           8.8    
--------------------------------------------------------------------------------
                                                         215.8         206.1    
--------------------------------------------------------------------------------
Finance Receivables                                                             
   AFC - Net                                             187.0         177.3    
   Real Estate - Net                                       1.0           0.4    
--------------------------------------------------------------------------------
                                                         188.0         177.7    
--------------------------------------------------------------------------------
Total Accounts Receivable - Net                         $403.8        $383.8    
================================================================================

   AFC  sells  the  majority  of  United  States   dollar  denominated   finance
receivables on a revolving basis to a wholly owned,  bankruptcy remote,  special
purpose  subsidiary that is consolidated  for accounting  purposes.  The special
purpose subsidiary has entered into a securitization agreement, which expires in
2005,  that allows for the revolving sale to a bank conduit  facility of up to a
maximum of $500 million in undivided interests in eligible finance  receivables.
The  outstanding  receivables  sold  and a cash  reserve  equal  to 1% of  total
receivables  sold serve as security  interest for the receivables that have been
sold to the bank conduit facility.                                              

--------------------------------------------------------------------------------
PAGE 67 

10-K
63rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 63rd
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

                                                                [Download Table]
FINANCE RECEIVABLES MANAGED BY AFC                                              

AT DECEMBER 31                                         TOTAL      DELINQUENT<F1>
================================================================================
MILLIONS                                                                        
                                                                                
2003                                                                            
Finance Receivables Managed                            $538.8          $7.8     
   Less: Amounts Sold to Bank Facility                  333.8                   
--------------------------------------------------------------------------------
Gross Finance Receivables Recognized                    205.0                   
   Less: Allowance for Doubtful Accounts                 18.0                   
--------------------------------------------------------------------------------
Net Finance Receivables Recognized                     $187.0                   
--------------------------------------------------------------------------------
2002                                                                            
Finance Receivables Managed                            $501.1          $8.0     
   Less: Amounts Sold to Bank Facility                  303.8                   
--------------------------------------------------------------------------------
Gross Finance Receivables Recognized                    197.3                   
   Less: Allowance for Doubtful Accounts                 20.0                   
--------------------------------------------------------------------------------
Net Finance Receivables Recognized                     $177.3                   
--------------------------------------------------------------------------------

FOR THE YEAR ENDED DECEMBER 31                         2003          2002       
--------------------------------------------------------------------------------
MILLIONS                                                                        
                                                                                
Net Credit Losses from Total                                                    
  Receivables Managed                                   $14.2         $14.7     
Total Proceeds from Sales of                                                    
  Finance Receivables                                $4,134.3      $4,142.3     
================================================================================
<FN>                                                                            
<F1>  Defined as 60 days or more past due.                                      
</FN>                                                                           

   AFC's  proceeds from the revolving  sale of  receivables  to the bank conduit
facility  were  used to repay  borrowings  from  ALLETE  and  fund new  loans to
customers.  AFC  and  the  special  purpose  subsidiary  must  maintain  certain
financial  covenants such as minimum tangible net worth to comply with the terms
of the securitization  agreement. AFC has historically performed better than the
covenant  thresholds set forth in the securitization  agreement,  and we are not
aware of any changing circumstances that would put AFC in noncompliance with the
covenants.                                                                      
   INVENTORIES.  Inventories,  which  include fuel,  material and supplies,  are
stated at the lower of cost or market.  Cost is  determined  by the average cost
method.                                                                         
   GOODWILL.  All  goodwill  relates  to the  Automotive  Services  segment  and
represents  the excess of cost over  identifiable  tangible and  intangible  net
assets of  businesses  acquired.  As required by SFAS 142,  "Goodwill  and Other
Intangible Assets," goodwill is no longer amortized after 2001. Prior to 2002 we
amortized goodwill on a straight-line basis over 40 years.                      
   UNAMORTIZED  EXPENSE,  DISCOUNT  AND PREMIUM ON DEBT.  Expense,  discount and
premium on debt are deferred and amortized over the lives of the related issues.
   CASH AND  CASH  EQUIVALENTS.  We  consider  all  investments  purchased  with
maturities of three months or less to be cash equivalents.                      
   ACCOUNTING  FOR  STOCK-BASED  COMPENSATION.  We have  elected to account  for
stock-based  compensation in accordance with APB Opinion No. 25, "Accounting for
Stock Issued to Employees."  Accordingly,  we recognize  expense for performance
share awards  granted and do not  recognize  expense for employee  stock options
granted.  The after-tax  expense  recognized  for  performance  share awards was
approximately  $3 million  in 2003 ($4  million in 2002).  The  following  table
illustrates  the effect on net income and  earnings  per share if we had applied
the fair value recognition  provisions of SFAS 123,  "Accounting for Stock-Based
Compensation."                                                                  

                                                                [Download Table]

FOR THE YEAR ENDED                                                              
DECEMBER 31                                         2003       2002      2001   
================================================================================
MILLIONS EXCEPT PER SHARE AMOUNTS                                               
                                                                                
Net Income                                                                      
  As Reported                                      $236.4     $137.2    $138.7  
  Less: Employee Stock Compensation                                             
        Expense Determined Under                                                
        SFAS 123 - Net of Tax                        (0.5)      (1.4)      0.8  
--------------------------------------------------------------------------------
  Pro Forma Net Income                             $235.9     $135.8    $139.5  
--------------------------------------------------------------------------------
Basic Earnings Per Share                                                        
  As Reported                                       $2.85      $1.69     $1.83  
  Pro Forma                                         $2.85      $1.67     $1.84  
--------------------------------------------------------------------------------
Diluted Earnings Per Share                                                      
  As Reported                                       $2.84      $1.68     $1.81  
  Pro Forma                                         $2.83      $1.66     $1.82  
================================================================================

   In the  previous  table,  the  expense for  employee  stock  options  granted
determined under SFAS 123 was calculated using the Black-Scholes  option pricing
model and the following assumptions:                                            

                                                                [Download Table]

                                            2003         2002          2001     
================================================================================
                                                                                
Risk-Free Interest Rate                     3.1%          4.4%         5.0%     
Expected Life - Years                          5             5            5     
Expected Volatility                        25.2%         24.2%        22.2%     
Dividend Growth Rate                          2%            2%           2%     
================================================================================

   FOREIGN  CURRENCY  TRANSLATION.  Results of  operations  for our Canadian and
Mexican subsidiaries are translated into United States dollars using the average
exchange rates during the period.  Assets and  liabilities  are translated  into
United  States  dollars  using the  exchange  rate on the  balance  sheet  date.
Resulting  translation   adjustments  are  recorded  in  the  Accumulated  Other
Comprehensive  Gain (Loss) section of  Shareholders'  Equity on our consolidated
balance sheet.                                                                  
   ENVIRONMENTAL  LIABILITIES.  We review  environmental  matters on a quarterly
basis.  Accruals for environmental matters are recorded when it is probable that
a liability  has been incurred and the amount of the liability can be reasonably
estimated,  based on current law and existing  technologies.  These accruals are
adjusted  periodically  as assessment  and  remediation  efforts  progress or as
additional  technical  or legal  information  becomes  available.  Accruals  for
environmental  liabilities  are  included in the balance  sheet at  undiscounted
amounts and exclude claims for recoveries from insurance or other third parties.
Costs related to environmental  contamination  treatment and cleanup are charged
to expense.                                                                     

--------------------------------------------------------------------------------
PAGE 68 

10-K
64th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 64th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   INCOME TAXES. We file a consolidated federal income tax return.  Income taxes
are allocated to each subsidiary  based on their taxable income.  We account for
income taxes using the liability  method as prescribed by SFAS 109,  "Accounting
for Income Taxes." Under the liability  method,  deferred income tax liabilities
are  established  for all  temporary  differences  in the book and tax  basis of
assets and liabilities  based upon enacted tax laws and rates  applicable to the
periods in which the taxes become  payable.  Due to the effects of regulation on
Minnesota Power, certain adjustments made to deferred income taxes are, in turn,
recorded as regulatory  assets or liabilities.  Investment tax credits have been
recorded as deferred  credits and are being amortized to income tax expense over
the service lives of the related property.                                      
   EXCISE  TAXES.  We  collect  an  immaterial  amount of excise  taxes from our
customers levied by government  entities.  These taxes are stated  separately on
the billing to the  customer  and  recorded as a liability to be remitted to the
government  entity.  We account for the collection and payment of these taxes on
the net basis and neither the amounts  collected  or paid are  reflected  on our
consolidated statement of income.                                               
   NEW ACCOUNTING STANDARDS. In January 2004 the FASB issued FASB Staff Position
SFAS 106-1,  "Accounting  and  Disclosure  Requirements  Related to the Medicare
Prescription Drug,  Improvement and Modernization Act of 2003" (Act). This Staff
Position allows employers who sponsor a postretirement health plan that provides
prescription  drug  benefits  to defer  recognizing  the  effects  of the Act in
accounting   for  its  plan  under   SFAS  106,   "Employers'   Accounting   for
Postretirement  Benefits Other Than  Pensions"  until  authoritative  accounting
guidance is issued.  We provide  postretirement  health  benefits  that  include
prescription  drug benefits,  and in accordance with this Staff  Position,  have
elected not to reflect the impact of the Act in our 2003  financial  statements.
We expect the Act will  eventually  reduce our costs for  postretirement  health
benefits and are reviewing the impact on our accumulated plan benefit obligation
and expense going forward.                                                      
   In May 2003 the FASB  issued  SFAS 150,  "Accounting  for  Certain  Financial
Instruments  with  Characteristics  of both Liabilities and Equity." In general,
SFAS 150  established  standards for  classification  and measurement of certain
financial  instruments with the  characteristics of both liabilities and equity.
Mandatorily  redeemable financial  instruments must be classified as a liability
and the related  payments  must be reported as interest  expense.  The new rules
became effective in the third quarter of 2003 for previously  existing financial
instruments.  Beginning  with the third  quarter of 2003,  we  reclassified  our
Mandatorily  Redeemable  Preferred  Securities  as  a  long-term  liability  and
reclassified  the  quarterly  distributions  as  interest  expense.  This  was a
reclassification  only  and  did not  impact  our  results  of  operations.  The
Mandatorily Redeemable Preferred Securities were redeemed in December 2003.     
   In January  2003 the FASB issued  Interpretation  No. 46,  "Consolidation  of
Variable Interest  Entities." In general, a variable interest entity is one with
equity  investors  that do not have voting  rights or do not provide  sufficient
financial  resources  for the entity to support  its  activities.  Under the new
rules,  variable interest entities are consolidated by the party that is subject
to the  majority of the risk of loss or entitled to the majority of the residual
returns. In December 2003 the FASB issued  Interpretation No. 46R to replace and
clarify some of the provisions of  Interpretation  No. 46. Under  Interpretation
46R,  the rules  became  effective  on December 15, 2003 for interest in certain
structures,  and March 15, 2004 for interest in all other structures. We are not
a party to any  variable  interest  entity  required  to be  consolidated  under
Interpretation No. 46R.                                                         

3  SPIN-OFF AND IPO OF AUTOMOTIVE SERVICES                                      

   In October 2003 our Board of Directors  approved a plan to spin off to ALLETE
shareholders  our  Automotive  Services  business  which will  become a publicly
traded  company  doing  business as ADESA.  The spin-off is expected to take the
form of a tax-free  stock dividend to ALLETE's  shareholders,  who would receive
one ADESA share for each share of ALLETE stock they own. The spin-off is subject
to the  approval of the final plan by  ALLETE's  Board of  Directors,  favorable
market conditions, receipt of tax opinions, satisfaction of SEC requirements and
other  customary  conditions,  and is expected to occur in the third  quarter of
2004. In accordance with SFAS 144, "Accounting for the Impairment or Disposal of
Long-Lived   Assets,"  we  will  report  the  Automotive  Services  business  in
discontinued operations after the spin-off.                                     
   In March 2004 our Board of  Directors  approved  an initial  public  offering
(IPO) of approximately $150 million in common shares of ADESA, representing less
than 20% of all ADESA Common stock  outstanding.  A  registration  statement was
filed with the SEC in March 2004,  with the sale of ADESA stock expected to take
place as soon as practical after the registration  statement becomes  effective.
Subsequent to the IPO, ALLETE will continue to own and consolidate the remaining
portion of ADESA until consummation of the spin-off.                            

4  DISCONTINUED OPERATIONS                                                      

   In 2002 we began to execute plans developed in a strategic  review of all our
businesses to unlock  shareholder value not reflected in the price of our common
stock.  Businesses  identified  as having more value if  operated  by  potential
purchasers  rather than by us include our Water Services  businesses in Florida,
which were under imminent threats of  condemnation,  North Carolina and Georgia,
and our vehicle transport  business.  We sold our vehicle transport business and
exited  our  retail  stores at the end of first  quarter  2002,  and  exited our
vehicle import business in the first quarter of 2003.                           
   The December  2002 asset  purchase  agreement  Florida  Water signed with the
Florida Water Services Authority, a governmental authority formed under the laws
of the state of Florida,  was  terminated by Florida Water in March 2003 after a
Florida  court  ruling  delayed the sale.  Selling  costs  associated  with this
terminated  transaction were expensed in 2003 and are included in Gain (Loss) on
Disposal in the following table.                                                

--------------------------------------------------------------------------------
PAGE 69 

10-K
65th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 65th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   During 2003, we sold, under  condemnation or imminent threat of condemnation,
substantially  all of our water  assets in Florida  for a total  sales  price of
approximately  $445  million.  In addition,  we reached an agreement to sell our
North Carolina water assets for $48 million and the assumption of  approximately
$28  million  in debt by the  purchaser.  The North  Carolina  sale is  awaiting
approval of the NCUC and is expected to close in mid-2004. We expect to sell our
remaining water assets in Florida and Georgia in 2004.                          
   Earnings from Discontinued  Operations for 2003 included a $71.6 million,  or
$0.86  per  share,  after-tax  gain on the sale of  substantially  all our Water
Services businesses.  The gain was net of all selling,  transaction and employee
termination benefit expenses,  as well as impairment losses on certain remaining
assets. In accordance with SFAS 144,  "Accounting for the Impairment or Disposal
of Long-Lived Assets," we recorded an impairment loss on certain remaining water
assets  where the fair  value,  less costs to sell,  was less than our  carrying
amount.                                                                         
   The net cash proceeds from the sale of all water  assets,  after  transaction
costs,  retirement of most Florida  Water debt and payment of income taxes,  are
expected to be  approximately  $300 million.  These net proceeds have been,  and
will be, used to retire debt at ALLETE.                                         

                                                                [Download Table]
SUMMARY OF DISCONTINUED OPERATIONS                                              
================================================================================
MILLIONS                                                                        
INCOME STATEMENT                                                                

YEAR ENDED DECEMBER 31                      2003           2002        2001     
--------------------------------------------------------------------------------
                                                                                
Operating Revenue                          $109.2         $134.0      $149.3    
Pre-Tax Income                                                                  
     from Operations                       $ 32.8          $36.9       $23.8    
Income Tax Expense                           12.4           14.7         9.6    
--------------------------------------------------------------------------------
                                             20.4           22.2        14.2    
--------------------------------------------------------------------------------
Gain (Loss) on Disposal                     112.1 <F1>      (5.8)       (6.8)   
Income Tax Expense (Benefit)                 39.2           (1.9)       (2.4)   
--------------------------------------------------------------------------------
                                             72.9           (3.9)       (4.4)   
--------------------------------------------------------------------------------
Income from                                                                     
     Discontinued Operations               $ 93.3          $18.3       $ 9.8    
--------------------------------------------------------------------------------
<FN>                                                                            
<F1> Included a $2.0 million recovery from a settlement related to the 2002 sale
     of our vehicle transport business.                                         
</FN>                                                                           


BALANCE SHEET INFORMATION                                                       

DECEMBER 31                                                2003        2002     
--------------------------------------------------------------------------------
                                                                                
Assets of Discontinued Operations                                               
      Cash and Cash Equivalents                           $  6.5      $  9.6    
      Other Current Assets                                   8.4        19.2    
      Property, Plant and Equipment                         81.2       311.6    
      Other Assets                                           6.7        34.5    
--------------------------------------------------------------------------------
                                                          $102.8      $374.9    
--------------------------------------------------------------------------------
Liabilities of Discontinued Operations                                          
      Current Liabilities                                  $49.5      $ 29.7    
      Long-Term Debt                                        19.9        90.7    
      Other Liabilities                                     25.1        37.1    
--------------------------------------------------------------------------------
                                                           $94.5      $157.5    
================================================================================

   In October  2003 the FPSC voted to initiate a proceeding  to examine  whether
the sale of Florida  Water's  assets  involves a gain that should be shared with
Florida Water's  customers.  The question raised is whether the entire gain from
the asset sales should go to Florida Water and its shareholders, or should it be
shared with customers.  In November 2003 the FPSC issued a final order regarding
a similar  gain on sale issue for  Utilities,  Inc.  In that order the FPSC made
several  findings that could be helpful to Florida  Water's case including among
others;  that  courts  have  found  that  rates  paid by  customers  do not vest
ratepayers  with ownership  rights to the property used to render  service,  and
shareholders  bear the risk of gain or loss associated with  investments made to
provide  service.  Florida Water  intends to vigorously  contest any decision to
seek sharing of the gain with customers.  Florida Water is unable to predict the
outcome of this proceeding.                                                     

5  ACQUISITIONS                                                                 

   ADESA AUCTION FACILITIES.  In January 2001 we acquired all of the outstanding
stock of ComSearch in exchange for ALLETE common stock and paid cash to purchase
all of the assets of Auto  Placement  Center (now ADESA Impact) in  transactions
with an aggregate value of $62.4 million. In May 2001 ADESA purchased the assets
of the I-44 Auto Auction in Tulsa,  Oklahoma.  ADESA Impact and ADESA Tulsa were
accounted for using the purchase method and financial results have been included
in our consolidated  financial statements since the date of purchase.  Pro forma
financial results were not material. ComSearch was accounted for as a pooling of
interests. Financial results for prior periods have not been restated to reflect
this pooling due to immateriality.                                              
   ACQUISITION OF ENVENTIS, INC. In July 2001 we acquired Enventis, Inc., a data
network systems  provider  headquartered  in the  Minneapolis-St.  Paul area. In
connection  with this  acquisition,  we issued  310,878  shares of ALLETE common
stock.  Enventis was accounted for as a pooling of interests.  Financial results
for  prior  periods  have not been  restated  to  reflect  this  pooling  due to
immateriality.                                                                  
   ACQUISITION  OF  GENERATING  FACILITY.  In October  2001 we acquired  certain
non-mining  properties from LTV and  Cleveland-Cliffs  Inc. for $75 million. The
non-mining  properties  included  a  200  MW  nonregulated  electric  generating
facility located at Taconite Harbor in northeastern Minnesota.                  
   REAL  ESTATE  ACQUISITIONS.  In  December  2002  our real  estate  subsidiary
purchased  additional  land  near  Palm  Coast,  Florida.  The  transaction  was
accounted for using the purchase method.                                        
   In  September  2001 our real estate  subsidiary  purchased  Winter Haven Citi
Centre, a retail shopping center.  In December 2001 and January 2002 real estate
subsidiaries   purchased   additional  land  in  Palm  Coast,   Florida.   These
transactions had a combined purchase price of approximately $31 million and were
accounted for using the purchase method.                                        

--------------------------------------------------------------------------------
PAGE 70 

10-K
66th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 66th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

6  PROPERTY, PLANT AND EQUIPMENT                                                

                                                                [Download Table]
PROPERTY, PLANT AND EQUIPMENT                                                   

FOR THE YEAR ENDED DECEMBER 31                         2003             2002    
================================================================================
MILLIONS                                                                        
                                                                                
Energy Services Regulated Utility                    $1,475.7         $1,433.1  
Construction Work in Progress                            11.9             13.3  
Accumulated Depreciation                               (692.3)          (679.5) 
--------------------------------------------------------------------------------
  Energy Services Regulated                                                     
    Utility Plant - Net                                 795.3            766.9  
--------------------------------------------------------------------------------
Energy Services Nonregulated                            161.2            153.4  
Construction Work in Progress                             1.6              4.1  
Accumulated Depreciation                                (42.8)           (48.0) 
--------------------------------------------------------------------------------
  Energy Services Nonregulated                                                  
    Plant - Net                                         120.0            109.5  
--------------------------------------------------------------------------------
Automotive Services                                     680.5            525.2  
Construction Work in Progress                             2.8             38.5  
Accumulated Depreciation                               (103.6)           (79.5) 
--------------------------------------------------------------------------------
  Automotive Services Plant - Net                       579.7            484.2  
--------------------------------------------------------------------------------
Other Plant - Net                                         4.0              4.1  
--------------------------------------------------------------------------------
  Property, Plant and Equipment - Net                $1,499.0         $1,364.7  
================================================================================

   Depreciation  is computed using the  straight-line  method over the estimated
useful  lives of the  various  classes  of  plant.  The  MPUC and the PSCW  have
approved depreciation rates for our Energy Services utility plant.              

                                                                [Download Table]
ESTIMATED USEFUL LIVES OF PROPERTY, PLANT AND EQUIPMENT                         

================================================================================
                                                                                
Energy Services Regulated Utility                                               
    Generation                                           5 to 30 years          
    Transmission                                        40 to 60 years          
    Distribution                                        30 to 70 years          

Energy Services Nonregulated                             5 to 35 years          

Automotive Services                                                             
    Building and Improvements                            5 to 40 years          
    Other                                                2 to 10 years          
================================================================================

   ASSET RETIREMENT OBLIGATIONS.  Effective January 1, 2003 we adopted SFAS 143,
"Accounting  for  Asset  Retirement   Obligations."  Under  the  new  accounting
standard,  we  recognize,  at  fair  value,   obligations  associated  with  the
retirement  of tangible  long-lived  assets  that  result from the  acquisition,
construction or development and/or normal operation of the asset. The associated
retirement  costs are  capitalized as part of the related  long-lived  asset and
depreciated  over the useful  life of the asset.  Asset  retirement  obligations
relate  primarily  to  the  decommissioning  of  our  utility  steam  generating
facilities and reclamation at BNI Coal, and are included in Other Liabilities on
our  consolidated  balance  sheet.  Prior to the  adoption of SFAS 143,  utility
decommissioning   obligations  were  accrued  through  depreciation  expense  at
depreciation  rates approved by the MPUC.  Upon  implementation  of SFAS 143, we
reclassified  previously recorded  liabilities of $12.5 million from Accumulated
Depreciation and capitalized a net asset retirement cost of $6.7 million.       

                                                                [Download Table]
ASSET RETIREMENT OBLIGATION                                                     

================================================================================
MILLIONS                                                                        
                                                                                
Obligation at December 31, 2002                                     -           
Initial Obligation Upon Adoption of SFAS 143                    $19.0           
Accretion Expense                                                 0.7           
Additional Liabilities Incurred in 2003                           1.0           
--------------------------------------------------------------------------------
Obligation at December 31, 2003                                 $20.7           
================================================================================

7  REGULATORY MATTERS                                                           

   We file for periodic rate  revisions  with the MPUC, the FERC and other state
regulatory  authorities.  Interim  rates in  Minnesota  are placed into  effect,
subject to refund with  interest,  pending a final  decision by the  appropriate
commission. In 2003, 29% of our consolidated operating revenue (32% in 2002; 31%
in 2001) was under regulatory authority.  The MPUC had regulatory authority over
approximately  23% in 2003 (25% in 2002 and 2001) of our consolidated  operating
revenue.                                                                        
   ELECTRIC  RATES.  New  federal  legislation  and FERC  regulations  have been
proposed that aim to maintain  reliability,  assure adequate energy supply,  and
address  wholesale price volatility  while  encouraging  wholesale  competition.
Legislation  or  regulation  that  initiates a process  which may lead to retail
customer choice of their electric service  provider  currently lacks momentum in
both Minnesota and Wisconsin. Legislative and regulatory activity as well as the
actions of competitors  affect the way Minnesota Power  strategically  plans for
its future. We cannot predict the timing or substance of any future  legislation
or regulation.                                                                  
   DEFERRED REGULATORY CHARGES AND CREDITS. Our regulated utility operations are
subject to the  provisions  of SFAS 71,  "Accounting  for the Effects of Certain
Types of  Regulation."  We capitalize as deferred  regulatory  charges  incurred
costs  which  are  probable  of  recovery  in  future  utility  rates.  Deferred
regulatory  credits  represent  amounts  expected to be credited to customers in
rates.  Deferred regulatory charges and credits are included in other assets and
other liabilities on our consolidated balance sheet.                            

                                                                [Download Table]
DEFERRED REGULATORY CHARGES AND CREDITS                                         

DECEMBER 31                                             2003            2002    
================================================================================
MILLIONS                                                                        
                                                                                
Deferred Charges                                                                
     Income Taxes                                     $ 14.1           $ 11.8   
     Conservation Improvement Programs                   1.5              0.1   
     Premium on Reacquired Debt                          3.8              3.9   
     Other                                               6.8              4.2   
--------------------------------------------------------------------------------
                                                        26.2             20.0   
Deferred Credits - Income Taxes                         39.3             39.5   
--------------------------------------------------------------------------------
Net Deferred Regulatory Liabilities                   $(13.1)          $(19.5)  
================================================================================

--------------------------------------------------------------------------------
PAGE 71 

10-K
67th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 67th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

8  FINANCIAL INSTRUMENTS                                                        

   SECURITIES INVESTMENTS.  At December 31, 2003 Investments included securities
accounted  for as  available-for-sale  under SFAS 115,  "Accounting  for Certain
Investments  in Debt and Equity  Securities,"  and  securities  in our  emerging
technology  portfolio accounted for under the cost method.  Investment gains and
losses were  included in Operating  Revenue -  Investments  on our  consolidated
income statement.                                                               
   At December 31, 2003 our available-for-sale securities portfolio consisted of
securities in a grantor trust  established  to fund certain  employee  benefits.
Available-for-sale  securities are recorded at fair value with unrealized  gains
and losses  included in  accumulated  other  comprehensive  income,  net of tax.
Unrealized  losses that are other than temporary are recognized in earnings.  We
use the specific  identification method as the basis for determining the cost of
securities sold. Our policy is to review on a quarterly basis available-for-sale
securities for other than temporary  impairment by assessing such factors as the
continued  viability of products offered,  cash flow, share price trends and the
impact of overall market conditions. As a result of our periodic assessments, we
did not record any  impairment  write-down on  available-for-sale  securities in
2003 or 2002.  During  the second  quarter  of 2003 we sold the  publicly-traded
investments  held in our emerging  technology  portfolio  and  recognized a $2.3
million after-tax loss. These  publicly-traded  emerging technology  investments
were accounted for as available-for-sale securities prior to sale.              

                                                                [Download Table]
AVAILABLE-FOR-SALE SECURITIES                                                   

================================================================================
MILLIONS                                                                        
                                                  GROSS                         
                                               UNREALIZED                FAIR   
AT DECEMBER 31           COST              GAIN         (LOSS)           VALUE  
--------------------------------------------------------------------------------
                                                                                
2003                    $18.8              $1.4             -            $20.2  
2002                    $25.4              $0.7         $(5.2)           $20.9  
2001                    $18.1             $10.3         $(1.9)           $26.5  
--------------------------------------------------------------------------------

                                                                       NET      
                                                                    UNREALIZED  
                                                                    GAIN (LOSS) 
                                                 GROSS               IN OTHER   
YEAR ENDED              SALES                   REALIZED           COMPREHENSIVE
DECEMBER 31            PROCEEDS            GAIN         (LOSS)        INCOME    
--------------------------------------------------------------------------------
                                                                                
2003                     $6.4              $1.2         $(4.7)          $2.4    
2002                    $12.1              $1.0             -         $(11.8)   
2001                        -                 -             -           $3.6    
================================================================================

   As part of our  emerging  technology  portfolio,  we  have  several  minority
investments in venture capital funds and privately-held start-up companies.  The
total carrying value of these investments was $37.5 million at December 31, 2003
($38.7  million at December 31, 2002).  Our policy is to quarterly  review these
investments  for  impairment by assessing  such factors as continued  commercial
viability of products,  cash flow and earnings.  Any impairment would reduce the
carrying value of the investment. We did not record any impairment loss on these
investments in 2003 ($1.5 million pretax in 2002; $0.2 million pretax in 2001). 
   During  the  second  half of 2002 we  substantially  liquidated  our  trading
securities  portfolio  and  incurred a $2.9  million  after-tax  loss.  Prior to
liquidation,  the trading securities portfolio consisted primarily of the common
stock of various publicly traded companies and was included in current assets at
fair  value.  Changes in fair value were  recognized  in  earnings,  and the net
unrealized gain included in 2001 income was $0.9 million.                       
   FINANCIAL INSTRUMENTS AND OFF-BALANCE SHEET RISKS. In October 2001 we entered
into an interest rate swap agreement  which expired in January 2003. We have not
entered into any new interest rate swap agreements.                             
   FAIR VALUE OF FINANCIAL  INSTRUMENTS.  With the exception of the items listed
below,  the estimated fair values of all financial  instruments  approximate the
carrying amount. The fair values for the items below were based on quoted market
prices for the same or similar instruments.                                     

                                                                [Download Table]
FINANCIAL INSTRUMENTS                                                           

                                              CARRYING                FAIR      
DECEMBER 31                                    AMOUNT                 VALUE     
================================================================================
MILLIONS                                                                        
                                                                                
Long-Term Debt                                                                  
      2003                                     $785.2                 $835.8    
      2002                                     $980.1               $1,027.7    
Quarterly Income Preferred                                                      
  Securities                                                                    
      2003                                          -                      -    
      2002                                      $75.0                  $75.5    
================================================================================

   CONCENTRATION  OF CREDIT  RISK.  Financial  instruments  that  subject  us to
concentrations  of  credit  risk  consist  primarily  of  accounts   receivable.
Minnesota Power sells electricity to about 13 customers in northern  Minnesota's
taconite,  pipeline, paper and wood products industries.  Receivables from these
customers totaled  approximately $8 million at December 31, 2003 ($10 million at
December  31,  2002).  Minnesota  Power  does not obtain  collateral  to support
utility receivables, but monitors the credit standing of major customers.       
   Due to the nature of our Automotive  Services'  business,  substantially  all
trade  and  finance  receivables  are due from  vehicle  dealers  and  insurance
companies.  We have possession of vehicles or vehicle titles  collateralizing  a
significant portion of the trade and finance receivables.                       

--------------------------------------------------------------------------------
PAGE 72 

10-K
68th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 68th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

9  GOODWILL AND OTHER INTANGIBLES                                               

   The table below sets forth what  reported  net income and  earnings per share
would have been exclusive of amortization expense recognized related to goodwill
or other intangible  assets that are no longer being  amortized.  Goodwill is no
longer  amortized  after 2001. All goodwill  amortization  related to continuing
operations.                                                                     

                                                                [Download Table]

                                                                 2001           
================================================================================
MILLIONS EXCEPT PER SHARE AMOUNTS                                               
                                                                                
Net Income                                                                      
     Reported                                                   $138.7          
     Goodwill Amortization                                         9.9          
--------------------------------------------------------------------------------
     Adjusted                                                   $148.6          
--------------------------------------------------------------------------------
Earnings Per Share                                                              
     Basic                                                                      
         Reported                                                $1.83          
         Goodwill Amortization                                    0.13          
--------------------------------------------------------------------------------
     Adjusted                                                    $1.96          
--------------------------------------------------------------------------------
     Diluted                                                                    
         Reported                                                $1.81          
         Goodwill Amortization                                    0.13          
--------------------------------------------------------------------------------
     Adjusted                                                    $1.94          
================================================================================

   We conduct our annual  goodwill  impairment  testing in the second quarter of
each year and the 2003 test  resulted in no  impairment.  No event or change has
occurred that would  indicate the carrying  amount has been  impaired  since our
annual test.                                                                    

                                                                [Download Table]
GOODWILL                                                                        

================================================================================
MILLIONS                                                                        
                                                                                
Carrying Value, December 31, 2001                                     $491.9    
Acquired During Year                                                    10.1    
--------------------------------------------------------------------------------
Carrying Value, December 31, 2002                                      502.0    

Acquired During Year                                                     0.8    
Change Due to Foreign Currency Adjustment                                8.2    
--------------------------------------------------------------------------------
Carrying Value, December 31, 2003                                     $511.0    
================================================================================

                                                                [Download Table]
OTHER INTANGIBLE ASSETS                                                         

DECEMBER 31                                        2003                2002     
================================================================================
MILLIONS                                                                        
                                                                                
Customer Relationships                            $ 29.6              $ 29.6    
Computer Software                                   28.1                32.6    
Other                                                5.7                 6.7    
Accumulated Amortization                           (30.1)              (31.3)   
--------------------------------------------------------------------------------
Total                                             $ 33.3              $ 37.6    
================================================================================

   Other  Intangible  Assets  are  amortized  using  the  straight-line  method.
Amortization periods are three to fifty years for Customer Relationships, one to
seven  years for  Computer  Software  and three to ten  years for  Other.  Total
amortization expense for Other Intangible Assets was $9.0 million in 2003 ($10.2
million in 2002; $9.5 million in 2001) and is expected to be about $4 million to
$8 million over the next five years.                                            
   Costs  incurred  related to computer  software  developed  or  purchased  for
internal  use are  capitalized  during  the  application  development  stage  of
software   development.   Included  in  total  amortization  expense  for  Other
Intangible Assets was $5.2 million related to computer software ($6.0 million in
2002; $4.0 million in 2001).                                                    

10  SHORT-TERM BORROWINGS AND COMPENSATING BALANCES                             

   We have bank lines of credit  aggregating  $196.5 million  ($217.0 million at
December  31,  2002),  the  majority of which  expire in  December  2004 and are
negotiated  on an  annual  basis.  These  bank  lines of credit  make  financing
available  through   short-term  bank  loans  and  provide  credit  support  for
commercial  paper.  At December 31, 2003,  $196.5  million was available for use
($216.3 million at December 31, 2002).  There was no commercial  paper issued as
of December  31, 2003 ($73.8  million in 2002 with a weighted  average  interest
rate of 1.79%).                                                                 
   Certain lines of credit require a commitment  fee of 0.0150%.  Interest rates
on  short-term  borrowings  were 2.06% at  December  31, 2003 (1.75% to 1.85% at
December 31, 2002).  The total amount of  compensating  balances at December 31,
2003 and 2002, was immaterial.                                                  
   In July 2003 ALLETE  entered  into a credit  agreement to borrow $250 million
from a consortium of financial institutions,  the proceeds of which were used to
redeem $250 million of the  Company's  Floating  Rate First  Mortgage  Bonds due
October 20, 2003.  The credit  agreement  expires in July 2004,  has an interest
rate of LIBOR plus 0.875% and is secured by the lien of the  Company's  Mortgage
and Deed of Trust.  The credit agreement also has certain  mandatory  prepayment
provisions,  including a requirement  to repay an amount equal to 75% of the net
proceeds from the sale of water  assets.  In  accordance  with these  provisions
$197.0 million was repaid in 2003 and $53.0 million was  outstanding at December
31, 2003.                                                                       
   Our lines of credit contain  financial  covenants.  These  covenants  require
ALLETE (1) not to exceed a maximum  ratio of funded debt to total capital of .60
to 1.0 and (2) to maintain an interest  coverage  ratio of not less than 3.00 to
1.00. Failure to meet these covenants could give rise to an event of default, if
not  corrected  after notice from the lender;  in which event ALLETE may need to
pursue alternative  sources of funding.  As of December 31, 2003, ALLETE's ratio
of funded debt to total capital was .36 to 1.0, the interest  coverage ratio was
5.83 to 1.00 and ALLETE was in compliance with these financial covenants.       
   ALLETE's lines of credit contain a  cross-default  provision,  under which an
event of  default  would  arise if other  ALLETE  obligations  in excess of $5.0
million were in default.                                                        

--------------------------------------------------------------------------------
PAGE 73 

10-K
69th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 69th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

11  LONG-TERM DEBT                                                              

                                                                [Download Table]
LONG-TERM DEBT                                                                  

DECEMBER 31                                            2003            2002     
================================================================================
MILLIONS                                                                        
                                                                                
First Mortgage Bonds                                                            
     6.68% Series Due 2007                           $ 20.0          $  20.0    
     7% Series Due 2007                                60.0             60.0    
     7 1/2% Series Due 2007                            35.0             35.0    
     7% Series Due 2008                                50.0             50.0    
     6% Pollution Control Series E Due 2022           111.0            111.0    
     Floating Rate                                        -            250.0    
     6 1/4% Series                                        -             25.0    
     7 3/4% Series                                        -             50.0    

Senior Notes                                                                    
     7.70% Series A Due 2006                           90.0             90.0    
     7.80% Due 2008                                   125.0            125.0    
     8.10% Series B Due 2010                           35.0             35.0    

Variable Notes                                                                  
     Due 2006                                          45.0                -    
     Due 2020                                          28.4                -    

Capital Lease Obligation Due 2013                      34.5                -    

Variable Demand Revenue Refunding                                               
     Bonds Series 1997 A, B, C and D                                            
     Due 2007 - 2020                                   39.0             39.0    

Industrial Development Revenue Bonds,                                           
     6.50% Due 2025                                    35.1             35.1    

Other Long-Term Debt, 2.0 - 8.8%                                                
     Due 2004 - 2026                                   77.2             55.0    
--------------------------------------------------------------------------------
Total Long-Term Debt                                  785.2            980.1    

Less Due Within One Year                              (37.5)          (283.7)   
--------------------------------------------------------------------------------
Net Long-Term Debt                                   $747.7          $ 696.4    
================================================================================

   The aggregate  amount of long-term debt maturing during 2004 is $37.5 million
($30.2 million in 2005;  $137.1 million in 2006;  $119.0 million in 2007; $182.3
million  in 2008;  and  $279.1  million  thereafter).  Substantially  all of our
electric  plant is subject to the lien of the mortgages  securing  various first
mortgage bonds.                                                                 
   At December 31, 2003 we had long-term bank lines of credit  aggregating $38.0
million ($39.7  million at December 31, 2002).  Drawn portions on these lines of
credit were $28.8 million in 2003 ($5.5 million in 2002).                       
   In June 2003 ADESA  restructured its financial  arrangements  with respect to
four  of  its  used  vehicle  auction  facilities  previously  accounted  for as
operating  leases.  The  transactions  included the assumption of $28 million of
long-term  debt and the  issuance  of $45  million of  long-term  debt.  The $28
million  of  assumed  long-term  debt  matures  April 1, 2020 and has a variable
interest  rate equal to the  seven-day AA Financial  Commercial  Paper Rate plus
approximately  1.2%,  while the $45 million of  long-term  debt matures July 30,
2006 and has a variable interest rate of prime or LIBOR plus 1%.                
   In July 2003 ALLETE used internally  generated funds to retire $25 million in
principal  amount of the Company's First Mortgage Bonds,  Series 6 1/4% due July
1, 2003.                                                                        
   In July 2003 $250 million in principal amount of the Company's  Floating Rate
First  Mortgage  Bonds due October 20, 2003 were  redeemed  with proceeds from a
$250 million credit agreement entered into in July 2003. (See Note 10.)         
   In November  2003 ALLETE  redeemed  $50  million in  principal  amount of the
Company's  First  Mortgage  Bonds,  7 3/4%  Series due June 1, 2007.  Internally
generated  funds and proceeds from the sale of Florida Water assets were used to
repay the principal,  premium and accrued interest, totaling approximately $52.1
million, to the bondholders.                                                    
   In December 2003 ADESA recorded $34.5 million of long-term debt in connection
with the capital lease obligation of one of its used vehicle auction facilities.
The debt matures December 2013 and has a fixed rate of 5%.                      
   In January 2004 we used internally  generated  funds to retire  approximately
$3.5 million in principal amount of Industrial  Development Revenue Bonds Series
1994-A, due January 1, 2004.                                                    
   ALLETE's long-term debt arrangements  contain financial  covenants.  The most
restrictive  covenant  requires  ALLETE not to exceed a maximum  ratio of funded
debt to total capital of .65 to 1.0.  Failure to meet this  covenant  could give
rise to an event of default,  if not corrected  after notice from the trustee or
security holder; in which event ALLETE may need to pursue alternative sources of
funding.  As of December 31, 2003 ALLETE's ratio of funded debt to total capital
was .36 to 1.0 and ALLETE was in compliance with its financial covenants.       
   Some  of  ALLETE's  long-term  debt  arrangements   contain   "cross-default"
provisions  that would result in an event of default if there is a failure under
other financing arrangements to meet payment terms or to observe other covenants
that would result in an acceleration of payments due.                           
   The interest  rate on the 7.80% Senior Note due 2008 will  increase  0.50% to
1.00% in the event of a downgrade in ALLETE's  senior  unsecured  long-term debt
ratings below investment grade.                                                 
   The 6.68% Series Due 2007 and the 7% Series Due 2007 cannot be redeemed prior
to maturity.  The 7 1/2% Series Due 2007 are redeemable after August 1, 2005 and
the 7% Series Due 2008 are  redeemable  after March 1, 2006.  The remaining debt
may be redeemed in whole or in part at our option  according to the terms of the
obligations.                                                                    

12  MANDATORILY REDEEMABLE PREFERRED SECURITIES                                 

   In December 2003 ALLETE  redeemed  through  ALLETE  Capital I, a wholly owned
statutory  trust of ALLETE,  all $75 million of its 8.05% QUIPS.  The redemption
price  was $25 per  QUIPS  plus  accumulated  and  unpaid  distributions  to the
redemption  date. The QUIPS were issued in March 1996 and represented  preferred
ownership  interests in the assets of ALLETE Capital I. The sole asset of ALLETE
Capital I was 8.05% Junior Subordinated Debentures, Series A, Due 2015 issued by
ALLETE.                                                                         

--------------------------------------------------------------------------------
PAGE 74 

10-K
70th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 70th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

13  COMMON STOCK AND EARNINGS PER SHARE                                         

   Our Articles of Incorporation  and mortgages  contain  provisions that, under
certain circumstances,  would restrict the payment of common stock dividends. As
of December 31, 2003 no retained  earnings were  restricted as a result of these
provisions.                                                                     

                                                                [Download Table]

SUMMARY OF COMMON STOCK                              SHARES           EQUITY    
================================================================================
MILLIONS                                                                        
                                                                                
Balance at December 31, 2000                          74.7            $576.9    
2001    Public Offering                                6.6             150.0    
        Employee Stock Purchase Plan                   0.1               1.4    
        Invest Direct <F1>                             0.8              18.9    
        Other                                          1.7              23.1    
--------------------------------------------------------------------------------
Balance at December 31, 2001                          83.9             770.3    
2002    Employee Stock Purchase Plan                   0.1               1.4    
        Invest Direct <F1>                             0.8              19.6    
        Other                                          0.8              23.6    
--------------------------------------------------------------------------------
Balance at December 31, 2002                          85.6             814.9    
2003    Employee Stock Purchase Plan                   0.1               1.4    
        Invest Direct <F1>                             0.8              19.9    
        Other                                          0.8              23.0    
--------------------------------------------------------------------------------
Balance at December 31, 2003                          87.3            $859.2    
================================================================================
<FN>                                                                            
<F1>   Invest Direct is ALLETE's direct stock purchase and dividend reinvestment
       plan.                                                                    
</FN>                                                                           

   COMMON STOCK ISSUANCE. In May and June 2001 we sold 6.6 million shares of our
common  stock in a public  offering at $23.68 per share.  Total net  proceeds of
approximately  $150  million  were  used to repay a  portion  of our  short-term
borrowings with the remainder invested in short-term instruments.               
   SHAREHOLDER RIGHTS PLAN. In 1996 we adopted a rights plan that provides for a
dividend  distribution  of one  preferred  share  purchase  right  (Right) to be
attached to each share of common stock.                                         
   The Rights,  which are currently not exercisable or  transferable  apart from
our common stock, entitle the holder to purchase one two-hundredth of a share of
ALLETE's  Junior  Serial  Preferred  Stock A, without par value,  at an exercise
price of $45.  These  Rights  would  become  exercisable  if a  person  or group
acquires beneficial  ownership of 15% or more of our common stock or announces a
tender offer which would increase the person's or group's  beneficial  ownership
interest to 15% or more of our common stock,  subject to certain exceptions.  If
the 15%  threshold  is met,  each  Right  entitles  the holder  (other  than the
acquiring   person  or  group)  to  purchase   common   stock  (or,  in  certain
circumstances, cash, property or other securities of ours) having a market price
equal to twice the exercise  price of the Right.  If we are acquired in a merger
or business combination, or 50% or more of our assets or earning power are sold,
each  exercisable  Right  entitles  the holder to purchase  common  stock of the
acquiring or surviving  company having a value equal to twice the exercise price
of  the  Right.  Certain  stock  acquisitions  will  also  trigger  a  provision
permitting  the Board of Directors  to exchange  each Right for one share of our
common stock.                                                                   
   The Rights which expire on July 23, 2006,  are  nonvoting and may be redeemed
by us at a price of $0.005 per Right at any time they are not  exercisable.  One
million shares of Junior Serial  Preferred  Stock A have been authorized and are
reserved for issuance under the plan.                                           
   EARNINGS PER SHARE.  The  difference  between basic and diluted  earnings per
share arises from outstanding stock options and performance share awards granted
under our Executive and Director Long-Term Incentive Compensation Plans.        

                                                                [Download Table]

RECONCILIATION OF                                                               
BASIC AND DILUTED                               BASIC        DILUTIVE    DILUTED
EARNINGS PER SHARE                               EPS        SECURITIES     EPS  
================================================================================
                                                                                
2003                                                                            
Income from                                                                     
  Continuing Operations                        $143.1            -       $143.1 
Common Shares                                    82.8          0.5         83.3 
Per Share from                                                                  
  Continuing Operations                         $1.72            -        $1.72 
--------------------------------------------------------------------------------
2002                                                                            
Income from                                                                     
  Continuing Operations                        $118.9            -       $118.9 
Common Shares                                    81.1          0.6         81.7 
Per Share from                                                                  
  Continuing Operations                         $1.47            -        $1.46 
--------------------------------------------------------------------------------
2001                                                                            
Income from                                                                     
  Continuing Operations                        $128.9            -       $128.9 
Common Shares                                    75.8          0.7         76.5 
Per Share from                                                                  
  Continuing Operations                         $1.70            -        $1.68 
================================================================================

14 JOINTLY OWNED ELECTRIC FACILITY                                              

   We own 80% of the 534-MW Boswell Energy Center Unit 4 (Boswell Unit 4). While
we operate the plant,  certain  decisions about the operations of Boswell Unit 4
are subject to the  oversight  of a committee on which we and  Wisconsin  Public
Power,  Inc.  (WPPI),  the owner of the other 20% of Boswell  Unit 4, have equal
representation and voting rights.  Each of us must provide our own financing and
is obligated to pay our ownership share of operating  costs. Our share of direct
operating  expenses of Boswell  Unit 4 is included in  operating  expense on our
consolidated statement of income. Our 80% share of the original cost included in
electric  plant at December 31, 2003 was $308 million  ($310 million at December
31, 2002). The corresponding  accumulated  depreciation balance was $176 million
at December 31, 2003 ($170 million at December 31, 2002).                       

--------------------------------------------------------------------------------
PAGE 75 

10-K
71st “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 71st
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

15 COMMITMENTS, GUARANTEES AND CONTINGENCIES                                    

   SQUARE BUTTE POWER PURCHASE  AGREEMENT.  Minnesota Power has a power purchase
agreement with Square Butte that extends through 2026 (Agreement). It provides a
long-term  supply  of  low-cost  energy to  customers  in our  electric  service
territory and enables  Minnesota Power to meet power pool reserve  requirements.
Square Butte, a North Dakota cooperative  corporation,  owns a 455-MW coal-fired
generating  unit (Unit) near  Center,  North  Dakota.  The Unit is adjacent to a
generating unit owned by Minnkota Power, a North Dakota cooperative  corporation
whose Class A members are also members of Square Butte. Minnkota Power serves as
the operator of the Unit and also purchases power from Square Butte.            
   Minnesota Power is entitled to  approximately  71% of the Unit's output under
the Agreement.  After 2005 and upon  compliance  with a two-year  advance notice
requirement,   Minnkota  Power  has  the  option  to  reduce  Minnesota  Power's
entitlement  by 5% annually,  to a minimum of 50%. In December  2003 we received
notice  from  Minnkota  Power  that they will  reduce  our  output  entitlement,
effective January 1, 2006, by 5% to approximately 66%.                          
   Minnesota  Power is  obligated  to pay its pro rata  share of Square  Butte's
costs based on Minnesota Power's  entitlement to Unit output.  Minnesota Power's
payment  obligation  is  suspended  if Square  Butte fails to deliver any power,
whether  produced or purchased,  for a period of one year.  Square Butte's fixed
costs consist  primarily of debt service.  At December 31, 2003 Square Butte had
total debt  outstanding of $284.2 million.  Total annual debt service for Square
Butte is expected to be $22.9  million in each of the years 2004  through  2008.
Variable  operating costs include the price of coal purchased from BNI Coal, our
subsidiary, under a long-term contract.                                         
   Minnesota  Power's cost of power  purchased from Square Butte during 2003 was
$52.3 million ($60.9  million in 2002 and $63.3 million in 2001).  This reflects
Minnesota  Power's pro rata share of total  Square  Butte costs based on the 71%
output entitlement in 2003, 2002 and 2001. Included in this amount was Minnesota
Power's  pro rata  share of  interest  expense of $12.8  million in 2003  ($13.7
million in 2002;  $14.2 million in 2001).  Minnesota  Power's payments to Square
Butte are approved as purchased  power expense for  ratemaking  purposes by both
the MPUC and the FERC.                                                          
   LEASING AGREEMENTS. In June 2003 ADESA restructured its financial arrangement
with  respect  to  its  used  vehicle  auction   facilities  located  in  Tracy,
California;  Boston,  Massachusetts;  Charlotte,  North Carolina; and Knoxville,
Tennessee.  These used vehicle auction facilities were previously  accounted for
as operating leases. The transactions  included the assumption of $28 million of
long-term  debt,  the  issuance  of  $45  million  of  long-term  debt  and  the
recognition of $73 million of property, plant and equipment.                    
   We lease other  properties  and  equipment  in addition to those listed above
under operating lease agreements with terms expiring through 2032. The aggregate
amount of minimum lease  payments for all operating  leases during 2004 is $14.8
million ($10.6 million in 2005; $8.2 million in 2006; $6.1 million in 2007; $5.7
million in 2008;  and $59.0  million  thereafter).  Total rent expense was $27.4
million in 2003 ($26.7 million in 2002; $26.9 million in 2001).                 
   SPLIT ROCK ENERGY. We provided up to $50.0 million of credit support,  in the
form of letters of credit and  financial  guarantees,  to  facilitate  the power
marketing   activities  of  Split  Rock  Energy.   Minimal  credit  support  was
outstanding  at  December  31,  2003 ($7.3  million at December  31,  2002).  We
withdrew from active participation in Split Rock Energy in February 2004.       
   KENDALL  COUNTY  POWER  PURCHASE  AGREEMENT.  We have 275 MW of  nonregulated
generation (non rate-base generation sold at market-based rates to the wholesale
market)  through an  agreement  with NRG Energy that extends  through  September
2017.  Under the agreement we pay a fixed capacity charge for the right, but not
the  obligation,  to capacity  and energy from a 275 MW  generating  unit at NRG
Energy's  Kendall  County  facility  near  Chicago,  Illinois.  The annual fixed
capacity  charge is $21.8  million.  We are also  responsible  for arranging the
natural gas fuel supply.  Our strategy is to enter into  long-term  contracts to
sell a significant  portion of the 275 MW from the Kendall County facility;  the
balance  will be sold in the  spot  market  through  short-term  agreements.  We
currently have 130 MW (100 MW in 2003) of long-term capacity sales contracts for
the Kendall  County  generation,  with 50 MW expiring in April 2012 and 80 MW in
September  2017.  Neither the Kendall  County  agreement  nor the related  sales
contracts are derivatives under SFAS 133, "Accounting for Derivative Instruments
and Hedging  Activities." In total,  the Kendall County  facility  operated at a
loss in 2003 due to negative spark spreads (the  differential  between  electric
and  natural  gas  prices)  in the  wholesale  power  market  and our  resulting
inability to cover the fixed capacity charge on approximately  175 MW. We expect
the  facility to continue to generate  losses  until such time as spark  spreads
improve  or we are  able to  enter  into  additional  long-term  capacity  sales
contracts.                                                                      
   EMERGING TECHNOLOGY INVESTMENTS. We have investments in emerging technologies
through  minority  investments  in  venture  capital  funds  and  privately-held
start-up companies.  We have committed to make additional investments in certain
emerging  technology  holdings.  The total future commitment was $4.8 million at
December  31,  2003 ($7.7  million at December  31,  2002) and is expected to be
invested at various times through 2007.                                         
   ENVIRONMENTAL  MATTERS.  Our  businesses are subject to regulation by various
U.S. and Canadian federal,  state,  provincial and local authorities  concerning
environmental   matters.   We  do  not  currently   anticipate   that  potential
expenditures for environmental matters will be material;  however, we are unable
to predict the outcome of the issues discussed below.                           

--------------------------------------------------------------------------------
PAGE 76 

10-K
72nd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 72nd
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   SWL&P MANUFACTURED GAS PLANT. In May 2001 SWL&P received notice from the WDNR
that the City of Superior had found soil  contamination on property  adjoining a
former  Manufactured  Gas  Plant  (MGP)  site  owned  and  operated  by  SWL&P's
predecessors  from  1889 to  1904.  The WDNR  requested  SWL&P  to  initiate  an
environmental  investigation.  The WDNR also issued  SWL&P a  Responsible  Party
letter in  February  2002.  The  environmental  investigation  is  underway.  In
February 2003 SWL&P submitted a Phase II environmental site investigation report
to the WDNR. This report  identified some MGP-like  chemicals that were found in
the soil.  During March and April 2003  sediment  samples were taken from nearby
Superior  Bay.  The report on the  results of this  sampling  is  expected to be
completed and sent to the WDNR during the first quarter of 2004. A work plan for
additional  investigation by SWL&P was filed on December 17, 2003 with the WDNR.
This part of the investigation will determine any impact to soil or ground water
between the former MGP site and the Superior Bay. Although it is not possible to
quantify the potential  clean-up cost until the investigation is completed and a
work plan is developed, a $0.5 million liability was recorded as of December 31,
2003  to  address  the  known  areas  of  contamination.   We  have  recorded  a
corresponding dollar amount as a regulatory asset to offset this liability.  The
PSCW has approved SWL&P's deferral of these MGP environmental  investigation and
potential  clean-up  costs for future  recovery in rates,  subject to regulatory
prudency review.                                                                
   MINNESOTA POWER COAL-FIRED GENERATING FACILITIES. During 2002 Minnesota Power
received and responded to a third request from the EPA, under Section 114 of the
federal  Clean Air Act  Amendments of 1990 (Clean Air Act),  seeking  additional
information  regarding capital expenditures at all of its coal-fired  generating
stations.  This  action  is part  of an  industry-wide  investigation  assessing
compliance with the New Source Review and the New Source  Performance  Standards
(emissions  standards  that apply to new and changed units) of the Clean Air Act
at electric generating stations. We have received no feedback from the EPA based
on the information we submitted. There is, however, ongoing litigation involving
the EPA and other electric  utilities for alleged  violations of these rules. It
is  expected  that the  outcome of some of the cases  could  provide the utility
industry direction on this topic. We are unable to predict what actions, if any,
may be required as a result of the EPA's request for  information.  As a result,
we have not accrued any liability for this environmental matter.                
   SQUARE BUTTE GENERATING  FACILITY.  In June 2002 Minnkota Power, the operator
of Square Butte,  received a Notice of Violation from the EPA regarding  alleged
New Source Review violations at the M.R. Young Station which includes the Square
Butte  generating  unit. The EPA claims certain  capital  projects  completed by
Minnkota  Power  should have been  reviewed  pursuant  to the New Source  Review
regulations  potentially  resulting  in new  air  permit  operating  conditions.
Minnkota  Power has held  several  meetings  with the EPA to discuss the alleged
violations. Based on an EPA request, Minnkota Power performed a study related to
the technological  feasibility of installing  various controls for the reduction
of nitrogen oxides and sulfur dioxide  emissions.  Discussions  with the EPA are
ongoing  and we are still  unable to predict  the  outcome or cost  impacts.  If
Square Butte is required to make significant capital expenditures to comply with
EPA requirements,  we expect such capital expenditures to be debt financed.  Our
future  cost of  purchased  power  would  include  our pro  rata  share  of this
additional debt service.                                                        
   ADESA IMPACT TAUNTON FACILITY. In December 2003 the Massachusetts  Department
of  Environmental  Protection  (MDEP)  identified  ADESA Impact as a potentially
responsible  party regarding  contamination  of several  private  drinking water
wells in a residential development that abuts the Taunton, Massachusetts salvage
vehicle  auction  facility.  The wells had elevated  levels of MTBE.  MTBE is an
oxygenating  additive  in  gasoline  to reduce  harmful  emissions.  The EPA has
identified  MTBE as a possible  carcinogen.  ADESA Impact engaged  GeoInsight,an
environmental services firm, to conduct tests of its soil and groundwater at the
salvage vehicle auction site.                                                   
   GeoInsight  prepared  an  immediate  response  action  (IRA)  plan,  which is
required by the MDEP,  to determine the extent of the  environmental  impact and
define activities to prevent further environmental contamination.  The IRA plan,
which was filed on January 24,  2004,  describes  the initial  activities  ADESA
Impact performed,  and proposes  additional measures that it will use to further
assess the  existence of any imminent  hazard to human health.  In addition,  as
required  by the MDEP,  ADESA  Impact is  conducting  an  analysis  to  identify
sensitive  receptors  that may have been  affected,  including  area schools and
municipal  wells.  GeoInsight does not believe that an imminent hazard condition
exists at the Taunton site;  however,  the  investigation and assessment of site
conditions are ongoing.                                                         
   In December 2003  GeoInsight  collected soil samples,  conducted  groundwater
tests and provided oversight for the installation of monitoring wells in various
locations on and adjacent to the property  adjoining the residential  community.
The results of the soil and water tests indicated  levels of MTBE exceeding MDEP
standards.  In January 2004 we collected air samples from two residences that we
identified as having  elevated  drinking water  concentrations  of MTBE. We have
determined  that  inhalation of, or contact  exposure to, this air poses minimal
risk to human health. In response to our empirical findings, we have proposed to
the MDEP that we install  granular  activated carbon  filtration  systems in the
approximately 30 affected residences.                                           
   ADESA Impact is preparing an IRA status  report that must be submitted to the
MDEP by March 30,  2004,  and will  continue  to prepare  additional  reports as
necessary.  As of December  31, 2003 ADESA  Impact has accrued  $0.7  million to
cover the costs associated with ongoing testing,  remediation and cleanup of the
site.                                                                           

--------------------------------------------------------------------------------
PAGE 77 

10-K
73rd “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 73rd
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   ALLETE maintains pollution liability insurance coverage and has filed a claim
with respect to this matter. We and our insurer are determining the availability
of insurance coverage at this time.                                             
   OTHER.  We are  involved  in  litigation  arising  in the  normal  course  of
business.  Also in the  normal  course  of  business,  we are  involved  in tax,
regulatory and other governmental audits, inspections,  investigations and other
proceedings  that  involve  state and federal  taxes,  safety,  compliance  with
regulations, rate base and cost of service issues, among other things. While the
resolution  of such  matters  could have a material  effect on earnings and cash
flows in the year of  resolution,  none of these  matters are expected to change
materially our present liquidity position, nor have a material adverse effect on
our financial condition.                                                        

16  INCOME TAX EXPENSE                                                          

                                                                [Download Table]
INCOME TAX EXPENSE                                                              

YEAR ENDED DECEMBER 31                         2003          2002         2001  
================================================================================
MILLIONS                                                                        
                                                                                
Current Tax Expense                                                             
     Federal                                 $ 45.2         $36.4        $51.4  
     Foreign                                   14.0          12.6          7.6  
     State                                     10.1           7.1          7.7  
--------------------------------------------------------------------------------
                                               69.3          56.1         66.7  
Deferred Tax Expense (Benefit)                                                  
     Federal                                   20.0          14.8          6.9  
     Foreign                                      -           0.1          0.2  
     State                                      3.1           0.7         (0.1) 
--------------------------------------------------------------------------------
                                               23.1          15.6          7.0  
Change in Valuation Allowance                   0.9           1.9          1.0  
--------------------------------------------------------------------------------
Deferred Tax Credits                           (1.4)         (1.4)        (1.4) 
--------------------------------------------------------------------------------
Income Taxes on                                                                 
     Continuing Operations                     91.9          72.2         73.3  
Income Taxes on                                                                 
     Discontinued Operations                   51.6          12.8          7.2  
--------------------------------------------------------------------------------
Total Income Tax Expense                     $143.5         $85.0        $80.5  
================================================================================

                                                                [Download Table]
RECONCILIATION OF TAXES                                                         
FROM FEDERAL STATUTORY                                                          
RATE TO TOTAL INCOME                                                            
TAX EXPENSE                                                                     

YEAR ENDED DECEMBER 31                         2003          2002        2001   
================================================================================
MILLIONS                                                                        
                                                                                
Tax Computed at Federal                                                         
    Statutory Rate                           $133.0         $77.8        $76.7  
Increase (Decrease) in Tax                                                      
    State Income Taxes - Net of                                                 
      Federal Income Tax Benefit               17.3           9.8          8.6  
    Foreign Taxes                               1.9           3.0          1.9  
    Other                                      (8.7)         (5.6)        (6.7) 
--------------------------------------------------------------------------------
Total Income Tax Expense                     $143.5         $85.0        $80.5  
================================================================================

                                                                [Download Table]
INCOME BEFORE INCOME TAXES                                                      

YEAR ENDED DECEMBER 31                        2003          2002         2001   
================================================================================
MILLIONS                                                                        
                                                                                
United States                                $341.9        $191.4       $197.3  
Canadian                                       38.0          30.8         21.9  
--------------------------------------------------------------------------------
Total                                        $379.9        $222.2       $219.2  
================================================================================

                                                                [Download Table]
DEFERRED TAX ASSETS AND LIABILITIES                                             

DECEMBER 31                                               2003         2002     
================================================================================
MILLIONS                                                                        
                                                                                
Deferred Tax Assets                                                             
    Employee Benefits and Compensation                  $ 49.7       $ 43.4     
    Property Related                                      30.2         27.3     
    Investment Tax Credits                                14.8         15.8     
    Allowance for Bad Debts                                9.8         11.5     
    State NOL Carryover                                    8.7          8.6     
    Other                                                 30.6         26.7     
--------------------------------------------------------------------------------
        Gross Deferred Tax Assets                        143.8        133.3     
Deferred Tax Asset Valuation Allowance                    (8.7)        (7.8)    
--------------------------------------------------------------------------------
Total Deferred Tax Assets                                135.1        125.5     
--------------------------------------------------------------------------------
Deferred Tax Liabilities                                                        
    Property Related                                     229.6        215.7     
    Investment Tax Credits                                21.0         22.4     
    Intangibles                                           19.7         13.4     
    Employee Benefits and Compensation                    15.1          9.0     
    Other                                                 10.4          4.8     
--------------------------------------------------------------------------------
Total Deferred Tax Liabilities                           295.8        265.3     
--------------------------------------------------------------------------------
Accumulated Deferred Income Taxes                       $160.7       $139.8     
================================================================================

   State net operating loss  carryforwards  of $8.7 million have an $8.2 million
valuation allowance,  as we believe more likely than not they will expire before
they are  utilized.  These state net operating  losses  expire  between 2004 and
2022.                                                                           
   UNDISTRIBUTED  EARNINGS.  Undistributed  earnings of our foreign subsidiaries
were approximately $24.5 million at December 31, 2003 ($28.8 million at December
31, 2002).  Since this amount has been or will be reinvested in property,  plant
and working capital, we have not recorded the deferred taxes associated with the
repatriation of these investments.                                              

--------------------------------------------------------------------------------
PAGE 78 

10-K
74th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 74th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

17  OTHER COMPREHENSIVE INCOME                                                  

                                                        [Enlarge/Download Table]
OTHER COMPREHENSIVE INCOME                                                                                          

                                                        PRE-TAX                TAX EXPENSE            NET-OF-TAX    
YEAR ENDED DECEMBER 31                                  AMOUNT                  (BENEFIT)               AMOUNT      
====================================================================================================================
MILLIONS                                                                                                            
                                                                                                                    
2003                                                                                                                
Unrealized Gain (Loss) on Securities                                                                                
         Gain During the Year                           $  2.4                    $ 1.0                 $ 1.4       
         Add: Loss Included in Net Income                  3.5                      1.3                   2.2       
--------------------------------------------------------------------------------------------------------------------
               Net Unrealized Gain on Securities           5.9                      2.3                   3.6       
Interest Rate Swap                                         0.2                        -                   0.2       
Foreign Currency Translation Adjustments                  39.2                        -                  39.2       
Additional Pension Liability                             (10.8)                    (4.5)                 (6.3)      
--------------------------------------------------------------------------------------------------------------------
Other Comprehensive Income                              $ 34.5                    $(2.2)                $36.7       
--------------------------------------------------------------------------------------------------------------------
2002                                                                                                                
Unrealized Gain (Loss) on Securities                                                                                
         Loss During the Year                           $(11.8)                   $(4.3)                $(7.5)      
         Less: Gain Included in Net Income                 1.0                      0.4                   0.6       
--------------------------------------------------------------------------------------------------------------------
               Net Unrealized Loss on Securities         (12.8)                    (4.7)                 (8.1)      
Interest Rate Swap                                         2.3                      1.0                   1.3       
Foreign Currency Translation Adjustments                   2.6                        -                   2.6       
Additional Pension Liability                              (6.0)                    (2.5)                 (3.5)      
--------------------------------------------------------------------------------------------------------------------
Other Comprehensive Loss                                $(13.9)                   $(6.2)                $(7.7)      
--------------------------------------------------------------------------------------------------------------------
2001                                                                                                                
Unrealized Gain (Loss) on Securities                                                                                
         Gain During the Year                           $  3.6                    $ 1.1                $  2.5       
         Less: Gain Included in Net Income                   -                        -                     -       
--------------------------------------------------------------------------------------------------------------------
               Net Unrealized Gain on Securities           3.6                      1.1                   2.5       
Interest Rate Swap                                        (2.5)                    (1.0)                 (1.5)      
Foreign Currency Translation Adjustments                 (11.3)                       -                 (11.3)      
--------------------------------------------------------------------------------------------------------------------
Other Comprehensive Loss                                $(10.2)                   $ 0.1                $(10.3)      
====================================================================================================================

                                                        [Enlarge/Download Table]
ACCUMULATED OTHER COMPREHENSIVE INCOME                                                                              

DECEMBER 31                                                                        2003                  2002       
====================================================================================================================
MILLIONS                                                                                                            
                                                                                                                    
Unrealized Gain (Loss) on Securities                                              $ 0.8                $ (2.8)      
Interest Rate Swap Loss                                                               -                  (0.2)      
Foreign Currency Translation Gain (Loss)                                           23.5                 (15.7)      
Additional Pension Liability                                                       (9.8)                 (3.5)      
--------------------------------------------------------------------------------------------------------------------
                                                                                  $14.5                $(22.2)      
====================================================================================================================

18  PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS                              

   We have  noncontributory  defined  benefit  pension plans  covering  eligible
Corporate and Energy  Services'  employees.  The plans provide defined  benefits
based  on  years  of  service  and  final  average  pay.  We also  have  defined
contribution pension plans covering  substantially all employees,  for which the
annual  aggregate  cost was $9.1  million  in 2003 ($9.7  million in 2002;  $7.1
million in 2001).                                                               
   We have postretirement health care and life insurance plans covering eligible
Corporate and Energy Services'  employees.  The postretirement  health plans are
contributory with participant  contributions  adjusted annually.  Postretirement
health and life benefits are funded through a combination of Voluntary  Employee
Benefit  Association  trusts (VEBAs)  established under section 501(c)(9) of the
Internal Revenue Code and an irrevocable grantor trust. Contributions deductible
for  income  tax  purposes  are  made  directly  to  the  VEBAs;   nondeductible
contributions are made to the irrevocable grantor trust. Amounts are transferred
from the irrevocable  grantor trust to the VEBAs when they become deductible for
income tax purposes.                                                            
   We use a September  30  measurement  date for the pension and  postretirement
health and life plans.                                                          

--------------------------------------------------------------------------------
PAGE 79 

10-K
75th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 75th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

                                                                [Download Table]
PENSION OBLIGATION AND FUNDED STATUS                                            

AT SEPTEMBER 30                                         2003            2002    
================================================================================
MILLIONS                                                                        
                                                                                
Change in Benefit Obligation                                                    
     Obligation, Beginning of Year                     $297.9          $259.1   
     Service Cost                                         6.7             5.6   
     Interest Cost                                       19.5            19.5   
     Actuarial Loss                                      45.7            29.4   
     Benefits Paid                                      (16.4)          (15.7)  
--------------------------------------------------------------------------------
     Obligation, End of Year                            353.4           297.9   
Change in Plan Assets                                                           
     Fair Value, Beginning of Year                      265.7           281.9   
     Actual Return on Assets                             33.5            (3.3)  
     Benefits Paid                                      (16.4)          (15.7)  
     Other                                                2.5             2.8   
--------------------------------------------------------------------------------
     Fair Value, End of Year                            285.3           265.7   
Funded Status                                           (68.1)          (32.2)  
     Unrecognized Amounts                                                       
          Net Loss                                       82.3            43.3   
          Prior Service Cost                              6.0             6.9   
          Transition Obligation                           0.3             0.4   
--------------------------------------------------------------------------------
Net Asset Recognized                                   $ 20.5          $ 18.4   
--------------------------------------------------------------------------------
Amounts Recognized in Consolidated                                              
     Balance Sheet Consist of:                                                  
          Prepaid Pension Cost                         $ 31.9          $ 27.8   
          Accrued Benefit Liability                     (31.2)          (18.8)  
          Intangible Asset                                3.0             3.4   
          Accumulated Other                                                     
            Comprehensive Income                         16.8             6.0   
--------------------------------------------------------------------------------
Net Asset Recognized                                   $ 20.5          $ 18.4   
================================================================================

                                                                [Download Table]
COMPONENTS OF NET PERIODIC PENSION EXPENSE (INCOME)                             

YEAR ENDED DECEMBER 31                     2003          2002            2001   
================================================================================
MILLIONS                                                                        
                                                                                
Service Cost                             $  6.7        $  5.6          $  4.4   
Interest Cost                              19.5          19.5            18.3   
Expected Return on Assets                 (28.8)        (30.4)          (29.6)  
Amortized Amounts                                                               
     Unrecognized Gain                        -          (1.4)           (2.5)  
     Prior Service Cost                     0.9           0.8             0.5   
     Transition Obligation                  0.2           0.2             0.5   
--------------------------------------------------------------------------------
Net Pension Income                       $ (1.5)       $ (5.7)         $ (8.4)  
================================================================================

                                                                [Download Table]
INFORMATION FOR PENSION PLAN WITH AN ACCUMULATED                                
BENEFIT OBLIGATION IN EXCESS OF PLAN ASSETS                                     

AT SEPTEMBER 30                                         2003            2002    
================================================================================
MILLIONS                                                                        
                                                                                
Projected Benefit Obligation                           $137.8          $114.1   
Accumulated Benefit Obligation                         $118.1           $99.8   
Fair Value of Plan Assets                               $95.1           $88.6   
================================================================================

                                                                [Download Table]
ADDITIONAL PENSION INFORMATION                                                  

YEAR ENDED DECEMBER 31                     2003         2002            2001    
================================================================================
MILLIONS                                                                        
                                                                                
Increase in Minimum Liability                                                   
     Included in Other                                                          
     Comprehensive Income                 $10.8         $6.0               -    
================================================================================

   The accumulated  benefit obligation for all defined benefit pension plans was
$303.5 million and $259.3 million at September 30, 2003 and 2002, respectively. 

                                                                [Download Table]
POSTRETIREMENT HEALTH AND LIFE                                                  
OBLIGATION AND FUNDED STATUS                                                    

AT SEPTEMBER 30                                          2003           2002    
================================================================================
MILLIONS                                                                        
                                                                                
Change in Benefit Obligation                                                    
     Obligation, Beginning of Year                     $ 99.5         $ 78.5    
     Service Cost                                         3.7            2.9    
     Interest Cost                                        6.6            5.9    
     Actuarial Loss                                      10.8           15.0    
     Participant Contributions                            0.9            1.1    
     Benefits Paid                                       (4.3)          (3.9)   
--------------------------------------------------------------------------------
     Obligation, End of Year                            117.2           99.5    
Change in Plan Assets                                                           
     Fair Value, Beginning of Year                       39.5           38.7    
     Actual Return on Assets                              6.6           (1.5)   
     Employer Contribution                                8.2            5.1    
     Participant Contributions                            0.9            1.1    
     Benefits Paid                                       (4.3)          (3.9)   
--------------------------------------------------------------------------------
     Fair Value, End of Year                             50.9           39.5    
Funded Status                                           (66.3)         (60.0)   
     Unrecognized Amounts                                                       
          Net Loss                                       23.9           15.1    
          Transition Obligation                          22.4           25.0    
--------------------------------------------------------------------------------
Accrued Cost                                           $(20.0)        $(19.9)   
================================================================================

   Under SFAS 106, "Employers' Accounting for Postretirement Benefits Other Than
Pensions,"  only  assets in the VEBAs are  treated  as plan  assets in the table
above  for  the  purpose  of  determining  funded  status.  In  addition  to the
postretirement health and life assets reported above, we had $20.2 million in an
irrevocable  grantor  trust at December 31, 2003 ($15.1  million at December 31,
2002).  We  consolidate  the  irrevocable  grantor  trust and it is  included in
Investments on our consolidated balance sheet.                                  

                                                                [Download Table]
COMPONENTS OF NET PERIODIC POSTRETIREMENT                                       
HEALTH AND LIFE EXPENSE                                                         

YEAR ENDED DECEMBER 31                       2003         2002          2001    
================================================================================
MILLIONS                                                                        
                                                                                
Service Cost                                $ 3.7        $ 2.9         $ 2.7    
Interest Cost                                 6.6          5.9           5.3    
Expected Return on Assets                    (4.0)        (3.9)         (3.5)   
Amortized Amounts                                                               
     Unrecognized Gain                        0.1         (0.2)         (0.9)   
     Transition Obligation                    2.4          2.4           2.4    
--------------------------------------------------------------------------------
Net Expense                                 $ 8.8        $ 7.1         $ 6.0    
================================================================================

--------------------------------------------------------------------------------
PAGE 80 

10-K
76th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 76th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

                                                                [Download Table]
WEIGHTED-AVERAGE ASSUMPTIONS USED TO                                            
DETERMINE BENEFIT OBLIGATIONS                                                   

AT SEPTEMBER 30                                  2003               2002        
================================================================================
                                                                                
Discount Rate                                       6.0%              6.75%     
Rate of Compensation Increase                 3.5 - 4.5%         3.5 - 4.5%     
Health Care Trend Rates:                                                        
     Trend Rate                                      10%                10%     
     Ultimate Trend Rate                              5%                 5%     
     Year Ultimate Trend Rate Effective             2008               2008     
================================================================================

                                                                [Download Table]
WEIGHTED-AVERAGE ASSUMPTIONS                                                    
USED TO DETERMINE NET PERIODIC                                                  
BENEFIT COSTS                                                                   

YEAR ENDED DECEMBER 31                2003             2002              2001   
================================================================================
                                                                                
Discount Rate                           6.75%             7.75%            8.00%
Expected Long-Term                                                              
     Return on Plan Assets:                                                     
         Pension                         9.5%             10.0%           10.25%
         Postretirement                                                         
           Health and Life         7.6 - 9.5%       8.0 - 10.0%      6.0 - 10.0%
Rate of Compensation                                                            
     Increase                      3.5 - 4.5%        3.5 - 4.5%       3.5 - 4.5%
================================================================================

   In establishing the expected long-term return on plan assets, we consider the
diversification  and allocation of plan assets, the actual long-term  historical
performance  for the  type of  securities  invested  in,  the  actual  long-term
historical  performance  of plan  assets  and the  impact  of  current  economic
conditions,  if any, on long-term  historical  returns.  The expected  long-term
return on plan assets used to determine 2004 pension expense is 9.0%.           

                                                                [Download Table]
SENSITIVITY OF A ONE-PERCENTAGE-POINT                                           
CHANGE IN HEALTH CARE TREND RATES                                               

                                            ONE PERCENT            ONE PERCENT  
                                              INCREASE               DECREASE   
================================================================================
MILLIONS                                                                        
                                                                                
Effect on Total of Postretirement                                               
Health and Life Service                                                         
and Interest Cost                               $1.9                  $(1.4)    

Effect on Postretirement Health                                                 
and Life Obligation                            $18.8                 $(12.6)    
================================================================================

                                                                [Download Table]
PLAN ASSET ALLOCATIONS                                                          

AT SEPTEMBER 30                                   2003               2002       
================================================================================
                                                                                
Pension Plan Asset Categories:                                                  
      Equity Securities                            61.6%              44.0%     
      Debt Securities                              27.8               32.9      
      Real Estate                                   2.8               12.1      
      Venture Capital                               5.6                9.0      
      Cash                                          2.2                2.0      
--------------------------------------------------------------------------------
                                                  100.0%             100.0%     
--------------------------------------------------------------------------------
Postretirement Health and Life                                                  
Asset Categories (includes VEBAs                                                
and irrevocable grantor trust):                                                 
      Equity Securities                            62.2%              56.4%     
      Debt Securities                              36.3               43.6      
      Cash                                          1.5                  -      
--------------------------------------------------------------------------------
                                                  100.0%             100.0%     
================================================================================

   Pension plan equity securities  include ALLETE common stock in the amounts of
$25.8  million (9.1% of total plan assets) and $20.3 million (7.7% of total plan
assets) at September 30, 2003 and 2002, respectively.                           
   To  achieve  strong  returns  within  managed  risk we  diversify  our  asset
portfolio to  approximate  the target  allocations  in the table  below.  Equity
securities are diversified  among domestic  companies with large,  mid and small
market  capitalizations,  as well as investments in international  companies. In
addition,  all debt  securities must have a Standard & Poor's credit rating of A
or higher.                                                                      

                                                                [Download Table]
PLAN ASSET TARGET ALLOCATIONS                                                   

================================================================================
                                                                                
Pension Plan Asset Categories:                                                  
      Equity Securities                                          58%            
      Debt Securities                                            30             
      Real Estate                                                 5             
      Venture Capital                                             6             
      Cash                                                        1             
--------------------------------------------------------------------------------
                                                                100%            
--------------------------------------------------------------------------------
Postretirement Health and Life                                                  
Asset Categories (includes VEBAs                                                
and irrevocable grantor trust):                                                 
      Equity Securities                                          62%            
      Debt Securities                                            35             
      Cash                                                        3             
--------------------------------------------------------------------------------
                                                                100%            
================================================================================

   We expect to  contribute  approximately  $8  million to our  defined  benefit
pension  plans and $7  million  to our  postretirement  health and life plans in
2004.                                                                           

--------------------------------------------------------------------------------
PAGE 81 

10-K
77th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 77th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

19  EMPLOYEE STOCK AND INCENTIVE PLANS                                          

   EMPLOYEE  STOCK  OWNERSHIP  PLAN.  We  sponsor  a  leveraged  employee  stock
ownership  plan (ESOP) within the  Retirement  Savings and Stock  Ownership Plan
that covers eligible Corporate and Energy Services' employees.  In 1989 the ESOP
used the proceeds from a $16.5 million  third-party  loan,  guaranteed by us, to
purchase  1.2  million  shares  of our  common  stock  on the open  market.  The
remaining  principal  balance on the loan was refinanced in 2002. The refinanced
loan has a variable  interest  rate based on LIBOR and matures on  December  31,
2004. In 1990 the ESOP issued a $75 million note (term not to exceed 25 years at
10.25%) to us as consideration for 5.6 million shares of our newly issued common
stock.  The Company makes annual  contributions  to the ESOP equal to the ESOP's
debt  service less  available  dividends  received by the ESOP.  The majority of
dividends  received by the ESOP are used to pay debt  service,  with the balance
distributed to certain  participants.  The ESOP shares were initially pledged as
collateral  for its  debt.  As the debt is  repaid,  shares  are  released  from
collateral  and  allocated  to  participants,  based on the  proportion  of debt
service  paid in the  year.  The  third-party  debt of the ESOP is  recorded  as
long-term  debt and the shares  pledged as  collateral  are reported as unearned
ESOP shares on our  consolidated  balance  sheet.  As shares are  released  from
collateral, the Company reports compensation expense equal to the current market
price of the shares,  and the shares become  outstanding for  earnings-per-share
computations.  Dividends on allocated ESOP shares are recorded as a reduction of
retained earnings;  available  dividends on unallocated ESOP shares are recorded
as a reduction of debt and accrued interest.  ESOP compensation expense was $3.7
million in 2003 ($3.9 million in 2002; $2.6 million in 2001).                   

                                                                [Download Table]

YEAR ENDED DECEMBER 31                   2003            2002         2001      
================================================================================
MILLIONS                                                                        
                                                                                
ESOP Shares                                                                     
    Allocated                              3.6            3.8           3.9     
    Unreleased                             3.4            3.7           4.0     
--------------------------------------------------------------------------------
    Total                                  7.0            7.5           7.9     
--------------------------------------------------------------------------------
Fair Value of Unreleased Shares         $105.0          $84.0        $100.3     
================================================================================

   STOCK  OPTION  AND AWARD  PLANS.  We have an  Executive  Long-Term  Incentive
Compensation Plan (Executive Plan) and a Director Long-Term Stock Incentive Plan
(Director  Plan).  The Executive  Plan allows for the grant of up to 9.7 million
shares of our common stock to key  employees.  To date,  these grants have taken
the form of stock options, performance share awards and restricted stock awards.
The Director Plan allows for the grant of up to 0.3 million shares of our common
stock to nonemployee  directors.  Each nonemployee  director  receives an annual
grant of 1,500 stock options and a biennial grant of performance shares equal to
$10,000  in  value of  common  stock at the date of  grant.  Stock  options  are
exercisable  at the market  price of common  shares on the date the  options are
granted,  and vest in equal annual  installments  over two years with expiration
ten years from the date of grant.  Performance shares are earned over multi-year
time periods and are contingent upon the attainment of certain performance goals
of ALLETE.  Restricted stock vests once certain periods of time have elapsed. At
December 31, 2003,  3.8 million and 0.1 million  shares were held in reserve for
future issuance under the Executive Plan and Director Plan, respectively.       

                                                                [Download Table]

                                                                AVERAGE         
                                                               EXERCISE         
STOCK OPTION ACTIVITY                       OPTIONS              PRICE          
================================================================================
OPTIONS IN MILLIONS                                                             
                                                                                
2003                                                                            
Outstanding, Beginning of Year                 2.3              $22.48          
Granted                                        0.7              $20.59          
Exercised                                     (0.6)             $20.44          
Cancelled                                     (0.1)             $22.71          
--------------------------------------------------------------------------------
Outstanding, End of Year                       2.3              $21.49          
--------------------------------------------------------------------------------
Exercisable, End of Year                       1.4              $22.42          
Fair Value of Options Granted                                                   
    During the Year                          $2.72                              
--------------------------------------------------------------------------------
2002                                                                            
Outstanding, Beginning of Year                 2.3              $20.18          
Granted                                        0.8              $25.92          
Exercised                                     (0.7)             $18.70          
Cancelled                                     (0.1)             $23.77          
--------------------------------------------------------------------------------
Outstanding, End of Year                       2.3              $22.48          
--------------------------------------------------------------------------------
Exercisable, End of Year                       1.3              $20.23          
Fair Value of Options Granted                                                   
    During the Year                          $4.55                              
--------------------------------------------------------------------------------
2001                                                                            
Outstanding, Beginning of Year                 2.4              $18.52          
Granted                                        0.8              $23.63          
Exercised                                     (0.8)             $18.39          
Cancelled                                     (0.1)             $21.05          
--------------------------------------------------------------------------------
Outstanding, End of Year                       2.3              $20.18          
--------------------------------------------------------------------------------
Exercisable, End of Year                       1.2              $19.55          
Fair Value of Options Granted                                                   
    During the Year                          $3.89                              
================================================================================

--------------------------------------------------------------------------------
PAGE 82 

10-K
78th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 78th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS 

   At December  31, 2003  options  outstanding  consisted of 0.2 million with an
exercise  price of $13.69 to $16.25,  and 2.1 million with an exercise  price of
$20.51 to $25.68. The options with an exercise price of $13.69 to $16.25 have an
average remaining  contractual life of 5.4 years with 0.2 million exercisable on
December  31, 2003 at an average  price of $15.82.  The options with an exercise
price of $20.51 to $25.68  have an  average  remaining  contractual  life of 7.5
years with 1.2 million  exercisable  on December 31, 2003 at an average price of
$23.53.                                                                         
   A total of 0.1 million performance share grants were awarded in February 2004
for  performance  periods  ending in 2005 and 2006.  The  ultimate  issuance  is
contingent  upon the  attainment of certain future  performance  goals of ALLETE
during the  performance  periods.  The grant date fair value of the  performance
share awards was $1.9 million.                                                  
   A total of 0.3 million performance share grants were awarded in 2002 and 2003
for the performance period ended December 31, 2003. The grant date fair value of
the share  awards was $8.3  million.  In early  2004,  50% of the shares will be
issued with the balance to be issued in 2005.                                   
   In  February  2004 we granted  stock  options to purchase  approximately  0.1
million shares of common stock  (exercise  price of $32.55 per share).          
   EMPLOYEE  STOCK  PURCHASE  PLAN. We have an Employee Stock Purchase Plan that
permits eligible  employees to buy up to $23,750 per year of our common stock at
95% of the market  price.  At December  31,  2003,  1.3 million  shares had been
issued  under the plan and 0.5  million  shares  were held in reserve for future
issuance.                                                                       

20  QUARTERLY FINANCIAL DATA (UNAUDITED)                                        

   Information for any one quarterly period is not necessarily indicative of the
results which may be expected for the year.  Financial results for 2003 included
a $71.6 million, or $0.86 per share, after-tax gain on the sale of substantially
all our Water  Services  businesses  ($0.2  million  first  quarter  and  second
quarter;  $3.0 million,  or $0.04 per share,  third quarter;  $68.2 million,  or
$0.82 per share, fourth quarter).  The gain was net of all selling,  transaction
and employee  termination  benefit  expenses,  as well as  impairment  losses on
certain  remaining  assets.  Financial  results  for the first  quarter  of 2002
included  charges of $1.6 million,  or $0.02 per share and the second quarter of
2002 included $2.3 million,  or $0.03 per share,  of charges  related to exiting
our vehicle  transport  business  and retail  store.  Financial  results for the
fourth  quarter of 2002  included  a $5.5  million,  or $0.07 per share,  charge
related to the indefinite delay of a generation project in Superior, Wisconsin. 

                                                        [Enlarge/Download Table]

QUARTER ENDED                                        MAR. 31      JUN. 30     SEPT. 30     DEC. 31  
====================================================================================================
MILLIONS EXCEPT                                                                                     
  EARNINGS PER SHARE                                                                                
                                                                                                    
2003                                                                                                
Operating Revenue                                    $422.9        $409.9      $397.1      $388.9   
Operating Income from                                                                               
    Continuing Operations                             $62.4         $62.1       $65.3       $45.2   
Net Income                                                                                          
    Continuing Operations                             $38.0         $37.1       $39.4       $28.6   
    Discontinued Operations                             6.3           7.3         8.2        71.5   
----------------------------------------------------------------------------------------------------
                                                      $44.3         $44.4       $47.6      $100.1   
Earnings Available for                                                                              
    Common Stock                                      $44.3         $44.4       $47.6      $100.1   
Earnings Per Share of                                                                               
    Common Stock                                                                                    
Basic                                                                                               
    Continuing Operations                             $0.46         $0.45       $0.47       $0.34   
    Discontinued Operations                            0.08          0.09        0.10        0.86   
----------------------------------------------------------------------------------------------------
                                                      $0.54         $0.54       $0.57       $1.20   
Diluted                                                                                             
    Continuing Operations                             $0.46         $0.45       $0.47       $0.34   
    Discontinued Operations                            0.08          0.08        0.10        0.86   
----------------------------------------------------------------------------------------------------
                                                      $0.54         $0.53       $0.57       $1.20   

2002                                                                                                
Operating Revenue                                    $367.2        $374.9      $387.9      $364.3   
Operating Income from                                                                               
    Continuing Operations                             $54.7         $55.6       $60.5       $20.3   
Net Income                                                                                          
    Continuing Operations                             $33.2         $33.7       $38.3       $13.7   
    Discontinued Operations                             2.0           5.1         6.8         4.4   
----------------------------------------------------------------------------------------------------
                                                      $35.2         $38.8       $45.1       $18.1   
Earnings Available for                                                                              
    Common Stock                                      $35.2         $38.8       $45.1       $18.1   
Earnings Per Share of                                                                               
    Common Stock                                                                                    
Basic                                                                                               
    Continuing Operations                             $0.42         $0.41       $0.47       $0.17   
    Discontinued Operations                            0.02          0.07        0.08        0.05   
----------------------------------------------------------------------------------------------------
                                                      $0.44         $0.48       $0.55       $0.22   
Diluted                                                                                             
    Continuing Operations                             $0.42         $0.40       $0.47       $0.17   
    Discontinued Operations                            0.02          0.07        0.08        0.05   
----------------------------------------------------------------------------------------------------
                                                      $0.44         $0.47       $0.55       $0.22   
====================================================================================================

--------------------------------------------------------------------------------
PAGE 83 

10-K
79th “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 79th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------

REPORT OF INDEPENDENT AUDITORS                                                  
ON FINANCIAL STATEMENT SCHEDULE                                                 
                                       [PRICEWATERHOUSECOOPERS LLP LOGO OMITTED]
To the Board of Directors                                                       
of ALLETE, Inc.                                                                 

   Our audits of the consolidated financial statements referred to in our report
dated  February  9,  2004,  except  as to Note 3 which is as of  March  8,  2004
appearing on page 60 of this Form 10-K of ALLETE, Inc. and its subsidiaries also
included an audit of the Financial  Statement  Schedule  listed in Item 15(a) of
this Form 10-K.  In our  opinion,  the  Financial  Statement  Schedule  presents
fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements.                 

PricewaterhouseCoopers LLP                                                      

PricewaterhouseCoopers LLP                                                      
Minneapolis, Minnesota                                                          
February 9, 2004                                                                

--------------------------------------------------------------------------------

                                                        [Enlarge/Download Table]
                                                                                                          SCHEDULE II
ALLETE                                                                                                               
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES                                                                       

                                                                           ADDITIONS                                 
                                                     BALANCE AT      --------------------   DEDUCTIONS    BALANCE AT 
                                                     BEGINNING        CHARGED      OTHER       FROM         END OF   
FOR THE YEAR ENDED DECEMBER 31                        OF YEAR        TO INCOME    CHANGES    RESERVES<F1>   PERIOD   
=====================================================================================================================
MILLIONS                                                                                                             
                                                                                                                     
Reserve Deducted from Related Assets                                                                                 
  Reserve For Uncollectible Accounts                                                                                 
    2003     Trade Accounts Receivable                $ 8.8            $ 3.1         -        $ 3.5         $ 8.4    
             Finance Receivables - Current             20.0             14.8         -         16.8          18.0    
             Finance Receivables - Long-Term            1.7                -         -          0.5           1.2    
    2002     Trade Accounts Receivable                  6.1              5.7         -          3.0           8.8    
             Finance Receivables - Current             20.5             17.2         -         17.7          20.0    
             Finance Receivables - Long-Term            2.7              0.4         -          1.4           1.7    
    2001     Trade Accounts Receivable                  5.1              4.4         -          3.4           6.1    
             Finance Receivables - Current             19.8             19.3         -         18.6          20.5    
             Finance Receivables - Long-Term            2.6              0.2         -          0.1           2.7    
  Deferred Asset Valuation Allowance                                                                                 
    2003     Deferred Tax Assets                        7.8              0.9         -            -           8.7    
    2002     Deferred Tax Assets                        6.0              1.8         -            -           7.8    
    2001     Deferred Tax Assets                        5.0              1.0         -            -           6.0    
=====================================================================================================================
<FN>                                                                                                                 
<F1> Reserve for uncollectible accounts includes bad debts written off.                                              
</FN>                                                                                                                

--------------------------------------------------------------------------------
PAGE 84 

10-K
Last “Page” of 80
TOC
1st
Previous
Next
↓Bottom
Just 80th
ALLETE FORM 10-K 2003 
--------------------------------------------------------------------------------
EXHIBIT INDEX     

EXHIBIT                                                                         
NUMBER                                                                          
--------------------------------------------------------------------------------

    2(b) - Stock Purchase  Agreement  (without  Exhibits  and  Schedules), dated
           November 20, 2003, by and between Philadelphia  Suburban Corporation,
           (now Aqua America, Inc.) as Purchaser,  and  ALLETE  Water  Services,
Inc., as Shareholder.                                     

  10(o)3 - Amended  Wholesale  Power  Coordination   and   Dispatch    Operating
           Agreement, dated January 30, 2004, between Minnesota Power, Inc. (now
ALLETE) and Split Rock Energy LLC.                        

   10(p) - Amended  and  Restated  Withdrawal  Agreement  (without Exhibits  and
           Schedules), dated January 30, 2004, by and between Great River Energy
           and Minnesota Power (now ALLETE). [Portions of this exhibit have been
           omitted  pursuant to a request for  confidential  treatment and filed
separately with the SEC.]                                 

   10(s) - Third  Amended  and  Restated  Committed  Facility  Letter   (without
           Exhibits),  dated  December  23,  2003,  to ALLETE from  LaSalle Bank
National Association, as Agent.                           

 +10(t)2 - November 2003 Amendment to the Minnesota Power (now ALLETE) Executive
Annual Incentive Plan.                                    

  +10(u) - ALLETE and  Affiliated  Companies Supplemental  Executive  Retirement
   Plan,  as  amended   and restated, effective January 1, 2004.

 +10(v)2 - Amendments  through  December  2003  to  the  Minnesota  Power    and
Affiliated Companies Executive Investment Plan-I.         

 +10(w)2 - Amendments  through   December  2003  to  the  Minnesota  Power   and
Affiliated Companies  Executive Investment Plan-II.       

 +10(z)2 - Amendments through December 2003 to the Minnesota Power (now  ALLETE)
Director Stock Plan.                                      

+10(aa)2 - October 2003 Amendment to  the  Minnesota Power (now ALLETE) Director
Compensation Deferral Plan.                               

12 - Computation of Ratios of Earnings to Fixed Charges (Unaudited).

23(a) - Consent of Independent Accountants.                               

23(b) - Consent of General Counsel.                                       

   31(a) - Rule  13a-14(a)/15d-14(a)  Certification   by   the  Chief  Executive
        Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

   31(b) - Rule   13a-14(a)/15d-14(a)  Certification  by  the  Chief   Financial
        Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

      32 - Section 1350  Certification of  Annual  Report by the Chief Executive
           Officer and Chief  Financial  Officer  Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.                               

Dates Referenced Herein   and   Documents Incorporated by Reference

				Referenced-On Page
This ‘10-K’ Filing		Date		First		Last			Other Filings
		4/1/20		37		69
		9/16/17		11
		4/30/09		10
		12/31/08		10					10-K,  11-K
		10/31/08		10					10-Q
		3/31/08		10					10-Q
		2/15/08		50					10-K,  4
		6/1/07		37		69			4,  8-K
		4/30/07		10
		7/30/06		37		69
		7/23/06		70
		3/1/06		69
		1/31/06		13		45			4
		1/1/06		38		71
		12/31/05		10					10-K,  11-K,  5,  5/A
		8/1/05		69
		3/31/05		10					10-Q
		12/31/04		77					10-K,  11-K,  5,  5/A,  U-3A-2
		5/11/04		24					3,  DEF 14A
		3/31/04		13		45			10-Q
		3/30/04		21		72
		3/15/04		41		64			3
Filed on:		3/11/04		54					4
		3/8/04		2		79			3
		3/5/04		23
		3/4/04		23					4
		3/1/04		9		24
		2/25/04		13
		2/18/04		12
		2/16/04		24
		2/9/04		55		79
		2/1/04		23
		1/31/04		13
		1/30/04		23		80			8-K
		1/26/04		53					8-K
		1/24/04		21		72
		1/23/04		12		23
		1/21/04		23
		1/1/04		37		80
For Period End:		12/31/03		2		78			11-K,  5,  U-3A-2
		12/24/03		14
		12/23/03		52		80
		12/17/03		15		72
		12/15/03		41		64
		12/5/03		53					8-K
		12/2/03		12
		11/20/03		50		80			8-K
		11/13/03		53					8-K
		11/6/03		53					8-K
		10/31/03		53					8-K
		10/30/03		53					8-K
		10/24/03		53					8-K
		10/22/03		23
		10/20/03		37		69
		10/15/03		53					8-K
		9/30/03		32		76			10-Q
		8/27/03		50					8-K
		8/25/03		50					4,  8-K
		7/18/03		52
		7/7/03		23
		7/1/03		13		69			15-15D/A
		6/30/03		2		52			10-Q
		5/13/03		23					3,  DEF 14A
		1/13/03		7
		1/1/03		55		66
		12/31/02		22		75			10-K,  5,  U-3A-2
		12/1/02		51		52
		9/30/02		32		76			10-Q
		6/30/02		52					10-Q
		5/31/02		52
		5/1/02		11
		1/23/02		23					8-K
		1/1/02		55
		12/31/01		29		68			10-K405,  11-K,  U-3A-2
		11/16/01		23
		11/5/01		23
		10/1/01		23
		9/30/01		32					10-Q
		9/11/01		29		43
		8/28/01		23					8-K
		5/8/01		50					10-Q,  DEF 14A,  PRE 14A
		4/18/01		23					8-K
		3/31/01		50					10-Q
		2/21/01		50
		2/1/01		50
		1/1/01		23
		12/31/00		59					10-K,  11-K,  U-3A-2
		6/30/00		52					10-Q
		4/21/00		52
		4/14/00		52
		4/3/00		51
		3/31/00		51					10-Q
		3/30/00		51
		3/2/99		25
		1/1/99		52
		7/22/98		23
		6/30/98		52					10-Q
		5/29/98		52					8-K
		4/23/97		23
		8/2/96		51					8-K
		7/24/96		51					8-K
		6/30/96		53					10-Q,  10-Q/A
		5/30/96		51
		5/15/96		51
		1/1/96		23		53
		3/31/95		53					10-Q,  10-Q/A
		1/1/95		53
		12/1/94		23
		3/1/93		23
									List all Filings

4 Subsequent Filings that Reference this Filing

  As Of               Filer                 Filing    For·On·As Docs:Size             Issuer                      Filing Agent

 2/20/24  ALLETE, Inc.                      10-K       12/31/23  129:18M
 2/16/23  ALLETE, Inc.                      10-K       12/31/22  126:21M
 2/16/22  ALLETE, Inc.                      10-K       12/31/21  122:22M
 2/17/21  ALLETE, Inc.                      10-K       12/31/20  121:21M