SEC Filing | ALLETE, Inc.

Year Ended December 31

Operating Revenue

Net Income Attributable to ALLETE

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United States

Securities and Exchange Commission

Washington, D.C. 20549

Form 10-K



(Mark One)
	T	Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
		For the fiscal year ended December 31, 2016

	£	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
		For the transition period from ______________ to ______________

Commission File Number 1-3548

ALLETE, Inc.

(Exact name of registrant as specified in its charter)



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

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:



Title of each class		Name of each exchange 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 if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No ¨

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No x

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 whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). 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. x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large Accelerated Filer x Accelerated Filer ¨ Non-Accelerated Filer ¨ Smaller Reporting Company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

The aggregate market value of voting stock held by nonaffiliates on June 30, 2016, was $3,178,250,707.

As of February 1, 2017, there were 50,049,020 shares of ALLETE Common Stock, without par value, outstanding.

Documents Incorporated By Reference

Portions of the Proxy Statement for the 2017 Annual Meeting of Shareholders are incorporated by reference in Part III.

Index



Definitions			4

Forward-Looking Statements			6

Part I
Item 1.	Business		8
	Regulated Operations		9
		Electric Sales / Customers	9
		Seasonality	13
		Power Supply	13
		Transmission and Distribution	15
		Investment in ATC	16
		Properties	17
		Regulatory Matters	17
		Regional Organizations	18
		Minnesota Legislation	18
		Competition	19
		Franchises	20
	Energy Infrastructure and Related Services		20
		ALLETE Clean Energy	20
		U.S. Water Services	21
	Corporate and Other		21
		BNI Energy	21
		ALLETE Properties	21
		Non-Rate Base Generation and Miscellaneous	22
	Environmental Matters		23
	Employees		23
	Availability of Information		23
	Executive Officers of the Registrant		24
Item 1A.	Risk Factors		25
Item 1B.	Unresolved Staff Comments		32
Item 2.	Properties		32
Item 3.	Legal Proceedings		32
Item 4.	Mine Safety Disclosures		32
Part II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities		33
Item 6.	Selected Financial Data		35
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		36
	Overview		36
	2016 Compared to 2015		37
	2015 Compared to 2014		41
	Critical Accounting Policies		44
	Outlook		47
	Liquidity and Capital Resources		54
	Capital Requirements		57
	Environmental and Other Matters		58
	Market Risk		58
	Recently Adopted Accounting Standards		59
Item 7A.	Quantitative and Qualitative Disclosures about Market Risk		59
Item 8.	Financial Statements and Supplementary Data		59
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure		59

ALLETE, Inc. 2016 Form 10-K

Index



Item 9A.	Controls and Procedures	59
Item 9B.	Other Information	59
Part III
Item 10.	Directors, Executive Officers and Corporate Governance	60
Item 11.	Executive Compensation	60
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	60
Item 13.	Certain Relationships and Related Transactions, and Director Independence	61
Item 14.	Principal Accounting Fees and Services	61
Part IV
Item 15.	Exhibits and Financial Statement Schedules	62
Item 16.	Form 10-K Summary	67

Signatures		68

Consolidated Financial Statements		71

ALLETE, Inc. 2016 Form 10-K

Definitions

The following abbreviations or acronyms are used in the text. References in this report to “we,” “us” and “our” are to ALLETE, Inc. and its subsidiaries, collectively.



Abbreviation or Acronym	Term
AFUDC	Allowance for Funds Used During Construction - the cost of both debt and equity funds used to finance utility plant additions during construction periods
ALLETE	ALLETE, Inc.
ALLETE Clean Energy	ALLETE Clean Energy, Inc. and its subsidiaries
ALLETE Properties	ALLETE Properties, LLC and its subsidiaries
ALLETE Transmission Holdings	ALLETE Transmission Holdings, Inc.
ArcelorMittal	ArcelorMittal USA, Inc.
ATC	American Transmission Company LLC
Basin	Basin Electric Power Cooperative
Bison	Bison Wind Energy Center
BNI Energy	BNI Energy, Inc. and its subsidiary
Boswell	Boswell Energy Center
Camp Ripley	Camp Ripley Solar Array
Cliffs	Cliffs Natural Resources Inc.
CO₂	Carbon Dioxide
Company	ALLETE, Inc. and its subsidiaries
CSAPR	Cross-State Air Pollution Rule
DC	Direct Current
EIS	Environmental Impact Statement
EPA	United States Environmental Protection Agency
ESOP	Employee Stock Ownership Plan
FASB	Financial Accounting Standards Board
FERC	Federal Energy Regulatory Commission
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
GAAP	Generally Accepted Accounting Principles in the United States of America
GHG	Greenhouse Gases
GNTL	Great Northern Transmission Line
IBEW	International Brotherhood of Electrical Workers
Invest Direct	ALLETE’s Direct Stock Purchase and Dividend Reinvestment Plan
IRP	Integrated Resource Plan
Item ___	Item ___ of this Form 10-K
kV	Kilovolt(s)
kW / kWh	Kilowatt(s) / Kilowatt-hour(s)
Laskin	Laskin Energy Center
MACT	Maximum Achievable Control Technology
Magnetation	Magnetation, LLC
Manitoba Hydro	Manitoba Hydro-Electric Board
MATS	Mercury and Air Toxics Standards
MBtu	Million British thermal units
Mesabi Metallics	Mesabi Metallics Company LLC (formerly Essar Steel Minnesota LLC)

ALLETE, Inc. 2016 Form 10-K

Definitions (continued)



Abbreviation or Acronym	Term
Minnesota Power	An operating division of ALLETE, Inc.
Minnkota Power	Minnkota Power Cooperative, Inc.
MISO	Midcontinent Independent System Operator, Inc.
Montana-Dakota Utilities	Montana-Dakota Utilities Co., a division of MDU Resources Group, Inc.
Moody’s	Moody’s Investors Service, Inc.
MPCA	Minnesota Pollution Control Agency
MPUC	Minnesota Public Utilities Commission
MW / MWh	Megawatt(s) / Megawatt-hour(s)
NAAQS	National Ambient Air Quality Standards
NDPSC	North Dakota Public Service Commission
NERC	North American Electric Reliability Corporation
NOL	Net Operating Loss
Non-residential	Retail and non-retail commercial, office, industrial, warehouse, storage and institutional
NO₂	Nitrogen Dioxide
NO_X	Nitrogen Oxides
Northshore Mining	Northshore Mining Company, a wholly-owned subsidiary of Cliffs
Note ___	Note ___ to the consolidated financial statements in this Form 10-K
NPDES	National Pollutant Discharge Elimination System
NYSE	New York Stock Exchange
Oliver Wind I	Oliver Wind I Energy Center
Oliver Wind II	Oliver Wind II Energy Center
Palm Coast Park District	Palm Coast Park Community Development District in Florida
PolyMet	PolyMet Mining Corp.
PPA / PSA	Power Purchase Agreement / Power Sales Agreement
PPACA	Patient Protection and Affordable Care Act of 2010
PSCW	Public Service Commission of Wisconsin
RSOP	Retirement Savings and Stock Ownership Plan
SEC	Securities and Exchange Commission
Shell Energy	Shell Energy North America (US), L.P.
Silver Bay Power	Silver Bay Power Company, a wholly-owned subsidiary of Cliffs
SIP	State Implementation Plan
SO₂	Sulfur Dioxide
Square Butte	Square Butte Electric Cooperative, a North Dakota cooperative corporation
Standard & Poor’s	Standard & Poor’s Ratings Services
SWL&P	Superior Water, Light and Power Company
Taconite Harbor	Taconite Harbor Energy Center
Taconite Ridge	Taconite Ridge Energy Center
Thomson	Thomson Energy Center
Town Center District	Town Center at Palm Coast Community Development District in Florida
TransAlta	TransAlta Energy Marketing (U.S.) Inc.
United Taconite	United Taconite LLC, a wholly-owned subsidiary of Cliffs
U.S.	United States of America
U.S. Water Services	U.S. Water Services Holding Company and its subsidiaries
USS Corporation	United States Steel Corporation
WTG	Wind Turbine Generator

ALLETE, Inc. 2016 Form 10-K

Forward-Looking Statements

Statements in this report that are not statements of historical facts are considered “forward-looking” and, accordingly, involve risks and uncertainties that could cause actual results to differ materially from those discussed. Although such forward-looking statements have been made in good faith and are based on reasonable assumptions, there can be no assurance that the expected results will be achieved. Any statements that express, or involve discussions as to, future expectations, risks, beliefs, plans, objectives, assumptions, events, uncertainties, financial performance, or growth strategies (often, but not always, through the use of words or phrases such as “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “projects,” “likely,” “will continue,” “could,” “may,” “potential,” “target,” “outlook” or words of similar meaning) are not statements of historical facts and may be forward-looking.

In connection with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, we are providing this cautionary statement to identify important factors that could cause our actual results to differ materially from those indicated in forward-looking statements made by or on behalf of ALLETE in this Form 10-K, in presentations, on our website, in response to questions or otherwise. These statements are qualified in their entirety by reference to, and are accompanied by, the following important factors, in addition to any assumptions and other factors referred to specifically in connection with such forward-looking statements that could cause our actual results to differ materially from those indicated in the forward-looking statements:


•	our ability to successfully implement our strategic objectives;


•	global and domestic economic conditions affecting us or our customers;


•	changes in and compliance with laws and regulations;


•	changes in tax rates or policies or in rates of inflation;


•	the outcome of legal and administrative proceedings (whether civil or criminal) and settlements;


•	weather conditions, natural disasters and pandemic diseases;


•	our ability to access capital markets and bank financing;


•	changes in interest rates and the performance of the financial markets;


•	project delays or changes in project costs;


•	changes in operating expenses and capital expenditures and our ability to raise revenues from our customers in regulated rates or sales price increases at our Energy Infrastructure and Related Services businesses;


•	the impacts of commodity prices on ALLETE and our customers;


•	our ability to attract and retain qualified, skilled and experienced personnel;


•	effects of emerging technology;


•	war, acts of terrorism and cyber attacks;


•	our ability to manage expansion and integrate acquisitions;


•	population growth rates and demographic patterns;


•	wholesale power market conditions;

•

federal and state regulatory and legislative actions that impact regulated utility economics, including our allowed rates of return, capital structure, ability to secure financing, industry and rate structure, acquisition and disposal of assets and facilities, operation and construction of plant facilities and utility infrastructure, recovery of purchased power, capital investments and other expenses, including present or prospective environmental matters;


•	effects of competition, including competition for retail and wholesale customers;


•	effects of restructuring initiatives in the electric industry;


•	the impacts on our Regulated Operations segment of climate change and future regulation to restrict the emissions of greenhouse gases;


•	effects of increased deployment of distributed low-carbon electricity generation resources;


•	the impacts of laws and regulations related to renewable and distributed generation;


•	pricing, availability and transportation of fuel and other commodities and the ability to recover the costs of such commodities;


•	our current and potential industrial and municipal customers’ ability to execute announced expansion plans;


•	real estate market conditions where our legacy Florida real estate investment is located may not improve;


•	the success of efforts to realize value from, invest in, and develop new opportunities in, our Energy Infrastructure and Related Services businesses; and

•

factors affecting our Energy Infrastructure and Related Services businesses, including fluctuations in the volume of customer orders, unanticipated cost increases, changes in legislation and regulations impacting the industries in which the customers served operate, the effects of weather, creditworthiness of customers, ability to obtain materials required to perform services, and changing market conditions.

ALLETE, Inc. 2016 Form 10-K

Forward Looking Statements (Continued)

Additional disclosures regarding factors that could cause our results or performance to differ from those anticipated by this report are discussed in Item 1A under the heading “Risk Factors” beginning on page 25 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 ALLETE in this Form 10-K and in other reports filed with the SEC that attempt to identify the risks and uncertainties that may affect ALLETE’s business.

ALLETE, Inc. 2016 Form 10-K

Part I

Item 1. Business

Regulated Operations includes our regulated utilities, Minnesota Power and SWL&P, as well as our investment in ATC, a Wisconsin-based regulated utility that owns and maintains electric transmission assets in parts of Wisconsin, Michigan, Minnesota and Illinois. Minnesota Power provides regulated utility electric service in northeastern Minnesota to approximately 145,000 retail customers. Minnesota Power also has 16 non-affiliated municipal customers in Minnesota. SWL&P is a Wisconsin utility and a wholesale customer of Minnesota Power. SWL&P provides regulated electric, natural gas and water service in northwestern Wisconsin to approximately 15,000 electric customers, 13,000 natural gas customers and 10,000 water customers. Our regulated utility operations include retail and wholesale activities under the jurisdiction of state and federal regulatory authorities. (See Note 4. Regulatory Matters.)

ALLETE Clean Energy focuses on developing, acquiring, and operating clean and renewable energy projects. ALLETE Clean Energy currently owns and operates, in four states, approximately 535 MW of nameplate capacity wind energy generation that is from PSAs under various durations. In addition, ALLETE Clean Energy constructed and sold a 107 MW wind energy facility in 2015. On January 3, 2017, ALLETE Clean Energy announced that it will develop another wind energy facility of up to 50 MW after securing a 25‑year PSA. The PSA includes an option for the counterparty to purchase the facility upon development completion; construction is expected to begin in 2018.

U.S. Water Services provides integrated water management for industry by combining chemical, equipment, engineering and service for customized solutions to reduce water and energy usage, and improve efficiency.

Corporate and Other is comprised of BNI Energy, our coal mining operations in North Dakota, ALLETE Properties, our legacy Florida real estate investment, other business development and corporate expenditures, unallocated interest expense, a small amount of non-rate base generation, approximately 5,000 acres of land in Minnesota, and earnings on cash and investments.

ALLETE is incorporated under the laws of Minnesota. Our corporate headquarters are in Duluth, Minnesota. Statistical information is presented as of December 31, 2016, unless otherwise indicated. All subsidiaries are wholly-owned unless otherwise specifically indicated. References in this report to “we,” “us” and “our” are to ALLETE and its subsidiaries, collectively.



Year Ended December 31	2016			2015 (a)			2014

Consolidated Operating Revenue – Millions		$1,339.7			$1,486.4			$1,136.8

Percentage of Consolidated Operating Revenue
Regulated Operations	75		%	67		%	88		%
ALLETE Clean Energy	6		%	18		%	3		%
U.S. Water Services	10		%	8		%	—
Corporate and Other	9		%	7		%	9		%
	100		%	100		%	100		%


(a)	Includes the construction and sale of a wind energy facility by ALLETE Clean Energy to Montana-Dakota Utilities for $197.7 million in 2015. U.S. Water Services was acquired in February 2015. (See Note 6. Acquisitions.)

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 Note 1. Operations and Significant Accounting Policies and Note 17. Business Segments.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS

Electric Sales / Customers



Regulated Utility Kilowatt-hours Sold
Year Ended December 31	2016	%	2015	%	2014	%
Millions
Retail and Municipal
Residential	1,102	8	1,113	8	1,204	9
Commercial	1,442	10	1,462	10	1,468	10
Industrial	6,456	45	6,635	46	7,487	54
Municipal	816	6	833	6	864	6
Total Retail and Municipal	9,816	69	10,043	70	11,023	79
Other Power Suppliers	4,316	31	4,310	30	2,904	21
Total Regulated Utility Kilowatt-hours Sold	14,132	100	14,353	100	13,927	100

Industrial Customers. In 2016, industrial customers represented 45 percent of total regulated utility kWh sales. Our industrial customers are primarily in the taconite mining, iron concentrate, paper, pulp and secondary wood products, and pipeline industries.



Industrial Customer Kilowatt-hours Sold
Year Ended December 31	2016	%	2015	%	2014	%
Millions
Taconite/Iron Concentrate	3,906	61	4,000	60	4,880	65
Paper, Pulp and Secondary Wood Products	1,303	20	1,456	22	1,499	20
Pipelines and Other Industrial	1,247	19	1,179	18	1,108	15
Total Industrial Customer Kilowatt-hours Sold	6,456	100	6,635	100	7,487	100

Six taconite facilities served by Minnesota Power make up approximately 79 percent of iron ore pellet capacity in the U.S. according to the 2014 Skillings North American Mining Directory. Sales to taconite customers and iron concentrate customers represented 3,906 million kWh, or 61 percent, of total industrial customer kWh sales in 2016. Taconite, an iron-bearing rock of relatively low iron content, is abundantly available in northern Minnesota and an important domestic source of raw material for the steel industry. Taconite processing plants use large quantities of electric power to grind the iron-bearing rock, and agglomerate and pelletize the iron particles into taconite pellets. Iron concentrate reclamation facilities also use large quantities of electricity to extract and process iron-bearing tailings left from previous mining operations to produce iron ore concentrate.

Minnesota Power’s taconite customers are capable of producing up to approximately 41 million tons of taconite pellets annually. Taconite pellets produced in Minnesota are primarily shipped to North American steel making facilities that are part of the integrated steel industry. Steel produced from these North American facilities is used primarily in the manufacture of automobiles, appliances, pipe and tube products for the gas and oil industry, and in the construction industry. Historically, less than five percent of Minnesota taconite production is exported outside of North America. Minnesota Power also provides electric service to three iron concentrate facilities capable of producing up to approximately 4 million tons of iron concentrate per year. Iron concentrate is used in the production of taconite pellets. These iron concentrate facilities are owned in whole, or in part, by Magnetation and are not currently operating. (See Item 7. Management’s Discussion and Analysis – Outlook – Industrial Customers and Prospective Additional Load.)

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Industrial Customers (Continued)

There has been a general historical correlation between U.S. steel production and Minnesota taconite production. The American Iron and Steel Institute, an association of North American steel producers, reported that U.S. raw steel production operated at approximately 71 percent of capacity in 2016 (71 percent in 2015; 77 percent in 2014). Many steel producers reduced production in 2015, citing higher levels of imports and lower prices. Some Minnesota taconite and iron concentrate producers reduced production in 2015 in response to declining U.S. steel production. There is a natural lag between U.S. steel consumption and Minnesota taconite production. The high level of imports and lower prices in 2015 continued to impact Minnesota taconite production in 2016. In 2015, petitions regarding unfairly traded cold rolled, hot rolled and corrosion-resistant steel products were filed by domestic steel producers with the U.S. Department of Commerce and the U.S. International Trade Commission resulting in countervailing duty and antidumping investigations. In 2016, the U.S. Department of Commerce and the U.S. International Trade Commission made final affirmative determinations concluding the investigations. As a result of the affirmative determinations, cash deposits are collected on these products when imported from certain countries. According to the U.S. Census Bureau, 2016 annual imports for consumption of steel products were down approximately 15 percent compared to 2015 annual imports.

The following table reflects Minnesota Power’s taconite customers’ production levels for the past ten years:



Minnesota Power Taconite Customer Production
Year		Tons (Millions)
2016*		28
2015		31
2014		39
2013		37
2012		39
2011		39
2010		35
2009		17
2008		39
2007		38
Source: Minnesota Department of Revenue 2016 Mining Tax Guide for years 2007 - 2015.
* Preliminary data from the Minnesota Department of Revenue.

Minnesota Power’s taconite customers may experience annual variations in production levels due to such factors as economic conditions, short-term demand changes or maintenance outages. We estimate that a one million ton change in Minnesota Power’s taconite customers’ production would impact our annual earnings per share by approximately $0.03, net of expected power marketing sales at current prices. Changes in wholesale electric prices or customer contractual demand nominations could impact this estimate. Minnesota Power proactively sells power in the wholesale power markets that is temporarily not required by industrial customers to optimize the value of its generating facilities. Long-term reductions in taconite production or a permanent shut down of a taconite customer may lead Minnesota Power to file a general rate case to recover lost revenue.

In addition to serving the taconite industry, Minnesota Power serves a number of customers in the paper, pulp and secondary wood products industry, which represented 1,303 million kWh, or 20 percent, of total industrial customer kWh sales in 2016. The four major paper and pulp mills we serve reported operating at, or near, full capacity in 2016. Minnesota Power also has agreements to provide steam for two of its paper and pulp customers for use in the customers’ operations.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Large Power Customer Contracts. Minnesota Power has 9 Large Power Customer contracts, each serving requirements of 10 MW or more of customer load. The customers consist of six taconite facilities, two concentrate reclamation facilities and four paper and pulp mills. Certain facilities have common ownership and are served under combined contracts.

Large Power Customer contracts require Minnesota Power to have a certain amount of generating capacity available. 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 four-month 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 term of the agreement. In addition to the demand charge, each Large Power Customer is billed an energy charge for each kWh used that recovers the variable costs incurred in generating electricity. Four of the Large Power Customer contracts have interruptible service which provides a discounted demand rate in exchange for the ability to interrupt the customers during system emergencies. Minnesota Power also provides incremental production service for customer demand levels above the contractual 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.

All contracts with Large Power Customers continue past the contract termination date unless the required advance notice of cancellation has been given. The required 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 kWh sales to such customers. Large Power Customers are required to take all of their purchased 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 Item 1. Business – Regulated Operations – Regulatory Matters – Electric Rates.)

Minnesota Power, as permitted by the MPUC, requires its taconite-producing Large Power Customers to pay weekly for electric usage based on monthly energy usage estimates. These customers receive estimated bills based on Minnesota Power’s estimate of the customer’s energy usage, forecasted energy prices and fuel clause adjustment estimates. Minnesota Power’s taconite‑producing Large Power Customers have generally predictable energy usage on a week-to-week basis and any differences that occur are trued-up the following month.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Large Power Customer Contracts (Continued)

Contract Status for Minnesota Power Large Power Customers

As of February 1, 2017



Customer	Industry	Location	Ownership	Earliest Termination Date
ArcelorMittal – Minorca Mine	Taconite	Virginia, MN	ArcelorMittal S.A.	December 31, 2025
Hibbing Taconite Co. (a)	Taconite	Hibbing, MN	62.3% ArcelorMittal S.A. 23.0% Cliffs Natural Resources Inc. 14.7% USS Corporation	January 31, 2021
United Taconite and Northshore Mining (b)	Taconite	Eveleth, MN and Babbitt, MN	Cliffs Natural Resources Inc.	December 31, 2026
USS Corporation (USS – Minnesota Ore) (c)	Taconite	Mt. Iron, MN and Keewatin, MN	USS Corporation	December 31, 2021
Magnetation (d)	Iron Concentrate	Coleraine, MN and Bovey, MN	ERP Iron Ore, LLC	December 31, 2025
Boise, Inc.	Paper	International Falls, MN	Packaging Corporation of America	December 31, 2023
UPM, Blandin Paper Mill (a)	Paper	Grand Rapids, MN	UPM-Kymmene Corporation	January 31, 2021
NewPage Corporation	Paper and Pulp	Duluth, MN	Verso Corporation	December 31, 2022
Sappi Cloquet LLC (a)	Paper and Pulp	Cloquet, MN	Sappi Limited	January 31, 2021


(a)	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 January 31, 2021.


(b)	On May 23, 2016, Minnesota Power extended its electric service agreement with Cliffs for 10 years at Cliffs’ United Taconite and Babbitt facilities. The service agreement was approved by the MPUC in an order dated November 9, 2016.


(c)	USS Corporation owns both the Minntac Plant in Mountain Iron, MN, and the Keewatin Taconite Plant in Keewatin, MN. On September 30, 2016, Minnesota Power extended its electric service agreement with USS Corporation through 2021. The service agreement was approved by the MPUC in an order dated December 29, 2016.


(d)	On January 30, 2017, ERP Iron Ore, LLC purchased substantially all of Magnetation’s assets pursuant to an asset purchase agreement approved by the bankruptcy court. (See Item 7. Management’s Discussion and Analysis – Outlook – Industrial Customers and Prospective Additional Load.)

Residential and Commercial Customers. In 2016, residential and commercial customers represented 18 percent of total regulated utility kWh sales. Minnesota Power provides regulated utility electric service in northeastern Minnesota to approximately 144,000 residential and commercial customers. SWL&P provides regulated electric, natural gas and water service in northwestern Wisconsin to approximately 15,000 electric customers, 13,000 natural gas customers and 10,000 water customers.

Municipal Customers. In 2016, municipal customers represented 6 percent of total regulated utility kWh sales. Minnesota Power has 16 non-affiliated municipal customers in Minnesota. All of the municipal contracts include a termination clause requiring a three-year notice to terminate.

In April 2015, Minnesota Power amended its formula-based wholesale electric sales contract with the Nashwauk Public Utilities Commission, extending the term through June 30, 2028. No termination notice may be given prior to June 30, 2025. The electric service agreement with one other municipal customer is effective through June 30, 2019. The other municipal customer provided termination notice for its contract on June 30, 2016. Minnesota Power currently provides approximately 29 MW of average monthly demand to this customer. The rates included in these two contracts are set each July 1 based on a cost-based formula methodology, using estimated costs and a rate of return that is equal to Minnesota Power’s authorized rate of return for Minnesota retail customers (currently 10.38 percent). The formula-based rate methodology also provides for a yearly true-up calculation for actual costs incurred.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Municipal Customers (Continued)

In September 2015, Minnesota Power amended its wholesale electric contracts with 14 municipal customers, extending the contract terms through December 31, 2024. No termination notices may be given prior to December 31, 2021. These contracts include fixed capacity charges through 2018; beginning in 2019, the capacity charge will not increase by more than two percent or decrease by more than one percent from the previous year’s capacity charge and will be determined using a cost-based formula methodology. The base energy charge for each year of the contract term will be set each January 1, subject to monthly adjustment, and will also be determined using a cost-based formula methodology.

Other Power Suppliers. The Company also enters into off-system sales with Other Power Suppliers. These sales are sold at market-based prices into the MISO market on a daily basis or through bilateral agreements of various durations.

Basin PSA. Minnesota Power has an agreement to sell 100 MW of capacity and energy to Basin for a ten‑year period which expires in April 2020. The capacity charge is based on a fixed monthly schedule with a minimum annual escalation provision. The energy charge is based on a fixed monthly schedule and provides for annual escalation based on the cost of fuel. The agreement also allows Minnesota Power to recover a pro rata share of increased costs related to emissions that occur during the last five years of the contract. In July 2015, Minnesota Power entered into an additional agreement to sell 100 MW of capacity to Basin at fixed rates for a two-year period beginning in June 2016.

Minnkota Power PSA. Minnesota Power has a PSA with Minnkota Power, which commenced in 2014. Under the PSA, Minnesota Power is selling a portion of its entitlement from Square Butte to Minnkota Power, resulting in Minnkota Power’s net entitlement increasing and Minnesota Power’s net entitlement decreasing until Minnesota Power’s share is eliminated at the end of 2025. Of Minnesota Power’s 50 percent output entitlement, it sold to Minnkota Power approximately 28 percent in 2016 (28 percent in 2015; 23 percent in 2014). (See Note 11. Commitments, Guarantees and Contingencies.)

Silver Bay Power PSA. On May 23, 2016, Minnesota Power and Silver Bay Power entered into a long-term PSA through 2031. Silver Bay Power supplies approximately 90 MW of load to Northshore Mining, an affiliate of Silver Bay Power, which has been served predominately through self-generation by Silver Bay Power. In the years 2016 through 2019, Minnesota Power will supply Silver Bay Power with at least 50 MW of energy and Silver Bay Power will have the option to purchase additional energy from Minnesota Power as it transitions away from self-generation. On December 31, 2019, Silver Bay Power will cease self-generation and Minnesota Power will supply the entire energy requirements for Silver Bay Power.

Seasonality

The operations of our industrial customers, which make up a large portion of our electric sales, are not typically subject to significant seasonal variations. (See Electric Sales / Customers.) As a result, Minnesota Power is generally not subject to significant seasonal fluctuations in electric sales; however, Minnesota Power and SWL&P electric and natural gas sales to other customers may be affected by seasonal differences in weather. In general, peak electric sales occur in the winter and summer months with fewer electric sales in the spring or fall. Peak sales of natural gas generally occur in the winter months. Additionally, our regulated utilities have historically generated fewer sales and less revenue when weather conditions are milder in the winter and summer.

Power Supply

In order to meet its customers’ electric requirements, Minnesota Power utilizes a mix of its own generation and purchased power. As of December 31, 2016, Minnesota Power’s generating capability is primarily coal-fired, but also includes approximately 172 MW of natural gas-fired and biomass co-fired generation, 120 MW of hydroelectric generation, 522 MW of nameplate capacity wind energy generation and 10 MW of solar generation. Purchased power consists of long-term coal, wind and hydro PPAs as well as market purchases. The following table reflects Minnesota Power’s generating capabilities as of December 31, 2016, and total electrical supply for 2016. Minnesota Power had an annual net peak load of 1,520 MW on December 15, 2016.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Power Supply (Continued)



					Year Ended
	Unit	Year	Net		December 31, 2016
Regulated Utility Power Supply	No.	Installed	Capability		Generation and Purchases
			MW		MWh	%
Coal-Fired
Boswell Energy Center	1	1958	67	(a)
in Cohasset, MN	2	1960	68	(a)
	3	1973	355
	4	1980	468	(b)
			958		6,595,920	45.2
Taconite Harbor Energy Center	1	1957	75
in Schroeder, MN	2	1957	75
			150	(c)	512,716	3.5
Total Coal-Fired			1,108		7,108,636	48.7
Biomass Co-Fired/Biomass/Natural Gas
Hibbard Renewable Energy Center in Duluth, MN	3 & 4	1949, 1951	62		7,467	0.1
Cloquet Energy Center in Cloquet, MN (d)	5	2001	—		70,017	0.5
Laskin Energy Center in Hoyt Lakes, MN	1 & 2	1953	110		11,433	0.1
Total Biomass Co-Fired/Biomass/Natural Gas			172		88,917	0.7
Hydro (e)
Group consisting of ten stations in MN	Multiple	Multiple	120		713,340	4.9
Wind (f)
Taconite Ridge Energy Center in Mt. Iron, MN	Multiple	2008	25		47,148	0.3
Bison Wind Energy Center in Oliver and Morton Counties, ND	Multiple	2010-2014	497		1,751,367	12.0
Total Wind			522		1,798,515	12.3
Solar (g)
Camp Ripley Solar Array near Little Falls, MN	Multiple	2016	10		1,720	—
Total Generation			1,932		9,711,128	66.6

Long-Term Purchased Power
Lignite Coal - Square Butte near Center, ND (h)					1,237,966	8.5
Wind - Oliver County, ND					343,048	2.4
Hydro - Manitoba Hydro in Manitoba, Canada					327,212	2.2
Total Long-Term Purchased Power					1,908,226	13.1
Other Purchased Power (i)					2,960,575	20.3
Total Purchased Power					4,868,801	33.4
Total Regulated Utility Power Supply			1,932		14,579,929	100.0


(a)	On October 19, 2016, Minnesota Power announced that Boswell Units 1 and 2 will be retired in 2018. (See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Outlook – EnergyForward.)


(b)	Boswell Unit 4 net capability shown above reflects Minnesota Power’s ownership percentage of 80 percent. WPPI Energy owns 20 percent of Boswell Unit 4. (See Note 3. Jointly-Owned Facilities and Projects.)


(c)	Taconite Harbor Units 1 and 2 were idled in September 2016. (See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Outlook – EnergyForward.)


(d)	On July 1, 2016, Minnesota Power sold its Cloquet Energy Center Generator No. 5 to Sappi Cloquet LLC.


(e)	Hydro consists of 10 stations with 34 generating units.


(f)	Taconite Ridge consists of 10 WTGs and Bison consists of 165 WTGs.


(g)	Camp Ripley was placed in service in the fourth quarter of 2016.


(h)	Minnesota Power has a PSA with Minnkota Power whereby Minnesota Power is selling a portion of its entitlement from Square Butte to Minnkota Power. (See Electric Sales / Customers.)


(i)	Includes short-term market purchases in the MISO market and from Other Power Suppliers.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Power Supply (Continued)

Fuel. Minnesota Power purchases low-sulfur, sub-bituminous coal from the Powder River Basin region located in Montana and Wyoming. Coal consumption in 2016 for electric generation at Minnesota Power’s coal-fired generating stations was 4.2 million tons. As of December 31, 2016, Minnesota Power had coal inventories of 1.4 million tons (1.6 million tons as of December 31, 2015). Minnesota Power’s coal supply agreements have expiration dates through December 2017 for a significant portion of its coal requirements and December 2021 for a portion of its coal requirements. In 2017, Minnesota Power expects to obtain coal under these coal supply agreements and in the spot market. Minnesota Power continues to explore other future coal supply options and believes that adequate supplies of low-sulfur, sub-bituminous coal will continue to be available.

Minnesota Power also has coal transportation agreements in place for the delivery of a significant portion of its coal requirements through December 2018. The delivered costs of fuel for Minnesota Power’s generation are recoverable from Minnesota Power’s utility customers through the fuel adjustment clause.



Coal Delivered to Minnesota Power
Year Ended December 31	2016		2015		2014
Average Price per Ton		$35.87		$27.00		$26.52
Average Price per MBtu		$1.98		$1.49		$1.47

Long-Term Purchased Power. Minnesota Power has contracts to purchase capacity and energy from various entities, including output from certain coal, wind and hydro generating facilities.

Our PPAs are detailed in Note 11. Commitments, Guarantees and Contingencies, with additional disclosure provided in the following paragraph.

Square Butte PPA. Under the long-term agreement with Square Butte, which expires at the end of 2026, Minnesota Power is entitled to 50 percent of the output of Square Butte’s 455-MW coal-fired generating unit located near Center, North Dakota. (See Note 11. Commitments, Guarantees and Contingencies.) BNI Energy supplies lignite coal to Square Butte. This lignite supply is sufficient to provide fuel for the anticipated useful life of the generating unit. Square Butte’s cost of lignite consumed in 2016 was approximately $1.57 per MBtu. (See Electric Sales / Customers – Minnkota Power PSA.)

Transmission and Distribution

We have electric transmission and distribution lines of 500 kV (8 miles), 345 kV (242 miles), 250 kV (465 miles), 230 kV (761 miles), 161 kV (43 miles), 138 kV (190 miles), 115 kV (1,299 miles) and less than 115 kV (6,308 miles). We own and operate 165 substations with a total capacity of 8,396 megavoltamperes. Some of our transmission and distribution lines interconnect with other utilities.

CapX2020. Minnesota Power is a participant in the CapX2020 initiative which represents an effort to ensure electric transmission and distribution reliability in Minnesota and the surrounding region for the future. CapX2020, which consists of electric cooperatives and municipal and investor-owned utilities, including Minnesota’s largest transmission owners, assessed the transmission system and projected growth in customer demand for electricity through 2020. Minnesota Power participated in three CapX2020 projects which were completed and placed in service in 2011, 2012 and 2015. Minnesota Power invested approximately $100 million to complete the three transmission line projects.

Great Northern Transmission Line. As a condition of the 250 MW long-term PPA entered into with Manitoba Hydro, construction of additional transmission capacity is required. As a result, Minnesota Power and Manitoba Hydro proposed construction of the GNTL, an approximately 220-mile 500-kV transmission line between Manitoba and Minnesota’s Iron Range in order to strengthen the electric grid, enhance regional reliability and promote a greater exchange of sustainable energy.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Transmission and Distribution (Continued)

The GNTL is subject to various federal and state regulatory approvals. In 2013, a certificate of need application was filed with the MPUC which was approved in a June 2015 order. Based on this order, Minnesota Power’s portion of the investments and expenditures for the project are eligible for cost recovery under its existing transmission cost recovery rider and are anticipated to be included in future transmission factor filings. (See Note 4. Regulatory Matters.) In a December 2015 order, the FERC approved our request to recover on construction work in progress related to the GNTL from Minnesota Power’s wholesale customers. In 2014, Minnesota Power filed a route permit application with the MPUC and a request for a presidential permit to cross the U.S.-Canadian border with the U.S. Department of Energy. In an order dated April 11, 2016, the MPUC approved the route permit which largely follows Minnesota Power’s preferred route, including the international border crossing, and on November 16, 2016, the U.S. Department of Energy issued a presidential permit, which was the final major regulatory approval needed before construction in the U.S. can begin in early 2017. Construction is expected to be completed in 2020, and total project cost in the U.S., including substation work, is estimated to be between $560 million and $710 million. Minnesota Power is expected to have majority ownership of the transmission line.

Manitoba Hydro must obtain regulatory and governmental approvals related to a new transmission line in Canada. In September 2015, Manitoba Hydro submitted the final preferred route and EIS for the transmission line in Canada to the Manitoba Conservation and Water Stewardship for regulatory approval. Construction of Manitoba Hydro’s hydroelectric generation facility commenced in 2014.

Investment in ATC

Our wholly-owned subsidiary, ALLETE Transmission Holdings, owns approximately 8 percent of ATC, a Wisconsin-based utility that owns and maintains electric transmission assets in parts of Wisconsin, Michigan, Minnesota and Illinois. We account for our investment in ATC under the equity method of accounting. As of December 31, 2016, our equity investment in ATC was $135.6 million ($124.5 million at December 31, 2015). (See Note 5. Investment in ATC.)

On September 28, 2016, the FERC issued an order reducing ATC’s authorized return on equity to 10.32 percent, or 10.82 percent including an incentive adder for participation in a regional transmission organization. Prior to this order, ATC had been allowed a return on equity of 12.2 percent which had been impacted by reductions for estimated refunds related to complaints filed with the FERC by several customers located within the MISO service area.

On June 30, 2016, a federal administrative law judge ruled on an additional complaint proposing a further reduction in the base return on equity to 9.70 percent, or 10.20 percent including an incentive adder for participation in a regional transmission organization, subject to approval or adjustment by the FERC. A final decision from the FERC on the administrative law judge’s recommendation is expected in 2017. (See Note 4. Regulatory Matters.) We estimate that for every 50 basis point reduction in ATC’s allowed return on equity our equity earnings in ATC would be impacted annually by approximately $0.5 million after-tax.

ATC’s 10-year transmission assessment, which covers the years 2016 through 2025, identifies a need for between $3.6 billion and $4.4 billion in transmission system investments. These investments by ATC, if undertaken, are expected to be funded through a combination of internally generated cash, debt and investor contributions. As opportunities arise, we plan to make additional investments in ATC through general capital calls based upon our pro rata ownership interest in ATC.

ATC and Duke Energy Corporation are partners in a joint venture, Duke-American Transmission Co. (DATC) which builds, owns and operates electric transmission facilities in North America. DATC is subject to the rules and regulations of the FERC, various independent system operators and state regulatory authorities.

During 2016, ATC formed ATC Development LLC, which is a separate entity formed by the investor-owned utility members of ATC to pursue development outside of ATC’s traditional footprint. ATC Development LLC draws upon ATC’s transmission experience to pursue transmission development opportunities. ALLETE has an approximate 9 percent ownership in ATC Development LLC. ATC Development LLC may incur development expenses as it pursues transmission projects; we will recognize our proportional share of these expenses as they occur.

In January 2017, ATC Development LLC and Arizona Electric Power Cooperative formed ATC Southwest to jointly develop transmission projects in Arizona and the southwestern United States. ATC Southwest will benefit electric cooperative members and electric consumers in the Southwest by developing options to help address the demand for an affordable, reliable transmission system.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Properties

Our Regulated Operations businesses own office and service buildings, an energy control center, repair shops, electric plants, transmission facilities and storerooms in various localities in Minnesota, Wisconsin and North Dakota. All of the electric plants are subject to mortgages, which collateralize the outstanding first mortgage bonds of Minnesota Power and SWL&P. Most of the generating plants and substations are located on real property owned by Minnesota Power or SWL&P, subject to the lien of a mortgage, whereas most of the electric lines are located on real property owned by others with appropriate easement rights or necessary permits from governmental authorities. WPPI Energy owns 20 percent of Boswell Unit 4. WPPI Energy has the right to use our transmission line facilities to transport its share of Boswell generation. (See Note 3. Jointly-Owned Facilities and Projects.)

Regulatory Matters

We are subject to the jurisdiction of various regulatory authorities and other organizations.

Electric Rates. All rates and contract terms in our Regulated Operations are subject to approval by applicable regulatory authorities. Minnesota Power and SWL&P design their retail electric service rates based on cost of service studies under which allocations are made to the various classes of customers as approved by the MPUC or the PSCW. Nearly all retail sales include billing adjustment clauses, which may adjust electric service rates for changes in the cost of fuel and purchased energy, recovery of current and deferred conservation improvement program expenditures and recovery of certain transmission, renewable and environmental investments.

Minnesota Public Utilities Commission. The MPUC has regulatory authority over Minnesota Power’s retail service area in Minnesota, retail rates, retail services, capital structure, issuance of securities and other matters. Minnesota Power’s current retail rates are based on a 2011 MPUC retail rate order that allows for a 10.38 percent return on common equity and a 54.29 percent equity ratio. As authorized by the MPUC, Minnesota Power also recognizes revenue under cost recovery riders for transmission, renewable and environmental investments.

2016 Minnesota General Rate Case. On November 2, 2016, Minnesota Power filed a retail rate increase request with the MPUC seeking an average increase of approximately 9 percent for retail customers. The rate filing seeks a return on equity of 10.25 percent and a 53.8 percent equity ratio. On an annualized basis, the requested final rate increase would generate approximately $55 million in additional revenue. On December 12, 2016, due to a change in its electric sales forecast, Minnesota Power filed a request to modify its original interim rate proposal reducing its requested interim rate increase to $34.7 million from the original request of approximately $49 million; Minnesota Power will file to update its final retail rate increase request by February 28, 2017, and expects the final retail rate increase request to decrease similar to the interim rate proposal. In orders dated December 30, 2016, the MPUC accepted the filing as complete and authorized an annual interim rate increase of $34.7 million beginning January 1, 2017. As part of this rate increase request, we are seeking an extension of the recovery period for Boswell to better reflect recent environmental investments at the facility and mitigate rate increases for our customers. If approved, annual depreciation expense will be reduced by approximately $25 million. If the requested recovery period extension is not approved, we would expect final rates to be increased by a similar amount. We cannot predict the level of final rates that may be authorized by the MPUC.

Additional regulatory proceedings pending with the MPUC are detailed in Note 4. Regulatory Matters.

Federal Energy Regulatory Commission. The FERC has jurisdiction over the licensing of hydroelectric projects, the establishment of rates and charges for transmission of electricity in interstate commerce and electricity sold at wholesale (including the rates for Minnesota Power’s municipal and wholesale customers), natural gas transportation, certain accounting and record-keeping practices, certain activities of our regulated utilities and the operations of ATC. FERC jurisdiction also includes enforcement of NERC mandatory electric reliability standards. Violations of FERC rules are subject to enforcement action by the FERC including financial penalties up to $1 million per day per violation. Regulatory proceedings pending with the FERC are detailed in Note 4. Regulatory Matters.

Public Service Commission of Wisconsin. The PSCW has regulatory authority over SWL&P’s retail sales of electricity, natural gas and water, issuances of securities and other matters. SWL&P’s current retail rates are based on a 2012 PSCW retail rate order that allows for a 10.9 percent return on common equity.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Regulatory Matters (Continued)

2016 Wisconsin General Rate Case. On June 28, 2016, SWL&P filed a rate increase request with the PSCW requesting an average overall increase of 3.1 percent for retail customers (a 3.5 percent increase in electric rates, a 1.3 percent decrease in natural gas rates and a 7.8 percent increase in water rates). The rate filing seeks an overall return on equity of 10.9 percent and a 55 percent equity ratio. On an annualized basis, the requested rate increase would generate approximately $2.7 million in additional revenue. Hearings are expected to be scheduled in the first half of 2017. The Company anticipates new rates will take effect during the second quarter of 2017. We cannot predict the level of rates that may be approved by the PSCW.

North Dakota Public Service Commission. The NDPSC has jurisdiction over site and route permitting of generation and transmission facilities in North Dakota.

Regional Organizations

Midcontinent Independent System Operator, Inc. Minnesota Power and SWL&P are members of MISO, a regional transmission organization. While Minnesota Power and SWL&P retain ownership of their respective transmission assets, their transmission networks are under the regional operational control of MISO. Minnesota Power and SWL&P take and provide transmission service under the MISO open access transmission tariff. MISO continues its efforts to oversee the safe, cost-effective delivery of electric power across all or parts of 15 states and the Canadian province of Manitoba which includes nearly 175,000 MW of generating capacity.

North American Electric Reliability Corporation. The NERC has been certified by the FERC as the national electric reliability organization. The NERC ensures the reliability of the North American bulk power system. The NERC oversees eight regional entities that establish requirements, approved by the FERC, for reliable operation and maintenance of power generation facilities and transmission systems. Minnesota Power is subject to these reliability requirements and can incur significant penalties for non-compliance.

Midwest Reliability Organization (MRO). Minnesota Power is a member of the MRO, one of the eight regional entities overseen by the NERC. The MRO's primary responsibilities are to: ensure compliance with mandatory reliability standards by entities who own, operate or use the interconnected, international bulk power system; conduct assessments of the grid's ability to meet electricity demand in the region; and analyze regional system events.

The MRO region spans the Canadian provinces of Saskatchewan and Manitoba, and all or parts of the states of Illinois, Iowa, Minnesota, Michigan, Montana, Nebraska, North Dakota, South Dakota and Wisconsin. The region includes more than 130 organizations that are involved in the production and delivery of electricity to more than 20 million people. These organizations include municipal utilities, cooperatives, investor-owned utilities, transmission system operators, a federal power marketing agency, Canadian Crown corporations, and independent power producers.

Minnesota Legislation

Renewable Energy. In February 2007, Minnesota enacted a law requiring 25 percent of electric utilities’ applicable retail and municipal energy sales in Minnesota to be from renewable energy sources by 2025. The law also requires Minnesota Power to meet interim milestones of 12 percent by 2012, 17 percent by 2016 and 20 percent by 2020. The law allows the MPUC to modify or delay meeting a milestone if implementation will cause significant ratepayer cost or technical reliability issues. If a utility is not in compliance with a milestone, the MPUC may order the utility to construct facilities, purchase renewable energy or purchase renewable energy credits. Minnesota Power’s 2015 IRP, which was filed with the MPUC in September 2015 and approved with modifications by the MPUC in an order dated July 18, 2016, includes an update on its plans and progress in meeting the Minnesota renewable energy milestones through 2025. (See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Outlook – EnergyForward.)

Minnesota Power continues to execute its renewable energy strategy through key renewable projects that will ensure it meets the identified state mandate at the lowest cost for customers. Minnesota Power has exceeded the interim milestone requirements to date with approximately 33 percent of its applicable retail and municipal energy sales supplied by renewable energy sources in 2016.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Minnesota Legislation (Continued)

Minnesota Solar Energy Standard. In 2013, legislation was enacted by the state of Minnesota requiring at least 1.5 percent of total retail electric sales, excluding sales to certain customers, to be generated by solar energy by the end of 2020. At least 10 percent of the 1.5 percent mandate must be met by solar energy generated by or procured from solar photovoltaic devices with a nameplate capacity of 20 kW or less. Minnesota Power has one completed solar project and another under development. In August 2015, Minnesota Power filed for MPUC approval of a 10 MW utility scale solar project at the Camp Ripley Minnesota Army National Guard base and training facility near Little Falls, Minnesota. In an order dated February 24, 2016, the MPUC approved the Camp Ripley solar project as eligible to meet the solar energy standard and for current cost recovery, which was subsequently finalized by the MPUC in an order dated December 12, 2016. The Camp Ripley solar project was completed in the fourth quarter of 2016. In September 2015, Minnesota Power filed for MPUC approval of a community solar garden project in northeastern Minnesota, which is comprised of a 1 MW solar array to be owned and operated by a third party with the output purchased by Minnesota Power and a 40 kW solar array that will be owned and operated by Minnesota Power. In an order dated July 27, 2016, the MPUC approved the community solar garden project and cost recovery, subject to certain compliance requirements. Minnesota Power believes these projects will meet approximately one-third of the overall mandate. Additionally, on January 19, 2017, the MPUC approved Minnesota Power’s proposal to increase the amount of solar rebates available for customer-sited solar installations and recover costs of the program through Minnesota Power’s renewable cost recovery rider. This proposal to incentivize customer-sited solar installations is expected to meet a portion of the required mandate related to solar photovoltaic devices with a nameplate capacity of 20 kW or less.

Energy-Intensive Trade-Exposed (EITE) Customer Rates. The Minnesota Legislature enacted EITE customer ratemaking law in June 2015 which established that it is the energy policy of the state to have competitive rates for certain industries such as mining and forest products. In November 2015, Minnesota Power filed a rate schedule petition with the MPUC for EITE customers and a corresponding rider for EITE cost recovery. The rate proposal was revenue and cash flow neutral to Minnesota Power. In an order dated March 23, 2016, the MPUC dismissed the petition without prejudice, providing Minnesota Power the option to refile the petition with additional information or file a new petition. On June 30, 2016, Minnesota Power filed a revised EITE petition with the MPUC which included additional information on the net benefits analysis, limits on eligible customers and term lengths for the EITE discount. In an order dated December 21, 2016, the MPUC approved a reduction in rates for EITE customers and determined that cost recovery will be addressed in a separate proceeding. Minnesota Power provided additional information on cost recovery allocation methods in a December 30, 2016, compliance filing.

Competition

Retail electric energy sales in Minnesota and Wisconsin are made to customers in assigned service territories. As a result, most retail electric customers in Minnesota do not have the ability to choose their electric supplier. Large energy users of 2 MW and above that are located outside of a municipality are allowed to choose a supplier upon MPUC approval. Minnesota Power serves 12 Large Power facilities over 10 MW, none of which have engaged in a competitive rate process. No other large commercial or small industrial customers in Minnesota Power’s service territory have sought a provider outside Minnesota Power’s service territory since 1994. Retail electric and natural gas customers in Wisconsin do not have the ability to choose their energy supplier. In both states, however, electricity may compete with other forms of energy. Customers may also choose to generate their own electricity, or substitute other forms of energy for their manufacturing processes.

In 2016, 6 percent of total regulated utility kWh sales were to municipal customers in Minnesota by contract. These customers have the right to seek an energy supply from any wholesale electric service provider upon contract expiration. In April 2015, Minnesota Power amended its formula-based wholesale electric sales contract with the Nashwauk Public Utilities Commission, extending the term through June 30, 2028. In September 2015, Minnesota Power amended its wholesale electric contracts with 14 of its municipal customers, extending the contract terms through December 31, 2024. On June 30, 2016, one of Minnesota Power’s municipal customers provided termination notice for its contract effective June 30, 2019. Minnesota Power currently provides approximately 29 MW of average monthly demand to this customer. (See Electric Sales / Customers.)

The FERC has continued with its efforts to promote a more competitive wholesale market through open-access electric transmission and other means. As a result, our electric sales to Other Power Suppliers and our purchases to supply our retail and wholesale load are made in the competitive market.

ALLETE, Inc. 2016 Form 10-K

REGULATED OPERATIONS (Continued)

Franchises

Minnesota Power holds franchises to construct and maintain an electric distribution and transmission system in 91 cities. The remaining cities, villages and towns served by Minnesota Power do not require a franchise to operate. SWL&P serves customers under electric, natural gas and/or water franchises in 1 city and 14 villages or towns.

ENERGY INFRASTRUCTURE AND RELATED SERVICES

ALLETE Clean Energy

ALLETE Clean Energy believes the market for renewable energy in North America is robust, driven by several factors including environmental regulation, tax incentives, societal expectations and continual technology advances. State renewable portfolio standards, and state or federal regulations to limit GHG emissions are examples of environmental regulation or public policy that we believe will drive renewable energy development.

ALLETE Clean Energy’s strategy includes the safe, reliable, optimal and profitable operation of its existing facilities. This includes a strong safety culture, the continuous pursuit of operational efficiencies at existing facilities and cost controls. ALLETE Clean Energy generally acquires facilities in liquid power markets and its strategy includes the exploration of PSA extensions upon expiration of existing contracts.

ALLETE Clean Energy will pursue growth through acquisitions or project development for others. ALLETE Clean Energy is targeting acquisitions of existing facilities up to 200 MW each, which have long-term PSAs in place for the facilities’ output. At this time, ALLETE Clean Energy expects acquisitions will be primarily wind or solar facilities in North America. ALLETE Clean Energy is also targeting the development of new facilities up to 200 MW each, which will have long-term PSAs in place for the output or may be sold upon completion. Federal production tax credit qualification is important to development project economics, and ALLETE Clean Energy invested approximately $100 million in equipment in 2016 to meet production tax credit safe harbor provisions.

ALLETE Clean Energy will manage risk by having a diverse portfolio of assets, which will include PSA expiration and geographic diversity. The current portfolio of approximately 535 MW is subject to typical variations in seasonal wind. The majority of its planned maintenance leverages this seasonality and is performed during lower wind periods. The current mix of PSA expiration and geographic location is as follows:



Wind Energy Facility	Location	Capacity MW	PSA MW	PSA Expiration
Armenia Mountain	Pennsylvania	100.5	100%	2024
Chanarambie/Viking	Minnesota	97.5
PSA 1			12%	2018
PSA 2			88%	2023
Condon	Oregon	50	100%	2022
Lake Benton	Minnesota	104	100%	2028
Storm Lake I	Iowa	108	100%	2019
Storm Lake II	Iowa	77
PSA 1			90%	2019
PSA 2			10%	2032

ALLETE, Inc. 2016 Form 10-K

ENERGY INFRASTRUCTURE AND RELATED SERVICES (Continued)

ALLETE Clean Energy (Continued)

The majority of ALLETE Clean Energy’s wind operations are located on real property owned by others with appropriate easements rights or necessary consents of governmental authorities. Two of ALLETE Clean Energy’s wind energy facilities are encumbered by liens against their assets securing financing. Such financings are structured to be repaid within the term of the existing long‑term PSAs.

U.S. Water Services

On February 10, 2015, ALLETE acquired U.S. Water Services. U.S. Water Services provides integrated water management for industry by combining chemical, equipment, engineering and service for customized solutions to reduce water and energy usage, and improve efficiency. U.S. Water Services is located in 49 states and Canada and has an established base of approximately 4,800 customers. U.S. Water Services differentiates itself from the competition by developing synergies between established solutions in engineering, equipment and chemical water treatment, and helping customers achieve efficient and sustainable use of their water and energy systems. U.S. Water Services is a leading provider to the biofuels industry, and also serves the food and beverage, industrial, power generation, and midstream oil and gas industries. U.S. Water Services principally relies upon recurring revenue from a diverse mix of industrial customers. U.S. Water Services sells certain products which are seasonal in nature, with higher demand typically realized in warmer months; generally, lower sales occur in the first quarter of each year. The results for 2015 reflect operations for the date of acquisition, February 10, 2015, through December 31, 2015, and therefore, do not reflect a full twelve months.

Our strategy is to grow U.S. Water Services’ North American presence by adding customers, products and new geographies. We believe water scarcity and a growing emphasis on conservation will continue to drive significant growth in the industrial, commercial and governmental sectors leading to organic revenue growth for U.S. Water Services. U.S. Water Services also expects to pursue periodic strategic tuck-in acquisitions with a purchase price in the $10 million to $50 million range. Priority will be given to acquisitions which expand its geographic reach, add new technology or deepen its capabilities to serve its expanding customer base.

U.S. Water Services leases an office and production facility at its headquarters in Minnesota as well as various office, warehouse and production facilities across the United States.

CORPORATE AND OTHER

BNI Energy

BNI Energy is a supplier of lignite in North Dakota, producing approximately 4 million tons annually and has lignite reserves of an estimated 650 million tons. Two electric generating cooperatives, Minnkota Power and Square Butte, presently consume virtually all of BNI Energy’s production of lignite under cost-plus fixed fee coal supply agreements extending through December 31, 2037. (See Item 1. Business – Regulated Operations – Power Supply – Long-Term Purchased Power and Note 11. Commitments, Guarantees and Contingencies.) The mining process disturbs and reclaims between 200 and 250 acres per year. Laws require that the reclaimed land be at least as productive as it was prior to mining. As of December 31, 2016, BNI Energy had a $23.5 million asset reclamation obligation ($22.1 million as of December 31, 2015) included in Other Non-Current Liabilities on the Consolidated Balance Sheet. These costs are included in the cost-plus fixed fee contract, for which an asset reclamation cost receivable was included in Other Non-Current Assets on the Consolidated Balance Sheet. The asset reclamation obligation is guaranteed by surety bonds and a letter of credit. (See Note 11. Commitments, Guarantees and Contingencies.)

ALLETE Properties

ALLETE Properties represents our legacy Florida real estate investment. Market conditions can impact land sales and could result in our inability to cover our cost basis, operating expenses or fixed carrying costs such as community development district assessments and property taxes.

ALLETE, Inc. 2016 Form 10-K

CORPORATE AND OTHER (Continued)

ALLETE Properties (Continued)

ALLETE Properties’ major projects in Florida are Town Center at Palm Coast and Palm Coast Park.



Summary of Projects		Residential	Non-residential
As of December 31, 2016	Acres (a)	Units (b)	Sq. Ft. (b)
Projects
Town Center at Palm Coast	981	2,447	2,210,200
Palm Coast Park	3,137	3,554	3,046,800
Total Projects	4,118	6,001	5,257,000


(a)	Acreage amounts are approximate and shown on a gross basis, including wetlands.


(b)	Units and square footage are estimated. Density at build out may differ from these estimates.

In addition to the two projects, ALLETE Properties has approximately 1,100 acres of other land available-for-sale.

In recent years, market conditions for real estate in Florida have required us to review our land inventories for impairment. In 2015, the Company reevaluated its strategy related to the real estate assets of ALLETE Properties in response to market conditions and transaction activity. The revised strategy incorporated the possibility of a bulk sale of its entire portfolio which, if consummated, would likely result in sales proceeds below the book value of the real estate assets. Proceeds from such a sale would be strategically deployed to support growth in our energy infrastructure and related services businesses. ALLETE Properties also continues to pursue sales of individual parcels over time. ALLETE Properties will continue to maintain key entitlements and infrastructure without making additional investments or acquisitions.

In connection with implementing the revised strategy, management evaluated its impairment analysis for its real estate assets using updated assumptions to determine estimated future net cash flows on an undiscounted basis. Estimated fair values were based upon current market data and pricing for individual parcels. Our impairment analysis incorporates a probability-weighted approach considering the alternative courses of sales noted above.

Based on the results of the 2015 undiscounted cash flow analysis, the undiscounted future net cash flows were not adequate to recover the carrying value of the real estate assets leading to an adjustment of carrying value to estimated fair value. Estimated fair value was derived using Level 3 inputs, including current market interest in the property for a bulk sale of its entire portfolio, and discounted cash flow analysis of estimated selling price for sales over time. As a result, a non-cash impairment charge of $36.3 million was recorded in 2015 to reduce the carrying value of the real estate to its estimated fair value.

In 2016 and 2014, impairment analyses of estimated undiscounted future net cash flows were conducted and indicated that the cash flows were adequate to recover the carrying value of ALLETE Properties real estate assets. As a result, no impairment was recorded in 2016 or 2014.

On September 22, 2016, ALLETE Properties sold its Ormond Crossings project and Lake Swamp wetland mitigation bank for consideration of approximately $21 million. The consideration included a down payment in the form of 0.1 million shares of ALLETE common stock with a value of $8.0 million, with the remaining purchase price to be paid under the terms of a finance receivable due over a five-year period which bears interest at market rates. The finance receivable is collateralized by the property sold.

Seller Financing. ALLETE Properties occasionally provides seller financing to certain qualified buyers. As of December 31, 2016, outstanding finance receivables were $13.9 million, net of reserves, with maturities through 2021. These finance receivables accrue interest at market-based rates and are collateralized by the financed properties.

Regulation. A substantial portion of our development properties in Florida are subject to federal, state and local regulations, and restrictions that may impose significant costs or limitations on our ability to develop the properties. Much of our property is vacant land and some is located in areas where development may affect the natural habitats of various protected wildlife species or in sensitive environmental areas such as wetlands.

Non-Rate Base Generation and Miscellaneous

Corporate and Other also includes other business development and corporate expenditures, unallocated interest expense, a small amount of non-rate base generation, approximately 5,000 acres of land in Minnesota, and earnings on cash and investments.

ALLETE, Inc. 2016 Form 10-K

CORPORATE AND OTHER (Continued)

Non-Rate Base Generation and Miscellaneous (Continued)

As of December 31, 2016, non-rate base generation consists of 29 MW of generation at Rapids Energy Center. In 2016, we sold 0.1 million MWh of non-rate base generation (0.1 million MWh in 2015 and in 2014).



Non-Rate Base Power Supply	Unit No.	Year Installed	Year Acquired	Net Capability (MW)
Rapids Energy Center (a)
in Grand Rapids, MN
Steam – Biomass (b)	6 & 7	1969, 1980	2000	27
Hydro	4 & 5	1917, 1948	2000	2


(a)	The net generation is primarily dedicated to the needs of one customer.


(b)	Rapids Energy Center’s fuel supply is supplemented by coal.

ENVIRONMENTAL MATTERS

Our businesses are subject to regulation of environmental matters by various federal, state and local authorities. A number of regulatory changes to the Clean Air Act, the Clean Water Act and various waste management requirements have recently been promulgated by both the EPA and state authorities. Minnesota Power’s facilities are subject to additional regulation under many of these regulations. In response to these regulations, Minnesota Power is reshaping its generation portfolio over time to reduce its reliance on coal, has installed cost-effective emission control technology, and advocates for sound science and policy during rulemaking implementation.

We consider our businesses to be in substantial compliance with currently applicable environmental regulations and believe all necessary permits to conduct such operations have been obtained. We anticipate that with many state and federal environmental regulations finalized, or to be finalized in the near future, potential expenditures for future environmental matters may be material and may require significant capital investments. Minnesota Power has evaluated various environmental compliance scenarios using possible outcomes of environmental regulations to project power supply trends and impacts on customers.

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. Accruals are adjusted as assessment and remediation efforts progress or as additional technical or legal information become available. Accruals for environmental liabilities are included in the Consolidated 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 expensed unless recoverable in rates from customers. (See Note 11. Commitments, Guarantees and Contingencies.)

EMPLOYEES

As of December 31, 2016, ALLETE had 1,963 employees, of which 1,917 were full-time.

Minnesota Power and SWL&P have an aggregate of 537 employees who are members of the International Brotherhood of Electrical Workers (IBEW) Local 31. The current labor agreements with IBEW Local 31 expire on January 31, 2018.

BNI Energy has 174 employees, of which 129 are members of IBEW Local 1593. The current labor agreement with IBEW Local 1593 expires on March 31, 2019.

AVAILABILITY OF INFORMATION

ALLETE makes its SEC filings, including its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports filed or furnished pursuant to Section 13(e) or 15(d) of the Securities Exchange Act of 1934, available free of charge on ALLETE’s website, www.allete.com, as soon as reasonably practicable after they are electronically filed with or furnished to the SEC.

ALLETE, Inc. 2016 Form 10-K

EXECUTIVE OFFICERS OF THE REGISTRANT

As of February 15, 2017, these are the executive officers of ALLETE:



Executive Officers	Initial Effective Date

Alan R. Hodnik, Age 57
Chairman, President and Chief Executive Officer	May 10, 2011
President and Chief Executive Officer	May 1, 2010

Robert J. Adams, Age 54
Senior Vice President – Energy-Centric Businesses and Chief Risk Officer	November 14, 2015
Vice President – Energy-Centric Businesses and Chief Risk Officer	June 23, 2014
Vice President – Business Development and Chief Risk Officer	May 13, 2008

Deborah A. Amberg, Age 51
Senior Vice President, Chief Strategy Officer – Regulated Operations and President – SWL&P	November 26, 2016
Senior Vice President, General Counsel and Secretary	January 1, 2006

Patrick L. Cutshall, Age 51
Treasurer	January 1, 2016

Steven Q. DeVinck, Age 57
Senior Vice President and Chief Financial Officer	March 3, 2014
Controller and Vice President – Business Support	December 5, 2009

David J. McMillan, Age 55
Senior Vice President – External Affairs	January 1, 2012
Senior Vice President – Marketing, Regulatory and Public Affairs	January 1, 2006
Executive Vice President – Minnesota Power	January 1, 2006

Steven W. Morris, Age 55
Vice President, Controller and Chief Accounting Officer	December 24, 2016
Controller	March 3, 2014

Bradley W. Oachs, Age 59
Senior Vice President and President – Regulated Operations	November 26, 2016

Bethany M. Owen, Age 51
Senior Vice President and Chief Legal and Administrative Officer	November 26, 2016

All of the executive officers have been employed by us for more than five years in executive or management positions. Prior to election to the position listed above, the following executives held other positions with the Company during the past five years.

Mr. Morris was Director – Accounting.

Mr. Cutshall was Director – Investments and Tax; Director – Investments.

Mr. Oachs was Chief Operating Officer – Minnesota Power.

Ms. Owen was Vice President – Information Technology Solutions and President – SWL&P.

On September 26, 2016, Steven Q. DeVinck announced his retirement from the Company, effective in the spring of 2017. On October 25, 2016, ALLETE announced Robert J. Adams as Senior Vice President and Chief Financial Officer, effective March 4, 2017.

ALLETE, Inc. 2016 Form 10-K

EXECUTIVE OFFICERS OF THE REGISTRANT (Continued)

On November 21, 2016, the Company named Bradley W. Oachs, as Senior Vice President and President – Regulated Operations, effective November 26, 2016. Since September 12, 2009, Mr. Oachs has held the position of Chief Operating Officer – Minnesota Power. On November 21, 2016, the Company named Bethany M. Owen, as Senior Vice President and Chief Legal and Administrative Officer, effective November 26, 2016. Since June 23, 2014, Ms. Owen has held the position of Vice President – Information Technology Solutions and President – SWL&P. Prior to that she held the positions of Vice President and President – SWL&P from February 2012 through June 2014 and President – SWL&P from August 2010 through February 2012.

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 above extends to the first meeting of our Board of Directors after the next annual meeting of shareholders. Both meetings are scheduled for May 9, 2017.

Item 1A. Risk Factors

The risks and uncertainties discussed below could materially affect our businesses operations, financial position, results of operations and cash flows, and should be carefully considered by stakeholders. The risks and uncertainties in this section are not the only ones we face; additional risks and uncertainties that we are not presently aware of, or that we currently consider immaterial, may also affect our business operations, financial position, results of operations and cash flows. Accordingly, the risks described below should be carefully considered together with other information set forth in this report and in future reports that are filed with the SEC.

Entity-wide Risks

We rely on access to financing sources and capital markets. If we do not have access to sufficient capital in the amounts and at the times needed, our ability to execute our business plans, make capital expenditures or pursue other strategic actions that we may otherwise rely on for future growth could be adversely affected.

We rely on access to financing sources and capital markets as sources of liquidity for capital requirements not satisfied by our cash flow from operations. If we are not able to access capital on satisfactory terms, or at all, the ability to maintain our businesses or 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 capital markets. Such disruptions could include a significant economic downturn, the financial distress of non-affiliated electric utility companies or financial services companies, a deterioration in capital market conditions, or volatility in commodity prices.

A deterioration in general economic conditions may have adverse impacts on our financial position, results of operations and cash flows.

If economic conditions deteriorate on a national or regional level, it may have a negative impact on the Company and our customers. This impact may include volatility and unpredictability in the demand for the products and services offered by our businesses, the loss of existing customers, tempered growth strategies, production cutbacks or bankruptcies. It is also possible that an uncertain economy could affect expenses including pension costs, interest costs, and uncollectible accounts, or lead to reductions in the value of certain real estate and other investments.

We may be impacted by new state or federal legislation or regulations, and compliance could have an adverse effect on our businesses.

We are subject to, and affected by, extensive state and federal legislation and regulation. We believe that our businesses comply with applicable laws and regulations. If it were determined that they failed to comply, we could become subject to fines or penalties or be required to implement additional compliance measures or actions, the cost of which could be material. Adoption of new laws, rules, regulations, principles, or practices by federal or state agencies, or changes to present laws, rules, regulations, principles, or practices and their interpretations, could have an adverse effect on our financial position, results of operations and cash flows.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Entity-wide Risks (Continued)

The inability to attract and retain a qualified workforce including, but not limited to, executive officers, key employees and employees with specialized skills, could have an adverse effect on our operations.

The success of our business heavily depends on the leadership of our executive officers and key employees to implement our business strategy. The inability to maintain a qualified workforce including, but not limited to, executive officers, key employees and employees with specialized skills, may negatively affect our ability to service our existing or new customers, or successfully manage our business or achieve our business objectives. Personnel costs may increase due to competitive pressures or terms of collective bargaining agreements with union employees.

Market performance and other changes could decrease the value of pension and other postretirement benefit plan assets, which may result in significant additional funding requirements and increased annual expenses.

The performance of the capital markets impacts the values of the assets that are held in trust to satisfy future obligations under our pension and other postretirement benefit plans. We have significant obligations to these plans and the trusts hold significant assets. These assets are subject to market fluctuations and will yield uncertain returns, which may fall below our projected rates of return. A decline in the market value of the pension and other postretirement benefit plan assets would increase the funding requirements under our benefit plans if asset returns do not recover. Additionally, our pension and other postretirement benefit plan liabilities are sensitive to changes in interest rates. As interest rates decrease, the liabilities increase, potentially increasing benefit expense and funding requirements. Our pension and other postretirement benefit plan costs are generally recoverable in our electric rates as allowed by our regulators or through our cost-plus fixed fee coal supply agreements at BNI Energy; however, there is no certainty that regulators will continue to allow recovery of these rising costs in the future.

We are exposed to significant reputation risk.

The Company and its subsidiaries could suffer negative impacts to their reputations as a result of operational incidents, violations of corporate compliance policies, regulatory violations, or other events which may result in negative customer perception and increased regulatory oversight, each of which could have an adverse effect on our financial position, results of operations and cash flows.

Catastrophic events, such as acts of war and natural disasters, may adversely affect our operations.

Catastrophic events such as fires, earthquakes, explosions, floods, ice storms, tornadoes, or similar occurrences could adversely affect the Company’s facilities, operations, financial position, results of operations and cash flows. Although the Company has contingency plans and employs crisis management to respond and recover operations in the event of a severe disruption resulting from such events, these measures may not be successful. Furthermore, despite these measures, if such an occurrence were to occur, our financial position, results of operations and cash flows could be adversely affected.

We are vulnerable to acts of terrorism or cybersecurity attacks.

Our operations may be targets of terrorist activities, including cybersecurity attacks, which could disrupt our ability to produce or distribute some portion of our products. We could be subject to computer viruses, terrorism, theft and sabotage, which may also disrupt our operations and/or adversely impact our results of operations. Our businesses require the continued operation of sophisticated information technology systems and network infrastructure. Our technology systems may be vulnerable to disability, failures or unauthorized access due to hacking, viruses, acts of war or terrorism and other causes. If our technology systems were to fail or be breached and we were unable to recover in a timely manner, we may be unable to fulfill critical business functions and sensitive, confidential and other data could be compromised, which could have an adverse effect on our financial position, results of operations and cash flows.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Entity-wide Risks (Continued)

Government challenges to our tax positions, as well as tax law changes and the inherent difficulty in quantifying potential tax effects of business decisions, could adversely affect our results of operations and liquidity.

We are required to make judgments in order to estimate tax obligations. These judgments include reserves for potential adverse outcomes for tax positions that may be challenged by tax authorities. The obligations, which include income taxes and taxes other than income taxes, involved complex matters that ultimately could be litigated. We also estimate our ability to use tax benefits, including those in the form of carryforwards and tax credits that are recorded as deferred tax assets on our Consolidated Balance Sheet. A disallowance of these tax benefits could have an adverse impact on our financial position, results of operations and cash flows.

We plan to utilize our carryforwards and tax credits in the future to reduce our income tax obligations. If we cannot generate enough taxable income in the future to utilize all of our carryforwards and tax credits before they expire, we may incur adverse charges to earnings. If the Internal Revenue Service disagrees with the deductions resulting from our tax planning strategies, our financial position, results of operations and cash flows may be adversely impacted.

Regulated Operations Risks

Our results of operations could be negatively impacted if our Large Power Customers experience an economic downturn, incur work stoppages, fail to compete effectively in the economy, experience decreased demand or experience a decline in prices for their product.

Minnesota Power’s 9 Large Power Customers accounted for 22 percent of our 2016 consolidated operating revenue (22 percent in 2015; 31 percent in 2014), of which one of these customers accounted for approximately 8 percent of consolidated revenue in 2016 (8 percent in 2015; 12 percent in 2014). These customers are involved in cyclical industries that by their nature are adversely impacted by economic downturns and are subject to strong competition in the marketplace. Many of our Large Power Customers also have unionized workforces which put them at risk for work stoppages. Additionally, the North American paper and pulp industry also faces declining demand due to the impact of electronic substitution for print and changing customer needs.

Accordingly, if our customers experience an economic downturn, incur a work stoppage (including strikes, lock-outs or other events), fail to compete effectively in the economy, experience decreased demand or experience a decline in prices for their product, there could be adverse effects on their operations and, consequently, this could have a negative impact on our results of operations if we are unable to remarket at similar prices the energy that would otherwise have been sold to such Large Power Customers.

Our utility operations are subject to an extensive legal and regulatory framework under federal and state laws as well as regulations imposed by other organizations that may have a negative impact on our business and results of operations.

We are subject to an extensive legal and regulatory framework imposed under federal and state law including regulations administered by the FERC, MPUC, MPCA, PSCW, NDPSC and EPA as well as regulations administered by other organizations including the NERC. These laws and regulations relate to allowed rates of return, capital structure, financings, rate and cost structure, acquisition and disposal of assets and facilities, construction and operation of generation, transmission and distribution facilities (including the ongoing maintenance and reliable operation of such facilities), recovery of purchased power costs and capital investments, approval of integrated resource plans and present or prospective wholesale and retail competition, among other things. Energy policy initiatives at the state or federal level could increase incentives for distributed generation, municipal utility ownership, or local initiatives could introduce generation or distribution requirements, that could change the current integrated utility model. Our transmission systems and electric generation facilities are subject to the NERC mandatory reliability standards, including cybersecurity standards. Compliance with these standards may lead to increased operating costs and capital expenditures. If it was determined that we were not in compliance with these mandatory reliability standards or other statutes, rules and orders, we could incur substantial monetary penalties and other sanctions, which could adversely affect our results of operations.

These laws and regulations significantly influence our operations and may affect our ability to recover costs from our customers. We are required to have numerous permits, licenses, approvals and certificates from the agencies and other organizations that regulate our business. We believe we have obtained the necessary permits, licenses, approvals and certificates for our existing operations and that our business is conducted in accordance with applicable laws; however, we are unable to predict the impact on our operating results from the future regulatory activities of any of these agencies and other organizations. Changes in regulations or the adoption of new regulations could have an adverse impact on our results of operations.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Regulated Operations Risks (Continued)

Our ability to obtain rate adjustments to maintain reasonable rates of return depends upon regulatory action under applicable statutes and regulations, and we cannot provide assurance that rate adjustments will be obtained or reasonable authorized rates of return on capital will be earned. Minnesota Power and SWL&P, from time to time, file general rate cases with, or otherwise seek cost recovery authorization from, federal and state regulatory authorities. If Minnesota Power and SWL&P do not receive an adequate amount of rate relief in general rate cases, including if rates are reduced, if increased rates are not approved on a timely basis or costs are otherwise unable to be recovered through rates, or if cost recovery is not granted at the requested level, we may experience an adverse impact on our financial position, results of operations and cash flows. We are unable to predict the impact on our business and results of operations from future legislation or regulatory activities of any of these agencies or organizations.

Our operations pose certain environmental risks that could adversely affect our financial position and results of operations, including effects of environmental laws and regulations, physical risks associated with climate change and initiatives designed to reduce the impact of GHG emissions.

We are subject to extensive environmental laws and regulations affecting many aspects of our present and future operations, including air quality, water quality and usage, waste management, reclamation, hazardous wastes, avian mortality and natural resources. These laws and regulations can result in increased capital expenditures, environmental emission allowance trading, operating and other costs, as a result of compliance, remediation, containment and monitoring obligations, particularly with regard to laws relating to power plant emissions, coal ash, water discharge and wind energy facilities.

These laws and regulations could restrict the output of some existing facilities, limit the use of some fuels in the production of electricity, require the installation of additional pollution control equipment, require participation in environmental emission allowance trading, and/or lead to other environmental considerations and costs, which could have an adverse impact on our business, operations and results of operations.

These laws and regulations generally require us to obtain and comply with a wide variety of environmental licenses, permits, inspections and other approvals. Both governmental authorities and private parties may seek to enforce applicable environmental laws and regulations.

Existing environmental regulations may be revised and new regulations seeking to protect the environment may 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 from customers, could have an adverse effect on our results of operations.

The scientific community generally accepts that emissions of GHG are linked to global climate change. Physical risks of climate change, such as more frequent or more extreme weather events, changes in temperature and precipitation patterns, changes to ground and surface water availability, and other related phenomena, could affect some, or all, of our operations. Severe weather or other natural disasters could be destructive, which could result in increased costs. An extreme weather event within our utility service areas can also directly affect our capital assets, causing disruption in service to customers due to downed wires and poles or damage to other operating equipment. These all have the potential to adversely affect our business and operations.

Proposals for voluntary initiatives to reduce GHGs such as CO₂, a by-product of burning fossil fuels, have been discussed within Minnesota, among a group of Midwestern states that includes Minnesota and in the United States Congress. In 2013, President Obama announced a Climate Action Plan (CAP) that calls for implementation of measures that reduce GHG emissions in the U.S., emphasizing means such as expanded deployment of renewable energy resources, energy and resource conservation, energy efficiency improvements and a shift to fuel sources that have lower emissions. Certain portions of the CAP directly address electric utility GHG emissions. The implementation of the CAP could have an adverse impact on our results of operations if additional capital expenditures and operating costs are required and if those costs are not fully recovered from customers.

In 2014, the EPA announced a proposed rule under Section 111(d) of the Clean Air Act for existing power plants (CPP). In 2015, the EPA issued the final CPP, together with a proposed federal implementation plan and a model rule for emissions trading. Numerous petitions for review of the rule have been filed with the U.S. Court of Appeals for the District of Columbia Circuit, and the U.S. Supreme Court has stayed the effectiveness of the rule until after the appellate court process is complete. If upheld, the implementation of the CPP could have an adverse impact on our results of operations if additional capital expenditures and operating costs are required and if those costs are not fully recovered from customers. (See Note 11. Commitments, Guarantees and Contingencies.)

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Regulated Operations Risks (Continued)

There is significant uncertainty regarding whether new laws or regulations will be adopted to reduce GHGs and what affect any such laws or regulations would have on us. In 2016, coal was the primary fuel source for 73 percent of the energy produced by our generating facilities. Future limits on GHG emissions would likely require us to incur significant increases in capital expenditures and operating costs, which if significant enough, could result in the closure of certain coal-fired energy centers, impairment of assets, or otherwise adversely affect our results of operations, particularly if implementation costs are not fully recoverable from customers.

We cannot predict the amount or timing of all future expenditures related to environmental matters because of uncertainty as to applicable regulations or requirements. There is also uncertainty in quantifying liabilities under environmental laws that impose joint and several liability on all potentially responsible parties. Violations of certain environmental statutes, rules and regulations could expose ALLETE to third party disputes and potentially significant monetary penalties, as well as other sanctions for non-compliance.

The operation and maintenance of our electric generation and transmission facilities are subject to operational risks that could adversely affect our financial position, results of operations and cash flows.

The operation of generating facilities involves many risks, including start-up operations risks, breakdown or failure of facilities, the dependence on a specific fuel source, inadequate fuel supply, availability of fuel transportation, 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. A significant portion of our facilities were constructed many years ago. In particular, older generating equipment, even if maintained in accordance with good engineering practices, may require significant capital expenditures to continue operating at peak efficiency. Generation and transmission facilities and equipment are also likely to require periodic upgrades and improvements due to changing environmental standards and technological advances. We could be subject to costs associated with any unexpected failure to produce and/or deliver power, including failure caused by breakdown or forced outage, as well as repairing damage to facilities due to storms, natural disasters, wars, sabotage, terrorist acts and other catastrophic events.

Our ability to successfully and timely complete capital improvements to existing facilities or other capital projects is contingent upon many variables.

We expect to incur significant capital expenditures in making capital improvements to our existing electric generation facilities and in the development and/or construction of new transmission facilities. Should any such efforts be unsuccessful or not completed in a timely manner, we could be subject to additional costs or impairments which could have an adverse impact on our financial position and results of operation.

Our electric generating operations may not have access to adequate and reliable transmission and distribution facilities necessary to deliver electricity to our customers.

We depend on our own transmission and distribution facilities, as well as facilities owned by other utilities, to deliver the electricity produced and sold to our customers, and to other energy suppliers. If transmission capacity is inadequate, our ability to sell and deliver electricity may be limited. We may have to forgo sales or may have to buy more expensive wholesale electricity that is available in the capacity-constrained area. In addition, any infrastructure failure that interrupts or impairs delivery of electricity to our customers could negatively impact the satisfaction of our customers, which could have an adverse impact on our business and results of operations.

Our results of operations could be impacted by declining wholesale power prices.

Wholesale prices for electricity have declined in recent years primarily due to low natural gas prices. If there are reductions in demand from customers or if we lose customers, we will market any available power to Other Power Suppliers in an effort to mitigate any earnings impact. Sales to Other Power Suppliers are sold at market-based prices into the MISO market on a daily basis or through bilateral agreements of various durations. Due to the low wholesale prices for electricity, we can make no assurances that our power marketing efforts would fully offset any reduction in earnings resulting from the lower demand from existing customers or the loss of customers.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Regulated Operations Risks (Continued)

The price of electricity and fuel may be volatile.

Volatility in market prices for electricity and fuel could adversely impact our financial position and results of operations and may result from:


•	severe or unexpected weather conditions and natural disasters;


•	seasonality;


•	changes in electricity usage;


•	transmission or transportation constraints, inoperability or inefficiencies;


•	availability of competitively priced alternative energy sources;


•	changes in supply and demand for energy;


•	changes in power production capacity;


•	outages at our generating facilities or those of our competitors;


•	availability of fuel transportation;


•	changes in production and storage levels of natural gas, lignite, coal, crude oil and refined products;


•	wars, sabotage, terrorist acts or other catastrophic events; and


•	federal, state, local and foreign energy, environmental, or other regulation and legislation.

Fluctuations in our fuel and purchased power costs related to our retail and municipal customers are passed on to customers through the fuel adjustment clause. Volatility in market prices for our fuel and purchase power costs primarily impacts our sales to Other Power Suppliers.

Demand for energy may decrease.

Our results of operations are impacted by the demand for energy in our service territories. There could be lower demand for energy due to a loss of customers as a result of economic conditions, customers constructing their own generation facilities, higher costs and rates charged to customers, or loss of service territory or franchises. Further, the energy conservation and technological advances that increase energy efficiency may temporarily or permanently reduce the demand for energy products. In addition, there are state and federal regulations requiring mandatory conservation measures, which would reduce the demand for energy. Continuing technology improvements and regulatory developments may make customer and third party-owned generation technologies such as rooftop solar systems, wind turbines, microturbines and battery storage systems more cost effective and feasible for more of our customers. If more customers utilize their own generation, demand for energy from us would decline. There may not be future economic growth opportunities that would enable us to replace the lost energy demand from these customers. Therefore, a decrease in demand for energy could adversely impact our financial position, results of operations and cash flows.

We may not be able to successfully implement our strategic objectives of growing load at our utilities if current or potential industrial or municipal customers are unable to successfully implement expansion plans, including the inability to obtain necessary governmental permits.

As part of our long-term strategy, we pursue new wholesale and retail loads in and around our service territories. Currently, there are several companies in our service territories that are in the process of developing natural resource-based projects that represent long-term growth potential and load diversity for our Regulated Operations businesses. These projects may include construction of new facilities and restarts of old facilities, both of which require permitting and/or approvals to be obtained before the projects can be successfully implemented. If a project does not obtain any necessary governmental (including environmental) permits and approvals or if these customers are unable to successfully implement expansion plans, our long-term strategy and thus our results of operations could be adversely impacted.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Energy Infrastructure and Related Services Risks

The generation of electricity from ALLETE Clean Energy’s wind energy facilities depends heavily on suitable meteorological conditions.

ALLETE Clean Energy’s facilities are geographically diverse; however, if wind conditions are unfavorable, ALLETE Clean Energy's electricity generation and revenue from its wind energy facilities may be substantially below its expectations. The electricity produced and revenues generated by a wind energy facility are highly dependent on suitable wind conditions and associated weather conditions, which are beyond ALLETE Clean Energy’s control. Furthermore, components of its systems could be damaged by severe weather, such as hailstorms, lightning or tornadoes. In addition, replacement and spare parts for key components of ALLETE Clean Energy’s diverse turbine portfolio may be difficult or costly to acquire or may be unavailable. Unfavorable weather and atmospheric conditions could impair the effectiveness of ALLETE Clean Energy’s assets or reduce their output beneath their rated capacity or require shutdown of key equipment, impeding operation of its wind energy facilities.

As contracts with its counterparties expire, ALLETE Clean Energy may not be able to replace them with agreements on similar terms.

ALLETE Clean Energy is party to PSAs under various durations which expire in various years between 2018 and 2032. These PSA expirations are prior to the end of the estimated useful lives of the respective wind energy facilities. If, for any reason, ALLETE Clean Energy is unable to enter into new agreements with existing or new counterparties on similar terms once the current agreements expire, or sell energy in the wholesale market resulting in similar revenue, our financial position, results of operations and cash flows could be adversely affected.

Counterparties to ALLETE Clean Energy’s offtake agreements may not fulfill their obligations.

ALLETE Clean Energy is party to PSAs under various durations with a limited number of creditworthy counterparties. If, for any reason, any of the counterparties under these agreements are unable or unwilling to fulfill their related contractual obligations, and ALLETE Clean Energy is unable to remarket the energy resulting in similar revenue, our financial position, results of operations and cash flows could be adversely affected.

The inability to successfully manage and grow our Energy Infrastructure and Related Services businesses could adversely affect our results of operations.

Our Energy Infrastructure and Related Services businesses consist of ALLETE Clean Energy and U.S. Water Services. The Company's strategy for these businesses includes growth through acquisitions, project development for others, and by adding customers, products, and new geographies. This strategy depends, in part, on the Company’s ability to successfully identify and evaluate acquisition opportunities and consummate acquisitions on acceptable terms. The Company may compete with other companies for these acquisition opportunities, which may increase the Company’s cost of making acquisitions and the Company may be unsuccessful in pursuing these acquisition opportunities. These companies may be able to pay more for acquisitions and may be able to identify, evaluate, bid for and purchase a greater number of assets than the Company’s financial or human resources permit. If the Company is unable to execute its strategy of growth through acquisitions, project development for others, and/or the addition of new customers, products and geographies, it may impede our long-term objectives of achieving average annual earnings per share growth of a minimum of 5 percent and providing a dividend payout competitive with our industry.

Acquisitions are subject to uncertainties. If we are unable to successfully integrate and manage future acquisitions or strategic investments, this could have an adverse impact on our results of operations. Our actual results may also differ from our expectations due to factors such as the ability to obtain timely regulatory or governmental approvals, integration and operational issues and the ability to retain management and other key personnel.

U.S. Water Services principally relies upon recurring revenues from a diverse mix of industrial customers. Some of these customers can be adversely affected by low commodity prices such as those for ethanol and oil which may cause these customers to purchase fewer of U.S. Water Services’ products and services. If U.S. Water Services is unable to retain its existing customers, add new customers, or if it experiences reduced demand for its products and services, adverse impacts on our results of operations could occur that would prevent us from achieving our future growth expectations.

ALLETE, Inc. 2016 Form 10-K

Item 1A. Risk Factors (Continued)

Energy Infrastructure and Related Services Risks (Continued)

ALLETE has a significant amount of goodwill and intangible assets. A determination that goodwill or intangible assets have been impaired could result in a significant non-cash charge to earnings.

We had approximately $213 million of goodwill and intangible assets recorded on our Consolidated Balance Sheet as of December 31, 2016, primarily relating to our acquisition of U.S. Water Services in February 2015. If we make changes in our business strategy or if market or other conditions adversely affect the operations of U.S. Water Services, we may be required to record an impairment charge. Declines in projected operating cash flows at U.S. Water Services could also result in an impairment charge. An impairment charge could have an adverse effect on our results of operations.

Corporate and Other Risks

BNI Energy may be adversely impacted by its exposure to customer concentration, and environmental laws and regulations.

BNI Energy sells lignite to two electric generating cooperatives, Minnkota Power and Square Butte, and could be adversely impacted if these customers were unable or unwilling to fulfill their related contractual obligations. In addition, BNI Energy and its customers may be adversely impacted by environmental laws and regulations which could have an adverse effect on our financial position, results of operations and cash flows.

Real estate market conditions where our legacy Florida real estate investment is located may not improve.

The Company’s strategy related to the real estate assets of ALLETE Properties incorporates the possibility of a bulk sale of its entire portfolio, in addition to sales over time. However, continued adverse market conditions could impact the timing of land sales, which could result in little to no sales, while still incurring operating expenses such as community development district assessments and property taxes, resulting in continued annual net operating losses at ALLETE Properties. Furthermore, weak market conditions could put the properties at risk for an impairment charge which could adversely impact our results of operations.

Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

A discussion of our properties is included in Item 1. Business and is incorporated by reference herein.

Item 3. Legal Proceedings

Discussions of material regulatory and environmental proceedings are included in Note 4. Regulatory Matters and Note 11. Commitments, Guarantees and Contingencies, 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, and compliance with regulations, rate base and cost of service issues, among other things. We do not expect the outcome of these matters to have a material effect on our financial position, results of operations or cash flows.

Item 4. Mine Safety Disclosures

The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) requires issuers to include in periodic reports filed with the SEC certain information relating to citations or orders for violations of standards under the Federal Mine Safety and Health Act of 1977 (Mine Safety Act). Information concerning mine safety violations or other regulatory matters required by Section 1503(a) of the Dodd-Frank Act and this Item are included in Exhibit 95 to this Form 10-K.

ALLETE, Inc. 2016 Form 10-K

Part II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Our common stock is listed on the NYSE under the symbol ALE. We have paid dividends, without interruption, on our common stock since 1948. A quarterly dividend of $0.535 per share on our common stock is payable on March 1, 2017, to the shareholders of record on February 15, 2017. The timing and amount of future dividends will depend upon earnings, cash requirements, the financial condition of the Company, applicable government regulations and other factors deemed relevant by the ALLETE Board of Directors.

The following table shows dividends declared per share, and the high and low prices of our common stock for the periods indicated as reported by the NYSE:



		2016				2015
	Price Range		Dividends		Price Range		Dividends
Quarter	High	Low	Declared		High	Low	Declared
First	$58.34	$48.26		$0.52	$59.73	$51.16		$0.505
Second	$64.69	$53.47	0.52		$52.98	$46.27	0.505
Third	$65.41	$52.50	0.52		$52.49	$45.29	0.505
Fourth	$66.92	$56.48	0.52		$52.90	$47.93	0.505
Annual Total				$2.08				$2.02

As of February 1, 2017, there were approximately 23,000 common stock shareholders of record.

ALLETE, Inc. 2016 Form 10-K

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities (Continued)

Performance Graph.

The following graph compares ALLETE’s cumulative Total Shareholder Return on its common stock with the cumulative return of the S&P 500 Index and the Philadelphia Utility Index. The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. Because this composite index has a broad industry base, its performance may not closely track that of a composite index comprised solely of electric utilities. The Philadelphia Utility Index is a capitalization-weighted index of 20 utility companies involved in the generation of electricity.

The calculations assume a $100 investment on December 31, 2011, and reinvestment of dividends.

https://cdn.kscope.io/3a8449db6a7837d5692124f4f89ed659-ale1231201_chart-53916a01.jpg



	2011	2012	2013	2014	2015	2016
ALLETE	$100	$102	$129	$149	$143	$187
S&P 500 Index	$100	$116	$154	$175	$177	$198
Philadelphia Utility Index	$100	$99	$110	$142	$151	$177

ALLETE, Inc. 2016 Form 10-K

Item 6. Selected Financial Data



	2016			2015			2014			2013			2012
Millions Except Per Share Amounts
Operating Revenue (a)		$1,339.7			$1,486.4			$1,136.8			$1,018.4			$961.2
Operating Expenses (a)		$1,116.2			$1,275.7			$948.0			$864.3			$806.0
Net Income		$155.8			$141.5			$125.5			$104.7			$97.1
Less: Non-Controlling Interest in Subsidiaries (b)	0.5			0.4			0.7			—			—
Net Income Attributable to ALLETE		$155.3			$141.1			$124.8			$104.7			$97.1
Common Stock Dividends	102.7			97.9			83.8			75.2			69.1
Earnings Retained in Business		$52.6			$43.2			$41.0			$29.5			$28.0
Shares Outstanding
Year-End	49.6			49.1			45.9			41.4			39.4
Average (c)
Basic	49.3			48.3			42.9			39.7			37.6
Diluted	49.5			48.4			43.1			39.8			37.6
Diluted Earnings Per Share		$3.14			$2.92			$2.90			$2.63			$2.58
Total Assets (d)		$4,906.4			$4,894.5			$4,351.2			$3,468.7			$3,245.9
Long-Term Debt (d)		$1,370.4			$1,556.7			$1,263.2			$1,074.9			$926.1
Return on Common Equity	8.4		%	8.0		%	8.6		%	8.3		%	8.6		%
Common Equity Ratio	55		%	53		%	54		%	55		%	54		%
Dividends Declared per Common Share		$2.08			$2.02			$1.96			$1.90			$1.84
Dividend Payout Ratio	66		%	69		%	68		%	72		%	71		%
Book Value Per Share at Year-End		$38.17			$37.18			$35.04			$32.43			$30.50
Capital Expenditures by Segment
Regulated Operations		$121.8			$224.4			$583.5			$326.3			$418.2
ALLETE Clean Energy	106.9			8.6			4.2			—			—
U.S. Water Services	3.7			2.9			—			—			—
Corporate and Other	15.4			15.9			16.6			13.2			14.0
Total Capital Expenditures		$247.8			$251.8			$604.3			$339.5			$432.2


(a)	In 2015, operating revenue and operating expenses included the construction and sale of a wind energy facility from ALLETE Clean Energy to Montana-Dakota Utilities for $197.7 million and $162.9 million, respectively.


(b)	The non-controlling interest related to ALLETE Clean Energy’s Condon wind energy facility was acquired on April 15, 2016. (See Note 6. Acquisitions.)


(c)	Excludes unallocated ESOP shares in each of the years 2012 through 2014.

(d)

In April 2015, the FASB issued revised guidance addressing the presentation requirements for debt issuance costs. Under the revised guidance, all costs incurred to issue debt are to be presented on the Consolidated Balance Sheet as a direct deduction from the carrying amount of that debt liability. This guidance was adopted in the first quarter of 2016 resulting in the reclassification of unamortized debt issuance costs from Other Non-Current Assets to Long-Term Debt on the Consolidated Balance Sheet. The periods presented have been revised for the adoption of the guidance.

ALLETE, Inc. 2016 Form 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our Consolidated Financial Statements and notes to those statements and the other financial information appearing elsewhere in this report. In addition to historical information, the following discussion and other parts of this Form 10-K contain forward-looking information that involves risks and uncertainties. Readers are cautioned that forward-looking statements should be read in conjunction with our disclosures in this Form 10-K under the headings: “Forward‑Looking Statements” located on page 6 and “Risk Factors” located in Item 1A. The risks and uncertainties described in this Form 10-K are not the only risks 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 risks are realized.

Overview

Basis of Presentation. We present three reportable segments: Regulated Operations, ALLETE Clean Energy and U.S. Water Services. Our segments were determined in accordance with the guidance on segment reporting. We measure performance of our operations through budgeting and monitoring of contributions to consolidated net income by each business segment.

2016 Financial Overview

The following net income discussion summarizes a comparison of the year ended December 31, 2016, to the year ended December 31, 2015.

Net income attributable to ALLETE for 2016 was $155.3 million, or $3.14 per diluted share, compared to $141.1 million, or $2.92 per diluted share, for 2015.

Net income for 2016 was impacted by a gain related to the change in fair value of the U.S. Water Services contingent consideration liability, offset by the impact of an adverse November 2016 MPUC order on the allocation of North Dakota investment tax credits, a goodwill impairment charge and expense related to the repayment of long-term debt. Earnings per share dilution in 2016 was $0.07 due to additional shares of common stock outstanding as of December 31, 2016.

ALLETE, Inc. 2016 Form 10-K

2016 Financial Overview (Continued)

Net income for 2015 was impacted by a non-cash impairment charge related to the real estate assets of ALLETE Properties, the recognition of profit for the construction of a wind energy facility sold to Montana-Dakota Utilities and acquisition costs related to U.S. Water Services and ALLETE Clean Energy.

Regulated Operations net income attributable to ALLETE was $135.5 million in 2016, compared to $131.6 million in 2015. Net income for 2016 increased at Minnesota Power primarily due to higher cost recovery rider revenue, production tax credits and FERC formula-based rates, as well as lower operating and maintenance expenses. These increases were partially offset by higher depreciation expense, lower industrial sales and demand revenue, and restoration costs associated with a severe storm in July 2016. Our equity earnings in ATC increased $1.3 million after-tax, or $0.03 per share, in 2016, primarily due to additional investments in ATC and period over period changes in ATC’s estimate of a refund liability related to the MISO return on equity complaints.

ALLETE Clean Energy’s net income attributable to ALLETE was $13.4 million in 2016 compared to $29.9 million in 2015. Net income for 2015 included the recognition of profit of $20.4 million after-tax, or $0.42 per share, for the construction of a wind energy facility sold to Montana-Dakota Utilities. In 2015, net income also included $1.8 million after-tax expense, or $0.04 per share, in acquisition costs related to the Chanarambie/Viking and Armenia Mountain wind energy facilities. Net income in 2016 included a $3.3 million after-tax, or $0.07 per share, goodwill impairment charge and a $0.9 million after-tax expense, or $0.02 per share, related to the repayment of long-term debt. Earnings in 2016 earnings were positively impacted by income generated from the operations of wind energy facilities acquired in April and July 2015.

U.S. Water Services net income attributable to ALLETE was $1.5 million in 2016, compared to $0.9 million for the period from February 10, 2015, through December 31, 2015. Net income for 2015 included an additional $1.9 million of after-tax expense, or $0.04 per share, recognized as cost of sales related to purchase accounting for inventories and sales backlog. Net income for 2016 reflects increased investments in back office systems and support at U.S. Water Services as we create a platform for future growth.

Corporate and Other net income attributable to ALLETE was $4.9 million in 2016, compared to a net loss of $21.3 million in 2015. Net income in 2016 included an after-tax gain of $13.6 million, or $0.28 per share, related to the change in fair value of the U.S. Water Services contingent consideration liability. Net income in 2016 also included an $8.8 million after-tax, or $0.18 per share, impact of an adverse November 2016 MPUC order on the allocation of North Dakota investment tax credits. (See Note 4. Regulatory Matters.) In 2015, the net loss included a $22.3 million after-tax, or $0.46 per share, non-cash impairment charge relating to the real estate assets of ALLETE Properties and $3.0 million after-tax expense, or $0.06 per share, in acquisition costs related to U.S. Water Services.

2016 Compared to 2015

(See Note 17. Business Segments for financial results by segment.)

Regulated Operations



Year Ended December 31	2016			2015
Millions
Operating Revenue		$1,000.7			$991.2
Fuel and Purchased Power	332.9			328.1
Transmission Services	65.2			54.1
Cost of Sales	7.0			7.9
Operating and Maintenance	220.7			229.6
Depreciation and Amortization	154.3			135.1
Taxes Other than Income Taxes	47.7			46.2
Operating Income	172.9			190.2
Interest Expense	(52.1		)	(53.9		)
Equity Earnings in ATC	18.5			16.3
Other Income	2.1			3.4
Income Before Income Taxes	141.4			156.0
Income Tax Expense	5.9			24.4
Net Income Attributable to ALLETE	$135.5				$131.6

ALLETE, Inc. 2016 Form 10-K

2016 Compared to 2015 (Continued)

Regulated Operations (Continued)

Operating Revenue increased $9.5 million, or 1 percent, from 2015 primarily due to higher transmission revenue, cost recovery rider revenue, pricing on PSAs with Other Power Suppliers and FERC formula-based rates, partially offset by the impact of an adverse November 2016 MPUC order on the allocation of North Dakota investment tax credits as well as lower conservation improvement program recoveries.

Transmission revenue increased $9.7 million primarily due to period over period changes in our estimate of a refund liability related to MISO return on equity complaints and higher MISO-related revenue. (See Operating Expenses - Transmission Services.)

Cost recovery rider revenue increased $7.5 million primarily due to the completion of the Boswell Unit 4 environmental upgrade in the fourth quarter of 2015.

Despite lower kWh sales, revenue increased $4.9 million from 2015 primarily due to higher pricing on PSAs with Other Power Suppliers in 2016. Sales to Other Power Suppliers are sold at market-based prices into the MISO market on a daily basis or through bilateral agreements of various durations. Sales to industrial customers decreased 2.7 percent primarily due to reduced taconite production. In addition, demand revenue from industrial customers was down in 2016 as a result of lower demand nominations.



Kilowatt-hours Sold	2016	2015	Quantity Variance		% Variance
Millions
Regulated Utility
Retail and Municipal
Residential	1,102	1,113	(11	)	(1.0	)
Commercial	1,442	1,462	(20	)	(1.4	)
Industrial	6,456	6,635	(179	)	(2.7	)
Municipal	816	833	(17	)	(2.0	)
Total Retail and Municipal	9,816	10,043	(227	)	(2.3	)
Other Power Suppliers	4,316	4,310	6		0.1
Total Regulated Utility Kilowatt-hours Sold	14,132	14,353	(221	)	(1.5	)

Revenue from electric sales to taconite/iron concentrate customers accounted for 18 percent of consolidated operating revenue in 2016 (17 percent in 2015). Revenue from electric sales to paper, pulp and secondary wood product customers accounted for 6 percent of consolidated operating revenue in 2016 (6 percent in 2015). Revenue from electric sales to pipelines and other industrial customers accounted for 7 percent of consolidated operating revenue in 2016 (6 percent in 2015).

Revenue from wholesale customers under FERC formula-based rates increased $3.8 million primarily due to additional environmental and other investments.

Revenue decreased $15.0 million due to the impact of an adverse November 2016 MPUC order on the allocation of North Dakota investment tax credits. (See Note 4. Regulatory Matters.)

Conservation improvement program recoveries decreased $4.1 million from 2015 primarily due to a reduction in related expenditures. (See Operating Expenses - Operating and Maintenance Expense.)

Operating Expenses increased $26.8 million, or 3 percent, from 2015.

Fuel and Purchased Power expense increased $4.8 million, or 1 percent, from 2015 primarily due to higher fuel and purchased power prices in 2016 compared to 2015, partially offset by lower kWh sales in 2016. Fuel and purchased power expense related to retail and municipal customers is recovered through the fuel adjustment clause.

Transmission Services expense increased $11.1 million, or 21 percent, from 2015 primarily due to higher MISO-related expense and period over period changes in our estimate of a refund for MISO transmission expense related to MISO return on equity complaints. (See Operating Revenue and Note 4. Regulatory Matters.)

ALLETE, Inc. 2016 Form 10-K

2016 Compared to 2015 (Continued)

Regulated Operations (Continued)

Operating and Maintenance expense decreased $8.9 million, or 4 percent, from 2015, primarily due to lower pension and other postretirement benefit expenses (see Note. 15 Pension and Other Postretirement Benefit Plans), a $3.6 million sales tax refund received in 2016 and a $4.1 million decrease in conservation improvement program expenses. Conservation improvement program expenses are recovered from certain retail customers. (See Operating Revenue.) Operating and Maintenance expense included higher storm restoration costs of approximately $3 million related to the severe wind storms across Minnesota Power’s service territory in July 2016.

Depreciation and Amortization expense increased $19.2 million, or 14 percent, from 2015 primarily due to additional property, plant and equipment in service.

Taxes Other than Income Taxes increased $1.5 million, or 3 percent, from 2015 primarily due to higher property tax expenses resulting from higher taxable plant.

Interest Expense decreased $1.8 million, or 3 percent, from 2015 primarily due to lower average interest rates. We record interest expense for Regulated Operations based on Minnesota Power’s rate base and authorized capital structure, and allocate the balance to Corporate and Other.

Equity Earnings in ATC increased $2.2 million, or 13 percent, from 2015 primarily due to additional investments in ATC and period over period changes in ATC’s estimate of a refund liability related to MISO return on equity complaints.

Other Income decreased $1.3 million, or 38 percent, from 2015 primarily due to lower AFUDC–Equity.

Income Tax Expense decreased $18.5 million, or 76 percent, from 2015 due to lower pre-tax income, higher production tax credits and the impact of accounting for an adverse November 2016 MPUC order on the allocation of prior period North Dakota investment tax credits. (See Note 4. Regulatory Matters.) As a result of this outcome, our Regulated Operations reduced operating revenue and recorded a corresponding regulatory liability for $15.0 million in 2016. In addition, our Regulated Operations recorded a tax benefit of $8.8 million and Corporate and Other recorded a corresponding $8.8 million tax expense.

ALLETE Clean Energy

Operating Revenue decreased $181.6 million from 2015. Operating revenue in 2015 included the recognition of $197.7 million in revenue for the construction of a wind energy facility sold to Montana-Dakota Utilities in 2015. Operating revenue in 2016 was positively impacted by additional revenue generated from the operations of wind energy facilities acquired in April and July 2015.



	Year Ended December 31,
	2016			2015
Production and Operating Revenue	kWh	Revenue		kWh	Revenue
Millions
Wind Energy Facility
Lake Benton	254.7		$12.8	265.1		$13.5
Storm Lake II	154.8	10.1		186.4	11.7
Condon	96.9	8.2		84.1	7.8
Storm Lake I	222.3	11.6		230.7	12.1
Chanarambie/Viking	278.8	13.4		199.1	9.8
Armenia Mountain	268.2	24.4		111.6	9.5
Total Wind Energy Facilities	1,275.7	80.5		1,077.0	64.4
Development Fee (a)	—	—		—	197.7
Total Production and Operating Revenue	1,275.7	$80.5		1,077.0		$262.1

(a) 2015 included the recognition of $162.9 million of cost of sales.

ALLETE, Inc. 2016 Form 10-K

2016 Compared to 2015 (Continued)

ALLETE Clean Energy (Continued)

Net Income Attributable to ALLETE decreased $16.5 million from 2015. Net income for 2015 included the recognition of profit of $20.4 million after-tax for the construction of a wind energy facility sold to Montana-Dakota Utilities. In 2015, net income also included $1.8 million after-tax expense in acquisition costs related to the Chanarambie/Viking and Armenia Mountain wind energy facilities. Net income in 2016 included a $3.3 million after-tax non-cash goodwill impairment charge (see Note 1. Operations and Significant Accounting Policies) and a $0.9 million after-tax expense related to the repayment of long-term debt. Earnings in 2016 were positively impacted by income generated from the operations of wind energy facilities acquired in April and July 2015.

U.S. Water Services



	Year Ended		Period February 10, 2015
	December 31, 2016		Through December 31, 2015
Millions
Operating Revenue		$137.5		$119.8
Net Income Attributable to ALLETE	$1.5			$0.9

Operating Revenue increased $17.7 million in 2016 compared to the period from February 10, 2015, to December 31, 2015. The results for 2015 reflect operations from the date of acquisition, February 10, 2015, through December 31, 2015, and therefore, do not reflect a full year. Revenue from chemical sales and related services, which includes recurring revenue contracts for the delivery and service of chemicals, was $110.5 million in 2016 compared to $92.5 million in 2015. Revenue from equipment and related services, which includes sales of water treatment equipment, was $27.0 million in 2016 compared to $27.3 million in 2015; equipment sales can fluctuate from period to period. U.S. Water Services strives to provide a full‑service product offering to customers including equipment, chemicals, engineering and service.

Net Income Attributable to ALLETE increased $0.6 million in 2016 compared to the period from February 10, 2015, to December 31, 2015. The results for 2015 reflect operations from the date of acquisition, February 10, 2015, through December 31, 2015, and therefore do not reflect a full year. Net income in 2015 included an additional $1.9 million of after‑tax expense recognized as cost of sales related to purchase accounting for inventories and sales backlog which have been fully recognized as of December 31, 2016. Earnings in 2016 reflected increased investments in back office systems and support at U.S. Water Services as we create a platform for future growth.

Corporate and Other

Operating Revenue increased $7.7 million, or 7 percent, from 2015 primarily due to an increase in land sales at ALLETE Properties, which sold its Ormond Crossings project and Lake Swamp wetland mitigation bank in 2016. The increase was partially offset by a decrease in revenue at BNI Energy, which operates under cost-plus fixed fee contracts, as a result of lower expenses and fewer tons sold in 2016 compared to 2015.

Net Income Attributable to ALLETE increased $26.2 million from 2015. Net income in 2016 included an after-tax gain of $13.6 million related to the change in fair value of the U.S. Water Services contingent consideration liability and increased land sales at ALLETE Properties, partially offset by the $8.8 million after-tax impact of an adverse November 2016 MPUC order on the allocation of North Dakota investment tax credits. (Regulated Operations - Income Tax Expense.) In 2015, the net loss included a $22.3 million after-tax non-cash impairment charge relating to the real estate assets of ALLETE Properties and $3.0 million after-tax expense in acquisition costs related to U.S. Water Services. Net income at BNI Energy increased to $6.8 million in 2016 compared to $6.7 million in 2015, and net income at ALLETE Properties increased to $0.7 million in 2016 compared to a net loss of $23.3 million in 2015.

Income Taxes – Consolidated

For the year ended December 31, 2016, the effective tax rate was 11.3 percent (15.2 percent for the year ended December 31, 2015). The decrease from the year ended December 31, 2015, was primarily due to increased production tax credits in 2016 related to additional wind energy generation. The effective rate deviated from the combined statutory rate of approximately 41 percent primarily due to production tax credits. (See Note 13. Income Tax Expense.)

ALLETE, Inc. 2016 Form 10-K

2015 Compared to 2014

(See Note 17. Business Segments for financial results by segment.)

Regulated Operations



Year Ended December 31	2015			2014
Millions
Operating Revenue		$991.2			$1,003.5
Fuel and Purchased Power	328.1			356.1
Transmission Services	54.1			45.6
Cost of Sales	7.9			17.3
Operating and Maintenance	229.6			240.8
Depreciation and Amortization	135.1			118.0
Taxes Other than Income Taxes	46.2			41.9
Operating Income	190.2			183.8
Interest Expense	(53.9		)	(49.2		)
Equity Earnings in ATC	16.3			19.6
Other Income	3.4			7.8
Income Before Income Taxes	156.0			162.0
Income Tax Expense	24.4			39.0
Net Income Attributable to ALLETE	$131.6			$123.0

Operating Revenue decreased $12.3 million, or 1 percent, from 2014 primarily due to lower fuel adjustment clause recoveries, gas sales, and financial incentives under the Minnesota Conservation Improvement Program, partially offset by higher cost recovery rider revenue, kWh sales, FERC formula based rates and transmission revenue.

Fuel adjustment clause recoveries decreased $37.1 million due to lower fuel and purchased power costs attributable to retail and municipal customers. (See Operating Expenses - Fuel and Purchased Power Expense.)

Gas sales at SWL&P decreased $11.0 million from 2014 primarily as a result of unseasonably cold weather during the first half of 2014 and a warmer than average 2015. (See Cost of Sales.)

Financial incentives under the Minnesota Conservation Improvement Program decreased $2.5 million from 2014 as a result of annual limits placed on recoveries beginning in 2015.

Cost recovery rider revenue increased $17.8 million primarily due to the completion of Bison and CapX2020 projects as well as higher capital expenditures related to the Boswell Unit 4 environmental upgrade.

Revenue increased $14.7 million due to a 3.1 percent increase in kWh sales. Sales to Other Power Suppliers are sold at market-based prices into the MISO market on a daily basis or through bilateral agreements of various durations, and increased 48.4 percent in 2015 compared to 2014 primarily due to the commencement of the Minnkota Power PSA in June 2014. (See Note 11. Commitments, Guarantees and Contingencies.) Sales to residential and municipal customers were impacted by unseasonably cold temperatures in 2014 and warmer than average temperatures in 2015. Heating degree days in Duluth, Minnesota, were approximately 16 percent lower in 2015 compared to 2014. Sales to industrial customers decreased 11.4 percent primarily due to reduced taconite production.

ALLETE, Inc. 2016 Form 10-K

2015 Compared to 2014 (Continued)

Regulated Operations (Continued)



Kilowatt-hours Sold	2015	2014	Quantity Variance		% Variance
Millions
Regulated Utility
Retail and Municipal
Residential	1,113	1,204	(91	)	(7.6	)
Commercial	1,462	1,468	(6	)	(0.4	)
Industrial	6,635	7,487	(852	)	(11.4	)
Municipal	833	864	(31	)	(3.6	)
Total Retail and Municipal	10,043	11,023	(980	)	(8.9	)
Other Power Suppliers	4,310	2,904	1,406		48.4
Total Regulated Utility Kilowatt-hours Sold	14,353	13,927	426		3.1

Revenue from electric sales to taconite and iron concentrate customers accounted for 17 percent of consolidated operating revenue in 2015 (25 percent in 2014). Revenue from electric sales to paper, pulp and secondary wood product customers accounted for 6 percent of consolidated operating revenue in 2015 (8 percent in 2014). Revenue from electric sales to pipelines and other industrial customers accounted for 6 percent of consolidated operating revenue in 2015 (7 percent in 2014).

Revenue to wholesale customers under FERC formula based rates increased $6.9 million primarily due to additional renewable, environmental and other investments.

Transmission revenue increased $2.7 million primarily due to higher MISO-related revenue, which was partially offset by an estimated refund for MISO transmission revenue due to the MISO return on equity complaints. (See Operating Expenses - Transmission Services and Note 4. Regulatory Matters.)

Operating Expenses decreased $18.7 million, or 2 percent, from 2014.

Fuel and Purchased Power expense decreased $28.0 million, or 8 percent, from 2014 primarily due to lower purchased power and fuel prices in 2015 compared to 2014, partially offset by higher kWh sales in 2015. Fuel and purchased power expense related to retail and municipal customers is recovered through the fuel adjustment clause. (See Operating Revenue.)

Transmission Services expense increased $8.5 million, or 19 percent, from 2014 primarily due to higher MISO-related expense, which was partially offset by an estimated refund for MISO transmission expense due to the MISO return on equity complaints. (See Operating Revenue and Note 4. Regulatory Matters.)

Cost of Sales decreased $9.4 million, or 54 percent, from 2014 due to lower purchased gas at SWL&P. (See Operating Revenue.)

Operating and Maintenance expense decreased $11.2 million, or 5 percent, from 2014, due to cost reduction efforts and the absence of a $4.2 million expense that was recorded in 2014 to reflect a liability associated with environmental mitigation projects required as part of an EPA notice of violation Consent Decree settlement. Cost reduction efforts resulted in lower wage, vehicle fleet and miscellaneous employee expenses. These reductions were partially offset by increased expense for the operation and maintenance of the 205 MW addition at Bison that went into service in December 2014.

Depreciation and Amortization expense increased $17.1 million, or 14 percent, from 2014 primarily due to additional property, plant and equipment in service.

Taxes Other than Income Taxes increased $4.3 million, or 10 percent, from 2014 primarily due to higher property tax expenses resulting from higher taxable plant and rates.

Interest Expense increased $4.7 million, or 10 percent, from 2014 primarily due to higher average long-term debt balances.

ALLETE, Inc. 2016 Form 10-K

2015 Compared to 2014 (Continued)

Regulated Operations (Continued)

Equity Earnings in ATC decreased $3.3 million, or 17 percent, from 2014 primarily due to a $5.2 million expense related to the MISO return on equity complaints, of which $2.4 million was attributable to ATC’s change in estimate of a refund liability relating to prior years. (See Note 5. Investment in ATC.)

Other Income decreased $4.4 million, or 56 percent, from 2014 primarily due to lower AFUDC–Equity.

Income Tax Expense decreased $14.6 million, or 37 percent, from 2014 primarily due to increased production tax credits as a result of the 205 MW addition to Bison in December 2014.

ALLETE Clean Energy

Operating Revenue increased $228.9 million from 2014 primarily due to the recognition of $197.7 million of revenue from the construction and sale of a wind energy facility to Montana-Dakota Utilities. The acquisitions of Storm Lake I in December 2014, Chanarambie/Viking in April 2015 and Armenia Mountain in July 2015 also contributed to the increase in revenue in 2015 compared to 2014.



	Year Ended December 31,
	2015			2014
Production and Operating Revenue	kWh	Revenue		kWh	Revenue
Millions
Wind Energy Facility
Lake Benton	265.1		$13.5	264.7		$13.4
Storm Lake II	186.4	11.7		169.4	11.1
Condon	84.1	7.8		91.5	8.2
Storm Lake I	230.7	12.1		9.0	0.5
Chanarambie/Viking	199.1	9.8		—	—
Armenia Mountain	111.6	9.5		—	—
Total Wind Energy Facilities	1,077.0	64.4		534.6	33.2
Development Fee (a)	—	197.7		—	—
Total Production and Operating Revenue	1,077.0	$262.1		534.6		$33.2

(a) 2015 included the recognition of $162.9 million of cost of sales.

Net Income Attributable to ALLETE increased $26.6 million from 2014. Net income in 2015 included $20.4 million after‑tax due to the profit from the construction and sale of a wind energy facility to Montana-Dakota Utilities, and $6.9 million related to income generated from the full year of operations of Storm Lake I and the additions of Chanarambie/Viking and Armenia Mountain. Net income in 2015 included $1.8 million after-tax expense in acquisition costs related to the acquisitions of the Chanarambie/Viking and Armenia Mountain wind energy facilities. Net income in 2014 included a $1.4 million after-tax expense in acquisition costs related to the January 2014 acquisition.

ALLETE, Inc. 2016 Form 10-K

2015 Compared to 2014 (Continued)

U.S. Water Services



For the Period February 10, 2015 through December 31	2015
Millions
Operating Revenue		$119.8
Net Income Attributable to ALLETE	$0.9

Operating Revenue was $119.8 million for the period February 10, 2015, through December 31, 2015. Revenue from chemical and related services, which includes recurring revenue contracts for the delivery and service of chemicals, amounted to $92.5 million for the period February 10, 2015, through December 31, 2015. Revenue from equipment and related services, which includes sales of water treatment equipment, amounted to $27.3 million for the period February 10, 2015, through December 31, 2015. U.S. Water Services strives to provide a full-service product offering to customers including equipment, chemicals, engineering and service.

Net Income Attributable to ALLETE was $0.9 million for the period February 10, 2015, through December 31, 2015. Net income included $2.2 million of after-tax expense related to purchase accounting for inventories and sales backlog; the total impact was $2.5 million after-tax, with the remainder recognized in 2016.

Corporate and Other

Operating Revenue increased $13.2 million, or 13 percent, from 2014 primarily due to an increase in revenue at BNI Energy, which operates under cost-plus fixed fee contracts, as a result of higher expenses and increased coal delivered in 2015. Increased sales at ALLETE Properties also contributed to the increase.

Net Income Attributable to ALLETE decreased $19.8 million from 2014 primarily due to a $22.3 million after-tax non-cash impairment charge relating to the real estate assets of ALLETE Properties. (See Note 1. Operations and Significant Accounting Policies.) Also contributing to the decrease was a $3.0 million after-tax expense for acquisition costs related to the acquisition of U.S. Water Services. In 2015, results reflected slightly higher net income at BNI Energy.

Income Taxes – Consolidated

For the year ended December 31, 2015, the effective tax rate was 15.2 percent (22.6 percent for the year ended December 31, 2014). The decrease from the year ended December 31, 2014, was primarily due to increased production tax credits in 2015 related to additional wind energy generation. The effective tax rate deviated from the statutory rate of approximately 41 percent primarily due to production tax credits and the deduction for AFUDC–Equity. (See Note 13. Income Tax Expense.)

Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with GAAP requires management to make various estimates and assumptions that affect amounts reported in the Consolidated Financial Statements. These estimates and assumptions may be revised, which may have a material effect on the Consolidated Financial Statements. Actual results may differ from these estimates and assumptions. These policies are discussed with the Audit Committee of our Board of Directors on a regular basis. We believe the following policies are most critical to our business and the understanding of our results of operations.

Regulatory Accounting. Our regulated utility operations are accounted for in accordance with the accounting standards for the effects of certain types of regulation. These standards require us to reflect the effect of regulatory decisions in our financial statements. Regulatory assets represent incurred costs that have been deferred as they are probable for recovery in customer rates. Regulatory liabilities represent obligations to make refunds to customers and amounts collected in rates for which the related costs have not yet been incurred. The Company assesses quarterly whether regulatory assets and liabilities meet the criteria for probability of future recovery or deferral. This assessment considers factors such as, but not limited to, changes in the regulatory environment and recent rate orders to other regulated entities under the same jurisdiction. If future recovery or refund of costs becomes no longer probable, the assets and liabilities would be recognized in current period net income or other comprehensive income. (See Note 4. Regulatory Matters.)

ALLETE, Inc. 2016 Form 10-K

Critical Accounting Policies (Continued)

Pension and Postretirement Health and Life Actuarial Assumptions. We account for our pension and other postretirement benefit obligations in accordance with the accounting standards for defined benefit pension and other postretirement plans. These standards require the use of several important assumptions, including the expected long-term rate of return on plan assets, the discount rate and mortality assumptions, among others, in determining our obligations and the annual cost of our pension and other postretirement benefits. In establishing the expected long-term rate of return on plan assets, we determine the long-term historical performance of each asset class, adjust these for current economic conditions and, utilizing the target allocation of our plan assets, forecast the expected long-term rate of return. Our pension asset allocation as of December 31, 2016, was approximately 49 percent equity securities, 39 percent debt, 7 percent private equity and 5 percent real estate. Our postretirement health and life asset allocation as of December 31, 2016, was approximately 60 percent equity securities, 34 percent debt and 6 percent private equity. Equity securities consist of a mix of market capitalization sizes with domestic and international securities. In 2016, we used expected long-term rates of return of 8.00 percent in our actuarial determination of our pension expense and 6.40 percent to 8.00 percent in our actuarial determination of our other postretirement expense. The actuarial determination uses an asset smoothing methodology for actual returns to reduce the volatility of varying investment performance over time. We review our expected long-term rate of return assumption annually and will adjust it to respond to changing market conditions. As a result, we reduced our expected long-term rates of return for 2017 to 7.50 percent in our actuarial determination of our pension expense and 6.00 percent to 7.50 percent in our actuarial determination of our other postretirement expense. A one-quarter percent decrease in the expected long‑term rate of return would increase the annual expense for pension and other postretirement benefits by approximately $1.7 million, pre-tax.

The discount rate is computed using a bond matching study which utilizes a portfolio of high quality bonds that produce cash flows similar to the projected costs of our pension and other postretirement plans. In 2016, we used discount rates of 4.72 percent and 4.73 percent in our actuarial determination of our pension and other postretirement expense, respectively. We review our discount rates annually and will adjust them to respond to changing market conditions. A one-quarter percent decrease in the discount rate would increase the annual expense for pension and other postretirement benefits by approximately $1.2 million, pre-tax.

The mortality assumptions used to calculate our pension and other postretirement benefit obligations as of December 31, 2016, considered a modified RP-2014 mortality table and mortality projection scale. (See Note 15. Pension and Other Postretirement Benefit Plans.)

Impairment of Long-Lived Assets. We review our long-lived assets, which include the legacy real estate assets of ALLETE Properties, for indicators of impairment in accordance with the accounting standards for property, plant and equipment on a quarterly basis.

In accordance with the accounting standards for property, plant and equipment, if indicators of impairment exist, we test our long‑lived assets for recoverability by comparing the carrying amount of the asset to the undiscounted future net cash flows expected to be generated by the asset. Cash flows are assessed at the lowest level of identifiable cash flows. The undiscounted future net cash flows are impacted by trends and factors known to us at the time they are calculated and our expectations related to: management’s best estimate of future sales prices; holding period and timing of sales; method of disposition; and future expenditures necessary to maintain the operations.

Real Estate Assets. In recent years, market conditions for real estate in Florida have required us to review our land inventories for impairment. In 2015, the Company reevaluated its strategy related to the real estate assets of ALLETE Properties in response to market conditions and transaction activity. The revised strategy incorporated the possibility of a bulk sale of its entire portfolio which, if consummated, would likely result in sales proceeds below the book value of the real estate assets. Proceeds from such a sale would be strategically deployed to support growth in our energy infrastructure and related services businesses. ALLETE Properties also continues to pursue sales of individual parcels over time. ALLETE Properties will continue to maintain key entitlements and infrastructure without making additional investments or acquisitions.

ALLETE, Inc. 2016 Form 10-K

Critical Accounting Policies (Continued)

Impairment of Long-Lived Assets (Continued)

Taxation. We are required to make judgments regarding the potential tax effects of various financial transactions and our ongoing operations to estimate our obligations to taxing authorities. These tax obligations include income, real estate and sales/use taxes. Judgments related to income taxes require the recognition in our financial statements of the largest tax benefit of a tax position that is “more-likely-than-not” to be sustained on audit. Tax positions that do not meet the “more-likely-than-not” criteria are reflected as a tax liability in accordance with the accounting standards for uncertainty in income taxes. We record a valuation allowance against our deferred tax assets to the extent it is more-likely-than-not that some portion or all of the deferred tax assets will not be realized.

We are subject to income taxes in various jurisdictions. We make assumptions and judgments each reporting period to estimate our income tax assets, liabilities, benefits, and expenses. Judgments and assumptions are supported by historical data and reasonable projections. Our assumptions and judgments include the application of tax statutes and regulations, and projections of future federal taxable income, state taxable income, and state apportionment to determine our ability to utilize NOL and credit carryforwards prior to their expiration. Significant changes in assumptions regarding future federal and state taxable income or a change in tax rates could require new or increased valuation allowances which could result in a material impact on our results of operations.

Valuation of Goodwill and Intangible Assets. When we acquire a business, the assets acquired and liabilities assumed are recorded at their respective fair values as of the acquisition date. Determining the fair value of intangible assets acquired as part of a business combination requires us to make significant estimates. These estimates include the amount and timing of projected future cash flows, the discount rate used to discount those cash flows to present value, the assessment of the asset’s life cycle, and the consideration of legal, technical, regulatory, economic and competitive risks. The fair value assigned to intangible assets is determined by estimating the future cash flows of each project and discounting the net cash flows back to their present values. The discount rate used is determined at the time of measurement in accordance with accepted valuation standards.

Goodwill. Goodwill is the excess of the purchase price (consideration transferred) over the estimated fair value of net assets of acquired businesses. In accordance with GAAP, goodwill is not amortized. The Company assesses whether there has been an impairment of goodwill annually in the fourth quarter and whenever an event occurs or circumstances change that would indicate the carrying amount may be impaired. Impairment testing for goodwill is done at the reporting unit level. An impairment loss is recognized when the carrying amount of the reporting unit’s net assets exceeds the estimated fair value of the reporting unit. The test for impairment requires us to make several estimates about fair value, most of which are based on projected future cash flows. Our estimates associated with the goodwill impairment test are considered critical due to the amount of goodwill recorded on our Consolidated Balance Sheet and the judgment required in determining fair value, including projected future cash flows. The results of our annual impairment test are discussed in Note 1. Operations and Significant Accounting Policies and Note 9. Fair Value in this Form 10-K. Goodwill was $131.2 million and $130.6 million as of December 31, 2016, and December 31, 2015, respectively.

Intangible Assets. Intangible assets include customer relationships, patents, non-compete agreements and trademarks and trade names. Intangible assets with definite lives consist of customer relationships, patents, and non-compete agreements, which are amortized on a straight-line or accelerated basis with estimated useful lives ranging from approximately 2 years to approximately 21 years. We review definite-lived intangible assets for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. Indefinite-lived intangible assets consist of trademarks and trade names, which are tested for impairment annually in the fourth quarter and whenever an event occurs or circumstances change that would indicate that the carrying amount may be impaired. Impairment is calculated as the excess of the asset’s carrying amount over its fair value. Our impairment reviews are based on an estimated future cash flow approach that requires significant judgment with respect to future revenue and expense growth rates, selection of an appropriate discount rate, and other assumptions and estimates. We use estimates that are consistent with our business plans and a market participant view of the assets being evaluated. The results of our annual impairment test are discussed in Note 9. Fair Value in this Form 10-K. Intangible assets, net of accumulated amortization, were $82.2 million and $84.6 million as of December 31, 2016, and December 31, 2015, respectively.

ALLETE, Inc. 2016 Form 10-K

Outlook

ALLETE is an energy company committed to earning a financial return that rewards our shareholders, allows for reinvestment in our businesses and sustains growth. The Company has long-term objectives of achieving average annual earnings per share growth of a minimum of five percent and providing a dividend payout competitive with our industry.

ALLETE is predominately a regulated utility through Minnesota Power, SWL&P and an investment in ATC. ALLETE’s strategy is to remain predominately a regulated utility while investing in its Energy Infrastructure and Related Services businesses to complement its regulated businesses, balance exposure to the utility’s industrial customers, and provide potential long-term earnings growth. ALLETE expects net income from Regulated Operations to be approximately 85 percent to 90 percent of total consolidated net income in 2017. Over the next several years, the contribution of the Energy Infrastructure and Related Services businesses to net income is expected to increase as ALLETE grows these operations. ALLETE expects its businesses to provide regulated, contracted or recurring revenues, and to support sustained growth in net income and cash flow.

Regulated Operations. Minnesota Power’s long-term strategy is to be the leading electric energy provider in northeastern Minnesota by providing safe, reliable and cost-competitive electric energy, while complying with environmental permit conditions and renewable energy requirements. Keeping the cost of energy production competitive enables Minnesota Power to effectively compete in the wholesale power markets and minimizes retail rate increases to help maintain customer viability. As part of maintaining cost competitiveness, Minnesota Power intends to reduce its exposure to possible future carbon and GHG legislation by reshaping its generation portfolio, over time, to reduce its reliance on coal. (See EnergyForward.) We will monitor and review proposed environmental regulations and may challenge those that add considerable cost with limited environmental benefit. Minnesota Power will continue to pursue customer growth opportunities and cost recovery rider approval for environmental, renewable and transmission investments, as well as work with regulators to earn a fair rate of return.

Regulatory Matters. Entities within our Regulated Operations segment are under the jurisdiction of the MPUC, FERC, PSCW and NDPSC. See Note 4. Regulatory Matters for discussion of regulatory matters within our Minnesota, FERC, Wisconsin and North Dakota jurisdictions.

Industrial Customers and Prospective Additional Load

Industrial Customers. Electric power is one of several key inputs in the taconite mining, iron concentrate, paper, pulp and secondary wood products, pipeline and other industries. Approximately 45 percent of our regulated utility kWh sales in 2016 (46 percent in 2015) were made to our industrial customers in these industries. We expect industrial sales of approximately 7.0 million to 7.5 million MWh in 2017 (6.5 million MWh in 2016; 6.6 million MWh in 2015).

ALLETE, Inc. 2016 Form 10-K

Outlook (Continued)

Industrial Customers and Prospective Additional Load (Continued)

Taconite and Iron Concentrate. Minnesota Power provides electric service to six taconite facilities capable of producing up to approximately 41 million tons of taconite pellets annually. Taconite pellets produced in Minnesota are primarily shipped to North American steel making facilities that are part of the integrated steel industry. Steel produced from these North American facilities is used primarily in the manufacture of automobiles, appliances, pipe and tube products for the gas and oil industry, and in the construction industry. Historically, less than five percent of Minnesota taconite production is exported outside of North America. Minnesota Power also provides electric service to three iron concentrate facilities capable of producing up to approximately 4 million tons of iron concentrate per year. Iron concentrate is used in the production of taconite pellets. These iron concentrate facilities are owned in whole, or in part, by Magnetation and are not currently operating. (See Magnetation.)

There has been a general historical correlation between U.S. steel production and Minnesota taconite production. The American Iron and Steel Institute, an association of North American steel producers, reported that U.S. raw steel production operated at approximately 71 percent of capacity in 2016 (71 percent in 2015 and 77 percent in 2014). Many steel producers reduced production in 2015, citing higher levels of imports and lower prices. Some Minnesota taconite and iron concentrate producers reduced production in 2015 in response to declining U.S. steel production. There is a natural lag between U.S. steel consumption and Minnesota taconite production. The high level of imports and lower prices in 2015 continued to impact Minnesota taconite production with an estimated 28 million tons of taconite produced by Minnesota Power’s taconite customers during 2016 (31 million tons in 2015; 39 million tons in 2014). In 2015, petitions regarding unfairly traded cold-rolled, hot-rolled and corrosion-resistant steel products were filed by domestic steel producers with the U.S. Department of Commerce and the U.S. International Trade Commission resulting in countervailing duty and antidumping investigations. In 2016, the U.S. Department of Commerce and the U.S. International Trade Commission made final affirmative determinations concluding the investigations. As a result of the affirmative determinations, cash deposits are collected on these products when imported from certain countries. According to the U.S. Census Bureau, 2016 annual imports for consumption of steel products were down approximately 15 percent compared to 2015 annual imports. The World Steel Association, an association of over 160 steel producers, national and regional steel industry associations, and steel research institutes representing approximately 85 percent of world steel production, projected U.S. steel consumption in 2017 will increase by approximately 3 percent compared to 2016.

USS Corporation. In the second quarter of 2015, USS Corporation temporarily idled its Minnesota Ore Operations - Keetac plant in Keewatin, Minnesota, and a portion of its Minnesota Ore Operations - Minntac plant in Mountain Iron, Minnesota. These actions were due to high inventory levels and ongoing adjustment of its steel producing operations throughout North America. Global influences in the market, including a higher level of imports, unfairly traded products and reduced steel prices, were cited as having an impact. In the third quarter of 2015, USS Corporation returned its Minntac plant to full production. On December 29, 2016, USS Corporation announced its Keetac plant is expected to restart production in March 2017. Both facilities are Large Power Customers of Minnesota Power. USS Corporation has the capability to produce approximately 5 million tons and 15 million tons of taconite annually at its Keetac and Minntac plants, respectively. On September 30, 2016, Minnesota Power extended its electric service agreement with USS Corporation through 2021 at USS Corporation’s Minntac and Keetac plants, which was approved by the MPUC in an order dated December 29, 2016.

Magnetation. In May 2015, Magnetation announced that it had filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy Code in the U.S. Bankruptcy Court for the District of Minnesota, citing the significant decrease in global iron ore prices and its existing capital structure. In January 2016, Magnetation idled its Plant 2 facility in Bovey, Minnesota. On October 6, 2016, the bankruptcy court approved plans to idle Magnetation’s Plant 4 facility near Grand Rapids, Minnesota, and its pellet plant in Reynolds, Indiana, as well as terminate Magnetation’s pellet purchase agreement with AK Steel Corporation. The company subsequently idled the facilities and stated it was preserving the plants and their value for a potential buyer. On January 30, 2017, ERP Iron Ore, LLC purchased substantially all of Magnetation’s assets pursuant to an asset purchase agreement approved by the bankruptcy court. Although we cannot predict whether the facilities will be restarted, Minnesota Power will serve the Plant 2 and Plant 4 facilities through the buyer’s assumption of the existing electric service agreement with Magnetation.

ALLETE, Inc. 2016 Form 10-K

Outlook (Continued)

Industrial Customers and Prospective Additional Load (Continued)

United Taconite. In August 2016, Cliffs restarted operations at its United Taconite plant in Eveleth, Minnesota, which had been idled since August 2015, following the announcements of Cliffs’ 10-year supply agreement with a major steel customer and additional business contracted with another customer in June 2016. Cliffs also held a ground breaking ceremony at United Taconite in August 2016 to commence construction on its approximately $65 million project to produce a fully fluxed taconite pellet. That new product will replace a flux pellet made at Cliffs’ indefinitely idled Empire operation in Michigan. United Taconite has the capability to produce approximately 5 million tons of taconite annually. On May 23, 2016, Minnesota Power extended its electric service agreement with Cliffs for 10 years at Cliffs’ United Taconite and Babbitt facilities, which was approved by the MPUC in an order dated November 9, 2016.

Silver Bay Power. On May 23, 2016, Minnesota Power entered into multiple agreements with Cliffs and its subsidiaries. Under one of the agreements, Minnesota Power paid $31.0 million in cash as part of a long-term PSA through 2031 between Minnesota Power and Silver Bay Power. Silver Bay Power provides the majority of the electric service requirements for Northshore Mining, which has the capability to produce approximately 6 million tons of taconite annually. (See Note 11. Commitments, Guarantees and Contingencies.)

Paper, Pulp and Secondary Wood Products. In addition to serving the taconite industry, Minnesota Power serves a number of customers in the paper, pulp and secondary wood products industry. The four major paper and pulp mills we serve reported operating at, or near, full capacity in 2016, and similar levels are expected in 2017.

Prospective Additional Load. Minnesota Power is pursuing new wholesale and retail loads in and around its service territory. Currently, several companies in northeastern Minnesota continue to progress in the development of natural resource-based projects that represent long-term growth potential and load diversity for Minnesota Power. We cannot predict the outcome of these projects.

Nashwauk Public Utilities Commission. Mesabi Metallics, which changed its name from Essar Steel Minnesota LLC in December 2016, is a retail customer of the Nashwauk Public Utilities Commission, and Minnesota Power has a wholesale electric sales agreement with the Nashwauk Public Utilities Commission for electric service through at least June 2028. Mesabi Metallics also makes ongoing payments to Minnesota Power for electric transmission infrastructure costs. Mesabi Metallics filed for bankruptcy protection on July 8, 2016, under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. In its filings, Mesabi Metallics stated that it has arranged funding sources and intends to continue its project in Minnesota post-bankruptcy. Mesabi Metallics’ pre-petition debt to Minnesota Power is not material.

On September 8, 2016, the bankruptcy court approved an agreement that continued Mesabi Metallics’ obligation under its agreements with the Nashwauk Public Utilities Commission and Minnesota Power through at least March 31, 2017. This allowed Minnesota Power to draw down Mesabi Metallics’ cash deposit account to satisfy Mesabi Metallics’ commitments to Minnesota Power and the Nashwauk Public Utilities Commission in full through December 2016, and in part through March 31, 2017, at which point Mesabi Metallics will propose to reject, assume or modify the agreements with the Nashwauk Public Utilities Commission and Minnesota Power.

PolyMet. Minnesota Power has a long-term contract with PolyMet, which is planning to start a new copper-nickel and precious metal (non-ferrous) mining operation in northeastern Minnesota. In November 2015, PolyMet announced the completion of the final EIS by state and federal agencies, which was subsequently published in the Federal Register and Minnesota Environmental Quality Board Monitor. The Minnesota Department of Natural Resources (DNR) issued its Record of Decision on March 3, 2016, finding the final EIS adequate. The 30-day period allowed by law to challenge the Record of Decision passed without any legal challenges being filed. On July 11, 2016, PolyMet submitted applications for water-related permits with the State of Minnesota, and on August 24, 2016, an application for an air quality permit was submitted to the Minnesota Pollution Control Agency. On November 3, 2016, PolyMet submitted a state permit to mine application to the DNR detailing its operational plans for the mine. The final EIS also requires Records of Decision by the federal agencies, which are expected in 2017, before final action can be taken on the required federal permits to construct and operate the mining operation. On January 9, 2017, the U.S. Forest Service signed the Final Record of Decision authorizing a land exchange with PolyMet, which upon completion of title transfer will result in PolyMet obtaining surface rights to land needed to develop its mining operation. Minnesota Power could supply between 45 MW and 50 MW of load under a ten-year power supply contract that would begin upon start-up of the mining operations.

ALLETE, Inc. 2016 Form 10-K

EnergyForward. In 2013, Minnesota Power announced EnergyForward, a strategic plan for assuring reliability, protecting affordability and further improving environmental performance. The plan includes completed and planned investments in wind and hydroelectric power, the addition of natural gas as a generation fuel source, and the installation of emissions control technology. Significant elements of the EnergyForward plan include:


•	Major wind investments in North Dakota. Bison added 205 MW of capacity in 2014, bringing total capacity to 497 MW. (See Renewable Energy.)


•	The installation of emissions control technology at Boswell Unit 4 completed in December 2015 to further reduce emissions of SO₂, particulates and mercury.


•	Planning for the proposed GNTL to deliver hydroelectric power from northern Manitoba by 2020. (See Transmission.)


•	The conversion of Laskin from coal to cleaner-burning natural gas which was completed in June 2015.


•	Retirement of Taconite Harbor Unit 3, one of three coal-fired units at Taconite Harbor, which was retired in May 2015.

In July 2015, Minnesota Power announced the next steps in its EnergyForward plan, which will reduce carbon emissions, increase the use of renewable resources and add natural gas to meet customer electric service needs in a balanced, reliable and cost-effective way. Significant additional elements of the plan include:


•	Economic idling of Taconite Harbor Units 1 and 2 which occurred in September 2016 and the ceasing of coal-fired operations there in 2020.


•	Adding between 200 MW and 300 MW of cleaner and flexible natural gas-fired generation to Minnesota Power’s portfolio within the next decade.


•	Building both large and small scale solar generation.


•	Expanding the potential for additional energy efficiency savings.

Integrated Resource Plan (IRP). In September 2015, Minnesota Power filed its 2015 IRP with the MPUC which contained the next steps in its EnergyForward strategic plan, and included an analysis of a variety of existing and future energy resource alternatives and a projection of customer cost impact by class. In an order dated July 18, 2016, the MPUC approved Minnesota Power’s 2015 IRP with modifications. The order accepts Minnesota Power’s plans for Taconite Harbor, directs Minnesota Power to retire Boswell Units 1 and 2 no later than 2022, requires an analysis of generation and demand response alternatives to be filed with a natural gas resource proposal, and requires Minnesota Power to conduct request for proposals for additional wind, solar and demand response resource additions subject to further MPUC approvals. On October 19, 2016, Minnesota Power announced that Boswell Units 1 and 2 will be retired in 2018 as the latest step in its EnergyForward strategic plan. Minnesota Power’s next IRP must be filed by February 1, 2018.

Renewable Energy. Minnesota Power’s 2015 IRP includes an update on its plans and progress in meeting the Minnesota renewable energy milestones through 2025. Minnesota Power continues to execute its renewable energy strategy through key renewable projects that will ensure it meets the identified state mandate at the lowest cost for customers. Minnesota Power has exceeded the interim milestone requirements to date and expects 29 percent of its applicable retail and municipal energy sales will be supplied by renewable energy sources in 2017. (See Item 1. Business – Regulated Operations – Minnesota Legislation and EnergyForward.)

ALLETE, Inc. 2016 Form 10-K

Outlook (Continued)

EnergyForward (Continued)

Minnesota Power has approval for current cost recovery of investments and expenditures related to compliance with the Minnesota Solar Energy Standard. Currently, there is no approved customer billing rate for solar costs, but Minnesota Power expects to file its first solar factor filing in 2017 for recovery of costs related to the Camp Ripley solar project and community solar garden project.

Wind Energy. Minnesota Power’s wind energy facilities consist of Bison (497 MW) located in North Dakota, and Taconite Ridge (25 MW) located in northeastern Minnesota. Minnesota Power also has two long-term wind PPAs with an affiliate of NextEra Energy, Inc. to purchase the output from Oliver Wind I (50 MW) and Oliver Wind II (48 MW) located in North Dakota.

Minnesota Power uses the 465-mile, 250-kV DC transmission line that runs from Center, North Dakota, to Duluth, Minnesota, to transport increasing amounts of wind energy from North Dakota while gradually phasing out coal-based electricity delivered to its system over this transmission line from Square Butte’s lignite coal-fired generating unit. The DC transmission line capacity can be increased if renewable energy or transmission needs justify investments to upgrade the line.

Updated customer billing rates for the renewable cost recovery rider, which includes investments and expenditures related to Bison, were approved by the MPUC in an order dated December 21, 2016, which allows Minnesota Power to charge retail customers on a current basis for the costs of constructing certain renewable investments plus a return on the capital invested. The approval is on a provisional basis pending the outcome of Minnesota Power’s 2016 general rate case.

In an order dated November 30, 2016, the MPUC directed Minnesota Power to attribute all North Dakota investment tax credits realized from Bison to Minnesota Power regulated retail customers. As a result of the adverse regulatory outcome, Minnesota Power has created a regulatory liability, and recorded a reduction in operating revenue for $15.0 million. The North Dakota investment tax credits previously recognized as income tax credits in Corporate and Other were reversed in 2016 resulting in an $8.8 million charge to net income. On December 20, 2016, Minnesota Power submitted a request for reconsideration with the MPUC. On February 9, 2017, the MPUC decided to reconsider its November 30, 2016 order and will be requesting further comments. Minnesota Power will provide further support on its position.

Prior to the November 30, 2016, MPUC order, Minnesota Power accounted for North Dakota investment tax credits based on the long-standing regulatory precedents of stand-alone allocation methodology of accounting for income taxes. The stand-alone method provides that income taxes (and credits) are calculated as if Minnesota Power was the only entity included in ALLETE’s consolidated federal and unitary state income tax returns. Minnesota Power had recorded a regulatory liability for North Dakota investment tax credits generated by its jurisdictional activity and expected to be realized in the future. North Dakota investment tax credits attributable to ALLETE’s apportionment and income of ALLETE’s other subsidiaries were included in the ALLETE consolidated group.

Manitoba Hydro. Minnesota Power has five long-term PPAs with Manitoba Hydro. The first PPA expires in May 2020. Under this agreement, Minnesota Power is purchasing 50 MW of capacity and the energy associated with that capacity. Both the capacity price and the energy price are adjusted annually by the change in a governmental inflationary index. Under the second PPA, Minnesota Power is purchasing surplus energy through April 2022. This energy-only agreement primarily consists of surplus hydro energy on Manitoba Hydro’s system that is delivered to Minnesota Power on a non-firm basis. The pricing is based on forward market prices. Under this agreement, Minnesota Power will purchase at least one million MWh of energy over the contract term.

In 2011, Minnesota Power and Manitoba Hydro signed a third PPA. This PPA provides for Minnesota Power to purchase 250 MW of capacity and energy from Manitoba Hydro for 15 years beginning in 2020. The agreement is subject to construction of additional transmission capacity between Manitoba and the U.S., along with construction of new hydroelectric generating capacity in Manitoba. In September 2015, Manitoba Hydro submitted the final preferred route and EIS for the additional transmission capacity in Canada to the Manitoba Conservation and Water Stewardship for regulatory approval. Construction of Manitoba Hydro’s hydroelectric generation facility commenced in 2014. The capacity price is adjusted annually until 2020 by the change in a governmental inflationary index. The energy price is based on a formula that includes an annual fixed price component adjusted for the change in a governmental inflationary index and a natural gas index, as well as market prices.

ALLETE, Inc. 2016 Form 10-K

Outlook (Continued)

EnergyForward (Continued)

In 2014, Minnesota Power and Manitoba Hydro signed a fourth PPA that provides for Minnesota Power to purchase up to 133 MW of energy from Manitoba Hydro for 20 years beginning in 2020. The pricing under this PPA is based on forward market prices. The PPA is subject to the construction of the GNTL. (See Item 1. Business – Regulated Operations – Transmission and Distribution – Great Northern Transmission Line.)

In October 2015, Minnesota Power and Manitoba Hydro signed a fifth PPA that provides for Minnesota Power to purchase 50 MW of capacity at fixed prices. The PPA begins in June 2017 and expires in May 2020.

Transmission. We continue to make investments in transmission opportunities that strengthen or enhance the transmission grid or take advantage of our geographical location between sources of renewable energy and end users. These include the GNTL, investments to enhance our own transmission facilities, investments in other transmission assets (individually or in combination with others), and our investment in ATC. See also Item 1. Business – Regulated Operations.

Energy Infrastructure and Related Services.

ALLETE Clean Energy.

ALLETE Clean Energy believes the market for renewable energy in North America is robust, driven by several factors including environmental regulation, tax incentives, societal expectations and continual technology advances. State renewable portfolio standards and state or federal regulations to limit GHG emissions are examples of environmental regulation or public policy that we believe will drive renewable energy development.

ALLETE, Inc. 2016 Form 10-K

Outlook (Continued)

ALLETE Clean Energy (Continued)

ALLETE Clean Energy will manage risk by having a diverse portfolio of assets, which will include PSA expiration and geographic diversity. The current mix of PSA expiration and geographic location is as follows:



Wind Energy Facility	Location	Capacity MW	PSA MW	PSA Expiration
Armenia Mountain	Pennsylvania	100.5	100%	2024
Chanarambie/Viking	Minnesota	97.5
PSA 1			12%	2018
PSA 2