1. Risk Valuation, Management and Financial Governance Craig G. Goodman President 202-333-3288 cgoodman@energymarketers.com www.energymarketers.com NEM-NAESB Joint Industry Government Meeting July 22, 2002 Washington, DC

2. 2 Overview

3. 3 ä Who is NEM? ä Marketers of Gas and Electricity ä Marketers of Energy, Telecom, Financial-Related ä Products ä Services ä Information ä Technologies

4. 4 Overview ä NEM is: ä Regional Energy Suppliers ä National Wholesale and Retail Energy Suppliers ä Billing and Metering Service and Technology Firms ä Suppliers of Advanced Metering, and Distributed Generation Technologies ä Internet Energy Providers ä Energy-related Information Technology Providers ä Energy-related Software Developers ä Energy Brokerage Firms and Trading Platforms ä Risk Managers, Consultants and Financial Institutions

5. 5 Overview ä What are NEM’s objectives? Laws and regulations that support open markets for natural gas, electricity, and energy products, services, information and technology Laws and regulations that support open markets for natural gas, electricity, and energy products, services, information and technology Operating procedures driven by rate, tariff, and tax policies that separate competitive from monopoly services, and encourage true competition based on price, quality and value Operating procedures driven by rate, tariff, and tax policies that separate competitive from monopoly services, and encourage true competition based on price, quality and value Policies that encourage investment in new technologies, including the integration of energy, telecommunications and internet services to lower the economic costs of energy and related services Policies that encourage investment in new technologies, including the integration of energy, telecommunications and internet services to lower the economic costs of energy and related services Standards of conduct neutral to competition, ethically immutable, and protective of all participants Standards of conduct neutral to competition, ethically immutable, and protective of all participants Accounting and disclosure standards for transparent valuation of physical and financial assets; for trading and hedging practices, and risk management policies Accounting and disclosure standards for transparent valuation of physical and financial assets; for trading and hedging practices, and risk management policies

6. 6 Standard Competitive Market Design þ Important Issues and Steps Needed: þ Commercial and Financial Reliability/Stability and Liquidity- Transmission Network Services- RTO Standards, Transmission Right Allocations—Auctions—Release—Network Access Charges — Congestion Rights — Valuation þ Risk Valuation and Management- FASB 133: Mark-to-Market, Hedge Accounting, Liqidity, Transparaency and Proper Valuations þ Financial Governance, Disclosures and Compliance- CFTC, SEC, FERC - Jurisdiction accounting, compliance and reporting issues þ Standards/Best Practices/Mandates

7. 7 Government Initiatives Started or Needed Regulatory Oversight of OTC Trading and Derivatives ä CFTC--- Anti-Fraud, Anti Manipulation--California & Enron Fallout ä CFTC oversight for energy & metals derivatives (with no delivery), ä Electronic exchanges treated as formal trading exchanges, ä Require everyone who trades to keep records of the transactions ä Transparent trade reporting/Certification of Traders? ä SEC--- Disclosure &Compliance --- off-balance sheet arrangements, contractual obligations and commitments, non-exchange traded contracts, and related party transactions ä CEO/CFO liability on disclosures ä More and Quicker Disclosures. ä Better Debt vs. Equity Distinctions ä FERC---NOPR on derivatives and hedging activity reporting under report Uniform System of Accounts information. ä GAAP —FASB 133 Requires—Accounting Standards and Oversight— Accounting Rules, Compliance--- Reliance on Establishing Reliable Transparent, Liquid Marks

8. 8 NEM- Risk Valuation, Management and Financial Accountability Taskforce ä Retail, Wholesale ä Gas & Electric ä Generation ä Trading, ä Risk Management ä Telecom, ä Electronic Trading Platforms, ä Brokerage, ä Financial Services ä Accounting & Law & Consulting ä Software Development, Task Force Included Experts in: Topics Addressed:  Disclosure  Market Risk  Credit Risk  Compliance  Governance  Capital Adequacy

9. 9 Industry Initiatives Risk Valuation, Management & Financial Accountability ä NEM Risk Valuation, Management and Financial Accountability Taskforce ä Accounting and disclosure standards that promote the proper and accurate valuation of energy assets, equity securities and forward contracts, including derivatives ä NEM-EEI Master Margin and Netting Agreement ä NEM-EEI taskforce has nearly finished work on standardizing margin and netting agreements ä Avoid Future Artificial Liquidity Crisis- The lopsided collapse of Enron’s Book which caused the “so-called” run on the bank. Cross commodities/entities and enterprise wide netting is most desirable

10. 10 Energy Market Stability Framework ä NEM ‘Risk Strawman’ Framework issues: ä Proposal for industry-led management of issues critical to energy market stability and restructuring ä Draft strategies to stabilize energy markets, promote industry accountability and realign performance values ä Designs for transparency of energy market information and regulator and investor confidence ä Coordination of broad-based comment, collaborative development, vetting and implementation

11. 11 Energy Market Stability Framework ä NEM ‘Risk Strawman’ Framework Topics ä Disclosure - Qualitative and Quantitative information ä Define: Risk Exposures - Risk Management - Earnings ä Clear understanding and communication of business activities that create risk and impact return ä Market Risk ä Standardized portfolio valuation and mark-to-market methods ä Standard metrics: Value-at-Risk (VaR), RAROC, SVA, Peer Assessment ä Credit Risk ä Multi-lateral clearing and settlement – physicals and financials ä Faster settlements - M-t-M standards – integration into RTO framework

12. 12 Energy Market Stability Framework ä NEM ‘Risk Strawman’ Framework Topics ä Capital Adequacy – new quantitative measures ä Link Risks with Capital required to manage them ä Demonstrate new levels of financial stability within entities and across industry by strengthening measures of capital adequacy ä Compliance ä Establish degrees of formality for compliance with restructured Risk Management Standards ä Voluntary Attestations; Internal and Independent Audits What’s too little? What’s just enough? ä Governance ä Code of Conduct – articulate and adhere ä Trading ethics, Accounting standards, Risk oversight

13. 13 Joint Industry/Government Steering Committee Energy Markets Financial Policy Initiative Joint Industry/Government Steering Committee NEM-NAESB/CROs/EEI FocusNo.Assigned for Detailed Development 1 Illustrative Risk Valuation and Metrics 2Price Transparency 3Levels of Disclosure Capital Adequacy Compliance 4 5 Leverage not duplicate the work and competencies of existing groups (e.g. NEM, CRO’s, EEI,). Steering Committee should coordinate and combine existing efforts and integrate representatives from financial services, accounting, banking, regulation, and rating agencies. Steering Committee establishes issue priorities, schedule, vets deliverables assists with thought leadership, content development and helps to implement Energy: Traders Brokers Generators Risk Experts CROs CFOs Financial Services Banks Trading Platforms Clearing Houses Exchanges Accountants Price Recording Regulators: DOE FERC SEC CFTC Federal Reserve Justice Rating Agencies: S&P Moodys Fitch Standards Groups: FASB NYSE NASD NAESB Manufactures