Internal and Confidential to EESMay 16, Illinois Market Marc L. Ulrich

Internal and Confidential to EESMay 16, State of IL Composition Com Ed Illinois Power Ameren/CIPS CILCO Ameren/UE

Internal and Confidential to EESMay 16, Direct Access 12/97 House Bill 362, The Electric Service Customer Choice and Rate Relief Act of 1997 was enacted The HB 362 provides mandated rate cuts and customer choice for all non-residential by January 2001 and for residential by May 2002 Competitive Transition Charges (CTC) are allowed to be recovered by utilities until December 2006 HB 362 has a clause that states that it can be completely dissolved anytime if market is not significantly competitive (very vague) Switching as of December 2000: –About 12% of ComEds eligible customers representing 50% of their load switched suppliers –Illinois Power had about 6.9% customer switching –AmerenCIPS had about 6.8% customer switching

Internal and Confidential to EESMay 16, Direct Access Retail Access Implemented: –10/1/99 33% of C & I customers through lottery system –6/1/00 All manufacturing –1/1/01 All C & I –1/1/02 All residential All non-residential customers have direct access. These customers can choose one of three options… –Benchmark Bundled Rate (BBR) - bundled tariff –Power Purchase Option (PPO) - unbundled, discounted –Alternative Retail Electric Supplier (ARES) To choose either of the last two the customer must be on a delivery service rate (ComEd = RCDS 24 mo. initial term, 12 mo. Renewals)

Internal and Confidential to EESMay 16, Rate Components Residual CTC means the CTC rate depends on the value of other components, mainly the market value (MV) of generation (a.k.a. Lost Revenue Method) Transition Charges are calculated as… CTC = BBR - DS - MV - MF CTC= Customer Transition Charge BBR= Bundled Base Rate DS = Delivery Service (T&D) MV= Market Value of Generation MF= Mitigation Factor (Mandatory Discount) BBR, DS, and MF are predetermined fixed components and therefore the CTC varies inversely with MV The resulting CTC calculation (revised each March) is used for PPO and ARES bill calculations

Internal and Confidential to EESMay 16, Rate Components Mitigation Factor Greater ofmills/kWhPercent Till % % % %

Internal and Confidential to EESMay 16, ComEds Customer Class Small Customers – kW – kW – kW – kW – ,000 kW –1, ,000 kW Large Customers –3, ,000kW –6, ,000kW –10,000+kW Small and Large Customer CTCs are calculated differently

Internal and Confidential to EESMay 16, Rate Components The MV component shows up in the CTC and the PPO PPO is calculated as… PPO = DS + CTC + MV Small Customers CTC CL = BBR CL - DS CL - MV CL - MF PPO i = DS i + CTC CL + MV i Where MV CL MV i Large Customers CTC i = BBR i - DS i - MV i - MF PPO i = DS i + CTC i + MV i so, PPO i = BBR - MF

Internal and Confidential to EESMay 16, Market Value Calculation Market value calculations are as simple as Price times Quantity (P Q) Jan Dec P Market Value Customer A (LLF) $35.13> Class Avg. Customer B (HLF) $21.06< Class Avg. Customer C (Class Avg.) $26.07 = Class Avg. Jan Dec Q A (LLF) B(HLF) C (Class)

Internal and Confidential to EESMay 16, Forecast & Regulatory Assumptions Standard Offer ends (CTC rolls-off) one year early December 31, 2005 instead of legislative date of December 31, 2006 Bundled Tariffs remain frozen through end of transition December 31, 2005 Fuel Cost factors embedded in frozen rate and thus insulated from fuel market volatility CTC is assumed to be greater than zero Delivery Service rates are assumed to be flat until January 1, 2006, where downward pressure of lower-risk wires business receives lower rate of returns from Commission

Internal and Confidential to EESMay 16, Forecast & Regulatory Risks Late CTC roll-off risk is estimated to be $6 million - nominal (greater of 9mills/kWh or 12% of UDC Fixed rate applied to current positions) Hypothetical Delivery Service rate increase of 5% increases exposure by $2.5 million - present value (T&D rates*0.05 applied to current T&D MWh positions) Risk of negative CTC can move customers back to bundled or pay higher rates on PPO and increase Enrons cost to serve (impact not estimated) Meter Service Provider (MSP) unbundling needs to result in a equal offsetting credit (impact not estimated) ISO/RTO formations are in the works and delivery rates of ComEd may be redefined upward (impact similar to DS rate increase sensitivity)

Internal and Confidential to EESMay 16, Regulatory Strategy Ensure CTC Roll-off occurs by December 31, 2005 Prevent ComEd from raising Delivery Service Rates Monitor Market Value calculations and risk of CTC dropping to zero Ensure Decommissioning costs stay at the currently allowed $80 million/year (or that they fall) Following the workings of the for-profit Alliance RTO membership and its impact on DS Ensure the MSP rate do not increase DS or other rates and if they do they are offset by CTC decreases

Internal and Confidential to EESMay 16, Financial Hedging Strategy MVs may rise and eventually push CTC to zero and cause the PPO to exceed the BBR rates, a call option on generation should offset losses from high MV due to this occurrence, the key is to find the MV that creates a zero value for CTC MVs may fall so low that CTCs would rise above current values which may be offset by a put option on generation. If this happens, then the PPO (Enrons costs) will be significantly lower because MV is low and CTC increases are offset by the in the money put option Embed the option premiums into the product prices (increases product price) and take out risk premiums for regulatory risks (decrease product price) should lead to similar profit at lower risks

Internal and Confidential to EESMay 16, Illinois Market Appendix Marc L. Ulrich February 26th, 2001

Internal and Confidential to EESMay 16, Logic for Early CTC Roll-off Why CTC might not roll-off early... –By law, ComEd is entitled to collect CTC until December 31, –ICC (or Legislation) would have to be influenced to terminate CTC early or ComEd could voluntarily eliminate CTC collection Why CTC may be influenced to roll-off early... –No collection target for CTC payments (no stranded cost estimate) –ComEd may have to eliminate PPO/CTC to get increased T&D rates –ComEd may eventually be exposed to buying in a volatile wholesale market and selling to end-users at fixed retail rates (California problem) A meeting has been previously held between Government Affairs and Rates & Tariffs on this subject. Section (a)(1) requires utilities to provide information concerning the extent to which eligible retail customers switch suppliers, and the amount of transition charges paid to the incumbent utilities by those customers.

Internal and Confidential to EESMay 16, PPO Calculation Class Average LF = 65%

Internal and Confidential to EESMay 16, Illinois Market Supplement Marc L. Ulrich

Internal and Confidential to EESMay 16, Batch Pricing - Below threshold scalar Cust Chg/KW + Dist rate + Trans Rate CTC Applied to DA rates Applied to UDC fixed

Internal and Confidential to EESMay 16, Batch Pricing - Above threshold scalar Cust Chg/KW + Dist rate Trans (no CTC) Applied to DA rates Applied to UDC fixed = HR-MF

Internal and Confidential to EESMay 16, Batch Modeling For Large Customers (> 3,000 kW) CTC NOT EXPLICITLY MODELED –UDC Fixed (Models BBR): 10/1/1999 to 12/31/2014 –UDC Mid (Models Standard Offer PPO = BBR - MF): 10/1/1999 to 12/31/2005 –Enron Mid (Models Enron Generation Delivery + DS): 1/1/2006 to 12/31/2014 For Small Customers (<= 3,000 kW) CTC EXPLICITLY MODELED ON 4/15/99 COMMODITY CURVE –UDC Fixed (Models BBR): 10/1/1999 to 12/31/2014 –UDC Mid: Same as UDC Fixed 10/1/1999 to 12/31/2005 –Enron Mid (Models Standard Offer PPO = CTC + DS + MV): 10/1/1999 to 12/31/2014

Internal and Confidential to EESMay 16, Batch Pricing - Cash Flows Below Threshold Cash Flows UDC fixed = bundled rate. UDC mid = bundled rate (because scalars are 1). MF accounted for through CTC calculation. Enron mid = cash flows start at 10/1/99 and serve as a substitute to the PPO till 12/31/05 and assume physical delivery by Enron from 1/1/06. Cust mid = lower of above 2, resulting in choice between bundled and PPO/Enron. Discount can be given as a % off UDC fixed i.e. Bundled Rate. Above Threshold Cash Flows UDC fixed = Bundled rate. UDC mid = Bundled rate - MF step downs. Enron mid = cash flows 0 till 12/31/05, begin 1/1/06 and assume physical delivery by Enron. Model selects UDC mid up to 12/31/05 (i.e. PPO) and Enron thereafter. Discount can be given as a % off UDC fixed i.e. Bundled Rate.

Internal and Confidential to EESMay 16, Is Site above Load (KW) threshold? Create Customer Specific Scalar Use Class Average Based Scalar Illinois Power Purchase Option Structure Threshold Levels ComEd = 3,000 kw Illinois Power = 100 kw Ameren CIPS and Ameren UE (IL) = 1,000 kw DA (Enron) Start date = 01/01/06 SO (UDC) End date = 12/31/05 PPO = HR - MF; SO scalars generate UDC mid. Enron cash flows begin 01/01/06 DA override rates contain T&D rate (CTC finished) Physical Delivery planned for 01/01/06 DA (Enron) Start date = 10/01/99 SO (UDC) End date = 12/31/05 SO all set = 1, so that UDC mid = UDC fixed Enron cash flows begin 10/01/99 DA override rates contain CTC and T&D rates. CTC scaled through DA scalars Physical Delivery planned for 01/01/06 Yes No

Internal and Confidential to EESMay 16, Batch Modeling for Large Customers Trans Distribution & Cust Charge PPO=BBR-MF Enron Delivery Added

Internal and Confidential to EESMay 16, Batch Modeling for Small Customers CTC T&D and Cust. Charge BBR PPO (on 4/15/1999)

Internal and Confidential to EESMay 16, IL Pricing Problems 1.Current method shows false position in book 2.Current method doesnt model BBR, PPO, and Enron Delivery Simultaneously 3.Transition dates are being used to start/stop cash flows and do not match reality 4.Pricing doesnt determine when to serve 5.Large customer pricing doesnt have CTC estimates and thus cannot have Enron delivery before CTC roll off 6.CTC calculated off 4/15/99 curve for small customers 7.Energy charges ($/kWh) are converted to demand ($/kW) charge by assumption (class LF) to combine T&D for small customers and scaled by same kW scalar 8.Individual scalars for each large customer deal 9.2 lines/site in batch 10.Different methods for large and small customers 11.Pricing is still in Batch99

Internal and Confidential to EESMay 16, Commodity Desk Issue For sites below 3,000 kW in ComEd, because PPO is modeled in the Enron cash flows it appears that we are physically delivering before 1/1/2006 For sites above 3,000 kW in ComEd, there is no Enron Mid line before 1/1/2006

Internal and Confidential to EESMay 16, Commodity Desk Issue It may be possible to change VB code in Batch to move Enron cash flows before DA to UDC Mid for small customers

Internal and Confidential to EESMay 16, Illinois Option Pricing All non-residential customers have direct access. These customers can choose one of three options… –Benchmark Bundled Rate (BBR) - bundled tariff –Power Purchase Option (PPO) - unbundled, discounted –Alternative Retail Electric Supplier (ARES) PPO is calculated as… PPO = DS + CTC + MV Transition Charges are calculated as… CTC = BBR - DS - MV - MF CTC= Customer Transition Charge BBR= Bundled Base Rate (UDC Fixed) DS = Delivery Service (T&D) (From Tariff Scalar Files) MV= Market Value of Generation (From Cash Flow's tab Swap Mid) MF= Mitigation Factor (Mandatory Discount)

Internal and Confidential to EESMay 16, Illinois Option Pricing BBR = UDC Fixed PPO = UDC Mid Enron Mid Time 2005 $

Internal and Confidential to EESMay 16, Illinois Option Pricing BBR = UDC Fixed PPO = UDC Mid Enron Mid Time 2005 $ Enron Revenue ( = BBR – X%) X%

Internal and Confidential to EESMay 16, Illinois Option Pricing $/MWh Enron Cost to Server BBR PPO BBR–DS–MF Enron Revenue ( = BBR – X%) $/MWh MV BBR–DS Enron Costs ( Without Hedge) Recall: PPO = DS + CTC + MV CTC = BBR - DS - MV - MF

Internal and Confidential to EESMay 16, Illinois Option Pricing $/MWh Enron Cost to Server BBR PPO BBR–DS–MF Enron Revenue ( = BBR – X%) $/MWh MV BBR–DS Enron Costs ( Without Hedge) Buy Call Option here Sell Call Option here Enron Costs ( With Hedge)

Internal and Confidential to EESMay 16, Pricing and Curve Selection

Internal and Confidential to EESMay 16, Illinois Market Marc L. Ulrich Guy Sharfman Jay Lewis

Internal and Confidential to EESMay 16, ComEd Proposals ComEd sent a letter to the Illinois Commerce Commission (ICC) proposing… –Large Users (400+ kW) Phase out existing PPO and BBR after 2004 Pass-through day-ahead real-time beginning 2005 as only ComEd power rate Restrict PPO to CTC>0 –Mass Market (400– kW) Avoid California-style rate shock Provide specific fixed price service between Perhaps specific fixed price will have annual price escalation

Internal and Confidential to EESMay 16, ComEd Existing Book

Internal and Confidential to EESMay 16, Possible Responses to ComEd Proposal We encourage discussions of improving the wholesale market and services with an eye toward avoiding CA like events. Solutions need to be ones that market participants can manage risk. Solutions that allow us to hedge risk. 1.Establishment of RTO/ISO with liquid wholesale services 2.Zero CTCs or flat CTCs at some rate 3.Real-Time-Pricing (RTP) based on a liquid trading hub 4.PPO determined on Cinergy prices updated more frequently (weekly, daily) We also support the ability of buying this services through wholesale agreements with ComEd

Internal and Confidential to EESMay 16, Possible Responses to ComEd Proposal An example of a wholesale agreement is the Full Requirements Profile Service (FRP) contract FRP would allow Enron to buy all energy at PPO rates through a wholesale transaction The points we need to ensure are… –We want an FRP contract until the end of PPO (12/2004) –We want eligibility of customer load that have zero value CTCs –We want to add or subtract any amount of customers and their corresponding load at any time (or once a year) to the contract –Transmission and Ancillary are charged in bulk –All in commodity price (load shaping) –We want a negotiation clause if an RTO/PPO is created but not an out clause if one exists

Internal and Confidential to EESMay 16, Possible Responses to ComEd Proposal We would be happy to provide default service at the right price, however, the right price is probably not one that will be amenable to the ICC We also prefer not to open legislation HB 362 We probably prefer to avoid ICC hearings also For all this we would and should support ComEds proposal