1. Tiered Frequency Response Service Workshop On Demand-Response Programs in the ERCOT Market September 15, 2006 Mark W. Smith Smith Trostle LLP

2. What is Tiered Frequency Response Service (TFRS)? A proposed load resource service giving ERCOT a load resource pool that: ●Has a binding 24-7 year-round contractual performance obligation ●Provides instantaneous interruptibility at very high frequency set points ●Provides staggered instantaneous interruptibility at very high frequency set points ● Has no limit on number or duration of interruptions necessary to preserve system reliability ● Has no limit on number or duration of interruptions necessary to preserve system reliability

3. Smith Trostle LLP What is TFRS? (Cont’d) ● Is additive, non-duplicative of, and complementary to, other load resources available to ERCOT operators ● Provides a lower-cost substitute for the addition of new peaking units ● Provides a lower-cost substitute for the addition of new peaking units ● Avoids the impacts on the environment of power plant construction and operation ● Avoids the impacts on the environment of power plant construction and operation

4. Smith Trostle LLP Purpose of TFRS Proposal ● To implement the 2001 PUC directive that: -Load resources that provided reliability services prior to market restructuring have reasonable opportunities to continue to participate -A framework be established for even greater participation by load resources in the future ● To enhance the range of tools available to ERCOT for maintaining system reliability

5. Smith Trostle LLP Barriers to Steel Mill Provisioning of RRS Service in ERCOT ● No significant barriers in most jurisdictions ● No significant barriers within ERCOT prior to 2001 market restructuring ● Insurmountable structural barriers in ERCOT post-2001

6. Smith Trostle LLP Barriers (Cont’d) ● Qualification/performance requirements don’t accommodate: -Second-by-second demand fluctuation inherent in the physics of arc-furnaces -Intra-hour cyclical characteristics of steel manufacturing process ● Compensation mechanism is incapable of capturing the value provided by steel mill loads during the awarded RRS hour interval

7. Smith Trostle LLP Differences in Load Controllability Make Arc- Furnace Loads Well Suited for TFR Service ● Arc-furnace loads are controllable in a different but equally useful manner than loads providing RRS. At the moment an interruption is called or a UFR trips: -100% of load on-line is instantly dropped off-line as opposed to a specified number of MW -If the load is off-line the instant an interruption is required, 100% of the load remains off-line until termination of the system event ●RRS loads in ERCOT exibit a more precise load response performance band than arc-furnace loads are capable of, but arc furnace loads provide the additional benefit of mitigating load fluctuation while system frequency restoration efforts are ongoing ●Arc-furnace loads providing an additive service like TFRS complement rather than impair the 2300MW level of RRS load that ERCOT believes must be on line at all times

8. Smith Trostle LLP Basic of the Proposed TFRS Rule Basic Elements of the Proposed TFRS Rule ●One-Year Pilot Program ●Administered by ERCOT ●All Non-Seasonal Loads Eligible ●1000 MW Participation Cap (Avg Demand) ●One-Year Initial Contract Term ●Contract Irrevocable After 1 st Six Months ●Severe Penalties for Non-Compliance

9. Smith Trostle LLP Basic Elements Cont’d ●UFRs Armed 24/7 for Contract Term ●UFRs Set at 59.75 Hz and 59.85 HZ ●Frequency Rotated at Six Month Intervals ●Interval Loads to be Balanced ●ERCOT can Manually Trip Loads for System Emergency or Capacity Shortage ●No Limit on Number or Duration of Reliability-Related Trips ●Loads Treated as Non-Firm and Excluded from all Peak Capacity and Reserve Margin Analyses

10. Smith Trostle LLP Basic Elements Cont’d ●Unit Price is 75% of the higher of the Avg. Interval Clearing Price for Responsive Reserve for the Current Month or for the Corresponding Month in 2005 ●Compensation = Unit Price X Avg Demand for current Month X Hours in Month ●Cost of TFR Service to be Uplifted on a Load Ratio Share Basis ●12/1/06 Deadline for Adopting Implementing Protocols and Standard Contracts ● 1/1/07 Program Start Date ●Utility and Value of TFR Service to be Evaluated after the 1 st Year and the Program Modified Thereafter to the Extent Deemed Necessary or Appropriate

11. Smith Trostle LLP Why a Pilot Project? ● Loads need practical experience to determine whether their manufacturing schedules can withstand the number and duration of interruptions required ● Load participation interest needs to be assessed to determine whether a more direct market-based pricing mechanism can be implemented ● Experience is needed to determine what if any future changes to TFRS are warranted prior to full scale implementation

12. Smith Trostle LLP What Immediate Changes to the Draft TFRS Rule are Needed? ● Deadlines for approving Protocols and standard contracts and for initiating TFRS service need to be revised based upon the time elapsed since the initial filing ● The size of the pilot project should be reduced by at least 50% to minimize the financial impact pending an assessment of the service after the first year of operation

13. Smith Trostle LLP Proposal for Moving Forward With a TFRS Rulemaking ● Require Steel Mills to file by September 25th a revised Draft TFRS rule that will serve as the focus for discussion and questions at the October 2nd Workshop ●Devote a full morning or afternoon at the workshop, if necessary, to discuss and debate the merits of the proposed rule ●Solicit written comments by October 13 and reply comments by October 23rd on the revised TFRS proposal ●Solicit written comments by October 13th and reply comments by October 23rd on the revised TFRS proposal ●Request a decision by the Commissioners at the November 16 Open Meeting on whether to initiate a formal TFRS rulemaking proceeding. ●Request a decision by the Commissioners at the November 16th Open Meeting on whether to initiate a formal TFRS rulemaking proceeding.

14. Interruptible Load Over Time Sources: Data for 1985-1993 is from PUCT 1996 Statewide Electrical Energy Plan for Texas, June 1996, and represents interruptible loads plus a small contribution from various load cycling programs. Data for 1994-1999 is from Project 22209 Annual Update of Generating Electric Utility Data, 2000. Data for 2000 and 2001 came from ERCOT Capacity, Demand and Reserve (CDR). Information for 2002-2006 is from Steve Krein, ERCOT Staff and represents the quantity of load qualified as LaaR. The amount actually providing an ancillary service and available for interruption at any given time is lower.

15. Tiered Frequency Response proposal  A load engaged in “price chasing” would not likely have curtailed in response to high prices when the load would have been needed to interrupt to maintain frequency in 2004.

16. Tiered Frequency Response proposal  With the exception of October 18 th, a load engaged in “price chasing” would not likely have curtailed in response to high prices when the load would have been needed to interrupt to maintain frequency in 2005.

17. Tiered Frequency Response proposal  Assumes that the maximum of 1000 MW of interruptible load signs up for TFR.

18. Tiered Frequency Response proposal TFR would be a relatively inexpensive source of planning reserves.