A3 CREDIT RATING TO CAL DWR POWER SUPPLY REVENUE BONDS (What it takes to buy a good bond rating!)

AAA from one agency, but it's your money.

Here's the thing to remember. Repaying you for your bonds, along with the interest, under this arrangement will be a political decision. If you trust the politicians of California, that's certainly your choice.

But, I have to ask you, why did Davis refuse all along to put the full faith and credit of California behind this bond issue? He could have, but he deliberately chose not to.

If you can answer that question to your own satisfaction, then this might be an excellent place to ~~lose~~ invest your money.

I guess you are referring to the bankruptcy and that was caused by Bob Citron who badly invested 1.7 billion in risky securities which we had to repay through a bond issue in 1996. And as far as I know all the investors were repaid.

It may be more that bonds that are Grey, it may be blackouts. The Cal ISO is going to ruin the west coast power system regardless of how many bonds DWR sells. They have been at it again this week. I sure hope FERC changes the leadership of these guys.

From this week's WECC Daily Status reports:

On Wednesday, September 25, 2002, CISO invoked Coordinated PST Operation to relieve CCW USF on Path 66 from HE 1500-HE 1800 PDT. This brings the total hours of COPS year to date to 241.

On Monday, September 23, 2002, CISO invoked Coordinated PST Operation to relieve CCW USF on Path 66 from HE 1300-HE 2200 PDT. This brings the total hours of COPS year to date to 232. From 1400 to 1500, Path 66 was overloaded on several occasions. CISO requested contributing schedule curtailments and circulating flow on the PDCI to control Path 66 loading.

Monday’s Notable Events: The CISO declared Generation Restricted Maintenance Operations for the period from 0600-2200.

Another non-news event during the "Elect Davis" media campaign.

Ouch! I read the full S&P credit report! You need to register with them to read it. I think that S&P has thought this out pretty well!

Boy did S&P kick Davis, the CPUC, and DWR in the nuts! Gov Davis and his advisors are not going to be happy about the analysis!

In DWR's case, the subordination of debt service to operating expenses presents issues beyond those typically associated with utility debt financings. DWR has entered into numerous contracts with merchant energy companies that saddle it with substantial amounts of expensive excess electricity during many hours of the year. These surpluses need to be sold into the wholesale power market to defray the contracts' fixed costs. During many other hours of the year, DWR is dependent upon wholesale markets for electricity needed to supplement its contracts. These purchases expose DWR to market volatility, particularly because DWR will frequently be purchasing electricity during periods of peak demand when prices tend to be highest. Consequently, the subordination of DWR debt service to contract power program expenses and the use of a single operating account in connection with both contract and spot market electricity purchases highlights the importance to bondholders of the accuracy of DWR's annual forecasts of revenues, retail electric consumption, and wholesale purchases and sales of electricity.

Other principal credit concerns include:

· DWR operates in a political and regulatory environment that yielded PG&E's April 2001 bankruptcy filing, SCE's multiple defaults on several billion dollars of debt and trade obligations, and the need for the state to fund $6.2 billion of power purchases from its general fund;

· DWR reports directly to a governor who actively opposed rate increases that were needed by the IOUs in 2000;

· Future rate adjustments could be politically unpalatable because existing retail electric rates of California's IOUs are among the highest in the nation and the electricity that DWR is obligated to purchase under long-term contracts that were negotiated at the market's peak are very expensive relative to current market conditions;

· There will be times throughout the year that DWR will have significant excess capacity under its power contracts and it is unlikely that it will be able to recover all of its costs as it sells the expensive excess energy into the market;

· Reserves that support the power program and protect bondholders could be reduced in future years, as the required minimum reserves decline pursuant to the indenture, if DWR incorrectly projects -- whether as a result of miscalculation or political considerations -- that market volatility will subside and lesser reserves are needed;

· DWR is heavily dependent upon variable rate debt instruments that introduce considerable interest rate risk because variable rate interest exposure will remain unhedged for about 25% of total debt;

· DWR's annual revenue requirement filing has spawned legal challenges and future filings could potentially give rise to additional challenges, particularly because DWR's revenue requirements filings with the CPUC must attest that DWR's costs are just and reasonable, even as state officials have asserted in proceedings before the Federal Energy Regulatory Commission that it should be relieved of its contracts because the contracts' prices are unjust and unreasonable;

· DWR's ability to recover costs might be impaired by other litigation, including a lawsuit by PG&E that could result in substantially higher retail electric rates that might have a chilling effect upon DWR's ability to raise rates if PG&E is successful in its claims that are an outgrowth of a lack of rate relief in 2000; and

· DWR's interest rate swap contracts automatically terminate or require posting of significant collateral to the extent the long-term rating on the power bonds is lowered below 'BBB-' by Standard & Poor's, Fitch, and Moody's, potentially exposing DWR to a possible "credit cliff" of additional collateralization or termination payments.

DWR has not purchased what is referred to as "shaped loads," whereby suppliers agree to provide power that mirrors electricity demand in peak and off-peak periods. Rather, DWR's contracts largely provide DWR with fixed blocks of electricity that exceed needs during off-peak periods and fall short during periods of peak demand. DWR must frequently pay for generation capacity irrespective of whether there is a need for the output of that capacity.

Many contracts obligate DWR to pay for capacity that is dedicated to DWR 24 hours a day, seven days a week, even though the amount of contracted capacity is needed during only a fraction of the week. Some slightly less onerous commitments are for capacity dedicated to DWR for 16 hours a day, six days a week, and other contracts solely cover peak hours. During the early years of the power program, DWR is likely to have excess capacity even during some periods of strong demand.

-SNIP-- DWR will also be short of capacity during peak periods when prices tend to be highest and volatility tends to be greatest. Herein lies another credit quality issue. To the extent that DWR incurs higher-than-anticipated prices in connection with the procurement of supplemental power or must purchase more supplemental power than is envisioned by its projections, DWR's annual revenue requirement could rise dramatically, which could require the CPUC to implement significant retail rate increases under certain scenarios. An inability by independent power producers to obtain financing necessary to construct generation units whose output is anticipated to be pledged to DWR through contracts could also increase DWR's reliance on the spot market.

DWR's revenue requirements can also shift dramatically with changes in fuel prices because DWR is responsible for fuel costs under many of its contracts with generators and power marketers

SNIP--There are substantial barriers to DWR's withdrawal from the power program. To accomplish its objective, DWR initially wants to shift to the IOUs the responsibility for purchasing what is known as the "residual net short." The residual net short represents all power requirements of the IOUs' customers above and beyond those requirements that can be met by the sum of the utilities' retained generation, the utilities' existing bilateral contracts, and power provided under DWR's contracts. Following a transfer of responsibility for the residual net short to the utilities, DWR also wants to compel the utilities to accept an assignment of DWR's power contracts.

DWR assumes that responsibility for the residual net short will be transferred to the IOUs as of Jan. 1, 2003. Standard & Poor's believes that it is improbable that DWR will achieve this goal within the stated time frame because of the speculative-grade credit quality ratings that PG&E and SCE exhibit now and will likely continue to exhibit for some time.