THE POSSIBILITIES ARE ENDLESS," SO THE ADS SAY.

But what about a hostile bailout? I wouldn't have believed it myself until the news arrived, forcing me to rewrite this column at press time.

Imagine: Enron offering to reimburse PECO Energy for $5.4 billion in stranded costs, while taking on the role as the electricity provider of last resort for southeast Pennsylvania.

No doubt you have already read a half-dozen news stories about Enron's play for PECO. The details should sound familiar; the Philly papers were filled with lively quotes. On Oct. 8, Enron Energy Services Power Inc. filed a petition with the Pennsylvania Public Utility Commission with an alternative plan for retail choice. PECO had submitted a settlement agreement on Aug. 27, more than a month earlier. It had offered what it then believed to be the largest rate reduction promised by "any electric utility in the country." Enron, however, claimed that its plan would introduce competition more quickly. It alleged PECO's proposal would exert a "chilling effect," actually discouraging PECO customers from switching to new competitors.

The PECO settlement enjoyed the endorsement of state Sen. Vincent Fumo, AARP and others such as the Philadelphia Area Industrial Energy Users Group, known as PAIEUG, which included Allied Signal, Ford, Merck, Nabisco and affiliates of Boeing and USX. PECO's offer would open the entire market to customer choice a year earlier than promised in Pennsylvania's 1996 deregulation act, plus a 10-percent, across-the-board cut in retail electric rates through Dec. 31, 2000. PECO would recover all approved transmission and distribution wires charges and stranded costs on a staggered timetable through 2008, subject to a rate cap. The balance (cap minus charges) would be offered as a generation credit to any customer wishing to switch providers. (Credit equals the rate cap minus T&D charges minus the competitive transition charge, or CTC.)

By contrast, Enron would double PECO's rate cut, to 20 percent through 2000. To reduce the CTC (em and allow for the larger rate cut (em Enron would refinance PECO's $5.46 billion in stranded costs. PECO would securitize the full amount, then sell the bonds (at a discount of 9.66 percent) to Enron, which would refinance them and take over as the distribution and energy provider of last resort. The Enron plan would mean lower rates (and a smaller CTC) early on, plus a larger generation credit from 1999 through 2001 to encourage more PECO customers to switch suppliers. Later years would see both higher rates and a higher CTC for Enron, as compared with the PECO plan.

In essence, Enron's proposal rests on two key claims: (1) the alleged "chilling effect" of PECO's generation credit, and (2) a deeper cut in retail rates, made possible by a smaller overall CTC and cheaper financing for stranded costs.

A Chilling Effect?

Enron says PECO's generation credit is too small (em that it will discourage customers from switching to alternative power producers and delay real competition. Under the credit scheme, customers gain when a competitor comes along who will sell energy and capacity at a rate less than the credit. PECO's credit would start at only 2.8 cents per kilowatt-hour in 1999 (vs. 3.4 cents for Enron), rising to 3.7 cents (vs. 3.72) by 2002 and 5.57 cents (vs. 4.16) by 2008.

Enron alleges that "several of PECO's own expert witnesses" predict higher power prices for 1999 and 2000. "Moreover," says the company, "the Commission's recently issued order on the pilot programs¼ found that the market price for power in PECO's service territory presently is at least 3 cents per kWh." (Enron petition, p. 15.)

True enough, but Enron ignores a key point. The PUC took great pains in its pilot program order to make the generation credit large enough to tempt consumers to switch. The pilot was designed to encouraging switching, to test the process. The PUC even approved a CPC, or "customer participation credit," over and above the generation credit. As the commission explained, in affirming a preliminary 3-cent rate in its pilot order: "This rate was set as a matter of policy for the Pilot Programs only and did not reflect any determination of a market rate over the longer time frame that will be used in the restructuring proceedings." (Docket p-00971170, Aug. 21, 1997, p. 54.)

In fact, in its May 22 decision, issuing a qualifying rate order for $1.098 billion in securitized stranded costs, the PUC had relied on several lower energy price estimates for 1999, ranging from 2.92 cents (EDS) to 2.77 cents (ICF Kaiser) to 2.42 cents (Putnam, Hayes and Bartlett). The PUC saw those estimates as crucial, yet problematic:

"The key to the resolution of this issue lies in the credibility of the market studies¼ The question is, do we know enough, at this point in time, to conclude that these market value studies or models produce accurate results?" (Docket No. r-00973877, 177 PUR4th at 434.)

Here's another interesting sidebar: It was PAIEUG that convinced the PUC to trim back PECO's securitization request in May, and yet the same group signed on with the proposed PECO settlement in August, despite the alleged chilling effect of the 2.8-cent generation credit.

Cheaper Financing?

Enron offers to buy all of PECO's securitization bonds, but at a sky-high discount rate of 9.66 percent, implying a price way below market. The 9.66 rate nearly equals PECO's current, authorized return on equity of 10 percent, as estimated in the May QRO case. At that time, in fact, the PUC accepted a much lower discount rate of 7.53 percent for PECO's first billion dollars of securitization bonds. (177 PUR4th at 444.) Of course, that's the whole idea (em that securitization lowers risk. Enron's discount offer, more than 2 percentage points higher, would appear to allow it immediately to flip the $5 billion in bonds at an immense profit. It is that profit, plus what is essentially a backloaded schedule to collect the CTC, that would allow Enron to minimize the stranded cost charge in the early years, doubling PECO's proposed rate cut.

Nevertheless, the question remains: Even if Enron's offer is a bad deal for PECO, should the PUC consider itself bound to approve it, since it could cut rates for consumers, the third-party beneficiaries in all of this?

The answer, I believe, is "no." When reading over the 1996 restructuring act, I found an interesting clause. Essentially, it appears to say that if the distribution utility complies with the rate freeze, it should receive immunity from the sort of margin-hunting tactics seen in this case:

"If an electric distribution utility rolls its energy cost rate into base rates at a combined level that does not exceed¼ rates which have been approved by the commission¼ [i.e., the utility complies with the rate freeze]¼ the utility shall not be required to reduce its capped rates below the capped level upon the complaint of any party if the commission determines that any excess earnings achieved under the cap are being utilized to mitigate transition or stranded costs for the benefit of ratepayers." (House Bill 1509, "Electric Generation Customer Choice & Competition Act," sec. 2804(4)(v).)

In other words, if the utility can maintain the rate freeze, recover stranded costs and still make a buck, more power to it.

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