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Pepco Holdings Inc. (NYSE:POM)

Q2 2009 Earnings Call

August 7, 2009; 11.00 am ET

Executives

Joe Rigby - Chairman, President & Chief Executive Officer

Tony Kamerick - Senior Vice President and Chief Financial Officer

Dave Velazquez - President and CEO of Connectiv Energy

Gary Morsches - President & Chief Executive Officer of Conectiv Energy Holding

John Huffman - President & Chief Executive Officer of Pepco Energy Services

Donna Kinzel - Director, Investor Relations

Analysts

Paul Patterson - Glenrock Associates

Andrew Levy - Incremental Capital

Dan Eggers - Credit Suisse

Paul Ridzon - Key Bank

Dan Jenkins - State of Wisconsin Investment

Maurice May - Power Insights

Dan Eggers - Credit Suisse

Operator

Good day, ladies and gentlemen and welcome to the second quarter 2009 Pepco Holdings, Incorporated earnings conference call. My name is Glitries I will be your coordinator for today’s conference. At this time all participants will be in a listen-only mode. We’ll conduct a question-and-answer session towards the end of this conference. (Operator Instructions)

At this time I would like to turn the call over to your host for today’s conference, Ms. Donna Kinzel, Director of Investor Relations. You may proceed ma’am.

Donna Kinzel

Thank you, operator and good morning ladies and gentlemen. Welcome to the Pepco Holdings second quarter 2009 earnings conference call. The primary speakers on today’s call are Joe Rigby, Chairman, President and Chief Executive Officer and Tony Kamerick, Senior Vice President and Chief Financial Officer.

Also available to answer your questions are Dave Velazquez, Executive Vice President Power Delivery, Gary Morsches, President and Chief Executive Officer of Conectiv Energy and John Hoffman, President and Chief Executive Officer of Pepco Energy Services.

Before Joe begins, let me remind you that some of the comments made during today’s conference call maybe considered forward-looking statements. As such, they should be taken in the context of the risks and uncertainties discussed in the Safe Harbor disclosures contained in our Securities and Exchange Commission filings.

Also please note that today’s call will include a discussion of our results, excluding certain items that we feel are not representative of the company’s ongoing business operations. These special items and their financial impact are described in our earnings release dated August 6, 2009. The earnings release can be found at www.pepcoholdings.com/investors. Joe.

Joe Rigby

Thanks, Donna and good morning, ladies and gentlemen and thank you for joining us today. Our second quarter earnings reflect the impact of continued recessionary pressures mild weather, challenging power markets and higher interest in pension cost. During the quarter, the demand for power was dampened significantly affecting the results of both Power Delivery and Conectiv Energy.

Whether adjusts regulated kilowatt our sales were down over 4% and generation output was down 44%. In addition because of the proactive steps we took in the fourth quarter of last year, we incurred both higher interest expense primarily attributable to issuances of debt and dissolution caused by sale of common stock.

We also incurred higher pension expense largely due to the decline in the market value over pension plan assets, which drove an increase in operations and maintenance expense quarter-over-quarter, despite a strong focus on managing controllable cost. Consolidated earnings for the quarter were $25 million, compared to $15 million in the 2008 quarter, which included a charge associated with our cross border energy leases. Excluding these charge earnings in the second quarter in 2008 would have been $108 million.

Tony will discuss the financial results and our operating segment performance in more detail, but first, I’ll address some topics of interest. As we reported on the first quarter call in early May, Delmarva Power filed an electric distribution base rate case in Maryland that seeks approval of an annual increase of $14 million in electric base rates base rate, based on a requested return on equity of 11.25%. That case remains on track with hearings scheduled to begin September 21 and a decision is expected by the end of this year.

On May 22, Pepco filed an electric distribution base rate case in the District of Columbia that seeks approval of an annual increase of $52 million base rate, based on a requested return of equity of 11.5%. If our proposal is approved the typical of electric residential customer would see a total bill increase of about 6%. If the commission adopts the purpose bill stabilization adjustment mechanism, the requested rate increase will be $50 million based on a requested return of equity of 11.25%.

As in the Maryland filings, we are asking the commission to authorize at three year rolling average treatment of pension OPEB and bad debt expense to be recovered through a surcharge, which would be updated annually. The difference between three year average of these cost and the incurred amount would be deferred for future recovery in the case of under recovery or deferred for future refunded customers in the case of an over recovery.

If this surcharge mechanism is approved for Pepco in the District of Columbia, it will lower the proposed annual base rate increase by $3 million. Hearings in the case are scheduled to begin November 9 with a decision expected in early 2010.

We remain on track to file two additional electric distribution base rate cases this year. with Atlantic City Electric’s filing in New Jersey targeted for later this month, and Delmarva Power’s electric filing in Delaware targeted for September. As in the Maryland and District of Columbia filings, the cases will adjust for forwarding looking, known and quantifiable expenses, such as pension expense and request a three year rolling average treatment of pension and OPEB expenses and in the case of Delmarva Power, bad-debt expense as well.

In May, PJM affirmed that our Mid-Atlantic Power Pathway or MAPP transmission project remains critical to long term electric reliability in Southern Maryland and on the Delmarva Peninsula. However, PJM delayed the in-service date from 2013 to 2014, based on its most recent load study.

PJM also transferred the Indian River to Salem portion of the project from its Regional Transmission Expansion Plan to its continuing study list. This change will reduce the total project cost from $1.4 billion to $1.2 billion. We remain on track to begin construction of the Burches Hills to Chalk Point segment of the line later this year.

Our blueprint for the future initiatives continued to move forward. Advance metering infrastructure, field testing is proceeding on schedule in Delaware and is expected to be completed in the third quarter with meter installation beginning in the fourth quarter of this year.

As we have previously discussed, lat year the Delaware Public Service Commission approved the application of AMI technology across the distribution system. A regulatory asset will be created to ensure recovery-off and return-on AMI related costs between rate cases.

In June, the District of Columbia adopted legislation approving AMI deployment, subject to the Public Service Commission agreeing to this efficiency of federal grants related for AMI. The legislation provides for cost recovery and a return-on cost by the creation of a regulatory asset.

Before I leave the topics of MAPP and blueprint, I’d like to provide an update on our pursuit of federally backed funds and grants for a portion of the cost of these projects. In February, we submitted an application to the U.S. Department of Energy under title 17 of the Energy Policy Act of 2005.

Our application seeks low cost debt financing in the form of a loan or a loan guarantee for $684 million of planned MAPP expenditures. We have cleared several hurdles in the process, which has progressed to the due diligence faith and we expect a decision on our applications late this year.

Yesterday, each of the utilities made filings with the Department of Energy under the American Recovery and Reinvestment Act of 2009, requesting the total of approximately $266 million in smart grid related stimulus fund. If received, such funds will be applied to our blueprint project and we’d reduce our external funding requirement, as well as mitigate customer rate increases. The funds will allow us to do our part to spur the economy, improve the liability and promote energy independence in our region.

Late last year, Pepco filed proposals with the District of Columbia and Maryland Commissions to share with customers the remaining balance of the proceeds from the Maryland bankruptcy settlement.

In March, the District of Columbia Commission approved Pepco’s proposal resulting in recording a pretax gain of $14 million in the first quarter. On July 2, the Maryland Commission approved the proposed settlement, which we expect to result in a recording of a pretax gain of approximately $27 million in the third quarter.

Now, I’ll turn to our competitive energy businesses. Conectiv Energy’s Cumberland plant was placed in-service on June 1, in Cumberland County, New Jersey. The 100 megawatt combustion turbine was completed on-time and came in $3 million under budget.

The 545 megawatt combined cycle Delta Project in Southern Pennsylvania is within budget and is on track to become operational during the second quarter of 2011. These additions will enhance the value of Conectiv Energy’s generation fleet, while providing needed capacity in the PJM region.

Pepco Energy Services, we continue to evaluate a possible restructuring sale or wind down of the retail energy supply portion of the business. We have reduced the collateral exposure of the business, with a credit intermediation agreement, we put in place earlier this year and by not incurring additional incremental collateral exposure.

As we enter into new supply contracts, we expect the business to remain profitable based on its existing backlog and the margins that have been locked-in with corresponding wholesale energy purchase contract and we expect to complete our review by the end of the year.

Before I turn it over to Tony, I’d like to comment on the dividend. We view the dividend as an important component of our value proposition. I believe we have a strategy that will result in utility earnings group to support the current dividend level. That being said, I want to take this opportunity to reiterate our commitment to the current dividend.

At this point, let me turn it over to Tony Kamerick. Tony.

Tony Kamerick

Good morning, everyone and thank you for joining us today. I hope we’ve had a chance to review our earnings release. I’ll recap our consolidated earnings and then address our performance by operating segment. We’ll then open the call to your questions.

Consolidated earning for the quarter were $25 million or $0.11 per share compared to $15 million or $0.07 per share for the second quarter of 2008. Excluding last year’s adjustment to the equity value of the cross-border energy lease investments, earnings for the 2008 quarter would have been $108 million or $0.53 per share. Year-to-date, consolidated earnings were $70 million or $0.32 per share, compared to $114 million or $0.57 per share for the first six months of 2008.

Excluding the special item related to the Mirant bankruptcy settlement, earnings for the 2009 period would have been $62 million or $0.28 per share. Excluding the special item related to the charge associated with the cross-border energy leases, earnings would have been $207 million or $1.03 a share in the 2008 period.

For the second quarter, Power Delivery earnings were $0.14 per share, compared to $0.37 per share for the 2008 period. The effect of delusion negatively impacted earnings by $0.01 per share. There are several factors that contributed to the earnings decrease. Power Delivery was impacted by lower sales due to the weak economy and mild weather.

Total kilowatt hour sales declined by over 6% quarter-over-quarter. Cooling degree days were 17%, lower than last year and 2% lower than normal. As Joe mentioned, if you exclude the impact of the mild weather, sales declined by over 4%, indicating lower customer usage. The earnings impact of lower weather related sales was a decrease of about $0.02 per share and the impact of lower customer usage was a decrease of about $0.03 per share.

Another factor that decreased earnings quarter-over-quarter was the impact of unbilled revenues related to Atlantic City Electric’s basic generation service. Under New Jersey regulation, Atlantic City is entitled to recover from its customers all costs of providing basic generation service. Any difference between the total revenue and the total cost of providing this service are deferred for future recovery or refund.

However, unbilled revenue does not run through the deferral calculation and therefore can impact earnings. Typically, the earnings impact is negligible. However, in June, given the mild weather, low customer usage and increased customer migration. We saw a negative impact of $0.05 of share compared to the second quarter of 2008. Over the past few years on an annual basis, we have experienced minimal earnings impact from unbilled revenue.

Other contributing factors were higher interest in operation and maintenance expenses. The higher interest expense, which impacted Power Delivery earnings by $0.03 of share, is primarily due to the debt financing, we completed late last year. The higher O&M expense, which had an impact on earnings of $0.04 per share, it was driven by increased pension expenses. Excluding the increase in pension related expenses O&M expense would have been essentially flat quarter-over-quarter, reflecting our continued focus of costs control.

I’d like to take this opportunity to provide an update on our pension funding status and expectations for pension expense for the remainder of the year. Between April and July, we contributed $300 million to our pension trust, completing the funding for this year. Of this $300 million, approximately $100 million was funded with a tax refund received by amending our prior estimated income tax payments to account for this additional pension funding.

Also, the 2009 actuarial valuation was completed in the second quarter. Based upon the results, we expect the pension in OPEB expense that gets reflected in our operating results companywide to increase by $63 million pretax as compared to 2008. Of this increased annual expense, approximately $30 million is reflected in our year-to-date results.

The final item that impacted Power Delivery was a lower benefit of about $0.05 per share from income tax adjustments that were recognized in the second quarter of 2008. The tax adjustments were primarily related to 1048 accounting for uncertain taxes provisions.

Year-to-date, our delivery earnings were $0.33 per share in 2009, compared to $0.61 per share for the six months end of June 2008, excluding the special item related to the Mirant bankruptcy settlement, the 2009 earnings would have been $0.29 per share. Effective delusion was $0.03 per share. Most of the quarterly drivers also apply to the year-to-date period. The lower earnings were due to a lower benefit from the income tax adjustments and was recognized in the first half of 2008.

Higher operation and maintenance expense, primarily due to increased pension expense and higher interest expense primarily due the debt financing completed late last year. The decline in Power Delivery earnings resulted from Atlantic City basic generation service revenues related to unbilled revenues and lower distribution sales caused by lower non-weather related customer usage, weather-adjusted distribution sales, declined by 3%, as compared to the first six months of last year.

Keep in mind, that with the implementation of the Bill Stabilization Adjustment mechanism in Maryland, approximately 40% of PHI’s total distribution revenue is decoupled from consumption. Connectiv Energy continues to manage through a challenging year, mild weather and weak economic conditions have greatly reduced the demand for power. Lower energy commodity prices and narrow generation spreads also continued to pressure margins.

In the second quarter, Connectiv Energy incurred a loss of $0.06 per share, as compared to earnings of $0.10 per share in the second quarter of last year. Year-to-date, Connectiv Energy incurred a loss of $0.05 per share, versus earnings of $0.34 per share in the 2008 period. The primary drivers for both the quarter and year-to-date earnings decreases, were lower generation output and narrow spark spreads and dark spreads.

Our generation output was down 44% for the quarter and 30% year-to-date. Eastern PJM’s load was down nearly 6%, quarter-over-quarter. The average spark spreads and dark spreads for our generation fleet declined 70% from the quarter and 61% year-to-date.

To illustrate the impacts of this decline, during the second quarter of last year, Connectiv Energy’s generation fleet experienced a 185 hours for a combined cycle spark spreads exceeded $20 per megawatt hour while in the second quarter of 2009, only 18 hours exceeded $20 per megawatt hour.

Over the past five years, the average number of hours exceeding $20 per megawatt hour in the second quarter was a 119, demonstrating how low demand was in the second quarter of 2009. Also contributing to the earnings decline period-over-period was the performance of economic fuel hedges that were favorable due to rising fueling prices in the second quarter of 2008 and unfavorable due to falling fuel prices during the second quarter of 2009.

Key factors that droves the hedge performance was a lower expected load service volumes in the generation output. Given the year-to-date results, in our expectations for the remainder of the year, we are lowering the forecasted gross margins from a range of $325 million to $425 million to a range of $270 million to $300 million. We are confirming the forecasted 2010 gross margin range of $340 million to $450 million as well as the 2011 gross margin range of $380 million to $500 million.

However, the current forward market, which reflects the lower power prices and volatility, indicates that gross margins would come in below the mid-point of the 2010 and 2011 ranges, but well within those ranges.

Pepco Energy Services’ second quarter earnings were $0.05 per share, compared to $0.08 per share in the 2008 quarter. Year-to-date earnings were $0.08 per share, as compared to $0.12 for the 2008 period. Higher interest expense associated with the credit and collateral facilities and lower generation plant output drove the earnings decrease partially offset by favorable electric and natural gas supply cost and other electricity related supply costs.

Earlier today, we found a registration with the Securities and Exchange Commission, registering an additional 7.5 million shares of common stock for issuance under the company’s dividend reinvestment plan. We expect that at the current stock price, the shares would satisfy the requirements of the dividend reinvestment plan for approximately three years.

Other than the issuance under the dividend reinvestment plan and the refinancing or pre-funding of existing debt, we did not expect to issue debt more equity this year. While we are focused on managing through a challenging 2009 we continue to believe that the long term fundamentals of our business remain strong. We have made very good progress on our growth initiatives and believe that we are positioned for longer term earnings growth.

With that, we would like to open the call to your question.

Question-and-Answer Session

Operator

(Operator Instructions) Your next question comes from Paul Patterson – Glenrock Associates

Paul Patterson – Glenrock Associates

The Conectiv Energy margin of $300 million to $270 million, how much of that is hedged I mean the last thing I saw was 270 is that, how does it look, now?

Joe Rigby

We have Gary Morsches and hopefully, he will have that one.

Gary Morsches

We just updated the range based on our portfolio on the current poor market out there and we think that range very durable and locked in the down side. We have four hedged in place around our fuel expectations and around our load requirements and built those numbers into that range.

Paul Patterson – Glenrock Associates

Last time, the June analyst meeting, you guys had $270 million of total growth margins as being hedged. Is that still the case?

Gary Morsches

That is still the case, now; Paul let me explain one thing, too that our hedges are sometimes duty hedges. For example, when we are hedging our lows that we win in load auctions, we hedge the expected volume that we get from the utility.

This year, we are actually seen with this much lower demand, we have seen where some of those hedges have not worked as well and reported that, that is cost us to the tune of $11 million year-to-date. So, that chips away you might say at that locked in number, but we have taken all into consideration looked that where we are year to date, look that where we are expected to be year going forward and deal very comfortable but the range that we put out.

Paul Patterson – Glenrock Associates

You guys have some provided last result contracts and the quite understands you correct in some on the load expectations with respect to servicing those, the contracts.

Gary Morsches

That is correct, we’re active on the those puller load auctions as a way to hedge on our portfolio, we do participate in load auctions around our assets and frankly, we have seen where the actual demands for some of those areas have come in double-digits below where it was expected, where we hedged I mean with the utility expected with the mild weather that we would experienced year-to-date.

Paul Patterson – Glenrock Associates

The other thing that we’re seeing in some service territory it shopping and in few guys are already in that business with the, although, you maybe revaluating it, on the retail side what are you guys seeing in what are you expectations for shopping, given the lower power prices in many cases, now what we are seeing in current pullers I mean what kind of on you looking at 2010, 2011.

How should we think about what your expectations are in the ranges you are giving us with respect to A. the economy and B. because of course that could have on puller, but also on the level of shopping we might see princes in Ohio we’re are seeing some pretty aggressive shopping and low migration. What you guys seeing in your neck of the woods?

Joe Rigby

We are focused around our assets in the PJM territory and we have not seen migration as a huge impact. What we have seen as an impact is the very mild weather and some of the economic impacts that, taken demand below where expectations were.

Paul Patterson – Glenrock Associates

So you don’t expect much in the way of shopping in 2010 and what do you expect in terms of the economy in 2010?

Tony Kamerick

The economy, we are expecting, I guess from our stand point, we’re expecting more normal demands to come back into 2010, more normal weather, more normal demand.

Paul Patterson - Glenrock Associates

How hedged were you guys for 2010?

Joe Rigby

We have not given that number out, but we have said in the past, that we’re about 60% hedged. We’ll provide 60% of our range.

Paul Patterson - Glenrock Associates

Then on the financing, you mentioned the S3, and I was just wondering, you mentioned how much it would satisfy over that period of time and that you don’t plan to issue debt or equity this year. How should we think about 2010 and potentially equity being issued then?

Tony Kamerick

We’re working on 2010 as we speak and we are probably going to be able to give you a little more clarity of that in the fall. Right now, we have a whole slew of options that we’ve got on the table and we’re looking to minimize the amount of financing that needs to be done. I cannot give you any real specifics at this point.

Paul Patterson - Glenrock Associates

Okay and then finally, ROEs for your service territories. Where do they stand now at the end of June? That the actual earned ROE, such you guys are having, you guys have several rate cases going on. I was just wondering, what kind of ROEs you guys are currently earning?

Tony Kamerick

I have a table by company. This is the recorded return on average equity. Atlantic City is 8.1, Delmarva is 7.0 and Pepco is 8.4. Remember that’s a 12 month return on average equity and obviously includes the impact of the higher pension expenses.

Operator

Your next question comes from Andrew Levy - Incremental Capital.

Andrew Levy - Incremental Capital

So 2010, you’re hedged about 60%. 2011, can you give us anything there?

Tony Kamerick

I’d say about 55%.

Andrew Levy - Incremental Capital

Just back on the dividend, I understand your desire to want to keep it for the shareholders. Just looking at your earnings power, which is probably below the dividend this year and uncertainty going into next year, and you need to issue equity and possibly. I’m just trying to figure out in good conscious, how you can maintain the dividend as $1.8? Just kind of looking at the financials and being a financial analyst myself, I’m just trying to figure out how you can do that?

Joe Rigby

I think the way I would respond to that is, that we made it clear going into 2009 that we expect it was going to be challenging and it clearly has turned out to be that way. We also see the dividend as a very important part of our value proposition and frankly we just take a longer view beyond the near term or 2009 performance.

In our view, we have growth drivers that we think are going to impact PHI in 2010 and beyond. Our board clearly factors this into our deliberation regarding the dividend, as most recently just this last month. I would simply say that we remain committed to the dividend.

Andrew Levy - Incremental Capital

Do you think the rating agencies have any issues with it?

Joe Rigby

They have not indicated any. I’m just telling you, we have seen some recent publications from both S&P and Moody’s, affirming our ratings.

Andrew Levy - Incremental Capital

So that’s before you came in with the second quarter tough right?

Joe Rigby

Moody’s issued one just the other day.

Operator

Your next question comes from Dan Eggers - Credit Suisse.

Dan Eggers - Credit Suisse

You declared on the hedge percentages, that you guys are talking about. I’m assuming the bulk of that percentage hedges really going to be the capacity revenues. Is that a fair distinction?

Tony Kamerick

Yes.

Dan Eggers - Credit Suisse

So the energy margin would still be open, wherever the market will take us?

Joe Rigby

We do have some of our energy margins hedged and some of our markets margins hedged as well. You’re right, the vast majority of that earnings certainty might here, revenue comes from the past due markets.

Dan Eggers - Credit Suisse

Then the breakdown in earnings of Conectiv in the quarter, I think there were kind of some losses that you have operations and some of the other pieces, then capacity revenues was the positive piece in a quarter. Can you just explain to me why those gross margin breakdowns will be negative?

Joe Rigby

That net energy margin, you might say did appear negative for a couple of reasons. What we’ve rolled in there, is of course the energy margins that we receive when we dispatch our units. We make it very, very clear, we dispatched our units with a positive contribution at all time; covering our spot fuel and variable O&M, plus the margin and that’s how we bid our units in and if we get picked up, we provide some contribution.

So, that’s still as positive. Even though, as we mentioned before the spreads that we are receiving and the volume that we dispatched here David is very, very low. So make no mistake, we dispatched our units and provide positive value.

However, against that we have layered in some of the demand charges that we have around our guest supply infrastructure, our fixed costs that we have in our portfolio, around stores and transportation that we used to ensure deliverability of gas in summer and winter months.

We also have taken into account rolls into that, the negative points we’ve mentioned around the economic fuel hedges, some of the hedging activity that we have done around our contract with load service, as well as some of the fuel hedges that we have in place here today. When we bring all of that together, it does wind up to a negative number, but we dispatched our units certainly at a positive margin.

Dan Eggers - Credit Suisse

This year you guys assume of your 270 adverse margin net Conectiv. 160, 170, of it is going to be capacity revenues. That’s the right number, correct?

Tony Kamerick

That’s for the year, yes.

Dan Eggers - Credit Suisse

I just want to make sure how much of that was core value. On the utilities in the quarter, the Atlantic City issued a $0.05 difference on [unbillables]. If it doesn’t happen often, is there visibility to getting the $0.05 back this year or is that kind of with the down demand that connects with the loss revenues?

Tony Kamerick

Dan, we think we will get it back. It’s just a question of when. We don’t know how the thing will play out to the balance of this year, but typically over lengthy periods of time, it does tend to wash out.

Joe Rigby

This accounting process is been in place since 1982, and it’s typically not had a significant earnings impact.

Dan Eggers - Credit Suisse

On PES, volumes were quite robust in the quarter kind of given the a little bit more of an arms length view of the business versus you guys discussed at the analyst day. Can you kind of talk about how volumes fill up this roll. That had given (a) how bad the economy was, (b) kind of the strategic review and should we be rethinking the contribution of PES for this year?

John Huffman

I think the simple answer, why the volumes were as high as they were is that, the weighted averaged term of our contract backlog is about a year and a half. So, it simply takes time for them to roll off. We haven’t changed our collateral free hedging approach, as you know that’s made us less competitive and our customer retention rates continue to be below 10%.

As an example, of the 1500 megawatts of contracts that have been up for renewal this year, we only won about 100 megawatts of those. Now, some of these contracts have expiration dates beyond June. So, I think you are going to start to see the effects of our approach.

For example, our load at the end of June was just slightly below 4000 megawatts and that’s the first time it’s been below 4,000 in two years, and that’s down about 12% since our peak late last year. We are expecting that’s going to probably drop off below 3500 megawatts by the end of the year.

So, we just have a good solid backlog that they have longer term contracts. I did want to note given the low price and low volatility, commodity environment our gross margins have benefited significantly. For the first half of the year, they were in a $7 per megawatt hour range, so which is certainly ahead of our expectations for the first half of the year. So, for the rest of the year, it really will depend just on the commodity environment.

Dan Eggers - Credit Suisse

The guidance you guys gave incorporates pretty atrocious East Coast demand for power in July?

Gary Morsches

We have factored in July as well as current market poor markets for the rest of the year.

Dan Eggers - Credit Suisse

One last question, I’m sorry for being a hog, but on the utilities, how much did the decoupled rate mechanisms protect you in the quarter relative to kind of the drag you saw because of lower demand?

Gary Morsches

We don’t have that specific information. We see that the decoupled revenue quarter-over-quarter, year-over-year is modestly, it about the same generally flat.

Joe Rigby

I would just also add it just on a relative basis, what we saw in Delmarva with Delaware and Atlantic City Electric was on a comparative basis, more negative on a usage and obviously those two jurisdictions are not under the BSA of the decoupling.

Operator

Your next question comes from Paul Ridzon - Key Bank.

Paul Ridzon - Key Bank

Of the 270 of this year of gross margin that appears locked. How much of that is take or pay on the other side of the contract?

Gary Morsches

Take or pay, that’s not really the term we use in the power markets. I mean, those revenues are locked in through the RPM capacity markets with PJM. They’re locked in through load deals that we participated in, fixed price load obligations that we had. They’re locked through hedges around our fuels. They’re locked into hedges around our expected generation output. They’re also locked in with some of our marketing deals, within our portfolio.

Paul Ridzon - Key Bank

So, I guess the concern is that you thought you were going to have a certain load profile and then weather in the economy reduced a different load profile, but there’s no obligation for counterparty you take what you thought you’re going to sell?

Gary Morsches

That’s right. We have kind of a slight system type of arrangement there, so its full requirements and we’re responsible as part of these auctions to provide that’s like the system, that polar type of service. When years passed, we’ve used utility information. We’ve used stores to come up with what the expected load is.

We hedge against that load to lock in a margin in this year, we’ve seen demand much, much lower, which left us you might say, over hedged in a falling market, which actually hurt us, but we do act, we are very active in monitoring this and understanding just any movement in that load obligation and manage accordingly.

Paul Ridzon - Key Bank

How much of the power that you’re obligated to supply is typically self-generated as opposed to obtaining through market purchases?

Gary Morsches

That vary is based on the location of the cuts of the utility we’re serving, but the other thing to think about it, our units are really mid there and peaking. We don’t have a lot of base load, so we bring it into our portfolio and it varies, based on again low shape of the particular utility that we’re serving.

Paul Ridzon - Key Bank

When you procure power to meet, when these polar obligations, are you locking in fixed volumes and weren’t volume metric risk? Where do you have some flexibility on how much you’re required to take?

Gary Morsches

No, we typically do things on a fixed price basis. We try to match up our fixed base obligation with the fixed price purchase and that fixed purchase, could be in the form of power, because to be on the form of fuel that we are going to run through our units to meet that obligation.

Paul Ridzon - Key Bank

Do you have volume flexibility in what you are required to purchase?

Gary Morsches

Typically not, volume flexibility is a very expensive product out there. It’s via liquid and it’s not something that we are very active in. So we do take on some volume risk you might say, in meeting our portfolio, but then again we can lien on our portfolio on the flexibility of our portfolio to meet these obligations effectively and economically.

Paul Ridzon - Key Bank

One of the drags on the quarter was a swing from a positive mark to a negative mark, how much was that swing?

Gary Morsches

I’m sorry. I don’t understand that the positive mark to a negative mark.

Paul Ridzon - Key Bank

You had a positive mark on fuel hedges last year in the second quarter and this year. It sounds, it drove the mark was negative.

Gary Morsches

The difference between Q2 of 2008 and Q2 of 2009, we’re on our economic fuel hedges was about $15 million.

Paul Ridzon - Key Bank

That’s pretax?

Gary Morsches

Yes.

Operator

Your next question comes from Dan Jenkins - State of Wisconsin Investment.

Dan Jenkins - State of Wisconsin Investment

I had a question related to the MAPP, the transmission project. Now that you know the status is kind of an updated, I was wondering if you could give us what the CapEx schedule by year is, and when is that going to start this year?

Dave Velazquez

We actually have published that in a table and we’ll publish in a table. The total, I guess by utility through 2013 for Pepco is $500 million and about $540 million for Delmarva Power and by year it kind of builds up $55 million in ‘09, around $140 million in 2010, about $300 million 2011, and then 2012 about $320 million, and 2013 about $235 million. Total is about for those years is about $1.04 billion. The total of the project for the entire project is now $1.2 billion.

Dan Jenkins - State of Wisconsin Investment

The quip will about be included for your transmission rate. So what would we expect some margin in those costs are spend?

Tony Kamerick

Yes, that’s true.

Dan Jenkins - State of Wisconsin Investment

Then I was also wondering, you mentioned that the Cumberland CTs was placed in service and what kind of impact will that have on your rates and margins?

Gary Morsches

Again, you ask that did come in service on time on budget. Actually, we had a budget on June 1. We built that into our model and we gained energy revenues, as well as ancillary revenues on the order of about $4 million to $7 million a year and that’s build into our 2009, ‘10, ‘11 forecasts.

Operator

Your next question comes from Maurice May - Power Insights.

Maurice May - Power Insights

I’d like to go over the rate cases that you have filed and plan to file soon and try to determine the timing of the rate relief. When you expect the decisions will come? Then your guess is to whether or you can actually earn the authorized ROEs that once we get?

Tony Kamerick

In the quarter we did file our Delmarva Power rate case in Maryland, asking for $14 million. The procedure of schedule for that case would have final briefs filed on November 2. So we’re anticipating that a decision will be out in December, well within the seven month statute that Maryland have.

The Pepco case that we filed recently in the District of Columbia that Joe covered is a $52 million case. The procedural schedule for that would have the final briefs filed on December 22. So we’re fully anticipating that the commission will stick with its nine month hearing decision history and that would result in a decision sometime late February, early March of next year.

The Atlantic City case, that we’re working on right now, as Joe said plan to file later this month. We would expect that case and we’re urging the commission to finish that case and have a decision out within 12 months. We know the last case in New Jersey lasted a bit longer than that, but, it is our hope that the commission would have a decision out in 12 months.

The case that we’re going to file in September that Joe mentioned in Delaware, Delaware does have a seven months statue. So we would expect that decision to come out in early next spring on next year. Also in Delaware, there is a provision where we can put up to $2.5 million of our rate increase into effect in 60 days, subject to refund and typically, we’ve been allowed to do that. So those are the four cases that are really peculating.

Maurice May - Power Insights

What about Pepco Maryland?

Tony Kamerick

It was about to mention, Pepco Maryland, we think that our original plan was to file that sometime in early 2010. We’re reevaluating that with the hope, maybe to advance that. I’m not promising anything specific dates. If we can, we would like to advance that into late this year. Again, at the seven month statute if we can get something, for example in November, then we’d have rates in effect by next summer.

Maurice May - Power Insights

Then your possibility for actually earning authorized ROEs.

Tony Kamerick

In each case, we are being very aggressive with forward looking types of adjustments, as Joe mentioned. We are looking to trying to get the pension in the OPEB costs built into a three year average kind of a tracking mechanism. We’ll cover that through a surcharge and that should help some of the regulatory lag. We are also going out with several reliability related, rate base types adjustments.

So, we are being as aggressive as we can be to get forward looking adjustments into our test year. We are also very likely to file in New Jersey a forecasted test year. So, again I can’t guarantee anything, but we are doing everything that we can do. I think to try to get the rates, to actually produce the rate of return that they are designed to produce.

Maurice May - Power Insights

Can you go for decoupling in New Jersey? Is the forecast test year away of trying to...

Tony Kamerick

We are still working on decoupling in New Jersey. They haven’t shown as much inclination for it as we have seen in our other jurisdictions. I’m glad you brought that up, because I do think we’ll get a decision in D.C. sometime late summer early fall and of course, Delaware has already made their decision and it will get all of the details will get worked out in the rate case. So, we are hoping that by this time next year, we should have close to 80% of our sales in decoupling and then we’ll keep working on New Jersey.

Maurice May - Power Insights

I got a question for John. In Pepco Energy Services, do you have a projection for construction services earnings this year, next year or let’s say on an ongoing basis?

John Huffman

We have not published any projections in terms of our kind of build out at the growth of our ESCO business, but we are on track in terms of building that business to take advantage of what we think is a significant opportunity.

Maurice May - Power Insights

The ESCO earned $8 million in ‘08, didn’t it? Are you going to match that or beat that this year?

John Huffman

I expect that the earnings for the ESCO business ought to be pretty much what it was last year.

Operator

Your final question comes from Dan Eggers - Credit Suisse.

Dan Eggers - Credit Suisse

Just following up on the federal money you guys were looking for the meters and to help fund MAPP. How did that affect rate based growth? I assume on the smart meter money, if you get government funds that would not go into rate case. With the loan guarantees on MAPP, you still allow rate base additions.

Tony Kamerick

Yes, you are absolutely right. The loan that we hope to get from DOE for the MAPP project would simply affect the rates, in the sense that we would get a lower rate of borrowing on funds, but it would not affect the equity component of MAPP. So, it basically goes into rate based 100%. On the grant money, that’s not a loan, as you know that’s a grant. So, that does lower the rate based probe.

Operator

There are no further questions in queue at this time.

Joe Rigby

Okay operator, thank you. This is Joe Rigby. I want to thank you all for joining us and for your interest in Pepco Holdings. We look forward to speaking to you again soon and have a good day. Take care.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect and everyone have a great day.

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Source: Pepco Holdings Inc. Q2 2009 Earnings Call Transcript
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