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Executives

Gabriel Togneri - IR

Peter Darbee - Chairman, CEO and President

Bill Morrow - President and CEO of Pacific Gas and Electric Company

Chris Johns -SVP and CFO

Christopher Warner – Legal Counsel

Analysts

Greg Gordon – Citigroup

Dan Eggers - Credit Suisse

Jonathan Arnold - Merrill Lynch

Lasan Johong - RBC Capital Markets

Steve Fleishman - Catapult Partners

John Kiani - Deutsche Bank

Ashar Khan - SAC Capital

Patrick Forkin - Tejas Security Group

Michael Lapides - Goldman Sachs

Reza Hatefi - Polygon Investments

PG&E Corporation (PCG) Q3 2007 Earnings Call November 1, 2007 11:00 AM ET

Operator

Welcome to the PG&E Corporation third quarter earnings conference call. At this time, I would like to pass the conference over to your host, Gabe Togneri. Thank you and have a good conference. Go ahead Mr. Togneri.

Gabriel Togneri

Good morning. Thanks for joining our call to discuss third quarter earnings. Let me remind you, this is a simultaneous webcast and conference call and all participants are in listen-only mode. A replay of the webcast will be available from the PG&E Corporation homepage after the call.

Our earnings press release went out earlier today and it is posted on our website along with the supplemental tables including Regulation G reconciliations. We’ve also provided these materials in our 8-K report furnished to the SEC this morning, and we do plan to file our joint Form 10-Q report for the corporation and for the utility with the SEC today.

Before we begin the discussion, I’ll remind you our prepared remarks and the Q&A session contain forward-looking statements based on assumptions and expectations that reflect information currently available to management.

As we discussed in more detail in our press release and SEC reports, actual results may differ materially from those forward-looking statements. You should review our SEC reports to obtain additional information and to better understand the various factors that can influence future results.

Peter Darbee, Chairman, CEO and President of PG&E Corporation; Bill Morrow, President and CEO of Pacific Gas and Electric Company; and Chris Johns, Senior VP and CFO of the corporation; will take us through the quarterly results and other highlights. Other key members of our team are also here to participate in the Q&A.

And with that, I’ll turn it over to Peter.

Peter Darbee

Thanks, Gabe. We’re pleased to be reporting another strong quarter this morning. Total net income was $278 million or $0.77 per share. Given the strength of our year-to-date performance, we now expect 2007 earnings to come out in the top half of our guidance range for the year. Additionally, we’re reaffirming our 2008 guidance.

As you know, we continue to focus on our vision to transform PG&E into the leading utility in the United States. First and foremost, that means working to improve service to customers doing it better, faster and more cost effectively. We’re pleased to report that we recently took another big step towards that goal. Early last month, we executed a major transition to a new system that gives our field teams more efficient and more effective tools and processes. Bill Morrow will talk about this milestone in more detail in a few minutes.

Even with the success, however, we continue to have much more to do. As you’re aware, the goals we set for business transformation are aggressive and challenging and Chris Johns will speak more to this point in a few minutes.

That said, we’re firmly committed to moving forward on the path that we’ve set. We’re firmly committed to the vision and we’re firmly committed to delighting customers, energizing employees and rewarding shareholders.

A key part of that vision, as we’ve discussed many times, is continuing to build our profile as an environmental leader. On that front, I am pleased to report that so far this year, we have signed contracts for over 800 megawatts of new, renewable energy resources.

On our last call, we announced a major agreement with Solel Solar Systems to purchase over 500 megawatts of clean energy from a new facility located in the Mojave Desert. We’re continuing our support of solar thermal development. In fact, over the next five years, we are aiming to build a solar thermal portfolio of about 2,000 megawatts and this is equivalent to four new gas-fired plants on the scale of our gateway station.

Earlier this week, we also announced 150-megawatt contract with enXco Wind Energy. We also accelerated our arrangements to begin receiving biogas in 2008. This will be the first delivery of biogas under a new state regulation, which established biogas as a renewable resource.

As you know, one of the keys to expanding renewable energy is creating the electric transmission to support it. We’re aggressively work on this front with transmission investments like our new central California clean energy line or C3ET, which will provide the necessary transmission capacity to access the Tehachapi Wind Region. We are making great progress towards our renewable goal and we expect to have deliveries and contracts for future deliveries that will total at least 20% by 2010.

With that, I would like to turn it over to Bill Morrow for an update on our operations.

Bill Morrow

Thank you Peter and good morning, everyone. This past quarter was particularly important for us because we met several milestones that confirm one, we’re doing the right things for our customers; and two, we’re making progress on a platform for an even better future.

I’ll touch on three areas: our recent customer satisfaction report from JD Powers, a major automation and centralization milestone, and an update on the SmartMeter project.

JD Powers has completed their gas residential surveys across the nation and we’re thrilled to report that we’ve moved from the 20th position last year to #5 this year. This top docile ranking was achieved with gains in nearly every measured component. Most improved was the company image and communications with our customers. This is the last of the four-benchmark surveys for this year. As we previously reported, our electrical residential performance improved and we’ve made our biggest gains towards the leading utilities in the United States with our gas business and our electric business segments. Here again, we feel there’s still much more to do and we have many other improvement initiatives underway.

Just one example I would like to share with you is our new customer connection process. During the quarter, we completed the rollout of our new process and we’re encouraged by the results that we’re seeing so far. We’ve reduced the number of internal handovers by two-thirds, and we’ve shortened the time for us to install the service to half of what it was before.

Now, as I believe you’re aware, there are many process reengineering efforts underway in the company, but earlier last month, we met one of our more important and likely the largest reengineering milestone in the history of the company. We moved from a labor-intensive complex set of processes around how we initiate, plan and schedule our work to one that integrates a standard, highly automated and centralized approach. Field crews will have materials and supplies delivered just in time and tailored to their jobs. Dispatch and work resource coordination centers will be able to more effectively use our field forces. Managers, for the first time, will have improved tools to track and manage productivity and quality. We expect to see improved effectiveness with a lower cost structure, as we perfect and refine this process.

Moving on to our SmartMeter project. Our project is on schedule and we completed the re-platforming of our customer care and billing system. Roughly 10 million SmartMeter will be sending large volumes of data to a centralized source. We need to be able to store, collate, cross-reference to a given tariff and then format the customer bill with this data. So this cutover will provide a more powerful platform and despite the complexity of the task and I’m happy to report that our IT team completed this in a near flawless manner. During the quarter, we also ramped up the meter deployment and were on track to have about 240,000 SmartMeters deployed by the yearend.

Now, as we reported last time, we’re evaluating some enhanced technology. particularly, around the communications portion of that technology. We selected two vendors for our pilot test and these are being set up as we speak. The pilot test will focus primarily on three areas. The communications platform using an RF mesh network; a home area network interface; and solid-state technology with integrated disconnect capability. We expect the initial field test to continue through the first quarter of ‘08 and if all looks good and we have the commission’s approval, we’ll expect to see deployment begin sometime in early ‘09.

We intend to file an application for the increased cost with the CPUC before the end of this year and we expect a decision from them sometimes toward the end of 2008. So in the meantime, the existing business case remains valid with the technology that we have and we will continue to deploy this as scheduled. Once we approve the newer meters, we do not intend to retrofit those already deployed unless there obviously is a compelling business case to do so.

So we frequently reflect back on the transformation progress of our company and we now have about two years of experience with numerous improvement initiatives completed. The lesson on what has worked well and where we could improve will help us calibrate the plan going forward and we’re doing just that.

So let me turn this over to Chris who can share a little bit more of the numbers with you.

Christopher Johns

Thanks, Bill. I’ll begin by discussing our third quarter results and guidance and then update some key regulatory developments. For the third quarter, PG&E Corporation earned $278 million or $0.77 per diluted common share on both a GAAP and non-GAAP basis. This compares to $393 million or $1.09 per diluted share on a GAAP basis and $310 million or $0.86 per diluted share on a non-GAAP basis for the third quarter of 2006.

Looking at earnings from operations, a primary driver of our earnings is rate-based revenue, which has increased by $0.09 per share over 2006 as a result of our general rate case and FERC Transmission owner rate case decisions earlier this year. As you can see from table 4 of our supplemental earnings tables, there were a number of nonrecurring type items for both 2006 and 2007 that resulted in the lower quarter-over-quarter results.

First, there were a few items positively impacting earnings in 2006 that did not recur in 2007. These include realization of a tax benefit from utilization of capital loss carry-forwards, recovery of energy supplier litigation costs and long-term disability plan savings. These items together accounted for $0.10 per share of a decrease in earnings compared to 2006.

Next, the delayed billing investigation decision had a negative impact of $0.02 per share. In September, PG&E was ordered to refund around $35 million to customers. The $0.02 per share impact represents the incremental charge in excess of the amount previously reserved. Increased storm and outage-related costs and lower gas transmission revenues compared to the third quarter of 2006 each had an impact of about $0.01 a share.

Miscellaneous items accounted for further negative impact of $0.04 per share. This reflects a host of different items including increased spending on business transformation efforts and a higher run rate on expenses for such items as hydro re-licensing activities and dry cast storage at Diablo Canyon. These increased expenses were anticipated and were mentioned in last quarter’s call.

Finally, looking at the GAAP comparisons, let me remind you that there were two positive items impacting comparability in the third quarter of 2006 that added $0.23 of EPS. In the first three quarters of 2007, earnings from operations and GAAP earnings have been the same.

Moving on to guidance, given our strong performance so far this year and expectations for the fourth quarter, we are confident we will deliver earnings in the upper half of our previously-stated guidance range for 2007 of $2.70 to $2.80 per share. Considering our year-to-date performance, this would mean operating earnings of between $0.53 and $0.58 per share for the fourth quarter. This fourth quarter performance would be comparable with the fourth quarter of 2006, considering the positive impact of our GRC and TL rate cases.

For 2008, we’re reaffirming our guidance of $2.90 to $3 per share. We also continue to target an 8% compound average annual growth in EPS from operations through 2011. As always, a reconciliation of our guidance for 2007 and 2008 earnings per share from operations to projected GAAP EPS can be found in our supplemental earnings materials.

Our guidance for 2007 and 2008 EPS from operations and our target growth rate assume that we continue to have a CPUC authorized return on equity of 11.35% and we earn at least 12% on our FERC jurisdictional business. It also assumes that we achieve our projected rate base of approximately $16.9 billion for 2007 and $18.7 billion for 2008 while maintaining our rate-making capital structure at 52% equity.

Our guidance and target growth rate also assumes that we will be successful in our initiatives to become more efficient and drive additional costs out of the business. As Bill mentioned, we have just rolled out a major initiative to automate the scheduling and execution of work in the field. Realizing the expected benefits from that release and other operational improvements is vital to reaching our 2008 forecast and 8% growth rate.

We, like other companies, are currently facing some growing challenges in our business environment. These challenges include costs for such items as materials, permitting, and labor, rising at a pace faster than what was included in our general case as well as increased reliability demands and expectations from an aging infrastructure. These rising cost and demands on our business increase the pressure on our initiatives to achieve greater operational efficiency.

We are currently in the midst of a top-to-bottom review of our plans for 2008 through 2010 and this includes a full review of our operations and spending levels as well as the timing and level of benefits we expect from our operating initiatives and the impact of regulatory orders. The identification of broader operational savings in the inclusion of energy efficiency incentives may be necessary for us to be able to achieve our targeted growth rate. Additional capital investment opportunities continue to represent earnings upside.

Just to be clear, it would not be advisable at this time to consider potential earnings from energy efficiency incentives as incremental to our 8% target growth rate. We’ll continue to explore additional efficiency efforts and business opportunities to offset the increasing costs in our business and we’ll also look to new initiatives and other opportunities for additional earnings contributions. We plan to provide a complete update in the first quarter of 2008.

Now, I’ll move on to a couple of regulatory items of interest. On September 20th, the commission approved the shareholder incentive mechanism for energy efficiency. While we view this as a very constructive decision intended to put energy efficiency on par with supply side generation investment, yesterday we filed a petition to modify that decision. Despite the positive policy, there are a number of technical issues involving the timing and manner in which the utility’s performance is evaluated that we believe would preclude PG&E from booking any earnings from incentives until the end of the three-year cycle.

We’ve been involved in constructive dialogue with the commission and along with the other utilities in California, we seek to add additional language to the decision, which would give us the certainty necessary to recognize some portion of the incentives or penalties on an annual basis.

Under the current incentives structure, we would have the opportunity to earn a maximum pre-tax incentive of $180 million over the current three year 2006 to 2008 program with a similar structure extending into the 2009 to 2011 energy efficiency program cycle. Risks and rewards under the incentive program are symmetrical. We’ll keep you posted as the proceedings progress.

On other matters, we’re on schedule to receive a final decision on our cost of capital case by the end of the year. We would expect to see a proposed decision in the next few weeks. As a reminder, this decision will pertain only to our cost of capital for 2008 and will not include the automatic adjustment mechanism, which will be contemplated in a separate case before the commission in the early part of next year.

With that, I would like to hand it back to Peter.

Peter Darbee

Thanks, Chris. I’m going to close with a few comments on the direction of our company and the industry in general. Increasingly, we are seeing the role of the utility beginning to expand. Not too long ago, we as an industry were solely focused on providing a commodity. While this remains at the core of our business today, customers are increasingly expecting more. We believe they’re beginning to look for companies that are thinking about such issues as global competition for resources and environmental pressures for alternative energy and we see this as a tremendous opportunity for PG&E.

Our customers are challenging us to provide them a sustainable energy future and we are rising to this challenge. While other utilities are still in the business of selling as much power as they can, PG&E’s leading the industry in adopting a new paradigm. We’re not only in the business of providing power that is clean and reliable, we’re helping our customers explore opportunities to use less of our product. We see that as providing them with higher value-added and they’re responding that they agree. This is evident in our improving JD Power scores.

Decoupling, combined with the recent energy efficiency incentive mechanism, gives us a true motivation to make our customers successful in becoming more energy efficient. We are working together to find ways to reduce our industry’s environmental footprint. We have worked hard to support and shape carbon legislation at the state and federal level. We continue to make our generation mix even cleaner and have fostered the development of new types of renewable generation resources.

Additionally, we are seeing utility customers demand better ways to help them manage their energy usage. Here again, we’re at the forefront. As Bill mentioned, we’re exploring the possibilities of upgrading our SmartMeter program to enable exciting new products and services through which we can help our customers take control of their energy usage.

As customers are demanding more from their energy providers, we expect the industry will see changes in the way we procure, deliver and consume energy.

In short, at PG&E, we’re not only developing strong results from our core operations, we are firmly focused on the future and helping to shape the direction of the industry. We’re doing it in a way that fits with what our customers are increasingly seeking.

With that, I would like to open it up for questions.

Question-and-Answer Session

Operator

Our first question comes from Greg Gordon - Citigroup.

Greg Gordon - Citigroup

Just to review your comments, you’re seeing meaningful increase in the underlying cost of doing business in the core utility. Therefore, just to translate what you said, you’ve got a very wide range of potential earnings outcomes depending on how successful you are in both executing energy efficiency -- obviously if the accounting is correct -- and the transformation program. But given the creep you’re seeing in overall of the business, all things being equal, you need a higher level of execution to achieve and/or beat your growth aspirations. Is that what you’re trying to tell us?

Christopher Johns

Basically, what we’re reiterating is the 8% growth and that in light of some of the underlying cost increases we’re seeing, we want to temper folks from adding automatically any regulatory order that would allow us increased energy efficiency incentives above and beyond that 8%.

So we’re taking a look at what those cost drivers are and then quite frankly, we’re looking at what is going to be that final order and what level of earnings with that energy efficiency program give us and what will our cost of capital proceeding give us at the end of this year, so that we can give everybody a better update in the first quarter of next year.

Greg Gordon - Citigroup

But there is also a larger question in that. There’s a huge range of potential outcomes on the effectiveness of transformation, which is embedded in the communications you’ve given us in the past, right. And you’ve indicated that, 100% of achieving the high end of those potential outcomes is, in fact, not necessarily baked in to the 8% guidance range.

So, I’m trying to understand, is it the energy efficiency gain, the energy efficiency earnings uplift that would be absorbed by potentially higher costs or the cost increases you’re seeing even more dire than that and also into some of the potential upsides from executing at the high end of your guidance on transformation?

Christopher Johns

I think I understand the question that you’re asking and what I would say is that, our transformation efficiency programs are continuing to move forward. Some of those programs were realizing better than expected benefits and some of them less than expected benefits. As we always do, we’re continuing to evaluate those.

I’ll remind you that when we provided the details around the transformation programs a year ago that we had baked in some piece of those benefits in the 8% growth and that was what we included during that timeframe.

We need to continue to evaluate those different transformation initiatives that we’ve got going on in light of these increasing cost pressures that we’re seeing, and we’ll give you a more detailed analysis of those results because right now, we’re going through a top to bottom evaluation of those programs and we’ll have a little bit more information in the first quarter.

Operator

Your next question comes from Dan Eggers - Credit Suisse.

Daniel Eggers - Credit Suisse

There’s been a lot of talk from the generators around pushing forward with this capacity auction in California. I was wondering if you could just stake out your perspective as far as how you feel that should work, whether it should work and what potential implications could be to customers?

Christopher Warner

This is Chris Warner from the law department. Yes, indeed, we’re participating with the stakeholders in the capacity auction issue. We believe there’s still more work to do on that approach. We’re not sure that approach achieves everything we would like to see. But we do expect to continue to work with various parties. We do think it’s very important to provide and meet the goal of providing certainty for a new generation in California.

Daniel Eggers - Credit Suisse

Along the lines of the generation needs, thoughts or an update on the procurement plan, when we could we could get updates on what all is going to layer into that and what PG&E’s role could be in developing new generation?

Christopher Warner

We definitely have a procurement plan in front of the commission and we do expect the commission to be acting on that in the near future. It does include a mix of power procured as well as utility-owned generation and we do believe that provides a good approach for assuring reliable and adequate supplies going forward.

Peter Darbee

Let me just add on top of that that we continue to see participation in the auctions for new generation as a key opportunity for growth for the company or certainly a significant opportunity for growth. So in the past, we have participated in them and are building a material amount of new generation for the State of California and our territory and we continue to view that as an opportunity and view it in a similar way than we have in the past.

Daniel Eggers - Credit Suisse

Any more clarity on when we could see a response from the commission on the procurement plan?

Peter Darbee

No. I think we expect sometime in the first quarter of next year, if not a little bit earlier.

Daniel Eggers - Credit Suisse

So, in the next two to three months we should probably hear something is the right take away?

Peter Darbee

Well, again, the schedule is a little bit unclear in terms of the amount of work the commission still has to do to prepare its decisions.

Christopher Warner

And I should probably just remind everybody who’s listening on the call this is a two-phase sort of procedure where the decision we were just talking about, hoping to get in the next couple of months, would set the level of identified need and that would be the level at which the various options for providing that need would come in.

Operator

Your next question comes from Jonathan Arnold - Merrill Lynch.

Jonathan Arnold - Merrill Lynch

Good morning. Just wanted to revisit Greg’s question, just if I could. I believe, I heard you say that unless you get the energy efficiency incentive order changed and find additional cost savings, it’s going to be tough to make the 8% number. Did you go that far?

Christopher Warner

No, Jonathan. I wouldn’t say that we went that far. All we’re saying is that as we go through our process of continually updating where we think we’re going to end up in our forecast for the next couple of years, we said that it wouldn’t be, at this point, the correct thing to do to just add the energy savings incentives on to the 8% growth. That we may need to use some of that to offset some of our cost increases that we’re seeing, or we may need to use all of it. We have to look at what level that would be based on what the final order looks like and what the program looks like.

Jonathan Arnold - Merrill Lynch

But isn’t that the same as saying that if you didn’t get the incentives, then it would be tough to make 8%?

Christopher Warner

No. We’re not trying to imply that either. We’re just saying that we have to balance all of our efficiency programs and our transformation efforts and any regulatory orders and have to look at all of those items. We’re reconfirming the 8% and we said that earlier. Its just that we want to balance all of those things in looking at how we get to the 8% and that we think that it wouldn’t be the right thing to do to just automatically add the potential benefits of energy efficiency program to that 8%.

Jonathan Arnold - Merrill Lynch

I had a just one other small issue you mentioned you’d be filing the incremental cost on the SmartMeter program shortly. Can you just remind us, have you said how much you think that might be? I don’t recall.

Christopher Johns

We did not say how much that would be. We expect that we will have to make a proposal as far as the dollars in that filing and so as soon as that filing gets put out, then we’ll go ahead and make sure that everybody is aware what the dollars will be around that.

Operator

Your next question comes from John Kiani - Deutsche Bank.

John Kiani - Deutsche Bank

Not to belabor the growth rate question, but if I think about what you said earlier, which is that the underlying operating costs served have increased since the rate case filing, could we think about it more as a potential timing issue in that longer term, you would catch up and make up some of that in your next rate case, because the cost structure would be much more reflective of the market reality.

Christopher Warner

Well, John, obviously when we go out and do the next rate case, the rate case proceedings require us to look at what is our current cost structure at that time and what is our rate base look like at that point in time. And they will address that on an ongoing basis in the future. When we’re talking about here is we’ve really been addressing that timeframe between now and the rate case in the next rate case. You’re exactly right. As we go into the next rate case, whatever our current cost structure is at that point in time will be what is debated and what gets included in our rates after that.

John Kiani - Deutsche Bank

Okay. And then can you remind me again what’s the latest you’ve said about any additional pipeline investment opportunities in the State of California?

Peter Darbee

Really, what we’ve talked about is the Pacific interconnector effort which is actually in Oregon and provides for a connection going from the north south pipe line over to Coos Bay and that I’m trying to think, Chris, what we’ve communicated in terms of the possible dollar opportunity associated with that investment?

John Kiani - Deutsche Bank

I actually mean aside from the Pacific interconnector?

Peter Darbee

We really haven’t spoken about specifically additional capacity adds within the state of California.

Peter Darbee

I think what we’ve said is to the extent that people develop opportunities whether they are LNG or other pipeline opportunities in and around the state, we would always want to look at any opportunities we may have then to make sure that we have connections to those. But that we haven’t mentioned anything specifically around any specific projects.

Bill Morrow

We talked a little bit about BC renewables as well in the past and that is still a project that is up in the air.

Operator

Your next question comes from Michael Lapides - Goldman Sachs.

Michael Lapides - Goldman Sachs

When I look at the average annual rate base that you published in your last investor presentation from October, so I think it’s page 20 of that presentation, when I look at those numbers, can you just kind of walk through and this may be a little repeat, little repetitive, could you kind of walk through the major project that aren’t in these numbers? That could or could not depending on approvals, wind up being incremental to what we’re seeing here on page 20.

Christopher Johns

I’d be glad to do that. The first one is the one is the one that Peter alluded to which is the Pacific interconnector project and that is a gas pipeline project in Oregon. We’ve been talking about it for a while. We did in this quarter make a filing with FERC to start the regulatory process on that. And that would be about a billion-dollar project of which we would be a one-third owner.

In addition to that, what Bill just mentioned was on the electric transmission side, we were approved by the commission to spend about $14 million to $16 million over the next couple of quarters to investigate the opportunity to build a very large transmission line up into western Canada that would give us access to their wind power and potentially some hydro power up there.

We don’t know exactly what size that would be at this point or what our participation would be but the project could be, I think we’ve said as much as $4 billion to $6 billion in the past as to how big that could be. But again, we’re just in the preliminary stages of looking at what that would look like.

Peter Darbee

And I would add on that that we would work with partners and so we would have a fraction of maybe $6 billion.

Christopher Johns

We continue to look at other transmission opportunities similar to that, we would go outside of the state and bring us access to renewable power. Finally, we’ve also talked about, in the past, the RFP that Chris mentioned which is pending before the PUC and that might us opportunities to own some additional base load generation through that process. We were successful in the last go around on our long-term procurement to get a couple of plans approved that we’ve been talking about, Gateway and Colusa, which are in our projections but for this next around to have additional generation.

We’ve also talked about in the past that we will continue to look at opportunities to invest in renewable resources in the form of ownership and in fact, in the latest RFP, we do leave that open for potential turnkey bids into that process where we might actually own some of the renewables.

So, those are the different things that we’ve been talking about that are outside of the base capital expenditures that we’ve been disclosing previously.

Michael Lapides - Goldman Sachs

Can you kind of give us an update on what it costs to build a new combined cycle in northern California these days? Just kind of on a dollar per KW range?

Christopher Johns

Our recent ones, we just went through and got the approval around the Colusa plants and the additional purchase power agreements and I think that they were in the range of about $900 to $1,000 per megawatt.

Operator

Your next question comes from Lasan Johong - RBC Capital Markets.

Lasan Johong - RBC Capital Markets

I hate to belabor the point, but on this energy efficiency thing, if you didn’t have it and you weren’t going ahead, what would the compound annual growth rate look like? Would it still be very close to 8%? Isn’t this six or half-dozen of the other whether you increase your production?

Christopher Johns

Lasan, I’ll just reiterate, all we’re telling folks is that that if we get the energy efficiency program incentives and the ability to recognize those on an annual basis, we don’t want people to automatically put that in excess of the 8% growth. We reiterated that today. We’re still saying we’re going to be able to grow at 8% and that we have to look at all of those different items as to helping us to get there potentially, but we just don’t want people to go beyond that.

Lasan Johong - RBC Capital Markets

You’re not going to tell us what it would be without the energy efficiency program? The growth rate?

Christopher Johns

Well, I think we’ve just said that we’re reiterating the 8%.

Lasan Johong - RBC Capital Markets

$158 million O&M cost increase. I think you said that there were three things business transformation expense, hydro re-licensing and something else, correct?

Christopher Johns

Are you referring to the quarter over quarter?

Lasan Johong - RBC Capital Markets

Yes. $158 million increase in O&M expense?

Christopher Johns

That is actually a series of items all of which are probably about $40 million or $20 million or less in different things and those include increases in labor costs, those include contracting costs. Implementation of information systems, maintenance expenses, the OII delayed billing penalty that we got this quarter. It’s a myriad of different items that quite frankly we detail and give pretty good detail in page 41 of our 10-Q that lays it out.

Lasan Johong - RBC Capital Markets

I’ll take a look at that. The SmartMeter, how many meters are left to install?

Bill Morrow

The program is of course to get up to about 10 million as I mentioned earlier. We are on target for about 240,000 at the end of this year. So the rest of them will come over basically about a four, four-and-a-half year program.

Lasan Johong - RBC Capital Markets

So, you’re basically telling me about 9.76 million meters will get these additional new features that you’re talking about?

Bill Morrow

Well, it depends, if we start deployment again, say in early ‘09, then obviously its going to be a lot less than that. But it will still be substantial. Again, I think the important point to recognize here is that as we look at our rollout, we’re going to take the existing technology and keep it contained to certain geographies and so that way we can keep our maintenance spares down, the training for our field techs in order to where we can get the economies that we believe are still inherent within that.

The customer will see the benefit associated with, let’s call it, this first generation technology. We’ll see the operational efficiency in terms of not needing a meter reader to be dispatched out there to read the meter. We’ll also have the improved reliability characteristics, which is about isolating a problem and knowing that everybody is back in service when our trucks are packing up and rolling out.

To go beyond that, with this new technology, again, that wouldn’t really probably hit the customers until 2009, that’s when they are going to see more the idea of a kind of a demand response enhanced feature capability set, they’ll see an in-home with home appliance, smart appliances, smart thermostats, a whole new level of service to be able to manage from there.

As I mentioned, we don’t plan to go back and retrofit however many hundreds of thousands of meters would be of this first generation unless that incremental business case warrants us to do so.

Lasan Johong - RBC Capital Markets

The idea behind this new suite of features is to tie it into your energy efficiency program, is that kind of the way to look at it? Or is this in preparation for deregulating California?

Bill Morrow

Well, it actually is a platform that’s quite interesting and I do really believe that, you know, we have yet to even kind of think of the full potential that this platform is going to give us. The basics about operational efficiency again, avoiding the meter reading are the biggest ones that we can put on paper today.

The second round, when you look at the energy efficiency and demand responses, the second category that we’ll get, another thing I would point out is that by putting in this communications RF mesh network, it enables us to move into kind of the smart rig concepts that I know many of you have already heard much about. But that is going to be fundamental for us to be able to grow in that area. So as we see more of a distributed power supply area, as we see different kinds of reliability techniques, this is going to help us to be able to deliver that.

Operator

Your next question comes from Steve Fleishman - Catapult Partners.

Steve Fleishman - Catapult Partners

Could you remind us when you expect a ruling on the rehearing on the efficiency order?

Christopher Warner

It’s not a rehearing. It is a petition for modification and those can take a number of months. We do hope that the commission will act expeditiously on this petition, so we certainly would hope they would act sometime early in the year but again, there is a due process. There are opportunities for other parties to comment so it could take a number of months.

Steve Fleishman - Catapult Partners

Secondly, in terms of the cost pressures that you’re seeing, could you just be maybe a little more specific, what areas those are in and how they’re different than what you would have anticipated under normal conditions? What’s really different now? Just inflation is higher?

Christopher Johns

You know, it goes probably a little bit beyond just whether inflation is higher. We, like a lot of other utilities and other companies, are seeing a lot of the material costs, so whether it’s copper, cement, some of the base materials that go into a lot of the capital projects is rising. Some of the contractor costs that we’re incurring for maintenance and other parts of our programs, external contractor costs, labor costs have gone up quite a bit. We’re seeing permitting costs rising also. So it is quite a myriad of different things. We have our own labor costs, which we have a good handle on, but we’re seeing increases in costs outside of that in the contracting that we’re doing externally.

Operator

Your next question comes from Ashar Khan - SAC Capital.

Ashar Khan - SAC Capital

Chris, I just want to go back and understand kind of the variances. As I look at you’re saying you’ll be at the upper end of the forecast for this year and then you’re repeating your forecast for next year which is, if I’m correct, still without energy efficiencies -- and correct me if I’m wrong -- that implies if I go to the upper end of the forecast, nearly like a 7% growth rate in earnings from around the upper point of this year to the upper point of next year.

We have rate-based growth of about 10.6% next year from the figures that you gave us, the latest today. I’m just trying to understand the comments this morning. Is it that the savings that you anticipated as part of the rate plan are falling lower than what you had in your assumptions which is causing the shortfall, or are you expecting a significantly different cost of capital decision at the end of the year which is going to lower the returns and hence these deltas are not going to hold up in terms of realizing the earnings which should come in for a much higher rate base addition next year, and what you have been able to achieve from a base this year?

Christopher Johns

I think that if you look at what we said today is that we’ll be in the upper half of 2007 guidance. I think that if you do the math on what it gets to next year, it will get you somewhere between the 7% and 8% growth rate which I think is consistent with the compound annual growth target of over a five-year period of time, the 8% that we’ve said.

We’ve consistently stated, you’re correct, that we have rate base growth of around 10% in a year-over-year basis here in this next year but that that doesn’t translate into EPS growth directly because we’ve acknowledged some of that is funded with more shares outstanding from equity; and in fact, we’ve issued about $120 million worth of equity this year through our 401(k) plans, our DRIP programs and stock option exercises and we’ve been very consistent saying that that would be one of the sources of funding that we would use to that and I think that reconciles those items.

The news is that we’re continuing to be confident about the 8%. We don’t know what the energy efficiency results will be and yet we are still willing to say that we anticipate growing at that 8% rate. So I think just so that there is clarity about it, that 8% rate doesn’t, right now, include anything around the energy efficiency because we don’t know what that result will be; but we do know that we have costs that are increasing on us and we want to have the opportunity to look at whether or not we’ll need some of the those energy efficiency savings to offset some of those rising costs.

So we don’t want people to automatically add that and increase the 8% growth rate above that.

Ashar Khan - SAC Capital

Right. But just going back, Chris, there are no energy efficiency savings in the next year’s forecast, is that a correct statement?

Christopher Johns

Yes. That is.

Ashar Khan - SAC Capital

And then, if I’m right, you have another two years left in your rate case plan, right? The rate case plan goes until 2009, am I right?

Christopher Johns

2010.

Ashar Khan - SAC Capital

2010. So going back to my question, are the savings that you contemplated out of your other transformational savings, are those behind schedule as we stand today?

Christopher Johns

Ashar, we haven’t commented on the details of the transformational savings. We don’t provide those details on an interim basis and we haven’t updated the expectations around what those will be for any given year. As we said, some of the programs are doing better than what was originally contemplated and some of them are not doing as well as originally contemplated. We’re going through our annual review process of what those will look like and what we’re anticipating those looking like in the future. We’ll communicate those in the first quarter of next year.

Operator

Your next question comes from Patrick Forkin - Tejas Security Group.

Patrick Forkin - Tejas Security Group

With respect to the SmartMetering project, you indicated that you should have 240,000 end points installed by the end of this year and that you were going to continue to install the existing technology in 2008. How many additional end points do you think you’ll get installed in 2008?

Peter Darbee

You know, we’re not revealing those numbers at this point. Maybe in the first quarter, when we come back to talk to you, we’ll talk a little bit more about what that deployment schedule looks like.

Patrick Forkin - Tejas Security Group

Are you evaluating the new technology for the electric meters and the gas meters?

Peter Darbee

Yes, we are. Because, again, we’re looking at a communication network that’s closer to what we’re using on the gas meter side today. So we want to be sure again that we’re consistent. We get the economies of scale. So we are addressing both of them.

Operator

Your next question comes from Greg Gordon - Citigroup.

Greg Gordon - Citigroup

You usually give earnings guidance update in conjunction with the fourth quarter earnings report, which would be in late February, is that correct?

Peter Darbee

We generally will do that when we give our fourth quarter update, that’s right. Our fourth quarter earnings.

Greg Gordon - Citigroup

Okay. Thank you.

Peter Darbee

Greg, I only hesitate because we haven’t scheduled when that would be.

Operator

Your next question comes from Michael Lapides - Goldman Sachs.

Michael Lapides - Goldman Sachs

Regarding equity issuance, can you talk about just through your current capital spending meaning the projects that have already been approved and that are outlined in various investor presentations, exactly how much incremental equity you expect to issue over that cycle?

Christopher Johns

We haven’t given any updates to that since the beginning of this year. And when we gave that in the beginning of this year, the number was about $750 million to $950 million. And again, we haven’t updated that. We did infuse $200 million earlier this year of equity into the utility from the holding company and as we’ve said that we do issue equity through the stock option programs and through our DRIP programs and through the 401(k) programs and those are things that, as I said, we’ve seen about $120 million this year.

But otherwise, we have not provided any updates on what the ultimate amounts of equity over the five-year period would be since we last did that in the first quarter of this year.

Michael Lapides - Goldman Sachs

Can you provide a high-level calendar for the filing process for your next GRC? I know we’ve still got another year and a half or so before we get down in the weeds into it.

Christopher Warner

We generally would be filing what’s called a notice of intent about a year and a half before the rate case would go into effect. Obviously, we go forward with the filing and hearings would take place over the year preceding the effective date of the new rates and then a commission decision.

Christopher Johns

So just to be specific, Michael, so that first notice of intent would be in the latter part of 2009. The complete filing at the very end of 2009 and then it would be litigated and decided in the 2010 timeframe for rates that would be effective January 1, 2011.

Operator

Your next question comes from Reza Hatefi - Polygon Investments.

Reza Hatefi - Polygon Investments

Some of the earlier questions centered around the energy efficiency and the increased O&M pressures but how do both of those relate to the transformation savings? Is there any update to forward transformation saving opportunities?

Christopher Johns

We are not providing at this point in time any updates on transformation savings. We’ve been pretty consistent over the last couple quarters. We’re going through a process of looking at all of our projects that are going on right now and we’ll provide an update on those in the first quarter of next year.

Reza Hatefi - Polygon Investments

Is the increased cost pressure sort of eating into the potential of the transformation savings? That is, if one was to think transformation savings was potentially going to be a benefit, is the new O&M putting pressure on that opportunity? Or is that not the right way to think about it?

Peter Darbee

I think, consistent with what I said at the beginning, is that we have to look at all of our transformation programs and evaluate what the cost pressures are on each one of those and look at what we believe their success will be. We’ll provide an update in the first quarter on that.

Operator

There appear to be no further questions from the phones.

Gabriel Togneri

All right. In that case, I would like to thank everybody for your interest today and I’m sure we’ll see many of you at the EEI conference on Monday and Tuesday. Thank you.

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