Duke Energy Corp (DUK) 2002 Q2 法說會逐字稿

Please stand by. Welcome to today's Duke Energy conference call. This is being recorded. Let me turn the call over to [inaudible] of Investor Relations for Duke Energy.

Good morning, everyone, thank you for joining our call. The second quarter of this year. Before we begin, I would like to point out some of the things we'll discuss today will be used on future performance and results, and will be forward-looking statements within the meaning of security clauses. I would refer you for special information to the company's file documents with the SEC. For those of you who may not be on, we're web casting the conference call at www.duke-energy.com.

On the call today, will be Richard Priory, our Chairman and President, and CEO, and Robert Brace, our Executive Vice President and Chief Financial Officer. We'll open will call with remarks and then take your questions. Also, we have gathered in the room our entire policy committee as we give you some information about where we are year to date and give you a look ahead and comments on our outlook, but people here to take our questions about the business -- [ indiscernible ] the group president of energy transmission. William Coley, groups from of Duke Power, Rich Shaun, the Chief Administrative Officer, and Dick, Executive Vice President and General Council. I will turn the call over to Robert Brace.

Thank you. Good morning, everyone. I hope you have all had the chance to review our earnings release that we had out this morning. I would like to briefly review the second quarter earnings and turn the call over to Rick and his comments.

Earnings per share In the quarter, were 57 cents, a slight increase over last year's earnings per share of 54 cents. For the quarter, it benefitted from new earnings from the west coast acquisition and from favorable weather conditions in the carolinas. Earnings per share for six months in 2002 were $1.05, compared to ongoing operations shares from the year to date 2001 of $1.27. The EPS excluded the 13 cent one-time charge that we took in the first quarter of 2001 that related to the cumulative effect of the changing accounting principles to the adoption of FAS 133.

Now, let me review EBIT for the second quarter. Duke Energy reported total second quarter earnings before taxes of $1005 million for the second quarter of 2002, a 14% increase over last year's results of $878 million. Franchise electric for the second quarter increased nearly 8% from $361 million in 2001 to $389 million in 2002. Primary drivers for the quarters were lower nuclear operating expenses, an increase in residential and commercial sales due to favorable weather conditions, partially upset by lower power cells to industrial customers. Natural gas transmission substantially increased its EBIT for the quarter by 121%, reporting EBIT of $1201 million for the second quarter of 2002. The increase in the EBIT is primarily due to the acquisition of West Coast Energy which contributed approximately $109 million during the quarter and the startup of the Gulf Stream Natural Gas System. The gulf stream system has reached commercial operation ahead of schedule, the operating partners received a $20 million construction completance fee, which benefitted second quarter results. Field services recorded second quarter EBIT of $41 million compared with $84 million in 2001. Higher operating expenses and lower NGL prices in volume had a negative impact for the quarter. NGL pricing for the second quarter averaged 37 cents compared with 48 cents for the second quarter of 2001. While the NGL prices are down from last year, they have increased from the first quarter average of 31 cents. The remainder of the year, we don't expect to see prices change significantly from the levels. Additionally, the company increases reserves primarily for gas imbalances with customers and suppliers like $12 million and took a charge of $6 million for storage inventory writedowns.

The energy services segment, which includes Duke Energy North America International Energy, and other energy services delivered EBIT of $335 million, a slight increase over last year's results of $328 million. EBIT from the energy services segment comprised 33% of total EBIT for the second quarter compared with 37% for the second quarter of last year. Beginning this quarter, we would advice the reporting segments within the energy services to provide greater clarity results and more transparency. We have made them business unit to stand alone entity. The business segment, North American wholesale energy has been renamed Duke Energy North America. And Duke Energy merchants is now included in the segment of the energy services. You will find in the financial bulleting a restatement of the 2001 statement of ebit and other services quarter by quarter.

Duke energy North America reported a decrease in EBIT for the second quarter from $2 so million last year to $196 million in 2002. These lower earnings for the quarter were the result of decreased gaps and power trading along with reduced stock spread and lower volatility. Results for the second quarter 2002 also include an increase in the fair value of the market-to market portfolio of $46 million, resulting from the application of improved and standardized valuation modeling techniques for all North American regions. Last year's second quarter included net gains from the sale of Duke interest in the tower and power plants while no divestures were completed this quarter. International energy reported an ebit of $67 million, which was basically flat compared with last year's results. Increased EBIT from its Latin-American and Pacific operations were offset by lower EBIT from the European portfolio due to lower levels and reduced margins.

Our Brazilian operations continue to deliver good earnings for the company. Any devaluation of the occurrencey is mitigated for the combination of locally denominated debt and a tariff with inflation that is adjusted annually. The fundamentals of the energy market in Brazil remain strong, and we believe there is upside potential over the next few years. Other energy services, including Duke Energy Merchant delivered $72 million in the quarter compared with a lot of $12 million in the second quarter of 2001.

Positive results for the quarter were attributed to increased project activity for Duke Daniel and the side of Duke Energy Merchant equity interest in Canadian ADA for a gain of $15 million. The profits recognized by Duke Daniel were construction of -- [ indiscernible ] is eliminated on consolidation of the Duke energy level. Also included this in this quarter's reported EBIT a $14 million net game on the side of Duke Engineering Services and the side of Duke solution says, which occurred early in the quarter. Duke ventures posted second quarter results of $56 million, including a one-time $30 million gain on the side of the Company's water access. Duke energy's exit from the resale water business is now complete. EBIT for the quarter also effected adversely by lower commercial project styles as presently sorted.

A few other items in the quarter, interest expense and long debt was higher, primarily due to increased debt with the acquisition of West Coast Energy. The effective tax write for the corporation in the second quarter was approximately -- approximately 34%, and that should be a good estimate for the tax rate for the entire year. The EBIT for the first six months of the year, Duke energy reported total segment earnings before interest and taxes of $1,752 million for the year to date and a 12% decrease in last year's results of $2 billion. The primary drivers is for the year to date results were increased earnings from the acquisition of West Coast proxies to be $171 million contribution, lower power cells in the Duke Power Service area primarily due to milder weather in the first quarter, decreased trading and marking activity at Duke Energy North America, and lower NGL pricing at field services.

Next, because it's tropical, I would like to counter Duke's financial acredity, then review our disclosures for trading and marketing operations. Duke energy continues to manage the familiar program in the centralized fashion and access the capital marks in a timely manner that is most advantageous to the company. We have a combined $2.8 billion of commercialboroing capacity. These programs of both Duke Energy and Duke Capital are supported by credit facilities of over $2 billion and we also have a letter of credit facility of $1 billion. The only ratings triggered are on the credit agreement on the multiyear portion of the credit facility where Duke Capital must maintain the credit rating of triple b or higher by two of the three main rating agencies to throw down any additional funds. These raise in triggers don't effect any already drawn down. The average now standing CP balances for the second quarter were $869 million and $930 million at Duke Energy and Duke Capital respectively. At Duke Capital, we have a 10% dp program of $1 billion that was related to the acquisition of West Coast Energy, which will be, um, repaid when we issue a billion dollars of equity or equity-linked securities toward the end of the year.

The average outstanding balance in the second quarter on our credit facility was $63 million. We also have extendable promotion note programs at took energy of $500 million and a Duke Capital for $1 billion and to our benefit, we maintain good relationships with our banking partners and -- which allows them to work with us on short term bridge financing for the capital markets and times favorable to us.

And now on to the trading disclosures. The first thing I would like to address is Duke Energy's daily risk or DER. The average DER for Duke Energy in the second quarter of 2002, was $1515 million compared to an average DER of $27 million for the same period last year. Considering the training portfolios, they were accrueable $6.4 billion, and our market-to market book, $1.2 billion. The forward value of the mark-to-market books was roughly an 1885 to 15 split in the total valuation of the total portfolio. The realization period, um, that's the period of the end-of the line contract in the mark-to market book or such that by the end of 2002, 22% of the book will be realized at the end of 2003, 40% on the end of 2004, 56%. The accrueable, again, cumulative percentages by the end of 2000, 9% will be realized by the end of 2003, 20% by the end of 2004, 31%. More than half the value of the mark-to-market book, as you can see, will be realized by the end of 2004.

For Duke Energy, the unrealized portion of the mark-to-market margin included the second quarter results, was $103 million, compared with a $68 million loss in the first quarter of 2002. The primary drivers for the increase of mark-to-market earnings for the quarter, the new contract and the $46 million modeling adjustment I spoke of earlier. We have provided in the earnings release and financial bulletin our financial statement, which includes a summary cap first statement and the complete income statement and balance sheet for the second quarter. A more detailed statement will be available when we file our 10 Q with the SEC in mid-August. A familiar -- [ indiscernible ] the percentage of our expected generation. The annual hedge percentages for the next three calendar years as of June 30th were the 2003, 72% of our expected generation output henceforward. For 2004, 56%. 2005, 55%. Thank you for listening to me. Next, Rick will talk to you about Duke Energy's view of the marketplace for the remainder of 2002 and give you a look ahead to 2003.

Thanks, Robert, good morning to all of you. I think it's my job to sort of look forward and give you a forecast with regard to where we believe we're headed. I think all of us on this call are well aware of the struggling economy that frankly all of us find ourselves in, the energy sector is not immuned to those effects and is suffering along with everyone else. You throw in the general crisis and market confidence, our challenges are clearly compounded. The current business environment will test our metal and the ability to remain focused on the long term value in & not be distracted by short term events is critically important. Duke Energy is doing it best to adjust our plan to accommodate the changing business environment at least as fast as the environment is changing itself. We do this in good times and, of course, we do this in times such as these, which are far more difficult. A look in the mirror and then the crystal ball prompted us to refine and adjust our business plan, which I'll discuss in just a moment.

But first, let me assure you as we hold the mirror to Duke Energy, we see a strong and healthy breath in the glass, our vital signs are strong, and we're in this business for the long term. The dark cloud that's looming over our industry offends just every sensibility, and every value upon which Duke Energy has been built. We haven't shied away from the harsh light of regulatory scrutiny, we won't dodge the issues, we won't pass the buck. If we identify problem areas, we'll move swiftly to take corrective actions. If investors require now levels of business detail, we'll do our best to provide both data and context of those investors. With our internal controls warrant change to reenforcement, we'll take appropriate actions rapidly. Duke Energy has completed his comprehensive investigation of trading activities following our interim reply last week's to the SEC's formal data address. That investigation concluded there is no material financial impact on the Company. Although there was no material financial impact on investigations in identified area for improvement in our trading operations, some changes have already been implemented and others are well underway.

With regard to our strategy going forward, Duke, as I said earlyier, is here for the long term. Our strategy remains sound and it remains on course. We create long term sustained shareholder value from a diversified portfolio businesses in market positions. We then maintain a strong and growing compliment of natural gas and power assets and are adept at optimizing assets and performance value. Our train business is a compliment of our business model and enhances our overall value potential. Our debt of risk management expertise allows us protection and opportunities to prosper through volatility, market cycles and various economic conditions such as the ones we're experiencing now. We work in an industry that might be under fire today, but it's also an industry providing a vital spark to our world economy. Energy infrastructure is critical, supply is needed, commodity risk management services are needed and valued, solutions and innovations are clearly needed to move through this period of time. Duke is focused on creating the maximum value possible in this current environment, but never losing sight of our need to prepare to capture upside when the market improves.

In my opinion, the current focus on energy traders and business in general, while fervent at this point, clearly disrupting, will prove in the long run to be very conconstructive. I believe the healthy approach is scrutiny of logic, not skepticism, reform based on reason, not reflex, and business change guided by values and not the overwrauth market. For the first half of the year, we resolutely held our own here at Duke Energy better and longer than most. But the recent dramatic softening of the market is clearly affecting our near term outlook, and we're accordingly adjusting our business plan .

Let me turn now to the view of capital expenditures, planned equity issuances and earnings guidance for 2002, that is the remainder of 2002 as well as '03 and '04. In light of the continuing weakness in the current market environment and our desire to maintain a strong balance sheet and financial flexibility, we are reducing our capital expenditure forecast for the remainder of this year and also for 2003, 2004. Our current expectation for cap ex spending this year is approximately $6.8 billion, excluding the acsuggestion of West Coast Energy. For 2003 and 2004, we expect our total annual cap ex program to be $4 to $6 billion, including a cap ex of $2 billion. You recall we previously estimated and provided guidance we would be spend on this order of 6 to eight billion this year and next, on ordinary maintenance plus business expansion.

For the year to date, Duke Energy capital expenditures have been $3.3 billion excluding the West Coast Energy acquisition. With the reduction and planned expenditures, Duke Energy's operating cash flow will fund a large proportion of our capital leads through this period. Through June 30th, $1 1/2 billion in capital has been funded by operating cash flows in 2002.

Let me move on to the equity question. As we have previously announced, we also expect to issue $1 billion of equity or equity-linked securities by the end of this year. This will enhance Duke Energy's ability to pursue good business investment and continue to provide financial flexibility for the company. As a reminder, we do continue to issue new shares through our drip plan which was -- which was historically brought in about $200 million per year, and 2004, I'll remind that you the two traunches of the mandatory convertibles in 2001 will convert to common equity in March and November, for a total equity of approximately $1.8 billion, including drip proceeds. The total number of shares for the conversion -- conversion dependent upon price but can range from 35 to 41, 34 to 41 million shares.

Now, let me move on to guidance with regard to earnings going forward. In light of the reduced capital expenditures for business expansion and the decreased earnings prospects from several business units, we believe earnings per share for 2002 is likely to fall at the lower end or slightly below our current growth range. And that equates to a range of $2.45 to $2.55 per share. Now, these lower expectations are primarily the results of reduced volatility, subdued commodity pricing in the merchant generation and the gathering across us from business, and reduced energy demand due to the economic downturn as we see it. For 2003 and 2004, we, again, have taken a new look at what we can expect from the very changing markets. We expect earnings per share to grow from perhaps 5 to 10% per year over the 2000 and base over that period. This projection includes expected lower results for Duke Power as we begin the seven year amortization of the $1 1/2 billion in planned expenditures called for by North Carolina's recently passed clean air legislation. This guidance also taking into the account the delusion effect of equity issues and the range is wide, admittedly, but I believe really appropriate in view of the rapidly changing business environment that we're faced with us as we make these forecasts. We'll review the guidance as part of our normal guidance strategic process going on, and, of course, the board reviews that in December, and we will normally come out and outline the results of that in terms of additional guidance or confirmation of existing guidance in January.

Now, with regard to operating reviews, while the trading and marketing industry is still reeling from the loss of trading partners, lower market liquidity, we believe the business itself remains an integral part of Duke Energy strategy. The business is a key part of our ongoing strategy of enhancing returns on our asset positions while providing very valuable business management services to energy customers around the nation. In short, they deliver a product that is valued in the marketplace.

Regarding Dina, well despite the market downturn and the many distractions going on, Dina has done during the second quarter of 2002, pretty much what it does best. The business has delivered critically-delivered energy to North Carolina locations -- excuse me, North American regions. During the quarter, Dina added 5,020 megawatts to its merchant portfolio, all ahead of schedule and underbudget due to a little hep from Duke Ford Annual, bringing its current operating portfolio to 12,671 megawatts. Our 1,000 megawatt expansion of moss landing in California, which began commercial operation on June 11th, certianly helped California move new a tight period recently. And then two units at our Marshal facility in Kentucky are currently scheduled for commercial operation in August. These new generation outlets will provide Dina with significant opportunities and the third quarter of this year as well as in the years ahead. Dina has also had continuing success in signing new origination contracts and the customers, some of which were recently announced such as Georgia Power and Nevada Power. Dina has done and stayed on dean with regard to putting this into service cost effectively, rapidly, and consistent with our hedging positions that we have had in those facilities.

Let me turn to gas transmission for just a moment. The good source of earnings growth and cash flow, of course, for 2002 and beyond has been the acquisition of West Coast Energy. Earnings from West Coast assetting are expected to be 3% per share in 2002 and 6 cents accretive in 2003. The expansion of Duke Energy's gas transmission business strengthens our cash flow from operations and lowers the risk profile of the Company.

As you know, we have several projects already underway to enhance and to grow this business. In Canada, we're building additional capacity on portions of the BC pipeline, we're increasing the storage capacity at Dawn Storage fields and in the U.S., the gulf stream pipeline began commercial operation in late May of this year, and Maritime's expansion in the Olalgonquin headline projects are expected to be in service in 2003. They have a lot of excellent projects expected to be moving into service over the next year and a half.

Field services continues to focus on optimizing its operations and working with gas producers to meet their processing needs. NGL prices have hovered in the mid-30s range this year, we really don't expect to see a change in what I would consider to be sort of ho-hum prices. It appears this is a stable pricing level for the remainder of the year albeit having recovered from the end of 2000, um, but the recovery seems to be flattening out at this point in time. Our business folks continue in their efforts and field services, they have more percent of proceeds contract to the contract mix.

In International, our international operations continue to build out the regional businesses. Our Australian team is working hard to complete the construction of the Tasmanian Gas pipeline, which will further enhance our portfolio in Austrailia, and the pipeline is expected to go into service in 2003, all the things are pushed there on the earnings guidance I have provided earlier. Franchised electric, I did power, earnings will be lower in 2003 as we begin the amortization of the estimated $1 1/2 billion of expenditures called for in the recently-passed legislation in North Carolina. This legislation provides a seven year recovery of approximately $1 1/2 billion, an estimated environmental compliance expenditures. These expenditures will be used to retrofit Duke Energy's pole, fire generation plant for the located North Carolina to reduce emissions of sulffer dioxide and sulfide. They are restricted, the limits set by the state would reduce emissions from 2000 levels by nearly 70% by 2013. The amortization of these costs is expected to reduce earnings by approximately 5% in 2003 and, of course, it's been figured into the guidance previously provided.

And you recall, we still have another year fast of the Katawba amortization in 2003 and the first half of 2004 of approximately $210 million and $105 million again, all of this which is included in our estimates. The rate free slightly reduces averages of the franchised electrics, it provides stabilized earnings over the last five years. Franchise electric service area continues to enjoy good customer growth and the residential and commercial sectors as we all know, the industrial load continues to experience a gradual decline as it's been doing for a number of years and also in response to the current difficult economy.

So let me conclude by saying the current economic slowdown is clearly effecting companies within energy and across sectors. Duke Energy is certainly not the first company to adjust its outlook, and I'm sure we won't be the last in response to these changes. By the defining attributes to the generated outstanding growth over the last five years, we will use that force that gets us through this current period. The financial strength, our business diversity, our top-notch asset base, and our test and improved talent of our team, gives a stable footing to climb upward.

We believe in the viability of the energy trading and in the long-term lasting strength of all of our business lines. We're a company with a long history of resiliency, resolve, and staying power. We'll get through this tough time. We're tightening our capital spending, we're focusing intently on asset optimization, which have been a long-term superpoor skills at Duke Energy. Energy will play a key role in reignighting the economy, and Duke Energy is uniquely positioned, the supply and demand balance and for structure reliability. At this point, let me go ahead and open the mike, if you will, for questions.

Thank you. Today's question-and-answer session will be conducted electronically. If you would like to ask a question, please press star one on your telephone. We will take as many questions as time permits and we will proceed in the order you signal us. Again, if you do have a question today, please press star 1. We'll go first to Andre Mead.

Hi, Andre.

Good morning. First of all, I would like to -- give a compliment on your package of information here. It's probably the best I have seen, the balance sheet and cash-flow statement, I would appreciate that. Question, um, Duke Power rate agreement, let me make sure I understand this, I was under the impression you had to, um, spend a billion 5 in capital over 70 years on the SCR on your coal plants and stuff like that. The way you worded it sounded like, you know, and then -- I'm sorry -- the decreased earnings would be from added interest cost. Do I have that right because it sound sounded like you might be expensing this.

Well, we will be spending some of the money and there will be -- there will be interest costs and there will be amortization of the amount as time goes on. So, over the seven years, most of them, $1.5 billion to be amortized. The agreement as a whole also includes, um, a rate freeze for a five-year period.

So you're -- you -- you book the billion five in up front and amortize that as a regulatory expense over the seven years or -- what exactly are you amortizing?

That's correct

That's right.

Okay, and then effectively to, what, check your roes over the seven-year period?

Well, it's just the way that it works under the regulatory system, you know, you spend the money, you get capitalized interest, you get excess and amortize it.

Okay.

There is a period that has been agreed, um, and will be amortizing over that period but, you know, we'll be running with the rate freeze.

Okay. If you look back at Duke Power's cap ex, from '95 to 2000, it ran $6 or $700 million, and then '01 and year to date, '02, it looks location it jumped up to a billion, billion 1. Now, going forward, you know, you're adding $200 million a year on top of that. Do you expect you know, around a billion 2 range for the next seven years or is '01-'02 somewhat higher because of cap ex?

Let me ask Bill Coley to address that.

There are several things driving cap ex over the near term a littlbe bit higher than we have historically seen, and those expenses, are, number one, we're building new -- units in Millcreek in South Carolina so there is cap ex from the new generation. We also have a capital investment program which, um, allows the plants to run 20 years before they're, um previous operating license, so we're spending a good bit of money in life extension of those units since we received, um, extended operating licenses. We also have cap ex associated with sers being installed, SERS and the station, we're installing them now at Millcreek, so what you're seeing right in the near term, the next several years is higher cap ex than what you would see, driven by other generations.

Okay. Okay. Great, um, going to your, um, mark-to-market claim that resulted in $46 million gain, can you go through exactly what was raised, why, what is this new more standardized valuation technique that you're using?

What we did -- what we did is we looked at the -- we looked at our modeling technique and we had, um, we had one modeling technique that we used in the west for the western trade, and we had one modeling technique that we used in the east. They were both acceptable, and they were both fine. What we tried to do was to improve the modeling, um, and make it more accurate and to make it consistent, which is always a good principle. In doing so, we then applied it this quarter and we came up with a $46 million one off adjustment. This modeling was something that was done by Rich Osborne and the, um, credit, the risk management organization. It wasn't something that, you know, the traders invented. We think it's a more accurate method and we're comfortable with it, and we still think we're in a very conservative zone here, and it was not motivated by anything other than trying to get better and to make it consistent.

We'll take our next question from Kit Connolly.

Good morning Rick and team.

Hi, Kit.

I wanted to ask a little bit about your new generation coming on line. You have, I guess, 5 or 6,000 megawatts coming on this summer, just come on, another 4,000 next year. I think the previous guidance was to look for EBIT in the ranges of 75 to 120 per kw, um, can you give us an idea if that's still a rage that we should be looking at -- a range that we should be looking at, and beyond that, can you talk a little bit about the plants that come on without contracts what, you know, how -- what -- what -- what kind of economics you're looking at for them. Our sense is you're looking at a fairly poor, sparse-spread environment, um, you start with kind of low numbers there and try to build into a contract. How should we view that process as the new plant comes on line?

I'm delighted to tell you, Kit, we're prepared to address those questions. Harvey is here for that question.

What we're going to be putting on a total of 5600 megawatts this year, and 4300 megawatts next year. The range of, um, Dina EBIT earnings is normally in the 75 to $120 per kilowatt range. We're currently projecting about the second of that range. As Robert mentioned before, we have 72% of our, um, production hedged out for '03 and he gave his figures for '04 and beyond, as the year progresses, we seek to continue hedging out the portfolio to the extent that portfolio is unpaid for budgeting and planning purses. We look at the market projections and determined where our plan needs to be.

Thank you, Kit.

Thank you.

We'll go next to Andy Levy at Bear Wagner

Hey, Andy

Hey, how are you, Rick?

I'm good, thank you.

I think most of my questions have been answered. I'm curious what is going on in North Carolina and South Carolina, and whether there has been any new developments as far as the investigation or any depositions done by the top executives or anything like that.

Okay, well, first of all, Andy, we have never been able to satisfy all your questionings. I'm glad we're getting close. The question with North Carolina, and I assume you're talking about restructuring or the accounting issue?

The accounting issue.

Oh, yeah, the accounting issue as you know has been ongoing for quite sometime. In fact, I lost track of how long it's been going on, but I think know there have been final cleanup efforts, I understand the report is nearly complete, um, and I would anticipate that in terms of the information being requested by the commission from the investigation probably going to be made available in the next month or so, I would think, to the commissions, and the commissions will make a determination with regard to what to do with that information. We feel very good about, um, the quality of the information, the people, and everything else else in that regard. We have not been surprised by anything in this process at this point. We're not surprised by anything.

Any of the top executives deposed the last several weeks, and if so, why, and what was in the depositions, if you can share with us.

Um, the general council recommends it's not worthwhile sharing.

Okay, but they have been depose. [ indiscernible ]

Yeah, we have an ongoing investigation, Andy, um, and in that process, there has been a whole series of depositions.

Okay.

Which is part of the process.

Okay. And, um, I just want to also understand a little bit more this, $46 million enhancement through the mark-to-market accounting, can you give us anymore details exactly what kind of was switched around or --

Let me let Rich tell you what why he switched around, if that's why you call it.

Okay.

First, I want to make sure that everyone understands that we're very sensitive to the issues that are out there in the marketplace. We're continuing to use our consistent process for dealing with this for effectively marketing, to providing a conservative reserves, and we continue to do that because there is no basis to change that if there are adjustments and regulation or what have you, which rears to change, we'll change in a New York minute. We have been doing it confidently and continue to do so. I will turn that specific question over to Rich Osborne.

Thank you, Rick. I wouldn't characterize it as switching it around. I think Robert did lay it out. We have, um, regularly reviewed the assumptions we have used in calculating the value of the various portfolio. We did several thing, um, this past quarter. First of all, we tried to get more consistent between, um, the Dina operations in the west and the east and got them aligned and put them on the same time cycles, so we'll be reviewing the assumptions quarterly at the same time for all the trading. And this is part, really, of a general restructuring of the middle offices, the consolidated middle offices across the corporation, and made them more consistent in their procedures and operations. If you look at the specific drivers of the change and valuation this past quarter, um, part of it was just a consistency as Robert described, and then you had change in volatility and change in correlations, and I think without going into the details, the larger single driver was a correlation changes, and that actually makes perfectly good sense, Andy, if you think about it.

The spike in prices in the first quarter and second quarter of last year in California, um, really compressed correlations because when the prices were taken up, the gas, taken off the gas and the power prices, um, the correlation between the, um, the two became much higher and now that we have returned to more normal price patterns in, um, the west and the east, corlegs have been reduced to what are probably more typical levels and that reduction in correlation leads to greater optionality and greater value in the books and -- and that was the single largest value. And this is -- as Robert mentioned, this is a process we will do every quarter in order to make sure our valuations are, um, as accurate as they can be.

Thanks, Andy.

We'll take our next question today from Ford Brent at Merrill Lynch.

Yes, good morning.

How are you?

Great, thank you. One quick question, as you, of course, all know, many -- certainly many of my customers invest in Duke for one primary reason, and that's the safety that proceeds the safety of the dividend, um, do you an sis -- anticipate any change in the dividend policy? Obviously Williams' company was devastated -- devastated yesterday when they reditiond their dividends yesterday, I realize we're comparing apples and oranges, but my question is how safe is the dividend?

I think it's apples and originals at this stage in the game, particularly after we reviewed the state, the financial state of the Company, but I can assure you in all the forecasts you have seen, all the earnings projections and what have you, the issue of reducing the dividend, um, never surfaced. We just, um, we believe it's just as solid as solid can be based on what we see going forward.

On that that being the case, assuming that down the line things improved, um, could we perhaps anticipate, um, a slight increase in the dividend in view of the fact that there has been no dividend increases as you know for several years now --

Your line of questioning seems almost obvious, but I agree with you completely. We're doing our plan, our normal plan that we're going -- we have done an emergency plan because of the change in markets, and you have just seen the results in that and heard the results of that. We have a normal business planning cycle that we have underway at this point in time, which the board looks at actually late next month in august, and then they will act on in the December board meeting and in that business plan, we periodically, I mean every time we do the business plan, we look at every financial characteristic, and always look at dividend and review how it sits in the package and whether it makes sense, um, relative to the forward, um, projectry of the company. So, I can assure you it will be looked at very on thoroughly, but I can't give you an indication one way or another what the outcome of the board's deliberation on the subject might be.

Thank you so much for your help.

Thanks.

Bye.

And we'll move next to Jay Dobbson from Deutsche Banc

Hey, Jay.

How are you?

Great.

Great. I'm not sure what who I want to turn this over to, could you give us more detail on these findings that you talked about as far as the completion of your investigation and sort of, you know, what improvements you think you have to make, what did you find, et cetera?

Yeah, I guess the most critical one that we sought in that investigation for the current moment was whether there was any financial implications of any material nature in those, and we concluded that there are not. We have finished that investigation, but everybody needs to understand, I think, that it's a huge investigation. There were 750,000 transactions that had to be scrubbed as all of our work during that period of time. We have done that, we provided a preliminary set of results to the SEC last week. We have now completed the remaining 3,000, and we'll be submitting the results to the SEC as soon as we can finish putting all the pieces together, accumulating all the documents, assembling everything, and hopefully giving them a road map to all of this so they can understand what is included there. What we don't tonight do is get out ahead of our regulators in terms of any detail associated with that response, and so, I got a respect to kind of ask you to allow me to stop right there, um, to allow the legal process and what have you to go forward

Okay, fair enough. As you make that filing, you be making more of those findings public?

I suspect that we will. Yes.

Okay.

We tend to want to make sure everyone knows where we stand, whether it's an overreaction or not, we're going to be make -- make each know where we stand

Okay, great. Can I move on to guidance to be clear the now 245 to 255 range is on a diluted basis includes all the, maybe what I'll characterize, nits and gnats, pluses and minuses from, that were include in the second quarter and also importantly, includes the nonrecurring one-time 6 cent tax benefit in the first quarter?

That's correct. Yes, it all includes that.

Okay.

I have to tell you that they're, as know -- as you know, there has been a substantial and drop-off in the energy markets. We, every month, we'll do, for example, we'll do a January set of results and then look forward, a 12 -- a 1 and 11, basically, which says that you're the one month actuals, we have 11 months to go, here are how businesses seat the next 11 months. For the first five of those, which was through May, the five and sevens, for example, continued to show some weakening in a few areas, but nonetheless a strong business plan within our various flexibilities and contingencies and what have you. We had every reason, um to believe that we could potentially hit somewhere around the center of that range or a little bit bebelow that. We went very hard at work at that. We looked verdict hard on the 6 and six, where we had six months actual results, six months forecasted results, the thorough examination tended to cause us all to get a bit more pessimistnik view of what has happened in the -- particularly in the energy markets, the energy trading markets and what have you. And so, we may well have a pessimistic view here, but we think it's a fair and reasonable view, in view of the current changing environment. That's how we got to that. When we did that, we included all of those issues you just described um, and we -- we think everything is in there at the present time. Now, you know, what happened tomorrow or the next day that we're not aware of today is not in there, but that might be good.

Sure, well, in the unaware, I'm probably less concerned about or not worried about now, but is there any other expected, what I'll call gainsI know you included in some of the reported results. Other announced gains that one reported, included in the 245 to 255?

I mean we -- we do -- we do trade some of our assets as see. We buy and sell some assets and, you know, as we did last year and the year before, and there are some -- I mean they -- there probably will be some sales in that -- in those numbers, both this year and the forward numbers, I mean not a massive number in comparison with the total, um, but there will be some sales and profits, hopefully profits on sale involved in that, but as I said, that was the same last year and the year before. Another thing I say about the tax, the first was a relatively low tax rate. We have said for the full year we think our indications to you were 34%, a reasonable full-year tax rate, that's about a normal sort of tax rate.

Okay, great, just two other questions, if I can, um, Rick, just correct me if I'm wrong, are we still for management incentives if we're below 255, incentive is zero?

That's correct.

If we hit on 255, is there an incentive?

No. No, there is a 0 at 255.

Do you have to --

The senior level people.

You would have to be north of 255 to get anything.

Yes. Let me check on that. Okay. The answer, Jay, I checked with my expert to make sure I'm giving you the correct answer. At 255 or below, there is zero payup.

Okay, fair enough. The last question if I did can on europe, I think at the analyst meeting in may or whatever it was, you sort of indicated Europe was close to a bottom, and you sent some folks over there to start scouring, and now I hear you talking about continued weak think and the lack of liquidity. I'm wondering if stuff has changed, sort of what your desire to invest in europe, given the indication you gave, which was a strong desire to invest.

Okay, Jay, let me ask Harvey Padewer to address that.

We look at all opportunities in the market. Particularly within the capital budget that Rick outlined today, we were -- some opportunities in align with our strategy and if we find, um, exceptional buys, acceptional opportunities in Europe, we would consider those, as well as any others.

Thanks, Jay.

We'll go next to Wayne at solomon smith barney.

Good morning, thank you

Hey, Wayne.

Hi, how's it going?

Good.

I have two questions. First, thank you for getting the hedge percentages for '03 to '05. You can give us what the, um, spark spread is on that hedge portion?

No. We -- we're not published in that, um, but we're, you know, some of those were done last year and, you know, they, as you see, we also published last quarter and the quarter before, I think, our hedge percentages for those currencies. A lot of it was done in '01 and before. This was something just done in the last quarter. I realize it, you know, you can't just, unless we give that number and give it to you, we can't multiply it up and get the margin. But hopefully you take some comfort that we are, um, you know, hedging toward, we're not in company by nature. We hedge forward with conservative, and we're happy with the prices that we hedged, otherwise we wouldn't have hedged

Okay, um, well, thank you. Then, the second question is: and this is just a little more detailed, um, following up on questions that were asked about the mark-to-market gain, and I know there is a change in modeling techniques, which, um, accounted for at least part of that mark-to-market gain. One thing we saw over the past quarter was a decline in the curb itself, it just fell, you know, as we went along. How did that effect your mark-to-market profit Was that positive or negative factor?

Through the quarter?

Yes.

I'm not sure that I can answer that easily, I mean, mark-to-market books at the end of the 30th of June was $1.2 billion, and that's in account of everything at this point in time. The shape of the curb as well as the absolutely values at the point in time, um, the value of the mark-to-market books, six months ago was $1.1 billion if I remember correctly, and the mark-to-market book three months ago was $1 million. It does move and that's a combination that the market moves thrus plus this, um this, um, one other adjustment that we had this period, the $46 million for the correlation, as we said, we think that -- that's conservative.

But we -- our mark-to-market book, the level of replacement, um, has allowed the book value to maintain fairly constant it went from 1 went 1 to 1.2 on a quarter-to quarter basis, but that was based on replacement contract.

So I guess, my question is really just that factor alone, if you skirt out other factors, would that have been a positive or negative factor?

Which factor, Ray?

The -- the -- the decline in the forward curb itself.

Oh. The decline in the forward curb itself on balance has probably been a negative.

Uh-huh. Okay, I just wanted to know.

It's the actual spark spread as opposed to the commodity price rate. The only real exposure to the commodity price on a day-to-day basis would be added fuel services, and I think you get disclosure on that, um, separately.

Okay. Great. Thank you.

Thank you, Ray.

Bye-bye.

We'll take our next question today from William Mays at Bank of America.

Yes, good morning.

Hi, Bill.

Not to dwell but I will. Just on this mark-to-market revision again, was wondering if you could maybe, um, give us an idea of the magnitude of the benefit of the shift, you know, if you had not changed your model, what would the impact have been?

It would have been $46 million.

So it would have been 0 in other words, you would have been flat?

No, at $46 million is the effect of the modeling change.

Right.

So, the book in round numbers was $1.2 billion in the 30th of June. If we had not changed the modeling, it would have been 1.54.

Okay. All right, and any of the other factors change like reserves, levels of reserves or discount rate?

These things move, but they move because the markets move, you know, it's a formulic of approach. We don't get up in the morning and think what numbers should we put in. They're deduced from the market and -- and -- The reserves would take at the time we do new contract origination. Those are the normal kinds of reserves that you take in the types of transactions like liquidity and operation, that sort of thing.

Uh, so no big changes there.

No, and let me just add because there has been a sensitivity to this type of issue over the last six months to a year now. Of course, we have gone in and scrubbed all of the formulated approaches that are being used, tied everything to ground if you will to make certain, of course, brought in our auditors, the internal and external, to make certain that there was a high degree of comfort, that what we were doing was effectively complying just precisely with the roorlts that we have to comply, you know, I asked questions like why don't we take it out of there. I found out the law requires that we do that. The regulations require we must do this. We are trying to do it as confidently and carefully as we can do it. We'll accommodate the change in regulations. This is what we have to do.

Uh-huh. Speaking of requirements is my next question. I guess it may require, um, marketing and trading firms to post more information on their websites regarding trades, I wonder what your interpretation is of that and how that might impact your business?

I guess we're sort of numb here saying if people want to post more information, um, regulatory bodies, heck, we'll post it. The only thing we're going to argue about is going to be anything related -- directly related to our competitive advantage, but there are huge amounts of information that could be posted late, things of that sort, to the extent people find value and posting it, will be the first to stand up and help them get that information up and post it so people can use it. The frustration here is not having any definition with all of these conversations going on oufd sort of the energy trading business about all these things that might help, and we want to help, but we do have to zero in on what may help, and we'll provide that information.

We'll take one more question and wrap up.

Thanks, Bill.

Okay.

Our last question today will be from Winnifred Fruehauf at National Bank Financial.

Rick, um, in these days when we have trigger-happy rating agencies who don't accept any promises except as they show me, how sure are you that you're going to survive with the current debt ratings 23478 you have completed the ec -- until you have completed the issue?

Well, I can't be sure of anything. To tell you the truth in this marketplace, but I will tell what I've done to raise my level of confidence, probably the best way of saying it. We have been having ongoing dialogue with all of the rating agencies, um, almost from the point where all of this got going. In some cases, it's been quite detailed, um, in other cases, it's been less detailed, but we have had pretty thorough discussion, and I myself have had specific discussion with some of the agencies, and I developed a reasonable degree of confidence that, um, a pretty conservative view of Duke Power, or Duke Energy is a solid company, financially solidly put together and leveraged appropriately. We disclosed all the information to them, we remained stable until just recently, and I think -- and I can't blame the rating agencies in view of what has been happening in the market. When they see a came of subpoenas coming from a variety of regulatory agencies, and they see, um, responses that they may not fully understand, um, it leaves a question in their mind, I think, very appropriately, said that in their release, when the S&P came out and put us on the credit watch negative and said the same thing, but I'm -- I'm quite convinced that over the next several months, um, we'll be able to settle that down and be back on solid footing that we -- we plan to be on. I'm quite dedicated to making sure that happens and the rating agencies know how dedicated I am to make sure that happens. There's been a lot of change, we're trying to manage through.

One more, if I may, and I am sure -- the response here, to care for the way. It has to do with your regulator in Carolinas and I guess can call it affiliate rule with affiliates and also the allocation of costs between jurisdiction and nonjurisdiction activities. Um, can you say at all, um, whether or not any of these actions may have a material effect on, um, on your earnings on this year going forward?

Let me again go ahead and address that. I think we recently completed an audit of, um, which is a ordinary, customary thing to be done of our relationships, accounting relationship. In fact, it's sort of a several year, an on-going audit. I think the results of that were quite good. I think that one's behind us. We're asking, um, for the commission in North Carolina to approve in South Carolina, I believe, to approve the movement of our power operations group, um, to another place in the organization so that the entire company in effect could benefit from their talents and that we could create a good deal of efficiency that would benefit all of our customers, and we have sought to do that with the North Carolina commission and, um, frankly you had expected that the commission would see the value in that, and see the efficiencies in that, what have you. They wanted to explore more thoroughly, they had a hearing on that subject, in fact, we expect a ruling here farley soon. I think we have an excellent relationship with our commissioners, both North and South Carolina, um, that's an ongoing relationship that we live with every day, and, um, and think if there was anything, anything of concern in those areas, they would let you us know about it and they haven't let us know about anything like that. I think we're comfortable in view of all the auditing we have done.

Thanks for that. Appreciate it.

Thank you.

Um, let me just thank you for, um, taking time with us today and let you know about one thing, in case you didn't get our mailing this morning. Rick and Robert will be in New York on Thursday, July 25th, for a meeting, 8:00 east other than time that. Meeting will be web cast and if you can't attend the meeting, you can either dial in, the number is 888-6 95-0608 the confirmation code 745648 or you can access the investor section of Duke Energy and hear the call. If you have questions, we'll try to take questions from the phone line, but not through the website. Thank you again for being with us today, and we will talk to you perhaps on Thursday.

Thank you, folks.

That concludes today's conference call. Thank you all for joining us.