10-K

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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)
/X/	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2002
or
/ /	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                    to

Commission File Number	Exact Name of Registrant as specified in its charter	State of Incorporation	IRS Employer Identification Number
1-12609	PG&E CORPORATION	California	94-3234914
1-2348	PACIFIC GAS AND ELECTRIC COMPANY	California	94-0742640

Pacific Gas and Electric Company
77 Beale Street
P.O. Box 770000
San Francisco, California
(Address of principal executive offices)
94177
(Zip Code)
(415) 973-7000
(Registrant's telephone number, including area code) PG&E Corporation
One Market, Spear Tower
Suite 2400
San Francisco, California
(Address of principal executive offices)
94105
(Zip Code)
(415) 267-7000
(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Title of Each Class	Name of Each Exchange on Which Registered
PG&E Corporation Common Stock, no par value Preferred Stock Purchase Rights	New York Stock Exchange and Pacific Exchange
Pacific Gas and Electric Company
First Preferred Stock, cumulative, par value $25 per share:     Redeemable: 7.04%, 5% Series A, 5%, 4.80%, 4.50%, 4.36%     Mandatorily Redeemable: 6.57%, 6.30%     Nonredeemable: 6%, 5.50%, 5%	American Stock Exchange and Pacific Exchange
7.90% Deferrable Interest Subordinated Debentures	American Stock Exchange and Pacific Exchange

Securities registered pursuant to Section 12(g) of the Act: None

        Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /X/    No / /

        Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. /X/

        Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes /X/     No / /

Aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 28, 2002, the last business day of the second fiscal quarter:

PG&E Corporation Common Stock	$6,559 million
Common Stock outstanding as of February 1, 2003:
PG&E Corporation:	407,576,505
Pacific Gas and Electric Company:	Wholly owned by PG&E Corporation

DOCUMENTS INCORPORATED BY REFERENCE

        Portions of the documents listed below have been incorporated by reference into the indicated parts of this report, as specified in the responses to the item numbers involved.

(1)	Designated portions of the combined Annual Report to Shareholders for the year ended December 31, 2002	Part I (Item 1), Part II (Items 5, 6, 7, 7A, and 8), Part IV (Item 15)
(2)	Designated portions of the Joint Proxy Statement relating to the 2003 Annual Meeting of Shareholders	Part III (Items 10, 11, 12, and 13)

TABLE OF CONTENTS

		Page
	Glossary of Terms	iii
PART I
Item 1.	Business	1
	GENERAL	1
	Corporate Structure and Business	1
	Proposed Plans of Reorganization of the Utility	2
	Risk Factors	4
	REGULATION	8
	Regulation of PG&E Corporation	8
	Regulation of Pacific Gas and Electric Company	10
	Federal Regulation	10
	State Regulation	11
	Assembly Bill 1890—California Electric Industry Restructuring	11
	Assembly Bill 1X—California Department Of Water Resources	14
	Assembly Bill 6X—Prohibition on Disposition of Retained Utility-Owned             Generating Assets	14
	Senate Bill 1976—Resumption of Procurement	15
	Local Regulation, Licenses and Permits	16
	Regulation of PG&E National Energy Group, Inc. Businesses	16
	Federal Regulation	16
	State and Other Regulations	17
	COMPETITION	18
	The Electric Industry	18
	The Natural Gas Industry	18
	Electric Generation and Natural Gas Transmission	19
	UTILITY OPERATIONS	20
	Ratemaking Mechanisms	20
	Electric Ratemaking	21
	Electric Distribution	22
	Electric Transmission	22
	Electric Generation	24
	Electric Procurement	24
	Gas Ratemaking	27
	Natural Gas Distribution	27
	Natural Gas Transportation and Storage	28
	Natural Gas Procurement	28
	Public Purpose Programs	29
	ELECTRIC UTILITY OPERATIONS	30
	Electric Distribution	30
	Electric Distribution Operating Statistics	30
	Electric Resources	32
	Retained Generation	32
	Allocation of DWR Electricity to the California Investor-Owned Utilities	33
	Qualifying Facility Agreements	34
	Renewable Resource Energy Contracts	35
	Other Third-Party Power Agreements	35
	Electric Transmission	36
	GAS UTILITY OPERATIONS	37
	Gas Operating Statistics	39
	Natural Gas Supplies	40
	Natural Gas Gathering Facilities	41
	Natural Gas Transportation and Storage Services Agreements	41
	PG&E NATIONAL ENERGY GROUP, INC.	42

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	ENVIRONMENTAL MATTERS	48
	Environmental Matters	48
	Environmental Protection Measures	48
	Air Quality	48
	Water Quality	50
	Endangered Species	52
	Hazardous Waste Compliance and Remediation	52
	Potential Recovery of Hazardous Waste Compliance and Remediation Costs	54
	Nuclear Fuel Disposal	55
	Nuclear Decommissioning	56
	Compressor Station Litigation	57
	Electric and Magnetic Fields	57
	Low Emission Vehicle Programs	57
Item 2.	Properties	58
Item 3.	Legal Proceedings	58
Item 4.	Submission of Matters to a Vote of Security Holders	72
	EXECUTIVE OFFICERS OF THE REGISTRANTS	72
PART II
Item 5.	Market for the Registrant's Common Equity and Related Stockholder Matters	76
Item 6.	Selected Financial Data	77
Item 7.	Management's Discussion and Analysis of Financial Condition and Results of Operations	77
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	77
Item 8.	Financial Statements and Supplementary Data	77
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	77
PART III
Item 10.	Directors and Executive Officers of the Registrant	78
Item 11.	Executive Compensation	78
Item 12.	Security Ownership of Certain Beneficial Owners and Management	78
Item 13.	Certain Relationships and Related Transactions	78
Item 14.	Controls and Procedures	79
PART IV
Item 15.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	79
	SIGNATURES	88
	Certifications	89
	Independent Auditors' Report	93
	Financial Statement Schedules	94

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GLOSSARY OF TERMS

AB 1890	Assembly Bill 1890, the California electric industry restructuring legislation
BACT	Best available control technology
BCAP	Biennial Cost Allocation Proceeding
bcf	billion cubic feet
BFM	block forward market
BTA	best technology available
Btu	British thermal unit
CCAA	California Clean Air Act
CEC	California Energy Commission
CEQA	California Environmental Quality Act
CERCLA	Comprehensive Environmental Response, Compensation, and Liability Act
core customers	residential and smaller commercial gas customers
core subscription customers	noncore customers who choose bundled service
CPIM	core procurement incentive mechanism
CPUC	California Public Utilities Commission
Diablo Canyon	Diablo Canyon Nuclear Power Plant
DOE	United States Department of Energy
DWR	California Department of Water Resources
EMF	electric and magnetic fields
EPA	United States Environmental Protection Agency
FERC	Federal Energy Regulatory Commission
GRC	General Rate Case
Humboldt Unit 3	Humboldt Bay Power Plant (Unit 3)
HWRC	hazardous waste remediation costs
IPP	independent power producer
IOU or IOUs	investor owned utility or utilities
ISO	Independent System Operator
KV	Kilovolts
KVa	kilovolt-amperes
KW	Kilowatts
Mcf	thousand cubic feet
MDt	thousand decatherms
MMcf	million cubic feet
MW	Megawatts
MWh	megawatt-hour
noncore customers	industrial and larger commercial gas customers
NPDES	National Pollutant Discharge Elimination System
NRC	Nuclear Regulatory Commission
ORA	Office of Ratepayer Advocates, a division of the California Public Utilities Commission
PG&E Energy	PG&E NEG's integrated energy and marketing segment
PG&E ET	PG&E Energy Trading Holdings Corporation and its subsidiaries
PG&E Gen LLC	PG&E Generating Company, LLC and its affiliates
PG&E GTC	PG&E Gas Transmission Corporation and its subsidiaries
PG&E GTN	PG&E Gas Transmission, Northwest Corporation
PG&E NBP	PG&E North Baja Pipeline, LLC
PG&E NEG	PG&E National Energy Group, Inc.
PG&E Pipeline	PG&E NEG's interstate pipeline operations
PURPA	Public Utility Regulatory Policies Act of 1978
PX	California Power Exchange
QF	qualifying facility
RCRA	Resource Conservation and Recovery Act
RTO	regional transmission organization
TCBA	Transition Cost Balancing Account
throughput	the amount of natural gas transported through a pipeline system
TRA	Transition Revenue Account
TURN	The Utility Reform Network
USGenNE	USGen New England, Inc.

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PART I

ITEM 1.    Business.

GENERAL

Corporate Structure and Business

        PG&E Corporation is an energy-based holding company headquartered in San Francisco, California which conducts its business through two principal subsidiaries: Pacific Gas and Electric Company, or the Utility, an operating public utility engaged principally in the business of providing electricity and natural gas distribution and transmission services throughout most of northern and central California, and PG&E National Energy Group, Inc., or PG&E NEG, a company engaged in power generation, wholesale energy marketing and trading, risk management, and natural gas transmission.

        Pacific Gas and Electric Company was incorporated in California in 1905. Effective January 1, 1997, the Utility and its subsidiaries became subsidiaries of PG&E Corporation, which was incorporated in 1995. In the holding company reorganization, the Utility's outstanding common stock was converted on a share-for-share basis into PG&E Corporation common stock. The Utility's debt securities and preferred stock were unaffected and remain as outstanding securities of Pacific Gas and Electric Company. The Utility filed a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code in the Bankruptcy Court for the Northern District of California on April 6, 2001. Pursuant to Chapter 11, the Utility retains control of its assets and is authorized to operate its business as a debtor-in-possession while being subject to the jurisdiction of the Bankruptcy Court. The Utility is regulated primarily by the California Public Utilities Commission, or CPUC, and the Federal Energy Regulatory Commission, or FERC.

        PG&E NEG, headquartered in Bethesda, Maryland, was incorporated on December 18, 1998, as a wholly owned subsidiary of PG&E Corporation. Shortly thereafter, PG&E Corporation contributed various subsidiaries to PG&E NEG. PG&E NEG and its subsidiaries are principally located in the United States and Canada. PG&E NEG's principal subsidiaries include: PG&E Generating Company, LLC, and its subsidiaries, or PG&E Gen; PG&E Energy Trading Holdings Corporation and its subsidiaries, or PG&E ET; and PG&E Gas Transmission Corporation and its subsidiaries, or PG&E GTC, which includes PG&E Gas Transmission, Northwest Corporation and its subsidiaries, or PG&E GTN, and North Baja Pipeline, LLC, or NBP. PG&E NEG also has other less significant subsidiaries.

        The principal executive office of PG&E Corporation is located at One Market, Spear Tower, Suite 2400, San Francisco, California 94105, and its telephone number is (415) 267-7000. The principal executive office of Pacific Gas and Electric Company is located at 77 Beale Street, P.O. Box 770000, San Francisco, California 94177, and its telephone number is (415) 973-7000. PG&E Corporation, the Utility, and PG&E NEG each file various reports with the Securities and Exchange Commission, or the SEC. The reports that PG&E Corporation and the Utility file with the SEC are available free of charge on both PG&E Corporation's website, www.pge-corp.com, and the Utility's website, www.pge.com. PG&E NEG's reports also are available free of charge on PG&E Corporation's website, www.pge-corp.com.

        PG&E Corporation has identified three reportable operating segments:

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Utility,



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Integrated Energy and Marketing (or the Generation Business), and



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Interstate Pipeline Operations (or the Pipeline Business)

        These segments were determined based on similarities in the following characteristics: economics, products and services, types of customers, methods of distribution, regulatory environment, and how information is reported to and used by PG&E Corporation's chief operating decision makers. These three reportable operating segments provide different products and services and are subject to different forms of regulation or jurisdictions. Financial information about each reportable operating segment is provided in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the 2002 Annual Report to Shareholders and in Note 17 of the "Notes to Consolidated Financial Statements" of the 2002 Annual Report to Shareholders, which information is incorporated by reference into this report.

        As result of the sustained downturn in the power industry during 2002, PG&E NEG and its affiliates have experienced a financial downtown which caused the major credit rating agencies to downgrade PG&E NEG's and

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its affiliates' credit ratings to below investment grade. PG&E NEG is currently in default under various recourse debt agreements and guaranteed equity commitments totaling approximately $2.9 billion. In addition, other PG&E NEG subsidiaries are in default under various debt agreements totaling approximately $2.5 billion, but this debt is non-recourse to PG&E NEG. PG&E NEG and these subsidiaries continue to negotiate with their lenders regarding a restructuring of this indebtedness and these commitments. During the fourth quarter of 2002, PG&E NEG and certain subsidiaries have agreed to sell or have sold certain assets, have abandoned other assets, and have significantly reduced energy trading operations. As a result of these actions, PG&E NEG has incurred pre-tax charges to earnings of approximately $3.9 billion in 2002. PG&E NEG and its subsidiaries are continuing their efforts to abandon, sell, or transfer additional assets in an ongoing effort to raise cash and reduce debt, whether through negotiation with lenders or otherwise. As a result, PG&E NEG expects to incur additional substantial charges to earnings in 2003 as it restructures its operations. In addition, if a restructuring agreement is not reached and if the lenders exercise their default remedies or if the financial commitments are not restructured, PG&E NEG and certain of its subsidiaries may be compelled to seek protection under or be forced into a proceeding under the U.S. Bankruptcy Code. PG&E Corporation does not expect that the liquidity constraints at PG&E NEG and its subsidiaries will affect the financial condition of PG&E Corporation or the Utility.

        The consolidated financial statements of PG&E Corporation incorporated in this report reflect the accounts of PG&E Corporation, the Utility, PG&E NEG, and other wholly owned and controlled subsidiaries. The separate consolidated financial statements of the Utility reflect the accounts of the Utility and its wholly owned and controlled subsidiaries.

        As of December 31, 2002, PG&E Corporation had approximately $34 billion in assets. Of this amount, Pacific Gas and Electric Company had $25 billion in assets. PG&E Corporation generated approximately $12 billion in operating revenues for 2002. Of this amount, the Utility generated $11 billion in operating revenues for 2002.

        As of December 31, 2002, PG&E Corporation and its subsidiaries and affiliates had 21,814 employees (including 19,575 employees of the Utility). Of the Utility's employees, approximately 13,000 are covered by collective bargaining agreements with three labor unions: the International Brotherhood of Electrical Workers, Local 1245, AFL-CIO, or IBEW; the Engineers and Scientists of California, IFPTE Local 20, AFL-CIO and CLC, or ESC; and the International Union of Security Officers/SEIU, Local ²⁴/7, or IUSO. The collective bargaining agreements with IBEW and ESC remain in effect until the earlier of December 31, 2003 or the date on which a new agreement is completed, and the agreement with the IUSO expires on February 28, 2003. The Utility currently is in negotiations for renewal of the collective bargaining agreements with IBEW and ESC and is beginning negotiations with IUSO.

Proposed Plans of Reorganization of the Utility

        The Utility will not emerge from bankruptcy until a plan of reorganization has been confirmed by the Bankruptcy Court and the confirmed plan has been implemented. A plan sets forth the means for satisfying both claims against and equity interests in a debtor.

        The Utility and PG&E Corporation submitted a proposed plan of reorganization, described below as the Utility Plan. The CPUC submitted a competing proposed plan of reorganization. During the summer of 2002, holders of claims against, and equity interests in, the Utility were requested to vote whether to accept or reject the competing plans. On September 9, 2002, an independent voting agent announced that nine of the ten voting classes under the Utility Plan approved the Utility Plan. The CPUC's plan was approved by one of the eight voting classes under the CPUC's plan. In August 2002, 10 days after the voting period ended, the CPUC and the Official Committee of Unsecured Creditors, or OCC, announced that the OCC had joined the CPUC to support a modified alternative plan of reorganization. On August 30, 2002, the CPUC and the OCC jointly submitted an amended plan of reorganization to the Bankruptcy Court (the CPUC/OCC Plan).

        The Bankruptcy Court began confirmation hearings in November 2002 to determine whether to confirm the Utility Plan, the CPUC/OCC Plan, or neither plan. The Bankruptcy Court currently has scheduled trial dates through March 2003.

        The Utility Plan.    The Utility Plan proposes to restructure the Utility's current businesses and to refinance the restructured businesses so that all allowed creditor claims would be paid in full with interest. The Utility Plan is designed to align the businesses under the regulators that best match the business functions. Assets used in the retail distribution business would remain under the retail regulator, the CPUC, and assets used in the wholesale electric generation and transmission, and interstate natural gas transportation, would be placed under wholesale

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regulators, the FERC and the Nuclear Regulatory Commission, or NRC. After this alignment, the retail-focused, state-regulated business would be a natural gas and electricity distribution company, the Reorganized Utility, representing approximately 70% of the book value of the Utility's assets. The Utility would retain four small generating facilities. The wholesale businesses, electric transmission, interstate gas transmission, and generation, would be federally regulated as to price, terms, and conditions of service.

        In contemplation of the Utility Plan becoming effective, the Utility has created three new limited liability companies, the LLCs, which currently are owned by the Utility's wholly owned subsidiary, Newco Energy Corporation, or Newco. On the effective date of the Utility Plan, the Utility would transfer

•

substantially all the assets and liabilities primarily related to the Utility's electricity generation business to Electric Generation LLC, or Gen;



•

the assets and liabilities primarily related to the Utility's electricity transmission business to ETrans LLC, or ETrans; and



•

the assets and liabilities primarily related to the Utility's natural gas transportation and storage business to GTrans LLC, or GTrans.

        The Utility also would enter into agreements under which the Utility, Gen, ETrans and GTrans would allocate responsibility and indemnification for liabilities that survive the bankruptcy.

        Although the Utility would be legally separated from the LLCs, the Utility's operations would remain connected to the operations of the LLCs after the effective date of the Utility Plan. For example

•

the Utility would rely on Gen for a significant portion of the electricity the Utility needed to meet its electricity distribution customers' demand during the 12-year term of a power purchase and sale agreement between the Utility and Gen, or the Gen power purchase and sale agreement.



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The Utility would rely on ETrans for the Utility's electricity transmission needs because the transmission lines proposed to be transferred to ETrans are currently the only transmission lines directly connected to the Utility's electricity distribution system.



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The Utility would rely on GTrans for the Utility's natural gas transportation needs because the facilities proposed to be transferred to GTrans are currently the only transportation facilities directly connected to the Utility's natural gas distribution system. In addition, the Utility would rely on GTrans for a substantial portion of the Utility's natural gas storage requirements for at least 10 years under a transportation and storage services agreement between the Utility and GTrans, though the Utility does have storage options with third party providers to meet a portion of their requirements.



•

The Utility also would have significant operating relationships with the LLCs covering a range of functions and services.



•

Finally, the Utility would continue to rely on its natural gas transportation agreement with PG&E Gas Transmission Northwest Corporation, or PG&E GTN, for the transportation of western Canadian natural gas.

        The Utility Plan also proposes that on the effective date of the Utility Plan the Utility would distribute to PG&E Corporation all of the outstanding common stock of Newco. Each of ETrans, GTrans, and Gen would continue to be an indirect wholly owned subsidiary of PG&E Corporation. Finally, on the effective date of the Utility Plan or as promptly thereafter as practicable, PG&E Corporation would distribute all the shares of the Utility's common stock that it then holds to its existing shareholders in a spin-off transaction. After the spin off, the Utility would be an independent publicly held company. The Utility would retain the name "Pacific Gas and Electric Company."

        Allowed claims would be satisfied by cash, long-term notes issued by the LLCs or a combination of cash and such notes. Each of ETrans, GTrans, and Gen would issue long-term notes to the reorganized Utility and the Utility will then transfer the notes to certain holders of allowed claims. In addition, each of the reorganized Utility, ETrans, GTrans, and Gen would issue "new money" notes in registered public offerings. The LLCs would transfer the proceeds of the sale of the new money notes, less working capital reserves, to the Utility for payment of allowed claims. The Utility Plan currently also would reinstate nearly $1.59 billion of preferred stock and pollution control loan agreements.

        On February 19, 2003, Standard & Poor's (S&P), a major credit rating agency, announced that it had re-affirmed its preliminary rating evaluation, originally issued in January 2002, of the corporate credit ratings of, and the securities proposed to be issued by, the reorganized Utility and the LLCs in connection with the

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implementation of the Utility Plan. Subject to the satisfaction of various conditions, S&P stated that the approximately $8.5 billion of securities proposed to be issued by the reorganized Utility and the LLCs, as well as their corporate credit ratings, would be capable of achieving investment grade ratings of at least BBB-. In order to satisfy some of the conditions specified by S&P, on February 24, 2003, the Utility filed amendments to the Utility Plan with the Bankruptcy Court that, among other modifications:

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permit the reorganized Utility and the LLCs to issue secured debt instead of unsecured debt,



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permit adjustments in the amount of debt the reorganized Utility and the LLCs would issue so that additional new money notes could be issued if additional cash is required to satisfy allowed claims or to deposit in escrow for disputed claims and such debt can be issued while maintaining investment grade ratings, or so that less debt could be issued in order to obtain investment grade ratings or if less cash is required to satisfy allowed claims and be deposited into escrow for disputed claims,



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require Gen to establish a debt service reserve account and an operating reserve account,



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under certain circumstances, permit an increase in the amount of cash creditors receiving cash and notes will receive,



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permit the Utility's mortgage-backed pollution control bonds to be redeemed if the reorganized Utility issues secured new money notes, and



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commit PG&E Corporation to contribute up to $700 million in cash to the Utility's capital from the issuance of equity or from other available sources, to the extent necessary to satisfy the cash obligations of the Utility in respect of allowed claims and required deposits into escrow for disputed claims, or to obtain investment grade ratings for the debt to be issued by the reorganized Utility and the LLCs.

        In addition to the amendments to the Plan, amendments to various filings at the FERC, and possibly other regulatory agencies, will be required in order to implement the changes to the Plan.

        The CPUC/OCC Plan.    The CPUC/OCC Plan does not call for realignment of the Utility's businesses, but instead provides for the continued regulation of all of the Utility's current operations by the CPUC. The CPUC/OCC Plan proposes to reinstate nearly $1 billion of preferred stock and pollution control bonds and satisfy remaining creditor claims in full in cash, using a combination of cash on hand and the proceeds of the issuance of $7.3 billion of new senior secured debt, $1.5 billion of unsecured notes and preferred securities. The CPUC/OCC Plan proposes to establish a $1.75 billion regulatory asset that would be amortized over 10 years and would earn the full rate of return on rate base.

        The CPUC/OCC Plan also provides that it would not become effective until the Utility and the CPUC enter into a "reorganization agreement" under which the CPUC promises it would establish retail electric rates on an ongoing basis sufficient for the Utility to achieve and maintain investment grade credit ratings and to recover in rates (1) the interest and dividends payable on, and the amortization and redemption of, the securities to be issued under the CPUC/OCC Plan, and (2) certain recoverable costs (defined as the amounts that the Utility is authorized by the CPUC to recover in retail electric rates in accordance with historic practice for all of its prudently incurred costs, including capital investment in property, plant and equipment, a return of capital and a return on capital and equity to be determined by the CPUC from time to time in accordance with its past practices).

        PG&E Corporation and the Utility believe the CPUC/OCC Plan is not credible or confirmable. PG&E Corporation and the Utility do not believe the CPUC/OCC Plan would restore the Utility to investment grade status if it were to become effective. Additionally, PG&E Corporation and the Utility believe the CPUC/OCC Plan would violate applicable federal and state law.

Risk Factors

        This report includes forward-looking statements that are necessarily subject to various risks and uncertainties. These statements are based on current expectations and assumptions which management believes are reasonable and on information currently available to management. These forward-looking statements are identified by words such as "estimates," "expects," "anticipates," "plans," "believes," "could," "should," "would," "may," and other similar expressions. Actual results could differ materially from those contemplated by the forward-looking statements. Although PG&E Corporation and the Utility are not able to predict all the factors that may affect future

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results, some of the factors that could cause future results to differ materially from those expressed or implied by the forward-looking statements, or from historical results, include:

        Recovery of Undercollected Power Procurement and Transition Costs Previously Written Off.    The extent to which the Utility is able to recover its undercollected power procurement and transition costs previously written off depends on many factors, including:

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what costs the CPUC determines are eligible for recovery as transition costs;



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when the Utility's rate freeze ended, as determined by the CPUC;



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sales volatility and the level of direct access customers (i.e., those customers who choose an alternative energy provider);



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changes in the California Department of Water Resources' (DWR) revenue requirements required to be remitted to the DWR from existing retail rates;



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changes in the Utility's authorized revenue requirements;



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future regulatory or judicial decisions that determine whether the Utility is allowed under state law to recover undercollected power procurement and transition costs from its customers after the end of the rate freeze; and



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the outcome of the Utility's claims against the CPUC Commissioners for recovery of undercollected power procurement and transition costs based on the federal filed rate doctrine;

        Refundability of Amounts Previously Collected.    Whether the Utility is required to refund to ratepayers amounts previously collected depends on many factors, including:

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whether the CPUC determines that certain transition or procurement costs recovered in revenues collected by the Utility were not eligible transition costs or otherwise reduces the amount of revenues authorized to recover such transition or procurement costs due to an overcollection of such costs;



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whether the CPUC ultimately determines that certain past power procurement costs incurred by the Utility were not reasonably incurred and should be disallowed; and



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the purposes for which the CPUC ultimately determines that surcharges approved by the CPUC in January, March, and May 2001 may be used.

        Outcome of the Utility's Bankruptcy Case.    The pace and outcome of the Utility's bankruptcy case will be affected by:

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whether the Bankruptcy Court confirms the Utility Plan, the CPUC/OCC Plan, or some other plan of reorganization;



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whether regulatory and governmental approvals required to implement a confirmed plan are obtained and the timing of such approvals;



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whether there are any delays in implementation of a plan due to litigation related to regulatory, governmental, or Bankruptcy Court orders; and



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future equity or debt market conditions, future interest rates, future credit ratings, and other factors that may affect the ability to implement either plan or affect the amount and value of the securities proposed to be issued under either plan.

        Utility's Operating Environment.    The amount of operating income and cash flows that the Utility may record may be influenced by the following:

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future regulatory actions regarding the Utility's procurement of power for its retail customers;



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the terms and conditions of the Utility's long-term generation procurement plan as approved by the CPUC;



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the ability of the Utility to timely recover in full its costs including its procurement costs;



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future sales levels, which can be affected by general economic and financial market conditions, changes in interest rates, weather, conservation efforts, outages, and the level of direct access customers (i.e., those customers who choose an alternative energy provider);

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the demand for and pricing of transportation and storage services which may be affected by weather, overall gas-fired generation, and price spreads between various natural gas delivery points;



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changes in the Utility's authorized revenue requirements; and



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acts of terrorism, storms, earthquakes, accidents, mechanical breakdowns, or other events or perils that result in power outages or damage to the Utility's assets or operations, to the extent not covered by insurance.

        Legislative and Regulatory Environment.    PG&E Corporation's, the Utility's, and PG&E NEG's businesses may be impacted by legislative or regulatory changes affecting the electric and natural gas industries in the United States.

        Regulatory Proceedings and Investigations.    PG&E Corporation's and the Utility's business may be affected by:

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the outcome of the Utility's various regulatory proceedings pending at the CPUC and at the FERC, and



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the outcome of the CPUC's pending investigation into whether the California investor-owned utilities, or IOUs, have complied with past CPUC decisions, rules, or orders authorizing their holding company formations and/or governing affiliate transactions, as well as applicable statutes.

        Pending Legal Proceedings.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by the outcomes of:

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the lawsuits filed by the California Attorney General and the City and County of San Francisco against PG&E Corporation alleging unfair or fraudulent business acts or practices based on alleged violations of conditions established in the CPUC's holding company decisions;



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the outcome of the California Attorney General's petition requesting revocation of PG&E Corporation's exemption from the Public Utility Holding Company Act of 1935; and



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other pending litigation.

        Competition.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

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the threat of municipalization which may result in stranded Utility investment, loss of customer growth, and additional barriers to cost recovery;



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changes in the level of direct access customer cost responsibility and other surcharges related to direct access, and competition from other service providers to the extent restrictions on direct access are removed;



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the development of alternative energy technologies;



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the ability to compete for gas transmission services into Southern California and with alternative storage providers throughout California; and



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the growth of distributed generation or self-generation.

        Environmental and Nuclear Matters.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

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the effect of compliance with existing and future environmental laws, regulations, and policies, the cost of which could be significant;



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the outcome of pending environmental matters or proceedings;



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whether the Utility is able to fully recover in rates the costs of complying with existing and future environmental laws, regulations, and policies, the cost of which could be significant; and



•

whether the Utility incurs costs in connection with its nuclear facilities that exceed the Utility's insurance coverage and other amounts set aside for decommissioning and other potential liabilities.

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        Accounting and Risk Management.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

•

the effect of new accounting pronouncements;



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changes in critical accounting estimates;



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volatility in income resulting from mark-to-market accounting and changes in mark-to-market methodologies;



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the extent to which the assumptions underlying critical accounting estimates, mark-to-market accounting, and risk management programs are not realized;



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the volatility of commodity fuel and electricity prices, and the effectiveness of risk management policies and procedures designed to address volatility; and



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the ability of counterparties to satisfy their financial commitments and the impact of counterparties' nonperformance on PG&E NEG's liquidity.

        Efforts to Restructure PG&E NEG's Indebtedness.    Whether PG&E NEG and certain of its subsidiaries seek protection under or be forced into a proceeding under the U.S. Bankruptcy Code will be affected by

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the outcome of PG&E NEG's negotiations with lenders under various credit facilities as well as with representatives of the holders of PG&E NEG's Senior Notes to restructure PG&E NEG's and its subsidiaries' indebtedness and commitments;



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the terms and conditions of any sale, transfer, or abandonment of certain of PG&E NEG's merchant assets, including its New England generating assets, that PG&E NEG may enter into; and



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the terms and conditions under which certain generating projects will be transferred to the project lenders as required by recent restructuring agreements.

        PG&E NEG Operational Risks.    PG&E Corporation's future results of operations and financial condition will be affected by:

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the extent to which PG&E NEG incurs further charges to earnings as a result of the abandonment, sale or transfer of assets, or termination of contractual commitments, whether such transactions occur in connection with restructuring of PG&E NEG's indebtedness or otherwise;



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any potential charges to income that would result from the reduction and potential discontinuance of energy trading and marketing operations, including tolling transactions;



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any potential charges to income that would result from the discontinuance or transfer of any of PG&E NEG's merchant generation assets;



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the inability of PG&E NEG, its merchant asset and other subsidiaries, including USGen New England, Inc., to maintain sufficient liquidity necessary to meet their commodity and other obligations;



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the extent to which PG&E NEG's current construction of generation, pipeline, and storage facilities is completed and the pace and cost of that completion, including the extent to which commercial operations of these construction projects are delayed or prevented because of financial or liquidity constraints, changes in the national energy markets and by the extent and timing of generating, pipeline, and storage capacity expansion and retirements by others; or by various development and construction risks such as PG&E NEG's failure to obtain necessary permits or equipment, the failure of third-party contractors to perform their contractual obligations, or the failure of necessary equipment to perform as anticipated and the potential loss of permits or other rights in connection with PG&E NEG's decision to delay or defer construction;



•

the impact of layoffs and loss of personnel; and



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future sales levels which can be affected by economic conditions, weather, conservation efforts, outages, and other factors.

        Current Conditions in the Energy Markets and the Economy.    PG&E Corporation's future results of operations and financial condition will be affected by changes in the energy markets, changes in the general economy, wars,

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embargoes, financial markets, interest rates, other industry participant failures, the markets' perception of energy merchants and other factors.

        Actions of PG&E NEG Counterparties.    PG&E Corporation's future results of operations and financial condition may be affected by:

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The extent to which counterparties demand additional collateral in connection with PG&E ET's trading and nontrading activities and the ability of PG&E NEG and its subsidiaries to meet the liquidity calls that may be made; and



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The extent to which counterparties seek to terminate tolling agreements and the amount of any termination damages they may seek to recover from PG&E NEG as guarantor.

        As the ultimate impact of these and other factors is uncertain, these and other factors may cause future earnings to differ materially from results or outcomes currently sought or expected.

REGULATION

        Various aspects of PG&E Corporation's and its subsidiaries' businesses, including the Utility, are subject to a complex set of energy, environmental, and other governmental laws and regulations at the federal, state and local levels. This section summarizes some of the more significant laws and regulations affecting PG&E Corporation's business at this time.

Regulation of PG&E Corporation

        PG&E Corporation and its subsidiaries are exempt from all provisions, except Section 9(a)(2), of the Public Utility Holding Company Act of 1935, or the Holding Company Act. At present, PG&E Corporation has no expectation of becoming a registered holding company under the Holding Company Act. On July 7, 2001, the California Attorney General, or the AG, filed a petition with the SEC requesting the SEC to review and revoke PG&E Corporation's exemption from the Holding Company Act and to begin fully regulating the activities of PG&E Corporation and its affiliates. The AG's petition requested the SEC to hold a hearing on the matter as soon as possible, and requested a response from the SEC no later than September 5, 2001. On August 7, 2001, PG&E Corporation responded in detail to the AG's petition demonstrating that PG&E Corporation met the SEC's criteria for the intrastate exemption. On October 4, 2001, the AG filed a "supplement" to its petition requesting that the SEC consider additional issues and to set the matter for hearing. PG&E Corporation responded to the supplement on October 30, 2001, and once again demonstrated that there was no basis for action by the SEC. In comments filed on November 14, 2002 on PG&E Corporation's 9(a)(2) filing made with the SEC in connection with the implementation of the Utility Plan, the AG reiterated the arguments made in its July 7, 2001 and October 4, 2001 filings with the SEC. In its response filed with the SEC on January 24, 2003, PG&E Corporation responded to those arguments and demonstrated that there was no basis for SEC action with respect to those issues. To date, the SEC has neither instituted an investigation nor ordered hearings regarding the matters raised in the AG's petition.

        PG&E Corporation is not a public utility under the laws of California and is not subject to regulation as such by the CPUC. However, the CPUC approval authorizing Pacific Gas and Electric Company to form a holding company was granted subject to various conditions related to finance, human resources, records and bookkeeping, and the transfer of customer information. As further discussed below, in January 2002, the CPUC issued a decision asserting that it maintains jurisdiction to enforce the conditions against PG&E Corporation and similar holding companies and to modify, clarify or add to the conditions. The financial conditions provide that

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the Utility is precluded from guaranteeing any obligations of PG&E Corporation without prior written consent from the CPUC,



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the Utility's dividend policy must continue to be established by the Utility's Board of Directors as though Pacific Gas and Electric Company were a stand-alone utility company,



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the capital requirements of the Utility, as determined to be necessary and prudent to meet the Utility's obligation to serve or to operate the Utility in a prudent and efficient manner, must be given first priority by PG&E Corporation's Board of Directors (the "first priority condition"), and



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the Utility must maintain on average its CPUC-authorized utility capital structure, although it shall have an opportunity to request a waiver of this condition if an adverse financial event reduces the Utility's equity ratio by 1% or more.

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        The CPUC also has adopted complex and detailed rules governing transactions between California's natural gas local distribution and electric utility companies and their non-regulated affiliates. The rules permit non-regulated affiliates of regulated utilities to compete in the affiliated utility's service territory, and also to use the name and logo of their affiliated utility, provided that in California the affiliate includes certain designated disclaimer language which emphasizes the separateness of the entities and that the affiliate is not regulated by the CPUC. The rules also address the separation of regulated utilities and their non-regulated affiliates and information exchange among the affiliates. The rules prohibit the utilities from engaging in certain practices that would discriminate against energy service providers that compete with the utility's non-regulated affiliates. The CPUC also has established specific penalties and enforcement procedures for affiliate rules violations. Utilities are required to self-report affiliate rules violations.

        On April 3, 2001, the CPUC issued an order instituting an investigation into whether the California IOUs, including the Utility, have complied with past CPUC decisions, rules, or orders authorizing their holding company formations and/or governing affiliate transactions, as well as applicable statutes. The order states that the CPUC will investigate (1) the utilities' transfer of money to their holding companies, including during times when their utility subsidiaries were experiencing financial difficulties, (2) the failure of the holding companies to financially assist the utilities when needed, (3) the transfer by the holding companies of assets to unregulated subsidiaries, and (4) the holding companies' actions to "ringfence" their unregulated subsidiaries. The CPUC will also determine whether additional rules, conditions, or changes are needed to adequately protect ratepayers and the public from dangers of abuse stemming from the holding company structure. The CPUC will investigate whether it should modify, change, or add conditions to the holding company decisions, make further changes to the holding company structure, alter the standards under which the CPUC determines whether to authorize the formation of holding companies, otherwise modify the decisions, or recommend statutory changes to the California legislature. As a result of the investigation, the CPUC may impose remedies, prospective rules, or conditions, as appropriate. PG&E Corporation and the Utility believe that they have complied with applicable statutes, CPUC decisions, rules, and orders.

        On January 9, 2002, the CPUC issued two decisions in its pending investigation. In one decision, the CPUC, for the first time, adopted a broad interpretation of the first priority condition and concluded that the condition, at least under certain circumstances, includes the requirement that each of the holding companies "infuse the utility with all types of capital necessary for the utility to fulfill its obligation to serve." The three major California IOUs and their parent holding companies had opposed this broader interpretation as being inconsistent with the prior 15 years' understanding of that condition as applying more narrowly to a priority on capital needed for investment purposes. The CPUC also interpreted the first priority condition as prohibiting a holding company from (1) acquiring assets of its utility subsidiary for inadequate consideration, and (2) acquiring assets of its utility subsidiary at any price, if such acquisition would impair the utility's ability to fulfill its obligation to serve or to operate in a prudent and efficient manner.

        In the other decision, the CPUC denied the motions filed by the California utility holding companies to dismiss the holding companies from the pending investigation on the basis that the CPUC lacks jurisdiction over the holding companies. However, in the decision interpreting the first priority condition discussed above, the CPUC separately dismissed PG&E Corporation (but no other utility holding company) as a respondent to the proceeding. The CPUC stated that PG&E Corporation was being dismissed so that an appropriate legal forum; i.e., the state court action discussed below, could decide expeditiously whether adoption of the Utility's proposed plan of reorganization would violate the first priority condition.

        On January 10, 2002, the AG filed a complaint in the San Francisco Superior Court against PG&E Corporation and its directors, as well as against the directors of the Utility, based on allegations of unfair or fraudulent business acts or practices in violation of California Business and Professions Code Section 17200. Among other allegations, the AG alleges that PG&E Corporation violated the various conditions established by the CPUC in decisions approving the holding company formation. After the AG's complaint was filed, two other complaints containing substantially similar allegations were filed by the City and County of San Francisco and by a private plaintiff. For more information, see "Item 3—Legal Proceedings" below.

        PG&E Corporation and the Utility believe that they have complied with applicable statutes, CPUC decisions, rules, and orders. Neither the Utility nor PG&E Corporation can predict what the outcomes of the CPUC's investigation, the AG's petition to the SEC, and the related litigation will be or whether the outcomes will have a material adverse effect on their results of operations or financial condition.

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Regulation of Pacific Gas and Electric Company

Federal Regulation

        The FERC.    The FERC is an independent agency within the U.S. Department of Energy, or the DOE. The FERC regulates the interstate sale and transportation of natural gas, the transmission of electricity in interstate commerce and the sale for resale of electricity in interstate commerce. The FERC regulates electric transmission rates and access, interconnections, operation of the California Independent System Operator, or ISO, and the terms and rates of wholesale electric power sales. The ISO has responsibility for providing open access transmission service on a non-discriminatory basis, meeting applicable reliability criteria, planning transmission system additions, and assuring the maintenance of adequate reserves and is subject to FERC regulation of tariffs and conditions of service. In addition, the FERC has jurisdiction over the Utility's electric transmission revenue requirements and rates. The FERC also regulates the interstate transportation of natural gas. Further, most of the Utility's hydroelectric facilities are subject to licenses issued by the FERC.

        In an effort to support the development of competitive markets, the FERC announced in its Order 2000 a policy of promoting regional transmission organizations, or RTOs, which would perform specified functions similar to the ISO. Under the FERC's Order 2000, RTOs would generally span areas where multiple utilities may have operated in the past in order to enhance the efficiency of power markets, for example, by eliminating duplicative charges from one transmission system to the next in a region. Order 2000 encourages utilities owning transmission systems to form RTOs on a voluntary basis. The Utility is a participant in the ISO; however, the FERC has not yet approved the ISO's status as a RTO under Order 2000.

        In the FERC's proposal for a standard market design, the FERC has proposed additional changes to the open access transmission tariff initially established under the FERC's Order 888 to standardize transmission service and wholesale electric market design to address undue discrimination in interstate transmission services. The FERC has proposed that all public utilities with open access transmission tariffs file modifications to their tariffs to conform to the FERC's standard. These proposed changes would require all independent transmission providers or RTOs to participate in a regional planning process for grid upgrades and expansion to ensure grid reliability. The FERC proposed approving participant funding of certain new facilities, meaning those who would directly benefit from those facilities would be required to pay for them. PG&E Corporation filed comments on November 15, 2002 supporting the goals of the FERC's proposal, and is continuing to participate in the rulemaking process as it moves forward.

        The ISO issued its own Comprehensive Market Design Proposal to effect changes to the structure and operation of the California electricity market. Implementation of the first phase of the proposal, automated market mitigation procedures, occurred in the fourth quarter of 2002, with subsequent phases to address real-time economic dispatch, integrated forward markets, locational marginal pricing, and congestion management scheduled to occur in 2003 and 2004.

        In a separate proceeding, the FERC has proposed that all transmission providers use standard interconnection procedures and a standard agreement for generator interconnections. The generator interconnection rules, if adopted as proposed, would require the Utility to update and construct additional facilities based on decisions by new generators, and would preclude the Utility from disclaiming consequential damages for any claims or limiting the Utility's liability for its negligence in any new generator interconnection agreements. The FERC has also held that transmission providers, like the Utility, must upgrade existing facilities or construct new facilities to interconnect with new generators, and that while generators will generally be responsible for initially funding the costs of such facilities, some of which costs over time must be refunded by the Utility and recovered in the Utility's rates. The FERC recently held that generators are entitled to a credit for the cost of network upgrades which they funded even if the FERC previously had accepted agreements which directly assigned to the generators responsibility for the cost of those upgrades.

        In response to the unprecedented increase in wholesale electricity prices, the FERC issued a series of orders in the spring and summer of 2001 and July 2002 aimed at mitigating future extreme wholesale energy prices like those in 2000 and 2001. These orders established a cap on bids for real-time electricity and ancillary services of $250/MWh and established various automatic mitigation procedures. Recently, in the FERC's standard market design proposed rules, the FERC proposed to adopt a safety net bid cap as part of the mitigation plan for wholesale energy markets and has requested comments on the appropriate value for such a bid cap.

        Also, in June and July 2001, the FERC's chief administrative law judge conducted settlement negotiations among power sellers, the State of California and the California IOUs in an attempt to resolve disputes regarding

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past power sales. The negotiations did not result in a settlement, but the judge recommended that the FERC conduct further hearings to determine possible refunds and what the power sellers and buyers are each owed. The FERC has asserted that it would not order refunds for periods before October 2, 2000, because under a federal statute it can only consider ordering refunds as far back as 60 days after a complaint for overcharges was filed. The first complaint for overcharges was filed with the FERC in August 2000. These hearings, in which various parties, including the Utility and the State of California, which is seeking up to $8.9 billion in refunds for electricity overcharges on behalf of buyers, including the Utility, were concluded in October 2002. However, an August 21, 2002, order from the U. S. Court of Appeals for the Ninth Circuit ordered the FERC to allow the California parties "to adduce additional evidence of market manipulation by various sellers...." In November 2002, the FERC gave parties until February 28, 2003 to submit more evidence and conduct fact-finding on whether California's energy market was manipulated. On December 17, 2002, a FERC administrative law judge issued a ruling permitting the California parties to conduct discovery of potential market manipulation affecting California ISO and PX markets within all 14 western states and parts of Canada comprising the Western Electricity Coordinating Council to support claims for refunds. The judge also ruled new evidence is admissible on market manipulation and artificially inflated prices for natural gas, the chief fuel used to generate electricity.

        On December 12, 2002, a FERC administrative law judge issued an initial decision finding that power companies overcharged the utilities, the State of California and other buyers from October 2, 2000 to June 2001 by $1.8 billion, but that California buyers still owe the power companies $3 billion, leaving $1.2 billion in unpaid bills. The time period reviewed in the FERC hearings excludes the claims for refunds for overcharges that occurred before October 2, 2000 and after June 2001 when the DWR entered into contracts to buy power.

        After the final round of evidence-gathering ends, the FERC commissioners must decide whether to uphold or change the initial decision. It is uncertain when the FERC will issue a decision.

        The NRC.    The NRC oversees the licensing, construction, operation, and decommissioning of nuclear facilities, including the Diablo Canyon Nuclear Power Plant (Diablo Canyon) and the retired nuclear generating unit at Humboldt Bay Unit 3. NRC regulations require extensive monitoring and review of the safety, radiological, environmental and security aspects of these facilities.

State Regulation

        The CPUC.    The CPUC has jurisdiction to set retail rates and conditions of service for the Utility's electric distribution, gas distribution, and gas transmission services in California. The CPUC also has jurisdiction over the Utility's sales of securities, dispositions of utility property, energy procurement on behalf of its electric and gas retail customers, rate of return, rates of depreciation, and certain aspects of the Utility's siting and operation of its electric and gas transmission and distribution systems. Ratemaking for retail sales from the Utility's remaining generation facilities is under the jurisdiction of the CPUC. To the extent such power is sold for resale into wholesale markets, however, it is under the ratemaking jurisdiction of the FERC. The CPUC also conducts various reviews of utility performance and conducts investigations into various matters, such as deregulation, competition, and the environment, in order to determine its future policies. The CPUC consists of five members appointed by the Governor of California and confirmed by the California State Senate for six-year terms.

        The CEC.    The California Energy Resources Conservation and Development Commission, also called the California Energy Commission, or the CEC, makes electricity-demand forecasts for the state and for specific service territories. Based upon these forecasts, the CEC determines additional energy sources and conservation program needs. The CEC has jurisdiction over the siting and construction of new thermal electric generating facilities 50 MW and greater in size. The CEC sponsors alternative-energy research and development projects, promotes energy conservation programs, and maintains a statewide plan of action in case of energy shortages. In addition, the CEC certifies power plant sites and related facilities within California. The CEC also administers funding for public purpose research and development, and renewable technologies programs.

        California Legislature.    The California Legislature also has an active role in the regulation of California IOUs. Over the last several years, the Utility's operations have been significantly affected by statutes passed by the California Legislature.

        Assembly Bill 1890—California Electric Industry Restructuring.    In 1998, California implemented Assembly Bill 1890, or AB 1890, which mandated the restructuring of the California electric industry and established a market framework for electric generation in which generators and other power providers were permitted to charge

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market-based prices for wholesale power. The CPUC also issued many decisions to implement electric industry restructuring. Electric industry restructuring included the following components:

        The Rate Freeze and Transition Cost Recovery—Beginning January 1, 1997, electric rates for all customers were frozen at the level in effect on June 10, 1996, except that on January 1, 1998, rates for residential and small commercial customers were reduced by a further 10% and frozen at that level. The rate freeze for each IOU was supposed to end when that IOU had recovered its eligible "transition" costs (costs of utility generation-related assets and obligations that were expected to become uneconomic under the new competitive generation market structure), but not later than March 31, 2002. Under limited circumstances, some transition costs could be recovered after the transition period. Costs eligible for recovery as transition costs, as determined by the CPUC, include (1) above-market sunk costs associated with utility generating facilities that are fixed and unavoidable and that were included in customer rates on December 20, 1995, and future unavoidable above-market firm obligations, such as costs related to plant removal, (2) costs associated with pre-existing long-term contracts to purchase power at then above-market prices from qualifying facilities, or QFs, and other power suppliers, and (3) generation-related regulatory assets and obligations. Frozen rates were designed to recover authorized utility costs and, to the extent the frozen rates generated revenues in excess of authorized utility costs, recover the Utility's transition costs. Transition costs also were to be recovered by other revenue sources including (1) the portion of the market value of generation assets sold by the Utility or market valued by the CPUC that is in excess of book value, (2) revenues from energy sales from the utilities' remaining electric generation facilities that exceeded the allowed revenue requirements for the utilities' costs to generate or obtain such electricity, and (3) revenues provided after the end of the transition period for rate reduction bond principal repayments to recover deferred transition costs associated with the financed 10% rate reduction and issuance of the rate reduction bonds to finance such reduction.

        For the first two years of the transition period, the revenues from frozen retail rates exceeded the generation costs included in retail rates. Based on the resulting net revenues and other revenue sources used to recover transition costs, it appeared that the Utility's transition costs would be recovered before March 31, 2002, thus allowing the rate freeze to end sooner than the statutory end date. Although the Utility informed the CPUC in late 2000 that it had satisfied the statutory conditions for ending the rate freeze by no later than August 31, 2000, the CPUC adopted changes to its regulatory accounting rules in March 2001 that had the effect of changing the classification of costs recovered in the Utility's regulatory balancing accounts and reversing the Utility's prior collection of transition costs.

        In June 2000, wholesale electricity prices began to increase and reached unprecedented levels in November 2000 and later months. During the California energy crisis, frozen rates were insufficient to cover the Utility's electricity procurement and other costs. By December 31, 2000, the Utility had accumulated approximately $6.9 billion in undercollected purchased power and transition costs that the CPUC would not allow the Utility to collect from its customers. Because the Utility could no longer conclude that such costs were probable of recovery, the Utility charged this $6.9 billion to earnings during 2000.

        In the first quarter of 2001, the CPUC authorized the Utility to begin collecting energy surcharges totaling $0.04 per kWh (composed of a $0.01 per kWh surcharge in January and a $0.03 per kWh surcharge approved in March). Although the CPUC authorized the $0.03 per kWh surcharge in March 2001, the Utility did not begin collecting the revenues until June 2001. As a result, in May 2001, the CPUC authorized the Utility to collect an additional $0.005 per kWh surcharge revenue for 12 months to make up for the time lag in collection of the $0.03 surcharge revenues. Although the collection of this "half-cent surcharge" was originally scheduled to end on May 31, 2002, the CPUC issued a resolution ordering the Utility to continue collecting the half-cent surcharge until further consideration by the CPUC. The CPUC restricted the use of these surcharge revenues to pay for the Utility's "ongoing procurement costs" and "future power purchases." Due to these surcharges, the Utility has been collecting revenues in excess of its ongoing costs of utility service enabling the Utility to partially recover its undercollected power procurement and transition costs previously written off. The amount of undercollected power procurement and transition costs has been reduced to approximately $2.2 billion (after-tax) at December 31, 2002.

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        In November 2002, the CPUC approved a decision modifying the restrictions on the use of revenues generated by the surcharges to permit the revenues to be used for the purpose of securing or restoring the Utility's reasonable financial health, as determined by the CPUC. The CPUC will determine in other proceedings how the surcharge revenues can be used, whether there is any cost or other basis to support specific surcharge levels, and whether the resulting rates are just and reasonable. After the CPUC determines when the AB 1890 rate freeze ended (which the CPUC states ended no later than March 31, 2002), the CPUC will determine the extent and disposition of the Utility's undercollected costs, if any, remaining at the end of the rate freeze. If the CPUC determines that the Utility recovered revenues in excess of its transition costs or in excess of other permitted uses, the CPUC may require the Utility to refund such excess revenues.

        In a case currently pending before it relating to the CPUC's settlement with Southern California Edison, the Supreme Court of California is considering whether the CPUC has the authority to enter into a settlement which allows Southern California Edison to recover undercollected procurement and transition costs in light of the provisions of AB 1890. The Utility cannot predict the outcome of this case or whether the CPUC or others would attempt to apply any ruling to the Utility. If the Utility is ordered to refund material amounts to ratepayers the Utility's financial condition and results of operations would be materially adversely affected.

        Direct Access —AB 1890 gave the Utility's customers the choice of continuing to buy electricity from the California IOUs or buying electricity from independent power generators or retail electricity suppliers beginning April 1, 1998. Customers who choose to buy their electricity from independent power generators or retail electricity suppliers are called direct access customers. Most of the Utility's customers continued to buy electricity through the Utility. On September 20, 2001, the CPUC, pursuant to AB 1X, suspended the right of retail end-use customers to acquire direct access service, preventing additional customers from entering into contracts to purchase electricity from alternative energy providers. In a subsequent decision issued on March 21, 2002, the CPUC decided to allow all customers with direct access contracts entered into on or before September 20, 2001 to remain on direct access. The CPUC has established an exit fee, or non-bypassable charge, on those direct access customers to avoid a shift of costs from direct access customers to bundled service customers. For more information, see "Electric Ratemaking—Electric Procurement—Direct Access" below.

        The Power Exchange, the Independent System Operator, and the Buy/Sell Requirement —AB 1890 called for the creation of the California Power Exchange, or the PX. The PX provided an auction process, intended to be competitive, to establish hourly transparent market clearing prices for electricity in the markets operated by the PX. The PX operated the following energy markets:

•

the day-ahead market where market participants purchased power for their customers' needs for the following day,

•

the day-of market where market participants purchased power needed to serve their customers on the same day, and

•

the block forward market, or BFM, that matched bids to buy a specific amount of power for one month (and later one-quarter and annual terms) with offers to sell power for the same period in advance of the contracted delivery date.

        This short-term spot market approach represented a dramatic shift from the existing pricing approach based on a portfolio of short and longer-term contracts. At the time the PX was formed and in several subsequent decisions, the CPUC ruled that prices paid by utilities to the PX under the CPUC's "buy-sell" mandate were presumed to be prudent and reasonable for the purpose of recovery in retail rates.

        AB 1890 also called for the creation of the ISO to exercise centralized operational control of the statewide transmission grid. The California IOUs were obligated to transfer control, but not ownership, of their transmission systems to the ISO. The ISO is responsible for ensuring the reliability of the transmission grid and keeping momentary supply and demand in balance. The PX market was augmented by a spot "real-time" market maintained by the ISO. If enough power was not purchased and scheduled to meet the actual real-time demands for power being placed on the transmission system, then the ISO was authorized under its FERC-approved tariffs to purchase and provide the electricity from any other sources within or outside of California, often at high rates, to make up the difference in order to keep the electrical grid operating reliably. The ISO billed the PX for such power deficiencies, and the PX in turn billed the IOUs to the extent the IOUs were unable to purchase sufficient supply from the PX for their retail customers.

        The PX's BFM provided the Utility a limited opportunity to hedge against prices in the PX day-ahead market only; it did not enable the Utility to hedge against ISO real-time market prices. In July 1999, the Utility obtained CPUC authority to participate in the BFM and the Utility subsequently entered into several BFM contracts.

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        Due to the January 2001 downgrades in the Utility's credit ratings and the Utility's alleged failure to post collateral for all market transactions, the PX suspended the Utility's market trading privileges as of January 19, 2001. Further, the PX sought to liquidate the Utility's BFM contracts for the purchase of power. On February 5, 2001, the Governor, acting under California's Emergency Services Act, seized the Utility's BFM contracts for the benefit of the State. Under the Act, the State must pay the Utility the reasonable value of the contracts, although the PX may seek to recover monies that the Utility owes to the PX from any proceeds realized from those contracts. The Utility subsequently filed a complaint against the State to recover the value of the seized contracts. This litigation is still pending.

        Divestiture and Market Valuation of Generation Assets —The structure of the transition to a fully competitive generation market established by AB 1890 also required all of the Utility's generation assets to be market valued, if not through sale, then through appraisal or other divestiture. Under AB 1890, the CPUC was required to complete market valuation of all generation assets by December 31, 2001. Under AB 1890, once an asset had been market valued, it was no longer subject to rate regulation by the CPUC. The market valuation process was intended to be an integral and essential step in recovering transition costs and measuring whether the transition period had ended. The transition costs eligible for recovery were to be calculated by netting above-market assets against below-market assets. Once market valuation had occurred, the end of the rate freeze date was to be computed retroactively to the point at which all transition costs had been recovered. To date, the only assets of the Utility that the CPUC has valued have been those that were divested through sale, except with respect to the Utility's Hunters Point power plant, which the CPUC ruled had no market value. The Utility timely submitted proposed market valuations of retained generation facilities, so that those facilities could be valued by the CPUC and no longer subject to CPUC regulation. In August 2000, the Utility submitted an interim market valuation of $2.8 billion for its hydroelectric generation facilities. Additionally, in June and December 2000, the Utility submitted testimony to the CPUC providing a market valuation of its hydroelectric facilities of $4.1 billion.

        In 1995, in anticipation of the transition to a competitive wholesale electric market, the CPUC ordered the California IOUs to file plans to divest at least 50% of their fossil fuel-fired generation assets. Moreover, as an incentive to sell the remainder of the Utility's generation assets, the CPUC reduced the return on equity that the Utility could earn on any retained generation asset substantially below its otherwise authorized return to a level equivalent to 90% of the Utility's embedded cost of debt (or 6.77%). The Utility sold virtually all of its fossil-fuel fired and geothermal generation capacity with CPUC authorization and approval. By January 2000, the Utility owned only its large nuclear power generating facility at Diablo Canyon, its hydroelectric generation facilities, and two smaller, older fossil facilities. As the amount of the Utility's own generation resources decreased, the Utility was forced to rely on power supplied by third-party power producers through the PX to meet the electricity demands of its customers.

        Assembly Bill 1X—California Department of Water Resources.    In late December 2000 and early January 2001, the Utility's creditworthiness deteriorated and was no longer able to comply with the ISO's creditworthiness criteria, spelled out in the ISO tariff, for scheduling third-party power transactions through the ISO. The Utility was unable to continue financing its wholesale power purchases in light of its downgraded credit ratings. On January 17, 2001, the Governor of California signed an order declaring an emergency and authorizing the California Department of Water Resources, or the DWR, to purchase power to maintain the continuity of supply to retail customers. On February 1, 2001, the Governor signed Assembly Bill 1X, or AB 1X, to authorize the DWR to purchase power and sell that power directly to the utilities' retail end-use customers. AB 1X also required the Utility to deliver the power purchased by the DWR over its distribution systems and to act as a billing and collection agent on behalf of the DWR, without taking title to such power or reselling it to its customers.

        AB 1X allows the DWR to recover, as a revenue requirement, among other things: (1) amounts necessary to pay for the power and associated transmission and related services, (2) amounts needed to pay the principal and interest on bonds issued to finance the purchase of power, (3) administrative costs, and (4) certain other amounts associated with the program. AB 1X authorizes the CPUC to set rates to cover the DWR's revenue requirements (but prohibits the CPUC from increasing electric rates for residential customers who use less power than 130% of their existing baseline quantities).

        Assembly Bill 6X—Prohibition on Disposition of Retained Utility-Owned Generating Assets.    In January 2001, the California legislature also enacted AB 6X, which prohibits disposition of utility-owned generating facilities before January 1, 2006. On December 21, 2001, the assigned CPUC Commissioner issued a ruling for comment in which she expressed her opinion that the requirement of AB 1890 to market value retained generation by December 31, 2001 had been superseded by AB 6X. On January 15, 2002, the Utility filed its comments on the

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proposal stating that AB 6X did not relieve the CPUC of its statutory obligation to market value the retained generation by December 31, 2001. The CPUC has not yet issued a decision on this matter.

        On January 2, 2002, the CPUC issued a decision finding that AB 6X had materially affected the implementation of AB 1890. The CPUC scheduled further proceedings to address the impact of AB 6X on the AB 1890 rate freeze for the Utility and to determine the extent and disposition of the Utility's remaining unrecovered transition costs. In its November 2002 decision regarding the surcharge revenues, discussed above, the CPUC reiterated that it had yet to decide when the rate freeze ended and the disposition of any undercollected costs remaining at the end of the rate freeze.

        On January 17, 2002, the Utility filed an administrative claim with the State of California Victim Compensation and Government Claims Board alleging that AB 6X violates the Utility's statutory rights under AB 1890. The Utility's claim seeks compensation for the denial of its right to at least $4.1 billion market value of its retained generating facilities. On March 7, 2002, the Claims Board formally denied the Utility's claim. Having exhausted remedies before the Claims Board, on September 6, 2002, the Utility filed a complaint against the State of California in the California Superior Court. On January 9, 2003, the Superior Court granted the State's request to dismiss the Utility's complaint, finding that AB 1890 did not constitute a contract. The Utility has 60 days to file an appeal and intends to do so.

        Senate Bill 1976—Resumption of Procurement.    Under AB 1X, the DWR was prohibited from entering into new electricity purchase contracts and from purchasing electricity on the spot market after December 31, 2002. In September 2002, the Governor signed California Senate Bill 1976, or SB 1976, into law. SB 1976 required the CPUC to allocate electricity subject to existing DWR contracts among the customers of the California IOUs, including the Utility's customers. Each IOU had to submit, within 60 days of the CPUC's allocation of the existing DWR contracts, a proposed electricity procurement plan to the CPUC specifying the date that the IOU intends to resume procurement of electricity for its retail customers.

        As part of the resumption of the procurement function, each IOU would procure electricity for that portion of its customers' needs that is not covered by the combination of the allocation of electricity from existing DWR contracts to that IOU's customers and the IOU's own electric resources and contracts (referred to as the residual net open position).

        SB 1976 requires that each procurement plan include one or more of the following features:

•

A competitive procurement process under a format authorized by the CPUC, with the costs of procurement obtained in compliance with the authorized bidding format being recoverable in rates;


•

A clear, achievable, and quantifiable incentive mechanism that establishes benchmarks for procurement and authorizes the IOUs to procure from the market subject to comparison with the CPUC-authorized benchmarks; and/or


•

Upfront and achievable standards and criteria to determine the acceptability and eligibility for rate recovery of a proposed transaction and an expedited CPUC pre-approval process for proposed bilateral contracts to ensure compliance with the individual utility's procurement plan.

        The CPUC must review each procurement plan but SB 1976 provides that the CPUC may not approve a procurement plan if it finds the plan contains features or mechanisms that would impair restoration of the IOU's creditworthiness or would lead to a deterioration of the IOU's creditworthiness. A procurement plan approved by the CPUC must accomplish the following objectives, among others:

•

Enable the IOU to fulfill its obligation to serve its customers at just and reasonable rates;


•

Eliminate the need for after-the-fact reasonableness review of actions in compliance with an approved procurement plan, including resulting electricity procurement contracts and related expenses, subject to verification and assurance that each contract was administered in accordance with the terms of the contract and that contract disputes that arise are resolved reasonably; and


•

Moderate the price risk associated with serving its customers by authorizing the IOU to enter into financial and other electricity-related product contracts.

        SB 1976 requires the CPUC to:

•

create electric procurement balancing accounts to track and allow recovery of the differences between recorded revenues and costs incurred under an approved procurement plan;


•

review the revenues and costs associated with the IOU's procurement plan at least semi-annually and adjust rates or order refunds as necessary; and

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•

establish the schedule for amortizing the overcollections or undercollections in the electric procurement balancing accounts at least through January 1, 2006, so that the aggregate overcollection or undercollection reflected in the accounts does not exceed 5% of the IOU's actual recorded generation revenues for the prior calendar year, excluding revenues collected on behalf of the DWR.

        On September 19, 2002, the CPUC issued a decision allocating electricity subject to the DWR contracts to the generation portfolios of the three California IOUs for operational and scheduling purposes, with the DWR retaining legal title and financial reporting and payment responsibilities associated with these contracts. The IOUs will, however, become responsible for scheduling and dispatch of the quantities subject to the allocated contracts and for many administrative functions associated with those contracts.

        On October 24, 2002, the CPUC issued a decision establishing an accelerated schedule for submission and approval of procurement plans for each California IOU with a view to these utilities resuming procurement responsibility for their net open position on January 1, 2003. On December 19, 2002, the CPUC adopted, in large part but with modifications, the Utility's revised 2003 interim procurement plan. The CPUC also authorized the IOUs to extend their planning into the first quarter of 2004 and directed them to hedge their 2004 first quarter residual net short positions with transactions entered into in 2003. The Utility is required to submit its long-term procurement plan covering the next 20 years by April 1, 2003.

        In December 2002, the CPUC determined that the maximum risk of potential disallowance each IOU should face for all of its procurement activities should be limited to twice its annual administrative costs of managing procurement activities. The Utility anticipates that its annual administrative costs of managing procurement activities will be approximately $18 million in 2003.

        On January 1, 2003, the California IOUs resumed the function of procuring electricity to meet their customers' residual net open position and became responsible for the operational and scheduling functions associated with the DWR contracts allocated to their customers. The IOUs continue to act as billing and collection agents for the DWR.

Local Regulation, Licenses and Permits

        Pacific Gas and Electric Company obtains a number of permits, authorizations, and licenses in connection with the construction and operation of its generating plants, transmission lines, and gas compressor station facilities. Discharge permits, various Air Pollution Control District permits, U.S. Department of Agriculture-Forest Service permits, FERC hydroelectric facility and transmission line licenses, and NRC licenses are the most significant examples. Some licenses and permits may be revoked or modified by the granting agency if facts develop or events occur that differ significantly from the facts and projections assumed in granting the approval. Furthermore, discharge permits and other approvals and licenses are granted for a term less than the expected life of the associated facility. Licenses and permits may require periodic renewal, which may result in additional requirements being imposed by the granting agency. The Utility currently has eight hydroelectric projects and one transmission line project undergoing FERC license renewal.

        The Utility has over 520 franchise agreements with various cities and counties that allow the Utility to install, operate and maintain its electric, natural gas, oil, and water facilities in the public streets and roads. In exchange for the right to use public streets and roads, the Utility pays annual fees to the cities and counties under the franchises. Franchise fees are computed according to statute depending on whether the particular franchise was granted under the Broughton Act or the Franchise Act of 1937; however, there are 38 "charter cities" that can set a fee of their own determination. The Utility also periodically obtains permits, authorizations, and licenses in connection with our distribution of electricity and natural gas. Pursuant to the permits, licenses, and franchises, the Utility has rights to occupy and/or use public property for the operation of its business and to conduct certain operations.

        The Utility's operations and assets are also regulated by a variety of other federal, state, and local agencies.

Regulation of PG&E National Energy Group, Inc. Businesses

Federal Regulation

        The rates, terms, and conditions of the wholesale sale of power by the generating facilities owned or leased by PG&E NEG through PG&E Generating Company LLC, its subsidiaries and affiliates, and of power contractually controlled by them is subject to FERC jurisdiction under the Federal Power Act. Various PG&E NEG subsidiaries and affiliates have FERC-approved market-based rate schedules and accordingly have been granted waivers of

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many of the accounting, record keeping, and reporting requirements imposed on entities with cost-based rate schedules. This market-based rate authority may be revoked or limited at any time by the FERC.

        PG&E NEG-affiliated projects are also subject to other differing federal regulatory regimes. Those qualifying as qualifying facilities, or QFs, under the Public Utility Regulatory Policies Act of 1978, or PURPA, are exempt from the Holding Company Act, certain rate filings, and accounting, record keeping, and reporting requirements that the FERC otherwise imposes and from certain state laws. Others qualify as Exempt Wholesale Generators under the National Energy Policy Act of 1992. These generators are not regulated under the Holding Company Act, but are subject to FERC and state regulation, including rate approval.

        The FERC also regulates the rates, terms, and conditions for electric transmission in interstate commerce. Tariffs established under FERC regulation provide PG&E NEG with the necessary access to transmission lines which enables PG&E NEG to sell the energy PG&E NEG produces into competitive markets for wholesale energy. In April 1996, the FERC issued an order requiring all public utilities to file "open access" transmission tariffs. Some utilities are seeking permission from the FERC to recover costs associated with stranded investments through add-ons to their transmission rates. To the extent that the FERC will permit these charges, the cost of transmission may be significantly increased and may affect the cost of PG&E NEG operations.

        The FERC also licenses all of PG&E NEG's hydroelectric and pumped storage projects. These licenses, which are issued for 30 to 50 years, will expire at different times between 2002 and 2020. The relicensing process often involves complex administrative processes that may take as long as 10 years. The FERC may issue a new license to the existing licensee, issue a license to a new licensee, order that the project be taken over by the federal government (with compensation to the licensee), or order the decommissioning of the project at the owner's expense.

        PG&E NEG's natural gas transmission business is also subject to FERC jurisdiction. Certificates of public convenience and necessity have been obtained from the FERC for construction and operation of the existing pipelines and related facilities and properties, construction and operation of the North Baja Pipeline, and construction and operation on the PG&E GTN pipeline currently underway. An application has also been filed with the FERC to construct a further expansion on PG&E GTN. The rates, terms, and conditions of the transportation and sale (for resale) of natural gas in interstate commerce is subject to FERC jurisdiction. As necessary, PG&E NEG subsidiaries and affiliates file applications with the FERC for changes in rates and charges that allow recovery of costs of providing services to transportation customers. An October 1999 order permits individually negotiated rates in certain circumstances.

        The U.S. Department of Energy, or DOE, also regulates the importation of natural gas from Canada and exportation of power to Canada.

State and Other Regulations

        In addition to federal laws and regulation, PG&E NEG businesses are also subject to various state regulations. First, public utility regulatory commissions at the state level are responsible for approving rates and other terms and conditions under which public utilities purchase electric power from independent power projects. As a result, power sales agreements, which PG&E NEG affiliates enter into with such utilities, are potentially subject to review by the public utility commissions, through the commissions' power to approve utilities' rates and cost recoveries. Second, state public utility commissions also have the authority to promulgate regulations for implementing some federal laws, including certain aspects of PURPA. Third, some public utility commissions have asserted limited jurisdiction over independent power producers. For example, in New York the state public utility commission has imposed limited requirements involving safety, reliability, construction, and the issuance of securities by subsidiaries operating assets located in that state. Fourth, state regulators have jurisdiction over the restructuring of retail electric markets and related deregulation of their electric markets. Finally, states may also assert jurisdiction over the siting, construction, and operation of PG&E NEG's generation facilities.

        In addition, the National Energy Board of Canada and the Canadian gas-exporting provinces issue licenses and permits for removal of natural gas from Canada. The Mexican Comisión Reguladoro de Energía, or CRE, issues various licenses and permits for the importation of gas into Mexico. These requirements are similar to the requirements of the U.S. Department of Energy for the importation and exportation of gas.

        Other regulatory matters are described throughout this report. For a discussion of environmental regulations to which PG&E Corporation and its subsidiaries are subject, see the section entitled "Environmental Matters" below.

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COMPETITION

        Historically, energy utilities operated as regulated monopolies within specific service territories where they were essentially the sole suppliers of natural gas and electricity services. Under this model, the energy utilities owned and operated all of the businesses necessary to procure, generate, transport, and distribute energy. These services were priced on a combined, or "bundled" basis, with rates charged by the energy companies designed to include all of the costs of providing these services. Under traditional cost-of-service regulation, there is a regulatory compact in which the utilities undertake a continuing obligation under state law to serve their customers, in return for which the utilities are authorized to charge regulated rates sufficient to recover their costs of service, including timely recovery of their operating expenses and a reasonable return on their invested capital. The objective of this regulatory policy was to provide universal access to safe and reliable utility services. Regulation was designed in part to take the place of competition and ensure that these services were provided at fair prices. In recent years, energy utilities faced intensifying pressures to "unbundle," or price separately, those activities that are no longer considered natural monopoly services. The most significant of these were the commodity components—electricity and natural gas.

        The driving forces behind these competitive pressures have been customers who believe they can obtain energy at lower unit prices and competitors who want access to those customers. Regulators and legislators responded to these customers and competitors by providing for more competition in the energy industry. Regulators and legislators required utilities to unbundle rates in order to allow customers to compare unit prices of the utilities and other providers when selecting their energy service provider.

The Electric Industry

        As discussed above, in 1998, California implemented AB 1890, which mandated the restructuring of the California electric industry and established a market framework for electric generation in which generators and other power providers were permitted to charge market-based prices for wholesale power.

        During the first two years of the transition period, the revenues from frozen retail rates exceeded the generation costs included in retail rates. Beginning in June 2000, wholesale prices for electricity in California began to increase. Prices moderated somewhat in the fall of 2000, before increasing to unprecedented levels in mid-November of 2000 and later months. Revenues from the Utility's frozen retail rates were insufficient to recover the cost of purchasing wholesale power. In January 2001, as wholesale power prices continued to far exceed retail rates, the major credit rating agencies lowered their ratings for the Utility and PG&E Corporation to non-investment grade levels. Consequently, the Utility lost access to its bank facilities and the capital markets, and could no longer continue buying power to deliver to its customers. As a result, the California Legislature authorized the DWR to purchase electricity for the Utility's customers. The DWR's authority to enter into new contracts or purchase power on the spot market expired on December 31, 2002. On January 1, 2003, the California IOUs resumed procuring power to cover their retail customers' residual net open position.

        The FERC's policy has supported the development of a competitive electric generation sector. The FERC's Order 888, issued in 1996, established standard terms and conditions for parties seeking access to regulated utilities' transmission grids. The FERC's subsequent Order 2000, issued in 1999, established national standards for RTOs and advanced the view that a regulated, unbundled transmission sector should facilitate competition in both wholesale electric generation and retail electricity markets. The FERC's more recent standard market design proposal continues to uphold this view.

        The Utility faces increased competition in the electricity distribution function as a result of the construction of duplicate distribution facilities to service specific existing or new customers, potential municipalization of the Utility's existing distribution facilities by a local government or district, self-generation by the Utility's customers, and other forms of competition that may result in stranded investment capital, loss of customer growth and additional barriers to cost recovery. If the number of Utility customers declines due to these forms of competition and the Utility's rates are not increased in a timely manner to allow the Utility to fully recover its investment and procurement costs, the Utility's financial condition and results of operations could be materially adversely affected.

The Natural Gas Industry

        FERC Order 636, issued in 1992, required interstate pipeline companies to divide their services into separate gas commodity sales, transportation, and storage services. Under Order 636, interstate gas pipelines must provide transportation service regardless of whether the customer (often a local gas distribution company) buys the gas commodity from the pipeline.

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        In August 1997, the CPUC approved the Gas Accord settlement agreement, or Gas Accord, which restructured the Utility's gas services and its role in the gas market through 2002. Among other matters, the Gas Accord unbundled the rates for the Utility's gas transportation services from the rates for its distribution services. As a result, the Utility's customers may buy gas directly from competing suppliers and purchase transportation-only and distribution-only services from the Utility. The Utility's industrial and larger commercial customers, or noncore customers, now purchase their gas from producers, marketers and brokers. Substantially all residential and smaller commercial customers, or core customers, buy gas as well as transmission and distribution services from the Utility as a bundled service.

        Although the Gas Accord originally was scheduled to expire on December 31, 2002, the Utility filed an application to extend the Gas Accord for two years, known as the Gas Accord II Application, or Gas Accord II. In August 2002, the CPUC approved a settlement agreement among the Utility and other parties that provided for a one-year extension through 2003 of the Utility's existing gas transportation and storage rates and terms and conditions of service, as well as rules governing contract extensions and an open season for new contracts. The Gas Accord II settlement left open to subsequent litigation the issues raised in the application insofar as they relate to the second year of the two-year application. In January 2003, the Utility filed an application proposing Gas Accord II rates for 2004. For more information about the Gas Accord and regulatory changes affecting the California natural gas industry, see "Utility Operations—Ratemaking Machanisms—Gas Ratemaking" below.

        The Utility competes with other natural gas pipeline companies for transportation customers into the southern California market on the basis of transportation rates, access to competitively priced supplies of natural gas and the quality and reliability of transportation services. The most important competitive factor affecting the Utility's market share for transportation of gas to the southern California market is the total cost of western Canadian gas, including transportation costs, delivered to southern California from the Utility's transportation system relative to the total cost of gas, including transportation costs, delivered to southern California on other pipeline systems from supply basins in the southwestern United States and Rocky Mountains. In general, when the total cost of western Canadian gas increases, the Utility's market share in southern California decreases. In addition, Kern River Pipeline Company expects to complete a major expansion of its pipeline system in 2003 that will increase its capacity to deliver natural gas into the southern California market by approximately 900 million cubic feet, or MMcf, per day. As a result of Kern River's expansion, the volume of gas that the Utility delivers to the southern California market may decrease in the short term. The Utility also competes for storage services with other third party storage providers, primarily in northern California. The most important competitive factors affecting the Utility's market share are overall product design and pricing terms.

        From time to time, existing pipeline companies propose to expand their pipeline systems for delivery of natural gas into northern and central California. Although the record gas-fired electric generation gas demands in late 2000 and 2001 spurred several new natural gas pipeline proposals for northern and central California, many of the power generation projects have been cancelled or delayed, making it difficult for sponsors of the various gas pipeline projects to acquire enough firm capacity commitments to go forward with construction.

Electric Generation and Natural Gas Transmission

        During 2002, adverse changes in the national energy markets affected PG&E NEG's business including:

•

Contractions and instability of wholesale electricity and energy commodity markets;


•

Significant decline in generation margins (spark spreads) caused by excess supply and reduced demand in most regions of the United States;


•

Loss of confidence in energy companies due to increased scrutiny by regulators, elected officials, and investors as a result of a string of financial reporting scandals;


•

Heightened scrutiny by credit rating agencies prompted by these market changes and scandals which resulted in lower credit ratings for many market participants; and


•

Resulting significant financial distress and liquidity problems among market participants leading to numerous financial restructurings and less market participation.

        PG&E NEG has been significantly impacted by these adverse changes. New generation came online while the demand for power was dropping. This oversupply and reduced demand resulted in low spark spreads (the net of power prices less fuel costs) and depressed operating margins. These changes in the energy industry have had a significant negative impact on the financial results and liquidity of PG&E NEG as discussed in Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations."

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        Competitive factors may also affect the results of PG&E NEG's operations including new market entrants (e.g. construction by others of more efficient generation assets), retirements, and a participant's number of years and extent of operations in a particular energy market. PG&E NEG's Generation Business competes against a number of other participants in the merchant energy industry including Mirant, Calpine, Duke Energy, Reliant, AES, and NRG. Competitive factors relevant to this industry include financial resources, credit quality, development expertise, insight into market prices, conditions and regulatory factors, and community relations. PG&E NEG's competitors have greater financial resources than PG&E NEG does and have a lower cost of capital.

        When economic circumstance force fuel suppliers into bankruptcy, fuel supply contracts are at risk of being terminated, especially if the current market prices are substantially higher than the prices committed to in long-term contracts. Under such circumstances, PG&E NEG is at risk for having its power sales agreements and fuel supply agreements uncoupled. As states review the need for electric industry restructuring, there is a risk that current contracts are found to be too expensive and attempts may be made to abrogate such contracts.

        PG&E NEG's Pipeline Business competes with other pipeline companies for transportation customers on the basis of transportation rates, access to competitively priced gas supply and growing markets, and the quality and reliability of transportation services. The competitiveness of a pipeline's transportation services to any market is generally determined by the total delivered natural gas price from a particular natural gas supply basin to the market served by the pipeline. The cost of transportation on the pipeline is only one component of the total delivered cost.

        PG&E NEG's transportation service on the PG&E GTN pipeline accesses supplies of natural gas primarily from western Canada and serves markets in the Pacific Northwest, California and Nevada. PG&E NEG must compete with other pipelines for access to natural gas supplies in western Canada. PG&E NEG's major competitors for transportation services for western Canadian natural gas supplies include TransCanada Pipelines, Alliance Pipeline, Southern Crossing Pipeline and Northern Border Pipeline Company and Westcoast Energy Gas Transmission.

        The three markets PG&E NEG serves may access supplies from several competing basins in addition to supplies from western Canada. Historically, natural gas supplies from western Canada have been competitively priced on the PG&E GTN pipeline in relation to natural gas supplied from the other supply regions serving these markets. Supplies transported from western Canada on the PG&E GTN pipeline compete in the California market with Rocky Mountain natural gas supplies delivered by Kern River Gas Pipeline and Southwest natural gas supplies delivered by Transwestern Pipeline Company, El Paso Natural Gas and Southern Trails Pipeline. In the Pacific Northwest market, supplies transported from Western Canada on the PG&E GTN pipeline compete with Rocky Mountain gas supplies delivered by Northwest Pipeline Corporation and with British Columbia supplies delivered by Westcoast Transmission Company for redelivery by Northwest Pipeline Corporation.

        Transportation service on NBP provides access to natural gas supplies from both the Permian basin, located in western Texas and southeastern New Mexico, and the San Juan basin, primarily located in Northwestern New Mexico. The North Baja system delivers gas to Gasoducto Bajanorte Pipeline, at the Baja California—California border, which transports the gas to markets in northern Baja California, Mexico. While there are currently no direct competitors to deliver natural gas to NBP's downstream markets, the pipeline may compete with fuel oil which is an alternative to natural gas in the operation of some electric generation plants in the North Baja region. Moreover, NBP's market is near locations of interest for liquefied natural gas development companies who may be interested in delivering foreign natural gas supplies to the area.

        Overall, PG&E NEG's transportation volumes are also affected by other factors such as the availability and economic attractiveness of other energy sources. Hydroelectric generation, for example, may become available based on ample snowfall and displace demand for natural gas as a fuel for electric generation. Finally, in providing interruptible and short-term transportation service, PG&E NEG competes with release capacity offered by shippers holding firm contract capacity on PG&E NEG's pipelines.

UTILITY OPERATIONS

        The Utility is the principal provider of electricity and natural gas distribution and transmission services in northern and central California. The Utility's service territory covers 70,000 square miles, serving 4.8 million electricity customers and 4.0 million natural gas customers.

Ratemaking Mechanisms

        In setting the retail rates for the Utility's electric and natural gas utility services, the CPUC first determines the Utility's revenue requirements. The components of revenue requirements for electric and natural gas utility service include depreciation, expenses, taxes, and return on investment, as applicable, for distribution, transmission/

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transportation, generation/procurement, and public purpose programs. The CPUC then allocates the revenue requirements among customer classes (mainly residential, commercial, industrial, and agricultural) and sets specific rates designed to produce the required revenue. The concept underpinning the determination of revenue requirements and rates is to allow a utility a fair opportunity to recover its reasonable costs of providing adequate utility service, including a reasonable rate of return of and on its investment in utility facilities.

        The primary revenue requirement proceeding is the general rate case, or GRC. In the GRC, the CPUC authorizes the Utility to collect from ratepayers an amount known as "base revenues" to recover basic business and operational costs for its natural gas and electricity operations. The general rate case sets annual revenue requirement levels for a three-year rate period. The CPUC authorizes these revenue requirements in general rate case proceedings generally every three years based on a forecast of costs for the first or "test" year. The Utility's pending general rate case request is for test year 2003. For the remaining two years of a general rate case period, the Utility has indicated that it intends to apply for annual increases in base revenues (known as attrition rate adjustments) to reflect inflation and increases in invested capital. After authorizing the revenue requirement, the CPUC allocates revenue requirements among customer classes and establishes specific rate levels in separate proceedings.

        Another major CPUC proceeding for determining revenue requirements is the annual cost of capital proceeding. Each year, the CPUC determines the adopted rate of return that the Utility may earn on its electric and gas distribution assets and recover from ratepayers. On November 7, 2002, the CPUC issued a final decision that retained the Utility's return on common equity at the current authorized level of 11.22%. This final decision also increased the Utility's authorized cost of debt to 7.57% from 7.26%, and held in place the current authorized capital structure of 48% common equity, 46.2% long-term debt, and 5.8% preferred equity. The final decision also holds open the proceeding to address the impact on the Utility's return on equity, costs of debt and preferred stock, and ratemaking capital structure of the implementation and financing of a bankruptcy plan of reorganization.

        The return on the Utility's electric transmission-related assets is determined by the FERC. See "Electric Ratemaking" below. The return on the Utility's natural gas transmission and storage business was incorporated in rates established in the Gas Accord. See "Gas Ratemaking" below.

Electric Ratemaking

        As required by AB 1890, electric rates for all customers were frozen at the level in effect on June 10, 1996, and, beginning January 1, 1998, rates for residential and small commercial customers were further reduced by 10%. In the first quarter of 2001, the CPUC authorized the Utility to begin collecting energy surcharges totaling $0.04 per kWh (composed of a $0.01 per kWh surcharge approved in January and a $0.03 per kWh surcharge approved in March). Although the CPUC authorized the $0.03 per kWh surcharge in March 2001, the Utility did not begin collecting the revenues until June 2001. As a result, in May 2001, the CPUC authorized the Utility to collect an additional $0.005 per kWh surcharge revenue for 12 months to make up for the time lag in collection of the $0.03 surcharge revenues. Although the collection of this "half-cent surcharge" was originally scheduled to end on May 31, 2002, the CPUC issued a resolution ordering the Utility to continue collecting the half-cent surcharge until further consideration by the CPUC. The CPUC initially restricted the use of these surcharge revenues to pay for the Utility's "ongoing procurement costs" and "future power purchases."

        Under AB 1890, the rate freeze was supposed to end on the earlier of March 31, 2002, or when the Utility had recovered its eligible transition costs. Most transition costs must be recovered during a transition period that ends the earlier of December 31, 2001, or when the Utility had recovered its eligible transition costs. The Utility repeatedly has advised the CPUC that it had recovered all of its transition costs and has asked the CPUC to recognize that the rate freeze already has ended for the Utility's customers. After the rate freeze, changes in the Utility's electric revenue requirements in general will be reflected in rates. However, the CPUC has not yet determined that the rate freeze has ended for the Utility's customers.

        After the CPUC has determined when the Utility's rate freeze ended, the Utility expects the CPUC to set rates to recover:

•

the Utility's approved utility cost components,


•

the cost of energy sold to customers, and


•

the DWR's revenue requirement allocated to the Utility's customers.

        The Utility refers to this structure as "bottoms-up" billing. At this time, the Utility does not know when or under what conditions the CPUC will determine that the Utility's rate freeze has ended and the Utility will begin bottoms-up billing or to which periods these rates would apply.

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        In April 2001, the California Public Utilities Code was amended to require that the CPUC ensure that errors in estimates of demand elasticity or sales by the Utility do not result in material over or undercollections of costs by the Utility. The Utility intends to address implementation of this new law in connection with pending proceedings at the CPUC relating to recovery of components of its costs of service.

Electric Distribution.

        2003 General Rate Case.    On November 8, 2002, the Utility filed its 2003 general rate case application requesting an increase in electric revenue requirements of $447 million over the current authorized amount of $2.269 billion to maintain current service levels to existing customers, and to adjust for wages and inflation. The Utility also indicated that it will seek an attrition rate adjustment increase for 2004 and 2005. The attrition rate adjustment mechanism is designed to avoid a reduction in earnings in years between general rate cases to reflect increases in rate base and expenses. The CPUC has ruled that the revenue requirements to be determined in the Utility's 2003 general rate case will be effective January 1, 2003, even though the CPUC will not issue a final decision on the 2003 GRC until after that date. The Utility cannot predict what amount of revenue requirements, if any, the CPUC will authorize for the 2003 through 2005 period. The administrative law judge presiding over the 2003 GRC has adopted a schedule for this proceeding that includes a target date of February 5, 2004.

        2002 Attrition Rate Adjustment Request.    In the 2003 GRC, the CPUC asked parties to comment on the Utility's need for a 2002 attrition rate adjustment. The Utility informed the CPUC in November 2001 that the Utility would need a 2002 attrition rate adjustment to recover escalating electric and gas distribution service costs. In April 2002, the CPUC issued a ruling authorizing any attrition rate adjustment that ultimately may be granted to become effective as of April 22, 2002. In June 2002, the Utility filed its application, requesting a $76.7 million increase to its annual electric distribution revenue requirement, and a $19.5 million increase to its annual gas distribution revenue requirement. In December 2002, the CPUC issued a proposed decision that would deny this request. The Utility filed comments in late December 2002 arguing that the proposed decision was based on a fundamental misunderstanding of the facts. In February 2003, the CPUC issued an alternate proposed decision granting a $63.5 million increase to the Utility's annual electric distribution revenue requirement, and a $10.3 million increase to the Utility's annual gas distribution revenue requirement. A final decision is expected to be issued in the first quarter of 2003.

        Baseline Allowance Increase.    On April 9, 2002, the CPUC issued a decision that required the Utility to increase baseline allowances for certain residential customers by May 1, 2002. An increase to a customer's baseline allowance increases the amount of their monthly usage that will be covered under the lowest possible rate and that is exempt from surcharges. The decision deferred consideration of corresponding rate changes until a later phase of the proceeding and ordered the Utility to track the undercollections associated with these baseline quantity changes in an interest-bearing balancing account. The Utility estimates the annual revenue shortfall to be approximately $96 million for electricity service, and $6 million for natural gas service. The total electricity revenue shortfall estimated for the period May through December 2002 was $70 million.

        In the second phase of the proceeding, the CPUC will consider issues involving demographic revisions to baseline allowances, a special allowance for well water pumping, revisions applicable to usage at vacation homes, and changes to baseline territories or seasons. The resolution of these issues could result in an additional revenue shortfall of approximately $102 million spread out over three to five years. Hearings on these issues concluded in September 2002 and a final CPUC decision is expected to be issued in early 2003. The Utility has charged the electricity revenue shortfall to earnings and will continue to charge the shortfall to earnings. This charge reduces revenue available to recover the Utility's previously written-off undercollected power procurement costs and transition costs.

Electric Transmission

        Electric transmission revenues, and both wholesale and retail transmission rates, are subject to authorization by the FERC. The Utility has two sources of transmission revenues, those from charges under its transmission owner tariff, or TO Tariff, and those from charges under specific contracts with existing wholesale transmission customers that pre-date the Utility's participation in the ISO. Customers that receive transmission services under such pre-existing contracts, referred to as existing transmission contract customers, or ETC customers, are charged individualized rates based on the terms of their respective contracts. The Utility's ETC customers include various municipal utilities and state and federal agencies. These customers typically own and operate distribution systems that carry electricity to municipal, state or federal facilities, such as city halls, and the water pumps along the

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California aqueduct. The Utility's municipal utility ETC customers distribute electricity to municipal facilities and, in many cases to the homes and businesses of retail electricity customers located inside their municipality.

        Under the FERC's regulatory regime, the Utility is able to file a new base transmission rate case under the Utility's TO Tariff whenever the Utility deems it necessary to increase its rates. The Utility is typically able to charge new rates, subject to refund, before the outcome of the FERC ratemaking review process.

        The Utility's TO Tariff includes two rate components: (1) base transmission rates (from which the Utility derives the majority of its transmission revenues) which are intended to recover the Utility's operating and maintenance expenses, depreciation and amortization expenses, interest expense, tax expense and return on equity and (2) the rates the Utility charges its TO Tariff customers to recover various bills the Utility receives from the ISO for reliability service costs, and the ISO's transition charge associated with the ISO's high-voltage blended rate methodology.

        Transmission Owner Rate Cases.    On January 29, 2003, the FERC approved a settlement filed by the Utility that allows the Utility to recover $292 million on an annual basis from March 31, 1998 until October 29, 1998 and $316 million on an annual basis from October 30, 1998 until May 30, 1999 in TO Tariff electric transmission rates. During that period, somewhat higher rates were collected, subject to refund. As a result of the approval, the Utility will refund $30 million it had accrued for potential refunds related to the 14-month period ended May 30, 1999. In April 2000, the FERC approved a settlement that permitted the Utility to recover $329 million on an annual basis in TO Tariff electric transmission rates retroactively for the 10-month period from May 31, 1999 to March 31, 2000. In September 2000, the FERC approved another settlement that permitted the Utility to recover $352 million annually in TO Tariff electric transmission rates and made this retroactive to April 1, 2000. Further, in July 2001, the FERC approved another settlement that permits the Utility to collect $379 million annually in TO Tariff electric transmission rates retroactive to May 6, 2001. The transmission rates charged to TO Tariff customers are adjusted for other transmission revenue credits related to ISO congestion management charges and other transmission related services billed by the ISO and remitted to the Utility as a transmission owner.

        On January 13, 2003, the Utility filed an application requesting to recover $545 million in electric retail transmission rates annually, a 44% increase over the revenue requirement currently in effect. The requested increase is mainly attributable to significant capital additions made to the Utility's system to accommodate load growth, to maintain the infrastructure, and to ensure safe and reliable service. In addition, the request includes a 15-year useful life for transmission plant coming into service in 2003 and a return on equity of 13.5%. The January 13 filing date will allow proposed rates to go into effect, subject to refund, no later than August 13, 2003.

        The Utility recovers certain ISO costs described below in balancing accounts. In general, for each of these types of costs, the difference between the ISO's actual charges and revenues collected by the Utility and the forecasted costs will be used to either offset or increase the specific revenue requirement for such costs for the next period when the Utility files an annual balancing account rate case related to such costs.

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Reliability Services Costs—The ISO bills the Utility for reliability services based on payments that the ISO makes to generators under reliability must-run contracts and for locational out-of-market calls required to support reliability of the transmission system. The Utility charges its customers rates designed to recover these reliability service charges, without mark-up or service fees. The Utility records these customer charges as operating revenue, and records a corresponding expense under its cost of power line item to reflect the fact that the Utility must pass this revenue on to the ISO. Costs and revenues related to reliability services are tracked in the reliability services balancing account.


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Transition Charges—Beginning on January 1, 2001, the Utility pays the ISO's high-voltage blended transmission rate which is higher than the Utility-specific high-voltage transmission rate. The difference between the ISO's rate and the Utility's rate is tracked in the Utility's transmission access charge balancing account and will be collected once frozen retail rates are changed by the CPUC.

        Grid Management Costs.    The ISO also bills the Utility for grid management services attributable to the Utility's ETC customers. These grid management services costs are passed on to the Utility's ETC customers through the Grid Management Charge Tariff. The Utility records grid management costs billed by the ISO in operating and maintenance expenses and passes these costs to its ETC customers, without mark-up or service fees, subject to refund pending the outcome of the FERC ratemaking review process expected to take place in the first half of 2003.

        Scheduling Coordinator Costs.    The Utility serves as the scheduling coordinator to schedule transmission with the ISO for its ETC customers. The ISO bills the Utility for providing certain services associated with these

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contracts. These ISO charges are referred to as the "scheduling coordinator costs." These costs historically have been tracked in the transmission revenue balancing account, or TRBA, in order to recover these costs from its TO Tariff customers. In 2002, the FERC ruled that the Utility should refund to TO Tariff customers the scheduling coordinator costs that the Utility collected from them. As of December 31, 2002, TO Tariff customers had already paid the Utility $107 million for these costs.

        In January 2000, the FERC accepted a filing by the Utility to establish a separate tariff to allow the Utility to recover both the shortfall and future scheduling coordinator costs from its ETC customers. The FERC has authorized the separate tariff, subject to refund, which has been challenged by ETC customers. For the period beginning April 1998 through December 31, 2002, the Utility transferred $107 million of scheduling coordinator costs from the TRBA to accounts receivable net of a $66 million reserve for potential uncollectible costs. The Utility also has disputed approximately $27 million of these costs as incorrectly billed by the ISO.

Electric Generation

        The CPUC has approved a 2002 revenue requirement of $3 billion for recovery of costs of generation that the Utility retains, including purchased power expenses, depreciation, operating expenses, taxes, and return on investment, based on the net regulatory value of generation assets as of December 31, 2000. The Utility's retained generation costs incurred in 2002 are subject to reasonableness review. A pending proposal by The Utility Reform Network, or TURN, a non-profit organization representing small utility customers, would continue this treatment. Before 2002, these costs have been forecast as with other costs in the general rate case, with rates set to recover the forecast, regardless of actual cost.

        The Utility's 2003 revenue requirement for retained generation is being considered in the Utility's 2003 general rate case proceeding. The Utility's 2003 general rate case application, as updated on February 20, 2003, requested an increase in non-fuel generation revenue requirements of $149 million from $872 million, the amount currently authorized. This requested revenue requirement excludes the Utility's estimated fuel and procurement costs recorded in the Energy Resource Recovery Account, or ERRA, and the DWR's power charges.

Electric Procurement

        2001 Annual Transition Cost Proceeding: Review of Reasonableness of Electric Procurement.    On January 11, 2002, as directed by the CPUC, the Utility filed a report at the CPUC detailing the reasonableness of the Utility's electric procurement and generation scheduling and dispatch activities for the period July 1, 2000 through June 30, 2001. In this proceeding, the CPUC will review the reasonableness of the Utility's procurement of wholesale electricity from the PX and the ISO during the height of the 2000-2001 California energy crisis. With the exception of a limited right to purchase electricity from third parties beginning in August 2000, all of the Utility's wholesale power purchases during this period were required to be made exclusively from or through the PX and ISO markets pursuant to FERC-approved tariffs. Prior CPUC decisions have determined that such purchases should be deemed reasonable. In addition, the Utility's complaint against the CPUC Commissioners asserts that the costs of such purchases are recoverable in the Utility's retail rates without further review by the CPUC under the federal filed rate doctrine. However, an administrative law judge of the CPUC is asserting jurisdiction to review the reasonableness of the Utility's wholesale electricity purchases from the PX and ISO in the proceeding. A report from the CPUC's Office of Ratepayer Advocates regarding the Utility's procurement activities for the covered period is due April 28, 2003. It is possible that this proceeding could result in some disallowance of the Utility's costs incurred during the 2000-2001 period associated with its purchases from the PX and ISO markets.

        Energy Resource Recovery Account, or ERRA.    As of January 1, 2003, the California IOUs have resumed procuring electricity to meet the amount of their customers' electricity needs that cannot be met with utility-owned generation, electricity supplied under QF and other contracts, and electricity allocated to their customers under the DWR contracts. Effective January 1, 2003, the Utility established the Energy Resource Recovery Account, or ERRA, to record and recover electricity costs, excluding the DWR's power contract costs, associated with the Utility's authorized procurement plan. Electricity costs recorded in ERRA include, but are not limited to, fuel costs for retained generation, QF contracts, inter-utility contracts, ISO charges, irrigation district contracts and other power purchase agreements, bilateral contracts, forward hedges, pre-payments and collateral requirements associated with procurement (including disposition of surplus electricity), and ancillary services. The Utility offsets these costs by reliability-must-run revenues, the Utility's allocation of surplus sales revenues and the ERRA revenue requirement. The CPUC has authorized the Utility to file an expedited trigger application at any time that its forecast indicates the undercollection in the ERRA will be in excess of 5% of the Utility's recorded generation revenues for the prior year excluding amounts collected for the DWR. The Utility currently estimates that its 5% threshold amount will be

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approximately $224 million. When filing an expedited trigger application, the CPUC has directed the Utility to propose an amortization period of not less than 90 days for the undercollected amount to insure timely recovery. The CPUC has approved, on a preliminary basis, a starting ERRA revenue requirement of $2.035 billion for the Utility.

        On February 3, 2003, the Utility filed its 2003 ERRA forecast application requesting that the CPUC reset the Utility's 2003 ERRA revenue requirement to $1.413 billion and that the ERRA trigger threshold of $224 million be adopted. The CPUC will examine the Utility's forecast of costs for 2003 and will finalize the Utility's starting ERRA revenue requirement and ERRA trigger threshold when it reviews the Utility's ERRA application.

        Qualifying Facilities and Other Existing Bilateral Agreements.    Costs of the Utility's existing contracts with qualifying facilities and other electricity providers are passed through to ratepayers dollar for dollar as approved by the CPUC in the retained generation ratemaking proceeding for 2002 and generation procurement proceeding for 2003. See "Electric Generation" and "Electric Resource Recovery Account" discussions, above.

        Direct Access.    To avoid a shift of costs from direct access customers to bundled customers, the CPUC has established a direct access cost responsibility surcharge, or CRS, to implement utility-specified non-bypassable charges on direct access customers for their share of the bond costs and power costs incurred by the DWR and above-market cost related to the Utility's own generation resources and power contracts. The decision establishes four components comprising the CRS:

•    DWR Bond Charge. This charge is applicable to all direct access customers, except customers who were on direct access before the DWR began purchasing power and have continued to remain on direct access since the DWR began purchasing power (continuous direct access customers). The bond charge for direct access customers will include amounts accruing since November 15, 2002. The actual amount of this charge on direct access customers is being determined in the DWR bond charge allocation proceeding.

•    DWR Electricity Charge for the September 21, 2001, through December 31, 2002 Period. This charge is applicable to direct access customers who previously took bundled service at any time on or after February 1, 2001. The charge is designed to recover direct access customers' share of the DWR's procurement costs between September 21, 2001, and December 31, 2002. Since bundled customers already have paid this amount to the DWR, these charges collected from direct access customers would reduce the amount of bundled customers' bills remitted to the DWR.

•    DWR Electricity Charge for Future DWR Costs. This charge is applicable to direct access customers who previously took bundled service at any time on or after February 1, 2001. This charge is designed to recover direct access customers' share of the uneconomic portion of the DWR's procurement costs for 2003 and thereafter. This charge will be adjusted on an annual basis or more frequently if the DWR's revenue requirement is adjusted more frequently.

•    The Utility's Procurement and Generation Charge. This charge is applicable to all direct access customers regardless of the date on which a customer switched to direct access. This charge is designed to recover direct access customers' share of the ongoing uneconomic portion of the Utility's generation and procurement costs. This charge will be based on an estimate of above-market costs for the Utility's procurement contracts and qualifying facility arrangements, which in turn is based on a $0.043 per kWh benchmark for 2003. This benchmark for determining above-market costs will be updated annually.

        The decision imposes a cap on the CRS of $0.027 cents per kWh which was implemented on January 1, 2003. The CPUC has indicated that it will establish an expedited review schedule to determine whether the cap should be adjusted and has set a goal of reaching a decision on whether this cap should be adjusted, and whether trigger mechanisms for adjusting the cap would be established, by July 1, 2003.

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        Funds remitted under the CRS will be applied first to the DWR bond charges, second to the DWR electricity charges, and third to the Utility's ongoing procurement and generation costs. Direct access customers who have returned to bundled service will be responsible for their share of the unrecovered costs resulting from the CRS. To the extent the cap results in an undercollection of DWR charges, the shortfall would have to be remitted to DWR from bundled customers' funds. Interest on undercollections will be assessed at the DWR's bond interest rate on an interim basis while the CPUC examines a long-term plan for financing the CRS. The Utility does not expect that the CPUC's implementation of this decision or the level of the CRS cap will have a material adverse effect on its results of operations or financial condition.

        DWR Revenue Requirements, Servicing Order and Operating Order.    The CPUC has adopted rates for the DWR that allow the DWR to collect electricity and bond-related charges from ratepayers to recover what it spent to procure electricity for the customers of the California IOUs during 2001 and 2002. The recovery is being financed partially through a statewide revenue requirement allocated among the three California IOUs and partially through the DWR's November 2002 issuance of $11.3 billion in revenue bonds, which will be repaid by the customers of the three California IOUs through the bond charge discussed below. In February 2002, the CPUC approved a decision that set the statewide DWR revenue requirement for 2001 and 2002. In March 2002, the CPUC reallocated the amounts contained in the February 2002 decision among the customers of the three California IOUs. The March 2002 decision allocated $4.4 billion of a total statewide power charge revenue requirement of approximately $9.0 billion to the Utility's customers. Of the $4.4 billion allocated to the customers of the Utility, approximately $2.6 billion related to 2001 power charges and approximately $1.8 billion related to 2002 power charges. In December 2002, the CPUC issued a decision allocating approximately $2 billion of the DWR's 2003 power charge-related revenue requirements to the Utility's customers. This revenue requirement includes the variable costs of the DWR contracts allocated to the Utility's customers by an earlier decision in September 2002. The DWR plans to submit a revised 2003 power charge-related revenue requirement to the CPUC in late March 2003. A separate proceeding will consider a revision or true-up for the revenue requirements remitted to the DWR for 2001 and 2002 costs, once final 2002 cost data is available. This true-up proceeding is scheduled for April 2003.

        Before the DWR's 2003 statewide revenue requirement filing with the CPUC in August 2002, the Utility filed comments with the DWR alleging that major portions of the DWR's revenue requirements were not "just and reasonable" as required by AB 1X and that the DWR was not complying with the procedural requirements of AB 1X in making its determination. On August 26, 2002, the Utility filed with the DWR a motion for reconsideration of the DWR's determination that its revenue requirements were "just and reasonable." The DWR denied the Utility's motion on October 8, 2002. On October 17, 2002, the Utility filed a lawsuit in a California court asking the court to find that the DWR's revenue requirements had not been demonstrated to be "just and reasonable" and lawful, and that the DWR had violated the procedural requirements of AB 1X in making its determination. In part, the Utility based its allegations on the State of California's petition pending before the FERC seeking to set aside many of the DWR contracts on the basis that they are not "just and reasonable." The Utility asked that the court order that the DWR's revenue requirement determination be withdrawn as invalid, and that the DWR be precluded from imposing its revenue requirements on the Utility and its customers until it has complied with the law. No schedule has yet been set for consideration of the lawsuit.

        In May 2002, the CPUC approved a servicing order between the Utility and the DWR which sets forth the terms and conditions under which the Utility provides the transmission and distribution of the DWR-purchased electricity; addresses billing, collection and related services performed on behalf of the DWR; and addresses the DWR's compensation to the Utility for providing these services. In October 2002, the DWR filed a proposed amendment to the CPUC's May 2002 servicing order. The DWR's proposed amendment changes the calculation that determines the amount of revenues that the Utility must pass through to the DWR. This proposed amendment would also be used to true up previous amounts passed through to the DWR as well as future payments. Under its statutory authority, the DWR may request the CPUC to order the utilities to implement such amendments, and the CPUC has approved such amendments in the past without significant change. In December 2002, the CPUC approved an operating order requiring the Utility to perform the operational, dispatch, and administrative functions for the DWR's allocated contracts beginning on January 1, 2003. The operating order, which applies prospectively, includes the DWR's proposed method of calculating the amount of revenues that the Utility must pass through to the DWR. As a result, as of December 31, 2002, the Utility has accrued an additional $369 million (pre-tax) liability for pass-through revenues for electricity provided by the DWR to the Utility's customers in 2001 and 2002.

        In December 2002, the CPUC adopted an operating order requiring the Utility to perform the operational, dispatch, and administrative functions for the DWR's allocated contracts beginning on January 1, 2003. (Similar operating orders were also adopted for the other two California IOUs.) The operating order sets forth the terms

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and conditions under which the Utility will administer the DWR allocated contracts and requires the Utility to dispatch all the generating assets within its portfolio on a least-cost basis for the benefit of the Utility's customers. The order specifies that the DWR will retain legal and financial responsibility for the DWR allocated contracts and that the order does not result in an assignment of the allocated DWR contracts to the Utility.

        The CPUC had previously ordered the IOUs to work with the DWR to submit to the CPUC proposed operating agreements governing the DWR allocated contracts. When the operating orders were issued, the DWR and the IOUs had not yet finalized their separate operating agreements. In its decision issuing the operating order, the CPUC noted that if the IOUs and the DWR eventually reach mutual agreement, the CPUC would consider modifying its decision on an expedited basis to terminate the operating orders and approve the operating agreements, assuming that the operating agreements adopted a framework that was substantially similar to the one imposed by the operating orders.

        On December 20, 2002, the Utility and the DWR executed an operating agreement following several months of negotiation. The agreement provides that it will not become effective unless approved by the CPUC. The Utility has submitted the agreement to the CPUC for approval and has requested that the CPUC terminate the operating order and approve the operating agreement.

        Although the operating order and the operating agreement have fundamentally the same objectives, the operating agreement, among other things:

•    provides an adequate contractual basis for establishing a limited agency relationship between the Utility and the DWR;

•    limits the Utility's contractual liability to the DWR and other parties to $5 million per year plus 10 percent of damages in excess of $5 million with a limit of $50 million over the term of the agreement; and

•    clarifies that the DWR does not intend to review, nor is it responsible for a review of the Utility's least-cost dispatch performance, other than to verify compliance with the supplier contracts.

        On December 30, 2002, the Utility filed an application for rehearing of the operating order decision with the CPUC. On January 1, 2003, after having reserved all rights associated with challenges to the operating order, the Utility commenced providing contract administration, scheduling and dispatch services to the DWR under the CPUC's operating order.

        DWR Bond Charges.    On October 24, 2002, the CPUC approved a decision that, in part, imposes bond charges to recover the DWR's bond costs from most bundled customers effective November 15, 2002, although the decision found that the Utility would not need to increase customers' overall rates to incorporate the bond charge. The DWR bond charge also will be imposed on all direct access customers, as described above. On December 30, 2002, the CPUC adopted a 2003 bond charge of $0.005 per kWh to start January 6, 2003. The Utility expects to accrue DWR bond-related charges of approximately $336 million during the 12 months ended November 14, 2003. Until the CPUC implements bottoms-up billing (billing for specific rate components) for the Utility, any bond charges will reduce the amount of revenue available to recover previously written-off undercollected purchase power costs and transition costs.

Gas Ratemaking

Natural Gas Distribution

        The Utility's 2003 general rate case, or GRC, application requested an increase in natural gas distribution revenue requirements of $105 million over the currently authorized amount of $894 million, to maintain current service levels to existing customers, and to adjust for wages and inflation. The Utility also indicated that it will seek an attrition rate adjustment increase for 2004 and 2005. The attrition rate adjustment mechanism is designed to avoid a reduction in earnings in years between general rate cases to reflect increases in rate base and expenses. The CPUC has ruled that the revenue requirements to be determined in the Utility's 2003 general rate case will be effective January 1, 2003, even though the CPUC will not issue a final decision on the 2003 GRC until after that date. The Utility cannot predict what amount of revenue requirements, if any, the CPUC will authorize for the 2003 through 2005 period, nor when such decision will be made.

        Gas distribution costs and balancing account balances are allocated to customers in the Biennial Cost Allocation Proceeding, or BCAP. The BCAP normally occurs every two years and is updated in the interim year for

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purposes of amortizing any accumulation in the balancing accounts. Balancing accounts for gas distribution and public purpose program revenue requirements accumulate differences between authorized revenue requirements and actual base revenues. In April 2000, the Utility filed its 2000 BCAP application to cover the period January 1, 2000 through December 31, 2002, requesting a decrease in the annual base revenue requirement of $132 million compared to the authorized revenue requirement of $941 million at the time the application was filed. On November 8, 2001, the CPUC issued a decision approving the Utility's BCAP settlement filed in October 2000. The decision adopted a decrease in annual base revenue requirements of $113 million, effective January 1, 2002. The adopted BCAP rates were implemented on January 1, 2002. At the end of 2002, the Utility filed an annual true-up of balancing accounts and other gas transportation rate changes that went into effect January 1, 2003. This filing increased core and noncore transportation rates and revenue requirements by $103 million resulting from the annual true-up, changes authorized in the second year of the BCAP, an increase in the 2002 California Alternate Rates for Energy administration budget, the adopted 2003 cost of capital, an increase in the low income energy efficiency program budget for 2003, the increase in the CPUC reimbursement account fee, and the extension of the Gas Accord.

Natural Gas Transportation and Storage

        The Utility's interstate and Canadian natural gas transportation agreements are governed by tariffs which detail rates, rules and terms of service for the provision of natural gas transportation services to the Utility on interstate and Canadian pipelines. These tariffs are approved by the FERC in a FERC ratemaking review process and by the Alberta Energy and Utilities Board and the National Energy Board for Canadian tariffs.

        Since March 1998, the natural gas transportation and storage services that the Utility has obtained over its owned pipelines have been governed by the rates, terms and conditions approved by the CPUC in the Gas Accord and Gas Accord II settlement agreements through 2003, or, together, the Gas Accord. The Gas Accord separated, or "unbundled," the Utility's natural gas transportation and storage services from its distribution services, changed the terms of service and rate structure for natural gas transportation and storage services, fixed natural gas transportation and storage rates and allowed core customers to purchase natural gas from competing suppliers.

        On January 13, 2003, the Utility filed an amended Gas Accord II application with the CPUC proposing to permanently retain the Gas Accord market structure, and requesting a $55 million increase in the Utility's rates for gas transmission and storage for 2004, or in the case of certain storage provisions from April 1, 2004, to March 31, 2005.

        Under the Gas Accord, the Utility is at risk for recovery of its gas transportation and storage costs, and does not have regulatory balancing account protection for over- or undercollections of revenues. Under the Gas Accord, the Utility sells a portion of the transportation and storage capacity at competitive market-based rates. Revenues are sensitive to changes in the weather, natural gas fired generation and price spreads between two delivery or pricing points.

        The existing gas transportation and storage rates will continue until the CPUC approves such changes. The Gas Accord II proposal includes rates set based on a demand or throughput forecast basis. In addition it proposes that, at the beginning of the adopted Gas Accord II agreement period, a contract extension and an open season be held for any uncontracted capacity rights. If the Utility were unable to renew or replace existing transportation contracts at the beginning or throughout the Gas Accord II period, or the Utility were to renew or replace those contracts on less favorable terms than adopted by the CPUC, or if overall demand for transportation and storage services were less than adopted by the CPUC in setting rates, the Utility may experience a material reduction in operating revenues. In either case, the Utility's financial condition and results of operations could be adversely affected.

Natural Gas Procurement

        The Gas Accord also established the core procurement incentive mechanism, or CPIM, which is used to determine the reasonableness of the Utility's cost of procuring natural gas for the Utility's customers. The Gas Accord II settlement agreement extended the CPIM for one year. Under the CPIM, the Utility's procurement costs are compared to an aggregate market-based benchmark based on a weighted average of published monthly and daily natural gas prices at the locations where the Utility typically purchases natural gas. If costs fall within a range, or tolerance band currently 99% to 102%, around the benchmark, they are considered reasonable and fully recoverable in customer rates. Ratepayers and shareholders share costs and savings outside the tolerance band.

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        The Utility sets the core natural gas procurement rate monthly based on the forecasted costs of natural gas and core pipeline capacity and storage costs. The Utility reflects the difference between actual natural gas procurement costs and forecasted natural gas procurement costs in several gas procurement balancing accounts, with under-and overcollections taken into account in subsequent monthly rates.

        Any awards associated with the CPIM normally are reflected annually in the purchased natural gas balancing account after the close of the CPIM period, which is the 12-month period ending October 31. These awards are not included in earnings until approval by the CPUC. On December 17, 2002, the CPUC's Office of Ratepayer Advocates submitted its report agreeing with the Utility's CPIM performance for the period November 2000 through October 2001. The Utility requested that the CPUC approve a shareholder award of $7.7 million to be effective February 1, 2003. The CPUC has not acted on the Utility's request. In accordance with the Gas Accord, the Utility stopped providing procurement service to noncore customers in March 2001. During the winter of 2000/2001 when there was a steep increase in gas commodity prices, many noncore customers switched to core service in order to receive procurement service from the Utility. In 2002, the Utility filed a request with the CPUC to limit the number of noncore customers that could switch to core service because the Utility was concerned that large increases in its gas supply portfolio demand would raise prices for all other core procurement customers, and obligate the Utility to reinforce its pipeline system to provide core service reliability on a short-term basis to serve this new load. Consistent with rules adopted for southern California gas utilities in 2002, the Utility has requested that electric generation, cogeneration, enhanced oil recovery and refinery customers be prohibited from electing core service and that remaining noncore customers elect core service for a minimum five-year term.

        On June 27, 2002, the CPUC opened a proceeding in response to a FERC order authorizing marketers in California to turn back up to 725 million cubic feet per day of firm capacity on the El Paso Pipeline Company, or El Paso, interstate pipeline. The first phase of the proceeding dealt with rules for the major California utilities to obtain El Paso turned-back capacity not subscribed to by other California replacement shippers. On July 17, 2002, the CPUC ordered utilities to obtain such capacity, and stated that if the utilities complied with this order that they would also receive full recovery for costs associated with existing capacity rights on interstate pipelines. The Utility obtained 204 MDth/day of capacity on El Paso in compliance with the CPUC decision. On December 19, 2002, the CPUC found that the Utility had met the objectives, terms and conditions set forth in the CPUC's July 17, 2002 order. The CPUC authorized the Utility to recover all costs associated with the subscription to El Paso pipeline capacity on an equal-cents-per-therm basis from core and noncore customers, subject to reallocation in a later phase of the proceeding. The Utility filed core and noncore transportation rates proposed to be effective March 2003 to recover $47.1 million of annual El Paso costs and costs previously incurred through December 2002. The CPUC also ordered the Utility to continue to treat Transwestern pipeline charges and brokering credits under its core procurement incentive mechanism, or CPIM. The Transwestern costs not currently authorized under the CPIM will be addressed in the second phase of this proceeding. On February 7, 2003, the Utility filed its proposal requesting full recovery of the Transwestern costs and El Paso turned back capacity costs from core customers and inclusion of these costs in its CPIM.

Public Purpose Programs

        The Utility continues to administer and/or fund several state-mandated public purpose programs. In December 2002, the CPUC authorized the Utility to fund electric energy efficiency, low-income energy efficiency, research and development, and renewable energy resources programs in the amount of $232 million. The costs will be recovered in electric rates following the rate design phase of the Utility's 2003 general rate case. The CPUC also has authorized the Utility to collect $46 million in gas rates to fund gas energy efficiency, low-income energy efficiency, and research and development programs.

        The Utility also provides the California Alternate Rates for Energy, or CARE, low-income discount rate, a rate subsidy paid for by the Utility's other customers, which is currently about $107 million per year.

        The CPUC is responsible for authorizing the programs, funding levels, and cost recovery mechanisms for the Utility's operation of both the cost-effective energy efficiency and low-income energy efficiency programs. The CEC administers both the electric public interest research and development program and the renewable energy program on a statewide basis. In 2002, the Utility transferred $99 million to the CEC for these two programs.

        Until 2002, the Utility was eligible to receive incentives for administering the energy efficiency program activities. The Utility files an annual earnings claim each year in the annual earnings assessment proceeding, which is the forum for stakeholders to comment on and for the CPUC to evaluate the Utility's claim. Earned incentives can be collected over as long as a 10-year period. In 2002, the CPUC eliminated the opportunity for the IOUs to

29

earn incentives on their 2002 energy efficiency programs, replacing it with a mechanism keeping up to 15% of the energy efficiency expenditures subject to refund if the programs unreasonably miss targets or expenditures are unreasonably high. The CPUC has also declined to allow the IOUs the opportunity to earn incentives on the 2003 energy efficiency programs. This decision does not affect the mechanism to recover incentives in connection with energy efficiency programs for previous years.

        In May 2000, 2001, and 2002, the Utility filed its annual applications claiming incentives totaling to approximately $106 million. In early 2002, the CPUC requested and received briefs on whether the incentive mechanism giving rise to $74 million of the $106 million should be modified to reduce the earnings potential. The CPUC has not yet acted on any of these applications or ruled on the incentive mechanism issue, but has scheduled a prehearing conference to begin the process for addressing the claims.

        In October 2002, the CPUC opened a rulemaking to implement the nonbypassable gas public purpose program surcharge mandated by state legislation in 2001. The legislation requires all California gas users, even those users who are not utility customers, to fund public purpose energy efficiency, low-income energy efficiency, research and development, and CARE rate subsidies for qualifying low-income utility customers. The funds are collected by a surcharge on gas consumption, with utilities, many non-utility customers, and interstate pipelines remitting the surcharge revenues to the State Board of Equalization. These funds are allocated to the gas public purpose programs by the CPUC. The CPUC rulemaking proceeding will formalize the processes for administering the gas consumption surcharge as well as identifying appropriate programs and funding levels for public purpose gas research and development programs.

ELECTRIC UTILITY OPERATIONS

Electric Distribution

        The Utility's electric distribution network extends throughout all or a portion of 47 of California's 58 counties, comprising most of northern and central California. The Utility's network consists of approximately 117,955 circuit miles of distribution lines (of which approximately 20% are underground and 80% are overhead) and 730 distribution substations. The Utility's distribution network connects to an electric transmission system at approximately 975 points of contact. This contact between the Utility's distribution network and the transmission system typically occurs at distribution substations where transformers and switching equipment reduce the high-voltage transmission levels at which the electric transmission system transmits electricity, ranging from 60 kilovolts to 500 kilovolts, or kV, to lower voltages, ranging from 4 kV to less than 60 kV, suitable for distribution to customers. The distribution substations serve as the central hubs of the distribution system and consist of transformers, voltage regulation equipment, protective devices and structural equipment. Emanating from each substation are primary and secondary distribution lines connected to local transformers and switching equipment which link distribution lines and provide delivery to end-users. In some cases, the Utility sells electricity from its distribution lines or facilities to entities such as municipal and other utilities that then resell the electricity. In certain cases, the distribution system is directly connected to generation facilities.

Electric Distribution Operating Statistics

        In 2002, the Utility's electric distribution business delivered a total of approximately 78,230 gigawatt-hours, or GWh, of electricity to approximately 4.8 million electric distribution customers in our service territory, including 21,031 GWh purchased by the DWR and 7,433 GWh provided by direct access service providers.

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        The following table shows the Utility's operating statistics (excluding subsidiaries) for electric energy sold or delivered, including the classification of sales and revenues by type of service.

			2002			2001			2000			1999			1998
Customers (average for the year):
	Residential			4,171,365			4,165,073			4,071,794			4,017,428			3,962,318
	Commercial			483,946			484,430			471,080			474,710			469,136
	Industrial			1,249			1,368			1,300			1,151			1,093
	Agricultural			78,738			81,375			78,439			85,131			85,429
	Public street and highway lighting			24,119			23,913			23,339			20,806			18,351
	Other electric utilities			5			5			8			—			14
		Total		4,759,422			4,756,164			4,645,960			4,599,226			4,536,341
Deliveries (in GWh):
	Residential			27,435			26,840			28,753			27,739			26,846
	Commercial			31,328			30,780			31,761			30,426			28,839
	Industrial(1)			14,729			16,001			16,899			16,722			16,327
	Agricultural(1)			4,000			4,093			3,818			3,739			3,069
	Public street and highway lighting			674			418			426			437			445
	Other electric utilities			64			241			266			167			2,358
	California Department of Water Resources Allocation (2001 and 2002 only)			(21,031	)		(28,640	)
		Total energy delivered(2)		57,199			49,733			81,923			79,230			77,884
Revenues (in thousands):
	Residential(3)		$	3,641,582		$	3,364,466		$	3,007,675		$	2,961,788		$	2,891,424
	Commercial(3)			4,468,465			3,925,218			2,693,316			2,837,111			2,793,336
	Industrial(3)			1,275,033			1,312,280			509,486			863,951			933,316
	Agricultural(3)			531,983			520,855			385,961			391,876			350,445
	Public street and highway lighting			73,423			59,875			43,403			49,209			51,195
	Other electric utilities			10,028			39,420			26,269			16,501			50,166
		Subtotal		10,000,514			9,222,114			6,666,110			7,120,436			7,069,882
	California Department of Water Resources pass-through revenues			(2,056,037	)		(2,172,666	)		—			—			—
	Miscellaneous			193,519			240,276			194,947			162,105			161,156
	Regulatory balancing accounts			39,578			36,494			(6,765	)		(50,780	)		(40,408	)
		Total electricity operating revenues	$	8,177,574		$	7,326,217		$	6,854,292		$	7,231,761		$	7,190,630

			2002	2001	2000	1999	1998
Other Data:
	Average annual residential usage (kWh)		6,577	6,463	7,062	6,905	6,776
	Average billed revenues (cents per kWh):
		Residential	13.27	12.50	10.46	10.68	10.77
		Commercial	14.26	12.68	8.48	9.32	9.69
		Industrial(1)	8.66	7.78	3.02	5.17	5.72
		Agricultural(1)	13.30	12.55	10.11	10.48	11.42
	Net plant investment per customer ($)		2,105	2,018	1,969	2,388	2,705

⁽¹⁾

The deliveries per kWh and average billed revenues per kWh include electricity provided to direct access customers who procure their own supplies of electricity.

⁽²⁾

Of the 78,230 GWh the Utility delivered in 2002, 49,766 GWh were procured or generated by the Utility (excluding energy loss and net deliveries to the Western Area Power Administration), 7,433 GWh were procured by direct access service providers and 21,031 GWh were procured by the DWR. Of the 78,373 GWh the Utility delivered in 2001, 45,751 GWh were procured or generated by the Utility (excluding energy loss and net deliveries to the Western Area Power Administration), 3,982 GWh were procured by the Utility's direct access customers and delivered by the Utility and 28,640 GWh were procured by the DWR and delivered by the Utility.

⁽³⁾

Revenues include direct access revenues, but exclude direct access credits.

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Electric Resources

        The Utility's sources of electricity delivered to customers during 2002 were as follows: 11.31% from the Utility's hydroelectric assets, 19.60% from the Utility's nuclear facilities at Diablo Canyon, 1.02% from the Utility's fossil-fuel fired plants, 33.86% from QFs and other power suppliers, and 25.28% from power procured on behalf of customers by the DWR and 8.93% from power procured by direct access service providers.

Retained Generation

        At December 31, 2002, the Utility's generation facilities, consisting primarily of hydroelectric and nuclear generating plants, had an aggregate net operating capacity of 6,420 megawatts, or MW. Except as otherwise noted below, at December 31, 2002, the Utility owned and operated the following generating plants, all located in California, listed by energy source:

Generation Type			County Location	Number of Units	Net Operating Capacity kW
Hydroelectric:
	Conventional Plants		16 counties in northern and central California	107	2,684,200
	Helms Pumped Storage Plant		Fresno	3	1,212,000
		Hydroelectric Subtotal		110	3,896,200
Steam Plants:
	Humboldt Bay		Humboldt	2	105,000
	Hunters Point(1)		San Francisco	1	163,000
		Steam Subtotal		3	268,000
Combustion Turbines:
	Hunters Point(1)		San Francisco	1	52,000
	Mobile Turbines(2)		Humboldt	2	30,000
		Combustion Turbines Subtotal		3	82,000
Nuclear:
	Diablo Canyon		San Luis Obispo	2	2,174,000
		Total		118	6,420,200

⁽¹⁾

In July 1998, the Utility reached an agreement with the City and County of San Francisco regarding the Hunters Point fossil-fuel fired power plant, which the ISO has designated as a "must-run" facility. The agreement expresses the Utility's intention to retire the plant when it is no longer needed by the ISO.

⁽²⁾

Listed to show capability; subject to relocation within the system as required.

⁽³⁾

One mobile turbine (15 MW) is not currently connected to the system. Hunters Point Units 2 and 3 (214 MW) were converted to synchronous condenser operations during 2001.

        The Utility is interconnected with electric power systems in the Western Electricity Coordinating Council, which includes 14 western states, Alberta and British Columbia, Canada, and parts of Mexico.

        Hydroelectric Generation Assets.    The Utility's hydroelectric system consists of 110 generating units at 68 powerhouses, including a pumped storage facility, with a total generating capacity of 3,896 MW. The system includes 99 reservoirs, 76 diversions, 174 dams, 184 miles of canals, 44 miles of flumes, 135 miles of tunnels, 19 miles of pipe, and 5 miles of natural waterways. The system also includes 84 permits and licenses 94 contracts for water rights and 164 statements of water diversion and use.

        Diablo Canyon Nuclear Power Plant.    Diablo Canyon consists of two nuclear power reactor units, each capable of generating up to approximately 26 million kWh of electricity per day. Diablo Canyon Units 1 and 2 began commercial operation in May 1985 and March 1986, respectively. The operating license expiration dates for Diablo Canyon Units 1 and 2 are September 2021 and April 2025, respectively. As of December 31, 2002, Diablo Canyon Units 1 and 2 had achieved lifetime capacity factors of 82.45% and 85.35%, respectively.

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        The table below outlines Diablo Canyon's refueling schedule for the next five years. Diablo Canyon refueling outages typically are scheduled every 19 to 21 months. The schedule below assumes that a refueling outage for a unit will last approximately 35 days, depending on the scope of the work required for a particular outage. The schedule is subject to change in the event of unscheduled plant outages.

		2003	2004	2005	2006	2007
Unit 1
	Refueling		March	October		April
	Startup		April	November		May
Unit 2
	Refueling	February	October		April
	Startup	March	November		May

        The Utility has purchase contracts for, and inventories of, uranium concentrates, uranium hexafluoride, and enriched uranium, as well as one contract for fuel fabrication. Based on current Diablo Canyon operations forecasts and a combination of existing contracts and inventories, the requirements for uranium supply, conversion of uranium to uranium hexafluoride, and the requirement for the enrichment of the uranium hexafluoride to enriched uranium, will be met through 2004. The fuel fabrication contract for the two units will supply their requirements for the next five operating cycles of each unit. In most cases, the Utility's nuclear fuel contracts are requirements-based, with the Utility's obligations linked to the continued operation of Diablo Canyon.

        The Utility has insurance coverage for property damage and business interruption losses as a member of Nuclear Electric Insurance Limited, or NEIL. NEIL is a mutual insurer owned by utilities with nuclear generating facilities. Under these insurance policies, if the nuclear generating facility of a member utility suffers a loss due to a prolonged accidental outage, the Utility may be subject to maximum retrospective premium assessments of $25 million with respect to property damage and $8 million with respect to business interruption losses per year if losses exceed the resources of NEIL.

        Effective November 15, 2001, in the event that one or more acts of terrorism cause property damage under any of the nuclear insurance policies issued by NEIL within 12 months from the date the first property damage occurs, the maximum recovery under all the nuclear insurance policies will be an aggregate of $3.24 billion, plus the additional amount recovered by NEIL for the losses from reinsurance, indemnity, and any other applicable sources. Under the Terrorism Risk Insurance Act of 2002, NEIL would be entitled to receive substantial reinsurance for an act caused by a foreign terrorist. The Terrorism Risk Insurance Act of 2002 expires on December 31, 2005.

        The Price-Anderson Act, as amended by Congress in 1988, limits public liability claims that could arise from a nuclear incident to a maximum of $9.5 billion per incident. The Utility has purchased primary insurance of $300 million for the Diablo Canyon Power Plant for public liability claims resulting from a nuclear incident. The Utility has secondary financial protection that provides an additional $9.2 billion of coverage, as required by the Price-Anderson Act. Under the Price-Anderson Act, secondary financial protection is required for all nuclear electrical generation reactors having a rated operating capacity of at least 100 MW. There are 105 currently licensed reactors having a rated capacity in excess of 100 MW, including Diablo Canyon's Units 1 and 2. The Price-Anderson Act provides for loss sharing among utilities owning nuclear generating facilities if a costly incident occurs. If a nuclear incident results in claims in excess of $300 million, the Utility may be assessed up to $176 million per incident, with payments in each year limited to a maximum of $20 million per incident. The Utility also has $53.3 million of private liability insurance for Humboldt Bay Power Plant, where the Utility has a shutdown nuclear unit. In addition, the Utility has a $500 million indemnification from the NRC for public liability arising from nuclear incidents covering liabilities in excess of the $53.3 million of private liability insurance for Humboldt Bay Power Plant. The Price-Anderson Act expired on August 1, 2002. By the terms of the act itself, the provisions of the act will remain in effect until Congress renews the act. The current draft of the bill to renew this act would increase the maximum assessment per nuclear incident per unit to $99 million from $88 million, with payments in each year limited to a maximum of $15 million per nuclear incident per unit, increased from $10 million.

Allocation of DWR Electricity to the California Investor-Owned Utilities

        Under the authority of AB 1X, the DWR entered into 35 long-term electricity procurement contracts, representing in the aggregate an average annual capacity of 10,780 MW over the next seven years. The California

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IOUs act as billing and collection agents for the DWR's sales of its electricity to retail customers. The DWR's authority under AB 1X to enter into new electricity procurement arrangements expired on December 31, 2002.

        In September 2002, the CPUC issued a decision that allocates the electricity provided through the DWR contracts among the customers of the three California IOUs. The DWR allocation generally consists of electricity quantities under contracts with specified delivery points in the Utility's service territory. The power available under the contracts is to be dispatched in conjunction with the IOU's existing resources on a least-cost basis, with surplus energy sales allocated pro rata between the DWR and the IOU's resources based on their relative amounts of generation. Some of the DWR contracts are firm commitments requiring the DWR to make purchases of specified quantities of electricity, others give the DWR the option as to whether to purchase the quantity of electricity set forth in the contract, and others have a combination of mandatory and optional purchases. Of the 19 DWR contracts allocated to the Utility, 11 involve mandatory purchase commitments, for a total average capacity of 3,010 MW, and the remaining 8 contracts involve optional purchase commitments, for a total average capacity of 1,610 MW.

        The September 2002 CPUC decision orders the DWR to allocate its variable costs on a contract-by-contract basis. The allocation of both fixed and variable costs was decided in the annual DWR revenue requirement proceeding described above.

        The California IOUs began performing all the day-to-day scheduling, dispatch and administrative functions associated with the DWR contracts allocated to their portfolios on January 1, 2003. The DWR retains legal title to electricity purchased under the allocated contracts as well as financial reporting and payment responsibility associated with these contracts. The IOUs continue to act as billing and collection agents for the DWR.

        Although the IOUs will be held to a reasonableness standard in their scheduling and dispatch decision-making and their administration of the DWR contracts, the CPUC has determined that the maximum risk of potential disallowance each IOU should face for all of its procurement activities, including the operation and dispatch of DWR's contracts, should be limited to twice the IOU's annual administrative costs of managing procurement activities. The Utility anticipates that its annual administrative costs of managing procurement activities will be approximately $18 million in 2003. The DWR has stated publicly that it intends to transfer full legal title of, and responsibility for, the DWR electricity contracts to the IOUs as soon as possible. However, SB 1976 does not contemplate a transfer of title of the DWR contracts to the IOUs. In addition, the operating order issued by the CPUC on December 19, 2002, implementing the Utility's operational and scheduling responsibility with respect to the DWR allocated contracts specifies that the DWR will retain legal and financial responsibility for the contracts and that the December 19, 2002, order does not result in an assignment of the DWR allocated contracts. The Utility's proposed plan of reorganization prohibits the Utility from accepting, directly or indirectly, assignment of legal or financial responsibility for the DWR contracts. There can be no assurance that either the State of California or the CPUC will not seek to provide the DWR with authority to effect such a transfer of legal title in the future. The Utility has informed the CPUC, the DWR and the State that the Utility would vigorously oppose any attempt to transfer the DWR allocated contracts to the Utility without the Utility's consent.

Qualifying Facility Agreements

        The Utility is required by CPUC decisions to purchase electric energy and capacity from independent power producers that are qualifying facilities, or QFs, under the Public Utility Regulatory Policies Act of 1978 or PURPA. Pursuant to PURPA, the CPUC required California utilities to enter into a series of QF long-term power purchase agreements and approved the applicable terms, conditions, price options, and eligibility requirements. The agreements require the Utility to pay for energy and capacity. Energy payments are based on the QF project's actual electrical output and capacity payments are based on the QF project's total available capacity and contractual capacity commitment. Capacity payments may be reduced or increased if the facility fails to meet or, alternatively, exceeds performance requirements specified in the applicable power purchase agreements.

        As of December 31, 2002, the Utility had agreements with 285 QFs for approximately 4,200 MW. The 4,200 MW consist of 2,600 MW from cogeneration projects, 700 MW from wind projects and 900 MW from other projects, including biomass, waste-to-energy, geothermal, solar and hydroelectric. Power purchase agreements for 2,100 MW expire between 2013 and 2015 while agreements for an additional 1,600 MW expire between 2016 and 2028. Power purchase agreements for 500 MW have no specific expiration date and will terminate upon exercise of a termination option by the QF. QF power purchase agreements accounted for approximately 25.01% of the Utility's 2002 deliveries and no single agreement accounted for more than 5% of its electricity deliveries.

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        In August 2002, the CPUC ordered the IOUs to offer transitional standard offer no. 1 contracts, or TSO1 contracts, to certain QFs whose power purchase agreements with the IOU had expired or were about to expire. The term of these transitional contracts will end when the IOU fully implements its CPUC-approved long-term procurement plan or on December 31, 2003, whichever occurs first. The Utility signed TSO1 contracts with nine QFs. These new contracts have been approved by the Bankruptcy Court and the CPUC and became effective on January 1, 2003.

        Since December 2001, the Bankruptcy Court has approved supplemental agreements between the Utility and most QFs to resolve the applicable interest rate to be applied to pre-petition amounts owed to QFs. The supplemental agreements

•

set the interest rate for pre-petition payables at 5%,



•

provide for a "catch-up payment" of all accrued and unpaid interest through the initial payment date, and



•

depending on the amount owed, either (a) provide for the immediate payment of the principal and interest amount of the pre-petition payables or (b) payment in 12 or 6 equal monthly payments beginning on the last business day of the month during which Bankruptcy Court approval was granted.

        If the effective date of the Utility's Plan occurs before the last monthly payment is made, the remaining unpaid principal and unpaid interest would be paid on the effective date. Additionally, since January 2002, the Utility has entered into agreements with additional QFs to assume their power purchase agreements, which agreements also contained the same interest and payment terms contained in the supplemental agreements described above. At December 31, 2002, $901 million in principal and $60 million in interest have been paid to the QFs. Through December 31, 2002, 264 of 313 QFs have signed assumption and/or supplemental agreements. The Utility believes that some of the remaining QFs also will wish to enter into similar supplemental agreements.

Renewable Resource Energy Contracts

        An August 22, 2002, the CPUC issued a decision requiring the California IOUs to contract for electricity from renewable resources for an additional 1% each year beginning January 1, 2003, until a 20% renewable resource portfolio is achieved by no later than 2017. Interim renewable resources contracts should range from 5 to 15 year terms. In addition, the CPUC decision determined that any renewable resources contract prices that meet or are less than a provisional benchmark of 5.37 cents per kWh will be deemed reasonable, although prices above the benchmark also may be pre-approved for cost recovery through the pre-approval process adopted in the decision. The Utility currently estimates that the annual 1% increase in renewable resource electricity in its portfolio will initially require between 80 and 100 MW of additional renewable capacity to be added per year. On September 16, 2002, the Utility issued a request for offers to meet the 1% annual renewable resource requirement and on November 15, 2002, the Utility submitted the offers selected to the CPUC for approval. These submissions, which the CPUC approved in December 2002, will meet the Utility's renewable resource requirement for 2003.

Other Third-Party Power Agreements

        The Utility also has contracts with various irrigation districts and water agencies to purchase hydroelectric power. Under these contracts, the Utility must make specified semi-annual minimum payments whether or not any energy is supplied (subject to the supplier's retention of the FERC's authorization) and variable payments for operation and maintenance costs incurred by the suppliers. These contracts expire on various dates from 2004 to 2031. Costs associated with these contracts to purchase power are eligible for recovery by the Utility as transition costs through the collection of the non-bypassable competition transition charge. At December 31, 2002, the undiscounted future minimum payments under these contracts are approximately $32.9 million for each of the years 2003 and 2004 and a total of $247 million for periods thereafter. Irrigation district and water agency deliveries in the aggregate accounted for approximately 4.24% of the Utility's 2002 electric power requirements.

        The Utility also has two power purchase agreements representing an aggregate of 450 MW, both of which expire at the end of 2003. The Utility's minimum payments due under these contracts are $196 million for 2003.

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        The amount of electric power received and the total payments made under QF, irrigation district, water agency, and bilateral agreements are as follows:

	2002		2001		2000		1999		1998
Gigawatt-hours received		28,088		23,732		26,027		25,910		25,994
Energy payments (in millions)	$	1,051	$	1,454	$	1,549	$	837	$	943
Capacity payments (in millions)	$	506	$	473	$	519	$	539	$	529
Irrigation district and water agency payments (in millions)	$	57	$	54	$	56	$	60	$	53
Bilateral contract payments	$	196	$	155	$	53		0		0

        Western Area Power Administration.    In 1967, the Utility and the Western Area Power Administration, or WAPA, entered into a long-term power contract governing (1) the interconnection of the Utility's and WAPA's transmission systems, (2) WAPA's use of the Utility's transmission and distribution system, and (3) the integration of the Utility's and WAPA's loads and resources. The contract gave the Utility access to surplus hydroelectric generation and obligates the Utility to provide WAPA with electricity when its own resources are not sufficient to meet its requirements. The contract terminates on December 31, 2004.

        As a result of California's electric industry restructuring in 1998, the Utility was required to procure the electric power that it needed to meet its own and WAPA's requirements from the PX. This caused the Utility to be exposed to market-based energy pricing rather than the cost of service-based energy pricing that had been presumed when the contract was executed. As a result, the Utility paid substantially more for the energy it purchased on behalf of WAPA than it received for the sales of energy to WAPA. The cost to fulfill the Utility's obligations to WAPA under the contract is uncertain. However, the Utility expects that the cost of meeting its obligation to WAPA will be greater than the price that the Utility receives from WAPA under the contract. In part, the amount of electricity the Utility will be required to deliver to WAPA depends on the amount of electricity available from WAPA's hydroelectric resources. Under AB 1890, the Utility's retail ratepayers pay for this difference as a stranded power purchase cost. The amount of the difference between the Utility's cost to meet its obligations to WAPA and the revenues it receives from WAPA cannot be accurately estimated at this time since both the purchase price and the amount of energy WAPA will need from the Utility through the end of the contract are uncertain. Though it is not indicative of future sales commitments or sales-related costs, WAPA's net amount purchased from the Utility was 3,619 GWh in 2002, 4,823 GWh in 2001, and 5,120 GWh in 2000.

Electric Transmission

        To transmit electricity to load centers, the Utility, at December 31, 2002, owned approximately 18,605 circuit miles of interconnected transmission lines operated at voltages of 60 kV to 500 kV and transmission substations having a capacity of approximately 47,596 megavolt-amperes (MVA), including spares, and excluding power plant interconnection facilities. Electricity is distributed to customers through approximately 118,033 circuit miles of distribution system and distribution substations having a capacity of approximately 24,020 MVA. For the year ended December 31, 2002, the Utility sold 104,499,158 MWh to its bundled retail customers and transmitted 7,433,238 MWh to direct access customers.

        In connection with electric industry restructuring, in 1998 the IOUs relinquished to the ISO control, but not ownership, of their transmission facilities. The FERC has jurisdiction over the transmission facilities, and revenue requirements and rates for transmission service are set by the FERC. The ISO commenced operations on March 31, 1998. The ISO, regulated by the FERC, controls the operation of the transmission system and provides open access transmission service on a nondiscriminatory basis. As control area operator, the ISO also is responsible for assuring the reliability of the transmission system.

        In 1998, the FERC approved the forms of agreements for Reliability Must-Run, or RMR, service that have been entered into between RMR facility owners and the ISO to ensure grid reliability and avoid the exercise of local market power. The costs of RMR contracts attributed to supporting the Utility's historic transmission control area are charged to the Utility as a Participating Transmission Owner, or PTO. These costs, which were approximately $311 million in 2002, are currently recovered from the Utility's retail customers and, subject to FERC filings to be made by March 31, 2003, wholesale transmission customers.

        In March 2000, the ISO filed an application with the FERC seeking to establish its own Transmission Access Charge (TAC) as directed in AB 1890. The FERC accepted the ISO's TAC filing, subject to refund, but suspended the proceeding to allow interested parties to enter into settlement discussions. After settlement discussions proved unsuccessful, in December 2002 FERC set the case for hearing. In late December 2000, the ISO made a further

36

implementation filing, also accepted by the FERC subject to refund, to establish specific TAC rates which was triggered by a transmission-owning municipality's application to become a new PTO. The ISO's TAC methodology provides for transition to a uniform statewide high voltage transmission rate, based on the revenue requirements of all PTOs associated with facilities operated at 200 kV and above. The TAC methodology also requires the IOUs, such as the Utility, to pay during a ten-year transition period a charge based on certain costs incurred by new PTOs resulting from joining the ISO and the cost differential from these higher-cost systems being included in the ISO controlled transmission grid. The Utility's obligation for this cost shift is proposed to be capped at $32 million per year.

        The Utility has been working closely with the ISO to continue expanding the capacity on the Utility's electric transmission system. One segment of the transmission system proposed to be addressed by the Utility are the transmission facilities known as Path 15, which is located in the southern portion of the Utility's service area, and serves as part of the primary transmission path between northern California and southern California. At times, the current facilities cannot accommodate all low-cost power intended to be transmitted between southern California and northern California. (For transmission purposes, the Diablo Canyon Nuclear Power Plant is located south of Path 15.) This transmission constraint historically has resulted in significant wholesale power price differentials between northern and southern California, with relatively high power prices in northern California and relatively low power prices in southern California.

        Following an analysis of the economic benefits of relieving transmission system constraints performed by the ISO, the Utility agreed to participate in a project sponsored by WAPA to upgrade the transfer capability of Path 15. The project entails construction of a new 84 mile, 500 kV transmission line by WAPA between two of the Utility's existing substations. The Utility has agreed to interconnect WAPA's new 500 kV line at the Utility's substations by installing necessary substation equipment and to modify other portions of its transmission system. WAPA will own and operate the new 500 kV line with financing provided by Trans-Elect, Inc., an independent electric transmission company. All participants in the WAPA-sponsored project have agreed to turn over operational control of the transmission system upgrade to the ISO upon completion of the project. In January 2002, the Utility received Bankruptcy Court approval to participate in the WAPA project including spending up to $75 million under its current five-year plan for the substation and system modifications necessary to interconnect to WAPA's new line. In May 2002, the FERC approved a letter agreement between the participants outlining ownership, financing and cost recovery associated with the project. The Utility is in the process of negotiating additional agreements with the project participants to develop schedules and coordinate construction of the project and for the coordinated operation and interconnection of the project with its existing facilities. The Utility's expenditure commitment is contingent upon WAPA meeting construction milestones.

        The Utility's investment in its transmission system has been growing substantially over the past several years. The Utility made an additional capital investment of approximately $374 million in its transmission system in 2002 and plans to make an additional capital investment of approximately $504 million in 2003. Through the ISO's Long-Term Grid Planning Process, the Utility files annually with the ISO its transmission system upgrade and expansion plans and provides the ISO and other interested parties the opportunity to review and modify the Utility's planned upgrades and expansions.

GAS UTILITY OPERATIONS

        The Utility owns and operates an integrated gas transmission, storage, and distribution system in California that extends throughout all or a portion of 38 of California's 58 counties and includes most of northern and central California. In 2002, the Utility served approximately 3.9 million natural gas distribution customers.

        At December 31, 2002, the Utility's system consisted of approximately 6,300 miles of transmission pipelines, three gas storage facilities, and approximately 38,944 miles of gas distribution lines. The Utility's Line 400/401 interconnects with PG&E GTN's natural gas transmission system. The PG&E GTN pipeline begins at the border of British Columbia, Canada and Idaho, and extends through northern Idaho, southeastern Washington, and central Oregon, and ends on the Oregon-California border where it connects with the Utility's Line 400/401. The Utility's Line 400/401 has a capacity at the border of approximately 2 billion cubic feet, or Bcf. The Utility's Line 300, which connects to the U.S. Southwest pipeline systems (Transwestern, El Paso, Questar, and Kern River) owned by third parties has a capacity at the California/Arizona border of 1,140 MMcf per day. The Utility's underground gas storage facilities located at McDonald Island, Los Medanos, and Pleasant Creek, have a total working gas capacity of 100 Bcf.

37

        Through the interconnection with other interstate pipelines, the Utility can receive natural gas from all the major natural gas basins in western North America, including basins in western Canada, the southwestern United States, and the Rocky Mountains, as well as natural gas fields in California.

        Since 1991, the CPUC has divided the Utility's natural gas customers into two categories—core and noncore customers. This classification is based largely on a customer's annual natural gas usage. The core customer class is comprised mainly of residential and smaller commercial natural gas customers. The noncore customer class is comprised of industrial and larger commercial natural gas customers. In 2002, core customers represented over 99% of the Utility's total customers and 41% of its total natural gas deliveries while noncore customer comprised less than 1% of its total customers and 59% of its total natural gas deliveries.

        The Utility provides natural gas delivery services to all its core and noncore customers. Core customers can purchase gas from third-party suppliers or can elect to have the Utility provide both delivery service and natural gas supply. Where the Utility provides both supply and delivery, the Utility refers to the service as "bundled service." The Utility offers transmission, distribution, and storage services as separate and distinct services to its non-core customers. These customers have the opportunity to select from a menu of services offered by the Utility and to pay only for the services that they use. Access to the transmission system is possible for all gas marketers and shippers, as well as non-core end-users. The Utility's core customers can select the commodity gas supplier of their choice, but the Utility continues to purchase gas as a regulated supplier for those core customers who do not select another supplier. Currently, over 99% of core customers, representing over 97% of core market demand, choose to receive bundled services from the Utility. The Utility ended its core subscription service in March 2001.

        The Utility earns a return on its investment in natural gas distribution facilities. Customers pay a volumetric distribution rate that reflects the Utility's costs to serve each customer class. The Utility has regulatory balancing accounts for core customers designed so that the Utility's results of operations over the long term are not affected by their consumption levels. Results of operations can, however, be affected by noncore consumption levels because there are no similar regulatory balancing accounts related to noncore customers. Approximately 97% of the Utility's natural gas base revenues are recovered from core customers and 3% are recovered from noncore customers. The Utility Gas Accord II application for 2004 requests 100% balancing account treatment for noncore gas distribution revenues.

        The Utility's peak day send-out of natural gas on its integrated system in California during the year ended December 31, 2002 was 4,077MMcf. The total volume of natural gas throughput during 2002 was approximately 749,981 MMcf, of which 733,585 MMcf was sold or transported to direct end-use or resale customers, 15,298 MMcf was used by the Utility primarily for its fossil-fuel fired electric generating plants, and 1,098 MMcf was transported off-system as customer-owned natural gas.

        The California Gas Report, which presents the outlook for natural gas requirements and supplies for California over a long-term planning horizon, is prepared annually by the California electric and gas utilities. A comprehensive biennial report is prepared in even-numbered years. A supplemental report is prepared in intervening odd-numbered years updating recorded data for the previous year. The 2002 California Gas Report updated the Utility's annual gas requirements forecast for the years 2002 through 2022, forecasting average annual growth in gas throughput served by the Utility of approximately 1.8%. The gas requirements forecast is subject to many uncertainties and there are many factors that can influence the demand for natural gas, including weather conditions, level of economic activity, conservation, and amount and location of electric generation. The 2003 report is due to be filed July 1, 2003, and will include recorded data for 2002.

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Gas Operating Statistics

        The following table shows Pacific Gas and Electric Company's operating statistics (excluding subsidiaries) for gas, including the classification of sales and revenues by type of service:

				2002			2001			2000		1999			1998
Customers (average for the year):
	Residential				3,738,524			3,705,141			3,642,266		3,593,355			3,536,089
	Commercial				206,953			205,681			203,355		203,342			200,620
	Industrial				1,819			1,764			1,719		1,625			1,610
	Other gas utilities				5			6			6		4			5
		Total			3,947,301			3,912,592			3,847,346		3,798,326			3,738,324
Gas supply—thousand cubic feet (Mcf) (in thousands):
	Purchased from suppliers in:
		Canada			210,716			209,630			216,684		230,808			298,125
		California			19,533			10,425			32,167		18,956			17,724
		Other states			67,878			76,589			75,834		107,226			122,342
			Total purchased		298,127			296,644			324,685		356,990			438,191
	Net (to storage) from storage				(218	)		(27,027	)		19,420		(980	)		(14,468	)
			Total		297,909			269,617			344,105		356,010			423,723
	Pacific Gas and Electric Company use, losses, etc.(1)				16,394			(939	)		62,960		47,152			129,305
			Net gas for sales		281,515			270,556			281,145		308,858			294,418
Bundled gas sales—Mcf (in thousands):
	Residential				202,141			197,184			210,515		233,482			223,706
	Commercial				78,812			72,528			66,443		70,093			66,082
	Industrial				563			831			4,146		5,255			4,616
	Other gas utilities				0			13			41		28			14
			Total		281,516			270,556			281,145		308,858			294,418
Transportation only—Mcf (in thousands):
	Vintage system (Substantially all Industrial)(2)				508,090			646,079			606,152		484,218			396,872
Revenues (in thousands):
	Bundled gas sales:
		Residential		$	1,379,036		$	2,307,677		$	1,680,745	$	1,542,705		$	1,414,313
		Commercial			499,214			783,080			513,080		448,655			426,299
		Industrial			2,447			15,904			35,347		24,638			24,634
		Other gas utilities			829			2			0		77			1,072
			Bundled gas revenues		1,881,526			3,106,663			2,229,172		2,016,075			1,866,318
	Transportation only revenue:
		Vintage system (Substantially all Industrial)		$	308,212		$	365,550		$	324,319	$	267,544		$	232,038
		PG&E Expansion (Line 401)			8,275			9,380			13,392		19,091			42,194
	Transportation service only revenue				316,487			374,930			337,711		286,635			274,232
	Miscellaneous				126,415			(92,531	)		84,526		(47,311	)		41,364
	Regulatory balancing accounts				11,431			(253,476	)		131,762		(259,648	)		(448,351	)
			Operating revenues	$	2,335,859		$	3,135,586		$	2,783,171	$	1,995,751		$	1,733,563

⁽¹⁾

Includes fuel for Pacific Gas and Electric Company's fossil-fuel fired generating plants.

⁽²⁾

Does not include on-system transportation volumes transported on the PG&E Expansion of 382 MMcf, 259 MMcf, 4,833 MMcf, 1,251 MMcf, and 34,169 MMcf for 2002, 2001, 2000, 1999, and 1998, respectively.

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			2002		2001		2000		1999		1998
Selected Statistics:
	Average annual residential usage (Mcf)			54.1		53.2		59		65		63
	Heating temperature—% of normal(1)			104.6		105.1		101.2		108.5		93.0
	Average billed bundled gas sales revenues per Mcf:
		Residential	$	6.82	$	11.70	$	7.98	$	6.61	$	6.32
		Commercial		6.33		10.80		7.72		6.40		6.45
		Industrial		4.35		19.15		8.53		4.69		5.36
	Average billed transportation only revenue per Mcf:
		Vintage system		0.61		0.56		0.54		0.66		0.66
		PG&E Expansion (Line 401)		7.54		1.78		2.04		0.53		0.54
	Net plant investment per customer(2)		$	1,006	$	970	$	1,003	$	1,011	$	1,040

⁽¹⁾

Over 100% indicates colder than normal.

Natural Gas Supplies

        The Utility purchases natural gas directly from producers and marketers in both Canada and the United States. The composition of the Utility's portfolio of natural gas procurement contracts has fluctuated, generally based on market conditions. The Utility's CPUC-approved core procurement incentive mechanism, or CPIM, uses published monthly and daily natural gas prices for determining the Utility's benchmark price. During the year ended December 31, 2002, the Utility purchased approximately 298,127 Mcf of natural gas from approximately 54 suppliers. Substantially all this supply was purchased under contracts with a term of less than one year. The Utility's largest individual supplier represented approximately 9.4% of the Utility's total natural gas purchases during the year ended December 31, 2002.

        Approximately 70% of the Utility's natural gas supplies come from western Canada. The Utility has firm transportation agreements for western Canadian natural gas with TransCanada NOVA Gas Transmission, Ltd. and TransCanada PipeLines Ltd., B.C. System. These systems transport the natural gas to the U.S. and Canadian border, where it enters the transportation pipeline of PG&E GTN near Kingsgate, British Columbia. Approximately 28% of the Utility's natural gas supplies come from the southwestern United States and the Rocky Mountains. The Utility has firm transportation agreements with Transwestern Pipeline Company and El Paso Natural Gas Company to transport this natural gas to interconnections with the Utility's gas transportation and storage system near Topock, Arizona.

        The following table shows the total volume and average price of gas in dollars per thousand cubic feet (Mcf) purchased by the Utility from these sources during each of the last five years.

	2002			2001			2000			1999				1998
	Thousands of Mcf	Avg. Price(1)		Thousands of Mcf	Avg. Price(1)		Thousands of Mcf	Avg. Price(1)		Thousands of Mcf	Avg. Price(1)		Thousands of Mcf	Avg. Price(1)
Canada	210,716	$	2.42	209,630	$	4.43	216,684	$	4.05	230,808	$	2.50	298,125	$	2.00
California	19,533		2.88	10,425		16.68	32,167		8.20	18,956		2.45	17,724		2.44
Other states (substantially all U.S. Southwest)	67,878		3.04	76,588		10.41	75,835		5.99	107,227		2.42	122,342		2.62
Total/Weighted Average	298,127	$	2.59	296,643	$	6.40	324,686	$	4.92	356,991	$	2.47	438,191	$	2.19

⁽¹⁾

The average prices for Canadian and U.S. Southwest gas include the commodity gas prices, interstate pipeline demand or reservation charges, transportation charges, and other pipeline assessments, including direct bills allocated over the quantities received at the California border. Beginning March 1, 1998, the average price for gas also includes intrastate pipeline demand and reservation charges. These costs previously were bundled in gas rates.

        Under the CPIM, the Utility's procurement costs are compared to an aggregate market-based benchmark based on a weighted average of published monthly and daily natural gas prices at the locations where the Utility typically purchases natural gas. If costs fall within a range, or tolerance band, currently between 99% to 102%, around the benchmark, they are considered reasonable and the Utility may fully recover them in customer rates. Ratepayers and shareholders share costs and savings outside the tolerance band.

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Natural Gas Gathering Facilities

        The Utility's natural gas gathering system collects and processes natural gas from third-party wells in California. The natural gas is processed to remove various impurities from the natural gas stream and to odorize the natural gas so that it may be detected in the event of a leak. The facilities include approximately 510 miles of gas gathering pipelines as well as dehydration, separation, regulation, odorization and metering equipment located at approximately 60 stations. The natural gas gathering system is geographically dispersed and is located in 16 California counties. Approximately 190 MMcf per day of natural gas flows through the Utility's gas gathering system.

Natural Gas Transportation and Storage Services Agreements

        Since March 1998, the Utility's natural gas transportation and storage services have been governed by the rates, terms, and conditions approved by the CPUC in the Gas Accord. The Gas Accord separated, or "unbundled," the Utility's natural gas transportation and storage services from its distribution services, changed the terms of service and rate structure for natural gas transportation and storage services, and fixed natural gas transportation and storage rates. As required by the CPUC, in October 2001, the Utility filed an application with the CPUC requesting a two-year extension, without modification, of the Gas Accord. In August 2002, the CPUC approved a settlement agreement among the Utility and other parties that provided for a one-year extension of the Gas Accord. The Gas Accord II settlement left unresolved the issues raised in the application insofar as they relate to the second year of the two-year application.

        Following the CPUC administrative law judge's rulings which required the Utility to also file a cost and rate proposal for 2004, the Utility filed an amended application, on January 13, 2003, which proposes, among other things, retention of the basic Gas Accord market structure, transmission and storage costs and rates for 2004, a 13.4% equity return for gas transmission and storage assets, a 1-in-10 reliability standard, and for the Utility to remain at risk for recovery of all transmission and storage facility costs. Testimony by interested parties is due by February 28, 2003, and rebuttal testimony by March 24, 2003, with hearings to begin on April 1, 2003.

        The Utility has a number of arrangements for natural gas transportation services. These agreements include provisions for payment of fixed demand charges for reserving firm pipeline capacity as well as volumetric transportation charges. The total demand charges may change periodically as a result of changes in regulated tariff rates. Additionally, the forward market value for the firm capacity is subject to change. The Utility held hedge agreements for a portion of this forward value at the time it defaulted in April 2001, which caused the hedge counterparties to terminate their agreements and demand termination payments. The Utility recognized a total of $111 million in losses related to these terminated agreements in 2001. The combined charges the Utility incurred under the transportation agreements and hedge agreements, including losses on terminated contracts, were $101 million, $239 million, and $94 million in 2002, 2001, and 2000, respectively. These amounts include payments that the Utility made to PG&E GTN of $47 million, $40 million, $46 million in 2002, 2001, and 2000, respectively, which are eliminated in the consolidated financial statements of PG&E Corporation.

        Under a firm transportation agreement with PG&E GTN that runs through October 31, 2005, the Utility currently retains capacity of approximately 610 MDth/d on the PG&E GTN system to support its core customers. The Utility has been able to broker its unused capacity on PG&E GTN's system, when not needed for core customers.

        Pursuant to the CPUC's order requiring the utilities to subscribe for capacity on El Paso's pipeline, the Utility has obtained 204 MDth/day of El Paso capacity rights on interstate pipeline under three natural gas transportation agreements commencing on November 1, 2002. The costs are currently allocated to core and noncore customers subject to reallocation in a future CPUC proceeding.

        The Utility may recover demand charges through the CPIM and through brokering activities.

        The Utility may, upon prior notice, extend each of these natural gas transportation contracts for additional minimum terms ranging, depending on the particular contract, from 1 to 10 years with demand charges to be set by tariffs approved by Canadian regulators in the case of TransCanada NOVA Gas Transmission, Ltd. and TransCanada PipeLines Ltd., B.C. System and the FERC in all other cases. For the contracts under FERC jurisdiction, the Utility has a right of first refusal allowing the Utility to renew pipeline service agreements at the end of their terms. If another prospective shipper wants the capacity, the Utility would be required to match the competing bid with respect to both price and term. In the past, FERC policy required only that the existing shipper match the price and a term of up to five years. In a recent order on remand from an appellate court, the FERC removed the

41

five-year cap on matching bids. Under the new FERC policy, the existing shipper must match the competing bid with respect to both price and term, with no limit on the number of years that the shipper's bid must match.

PG&E NATIONAL ENERGY GROUP, INC.

        PG&E NEG is currently focused on power generation and natural gas transmission in the United States. PG&E NEG reports its business segments as follows: interstate pipeline operations (or "Pipeline Business") and power generation also referenced as Integrated Energy and Marketing (or "Generation Business").

Generation Business

        In the Generation Business segment, PG&E NEG engages in the generation of electricity in the continental United States. As of December 31, 2002, PG&E NEG had ownership or leasehold interests in 13 operating generating facilities with a net generating capacity of 1,476 megawatts (MW), as follows:

Number of Facilities	Net MW	Primary Fuel Type	% of Portfolio
8	657	Coal/Oil	45
7	797	Natural Gas	54
1	12	Wind	1
16	1,476		100

        PG&E NEG provides operating and/or management services for 14 of these 16 owned and leased generating facilities. Plant operations are focused on maximizing the availability of a facility to generate power during peak energy price hours, improving operating efficiencies and minimizing operating costs while placing a heavy emphasis on safety standards, environmental compliance and plant flexibility. These generating facilities sell all or a majority of their electrical capacity and output to one or more third parties under long-term power purchase agreements tied directly to the output of that plant.

        PG&E NEG holds interests in these projects through wholly owned indirect subsidiaries and typically manages and operates these facilities through an operation and maintenance agreement and/or a management services agreement. These agreements generally provide for management, operations, maintenance and administration for day-to-day activities, including financial management, billing, accounting, public relations, contracts, reporting and budgets. In order to provide fuel for PG&E NEG's independent power projects (IPPs), natural gas and coal supply commitments are typically purchased from third parties under long-term supply agreements.

        The revenues generated from long-term power sales agreements usually consist of two components: energy payments and capacity payments. Energy payments are typically based on the facility's actual electrical output and capacity payments are based on the facility's total available capacity. Energy payments are made for each kilowatt-hour of energy delivered, while capacity payments, under most circumstances, are made whether or not any electricity is delivered. However, capacity payments may be reduced if the facility does not attain an agreed availability level. The average life of the power sales agreements is 15 years.

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Description of Generating Facilities

        The following table provides information regarding each of PG&E NEG's owned or leased generating facilities, as of December 31, 2002, excluding assets to be abandoned and, assets held for sale or use, assets to be abandoned and, such as the USGenNE facilities, Lake Road, La Paloma, Attala, and the GenHoldings projects:

Generating Facility		State	Total MW(1)	Net Interest in Total MW(2)	Structure	Fuel	Primary Output Sales Method	Date of Commercial Operation	Contract Expiration
New England Region
MASSPOWER		MA	267	35	Owned	Natural Gas	Power Purchase Agreements	1993	2008 & 2013
Pittsfield		MA	173	154	Leased	Natural Gas	Power Purchase Agreements	1990	2010
	Subtotal		440	189
Mid-Atlantic and New York Region
Selkirk		NY	345	145	Owned	Natural Gas	Power Purchase Agreements and Competitive Market	1992	2008/2014
Carneys Point		NJ	245	123	Owned	Coal	Power Purchase Agreements	1994	2024
Logan		NJ	225	113	Owned	Coal	Power Purchase Agreement	1994	2024
Northampton		PA	110	55	Owned	Waste Coal	Power Purchase Agreements	1995	2020
Panther Creek		PA	80	44	Owned	Waste Coal	Power Purchase Agreement	1992	2012
Scrubgrass		PA	87	44	Owned	Waste Coal	Power Purchase Agreement	1993	2017
Madison		NY	12	12	Owned	Wind	Competitive Market	2000	N/A
	Subtotal		1,104	536
Midwest Region
Ohio Peakers		OH	149	149	Owned	Natural Gas	Competitive Market	2001	2005
Southern Region
Indiantown		FL	330	116	Owned	Coal	Power Purchase Agreement	1995	2025
Cedar Bay		FL	258	165	Owned	Coal	Power Purchase Agreement	1994	2024
	Subtotal		588	281
Western Region
Hermiston		OR	474	119	Owned	Natural Gas	Power Purchase Agreement	1996	2016
Colstrip		MT	40	7	Owned	Waste Coal	Power Purchase Agreement	1990	2025
San Diego Peakers		CA	84	84	Owned	Natural Gas	Competitive Market	2001	2003
Plains End		CO	111	111	Owned	Natural Gas	Power Purchase Agreement	2002	2012
	Subtotal		714	326
	Total		2,990	1,476

⁽¹⁾

Megawatts are based on winter output.

⁽²⁾

PG&E NEG's net interest in the total MW of an independent power project is the current percentage ownership or leasehold interest in the project affiliate and does not necessarily correspond to PG&E NEG's percentage of the project's expected cash flow.

Natural Gas Transmission Business

        In its Pipeline Business segment, PG&E NEG owns, operates and develops natural gas pipeline facilities, including the pipeline owned by PG&E GTN, an interest in the Iroquois Gas Transmission System, and the North Baja pipeline.

        The following table summarizes PG&E NEG's gas transmission pipelines:

Pipeline Name	Location	In Service Date	Approx. Capacity (MMcf/d)	2001 Load Factor		Length (miles)	Ownership Interest
PG&E GTN	ID, OR, WA	1961	2,700	91	%	1,356	100.0	%
Iroquois Gas Transmission System	NY, CT	1991	850	88	%	375	5.2	%
North Baja	AZ, CA	2002/2003	500	N/A		80	100.0	%

        PG&E GTN Pipeline System.    The PG&E GTN pipeline consists of over 1,350 miles of natural gas transmission pipeline in the Pacific Northwest with a capacity of approximately 2.9 billion cubic feet of natural gas per day. This pipeline begins at the British Columbia-Idaho border, extends for approximately 612 miles through northern Idaho, southeastern Washington and central Oregon, and ends at the Oregon-California border, where it connects

43

with other pipelines. The PG&E GTN pipeline commenced commercial operation in 1961 and has subsequently expanded various times through 2002. This pipeline is the largest transporter of Canadian natural gas into the United States. The mainline system of this pipeline is composed of two parallel pipelines (along with 21 miles of a third parallel line) with 13 compressor stations totaling approximately 513,400 horsepower and ancillary facilities which include metering and regulating facilities and a communication system. PG&E GTN has approximately 639 miles of 36-inch diameter gas transmission lines (612 miles of 36-inch diameter pipe and 27 miles of 36-inch diameter pipeline looping) and approximately 611 miles of 42-inch diameter pipe. The PG&E GTN system also includes two laterals off of its mainline system, the Coyote Springs Extension, which supplies natural gas to an electric generation facility owned by Portland General Electric Company and other customers, and the Medford Extension, which supplies natural gas to Avista Utilities and Pacificorp Power Marketing. The Coyote Springs Extension is composed of approximately 18 miles of 12-inch diameter pipe, originating at a point on the PG&E GTN mainline system approximately 27 miles south of Stanfield, Oregon and connecting to Portland General Electric's electric generation facility near Boardman, Oregon. The Medford Extension consists of approximately 22 miles of 16-inch diameter pipe and 66 miles of 12-inch diameter pipe and extends from a point on the PG&E GTN mainline system near Bonanza, in Southern Oregon, to interconnection points with Avista Utilities at Klamath Falls and Medford, Oregon.

        PG&E GTN Interconnection With Other Pipelines.    PG&E GTN's pipeline facilities interconnect with facilities owned by TransCanada PipeLines Ltd.'s B.C. System (TransCanada) and facilities owned by Foothills Pipe Lines South B.C. Ltd. (Foothills South B.C.) near the Idaho-British Columbia border. PG&E GTN's pipeline facilities also interconnect with the facilities owned by the Utility, at the Oregon-California border, with the facilities owned by Northwest Pipeline Corporation (Northwest Pipeline) in Northern Oregon and in Eastern Washington, and with the facilities owned by Tuscarora Gas Transmission Company (Tuscarora) in Southern Oregon. PG&E GTN also delivers gas along various mainline delivery points to two local gas distribution companies.

        TransCanada PipeLines Ltd. and Foothills South B.C. Ltd.    PG&E GTN's pipeline facilities interconnect with the facilities of TransCanada and Foothills South B.C. near Kingsgate, British Columbia. Through the TransCanada and Foothills South B.C. systems, PG&E GTN's customers have access to natural gas from the Western Canadian Sedimentary Basin. TransCanada's Alberta System delivers gas from production areas to provincial gas distribution utilities and to all provincial export points, including the interconnect at the Alberta-British Columbia border to TransCanada's B.C. System and Foothills South B.C. for delivery south into PG&E GTN's system at the British Columbia-Idaho border.

        Northwest Pipeline Corporation.    PG&E GTN's pipeline facilities interconnect with the facilities of Northwest Pipeline near Spokane and Palouse, Washington and near Stanfield and Klamath Falls, Oregon. Northwest Pipeline is an interstate natural gas pipeline which both delivers gas to and receives gas from PG&E GTN and competes with PG&E GTN for transportation of natural gas into the Pacific Northwest and California. Northwest Pipeline's gas transportation services are regulated by the FERC.

        Tuscarora Gas Transmission Company.    PG&E GTN's pipeline facilities interconnect with the facilities of Tuscarora near Malin, Oregon. Tuscarora is an interstate natural gas pipeline that transports natural gas from this interconnection to the Reno, Nevada area. Tuscarora's gas transportation services are regulated by the FERC.

        Pacific Gas and Electric Company.    PG&E GTN's pipeline interconnects with the Utility's gas transmission pipeline system at the Oregon-California border. The Utility's pipeline facilities deliver natural gas to customers in Northern and Central California and interconnect with other pipeline facilities at the California-Arizona border near Topock, Arizona. The Utility's gas transmission system is currently regulated by the CPUC. In April 2001, the Utility commenced a case under Chapter 11 of the U.S. Bankruptcy Code. As part of the Utility's proposed plan of reorganization, in November 2001, the Utility filed an application with the FERC requesting authorization to operate these facilities as a federally-regulated interstate pipeline system. In conjunction with that application, PG&E GTN filed an application with the FERC for authorization to abandon by sale to the Utility approximately 2.66 miles of 42-inch and 36-inch mainline pipe from the southernmost meter station in Oregon to the California border. The transaction implementing this abandonment closed into escrow on November 14, 2002, pending receipt of satisfactory authorizations from the FERC and the Bankruptcy Court.

        PG&E GTN's Expansion Projects.    PG&E GTN has completed its 2002 Expansion Project, expanding its system by approximately 217 million cubic feet (MMcf) per day. Approximately 40 MMcf per day of that expansion capacity was placed in service in November 2001 and the remaining capacity was placed in service in November 2002. The total cost of the expansion is approximately $127 million. One shipper, contractually

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committed to 175,000 decatherm (Dth) per day of capacity on this project, failed to provide PG&E GTN with adequate assurances of the shipper's ability to meet its obligations under its transportation contract. On October 25, 2002, PG&E GTN and that shipper terminated the transportation contract and PG&E GTN received $16.8 million from that shipper in settlement of the contract.

        In response to changing market conditions, PG&E GTN reached agreement with all shippers contractually committed on a second expansion (2003 Expansion Project) to terminate their firm transportation precedent agreements. Accordingly, on October 10, 2002, PG&E GTN filed with the FERC a request to vacate its 2003 Expansion Project proceeding and deferred the project. To date, PG&E GTN has spent $5.4 million on the project. PG&E GTN is continuing necessary development activities and expects to refile an application with FERC when market conditions improve.

        Related to the termination of the 2003 Expansion Project precedent agreements, all but one of the former 2003 Expansion shippers has committed to take capacity on PG&E GTN's system made available as a result of the 2002 shipper termination or capacity formerly held by Enron or other existing capacity on PG&E GTN's system. PG&E GTN anticipates that it will enter into additional contracts for capacity made available from these sources through open market sales. As of December 31, 2002, PG&E GTN had approximately 155,000 Dth per day of capacity available for subscription on a long-term basis.

        North Baja Pipeline.    North Baja Pipeline, LLC (NBP) owns an approximately 80-mile interstate natural gas pipeline with a capacity of 512 MDth of natural gas per day. The NBP system originates near Ehrenberg, in western Arizona, and traverses southern California to a point on the Baja California, Mexico-California border. The NBP system began limited commercial operation in September 2002 and includes a single compressor station at Ehrenberg, which has approximately 28,800 certificated horsepower and ancillary facilities which include metering and regulating facilities and a communication system. The NBP mainline system consists of approximately 12 miles of 36-inch diameter gas transmission line and 68 miles of 30-inch diameter pipe. This new pipeline will deliver natural gas to a pipeline being constructed by Sempra Energy International. The 135-mile Sempra pipeline will interconnect with PG&E NBP at the California-Mexico border and transport gas into Northern Mexico and Southern California.

North Baja System Interconnections with Other Pipelines

El Paso Natural Gas (EPNG) – NBP pipeline facilities interconnect with the facilities of EPNG near Ehrenberg, Arizona. EPNG is an interstate natural gas pipeline, with a pipeline network throughout west Texas, New Mexico and Arizona, that serves customers and other pipelines, including NBP, within those states. Through EPNG, NBP customers have access to gas primarily from the Permian and San Juan basins of Texas, New Mexico and Colorado. EPNG's transportation services are regulated by the FERC.

Gasoducto Bajanorte (GB) – NBP pipeline facilities interconnect with the facilities of GB at the Baja California, Mexico-California border near Ogilby, California. GB is the pipeline that receives gas from NPB for the purpose of delivering the gas to customers located in the northern portion of Baja California, Mexico. GB's transportation services are regulated by the Comision Reguladora de Energia, Mexico, a regulatory agency in Mexico with responsibilities similar to those of FERC as they relate to natural gas pipelines.

        Iroquois Pipeline.    PG&E NEG owns a 5.2% interest in the Iroquois Gas Transmission System, an interstate pipeline which extends 375 miles from the U.S.-Canadian border in northern New York through the State of Connecticut to Long Island, New York. This pipeline, which commenced operations in 1991, provides gas transportation service to local gas distribution companies, electric utilities and electric power generators, directly or indirectly through exchanges and interconnecting pipelines, throughout the Northeast. The Iroquois pipeline is owned by a partnership of six U.S. and Canadian energy companies, including affiliates of TransCanada Pipeline, Dominion Resources and Keyspan Energy. Iroquois has executed firm multi-year transportation services agreements totaling more than 1,000 MMcf per day. This pipeline also provides interruptible transportation services on an as available basis. On December 26, 2001, the FERC issued a certificate of public convenience and necessity authorizing Iroquois to expand its capacity by 220 MMcf per day of natural gas and extend the pipeline into the Bronx borough of New York City for a total investment of approximately $210 million. Iroquois also filed three additional applications with the FERC to expand its system capacity, and to extend the pipeline into Eastern Long Island.

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Natural Gas Transportation Services

        Under the FERC's current policies, transportation services are classified as either firm or interruptible, and PG&E NEG's fixed and variable costs are allocated between these types of service for ratemaking purposes. PG&E GTN provides firm and interruptible transportation services to third party shippers on a nondiscriminatory basis. Firm transportation services means that the customer has the highest priority rights to ship a quantity of gas between two points for the term of the applicable contract. Firm transportation service customers pay both a reservation charge and a delivery charge. The reservation charge is assessed for a firm shipper's right to transport a specified maximum daily quantity of gas over the term of the shipper's contract, and is payable regardless of the actual volume of gas transported by the shipper. The delivery charge is payable only with respect to the actual volume of gas transported by the shipper. Interruptible transportation service shippers pay only a delivery charge with respect to the actual volume of gas transported by the shipper.

        As of December 31, 2002, PG&E GTN had 93.1% of its available long-term capacity held among 48 shippers under long-term transportation contracts. The terms of these long-term firm contracts range between 1 and 40 years into the future, with a volume-weighted average remaining term of these agreements of approximately 11 years as of December 31, 2002. Approximately 95.9% of total transportation revenue was attributable to long-term contracts in 2002.

        PG&E GTN also offers short-term firm and interruptible transportation services plus hub services, which allow customers the ability to park or borrow volumes of gas on its pipeline. If weather, maintenance schedules and other conditions allow, additional firm capacity may become available on a short-term basis. PG&E GTN provides interruptible transportation service when capacity is available. Interruptible capacity is provided first to shippers offering to pay the maximum rate and, if necessary, allocated on a pro-rata basis to shippers offering to pay the maximum rate. If capacity remains after maximum tariff nominations are fulfilled, PG&E GTN allocates discounted interruptible space on a highest to lowest total revenue basis.

        In 2002, PG&E GTN provided transportation services to 70 customers. These services include capacity utilized via long-term firm, short-term firm, interruptible and hub services contracts. Short-term firm, interruptible and hub services accounted for approximately 4.1% of total transportation revenues in 2002. Approximately 92.8% of transported volumes were attributable to long-term contracts utilization in 2002. Short-term firm and interruptible volumes accounted for the remaining 4.8% and 2.4%, respectively.

        The total quantities of natural gas transported on the PG&E GTN pipeline for the years ended December 31, 1998 through 2002 are set forth in the following table:

Year	Quantities (MDth)
1998	1,003,266
1999	925,118
2000	966,653
2001	963,126
2002	915,772

        At December 31, 2002, 71.8% of North Baja's available long-term capacity was held under long-term firm transportation agreements. Contracts for the remaining long-term capacity on North Baja take effect in 2003, while long-term contracted capacities associated with some contracts increase between 2003 and 2006. At that time 100% of the available long-term capacity on North Baja will be dedicated to long-term contracts ranging between approximately 4 and 22 years into the future. As of December 31, 2002, the volume-weighted average remaining term of all long-term contracted capacities on North Baja was approximately 20 years.

        As of December 31, 2002, NBP was providing transportation services for four customers, all of which had long-term firm service transportation agreements. In 2002, all volumes transported on North Baja were associated with long-term transportation service. The total quantity of natural gas transported on the North Baja pipeline (service commenced on the North Baja pipeline on September 1, 2002) through December 31, 2002, was 11,416 MDth.

Ratemaking

        PG&E GTN's firm and interruptible transportation services have both maximum rates, which are based upon total costs (fixed and variable) and minimum rates, which are based upon the related variable costs. Rates for GTN were established in its 1994 rate case. Rates for North Baja were established in FERC's initial order certificating

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construction and operations of its system. The maximum and minimum rates for each service are set forth in tariffs on file with the commission. Both PG&E GTN and North Baja are allowed to vary or discount rates between the maximum and minimum on a non-discriminatory basis. Neither PG&E GTN nor North Baja have discounted long-term firm transportation service rates, but at times PG&E GTN discounts short-term firm and interruptible transportation service rates in order to maximize revenue. Both pipelines are also authorized to offer firm and interruptible service to shippers under individually negotiated rates. Such rates may be above the maximum rate or below the minimum rate, may vary from a straight-fixed-variable, or SFV, rate design methodology, and may be established with reference to a formula. Such negotiated rates may only be offered to the extent that, at the time the shipper enters into a negotiated rate agreement, that shipper had the option to receive the same service at the recourse rate, which is the maximum rate for that service under PG&E GTN's Tariff.

        Both PG&E GTN's and NBP's recourse rates for firm service are designed on an SFV methodology. Under the SFV rate design, a pipeline company's fixed costs, including return on equity and related taxes, associated with firm transportation service are collected through the reservation charge component of the pipeline company's firm transportation service rates. Both pipelines also offer FERC-mandated capacity release mechanisms, under which firm shippers may release capacity to other shippers on a temporary or permanent basis. In the case of a capacity release that is not permanent, a releasing shipper remains responsible to the pipeline for the reservation charges associated with the released capacity. With respect to permanent releases of capacity, the releasing shipper is no longer responsible for the reservation charges associated with the released capacity if the replacement shipper meets the creditworthiness provisions of the pipeline's tariff and agrees to pay the full reservation fee.

        Based on its 1994 rate case, PG&E GTN is permitted to recover approximately 97.0% of its fixed costs (as established in 1994) through reservation charges on long-term capacity. As of December 31, 2002, GTN had 93.1% of its available long-term capacity subscribed under long-term firm contracts.

        Based on its initial FERC certificate, NBP is permitted to recover 98.1% of its fixed costs through reservation charges on long-term capacity. As of December 31, 2002, North Baja had 71.8% of its available long-term capacity subscribed under long-term contracts. Since these contracts are for fixed negotiated rates, North Baja will only recover a portion of its fixed costs in the initial years.

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ENVIRONMENTAL MATTERS

Environmental Matters

        The following discussion includes certain forward-looking information relating to estimated expenditures for environmental protection measures and the possible future impact of environmental compliance. The information below reflects current estimates, which are periodically evaluated and revised. Future estimates and actual results may differ materially from those indicated below. These estimates are subject to a number of assumptions and uncertainties, including changing laws and regulations, the ultimate outcome of complex factual investigations, evolving technologies, selection of compliance alternatives, the nature and extent of required remediation, the extent of the facility owner's responsibility, and the availability of recoveries or contributions from third parties.

        PG&E Corporation, the Utility, and various PG&E NEG affiliates (including USGen New England, Inc., or USGenNE), are subject to a number of federal, state, and local laws and regulations relating to the protection of the environment and human health and safety. These laws and requirements relate to a broad range of activities, including:

•

the discharge of pollutants into air, water and soil,



•

the identification, generation, storage, handling, transportation, disposal, record keeping, labeling, reporting of, and emergency response in connection with, hazardous, and toxic and radioactive materials; and



•

land use, including endangered species and habitat protection.

        The penalties for violation of these laws and requirements can be severe, and may include significant fines, damages, and criminal or civil sanctions. They also may require, under certain circumstances, the interruption or curtailment of operations. To comply with all applicable laws and requirements, the Utility or PG&E NEG may need to spend substantial amounts from time to time to construct or acquire new equipment, acquire permits and/or marketable allowances or other emission credits for facility operations, modify or replace existing equipment and clean up or decommission waste disposal areas at their current or former facilities and at other third-party sites where they may have disposed of or recycled wastes. In the past the Utility generally has recovered the costs of complying with environmental laws and regulations in its rates. In 1994, the CPUC established a ratemaking mechanism for hazardous waste remediation costs under which the Utility is authorized to recover costs for environmental claims (e.g., for cleaning up facilities and sites to which the Utility has sent hazardous wastes) from ratepayers. That mechanism assigns 90% of the includable hazardous substance cleanup costs to Utility ratepayers and 10% to Utility shareholders without a review of the underlying costs. Expenditures to cover environmental costs in the future are likely to be significant; however, based on the Utility's past experience, PG&E Corporation and the Utility believe it will be able to recover most of these costs from ratepayers and its insurers. PG&E Corporation and the Utility cannot assure you, however, that these costs will not be material, or that the Utility will be able to recover its costs in the future.

Environmental Protection Measures

        The estimated expenditures of PG&E Corporation's subsidiaries for environmental protection are subject to periodic review and revision to reflect changing technology and evolving regulatory requirements. It is likely that the stringency of environmental regulations will increase in the future.

Air Quality

        The Utility's and PG&E NEG's generating plants are subject to numerous air pollution control laws, including the Federal Clean Air Act and similar state and local statutes. These laws and regulations cover, among other pollutants, those contributing to the formation of ground-level ozone, carbon monoxide, sulfur dioxide or SO2, nitrogen oxides or NOx, and particulate matter. Fossil fuel-fired electric utility plants are usually major sources of air pollutants and, therefore are subject to substantial regulation and enforcement oversight by the applicable governmental agencies.

        Various multi-pollutant initiatives have been introduced in the U.S. Senate and House of Representatives, including Senate Bill 556 and House Resolutions 1256 and 1335. These initiatives include limits on the emissions of NOx, SO2, mercury, and carbon dioxide (CO2). Certain of these proposals would allow the use of trading mechanisms to achieve or maintain compliance with the proposed rules.

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        A multi-state memorandum of understanding dealing with the control of NOx air emissions from major emission sources was signed by the Ozone Transport Commission states in the Mid-Atlantic and Northeastern states. The memorandum of understanding and underlying state laws establish a regional three-phase plan for reducing NOx emissions from electric generating units and large industrial boilers within the Ozone Transport Region.

        The NOx allowances available to each facility under the ozone season budget decreases as the program progresses and thus forces an overall reduction in NOx emissions. Under regulatory systems of this type, PG&E NEG may purchase NOx allowances from other sources in the area in addition to those that are allocated to PG&E NEG facilities, instead of installing NOx emission control systems. Depending on the market conditions, the purchase of extra allowances may minimize the total cost of compliance. During Phase 3, PG&E NEG will receive fewer allowances under a reduced NOx budget. PG&E NEG plans to meet the Phase 3 budget level for its Salem Harbor and Brayton Point generating facilities with a combination of allowance purchases and emission control technologies. PG&E NEG expects that the emission reductions to be required under regulations recently issued by the Commonwealth of Massachusetts, described below, significantly reduce its need for allowance purchases.

        As a result of the Utility's divestiture of most of its fossil-fuel fired power plants and its geothermal generation facilities, the Utility's NOx emission reduction compliance costs have been reduced significantly. Pursuant to the California Clean Air Act and the Federal Clean Air Act, two of the local air districts in which the Utility owns and operates fossil-fuel fired generating plants have adopted final rules that require a reduction in NOx emissions from the power plants of approximately 90% by 2004 (with numerous interim compliance deadlines).

        The Utility's Gas Accord authorized $42 million to be included in rates through 2002 for gas NOx retrofit projects related to natural gas compressor stations on the Utility's Line 300, which delivers gas from the Southwest. The Gas Accord II (the extension of Gas Accord through 2003) provides for recovery of these costs in rates through 2003, and the Gas Accord II 2004 application requests recovery in rates through 2004. Other air districts are considering NOx rules that would apply to the Utility's other natural gas compressor stations in California. Eventually the rules are likely to require NOx reductions of up to 80% at many of these natural gas compressor stations. Substantially all of these costs will be capital costs.

        In addition, certain current regulatory initiatives, particularly at the federal level, could increase the Utility's and PG&E NEG's compliance costs and capital expenditures to comply with laws such as laws relating to emissions of carbon dioxide and other greenhouse gases, particulates, and various other pollutants. If enacted, these programs could require the Utility and PG&E NEG to install additional pollution controls, purchase emission allowances, or curtail operations. Although associated costs could be material, the Utility expects that it would be able to recover these costs from ratepayers. The Utility will be required to incur substantial capital expenditures in the next several years for air pollution control equipment in connection with maintaining or obtaining permits and approvals addressing air emission related issues.

        The Federal Clean Air Act's acid rain provisions also require substantial reductions in SO2 emissions. Implementation of the acid rain provisions is achieved through a total cap on SO2 emissions from affected units and an allocation of marketable SO2 allowances to each affected unit. Operators of electric generating units that emit SO2 in excess of their allocations can buy additional allowances from other affected sources.

        The EPA also has been conducting a nationwide enforcement investigation regarding the historical compliance of coal-fueled electric generating stations with various permitting requirements of the Federal Clean Air Act. Specifically, the EPA and the U.S. Department of Justice recently have initiated enforcement actions against a number of electric utilities, several of which have entered into substantial settlements for alleged Federal Clean Air Act violations related to modifications (sometimes more than 20 years ago) of existing coal-fired generating facilities. In May 2000, USGenNE received an Information Request from the EPA pursuant to Section 114 of the Federal Clean Air Act. The Information Request asked USGenNE to provide certain information relative to the compliance of USGenNE's Brayton Point and Salem Harbor Generating Stations with the Federal Clean Air Act. No enforcement action has been brought by the EPA to date. USGenNE has had very preliminary discussions with the EPA to explore a potential settlement of this matter. It is not possible to predict whether any such settlement will occur or, in the absence of a settlement, the likelihood of whether the EPA will bring an enforcement action.

        In addition to the EPA, states may impose more stringent air emissions requirements. On May 11, 2001, the Massachusetts Department of Environmental Protection (DEP) issued regulations imposing new restrictions on emissions of Nox, SO2, mercury, and CO2 from existing coal- and oil-fired power plants. These restrictions will impose more stringent annual and monthly limits on NOx and SO2 emissions than currently exist and will take

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effect in stages, beginning in October 2004 if no permits are needed for the changes necessary to comply, and beginning in 2006 if such permits are needed. The regulations contemplate that affected parties will file compliance plans, based on which the DEP would decide whether these permits were required. In addition, mercury emissions are capped as a first step and must be reduced by October 2006 pursuant to standards to be developed. CO2 emissions are regulated for the first time and must be reduced from recent historical levels. USGenNE believes that compliance with the CO2 caps can be achieved through implementation of a number of strategies, including sequestrations and offsite reductions. Various testing and record keeping requirements also are imposed. The new Massachusetts regulations affect primarily USGenNE's Brayton Point and Salem Harbor generating facilities.

        USGenNE filed its plan to comply with the new regulations with the DEP at the end of 2001. The DEP has ruled that Brayton Point is required to meet the newer, more stringent emission limitations for SO2 and NOX by 2006. It has also ruled that Salem Harbor is required to meet these limitations by 2004. Although USGenNE intends to appeal DEP's ruling that Salem Harbor must comply with the new reglations by 2004, in the absence of a successful appeal of DEP's ruling, the compliance date for Salem Harbor remains 2004. USGenNE will not be able to operate Salem Harbor unless it is in compliance with these emission limitations. USGenNE believes that it is impossible to meet the 2004 deadline. Consequently, it may be unable to operate the facility beyond the 2004 deadline. Through 2006, and assuming that USGenNE prevails in its appeal of the 2004 deadline, it may be necessary to spend approximately $266 million to comply with these regulations. It is possible that actual expenditures may be higher. USGenNE has not made any commitments to spend these amounts. In the event that USGenNE does not spend required amounts to meet each facility's compliance deadline, USGenNE may not be able to operate the facilities.

        The EPA is required under the Federal Clean Air Act to establish new regulations for controlling hazardous air pollutants from combustion turbines and reciprocating internal combustion engines. Although the EPA has yet to propose the regulations, the Federal Clean Air Act required that they be promulgated by November 2000. Another provision in the Federal Clean Air Act requires companies to submit case-by-case Maximum Achievable Control Technology (MACT) determinations for individual plants if the EPA fails to finalize regulations within eighteen months past the deadline. On April 5, 2002, the EPA promulgated a regulation that extends this deadline for the case-by-case permits until May 2004. The EPA intends to finalize the MACT regulations before this date, thus eliminating the need for the plant-specific permits. It is not possible to accurately quantify the economic impact of the future regulations until more details are available through the rulemaking process.

        Global climate change is a significant environmental issue that is likely to require sustained global action and investment over many decades. PG&E Corporation has been engaged on the climate change issue for several years and is working with others on developing appropriate public policy responses to this challenge. PG&E Corporation continuously assesses the financial and operational implications of this issue; however, the outcome and timing of these initiatives are uncertain.

        There are six greenhouse gases. The Utility and PG&E NEG emit varying quantities of these greenhouse gases, including carbon dioxide and methane, in the course of their operations. Depending on the ultimate regulatory regime put into place for greenhouse gases, PG&E Corporation's operations, cash flows and financial condition could be adversely affected. Given the uncertainty of the regulatory regime, it is not possible to predict the extent to which climate change regulation will have a material adverse effect on the Utility's or PG&E NEG's financial condition or results of operations.

        PG&E NEG and the Utility are taking numerous steps to manage the potential risks associated with the eventual regulation of greenhouse gases, including but not limited to preparing inventories of greenhouse gas emissions, voluntarily reporting on these emissions through a variety of state and federal programs, engaging in demand side management programs that prevent greenhouse gas emissions, and supporting market-based solutions to the climate change challenge.

Water Quality

        The Federal Clean Water Act generally prohibits the discharge of any pollutants, including heat, into any body of surface water, except in compliance with a discharge permit issued by a state environmental regulatory agency and/or the EPA. All of PG&E NEG's facilities that are required to have such permits either have them or have timely applied for extensions of expired permits and are operating in substantial compliance with the prior permit. At this time, three of the fossil-fuel plants owned and operated by USGenNE (Manchester Street, Brayton Point, and Salem Harbor stations) are operating pursuant to permits that have expired. For the facilities whose water

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discharge permits (National Pollutant Discharge Elimination System (NPDES)) have expired, permit renewal applications are pending, and USGenNE anticipates that all three facilities will be able to continue to operate in substantial compliance with prior permits until new permits are issued. It is possible that the new permits may contain more stringent limitations than the prior permits.

        At Brayton Point, unlike the Manchester Street and Salem Harbor generating facilities, PG&E NEG has agreed to meet certain restrictions that were not in the expired NPDES permit. In October 1996, the EPA announced its intention to seek changes in Brayton Point's NPDES permit based on a report prepared by the Rhode Island Department of Environmental Management, which alleged a connection between declining fish populations in Mt. Hope Bay and thermal discharges from the Brayton Point once-through cooling system. In April 1997, the former owner of Brayton Point entered into a Memorandum of Agreement, or MOA, with various governmental entities regarding the operation of the Brayton Point station cooling water systems pending issuance of a renewed NPDES permit. This MOA, which is binding on PG&E NEG, limits on a seasonal basis the total quantity of heated water that may be discharged to Mt. Hope Bay by the plant. While the MOA is expected to remain in effect until a new NPDES permit is issued, it does not in any way preclude the imposition of more stringent discharge limitations for thermal and other pollutants in a new NPDES permit and it is possible that such limitations will in fact be imposed. On July 22, 2002 the EPA and the DEP issued a draft NPDES permit for Brayton Point that, among other things, substantially limits the discharge of heat by Brayton Point into Mount Hope Bay. USGenNE believes that the permit is excessively stringent and estimates that the cost to comply with it could be as much as $248 million through 2006. This is a preliminary estimate. There are various administrative and judicial proceedings that must be completed before the draft NPDES permit becomes final and these proceedings are not expected to be completed during 2003. In addition, the EPA, as well as local environmental groups, have previously expressed concern that the metal vanadium is not addressed at Brayton Point or Salem Harbor under the terms of the old NPDES permits and it may raise this issue in upcoming NPDES permit negotiations. Based upon the lack of an identified control technology, PG&E NEG believes it is unlikely that the EPA will require that vanadium be addressed pursuant to a NPDES permit. However, if the EPA does insist on including vanadium in the NPDES permit, PG&E NEG may have to spend a significant amount to comply with such a provision. If these more stringent discharge limitations are imposed, compliance with them could have a material adverse effect on PG&E NEG's financial condition, cash flows, and results of operations.

        The Utility's existing power plants, including Diablo Canyon, also are subject to federal and state water quality standards with respect to discharge constituents and thermal effluents. The Utility's fossil-fuel fired power plants comply in all material respects with the discharge constituents standards and the thermal standards. Additionally, pursuant to Section 316(b) of the Federal Clean Water Act, the Utility is required to demonstrate that the location, design, construction, and capacity of power plant cooling water intake structures reflect the best technology available, or BTA, for minimizing adverse environmental impacts at its existing water-cooled thermal plants. The Utility has submitted detailed studies of each power plant's intake structure to various governmental agencies and each plant's existing intake structure was found to meet the BTA requirements.

        The Diablo Canyon Power Plant employs a "once through" cooling water system that is regulated under a NPDES permit issued by the Central Coast Regional Water Quality Control Board, or the Central Coast Board. This permit allows Diablo Canyon to discharge the cooling water at a temperature no more than 22 degrees above ambient receiving water, and requires that the beneficial uses of the water be protected. The beneficial uses of water in this region include industrial water supply, recreation, commercial/sport fishing, marine and wildlife habitat, shellfish harvesting, and preservation of rare and endangered species. In January 2000, the Central Coast Board issued a proposed draft cease and desist order alleging that, although the temperature limit has never been exceeded, Diablo Canyon's discharge was not protective of beneficial uses. In October 2000, the Central Coast Board and the Utility reached a tentative settlement of this matter pursuant to which the Central Coast Board has agreed to find that the Utility's discharge of cooling water from the Diablo Canyon plant protects beneficial uses and that the intake technology meets the BTA requirements. As part of the settlement, the Utility will take measures to preserve certain acreage north of the plant and will fund approximately $6 million in environmental projects related to coastal resources. The parties are negotiating the documentation of the settlement. The final agreement will be subject to public comment prior to final approval by the Central Coast Board and, once signed by the parties, will be incorporated in a consent decree to be entered in California Superior Court. A claim has been filed by the California Attorney General in the Utility's bankruptcy proceeding on behalf of the Central Coast Board seeking unspecified penalties and other relief in connection with Diablo Canyon's operation of its cooling water system.

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        In December 1999, the Utility was notified by the purchaser of the Utility's former Moss Landing power plant that it had identified a cleaning procedure used at the plant that released heated water from the intake, and that this procedure is not specified in the plant's NPDES permit issued by the Central Coast Regional Water Quality Control Board, or Central Coast Board. The purchaser notified the Central Coast Board of its findings. In March 2002, the Utility and the Central Coast Board reached a tentative settlement of this matter under which the Utility will fund approximately $5 million in environmental projects related to coastal resources. The final agreement will be subject to public comment and will be incorporated in a consent decree to be entered in the California Superior Court. The California Attorney General has filed a claim in the Utility's bankruptcy case to preserve the Board's claim.

        Additionally, on April 9, 2002, the EPA proposed regulations under Section 316(b) of the Clean Water Act for cooling water intake structures. The regulations would affect existing power generation facilities using over 50 million gallons per day (mgd), typically including some form of "once-through" cooling. The Utility's Diablo Canyon, Hunters Point, and Humboldt Bay power plants and PG&E NEG's Brayton Point, Salem Harbor, and Manchester Street generating facilities are among an estimated 539 plants nationwide that would be affected by this rulemaking. The proposed regulations call for a set of performance standards that vary with the type of water body and that are intended to reduce impacts to aquatic organisms. Significant capital investment may be required to achieve the standards if the regulations are adopted as proposed. The final regulations are scheduled to be issued in February 2004.

        PG&E Corporation and the Utility believe the ultimate outcome of these matters will not have a material impact on their consolidated financial position or results of operations.

        The issuance or modification of statutes, regulations, or water quality control plans at the federal, state, or regional level may impose increasingly stringent cooling water discharge requirements on the Utility's and PG&E NEG's power plants in the future. Costs to comply with new permit conditions required to meet more stringent requirements that might be imposed cannot be estimated at the present time.

Endangered Species

        Many of the Utility's facilities and operations are located in or pass through areas that are designated as critical habitats for federal or state-listed endangered, threatened, or sensitive species. The Utility may be required to incur additional costs or be subjected to additional restrictions on operations if additional threatened or endangered species are listed or additional critical habitats are designated near the Utility's facilities or operations.

Hazardous Waste Compliance and Remediation

        The Utility's and PG&E NEG's facilities are subject to the requirements issued by the EPA under the Resource Conservation and Recovery Act, or RCRA, and the Comprehensive Environmental Response, Compensation and Liability Act or CERCLA, along with other state hazardous waste laws and other environmental requirements. CERCLA and similar state laws impose liability, without regard to fault or the legality of the original conduct, on certain classes of persons that contributed to the release of a hazardous substance into the environment. These persons include the owner or operator of the site where the release occurred and companies that disposed or arranged for the disposal of the hazardous substances found at the site. Under CERCLA, these persons may be subject to joint and several liability for the costs of cleaning up the hazardous substances that have been released into the environment, damages to natural resources, and the costs of required health studies. In the ordinary course of the Utility's operations, the Utility has generated, and continues to generate, waste that falls within CERCLA's definition of a hazardous substance and, as a result, has been and may be jointly and severally liable under CERCLA for all or part of the costs required to clean up sites at which these hazardous substances have been released into the environment.

        The Utility and PG&E NEG assess, on an ongoing basis, measures that may need to be taken to comply with federal, state and local laws and regulations related to hazardous materials and hazardous waste compliance and remediation activities. The Utility and PG&E NEG have a comprehensive program to comply with hazardous waste storage, handling, and disposal requirements issued by the EPA under RCRA and CERCLA, along with other state hazardous waste laws and other environmental requirements.

        The Utility has been, and may be, required to pay for environmental remediation at sites where the Utility has been, or may be, a potentially responsible party under CERCLA and similar state environmental laws. These sites include former manufactured gas plant sites, power plant sites, gas gathering sites, compressor stations and sites

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where the Utility stores and disposes of potentially hazardous materials. The Utility may be responsible for remediation of hazardous substances even if the Utility did not deposit those substances on the site.

        Operations at the Utility's current and former power plants may have resulted in contaminated soil or groundwater. Although the Utility has sold most of its fossil fuel-fired and geothermal power plants in connection with electric industry restructuring, in many cases the Utility retained pre-closing environmental liability with respect to these plants under various environmental laws. The Utility currently is investigating or remediating several such sites with the oversight of various governmental agencies. In addition, the federal Toxic Substances Control Act regulates the use, disposal, and cleanup of polychlorinated biphenyls, or PCBs, which are used in certain electrical equipment. During the 1980s, the Utility initiated two major programs to remove from service all of the distribution capacitors and network transformers containing high concentrations of PCBs. These programs removed the vast majority of PCBs existing in the Utility's electric distribution system.

        One part of the Utility's program is aimed at assessing whether and to what extent remedial action may be necessary to mitigate potential hazards posed by certain disposal sites and retired manufactured gas plant sites. During their operation in the late 1800s and early 1900s, manufactured gas plants produced lampblack and tar residues. The lampblack and tar residues are byproducts of a process that the Utility, its predecessor companies, and other utilities used as early as the 1850s to manufacture gas from coal and oil. As natural gas became widely available (beginning about 1930), the Utility's manufactured gas plants were removed from service. The residues that may remain at some sites contain chemical compounds that now are classified as hazardous. The Utility owns all or a portion of 28 manufactured gas plant sites. The Utility has a program, in cooperation with environmental agencies, to evaluate and take appropriate action to mitigate any potential health or environmental hazards at sites that are owned by the Utility. The Utility spent approximately $4 million in 2002 and expects to spend approximately $11 million in 2003 on such projects. The Utility expects that expenses will increase as remedial actions related to these sites are approved by regulatory agencies. In addition, approximately 68 other manufactured gas plants in the Utility's service territory are now owned by numerous third parties, and it is possible that the Utility may incur cleanup costs related to these sites in the future.

        Under environmental laws such as CERCLA, the Utility has been or may be required to take remedial action at third-party sites used for the disposal of wastes from the Utility's facilities, or to pay for associated cleanup costs or natural resource damages. The Utility is currently aware of 8 such sites where investigation or cleanup activities are currently underway. For example, at the Geothermal Incorporated site in Lake County, California, the Utility has been directed to perform site studies and any necessary remedial measures by regulatory agencies. At the Casmalia disposal facility near Santa Maria, California, the Utility and several other generators of waste sent to the site have entered into a court-approved agreement with the EPA that requires the Utility and the other parties to perform certain site investigation and mitigation measures.

        In addition, the Utility has been named as a defendant in several civil lawsuits in which plaintiffs allege that the Utility is responsible for performing or paying for remedial action at sites that the Utility no longer owns or never owned.

        The cost of hazardous substance remediation ultimately undertaken by the Utility is difficult to estimate. It is reasonably possible that a change in the estimate may occur in the near term due to uncertainty concerning the Utility's responsibility, the complexity of environmental laws and regulations, and the selection of compliance alternatives. The Utility records an environmental remediation liability when site assessments indicate remediation is probable and the Utility can estimate a range of reasonably likely cleanup costs. The Utility reviews its remediation liability quarterly for each identified site. The liability is an estimate of costs for site investigations, remediation, operations and maintenance, monitoring, and site closure using current technology, enacted laws and regulations, experience gained at similar sites, and the probable level of involvement and financial condition of other potentially responsible parties. Unless there is a better estimate within this range of possible costs, the Utility records the costs at the lower end of this range. At December 31, 2002, the Utility expected to spend $331 million, undiscounted for the effect of future inflation, for hazardous waste remediation costs at identified sites, including divested fossil-fuel fired power plants, where such costs are probable and quantifiable. (Although the Utility has sold most of its fossil-fuel fired power plants, the Utility has retained pre-closing environmental liability with respect to these plants.) If other potentially responsible parties are not financially able to contribute to these costs or further investigation indicates that the extent of contamination or necessary remediation is greater than anticipated, the Utility's future cost could be as much as $469 million. The Utility estimated the upper limit of the range of costs using assumptions least favorable to the Utility based upon a range of reasonably possible

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outcomes. Costs may be higher if the Utility is found to be responsible for cleanup costs at additional sites or identifiable possible outcomes change.

        On June 26, 2001, the Bankruptcy Court authorized the Utility to spend

•

up to $22 million in each calendar year in which the Chapter 11 case is pending to continue its hazardous substance remediation programs and procedures, and



•

any additional amounts necessary in emergency situations involving post-petition releases or threatened releases of hazardous substances, if such excess expenditures are necessary in the Utility's reasonable business judgment to prevent imminent harm to public health and safety or the environment (provided that the Utility seeks the Bankruptcy Court's approval of such emergency expenditures at the earliest practicable time).

        The California Attorney General, on behalf of various state environmental agencies, filed claims in the Utility's bankruptcy case for environmental remediation at numerous sites totaling approximately $770 million. For most if not all these sites, the Utility is in the process of remediating the sites in cooperation with the relevant agencies and others responsible for contributing to the cleanup or would be doing so in the future, in the normal course of business. The Utility's proposed plan of reorganization provides that either the Utility or the LLCs will satisfy these types of claims in the regular course of businesses, and since the Utility has not argued that the bankruptcy proceeding relieves the Utility of its obligations to respond to valid environmental remediation orders, the Utility believes the claims seeking specific cash recoveries are invalid.

        USGenNE assumed the onsite environmental liability associated with its acquisition of electric generating facilities from New England Electric System in 1998, but did not acquire any off-site liability associated with the past disposal practices at the acquired facilities. PG&E NEG has obtained pollution liability and environmental remediation insurance coverage to limit, to a certain extent, the financial risk associated with the on-site pollution liability at all of its facilities. Recently, the EPA indicated that it might begin to regulate fossil fuel combustion materials, including types of coal ash, as hazardous waste under RCRA. If the EPA implements its initial proposals on this issue, USGenNE may be required to change its current waste management practices and expend significant resources on the increased waste management requirements caused by the EPA's change in policy.

        During April 2000, an environmental group served various affiliates of PG&E NEG, including USGenNE, with a notice of intent to file a citizen's suit under RCRA. In September 2000, PG&E NEG signed a series of agreements with the Massachusetts Department of Environmental Protection and the environmental group to resolve these matters that require USGenNE to alter its existing wastewater treatment facilities at its Brayton Point and Salem Harbor generating facilities. USGenNE began the activities during 2000 and expects to complete them in 2003. USGenNE has incurred expenditures related to these agreements of approximately $4.7 million in 2002, $2.6 million in 2001 and $5.4 million in 2000. In addition to the costs incurred in 2000, 2001 and 2002, at December 31, 2002, USGenNE maintains a reserve in the amount of $6 million relating to its estimate of the remaining environmental expenditures to fulfill its obligations under these agreements.

Potential Recovery of Hazardous Waste Compliance and Remediation Costs

        To the extent the Utility knows or can estimate the costs of hazardous waste compliance and remediation costs, the Utility intends to seek recovery for these costs in its filed rates through the normal ratemaking proceedings before the CPUC.

        In 1994, the CPUC established a ratemaking mechanism for hazardous waste remediation costs, or HWRC. That mechanism assigns 90% of the includable hazardous substance cleanup costs to utility ratepayers and 10% to utility shareholders, without a reasonableness review of such costs or of underlying activities. Under the HWRC mechanism, 70% of the ratepayer portion of the Utility's cleanup costs is attributed to its gas department and 30% is attributed to its electric department. Insurance recoveries are assigned 70% to shareholders and 30% to ratepayers until both are reimbursed for the costs of pursuing insurance recoveries. The balance of insurance recoveries is allocated 90% to shareholders and 10% to ratepayers until shareholders are reimbursed for their 10% share of cleanup costs. Any unallocated funds remaining are held for five years and then distributed 60% to ratepayers and 40% to shareholders over the next five years. The Utility can seek to recover hazardous substance cleanup costs under the HWRC in the rate proceeding that it deems most appropriate. In connection with electric industry restructuring, the HWRC mechanism may no longer be used to recover electric generation-related cleanup costs for contamination caused by events occurring after January 1, 1998.

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        For each divested generation facility for which the Utility retained environmental remediation liabilities, the plant's decommissioning cost estimate was adjusted by the Utility's estimated forecast of environmental remediation costs. (The buyers assumed the non-environmental decommissioning liability for these plants.) The CPUC ordered that excess recoveries of environmental and non-environmental decommissioning accruals related to the divested plants be used to offset other transition costs. As of December 31, 2002, the Utility had recovered from ratepayers approximately $138 million for environmental decommissioning accrual related to the divested plants. This amount will earn interest at 3% per year that will be used to meet the future environmental remediation costs for the divested plants. The net decommissioning accruals recovered from ratepayers attributable to the non-environmental liability for the divested plants was approximately $50 million. Because the Utility no longer has this non-environmental decommissioning liability, it has used this excess recovery amount to reduce other transition costs.

        The $331 million accrued environmental remediation liability at December 31, 2002, mentioned above, includes

•

$138 million related to the pre-closing remediation liability, discounted to present value at 7%, associated with divested generation facilities (see further discussion in the "Generation Divestiture" section of Note 2 of the Notes to the Consolidated Financial Statements of the 2002 Annual Report to Shareholders), and



•

$193 million related to remediation costs for those generation facilities, manufactured gas plant sites, gas gathering sites, and compressor stations that the Utility still owns.

        Of the $331 million environmental remediation liability, the Utility has recovered $188 million through rates, and expects to recover another $84 million in future rates. The Utility is seeking recovery of the remainder of its costs from insurance carriers and from other third parties as appropriate.

        The ultimate amount of recovery from insurance coverage, either in the aggregate or with respect to a particular site, cannot be quantified at this time. Insurance recoveries are subject to the HWRC mechanism discussed above.

Nuclear Fuel Disposal.

        Under the Nuclear Waste Policy Act of 1982, or Nuclear Waste Act, the U.S. Department of Energy, or the DOE, is responsible for the transportation and ultimate long-term disposal of spent nuclear fuel and high-level radioactive waste. Under the Nuclear Waste Act, utilities are required to provide interim storage facilities until permanent storage facilities are provided by the federal government. The Nuclear Waste Act mandates that one or more such permanent disposal sites be in operation by 1998. Consistent with the law, the Utility signed a contract with the DOE providing for the disposal of the spent nuclear fuel and high-level radioactive waste from the Utility's nuclear power facilities beginning not later than January 1998. However, due to delays in identifying a storage site, the DOE has been unable to meet its contract commitment to begin accepting spent fuel by January 1998. Further, under the DOE's current estimated acceptance schedule for spent fuel, Diablo Canyon's spent fuel may not be accepted by the DOE for interim or permanent storage before 2010, at the earliest. At the projected level of operation for Diablo Canyon, the Utility's facilities are sufficient to store on-site all spent fuel produced through approximately 2007 while maintaining the capability for a full-core off-load. It is likely that an interim or permanent DOE storage facility will not be available for Diablo Canyon's spent fuel by 2007. In December 2001, the Utility filed a request with the NRC for a license to build a dry cask storage system to store spent fuel at Diablo Canyon, pending disposal or storage at a DOE facility. A hearing in this proceeding is scheduled for May 2003.

        In February 2002, the DOE formally recommended, and President Bush approved, Yucca Mountain, Nevada as the site for a permanent spent fuel repository. The State of Nevada vetoed this site but the U.S. Congress overrode this veto with a House of Representatives vote in May 2002 and a Senate vote in July 2002, and the bill was subsequently signed by President Bush. As a result, the State of Nevada has filed a number of suits in various federal courts to stop the NRC's licensing of the site. If Yucca Mountain is ultimately determined to be acceptable as the repository site, the DOE will proceed with the licensing and eventual construction of the repository and may begin receipt of spent fuel as early as 2010. However, considerable uncertainty exists regarding the time frame under which the DOE will begin to accept spent fuel for storage or disposal. If Yucca Mountain is completed by 2010, the earliest Diablo Canyon's spent fuel would be accepted by Yucca Mountain for storage or disposal would be 2018.

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        In July 1988, the NRC gave final approval to the Utility to store radioactive waste from the retired nuclear generating unit Humboldt Unit 3 at the plant until 2015 before ultimately decommissioning the unit. The Utility has agreed to remove all spent fuel when the federal disposal site is available. In 1988, the Utility completed the first step in the decommissioning of Humboldt Bay Unit 3 and placed the unit into a custodial mode of decommissioning called SAFSTOR. This is a condition of monitored safe storage in which the unit will be maintained until the spent nuclear fuel is removed from the spent fuel pool and the facility is dismantled. The used fuel assemblies currently are stored in metal racks submerged in a pool of water, i.e., a wet storage pool. The specially designed storage pool is constructed of steel-reinforced concrete and lined with stainless steel. The Utility currently is exploring licensing and permitting of an on-site dry cask storage facility. Transfer of spent fuel to a dry cask facility would allow early decommissioning of Humboldt Bay Unit 3. The Utility anticipates that if it were licensed to employ an on-site dry cask storage facility, it would receive a 20-year initial license with the opportunity to receive a 20-year renewal term.

Nuclear Decommissioning

        The Utility's nuclear power facilities are scheduled to begin, for ratemaking purposes, decommissioning in 2015 and scheduled for completion in 2041. Nuclear decommissioning means (1) the safe removal of nuclear facilities from service, and (2) the reduction of residual radioactivity to a level that permits termination of the Nuclear Regulatory Commission license and release of the property for unrestricted use.

        The estimated total obligation for nuclear decommissioning costs, based on a February 2002 site study, is $1.9 billion in 2002 dollars (or $8.4 billion in future dollars). The Utility's future estimate is based upon its 2001 estimated obligation assuming an annual escalation rate of 5.5% for decommissioning costs. This estimate includes labor, materials, waste disposal charges, and other costs. A contingency of 40% to capture engineering, regulatory, and business environment changes is included in the total estimated obligation. The Utility plans to fund these costs from independent decommissioning trusts, which receive annual contributions discussed further below. The Utility estimates after-tax annual earnings, including realized gains and losses, on the tax-qualified decommissioning funds of 6.34% and non-tax-qualified decommissioning funds of 5.39%. The decommissioning cost estimates are based on the plant location and cost characteristics for the Utility's nuclear plants. Actual decommissioning costs are expected to vary from this estimate because of changes in assumed dates of decommissioning, regulatory requirements, technology, costs of labor, materials, and equipment. The estimated total obligation is being recognized proportionately over the license term of each facility. At December 31, 2002, the total nuclear decommissioning obligation accrued was $1.3 billion.

        Since January 1, 1998, nuclear decommissioning costs, which are not transition costs, have been recovered from customers through a non-bypassable charge that will continue until those costs are fully recovered. Recovery of decommissioning costs may be accelerated to the extent possible under the rate freeze. For the year ended December 31, 2002, annual nuclear decommissioning trust contributions collected in rates were $24 million and this amount was contributed to the trusts.

        The CPUC has established a Nuclear Decommissioning Costs Triennial Proceeding to determine the decommissioning costs and to establish the annual revenue requirement and attrition factors over subsequent three-year periods. On March 15, 2002, the Utility filed its 2002 Nuclear Decommissioning Cost Triennial Proceeding application seeking to increase its nuclear decommissioning revenue requirements for the years 2003 through 2005 and to begin decommissioning of Humboldt Bay Unit 3 in 2006, instead of 2015. The Utility estimates a total decommissioning cost of approximately $299 million, stated in 2002 dollars, for Humboldt Bay Unit 3 presuming that the CPUC approves this earlier decommissioning schedule. The Utility seeks recovery of $24 million in revenue requirements relating to the Diablo Canyon Nuclear Decommissioning Trusts and $17.5 million in revenue requirements relating to the Humboldt Bay Power Plant Decommissioning Trusts. The Utility also seeks recovery of $7.3 million in CPUC-jurisdictional revenue requirements for Humboldt Bay Unit 3 SAFSTOR operating and maintenance costs, and escalation associated with that amount in 2004 and 2005. The Utility proposes continuing to collect the revenue requirement through a non-bypassable charge in electric rates, and to record the revenue requirement and the associated revenues in a balancing account. The CPUC held hearings on the application in September 2002 and is scheduled to issue a final decision in April 2003.

        Decommissioning costs recovered in rates are placed in external trust funds. These funds, along with accumulated earnings, will be used exclusively for decommissioning and dismantling nuclear facilities. The trusts maintain substantially all of their investments in debt and equity securities. All earnings on the funds held in the trusts, net of authorized disbursements from the trusts and management and administrative fees, are reinvested. Monies may not be released from the external trusts until authorized by the CPUC. At December 31, 2002, the Utility had accumulated external trust funds with an estimated liquidation value of $1.3 billion, based on quoted market prices and net of deferred taxes on unrealized gains, to be used for the decommissioning of the Utility's nuclear facilities.

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Compressor Station Litigation

        Several lawsuits have been filed against Pacific Gas and Electric Company seeking damages from alleged chromium contamination at the Utility's Hinkley, Topock, and Kettleman Compressor Stations. See Item 3 "Legal Proceedings—Compressor Station Chromium Litigation" below for a description of the pending litigation.

Electric and Magnetic Fields

        Electric and magnetic fields, or EMFs, naturally result from the generation, transmission, distribution and use of electricity. In January 1991, the CPUC opened an investigation into potential interim policy actions to address increasing public concern, especially with respect to schools, regarding potential health risks that may be associated with EMFs from utility facilities. In its order instituting the investigation, the CPUC acknowledged that the scientific community has not reached consensus on the nature of any health impacts from contact with EMFs, but went on to state that a body of evidence has been compiled that raises the question of whether adverse health impacts might exist.

        In November 1993, the CPUC adopted an interim EMF policy for California energy utilities that, among other things, requires California energy utilities to take no-cost and low-cost steps to reduce EMFs from new and upgraded utility facilities. California energy utilities were required to fund an EMF education program and an EMF research program managed by the California Department of Health Services. As part of its effort to educate the public about EMFs, the Utility provides interested customers with information regarding the EMF exposure issue. The Utility also provides a free field measurement service to inform customers about EMF levels at different locations in and around their residences or commercial buildings.

        In October 2002, the California Department of Health Services released its report, based primarily on its review of studies by others, evaluating the possible risks from electric and magnetic fields to the CPUC and the public. The report's conclusions contrast with other recent reports by authoritative health agencies in that the California Department of Health Services' report has assigned a higher probability to the possibility that there is a causal connection between EMF exposures and a number of diseases and conditions, including childhood leukemia, adult leukemia, amyotrophic lateral sclerosis, and miscarriages.

        It is not yet clear what actions the CPUC will take to respond to this report. Possible outcomes include, but are not limited to, continuation of current policies and imposition of more stringent measures to mitigate EMF exposures. The Utility cannot estimate the costs of such mitigation measures with any certainty at this time. However, such costs could be significant, depending on the particular mitigation measures undertaken, especially if relocation of existing power lines ultimately is required.

        The Utility currently is not involved in third-party litigation concerning EMFs. In August 1996, the California Supreme Court held that homeowners are barred from suing utilities for alleged property value losses caused by fear of EMF from power lines. The Court expressly limited its holding to property value issues, leaving open the question as to whether lawsuits for alleged personal injury resulting from exposure to EMFs are similarly barred. The Utility was a defendant in civil litigation in which plaintiffs alleged personal injuries resulting from exposure to EMFs. In January 1998, the appeals court in this matter held that the CPUC has exclusive jurisdiction over personal injury and wrongful death claims arising from allegations of harmful exposure to EMFs and barred plaintiffs' personal injury claims. Plaintiffs filed an appeal of this decision with the California Supreme Court. The California Supreme Court declined to hear the case.

Low Emission Vehicle Programs

        In December 1995, the CPUC issued its decision in the Low Emission Vehicle (LEV) proceeding, which approved approximately $42 million in funding for the Utility's LEV program for the six-year period beginning in 1996. The LEV program expired on December 20, 2001. On January 23, 2002, the CPUC approved bridge funding of $7 million for the LEV program. On March 25, 2002, the Utility requested the CPUC approve funding for the continuation of its LEV program. The other California utilities filed similar requests. In June 2002, the CPUC determined that issues related to research, development and demonstration, and customer education would be heard in the LEV proceeding, but that issues related to fleet vehicle acquisition, fueling and charging infrastructure, and operation and maintenance of Utility infrastructure would be addressed in the Utility's 2003 general rate case. Hearings in the LEV proceeding were held in August 2002. The 2003 general rate case was filed in November 2002. The Utility has requested funding of $5 million in the LEV proceeding and approximately $7.4 million for LEV-related costs in the 2003 general rate case. On December 19, 2002, LEV interim funding of

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$7 million was extended pending the CPUC's final decisions in both the LEV proceedings and the general rate case. A final decision in the LEV proceeding is expected by the end of March 2003.

ITEM 2. Properties.

        Information concerning Pacific Gas and Electric Company's electric generation units, electric and gas transmission facilities, and electric and gas distribution facilities is included in response to Item 1 "Business." All of the Utility's real properties and substantially all of the Utility's personal properties are subject to the lien of an indenture that provides security to the holders of the Utility's First and Refunding Mortgage Bonds.

        The Utility's corporate headquarters consist of approximately 1.7 million square feet of owned office space located in several buildings in San Francisco, California. In addition to owned office space, the Utility leases approximately 628,000 square feet of office space from third parties in San Francisco. In addition to this corporate office space, the Utility owns or has obtained the right to occupy and/or use real property comprising its electric and natural gas distribution facilities, natural gas gathering facilities, and generation facilities, all which are described above under "Electric Utility Operations" and "Gas Utility Operations." The Utility occupies or uses real property that it does not own chiefly through various leases, easements, rights-of-way, permits, or licenses from private landowners or governmental authorities. The Utility also owns or leases approximately 184 other facilities, including service centers, customer service offices, material distribution centers, training/conference centers, and office space, totaling 5.9 million square feet in the aggregate.

        Information concerning properties and facilities owned by PG&E NEG and other PG&E Corporation subsidiaries is included in the discussion under the heading of this report entitled "PG&E National Energy Group, Inc."

ITEM 3. Legal Proceedings.

        See Item 1 "Business" for other proceedings pending before governmental and administrative bodies. In addition to the following legal proceedings, PG&E Corporation and Pacific Gas and Electric Company are subject to routine litigation incidental to their business.

Pacific Gas and Electric Company Bankruptcy

        On April 6, 2001, Pacific Gas and Electric Company filed a voluntary petition for relief under the provisions of Chapter 11 of the U.S. Bankruptcy Code, or Bankruptcy Code, in the U.S. Bankruptcy Court for the Northern District of California, or Bankruptcy Court. Pursuant to Chapter 11 of the U.S. Bankruptcy Code, the Utility retains control of its assets and is authorized to operate its business as a debtor-in-possession while being subject to the jurisdiction of the Bankruptcy Court. For more information about the Utility's financial condition and the factors leading up to the filing for bankruptcy protection, see "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 2 of the 2002 Annual Report to Shareholders, which portions are incorporated herein by reference and filed as Exhibit 13 to this report.

        Bankruptcy law imposes an automatic stay to prevent parties from making certain claims or taking certain actions that would interfere with the estate or property of a Chapter 11 debtor. In general, the Utility may not pay pre-petition debts without the Bankruptcy Court's permission. Under the Bankruptcy Code, the Utility has the right to reject or assume executory contracts (contracts that require material future performance). Since the filing, the Bankruptcy Court has approved various requests by the Utility to permit the Utility to carry on its normal business operations (including payment of employee wages and benefits, refunds of certain customer deposits, use of certain bank accounts and cash collateral, the assumption of various hydroelectric contracts with water agencies and irrigation districts, and the continuation of environmental remediation and capital expenditure programs) and to fulfill certain post-petition obligations to suppliers and creditors.

        On April 9, 2001, the Utility filed a complaint in the Bankruptcy Court against the CPUC and its Commissioners requesting that the court declare that any attempt by the CPUC to implement or enforce the regulatory accounting changes approved by the CPUC on March 27, 2001 would violate the automatic stay imposed by bankruptcy law, and asking the Court to enjoin implementation or enforcement of such accounting changes. On June 1, 2001, the Bankruptcy Court issued a decision denying the Utility's request for an injunction and granted the CPUC's motion to dismiss the complaint. Although the Court held that the Eleventh Amendment to the U.S. Constitution did not bar the Utility's suit against the individual Commissioners, the Court concluded that the Utility was not entitled to a stay or an injunction to prevent implementation and enforcement of the regulatory

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accounting order. First, the Court held that, assuming the Bankruptcy Code provision imposing an automatic stay on pre-petition proceedings might ordinarily apply (an issue that the Court expressly declined to decide), the Court determined that the Commissioners were acting pursuant to their police and regulatory power when issuing the order. Accordingly, the Court found that the CPUC's March 27, 2001 order was exempt from the automatic stay provision pursuant to a statutory exemption for the commencement or continuation of an action or proceeding by a governmental unit to enforce such governmental unit's police and regulatory power. Second, the Court held that the Utility had not shown any actual or threatened violation of federal law sufficient to warrant injunctive relief, nor did the balance of equities favor an injunction. The Utility has appealed the Bankruptcy Court's decision to the U.S. District Court for the Northern District of California, and the CPUC and its Commissioners cross-appealed. The appeals have been deemed related to, and therefore have been assigned to the same district court judge as, the appeals discussed below in the Utility's complaint filed against the CPUC Commissioners.

        The Utility and PG&E Corporation have jointly proposed a proposed plan of reorganization, the Utility Plan, that proposes to restructure the Utility's current businesses and to refinance the restructured businesses so that all allowed creditor claims would be paid in full with interest. For a description of the Utility Plan, see Item 1 "Business" above and Note 2 of the Notes to Consolidated Financial Statements appearing in the 2002 Annual Report to Shareholders.

        On November 30, 2001, the Utility and PG&E Corporation on behalf of its subsidiaries ETrans, GTrans, and Gen, filed various applications with the FERC seeking approval to implement the transactions proposed under the Utility's Plan. For additional information about the proposed Plan and the regulatory approvals required to implement the Plan, see Note 2 of the Notes to Consolidated Financial Statements appearing in the 2002 Annual Report to Shareholders.

        On January 25, 2002, the Bankruptcy Court held a hearing to consider arguments as to whether the Bankruptcy Court has the power to preempt various California state and local laws as requested in the Utility Plan, and whether such preemption would violate the sovereign immunity of the State of California and its agencies, including the CPUC. On February 7, 2002, the Bankruptcy Court issued an order concluding that bankruptcy law does not permit express preemption, but it could permit implied preemption under certain circumstances. It also concluded that the Utility Plan as drafted violated sovereign immunity because it seeks affirmative relief against the State and the CPUC, but that if the Utility Plan and disclosure statement were amended, then the Utility Plan would overcome the sovereign immunity defense. Otherwise, the Utility and PG&E Corporation would have to prove that there had been a waiver of sovereign immunity. The Bankruptcy Court rejected PG&E Corporation's and the Utility's argument that Section 1123(a)(5) of the Bankruptcy Code expressly authorized the Bankruptcy Court to preempt any state law to confirm and effectuate a plan of reorganization. Instead, the Bankruptcy Court interpreted Section 1123(a)(5) to permit preemption of a state law where it had been shown that enforcing the state law at issue would be an obstacle to the accomplishment and execution of the full purposes of the bankruptcy laws. The Bankruptcy Court stated that whether a restructuring (i.e., the disaggregation of the Utility's businesses as proposed in the Utility Plan) is necessary for a feasible reorganization is an issue to be determined at the confirmation hearing.

        In its February 7, 2002, the Bankruptcy Court held that "the Plan could be confirmed if Proponents are able to establish with particularity the requisite elements of implied preemption." The Bankruptcy Court stated that PG&E Corporation and the Utility must show facts that would lead the Bankruptcy Court to find that the "application of those laws to the facts of [the Debtor's] proposed reorganization are economic in nature rather than directed at protecting public safety or other non-economic concerns, and that those particular laws stand as an obstacle to the accomplishment and execution of the purposes and objectives of Congress and the Bankruptcy Code."

        On March 18, 2002, the Bankruptcy Court entered an order and judgment disapproving the Utility's First Amended Disclosure Statement relating to the Utility Plan for the reasons set forth in its February 7, 2002 decision based upon the court's rejection of PG&E Corporation's and the Utility's express preemption theory. The Bankruptcy Court found that there was no just reason to delay appellate review of the court's ruling on express preemption, and directed the clerk to enter its order as a final judgment. The court stated that its order was not intended to address or finally adjudicate any issues or disputes other than express preemption, including but not limited to the implied preemption and sovereign immunity aspects of its February 7, 2002 decision, and reserved such issues for final rulings in connection with the plan confirmation process.

        On March 22, 2002, PG&E Corporation and the Utility filed a notice of appeal from the Bankruptcy Court's March 18, 2002 order. PG&E Corporation and the Utility elected to have the appeal heard by the United States District Court for the Northern District of California, or the District Court. In addition, the CPUC, the City and

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County of San Francisco, and the California Attorney General, on behalf of a number of State entities, filed cross-appeals. Generally stated, the two issues that these parties identified for cross-appeal are: (1) whether the Bankruptcy Court erred in entering a final judgment concerning its ruling on express preemption, and (2) whether it was an abuse of discretion for the Bankruptcy Court to determine that there was no just reason to delay the entry of judgment on its express preemption ruling. On June 24, 2002, in ruling on a motion to dismiss the Utility's and PG&E Corporation's appeal, the District Court issued an order rejecting these contentions.

        On August 30, 2002, the District Court issued an order reversing the Bankruptcy Court's March 18, 2002 order and remanding the case back to the Bankruptcy Court for further proceedings. The District Court ruled that the Bankruptcy Code expressly preempts "nonbankruptcy laws that would otherwise apply to bar, among other things, transactions necessary to implement the reorganization plan." The CPUC, the California Attorney General, the City and County of San Francisco, and the California Hydropower Reform Coalition filed an appeal with the U.S. Court of Appeals for the Ninth Circuit, or the Ninth Circuit, and also filed a request with the District Court to stay its August 30, 2002 decision pending their appeal to the Ninth Circuit. On November 14, 2002, the District Court issued an order denying the request for a stay and certifiying its August 30, 2002 decision for discretionary review by the Ninth Circuit. The CPUC and the other appellants proceeded with an appeal to the Ninth Circuit, and briefing in the appeal is now closed. All appellants except the CPUC requested the Ninth Circuit to stay the District Court's August 30, 2002 decision pending the Ninth Circuit appeal. PG&E Corporation and the Utility filed their opposition to the motion for a stay on December 9, 2002. On January 17, 2003, the Ninth Circuit denied the motion for a stay pending appeal. On October 30, 2002, the Utility and PG&E Corporation filed a motion asking the Ninth Circuit to expedite the appeal, which was granted in part on November 18, 2002, along with a statement that the appeal would be calendared as soon as is practicable.

        In addition, the United States Department of Justice has filed an amicus brief with the Ninth Circuit in which it supports the CPUC's construction of Bankruptcy Code Section 1123 but argues in favor of a remand to the District Court on the issue of implied preemption. Two additional sets of amici have filed briefs or have sought leave to file briefs in support of the CPUC's position in the appeal: (1) the National Association of Regulatory Commissioners, joining with a number of states (who do not require leave to file as amici); and (2) a number of California counties. On or about January 6, 2003, a number of public utility commissions from other states, as well as the State of Utah, filed a motion asking the Ninth Circuit for leave to join the amicus brief in support of the CPUC's position in the appeal. The Ninth Circuit has not yet set the appeal for oral argument.

        Pursuant to the Bankruptcy Court's February 7, 2002 decision, the Utility Plan was amended to (1) eliminate express preemption provisions and (2) state with specificity the facts demonstrating that the State and the CPUC have waived their sovereign immunity, and, if the Bankruptcy Court finds that such immunity has been waived, to provide for declaratory and injunctive relief against the State and the CPUC.

        After the Bankruptcy Court terminated the period during which only the Utility has the right to submit a proposed plan of reorganization, the CPUC filed a proposed alternative plan of reorganization with the Bankruptcy Court on April 15, 2002. After the Bankruptcy Court approved the disclosure statements relating to the Utility Plan and the CPUC's alternative plan, the disclosure statements relating to the competing plans were sent to creditors and equity holders entitled to vote on the plans in June 2002. Balloting was completed on August 12, 2002.

        On June 7, 2002, PG&E Corporation and the Utility filed a motion with the Bankruptcy Court to extend, until December 31, 2002, the period during which no third parties, other than the CPUC, could submit an alternative proposed plan of reorganization. On June 24, 2002, the Official Committee of Unsecured Creditors, or the OCC, filed a response in the Bankruptcy Court requesting that the exclusivity period be modified to enable the OCC to submit an alternative plan. On July 9, 2002, the Bankruptcy Court issued an order granting the OCC's request and extending the exclusivity period until December 31, 2002, except as to the CPUC (which the court previously excepted) and the OCC.

        In addition to other parties, the City of Palo Alto and the Northern California Power Agency, or NCPA, filed an objection to both proposed plans of reorganization. The objection asserts that, by virtue of the Utility's termination of a wholesale electric transmission contract between NCPA and the Utility, NCPA members, including Palo Alto, will now be subject to substantial charges from the California ISO. Palo Alto and NCPA assert that these charges, which are related primarily to congestion on the transmission system and a related ISO charge to entities that want to ensure delivery of power even in times when congestion is present, will increase dramatically if a proposed electric market redesign proposal is adopted for California. Palo Alto and NCPA further assert that the Utility's motivation for terminating the NCPA transmission contract was anticompetitive and violated the federal antitrust laws. They claim that damages associated with these increased ISO congestion charges could exceed $1 billion. In

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January 2003, the Bankruptcy Court held an estimation hearing to determine what value to put on a possible future damages award that NCPA and Palo Alto might receive, should they file, pursue, and establish liability on their antitrust claim.

        On July 29, 2002, shortly before the voting period ended, the CPUC filed an application with the Bankruptcy Court alleging that the Utility, PG&E Corporation, and their third-party solicitor improperly solicited votes and seeking a temporary restraining order to prohibit the continuing solicitation of votes, an order to require the distribution of corrective materials, an order extending the deadline for creditors to vote on the competing plans of reorganization, and an order allowing creditors to recast their ballots. The Bankruptcy Court denied the application for such relief on August 5, 2002. The CPUC's underlying complaint, which also was filed with the Bankruptcy Court on July 29, 2002, against the Utility, PG&E Corporation, and their third-party solicitor, alleges that the defendants improperly solicited votes by allegedly making false and misleading statements to creditors and equity holders. On February 11, 2003, the Utility received notice that the CPUC had dismissed the complaint voluntarily. The dismissal is without prejudice, meaning that the CPUC could refile the complaint. On August 22, 2002, 10 days after the voting period ended, the CPUC and the OCC announced that the OCC had joined the CPUC to support a modified alternative plan. The CPUC and the OCC jointly filed an amended plan of reorganization on August 30, 2002, the CPUC/OCC Plan, and requested the Bankruptcy Court's permission to resolicit votes and preferences for the CPUC/OCC Plan.

        On September 9, 2002, an independent voting agent stated that nine of the ten voting classes under the Utility Plan approved the Utility Plan. The original plan sponsored by the CPUC was rejected by all but one of the eight voting creditor classes. In order to proceed to the confirmation trial, each plan of reorganization needed to obtain the acceptance of at least one class of creditors holding impaired claims.

        On September 20, 2002, the Bankruptcy Court denied the CPUC's and the OCC's request to reopen the voting. The Bankruptcy Court declined to rule on the CPUC's and the OCC's additional request for an order authorizing the resolicitation of creditor preferences. On November 6, 2002, the CPUC and the OCC filed a Second Amended CPUC/OCC Plan and also filed a motion asking the Bankruptcy Court to authorize the resolicitation of creditor preferences. The Bankruptcy Court heard oral arguments on the motion on November 27, 2002. On February 6, 2003, the Bankruptcy Court issued an order denying the CPUC's and the OCC's request.

        The trial on confirmation of the CPUC/OCC Plan began on November 18, 2002 and the trial on confirmation of the Utility Plan began as scheduled on December 16, 2002. On January 24, 2003, the Bankruptcy Court issued an order modifying the original confirmation trial schedule and extending the hearing dates for the Utility Plan to the end of March 2003.

        On December 20, 2002, the Utility filed a motion with the Bankruptcy Court requesting the Court to further extend the period during which only the Utility (with the exception of the CPUC and the OCC) can file a proposed plan of reorganization for the Utility from December 31, 2002 to April 30, 2003. On February 6, 2003, the Bankruptcy Court granted the Utility an indefinite extension of the exclusivity period.

        With respect to the application filed with the Nuclear Regulatory Commission (NRC) for permission to transfer the NRC operating licenses held by the Utility for its Diablo Canyon nuclear power plant to Gen (which will become a subsidiary of PG&E Corporation after consummation of the Utility Plan) as contemplated by the Utility Plan, on June 25, 2002, the NRC issued an order denying various petitions to intervene and requests for hearing that had been filed by the CPUC, the County of San Luis Obispo, and the OCC, among others. In particular, the NRC found that the CPUC and OCC did not have standing to participate at the NRC with respect to public health and safety matters, as opposed to economic regulatory matters. In addition, the NRC found that the County's petition was untimely. Finally, the NRC found that neither the CPUC nor the County had raised any litigable issues within the NRC's jurisdiction and within the scope of its review of a license transfer application. The CPUC's and the County's issues were being properly addressed in other forums, such as the Bankruptcy Court and the FERC.

        The CPUC and the County have filed a petition for review of this NRC decision in the United States Court of Appeals for the Ninth Circuit. The Utility has intervened in the case in support of the NRC's decision. The case is presently in the briefing process. No argument date has been set.

        Several other parties filed petitions to intervene at the NRC expressing concerns solely with regard to how the antitrust conditions in the current Diablo Canyon licenses will be addressed in the proposed license transfers. These parties supported the Utility's proposal to retain the antitrust conditions and to make the reorganized Utility, Gen, and ETrans (the new limited liability company formed to operate the electric transmission business of the Utility as contemplated in the Utility Plan) jointly and severally responsible to comply with the antitrust conditions.

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The parties with an interest in the antitrust conditions sought intervention only if the NRC were to decide not to adopt the Utility's proposal. In its June 2002 decision, the NRC reserved its ruling as to these petitions. The NRC later sought additional briefs on legal issues presented by the Utility's antitrust proposal.

        On February 14, 2003, the NRC issued a final order with respect to the pending antitrust issues. The NRC's order specifically decided that the NRC will not transfer the existing antitrust license conditions to any new licensee. In view of the age of the antitrust conditions and changes in the law since those conditions were adopted (in particular, those changes providing for nondiscriminatory open access to transmission), the NRC declined to reenact the conditions as part of the license transfer. Consistent with this decision, the NRC also rejected other issues related to the transfer application raised by the antitrust petitioners and rejected the requests for hearing on antitrust issues for lack of a viable issue for hearing.

        With respect to the NRC license transfer application, the NRC has not yet issued its final order consenting to the transfer. No hearing issues remain to be decided. The NRC Staff must complete its safety evaluation and then would be authorized to issue the transfer order.

        With respect to the application filed with the FERC for approval of the bilateral power sales agreement between the reorganized Utility and Gen as contemplated in the Utility Plan, the FERC must find that the power sales agreement is just and reasonable consistent with Section 205 of the Federal Power Act. Because the power sales agreement is viewed as an agreement between affiliates, in order to demonstrate that the pricing and non-price terms and conditions of the proposed power sales agreement are just and reasonable, Gen submitted benchmark evidence of contemporaneous sales made by non-affiliated parties for similar services in the California electric market. In June 2002, FERC accepted the power sales agreement for filing and ordered a hearing to determine whether Gen had submitted a valid benchmark, including whether specific comparability criteria have been appropriately addressed.

        On October 10, 2002, the Administrative Law Judge, or ALJ, issued an initial decision finding that Gen successfully had "carried its burden" with respect to the benchmark analysis and had shown that the power sales agreement between the reorganized Utility and Gen was in fact comparable to the price and non-price terms and conditions of the selected benchmark contracts. The ALJ found no evidence in the record of any exercise of market power by Gen or any affiliate. In addition, the ALJ found that Gen's selection of contracts used as a comparison group in the benchmark analysis was appropriate and met all of the FERC's comparability criteria. The matter is now before the FERC for review of the hearing record and the ALJ's initial decision. The FERC will also consider the briefs on exceptions (addressing the ALJ's initial decision) that were filed by various parties. The ALJ's findings provide a basis for the FERC to find that the power sales agreement is just and reasonable. There is no specific time by which the FERC is required to take final action on the initial decision.

        Neither PG&E Corporation nor the Utility can predict what the outcome of the Utility's bankruptcy proceeding will be.

Pacific Gas and Electric Company vs. California Public Utilities Commissioners

        On November 8, 2000, Pacific Gas and Electric Company filed a lawsuit in the U.S. District Court for the Northern District of California against the CPUC Commissioners, asking the court to declare that the federally tariffed wholesale power costs that the Utility had incurred to serve its customers are recoverable in retail rates under the federal filed rate doctrine (the "Filed Rate Case"), and also asserting claims under the Takings, Commerce and Due Process Clauses of the United States Constitution. On January 29, 2001, the Utility's lawsuit was transferred to the U.S. District Court for the Central District of California where a similar lawsuit filed by Southern California Edison was pending.

        On May 2, 2001, the District Court dismissed the Utility's amended complaint, without prejudice to refiling at a later date, on the ground that the lawsuit was premature since two CPUC decisions referenced in the complaint had not become final under California law. The court rejected all of the CPUC's other arguments for dismissal of the Utility's complaint.

        On August 6, 2001, the Utility refiled its complaint in the U.S. District Court for the Northern District of California, based on the Utility's belief that the CPUC decisions referenced in the Court's May 2, 2001 order had become final under California law. On November 26, 2001, the case was transferred to United States District Court Judge Vaughn Walker in the Northern District of California as a related case to the Utility's appeal from the Bankruptcy Court's denial of the Utility's request for injunctive and declaratory relief against the retroactive accounting order adopted by the CPUC in March 2001, which is discussed above. At a joint case management

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conference held on March 7, 2002 in the two related actions, the court indicated that it would place priority on the Filed Rate Case and that it was necessary to clarify issues further in the Filed Rate Case before proceeding in the appeal of the Bankruptcy Court order regarding the CPUC's March 2001 accounting order. At the Utility's request, the court therefore set no dates for oral argument in the bankruptcy appeal, but indicated that the CPUC would be free at any time to attempt to establish that it was appropriate to reactivate the bankruptcy appeal in light of developments in the Filed Rate Case.

        The Utility's complaint alleges that the wholesale power costs that the Utility has prudently incurred are paid pursuant to filed tariffs that the FERC has authorized and approved, and that under the U.S. Constitution and numerous court decisions, such costs cannot be disallowed by state regulators. The Utility's complaint also alleges that to the extent that the Utility is denied recovery of these wholesale power costs by order of the CPUC, such action constitutes an unlawful taking and confiscation of the Utility's property. The Utility argues that the CPUC's decisions are preempted by federal law under the filed rate doctrine, which requires the CPUC to allow the Utility to recover in full its reasonable procurement costs incurred under lawful rates and tariffs approved by the FERC, a federal governmental agency. The complaint also pleads claims under the Commerce Clause, Due Process Clause, and Equal Protection Clause of the U.S. Constitution.

        On April 18, 2002, the Utility filed a motion for summary judgment requesting the court to enter judgment in the first and second claims for relief pleaded in the complaint on the basis that federal law requires the CPUC to permit the Utility to recover its wholesale procurement costs incurred in FERC-tariffed markets. Also, on April 18, 2002, the CPUC Commissioners and TURN, an intervenor in the Filed Rate Case, filed motions to dismiss the Utility's claim as well as motions for summary judgment asking the court to rule against the Utility on its federal preemption claims as a matter of law. The principal ground for the CPUC's and TURN's motions was that, by adopting the retroactive change in the accounting mechanisms for recovery of transition and power procurement costs in March 2001, the CPUC had already allowed the Utility to recover its wholesale procurement costs. (The retroactive accounting change, adopted by the CPUC on March 27, 2001, appeared to eliminate the Utility's true undercollected wholesale electricity costs by applying amounts that were previously applied first to transition cost recovery to undercollected procurement costs, effectively transforming undercollected procurement costs to under-collected transition costs. As discussed above, the Utility requested the Bankruptcy Court to enjoin the CPUC from enforcing the accounting order but the Bankruptcy Court denied the Utility's request.)

        On July 25, 2002, the District Court issued an order denying the CPUC's and TURN's motions to dismiss the Filed Rate Case, as well as motions for summary judgment that had been filed by the CPUC, the Utility, and TURN. However, much of the District Court's order is a discussion of the merits of the Utility's federal preemption claims. The court rejected every argument advanced by the CPUC and TURN against the application of the filed rate doctrine, stating: "in most instances today a utility must purchase the power delivered to consumers pursuant to the rate filed with the appropriate federal agency."

        After concluding that the Utility's federal preemption claims as pleaded are meritorious, the District Court denied the motions to dismiss without substantial discussion. The court stated that despite the unique features of the regulatory context underlying the Filed Rate Case, and the lack of precedent specifically on point, "the filed rate doctrine applies in this case in much the same way as it does under a cost-of-service regime." The court further stated that "Costs of wholesale energy, incurred pursuant to rate tariffs filed with FERC, whether these rates are market-based or cost-based, must be recognized as recoverable costs by state regulators and may not be trapped by excessively low retail rates or other limitations imposed at the state level." The court recognized that under the dual system of utility regulation, adherence to the filed rate requirement, in conjunction with the requirement that utilities provide electricity to end users, prohibits state regulators from trapping the costs prudently incurred pursuant to FERC-filed tariffs. The court also noted that "allowing a utility to pass through these costs to consumers—if that is what is required—would not provide a windfall to the utility, but would merely properly allocate the burden of responsibility for the expense of providing a mandated service to the public."

        The court found, however, that the Utility's preemption claims could not be decided on summary judgment because two factual issues remained in dispute: (1) the appropriate time period for considering whether a net undercollection had occurred, and (2) the determination of which revenue sources, within Constitutional bounds, may be applied against the Utility's operating costs.

        At an August 16, 2002 case management conference, the court adopted the pretrial and trial schedule stipulated to by the parties, including a trial date set for June 9, 2003. On August 23, 2002, the defendants filed a Notice of Appeal from those portions of the July 25, 2002 order denying defendants' motion to dismiss on Eleventh Amendment (sovereign immunity) and Johnson Act grounds. (The Johnson Act prohibits the district

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courts from enjoining, suspending, or restraining the operation of or compliance with any order affecting rates chargeable by a public utility and made by a state administrative agency as long as certain conditions are met.) On September 4, 2002, the Utility filed a motion with the District Court seeking written certification that the CPUC's appeal of the July 25, 2002 order on Eleventh Amendment and Johnson Act grounds was frivolous. On or about October 21, 2002, the District Court granted the Utility's motion and certified the CPUC's appeal as frivolous, which allowed the District Court to retain jurisdiction to proceed to trial while the CPUC's appeal to the Ninth Circuit was pending. On November 21, 2002, the Ninth Circuit without discussion granted the CPUC's motion to stay the District Court proceedings pending the CPUC's appeal of the District Court's July 25, 2002 order. As a consequence of the Ninth Circuit stay, the trial schedule previously set by the District Court, including the June 9, 2003, trial date, is inoperative.

        On January 8, 2003, the Utility filed its Ninth Circuit brief in opposition to the CPUC's appeal, together with a motion asking the Ninth Circuit to expedite the hearing and the decision on the appeal. On January 13, 2003, the Ninth Circuit notified the Utility that a hearing date for the appeal has been set for March 10, 2003. Briefing on the appeal has been completed.

        Neither PG&E Corporation nor the Utility can predict what the outcome of the Filed Rate Case litigation will be.

        In connection with the Utility Plan, before the distribution of the outstanding common stock of Newco to PG&E Corporation, the Utility would assign to Newco or a subsidiary of Newco the rights to an amount equal to 95% of the net after-tax proceeds from any successful resolution of this case and resulting CPUC rate order requiring collection of wholesale costs in retail rates. The reorganized Utility would retain the rights to 5% of such proceeds.

Federal Securities Lawsuit

        On April 16, 2001, a complaint was filed against PG&E Corporation and the Utility in the U.S. District Court for the Central District of California entitled Jack Gillam; DOES 1 TO 5, Inclusive, and All Persons similarly situated vs. PG&E Corporation, Pacific Gas and Electric Company; and DOES 6 to 10, Inclusive. The Utility was subsequently dismissed, due to its Chapter 11 bankruptcy filing. By order entered on or about May 31, 2001, the case was transferred to the U.S. District Court for the Northern District of California.

        On August 9, 2001, plaintiff filed a first amended complaint entitled Jack Gillam, et al. vs. PG&E Corporation, Robert D. Glynn, Jr., and Peter A. Darbee, in the U.S. District Court for the Northern District of California. The first amended complaint, purportedly brought on behalf of all persons who purchased PG&E Corporation common stock or certain shares of the Utility's preferred stock between July 20, 2000, and April 9, 2001, claims that defendants caused PG&E Corporation's Condensed Consolidated Financial Statements for the second and third quarters of 2000 to be materially misleading in violation of federal securities laws by recording as a deferred cost and capitalizing as a regulatory asset the under-collections that resulted when escalating wholesale energy prices caused the Utility to pay far more to purchase electricity than it was permitted to collect from customers.

        The defendants filed a motion to dismiss the first amended complaint, based largely on public disclosures by PG&E Corporation, the Utility, and others regarding the undercollections, the risk that they might not be recoverable, the financial consequences of non-recovery, and other information from which analysts and investors could assess for themselves the probability of recovery. On January 14, 2002, the District Court granted the defendants' motion to dismiss the plaintiffs' complaint with leave to amend the complaint. On February 4, 2002, the plaintiffs filed a second amended complaint in the District Court entitled Jack Gillam, et al. vs. PG&E Corporation, and Robert D. Glynn, Jr. In addition to containing many of the same allegations as were contained in the prior complaint, the complaint contains allegations similar to the allegations made in the California Attorney General's complaint against PG&E Corporation discussed below. On March 11, 2002, the defendants filed a motion to dismiss the second amended complaint. After a hearing on June 24, 2002, the District Court issued an order granting the defendants' motion to dismiss the second amended complaint. The dismissal is with prejudice, prohibiting the plaintiffs from filing a further amended complaint.

        On November 15, 2002, plaintiffs filed an appeal of the District Court's order with the United States Court of Appeals for the Ninth Circuit, advancing substantially the same arguments that the District Court had rejected previously. The defendants filed an answering brief on January 2, 2003, and anticipate that oral argument may occur as early as the fall of 2003.

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        PG&E Corporation believes the case is without merit and intends to present a vigorous defense. PG&E Corporation believes that the ultimate outcome of this litigation will not have a material adverse effect on PG&E Corporation's financial condition or results of operations.

In re: Natural Gas Royalties Qui Tam Litigation

        This litigation involves the consolidation of approximately 77 False Claims Act cases filed in various federal district courts by Jack J. Gyrnberg (called a relator in the parlance of the False Claims Act) on behalf of the United States of America against more than 330 defendants, including the Utility and PG&E GTN. The cases were consolidated for pretrial purposes in the U.S. District Court, for the District of Wyoming. The current case grows out of prior litigation brought by the same relator in 1995 that was dismissed in 1998.

        Under procedures established by the False Claims Act, the United States (acting through the Department of Justice, or the DOJ, is given an opportunity to investigate the allegations and to intervene in the case and take over its prosecution if it chooses to do so. In April 1999, the DOJ declined to intervene in any of the cases.

        The complaints allege that the various defendants (most of which are pipeline companies or their affiliates) incorrectly measured the volume and heating content of natural gas produced from federal or Indian leases. As a result, the relator alleges that the defendants underpaid, or caused others to underpay, the royalties that were due to the United States for the production of natural gas from those leases.

        The complaints do not seek a specific dollar amount or quantify the royalties claim. The complaints seek unspecified treble damages, civil penalties of not less than $5,000 and not more than $10,000 against each defendant for each violation of the False Claims Act, an order requiring the defendants to discontinue certain measurement practices, and reimbursement for reasonable expenses, attorneys' fees, and costs incurred in connection with the litigation. The relator has filed a claim in the Utility's bankruptcy case for $2.48 billion, $2 billion of which is based upon the relator's calculation of penalties against the Utility.

        PG&E Corporation and the Utility believe the allegations to be without merit and intend to present a vigorous defense.

        PG&E Corporation and the Utility believe that the ultimate outcome of the litigation will not have a material adverse effect on their financial condition or results of operations.

Moss Landing Power Plant

        In December 1999, the Utility was notified by the purchaser of its former Moss Landing power plant that it had identified a cleaning procedure used at the plant that released heated water and organic debris from the intake, and that this procedure is not specified in the plant's National Pollutant Discharge Elimination System, or NPDES, permit issued by the Central Coast Regional Water Quality Control Board, or Central Coast Board. The purchaser notified the Central Coast Board of its findings and the Central Coast Board requested additional information from the purchaser. The Utility initiated an investigation of these activities during the time it owned the plant. The Utility notified the Central Coast Board that it had undertaken an investigation and that it would present the results to the Central Coast Board when the investigation was completed. In March 2000, the Central Coast Board requested the Utility to provide specific information regarding the "backflush" procedure used at Moss Landing. The Utility provided the requested information in April 2000. The Utility's investigation indicated that while the Utility owned Moss Landing, significant amounts of water were discharged from the cooling water intake. While the Utility's investigation did not clearly indicate that discharged waters had a temperature higher than ambient receiving water, the Utility believes that the temperature of the discharged water was higher than that of the receiving water.

        In December 2000, the executive officer of the Central Coast Board made a settlement proposal to the Utility under which the Utility would pay $10 million, a portion of which would be used for environmental projects and the balance of which would constitute civil penalties. In March 2002, the Utility and the Central Coast Board reached a tentative settlement of this matter under which the Utility would pay a total of $5 million to be used for environmental projects. No civil penalties would be paid under the settlement. The parties are negotiating the documentation of the settlement. The final agreement will be subject to public comment and final approval by the Central Coast Board, and, once signed by the parties, will be incorporated into a consent decree to be entered in California Superior Court.

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        The California Attorney General has filed a proof of claim in the Bankruptcy Court on behalf of the Central Coast Board seeking unspecified penalties for alleged discharges of heated cooling water at Moss Landing.

        PG&E Corporation and the Utility believe that the ultimate outcome of this matter will not have a material adverse impact on PG&E Corporation's or the Utility's financial condition or results of operations.

Diablo Canyon Power Plant

        On June 13, 2002, the Utility received a draft Enforcement Order from the California Department of Toxic Substances Control, or DTSC, alleging that the Diablo Canyon Power Plant, or Diablo Canyon, failed to maintain an adequate financial assurance mechanism to cover closure costs for its hazardous waste storage facility for several months during 2001. Under the California Health and Safety Code, operators of hazardous waste facilities must demonstrate to the DTSC (using a limited number of alternative methods specified by regulation) that the operator can close and clean up the facility at the end of its useful life. The Utility has used a "balance sheet" method in the past, but was unable to do so after the Utility's financial condition deteriorated in early 2001. Nevertheless, the Utility was able to secure an endorsement to its existing insurance policy that met the DTSC's requirements. The draft order seeks $340,000 in civil penalties for the period during which the Utility was unable to comply with the DTSC's requirements. The draft order also directs the Utility to maintain appropriate financial assurance on a going-forward basis. On September 4, 2002, the Utility received a draft Enforcement Order from DTSC alleging a variety of hazardous waste violations at Diablo Canyon. The violations were identified in an April 2001 inspection. The draft order seeks $24,330 in civil penalties. A tentative settlement has been reached with DTSC under which the Utility will pay approximately $165,000 in civil penalties and approximately $30,000 in costs. The final agreement, once signed by the parties, will be incorporated into a consent decree to be entered in California Superior Court.

        PG&E Corporation and the Utility believe that the ultimate outcome of this matter will not have a material adverse impact on their financial condition or results of operations.

Compressor Station Chromium Litigation

        There are 15 civil actions pending in California courts against the Utility relating to alleged chromium contamination, or the Chromium Litigation: (1) Aguayo v. Pacific Gas and Electric Company, filed March 15, 1995, in Los Angeles County Superior Court, (2) Aguilar v. Pacific Gas and Electric Company, filed October 4, 1996, in Los Angeles County Superior Court, (3) Acosta, et al. v. Betz Laboratories, Inc., et al., filed November 27, 1996, in Los Angeles County Superior Court, (4) Adams v. Pacific Gas and Electric Company and Betz Chemical Company, filed July 25, 2000, in Los Angeles County Superior Court, (5) Baldonado v. Pacific Gas and Electric Company, filed October 25, 2000, in Los Angeles County Superior Court, (6) Gale v. Pacific Gas and Electric Company, filed January 30, 2001, in Los Angeles County Superior Court, (7) Monice v. Pacific Gas and Electric Company, filed March 15, 2001, in San Bernardino County Superior Court, (8) Fordyce v. Pacific Gas and Electric Company, filed March 16, 2001, in San Bernardino Superior Court, (9) Puckett v. Pacific Gas and Electric Company, filed March 30, 2001, in Los Angeles County Superior Court, (10) Alderson, et al. v. PG&E Corporation, Pacific Gas and Electric Company, Betz Chemical Company, et al.,filed April 11, 2001, in Los Angeles County Superior Court, (11) Bowers, et al. v. Pacific Gas and Electric Company, et al., filed April 20, 2001, in Los Angeles County Superior Court, (12) Boyd, et al. v. Pacific Gas and Electric Company, et al., filed May 2, 2001, in Los Angeles County Superior Court, (13) Martinez, et al. v. Pacific Gas and Electric Company, filed June 29, 2001, in San Bernardino County Superior Court, (14) Kearney v. Pacific Gas and Electric Company, filed November 15, 2001, in Los Angeles County Superior Court, and (15) Miller v. Pacific Gas and Electric Company, filed November 21, 2001, in Los Angeles County Superior Court. All of these civil actions are now pending in the Los Angeles Superior Court, except the Monice case, still pending in San Bernardino County, and the Lytle case, still pending in Yolo County. One additional suit, Kearney v. Pacific Gas and Electric Company, filed November 15, 2001, in Los Angeles County Superior Court, was filed after the Petition Date and was dismissed without prejudice as to PG&E and PG&E Corporation on March 26, 2002, while plaintiffs' counsel sought and obtained permission from the Bankruptcy Court to pursue late claims. The Bankruptcy Court ruled that the six adult plaintiffs could not file untimely bankruptcy claims against PG&E. This ruling should prohibit these adult plaintiffs from proceeding in state court against PG&E. The court also ruled that the twenty-four minor plaintiffs in the case could file untimely bankruptcy claims against PG&E, which should permit these minor plaintiffs to reinstate their claims against PG&E in the pending civil suit.

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        Two of these suits, Alderson and Kearney, also name PG&E Corporation as a defendant. The Utility has not yet been served with the complaints in the Gale or Lytle cases. There are now approximately 1,200 plaintiffs in the Chromium Litigation.

        The complaints allege personal injuries, wrongful death, and loss of consortium and seek compensatory and punitive damages based on claims arising from alleged exposure to chromium contamination in the vicinity of the Utility's gas compressor stations located at Kettleman and Hinkley, California, and the area of California near Topock, Arizona. The plaintiffs include current and former employees of the Utility and their relatives, residents in the vicinity of the compressor stations, and persons who allegedly visited the gas compressor stations. The plaintiffs also include spouses or children of these plaintiffs who claim loss of consortium or wrongful death.

        The Utility is responding to the suits in which it has been served and is asserting affirmative defenses. It will pursue appropriate legal defenses, including the statute of limitations, exclusivity of workers' compensation laws, and factual defenses, including lack of exposure to chromium and the inability of chromium to cause certain of the illnesses alleged.

        The discovery referee has set the procedures for selecting trial test plaintiffs and alternates in the Aguayo, Acosta, and Aguilar cases. Ten of these trial test plaintiffs were selected by plaintiffs' counsel, seven plaintiffs were selected by defense counsel, and one plaintiff and two alternates were selected at random. Although a date for the first test trial in these cases was set for July 2, 2001, in Los Angeles County Superior Court, the Chapter 11 case automatically stayed all proceedings.

        On March 27, 2002, the seven plaintiffs in the Fordyce case served their lawsuit on PG&E. The plaintiffs have all filed timely proofs of claim in the bankruptcy case.

        In the Adams case, after a hearing on July 17, 2002, the state court dismissed 35 plaintiffs with prejudice because their claims are barred by the statute of limitations. The state court dismissed another 65 plaintiffs without prejudice, so these plaintiffs may attempt to plead that their claims are not barred by the statute of limitations. Thirty of these plaintiffs filed a Fourth Amended Complaint on October 16, 2002. The other 35 plaintiffs who were given leave to amend have been dismissed with prejudice for failure to amend.

        Approximately 1,260 individuals have filed proofs of claim in the Utility's bankruptcy case (nearly all are plaintiffs in the Chromium Litigation) asserting that exposure to chromium at or near the compressor stations has caused personal injuries, wrongful death, or related damages. Approximately 1,035 claimants have filed proofs of claim requesting an approximate aggregate amount of $580 million and another approximately 225 claimants have filed claims for an "unknown amount." On November 14, 2001, the Utility filed objections to these claims and requested the Bankruptcy Court to transfer the chromium claims to the U. S. District Court. On January 8, 2002, the Bankruptcy Court denied the Utility's request to transfer the chromium claims and granted the claimants' motion for relief from stay so that the state court lawsuits pending before the Utility filed its bankruptcy petition can proceed. Orders granting relief from stay have been entered.

        Before April 6, 2001, when the Utility filed its bankruptcy petition, the Utility was responding to the complaints in which it had been served and was asserting affirmative defenses. As of April 6, 2001, the Utility had filed 13 summary judgment motions challenging the claims of the trial test plaintiffs and had completed discovery of plaintiffs' experts. Plaintiffs' discovery of the Utility's experts was underway. Plaintiffs are completing discovery of the Utility's experts and of related issues, and four of the 13 summary judgment motions are scheduled for hearing in the first six months of 2003. At this stage of the proceedings and the claims objections, there is substantial uncertainty concerning the claims alleged, and the Utility is attempting to gather information concerning the alleged type and duration of exposure, the nature of injuries alleged by individual plaintiffs, and the additional facts necessary to support its legal defenses.

        PG&E Corporation and the Utility believe that, in light of the reserves that have already been accrued with respect to this matter, the ultimate outcome of this matter will not have a material adverse impact on PG&E Corporation's or the Utility's financial condition or results of operations. See Note 16 of the "Notes to Consolidated Financial Statements" of the 2002 Annual Report to Shareholders, portions of which are filed as Exhibit 13 to this report. The Utility Plan provides that the aggregate after-tax amount of any liability resulting from the chromium litigation would be divided among ETrans, GTrans, Gen and the reorganized Utility approximately as follows: 12.5%, 12.5%, 25% and 50%, respectively.

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California Energy Trading Litigation

        PG&E Energy Trading Holdings Corporation and various of its affiliates (collectively ET-Power) have been named as defendants, along with other generators and market participants in the California electricity market, in connection with a variety of claims arising out of the California energy crisis. ET-Power has been served with complaints in the following cases. It is possible that it will be served with additional complaints and that some of these cases will be consolidated with other cases in which similar allegations have been raised respecting other market participants. These proceedings are administrative and judicial in nature.

        ET-Power has been named, along with multiple other defendants, in four class action lawsuits known as Pier 23 against marketers and other unnamed sellers of electricity in California markets. These cases are (1) Pier 23 Restaurant v. PG&E Energy Trading Corporation, et al., filed on January 24, 2001, in San Francisco Superior Court and subsequently removed to the United States District Court for the Northern District of California; (2) Hendricks v. Dynegy Power Marketing, Inc., PG&E Energy Trading Corporation, et al., filed on November 29, 2000, in San Diego Superior Court and subsequently removed to the United States District Court for the Southern District of California; (3) Sweetwater Authority v. Dynegy Inc., PG&E Energy Trading Corporation, et al., filed on January 16, 2001, in San Diego Superior Court and subsequently removed to the United States District Court for the Southern District of California; and (4) People of the State of California v. Dynegy Power Marketing, Inc., PG&E Energy Trading Corporation, et al., filed on January 18, 2001, in San Francisco Superior Court and subsequently removed to the United States District Court for the Northern District of California.

        These cases are all currently pending in the U.S. District Court for the Southern District of California. Plaintiffs filed a motion to remand the proceedings to state court and in January 2003, the motion was granted. However, in view of various appeals of the remand order, the cases remain in federal court.

        These suits allege violation by the defendants of state antitrust laws and state laws against unfair and unlawful business practices. Specifically, the named plaintiffs allege that the defendants, including the owners of in-state generation and various power marketers, conspired to manipulate the California wholesale power market to the detriment of California consumers. Included among the acts forming the basis of the plaintiffs' claims are the alleged improper sharing of generation outage data, improper withholding of generation capacity, and the manipulation of power market bid practices. The plaintiffs seek unspecified treble damages and, among other remedies, disgorgement of alleged unlawful profits for sales of electricity beginning in 1999 or 2000, restitution, injunctive relief, and attorneys' fees.

        On May 13, 2002, ET-Power was named, along with multiple other defendants, in a complaint filed in San Francisco Superior Court by James A. Millar, individually and on behalf of the general public and as a representative taxpayer against energy suppliers and other unnamed sellers of electricity in the California market. In his complaint, plaintiff asserts the defendants violated state laws against unfair and fraudulent business practices by entering into certain long-term energy contracts with the DWR. The plaintiff claims that the contracts were made under circumstances that resulted in excessively high and unfair prices and, as a result, refunds should be made to the extent that the prices in the contracts were excessive. In addition, plaintiff seeks, among other remedies, an order enjoining enforcement of the allegedly unfair terms and conditions of the long-term contracts, declaratory relief, and attorneys' fees. The FERC is currently addressing the DWR contracts in the administrative actions before the FERC brought by the CPUC and California Electricity Oversight Board on February 25, 2002. On June 13, 2002, the defendants removed the case to the U.S. District Court for the Northern District of California based on federal preemption. The plaintiff filed a motion to remand the case to state court. On July 12, 2002 the Judicial Panel on Multidistrict Litigation entered a conditional order transferring this case to the U.S. District Court for the Southern District of California, where it is now before the same judge presiding over the Pier 23 cases. The panel determined that the Millar case, as well as seven other pending lawsuits, involved common questions of law and fact. ET-Power is currently not a defendant in any of these other lawsuits. The plaintiff has renewed his motion to remand these cases to state court.

        On July 15, 2002, ET-Power was named among other sellers of power in an action filed by the Public Utility District No. 1 of Snohomish County, Public Utility District No. 1 of Snohomish County v. Dynegy Power Marketing, et al., in the U.S. District Court for the Central District of California. Plaintiff alleged various theories of manipulation of the deregulated California electricity market by the defendants in violation of state antitrust laws and state laws against unlawful and fraudulent business practices. Plaintiff claimed that the defendants manipulated the energy market, resulting in higher electricity prices and sought, among other remedies, disgorgement, restitution, injunctive relief, and treble damages. Plaintiff also claimed that the defendants failed to file their rates in advance with the FERC, which failure plaintiff asserts was a violation of the Federal Power Act. On October 11,

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2002, the Judicial Panel on Multidistrict Litigation entered a final order transferring the Snohomish case to the U.S. District Court for the Southern District of California and to the same judge presiding over the Pier 23 and Millar proceedings. The defendants filed a joint motion to dismiss and to strike various elements of the complaint. On January 8, 2003, the U.S. District Court for the Southern District of California dismissed the complaint, finding that the issue of whether and how market manipulation affected electricity rates was one that should be determined by the FERC. Plaintiff has filed a notice of appeal of the district court's decision with the U.S. Court of Appeals for the Ninth Circuit.

        By letter dated May 7, 2002, ET-Power was advised by the California Attorney General, or AG, that it believes ET-Power (along with numerous other generators and market participants) violated state laws governing unfair and fraudulent business practices and that unless ET-Power settled the matter the AG would by June 1, 2002 file suit against ET-Power. The AG stated that he will claim that ET-Power failed to have its rates on file with FERC and that accordingly any sales made under such rates violated the Federal Power Act (a claim that the AG has made before FERC and which FERC has rejected) and that ET-Power exercised market-power in charging unjust and unreasonable prices. ET-Power has not yet been served with a complaint in this matter.

        In addition to these judicial proceedings, on March 20, 2002 the AG filed a complaint at the FERC against ET-Power and other named and unnamed public utility sellers of energy and ancillary services. The California AG alleges that wholesale sellers of energy to the California Independent System Operator, or ISO, the California Power Exchange, or PX, and the California Department of Water Resources, or DWR, failed to file their rates in accordance with the requirements of Section 205 of the Federal Power Act. Specifically, the California AG claims that the FERC has not been able to determine whether the rates charged by such sellers are just and reasonable, that the FERC's reporting requirements are insufficient to provide the FERC the information necessary to make this determination, and that even if the FERC's policies and procedures did comply with Section 205 of the Federal Power Act, the wholesale sellers failed to comply with its quarterly reporting requirements. As a result, the California AG requests that (1) sellers should be directed to comply, on a prospective basis, with the requirements of Section 205 of the Federal Power Act; (2) sellers should be required to provide transaction-specific information to the FERC regarding their short-term sales to the ISO, the PX, and the DWR for the years 2000 and 2001; (3) if rates were charged that were not just and reasonable, refunds should be ordered; (4) the FERC should declare that market-based rates are not subject to the filed rate doctrine; and (5) the FERC should institute proceedings to determine whether any further relief would be appropriate. On May 31, 2002, the FERC issued a decision denying most of the relief requested and on July 1, 2002, the California AG filed a petition with the FERC seeking rehearing of its order. The FERC denied rehearing on September 23, 2002. The California AG has filed an appeal of the FERC's decision with the U.S. Court of Appeals for the Ninth Circuit.

        PG&E Corporation believes that the outcome of these matters will not have a material adverse affect on PG&E Corporation's financial condition or results of operations.

California Attorney General Complaint

        On January 10, 2002, the California AG filed a complaint in the San Francisco Superior Court against PG&E Corporation and its directors, as well as against directors of the Utility, based on allegations of unfair or fraudulent business acts or practices in violation of California Business and Professions, or B&P, Code Section 17200. Among other allegations, the AG alleged that past transfers of money from the Utility to PG&E Corporation, and allegedly from PG&E Corporation to other affiliates of PG&E Corporation, violated various conditions established by the CPUC in decisions approving the holding company formation. The AG also alleged that the December 2000 and January and February 2001 ringfencing transactions, by which PG&E Corporation subsidiaries complied with credit rating agency criteria to establish independent credit ratings, violated the holding company conditions. The AG alleged that these ringfencing transactions included conditions that restricted PG&E NEG's ability to provide any funds to PG&E Corporation, through dividends, capital distributions or similar payments, reducing PG&E Corporation's cash and thereby impairing PG&E Corporation's ability to comply with the capital requirements condition and subordinating the Utility's interests to the interests of PG&E Corporation and its other affiliates. (On January 9, 2002, the CPUC issued a decision interpreting the capital requirements condition (which it terms the "first priority condition") and concluded that the condition, at least under certain circumstances, includes the requirement that each of the holding companies "infuse the utility with all types of capital necessary for the utility to fulfill its obligation to serve." The three major California investor-owned energy utilities and their parent holding companies had opposed the broader interpretation, first contained in a proposed decision released for comment on December 26, 2001, as being inconsistent with the prior 15 years' understanding of that condition as applying more narrowly to a priority on capital needed for investment purposes. The three major California investor-owned

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utilities and their parent holding companies appealed the CPUC's interpretation of the capital requirements condition to various state appellate courts. The CPUC moved to consolidate all proceedings in the San Francisco state appellate court. The CPUC's request for consolidation was granted and all the petitions are now before the First Appellate District in San Francisco, California.)

        The complaint seeks injunctive relief, the appointment of a receiver, restitution in an amount according to proof, civil penalties of $2,500 against each defendant for each violation of B&P Code section 17200, that the total penalty not be less than $500 million, and costs of suit.

        In addition, the AG alleged that, through the Utility's bankruptcy proceedings, PG&E Corporation and the Utility engaged in unlawful, unfair, and fraudulent business practices by seeking to implement the transactions proposed in the proposed plan of reorganization filed in the Utility's bankruptcy proceeding. The AG's complaint also seeks restitution of assets allegedly wrongfully transferred to PG&E Corporation from the Utility. In PG&E Corporation's view, the Bankruptcy Court has original and exclusive jurisdiction of these claims. Therefore, on February 8, 2002, PG&E Corporation filed a notice of removal in the Bankruptcy Court to transfer the AG's complaint to the Bankruptcy Court.

        After removing the California AG's complaint to the Bankruptcy Court, on February 15, 2002, PG&E Corporation filed a motion to dismiss, or in the alternative, to stay, the California AG's complaint with the Bankruptcy Court. Subsequently, the California AG filed a motion to remand the action to state court. The Bankruptcy Court held a hearing on April 24, 2002, to consider the remand motion. On June 20, 2002, the Bankruptcy Court issued an Amended Order on Motion to Remand. (An initial order was issued on June 2, 2002). The Bankruptcy Court held that federal law preempted the California AG's allegations concerning PG&E Corporation's participation in the Utility's bankruptcy proceedings. The Bankruptcy Court directed the California AG to file an amended complaint omitting these allegations and remanded the amended complaint to the San Francisco Superior Court. Both parties have appealed the Bankruptcy Court's June 20, 2002 order.

        The appeal and cross-appeal are pending in the United States District Court for the Northern District of California.

        On August 9, 2002, the California AG filed its amended complaint in the San Francisco Superior Court, omitting the allegations concerning PG&E Corporation's participation in the Utility's bankruptcy proceedings. PG&E Corporation and the directors named in the complaint have filed motions to strike certain allegations of the amended complaint. These motions are pending.

        PG&E Corporation believes that the allegations of the complaint are without merit and will vigorously respond to and defend the litigation. PG&E Corporation is unable to predict whether the outcome of this litigation will have a material adverse effect on its financial condition or results of operations.

Complaint filed by the City and County of San Francisco, and the People of the State of California

        On February 11, 2002, a complaint entitled, City and County of San Francisco; People of the State of California v. PG&E Corporation, and Does 1-150, was filed in San Francisco Superior Court. The complaint contains some of the same allegations contained in the AG's complaint including allegations of unfair competition in violation of B&P Code Section 17200. In addition, the complaint alleges causes of action for conversion, claiming that PG&E Corporation "took at least $5.2 billion from PG&E," and for unjust enrichment.

        Among other allegations, plaintiffs allege that past transfers of money from the Utility to PG&E Corporation, allegedly used by PG&E Corporation to subsidize other affiliates of PG&E Corporation, violated various conditions established by the CPUC in decisions approving the holding company formation. The complaint also alleges that certain ring fencing transactions by which PG&E Corporation subsidiaries complied with credit rating agency criteria to establish independent credit ratings violated the holding company conditions. Plaintiffs also allege that by agreeing to certain restrictive covenants in certain financing agreements, PG&E Corporation also violated a holding company condition.

        The complaint seeks injunctive relief, the appointment of a receiver, restitution, disgorgement, the imposition of a constructive trust, civil penalties of $2,500 against each defendant for each violation of B&P Code Section 17200 as authorized by B&P Code Section 17206, and costs of suit.

        After removing the City's action to the Bankruptcy Court on February 8, 2002, PG&E Corporation filed a motion to dismiss the complaint. Subsequently, the City filed a motion to remand the action to state court. On June 20, 2002, the Bankruptcy Court issued an Amended Order on Motion to Remand. (An initial order was issued

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on June 2, 2002.) In its remand order, the court retained jurisdiction over the causes of action for conversion and unjust enrichment, finding that these claims belong solely to the Utility and cannot be asserted by the City, but remanded the Section 17200 cause of action to the San Francisco Superior Court. Both parties have appealed the Bankruptcy Court's remand order. The appeal and cross-appeal are pending in the United States District Court for the Northern District of California.

        Following remand, PG&E Corporation brought a motion to strike. This motion is pending. PG&E Corporation also moved to coordinate this case with the Section 17200 case brought by Cynthia Behr, which is discussed below. That motion was granted.

        PG&E Corporation believes that the allegations of the complaint are without merit and will vigorously respond to and defend the litigation. PG&E Corporation is unable to predict whether the outcome of this litigation will have a material adverse effect on its financial condition or results of operations.

Cynthia Behr v. PG&E Corporation, et al.

        On February 14, 2002, this complaint was filed by a private plaintiff in Santa Clara Superior Court against PG&E Corporation and its directors, Pacific Gas and Electric Company's directors, and other parties, also alleging a violation of B&P Code Section 17200. The allegations of the complaint are similar to the allegations contained in the Attorney General's complaint but also include allegations of fraudulent transfer and violation of the California bulk sales laws. Plaintiff requests the same remedies as the Attorney General's case and in addition requests damages, attachment, and restraints upon the transfer of defendants' property. On March 8, 2002, PG&E Corporation filed a notice of removal in the bankruptcy court to transfer the complaint to the bankruptcy court. Subsequently, the plaintiff filed a motion to remand the action to state court.

        In its June 2002 ruling referred to above as to the Attorney General's case, the bankruptcy court retained jurisdiction over Behr's fraudulent transfer claim and bulk sales claim, finding them to belong to the Utility's estate. The bankruptcy court remanded Behr's Section 17200 claim to the Santa Clara Superior Court. Both parties have appealed the bankruptcy court's remand order. The appeal and cross-appeal are pending in the United States District Court for the Northern District of California.

        Following remand, PG&E Corporation moved to have the Behr case coordinated with the City's case described above. That motion was granted, and the Behr case will now proceed in San Francisco Superior Court.

        PG&E Corporation believes that the allegations of the complaint are without merit and will vigorously respond to and defend the litigation. PG&E Corporation is unable to predict whether the outcome of this litigation will have a material adverse effect on its financial condition or results of operations.

William Ahern, et al. v. Pacific Gas and Electric Company

        On February 27, 2002, a group of 25 ratepayers filed a complaint against the Utility at the CPUC demanding an immediate reduction of approximately 3.5 cents per kWh in allegedly excessive electric rates and a refund of alleged recent overcollections in electric revenue since June 1, 2001. The complaint claims that electric rate surcharges adopted in the first quarter of 2001 due to the high cost of wholesale power, surcharges that increased the average electric rate by 4.0 cents per kWh, became excessive later in 2001. (In January 2001, the CPUC authorized a 1.0 cent per kWh rate increase to pay for energy procurement costs. In March 2001, the CPUC authorized an additional 3.0 cent per kWh rate increase as of March 27, 2001, to pay for energy procurement costs, which the Utility began to collect in June 2001.) The only alleged overcollection amount calculated in the complaint is approximately $400 million during the last quarter of 2001. On April 2, 2002, the Utility filed an answer, arguing that the complaint should be denied and dismissed immediately as an impermissible collateral action and on the basis that the alleged facts, even if assumed to be true, do not establish that currently authorized electric rates are not reasonable. On May 10, 2002 the Utility filed a motion to dismiss the complaint. The CPUC has not yet issued a decision.

        PG&E Corporation and the Utility believe that the ultimate outcome of this matter will not have a material adverse impact on their financial condition or results of operations.

PG&E NEG's Brayton Point Generating Station

        On March 27, 2002, the Attorney General of the State of Rhode Island notified USGenNE of his belief that Brayton Point is operating in violation of applicability statutory and regulatory provisions, including what he

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characterized as "protections afforded by common law." The Attorney General purported to provide notice under the Massachusetts General Laws of his intention to seek judicial relief within the following thirty days to abate the alleged violations and to recover damages and to obtain other unexplained statutory and equitable remedies. PG&E NEG believes that Brayton Point Station is in full compliance with all applicable permits, laws and regulations. The complaint has not yet been filed or served. In May 2002, the Attorney General stated that he did not plan to file the action until the EPA issues a draft NPDES permit for Brayton Point. On July 22, 2002, the EPA and the Massachusetts Department of Environment, or DEP, issued a draft NPDES permit for Brayton Point that, among other things, substantially limits the discharge of heat by Brayton Point into Mt. Hope Bay. Based on its initial review of the draft permit, USGenNE believes that the draft permit is excessively stringent. It is estimated that USGenNE's cost to comply with the new permit conditions could be as much as $248 million through 2006, but this is a preliminary estimate. For more information, see Note 16 of the "Notes to Consolidated Financial Statements" of the 2002 Annual Report to Shareholders, portions of which are filed as Exhibit 13 to this report. The Rhode Island Attorney General has since stated that he has no intention of pursuing this matter until he reviews USGenNE's response to the draft permit, which was submitted on October 4, 2002.

        PG&E Corporation is unable to predict whether the Rhode Island Attorney General will pursue this matter and, if he does, the extent to which it will have a material adverse effect on PG&E Corporation's financial condition or results of operations.

ITEM 4.    Submission of Matters to a Vote of Security Holders.

        Not applicable.

EXECUTIVE OFFICERS OF THE REGISTRANTS

        "Executive officers," as defined by Rule 3b-7 of the General Rules and Regulations under the Securities and Exchange Act of 1934, of PG&E Corporation are as follows:

Name	Age at December 31, 2002	Position
R. D. Glynn, Jr.	60	Chairman of the Board, Chief Executive Officer, and President
P. A. Darbee	49	Senior Vice President and Chief Financial Officer
P. C. Iribe	52	Senior Vice President; Executive Vice President, PG&E National Energy Group, Inc.
C. P. Johns	42	Senior Vice President and Controller
T. B. King	41	Senior Vice President; President, PG&E National Energy Group, Inc.
L. E. Maddox	47	Senior Vice President; Executive Vice President, PG&E National Energy Group, Inc.
D.D. Richard, Jr.	52	Senior Vice President, Public Affairs; Senior Vice President, Public Affairs, Pacific Gas and Electric Company
G. R. Smith	54	Senior Vice President; President and Chief Executive Officer, Pacific Gas and Electric Company
G. B. Stanley	56	Senior Vice President, Human Resources
B. R. Worthington	53	Senior Vice President and General Counsel

        All officers of PG&E Corporation serve at the pleasure of the Board of Directors. During the past five years, the executive officers of PG&E Corporation had the following business experience. Except as otherwise noted, all positions have been held at PG&E Corporation.

Name	Position	Period Held Office
R. D. Glynn, Jr.	Chairman of the Board, Chief Executive Officer, and President	January 1, 1998 to present
	Chairman of the Board, Pacific Gas and Electric Company	January 1, 1998 to present

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P. A. Darbee	Senior Vice President and Chief Financial Officer	July 9, 2001 to present
	Senior Vice President Chief Financial Officer, and Treasurer	September 20, 1999 to July 8, 2001
	Vice President and Chief Financial Officer, Advance Fibre Communications, Inc.	June 30, 1997 to September 19, 1999
P. C. Iribe	Senior Vice President	January 1, 1999 to present
	Executive Vice President, PG&E National Energy Group, Inc.	August 9, 2002 to present
	President and Chief Operating Officer, East Region, PG&E National Energy Group, Inc.	July 1, 2000 to present
	President and Chief Operating Officer, PG&E National Energy Group Company	November 1, 1998 to present
	Executive Vice President and Chief Operating Officer, PG&E National Energy Group Company (formerly known as PG&E Generating Company)	September 1, 1997 to October 31, 1998
C. P. Johns	Senior Vice President and Controller	September 19, 2001 to present
	Vice President and Controller	July 1, 1997 to September 18, 2001
	Vice President and Controller, Pacific Gas and Electric Company	June 1, 1996 to December 31, 1999
T. B. King	Senior Vice President	January 1, 1999 to present
	President, PG&E National Energy Group, Inc.	November 15, 2002 to present
	President, PG&E Gas Transmission Corporation	November 15, 2002 to present
	President and Chief Operating Officer, Gas Transmission	August 9, 2002 to November 14, 2002
	President and Chief Operating Officer, West Region, PG&E National Energy Group, Inc.	July 1, 2000 to August 8, 2002
	President and Chief Operating Officer, PG&E Gas Transmission Corporation	November 23, 1998 to November 14, 2002
	President and Chief Operating Officer, Kinder Morgan Energy Partners, L.P.	February 14, 1997 to November 22, 1998
L. E. Maddox	Senior Vice President	June 1, 1997 to present
	Executive Vice President, PG&E National Energy Group, Inc.	November 15, 2002 to present
	President and Chief Operating Officer, Merchant Energy, PG&E National Energy Group, Inc.	August 9, 2002 to November 14, 2002
	President and Chief Operating Officer, Trading, PG&E National Energy Group, Inc.	July 1, 2000 to August 8, 2002
	President and Chief Executive Officer, PG&E Energy Trading-Gas Corporation	May 12, 1997 to present

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D. D. Richard, Jr.	Senior Vice President, Public Affairs	October 18, 2000 to present
	Vice President, Governmental Relations	July 1, 1997 to October 17, 2000
	Senior Vice President, Public Affairs, Pacific Gas and Electric Company	May 1, 1998 to present
	Senior Vice President, Governmental and Regulatory Relations, Pacific Gas and Electric Company	July 1, 1997 to April 30, 1998
G. B. Stanley	Senior Vice President, Human Resources	January 1, 1998 to present
	Senior Vice President, PG&E National Energy Group, Inc.	July 1, 2000 to present
	Vice President, Human Resources	June 1, 1997 to December 31, 1977
B. R. Worthington	Senior Vice President and General Counsel	June 1, 1997 to present
	Vice President, PG&E National Energy Group, Inc.	January 20, 1999 to July 1, 2000

        "Executive officers," as defined by Rule 3b-7 of the General Rules and Regulations under the Securities and Exchange Act of 1934, of Pacific Gas and Electric Company are as follows:

Name	Age at December 31, 2002	Position
G. R. Smith	54	President and Chief Executive Officer
K. M. Harvey	44	Senior Vice President, Chief Financial Officer, and Treasurer
R. J. Peters	52	Senior Vice President and General Counsel
J. K. Randolph	58	Senior Vice President and Chief of Utility Operations
D. D. Richard, Jr.	52	Senior Vice President, Public Affairs
G. M. Rueger	52	Senior Vice President, Generation and Chief Nuclear Officer

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        All officers of Pacific Gas and Electric Company serve at the pleasure of the Board of Directors. During the past five years, the executive officers of Pacific Gas and Electric Company had the following business experience. Except as otherwise noted, all positions have been held at Pacific Gas and Electric Company.

Name	Position	Period Held Office
G. R. Smith	President and Chief Executive Officer	June 1, 1997 to present
	Senior Vice President, PG&E Corporation	January 1, 1999 to present
K. M. Harvey	Senior Vice President, Chief Financial Officer, and Treasurer	November 1, 2000 to present
	Senior Vice President, Chief Financial Officer, Controller, and Treasurer	January 1, 2000 to October 31, 2000
	Senior Vice President, Chief Financial Officer, and Treasurer	July 1, 1997 to December 31, 1999
R. J. Peters	Senior Vice President and General Counsel	January 1, 1999 to present
	Vice President and General Counsel	July 1, 1997 to December 31, 1998
J. K. Randolph	Senior Vice President and Chief of Utility Operations	May 5, 2000 to present
	Senior Vice President and General Manager, Transmission, Distribution and Customer Service Business Unit	January 24, 2000 to May 4, 2000
	Senior Vice President and General Manager, Distribution and Customer Service Business Unit	July 1, 1997 to January 23, 2000
D. D. Richard, Jr.	Senior Vice President, Public Affairs (Please refer to description of business experience for executive officers of PG&E Corporation above.)	May 1, 1998 to present
G. M. Rueger	Senior Vice President, Generation and Chief Nuclear Officer	April 2, 2000 to present
	Senior Vice President and General Manager, Nuclear Power Generation Business Unit	November 1, 1991 to April 1, 2000

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PART II

ITEM 5. Market for the Registrant's Common Equity and Related Stockholder Matters.

        Information responding to part of Item 5, for each of PG&E Corporation and Pacific Gas and Electric Company, is set forth on page 173 under the heading "Quarterly Consolidated Financial Data (Unaudited)" in the 2002 Annual Report to Shareholders, which information is hereby incorporated by reference and filed as part of Exhibit 13 to this report. As of February 1, 2003, there were 117,812 holders of record of PG&E Corporation common stock. PG&E Corporation common stock is listed on the New York, Pacific, and Swiss stock exchanges. The discussion of dividends with respect to PG&E Corporation's common stock is hereby incorporated by reference from "Management's Discussion and Analysis of Financial Condition and Results of Operations—Dividends" on page 34 of the 2002 Annual Report to Shareholders.

        On June 25, 2002, PG&E Corporation issued to certain lenders warrants to purchase approximately 2.4 million shares of PG&E Corporation common stock at an exercise price of $0.01 per share. On October 18, 2002, PG&E Corporation issued to certain lenders additional warrants to purchase approximately 2.7 million shares of PG&E Corporation common stock. The terms and provisions of the warrants, including a warrant exercise price of $0.01 per share, are substantially identical to the warrants issued on June 25, 2002. The issuance of the warrants by PG&E Corporation was not registered under the Securities Act of 1933 in reliance on the exemption afforded by Section 4(2).

        Also, on June 25, 2002, PG&E Corporation issued $280 million aggregate principal amount of 7.50% Convertible Subordinated Notes due June 30, 2007. On October 18, 2002, the notes and the related indenture were amended to delete certain cross-default provisions, to increase the interest rate on the notes to 9.50% from 7.50%, to extend the maturity of the notes to June 30, 2010, from June 30, 2007, and to provide the holder of the notes with a one-time right to require PG&E Corporation to repurchase the notes on June 30, 2007, at a purchase price equal to the principal amount plus accrued and unpaid interest (including any liquidated damages and pass-through dividends, if any). The notes are unsecured and are subordinate to other PG&E Corporation debt. PG&E Corporation has the right, subject to certain limitations, to pay interest by issuing additional notes in lieu of paying cash. In addition to interest, if PG&E Corporation pays cash dividends to holders of its common stock, note holders are entitled to receive cash equal to the dividends that would have been paid with respect to the number of shares that the holder would be entitled to receive if the notes had been converted on the dividend record date. The notes may be converted by the holders into shares of PG&E Corporation common stock at a conversion price of $15.0873 per share. The conversion price is subject to adjustment under certain circumstances, including upon consummation of any spin-off transaction of the Utility as proposed in its plan of reorganization or a spin-off of the shares of PG&E NEG. The issuance of the notes by PG&E Corporation was not registered under the Securities Act of 1933 in reliance on the exemption afforded by Section 4(2).

        All obligations of PG&E Corporation with respect to certain loans are secured by a perfected first-priority security interest in the outstanding common stock of PG&E Corporation's subsidiary, the Utility, and all proceeds thereof. With respect to 35% of such common stock pledged for the benefit of the lenders, the lenders have customary rights of a pledgee of common stock, provided that certain regulatory approvals may be required in connection with any foreclosure on such stock. With respect to the remaining 65%, such common stock has been pledged for the benefit of the lenders, but the lenders have no ability to control such common stock under any circumstances and do not have any of the typical rights and remedies of a secured creditor. However, the lenders do have the right to receive any cash proceeds received upon a disposition of such common stock. PG&E Corporation may substitute common stock of Newco, a new corporation formed to hold the equity interests in the LLCs, for the common stock of the Utility in connection with the consummation of the Utility's plan of reorganization. The loans are also secured by substantially all assets of PG&E Corporation and continue to be secured by PG&E Corporation's ownership interest in PG&E National Energy Group, LLC, or PG&E NEG LLC, which is a Delaware limited liability company and the owner of the shares of PG&E NEG and PG&E NEG LLC's equity interest in PG&E NEG.

        PG&E Corporation has agreed to provide, following consummation of a plan of reorganization of the Utility, registration rights in connection with the shares issuable upon conversion of the notes and exercise of the warrants.

        Finally, in connection with the original credit agreement, the lenders had received an option to purchase up to 3% of the shares of PG&E NEG. Under the original credit agreement, PG&E Corporation's exercise of each of its one-year extensions of the loan was conditioned upon PG&E NEG granting affiliates of the lenders an additional option to purchase 1% of the common stock of PG&E NEG, determined on a fully-diluted basis, at an exercise price of $1.00. In connection with a new credit agreement entered into on June 25, 2002, the 1% was reduced to

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approximately .87% of the common stock of PG&E NEG or up to 2.61%. On September 3, 2002, General Electric Capital Corporation, or GECC, gave PG&E Corporation notice that it would put its options to PG&E Corporation under the Option Agreement, and GECC and PG&E Corporation were engaged in a process of appraising the options as provided under the Option Agreement. On October 30, 2002, before the completion of the appraisal process, GECC gave notice of cancellation of its put notice, which was accepted by PG&E Corporation. GECC no longer has the right to put these options to PG&E Corporation. On February 25, 2003, GECC exercised the options, which otherwise would have expired on March 1, 2003. PG&E Corporation and PG&E NEG LLC have agreed with the other holders of options under the Option Agreement that they may exercise their put option any time before March 1, 2003. These options must in any event also be exercised before March 1, 2003. The issuance of the put option by PG&E Corporation was not registered under the Securities Act of 1933 in reliance on the exemption afforded by Section 4(2).

        Pacific Gas and Electric Company did not make any sales of unregistered equity securities during 2002, the period covered by this report.

ITEM 6. Selected Financial Data.

        A summary of selected financial information, for each of PG&E Corporation and Pacific Gas and Electric Company for each of the last five fiscal years, is set forth on page 2 under the heading "Selected Financial Data" in the 2002 Annual Report to Shareholders, which information is hereby incorporated by reference and filed as part of Exhibit 13 to this report.

        Pacific Gas and Electric Company's ratio of earnings to fixed charges for the year ended December 31, 2002, was 3.91. Pacific Gas and Electric Company's ratio of earnings to combined fixed charges and preferred stock dividends for the year ended December 31, 2002, was 3.78. The statement of the foregoing ratios, together with the statements of the computation of the foregoing ratios filed as Exhibits 12.1 and 12.2 hereto, are included herein for the purpose of incorporating such information and exhibits into Registration Statement Nos. 33-62488, 33-64136, 33-50707, and 33-61959 relating to Pacific Gas and Electric Company's various classes of debt and first preferred stock outstanding.

ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

        A discussion of PG&E Corporation's and Pacific Gas and Electric Company's consolidated results of operations and financial condition is set forth on pages 3 through 70 under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the 2002 Annual Report to Shareholders, which discussion is hereby incorporated by reference and filed as part of Exhibit 13 to this report.

ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk.

        Information responding to Item 7A appears in the 2002 Annual Report to Shareholders on pages 57-65 under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations—Risk Management Activities," and on pages 95-96 and 134 under Notes 1, 4, 9, and 11 of the "Notes to the Consolidated Financial Statements" of the 2002 Annual Report to Shareholders, which information is hereby incorporated by reference and filed as part of Exhibit 13 to this report.

ITEM 8. Financial Statements and Supplementary Data.

        Information responding to Item 8 appears on pages 71 through 80 of the 2002 Annual Report to Shareholders under the following headings for PG&E Corporation: "Consolidated Statements of Operations," "Consolidated Balance Sheets," "Consolidated Statements of Cash Flows," and "Consolidated Statements of Common Stockholders' Equity;" under the following headings for Pacific Gas and Electric Company: "Consolidated Statements of Operations," "Consolidated Balance Sheets," "Consolidated Statements of Cash Flows," and "Consolidated Statements of Stockholders' Equity;" and under the following headings for PG&E Corporation and Pacific Gas and Electric Company jointly: "Notes to the Consolidated Financial Statements," "Quarterly Consolidated Financial Data (Unaudited)," "Independent Auditors' Report," and "Responsibility for the Consolidated Financial Statements," which information is hereby incorporated by reference and filed as part of Exhibit 13 to this report.

ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.

        Not applicable.

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PART III

ITEM 10. Directors and Executive Officers of the Registrant.

        Information regarding executive officers of PG&E Corporation and Pacific Gas and Electric Company is included in a separate item captioned "Executive Officers of the Registrants" contained on pages 72 through 75 in Part I of this report. Other information responding to Item 10 is included under the heading "Item No. 1: Election of Directors of PG&E Corporation and Pacific Gas and Electric Company" and under the heading "Section 16 Beneficial Ownership Reporting Compliance" in the Joint Proxy Statement relating to the 2003 Annual Meetings of Shareholders, which information is hereby incorporated by reference.

ITEM 11. Executive Compensation.

        Information responding to Item 11, for each of PG&E Corporation and Pacific Gas and Electric Company, is included under the heading "Compensation of Directors" and under the headings "Summary Compensation Table," "Option/SAR Grants in 2002," "Aggregated Option/SAR Exercises in 2002 and Year-End Option/SAR Values," "Long-Term Incentive Plan—Awards in 2002," "Retirement Benefits," "Employment Contracts/Arrangements," and "Termination of Employment and Change In Control Provisions" in the Joint Proxy Statement relating to the 2003 Annual Meetings of Shareholders, which information is hereby incorporated by reference.

ITEM 12. Security Ownership of Certain Beneficial Owners and Management.

        Information responding to Item 12, for each of PG&E Corporation and Pacific Gas and Electric Company, is included under the heading "Security Ownership of Management" and under the heading "Principal Shareholders" in the Joint Proxy Statement relating to the 2003 Annual Meetings of Shareholders, which information is hereby incorporated by reference.

Equity Compensation Plan Information

        The following table provides information as of December 31, 2002, concerning shares of PG&E Corporation common stock authorized for issuance under PG&E Corporation's existing equity compensation plans.

	(a)	(b)		(c)
Plan Category	Number of Securities to be Issued Upon Exercise of Outstanding Options, Warrants and Rights	Weighted Average Exercise Price of Outstanding Options, Warrants and Rights		Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding Securities Reflected in Column (a))
Equity compensation plans approved by shareholders	31,019,981	$	22.22	18,337,728	(1)
Equity compensation plans not approved by shareholders	—	$	—	—
Total equity compensation plans	31,019,981	$	22.22	18,337,728

⁽¹⁾

Represents the total number of shares available for issuance under PG&E Corporation's Long-Term Incentive Program (LTIP) as of December 31, 2002, as stock options, stock appreciation rights, dividend equivalents, performance units, restricted stock, common stock equivalents, or other stock-based awards, including Special Incentive Stock Ownership Premiums. Outstanding stock-based awards have been granted under various components of the LTIP as stock options, under the Non-Employee Director Stock Incentive Plan (as restricted stock), and under the Executive Stock Ownership Program (as stock equivalents paid out in stock upon retirement or termination). No more than 5,000,000 of the reserved shares may be awarded as restricted stock. For a description of the Corporation's Long-Term Incentive Program, see Note 14 to the Consolidated Financial Statements.

ITEM 13. Certain Relationships and Related Transactions.

        Information responding to Item 13, for each of PG&E Corporation and Pacific Gas and Electric Company, is included under the heading "Certain Relationships and Related Transactions" in the Joint Proxy Statement relating to the 2003 Annual Meetings of Shareholders, which information is hereby incorporated by reference.

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ITEM 14. Controls and Procedures.

        Based on an evaluation of PG&E Corporation's and the Utility's disclosure controls and procedures conducted on February 7, 2003 and February 5, 2003, respectively, PG&E Corporation's and the Utility's principal executive officers and principal financial officers have concluded that such controls and procedures effectively ensure that information required to be disclosed by PG&E Corporation and the Utility in reports that the companies file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified in the SEC rules and forms.

        There were no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation.

ITEM 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

(a)

The following documents are filed as a part of this report:

1.

The following consolidated financial statements, supplemental information, and independent auditors' report are contained in the 2002 Annual Report to Shareholders, which have been incorporated by reference in this report:

Consolidated Statements of Operations for the Years Ended December 31, 2002, 2001, and 2000, for each of PG&E Corporation and Pacific Gas and Electric Company.

Consolidated Balance Sheets at December 31, 2002, and 2001 for each of PG&E Corporation and Pacific Gas and Electric Company.

Consolidated Statements of Common Stockholders' Equity for the Years Ended December 31, 2002, 2001, and 2000, for PG&E Corporation.

Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2002, 2001, and 2000 for Pacific Gas and Electric Company.

Notes to Consolidated Financial Statements.

Quarterly Consolidated Financial Data (Unaudited).

Independent Auditors' Report (Deloitte & Touche LLP).

Independent Auditors' Report (Deloitte & Touche LLP) included at page 93 of this Form 10-K.

2.

Financial statement schedules:

I—Condensed Financial Information of Parent for the Years Ended December 31, 2002, 2001, and 2000.

II—Consolidated Valuation and Qualifying Accounts for each of PG&E Corporation and Pacific Gas and Electric Company for the Years Ended December 31, 2002, 2001, and 2000.

        Schedules not included are omitted because of the absence of conditions under which they are required or because the required information is provided in the consolidated financial statements including the notes thereto.

3.

Exhibits required to be filed by Item 601 of Regulation S-K:

3.1	Restated Articles of Incorporation of PG&E Corporation effective as of May 5, 2000 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 2000 (File No. 1-12609), Exhibit 3.1)
3.2	Certificate of Determination for PG&E Corporation Series A Preferred Stock filed December 22, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 3.2)
3.3	Bylaws of PG&E Corporation amended as of February 19, 2003
3.4	Restated Articles of Incorporation of Pacific Gas and Electric Company effective as of May 6, 1998 (incorporated by reference to Pacific Gas and Electric Company's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-2348), Exhibit 3.1)
3.5	Bylaws of Pacific Gas and Electric Company amended as of February 19, 2003

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4.1	First and Refunding Mortgage of Pacific Gas and Electric Company dated December 1, 1920, and supplements thereto dated April 23, 1925, October 1, 1931, March 1, 1941, September 1, 1947, May 15, 1950, May 1, 1954, May 21, 1958, November 1, 1964, July 1, 1965, July 1, 1969, January 1, 1975, June 1, 1979, August 1, 1983, and December 1, 1988 (incorporated by reference to Registration No. 2-1324, Exhibits B-1, B-2, and B-3; Registration No. 2-4676, Exhibit B-22; Registration No. 2-7203, Exhibit B-23; Registration No. 2-8475, Exhibit B-24; Registration No. 2-10874, Exhibit 4B; Registration No. 2-14144, Exhibit 4B; Registration No. 2-22910, Exhibit 2B; Registration No. 2-23759, Exhibit 2B; Registration No. 2-35106, Exhibit 2B; Registration No. 2-54302, Exhibit 2C; Registration No. 2-64313, Exhibit 2C; Registration No. 2-86849, Exhibit 4.3; and Pacific Gas and Electric Company's Form 8-K dated January 18, 1989 (File No. 1-2348), Exhibit 4.2)
4.2	Indenture related to PG&E Corporation's 7.5% Convertible Subordinated Notes due June 2007, dated as of June 25, 2002, between PG&E Corporation and U.S. Bank, N.A., as Trustee (incorporated by reference to PG&E Corporation's Form 8-K filed June 26, 2002 (File No. 1-12609), Exhibit 99.1).
4.3	Supplemental Indenture related to PG&E Corporation's 9.50% Convertible Subordinated Notes due June 2010, dated as of October 18, 2002, between PG&E Corporation and U.S. Bank, N.A., as Trustee (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2002 (File No. 1-12609), Exhibit 4.1)
4.4	Warrant Agreement, dated as of June 25, 2002, by and among PG&E Corporation, LB I Group Inc., and each other entity named on the signature pages thereto (incorporated by reference to PG&E Corporation's Form 8-K filed June 26, 2002 (File No. 1-12609), Exhibit 99.9).
4.5	Warrant Agreement, dated as of October 18, 2002, by and among PG&E Corporation, LB I Group Inc., and each other entity named on the signature pages thereto (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2002 (File No. 1-12609), Exhibit 4.2)
4.6	Form of Rights Agreement dated as of December 22, 2000, between PG&E Corporation and Mellon Investor Services LLC, including the Form of Rights Certificate as Exhibit A, the Summary of Rights to Purchase Preferred Stock as Exhibit B, and the Form of Certificate of Determination of Preferences for the Preferred Stock as Exhibit C (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 4.2)
10.1	The Gas Accord Settlement Agreement, together with accompanying tables, adopted by the California Public Utilities Commission on August 1, 1997, in Decision 97-08-055 (incorporated by reference to PG&E Corporation's and Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 1997 (File No. 1-12609 and File No. 1-2348), Exhibit 10.2), as amended by Operational Flow Order (OFO) Settlement Agreement, approved by the California Public Utilities Commission on February 17, 2000, in Decision 00-02-050, as amended by Comprehensive Gas OII Settlement Agreement, approved by the California Public Utilities Commission on May 18, 2000, in Decision 00-05-049 (incorporated by reference to PG&E Corporation's and Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 2000 (File No. 1-12609 and File No. 1-2348), Exhibit 10); and the Gas Accord II Settlement Agreement, approved by the California Public Utilities Commission on August 22, 2002, in Decision 01-09-016
10.2	Second Amended and Restated Credit Agreement, dated as of October 18, 2002, among PG&E Corporation, as Borrower, the Lenders party thereto, Lehman Commercial Paper Inc., as Administrative Agent, and other parties (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.1)
10.3.1	Utility Stock Pledge Agreement (35 percent)—Continued Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.2)

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10.3.2	Utility Stock Pledge Agreement (35 percent)—New Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.3)
10.3.3	Utility Stock Pledge Agreement (65 percent)—Continued Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.4)
10.3.4	Utility Stock Pledge Agreement (65 percent)—New Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.5)
10.4	Amended and Restated Credit Agreement among PG&E National Energy Group, Inc. and Chase Manhattan Bank dated August 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.3
10.5	Second Amendment, dated as of October 18, 2002, to the Amended and Restated Credit Agreement, dated as of August 22, 2001, among PG&E National Energy Group, Inc., JPMorgan Chase Bank (formerly known as The Chase Manhattan Bank), as Issuing Bank, the several lenders from time to time parties thereto, the Documentation Agents thereunder, the Syndication Agents thereunder, and JPMorgan Chase Bank, as Administrative Agent. (incorporated by reference to PG&E National Energy Group, Inc.'s Form 8-K filed October 28, 2002) (File No. 333-66032), Exhibit 10.1)
10.6	Credit Agreement, dated as of May 29, 2001, among PG&E National Energy Group Construction Company, LLC, as Borrower, the lenders from time to time parties thereto, and Societe Generale, as Administrative Agent and Security Agent
10.7	First Amendment to Credit Agreement, dated as of June 5, 2002, among PG&E National Energy Group Construction Company, LLC, the lenders party thereto, and Societe Generale, as Administrative Agent and Security Agent
10.8	Guarantee and Agreement (Turbine Credit Agreement), dated as of May 29, 2001, made by PG&E National Energy Group, Inc. in favor of Societe Generale, as Security Agent
10.9	Amended and Restated Credit Agreement, dated as of March 15, 2002, among GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent and a Lead Arranger, Citibank, N.A., as Syndication Agent and a Lead Arranger, the other agents and arrangers thereunder, JP Morgan Chase Bank, as issuer of the Letters of Credit thereunder, the financial institutions party thereto from time to time, and various other parties
10.10	Amended and Restated Guarantee and Agreement dated as of March 15, 2002, by PG&E National Energy Group, Inc., in favor of Societe Generale, as Administrative Agent
10.11	Acknowledgement and Amendment Agreement, (GenHoldings I, LLC) dated as of April 5, 2002, by and among PG&E National Energy Group, Inc., GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent, and the banks and lenders party thereto
10.12	Waiver and Amendment Agreement, dated as of September 25, 2002, among GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent, Citibank N.A., as Depository Agent, and the banks and lender group agents party thereto.
10.13	Third Waiver and Amendment, dated as of November 14, 2002, among GenHoldings I, LLC, as Borrower, various lenders identified as the GenHoldings Lenders, Societe Generale, as Administrative Agent, Citibank, N.A., as Security Agent, and acknowledged and agreed to by PG&E National Energy Group, Inc.
10.14	Fourth Waiver and Amendment dated as of December 23, 2002, among GenHoldings I, LLC, various lenders identified as the GenHoldings Lenders, the Administrative Agent, and acknowledged and agreed to by PG&E National Energy Group, Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.1)

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10.15	Second Omnibus Restructuring Agreement dated as of December 4, 2002 among La Paloma Generating Company, LLC, La Paloma Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.2)
10.16	Priority Credit and Reimbursement Agreement among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority Working Capital L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002 (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.3)
10.17	Guarantee and Agreement (La Paloma), dated as of April 6, 2001, by PG&E National Energy Group, Inc. in favor of Citibank, N.A., as Security Agent
10.18	Second Omnibus Restructuring Agreement dated as of December 4, 2002 among Lake Road Generating Company, LLC, Lake Road Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.4)
10.19	Priority Credit and Reimbursement Agreement among Lake Road Generating Company, LLC, Lake Road Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002 (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.5)
10.20	Amendment, Waiver and Consent Agreement dated as of November 6, 2002, among La Paloma Generating Company, LLC, La Paloma Generating Trust, Ltd., Wilmington Trust Company as Trustee, Citibank, N.A., as administrative agent and security agent, and various other parties
10.21	Guarantee and Agreement (Lake Road), dated as of April 6, 2001, made by PG&E National Energy Group, Inc. in favor of Citibank, N.A., as Security Agent
*10.22	PG&E Corporation Supplemental Retirement Savings Plan amended effective as of September 19, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.4)
*10.23	Agreement and Release between PG&E Corporation and Thomas G. Boren, dated December 18, 2002
*10.24	Description of Compensation Arrangement between PG&E Corporation and Peter Darbee (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 1999 (File No. 1-12609), Exhibit 10.3)
*10.25	Letter regarding Compensation Arrangement between PG&E Corporation and Thomas B. King dated November 4, 1998 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.6)
*10.26	Letter regarding Compensation Arrangement between PG&E Corporation and Lyn E. Maddox dated April 25, 1997 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.7)
*10.27	Letter Regarding Relocation Arrangement Between PG&E Corporation and Thomas B. King dated March 16, 2000 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 2000 (File No. 1-12609), Exhibit 10)
*10.28	Description of Relocation Arrangement Between PG&E Corporation and Lyn E. Maddox (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.9)

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*10.29	PG&E Corporation Senior Executive Officer Retention Program approved December 20, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10)
*10.30.1	Letter regarding retention award to Robert D. Glynn, Jr. dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.1)
*10.30.2	Letter regarding retention award to Gordon R. Smith dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.2)
*10.30.3	Letter regarding retention award to Peter A. Darbee dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.3)
*10.30.4	Letter regarding retention award to Bruce R. Worthington dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.4)
*10.30.5	Letter regarding retention award to G. Brent Stanley dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.5)
*10.30.6	Letter regarding retention award to Daniel D. Richard, Jr. dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.6)
*10.30.7	Letter regarding retention award to James K. Randolph dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.7)
*10.30.8	Letter regarding retention award to Gregory M. Rueger dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.8)
*10.30.9	Letter regarding retention award to Kent M. Harvey dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.9)
*10.30.10	Letter regarding retention award to Roger J. Peters dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.10))
*10.30.11	Letter regarding retention award to Lyn E. Maddox dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.12)
*10.30.12	Letter regarding retention award to P. Chrisman Iribe dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.13)
*10.30.13	Letter regarding retention award to Thomas B. King dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.14)
*10.31	Pacific Gas and Electric Company Management Retention Program (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2001 (File No. 1-12609), Exhibit 10.1)
*10.32	PG&E Corporation Management Retention Program (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2001 (File No. 1-12609), Exhibit 10.2)
*10.33	PG&E Corporation Deferred Compensation Plan for Non-Employee Directors, as amended and restated effective as of July 22, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 1998 (File No. 1-12609), Exhibit 10.2)

83

*10.34	Description of Short-Term Incentive Plan for Officers of PG&E Corporation and its subsidiaries, effective January 1, 2002 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.25)
*10.35	Description of Short-Term Incentive Plan for Officers of PG&E Corporation and its subsidiaries, effective January 1, 2003.
*10.36	Supplemental Executive Retirement Plan of the Pacific Gas and Electric Company amended as of September 19, 2001 (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 2001 (File No. 1-2248), Exhibit 10.16)
*10.37.1	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Robert D. Glynn, Jr. dated December 20, 2002
*10.37.2	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Bruce R. Worthington dated December 20, 2002
*10.37.3	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Gregory M. Rueger dated December 20, 2002
*10.37.4	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Gordon R. Smith dated December 20, 2002
*10.37.5	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and James K. Randolph dated December 20, 2002
*10.37.6	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Thomas G. Boren dated December 20, 2002
*10.38	Pacific Gas and Electric Company Relocation Assistance Program for Officers (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for fiscal year 1989 (File No. 1-2348), Exhibit 10.16)
*10.39	Postretirement Life Insurance Plan of the Pacific Gas and Electric Company (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for fiscal year 1991 (File No. 1-2348), Exhibit 10.16)
*10.40	PG&E Corporation Retirement Plan for Non-Employee Directors, as amended and terminated January 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 1997 (File No. 1-12609), Exhibit 10.13)
*10.41	PG&E Corporation Long-Term Incentive Program, as amended May 16, 2001, including the PG&E Corporation Stock Option Plan, Performance Unit Plan, and Non-Employee Director Stock Incentive Plan (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended June 30, 2001 (File No. 1-12609), Exhibit 10)
*10.42	PG&E Corporation Executive Stock Ownership Program, amended as of September 19, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.20)
*10.43	PG&E Corporation Officer Severance Policy, amended as of December 19, 2001
*10.44	PG&E Corporation Director Grantor Trust Agreement dated April 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-12609), Exhibit 10.1)
*10.45	PG&E Corporation Officer Grantor Trust Agreement dated April 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-12609), Exhibit 10.2)
*10.46	PG&E Corporation Form of Restricted Stock Award Agreement granted under the PG&E Corporation Long-Term Incentive Program
11	Computation of Earnings Per Common Share
12.1	Computation of Ratios of Earnings to Fixed Charges for Pacific Gas and Electric Company
12.2	Computation of Ratios of Earnings to Combined Fixed Charges and Preferred Stock Dividends for Pacific Gas and Electric Company

84

13	The following portions of the 2002 Annual Report to Shareholders of PG&E Corporation and Pacific Gas and Electric Company are included: "Selected Financial Data," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Independent Auditors' Report," "Responsibility for Consolidated Financial Statements," financial statements of PG&E Corporation entitled "Consolidated Statements of Operations," "Consolidated Balance Sheets, " "Consolidated Statements of Cash Flows," and "Consolidated Statements of Common Stockholders' Equity," financial statements of Pacific Gas and Electric Company entitled "Consolidated Statements of Operations," "Consolidated Balance Sheets," "Consolidated Statements of Cash Flows," "Consolidated Statements of Stockholders' Equity," "Notes to Consolidated Financial Statements," and "Quarterly Consolidated Financial Data (Unaudited)"
21	Subsidiaries of the Registrant
23	Independent Auditors' Consent (Deloitte & Touche LLP)
24.1	Resolutions of the Boards of Directors of PG&E Corporation and Pacific Gas and Electric Company authorizing the execution of the Form 10-K
24.2	Powers of Attorney
99.1	Certifications of the Chief Executive Officer and the Chief Financial Officer of PG&E Corporation required by Section 906 of the Sarbanes-Oxley Act of 2002
99.2	Certifications of the Chief Executive Officer and the Chief Financial Officer of Pacific Gas and Electric Company required by Section 906 of the Sarbanes-Oxley Act of 2002

*

Management contract or compensatory plan or arrangement required to be filed as an exhibit to this report pursuant to Item 14(c) of Form 10-K.

        The exhibits filed herewith are attached hereto (except as noted) and those indicated above which are not filed herewith were previously filed with the Commission and are hereby incorporated by reference. All exhibits filed herewith or incorporated by reference are filed with respect to both PG&E Corporation (File No. 1-12609) and Pacific Gas and Electric Company (File No. 1-2348), unless otherwise noted. Exhibits will be furnished to security holders of PG&E Corporation or Pacific Gas and Electric Company upon written request and payment of a fee of $0.30 per page, which fee covers only the registrants' reasonable expenses in furnishing such exhibits. The registrants agree to furnish to the Commission upon request a copy of any instrument defining the rights of long-term debt holders not otherwise required to be filed hereunder.

(b)

Reports on Form 8-K

        Reports on Form 8-K⁽¹⁾ during the quarter ended December 31, 2002, and through the date hereof:

1.	October 3, 2002	Item 5. Other Events
			A.	PG&E Corporation-new waiver extension
			B.	Pacific Gas and Electric Company bankruptcy: Monthly Operating Report
		Item 7. Financial Statements, Pro Forma, Financial Information, and Exhibits
				Exhibit 99.1—Amendment to Second Amended and Restated Waiver and Amendment Agreement, dated October 1, 2002, by and among PG&E Corporation, PG&E National Energy Group, LLC, Lehman Commercial Paper Inc. as administrative agent, and certain of the lenders party to the Amended and Restated Credit Agreement dated as of June 25, 2002
				Exhibit 99.2—Pacific Gas and Electric Company Income Statement for the month ended August 31, 2002, and Balance Sheet dated August 31, 2002

85

2.	October 10, 2002—	Item 5. Other Events
	PG&E Corporation only
			A.	PG&E National Energy Group, Inc. credit ratings downgrades
3.	October 15, 2002	Item 5. Other Events
			A.	Pacific Gas and Electric Company's 2003 Cost of Capital Proceeding
			B.	Pacific Gas and Electric Company bankruptcy
4.	October 21, 2002—	Item 5. Other Events
	PG&E Corporation only
			A.	PG&E National Energy Group credit ratings downgrades
5.	October 22, 2002—	Item 5. Other Events
	PG&E Corporation only
		Item 7. Financial Statements, Pro Forma Financial Information, and Exhibits
				Exhibit 99.1—Second and Amended Restated Credit Agreement, dated as of October 18, 2002, among PG&E Corporation, the lenders party thereto, Lehman Commercial Paper Inc., as Administrative Agent, and other parties
				Exhibit 99.2—Utility Stock Pledge Agreement (35 percent)—Continued Tranche B Loan, dated as of October 18, 2002
				Exhibit 99.3—Utility Stock Pledge Agreement (35 percent)—New Tranche B Loan, dated as of October 18, 2002
				Exhibit 99.4—Utility Stock Pledge Agreement (65 percent)—Continued Tranche B Loan, dated as of October 18, 2002
				Exhibit 99.5—Utility Stock Pledge Agreement (65 percent)—New Tranche B Loan, dated as of October 18, 2002
6.	November 18, 2002	Item 5. Other Events
	PG&E Corporation only
			A.	PG&E National Energy Group, Inc. defaults
			B.	PG&E National Energy Group, Inc. credit ratings
7.	December 4, 2002—	Item 5. Other Events
			A.	Pacific Gas and Electric Company 2002 Attrition Revenue Adjustment
			B.	Pacific Gas and Electric Company bankruptcy: Monthly Operating Report
		Item 7. Financial Statements, Pro Forma, Financial Information, and Exhibits
				Exhibit 99.1—Pacific Gas and Electric Company Income Statement for the month ended October 31, 2002, and Balance Sheet dated October 31, 2002

86

8.	January 6, 2003	Item 5. Other Events
			A.	Resumption of Power Procurement
			B.	Pacific Gas and Electric Company bankruptcy: Monthly Operating Report
			C.	General Rate Case 2003
			D.	Pacific Gas and Electric Company bankruptcy: Monthly Operating Report
		Item 7. Financial Statements, Pro Forma, Financial Information, and Exhibits
				Exhibit 99.1—Pacific Gas and Electric Company Income Statement for the month ended November 30, 2002, and Balance Sheet dated November 30, 2002
9.	January 16, 2003	Item 5. Other Events
	PG&E Corporation and PG&E National Energy Group, Inc.
		Item 7. Financial Statements, Pro Forma, Financial Information, and Exhibits
				Exhibit 99.1—Fourth Waiver and Amendment dated as of December 23, 2002, among GenHoldings I, LLC, various lenders identified as the GenHoldings Lenders, the Administrative Agent, and acknowledged and agreed to by PG&E National Energy Group, Inc.
				Exhibit 99.2—Second Omnibus Restructuring Agreement dated as of December 4, 2002 among La Paloma Generating Company, LLC, La Paloma Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc.
				Exhibit 99.3—Priority Credit and Reimbursement Agreement among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority Working Capital L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002
				Exhibit 99.4—Second Omnibus Restructuring Agreement dated as of December 4, 2002 among Lake Road Generating Company, LLC, Lake Road Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc.
				Exhibit 99.5—Priority Credit and Reimbursement Agreement among Lake Road Generating Company, LLC, Lake Road Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002

⁽¹⁾

Unless otherwise noted, all reports were filed under Commission File Number 1-2348 (Pacific Gas and Electric Company) and Commission File Number 1-12609 (PG&E Corporation).

87

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrants have duly caused this report to be signed on their behalf by the undersigned, thereunto duly authorized, in the City and County of San Francisco, on the 27th day of February, 2003.

PG&E CORPORATION (Registrant)		PACIFIC GAS AND ELECTRIC COMPANY (Registrant)
By	GARY P. ENCINAS (Gary P. Encinas, Attorney-in-Fact)	By	GARY P. ENCINAS (Gary P. Encinas, Attorney-in-Fact)

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrants and in the capacities and on the dates indicated.

Signature	Title	Date
A. Principal Executive Officers
*ROBERT D. GLYNN, JR.	Chairman of the Board, Chief Executive Officer, and President (PG&E Corporation)	February 27, 2003
*GORDON R. SMITH	President and Chief Executive Officer (Pacific Gas and Electric Company)	February 27, 2003
B. Principal Financial Officers
*PETER A. DARBEE	Senior Vice President and Chief Financial Officer (PG&E Corporation)	February 27, 2003
*KENT M. HARVEY	Senior Vice President, Chief Financial Officer, and Treasurer (Pacific Gas and Electric Company)	February 27, 2003
C. Principal Accounting Officers
*CHRISTOPHER P. JOHNS	Senior Vice President and Controller (PG&E Corporation)	February 27, 2003
*DINYAR B. MISTRY	Vice President-Controller (Pacific Gas and Electric Company)	February 27, 2003
D. Directors
*DAVID R. ANDREWS *DAVID A. COULTER *C. LEE COX *WILLIAM S. DAVILA *ROBERT D. GLYNN, JR. *MARY S. METZ *CARL E. REICHARDT *GORDON R. SMITH     (Director of Pacific Gas and Electric     Company only) *BARRY LAWSON WILLIAMS	Directors of PG&E Corporation and Pacific Gas and Electric Company, except as noted	February 27, 2003

*By GARY P. ENCINAS Gary P. Encinas, Attorney-in-Fact

88

I, Robert D. Glynn, Jr., certify that:

        1.    I have reviewed this annual report on Form 10-K of PG&E Corporation;

        2.    Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

        3.    Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

        4.    The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

•

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;



•

evaluated the effectiveness of the registrant's disclosure controls and procedures within 90 days prior to the filing date of this annual report (the Evaluation Date); and



•

presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

        5.    The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

•

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



•

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

        6.    The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: February 26, 2003
	ROBERT D. GLYNN, JR. ROBERT D. GLYNN, JR. Chairman, Chief Executive Officer and President PG&E Corporation

89

I, Peter A. Darbee, certify that:

        1.    I have reviewed this annual report on Form 10-K of PG&E Corporation;

        2.    Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

        3.    Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

        4.    The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

•

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;



•

evaluated the effectiveness of the registrant's disclosure controls and procedures within 90 days prior to the filing date of this annual report (the Evaluation Date); and



•

presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

        5.    The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

•

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



•

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

        6.    The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: February 26, 2003
	PETER A. DARBEE PETER A. DARBEE Senior Vice President and Chief Financial Officer PG&E Corporation

90

I, Gordon R. Smith, certify that:

        1.    I have reviewed this annual report on Form 10-K of Pacific Gas and Electric Company;

        2.    Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

        3.    Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

        4.    The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

•

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;



•

evaluated the effectiveness of the registrant's disclosure controls and procedures within 90 days prior to the filing date of this annual report (the Evaluation Date); and



•

presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

        5.    The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

•

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



•

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

        6.    The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: February 26, 2003
	GORDON R. SMITH GORDON R. SMITH President and Chief Executive Officer Pacific Gas and Electric Company

91

I, Kent M. Harvey, certify that:

        1.    I have reviewed this annual report on Form 10-K of Pacific Gas and Electric Company;

        2.    Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

        3.    Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

        4.    The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

•

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;



•

evaluated the effectiveness of the registrant's disclosure controls and procedures within 90 days prior to the filing date of this annual report (the Evaluation Date); and



•

presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

        5.    The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

•

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



•

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

        6.    The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: February 26, 2003
	KENT M. HARVEY KENT M. HARVEY Senior Vice President, Chief Financial Officer, and Treasurer Pacific Gas and Electric Company

92

INDEPENDENT AUDITORS' REPORT

To the Shareholders and the Boards of Directors of
PG&E Corporation and Pacific Gas and Electric Company

        We have audited the consolidated financial statements of PG&E Corporation and subsidiaries and of Pacific Gas and Electric Company (a Debtor-in-Possession) and subsidiaries as of December 31, 2002 and 2001, and for each of the three years in the period ended December 31, 2002 and have issued our report thereon dated February 24, 2003, which report includes explanatory paragraphs relating to (i) PG&E Corporation's adoption of new accounting standards in 2002 relating to accounting for goodwill and intangible assets, impairment of long-lived assets, discontinued operations, gains and losses on debt extinguishment, certain derivative contracts and PG&E Corporation's change in method of reporting gains and losses associated with energy trading contracts from the gross method to the net method and retroactive reclassification of the consolidated statements of operations for 2001 and 2000, (ii) PG&E Corporation's and Pacific Gas and Electric Company's adoption of new accounting standards in 2001 relating to derivative contracts, and (iii) the ability of PG&E Corporation and Pacific Gas and Electric Company to continue as going concerns. Such consolidated financial statements are included in the combined 2002 Annual Report to Shareholders (of PG&E Corporation and Pacific Gas and Electric Company) and are incorporated herein by reference. Our audits also included the respective consolidated financial statement schedules of PG&E Corporation and Pacific Gas and Electric Company, listed in Item 15(a)2. These consolidated financial statement schedules are the responsibility of the respective managements of PG&E Corporation and Pacific Gas and Electric Company. Our responsibility is to express an opinion based on our audits. In our opinion, such consolidated financial statement schedules, when considered in relation to the respective basic financial statements of PG&E Corporation and Pacific Gas and Electric Company taken as a whole, present fairly in all material respects the information set forth therein.

DELOITTE & TOUCHE LLP
San Francisco, California
February 24, 2003

93

SCHEDULE I—CONDENSED FINANCIAL INFORMATION OF PARENT
CONDENSED BALANCE SHEETS

			December 31,
(in millions)			2002			2001
Assets:
Cash and cash equivalents			$	182		$	348
Restricted cash				377			—
Advances to affiliates				479			404
Note receivable from subsidiary				208			308
Other current assets				1			1
		Total current assets		1,247			1,061
Equipment				20			19
Accumulated depreciation				(12	)		(9	)
Net equipment				8			10
Investments in subsidiaries				2,963			4,595
Other investments				33			61
Deferred income taxes				702			42
Other				34			57
		Total Assets	$	4,987		$	5,826
Liabilities and Stockholders' Equity:
Current Liabilities:
	Accounts payable—related parties		$	31		$	22
	Accounts payable—other			38			17
	Note payable to subsidiary			—			75
	Accrued taxes			133			309
	Other			57			25
		Total current liabilities		259			448
Noncurrent Liabilities:
	Long-term debt			976			904
	Other			46			182
		Total noncurrent liabilities		1,022			1,086
Stockholders' Equity:
	Common stock			6,274			5,986
	Common stock held by subsidiary			(690	)		(690	)
	Reinvested earnings			(1,878	)		(1,004	)
		Total stockholders' equity		3,706			4,292
		Total Liabilities and Stockholders' Equity	$	4,987		$	5,826

94

SCHEDULE I—CONDENSED FINANCIAL INFORMATION OF PARENT—(Continued)
CONDENSED STATEMENTS OF INCOME
For the Years Ended December 31, 2002, 2001, and 2000

(in millions except per share amounts)	2002			2001			2000
Administrative service revenue	$	96		$	95		$	111
Equity in earnings (losses) of subsidiaries		(434	)		1,037			(3,415	)
Operating expenses		(141	)		(108	)		(111	)
Interest income		30			35			20
Interest expense		(253	)		(132	)		(27	)
Other income		81			4			2
Income (Loss) Before Income Taxes		(621	)		931			(3,420	)
Less: Income Taxes		(564	)		(52	)		(4	)
Income (Loss) from continuing operations		(57	)		983			(3,416	)
Discontinued operations		(756	)		107			59
Cumulative effect of a change in an accounting principle		(61	)		9			—
Net income (loss) before intercompany elimination		(874	)		1,099			(3,357	)
Eliminations of intercompany (profit) loss		—			—			(7	)
Net income (loss)	$	(874	)	$	1,099		$	(3,364	)
Weighted Average Common Shares Outstanding		371			363			362
Earnings (Loss) Per Common Share, Basic	$	(2.36	)	$	3.03		$	(9.29	)
Earnings (Loss) Per Common Share, Diluted	$	(2.36	)	$	3.02		$	(9.29	)

CONDENSED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2002, 2001, and 2000

(in millions)		2002			2001			2000
Cash Flows from Operating Activities:
Net income (loss)		$	(874	)	$	1,099		$	(3,364	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
	Equity in earnings of subsidiaries		1,623			(1,143	)		3,316
	Deferred taxes		(525	)		(51	)		20
	Distributions from consolidated subsidiaries		—			—			475
	Other-net		(608	)		218			232
Net cash provided by operating activities		$	(382	)	$	123		$	679
Cash Flows From Investing Activities:
	Capital expenditures		(1	)		(4	)		1
	Investment in subsidiaries		—			—			(555	)
	Loans to subsidiaries		—			—			(308	)
	Return of capital by Utility (share repurchases)		—			—			275
	Other-net		—			—			(9	)
Net cash provided (used) by investing activities		$	(1	)	$	(4	)	$	(596	)
Cash Flows From Financing Activities:
	Common stock issued		217			15			65
	Common stock repurchased		—			(1	)		(2	)
	Loans from subsidiary		—			—			75
	Long-term debt issued		908			904			—
	Long-term debt matured, redeemed, or repurchased		(908	)		—			—
	Short-term debt issued (redeemed)		—			(931	)		405
	Dividends paid		—			(109	)		(436	)
	Other-net		—			—			6
Net cash provided (used) by financing activities		$	217		$	(122	)	$	113
Net Change in Cash and Cash Equivalents			(166	)		(3	)		196
Cash and Cash Equivalents at January 1			348			351			155
Cash and Cash Equivalents at December 31		$	182		$	348		$	351

95

PG&E CORPORATION
SCHEDULE II—CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended December 31, 2002, 2001, and 2000

Column A		Column B		Column C					Column D			Column E
				Additions
(in millions)                                     Description		Balance at Beginning of Period		Charged to Costs and Expenses		Charged to Other Accounts			Deductions			Balance at End of Period
Valuation and qualifying accounts deducted from assets:
2002:
	Allowance for uncollectible accounts(2)	$	89		58		(2	)		32	(1)		113
2001:
	Allowance for uncollectible accounts(2)	$	71	$	82	$	—		$	64	(1)	$	89
	Provision for loss on generation-related regulatory assets and undercollected purchased power costs(3)	$	6,939	$	—	$	—		$	6,939		$	—
2000:
	Allowance for uncollectible accounts(2)	$	65	$	48	$	2		$	44	(1)	$	71
	Provision for loss on generation-related regulatory assets and undercollected purchased power costs(3)	$	—	$	6,939	$	—		$	—		$	6,939

⁽¹⁾

Deductions consist principally of write-offs, net of collections of receivables previously written off.

⁽²⁾

Allowance for uncollectible accounts is deducted from "Accounts Receivable Customers, net" and "Accounts Receivable Energy Marketing."

⁽³⁾

Provision was deducted from "Regulatory Assets."

96

PACIFIC GAS AND ELECTRIC COMPANY
A DEBTOR-IN-POSSESSION
SCHEDULE II—CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended December 31, 2002, 2001, and 2000

Column A		Column B		Column C					Column D			Column E
				Additions
(in millions)                                     Description		Balance at Beginning of Period		Charged to Costs and Expenses		Charged to Other Accounts			Deductions			Balance at End of Period
Valuation and qualifying accounts deducted from assets:
2002:
	Allowance for uncollectible accounts(2)	$	48	$	35	$	(2	)	$	23	(1)	$	58
2001:
	Allowance for uncollectible accounts(2)	$	52	$	24	$	—		$	28	(1)	$	48
	Provision for loss on generation-related regulatory assets and undercollected purchased power costs(3)	$	6,939	$	—	$	—		$	6,939		$	—
2000:
	Allowance for uncollectible accounts(2)	$	46	$	19	$	2		$	15	(1)	$	52
	Provision for loss on generation-related regulatory assets and undercollected purchased power costs(3)	$	—	$	6,939	$	—		$	—		$	6,939

⁽¹⁾

Deductions consist principally of write-offs, net of collections of receivables previously written off.

⁽²⁾

Allowance for uncollectible accounts is deducted from "Accounts Receivable Customers, net."

⁽³⁾

Provision was deducted from "Regulatory Assets."

97

EXHIBIT INDEX

Exhibit Number	Exhibit Description
3.1	Restated Articles of Incorporation of PG&E Corporation effective as of May 5, 2000 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 2000 (File No. 1-12609), Exhibit 3.1)
3.2	Certificate of Determination for PG&E Corporation Series A Preferred Stock filed December 22, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 3.2)
3.3	Bylaws of PG&E Corporation amended as of February 19, 2003
3.4	Restated Articles of Incorporation of Pacific Gas and Electric Company effective as of May 6, 1998 (incorporated by reference to Pacific Gas and Electric Company's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-2348), Exhibit 3.1)
3.5	Bylaws of Pacific Gas and Electric Company amended as of February 19, 2003
4.1	First and Refunding Mortgage of Pacific Gas and Electric Company dated December 1, 1920, and supplements thereto dated April 23, 1925, October 1, 1931, March 1, 1941, September 1, 1947, May 15, 1950, May 1, 1954, May 21, 1958, November 1, 1964, July 1, 1965, July 1, 1969, January 1, 1975, June 1, 1979, August 1, 1983, and December 1, 1988 (incorporated by reference to Registration No. 2-1324, Exhibits B-1, B-2, and B-3; Registration No. 2-4676, Exhibit B-22; Registration No. 2-7203, Exhibit B-23; Registration No. 2-8475, Exhibit B-24; Registration No. 2-10874, Exhibit 4B; Registration No. 2-14144, Exhibit 4B; Registration No. 2-22910, Exhibit 2B; Registration No. 2-23759, Exhibit 2B; Registration No. 2-35106, Exhibit 2B; Registration No. 2-54302, Exhibit 2C; Registration No. 2-64313, Exhibit 2C; Registration No. 2-86849, Exhibit 4.3; and Pacific Gas and Electric Company's Form 8-K dated January 18, 1989 (File No. 1-2348), Exhibit 4.2)
4.2	Indenture related to PG&E Corporation's 7.5% Convertible Subordinated Notes due June 2007, dated as of June 25, 2002, between PG&E Corporation and U.S. Bank, N.A., as Trustee (incorporated by reference to PG&E Corporation's Form 8-K filed June 26, 2002 (File No. 1-12609), Exhibit 99.1).
4.3	Supplemental Indenture related to PG&E Corporation's 9.50% Convertible Subordinated Notes due June 2010, dated as of October 18, 2002, between PG&E Corporation and U.S. Bank, N.A., as Trustee (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2002 (File No. 1-12609), Exhibit 4.1)
4.4	Warrant Agreement, dated as of June 25, 2002, by and among PG&E Corporation, LB I Group Inc., and each other entity named on the signature pages thereto (incorporated by reference to PG&E Corporation's Form 8-K filed June 26, 2002 (File No. 1-12609), Exhibit 99.9).
4.5	Warrant Agreement, dated as of October 18, 2002, by and among PG&E Corporation, LB I Group Inc., and each other entity named on the signature pages thereto (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2002 (File No. 1-12609), Exhibit 4.2)
4.6	Form of Rights Agreement dated as of December 22, 2000, between PG&E Corporation and Mellon Investor Services LLC, including the Form of Rights Certificate as Exhibit A, the Summary of Rights to Purchase Preferred Stock as Exhibit B, and the Form of Certificate of Determination of Preferences for the Preferred Stock as Exhibit C (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 4.2)

10.1	The Gas Accord Settlement Agreement, together with accompanying tables, adopted by the California Public Utilities Commission on August 1, 1997, in Decision 97-08-055 (incorporated by reference to PG&E Corporation's and Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 1997 (File No. 1-12609 and File No. 1-2348), Exhibit 10.2), as amended by Operational Flow Order (OFO) Settlement Agreement, approved by the California Public Utilities Commission on February 17, 2000, in Decision 00-02-050, as amended by Comprehensive Gas OII Settlement Agreement, approved by the California Public Utilities Commission on May 18, 2000, in Decision 00-05-049 (incorporated by reference to PG&E Corporation's and Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 2000 (File No. 1-12609 and File No. 1-2348), Exhibit 10); and the Gas Accord II Settlement Agreement, approved by the California Public Utilities Commission on August 22, 2002, in Decision 01-09-016
10.2	Second Amended and Restated Credit Agreement, dated as of October 18, 2002, among PG&E Corporation, as Borrower, the Lenders party thereto, Lehman Commercial Paper Inc., as Administrative Agent, and other parties (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.1)
10.3.1	Utility Stock Pledge Agreement (35 percent)—Continued Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.2)
10.3.2	Utility Stock Pledge Agreement (35 percent)—New Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.3)
10.3.3	Utility Stock Pledge Agreement (65 percent)—Continued Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.4)
10.3.4	Utility Stock Pledge Agreement (65 percent)—New Tranche B Loan, dated as of October 18, 2002 (incorporated by reference to PG&E Corporation's Form 8-K filed October 22, 2002 (File No. 1-12609), Exhibit 99.5)
10.4	Amended and Restated Credit Agreement among PG&E National Energy Group, Inc. and Chase Manhattan Bank dated August 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.3
10.5	Second Amendment, dated as of October 18, 2002, to the Amended and Restated Credit Agreement, dated as of August 22, 2001, among PG&E National Energy Group, Inc., JPMorgan Chase Bank (formerly known as The Chase Manhattan Bank), as Issuing Bank, the several lenders from time to time parties thereto, the Documentation Agents thereunder, the Syndication Agents thereunder, and JPMorgan Chase Bank, as Administrative Agent. (incorporated by reference to PG&E National Energy Group, Inc.'s Form 8-K filed October 28, 2002) (File No. 333-66032), Exhibit 10.1)
10.6	Credit Agreement, dated as of May 29, 2001, among PG&E National Energy Group Construction Company, LLC, as Borrower, the lenders from time to time parties thereto, and Societe Generale, as Administrative Agent and Security Agent
10.7	First Amendment to Credit Agreement, dated as of June 5, 2002, among PG&E National Energy Group Construction Company, LLC, the lenders party thereto, and Societe Generale, as Administrative Agent and Security Agent
10.8	Guarantee and Agreement (Turbine Credit Agreement), dated as of May 29, 2001, made by PG&E National Energy Group, Inc. in favor of Societe Generale, as Security Agent
10.9	Amended and Restated Credit Agreement, dated as of March 15, 2002, among GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent and a Lead Arranger, Citibank, N.A., as Syndication Agent and a Lead Arranger, the other agents and arrangers thereunder, JP Morgan Chase Bank, as issuer of the Letters of Credit thereunder, the financial institutions party thereto from time to time, and various other parties

10.10	Amended and Restated Guarantee and Agreement (GenHoldings I, LLC) dated as of March 15, 2002, by PG&E National Energy Group, Inc., in favor of Societe Generale, as Administrative Agent
10.11	Acknowledgement and Amendment Agreement, dated as of April 5, 2002, by and among PG&E National Energy Group, Inc., GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent, and the banks and lenders party thereto
10.12	Waiver and Amendment Agreement, dated as of September 25, 2002, among GenHoldings I, LLC, as Borrower, Societe Generale, as Administrative Agent, Citibank N.A., as Depository Agent, and the banks and lender group agents party thereto.
10.13	Third Waiver and Amendment, dated as of November 14, 2002, among GenHoldings I, LLC, as Borrower, various lenders identified as the GenHoldings Lenders, Societe Generale, as the Administrative Agent, Citibank,  N.A., as Security Agent, and acknowledged and agreed to by PG&E National Energy Group, Inc.
10.14	Fourth Waiver and Amendment dated as of December 23, 2002, among GenHoldings I, LLC, various lenders identified as the GenHoldings Lenders, the Administrative Agent, and acknowledged and agreed to by PG&E National Energy Group, Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.1)
10.15	Second Omnibus Restructuring Agreement dated as of December 4, 2002 among La Paloma Generating Company, LLC, La Paloma Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.2)
10.16	Priority Credit and Reimbursement Agreement among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority Working Capital L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002 (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.3)
10.17	Guarantee and Agreement (La Paloma), dated as of April 6, 2001, by PG&E National Energy Group, Inc. in favor of Citibank, N.A., as Security Agent
10.18	Second Omnibus Restructuring Agreement dated as of December 4, 2002 among Lake Road Generating Company, LLC, Lake Road Generating Trust, Ltd., and various other parties, including PG&E National Energy Group,  Inc. (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.4)
10.19	Priority Credit and Reimbursement Agreement among Lake Road Generating Company, LLC, Lake Road Trust Ltd., Wilmington Trust Company, in its individual capacity and as Trustee, Citibank, N.A., as the Priority L/C Issuer, the Several Priority Lenders from time to time parties hereto, Citibank, N.A., as administrative agent, and Citibank, N.A., as priority agent, dated as of December 4, 2002 (incorporated by reference to PG&E Corporation's and PG&E National Energy Group, Inc.'s Form 8-K filed January 16, 2003) (File Nos. 1-12609 and 333-66032), Exhibit 99.5)
10.20	Amendment, Waiver and Consent Agreement dated as of November 6, 2002, among La Paloma Generating Company, LLC, La Paloma Generating Trust, Ltd., Wilmington Trust Company as Trustee, Citibank, N.A., as administrative agent and security agent, and various other parties, and acknowledged and agreed to by PG&E National Energy Group, Inc.
10.21	Guarantee and Agreement (Lake Road), dated as of April 6, 2001, made by PG&E National Energy Group, Inc. in favor of Citibank, N.A., as Security Agent
*10.22	PG&E Corporation Supplemental Retirement Savings Plan amended effective as of September 19, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.4)

*10.23	Agreement and Release between PG&E Corporation and Thomas G. Boren, dated December 18, 2002
*10.24	Description of Compensation Arrangement between PG&E Corporation and Peter Darbee (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 1999 (File No. 1-12609), Exhibit 10.3)
*10.25	Letter regarding Compensation Arrangement between PG&E Corporation and Thomas B. King dated November 4, 1998 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.6)
*10.26	Letter regarding Compensation Arrangement between PG&E Corporation and Lyn E. Maddox dated April 25, 1997 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.7)
*10.27	Letter Regarding Relocation Arrangement Between PG&E Corporation and Thomas B. King dated March 16, 2000 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 2000 (File No. 1-12609), Exhibit 10)
*10.28	Description of Relocation Arrangement Between PG&E Corporation and Lyn E. Maddox (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.9)
*10.29	PG&E Corporation Senior Executive Officer Retention Program approved December 20, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10)
*10.30.1	Letter regarding retention award to Robert D. Glynn, Jr. dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.1)
*10.30.2	Letter regarding retention award to Gordon R. Smith dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.2)
*10.30.3	Letter regarding retention award to Peter A. Darbee dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.3)
*10.30.4	Letter regarding retention award to Bruce R. Worthington dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.4)
*10.30.5	Letter regarding retention award to G. Brent Stanley dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.5)
*10.30.6	Letter regarding retention award to Daniel D. Richard, Jr. dated January 22, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.6)
*10.30.7	Letter regarding retention award to James K. Randolph dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.7)
*10.30.8	Letter regarding retention award to Gregory M. Rueger dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.8)
*10.30.9	Letter regarding retention award to Kent M. Harvey dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.9)
*10.30.10	Letter regarding retention award to Roger J. Peters dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.10))

*10.30.11	Letter regarding retention award to Lyn E. Maddox dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.12)
*10.30.12	Letter regarding retention award to P. Chrisman Iribe dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.13)
*10.30.13	Letter regarding retention award to Thomas B. King dated February 27, 2001 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.10.14)
*10.31	Pacific Gas and Electric Company Management Retention Program (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2001 (File No. 1-12609), Exhibit 10.1)
*10.32	PG&E Corporation Management Retention Program (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 2001 (File No. 1-12609), Exhibit 10.2)
*10.33	PG&E Corporation Deferred Compensation Plan for Non-Employee Directors, as amended and restated effective as of July 22, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended September 30, 1998 (File No. 1-12609), Exhibit 10.2)
*10.34	Description of Short-Term Incentive Plan for Officers of PG&E Corporation and its subsidiaries, effective January 1, 2002 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2001 (File No. 1-12609), Exhibit 10.25)
*10.35	Description of Short-Term Incentive Plan for Officers of PG&E Corporation and its subsidiaries, effective January 1, 2003.
*10.36	Supplemental Executive Retirement Plan of the Pacific Gas and Electric Company amended as of September 19, 2001 (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for the year ended December 31, 2001 (File No. 1-2248), Exhibit 10.16)
*10.37.1	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Robert D. Glynn, Jr. dated December 20, 2002
*10.37.2	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Bruce R. Worthington dated December 20, 2002
*10.37.3	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Gregory M. Rueger dated December 20, 2002
*10.37.4	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Gordon R. Smith dated December 20, 2002
*10.37.5	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and James K. Randolph dated December 20, 2002
*10.37.6	Agreement and Release regarding annuitization of SERP benefits by and between PG&E Corporation and Thomas G. Boren dated December 20, 2002
*10.38	Pacific Gas and Electric Company Relocation Assistance Program for Officers (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for fiscal year 1989 (File No. 1-2348), Exhibit 10.16)
*10.39	Postretirement Life Insurance Plan of the Pacific Gas and Electric Company (incorporated by reference to Pacific Gas and Electric Company's Form 10-K for fiscal year 1991 (File No. 1-2348), Exhibit 10.16)
*10.40	PG&E Corporation Retirement Plan for Non-Employee Directors, as amended and terminated January 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 1997 (File No. 1-12609), Exhibit 10.13)
*10.41	PG&E Corporation Long-Term Incentive Program, as amended May 16, 2001, including the PG&E Corporation Stock Option Plan, Performance Unit Plan, and Non-Employee Director Stock Incentive Plan (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended June 30, 2001 (File No. 1-12609), Exhibit 10)

*10.42	PG&E Corporation Executive Stock Ownership Program, amended as of September 19, 2000 (incorporated by reference to PG&E Corporation's Form 10-K for the year ended December 31, 2000 (File No. 1-12609), Exhibit 10.20)
*10.43	PG&E Corporation Officer Severance Policy, amended as of December 19, 2001
*10.44	PG&E Corporation Director Grantor Trust Agreement dated April 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-12609), Exhibit 10.1)
*10.45	PG&E Corporation Officer Grantor Trust Agreement dated April 1, 1998 (incorporated by reference to PG&E Corporation's Form 10-Q for the quarter ended March 31, 1998 (File No. 1-12609), Exhibit 10.2)
*10.46	PG&E Corporation Form of Restricted Stock Award Agreement granted under the PG&E Corporation Long-Term Incentive Program
11	Computation of Earnings Per Common Share
12.1	Computation of Ratios of Earnings to Fixed Charges for Pacific Gas and Electric Company
12.2	Computation of Ratios of Earnings to Combined Fixed Charges and Preferred Stock Dividends for Pacific Gas and Electric Company
13	The following portions of the 2002 Annual Report to Shareholders of PG&E Corporation and Pacific Gas and Electric Company are included: "Selected Financial Data," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Independent Auditors' Report," "Responsibility for Consolidated Financial Statements," financial statements of PG&E Corporation entitled "Consolidated Statements of Operations," "Consolidated Balance Sheets, " "Consolidated Statements of Cash Flows," and "Consolidated Statements of Common Stockholders' Equity," financial statements of Pacific Gas and Electric Company entitled "Consolidated Statements of Operations," "Consolidated Balance Sheets," "Consolidated Statements of Cash Flows," "Consolidated Statements of Stockholders' Equity," "Notes to Consolidated Financial Statements," and "Quarterly Consolidated Financial Data (Unaudited)"
21	Subsidiaries of the Registrant
23	Independent Auditors' Consent (Deloitte & Touche LLP)
24.1	Resolutions of the Boards of Directors of PG&E Corporation and Pacific Gas and Electric Company authorizing the execution of the Form 10-K
24.2	Powers of Attorney
99.1	Certifications of the Chief Executive Officer and the Chief Financial Officer of PG&E Corporation required by Section 906 of the Sarbanes-Oxley Act of 2002
99.2	Certifications of the Chief Executive Officer and the Chief Financial Officer of Pacific Gas and Electric Company required by Section 906 of the Sarbanes-Oxley Act of 2002

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TABLE OF CONTENTS
GLOSSARY OF TERMS
PART I
GENERAL
REGULATION
COMPETITION
UTILITY OPERATIONS
PG&E NATIONAL ENERGY GROUP, INC.
ENVIRONMENTAL MATTERS
EXECUTIVE OFFICERS OF THE REGISTRANTS
PART II
PART III
Equity Compensation Plan Information
SIGNATURES
INDEPENDENT AUDITORS' REPORT
SCHEDULE I—CONDENSED FINANCIAL INFORMATION OF PARENT CONDENSED BALANCE SHEETS
SCHEDULE I—CONDENSED FINANCIAL INFORMATION OF PARENT—(Continued) CONDENSED STATEMENTS OF INCOME For the Years Ended December 31, 2002, 2001, and 2000
CONDENSED STATEMENTS OF CASH FLOWS For the Years Ended December 31, 2002, 2001, and 2000
PG&E CORPORATION SCHEDULE II—CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS For the Years Ended December 31, 2002, 2001, and 2000
PACIFIC GAS AND ELECTRIC COMPANY A DEBTOR-IN-POSSESSION SCHEDULE II—CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS For the Years Ended December 31, 2002, 2001, and 2000
EXHIBIT INDEX

EX-3.3

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Exhibit 3.3

Bylaws
of
PG&E Corporation
amended as of February 19, 2003

Article I.
SHAREHOLDERS.

        1.    Place of Meeting.    All meetings of the shareholders shall be held at the office of the Corporation in the City and County of San Francisco, State of California, or at such other place, within or without the State of California, as may be designated by the Board of Directors.

        2.    Annual Meetings.    The annual meeting of shareholders shall be held each year on a date and at a time designated by the Board of Directors.

        Written notice of the annual meeting shall be given not less than ten (or, if sent by third-class mail, thirty) nor more than sixty days prior to the date of the meeting to each shareholder entitled to vote thereat. The notice shall state the place, day, and hour of such meeting, and those matters which the Board, at the time of mailing, intends to present for action by the shareholders.

        Notice of any meeting of the shareholders shall be given by mail or telegraphic or other written communication, postage prepaid, to each holder of record of the stock entitled to vote thereat, at his address, as it appears on the books of the Corporation.

        At an annual meeting of shareholders, only such business shall be conducted as shall have been properly brought before the annual meeting. To be properly brought before an annual meeting, business must be (i) specified in the notice of the annual meeting (or any supplement thereto) given by or at the direction of the Board, or (ii) otherwise properly brought before the annual meeting by a shareholder. For business to be properly brought before an annual meeting by a shareholder, including the nomination of any person (other than a person nominated by or at the direction of the Board) for election to the Board, the shareholder must have given timely and proper written notice to the Corporate Secretary of the Corporation. To be timely, the shareholder's written notice must be received at the principal executive office of the Corporation not less than forty-five days before the date corresponding to the mailing date of the notice and proxy materials for the prior year's annual meeting of shareholders; provided, however, that if the annual meeting to which the shareholder's written notice relates is to be held on a date that differs by more than thirty days from the date of the last annual meeting of shareholders, the shareholder's written notice to be timely must be so received not later than the close of business on the tenth day following the date on which public disclosure of the date of the annual meeting is made or given to shareholders. Any shareholder's written notice that is delivered after the close of business (5:00 p.m. local time) will be considered received on the following business day. To be proper, the shareholder's written notice must set forth as to each matter the shareholder proposes to bring before the annual meeting (a) a brief description of the business desired to be brought before the annual meeting, (b) the name and address of the shareholder as they appear on the Corporation's books, (c) the class and number of shares of the Corporation that are beneficially owned by the shareholder, and (d) any material interest of the shareholder in such business. In addition, if the shareholder's written notice relates to the nomination at the annual meeting of any person for election to the Board, such notice to be proper must also set forth (a) the name, age, business address, and residence address of each person to be so nominated, (b) the principal occupation or employment of each such person, (c) the number of shares of capital stock of the Corporation beneficially owned by each such person, and (d) such other information concerning each such person as would be required under the rules of the Securities and Exchange Commission in a proxy statement soliciting proxies for the election of such person as a Director, and must be accompanied by a consent, signed by each such person, to serve as a Director of the Corporation if elected. Notwithstanding anything in the Bylaws to

the contrary, no business shall be conducted at an annual meeting except in accordance with the procedures set forth in this Section.

        3.    Special Meetings.    Special meetings of the shareholders shall be called by the Corporate Secretary or an Assistant Corporate Secretary at any time on order of the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, or the President. Special meetings of the shareholders shall also be called by the Corporate Secretary or an Assistant Corporate Secretary upon the written request of holders of shares entitled to cast not less than ten percent of the votes at the meeting. Such request shall state the purposes of the meeting, and shall be delivered to the Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, the President, or the Corporate Secretary.

        A special meeting so requested shall be held on the date requested, but not less than thirty-five nor more than sixty days after the date of the original request. Written notice of each special meeting of shareholders, stating the place, day, and hour of such meeting and the business proposed to be transacted thereat, shall be given in the manner stipulated in Article I, Section 2, Paragraph 3 of these Bylaws within twenty days after receipt of the written request.

        4.    Voting at Meetings.    At any meeting of the shareholders, each holder of record of stock shall be entitled to vote in person or by proxy. The authority of proxies must be evidenced by a written document signed by the shareholder and must be delivered to the Corporate Secretary of the Corporation prior to the commencement of the meeting.

        5.    Shareholder Action by Written Consent.    Subject to Section 603 of the California Corporations Code, any action which, under any provision of the California Corporations Code, may be taken at any annual or special meeting of shareholders may be taken without a meeting and without prior notice if a consent in writing, setting forth the action so taken, shall be signed by the holders of outstanding shares having not less than the minimum number of votes that would be necessary to authorize or take such action at a meeting at which all shares entitled to vote thereon were present and voted.

        Any party seeking to solicit written consent from shareholders to take corporate action must deliver a notice to the Corporate Secretary of the Corporation which requests the Board of Directors to set a record date for determining shareholders entitled to give such consent. Such written request must set forth as to each matter the party proposes for shareholder action by written consents (a) a brief description of the matter and (b) the class and number of shares of the Corporation that are beneficially owned by the requesting party. Within ten days of receiving the request in the proper form, the Board shall set a record date for the taking of such action by written consent in accordance with California Corporations Code Section 701 and Article IV, Section 1 of these Bylaws. If the Board fails to set a record date within such ten-day period, the record date for determining shareholders entitled to give the written consent for the matters specified in the notice shall be the day on which the first written consent is given in accordance with California Corporations Code Section 701.

        Each written consent delivered to the Corporation must set forth (a) the action sought to be taken, (b) the name and address of the shareholder as they appear on the Corporation's books, (c) the class and number of shares of the Corporation that are beneficially owned by the shareholder, (d) the name and address of the proxyholder authorized by the shareholder to give such written consent, if applicable, and (d) any material interest of the shareholder or proxyholder in the action sought to be taken.

        Consents to corporate action shall be valid for a maximum of sixty days after the date of the earliest dated consent delivered to the Corporation. Consents may be revoked by written notice (i) to the Corporation, (ii) to the shareholder or shareholders soliciting consents or soliciting revocations in

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opposition to action by consent proposed by the Corporation (the "Soliciting Shareholders"), or (iii) to a proxy solicitor or other agent designated by the Corporation or the Soliciting Shareholders.

        Within three business days after receipt of the earliest dated consent solicited by the Soliciting Shareholders and delivered to the Corporation in the manner provided in California Corporations Code Section 603 or the determination by the Board of Directors of the Corporation that the Corporation should seek corporate action by written consent, as the case may be, the Corporate Secretary shall engage nationally recognized independent inspectors of elections for the purpose of performing a ministerial review of the validity of the consents and revocations. The cost of retaining inspectors of election shall be borne by the Corporation.

        Consents and revocations shall be delivered to the inspectors upon receipt by the Corporation, the Soliciting Shareholders or their proxy solicitors, or other designated agents. As soon as consents and revocations are received, the inspectors shall review the consents and revocations and shall maintain a count of the number of valid and unrevoked consents. The inspectors shall keep such count confidential and shall not reveal the count to the Corporation, the Soliciting Shareholder or their representatives, or any other entity. As soon as practicable after the earlier of (i) sixty days after the date of the earliest dated consent delivered to the Corporation in the manner provided in California Corporations Code Section 603, or (ii) a written request therefor by the Corporation or the Soliciting Shareholders (whichever is soliciting consents), notice of which request shall be given to the party opposing the solicitation of consents, if any, which request shall state that the Corporation or Soliciting Shareholders, as the case may be, have a good faith belief that the requisite number of valid and unrevoked consents to authorize or take the action specified in the consents has been received in accordance with these Bylaws, the inspectors shall issue a preliminary report to the Corporation and the Soliciting Shareholders stating: (a) the number of valid consents, (b) the number of valid revocations, (c) the number of valid and unrevoked consents, (d) the number of invalid consents, (e) the number of invalid revocations, and (f) whether, based on their preliminary count, the requisite number of valid and unrevoked consents has been obtained to authorize or take the action specified in the consents.

        Unless the Corporation and the Soliciting Shareholders shall agree to a shorter or longer period, the Corporation and the Soliciting Shareholders shall have forty-eight hours to review the consents and revocations and to advise the inspectors and the opposing party in writing as to whether they intend to challenge the preliminary report of the inspectors. If no written notice of an intention to challenge the preliminary report is received within forty-eight hours after the inspectors' issuance of the preliminary report, the inspectors shall issue to the Corporation and the Soliciting Shareholders their final report containing the information from the inspectors' determination with respect to whether the requisite number of valid and unrevoked consents was obtained to authorize and take the action specified in the consents. If the Corporation or the Soliciting Shareholders issue written notice of an intention to challenge the inspectors' preliminary report within forty-eight hours after the issuance of that report, a challenge session shall be scheduled by the inspectors as promptly as practicable. A transcript of the challenge session shall be recorded by a certified court reporter. Following completion of the challenge session, the inspectors shall as promptly as practicable issue their final report to the Soliciting Shareholders and the Corporation, which report shall contain the information included in the preliminary report, plus all changes in the vote totals as a result of the challenge and a certification of whether the requisite number of valid and unrevoked consents was obtained to authorize or take the action specified in the consents. A copy of the final report of the inspectors shall be included in the book in which the proceedings of meetings of shareholders are recorded.

        Unless the consent of all shareholders entitled to vote have been solicited in writing, the Corporation shall give prompt notice to the shareholders in accordance with California Corporations Code Section 603 of the results of any consent solicitation or the taking of the corporate action without a meeting and by less than unanimous written consent.

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Article II.
DIRECTORS.

        1.    Number.    As stated in paragraph I of Article Third of this Corporation's Articles of Incorporation, the Board of Directors of this Corporation shall consist of such number of directors, not less than seven (7) nor more than thirteen (13). The exact number of directors shall be nine (9) until changed, within the limits specified above, by an amendment to this Bylaw duly adopted by the Board of Directors or the shareholders.

        2.    Powers.    The Board of Directors shall exercise all the powers of the Corporation except those which are by law, or by the Articles of Incorporation of this Corporation, or by the Bylaws conferred upon or reserved to the shareholders.

        3.    Committees.    The Board of Directors may, by resolution adopted by a majority of the authorized number of directors, designate and appoint one or more committees as the Board deems appropriate, each consisting of two or more directors, to serve at the pleasure of the Board; provided, however, that, as required by this Corporation's Articles of Incorporation, the members of the Executive Committee (should the Board of Directors designate an Executive Committee) must be appointed by the affirmative vote of two-thirds of the authorized number of directors. Any such committee, including the Executive Committee, shall have the authority to act in the manner and to the extent provided in the resolution of the Board of Directors designating such committee and may have all the authority of the Board of Directors, except with respect to the matters set forth in California Corporations Code Section 311.

        4.    Time and Place of Directors' Meetings.    Regular meetings of the Board of Directors shall be held on such days and at such times and at such locations as shall be fixed by resolution of the Board, or designated by the Chairman of the Board or, in his absence, the Vice Chairman of the Board, or the President of the Corporation and contained in the notice of any such meeting. Notice of meetings shall be delivered personally or sent by mail or telegram at least seven days in advance.

        5.    Special Meetings.    The Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, the President, or any five directors may call a special meeting of the Board of Directors at any time. Notice of the time and place of special meetings shall be given to each Director by the Corporate Secretary. Such notice shall be delivered personally or by telephone (or other system or technology designed to record and communicate messages, including facsimile, electronic mail, or other such means) to each Director at least four hours in advance of such meeting, or sent by first-class mail or telegram, postage prepaid, at least two days in advance of such meeting.

        6.    Quorum.    A quorum for the transaction of business at any meeting of the Board of Directors or any committee thereof shall consist of one-third of the authorized number of directors or committee members, or two, whichever is larger.

        7.    Action by Consent.    Any action required or permitted to be taken by the Board of Directors may be taken without a meeting if all Directors individually or collectively consent in writing to such action. Such written consent or consents shall be filed with the minutes of the proceedings of the Board of Directors.

        8.    Meetings by Conference Telephone.    Any meeting, regular or special, of the Board of Directors or of any committee of the Board of Directors, may be held by conference telephone or similar communication equipment, provided that all Directors participating in the meeting can hear one another.

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Article III.
OFFICERS.

        1.    Officers.    The officers of the Corporation shall be a Chairman of the Board, a Vice Chairman of the Board, a Chairman of the Executive Committee (whenever the Board of Directors in its discretion fills these offices), a President, a Chief Financial Officer, a General Counsel, one or more Vice Presidents, a Corporate Secretary and one or more Assistant Corporate Secretaries, a Treasurer and one or more Assistant Treasurers, and a Controller, all of whom shall be elected by the Board of Directors. The Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, and the President shall be members of the Board of Directors.

        2.    Chairman of the Board.    The Chairman of the Board, if that office be filled, shall preside at all meetings of the shareholders and of the Directors, and shall preside at all meetings of the Executive Committee in the absence of the Chairman of that Committee. The Chairman of the Board shall be the chief executive officer of the Corporation if so designated by the Board of Directors. The Chairman of the Board shall have such duties and responsibilities as may be prescribed by the Board of Directors or the Bylaws. The Chairman of the Board shall have authority to sign on behalf of the Corporation agreements and instruments of every character, and, in the absence or disability of the President, shall exercise the President's duties and responsibilities.

        3.    Vice Chairman of the Board.    The Vice Chairman of the Board, if that office be filled, shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, or the Bylaws. The Vice Chairman of the Board shall be the chief executive officer of the Corporation if so designated by the Board of Directors. In the absence of the Chairman of the Board, the Vice Chairman of the Board shall preside at all meetings of the Board of Directors and of the shareholders; and, in the absence of the Chairman of the Executive Committee and the Chairman of the Board, the Vice Chairman of the Board shall preside at all meetings of the Executive Committee. The Vice Chairman of the Board shall have authority to sign on behalf of the Corporation agreements and instruments of every character.

        4.    Chairman of the Executive Committee.    The Chairman of the Executive Committee, if that office be filled, shall preside at all meetings of the Executive Committee. The Chairman of the Executive Committee shall aid and assist the other officers in the performance of their duties and shall have such other duties as may be prescribed by the Board of Directors or the Bylaws.

        5.    President.    The President shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, or the Bylaws. The President shall be the chief executive officer of the Corporation if so designated by the Board of Directors. If there be no Chairman of the Board, the President shall also exercise the duties and responsibilities of that office. The President shall have authority to sign on behalf of the Corporation agreements and instruments of every character.

        6.    Chief Financial Officer.    The Chief Financial Officer shall be responsible for the overall management of the financial affairs of the Corporation. The Chief Financial Officer shall render a statement of the Corporation's financial condition and an account of all transactions whenever requested by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, or the President.

        The Chief Financial Officer shall have such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

        7.    General Counsel.    The General Counsel shall be responsible for handling on behalf of the Corporation all proceedings and matters of a legal nature. The General Counsel shall render advice and legal counsel to the Board of Directors, officers, and employees of the Corporation, as necessary to

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the proper conduct of the business. The General Counsel shall keep the management of the Corporation informed of all significant developments of a legal nature affecting the interests of the Corporation.

        The General Counsel shall have such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

        8.    Vice Presidents.    Each Vice President, if those offices are filled, shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws. Each Vice President's authority to sign agreements and instruments on behalf of the Corporation shall be as prescribed by the Board of Directors. The Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, or the President may confer a special title upon any Vice President.

        9.    Corporate Secretary.    The Corporate Secretary shall attend all meetings of the Board of Directors and the Executive Committee, and all meetings of the shareholders, and the Corporate Secretary shall record the minutes of all proceedings in books to be kept for that purpose. The Corporate Secretary shall be responsible for maintaining a proper share register and stock transfer books for all classes of shares issued by the Corporation. The Corporate Secretary shall give, or cause to be given, all notices required either by law or the Bylaws. The Corporate Secretary shall keep the seal of the Corporation in safe custody, and shall affix the seal of the Corporation to any instrument requiring it and shall attest the same by the Corporate Secretary's signature.

        The Corporate Secretary shall have such other duties as may be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

        The Assistant Corporate Secretaries shall perform such duties as may be assigned from time to time by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Corporate Secretary. In the absence or disability of the Corporate Secretary, the Corporate Secretary's duties shall be performed by an Assistant Corporate Secretary.

        10.    Treasurer.    The Treasurer shall have custody of all moneys and funds of the Corporation, and shall cause to be kept full and accurate records of receipts and disbursements of the Corporation. The Treasurer shall deposit all moneys and other valuables of the Corporation in the name and to the credit of the Corporation in such depositaries as may be designated by the Board of Directors or any employee of the Corporation designated by the Board of Directors. The Treasurer shall disburse such funds of the Corporation as have been duly approved for disbursement.

        The Treasurer shall perform such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, the Chief Financial Officer, or the Bylaws.

        The Assistant Treasurers shall perform such duties as may be assigned from time to time by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, the Chief Financial Officer, or the Treasurer. In the absence or disability of the Treasurer, the Treasurer's duties shall be performed by an Assistant Treasurer.

        11.    Controller.    The Controller shall be responsible for maintaining the accounting records of the Corporation and for preparing necessary financial reports and statements, and the Controller shall properly account for all moneys and obligations due the Corporation and all properties, assets, and liabilities of the Corporation. The Controller shall render to the officers such periodic reports covering the result of operations of the Corporation as may be required by them or any one of them.

        The Controller shall have such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, the Chief

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Financial Officer, or the Bylaws. The Controller shall be the principal accounting officer of the Corporation, unless another individual shall be so designated by the Board of Directors.

Article IV.
MISCELLANEOUS.

        1.    Record Date.    The Board of Directors may fix a time in the future as a record date for the determination of the shareholders entitled to notice of and to vote at any meeting of shareholders, or entitled to receive any dividend or distribution, or allotment of rights, or to exercise rights in respect to any change, conversion, or exchange of shares. The record date so fixed shall be not more than sixty nor less than ten days prior to the date of such meeting nor more than sixty days prior to any other action for the purposes for which it is so fixed. When a record date is so fixed, only shareholders of record on that date are entitled to notice of and to vote at the meeting, or entitled to receive any dividend or distribution, or allotment of rights, or to exercise the rights, as the case may be.

        2.    Transfers of Stock.    Upon surrender to the Corporate Secretary or Transfer Agent of the Corporation of a certificate for shares duly endorsed or accompanied by proper evidence of succession, assignment, or authority to transfer, and payment of transfer taxes, the Corporation shall issue a new certificate to the person entitled thereto, cancel the old certificate, and record the transaction upon its books. Subject to the foregoing, the Board of Directors shall have power and authority to make such rules and regulations as it shall deem necessary or appropriate concerning the issue, transfer, and registration of certificates for shares of stock of the Corporation, and to appoint and remove Transfer Agents and Registrars of transfers.

        3.    Lost Certificates.    Any person claiming a certificate of stock to be lost, stolen, mislaid, or destroyed shall make an affidavit or affirmation of that fact and verify the same in such manner as the Board of Directors may require, and shall, if the Board of Directors so requires, give the Corporation, its Transfer Agents, Registrars, and/or other agents a bond of indemnity in form approved by counsel, and in amount and with such sureties as may be satisfactory to the Corporate Secretary of the Corporation, before a new certificate may be issued of the same tenor and for the same number of shares as the one alleged to have been lost, stolen, mislaid, or destroyed.

Article V.
AMENDMENTS.

        1.    Amendment by Shareholders.    Except as otherwise provided by law, these Bylaws, or any of them, may be amended or repealed or new Bylaws adopted by the affirmative vote of a majority of the outstanding shares entitled to vote at any regular or special meeting of the shareholders.

        2.    Amendment by Directors.    To the extent provided by law, these Bylaws, or any of them, may be amended or repealed or new Bylaws adopted by resolution adopted by a majority of the members of the Board of Directors.

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EX-3.5

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Exhibit 3.5

Bylaws
of
Pacific Gas and Electric Company
amended as of February 19, 2003

Article I.
SHAREHOLDERS.

        1.    Place of Meeting.    All meetings of the shareholders shall be held at the office of the Corporation in the City and County of San Francisco, State of California, or at such other place, within or without the State of California, as may be designated by the Board of Directors.

        2.    Annual Meetings.    The annual meeting of shareholders shall be held each year on a date and at a time designated by the Board of Directors.

        Written notice of the annual meeting shall be given not less than ten (or, if sent by third-class mail, thirty) nor more than sixty days prior to the date of the meeting to each shareholder entitled to vote thereat. The notice shall state the place, day, and hour of such meeting, and those matters which the Board, at the time of mailing, intends to present for action by the shareholders.

        Notice of any meeting of the shareholders shall be given by mail or telegraphic or other written communication, postage prepaid, to each holder of record of the stock entitled to vote thereat, at his address, as it appears on the books of the Corporation.

        At an annual meeting of shareholders, only such business shall be conducted as shall have been properly brought before the annual meeting. To be properly brought before an annual meeting, business must be (i) specified in the notice of the annual meeting (or any supplement thereto) given by or at the direction of the Board, or (ii) otherwise properly brought before the annual meeting by a shareholder. For business to be properly brought before an annual meeting by a shareholder, including the nomination of any person (other than a person nominated by or at the direction of the Board) for election to the Board, the shareholder must have given timely and proper written notice to the Corporate Secretary of the Corporation. To be timely, the shareholder's written notice must be received at the principal executive office of the Corporation not less than forty-five days before the date corresponding to the mailing date of the notice and proxy materials for the prior year's annual meeting of shareholders; provided, however, that if the annual meeting to which the shareholder's written notice relates is to be held on a date that differs by more than thirty days from the date of the last annual meeting of shareholders, the shareholder's written notice to be timely must be so received not later than the close of business on the tenth day following the date on which public disclosure of the date of the annual meeting is made or given to shareholders. Any shareholder's written notice that is delivered after the close of business (5:00 p.m. local time) will be considered received on the following business day. To be proper, the shareholder's written notice must set forth as to each matter the shareholder proposes to bring before the annual meeting (a) a brief description of the business desired to be brought before the annual meeting, (b) the name and address of the shareholder as they appear on the Corporation's books, (c) the class and number of shares of the Corporation that are beneficially owned by the shareholder, and (d) any material interest of the shareholder in such business. In addition, if the shareholder's written notice relates to the nomination at the annual meeting of any person for election to the Board, such notice to be proper must also set forth (a) the name, age, business address, and residence address of each person to be so nominated, (b) the principal occupation or employment of each such person, (c) the number of shares of capital stock of the Corporation beneficially owned by each such person, and (d) such other information concerning each such person as would be required under the rules of the Securities and Exchange Commission in a proxy statement soliciting proxies for the election of such person as a Director, and must be accompanied by a consent, signed by each such person, to serve as a Director of the Corporation if elected. Notwithstanding anything in the Bylaws to the contrary, no business shall be conducted at an annual meeting except in accordance with the procedures set forth in this Section.

        3.    Special Meetings.    Special meetings of the shareholders shall be called by the Corporate Secretary or an Assistant Corporate Secretary at any time on order of the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, or the President. Special meetings of the shareholders shall also be called by the Corporate Secretary or an Assistant Corporate Secretary upon the written request of holders of shares entitled to cast not less than ten percent of the votes at the meeting. Such request shall state the purposes of the meeting, and shall be delivered to the Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, the President or the Corporate Secretary.

        A special meeting so requested shall be held on the date requested, but not less than thirty-five nor more than sixty days after the date of the original request. Written notice of each special meeting of shareholders, stating the place, day, and hour of such meeting and the business proposed to be transacted thereat, shall be given in the manner stipulated in Article I, Section 2, Paragraph 3 of these Bylaws within twenty days after receipt of the written request.

        4.    Voting at Meetings.    At any meeting of the shareholders, each holder of record of stock shall be entitled to vote in person or by proxy. The authority of proxies must be evidenced by a written document signed by the shareholder and must be delivered to the Corporate Secretary of the Corporation prior to the commencement of the meeting.

        5.    No Cumulative Voting.    No shareholder of the Corporation shall be entitled to cumulate his or her voting power.

Article II.
DIRECTORS.

        1.    Number.    The Board of Directors of this Corporation shall consist of such number of directors, not less than nine (9) nor more than seventeen (17). The exact number of directors shall be ten (10) until changed, within the limits specified above, by an amendment to this Bylaw duly adopted by the Board of Directors or the shareholders.

        2.    Powers.    The Board of Directors shall exercise all the powers of the Corporation except those which are by law, or by the Articles of Incorporation of this Corporation, or by the Bylaws conferred upon or reserved to the shareholders.

        3.    Committees.    The Board of Directors may, by resolution adopted by a majority of the authorized number of directors, designate and appoint one or more committees as the Board deems appropriate, each consisting of two or more directors, to serve at the pleasure of the Board; provided, however, that, as required by this Corporation's Articles of Incorporation, the members of the Executive Committee (should the Board of Directors designate an Executive Committee) must be appointed by the affirmative vote of two-thirds of the authorized number of directors. Any such committee, including the Executive Committee, shall have the authority to act in the manner and to the extent provided in the resolution of the Board of Directors designating such committee and may have all the authority of the Board of Directors, except with respect to the matters set forth in California Corporations Code Section 311.

        4.    Time and Place of Directors' Meetings.    Regular meetings of the Board of Directors shall be held on such days and at such times and at such locations as shall be fixed by resolution of the Board, or designated by the Chairman of the Board or, in his absence, the Vice Chairman of the Board, or the President of the Corporation and contained in the notice of any such meeting. Notice of meetings shall be delivered personally or sent by mail or telegram at least seven days in advance.

        5.    Special Meetings.    The Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, the President, or any five directors may call a special meeting of the Board of Directors at any time. Notice of the time and place of special meetings shall be given to each Director by the Corporate Secretary. Such notice shall be delivered personally or by telephone

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(or other system or technology designed to record and communicate messages, including facsimile, electronic mail, or other such means) to each Director at least four hours in advance of such meeting, or sent by first-class mail or telegram, postage prepaid, at least two days in advance of such meeting.

        6.    Quorum.    A quorum for the transaction of business at any meeting of the Board of Directors or any committee thereof shall consist of one-third of the authorized number of directors or committee members, or two, whichever is larger.

        7.    Action by Consent.    Any action required or permitted to be taken by the Board of Directors may be taken without a meeting if all Directors individually or collectively consent in writing to such action. Such written consent or consents shall be filed with the minutes of the proceedings of the Board of Directors.

        8.    Meetings by Conference Telephone.    Any meeting, regular or special, of the Board of Directors or of any committee of the Board of Directors, may be held by conference telephone or similar communication equipment, provided that all Directors participating in the meeting can hear one another.

Article III.
OFFICERS.

        1.    Officers.    The officers of the Corporation shall be a Chairman of the Board, a Vice Chairman of the Board, a Chairman of the Executive Committee (whenever the Board of Directors in its discretion fills these offices), a President, one or more Vice Presidents, a Corporate Secretary and one or more Assistant Corporate Secretaries, a Treasurer and one or more Assistant Treasurers, a General Counsel, a General Attorney (whenever the Board of Directors in its discretion fills this office), and a Controller, all of whom shall be elected by the Board of Directors. The Chairman of the Board, the Vice Chairman of the Board, the Chairman of the Executive Committee, and the President shall be members of the Board of Directors.

        2.    Chairman of the Board.    The Chairman of the Board, if that office be filled, shall preside at all meetings of the shareholders, of the Directors, and of the Executive Committee in the absence of the Chairman of that Committee. The Chairman of the Board shall be the chief executive officer of the Corporation if so designated by the Board of Directors. The Chairman of the Board shall have such duties and responsibilities as may be prescribed by the Board of Directors or the Bylaws. The Chairman of the Board shall have authority to sign on behalf of the Corporation agreements and instruments of every character, and in the absence or disability of the President, shall exercise his duties and responsibilities.

        3.    Vice Chairman of the Board.    The Vice Chairman of the Board, if that office be filled, shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, or the Bylaws. The Vice Chairman of the Board shall be the chief executive officer of the Corporation if so designated by the Board of Directors. In the absence of the Chairman of the Board, the Vice Chairman of the Board shall preside at all meetings of the Board of Directors and of the shareholders; and, in the absence of the Chairman of the Executive Committee and the Chairman of the Board, The Vice Chairman of the Boardshall preside at all meetings of the Executive Committee. The Vice Chairman of the Board shall have authority to sign on behalf of the Corporation agreements and instruments of every character.

        4.    Chairman of the Executive Committee.    The Chairman of the Executive Committee, if that office be filled, shall preside at all meetings of the Executive Committee. The Chairman of the Executive Committee shall aid and assist the other officers in the performance of their duties and shall have such other duties as may be prescribed by the Board of Directors or the Bylaws.

        5.    President.    The President shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, or the Bylaws. The President shall be the chief

3

executive officer of the Corporation if so designated by the Board of Directors. If there be no Chairman of the Board, the President shall also exercise the duties and responsibilities of that office. The President shall have authority to sign on behalf of the Corporation agreements and instruments of every character.

        6.    Vice Presidents.    Each Vice President shall have such duties and responsibilities as may be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws. Each Vice President's authority to sign agreements and instruments on behalf of the Corporation shall be as prescribed by the Board of Directors. The Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, or the President may confer a special title upon any Vice President.

        7.    Corporate Secretary.    The Corporate Secretary shall attend all meetings of the Board of Directors and the Executive Committee, and all meetings of the shareholders, and the Corpoate Secretary shall record the minutes of all proceedings in books to be kept for that purpose. The Corporate Secretary shall be responsible for maintaining a proper share register and stock transfer books for all classes of shares issued by the Corporation. The Corporate Secretary shall give, or cause to be given, all notices required either by law or the Bylaws. The Corporate Secretary shall keep the seal of the Corporation in safe custody, and shall affix the seal of the Corporation to any instrument requiring it and shall attest the same by the Corporate Secretary's signature.

        The Corporate Secretary shall have such other duties as may be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

        The Assistant Corporate Secretaries shall perform such duties as may be assigned from time to time by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Corporate Secretary. In the absence or disability of the Corporate Secretary, the Corporate Secretary's duties shall be performed by an Assistant Corporate Secretary.

        8.    Treasurer.    The Treasurer shall have custody of all moneys and funds of the Corporation, and shall cause to be kept full and accurate records of receipts and disbursements of the Corporation. The Treasurer shall deposit all moneys and other valuables of the Corporation in the name and to the credit of the Corporation in such depositaries as may be designated by the Board of Directors or any employee of the Corporation designated by the Board of Directors. The Treasurer shall disburse such funds of the Corporation as have been duly approved for disbursement.

        The Treasurer shall perform such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

        The Assistant Treasurer shall perform such duties as may be assigned from time to time by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Treasurer. In the absence or disability of the Treasurer, the Treasurer's duties shall be performed by an Assistant Treasurer.

        9.    General Counsel.    The General Counsel shall be responsible for handling on behalf of the Corporation all proceedings and matters of a legal nature. The General Counsel shall render advice and legal counsel to the Board of Directors, officers, and employees of the Corporation, as necessary to the proper conduct of the business. The General Counsel shall keep the management of the Corporation informed of all significant developments of a legal nature affecting the interests of the Corporation.

        The General Counsel shall have such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws.

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        10.    Controller.    The Controller shall be responsible for maintaining the accounting records of the Corporation and for preparing necessary financial reports and statements, and the Controller shall properly account for all moneys and obligations due the Corporation and all properties, assets, and liabilities of the Corporation. The Controller shall render to the officers such periodic reports covering the result of operations of the Corporation as may be required by them or any one of them.

        The Controller shall have such other duties as may from time to time be prescribed by the Board of Directors, the Chairman of the Board, the Vice Chairman of the Board, the President, or the Bylaws. The Controller shall be the principal accounting officer of the Corporation, unless another individual shall be so designated by the Board of Directors.

Article IV.
MISCELLANEOUS.

        1.    Record Date.    The Board of Directors may fix a time in the future as a record date for the determination of the shareholders entitled to notice of and to vote at any meeting of shareholders, or entitled to receive any dividend or distribution, or allotment of rights, or to exercise rights in respect to any change, conversion, or exchange of shares. The record date so fixed shall be not more than sixty nor less than ten days prior to the date of such meeting nor more than sixty days prior to any other action for the purposes for which it is so fixed. When a record date is so fixed, only shareholders of record on that date are entitled to notice of and to vote at the meeting, or entitled to receive any dividend or distribution, or allotment of rights, or to exercise the rights, as the case may be.

        2.    Transfers of Stock.    Upon surrender to the Corporate Secretary or Transfer Agent of the Corporation of a certificate for shares duly endorsed or accompanied by proper evidence of succession, assignment, or authority to transfer, and payment of transfer taxes, the Corporation shall issue a new certificate to the person entitled thereto, cancel the old certificate, and record the transaction upon its books. Subject to the foregoing, the Board of Directors shall have power and authority to make such rules and regulations as it shall deem necessary or appropriate concerning the issue, transfer, and registration of certificates for shares of stock of the Corporation, and to appoint and remove Transfer Agents and Registrars of transfers.

        3.    Lost Certificates.    Any person claiming a certificate of stock to be lost, stolen, mislaid, or destroyed shall make an affidavit or affirmation of that fact and verify the same in such manner as the Board of Directors may require, and shall, if the Board of Directors so requires, give the Corporation, its Transfer Agents, Registrars, and/or other agents a bond of indemnity in form approved by counsel, and in amount and with such sureties as may be satisfactory to the Corporate Secretary of the Corporation, before a new certificate may be issued of the same tenor and for the same number of shares as the one alleged to have been lost, stolen, mislaid, or destroyed.

Article V.
AMENDMENTS.

        1.    Amendment by Shareholders.    Except as otherwise provided by law, these Bylaws, or any of them, may be amended or repealed or new Bylaws adopted by the affirmative vote of a majority of the outstanding shares entitled to vote at any regular or special meeting of the shareholders.

        2.    Amendment by Directors.    To the extent provided by law, these Bylaws, or any of them, may be amended or repealed or new Bylaws adopted by resolution adopted by a majority of the members of the Board of Directors.

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Exhibit 3.5

EX-10.1

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Exhibit 10.1

Gas Accord II
Settlement Agreement

May 17, 2002

Gas Accord II Settlement Agreement

TABLE OF CONTENTS

I.	BACKGROUND		1
II.	OVERVIEW		1
III.	ONE-YEAR EXTENSION OF GAS ACCORD RATES AND TERMS AND CONDITIONS OF SERVICE		5
IV.	DISPOSITION OF SCOPING MEMO ISSUES		6
V.	CONTRACT EXTENSION AND OPEN SEASON		7
	A.	Procedures for Extending Existing Transmission Contracts	7
	B.	Procedures for Extending Existing Storage Contracts	9
	C.	Capacity Requirements for PG&E's Core Procurement	11
	D.	Open Season for Expansion and Relinquished Capacity	11
	E.	Requesting and Awarding Transmission Capacity in the Open Season	13
	F.	Requesting and Awarding Storage Capacity in the Open Season	15
VI.	QUARTERLY POSTING OF SHIPPER CONTACT LIST, AND RELATIVE SHARES OF TOP FIVE SHIPPERS BY TRANSMISSION PATH		16
VII.	SETTLEMENT LIMITED TO CPUC PROCEEDINGS ONLY		17
VIII.	SUPPORT BY PARTIES		17
Attachment A			18
	Open Season Ranking for Baja Path (Illustrative)		18
Attachment B			19
	Open Season Ranking for Redwood Path (Illustrative)		19
Attachment C			20
	Market Concentration Report		20

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Gas Accord II Settlement Agreement

I.  BACKGROUND

        On March 1, 1998, the Northern California natural gas market experienced a dramatic change with the restructuring of services on the PG&E system under a broadly based settlement known as the "Gas Accord". Many previously bundled PG&E services were unbundled, providing more choice to marketers, shippers, and end-use customers. PG&E and the Gas Accord settling parties worked to develop the rules and guidelines to operate PG&E's system under the Gas Accord provisions, including the unbundling of pipeline transmission and storage services within Northern California. The Gas Accord is effective through December 31, 2002.

        Two subsequent, Commission-approved settlements modified somewhat the provisions of the original Gas Accord, while reaffirming the soundness of the Gas Accord market structure. These were the Operational Flow Order Settlement, approved in Decision 00-02-050 (hereinafter, the OFO Settlement), and the Comprehensive Gas OII Settlement for the PG&E gas system, approved in Decision 00-05-049 (hereinafter, the OII Settlement).

        In Decision 98-12-082, as modified by Decision 99-04-013, the Commission granted PG&E's request for authorization to engage in a financial risk management program. Like the Gas Accord, this authority currently is scheduled to expire as of December 31, 2002.

        In October 2001, PG&E filed Application 01-10-011 requesting that the Gas Accord structure and rates be extended for two more years while the industry works to resolve PG&E's bankruptcy issues. In February 2002, a scoping memo was issued that provided a testimony and hearing schedule to resolve selected issues related to PG&E's Gas Accord structure as identified by intervenors.

II.  OVERVIEW

        The purpose of this Gas Accord II Settlement Agreement (Agreement, Settlement, or Settlement Agreement) is to establish the market structure, rates, and terms and conditions of service for the Pacific Gas and Electric Company (PG&E) transmission and storage system under the jurisdiction of the Public Utilities Commission of the State of California (CPUC or Commission), and to develop guidelines for contracting for PG&E's gas transmission service, for the period January 1, 2003, to December 31, 2003, and for storage service, for the period April 1, 2003, to March 31, 2004 (hereinafter the Gas Accord II Period).

        The following key agreements are reached in this Settlement:

•

The existing market structure, rates, tariffs, and terms and conditions of service for the PG&E gas transmission and storage system, as adopted in the Gas Accord and as modified by subsequent CPUC-approved settlements, will be extended for the Gas Accord II Period.



•

The rates for transmission and core storage services for the Gas Accord II Period will be equal to the adopted rates in effect on January 1, 2002. The rates for market center storage services for the Gas Accord II Period will be equal to the adopted rates in effect on April 1, 2002. Customer access charges for noncore customers will be equal to the adopted rates in effect on January 1, 2002. Customer Class Charges and shrinkage rates are not set in the Gas Accord and continue to be subject to change.



•

Any changes that the Commission might adopt with respect to the Gas Accord market structure, rates, tariffs, or terms and conditions of service, will be implemented on a prospective basis only, commencing January 1, 2004, for transmission, and April 1, 2004, for storage.



•

Existing shippers with firm transmission and storage contract exhibits in effect in 2002 (hereinafter, Contracts) will be allowed to extend their Contract terms for the Gas Accord II

1

Period, or until the first day the subject transportation or storage arrangements are under the jurisdiction of the Federal Energy Regulatory Commission (FERC), whichever occurs first. Each Contract and governing Gas Transportation Service Agreement (GTSA) continues to be subject to General Order 96-A.

•

All Natural Gas Service Agreements will remain in effect, in accordance with their terms, for the Gas Accord II Period. A customer with negotiated terms as of December 31, 2002, may extend these terms at the customer's option.



•

PG&E will conduct an open season for Line 401 expansion capacity, unsold transmission and storage capacity, and any transmission and storage capacity relinquished during the Contract extension process. The term of awarded contracts will be for the Gas Accord II Period, or until the first day the subject transportation or storage arrangements are under the jurisdiction of the FERC, whichever occurs first. In the open season, PG&E will reserve 100 MDth/d of Redwood Path firm capacity for on-system requests, and will limit off-season awards initially to 340 Dth/d until on-system requests are filled, as explained more fully in Section V.E.3.b, below.



•

Contracts resulting from the open season process will have the same status as contracts that are extended pursuant to the Contract extension process.



•

PG&E's Core Procurement will not require additional transmission and storage capacity in the open season above the amounts established in the Gas Accord Decision 97-08-055, as modified in 2000 BCAP Decision 01-11-001. The current Core Procurement Incentive Mechanism (CPIM) will be extended for the Gas Accord II Period. Nothing in this Settlement will preclude PG&E and consumer advocates from proposing and implementing changes to the CPIM, as permitted by the existing CPIM, during the Gas Accord II Period.



•

PG&E's authority to administer a financial risk management program will be continued through the Gas Accord II Period.



•

The Contract extension and open season process will be conducted according to the procedures developed in this Settlement. Parties will learn the results of the Contract extension process prior to the end of the open season.



•

If they have not otherwise expired in accordance with their one-year term, all contracts that result from the Contract extension and open season process specified in this Settlement will terminate upon a change to FERC jurisdiction. In that event, subject to FERC approval, PG&E will provide contract holders the option to convert to a FERC-approved contract at the same rates and material terms.



•

Upon approval of this Settlement by the CPUC, all "unresolved issues" identified in the February 26, 2002 Scoping Memo (hereinafter, Scoping Memo Issues) shall be deemed to be resolved through the Gas Accord II period.



•

The Parties propose that the existing procedural schedule for litigation of the Scoping Memo Issues be extended, in accordance with the schedule set forth in Part IV hereof, with hearings in November 2002.



•

PG&E reserves the right to amend Application 01-10-011, or to file a new Application with the CPUC, to address the market structure, rates, and terms and conditions of service for its gas transmission and storage system for the period beginning January 1, 2004. Likewise, all Parties reserve all of their rights with respect to the Scoping Memo Issues, except that they agree to the procedural schedule change set forth in Section IV, below.



•

Creditworthiness requirements for shippers and storage customers shall be in accordance with PG&E Gas Rule 25. PG&E stipulates that it will not propose any changes to Gas Rule 25 that

2

would take effect prior to completion of the contract extension and open season process established in this Settlement.

        This Agreement is entered into by the Settlement Parties, as identified by their signatures on this Settlement Agreement, and their concurrence in a joint motion to be filed contemporaneously herewith. This Settlement shall become effective immediately, except that provisions requiring CPUC approval shall become effective on the effective date of a CPUC order approving the Settlement.

        Of paramount concern to the Settlement Parties is to resolve regulatory issues so as to provide for an orderly and efficient market for the upcoming year, prior to the start of the 2002-2003 winter heating season, and to provide contract certainty. The intent of this Settlement is to achieve an expeditious resolution of issues, consistent with the public interest, and by this means avoid any potential supply disruptions or high costs from an inefficient and more uncertain market.

        The Settlement Parties, including PG&E, acknowledge that one year of contract certainty for transportation and storage arrangements is important to PG&E shippers and end-use customers, because, among other things, gas supply and associated transportation arrangements often are arranged on a full one-year basis. The Settlement Parties recognize that PG&E currently has a proposal before the FERC that includes a transition period that would extend for a term even longer than the one-year Gas Accord II Period established in this Settlement, should a contracting party sign a FERC-approved contract.

        This Agreement is a negotiated compromise of issues and is broadly supported by parties who are marketers, shippers, wholesale and retail end-use customers, and regulatory representatives. Nothing contained herein shall be deemed to constitute an admission or an acceptance by any party of any fact, principle, or position contained herein. Notwithstanding the foregoing, the Settlement Parties, by signing this Agreement and by joining the motion to adopt the Agreement filed before the Commission, acknowledge that they pledge support for Commission approval and subsequent implementation of these provisions.

        This Agreement is to be treated as a complete package not as a collection of separate agreements on discrete issues or proceedings. To accommodate the interests of different parties on diverse issues, the Settlement Parties acknowledge that changes, concessions, or compromises by a party or parties in one section of this Agreement necessitated changes, concessions, or compromises by other parties in other sections.

        In the event the Commission rejects or modifies the Agreement, the Settlement Parties reserve their rights under Rule 51.7 of the Commission's Rules of Practice and Procedure.

        PG&E will not seek to recover any incremental costs associated with implementing the provisions of this Settlement Agreement.

III.  ONE-YEAR EXTENSION OF GAS ACCORD RATES AND TERMS AND CONDITIONS OF SERVICE

A.

The existing market structure, rates, tariffs, and terms and conditions of service for the PG&E gas transmission and storage system, as adopted in the Gas Accord, the OFO Settlement and the OII Settlement, will be extended for the Gas Accord II Period.



B.

The rates for transmission and core storage services for the Gas Accord II Period will be equal to the adopted rates in effect on January 1, 2002. The rates for market center storage services for the Gas Accord II Period will be equal to the adopted rates in effect on April 1, 2002. Customer access charges for noncore customers will be equal to the adopted rates in effect on January 1, 2002. Customer Class Charges and shrinkage rates are not set in the Gas Accord and continue to be subject to change.

3

C.

PG&E's authority to administer a financial risk management program will be continued through the Gas Accord II Period.



D.

The service arrangements set forth in existing long-term transmission service agreements will remain in effect, in accordance with their terms. Service during the Gas Accord II Period will be based on the implementation agreements or contract amendments used during the Gas Accord to administer any unique terms and conditions of these various agreements. These long-term transmission service agreements include Expedited Application Docket (EAD) contracts, Line 401 Expansion (G-XF) contracts, the Crockett Cogeneration contract, and Enhanced Oil Recovery (EOR) contracts.



E.

All Natural Gas Service Agreements (NGSAs) will remain in effect, in accordance with their terms, for the Gas Accord II Period. NGSAs with negotiated terms (take, duration, or price) may be extended for the Gas Accord II Period, at the customer's option, for the same negotiated terms.



F.

Creditworthiness requirements for shippers and storage customers shall be in accordance with PG&E Gas Rule 25. PG&E stipulates that it will not propose any changes to Gas Rule 25 that would be effective prior to completion of the contract extension and open season process established in this Settlement.



G.

Extended Contracts and contracts awarded in the open season will have a term of one (1) year or until the first day the subject transportation or storage arrangements are under the jurisdiction of the FERC, whichever occurs first. In the event the date of FERC jurisdiction occurs during the one-year term, then, subject to FERC approval, PG&E will provide contract holders the option to convert to FERC-approved contracts at the same rates and material terms.

IV.  DISPOSITION OF SCOPING MEMO ISSUES

A.

Upon approval of this Settlement by the CPUC, all Scoping Memo Issues shall be deemed to be resolved through the Gas Accord II Period.



B.

Contemporaneously with the filing of this Settlement, the Settlement Parties will file a joint motion requesting that the existing procedural schedule for the Scoping Memo Issues be extended, and that new dates be established for filing testimony and hearings, as follows:



1.

October 1: Prepared testimony served on parties



2.

October 30: Reply testimony served on parties



3.

November 12-20: Evidentiary hearings




C.

PG&E agrees that, on or before August 1, 2002, PG&E will undertake a settlement process with the parties to this proceeding (A.01-10-011) to attempt to resolve Scoping Memo Issues by stipulation or settlement.



D.

All Settlement Parties reserve all their rights with respect to the Scoping Memo Issues for the period commencing after the Gas Accord II Period.



E.

PG&E reserves the right to modify its Application 01-10-011, including but not limited to its right to seek a rate increase, or to file a superseding Application with the CPUC, to address the market structure, rates, and terms and conditions of service for its gas transmission and storage system, for the period beginning January 1, 2004 (for transmission and core storage services), or April 1, 2004 (for market center storage services). The other Settlement Parties likewise reserve all of their rights with respect to the same matters. Notwithstanding the foregoing, all the Settlement Parties agree to the procedural schedule set forth above for litigation and possible settlement of the Scoping Memo Issues.

4

V.  CONTRACT EXTENSION AND OPEN SEASON

A.

Procedures for Extending Existing Transmission Contracts

1.

PG&E will offer existing firm transmission capacity holders (shippers), whose Contracts are set to expire at the end of the Gas Accord, the right to renew their Contracts for the Gas Accord II Period, which begins January 1, 2003.

a.

PG&E will extend formal offers to existing shippers promptly after issuance of a Commission decision approving this Settlement.

b.

Shippers that intend to accept the extension offer must sign the extension offer prior to the date specified by PG&E (which will be no earlier than five (5) business days after the formal offer is presented to the shipper), or else the capacity will be considered to have been relinquished and will be offered in the open season. In the event the CPUC makes any change to the Settlement, then PG&E will allow customers a minimum of ten (10) business days to make their Contract extension elections.

c.

For Contract capacity that has been assigned for the remaining term of the Contract, the assignee, not the original capacity holder (assignor), will have the right to extend the Contract.

d.

For any Contract capacity that has not been assigned for the full term of the Contract, the assignor will be offered the right to extend the Contract.

e.

The assignee and the assignor may reach an agreement that differs from the above rules on who should have the Contract extension rights. PG&E will honor the agreement if the parties send a letter to PG&E signed by both parties prior to close of the Contract extension period.

f.

The Contract path for the extension will be the same as the existing Contract.

g.

Credit satisfactory to PG&E, in accordance with PG&E Gas Rule 25, must be established before a Contract extension will be granted. The shipper can determine its credit status by inquiring with PG&E.

h.

If PG&E's UEG chooses to extend a transmission Contract during the Contract extension process, UEG must submit its extension notice four business days prior to the close of the process. PG&E will post UEG's transmission capacity extension notice on the Pipe Ranger web site the following day. Cogenerators will then have a minimum of three business days to submit their extension notices.

i.

All Contracts for transmission capacity extended under this process will continue to be subject to the following CPUC General Order 96-A wording:

"This GTSA shall at all times be subject to such changes or modifications by the CPUC as the CPUC may, from time to time, direct in the exercise of its jurisdiction."

2.

The Contract extension for annual transmission capacity at standard rates will be offered under the following terms and conditions:



a.

The Contract extension must be for 2003.



b.

Shippers must specify a maximum daily contract quantity (MDQ) equal to or less than the MDQ on the existing Contract. The MDQ may not vary during the term of the extension.

5

c.

The Contract reservation and usage charge will be equal to the standard annual firm tariff rate (Rate Schedule G-AFT or G-AFTOFF) for the Contract path. This standard rate will equal the Gas Accord approved rate on January 1, 2002.



d.

The reservation charge for the Contract extension will be either SFV or MFV depending on the existing contract's designation.



e.

Customers with multiple seasonal or negotiated Contracts will be allowed to combine the Contracts to make an annual contract with a constant MDQ. The rate design applicable to such annual contract shall be SFV rate design. The remaining Contract quantities will be placed in a G-NFT contract with the extension rights as described below.




3.

The Contract extension for seasonal transmission capacity at standard rates will be offered under the following terms and conditions:



a.

The Contract extension must be for 2003 in the same months and quantities as the existing Contract in 2002 except as allowed in subparagraph b, below.



b.

Any reduction in MDQ must be the same quantity in all months of the Contract.



c.

The Contract reservation and usage charge will be equal to the standard seasonal firm tariff rate (Rate Schedule G-SFT) for the Contract path. This standard rate will equal the Gas Accord approved rate on January 1, 2002.



d.

The reservation charge for the Contract extension will be either SFV or MFV depending on the existing Contract's designation.




4.

The Contract extension for negotiated transmission capacity will be offered under the following terms and conditions:



a.

The Contract extension must be for 2003 in the same months and MDQ as the existing contract in 2002 except as allowed in b. below.



b.

Any reduction in MDQ must be the same quantity in all months of the Contract.



c.

Contract extensions for current negotiated Contracts of less than 12 consecutive months will be at the maximum negotiated firm tariff SFV rate (Rate Schedule G-NFT or G-NFTOFF) for the Contract path. The maximum negotiated firm rate is 120% of the annual firm SFV rate. The maximum rate will equal the Gas Accord approved rate on January 1, 2002.



d.

Contract extensions for negotiated annual Contracts will be either at the current negotiated rate or at the annual firm tariff SFV rate (Rate Schedule G-AFT or G-AFTOFF) for the Contract path, at the option of the shipper. The term end date as specified in Exhibit B, letter agreement or term sheet will be extended from December 31, 2002 to the earlier of December 31, 2003 or until the subject transportation arrangement is declared to fall under the jurisdiction of the FERC. In the case of Contracts with true-up provisions that apply to the full term of the Contract, the true-up provisions will continue to apply to the full term of the Contract, which will include the extension period. Contracts with a floor or maximum rate specified for 2002 will have the same floor or maximum rate in 2003. The standard rate will equal the Gas Accord approved rate on January 1, 2002.



e.

If an existing firm transportation Contract has specific language specifying the customer's or PG&E's rights to extend or not extend the agreement for 2003, then such specific contract language shall supercede these general rules in this Settlement.

6

B.

Procedures for Extending Existing Storage Contracts

1.

PG&E will offer firm storage capacity holders the right to extend their Contracts for the Gas Accord II Period, which is begins April 1, 2003 for storage capacity.

a.

PG&E will extend formal offers to existing firm storage capacity holders promptly after issuance of a Commission decision approving this Settlement.

b.

Contract extensions must be for one storage year (April 1, 2003 to March 31, 2004).

c.

Firm storage capacity holders who intend to accept the extension offer must sign the offer prior to the date specified by PG&E (which will be no earlier than five (5) business days after the formal offer is presented to the customer), or else the capacity will be considered to have been relinquished and will be offered in the open season.

d.

The Contract extension offer will be extended to the shipper who holds the Contract at the time the formal offers are extended.

e.

For Contract capacity that has been assigned for the remaining term of the Contract, the assignee, not the original capacity holder (assignor), will have the right to extend the Contract.

f.

For any Contract capacity that has not been assigned for the full term of the Contract, the assignor will be offered the right to extend the Contract.

g.

The assignee and the assignor may reach an agreement that differs from the above rules on who should have the Contract extension rights. PG&E will honor the agreement if the parties send a letter to PG&E signed by both parties prior to the close of the Contract extension period.

h.

The existing customer must continue to have credit satisfactory to PG&E, in accordance with PG&E Gas Rule 25, before the Contract extension will be granted. The customer can determine its credit status by inquiring with PG&E.

i.

If PG&E's UEG chooses to extend a storage contract during the Contract extension process, UEG must submit its extension notice four (4) business days prior to the close of the process. PG&E will post UEG's storage capacity extension notice on the Pipe Ranger web site the following day. Cogenerators will then have a minimum of three business days to submit their extension notices.

j.

All Contracts for storage capacity extended under this process will continue to be subject to the following CPUC General Order 96-A requirement:

"This GTSA shall at all times be subject to such changes or modifications by the CPUC as the CPUC may, from time to time, direct in the exercise of its jurisdiction."

2.

Firm storage capacity holders with service under the standard firm storage tariff (Rate Schedule G-FS) will be offered the right to extend their storage Contracts under the following terms and conditions:



a.

Standard firm storage capacity holders must specify the amount of storage capacity (inventory and daily injection quantity) they wish to retain. The quantities specified must be equal to or less than the quantities in the existing Contract. The quantities may not vary during the term of the extension.



b.

Standard firm storage capacity holders must specify the daily storage withdrawal quantity and the number of days of withdrawal they wish to retain. The daily storage withdrawal

7

quantity and the number of days specified must be equal to or less than the daily storage withdrawal quantity and the number of days of withdrawal under the existing Contract. The daily storage withdrawal quantity may not vary during the term of the extension.

c.

The Contract reservation charges for capacity and withdrawal and the per unit usage charges for injection and withdrawal will be equal to the standard firm storage tariff rate (Rate Schedule G-FS). This standard rate will equal the Gas Accord approved rate on April 1, 2002.




3.

Firm storage capacity holders with service under the negotiable firm storage tariff (Rate Schedule G-NFS) will be offered the right to extend their storage Contracts under the following terms and conditions:



a.

All negotiable terms including the rate, the injection, withdrawal and inventory quantities, and the months of service must be equal to the negotiable firm storage capacity holder's 2002-2003 storage year Contract. No changes or capacity reductions will be allowed.



b.

A Contract extension will not be offered to those negotiated firm storage capacity holders who have a provision in their Contracts that expressly forbids a Contract extension into the post-Gas Accord period.

C.

Capacity Requirements for PG&E's Core Procurement

1.

The current CPIM mechanism will be extended for the Gas Accord II Period. The CPIM provides for periodic discussions between PG&E and consumer advocates regarding the CPIM. Nothing in this Settlement shall preclude PG&E and consumer advocates from petitioning the Commission for modifications of the CPIM prior to or during the Gas Accord II Period.

2.

The settling parties agree that the current firm intrastate capacity holdings authorized in the 2000 BCAP are sufficient for PG&E's intrastate Core Procurement for the Gas Accord II Period. Therefore, PG&E's Core Procurement will extend its existing level of firm intrastate transmission and storage capacity rights.

3.

PG&E's Core Procurement will not participate in the open season to acquire additional firm capacity.

4.

After the open season, PG&E's Core Procurement may increase (if capacity is available) or decrease (through capacity assignment) its firm transmission and storage capacity holdings based on PG&E's sole determination of benefits while operating according to the CPIM. In acquiring additional capacity rights, PG&E's Core Procurement shall be treated equally with other shippers, and shall not be granted any undue preference.

D.

Open Season for Expansion and Relinquished Capacity

1.

PG&E will conduct an open season for the Redwood Path expansion capacity and for any available unsold or relinquished firm transmission or storage capacity after shippers and storage capacity holders make their elections regarding whether to extend their current Contracts. Contracts awarded through the open season process will be treated the same as Contracts that are extended through the Contract extension process.

a.

PG&E will start the open season promptly after issuance of a Commission decision approving this Settlement and will close a minimum of seven (7) days after providing available capacity information, as provided below, following the close of the Contract extension period. Upon completion of the Contract extension period, PG&E will post on its Pipe Ranger web site for each path the amount of capacity that will be available in the open season and the amount of capacity available to off-system shippers.

8

b.

Notification of the open season will be posted on PG&E's Pipe Ranger web site, and also be sent in writing to all noncore customers and to all other customers holding a valid GTSA with PG&E.



c.

The open season will be open to all interested participants on a non-discriminatory basis. Open season participants will be required to establish credit satisfactory to PG&E, in accordance with PG&E Gas Rule 25, prior to the close of the open season. PG&E will begin accepting credit applications on May 31, 2002. Credit applications must be completed and returned to PG&E six weeks prior to the close of the open season.



d.

PG&E will inform open season participants of their awarded capacity within five (5) working days of the close of the open season, including participants awarded zero capacity.



e.

All contract exhibits for transmission and storage capacity awarded in the open season will continue to be subject to the following CPUC General Order 96-A requirement:

"This GTSA shall at all times be subject to such changes or modifications by the CPUC as the CPUC may, from time to time, direct in the exercise of its jurisdiction."

2.

PG&E will make available the following capacity in the open season:



a.

Any Redwood Path expansion capacity unsold as of the start of the open season, and all Redwood Path expansion capacity (up to approximately 200 MDth/d) as of January 1, 2003.



b.

Any existing annual firm transmission capacity unencumbered by possible Contract extension rights, as agreed to in this Settlement, as of the start of the open season.



c.

All annual firm transmission and storage capacity that is relinquished by existing contract holders effective on January 1, 2003, for transmission capacity and April 1, 2003, for storage capacity.



d.

Silverado capacity will not be sold in the open season.

E.

Requesting and Awarding Transmission Capacity in the Open Season

1.

Open season participants will be asked to submit the following information as part of any firm transmission capacity request.

a.

The transmission path and delivery point (on-system or off-system). Participants may request Baja or Redwood capacity.

b.

The delivered MDQ in Dth/d.

c.

The minimum contract MDQ in Dth/d that the participant would be willing to accept in the event of proration.

d.

The term, up to 15 months for Redwood expansion capacity, 12 months for all other transmission capacity.

e.

Whether the contract's reservation charge should be Straight Fixed Variable (SFV) or Modified Fixed Variable (MFV) based on Rate Schedule G-AFT or G-AFTOFF.

2.

The following limitations will be placed on transmission capacity requests submitted during the open season:

a.

The maximum acceptable capacity request on any one path for any open season participant including affiliated entities will be 200 MDth/d (capacity request limit). The

9

amount of capacity awarded in the Contract extension process is independent of the capacity request limit for this open season. Any entity with a 50% or greater ownership interest in another entity will be considered an affiliate of that entity. Before applying the award criteria to the capacity requests, PG&E will prorate, if necessary, all capacity requests from an entity and its affiliates until the aggregate request for that path matches the capacity request limit. PG&E's Core Procurement capacity holdings are excluded from this calculation for purposes of proration.

b.

If PG&E's UEG chooses to participate in the open season, UEG must submit its transmission capacity request four business days prior to the close of the open season. PG&E will post UEG's transmission capacity request by path on the Pipe Ranger web site the following day. Each qualified cogenerator will then have a minimum of three business days to submit its request by the end of the open season and match UEG's request if it so chooses.



c.

Capacity requests will be binding. Any shipper awarded capacity in the open season process will be responsible for the standard tariff charges (Rate Schedule G-AFT or G-AFTOFF) associated with the awarded capacity.



d.

PG&E will not accept seasonal or negotiated transmission capacity requests in the open season.




3.

The following criteria will be used to award transmission capacity:



a.

Capacity requests will be sorted by path and ranked by the highest value, which is calculated as the requested term times the requested reservation charge. Attachment A hereto provides an illustrative ranking for the Baja requests and Attachment B for Redwood requests. PG&E will provide more definitive ranking schedules prior to the commencement of the open season.



b.

PG&E initially will reserve 100 MDth/d of Redwood Path capacity in the open season for award to on-system delivery points at the on-system SFV rate for standard firm service. PG&E also will initially limit off-system firm contracts to a total capacity of 340 MDth/d. This limit includes the total of existing long-term G-XF off-system contracts, existing off-system Contracts that are extended under the Contract extension process, and initial awards in the open season. If, following the initial award process, there is any remaining capacity after awarding all on-system requests for standard firm service at SFV rates, then such remaining capacity can be awarded to fulfill any off-system requests that were not fully awarded. As a result, total off-system contracted capacity could exceed 340 MDth/d, but only after all on-system requests for standard firm service at SFV rates are satisfied.



c.

If the remaining capacity is less than the total capacity requests with the same rank (tie bids), then the capacity will be prorated. The proration formula will be the remaining available capacity divided by the total capacity requested in the tie bids times the individual capacity requested.



d.

If there are 15-month requests for expansion capacity in excess of the available expansion capacity, the unfulfilled portion of the requests will be converted to a 12-month request for non-expansion Redwood capacity.



e.

If all the expansion capacity is not awarded to 15-month requests, any remaining capacity will be used to satisfy lower ranked requests.



f.

Total holdings for any open season participant including all affiliated entities (as defined herein) at the time capacity is awarded cannot exceed 30% of the annual average capacity of either path (Redwood or Baja) after the set-aside for Core Procurement Groups,

10

wholesale customers and SMUD's equity interest. The maximum capacity limit will be approximately 400 MDth/d (annual average) for the Redwood Path and 240 Mdth/d (annual average) for the Baja Path. Awards in the open season will be limited on each path so that no entity will hold more than 30% of the annual average capacity on either path (excluding the above-mentioned set-asides) after the open season capacity is awarded. PG&E's Core Procurement will not be included in the calculations for the maximum capacity limit for affiliates of PG&E Corporation.

g.

The total award of capacity to PG&E's Utility Electric Generating Department (UEG) in the contract extension and open season process will not exceed its MDQ.



h.

After the open season the 30% limit will be enforced for any capacity acquired directly from PG&E. The 30% market limit will not apply to the secondary market. The 30% limit in this Settlement is consistent with the market concentration limit adopted for SoCalGas in Decision 01-12-018 approving the Comprehensive Gas OII Settlement.

F.

Requesting and Awarding Storage Capacity in the Open Season

1.

Open Season participants will be asked to submit the following information as part of any firm storage capacity request.

a.

The quantity of storage capacity (inventory) in Dth.

b.

The minimum storage inventory in Dth that the participant would be willing to accept in the event of proration.

c.

The withdrawal MDQ in Dth/d and the number of days of withdrawal.

d.

The minimum withdrawal quantity in Dth/d that the participant would be willing to accept in the event of proration

2.

The following limitations will be placed on storage capacity requests submitted during the open season:

a.

The term will be one year. The storage year begins April 1, 2003 and ends March 31, 2004.

b.

The maximum acceptable capacity request for storage inventory for any open season participant including all affiliated entities will be 2.0 MMDth (capacity request limit). The amount of capacity awarded in the Contract extension process is independent of the capacity request limit for this open season. Any entity with a 50% or greater ownership interest in another entity will be considered an affiliate of that entity. Before applying the award criteria to the capacity requests, PG&E will prorate all capacity requests from an entity and its affiliates until the aggregate request for that path matches the capacity request limit. PG&E's Core Procurement will not be included in the calculations for the maximum capacity limit for affiliates of PG&E Corporation.

c.

If PG&E's UEG chooses to participate in the open season, UEG must submit its storage capacity request four business days prior to the close of the open season. PG&E will post UEG's storage capacity request on the Pipe Ranger web site on the following day. Each cogenerator will then have a minimum of three business days to submit its request by the end of the open season and to match UEG's request if it so chooses.

d.

Capacity requests will be binding. Any shipper awarded capacity in the open season process will be responsible for the standard tariff charges (Rate Schedule G-FS) associated with the awarded capacity.

11

e.

The storage open season will be limited to standard firm storage requests. PG&E will not accept negotiated firm storage capacity requests in the open season.




3.

The following criteria will be used to award storage capacity:



a.

If the capacity requests exceed the available capacity, then the capacity will be prorated. The proration formula will be the remaining available capacity times the individual capacity requested divided by the total capacity requested involved in the tie.



b.

Inventory quantities and withdrawal quantities will be prorated separately if requests exceed available capacity.

VI.  QUARTERLY POSTING OF SHIPPER CONTACT LIST, AND RELATIVE SHARES OF TOP FIVE SHIPPERS BY TRANSMISSION PATH

A.

Upon completion of the Contract extension and open season process, and quarterly thereafter, PG&E will develop a contact list of firm capacity holders on PG&E's system. This list will provide an alphabetical listing of all the firm transmission capacity holders on PG&E's system as of the first day of each quarter. The list will include the contact information for those capacity holders. A similar but separate contact list will be maintained for storage. PG&E will post the contact lists on its Pipe Ranger web site.



B.

Upon completion of the Contract extension and open season process, quarterly PG&E will develop a market concentration report for the backbone system that will show the top five capacity holders by percentage for the Redwood and Baja Paths. The identities of the shippers will remain confidential and will not be shown on the report. The report will exclude PG&E's Core Procurement and calculate the percentage capacity holdings after excluding Core Procurement's and Wholesale core capacity holdings, and SMUD's undivided equity interest from the total capacity on each path. The report will include all capacity acquired by a shipper either through the Contract extension, the open season, subsequent purchases from PG&E or through the secondary market as reported to PG&E. PG&E will update the report quarterly based on the annual average capacity holdings as of the first day of the quarter. The report also will show the top five capacity holders by percentage for the subject calendar quarter (i.e., not annualized). For the calculation, PG&E will group together affiliates, using the 50% ownership criterion described earlier. PG&E will post this report on its Pipe Ranger web site. A sample of such a quarterly report is attached as Attachment C to this Settlement.

VII.  SETTLEMENT LIMITED TO CPUC PROCEEDINGS ONLY

        Nothing in this Settlement is intended to apply to or modify PG&E's proposals in its certificate application now pending at FERC. Notwithstanding the foregoing, the Settlement Parties agree that, in the event FERC issues an order adopting a transition period that would not allow the gas transportation and storage arrangements undertaken under this Settlement to effectively remain in place under FERC-approved contracts for the full one-year duration of the Gas Accord II Period, or if FERC issues an order requiring a change in the rates or firm contract quantities applicable to such arrangements, then the Settlement Parties, including PG&E, shall meet and confer in a good-faith effort to minimize any disruption that otherwise might result from such FERC-imposed changes.

VIII.  SUPPORT BY PARTIES

        The Parties recognize that it is critical to the public interest and to the stability of the gas and electric industries to have transportation and storage arrangements in place in advance of the 2002-2003 winter heating season. Accordingly, the Parties agree to fully support the adoption of this Settlement, on an expedited basis, by the CPUC, because, among other things, it resolves the pending issues in a manner that is consistent with the public interest.

12

Attachment A

Open Season Ranking for Baja Path (Illustrative)

Rank	Rate Option	Months	Res. Rate ($/Dth/Month)	Value ($/ Dth)
1	SFV-OFF	12	5.1921	62.3
1	SFV-ON	12	5.1921	62.3
2	MFV-OFF	12	3.9100	46.9
2	MFV-ON	12	3.9100	46.9

13

Attachment B

Open Season Ranking for Redwood Path (Illustrative)

Rank	Rate Option	Months	Res. Rate ($/Dth/Month)	Value ($/ Dth)
1	SFV-OFF	15	9.8251	147.4
2	SFV-ON	15	7.9610	119.4
3	SFV-OFF	12	9.8251	117.9
4	SFV-ON	12	7.9610	95.5
5	MFV-OFF	15	5.1815	77.7
6	MFV-ON	15	4.6874	70.3
7	MFV-OFF	12	5.1815	62.2
8	MFV-ON	12	4.6874	56.2

14

Attachment C

Market Concentration Report

For Capacity Holdings As Of January 1, 2003
(Illustrative)

Annual Average Capacity Holdings:

Redwood Path			Baja Path
Shipper 1	XX	%	Shipper A	XX	%
Shipper 2	XX	%	Shipper B	XX	%
Shipper 3	XX	%	Shipper C	XX	%
Shipper 4	XX	%	Shipper D	XX	%
Shipper 5	XX	%	Shipper E	XX	%

        Path Market Share Percentage equals [(annual average capacity holding by Shipper and affiliates) times (100)] divided by[(annual average path firm capacity) minus (Core and Core Wholesale period average firm capacity holdings) minus (SMUD equity interest)]

Quarterly Average Capacity Holdings:

Redwood Path			Baja Path
Shipper 1	XX	%	Shipper A	XX	%
Shipper 2	XX	%	Shipper B	XX	%
Shipper 3	XX	%	Shipper C	XX	%
Shipper 4	XX	%	Shipper D	XX	%
Shipper 5	XX	%	Shipper E	XX	%

        Path Market Share Percentage equals [(capacity holding for the quarter by Shipper and affiliates) times (100)] divided by[(path firm capacity for the quarter) minus (Core and Core Wholesale firm capacity holdings for the quarter) minus (SMUD equity interest)]

15

QuickLinks

Exhibit 10.1

I. BACKGROUND
II. OVERVIEW
III. ONE-YEAR EXTENSION OF GAS ACCORD RATES AND TERMS AND CONDITIONS OF SERVICE
IV. DISPOSITION OF SCOPING MEMO ISSUES

V. CONTRACT EXTENSION AND OPEN SEASON
VI. QUARTERLY POSTING OF SHIPPER CONTACT LIST, AND RELATIVE SHARES OF TOP FIVE SHIPPERS BY TRANSMISSION PATH
VII. SETTLEMENT LIMITED TO CPUC PROCEEDINGS ONLY
VIII. SUPPORT BY PARTIES

Attachment A
Attachment B
Attachment C

EX-10.6

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 10.6

EXECUTION COPY

$280,000,000

CREDIT AGREEMENT

among

PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC,
as Borrower,

the LENDERS from time to time parties hereto,

and

SOCIÉTÉ GÉNÉRALE,
as Administrative Agent and Security Agent

Dated as of May 29, 2001

Table of Contents

			Page
SECTION 1. DEFINITIONS			1
	1.1	Defined Terms	1
	1.2	Other Definitional Provisions	16
SECTION 2. AMOUNT AND TERMS OF COMMITMENTS			16
	2.1	Commitments	16
	2.2	Procedure for Borrowing	17
	2.3	Evidence of Debt	17
	2.4	Commitment Fees, etc.	17
	2.5	Termination or Reduction of Commitments	18
	2.6	Optional Prepayments	18
	2.7	Mandatory Prepayment of Loans and Commitment Reductions	18
	2.8	Conversion and Continuation Options	18
	2.9	Limitations on Eurodollar Tranches	19
	2.10	Interest Rates and Payment Dates	19
	2.11	Computation of Interest and Fees	19
	2.12	Inability to Determine Interest Rate	19
	2.13	Pro Rata Treatment and Payments	20
	2.14	Requirements of Law	20
	2.15	Taxes	22
	2.16	Indemnity	24
	2.17	Change of Lending Office	24
	2.18	Replacement of Lenders	24
	2.19	Illegality	25
SECTION 3. [Reserved]			25
SECTION 4. REPRESENTATIONS AND WARRANTIES OF THE BORROWER			25
	4.1	Organization; Powers	25
	4.2	Authorization and No Legal Bar	25
	4.3	Enforceability	25
	4.4	Consents	26
	4.5	Financial Statements	26
	4.6	Business	26
	4.7	Litigation	26
	4.8	Compliance with Law	26
	4.9	No Default	26
	4.10	Federal Reserve Regulations	26
	4.11	Investment Company Act	26
	4.12	Taxes	26
	4.13	Collateral	27
	4.14	ERISA and Employees	27
	4.15	Use of Proceeds	27
SECTION 5. CONDITIONS PRECEDENT			27
	5.1	Conditions to Initial Loan	27
	5.2	Closing Conditions Precedent to the Borrower	29
	5.3	Conditions to Each Loan	29
SECTION 6. AFFIRMATIVE COVENANTS			31
	6.1	Financial Statements	31

	6.2	Certificates; Other Information	31
	6.3	Payment of Obligations	31
	6.4	Maintenance of Existence and Governmental Action	31
	6.5	Maintenance of Property; Insurance	32
	6.6	Books and Records	32
	6.7	Notices	32
	6.8	Preservation of Security Interests	32
SECTION 7. NEGATIVE COVENANTS			33
	7.1	Fundamental Changes and Subsidiaries	33
	7.2	Indebtedness	33
	7.3	Liens	33
	7.4	Nature of Business	33
	7.5	Contracts	33
	7.6	Negative Pledge Clauses	33
SECTION 8. EVENTS OF DEFAULT AND NEG TRIGGER EVENTS			34
	8.1	Events of Default	34
	8.2	Remedies Upon Event of Default	35
	8.3	Additional Cure Rights	35
SECTION 9. THE ADMINISTRATIVE AGENT			36
	9.1	Appointment	36
	9.2	Delegation of Duties	36
	9.3	Exculpatory Provisions	36
	9.4	Reliance by Administrative Agent	36
	9.5	Notice of Default	37
	9.6	Non-Reliance on Administrative Agent and Other Creditors	37
	9.7	Indemnification	37
	9.8	Administrative Agent in Its Individual Capacity	38
	9.9	Successor Administrative Agent	38
SECTION 10. THE SECURITY AGENT			39
	10.1	Appointment	39
	10.2	Delegation of Duties	39
	10.3	Exculpatory Provisions	39
	10.4	Reliance by Security Agent	39
	10.5	Notice of Default	40
	10.6	Non-Reliance on Security Agent and Other Creditors	40
	10.7	Indemnification	41
	10.8	Security Agent in Its Individual Capacity	41
	10.9	Successor Security Agent	41
	10.10	Appointment of Separate or Co-Security Agent	42
	10.11	Notices, Etc., Under Collateral, Etc	42
SECTION 11. MISCELLANEOUS			42
	11.1	Amendments and Waivers	42
	11.2	Notices	43
	11.3	No Waiver; Cumulative Remedies	44
	11.4	Survival of Representations and Warranties	44
	11.5	Payment of Expenses and Taxes	44
	11.6	Successors and Assigns; Participations and Assignments	45
	11.7	Adjustments; Set-off	47

11.8	Counterparts	48
11.9	Severability	48
11.10	Integration	48
11.11	GOVERNING LAW	48
11.12	Submission To Jurisdiction; Waivers	48
11.13	Acknowledgements	48
11.14	Releases of Guarantees and Liens	49
11.15	Confidentiality	49
11.16	WAIVERS OF JURY TRIAL	49
11.17	Non-Recourse	49

SCHEDULES:

1.1	Commitments
4.7	Litigation
4.8	Compliance with Law
4.12	Contests
4.13	UCC Filing Jurisdictions

EXHIBITS:

A	Form of Note
B	Form of Borrowing Notice
C	Form of Assignment and Acceptance
D	Form of NEG Certificate

        CREDIT AGREEMENT (this "Agreement"), dated as of May 29, 2001, among PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC, a Delaware limited liability company (the "Borrower"), the several banks and other financial institutions or entities from time to time parties to this Agreement (the "Lenders") and SOCIÉTÉ GÉNÉRALE, as administrative agent (in such capacity, the "Administrative Agent") and as security agent (in such capacity, the "Security Agent").

        A.    Pursuant to the Participation Agreement dated as of September 8, 2000 among PG&E Construction Agency Services I, LLC, Master Turbine Trust I Ltd., Wilmington Trust Company, certain Lenders and Investors parties thereto, the Administrative Agent and State Street Bank and Trust Company and the Participation Agreement dated as of September 8, 2000 among PG&E Construction Agency Services II, LLC, Master Turbine Trust II Ltd., Wilmington Trust Company, certain Lenders and Investors parties thereto, the Administrative Agent and State Street Bank and Trust Company (collectively, the "Participation Agreements") and the other agreements related thereto, the parties thereto agreed, among other things, to the terms and conditions of the financing of the Turbines, certain related equipment and electric generating facility design engineering, commissioning and major maintenance services in connection with the Borrower's intention to develop certain power generation projects.

        B.    Contemporaneously with the effectiveness of this Agreement, the transactions contemplated by the Participation Agreements and the other agreements related thereto and all commitments thereunder shall terminate and all outstanding Loans and Investor Contributions thereunder shall be prepaid.

        C.    Contemporaneously with the effectiveness of this Agreement, PG&E Construction Agency Services I, LLC, as agent to Master Turbine Trust I Ltd., and Master Turbine Trust I Ltd. and PG&E Construction Agency Services II, LLC, as agent for Master Turbine Trust II Ltd., and Master Turbine Trust II Ltd. will assign their respective rights, title and interest in, to and under the Turbine Documents (as defined below) to the Borrower and in certain other assets to affiliates of the Borrower.

        D.    To induce the Lenders to enter into this Agreement, the Guarantor, which indirectly owns 100% of the equity ownership interests of the Borrower, has agreed to provide a guarantee of the Borrower's obligations under this Agreement.

        NOW, THEREFORE, in consideration of the mutual agreements herein contained and other good and valuable consideration, receipt and sufficiency of which are hereby acknowledged, the parties hereto hereby agree as follows:

SECTION 1. DEFINITIONS

        1.1    Defined Terms.    As used in this Agreement, the terms listed in this Section 1.1 shall have the respective meanings set forth in this Section 1.1.

        "ABR" or "Alternate Base Rate": for any day, a rate per annum (rounded upwards, if necessary, to the next 1/100 of 1%) equal to the greater of (a) the Prime Rate in effect on such day and (b) the Federal Funds Effective Rate in effect on such day plus ¹/2 of 1%. For purposes hereof, "Prime Rate" shall mean the rate of interest per annum publicly announced from time to time by the Administrative Agent as its prime rate in effect at its principal office in New York City (the Prime Rate not being intended to be the lowest rate of interest charged by the Administrative Agent in connection with loans to debtors); each change in the Prime Rate shall be effective on the date such change is publicly announced as effective. If for any reason the Administrative Agent shall have determined that it is unable to ascertain the Federal Funds Effective Rate for any reason, including the inability or failure of the Administrative Agent to obtain sufficient quotations in accordance with the terms thereof, the ABR shall be determined without regard to clause (b) of the first sentence of this definition, as appropriate, until the circumstances giving rise to such inability no longer exist. Any change in the ABR due to a change in the Prime Rate or the Federal

Funds Effective Rate shall be effective on the effective date of such change in the Prime Rate or the Federal Funds Effective Rate, respectively.

        "ABR Loans": Loans the rate of interest applicable to which is based upon the ABR.

        "Actual Knowledge": actual knowledge of any Responsible Officer employed by the Borrower or any other Person, as the case may be; provided, that the Borrower or such other Person, as the case may be, shall be deemed to have "Actual Knowledge" of any matter as to which a Responsible Officer of such Person has been given notice by any Creditor, the Borrower or any other Person pursuant to Section 11.2.

        "Administrative Agent": Société Générale, together with its affiliates, as the arranger of the Commitments and as the administrative agent for the Lenders under this Agreement and the other Loan Documents, together with any of its successors.

        "Affiliate": as to any Person, any other Person that, directly or indirectly, is in control of, is controlled by, or is under common control with, such Person. For purposes of this definition, "control" of a Person means the power, directly or indirectly, either to (a) vote 10% or more of the securities having ordinary voting power for the election of directors (or persons performing similar functions) of such Person or (b) direct or cause the direction of the management and policies of such Person, whether by contract or otherwise.

        "After Tax Basis": with respect to any payment to be received, the amount of such payment increased so that, after deduction of the amount of all Covered Taxes required either to be withheld upon such payment or paid by the recipient with respect to the receipt by the recipient of such amounts (taking into account any current credits or deductions arising therefrom), such increased payment is equal to the payment otherwise required to be made.

        "Agents": the collective reference to the Administrative Agent and the Security Agent.

        "Aggregate Commitment Amount": from the Closing Date through March 31, 2002, $280,000,000, and, thereafter, reduced quarterly by $25,000,000 on April 1, 2002, July 1, 2002, October 1, 2002, January 1, 2003, April 1, 2003, July 1, 2003 and October 1, 2003.

        "Aggregate Exposure": with respect to any Lender at any time, the amount of such Lender's Commitment then in effect or, if the Commitments have been terminated, the amount of such Lender's Loans then outstanding.

        "Aggregate Exposure Percentage": with respect to any Lender at any time, the ratio (expressed as a percentage) of such Lender's Aggregate Exposure at such time to the Aggregate Exposure of all Lenders at such time.

        "Agreement": as defined in the preamble hereto.

        "Applicable Margin": for each Type of Loan, the rate per annum set forth under the relevant column heading below:Pricing Grid

Rating S&P/Moody's	LIBOR Margins (bps)	ABR Margins (bps)
A/A2	100.00	37.50
A-/A3	112.50	50.00
BBB+/Baa1	125.00	62.50
BBB/Baa2	137.50	75.00
BBB-/Baa3	162.50	100.00
BB+/Ba1 and below	225.00	162.50

2

For purposes of the foregoing, with respect to the Guarantor or, if a Substitute Credit Support Instrument is in effect, with respect to the provider thereof, (i) if the ratings established by the rating agencies are one rating level apart, the applicable Pricing Grid rating level shall be determined by reference to the less favorable rating; if the ratings established by the rating agencies are two or four rating levels apart, the applicable Pricing Grid rating level shall be determined by reference to the rating that is midway between the two rating levels; and if the rating established by the rating agencies are three rating levels apart, the applicable Pricing Grid rating level shall be determined by reference to the rating level above the lower rating level; (ii) if ratings shall not be available from S&P or Moody's, the last level shall be deemed applicable; (iii) if determinative or implied ratings shall change (other than as a result of a change in the rating system used by any applicable rating agency) such that a change in the applicable Pricing Grid rating level would result, such change shall effect a change in the applicable Pricing Grid rating level as of the day on which it is first announced by the applicable rating agency, and any change in the Applicable Margin or percentage used in calculating fees due hereunder shall apply commencing on the effective date of such change and ending on the date immediately preceding the effective date of the next such change; and (iv) if the rating system of any of the rating agencies shall change prior to the date all obligations hereunder have been paid and the commitments cancelled, the Borrower and the Lenders shall negotiate in good faith to amend the reference to specific ratings above to reflect such changed rating system, and pending such amendment, if no applicable Pricing Grid rating level is otherwise determinable based on the foregoing, the last level shall apply.

        "Assignee": as defined in Section 11.6(c).

        "Assignment and Acceptance": an Assignment and Acceptance, substantially in the form of Exhibit C.

        "Assignor": as defined in Section 11.6(c).

        "Available Commitment": with respect to any Lender at any time, an amount equal to the excess, if any, of (a) a Lender's Commitment then in effect over (b) such Lender's Loans then outstanding.

        "Benefited Lender": as defined in Section 11.7(a).

        "Board": the Board of Governors of the Federal Reserve System of the United States (or any successor).

        "Borrower": as defined in the preamble hereto.

        "Borrowing Date": any Business Day specified by the Borrower as a date on which the Borrower requests the relevant Lenders to make Loans hereunder.

        "Borrowing Notice": as defined in Section 5.3(a).

        "Business Day": any day other than a Saturday, Sunday or other day on which commercial banks in New York City are authorized or required by law to close, and in the case of a Eurodollar Loan, any day on which dealings in U.S. dollar deposits are carried on in the interbank Eurodollar market and on which commercial banks are open for domestic and international business in New York and London.

        "CAS I": PG&E Construction Agency Services I, LLC, a Delaware limited liability company.

        "CAS II": PG&E Construction Agency Services II, LLC, a Delaware limited liability company.

        "Change of Control": the failure of NEG to maintain, directly or indirectly (a) control of fundamental management decisions of the Borrower (whether through direct or indirect control of

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the governing body of the Borrower, through a management services agreement with the Borrower or otherwise) or (b) no less than 50% equity ownership of the Borrower (or such lesser percentage approved by the Required Lenders, such approval not to be unreasonably withheld) free and clear of all Liens.

        "Closing Date": the date on which the conditions precedent set forth in Section 5.1 shall have been satisfied or waived in accordance with the terms thereof, which date is May 29, 2001.

        "Code": the Internal Revenue Code of 1986, as amended from time to time.

        "Collateral": as defined in Section 2.1 of the Security Agreement.

        "Commitment": as to any Lender at any time, the obligation of such Lender, if any, to make Loans in an aggregate principal amount not to exceed the product of (i) such Lender's Commitment Percentage and (ii) the Aggregate Commitment Amount at such time.

        "Commitment Fee Rate": the applicable rate per annum set forth below:

	Commitment Fee Rate
If the Guarantor's long-term unsecured debt ratings are at least BBB- by S&P and Baa3 by Moody's (or if ratings of such debt have not been issued by such agencies, such debt is impliedly rated by an issuer rating or an indicative rating of at least BBB- by S&P and Baa3 by Moody's)	0.375	%
If the Guarantor's long-term unsecured debt rating is lower than BBB- by S&P or Baa3 by Moody's (or if rating of such debt has not been issued by such rating agency, such debt is impliedly rated by an issuer rating or an indicative rating lower than BBB- by S&P or Baa3 by Moody's)	0.50	%

        "Commitment Percentage": the amount set forth under the heading "Commitment Percentage" opposite such Lender's name on Schedule 1.1 or in the Assignment and Acceptance pursuant to which such Lender became a party hereto, as the same may be changed from time to time pursuant to the terms hereof.

        "Commitment Period": the period from and including the Closing Date to the Termination Date.

        "Consents": the collective reference to (i) the Consent and Agreement, dated as of May 29, 2001, among the Borrower, the Turbine Vendor I and the Security Agent, (ii) the Consent and Agreement, dated as of May 29, 2001, among the Borrower, Mitsubishi Heavy Industries, Ltd. and the Security Agent, (iii) the Consent and Agreement, dated as of May 29, 2001, among the Borrower, Mitsubishi Heavy Industries America, Inc. and the Security Agent, (iv) the Consent and Agreement, dated as of May 29, 2001, among the Borrower, Hitachi and the Security Agent and (v) any other consent and agreement that may be entered into among the Borrower, the Borrower's counterparty to any Other Equipment Document and the Security Agent.

        "Contractual Obligation": as to any Person, any provision of any security issued by such Person or of any agreement, instrument or other undertaking to which such Person is a party or by which it or any of its property is bound.

        "Covered Taxes": as defined in Section 2.15(a).

        "Creditors": the collective reference to the Lenders and the Agents.

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        "Default": any of the events specified in Section 8, whether or not any requirement for the giving of notice, the lapse of time, or both, has been satisfied.

        "Dollars" and "$": dollars in lawful currency of the United States.

        "Environmental Law": whenever enacted or promulgated, any federal, state, county or local law, statute, ordinance, code, rule, regulation, license, permit, authorization, approval, covenant, administrative or court order, judgment, decree, injunction, code or requirement of or any agreement with, any Governmental Authority:

        (x) relating to pollution (or the cleanup, removal, or remediation thereof, or any other response thereto), or the regulation or protection of human health, safety or the environment, including ambient or indoor air, water vapor, surface water, groundwater, drinking water, land (including surface or subsurface), plant, aquatic and animal life, or

        (y) concerning exposure to, or the use, containment, storage, recycling, treatment, generation, discharge, emission, Release or threatened Release, transportation, processing, handling, labeling, containment, production, disposal or remediation of any Hazardous Substance, Hazardous Condition or Hazardous Activity,

in each case as amended and as now or hereafter in effect, and any common law or equitable doctrine (including injunctive relief and tort doctrines such as negligence, nuisance, trespass and strict liability) that may impose liability or obligations for injuries (whether personal or property) or damages due to or threatened as a result of the presence of, exposure to, or ingestion of, any Hazardous Substance, whether such common law or equitable doctrine is now or hereafter recognized or developed. Environmental Laws include CERCLA; the Resource Conservation and Recovery Act of 1976, 42 U.S.C. §§ 6901 et seq.; the Federal Water Pollution Control Act, 33 U.S.C. §§ 1251 et seq.; the Clean Air Act, 42 U.S.C. §§ 7401 et seq.; the Refuse Act, 33 U.S.C. §§ 401 et seq.; the Hazardous Materials Transportation Act of 1975, 49 U.S.C. §§ 1801-1812; the Toxic Substances Control Act, 15 U.S.C. §§ 2601 et seq.; the Federal Insecticide, Fungicide, and Rodenticide Act, 7 U.S.C. §§ 136 et seq.; the Safe Drinking Water Act, 42 U.S.C. §§ 300 et seq.; and the Occupational Safety and Health Act of 1970.

        "Equipment Costs": the collective reference to Turbine Costs and Other Equipment Costs.

        "Equipment Procurement Budget": the budget of estimated costs related to the procurement of Turbines and Other Equipment delivered to the Creditors on or prior to the Closing Date as modified from time to time in accordance with the terms of the Credit Agreement.

        "ERISA": the Employee Retirement Income Security Act of 1974, as the same may be amended from time to time.

        "ERISA Affiliate": any trade or business (whether or not incorporated) that is a member of a group of (i) organizations described in Section 414(b) or (c) of the Code, and (ii) solely for purposes of the Lien created under Section 412(n) of the Code, organizations described in Section 414(m) or (o) of the Code of which the Guarantor is a member.

        "ERISA Event": the (i) Borrower or any ERISA Affiliate shall fail to pay when due an amount or amounts aggregating in excess of $15,000,000 which it shall have become liable to pay under Title IV of ERISA; or (ii) notice of intent to terminate a Material Plan shall be filed under Title IV of ERISA by Borrower or any ERISA Affiliate, any plan administrator or any combination of the foregoing; or (iii) the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or (iv) a condition shall exist by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated; or (v) there shall occur a complete or

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partial withdrawal from, or a default, within the meaning of Section 4219 (c) (5) of ERISA, with respect to, one or more Multiemployer Plans which could cause the Borrower or any ERISA Affiliate to incur a current payment obligation in excess of $15,000,000; or (vi) receipt by the Borrower or any ERISA Affiliate of notice from one or more Multiemployer Plans of intent to terminate or that it is insolvent or in reorganization (within the meaning of Section 4241 or 4245 of ERISA, as applicable) which termination, insolvency or reorganization, individually or together with other such events, could cause the Borrower and/or any ERISA Affiliate, individually or in the aggregate, to incur a current payment obligation in excess of $15,000,000; or (vii) the Borrower or any ERISA Affiliate shall engage in any non-exempt "prohibited transaction" (as defined in Section 406 of ERISA or Section 4975 of the Code) which could result in a current payment obligation of the Borrower and/or any ERISA Affiliate, individually or in the aggregate, in an amount or amounts aggregating in excess of $15,000,000; or (viii) the occurrence of any event or series of events of the nature described in clauses (i) through (vii) with respect to any Plan or Multiemployer Plan which, individually or in the aggregate, could result in a liability to the Borrower and/or any ERISA Affiliate, individually or in the aggregate, in an amount or amounts aggregating in excess of $50,000,000.

        "Eurocurrency Liabilities": as defined in Regulation D of the Board.

        "Eurocurrency Reserve Period" as defined in Section 2.11(b).

        "Eurocurrency Reserve Requirements": for any day the percentage (expressed as a decimal) which is required on such day, as prescribed by the Board for determining the reserve requirement for a member bank of the Federal Reserve System in New York City with deposits exceeding five billion Dollars ($5,000,000,000) in respect of Eurocurrency Liabilities (or in respect of any other category of liabilities which includes deposits by reference to which the interest rate on Eurodollar Loans is determined or any category of extensions of credit or other assets which includes loans by a non-United States office of any Lender to United States residents).

        "Eurodollar Loans": Loans the rate of interest applicable to which is based upon the Eurodollar Rate.

        "Eurodollar Rate": for any Interest Period with respect to a Eurodollar Loan, the rate per annum equal to the lower of (i) the offered rate (rounded upwards, if necessary, to the next higher 1/100th of 1%) which appears on the Telerate Page 3750, British Bankers Association Interest Settlement Rates (or such other system for the purpose of displaying rates of leading reference banks in the London interbank market that replaces such system) or (ii) the average rate (rounded upwards, if necessary, to the next higher 1/100th of 1%) offered in the London interbank market to the Eurodollar Reference Banks, in either case as of 11:00 a.m. (London time) for deposits in Dollars on the day two (2) Business Days prior to the first day of such Interest Period in an amount approximately equal to the principal amount of the Eurodollar Loan to which such Interest Period is to apply and for a period of time comparable to such Interest Period.

        "Eurodollar Reference Banks": the Lenders or Affiliates of the Lenders.

        "Eurodollar Tranche": the collective reference to Eurodollar Loans the then current Interest Periods with respect to all of which begin on the same date and end on the same later date (whether or not such Loans shall originally have been made on the same day).

        "Event of Default": any of the events specified in Section 8, provided that any requirement for the giving of notice, the lapse of time, or both, has been satisfied.

        "Federal Funds Effective Rate": for any day, the weighted average, rounded upwards, if necessary, to the nearest 1/100 of 1%, of the rates on overnight Federal funds transactions with members of the Federal Reserve System arranged by Federal funds brokers, as published on the

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next succeeding Business Day by the Federal Reserve Bank of New York, or, if such rate is not so published for any day that is a Business Day, the average of the quotations for the day of such transactions received by the Administrative Agent from three Federal funds brokers of recognized standing selected by it.

        "Funding Office": the office of the Administrative Agent specified in Section 11.2 or such other office as may be specified from time to time by the Administrative Agent as its funding office by written notice to the Borrower and the Lenders.

        "GAAP": United States generally accepted accounting principles (including principles of consolidation), in effect from time to time, consistently applied.

        "GE Turbine": each General Electric Company model PG7241FA or model PG7251FB gas-turbine generator to be acquired by the Borrower pursuant to the Turbine Documents.

        "Governmental Action": all permits, authorizations, registrations, consents, approvals, waivers, exceptions, variances, orders, judgments, written interpretations, decrees, licenses, exemptions, publications, filings, notices to and declarations of or with, or required by, any Governmental Authority.

        "Governmental Authority": any Federal, state, county, municipal or other local governmental authority or judicial or regulatory agency, board, body, commission, instrumentality, court or quasi-governmental authority.

        "Guarantee": the Guarantee and Agreement, dated as of May 29, 2001, executed by the Guarantor in favor of the Security Agent, for the benefit of the Lenders.

        "Guarantee Obligation": (a) a guaranty by a Person (other than by endorsement of negotiable instruments for collection in the ordinary course of business), directly or indirectly, in any manner, of any part or all of the obligations of another person; and (b) an agreement by a Person, direct or indirect, contingent or otherwise, and whether or not constituting a guaranty, the practical effect of which is to assure the payment or performance (or payment of damages in the event of nonperformance) of any part or all of the obligations of another Person (other than in respect of operating leases not otherwise included in the definition of "Lease Obligations"), including, without limitation, by (i) the purchase of securities or obligations, (ii) the purchase, sale or lease of property or the purchase or sale of services primarily for the purpose of enabling the obligor with respect to such obligation to make any payment or performance (or payment of damages in the event of nonperformance) of or on account of any part or all of such obligation, or to assure the obligee of such obligation against loss, (iii) repayment of amounts drawn down by beneficiaries of letters of credit, (iv) the maintenance of working capital, equity capital, available cash or other financial statement condition so as to enable the primary obligor to pay Indebtedness; (v) the provision of equity or other capital under or in respect of equity or other capital subscription arrangements, (vi) the supplying of funds to or investing in a Person on account of all or any part of such Person's obligation or indemnifying or holding harmless, in any way, such Person against any part or all of such obligation or (vii) the placing of any Lien on property (including, without limitation, accounts and contract rights) of a Person to secure another Person's Indebtedness.

        "Guaranteed Obligations": as defined in Section 1.01 of the Guarantee.

        "Guarantor": NEG or any successor thereof.

        "Hazardous Activity": any activity, process, procedure or undertaking that directly or indirectly: (i) produces, generates or creates any Hazardous Substance; (ii) causes or results in the Release of any Hazardous Substance into the environment (including ambient or indoor air, water vapor, surface water, groundwater, drinking water, land (including surface or subsurface), plant, aquatic and animal life); (iii) involves the containment or storage of any Hazardous Substance; or

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(iv) would be regulated as hazardous waste treatment, storage or disposal within the meaning of any Environmental Law.

        "Hazardous Condition": any condition that violates or that results in noncompliance with any Environmental Law.

        "Hazardous Substance": any of the following: (i) any petroleum or petroleum product, explosives, radioactive materials, asbestos, formaldehyde, polychlorinated biphenyls, lead or radon gas; or (ii) any substance, material, product, derivative, compound or mixture, mineral, chemical, waste, gas, medical waste or pollutant that would support the assertion of any claim under any Environmental Law, whether or not defined as hazardous under any Environmental Laws.

        "Hitachi": Hitachi America, Ltd., a New York corporation.

        "Incipient NEG Trigger Event": as defined in Section 1.01 of the Guarantee.

        "Indebtedness": with respect to any Person, (i) all indebtedness of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds, debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, (iv) all indebtedness created or arising under any conditional sale or other title retention agreement with respect to property acquired by such Person (even though the rights and remedies of the seller or lender under such agreement in the event of default are limited to repossession or sale of such property), (v) all Lease Obligations of such Person, (vi) all obligations, contingent or otherwise, of such Person under any issued and outstanding acceptance, letter of credit, surety bonds or similar instruments, (vii) all obligations of such Person to redeem or purchase any capital stock of such Person which is mandatorily redeemable, (viii) all Swaps of such Person and (ix) any Guarantee Obligation of such Person with respect to liabilities of the type described in clauses (i) through (viii) hereof.

        "Initial Loan": as defined in Section 5.1.

        "Interest Payment Date": (a) as to any ABR Loan, the last day of each March, June, September and December, the date of any refinancing or conversion of such Loan with or to a Loan of a different Type, and the Termination Date, (b) as to any Eurodollar Loan having an Interest Period of three months or less, the last day of such Interest Period, (c) as to any Eurodollar Loan having an Interest Period longer than three months, each day which is three months (or a multiple thereof) after the first day of such Interest Period and the day which is the last day of such Interest Period.

        "Interest Period": with respect to any Eurodollar Loan:

        (a)  initially, the period commencing on the borrowing or conversion date, as the case may be, with respect to such Eurodollar Loan, and ending one, two, three, six months, nine months (if available) or twelve months (if available) thereafter, as selected by the Borrower in its notice of borrowing or notice of conversion, as the case may be, given with respect thereto; and

        (b)  thereafter, each period commencing on the last day of the immediately preceding Interest Period applicable to such Eurodollar Loan, and ending one, two, three, six months, nine months (if available) or twelve months (if available) thereafter, as selected by the Borrower by irrevocable notice to the Administrative Agent not less than three Business Days prior to the last day of the then current Interest Period with respect thereto;

provided that, the foregoing provisions relating to Interest Periods are subject to the following:

          (i)  if any Interest Period would otherwise end on a day that is not a Business Day, such Interest Period shall be extended to the next succeeding Business Day unless the

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result of such extension would be to carry such Interest Period into another calendar month in which event such Interest Period shall end on the immediately preceding Business Day;

        (ii)  any Interest Period that would otherwise extend beyond the Termination Date shall end on the Termination Date; and

        (iii)  any Interest Period that begins on the last Business Day of a calendar month (or on a day for which there is no numerically corresponding day in the calendar month at the end of such Interest Period) shall end on the last Business Day of a calendar month.

        "Lease Obligations": without duplication, (i) any Indebtedness represented by obligations under a lease that is required to be capitalized for financial reporting purposes and (ii) the present value, determined using a discount rate equal to the incremental borrowing rate (as defined in Statement of Financial Accounting Standards No. 13) of the Person incurring such obligations, of rent obligations under leases of electric generating assets or natural gas pipelines and related facilities.

        "Lender Affiliate": (a) any Affiliate of any Lender, (b) any Person that is administered or managed by any Lender and that is engaged in making, purchasing, holding or otherwise investing in commercial loans and similar loans in the ordinary course of its business and (c) with respect to any Lender which is a fund that invests in commercial loans and similar loans, any other fund that invests in commercial loans and similar loans and is managed or advised by the same investment advisor as such Lender or by an Affiliate of such Lender or investment advisor.

        "Lenders": as defined in the preamble hereto.

        "Lien": with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset or any interest or title of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset.

        "Loan": any loan made by any Lender pursuant to this Agreement.

        "Loan Documents": this Agreement, the Security Documents and the Notes.

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        "Loan Parties": the Borrower and the Guarantor, or if a Substitute Credit Support Instrument pursuant to clause (b) of the definition thereof is in effect, the provider of such Substitute Credit Support Instrument.

        "Master Turbine Agreements": collectively, as amended, supplemented or otherwise modified from time to time, (i) the master turbine agreement, dated as of September 6, 2000, between CAS I, as agent of Owner I, and Turbine Vendor I, with respect to which CAS I and Owner I assigned all of their respective right, title and interest and obligations to the Borrower on the date hereof, and (ii) the turbine purchase agreement between CAS II, as agent of Owner II, and Turbine Vendor II, dated as of September 8, 2000, with respect to which CAS II and Owner II assigned all of their respective right, title and interest and obligations to the Borrower on the date hereof.

        "Material Adverse Effect": a material adverse change in (a) the financial condition or the results of operations of the Borrower, (b) the ability of the Borrower to perform its obligations under the Loan Documents or the validity or enforceability of the Transaction Documents or (c) the Security Agent's rights in the Collateral or the ability to realize on the Collateral upon the exercise of remedies under any Security Document.

        "Material Plan": any Plan or Plans having aggregate Unfunded Liabilities in excess of $50,000,000.

        "MHI Turbine": each Mitsubishi Heavy Industries, Ltd. model M501G combined cycle combustion turbine or steam turbine and all equipment related to such turbines to be acquired by the Borrower pursuant to the Turbine Documents.

        "Moody's": Moody's Investors Service, Inc.

        "Multiemployer Plan": a multiemployer plan as defined in Section 4001(a)(3) of ERISA to which the Borrower or any ERISA Affiliate is making, or accruing an obligation to make, contributions, or has within any of the preceding six years made, or accrued an obligation to make, contributions.

        "NEG": PG&E National Energy Group, Inc., a Delaware corporation.

        "NEG Downgrade Event": as defined in Section 1.01 of the Guarantee.

        "NEG Guarantee Release Date": as defined in Section 1.01 of the Guarantee.

        "NEG Trigger Event": as defined in Section 1.01 of the Guarantee or, if a Substitute Credit Support Instrument in the form of a guaranty pursuant to clause (b) of the definition thereof is in effect, the meaning set forth in the relevant section of such Substitute Credit Support Instrument.

        "Non-U.S. Person": a Lender or any assignee thereof under Section 11.6 (including any Participant) that is not a United States person (as such term is defined in Section 7701(a)(30) of the Code).

        "Notes": the collective reference to any promissory note evidencing Loans pursuant to Section 2.3(b).

        "Obligations": the unpaid principal of and interest on (including interest accruing after the maturity of the Loans and interest accruing after the filing of any petition in bankruptcy, or the commencement of any insolvency, reorganization or like proceeding, relating to the Borrower, whether or not a claim for post-filing or post-petition interest is allowed in such proceeding) the Loans and all other obligations and liabilities of the Borrower to the Administrative Agent or to any Lender, whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred, which may arise under, out of, or in connection with, this Agreement, any other Loan Document, or any other document made, delivered or given in

10

connection herewith or therewith, whether on account of principal, interest, reimbursement obligations, fees, indemnities, costs, expenses (including all fees, charges and disbursements of counsel to the Administrative Agent or to any Lender that are required to be paid by the Borrower pursuant hereto) or otherwise.

        "Other Equipment": collectively, (a)(i) the heat recovery steam generators and associated auxiliary equipment manufactured by Hitachi and acquired or to be acquired by the Borrower pursuant to the Master Heat Recovery Steam Generator Contract, dated as of April 20, 2001, between the Borrower and Hitachi, (ii) the steam turbine generators and associated auxiliary equipment manufactured by Hitachi and acquired or to be acquired by the Borrower pursuant to the Master Steam Turbine Generator Agreement, dated as of March 26, 2001, between the Borrower and Hitachi and (iii) the two-winding and three-winding transformers and associated auxiliary equipment manufactured by Hitachi and acquired or to be acquired by the Borrower pursuant to the Master Main Transformer Agreements, both dated as of April 19, 2001, between the Borrower and Hitachi and (b)(i) the heat recovery steam generators, (ii) the steam turbine generators and (iii) the transformers, together with associated auxiliary equipment, to be acquired by the Borrower from time to time after the Closing Date, all to be used in the projects in which the Turbines are intended to be used.

        "Other Equipment Costs": all fees, expenses and other amounts payable under the Other Equipment Documents and interest and fees on the Loans to the extent such Loans are used to pay such amounts.

        "Other Equipment Documents": the contracts and agreements entered into by the Borrower with respect to the design, development, engineering, purchase, delivery, installation and maintenance of any Other Equipment.

        "Owner I": Master Turbine Trust I Ltd., a Delaware business trust.

        "Owner II": Master Turbine Trust II Ltd., a Delaware business trust.

        "Participant": as defined in Section 11.6(b).

        "PBGC": the Pension Benefit Guaranty Corporation established pursuant to Subtitle A of Title IV of ERISA (or any successor).

        "Percentage": as to any Lender at any time, the percentage which such Lender's Commitment then constitutes of the Total Commitments or, at any time after the Commitments shall have expired or terminated, the percentage which the aggregate principal amount of such Lender's Loans then outstanding constitutes of the aggregate principal amount of the Loans then outstanding, provided, that, in the event that the Loans are paid in full prior to the reduction to zero of the Total Loans, the Percentages shall be determined in a manner designed to ensure that the other outstanding Loans shall be held by the Lenders on a comparable basis.

        "Permitted Liens": (i) the respective rights and interests of the parties to the Transaction Documents as provided in the Transaction Documents; (ii) Liens for taxes that either are not yet due, are due but payable without penalty or are being contested in good faith and for which the Borrower has set aside adequate reserves (to the extent required by GAAP); (iii) legal or equitable encumbrances deemed to exist by reason of the existence of any litigation or other legal proceeding if the same is subject of a good faith contest (excluding any attachment prior to judgment, judgment lien or attachment in aid of execution of a judgment), in each case for which the Borrower has set aside adequate reserves (to the extent required by GAAP); (iv) deposits or pledges to secure statutory obligations or appeals and release of attachments, stay of execution or injunction; performance of bids, tenders, contracts (other than for the repayment of borrowed money) or leases, or for purposes of like general nature in the ordinary course of business, in each

11

case for which the Borrower has set aside adequate reserves (to the extent required by GAAP); (v) liens in connection with workers compensation, unemployment insurance or other social security or pension obligations, in each case for which the Borrower has set aside adequate reserves (to the extent required by GAAP) and (vi) mechanic's, workmen's, materialmen's, construction or other like liens arising in the ordinary course of business or incident to the construction or improvement of any property in respect of obligations which are not yet due or which are the subject of a good faith contest and which do not exceed $3 million with respect to the Collateral.

        "Person": an individual, partnership, corporation, limited liability company, business trust, joint stock company, trust, unincorporated association, joint venture, Governmental Authority or other entity of whatever nature.

        "Plan": at a particular time, any employee pension benefit plan described under Section 3(2) of ERISA (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA that is maintained by the Borrower or any ERISA Affiliate or with respect to which the Borrower or any ERISA Affiliate could have liability under Section 4069 of ERISA.

        "Pricing Grid": the pricing grid appearing under the definition of "Applicable Margin."

        "Prime Rate": as set forth in the definition of "ABR."

        "Register": as defined in Section 2.3(a).

        "Required Lenders": at any time, the holders of more than 50% of the Total Commitments then in effect or, if the Commitments have been terminated, the Total Loans then outstanding.

        "Requirement of Law": as to any Person, the Certificate of Incorporation, By-Laws, Articles of Association, partnership agreement or other organizational or governing documents of such Person, and any law, treaty, rule or regulation or determination of an arbitrator or a court or other Governmental Authority, in each case applicable to or binding upon such Person or any of its property or to which such Person or any of its property is subject.

        "Responsible Officer": (a) with respect to the Borrower, any Person or Persons authorized to act on behalf of the Borrower by the Borrower's Board of Control or other governing body, and (b) with respect to each Creditor, any officer thereof having responsibility for the administration of the transactions contemplated by the Loan Documents.

        "S&P": Standard & Poor's Ratings Services, a division of The McGraw Hill Companies, Inc.

        "SEC": the Securities and Exchange Commission, any successor thereto and any analogous Governmental Authority.

        "Security Agent": as defined in the preamble hereto.

        "Security Agreement": the Security Agreement, dated as of the date hereof, between the Borrower and the Security Agent, for the benefit of the Creditors.

        "Security Documents": the collective reference to the Guarantee, the Security Agreement, the Consents and all other security documents hereafter delivered to the Administrative Agent granting a Lien on any property of any Person to secure the obligations and liabilities of any Loan Party under any Loan Document.

        "Subsidiary": with respect to any Person (herein referred to as the "parent"), any corporation, partnership, association or other business entity (a) of which securities or other ownership interests representing more than 50% of the equity or more than 50% of the ordinary voting power or more than 50% of the general partnership interests are, at the time any determination is being made, owned, controlled or held, or (b) which is, at the time any determination is made, otherwise

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controlled by the parent or one or more subsidiaries of the parent or by the parent and one or more subsidiaries of the parent. For purposes of this definition, "control" shall mean, as used with respect to any Person, the possession, directly or indirectly, of the power to direct or cause the direction of the management policies of such Person, whether through the ownership of voting securities or by contract or otherwise.

        "Substitute Credit Support Instrument": as defined in Section 1.01 of the Guarantee.

        "Substitute Credit Support Instrument Draw Event": (i) either (x) the credit rating of the issuer of the letter of credit under clause (a) of the definition of Substitute Credit Support Instrument ceases to be rated at least "A" by S&P and at least "A2" by Moody's or (y) the issuer of such letter of credit ceases to be rated by both S&P and Moody's and, in the case of clause (x) or (y), such letter of credit is not replaced with a Substitute Credit Support Instrument within thirty (30) days after such event or (ii) the letter of credit under clause (a) of the definition of Substitute Credit Support Instrument is not replaced or renewed by no later than fifteen (15) Business Days prior to its date of expiration.

        "Swaps": with respect to any Person, payment obligations with respect to interest rate swaps, currency swaps and similar obligations obligating such Person to make payments, whether periodically or upon the happening of a contingency. The amount of the obligation under any Swap shall be the amount determined in respect thereof as of the end of the then most recently ended fiscal quarter of such Person, based on the assumption that such Swap had terminated at the end of such fiscal quarter, and in making such determination, if any agreement relating to such Swap provides for the netting of amounts payable by and to such Person thereunder of if any such agreement provides for the simultaneous payment of amounts by and to such Person, then in each such case, the amount of such obligation shall be the net amount so determined.

        "Termination Agreement": the Termination Agreement (Master Turbine Trusts I and II), dated as of May 29, 2001, among PG&E Corporation, the Guarantor, PG&E Generating Company, LLC, the Borrower, CAS I, CAS II, Owner I, Owner II, the Administrative Agent, Wilmington Trust Company, State Street Bank and Trust Company and the several banks party thereto.

        "Termination Date": December 31, 2003.

        "Total Commitments": at any time, the aggregate amount of the Commitments then in effect.

        "Total Loans": at any time, the aggregate amount of the Loans of the Lenders outstanding at such time.

        "Transaction Documents": the Loan Documents, the Turbine Documents and the Other Equipment Documents.

        "Transaction Expenses": transaction expenses payable pursuant to Section 11.5 to the extent the same have not been specifically designated in the applicable Borrowing Notice as Equipment Costs.

        "Transferee": any Assignee or Participant.

        "Turbine": each GE Turbine or MHI Turbine.

        "Turbine Contract": each definitive agreement for the purchase of one or more Turbines entered into pursuant to the Master Turbine Agreements, any long term service agreement with respect to the Turbines, any other definitive agreement relating to one or more specific Turbines and any guarantees provided in connection with the foregoing, in form and substance reasonably satisfactory to the Administrative Agent.

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        "Turbine Costs": all fees, expenses and other amounts payable under the Turbine Documents and interest and fees on Loans to the extent such Loans were used to pay such amounts.

        "Turbine Documents": the Master Turbine Agreements and all Turbine Contracts.

        "Turbine Vendor": each of Turbine Vendor I and Turbine Vendor II.

        "Turbine Vendor I": General Electric Company, as vendor of the GE Turbines under the Turbine Documents.

        "Turbine Vendor II": collectively, Mitsubishi Heavy Industries, Ltd. and Mitsubishi Heavy Industries America, Inc., as vendor of the MHI Turbines under the Turbine Documents.

        "Type": as to any Loan, its nature as an ABR Loan or a Eurodollar Loan.

        "UCC Financing Statements": Uniform Commercial Code financing statements identified in Schedule 4.13 to this Agreement appropriately completed and executed for filing.

        "Unfunded Liabilities": with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability of the Borrower or any ERISA Affiliate to the PBGC or any other Person under Title IV of ERISA.

        "United States": the United States of America.

        1.2    Other Definitional Provisions.    (a) Unless otherwise specified therein, all terms defined in this Agreement shall have the defined meanings when used in the other Loan Documents or any certificate or other document made or delivered pursuant hereto or thereto.

        (b)  As used herein and in the other Loan Documents, and any certificate or other document made or delivered pursuant hereto or thereto, (i) accounting terms relating to any Loan Party not defined in Section 1.1 and accounting terms partly defined in Section 1.1, to the extent not defined, shall have the respective meanings given to them under GAAP, (ii) the words "include", "includes" and "including" shall be deemed to be followed by the phrase "without limitation", (iii) the word "incur" shall be construed to mean incur, create, issue, assume, become liable in respect of or suffer to exist (and the words "incurred" and "incurrence" shall have correlative meanings), (iv) the words "asset" and "property" shall be construed to have the same meaning and effect and to refer to any and all tangible and intangible assets and properties, including cash, capital stock, securities, revenues, accounts, leasehold interests and contract rights, and (v) references to agreements or other Contractual Obligations shall, unless otherwise specified, be deemed to refer to such agreements or Contractual Obligations as amended, supplemented, restated or otherwise modified from time to time.

        (c)  The words "hereof", "herein" and "hereunder" and words of similar import, when used in this Agreement, shall refer to this Agreement as a whole and not to any particular provision of this Agreement, and Section, Schedule and Exhibit references are to this Agreement unless otherwise specified.

        (d)  The meanings given to terms defined herein shall be equally applicable to both the singular and plural forms of such terms.

SECTION 2. AMOUNT AND TERMS OF COMMITMENTS

        2.1    Commitments.    (a) Subject to the terms and conditions hereof, each Lender severally agrees to make revolving credit loans to the Borrower from time to time during the Commitment Period in an

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aggregate principal amount at any one time outstanding which does not exceed the amount of such Lender's Commitment. During the Commitment Period the Borrower may use the Commitments by borrowing, prepaying the Loans in whole or in part, and reborrowing, all in accordance with the terms and conditions hereof.

        (b)  The Loans may from time to time be (i) Eurodollar Loans, (ii) ABR Loans or (iii) a combination thereof, as determined by the Borrower and notified to the Administrative Agent in accordance with Sections 2.2, 2.3 and 2.8; provided that no Loan shall be made as a Eurodollar Loan after the day that is one month prior to the Termination Date.

        (c)  The Borrower shall repay all outstanding Loans on the Termination Date.

        2.2    Procedure for Borrowing.    Subject to Section 5.3, the Borrower may borrow under the Commitments during the Commitment Period on any Business Day, provided that the Borrower shall give the Administrative Agent irrevocable notice (which notice must be received by the Administrative Agent prior to 12:00 Noon, New York City time, (a) three Business Days prior to the requested Borrowing Date, in the case of Eurodollar Loans, or (b) one Business Day prior to the requested Borrowing Date, in the case of ABR Loans), specifying (i) the amount and Type of Loans to be borrowed, (ii) the requested Borrowing Date and (iii) in the case of Eurodollar Loans, the respective amounts of each such Type of Loan and the respective lengths of the initial Interest Period therefor. Any Loans made on the Closing Date shall initially be ABR Loans. Each borrowing under the Commitments shall be in an amount equal to (x) in the case of ABR Loans, at least $1,000,000 and (y) in the case of Eurodollar Loans, at least $1,000,000 (or, if the then aggregate Available Commitments are less than $1,000,000, such lesser amount). Upon receipt of any such notice from the Borrower, the Administrative Agent shall promptly notify each Lender thereof. Each Lender will make the amount of its pro rata share of each borrowing available to the Administrative Agent for the account of the Borrower at the Funding Office prior to 11:00 A.M., New York City time, on the Borrowing Date requested by the Borrower in funds immediately available to the Administrative Agent. Such borrowing will then be made available to the Borrower by the Administrative Agent crediting the account of the Borrower on the books of such office with the aggregate of the amounts made available to the Administrative Agent by the Lenders and in like funds as received by the Administrative Agent.

        2.3    Evidence of Debt.    (a) The Administrative Agent, on behalf of the Lenders, shall maintain the register (the "Register") in which shall be recorded (i) the amount of each Loan made hereunder and any Note evidencing such Loan, the Type thereof and each Interest Period applicable thereto, (ii) the amount of any principal or interest due and payable or to become due and payable from the Borrower to each Lender hereunder and (iii) the amount of any sum received by the Administrative Agent hereunder from the Borrower and the amount of each Lender's share thereof.

        (b)  The Borrower agrees that, upon the request to the Administrative Agent by any Lender, the Borrower will execute and deliver to such Lender a promissory note substantially in the form of Exhibit A hereto, with appropriate insertions as to date and principal amount (each, a "Note") evidencing any Loan of such Lender.

        2.4    Commitment Fees, etc.    (a) The Borrower agrees to pay in arrears to the Administrative Agent for the account of each Lender a commitment fee for the period from and including the Closing Date to the last day of the Commitment Period, computed at the Commitment Fee Rate calculated on the basis of a 365- (or 366-, as the case may be) day year for actual days elapsed on the average daily amount of the Available Commitment of such Lender during the period for which payment is made, payable quarterly in arrears on the last day of each March, June, September and December and on the Termination Date, commencing on the first of such dates to occur after the date hereof.

        (b)  The Borrower agrees to pay to the Administrative Agent the fees in the amounts and on the dates previously agreed to in writing by the Borrower and the Administrative Agent.

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        2.5    Termination or Reduction of Commitments.    The Borrower shall have the right, upon not less than five Business Days' notice to the Administrative Agent, to terminate the Commitments or, from time to time, to reduce the amount of the Commitments; provided that no such termination or reduction of Commitments shall be permitted if, after giving effect thereto and to any prepayments of the Loans made on the effective date thereof, the Total Loans would exceed the Total Commitments. Any such reduction shall be in an amount equal to $1,000,000, or a whole multiple thereof, and shall reduce permanently the Commitments then in effect.

        2.6    Optional Prepayments.    The Borrower may at any time and from time to time prepay the Loans, in whole or in part, without premium or penalty, upon irrevocable notice delivered to the Administrative Agent at least five Business Days prior thereto, which notice shall specify the date and amount of prepayment and whether the prepayment is of Eurodollar Loans, ABR Loans or a combination thereof and, if of a combination thereof, the amount allocable to each; provided, that if a Eurodollar Loan is prepaid on any day other than the last day of the Interest Period applicable thereto, the Borrower shall also pay any amounts owing pursuant to Section 2.16. Upon receipt of any such notice the Administrative Agent shall promptly notify each relevant Lender thereof. If any such notice is given, the amount specified in such notice shall be due and payable on the date specified therein, together with accrued interest to such date on the amount prepaid. Partial prepayments of Loans shall be in an aggregate principal amount of $1,000,000 or a whole multiple thereof.

        2.7    Mandatory Prepayment of Loans and Commitment Reductions.    (a) (i) Prior to the NEG Guarantee Release Date, upon the occurrence and continuance of a NEG Trigger Event or a NEG Downgrade Event, both with respect to the Guarantor, the Loans shall be subject to mandatory prepayment in full, in the case of a NEG Trigger Event, on the date that is five Business Days after the receipt by the Borrower from the Security Agent of a copy of the Payment Demand under the Guarantee or, in the case of a NEG Downgrade Event, on the date that is five Business Days after the receipt by the Borrower from the Security Agent of a written notice of such NEG Downgrade Event.

        (ii)  If a Substitute Credit Support Instrument in the form of a guaranty is provided pursuant to clause (b) of the definition thereof in accordance with Section 2.07(b) of the Guarantee, upon the occurrence and continuance of a NEG Trigger Event with respect to such Substitute Credit Support Instrument or a NEG Downgrade Event with respect to such Substitute Credit Support Instrument, the Loans shall be subject to mandatory prepayment in full, in the case of a NEG Trigger Event, on the date that is five Business Days after the receipt by the Borrower from the Security Agent of a copy of the payment demand under such Substitute Credit Support Instrument or, in the case of a NEG Downgrade Event, on the date that is five Business Days after the receipt by the Borrower from the Security Agent of a written notice of such NEG Downgrade Event.

        (iii)  If a Substitute Credit Support Instrument in the form of a letter of credit is provided pursuant to clause (a) of the definition thereof in accordance with Section 2.07(b) of the Guarantee, upon the occurrence and continuance of a Substitute Credit Support Instrument Draw Event, the Loans shall be subject to mandatory prepayment in full on the date of such event.

        (b)  If, on any date, as a result of the reduction of the Aggregate Commitment Amount in accordance with the definition thereof, the aggregate amount of the Loans outstanding exceeds the Aggregate Commitment Amount then in effect, the Borrower shall prepay the Loans in the amount of such difference. The application of any prepayment of Loans accompanying any Commitment reduction pursuant to this Section 2.7 shall be made, first, to ABR Loans and, second, to Eurodollar Loans. Each prepayment of the Loans under this Section 2.7 shall be accompanied by accrued interest to the date of such prepayment on the amount prepaid.

        2.8    Conversion and Continuation Options.    (a) The Borrower may elect from time to time to convert all or any part of outstanding Eurodollar Loans to ABR Loans by giving the Administrative

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Agent at least two Business Days' prior irrevocable notice of such election, provided that any such conversion of Eurodollar Loans may only be made on the last day of an Interest Period with respect thereto. The Borrower may elect from time to time to convert all or any part of outstanding ABR Loans to Eurodollar Loans by giving the Administrative Agent at least three Business Days' prior irrevocable notice of such election (which notice shall specify the length of the initial Interest Period therefor), provided that no ABR Loan may be converted into a Eurodollar Loan when any Event of Default has occurred and is continuing or after the date that is one month prior to the Termination Date. Upon receipt of any such notice the Administrative Agent shall promptly notify each relevant Lender thereof.

        (b)  Any Eurodollar Loan may be continued as such upon the expiration of the then current Interest Period with respect thereto by the Borrower giving irrevocable notice to the Administrative Agent, in accordance with the applicable provisions of the definition of "Interest Period" set forth in Section 1.1, of the length of the next Interest Period to be applicable to such Loans, provided that no Eurodollar Loan may be continued as such when any Event of Default has occurred and is continuing or after the date that is one month prior to the Termination Date, and provided, further, that if such continuation is not permitted pursuant to the preceding proviso such Loans shall be automatically converted to ABR Loans on the last day of such then expiring Interest Period, and provided, further, that if the Borrower shall fail to give any required notice as described above in this paragraph, such Loans shall be automatically continued as a Eurodollar Loan with a one-month Interest Period. Upon receipt of any such notice the Administrative Agent shall promptly notify each relevant Lender thereof.

        2.9    Limitations on Eurodollar Tranches.    All borrowings, conversions and continuations of Eurodollar Loans and all selections of Interest Periods shall be in such amounts and be made pursuant to such elections so that, after giving effect thereto, no more than ten (10) Eurodollar Tranches shall be outstanding at any one time.

        2.10    Interest Rates and Payment Dates.    (a) Each Eurodollar Loan shall bear interest for each day during each Interest Period with respect thereto at a rate per annum equal to the Eurodollar Rate determined for such day plus the Applicable Margin.

        (b)  Each ABR Loan shall bear interest at a rate per annum equal to the ABR plus the Applicable Margin.

        (c)  (i) If all or a portion of (i) the principal amount of any Loan, (ii) any interest payable thereon or (iii) any other amount payable hereunder shall not be paid when due (whether at the stated maturity, by acceleration or otherwise), such overdue amount shall bear interest at a rate per annum equal to the rate that would otherwise be applicable thereto pursuant to the foregoing provisions of this Section plus 2%, from the date of such non-payment until such amount is paid in full (as well after as before judgment).

        (d)  Interest shall be payable in arrears on each Interest Payment Date, provided that (i) interest accruing pursuant to paragraph (c) of this Section shall be payable from time to time on demand and (ii) each prepayment of Loans shall be accompanied by accrued interest to the date of such prepayment on the amount prepaid and any amounts owing pursuant to Section 2.16.

        2.11    Computation of Interest and Fees.    (a) Whenever it is calculated on the basis of the Prime Rate, interest shall be calculated on the basis of a 365- (or 366-, as the case may be) day year for the actual days elapsed; and, otherwise, interest shall be calculated on the basis of a 360-day year for the actual days elapsed. The Administrative Agent shall as soon as practicable notify the Borrower and the relevant Lenders of each determination of a Eurodollar Rate. Any change in the interest rate on a Loan resulting from a change in the ABR or the Eurocurrency Reserve Requirements shall become effective as of the opening of business on the day on which such change becomes effective. The Administrative Agent shall as soon as practicable notify the Borrower and the relevant Lenders of the

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effective date and the amount of each such change in interest rate and provide reasonable detail describing the basis for such change.

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        (b)  In the event that any Lender shall determine at any time that such Lender is required to maintain reserves in respect of Eurocurrency Liabilities during any period during which any Loan made by it accrues interest at the Eurodollar Rate (each such period, for such Lender, a "Eurocurrency Reserve Period"), but only in respect of any period during which any reserve shall actually be maintained by such Lender for any Eurodollar Loan as a result of a reserve requirement applicable to it under Regulation D of the Board in connection with Eurocurrency Liabilities, then such Lender shall promptly give notice to the Borrower and the Administrative Agent of such determination, and the Borrower shall directly pay to such Lender additional interest on the unpaid principal amount of such Eurodollar Loan during such Eurocurrency Reserve Period by a rate per annum which shall, during each Interest Period applicable to such Loan, be the amount by which (x) the Eurodollar Rate for such Interest Period divided (and rounded upward to the next whole multiple of 1/100 of 1%) by a percentage equal to 100% minus the then stated maximum Eurocurrency Reserve Requirement applicable to such Lender in respect of Eurocurrency Liabilities exceeds (y) the Eurodollar Rate for such Interest Period. Each Lender so requesting compensation shall furnish along with such notice a certificate setting forth in reasonable detail the cost actually incurred to maintain such reserves and the basis for the determination of such amount, provided that the Borrower shall not be obligated to compensate such Lender for the amount of such increased cost incurred with respect to a period of time prior to the date which is 90 days before the date on which such Lender first notifies the Borrower that it intends to claim such compensation or that an event has occurred which will entitle it to such compensation. Additional interest payable pursuant to the second preceding sentence shall be paid by the Borrower at the time that it is otherwise required to pay interest in respect of such Loan or, if later demanded by such Lender, promptly on demand. Such Lender agrees that, if it gives notice to the Borrower and the Administrative Agent of the existence of a Eurocurrency Reserve Period, it shall promptly notify the Borrower and the Administrative Agent of any termination thereof, at which time the Borrower shall cease to be obligated to pay additional interest to such Lender pursuant to the first sentence of this paragraph until such time, if any, as a subsequent Eurocurrency Reserve Period shall occur.

        (c)  Each determination of an interest rate by the Administrative Agent pursuant to any provision of this Agreement shall be conclusive and binding on the Borrower and the applicable Lenders in the absence of manifest error. A Lender shall, at the request of the Borrower or the Administrative Agent, deliver to the Borrower or the Administrative Agent a statement showing the quotations used by such Lender in determining any interest rate pursuant to Section 2.11(a) or (b).

        2.12    Inability to Determine Interest Rate.    If prior to the first day of any Interest Period:

        (a)  the Administrative Agent shall have determined (which determination shall be conclusive and binding upon the Borrower) that, by reason of circumstances affecting the eurodollar market, adequate and reasonable means do not exist for ascertaining the Eurodollar Rate for such Interest Period, or

        (b)  the Administrative Agent shall have received notice from the Required Lenders that the Eurodollar Rate determined or to be determined for such Interest Period will not adequately and fairly reflect the cost to such Lenders (as conclusively certified by such Lenders) of making or maintaining their affected Eurodollar Loans during such Interest Period,

the Administrative Agent shall give telecopy or telephonic notice thereof (which notice shall describe in reasonable detail the basis for such determination) to the Borrower and the relevant Lenders as soon as practicable thereafter. If such notice is given (x) any Eurodollar Loans requested to be made on the first day of such Interest Period shall be made as ABR Loans, (y) any ABR Loans that were to have been converted on the first day of such Interest Period to Eurodollar Loans shall be continued as ABR Loans and (z) any outstanding Eurodollar Loans shall be converted, on the last day of the then-current Interest Period, to ABR Loans. Until such notice has been withdrawn by the Administrative Agent, no

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further Eurodollar Loans shall be made or continued as such, nor shall the Borrower have the right to convert ABR Loans to Eurodollar Loans.

        2.13    Pro Rata Treatment and Payments.    (a) Each borrowing by the Borrower from the Lenders hereunder, each payment by the Borrower on account of any commitment fee and any reduction of the Commitments of the Lenders shall be made pro rata according to the Percentages of the Lenders.

        (b)  Each payment (including each prepayment) by the Borrower on account of principal of and interest on the Loans shall be made pro rata according to the respective outstanding principal amounts of the Loans then held by the Lenders.

        (c)  All payments (including prepayments) to be made by the Borrower hereunder, whether on account of principal, interest, fees or otherwise, shall be made without setoff or counterclaim and shall be made prior to 12:00 Noon, New York City time, on the due date thereof to the Administrative Agent, for the account of the relevant Lenders, at the Funding Office, in Dollars and in immediately available funds. The Administrative Agent shall make available to each Lender from the Administrative Agent's New York accounts its pro rata share of each such payment prior to 1:00 P.M., New York City time, in immediately available funds. If any payment hereunder (other than payments on the Eurodollar Loans) becomes due and payable on a day other than a Business Day, such payment shall be extended to the next succeeding Business Day. If any payment on a Eurodollar Loan becomes due and payable on a day other than a Business Day, the maturity thereof shall be extended to the next succeeding Business Day unless the result of such extension would be to extend such payment into another calendar month, in which event such payment shall be made on the immediately preceding Business Day. In the case of any extension of any payment of principal pursuant to the preceding two sentences, interest thereon shall be payable at the then applicable rate during such extension.

        (d)  Unless the Administrative Agent shall have been notified in writing by any Lender prior to a borrowing that such Lender will not make the amount that would constitute its share of such borrowing available to the Administrative Agent, the Administrative Agent may assume that such Lender is making such amount available to the Administrative Agent, and the Administrative Agent may, in reliance upon such assumption, make available to the Borrower a corresponding amount. If such amount is not made available to the Administrative Agent by the required time on the Borrowing Date therefor, such Lender shall pay to the Administrative Agent, on demand, such amount with interest thereon at a rate equal to the daily average Federal Funds Effective Rate for the period until such Lender makes such amount immediately available to the Administrative Agent. A certificate of the Administrative Agent submitted to any Lender with respect to any amounts owing under this paragraph shall be conclusive in the absence of manifest error. If such Lender's share of such borrowing is not made available to the Administrative Agent by such Lender within three Business Days after such Borrowing Date, and if the corresponding amount was made available to the Borrower by the Administrative Agent, the Administrative Agent shall also be entitled to recover such amount with interest thereon at the rate per annum applicable to ABR Loans, on demand, from the Borrower; provided that if the Borrower repays such corresponding amount to the Administrative Agent and such Lender subsequently makes available its share of the borrowing to the Administrative Agent, the Administrative Agent shall promptly make such loan proceeds available to the Borrower. If such Lender shall repay to the Administrative Agent such corresponding amount, such amount so repaid shall constitute such Lender's share of such borrowing. Upon receipt of notice from a Lender that it will not make available to the Administrative Agent its share of a borrowing or upon any failure of a Lender to fund its portion of any such borrowing, the Administrative Agent shall promptly provide the Borrower with notice thereof.

        2.14    Requirements of Law.    (a) If the adoption of or any change in any Requirement of Law or in the interpretation or application thereof or compliance by any Lender with any request or directive

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(whether or not having the force of law) from any central bank or other Governmental Authority made subsequent to the date hereof:

          (i)  shall subject any Lender to any tax of any kind whatsoever with respect to this Agreement or any Eurodollar Loan made by it, or change the basis of taxation of payments to such Lender in respect thereof (except for changes in the rate of tax on the overall net income of such Lender) or a franchise tax in lieu of net income taxes;

        (ii)  shall impose, modify or hold applicable any reserve, special deposit, compulsory loan or similar requirement against assets held by, deposits or other liabilities in or for the account of, advances or loans by, or any other acquisition of funds by, any office of such Lender that is not otherwise included in the determination of the Eurodollar Rate; or

        (iii)  shall impose on such Lender any other condition related to the making or maintaining of any Eurodollar Loan;

and the result of any of the foregoing is to increase the cost to such Lender by an amount that such Lender deems to be material, of making, converting into, continuing or maintaining Eurodollar Loans, or to reduce any amount receivable hereunder in respect thereof, then, in any such case, the Borrower shall promptly pay such Lender, on an After Tax Basis, any additional amounts necessary to compensate such Lender for such increased cost or reduced amount receivable (excluding any increased cost or reduced amounts receivable that are attributable to taxes that are not Covered Taxes) that are allocable to Loans made by such Lender hereunder on the next Interest Payment Date (or, if earlier, the next date on which principal is due) after the Borrower receives the notice required pursuant to the next sentence. If any Lender becomes entitled to claim any additional amounts pursuant to this paragraph, it shall deliver to the Borrower a notice setting forth in reasonable detail the amount of such increased costs or reduced amount receivable and the basis for the determination of such amount, provided that the Borrower shall not be obligated to compensate such Lender for the amount of such increased cost or reduced amount receivable incurred with respect to a period of time prior to the date which is 90 days before the date on which such Lender first notifies the Borrower that it intends to claim such compensation or that an event has occurred which will entitle it to such compensation.

        (b)  If any Lender shall have determined that the adoption of or any change in any Requirement of Law regarding capital adequacy or in the interpretation or application thereof or compliance by such Lender or any corporation controlling such Lender with any request or directive regarding capital adequacy (whether or not having the force of law) from any Governmental Authority made subsequent to the date hereof has the effect of reducing the rate of return on such Lender's or such corporation's capital as a consequence of its obligations hereunder to a level below that which such Lender or such corporation could have achieved but for such adoption, change or compliance (taking into consideration such Lender's or such corporation's policies with respect to capital adequacy) by an amount deemed by such Lender to be material, then from time to time, after submission by such Lender to the Borrower (with a copy to the Administrative Agent) of a written request (setting forth in reasonable detail the amount being charged by such Lender and the basis for determination of such amount) therefor, the Borrower shall pay, on an After Tax Basis, on the next Interest Payment Date (or, if earlier, on the next date on which principal is due in respect of the Loans) after the Borrower first receives such request, to such Lender such additional amount or amounts as will compensate such Lender or such corporation for such reduction; provided that the Borrower shall not be obligated to compensate such Lender for the amount of such increased cost or reduced amount receivable incurred with respect to a period of time prior to the date which is 90 days before the date on which such Lender first notifies the Borrower that it intends to claim such compensation or that an event has occurred which will entitle it to such compensation.

        (c)  A certificate as to any additional amounts payable pursuant to this Section submitted by any Lender to the Borrower (with a copy to the Administrative Agent setting forth in reasonable detail the

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basis and calculation of such additional amounts) shall be conclusive in the absence of manifest error. The agreements in this Section shall survive the termination of this Agreement and the payment of the Loans and all other amounts payable hereunder.

        2.15    Taxes.    (a) Except as provided in Section 2.15(b), and subject to the exclusions set forth in the following two sentences, all payments made by Borrower hereunder or under any Note will be made free and clear of, and without deduction or withholding for, any present or future taxes, assessments or other charges of whatever nature now or hereafter imposed by any jurisdiction or by any political subdivision or taxing authority thereof or therein with respect to such payments and all interest, penalties or similar liabilities with respect to such taxes, levies, imposts, duties, fees or other charges (all such taxes, levies, imposts, duties, fees, assessments or other charges being referred to collectively as "Covered Taxes"). Notwithstanding the above, Covered Taxes shall not include any taxes imposed by the United States (including any political subdivision or taxing authority thereof or therein) on or measured by the net income or net profit of the Administrative Agent, any Lender, or any Participant as a result of (i) the Administrative Agent, any Lender or any Participant being organized under the laws of the United States, (ii) the Administrative Agent's office, any Lender's applicable lending office, or any Participant's office being located in the United States, or (iii) the Administrative Agent, any Lender, or any Participant being engaged in trade or business in the United States, having a permanent establishment in the United States or otherwise being subject to either franchise or net income taxation in the United States by virtue of its activities therein or contact therewith (excluding franchise or net income taxation that results solely from a Lender's activity of making a Loan hereunder). Notwithstanding the above, Covered Taxes shall not include any taxes, levies, imposts, deductions, fees, assessments, or other charges imposed on the Administrative Agent, any Lender or any Participant by any jurisdiction other than the United States (including any political subdivision or taxing authority thereof or therein) as a result of (i) the Administrative Agent, any Lender or any Participant being organized under the laws of such jurisdiction, (ii) the Administrative Agent's office, any Lender's applicable lending office, or any Participant's office being located in such jurisdiction, (iii) the Administrative Agent, any Lender or any Participant being engaged in a trade or business in such jurisdiction, having a permanent establishment in such jurisdiction or otherwise being subject to either franchise or net income taxation in such jurisdiction by virtue of its activities therein or contact therewith (excluding franchise or net income taxation that results solely from a Lender's activity to make a Loan hereunder) or (iv) the Administrative Agent or any Lender making a payment to any Participant from or through such jurisdiction. If any Covered Taxes are so levied or imposed, Borrower agrees to pay the full amount of such Covered Taxes, and such additional amounts as may be necessary so that every payment of all amounts due under this Agreement or under any Note, after withholding or deduction for or on account of any Taxes, will not be less than the amount provided for herein or in such Note. Borrower will furnish to the Administrative Agent within 60 days after the date the payment of any Covered Taxes is due pursuant to applicable law certified copies of tax receipts or other documentation reasonably acceptable to the Administrative Agent, evidencing such payment by Borrower. Borrower agrees to indemnify and hold harmless each Lender, and reimburse such Lender upon its written request, for the amount of any Covered Taxes (including any incremental taxes, penalties and interest) so levied or imposed upon and paid by such Lender. If Borrower has a good faith reason to challenge the assessment or imposition of any Covered Taxes, the Administrative Agent and the relevant Lender shall reasonably cooperate with the Borrower with respect to such challenge at the expense of the Borrower.

        (b)  Each Non-U.S. Person agrees to deliver to Borrower and the Administrative Agent (and in the case of a Participant, to the Borrower, the Administrative Agent and the relevant Lender) on or prior to the Closing Date, or in the case of a Lender that is an assignee or a Participant that is a transferee of an interest under this Agreement pursuant to Section 11.6 (unless the respective Lender or Participant was already a Lender or Participant hereunder immediately prior to such assignment or transfer), on the date of such assignment or transfer to such Lender or Participant (or in the case of a

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Participant, promptly after such Participant purchases the related participation), two accurate and properly completed original signed copies of Internal Revenue Service Form W-8ECI or W-8BEN (or successor forms) or, in the case of a Non-U.S. Person claiming exemption from U.S. federal withholding tax under Section 871(h) or 881(c) of the Code with respect to payments of "portfolio interest", a Form W-8BEN, or any subsequent versions thereof or successors thereto. If such Non-U.S. Person delivers a Form W-8BEN (claiming an exemption from withholding with respect to "portfolio interest"), such Non-U.S. Person must also deliver a certificate to the Borrower and the Administrative Agent (and in the case of a Participant, to the Borrower, the Administrative Agent and the Lender from which the related participation was purchased) representing that such Non-U.S. Person is the beneficial owner of all Loans it made pursuant to this Agreement (or, in the case of a Participant, of the Participating Interests it purchased), and claiming complete exemption from U.S. federal withholding tax on any payments made by the Borrower to such Non-U.S. Person directly or indirectly under this Agreement or the other Loan Documents (or, in the case of a Participant, under its Participating Interest) by reason of such interest being "portfolio interest" under Section 871(h) or 881(c) of the Code (unless such Non-U.S. Person sold any Participating Interests in any such Loan, in which case such certificate will indicate the Loans or portions thereof that are beneficially owned by such Non-U.S. Person and represent that with respect to the portion of the Loans in which Participating Interests were sold, such Non-U.S. Person received from each of its Participants either a properly completed and duly executed Form W-8ECI or a properly completed and duly executed Form W-8BEN along with a certificate signed under penalty of perjury indicating that such Participant was the beneficial owner of the relevant participating interest and claiming complete exemption from U.S. federal withholding tax on any payments received on such participating interest, in either case such Non-U.S. Person must attach to its certificate copies of all Forms W-8ECI and W-8BEN and any certificates described above that it received from its Participants). In addition, any such certificate made by a Non-U.S. Person (including those made by a Participant) must represent that such Non-U.S. Person is not a "bank" for purposes of Section 881(c) of the Code, is not a 10-percent shareholder (within the meaning of Section 871(h)(3)(B) of the Code) of the Borrower and is not a controlled foreign corporation related to the Borrower (within the meaning of Section 864(d)(4) of the Code)), and such certificate must be duly executed under penalty of perjury by such Non-U.S. Person claiming complete exemption from U.S. federal withholding tax. Notwithstanding anything to the contrary contained in Section 2.15(a), but subject to the immediately succeeding sentence, (x) Borrower shall be entitled, to the extent required to do so by law, to deduct or withhold any taxes imposed by the United States from interest payable hereunder for the account of any Non-U.S. Person to the extent that such Non-U.S. Person has not provided to the Borrower and the Administrative Agent (and in the case of a Participant, to the Borrower, the Administrative Agent and the relevant Lender) U.S. Internal Revenue Service Forms and any required certificates that establish a complete exemption from such deduction or withholding, (y) Borrower shall not be obligated pursuant to any provision of Section 2.15(a) to gross-up payments to be made to a Lender in respect of income or withholding taxes imposed by the United States on such Non-U.S. Person if such Non-U.S. Person has not provided to the Borrower and the Administrative Agent (and to the relevant Lender, in the case of a Participant) Internal Revenue Service Forms and certificates pursuant to this Section 2.15(b) that establish a complete exemption from withholding of such Covered Taxes and (z) any Covered Taxes described in Section 2.15(b)(y) above will not be covered by any of Borrower's indemnification or payment obligations under this Agreement. Notwithstanding anything to the contrary contained in the preceding sentence or elsewhere in this Section 2.15, Borrower agrees to pay additional amounts and to indemnify each Lender in the manner set forth in Section 2.15(a) in respect of any Covered Taxes deducted or withheld by it as described in the immediately preceding sentence as a result of any changes that are effective after the Closing Date in any applicable law, treaty, governmental rule, regulation, guideline or order, or in the interpretation thereof, relating to the deducting or withholding of such Covered Taxes. Each Non-U.S. Person shall promptly notify the Borrower at any time it determines that it is no longer in a position to

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provide any previously delivered form or certificate to the Borrower (or any other subsequent form of certification adopted by the U.S. taxing authorities for such purpose).

        (c)  The agreements in Section 2.15(a) shall survive the termination of this Agreement and the payment of the Loans and all other amounts payable hereunder. No provision of this Section 2.15 (other than the definition of "Covered Taxes" where it is expressly incorporated by reference in other sections of this Agreement) shall be interpreted to limit any party's rights for indemnification under any other provision of the Loan Documents; provided that no party shall be entitled to a double recovery under this Agreement with respect to any claim under this Section 2.15.

        2.16    Indemnity.    The Borrower shall indemnify each Lender against any direct (as opposed to consequential) loss or expense which such Lender may sustain or incur as a consequence of (a) default by the Borrower in making a borrowing of, conversion into or continuation of Eurodollar Loans after the Borrower has given a notice requesting the same in accordance with the provisions of this Agreement, (b) default by the Borrower in making any prepayment after the Borrower has given a notice thereof in accordance with the provisions of this Agreement, or (c) the making of a prepayment of Eurodollar Loans on a day which is not the last day of an Interest Period with respect thereto. Such indemnification may include an amount equal to the excess, if any, of (i) the amount of interest which would have accrued on the amount so prepaid, or not so borrowed, converted or continued, for the period from the date of such prepayment or of such failure to borrow, convert or continue to the last day of such Interest Period (or, in the case of a failure to borrow, convert or continue, the Interest Period that would have commenced on the date of such failure) in each case at the applicable rate of interest for such Loans provided for herein (excluding, however, the Applicable Margin included therein, if any) over (ii) the amount of interest (as reasonably determined by such Lender) which would have accrued to such Lender on such amount by placing such amount on deposit for a comparable period with leading banks in the interbank eurodollar market. A certificate of any Lender setting forth any amount or amounts (and in reasonable detail, the basis therefore) which such Lender is entitled to receive pursuant to this Section 2.16 and evidencing a loss suffered by such Lender of such amount or amounts shall be delivered to the Borrower. The provisions of this Section 2.16 shall survive the termination of this Agreement and the payment of the Loans and all other amounts payable hereunder.

        2.17    Change of Lending Office.    Each Lender agrees that if it makes any demand for payment under Section 2.11(b), 2.14 or 2.15(a) herein or pursuant to Section 11.5(c), or if any adoption or change of the type described in Section 2.19 herein shall occur with respect to it, it will use reasonable efforts (consistent with its internal policy and legal and regulatory restrictions and so long as such efforts would not be disadvantageous to it, as determined in its sole discretion) to designate a different lending office if the making of such a designation would reduce or obviate the need for the Borrower to make payments under Section 2.11(b), 2.14, 2.15(a) or 11.5(c) herein, or would eliminate or reduce the effect of any adoption or change described in Section 2.19 herein.

        2.18    Replacement of Lenders.    The Borrower shall be permitted to replace any Lender that (a) requests reimbursement for amounts owing pursuant to Section 2.11(b), 2.14 or 2.15(a) or pursuant to Section 11.5(c) or (b) defaults in its obligation to make Loans hereunder, with a replacement lender; provided that (i) such replacement does not conflict with any Requirement of Law, (ii) no Event of Default shall have occurred and be continuing at the time of such replacement, (iii) prior to any such replacement, such replaced Lender shall have taken no action under Section 2.17 which action shall have eliminated the continued need for payment of amounts owing pursuant to Section 2.11(b), 2.14, 2.15(a) or 11.5(c), (iv) the replacement lender shall purchase, at par, all Loans and other amounts owing to such replaced Lender on or prior to the date of replacement, (v) the Borrower shall be liable to such replaced Lender under Section 2.16 if any Eurodollar Loan owing to such replaced Lender shall be purchased other than on the last day of the Interest Period relating thereto, (vi) the replacement financial institution, if not already a Lender, shall be reasonably satisfactory to the Administrative Agent, (vii) the replaced Lender shall be obligated to make such replacement in

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accordance with the provisions of Section 11.6 other than the provision of Section 11.6(c) that relates to minimum aggregate principal amounts of Loans that will be replaced (provided that the Borrower shall be obligated to pay the registration and processing fee referred to therein), (viii) until such time as such replacement shall be consummated, the Borrower shall pay all additional amounts (if any) required pursuant to Section 2.14, 2.15(a) or 11.5(c), as the case may be, and (ix) any such replacement shall not be deemed to be a waiver of any rights that the Borrower, the Administrative Agent or any other Lender shall have against the replaced Lender.

        2.19    Illegality.    Notwithstanding any other provision herein, if the adoption of or any change in any Requirement of Law or in the interpretation or application thereof shall make it unlawful for any Lender to make or maintain Eurodollar Loans as contemplated by this Agreement, such Lender shall notify the Administrative Agent, and the Administrative Agent shall forthwith give notice thereof to the Borrower, whereupon (a) the commitment of such Lender hereunder to make Eurodollar Loans, continue Eurodollar Loans as such and convert ABR Loans to Eurodollar Loans shall forthwith be suspended until such Lender notifies the Borrower and the Administrative Agent that the circumstances giving rise to such suspension no longer exist and (b) such Lender's Loans then outstanding as Eurodollar Loans, if any, shall be converted automatically to ABR Loans on the respective last days of the then current Interest Periods with respect to such Loans or within such earlier period as required by law. Before giving any notice to the Administrative Agent pursuant to this Section 2.19, such Lender shall use reasonable efforts to designate a new lending office in accordance with Section 2.17. If any such conversion of a Eurodollar Loan occurs on a day which is not the last day of the then current Interest Period with respect thereto, the Borrower shall pay to such Lender such amounts, if any, as may be required pursuant to Section 2.16.

SECTION 3. [RESERVED]

SECTION 4. REPRESENTATIONS AND WARRANTIES OF THE BORROWER

        To induce the Administrative Agent and the Lenders to enter into this Agreement and to make the Loans, the Borrower hereby represents and warrants to the Administrative Agent and each Lender that:

        4.1    Organization; Powers.    The Borrower (i) is a limited liability company duly formed, validly existing and in good standing under the laws of the State of Delaware; (ii) has all requisite corporate power, authority and legal right to own, lease and operate the property and assets it purports to own or lease and to carry on its business as now being conducted; (iii) is duly authorized to do business in each jurisdiction where such qualification is required, except where the failure so to qualify would not materially and adversely affect the Borrower's ability to perform its obligations under the Transaction Documents; and (iv) has all requisite corporate power and authority to execute, deliver and perform its obligations under each Transaction Document and each other agreement or instrument contemplated thereby to which it is a party.

        4.2    Authorization and No Legal Bar.    The execution, delivery and performance by the Borrower of each Transaction Document to which it is a party and the consummation of any of the transactions contemplated thereby (i) have been duly authorized by all requisite action, including, if required, member action on the part of the Borrower and (ii) will not (A) violate, result in the breach of or constitute a default under, any Requirement of Law or Contractual Obligation applicable to or binding on it as of the date hereof, (B) be in conflict with or result in a breach of the limited liability company agreement of the Borrower or constitute (alone or with notice or lapse of time or both) a Default or (C) result in or require the creation or imposition of any Lien (other than pursuant to the Security Documents) upon or with respect to any of the Collateral.

        4.3    Enforceability.    Each Transaction Document to which the Borrower is a party has been duly executed and delivered by the Borrower and constitutes a legal, valid and binding obligation of the

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Borrower enforceable against the Borrower in accordance with its terms, except as such enforceability (i) may be limited by applicable bankruptcy, insolvency, reorganization, moratorium and similar laws affecting the enforcement of creditors' rights and remedies generally and (ii) is subject to general principles of equity (regardless of whether enforceability is considered in a proceeding in equity or at law).

        4.4    Consents.    No consent or other action by any holder or trustee of any indebtedness or other obligations of the Borrower or by any other Person is or will be required by the Borrower in connection with the execution, delivery and performance by the Borrower of each Transaction Document to which it is a party and the consummation of any of the transactions contemplated thereby, except such as have been made or obtained and are in full force and effect.

        4.5    Financial Statements.    The financial statements of the Borrower (for the fiscal year ended December 31, 2000) furnished to the Lenders fairly present, and each financial statement of the Borrower delivered on or after the Closing Date pursuant to this Agreement will fairly present, the financial condition and results of operations and cash flows of the Borrower as of such dates and for such periods. All such financial statements were or will be prepared in accordance with GAAP applied on a consistent basis.

        4.6    Business.    The Borrower has not engaged in any business or activity other than the acquisition of the Turbines pursuant to the Turbine Documents, the negotiation and entering into of the Other Equipment Documents, the acquisition of the Other Equipment pursuant to the Other Equipment Documents and the other transactions contemplated by the Transaction Documents.

        4.7    Litigation.    Except as set forth on Schedule 4.7, there is no (i) injunction, writ, preliminary restraining order or other order of any nature by an arbitrator, court or any other Governmental Authority, or (ii) action, suit, arbitration, investigation or proceeding at law or in equity by or before any arbitrator, court or any Governmental Authority pending against the Borrower or, to the best of the Borrower's knowledge, threatened against the Borrower or any property or other assets or rights of the Borrower with respect to any Transaction Document or against CAS I, CAS II or (to the Actual Knowledge of the Borrower) against any Turbine Vendor, that would materially and adversely affect the Borrower's ability to perform its obligations under the Transaction Documents.

        4.8    Compliance with Law.    Except as set forth on Schedule 4.8 and with respect to which arrangements reasonably satisfactory to the Administrative Agent have been made, the Borrower is in compliance with all Governmental Actions applicable to the Borrower in all material respects.

        4.9    No Default.    No Event of Default or Default has occurred and is continuing.

        4.10    Federal Reserve Regulations.    Neither the Borrower nor any of the members in the Borrower is engaged, directly or indirectly, principally, or as one of its important activities, in the business of extending, or arranging for the extension of, credit for the purposes of purchasing or carrying any margin stock, within the meaning of Regulation T, U or X of the Board. No part of the proceeds of any Loans will be used for "purchasing" or "carrying" any "margin stock" as so defined, or for extending credit to others for the purpose of purchasing or carrying margin stock, or for any purpose which would violate, or cause a violation of, any such regulation.

        4.11    Investment Company Act.    The Borrower is not an "investment company" as defined in, or subject to regulation under, the Investment Company Act.

        4.12    Taxes.    The Borrower has filed, or caused to be filed, all Federal, state, local and foreign tax and information returns that are required to have been filed by it in any jurisdiction, and has paid all taxes shown to be due and payable on such returns and all other taxes and assessments payable by it, to the extent the same have become due and payable, except to the extent there is a good faith contest

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thereof by appropriate proceedings by the Borrower which are described on Schedule 4.12 and for which the Borrower shall have set aside adequate reserves to the extent required by GAAP.

        4.13    Collateral.    The Borrower has good title to, or a valid leasehold, license, easement or other interest in, the Collateral purported to be covered by the Security Documents to which it is a party, subject to no Liens other than liens described in clauses (i) and (vi) of the definition of Permitted Liens. Except to the extent possession is required for perfection, all filings, recordings, registrations and other actions have been made, obtained and taken in all relevant jurisdictions that are necessary to create and perfect the Liens of the Security Agent in all right, title, estate and interest of the Borrower in the personal property forming the Collateral pursuant to the Security Documents, subject to no Liens other than liens described in clauses (i) and (vi) of the definition of Permitted Liens.

        4.14    ERISA and Employees.    The Borrower does not sponsor, maintain, administer, contribute to, participate in, or have any obligation to contribute to or any liability Plan nor since the date which is six years immediately preceding the Closing Date has the Borrower established, sponsored, maintained, administered, contributed to, participated in, had any obligation to contribute to or liability under, any Plan. The Borrower and each ERISA Affiliate are in compliance in all material respects with all applicable provisions of ERISA and the Code and all other laws applicable to such Plans, including the Age Discrimination in Employment Act, the Americans With Disabilities Act and Title VII of the Civil Rights Act.

        4.15    Use of Proceeds.    The proceeds of the Loans shall be used exclusively to pay Transaction Expenses and Equipment Costs. Notwithstanding the foregoing, the proceeds of the Initial Loan shall be used in accordance with the provisions of the Termination Agreement.

SECTION 5. CONDITIONS PRECEDENT

        5.1    Conditions to Initial Loan.    The agreement of each Lender to make the initial Loan (the "Initial Loan") requested to be made by it is subject to the fulfillment to the satisfaction of or waiver by the Creditors, prior to or concurrently with the making of such Loan on the Closing Date of the following conditions precedent:

        (a)    Transaction Document.    Each of the Transaction Documents entered into on or prior to the Closing Date shall have been duly authorized, executed and delivered by the parties thereto and shall be in full force and effect, and each Lender shall have received a fully executed copy of each Loan Document executed on the Closing Date and copies of the Turbine Documents and Other Equipment Documents executed on or prior to the Closing Date.

        (b)    Taxes.    All taxes, fees and other charges in connection with the execution, delivery, and, where applicable, recording, filing and registration of the Transaction Documents shall have been paid or provisions for such payment shall have been made.

        (c)    Actions to Perfect Liens.    All filings, recordings, registrations and other actions, including the filing of duly executed UCC Financing Statements, necessary to establish, protect and preserve the Security Agent's valid and first priority lien on, and perfected security interest in, all right, title, estate and interest in and to the respective Collateral thereunder, on the terms set forth in the Security Documents, shall have been duly made or taken on or prior to the Closing Date, or the Borrower shall have made arrangements to cause such filings, recordings, registrations and other actions to be made or taken promptly after the Closing Date. The Security Agent (for the benefit of the Creditors) shall have, on the terms set forth in the Security Documents, a first priority lien on, and perfected security interest in, the Collateral, and the Collateral shall be free and clear of all other Liens other than liens described in clauses (i) and (vi) of the definition of Permitted Liens.

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        (d)    Lien Searches.    The Administrative Agent shall have received the results of recent searches of Uniform Commercial Code, judgment and tax lien filings with respect to the personal property of the Borrower, and the results of such searches shall be satisfactory to the Administrative Agent.

        (e)    Authorization Proceedings and Documents of the Borrower.    Each Lender shall have received: (i) a certified copy of the resolutions or minutes or other appropriate documents evidencing the corporate actions of the Borrower authorizing the execution, delivery and performance of the Transaction Documents to which it is a party, certified by the Secretary or an Assistant Secretary of the Borrower as of the Closing Date, which certificate shall state that such resolutions or minutes or other appropriate documents have not been amended, modified, revoked or rescinded; (ii) an incumbency certificate of the Borrower regarding the officers thereof authorized to execute and deliver on its behalf any Transaction Document to which it is a party and any other documents and agreements to be delivered in connection therewith, certified by the Secretary or an Assistant Secretary of the Borrower as of the Closing Date; and (iii) true and complete copies of the certificate of formation, limited liability agreement and other organizational documents (if any) of the Borrower, certified as of the Closing Date as complete and correct copies thereof by the Secretary or an Assistant Secretary of the Borrower.

        (f)    Officer's Certificates of the Borrower and the Guarantor.    Each Lender shall have received an Officer's Certificate of each of the Borrower and the Guarantor, dated the Closing Date, stating that: (i) in the case of the Officer's Certificate of the Borrower, (x) the representations and warranties set forth in this Agreement are true and correct in all material respects as of the Closing Date, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date, (y) all conditions precedent required to be fulfilled on the Closing Date have been fulfilled and (z) no Default or Event of Default has occurred and is continuing and (ii) in the case of the Officer's Certificate of the Guarantor, (1) the representations and warranties of the Guarantor set forth in Section III of the Guarantee are true and correct in all material respects as of the Closing Date, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date and (2) as of the Closing Date, no Incipient NEG Trigger Event, NEG Trigger Event or NEG Downgrade Event has occurred and is continuing.

        (g)    Legal Opinions.    Each Lender shall have received the following executed legal opinions, dated the Closing Date and addressed to it, each in form and substance reasonably satisfactory to the Administrative Agent:

          (i)  (A) the opinion of Hunton & Williams, special New York counsel to the Borrower and the Guarantor, and (B) the opinion of in-house counsel of the Guarantor;

        (ii)  the opinion of Simpson Thacher & Bartlett, special New York counsel to the Administrative Agent and the Security Agent;

        (iii)  a substantive non-consolidation opinion from Hunton & Williams; and

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        (iv)  the opinion of counsel to the Turbine Vendor I, and the opinion of counsel to the Turbine Vendor II, both in form and substance reasonably satisfactory to the Administrative Agent.

        (h)    No Default.    There shall not have occurred and be continuing any Event of Default, Default, NEG Trigger Event or Incipient NEG Trigger Event.

        (i)    Fees.    Each Lender shall have received the fees payable to it on the Closing Date in connection with the transactions contemplated by the Loan Documents. All such amounts will be paid with proceeds of Loans made on the Closing Date and will be reflected in the funding instructions given by the Borrower to the Administrative Agent on or before the Closing Date.

        (j)    Equipment Procurement Budget.    Each Lender shall have received the Equipment Procurement Budget dated as of the Closing Date or an affirmation of the Equipment Procurement Budget delivered to the Creditors at the closing of the transactions contemplated by the Participation Agreements.

        (k)    Financial Statements of the Borrower and the Guarantor.    (i) Each Lender shall have received the unaudited balance sheet of the Borrower for its most recently ended fiscal year (which fiscal year shall have ended on or prior to December 31, 2000) and the related unaudited statements of income, shareholders' equity, members' capital or partners' capital, as the case may be, and cash flows for such fiscal year, prepared in accordance with GAAP and setting forth in each case in comparative form the figures for the previous year.

        (ii)  Each Lender shall have received the balance sheet of the Guarantor for its most recently ended fiscal year (which fiscal year shall have ended on or prior to December 31, 2000) and the related statements of income, shareholders' equity, members' capital or partners' capital, as the case may be, and cash flows for such fiscal year, prepared in accordance with GAAP and audited by independent certified public accountants of recognized national standing reasonably satisfactory to the Administrative Agent and setting forth in each case in comparative form the figures for the previous year.

        5.2    Closing Conditions Precedent to the Borrower.    The obligations of the Borrower under the Loan Documents are subject to the fulfillment to the satisfaction of, or waiver by, the Borrower of the following conditions precedent on the Closing Date:

        (a)    Loan Documents.    Each of the Loan Documents entered into on or prior to the Closing Date shall have been duly authorized, executed and delivered by the parties thereto and shall be in full force and effect, and the Borrower shall have received a fully executed copy of each such Loan Document.

        (b)    Legal Opinions.    The Borrower shall have received the executed legal opinions referred to in clauses (i), (iii) and (iv) of Section 5.1(g) addressed to it.

        5.3    Conditions to Each Loan.    The obligation of each Lender to make any Loan requested to be made by it on any date (including its initial Loan) is subject to the fulfillment to the satisfaction of, or waiver by, the Administrative Agent of the following conditions precedent on or prior to the applicable Borrowing Date:

        (a)    Borrowing Notice.    The Administrative Agent shall have received a duly executed counterpart of an appropriately completed borrowing notice pursuant to Section 2.2 in the form of Exhibit B (as such form may be amended or modified from time to time upon agreement by the

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Borrower and the Administrative Agent, a "Borrowing Notice"). Each Borrowing Notice shall include the following:

          (i)  certification by the Borrower that the funds required by such Borrowing Notice will be used solely to pay Equipment Costs or Transaction Expenses (except that, with respect to the Initial Loans, the funds will be used in accordance with the provisions of the Termination Agreement);

        (ii)  certification by the Borrower that (i) all proceeds of prior Borrowing Notices have been (or will have been) expended or applied within 30 days of the date of the applicable prior Borrowing Notice, except for unanticipated delays in payments in the ordinary course of business that are disclosed in the subject Borrowing Notice and (ii) the items for which amounts are requested in the subject Borrowing Notice have not been the basis for a previous Borrowing Notice;

        (iii)  certification by the Borrower that no Event of Default or Default has occurred and is continuing;

        (iv)  (A) prior to the NEG Guarantee Release Date, certification by the Borrower that no NEG Trigger Event or Incipient NEG Trigger Event, both with respect to the Guarantor, has occurred and is continuing and (B) if a Substitute Credit Support Instrument is in effect, certification by the Borrower that (x) no NEG Trigger Event or Incipient NEG Trigger Event under such Substitute Credit Support Instrument in the case of a Substitute Credit Support Instrument in the form of a guaranty or (y) no Substitute Credit Support Instrument Draw Event in the case of a Substitute Credit Support Instrument in the form of a letter of credit, has occurred and is continuing;

        (v)  (A) prior to the NEG Guarantee Release Date, certification by the Borrower that the Guarantor's senior unsecured long-term debt is rated at least BBB- by S&P and Baa3 by Moody's (or, if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or an indicative rating of at least BBB- by S&P and Baa3 by Moody's) and (B) if a Substitute Credit Support Instrument is in effect, certification by the Borrower that (x) the Substitute Credit Support Instrument provider's senior unsecured long-term debt is rated at least BBB- by S&P and Baa3 by Moody's (or, if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or an indicative rating of at least BBB- by S&P and Baa3 by Moody's) in the case of a Substitute Credit Support Instrument in the form of a guaranty or (y) the letter of credit issuer's senior unsecured long-term debt is rated at least A by S&P and A2 by Moody's (or, if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or an indicative rating of at least A by S&P and A2 by Moody's) in the case of a Substitute Credit Support Instrument in the form of a letter of credit; and

        (vi)  certification by the Borrower that the representations and warranties of the Borrower contained in the Loan Documents to which it is a party are true and accurate in all material respects as if made on and as of such Borrowing Date, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date, and except to the extent that the failure of any such representation and warranties to be true and correct would not reasonably result in a Material Adverse Effect.

        (b)    NEG Certificate.    (A) Unless the NEG Guarantee Release Date has occurred, the Administrative Agent shall have received a certificate from the Guarantor duly delivered in the form of the attached Exhibit D or (B) if a Substitute Credit Support Instrument of the type

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described in clause (b) of the definition thereof is in effect, the Administrative Agent shall have received a certificate from a responsible officer of the provider of such Substitute Credit Support Instrument to the effect that the representations and warranties made by the provider of such Substitute Credit Support Instrument therein are true and correct in all material respects as of the Borrowing Date, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date.

SECTION 6. AFFIRMATIVE COVENANTS

        The Borrower hereby agrees that, so long as the Commitments remain in effect or any Loan or other amount is owing to any Lender or the Administrative Agent hereunder, the Borrower shall:

        6.1    Financial Statements.    Furnish to the Administrative Agent, together with a copy for each Lender:

        (a)  as soon as available, but in any event within 60 days after the end of each fiscal year of the Borrower, a copy of the unaudited balance sheet of the Borrower as at the end of such year and the related unaudited statements of income and of cash flows for such year, setting forth in each case in comparative form the figures for the previous year; and

        (b)  as soon as available, but in any event not later than 60 days after the end of each of the first three quarterly periods of each fiscal year of the Borrower, the unaudited balance sheet of the Borrower as at the end of such quarter and the related unaudited statements of income and of cash flows for such quarter and the portion of the fiscal year through the end of such quarter, setting forth in each case in comparative form the figures for the previous year, certified by a Responsible Officer as being fairly stated in all material respects (subject to normal year-end audit adjustments).

All such financial statements shall be complete and correct in all material respects and shall be prepared in reasonable detail and in accordance with GAAP applied consistently throughout the periods reflected therein and with prior periods (except as approved by such accountants or officer, as the case may be, and disclosed therein). Each time the financial statements of the Borrower are delivered under clauses (a) and (b) of this Section 6.1, a certificate signed by a Responsible Officer of the Borrower shall be delivered along with such financial statements, certifying that such Responsible Officer has made or caused to be made a review of the transactions and financial condition of the Borrower during the relevant fiscal period and that such review has not, to the best of such Responsible Officer's knowledge, disclosed the existence of any event or condition which constitutes a Default or an Event of Default or if any such event or condition existed or exists, the nature thereof and the corrective actions that the Borrower has taken or proposes to take with respect thereto.

        6.2    Certificates; Other Information.    Furnish promptly to the Administrative Agent such additional financial and other information with respect to the business or affairs of the Borrower as the Administrative Agent may from time to time reasonably request.

        6.3    Payment of Obligations.    Pay, discharge or otherwise satisfy at or before maturity or before they become delinquent, as the case may be, all its material obligations of whatever nature, except where the amount or validity thereof is currently being contested in good faith by appropriate proceedings and reserves in conformity with GAAP with respect thereto have been provided on the books of the Borrower.

        6.4    Maintenance of Existence and Governmental Action.    The Borrower shall at all times (i) preserve and maintain in full force and effect (A) its existence as a limited liability company and its good standing under the laws of the State of Delaware and (B) its qualification to do business in each other jurisdiction in which the character of the properties owned or leased by it or in which the

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transaction of its business as conducted or proposed to be conducted makes such qualification necessary, (ii) except as otherwise expressly permitted in the Transaction Documents, obtain and maintain in full force and effect all material Governmental Actions and other consents and approvals required at any time in connection with the Turbines, and (iii) except as otherwise expressly permitted in the Transaction Documents, preserve and maintain good and marketable title to or a valid leasehold, easement or other interest in its properties and assets (subject to no Liens other than Permitted Liens).

        6.5    Maintenance of Property; Insurance.    (a) Keep all property useful and necessary in its business in good working order and condition, ordinary wear and tear excepted and (b) maintain with financially sound and reputable insurance companies insurance on all its property in at least such amounts and against at least such risks (but including in any event public liability, product liability and business interruption) as are usually insured against in the same general area by companies engaged in the same or a similar business to the extent such insurance is available on commercially reasonable terms and at commercially reasonable rates.

        6.6    Books and Records.    Keep proper books and records and accounts in accordance with GAAP and in compliance in all material respects with all Requirements of Law and Governmental Actions and make the same available for inspection by the Administrative Agent.

        6.7    Notices.    Promptly upon obtaining Actual Knowledge thereof, give notice to the Administrative Agent of:

        (a)  the occurrence of any (1) any Default or Event of Default, (2) prior to the NEG Guarantee Release Date, any NEG Trigger Event or Incipient NEG Trigger Event or NEG Downgrade Event, in each case, with respect to the Guarantor, and (3) if a Substitute Credit Support Instrument is in effect, (x) any NEG Trigger Event or Incipient NEG Trigger Event or NEG Downgrade Event with respect to such Substitute Credit Support Instrument or (y) any Substitute Credit Support Instrument Draw Event, together with a description of any action being taken or proposed to be taken with respect thereto;

        (b)  any action, suit, arbitration or litigation, or receipt of formal notice of any investigation by any Governmental Authority (A) involving or affecting the Borrower involving $4,000,000 or more, (B) seeking any injunctive, declaratory or other equitable relief that, if adversely determined, would reasonably be expected to result in a Material Adverse Effect, or (C) instituted for the purpose of revoking, terminating, suspending, withdrawing, modifying or withholding any Governmental Action which, if successful, would reasonably be expected to result in a Material Adverse Effect;

        (c)  any change in the credit rating of the Guarantor by S&P or Moody's, or, if any Substitute Credit Support Instrument is in effect and upon obtaining Actual Knowledge thereof, any change in the credit rating by S&P or Moody's of the provider thereof;

        (d)  any proposed material amendment, supplement or modification to any Turbine Document and Other Equipment Document; and

        (e)  any material default by any Turbine Vendor under any Master Turbine Agreement or any Turbine Contract or by any counterparty of the Borrower under any Other Equipment Document.

Each notice pursuant to this Section 6.7 shall be accompanied by a statement of a Responsible Officer setting forth details of the occurrence referred to therein and stating what action the Borrower proposes to take with respect thereto.

        6.8    Preservation of Security Interests.    The Borrower shall preserve the security interests granted under the Security Documents and upon request by the Security Agent undertake all actions which are necessary or appropriate in the reasonable judgment of the Security Agent to (x) maintain the Security Agent's security interest in the Collateral in full force and effect at all times (including the priority

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thereof), and (y) preserve and protect the Collateral and protect and enforce the Borrower's rights and title and the rights of the Security Agent to the Collateral, including the making or delivery of all filings and recordations, the payments of fees and other charges and the issuance of supplemental documentation. The Borrower hereby authorizes the Security Agent to sign and to cause to be filed any financing or continuation statements required in connection with the foregoing without the signature of the Borrower to the extent permitted by applicable law, and to file a carbon, photostatic, photographic or other reproduction of any Security Document or a UCC Financing Statement.

SECTION 7. NEGATIVE COVENANTS

        The Borrower hereby agrees that, so long as the Commitments remain in effect or any Loan or other amount is owing to any Lender or the Administrative Agent hereunder, the Borrower shall not directly or indirectly:

        7.1    Fundamental Changes and Subsidiaries.    Enter into any transaction of merger or consolidation, change its form of organization or its business, liquidate or dissolve itself (or suffer any liquidation or dissolution), or amend its governing instruments in any material respect. The Borrower shall not have any Subsidiaries, or purchase or otherwise acquire all or substantially all of the assets of any other Person.

        7.2    Indebtedness.    Create, issue, incur, assume, become liable in respect of or suffer to exist any Indebtedness other than pursuant to the Transaction Documents.

        7.3    Liens.    Create, incur, assume or suffer to exist any Lien upon any of its property, whether now owned or hereafter acquired, except Permitted Liens.

        7.4    Nature of Business.    Engage in any business or transaction other than the execution, delivery and performance of the Transaction Documents and the transactions contemplated thereby.

        7.5    Contracts.    Enter into any contract (other than the Transaction Documents) without the prior written consent of the Required Lenders, which shall not be unreasonably withheld. The Borrower shall not enter into any Other Equipment Document without (x) the prior written approval of the Administrative Agent, which shall not be unreasonably withheld and (y) providing the Administrative Agent a consent and agreement with respect to such Other Equipment Document executed by the Borrower, the Borrower's counterparty to such document and the Security Agent, in substantially the same form and substance as the Consents; provided, that, with respect to Other Equipment referred to in clauses (a)(iii) and (b)(iii) of the definition of "Other Equipment", such consent shall only be required if the unit price of such Other Equipment exceeds $2,000,000. So long as no Event of Default has occurred and is continuing, the Borrower may make immaterial amendments and modifications to any Turbine Documents or Other Equipment Documents. The Borrower shall not (a) make any other amendments or modification to any Turbine Document or terminate any Turbine Document prior to its stated expiration without the prior written consent of the Required Lenders, which shall not be unreasonably withheld or (b) make any other amendments or modification to any Other Equipment Document or terminate such Other Equipment Document prior to its stated expiration without the prior written consent of the Administrative Agent, which shall not be unreasonably withheld.

        7.6    Negative Pledge Clauses.    Enter into or suffer to exist or become effective any agreement that prohibits or limits the ability of the Borrower to create, incur, assume or suffer to exist any Lien upon any of its property or revenues, whether now owned or hereafter acquired, to secure its obligations under the Loan Documents to which it is a party other than this Agreement and the other Transaction Documents.

        Notwithstanding anything herein to the contrary, so long as no Event of Default, Default, NEG Trigger Event or Incipient NEG Trigger Event has occurred and is continuing, the Borrower shall be allowed to assign, sell and transfer its right, title and interest under any Turbine Document with respect

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to any Turbine and under any Other Equipment Document with respect to any Other Equipment so long as the Borrower shall have prepaid the amount of Loans allocable to such Turbine or Other Equipment as reasonably determined by the Borrower in connection with such assignment. In connection with any such prepayment and assignment, the Creditors agree to promptly cooperate with the Borrower (including executing all necessary documents and instruments) in order to release such Turbine or Other Equipment from the Liens of the Security Agent pursuant to the Security Documents or otherwise; provided, however, that the Borrower shall be responsible for any and all reasonable and documented expenses of the Creditors incurred in connection with such release.

SECTION 8. EVENTS OF DEFAULT AND NEG TRIGGER EVENTS

        8.1    Events of Default.    Each of the following events shall constitute an "Event of Default":

        (a)  the Borrower shall (1) fail to pay any principal of any Loan within two Business Days after any such principal becomes due in accordance with the terms hereof, (2) fail to pay any interest on any Loan within five Business Days after any such interest becomes due in accordance with the terms hereof, (3) fail to pay any other amount payable under any Loan Document within 10 Business Days of the receipt by the Borrower of notice from the Administrative Agent that the same has become due and payable or (4) fail to prepay the Loans on the date the same are due pursuant to Section 2.7; or

        (b)  any representation or warranty made or deemed made by any Loan Party herein or in any other Loan Document or that is contained in any certificate, document or financial or other statement furnished by it at any time under or in connection with this Agreement or any such other Loan Document shall prove to have been inaccurate in any material respect on or as of the date made or deemed made and shall remain uncured or uncorrected for a period of 30 days after a Responsible Officer of the Borrower first obtained Actual Knowledge of such material inaccuracy or the Borrower has received a notice from the Administrative Agent specifying such misrepresentation and requiring it to be remedied; or

        (c)  the Borrower shall default in the observance or performance in any material respect of any agreement contained in Sections 6.4 (Maintenance of Existence and Governmental Action), 7.1 (Fundamental Changes and Subsidiaries), 7.2 (Indebtedness) or 7.3 (Liens) of this Agreement; or

        (d)  the Borrower shall default in the observance or performance in any material respect of any agreement contained in Sections 7.4 (Nature of Business) or Section 7.5 (Contracts) of this Agreement and such failure shall continue unremedied for a period of 10 days after notice to the Borrower from the Administrative Agent; or

        (e)  the Borrower shall default in the observance or performance in any material respect of any other agreement contained in this Agreement or any other Loan Document (other than as provided in paragraphs (a) through (d) of this Section), and such default shall continue unremedied for a period of 30 days (or so long as such failure is curable and the Borrower is diligently proceeding to cure such failure, such longer period, but in no event for an aggregate period in excess of 90 days) after notice to the Borrower from the Administrative Agent; or

        (f)    (i) the Borrower shall generally not pay its debts as such debts become due, or shall admit in writing its inability to pay its debts generally, or shall make a general assignment for the benefit of creditors; or (ii) any proceeding shall be instituted by or against the Borrower seeking to adjudicate it bankrupt or insolvent, or seeking liquidation, winding up, reorganization, arrangement, adjustment, protection, relief, or composition of it or its debts under any law relating to bankruptcy, insolvency or reorganization or relief of debtors, or seeking the entry of an order for relief or the appointment of a receiver, trustee, custodian or other similar official for it or for any substantial part of its property and, in the case of any such proceeding instituted against it (but

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not instituted by it), either such proceeding shall remain undismissed or unstayed for a period of 60 days, or any of the actions sought in such proceeding (including, without limitation, the entry of an order for relief against, or the appointment of a receiver, trustee, custodian or other similar official for, it or for any substantial part of its property) shall occur; or the Borrower shall take any corporate action to authorize any of the actions set forth above in this clause (f); or

        (g)  an ERISA Event that would reasonably be expected to result in a Material Adverse Effect shall occur; or

        (h)  one or more final, non-appealable judgments for the payment of money in an aggregate amount in excess of $50,000,000 (exclusive of amounts covered by insurance) shall be rendered against the Borrower and such judgment or order shall remain undischarged, unbonded or unstayed for a period of 60 days; or

        (i)    any of the Security Documents shall cease, for any reason other than as permitted by the terms thereof, to be in full force and effect or any Lien created by any of the Security Documents shall cease to be enforceable and of the same effect and priority purported to be created thereby, and the Borrower shall fail to cure any such condition within 10 days after the earlier of (i) the date on which the Borrower obtains Actual Knowledge thereof and (ii) the date on which the Borrower receives notice thereof; or

        (j)    the Guarantee or, if the Guarantee has been replaced, the Substitute Credit Support Instrument issued in replacement thereof, shall cease, for any reason, to be in full force and effect or the Guarantor or the issuer or guarantor under the Substitute Credit Support Instrument, as the case may be, shall repudiate its obligations thereunder; or

        (k)  a Change of Control shall occur.

        8.2    Remedies Upon Event of Default.    If an Event of Default shall have occurred and be continuing, then, and in any such event, (A) if such event is an Event of Default specified in clause (i) or (ii) of paragraph (f) above with respect to the Borrower, automatically the Commitments shall immediately terminate and the Loans (with accrued interest thereon) and all other amounts owing under this Agreement and the other Loan Documents shall immediately become due and payable, and (B) if such event is any other Event of Default, either or both of the following actions may be taken: (i) with the consent of the Required Lenders, the Administrative Agent may, or upon the request of the Required Lenders, the Administrative Agent shall, by notice to the Borrower declare the Commitments to be terminated forthwith, whereupon the Commitments shall immediately terminate; and (ii) with the consent of the Required Lenders, the Administrative Agent may, or upon the request of the Required Lenders, the Administrative Agent shall, upon written notice to the Borrower, declare the Loans (with accrued interest thereon) and all other amounts owing under this Agreement and the other Loan Documents to be due and payable forthwith, whereupon the same shall immediately become due and payable. Except as expressly provided above in this Section, presentment, demand, protest and all other notices of any kind are hereby expressly waived by the Borrower.

        In addition, upon the occurrence of an Event of Default, the Administrative Agent and the Lenders may exercise any and all rights and remedies in accordance with the provisions under the Security Documents, as well as all their rights and remedies under applicable law.

        8.3    Additional Cure Rights.    Any member in the Borrower or any Affiliate of such member may (but shall not be obligated to) cure any Default within the period (if any) set forth in Section 8.1 with respect to such Default.

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SECTION 9. THE ADMINISTRATIVE AGENT

        9.1    Appointment.    Each Lender hereby irrevocably designates and appoints the Administrative Agent as the agent of such Lender under this Agreement and the other Loan Documents, and each such Lender irrevocably authorizes the Administrative Agent, in such capacity, to take such action on its behalf under the provisions of this Agreement and the other Loan Documents and to exercise such powers and perform such duties as are expressly delegated to the Administrative Agent by the terms of this Agreement and the other Loan Documents, together with such other powers as are reasonably incidental thereto. Notwithstanding any provision to the contrary elsewhere in this Agreement, the Administrative Agent shall not have any duties or responsibilities, except those expressly set forth herein, or any fiduciary relationship with any Lender, and no implied covenants, functions, responsibilities, duties, obligations or liabilities shall be read into this Agreement or any other Loan Document or otherwise exist against the Administrative Agent.

        9.2    Delegation of Duties.    The Administrative Agent may execute any of its duties under this Agreement and the other Loan Documents by or through agents or attorneys-in-fact and shall be entitled to advice of counsel concerning all matters pertaining to such duties. The Administrative Agent shall not be responsible for the negligence or misconduct of any agents or attorneys in-fact selected by it with reasonable care.

        9.3    Exculpatory Provisions.    Neither the Administrative Agent nor any of its officers, directors, employees, agents, attorneys-in-fact or Affiliates shall be (a) liable for any action lawfully taken or omitted to be taken by it or such Person under or in connection with this Agreement or any other Transaction Document (except to the extent that any of the foregoing are found by a final and non-appealable decision of a court of competent jurisdiction to have resulted from its or such Person's own gross negligence or willful misconduct) or (b) responsible in any manner to any of the Creditors for any recitals, statements, representations or warranties made by any Loan Party or any officer thereof contained in this Agreement or any other Transaction Document or in any certificate, report, statement or other document referred to or provided for in, or received by the Administrative Agent under or in connection with, this Agreement or any other Transaction Document or for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement or any other Transaction Document or for any failure of any Loan Party a party thereto to perform its obligations hereunder or thereunder. The Administrative Agent shall not be under any obligation to any Creditor to ascertain or to inquire as to the observance or performance of any of the agreements contained in, or conditions of, this Agreement or any other Transaction Document, or to inspect the properties, books or records of any Loan Party. None of the provisions of this Agreement shall require the Administrative Agent to expend or risk its own funds or otherwise to incur any liability, financial or otherwise, in the performance of any of its duties hereunder, or in the exercise of any of its rights or powers if it shall have reasonable grounds for believing that repayment of such funds or indemnity satisfactory to it against such risk or liability is not assured to it.

        9.4    Reliance by Administrative Agent.    The Administrative Agent shall be entitled to rely, and shall be fully protected in relying, upon any instrument, writing, resolution, notice, consent, certificate, affidavit, letter, telecopy, telex or teletype message, statement, order or other document or conversation believed by it to be genuine and correct and to have been signed, sent or made by the proper Person or Persons and upon advice and statements of legal counsel (including counsel to the Borrower), independent accountants and other experts selected by the Administrative Agent. The Administrative Agent may deem and treat the payee of any Note as the owner thereof for all purposes unless a written notice of assignment, negotiation or transfer thereof shall have been filed with the Administrative Agent. The Administrative Agent shall be fully justified in failing or refusing to take any action under this Agreement or any other Loan Document unless it shall first receive such advice or concurrence of the Required Lenders (or, if so specified by this Agreement, all Lenders) as it deems appropriate or it shall first be indemnified to its satisfaction by the Lenders against any and all liability

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and expense that may be incurred by it by reason of taking or continuing to take any such action. The Administrative Agent shall in all cases be fully protected in acting, or in refraining from acting, under this Agreement and the other Loan Documents in accordance with a request of the Required Lenders (or, if so specified by this Agreement, all Lenders), and such request and any action taken or failure to act pursuant thereto shall be binding upon all the Lenders and all future holders of the Loans.

        9.5    Notice of Default.    The Administrative Agent shall not be deemed to have knowledge or notice of the occurrence of any Default, Event of Default, NEG Trigger Event or Incipient NEG Trigger Event unless the Administrative Agent has received notice from a Lender or any Loan Party referring to this Agreement, describing such Default, Event of Default, NEG Trigger Event or Incipient NEG Trigger Event and stating that such notice is a "notice of default". In the event that the Administrative Agent receives such a notice, the Administrative Agent shall give notice thereof to the Lenders. The Administrative Agent shall take such action with respect to such Default, Event of Default, NEG Trigger Event or Incipient NEG Trigger Event as shall be reasonably directed by the Required Lenders (or, if so specified by this Agreement, all Lenders); provided that unless and until the Administrative Agent shall have received such directions, the Administrative Agent may (but shall not be obligated to) take such action, or refrain from taking such action, with respect to such Default, Event of Default, NEG Trigger Event or Incipient NEG Trigger Event as it shall deem advisable in the best interests of the Lenders.

        9.6    Non-Reliance on Administrative Agent and Other Creditors.    Each Creditor expressly acknowledges that neither the Administrative Agent nor any of its respective officers, directors, employees, agents, attorneys-in-fact or affiliates have made any representations or warranties to it and that no act by the Administrative Agent hereafter taken, including any review of the affairs of a Loan Party or any Affiliate of a Loan Party, shall be deemed to constitute any representation or warranty by the Administrative Agent to any Creditor. Each Creditor represents to the Administrative Agent that it has, independently and without reliance upon the Administrative Agent or any other Creditor, and based on such documents and information as it has deemed appropriate, made its own appraisal of and investigation into the business, operations, property, financial and other condition and creditworthiness of the Loan Parties and their Affiliates and made its own decision to make its Loans hereunder and enter into this Agreement. Each Creditor also represents that it will, independently and without reliance upon the Administrative Agent or any other Creditor, and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit analyses, appraisals and decisions in taking or not taking action under this Agreement and the other Loan Documents, and to make such investigation as it deems necessary to inform itself as to the business, operations, property, financial and other condition and creditworthiness of the Loan Parties and their Affiliates. Except for notices, reports and other documents expressly required to be furnished to the Creditors by the Administrative Agent hereunder, the Administrative Agent shall not have any duty or responsibility to provide any Creditor with any credit or other information concerning the business, operations, property, condition (financial or otherwise), prospects or creditworthiness of any Loan Party or any Affiliate of a Loan Party that may come into the possession of the Administrative Agent or any of its officers, directors, employees, agents, attorneys-in-fact or Affiliates.

        9.7    Indemnification.    The Lenders agree to indemnify the Administrative Agent in its capacity as such (to the extent not reimbursed by the Borrower and without limiting the obligation of the Borrower to do so), ratably according to their respective Aggregate Exposure Percentage in effect on the date on which indemnification is sought under this Section (or, if indemnification is sought after the date upon which the Commitments shall have terminated and the Loans shall have been paid in full, ratably in accordance with such Aggregate Exposure Percentages immediately prior to such date), from and against any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind whatsoever that may at any time (whether before or after the payment of the Loans) be imposed on, incurred by or asserted against the Administrative Agent in any

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way relating to or arising out of, the Commitments, this Agreement, any of the other Loan Documents or any documents contemplated by or referred to herein or therein or the transactions contemplated hereby or thereby or any action taken or omitted by the Administrative Agent under or in connection with any of the foregoing excluding any taxes that are not Covered Taxes; provided that no Lender shall be liable for the payment of any portion of such liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements that are found by a final and nonappealable decision of a court of competent jurisdiction to have resulted from the Administrative Agent's gross negligence or willful misconduct. The agreements in this Section shall survive the payment of the Loans and all other amounts payable hereunder.

        9.8    Administrative Agent in Its Individual Capacity.    The Administrative Agent and its Affiliates may make Loans to, accept deposits from and generally engage in any kind of business with any Loan Party as though the Administrative Agent were not the Administrative Agent. With respect to its Commitments and Loans made or renewed by it, the Administrative Agent shall have the same rights and powers under this Agreement and the other Loan Documents as any Lender and may exercise the same as though it were not the Administrative Agent, and the terms "Lender" and "Lenders" shall include the Administrative Agent in its individual capacity.

        9.9    Successor Administrative Agent.    Société Générale may resign as Administrative Agent upon 30 days' notice to the Lenders, the Security Agent and the Borrower and the Required Lenders may at any time remove the Administrative Agent without cause upon 30-days' notice in writing signed by the Required Lenders and delivered to the Administrative Agent, the Security Agent and the Borrower, such resignation or removal to be effective on the later of the date specified in such notice or the date on which a successor agent is appointed hereunder. If Société Générale should resign or be removed as Administrative Agent under this Agreement and the other Loan Documents, then the Required Lenders shall appoint from among the Lenders a successor agent for the Lenders, which successor agent shall (unless an Event of Default under Section 8.1(a) or Section 8.1(f) with respect to the Borrower shall have occurred and be continuing) be subject to approval by the Borrower (which approval shall not be unreasonably withheld or delayed), whereupon such successor agent shall succeed to the rights, powers and duties of the Administrative Agent, and the term "Administrative Agent" shall mean such successor agent effective upon such appointment and approval, and the former Administrative Agent's rights, powers and duties as Administrative Agent shall be terminated, without any other or further act or deed on the part of such former Administrative Agent or any of the parties to this Agreement or any holders of the Loans. If no successor agent has accepted appointment as Administrative Agent by the date that is 30 days following a retiring Administrative Agent's notice of resignation or the Required Lenders' notice of removal, the retiring Administrative Agent's resignation or its removal, as the case may be, shall nevertheless thereupon become effective, and the Lenders shall assume and perform all of the duties of the Administrative Agent hereunder until such time, if any, as the Required Lenders appoint a successor agent as provided for above. After any retiring Administrative Agent's resignation or removal as Administrative Agent, the provisions of this Section 9 shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Administrative Agent under this Agreement and the other Loan Documents.

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SECTION 10. THE SECURITY AGENT

        10.1    Appointment.    Each Creditor hereby irrevocably designates and appoints Société Générale as the Security Agent under this Agreement and the other Transaction Documents, and each Creditor irrevocably authorizes Société Générale, in the capacity of Security Agent, to take such action on its behalf under the provisions of this Agreement and the other Transaction Documents and to exercise such powers and perform such duties as are expressly delegated to the Security Agent by the terms of this Agreement and the other Transaction Documents, together with such other powers as are reasonably incidental thereto. Notwithstanding any provision to the contrary elsewhere in this Agreement, the Security Agent shall not have any duties or responsibilities, except those expressly set forth herein, or any fiduciary relationship with any Creditor, and no implied covenants, functions, responsibilities, duties, obligations or liabilities shall be read into this Agreement or any other Transaction Document or otherwise exist against the Security Agent.

        10.2    Delegation of Duties.    The Security Agent may execute any of its duties under this Agreement and the other Transaction Documents by or through agents, custodians, nominees or attorneys-in-fact and shall be entitled to advice of counsel of its choice concerning all matters pertaining to such duties and the advice or any opinion of counsel shall be full and complete authorization and protection in respect of any action taken or omitted by it hereunder in good faith and in accordance with such advice or opinion of counsel. The Security Agent shall not be responsible for the negligence or misconduct of any agent, custodian, nominee or attorney-in-fact selected by it with due care.

        10.3    Exculpatory Provisions.    Neither the Security Agent nor any of its officers, directors, employees, agents, attorneys-in-fact or Affiliates shall be (a) liable for any action lawfully taken or omitted to be taken by it or such Person under or in connection with this Agreement or any other Transaction Document (except to the extent that any of the foregoing are found by a final and non-appealable decision of a court of competent jurisdiction to have resulted from its or such Person's own gross negligence or willful misconduct) or (b) responsible in any manner to any of the Creditors for any recitals, statements, representations or warranties made by the Borrower or any officer thereof contained in this Agreement or any other Transaction Document or in any certificate, report, statement or other document referred to or provided for in, or received by the Security Agent under or in connection with, this Agreement or any other Transaction Document or for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement or any other Transaction Document or for any failure of the Borrower or any other party thereto to perform its obligations hereunder or thereunder. The Security Agent shall not be under any obligation to any Creditor to ascertain or to inquire as to the observance or performance of any of the agreements contained in, or conditions of, this Agreement or any other Transaction Document, or to inspect the properties, books or records of the Borrower or any other Person. None of the provisions of this Agreement shall require the Security Agent to expend or risk its own funds or otherwise to incur any liability, financial or otherwise, in the performance of any of its duties hereunder, or in the exercise of any of its rights or powers if it shall have reasonable grounds for believing that repayment of such funds or indemnity satisfactory to it against such risk or liability is not assured to it.

        10.4    Reliance by Security Agent.    The Security Agent shall be entitled to rely, and shall be fully protected in relying, upon any instrument, writing, resolution, notice, consent, certificate, affidavit, letter, telecopy, telex or teletype message, statement, order or other document or conversation believed by it to be genuine and correct and to have been signed, sent or made by the proper Person or Persons and upon advice and statements of legal counsel (including counsel to the Borrower), independent accountants and other experts selected by the Security Agent. The Security Agent may deem and treat the payee of any Note as the owner thereof for all purposes unless a written notice of assignment, negotiation or transfer thereof shall have been filed with the Administrative Agent. The Security Agent shall be fully justified in failing or refusing to take any action under this Agreement or any other

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Transaction Document unless it shall first receive such advice or concurrence of the Required Lenders (or, if so specified by this Agreement, all Lenders) as it deems appropriate or it shall first be indemnified to its satisfaction by the applicable Lenders against any and all liability and expense that may be incurred by it by reason of taking or continuing to take any such action. The Security Agent shall in all cases be fully protected in acting, or in refraining from acting, under this Agreement and the other Transaction Documents in accordance with a written request of the Required Lenders (or, if so specified by this Agreement, all Lenders), and such written request and any action taken or failure to act pursuant thereto shall be binding upon all the Creditors. Whenever in the administration of the provisions of this Agreement the Security Agent shall deem it necessary or desirable that a matter be provided or established prior to taking or suffering any action to be taken hereunder, such matter (unless other evidence in respect thereof be herein specifically prescribed) may, in the absence of gross negligence or bad faith on the part of the Security Agent, be deemed to be conclusively proved and established by a certificate signed by the Required Lenders or all of the Lenders, as the case may be, and delivered to the Security Agent and such certificate, in the absence of gross negligence or bad faith on the part of the Security Agent, shall be full warrant to the Security Agent for any action taken, suffered or omitted by it under the provisions of this Agreement upon the faith thereof.

        10.5    Notice of Default.    The Security Agent shall not be deemed to have knowledge or notice of the occurrence of any Default, Event of Default, Incipient NEG Trigger Event or NEG Trigger Event hereunder unless the Security Agent has received written notice from the Administrative Agent, another Creditor or either Loan Party referring to this Agreement, describing such Default, Event of Default, Incipient NEG Trigger Event or NEG Trigger Event and stating that such notice is a "notice of default". In the event that the Security Agent receives such a written notice, the Security Agent shall give notice thereof to the Creditors. The Security Agent shall take such action with respect to such Default, Event of Default, Incipient NEG Trigger Event or NEG Trigger Event as shall be reasonably directed in writing by the Required Lenders (or, if so specified by this Agreement, all Lenders); provided that unless and until the Security Agent shall have received such written directions, the Security Agent may (but shall not be obligated to) take such action, or refrain from taking such action, with respect to such Default, Event of Default, Incipient NEG Trigger Event or NEG Trigger Event as it shall deem advisable in the best interests of the Creditors.

        10.6    Non-Reliance on Security Agent and Other Creditors.    Each Creditor expressly acknowledges that neither the Security Agent nor any of its officers, directors, employees, agents, attorneys-in-fact or affiliates have made any representations or warranties to it and that no act by the Security Agent hereinafter taken, including any review of the affairs of the Borrower or any of its Affiliates, shall be deemed to constitute any representation or warranty by the Security Agent to any Creditor. Each Creditor represents to the Security Agent that it has, independently and without reliance upon the Security Agent or any other Creditor, and based on such documents and information as it has deemed appropriate, made its own appraisal of and investigation into the business, operations, property, financial and other condition and creditworthiness of the Borrower and its Affiliates and made its own decision to make its Loans hereunder and to enter into the Loan Documents to which it is a party. Each Creditor also covenants that it shall, independently and without reliance upon the Security Agent or any other Creditor, and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit analyses, appraisals and decisions in taking or not taking action under this Agreement and the other Transaction Documents, and to make such investigation as it deems necessary to inform itself as to the business, operations, property, financial and other condition and creditworthiness of the Borrower and its Affiliates. Except for notices, reports and other documents expressly required to be furnished to the Creditors by the Security Agent hereunder, the Security Agent shall not have any duty or responsibility to provide any Creditor with any credit or other information concerning the business, operations, property, condition (financial or otherwise), prospects or creditworthiness of the Borrower or any of its Affiliates that may come into the possession of the Security Agent or any of its officers, directors, employees, agents, attorneys-in-fact or Affiliates.

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        10.7    Indemnification.    The Creditors agree to indemnify the Security Agent in its capacity as such and its officers, directors, employees, representatives and agents (to the extent not reimbursed by the Borrower and without limiting the obligation of the Borrower to do so), ratably according to their respective Aggregate Exposure Percentage in effect on the date on which indemnification is sought under this Section (or, if indemnification is sought after the date upon which the Commitments shall have terminated and the Loans shall have been paid in full, ratably in accordance with such Aggregate Exposure Percentages immediately prior to such date), from and against any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses (including reasonable attorneys' and agents' fees and expenses) or disbursements of any kind whatsoever that may at any time (whether before or after the payment of the Loans) be imposed on, incurred by or asserted against the Security Agent in any way relating to or arising out of, the Commitments, this Agreement, any of the other Transaction Documents or any documents contemplated by or referred to herein or therein or the transactions contemplated hereby or thereby or any action taken or omitted by the Security Agent under or in connection with any of the foregoing excluding any income taxes imposed on the Security Agent on a net basis; provided that no Creditor shall be liable for the payment of any portion of such liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements that are found by a final and nonappealable decision of a court of competent jurisdiction to have resulted from the Security Agent's gross negligence or willful misconduct. The agreements in this Section shall survive the payment of the Loans and all other amounts payable hereunder.

        10.8    Security Agent in Its Individual Capacity.    With respect to Commitments and Loans made or renewed by it or any of its Affiliates and with respect to any letter of credit issued or participated in by it, Société Générale and its Affiliates shall have the same rights and powers under this Agreement and the other Loan Documents as any Creditor and may exercise the same as though Société Générale were not the Security Agent, and the terms "Creditor" and "Lender" shall (to the extent applicable) include Société Générale in its individual capacity.

        10.9    Successor Security Agent.    Société Générale may resign as Security Agent upon 30 days' notice to the Lenders, the Administrative Agent and the Borrower and the Required Lenders may at any time remove Société Générale as Security Agent without cause upon 30-days' notice in writing signed by the Required Lenders and delivered to the Administrative Agent, the Security Agent and the Borrower, such resignation or removal to be effective on the later of the date specified in such notice or the date on which a successor agent is appointed hereunder. If Société Générale should resign or be removed as Security Agent under this Agreement and the other Loan Documents, then the Required Lenders shall appoint from among the Lenders a successor agent for the Lenders, which successor agent shall (unless an Event of Default under Section 8.1(a) or Section 8.1(f) with respect to the Borrower shall have occurred and be continuing) be subject to approval by the Borrower (which approval shall not be unreasonably withheld or delayed), whereupon such successor agent shall succeed to the rights, powers and duties of the Security Agent, and the term "Security Agent" shall mean such successor agent effective upon such appointment and approval, and the former Security Agent's rights, powers and duties as Security Agent shall be terminated, without any other or further act or deed on the part of such former Security Agent or any of the parties to this Agreement or any holders of the Loans. If no successor agent has accepted appointment as Security Agent by the date that is 30 days following a retiring Security Agent's notice of resignation or the Required Lenders' notice of removal, the retiring Security Agent's resignation or its removal, as the case may be, shall nevertheless thereupon become effective, and the Lenders shall assume and perform all of the duties of the Security Agent hereunder until such time, if any, as the Required Lenders appoint a successor agent as provided for above. After any retiring Security Agent's resignation or removal as Security Agent, the provisions of this Section 10 shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Security Agent under this Agreement and the other Loan Documents.

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        10.10    Appointment of Separate or Co-Security Agent.    (a) The Security Agent may appoint a bank or trust company or an individual to act as separate Security Agent or co-Security Agent for any purpose deemed by the Security Agent to be in furtherance of its ability to exercise its rights and powers under this Agreement and the Transaction Documents or otherwise in the interests of the Creditors. Any such separate Security Agent or co-Security Agent shall exercise only such rights and powers and have only such duties as are specified in the instrument of appointment. The Borrower agrees to pay the reasonable compensation and expenses of any such separate Security Agent or co-Security Agent. The Security Agent may at any time accept the resignation of or remove any separate or co-Security Agent.

        (b)  Any separate Security Agent or co-Security Agent hereunder shall, to the extent permitted by law, be appointed and act and the Security Agent shall act, subject to the following provisions and conditions:

          (i)  all rights powers, duties and obligations conferred upon the Security Agent in respect of the receipt, custody, investment and payment of monies, or the investment of monies, shall be exercised solely by the Security Agent;

        (ii)  all other rights, powers, duties and obligations conferred or imposed upon the Security Agent shall be conferred or imposed upon and exercised or performed by the Security Agent and such separate Security Agent or co-Security Agent jointly, except to the extent that under any law of any jurisdiction in which any particular act or acts are to be performed, the Security Agent shall be incompetent or unqualified to perform such act or acts, in which event such rights, powers, duties and obligations shall be exercised and performed by such separate Security Agent or co-Security Agent;

        (iii)  no power hereby given to any such separate Security Agent or co-Security Agent shall be exercised hereunder by such separate Security Agent or co-Security Agent except jointly with, or with the consent of, the Security Agent; and

        (iv)  no Security Agent shall be liable for any act or failure to act on the part of any other Security Agent or co-Security Agent hereunder.

        10.11    Notices, Etc., Under Collateral, Etc.    The Security Agent shall deliver to each of the Creditors, promptly upon receipt thereof, duplicates or copies of all notices, requests and other instruments given or received by the Security Agent under or pursuant to this Agreement, to the extent that the same shall not have been furnished pursuant thereto to such Creditor.

SECTION 11. MISCELLANEOUS

        11.1    Amendments and Waivers.    Neither this Agreement, any other Loan Document, nor any terms hereof or thereof may be amended, supplemented or modified except in accordance with the provisions of this Section 11.1. The Required Lenders and each Loan Party party to the relevant Loan Document may, or, with the written consent of the Required Lenders, the Administrative Agent (or the Security Agent, as the case may be) and each Loan Party party to the relevant Loan Document may, from time to time, (a) enter into written amendments, supplements or modifications hereto and to the other Loan Documents for the purpose of adding any provisions to this Agreement or the other Loan Documents or changing in any manner the rights of the Lenders or of the Loan Parties hereunder or thereunder or (b) waive, on such terms and conditions as the Required Lenders or the Administrative Agent or the Security Agent, as the case may be, may specify in such instrument, any of the requirements of this Agreement or the other Loan Documents or any Default, Event of Default, Incipient NEG Trigger Event, NEG Trigger Event or NEG Downgrade Event and its consequences; provided, however, that no such waiver and no such amendment, supplement or modification shall (i) forgive the principal amount or extend the final scheduled date of maturity of any Loan, reduce the

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stated rate of any interest or fee payable hereunder (except (x) in connection with the waiver of applicability of any post-default increase in interest rates (which waiver shall be effective with the consent of the Required Lenders) and (y) that any amendment or modification of defined terms used in the financial covenants in any Loan Document shall not constitute a reduction in the rate of interest or fees for purposes of this clause (i)) or extend the scheduled date of any payment thereof, or increase the amount or extend the expiration date of any Lender's Commitment, in each case without the written consent of each Lender directly affected thereby; (ii) eliminate or reduce the voting rights of any Lender under this Section 11.1 without the written consent of such Lender; (iii) reduce any percentage specified in the definition of Required Lenders or consent to the assignment or transfer by the Borrower of any of its rights and obligations under this Agreement and the other Loan Documents, in each case without the written consent of all Lenders; (iv) release all or substantially all of the Collateral, without the written consent of all Lenders except pursuant to the last paragraph of Section 7; (v) release the Guarantor from its obligations under the Guarantee except to the extent a Substitute Credit Support Instrument is issued or delivered in accordance with the terms of the Guarantee, without the written consent of all Lenders; (vi) amend, modify or waive any condition precedent to any Loan hereunder set forth in Section 5.3 (including in connection with any waiver of an existing Default or Event of Default) without the written consent of the Required Lenders; (vii) amend, modify or waive any provision of Section 2.13 without the written consent of the Required Lenders or (viii) amend, modify or waive any provision of Section 9 without the written consent of the Administrative Agent. Any such waiver and any such amendment, supplement or modification shall apply equally to each of the Lenders and shall be binding upon the Loan Parties, the Lenders, the Administrative Agent, the Security Agent and all future holders of the Loans. In the case of any waiver, the Loan Parties, the Lenders, the Security Agent and the Administrative Agent shall be restored to their former position and rights hereunder and under the other Loan Documents, and any Default, Event of Default or any other event waived shall be deemed to be cured and not continuing; but no such waiver shall extend to any subsequent or other Default, Event of Default or such other event, or impair any right consequent thereon.

        For the avoidance of doubt, this Agreement may be amended (or amended and restated) with the written consent of the Required Lenders, the Administrative Agent and the Borrower (a) to add one or more additional credit facilities to this Agreement and to permit the loans from time to time outstanding thereunder and the accrued interest and fees in respect thereof (collectively, the "Additional Loans") to share ratably in the benefits of this Agreement and the other Loan Documents with the Loans and the accrued interest and fees in respect thereof and (b) to include appropriately the Lenders holding such credit facilities in any determination of the Required Lenders; provided, that no such amendment shall permit the Additional Loans to share ratably with or with preference to the Loans without the consent of the Required Lenders under this Agreement as they existed prior to the making of such Additional Loans.

        11.2    Notices.    All notices, requests and demands to or upon the respective parties hereto to be effective shall be in writing (including by telecopy), and, unless otherwise expressly provided herein, shall be deemed to have been duly given or made when delivered, or three Business Days after being deposited in the mail, postage prepaid, or, in the case of telecopy notice, when received, addressed as follows in the case of the Borrower and the Administrative Agent, and as set forth in an administrative questionnaire delivered to the Administrative Agent in the case of the Lenders (copy of which is to be

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delivered to the Borrower by the Administrative Agent), or to such other address as may be hereafter notified by the respective parties hereto:

Borrower:	PG&E National Energy Group Construction Company, LLC 7500 Old Georgetown Road, 13th Floor Bethesda, Maryland 20814-6161 Attention: Vice President, Finance Fax: (301) 280-6900 Telephone: (301) 280-6800
with a copy to:	PG&E National Energy Group Construction Company, LLC 7500 Old Georgetown Road, 13th Floor Bethesda, Maryland 20814-6161 Attention: General Counsel Fax: (301) 280-6900 Telephone: (301) 280-6800
Administrative Agent and Security Agent:	Société Générale 1221 Avenue of the Americas New York, NY 10020
	Attention:	Anna Lopiccolo Loan Servicing Agency Administrative Unit
	Fax: (212) 278-5525 Telephone: (212) 278-6732

provided that any notice, request or demand to or upon the Administrative Agent or the Lenders shall not be effective until received.

        11.3    No Waiver; Cumulative Remedies.    No failure to exercise and no delay in exercising, on the part of the Administrative Agent or any Lender, any right, remedy, power or privilege hereunder or under the other Loan Documents shall operate as a waiver thereof; nor shall any single or partial exercise of any right, remedy, power or privilege hereunder preclude any other or further exercise thereof or the exercise of any other right, remedy, power or privilege. The rights, remedies, powers and privileges herein provided are cumulative and not exclusive of any rights, remedies, powers and privileges provided by law.

        11.4    Survival of Representations and Warranties.    All representations and warranties made hereunder, in the other Loan Documents and in any document, certificate or statement delivered pursuant hereto or in connection herewith shall survive the execution and delivery of this Agreement and the making of the Loans.

        11.5    Payment of Expenses and Taxes.    The Borrower agrees (a) to pay or reimburse the Administrative Agent for all its reasonable out-of-pocket costs and expenses incurred in connection with the development, preparation and execution of, and any amendment, supplement or modification to, this Agreement and the other Loan Documents and any other documents prepared in connection herewith or therewith, and the consummation and administration of the transactions contemplated hereby and thereby, including the reasonable fees and disbursements of one counsel to the Administrative Agent and filing and recording fees and expenses, (b) to pay or reimburse each Lender and the Administrative Agent for all its costs and expenses incurred in connection with the enforcement or preservation of any rights under this Agreement, the other Loan Documents and any such other documents, including the reasonable fees and disbursements of counsel for the Lenders and

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the Administrative Agent, (c) to pay, indemnify, and hold each Lender and the Administrative Agent harmless from, any and all recording and filing fees or stamp and excise taxes imposed by any Governmental Authority in connection with the execution, delivery, registration or enforcement of this Agreement or any Note hereunder (collectively, "Stamp Taxes") and any and all liabilities with respect to, or resulting from any delay in paying, any Stamp Taxes and any Covered Taxes, if any, that are payable by Borrower directly or indirectly pursuant to Section 2.15, and (d) to pay, indemnify, and hold each Lender and the Administrative Agent and their respective officers, directors, employees, affiliates, agents and controlling persons (each, an "Indemnitee'') harmless from and against any and all other liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind or nature whatsoever (excluding any taxes that are not Stamp Taxes or Covered Taxes) with respect to the execution, delivery, enforcement, performance and administration of this Agreement, the other Loan Documents and any such other documents or any investigation, litigation or proceeding relating to or arising out of any of the foregoing (whether or not any Indemnitee is a party thereto), including any of the foregoing relating to the use of proceeds of the Loans or the violation of, noncompliance with or liability under, any Environmental Law applicable to the operations of any Loan Party or any of the facilities and properties owned, leased or operated by any Loan Party and the reasonable fees and expenses of legal counsel in connection with claims, actions or proceedings by any Indemnitee against any Loan Party under any Loan Document (all the foregoing in this clause (d), collectively, the "Indemnified Liabilities"), provided, that the Borrower shall have no obligation hereunder to any Indemnitee with respect to Indemnified Liabilities to the extent such Indemnified Liabilities are found by a final and non-appealable decision of a court of competent jurisdiction to have resulted from the gross negligence or willful misconduct of such Indemnitee. All amounts due under this Section 11.5 shall be payable not later than 10 Business Days after written demand therefor. Statements payable by the Borrower pursuant to this Section 11.5 shall be submitted to Vice President-Finance (Telephone No. (301) 280-6800) (Telecopy No. (301) 280-6900), at the address of the Borrower set forth in Section 11.2, or to such other Person or address as may be hereafter designated by the Borrower in a written notice to the Administrative Agent. The agreements in this Section 11.5 shall survive repayment of the Loans and all other amounts payable hereunder.

        11.6    Successors and Assigns; Participations and Assignments.    (a) This Agreement shall be binding upon and inure to the benefit of the Borrower, the Lenders, the Administrative Agent, all future holders of the Loans and their respective successors and assigns, except that the Borrower may not assign or transfer any of its rights or obligations under this Agreement without the prior written consent of each Lender.

        (b)  Any Lender may, without the consent of the Borrower, in the ordinary course of business and in accordance with applicable law, at any time sell to one or more banks, financial institutions or other entities (each, a "Participant") participating interests in any Loan owing to such Lender, any Commitment of such Lender or any other interest of such Lender hereunder and under the other Loan Documents. In the event of any such sale by a Lender of a participating interest to a Participant, such Lender's obligations under this Agreement to the other parties to this Agreement shall remain unchanged, such Lender shall remain solely responsible for the performance thereof, such Lender shall remain the holder of any such Loan for all purposes under this Agreement and the other Loan Documents, and the Borrower and the Administrative Agent shall continue to deal solely and directly with such Lender in connection with such Lender's rights and obligations under this Agreement and the other Loan Documents. In no event shall any Participant under any such participation have any right to approve any amendment or waiver of any provision of any Loan Document, or any consent to any departure by any Loan Party or any other Person therefrom, except to the extent that such amendment, waiver or consent would reduce the principal of, or interest on any Loan, or postpone the date of the final maturity of any Loan, in each case to the extent subject to such participation. The Borrower agrees that each Participant shall be entitled to the benefits of Sections 2.14, 2.15 and 2.16 with respect to its participation in the Commitments and the Loans outstanding from time to time as if

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it was a Lender; provided that, in the case of Section 2.15, such Participant shall have complied with the requirements of said Section; provided, further, that no Participant shall be entitled to receive any greater amount pursuant to any such Section than the transferor Lender would have been entitled to receive in respect of the amount of the participation transferred by such transferor Lender to such Participant had no such transfer occurred; and provided, further, that each Participant will be treated as a Lender for purposes of the application of Sections 2.17 and 2.18.

        (c)  Any Lender (an "Assignor") may, in the ordinary course of business and in accordance with applicable law, at any time and from time to time assign to (i) any Lender, (ii) any Lender Affiliate, or (iii) with the consent of the Borrower and the Administrative Agent (which, in each case, shall not be unreasonably withheld or delayed), to an additional bank, financial institution or other entity (an "Assignee") all or any part of its rights and obligations under this Agreement and the other Loan Documents pursuant to an Assignment and Acceptance, executed by such Assignee, such Assignor and any other Person whose consent is required pursuant to this paragraph, and delivered to the Administrative Agent for its acceptance and recording in the Register; provided that, unless otherwise agreed by the Borrower and the Administrative Agent, (i) no such assignment to an Assignee (other than any Lender or any Lender Affiliate) shall be in an aggregate principal amount of less than $10,000,000 and (ii) after such assignment, the sum of (1) the aggregate principal amount of Loans and (2) the Commitments in excess of the principal amount of Loans to be retained by the Assignor, if any, shall equal at least $10,000,000, except in the case of an assignment of all of a Lender's interests under this Agreement. For purposes of the proviso contained in the preceding sentence, the amount described therein shall be aggregated in respect of each Lender and its Lender Affiliates, if any. Upon such execution, delivery, acceptance and recording, from and after the effective date determined pursuant to such Assignment and Acceptance, (x) the Assignee thereunder shall be a party hereto and, to the extent provided in such Assignment and Acceptance, have the rights and obligations of a Lender hereunder with a Commitment and/or Loans as set forth therein, and (y) the Assignor thereunder shall, to the extent provided in such Assignment and Acceptance, be released from its obligations under this Agreement (and, in the case of an Assignment and Acceptance covering all of an Assignor's rights and obligations under this Agreement, such Assignor shall cease to be a party hereto). Notwithstanding any provision of this Section 11.6, the consent of the Borrower shall not be required for any assignment that occurs when an Event of Default shall have occurred and be continuing. In addition, if the Assignee is a Non-U.S. Person, such Assignee shall also deliver the documents required under Section 2.15(b). Such Assignment and Acceptance shall be deemed to amend this Agreement to the extent, and only to the extent, necessary to reflect the addition of such Assignee and the resulting adjustment of Percentage arising from the purchase by such Assignee of all or a portion of the rights and obligations of the Assignor.

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        (d)  The Administrative Agent shall, on behalf of the Borrower, maintain at its address referred to in Section 11.2 a copy of each Assignment and Acceptance delivered to it and the Register for the recordation of the names and addresses of the Lenders and the Commitment of, and the principal amount of the Loans owing to, each Lender from time to time. The entries in the Register shall be conclusive, in the absence of manifest error, and each Loan Party, the Administrative Agent and the Lenders shall treat each Person whose name is recorded in the Register as the owner of the Loans and any Notes evidencing the Loans recorded therein for all purposes of this Agreement. Any assignment of any Loan, whether or not evidenced by a Note, shall be effective only upon appropriate entries with respect thereto being made in the Register (and each Note shall expressly so provide). Any assignment or transfer of all or part of a Loan evidenced by a Note shall be registered on the Register only upon surrender for registration of assignment or transfer of the Note evidencing such Loan, accompanied by a duly executed Assignment and Acceptance, and thereupon one or more new Notes shall be issued to the designated Assignee.

        (e)  Upon its receipt of an Assignment and Acceptance executed by an Assignor, an Assignee and any other Person whose consent is required by Section 11.6(c), together with payment to the Administrative Agent of a registration and processing fee of $3,500, the Administrative Agent shall (i) promptly accept such Assignment and Acceptance, (ii) record the information contained therein in the Register on the effective date determined pursuant thereto and (iii) give notice of such acceptance and recordation to the Lenders and the Borrower.

        (f)    For avoidance of doubt, the parties to this Agreement acknowledge that the provisions of this Section 11.6 concerning assignments relate only to absolute assignments and that such provisions do not prohibit assignments creating security interests, including any pledge or assignment by a Lender to any Federal Reserve Bank in accordance with applicable law.

        (g)  The Borrower, upon receipt of written notice from the relevant Lender, agrees to issue Notes to any Lender requiring Notes to facilitate transactions of the type described in paragraph (f) above.

        11.7    Adjustments; Set-off.    (a) Except to the extent that this Agreement expressly provides for payments to be allocated to a particular Lender, if any Lender (a "Benefited Lender") shall receive any payment of all or part of the Obligations owing to it, or receive any collateral in respect thereof (whether voluntarily or involuntarily, by set-off, pursuant to events or proceedings of the nature referred to in Section 8.1(f), or otherwise), in a greater proportion than any such payment to or collateral received by any other Lender, if any, in respect of the Obligations owing to such other Lender, such Benefited Lender shall purchase for cash from the other Lenders a participating interest in such portion of the Obligations owing to each such other Lender, or shall provide such other Lenders with the benefits of any such collateral, as shall be necessary to cause such Benefited Lender to share the excess payment or benefits of such collateral ratably with each of the Lenders; provided, however, that if all or any portion of such excess payment or benefits is thereafter recovered from such Benefited Lender, such purchase shall be rescinded, and the purchase price and benefits returned, to the extent of such recovery, but without interest.

        (b)  In addition to any rights and remedies of the Lenders provided by law, each Lender shall have the right, without prior notice to the Borrower, any such notice being expressly waived by the Borrower to the extent permitted by applicable law, upon any amount becoming due and payable by the Borrower hereunder (whether at the stated maturity, by acceleration or otherwise), to set off and appropriate and apply against such amount any and all deposits (general or special, time or demand, provisional or final), in any currency, and any other credits, indebtedness or claims, in any currency, in each case whether direct or indirect, absolute or contingent, matured or unmatured, at any time held or owing by such Lender or any branch, affiliate or agency thereof to or for the credit or the account of the Borrower, as the case may be. Each Lender agrees promptly to notify the Borrower and the

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Administrative Agent after any such set-off and application made by such Lender, provided that the failure to give such notice shall not affect the validity of such set-off and application.

        11.8    Counterparts.    This Agreement may be executed by one or more of the parties to this Agreement on any number of separate counterparts, and all of said counterparts taken together shall be deemed to constitute one and the same instrument. Delivery of an executed signature page of this Agreement by facsimile transmission shall be effective as delivery of a manually executed counterpart hereof. A copy of this Agreement bearing the signature of all the parties shall be lodged with the Borrower and the Administrative Agent.

        11.9    Severability.    Any provision of this Agreement that is prohibited or unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions hereof, and any such prohibition or unenforceability in any jurisdiction shall not invalidate or render unenforceable such provision in any other jurisdiction.

        11.10    Integration.    This Agreement and the other Loan Documents represent the entire agreement of the Borrower, the Administrative Agent, the Security Agent and the Lenders with respect to the subject matter hereof and thereof, and there are no promises, undertakings, representations or warranties by the Administrative Agent, the Security Agent or any Lender relative to the subject matter hereof not expressly set forth or referred to herein or in the other Loan Documents.

        11.11    GOVERNING LAW.    THIS AGREEMENT AND THE RIGHTS AND OBLIGATIONS OF THE PARTIES UNDER THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH, THE LAW OF THE STATE OF NEW YORK.

        11.12    Submission To Jurisdiction; Waivers.    The Borrower hereby irrevocably and unconditionally:

        (a)  submits for itself and its property in any legal action or proceeding relating to this Agreement and the other Loan Documents to which it is a party, or for recognition and enforcement of any judgment in respect thereof, to the non-exclusive general jurisdiction of the courts of the State of New York, the courts of the United States for the Southern District of New York, and appellate courts from any thereof;

        (b)  consents that any such action or proceeding may be brought in such courts and waives any objection that it may now or hereafter have to the venue of any such action or proceeding in any such court or that such action or proceeding was brought in an inconvenient court and agrees not to plead or claim the same;

        (c)  agrees that service of process in any such action or proceeding may be effected by mailing a copy thereof by registered or certified mail (or any substantially similar form of mail), postage prepaid, to the Borrower, as the case may be at its address set forth in Section 11.2 or at such other address of which the Administrative Agent shall have been notified pursuant thereto;

        (d)  agrees that nothing herein shall affect the right to effect service of process in any other manner permitted by law or shall limit the right to sue in any other jurisdiction; and

        (e)  waives, to the maximum extent not prohibited by law, any right it may have to claim or recover in any legal action or proceeding referred to in this Section any special, exemplary, punitive or consequential damages.

        11.13    Acknowledgements.    The Borrower hereby acknowledges that:

        (a)  it has been advised by counsel in the negotiation, execution and delivery of this Agreement and the other Loan Documents;

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        (b)  neither the Administrative Agent nor any Lender has any fiduciary relationship with or duty to the Borrower arising out of or in connection with this Agreement or any of the other Loan Documents, and the relationship between Administrative Agent and Lenders, on one hand, and the Borrower, on the other hand, in connection herewith or therewith is solely that of debtor and creditor; and

        (c)  no joint venture is created hereby or by the other Loan Documents or otherwise exists by virtue of the transactions contemplated hereby among the Lenders or among the Borrower and the Lenders.

        11.14    Releases of Guarantees and Liens.    (a) Notwithstanding anything to the contrary contained herein or in any other Loan Document, the Security Agent is hereby irrevocably authorized by each Lender (without requirement of notice to or consent of any Lender except as expressly required by Section 11.1) to take any action requested by the Borrower having the effect of releasing any Collateral or guarantee obligations (i) to the extent necessary to permit consummation of any transaction not prohibited by any Loan Document or that has been consented to in accordance with Section 11.1 or (ii) under the circumstances described in paragraph (b) below.

        (b)  At such time as the Loans and the other obligations under the Loan Documents shall have been paid in full and the Commitments have been terminated, the Collateral shall be released from the Liens created by the Security Documents, and the Security Documents and all obligations (other than those expressly stated to survive such termination) of the Security Agent and each Loan Party under the Security Documents shall terminate, all without delivery of any instrument or performance of any act by any Person.

        11.15    Confidentiality.    Each of the Administrative Agent, the Security Agent and each Lender agrees to keep confidential all non-public or confidential information provided to it by any Loan Party or otherwise obtained pursuant to this Agreement or the other Loan Documents; provided that nothing herein shall prevent the Administrative Agent or any Lender from disclosing any such information (a) to the Administrative Agent, any other Lender or, if such Lender Affiliate is an actual or prospective Transferee, any Lender Affiliate, (b) subject to an agreement to comply with the provisions of this Section, to any actual or prospective Transferee (or any professional advisor to such Transferee), (c) to its Responsible Officers, attorneys, accountants and other professional advisors, provided that such other professional advisors have accepted such information subject to a confidentiality agreement substantially similar to this Section, (d) upon the request or demand of any Governmental Authority having jurisdiction over such Creditor, (e) in response to any order of any court or other Governmental Authority or as may otherwise be required pursuant to any Requirement of Law, provided that such Creditor agrees to promptly notify the Borrower of any such disclosures unless prohibited by applicable laws, (f) if requested or required to do so in connection with any litigation or similar proceeding to which such Creditor and the Borrower are adverse parties, (g) that has been publicly disclosed by a source other than, directly or indirectly, such Creditor, (h) to the National Association of Insurance Commissioners or any similar organization or any nationally recognized rating agency that requires access to information about a Lender's investment portfolio in connection with ratings issued with respect to such Lender, or (i) in connection with the exercise of any remedy hereunder or under any other Loan Document.

        11.16WAIVERS OF JURY TRIAL.THE BORROWER, THE ADMINISTRATIVE AGENT, THE SECURITY AGENT AND THE LENDERS HEREBY IRREVOCABLY AND UNCONDITIONALLY WAIVE TRIAL BY JURY IN ANY LEGAL ACTION OR PROCEEDING RELATING TO THIS AGREEMENT OR ANY OTHER LOAN DOCUMENT AND FOR ANY COUNTERCLAIM THEREIN.

        11.17    Non-Recourse.    Except as otherwise expressly provided in this Agreement and the other Loan Documents, each of the parties hereto (other than the Borrower) (the "Non-Borrower Parties") agrees that all obligations of the Borrower under the Transaction Documents shall be obligations solely

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of the Borrower, and each Non-Borrower Party shall have recourse only to the assets of the Borrower in enforcing such obligations. Except as otherwise expressly provided in this Agreement and the other Loan Documents, each Non-Borrower Party hereby acknowledges and agrees that none of the members of the Borrower, their respective Affiliates and their past, present or future officers, directors, employees, shareholders, agents or representatives (collectively, the "Nonrecourse Parties") shall have any liability to any Non-Borrower Party for the payment of any sums now or hereafter owing by the Borrower under the Loan Documents or for the performance of any of the obligations of the Borrower contained therein or shall otherwise be liable or responsible with respect thereto (such liability, including such as may arise by operation of law, being hereby expressly waived). Except as otherwise expressly provided in the other Loan Documents, if any Event of Default shall occur and be continuing or if any claim of any Non-Borrower Party against, or alleged liability to any Non-Borrower Party of, the Borrower shall be asserted under this Agreement or the other Loan Documents, each Non-Borrower Party agrees that it shall not have the right to proceed directly or indirectly against the Nonrecourse Parties or against their respective properties and assets for the satisfaction of any of the obligations of the Borrower under this Agreement or the other Loan Documents or of any such claim or liability or for any deficiency judgment in respect of such obligation or any such claim or liability or for any deficiency judgment in respect of such obligation or any such claim or liability. The foregoing notwithstanding, it is expressly understood and agreed that nothing contained in this Section 11.17 shall be deemed to release any Nonrecourse Party from liability for its fraudulent actions, gross negligence or willful misconduct. The foregoing acknowledgments, agreements and waiver shall be enforceable by any Nonrecourse Party. For the avoidance of doubt, this Section 11.17 is not intended to limit the Guarantor's obligations under the Guarantee.

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        IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed and delivered by their proper and duly authorized officers as of the day and year first above written.

	PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC, as Borrower
	By:
		Name: Title:
Additional signature pages and schedules omitted

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Exhibit10.7

EXECUTION COPY

FIRST AMENDMENT
TO CREDIT AGREEMENT

among

PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC
the LENDERS party hereto

and

SOCIÉTÉ GÉNÉRALE,
as Administrative Agent and Security Agent

Dated as of June 5, 2002

        FIRST AMENDMENT (the "First Amendment"), dated as of June 5, 2002, to the Credit Agreement (as defined below) among PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC, a Delaware limited liability company (the "Borrower"), the several banks and other financial institutions or entities parties hereto (the "Lenders") and SOCIETE GENERALE, as administrative agent (in such capacity, the "Administrative Agent") and as security agent (in such capacity, the "Security Agent"). Capitalized terms used but not otherwise defined in this First Amendment shall have the meanings set forth in Section 1 of the Credit Agreement (as defined below) and the rules of usage set forth therein shall apply to this First Amendment.

        A.    Under the terms of the Credit Agreement, dated as of May 29, 2001, among the Borrower, the Lenders, the Administrative Agent and the Security Agent (the "Credit Agreement"), upon the occurrence of a NEG Downgrade Event, the Loans shall be subject to mandatory prepayment (the "Ratings Trigger").

        B.    The Borrower has requested amendments to the Credit Agreement with respect to the Ratings Trigger.

        C.    In light of the foregoing, the parties hereto have agreed to amend the Credit Agreement in the manner set forth in this First Amendment.

        NOW, THEREFORE, in consideration of the mutual agreements herein contained and other good and valuable consideration, receipt and sufficiency of which are hereby acknowledged, the parties hereto hereby agree as follows:

        Section 1.    Amendments.    The Credit Agreement is hereby amended as follows:

        1.1    Section 1.1    shall be amended by:

        (a)  amending the definition of "Applicable Margin" by deleting the table therein in its entirety and replacing it with the following:

Pricing Grid
Rating of Guarantor by S&P/Moody's	LIBOR Margin (bps)	ABR Margin (bps)
A-/A3 or higher	112.50	50.00
BBB+/Baa1	150.00	62.50
BBB/Baa2	225.00	125.00
BBB-/Baa3	275.00	175.00
BB+/Ba1	350.00	250.00
Lower than BB+/Ba1	450.00	350.00

        (b)  deleting the definition of "Commitment Fee Rate" in its entirety and replacing it with the following:

        "Commitment Fee Rate": the applicable rate per annum set forth below:

Rating of Guarantor's long term unsecured debt by S&P/Moody's (or if ratings of such debt have not been issued by such agencies, such debt is impliedly rated by an issuer rating or an indicative rating of the same level)	Commitment Fee Rate (%)
BBB+/Baa1 or higher	0.375
BBB/Baa2	0.500
BBB-/Baa3	0.625
BB+/Ba1	0.750
Lower than BB+/Ba1	0.875

        (c)  inserting the following definition immediately after the definition of "Federal Funds Effective Rate":

        ""First Amendment" means the First Amendment, dated as of June 5, 2002, among the Borrower, the Lenders, the Administrative Agent and the Security Agent."

        (d)  inserting the following definition immediately after the definition of "Hitachi":

        ""Incipient NEG Downgrade Event" means, (i) unless the NEG Guarantee Release Date has occurred, the Guarantor's senior unsecured long term debt (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and (ii) if a Substitute Credit Support Instrument in the form of a guaranty under clause (b) of the definition thereof has been provided pursuant to Section 2.07 of the Guarantee, from and after the effectiveness of such Substitute Credit Support Instrument, the senior unsecured long term debt of the guarantor thereunder (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's)."

        (e)  deleting the definition of "Loan Documents" in its entirety and replacing it with the following:

        ""Loan Documents": this Agreement, the First Amendment, the Security Documents and the Notes."

        (f)    inserting the following definition immediately after the definition of "NEG Downgrade Event":

        ""NEG Equity Payment Demand" means a demand for payment in excess of $50,000,000 from the Guarantor under an Equity Funding Arrangement (as such term is defined in the Guarantee) as a result of the downgrade of the Guarantor's credit rating to below BBB- by S&P and/or Baa3 by Moody's as provided under such Equity Funding Arrangement."

        1.2  Clauses (i) and (ii) of Section 2.7(a) shall be deleted in their entirety and replaced with the following:

        "2.7 Mandatory Prepayment of Loans and Commitment Reductions. (a)(i) Prior to the NEG Guarantee Release Date, upon (1) the occurrence and continuance of a NEG Trigger Event with respect to the Guarantor, (2) the occurrence of a NEG Equity Payment Demand with respect to the Guarantor or (3) the occurrence and continuance of a NEG Downgrade Event with respect to the Guarantor and the Borrower's failure to perform any of its obligations under Section 6.9 with respect to the Guarantor, the Loans shall be subject to mandatory prepayment in full, in the case of a NEG Trigger Event, on the date that is five Business Days after receipt by the Borrower from the Security Agent of a copy of the Payment Demand under the Guarantee or, in the case of a NEG Downgrade Event or a NEG Equity Payment Demand, on the date that is five Business Days after the receipt by the Borrower from the Security Agent of a written notice of such NEG Downgrade Event or such NEG Equity Payment Demand."

        "(ii) If a Substitute Credit Support Instrument in the form of a guaranty is provided pursuant to clause (b) of the definition thereof in accordance with Section 2.07(b) of the Guarantee, upon the occurrence and continuance of (1) a NEG Trigger Event or (2) a NEG Downgrade Event and the Borrower's failure to perform any of its obligations under Section 6.9, in each case with respect to such Substitute Credit Support Instrument, the Loans shall be subject to mandatory prepayment in whole on the date of occurrence of such event."

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        1.3    Section 6.7    shall be amended by (i) deleting the word "and" at the end of clause (d), (ii) deleting the period at the end of clause (e) and replacing it with "; and" and inserting a new clause (f) as follows:

        "(f) a NEG Equity Payment Demand."

        1.4  A new Section 6.9 shall be inserted as follows:

        "6.9 Financial Covenants Test. Unless the NEG Guarantee Release Date has occurred, on the date of the occurrence of a NEG Downgrade Event with respect to the Guarantor, the Borrower shall deliver to the Administrative Agent a certificate of a Financial Officer (as defined in the Guarantee) of the Guarantor showing that the Guarantor is in compliance with all of the financial covenants set forth in Section 4.15 of the Guarantee (and setting forth in reasonable detail in such certificate the calculations required to establish such compliance) as of the last day of the month immediately preceding the occurrence of the Incipient NEG Downgrade Event (taking into account in such calculations all Equity Funding Arrangements (as such term is defined in the Guarantee) under which payments, at such time, are due or the Guarantor knows will become due as a result of such NEG Downgrade Event). If a Substitute Credit Support Instrument in the form of a guaranty is in effect, on the date of the occurrence of a NEG Downgrade Event with respect to such Substitute Credit Support Instrument, the Borrower shall deliver to the Administrative Agent a certificate of a financial officer of the guarantor under such Substitute Credit Support Instrument showing that the guarantor is in compliance with all of the financial covenants set forth in such guaranty (and setting forth in reasonable detail in such certificate the calculations required to establish such compliance) as of the last day of the month immediately preceding the occurrence of the Incipient NEG Downgrade Event (taking into account in such calculations all Equity Funding Arrangements (as such term is defined in the Guarantee) under which payments, at such time, are due or the guarantor knows will become due as a result of such NEG Downgrade Event)."

        1.5  A new Section 7.7 shall be inserted as follows:

        "7.7 Ratings Trigger. Unless substantially similar provisions are incorporated in the Guarantee or other Loan Documents on terms reasonably satisfactory to the Administrative Agent, the Borrower shall not permit the Guarantor to enter into or amend, modify or supplement any Equity Funding Arrangement (as such term is defined in the Guarantee) of the Guarantor that causes the Guarantor to become liable, or modifies the terms under which the Guarantor becomes liable, thereunder upon a downgrade of the Guarantor's credit rating by any credit rating agency which would result in such Equity Funding Arrangement or document evidencing Indebtedness to be materially more favorable to the lenders and/or investors or beneficiaries thereunder than the Guarantee is to the Lenders."

        1.6    Section 8.1    shall be amended by deleting clause (d) thereof in its entirety and replacing it with the following:

        "(d) the Borrower shall default in the observance or performance in any material respect of any agreement contained in (i) Sections 7.4 (Nature of Business) or Section 7.5 (Contracts) of this Agreement and such failure shall continue unremedied for a period of 10 days after notice to the Borrower from the Administrative Agent or (ii) Section 7.7 (Ratings Trigger) of this Agreement and such failure shall continue unremedied for a period of 30 days after notice to the Borrower from the Administrative Agent; or"

        Section 2.    Representations and Warranties.    To induce the Lenders to enter into this First Amendment, the Borrower hereby represents and warrants that its representations and warranties set forth in Sections 4 of the Credit Agreement will be, after giving effect to this First Amendment, true

3

and correct in all material respects as if made on and as of the date hereof (except to the extent made as of an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date).

        Section 3.    Authorizations.    Each Lender hereby authorizes and directs the Administrative Agent and the Security Agent to execute, deliver and perform its obligations, if any, under this First Amendment.

        Section 4.    Effectiveness.    The effectiveness of this First Amendment shall be subject to the satisfaction and/or waiver of the following conditions precedent:

        4.1  This First Amendment shall have been duly authorized, executed and delivered by the parties hereto (it being understood that with respect to the Lenders, execution by at least the Required Lenders shall satisfy this condition) and shall be in full force and effect, and each Lender and the Borrower shall have received a fully executed copy thereof.

        4.2  Each Lender shall have received: (i) a certified copy of the resolutions or minutes or other appropriate documents evidencing the corporate actions of the Borrower authorizing the execution, delivery and performance of this First Amendment, certified by the Secretary or an Assistant Secretary of the Borrower, which certificate shall state that such resolutions or minutes or other appropriate documents, as well as the certificate of formation, the limited liability agreement and other organizational documents (if any) of the Borrower delivered on the Closing Date (as such term is defined in the Credit Agreement), have not been amended, modified, revoked or rescinded; and (ii) an incumbency certificate of the Borrower regarding the officers thereof authorized to execute and deliver on its behalf this First Amendment and any other documents and agreements to be delivered in connection herewith, certified by the Secretary or an Assistant Secretary of the Borrower.

        4.3  Each Lender shall have received an Officer's Certificate of each of the Borrower and PG&E National Energy Group, Inc. ("NEG"), stating that: (i) in the case of the Officer's Certificate of the Borrower, the representations and warranties set forth in Section 4 of the Credit Agreement, are, after giving effect to this First Amendment, true and correct in all material respects as of the date hereof, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date; (ii) in the case of the Officer's Certificate of NEG, the representations and warranties of NEG set forth in Section III of the Guarantee are true and correct in all material respects as of the date hereof, except (A) to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date and (B) with respect to the representation and warranty under Section 3.04(c) of the Guarantee, such representation and warranty shall be made taking into account the Guarantor's annual report on Form 10-K for the annual period ending December 31, 2001; (iii) in the case of the Officer's Certificate of the Borrower, as of the date hereof, no Default or Event of Default has occurred and is continuing after giving effect to this First Amendment and (iv) in the case of the Officer's Certificate of NEG, as of the date hereof, no Incipient NEG Trigger Event, NEG Trigger Event, Incipient NEG Downgrade Event, NEG Downgrade Event or NEG Equity Payment Demand has occurred and is continuing.

        4.4  Each Lender shall have received the opinion of in-house counsel of Borrower, in form and substance reasonably satisfactory to the Administrative Agent.

        4.5  Each Lender shall have received, in consideration for the execution of this First Amendment, a fee equal to 15 bps of such Lender's Commitment.

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        4.6  There shall not have occurred and be continuing (after giving effect to this First Amendment) any Event of Default or Default or any NEG Trigger Event, Incipient NEG Trigger Event, NEG Downgrade Event, Incipient NEG Downgrade Event or NEG Equity Payment Demand.

        4.7  Upon approval by the lenders and, if applicable, investors in each of the following credit facilities and financing documents of amendments thereto substantially similar to and consistent with the amendments contained in this First Amendment as reasonably determined by the Administrative Agent: (a) the Participation Agreement, dated as of August 28, 1999, among Lake Road Generating Company, L.P., Lake Road Trust Ltd., Wilmington Trust Company, the lenders parties thereto, the investors parties thereto and Citibank, N.A. as administrative agent and security agent, and the other relevant documents related thereto (each as amended, modified and supplemented from time to time); (b) the Participation Agreement, dated as of March 7, 2000, among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, the lenders parties thereto, the investors parties thereto and Citibank, N.A. as administrative agent and security agent, and the other relevant documents related thereto (as amended, modified and supplemented from time to time) and (c) the Credit Agreement, dated as of December 21, 2001, among GenHoldings I, LLC, Société Générale, as administrative agent, Citibank, N.A., as syndication agent, JPMorgan Chase Bank, as issuer of letters of credit thereunder, the financial institutions parties thereto from time to time as lenders, and the other persons party thereto from time to time, and the other relevant documents related thereto (as amended, modified and supplemented from time to time).

        By signing this First Amendment, a Lender is deemed to have confirmed its satisfaction and/or waiver of the conditions precedents set forth above.

        Section 5.    Payment of Expenses.    Borrower agrees to reimburse each of the Administrative Agent and the Security Agent for all of its reasonable and documented out-of-pocket costs and expenses incurred in connection with the negotiation, preparation, execution, delivery and recording of this First Amendment, any other documents prepared in connection herewith and the transactions contemplated hereby, including, without limitation, the reasonable and documented fees and disbursements of its counsel.

        Section 6.    Counterparts.    This First Amendment may be executed in two or more counterparts (including by facsimile transmission), each of which shall constitute an original, but all of which when taken together shall constitute but one instrument.

        Section 7.    Headings.    Section headings used in this First Amendment are for convenience of reference only, are not part of this First Amendment and are not to affect the construction of, or to be taken into consideration in interpreting, this First Amendment.

        Section 8.    Continuing Effect of Loan Documents.    Except as expressly set forth herein, this First Amendment shall not constitute an amendment or waiver of any provision of any Loan Document not expressly referred to herein and shall not be construed as a waiver or consent to any further or future action on the part of the Borrower that would require a waiver or consent of the Lenders or the Administrative Agent. Except as expressly amended, modified and supplemented hereby, the provisions of the Credit Agreement and the other Loan Documents are and shall remain in full force and effect in accordance with their respective terms.

        Section 9.    Further Assurances.    The parties hereto shall promptly cause to be taken, executed, acknowledged or delivered, at the sole expense of the Borrower, all such further acts, conveyances, documents and assurances as the other parties may from time to time reasonably request in order to carry out and effectuate the intent and purposes of this First Amendment, and the transactions contemplated hereby.

        Section 10.    GOVERNING LAW.    THIS FIRST AMENDMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK.

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        IN WITNESS WHEREOF, the parties hereto have caused this First Amendment to be duly executed and delivered by their proper and duly authorized officers as of the day and year first above written.

	PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC
	By:
		Name: Title:
Additional signature pages omitted

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Exhibit 10.8

EXECUTION COPY

GUARANTEE AND AGREEMENT
(TURBINE CREDIT AGREEMENT)

made by

PG&E NATIONAL ENERGY GROUP, INC.

in favor of

SOCIÉTÉ GÉNÉRALE,
as Security Agent

Dated as of May 29, 2001

TABLE OF CONTENTS

			Page
SECTION I        DEFINED TERMS			1
	1.01.	Definitions	1
	1.02.	Other Definitional Provisions	15
SECTION II        GUARANTEE			16
	2.01.	Guarantee; Payment	16
	2.02.	Extent of Liability	16
	2.03.	Nature of Guarantee	16
	2.04.	Demands and Notice; Application of Proceeds	16
	2.05.	Consent to Modifications, Waivers	17
	2.06.	Subrogation	17
	2.07.	Substitute Credit Support	17
SECTION III        REPRESENTATIONS AND WARRANTIES			18
	3.01.	Organization; Powers; Ownership of Property	18
	3.02.	Authorization	18
	3.03.	Enforceability	18
	3.04.	Financial Statements	19
	3.05.	Litigation	19
	3.06.	Federal Reserve Regulations	19
	3.07.	Investment Company Act; Public Utility Holding Company Act	19
	3.08.	No Material Misstatements	19
	3.09.	Taxes	19
	3.10.	Employee Benefit Plans	20
	3.11.	Governmental Approval; Compliance with Law and Contracts	20
	3.12.	Environmental Matters	20
	3.13.	Ranking	20
	3.14.	Unrestricted Subsidiaries	20
	3.15.	Separateness from PG&E	21
SECTION IV        COVENANTS			21
	4.01.	Maintenance of Ownership	21
	4.02.	Existence	21
	4.03.	Compliance with Law; Business and Properties	21
	4.04.	Financial Statements, Reports, Etc.	22
	4.05.	Insurance	23
	4.06.	Taxes, Etc.	23
	4.07.	Maintaining Records; Access to Properties and Inspections	23
	4.08.	Risk Management Procedures	23
	4.09.	Merger	23
	4.10.	Investments	23
	4.11.	Liens	24
	4.12.	Indebtedness	25
	4.13.	Transactions with Affiliates	27
	4.14.	Distributions	27
	4.15.	Financial Covenants	27
	4.16.	Separateness from PG&E Corp	28
	4.17.	PG&E Gen Credit Agreement Covenants	28
SECTION V        NEG TRIGGER EVENTS			287

	5.01.	NEG Trigger Events	28
SECTION VI        MISCELLANEOUS			29
	6.01.	Amendments	29
	6.02.	Successors and Assigns	29
	6.03.	GOVERNING LAW	29
	6.04.	No Waiver, Cumulative Remedies	29
	6.05.	Authority and Rights of Security Agent	29

Schedules

1.01A	Existing Sale-Leaseback Transactions
1.01B	Terms and Conditions of Subordination for Indebtedness to Affiliates
1.01C	Terms and Conditions of Subordination for Indebtedness to Non-Affiliates
3.05	Litigation
3.12	Environmental Matters
3.14	Unrestricted Subsidiaries
4.01	Certain Restricted Subsidiaries not Subject to Sections 4.01 or 4.02
4.10	Other Existing Investments
4.11	Other Existing Liens
4.12(a)	Indebtedness under Certain Credit Agreements
4.12(f)	Other Existing Indebtedness
4.13	Description of Existing Management, Operation, Sharing and Similar Arrangements with Affiliates

Exhibits

A Form of Payment Demand

GUARANTEE AND AGREEMENT

        GUARANTEE AND AGREEMENT dated as of May 29, 2001 (this "Guarantee and Agreement") by PG&E NATIONAL ENERGY GROUP, INC., a Delaware corporation (this "Guarantor"), in favor of SOCIÉTÉ GÉNÉRALE, as security agent (in such capacity the "Security Agent") for the Lenders from time to time parties to the Credit Agreement, dated as of May 29, 2001 (as amended, supplemented or otherwise modified from time to time, the "Credit Agreement"), among PG&E NATIONAL ENERGY GROUP CONSTRUCTION COMPANY, LLC (the "Company"), the Lenders and Société Générale, as Administrative Agent and Security Agent.

W I T N E S S E T H

        WHEREAS, pursuant to the Credit Agreement, the Lenders have agreed to make Loans to the Company upon the terms and subject to the conditions set forth therein;

        WHEREAS, it is a condition precedent to the obligation of the Lenders to make Loans to the Company under the Credit Agreement that the Guarantor shall have executed and delivered this Guarantee and Agreement to the Security Agent for the ratable benefit of the Lenders;

        WHEREAS, the Guarantor owns directly or indirectly all of the membership interests in the Company, and the Guarantor will derive substantial direct and indirect benefit from the making of the Loans under the Credit Agreement;

        NOW, THEREFORE, in consideration of the Security Agent and the Lenders entering into transactions with the Company under the Loan Documents, the Guarantor agrees as follows:

SECTION I DEFINED TERMS

        1.01.    Definitions.    (a) Unless otherwise defined herein, capitalized terms used herein shall have the meanings given to them in the Credit Agreement.

        (b)  The following terms shall have the following meanings:

        "$1.1 Billion PG&E Gen Credit Agreement" shall mean the $1,100,000,000 Credit Agreement, dated as of September 1, 1998, as amended as of the date hereof, among PG&E Gen and the lenders party thereto.

        "Actual Knowledge" shall mean, with respect to any Person as to any event or circumstance, the actual knowledge of the Responsible Officer of such Person or receipt by such Person from the Administrative Agent or Security Agent, as the case may be, of notice of such event or circumstance.

        "Affiliate" shall mean, when used with respect to a specified Person, another Person that directly or indirectly controls or is controlled by or is under common control with the Person specified. For this purpose, "control" of a Person shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, whether through ownership of voting shares, by contract or otherwise.

        "Asset Company" shall mean any entity (a) (i) whose principal purpose is the acquisition, improvement, installation, design, engineering, construction, development, completion, financing, maintenance or operation of all or any part of a project or projects, or any asset related thereto, used in the business of generating, transmitting, transporting, distributing, producing or storing electric power, thermal energy, natural gas or other fuel or other energy-related businesses and (ii) substantially all its assets are limited to those assets being financed (or to be financed), or the operation of which is being financed (or to be financed), in whole or in part by a Project Financing Facility entered into by such entity and/or any Investment Vehicle that owns such entity or by contributions or intercompany loans from the Guarantor, any Restricted Subsidiary or any such Investment Vehicle or (b) which entity is a Subsidiary of an entity described in clause (a) and the business and assets of which are related to the business of such entity and which does not incur

any Indebtedness other than (A) intercompany loans from an Asset Company which is the parent of such Subsidiary, the Guarantor, any Restricted Subsidiary or any Investment Vehicle that indirectly owns such Subsidiary, (B) Indebtedness of the type described in Section 4.12(i) or (C) Indebtedness under a Project Financing Facility.

        "Business Day" shall mean any day other than a Saturday, Sunday or other day on which commercial banks in New York City are authorized or required by law to close.

        "Cash Equivalents" shall mean (a) any evidence of indebtedness with a maturity of 180 days or less issued or directly and fully guaranteed or insured by the United States, Canada or any U.S. agency or instrumentality; (b) certificates of deposit or acceptances or Eurodollar time deposits with a maturity of 180 days or less of, and overnight bank deposits and demand accounts with (i) any financial institution that is not a foreign bank or a foreign bank holding company that has a bankwatch rating of at least B/C by Fitch and a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's or (ii) any financial institution that is a foreign bank or a foreign bank holding company that has a sovereign risk rating of at least AA by Fitch, a bankwatch rating of at least B by Fitch, a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's and a minimum of US$20 billion in assets; (c) commercial paper with a maturity of 180 days or less issued by a U.S. or Canadian incorporated company that is not an Affiliate of the Guarantor and rated at least A-1 by S&P, F1 by Fitch or at least P-1 by Moody's; (d) Repurchase Agreements with a maturity of 90 days or less made with banks which meet the criteria in clause (b) above and primary government security dealers (as defined by the Federal Reserve System) which meet the criteria in clause (c) above, and are fully collateralized by investments meeting the criteria of clause (a) above; (e) tax-exempt municipal obligations of any state of the United States, or any municipality of any such state which mature within 180 days from the date of acquisition thereof and which, in each case, are rated at least MIG-1 or VMIG-1 by Moody's, and SP-1/A-1 or AA/A-1 by S&P; and (f) institutional money market funds that exclusively invest in any of the foregoing.

        "Cash Flow Available for Fixed Charges" for any period shall mean, without duplication, (i) EBITDA of the Guarantor and its Consolidated Subsidiaries which are not Unrestricted Subsidiaries for such period, minus (ii) EBITDA for such period of such Consolidated Subsidiaries that are financed with Indebtedness of such Subsidiary or which are direct or indirect Subsidiaries of a Financed Subsidiary of the Guarantor, plus (iii) Distributions received by the Guarantor from Subsidiaries described in the foregoing clause (ii) during such period except to the extent the amount of such Distributions previously constituted "Cash Flow Available for Fixed Charges" during such period as a result of clause (viii) below, minus (iv) Distributions described in the foregoing clause (iii) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", minus (v) any income reported by the Guarantor for such period for Persons that are not Consolidated Subsidiaries of the Guarantor, plus (vi) Distributions received by the Guarantor from Persons described in the foregoing clause (v) during such period, minus (vii) Distributions described in the foregoing clause (vi) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", plus, (viii) cash and Cash Equivalents of Subsidiaries described in clause (ii) above that are legally and contractually available to such Subsidiary for the payment of dividends to the Guarantor, but only to the extent that the source of such cash and Cash Equivalents is from such Subsidiary's EBITDA for such period or from repayments during such period to such Subsidiary of loans made by such Subsidiary.

        "Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to Unrestricted Subsidiaries) determined

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in accordance with GAAP, excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Consolidated Subsidiary" shall mean with respect to any Person at any date any Subsidiary or other entity the accounts of which would be consolidated in accordance with GAAP with those of such Person in its consolidated financial statements as of such date.

        "Consolidated Tangible Net Assets" shall mean at any date the total net assets of the Guarantor and its Consolidated Subsidiaries (other than Unrestricted Subsidiaries) determined in accordance with GAAP, excluding, however, from the determination of total net assets (i) goodwill, organizational expenses, research and product development expenses, trade marks, trade names, copyrights, patents, patent applications, licenses and rights in any thereof, and other similar intangibles, (ii) all deferred charges or unamortized debt discount and expenses, (iii) all reserves carried and not deducted from assets, (iv) securities which are not readily marketable, (v) cash held in sinking or other analogous funds established for the purpose of redemption, retirement or prepayment of capital stock or other equity interests or Indebtedness, and (vi) any items not included in clauses (i) through (v) above which are treated as intangibles in conformity with GAAP.

        "Credit Support Arrangements" shall mean any Guaranty, letter of credit or other instrument or arrangement issued as support for the payment or performance obligations of a party under any Trading Arrangement.

        "Distribution" shall mean, in respect of any Person, (i) any payment of any dividends or other distributions with respect to the capital stock or other equity interests of such Person (except distributions in such capital stock or other equity interests) and (ii) any purchase, redemption or other acquisition or retirement for value of any capital stock or other equity interests of such Person or any Affiliate of such Person unless made contemporaneously from the net proceeds of the sale of capital stock or other equity interests.

        "EBITDA" shall mean, with respect to any Person for any period, the (i) income (or loss) before interest and taxes of such Person, plus (ii) to the extent deducted in determining such income (or loss), depreciation, amortization and other similar non-cash charges and reserves, minus (iii) to the extent recognized in determining such income (or loss), extraordinary gains (or losses), restructuring charges or other non-recurring items, plus (iv) to the extent deducted in determining such income (or loss), Lease Payment Obligations described in clause (iii) of the definition of "Lease Payment Obligations".

        "Equity Funding Arrangement" shall mean (i) an agreement to provide a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with any Project Financing Facility, (ii) a Guaranty, letter of credit or other similar arrangement with respect to any obligations of any Asset Company or Investment Vehicle under a Project Financing Facility, (iii) a Guaranty of any Investment Vehicle's obligation to make a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with a Project Financing Facility or (iv) a Guaranty, letter of credit or other similar arrangement to support any of the obligations or arrangements described in clauses (i) through (iii) hereof.

        "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as the same may be amended from time to time.

        "ERISA Affiliate" shall mean any trade or business (whether or not incorporated) that is a member of a group of (i) organizations described in Sections 414(b) or 414(c) of the Code and (ii) solely for purposes of the Lien created under Section 412(n) of the Code, organizations described in Sections 414(m) or 414(o) of the Code of which the Guarantor is a member.

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        "ERISA Event" shall mean (i) the Guarantor or any ERISA Affiliate shall fail to pay when due an amount or amounts aggregating in excess of $15,000,000 which it shall have become liable to pay under Title IV of ERISA; or (ii) notice of intent to terminate a Material Plan shall be filed under Title IV of ERISA by the Guarantor or any ERISA Affiliate, any plan administrator or any combination of the foregoing; or (iii) the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or (iv) a condition shall exist by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated; or (v) there shall occur a complete or partial withdrawal from, or a default, within the meaning of Section 4219(c)(5) of ERISA, with respect to, one or more Multiemployer Plans which could cause the Guarantor or any ERISA Affiliate to incur a current payment obligation in excess of $15,000,000; or (vi) receipt by the Guarantor or any ERISA Affiliate of notice from one or more Multiemployer Plans of intent to terminate or that it is insolvent or in reorganization (within the meaning of Section 4241 or 4245 of ERISA, as applicable) which termination, insolvency or reorganization, individually or together with other such events, could cause the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, to incur a current payment obligation in excess of $15,000,000; or (vii) the Guarantor or any ERISA Affiliate shall engage in one or more non-exempt "prohibited transactions" (as defined in Section 406 of ERISA or Section 4975 of the Code) which could result in a current payment obligation of the Guarantor and/or any ERISA Affiliate individually or in the aggregate, in an amount or amounts aggregating in excess of $15,000,000; or (viii) the occurrence of any event or series of events of which the nature described in clauses (i) through (vii) with respect to any Plan or Multiemployer Plan which, individually or in the aggregate, could result in a liability to the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, in an amount or amounts aggregating in excess of $50,000,000.

        "ET Credit Agreements" shall mean (i) the $50,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading Gas Corporation, PG&E Energy Trading, Canada Corporation, ET Holdings, PG&E Energy Trading Power, L.P. and Bank of Montreal and (ii) the $35,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading—Gas Corporation, PG&E Energy Trading, Canada Corporation, PG&E Energy—Trading Power Holdings Corporation, PG&E Energy Trading Power, L.P. and The Chase Manhattan Bank, as each may be amended, modified or supplemented from time to time.

        "ET Holdings" shall mean PG&E Energy Trading Holdings Corporation, a California corporation.

        "Federal Reserve System" shall mean the Federal Reserve System of the United States of America.

        "Financed Subsidiary" shall mean any direct or indirect Subsidiary of the Guarantor that is financed with Indebtedness of such Subsidiary.

        "Financial Officer" of any Person shall mean the chief financial officer, principal accounting officer, treasurer, associate or assistant treasurer, or any responsible officer analogous to the foregoing or designated by the one of the foregoing Persons, of such Person.

        "Fitch" shall mean Fitch, Inc.

        "Fixed Charges" shall mean, with respect to the Guarantor for any period, the sum, without duplication, of (i) the aggregate amount of interest expense and commitment and other fees with respect to Funded Indebtedness of the Guarantor Scheduled to be Paid for such period, including (A) the net costs under Swaps, (B) all capitalized interest, (C) the interest portion of any deferred payment obligation and (D) the Lease Payment Obligations of the Guarantor Scheduled to be Paid

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by the Guarantor during such period, and (ii) the aggregate amount of all mandatory scheduled payments (whether designated as payments or prepayments) and scheduled sinking fund payments with respect to principal of any Funded Indebtedness of the Guarantor, including payments in the nature of principal under Lease Obligations, provided that with respect to any Funded Indebtedness of the Guarantor consisting of Equity Funding Arrangements, "Fixed Charges" shall not include any of the foregoing enumerated items to the extent paid by a Subsidiary of the Guarantor (so long as the funds used to make such payments were not provided by the Guarantor).

        "Funded Indebtedness" of a Person shall mean all Indebtedness of such Person (after intercompany eliminations) other than any Guaranty obligations that are not reasonably quantifiable under standard accounting practices as of the date of determination.

        "GAAP" shall mean generally accepted accounting principles, applied on a consistent basis.

        "Governmental Approvals" shall mean all authorizations, consents, approvals, licenses and exemptions of, registrations and filings with, and notices and reports to all Governmental Authorities.

        "Government Authority" shall mean any Federal, state, county, municipal or other local governmental authority or judicial or regulatory agency, board, body, commission or instrumentality.

        "GTN" shall mean PG&E Gas Transmission, Northwest Corporation, a California corporation.

        "GTN Credit Agreements" shall mean (i) the $750,000,000 Indenture, dated as of May 22, 1995, between GTN and The First National Bank of Chicago, as trustee and (ii) the $100,000,000 Amended and Restated Credit Agreement and $50,000,000 364-Day Credit Agreement, each dated May 24, 1999, between GTN, the lenders party thereto and Citicorp USA, Inc., as administrative agent for such lenders, including any commercial paper supported by credit facilities made available under such credit agreements, as the same may be amended, modified or supplemented from time to time.

        "Guaranteed Obligations" shall mean the collective reference to the unpaid principal of and interest on the Loans and all other payment obligations and liabilities of the Company (including, without limitation, interest accruing at the then applicable rate provided in the Credit Agreement after the maturity of the Loans and interest accruing at the then applicable rate provided in the Credit Agreement after the filing of any petition in bankruptcy, or the commencement of any insolvency, reorganization or like proceeding, relating to the Company, whether or not a claim for post-filing or post-petition interest is allowed in such proceeding) to the Security Agent or any Lender, whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred, under the Credit Agreement and the other Loan Documents or any other document made, delivered or given in connection with any of the foregoing, in each case whether on account of principal, interest, fees, indemnities, costs, expenses or otherwise.

        "Guarantor" shall be defined as in the recitals hereto.

        "Guaranty" shall mean (a) a guaranty by a Person (other than by endorsement of negotiable instruments for collection in the ordinary course of business), directly or indirectly, in any manner, of any part or all of the obligations of another Person; and (b) an agreement by a Person, direct or indirect, contingent or otherwise, and whether or not constituting a guaranty, the practical effect of which is to assure the payment or performance (or payment of damages in the event of nonperformance) of any part or all of the obligations of another Person (other than in respect of operating leases not otherwise included in the definition of "Lease Obligations"), whether by (i) the purchase of securities or obligations, (ii) the purchase, sale or lease of property or the

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purchase or sale of services primarily for the purpose of enabling the obligor with respect to such obligation to make any payment or performance (or payment of damages in the event of nonperformance) of or on account of any part or all of such obligation, or to assure the obligee of such obligation against loss, (iii) repayment of amounts drawn down by beneficiaries of letters of credit, (iv) the maintenance of working capital, equity capital, available cash or other financial statement condition so as to enable the primary obligor to pay Indebtedness; (v) the provision of equity or other capital under or in respect of equity or other capital subscription arrangements, (vi) the supplying of funds to or investing in a Person on account of all or any part of such Person's obligation or indemnifying or holding harmless, in any way, such Person against any part or all of such obligation or (vii) the placing of any Lien on property (including, without limitation, accounts and contract rights) of a Person to secure another Person's Indebtedness.

        "Incipient NEG Trigger Event" shall mean any condition or event which, with notice or lapse of time or both, would become a NEG Trigger Event.

        "Indebtedness" of any Person shall mean (i) all indebtedness of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds, debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, (iv) all indebtedness created or arising under any conditional sale or other title retention agreement with respect to property acquired by such Person (even though the rights and remedies of the seller or lender under such agreement in the event of default are limited to repossession or sale of such property), (v) all Lease Obligations of such Person, (vi) all obligations, contingent or otherwise, of such Person under any issued and outstanding acceptance, letter of credit or similar instruments, (vii) all obligations of such Person to redeem or purchase any capital stock of such Person which is mandatorily redeemable, (viii) all Swaps of such Person and (ix) any Guaranty of such Person with respect to liabilities of the type described in clauses (i) through (viii) hereof.

        "Investment" shall mean the acquisition of any interest in any Person or property, a loan or advance to any Person or other arrangement for the purpose of providing funds or credit to any Person, a capital contribution in or to any Person, or any other investment in any Person or property, or any Guaranty of any of the foregoing.

        "Investment Vehicle" shall mean each Subsidiary of the Guarantor which is organized solely to acquire, make or hold one or more Investments in an Asset Company or Asset Companies, either directly or indirectly through one or more other Investment Vehicles.

        "Lease Obligations" shall mean, without duplication, (i) any Indebtedness represented by obligations under a lease that is required to be capitalized for financial reporting purposes and (ii) the present value, determined using a discount rate equal to the incremental borrowing rate (as defined in Statement of Financial Accounting Standards No. 13) of the Person incurring such obligations, of rent obligations under leases of electric generating assets or natural gas pipelines and related facilities.

        "Lease Payment Obligations" shall mean, with respect to any Person for any period, (i) the interest component of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period, plus (ii) the principal portion of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" that are Scheduled to be Paid during such period, plus (iii) all rent payment obligations relating to Lease Obligations of such Person described in clause (ii) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period.

        "Letter Agreement" shall mean the letter agreement, dated as of May 29, 2001, from NEG LLC addressed to the Security Agent, for the benefit of the Lenders.

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        "Lien" shall mean, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset or any interest or title of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset.

        "Material Adverse Effect" shall mean a materially adverse change in (a) the business, assets, property or condition (financial or otherwise) or operations of the Guarantor and its Subsidiaries taken as whole, or (b) the ability of the Guarantor to perform its obligations under this Guarantee and Agreement.

        "Material Plan" shall mean any Plan or Plans having aggregate Unfunded Liabilities in excess of $50,000,000.

        "Minimum Consolidated Net Worth" shall mean US$1.8 billion.

        "Minimum Non-Trading Consolidated Net Worth" shall mean US$1.4 billion.

        "Moody's" shall mean Moody's Investors Service, Inc.

        "Multiemployer Plan" shall mean a multiemployer plan as defined in Section 4001(a)(3) of ERISA to which the Guarantor or any ERISA Affiliate is making, or accruing an obligation to make, contributions, or has within any of the preceding six years made, or accrued an obligation to make, contributions.

        "NEG/ET Letter of Credit Facilities" shall mean a letter of credit facility entered into by ET Holdings, any of its Subsidiaries and/or the Guarantor in an aggregate amount not to exceed $500,000,000, as the same may be amended, modified or supplemented from time to time.

        "NEG Downgrade Event" shall mean (i) unless the NEG Guarantee Release Date has occurred, the Guarantor's senior unsecured long term debt (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the Guarantor fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount or (ii) if a Substitute Credit Support Instrument in the form of a guaranty pursuant to clause (b) of the definition thereof has been provided in accordance with Section 2.07, from and after the effectiveness of such Substitute Credit Support Instrument, the senior unsecured long term debt of the guarantor thereunder (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the guarantor thereunder fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount.

        "NEG Guarantee Release Date" shall mean the earliest of (x) the date on which the Guaranteed Obligations have been paid in full and (y) the date on which this Guarantee and Agreement terminates in accordance with Section 2.07(b) hereof.

        "NEG LLC" shall mean PG&E National Energy Group, LLC, a Delaware limited liability company.

        "NEG Trigger Event" shall mean any of the events set forth in Section V of this Guarantee and Agreement.

        "Non-Trading Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the

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Guarantor (but excluding any portion thereof attributable to (i) Unrestricted Subsidiaries or (ii) ET Holdings or any Subsidiary thereof) excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Other NEG Guarantees" shall mean (i) the Guarantee and Agreement (La Paloma), dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., for the benefit of the creditors identified therein, (ii) the Guarantee and Agreement (Lake Road), dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., for the benefit of the creditors identified therein and (iii) the Guarantee and Agreement (Harquahala) to be delivered by the Guarantor in favor of the security agent thereunder, for the benefit of the creditors identified therein.

        "Payment Demand" shall mean the payment demand in the form of Exhibit A.

        "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA.

        "Permitted Encumbrances" shall mean, as to any Person at any date, any of the following:

          (i)  Liens for taxes, assessments or governmental charges not then delinquent, and Liens for taxes, assessments or governmental charges then delinquent but the validity of which is being contested at the time by such Person in good faith and for which adequate reserves have been established in accordance with GAAP, and (ii) Liens incurred or created in connection with or to secure the performance of bids, tenders, contracts (other than for the payment of money), leases, statutory obligations, surety bonds or appeal bonds, and carriers', warehousemen's, mechanics' or materialmen's Liens, assessments or similar encumbrances incurred in the ordinary course of business;

        (ii)  easements, restrictions, exceptions or reservations in any property and/or rights of way of such Person for the purpose of roads, pipe lines, substations, transmission lines, transportation lines, distribution lines, removal of oil, gas, lignite, coal or other minerals or timber, and other like purposes, or for the joint or common use of real property, rights of way, facilities and/or equipment, and defects, irregularities and deficiencies in titles of any property and/or rights of way, which do not individually or in the aggregate materially impair the use or value of such property and/or rights of way for the purposes for which such property and/or rights of way are held by such Person;

        (iii)  rights reserved to or vested in any municipality or public authority to use, control or regulate any property of such Person;

        (iv)  any obligations or duties, affecting the property of such Person, to any municipality or public authority with respect to any franchise, grant, license or permit;

        (v)  any judgment Lien against such Person securing a judgment for an amount not exceeding $50,000,000, so long as the finality of such judgment is being contested by appropriate proceedings conducted in good faith and execution thereon is stayed;

        (vi)  any Lien arising by reason of deposits with or giving of any form of security to any federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, for any purpose at any time as required by law or governmental regulation as a condition to the transaction of any business or the exercise of any privilege or license, or to enable such Person to maintain self-insurance or to participate in any fund for liability on any insurance risks or in connection with workers' compensation, unemployment insurance, old age pensions or other social security or to share in the privileges or benefits required for companies participating in such arrangements; or

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      (vii)  any landlords' Lien on fixtures or movable property located on premises leased by such Person in the ordinary course of business so long as the rent secured thereby is not in default.

        "Permitted Sale-Leaseback Transactions" shall mean (i) Sale-Leaseback transactions by any Restricted Subsidiary or Asset Company, entered into on or prior to the date of this Guarantee and Agreement and identified on Schedule 1.01A and (ii) one or more Sale/Leaseback transactions entered into by any Asset Company in connection with or as part of a Project Financing Facility entered into after the date of execution of this Guarantee and Agreement.

        "Permitted Subordinated Indebtedness" shall mean all unsecured Indebtedness of the Guarantor that shall have been subordinated to all Indebtedness of the Guarantor under this Guarantee and Agreement and otherwise containing terms and conditions set forth in Schedule 1.01B with respect to Indebtedness of the Guarantor to Affiliates of the Guarantor or in Schedule 1.01C with respect to Indebtedness of the Guarantor to non-Affiliates of the Guarantor.

        "Person" shall mean any individual, corporation, partnership, joint venture, association, joint-stock company, limited liability company, trust, unincorporated organization, governmental authority or any other entity.

        "PG&E" shall mean Pacific Gas & Electric Company, a California corporation.

        "PG&E Corp." shall mean PG&E Corporation, a California corporation.

        "PG&E Gen" shall mean PG&E Generating Company, LLC, a Delaware limited liability company.

        "PG&E Gen Credit Agreements" shall mean (i) the $1.1 Billion PG&E Gen Credit Agreement, including any commercial paper supported by credit facilities made available thereunder, and (ii) the $10,000,000 Credit Agreement, dated as of December 14, 1999, between PG&E Gen and ABN AMRO Bank N.V., as each may be amended, modified or supplemented from time to time.

        "PG&E Gen Credit Agreement Refinancing Date" shall mean the date on which the commitments and all amounts outstanding under the $1.1 Billion PG&E Gen Credit Agreement are refinanced by one or more credit facilities of the Guarantor.

        "Plan" shall mean any employee pension benefit plan described under Section 3(2) of ERISA (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA that is maintained by the Guarantor or any ERISA Affiliate or with respect to which the Guarantor or any ERISA Affiliate could have liability under Section 4069 of ERISA.

        "Project Financing Facility" shall mean any loan, note purchase agreement, indenture, lease, credit agreement, reimbursement agreement, letter of credit or other facility pursuant to which an Asset Company or Investment Vehicle which directly or indirectly owns an Asset Company incurs Indebtedness, provided that any such Indebtedness is recourse only to (a) the assets of such Asset Company or any Asset Company which is a Subsidiary of such Asset Company, (b) the equity or ownership interests of such Asset Company or any Investment Vehicle which owns such Asset Company or (c) any Equity Funding Arrangements provided with respect to such Asset Company or Investment Vehicle or a Lien on any such Equity Funding Arrangements.

        "Projections" shall mean the projections contained in the presentation materials distributed by the Guarantor to the Lenders during the bank meeting held on March 21, 2001 in New York City.

        "Ratio of Cash Flow to Fixed Charges" shall mean, as of the end of each fiscal quarter the Guarantor, the ratio of (a) Cash Flow Available for Fixed Charges of the Guarantor for the period of four consecutive fiscal quarters ending on, or most recently ended prior to, such date to

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(b) Fixed Charges of the Guarantor for such period, excluding from the calculation of Fixed Charges all Trading Arrangements and Credit Support Arrangements.

        "Ratio of Debt to Capitalization" shall mean, as of any date, the ratio of the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen to the Total Capitalization of the Guarantor (excluding from the calculation of Funded Indebtedness all Trading Arrangements, Credit Support Arrangements and Swaps); provided that any Equity Funding Arrangements shall only be included in Funded Indebtedness in an amount equal to the lesser of (x) the maximum amount that would be payable under such Equity Funding Arrangements (assuming a drawing is permissible as of the date of determination) and (y) the amount outstanding under any underlying Indebtedness to which any payment under such Equity Funding Arrangements would be applied (assuming such Indebtedness were due and payable as of the date of determination).

        "Refinanceable Facilities" has the meaning ascribed thereto in Section 4.12(a).

        "Repurchase Agreement" shall mean any written agreement:

          (i)  that provides for (i) the transfer of one or more United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality in an aggregate principal amount at least equal to the amount of the Transfer Price (defined below) to the Guarantor or any Restricted Subsidiary from a financial institution that is (1) a member of the Federal Reserve System having a minimum of US$20 billion in assets, and (2) has commercial paper rated at least A-1 by S&P, at least F1 by Fitch or at least P-1 by Moody's, against a transfer of funds (the "Transfer Price") by the Guarantor or such Restricted Subsidiary to such financial institution and (ii) a simultaneous agreement by the Guarantor or such Restricted Subsidiary, in connection with such transfer of funds, to transfer to such financial institution the same or substantially similar United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality for a price not less than the Transfer Price plus a reasonable return thereon at a date certain not later than 180 days after such transfer of funds,

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        (ii)  in respect of which the Guarantor or such Restricted Subsidiary shall have the right, whether by contract or pursuant to applicable law, to liquidate such agreement upon the occurrence of any default thereunder, and

        (iii)  in connection with which the Guarantor or such Restricted Subsidiary, or an agent thereof, shall have taken all action required by applicable law or regulations to perfect a Lien in such United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality.

        "Responsible Officer" of the Guarantor, shall mean any president or senior vice president of the Guarantor.

        "Restricted Subsidiary" shall mean any Subsidiary of the Guarantor that is not (x) an Asset Company, (y) an Investment Vehicle or (z) an Unrestricted Subsidiary.

        "S&P" shall mean Standard & Poor's Ratings Service, a division of McGraw Hill Companies, Inc.

        "Sale/Leaseback" shall mean any lease whereby any Person becomes or remains liable as lessee or as guarantor or other surety of any property, whether now owned or hereafter acquired, that such Person has sold or transferred or is to sell or transfer to any other Person (other than any Subsidiary of such Person), as part of a financing transaction to which such Person is a party, in contemplation of leasing such property to such Person.

        "Scheduled to be Paid" shall mean, with respect to any liability or expense for any period, the amount of such liability or expense scheduled to be paid during such period or the amount of such liability or expense that would have been scheduled to be paid during such period had the payment schedule with respect to such liability or expense been divided equally into successive periods having a duration equal to the duration of such period.

        "Subsidiary" shall mean, with respect to any Person (the "Parent"), any corporation or other entity of which sufficient securities or other ownership interests having ordinary voting power to elect a majority of the board of directors or other Persons performing similar functions are at the time directly or indirectly owned by such Parent.

        "Substitute Credit Support Amount" shall mean, as of the date any Substitute Credit Support Instrument is provided, 105% of the amount of the outstanding principal of all Loans (or, if higher, an amount equal to 105% of the Total Commitments in effect at such time, or, if not in effect at such time, in effect immediately prior to any termination thereof) as determined by the Administrative Agent.

        "Substitute Credit Support Instrument" shall mean either (a) an irrevocable letter of credit issued in form and substance satisfactory to the Security Agent in its reasonable judgment and from a bank or trust company with a combined capital and surplus of at least $1,000,000,000 whose unsecured senior long term debt is rated at least "A" by S&P and "A2" by Moody's; provided that such letter of credit shall contain provisions that authorize a draw on such letter of credit in the event that (i) either (A) there is a downgrade in the credit rating of the issuer of such letter of credit to below the level specified above or (B) such issuer is no longer rated by both S&P and Moody's and such letter of credit is not replaced with a Substitute Credit Support Instrument within thirty (30) days after such event, (ii) such letter of credit is not replaced or renewed by no later than fifteen (15) Business Days prior to its date of expiration or (iii) an Event of Default shall have occurred and be continuing and the Guaranteed Obligations are then due and payable or (b) a Guaranty in form and substance satisfactory to, and issued by a Subsidiary of the Guarantor acceptable to, each Lender in its sole discretion.

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        "Swaps" shall mean, with respect to any Person, payment obligations with respect to interest rate swaps, currency swaps and similar obligations obligating such Person to make payments, whether periodically or upon the happening of a contingency. The amount of the obligation under any Swap shall be the amount determined in respect thereof as of the end of the then most recently ended fiscal quarter of such Person, based on the assumption that such Swap had terminated at the end of such fiscal quarter, and in making such determination, if any agreement relating to such Swap provides for the netting of amounts payable by and to such Person thereunder of if any such agreement provides for the simultaneous payment of amounts by and to such Person, then in each such case, the amount of such obligation shall be the net amount so determined.

        "Total Capitalization" shall mean, with respect to the Guarantor, the sum, without duplication, of (i) total common stock equity or analogous ownership interests of the Guarantor, (ii) preferred stock and preferred securities of the Guarantor, (iii) additional paid in capital or analogous interests of the Guarantor, (iv) retained earnings of the Guarantor, excluding other comprehensive income arising from accounting treatment of hedging and mark-to-market transactions and (v) the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen.

        "Trading Arrangement" shall mean any transaction entered into by PG&E Energy Trading—Power, L.P., a Delaware limited partnership, PG&E Energy Trading Gas Corporation, a California corporation, or PG&E Energy Trading, Canada Corporation, an Alberta corporation, any other Restricted Subsidiary, Asset Company or Investment Vehicle, whether pursuant to master trading agreements or otherwise, for (1) the purchase and sale of energy, capacity, ancillary services and other energy or energy-related products, including transmission rights, environmental allowances and offsets and storage; (2) the purchase and sale of natural gas, coal, oil and other fuel, including transportation and storage rights; (3) the purchase and sale of fuel conversion services, including tolling arrangements; (4) the purchase and sale of any energy or energy-related derivatives, including weather derivatives; (5) hedging arrangements with respect to any of the foregoing and interest rate, foreign currency or credit exposure; or (6) any similar arrangements entered into in the ordinary course of business as conducted by such Persons or by other Persons in the energy trading, energy services, power generating, electric transmission or gas transmission and storage businesses (including technologies related to such businesses).

        "Unfunded Liabilities" shall mean, with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability of the Guarantor or any ERISA Affiliate to the PBGC or any other Person under Title IV of ERISA.

        "United States" or "U.S." or "US" shall mean the United States of America.

        "United States or Canadian Governmental Securities" shall mean securities issued, or fully guaranteed or insured by the United States or Canadian government.

        "Unrestricted Subsidiary" shall mean any Subsidiary of the Guarantor designated as such on the Closing Date, or, after the Closing Date, designated as such at the time of formation thereof or, if acquired by the Guarantor, at the time of acquisition thereof, but, in any such case, only if at such time (i) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or would occur as a result thereof and (ii) such Subsidiary or any of its Subsidiaries does not own any capital stock or Indebtedness of or have any Investment in, or own

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or hold any Lien on any property of, any other Subsidiary of the Guarantor which is not a Subsidiary of the Subsidiary to be so designated or otherwise an Unrestricted Subsidiary.

        "USGenNE" shall mean USGen New England, Inc., a Delaware corporation and an indirect, wholly-owned Subsidiary of the Guarantor.

        "USGenNE Credit Agreement" shall mean the $575,000,000 Credit Agreement, dated as of September 1, 1998, among USGenNE, the lenders party thereto, The Chase Manhattan Bank, as competitive advance facility agent and as administrative agent for the lenders thereunder, and The Chase Manhattan Bank, as the issuer of letters of credit thereunder, the same may be amended, modified or supplemented from time to time.

        1.02.    Other Definitional Provisions.    The following rules of usage shall apply unless otherwise required by the context or unless otherwise specified herein:

        (a)  Definitions set forth herein shall be equally applicable to the singular and plural forms of the terms defined.

        (b)  References in any document to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits are references to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits in such document.

        (c)  The headings, subheadings and table of contents used herein are solely for convenience of reference and shall not constitute a part hereof nor shall they affect the meaning, construction or effect of any provision hereof.

        (d)  References to any Person shall include such Person, its successors and permitted assigns and transferees.

        (e)  Reference to any agreement means such agreement as amended, supplemented or otherwise modified from time to time in accordance with the applicable provisions thereof.

        (f)    References to any law includes any amendment or modification to such law and any rules or regulations issued thereunder or any law enacted in substitution or replacement thereof.

        (g)  The words "hereof," "herein", "hereto" and "hereunder" and words of similar import when used in this Guarantee and Agreement shall refer to this Guarantee and Agreement as a whole and not to any particular provision of this Guarantee and Agreement.

        (h)  References to "including" means including without limiting the generality of any description preceding such term and for purposes hereof the rule of ejusdem generis shall not be applicable to limit a general statement, followed by or referable to an enumeration of specific matters, to matters similar to those specifically mentioned.

        (i)    Each of the parties to this Guarantee and Agreement and their counsel have reviewed and revised, or requested revisions to this Guarantee and Agreement, and the usual rule of construction that any ambiguities are to be resolved against the drafting party shall be inapplicable in the construing and interpretation of this Guarantee and Agreement and any amendments hereto.

        (j)    Except as otherwise expressly provided herein, all terms of an accounting or financial nature shall be construed in accordance with GAAP, as in effect from time to time; provided that for purposes of determining compliance with any covenant set forth herein, such terms shall be construed in accordance with GAAP as in effect on the date hereof applied on a basis consistent with the application used in preparing the Guarantor's audited financial statements.

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SECTION II GUARANTEE

        2.01.    Guarantee; Payment.    (a) Subject to the terms herein, the Guarantor unconditionally guarantees to the Security Agent for the benefit of the Lenders, the prompt and complete payment when due of the Guaranteed Obligations. This is a guarantee of payment and not of collection.

        (b)  When and at such time as a NEG Trigger Event shall have occurred and be continuing, the Security Agent shall be entitled to make a Payment Demand to the Guarantor (with a copy to the Company) in accordance with Section 2.04 for the payment of all due and unpaid Guaranteed Obligations. The Guarantor shall pay such Guaranteed Obligations to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        2.02.    Extent of Liability.    Except as the same comprise Guaranteed Obligations under the Loan Documents, the Guarantor shall not be liable hereunder for special, consequential, exemplary, tort or other damages. The Guarantor agrees to pay all out-of-pocket expenses (including the reasonable fees and expenses of Security Agent's counsel) incurred for the enforcement of the rights of Security Agent hereunder; provided that the Guarantor shall not be liable for any such expenses if no payment in respect of the Guaranteed Obligations is due. Subject to reinstatement pursuant to Section 2.03, this Guarantee and Agreement shall remain in full force and effect until the NEG Guarantee Release Date unless otherwise terminated in writing by the Guarantor and the Security Agent.

        2.03.    Nature of Guarantee.    The Guarantor acknowledges and agrees that its guarantee obligations under this Guarantee and Agreement shall be construed as continuing, absolute and unconditional without regard to (a) the validity, regularity or enforceability of any Loan Documents, any of the Guaranteed Obligations or any other collateral security therefor or guaranty or right of offset with respect thereto at any time or from time to time held by the Security Agent or any Creditor, (b) any defense, set-off or counterclaim (other than a defense of payment or performance) which may at any time be available to or be asserted by the Company or the Guarantor against the Security Agent or any Creditor, or (c) any other circumstance whatsoever (with or without notice to or knowledge of the Company or the Guarantor) which constitutes, or might be construed to constitute, an equitable or legal discharge of the Guaranteed Obligations (other than payment or performance), in bankruptcy or in any other instance. The Guarantor's obligations hereunder with respect to any Guaranteed Obligations shall not be affected by the existence, validity, enforceability, substitution, perfection, or extent of any collateral for such Guaranteed Obligations. The Security Agent shall be entitled but shall not be obligated to file any claim relating to the Guaranteed Obligations owing to it if the Company becomes subject to a bankruptcy, reorganization or similar proceeding and the failure of the Security Agent to so file shall not affect the Guarantor's obligations hereunder. If any payment to the Security Agent made by the Company or the Guarantor with respect to any Guaranteed Obligations is rescinded or must otherwise be returned for any reason whatsoever, the Guarantor shall remain liable therefor hereunder (and its obligations reinstated hereunder if previously terminated) with respect to such Guaranteed Obligations as if such payment had not been made. The Guarantor reserves the right to assert defenses that the Company may have under the Loan Documents to payment of any Guaranteed Obligation other than (i) defenses arising from the bankruptcy, insolvency, incapacity, liquidation or dissolution of the Company, and (ii) defenses arising out of the matters described above in this Section 2.03 or any other circumstance or event that might otherwise constitute a legal or equitable discharge of a guarantor or a surety generally.

        2.04.    Demands and Notice; Application of Proceeds.    (a) A Payment Demand shall be sufficient notice to the Guarantor to pay under this Guarantee and Agreement. The Guarantor shall make all payments of amounts owing pursuant to this Guarantee and Agreement by wire transfer of immediately available funds to the account specified by the Security Agent in the Payment Demand. Notices under this Guarantee and Agreement shall be deemed received if sent to the address specified below: (i) on the day received if served by overnight express delivery, (ii) on the next Business Day if served by

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facsimile transmission when sender has machine confirmation that facsimile was transmitted to the correct fax number listed below, and (iii) four Business Days after mailing if sent by certified, first class mail, return receipt requested. Any party may change its address to which notice is given hereunder by providing notice thereof in accordance with this Section 2.04.

To the Guarantor:	PG&E National Energy Group, Inc. 7500 Old Georgetown Road, 13th floor Bethesda, MD 20814 Attention: General Counsel Fax: 301.280.6913
To the Security Agent:	Société Générale 1221 Avenue of the Americas New York, NY 10020
	Attention:	Anna Lopiccolo Loan Servicing Agency Administrative Unit
	Fax: 212.278.5525 Tel: 212.278.6732

        (b)  The Security Agent shall transfer the proceeds of any payment made hereunder to the Administrative Agent for distribution to the Lenders to be applied to the prepayment or repayment in whole of the principal of the Loans, together with all accrued interest and other amounts due in respect of the Guaranteed Obligations.

        2.05.    Consent to Modifications, Waivers.    The Security Agent and the Company may mutually agree to modify the Loan Documents, extend the time of payment or otherwise modify the terms of payment of any of the Guaranteed Obligations, without in any way impairing or affecting this Guarantee and Agreement. The Security Agent may resort to the Guarantor for payment of any of the Guaranteed Obligations, whether or not the Security Agent shall have resorted to any collateral security, or shall have proceeded against (or otherwise exhausted Security Agent's remedies against) the Company or any other obligor principally or secondarily obligated with respect to any of the Guaranteed Obligations. The Guarantor hereby waives demand (except in accordance with Sections 2.01 and 2.04), promptness, diligence (subject to any applicable statute of limitations), notice of acceptance of this Guarantee and Agreement, and also presentment, protest and notice of protest or dishonor of any evidences of obligations hereby guaranteed.

        2.06.    Subrogation.    The Guarantor waives any rights of subrogation or reimbursement from the Company or any other Person that may accrue to Guarantor with respect to the payment of any Guaranteed Obligation by Guarantor to Security Agent under this Guarantee and Agreement until the time that all Guaranteed Obligations owing to the Security Agent and the Lenders are fully and indefeasibly paid and the Commitments are terminated. Upon such full and indefeasible payment of all the Guaranteed Obligations owing to the Security Agent and the Lenders and the termination of the Commitments, the Guarantor shall be subrogated to the rights of the Security Agent and the Lenders against the Company, and the Security Agent agrees to take at Guarantor's expense such steps as the Guarantor may reasonably request to cause the implementation of such subrogation.

        2.07.    Substitute Credit Support.    Notwithstanding anything to the contrary set forth herein, the following provisions shall apply:

        (a)  At any time prior to the termination of the Guaranteed Obligations, the Guarantor may deliver or cause to be delivered to Security Agent a Substitute Credit Support Instrument with a stated amount at least equal to the Substitute Credit Support Amount in substitution for this Guarantee and Agreement in accordance with this Section 2.07.

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        (b)  Upon delivery of a Substitute Credit Support Instrument together with a legal opinion satisfactory to the Administrative Agent that the delivery of such instrument would not constitute a preference in a bankruptcy of the Guarantor or, if no legal opinion is delivered with such Substitute Credit Support Instrument, upon the 91^st day after the delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), this Guarantee and Agreement shall terminate and the Guarantor shall be relieved of any liability hereunder. Within ten (10) days of the receipt of such Substitute Credit Support Instrument together with such legal opinion, if applicable, or on the 91^st day after delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), if applicable, the Security Agent shall return to the Guarantor this Guarantee and Agreement together with any certificate or other documentation reasonably requested by the Guarantor in order to confirm the cancellation of this Guarantee and Agreement.

SECTION III REPRESENTATIONS AND WARRANTIES

        The Guarantor represents and warrants to the Security Agent and each of the Lenders as of the date hereof and on each date Loans are to be made pursuant to the Credit Agreement as follows (except to the extent that any representation or warranty hereunder is made with respect to an earlier date, in which case such representation and warranty shall be deemed to have been made on such earlier date):

        3.01.    Organization; Powers; Ownership of Property.    The Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) (a) is duly formed, validly existing and in good standing under the laws of the jurisdiction of its formation, except, with respect to such Subsidiaries, where the failure to be validly existing or in good standing is not reasonably likely to result in a Material Adverse Effect, (b) has all requisite power and authority to own its property and assets and to carry on its business as now conducted and as proposed to be conducted, (c) is qualified to do business in every jurisdiction where such qualification is required, except where the failure so to qualify is not reasonably likely to result in a Material Adverse Effect, (d) as to the Guarantor only, has the power and authority to execute, deliver and perform its obligations under this Guarantee and Agreement, and (e) owns and has good and marketable title to all of its properties and assets, subject to no Liens other than those permitted by Section 4.11 hereof, except where the failure to own or to have good and marketable title to such property or asset is not reasonably likely to result in a Material Adverse Effect.

        3.02.    Authorization.    The execution, delivery and performance by the Guarantor of this Guarantee and Agreement (a) have been duly authorized by all requisite corporate action on the part of the Guarantor, and (b) will not (i) violate (A) any provision of any law, statute, rule or regulation to which the Guarantor is subject, (B) the articles of incorporation or by-laws of the Guarantor, (C) any order of any Governmental Authority to which the Guarantor is subject, or (D) any material provision of any indenture, agreement or other instrument to which the Guarantor is a party or by which it or any of its property is or may be bound, which such violation is reasonably likely to result in a Material Adverse Effect, (ii) constitute (alone or with notice or lapse of time or both) a default under any such indenture, agreement or other instrument, which such default is reasonably likely to result in a Material Adverse Effect or (iii) result in the creation or imposition of any Lien upon any property or assets of the Guarantor, which such Lien is reasonably likely to result in a Material Adverse Effect.

        3.03.    Enforceability.    This Guarantee and Agreement constitutes a legal, valid and binding obligation of the Guarantor enforceable in accordance with its terms except to the extent that enforcement may be limited by bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally.

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        3.04.    Financial Statements.    (a) The consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 1999 and December 31, 2000, reported on by an independent public accountant of nationally recognized standing, and the related consolidated statements of income, retained earnings and cash flows for the fiscal periods then ended, copies of which have been delivered to the Administrative Agent, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such dates and their consolidated results of operations and cash flows for such periods ending on such dates.

        (b)  The assumptions used in preparing the Projections were made in good faith and are reasonable as of the date of such Projections and as of the date hereof.

        (c)  Since December 31, 2000, there has been no development or condition that has had, or could reasonably be expected to result in, a Material Adverse Effect (assuming that the transactions contemplated by the Other NEG Guarantees shall have occurred).

        3.05.    Litigation.    Except as set forth on Schedule 3.05, there is no action, suit or proceeding pending against, or to the Actual Knowledge of the Guarantor threatened against or affecting, the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) before any court or arbitrator or any governmental body, agency or official in which an adverse decision is reasonably likely to result in a Material Adverse Effect or call into question the enforceability of this Guarantee and Agreement.

        3.06.    Federal Reserve Regulations.    (a) Neither the Guarantor nor any of its Subsidiaries is engaged principally, or as one of its important activities, in the business of extending, credit for the purpose of purchasing or carrying Margin Stock.

        (b)  Not more than 25% of the value of the assets of the Guarantor is represented by Margin Stock.

        3.07.    Investment Company Act; Public Utility Holding Company Act.    (a) Neither the Guarantor nor any of its Subsidiaries is an "investment company" as defined in, or subject to regulation under, the Investment Company Act of 1940.

        (b)  The Guarantor is not a "holding company" but is a "subsidiary company" and an "affiliate" of a "holding company", the Parent, that is exempt from all provisions, except Section 9(a)(2), of the Public Utility Holding Company Act of 1935, as amended, and the execution, delivery and performance by the Guarantor of this Guarantee and Agreement and its obligations hereunder do not violate any provision of such Act or any rule or regulation thereunder.

        3.08.    No Material Misstatements.    The reports, financial statements and other written information furnished by or on behalf of the Guarantor to the Security Agent or any Lender pursuant to or in connection with this Guarantee and Agreement do not contain, when taken as a whole, any untrue statement of a material fact and do not omit, when taken as a whole, to state any fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading in any material respect.

        3.09.    Taxes.    The Guarantor has filed or caused to be filed all Federal and material state and local tax returns which to its Actual Knowledge are required to be filed by it, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than any taxes or assessments the validity of which is being contested in good faith by appropriate proceedings and with respect to which appropriate accounting reserves have to the extent required by GAAP been set aside. Each Subsidiary of the Guarantor (other than any Unrestricted Subsidiary) has filed or caused to be filed all Federal and material state and local tax returns which to the Actual Knowledge of the Guarantor or such Subsidiary are required to be filed by such Subsidiary, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or

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on any assessments received by it, other than the taxes the failure of which to pay or file a return with respect thereto is not reasonably likely to result in a Material Adverse Effect.

        3.10.    Employee Benefit Plans.    With respect to each Plan, the Guarantor and its ERISA Affiliates are in compliance in all material respects with the applicable provisions of ERISA and the Code and the final regulations and published interpretations thereunder. No ERISA Event has occurred that alone or together with any other ERISA Event has resulted or is reasonably likely to result in a Material Adverse Effect.

        3.11.    Governmental Approval; Compliance with Law and Contracts.    Each of the Guarantor and its Subsidiaries (other than Unrestricted Subsidiaries) is in compliance with (a) and has obtained each Governmental Approval applicable to it in respect of this Guarantee and Agreement, the conduct of its business and the ownership of its property, each of which (i) is in full force and effect, (ii) is sufficient for its purpose without any material restraint or adverse condition and (iii) is not subject to any waiting period, further action on the part of any Governmental Authority or other Person, or stay or injunction, (b) all applicable laws relating to its business and (c) each indenture, agreement or other instrument to which it is a party or by which it or any of its property is or may be bound that is material to the conduct of its business, except in each such case for noncompliances which, and Governmental Approvals the failure to possess which, are not, singly or in the aggregate, reasonably likely to result in a Material Adverse Effect.

        3.12.    Environmental Matters.    Except as set forth in Schedule 3.12 or as set forth in or contemplated by the financial statements or other reports of the type referred to in Section 3.04 hereof and which have been delivered to the Administrative Agent on or prior to the date hereof, the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) have complied in all material respects with all Federal, state, local and other statutes, ordinances, orders, judgments, rulings and regulations relating to environmental pollution or to environmental or nuclear regulation or control, except to the extent that failure to so comply is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, neither the Guarantor nor any of its Subsidiaries (other than Unrestricted Subsidiaries) has received notice of any material failure so to comply, except where such failure is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, no facilities of the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) are used to manage any hazardous wastes, hazardous substances, hazardous materials, toxic substances, toxic pollutants or substances similarly denominated, as those terms or similar terms are used in the Resource Conservation and Recovery Act, the Comprehensive Environmental Response Compensation and Liability Act, the Hazardous Materials Transportation Act, the Toxic Substance Control Act, the Clean Air Act, the Clean Water Act or any other applicable law relating to environmental pollution, or any nuclear fuel or other radioactive materials, in violation of any law or any regulations promulgated pursuant thereto, except to the extent that such violations, individually or in the aggregate, are not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, the Guarantor is aware of no events, conditions or circumstances involving environmental pollution or contamination that are reasonably likely to result in a Material Adverse Effect.

        3.13.    Ranking.    Under applicable laws in force on the date hereof, the claims and rights of the Security Agent under this Guarantee and Agreement in respect of the Guaranteed Obligations shall not be subordinate to, and shall rank at least pari passu in all respects with, the claims and rights of any other holders of unsecured Indebtedness of the Guarantor.

        3.14.    Unrestricted Subsidiaries.    All Unrestricted Subsidiaries designated as such on the date hereof are identified on Schedule 3.14.

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        3.15.    Separateness from PG&E.    (a) The Guarantor has operated as a business entity separate and distinct in all relevant respects from PG&E Corp. and PG&E such that the Guarantor believes there exists no reasonable basis for a substantive consolidation of NEG LLC with either PG&E Corp. or PG&E in the event of a bankruptcy proceeding with respect to either of such Persons.

        (b)  Any transfer of assets or funds from PG&E Corp. or PG&E (either directly or through PG&E Corp.) to the Guarantor during the period from the date of the Guarantor's incorporation on December 18, 1998 until the date hereof (i) was for reasonably equivalent value, (ii) was received by the Guarantor in good faith and for value and (iii) was made without intent to hinder, delay or defraud creditors of the transferor.

SECTION IV COVENANTS

        The Guarantor covenants and agrees with the Security Agent and the Lenders that, from and after the date of this Guarantee and Agreement until the Guaranteed Obligations and the Commitments shall have terminated:

        4.01.    Maintenance of Ownership.    The Guarantor shall continue (x) to own at least 50% of the equity ownership interests of, and (y) control the management and operations of, each of its Restricted Subsidiaries (except for certain Restricted Subsidiaries listed on Schedule 4.01); provided that (I) the Guarantor will in any event continue to own at least 80% of the equity ownership interests of ET Holdings and GTN, and (II) the Guarantor will continue to own (i) prior to the PG&E Gen Credit Agreement Refinancing Date, 100% of the equity ownership interests of PG&E Gen; and (ii) thereafter, at least 80% of the equity ownership interests of PG&E Gen; provided, further, that the Guarantor may wind up, dissolve or liquidate any Restricted Subsidiary (other than PG&E Gen, ET Holdings and GTN) without complying with the foregoing, so long as assets thereof are transferred or otherwise conveyed to another Restricted Subsidiary or the Guarantor.

        4.02.    Existence.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, do or cause to be done all things necessary to preserve and keep in full force and effect its legal existence and all rights, licenses, permits, franchises and authorizations necessary or desirable in the normal conduct of its business, except as otherwise permitted pursuant to Sections 4.01 (including Schedule 4.01) and 4.09, and in the case of any such Subsidiaries, except as such failure to so preserve or to keep its legal existence and such rights, licenses, permits, franchises or authorizations in full force and effect is not reasonably likely to result in a Material Adverse Effect.

        4.03.    Compliance with Law; Business and Properties.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, comply with all applicable material laws, rules, regulations and orders of any Governmental Authority, whether now in effect or hereafter enacted, except where the validity or applicability of such laws, rules, regulations or orders is being contested by appropriate proceedings in good faith or where such non-compliance is not reasonably likely to result in a Material Adverse Effect; comply with the terms of each indenture, agreement or other instrument to which it is a party and enforce all of its rights thereunder, except to the extent that noncompliance or failure to enforce is not reasonably likely to cause a Material Adverse Effect; and at all times maintain and preserve all property material to the conduct of its business and keep such property in good repair, working order and condition and from time to time make, or cause to be made, all needful and proper repairs, renewals, additions, improvements and replacements thereto necessary in order that the business carried on in connection therewith may be properly conducted at all times, except where the failure to take any such actions is not reasonably likely to result in a Material Adverse Effect.

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        4.04.    Financial Statements, Reports, Etc.    The Guarantor will furnish to the Security Agent, which will promptly forward the same to each Lender:

        (a)  as soon as available and in any event within 120 days after the end of each fiscal year of the Guarantor, a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such fiscal year and the related consolidated statements of income, retained earnings and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal year, to the extent available, all reported on by an independent public accountant of nationally recognized standing;

        (b)  as soon as available and in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Guarantor a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such quarter and the related consolidated statements of income for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, and the related consolidated statement of cash flows for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, in each case setting forth comparative figures for the previous dates and periods, to the extent available, all certified (subject to normal year-end adjustments) as to fairness of presentation, GAAP and consistency by a Financial Officer of the Guarantor;

        (c)  simultaneously with any delivery of each set of financial statements referred to in paragraphs (a) and (b) above, (i) an unconsolidated balance sheet of the Guarantor and the related unconsolidated statements of income, retained earnings and cash flows as of the same date and for the same periods applicable to the statements delivered pursuant to paragraph (a) or (b) above, as applicable, all certified (subject to normal year-end adjustments in the case of quarterly statements) as to fairness of presentation by a Financial Officer of the Guarantor and (ii) a certificate of a Financial Officer of the Guarantor (A) setting forth in reasonable detail the calculations required to establish whether the Guarantor was in compliance with the requirements of Section 4.15 on the date of such financial statements, and schedules setting forth all Indebtedness described in Section 4.12(o) that was incurred during the applicable period and (B) stating whether any NEG Trigger Event or Incipient NEG Trigger Event exists on the date of such certificate and, if any NEG Trigger Event or Incipient NEG Trigger Event then exists, setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (d)  simultaneously with the delivery of each set of financial statements referred to in paragraph (a) above, a statement of the firm of independent public accountants which reported on such statements confirming the calculations set forth in the Financial Officer's certificate delivered simultaneously therewith pursuant to subsection (c) above;

        (e)  promptly upon a Responsible Officer of the Guarantor obtaining Actual Knowledge of the occurrence of any NEG Trigger Event or Incipient NEG Trigger Event, a certificate of a Financial Officer of the Guarantor setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (f)    on or prior to the date of incurrence of any Indebtedness pursuant to Section 4.12(c) or (l) or the date of any Distribution pursuant to Section 4.14, (i) a certificate of a Financial Officer of the Guarantor setting forth in reasonable detail the calculations demonstrating compliance by the Guarantor with the applicable financial tests, together with the pro forma calculations referred to in the applicable Section, and copies of all financial statements and other supporting documents and reports, if any, upon which the Guarantor relied in making such calculations, and (ii) with respect to Section 4.12(c) and (l) only, written evidence of the confirmation of the rating agency ratings, to the extent such confirmation is required under Section 4.12 (c) or (l), as the case may be;

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        (g)  (i) on or prior to the date hereof, copies of the PG&E Gen Credit Agreements, ET Credit Agreements, GTN Credit Agreements, and USGenNE Credit Agreements, in each case accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete, and (ii) promptly upon any refinancing of the loans under any such facility, copies of the refinancing documents, accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete; and

        (h)  on each date Loans are to be made pursuant to the Credit Agreement, a certificate to the effect that the representations and warranties made by the Guarantor and contained in Section III hereof are true and correct in all material respects as of such date, except to the extent made with respect to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects as of such earlier date.

        4.05.    Insurance.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, maintain such insurance or self insurance, to such extent and against such risks, including fire and other risks insured against by extended coverage, as is customary with companies similarly situated and in the same or similar businesses except, in the case of any such Subsidiaries, where such failure to so maintain is not reasonably likely to result in a Material Adverse Effect.

        4.06.    Taxes, Etc.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, pay and discharge promptly when due all material taxes, assessments and governmental charges imposed upon it or upon its income or profits or in respect of its property, in each case before the same shall become delinquent or in default and before penalties accrue thereon, unless and to the extent that the same are being contested in good faith by appropriate proceedings and adequate reserves with respect thereto shall, to the extent required by GAAP, have been set aside except, in the case of any such Subsidiaries, where such failure to so pay or discharge is not reasonably likely to result in a Material Adverse Effect.

        4.07.    Maintaining Records; Access to Properties and Inspections.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain financial records in accordance with GAAP and, upon reasonable notice and at reasonable times, permit authorized representatives designated by the Administrative Agent or the Security Agent to visit and inspect its properties, books and records and to discuss its affairs, finances and condition with its officers.

        4.08.    Risk Management Procedures.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain in effect prudent risk management procedures with respect to Trading Arrangements and Swaps.

        4.09.    Merger.    The Guarantor will not consolidate or merge with or into any Person, or sell, lease or otherwise transfer, in a single transaction or in a series of transactions, all or substantially all of its assets to any Person or Persons, unless (i) the surviving Person or transferee is formed under the laws of a State of the United States of America and assumes or is responsible by operation of law for all the Guaranteed Obligations and (ii) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event shall have occurred or be continuing at the time of or after giving effect to such consolidation or merger or transfer.

        4.10.    Investments.    The Guarantor will not make any Investment, or permit any of its Restricted Subsidiaries to make any Investment, except:

        (a)  Investments in any Restricted Subsidiary, Investment Vehicle or Asset Company (or any Person that will become a Restricted Subsidiary, Investment Vehicle or Asset Company, as the case may be, upon the making of such Investment); or

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        (b)  Investments (not otherwise permitted under this Section 4.10) existing on the date of execution of Guarantee and Agreement which are identified on a Schedule 4.10; or

        (c)  Investments permitted to be incurred as Indebtedness under Section 4.12; or

        (d)  (i) Investments made by any Restricted Subsidiary in the Guarantor or any Restricted Subsidiary in connection with the Guarantor's cash management program or (ii) Investments in Cash Equivalents; or

        (e)  Investments constituting "Equity Funding Arrangements" permitted hereunder; or

        (f)    Investments otherwise made by the Guarantor and its Restricted Subsidiaries in the ordinary course of business as conducted by the Guarantor or its Restricted Subsidiaries or by other Persons in the energy trading, energy services, power generation, electric transmission or gas transmission and storage businesses (including technologies related to such businesses); or

        (g)  Investments in connection with obligations in support of Trading Arrangements; or

        (h)  Investments in any Unrestricted Subsidiary with amounts which would otherwise be available for distribution in accordance with Section 4.14.

        4.11.    Liens.    The Guarantor will not create or assume or permit to exist any Lien, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, create or assume or permit to exist any Lien, in respect of any of its property or assets of any kind (real or personal, tangible or intangible), except:

        (a)  Liens granted pursuant to Lease Obligations described in clause (i) of the definition of "Lease Obligations" and permitted by Section 4.12; or

        (b)  Liens on cash collateral securing Equity Funding Arrangements, Credit Support Arrangements, Investments or Indebtedness permitted hereunder; or

        (c)  Liens in favor of the administrative agent under the PG&E Gen Credit Agreement on funds in the "Cash Collateral Account" and on the "Cash Collateral Account" to secure the reimbursement obligations of PG&E Gen in respect of letters of credit as provided for in the PG&E Gen Credit Agreement; or

        (d)  Liens existing on the assets of any Person at the time such Person becomes a Subsidiary of the Guarantor; or

        (e)  Liens on the equity or ownership interests of any Asset Company or any Investment Vehicle which owns such Asset Company and Liens on any Equity Funding Arrangements securing the applicable Project Financing Facility; or

        (f)    Liens on any of the assets of any Asset Company or Investment Vehicle securing or in connection with the applicable Project Financing Facility; or

        (g)  Liens on any asset of the Guarantor or any Restricted Subsidiary incurred or assumed for the purpose of financing all or any part of the cost of acquiring, constructing or improving such asset, provided that such Lien attaches contemporaneously with, or within 12 months of, the purchase, construction or improvement of such asset; or

        (h)  Liens with respect to the assets of and membership interests or other equity interests in ET Holdings and its Subsidiaries to secure the NEG/ET Letter of Credit Facilities; or

        (i)    Other Liens (not otherwise permitted under this Section 4.11) existing as of the date of this Guarantee and Agreement and identified on Schedule 4.11; or

        (j)    Permitted Encumbrances; or

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        (k)  without limiting the ability to incur Liens under the other subsections of this Section 4.11, extensions or renewals of any Lien otherwise permitted to be incurred under this Section 4.11 securing Indebtedness in an amount not exceeding the principal amount of, and accrued interest on, the Indebtedness secured by such Lien as so extended or renewed at the time of such extension or renewal; provided that such Lien shall apply only to the same property theretofore subject to the same and fixed improvements constructed thereon.

        4.12.    Indebtedness.    The Guarantor will not incur, create, assume or permit to exist Indebtedness, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, incur, create, assume or permit to exist Indebtedness, except:

        (a)  Indebtedness under (i) the USGenNE Credit Agreements, the GTN Credit Agreements, the ET Credit Agreements and NEG/ET Letter of Credit Facilities (the "Refinanceable Facilities") and (ii) the PG&E Gen Credit Agreements and the other credit facilities entered into by the Guarantor or any Restricted Subsidiary prior to the date of this Guarantee and Agreement and identified on Schedule 4.12(a); provided, that this subsection (a) shall not be deemed to permit an amendment to the facilities referred to in this subsection (a) which has the effect of increasing the available commitments thereunder or, in the case of the PG&E Gen Credit Agreements, extending the maturity of the loans thereunder; or

        (b)  Lease Obligations (1) under leases for any office buildings in which the Guarantor or any of its Subsidiaries has or will have offices; (2) under leases for any equipment not to exceed $10,000,000 in the aggregate outstanding at any time; or (3) described in clause (i) of the definition thereof of the Guarantor and its Restricted Subsidiaries if, immediately after the incurrence of any such Lease Obligation, the outstanding aggregate principal amount of all such Lease Obligations (other than those Lease Obligations incurred under subsections (c), (j), (l) and (q) below) would not exceed 2% of Consolidated Tangible Net Assets; or

        (c)  Indebtedness of (i) any Asset Company under any Project Financing Facility or (ii) any Investment Vehicle under any Project Financing Facility; provided, that if any Asset Company owned (directly or indirectly) by such Investment Vehicle has incurred any Indebtedness under a Project Financing Facility, then such Investment Vehicle may only incur Indebtedness under a Project Financing Facility if (I)(x) after giving effect to such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0, calculated on a pro forma basis to include such Indebtedness and related cash flows, (y) the Guarantor's senior unsecured long-term debt is, at the time of such incurrence, rated at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's), and (z) the Guarantor obtains a reaffirmation of such ratings from S&P and Moody's (taking into account the Indebtedness to be incurred by such Investment Vehicle under this Section 4.12(c)) or (II) such Investment Vehicle owns only one Asset Company and such Indebtedness is incurred in connection with a Project Financing Facility and the proceeds thereof are promptly invested in such Asset Company; or

        (d)  Trading Arrangements and Credit Support Arrangements, to the extent such arrangements constitute Indebtedness; or

        (e)  Indebtedness with respect to any securitization, receivables financing or similar transaction entered into by ET Holdings, GTN, USGenNE or any of their respective Subsidiaries; or

        (f)    Indebtedness not otherwise permitted under this Section 4.12, existing on the date of this Guarantee and Agreement and set forth on Schedule 4.12(f); or

        (g)  Indebtedness under any Swap; or

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        (h)  Permitted Subordinated Indebtedness; or

        (i)    Indebtedness between any of the Guarantor, any Restricted Subsidiary, Investment Vehicle, any Asset Company or any Indebtedness under any short-term overdraft lines of credit or similar arrangements entered into in the ordinary course of business, in each case associated with the Guarantor's cash management program; or

        (j)    Indebtedness attributable to any Permitted Sale-Leaseback Transactions; or

        (k)  Any Guaranty constituting Indebtedness of the Guarantor or any Restricted Subsidiary, Investment Vehicle or Asset Company under clause (ix) of the definition of "Indebtedness" to the extent that the obligations covered by such Guaranty are not reasonably quantifiable under GAAP; or

        (l)    other Indebtedness of the Guarantor or any Restricted Subsidiary (other than PG&E Gen) incurred after the date of this Guarantee and Agreement, provided that (i) after giving effect to any such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0 (calculated on a pro forma basis as of the end of the most recent fiscal quarter with respect to which financial statements of the Guarantor are available and assuming for such purpose that such Indebtedness was incurred one year prior to the end of such fiscal quarter and taking into account any related cash flows) and (ii) if such Indebtedness would constitute Indebtedness of a Restricted Subsidiary, no Asset Company, Investment Vehicle or Restricted Subsidiary owned directly or indirectly by such Restricted Subsidiary has Indebtedness outstanding which would otherwise be permitted under Section 4.12(a), (b)(3), (c), (h), (j), (l), (o) or (p); provided, further, that clause (ii) of this Section 4.12(l) will not be applicable if the Guarantor obtains a reaffirmation of the rating of its senior unsecured long-term debt of at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's) after taking into account the Indebtedness to be incurred by such Restricted Subsidiary and related cash flows; or

        (m)  Indebtedness of the Guarantor or any Restricted Subsidiary in respect of letters of credit or surety, performance or bid bonds used in the ordinary course of business not in excess of $25,000,000 in the aggregate outstanding at any time; or

        (n)  Indebtedness constituting intercompany loans (1) between the Guarantor and its Restricted Subsidiaries or between such Restricted Subsidiaries or (2) made by the Guarantor, any Restricted Subsidiary, any Investment Vehicle or any Asset Company to any Investment Vehicle or any Asset Company or (3) made by any Investment Vehicle to the Guarantor, any Restricted Subsidiary, or any other Investment Vehicle; or

        (o)  Equity Funding Arrangements; or

        (p)  without limiting the ability to incur Indebtedness under the other subsections of this Section 4.12, any refinancing of any Indebtedness permitted under Section 4.12(f) and under the Refinanceable Facilities, provided that either (i) (x) the average life of any refinanced Indebtedness shall not be less than the average life of the Indebtedness so refinanced (plus fees and expenses, including any premium or defeasance costs, of such refinancing), taking into account the prepayment or repayment of a portion of any such Indebtedness, and (y) the principal amount of the refinanced Indebtedness shall not exceed the principal amount plus accrued interest thereon of the Indebtedness so refinanced, or (ii) the Guarantor shall demonstrate pro forma compliance with the financial ratio described in Section 4.12(l) above; or

24

        (q)  Indebtedness of any Subsidiary of the Guarantor existing at the time such Person becomes a Subsidiary of the Guarantor (except for any such Indebtedness of such Subsidiary incurred in contemplation of or to finance the acquisition of such Subsidiary); or

        (r)  Indebtedness of the Guarantor incurred in connection with a refinancing of any Indebtedness of PG&E Gen under the PG&E Gen Credit Agreements in an aggregate principal amount not to exceed $1,250,000,000.

        4.13.    Transactions with Affiliates.    The Guarantor will not enter into, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to enter into, any transaction with any Affiliate of the Guarantor (other than the Guarantor, any Subsidiary of the Guarantor, any Investment Vehicle and any Asset Company), except:

        (a)  transactions with such Affiliates upon fair and reasonable terms which are no less favorable to the Guarantor than would be obtained in a comparable arm's length transaction with a Person not an Affiliate of the Guarantor;

        (b)  management, operating, sharing or other similar services arrangements between and among the Guarantor, its Subsidiaries and its other Affiliates either existing on the date hereof and described on Schedule 4.13 or entered into after the date hereof on commercially reasonable terms;

        (c)  tax sharing arrangements between the Guarantor and PG&E Corp. approximating the tax position that the Guarantor would be in if it were not part of PG&E Corp.'s consolidated group, as determined by the management of the Guarantor in its reasonable business judgment or such other arrangements as may be approved by the Lenders prior to the date hereof; or

        (d)  paying or declaring any Distribution to the extent permitted under Section 4.14.

        The provisions of this Section 4.13 shall not apply to (i) transactions between the Guarantor or any of its Subsidiaries, on the one hand, and any employee of the Guarantor or any of its Subsidiaries, on the other hand, that are approved by the Board of Directors of the Guarantor or any committee of the Board of Directors and (ii) the payment of reasonable and customary regular fees to directors of the Guarantor or any Subsidiary of the Guarantor.

        4.14.    Distributions.    The Guarantor will not declare or make any Distribution if (a) an NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or shall occur after giving effect to such Distribution, (b) the Ratio of Cash Flow to Fixed Charges of the Guarantor determined as of the end of the immediately preceding fiscal quarter was not at least 2.0:1.0 or (c) the Guarantor fails to satisfy the requirements of the test set forth in Section 4.15(b), or the Guarantor fails to have a Consolidated Net Worth of at least $2.15 billion, in each case calculated on a pro forma basis as of the end of the most recent fiscal period with respect to which financial statements of the Guarantor are available (assuming such Distribution and all material events with respect to the Guarantor and its Subsidiaries which occurred after the end of such fiscal period had occurred on the last day of such fiscal period); provided that the Guarantor may declare and make Distributions of assets of or equity ownership interests in any Unrestricted Subsidiary at any time without complying with the foregoing.

        4.15.    Financial Covenants.    (a) The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Cash Flow to Fixed Charges to be less than 1.5:1.0.

        (b)  The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Debt to Capitalization to be greater than 0.6:1.0.

25

        (c)  The Guarantor shall not, at the end of each fiscal quarter, permit (i) Consolidated Net Worth to be less than the Minimum Consolidated Net Worth and (ii) Non-Trading Consolidated Net Worth to be less than the Minimum Non-Trading Consolidated Net Worth.

        4.16.    Separateness from PG&E Corp.    The Guarantor shall (i) maintain adequate capital in light of the business in which it is engaged; (ii) maintain books and corporate records separate from PG&E Corp. and PG&E; (iii) not commingle assets with PG&E Corp. or PG&E; and (iv) conduct business in its own name and hold itself out as separate from PG&E Corp. and PG&E. The Guarantor shall promptly notify the Security Agent upon a Responsible Officer of the Guarantor obtaining Actual Knowledge that a creditor of PG&E Corp. or of PG&E has made a claim or filing in writing seeking the substantive consolidation of NEG LLC in any bankruptcy proceeding of PG&E Corp. or of PG&E.

        4.17.    PG&E Gen Credit Agreement Covenants.    Prior to the PG&E Gen Credit Agreement Refinancing Date, the Guarantor will not permit PG&E Gen to default in any material respect in the due observance or performance of its covenants under Sections 5.08, 5.11, 5.12, 5.13 and 5.14 of the $1.1 Billion PG&E Gen Credit Agreement.

SECTION V NEG TRIGGER EVENTS

        5.01.    NEG Trigger Events.    The following shall constitute NEG Trigger Events:

        (a)  any Event of Default; or

        (b)  any representation or warranty made or deemed made by (1) the Guarantor in or in connection with the execution and delivery of this Guarantee and Agreement, or (2) NEG LLC in the Letter Agreement, shall prove to have been false or misleading in any material respect when so made, deemed made or furnished; or

        (c)  the Guarantor shall default in any material respect in the due observance or performance of any agreement contained in Section 4.01, Section 4.09, Section 4.14 or Section 4.15; or

        (d)  (1) the Guarantor shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in this Guarantee and Agreement (other than those specified in 5.01(c) above), or (2) NEG LLC shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in the Letter Agreement, and in each case, such default shall continue unremedied for a period of 30 days after notice thereof from the Security Agent; or

        (e)  the Guarantor or any Restricted Subsidiary shall default in respect of any Indebtedness or default in its obligations to make payments when due under any Equity Funding Arrangements which at the time have an aggregate principal amount outstanding or, in the case of Equity Funding Arrangements, due and unpaid, in excess of $50,000,000, and as a result thereof such Indebtedness shall have been accelerated or otherwise be or become due or subject to prepayment in full prior to its stated maturity; or

        (f)    an involuntary proceeding shall be commenced or an involuntary petition shall be filed in a court of competent jurisdiction seeking (i) relief in respect of the Guarantor or any Restricted Subsidiary or of a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary or (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary or (iii) the winding up or liquidation of the Guarantor or any Restricted Subsidiary; and such

26

proceeding or petition shall continue undismissed for 60 days or an order or decree approving or ordering any of the foregoing shall be entered; or

        (g)  the Guarantor or any Restricted Subsidiary shall (i) voluntarily commence any proceeding or file any petition seeking relief under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) consent to the institution of, or fail to contest in a timely and appropriate manner, any proceeding or the filing of any petition described in Section 5.01(f) above, (iii) apply for or consent to the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary, (iv) file an answer admitting the material allegations of a petition filed against it in any such proceeding, (v) make a general assignment for the benefit of creditors, or (vi) take any corporate action for the purpose of effecting any of the foregoing, become unable, admit in writing its inability, or fail generally, to pay its debts as they become due; or

        (h)  one or more final judgments for the payment of money in an aggregate amount in excess of $50,000,000 (exclusive of amounts covered by insurance) shall be rendered against the Guarantor or any Restricted Subsidiary and such judgment or order shall remain undischarged, unbonded or unstayed for a period of 60 days; or

        (i)    an ERISA Event shall have occurred that, either alone or in combination with other ERISA Events that shall have occurred, is reasonably likely to result in a Material Adverse Effect.

SECTION VI MISCELLANEOUS

        6.01.    Amendments.    No provision of this Guarantee and Agreement may be amended or waived except in accordance with Section 11.1 of the Credit Agreement.

        6.02.    Successors and Assigns.    This Guarantee shall bind and benefit the successors and permitted assigns of Guarantor and Security Agent and inure to the benefit of the Lenders and their successors and permitted assigns. This Guarantee shall not be deemed to benefit any Person except Security Agent and the Lenders and their successors and permitted assigns.

        6.03.GOVERNING LAW.THIS GUARANTEE SHALL BE GOVERNED BY, AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. THE GUARANTOR IRREVOCABLY SUBMITS, FOR ITSELF AND ITS PROPERTY IN ANY LEGAL ACTION RELATING TO THIS GUARANTEE, OR FOR RECOGNITION AND ENFORCEMENT OF ANY JUDGMENT IN RESPECT HEREOF OR THEREOF, TO THE NON-EXCLUSIVE JURISDICTION OF THE COURTS OF THE STATE OF NEW YORK.

        6.04.    No Waiver, Cumulative Remedies.    (a) No failure to exercise, nor any delay in exercising, on the part of the Security Agent or any Lender, any right, power or privilege hereunder shall operate as a waiver thereof. No single or partial exercise of any right, power or privilege hereunder shall preclude any other or further exercise thereof or the exercise of any other right, power or privilege. A waiver by the Security Agent or any Lender of any right or remedy hereunder on any one occasion shall not be construed as a bar to any right or remedy that the Security Agent or such Lender would otherwise have on any future occasion.

        (b)  The rights and remedies herein provided are cumulative, may be exercised singly or concurrently and are not exclusive of any other rights or remedies provided by law.

        6.05.    Authority and Rights of Security Agent.    The Guarantor acknowledges that the rights and responsibilities of the Security Agent under this Guarantee and Agreement with respect to any action

27

taken by the Security Agent or the exercise or non-exercise by the Security Agent of any option, right, request, judgment or other right or remedy provided for herein or resulting or arising out of this Guarantee and Agreement shall, as between the Security Agent and the Lenders, be governed by the Loan Documents and by such other agreements with respect thereto as may exist from time to time among them, but, as between the Security Agent and the Guarantor, the Security Agent shall be conclusively presumed to be acting with full and valid authority so to act or refrain from acting, and the Guarantor shall not be under any obligation, or entitlement, to make any inquiry respecting such authority. The Security Agent shall be afforded the rights, privileges and immunities set forth in Section 10 of the Credit Agreement as if fully set forth herein.

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        IN WITNESS WHEREOF, the parties hereto have caused this Guarantee and Agreement to be duly executed by their respective officers thereunto duly authorized as of the day and year first above written.

PG&E NATIONAL ENERGY GROUP, INC.
By:
	Name: Title:

Agreed and Accepted:
SOCIÉTÉ GÉNÉRALE, NOT IN ITS INDIVIDUAL CAPACITY BUT SOLELY IN ITS CAPACITY AS SECURITY AGENT, ON BEHALF OF THE LENDERS
By:
	Name: Title:
Schedules omitted

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Exhibit 10.8

EX-10.9

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Execution Version

Exhibit 10.9

AMENDED AND RESTATED CREDIT AGREEMENT

among

GENHOLDINGS I, LLC,
a Delaware limited liability company
(Borrower)

SOCIETE GENERALE
(Lead Arranger and
Administrative Agent) CITIBANK, N.A.
(Lead Arranger and
Syndication Agent)

THE OTHER AGENTS AND ARRANGERS LISTED
ON THE SIGNATURE PAGES HERETO
(Arrangers)

JPMORGAN CHASE BANK
(LC Bank)

THE FINANCIAL INSTITUTIONS PARTY
HERETO FROM TIME TO TIME AS BANKS
(Banks)

THE PERSONS PARTY HERETO FROM
TIME TO TIME AS CP CONDUITS
(CP Conduits)

THE FINANCIAL INSTITUTIONS PARTY HERETO
FROM TIME TO TIME AS RELATED BANKS
(Related Banks)

THE FINANCIAL INSTITUTIONS PARTY HERETO
FROM TIME TO TIME AS LENDER GROUP AGENTS
(Lender Group Agents)

Dated as of March 15, 2002

TABLE OF CONTENTS

				Page
ARTICLE 1.    DEFINITIONS; RULES OF INTERPRETATION				1
	1.1	Definitions		1
	1.2	Rules of Interpretation		1
ARTICLE 2.    THE CREDIT FACILITIES				1
	2.1	Loan Facilities		1
		2.1.1	Construction Loan Facility	1
		2.1.2	Working Capital Loan Facility	4
		2.1.3	Interest Provisions Relating to All Loans (including Project LC Loans and DSR LC Loans)	6
		2.1.4	Register	7
		2.1.5	Promissory Notes	9
		2.1.6	Loan Funding	9
		2.1.7	Conversion of Loans	11
		2.1.8	Prepayments	12
	2.2	Letter of Credit Facilities		13
		2.2.1	Issuance of the Letters of Credit	13
		2.2.2	Availability	14
		2.2.3	Notice of LC Activity	14
		2.2.4	Letter of Credit Loans and Reimbursement Obligations	15
		2.2.5	Project LC Loan Interest	15
		2.2.6	DSR LC Loan Interest	16
		2.2.7	Reduction and Reinstatement of Stated Amounts; Cancellation	16
		2.2.8	Bank Participation	16
		2.2.9	Commercial Practices	17
		2.2.10	Reimbursement Obligations Absolute	17
		2.2.11	Term of Letters of Credit	18
		2.2.12	LC Bank's Right to Replace Non-Investment Grade Bank	18
		2.2.13	Special Provisions Relating to Letters of Credit	19
	2.3	Total Commitments		19
		2.3.1	Initial Commitments and Increases in Initial Commitments	19
		2.3.2	Total Construction Loan Commitment	19
		2.3.3	Total Working Capital/Project LC Commitment	20
		2.3.4	Total DSR LC Commitment	20
		2.3.5	Allocated Portions	21
		2.3.6	Reductions and Cancellations	22
		2.3.7	Parallel Funding Commitments Termination Date	24
	2.4	Fees		26
		2.4.1	Administrative Agent Fees	26
		2.4.2	Arranger Fees	26
		2.4.3	Commitment Fees	26
		2.4.4	Letter of Credit Fee	27
		2.4.5	Fronting Fee; LC Administrative Charges	27
	2.5	Other Payment Terms		27
		2.5.1	Place and Manner	27
		2.5.2	Date	27
		2.5.3	Late Payments	27
		2.5.4	Net of Taxes, Etc.	28
		2.5.5	Application of Payments	30

i

		2.5.6	Failure to Pay Administrative Agent	30
		2.5.7	Withholding Exemption Certificates	30
	2.6	Pro Rata Treatment		31
		2.6.1	Loans, Commitment Reductions, Etc.	31
		2.6.2	Sharing of Payments, Etc.	32
		2.6.3	Payments to Lender Groups	32
	2.7	Change of Circumstances		32
		2.7.1	Inability to Determine Rates	32
		2.7.2	Illegality	33
		2.7.3	Increased Costs	33
		2.7.4	Capital Requirements	34
		2.7.5	Notice; Participating Banks' and Lender Group Members' Rights	34
	2.8	Funding Losses		35
	2.9	Alternate Office; Minimization of Costs		35
ARTICLE 3.    CONDITIONS PRECEDENT				36
	3.1	Conditions Precedent to the Closing Date		36
		3.1.1	Resolutions	37
		3.1.2	Incumbency	37
		3.1.3	Formation Documents	37
		3.1.4	Good Standing Certificates	37
		3.1.5	Credit Documents	37
		3.1.6	UCC Reports	37
		3.1.7	UCC Filings	38
		3.1.8	Closing Certificates of Borrower and NEG	38
		3.1.9	Legal Opinions	38
		3.1.10	Preliminary Project Budgets	38
		3.1.11	Preliminary Project Schedules	38
		3.1.12	Base Case Project Projections	38
		3.1.13	Financial Statements	38
		3.1.14	Establishment of Accounts	39
		3.1.15	Payment of Bank and Consultant Fees	39
		3.1.16	Independent Engineer's Final Draft Report and Certificate	39
		3.1.17	Fuel Consultant's and Power Market Consultant's Final Reports and Certificates	39
		3.1.18	Approved Projects	39
		3.1.19	Agent for Service of Process	39
		3.1.20	Representations and Warranties	39
		3.1.21	No Defaults	39
		3.1.22	No Material Adverse Change	39
		3.1.23	No Litigation	39
		3.1.24	No Change in Tax Laws	40
	3.2	Conditions Precedent to the Initial Borrowing of Construction Loans for a Project		40
		3.2.1	Credit Event Conditions	40
		3.2.2	Initial Project or Approved Substitute Project	40
		3.2.3	Adjustment Date	40
		3.2.4	Resolutions	40
		3.2.5	Incumbency	40
		3.2.6	Formation Documents	41
		3.2.7	Good Standing Certificates	41
		3.2.8	Operative Documents	41
		3.2.9	UCC Reports	42

ii

	3.2.10	UCC Filings	42
	3.2.11	Incremental Commitments and/or Permitted Additional Equity	43
	3.2.12	Legal Opinions	43
	3.2.13	Insurance	43
	3.2.14	Independent Engineer's Final Report and Certificate	43
	3.2.15	Reports of the Environmental Consultant	43
	3.2.16	Updated Fuel Consultant's Report and Certificate	44
	3.2.17	Updated Power Market Consultant's Report and Certificate	44
	3.2.18	Permits	44
	3.2.19	Financial Statements	45
	3.2.20	Base Case Project Projections	45
	3.2.21	Project Schedules; Project Budgets; Annual Operating Budgets; Borrower Budget	45
	3.2.22	Real Estate Rights; A.L.T.A. Surveys	46
	3.2.23	Title Policies	46
	3.2.24	Regulatory Status	47
	3.2.25	Notice to Proceed	47
	3.2.26	Utilities	47
	3.2.27	Agent for Service of Process	47
	3.2.28	Conditions Applicable Only to the Subject Project	47
3.3	Conditions Precedent to each Borrowing of Construction Loans		47
	3.3.1	Credit Event Conditions	47
	3.3.2	Approved Project	47
	3.3.3	Construction Requisition	47
	3.3.4	Title Policy Endorsement	47
	3.3.5	Lien Releases	48
	3.3.6	Permits	48
	3.3.7	Additional Documentation	48
	3.3.8	Acceptable Work; No Liens	48
	3.3.9	Casualty	49
	3.3.10	Insurance	49
	3.3.11	Title Certification	49
3.4	Conditions Precedent to Borrowings of Working Capital Loans		49
3.5	Conditions Precedent to the Issuance of Project Letters of Credit		49
	3.5.1	Credit Event Conditions	50
	3.5.2	Approved Project	50
	3.5.3	Notice of LC Activity	50
3.6	Conditions Precedent to the Issuance of the DSR Letter of Credit		50
	3.6.1	Credit Event Conditions	50
	3.6.2	Amortization Commencement Date	50
	3.6.3	Notice of LC Activity	50
3.7	Conditions Precedent to the Crediting of Alternatively Sourced Equity Contributions		50
	3.7.1	Credit Event Conditions	50
	3.7.2	Certification of Available Equity Commitment	50
	3.7.3	No Other Project Defaults	51
	3.7.4	Approved Project	51
	3.7.5	Permitted Application	51
	3.7.6	Completion; Available Construction Funds	51
	3.7.7	Acceptable Work; No Liens	51
3.8	Conditions Precedent to Completion		51
	3.8.1	Credit Event Conditions	51
	3.8.2	Completion of Work	51

iii

		3.8.3	Substantial Completion; Utility Services	52
		3.8.4	Annual Operating Budget	52
		3.8.5	Insurance	52
		3.8.6	Permits	53
		3.8.7	Title Policy	53
	3.9	Conditions Precedent to a Borrowing of Construction Loans to be Used for In Kind Equity Payments		53
		3.9.1	Credit Event Conditions	53
		3.9.2	Credit Event Date	53
		3.9.3	Commitment Reduction	53
		3.9.4	Construction Requisition	53
		3.9.5	Maximum Amount	53
	3.10	Conditions Precedent to a Borrowing of Construction Loans to be Used for Equity Contribution True-Up Reimbursements and/or NEG EPC Guaranty Reimbursements		53
		3.10.1	Credit Event Conditions	54
		3.10.2	Credit Event Date	54
		3.10.3	Construction Requisition	54
		3.10.4	Maximum Amount	54
	3.11	Conditions Precedent to the Substitution of a Project		54
		3.11.1	Initial Funding Conditions	54
		3.11.2	Approved Project	54
		3.11.3	Credit Event Date	54
		3.11.4	Credit Event Conditions	54
		3.11.5	Ratings	54
		3.11.6	Diligence Investigation	55
	3.12	Conditions Precedent to Each Credit Event		55
		3.12.1	Representations and Warranties	55
		3.12.2	No Defaults	55
		3.12.3	No Material Adverse Effect	55
		3.12.4	No Litigation	55
		3.12.5	Regulation	55
		3.12.6	No Change in Tax Laws	56
		3.12.7	Payment of Filing Fees	56
		3.12.8	Operative Documents and Permits	56
		3.12.9	Debt to Capitalization Ratio	56
	3.13	No Approval of Work		56
	3.14	Waiver of Funding; Adjustment of Drawdown Requests		56
	3.15	Committed Equity Contributions; Available Equity Commitment		56
		3.15.1	Cash Equity Contributions	56
		3.15.2	In-Kind Equity Contributions	57
		3.15.3	Total Equity Commitment	57
		3.15.4	Available Equity Commitment	58
ARTICLE 4.    REPRESENTATIONS AND WARRANTIES				58
	4.1	Organization; Powers		58
	4.2	Authorization and No Legal Bar		58
	4.3	Enforceability		58
	4.4	Consents		58
	4.5	Compliance with Law		59
	4.6	Existing Defaults		59
	4.7	Litigation		59
	4.8	Labor Disputes and Acts of God		59

iv

	4.9	Taxes		59
	4.10	Regulation		59
	4.11	Private Offering by Borrower		60
	4.12	Investment Company Act		60
	4.13	Margin Stock		60
	4.14	ERISA and Employees		60
	4.15	Disclosure		60
	4.16	Budgets		60
	4.17	Financial Statements		61
	4.18	Ownership; Other Obligations		61
	4.19	Intellectual Property		61
	4.20	Offices; Location of Borrower Collateral		62
	4.21	Borrower Collateral		62
ARTICLE 5.    AFFIRMATIVE COVENANTS OF BORROWER				62
	5.1	Use of Proceeds and Revenues		62
		5.1.1	Proceeds	62
		5.1.2	Revenues	63
	5.2	Notices		63
	5.3	Financial Statements		64
	5.4	Inspection of Books and Records		65
	5.5	Compliance with Laws		65
	5.6	Existence, Conduct of Business, Etc.		65
	5.7	Calculation of Ratios		65
		5.7.1	Debt Service Coverage Ratio	65
		5.7.2	Debt to Capitalization Ratio	65
	5.8	Indemnification		65
	5.9	Further Assurances		67
	5.10	Market Forecasts		68
	5.11	Revenue Payments to Borrower		68
	5.12	Taxes		68
	5.13	Interest Rate Protection		68
		5.13.1	Compliance with Interest Rate Agreements	68
		5.13.2	Hedge Breaking Fees	68
		5.13.3	Security	68
		5.13.4	Bank Participation	69
	5.14	Intercompany Loans		69
ARTICLE 6.    NEGATIVE COVENANTS OF BORROWER				69
	6.1	Contingent Liabilities		69
	6.2	Limitations on Liens		69
	6.3	Indebtedness		69
	6.4	Sale of Assets		69
	6.5	Nature of Borrower's Business		71
	6.6	Distributions		71
	6.7	Investments		74
	6.8	Transactions With Affiliates		74
	6.9	Margin Stock Regulations		74
	6.10	ERISA		74
	6.11	Dissolution		74
	6.12	Accounts		75
	6.13	Name and Location; Fiscal Year		75

v

	6.14	Assignment		75
	6.15	Borrower Budget Amendments		75
ARTICLE 7.    EVENTS OF DEFAULT; REMEDIES				75
	7.1	Events of Default		75
		7.1.1	Failure to Make Payments	75
		7.1.2	Judgments	75
		7.1.3	Misstatements; Omissions	75
		7.1.4	Bankruptcy; Insolvency	76
		7.1.5	Debt Cross Default	76
		7.1.6	ERISA	76
		7.1.7	Breach of Terms of Credit Documents	76
		7.1.8	Loss of Exemption	77
		7.1.9	Borrower Collateral	77
		7.1.10	Loss of Control	77
		7.1.11	Negative Pledge	77
		7.1.12	Project Events of Default	77
		7.1.13	Unenforceability of Credit Documents	77
		7.1.14	Equity Documents	78
	7.2	Remedies		78
		7.2.1	No Further Loans or Letters of Credit	78
		7.2.2	Cure by Majority Banks	78
		7.2.3	Acceleration	78
		7.2.4	Cash Equity Contributions	78
		7.2.5	Cash Collateralization of Letters of Credit	79
		7.2.6	Cash Collateral	79
		7.2.7	Possession of Approved Projects	79
		7.2.8	Remedies Under Credit Documents	79
	7.3	Building Loan Documents		79
ARTICLE 8.    SCOPE OF LIABILITY				79
ARTICLE 9.    ADMINISTRATIVE AGENT; AMENDMENTS AND WAIVERS				80
	9.1	Appointment; Powers and Immunities		80
	9.2	Reliance by Administrative Agent		81
	9.3	Non-Reliance		81
	9.4	Defaults		81
	9.5	Indemnification		81
	9.6	Successor Administrative Agent		82
	9.7	Authorization		83
	9.8	Administrative Agent as a Bank		83
	9.9	Amendments; Waivers		83
	9.10	Withholding Tax		85
	9.11	General Provisions as to Payments		85
	9.12	Substitution of Bank or Lender Group		85
	9.13	Participation		86
	9.14	Transfer of Commitments		87
		9.14.1	Generally	87
		9.14.2	Transfers within Lender Groups	88
	9.15	Securities Laws		89
	9.16	Assignability to Federal Reserve Bank		90
	9.17	Additional Banks and Lender Groups		90

vi

ARTICLE 10.    INDEPENDENT CONSULTANTS				91
	10.1	Removal and Fees		91
		10.1.1	Independent Engineer	91
		10.1.2	Insurance Consultant	91
		10.1.3	Fuel Consultant	92
		10.1.4	Power Market Consultant	92
	10.2	Duties		93
	10.3	Independent Consultants' Certificates		93
	10.4	Certification of Dates		93
ARTICLE 11.    MISCELLANEOUS				94
	11.1	Addresses		94
	11.2	Additional Security; Right to Set-Off		94
	11.3	Delay and Waiver		95
	11.4	Costs, Expenses and Attorneys' Fees; Syndication		95
	11.5	Entire Agreement		96
	11.6	Governing Law		96
	11.7	Severability		96
	11.8	Headings		96
	11.9	Accounting Terms		96
	11.10	Additional Financing		96
	11.11	No Partnership, Etc.		96
	11.12	Collateral Documents		97
	11.13	Limitation on Liability		97
	11.14	Waiver of Jury Trial		97
	11.15	Consent to Jurisdiction		97
	11.16	Usury		97
	11.17	Successors and Assigns		98
	11.18	Counterparts		98
	11.19	Survival		98
ARTICLE 12.    LENDER GROUP AGENTS				98
	12.1	Appointment, Powers and Immunities		98
	12.2	Reliance by Lender Group Agents		99
	12.3	Non-Reliance		99
	12.4	Defaults		100
	12.5	Indemnification		100
	12.6	Successor Lender Group Agent		100
	12.7	Authorization		101
	12.8	Lender Group Agent as a Bank or Related Bank		101
	12.9	Withholding Tax		101
	12.10	General Provisions as to Payments		101
	12.11	Action by Lender Group		101
	12.12	No Petition		102
	12.13	No Recourse		102

vii

Index of Exhibits

Exhibit A	Definitions and Rules of Interpretation
	Notes and Letters of Credit
Exhibit B-1	Form of Construction Loan Note
Exhibit B-2	Form of Working Capital/Project LC Note
Exhibit B-3	Form of DSR LC Loan Note
Exhibit B-4	Form of Project Letter of Credit
Exhibit B-5	Form of DSR Letter of Credit
	Disbursement Procedures
Exhibit C-1	Form of Construction Requisition
Exhibit C-2	Form of Notice of Working Capital Loan Borrowing
Exhibit C-3	Form of Confirmation of Interest Period Selection
Exhibit C-4	Form of Notice of Conversion of Loan Type
Exhibit C-5	Form of Notice of LC Activity
Exhibit C-6A	Form of Debt Service Coverage Ratio Certificate
Exhibit C-6B	Form of Debt to Capitalization Ratio Certificate
	Credit Documents
Exhibit D-1	Form of Depositary Agreement
Exhibit D-2A	Form of Project Company Guaranty
Exhibit D-2B	Form of NEG Equity Guaranty
Exhibit D-3	Form of Mortgage
Exhibit D-4A	Form of Borrower Security Agreement
Exhibit D-4B	Form of Project Company Security Agreement
Exhibit D-5	Schedule of Security Filings
Exhibit D-6	Form of Intercompany Note
Exhibit D-7A	Form of Pledge Agreement (Borrower)
Exhibit D-7B	Form of Pledge Agreement (Intermediate Holding Companies)
Exhibit D-8A	Form of NEG EPC Guaranty (Covert)
Exhibit D-8B	Form of NEG EPC Guaranty (Harquahala)
Exhibit D-9	Form of NEG Equipment Contribution Agreement
Exhibit D-10A	Form of SWPC Support Agreement (Athens)
Exhibit D-10B	Form of SWPC Support Agreement (Harquahala)
Exhibit D-11A	Form of NEG IDA Support Agreement
Exhibit D-11B	Form of NEG Insurance Support Agreement

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	Consents
Exhibit E	Form of Consent to Assignment
	Funding Certificates
Exhibit F-1A	Form of Borrower's Closing Certificate
Exhibit F-1B	Form of NEG's Closing Certificate
Exhibit F-2	Intentionally Omitted
Exhibit F-3	Form of In Kind Equity Contributions Certificate
Exhibit F-4	Form of Insurance Consultant's Certificate
Exhibit F-5A	Form of Independent Engineer's Closing Certificate
Exhibit F-5B	Form of Independent Engineer's Funding Certificate
Exhibit F-6A	Form of Fuel Consultant's Closing Certificate
Exhibit F-6B	Form of Fuel Consultant's Funding Certificate
Exhibit F-7A	Form of Power Market Consultant's Closing Certificate
Exhibit F-7B	Form of Power Market Consultant's Funding Certificate
	Project Description Exhibits
Exhibit G-1	Description of Initial and Substitute Projects
Exhibit G-2	Preliminary Project Budgets and Project Schedules; Borrower Budget; Closing Date Base Case Project Projections
Exhibit G-3	Major Project Party Financial Statements
Exhibit G-4	Conditions Specific to the Subject Project
Exhibit G-5A	Non-Compliance
Exhibit G-5B	Pending Litigation
Exhibit G-5C	Contested Taxes
	Other
Exhibit H	Amortization Schedule
Exhibit I	Banks, Commitments, Lending Offices
Exhibit J	Form of Exemption Certificate
Exhibit K	Intentionally Omitted
Exhibit L	Form of Assignment Agreement
Exhibit M	Replacement Independent Engineer Firms
Exhibit N	Replacement Insurance Consultant Firms
Exhibit O	Replacement Fuel Consultant Firms
Exhibit P	Replacement Power Market Consultant Firms
Exhibit Q	Chief Executive Offices, etc.
Exhibit R	Intentionally Omitted
Exhibit S	Applicable Margin and Applicable Fee Rate
Exhibit T	Subordination Terms
Exhibit U	Information Memorandum
Exhibit V	Joinder Agreement
Exhibit W-1	Third Party Consents
Exhibit W-2	Third Party Opinions

ix

        This AMENDED AND RESTATED CREDIT AGREEMENT (as amended, amended and restated, supplemented or otherwise modified from time to time, this "Agreement"), dated as of March 15, 2002, is entered into among (1) GENHOLDINGS I, LLC, a limited liability company formed under the laws of the State of Delaware, as Borrower, (2) SOCIETE GENERALE, as Administrative Agent and a Lead Arranger ("SG"), (3) CITIBANK, N.A., as Syndication Agent and a Lead Arranger ("Citibank" and, together with SG, the "Lead Arrangers"), (4) THE OTHER AGENTS AND ARRANGERS LISTED ON THE SIGNATURE PAGES HERETO (including the Alternative Funding Arranger) (together with the Lead Arrangers, the "Arrangers"), (5) JPMORGAN CHASE BANK, as issuer of the Letters of Credit hereunder (the "LC Bank"), (6) THE FINANCIAL INSTITUTIONS PARTY HERETO FROM TIME TO TIME AS BANKS (individually, a "Bank" and, collectively, the "Banks"), (7) EACH PERSON PARTY HERETO FROM TIME TO TIME AS A CP CONDUIT (a "CP Conduit"), (8) THE FINANCIAL INSTITUTIONS PARTY HERETO FROM TIME TO TIME AS RELATED BANKS (individually, a "Related Bank" and, collectively, the "Related Banks"), and (9) EACH FINANCIAL INSTITUTION PARTY HERETO FROM TIME TO TIME AS AGENT FOR A CP CONDUIT AND ITS RESPECTIVE RELATED BANK (a "Lender Group Agent"). Each Lender Group Agent and its corresponding CP Conduit and Related Bank are referred to herein collectively as a "Lender Group".

        The parties hereto entered into the Credit Agreement, dated as of December 21, 2001 (the "Original Credit Agreement"), and have determined that the Original Credit Agreement shall be amended and restated in its entirety as set forth herein.

        In consideration of the agreements herein and in the other Credit Documents and in reliance upon the representations and warranties set forth herein and therein, the parties agree that the Original Credit Agreement shall be amended and restated in its entirety as follows:

ARTICLE 1.
DEFINITIONS; RULES OF INTERPRETATION

        1.1    Definitions.    Except as otherwise expressly provided, capitalized terms used in this Agreement shall have the meanings given in Exhibit A hereto.

        1.2    Rules of Interpretation.    Except as otherwise expressly provided, the rules of interpretation set forth in Exhibit A hereto shall apply to this Agreement and the other Credit Documents.

ARTICLE 2.
THE CREDIT FACILITIES

        2.1    Loan Facilities.

        2.1.1    Construction Loan Facility.

        (a)    Availability.    Subject to the terms and conditions set forth in this Agreement and in reliance upon the representations and warranties of Borrower herein set forth, (i) each Bank severally agrees to advance to Borrower from time to time during the Construction Loan Availability Period such loans as Borrower may request pursuant to this Section 2.1.1 in an aggregate principal amount which does not exceed such Bank's Proportionate Share of the then current Available Construction Loan Commitment (individually, a "Bank Construction Loan" and, collectively, the "Bank Construction Loans") and (ii) each Lender Group severally agrees, in accordance with the terms of this Agreement, to advance to Borrower from time to time during the Construction Loan Availability Period such loans as Borrower may request pursuant to this Section 2.1.1 in an aggregate principal amount which does not exceed such Lender Group's Proportionate Share of the then current Available Construction Loan Commitment (individually, a "Lender Group Construction Loan" and, collectively, the "Lender Group Construction Loans", and, together with Bank Construction Loans, collectively, "Construction Loans", and individually, a "Construction Loan"). A Lender Group Construction Loan may consist of a CP Conduit Construction Loan (as defined below) or a Related Bank Construction Loan (as defined below) in accordance with the following two sentences. Each

Lender Group Construction Loan to be made by a Lender Group shall first be offered to the applicable CP Conduit to fund (each such Lender Group Construction Loan funded by the applicable CP Conduit, together with any Related Bank Construction Loan assigned by the applicable Related Bank to such CP Conduit pursuant to Section 9.14.2, being, individually, a "CP Conduit Construction Loan" and, collectively, such CP Conduit's "CP Conduit Construction Loans"), provided that no CP Conduit shall have any obligation whatsoever to make any loans under this Agreement. In the event such CP Conduit cannot or chooses not to fund such Lender Group Construction Loan, the Related Bank that is a member of the applicable Lender Group shall fund such Lender Group Construction Loan under its Parallel Funding Commitment (each such Lender Group Construction Loan funded by a Related Bank, together with any CP Conduit Construction Loan assigned by the applicable CP Conduit to such Related Bank pursuant to Section 9.14.2, being, individually, a "Related Bank Construction Loan" and, collectively, "Related Bank Construction Loans"), provided that in no event shall the aggregate outstanding principal amount of Related Bank Construction Loans funded by a Related Bank under its Parallel Funding Commitment exceed the then current Available Parallel Funding Commitment of such Related Bank.

        (b)    Construction Requisition.    Borrower shall request a Borrowing of Construction Loans by delivering to Administrative Agent a written notice in the form of Exhibit C-1 hereto, appropriately completed (a "Construction Requisition"), which specifies, among other things:

          (i)  The portion of the requested Borrowing which will bear interest as provided in (1) Section 2.1.1(c)(i) (individually, a "Base Rate Construction Loan" and, collectively, "Base Rate Construction Loans") and/or (2) Section 2.1.1(c)(ii) (individually, a "LIBOR Construction Loan" and, collectively, "LIBOR Construction Loans");

        (ii)  The aggregate amount of the requested Borrowing, which (A) shall be in a minimum amount of $1,000,000 and an integral multiple of $100,000 in excess of thereof, and (B) shall not exceed the then current Available Construction Loan Commitment;

        (iii)  The proposed date of the requested Borrowing (which shall be (x) a Banking Day and (y) if as of the proposed date of the requested Borrowing any Lender Group will be party to this Agreement, a day other than the 15^thcalendar day of any calendar month (or if such day is not a Banking Day, the first Banking Day after such 15^th calendar day) or the final two Banking Days of any calendar month, unless otherwise consented to in writing by each Lender Group Agent);

        (iv)  If the requested Borrowing is to consist of LIBOR Construction Loans, the initial Interest Period requested therefor (which shall be a period contemplated by Section 2.1.3(b));

        (v)  The Applicable Margin which will be in effect as of the proposed date of the requested Borrowing;

        (vi)  The Subject Project to which the requested Borrowing relates or, if the requested Borrowing relates to more than one Subject Project, the Subject Projects to which the requested Borrowing relates and the portion of such Borrowing related to each such Subject Project;

      (vii)  The portion of the requested Borrowing, if any, that is going to be used to make In Kind Equity Payments in accordance with clause (i) of the proviso to Section 5.1.1(a), and the account to which the Construction Loans to be used for such purpose should be transferred; and

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      (viii)  The portion of the requested Borrowing, if any, that is going to be used to make Equity Contribution True-Up Reimbursements or NEG EPC Guaranty Reimbursements, as the case may be, in accordance with clause (ii) of the proviso to Section 5.1.1(a), and the account to which the Construction Loans to be used for such purpose should be transferred.

        Borrower shall request (A) no more than three Borrowings of Construction Loans in the aggregate per month and (B) no more than two Borrowings of Construction Loans with respect to any Project per month. Borrower shall give each Construction Requisition to Administrative Agent so as to provide the Minimum Notice Period applicable to Borrowings of Construction Loans. Any Construction Requisition shall be irrevocable and Borrower shall be bound to borrow Construction Loans in accordance therewith. Each Construction Requisition shall be delivered by first-class mail or facsimile to Administrative Agent at the office or to the facsimile number and during the hours specified in Section 11.1; provided, however, that Borrower shall promptly deliver to Administrative Agent the original of any Construction Requisition initially delivered by facsimile.

        Borrower shall notify Administrative Agent in writing prior to the making of any Construction Loan in the event that any of the matters to which Borrower is required to certify in the applicable Construction Requisition is no longer accurate and complete as of the date of the applicable Borrowing of Construction Loans. The acceptance by Borrower of the proceeds of any Construction Loan without providing any such written notice shall constitute a re-certification by Borrower, as of the date of the applicable Borrowing of Construction Loans, as to the matters to which Borrower is required to certify in the applicable Construction Requisition or any certificate delivered in connection therewith.

        (c)    Construction Loan Interest.    Subject to the provisions of Sections 2.5.3, 2.5.4 and 2.7.3, each Construction Loan shall bear interest on the unpaid principal amount thereof from the date of such Construction Loan until the maturity or prepayment thereof at a rate determined by reference to the Base Rate or the LIBO Rate. The applicable basis for determining the rate of interest with respect to any Construction Loan shall be selected by Borrower initially at the time a Construction Requisition is given with respect to such Construction Loan pursuant to Section 2.1.1(b), and the basis for determining the interest rate with respect to any Construction Loan (other than a CP Conduit Funded LIBOR Construction Loan) may be changed from time to time pursuant to Section 2.1.7. If on any day a Construction Loan (other than a CP Conduit Funded LIBOR Construction Loan) is outstanding with respect to which notice has not been delivered to Administrative Agent in accordance with the terms of this Agreement specifying the applicable basis for determining the rate of interest, then for that day such Construction Loan shall bear interest determined by reference to the Base Rate. Subject to Section 2.7, each CP Conduit Construction Loan requested to be made as a LIBOR Loan shall be made as a CP Conduit Funded LIBOR Construction Loan.

        Subject to the provisions of Sections 2.5.3, 2.5.4 and 2.7.3, Borrower shall pay interest on the unpaid principal amount of each Construction Loan from the date of such Construction Loan until the maturity or prepayment thereof at the following rates per annum:

          (i)  With respect to the principal portion of such Construction Loan which is, and during the periods when such portion of such Construction Loan is, a Base Rate Construction Loan, at a rate per annum equal to the Base Rate plus the Applicable Margin, such rate to change from time to time as the Base Rate shall change; and

        (ii)  With respect to the principal portion of such Construction Loan which is, and during the periods when such portion of such Construction Loan is, a LIBOR

3

Construction Loan, at a rate per annum during each Interest Period for such LIBOR Construction Loan equal to the applicable LIBO Rate for such Interest Period, plus the Applicable Margin; provided that the LIBO Rate for the initial Interest Period applicable to a CP Conduit Funded LIBOR Construction Loan shall be determined by reference to a one month LIBO Rate regardless of the actual number of days in such initial Interest Period.

        (d)    Construction Loan Principal Payments.    Borrower shall repay to Administrative Agent, for the account of each Bank and each Lender Group, the aggregate unpaid principal amount of all Construction Loans made by each such Bank or each such Lender Group, as the case may be, in installments payable on the Amortization Commencement Date and each Quarterly Date thereafter in accordance with Exhibit H hereto, with any remaining unpaid principal, interest, fees and costs due and payable on the Final Maturity Date. Once repaid, Construction Loans may not be reborrowed; provided that (i) Construction Loans that are repaid pursuant to Section 6.4(a)(iii) may be reborrowed, in accordance with the terms hereof, in connection with a Substitute Project that becomes an Approved Project pursuant to Section 3.11, and (ii) the Construction Loan Commitments may be reutilized as contemplated by Section 9.17 in accordance with the terms hereof.

        2.1.2    Working Capital Loan Facility.

        (a)    Availability.    Subject to the terms and conditions set forth in this Agreement and in reliance upon the representations and warranties of Borrower herein set forth, each Bank severally agrees to advance to Borrower from time to time during the Working Capital/LC Availability Period such loans as Borrower may request pursuant to this Section 2.1.2 (individually, a "Working Capital Loan" and, collectively, the "Working Capital Loans") in an aggregate principal amount which does not exceed such Bank's Proportionate Share of the then current Available Working Capital/Project LC Commitment. Subject to the terms hereof (including the conditions precedent set forth in Article 3), Borrower may borrow, repay and reborrow the Working Capital Loans from time to time during the Working Capital/LC Availability Period.

        (b)    Notice of Working Capital Loan Borrowing.    Borrower shall request a Borrowing of Working Capital Loans by delivering to Administrative Agent a written notice in the form of Exhibit C-2 hereto, appropriately completed (a "Notice of Working Capital Loan Borrowing"), which specifies, among other things:

          (i)  The portion of the requested Borrowing which will bear interest as provided in (1) Section 2.1.2(c)(i) (individually, a "Base Rate Working Capital Loan" and, collectively, "Base Rate Working Capital Loans") and/or (2) Section 2.1.2(c)(ii) (individually, a "LIBOR Working Capital Loan" and, collectively, "LIBOR Working Capital Loans");

        (ii)  The aggregate amount of the requested Borrowing, which (A) shall be in a minimum amount of $500,000 and an integral multiple of $100,000 in excess thereof, and (B) shall not exceed the then current Available Working Capital/Project LC Commitment;

        (iii)  The proposed date of the requested Borrowing (which shall be a Banking Day);

        (iv)  If the requested Borrowing is to consist of LIBOR Working Capital Loans, the initial Interest Period requested therefor (which shall be a period contemplated by Section 2.1.3(b));

        (v)  The Applicable Margin which will be in effect as of the proposed date of the requested Borrowing;

4

        (vi)  The Subject Project to which the requested Borrowing relates or, if the requested Borrowing relates to more than one Subject Project, the Subject Projects to which the requested Borrowing relates and the portion of such Borrowing related to each such Subject Project; and

      (vii)  The portion of the requested Borrowing, if any, that is going to be used to pay interest on outstanding Loans or scheduled payment obligations under Interest Rate Agreements.

        Borrower shall request (A) no more than three Borrowings of Working Capital Loans in the aggregate per month and (B) no more than one Borrowing of Working Capital Loans with respect to any Project per month. Borrower shall give each Notice of Working Capital Loan Borrowing to Administrative Agent so as to provide the Minimum Notice Period applicable to Working Capital Loans of the Type requested. Any Notice of Working Capital Loan Borrowing shall be irrevocable and Borrower shall be bound to borrow Working Capital Loans in accordance therewith. Each Notice of Working Capital Loan Borrowing shall be delivered by first-class mail or facsimile to Administrative Agent at the office or to the facsimile number and during the hours specified in Section 11.1; provided, however, that Borrower shall promptly deliver to Administrative Agent the original of any Notice of Working Capital Loan Borrowing initially delivered by facsimile.

        Borrower shall notify Administrative Agent in writing prior to the making of any Working Capital Loan in the event that any of the matters to which Borrower is required to certify in the applicable Notice of Working Capital Loan Borrowing is no longer accurate and complete as of the date of the applicable Borrowing of Working Capital Loans. The acceptance by Borrower of the proceeds of any Working Capital Loan without providing any such written notice shall constitute a re-certification by Borrower, as of the date of the applicable Borrowing of Working Capital Loans, as to the matters to which Borrower is required to certify in the applicable Notice of Working Capital Loan Borrowing or any certificate delivered in connection therewith.

        (c)    Working Capital Loan Interest.    Subject to the provisions of Sections 2.5.3, 2.5.4 and 2.7.3, each Working Capital Loan shall bear interest on the unpaid principal amount thereof from the date of such Working Capital Loan until the maturity or prepayment thereof at a rate determined by reference to the Base Rate or the LIBO Rate. The applicable basis for determining the rate of interest with respect to any Working Capital Loan shall be selected by Borrower initially at the time a Notice of Working Capital Loan Borrowing is given with respect to such Working Capital Loan pursuant to Section 2.1.2(b), and the basis for determining the interest rate with respect to any Working Capital Loan may be changed from time to time pursuant to Section 2.1.7. If on any day a Working Capital Loan is outstanding with respect to which notice has not been delivered to Administrative Agent in accordance with the terms of this Agreement specifying the applicable basis for determining the rate of interest, then for that day such Working Capital Loan shall bear interest determined by reference to the Base Rate.

        Subject to the provisions of Sections 2.5.3, 2.5.4 and 2.7.3, Borrower shall pay interest on the unpaid principal amount of each Working Capital Loan from the date of such Working Capital Loan until the maturity or prepayment thereof at the following rates per annum:

          (i)  With respect to the principal portion of such Working Capital Loan which is, and during the periods when such portion of such Working Capital Loan is, a Base Rate Working Capital Loan, at a rate per annum equal to the Base Rate plus the Applicable Margin, such rate to change from time to time as the Base Rate shall change; and

5

        (ii)  With respect to the principal portion of such Working Capital Loan which is, and during the periods when such portion of such Working Capital Loan is, a LIBOR Working Capital Loan, at a rate per annum during each Interest Period for such LIBOR Working Capital Loan equal to the LIBO Rate for such Interest Period, plus the Applicable Margin.

        (d)    Working Capital Loan Principal Payments.    All outstanding Working Capital Loans shall be repaid on each Quarterly Date following the Last Completion Date to the extent of Account Funds available for such purpose in the Debt Payment Account on such Quarterly Date, after giving effect to transfers from the Applicable Revenue Account to the Debt Payment Account on such Quarterly Date; provided, however, that each Working Capital Loan shall be repaid in full on the Final Maturity Date.

        2.1.3    Interest Provisions Relating to All Loans (including Project LC Loans and DSR LC Loans).

        (a)    Interest Payment Dates.    Borrower shall pay accrued interest on the unpaid principal amount of each Loan (i) in the case of each Base Rate Loan (other than Base Rate Loans of a CP Conduit), on each Quarterly Date, (ii) in the case of a Base Rate Loan of a CP Conduit, on the fifth Banking Day of each calendar month, (iii) in the case of each LIBOR Loan, on the last day of each Interest Period related to such LIBOR Loan and, if such Interest Period is longer than three months, every three months after the date of such LIBOR Loan, and (iv) in all cases, upon prepayment (to the extent thereof and including all Optional Prepayments and Mandatory Prepayments), upon conversion from one Type of Loan to another Type, and at maturity.

        (b)    LIBOR Loan Interest Periods.

          (i)  In connection with each LIBOR Loan (other than a CP Conduit Funded LIBOR Construction Loan), Borrower may, pursuant to the applicable Notice of Borrowing or Notice of Conversion of Loan Type, as the case may be, select an Interest Period to be applicable to such LIBOR Loan, which Interest Period shall be one, two, three, six or, if available to all Banks and Related Banks and made available by Administrative Agent, nine or 12 months. Notwithstanding anything to the contrary in this Agreement, (A) any Interest Period which would otherwise end on a day which is not a Banking Day shall be extended to the next succeeding Banking Day unless such next Banking Day falls in another calendar month, in which case such Interest Period shall end on the immediately preceding Banking Day; (B) any Interest Period which begins on the last Banking Day of a calendar month (or on a day for which there is no numerically corresponding day in the calendar month at the end of such Interest Period) shall end on the last Banking Day of a calendar month; (C) Borrower may not select Interest Periods which would leave a greater principal amount of Loans subject to Interest Periods ending after a date upon which Loans are or may be required to be repaid than the principal amount of Loans scheduled to be outstanding after such date; (D) no Interest Period with respect to any portion of the Loans shall extend beyond the Final Maturity Date; (E) LIBOR Loans for each Interest Period shall be in the amount of at least $1,000,000; (F) Borrower may not at any time have outstanding more than ten different Interest Periods relating to LIBOR Loans; (G) if Borrower fails to specify an Interest Period for any LIBOR Loan in accordance with the terms of this Agreement, (1) in the case of a new requested Loan (other than a CP Conduit Construction Loan), Borrower shall be deemed to have specified such Loans as Base Rate Loans in the applicable Notice of Borrowing, (2) in the case of a new requested CP Conduit Construction Loan, such Loans shall be funded as CP Conduit Funded LIBOR Construction Loans, and (3) in the

6

case of outstanding Loans (other than a CP Conduit Funded LIBOR Construction Loan), such Loans shall automatically convert to Base Rate Loans on the last day of the current Interest Period therefor; (H) for the period from and after the Closing Date to and including the date which is six months after the Closing Date, Borrower may only select a one month Interest Period with respect to any LIBOR Loan other than a CP Conduit Funded LIBOR Construction Loan; and (I) all CP Conduit Funded LIBOR Construction Loans shall have an initial Interest Period of one month or less, commencing on the date such CP Conduit Funded Construction Loan is made and ending in each case on the next occurring day that is a fifth Banking Day of a calendar month, and thereafter shall have an Interest Period as determined in accordance with the provisions of Section 2.1.7(b)(i).

        (ii)  Borrower may contact Administrative Agent at any time prior to the end of an Interest Period for a quotation of interest rates in effect at such time for given Interest Periods and Administrative Agent shall promptly provide such quotation. Borrower may select an Interest Period telephonically within the time periods specified in Section 2.1.7, which selection shall be irrevocable on and after the applicable Minimum Notice Period. Borrower shall confirm such telephonic notice to Administrative Agent by delivering to Administrative Agent by facsimile on the day such notice is given a written notice in substantially the form of Exhibit C-3 hereto (a "Confirmation of Interest Period Selection"). Borrower shall promptly deliver to Administrative Agent the original of the Confirmation of Interest Period Selection initially delivered by facsimile. Administrative Agent shall as soon as practicable (and, in any case, within two Banking Days after delivery of the Confirmation of Interest Period Selection) notify Borrower of each determination of the interest rate applicable to each Loan.

        (c)    Interest Computations.    All computations of interest on Base Rate Loans (other than Base Rate Loans of a CP Conduit if the Base Rate is determined other than by reference to clause (ii)(a) of the definition of "Base Rate" in Exhibit A hereto) shall be based upon a year of 365 days (or 366 days in a leap year), and shall be payable for the actual days elapsed (including the first day but excluding the last day). All computations of interest on Base Rate Loans of a CP Conduit when the Base Rate is determined other than by reference to clause (ii)(a) of the definition of "Base Rate" in Exhibit A hereto shall be based upon a year of 360 days, and shall be payable for the actual number of days elapsed (including the first day but excluding the last day). All computations of interest on LIBOR Loans shall be based upon a year of 360 days, and shall be payable for the actual days elapsed (including the first day but excluding the last day). Borrower agrees that all computations by Administrative Agent of interest shall be conclusive and binding in the absence of manifest error.

        2.1.4    Register.

        (a)  Administrative Agent shall maintain, at its address referred to in Section 11.1, a register for the recordation of the names and addresses of the Banks and the Lender Groups (and the members thereof), the Commitments and Loans of each Bank and Lender Group from time to time and the Parallel Funding Commitment of each Related Bank from time to time (the "Register"). The Register shall be available for inspection by Borrower at any reasonable time and from time to time upon reasonable prior notice.

        (b)  Administrative Agent shall record in the Register (i) the Commitments and the Loans from time to time of each Bank and each Lender Group, including any transfers thereof made in accordance with Section 9.14, (ii) the interest rates applicable to all Loans and the effective dates of all changes thereto, (iii) the Interest Period for each LIBOR Loan, (iv) the date and amount of any principal or interest due and payable or to become due and payable from Borrower to each Bank and each Lender Group hereunder, (v) each repayment or prepayment in respect of the principal amount of the Loans of each Bank and each Lender

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Group, (vi) the amount of any sum received by Administrative Agent hereunder for the account of the Banks and the Lender Groups and each Bank's and each Lender Group's share thereof and (vii) such other information as Administrative Agent may determine is necessary for administering the Loans and this Agreement. Any such recordation shall be conclusive and binding on Borrower, each Bank and each Lender Group, absent manifest error; provided that neither failure to make any such recordation, nor any error in such recordation, shall affect any Bank's Commitments, any Lender Group's Construction Loan Commitment, any Related Bank's Parallel Funding Commitment or Borrower's obligations in respect of any applicable Loans or otherwise; and provided, further that in the event of any inconsistency between the Register and any Bank's or any Lender Group's records, the recordations in the Register shall govern in the absence of manifest error.

        (c)  Each Lender Group Agent shall maintain, at its address referred to in Exhibit I, a register for the recordation of the names and addresses of the Related Bank and the CP Conduit that are members of the applicable Lender Group, the Construction Loan Commitment of such Lender Group, the Parallel Funding Commitment of the such Related Bank, the Related Bank Construction Loans of such Related Bank and the CP Conduit Construction Loans of such CP Conduit (such Lender Group's "Lender Group Register"). Each Lender Group Register shall be available for inspection by Borrower at any reasonable time and from time to time upon reasonable prior notice.

        (d)  Each Lender Group Agent shall record in the applicable Lender Group Register (i) the Commitment of the applicable Lender Group, the Parallel Funding Commitment of the Related Bank that is a member of such Lender Group, the Related Bank Construction Loans of such Related Bank, the CP Conduit Construction Loans of the CP Conduit that is a member of such Lender Group and the Construction Loans of such Lender Group, each from time to time, including any transfers thereof made in accordance with Section 9.14, (ii) the interest rates applicable to each of such Related Bank Construction Loans and CP Conduit Construction Loans and the effective date of all changes thereto, (iii) the Interest Period for each of such Related Bank Construction Loans and CP Conduit Construction Loans, (iv) the date and amount of any principal or interest due and payable or to become due and payable from Borrower to such Related Bank and to such CP Conduit hereunder, (v) each repayment and prepayment in respect of the principal amount of the Related Bank Construction Loans of such Related Bank, the CP Conduit Construction Loans of such CP Conduit and the Construction Loans of such Lender Group, (vi) the amount of any sum received by such Lender Group Agent hereunder for the account of such Lender Group and such Related Bank's and such CP Conduit's share thereof and (vii) such other information as such Lender Group Agent may determine is necessary for administering the Commitments and the Constructions Loans of such Lender Group. Any such recordation shall, subject to Section 2.1.4(b), be conclusive and binding on Borrower, the applicable Related Bank and the applicable CP Conduit, absent manifest error; provided that neither the failure to make any such recordation, nor any error in such recordation, shall affect the Construction Loan Commitment of the applicable Lender Group or the Parallel Funding Commitment of the applicable Related Bank or Borrower's obligations in respect of any applicable Construction Loans or otherwise; and provided, further that in the event of any inconsistency between such Lender Group Register and the records of the applicable Related Bank or the applicable CP Conduit, the recordations in such Lender Group Register shall govern in the absence of manifest error.

        (e)  In the event of any inconsistency between the Register and any Lender Group Register, the recordations in the Register shall govern in the absence of manifest error.

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        2.1.5    Promissory Notes.    If requested by any Bank, or any Lender Group Agent on behalf of its respective Lender Group, (a) the obligation of Borrower to repay the Construction Loans made by such Bank or such Lender Group and to pay interest thereon at the rates provided herein shall be evidenced by a promissory note in the form of Exhibit B-1 hereto (a "Construction Loan Note"), payable to the order of such requesting Bank or such requesting Lender Group Agent and in the principal amount of such Bank's and/or such Lender Group's Construction Loan Commitment, (b) the obligation of Borrower to repay the Working Capital Loans and Project LC Loans made by such requesting Bank and to pay interest thereon at the rates provided herein shall be evidenced by a promissory note in the form of Exhibit B-2 hereto (a "Working Capital/Project LC Loan Note"), payable to the order of such requesting Bank and in the principal amount of such Bank's Working Capital/Project LC Commitment, and (c) the obligation of Borrower to repay the DSR LC Loans made by such requesting Bank and to pay interest thereon at the rates provided herein shall be evidenced by a promissory note in the form of Exhibit B-3 hereto (a "DSR LC Loan Note"), payable to the order of such requesting Bank and in the principal amount of such Bank's DSR LC Commitment. Borrower authorizes each such requesting Bank and each such requesting Lender Group Agent to record on the schedules annexed to its respective Note or Notes the date and amount of each Loan made by such Bank or by the Lender Group of such Lender Group Agent, and each repayment or prepayment of principal thereunder, and agrees that all such notations shall constitute prima facie evidence of the matters noted; provided that in the event of any inconsistency between the Register and any Bank's or Lender Group Agent's records, the recordations in the Register shall govern; and provided, further that neither the failure to issue any Note or to make any such notation, nor any error in such notation, shall affect the validity of Borrower's obligations to repay the full unpaid principal amount of the Loans or the other obligations of Borrower hereunder or under the Notes. Borrower further authorizes each Bank and each Lender Group Agent which receives a Note to attach to and make a part of such Note continuations of the schedule attached thereto as necessary.

        2.1.6    Loan Funding.

        (a)    Notice.    Each Notice of Borrowing shall be delivered by Borrower to Administrative Agent in accordance with Section 11.1. Administrative Agent shall promptly notify each Bank and, if such Notice of Borrowing relates to Construction Loans, each Lender Group Agent, of the contents of each Notice of Borrowing.

        (b)    Pro Rata Loans.    All Construction Loans shall be made on a pro rata basis by the Banks and the Lender Groups in accordance with their respective Proportionate Shares of such Construction Loans, with each Borrowing to consist of a Construction Loan by each Bank and each Lender Group equal to such Bank's and such Lender Group's Proportionate Share of such Borrowing. All Loans other than Construction Loans shall be made on a pro rata basis by the Banks in accordance with their respective Proportionate Shares of such Loans, with each Borrowing to consist of a Loan by each Bank equal to such Bank's Proportionate Share of such Borrowing.

        (c)    Funding.    Each Bank and each Lender Group, as applicable, shall, before 11:00 a.m. on the date of each Borrowing, make available to Administrative Agent by wire transfer of immediately available funds in Dollars to the account of Administrative Agent most recently designated by it for such purpose, such Bank's or such Lender Group's Proportionate Share of such Borrowing. The failure of any Bank or any Lender Group to make the Loan to be made by it as part of any Borrowing shall not relieve any other Bank or Lender Group of its obligation hereunder to make its Loan on the date of such Borrowing. No Bank or Lender Group shall be responsible for the failure of any other Bank or Lender Group to make the Loan to be made by such other Bank or Lender Group on the date of any Borrowing.

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        Unless Administrative Agent shall have been notified by any Bank or Lender Group Agent prior to the date of any Borrowing that such Bank does not intend to make available to Administrative Agent the amount of such Bank's Proportionate Share of the Borrowing requested on such date, or that such Lender Group does not intend to make available to Administrative Agent the amount of such Lender Group's Proportionate Share of Construction Loans requested as part of the Borrowing requested on such date, Administrative Agent may assume that such Bank or Lender Group has made such amount available to Administrative Agent on such date in accordance with the prior paragraph and Administrative Agent may, in its sole discretion and in reliance upon such assumption, make available to Borrower a corresponding amount on such date. If such corresponding amount is not in fact made available to Administrative Agent by such Bank or Lender Group, Administrative Agent shall be entitled to recover such corresponding amount on demand (and, in any event, within two Banking Days after the date of the applicable Borrowing) from such Bank or such Lender Group's Related Bank, together with interest thereon, for each day from the date of such Borrowing until the date such amount is paid to Administrative Agent, at the Federal Funds Rate for the first two Banking Days after such date. If such Bank or such Related Bank pays such amount to Administrative Agent, then such amount shall constitute such Bank's or such Lender Group's Proportionate Share of such Borrowing. If such Bank or such Related Bank does not pay such corresponding amount forthwith upon Administrative Agent's demand therefor or within two Banking Days from the date of the applicable Borrowing, Administrative Agent shall promptly notify Borrower and Borrower shall immediately pay such corresponding amount to Administrative Agent together with interest thereon, for each day from the date of the applicable Borrowing until the date such amount is paid to Administrative Agent, at the rate then payable under this Agreement for Base Rate Loans. Nothing in this Section 2.1.6(c) shall be deemed to relieve any Bank or any Related Bank from its obligations hereunder or to prejudice any rights that Borrower may have against any Bank or any Related Bank as a result of any default by such Bank or such Related Bank hereunder.

        Upon receipt by a Lender Group Agent from Administrative Agent of notification of the contents of a Notice of Borrowing, such Lender Group Agent shall notify the CP Conduit that is a member of its Lender Group of the amount of any Construction Loan to be funded by such Lender Group (excluding any Construction Loan to be funded by conversion of a Cash Secured Advance pursuant to Section 2.3.7). If such CP Conduit cannot or chooses not to fund such Construction Loan (excluding any Construction Loan to be funded by conversion of a Cash Secured Advance pursuant to Section 2.3.7) in accordance with this Agreement, such Lender Group Agent shall promptly so advise the Related Bank that is a member of its Lender Group and request such Related Bank to fund such Construction Loan (excluding any portion thereof to be funded by conversion of a Cash Secured Advance pursuant to Section 2.3.7) under its Parallel Funding Commitment. Administrative Agent shall treat each Construction Loan funded by a Lender Group as a CP Conduit Construction Loan unless and until otherwise notified by the applicable Lender Group Agent.

        (d)    Disbursement of Construction Loans.    No later than 3:00 p.m. on the date specified in each Construction Requisition, if the applicable conditions precedent listed in Article 3 have been satisfied or waived in accordance with the terms hereof and, subject to Section 2.1.6(c) above, to the extent Administrative Agent shall have received the appropriate funds from the applicable Banks and the applicable Lender Groups, Administrative Agent will make available the Construction Loans requested in such Construction Requisition (or so much thereof as the Banks and the Lender Groups shall have approved pursuant to this Agreement) in Dollars and in immediately available funds, at Administrative Agent's New York Branch, and shall (i) deposit such Construction Loans into the Construction Account or (ii) if such Construction

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Loans are to be used to make In Kind Equity Payments, Equity Contribution True-Up Reimbursements or NEG EPC Guaranty Reimbursements in accordance with the proviso to Section 5.1.1(a), transfer such Construction Loans to the account designated by Borrower in such Construction Requisition.

        (e)    Disbursement of Working Capital Loans.    No later than 3:00 p.m. on the date specified in each Notice of Working Capital Borrowing, if the applicable conditions precedent listed in Article 3 have been satisfied or waived in accordance with the terms hereof and, subject to Section 2.1.6(c) above, to the extent Administrative Agent shall have received the appropriate funds from the Banks, Administrative Agent will make available the Working Capital Loans requested in such Notice of Working Capital Borrowing (or so much thereof as the Banks shall have approved pursuant to this Agreement) in Dollars and in immediately available funds, at Administrative Agent's New York Branch, and shall (i) if such Working Capital Loans are to be used to pay O&M Costs as specified in such Notice of Working Capital Borrowing, disburse the proceeds of such Working Capital Loans in accordance with the instructions set forth in such Notice of Working Capital Borrowing, or (ii) if such Working Capital Loans are to be used to pay interest on Loans or scheduled payment obligations under Interest Rate Agreements as specified in such Notice of Working Capital Loan Borrowing, deposit the proceeds such Working Capital Loans into the Debt Payment Account.

        2.1.7    Conversion of Loans.

        (a)    Generally.    Borrower may convert Loans (other than CP Conduit Funded LIBOR Construction Loans) from one Type of Loan to another Type; provided, however, that (i) any conversion of LIBOR Loans into Base Rate Loans shall be made on, and only on, the first day after the last day of an Interest Period for such LIBOR Loans, and (ii) Loans shall be converted only in amounts of $1,000,000 or integral multiples of $100,000 in excess thereof. Borrower shall request each such conversion by delivering to Administrative Agent a written notice in the form of Exhibit C-4 hereto, appropriately completed (a "Notice of Conversion of Loan Type"), which specifies:

          (i)  The Loans, or portion thereof, which are to be converted;

        (ii)  The Type into which such Loans, or portion thereof, are to be converted;

        (iii)  If such Loans are to be converted into LIBOR Loans, the initial Interest Period selected by Borrower for such Loans (which Interest Period shall be selected in accordance with Section 2.1.3(b));

        (iv)  The Applicable Margin which will be in effect as of the day of the requested conversion; and

        (v)  The proposed date of the requested conversion (which shall be a Banking Day and otherwise in accordance with this Section 2.1.7).

        Borrower shall deliver each Notice of Conversion of Loan Type to Administrative Agent so as to provide at least the applicable Minimum Notice Period. Any Notice of Conversion of Loan Type shall be irrevocable and Borrower shall be bound to make a conversion in accordance therewith. Each Notice of Conversion of Loan Type shall be delivered by first-class mail or facsimile to Administrative Agent at the office or to the facsimile number and during the hours specified in Section 11.1; provided, however, that Borrower shall promptly deliver to Administrative Agent the original of any Notice of Conversion of Loan Type initially delivered by facsimile. Administrative Agent shall promptly notify each Bank of the contents of each Notice of Conversion of Loan Type.

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        (b)    CP Conduit LIBOR Construction Loans.    Subject to Sections 2.7 and 2.1.7(b)(ii), each Construction Loan made by any Lender Group that is funded by the CP Conduit that is a member of such Lender Group as a CP Conduit Funded LIBOR Construction Loan shall automatically be continued as a CP Conduit Funded LIBOR Construction Loan at the end of each Interest Period for an additional Interest Period of (i) one month, if the prior Interest Period ends before the expiration of the Construction Loan Availability Period, and (ii) three months, if the prior Interest Period ends on or after the expiration of the Construction Loan Availability Period; provided that each such Interest Period shall commence and end on the fifth Banking Day of the applicable calendar month and no such Interest Period shall extend beyond the Final Maturity Date.

        (c)    Assignments within Lender Groups.    If any assignment pursuant to Section 9.14.2 by a CP Conduit to the Related Bank that is a member of the same Lender Group is effective after the fourth Banking Day prior to the last day of such then current Interest Period, notwithstanding anything to the contrary in this Agreement, Borrower may deliver a Notice of Conversion of Loan Type to Administrative Agent with respect to the applicable Related Bank Construction Loan up to and including the last day of the then current Interest Period, without regard to the applicable Minimum Notice Period. If Borrower fails to so deliver such a Notice of Conversion of Loan Type, such Related Bank Construction Loan shall automatically convert to a Base Rate Loan on the last day of the then current Interest Period.

        2.1.8    Prepayments.

        (a)    Terms of All Prepayments.    Upon the prepayment of any Loan (whether such prepayment is an Optional Prepayment or a Mandatory Prepayment), Borrower shall pay to Administrative Agent for the account of the Bank which made such Loan, the Lender Group Agent for the Lender Group which made such Loan and/or the applicable Hedge Bank, as the case may be, (i) all accrued interest to the date of such prepayment on the amount being prepaid, (ii) all accrued fees to the date of such prepayment on the amount being prepaid, (iii) to the extent required by the terms of the applicable Interest Rate Agreement, all Hedge Breaking Fees owed by Borrower to such Bank, such Lender Group Agent's CP Conduit and Related Bank or such Hedge Bank as a result of such prepayment and (iv) if such prepayment is the prepayment of a LIBOR Loan on a day other than the last day of an Interest Period for such LIBOR Loan, all Liquidation Costs incurred by such Bank or by such Lender Group Agent's CP Conduit and Related Bank as a result of such prepayment. Notwithstanding the foregoing, but only in respect of any Mandatory Prepayment, Borrower shall have the right (so long as neither any Borrower Inchoate Default under Section 7.1.1 nor any Borrower Event of Default shall have occurred and be continuing), by giving five Banking Days' notice to Administrative Agent, in lieu of prepaying a LIBOR Loan on a day other than the last day of an Interest Period for such LIBOR Loan, to deposit or cause Administrative Agent to deposit, into the Prepayment Account an amount equal to the LIBOR Loan to be prepaid. Such funds shall be held in the Prepayment Account until the expiration of the Interest Period applicable to the LIBOR Loan to be prepaid at which time the amount deposited in the Prepayment Account shall be used to prepay such LIBOR Loan and any interest accrued on such amount shall be applied as described in clause (i) of the first sentence of this Section 2.1.8(a). The deposit of amounts into the Prepayment Account shall not constitute a prepayment of Loans and all Loans to be prepaid using the proceeds from such account shall continue to accrue interest at the then applicable interest rate for such Loans until actually prepaid. All prepayments of Construction Loans shall be applied to reduce the remaining payments required under Section 2.1.1(d) in the inverse order of the maturity of the Construction Loans. Borrower may not reborrow the principal amount of any Construction Loan which is prepaid; provided that (i) Construction Loans that are repaid pursuant to Section 6.4(a)(iii) may be reborrowed, in accordance with the terms hereof, in connection with a Substitute Project that

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becomes an Approved Project pursuant to Section 3.11, and (ii) the Construction Loan Commitments may be reutilized as contemplated by Section 9.17 in accordance with the terms hereof. From the Closing Date to the Amortization Commencement Date, Borrower shall terminate, partially terminate and/or assign to a Person other than a Credit Party, in each case pursuant to the terms and subject to the conditions of the applicable Interest Rate Agreements, its obligations under Hedge Transactions such that at no time shall the aggregate notional amount under all Hedge Transactions exceed the sum of the principal amount of Construction Loans outstanding plus the unfunded portion of the Allocated Portions of the Total Construction Loan Commitment for all Approved Projects. From and after the Amortization Commencement Date, Borrower shall terminate, partially terminate and/or assign to a Person other than a Credit Party, in each case pursuant to the terms and subject to the conditions of the applicable Interest Rate Agreements, its obligations under Hedge Transactions such that at no time shall the aggregate notional amount under all Hedge Transactions exceed the principal amount of Construction Loans outstanding.

        (b)    Optional Prepayments.    Subject to Section 2.1.8(a), Borrower may, at its option and without penalty, upon five Banking Days' notice to Administrative Agent, prepay any Loans in whole or in part in a minimum amount of $1,000,000 or an incremental multiple of $100,000 in excess thereof (any such prepayment, an "Optional Prepayment").

        (c)    Mandatory Prepayments.

          (i)  Borrower shall prepay (or cause to be prepaid) Loans in connection with a Change of Law to the extent required by Section 2.7.2.

        (ii)  Borrower shall prepay (or cause to be prepaid) Loans with Account Funds in the Distribution Account to the extent required by Section 4.7.2 of the Depositary Agreement.

        (iii)  Borrower shall prepay (or cause to be prepaid) Loans in connection with the receipt of Loss Proceeds to the extent required by Section 4.8.2 of the Depositary Agreement.

        (iv)  Borrower shall prepay (or cause to be prepaid) Loans in connection with the transfer by Borrower of its equity interests in an Approved Project Company to the extent required by Section 6.4(a)(iii).

        (v)  Borrower shall prepay (or cause to be prepaid) Loans to the extent expressly required by any other provision of this Agreement or any other Credit Document.

        Except as otherwise expressly set forth herein, prepayments of less than all of the outstanding Loans made pursuant to clauses (ii) through (v) above shall be applied first, to the prepayment of outstanding Construction Loans until all Construction Loans have been repaid in full; second, to the prepayment of outstanding Working Capital Loans and Project LC Loans, pro rata in accordance with the principal amounts of Working Capital Loans and Project LC Loans then outstanding, until all Working Capital Loans and Project LC Loans have been repaid in full; and third, to the prepayment of outstanding DSR LC Loans until all DSR LC Loans have been repaid in full.

        2.2    Letter of Credit Facilities.

        2.2.1    Issuance of the Letters of Credit.    Subject to the terms and conditions set forth in this Agreement, the LC Bank shall, during the Working Capital/LC Availability Period, on each Banking Day specified in a Notice of LC Activity delivered in accordance with Section 2.2.3, issue, extend the Expiration Date of or increase the Stated Amount of, for the account of Borrower, the Letter(s) of Credit to which such Notice of LC Activity relates, and deliver each such Letter of Credit (or a notice of extension of the Expiration Date or increase in the Stated Amount thereof) to the applicable LC Beneficiary. Subject to Section 2.2.7(b), the LC Bank shall not modify the

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conditions for draws or terms of availability for any Letter of Credit issued and outstanding hereunder without Borrower's consent.

        2.2.2    Availability.    The LC Bank shall, subject to the terms and conditions of this Agreement, make Letter(s) of Credit available to Borrower and/or the Approved Project Companies, for the account of Borrower, (a) solely to enable the Approved Project Companies to provide security for their obligations to the counterparties under the LC Eligible Project Documents in accordance with the terms of the LC Eligible Project Documents (each, a "Project Letter of Credit" and, collectively, the "Project Letters of Credit"), and (b) solely to maintain the DSR Required Balance in the Debt Service Reserve Account pursuant to the terms of Section 4.6 of the Depositary Agreement (the "DSR Letter of Credit"). Project Letters of Credit shall be substantially in the form of Exhibit B-4 (or as otherwise mutually agreed by Administrative Agent, the LC Bank and Borrower) and the DSR Letter of Credit shall be in the form of Exhibit B-5. No Project Letter of Credit shall be issued, renewed, replaced or extended by the LC Bank until such time (or a reasonable period before such time) as required under the applicable LC Eligible Project Document pursuant to which such Letter of Credit is being issued, as certified to the LC Bank in a duly completed Notice of LC Activity. The Expiration Date of each Letter of Credit shall be on or prior to the last day of the Working Capital/LC Availability Period.

        2.2.3    Notice of LC Activity.    Borrower shall request the issuance, extension of the Expiration Date or increase in the Stated Amount of any Letter of Credit by delivering to Administrative Agent and the LC Bank an irrevocable written notice in the form of Exhibit C-5, appropriately completed (a "Notice of LC Activity"), which specifies, among other things:

        (a)  The particulars of the Letter of Credit to be issued or the specific Letter of Credit the Expiration Date of which is to be extended or the Stated Amount of which is to be increased (including, for a Project Letter of Credit, the Approved Project for which such Project Letter of Credit is being issued, extended or increased);

        (b)  Subject to Section 2.2.2, the issue date and Expiration Date of the Letter of Credit to be issued or the new Expiration Date of the Letter of Credit to be extended; and

        (c)  The Stated Amount (as increased, if applicable) of the Letter of Credit, provided that (i) the Stated Amount of any requested Project Letter of Credit shall not exceed the then current Available Working Capital/Project LC Commitment, and (ii) the Stated Amount of the requested DSR Letter of Credit shall not exceed the then current Available DSR LC Commitment.

        Borrower shall give the Notice of LC Activity to Administrative Agent and the LC Bank at least five Banking Days before the requested date of issuance of any Letter of Credit, and at least three Banking Days before the requested date of any extension of the Expiration Date of any Letter of Credit or increase in the Stated Amount of any Letter of Credit. Any Notice of LC Activity, once given by Borrower, may not be modified or revoked. Administrative Agent shall promptly notify each Bank of the contents of each Notice of LC Activity.

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        2.2.4    Letter of Credit Loans and Reimbursement Obligations.

        (a)    Project LC Loans.    To the extent provided in Section 2.2.8, each Bank severally agrees to advance to the LC Bank, for the account of Borrower, such Bank's Proportionate Share of the full amount of any Drawing Payment under any Project Letter of Credit. Upon the making of any Drawing Payment, Borrower shall be obligated to reimburse the LC Bank for such Drawing Payment and, for convenience, such Reimbursement Obligation shall be deemed to constitute a Borrowing of loans (each, a "Project LC Loan" and, collectively, the "Project LC Loans") in the amount of such Drawing Payment, consisting of a Project LC Loan made by each Bank in the amount of such Bank's Proportionate Share of such Drawing Payment. All Project LC Loans shall be repaid on each Quarterly Date to the extent of Account Funds available for such purpose in the Debt Payment Account on such Quarterly Date, after giving effect to transfers from the Applicable Revenue Account to the Debt Payment Account on such Quarterly Date; provided, however, that each Project LC Loan shall be repaid in full on the Final Maturity Date. In the event that any Project LC Loan cannot for any reason be made on the date otherwise required above (including, without limitation, as a result of the commencement of a Bankruptcy Event with respect to Borrower), then each Bank hereby agrees that it shall forthwith purchase from the LC Bank a participation interest in the unreimbursed Drawing Payment made by the LC Bank under the Project Letter of Credit, in an amount equal to such Bank's Proportionate Share of such unreimbursed Drawing Payment, as provided in Section 2.2.8.

        (b)    DSR LC Loans.    To the extent provided in Section 2.2.8, each Bank severally agrees to advance to the LC Bank, for the account of Borrower, such Bank's Proportionate Share of the full amount of any Drawing Payment under the DSR Letter of Credit. Upon the making of any Drawing Payment, Borrower shall be obligated to reimburse the LC Bank for such Drawing Payment and, for convenience, such Reimbursement Obligation shall be deemed to constitute a Borrowing of loans (a "DSR LC Loan" and, collectively, the "DSR LC Loans") in the amount of such Drawing Payment, consisting of a DSR LC Loan made by each Bank in the amount of such Bank's Proportionate Share of such Drawing Payment. All DSR LC Loans shall be repaid on each Monthly Date to the extent of Account Funds available for such purpose in the Post-Completion Revenue Account, after giving effect to the disbursements described in priorities First through Fourth of Section 4.3.2(a) of the Depositary Agreement; provided, however, that each DSR LC Loan shall be repaid in full on the Final Maturity Date. In the event that any DSR LC Loan cannot for any reason be made on the date otherwise required above (including, without limitation, as a result of the commencement of a Bankruptcy Event with respect to Borrower), then each Bank hereby agrees that it shall forthwith purchase from the LC Bank a participation interest in the unreimbursed Drawing Payment made by the LC Bank under the DSR Letter of Credit, in an amount equal to such Bank's Proportionate Share of such unreimbursed Drawing Payment, as provided in Section 2.2.8.

        (c)    Interest Rate Basis.    Each Project LC Loan and DSR LC Loan shall initially be a Base Rate Loan. Borrower may convert any such Base Rate Loan to a LIBOR Loan in accordance with Section 2.1.7.

        2.2.5    Project LC Loan Interest.    Borrower shall pay interest on the unpaid principal amount of each Project LC Loan from the Drawing Date associated with such Project LC Loan until the maturity or prepayment thereof at the following rates per annum:

        (a)  with respect to the principal portion of such Project LC Loan which is, and during the periods when such portion of such Project LC Loan is, a Base Rate Project LC Loan, at a

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rate per annum equal to the Base Rate plus the Applicable Margin, such rate to change from time to time as the Base Rate shall change; and

        (b)  with respect to the principal portion of such Project LC Loan which is, and during the periods when such portion of such Project LC Loan is, a LIBOR Project LC Loan, at a rate per annum during each Interest Period for such LIBOR Project LC Loan equal to the LIBO Rate for such Interest Period, plus the Applicable Margin.

        2.2.6    DSR LC Loan Interest.    Borrower shall pay interest on the unpaid principal amount of each DSR LC Loan from the Drawing Date associated with such DSR LC Loan until the maturity or prepayment thereof at the following rates per annum:

        (a)  with respect to the principal portion of such DSR LC Loan which is, and during the periods when such portion of such DSR LC Loan is, a Base Rate DSR LC Loan, at a rate per annum equal to the Base Rate plus the Applicable Margin plus 0.25%, such rate to change from time to time as the Base Rate shall change; and

        (b)  with respect to the principal portion of such DSR LC Loan which is, and during the periods when such portion of such DSR LC Loan is, a LIBOR DSR LC Loan, at a rate per annum during each Interest Period for such LIBOR DSR LC Loan equal to the LIBO Rate for such Interest Period plus the Applicable Margin plus 0.25%.

        2.2.7    Reduction and Reinstatement of Stated Amounts; Cancellation.

        (a)  The Stated Amount of each Letter of Credit shall be reduced by the amount of Drawing Payments made thereunder. Notwithstanding anything to the contrary contained in this Section 2.2, once so reduced, the Stated Amount of any Letter of Credit shall not be reinstated except (i) with the prior written consent of Administrative Agent, the LC Bank and the Majority Banks (or, if such reinstatement would cause the Stated Amount of any Letter of Credit to exceed the limitations specified in Section 2.2.3(c) , upon the prior written consent of Administrative Agent, the LC Bank and all of the Banks), or (ii) upon repayment by Borrower of the Letter of Credit Loans corresponding to such Drawing Payment and satisfaction of the conditions for an increase in the Stated Amount of a Letter of Credit set forth in (x) Section 2.2.3 and (y) with respect to a Project Letter of Credit, Section 3.12.2 (other than with respect to any Project Event of Default or Project Inchoate Default that would be cured by the reinstatement of the Stated Amount of such Letter of Credit) and Section 3.12.3.

        (b)  Upon the occurrence and during the continuation of a Borrower Event of Default under Section 7.1.4 or at such time as, pursuant to the terms hereof, Administrative Agent and the Banks have accelerated the Obligations, the LC Bank (acting at the direction of Administrative Agent and the Majority Banks) shall be entitled to cancel all outstanding Letters of Credit any time at least 30 days after delivery to the LC Beneficiary of each Letter of Credit that will be canceled a written notice of such intent to cancel, whereupon the LC Beneficiary shall be entitled to draw upon the applicable Letter of Credit in accordance with its terms.

        (c)  The LC Bank shall be entitled to cancel any Letter of Credit on its then current Stated Expiration Date (as defined in such Letter of Credit) by delivering a Notice of Non-Extension (as defined in such Letter of Credit) to the LC Beneficiary of such Letter of Credit at least 60 days prior to such Stated Expiration Date in accordance with the terms of such Letter of Credit.

        2.2.8    Bank Participation.    Each Bank severally agrees to participate with the LC Bank in the extension of credit arising from the issuance of the Letters of Credit in an amount equal to such Bank's Proportionate Share of the Stated Amount of each Letter of Credit, and the issuance of a

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Letter of Credit shall be deemed a confirmation to the LC Bank of such participation in such amount. The LC Bank may request the Banks to pay to the LC Bank their respective Proportionate Shares of all or any portion of any Drawing Payment made or to be made by the LC Bank under any Letter of Credit by contacting each Bank and Administrative Agent telephonically (promptly confirmed in writing) at any time after the LC Bank has received notice of or request for such Drawing Payment, and specifying the amount of such Drawing Payment, such Bank's Proportionate Share thereof, and the date on which such Drawing Payment is to be made or was made; provided, however, that the LC Bank shall not request the Banks to make any payment under this Section 2.2.8 in connection with any portion of a Drawing Payment for which the LC Bank has been reimbursed by Borrower (unless such reimbursement has been thereafter rescinded or recovered by Borrower). Upon receipt of any such request for payment from the LC Bank, each Bank shall pay to the LC Bank such Bank's Proportionate Share of the unreimbursed portion of such Drawing Payment, together with interest thereon at a per annum rate equal to the Federal Funds Rate, as in effect from time to time, from the date of such Drawing Payment to the date on which such Bank makes payment. Each Bank's obligation to make each such payment to the LC Bank shall be absolute, unconditional and irrevocable and shall not be affected by any circumstance whatsoever, including the occurrence or continuation of any Borrower Inchoate Default or Borrower Event of Default, or the failure of any other Bank to make any payment under this Section 2.2.8, and each Bank further agrees that each such payment shall be made without any offset, abatement, withholding or reduction whatsoever.

        2.2.9    Commercial Practices.    Borrower assumes all risks of the acts or omissions of any LC Beneficiary or transferee of any Letter of Credit with respect to the use of such Letter of Credit. Borrower agrees that neither the LC Bank, Administrative Agent nor any Bank (nor any of their respective directors, officers or employees) shall be liable or responsible for: (a) the use which may be made of any Letter of Credit or for any acts or omissions of any LC Beneficiary or transferee in connection therewith; (b) any reference which may be made to this Agreement or to any Letter of Credit in any agreements, instruments or other documents; (c) the validity, sufficiency or genuineness of documents other than the Letters of Credit, or of any endorsement(s) thereon, even if such documents should in fact prove to be in any or all respects invalid, insufficient, fraudulent or forged or any statement therein prove to be untrue or inaccurate in any respect whatsoever; (d) payment by the LC Bank against presentation of documents which do not strictly comply with the terms of the applicable Letter of Credit, including failure of any documents to bear any reference or adequate reference to such Letter of Credit; or (e) any other circumstances whatsoever in making or failing to make payment under any Letter of Credit, except only that the LC Bank shall be liable to Borrower for acts or events described in clauses (a) through (e) above, to the extent, but only to the extent, of any direct damages, as opposed to indirect, special or consequential damages, suffered by Borrower which Borrower proves were caused by (i) the LC Bank's willful misconduct or gross negligence in determining whether a drawing made under the applicable Letter of Credit complies with the terms and conditions therefor stated in such Letter of Credit or (ii) the LC Bank's willful failure to pay under any Letter of Credit after receiving a drawing request from the respective LC Beneficiary strictly complying with the terms and conditions of the applicable Letter of Credit. Without limiting the foregoing, the LC Bank may accept any document that appears on its face to be in order, without responsibility for further investigation. Borrower hereby waives any right to object to any payment made under a Letter of Credit with regard to a drawing that is in the form provided in such Letter of Credit but which varies with respect to punctuation (except punctuation with respect to any Dollar amount specified therein), capitalization, spelling or similar matters of form.

        2.2.10    Reimbursement Obligations Absolute.    Subject to the second sentence in each of Sections 2.2.4(a) and (b), Borrower's obligation to repay Reimbursement Obligations and to pay interest thereon shall be absolute, unconditional and irrevocable, and shall be performed strictly in

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accordance with the terms of this Agreement under all circumstances, including (a) any lack of validity or enforceability of any of the Operative Documents, (b) any amendment or waiver of or any consent to departure from all or any terms of any of the Operative Documents, (c) the existence of any claim, setoff, defense or other right which Borrower may have at any time against any LC Beneficiary or any transferee of any Letter of Credit (or any Persons for whom any such beneficiary or transferee may be acting), Administrative Agent, the LC Bank, any Bank or any other Person, whether in connection with this Agreement, the transactions contemplated herein or in the other Operative Documents, or in any unrelated transaction, (d) any demand, statement, certificate, draft or other document presented under such Letter of Credit proving to be forged, fraudulent or invalid in any respect or any statement therein being untrue or inaccurate in any respect, unless the LC Bank acts with willful misconduct in honoring such demand, statement, certificate, draft or other document, (e) payment by the LC Bank under any Letter of Credit against presentation of any demand, statement, certificate, draft or other document which does not strictly comply with the terms of any Letter of Credit, unless such payment constitutes gross negligence or willful misconduct on the part of the LC Bank, (f) any non-application or misapplication by any LC Beneficiary of the proceeds of any Drawing Payment under such Letter of Credit or any other act or omission of such beneficiary in connection with such Letter of Credit, (g) any extension of time for or delay, renewal or compromise of or other indulgence or modification to the Drawing Payment granted or agreed to by the LC Bank and the Banks, except to the extent of the same, with or without notice to or approval by Borrower, (h) any failure to preserve or protect any Collateral, any failure to perfect or preserve the perfection of any Lien thereon, or the release of any of the Collateral securing the performance or observance of the terms of this Agreement or any of the other Operative Documents, (i) the fact that a Borrower Event of Default shall have occurred and be continuing, or (j) any other circumstances or happenings whatsoever relating to Borrower, such Reimbursement Obligation or the Projects, including the non-completion of any Project for any cause whatsoever, the failure of a Project Company to occupy or use its Project in the manner contemplated by the Operative Documents or otherwise, any defect in title, design, operation, merchantability, fitness or condition of the Projects or in the suitability of the Projects for Borrower's or the Project Companies' purposes or needs, any failure of consideration, destruction of or damage to the Projects, any commercial frustration of purpose, the taking by condemnation of title to or the use of all or any part of the Projects, any Change of Law, any failure of any Person to perform or observe any agreement, whether express or implied, or any duty, liability or obligation arising out of or in connection with the Operative Documents to which such Person is a party.

        2.2.11    Term of Letters of Credit.    Unless terminated earlier in accordance with its terms, or extended pursuant to Section 2.2.3, each Letter of Credit shall expire at 12:01 a.m. on the Expiration Date stated therein. The Expiration Date of each Letter of Credit shall be no later than the earliest of (a) 15 Banking Days following the expiration of the applicable Approved Project Company's letter of credit obligations under the applicable LC Eligible Project Document in connection with which any Project Letter of Credit is issued (as notified by Borrower to the LC Bank), (b) cancellation of such Letter of Credit pursuant to Section 2.2.7(b) or (c) or (c) the Final Maturity Date.

        2.2.12    LC Bank's Right to Replace Non-Investment Grade Bank.    If at any time any Bank (a "Non-Investment Grade Bank") is rated less than Baa3 by Moody's or less than BBB- by S&P, the LC Bank shall have the right to request that the Non-Investment Grade Bank be replaced by another Person (a "Replacement Bank") that is acceptable to the LC Bank, Administrative Agent and, unless a Borrower Event of Default or Borrower Inchoate Default has occurred and is continuing, Borrower, and that is willing to assume the Non-Investment Grade Bank's obligations under this Agreement. If a Replacement Bank is located, the Replacement Bank will be substituted for the Non-Investment Grade Bank upon execution and delivery to Administrative

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Agent of an Assignment Agreement between the Non-Investment Grade Bank and the Replacement Bank substantially in the form of Exhibit L. Notwithstanding the foregoing, the LC Bank will not have the right to request that the Non-Investment Grade Bank be replaced by a Replacement Bank if: (a) the Non-Investment Grade Bank was a Non-Investment Grade Bank on the day on which it became a Bank hereunder; or (b) the Non-Investment Grade Bank, within three Banking Days after it becomes a Non-Investment Grade Bank, provides any one or more of the following in an aggregate amount equal to the sum of its Working Capital/Project LC Commitment and its DSR LC Commitment as security for its obligations under Section 2.2.8: (i) cash to be held by the LC Bank in a segregated account; or (ii) a letter of credit or guaranty from a Person that is rated at least Baa3 by Moody's and at least BBB- by S&P in form and substance reasonable satisfactory to the LC Bank. Notwithstanding the foregoing, if such Non-Investment Grade Bank is also a Related Bank, the Replacement Bank shall also assume the obligations of the Lender Group of which such Non-Investment Grade Bank is a member under this Agreement (including any outstanding Loans made hereunder).

        2.2.13    Special Provisions Relating to Letters of Credit.    Notwithstanding any other provision of this Agreement to the contrary:

        (a)  any automatic extension of the Expiration Date of a Letter of Credit that is expressly provided for in such Letter of Credit shall not require the satisfaction of the conditions precedent to the extension of an Expiration Date set forth in Sections 2.2.3 and 3.5 or 3.6, as the case may be;

        (b)  any automatic increase in the Stated Amount of a Letter of Credit that is expressly provided for in such Letter of Credit shall not require the satisfaction of the conditions precedent to an increase in a Stated Amount set forth in Sections 2.2.3 and 3.5 or 3.6, as the case may be (provided that a reinstatement of a Stated Amount as contemplated by Section 2.2.7(a) shall not be considered an automatic increase in such Stated Amount for purposes of this clause (b)); and

        (c)  with respect to any Letter of Credit that expressly provides for an automatic increase in the Stated Amount thereof, (i) the Stated Amount of such Letter of Credit for purposes of the calculation of the Working Capital/Project LC Commitment Fee and the Letter of Credit Fee for such Letter of Credit shall be the Stated Amount for the current Drawing Period as set forth in Schedule I to such Letter of Credit, and (ii) the Stated Amount of such Letter of Credit for all other purposes hereunder (including the calculation of the Available Working Capital/Project LC Commitment other than in connection with the Working Capital/Project LC Commitment Fee) shall be the highest Stated Amount set forth in Schedule I to such Letter of Credit.

        2.3    Total Commitments.

        2.3.1    Initial Commitments and Increases in Initial Commitments.    As of the Closing Date, the Committed Construction Loan Dollar Amount is $950,000,000 (the "Initial Committed Construction Loan Dollar Amount"), the Committed Working Capital/Project LC Dollar Amount is $80,000,000 (the "Initial Committed Working Capital/Project LC Dollar Amount"), and the Committed DSR LC Dollar Amount is $45,000,000 (the "Initial Committed DSR LC Dollar Amount and, collectively with the Initial Committed Construction Loan Dollar Amount and the Initial Committed Working Capital/Project LC Dollar Amount, the "Initial Committed Dollar Amounts"). Each Initial Committed Dollar Amount shall be increased by the applicable Incremental Commitment set forth in each Joinder Agreement entered into following the Closing Date.

        2.3.2    Total Construction Loan Commitment.    Subject to Section 2.3.5(a), the aggregate principal amount of all Construction Loans outstanding at any time shall not exceed the then current Committed Construction Loan Dollar Amount or, if the then current Committed

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Construction Loan Dollar Amount is (1) reduced by Borrower pursuant to Section 2.3.6(a), (2) automatically reduced pursuant to Section 2.3.6(b) or (3) automatically increased pursuant to the proviso to Section 2.3.6(b)(ii), such adjusted Committed Construction Loan Dollar Amount (such then current Committed Construction Loan Dollar Amount, as so adjusted from time to time, the "Total Construction Loan Commitment"). The amount of each Bank's and each Lender Group's Construction Loan Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Bank's or any Lender Group's Construction Loan Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Bank or Lender Group hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the Total Construction Loan Commitment in accordance with this Section 2.3.2 to give effect to any such adjustment). The amount of each Related Bank's Parallel Funding Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Related Bank's Parallel Funding Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Related Bank hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the Construction Loan Commitment of such Related Bank's Lender Group in accordance with this Section 2.3.2 to give effect to any such adjustment. Notwithstanding anything to the contrary contained in this Agreement or any other Credit Document, the aggregate principal amount of all Construction Loans outstanding shall not exceed $1,052,142,375 at any time prior to the date on which the fourth Project becomes an Approved Project hereunder (other than in connection with a substitution of a Substitute Project for an Approved Project in accordance with Section 3.11).

        2.3.3    Total Working Capital/Project LC Commitment.    Subject to Section 2.3.5(b), the Total Working Capital/Project LC Outstandings shall not at any time exceed the then current Committed Working Capital/Project LC Dollar Amount or, if the then current Committed Working Capital/Project LC Dollar Amount is (1) reduced by Borrower pursuant to Section 2.3.6(a), (2) automatically reduced pursuant to Section 2.3.6(b) or (3) automatically increased pursuant to the proviso to Section 2.3.6(b)(ii), such adjusted Committed Working Capital/Project LC Dollar Amount (such then current Committed Working Capital/Project LC Dollar Amount, as so adjusted from time to time, the "Total Working Capital/Project LC Commitment"). The amount of each Bank's Working Capital/Project LC Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Bank's Construction Loan Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Bank hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the Total Working Capital/Project LC Commitment in accordance with this Section 2.3.3 to give effect to any such adjustment).

        2.3.4    Total DSR LC Commitment.    Subject to Section 2.3.5(b), the Total DSR LC Outstandings shall not at any time exceed the then current Committed DSR LC Dollar Amount or, if the then current Committed DSR LC Dollar Amount is (1) reduced by Borrower pursuant to Section 2.3.6(a), (2) automatically reduced pursuant to Section 2.3.6(b) or (3) automatically increased pursuant to the proviso to Section 2.3.6(b)(ii), such adjusted Committed DSR LC Dollar Amount (such then current Committed DSR LC Dollar Amount, as so adjusted from time to time, the "Total DSR LC Commitment"). The amount of each Bank's DSR LC Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Bank's Construction Loan Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Bank hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the

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Total DSR LC Commitment in accordance with this Section 2.3.4 to give effect to any such adjustment).

        2.3.5    Allocated Portions.

        (a)    Total Construction Loan Commitment.    A Project's Allocated Portion of the Total Construction Loan Commitment cannot be used for Borrowings of Construction Loans unless and until such Project becomes an Approved Project in accordance with the terms hereof. For so long as a Project is an Approved Project hereunder, such Project's Allocated Portion of the Total Construction Loan Commitment may be used for Borrowings of Construction Loans for all Approved Projects in accordance with the terms hereof.

        (b)    Total Working Capital/Project LC Commitment.    A Project's Allocated Portion of the Total Working Capital/Project LC Commitment cannot be used for Borrowings of Working Capital Loans or issuances of Project Letters of Credit unless and until such Project becomes an Approved Project in accordance with the terms hereof. For so long as a Project is an Approved Project hereunder, such Project's Allocated Portion of the Total Working Capital/Project LC Commitment may be used for (i) prior to the Substantial Completion Date for such Project, issuances of Project Letters of Credit for all Approved Projects in accordance with the terms hereof, and (ii) on and after the Substantial Completion Date for such Project, Borrowings of Working Capital Loans and issuances of Project Letters of Credit for all Approved Projects in accordance with the terms hereof. Notwithstanding anything in this clause (b) or any other provision of any Credit Document to the contrary, (1) no Borrowings of Working Capital Loans for an Approved Project may be made prior to the Substantial Completion Date for such Approved Project, (2) so long as the Millennium O&M Cost Contribution Agreement is in effect, no Borrowings of Working Capital Loans may be used to pay (A) O&M Costs (other than insurance premiums and payments made in connection with any finite risk insurance contemplated by Exhibit M to the Project Company Guaranty for the Millennium Project) incurred for the Millennium Project during Transition Outages and Schedule A Outages or (B) repair and/or replacement costs associated with Transition Outages and Schedule A Outages.

        (c)    Total DSR LC Commitment.    A Project's Allocated Portion of the Total DSR LC Commitment cannot be used for the issuance of the DSR Letter of Credit unless such Project is an Approved Project at the time of such issuance. Notwithstanding anything in this clause (c) or any other provision of any Credit Document to the contrary, the DSR Letter of Credit shall not be issued until the DSR Start Date.

        (d)    Books and Records.    The books and records of any Approved Project Company need not, at any time, reflect the Allocated Portions for the applicable Approved Project or Loans borrowed in respect of such Approved Project. Borrowing notices and related certifications provided hereunder shall be relevant only for purposes of administering, and compliance with, this Agreement and the Borrowings hereunder (including in connection with a required prepayment of Loans pursuant to Section 6.4(b)(iii)). Borrower may, at any time and from time to time, adjust the books and records of any Approved Project Company and/or Approved Intermediate Holding Company for any reason, provided that (i) the aggregate amount of debt and equity for all Approved Project Companies, together with the aggregate amount of debt and equity for all Approved Intermediate Holding Companies (as determined on a consolidated basis), must reflect the debt and equity of Borrower, and (ii) the books and records of Borrower, each Approved Project Company and each Approved Intermediate Holding Company must be in compliance with the covenants set forth in Section 5.4 hereof, Section 4.3of the applicable Project Company Guaranty and Section 5.2 of the applicable Pledge Agreement, respectively.

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        2.3.6    Reductions and Cancellations.

        (a)    Optional Reductions and Cancellations.    Borrower may, from time to time upon five Banking Days written notice to Administrative Agent, permanently reduce, (i) by a minimum amount of $1,000,000 or an integral multiple of $100,000 in excess thereof, or cancel in its entirety, the Total Construction Loan Commitment, or (ii) by a minimum amount of $500,000 or an integral multiple of $50,000 in excess thereof, or cancel in its entirety, the Total Working Capital/Project LC Commitment or the Total DSR LC Commitment; provided, however, that:

          (i)  Borrower may not reduce or cancel the Total Construction Loan Commitment if (A) after giving effect to such reduction or cancellation, either (1) the aggregate principal amount of all Construction Loans then outstanding would exceed the Total Construction Loan Commitment, or (2) the Available Construction Funds for the Approved Projects that have not achieved Completion would not, in the reasonable judgment of Administrative Agent and the Independent Engineer, be equal to or exceed the remaining Project Costs (including the Contingency) for such Approved Projects, or (B) such reduction or cancellation would cause a violation of any other provision of this Agreement or the other Credit Documents;

        (ii)  Borrower may not reduce or cancel the Total Working Capital/Project LC Commitment if (A) after giving effect to such reduction or cancellation, either (1) the Total Working Capital/Project LC Outstandings would exceed the Total Working Capital/Project LC Commitment, or (2) the remaining Total Working Capital/Project LC Commitment would not, in the reasonable judgment of Administrative Agent, the Independent Engineer and the Fuel Consultant, as applicable, be sufficient to fund the ongoing O&M Costs and Major Maintenance expenses of the Approved Projects (after giving effect to Operating Revenues available or expected to be available for such purpose) and secure the Approved Projects' existing or reasonably anticipated obligations under the LC Eligible Project Documents (after giving effect to alternate arrangements, if applicable, made by Borrower or any of its Affiliates), or (B) such reduction or cancellation would cause a violation of any other provision of this Agreement, the other Credit Documents or any applicable LC Eligible Project Document; and

        (iii)  Borrower may not reduce or cancel the Total DSR LC Commitment if after giving effect to such reduction or cancellation, either (A) the Total DSR LC Outstandings would exceed the Total DSR LC Commitment, or (B) the Total DSR LC Commitment plus the Account Funds then held in the Debt Service Reserve Account would be less than the DSR Required Balance.

Borrower shall pay to Administrative Agent any Commitment Fees then due in respect of the canceled portion of the applicable Total Commitment upon any reduction thereof and, from the effective date of any reduction, the Commitment Fees shall be computed on the basis of the applicable Total Commitment as so reduced. Once reduced or canceled in accordance with this Section 2.3.6(a), no Total Commitment may be increased or reinstated. Any reductions pursuant to this Section 2.3.6(a) shall be applied ratably to each Bank's and each Lender Group's respective Commitments in accordance with Section 2.6.1.

        (b)    Automatic Reductions and Increases.

          (i)  On the Adjustment Date, without any action by Borrower, Administrative Agent or any other Person, (A) each Total Commitment shall be automatically and permanently reduced by the Allocated Portion of such Total Commitment for any Project that is not an Approved Project as of the Adjustment Date, and (B) each such Allocated Portion shall be automatically and permanently reduced to $0. Borrower shall pay to Administrative Agent any Commitment Fees then due in respect of the canceled portion of each Total

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Commitment upon such reduction and, from the effective date of such reduction, the Commitment Fees shall be computed on the basis of the Total Commitments as so reduced. Once so reduced, no Total Commitment may be increased or reinstated. Any reductions pursuant to this Section 2.3.6(b)(i) shall be applied ratably to each Bank's and each Lender Group's respective Commitments in accordance with Section 2.6.1.

        (ii)  If Borrower transfers its equity interests in any Approved Project Company in accordance with Section 6.4, then in addition to the prepayment of Loans required pursuant to Section 6.4(a)(iii) and subject to the proviso to the third sentence of this clause (ii), (A) the Allocated Portion of the Total Construction Loan Commitment for such Approved Project shall be automatically and permanently reduced by an amount that, together with such prepayment of Construction Loans, results in compliance with the required minimum and average annual projected Debt Service Coverage Ratios set forth in Section 6.4(a)(iii), and (B) the Allocated Portions of the Total Working Capital/Project LC Commitment and the Total DSR LC Commitment for such Approved Project shall be automatically and permanently reduced to $0. Borrower shall pay to Administrative Agent for the benefit of the applicable Bank(s) and/or Lender Group(s) any Commitment Fees then due in respect of the canceled portion of each Total Commitment upon such reduction and, from the effective date of such reduction, the Commitment Fees shall be computed on the basis of the Total Commitments as so reduced. Once so reduced, no Total Commitment may be increased or reinstated; provided that if the Approved Project released pursuant to Section 6.4 is replaced by a Substitute Project in accordance with Section 3.11, then each Total Commitment shall be increased and reinstated by the Allocated Portion thereof for such Substitute Project upon such Substitute Project becoming an Approved Project, and the Commitment Fees shall thereafter be computed on the basis of the Total Commitments as so increased; provided, however, that the Total Construction Loan Commitment shall in no event be greater than the then current Committed Construction Loan Dollar Amount, the Total Working Capital/Project LC Commitment shall in no event be greater than the then current Committed Working Capital/Project LC Dollar Amount and the Total DSR LC Commitment shall in no event be greater than the then current Committed DSR LC Dollar Amount. Any reductions (and increases, if applicable) pursuant to this Section 2.3.6(b)(ii) shall be applied ratably to each Bank's and each Lender Group's respective Commitments in accordance with Section 2.6.1.

        (iii)  On March 31, 2002, (A) if the condition precedent set forth in Section 3.2.11 has not been satisfied and (B) the then current Total Commitments exceed $1,192,142,375 (less the amount of any reductions in the Total Commitments theretofore made pursuant to Section 2.3.6(a)), then without any action by Borrower, Administrative Agent or any other Person, the Total Commitments shall be automatically and permanently reduced (with such reduction being applied pro rata according to the then current amount of each Total Commitment) to $1,192,142,375 (less the amount of any reductions in the Total Commitments theretofore made pursuant to Section 2.3.6(a)). Borrower shall pay to Administrative Agent any Commitment Fees then due in respect of the canceled portion of each Total Commitment upon such reduction and, from the effective date of such reduction, the Commitment Fees shall be computed on the basis of the Total Commitments as so reduced. Once so reduced, no Total Commitment may be increased or reinstated. Any reductions pursuant to this Section 2.3.6(b)(iii) shall be applied to the Banks' and the Lender Groups' respective Commitments as agreed to by the Banks and the Lender Groups in a separate agreement.

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        2.3.7    Parallel Funding Commitments Termination Date.

        (a)  With respect to any Related Bank whose then current Parallel Funding Commitment Termination Date is earlier than the Date Certain, no earlier than the 45^th day and no later than the 30^thday before such Related Bank's then current Parallel Funding Commitment Termination Date, the Lender Group Agent on behalf of Borrower shall by written notice to such Related Bank request such Related Bank to renew its Parallel Funding Commitment for a period not exceeding 364 days immediately following the then Parallel Funding Commitment Termination Date. Each such renewal shall be in the sole and absolute discretion of such Related Bank. If any such Related Bank does not agree to so renew its Parallel Funding Commitment before the 10^th Banking Day prior to its then Parallel Funding Commitment Termination Date, such Related Bank shall be deemed to have declined to renew it Parallel Funding Commitment. If any such Related Bank agrees in writing to so renew its Parallel Funding Commitment, the Parallel Funding Commitment Termination Date of such Related Bank as set forth in Exhibit I shall be automatically amended without further action to reflect such renewal.

        (b)  During the Construction Loan Availability Period, if any Related Bank whose Parallel Funding Commitment Termination Date is earlier than the Date Certain has not, as of the fifth Banking Day prior to its then current Parallel Funding Commitment Termination Date, extended its Parallel Funding Commitment Termination Date to a date that is the earlier of (i) an additional 364 days and (ii) the Date Certain (a "Non-Renewing Related Bank"), such Non-Renewing Related Bank shall, on the fifth Banking Day prior to its then current Parallel Funding Commitment Termination Date, make an advance (a "Cash Secured Advance") to Borrower in an amount equal to the then available amount of such Related Bank's Available Parallel Funding Commitment by depositing such amount with Administrative Agent. Administrative Agent will deposit such Cash Secured Advance in a collateral account maintained by Administrative Agent (a "Cash Secured Advance Account") and will invest amounts on deposit in such Cash Secured Advance Account in Short-term Permitted Investments designated by such Related Bank having a tenor of not more than six Banking Days; provided that if a Construction Notice has then been received by Administrative Agent and Construction Loans requested thereunder have not yet been made, a portion of the amount on deposit in such Cash Secured Advance Account equal to the Related Bank Construction Loan to be made by such Related Bank shall not be invested beyond the date such Related Bank Construction Loan is to be made. Administrative Agent will deposit funds received as interest, yield, gain or other amount realized from such Short-term Permitted Investments into such Cash Secured Advance Account. Borrower hereby grants the applicable Related Bank, as security for all Obligations due and to become due to such Related Bank under the Credit Documents, a security interest in such Cash Secured Advance Account and the proceeds thereof and in the Short-term Permitted Investments made with the proceeds of a Cash Secured Advance and the proceeds thereof. Promptly upon receipt of a Cash Secured Advance, Borrower and Administrative Agent will enter into a security and control agreement with the applicable Related Bank in form and substance reasonably satisfactory to each party thereto, confirming the security interest granted under this Section 2.3.7 and granting a first priority security interest in the applicable Cash Secured Advance Account and the proceeds thereof for the benefit of such Related Bank. Notwithstanding anything to the contrary contained in this Agreement or any other Credit Document, the security interests described in and granted pursuant to this Section 2.3.7 shall be permitted exceptions to and excluded from the operation of any provision of this Agreement or any other Credit Document prohibiting, restricting or limiting in any manner Borrower's right or ability to grant or permit to exist any Lien.

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        (c)  Each Cash Secured Advance will bear interest at a rate equal to the interest, yield, gain or other amount realized from the investment of such Cash Secured Advance in Short-term Permitted Investments to the extent deposited into such Cash Secured Advance Account. Interest will be paid by Administrative Agent to the applicable Related Bank on each Cash Secured Advance on the second Banking Day of each calendar month to the extent on deposit in such Cash Secured Advance Account and to the extent the amount on deposit in such Cash Secured Advance Account is then at least equal to the remaining Available Construction Loan Commitment of the applicable Lender Group.

        (d)  The making of a Cash Secured Advance and the termination of the applicable Bank's Parallel Funding Commitment will not reduce the Construction Loan Commitment of the applicable Lender Group or the Construction Loan Commitment Fees in connection therewith, and the applicable Related Bank shall continue to be entitled to receive the Construction Loan Commitment Fees payable to the applicable Lender Group in accordance with Section 2.4.3.

        (e)  On each date that a Construction Loan is to be made by the Lender Group in which the Related Bank has made a Cash Secured Advance pursuant to this Section 2.3.7, such Related Bank agrees to release from its Cash Secured Advance Account an amount (its "CSAA Release Amount") equal to the principal amount of such Construction Loan by delivering such CSAA Release Amount to the applicable Lender Group Agent as required under Section 2.1.6. The parties hereto agree that each such release of a CSAA Release Amount by such Related Bank shall be constitute (i) a prepayment by Borrower to the extent of such amount of the applicable Cash Secured Advance and (ii) the making by such Related Bank of a Related Bank Construction Loan to the extent of such CSAA Release Amount.

        (f)    No reduction in a Lender Group's Construction Loan Commitment shall release or reduce any Cash Secured Advance made by the Related Bank in such Lender Group until after the Adjustment Date. On the Banking Day after the Adjustment Date, a portion of the Cash Secured Advance shall be subject to mandatory prepayment and become due and payable in an amount equal to the difference (if any) between the amount of such Cash Secured Advance then on deposit in the Cash Secured Advance Account minus such Lender Group's Available Construction Loan Commitment as of such date. After the Adjustment Date, a portion of each Cash Secured Advance shall be subject to mandatory prepayment and become due and payable in an amount equal to any reduction in the applicable Lender Group's Construction Loan Commitment. Upon any such mandatory prepayment, Administrative Agent shall release from the applicable Cash Secured Advance Account and deliver to the applicable Related Bank the amount then due and payable as a mandatory prepayment of its Cash Secured Advance, but only to the extent that after such release the amount remaining on deposit in such Cash Secured Advance Account is then at least equal to the remaining Available Construction Loan Commitment of the applicable Lender Group.

        (g)  To the extent not previously prepaid pursuant to Sections 2.3.7(e)and 2.3.7(f), all Cash Secured Advances shall mature and become due and payable in full on the earliest to occur of (i) any optional or mandatory prepayment of such Lender Group's Construction Loans in full, (ii) an Event of Default and acceleration of such Lender Group's Construction Loans and (iii) the expiration of the Construction Loan Availability Period and the termination of such Lender Group's remaining Construction Loan Commitment. On such maturity, Administrative Agent shall release from each Cash Secured Advance Account and deliver to the applicable Related Bank all amounts then remaining on deposit in such Cash Secured Advance Account.

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        (h)  Borrower shall have no liability for the payment of any interest on any Cash Secured Advance or for the prepayment or repayment of any Cash Secured Advance beyond the amounts then on deposit in the Cash Secured Advance Account in accordance with the provisions of this Section 2.3.7.

        2.4    Fees.

        2.4.1    Administrative Agent Fees.    Borrower shall pay to Administrative Agent, solely for its account, the fees described in the Fee Letter.

        2.4.2    Arranger Fees.    Borrower shall pay, or cause NEG to pay, to (a) each Arranger, solely for such Arranger's account, the fees described in the Mandate Letter and the Fee Letter, and (b) the Alternative Funding Arranger, solely for the account of the Alternative Funding Arranger, the fees described in the Alternative Funding Mandate Letter.

        2.4.3    Commitment Fees

        (a)    Construction Loan Commitment Fee.    On each Quarterly Date after the Closing Date and on the last Banking Day in the Construction Loan Availability Period (or, if all or a portion of the Total Construction Loan Commitment is canceled prior to such date, on the date of such cancellation in accordance with Section 2.3.6), Borrower shall pay to Administrative Agent, for the benefit of the Banks and the Lender Groups, accruing from the Closing Date or the first day of the calendar quarter, as the case may be, a commitment fee (the "Construction Loan Commitment Fee") for the calendar quarter (or portion thereof) then ending equal to the product of (i) the Applicable Fee Rate multiplied by (ii) the daily average Available Construction Loan Commitment for such quarter (or portion thereof) multiplied by (iii) a fraction, the numerator of which is the number of days in such quarter (or portion thereof) and the denominator of which is the number of days in that year (365 or 366, as the case may be). Promptly upon receipt of such funds from Borrower, Administrative Agent shall pay (x) to each Bank, such Bank's Proportionate Share of the Construction Loan Commitment Fee, and (y) to each Lender Group Agent, such Lender Group's Proportionate Share of the Construction Loan Commitment Fee. Each Lender Group Agent will pay to the Related Bank that is a member of its Lender Group such Lender Group's Proportionate Share of each Construction Loan Commitment Fee received by such Lender Group Agent pursuant to this Section 2.4.3.

        (b)    Working Capital/Project LC Commitment Fee.    On each Quarterly Date after the Closing Date and on the last Banking Day in the Working Capital/LC Availability Period (or, if all or a portion of the Total Working Capital/Project LC Commitment is canceled prior to such date, on the date of such cancellation in accordance with Section 2.3.6), Borrower shall pay to Administrative Agent, for the benefit of the Banks, accruing from the Closing Date or the first day of the calendar quarter, as the case may be, a commitment fee (the "Working Capital/Project LC Commitment Fee") for the calendar quarter (or portion thereof) then ending equal to the product of (i) the Applicable Fee Rate multiplied by (ii) the daily average Available Working Capital/Project LC Commitment for such quarter (or portion thereof) multiplied by (iii) a fraction, the numerator of which is the number of days in such quarter (or portion thereof) and the denominator of which is the number of days in that year (365 or 366, as the case may be).

        (c)    DSR LC Commitment Fee.    On each Quarterly Date after the Closing Date and on the last Banking Day in the Working Capital/LC Availability Period (or, if all or a portion of the Total DSR LC Commitment is canceled prior to such date, on the date of such cancellation in accordance with Section 2.3.6), Borrower shall pay to Administrative Agent, for the benefit of the Banks, accruing from the Closing Date or the first day of the calendar quarter, as the case may be, a commitment fee (the "DSR LC Commitment Fee") for the

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calendar quarter (or portion thereof) then ending equal to the product of (i) the Applicable Fee Rate multiplied by (ii) the daily average Available DSR LC Commitment for such quarter (or portion thereof) multiplied by (iii) a fraction, the numerator of which is the number of days in such quarter (or portion thereof) and the denominator of which is the number of days in that year (365 or 366, as the case may be).

        2.4.4    Letter of Credit Fee.    On (a) each Quarterly Date during the period commencing on the date of issuance of any Letter of Credit and ending on the Expiration Date of such Letter of Credit and (b) the Expiration Date of such Letter of Credit, Borrower shall pay to Administrative Agent, for the benefit of the Banks, accruing from the date of issuance of such Letter of Credit or from the first day of the calendar quarter, as the case may be, a letter of credit fee (the "Letter of Credit Fee") for the calendar quarter (or portion thereof) then ending equal to the product of (i) the daily average Stated Amount of such Letter of Credit for such quarter (or portion thereof) multiplied by (ii) a fraction, the numerator of which is the number of days in such quarter (or portion thereof) and the denominator of which is 360 multiplied by (iii) the Applicable Margin.

        2.4.5    Fronting Fee; LC Administrative Charges.    On (a) each Quarterly Date during the period commencing on the date of issuance of any Letter of Credit and ending on the Expiration Date of such Letter of Credit and (b) the Expiration Date of such Letter of Credit, Borrower shall pay to Administrative Agent, solely for the LC Bank's account, the Letter of Credit fronting fees for the calendar quarter (or portion thereof) then ending described in the LC Fee Letter. In addition, Borrower shall pay the LC Bank's usual and customary charges for the opening of any Letter of Credit, for the negotiation of any drafts paid pursuant to any Letter of Credit and for any wire transfers made in connection with any Letter of Credit, in each case as described in the LC Fee Letter.

        2.5    Other Payment Terms.

        2.5.1    Place and Manner.    Borrower shall make all payments due to any Bank, any Lender Group, the LC Bank or Administrative Agent hereunder to Administrative Agent, for the account of such Bank, such Lender Group, the LC Bank or Administrative Agent (as the case may be), to Société Générale, ABA #026-00-4226, for further credit to account #905-14-22 (PG&E); Reference: GenHoldings I, in Dollars and in immediately available funds and without setoff or counterclaim.

        2.5.2    Date.    Borrower shall make all payments due to any Bank, any Lender Group, the LC Bank or Administrative Agent hereunder not later than 12:00 noon on the date on which such payment is due. Any payment made after such time on any day shall be deemed received on the Banking Day after the day on which such payment is received. Administrative Agent shall disburse to each Bank, each Lender Group Agent or the LC Bank each such payment received by Administrative Agent for such Bank, such Lender Group Agent's Lender Group or the LC Bank, such disbursement to occur on the day such payment is received if received by 12:00 noon or if such payment is not received by 12:00 noon, on the next Banking Day. Whenever any payment due hereunder shall fall due on a day other than a Banking Day, such payment shall be made on the next succeeding Banking Day (except in the case of any payment relating to a LIBOR Loan where such next succeeding Banking Day is in the next calendar month, in which case such payment shall be made on the immediately preceding Banking Day), and such extension of time shall be included in the computation of interest or fees, as the case may be.

        2.5.3    Late Payments.    If any amounts required to be paid by Borrower under this Agreement or the other Credit Documents (including principal or interest payable on any Loan, and any fees or other amounts otherwise payable to Administrative Agent, the LC Bank, any Bank or any Lender Group) remain unpaid after such amounts are due, Borrower shall pay interest on the aggregate unpaid balance of such amounts from the date due until such amounts are paid in full at a per annum rate equal to the Default Rate.

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        2.5.4    Net of Taxes, Etc.

        (a)    Taxes.    Subject to compliance by Administrative Agent, each Bank and each Lender Group Member with Section 2.5.7, any and all payments to or for the benefit of Administrative Agent, any Bank or any Lender Group Member made by Borrower hereunder or under any other Credit Document shall be made free and clear of and without deduction, setoff or counterclaim of any kind whatsoever and in such amounts as may be necessary in order that all such payments, after deduction for or on account of any present or future taxes, levies, imposts, deductions, charges or withholdings, and all liabilities imposed with respect thereto (excluding (x) income and franchise taxes, which include taxes imposed on or measured by the net income or capital of Administrative Agent, such Bank or such Lender Group Member by any jurisdiction or any political subdivision or taxing authority thereof or therein to the extent resulting from a connection between Administrative Agent, such Bank or such Lender Group Member and such jurisdiction or political subdivision, other than a connection resulting solely from executing, delivering or performing its obligations or receiving a payment under, or enforcing, this Agreement or any Note, and (y) any taxes imposed by the United States federal government by means of withholding at the source, other than to the extent such taxes are attributable to a change in law or interpretation thereof after the date on which Administrative Agent, such Bank or such Lender Group Member became a party to this Agreement (except to the extent such Bank's or such Lender Group Member's assignor (if any) was entitled, at the time of assignment, to receive additional amounts from Borrower with respect to such taxes pursuant to this Section 2.5.4(a)) (all such non-excluded taxes, levies, imposts, deductions, charges, withholdings and liabilities being hereinafter referred to as "Taxes"), shall be equal to the amounts otherwise specified to be paid to Administrative Agent, such Bank or such Lender Group Member under this Agreement and the other Credit Documents. If Borrower shall be required by law to withhold or deduct any Taxes from or in respect of any sum payable hereunder or under any other Credit Document to Administrative Agent, any Bank or any Lender Group Member, (i) the sum payable shall be increased as may be necessary so that after making all required deductions (including deductions applicable to additional sums payable under this Section 2.5.4), Administrative Agent, such Bank or such Lender Group Member receives an amount equal to the sum it would have received had no such deductions been made, (ii) Borrower shall make such deductions and (iii) Borrower shall pay the full amount deducted to the relevant taxation authority or other authority in accordance with applicable Legal Requirements. In addition, Borrower agrees to pay any present or future stamp, recording or documentary taxes and any other excise or property taxes, charges or similar levies (not including any income and franchise taxes) that arise under the laws of the United States of America, the State of New York or any other state or jurisdiction where a Project is located from any payment made hereunder or under any other Credit Document or from the execution or delivery or otherwise with respect to this Agreement or any other Credit Document (hereinafter referred to as "Other Taxes"). The provisions of this Section 2.5.4(a) shall not apply to assignments under Section 9.14.2.

        (b)    Indemnity.    Borrower shall indemnify Administrative Agent, each Bank and each Lender Group Member both individually and collectively for the full amount of Taxes and Other Taxes (including any Taxes or Other Taxes imposed by any jurisdiction on amounts payable under this Section 2.5.4 paid by Administrative Agent, any Bank, any Lender Group Member or any Asset Securitization Company (so long as such Asset Securitization Company is of the type of entity described in clause (a) of the first sentence of Section 2.5.7), or any liability (including penalties, interest and reasonable expenses) arising therefrom or with respect thereto, whether or not such Taxes or Other Taxes were correctly or legally asserted; provided that Borrower shall not be obligated to indemnify Administrative Agent, any Bank or any Lender Group Member for any penalties, interest or expenses relating to Taxes or Other

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Taxes arising from the indemnitee's gross negligence or willful misconduct. Administrative Agent, each Bank and each Lender Group Member agree to give written notice to Borrower of the assertion of any claim against Administrative Agent, such Bank or such Lender Group Member relating to such Taxes or Other Taxes as promptly as is practicable after being notified of such assertion, and in no event later than 90 days after Administrative Agent, such Bank or such Lender Group Member received written notice of the imposition of such Taxes by the relevant taxing or Governmental Authority (except in the case where the ultimate amount of the Taxes could not be determined within such 90-day period); provided that the failure of Administrative Agent, any Bank or any Lender Group Member to notify Borrower of such assertion within such 90 days period shall not relieve Borrower of its obligation under this Section 2.5.4 with respect to Taxes or Other Taxes arising prior to the end of such period, but shall relieve Borrower of its obligations under this Section 2.5.4 with respect to penalties and interest relating to such Taxes or Other Taxes between the end of such period and such time as Borrower receives notice from Administrative Agent, such Bank or such Lender Group Member as provided herein. Payments by Borrower pursuant to this indemnification shall be made within 30 days from the date Administrative Agent, such Bank (through Administrative Agent), such Lender Group Agent or such other Lender Group Member (through its Lender Group Agent) makes written demand therefor, which demand shall be accompanied by a certificate describing in reasonable detail the basis thereof.

        (c)    Notice.    Within 30 days after the date of any payment of Taxes by Borrower, Borrower shall furnish to Administrative Agent, at its address referred to in Section 11.1, the original or a certified copy of a receipt (or, if such original receipt or its copy is not available, any other evidence of payment reasonably satisfactory to Administrative Agent) evidencing payment thereof. Borrower shall compensate each Bank and each Lender Group Member for all reasonable losses and expenses sustained by such Bank or such Lender Group Member as a result of any failure by Borrower to so furnish such original or copy of such receipt or such other evidence of payment.

        (d)    Tax Refunds.    If Administrative Agent, any Bank or any Lender Group Member receives any refund of any Tax or Other Tax from the jurisdiction imposing such tax, to the extent that such refund in the sole reasonable judgment of such Person is allocable to a payment by Borrower made under this Section 2.5.4, the amount of such refund, net of all out-of-pocket or other expenses (including any taxes on a refund or on interest received or credited) such Person reasonably determines to have been incurred in connection with obtaining such refund, shall be paid over to Borrower; provided, however, that Borrower, upon the request of such Person, agrees to repay the amount paid over to Borrower (plus penalties, interest and other charges) to such Person in the event such Person is required to repay such refund with respect to which a payment was made by such Person to Borrower pursuant to this clause (d). Notwithstanding anything to the contrary in this Section 2.5.4, such Person shall have no obligation to cooperate with respect to any contest (or continue to cooperate with respect to any contest), or seek or claim any refund, if such Person reasonably determines that its interests would be adversely affected by so cooperating (or continuing to cooperate) or by seeking or claiming any such refund.

        (e)    Survival of Obligations.    The obligations of Borrower under this Section 2.5.4 shall survive the termination of this Agreement and the repayment of the Obligations.

        (f)    Recovery by Lender Group.    Notwithstanding anything to the contrary in this Section 2.5.4, no Lender Group, together with any Asset Securitization Company providing funding to the CP Conduit that is a member of such Lender Group (taken as a whole), shall receive any greater amount under this Section 2.5.4 than it would have received had it been a Bank.

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        2.5.5    Application of Payments.    Except as otherwise expressly set forth herein or in the other Credit Documents (including Article IV of the Depositary Agreement), all payments made under this Agreement or the other Credit Documents and other amounts received by Administrative Agent, the Banks and the Lender Groups under this Agreement or the other Credit Documents shall be applied as follows:

        (a)  first, to any fees, costs, charges or expenses payable to Administrative Agent, the Arrangers, the LC Bank, the Banks and the Lender Groups hereunder or under the other Credit Documents (such application to be made on a pro rata basis among such Persons),

        (b)  second, to any accrued but unpaid interest then due and owing in respect of the Obligations, and

        (c)  third, to outstanding principal then due and owing or otherwise to be prepaid in respect of the Obligations.

        2.5.6    Failure to Pay Administrative Agent.    Unless Administrative Agent shall have received notice from Borrower at least two Banking Days prior to the date on which any payment is due to any Bank or any Lender Group Member hereunder that Borrower will not make such payment in full, Administrative Agent may assume that Borrower has made such payment in full to Administrative Agent on such date and Administrative Agent may, in reliance upon such assumption, cause to be distributed to each Bank and to each Lender Group Agent for the benefit of its respective Lender Group on such due date an amount equal to the amount then due to such Bank or such Lender Group. If and to the extent Borrower shall not have so made such payment in full to Administrative Agent, each Bank and each Lender Group Agent on behalf of its Lender Group shall repay to Administrative Agent forthwith upon demand such amount distributed to such Bank or to such Lender Group, together with interest thereon, for each day from the date such amount is distributed to such Bank or to such Lender Group until the date such Bank or such Lender Group Agent on behalf of its Lender Group repays such amount to Administrative Agent, at the Federal Funds Rate for the first five days after such date, and subsequent thereto at the Default Rate. A certificate of Administrative Agent submitted to any Bank or to any Lender Group with respect to any amounts owing by such Bank or such Lender Group under this Section 2.5.6 shall be conclusive in the absence of demonstrable error. If any such amount is to be returned by a Lender Group, the Related Bank or CP Conduit that is a member of such Lender Group and that received such amount shall be obligated to return such amount to Administrative Agent on behalf of such Lender Group.

        2.5.7    Withholding Exemption Certificates.    Each of Administrative Agent and each Bank and Lender Group Member (upon becoming a Bank or Lender Group Member hereunder) and any Person to which Administrative Agent or any Bank or Lender Group Member grants a participation (or otherwise transfers its interest in this Agreement) agrees that on the date Administrative Agent or such Bank, Lender Group Member or Person becomes a party to this Agreement it will deliver to each of Borrower and Administrative Agent either (a) if Administrative Agent or such Bank, Lender Group Member or Person is (i) a corporation established under the laws of the United States or any political subdivision thereof or (ii) in the case of a CP Conduit, either (A) a "domestic partnership" within the meaning of Code Section 7701(a)(30)(B), or (B) "disregarded as an entity" within the meaning of Treasury Regulation Section 301.7701-3 and is wholly-owned by a corporation established under the laws of the United States of any political subdivision thereof, a duly and appropriately completed copy of a United States Internal Revenue Service Form W-9 or any successor applicable form, or (b) if Administrative Agent or such Bank, Lender Group Member or Person, or a CP Conduit is not a corporation described in (a)(i) above or a "domestic partnership" or "disregarded entity" described in (a)(ii)(A) and (B) above, (i) a duly completed and executed exemption certificate in the form of

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Exhibit J hereto and a duly and appropriately completed copy of United States Internal Revenue Service Form W-8BEN (claiming an exemption under the so-called portfolio interest exemption), or (ii) a duly and appropriately completed copy of United States Internal Revenue Service Form W-8ECI or W-8 BEN or successor applicable form, as the case may be (claiming therein a reduction in, or an exemption from, United States withholding taxes under an applicable treaty or as income effectively connected with the conduct of trade or business within the United States), and if reasonably requested by Borrower or Administrative Agent, any additional statements and forms so requested from time to time. Administrative Agent and each Bank, Lender Group Member or other Person which delivers to Borrower and Administrative Agent a Form W-9, W-8ECI or W-8BEN or other form or certificate pursuant to the preceding sentence further undertakes to deliver to Borrower and Administrative Agent further copies of the Form W-9, W-8ECI or W-8BEN, or successor applicable form or other form or certificate, or other manner of certification or procedure, as the case may be, on or before the date that any such form or certificate expires or becomes obsolete or within a reasonable time (not to exceed 90 days) after gaining knowledge of the occurrence of any event requiring a change in the most recent forms or certificates previously delivered by it to Borrower and Administrative Agent, and such extensions or renewals thereof as may reasonably be requested by Borrower or Administrative Agent, certifying in the case of a Form W-9, W-8ECI or W-8BEN that such Bank, Lender Group Member or Person is entitled to receive payments under this Agreement without (or with a reduced amount of) deduction or withholding of any United States federal income taxes, unless in any such cases an event (including any change in treaty, law or regulation) has occurred prior to the date on which any such delivery would otherwise be required which renders all such forms inapplicable or which would prevent a Bank or Lender Group Member from duly completing and delivering any such form with respect to it. Borrower shall not be obligated to pay any additional amounts in respect of United States Federal income tax pursuant to Section 2.5.4 (or make an indemnification payment pursuant to Section 2.5.4) to any Bank, Lender Group Member or other Person (including any Person to which any Bank or Lender Group Member sells, assigns, grants a participation in, or otherwise transfers, its rights under this Agreement) to the extent the obligation to pay such additional amounts (or such indemnification) would not have arisen but for a failure of such Bank, Lender Group Member or Person to comply with its obligations under this Section 2.5.7 (except to the extent such failure was caused by a change in law or interpretation thereof after the date of such Person becoming a party to this Agreement, provided, however, that the foregoing change in law exception shall not affect Borrower's obligation to pay additional amounts to the extent such Bank's or Lender Group Member's assignor (if any) was entitled, at the time of assignment, to receive additional amounts from Borrower); and, for the avoidance of doubt, Borrower has no obligations under Section 2.5.4 or otherwise to Persons that are not a party to this Agreement (including any participant). Notwithstanding the foregoing or anything else to the contrary in this Agreement, no Bank, Lender Group Member or other Person shall be obligated to deliver any form, certificate or document which it cannot deliver as a matter of law. Each Asset Securitization Company shall be required to provide the applicable certificates and other documents described in this Section 2.5.7 to the same extent as its CP Conduit.

        2.6    Pro Rata Treatment.

        2.6.1    Loans, Commitment Reductions, Etc.    Except as otherwise provided herein, (a) each Borrowing and each reduction of a Commitment shall be made or allocated among the Banks and the Lender Groups pro rata according to their respective Proportionate Shares of such Borrowing or Commitment, as the case may be, (b) each payment of principal of Construction Loans shall be made or shared among Banks and Lender Groups holding such Construction Loans pro rata according to the respective unpaid principal amounts of such Construction Loans held by such Banks and such Lender Groups, (c) each payment of interest on Construction Loans shall be allocated to the Banks and Lender Groups funding the Construction Loans with respect to which

31

such interest was paid, provided that if such payment is not sufficient to pay all interest then due and payable with respect to Construction Loans, such payment of interest shall be shared among the Banks and Lender Groups funding the Construction Loans with respect to which such interest is then due and payable pro rata according to the principal amount of such Construction Loans, (d) each payment of principal of and interest on Loans other than Construction Loans shall be made or shared among Banks holding such Loans pro rata according to the respective unpaid principal amounts of such Loans held by such Banks, (e) each payment of Commitment Fees shall be shared among the Banks and the Lender Groups pro rata according to their respective Proportionate Shares of the Commitments to which such fees apply, and (f) each payment of Letter of Credit Fees shall be shared among the Banks pro rata according to their respective Proportionate Shares of the Stated Amount of the Letter of Credit to which such fees apply.

        2.6.2    Sharing of Payments, Etc.    If any Bank or Lender Group shall obtain any payment (whether voluntary, involuntary, through the exercise of any right of setoff or otherwise) on account of Loans owed to it in excess of its ratable share of payments on account of such Loans obtained by all Banks and Lender Groups entitled to such payments, such Banks and Lender Groups shall forthwith purchase from the other Banks and Lender Groups such participation in the Loans, as the case may be, as shall be necessary to cause such purchasing Bank or Lender Group to share the excess payment ratably with each of the other Banks and Lender Groups; provided, however, that if all or any portion of such excess payment is thereafter recovered from such purchasing Bank or Lender Group, such purchase by such Bank or Lender Group shall be rescinded and each other Bank and Lender Group shall repay to the purchasing Bank or Lender Group the purchase price to the extent of such recovery together with an amount equal to such other Bank's or Lender Group's ratable share (according to the proportion of (a) the amount of such other Bank's or Lender Group's required repayment to (b) the total amount so recovered from the purchasing Bank or Lender Group) of any interest or other amount paid or payable by the purchasing Bank or Lender Group in respect of the total amount so recovered. Borrower agrees that any Bank or Lender Group so purchasing a participation from another Bank or Lender Group pursuant to this Section 2.6.2 may, to the fullest extent permitted by law, exercise all its rights of payment (including the right of setoff) with respect to such participation as fully as if such Bank or Lender Group were the direct creditor of Borrower in the amount of such participation. This Section 2.6.2. shall not apply to any Cash Secured Advance Account.

        2.6.3    Payments to Lender Groups.    Each payment of principal to a Lender Group with respect to Construction Loans made by such Lender Group shall be made or shared among the CP Conduit and Related Bank in such Lender Group pro rata according to the principal amount of such Construction Loans funded by such CP Conduit and such Related Bank, unless otherwise agreed by such CP Conduit and such Related Bank and advised to Administrative Agent. Each payment of interest to a Lender Group with respect to Construction Loans made by such Lender Group shall be allocated to the CP Conduit and to the Related Bank funding the Construction Loans with respect to which such interest was paid, provided that if such payment is not sufficient to pay all interest then due and payable with respect to Construction Loans made by such Lender Group, such payment of interest shall be shared among the CP Conduit and Related Bank in such Lender Group funding the Construction Loans with respect to which such interest is then due and payable pro rata according to the principal amount of such Construction Loans.

        2.7    Change of Circumstances.

        2.7.1    Inability to Determine Rates.    If, on or before the first day of any Interest Period for any LIBOR Loans, (a) Administrative Agent determines (which determination shall be conclusive absent manifest error) that the LIBO Rate for such Interest Period cannot be adequately and reasonably determined due to the unavailability of funds in or other circumstances affecting the London interbank market, or (b) Banks and Lender Groups holding aggregate Proportionate

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Shares of 33¹/3% or more of the Commitment under which such LIBOR Loans (other than CP Conduit Funded LIBOR Construction Loans) are being made shall advise Administrative Agent that (i) the rates of interest for such LIBOR Loans do not adequately and fairly reflect the cost to such Banks or the Related Banks in such Lender Groups of making or maintaining such Loans or (ii) deposits in Dollars in the London interbank market are not available to such Banks or Related Banks (as conclusively certified by each such Bank or Related Bank in good faith in writing to Administrative Agent and to Borrower) in the ordinary course of business in sufficient amounts to make and/or maintain such LIBOR Loans, Administrative Agent shall immediately give notice of such condition to Borrower, the Banks and the Lender Group Agents on behalf of their respective Lender Groups by telephone or facsimile. After the giving of any such notice and until Administrative Agent shall otherwise notify Borrower, the Banks and the Lender Group Agents on behalf of their respective Lender Groups that the circumstances giving rise to such condition no longer exist, Borrower's right to request the making of or conversion to, and the obligations of each Bank and each Lender Group to make or convert to, LIBOR Loans shall be suspended. Any LIBOR Loans outstanding at the commencement of any such suspension shall be converted at the end of the then current Interest Period for such Loans into Base Rate Loans unless such suspension has ended.

        2.7.2    Illegality.    If, after the date of this Agreement, the adoption of any Governmental Rule, any change in any Governmental Rule or the application or requirements thereof (whether such change occurs in accordance with the terms of such Governmental Rule as enacted, as a result of amendment, or otherwise), any change in the interpretation or administration of any Governmental Rule by any Governmental Authority, or compliance by any Bank or Related Bank or by Borrower with any request or directive (whether or not having the force of law) of any Governmental Authority (a "Change of Law") shall make it unlawful or impossible for any Bank or Related Bank to make or maintain any LIBOR Loan, such Bank or Related Bank shall immediately notify Administrative Agent and Borrower of such Change of Law. Upon receipt of such notice, (a) Borrower's right to request the making of or conversion to, and such Bank's and such Related Bank's obligation to make or convert to, LIBOR Loans shall be suspended for so long as such condition shall exist, and (b) Borrower shall, at the request of such Bank or Related Bank, either (i) pursuant to Section 2.1.7, convert any then outstanding LIBOR Loans (other than CP Conduit Funded LIBOR Construction Loans) into Base Rate Loans at the end of the current Interest Periods for such Loans, or, with respect to CP Conduit Funded LIBOR Construction Loans, notify each applicable Lender Group Agent that such CP Conduit Funded LIBOR Construction Loans shall be converted into Base Rate Construction Loans at the end of the current Interest Periods, or (ii) if such Bank or Related Bank shall notify Borrower that such Bank or Related Bank may not lawfully continue to fund and maintain such Loans, immediately repay such Loans pursuant to Section 2.1.8 or convert such Loans into Base Rate Loans. Any conversion or prepayment of LIBOR Loans made pursuant to the preceding sentence prior to the last day of an Interest Period for such Loans shall be deemed a prepayment thereof for purposes of Section 2.8.

        2.7.3    Increased Costs.    If, after the date of this Agreement, any Change of Law:

        (a)  Shall subject any Bank or any Lender Group Member to any tax, duty or other charge with respect to any LIBOR Loan or Commitment, or shall change the basis of taxation of payments by Borrower to any Bank or any Lender Group Member on any LIBOR Loan or with respect to any Commitment (except for Taxes, Other Taxes or changes in the rate of taxation on the overall net income of any Bank or Lender Group Member); or

        (b)  Shall impose, modify or hold applicable any reserve, special deposit or similar requirement (without duplication of any reserve requirement included within the applicable interest rate through the definition of "Reserve Requirement") against assets held by, deposits

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or other liabilities in or for the account of, advances or loans by, or any other acquisition of funds by any Bank or any Lender Group Member for any LIBOR Loan; or

        (c)  Shall impose on any Bank or any Lender Group Member any other condition directly related to any LIBOR Loan or Commitment;

and the effect of any of the foregoing is to increase the cost to such Bank or such Lender Group Member of making, issuing, creating, renewing, participating in (subject to the limitations in Section 9.13) or maintaining any such LIBOR Loan or Commitment or to reduce any amount receivable by or on behalf of such Bank or such Lender Group Member hereunder, then Borrower shall from time to time, upon demand by such Bank or such Lender Group Member, pay to such Bank or such Lender Group Member additional amounts sufficient to reimburse such Bank or such Lender Group Member for such increased costs or to compensate such Bank or such Lender Group Member for such reduced amounts. A certificate setting forth in reasonable detail the amount of such increased costs or reduced amounts and the basis for determination of such amount, submitted by such Bank or such Lender Group Member to Borrower, shall, in the absence of manifest error, be conclusive and binding on Borrower for purposes of this Agreement. Notwithstanding anything to the contrary in this Section 2.7.3, no Lender Group (taken as a whole), shall receive any greater amount with respect to such increased costs or such reduced amounts than it would have received had it been a Bank.

        2.7.4    Capital Requirements.    If any Bank or any Lender Group Member determines that (a) any Change of Law after the date of this Agreement increases the amount of capital required or expected to be maintained by such Bank or such Lender Group Member (or the Lending Office of such Bank or such Lender Group Member) or any Person controlling such Bank or such Lender Group Member (a "Capital Adequacy Requirement") and (b) the amount of capital maintained by such Bank, such Lender Group Member or such Person which is attributable to or based upon the Loans, the Commitments or this Agreement must be increased as a result of such Capital Adequacy Requirement (taking into account the policies of such Bank, such Lender Group Member or such Person with respect to capital adequacy), Borrower shall pay to Administrative Agent on behalf of such Bank, such Lender Group Member or such Person, upon demand of Administrative Agent on behalf of such Bank, such Lender Group Member or such Person, such amounts as such Bank, such Lender Group Member or such Person shall reasonably determine are necessary to compensate such Bank, such Lender Group Member or such Person for the increased costs to such Bank, such Lender Group Member or such Person of such increased capital. A certificate of such Bank, such Lender Group Member or such Person, setting forth in reasonable detail the computation of any such increased costs, delivered to Borrower by Administrative Agent on behalf of such Bank, such Lender Group Member or such Person shall, in the absence of manifest error, be conclusive and binding on Borrower for purposes of this Agreement. Notwithstanding anything to the contrary in this Section 2.7.4, no Lender Group (taken as a whole), shall receive any greater amount with respect to such increased costs than it would have received had it been a Bank.

        2.7.5    Notice; Participating Banks' and Lender Group Members' Rights.    Each applicable Bank or applicable Lender Group Member will notify Borrower of any event occurring after the date of this Agreement that will entitle such Bank or such Lender Group Member to compensation pursuant to this Section 2.7, as promptly as practicable, and in no event later than 180 days after the principal officer of such Bank or such Lender Group Member responsible for administering this Agreement obtains knowledge thereof; provided that any failure of any such Bank or such Lender Group Member to notify Borrower within such 180 day period shall not relieve Borrower of its obligation under this Section 2.7 with respect to claims arising prior to the end of such period, but shall relieve Borrower of its obligations under this Section 2.7 with respect to the time between the end of such period and such time as Borrower receives notice from the indemnitee as

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provided herein. No Person purchasing from a Bank a participation in any Commitment (as opposed to an assignment) shall be entitled to any payment from or on behalf of Borrower pursuant to Section 2.7.3 or 2.7.4 which would be in excess of the applicable proportionate amount (based on the portion of the Commitment in which such Person is participating) which would then be payable to such Bank if such Bank had not sold a participation in that portion of such Commitment. No Person purchasing from a Related Bank a participation in any Parallel Funding Commitment (as opposed to an assignment) shall be entitled to any payment from or on behalf of Borrower pursuant to Section 2.7.3 or 2.7.4 which would be in excess of the applicable proportionate amount (based on the portion of the Parallel Funding Commitment in which such Person is participating) which would then be payable to such Related Bank if such Related Bank had not sold a participation in that portion of such Parallel Funding Commitment.

        2.8    Funding Losses.    If Borrower shall (a) repay or prepay any LIBOR Loans on any day other than the last day of an Interest Period for such Loans (whether an Optional Prepayment or a Mandatory Prepayment), (b) fail to borrow any LIBOR Loans in accordance with a Notice of Borrowing delivered to Administrative Agent (whether as a result of the failure to satisfy any applicable conditions or otherwise), (c) fail to convert any Loans into LIBOR Loans in accordance with a Notice of Conversion of Loan Type delivered to Administrative Agent (whether as a result of the failure to satisfy any applicable conditions or otherwise), (d) fail to continue a LIBOR Loan in accordance with a Confirmation of Interest Period Selection delivered to Administrative Agent or (e) fail to make any prepayment in accordance with any notice of prepayment delivered to Administrative Agent, Borrower shall, upon demand by any Bank or any Lender Group Member, reimburse such Bank or such Lender Group Member for all costs and losses incurred by such Bank or such Lender Group Member as a result of such repayment, prepayment or failure ("Liquidation Costs"). Borrower understands that such costs and losses may include losses incurred by a Bank or a Lender Group Member as a result of funding and other contracts entered into by such Bank or such Lender Group Member to fund LIBOR Loans. Each Bank and each Lender Group Member demanding payment under this Section 2.8 shall deliver to Borrower a certificate setting forth in reasonable detail the basis for and the amount of costs and losses for which demand is made. Any such certificate delivered to Borrower shall, in the absence of manifest error, be conclusive and binding on Borrower for purposes of this Agreement. For purposes of this Section 2.8, with respect to each LIBOR Loan that is or is to be a CP Conduit Funded LIBOR Construction Loan, each Lender Group Member shall be deemed to have costs and losses equal to costs and losses that would have been incurred by such Lender Group Member had it been a Bank.

        2.9    Alternate Office; Minimization of Costs.

        2.9.1    To the extent reasonably possible, each Bank and each Related Bank shall designate an alternative Lending Office with respect to its LIBOR Loans and otherwise take any reasonable actions to reduce any liability of Borrower to any Bank or any Related Bank under Section 2.5.4, 2.7.3 or 2.7.4, or to avoid the unavailability of any Type of Loans under Section 2.7.2 so long as such Bank or such Related Bank, in its sole discretion, determines that (a) such designation is not disadvantageous to such Bank or such Related Bank and (b) solely with respect to liabilities under Section 2.7.3 or 2.7.4, that such actions would eliminate or reduce any such liability. Borrower hereby agrees to pay all reasonable costs and expenses incurred by any such Bank or such Related Bank in connection with any such designation or actions. Each CP Conduit shall at all times maintain a Lending Office located in the United States with respect to its LIBOR Loans.

        2.9.2    If and with respect to each occasion that a Bank or a Lender Group Member either makes a demand for compensation pursuant to Section 2.5.4, 2.7.3 or 2.7.4 or is unable to fund LIBOR Loans pursuant to Section 2.7.2 or such Bank or such Lender Group Member wrongfully fails to fund a Loan, Borrower may, upon at least five Banking Days' prior irrevocable written notice to such Bank and Administrative Agent or such Lender Group Member and the applicable Lender Group Agent, as the case may be, in whole permanently replace the Commitments of such Bank or the applicable Lender Group; provided that Borrower shall replace such Commitments with the Commitments of a commercial bank reasonably satisfactory to Administrative Agent, and

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with respect to the Working Capital/Project LC Commitment and the DSR LC Commitment, Borrower shall replace such Commitments with the Commitments of a Bank that is rated at least Baa3 by Moody's and at least BBB- by S&P. Such replacement Bank shall upon the effective date of replacement purchase the Obligations owed to such replaced Bank for the aggregate amount thereof and shall thereupon for all purposes become a "Bank" hereunder. Such notice from Borrower shall specify an effective date for the replacement of such Bank's or such Lender Group's Commitments, which date shall not be later than the tenth day after the day such notice is given. On the effective date of any replacement of such Bank's or such Lender Group's Commitments pursuant to this Section 2.9.2, Borrower shall pay to Administrative Agent for the account of such Bank or such Lender Group (a) any fees due to such Bank or such Lender Group to the date of such replacement, (b) the principal of and accrued interest on the principal amount of outstanding Loans and Reimbursement Obligations held by such Bank and on outstanding Construction Loans held by such Lender Group to the date of such replacement, (c) the amount or amounts requested by such Bank or such Lender Group Member in such Lender Group pursuant to each of Sections 2.5.4, 2.7.3 and 2.7.4, as applicable, and (d) any other amount then payable hereunder to such Bank or such Lender Group. Borrower will remain liable to such replaced Bank or such replaced Lender Group (or any member thereof) for any Liquidation Costs that such Bank or such Lender Group (or any member thereof) may sustain or incur as a consequence of repayment of its Loans (unless such Bank or such Lender Group has defaulted on its obligation to fund a Loan hereunder). Upon the effective date of purchase of any Bank's Loans and Reimbursement Obligations and termination of such Bank's Commitments pursuant to this Section 2.9.2, such Bank shall cease to be a Bank hereunder, and upon the effective date of purchase of any Lender Group's Construction Loans and termination of such Lender Group's Construction Loan Commitment pursuant to this Section 2.9.2, such Lender Group shall cease to be a Lender Group hereunder. No such termination of any such Bank's Commitments and the purchase of such Bank's Loans and Reimbursement Obligations pursuant to this Section 2.9.2 shall affect (i) any liability or obligation of Borrower or any other Bank or Lender Group to such terminated Bank which accrued on or prior to the date of such termination or (ii) such terminated Bank's rights hereunder in respect of any such liability or obligation. No such termination of such Lender Group's Construction Loan Commitment and the purchase of such Lender Group's Construction Loans pursuant to this Section 2.9.2 shall affect (i) any liability or obligation of Borrower or any Bank or Lender Group to such terminated Lender Group which accrued on or prior to the date of such termination or (ii) the rights of such terminated Lender Group (or any member thereof) hereunder in respect of any such liability or obligation.

        2.9.3    Upon written notice to Administrative Agent and Borrower, any Bank or Lender Group Member may designate a Lending Office other than that set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action to give effect to such designation on the date Administrative Agent receives such notice) and may assign all of its interests under the Credit Documents to such Lending Office; provided that such designation and assignment do not at the time of such designation and assignment increase the reasonably foreseeable liability of Borrower to such Bank or Lender Group Member under Section 2.5.4, 2.7.3, or 2.7.4 or make an interest rate option unavailable pursuant to Section 2.7.2.

ARTICLE 3.
CONDITIONS PRECEDENT

        3.1    Conditions Precedent to the Closing Date.    The effectiveness of this Agreement, the obligations of Administrative Agent hereunder and the obligations of each Bank and each Lender Group hereunder shall be subject to the fulfillment (or written waiver by Administrative Agent with the

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consent of each of the Banks and each of the Lender Groups) of each of the following conditions precedent:

        3.1.1    Resolutions.    Delivery to Administrative Agent of a copy of one or more resolutions or other authorizations, in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, of the board of directors or other similar governing body of each of Borrower and NEG, authorizing, as applicable, the Borrowings herein provided for and the execution, delivery and performance of this Agreement, the other Operative Documents and any instruments or agreements required hereunder or thereunder to which such Person is a party, certified by the appropriate Responsible Officer of each such Person as being in full force and effect on the Closing Date.

        3.1.2    Incumbency.    Delivery to Administrative Agent of a certificate, in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, from each of Borrower and NEG, signed by the appropriate Responsible Officer of each such Person and dated the Closing Date, as to the incumbency of the natural Persons authorized to execute and deliver this Agreement and the other Operative Documents and any instruments or agreements required hereunder or thereunder to which such Person is a party.

        3.1.3    Formation Documents.    Delivery to Administrative Agent of (a) copies of the certificate of formation, articles of incorporation or other state certified constituent documents of each of Borrower and NEG, certified by the secretary of state of the state of such Person's formation or incorporation, and (b) copies of the limited liability company operating agreement, bylaws or other comparable constituent documents of each of Borrower and NEG, certified by the appropriate Responsible Officer of each such Person as being true, correct and complete on the Closing Date.

        3.1.4    Good Standing Certificates.    Delivery to Administrative Agent of certificates issued by the secretary of state of the state in which each of Borrower and NEG is formed or incorporated, together with certificates issued by the secretary of state in each other jurisdiction where either such Person is qualified to do business, in each case (a) dated no more than five days prior to the Closing Date and (b) certifying that such Person is in good standing and is qualified to do business in, and has paid all franchise taxes or similar taxes due to, such states.

        3.1.5    Credit Documents.    Delivery to Administrative Agent of a true, correct and complete original of each of the following documents:

        (a)  this Agreement;

        (b)  each applicable Note;

        (c)  the Borrower Security Agreement;

        (d)  the Depositary Agreement; and

        (e)  the NEG Equity Guaranty.

Each Credit Document specified above shall be in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups and shall have been duly authorized, executed and delivered by the parties thereto.

        3.1.6    UCC Reports.    Delivery to Administrative Agent of a UCC report dated as of a date no more than five Banking Days before the Closing Date for each of the jurisdictions in which UCC-1 financing statements are intended to be filed in respect of the Borrower Collateral, confirming that upon due filing (assuming such filing occurred on the date of such respective reports) the security interests created under the Borrower Collateral Documents will be prior to all other financing statements or other security documents wherein the security interest is perfected by filing in respect of the Borrower Collateral, other than financing statements or other security

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documents evidencing security interests that will be released and/or discharged on or prior to the Closing Date.

        3.1.7    UCC Filings.    Each of the documents and instruments set forth in Part I of Exhibit D-5 hereto shall have been (a) delivered to Administrative Agent for recording or filing or (b) recorded or filed in the respective places or offices set forth in Part I of Exhibit D-5 hereto and, in each such case, any and all taxes, recording and filing fees with respect thereto shall have been paid (or, as approved by each of the Banks and each of the Lender Groups, provided for), and each of the other actions set forth in Part I of Exhibit D-5 hereto shall have been taken.

        3.1.8    Closing Certificates of Borrower and NEG.    Delivery to Administrative Agent of (a) a certificate, dated as of the Closing Date, duly executed by a Responsible Officer of Borrower, in substantially the form of Exhibit F-1A hereto, and (b) a certificate, dated as of the Closing Date, duly executed by a Responsible Officer of NEG, in substantially the form of Exhibit F-1B.

        3.1.9    Legal Opinions.    Delivery to Administrative Agent of legal opinions of counsel to Borrower and NEG, in each case in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups.

        3.1.10    Preliminary Project Budgets.    Delivery to Administrative Agent of a preliminary project budget for each Project that will not be an Approved Project as of the Closing Date, showing all anticipated Project Costs to be incurred for such Project, including all construction and non-construction costs, all interest, taxes and other carrying costs, all non-allocated costs of Borrower or the applicable Project Company, and such other information as the Banks may require, together with a balanced statement of sources (including an allocation between Loan proceeds and Committed Equity Contributions) and uses of proceeds (and any other funds necessary to complete each such Project), broken down as to separate construction phases and components, which preliminary project budget shall be in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups and will be attached as Exhibit G-2 hereto.

        3.1.11    Preliminary Project Schedules.    Delivery to Administrative Agent of a preliminary schedule for construction and completion of each Project that will not be an Approved Project as of the Closing Date, which schedule shall be in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups and will be attached as Exhibit G-2 hereto.

        3.1.12    Base Case Project Projections.    Delivery to Administrative Agent of (a) Base Case Project Projections for each of the Projects (taken individually), (b) Base Case Project Projections for all of the Projects (taken as a whole), showing minimum and average annual projected Debt Service Coverage Ratios over the period set forth in the Base Case Project Projections of no less than 2.0 to 1.0 and 3.0 to 1.0, respectively, and (c) the calculation of the Debt to Capitalization Ratio necessary to achieve the Debt Service Coverage Ratios described in clause (b) immediately above, which shall not be greater than 0.60 to 1.0, each of which shall be in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups and will be attached as Exhibit G-2 hereto.

        3.1.13    Financial Statements.    Delivery to Administrative Agent of true, correct and complete copies of (a) audited financial statements of NEG for the fiscal year ending December 31, 2000, conforming to the requirements set forth in Section 5.3(b), and (b) unaudited financial statements of NEG and Borrower as at September 30, 2001, conforming to the requirements set forth in Section 5.3(a), in each case in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, together with a certificate from the appropriate Responsible Officer of the applicable Person, stating that such financial statements have been prepared in conformity with GAAP and fairly present, in all material respects, the financial position (on a consolidated and, where applicable, consolidating basis) of such Person described in such financial statements as at the respective dates thereof and the results of operations and cash flows (on a consolidated and,

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where applicable, consolidating basis) of such Person described therein for each of the periods then ended, subject, in the case of any such unaudited financial statements, to changes resulting from audit and normal year-end adjustments.

        3.1.14    Establishment of Accounts.    The Accounts shall have been established to the reasonable satisfaction of each of the Banks and each of the Lender Groups.

        3.1.15    Payment of Bank and Consultant Fees.    Borrower shall have paid or caused NEG to have paid, as the case may be, all outstanding amounts due and owing to (i) the Banks, the Lender Groups, the LC Bank, Administrative Agent, the Depositary Agent and the Arrangers under the Mandate Letter, the Alternative Funding Mandate Letter, the Fee Letter, the Depositary Agent Fee Letter and the LC Fee Letter, or pursuant to Section 2.4, and (ii) the Banks' and Lender Groups' attorneys and consultants (including the Independent Consultants), for all services rendered and billed prior to the Closing Date.

        3.1.16    Independent Engineer's Final Draft Report and Certificate.    Delivery to Administrative Agent of a final draft Independent Engineer's report with respect to each Project that will not be an Approved Project as of the Closing Date, in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, together with a certificate of the Independent Engineer in substantially the form of Exhibit F-5A hereto, dated the Closing Date.

        3.1.17    Fuel Consultant's and Power Market Consultant's Final Reports and Certificates.

        (a)  Delivery to Administrative Agent of a final Fuel Consultant's report with respect to each Project, in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, together with a certificate of the Fuel Consultant in substantially the form of Exhibit F-6A hereto, dated the Closing Date.

        (b)  Delivery to Administrative Agent of a final Power Market Consultant's report with respect to each Project, in form and substance reasonably satisfactory to each of the Banks and each of the Lender Groups, together with a certificate of the Power Market Consultant in substantially the form of Exhibit F-7A hereto, dated the Closing Date.

        3.1.18    Approved Projects.    Each of the Millennium Project and at least two other Projects shall be Approved Projects as of the Closing Date.

        3.1.19    Agent for Service of Process.    Delivery to Administrative Agent of evidence reasonably satisfactory to each of the Banks and each of the Lender Groups that each of NEG and Borrower has appointed Corporate Service Company as its agent for service of process in the State of New York in respect of each Credit Document to which such Person is a party which is governed by the laws of the State of New York.

        3.1.20    Representations and Warranties.    Each representation and warranty of NEG and Borrower in any Credit Document shall be true and correct as of the Closing Date (unless any such representation and warranty relates solely to an earlier date, in which case it shall have been true and correct as of such earlier date).

        3.1.21    No Defaults.    No Borrower Inchoate Default or Borrower Event of Default shall have occurred and be continuing as of the Closing Date.

        3.1.22    No Material Adverse Change.    Except as set forth in the Information Memorandum, since December 31, 2000 no development, event or change in respect of NEG, Borrower or any Project has occurred that has caused or evidences, either individually or in the aggregate, a Borrower Material Adverse Effect or a Project Material Adverse Effect.

        3.1.23    No Litigation.

        (a)  Except as set forth in Exhibit G-5B or the Information Memorandum, there shall be no (i) injunction, writ, preliminary restraining order or other order of any nature by an

39

arbitrator, court or any other Governmental Authority, or (ii) action, suit, arbitration, investigation or proceeding at law or in equity by or before any arbitrator, court or any other Governmental Authority, pending against Borrower or, to Borrower's actual knowledge, threatened against Borrower or any property or other assets or rights of Borrower.

        (b)  Except as set forth in Exhibit G-5B or the Information Memorandum, there shall be no (i) injunction, writ, preliminary restraining order or other order of any nature by an arbitrator, court or any other Governmental Authority, or (ii) action, suit, arbitration, investigation or proceeding at law or in equity by or before any arbitrator, court or any other Governmental Authority, pending against NEG or, to Borrower's actual knowledge, threatened against NEG or any property or other assets or rights of NEG, except in each case that would not reasonably be expected to have a Borrower Material Adverse Effect.

        3.1.24    No Change in Tax Laws.    No change shall have been adopted, since the date on which this Agreement was executed and delivered, in any tax law or tax regulation or judicial interpretation thereof that would subject Administrative Agent, any Bank or any Lender Group Member to any material unreimbursed Tax or Other Tax (other than Taxes or Other Taxes for which Borrower is not required to indemnify such Lender Group Member pursuant to Section 2.5.4).

        3.2    Conditions Precedent to the Initial Borrowing of Construction Loans for a Project.    The obligation of the Banks and the Lender Groups to make the initial Construction Loans with respect to a Subject Project on a proposed Credit Event Date is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent:

        3.2.1    Credit Event Conditions.    Each of the conditions precedent set forth in Section 3.12 shall have been satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        3.2.2    Initial Project or Approved Substitute Project.    The Subject Project is (a) an Initial Project or (b) a Substitute Project that has been substituted for an Initial Project in accordance with Section 3.11.

        3.2.3    Adjustment Date.    The Credit Event Date is on or prior to the Adjustment Date.

        3.2.4    Resolutions.    Delivery to Administrative Agent of a copy of one or more resolutions or other authorizations, in form and substance reasonably satisfactory to Administrative Agent, of the board of directors or other similar governing body of the Subject Project Company, each Subject Intermediate Holding Company and each of the other applicable Affiliated Major Project Participants, authorizing the execution, delivery and performance of the Operative Documents with respect to the Subject Project and any instruments or agreements required hereunder or thereunder to which such Person is a party, certified by the appropriate Responsible Officer of each such Person as being in full force and effect on the Credit Event Date.

        3.2.5    Incumbency.    Delivery to Administrative Agent of a certificate, in form and substance reasonably satisfactory to Administrative Agent, from the Subject Project Company, each Subject Intermediate Holding Company and each of the other applicable Affiliated Major Project Participants, signed by the appropriate Responsible Officer of each such Person and dated the Credit Event Date, as to the incumbency of the natural Persons authorized to execute and deliver the Operative Documents with respect to the Subject Project and any instruments or agreements required hereunder or thereunder to which such Person is a party.

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        3.2.6    Formation Documents.    Delivery to Administrative Agent of (a) copies of the articles of incorporation or certificate of incorporation, certificate of formation or charter or other state certified constituent documents of the Subject Project Company, each Subject Intermediate Holding Company and each of the other applicable Affiliated Major Project Participants, certified by the secretary of state of such Person's state of formation or incorporation, and (b) copies of the limited liability company agreement, bylaws or other comparable constituent documents of each such Person, certified by the appropriate Responsible Officer of each such Person.

        3.2.7    Good Standing Certificates.    Delivery to Administrative Agent of certificates issued by the secretary of state of the state in which the Subject Project Company, each Subject Intermediate Holding Company and each of the other applicable Affiliated Major Project Participants are formed or incorporated, together with certificates issued by the secretary of state of the state where the Subject Project is located, in each case (a) dated no more than five days prior to the Credit Event Date and (b) certifying that such Person is in good standing and is qualified to do business in, and has paid all franchise taxes or similar taxes due to, such states.

        3.2.8    Operative Documents.

        (a)  Delivery to Administrative Agent of (i) a true, correct and complete original of a Project Company Guaranty duly executed by the Subject Project Company, and (ii) a true, correct and complete original of each Intercompany Note in respect of the on-lending of Loan proceeds from Borrower to the Subject Project Company (either directly or through the applicable Approved Intermediate Holding Companies) duly executed by Borrower and the Subject Project Company and/or the applicable Approved Intermediate Holding Companies.

        (b)  Delivery to Administrative Agent of true, correct and complete originals of (i) a Project Company Security Agreement duly executed by the Subject Project Company, (ii) a Mortgage duly executed by the Subject Project Company, (iii) Pledge Agreements with respect to the equity interests in the Subject Project Company and the equity interests in the Subject Intermediate Holding Companies, duly executed by the Subject Intermediate Holding Companies or Borrower, as applicable, and (iv) all other documents, instruments, supplements or amendments necessary to create a valid and perfected first priority Lien on all Project Company Collateral related to the Subject Project, Subject Project Company or Subject Intermediate Holding Companies then in existence.

        (c)  Delivery to Administrative Agent of true, correct and complete originals of the Interest Rate Agreement(s) required by Section 5.13.1.

        (d)  Delivery to Administrative Agent of a true, correct and complete original of one or more joinder agreements, in substantially the form of Exhibit B to the Depositary Agreement, duly executed by the Subject Project Company and the Subject Intermediate Holding Companies.

        (e)  Delivery to Administrative Agent of a true, correct and complete original of a subordination agreement in form and substance reasonably satisfactory to the Majority Banks for each Project Document with respect to the Subject Project under which Subordinated Affiliate Fees are payable.

        (f)    Delivery to Administrative Agent of true, correct and complete copies of each Major Project Document with respect to the Subject Project in effect as of the Credit Event Date, together with a certificate of a Responsible Officer of Borrower stating that: (i) such copies are true, correct and complete copies of all material contracts (other than the Credit Documents) related to the Subject Project as in effect on the Credit Event Date; (ii) all of such Major Project Documents are in full force and effect as of the Credit Event Date; (iii) the Subject Project Company has not received notice of any default of the Subject Project

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Company under any of such Major Project Documents; (iv) to Borrower's actual knowledge, no other party to any of such Major Project Documents is or, but for the passage of time or the giving of notice will be, in breach of any material obligation thereunder; and (v) all conditions precedent to the performance of the parties under such Major Project Documents then required to have been performed have been satisfied.

        (g)  Delivery to Administrative Agent of a true, correct and complete original of a Consent executed by each Major Project Participant for the Subject Project listed on Exhibit W-1, in substantially the form of Exhibit E hereto (or otherwise in form and substance reasonably satisfactory to the Majority Banks).

        (h)  Delivery to Administrative Agent of true, correct and complete copies of (i) all shared use agreements and/or joint ownership agreements reasonably requested by the Majority Banks evidencing the Subject Project Company's interests, rights and obligations with respect to any shared facilities incorporated into or used with respect to the Subject Project, and (ii) all intercreditor agreements and/or non-disturbance agreements reasonably requested by the Majority Banks establishing the relative rights and remedies between Administrative Agent and any other Persons with interests in any such shared facilities or other properties incorporated into or used with respect to the Subject Project, in each case in form and substance reasonably satisfactory to the Majority Banks.

        (i)    Delivery to Administrative Agent of true, correct and complete copies of all documents reasonably requested by the Majority Banks to effect the contribution to Borrower of the equity interests in the Subject Intermediate Holding Companies on the Credit Event Date.

Unless otherwise specified above, all the Operative Documents specified above shall be in form and substance reasonably satisfactory to the Majority Banks and shall have been duly authorized, executed and delivered by the parties thereto.

        3.2.9    UCC Reports.    Delivery to Administrative Agent of a UCC report dated as of a date no more than five days prior to the Credit Event Date for each of the jurisdictions in which UCC-1 financing statements are intended to be filed in respect of the Project Company Collateral related to the Subject Project, Subject Project Company or Subject Intermediate Holding Companies, confirming that upon due filing (assuming such filing occurred on the date of such respective reports) the security interests created under the Project Company Collateral Documents will be prior to all other financing statements or other security documents wherein the security interest is perfected by filing in respect of such Project Company Collateral, other than (a) financing statements or other security documents evidencing security interests that will be released and/or discharged on or prior to the Credit Event Date and (b) financing statements or other security documents evidencing Project Company Permitted Liens.

        3.2.10    UCC Filings.

        (a)  Borrower shall have delivered to Administrative Agent a supplement to Exhibit D-5 hereto (which Exhibit shall be automatically amended without further action to give effect to such supplement on the Credit Event Date) reflecting the filings and recordings required to be made to perfect security interests in the Project Company Collateral related to the Subject Project, which supplement shall be in form and substance reasonably satisfactory to the Majority Banks.

        (b)  All actions (including the actions described on the applicable Part of Exhibit D-5) shall have been taken to provide Administrative Agent, for the benefit of the Secured Parties, with a valid and perfected first priority Lien on all Project Company Collateral related to the Subject Project, Subject Project Company or Subject Intermediate Holding Companies then in

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existence (subject to Project Company Permitted Liens), including, to the extent necessary, (i) the filing of UCC-1, UCC-2 or UCC-3 financing statements, as applicable, with respect to such Project Company Collateral with the secretary of state and/or other appropriate filing office in the state in which the Subject Project is located, in the state of formation of the Subject Project Company or Subject Intermediate Holding Companies or the state in which the Subject Project Company's or Subject Intermediate Holding Companies' principal place of business is located, (ii) the execution, delivery and recordation of the applicable Mortgage(s) and (iii) the filing of fixture filings with respect to the Subject Project.

        3.2.11    Incremental Commitments and/or Permitted Additional Equity.    If the Subject Project is the fourth Project to become an Approved Project hereunder (other than in connection with the substitution of a Substitute Project for an Approved Project in accordance with Section 3.11), the aggregate amount of (a) Incremental Commitments plus (b) at the election of Borrower in its sole discretion, Permitted Additional Equity, as of March 31, 2002 and as of the Credit Event Date, shall be at least $625,000,000.

        3.2.12    Legal Opinions.

        (a)  Delivery to Administrative Agent of legal opinions of counsel to each Credit Party and each other Affiliated Major Project Participant that is a party to an Operative Document delivered pursuant to Section 3.2.8, in each case in form and substance reasonably satisfactory to the Majority Banks.

        (b)  Delivery to Administrative Agent of legal opinions of counsel to each Major Project Participant listed on Exhibit W-2 that is a party to a Major Project Document delivered pursuant to Section 3.2.8, in each case in substantially the form of Exhibit B to Exhibit E hereto (or otherwise in form and substance reasonably satisfactory to the Majority Banks).

        3.2.13    Insurance.    Insurance with respect to the Subject Project complying with Exhibit M to the applicable Project Company Guaranty shall be in full force and effect and Administrative Agent shall have received: (i) a certificate of the Insurance Consultant substantially in the form of Exhibit F-4 with respect to the Subject Project; (ii) a report of the Insurance Consultant describing the insurance program for the Subject Project, in form and substance reasonably satisfactory to the Majority Banks; (iii) insurance brokers' certificates evidencing such insurance program, in form and substance reasonably satisfactory to the Majority Banks, identifying underwriters, types of insurance, insurance limits and policy terms, listing the special provisions required as set forth in Exhibit M to the applicable Project Company Guaranty, and stating that such insurance is in full force and effect and that all premiums then due thereon have been paid; and (iv) certified copies of all policies evidencing such insurance (or a binder or commitment signed by the insurer or a broker authorized to bind the insurer) in form and substance reasonably satisfactory to the Majority Banks.

        3.2.14    Independent Engineer's Final Report and Certificate.    Delivery to Administrative Agent of a final Independent Engineer's report with respect to the Subject Project, in form and substance reasonably satisfactory to the Majority Banks, together with a certificate of the Independent Engineer in substantially the form of Exhibit F-5B hereto, dated the Closing Date.

        3.2.15    Reports of the Environmental Consultant.    Delivery to Administrative Agent of (a) the Environmental Consultant's Phase I report(s) with respect to the Subject Project in form and substance reasonably satisfactory to the Majority Banks, together with a corresponding reliance letter from the Environmental Consultant (which letter shall be in form and substance reasonably satisfactory to Administrative Agent), confirming that no evidence was found of a Release at the Subject Project (including the Site thereof), or (b) if evidence was found of a Release at the Subject Project (including the Site thereof) pursuant to such Phase I environmental report(s) or such report(s) otherwise recommend a Phase II environmental review, (i) a Phase II environmental

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report with respect to the Subject Project (including the Site thereof) in form and substance reasonably satisfactory to the Majority Banks, together with a corresponding reliance letter from the Environmental Consultant (which letter shall be in form and substance reasonably satisfactory to Administrative Agent), confirming (to the reasonable satisfaction of Administrative Agent in the case of clause (A), and to the reasonable satisfaction of the Majority Banks in the case of clause (B)), either (A) that no Release has occurred at the Subject Project (including the Site thereof), or (B) if a Release has occurred at the Subject Project (including the Site thereof), that such Release either does not trigger any reporting or remediation obligations or has been remediated to acceptable regulatory levels, or (ii) an environmental indemnity agreement in form and substance reasonably satisfactory to the Majority Banks.

        3.2.16    Updated Fuel Consultant's Report and Certificate.    If the Initial Credit Event Date with respect to the Subject Project is after the Closing Date, delivery to Administrative Agent of a certificate of the Fuel Consultant with respect to the Subject Project in substantially the form of Exhibit F-6B hereto, and, if the Fuel Consultant's report with respect to the Subject Project that was delivered on the Closing Date needs to be updated in order for the Fuel Consultant to issue such certificate, such report as so updated in form and substance reasonably satisfactory to the Majority Banks.

        3.2.17    Updated Power Market Consultant's Report and Certificate.    If the Initial Credit Event Date with respect to the Subject Project is after the Closing Date, delivery to Administrative Agent of a certificate of the Power Market Consultant with respect to the Subject Project in substantially the form of Exhibit F-7B hereto, and, if the Power Market Consultant's report with respect to the Subject Project that was delivered on the Closing Date needs to be updated in order for the Power Market Consultant to issue such certificate, such report as so updated in form and substance reasonably satisfactory to the Majority Banks.

        3.2.18    Permits.

        (a)  Delivery to Administrative Agent of the schedule of all material Permits required to develop, construct, own, lease, use, operate and maintain the Subject Project (a "Permit Schedule"), in form and substance reasonably satisfactory to the Majority Banks.

        (b)  Delivery to Administrative Agent of (i) copies of each Permit listed on Part I of such Permit Schedule, each in form and substance reasonably satisfactory to the Majority Banks, and (ii) legal opinions of counsel to the Subject Project Company with respect to the Permits listed on such Permit Schedule, each in form and substance reasonably satisfactory to the Majority Banks. The Permits set forth on Part I of such Permit Schedule shall constitute in the Majority Banks' reasonable opinion all of the material Permits required or customarily obtained for the development, construction, ownership, leasing, use, operation and maintenance of the Subject Project as of the Credit Event Date.

        (c)  Part II of such Permit Schedule shall list all other Permits required to develop, construct, own, lease, use, operate and maintain the Subject Project as contemplated by the Operative Documents. The Permits listed in Part II of such Permit Schedule shall either (i) in the Majority Banks' reasonable opinion, be timely obtainable at a cost consistent with the applicable Project Budget without material difficulty or delay prior to the time such Permits are required for the development, construction, ownership, leasing, use, operation or maintenance of the Subject Project, or (ii) there shall exist alternative solutions (the expected cost of which is reflected in the applicable Project Budget) reasonably satisfactory to the Majority Banks which would eliminate the need for such Permits.

        (d)  Except as disclosed in such Permit Schedule, the Permits listed in Part I of such Permit Schedule shall not be subject to any restriction, condition, limitation or other provision that would reasonably be expected to have a Project Material Adverse Effect with respect to

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the Subject Project Company or result in the Subject Project being operated in a manner substantially inconsistent with the assumptions underlying the Base Case Project Projections most recently delivered hereunder.

        3.2.19    Financial Statements.    Delivery to Administrative Agent of accurate and complete copies of (a) the most recent annual financial statements (audited if available) or Form 10-K filed with the Securities and Exchange Commission and (b) the most recent quarterly financial statements or Form 10-Q filed with the Securities and Exchange Commission, in each case of the Subject Project Company, each other Affiliated Major Project Participant that is a party to an Operative Document delivered pursuant to Section 3.2.8 and each other Major Project Participant listed in Exhibit G-3 with respect to the Subject Project, together with, in the case of the Subject Project Company or such other Affiliated Major Project Participant, certificates from the appropriate Responsible Officer thereof, stating that such financial statements have been prepared in conformity with GAAP and fairly present, in all material respects, the financial position (on a consolidated and, where applicable, consolidating basis) of the Persons described in such financial statements as at the respective dates thereof and the results of operations and cash flows (on a consolidated and, where applicable, consolidating basis) of the Persons described therein for each of the periods then ended, subject, in the case of any such unaudited financial statements, to changes resulting from audit and normal year-end adjustments.

        3.2.20    Base Case Project Projections.    Delivery to Administrative Agent of (a) Base Case Project Projections for the Subject Project, updated from the Base Case Project Projections submitted for the Subject Project pursuant to Section 3.1.12(a), if necessary, (b) Base Case Project Projections for the Subject Project and the other Approved Projects (taken as a whole), using the Base Case Project Projections submitted for such Projects pursuant to this Section 3.2.20, showing minimum and average annual projected Debt Service Coverage Ratios over the period set forth in the Base Case Project Projections of no less than (i) 2.0 to 1.0 and 3.0 to 1.0, respectively, if there are three or four Approved Projects (including the Subject Project), or (ii) 2.25 to 1.0 and 3.25 to 1.0, respectively, if there are two Approved Projects (including the Subject Project), (c) the calculation of the Debt to Capitalization Ratio necessary to achieve the Debt Service Coverage Ratios described in clause (b) immediately above, which shall not be greater than 0.60 to 1.0, and (d) a certificate of a Responsible Officer of each of Borrower and each Equity Party confirming (i) the Total Equity Commitment after giving effect to the Subject Project becoming an Approved Project and (ii) the Available Equity Commitment after giving effect to all Equity Contributions and In Kind Equity Payments made on or prior to the Credit Event Date, each of which shall be in form and substance reasonably satisfactory to the Majority Banks.

        3.2.21    Project Schedules; Project Budgets; Annual Operating Budgets; Borrower Budget.

        (a)  If the Subject Project has not achieved Substantial Completion as of the Credit Event Date, delivery to Administrative Agent of (i) a Project Schedule for the Subject Project, updated from the Project Schedule submitted for the Subject Project pursuant to Section 3.1.11, if any, and (ii) a Project Budget for the Subject Project, updated from the Project Budget submitted for the Subject Project pursuant to Section 3.1.10, if any, in each case in form and substance reasonably satisfactory to the Majority Banks.

        (b)  If the Subject Project has achieved Substantial Completion as of the Credit Event Date, delivery to Administrative Agent of an Annual Operating Budget prepared in a manner consistent with, and in compliance with the requirements of, Section 4.16.2 of the applicable Project Company Guaranty, and otherwise in form and substance reasonably satisfactory to the Majority Banks.

        (c)  Delivery to Administrative Agent of a budget (or an update of the budget previously delivered pursuant to this Section 3.2.21(c), as applicable) showing all anticipated Project Costs

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for the Subject Project and any Approved Project that are not included in the Project Budget for the Subject Project or such Approved Project, which budget (or update thereof) shall be in form and substance reasonably satisfactory to the Majority Banks.

        3.2.22    Real Estate Rights; A.L.T.A. Surveys.    The Majority Banks shall (a) be reasonably satisfied that the Subject Project Company shall have obtained all real estate rights necessary for construction, use and operation of the Subject Project (other than rights that the Majority Banks are reasonably satisfied can be obtained without material difficulty or delay by the time they are needed), and (b) have received A.L.T.A. surveys of the applicable Site and, unless not required by Administrative Agent, the Easements with respect to the Subject Project in existence on the Credit Event Date (which surveys shall be reasonably current and in form and substance reasonably satisfactory to the Majority Banks and the Title Insurer), showing (A) as to such Site, the exact location and dimensions thereof (including the location of all means of access thereto and all Easements relating thereto and showing the perimeter within which all foundations are or are to be located); (B) as to such Easements in existence on the Credit Event Date, the exact location and dimensions thereof (including the location of all means of access thereto, and all improvements or other encroachments in or on such Easements burdening the Subject Project in existence on the Credit Event Date); (C) the existing utility facilities servicing the Subject Project (including water, electricity, gas, telephone, sanitary sewer and storm water distribution and detention facilities); (D) that such existing improvements on the Site do not encroach or interfere with adjacent property or existing Easements or other rights, whether on, above or below ground (or if such existing improvements encroach or interfere with adjacent property or existing Easements or other rights, such encroachment or interference is reasonably acceptable to the Majority Banks); (E) any gaps, gores, projections or protrusions at the Site; and (F) whether such Site or any portion thereof is located in a special earthquake or flood hazard zone; provided, however, that the matters described in clauses (B) and (F) of this subsection (b) may be shown by separate maps, surveys or other manner reasonably satisfactory to the Majority Banks, and the surveyor shall not be required to certify as to the location of any easements, foundations, improvements, encroachments, utilities or other matters which do not exist as of the Credit Event Date.

        3.2.23    Title Policies.    Delivery to Administrative Agent of a lender's A.L.T.A. policy of title insurance (with, in the case of Easements with respect to which A.L.T.A. surveys were not required by Administrative Agent pursuant to Section 3.2.22, appropriate survey exceptions), together with such endorsements as are reasonably required by the Majority Banks and permitted by applicable Governmental Rules (and, in any event, without a mechanics' or materialmen's exception included in such title policy, except where applicable Governmental Rules prevent the deletion of such exception), or commitment to issue such policy, dated as of the Credit Event Date, (1) in an amount equal to the aggregate amount of Project Costs set forth in the Project Budget delivered pursuant to Section 3.2.21 (or such other lesser amount as is reasonably acceptable to the Majority Banks), and (2) with such reinsurance as is reasonably satisfactory to the Majority Banks, issued by the Title Insurer in form and substance reasonably satisfactory to the Majority Banks, insuring (or agreeing to insure) that:

        (a)  the Subject Project Company has a good, marketable and insurable fee or leasehold title to or right to control, occupy and use the Site and the Easements with respect to the Subject Project, free and clear of Liens, encumbrances or other exceptions to title other than Permitted Project Company Liens; and

        (b)  the Mortgage with respect to the Subject Project creates (or will create when recorded) a valid first lien on the Mortgaged Property with respect to the Subject Project, free and clear of all liens, encumbrances and exceptions to title whatsoever (other than those liens, encumbrances and other exceptions to title permitted pursuant to Section 3.2.23(a)).

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        3.2.24    Regulatory Status.    The Subject Project shall be an Eligible Facility and the Subject Project Company shall have received a determination from FERC that it is an Exempt Wholesale Generator. The Subject Project Company shall have obtained authority to sell at wholesale Power, Ancillary Services and, to the extent permitted under its FERC tariff, other products and services at market-based rates. FERC shall not have imposed any rate caps or mitigation measures on the Subject Project Company other than rate caps and mitigation measures generally applicable to similarly situated generators selling Power, Ancillary Services or some combination of the foregoing in the Applicable Markets.

        3.2.25    Notice to Proceed.    If the Subject Project has not achieved Substantial Completion as of the Credit Event Date, the Contractors with respect to the Subject Project shall have been (or shall be concurrently) given an unconditional notice to proceed or otherwise been (or concurrently will be) unconditionally directed to begin performance under the Construction Contracts to which they are a party on or prior to the Credit Event Date, and Administrative Agent shall have received reasonably satisfactory written evidence thereof.

        3.2.26    Utilities.    Delivery to Administrative Agent of evidence reasonably satisfactory to the Majority Banks showing that all gas and electrical interconnection and utility services necessary for the construction and operation of the Subject Project for its intended purposes are available for the Subject Project or will be so available as and when required on commercially reasonable terms consistent with the Project Budget and Project Schedule, or Annual Operating Budget, as the case may be, delivered pursuant to Section 3.2.21 and the Base Case Project Projections delivered pursuant to Section 3.2.20.

        3.2.27    Agent for Service of Process.    Administrative Agent shall have received evidence reasonably satisfactory to the Majority Banks that the Subject Project Company and the Subject Intermediate Holding Companies have appointed Corporate Service Company as their agent for service of process in the State of New York in respect of each Credit Document to which the Subject Project Company or the Subject Intermediate Holding Companies is or are a party which is governed by the laws of the State of New York.

        3.2.28    Conditions Applicable Only to the Subject Project.    Administrative Agent shall have received evidence reasonably satisfactory to the Majority Banks that each of the conditions set forth in Exhibit G-4 with respect to the Subject Project has been satisfied.

        3.3    Conditions Precedent to each Borrowing of Construction Loans.    The obligation of the Banks and the Lender Groups to make each Construction Loan (including the initial Construction Loan for an Approved Project) is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent (provided that the conditions precedent described in Sections 3.3.4, 3.3.6, 3.3.7 and 3.3.10 will not apply to the initial Construction Loan for an Approved Project):

        3.3.1    Credit Event Conditions.    Each of the conditions precedent set forth in Section 3.12 shall have been satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        3.3.2    Approved Project.    The Subject Project shall be an Approved Project as of the Credit Event Date.

        3.3.3    Construction Requisition.    Borrower shall have delivered a Construction Requisition to Administrative Agent in accordance with the procedures specified in Section 2.1.1(b).

        3.3.4    Title Policy Endorsement.    Borrower shall have provided, or Administrative Agent shall be adequately assured that the Title Insurer is committed as of the Credit Event Date to issue to

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Administrative Agent, a date-down endorsement of the relevant Title Policies to the Credit Event Date, (a) insuring or otherwise establishing to the satisfaction of Administrative Agent the continuing first priority of the applicable Mortgage(s) (subject only to Project Company Permitted Liens), and (b) otherwise in form and substance reasonably satisfactory to Administrative Agent.

        3.3.5    Lien Releases.    If requested by Administrative Agent and subject to the Subject Project Company's right to contest liens as described in the definition of "Project Company Permitted Liens", Borrower shall have delivered to Administrative Agent duly executed acknowledgments of payments and releases of mechanics' and materialmen's liens, in form and substance reasonably satisfactory to Administrative Agent, from each relevant Contractor and Major Subcontractor thereof (to the extent such Major Subcontractor is in direct privity with the Subject Project Company) for all work, services and materials (including equipment and fixtures of all kinds) done, previously performed or furnished for the construction of the Subject Project; provided, however, that such releases may be conditioned upon receipt of payment with respect to work, services and materials to be paid for with the proceeds of the requested Construction Loans pursuant to this Section 3.3.

        3.3.6    Permits

        (a)  Except as disclosed in the Permit Schedule applicable to the Subject Project, all material Permits with respect to the development, construction, ownership, leasing, use, operation or maintenance of the Subject Project required to have been obtained by the Credit Event Date shall have been issued and be in full force and effect and not subject to legal proceedings or to any unsatisfied conditions that would reasonably be expected to result in a material modification or revocation, and all applicable appeal periods with respect thereto shall have expired.

        (b)  With respect to any material Permit not yet obtained, either (i) in the Majority Banks' reasonable opinion, such Permit is reasonably expected to be timely obtainable at a cost consistent with the applicable Project Budget without material difficulty or delay prior to the time such Permit is required for the development, construction, ownership, leasing, use, operation or maintenance of the Subject Project, or (ii) there shall exist alternate solutions (the expected cost of which is reflected in the applicable Project Budget) reasonably satisfactory to the Majority Banks which would eliminate the need for such Permit.

        (c)  Except as disclosed in the applicable Permit Schedule, such Permits which have been obtained shall not be subject to any restriction, condition, limitation or other provision that would reasonably be expected to have a Borrower Material Adverse Effect or a Project Material Adverse Effect with respect to the Subject Project.

        3.3.7    Additional Documentation.    With respect to Additional Project Documents that are Major Project Documents and material Permits for the Subject Project entered into or obtained, transferred or required (whether because of the status of the construction or operation of the Subject Project or otherwise) since the date of the previous Credit Event Date for the Subject Project, in furtherance of, among other things, the Liens on the Subject Project and related Collateral granted on the Closing Date or the Initial Credit Event Date for the Subject Project, as the case may be, there shall have been delivery and satisfaction of such matters as are described in (and subject to the limitations, approvals and other requirements set forth in) Sections 3.2.4 through 3.2.8 and 3.2.12 to the extent applicable to such Additional Project Documents that are Major Project Documents or material Permits.

        3.3.8    Acceptable Work; No Liens.    All work that has been done on the Subject Project shall have been done in a good and workmanlike manner and in accordance with the Construction Contracts therefor and Prudent Utility Practices, and there shall not have been filed with or served upon the Subject Project Company or any other Credit Party with respect to the Subject Project or

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any part thereof, notice of any Lien, claim of Lien or attachment upon or claim affecting the right to receive payment of any of the moneys payable to any of the Persons named on such request, other than Liens, claims of Lien, attachments or claims (a) constituting Project Company Permitted Liens, (b) that have been released by payment or bonding or otherwise, (c) for which adequate funds have been withheld or reserved in the reasonable determination of Administrative Agent or (d) that will be released with the payment of such obligation out of the Construction Loans to be made on the Credit Event Date or Equity Contributions or other non-Loan proceeds.

        3.3.9    Casualty.    If as of the Credit Event Date a Casualty Event shall have occurred with respect to the Subject Project, Administrative Agent shall have received Casualty Insurance Proceeds or other assurances sufficient in the reasonable judgment of Administrative Agent and the Independent Engineer to assure restoration and completion of the Subject Project prior to the scheduled Final Maturity Date and each of the conditions set forth in Section 4.8.2(a) of the Depositary Agreement shall have been satisfied.

        3.3.10    Insurance.    Insurance complying with the requirements of Section 4.10 of the applicable Project Company Guaranty shall be in effect, and, upon the request of Administrative Agent, evidence thereof shall be provided to Administrative Agent.

        3.3.11    Title Certification.    If the Credit Event Date is on or after January 15, 2002, the A.L.T.A. surveys delivered for the Subject Project pursuant to Section 3.2.22 shall have been certified to Administrative Agent by a licensed surveyor reasonably satisfactory to Administrative Agent.

        Notwithstanding anything to the contrary contained herein, in the event of any conflict between the terms of this Section 3.3 and the terms of the Building Loan Agreement, the provisions hereof shall govern and control. Accordingly, the parties hereto agree that in the event that each of the conditions precedent for a Borrowing of a Construction Loan set forth herein are satisfied, then all conditions for an Advance (as defined in the Building Loan Agreement) shall be and be deemed satisfied for all purposes thereunder.

        3.4    Conditions Precedent to Borrowings of Working Capital Loans.    The obligation of the Banks to make each Working Capital Loan is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent:

        (a)    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        (b)    Approved Project.    The Subject Project shall be an Approved Project as of the Credit Event Date.

        (c)    Substantial Completion Date.    The Credit Event Date shall be on or after the Substantial Completion Date for the Subject Project.

        (d)    Notice of Working Capital Loan Borrowing.    Borrower shall have delivered a Notice of Working Capital Loan Borrowing to Administrative Agent in accordance with the procedures specified in Section 2.1.2(b).

        3.5    Conditions Precedent to the Issuance of Project Letters of Credit.    The obligation of the LC Bank to issue, extend the Expiration Date of or increase the Stated Amount of a Project Letter of Credit in respect of a Subject Project is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the LC Bank and the Majority Banks) of each of the following conditions precedent (provided that this Section 3.5 (x) shall not apply to any automatic extensions of the Expiration Date of, or any automatic increases in the Stated Amount of, any Project

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Letter of Credit to the extent provided in Section 2.2.13 and (y) shall apply to the increase in the Stated Amount of a Project Letter of Credit upon the repayment of Project LC Loans only to the extent provided in Section 2.2.7(a)):

        3.5.1    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        3.5.2    Approved Project.    The Subject Project shall be an Approved Project as of the Credit Event Date.

        3.5.3    Notice of LC Activity.    Borrower shall have delivered a Notice of LC Activity to Administrative Agent in accordance with the procedures specified in Section 2.2.3.

        3.6    Conditions Precedent to the Issuance of the DSR Letter of Credit.    The obligation of the LC Bank to issue, extend the Expiration Date of or increase the Stated Amount of the DSR Letter of Credit is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the LC Bank and the Majority Banks) of each of the following conditions precedent (provided that this Section 3.6 (x) shall not apply to any automatic extensions of the Expiration Date of, or any automatic increases in the Stated Amount of, the DSR Letter of Credit to the extent provided in Section 2.2.13 and (y) shall apply to the increase in the Stated Amount of the DSR Letter of Credit upon the repayment of DSR LC Loans only to the extent provided in Section 2.2.7(a)):

        3.6.1    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower and each Equity Party as of the Credit Event Date. Each of the conditions set forth in Section 3.12 shall be satisfied with respect to each Approved Intermediate Holding Company, each Approved Project Company and each Approved Project as of the Credit Event Date, in each case to the extent the Allocated Portion of the Total DSR LC Commitment for the applicable Approved Project is being used for the DSR Letter of Credit.

        3.6.2    Amortization Commencement Date.    The Credit Event Date shall be on or after the DSR Start Date.

        3.6.3    Notice of LC Activity.    Borrower shall have delivered a Notice of LC Activity to Administrative Agent in accordance with the procedures specified in Section 2.2.3.

        3.7    Conditions Precedent to the Crediting of Alternatively Sourced Equity Contributions.    The crediting of Alternatively Sourced Equity Contributions against the Total Equity Commitment as contemplated by Section 3.15.4 is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent:

        3.7.1    Credit Event Conditions.    Each of the conditions precedent set forth in Sections 3.12.2 and 3.12.3 shall have been satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        3.7.2    Certification of Available Equity Commitment.    Borrower shall have delivered to Administrative Agent a certificate of a Responsible Officer of Borrower, dated as of the Credit Event Date, setting forth the calculation of the Available Equity Commitment (as contemplated by Section 3.15.4) after giving effect to the crediting of such Alternatively Sourced Equity Contributions. Such calculation shall be deemed to be correct unless the Majority Banks object thereto in writing within 15 Banking Days after receipt by Administrative Agent of the applicable certificate.

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        3.7.3    No Other Project Defaults.    With respect to the crediting of Excess Cash Flow Contributions, no Project Event of Default or Project Inchoate Default with respect to an Approved Project shall have occurred and be continuing or shall result from such application.

        3.7.4    Approved Project.    The Subject Project shall be an Approved Project as of the Credit Event Date.

        3.7.5    Permitted Application.    Such Alternatively Sourced Equity Contributions shall be, or have been, disbursed in accordance with Section 4.1.2 of the Depositary Agreement and used to pay Project Costs in accordance with the Borrower Budget and/or the Project Budget for the Subject Project.

        3.7.6    Completion; Available Construction Funds.    The Subject Project shall be reasonably expected to achieve Completion on or prior to the EPC Date Certain therefor and the Available Construction Funds for the Subject Project and all other Approved Projects shall be reasonably expected to be sufficient to cause the Subject Project and all other Approved Projects to achieve Completion on or prior to the respective EPC Dates Certain therefor, in each case as certified by Borrower and confirmed in writing by the Independent Engineer.

        3.7.7    Acceptable Work; No Liens.    All work that has been done on the Subject Project shall have been done in a good and workmanlike manner and in accordance with the Construction Contracts therefor and Prudent Utility Practices, and there shall not have been filed with or served upon the Subject Project Company or any other Credit Party with respect to the Subject Project or any part thereof, notice of any Lien, claim of Lien or attachment upon or claim affecting the right to receive payment of any of the moneys payable to any of the Persons named on such request, other than Liens, claims of Lien, attachments or claims (a) constituting Project Company Permitted Liens, (b) that have been released by payment or bonding or otherwise, (c) for which adequate funds have been withheld or reserved in the reasonable determination of Administrative Agent or (d) that will be released with the payment of such obligation out of such Alternatively Sourced Equity Contributions, Borrowings of Construction Loans or other non-Loan proceeds.

        Notwithstanding anything in this Section 3.7 or any other provision of this Agreement to the contrary, Alternatively Sourced Equity Contributions will be credited against the Total Equity Commitment as contemplated by Section 3.15.4 on the date on which each of the conditions set forth in this Section 3.7 is satisfied with respect thereto, even if such conditions were not satisfied on the date on which such Alternatively Sourced Equity Contributions were actually made.

        3.8    Conditions Precedent to Completion.    The achievement by a Subject Project of Completion shall be subject to the satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent:

        3.8.1    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall have been satisfied with respect to Borrower, each Equity Party, each Subject Intermediate Holding Company, the Subject Project Company and the Subject Project as of the Credit Event Date.

        3.8.2    Completion of Work.    Delivery to Administrative Agent, in form and substance reasonably satisfactory to Administrative Agent, of evidence that (a) all work with respect to the Subject Project requiring inspection by municipal and other Governmental Authorities having jurisdiction has been duly inspected and approved by such authorities, (b) the Subject Project Company has duly recorded a notice of completion for the Subject Project, (c) all parties performing such work have been or will be paid for such work, and (d) no mechanics' and/or materialmen's liens or applications therefor have been filed and all applicable filing periods for any such mechanics' and/or materialmen's liens have expired, other than with respect to Project Company Permitted Liens; provided, however, that in the event Borrower delivers to Administrative Agent either (i) a policy of title insurance or endorsement thereto, in form and substance

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reasonably satisfactory to Administrative Agent, insuring against loss arising by reason of any mechanics' or materialmen's lien gaining priority over the applicable Mortgage(s) (except where applicable Governmental Rules prevent the procurement of insurance covering such a loss), or (ii) a bond, in form and substance reasonably satisfactory to Administrative Agent, or evidence reasonably satisfactory to Administrative Agent that funds have been withheld or reserved, in each case in the amount of all payments owed to any contractor, subcontractor or any other Person, and covering the Subject Project Company's liability to such contractors, subcontractors or other Persons, Administrative Agent shall waive the requirements referred to in clause (d) above.

        3.8.3    Substantial Completion; Utility Services.

        (a)  Substantial Completion of the Subject Project shall have occurred and all liquidated damages, if any, then due and payable under the Construction Contracts for the Subject Project (other than liquidated damages that are the subject of a good faith dispute) shall have been paid to the Subject Project Company and deposited into the applicable Accounts in accordance with the Depositary Agreement. Administrative Agent shall have received a certificate of a Responsible Officer of Borrower, dated the Credit Event Date, certifying as to the matters described in the immediately preceding sentence, and such certification shall be confirmed in writing by the Independent Engineer.

        (b)  Administrative Agent shall have received a certificate of a Responsible Officer of Borrower, dated the Credit Event Date, certifying that (i) all utility services, roadway access and fuel, power and water interconnection services necessary for the use, operation and maintenance of the Subject Project are available to the Subject Project Company on commercially reasonable terms, and (ii) all real estate rights necessary for the completion, use, operation and maintenance of the Subject Project have been obtained.

        3.8.4    Annual Operating Budget.    Administrative Agent shall have received the Annual Operating Budget with respect to the Subject Project for the year in which the Subject Project achieved Substantial Completion, which Annual Operating Budget shall have been prepared in a manner consistent with, and in compliance with the requirements set forth in, Section 4.16.2 of the applicable Project Company Guaranty. In the event that such Annual Operating Budget does not, in Administrative Agent's and the Independent Engineer's reasonable opinion, properly reflect the operation of the Subject Project during such year as a result of the actual Substantial Completion Date being different from the anticipated Substantial Completion Date set forth in such Annual Operating Budget, Administrative Agent shall have received an amendment to such Annual Operating Budget properly reflecting the actual Substantial Completion Date.

        3.8.5    Insurance.    Insurance complying with the requirements of Section 4.10 of the applicable Project Company Guaranty shall be in effect and, upon the request of Administrative Agent, evidence thereof shall be provided to Administrative Agent.

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        3.8.6    Permits.    All Permits required for the development, construction, ownership, leasing, use, operation and maintenance of the Subject Project shall have been obtained and be in form and substance reasonably satisfactory to Administrative Agent, and Borrower shall have delivered or caused to be delivered to Administrative Agent copies of each such Permit and a certificate of a Responsible Officer of Borrower certifying that all such Permits have been obtained. All such Permits shall be in full force and effect and not be subject to any legal proceeding or to any unsatisfied condition that would reasonably be expected to result in a material modification or revocation, and all applicable appeal periods with respect thereto shall have expired. Except as disclosed in the applicable Permit Schedule, all such Permits shall not be subject to any restriction, condition, limitation or other provision that would reasonably be expected to have a Borrower Material Adverse Effect or a Project Material Adverse Effect with respect to the Subject Project.

        3.8.7    Title Policy.    Administrative Agent shall have received an endorsement to the A.L.T.A. policy delivered to Administrative Agent pursuant to Section 3.2.23 with respect to the Subject Project, confirming and insuring the continued first priority of the Lien on the Mortgaged Property evidenced by the applicable Mortgage(s), subject only to Project Company Permitted Liens (without a mechanics' and materialmen's exception included in such title policy, except where applicable Governmental Rules prevent the deletion of such exception), and such other matters as Administrative Agent may reasonably request.

        3.9    Conditions Precedent to a Borrowing of Construction Loans to be Used for In Kind Equity Payments.    The obligation of the Banks and the Lender Groups to make Construction Loans to be used by Borrower to make In Kind Equity Payments to NEG in respect of In-Kind Equity Contributions made to a Subject Project Company as contemplated by clause (i) of the proviso to Section 5.1.1(a) is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent (provided that the conditions precedent set forth in Sections 3.2 and 3.3 shall not apply to the making of Construction Loans to be used by Borrower to make In Kind Equity Payments):

        3.9.1    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower, each Equity Party, the Subject Project Company, each Subject Intermediate Holding Company and the Subject Project as of the Credit Event Date.

        3.9.2    Credit Event Date.    The Credit Event Date must be an Initial Credit Event Date or the Adjustment Date.

        3.9.3    Commitment Reduction.    If the Credit Event Date is the Adjustment Date, each Total Commitment shall have been reduced in accordance with Section 2.3.6(b)(i).

        3.9.4    Construction Requisition.    Borrower shall have delivered a Construction Requisition to Administrative Agent in accordance with the procedures specified in Section 2.1.1(b).

        3.9.5    Maximum Amount.    The amount of such Construction Loans cannot exceed: (a) if the Credit Event Date is the Closing Date, (i) the aggregate amount of In Kind Equity Contributions made on the Credit Event Date in accordance with Section 3.15.2 minus (ii) $450,000,000; or (b) if the Credit Event Date is not the Closing Date, (i) the aggregate amount of In Kind Equity Contributions made on or prior to the Credit Event Date in accordance with Section 3.15.2 less the aggregate amount of all previous In Kind Equity Payments minus (ii) the greater of (A) $450,000,000 and (B) one-half of the then current Total Equity Commitment.

        3.10    Conditions Precedent to a Borrowing of Construction Loans to be Used for Equity Contribution True-Up Reimbursements and/or NEG EPC Guaranty Reimbursements.    The obligation of the Banks and the Lender Groups to make Construction Loans to be used by Borrower to make (x) Equity Contribution True-Up Reimbursements for Equity Contributions made with respect to a Subject Project as contemplated by clause (ii)(A) of the proviso to Section 5.1.1(a) and/or (y) NEG EPC Guaranty

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Reimbursements for payments under the NEG EPC Guaranty for a Subject Project as contemplated by clause (ii)(B) of the proviso to Section 5.1.1(a), is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent (provided that the conditions precedent set forth in Sections 3.2 and 3.3 shall not apply to the making of Construction Loans to be used by Borrower to make Equity Contribution True-Up Reimbursements and/or NEG EPC Guaranty Reimbursements):

        3.10.1    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower, each Equity Party, the Subject Project Company, each Subject Intermediate Holding Company and the Subject Project as of the Credit Event Date.

        3.10.2    Credit Event Date.    The Credit Event Date must be on or after the Last Completion Date.

        3.10.3    Construction Requisition.    Borrower shall have delivered a Construction Requisition to Administrative Agent in accordance with the procedures specified in Section 2.1.1(b).

        3.10.4    Maximum Amount.    The amount of such Construction Loans to be used for an NEG EPC Guaranty Reimbursement cannot exceed the sum of (a) the aggregate of the remaining Contingencies (if any) for all Approved Projects and (b) the unused amount (if any) in the Borrower Budget. The amount of such Construction Loans to be used for an Equity Contribution True-Up Reimbursement, together with the amount of all previous Construction Loans used for Equity Contribution True-Up Reimbursements, cannot exceed (i) the aggregate amount of all Equity Contributions made or caused to be made by Borrower (less all In Kind Equity Payments) minus (ii) the product of (x) one minus the Maximum Debt to Capitalization Ratio (expressed as a percentage) and (y) the total Project Costs for all Approved Projects.

        3.11    Conditions Precedent to the Substitution of a Project.    Borrower shall have the right to replace one Initial Project (other than the Millennium Project) with a Substitute Project upon the prior satisfaction (or written waiver by Administrative Agent with the consent of (x) the Majority Banks or (y) in the case of Section 3.11.6, each of the Banks and each of the Lender Groups) of each of the following conditions precedent:

        3.11.1    Initial Funding Conditions.    Each of the conditions precedent set forth in Section 3.2 shall be satisfied with respect to the Substitute Project, and the initial Borrowing of Construction Loans shall be made for the Substitute Project, on the date on which the replacement occurs.

        3.11.2    Approved Project.    If the Initial Project is an Approved Project, the conditions set forth in Section 6.4 shall be satisfied with respect to the Approved Project Company that owns the Initial Project; provided that the condition set forth in clause (iii) of Section 6.4(b) shall require the prepayment of Loans in an amount equal to the greater of (a) the amount of Loans that would otherwise be required to be prepaid pursuant such clause (iii) and (b) the aggregate amount of Loans borrowed hereunder in respect of the Initial Project that are outstanding as of the date on which the replacement occurs.

        3.11.3    Credit Event Date.    The Credit Event Date shall be on or prior to the Adjustment Date.

        3.11.4    Credit Event Conditions.    Each of the conditions set forth in Section 3.12 shall be satisfied with respect to Borrower, each Equity Party, each Approved Project Company, each Approved Intermediate Holding Company and each Approved Project (other than any Approved Project Company, Approved Intermediate Holding Company or Approved Project being released pursuant to Section 6.4, if applicable) as of the date on which such replacement occurs.

        3.11.5    Ratings.    If ratings have been assigned to the Obligations as of the date on which such replacement occurs, Administrative Agent shall receive written confirmation from each Rating

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Agency that such ratings will be at least Baa3 in the case of Moody's and at least BBB- in the case of S&P after giving effect to the replacement.

        3.11.6    Diligence Investigation.    Each of the Banks and each of the Lender Groups shall be reasonably satisfied with its diligence investigation of the Substitute Project.

        3.12    Conditions Precedent to Each Credit Event.    The obligation of the Banks and the Lender Groups to effect or permit each Credit Event is subject to the prior satisfaction (or written waiver by Administrative Agent with the consent of the Majority Banks) of each of the following conditions precedent:

        3.12.1    Representations and Warranties.    Each representation and warranty of Borrower, each Equity Party, each Subject Intermediate Holding Company and the Subject Project Company in each Credit Document to which such Person is a party shall be true and correct in all material respects as of the Credit Event Date (unless any such representation and warranty relates solely to an earlier date, in which case it shall have been true and correct in all material respects as of such earlier date).

        3.12.2    No Defaults.    No (a) Borrower Event of Default or Borrower Inchoate Default or (b) Project Event of Default or Project Inchoate Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing or shall result from such Credit Event.

        3.12.3    No Material Adverse Effect.    Other than as set forth in the Information Memorandum or as previously disclosed to and waived by the Majority Banks in writing on a permanent basis, no event or circumstance having a Borrower Material Adverse Effect or a Project Material Adverse Effect with respect to the Subject Project Company or Subject Project has occurred and is continuing.

        3.12.4    No Litigation.    Other than as set forth in the Information Memorandum or Exhibit G-5B or as previously disclosed to and waived by the Majority Banks in writing on a permanent basis, no action, suit, proceeding or investigation shall have been instituted or threatened which would reasonably be expected to have a Borrower Material Adverse Effect or a Project Material Adverse Effect with respect to the Subject Project Company or Subject Project.

        3.12.5    Regulation.    Other than as set forth in the Information Memorandum or Exhibit G-5B or as previously disclosed to and waived by the Majority Banks in writing on a permanent basis, no order, judgment or decree shall have been issued by any Governmental Authority that, as a result of the development, construction, ownership, leasing, operation, maintenance or use of the Subject Project by the Subject Project Company, the sale of Power, Ancillary Services and, to the extent permitted under the Subject Project Company's FERC tariff, other products and services therefrom by the Subject Project Company, the entering into of any Operative Document or any transaction contemplated hereby or thereby, other than an exercise of foreclosure remedies by Administrative Agent, any Arranger, any Bank, any Lender Group Member, the LC Bank or any Hedge Bank (or any Affiliate of any of the foregoing) pursuant to the Credit Documents, would reasonably be expected to (a) cause or deem Administrative Agent, the Arrangers, the Banks, the Lender Group Members, the LC Bank, any Hedge Bank, Borrower or any Affiliate of any of them to be subject to, or not exempted from, regulation under PUHCA (other than Section 9(a)(2) of PUHCA) or under any state laws and regulations respecting the rates or the financial or organizational regulation of electric utilities, (b) cause or deem Administrative Agent, the Arrangers, the Banks, the Lender Group Members, the LC Bank or any Affiliate of any of them, other than any Approved Project Company, to be subject to, or not exempted from, regulation under the FPA, or (c) cause or deem Borrower to be subject to regulation under the FPA with respect to issuances of securities or the assumption of liabilities.

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        3.12.6    No Change in Tax Laws.    Other than as previously disclosed to and waived by the Majority Banks in writing on a permanent basis, since the Closing Date no change shall have been adopted in any tax law or tax regulation or judicial interpretation thereof that would subject any Bank or Lender Group Member to any material unreimbursed Tax or Other Tax (other than Taxes or Other Taxes for which Borrower is not required to indemnify a Lender Group Member pursuant to Section 2.5.4).

        3.12.7    Payment of Filing Fees.    All amounts required to be paid to or deposited with the Banks or the Lender Groups in respect of the Credit Event, and all taxes, fees and other costs payable in connection with the execution, delivery, recordation and filing of documents and instruments in connection with the Credit Event, shall have been paid in full or, as approved by the Majority Banks, provided for.

        3.12.8    Operative Documents and Permits.    Each Credit Document and each Major Project Document and material Permit related to the Subject Project shall be in full force and effect in accordance with its terms.

        3.12.9    Debt to Capitalization Ratio.    After giving effect to such Credit Event and any Equity Contributions made on the Credit Event Date, the Debt to Capitalization Ratio shall not exceed the then current Maximum Debt to Capitalization Ratio.

        3.13    No Approval of Work.    The making of any Loan hereunder shall not be deemed an approval or acceptance by Administrative Agent, any Bank or any Lender Group Member of any work, labor, supplies, materials or equipment furnished or supplied with respect to any of the Projects or other assets funded or acquired with the proceeds of the Loans made hereunder.

        3.14    Waiver of Funding; Adjustment of Drawdown Requests.

        (a)  Subject to Section 9.9, notwithstanding the foregoing, the Majority Banks, without waiving any of the rights of any Bank or any Lender Group (or any member thereof) hereunder, shall have the right to effect a Credit Event hereunder without full compliance by Borrower with the conditions described in this Article 3.

        (b)  In the event Administrative Agent determines and the Independent Engineer agrees that an item or items listed in a Construction Requisition as a Project Cost is not properly includible in such Construction Requisition, Administrative Agent may in its reasonable discretion cause to be made a Borrowing of Loans in the amount requested in such Construction Requisition less the amount of such item or items or may reduce the amount of Loans made pursuant to any subsequent Construction Requisition by such amount. In the event that Borrower prevails in any dispute as to whether such Project Costs were properly included in such Construction Requisition, Loans in the amount requested but not initially made shall forthwith be made.

        3.15    Committed Equity Contributions; Available Equity Commitment.

        3.15.1    Cash Equity Contributions.

        (a)  (i) On each Credit Event Date, Borrower shall make, or cause to be made, Cash Equity Contributions in an amount that, after giving effect to (A) the Credit Event occurring on such Credit Event Date and (B) any Alternatively Sourced Equity Contributions made, or caused to be made, by Borrower or any other Credit Party on such Credit Event Date, results in the satisfaction on such Credit Event Date of the condition precedent set forth in Section 3.12.9, provided, however, that if an Inchoate NEG Downgrade Event shall have occurred and be continuing on any date on which Project Costs for any Approved Project are due and payable (whether or not such date is a Credit Event Date), Borrower shall make, or cause to be made, Cash Equity Contributions in an amount that, after giving effect to any

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Alternatively Sourced Equity Contributions then available to pay such Project Costs, is sufficient to pay such Project Costs, and (ii) after the Total Construction Loan Commitment has been fully utilized, on any date on which Project Costs for any Approved Project are due and payable, Borrower shall make, or cause to be made, Cash Equity Contributions in an amount that, after giving effect to any Alternatively Sourced Equity Contributions then available to pay such Project Costs, is sufficient to pay such Project Costs, but in no event shall Borrower be required to make Cash Equity Contributions pursuant to clauses (i) (including pursuant to the proviso thereto) and (ii) above in excess of the then current Available Equity Commitment, plus any Permitted Additional Equity that Borrower has elected in its sole discretion to provide pursuant to Section 3.2.11. All Cash Equity Contributions made pursuant to this clause (a) shall be deposited into the Construction Account and disbursed to pay Project Costs for Approved Projects in accordance with the Borrower Budget and/or the Project Budgets for such Approved Projects pursuant to Section 4.1.2 of the Depositary Agreement.

        (b)  Upon the occurrence of any Borrower Event of Default prior to the Last Completion Date and an exercise of remedies under Section 7.2.4 (or a deemed exercise of remedies as contemplated by the proviso thereto), Borrower shall make, or cause to be made, Cash Equity Contributions in an amount equal to the then current Available Equity Commitment. All Cash Equity Contributions made pursuant to this clause (b) shall be deposited into the Loss Proceeds Account or as otherwise directed by Administrative Agent.

        3.15.2    In-Kind Equity Contributions.    On the Closing Date, Borrower shall make, or cause to be made, In Kind Equity Contributions in an amount equal to or greater than $450,000,000. Borrower may make, or cause to be made, additional In Kind Equity Contributions with respect to an Approved Project on the Initial Credit Event Date for such Approved Project. At least five Banking Days prior to the date on which Borrower proposes to make, or cause to be made, any In Kind Equity Contributions, Borrower shall submit a certificate substantially in the form of Exhibit F-3 (an "In Kind Equity Contributions Certificate") to Administrative Agent (with a copy to the Independent Engineer). The amount of In Kind Equity Contributions set forth in such In Kind Equity Contributions Certificate, as confirmed by Administrative Agent and the Independent Engineer, shall be deemed to be the amount of In Kind Equity Contributions made, or caused to be made, by Borrower on the applicable Initial Credit Event Date.

        3.15.3    Total Equity Commitment.

        (a)  Notwithstanding anything to the contrary contained in this Agreement or in any other Credit Document, Borrower shall not be required to make, or cause to be made, Equity Contributions in excess of the lesser of (i) $1,000,000,000 and (ii) the Total Equity Commitment, plus in each case any Permitted Additional Equity that Borrower has elected in its sole discretion to provide pursuant to Section 3.2.11. The "Total Equity Commitment" shall be calculated in accordance with this Section 3.15.3.

        (b)  The initial Total Equity Commitment as of the Closing Date shall be equal to the aggregate of the Allocated Portions of the Total Equity Commitment for all Projects that are Approved Projects on the Closing Date. The Total Equity Commitment shall thereafter be increased on each Initial Credit Event Date after the Closing Date by the Allocated Portion of the Total Equity Commitment for the Project that becomes an Approved Project (including a Substitute Project that replaces an Approved Project) on such Initial Credit Event Date.

        (c)  In connection with the transfer by Borrower of 100% of its direct and indirect interests in any Approved Project Company in accordance with Section 6.4, the Total Equity Commitment shall be reduced by the unused Allocated Portion of the Total Equity Commitment for the Approved Project being transferred.

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        (d)  On the Last Completion Date (after giving effect to all Borrowings made on such date and all Equity Contributions made or required to be made on such date), the unused Total Equity Commitment shall be reduced to zero.

        3.15.4    Available Equity Commitment.    The "Available Equity Commitment" on any date of determination shall be equal to (a) the Total Equity Commitment, as increased and/or decreased in accordance with Section 3.15.3, minus (b) all Committed Equity Contributions made on or prior to such date, minus (c) all Alternatively Sourced Equity Contributions made on or prior to such date and credited against the Total Equity Commitment in accordance with Section 3.7, minus (d) the aggregate amount of Incremental Commitments as of such date (up to a maximum of the aggregate of the original Supplemental Equity Commitments for all then Approved Projects), plus (e) all In Kind Equity Payments made on or prior to such date in accordance with Section 3.9; provided that the Available Equity Commitment shall at no time be less than zero.

ARTICLE 4.
REPRESENTATIONS AND WARRANTIES

        Borrower makes the following representations and warranties to and in favor of the Secured Parties as of the Closing Date and as of each Credit Event Date, in each case to the extent set forth in Article 3.

        4.1    Organization; Powers.    Borrower (a) is a limited liability company duly formed, validly existing and in good standing under the laws of the State of Delaware; (b) has all requisite limited liability company power, authority and legal right to own and lease the property and assets it purports to own or lease and to carry on its business as now being conducted and as proposed to be conducted; (c) is duly qualified to do business in each other jurisdiction where such qualification is required, except where the failure so to qualify would not reasonably be expected to have a Borrower Material Adverse Effect; and (d) has all requisite limited liability power and authority to execute, deliver and perform its obligations under each Operative Document and each other agreement or instrument contemplated thereby to which it is a party.

        4.2    Authorization and No Legal Bar.    The execution, delivery and performance by Borrower of each Operative Document to which it is a party and the consummation of the transactions contemplated thereby (a) have been duly authorized by all requisite action, including, if required, member action on the part of Borrower, and (b) will not (i) violate, result in the breach of or constitute a default under any Legal Requirement applicable to or binding on Borrower or any contract, instrument or other document to which it is a party or by which it is bound, (ii) be in conflict with or result in a breach of the limited liability company agreement of Borrower or constitute (alone or with notice or lapse of time or both) a Borrower Event of Default or Borrower Inchoate Default or (iii) result in or require the creation or imposition of any Lien (other than a Borrower Permitted Lien) upon or with respect to any of the Borrower Collateral.

        4.3    Enforceability.    Each Operative Document to which Borrower is a party has been duly executed and delivered by Borrower and constitutes a legal, valid and binding obligation of Borrower enforceable against Borrower in accordance with its terms, except as such enforceability (a) may be limited by applicable bankruptcy, insolvency, reorganization, moratorium and similar laws affecting the enforcement of creditors' rights and remedies generally and (b) is subject to general principles of equity (regardless of whether enforceability is considered in a proceeding in equity or at law).

        4.4    Consents.    No consent or other action by any holder or trustee of any indebtedness or other obligations of Borrower or by any other Person is or will be required by Borrower in connection with the execution, delivery and performance by Borrower of each Operative Document to which it is a party and the consummation of any of the transactions contemplated thereby, except such as have been made or obtained and are in full force and effect.

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        4.5    Compliance with Law.    Except as set forth in Exhibit G-5A and with respect to which arrangements reasonably satisfactory to Administrative Agent have been made, Borrower is in compliance with all Legal Requirements applicable to Borrower, except for such noncompliance as in any case would not reasonably be expected to have a Borrower Material Adverse Effect.

        4.6    Existing Defaults.    No Borrower Event of Default or Borrower Inchoate Default has occurred and is continuing. Borrower has not received any notice of default under any agreement relating to any obligation of Borrower for or with respect to borrowed money.

        4.7    Litigation

        4.7.1    As of the Closing Date, except as set forth in Exhibit G-5B or the Information Memorandum, there is no (a) injunction, writ, preliminary restraining order or other order of any nature by an arbitrator, court or any other Governmental Authority, or (b) action, suit, arbitration, investigation or proceeding at law or in equity by or before any arbitrator, court or any other Governmental Authority, pending against Borrower or, to the best of Borrower's knowledge, threatened against Borrower or any property or other assets or rights of Borrower.

        4.7.2    As of each Credit Event Date, except as set forth in Exhibit G-5B or the Information Memorandum, there is no (a) injunction, writ, preliminary restraining order or other order of any nature by an arbitrator, court or any other Governmental Authority, or (b) action, suit, arbitration, investigation or proceeding at law or in equity by or before any arbitrator, court or any other Governmental Authority, pending against Borrower or, to the best of Borrower's knowledge, threatened against Borrower or any property or other assets or rights of Borrower, in each case which would reasonably be expected to have a Borrower Material Adverse Effect.

        4.8    Labor Disputes and Acts of God.    Neither the business nor the properties of Borrower or any Equity Party are affected by any fire, explosion, accident, strike, lockout or other labor dispute, drought, storm, hail, earthquake, embargo, act of God or of the public enemy, or other casualty (whether or not covered by insurance), in each case which would reasonably be expected to have a Borrower Material Adverse Effect.

        4.9    Taxes.    Borrower has filed, or caused to be filed, all Federal, state, local and foreign tax and information returns that are required to have been filed by it in any jurisdiction, and has paid all taxes shown to be due and payable on such returns and all other taxes and assessments payable by it, to the extent the same have become due and payable, except to the extent there is a good faith contest thereof by appropriate proceedings by Borrower which are described in Exhibit G-5C and for which Borrower shall have set aside adequate reserves to the extent required by GAAP.

        4.10    Regulation.    So long as the Approved Project Companies continue to be Exempt Wholesale Generators, none of Borrower, Administrative Agent, any Bank, any Lender Group Member, the LC Bank or any Hedge Bank, nor any Affiliate of any of them, will, solely as a result of the development, construction, ownership, leasing, use, operation or maintenance of the Approved Projects, the sale of Power, Ancillary Services or, to the extent permitted under the Approved Project Companies' FERC tariffs, other products and services therefrom or the entering into of any Operative Document in respect thereof or any transaction contemplated hereby or thereby, be subject to, or not exempt from, regulation under PUHCA (other than Section 9(a)(2) of PUHCA) or under state laws and regulations respecting the rates or the financial or organizational regulation of electric utilities. Except in the event of the exercise of foreclosure remedies pursuant to the Credit Documents by Administrative Agent, any Bank, any Lender Group Member, the LC Bank or any Hedge Bank (or any Affiliate of any of the foregoing), none of Administrative Agent, any Bank, any Lender Group Member, the LC Bank or any Hedge Bank, nor any Affiliate of any of them, other than any Approved Project Company, will, solely as a result of the development, construction, ownership, leasing, use, operation or maintenance of the Approved Projects, the sale of Power, Ancillary Services or, to the extent permitted under the Approved Project Companies' FERC tariffs, other products and services therefrom or the entering into

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of any Operative Document in respect thereof or any transaction contemplated hereby or thereby, be subject to, or not exempt from, regulation under the FPA. Borrower is not subject to regulation as a "public utility", an "electric utility" or a "transmitting utility" under the FPA. Borrower is not subject to regulation under any Governmental Rule as to securities, rates or financial or organizational matters that would preclude the making or repayment of any Loans, or the incurrence by Borrower of any of the Obligations or the execution, delivery and performance by Borrower of the Operative Documents to which it is a party.

        4.11    Private Offering by Borrower.    Assuming that the Banks and the Lender Groups are acquiring the Notes for investment purposes only, and not for purposes of resale or distribution thereof except for assignments or participations as provided in Sections 2.1.7, 9.13 and 9.14, no registration of the Notes under the Securities Act of 1933, as amended, or under the securities laws of the State of New York, or any other state in which an Approved Project is located is required in connection with the offering, issuance and sale of the Notes hereunder. Neither Borrower nor anyone acting on its behalf has taken, or will take, any action which would subject the offering, issuance or sale of the Notes to Section 5 of the Securities Act of 1933, as amended.

        4.12    Investment Company Act.    Borrower is not an "investment company" as defined in, or subject to regulation under, the Investment Company Act of 1940, as amended.

        4.13    Margin Stock.    Borrower is not engaged, directly or indirectly, principally, or as one of its important activities, in the business of extending, or arranging for the extension of, credit for the purposes of purchasing or carrying any margin stock, within the meaning of Regulation T, U or X of the Board of Governors of the Federal Reserve System or any regulations, interpretations or rulings thereunder. No part of the proceeds of any Loans will be used for "purchasing" or "carrying" any "margin stock" as so defined, or for extending credit to others for the purpose of purchasing or carrying margin stock, or for any purpose which would violate, or cause a violation of, any such regulation, interpretation or ruling.

        4.14    ERISA and Employees.    Borrower does not sponsor, maintain, administer, contribute to, participate in, or have any obligation to contribute to or any liability under, any ERISA Plan, nor since the date which is six years immediately preceding the Closing Date has Borrower established, sponsored, maintained, administered, contributed to, participated in, or had any obligation to contribute to or liability under, any ERISA Plan. Borrower and each of its Subsidiaries are in compliance in all material respects with all applicable provisions of ERISA and the Code and all other laws applicable to ERISA Plans, including the Age Discrimination in Employment Act, the Americans With Disabilities Act and Title VII of the Civil Rights Act. Borrower does not have any employees.

        4.15    Disclosure.    Neither this Agreement nor any certificate or other documentation (excluding the Borrower Budget, the Project Budgets, the Annual Operating Budgets and the Base Case Project Projections) furnished to Administrative Agent, the Arrangers and/or any Independent Consultant, by or, to the best knowledge of Borrower, on behalf of, NEG or Borrower on or prior to the Closing Date in connection with the transactions contemplated by the Operative Documents or the design, description, testing or operation of a Project (taken as a whole), contains any untrue statement of a material fact or omits to state a material fact necessary in order to make the statements contained herein or therein not misleading under the circumstances in which they were made at the time such statements are made. As of the Closing Date, there is no fact known to Borrower which has had or would reasonably be expected to have a Borrower Material Adverse Effect which has not been set forth in this Agreement or in the other documents, certificates and written statements furnished to Administrative Agent, the Arrangers and/or the Independent Consultants by or on behalf of Borrower in connection with the transactions contemplated hereby.

        4.16    Budgets.    Borrower has prepared the Borrower Budget, the Project Budgets and the Annual Operating Budgets and is responsible for developing the assumptions on which the Borrower Budget,

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the Project Budgets and the Annual Operating Budgets are based; and the Borrower Budget, the Project Budgets and the Annual Operating Budgets (a) as of the date delivered, updated or supplemented, are based on reasonable assumptions, (b) as of the date delivered, updated or supplemented, are consistent with the provisions of the Operative Documents in effect as of such date, and (c) as of the date delivered, updated or supplemented, indicate that the estimated Project Costs with respect to a Project will not exceed funds available (including Committed Equity Contributions) to pay Project Costs with respect to such Project.

        4.17    Financial Statements.    In the case of each financial statement and the accompanying information delivered by Borrower hereunder (including financial statements of Borrower, the Project Companies, each Equity Party and any other Affiliated Major Project Participants delivered pursuant to Sections 3.1.13, 3.2.19 and 5.3, but excluding any financial statements of any Major Project Participant which is not an Affiliate of NEG), each such financial statement and the accompanying information have been prepared in conformity with GAAP and fairly present, in all material respects, the financial position (on a consolidated and, where applicable, consolidating basis) of the Persons described in such financial statements as at the respective dates thereof and the results of operations and cash flows (on a consolidated and, where applicable, consolidating basis) of the Persons described therein for each of the periods then ended, subject, in the case of any such unaudited financial statements, to changes resulting from audit and normal year-end adjustments. Except for obligations under the Operative Documents to which it is a party, Borrower does not (and will not following the funding of the initial Loans) have any contingent obligations, unmatured liabilities, contingent liability or liability for taxes, long-term lease or forward or long-term commitment that is not reflected in the foregoing financial statements or the notes thereto and which in any such case is material in relation to the business, operations, properties, assets, financial condition or prospects of Borrower and the Approved Project Companies taken as a whole.

        4.18    Ownership; Other Obligations.

        (a)  The membership interests in Borrower are duly authorized and validly issued. As of the Closing Date, PG&E Generating Energy Group, LLC is the sole member of Borrower and Borrower is an indirect wholly-owned Subsidiary of NEG. There are no options, warrants, convertible securities or other rights to acquire any of the membership interests in Borrower.

        (b)  All of the Approved Project Companies are direct wholly-owned Subsidiaries of the applicable Approved Intermediate Holding Companies and all of the Approved Intermediate Holding Companies are direct wholly-owned Subsidiaries of Borrower; provided that (i) Borrower owns a 1% direct equity interest in each of Covert Generating Company, LLC and Harquahala Generating Company, LLC, and (ii) Magnolia Power Corporation (which directly owns a 50% general partnership interest in Millennium Power Partners, L.P.) is a direct wholly-owned Subsidiary of Osprey Power Corporation, which is a direct wholly-owned Subsidiary of Borrower. All of the equity interests in the Approved Project Companies and the Approved Intermediate Holding Companies are duly authorized, validly issued and, if applicable, fully paid and nonassessable. There are no options, warrants, convertible securities or other rights to acquire any equity interests in any Approved Project Company or Approved Intermediate Holding Company. Each Approved Project Company holds title to only one Approved Project and each Approved Intermediate Holding Company owns an equity interest in only one Approved Project Company.

        (c)  Borrower (i) does not own equity interests in any Person other than the Approved Intermediate Holding Companies and (ii) is not a party to or bound by any material contract other than the Credit Documents to which it is a party.

        4.19    Intellectual Property.    Borrower has obtained the right to use all patents, trademarks, copyrights and other such rights or adequate licenses therein which are necessary for the operation of its business, free from restrictions which would reasonably be expected to have a Borrower Material Adverse Effect.

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        4.20    Offices; Location of Borrower Collateral.

        4.20.1    The chief executive office or principal place of business (as such term is used in Article 9 of the Uniform Commercial Code as in effect in each state where the Borrower Collateral is located and the State of New York from time to time) of Borrower is set forth in Exhibit Q hereto (as such exhibit may be supplemented from time to time upon 30 days' notice to Administrative Agent pursuant to Section 6.13). Borrower's organizational identification number is 3403269.

        4.20.2    The location of Borrower's books of accounts and records is set forth in Exhibit Q hereto (as such exhibit may be supplemented from time to time by 30 days' notice to Administrative Agent pursuant to Section 6.13).

        4.21    Borrower Collateral.

        4.21.1    As of the Closing Date, (a) all filings, recordings and other actions required to provide Administrative Agent, for the benefit of the Secured Parties, with a valid and perfected security interest in the Borrower Collateral in existence as of the Closing Date (other than Borrower Collateral in which a security interest can be perfected by possession), subject to no Liens other than Borrower Permitted Liens, are described in Part I of Exhibit D-5 and have been taken, and (b) all Borrower Collateral in existence as of the Closing Date in which a security interest can be perfected by possession has been delivered to Administrative Agent.

        4.21.2    As of each Credit Event Date (other than the Closing Date), (a) all filings, recordings and other actions required to provide Administrative Agent, for the benefit of the Secured Parties, with a valid and perfected security interest in the Borrower Collateral in existence as of such Credit Event Date (other than Borrower Collateral in which a security interest can be perfected by possession), subject to no Liens other than Borrower Permitted Liens, (x) are described in Part I of Exhibit D-5and have been taken, or (y) have been notified to Administrative Agent in writing and have been taken, and (b) all Borrower Collateral in existence as of such Credit Event Date in which a security interest can be perfected by possession has been delivered to Administrative Agent.

ARTICLE 5.
AFFIRMATIVE COVENANTS OF BORROWER

        Borrower covenants and agrees that, so long as any of the Commitments shall remain in effect and until payment and performance in full of all of the Obligations, Borrower shall perform the covenants set forth in this Article 5 (unless waived in accordance with Section 9.9 of this Agreement).

        5.1    Use of Proceeds and Revenues.

        5.1.1    Proceeds.    (a) Construction Loans. Unless otherwise expressly provided herein or in the Depositary Agreement, Borrower shall on-lend or contribute the proceeds of all Construction Loans to the applicable Approved Project Company (directly or through the applicable Approved Intermediate Holding Companies) (provided that the proceeds of Construction Loans to be used to pay Project Costs for the Athens Project pursuant to the Building Loan Agreement shall be on-lent directly by Borrower to Athens Generating Company, L.P.); provided, however, that (i) Borrower may use the proceeds of Construction Loans borrowed on an Initial Credit Event Date or on the Adjustment Date to make payments to NEG in respect of In Kind Equity Contributions made or caused to be made by Borrower with respect to an Approved Project pursuant to Section 3.15.2 so long as the conditions precedent set forth in Section 3.9 are satisfied as of the date on which such Construction Loans are made, and (ii) Borrower may use the proceeds of Construction Loans borrowed on the Last Completion Date, (A) first, in the event an Inchoate NEG Downgrade Event shall have occurred prior to such date, to make payments to NEG in respect of Equity Contributions made or caused to be made by Borrower with respect to an Approved Project pursuant to the proviso contained in clause (i) of Section 3.15.1(a), and (B) thereafter, to reimburse

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NEG for payments made under the NEG EPC Guaranties to pay Project Costs for Approved Projects, so long as, in each case, the conditions precedent set forth in Section 3.10 are satisfied as of the date on which such Construction Loans are made.

        (b)    Working Capital Loans.    Unless otherwise expressly provided herein or in the Depositary Agreement, Borrower shall (i) on-lend or contribute the proceeds of all Working Capital Loans to be used to pay O&M Costs, as specified in the applicable Notice of Working Capital Borrowing, to the applicable Approved Project Company (directly or through the applicable Approved Intermediate Holding Companies), and (ii) deposit the proceeds of all Working Capital Loans to be used to pay interest on Loans or scheduled payment obligations under Interest Rate Agreements, as specified in the applicable Notice of Working Capital Loan Borrowing, in the Debt Payment Account, and use such proceeds to pay interest on Loans that is due and payable in accordance with this Agreement.

        (c)    Project Letters of Credit.    Borrower shall use the Project Letters of Credit to support the obligations of the Approved Project Companies under LC Eligible Project Documents.

        (d)    DSR Letter of Credit.    Borrower shall use the DSR Letter of Credit to support its obligation to maintain the DSR Required Balance in the Debt Service Reserve Account pursuant to Section 4.6 of the Depositary Agreement.

        5.1.2    Revenues.    (a) Prior to the Last Completion Date. Unless otherwise expressly provided herein or in the Depositary Agreement, Borrower shall deposit, or cause to be deposited, all Project Revenues (other than Loss Proceeds) distributed to or otherwise received by Borrower prior to the Last Completion Date in the Pre-Completion Revenue Account to be applied in accordance with Section 4.2.2 of the Depositary Agreement.

        (b)    On and After the Last Completion Date.    Unless otherwise expressly provided herein or in the Depositary Agreement, Borrower shall deposit, or cause to be deposited, all Project Revenues (other than Loss Proceeds) distributed to or otherwise received by Borrower on or after the Last Completion Date in the Post-Completion Revenue Account to be applied in accordance with Section 4.3.2 of the Depositary Agreement.

        (c)    Loss Proceeds.    Unless otherwise expressly provided herein or in the Depositary Agreement, Borrower shall deposit, or cause to be deposited, all Loss Proceeds distributed to or otherwise received by Borrower in the Loss Proceeds Account to be applied in accordance with Section 4.8.2 of the Depositary Agreement.

        5.2    Notices.    Borrower shall promptly, upon acquiring notice or giving notice, as the case may be, or obtaining knowledge thereof, give written notice (together with copies of any underlying notices or other documentation) to Administrative Agent of:

        5.2.1    Any action, suit, arbitration or litigation pending or, to the best knowledge of Borrower, threatened against Borrower or any Equity Party and involving claims against any such Person in excess of $4,000,000, in the case of Borrower, or $10,000,000, in the case of an Equity Party, in the aggregate per year or involving any injunctive, declaratory or other equitable relief that, if adversely determined, would reasonably be expected to have a Borrower Material Adverse Effect, such notice to include, if reasonably requested by Administrative Agent, copies of all material papers filed in such litigation involving Borrower or an Equity Party, and such notice to be given monthly if any such papers have been filed since the last notice given;

        5.2.2    Any dispute or disputes which may exist between Borrower or any Equity Party and any Governmental Authority and which involve (a) claims against any such Person which exceed $4,000,000, in the case of Borrower, or $10,000,000, in the case of an Equity Party, in the aggregate per year, (b) injunctive or declaratory relief, or (c) any Liens (other than Borrower Permitted Liens) relating to an Approved Project for taxes due but not paid;

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        5.2.3    Any Borrower Event of Default or Borrower Inchoate Default, together with a description of any action being taken or proposed to be taken with respect thereto;

        5.2.4    Any matter which has had, or, in Borrower's reasonable judgment, would reasonably be expected to have, a Borrower Material Adverse Effect;

        5.2.5    Promptly, but in no event later than 30 days prior to any transfer of NEG's direct or indirect interests in Borrower, notice thereof, which notice shall describe such transfer in reasonable detail; and

        5.2.6    Any receipt of or change in ratings given to any Equity Party, Borrower or the Obligations by Moody's or S&P, including the placement of any such Person on "credit watch negative" or a similar status.

        Notwithstanding the foregoing, Borrower shall not be required give notice of any matter described in this Section 5.2 that is not directly related to Borrower or any Equity Party and is described in any Form 10-K, 10-Q or 8-K or other form or document filed by Borrower or any of its Affiliates with the Securities and Exchange Commission and available on the Commission's Electronic Data Gathering, Analysis and Retrieval (EDGAR) system, so long as Borrower provides Administrative Agent with notice of such filing within the applicable time period set forth in this Section 5.2, including the location of the relevant matter within such filing and a general description of such matter.

        5.3    Financial Statements.    Borrower shall deliver or cause to be delivered to Administrative Agent, in form and detail reasonably satisfactory to Administrative Agent:

        (a)  As soon as available and in any event within 60 days after the end of each of the first three quarters of the fiscal year of the applicable Person, a consolidated balance sheet of each Equity Party and Borrower as of the end of such quarter and the related statements of income for such quarter and for the portion of the fiscal year ended at the end of such quarter, and the related statement of cash flows for such quarter and for the portion of the fiscal year ended at the end of such quarter, in each case setting forth comparative figures for the previous dates and periods, to the extent available, all certified (subject to normal year-end adjustments) as to fairness of presentation, GAAP and consistency by a Responsible Officer of the applicable Person;

        (b)  as soon as available and in any event within 120 days after the end of each fiscal year of the applicable Person, an audited consolidated balance sheet of each Equity Party and Borrower as of the end of such fiscal year and the related audited statements of income, retained earnings and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal year, to the extent available, all reported on by an independent public accountant of nationally recognized standing; and

        (c)  each time financial statements are delivered under Section 5.3(a) or (b) above, along with such financial statements, a certificate signed by a Responsible Officer of the applicable Person, certifying that such officer has made or caused to be made a review of the transactions and financial condition of such Person during the relevant fiscal period and that such review has not, to the best of such Responsible Officer's knowledge, disclosed the existence of any event or condition which constitutes a Borrower Event of Default or Borrower Inchoate Default, or if any such event or condition existed or exists, the nature thereof and the corrective actions that such Person has taken or proposes to take with respect thereto, and also certifying that such Person is in compliance with all applicable material provisions of each Credit Document to which such Person is a party or, if such is not the case, stating the nature of such non-compliance and the corrective actions which such Person has taken or proposes to take with respect thereto;

provided that Borrower shall not be required to provide any such financial statements to the extent the financial statements have been filed by the applicable Person with the Securities and Exchange Commission and are available on the Commission's Electronic Data Gathering, Analysis and Retrieval

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(EDGAR) system, so long as Borrower provides Administrative Agent with notice of such filing within the applicable time period set forth in this Section 5.3.

        5.4    Inspection of Books and Records.    Borrower shall keep proper books of accounts and records in accordance with GAAP and in compliance in all material respects with all applicable Legal Requirements and make the same available for inspection by Administrative Agent.

        5.5    Compliance with Laws.    Borrower shall comply with all applicable Legal Requirements, except where non-compliance would not reasonably be expected to have a Borrower Material Adverse Effect.

        5.6    Existence, Conduct of Business, Etc.    Borrower shall (a) maintain and preserve its existence as a limited liability company formed under the laws of the State of Delaware and all material rights, privileges and franchises necessary or desirable in the normal conduct of its business, (b) engage only in the business contemplated by the Credit Documents and (c) perform all of its contractual obligations under the Credit Documents.

        5.7    Calculation of Ratios.

        5.7.1    Debt Service Coverage Ratio.    At least 10 days prior to each day on which the Debt Service Coverage Ratio is required to be calculated hereunder, Borrower shall deliver to Administrative Agent a certificate in the form of Exhibit C-6A with the calculation of the Debt Service Coverage Ratio as of such required calculation date. Administrative Agent shall notify Borrower of any manifest errors in the calculation of the Debt Service Coverage Ratio within five days of receipt of Borrower's certificate, and Borrower shall correct any such manifest errors. The Debt Service Coverage Ratio shall be calculated in a manner which is consistent with and supported by the conclusions set forth in the most recently delivered Independent Consultants' reports, Independent Market Forecast and Base Case Project Projections.

        5.7.2    Debt to Capitalization Ratio.    At least 10 days prior to each day on which the Debt to Capitalization Ratio is required to be calculated hereunder, Borrower shall deliver to Administrative Agent a certificate in the form of Exhibit C-6B with the calculation of the Debt to Capitalization Ratio as of such required calculation date. Administrative Agent shall notify Borrower of any manifest errors in the calculation of the Debt to Capitalization Ratio within five days of receipt of Borrower's certificate, and Borrower shall correct any such manifest errors. The Debt to Capitalization Ratio shall be calculated in a manner which is consistent with and supported by the conclusions set forth in the most recently delivered Independent Consultants' reports, Independent Market Forecast and Base Case Project Projections. Equity Contributions shall be included in the calculation of the Debt to Capitalization Ratio only to the extent such amounts were used to pay Project Costs as specified in the Borrower Budget and/or the applicable Project Budget.

        5.8    Indemnification.

        5.8.1    (a) Borrower shall indemnify, defend and hold harmless the Arrangers, Administrative Agent, the Depositary Agent, the LC Bank, each Bank, each Lender Group Member, each Asset Securitization Company, each Liquidity Provider and each Hedge Bank, and in their capacities as such, their respective officers, directors, shareholders, controlling Persons, affiliates, employees, agents and servants (collectively, the "Indemnitees") from and against any and all claims, obligations, liabilities, losses, costs or expenses (including reasonable attorneys' fees and disbursements), penalties, actions and suits (other than with respect to any taxes or similar claims, the indemnification of which is covered solely under Sections 2.5.4 and 2.7.3) which any of them may incur or which may be claimed against any of them (collectively, "General Subject Claims"), in any way arising out of or in connection with this Agreement (including the execution, delivery, enforcement, performance and administration of, and the syndication of Commitments under, this Agreement), the other Operative Documents, any of the transactions contemplated hereby or thereby or any Project (including the actual or proposed use of proceeds of any Loans).

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        (b)  Without limiting the generality of clause (a) above, Borrower further agrees to indemnify and hold harmless each Indemnitee from and against any and all claims, losses, liabilities, suits, obligations, fines, damages, judgments, penalties, charges, costs and expenses (including reasonable attorneys' fees and disbursements) (whether civil or criminal, arising under a theory of negligence or strict liability, or otherwise) which may be imposed on, incurred or paid by or asserted against such Indemnitee (collectively, "Environmental Subject Claims" and, together with General Subject Claims, "Subject Claims") in connection with the Release or presence of any Hazardous Substances at any Project or Site, whether foreseeable or unforeseeable, including all costs of removal and disposal of such Hazardous Substances, all reasonable costs required to be incurred in (i) determining whether a Project is in compliance and (ii) causing such Project to be in compliance, with all applicable Legal Requirements, all reasonable costs associated with claims for damages to Persons or property, and reasonable attorneys' and consultants' fees and court costs.

        5.8.2    The foregoing indemnities shall not apply with respect to an Indemnitee to the extent that any Subject Claim is found by a final and non-appealable decision of a court of competent jurisdiction to have resulted from the gross negligence or willful misconduct of such Indemnitee, but shall continue to apply to other Indemnitees.

        5.8.3    Borrower agrees that no Indemnitee shall have any liability (whether direct or indirect, in contract, tort or otherwise) to Borrower, any other Credit Party or any of their respective shareholders, affiliates or creditors for or in connection with this Agreement, the other Operative Documents or any of the transactions contemplated hereby or thereby, except to the extent such liability is found in a final, non-appealable court of competent jurisdiction to have resulted from such Indemnitee's gross negligence or willful misconduct.

        5.8.4    The provisions of this Section 5.8 shall survive foreclosure of the Collateral Documents and satisfaction or discharge of the Credit Parties' obligations hereunder and under the other Credit Documents, and shall be in addition to any other rights and remedies of the Secured Parties.

        5.8.5    In case any action, suit or proceeding shall be brought against any Indemnitee, such Indemnitee shall notify Borrower of the commencement thereof, and Borrower shall be entitled, at its expense, acting through counsel reasonably acceptable to such Indemnitee, to participate in, and, to the extent that Borrower desires, to assume and control the defense thereof; provided, however, that Borrower shall not settle or compromise any Subject Claim on behalf of such Indemnitee without such Indemnitee's prior written consent (a) unless such settlement or compromise includes an unconditional release of such Indemnitee from, and holds such Indemnitee harmless against, all liability arising out of such claim, action, proceeding or investigation or (b) if the settlement or compromise involves any non-monetary relief to be performed, or admission of guilt or wrongdoing, by such Indemnitee. Such Indemnitee shall be entitled, at its expense, to participate in any action, suit or proceeding the defense of which has been assumed by Borrower. Notwithstanding the foregoing, Borrower shall not be entitled to assume and control the defense of any such action, suit or proceedings if and to the extent that, in the reasonable opinion of such Indemnitee and its counsel, such action, suit or proceeding involves the potential imposition of criminal liability upon such Indemnitee or a conflict of interest between such Indemnitee and Borrower or between such Indemnitee and another Indemnitee (unless such conflict of interest is waived in writing by the affected Indemnitees), and in such event (other than with respect to disputes between such Indemnitee and another Indemnitee) Borrower shall pay the reasonable expenses of such Indemnitee in such defense.

        5.8.6    Upon payment of any Subject Claim by Borrower pursuant to this Section 5.8 or other similar indemnity provisions contained herein to or on behalf of an Indemnitee, Borrower, without any further action, shall be subrogated to any and all claims that such Indemnitee may have

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relating thereto, and such Indemnitee shall cooperate with Borrower and give such further assurances as are necessary or advisable to enable Borrower vigorously to pursue such claims.

        5.8.7    Any amounts payable by Borrower pursuant to this Section 5.8 shall be regularly payable within 30 days after Borrower receives an invoice for such amounts from any applicable Indemnitee, and if not paid within such 30-day period shall bear interest at the Default Rate.

        5.8.8    Notwithstanding anything to the contrary set forth herein, Borrower shall not, in connection with any one legal proceeding or claim, or separate but related proceedings or claims arising out of the same general allegations or circumstances, in which the interests of the Indemnitees do not materially differ, be liable to the Indemnitees (or any of them) under any of the provisions set forth in this Section 5.8 for the fees and expenses of more than one separate firm of attorneys (which firm shall be selected by the affected Indemnitees, or upon failure to so select, by Administrative Agent), exclusive of any appropriate local counsel.

        5.8.9    If, for any reason whatsoever, the indemnification provided under this Section 5.8 is unavailable to any Indemnitee or is insufficient to hold it harmless to the extent provided in this Section 5.8, then provided such payment is not prohibited by or contrary to any applicable Legal Requirement or public policy, Borrower shall contribute to the amount paid or payable by such Indemnitee as a result of the Subject Claim in such proportion as is appropriate to reflect the relative economic interests of Borrower and its Affiliates on the one hand, and such Indemnitee on the other hand, in the matters contemplated by this Agreement as well as the relative fault of Borrower (and its Affiliates) and such Indemnitee with respect to such Subject Claim, and any other relevant equitable considerations.

        5.8.10    Notwithstanding anything to the contrary set forth herein, no Lender Group Member, Asset Securitization Company or Liquidity Provider shall receive any greater amount under this Section 5.8 than it would have received had it been a Bank. Any amounts not paid by operation of the limitations set forth in Sections 2.5.4, 2.7.3, 2.7.4 and 2.8 shall not be recoverable under this Section 5.8.

        5.9    Further Assurances.

        5.9.1    Borrower shall preserve the security interests in the Borrower Collateral and upon request by Administrative Agent undertake all actions which are necessary or advisable or which are reasonably requested by Administrative Agent to (a) maintain Administrative Agent's security interest in the Borrower Collateral in full force and effect at all times (including the priority thereof), and (b) preserve and protect the Borrower Collateral and protect and enforce Borrower's rights and title and the rights of Administrative Agent to the Borrower Collateral, including the making or delivery of all filings and recordations, the payment of fees and other charges and the issuance of supplemental documentation.

        5.9.2    Borrower shall perform such reasonable acts as may be necessary to carry out the intent of this Agreement and the other Credit Documents.

        5.9.3    Without limiting the generality of Section 5.9.1, Borrower shall cause the equity interests in the Approved Project Companies and the Approved Intermediate Holding Companies to be "certificated securities" as defined in Article 8 of the UCC.

        5.9.4    Notwithstanding anything in this Agreement or any other Credit Document to the contrary, Borrower shall not be required to enforce its rights or exercise its remedies under the Building Loan Documents.

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        5.10    Market Forecasts.    Borrower shall furnish or cause to be furnished to Administrative Agent no later than three months prior to the expected Last Completion Date (according to the Project Schedules) and on or prior to each anniversary of the actual Last Completion Date thereafter, a forecast (an "Independent Market Forecast") prepared by the Power Market Consultant or another independent nationally recognized forecasting consultant reasonably acceptable to Administrative Agent, which forecasts (a) electricity prices for the markets relevant to the Approved Projects and (b) gas prices on a delivered basis to the Approved Projects, in each case on at least an annual basis through the period set forth in the Base Case Project Projections most recently delivered hereunder. In preparing any projections for purposes of calculating the Debt Service Coverage Ratio, Borrower shall use the most recently prepared Independent Market Forecast.

        5.11    Revenue Payments to Borrower.    Borrower shall cause the Approved Project Companies to distribute all Project Revenues, Loss Proceeds and other amounts received by the Approved Project Companies to Borrower and shall deposit such amounts into the applicable Accounts in accordance with the Depositary Agreement.

        5.12    Taxes.    Borrower shall pay and discharge promptly when due all material taxes and governmental charges imposed upon it or upon its income or profits or in respect of its property, in each case before the same shall become delinquent or in default and before penalties accrue thereon, unless and to the extent the same are being contested in good faith by appropriate proceedings and adequate reserves with respect thereto shall, to the extent required by GAAP, have been set aside, and failure to pay or comply with the contested item would not reasonably be expected to have a Borrower Material Adverse Effect.

        5.13    Interest Rate Protection.

        5.13.1    Compliance with Interest Rate Agreements.

        (a)  Within 30 days after the Initial Credit Event Date for each Approved Project, Borrower shall enter into with one or more Hedge Banks one or more Interest Rate Agreements in a notional amount equal to at least 50% of the Allocated Portion of the Total Construction Loan Commitment for such Approved Project through the scheduled Final Maturity Date and, thereafter, at all times comply with and maintain in full force and effect such Interest Rate Agreements.

        (b)  In the event that the yield on 10-year U.S. Treasury Bonds exceeds 8.50% for five consecutive Banking Days, within 10 Banking Days of such date, Borrower shall enter into with one or more Hedge Banks one or more Interest Rate Agreements in a notional amount equal to, when combined with the notional amounts under the Interest Rate Agreements entered into pursuant to clause (a) of this Section 5.13.1, at least 90% of the Allocated Portions of the Total Construction Loan Commitment for all Approved Projects through the scheduled Final Maturity Date and, thereafter, at all times comply with and maintain in full force and effect such Interest Rate Agreements.

        5.13.2    Hedge Breaking Fees.    To the extent required pursuant to the terms of the Hedge Transactions, Borrower shall pay all costs, fees and expenses incurred by the Hedge Banks in connection with any unwinding, breach or termination of such Hedge Transactions ("Hedge Breaking Fees"), all to the extent provided in and as calculated pursuant to the applicable Interest Rate Agreements.

        5.13.3    Security.    Each Interest Rate Agreement provided by a Hedge Bank hereunder, including all Hedge Transactions thereunder entered into in accordance with the terms of this Agreement, and all Hedge Breaking Fees shall be and are hereby secured by the Collateral Documents, pari passu with the Loans. The parties hereto agree that, for purposes of the sharing of Collateral and voting on the exercise of remedies under the Credit Documents, each Hedge Bank, in its capacity as such, shall be deemed to have a Proportionate Share equal to the amount

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of Hedge Breaking Fees that would be owed by Borrower to such Hedge Bank under any Hedge Transaction if an Early Termination Date (as defined in the applicable Interest Rate Agreement) were to occur on the date of determination of such Proportionate Share.

        5.13.4    Bank Participation.    At the election of the Hedge Bank party to any Interest Rate Agreement, the Banks and the Lender Groups may participate in such Interest Rate Agreement and the Hedge Transactions thereunder in proportion to (i) in the case of the Banks, their respective Proportionate Shares and (ii) in the case of a Lender Group, such Lender Group's Proportionate Share, by means of a risk sharing agreement in form and substance reasonably satisfactory to the participating Banks and Lender Groups, provided that if the lending office of any such Bank or any applicable Lender Group Member is in the State of New York, such Bank or such Lender Group Member may designate another branch to enter into such risk sharing agreement.

        5.14    Intercompany Loans.    Borrower shall cause all Debt issued by a Credit Party to another Credit Party (other than pursuant to the Building Loan Agreement) to be evidenced by an Intercompany Note, and shall cause such Intercompany Note to be included in the Collateral and the original thereof to be promptly delivered to Administrative Agent.

ARTICLE 6.
NEGATIVE COVENANTS OF BORROWER

        Borrower covenants and agrees that, so long as any of the Commitments shall remain in effect and until payment and performance in full of all of the Obligations, Borrower shall perform the covenants set forth in this Article 6 (unless waived in accordance with Section 9.9 of this Agreement).

        6.1    Contingent Liabilities.    Except for the consummation of the transactions pursuant to this Agreement and the other Credit Documents, Borrower shall not become liable as a surety, guarantor, accommodation endorser or otherwise, for or upon the obligation of any other Person; provided, however, that this Section 6.1 shall not be deemed to prohibit the incurrence, creation, assumption or existence of Borrower Permitted Debt.

        6.2    Limitations on Liens.    Borrower shall not create, assume or suffer to exist any Lien securing a charge or obligation on any properties or assets of Borrower, real or personal, whether now owned or hereafter acquired, except Borrower Permitted Liens.

        6.3    Indebtedness.    Borrower shall not incur, create, assume or permit to exist any Debt, except Borrower Permitted Debt.

        6.4    Sale of Assets.    (a) Borrower shall not sell, lease, assign, transfer or otherwise dispose of any of its properties or assets, whether now owned or hereafter acquired, except that (x) Borrower may assign any Interest Rate Agreement in accordance with the terms thereof so long as following such assignment Borrower continues to be in compliance with Section 5.13, and (y) on or after March 31, 2002, Borrower may transfer 100% (but not less than 100%) of its direct and indirect interests in any Approved Project Company to any other Person (other than a Credit Party) if the following conditions are satisfied at the time of the proposed transfer:

          (i)  no Borrower Event of Default, Borrower Inchoate Default, Project Event of Default (except with respect to the Approved Project Company being transferred) or Project Inchoate Default (except with respect to the Approved Project Company being transferred) shall exist as of the date of the proposed transfer;

        (ii)  Administrative Agent shall have received written confirmation from each Rating Agency that the ratings assigned to the Obligations after giving effect to the proposed transfer will be at least Baa3 in the case of Moody's and at least BBB- in the case of S&P;

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        (iii)  Borrower shall (A) prepay Construction Loans (with amounts other than amounts in any Account or otherwise constituting Collateral, which amounts may include the proceeds of the proposed transfer) in an amount such that, after giving effect to the proposed transfer and such prepayment, the minimum and average annual projected Debt Service Coverage Ratios for the Approved Projects (taken as a whole and not including the Approved Project being transferred) over the period set forth in the Base Case Project Projections most recently delivered hereunder are not less than (1) if there are two Approved Projects after giving effect to the proposed transfer, 2.25 to 1.0 and 3.25 to 1.0, respectively, and (2) if there are three Approved Projects after giving effect to the proposed transfer, 2.0 to 1.0 and 3.0 to 1.0, respectively, and (B) prepay all Working Capital Loans and Project LC Loans made in respect of the Approved Project being transferred;

        (iv)  after giving effect to the proposed transfer, the Debt to Capitalization Ratio (excluding the Approved Project Company being transferred in the calculation thereof) shall be no greater than the Maximum Debt to Capitalization Ratio;

        (v)  after giving effect to the proposed transfer, (A) there shall be at least two Approved Projects and (B) if the proposed transfer occurs prior to the Last Completion Date, at least one of the Approved Projects shall be the Millennium Project;

        (vi)  after giving effect to the proposed transfer and the prepayment of Loans described in clause (iii) above, the Available Construction Funds for all Approved Projects shall, in the reasonable judgment of Administrative Agent and the Independent Engineer, be equal to or exceed the remaining Project Costs for all Approved Projects;

      (vii)  after giving effect to the proposed transfer, no event or condition shall exist that would reasonably be expected to have a Borrower Material Adverse Effect;

      (viii)  all Debt owed by the Approved Project Company being transferred to any other Credit Party and all Debt owed by any Credit Party to the Approved Project Company being transferred shall be repaid in full;

        (ix)  the proposed transfer shall be effected by a transfer by Borrower of its interests in the applicable Approved Intermediate Holding Companies;

        (x)  the proposed transfer shall be made pursuant to documentation consistent with the foregoing conditions in form and substance reasonably satisfactory to Administrative Agent; and

        (xi)  Borrower shall have delivered to Administrative Agent a certificate, in form and substance reasonably satisfactory to Administrative Agent, stating that each of the conditions set forth in this Section 6.4. have been satisfied and setting forth the Total Equity Commitment after giving effect to the proposed transfer, and the Majority Banks do not object in writing to the accuracy of such certification within 15 Banking Days after delivery of such certificate and other supporting documents as Borrower and Administrative Agent may agree to the Banks and the Lender Groups.

        (b)  If Borrower is permitted to transfer its direct or indirect equity interests in an Approved Project Company pursuant to clause (a), Administrative Agent shall take all actions reasonably requested by Borrower in writing in order to (i) release the Liens of Administrative Agent on the equity interests in such Approved Project Company and the applicable Approved Intermediate Holding Companies and on the associated Approved Project and Project Documents (including the execution of UCC-3 termination statements and deeds of reconveyance), (ii) release such Approved Project Company from its Project Company Guaranty in accordance with the terms thereof and (iii) release NEG from the applicable NEG EPC Guaranty (if any) and the Millennium O&M Cost Contribution Agreement (in the case of the Millennium Project) in accordance with the terms thereof. Upon the

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releases of such Approved Project Company, Approved Intermediate Holding Companies and Approved Project described in the immediately preceding sentence, such Approved Project Company, Approved Intermediate Holding Companies and Approved Project shall cease to be an Approved Project Company, Approved Intermediate Holding Companies and an Approved Project, as the case may be, for purposes of this Agreement and the other Credit Documents.

        6.5    Nature of Borrower's Business.    Borrower shall not change the nature of its business or expand its business beyond the business contemplated in the Credit Documents. Without limiting the generality of the foregoing, (a) Borrower shall not enter into any Project Document, (b) Borrower shall not hold any equity, voting or other interest in any Person other than the Approved Intermediate Holding Companies, (c) Borrower shall not own or lease any material assets other than its equity interests in the Approved Intermediate Holding Companies and Permitted Investments in accordance with Article V of the Depositary Agreement and (d) Borrower shall not have any employees.

        6.6    Distributions.

        6.6.1    Other than (w) the making of In Kind Equity Payments, Equity Contribution True-Up Reimbursements and NEG EPC Guaranty Reimbursements in accordance with the proviso to Section 5.1.1(a) hereof, (x) the making of Excess Cash Flow Contributions in accordance with Section 4.2.2 of the Depositary Agreement, (y) the distribution of Divestiture Profits and (z) the making of Other Proceeds Contributions in accordance with Section 4.8.2(d)(ii) of the Depositary Agreement, Borrower shall not directly or indirectly make or declare any distribution (in cash, property or obligation) on, or make any other payment on account of, any interest in Borrower or any other Credit Party (including transfers of any tax benefits), or make any payment on account of subordinated obligations (including Subordinated Affiliate Fees) (a "Restricted Payment"), unless:

          (i)  no Borrower Event of Default or Borrower Inchoate Default has occurred and is continuing and such Restricted Payment will not result in a Borrower Event of Default or Borrower Inchoate Default;

        (ii)  the amount of such Restricted Payment does not exceed the sum of (A) the aggregate of all Attributed Distributable Cash as of the proposed Restricted Payment Date for the Approved Project Companies with respect to which no Project Event of Default or Project Inchoate Default has occurred and is continuing or would result from such Restricted Payment, plus (B) the aggregate of all Attributed Distributable Cash as of any previous Restricted Payment Date for the Approved Project Companies with respect to which no Project Event of Default or Project Inchoate Default has occurred and is continuing or would result from such Restricted Payment that (x) was required to be retained in the Distribution Account on such previous Restricted Payment Date, (y) remains on deposit in the Distribution Account and (z) is not required to be used to prepay Loans as contemplated by the last sentence of Section 4.7.2 of the Depositary Agreement;

        (iii)  both the Amortization Commencement Date and the Last Completion Date have occurred as of the proposed Restricted Payment Date;

        (iv)  there are no outstanding Working Capital Loans, Project LC Loans, DSR LC Loans or Reimbursement Obligations under the Letters of Credit as of the proposed Restricted Payment Date;

        (v)  the Obligations are rated at least Baa3 by Moody's and at least BBB- by S&P as of the proposed Restricted Payment Date;

        (vi)  as of the proposed Restricted Payment Date, the cash and Permitted Investments on deposit in the Debt Service Reserve Account, together with the then current Stated Amount of the DSR Letter of Credit (if any), shall equal or exceed the DSR Required Balance;

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      (vii)  such Restricted Payment is made from Account Funds in the Distribution Account in accordance with Section 4.7.2 of the Depositary Agreement;

      (viii)  no Borrower Material Adverse Effect has occurred and is continuing or would reasonably be expected to occur as a result of such Restricted Payment;

        (ix)  (A) the historical Debt Service Coverage Ratio for the Approved Projects (taken as a whole) for the 12 months immediately preceding the Quarterly Date that is on or immediately preceding the proposed Restricted Payment Date (or such shorter period beginning on the Last Completion Date and ending on such Quarterly Date) is equal to or greater than 1.7 to 1.0, and (B) the projected Debt Service Coverage Ratio for the Approved Projects (taken as a whole) for the 24 months immediately following such Quarterly Date equal to or greater than 1.7 to 1.0;

        (x)  the Representative Equivalent Availability Factor shall have been equal to or greater than 88% during any one Availability Determination Period occurring prior to the proposed Restricted Payment Date, and Borrower shall have satisfied the following information delivery requirements in connection therewith:

        (A)  Borrower shall have made available to Administrative Agent, no more than 30 days after each Quarterly Date occurring in such Availability Determination Period, a written calculation of the Representative Equivalent Availability Factor during the quarter ending on such Quarterly Date, together with such data and documentation as reasonably requested by Administrative Agent to verify such Representative Equivalent Availability Factor, including sufficient data to verify the duration of a forced or planned derate to the nearest hour (provided that Borrower shall not be required to provide Administrative Agent with an hour-by-hour calculation of any given derated situation, but rather shall be required to provide Administrative Agent with appropriate trend plots or other suitable alternative which clearly shows the magnitude and time duration of the derate); and

        (B)  for any Allowance Hours included in the calculation of such Representative Equivalent Availability Factor, Borrower shall have provided to Administrative Agent, at least 5 days prior to the applicable outage (or such shorter period agreed to by Administrative Agent), a written outage plan specifying the following: (1) the projected duration of the outage; (2) the work to be performed during the outage; (3) the projected cost to complete the outage; and (4) the projected performance benefit from the work to be performed during the outage;

        (xi)  Borrower shall have delivered to Administrative Agent, at least five Banking Days prior to the proposed Restricted Payment Date, as-built A.L.T.A. surveys of the Site (in form and substance as required in Section 3.2.22) with respect to each Approved Project (or such other documentation reasonably acceptable to Administrative Agent), in form and substance reasonably satisfactory to Administrative Agent and the Title Insurer, certified to Administrative Agent as to completeness and accuracy by a licensed surveyor reasonably satisfactory to Administrative Agent, showing (A) as to such Site, the exact location and dimensions thereof, including the location of all means of access thereto and all Easements relating thereto and showing the perimeter within which all foundations are located; (B) as to such Easements, the exact location and dimensions thereof, including the location of all means of access thereto from such Approved Project, and all improvements or other encroachments in or on such Easements burdening such Approved Project; (C) the location and dimensions of all improvements, fences or encroachments located in or on such Site or such Easements; (D) that the location of such Approved Project does not encroach on or interfere with adjacent property or existing easements or other rights, whether on, above or below ground (or if the location of such Approved Project does encroach on or interfere with adjacent

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property or existing easements or other rights, such encroachment or interference is reasonably acceptable to Administrative Agent); (E) any gaps, gores, projections or protrusions at the Site; and (F) whether such Site or any portion thereof is located in a special earthquake or flood hazard zone; provided, however, that the matters described in clauses (B) and (F) may be shown by separate maps, surveys or other manner reasonably satisfactory to Administrative Agent; and

      (xii)  Borrower shall have delivered to Administrative Agent, at least five Banking Days prior to the proposed Restricted Payment Date, a certificate (which certificate shall demonstrate in reasonable detail compliance with the conditions set forth in clause (ix) above), dated as of the proposed Restricted Payment Date and duly executed by a Responsible Officer of Borrower, certifying to the effect that each of the foregoing conditions shall have been satisfied as of such date;

provided, however, that even if not all of the foregoing conditions have been satisfied as of the proposed Restricted Payment Date, Borrower may make distributions for Federal, state or local income tax payments in an amount not to exceed the amount that Borrower, the Approved Intermediate Holding Companies and the Approved Project Companies would be required to pay if such Persons were tax paying entities forming a consolidated group for Federal income tax purposes or a similar consolidated, combined or unitary group for state or local income tax purposes, which amount shall be assumed to equal the product of (A) the net income of such group for Federal, state of local income tax purposes multiplied by (B) the highest marginal Federal, state or local income tax rate at the time applicable to "C" corporations, so long as (1) no Borrower Event of Default or Borrower Inchoate Default has occurred and is continuing or would result from such distributions and (2) each of Borrower, the Approved Intermediate Holding Companies and the Approved Project Companies is then treated as a pass-through entity or a Subsidiary of an affiliated group of corporations filing a consolidated, combined or unitary return for Federal, state or local income tax purposes and such Person's income is included in the taxable income of PG&E Corporation or any other entity within the PG&E Corporation affiliate group of corporations.

        6.6.2    Notwithstanding anything set forth in Section 6.6.1, Borrower shall not make any Restricted Payments other than on Quarterly Dates (or within 10 Banking Days thereafter) in accordance with the terms of Section 4.7.2 of the Depositary Agreement.

        6.6.3    (a) Notwithstanding any provision of this Agreement or any other Credit Document to the contrary (including Article III and Section 6.6.1 hereof and Section 5.7 and 5.8 of the applicable Project Company Guaranties), each of Covert Generating Company, LLC and Harquahala Generating Company, LLC (if such Project Company is an Approved Project Company) shall be permitted to reimburse NEG if and to the extent that (i) NEG is entitled to payment pursuant to Section 1(g) or 3(b) of the applicable NEG EPC Guaranty or (ii) such Approved Project Company receives more than 100% of any liquidated damage payment to which it is entitled pursuant to the terms of the applicable Construction Contracts, Equipment Supply Contracts, EPC Support Documents and/or Equipment Support Documents (other than the NEG EPC Guaranty). Amounts reimbursable to NEG as described in clauses (i) and (ii) above shall (A) if paid prior to Completion of the applicable Approved Project, constitute Project Costs for such Approved Project, and (B) if paid at or after Completion of the applicable Approved Project, constitute O&M Costs for such Approved Project. Each of Covert Generating Company, LLC and Harquahala Generating Company, LLC shall be permitted to reimburse NEG as contemplated by clause (i) of this Section 6.6.3(a) notwithstanding the earlier termination of the applicable NEG EPC Guaranty in accordance with its terms. Any reimbursement to NEG contemplated by clause (i) of this Section 6.6.3(a) that is made prior to the termination of the applicable NEG EPC Guaranty shall be subject to the reinstatement of the amount available under such NEG EPC

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Guaranty by the amount of such reimbursement. Any reimbursement to NEG contemplated by clause (i) of this Section 6.6.3(a) that is made after the termination of the applicable NEG EPC Guaranty shall be reduced by the amount of any claims that were made under such NEG EPC Guaranty prior to such termination but were not paid solely because of NEG's limitation on liability thereunder.

        (b)  Notwithstanding any provision of this Agreement or any other Credit Document to the contrary (including Article III and Section 6.6.1 hereof and Section 5.7 and 5.8 of the applicable Project Company Guaranties), Millennium Power Partners, L.P. (if Millennium Power Partners, L.P. is an Approved Project Company) shall be permitted to reimburse NEG if and to the extent that NEG is entitled to payment pursuant to Section 2(b) of the Millennium O&M Cost Contribution Agreement. Amounts reimbursable to NEG as described in the preceding sentence shall constitute O&M Costs for the Millennium Project. Millennium Power Partners, L.P. shall be permitted to reimburse NEG as contemplated by this Section 6.6.3(b) notwithstanding the earlier termination of the Millennium O&M Cost Contribution Agreement in accordance with its terms. Any reimbursement to NEG contemplated by this Section 6.6.3(b) that is made prior to the termination of the Millennium O&M Cost Contribution Agreement shall be subject to the reinstatement of the amount available under the Millennium O&M Cost Contribution Agreement by the amount of such reimbursement. Any reimbursement to NEG contemplated by this Section 6.6.3(b) that is made after the termination of the Millennium O&M Cost Contribution Agreement shall be reduced by the amount of any claims that were made under the Millennium O&M Cost Contribution Agreement prior to such termination but were not paid solely because of NEG's limitation on liability thereunder.

        6.7    Investments.    Borrower shall not make any investments (whether by purchase of stocks, bonds, notes or other securities, loan, extension of credit, advance or otherwise), other than Permitted Investments, cash equity contributions to the Approved Intermediate Holding Companies and the Approved Project Companies, and the on-lending of Loan proceeds to the Approved Intermediate Holdings Companies and the Approved Project Companies.

        6.8    Transactions With Affiliates.    Borrower shall not enter into any transaction or agreement (or any transaction under or pursuant to any transaction or agreement) with any of its Affiliates, other than (a) transactions under the Credit Documents, (b) transactions or agreements between or among only the Credit Parties, (c) transactions or agreements that are entered into in the ordinary course of business on fair and reasonable terms certified by a Responsible Officer of Borrower as no less favorable to Borrower than Borrower would obtain in an arm's-length transaction with a Person that is not an Affiliate of Borrower, or (d) transactions or agreements approved in writing by the Majority Banks.

        6.9    Margin Stock Regulations.    Borrower shall not directly or indirectly apply any Loan proceeds, Equity Contributions, Letter of Credit proceeds or Project Revenues to the "buying", "carrying" or "purchasing" of any margin stock within the meaning of Regulation T, U or X of the Board of Governors of the Federal Reserve System or any regulations, interpretations or rulings thereunder.

        6.10    ERISA.    Borrower shall not establish, maintain, contribute to or become obligated to contribute to any ERISA Plan or suffer or permit any of its Subsidiaries to do so.

        6.11    Dissolution.    Borrower shall not enter into any transaction of merger or consolidation, change its form of organization or its business, liquidate or dissolve itself (or suffer any liquidation or dissolution), amend its governing instruments in any material respect or purchase or otherwise acquire all or substantially all of the assets of any other Person (other than the purchase of equity interests in an Approved Intermediate Holding Company or Approved Project Company).

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        6.12    Accounts.    Borrower shall not maintain, establish or use any bank, deposit or securities accounts other than (a) the Accounts, (b) the local checking accounts described in Article IV of the Depositary Agreement and (c) any Cash Secured Advance Account.

        6.13    Name and Location; Fiscal Year.    Borrower shall not (a) change its name without Administrative Agent's prior written consent, (b) change the location of its principal place of business or its organizational identification number without notice to Administrative Agent at least 30 days prior to such change, or (c) change its fiscal year without Administrative Agent's prior written consent.

        6.14    Assignment.    Borrower shall not assign its rights hereunder or under any of the other Credit Documents, except as expressly permitted under this Agreement and the other Credit Documents.

        6.15    Borrower Budget Amendments.    Borrower shall not amend, reallocate or otherwise modify, or permit the amendment, reallocation or other modification of, the Borrower Budget, other than pursuant to Section 3.2.21(c).

ARTICLE 7.
EVENTS OF DEFAULT; REMEDIES

        7.1    Events of Default.    The occurrence of any of the following events shall constitute an event of default ("Borrower Events of Default") hereunder:

        7.1.1    Failure to Make Payments.    Borrower shall fail to pay, in accordance with the terms of this Agreement, (a) any principal of any Loan or any Reimbursement Obligation on the date that such sum is due, (b) any interest on any Loan or Reimbursement Obligation or any scheduled fee, cost, charge or sum due hereunder or under the other Credit Documents within five Banking Days after the date that such sum is due, or (c) any other fee, cost, charge or other sum due hereunder (including pursuant to Section 5.8) or under the other Credit Documents within 10 Banking Days after the date that such sum is due.

        7.1.2    Judgments.    One or more final judgments for the payment of money (if such payments are not fully covered by insurance) in excess of $10,000,000 in the aggregate shall be rendered against Borrower, and Borrower shall not discharge the same or provide for its discharge in accordance with its terms, or procure a stay of execution thereof, within 60 days after the date of entry thereof; provided, however, that any such judgment or order shall not be (and shall not constitute part of) a Borrower Event of Default under this Section 7.1.2 if and for so long as (i) the amount of such judgment or order is fully covered by a valid and binding policy of insurance between the defendant and the insurer covering payment thereof and (ii) such insurer has been notified of, and has not disputed the claim made for payment of, the amount of such judgment or order.

        7.1.3    Misstatements; Omissions.    Any representation or warranty by Borrower set forth in this Agreement or in any other Operative Document or in any document entered into in connection herewith or therewith or in any certificate, financial statement or other document delivered in connection herewith or therewith shall prove to have been incorrect in any material respect when made (or deemed made) and shall remain uncured or uncorrected for a period of 30 days (or so long as such incorrect representation or warranty is curable and Borrower is diligently proceeding to cure such incorrect representation or warranty, such longer period but in no event for an aggregate period in excess of 90 days) after a Responsible Officer of Borrower first obtained actual knowledge of such material inaccuracy or Borrower first received a notice from Administrative Agent specifying such material inaccuracy and requiring it to be remedied.

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        7.1.4    Bankruptcy; Insolvency.    Borrower shall become subject to a Bankruptcy Event.

        7.1.5    Debt Cross Default.    Borrower shall default for a period beyond any applicable grace period (a) in the payment of any principal, interest or other amount due under any agreement involving the borrowing of money or the advance of credit and the outstanding amount or amounts payable under all such agreements equals or exceeds $10,000,000 in the aggregate, or (b) in the payment of any amount or performance of any obligation due under any guarantee or other agreement if pursuant to such default, the holder of the relevant obligation accelerates the maturity of indebtedness evidenced thereby which equals or exceeds $10,000,000 in the aggregate for all such agreements.

        7.1.6    ERISA.    (a) Borrower shall engage in any "prohibited transaction" (as defined in Section 406 of ERISA or Section 4975 of the Code) involving any ERISA Plan, or (b) any "accumulated funding deficiency" (as defined in Section 302 of ERISA), whether or not waived, shall exist with respect to any ERISA Plan of Borrower, or (c) a Reportable Event shall occur with respect to, or proceedings shall commence to have a trustee appointed, or a trustee shall be appointed, to administer or to terminate any Single Employer Plan of Borrower, which Reportable Event or institution of proceedings is, in the reasonable opinion of Administrative Agent, likely to result in the termination of such Single Employer Plan for purposes of Title IV of ERISA, or (d) any Single Employer Plan of Borrower shall terminate for purposes of Title IV of ERISA, and in each case such event or condition, together with all other such events or conditions, if any, would reasonably be expected to have a Borrower Material Adverse Effect.

        7.1.7    Breach of Terms of Credit Documents.

        (a)  Borrower shall fail to perform or observe any of the covenants or other agreements set forth in Section 3.15 (Committed Equity Contributions), 5.1 (Use of Proceeds and Revenues), 5.6(a) (Maintenance of Existence), 5.11 (Revenue Payments) or Article 6 (other than Section 6.7 (Investments), 6.8 (Transactions with Affiliates), 6.9 (Margin Regulations), 6.10 (ERISA), 6.12 (Accounts), 6.13 (Change of Name, etc.) or 6.15 (Borrower Budget Amendments)); provided that (i) Borrower's failure to perform or observe the covenants set forth in Section 3.15 shall not become a Borrower Event of Default if the Equity Party fully performs its corresponding obligations under the applicable Equity Document within the applicable time periods set forth therein, and (ii) in the case where Borrower's failure to perform or observe the covenants set forth in Section 5.1 is not an intentional failure, such failure shall not become a Borrower Event of Default unless Borrower does not cure such failure within three Banking Days after the occurrence of such failure.

        (b)  Borrower shall fail to perform or observe any of the covenants or other agreements set forth in Section 5.2.3 (Default Notices), 6.7 (Investments), 6.8 (Transactions with Affiliates), 6.9 (Margin Regulations), 6.10 (ERISA), 6.12 (Accounts), 6.13 (Change of Name, etc.) or 6.15 (Borrower Budget Amendments) and such failure shall continue unremedied for a period of 30 days after Borrower becomes aware thereof or receives written notice thereof from Administrative Agent.

        (c)  Borrower shall fail to perform or observe any of the covenants or other agreements set forth hereunder or in any other Credit Document which are not otherwise specifically provided for in Section 7.1.7(a) or (b) or elsewhere in this Article 7 and such failure shall continue unremedied for a period of 30 days after Borrower becomes aware thereof or receives written notice thereof from Administrative Agent; provided, however, if (i) such failure does not consist of a failure to pay money and cannot be cured within such 30 day period, (ii) such failure is susceptible of cure within 90 days, (iii) Borrower is proceeding with diligence and in good faith to cure such failure, (iv) the existence of such failure has not had and cannot after considering the nature of the cure be reasonably expected to have a

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Borrower Material Adverse Effect, and (v) Administrative Agent shall have received an officer's certificate signed by a Responsible Officer of Borrower to the effect of clauses (i), (ii), (iii) and (iv) above and stating what action Borrower is taking to cure such failure, then such 30 day cure period shall be extended to such date, not to exceed a total of 90 days, as shall be necessary for Borrower diligently to cure such failure.

        7.1.8    Loss of Exemption.    Borrower or any Equity Party shall become subject to, or not exempt from, regulation under the FPA or PUHCA, other than Section 9(a)(2) of PUHCA (except to the extent that the FPA or PUHCA is applicable to Borrower or such Equity Party solely by reason of the Approved Project Companies being Exempt Wholesale Generators under PUHCA or being "public utilities", "electric utilities" or "transmitting utilities" under the FPA), and such regulation, or loss of exemption from regulation, shall have a Borrower Material Adverse Effect; provided that Borrower or such Equity Party, as the case may be, shall have 30 days to cure such event before it becomes a Borrower Event of Default so long as the extension of time to cure such event would not reasonably be expected to have a Borrower Material Adverse Effect.

        7.1.9    Borrower Collateral.    (a) The grant of the Lien of any of the Borrower Collateral Documents shall fail in any material respect to provide a perfected Lien in favor of Administrative Agent for the benefit of the Secured Parties on any of the Borrower Collateral with the priority purported to be created thereby, and Borrower shall fail to cure any such failure within 15 days after Borrower becomes aware thereof or receives written notice thereof from Administrative Agent, or (b) Administrative Agent shall receive a Secretary of State Report indicating that Administrative Agent's security interest in any of the Borrower Collateral is not prior to all other security interests or other interests reflected in such report, other than Borrower Permitted Liens, and Borrower shall fail to cure such condition within 15 days after Borrower becomes aware thereof or receives written notice thereof from Administrative Agent.

        7.1.10    Loss of Control.    (a) NEG shall fail to (i) directly or indirectly own more than 50% of the equity interests in Borrower and (ii) control the fundamental management decisions of Borrower (whether through direct or indirect control of the governing body of Borrower, through a management services agreement with Borrower or otherwise), provided that the possession by a Person other than NEG of a veto power over material events with respect to Borrower (e.g., dissolution of Borrower, merger or consolidation of Borrower, sale of all or substantially all assets of Borrower, material amendments to Borrower's organizational documents) shall not in and of itself constitute a failure by NEG to control the fundamental management decisions of Borrower, or (b) except as provided in Section 6.4, Borrower shall fail to directly or indirectly own, through the applicable Approved Intermediate Holding Companies, 100% of the equity and voting interests in the Approved Project Companies.

        7.1.11    Negative Pledge.    The equity interests in Borrower held by NEG or any Subsidiary of NEG shall be pledged to any Person other than Administrative Agent for the benefit of the Secured Parties.

        7.1.12    Project Events of Default.

        (a)  A Fundamental Project Event of Default shall have occurred and be continuing.

        (b)  Any Project Event of Default shall have occurred and be continuing and shall result in a Borrower Material Adverse Effect.

        7.1.13    Unenforceability of Credit Documents.    At any time after the execution and delivery thereof, any material provision of any Credit Document shall cease to be in full force and effect (other than by reason of a release of Collateral thereunder in accordance with the terms hereof or thereof, the satisfaction in full of the Obligations or any other termination of a Credit Document

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in accordance with the terms hereof and thereof) or any Credit Document shall be declared null and void by a Governmental Authority of competent jurisdiction.

        7.1.14    Equity Documents.

        (a)  Any Equity Document shall fail to be in full force and effect (other than due to a termination thereof in accordance with the terms hereof and thereof) or any Equity Party shall repudiate any of its obligations thereunder.

        (b)  Any Equity Party shall fail to make any payment as and when due under any Equity Document to which it is a party.

        7.2    Remedies.    Upon the occurrence and during the continuation of a Borrower Event of Default, Administrative Agent, the Banks and the Lender Groups may, at the election of the Majority Banks, without further notice of default, presentment or demand for payment, protest or notice of non-payment or dishonor, or other notices or demands of any kind, all such notices and demands being waived, exercise any or all of the following rights and remedies, in any combination or order that the Majority Banks may elect (except as expressly set forth below), in addition to such other rights or remedies as the Banks and the Lender Groups may have hereunder, under the Collateral Documents or at law or in equity:

        7.2.1    No Further Loans or Letters of Credit.    Cancel all Commitments and refuse to (and Administrative Agent, the Banks and the Lender Groups shall not be obligated to) (i) continue any Loans, (ii) make any additional Loans, (iii) issue, renew, extend the Expiration Date of, or increase the Stated Amount of, any Letter of Credit, or (iv) make any payments, or permit the making of payments, from any Account or any proceeds or other funds held by Administrative Agent under the Credit Documents or on behalf of any Credit Party; provided that in the event of a Borrower Event of Default occurring under Section 7.1.4, all Commitments shall be cancelled and terminated without further act of Administrative Agent, any Bank or any Lender Group.

        7.2.2    Cure by Majority Banks.    Without any obligation to do so, make disbursements or Loans to or on behalf of Borrower to cure any Borrower Event of Default hereunder and to cure any default or render any performance under any Project Document as the Majority Banks in their sole discretion may consider necessary or appropriate, whether to preserve and protect the Collateral or the Secured Parties' interests therein or for any other reason, and all sums so expended, together with interest on such total amount at the Default Rate (but in no event shall the rate exceed the maximum lawful rate), shall be repaid by Borrower to Administrative Agent on demand and shall be secured by the Credit Documents, notwithstanding that such expenditures may, together with amounts advanced under this Agreement, exceed the aggregate amount of the Total Commitments.

        7.2.3    Acceleration.    Declare and make all sums of accrued and outstanding principal and accrued but unpaid interest remaining under this Agreement, together with all unpaid fees, costs (including Liquidation Costs) and charges due hereunder or under any other Credit Document, immediately due and payable, and require Borrower immediately, without presentment, demand, protest or other notice of any kind, all of which Borrower hereby expressly waives, to pay Administrative Agent and the Banks an amount in immediately available funds equal to the aggregate amount of any outstanding Reimbursement Obligations, provided that in the event of an Event of Default occurring under Section 7.1.4, all such amounts shall become immediately due and payable without further act of Administrative Agent, any Bank or any Lender Group.

        7.2.4    Cash Equity Contributions.    Demand that Borrower make, or cause to be made, Cash Equity Contributions in an amount equal to the then current Available Equity Commitment in accordance with Section 3.15.2(b); provided that in the event of an Event of Default occurring under Section 7.1.4, Borrower shall be required to immediately make, or cause to be made, Cash

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Equity Contributions in an amount equal to the then current Available Equity Commitment without further act of Administrative Agent, any Bank or any Lender Group.

        7.2.5    Cash Collateralization of Letters of Credit.    If Administrative Agent, the Banks and the Lender Groups have exercised the remedies described in Section 7.2.3, maintain in the Accounts for payment of any Reimbursement Obligations or interest thereon arising in connection with any outstanding Letter of Credit an amount of cash equal to the then current Stated Amount of each such Letter of Credit (plus accrued interest on the amounts in such Accounts).

        7.2.6    Cash Collateral.    Apply or execute upon any amounts on deposit in any Account or any proceeds or any other monies of Borrower on deposit with Administrative Agent or any other Secured Party in the manner provided in the Uniform Commercial Code and other relevant statutes and decisions and interpretations thereunder with respect to cash collateral.

        7.2.7    Possession of Approved Projects.    Enter into possession of any Approved Project and perform any and all work and labor necessary to complete such Approved Project or to operate and maintain such Approved Project, and all sums expended by Administrative Agent in so doing, together with interest on such total amount at the Default Rate, shall be repaid by Borrower to Administrative Agent upon demand and shall be secured by the Credit Documents to the extent provided herein, notwithstanding that such expenditures may, together with amounts advanced under this Agreement, exceed the aggregate amount of the Total Commitments.

        7.2.8    Remedies Under Credit Documents.    Exercise any and all rights and remedies available to them under any of the Credit Documents, including judicial or non-judicial foreclosure or public or private sale of any of the Collateral pursuant to the Collateral Documents.

        7.3    Building Loan Documents.    Notwithstanding anything contained in this Agreement or any other Credit Document to the contrary, a default under any of the Building Loan Documents shall not be deemed to be a Borrower Event of Default, Borrower Inchoate Default, Project Event of Default or Project Inchoate Default.

ARTICLE 8.
SCOPE OF LIABILITY

        Except as otherwise expressly provided in this Agreement and the other Operative Documents (including the NEG Equity Guaranty, any other Equity Document, the NEG EPC Guaranties, the Millennium O&M Cost Contribution Agreement and the Other NEG Support Documents), each of the parties hereto (other than Borrower) (the "Non-Company Parties") agrees that all obligations of the Credit Parties under the Operative Documents shall be obligations solely of the Credit Parties, and each Non-Company Party shall have recourse only to the assets of the Credit Parties in enforcing such obligations. Except as otherwise expressly provided in this Agreement and the other Operative Documents, each Non-Company Party hereby acknowledges and agrees that none of the members, partners or shareholders of the Credit Parties, their respective Affiliates and their past, present or future officers, directors, employees, shareholders, agents or representatives (collectively, the "Nonrecourse Parties") shall have any liability to any Non-Company Party for the payment of any sums now or hereafter owing by the Credit Parties under the Operative Documents or for the performance of any of the obligations of the Credit Parties contained therein or shall otherwise be liable or responsible with respect thereto (such liability, including such as may arise by operation of law, being hereby expressly waived). Except as otherwise expressly provided in this Agreement and the other Operative Documents, if any Borrower Event of Default shall occur and be continuing or if any claim of any Non-Company Party against, or alleged liability to any Non-Company Party of, the Credit Parties shall be asserted under this Agreement or the other Operative Documents, each Non-Company Party agrees that it shall not have the right to proceed directly or indirectly against the Nonrecourse Parties or against their respective properties and assets for the satisfaction of any of the obligations of the

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Credit Parties under this Agreement or the other Operative Documents or of any such claim or liability or for any deficiency judgment in respect of such obligation or any such claim or liability or for any deficiency judgment in respect of such obligation or any such claim or liability. The foregoing notwithstanding, it is expressly understood and agreed that nothing contained in this Article 8 shall be deemed to release any Nonrecourse Party from liability for its fraudulent actions or willful misconduct. The foregoing acknowledgments, agreements and waiver shall be enforceable by any Nonrecourse Party.

ARTICLE 9.
ADMINISTRATIVE AGENT; AMENDMENTS AND WAIVERS

        9.1    Appointment; Powers and Immunities.

        9.1.1    Each Bank and each Lender Group Member hereby appoints and authorizes Administrative Agent to act as its agent hereunder and under the other Credit Documents with such powers as are expressly delegated to Administrative Agent by the terms of this Agreement and the other Credit Documents, together with such other powers as are reasonably incidental thereto. Administrative Agent shall not have any duties or responsibilities except those expressly set forth in this Agreement or in any other Credit Document, or be a trustee or a fiduciary for any Bank or any Lender Group Member. Notwithstanding anything to the contrary contained herein, Administrative Agent shall not be required to take any action which is contrary to this Agreement or any other Credit Documents or any Legal Requirement or exposes Administrative Agent to any liability. Each of Administrative Agent, the Banks, the Lender Group Members and any of their respective Affiliates shall not be responsible to any other Bank or any other Lender Group Member for any recitals, statements, representations or warranties made by any Equity Party, Borrower, any other Credit Party or any of their Affiliates contained in the Credit Documents or in any certificate or other document referred to or provided for in, or received by Administrative Agent, or any Bank or any Lender Group Member under, the Credit Documents, for the value, validity, effectiveness, genuineness, enforceability or sufficiency of the Credit Documents, the Notes or any other document referred to or provided for herein or for any failure by any Equity Party, Borrower, any other Credit Party or any of their Affiliates to perform their respective obligations hereunder or thereunder. Administrative Agent may employ agents and attorneys-in-fact and shall not be responsible for the negligence or misconduct of any such agents or attorneys-in-fact selected by it with reasonable care.

        9.1.2    Administrative Agent and its directors, officers, employees and agents shall not be responsible for any action taken or omitted to be taken by it or them hereunder or under any other Credit Document or in connection herewith or therewith, except for its or their own gross negligence or willful misconduct. Without limiting the generality of the foregoing, Administrative Agent (a) may treat the payee of any Note as the holder thereof until Administrative Agent receives written notice of the assignment or transfer thereof signed by such payee and in form satisfactory to Administrative Agent; (b) may consult with legal counsel, independent public accountants and other experts selected by it and shall not be liable for any action taken or omitted to be taken in good faith by it in accordance with the advice of such counsel, accountants or experts; (c) makes no warranty or representation to any Bank or any Lender Group Member for any statements, warranties or representations made in or in connection with any Operative Document; (d) shall not have any duty to ascertain or to inquire as to the performance or observance of any of the terms, covenants or conditions of any Operative Document on the part of any party thereto or to inspect the property (including the books and records) of any Credit Party or any other Person; and (e) shall not be responsible to any Bank or any Lender Group Member for the due execution, legality, validity, enforceability, genuineness, sufficiency or value of any Operative Document or any other instrument or document furnished pursuant hereto. Except as otherwise provided under this Agreement, Administrative Agent shall take such action with respect to the Credit Documents as shall be directed by the Majority Banks.

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        9.2    Reliance by Administrative Agent.    Administrative Agent shall be entitled to rely upon any certificate, notice or other document (including any cable, telegram, facsimile or telex) believed by it to be genuine and correct and to have been signed or sent by or on behalf of the proper Person or Persons, and upon advice and statements of legal counsel, independent accountants and other experts selected by Administrative Agent. As to any other matters not expressly provided for by this Agreement, Administrative Agent shall not be required to take any action or exercise any discretion, but shall be required to act or to refrain from acting upon instructions of the Majority Banks (except that Administrative Agent shall not be required to take any action which exposes Administrative Agent to personal liability or which is contrary to this Agreement, any other Credit Document or any Legal Requirement) and shall in all cases be fully protected in acting, or in refraining from acting, hereunder or under any other Credit Document in accordance with the instructions of the Majority Banks, and such instructions of the Majority Banks and any action taken or failure to act pursuant thereto shall be binding on all of Banks and all of the Lender Groups (and all of the members thereof).

        9.3    Non-Reliance.    Each Bank and each Lender Group Member represents that it has, independently and without reliance on Administrative Agent or any other Bank or Lender Group Member, and based on such documents and information as it has deemed appropriate, made its own appraisal of the financial condition and affairs of the Credit Parties and decision to enter into this Agreement and agrees that it will, independently and without reliance upon Administrative Agent or any other Bank or Lender Group Member, and based on such documents and information as it shall deem appropriate at the time, continue to make its own appraisals and decisions in taking or not taking action under this Agreement. Each of Administrative Agent, any Bank and any Lender Group Member shall not be required to keep informed as to the performance or observance by any Equity Party, Borrower, any other Credit Party or any of their Affiliates under this Agreement or any other document referred to or provided for herein or to make inquiry of, or to inspect the properties or books of, any Equity Party, Borrower, any other Credit Party or any of their Affiliates.

        9.4    Defaults.    Administrative Agent shall not be deemed to have knowledge or notice of the occurrence of any NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default unless Administrative Agent has received a notice from a Bank, a Lender Group Member or Borrower, referring to this Agreement, describing such NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default and indicating that such notice is a notice of default (or a notice of NEG Trigger Event, as applicable). If Administrative Agent receives such a notice of the occurrence of a NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default, Administrative Agent shall give notice thereof to the Banks, the Lender Group Agents on behalf of their respective Lender Groups, Borrower and, with respect to a Borrower Event of Default, Greene County Industrial Development Agency (at the address therefor provided to Administrative Agent by Borrower). Administrative Agent shall take such action with respect to any NEG Trigger Event, Borrower Inchoate Default or Borrower Event of Default as is provided in Article 7 or if not provided for in Article 7, as Administrative Agent shall be reasonably directed by the Majority Banks; provided, however, the unless and until Administrative Agent shall have received such direction, Administrative Agent may (but shall not be obligated to) take such action, or refrain from taking such action, with respect to such Borrower Inchoate Default or Borrower Event of Default as it shall deem advisable in the best interest of the Banks and the Lender Groups.

        9.5    Indemnification.    Without limiting any Obligation of any of Credit Party hereunder, each Bank and each Related Bank agrees to indemnify Administrative Agent and its officers, directors, shareholders, affiliates, controlling Persons, employees, agents and servants, ratably (i) in the case of a Bank, in accordance with such Bank's Proportionate Share, and (ii) in the case of a Related Bank, the Related Bank's Indemnity Share (as defined below), for any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind or nature

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whatsoever which may at any time be imposed on, incurred by or asserted against Administrative Agent or any such Person in any way relating to or arising out of this Agreement or any documents contemplated by or referred to herein or therein or the transactions contemplated hereby or thereby or the enforcement of any of the terms hereof or thereof or of any such other documents (to the extent Borrower has not paid any such amounts pursuant to Section 5.8); provided, however, that no Bank or Related Bank shall be liable for any of the foregoing to the extent they arise from Administrative Agent's or any such Person's gross negligence or willful misconduct. The "Indemnity Share" of each Related Bank at any time shall be a fraction (expressed as a decimal), the numerator of which shall be such Related Bank's Parallel Funding Commitment at such time, and the denominator of which shall be the aggregate of the then current Total Construction Loan Commitment, Total Working Capital/Project LC Commitment and Total DSR LC Commitment. Administrative Agent and any such Person shall be fully justified in refusing to take or to continue to take any action hereunder unless it shall first be indemnified to its satisfaction by the Banks and the Related Banks against any and all liability and expense which may be incurred by it by reason of taking or continuing to take any such action. Without limitation of the foregoing, each Bank and each Related Bank agrees to reimburse Administrative Agent and any such Person promptly upon demand for its ratable share of any out-of-pocket expenses (including counsel fees) incurred by Administrative Agent or any such Person in connection with the preparation, execution, administration or enforcement of, or legal advice in respect of rights or responsibilities under, the Operative Documents, to the extent that Administrative Agent or any such Person is not reimbursed for such expenses by Borrower.

        9.6    Successor Administrative Agent.    Administrative Agent acknowledges that its current intention is to remain Administrative Agent hereunder. Nevertheless, Administrative Agent may resign at any time by giving 15 days' written notice thereof to the Banks, the Lender Group Agents on behalf of their respective Lender Groups and Borrower. Administrative Agent may be removed involuntarily only for a material breach of its duties and obligations hereunder or under the other Credit Documents or for gross negligence or willful misconduct in connection with the performance of its duties hereunder or under the other Credit Documents and then only upon the affirmative vote of the Majority Banks (excluding Administrative Agent from such vote and Administrative Agent's Proportionate Share of the Total Commitment from the amounts used to determine the portion of the Total Commitment necessary to constitute the required Proportionate Share of the remaining Banks). Upon any such resignation or removal, the Majority Banks shall have the right, with the consent of Borrower if no Borrower Inchoate Default under Section 7.1.1 or Borrower Event of Default has occurred and is continuing (such consent not to be unreasonably withheld or delayed), to appoint a successor Administrative Agent. If no successor Administrative Agent shall have been so appointed by the Majority Banks, and shall have accepted such appointment within 30 days after the retiring Administrative Agent's giving of notice of resignation or the Majority Banks' removal of the retiring Administrative Agent, the retiring Administrative Agent may, on behalf of the Banks and the Lender Groups (and each Lender Group Member), with the consent of Borrower if no Borrower Inchoate Default under Section 7.1.1 or Borrower Event of Default has occurred as is continuing (such consent not to be unreasonably withheld or delayed), appoint a successor Administrative Agent, which shall be a Bank or a Related Bank, if any Bank or Related Bank shall be willing to serve, and otherwise shall be a commercial bank having a combined capital and surplus of at least $500,000,000. Upon the acceptance of any appointment as Administrative Agent under the Operative Documents by a successor Administrative Agent, such successor Administrative Agent shall thereupon succeed to and become vested with all the rights, powers, privileges and duties of the retiring Administrative Agent, and the retiring Administrative Agent shall be discharged from its duties and obligations as Administrative Agent. After any retiring Administrative Agent's resignation or removal hereunder as Administrative Agent, the provisions of this Article 9 shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Administrative Agent under the Credit Documents.

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        9.7    Authorization.    Administrative Agent is hereby authorized by the Banks and the Lender Groups (and the Lender Group Members) to execute, deliver and perform each of the Credit Documents to which Administrative Agent is or is intended to be a party and each Bank and each Lender Group (and each Lender Group Member) agrees to be bound by all of the agreements of Administrative Agent contained in the Credit Documents. Administrative Agent is further authorized by the Secured Parties to release liens on property that the Credit Parties are permitted to sell or transfer pursuant to the terms of this Agreement or the other Credit Documents, and to enter into agreements supplemental hereto for the purpose of curing any formal defect, inconsistency, omission or ambiguity in this Agreement or any Credit Document to which it is a party.

        9.8    Administrative Agent as a Bank.    With respect to its Commitments, the Loans made by it and any Note issued to it, the financial institution acting as Administrative Agent shall have the same rights and powers under the Operative Documents as any other Bank and may exercise the same as though it were not Administrative Agent. The term "Bank" or "Banks" shall, unless otherwise expressly indicated, include Administrative Agent in its individual capacity. The financial institution acting as Administrative Agent and its Affiliates may accept deposits from, lend money to, act as trustee under indentures of, and generally engage in any kind of business with Borrower or any other Person, without any duty to account therefor to the Banks or the Lender Groups (or any Lender Group Member). The parties acknowledge and agree that, except as expressly set forth herein, the Arrangers (other than Administrative Agent) shall not, in such capacities (but not in their capacities as Banks, Related Banks or Lender Group Agents), have any rights, responsibilities, duties, obligations (including any fiduciary obligations) or liability hereunder.

        9.9    Amendments; Waivers.

        (a)  Subject to the provisions of this Section 9.9, unless otherwise specified in this Agreement or any other Credit Document, the Majority Banks (or Administrative Agent with the prior written consent of the Majority Banks) may approve in writing any amendment, supplement or other modification of, or waiver, consent, approval, agreement or other action under or with respect to, any Credit Document; provided, however, that no such amendment, supplement, modification, waiver, consent, approval, agreement or action shall modify or waive Section 7.1.10(a) (Loss of Control of Borrower) without the prior written consent of the Supermajority Banks; and provided, further, however, that no such amendment, supplement, modification, waiver, consent, approval, agreement or action shall, without the prior written consent of all of the Banks and all of the Lender Groups:

          (i)  Modify or waive (A) Section 2.6 (Pro Rata Treatment), 2.7 (Change of Circumstances), 2.8 (Funding Losses), 2.9 (Alternate Office, etc.), 3.1 (Conditions Precedent to Closing Date), 3.15 (Committed Equity Contributions), 7.1.10(b) (Loss of Control of Project), 7.1.11 (Negative Pledge), 9.1 (Administrative Agent), 9.13 (Participation) or 9.14 (Transfer of Commitments) hereof, (B) Article II (Guarantee) of any Project Company Guaranty, (C) Section II (Guarantee) of the NEG Equity Guaranty or any corresponding section of any other Equity Document, or (D) Article II (Establishment and Administration of Accounts) or Article III (Security Interest; Remedies) of the Depositary Agreement (except as expressly set forth therein);

        (ii)  Increase the amount of any Commitment of any Bank or Lender Group hereunder;

        (iii)  Change the percentage specified in the definition of "Majority Banks" or "Supermajority Banks";

        (iv)  Change any requirement that an amendment, waiver or other matter hereunder or under the other Credit Documents be subject to the consent or approval of a specified percentage or number of Banks or Lender Groups;

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        (v)  Change the definition of "Maximum Debt to Capitalization Ratio";

        (vi)  Permit any Equity Party or Credit Party to assign, transfer or otherwise dispose of any of its rights or obligations under, or permit the termination or release of, any of the Credit Documents, except as expressly permitted by the terms of this Agreement and the other Credit Documents;

      (vii)  Permit a transfer of any equity or voting interest in any Credit Party, except as expressly permitted by the terms of this Agreement and the other Credit Documents;

      (viii)  Amend this Section 9.9;

        (ix)  Permit the release of any Collateral from the Lien of any of the Collateral Documents, except (A) if such Collateral is replaced with substantially equivalent Collateral (as determined by Administrative Agent) or (B) as otherwise expressly permitted by the terms of this Agreement and the other Credit Documents;

        (x)  Extend the maturity of any Loan or any of the Notes or reduce the principal amount thereof;

        (xi)  Extend the Expiration Date of any Letter of Credit (other than any automatic extension of the Expiration Date of any Letter of Credit that is expressly provided for in such Letter of Credit);

      (xii)  Extend the scheduled Final Maturity Date;

      (xiii)  Reduce the amount or change the time of payment for any principal, interest, fees or other amounts due hereunder or under any other Credit Document;

      (xiv)  Increase the maximum duration of Interest Periods permitted hereunder; or

      (xv)  Agree to subordinate the Obligations to any other indebtedness.

        (b)  Without limiting anything contained in clause (a) above, (i) no amendment, supplement or other modification of, or waiver, consent, approval, agreement or other action under or with respect to, any Note (other than by way of amending a document referred to therein) shall be effective without the written concurrence of the Bank or Lender Group which is the holder of that Note, (ii) no amendment, supplement or other modification of, or waiver, consent, approval, agreement or other action under or with respect to, any provision of any Credit Document which, by its terms, expressly requires the approval or concurrence or is expressly for the benefit of Administrative Agent shall be effective without the written concurrence of Administrative Agent, and (iii) no amendment, supplement or other modification of, or waiver, consent, approval, agreement or other action under or with respect to, any provision of any Credit Document which, by its terms, expressly requires the approval or concurrence or is expressly for the benefit of the Depositary Agent shall be effective without the written concurrence of the Depositary Agent.

        (c)  At any time when there are more than 50 Banks and Lender Groups party to this Agreement (for the purpose of such calculation, the institution acting as both a Bank and the LC Bank and any institution acting as both a Bank and a Hedge Bank, a Related Bank and a Hedge Bank or a Bank and a Related Bank shall be counted only once), any proposed approval to be given or other action to be taken by the Majority Banks hereunder or under any other Credit Document (including supplemental agreements with any party to a Credit Document adding, modifying or waiving any provisions in the Credit Documents or changing in any manner the rights of the Banks, the Lender Groups (or any member thereof) or Borrower hereunder or waiving any NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Inchoate Default or Project Event of Default under this Section 9.9) shall be deemed so given or taken by the Majority Banks unless Banks and Lender Groups having Proportionate Shares which in the

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aggregate exceed 40% notify Administrative Agent of such Banks' and Lender Groups' disapproval of such proposed approval or other action by the date which is 15 Banking Days after the later of (i) the date Borrower or Administrative Agent notifies the Banks and the Lender Group Agents on behalf of their respective Lender Groups of such proposed approval or other action and (ii) the date the Banks and the Lender Group Agents on behalf of their respective Lender Groups receive all documentation and other information which Administrative Agent considers reasonably necessary for the Banks' and the Lender Groups' consideration of such proposed approval or other action and such additional documentation and other information that a Bank or a Lender Group Agent on behalf of its respective Lender Group may reasonably request within five Banking Days after receipt of the documentation and other information originally provided by Administrative Agent under this clause (ii).

        9.10    Withholding Tax.

        9.10.1    To the extent required by any applicable law, Administrative Agent may withhold from any interest payment to any Bank or any Lender Group (or any member thereof) an amount equivalent to any applicable withholding tax. If the forms or other documentation required by Section 2.5 are not delivered to Administrative Agent, then Administrative Agent may withhold from any interest payment to any Bank or any Lender Group (or any member thereof) not providing such forms or other documentation, an amount equivalent to the applicable withholding tax.

        9.10.2    If the Internal Revenue Service or any authority of the United States or other jurisdiction asserts a claim that Administrative Agent did not properly withhold tax from amounts paid to or for the account of any Bank or Lender Group (or any member thereof) (because the appropriate form was not delivered, was not properly executed, or because such Bank or such Lender Group (or any member thereof) failed to notify Administrative Agent of a change in circumstances which rendered the exemption from, or reduction of, withholding tax ineffective, or for any other reason), such Bank or Lender Group shall indemnify Administrative Agent fully for all amounts paid, directly or indirectly, by Administrative Agent as tax or otherwise, including penalties and interest, together with all expenses incurred, including legal expenses, allocated staff costs and any out of pocket expenses.

        9.10.3    If any Bank or Lender Group sells, assigns, grants a participation in, or otherwise transfers its rights under this Agreement, the purchaser, assignee, participant or transferee, as applicable, shall comply and be bound by the terms of Sections 2.5.7, 9.10.1 and 9.10.2 as though it were a Bank.

        9.11    General Provisions as to Payments.    Administrative Agent shall promptly distribute to each Bank and each Lender Group Agent on behalf of its respective Lender Group, subject to the terms of any Assignment Agreement between Administrative Agent and such Bank or such Lender Group substantially in the form of Exhibit L hereto, its pro rata share of each payment of principal and interest payable to the Banks and the Lender Groups on the Loans, each payment of fees hereunder received by Administrative Agent for the account of the Banks and the Lender Groups, and each payment of any other amounts owing under this Agreement. The payments made for the account of each Bank and each Related Bank shall be made, and distributed to it, for the account of its domestic or foreign lending office, as such Bank or such Related Bank may, subject to Section 2.9.3, designate in writing to Administrative Agent. Banks and Related Banks shall have the right, subject to Section 2.9.3, to alter designated lending offices upon five Banking Days prior written notice to Administrative Agent and Borrower.

        9.12    Substitution of Bank or Lender Group.    (a) Should any Bank which is not also a Related Bank fail to make a Loan in violation of its obligations under this Agreement (a "Non-Advancing Bank"), Administrative Agent shall (a) in its sole discretion fund the Loan on behalf of the Non-Advancing Bank or (b) cooperate with Borrower or any Bank to find another Person that shall be

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acceptable to Administrative Agent and that shall be willing to assume the Non-Advancing Bank's obligations under this Agreement (including the obligation to make the Loan which the Non-Advancing Bank failed to make but without assuming any liability for damages for failing to have made such Loan or any previously required Loan). Subject to the provisions of the next following sentence, such Person shall be substituted for the Non-Advancing Bank hereunder upon execution and delivery to Administrative Agent of an agreement acceptable to Administrative Agent by such Person assuming the Non-Advancing Bank's obligations under this Agreement, and all interest and fees which would otherwise have been payable to the Non-Advancing Bank shall thereafter be payable to such Person. Nothing in (and no action taken pursuant to) this Section 9.12 shall (a) relieve the Non-Advancing Bank from any liability it might have to Borrower or to the other Banks as a result of its failure to make any Loan or (b) limit any of the provisions set forth in Section 2.1.6.

        (b)  Should any Related Bank fail to make a Loan in violation of its obligations under this Agreement (a "Non-Advancing Related Bank"), Administrative Agent shall (a) in its sole discretion fund the Loan on behalf of the Non-Advancing Related Bank or (b) cooperate with Borrower, any Bank or any Lender Group to find another Person that shall be acceptable to Administrative Agent and that shall be willing to assume the obligations of the Lender Group of which such Non-Advancing Related Bank is a member under this Agreement and the obligations of such Non-Advancing Related Bank as a Bank under this Agreement with respect to such Bank's Working Capital/Project LC Commitment and DSR LC Commitment (including any outstanding Loans made thereunder, and including the obligation to make the Loan which the Non-Advancing Related Bank failed to make but without assuming any liability for damages for failing to have made such Loan or any previously required Loan). Subject to the provisions of the next following sentence, such Person shall be substituted for the applicable Lender Group and the Non-Advancing Related Bank as a Bank hereunder upon execution and delivery to Administrative Agent of an agreement acceptable to Administrative Agent by such Person assuming the obligations of the Lender Group of which such Non-Advancing Related Bank is a member under this Agreement and the obligations of such Non-Advancing Related Bank as a Bank under this Agreement with respect to such Bank's Working Capital/Project LC Commitment and DSR LC Commitment, and all interest and fees which would otherwise have been payable to such Lender Group and to such Non-Advancing Related Bank as a Bank under this Agreement shall thereafter be payable to such Person. Nothing in (and no action taken pursuant to) this Section 9.12 shall (a) relieve the Non-Advancing Related Bank from any liability it might have to Borrower, the other Banks or Lender Groups (or any member thereof) as a result of its failure to make any Loan or (b) limit any of the provisions set forth in Section 2.1.6.

        9.13    Participation.

        9.13.1    Nothing herein provided shall prevent any Bank or any Lender Group (or any member thereof) from selling a participation in one or more of its Commitments (and Loans made thereunder); provided that (a) no Bank or Lender Group may sell a participation in its Commitments (including Loans) prior to the earlier of (i) March 31, 2002 and (ii) the date on which the Lead Arrangers and Borrower notify the Banks and Lender Groups otherwise, (b) no such sale of a participation shall alter such Bank's, such Lender Group's (or such Lender Group Member's) or Borrower's obligations hereunder, and (c) any agreement pursuant to which any Bank or any Lender Group (or any member thereof) may grant a participation in its rights with respect to its Commitments shall provide that, with respect to such Commitments, subject to the following proviso, such Bank or such Lender Group (or such Lender Group Member) shall retain the sole right and responsibility to exercise the rights of such Bank or such Lender Group, and enforce the obligations of Borrower relating to such Commitments, including the right to approve any amendment, modification or waiver of any provision of this Agreement or any other Credit Document and the right to take action to have the Obligations (or any portion thereof) declared due and payable pursuant to Article 7; provided, however, that such agreement may provide that the participant may have the right to approve or disapprove decreases in Commitments, interest rates or fees, lengthening of maturity of any Loans, extension of the payment date for any amount due

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under Article 2 hereof or release of any material Collateral. No recipient of a participation in any Commitments or Loans of any Bank or any Lender Group (or any Lender Group Member) shall have any rights under this Agreement or shall be entitled to any reimbursement for Taxes, Other Taxes, increased costs or reserve requirements under Section 2.5 or 2.7 or any other indemnity or payment rights against Borrower (but shall be permitted to receive from the Bank or the Lender Group (or the Lender Group Member) granting such participation a proportionate amount which would have been payable to the Bank or the Lender Group (or the Lender Group Member) from whom such Person acquired its participation).

        9.13.2    Notwithstanding anything to the contrary contained herein, any Bank (a "Granting Bank") may grant to a special purpose funding vehicle (a "SPC"), identified as such in writing from time to time by the Granting Bank to Administrative Agent and Borrower, the option to provide to Borrower all or any part of any Loan that such Granting Bank would otherwise be obligated to make to Borrower pursuant to this Agreement; provided that (i) nothing herein shall constitute a commitment by any SPC to make any Loan, and (ii) if an SPC elects not to exercise such option or otherwise fails to provide all or any part of such Loan, the Granting Bank shall be obligated to make such Loan pursuant to the terms hereof. The making of a Loan by an SPC hereunder shall utilize the Commitments of the Granting Bank to the same extent, and as if, such Loan were made by such Granting Bank. Each party hereto hereby agrees that no SPC shall be liable for any indemnity or similar payment obligation under this Agreement (all liability for which shall remain with the Granting Bank). In furtherance of the foregoing, each party hereto hereby agrees (which agreement shall survive the termination of this Agreement) that, prior to the date that is one year and one day after the payment in full of all outstanding commercial paper or other senior indebtedness of any SPC, it will not institute against, or join any other Person in instituting against, such SPC any bankruptcy, reorganization, arrangement, insolvency or liquidation proceedings under the laws of the United States or any state thereof. In addition, notwithstanding anything to the contrary contained in this Section 9.13.2, any SPC may (i) with notice to, but without the prior written consent of, Borrower and Administrative Agent and without paying any processing fee therefor, assign all or a portion of its interests in any Loans to the Granting Bank or to any financial institutions (consented to by Borrower and Administrative Agent) providing liquidity and/or credit support to or for the account of such SPC to support the funding or maintenance of Loans and (ii) disclose on a confidential basis any non-public information relating to its Loans to any rating agency, commercial paper dealer or provider of any surety, guarantee or credit or liquidity enhancement to such SPC. This section may not be amended without the prior written consent of the SPC.

        9.14    Transfer of Commitments

        9.14.1    Generally.    Notwithstanding anything else herein to the contrary, any Bank that is not a Related Bank or any Lender Group, after receiving (a) Borrower's prior written consent as to the identity of the assignee (which consent shall not be unreasonably withheld or delayed or, so long as a Borrower Inchoate Default under Section 7.1.1 or Borrower Event of Default has occurred and is continuing, required), (b) Administrative Agent's prior written consent (which consent shall not be unreasonably withheld or delayed) and (c) the LC Bank's prior written consent if the assignee is rated lower than Baa3 by Moody's or lower than BBB- by S&P (which consent shall not be unreasonably withheld or delayed), may from time to time, at its option, sell, assign, transfer, negotiate or otherwise dispose of all or any portion of one or more of its Commitments (and Loans made thereunder) (including such Bank's or Lender Group's interest in this Agreement and the other Credit Documents) to any bank or other lending institution or other Lender Group which in such assigning Bank's or Lender Group's judgment is reasonably capable of performing the obligations of a Bank or Lender Group hereunder; provided, however, that no Bank or Lender Group may assign any portion of its Commitments (including Loans) prior to the earlier of (i) March 31, 2002 and (ii) the date on which the Lead Arrangers and Borrower notify the Banks and Lender Groups otherwise; provided, further, that no Bank or Lender Group

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(including any assignee of any Bank or any Lender Group) may assign any portion of its Commitments (including Loans) of less than $10,000,000 (unless to another Bank or another Lender Group); provided, further, that a Bank or Lender Group may assign Commitments (including Loans) of less than $10,000,000 if such assignment includes all of such Bank's or Lender Group's Commitments (including Loans) and such Bank or Lender Group did not previously assign its Commitments (including Loans) so as to result in such Bank or Lender Group holding less than $10,000,000 of Commitments (including Loans); provided, further, that any Bank may assign all or any portion of its Commitments (and Loans made thereunder) to an Affiliate of such Bank and any Lender Group may assign all or any portion of its Commitments (and Loans made thereunder) to the Related Bank in such Lender Group as a Bank, in each instance without the consent of any Person; and provided, further, that in the event of any assignment by a Lender Group of a portion of its Lender Group Construction Loans, such assignment shall designate the amount of such assigned Lender Group Construction Loans that are Related Bank Loans and the amount that are CP Conduit Construction Loans. In the event of any such assignment, (i) the assigning Bank's or the assigning Lender Group's Proportionate Share shall be reduced and its obligations hereunder released by the amount of the Proportionate Share assigned to the new lender, (ii) the parties to such assignment shall execute and deliver to Administrative Agent an Assignment Agreement evidencing such sale, assignment, transfer or other disposition substantially in the form of Exhibit L hereto or otherwise satisfactory to Administrative Agent together with an assignment fee payable to Administrative Agent of $5,000 (provided such assignment fee shall not be required with respect to the initial syndication of the Arrangers' Commitments or with respect to an assignment by a Lender Group to the Related Bank in such Lender Group) and any other related documentation reasonably requested by Administrative Agent, including the withholding tax certificates required under Section 2.5.7, (iii) at the assigning Bank's or the assigning Lender Group's option, (A) Borrower shall execute and deliver to such assignee new Notes in the forms attached hereto as Exhibits B-1 through B-3 hereto in a principal amount equal to such assignee's Commitments, and (B) Borrower shall execute and exchange with the assigning Bank or the Lender Group Agent for the assigning Lender Group replacement notes for any Notes in an amount equal to the Commitments retained by such Bank or such Lender Group, if any, (iv) to the extent the assigning Bank or the Lender Group Agent for the assigning Lender Group has been issued any Notes in its favor, such Bank or Lender Group Agent shall cancel and return each such Note to Borrower promptly after the effectiveness of any such assignment, (v) Exhibit I hereto shall be automatically amended without further action to reflect such assignment and the Proportionate Shares of the Banks and the Lender Groups following such assignment and (vi) to the extent such assignment is to a Lender Group, (A) the Related Bank in such Lender Group shall, during the Construction Loan Availability Period, provide any applicable Parallel Funding Commitments with respect to such Lender Group and Exhibit I hereto shall be automatically amended without further action to reflect such assignment, and (B) the portion of Construction Loans assigned to such Lender Group and funded by the CP Conduit in such Lender Group shall (x) to the extent a Base Rate Loan, be deemed to be Base Rate Loan of such CP Conduit with a Base Rate calculated with respect to such CP Conduit and (y) to the extent a LIBOR Loan continue as such LIBOR Loan until the end of the then current Interest Period and then automatically and without further act or instrument be converted into a CP Conduit Funded LIBOR Construction Loan on the last day of such Interest Period, which will be deemed to have been funded by such CP Conduit on such day. Thereafter, any such new lender shall be deemed to be a Bank and shall have all of the rights and duties of a Bank (except as otherwise provided in this Article 9), in accordance with its Proportionate Share, under each of the Credit Documents.

        9.14.2    Transfers within Lender Groups.    Each CP Conduit may sell, assign or transfer all or any portion of its CP Conduit Construction Loans to the Related Bank that is a member of the same Lender Group, and each Related Bank may sell, assign or transfer all or any portion of its Related Bank Construction Loans to the CP Conduit that is a member of the same Lender Group,

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in each instance without the consent of any Person. In the event of any such sale, assignment or transfer, on the effective date of such sale, assignment or transfer, (i) CP Conduit Construction Loans or portions thereof sold, assigned or transferred or deemed to have been sold, assigned or transferred to the applicable Related Bank shall automatically and without further act or instrument become Related Bank Construction Loans, bearing interest (x) if such CP Conduit Construction Loan was a CP Conduit Funded LIBOR Construction Loan, at the LIBO Rate applicable to such CP Conduit Funding LIBOR Construction Loan for an initial Interest Period ending on the last day of the Interest Period applicable to such CP Conduit Funding LIBOR Construction Loan, and (y) if such CP Conduit Construction Loan was a Base Rate Loan, at the Base Rate as applied to such Related Bank, (ii) Related Bank Construction Loans or portions thereof sold, assigned or transferred or deemed to have been sold, assigned or transferred to the applicable CP Conduit shall automatically and without further act or instrument become CP Conduit Construction Loans, bearing interest (x) if such Related Bank Construction Loan was a LIBOR Loan, at the LIBOR Rate applicable to such Related Bank Construction Loan for the next succeeding Interest Period, provided that the effective date of such sale, assignment or transfer must be the last day of the then current Interest Period with respect to such LIBOR Loan, and (y) if such Related Bank Construction Loan was a Base Rate Loan, at the Base Rate as applied to such CP Conduit, (iii) the amount of the Parallel Funding Commitment of the applicable Related Bank shall not be increased or decreased as a result of any such assignment, and (iv) the parties to such assignment shall execute and deliver to the applicable Lender Group Agent an assignment agreement in form and substance reasonably satisfactory to such Lender Group Agent evidencing such sale, assignment or transfer, and any other related documentation reasonably requested by such Lender Group Agent. Each CP Conduit may sell, assign or transfer all of its CP Conduit Construction Loans and its interest under this Agreement and the other Credit Documents to another Person that becomes a CP Conduit if and to the extent permitted to do so under the applicable Liquidity Backstop Agreement and so long as the applicable Related Bank (or its Affiliate) remains as the Liquidity Provider under such Liquidity Backstop Agreement; provided that such assignment shall not affect the Parallel Funding Commitment of such Related Bank. The parties to such assignment shall execute and deliver to the applicable Lender Group Agent an assignment agreement in form and substance reasonably satisfactory to such Lender Group Agent evidencing such sale, assignment or transfer, and any other related documentation reasonably requested by such Lender Group Agent. Promptly following any transfer pursuant to this Section 9.14.2, the applicable Lender Group Agent shall notify Borrower and Administrative Agent of such transfer, which such notice shall include the principal amount of the assigned Loan(s) and the effective date of such assignment. No Related Bank shall (i) assign any portion of its Parallel Funding Commitment other than in connection with a Lender Group assignment permitted under Section 9.14.1 or (ii) assign any portion of its Liquidity Backstop Commitment as a Liquidity Provider. No CP Conduit shall permit any assignment by a Liquidity Provider under the applicable Liquidity Backstop Agreement, other than an assignment by a Liquidity Provider that is an Affiliate of the applicable Related Bank to such Related Bank.

        9.15    Securities Laws.    Notwithstanding the foregoing provisions of this Article 9, no sale, assignment, transfer, negotiation or other disposition of the interests of any Bank, any Lender Group or any Related Bank hereunder or under the other Credit Documents shall be allowed if it would require registration under the federal Securities Act of 1933, as then amended, any other federal securities laws or regulations or the securities laws or regulations of any applicable jurisdiction. Borrower shall, from time to time at the request and expense of Administrative Agent, execute and deliver to Administrative Agent, or to such party or parties as Administrative Agent may designate, any and all further instruments as may in the opinion of Administrative Agent be reasonably necessary or advisable to give full force and effect to such disposition.

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        9.16    Assignability to Federal Reserve Bank.    Notwithstanding any other provision contained in this Agreement or any other Credit Document to the contrary, any Bank or any Related Bank may assign all or any portion of the Loans or Notes held by it to any Federal Reserve Bank or the United States Treasury as collateral security pursuant to Regulation A of the Board of Governors of the Federal Reserve System and any Operating Circular issued by such Federal Reserve Bank, provided that any payment in respect of such assigned Loans or Notes made by Borrower to or for the account of the assigning and/or pledging Bank or Related Bank in accordance with the terms of this Agreement shall satisfy Borrower's obligations hereunder in respect of such assigned Loans or Notes to the extent of such payment. No such assignment shall release the assigning Bank or the assigning Related Bank from its obligations hereunder and in no event shall such Federal Reserve Bank be considered to be a "Bank" or a "Related Bank" or be entitled to require the assigning Bank or the assigning Related Bank to take or omit to take any action hereunder.

        9.17    Additional Banks and Lender Groups.    Any bank or other financial institution may become a Bank hereunder after the Closing Date, and any lender group may become a Lender Group hereunder at any time after the Closing Date but on or prior to March 31, 2002, by entering into a Joinder Agreement with Borrower and Administrative Agent; provided that the Related Bank in such Lender Group is also the Liquidity Provider with respect to the CP Conduit in such Lender Group (or with respect to the Asset Securitization Company providing funding to such CP Conduit). Any bank or other financial institution that so enters into a Joinder Agreement shall, from and after the date of such Joinder Agreement, have all of the rights and duties of a Bank hereunder in accordance with its Proportionate Share. Any lender group that so enters into a Joinder Agreement shall, from and after the date of such Joinder Agreement, have all of the rights and duties of a Lender Group hereunder in accordance with its Proportionate Share. Exhibit I shall be automatically amended to reflect the addition of a Bank or Lender Group in accordance with this Section 9.17. On the day on which any Bank or any Lender Group becomes a party to this Agreement pursuant to this Section 9.17, such Bank or Lender Group shall: (a) purchase an amount of Construction Loans from each Bank and each Lender Group such that, after giving effect to such purchase, each Bank's and each Lender Group's (including the new Bank or new Lender Group, as the case may be) outstanding Construction Loans are equal to such Bank's or such Lender Group's Proportionate Share of all outstanding Construction Loans; (b) purchase an amount of Working Capital Loans (if any) from each Bank such that, after giving effect to such purchase, each Bank's (including the new Bank) outstanding Working Capital Loans (if any) are equal to such Bank's Proportionate Share of all outstanding Working Capital Loans; (c) purchase an amount of Project LC Loans (if any) from each Bank such that, after giving effect to such purchase, each Bank's (including the new Bank) outstanding Project LC Loans (if any) are equal to such Bank's Proportionate Share of all outstanding Project LC Loans; and (d) purchase an amount of DSR LC Loans (if any) from each Bank such that, after giving effect to such purchase, each Bank's (including the new Bank) outstanding DSR LC Loans (if any) are equal to such Bank's Proportionate Share of all outstanding DSR LC Loans. The Loan purchases described in the preceding sentence shall not include a purchase of any Commitment. The Loan purchases contemplated by this Section 9.17 shall not be deemed to be Loans for purposes of Article 3. Notwithstanding anything to the contrary contained in this Agreement, the Commitments relating to the Loans sold in accordance with this Section 9.17 may be reutilized in accordance with the terms hereof. No Bank or Lender Group selling Loans in accordance with this Section 9.17 makes any representation or warranty to any new Bank or new Lender Group in connection with such sale other than that such selling Bank or Lender Group is the owner of such Loans and has not otherwise sold, assigned or transferred such Loans. Interest on Loans sold pursuant to this Section 9.17 shall be for the benefit of the selling Bank or Lender Group to but excluding the date of such sale and shall be for the benefit of the purchasing Bank or Lender Group from and after the date of such sale. The blend of Types and Interest Periods for Loans purchased by a new Bank or Lender Group pursuant to this Section 9.17 shall be consistent with the blend of Types and Interest Periods for Loans held by the selling Banks and Lender Groups; provided

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that the portion of Construction Loans assigned to a Lender Group and funded by the CP Conduit in such Lender Group shall (x) to the extent a Base Rate Loan, be deemed to be Base Rate Loan of such CP Conduit with a Base Rate calculated with respect to such CP Conduit and (y) to the extent a LIBOR Loan continue as such LIBOR Loan until the end of the then current Interest Period and then automatically and without further act or instrument be converted into a CP Conduit Funded LIBOR Construction Loan on the last day of such Interest Period, which will be deemed to have been funded by such CP Conduit on such day. Any Liquidation Costs incurred in connection with sales of Loans pursuant to this Section 9.17 shall be for the account of Borrower; provided that Borrower may delay any such sales to a date on which no Liquidation Costs would be incurred in connection therewith. Any existing Bank or Lender Group may also increase its Commitments by entering into a Joinder Agreement with Borrower and Administrative Agent as contemplated by this Section 9.17. If any existing Bank or Lender Group so enters into a Joinder Agreement, references in this Section 9.17 to the new Bank or Lender Group shall be deemed to be references to such existing Bank or Lender Group for purposes of the application of this Section 9.17. Any Incremental Commitments provided pursuant to this Section 9.17 shall first be used to reduce the Available Equity Commitment by the aggregate of the original Supplemental Equity Commitments for Approved Projects as contemplated by Section 3.15.4.

ARTICLE 10.
INDEPENDENT CONSULTANTS

        10.1    Removal and Fees.

        10.1.1    Independent Engineer.    For purposes of this Agreement, the "Independent Engineer" shall be R.W. Beck, Inc. or such other replacement engineering consulting firm selected in accordance with this Section 10.1. Borrower or the Majority Banks may remove the Independent Engineer in the event that such Independent Engineer (a) ceases to be a engineering consulting firm of recognized international standing, (b) has become an Affiliate of NEG or (c) has developed a conflict of interest that reasonably calls into question such firm's capacity to exercise independent judgment. If the Independent Engineer is removed or resigns and thereby ceases to act as Independent Engineer for purposes of this Agreement, the Majority Banks and Borrower shall, within 30 days of such removal or resignation, jointly designate a replacement engineering consulting firm from the list contained in Exhibit M hereto and, thereafter, Administrative Agent shall promptly notify the Banks and the Lender Group Agents on behalf of their respective Lender Groups of such designation. At any time and from time to time, the Majority Banks shall have the right to add to Exhibit M hereto one or more independent engineering consulting firms and shall notify Borrower, the Banks and the Lender Group Agents on behalf of their respective Lender Groups of any such addition. Exhibit M hereto shall automatically be deemed amended to reflect such addition unless, within 30 days of such notification, Borrower notifies Administrative Agent that it objects, on the basis of the criteria set out in clauses (a) through (c) above for removal of the Independent Engineer, to the firm or firms so added.

        At any time while the Obligations are outstanding, Administrative Agent, the Arrangers, the Banks and the Lender Group Members shall have the right, but shall not be obligated (other than as expressly provided herein or in the other Credit Documents), to consult with the Independent Engineer on matters related to this Agreement or any other Credit Document. All reasonable fees and expenses of the Independent Engineer (whether the original one or replacements) shall be paid by Borrower.

        10.1.2    Insurance Consultant.    For purposes of this Agreement, the "Insurance Consultant" shall be Marsh McLennan USA, Inc. or such other replacement insurance consulting firm selected in accordance with this Section 10.1. Borrower or the Majority Banks may remove the Insurance Consultant in the event that such Insurance Consultant (a) ceases to be a insurance consulting firm

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of recognized international standing, (b) has become an Affiliate of NEG or (c) has developed a conflict of interest that reasonably calls into question such firm's capacity to exercise independent judgment. If the Insurance Consultant is removed or resigns and thereby ceases to act as Insurance Consultant for purposes of this Agreement, the Majority Banks and Borrower shall, within 30 days of such removal or resignation, jointly designate a replacement insurance consulting firm from the list contained in Exhibit N hereto and, thereafter, Administrative Agent shall promptly notify the Banks and the Lender Group Agents on behalf of their respective Lender Groups of such designation. At any time and from time to time, the Majority Banks shall have the right to add to Exhibit N hereto one or more independent insurance consulting firms and shall notify Borrower, the Banks and the Lender Group Agents on behalf of their respective Lender Groups of any such addition. Exhibit N hereto shall automatically be deemed amended to reflect such addition unless, within 30 days of such notification, Borrower notifies Administrative Agent that it objects, on the basis of the criteria set out in clauses (a) through (c) above for removal of the Insurance Consultant, to the firm or firms so added.

        At any time while the Obligations are outstanding, Administrative Agent, the Arrangers, the Banks and the Lender Group Members shall have the right, but shall not be obligated (other than as expressly provided herein or in the other Credit Documents), to consult with the Insurance Consultant on matters related to this Agreement or any other Credit Document. All reasonable fees and expenses of the Insurance Consultant (whether the original one or replacements) shall be paid by Borrower.

        10.1.3    Fuel Consultant.    For purposes of this Agreement, the "Fuel Consultant" shall be Pace Global Energy Services, LLC or such other replacement fuel consulting firm selected in accordance with this Section 10.1. Borrower or the Majority Banks may remove the Fuel Consultant in the event that such Fuel Consultant (a) ceases to be a fuel consulting firm of recognized international standing, (b) has become an Affiliate of NEG or (c) has developed a conflict of interest that reasonably calls into question such firm's capacity to exercise independent judgment. If the Fuel Consultant is removed or resigns and thereby ceases to act as Fuel Consultant for purposes of this Agreement, the Majority Banks and Borrower shall, within 30 days of such removal or resignation, jointly designate a replacement fuel consulting firm from the list contained in Exhibit O hereto and, thereafter, Administrative Agent shall promptly notify the Banks and the Lender Group Agents on behalf of their respective Lender Groups of such designation. At any time and from time to time, the Majority Banks shall have the right to add to Exhibit O hereto one or more independent fuel consulting firms and shall notify Borrower and the Banks of any such addition. Exhibit O hereto shall automatically be deemed amended to reflect such addition unless, within 30 days of such notification, Borrower notifies Administrative Agent that it objects, on the basis of the criteria set out in clauses (a) through (c) above for removal of the Fuel Consultant, to the firm or firms so added.

        At any time while the Obligations are outstanding, Administrative Agent, the Arrangers, the Banks and the Lender Group Members shall have the right, but shall not be obligated (other than as expressly provided herein or in the other Credit Documents), to consult with the Fuel Consultant on matters related to this Agreement or any other Credit Document. All reasonable fees and expenses of the Fuel Consultant (whether the original one or replacements) shall be paid by Borrower.

        10.1.4    Power Market Consultant.    For purposes of this Agreement, the "Power Market Consultant" shall be Pace Global Energy Services, LLC or such other replacement power market consulting firm selected in accordance with this Section 10.1. Borrower or the Majority Banks may remove the Power Market Consultant in the event that such Power Market Consultant (a) ceases to be a power market consulting firm of recognized international standing, (b) has become an Affiliate of NEG or (c) has developed a conflict of interest that reasonably calls into question such

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firm's capacity to exercise independent judgment. If the Power Market Consultant is removed or resigns and thereby ceases to act as Power Market Consultant for purposes of this Agreement, the Majority Banks and Borrower shall, within 30 days of such removal or resignation, jointly designate a replacement power market consulting firm from the list contained in Exhibit P hereto and, thereafter, Administrative Agent shall promptly notify the Banks and the Lender Group Agents on behalf of their respective Lender Groups of such designation. At any time and from time to time, the Majority Banks shall have the right to add to Exhibit P hereto one or more independent power market consulting firms and shall notify Borrower, the Banks and the Lender Group Agents on behalf of their respective Lender Groups of any such addition. Exhibit P hereto shall automatically be deemed amended to reflect such addition unless, within 30 days of such notification, Borrower notifies Administrative Agent that it objects, on the basis of the criteria set out in clauses (a) through (c) above for removal of the Power Market Consultant, to the firm or firms so added.

        At any time while the Obligations are outstanding, Administrative Agent, the Arrangers, the Banks and the Lender Group Members shall have the right, but shall not be obligated (other than as expressly provided herein or in the other Credit Documents), to consult with the Power Market Consultant on matters related to this Agreement or any other Credit Document. All reasonable fees and expenses of the Power Market Consultant (whether the original one or replacements) shall be paid by Borrower.

        10.2    Duties.    Each Independent Consultant shall be contractually obligated to Administrative Agent to carry out the activities required of it in this Agreement and as otherwise requested by Administrative Agent and shall be responsible solely to Administrative Agent. Borrower acknowledges that it will not have any cause of action or claim against any Independent Consultant resulting from any decision made or not made, any action taken or not taken or any advice given by such Independent Consultant in the due performance in good faith of its duties to Administrative Agent, except to the extent arising from such Independent Consultant's gross negligence or willful misconduct.

        10.3    Independent Consultants' Certificates.

        10.3.1    Until the receipt by Administrative Agent of certificates satisfactory to Administrative Agent from each Independent Consultant whom Administrative Agent considers necessary or appropriate certifying Completion, Borrower shall provide such documents and information to the Independent Consultants as any of the Independent Consultants may reasonably consider necessary in order for the Independent Consultants to deliver to Administrative Agent the following certificates and reports:

        (a)  all certificates to be delivered pursuant to this Agreement or any other Credit Document; and

        (b)  monthly after the Closing Date, from the Independent Engineer, a full report and status of the progress of each Approved Project to that date, a complete assessment of Project Costs to Completion of such Approved Project and such other information and certification as Administrative Agent may reasonably require from time to time.

        10.3.2    Following Completion of each Approved Project, Borrower shall provide such documents and information to the Independent Consultants (subject to the execution by such Independent Consultants of confidentiality agreements reasonably acceptable to Administrative Agent and Borrower) as they may reasonably consider necessary in order for the Independent Consultants to deliver annually to Administrative Agent a certificate setting forth a full report on the status of such Approved Project and such other information and certification as Administrative Agent may reasonably require from time to time.

        10.4    Certification of Dates.    Administrative Agent will request that the Independent Consultants act diligently in the issuance of all certificates required to be delivered by the Independent Consultants

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hereunder, if their issuance is appropriate. Borrower shall provide the Independent Consultants with reasonable notice of the expected occurrence of any such dates or events requiring any such certification.

ARTICLE 11.
MISCELLANEOUS

        11.1    Addresses.    Any communications between the parties hereto or notices provided herein to be given may be given to the following addresses:

If to Administrative Agent:	Société Générale 1221 Avenue of the Americas, 11th Floor New York, New York 10020 Attn: Robert Preminger Telephone No.: (212) 278-5703 Facsimile No.: (212) 278-6136/6148
If to Borrower:	GenHoldings I, LLC 7500 Old Georgetown Road, 13th Floor Bethesda, Maryland 20814 Attn: General Counsel Telephone No.: (301) 280-6800 Facsimile No.: (301) 280-6900

        All notices or other communications required or permitted to be given hereunder shall be in writing and shall be considered as properly given (a) if delivered in person, (b) if sent by overnight delivery service (including Federal Express, UPS, ETA, Emery, DHL, AirBorne and other similar overnight delivery services), (c) in the event overnight delivery services are not readily available, if mailed by first class United States Mail, postage prepaid, registered or certified with return receipt requested, (d) if sent by prepaid telegram (including singing gorilla) or by facsimile or (e) other electronic means (including electronic mail) confirmed by facsimile or telephone. Notice so given shall be effective upon receipt by the addressee, except that communication or notice so transmitted by facsimile or other direct electronic means shall be deemed to have been validly and effectively given on the day (if a Banking Day and, if not, on the next following Banking Day) on which it is transmitted if transmitted before 4:00 p.m., recipient's time, and if transmitted after that time, on the next following Banking Day; provided, however, that if any notice is tendered to an addressee and the delivery thereof is refused by such addressee, such notice shall be effective upon such tender. Any party shall have the right to change its address for notice hereunder to any other location within the continental United States by giving of 30 days' notice to the other parties in the manner set forth above.

        11.2    Additional Security; Right to Set-Off.    Any deposits or other sums at any time credited or due from the Banks or the Lender Groups and any Project Revenues, securities or other property of Borrower in the possession of Administrative Agent may at all times be treated as collateral security for the payment of the Loans and the Notes and all other obligations of Borrower to the Banks and the Lender Groups (and the members thereof) under this Agreement and the other Credit Documents, and Borrower hereby pledges to Administrative Agent, for the benefit of Secured Parties, and grants Administrative Agent a security interest in and to all such deposits, sums, securities or other property. Regardless of the adequacy of any other collateral, any Bank or any Affiliate thereof and any Lender Group (and any member thereof) (but only with the prior written consent of Administrative Agent) may execute or realize on the Banks' or the Lender Groups' security interest in any such deposits or other sums credited by or due from the Banks or the Lender Groups to Borrower, may apply any such

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deposits or other sums to or set them off against Borrower's obligations to the Banks or the Lender Groups under the Notes, this Agreement and the other Credit Documents at any time after the occurrence and during the continuation of any Borrower Event of Default. This Section 11.2 shall not apply to any Cash Secured Advance Account.

        11.3    Delay and Waiver.    No delay or omission to exercise any right, power or remedy accruing to the Banks or the Lender Groups upon the occurrence of any Borrower Event of Default or Borrower Inchoate Default or any Project Event of Default or Project Inchoate Default or any breach or default of the Credit Parties under this Agreement or any other Credit Document shall impair any such right, power or remedy of the Banks or the Lender Groups (or the members thereof), nor shall it be construed to be a waiver of any such breach or default, or an acquiescence therein, or of or in any similar breach or default thereafter occurring, nor shall any waiver of any single Borrower Event of Default, Borrower Inchoate Default, Project Event of Default or Project Inchoate Default or other breach or default be deemed a waiver of any other Borrower Event of Default, Borrower Inchoate Default, Project Event of Default or Project Inchoate Default or other breach or default theretofore or thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of Administrative Agent, the Banks and/or the Lender Groups (or the members thereof) of any Borrower Event of Default, Borrower Inchoate Default, Project Event of Default or Project Inchoate Default or other breach or default under this Agreement or any other Credit Document, or any waiver on the part of Administrative Agent, the Banks and/or the Lender Groups (or the members thereof) of any provision or condition of this Agreement or any other Credit Document, must be in writing and shall be effective only to the extent in such writing specifically set forth. All remedies, either under this Agreement or any other Credit Document or by law or otherwise afforded to Administrative Agent, the Banks, the Lender Groups (and the members thereof) and the other Secured Parties shall be cumulative and not alternative.

        11.4    Costs, Expenses and Attorneys' Fees; Syndication.

        11.4.1    Borrower will pay to each of Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger all of their reasonable costs and expenses in connection with the preparation, negotiation, closing and administering of this Agreement and the documents contemplated hereby and any participation or syndication of the Loans or this Agreement, including the reasonable fees, expenses and disbursements of Latham & Watkins, Chadbourne & Parke LLP and other associated local attorneys retained by such Persons in connection with the preparation of such documents and any amendments hereof or thereof, or the preparation, negotiation, closing, administration, enforcement, participation or syndication of the Loans or this Agreement, the reasonable fees, expenses and disbursements of the Independent Consultants and any other engineering, insurance and construction consultants to Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger and incurred in connection with this Agreement or the Loans subsequent to the Closing Date, and the travel and out-of-pocket costs incurred by such Persons following the Closing Date, and Borrower further agrees to pay Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger the out-of-pocket costs and travel costs incurred by such Persons in connection with syndication of the Loans or this Agreement; provided, however, Borrower shall not be required to pay advertising costs of any of the Banks or the Lender Groups (or the members thereof) or the fees of the Banks' or Lender Groups' attorneys, other than Latham & Watkins (or one replacement counsel therefor if Latham & Watkins is unable or unwilling to act a counsel for the Banks and Lender Groups), Chadbourne & Parke LLP (or one replacement counsel therefor if Chadbourne & Parke LLP is unable or unwilling to act a counsel for the Banks and Lender Groups) and associated local counsel, or the fees and costs of any engineers or consultants other than the Independent Engineer and the other Independent Consultants engaged by Administrative Agent. Without limiting the foregoing, Borrower will reimburse Administrative Agent, the Arrangers, each Bank, the LC Bank, each Lender Group Agent and each Lender Group Member for all costs and expenses, including

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reasonable attorneys' fees, expended or incurred by such Persons in enforcing this Agreement or the other Credit Documents in connection with a Borrower Event of Default or Borrower Inchoate Default, in actions for declaratory relief in any way related to this Agreement or in collecting any sum which becomes due such Persons on the Notes or under the Credit Documents.

        11.4.2    In connection with syndication of the Loans and Commitments, an information package containing certain relevant information concerning Borrower, the Projects, the other Project participants and the transactions contemplated hereby has been provided to potential Banks and participants. Borrower agrees to cooperate in the syndication of the Loans and Commitments in all respects, as reasonably requested by Administrative Agent or the Arrangers, including participation in bank meetings held in connection with such syndication, and to provide, for inclusion in any additional package, all information which such Persons may request from it or which such Persons or Borrower may consider material to a lender or participant, or necessary or appropriate for accurate and complete disclosure.

        11.5    Entire Agreement.    This Agreement and any agreement, document or instrument attached hereto or referred to herein integrate all the terms and conditions mentioned herein or incidental hereto and supersede all oral negotiations and prior writings in respect to the subject matter hereof. In the event of any conflict between the terms, conditions and provisions of this Agreement and any such other agreement, document or instrument, the terms, conditions and provisions of this Agreement shall prevail. This Agreement and the other Credit Documents may only be amended or modified by an instrument in writing signed by Borrower, Administrative Agent and any other parties to such agreements or as otherwise set forth herein and in the other Credit Documents.

        11.6    Governing Law.    This Agreement, and any instrument or agreement required hereunder (to the extent not otherwise expressly provided for therein), shall be governed by, and construed under, the laws of the State of New York, without reference to conflicts of laws (other than Section 5-1401 of the New York General Obligations Law).

        11.7    Severability.    In case any one or more of the provisions contained in this Agreement should be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby.

        11.8    Headings.    Article and Section headings have been inserted in this Agreement as a matter of convenience for reference only and such article and section headings shall not be used in the interpretation of any provision of this Agreement.

        11.9    Accounting Terms.    All accounting terms not specifically defined herein shall be construed in accordance with GAAP and practices consistent with those applied in the preparation of the financial statements submitted by Borrower to Administrative Agent, and all financial data submitted pursuant to this Agreement shall be prepared in accordance with such principles and practices.

        11.10    Additional Financing.    The parties hereto acknowledge no Bank and no Lender Group (and no member thereof) has made any agreement or commitment to provide any financing to any Credit Party except as set forth herein.

        11.11    No Partnership, Etc.    The Banks, the Lender Groups (and the members thereof) and Borrower intend that the relationship between them shall be solely that of creditor and debtor. Nothing contained in this Agreement, the Notes or any other Credit Document shall be deemed or construed to create a partnership, tenancy-in-common, joint tenancy, joint venture or co-ownership by or between the Banks, the Lender Groups (and the members thereof), Borrower or any other Person. The Banks and the Lender Groups (and the members thereof) shall not be in any way responsible or liable for the debts, losses, obligations or duties of the Credit Parties or any other Person with respect to any Project or otherwise. All obligations to pay real property or other taxes, assessments, insurance premiums and all other fees and charges arising from the ownership, operation or occupancy of any Project, and to

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perform all obligations and other agreements and contracts relating to any Project or any other asset or liability of any Credit Party, shall be the sole responsibility of the Credit Parties.

        11.12    Collateral Documents.    The Guaranteed Obligations (as defined in each of the Project Company Guaranties) are or will be secured in part by the Mortgages encumbering certain properties associated with the Approved Projects in such Projects' respective states. Reference is hereby made to the Mortgages and the other Collateral Documents for the provisions, among others, relating to the nature and extent of the security provided thereunder, the rights, duties and obligations of the Credit Party and the rights of Administrative Agent, the Banks and the Lender Groups (and the members thereof) with respect to such security.

        11.13    Limitation on Liability.    No claim shall be made by any Credit Party, any Equity Party or any of their Affiliates against Administrative Agent, the Arrangers, the Banks, the Lender Groups (and the members thereof), any other Secured Party or any of their Affiliates, directors, employees, attorneys or agents for any special, indirect, consequential or punitive damages in respect of any breach or wrongful conduct (whether or not the claim therefor is based on contract, tort or duty imposed by law), in connection with, arising out of or in any way related to the transactions contemplated by this Agreement or the other Operative Documents or any act or omission or event occurring in connection therewith; and Borrower hereby waives, releases and agrees not to sue upon any such claim for any such damages, whether or not accrued and whether or not known or suspected to exist in its favor.

        11.14    Waiver of Jury Trial.    THE PARTIES HERETO HEREBY KNOWINGLY, VOLUNTARILY AND INTENTIONALLY WAIVE ANY RIGHTS THEY MAY HAVE TO A TRIAL BY JURY IN RESPECT OF ANY LITIGATION BASED HEREON, OR ARISING OUT OF, UNDER OR IN CONNECTION WITH, THIS AGREEMENT OR ANY OTHER CREDIT DOCUMENT, OR ANY COURSE OF CONDUCT, COURSE OF DEALING, STATEMENTS (WHETHER VERBAL OR WRITTEN) OR ACTIONS OF THE PARTIES HERETO. THIS PROVISION IS A MATERIAL INDUCEMENT FOR THE BANKS AND THE LENDER GROUPS (AND THE MEMBERS THEREOF) TO ENTER INTO THIS AGREEMENT.

        11.15    Consent to Jurisdiction.    The Banks, the Lender Groups (and the members thereof) and Borrower agree that any legal action or proceeding by or against Borrower or with respect to or arising out of this Agreement, the Notes, or any other Credit Document may be brought in or removed to the courts of the State of New York, in and for the County of New York, or of the United States of America for the Southern District of New York, as Administrative Agent may elect. By execution and delivery of the Agreement, the Banks, the Lender Groups (and the members thereof) and Borrower accept, for themselves and in respect of their property, generally and unconditionally, the jurisdiction of the aforesaid courts. The Banks, the Lender Groups (and the members thereof) and Borrower irrevocably consent to the service of process out of any of the aforementioned courts in any manner permitted by law. Nothing herein shall affect the right of Administrative Agent to bring legal action or proceedings in any other competent jurisdiction, including judicial or non-judicial foreclosure of any Mortgage. The Banks, the Lender Groups (and the members thereof) and Borrower further agree that the aforesaid courts of the State of New York and of the United States of America shall have exclusive jurisdiction with respect to any claim or counterclaim of Borrower based upon the assertion that the rate of interest charged by the Banks or the Lender Groups (and the members thereof) on or under this Agreement, the Loans and/or the other Credit Documents is usurious. The Banks, the Lender Groups (and the members thereof) and Borrower hereby waive any right to stay or dismiss any action or proceeding under or in connection with any or all of any Initial Project, Substitute Project, Approved Project, this Agreement or any other Credit Document brought before the foregoing courts on the basis of forum non-conveniens.

        11.16    Usury.    Nothing contained in this Agreement or the Notes shall be deemed to require the payment of interest or other charges by Borrower or any other Person in excess of the amount which

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the holders of the Notes may lawfully charge under any applicable usury laws. In the event that the Banks or the Lender Groups shall collect moneys which are deemed to constitute interest which would increase the effective interest rate to a rate in excess of that permitted to be charged by applicable Legal Requirements, all such sums deemed to constitute interest in excess of the legal rate shall, upon such determination, at the option of the Banks and the Lender Groups, be returned to Borrower or credited against the principal balance then outstanding.

        11.17    Successors and Assigns.    The provisions of this Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns. Borrower may not assign or otherwise transfer any of its rights under this Agreement except as provided in Section 6.14, and the Banks and the Lender Groups (and the members thereof) may not assign or otherwise transfer any of their rights under this Agreement except as provided in Article 9.

        11.18    Counterparts.    This Agreement and any amendments, waivers, consents or supplements hereto or in connection herewith may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed and delivered shall be deemed an original, but all such counterparts together shall constitute but one and the same instrument; signature pages may be detached from multiple separate counterparts and attached to a single counterpart so that all signature pages are physically attached to the same document.

        11.19    Survival.    All representations, warranties, covenants and agreements made herein and in the certificates or other instruments delivered in connection with or pursuant to this Agreement and the other Credit Documents shall be considered to have been relied upon by the parties hereto and shall survive the execution and delivery of this Agreement, the other Credit Documents and the making of the Loans. Notwithstanding anything in this Agreement or implied by law to the contrary, the agreements of Borrower set forth in Sections 2.5.4, 2.7.4, 2.8, 5.8, 9.1, 9.8, 10.1 and 11.4 and the agreements of the Banks and the Lender Groups set forth in Sections 9.1, 9.5, 9.10.2, 12.12 and 12.13 shall survive the payment and performance of the Loans and other Obligations and the reimbursement of any amounts drawn thereunder, and the termination of this Agreement.

ARTICLE 12.
LENDER GROUP AGENTS

        12.1    Appointment, Powers and Immunities.

        12.1.1    Each Lender Group Member hereby appoints and authorizes the Person designated as Lender Group Agent on such Lender Group's respective signature page hereto to act as its agent hereunder and under the other Credit Documents with such powers as are expressly delegated to a Lender Group Agent with respect to such Lender Group (and the Lender Group Members thereof) by the terms of this Agreement and the other Credit Documents, together with such other powers as are reasonably incidental thereto. No Lender Group Agent shall have any duties or responsibilities except those expressly set forth in this Agreement or in any other Credit Document, or be a trustee or a fiduciary for any Bank, any Lender Group or any Lender Group Member (including the Related Bank and the CP Conduit that are members of its respective Lender Group). Notwithstanding anything to the contrary contained herein, no Lender Group Agent shall be required to take any action which is contrary to this Agreement or any other Credit Documents or any Legal Requirement or exposes such Lender Group Agent to any liability. No Lender Group Agent nor any of its Affiliates shall be responsible to any Bank, and Lender Group or any Lender Group Member (including the Related Bank and the CP Conduit that are members of its respective Lender Group) for any recitals, statements, representations or warranties made by any Equity Party, Borrower, any other Credit Party or any of their Affiliates contained in this Agreement, the Credit Documents or in any certificate or other document referred to or provided for in, or received by such Lender Group Agent under the Credit Documents, for the value,

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validity, effectiveness, genuineness, enforceability or sufficiency of the Credit Documents, the Notes or any other document referred to or provided for herein or for any failure by any Equity Party, Borrower, any other Credit Party or any of their Affiliates to perform their respective obligations hereunder or thereunder. Each Lender Group Agent may employ agents and attorneys-in-fact and shall not be responsible for the negligence or misconduct of any such agents or attorneys-in-fact selected by it with reasonable care.

        12.1.2    No Lender Group Agent or its directors, officers, employees and agents shall be responsible for any action taken or omitted to be taken by it or them hereunder or under any other Credit Document or in connection herewith or therewith, except for their own gross negligence or willful misconduct. Without limiting the generality of the foregoing, each Lender Group Agent (a) may consult with legal counsel, independent public accountants and other experts selected by it and shall not be liable for any action taken or omitted to be taken in good faith by them in accordance with the advice of such counsel, accountants or experts; (b) makes no warranty or representation to any Bank, any Lender Group or any Lender Group Member (including the Related Bank and the CP Conduit that are members of its respective Lender Group) for any statements, warranties or representations made in or in connection with any Operative Document; (c) shall not have any duty to ascertain or to inquire as to the performance or observance of any of the terms, covenants or conditions of any Operative Document on the part of any party thereto or to inspect the property (including the books and records) of any Credit Party or any other Person; and (d) shall not be responsible to any Bank, any Lender Group or any Lender Group Member (including the Related Bank and the CP Conduit that are members of its respective Lender Group) for the due execution, legality, validity, enforceability, genuineness, sufficiency or value of any Operative Document or any other instrument or document furnished pursuant hereto. Except as otherwise provided under this Agreement, each Lender Group Agent shall take such action with respect to the Credit Documents as shall be directed by its respective Lender Group.

        12.2    Reliance by Lender Group Agents.    Each Lender Group Agent shall be entitled to rely upon any certificate, notice or other document (including any cable, telegram, facsimile or telex) believed by it to be genuine and correct and to have been signed or sent by or on behalf of the proper Person or Persons, and upon advice and statements of legal counsel, independent accountants and other experts selected by such Lender Group Agent. As to any other matters not expressly provided for by this Agreement, each Lender Group Agent shall not be required to take any action or exercise any discretion, but shall be required to act or to refrain from acting upon instructions of its respective Lender Group (except that no Lender Group Agent shall be required to take any action which exposes such Lender Group Agent to personal liability or which is contrary to this Agreement, any other Credit Document or any Legal Requirement) and shall in all cases be fully protected in acting, or in refraining from acting, hereunder or under any other Credit Document in accordance with the instructions of its respective Lender Group, and such Lender Group's instructions and any action taken or failure to act pursuant thereto shall be binding on all of the members of such Lender Group.

        12.3    Non-Reliance.    Each Lender Group Member represents that it has, independently and without reliance on its respective Lender Group Agent, and based on such documents and information as it has deemed appropriate, made its own appraisal of the financial condition and affairs of the Credit Parties and decision to enter into this Agreement and agrees that it will, independently and without reliance upon its respective Lender Group Agent, and based on such documents and information as it shall deem appropriate at the time, continue to make its own appraisals and decisions in taking or not taking action under this Agreement. No Lender Group Agent shall be required to keep informed as to the performance or observance by any Equity Party, Borrower, any other Credit Party or any of their Affiliates under this Agreement or any other document referred to or provided for herein or to make inquiry of, or to inspect the properties or books of any Equity Party, Borrower, any other Credit Party or any of their Affiliates.

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        12.4    Defaults.    No Lender Group Agent shall be deemed to have knowledge or notice of the occurrence of any NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default unless such Lender Group Agent has received a notice from the Administrative Agent, a Lender Group Member of its respective Lender Group or Borrower, referring to this Agreement, describing such NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default and indicating that such notice is a notice of default or notice of NEG Trigger Event. If a Lender Group Agent receives such a notice of the occurrence of a NEG Trigger Event, Borrower Inchoate Default, Borrower Event of Default, Project Event of Default or Project Inchoate Default, such Lender Group Agent shall give notice thereof to the Lender Group Members of its respective Lender Group, Administrative Agent and Borrower (except to the extent such Person sent notice of such occurrence to such Lender Group Agent. Each Lender Group Agent shall take such action with respect to any NEG Trigger Event, Borrower Inchoate Default or Borrower Event of Default as is provided in Article 7 or if not provided for in Article 7, as such Lender Group Agent shall be reasonably directed by its respective Lender Group; provided, however, unless and until such Lender Group Agent shall have received such directions, such Lender Group Agent may (but shall not be obligated to) take such action, or refrain from taking such action, with respect to such NEG Trigger Event, Borrower Inchoate Default or Borrower Event of Default as it shall deem advisable in the best interest of its Lender Group.

        12.5    Indemnification.    Without limiting any Obligation of any of Credit Party hereunder, each Related Bank agrees to indemnify its respective Lender Group Agent and its officers, directors, shareholders, controlling Persons, employees, agents and servants, for any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind or nature whatsoever which may at any time be imposed on, incurred by or asserted against its respective Lender Group Agent or any such Person in any way relating to or arising out of this Agreement or any documents contemplated by or referred to herein or therein or the transactions contemplated hereby or thereby or the enforcement of any of the terms hereof or thereof or of any such other documents (to the extent Borrower has not paid any such amounts pursuant to Section 5.8); provided, however, that no Related Bank shall be liable for any of the foregoing to the extent they arise from a Lender Group Agent's or such Person's gross negligence or willful misconduct. Each Lender Group Agent shall be fully justified in refusing to take or to continue to take any action hereunder unless it shall first be indemnified to its satisfaction by its respective Related Bank against any and all liability and expense which may be incurred by it by reason of taking or continuing to take any such action. Without limitation of the foregoing, each Related Bank agrees to reimburse its respective Lender Group Agent and promptly upon demand for any out-of-pocket expenses (including counsel fees) incurred by its Lender Group Agent in connection with the preparation, execution, administration or enforcement of, or legal advice in respect of rights or responsibilities under, the Operative Documents, to the extent that such Lender Group Agent is not reimbursed for such expenses by Borrower.

        12.6    Successor Lender Group Agent.    Each Lender Group Agent acknowledges that its current intention is to remain the Lender Group Agent for its respective Lender Group hereunder. Nevertheless, each Lender Group Agent may resign at any time by giving 15 days written notice thereof to each of the members of its Lender Group, Administrative Agent and Borrower. Each Lender Group Agent may be removed involuntarily only for a material breach of its duties and obligations hereunder or under the other Credit Documents or for gross negligence or willful misconduct in connection with the performance of its duties hereunder or under the other Credit Documents and then only upon the affirmative vote of its respective Lender Group. Upon any such resignation or removal, such Lender Group, with the consent of Administrative Agent, and Borrower if no Borrower Inchoate Default under Section 7.1.1 or Borrower Event of Default has occurred and is continuing (such consents not to be unreasonably withheld or delayed), shall have the right to appoint a successor Lender Group Agent for such Lender Group. If no successor Lender Group Agent shall have been so appointed, and shall have accepted such appointment, within 30 days after the retiring Lender Group Agent's giving of notice of

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resignation or such Lender Group Agent's removal by its respective Lender Group, the retiring Lender Group Agent may, on behalf of its Lender Group, with the consent of Administrative Agent and Borrower if no Borrower Inchoate Default under Section 7.1.1 or Borrower Event of Default has occurred as is continuing (such consent not to be unreasonably withheld or delayed), appoint a successor Lender Group Agent, which shall be a commercial bank having a combined capital and surplus of at least $500,000,000. Upon the acceptance of any appointment as a Lender Group Agent under the Operative Documents by a successor Lender Group Agent, such successor Lender Group Agent shall thereupon succeed to and become vested with all the rights, powers, privileges and duties of the retiring Lender Group Agent, and the retiring Lender Group Agent shall be discharged from its duties and obligations as a Lender Group Agent. After any retiring Lender Group Agent's resignation or removal hereunder as a Lender Group Agent, the provisions of this Article 12 shall inure to its benefit as to any actions taken or omitted to be taken by it while it was a Lender Group Agent under the Operative Documents.

        12.7    Authorization.    Each Lender Group Agent is hereby authorized by its respective Lender Group to execute and deliver each of the documents and to perform each of the actions delegated to such Lender Group Agent under this Agreement and the Credit Documents. Each Lender Group Member of the applicable Lender Group agrees to be bound by all of such agreements and duly authorized actions undertaken by its respective Lender Group Agent.

        12.8    Lender Group Agent as a Bank or Related Bank.    With respect to its Commitments, the Loans made by it and any Note issued to it, each financial institution acting as a Lender Group Agent shall have the same rights and powers under the Operative Documents as any other Bank or Related Bank and may exercise the same as though it were not a Lender Group Agent. The terms "Bank", "Banks", "Related Bank" and "Related Banks" shall, unless otherwise expressly indicated, include each Lender Group Agent in its individual capacity. Each financial institution acting as a Lender Group Agent and its Affiliates may accept deposits from, lend money to, act as trustee under indentures of, and generally engage in any kind of business with Borrower or any other Person, without any duty to account therefor to the Banks, the Lender Groups or the Lender Group Members (including the Related Bank and the CP Conduit that are members of its respective Lender Group).

        12.9    Withholding Tax.

        12.9.1    A Lender Group Agent may withhold from any interest payment to any Related Bank or any CP Conduit that is a Lender Group Member of its Lender Group an amount equivalent to any applicable withholding tax. If the forms or other documentation required by Section 2.5 are not delivered to the applicable Lender Group Agent, then such Lender Group Agent may withhold from any interest payment to any Related Bank or any CP Conduit that is a Lender Group Member of its Lender Group not providing such forms or other documentation, an amount equivalent to the applicable withholding tax.

        12.9.2    If the Internal Revenue Service or any authority of the United States or other jurisdiction asserts a claim that a Lender Group Agent did not properly withhold tax from amounts paid to or for the account of any Related Bank or CP Conduit that is a Lender Group Member of its Lender Group (because the appropriate form was not delivered, was not properly executed, or because such Related Bank or such CP Conduit failed to notify such Lender Group Agent of a change in circumstances which rendered the exemption from, or reduction of, withholding tax ineffective, or for any other reason), such Related Bank shall indemnify such Lender Group Agent fully for all amounts paid, directly or indirectly, by Administrative Agent as tax or otherwise, including penalties and interest, together with all expenses incurred, including legal expenses, allocated staff costs and any out of pocket expenses.

        12.10    General Provisions as to Payments.    Each Lender Group Agent shall promptly distribute (i) to each Related Bank each payment of Construction Loan Commitment Fees received by such

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Lender Group Agent, (ii) to each Related Bank and each CP Conduit that is a Lender Group Member of its respective Lender Group, its share of each payment of principal and interest payable to such Lender Group on the Construction Loans of such Lender Group in accordance with the provisions of Section 2.6.3, and (iii) to each Related Bank and each CP Conduit that is a Lender Group Member of its respective Lender Group, its share of each payment of any other amounts owing under this Agreement.

        12.11    Action by Lender Group.    Any action to be taken by, or approval or consent to be granted by, or direction or instruction to be given by, a Lender Group under this Agreement or any of the other Credit Documents shall be at the direction of the Related Bank that is a member of such Lender Group, and such Related Bank's instructions and any action taken or failure to act pursuant thereto shall be binding the CP Conduit that is a member of such Lender Group.

        12.12    No Petition.    Each Person party to this Agreement agrees that, prior to the date which is one year and one day after the date upon which all Obligations of the Borrower and the other Credit Parties under this Agreement and the other Credit Documents to a CP Conduit are paid in full and all outstanding commercial paper and other promissory notes and indebtedness of such CP Conduit, and of any Asset Securitization Company with respect to such CP Conduit, are paid in full, it will not institute against, or join any other Person in instituting against, such CP Conduit or such Asset Securitization Company any bankruptcy, reorganization, arrangement, insolvency or liquidation proceeding or other similar proceeding under the Laws of the United States or any state of the United States.

        12.13    No Recourse.    The obligations of any CP Conduit under this Agreement are solely the corporate, company or partnership obligations, as the case may be, of such CP Conduit. No recourse to or against any employee, officer, director, shareholder, member, partner, Affiliate or agent of such CP Conduit shall be had for the payment of any amount owing by such CP Conduit under this Agreement or any other Credit Document, or for the payment by such CP Conduit of any other obligation or claim of or against such CP Conduit arising out of or based upon this Agreement or any other Credit Document. Notwithstanding any other provision of this Agreement or any other Credit Document to the contrary, each CP Conduit shall be required to pay any amount owing to the applicable Lender Group Agent, the Administrative Agent or Borrower in respect of any obligation to make or maintain CP Conduit Construction Loans, and any other amounts owed to any Person by such CP Conduit under the Credit Documents, only to the extent such CP Conduit has funds in excess of the amounts necessary to pay all amounts owing to holders of its commercial paper or other promissory notes or indebtedness or to the applicable Asset Securitization Company, and interest thereon (such excess funds being referred to in this Section 12.13 as "Excess Funds"). In the event any CP Conduit does not have Excess Funds in an amount sufficient to pay in full such amounts due under this Agreement or any other Credit Document, (i) the excess of the amounts payable by such CP Conduit over the amount of Excess Funds shall not constitute a claim (as defined in Section 101(5) of the Bankruptcy Law) against such CP Conduit until such time, if any, as such CP Conduit has Excess Funds in an amount equal to such excess, and (ii) the applicable Related Bank shall make up any such excess not otherwise paid by such CP Conduit.

[SIGNATURE PAGES FOLLOW]

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        IN WITNESS WHEREOF, the parties hereto, by their officers duly authorized, intending to be legally bound, have caused this Amended and Restated Credit Agreement to be duly executed and delivered as of the date first written above.

GENHOLDINGS I, LLC,
a Delaware limited liability company,
as Borrower
    

By:

Name:

Title:
    

  
Additional signature pages omitted

S-1
[GenHoldings I, LLC - Amended and Restated Credit Agreement]

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Exhibit 10.9

EX-10.10

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Exhibit 10.10

Execution Version

AMENDED AND RESTATED
GUARANTEE AND AGREEMENT
(GENHOLDINGS I, LLC)

made by

PG&E NATIONAL ENERGY GROUP, INC.

in favor of

SOCIETE GENERALE,
as Administrative Agent

Dated as of March 15, 2002

TABLE OF CONTENTS

			Page
SECTION I        DEFINED TERMS			1
	1.01.	Definitions	1
	1.02.	Other Definitional Provisions	13
SECTION II        GUARANTEE			14
	2.01.	Guarantee; Payment	14
	2.02.	Extent of Liability	14
	2.03.	Nature of Guarantee	14
	2.04.	Demands and Notice; Application of Proceeds	15
	2.05.	Consent to Modifications, Waivers	15
	2.06.	Subrogation	15
	2.07.	Substitute Credit Support	16
SECTION III        REPRESENTATIONS AND WARRANTIES			16
	3.01.	Organization; Powers; Ownership of Property	16
	3.02.	Authorization	16
	3.03.	Enforceability	17
	3.04.	Financial Statements	17
	3.05.	Litigation	17
	3.06.	Federal Reserve Regulations	17
	3.07.	Investment Company Act; Public Utility Holding Company Act	17
	3.08.	No Material Misstatements	17
	3.09.	Taxes	18
	3.10.	Employee Benefit Plans	18
	3.11.	Governmental Approvals; Compliance with Law and Contracts	18
	3.12.	Environmental Matters	18
	3.13.	Ranking	19
	3.14.	Unrestricted Subsidiaries	19
	3.15.	Separateness from PG&E	19
SECTION IV        COVENANTS			19
	4.01.	Maintenance of Ownership	19
	4.02.	Existence	19
	4.03.	Compliance with Law; Business and Properties	19
	4.04.	Financial Statements, Reports, Etc.	20
	4.05.	Insurance	21
	4.06.	Taxes, Etc.	21
	4.07.	Maintaining Records; Access to Properties and Inspections	21
	4.08.	Risk Management Procedures	21
	4.09.	Merger	22
	4.10.	Investments	22
	4.11.	Liens	22
	4.12.	Indebtedness	23
	4.13.	Transactions with Affiliates	25
	4.14.	Distributions	25
	4.15.	Financial Covenants	26
	4.16.	Separateness from PG&E Corp.	26
	4.17.	Asset Sales	26
	4.18.	NEG Downgrade Event Provisions	26
SECTION V        NEG TRIGGER EVENTS			27
	5.01.	NEG Trigger Events	27
SECTION VI        MISCELLANEOUS			28
	6.01.	Amendments	28
	6.02.	Successors and Assigns	28

6.03.	GOVERNING LAW	28
6.04.	No Waiver, Cumulative Remedies	28
6.05.	Authority and Rights of Administrative Agent	28
6.06.	No Personal Liability of Directors, Officers, Employees and Shareholders	29

Schedules

1.01	A Existing Sale/Leaseback Transactions
1.01B	Terms and Conditions of Subordination for Indebtedness to Affiliates
1.01C	Terms and Conditions of Subordination for Indebtedness to Non-Affiliates
3.04(c)	Material Adverse Effect
3.05	Litigation
3.12	Environmental Matters
3.14	Unrestricted Subsidiaries
4.01	Certain Restricted Subsidiaries not Subject to Sections 4.01 or 4.02
4.10	Other Existing Investments
4.11	Other Existing Liens
4.12(a)	Indebtedness under Certain Credit Agreements
4.12(f)	Other Existing Indebtedness
4.13	Description of Existing Management, Operation, Sharing and Similar Arrangements with Affiliates

Exhibits

A Form of Payment Demand

AMENDED AND RESTATED
GUARANTEE AND AGREEMENT

        AMENDED AND RESTATED GUARANTEE AND AGREEMENT dated as of March 15, 2002 (this "Guarantee and Agreement") by PG&E NATIONAL ENERGY GROUP, INC., a Delaware corporation (this "Guarantor"), in favor of SOCIETE GENERALE, as administrative agent (in such capacity, the "Administrative Agent") for the Secured Parties.

W I T N E S S E T H

        WHEREAS, the Guarantor owns directly or indirectly all of the membership interests in GenHoldings I, LLC (the "Borrower").

        WHEREAS, the Borrower entered into the Credit Agreement, dated as of December 21, 2001 (the "Original Credit Agreement"), with Société Générale, as Administrative Agent and a Lead Arranger, Citibank, N.A., as Syndication Agent and a Lead Arranger, the other agents and arrangers listed on the signature pages thereto, JPMorgan Chase Bank, as issuer of the Letters of Credit (the "LC Bank"), the financial institutions party thereto from time to time as lenders (the "Banks"), and the other persons party thereto from time to time;

        WHEREAS, as a condition precedent to the effectiveness of the Original Credit Agreement, the Guarantor executed and delivered the Guarantee and Agreement, dated as of December 21, 2001 (the "Original Guarantee and Agreement"), in favor of the Administrative Agent for the benefit of the Secured Parties;

        WHEREAS, the parties to the Original Credit Agreement are entering into an Amended and Restated Credit Agreement, dated as of March 15, 2002 (as amended, amended and restated, supplemented or otherwise modified from time to time, the "Credit Agreement"); and

        WHEREAS, it is a condition precedent to the effectiveness of the Credit Agreement that the Original Guarantee and Agreement be amended and restated in its entirety as set forth herein.

        NOW, THEREFORE, in consideration of the foregoing and the agreements contained herein and in the other Credit Documents, the Guarantor and the Administrative Agent agree that the Original Guarantee and Agreement shall be amended and restated in its entirety as follows:

SECTION I DEFINED TERMS

        1.01.    Definitions.    (a) Unless otherwise defined herein, capitalized terms used herein shall have the meanings given to them in the Exhibit A to the Credit Agreement.

        (b)  The following terms shall have the following meanings:

        "$1.00 Billion PG&E NEG Indenture" shall mean the Indenture, dated as of May 22, 2001, between the Guarantor and Wilmington Trust Company, as Trustee, pursuant to which $1,000,000,000 of 10.375% Senior Notes due 2011 have been issued.

        "$1.25 Billion PG&E NEG Credit Agreement" shall mean the $1,250,000,000 Credit Agreement, dated as of August 22, 2001, among the Guarantor and the lenders party thereto.

        "Actual Knowledge" shall mean, with respect to any Person as to any event or circumstance, the actual knowledge of the Responsible Officer of such Person or receipt by such Person from the Administrative Agent of notice of such event or circumstance.

        "Administrative Agent" shall be defined as in the preamble hereto.

        "Affiliate" shall mean, when used with respect to a specified Person, another Person that directly or indirectly controls or is controlled by or is under common control with the Person specified. For this purpose, "control" of a Person shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, whether through ownership of voting shares, by contract or otherwise.

        "Asset Company" shall mean any entity (a) (i) whose principal purpose is the acquisition, improvement, installation, design, engineering, construction, development, completion, financing, maintenance or operation of all or any part of a project or projects, or any asset related thereto, used in the business of generating, transmitting, transporting, distributing, producing or storing electric power, thermal energy, natural gas or other fuel or other energy-related businesses and (ii) substantially all its assets are limited to those assets being financed (or to be financed), or the operation of which is being financed (or to be financed), in whole or in part by a Project Financing Facility entered into by such entity and/or any Investment Vehicle that owns such entity or by contributions or intercompany loans from the Guarantor, any Restricted Subsidiary or any such Investment Vehicle or (b) which entity is a Subsidiary of an entity described in clause (a) and the business and assets of which are related to the business of such entity and which does not incur any Indebtedness other than (A) intercompany loans from an Asset Company which is the parent of such Subsidiary, the Guarantor, any Restricted Subsidiary or any Investment Vehicle that indirectly owns such Subsidiary, (B) Indebtedness of the type described in Section 4.12(i) or (C) Indebtedness under a Project Financing Facility.

        "Banks" shall be defined as in the recitals hereto.

        "Borrower" shall be defined as in the recitals hereto.

        "Business Day" shall mean any day other than a Saturday, Sunday or other day on which commercial banks in New York City are authorized or required by law to close.

        "Cash Equivalents" shall mean (a) any evidence of indebtedness with a maturity of 180 days or less issued or directly and fully guaranteed or insured by the United States, Canada or any U.S. agency or instrumentality; (b) certificates of deposit or acceptances or Eurodollar time deposits with a maturity of 180 days or less of, and overnight bank deposits and demand accounts with (i) any financial institution that is not a foreign bank or a foreign bank holding company that has a bankwatch rating of at least B/C by Fitch and a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's or (ii) any financial institution that is a foreign bank or a foreign bank holding company that has a sovereign risk rating of at least AA by Fitch, a bankwatch rating of at least B by Fitch, a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's and a minimum of US$20 billion in assets; (c) commercial paper with a maturity of 180 days or less issued by a U.S. or Canadian incorporated company that is not an Affiliate of the Guarantor and rated at least A-1 by S&P, F1 by Fitch or at least P-1 by Moody's; (d) Repurchase Agreements with a maturity of 90 days or less made with banks which meet the criteria in clause (b) above and primary government security dealers (as defined by the Federal Reserve System) which meet the criteria in clause (c) above, and are fully collateralized by investments meeting the criteria of clause (a) above; (e) tax-exempt municipal obligations of any state of the United States, or any municipality of any such state which mature within 180 days from the date of acquisition thereof and which, in each case, are rated at least MIG-1 or VMIG-1 by Moody's, and SP-1/A-1 or AA/A-1 by S&P; and (f) institutional money market funds that exclusively invest in any of the foregoing.

        "Cash Flow Available for Fixed Charges" for any period shall mean, without duplication, (i) EBITDA of the Guarantor and its Consolidated Subsidiaries which are not Unrestricted Subsidiaries for such period, minus (ii) EBITDA for such period of such Consolidated Subsidiaries that are financed with Indebtedness of such Subsidiary or which are direct or indirect Subsidiaries of a Financed Subsidiary of the Guarantor, plus (iii) Distributions received by the Guarantor from Subsidiaries described in the foregoing clause (ii) during such period except to the extent the amount of such Distributions previously constituted "Cash Flow Available for Fixed Charges" during such period as a result of clause (viii) below, minus (iv) Distributions described in the foregoing clause (iii) that are attributable to extraordinary gains or other non-recurring items

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described in clause (iii) of the definition of "EBITDA", minus (v) any income reported by the Guarantor for such period for Persons that are not Consolidated Subsidiaries of the Guarantor, plus (vi) Distributions received by the Guarantor from Persons described in the foregoing clause (v) during such period, minus (vii) Distributions described in the foregoing clause (vi) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", plus, (viii) cash and Cash Equivalents of Subsidiaries described in clause (ii) above that are legally and contractually available to such Subsidiary for the payment of dividends to the Guarantor, but only to the extent that the source of such cash and Cash Equivalents is from such Subsidiary's EBITDA for such period or from repayments during such period to such Subsidiary of loans made by such Subsidiary.

        "Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to Unrestricted Subsidiaries) determined in accordance with GAAP, excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Consolidated Subsidiary" shall mean with respect to any Person at any date any Subsidiary or other entity the accounts of which would be consolidated in accordance with GAAP with those of such Person in its consolidated financial statements as of such date.

        "Consolidated Tangible Net Assets" shall mean at any date the total net assets of the Guarantor and its Consolidated Subsidiaries (other than Unrestricted Subsidiaries) determined in accordance with GAAP, excluding, however, from the determination of total net assets (i) goodwill, organizational expenses, research and product development expenses, trade marks, trade names, copyrights, patents, patent applications, licenses and rights in any thereof, and other similar intangibles, (ii) all deferred charges or unamortized debt discount and expenses, (iii) all reserves carried and not deducted from assets, (iv) securities which are not readily marketable, (v) cash held in sinking or other analogous funds established for the purpose of redemption, retirement or prepayment of capital stock or other equity interests or Indebtedness, and (vi) any items not included in clauses (i) through (v) above which are treated as intangibles in conformity with GAAP.

        "Credit Agreement" shall be defined as in the recitals hereto.

        "Credit Support Arrangements" shall mean any Guaranty, letter of credit or other instrument or arrangement issued as support for the payment or performance obligations of a party under any Trading Arrangement.

        "Distribution" shall mean, in respect of any Person, (i) any payment of any dividends or other distributions with respect to the capital stock or other equity interests of such Person (except distributions in such capital stock or other equity interests) and (ii) any purchase, redemption or other acquisition or retirement for value of any capital stock or other equity interests of such Person or any Affiliate of such Person unless made contemporaneously from the net proceeds of the sale of capital stock or other equity interests.

        "EBITDA" shall mean, with respect to any Person for any period, the (i) income (or loss) before interest and taxes of such Person, plus (ii) to the extent deducted in determining such income (or loss), depreciation, amortization and other similar non-cash charges and reserves, minus (iii) to the extent recognized in determining such income (or loss), extraordinary gains (or losses), restructuring charges or other non-recurring items, plus (iv) to the extent deducted in determining such income (or loss), Lease Payment Obligations described in clause (iii) of the definition of "Lease Payment Obligations".

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        "Equity Funding Arrangement" shall mean (i) an agreement to provide a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with any Project Financing Facility, (ii) a Guaranty, letter of credit or other similar arrangement with respect to any obligations of any Asset Company or Investment Vehicle under a Project Financing Facility, (iii) a Guaranty of any Investment Vehicle's obligation to make a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with a Project Financing Facility or (iv) a Guaranty, letter of credit or other similar arrangement to support any of the obligations or arrangements described in clauses (i) through (iii) hereof.

        "Equity Non-Payment Event" shall mean a failure by the Borrower, for any reason, to pay when due any of the Guaranteed Obligations.

        "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as the same may be amended from time to time.

        "ERISA Event" shall mean (i) the Guarantor or any of its Subsidiaries shall fail to pay when due an amount or amounts aggregating in excess of $15,000,000 which it shall have become liable to pay under Title IV of ERISA; or (ii) notice of intent to terminate a Material Plan shall be filed under Title IV of ERISA by the Guarantor or any of its Subsidiaries, any plan administrator or any combination of the foregoing; or (iii) the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or (iv) a condition shall exist by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated; or (v) there shall occur a complete or partial withdrawal from, or a default, within the meaning of Section 4219(c)(5) of ERISA, with respect to, one or more Multiemployer Plans which could cause the Guarantor or any of its Subsidiaries to incur a current payment obligation in excess of $15,000,000; or (vi) receipt by the Guarantor or any of its Subsidiaries of notice from one or more Multiemployer Plans of intent to terminate or that it is insolvent or in reorganization (within the meaning of Section 4241 or 4245 of ERISA, as applicable) which termination, insolvency or reorganization, individually or together with other such events, could cause the Guarantor and/or any of its Subsidiaries, individually or in the aggregate, to incur a current payment obligation in excess of $15,000,000; or (vii) the Guarantor or any of its Subsidiaries shall engage in one or more non-exempt "prohibited transactions" (as defined in Section 406 of ERISA or Section 4975 of the Code) which could result in a current payment obligation of the Guarantor and/or any of its Subsidiaries individually or in the aggregate, in an amount or amounts aggregating in excess of $15,000,000; or (viii) the occurrence of any event or series of events of which the nature described in clauses (i) through (vii) with respect to any Plan or Multiemployer Plan which, individually or in the aggregate, could result in a liability to the Guarantor and/or any of its Subsidiaries, individually or in the aggregate, in an amount or amounts aggregating in excess of $50,000,000.

        "ET Credit Agreements" shall mean (i) the $25,000,000 Credit Agreement, dated as of November 13, 1998, as amended, between PG&E Energy Trading Gas Corporation, PG&E Energy Trading, Canada Corporation, ET Holdings, PG&E Energy Trading Power, L.P. and Bank of Montreal and (ii) the $35,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading—Gas Corporation, PG&E Energy Trading, Canada Corporation, PG&E Energy—Trading Power Holdings Corporation, PG&E Energy Trading Power, L.P. and The Chase Manhattan Bank, as each may be amended, modified or supplemented from time to time.

"ET Holdings" shall mean PG&E Energy Trading Holdings Corporation, a California corporation.

"Federal Reserve System" shall mean the Federal Reserve System of the United States of America.

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        "Financed Subsidiary" shall mean any direct or indirect Subsidiary of the Guarantor that is financed with Indebtedness of such Subsidiary.

"Financial Officer" of any Person shall mean the chief financial officer, principal accounting officer, treasurer, associate or assistant treasurer, or any responsible officer analogous to the foregoing or designated by the one of the foregoing Persons, of such Person.

        "Fitch" shall mean Fitch, Inc.

        "Fixed Charges" shall mean, with respect to the Guarantor for any period, the sum, without duplication, of (i) the aggregate amount of interest expense and commitment and other fees with respect to Funded Indebtedness of the Guarantor Scheduled to be Paid for such period, including (A) the net costs under Swaps, (B) all capitalized interest, (C) the interest portion of any deferred payment obligation and (D) the Lease Payment Obligations of the Guarantor Scheduled to be Paid by the Guarantor during such period, and (ii) the aggregate amount of all mandatory scheduled payments (whether designated as payments or prepayments) and scheduled sinking fund payments with respect to principal of any Funded Indebtedness of the Guarantor, including payments in the nature of principal under Lease Obligations, provided that with respect to any Funded Indebtedness of the Guarantor consisting of Equity Funding Arrangements, "Fixed Charges" shall not include any of the foregoing enumerated items to the extent paid by a Subsidiary of the Guarantor (so long as the funds used to make such payments were not provided by the Guarantor).

        "Funded Indebtedness" of a Person shall mean all Indebtedness of such Person (after intercompany eliminations), other than any Guaranty obligations that are not reasonably quantifiable under standard accounting practices as of the date of determination.

        "GAAP" shall mean generally accepted accounting principles, applied on a consistent basis.

        "Governmental Approvals" shall mean all authorizations, consents, approvals, licenses and exemptions of, registrations and filings with, and notices and reports to all Governmental Authorities.

"Government Authority" shall mean any Federal, state, county, municipal or other local governmental authority or judicial or regulatory agency, board, body, commission or instrumentality.

"GTN" shall mean PG&E Gas Transmission, Northwest Corporation, a California corporation.

        "GTN Credit Agreements" shall mean (i) the $750,000,000 Indenture, dated as of May 22, 1995, between GTN and The First National Bank of Chicago, as trustee and (ii) the $100,000,000 Amended and Restated Credit Agreement and $50,000,000 364-Day Credit Agreement, each dated May 24, 1999, between GTN, the lenders party thereto and Citicorp USA, Inc., as administrative agent for such lenders, including any commercial paper supported by credit facilities made available under such credit agreements, as the same may be amended, modified or supplemented from time to time.

        "Guarantee and Agreement" shall be defined as in the preamble hereto.

        "Guaranteed Obligations" shall mean all obligations and liabilities of the Borrower under Sections 3.15.1 and 3.15.2 of the Credit Agreement (as such obligations and liabilities may be adjusted from time to time in accordance with the Credit Documents).

        "Guarantor" shall be defined as in the preamble hereto.

        "Guaranty" shall mean (a) a guaranty by a Person (other than by endorsement of negotiable instruments for collection in the ordinary course of business), directly or indirectly, in any manner,

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of any part or all of the obligations of another Person; and (b) an agreement by a Person, direct or indirect, contingent or otherwise, and whether or not constituting a guaranty, the practical effect of which is to assure the payment or performance (or payment of damages in the event of nonperformance) of any part or all of the obligations of another Person (other than in respect of operating leases not otherwise included in the definition of "Lease Obligations"), whether by (i) the purchase of securities or obligations, (ii) the purchase, sale or lease of property or the purchase or sale of services primarily for the purpose of enabling the obligor with respect to such obligation to make any payment or performance (or payment of damages in the event of nonperformance) of or on account of any part or all of such obligation, or to assure the obligee of such obligation against loss, (iii) repayment of amounts drawn down by beneficiaries of letters of credit, (iv) the maintenance of working capital, equity capital, available cash or other financial statement condition so as to enable the primary obligor to pay Indebtedness; (v) the provision of equity or other capital under or in respect of equity or other capital subscription arrangements, (vi) the supplying of funds to or investing in a Person on account of all or any part of such Person's obligation or indemnifying or holding harmless, in any way, such Person against any part or all of such obligation or (vii) the placing of any Lien on property (including, without limitation, accounts and contract rights) of a Person to secure another Person's Indebtedness.

        "Incipient NEG Trigger Event" shall mean any condition or event which, with notice or lapse of time or both, would become a NEG Trigger Event.

        "Indebtedness" of any Person shall mean (i) all indebtedness of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds, debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, (iv) all indebtedness created or arising under any conditional sale or other title retention agreement with respect to property acquired by such Person (even though the rights and remedies of the seller or lender under such agreement in the event of a default are limited to repossession or sale of such property), (v) all Lease Obligations of such Person, (vi) all obligations, contingent or otherwise, of such Person under any issued and outstanding acceptance, letter of credit or similar instruments, (vii) all obligations of such Person to redeem or purchase any capital stock of such Person which is mandatorily redeemable, (viii) all Swaps of such Person and (ix) any Guaranty of such Person with respect to liabilities of the type described in clauses (i) through (viii) hereof.

        "Investment" shall mean the acquisition of any interest in any Person or property, a loan or advance to any Person or other arrangement for the purpose of providing funds or credit to any Person, a capital contribution in or to any Person, or any other investment in any Person or property, or any Guaranty of any of the foregoing.

        "Investment Vehicle" shall mean each Subsidiary of the Guarantor which is organized solely to acquire, make or hold one or more Investments in an Asset Company or Asset Companies, either directly or indirectly through one or more other Investment Vehicles.

        "Lease Obligations" shall mean, without duplication, (i) any Indebtedness represented by obligations under a lease that is required to be capitalized for financial reporting purposes and (ii) the present value, determined using a discount rate equal to the incremental borrowing rate (as defined in Statement of Financial Accounting Standards No. 13) of the Person incurring such obligations, of rent obligations under leases of electric generating assets or natural gas pipelines and related facilities.

        "Lease Payment Obligations" shall mean, with respect to any Person for any period, (i) the interest component of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period, plus (ii) the principal portion of all Lease Obligations of such Person that are described in clause (i) of

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the definition of "Lease Obligations" that are Scheduled to be Paid during such period, plus (iii) all rent payment obligations relating to Lease Obligations of such Person described in clause (ii) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period.

        "LC Bank" shall be defined as in the recitals hereto.

        "Lien" shall mean, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset or any interest or title of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset.

        "Material Adverse Effect" shall mean a materially adverse change in (a) the business, assets, property or condition (financial or otherwise) or operations of the Guarantor and its Subsidiaries taken as whole, or (b) the ability of the Guarantor to perform its obligations under this Guarantee and Agreement.

        "Material Plan" shall mean any Plan or Plans having aggregate Unfunded Liabilities in excess of $50,000,000.

        "Minimum Consolidated Net Worth" shall mean US$1.8 billion.

        "Minimum Non-Trading Consolidated Net Worth" shall mean US$1.4 billion.

        "Moody's" shall mean Moody's Investors Service, Inc.

        "Multiemployer Plan" shall mean a multiemployer plan as defined in Section 4001(a)(3) of ERISA to which the Guarantor or any of its Subsidiaries is making, or accruing an obligation to make, contributions, or has within any of the preceding six years made, or accrued an obligation to make, contributions.

        "NEG/ET Letter of Credit Facilities" shall mean a letter of credit facility entered into by ET Holdings, any of its Subsidiaries and/or the Guarantor in an aggregate amount not to exceed $500,000,000, as the same may be amended, modified or supplemented from time to time.

        "NEG Downgrade Event Provision" shall mean any provision in any Equity Funding Arrangement (excluding the Credit Documents) or Other NEG Guarantee that requires the funding of equity contribution obligations, the posting of credit support or the satisfaction of other obligations upon the occurrence of a downgrade in the credit ratings for the Guarantor.

        "NEG Downgrade Funding Date" shall mean any date prior to the NEG Guarantee Release Date upon which, as a result of a downgrade of the credit ratings for the Guarantor, one or more payment demands are received by the Guarantor under Equity Funding Arrangements (excluding the Credit Documents) and/or Other NEG Guarantees demanding the payment, in the aggregate, of amounts in excess of $100,000,000.

        "NEG Downgrade Ratio Date" shall mean: (a) any date prior to the NEG Guarantee Release Date upon which, as a result of a downgrade of the credit ratings for the Guarantor, either of the following events shall occur: (i) the Guarantor shall agree to make payments and/or satisfy other funding arrangements in each case under Equity Funding Arrangements (excluding the Credit Documents) and/or Other NEG Guarantees that, in the aggregate, exceed $150,000,000, notwithstanding that no formal payment demands have been made; or (ii) the Guarantor shall agree to post guarantees, letters of credit and/or other forms of credit support under Equity Funding Arrangements (excluding the Credit Documents) and/or Other NEG Guarantees that, in the aggregate, exceed $150,000,000; and (b) any date prior to the NEG Guarantee Release Date which is 30 days after the occurrence of an Inchoate NEG Downgrade Event pursuant to clause (i) of the definition thereof, unless such Inchoate NEG Downgrade Event is no longer continuing.

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        "NEG Guarantee Release Date" shall mean the earliest of (i) the date on which the Guaranteed Obligations have been paid in full and the Borrower has no remaining obligations under Sections 3.15.1 and 3.15.2 of the Credit Agreement, and (ii) the date on which this Guarantee and Agreement terminates in accordance with Section 2.07(b) hereof.

        "NEG LLC" shall mean PG&E National Energy Group, LLC, a Delaware limited liability company.

        "NEG Trigger Event" shall mean any of the events set forth in Section V of this Guarantee and Agreement.

        "Non-Trading Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to (i) Unrestricted Subsidiaries or (ii) ET Holdings or any Subsidiary thereof) excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Original Credit Agreement" shall be defined as in the recitals hereto.

        "Original Guarantee and Agreement" shall be defined as in the recitals hereto.

        "Other NEG Guarantees" shall mean (i) the Guarantee and Agreement, dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., for the benefit of the lenders and investors under the Participation Agreement, dated as of August 28, 1999, among Lake Road Generating Company, L.P., Lake Road Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A. (as amended by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among the same parties and other parties thereto), (ii) the Guarantee and Agreement, dated as of April 6, 2001, delivered by the Guarantor in favor of Citibank, N.A., for the benefit of the lenders and investors under the Participation Agreement, dated as of March 7, 2001, among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Investors party thereto and Citibank, N.A., and (iii) the Guarantee and Agreement, dated as of May 29, 2001, delivered by the Guarantor in favor of Société Générale, for the benefit of the lenders under the Credit Agreement, dated as of May 29, 2001, among PG&E National Energy Group Construction Company, LLC, the lenders party thereto and Société Générale.

        "Parent" shall mean PG&E Corp.

        "Payment Demand" shall mean the payment demand in the form of Exhibit A.

        "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA.

        "Permitted Encumbrances" shall mean, as to any Person at any date, any of the following:

          (i)  Liens for taxes, assessments or governmental charges not then delinquent, and Liens for taxes, assessments or governmental charges then delinquent but the validity of which is being contested at the time by such Person in good faith and for which adequate reserves have been established in accordance with GAAP, and (ii) Liens incurred or created in connection with or to secure the performance of bids, tenders, contracts (other than for the payment of money), leases, statutory obligations, surety bonds or appeal bonds, and carriers', warehousemen's, mechanics' or materialmen's Liens, assessments or similar encumbrances incurred in the ordinary course of business;

        (ii)  easements, restrictions, exceptions or reservations in any property and/or rights of way of such Person for the purpose of roads, pipe lines, substations, transmission lines, transportation lines, distribution lines, removal of oil, gas, lignite, coal or other minerals or

8

timber, and other like purposes, or for the joint or common use of real property, rights of way, facilities and/or equipment, and defects, irregularities and deficiencies in titles of any property and/or rights of way, which do not individually or in the aggregate materially impair the use or value of such property and/or rights of way for the purposes for which such property and/or rights of way are held by such Person;

        (iii)  rights reserved to or vested in any municipality or public authority to use, control or regulate any property of such Person;

        (iv)  any obligations or duties, affecting the property of such Person, to any municipality or public authority with respect to any franchise, grant, license or permit;

        (v)  any judgment Lien against such Person securing a judgment for an amount not exceeding $50,000,000, so long as the finality of such judgment is being contested by appropriate proceedings conducted in good faith and execution thereon is stayed;

        (vi)  any Lien arising by reason of deposits with or giving of any form of security to any federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, for any purpose at any time as required by law or governmental regulation as a condition to the transaction of any business or the exercise of any privilege or license, or to enable such Person to maintain self-insurance or to participate in any fund for liability on any insurance risks or in connection with workers' compensation, unemployment insurance, old age pensions or other social security or to share in the privileges or benefits required for companies participating in such arrangements; or

      (vii)  any landlords' Lien on fixtures or movable property located on premises leased by such Person in the ordinary course of business so long as the rent secured thereby is not in default.

        "Permitted Sale/Leaseback Transactions" shall mean (i) Sale/Leaseback transactions by any Restricted Subsidiary or Asset Company, entered into on or prior to the date of this Guarantee and Agreement and identified on Schedule 1.01A and (ii) one or more Sale/Leaseback transactions entered into by any Asset Company in connection with or as part of a Project Financing Facility entered into after the date of execution of this Guarantee and Agreement.

        "Permitted Subordinated Indebtedness" shall mean all unsecured Indebtedness of the Guarantor that shall have been subordinated to all Indebtedness of the Guarantor under this Guarantee and Agreement and otherwise containing terms and conditions set forth in Schedule 1.01B with respect to Indebtedness of the Guarantor to Affiliates of the Guarantor or in Schedule 1.01C with respect to Indebtedness of the Guarantor to non-Affiliates of the Guarantor.

        "Person" shall mean any individual, corporation, partnership, joint venture, association, joint-stock company, limited liability company, trust, unincorporated organization, governmental authority or any other entity.

        "PG&E" shall mean Pacific Gas & Electric Company, a California corporation.

        "PG&E Corp." shall mean PG&E Corporation, a California corporation.

        "PG&E Gen" shall mean PG&E Generating Company, LLC, a Delaware limited liability company.

        "PG&E Gen/NEG Credit Agreements" shall mean (i) the $1.25 Billion PG&E NEG Credit Agreement, including any commercial paper supported by credit facilities made available thereunder, (ii) the $10,000,000 Credit Agreement, dated as of December 14, 1999, between PG&E Gen and ABN AMRO Bank N.V., and (iii) the $1.00 Billion PG&E NEG Indenture, as each may be amended, modified or supplemented from time to time.

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        "Plan" shall mean any employee pension benefit plan described under Section 3(2) of ERISA (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA that is maintained by the Guarantor or any of its Subsidiaries or with respect to which the Guarantor or any of its Subsidiaries could have liability under Section 4069 of ERISA.

        "Project Financing Facility" shall mean any loan, note purchase agreement, indenture, lease, credit agreement, reimbursement agreement, letter of credit or other facility pursuant to which an Asset Company or Investment Vehicle which directly or indirectly owns an Asset Company incurs Indebtedness, provided that any such Indebtedness is recourse only to (a) the assets of such Asset Company or any Asset Company which is a Subsidiary of such Asset Company, (b) the equity or ownership interests of such Asset Company or any Investment Vehicle which owns such Asset Company or (c) any Equity Funding Arrangements provided with respect to such Asset Company or Investment Vehicle or a Lien on any such Equity Funding Arrangements.

        "Projections" shall mean the Base Case Project Projections delivered pursuant to Sections 3.1.12 and 3.2.20 of the Credit Agreement.

        "Ratio of Cash Flow to Fixed Charges" shall mean, as of the end of each fiscal quarter of the Guarantor, the ratio of (a) Cash Flow Available for Fixed Charges of the Guarantor for the period of four consecutive fiscal quarters ending on, or most recently ended prior to, such date to (b) Fixed Charges of the Guarantor for such period, excluding from the calculation of Fixed Charges all Trading Arrangements and Credit Support Arrangements.

        "Ratio of Debt to Capitalization" shall mean, as of any date, the ratio of the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen to the Total Capitalization of the Guarantor (excluding from the calculation of Funded Indebtedness all Trading Arrangements, Credit Support Arrangements and Swaps); provided that any Equity Funding Arrangements shall only be included in Funded Indebtedness in an amount equal to the lesser of (x) the maximum amount that would be payable under such Equity Funding Arrangements (assuming a drawing is permissible as of the date of determination) and (y) the amount outstanding under any underlying Indebtedness to which any payment under such Equity Funding Arrangements would be applied (assuming such Indebtedness were due and payable as of the date of determination).

        "Refinanceable Facilities" has the meaning ascribed thereto in Section 4.12(a).

        "Repurchase Agreement" shall mean any written agreement:

          (i)  that provides for (i) the transfer of one or more United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality in an aggregate principal amount at least equal to the amount of the Transfer Price (defined below) to the Guarantor or any Restricted Subsidiary from a financial institution that is (1) a member of the Federal Reserve System having a minimum of US$20 billion in assets, and (2) has commercial paper rated at least A-1 by S&P, at least F1 by Fitch or at least P-1 by Moody's, against a transfer of funds (the "Transfer Price") by the Guarantor or such Restricted Subsidiary to such financial institution and (ii) a simultaneous agreement by the Guarantor or such Restricted Subsidiary, in connection with such transfer of funds, to transfer to such financial institution the same or substantially similar United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality for a price not less than the Transfer Price plus a reasonable return thereon at a date certain not later than 180 days after such transfer of funds,

        (ii)  in respect of which the Guarantor or such Restricted Subsidiary shall have the right, whether by contract or pursuant to applicable law, to liquidate such agreement upon the occurrence of any default thereunder, and

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        (iii)  in connection with which the Guarantor or such Restricted Subsidiary, or an agent thereof, shall have taken all action required by applicable law or regulations to perfect a Lien in such United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality.

        "Responsible Officer" of the Guarantor, shall mean any president or senior vice president of the Guarantor.

        "Restricted Subsidiary" shall mean any Subsidiary of the Guarantor that is not (x) an Asset Company, (y) an Investment Vehicle or (z) an Unrestricted Subsidiary.

        "S&P" shall mean Standard & Poor's Ratings Service, a division of McGraw Hill Companies, Inc.

        "Sale/Leaseback" shall mean any lease whereby any Person becomes or remains liable as lessee or as guarantor or other surety of any property, whether now owned or hereafter acquired, that such Person has sold or transferred or is to sell or transfer to any other Person (other than any Subsidiary of such Person), as part of a financing transaction to which such Person is a party, in contemplation of leasing such property to such Person.

        "Scheduled to be Paid" shall mean, with respect to any liability or expense for any period, the amount of such liability or expense scheduled to be paid during such period or the amount of such liability or expense that would have been scheduled to be paid during such period had the payment schedule with respect to such liability or expense been divided equally into successive periods having a duration equal to the duration of such period.

        "Subsidiary" shall mean, with respect to any Person (the "Parent"), any corporation or other entity of which sufficient securities or other ownership interests having ordinary voting power to elect a majority of the board of directors or other Persons performing similar functions are at the time directly or indirectly owned by such Parent.

        "Substitute Credit Support Amount" shall mean, as of the date any Substitute Credit Support Instrument is provided, the then current Available Equity Commitment, provided that such Substitute Credit Support Instrument shall be structured such that the amount available thereunder adjusts in accordance with changes in the Available Equity Commitment.

        "Substitute Credit Support Instrument" shall mean either (a) an irrevocable letter of credit issued in form and substance satisfactory to the Administrative Agent in its reasonable judgment and from a bank or trust company with a combined capital and surplus of at least $1,000,000,000 whose unsecured senior long term debt is rated at least "A" by S&P and "A2" by Moody's; provided that such letter of credit shall contain provisions that authorize a draw on such letter of credit in the event that (i) either (A) there is a downgrade in the credit rating of the issuer of such letter of credit to below the level specified above or (B) such issuer is no longer rated by both S&P and Moody's and such letter of credit is not replaced with a Substitute Credit Support Instrument within thirty (30) days after such event, (ii) such letter of credit is not replaced or renewed by no later than fifteen (15) Business Days prior to its date of expiration or (iii) an Equity Non-Payment Event shall have occurred and be continuing and the Guaranteed Obligations are then due and payable or (b) a Guaranty in form and substance satisfactory to, and issued by a Subsidiary of the Guarantor acceptable to, each Bank in its sole discretion.

        "Swaps" shall mean, with respect to any Person, payment obligations with respect to interest rate swaps, currency swaps and similar obligations obligating such Person to make payments, whether periodically or upon the happening of a contingency. The amount of the obligation under any Swap shall be the amount determined in respect thereof as of the end of the then most recently ended fiscal quarter of such Person, based on the assumption that such Swap had

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terminated at the end of such fiscal quarter, and in making such determination, if any agreement relating to such Swap provides for the netting of amounts payable by and to such Person thereunder or if any such agreement provides for the simultaneous payment of amounts by and to such Person, then in each such case, the amount of such obligation shall be the net amount so determined.

        "Total Capitalization" shall mean, with respect to the Guarantor, the sum, without duplication, of (i) total common stock equity or analogous ownership interests of the Guarantor, (ii) preferred stock and preferred securities of the Guarantor, (iii) additional paid in capital or analogous interests of the Guarantor, (iv) retained earnings of the Guarantor, excluding other comprehensive income arising from accounting treatment of hedging and mark-to-market transactions and (v) the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen.

        "Trading Arrangement" shall mean any transaction entered into by PG&E Energy Trading—Power, L.P., a Delaware limited partnership, PG&E Energy Trading Gas Corporation, a California corporation, or PG&E Energy Trading, Canada Corporation, an Alberta corporation, any other Restricted Subsidiary, Asset Company or Investment Vehicle, whether pursuant to master trading agreements or otherwise, for (1) the purchase and sale of energy, capacity, ancillary services and other energy or energy-related products, including transmission rights, environmental allowances and offsets and storage; (2) the purchase and sale of natural gas, coal, oil and other fuel, including transportation and storage rights; (3) the purchase and sale of fuel conversion services, including tolling arrangements; (4) the purchase and sale of any energy or energy-related derivatives, including weather derivatives; (5) hedging arrangements with respect to any of the foregoing and interest rate, foreign currency or credit exposure; or (6) any similar arrangements entered into in the ordinary course of business as conducted by such Persons or by other Persons in the energy trading, energy services, power generating, electric transmission or gas transmission and storage businesses (including technologies related to such businesses).

        "Unfunded Liabilities" shall mean, with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability of the Guarantor or any of its Subsidiaries to the PBGC or any other Person under Title IV of ERISA.

        "United States" or "U.S." or "US" shall mean the United States of America.

        "United States or Canadian Governmental Securities" shall mean securities issued, or fully guaranteed or insured by the United States or Canadian government.

        "Unrestricted Subsidiary" shall mean any Subsidiary of the Guarantor designated as such on the Closing Date, or, after the Closing Date, designated as such at the time of formation thereof or, if acquired by the Guarantor, at the time of acquisition thereof, but, in any such case, only if at such time (i) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or would occur as a result thereof and (ii) such Subsidiary or any of its Subsidiaries does not own any capital stock or Indebtedness of or have any Investment in, or own or hold any Lien on any property of, any other Subsidiary of the Guarantor which is not a Subsidiary of the Subsidiary to be so designated or otherwise an Unrestricted Subsidiary.

        "USGenNE" shall mean USGen New England, Inc., a Delaware corporation and an indirect, wholly-owned Subsidiary of the Guarantor.

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        "USGenNE Credit Agreement" shall mean the $100,000,000 Credit Agreement, dated as of September 1, 1998, as amended, among USGenNE, the lenders party thereto, The Chase Manhattan Bank, as competitive advance facility agent and as administrative agent for the lenders thereunder, and The Chase Manhattan Bank, as the issuer of letters of credit thereunder, the same may be amended, modified or supplemented from time to time.

        1.02.    Other Definitional Provisions.    The following rules of usage shall apply unless otherwise required by the context or unless otherwise specified herein:

        (a)  Definitions set forth herein shall be equally applicable to the singular and plural forms of the terms defined.

        (b)  References in any document to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits are references to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits in such document.

        (c)  The headings, subheadings and table of contents used herein are solely for convenience of reference and shall not constitute a part hereof nor shall they affect the meaning, construction or effect of any provision hereof.

        (d)  References to any Person shall include such Person, its successors and permitted assigns and transferees.

        (e)  Reference to any agreement means such agreement as amended, supplemented or otherwise modified from time to time in accordance with the applicable provisions thereof.

        (f)  References to any law includes any amendment or modification to such law and any rules or regulations issued thereunder or any law enacted in substitution or replacement thereof.

        (g)  The words "hereof," "herein", "hereto" and "hereunder" and words of similar import when used in this Guarantee and Agreement shall refer to this Guarantee and Agreement as a whole and not to any particular provision of this Guarantee and Agreement.

        (h)  References to "including" means including without limiting the generality of any description preceding such term and for purposes hereof the rule of ejusdem generis shall not be applicable to limit a general statement, followed by or referable to an enumeration of specific matters, to matters similar to those specifically mentioned.

        (i)  Each of the parties to this Guarantee and Agreement and their counsel have reviewed and revised, or requested revisions to this Guarantee and Agreement, and the usual rule of construction that any ambiguities are to be resolved against the drafting party shall be inapplicable in the construing and interpretation of this Guarantee and Agreement and any amendments hereto.

        (j)  Except as otherwise expressly provided herein, all terms of an accounting or financial nature shall be construed in accordance with GAAP, as in effect from time to time; provided that for purposes of determining compliance with any covenant set forth herein, such terms shall be construed in accordance with GAAP as in effect on the date hereof applied on a basis consistent with the application used in preparing the Guarantor's audited financial statements.

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SECTION II GUARANTEE

        2.01.    Guarantee; Payment.    (a) Subject to the terms herein, the Guarantor unconditionally guarantees to the Administrative Agent for the benefit of the Secured Parties, the prompt and complete payment when due of the Guaranteed Obligations. This is a guarantee of payment and not of collection.

        (b)  When and at such time as an Equity Non-Payment Event shall have occurred and be continuing, the Administrative Agent shall be entitled to make a Payment Demand to the Guarantor in accordance with Section 2.04 for the payment of all due and unpaid Guaranteed Obligations, subject to the provisions of Section 2.02. The Guarantor shall pay such Guaranteed Obligations to the Administrative Agent within five (5) Business Days of receipt of such Payment Demand.

        (c)  When and at such time as a NEG Trigger Event shall have occurred and be continuing, the Administrative Agent shall be entitled to make a Payment Demand for the payment of an amount equal to the then current Available Equity Commitment. The Guarantor shall pay such amount to the Administrative Agent within five (5) Business Days of receipt of such Payment Demand.

        2.02.    Extent of Liability.    The Guarantor's liability for the Guaranteed Obligations under this Guarantee and Agreement at any time is limited to then current Available Equity Commitment. Except as the same comprise Guaranteed Obligations under the Credit Documents, the Guarantor shall not be liable hereunder for special, consequential, exemplary, tort or other damages. The Guarantor agrees to pay all out-of-pocket expenses (including the reasonable fees and expenses of Administrative Agent's counsel) incurred for the enforcement of the rights of Administrative Agent hereunder; provided that the Guarantor shall not be liable for any such expenses if no payment in respect of the Guaranteed Obligations is due. Subject to reinstatement pursuant to Section 2.03, this Guarantee and Agreement shall remain in full force and effect until the NEG Guarantee Release Date unless otherwise terminated in writing by the Guarantor and the Administrative Agent.

        2.03.    Nature of Guarantee.    The Guarantor acknowledges and agrees that its guarantee obligations under this Guarantee and Agreement shall be construed as continuing, absolute and unconditional without regard to (a) the validity, regularity or enforceability of any Credit Documents, any of the Guaranteed Obligations or any other collateral security therefor or guaranty or right of offset with respect thereto at any time or from time to time held by the Administrative Agent or any Secured Party, (b) any defense, set-off or counterclaim (other than a defense of payment or performance) which may at any time be available to or be asserted by the Borrower or the Guarantor against the Administrative Agent or any Secured Party, or (c) any other circumstance whatsoever (with or without notice to or knowledge of the Borrower or the Guarantor) which constitutes, or might be construed to constitute, an equitable or legal discharge of the Guaranteed Obligations (other than payment or performance), in bankruptcy or in any other instance. The Guarantor's obligations hereunder with respect to any Guaranteed Obligations shall not be affected by the existence, validity, enforceability, substitution, perfection, or extent of any collateral for such Guaranteed Obligations. The Administrative Agent shall be entitled but shall not be obligated to file any claim relating to the Guaranteed Obligations owing to it if the Borrower becomes subject to a bankruptcy, reorganization or similar proceeding and the failure of the Administrative Agent to so file shall not affect the Guarantor's obligations hereunder. If any payment to the Administrative Agent made by the Borrower or the Guarantor with respect to any Guaranteed Obligations is rescinded or must otherwise be returned for any reason whatsoever, the Guarantor shall remain liable therefor hereunder (and its obligations reinstated hereunder if previously terminated) with respect to such Guaranteed Obligations as if such payment had not been made. The Guarantor reserves the right to assert defenses that the Borrower may have under the Credit Documents to payment of any Guaranteed Obligation other than

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(i) defenses arising from the bankruptcy, insolvency, incapacity, liquidation or dissolution of the Borrower, and (ii) defenses arising out of the matters described above in this Section 2.03 or any other circumstance or event that might otherwise constitute a legal or equitable discharge of a guarantor or a surety generally.

        2.04.    Demands and Notice; Application of Proceeds.    (a) A Payment Demand shall be sufficient notice to the Guarantor to pay under this Guarantee and Agreement. The Guarantor shall make all payments of amounts owing pursuant to this Guarantee and Agreement by wire transfer of immediately available funds to the account specified by the Administrative Agent in the Payment Demand. Notices under this Guarantee and Agreement shall be deemed received if sent to the address specified below: (i) on the day received if served by overnight express delivery, (ii) on the next Business Day if served by facsimile transmission when sender has machine confirmation that facsimile was transmitted to the correct fax number listed below, and (iii) four Business Days after mailing if sent by certified, first class mail, return receipt requested. Any party may change its address to which notice is given hereunder by providing notice thereof in accordance with this Section 2.04.

To the Guarantor:	PG&E National Energy Group, Inc. 7500 Old Georgetown Road, 13th floor Bethesda, MD 20814 Attention: General Counsel Fax: 301.280.6913
To the Administrative Agent:	Société Générale 1221 Avenue of the Americas, 11th Floor New York, NY 10020 Attention: Robert Preminger Fax: 212.278.6136/6148 Tel: 212.278.5703

        (b)  The Administrative Agent shall apply the proceeds of any payment made hereunder to the Administrative Agent in accordance with Article IV of the Depositary Agreement and the other provisions of the Credit Documents.

        2.05.    Consent to Modifications, Waivers.    The Administrative Agent and the Borrower may mutually agree to modify the Credit Documents, extend the time of payment or otherwise modify the terms of payment of any of the Guaranteed Obligations, without in any way impairing or affecting this Guarantee and Agreement. The Administrative Agent may resort to the Guarantor for payment of any of the Guaranteed Obligations, whether or not the Administrative Agent shall have resorted to any collateral security, or shall have proceeded against (or otherwise exhausted Administrative Agent's remedies against) the Borrower or any other obligor principally or secondarily obligated with respect to any of the Guaranteed Obligations. The Guarantor hereby waives demand (except in accordance with Sections 2.01 and 2.04), promptness, diligence (subject to any applicable statute of limitations), notice of acceptance of this Guarantee and Agreement, and also presentment, protest and notice of protest or dishonor of any evidences of obligations hereby guaranteed.

        2.06.    Subrogation.    The Guarantor waives any rights of subrogation or reimbursement from the Borrower or any other Person that may accrue to Guarantor with respect to the payment of any Guaranteed Obligation by Guarantor to Administrative Agent under this Guarantee and Agreement until the time that all Obligations (including the Guaranteed Obligations) have been indefeasibly paid in full, all Interest Rate Agreements have been terminated (unless otherwise provided therein) and all Commitments and other obligations of the Secured Parties under the Credit Documents have been terminated. Upon such full and indefeasible payment of all Obligations (including the Guaranteed Obligations), the termination of all Interest Rate Agreements (unless otherwise provided therein) and

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the termination of all Commitments and other obligations of the Secured Parties under the Credit Documents, the Guarantor shall be subrogated to the rights of the Administrative Agent and the Secured Parties against the Borrower, and the Administrative Agent agrees to take at Guarantor's expense such steps as the Guarantor may reasonably request to cause the implementation of such subrogation.

        2.07.    Substitute Credit Support.    Notwithstanding anything to the contrary set forth herein, the following provisions shall apply:

        (a)  At any time prior to the termination of the Guaranteed Obligations, the Guarantor may deliver or cause to be delivered to Administrative Agent a Substitute Credit Support Instrument with a stated amount at least equal to the Substitute Credit Support Amount in substitution for this Guarantee and Agreement in accordance with this Section 2.07.

        (b)  Upon delivery of a Substitute Credit Support Instrument together with a legal opinion satisfactory to the Administrative Agent that the delivery of such instrument would not constitute a preference in a bankruptcy of the Guarantor or, if no legal opinion is delivered with such Substitute Credit Support Instrument, upon the 91^st day after the delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), this Guarantee and Agreement shall terminate and the Guarantor shall be relieved of any liability hereunder. Within ten (10) days of the receipt of such Substitute Credit Support Instrument together with such legal opinion, if applicable, or on the 91^st day after delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), if applicable, the Administrative Agent shall return to the Guarantor this Guarantee and Agreement together with any certificate or other documentation reasonably requested by the Guarantor in order to confirm the cancellation of this Guarantee and Agreement.

SECTION III REPRESENTATIONS AND WARRANTIES

        The Guarantor represents and warrants to the Administrative Agent and each of the Secured Parties as of the Closing Date and on each Credit Event Date as follows (except to the extent that any representation or warranty hereunder is made with respect to an earlier date, in which case such representation and warranty shall be deemed to have been made on such earlier date):

        3.01.    Organization; Powers; Ownership of Property.    The Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) (a) is duly formed, validly existing and in good standing under the laws of the jurisdiction of its formation, except, with respect to such Subsidiaries, where the failure to be validly existing or in good standing is not reasonably likely to result in a Material Adverse Effect, (b) has all requisite power and authority to own its property and assets and to carry on its business as now conducted and as proposed to be conducted, (c) is qualified to do business in every jurisdiction where such qualification is required, except where the failure so to qualify is not reasonably likely to result in a Material Adverse Effect, (d) as to the Guarantor only, has the power and authority to execute, deliver and perform its obligations under this Guarantee and Agreement, and (e) owns and has good and marketable title to all of its properties and assets, subject to no Liens other than those permitted by Section 4.11 hereof, except where the failure to own or to have good and marketable title to such property or asset is not reasonably likely to result in a Material Adverse Effect.

        3.02.    Authorization.    The execution, delivery and performance by the Guarantor of this Guarantee and Agreement (a) have been duly authorized by all requisite corporate action on the part of the Guarantor, and (b) will not (i) violate (A) any provision of any law, statute, rule or regulation to which the Guarantor is subject, (B) the articles of incorporation or by-laws of the Guarantor, (C) any order of any Governmental Authority to which the Guarantor is subject, or (D) any material provision of any indenture, agreement or other instrument to which the Guarantor is a party or by which it or

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any of its property is or may be bound, which such violation is reasonably likely to result in a Material Adverse Effect, (ii) constitute (alone or with notice or lapse of time or both) a default under any such indenture, agreement or other instrument, which such default is reasonably likely to result in a Material Adverse Effect or (iii) result in the creation or imposition of any Lien upon any property or assets of the Guarantor, which such Lien is reasonably likely to result in a Material Adverse Effect.

        3.03.    Enforceability.    This Guarantee and Agreement constitutes a legal, valid and binding obligation of the Guarantor enforceable in accordance with its terms except to the extent that enforcement may be limited by bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally.

        3.04.    Financial Statements.    (a) The consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 1999 and December 31, 2000, reported on by an independent public accountant of nationally recognized standing, and the related consolidated statements of income, retained earnings and cash flows for the fiscal periods then ended, copies of which have been delivered to the Administrative Agent, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such dates and their consolidated results of operations and cash flows for such periods ending on such dates.

        (b)  The assumptions used in preparing the Projections were made in good faith and are reasonable as of the date of such Projections and as of the Closing Date.

        (c)  Since December 31, 2000, except as set forth in the Information Memorandum or in Schedule 3.04(c), there has been no development or condition that has had, or could reasonably be expected to result in, a Material Adverse Effect (assuming that the transactions contemplated by the Other NEG Guarantees shall have occurred).

        3.05.    Litigation.    Except as set forth on Schedule 3.05, there is no action, suit or proceeding pending against, or to the Actual Knowledge of the Guarantor threatened against or affecting, the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) before any court or arbitrator or any governmental body, agency or official in which an adverse decision is reasonably likely to result in a Material Adverse Effect or call into question the enforceability of this Guarantee and Agreement.

        3.06.    Federal Reserve Regulations.    (a) Neither the Guarantor nor any of its Subsidiaries is engaged principally, or as one of its important activities, in the business of extending credit for the purpose of purchasing or carrying Margin Stock.

        (b)  Not more than 25% of the value of the assets of the Guarantor is represented by Margin Stock.

        3.07.    Investment Company Act; Public Utility Holding Company Act.    (a) Neither the Guarantor nor any of its Subsidiaries is an "investment company" as defined in, or subject to regulation under, the Investment Company Act of 1940.

        (b)  The Guarantor is not a "holding company" but is a "subsidiary company" and an "affiliate" of a "holding company", the Parent, that is exempt from all provisions, except Section 9(a)(2), of the Public Utility Holding Company Act of 1935, as amended, and the execution, delivery and performance by the Guarantor of this Guarantee and Agreement and its obligations hereunder do not violate any provision of such Act or any rule or regulation thereunder.

        3.08.    No Material Misstatements.    The reports, financial statements and other written information furnished by or on behalf of the Guarantor to the Administrative Agent or any Secured Party pursuant to or in connection with this Guarantee and Agreement do not contain, when taken as a whole, any untrue statement of a material fact and do not omit, when taken as a whole, to state any fact necessary

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to make the statements therein, in the light of the circumstances under which they were made, not misleading in any material respect.

        3.09.    Taxes.    The Guarantor has filed or caused to be filed all Federal and material state and local tax returns which to its Actual Knowledge are required to be filed by it, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than any taxes or assessments the validity of which is being contested in good faith by appropriate proceedings and with respect to which appropriate accounting reserves have to the extent required by GAAP been set aside. Each Subsidiary of the Guarantor (other than any Unrestricted Subsidiary) has filed or caused to be filed all Federal and material state and local tax returns which to the Actual Knowledge of the Guarantor or such Subsidiary are required to be filed by such Subsidiary, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than the taxes the failure of which to pay or file a return with respect thereto is not reasonably likely to result in a Material Adverse Effect.

        3.10.    Employee Benefit Plans.    With respect to each Plan, the Guarantor and its Subsidiaries are in compliance in all material respects with the applicable provisions of ERISA and the Code and the final regulations and published interpretations thereunder. No ERISA Event has occurred that alone or together with any other ERISA Event has resulted or is reasonably likely to result in a Material Adverse Effect.

        3.11.    Governmental Approvals; Compliance with Law and Contracts.    Each of the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) is in compliance with (a) and has obtained each Governmental Approval applicable to it in respect of this Guarantee and Agreement, the conduct of its business and the ownership of its property, each of which (i) is in full force and effect, (ii) is sufficient for its purpose without any material restraint or adverse condition and (iii) is not subject to any waiting period, further action on the part of any Governmental Authority or other Person, or stay or injunction, (b) all applicable laws relating to its business and (c) each indenture, agreement or other instrument to which it is a party or by which it or any of its property is or may be bound that is material to the conduct of its business, except in each such case for noncompliances which, and Governmental Approvals the failure to possess which, are not, singly or in the aggregate, reasonably likely to result in a Material Adverse Effect.

        3.12.    Environmental Matters.    Except as set forth in Schedule 3.12 or as set forth in or contemplated by the financial statements or other reports of the type referred to in Section 3.04 hereof and which have been delivered to the Administrative Agent on or prior to the date hereof, the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) have complied in all material respects with all Federal, state, local and other statutes, ordinances, orders, judgments, rulings and regulations relating to environmental pollution or to environmental or nuclear regulation or control, except to the extent that failure to so comply is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, neither the Guarantor nor any of its Subsidiaries (other than Unrestricted Subsidiaries) has received notice of any material failure so to comply, except where such failure is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, no facilities of the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) are used to manage any hazardous wastes, hazardous substances, hazardous materials, toxic substances, toxic pollutants or substances similarly denominated, as those terms or similar terms are used in the Resource Conservation and Recovery Act, the Comprehensive Environmental Response Compensation and Liability Act, the Hazardous Materials Transportation Act, the Toxic Substance Control Act, the Clean Air Act, the Clean Water Act or any other applicable law relating to environmental pollution, or any nuclear fuel or other radioactive materials, in violation of any law or any regulations promulgated pursuant thereto, except to the extent that such violations, individually or in the aggregate, are not reasonably likely to result in a Material Adverse Effect. Except as set forth in

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or contemplated by such financial statements or other reports, the Guarantor is aware of no events, conditions or circumstances involving environmental pollution or contamination that are reasonably likely to result in a Material Adverse Effect.

        3.13.    Ranking.    Under applicable laws in force on the date hereof, the claims and rights of the Administrative Agent under this Guarantee and Agreement in respect of the Guaranteed Obligations shall not be subordinate to, and shall rank at least pari passu in all respects with, the claims and rights of any other holders of unsecured Indebtedness of the Guarantor.

        3.14.    Unrestricted Subsidiaries.    All Unrestricted Subsidiaries designated as such on the date hereof are identified on Schedule 3.14.

        3.15.    Separateness from PG&E.    (a) The Guarantor has operated as a business entity separate and distinct in all relevant respects from PG&E Corp. and PG&E such that the Guarantor believes there exists no reasonable basis for a substantive consolidation of NEG LLC with either PG&E Corp. or PG&E in the event of a bankruptcy proceeding with respect to either of such Persons.

        (b)  Any transfer of assets or funds from PG&E Corp. or PG&E (either directly or through PG&E Corp.) to the Guarantor during the period from the date of the Guarantor's incorporation on December 18, 1998 until the date hereof (i) was for reasonably equivalent value, (ii) was received by the Guarantor in good faith and for value and (iii) to the knowledge of Guarantor, was made without intent to hinder, delay or defraud creditors of the transferor.

SECTION IV COVENANTS

        The Guarantor covenants and agrees with the Administrative Agent and the Secured Parties that, from and after the date of this Guarantee and Agreement until the Guaranteed Obligations are fully and indefeasibly paid (unless waived in accordance with Section 9.9 of the Credit Agreement):

        4.01.    Maintenance of Ownership.    The Guarantor shall continue (x) to own at least 50% of the equity ownership interests of, and (y) control the management and operations of, each of its Restricted Subsidiaries (except for certain Restricted Subsidiaries listed on Schedule 4.01); provided that (I) the Guarantor will in any event continue to own at least 80% of the equity ownership interests of ET Holdings and GTN, and (II) the Guarantor will continue to own at least 80% of the equity ownership interests of PG&E Gen; provided, further, that the Guarantor may wind up, dissolve or liquidate any Restricted Subsidiary (other than PG&E Gen, ET Holdings and GTN) without complying with the foregoing, so long as assets thereof are transferred or otherwise conveyed to another Restricted Subsidiary or the Guarantor.

        4.02.    Existence.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, do or cause to be done all things necessary to preserve and keep in full force and effect its legal existence and all rights, licenses, permits, franchises and authorizations necessary or desirable in the normal conduct of its business, except as otherwise permitted pursuant to Sections 4.01 (including Schedule 4.01) and 4.09, and in the case of any such Subsidiaries, except as such failure to so preserve or to keep its legal existence and such rights, licenses, permits, franchises or authorizations in full force and effect is not reasonably likely to result in a Material Adverse Effect.

        4.03.    Compliance with Law; Business and Properties.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, comply with all applicable material laws, rules, regulations and orders of any Governmental Authority, whether now in effect or hereafter enacted, except where the validity or applicability of such laws, rules, regulations or orders is being contested by appropriate proceedings in good faith or where such non-compliance is not reasonably likely to result in a Material Adverse Effect; comply with the terms of each indenture, agreement or other instrument to which it is a party and enforce all of its rights thereunder, except to the extent that noncompliance or failure to enforce is not reasonably likely to cause a Material Adverse Effect; and at all times maintain and preserve all

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property material to the conduct of its business and keep such property in good repair, working order and condition and from time to time make, or cause to be made, all needful and proper repairs, renewals, additions, improvements and replacements thereto necessary in order that the business carried on in connection therewith may be properly conducted at all times, except where the failure to take any such actions is not reasonably likely to result in a Material Adverse Effect.

        4.04.    Financial Statements, Reports, Etc.    The Guarantor will furnish to the Administrative Agent, which will promptly forward the same to each Bank:

        (a)  as soon as available and in any event within 120 days after the end of each fiscal year of the Guarantor, a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such fiscal year and the related consolidated statements of income, retained earnings and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal year, to the extent available, all reported on by an independent public accountant of nationally recognized standing;

        (b)  as soon as available and in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Guarantor a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such quarter and the related consolidated statements of income for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, and the related consolidated statement of cash flows for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, in each case setting forth comparative figures for the previous dates and periods, to the extent available, all certified (subject to normal year-end adjustments) as to fairness of presentation, GAAP and consistency by a Financial Officer of the Guarantor;

        (c)  simultaneously with any delivery of each set of financial statements referred to in paragraphs (a) and (b) above, (i) an unconsolidated balance sheet of the Guarantor and the related unconsolidated statements of income, retained earnings and cash flows as of the same date and for the same periods applicable to the statements delivered pursuant to paragraph (a) or (b) above, as applicable, all certified (subject to normal year-end adjustments in the case of quarterly statements) as to fairness of presentation by a Financial Officer of the Guarantor and (ii) a certificate of a Financial Officer of the Guarantor (A) setting forth in reasonable detail the calculations required to establish whether the Guarantor was in compliance with the requirements of Section 4.15 on the date of such financial statements, and schedules setting forth all Indebtedness described in Section 4.12(o) that was incurred during the applicable period and (B) stating whether any NEG Trigger Event or Incipient NEG Trigger Event exists on the date of such certificate and, if any NEG Trigger Event or Incipient NEG Trigger Event then exists, setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (d)  simultaneously with the delivery of each set of financial statements referred to in paragraph (a) above, a statement of the firm of independent public accountants which reported on such statements confirming the calculations set forth in the Financial Officer's certificate delivered simultaneously therewith pursuant to subsection (c) above;

        (e)  promptly upon a Responsible Officer of the Guarantor obtaining Actual Knowledge of the occurrence of any NEG Trigger Event or Incipient NEG Trigger Event, a certificate of a Financial Officer of the Guarantor setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (f)    on or prior to the date of incurrence of any Indebtedness pursuant to Section 4.12(c) or (l) or the date of any Distribution pursuant to Section 4.14, (i) a certificate of a Financial Officer of the Guarantor setting forth in reasonable detail the calculations demonstrating compliance by

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the Guarantor with the applicable financial tests, together with the pro forma calculations referred to in the applicable Section, and copies of all financial statements and other supporting documents and reports, if any, upon which the Guarantor relied in making such calculations, and (ii) with respect to Section 4.12(c) and (l) only, written evidence of the confirmation of the rating agency ratings, to the extent such confirmation is required under Section 4.12 (c) or (l), as the case may be;

        (g)  (i) on or prior to the date hereof, copies of the PG&E Gen/NEG Credit Agreements, ET Credit Agreements, GTN Credit Agreements, and USGenNE Credit Agreements, in each case accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete, and (ii) promptly upon any refinancing of the loans under any such facility, copies of the refinancing documents, accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete;

        (h)  on each Credit Event Date, a certificate to the effect that the representations and warranties made by the Guarantor and contained in Section III hereof are true and correct in all material respects as of such date, except to the extent made with respect to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects as of such earlier date; and

        (i)    on any NEG Downgrade Ratio Date, assuming that all payments and other actions described in the definition of NEG Downgrade Ratio Date have been made or taken as of such date, a certificate of a Financial Officer of the Guarantor (i) setting forth in reasonable detail the calculations required to establish whether the Guarantor is in compliance with the requirements of Section 4.15 as of such date, and (ii) in the case of a NEG Downgrade Ratio Date described clause (a) of the definition thereof, including a representation and warranty that the Guarantor and its Subsidiaries (taken as a whole) have sufficient liquidity to satisfy all of the Guarantor's obligations under this Guarantee and Agreement as and when such obligations become due.

        4.05.    Insurance.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, maintain such insurance or self insurance, to such extent and against such risks, including fire and other risks insured against by extended coverage, as is customary with companies similarly situated and in the same or similar businesses except, in the case of any such Subsidiaries, where such failure to so maintain is not reasonably likely to result in a Material Adverse Effect.

        4.06.    Taxes, Etc.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, pay and discharge promptly when due all material taxes, assessments and governmental charges imposed upon it or upon its income or profits or in respect of its property, in each case before the same shall become delinquent or in default and before penalties accrue thereon, unless and to the extent that the same are being contested in good faith by appropriate proceedings and adequate reserves with respect thereto shall, to the extent required by GAAP, have been set aside except, in the case of any such Subsidiaries, where such failure to so pay or discharge is not reasonably likely to result in a Material Adverse Effect.

        4.07.    Maintaining Records; Access to Properties and Inspections.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain financial records in accordance with GAAP and, upon reasonable notice and at reasonable times, permit authorized representatives designated by the Administrative Agent to visit and inspect its properties, books and records and to discuss its affairs, finances and condition with its officers.

        4.08.    Risk Management Procedures.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain in effect prudent risk management procedures with respect to Trading Arrangements and Swaps.

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        4.09.    Merger.    The Guarantor will not consolidate or merge with or into any Person, or sell, lease or otherwise transfer, in a single transaction or in a series of transactions, all or substantially all of its assets to any Person or Persons, unless (i) the surviving Person or transferee is formed under the laws of a State of the United States of America and assumes or is responsible by operation of law for all the Guaranteed Obligations and (ii) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event shall have occurred or be continuing at the time of or after giving effect to such consolidation or merger or transfer.

        4.10.    Investments.    The Guarantor will not make any Investment, or permit any of its Restricted Subsidiaries to make any Investment, except:

        (a)  Investments in any Restricted Subsidiary, Investment Vehicle or Asset Company (or any Person that will become a Restricted Subsidiary, Investment Vehicle or Asset Company, as the case may be, upon the making of such Investment); or

        (b)  Investments (not otherwise permitted under this Section 4.10) existing on the date of execution of this Guarantee and Agreement which are identified on Schedule 4.10 or Schedule 4.13; or

        (c)  Investments permitted to be incurred as Indebtedness under Section 4.12; or

        (d)  (i) Investments made by any Restricted Subsidiary in the Guarantor or any Restricted Subsidiary in connection with the Guarantor's cash management program or (ii) Investments in Cash Equivalents; or

        (e)  Investments constituting "Equity Funding Arrangements" permitted hereunder; or

        (f)    Investments otherwise made by the Guarantor and its Restricted Subsidiaries in the ordinary course of business as conducted by the Guarantor or its Restricted Subsidiaries or by other Persons in the energy trading, energy services, power generation, electric transmission or gas transmission and storage businesses (including technologies related to such businesses); or

        (g)  Investments in connection with obligations in support of Trading Arrangements; or

        (h)  Investments in any Unrestricted Subsidiary with amounts which would otherwise be available for distribution in accordance with Section 4.14.

        4.11.    Liens.    The Guarantor will not create or assume or permit to exist any Lien, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, create or assume or permit to exist any Lien, in respect of any of its property or assets of any kind (real or personal, tangible or intangible), except:

        (a)  Liens granted pursuant to Lease Obligations described in clause (i) of the definition of "Lease Obligations" and permitted by Section 4.12; or

        (b)  Liens on cash collateral securing Equity Funding Arrangements, Credit Support Arrangements, Investments or Indebtedness permitted hereunder; or

        (c)  Liens in favor of the administrative agent under the PG&E Gen/NEG Credit Agreements on funds in the "Cash Collateral Account" and on the "Cash Collateral Account" to secure the reimbursement obligations of PG&E Gen or the Guarantor, as the case may be, in respect of letters of credit as provided for in the PG&E Gen/NEG Credit Agreements; or

        (d)  Liens existing on the assets of any Person at the time such Person becomes a Subsidiary of the Guarantor; or

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        (e)  Liens on the equity or ownership interests of any Asset Company or any Investment Vehicle which owns such Asset Company and Liens on any Equity Funding Arrangements securing the applicable Project Financing Facility; or

        (f)    Liens on any of the assets of any Asset Company or Investment Vehicle securing or in connection with the applicable Project Financing Facility; or

        (g)  Liens on any asset of the Guarantor or any Restricted Subsidiary incurred or assumed for the purpose of financing all or any part of the cost of acquiring, constructing or improving such asset, provided that such Lien attaches contemporaneously with, or within 12 months of, the purchase, construction or improvement of such asset; or

        (h)  Liens with respect to the assets of and membership interests or other equity interests in ET Holdings and its Subsidiaries to secure the NEG/ET Letter of Credit Facilities; or

        (i)    Other Liens (not otherwise permitted under this Section 4.11) existing as of the date of this Guarantee and Agreement and identified on Schedule 4.11; or

        (j)    Permitted Encumbrances; or

        (k)  without limiting the ability to incur Liens under the other subsections of this Section 4.11, extensions or renewals of any Lien otherwise permitted to be incurred under this Section 4.11 securing Indebtedness in an amount not exceeding the principal amount of, and accrued interest on, the Indebtedness secured by such Lien as so extended or renewed at the time of such extension or renewal; provided that such Lien shall apply only to the same property theretofore subject to the same and fixed improvements constructed thereon.

        4.12.    Indebtedness.    The Guarantor will not incur, create, assume or permit to exist Indebtedness, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, incur, create, assume or permit to exist Indebtedness, except:

        (a)  Indebtedness under (i) the USGenNE Credit Agreements, the GTN Credit Agreements, the ET Credit Agreements and NEG/ET Letter of Credit Facilities (the "Refinanceable Facilities") and (ii) the PG&E Gen/NEG Credit Agreements and the other credit facilities entered into by the Guarantor or any Restricted Subsidiary prior to the date of this Guarantee and Agreement and identified on Schedule 4.12(a); provided, that this subsection (a) shall not be deemed to permit an amendment to the facilities referred to in this subsection (a) which has the effect of increasing the available commitments thereunder or, in the case of the PG&E Gen/NEG Credit Agreements, extending the maturity of the loans thereunder; or

        (b)  Lease Obligations (1) under leases for any office buildings in which the Guarantor or any of its Subsidiaries has or will have offices; (2) under leases for any equipment not to exceed $10,000,000 in the aggregate outstanding at any time; or (3) described in clause (i) of the definition thereof of the Guarantor and its Restricted Subsidiaries if, immediately after the incurrence of any such Lease Obligation, the outstanding aggregate principal amount of all such Lease Obligations (other than those Lease Obligations incurred under subsections (c), (j), (l) and (q) below) would not exceed 2% of Consolidated Tangible Net Assets; or

        (c)  Indebtedness of (i) any Asset Company under any Project Financing Facility or (ii) any Investment Vehicle under any Project Financing Facility; provided, that if any Asset Company owned (directly or indirectly) by such Investment Vehicle has incurred any Indebtedness under a Project Financing Facility, then such Investment Vehicle may only incur Indebtedness under a Project Financing Facility if (I)(x) after giving effect to such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0, calculated on a pro forma basis to include such Indebtedness and related cash flows, (y) the Guarantor's senior unsecured long-term debt is, at the time of such incurrence, rated at least BBB by S&P and Baa2 by Moody's

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(or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's), and (z) the Guarantor obtains a reaffirmation of such ratings from S&P and Moody's (taking into account the Indebtedness to be incurred by such Investment Vehicle under this Section 4.12(c)) or (II) such Investment Vehicle owns only one Asset Company and such Indebtedness is incurred in connection with a Project Financing Facility and the proceeds thereof are promptly invested in such Asset Company; or

        (d)  Trading Arrangements and Credit Support Arrangements, to the extent such arrangements constitute Indebtedness; or

        (e)  Indebtedness with respect to any securitization, receivables financing or similar transaction entered into by ET Holdings, GTN, USGenNE or any of their respective Subsidiaries; or

        (f)    Indebtedness not otherwise permitted under this Section 4.12, existing on the date of this Guarantee and Agreement and set forth on Schedule 4.12(f) or Schedule 4.13; or

        (g)  Indebtedness under any Swap; or

        (h)  Permitted Subordinated Indebtedness; or

        (i)    Indebtedness between any of the Guarantor, any Restricted Subsidiary, Investment Vehicle, any Asset Company or any Indebtedness under any short-term overdraft lines of credit or similar arrangements entered into in the ordinary course of business, in each case associated with the Guarantor's cash management program; or

        (j)    Indebtedness attributable to any Permitted Sale/Leaseback Transactions; or

        (k)  Any Guaranty constituting Indebtedness of the Guarantor or any Restricted Subsidiary, Investment Vehicle or Asset Company under clause (ix) of the definition of "Indebtedness" to the extent that the obligations covered by such Guaranty are not reasonably quantifiable under GAAP; or

        (l)    other Indebtedness of the Guarantor or any Restricted Subsidiary (other than PG&E Gen) incurred after the date of this Guarantee and Agreement, provided that (i) after giving effect to any such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0 (calculated on a pro forma basis as of the end of the most recent fiscal quarter with respect to which financial statements of the Guarantor are available and assuming for such purpose that such Indebtedness was incurred one year prior to the end of such fiscal quarter and taking into account any related cash flows) and (ii) if such Indebtedness would constitute Indebtedness of a Restricted Subsidiary, no Asset Company, Investment Vehicle or Restricted Subsidiary owned directly or indirectly by such Restricted Subsidiary has Indebtedness outstanding which would otherwise be permitted under Section 4.12(a), (b)(3), (c), (h), (j), (l), (o) or (p); provided, further, that clause (ii) of this Section 4.12(l) will not be applicable if the Guarantor obtains a reaffirmation of the rating of its senior unsecured long-term debt of at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's) after taking into account the Indebtedness to be incurred by such Restricted Subsidiary and related cash flows; or

        (m)  Indebtedness of the Guarantor or any Restricted Subsidiary in respect of letters of credit or surety, performance or bid bonds used in the ordinary course of business not in excess of $25,000,000 in the aggregate outstanding at any time; or

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        (n)  Indebtedness constituting intercompany loans (1) between the Guarantor and its Restricted Subsidiaries or between such Restricted Subsidiaries or (2) made by the Guarantor, any Restricted Subsidiary, any Investment Vehicle or any Asset Company to any Investment Vehicle or any Asset Company or (3) made by any Investment Vehicle to the Guarantor, any Restricted Subsidiary, or any other Investment Vehicle; or

        (o)  Equity Funding Arrangements; or

        (p)  without limiting the ability to incur Indebtedness under the other subsections of this Section 4.12, any refinancing of any Indebtedness permitted under Section 4.12(f) and under the Refinanceable Facilities, provided that either (i) (x) the average life of any refinanced Indebtedness shall not be less than the average life of the Indebtedness so refinanced (plus fees and expenses, including any premium or defeasance costs, of such refinancing), taking into account the prepayment or repayment of a portion of any such Indebtedness, and (y) the principal amount of the refinanced Indebtedness shall not exceed the principal amount plus accrued interest thereon of the Indebtedness so refinanced, or (ii) the Guarantor shall demonstrate pro forma compliance with the financial ratio described in Section 4.12(l) above; or

        (q)  Indebtedness of any Subsidiary of the Guarantor existing at the time such Person becomes a Subsidiary of the Guarantor (except for any such Indebtedness of such Subsidiary incurred in contemplation of or to finance the acquisition of such Subsidiary).

        4.13.    Transactions with Affiliates.    The Guarantor will not enter into, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to enter into, any transaction with any Affiliate of the Guarantor (other than the Guarantor, any Subsidiary of the Guarantor, any Investment Vehicle and any Asset Company), except:

        (a)  transactions with such Affiliates upon fair and reasonable terms which are no less favorable to the Guarantor than would be obtained in a comparable arm's length transaction with a Person not an Affiliate of the Guarantor;

        (b)  management, operating, sharing or other similar services arrangements, or promissory notes, between and among the Guarantor, its Subsidiaries and its other Affiliates either existing on the date hereof and described on Schedule 4.13, other than in the case of promissory notes, or entered into after the date hereof on commercially reasonable terms;

        (c)  tax sharing arrangements between the Guarantor and PG&E Corp. approximating the tax position that the Guarantor would be in if it were not part of PG&E Corp.'s consolidated group, as determined by the management of the Guarantor in its reasonable business judgment or such other arrangements as may be approved by the Banks prior to the date hereof; or

        (d)  paying or declaring any Distribution to the extent permitted under Section 4.14.

        The provisions of this Section 4.13 shall not apply to (i) transactions between the Guarantor or any of its Subsidiaries, on the one hand, and any employee of the Guarantor or any of its Subsidiaries, on the other hand, that are approved by the Board of Directors of the Guarantor or any committee of the Board of Directors and (ii) the payment of reasonable and customary regular fees to directors of the Guarantor or any Subsidiary of the Guarantor.

        4.14.    Distributions.    The Guarantor will not declare or make any Distribution if (a) an NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or shall occur after giving effect to such Distribution, (b) the Ratio of Cash Flow to Fixed Charges of the Guarantor determined as of the end of the immediately preceding fiscal quarter was not at least 2.0:1.0 or (c) the Guarantor fails to satisfy the requirements of the test set forth in Section 4.15(b), or the Guarantor fails to have a Consolidated Net Worth of at least $2.15 billion, in each case calculated on a pro forma basis as of the end of the most recent fiscal period with respect to which financial

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statements of the Guarantor are available (assuming such Distribution and all material events with respect to the Guarantor and its Subsidiaries which occurred after the end of such fiscal period had occurred on the last day of such fiscal period); provided that the Guarantor may declare and make Distributions of assets of or equity ownership interests in any Unrestricted Subsidiary at any time without complying with the foregoing.

        4.15.    Financial Covenants.    (a) The Guarantor shall not, as of (x) the end of each fiscal quarter or any NEG Downgrade Ratio Date described in clause (b) of the definition thereof, permit the Ratio of Cash Flow to Fixed Charges to be less than 1.5:1.0, and (y) any NEG Downgrade Ratio Date described in clause (a) of the definition thereof, permit the Ratio of Cash Flow to Fixed Charges to be less than 2.0:1.0.

        (a)  The Guarantor shall not, as of (x) the end of each fiscal quarter and (y) any NEG Downgrade Ratio Date, permit the Ratio of Debt to Capitalization to be greater than 0.6:1.0.

        (b)  The Guarantor shall not, (x) at the end of each fiscal quarter and (y) on any NEG Downgrade Ratio Date, permit (i) Consolidated Net Worth to be less than the Minimum Consolidated Net Worth and (ii) Non-Trading Consolidated Net Worth to be less than the Minimum Non-Trading Consolidated Net Worth.

        Any calculation made pursuant to this Section 4.15 on a NEG Downgrade Ratio Date shall be made (1) as of the end of the month immediately preceding such NEG Downgrade Ratio Date and (2) with the assumption that all payments and other actions described in the definition of NEG Downgrade Ratio Date have been made or taken as of such date.

        4.16.    Separateness from PG&E Corp.    The Guarantor shall (i) maintain adequate capital in light of the business in which it is engaged; (ii) maintain books and corporate records separate from PG&E Corp. and PG&E; (iii) not commingle assets with PG&E Corp. or PG&E; and (iv) conduct business in its own name and hold itself out as separate from PG&E Corp. and PG&E. The Guarantor shall promptly notify the Administrative Agent upon a Responsible Officer of the Guarantor obtaining Actual Knowledge that a creditor of PG&E Corp. or of PG&E has made a claim or filing in writing seeking the substantive consolidation of NEG LLC in any bankruptcy proceeding of PG&E Corp. or of PG&E.

        4.17.    Asset Sales.    Except for the sale of all or substantially all of the assets of the Guarantor pursuant to Section 4.09, and other than assets required to be sold to conform with government regulations, the Guarantor shall not, and shall cause its Subsidiaries not to, sell or otherwise dispose of any assets (other than short-term, readily marketable investments purchased for cash management purposes with funds not representing the proceeds of other asset sales) if, on a pro forma basis, the aggregate net book value of all such sales during the most recent 12-month period would exceed 10% of Consolidated Tangible Net Assets computed as of the end of the most recent quarter preceding such sale; provided, however, that any such sales shall be disregarded for purposes of this 10% limitation if the proceeds are invested in assets in the Guarantor's business in the energy trading, energy services, power generation, electric transmission or gas transmission and storage businesses or in similar or related lines of business; and provided, further, that the Guarantor may sell or otherwise dispose of assets in excess of such 10% limitation if the proceeds from such sales or dispositions, which are not reinvested as provided above, are retained by the Guarantor as cash or Cash Equivalents or are used by the Guarantor to purchase and retire notes or Indebtedness ranking pari passu in right of payment to the Guaranteed Obligations or Indebtedness of the Guarantor's Subsidiaries. (For the avoidance of doubt, any sale of assets otherwise permitted by this Section 4.17 shall not be permitted if such sale would result in a violation of any other provision of this Guarantee and Agreement.)

        4.18.    NEG Downgrade Event Provisions.    (a) Unless similar provisions are contained or incorporated in this Guarantee and Agreement, the Guarantor shall not enter into any Equity Funding

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Arrangement (other than the Credit Documents and the Other NEG Guarantees) that contains a NEG Downgrade Event Provision that results in such Equity Funding Arrangement (taken as a whole with its related credit documents) being materially more favorable to the lenders and/or investors thereunder than this Guaranty and Agreement is to the Secured Parties.

        (b)  Unless similar provisions are incorporated in this Guarantee and Agreement, the Guarantor shall not enter into any amendment to an Other NEG Guarantee made in connection with the modification or elimination of a NEG Downgrade Event Provision that results in such Other NEG Guarantee (taken as a whole with its related credit documents) being materially more favorable to the lenders and/or investors thereunder than this Guaranty and Agreement is to the Secured Parties.

SECTION V NEG TRIGGER EVENTS

        5.01.    NEG Trigger Events.    The following shall constitute NEG Trigger Events:

        (a)  a NEG Downgrade Funding Date shall occur; or

        (b)  any representation or warranty made or deemed made by the Guarantor in or in connection with the execution and delivery of this Guarantee and Agreement shall prove to have been false or misleading in any material respect when so made, deemed made or furnished; or

        (c)  the Guarantor shall default in any material respect in the due observance or performance of any agreement contained in Section 4.01, Section 4.04(i), Section 4.09, Section 4.14 or Section 4.15; or

        (d)  the Guarantor shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in this Guarantee and Agreement (other than those specified in 5.01(c) above) and such default shall continue unremedied for a period of 30 days after notice thereof from the Administrative Agent; or

        (e)  the Guarantor or any Restricted Subsidiary shall default in respect of any Indebtedness or default in its obligations to make payments when due under any Equity Funding Arrangements which at the time have an aggregate principal amount outstanding or, in the case of Equity Funding Arrangements, due and unpaid, in excess of $50,000,000, and as a result thereof such Indebtedness shall have been accelerated or otherwise be or become due or subject to prepayment in full prior to its stated maturity; or

        (f)    an involuntary proceeding shall be commenced or an involuntary petition shall be filed in a court of competent jurisdiction seeking (i) relief in respect of the Guarantor or any Restricted Subsidiary or of a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary or (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary or (iii) the winding up or liquidation of the Guarantor or any Restricted Subsidiary; and such proceeding or petition shall continue undismissed for 60 days or an order or decree approving or ordering any of the foregoing shall be entered; or

        (g)  the Guarantor or any Restricted Subsidiary shall (i) voluntarily commence any proceeding or file any petition seeking relief under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) consent to the institution of, or fail to contest in a timely and appropriate manner, any

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proceeding or the filing of any petition described in Section 5.01(f) above, (iii) apply for or consent to the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary, (iv) file an answer admitting the material allegations of a petition filed against it in any such proceeding, (v) make a general assignment for the benefit of creditors, or (vi) take any corporate action for the purpose of effecting any of the foregoing, become unable, admit in writing its inability, or fail generally, to pay its debts as they become due; or

        (h)  one or more final judgments for the payment of money in an aggregate amount in excess of $50,000,000 (exclusive of amounts covered by insurance) shall be rendered against the Guarantor or any Restricted Subsidiary and such judgment or order shall remain undischarged, unbonded or unstayed for a period of 60 days; or

        (i)    an ERISA Event shall have occurred that, either alone or in combination with other ERISA Events that shall have occurred, is reasonably likely to result in a Material Adverse Effect.

SECTION VI MISCELLANEOUS

        6.01.    Amendments.    No provision of this Guarantee and Agreement may be amended or waived except in accordance with the Credit Agreement.

        6.02.    Successors and Assigns.    This Guarantee shall bind and benefit the successors and permitted assigns of Guarantor and Administrative Agent and inure to the benefit of the Secured Parties and their successors and permitted assigns. This Guarantee shall not be deemed to benefit any Person except Administrative Agent and the Secured Parties and their successors and permitted assigns.

        6.03.GOVERNING LAW.THIS GUARANTEE SHALL BE GOVERNED BY, AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. THE GUARANTOR IRREVOCABLY SUBMITS, FOR ITSELF AND ITS PROPERTY IN ANY LEGAL ACTION RELATING TO THIS GUARANTEE, OR FOR RECOGNITION AND ENFORCEMENT OF ANY JUDGMENT IN RESPECT HEREOF OR THEREOF, TO THE NON-EXCLUSIVE JURISDICTION OF THE COURTS OF THE STATE OF NEW YORK.

        6.04.    No Waiver, Cumulative Remedies.    (a) No failure to exercise, nor any delay in exercising, on the part of the Administrative Agent or any Secured Party, any right, power or privilege hereunder shall operate as a waiver thereof. No single or partial exercise of any right, power or privilege hereunder shall preclude any other or further exercise thereof or the exercise of any other right, power or privilege. A waiver by the Administrative Agent or any Secured Party of any right or remedy hereunder on any one occasion shall not be construed as a bar to any right or remedy which the Administrative Agent or such Secured Party would otherwise have on any future occasion.

        (b)  The rights and remedies herein provided are cumulative, may be exercised singly or concurrently and are not exclusive of any other rights or remedies provided by law.

        6.05.    Authority and Rights of Administrative Agent.    The Guarantor acknowledges that the rights and responsibilities of the Administrative Agent under this Guarantee and Agreement with respect to any action taken by the Administrative Agent or the exercise or non-exercise by the Administrative Agent of any option, right, request, judgment or other right or remedy provided for herein or resulting or arising out of this Guarantee and Agreement shall, as between the Administrative Agent and the Secured Parties, be governed by the Credit Documents and by such other agreements with respect thereto as may exist from time to time among them, but, as between the Administrative Agent and the Guarantor, the Administrative Agent shall be conclusively presumed to be acting with full and valid authority so to act or refrain from acting, and the Guarantor shall not be under any obligation, or

28

entitlement, to make any inquiry respecting such authority. The Administrative Agent shall be afforded the rights, privileges and immunities set forth in Article 9 of the Credit Agreement as if fully set forth herein.

        6.06.    No Personal Liability of Directors, Officers, Employees and Shareholders.    No director, officer, employee, incorporator or stockholder of the Guarantor, as such, shall have any liability for any obligations of the Guarantor under this Guarantee and Agreement or for any claim based on, in respect of, or by reason of, such obligations or their creation.

[SIGNATURE PAGES FOLLOW]

29

        IN WITNESS WHEREOF, the parties hereto have caused this Amended and Restated Guarantee and Agreement to be duly executed by their respective officers thereunto duly authorized as of the day and year first above written.

PG&E NATIONAL ENERGY GROUP, INC.
By:
	Name: Title:

S-1
[Amended and Restated Guarantee and Agreement]

Agreed and Accepted:
SOCIETE GENERALE, NOT IN ITS INDIVIDUAL CAPACITY BUT SOLELY IN ITS CAPACITY AS ADMINISTRATIVE AGENT FOR THE BENEFIT OF THE SECURED PARTIES
By:
	Name: Title:

S-2

SCHEDULE 1.01B

TERMS AND CONDITIONS OF SUBORDINATION
FOR INDEBTEDNESS OF GUARANTOR TO AFFILIATES

        All Permitted Subordinated Indebtedness (as defined in the Guarantee and Agreement to which this Schedule 1.01B is attached) incurred by PG&E National Energy Group, Inc., a Delaware corporation (the "Guarantor"), owing to any Affiliate (as defined in the Guarantee and Agreement) of the Guarantor shall be subject to the following terms and conditions, which shall be incorporated in a written agreement (the "Agreement") between the Guarantor and any Affiliate to which any such Indebtedness is owed.

Section 1.01.    Subordination of Liabilities.    The Guarantor, for itself, its successors and assigns, covenants and agrees and each holder of the indebtedness evidenced by [DESCRIBE INDEBTEDNESS DOCUMENTATION] (the "Subordinated Indebtedness") by its acceptance thereof likewise covenants and agrees that the payment of the principal of, and interest on, and all other amounts owing in respect of, the Subordinated Indebtedness is hereby expressly subordinated, to the extent and in the manner hereinafter set forth, to the prior payment in full in cash or discharge in full of Senior Indebtedness (as defined in Section 1.08) in cash. The subordination provisions set forth herein shall constitute a continuing offer to all persons who, in reliance upon such provisions, become holders of, or continue to hold, Senior Indebtedness, and such provisions are made for the benefit of the holders of Senior Indebtedness, and such holders are hereby made obligees hereunder to the same extent as if their names were written herein as such, and they and/or each of them may proceed to enforce such provisions.

Section 1.02.    Guarantor Not to Make Payments with Respect to Subordinated Indebtedness in Certain Circumstances.    (a) Upon the maturity of any Senior Indebtedness (including interest thereon or fees or any other amounts owing in respect thereof), whether at stated maturity, by acceleration or otherwise, all principal thereof and premium, if any, and interest thereon or fees or any other amounts owing in respect thereof, in each case to the extent due and owing at such time, shall first be paid in full in cash or discharge in full, or such payment duly provided for in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness, before any payment is made on account of the principal of (including installments thereof), or interest on, or any amount otherwise owing in respect of, the Subordinated Indebtedness. Each holder of the Subordinated Indebtedness hereby agrees that, so long as an Event of Default (as defined below), or event that with notice or lapse of time or both would constitute an Event of Default, in respect of any Senior Indebtedness exists, it will not ask, demand, sue for, or otherwise take, accept or receive, any amounts owing in respect of the Subordinated Indebtedness. As used herein, the term "Event of Default" shall mean any NEG Trigger Event (as defined below) or any payment default with respect to any Senior Indebtedness.

        (b)  In the event that notwithstanding the provisions of the preceding subsection (a) of this Section 1.02, the Guarantor shall make any payment on account of the principal of, or interest on, or amounts otherwise owing in respect of, the Subordinated Indebtedness at a time when payment is not permitted by said subsection (a), such payment shall be held by the holder of the Subordinated Indebtedness, in trust for the benefit of, and shall be paid forthwith over and delivered to, the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, as their respective interests may appear, for application pro rata to the payment of all Senior Indebtedness remaining unpaid to the extent necessary to pay all Senior Indebtedness in full in cash in accordance with the terms of such Senior Indebtedness, after giving effect to any concurrent payment or distribution to or for the holders of Senior Indebtedness. Without in any way modifying the subordination provisions set forth herein or affecting the subordination effected hereby, the Guarantor shall give the holder of the Subordinated Indebtedness prompt written notice of any maturity of Senior Indebtedness after which such Senior Indebtedness remains unsatisfied.

Section 1.03.    Subordinated Indebtedness Subordinated to Prior Payment of all Senior Indebtedness on Dissolution, Liquidation or Reorganization of Guarantor.    Upon any distribution of assets of the Guarantor upon any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise):

        (a)  the holders of all Senior Indebtedness shall first be entitled to receive payment in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness of the principal thereof, premium, if any, and interest (including, without limitation, all interest accruing after the commencement of any bankruptcy, insolvency, receivership or similar proceeding at the rate provided in the governing documentation whether or not such interest is an allowed claim in such proceeding) and all other amounts due thereon before the holder of the Subordinated Indebtedness is entitled to receive any payment on account of the principal of or interest on or any other amount owing in respect of the Subordinated Indebtedness,

        (b)  any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities to which the holder of the Subordinated Indebtedness would be entitled except for the subordination provisions set forth herein, shall be paid by the liquidating trustee or agent or other person making such payment or distribution, whether a trustee or agent, directly to the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, to the extent necessary to make payment in full of all Senior Indebtedness remaining unpaid, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness; and

        (c)  in the event that, notwithstanding the foregoing provisions of this Section 1.03, any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities, shall be received by the holder of the Subordinated Indebtedness on account of principal of, or interest or other amounts due on, the Subordinated Indebtedness before all Senior Indebtedness is paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, or effective provisions made for its payment, such payment or distribution shall be received and held in trust for and shall be paid over to the holders of the Senior Indebtedness remaining unpaid or unprovided for or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, for application to the payment of such Senior Indebtedness until all such Senior Indebtedness shall have been paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness.

        Without in any way modifying the subordination provisions set forth herein or affecting the subordination effected hereby, the Guarantor shall give prompt written notice to the holder of the Subordinated Indebtedness of any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise).

Section 1.04.    Furtherance of Subordination.    Each holder of the Subordinated Indebtedness agrees as follows:

        (a)  If any proceeding referred to in Section 1.03 above is commenced by or against the Guarantor:

          (i)  the Administrative Agent (as defined in the Guarantee and Agreement referred to in Section 1.08 below), acting on behalf of each holder of the Senior Indebtedness, is hereby irrevocably authorized and empowered (in its own name or in the name of the holder of the Subordinated Indebtedness or otherwise), but shall have no obligation, to demand, sue for, collect and receive every payment or distribution referred to in Section 1.03(b) and give acquittance therefor and to file claims and proofs of claim and take such other action (including, without limitation. voting the claims arising under the Subordinated Indebtedness

or enforcing any security interest or other lien securing payment of the Subordinated Indebtedness) as it may deem necessary or advisable for the exercise or enforcement of or causing the enforcement of any of the rights or interests of the holders of the Senior Indebtedness hereunder; and

        (ii)  each holder of the Subordinated Indebtedness shall duly and promptly take such action as the holders of the Senior Indebtedness may request (A) to collect the Subordinated Indebtedness for the account of the holders of the Senior Indebtedness and to file appropriate claims or proofs of claim in respect of the Subordinated Indebtedness, (B) to execute and deliver to the holders of the Senior Indebtedness such powers of attorney, assignments or other instruments as the holders of the Senior Indebtedness may request in order to enable the holders of the Senior Indebtedness to enforce any and all claims with respect to, and any security interests and other liens securing payment of, the Subordinated Indebtedness, and (C) to collect and receive any and all payments or distributions that may be payable or deliverable upon or with respect to the Subordinated Indebtedness.

        (iii)  The holders of the Senior Indebtedness are hereby authorized to demand specific performance of this Agreement, whether or not the Guarantor shall have complied with any of the provisions hereof applicable to it, at any time when the holder of the Subordinated Indebtedness shall have failed to comply with any of the provisions of this Agreement applicable to it. The holder of the Subordinated Indebtedness hereby irrevocably waives any defense based on the adequacy of a remedy at law that might be asserted as a bar to such remedy of specific performance.

Section 1.05.    Subrogation.    Subject to the prior payment in cash in full or discharge in full of all Senior Indebtedness in cash, the holder of the Subordinated Indebtedness shall be subrogated to the rights of the holders of Senior Indebtedness to receive payments or distributions of assets of the Guarantor applicable to the Senior Indebtedness until all amounts owing in respect of the Subordinated Indebtedness shall be paid or discharged in full, and for the purpose of such subrogation no payments or distributions to the holders of the Senior Indebtedness by or on behalf of the Guarantor or by or on behalf of the holder of the Subordinated Indebtedness by virtue of the subordination provisions set forth herein that otherwise would have been made to the holder of the Subordinated Indebtedness, shall be deemed to be payment by the Guarantor to or on account of the Senior Indebtedness, it being understood that the subordination provisions set forth herein are and are intended solely for the purpose of defining the relative rights of the holder of the Subordinated Indebtedness, on the one hand, and the holders of the Senior Indebtedness, on the other hand.

Section 1.06.    Obligation of the Guarantor Unconditional.    Nothing contained in the subordination provisions set forth herein or in the documents evidencing the Subordinated Indebtedness is intended to or shall impair, as between the Guarantor and the holder of the Subordinated Indebtedness, the obligation of the Guarantor, which is absolute and unconditional, to pay to the holder of the Subordinated Indebtedness the principal of and interest on the Subordinated Indebtedness as and when the same shall become due and payable in accordance with its terms, or is intended to or shall affect the relative rights of the holder of the Subordinated Indebtedness and creditors of the Guarantor other than the holders of the Senior Indebtedness, nor shall anything herein or therein prevent the holder of the Subordinated Indebtedness from exercising all remedies otherwise permitted by applicable law, subject to the rights, if any, under the subordination provisions set forth herein of the holders of Senior Indebtedness in respect of cash, property, or securities of the Guarantor received upon the exercise of any such remedy. Upon any distribution of assets of the Guarantor referred to herein, the holder of the Subordinated Indebtedness shall be entitled to rely upon any order or decree made by any court of competent jurisdiction in which such dissolution, winding up, liquidation or reorganization proceedings are pending, or a certificate of the liquidating trustee or agent or other person making any distribution to the holder of the Subordinated Indebtedness, for the purpose of ascertaining the persons entitled to participate in such distribution, the holders of the Senior Indebtedness and other indebtedness of the Guarantor, the amount thereof or payable thereon, the amount or amounts paid or distributed thereon and all other facts pertinent thereto or hereto.

Section 1.07.    Subordination Rights Not Impaired by Acts or Omissions of Guarantor or Holders of Senior Indebtedness.    No rights of any present or future holders of any Senior Indebtedness to enforce subordination as herein provided shall at any time in any way be prejudiced or impaired by an act or failure to act on the part of the Guarantor or by any act or failure to act in good faith by any such holder, or by any noncompliance by the Guarantor with the terms and provisions of the Subordinated Indebtedness, regardless of any knowledge thereof which any such holder may have or be otherwise charged with. The holders of the Senior Indebtedness may, without in any way affecting the obligations of the holder of the Subordinated Indebtedness with respect thereto, at any time or from time to time and in their absolute discretion, change the manner, place or terms of payment of, change or extend the time of payment of, or renew or alter, any Senior Indebtedness, or amend, modify or supplement any agreement or instrument governing or evidencing such Senior Indebtedness or any other document referred to therein, or exercise or refrain from exercising any other of their rights under the Senior Indebtedness including, without limitation, the waiver of a default thereunder and the release of any collateral securing such Senior Indebtedness, all without notice to or consent from the holder of the Subordinated Indebtedness.

Section 1.08.    Senior Indebtedness.    (a) The term "Senior Indebtedness" shall mean all Obligations (as defined below) of the Guarantor under the Guarantee and Agreement (as defined below).

        (b)  As used in this Agreement, the terms set forth below shall have the respective meanings provided below:

        "Guarantee and Agreement" shall mean the Amended and Restated Guarantee and Agreement, dated as of March 15, 2002, by the Guarantor, in favor of Société Générale, as Administrative Agent (in such capacity, the "Administrative Agent") for the Secured Parties, as same may be amended, modified, extended, renewed, restated or supplemented from time to time, and including any agreement extending the maturity of, refinancing or restructuring all or any portion of, or increasing the Obligations under such agreement or of any successor agreements.

        "NEG Trigger Event" shall have the meaning assigned to such term in the Guarantee and Agreement.

        "Obligations" shall mean the Guaranteed Obligations (as defined in the Guarantee and Agreement) and all other payment obligations of the Guarantor under the Guarantee and Agreement.

SCHEDULE 1.01C

TERMS AND CONDITIONS OF SUBORDINATION
FOR INDEBTEDNESS OF GUARANTOR TO NON-AFFILIATES

        All Permitted Subordinated Indebtedness (as defined in the Guarantee and Agreement to which this Schedule 1.01C is attached) incurred by PG&E National Energy Group, Inc., a Delaware corporation (the "Guarantor"), owing to any person other than an Affiliate (as defined in the Guarantee and Agreement) of the Guarantor shall be evidenced by a promissory note and shall have the following subordination provisions attached as Annex A thereto or incorporated within the text thereof (mutatis mutandis), and shall include in the text of such promissory note the language: "THE INDEBTEDNESS EVIDENCED BY THIS NOTE IS SUBORDINATE AND JUNIOR IN RIGHT OF PAYMENT TO ALL SENIOR INDEBTEDNESS (AS DEFINED IN ANNEX A HERETO) TO THE EXTENT PROVIDED IN ANNEX A."

ANNEX A

Section 1.01.    Subordination of Liabilities.    The Guarantor for itself, its successors and assigns, covenants and agrees and each holder of the promissory note to which this Annex A is attached (the "Note") by its acceptance thereof likewise covenants and agrees that the payment of the principal of, and interest on, and all other amounts owing in respect of, the Note is hereby expressly subordinated, to the extent and in the manner hereinafter set forth, to the prior payment in full in cash or discharge in full of the Senior Indebtedness (as defined in Section 1.08) in cash. The provisions of this Annex A shall constitute a continuing offer to all persons who, in reliance upon such provisions, become holders of, or continue to hold, Senior Indebtedness, and such provisions are made for the benefit of the holders of Senior Indebtedness, and such holders are hereby made obligees hereunder to the same extent as if their names were written herein as such, and they and/or each of them may proceed to enforce such provisions.

Section 1.02.    Guarantor Not to Make Payments with Respect to Notes in Certain Circumstances.

        (a)  Upon the maturity of any Senior Indebtedness (including interest thereon or fees or any other amounts owing in respect thereof), whether at stated maturity, by acceleration or otherwise, all principal thereof and premium, if any, and interest thereon or fees or any other amounts owing in respect thereof, in each case to the extent due and owing at such time, shall first be paid in full in cash or discharged in full, or such payment duly provided for in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness, before any payment is made on account of the principal of (including installments thereof), or interest on, or any amount otherwise owing in respect of, the Note. Each holder of the Note hereby agrees that, so long as an Event of Default (as defined below), or event that with notice or lapse of time or both would constitute an Event of Default, in respect of any Senior Indebtedness exists, it will not ask, demand, sue for, or otherwise take, accept or receive, any amounts owing in respect of the Note. As used herein, the term "Event of Default" shall mean any NEG Trigger Event or any payment default with respect to any Senior Indebtedness.

        (b)  In the event that notwithstanding the provisions of the preceding subsection (a) of this Section 1.02, the Guarantor shall make any payment on account of the principal of, or interest on, or amounts otherwise owing in respect of, the Note at a time when payment is not permitted by said subsection (a), such payment shall be held by the holder of the Note, in trust for the benefit of, and shall be paid forthwith over and delivered to, the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, as their respective interests may appear, for application pro rata, to the payment of all Senior Indebtedness remaining unpaid to the extent necessary to pay all Senior Indebtedness in full in cash in accordance with the term of such Senior Indebtedness, after giving effect to any concurrent payment or distribution to or for the holders of Senior Indebtedness. Without in any way modifying the provisions of this Annex A or affecting the subordination

effected hereby, the Guarantor shall give the holder of the Note prompt written notice of any maturity of Senior Indebtedness after which such Senior Indebtedness remains unsatisfied.

Section 1.03.    Note Subordinated to Prior Payment of all Senior Indebtedness on Dissolution, Liquidation or Reorganization of Guarantor.    Upon any distribution of assets of the Guarantor upon any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise):

        (a)  the holders of all Senior Indebtedness shall first be entitled to receive payment in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness of the principal thereof, premium, if any, and interest (including, without limitation, all interest accruing after the commencement of any bankruptcy, insolvency, receivership or similar proceeding at the rate provided in the governing documentation whether or not such interest is an allowed claim in such proceeding) and all other amounts due thereon before the holder of the Note is entitled to receive any payment on account of the principal of or interest on or any other amount owing in respect of the Note;

        (b)  any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities to which the holder of the Note would be entitled except for the provisions of this Annex A shall be paid by the liquidating trustee or agent or other person making such payment or distribution, whether a trustee or agent; directly to the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, to the extent necessary to make payment in full of all Senior Indebtedness remaining unpaid, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness; and

        (c)  in the event that, notwithstanding the foregoing provisions of this Section 1.03, any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities, shall be received by the holder of the Note on account of principal of, or interest or other amounts due on, the Note before all Senior Indebtedness is paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, or effective provisions made for its payment, such payment or distribution shall be received and held in trust for and shall be paid over to the holders of the Senior Indebtedness remaining unpaid or unprovided for or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, for application to the payment of such Senior Indebtedness until all such Senior Indebtedness shall have been paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness.

        Without in any way modifying the provisions of this Annex A or affecting the subordination effected hereby, the Guarantor shall give prompt written notice to the holder of the Note of any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise).

Section 1.04.    In Furtherance of Subordination.    Each holder of the Note agrees as follows:

        (a)  If any proceeding referred to in Section 1.03 above is commenced by or against the Guarantor:

          (i)  the Administrative Agent (as defined in the Guarantee and Agreement referred to in Section 1.08 below), acting on behalf of each holder of the Senior Indebtedness, is hereby irrevocably authorized and empowered (in its own name or in the name of the holder of the Note or otherwise), but shall have no obligation, to demand, sue for, collect and receive every payment or distribution referred to in Section 1.03(b) and give acquittance therefor and to file claims and proofs of claim and take such other action (including, without limitation, voting the claims arising under the Note or enforcing any security interest or other lien securing payment of the Note) as it may deem necessary or advisable for the exercise or enforcement of or

causing the enforcement of any of the rights or interests of the holders of the Senior Indebtedness hereunder; and

        (ii)  The holders of the Senior Indebtedness are hereby authorized to demand specific performance of this Note, whether or not the Guarantor shall have complied with any of the provisions hereof applicable to it, at any time when the holder of the Note shall have failed to comply with any of the provisions of this Note applicable to it. The holder of the Note hereby irrevocably waives any defense based on the adequacy of a remedy at law that might be asserted as a bar to such remedy of specific performance.

Section 1.05.    Subrogation.    Subject to the prior payment in cash in full or discharge in full of all Senior Indebtedness in cash, the holder of the Note shall be subrogated to the rights of the holders of Senior Indebtedness to receive payments or distributions of assets of the Guarantor applicable to the Senior Indebtedness until all amounts owing on the Note shall be paid or discharged in full, and for the purpose of such subrogation no payments or distributions to the holders of the Senior Indebtedness by or on behalf of the Guarantor or by or on behalf of the holder of the Note by virtue of this Annex A which otherwise would have been made to the holder of the Note, shall be deemed to be payment by the Guarantor to or on account of the Senior Indebtedness, it being understood that the provisions of this Annex A are and are intended solely for the purpose of defining the relative rights of the holder of the Note, on the one hand, and the holders of the Senior Indebtedness, on the other hand.

Section 1.06.    Obligation of the Guarantor Unconditional.    Nothing contained in this Annex A or in the Note is intended to or shall impair, as between the Guarantor and the holder of the Note, the obligation of the Guarantor, which is absolute and unconditional, to pay to the holder of the Note the principal of and interest on the Note as and when the same shall become due and payable in accordance with its terms, or is intended to or shall affect the relative rights of the holder of the Note and creditors of the Guarantor other than the holders of the Senior Indebtedness, nor shall anything herein or therein prevent the holder of the Note from exercising all remedies otherwise permitted by applicable law, subject to the rights, if any, under this Annex A of the holders of Senior Indebtedness in respect of cash, property, or securities of the Guarantor received upon the exercise of any such remedy. Upon any distribution of assets of the Guarantor referred to in this Annex A, the holder of the Note shall be entitled to rely upon any order or decree made by any court of competent jurisdiction in which such dissolution, winding up, liquidation or reorganization proceedings are pending, or a certificate of the liquidating trustee or agent or other person making any distribution to the holder of the Note, for the purpose of ascertaining the persons entitled to participate in such distribution, the holders of the Senior Indebtedness and other indebtedness of the Guarantor, the amount thereof or payable thereon, the amount or amounts paid or distributed thereon and all other facts pertinent thereto or to this Annex A.

Section 1.07.    Subrogation Rights Not Impaired by Acts or Omissions of Guarantor or Holders of Senior Indebtedness.    No rights of any present or future holders of any Senior Indebtedness to enforce subordination as herein provided shall at any time in any way be prejudiced or impaired by an act or failure to act on the part of the Guarantor or by any act or failure to act in good faith by any such holder, or by any noncompliance by the Guarantor with the terms and provisions of the Note, regardless of any knowledge thereof which any such holder may have or be otherwise charged with. The holders of the Senior Indebtedness may, without in any way affecting the obligations of the holder of the Note with respect thereto, at any time or from time to time and in their absolute discretion, change the manner, place or terms of payment of, change or extend the time of payment of, or renew or alter, any Senior Indebtedness, or amend, modify or supplement any agreement or instrument governing or evidencing such Senior Indebtedness or any other document referred to therein, or exercise or refrain from exercising any other of their rights under the Senior Indebtedness including, without limitation, the waiver of a default thereunder and the release of any collateral securing such Senior Indebtedness, all without notice to or consent from the holder of the Note.

Section 1.08.    Senior Indebtedness.    (a) The term "Senior Indebtedness" shall mean all Obligations (as defined below) of the Guarantor under the Guarantee and Agreement (as defined below).

        (b)  As used in this Annex A, the terms set forth below shall have the respective meanings provided below:

        "Guarantee and Agreement" shall mean the Amended and Restated Guarantee and Agreement, dated as of March 15, 2002, by the Guarantor, in favor of Société Générale, as Administrative Agent (in such capacity, the "Administrative Agent") for the Secured Parties, as same may be amended, modified, extended, renewed, restated or supplemented from time to time, and including any agreement extending the maturity of, refinancing or restructuring all or any portion of, or increasing the Obligations under such agreement or of any successor agreements.

        "NEG Trigger Event" shall have the meaning assigned to such term in the Guarantee and Agreement.

        "Obligations" shall mean the Guaranteed Obligations (as defined in the Guarantee and Agreement) and all other payment obligations of the Guarantor under the Guarantee and Agreement.

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Exhibit 10.10

EX-10.11

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Exhibit 10.11

ACKNOWLEDGMENT AND AMENDMENT AGREEMENT
(Amendment No. 3)

        This ACKNOWLEDGMENT AND AMENDMENT AGREEMENT (this "Agreement") is dated as of April 5, 2002, is by and among PG&E NATIONAL ENERGY GROUP, INC. ("NEG"), GENHOLDINGS I, LLC ("Borrower"), SOCIETE GENERALE, as Administrative Agent, and THE BANKS AND LENDER GROUPS PARTY HERETO, and relates to (1) the Amended and Restated Credit Agreement, dated as of March 15, 2002 (the "Credit Agreement"), by and among Borrower, Société Générale, as Administrative Agent and a Lead Arranger, Citibank, N.A., as Syndication Agent and a Lead Arranger, the other agents and arrangers listed on the signature pages thereto, JPMorgan Chase Bank, as issuer of the Letters of Credit thereunder, the financial institutions party thereto from time to time as Banks, the persons party thereto from time to time as CP Conduits, the financial institutions party thereto from time to time as Related Banks and the persons party thereto from time to time as Lender Group Agents; and (2) the Amended and Restated Guarantee and Agreement (GenHoldings I, LLC), dated as of March 15, 2002 (the "NEG Equity Guaranty"), by NEG in favor of Société Générale, as Administrative Agent. Capitalized terms used but not defined in this Agreement shall have the meanings given to such terms in the Credit Agreement.

RECITALS

        WHEREAS, the parties hereto wish to acknowledge certain events that have occurred under, and make certain amendments to, the Credit Agreement and the NEG Equity Guaranty;

        NOW, THEREFORE, in consideration of the foregoing and for good and valuable consideration, the receipt and adequacy of which are hereby acknowledged, the parties hereto agree as follows:

AGREEMENT

        Section 1.    Acknowledgments.    The parties hereto acknowledge the following as of the date hereof and before giving effect to the amendments set forth in Section 2 hereof:

        1.1    The aggregate amount of Incremental Commitments is equal to $385,000,000 (the "Current Incremental Commitments").

        1.2    The Initial Committed Dollar Amounts are being increased by the Current Incremental Commitments as follows:

        (a)  The Initial Committed Construction Loan Dollar Amount is being increased to $1,290,232,558.13;

        (b)  The Initial Committed Working Capital/Project LC Loan Dollar Amount is being increased to $108,651,162.78; and

        (c)  The Initial Committed DSR LC Dollar Amount is being increased to $61,116,279.09.

        1.3    $117,142,376 of the Current Incremental Commitments is being used to decrease the Supplemental Equity Commitments as contemplated by Section 3.15.4(d) of the Credit Agreement and, after giving effect to such reduction, the amount of the Supplemental Equity Commitments is equal to zero.

        1.4    The Fourth Project Funding Equity Commitments contemplated by the amendments set forth in Section 2 hereof constitute Permitted Additional Equity as described in clause (a) of the definition thereof and, after giving effect to such Permitted Additional Equity and the Current Incremental Commitments, Borrower will have satisfied the condition precedent set forth in Section 3.2.11 of the Credit Agreement, notwithstanding that the total of such Permitted Additional Equity and the Current Incremental Commitments is $577,097,642 instead of $625,000,000.

        Section 2.    Amendments.

        2.1    Credit Agreement Amendments.    The parties hereto agree that the Credit Agreement is hereby amended as follows:

        (a)  Section 2.3.6(b)(iii) of the Credit Agreement is deleted in its entirety.

        (b)  The following Section 3.3.12 is added to the Credit Agreement after Section 3.3.11thereof:

        "3.3.12 Debt to Capitalization Ratio. After giving effect to such Credit Event and any Equity Contributions made on the Credit Event Date, the Debt to Capitalization Ratio shall not exceed (a) at any time prior to December 31, 2002, the Maximum Debt to Capitalization Ratio, and (b) at any time on or after December 31, 2002, (i) if no Pre-Last Completion Date Project Release has occurred, the Adjusted Maximum Debt to Capitalization Ratio, or (ii) if a Pre-Last Completion Date Project Release has occurred, the Maximum Debt to Capitalization Ratio."

        (c)  The phrase ", plus any Permitted Additional Equity that Borrower has elected in its sole discretion to provide pursuant to Section 3.2.11" is deleted from Sections 3.15.1(a) and 3.15.3(a) of the Credit Agreement.

        (d)  The following sentence is added to the end of Section 3.10.4 of the Credit Agreement:

"Any Equity Contribution True-Up Reimbursement made on the date of a Pre-Last Completion Date Project Release in respect of (x) Equity Contributions made or caused to be made by Borrower pursuant to the proviso contained in Section 3.15.1(a)(i) and/or (y) Equity Contributions made by NEG pursuant to Section 2.01(c) of the NEG Equity Guaranty shall not exceed (x) the aggregate of all Equity Contributions made on or prior to such date (less all In Kind Equity Payments) less (y) the Total Equity Commitment after giving effect to the reduction therein on such date pursuant to Section 3.15.3(c) ."

        (e)  Clause (i) of Section 3.15.3(a) of the Credit Agreement is replaced in its entirety with "(i) $1,000,000,000 plus the aggregate of the Fourth Project Funding Equity Commitments, as the Fourth Project Funding Equity Commitments may be reduced from time to time in accordance with Sections 3.15.4 and 9.17, and".

        (f)    Section 3.15.3(c) of the Credit Agreement is replaced in its entirety with the following:

        "(c) In connection with the transfer by Borrower of 100% of its direct and indirect interests in any Approved Project Company in accordance with Section 6.4, the Total Equity Commitment shall be reduced by the sum of (i) the unused Allocated Portion of the Total Equity Commitment for the Approved Project being transferred and (ii) an amount of the Fourth Project Funding Equity Commitments for the other Approved Projects such that, after giving effect to such reduction, the condition precedent set forth in Section 6.4(a)(iv) is satisfied."

        (g)  Section 3.15.4(d) of the Credit Agreement is replaced in its entirety with the following:

"(d) the portion of the New Incremental Commitments provided on or prior such date and allocated to the Total Construction Loan Commitment less the aggregate increase in the Project Costs for all Approved Projects resulting from the New Incremental Commitments provided on or prior to such date (up to a maximum of the aggregate of the original Fourth Project Funding Equity Commitments for all then Approved Projects), plus".

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        (h)  The last sentence of Section 9.17 of the Credit Agreement is replaced in its entirety by the following:

"The portion of any New Incremental Commitments provided pursuant to this Section 9.17 and allocated to the Total Construction Loan Commitment (less the aggregate increase in the Project Costs for all Approved Projects resulted from such New Incremental Commitments) shall first be used to reduce the Available Equity Commitment up to the aggregate of the original Fourth Project Funding Equity Commitments as contemplated by Section 3.15.4."

        (i)    The term "Supplemental Equity Commitments" in clause (d)(ii) of the definition of Allocated Portion in Exhibit A to the Credit Agreement is replaced by the term "Fourth Project Funding Equity Commitments".

        (j)    Clause (ii) of the proviso to Section 5.1.1(a) of the Credit Agreement is replaced in its entirety with the following:

"(ii) Borrower may use the proceeds of Construction Loans borrowed on the Last Completion Date or, in the case of the following clause (A), on the date on which any Pre-Last Completion Date Project Release occurs, (A) first, to make payments to NEG in respect of (x) Equity Contributions made or caused to be made by Borrower with respect to an Approved Project pursuant to Section 3.15.1(a)and/or (y) Equity Contributions made by NEG pursuant to Section 2.01(c) of the NEG Equity Guaranty, and (B) thereafter, to reimburse NEG for payments made under the NEG EPC Guaranties to pay Project Costs for Approved Projects, so long as, in each case, the conditions precedent set forth in Section 3.10 are satisfied as of the date on which such Construction Loans are made".

        (k)  The reference to "Section 3.15.2(b)" in Section 7.2.4 of the Credit Agreement is changed to "Section 3.15.1(b)".

        (l)    The date "April 30, 2002" in the third line of Section 9.17 of the Credit Agreement is changed to "December 31, 2002".

        (m)  The following sentence is added to the end of Section 9.17:

"Nothing in this Section 9.17 shall limit the ability of any Bank or Lender Group Member to transfer its Commitments and Loans in accordance with Section 9.14."

        (n)  The definition of Supplemental Equity Commitments is deleted in its entirety from Exhibit A to the Credit Agreement.

        (o)  The following definition of Adjusted Maximum Debt to Capitalization Ratio is added to Exhibit A to the Credit Agreement in the appropriate alphabetical order:

        "Adjusted Maximum Debt to Capitalization Ratio" means the lowest of (a) the Debt to Capitalization Ratio shown in the calculations most recently delivered pursuant to Section 3.1.12 or 3.2.20 of this Agreement, (b) 0.60 to 1.0 and (c) the quotient of (x) the Total Construction Loan Commitment divided by (y) the Total Construction Loan Commitment plus the Total Equity Commitment."

        (p)  The following definition of Fourth Project Funding Equity Commitment is added to Exhibit A to the Credit Agreement in the appropriate alphabetical order:

        "Fourth Project Funding Equity Commitment" means, (i) with respect to the Millennium Project, $19,209,764.20, (ii) with respect to the Athens Project, $55,708,316.18, (iii) with respect to the Covert Project, $57,629,292.60, (iv) with respect to the Harquahala Project, $59,550,269.02, and (v) with respect to any Substitute Project, the Fourth Project Funding Equity Commitment for the Initial Project replaced by such Substitute Project.

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        (q)  The following definition of New Incremental Commitments is added to Exhibit A to the Credit Agreement in the appropriate alphabetical order:

        "New Incremental Commitments" means all Incremental Commitments provided after April 5, 2002.

        (r)  The following definition of Pre-Last Completion Date Project Release is added to Exhibit A to the Credit Agreement in the appropriate alphabetical order:

        "Pre-Last Completion Date Project Release" means any transfer by Borrower of 100% of its direct and indirect interests in any Approved Project Company in accordance with Section 6.4 of this Agreement that occurs prior to the Last Completion Date.

        2.2    NEG Confirmation.    NEG hereby confirms that the Available Equity Commitment under the NEG Equity Guaranty includes the Fourth Project Funding Equity Commitments, as the Fourth Project Funding Equity Commitments may be reduced from time to time in accordance with Sections 3.15.4 and 9.17 of the Credit Agreement.

        Section 3.    Miscellaneous.

        3.1    Effectiveness.    This Agreement shall become effective when signed by NEG, Borrower and the Majority Banks.

        3.2    Amendments Limited Precisely as Written.    The amendments set forth herein are limited precisely as written and shall not be deemed to be amendments of, or consents or waivers to, any other term or condition in the Credit Agreement or any of the documents referred to herein or therein.

        3.3    Confirmation.    Except as expressly amended by this Agreement, all terms and conditions contained in the Credit Agreement are hereby ratified and shall be and remain in full force and effect. Reference to the Credit Agreement in any Credit Document, or in any certificate or other instrument delivered thereunder, shall mean the Credit Agreement as amended by this Agreement.

        3.4    Counterparts.    This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed and delivered shall be deemed an original, but all such counterparts together shall constitute but one and the same instrument.

        3.5    Governing Law.    This Agreement shall be governed by, and construed under, the laws of the State of New York, without reference to conflicts of laws (other than Section 5-1401 of the New York General Obligations Law).

SIGNATURE PAGES OMITTED

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Exhibit 10.12

WAIVER AND AMENDMENT AGREEMENT
(Amendment No. 5)

        This WAIVER AND AMENDMENT AGREEMENT, dated as of September 25, 2002 (this "Agreement"), is made and entered into by Société Générale, as Administrative Agent, Citibank N.A., as Depositary Agent, each of the undersigned Banks and Lender Group Agents (acting in its capacity as a Bank, Related Bank and Lender Group Agent), and GenHoldings I, LLC ("Borrower").

        Reference is made to the Amended and Restated Credit Agreement, dated as of March 15, 2002 (the "Credit Agreement"), among Borrower, Société Générale, as Administrative Agent and a Lead Arranger, Citibank, N.A., as Syndication Agent and a Lead Arranger, the other agents and arrangers listed on the signature pages thereto, JPMorgan Chase Bank, as issuer of the Letters of Credit, the financial institutions from time to time party thereto as lenders, and the other persons party thereto from time to time. Capitalized terms used but not defined herein shall have the meanings given to such terms in the Credit Agreement.

RECITALS

        WHEREAS, an Inchoate NEG Downgrade Event has occurred and is continuing and therefore, pursuant to the proviso to Section 3.15.1(a)(i) of the Credit Agreement, on any date on which Project Costs are due and payable, Borrower is required to make, or cause to be made, Cash Equity Contributions in an amount that, after giving effect to any Alternatively Sourced Equity Contributions then available to pay such Project Costs, is sufficient to pay such Project Costs in an aggregate amount up to the then current Available Equity Commitment; and

        WHEREAS, the parties hereto wish to clarify that Cash Equity Contributions made pursuant to the proviso to Section 3.15.1(a)(i) to the Credit Agreement are not intended to be treated as Alternatively Sourced Equity Contributions by amending the definition of Alternatively Sourced Equity Contributions; and

        WHEREAS, the parties hereto wish to clarify that Borrower will be responsible for the reasonable fees, expenses and disbursements of (a) Luskin, Stern & Eisler LLP which shall serve as special counsel to Administrative Agent and (b) a financial consultant to Administrative Agent, in each case in connection with certain ongoing issues related to the Credit Documents, by amending Section 11.4.1 of the Credit Agreement; and

        WHEREAS, the parties hereto wish to clarify the process pursuant to which disbursements are made from the Construction Account to pay Project Costs under circumstances in which no Borrowing is requested and therefore the parties would like to make clarifying changes to the form of Construction Requisition in order to address such circumstances (including circumstances in which Borrower is making Cash Equity Contributions pursuant to the proviso contained in Section 3.15.1(a)(i) of the Credit Agreement); and

        WHEREAS, to facilitate the making of Equity Contributions by Borrower (specifically Equity Contributions in the form of payments made directly by or on behalf of Borrower for the payment of Project Costs), the parties hereto wish to permit certain Alternatively Sourced Equity Contributions to be credited against the Total Equity Commitment whether or not such amounts have been disbursed from the Construction Account in accordance with Section 4.1.2 of the Depositary Agreement (as required by Section 3.7.5 of the Credit Agreement) so long as the other conditions in Section 3.7 of the Credit Agreement have been met and therefore the parties wish to amend the Credit Agreement to eliminate the requirement that all Alternatively Sourced Equity Contributions must be disbursed in accordance with Section 4.1.2 of the Depositary Agreement; and

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        WHEREAS, due to its failure to provide credit support as required under Section 3.4 of each of the PGET Purchase/Sale Agreements, PGET is in default under each of the PGET Purchase/Sale Agreements; and

        WHEREAS, because each PGET Purchase/Sale Agreement is a Major Project Document and because certain Banks believe (although Borrower does not acknowledge) that each default by PGET described above would reasonably be expected to have a Project Material Adverse Effect on the relevant Project, such Banks believe (although Borrower does not acknowledge) that a Project Inchoate Default under Section 6.1.7 of each Project Company Guaranty and a Project Fundamental Inchoate Default under Section 6.2.6 of each Project Company Guaranty has occurred and is continuing and that, if the default by PGET is not cured within the time specified therefore in each Project Company Guarantee, a Project Event of Default under Section 6.1.7 of each Project Company Guaranty and a Borrower Event of Default under Section 7.1.12 of the Credit Agreement will occur and be continuing (such Project Inchoate Defaults, Project Fundamental Inchoate Defaults, Project Events of Default, and Borrower Event of Default and any Borrower Inchoate Default resulting from the default by PGET described above, the "PGET Defaults"); and

        WHEREAS, Section 4.15.2 of the Millennium Project Company Guaranty requires that Completion of the Millennium Project be achieved on or before the EPC Date Certain which, for the Millennium Project, is August 20, 2002; and

        WHEREAS, because the Millennium Project has not achieved Completion on or before the EPC Date Certain, a Project Inchoate Default exists under Section 6.1.6(e) of the Millennium Project Company Guaranty (the "Millennium Completion Default"); and

        WHEREAS, the Construction Requisition required to be submitted by Borrower in order to request a disbursement of funds from the Construction Account requires Borrower to state, among other things, that no (a) Borrower Inchoate Default or Borrower Event of Default or (b) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project has occurred and is continuing; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET Defaults) that, in order to permit disbursements from the Construction Account, the Majority Banks waive the requirements contained in the Construction Requisition, that (a) each Subject Project is reasonably expected to achieve Completion on or before the EPC Date Certain and (b) no (i) Borrower Inchoate Default or Borrower Event of Default or (ii) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project has occurred and is continuing; and

        WHEREAS, pursuant to Section 4.1.2 of the Depositary Agreement, Administrative Agent shall instruct Depositary Agent to make the withdrawals and disbursements requested in a Construction Requisition only so long as no Borrower Event of Default or Disbursement Project Event of Default has occurred and is continuing; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET Defaults) that, to permit the making of withdrawals and disbursements requested in a Construction Requisition, the Majority Banks waive the requirement in Section 4.1.2 of the Depositary Agreement that no Borrower Event of Default or Disbursement Project Event of Default has occurred and is continuing; and

        WHEREAS, pursuant to Section 4.2.2 of the Depositary Agreement, Administrative Agent shall instruct Depositary Agent to make the disbursements from the Pre-Completion Revenue Account as specified in an applicable Disbursement Request only so long as (i) no Borrower Event of Default has

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occurred and is continuing at the time the disbursements are made and (ii) with respect to the disbursements described in clause First of such Section 4.2.2, no Disbursement Project Event of Default has occurred and is continuing; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET Defaults) that, to permit the making of disbursements from the Pre-Completion Revenue Account pursuant to clauses First, Second and Third of Section 4.2.2 of the Depositary Agreement, the Majority Banks waive the requirement that no (i) no Borrower Event of Default has occurred and is continuing at the time the disbursements are made and (ii) with respect to the disbursements described in clause First of such Section 4.2.2, no Disbursement Project Event of Default has occurred and is continuing; and

        WHEREAS, pursuant to Sections 3.7.1 and 3.7.6 of the Credit Agreement, Alternatively Sourced Equity Contributions are not credited against the Total Equity Commitment unless, among other things, (a) no (i) Borrower Inchoate Default or Borrower Event of Default or (ii) Project Event of Default or Project Inchoate Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing and (b) each Subject Project shall be reasonably expected to achieve Completion on or prior to the EPC Date Certain therefore; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET defaults) that, to permit the crediting of Alternatively Sourced Equity Contributions made by or on behalf of Borrower from August 22, 2002 through and including the date which is three Banking Days after the date on which this Agreement becomes effective, the Majority Banks waive the following conditions precedent to the crediting of Alternatively Sourced Equity Contributions: (a) the condition precedent, pursuant to Section 3.7.1 of the Credit Agreement, that no (i) Borrower Inchoate Default or Borrower Event of Default or (ii) Project Event of Default or Project Inchoate Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing and (b) the condition precedent, pursuant to Section 3.7.6 of the Credit Agreement, that each Subject Project shall be reasonably expected to achieve Completion on or prior to the EPC Date Certain therefore; and

        WHEREAS, the achievement of Completion by an Approved Project is a Credit Event and, pursuant to Section 3.12.2 of the Credit Agreement, it is a condition precedent to each Credit Event that no (a) Borrower Inchoate Default or Borrower Event of Default or (b) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, for the purpose of the achievement of Completion by the Millennium Project, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET Defaults) that the Majority Banks waive the requirement that no (a) Borrower Inchoate Default or Borrower Event of Default or (b) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing; and

        WHEREAS, pursuant to the second sentence of Section 5.15.1 of each Project Company Guaranty, each Project Company may enter into Permitted Change Orders (as defined in each applicable Project Company Guaranty) only so long as no Project Event of Default or Project Fundamental Inchoate Default has occurred and is continuing; and

        WHEREAS, with respect to the PGET Defaults and the Millennium Completion Default, Borrower has requested (notwithstanding the fact that Borrower does not acknowledge the PGET

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Defaults) that, to permit each Project Company to enter into Permitted Change Orders, the Majority Banks waive the requirement that each Project Company may enter into Permitted Change Orders only so long as no Project Event of Default or Project Fundamental Inchoate Default has occurred and is continuing; and

        WHEREAS, the parties hereto have agreed to make the amendments described below and the Majority Banks are willing to provide the waivers requested by Borrower in accordance with and subject to the terms and conditions hereof.

AGREEMENT

        NOW, THEREFORE, in consideration of the foregoing and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree, subject to the terms and provisions set forth herein, to the following:

Section 1.    Amendments to Depositary Agreement, Definitions, Form of Construction Requisition and Credit Agreement.

        (a)  Section 4.1.2 of the Depositary Agreement is hereby amended by (1) adding the following words to the end of the second sentence: "or, if such Construction Requisition is provided under circumstances where there is no Borrowing requested pursuant to Section 2.1.1(b) of the Credit Agreement and such Construction Requisition pertains solely to the proceeds of Equity Contributions on deposit in the Construction Account which have not been made in connection with a Borrowing, Borrower shall deliver such Construction Requisition to both Administrative Agent and Depositary Agent at least three Banking Days prior to the requested disbursement of such funds (or such shorter time period as Administrative Agent may agree)" and (2) adding the following sentence between the current second and third sentences of such section: "Borrower may submit (A) no more than three Construction Requisitions in the aggregate per month and (B) no more than two Construction Requisitions with respect to any Project per month, in each case regardless of whether or not such Construction Requisitions are submitted in connection with any Borrowing(s) provided, however, that Borrower may submit additional Construction Requisition(s) so long as Administrative Agent agrees to permit such additional Construction Requisition(s) and such additional Construction Requisition(s) are not submitted in connection with any Borrowing(s)."

        (b)  The definition of "Alternatively Sourced Equity Contributions" in Exhibit A to the Credit Agreement is hereby replaced by the following:

        "Alternatively Sourced Equity Contributions" means Cash Equity Contributions other than (a) Cash Equity Contributions made pursuant to the proviso to Section 3.15.1(a)(i) of the Credit Agreement and (b) Cash Equity Contributions made on a Credit Event Date in connection with a Borrowing of Construction Loans in order to satisfy the conditions precedent set forth in Section 3.12.9 of this Agreement, but including Excess Cash Flow Contributions and Other Proceeds Contributions."

        (c)  Exhibit C-1 to the Credit Agreement (the Form of Construction Requisition) is hereby replaced in its entirety with Exhibit C-1 attached hereto.

        (d)  Section 3.7.5 of the Credit Agreement is hereby replaced in its entirety with the following:

        "3.7.5 Permitted Application.

        (a)  If such Alternatively Sourced Equity Contributions consist of Excess Cash Flow Contributions and/or Other Proceeds Contributions, such Alternatively Sourced Equity Contributions shall be, or shall have been, disbursed in accordance with Section 4.1.2 of the

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Depositary Agreement and used to pay Project Costs in accordance with the Borrower Budget and/or the Project Budget for the Subject Project.

        (b)  If such Alternatively Sourced Equity Contributions consist of Equity Contributions other than Excess Cash Flow Contributions and/or Other Proceeds Contributions, such Alternatively Sourced Equity Contributions shall have been used to pay Project Costs in accordance with the Borrower Budget and/or the Project Budget for the Subject Project and Administrative Agent shall have received evidence reasonably satisfactory to it that such Alternative Sourced Equity Contributions have been applied in such manner."

        (e)  Section 11.4.1 of the Credit Agreement is hereby replaced in its entirety with the following:

        "11.4.1 Borrower will pay to each of Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger all of their reasonable costs and expenses in connection with the preparation, negotiation, closing and administering of this Agreement and the documents contemplated hereby and any participation or syndication of the Loans or this Agreement, including the reasonable fees, expenses and disbursements of Latham & Watkins, Chadbourne & Parke LLP, Luskin, Stern & Eisler LLP and other associated local attorneys retained by such Persons in connection with the preparation of such documents and any amendments hereof or thereof, or the preparation, negotiation, closing, administration, enforcement, participation or syndication of the Loans or this Agreement, the reasonable fees, expenses and disbursements of the Independent Consultants and any other engineering, financial, insurance and construction consultants to Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger and incurred in connection with this Agreement or the Loans subsequent to the Closing Date, and the travel and out-of-pocket costs incurred by such Persons following the Closing Date, and Borrower further agrees to pay Administrative Agent, the Lead Arrangers and the Alternative Funding Arranger the out-of-pocket costs and travel costs incurred by such Persons in connection with syndication of the Loans or this Agreement; provided, however, Borrower shall not be required to pay advertising costs of any of the Banks or the Lender Groups (or the members thereof) or the fees of the Banks' or Lender Groups' attorneys or Administrative Agent's attorneys, other than Latham & Watkins (or one replacement counsel therefor if Latham & Watkins is unable or unwilling to act as counsel for the Banks and Lender Groups), Chadbourne & Parke LLP (or one replacement counsel therefor if Chadbourne & Parke LLP is unable or unwilling to act as counsel for the Banks and Lender Groups), Luskin, Stern & Eisler LLP (or one replacement counsel therefor if Luskin, Stern & Eisler LLP is unable or unwilling to act as counsel for Administrative Agent) and associated local counsel, or the fees and costs of any engineers or consultants other than the Independent Engineer, the other Independent Consultants engaged by Administrative Agent and a financial consultant (or any replacement therefor) engaged by Administrative Agent. Without limiting the foregoing, Borrower will reimburse Administrative Agent, the Arrangers, each Bank, the LC Bank, each Lender Group Agent and each Lender Group Member for all costs and expenses, including reasonable attorneys' fees, expended or incurred by such Persons in enforcing this Agreement or the other Credit Documents in connection with a Borrower Event of Default or Borrower Inchoate Default, in actions for declaratory relief in any way related to this Agreement or in collecting any sum which becomes due such Persons on the Notes or under the Credit Documents."

Section 2.    Waiver of Certain Provisions in the Construction Requisition.

        (a)  Solely with respect to the PGET Defaults and the Millennium Completion Default and only for a Construction Requisition not made in connection with a Borrowing, the Majority Banks hereby waive the requirement that Borrower certify in each Construction Requisition that no

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(i) Borrower Inchoate Default or Borrower Event of Default or (ii) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project has occurred and is continuing. Such requirement is not waived with respect to any other Project Inchoate Default, Project Event of Default, Borrower Inchoate Default or Borrower Event of Default now or hereafter arising. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein.

        (b)  Solely with respect to the Millennium Completion Default and only for a Construction Requisition not made in connection with a Borrowing, the Majority Banks hereby waive the requirement that Borrower certify in each Construction Requisition that each Subject Project is reasonably expected to achieve Completion on or before the EPC Date Certain. Such requirement is not waived with respect to any other Project Inchoate Default, Project Event of Default, Borrower Inchoate Default or Borrower Event of Default. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein.

        (c)  The Majority Banks and Borrower hereby agree that so long as any PGET Default and/or the Millennium Completion Default continues, Borrower shall, if applicable, (i) add the following phrase to the end of the sentence constituting item 3(l) of any Construction Requisition submitted by Borrower: "except to the extent that a Project Inchoate Default, Project Event of Default, Borrower Inchoate Default and/or Borrower Event of Default exists and has been waived by the Majority Banks in accordance with the terms of the Credit Agreement" and (ii) add the following phrase to the end of the sentence constituting item 3(i) of any Construction Requisition submitted by Borrower: "except to the extent that the Majority Banks have waived such certification with respect to the Millennium Project".

Section 3.    Waivers and Agreement Related to Depositary Agreement.

        (a)  Solely with respect to the PGET Defaults and the Millennium Completion Default and only to permit the making of withdrawals and disbursements requested in a Construction Requisition not made in connection with a Borrowing, the Majority Banks waive the requirement in Section 4.1.2 of the Depositary Agreement that no Borrower Event of Default or Disbursement Project Event of Default has occurred and is continuing. Such requirement is not waived with respect to any other Borrower Event of Default or Disbursement Project Event of Default. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein.

        (b)  Solely with respect to the PGET Defaults and the Millennium Completion Default and only to permit the making of disbursements requested pursuant to a Disbursement Request not made in connection with a Borrowing and clauses First, Second and Third of Section 4.2.2 of the Depositary Agreement, the Majority Banks waive the requirement that (i) no Borrower Event of Default has occurred and is continuing at the time the disbursements are made and (ii) with respect to the disbursements described in clause First of such Section 4.2.2, no Disbursement Project Event of Default has occurred and is continuing at the time the disbursements are made. Such requirement is not waived with respect to any other Borrower Event of Default or Disbursement Project Event of Default. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein.

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        (c)  Borrower shall, if applicable, add the following phrase to the end of clause (a) of any certification made in a Disbursement Request submitted in connection with disbursements from the Pre-Completion Revenue Account: "except to the extent that a Borrower Event of Default or Disbursement Project Event of Default exists and has been waived by the Majority Banks in accordance with the terms of the Credit Documents".

Section 4.    Waiver to Allow Crediting of Certain Alternatively Sourced Equity Contributions.    Solely with respect to the PGET Defaults and the Millennium Completion Default and only with respect to the crediting of Alternatively Sourced Equity Contributions (other than Alternatively Sourced Equity Contributions which are Excess Cash Flow Contributions and/or Other Proceeds Contributions) made by or on behalf of Borrower from August 22, 2002 through and including the date which is three Banking Days after the date on which this Agreement becomes effective, the Majority Banks hereby waive the following conditions precedent to the crediting of Alternatively Sourced Equity Contributions against the Total Equity Commitment: (a) the condition precedent, pursuant to Section 3.7.1 of the Credit Agreement, that no (i) Borrower Inchoate Default or Borrower Event of Default or (ii) Project Event of Default or Project Inchoate Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing and (b) the condition precedent, pursuant to Section 3.7.6 of the Credit Agreement, that each Subject Project shall be reasonably expected to achieve Completion on or prior to the EPC Date Certain therefore. Such conditions precedent are not waived with respect to any other Project Inchoate Default, Project Event of Default, Borrower Inchoate Default or Borrower Event of Default now or hereafter arising. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein.

Section 5.    Waiver and Agreement Related to Millennium Completion.

        (a)  Solely with respect to the PGET Defaults and the Millennium Completion Default and solely for the purpose of the achievement of Completion by the Millennium Project as required by Section 4.15.2 of the Millennium Project Company Guaranty, the Majority Banks hereby waive the condition precedent to the achievement of Completion by an Approved Project set forth under Sections 3.8.1 and 3.12.2 that no (a) Borrower Inchoate Default or Borrower Event of Default or (b) Project Inchoate Default or Project Event of Default with respect to the Subject Intermediate Holding Companies, Subject Project Company or Subject Project shall have occurred and be continuing. Such condition precedent is not waived with respect to any other Project Inchoate Default, Project Event of Default, Borrower Inchoate Default or Borrower Event of Default now or hereafter arising. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose whatsoever (including, without limitation, Section 7.2 of the Credit Agreement or any other provision of Article 3 of the Credit Agreement), except as expressly provided herein.

        (b)  Upon the achievement of Completion by the Millennium Project in accordance with this Agreement (before the termination of this Agreement), such Completion shall be deemed to have occurred on the EPC Date Certain therefor.

Section 6.    Waiver to Allow Permitted Change Orders.    Solely with respect to the PGET Defaults and the Millennium Completion Default, the Majority Banks waive the requirement (pursuant to the second sentence of Section 5.15.1 of each Project Company Guaranty) that each Project Company may enter into Permitted Change Orders (as defined in each applicable Project Company Guaranty) only so long as no Project Event of Default or Project Fundamental Inchoate Default has occurred and is continuing. Such requirement is not waived with respect to any other Project Event of Default or Project Fundamental Inchoate Default now or hereafter arising. In addition, the PGET Defaults and the Millennium Completion Default are not waived under this Agreement for any other purpose

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whatsoever (including, without limitation, Section 7.2 of the Credit Agreement), except as expressly provided herein. This Section 6 shall apply retroactively to any Permitted Change Order(s) entered into between the first date on which any PGET Default existed and the date on which this Agreement becomes effective.

Section 7.    Representation of Borrower.    As of the date hereof, Borrower hereby represents that (a) no Project Inchoate Defaults, Project Events of Default, Borrower Inchoate Defaults or Borrower Events of Default other than the PGET Defaults and the Millennium Completion Default have occurred and are continuing and (b) Borrower has all requisite limited liability company power and authority to execute and deliver this Agreement and to perform its obligations hereunder.

Section 8.    Waivers Limited Precisely as Written.    The waivers and agreement set forth herein are limited precisely as written and shall not be deemed to be a consent or waiver to, or modification of, any other term or condition in the Credit Agreement, any other Credit Document or any of the documents referred to herein or therein. Subject to Section 10(c) below, upon the termination of any section of this Agreement, Administrative Agent and the Banks and Lender Group Agents shall have the same rights, powers and remedies with respect to the PGET Defaults and the Millennium Completion Default and otherwise all as if such section had not become effective.

Section 9.    Governing Law.    This Agreement shall be construed in accordance with and shall be governed by the laws of the State of New York (without giving effect to the principles thereof relating to conflicts of law except Section 5-1401 of the New York General Obligations Law).

Section 10.    Effectiveness.    This Agreement shall be effective upon notification to Borrower by Administrative Agent that Banks and Lender Group Agents representing the Majority Banks, Administrative Agent, Depositary Agent and Borrower (on behalf of itself and, with respect to amendments to the Depositary Agreement, as agent for each Approved Project Company and each Approved Intermediate Holding Company) have approved this Agreement and that each Approved Project Company and NEG have acknowledged this Agreement. Administrative Agent may, in its sole discretion, withhold such notification.

Section 11.    Termination.

        (a)  Sections 4, 5 and 6 of this Agreement shall terminate on October 21, 2002, unless terminated earlier in accordance with clause (b) of this Section 11.

        (b)  If any Project Event of Default, Borrower Inchoate Default (other than a Borrower Inchoate Default caused solely by a Project Inchoate Default) or Borrower Event of Default, in each case other than the PGET Defaults and the Millennium Completion Default, has occurred, Administrative Agent may terminate Sections 4, 5 and/or 6 of this Agreement (separately or jointly) by providing written notice of such termination to Borrower. Any such notice(s) may be provided by facsimile or email and shall be effective upon receipt by Borrower.

        (c)  The validity of any action taken under any section of this Agreement prior to the termination (if any) of such section shall not be affected by the termination of such section.

Section 12.    Acknowledgment of Debt.    As of the date hereof, (a) the aggregate outstanding principal amount of (i) Construction Loans is $1,024,552,000.07, (ii) Working Capital Loans is $0, (iii) Project LC Loans is $0 and (iv) DSR LC Loans is $0, and (b) the aggregate undrawn face amount of (i) Project Letters of Credit is $4,895,000.00 and (ii) DSR Letters of Credit is $0. Interest and fees have accrued thereon as provided in the Credit Agreement. As of and on the date hereof, the obligation of the Borrower and the other Credit Parties to repay the Loans and the other Obligations, together with all interest and fees accrued thereon, is absolute and unconditional, and there exists no right of set off or recoupment, counterclaim or defense of any nature whatsoever to payment of the Obligations.

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Section 13.    Entire Agreement.    This Agreement and any agreement, document or instrument attached hereto or referred to herein integrate all the terms and conditions mentioned herein or incidental hereto and supersede all oral negotiations and prior writings in respect to the subject matter hereof. This Agreement may only be amended or modified by an instrument in writing signed by Borrower, Administrative Agent, Depositary Agent and Banks and Lender Group Agents representing the Majority Banks or as otherwise set forth herein and as permitted by the Credit Documents.

Section 14.    Credit Document.    This Agreement constitutes a "Credit Document" as defined in the Credit Agreement.

Section 15.    Counterparts.    This Agreement may be executed in one or more counterparts which together shall constitute a single binding agreement. Signature pages to this Agreement may be provided by facsimile transmission.

SIGNATURE PAGES OMITTED

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EXECUTION COPY

THIRD WAIVER AND AMENDMENT

        THIS THIRD WAIVER AND AMENDMENT (this "Agreement") dated as of November 14, 2002 is entered into among GenHoldings I, LLC (the "Borrower"), each of the undersigned Banks and Lender Group Agents (collectively with each CP Conduit and Related Bank, the "GenHoldings Lenders"), Citibank, N.A. as Security Agent and Societe Generale, as Administrative Agent (the "Administrative Agent").

RECITALS

        WHEREAS, the Borrower, the GenHoldings Lenders and the Administrative Agent are parties to that certain Amended and Restated Credit Agreement, dated as of March 15, 2002 (as amended, supplemented or otherwise modified prior to the date hereof, the "Credit Agreement");

        WHEREAS, NEG executed that certain Amended and Restated Guarantee dated as of March 15, 2002;

        WHEREAS, in its Form 8-K Current Report dated October 10, 2002, NEG announced its intention not to make any further equity contributions to the Borrower or its Subsidiaries;

        WHEREAS, the Borrower has notified the Administrative Agent that the Existing Defaults (as defined below) have occurred and are continuing;

        WHEREAS, the Borrower, the GenHoldings Lenders and the Administrative Agent are parties to that certain Second Waiver and Forbearance Agreement dated as of October 21, 2002 (the "Second Waiver"), under which the GenHoldings Lenders agreed to a limited waiver and forbearance with respect to those Existing Defaults that were in existence at the time of the Second Waiver;

        WHEREAS, the Second Waiver has expired by its terms and the Borrower cannot currently satisfy the conditions precedent to a Credit Event, including the conditions precedent to (a) the Borrowing of Construction Loans set forth in Section 3.3 of the Credit Agreement, (b) the Borrowing of Working Capital Loans set forth in Section 3.4 of the Credit Agreement or (c) the issuance of Project Letters of Credit set forth in Section 3.5 of the Credit Agreement;

        WHEREAS, none of the GenHoldings Lenders is currently obligated to effect or permit a Credit Event;

        WHEREAS, the Borrower has requested that the GenHoldings Lenders waive until the Waiver Expiration Date (x) the Existing Defaults and (y) the conditions precedent applicable to the Borrowing of Construction Loans, the Borrowing of Working Capital Loans and the Issuance of Project Letters of Credit, and only the Tranche A Lenders are willing to make new extensions of credit on the terms and conditions set forth herein;

        WHEREAS, the GenHoldings Lenders that are not Tranche A Lenders are not willing to waive conditions precedent applicable to Borrowings and the issuance of Letters of Credit and are not willing to make additional credit extensions to the Borrower but are willing to consent to additional credit extensions by the Tranche A Lenders and to the issuance of additional Letters of Credit and are willing to consent to a subordination of all Tranche B Obligations to credit extensions by the Tranche A Lenders after the date hereof and to Reimbursement Obligations in respect of Primary Letters of Credit on the terms and conditions set forth in Section 11.20 of the Credit Agreement (as amended hereby);

        WHEREAS, after the effectiveness of this Agreement, the Tranche B Lenders that are not Tranche A Lenders shall have no obligation to make any loans or participate in any Letters of Credit,

other than their obligation to participate in Secondary Letters of Credit and Project LC Loans on account thereof and Tranche A Lenders shall have no obligation to make Loans or participate in any Letters of Credit other than Tranche A Construction Loans up to the Maximum Tranche A Construction Loan Amount and Primary Letters of Credit up to the Maximum Primary LC Amount on the terms and conditions set forth herein;

        WHEREAS, all of the GenHoldings Lenders are willing to amend the Credit Agreement, the Project Company Guarantees and the Depositary Agreement and waive until the Waiver Expiration Date (solely for the purposes set forth in Section 2 below) the Existing Defaults, on the terms and conditions expressly set forth in this Agreement.

        NOW THEREFORE, in consideration of the Recitals and of the mutual promises and covenants contained herein and for other good and valuable consideration the receipt and sufficiency of which is hereby acknowledged, the Borrower, the Administrative Agent and the GenHoldings Lenders hereby agree as follows:

        SECTION 1.    Definitions.    Capitalized terms used and not otherwise defined herein shall have the meanings given to them in the Credit Agreement (as amended hereby). As used in this Agreement, the following terms shall have the following meanings:

        "Existing Defaults" means (a) the Borrower Inchoate Default in connection with the failure of the Borrower to make or cause to be made Cash Equity Contributions for the months of October 2002 and November 2002 in accordance with Section 3.15.1(a) of the Credit Agreement before the Waiver Expiration Date, (b) the Borrower Inchoate Default in connection with the failure of the Borrower to comply with Section 3.12.9 of the Credit Agreement, (c) the Borrower Events of Default under Section 7.1.12(a) of the Credit Agreement in connection with the failure of PGET to provide credit support (within the applicable grace period set forth in Section 6.1.7 of each of the Project Company Guarantees) required under Section 3.4 of each of the PGET Purchase/Sale Agreements, (d) the Borrower Event of Default under Section 7.1.12(b) of the Credit Agreement in connection with the failure of the Millennium Project to achieve Completion on or before August 20, 2002, and (e) any Borrower Inchoate Default, Borrower Event of Default, Project Inchoate Default or Project Event of Default which arose (prior to the date hereof) in connection with any public announcement or SEC filings made by NEG (prior to the date hereof).

        "Maximum Tranche A Construction Loan Amount" is defined in Section 2 hereof.

        "Maximum Primary LC Amount" is defined in Section 2 hereof.

        "Waiver Default" means (a) the Borrower or any other Credit Party shall fail to satisfy or perform any of the covenants or agreements contained herein or (b) any representation or warranty of the Borrower or any other Credit Party herein shall be false, misleading or incorrect in any material respect. A Waiver Default shall not be a Borrower Inchoate Default or a Borrower Event of Default under the Credit Agreement unless and until the Administrative Agent (acting at direction of the Majority Banks) has given notice to the Borrower of the same.

        "Waiver Expiration Date" means the earliest to occur of (i) December 24, 2002, (ii) the date on which the Administrative Agent gives notice to the Borrower that a Waiver Default has occurred and (iii) the date on which the Administrative Agent gives notice to the Borrower of the occurrence and continuance of a Borrower Inchoate Default, a Borrower Event of Default, a Project Inchoate Default or a Project Event of Default (other than an Existing Default).

        SECTION 2.    Limited Waiver.    (a) Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof and subject to the other terms and conditions hereof, each of the GenHoldings Lenders hereby agrees to waive the Existing Defaults until the Waiver Expiration Date solely for the following purposes: (i) to allow the Borrower to borrow and the GenHoldings Lenders to advance

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Tranche A Construction Loans in accordance with the Borrower Budget and the Project Budgets for the purposes set forth on Annex I in an aggregate amount not to exceed (x) $75,000,000 (the "Maximum Tranche A Construction Loan Amount") less (y) the Available Funds (as defined below), (ii) to allow the Borrower to request the issuance of, and the LC Bank to issue, Primary Letters of Credit for the purposes and in the amounts set forth on Annex II in an aggregate face amount not to exceed $30,000,000 (the "Maximum Primary LC Amount"), (iii) to permit disbursements from the Accounts in accordance with the terms of the Depositary Agreement and (iv) to permit Change Orders submitted before the date hereof (otherwise in accordance with the terms of the Project Company Guarantees), provided, however, that prior to borrowing any Tranche A Construction Loans, the Borrower shall use in accordance with the Borrower Budget and the Project Budgets all available funds on deposit in the Pre-Completion Revenue Account (other than amounts used to fund the Millennium Project in accordance with its Annual Operating Budget) and any other bank accounts maintained by the Borrower or any of its Subsidiaries (other than the Accounts held in accordance with the Depositary Agreement) (the "Available Funds").

        (b)  The waiver set forth herein shall not be deemed (i) a waiver of any Borrower Inchoate Default, Borrower Event of Default, Project Inchoate Default or Project Event of Default which now exists or may hereafter arise (other than the Existing Defaults), (ii) a waiver with respect to any term, condition, or obligation of NEG, the Borrower or any other Credit Party in the Credit Agreement or in any other Credit Document, other than as expressly set forth herein, (iii) a waiver with respect to any event or condition (whether now existing or hereafter occurring), other than as expressly set forth herein, (iv) to prejudice any right or remedy which the Administrative Agent or any GenHoldings Lender may now or in the future have under or in connection with the Credit Agreement or any other Credit Document or (v) a waiver with respect to any Existing Default on and after the Waiver Expiration Date. The Borrower hereby acknowledges that on and after the Waiver Expiration Date, the GenHoldings Lenders will have no obligation to make Construction Loans and the LC Bank will have no obligation to issue Letters of Credit.

        SECTION 3.    Amendments to Credit Agreement.    Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof and subject to the other terms and conditions hereof, each of the GenHoldings Lenders hereby agrees to amend the Credit Agreement as follows:

        (a)  Section 2.1.1(a) is amended and restated in its entirety as follows:

        "(a)    Availability.    Subject to the terms and conditions set forth in this Agreement and in reliance upon the representations and warranties of Borrower herein set forth, (i) each Tranche A Bank severally agrees to advance to Borrower from time to time during the Construction Loan Availability Period such loans as Borrower may request pursuant to this Section 2.1.1 in an aggregate principal amount which does not exceed such Bank's Proportionate Share of the then current Available Construction Loan Commitment (individually, a "Bank Tranche A Construction Loan" and, collectively, the "Bank Tranche A Construction Loans") and (ii) each Tranche A Lender Group severally agrees, in accordance with the terms of this Agreement, to advance to Borrower from time to time during the Construction Loan Availability Period such loans as Borrower may request pursuant to this Section 2.1.1 in an aggregate principal amount which does not exceed such Lender Group's Proportionate Share of the then current Available Construction Loan Commitment (individually, a "Lender Group Tranche A Construction Loan" and, collectively, the "Lender Group Tranche A Construction Loans", and, together with Bank Tranche A Construction Loans and all Tranche B Construction Loans, collectively, "Construction Loans", and individually, a "Construction Loan"). A Lender Group Tranche A Construction Loan may consist of a CP Conduit Construction Loan (as defined below) or a Related Bank Construction Loan (as defined below) in accordance with the following two sentences. Each Lender Group Tranche A Construction Loan to be made by a Tranche A Lender Group shall first be offered to the applicable CP Conduit to fund (each such Lender Group Tranche A Construction Loan funded by

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the applicable CP Conduit, together with any Related Bank Construction Loan assigned by the applicable Related Bank to such CP Conduit pursuant to Section 9.14.2, being, individually, a "CP Conduit Construction Loan" and, collectively, such CP Conduit's "CP Conduit Construction Loans"), provided that no CP Conduit shall have any obligation whatsoever to make any loans under this Agreement. In the event such CP Conduit cannot or chooses not to fund such Lender Group Tranche A Construction Loan, the Related Bank that is a member of the applicable Tranche A Lender Group shall fund such Lender Group Tranche A Construction Loan under its Parallel Funding Commitment (each such Lender Group Tranche A Construction Loan funded by a Related Bank, together with any CP Conduit Construction Loan assigned by the applicable CP Conduit to such Related Bank pursuant to Section 9.14.2, being, individually, a "Related Bank Construction Loan" and, collectively, "Related Bank Construction Loans") provided that in no event shall the aggregate outstanding principal amount of Related Bank Construction Loans funded by a Related Bank under its Parallel Funding Commitment exceed the then current Available Parallel Funding Commitment of such Related Bank."

        (b)  Section 2.1.1(b) is amended by (x) inserting "and" at the end of clause (v), (y) replacing ";" at the end of clause (vi) with "." and (z) deleting clauses (vii) and (viii).

        (c)  Section 2.1.1(d) is amended and restated as follows:

        "(d) Construction Loan Principal Payments. Borrower shall repay to Administrative Agent, for the account of each Bank and each Lender Group, the aggregate unpaid principal amount of all Construction Loans made by each such Bank or each such Lender Group, as the case may be, on the Final Maturity Date. Once repaid, Construction Loans may not be reborrowed."

        (d)  Section 2.1.2(a) is amended by inserting "Tranche A" before the first reference to "Bank".

        (e)  Section 2.1.2(d) is amended by replacing "Quarterly Date" each time it appears with "Monthly Date".

        (f)    The heading of Section 2.1.3 is amended by deleting "and DSR LC Loans".

        (g)  Section 2.1.3(a) is amended and restated as follows:

        "(a) Interest Payment Dates. Borrower shall pay accrued interest on the unpaid principal amount of each Loan on each Monthly Date and upon prepayment (to the extent thereof and including all Optional Prepayments and Mandatory Prepayments), upon conversion from one Type of Loan to another Type, and at maturity, provided, that any interest owing by the Borrower to Tranche B Lenders on account of Tranche B Obligations shall not be paid to such Tranche B Lenders until all Tranche A Obligations are repaid in cash in full and shall instead (until such time as all Tranche A Obligations are repaid in full in cash) be accrued and then capitalized on each Monthly Date (provided that in December 2002, such capitalization shall occur on December 24, 2002)."

        (h)  Section 2.1.3(b) is amended by (i) deleting the first sentence in clause (i), (ii) replacing the text in each of (C), (H) and (I) of clause (i) with "intentionally omitted", (iii) replacing "ten" (in (F) of clause (i)) with "three" and (z) deleting clause (ii).

        (i)    Section 2.1.5 is amended by (x) replacing clause (a) with "(a) the obligation of Borrower to repay the Construction Loans made by such Bank or such Lender Group and to pay interest thereon at the rates provided herein shall be evidenced by a promissory note in the form of Exhibit B-1 hereto (a "Construction Loan Note") payable to the order of such requesting Bank or such requesting Lender Group Agent and in the principal amount of (i) such Bank's and/or such Lender Group's Tranche A Construction Loan Commitment or (ii) the Tranche B Construction Loans made by such Bank or Lender Group, as the case may be (provided that a Construction

4

Loan Note issued with respect to such Tranche B Loans shall include subordination terms consistent with Section 11.20) and" and (y) deleting clause (c).

        (j)    Section 2.1.6(d) is amended by replacing clauses (i) and (ii) with "deposit such Construction Loans into the Construction Account."

        (k)  Section 2.1.7(b) is amended and restated in its entirety as follows:

"(b) CP Conduit LIBOR Construction Loans. Subject to Section 2.7, each Construction Loan made by any Lender Group that is funded by the CP Conduit that is a member of such Lender Group as a CP Conduit Funded LIBOR Construction Loan shall automatically be continued as a CP Conduit Funded LIBOR Construction Loan at the end of each Interest Period for an additional Interest Period of one month; provided that each such Interest Period shall commence and end on the fifth Banking Day of the applicable calendar month and no such Interest Period shall extend beyond the Final Maturity Date."

        (l)    Section 2.1.8(a) is amended by (w) inserting ", subject to Section 11.20" at the end of the fifth sentence, (x) deleting the proviso in the sixth sentence, (y) replacing "Amortization Commencement Date" with "Final Maturity Date" (in the seventh sentence) and (z) deleting the last sentence.

        (m)  Section 2.1.8(c) is amended and restated as follows:

        "(c) Mandatory Prepayments. Subject to Section 11.20, Borrower shall prepay (or cause to be prepaid) Loans:

          (i)  in connection with a Change of Law to the extent required by Section 2.7.2;

        (ii)  in connection with the receipt of Loss Proceeds to the extent required by Section 4.8.2 of the Depositary Agreement;

        (iii)  to the extent that the sum of (x) the aggregate principal amount of Loans outstanding plus (y) the aggregate face amount of all Letters of Credit Outstanding, exceeds the amounts set forth in the Budgets; and

        (iv)  to the extent expressly required by any other provision of this Agreement or any other Credit Document."

        (n)  Section 2.1.8 is further amended by amending and restating the last paragraph as follows: "Except as otherwise expressly set forth herein, prepayments of less than all of the outstanding Loans made pursuant to clauses (ii) through (iv) above shall be applied (subject to Section 11.20) first, to the prepayment of outstanding Tranche A Construction Loans and Working Capital Loans, pro rata until all Tranche A Construction Loans and Working Capital Loans have been repaid in full; second, to the prepayment of Project LC Loans on account of Primary Letters of Credit until all such Project LC Loans have been repaid in full; third, to the cash collateralization of all Primary Letters of Credit outstanding in an amount up to 105% of the aggregate face amount thereof; fourth, to the prepayment of outstanding Tranche B Construction Loans, in accordance with the principal amounts of such Tranche B Construction Loans then outstanding, until all such Tranche B Construction Loans have been repaid in full; fifth, to the prepayment of Project LC Loans on account of Secondary Letters of Credit until all such Project LC Loans have been repaid in full; and sixth, to the cash collateralization of all Secondary Letters of Credit outstanding in an amount up to 105% of the aggregate face amount thereof."

        (o)  Section 2.2.2 is amended and restated in its entirety as follows:

"2.2.2 Availability. The LC Bank shall, subject to the terms and conditions of this Agreement, make Letter(s) of Credit available to Borrower and/or the Approved Project Companies, for

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the account of Borrower, solely to enable the Approved Project Companies to provide security for their obligations to the counterparties under the LC Eligible Project Documents in accordance with the terms of the LC Eligible Project Documents (each, a "Project Letter of Credit" or a "Letter of Credit" and, collectively, the "Project Letters of Credit" or the "Letters of Credit"). Project Letters of Credit shall be substantially in the form of Exhibit B-4 (or as otherwise mutually agreed by Administrative Agent, the LC Bank and Borrower). No Project Letter of Credit shall be issued, renewed, replaced or extended by the LC Bank until such time (or a reasonable period before such time) as required under the applicable LC Eligible Project Document pursuant to which such Letter of Credit is being issued, as certified to the LC Bank in a duly completed Notice of LC Activity. The Expiration Date of each Letter of Credit shall be on or prior to the last day of the Working Capital/LC Availability Period."

        (p)  Section 2.2.3(c) is amended and restated in its entirety as follows:

"(c) The Stated Amount (as increased, if applicable) of the Letter of Credit, provided that the Stated Amount of any requested Letter of Credit shall not exceed the then current Available Working Capital/Project LC Commitment."

        (q)  Section 2.2.4(a) is amended and restated in its entirety as follows:

"2.2.4 Letter of Credit Loans and Reimbursement Obligations. (a) Project LC Loans. To the extent provided in Section 2.2.8, each Bank severally agrees to advance to the LC Bank, for the account of Borrower, such Bank's Proportionate Share of the full amount of any Drawing Payment under any Secondary Letter of Credit and each Tranche A Bank severally agrees to advance to the LC Bank for the account of Borrower, such Tranche A Bank's Proportionate Share of the full amount of any Drawing Payment under any Primary Letter of Credit. Upon the making of any Drawing Payment, Borrower shall be obligated to reimburse the LC Bank for such Drawing Payment and, for convenience, such Reimbursement Obligation shall be deemed to constitute a Borrowing of Loans (each, a "Project LC Loan" and, collectively, the "Project LC Loans") in the amount of such Drawing Payment, consisting of a Project LC Loan made by each applicable Bank in the amount of such Bank's Proportionate Share of such Drawing Payment. Subject to Section 11.20, all Project LC Loans shall be repaid on each Monthly Date to the extent of Account Funds available for such purpose in the Debt Payment Account on such Monthly Date, after giving effect to transfers from the Applicable Revenue Account to the Debt Payment Account on such Monthly Date; provided, however, that each Project LC Loan shall be repaid in full on the Final Maturity Date. In the event that any Project LC Loan cannot for any reason be made on the date otherwise required above (including, without limitation, as a result of the commencement of a Bankruptcy Event with respect to Borrower), then each applicable Bank hereby agrees that it shall forthwith purchase from the LC Bank a participation interest in the unreimbursed Drawing Payment made by the LC Bank under the Project Letter of Credit, in an amount equal to such Bank's Proportionate Share of such reimbursed Drawing Payment, as provided in Section 2.2.8."

        (r)  Section 2.2.4(b) is amended by replacing the text with "Intentionally omitted."

        (s)  Section 2.2.4(c) is amended by deleting "and DSR LC Loan".

        (t)    Section 2.2.6 is amended by replacing the text with "Intentionally omitted."

        (u)  Section 2.2.7(a)(i) is amended by (x) replacing "Majority Banks" with "Majority LC Banks" and (y) replacing "the Banks" with "the applicable Banks".

        (v)  Section 2.2.8 is amended and restated in its entirety as follows:

"2.2.8 Bank Participation. Each Tranche A Bank severally agrees to participate with the LC Bank in the extension of credit arising from the issuance of the Primary Letters of Credit in

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an amount equal to such Bank's Proportionate Share of the Stated Amount of each Primary Letter of Credit, and the issuance of a Primary Letter of Credit shall be deemed a confirmation to the LC Bank of such participation in such amount. Each Tranche B Bank severally agrees to participate with the LC Bank in the extension of credit arising from the issuance of the Secondary Letters of Credit in an amount equal to such Bank's Proportionate Share of the Stated Amount of each Secondary Letter of Credit and the issuance of a Secondary Letter of Credit shall be deemed a confirmation to the LC Bank of such participation in such amount. The LC Bank may request the applicable Banks to pay to the LC Bank their respective Proportionate Shares of all or any portion of any Drawing Payment made or to be made by the LC Bank under any Letter of Credit by contacting each applicable Bank and Administrative Agent telephonically (promptly confirmed in writing) at any time after the LC Bank has received notice of or request for such Drawing Payment, and specifying the amount of such Drawing Payment, such Bank's Proportionate Share thereof, and the date on which such Drawing Payment is to be made or was made; provided, however, that the LC Bank shall not request the Banks to make any payment under this Section 2.2.8 in connection with any portion of a Drawing Payment for which the LC Bank has been reimbursed by Borrower (unless such reimbursement has been thereafter rescinded or recovered by Borrower). Upon receipt of any such request for payment from the LC Bank, each Bank shall pay to the LC Bank such Bank's Proportionate Share of the unreimbursed portion of such Drawing Payment, together with interest thereon at a per annum rate equal to the Federal Funds Rate, as in effect from time to time, from the date of such Drawing Payment to the date on which such Bank makes payment. Each Bank's obligation to make each such payment to the LC Bank shall be absolute, unconditional and irrevocable and shall not be affected by any circumstance whatsoever, including the occurrence or continuation of any Borrower Inchoate Default or Borrower Event of Default, or the failure of any other Bank to make any payment under this Section 2.2.8, and each Bank further agrees that each such payment shall be made without any offset, abatement withholding or reduction whatsoever."

        (w)  Section 2.2.7(b) is amended by replacing "Majority Banks" with "Majority Tranche A Banks".

        (x)  Section 2.2.12(a) is amended by replacing "the sum of its Working Capital/Project LC Commitment and its DSR LC Commitment" with "its Working Capital/Project LC Commitment".

        (y)  Section 2.2.14 is inserted as follows:

"2.2.14. Resignation by LC Bank. The LC Bank may resign from that capacity at any time by giving seven (7) Banking Days written notice to such effect to the Borrower and the Administrative Agent. Upon such resignation, the Administrative Agent (with the consent of the Borrower, not to be unreasonably withheld) shall appoint a successor LC Bank to issue subsequent Letters of Credit, provided, that if the Administrative Agent shall have made and continues to make reasonable efforts to replace such LC Bank, such LC Bank shall continue in such capacity until a suitable replacement agrees to become the LC Bank."

        (z)  The text in Section 2.3.1 is replaced with "Intentionally omitted."

        (aa) Section 2.3.2 is amended and restated in its entirety as follows:

"2.3.2 Total Construction Loan Commitment. Subject to Section 2.3.5(a), the aggregate principal amount of all Tranche A Construction Loans outstanding at any time shall not exceed the then current Committed Tranche A Construction Loan Dollar Amount or, if the then current Committed Tranche A Construction Loan Dollar amount is (1) reduced by Borrower pursuant to Section 2.3.6(a) or (2) automatically reduced pursuant to Section 2.3.6(b), such adjusted Committed Tranche A Construction Loan Dollar Amount (such then current Committed

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Tranche A Construction Loan Dollar Amount, as so adjusted from time to time, the "Total Construction Loan Commitment"). The amount of each Bank's and each Lender Group's Construction Loan Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Bank's and each Lender Group's Construction Loan Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Tranche A Bank or Tranche A Lender Group hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the Total Construction Loan Commitment in accordance with this Section 2.3.2 to give effect to any such adjustment). The amount of each Related Bank's Parallel Funding Commitment is set forth in Exhibit I hereto (which Exhibit shall be automatically amended without further action (x) upon the assignment of any Related Bank's Parallel Funding Commitment in accordance with the terms hereof to give effect to any such assignment, (y) upon the addition of a Related Bank hereunder pursuant to a Joinder Agreement entered into in accordance with Section 9.17 or (z) upon any adjustment of the Construction Loan Commitment of such Related Bank's Tranche A Lender Group in accordance with this Section 2.3.2 to give effect to any such adjustment).

        (bb) Section 2.3.3 is amended by (x) inserting "(other than the Stated Amount of all Secondary Letters of Credit, and related Project LC Loans and Reimbursement Obligations, all on account of Tranche B Banks that are not Tranche A Banks)" after "Total Working Capital/Project LC Outstandings", (y) replacing "," at the end of clause (1) with "or" and (z) deleting "or (3) automatically increased pursuant to the proviso to Section 2.3.6(b)(ii)".

        (cc) Section 2.3.4 is amended by replacing the text with "Intentionally omitted."

        (dd) Section 2.3.5(c) is amended by replacing the text with "Intentionally omitted."

        (ee) Section 2.3.6(a) is amended by (x) deleting "or the Total DSR LC Commitment", (y) replacing "Construction Loans" in clause (i) with "Tranche A Construction Loans" and (z) replacing the text in clause (iii) with "Intentionally omitted."

        (ff)  Section 2.3.6(b)(ii) is amended by replacing the text with "Intentionally omitted."

        (gg) Section 2.4.3(a) is amended by (x) replacing "Quarterly Date" with "Monthly Date" each time it appears and (y) replacing "quarter" with "month" each time it appears.

        (hh) Section 2.4.3(b) is amended by (x) replacing "Quarterly Date" with "Monthly Date" each time it appears, (y) replacing "quarter" with "month" each time it appears and (z) replacing "Banks" with "Tranche A Banks".

        (ii)  Section 2.4.3(c) is amended by replacing the text with "Intentionally omitted."

        (jj)  Section 2.4.4 is amended by (x) replacing "Quarterly Date" with "Monthly Date" each time it appears and (y) replacing "quarter" with "month" each time it appears.

        (kk) Section 2.4.5 is amended by (x) replacing "Quarterly Date" with "Monthly Date" each time it appears, (y) replacing "quarter" with "month" each time it appears and (z) inserting "Notwithstanding the terms of the LC Fee Letter, such fronting fees shall be increased to .25%." after the first sentence.

        (ll)  Section 2.5.5 is amended by (x) inserting "(subject to Section 11.20)" after "shall be applied" and (y) replacing clauses (a), (b) and (c) with the following:

        "(a) first, to any fees, costs, charges or expenses payable to Administrative Agent, the LC Bank, the Banks and the Lenders Groups hereunder or under the other Credit Documents (other than in connection with the Tranche B Obligations or the Interest Rate Agreements),

8

        (b) second, to any accrued but unpaid interest then due and owing in respect of the Obligations (other than Tranche B Construction Loans and Interest Rate Agreements),

        (c) third, to outstanding principal then due and owing or otherwise to be prepaid in respect of Tranche A Construction Loans and Working Capital Loans, pro rata,

        (d) fourth, to outstanding principal then due and owing or otherwise to be prepaid in respect of Project LC Loans on account of Primary Letters of Credit,

        (e) fifth, to cash collateralize Primary Letters of Credit outstanding in an amount up to 105% of the face amount thereof,

        (f) sixth, to any accrued but unpaid interest and fees, costs, charges and expenses then due and owing in respect of the Tranche B Construction Loans and interest due and owing in respect of Interest Rate Agreements, pro rata,

        (g) seventh, to outstanding principal then due and owing or otherwise to be prepaid in respect of Tranche B Construction Loans and Interest Rate Agreements, pro rata

        (h) eighth, to outstanding principal then due and owing or otherwise to be prepaid in respect of Project LC Loans on account of Secondary Letters of Credit,

        (i) ninth, to cash collateralize Secondary Letters of Credit outstanding in an amount up to 105% of the face amount thereof, and

        (j) tenth, to outstanding principal then due and owing or otherwise to be prepaid in respect of the other Obligations."

        (mm)  Section 2.6.1 is amended by replacing "Except" with "Subject to Section 11.20, except".

        (nn) Section 2.6.2 is amended by (x) replacing "If" with "Subject to Section 11.20, if" and (y) inserting "(other than with respect to the capitalizing of interest pursuant to Section 2.1.3(a))" after "Lender Groups entitled to such payments".

        (oo) Section 2.9.2 is amended by deleting "and the DSR LC Commitment".

        (pp) Section 3.2 is amended by replacing the text with "Intentionally omitted."

        (qq) Sections 3.3 and 3.3.1 through 3.3.12 are amended by (x) replacing "Banks", "Lender Groups" and "Majority Banks" each time they appear with "Tranche A Banks", "Tranche A Lender Groups" and "Majority Tranche A Banks", respectively and (y) inserting the following subsection 3.3.13:

"3.3.13 Other Conditions to Each Advance. Other than with respect to extensions of credit authorized under the Third Waiver and Amendment dated as of November 14, 2002, each of the GenHoldings Lenders shall have been satisfied (in its sole discretion), (i) with the results of its due diligence with respect to the assets and liabilities of the Borrower and each of its Subsidiaries, (ii) with the estimated costs of completion for each Project, (iii) with the status of title to each of the Projects and ownership of the Project Companies, the Intermediate Holding Companies and the Borrower, (iv) with the valuation of each Project Company's assets, and (v) that there has been no Borrower Material Adverse Effect or Project Material Adverse Effect."

        (rr)  Section 3.3.9 is amended by deleting "and each of the conditions set forth in Section 4.8.2(a) of the Depositary Agreement shall have been satisfied." and replacing it with "in accordance with the terms of Section 4.8.2 of the Depositary Agreement."

        (ss)  Section 3.4 is amended by replacing "Banks" and "Majority Banks" with "Tranche A Banks" and "Majority Tranche A Banks" respectively.

9

        (tt)  Section 3.5 is amended by replacing "Majority Banks" with "Majority LC Banks".

        (uu) Sections 3.6, 3.7, 3.9, 3.10 and 3.11 are each amended by replacing the text with "Intentionally omitted."

        (vv)   Sections 3.12 and 3.12.1 through 3.12.9 are amended by replacing "Banks" and "Majority Banks" each time they appear with "Tranche A Banks" and "Majority Tranche A Banks".

        (ww)  Section 3.15.2 is replaced with "Intentionally omitted."

        (xx) Section 3.15.3(b) is amended by deleting "(including a Substitute Project that replaces an Approved Project)".

        (yy) Section 5.1.1(a) is amended by deleting the second proviso therein.

        (zz) Section 5.1.1(d) is amended by replacing the text with "Intentionally omitted."

        (aaa)  New Sections 5.15 through 5.18 are inserted as follows:

"5.15 Other Reporting Requirements. Borrower shall and shall cause its Subsidiaries to, deliver (or cause to be delivered) to the Administrative Agent:

        (a)  on or before the fifteenth Banking Day of each calendar month (i) consolidating balance sheets for the Borrower and its Subsidiaries, (ii) a report of balances owed by each of the Project Companies and Intermediate Holding Companies to the Borrower as at the end of the immediately preceding calendar month, (iii) an operating report (in form and substance reasonably satisfactory to the Administrative Agent and the Independent Engineer) for the immediately preceding month for the Millennium Project and any other Project that has achieved Completion and (iv) an updated Borrower Budget, an updated Project Budget (for each Project Company) and an updated Annual Operating Budget (for each Project Company), all in form and substance acceptable to the Administrative Agent in its sole discretion;

        (b)  contemporaneously with the delivery thereof, copies of all reports, financial information, statements and other documents delivered to NEG's revolving credit lenders;

        (c)  periodic reports on the status of NEG's global reorganization efforts (including the status of discussions with NEG's other creditors);

        (d)  timely notice of the commencement of any material litigation or other proceeding against NEG or any of its Subsidiaries;

        (e)  on or prior to the second Banking Day of each week, a written report of current Change Orders; and

        (f)  any other reports reasonably requested by the Administrative Agent or FTI Consulting.

5.16    Management of Projects.    Until requested otherwise by the Administrative Agent, the Borrower shall, and shall cause its Subsidiaries to, continue to manage in accordance with prudent utility practices, the construction of the Projects (in cooperation with NEG) and to operate the Millennium Project and any other Project after its completion (on mutually agreeable terms and conditions).

5.17    Consultants.    The Borrower shall, and shall cause its Subsidiaries to, cooperate in all respects with the consultants and advisors engaged by the Administrative Agent (including, without limitation, FTI Consulting, The Blackstone Group L.P., PA Consulting Group, Pace Energy Consulting Group LLC and R.W. Beck).

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5.18    Bankruptcy.    In the event of a filing of a petition for bankruptcy by or against the Borrower or any of its Subsidiaries, the Borrower shall, and shall cause its Subsidiaries to, take all necessary action to ensure that all Tranche A Construction Loans, all Working Capital Loans, all Project LC Loans and all Primary Letters of Credit shall be (x) repaid (or cash collateralized) with the proceeds of a debtor-in-possession financing (a "DIP Facility") or (y) "rolled up" into the DIP facility and given the same priority and collateral as the DIP Facility."

        (bbb)  Section 6.4 is amended and restated in its entirety as follows:

"6.4 Sale of Assets. Notwithstanding the terms of Section 5.4 of each of the Project Company Guarantees, Borrower shall not (and shall not permit its Subsidiaries to) sell, lease, assign, transfer or otherwise dispose of any of its properties or assets, whether now owned or hereafter acquired, without the consent of the Majority Banks, provided, however that neither the Borrower nor any of its Subsidiaries shall dispose of any Project or any interest therein without the prior written consent of each of the GenHoldings Lenders, and the Project Companies may sell assets in the ordinary course of business."

        (ccc)  Section 6.6 is amended and restated in its entirety as follows:

"6.6 Distributions. Borrower shall not (and shall not permit its Subsidiaries (notwithstanding the terms of Section 5.7 of each of the Project Company Guarantees) to) directly or indirectly make or declare any distribution (in cash, property or obligation) on, or make any other payment on account of, any interest in Borrower or any other Credit Party (including transfers of any tax benefits), or make any payment on account of subordinated obligations (including, without limitation, Subordinated Affiliate Fees, other than any fees payable under service contracts or other management agreements on terms and conditions acceptable to the Administrative Agent in its sole discretion) (each a "Restricted Payment").

        (ddd)  Section 6.8 is amended and restated as follows:

"6.8 Transactions with Affiliates. Borrower shall not (and shall not permit its Subsidiaries (notwithstanding the terms of Section 5.8 of each of the Project Company Guarantees) to) enter into any transaction or agreement (or any transaction under or pursuant to any transaction or agreement) with any of its Affiliates, other than a transaction that is (i) at arm's length, (ii) fully documented, (iii) for fair consideration and (iv) in accordance with the provisions of the Credit Documents, provided, however, the Borrower may enter into transactions in furtherance of NEG's restructuring plan that the Administrative Agent and each of the GenHoldings Lenders (in their sole discretion) determine would not have an adverse effect on the GenHoldings Lenders."

        (eee)  New Section 7.1.15 is inserted as follows:

"7.1.15 Project Disposition. The Projects shall not have been transferred at the direction of the GenHoldings Lenders (on terms and conditions satisfactory to the Administrative Agent and each of the GenHoldings Lenders in their sole discretion) on or prior to (x) December 31, 2002 or (y) so long as such transfers are proceeding in a manner satisfactory to the Administrative Agent, March 31, 2003 with the prior written consent of the Administrative Agent."

        (fff) Section 9.5 is amended by (x) inserting "and" after "Total Construction Loan Commitment," and (y) deleting "and Total DSR LC Commitment".

        (ggg)  Section 9.9(a) is amended by (x) replacing "Section 7.1.10(a) (Loss of Control of Borrower) without the prior written consent of the Supermajority Banks" in the first proviso with "(i) Section 7.1.10(a), without the prior written consent of the Supermajority Banks, (ii) Section 3.3

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without the prior written consent of each of the Tranche A Banks, (iii) the right of any Equity Party or Credit Party to assign, transfer or otherwise dispose of any of its rights or obligations under, or permit the termination or release of, any of the Credit Documents, except as expressly permitted by the terms of this Agreement and the other Credit Documents without the prior written consent of each of the GenHoldings Lenders and (iv) the right to transfer any equity or voting interest in any Credit Party, except as expressly permitted by the terms of this Agreement and the other Credit Documents without the prior written consent of each of the GenHoldings Lenders", (y) replacing the text in clauses (vi) and (vii) with "Intentionally omitted" and (z) inserting at the end of clause (ix), ", except with respect to dispositions of assets permitted under Section 6.4."

        (hhh)  Section 9.11 is amended by inserting "Section 11.20 and" before "any Assignment Agreement."

        (iii)  Section 9.12(b) is amended by deleting each reference to "and DSR LC Commitment".

        (jjj)  Section 9.14.1 is amended by (x) replacing the text in clause (a) with "Intentionally omitted." and (y) inserting "subject to Section 11.20" after "Proportionate Share" in the last sentence.

        (kkk)  Section 9.17 is amended by (x) inserting "and" at the end of clause (b) and (y) deleting clause (d).

        (lll)  Section 11.15 is amended by deleting "Substitute Project,".

        (mmm)  Section 11.20 is inserted as follows:

"11.20 Subordination. (a) Each of the Tranche B Lenders agrees, for itself and each future holder of the Tranche B Obligations, that unless and until the Tranche A Obligations have been paid in full, the Tranche A Construction Loan Commitment has been terminated and all Primary Letters of Credit issued have been terminated or cash collateralized (in an amount up to 105% of the aggregate Stated Amounts thereof), without the express prior written consent of the Administrative Agent and each of the Tranche A Lenders, no Tranche B Lender will take, demand or receive from the Borrower, and the Borrower will not make, give or permit, directly or indirectly, by set-off, redemption, purchase or in any other manner, any payment of or security for the whole or any part of the Tranche B Obligations, including, without limitation, any letter of credit or similar credit support facility to support payment of the Tranche B Obligations. The provisions of this Section 11.20 shall constitute a continuing offer to all persons who, in reliance upon such provisions, become holders of, or continue to hold, Tranche A Obligations, and such provisions are made for the benefit of the holders of Tranche A Obligations, and such holders are hereby made obligees hereunder the same as if their names were written herein as such, and they and/or each of them may proceed to enforce such provisions.

(b) The expressions "prior payment in full," "payment in full," "paid in full" and any other similar terms or phrases when used in this Section 11.20 or with respect to the Tranche A Obligations shall mean the payment in full, in immediately available funds, of all of the Tranche A Obligations, the termination of all Commitments and the termination, or cash collateralization of any Primary Letters of Credit outstanding (in an amount up to 105% of the aggregate Stated Amounts thereof).

(c) The Tranche B Lenders and the Borrower agree that if the Borrower or any of its Subsidiaries becomes subject to a Bankruptcy Event:

          (i)  unless each of the Tranche A Lenders agrees in writing otherwise, all Tranche A Obligations shall be paid in full before any direct or indirect payment or distribution from any

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assets of the Borrower, its Subsidiaries or NEG is made with respect to the Tranche B Obligations;

        (ii)  any direct or indirect payment or distribution of assets of the Borrower whether in cash, property or securities, to which any Tranche B Lender would be entitled with respect to Tranche B Obligations except for the provisions hereof, shall be paid or delivered by the Borrower, or any receiver, trustee in bankruptcy, liquidating trustee, disbursing agent or other Person making such payment or distribution, directly to the Administrative Agent, for the account of the Tranche A Lenders, to the extent necessary to pay in full all Tranche A Obligations, before any payment or distribution shall be made to any Tranche B Lender; and

        (iii)  the Tranche A Lenders may file claims with respect to the Tranche B Obligations in any insolvency proceeding of the Borrower, any of its Subsidiaries or NEG if the Tranche B Lenders fail to file such claims fourteen days prior to the last date set for the filing of such claims.

(d) If any direct or indirect payment or distribution (including, without limitation, a payment or distribution by or from NEG on account of the NEG Equity Guaranty or otherwise), whether consisting of money, property or securities, shall be collected or received by any Tranche B Lender in respect of the Tranche B Obligations, such Tranche B Lender forthwith shall deliver the same to the Administrative Agent for the account of the Tranche A Lenders, in the form received, duly indorsed to the Administrative Agent, if required, to be applied to the payment or prepayment of the Tranche A Obligations until the Tranche A Obligations are paid in full. Until so delivered, such payment or distribution shall be held in trust by such Tranche B Lender as the property of the Tranche A Lenders, segregated from other funds and property held by such Tranche B Lender.

(e) Notwithstanding anything to the contrary contained in this Agreement or any other Credit Document and irrespective of (i) anything contained in any filing or agreement to which the Administrative Agent, any Tranche A Lender or any Tranche B Lender now or hereafter may be a party and (ii) the rules for determining priority under the Uniform Commercial Code or any other law governing the relative priorities of secured creditors, the subordination provisions under this Section 11.20 apply notwithstanding the fact that the security interests and Liens in the Collateral in favor of the Administrative Agent run to each of the GenHoldings Lenders.

(f) Subject to the payment in full of the Tranche A Obligations, the Tranche B Lenders shall be subrogated to the extent of the payments made to the Tranche A Lenders pursuant to the provisions of this Section 11.20 to the rights of the Tranche A Lenders to receive payments or distributions of assets of the Borrower or NEG in respect of the Tranche A Obligations until the Tranche B Obligations shall be paid in full. For the purposes of such subrogation, payments or distributions to the Administrative Agent, for the account of the Tranche A Lenders, of any money, property or securities to which any Tranche B Lender would be entitled with respect to Tranche B Obligations except for the provisions of this Section 11.20 shall be deemed, as among the Borrower, NEG and their respective creditors other than the Tranche A Lenders and such Tranche B Lenders, to be a payment by the Borrower or NEG to or on account of Tranche B Obligations, it being understood that the provisions of this Section 11.20 are, and are intended solely, for the purpose of defining the relative rights of the Tranche B Lenders, on the one hand, and the Tranche A Lenders, on the other hand.

(g) Notwithstanding anything to the contrary in this Section 11.20, the subordination provisions contained in this Section 11.20 are not applicable to any extensions of credit other than (x) the extensions of credit scheduled on Annex I and II to the Third Waiver and Amendment dated

13

as of November 14, 2002 and (y) other extensions of credit, consented to by each of the Tranche B Lenders.

(h) This Section 11.20 shall not be amended, supplemented, waived or otherwise modified without the consent of each of the GenHoldings Lenders.

(i) Nothing contained in this Section 11.20 or elsewhere in this Agreement is intended to or shall impair, as between the Borrower and the Tranche B Lenders, the obligation of the Borrower, which is absolute and unconditional, to pay to the Tranche B Lenders the principal of and any interest on the Tranche B Obligations as and when the same shall become due and payable in accordance with its terms, or is intended to or shall affect the relative rights of the Tranche B Lenders and creditors of the Borrower other than the Tranche A Lenders, nor shall anything herein or therein prevent the Tranche B Lenders from exercising all remedies otherwise permitted by applicable law upon the occurrence of a Borrower Inchoate Default or Borrower Event of Default, subject to the rights, if any, under this Section 11.20 of the Tranche A Lenders in respect of cash, property or securities of the Borrower received upon the exercise of any such remedy."

        (nnn)  Exhibit A to the Credit Agreement is amended as follows:

          (i)  The definition of "Account Funds" is amended by deleting the proviso therein.

        (ii)  The definition of "Allocated Portion" is amended by replacing the text in clause (c) with "intentionally omitted."

        (iii)  The definition of "Available Construction Loan Commitment" is amended by replacing "Construction Loans" with "Tranche A Construction Loans".

        (iv)  The definition of "Available Working Capital/Project LC Commitment" is amended by inserting "(other than the Stated Amount of all Secondary Letters of Credit and related Project LC Loans and Reimbursement Obligations in all cases applicable to Tranche B Banks that are not Tranche A Banks)" after "Total Working Capital/Project LC Outstandings".

        (v)  The definition of "Bank Construction Loans" is amended and restated as follows:

        "Bank Construction Loans" means Bank Tranche A Construction Loans and Bank Tranche B Construction Loans."

        (vi)  The definition of "Base Rate Loans" is amended and restated as follows:

        "'Base Rate Loans' means, collectively, the Base Rate Construction Loans, the Base Rate Working Capital Loans and the Base Rate Project LC Loans."

      (vii)  The definition of "Borrower Permitted Liens" is amended by inserting at the end thereof (before the ".") ", which do not secure, in the aggregate, obligations that exceed $1,000,000".

      (viii)  The definition of "Borrower Permitted Debt" is amended by replacing the text in each of clauses (b) and (c) with "intentionally omitted".

        (ix)  The definition of "Commitment Fee" is amended and restated as follows:

        "'Commitment Fee' means the Construction Loan Commitment Fee or the Working Capital/Project LC Commitment, as applicable."

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        (x)  The definition of "Commitments" is amended and restated as follows:

        "Commitments" means (a) with respect to each Lender Group, such Lender Group's Construction Loan Commitment, (b) with respect to each Bank, such Bank's Construction Loan Commitment and Working Capital/Project LC Commitment, (c) with respect to all Banks and all Lender Groups, the Total Construction Loan Commitment, and (d) with respect to all Banks, the Total Working Capital/Project LC Commitment.

        (xi)  The definition of "Committed Construction Loan Dollar Amount" is replaced with:

        "'Committed Tranche A Construction Loan Dollar Amount' means $75,000,000 plus any applicable Incremental Commitments."

        The definition of "Committed Working Capital/Project LC Dollar Amount" is amended and restated as follows:

        "'Committed Working Capital/Project LC Dollar Amount' means $33,591,900 plus any applicable Incremental Commitments."

      (xii)  The definition of "Construction Loan Availability Period" is amended and restated as follows:

        "'Construction Loan Availability Period' means the period commencing on November 15, 2002 and ending on the earlier of (i) the Last Completion Date and (ii) the Final Maturity Date."

      (xiii)  The definition of "Credit Agreement' is amended by inserting "(as amended, supplemented or otherwise modified from time to time)" after "March 15, 2002".

      (xiv)  The definition of Credit Documents is amended by inserting "(as each may be amended, supplemented or otherwise modified from time to time)" at the end thereof.

      (xv)  The definition of "Credit Event" is amended by replacing the text in clause (e) with "intentionally omitted."

      (xvi)  The definition of "DSR Required Balance" is amended by replacing "following the Amortization Commencement Date, calculated as of the Amortization Commencement Date;" with ", calculated as of the first date of such period;".

    (xvii)  The definition of "Final Maturity Date" is amended by replacing clause (b) with "(b) December 5, 2003."

    (xviii)  The definition of "Interest Period" is amended and restated as follows:

        "'Interest Period' means, with respect to any LIBOR Loan, one month which commences on the first day of such Loan or the effective date of any conversion, as the case may be, and ends on the last Banking Day of such month, provided that no single day shall be deemed to be a part of two consecutive Interest Periods."

      (xix)  The definition of "Intermediate Holding Company Permitted Liens" is amended by inserting at the end thereof (before the ".") ", which do not secure, in the aggregate, obligations that exceed $1,000,000".

      (xx)  The definition of "Letter of Credit" is amended and restated as follows:

        "'Letter of Credit' means any Project Letter of Credit."

      (xxi)  The definition of "Letter of Credit Loan" is amended and restated as follows:

        "'Letter of Credit Loan' means a Project LC Loan."

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    (xxii)  The definition of "LIBOR Loans" is amended and restated as follows:

        "'LIBOR Loans' means, collectively, the LIBOR Construction Loans and the LIBOR Working Capital Loans."

    (xxiii)  The definition of "Loans" is amended and restated as follows:

        "'Loans' means, collectively, the Construction Loans, the Working Capital Loans and the Project LC Loans."

    (xxiv)  The definition of Notes" is amended and restated as follows:

        "'Notes' means, collectively, the Construction Loan Notes and the Working Capital/Project LC Notes."

    (xxv)  The definition of "Project Company Permitted Debt" is amended by replacing the text in clause (v) with "intentionally omitted".

    (xxvi)  The definition of "Project Company Permitted Liens" is amended by inserting at the end thereof (before the ".") ", which do not secure, in the aggregate, obligations that exceed $1,000,000".

  (xxvii)  The definition of "Proportionate Share" is amended and restated as follows:

        "'Proportionate Share' means (a) with respect to each Bank and each Lender Group (other than Hedge Banks), the percentage participation of such Bank or such Lender Group, as the case may be, in the Total Construction Loan Commitment, the aggregate principal amount of Tranche B Construction Loans outstanding or the Total Working Capital/Project LC Commitment (provided that with respect to Secondary Letters of Credit and Reimbursement Obligations and Project LC Loans related thereto, the Proportionate Shares shall be calculated based upon the Working Capital/Project LC Loan Commitments set forth for Tranche B Lenders in Exhibit I to this Agreement), as applicable, as set forth in Exhibit I to this Agreement (as amended or supplemented in accordance with the terms hereof), and (b) with respect to each Hedge Bank, the Proportionate Share that such Hedge Bank is deemed to have pursuant to Section 5.13.3 of this Agreement."

  (xxviii)  The definition of "Requisite Spark Spread" is amended by replacing "Amortization Commencement Date" with "Last Completion Date".

    (xxix)  The definition of "Total Commitment" is amended and restated as follows:

        "'Total Commitment' means the Total Construction Loan Commitment and the Total Working Capital/Project LC Commitment, as applicable."

      (xxx)  The following definitions are inserted in their proper alphabetical place:

        "'Bank Tranche A Construction Loan' is defined in Section 2.1.1(a)."

        "'Bank Tranche B Construction Loans' means Construction Loans made by Banks prior to November 14, 2002."

        "'Budgets' means the Borrower Budget, the Project Budgets and the Annual Operating Budget, all as revised from time to time in accordance with this Agreement."

        "'GenHoldings Lenders' means, collectively, all of the financial institutions party hereto including, without limitation, the Banks and the Lender Groups."

        "'Lender Group Construction Loans' means Lender Group Tranche A Construction Loans and Lender Group Tranche B Construction Loans."

        "'Lender Group Tranche A Construction Loan' is defined in Section 2.1.1(a)."

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        "'Lender Group Tranche B Construction Loans' means Tranche B Construction Loans made by Tranche B Lender Groups prior to November 14, 2002."

        "'Majority LC Banks' means, on any date of determination, Banks having Proportionate Shares in the Project Letter of Credit at issue which in the aggregate exceed 50% on such date."

        "'Majority Tranche A Lenders' means Tranche A Banks and Tranche A Lender Groups holding greater than 50% of the Tranche A Obligations."

        "'Majority Tranche B Lenders' means Tranche B Banks and Tranche B Lender Groups holding greater than 50% of the Tranche B Obligations."

        "'Primary Letters of Credit' means Letters of Credit that are issued after November 14, 2002."

        "'Secondary Letters of Credit' means Letters of Credit that were issued on or before November 14, 2002."

        "'Tranche A Bank' means each Bank with a Tranche A Construction Loan Commitment."

        "'Tranche A Construction Loan Commitment' means, at any time with respect to (i) each Tranche A Bank, such Bank's Proportionate Share of the Total Construction Loan Commitment at such time, and (ii) each Tranche A Lender Group, such Lender Group's Proportionate Share of the Total Construction Loan Commitment at such time."

        "'Tranche A Construction Loans' means Bank Tranche A Construction Loans and Lender Group Tranche A Construction Loans."

        "'Tranche A Lender Group' means each Lender Group with a Tranche A Construction Loan Commitment."

        "'Tranche A Lenders' means the holders from time to time of the Tranche A Obligations."

        "'Tranche A Loans' means Tranche A Construction Loans, Working Capital Loans and Project LC Loans (and Reimbursement Obligations) on account of Primary Letters of Credit."

        "'Tranche A Obligations' means the collective reference to the unpaid principal of and interest on the Tranche A Loans and all other obligations and liabilities of the Borrower to the Administrative Agent, the LC Bank and the Tranche A Lenders in respect of the Tranche A Loans (including, without limitation, interest accruing at the then applicable rate provided in this Agreement after the maturity of the Tranche A Loans and interest accruing at the then applicable rate provided in this Agreement after the filing of any petition in bankruptcy, or the commencement of any insolvency, reorganization or like proceeding, relating to the Borrower, whether or not a claim for post-filing or post-petition interest is allowed in such proceeding), whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred, which may arise under, out of, or in connection with, this Agreement, or any other Credit Document and any renewal, extension, restatement, refinancing or refunding thereof, in each case whether on account of principal, interest, reimbursement obligations, fees, indemnities, costs, expenses or otherwise (including, without limitation, all fees and disbursements of counsel to the Administrative Agent or to the Tranche A Lenders in respect of the Tranche A Loans that are required to be paid by the Borrower pursuant to the terms of this Agreement)."

        "'Tranche B Bank' means a Bank that has made a Bank Tranche B Construction Loan."

        "'Tranche B Construction Loans' means Lender Group Tranche B Construction Loans and Bank Tranche B Construction Loans in an aggregate principal amount equal to

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$1,067,612,000.07, that were advanced by the Tranche B Lender Groups and Tranche B Banks prior to November 14, 2002, and remain outstanding."

        "'Tranche B Lender Groups' means each Lender Group that has made Lender Group Tranche B Construction Loans."

        "'Tranche B Lenders' means the holders from time to time of the Tranche B Obligations."

        "Tranche B Obligations' means the collective reference to the unpaid principal of and interest on the Tranche B Construction Loans and all other obligations and liabilities of the Borrower to the Tranche B Lenders, whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred, which may arise under, out of, or in connection with this Agreement, in each case whether on account of principal, interest, reimbursement obligations, fees, indemnities, costs, expenses or otherwise (including, without limitation, all fees and disbursements of counsel) to the Tranche B Lenders that are required to be paid by the Borrower pursuant to the terms of this Agreement or any other Credit Document."

    (xxxi)  The definitions of Amortization Commencement Date, Available DSR LC Commitment, Base Rate DSR LC Loan, Bank Group Construction Loan, Committed DSR LC Dollar Amount, Divestiture Proceeds, Divestiture Profits, DSR Letter of Credit, DSR LC Loan, DSR LC Loan Note, DSR LC Commitment, DSR Commitment Fee, Initial Committed Construction Loan Dollar Amount, Initial Committed Dollar Amounts, Initial Committed DSR LC Dollar Amount, Initial Committed Working Capital/Project LC Dollar Amount, Lender Group Construction Loan, LIBOR DSR LC Loan, Net Divestiture Proceeds, Replacement DSR Letter of Credit, Substitute Project, Total DSR LC Commitment and Total DSR LC Outstandings are deleted.

        (ooo)  Exhibit H to the Credit Agreement is hereby deleted.

        (ppp)  Exhibit I to the Credit Agreement is amended and restated in its entirety as set forth in Annex III hereto.

        (qqq)  Exhibit S to the Credit Agreement is amended and restated in its entirety as set forth on Annex IV hereto.

        SECTION 4.    Amendments to Depositary Agreement.    Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof and subject to the other terms and conditions hereof, the GenHoldings Lenders hereby agree to amend the Depositary Agreement as follows:

        (a)  Section 2.7 is amended by (x) deleting "and DSR Letter of Credit" from the heading and the first sentence and (y) replacing the text in clause (c) with "intentionally omitted."

        (b)  Section 4.1.2 is amended by (x) replacing "or Disbursement Project Event of Default" with ", Borrower Inchoate Default, Project Inchoate Default or Project Event of Default" in the fourth sentence and (y) inserting ", Borrower Inchoate Default, Project Inchoate Default or Project Event of Default" after "Borrower Event of Default" in the fifth sentence.

        (c)  Section 4.2.2 is amended by inserting ", Borrower Inchoate Default, Project Event of Default, or Project Inchoate Default" after "Borrower Event of Default" each time it appears.

        (d)  Section 4.3.2 is amended by (w) replacing the text of clause Fifth with "Intentionally omitted;", (x) inserting "and" at the end of clause Sixth, (y) replacing clauses Seventh and Eighth with the following clause Seventh:

"Seventh, transfer to the Debt Service Reserve Account an amount of Account Funds sufficient to cause the amount of Account Funds in the Debt Service Reserve Account to equal to the then current DSR Required Balance" and

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(z)    by inserting ", Borrower Inchoate Default, Project Event of Default or Project Inchoate Default" after "Borrower Event of Default" each time it appears.

        (e)  Section 4.4.2 is amended by inserting ", Borrower Inchoate Default, Project Event of Default, Project Inchoate Default" after "Borrower Event of Default".

        (f)    Section 4.6.1 is amended by replacing clauses (a) and (c) as follows:

"(a) On or prior to the DSR Start Date, the Borrower shall deliver, or cause to be delivered, to the Depositary Agent for credit to the Debt Service Reserve Account, immediately available funds in Dollars (other than funds that already constitute Collateral) in an amount not less than the DSR Required Balance as of the DSR Start Date."

"(c) Intentionally omitted."

        (g)  Section 4.6.2 is amended and restated in its entirety as follows:

"4.6.2 Disbursements from the Debt Service Reserve Account. Account Funds in the Debt Service Reserve Account shall be used only to pay Scheduled Debt Service (other than amounts described in clause (e) of the definition of Scheduled Debt Service). If on any Scheduled Payment Date there are not sufficient Account Funds in the Debt Payment Account to pay the Scheduled Debt Service (other than amounts described in clause (e) of the definition of Scheduled Debt Service) due and payable on such Scheduled Payment Date (after giving effect to transfers from the Post-Completion Revenue Account to the Debt Payment Account on such Scheduled Payment Date), the Administrative Agent shall direct the Depositary Agent to transfer Account Funds from the Debt Service Reserve Account to the Debt Payment Account in an amount sufficient to make up the deficiency in the Debt Payment Account. If at any time the amount of Account Funds in the Debt Service Reserve Account exceeds the then current DSR Required Balance, the Administrative Agent shall direct the Depositary Agent to transfer an amount of Account Funds equal to such excess from the Debt Service Reserve Account to the Post-Completion Revenue Account. Account Funds in the Debt Service Reserve Account that are not disbursed in accordance with this Section 4.6.2 shall remain in the Debt Service Reserve Account."

        (h)  Section 4.6.3 is amended by replacing the text with "Intentionally omitted."

        (i)    Section 4.7 is amended by replacing the text with "Intentionally omitted."

        (j)    Section 4.8.1(a) is amended by (x) inserting "and" at the end of clause (iv), (y) replacing "; and" at the end of clause (v) with "." and (z) deleting clause (vi).

        (k)  Section 4.8.2 is amended by

        (x)  replacing the text in clauses (a), (b) and (d) as follows:

"(a) Casualty Insurance Proceeds. The Borrower shall be required to use all Casualty Insurance Proceeds to prepay Loans and, promptly upon the deposit of any Casualty Insurance Proceeds into the Loss Proceeds Account, the Administrative Agent shall direct the Depositary Agent to (i) transfer such Casualty Insurance Proceeds to the Administrative Agent for application to the prepayment of Loans in accordance with Section 2.1.8 of the Credit Agreement, or (ii) if requested by the Borrower pursuant to the second sentence of Section 2.1.8 of the Credit Agreement, transfer such Casualty Insurance Proceeds to the Prepayment Account."

"(b) Condemnation Proceeds. The Borrower shall be required to use all Condemnation Proceeds to prepay Loans and, promptly upon the deposit of any Condemnation Proceeds into the Loss Proceeds Account, the Administrative Agent shall direct the Depositary Agent to (i) transfer such Condemnation Proceeds to the Administrative Agent for application to the prepayment of Loans in accordance with Section 2.1.8 of the Credit Agreement, or (ii) if

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requested by the Borrower pursuant to the second sentence of Section 2.1.8 of the Credit Agreement, transfer such Condemnation Proceeds to the Prepayment Account."

"(d) Other Proceeds. The Borrower shall be required to use all Other Proceeds to prepay Loans and, promptly upon the deposit of any Other Proceeds into the Loss Proceeds Account, the Administrative Agent shall direct the Depositary Agent to (i) transfer such Other Proceeds to the Administrative Agent for application to the prepayment of Loans in accordance with Section 2.1.8 of the Credit Agreement, or (ii) if requested by the Borrower pursuant to the second sentence of Section 2.1.8 of the Credit Agreement, transfer such Other Proceeds to the Prepayment Account." and

        (y)  deleting clause (f).

        (l)    Section 6.4 is amended by (x) deleting ", draws on the DSR Letter of Credit", (y) inserting "or" after "other application of cash," and (z) deleting "or the proceeds of draws of the DSR Letter of Credit".

        SECTION 5.    Amendment to Project Company Guarantees; Amendment to Bechtel Escrow Agreement.

        (a)  Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof and subject to the other terms and conditions hereof, the GenHoldings Lenders hereby agree to amend Section 5.15.1 of each of the Project Company Guarantees by adding the following sentence at the end thereof: "Notwithstanding anything in this Section 5.15.1 of this Guaranty to the contrary, Guarantor may enter into a Change Order at any time with the prior consent of the Administrative Agent, so long as such Change Order does not exceed $100,000 and all such Change Orders permitted under this sentence do not exceed $1,000,000 in the aggregate."

        (b)  Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof, the GenHoldings Lenders hereby agree to amend the definition of "Permitted Change Order" in each of the Project Company Guarantees by replacing clause (4) with "(4) after giving effect to such Change Order, Project Costs for the Project are within the Budgeted construction costs (including Contingency) contained in the current Project Budget for the Project."

        (c)  Subject to the satisfaction of the conditions precedent set forth in Section 6 hereof, the GenHoldings Lenders hereby agree to an amendment to the escrow agreement established pursuant to the Athens Project EPC Contract, to increase the required escrow balance in a manner consistent with approved Change Orders.

        SECTION 6.    Conditions Precedent to Effectiveness of Agreement.    (a) This Agreement shall not be effective unless and until the date when each of the following conditions shall have been satisfied or waived in the sole discretion of the Administrative Agent:

          (i)  the Administrative Agent shall have received and delivered to the Borrower counterparts of this Agreement duly executed by the Borrower, NEG and each of the GenHoldings Lenders;

        (ii)  the Administrative Agent shall have received (x) the Project Company Acknowledgment set forth at the end hereof executed by each Project Company and (y) the Intermediate Holding Company Acknowledgement set forth at the end hereof executed by each Intermediate Holding Company;

        (iii)  to the extent requested by the Administrative Agent, the Borrower shall have (x) terminated, or shall have caused the termination of, outstanding agreements between the Project Companies and PGET, on mutually agreeable terms and conditions and (y) agreed to cooperate in a transition to a third-party power purchaser;

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        (iv)  the Administrative Agent shall have received in cash, all accrued fees of the Administrative Agent's legal counsel, advisors and professionals (limited to Luskin, Stern & Eisler LLP, Latham & Watkins, Sullivan & Cromwell, one local real estate counsel in each of Arizona, Michigan and Massachusetts, FTI Consulting, PA Consulting Group, R.W. Beck, Pace Energy Consulting Group LLC, and The Blackstone Group L.P. (other than any success fee));

        (v)  the Administrative Agent shall have received in cash, (x) for the account of the Tranche A Lenders, interest (as otherwise required under the Credit Agreement) for the period from the date hereof through December 24, 2002 on the Maximum Tranche A Construction Loan Amount and (y) for the account of the Tranche A Banks, Letter of Credit Fees (as calculated under Section 2.4.4 of the Credit Agreement) in advance on the Maximum Primary LC Amount (provided that such Letter of Credit Fees shall be deposited with the Security Agent in accordance with Section 11(b) hereof);

        (vi)  the Administrative Agent shall have received in cash for its own account, the fee set forth in the Fee Letter dated the date hereof, between the Borrower and the Administrative Agent;

      (vii)  the Administrative Agent shall have received a revised Borrower Budget, revised Project Budgets (for each Project Company) and revised Annual Operating Budgets (for each Project Company) all in form and substance acceptable to the Administrative Agent and the GenHoldings Lenders (in their sole discretion);

      (viii)  the Administrative Agent shall have received in cash, for the account of the Tranche A Banks, in their Proportionate Shares, an upfront fee in the amount of 3% of the sum of (x) the Maximum Tranche A Loan Amount plus (y) the Maximum Primary LC Amount;

        (ix)  the Borrower shall have delivered to the Administrative Agent such other documents as the Administrative Agent shall have reasonably requested;

        (x)  there shall be no pending or, to the knowledge of the Borrower after due inquiry, threatened litigation, proceeding, inquiry or other action (i) seeking an injunction or other restraining order, damages or other relief with respect to the transactions contemplated by this Agreement and the other documents and agreements executed or delivered in connection herewith or (ii) which affects or could reasonably be expected to affect the business, prospects, operations, assets, liabilities or condition (financial or otherwise) of any Credit Party, except, in the case of clause (ii), where such litigation, proceeding, inquiry or other action either (x) was disclosed in writing to the GenHoldings Lenders prior to the effectiveness of the Credit Agreement (or any amendment thereto) or (y) could not reasonably be expected to cause a material adverse effect on the Borrower's business; and

        (xi)  after the effectiveness hereof, no Borrower Inchoate Default, Borrower Event of Default, Project Inchoate Default, Project Event of Default or Waiver Default, shall have occurred and be continuing on the date hereof (other than the Existing Defaults).

        (b)  The payments required to be made pursuant to clause (iv) of Section 6(a) hereof shall be made by a Person other than the Borrower or any of its Subsidiaries.

        SECTION 7.    Representations and Warranties.    The Borrower hereby represents and warrants to the Administrative Agent and to the Lenders as follows:

        (a)  The Recitals in this Agreement are true and correct in all respects.

        (b)  All representations and warranties of the Borrower in the Credit Agreement and of each of the Borrower and the other Credit Parties in the other Credit Documents to which it is a party are incorporated herein in full by this reference and are true and correct in all material respects as of the date hereof other than (x) such representations and warranties that expressly relate solely to an earlier date, in which case, they are true and correct as of such earlier date and (y) the

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representation and warranty contained in Section 4.6 of the Credit Agreement, to the extent of the Existing Defaults.

        (c)  After the effectiveness hereof, no Borrower Inchoate Default, Borrower Event of Default, Project Inchoate Default or Project Event of Default, shall have occurred and be continuing.

        (d)  Each of the Borrower and the other Credit Parties has the power and has been duly authorized by all requisite action, to execute and deliver this Agreement and the other documents and agreements executed and delivered in connection herewith to which it is a party. This Agreement has been duly executed by the Borrower and the other documents and agreements executed and delivered in connection herewith to which the Borrower or any Credit Party is a party have been duly executed and delivered by each of the Borrower and the other Credit Parties.

        (e)  This Agreement is the legal, valid and binding obligation of the Borrower and the other documents and agreements executed or delivered in connection herewith to which the Borrower or any of the other Credit Parties is a party are the legal, valid and binding obligations of the Borrower and the other Credit Parties, in each case enforceable against each of the Borrower and the other Credit Parties in accordance with their respective terms, except as such enforceability may be limited by any applicable bankruptcy, insolvency, reorganization, moratorium, or similar law affecting creditors' rights generally.

        (f)    The execution, delivery and performance of this Agreement and the other documents and agreements executed and delivered in connection herewith does not and will not (i) violate any law, rule, regulation or court order to which any of the Borrower or the other Credit Parties is subject; (ii) conflict with or result in a breach of the certificate of formation or bylaws or Operating Agreement or Partnership Agreement of the Borrower or any of the other Credit Parties or any other agreement or instrument to which it is party or by which any of the properties or assets of the Borrower or any of the other Credit Parties are bound; or (iii) result in the creation or imposition of any Lien, security interest or encumbrance on any property or asset of the Borrower or any of the other Credit Parties or Liens permitted under the Credit Agreement, whether now owned or hereafter acquired, other than Liens in favor of the Administrative Agent or Liens permitted under the Credit Agreement.

        (g)  No consent or authorization of, filing with or other act by or in respect of any Governmental Authority or any other Person is required in connection with the execution, delivery, performance, validity or enforceability of (i) this Agreement by the Borrower or (ii) the other documents or agreements executed or delivered in connection herewith to which any of the Borrower or the other Credit Parties is party, or the consummation of the transactions contemplated hereby or thereby, or the continuing operations of any of the Borrower or the other Credit Parties following the consummation of such transactions.

        (h)  (i) As of the date hereof: (A) the aggregate outstanding principal amount of (I) Construction Loans is $1,067,612,000.07, (II) Working Capital Loans is $0 and (III) Project LC Loans is $0; (B) the aggregate undrawn face amount of Project Letters of Credit is $3,591,900.00; and (C) the Available Equity Commitment is $354,720,386.00. Interest and fees have accrued on the Loans and Project Letters of Credit as provided in the Credit Agreement. As of and on the date hereof, the obligation of the Borrower and the other Credit Parties to repay the Loans and the other Obligations, together with all interest and fees accrued thereon, is absolute and unconditional, and there exists no right of set off or recoupment, counterclaim or defense of any nature whatsoever to payment of the Obligations.

        (ii)  As of the date hereof, the liability of NEG under: (A) the NEG Equity Guaranty is in an amount not less than $354,720,386.00; and (B) the NEG EPC Guarantees and the Other NEG Support Agreements is in an unliquidated amount, in each case, without any right of set off or recoupment, counterclaim or defense of any nature whatsoever.

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        SECTION 8.    NEG Obligations.    NEG hereby:

        (a)  as the equity guarantor under the NEG Equity Guaranty (along with the Borrower, and each of the Borrower's Subsidiaries as a guarantor or a pledgor), agrees to cooperate with any reasonable proposal by the Administrative Agent regarding disposition of the equity in or assets of any or all of the Project Companies;

        (b)  agrees to continue to manage (in cooperation with the Borrower) the construction of the Projects and to operate the Millennium Project and upon Completion, to operate any other Project (on mutually agreeable terms and conditions) until requested otherwise by the Administrative Agent and, if requested otherwise, to cooperate in a transition to a third-party management company with respect to each operation;

        (c)  agrees to cooperate, and cause its Subsidiaries to cooperate, in all respects with the consultants and advisors engaged by the Administrative Agent (including, without limitation, FTI Consulting, PA Consulting Group, R.W. Beck, Pace Energy Consulting Group LLC, and The Blackstone Group L.P. and all attorneys engaged by the Administrative Agent);

        (d)  agrees to reimburse, or cause the reimbursement of, the Administrative Agent for all reasonable costs, fees and expenses of counsel, consultants and other professionals (limited to Luskin, Stern & Eisler LLP, Latham & Watkins, Sullivan & Cromwell, FTI Consulting, The Blackstone Group L.P. (other than any success fee), PA Consulting Group, Pace Energy Consulting Group LLC, R.W. Beck and one local real estate counsel in each of Massachusetts, Arizona and Michigan) engaged by or on behalf of the Administrative Agent;

        (e)  notwithstanding the terms of this Agreement, reaffirms and acknowledges all of its obligations under each of the Operative Documents to which is it a party (including, without limitation, the NEG Equity Guaranty, the NEG EPC Guarantees and the Other NEG Support Agreements) to the extent such obligations relate to the period during which NEG has a beneficial ownership interest in any of the Projects;

        (f)    agrees that in the event of a filing of a petition for bankruptcy by or against the Borrower or any of its Subsidiaries, it shall cooperate with the efforts of the Borrower and its Subsidiaries to ensure that all Tranche A Construction Loans, all Working Capital Loans, all Primary Letters of Credit and all other extensions of credit made by the GenHoldings Lenders to the Borrower on or after October 25, 2002, shall be (x) repaid (or cash collateralized) with the proceeds of a debtor-in-possession financing (a "DIP Facility") or (y) "rolled up" into the DIP facility and given the same priority and collateral as the DIP Facility;

        (g)  agrees that, if it shall pay any interest, fees or expenses to any of its creditors for any period of time, it shall pay interest, fees or expenses, as the case may be, to the GenHoldings Lenders for the same period in connection with extensions of credit made by the GenHoldings Lenders on and after October 25, 2002 (so long as NEG shall not have made a payment under the Available Equity Commitment); and

        (h)  agrees that as of the date hereof, its liability under: (i) the NEG Equity Guaranty is in an amount not less than $354,720,386.00; and (ii) the NEG EPC Guarantees and the Other NEG Support Agreements is in an unliquidated amount, in each case, without any right of set off or recoupment, counterclaim or defense of any nature whatsoever.

        SECTION 9.    Effect and Construction of Agreement.

        (a)  Except as expressly provided herein, the Credit Agreement and the other Credit Documents shall remain in full force and effect in accordance with their respective terms, and this Agreement shall not be construed to:

          (i)  impair the validity, perfection or priority of any Lien or security interest securing the Obligations;

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        (ii)  waive or impair any rights, powers or remedies of the Administrative Agent or any GenHoldings Lender under the Credit Agreement or any other Credit Document upon the occurrence of the Waiver Expiration Date or otherwise, with respect to the Existing Defaults or otherwise;

        (iii)  constitute an agreement by the Administrative Agent or any GenHoldings Lender or require the Administrative Agent or any GenHoldings Lender to extend the Waiver Expiration Date, or grant additional waivers or waiver periods, or extend the term of the Credit Agreement or the time for payment of any of the Obligations; or

        (iv)  require any GenHoldings Lender to make any Loans, issue any Letters of Credit, or provide other extensions of credit to the Borrower except as set forth herein.

        (b)  This Agreement shall constitute a Credit Document.

        (c)  The occurrence of the Waiver Expiration Date shall be a Borrower Event of Default with no grace period.

        (d)  The delivery by the Administrative Agent to the Borrower of notice of a Waiver Default shall constitute a Borrower Event of Default with no grace period.

        (e)  In the event of any inconsistency between the terms of this Agreement and the Credit Agreement or any of the other Credit Documents, this Agreement shall govern. The Borrower acknowledges that it has consulted with counsel and with such other experts and advisors as it has deemed necessary in connection with the negotiation, execution and delivery of this Agreement. This Agreement shall be construed without regard to any presumption or rule requiring that it be construed against the party causing this Agreement or any part hereof to be drafted.

        SECTION 10.    Reference to and Effect on the Loan Documents.    Upon the effectiveness hereof, each reference in the Credit Agreement to "this Agreement," "hereunder," "hereof" or words of like import referring to the Credit Agreement, and each reference in the other Credit Documents to the Credit Agreement, "thereunder," "thereof" or words of like import referring to the Credit Agreement, shall mean and be a reference to the Credit Agreement, as modified hereby.

        SECTION 11.    Miscellaneous.

        (a)  Notwithstanding anything in the Credit Documents to the contrary, the proceeds of all Loans shall be used in accordance with the terms of the Credit Agreement and the other Credit Documents as modified hereby and by the documents executed in connection herewith, provided that proceeds of any Loans shall not be used (i) to repay any equity holder (direct or indirect) of the Borrower for any Cash Equity Contribution or otherwise or (ii) to make any investments, loans, advances or distributions to any equity holder (direct or indirect) of the Borrower.

        (b)  Letter of Credit Fees received by the Administrative Agent under Section 6(a)(v) hereof shall promptly be deposited with the Security Agent in a segregated account (the "LC Fee Account") separate and apart from all of the Accounts under the Depositary Agreement. Such Letter of Credit Fees allocable to Primary Letters of Credit shall be disbursed by the Security Agent to the applicable Tranche A Banks on December 24, 2002 (notwithstanding the occurrence and continuance of any Borrower Event of Default, Borrower Inchoate Default, Project Inchoate Default or Project Event of Default (including, without limitation, the Existing Defaults)). Any amounts in the LC Fee Account in excess of such Letter of Credit Fees paid to the Tranche A Banks on December 24, 2002, shall be disbursed (on December 24, 2002) to the Tranche A Lenders in their Proportionate Shares, and applied as a repayment of Tranche A Construction Loans outstanding on such date (notwithstanding the occurrence and continuance of any Borrower Event of Default, Borrower Inchoate Default, Project Inchoate Default or Project Event of Default (including, without limitation, the Existing Defaults)).

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        (c)  Notwithstanding anything in the Credit Documents to the contrary, Annex I and Annex II hereto may not be amended, supplemented or modified in any way without the prior written consent of each of the GenHoldings Lenders.

        (d)  The Borrower covenants and agrees that any construction management company and any operations and maintenance management company engaged by (or on behalf of) any of the Project Companies shall be acceptable (and subject to engagement agreements) acceptable to the Administrative Agent and each of the GenHoldings Lenders in their sole discretion.

        (e)  In addition to, and not in limitation of, the terms and provisions of the Credit Agreement, the Borrower covenants and agrees that, so long as any Commitment, any Loan or any Letter of Credit is outstanding and thereafter until satisfaction and payment in cash in full of the Obligations, and to the extent there are funds available for such purpose (if applicable), it shall comply and shall cause each of its Subsidiaries to comply with all covenants in this Agreement, the Credit Agreement and each of the other Credit Documents.

        (f)    The Borrower agrees to execute (and to cause each of the other Credit Parties to execute) such other and further documents and instruments as the Administrative Agent may request to implement the provisions of this Agreement.

        (g)  This Agreement shall be binding upon and inure to the benefit of and be enforceable by the parties hereto and their respective successors and assigns. No other person or entity shall be entitled to claim any right or benefit hereunder, including, without limitation, the status of a third-party beneficiary of this Agreement.

        (h)  This Agreement, together with the Credit Agreement and the other Credit Documents, constitutes the entire agreement and understanding among the parties relating to the subject matter hereof, and supersedes all prior proposals, negotiations, agreements and understandings relating to such subject matter. In entering into this Agreement, the Borrower acknowledges that it is not relying on any statement, representation, warranty, covenant or agreement of any kind made by the Administrative Agent, any GenHoldings Lender, or any employee, agent or professional of the Administrative Agent or any GenHoldings Lender, except for the express written agreements of the Administrative Agent and the GenHoldings Lenders set forth herein.

        (i)    The provisions of this Agreement are intended to be severable. If any provision of this Agreement shall be held invalid or unenforceable in whole or in part in any jurisdiction, such provision shall, as to such jurisdiction, be ineffective to the extent of such invalidity or enforceability without in any manner affecting the validity or enforceability of such provision in any other jurisdiction or the remaining provisions of this Agreement in any jurisdiction.

        (j)    This Agreement may be executed in counterparts and by any party to this Agreement on separate counterparts, all of which, when so executed, shall be deemed an original, but all of such counterparts shall constitute one and the same agreement. Any signature delivered by a party by facsimile transmission shall be deemed to be, and effective as, an original signature hereto.

        (k)  Any notices with respect to this Agreement shall be given in the manner provided for in Section 11.1 of the Credit Agreement.

        (l)    All representations, warranties, covenants, agreements, undertakings, waivers and releases of the Borrower contained herein shall survive the occurrence of the Waiver Expiration Date and payment in full of the Obligations under the Credit Agreement.

        (m)  No amendment, modification, rescission, waiver or release of any provision of this Agreement shall be effective unless the same shall be in writing and signed by the parties hereto.

        (n)  Any fees payable hereunder or in connection herewith (including, without limitation, under Section 6(a) hereof) shall be non-refundable and fully earned when paid.

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        SECTION 12.    RELEASE OF CLAIMS.    EACH OF NEG AND THE BORROWER HEREBY ACKNOWLEDGES AND AGREES THAT IT DOES NOT HAVE ANY DEFENSES, COUNTERCLAIMS, OFFSETS, CROSS-COMPLAINTS, CLAIMS OR DEMANDS OF ANY KIND OR NATURE WHATSOEVER THAT CAN BE ASSERTED TO REDUCE OR ELIMINATE ALL OR ANY PART OF LIABILITY OF THE BORROWER TO REPAY THE GENHOLDINGS LENDERS AS PROVIDED IN THE CREDIT AGREEMENT AND THE OTHER CREDIT DOCUMENTS OR TO SEEK AFFIRMATIVE RELIEF OR DAMAGES OF ANY KIND OR NATURE FROM THE ADMINISTRATIVE AGENT OR ANY GENHOLDINGS LENDER. EACH OF NEG AND THE BORROWER HEREBY VOLUNTARILY AND KNOWINGLY RELEASES AND FOREVER DISCHARGES THE ADMINISTRATIVE AGENT AND THE GENHOLDINGS LENDERS, AND THE ADMINISTRATIVE AGENT'S AND EACH GENHOLDINGS LENDER'S PREDECESSORS, AGENTS, EMPLOYEES, SUCCESSORS AND ASSIGNS, FROM ALL POSSIBLE CLAIMS, DEMANDS, ACTIONS, CAUSES OF ACTION, DAMAGES, COSTS, OR EXPENSES, AND LIABILITIES WHATSOEVER, KNOWN OR UNKNOWN, ANTICIPATED OR UNANTICIPATED, SUSPECTED OR UNSUSPECTED, FIXED, CONTINGENT, OR CONDITIONAL, AT LAW OR IN EQUITY, ORIGINATING IN WHOLE OR IN PART ON OR BEFORE THE DATE THIS AGREEMENT IS EXECUTED BY THE BORROWER, WHICH EITHER NEG OR THE BORROWER MAY NOW OR HEREAFTER HAVE AGAINST THE ADMINISTRATIVE AGENT OR ANY GENHOLDINGS LENDER IN THEIR CAPACITIES AS SUCH, AND THE ADMINISTRATIVE AGENT'S OR ANY GENHOLDINGS LENDER'S PREDECESSORS, AGENTS, EMPLOYEES, SUCCESSORS AND ASSIGNS, IF ANY, IN THEIR CAPACITIES AS SUCH, AND IRRESPECTIVE OF WHETHER ANY SUCH CLAIMS ARISE OUT OF CONTRACT, TORT, VIOLATION OF LAW OR REGULATIONS, OR OTHERWISE, INCLUDING, WITHOUT LIMITATION, THE EXERCISE OF ANY RIGHTS AND REMEDIES UNDER THE CREDIT AGREEMENT OR OTHER CREDIT DOCUMENTS, AND NEGOTIATION AND EXECUTION OF THIS AGREEMENT.

        SECTION 13.    GOVERNING LAW; JURISDICTION; WAIVER OF JURY TRIAL.    The governing law, jurisdictional, venue, service of process and jury trial waiver provisions set forth in Sections 11.6, 11.14 and 11.15 of the Credit Agreement shall apply to any suit, action or proceeding related to this Agreement.

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IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first above written.

		BORROWER:
		GENHOLDINGS I, LLC, as Borrower (for itself and as agent under the Depositary Agreement for each Approved Project Company and each Approved Intermediate Holding Company)
		By:
			Name: Title:
ACKNOWLEDGED AND AGREED:
PG&E NATIONAL ENERGY GROUP, INC.
By:
	Name: Title:

Additional signature pages omitted

[INTERMEDIATE HOLDING COMPANY ACKNOWLEDGEMENT TO
THIRD WAIVER AND AMENDMENT]

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Exhibit 10.13

EX-10.17

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Exhibit 10.17

EXECUTION COPY

GUARANTEE AND AGREEMENT
(LA PALOMA)

made by

PG&E NATIONAL ENERGY GROUP, INC.

in favor of

CITIBANK, N.A.,
as Security Agent

Dated as of April 6, 2001

TABLE OF CONTENTS

		Page
SECTION I DEFINED TERMS		1
1.01.	Definitions	1
1.02.	Other Definitional Provisions	15
SECTION II GUARANTEE		16
2.01.	Guarantee; Payment	16
2.02.	Extent of Liability	16
2.03.	Nature of Guarantee	16
2.04.	Demands and Notice; Application of Proceeds	17
2.05.	Consent to Modifications, Waivers	17
2.06.	Subrogation	18
2.07.	Substitute Credit Support	18
SECTION III REPRESENTATIONS AND WARRANTIES		18
3.01.	Organization; Powers; Ownership of Property	18
3.02.	Authorization	19
3.03.	Enforceability	19
3.04.	Financial Statements	19
3.05.	Litigation	19
3.06.	Federal Reserve Regulations	20
3.07.	Investment Company Act; Public Utility Holding Company Act	20
3.08.	No Material Misstatements	20
3.09.	Taxes	20
3.10.	Employee Benefit Plans	20
3.11.	Governmental Approval; Compliance with Law and Contracts	20
3.12.	Environmental Matters	21
3.13.	Ranking	21
3.14.	Unrestricted Subsidiaries	24
3.15.	Separateness from PG&E	24
SECTION IV COVENANTS		24
4.01.	Maintenance of Ownership	24
4.02.	Existence	24
4.03.	Compliance with Law; Business and Properties	24
4.04.	Financial Statements, Reports, Etc.	26
4.05.	Insurance	26
4.06.	Taxes, Etc.	26
4.07.	Maintaining Records; Access to Properties and Inspections	26
4.08.	Risk Management Procedures	26
4.09.	Merger	26
4.10.	Investments	26
4.11.	Liens	27
4.12.	Indebtedness	28
4.13.	Transactions with Affiliates	30
4.14.	Distributions	30
4.15.	Financial Covenants	30
4.16.	Separateness from PG&E Corp.	33
4.17.	PG&E Gen Credit Agreement Covenants	33
SECTION V NEG TRIGGER EVENTS		33

5.01.	NEG Trigger Events	33
SECTION VI MISCELLANEOUS		34
6.01.	Amendments	34
6.02.	Successors and Assigns	34
6.03.	GOVERNING LAW	34
6.04.	No Waiver, Cumulative Remedies	34
6.05.	Authority and Rights of Security Agent	35

Schedules

1.01A	Existing Sale-Leaseback Transactions
1.01B	Terms and Conditions of Subordination for Indebtedness to Affiliates
1.01C	Terms and Conditions of Subordination for Indebtedness to Non-Affiliates
3.05	Litigation
3.12	Environmental Matters
3.14	Unrestricted Subsidiaries
4.01	Certain Restricted Subsidiaries not Subject to Sections 4.01 or 4.02
4.10	Other Existing Investments
4.11	Other Existing Liens
4.12(a)	Indebtedness under Certain Credit Agreements
4.12(f)	Other Existing Indebtedness
4.13	Description of Existing Management, Operation, Sharing and Similar Arrangements with Affiliates

Exhibits

A Form of Payment Demand

GUARANTEE AND AGREEMENT

        GUARANTEE AND AGREEMENT dated as of April 6, 2001 (this "Guarantee and Agreement") by PG&E NATIONAL ENERGY GROUP, INC., a Delaware corporation (this "Guarantor"), in favor of Citibank, N.A. as security agent (in such capacity, the "Security Agent") for the Creditors.

W I T N E S S E T H

        WHEREAS, as contemplated by the Participation Agreement, dated as of March 7, 2000, among La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A., as administrative agent and security agent (the "Participation Agreement"), the Lenders, Investors and other Creditors have agreed to make extensions of credit subject to the terms of the Operative Documents;

        WHEREAS, as contemplated by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among PG&E Corporation, the Guarantor, PG&E Generating Company, LLC, La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto, Citibank, N.A. and the other parties thereto (the "Omnibus Restructuring Agreement"), the parties thereto have agreed to certain amendments, waivers and modifications regarding the transactions contemplated by the Operative Documents (as defined in the Participation Agreement) in accordance with the terms of the Omnibus Restructuring Agreement;

        WHEREAS, it is a condition precedent to the effectiveness of the Omnibus Restructuring Agreement that the Guarantor shall have executed and delivered this Guarantee and Agreement to the Security Agent for the benefit of the Creditors;

        WHEREAS, the Guarantor owns directly or indirectly all of the membership interests in the Company, and the Guarantor will derive substantial direct and indirect benefit from the extensions of credit pursuant to the Operative Documents;

        NOW, THEREFORE, in consideration of the Creditors agreeing to make further extensions of credit pursuant to the Operative Documents as amended by the Omnibus Restructuring Agreement and the agreements contemplated thereby, the Guarantor agrees as follows:

SECTION I DEFINED TERMS

        1.01.    Definitions.    (a) Unless otherwise defined herein, capitalized terms used herein shall have the meanings given to them in the Participation Agreement (as amended by the Omnibus Restructuring Agreement).

        (b)  The following terms shall have the following meanings:

        "$1.1 Billion PG&E Gen Credit Agreement" shall mean the $1,100,000,000 Credit Agreement, dated as of September 1, 1998, as amended as of the date hereof, among PG&E Gen and the lenders party thereto.

        "Actual Knowledge" shall mean, with respect to any Person as to any event or circumstance, the actual knowledge of the Responsible Officer of such Person or receipt by such Person from the Administrative Agent or Security Agent, as the case may be, of notice of such event or circumstance.

        "Affiliate" shall mean, when used with respect to a specified Person, another Person that directly or indirectly controls or is controlled by or is under common control with the Person specified. For this purpose, "control" of a Person shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, whether through ownership of voting shares, by contract or otherwise.

        "Asset Company" shall mean any entity (a) (i) whose principal purpose is the acquisition, improvement, installation, design, engineering, construction, development, completion, financing, maintenance or operation of all or any part of a project or projects, or any asset related thereto, used in the business of generating, transmitting, transporting, distributing, producing or storing electric power, thermal energy, natural gas or other fuel or other energy-related businesses and (ii) substantially all its assets are limited to those assets being financed (or to be financed), or the operation of which is being financed (or to be financed), in whole or in part by a Project Financing Facility entered into by such entity and/or any Investment Vehicle that owns such entity or by contributions or intercompany loans from the Guarantor, any Restricted Subsidiary or any such Investment Vehicle or (b) which entity is a Subsidiary of an entity described in clause (a) and the business and assets of which are related to the business of such entity and which does not incur any Indebtedness other than (A) intercompany loans from an Asset Company which is the parent of such Subsidiary, the Guarantor, any Restricted Subsidiary or any Investment Vehicle that indirectly owns such Subsidiary, (B) Indebtedness of the type described in Section 4.12(i) or (C) Indebtedness under a Project Financing Facility.

        "Business Day" shall mean any day other than a Saturday, Sunday or other day on which commercial banks in New York City are authorized or required by law to close.

        "Cash Equivalents" shall mean (a) any evidence of indebtedness with a maturity of 180 days or less issued or directly and fully guaranteed or insured by the United States, Canada or any U.S. agency or instrumentality; (b) certificates of deposit or acceptances or Eurodollar time deposits with a maturity of 180 days or less of, and overnight bank deposits and demand accounts with (i) any financial institution that is not a foreign bank or a foreign bank holding company that has a bankwatch rating of at least B/C by Fitch and a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's or (ii) any financial institution that is a foreign bank or a foreign bank holding company that has a sovereign risk rating of at least AA by Fitch, a bankwatch rating of at least B by Fitch, a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's and a minimum of US$20 billion in assets; (c) commercial paper with a maturity of 180 days or less issued by a U.S. or Canadian incorporated company that is not an Affiliate of the Guarantor and rated at least A-1 by S&P, F1 by Fitch or at least P-1 by Moody's; (d) Repurchase Agreements with a maturity of 90 days or less made with banks which meet the criteria in clause (b) above and primary government security dealers (as defined by the Federal Reserve System) which meet the criteria in clause (c) above, and are fully collateralized by investments meeting the criteria of clause (a) above; (e) tax-exempt municipal obligations of any state of the United States, or any municipality of any such state which mature within 180 days from the date of acquisition thereof and which, in each case, are rated at least MIG-1 or VMIG-1 by Moody's, and SP-1/A-1 or AA/A-1 by S&P; and (f) institutional money market funds that exclusively invest in any of the foregoing.

        "Cash Flow Available for Fixed Charges" for any period shall mean, without duplication, (i) EBITDA of the Guarantor and its Consolidated Subsidiaries which are not Unrestricted Subsidiaries for such period, minus (ii) EBITDA for such period of such Consolidated Subsidiaries that are financed with Indebtedness of such Subsidiary or which are direct or indirect Subsidiaries of a Financed Subsidiary of the Guarantor, plus (iii) Distributions received by the Guarantor from Subsidiaries described in the foregoing clause (ii) during such period except to the extent the amount of such Distributions previously constituted "Cash Flow Available for Fixed Charges" during such period as a result of clause (viii) below, minus (iv) Distributions described in the foregoing clause (iii) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", minus (v) any income reported by the Guarantor for such period for Persons that are not Consolidated Subsidiaries of the Guarantor, plus (vi) Distributions received by the Guarantor from Persons described in the foregoing

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clause (v) during such period, minus (vii) Distributions described in the foregoing clause (vi) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", plus,(viii) cash and Cash Equivalents of Subsidiaries described in clause (ii) above that are legally and contractually available to such Subsidiary for the payment of dividends to the Guarantor, but only to the extent that the source of such cash and Cash Equivalents is from such Subsidiary's EBITDA for such period or from repayments during such period to such Subsidiary of loans made by such Subsidiary.

        "Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to Unrestricted Subsidiaries) determined in accordance with GAAP, excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Consolidated Subsidiary" shall mean with respect to any Person at any date any Subsidiary or other entity the accounts of which would be consolidated in accordance with GAAP with those of such Person in its consolidated financial statements as of such date.

        "Consolidated Tangible Net Assets" shall mean at any date the total net assets of the Guarantor and its Consolidated Subsidiaries (other than Unrestricted Subsidiaries) determined in accordance with GAAP, excluding, however, from the determination of total net assets (i) goodwill, organizational expenses, research and product development expenses, trade marks, trade names, copyrights, patents, patent applications, licenses and rights in any thereof, and other similar intangibles, (ii) all deferred charges or unamortized debt discount and expenses, (iii) all reserves carried and not deducted from assets, (iv) securities which are not readily marketable, (v) cash held in sinking or other analogous funds established for the purpose of redemption, retirement or prepayment of capital stock or other equity interests or Indebtedness, and (vi) any items not included in clauses (i) through (v) above which are treated as intangibles in conformity with GAAP.

        "Credit Support Arrangements" shall mean any Guaranty, letter of credit or other instrument or arrangement issued as support for the payment or performance obligations of a party under any Trading Arrangement.

        "Distribution" shall mean, in respect of any Person, (i) any payment of any dividends or other distributions with respect to the capital stock or other equity interests of such Person (except distributions in such capital stock or other equity interests) and (ii) any purchase, redemption or other acquisition or retirement for value of any capital stock or other equity interests of such Person or any Affiliate of such Person unless made contemporaneously from the net proceeds of the sale of capital stock or other equity interests.

        "EBITDA" shall mean, with respect to any Person for any period, the (i) income (or loss) before interest and taxes of such Person, plus (ii) to the extent deducted in determining such income (or loss), depreciation, amortization and other similar non-cash charges and reserves, minus (iii) to the extent recognized in determining such income (or loss), extraordinary gains (or losses), restructuring charges or other non-recurring items, plus (iv) to the extent deducted in determining such income (or loss), Lease Payment Obligations described in clause (iii) of the definition of "Lease Payment Obligations".

        "Equity Funding Arrangement" shall mean (i) an agreement to provide a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with any Project Financing Facility, (ii) a Guaranty, letter of credit or other similar arrangement with respect to any obligations of any Asset Company or Investment Vehicle under a Project Financing Facility, (iii) a Guaranty of any Investment Vehicle's obligation to make a capital contribution to or

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other equity investment in any Asset Company or Investment Vehicle in connection with a Project Financing Facility or (iv) a Guaranty, letter of credit or other similar arrangement to support any of the obligations or arrangements described in clauses (i) through (iii) hereof.

        "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as the same may be amended from time to time.

        "ERISA Affiliate" shall mean any trade or business (whether or not incorporated) that is a member of a group of (i) organizations described in Sections 414(b) or 414(c) of the Code and (ii) solely for purposes of the Lien created under Section 412(n) of the Code, organizations described in Sections 414(m) or 414(o) of the Code of which the Guarantor is a member.

        "ERISA Event" shall mean (i) the Guarantor or any ERISA Affiliate shall fail to pay when due an amount or amounts aggregating in excess of $15,000,000 which it shall have become liable to pay under Title IV of ERISA; or (ii) notice of intent to terminate a Material Plan shall be filed under Title IV of ERISA by the Guarantor or any ERISA Affiliate, any plan administrator or any combination of the foregoing; or (iii) the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or (iv) a condition shall exist by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated; or (v) there shall occur a complete or partial withdrawal from, or a default, within the meaning of Section 4219(c)(5) of ERISA, with respect to, one or more Multiemployer Plans which could cause the Guarantor or any ERISA Affiliate to incur a current payment obligation in excess of $15,000,000; or (vi) receipt by the Guarantor or any ERISA Affiliate of notice from one or more Multiemployer Plans of intent to terminate or that it is insolvent or in reorganization (within the meaning of Section 4241 or 4245 of ERISA, as applicable) which termination, insolvency or reorganization, individually or together with other such events, could cause the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, to incur a current payment obligation in excess of $15,000,000; or (vii) the Guarantor or any ERISA Affiliate shall engage in one or more non-exempt "prohibited transactions" (as defined in Section 406 of ERISA or Section 4975 of the Code) which could result in a current payment obligation of the Guarantor and/or any ERISA Affiliate individually or in the aggregate, in an amount or amounts aggregating in excess of $15,000,000; or (viii) the occurrence of any event or series of events of which the nature described in clauses (i) through (vii) with respect to any Plan or Multiemployer Plan which, individually or in the aggregate, could result in a liability to the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, in an amount or amounts aggregating in excess of $50,000,000.

        "ET Credit Agreements" shall mean (i) the $50,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading Gas Corporation, PG&E Energy Trading, Canada Corporation, ET Holdings, PG&E Energy Trading Power, L.P. and Bank of Montreal and (ii) the $35,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading—Gas Corporation, PG&E Energy Trading, Canada Corporation, PG&E Energy—Trading Power Holdings Corporation, PG&E Energy Trading Power, L.P. and The Chase Manhattan Bank, as each may be amended, modified or supplemented from time to time.

        "ET Holdings" shall mean PG&E Energy Trading Holdings Corporation, a California corporation.

        "Federal Reserve System" shall mean the Federal Reserve System of the United States of America.

        "Financed Subsidiary" shall mean any direct or indirect Subsidiary of the Guarantor that is financed with Indebtedness of such Subsidiary.

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        "Financial Officer" of any Person shall mean the chief financial officer, principal accounting officer, treasurer, associate or assistant treasurer, or any responsible officer analogous to the foregoing or designated by the one of the foregoing Persons, of such Person.

        "Fitch" shall mean Fitch, Inc.

        "Fixed Charges" shall mean, with respect to the Guarantor for any period, the sum, without duplication, of (i) the aggregate amount of interest expense and commitment and other fees with respect to Funded Indebtedness of the Guarantor Scheduled to be Paid for such period, including (A) the net costs under Swaps, (B) all capitalized interest, (C) the interest portion of any deferred payment obligation and (D) the Lease Payment Obligations of the Guarantor Scheduled to be Paid by the Guarantor during such period, and (ii) the aggregate amount of all mandatory scheduled payments (whether designated as payments or prepayments) and scheduled sinking fund payments with respect to principal of any Funded Indebtedness of the Guarantor, including payments in the nature of principal under Lease Obligations, provided that with respect to any Funded Indebtedness of the Guarantor consisting of Equity Funding Arrangements, "Fixed Charges" shall not include any of the foregoing enumerated items to the extent paid by a Subsidiary of the Guarantor (so long as the funds used to make such payments were not provided by the Guarantor).

        "Funded Indebtedness" of a Person shall mean all Indebtedness of such Person (after intercompany eliminations) other than any Guaranty obligations that are not reasonably quantifiable under standard accounting practices as of the date of determination.

        "GAAP" shall mean generally accepted accounting principles, applied on a consistent basis.

        "Governmental Approvals" shall mean all authorizations, consents, approvals, licenses and exemptions of, registrations and filings with, and notices and reports to all Governmental Authorities.

        "Government Authority" shall mean any Federal, state, county, municipal or other local governmental authority or judicial or regulatory agency, board, body, commission or instrumentality.

        "GTN" shall mean PG&E Gas Transmission, Northwest Corporation, a California corporation.

        "GTN Credit Agreements" shall mean (i) the $750,000,000 Indenture, dated as of May 22, 1995, between GTN and The First National Bank of Chicago, as trustee and (ii) the $100,000,000 Amended and Restated Credit Agreement and $50,000,000 364-Day Credit Agreement, each dated May 24, 1999, between GTN, the lenders party thereto and Citicorp USA, Inc., as administrative agent for such lenders, including any commercial paper supported by credit facilities made available under such credit agreements, as the same may be amended, modified or supplemented from time to time.

        "Guarantee Draw Amount" shall mean, as of the date of payment by the Guarantor, the Maximum Guarantee Amount on such date.

        "Guaranteed Obligations" shall mean the collective reference to all payment obligations and liabilities of the Company (including, without limitation, interest accruing at the applicable rate provided in the applicable Operative Document and interest accruing at the applicable rate provided in the applicable Operative Document after the filing of any petition in bankruptcy, or the commencement of any insolvency, reorganization or like proceeding relating to the Company, whether or not a claim for post-filing or post-petition interest is allowed in such proceeding) to any Creditor, whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred under the Participation Agreement, the Construction Agency Agreement, the Lease, the Structural Guarantee or any of the other Operative Documents.

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        "Guarantor" shall be defined as in the recitals hereto.

        "Guaranty" shall mean (a) a guaranty by a Person (other than by endorsement of negotiable instruments for collection in the ordinary course of business), directly or indirectly, in any manner, of any part or all of the obligations of another Person; and (b) an agreement by a Person, direct or indirect, contingent or otherwise, and whether or not constituting a guaranty, the practical effect of which is to assure the payment or performance (or payment of damages in the event of nonperformance) of any part or all of the obligations of another Person (other than in respect of operating leases not otherwise included in the definition of "Lease Obligations"), whether by (i) the purchase of securities or obligations, (ii) the purchase, sale or lease of property or the purchase or sale of services primarily for the purpose of enabling the obligor with respect to such obligation to make any payment or performance (or payment of damages in the event of nonperformance) of or on account of any part or all of such obligation, or to assure the obligee of such obligation against loss, (iii) repayment of amounts drawn down by beneficiaries of letters of credit, (iv) the maintenance of working capital, equity capital, available cash or other financial statement condition so as to enable the primary obligor to pay Indebtedness; (v) the provision of equity or other capital under or in respect of equity or other capital subscription arrangements, (vi) the supplying of funds to or investing in a Person on account of all or any part of such Person's obligation or indemnifying or holding harmless, in any way, such Person against any part or all of such obligation or (vii) the placing of any Lien on property (including, without limitation, accounts and contract rights) of a Person to secure another Person's Indebtedness.

        "Incipient NEG Trigger Event" shall mean any condition or event which, with notice or lapse of time or both, would become a NEG Trigger Event.

        "Indebtedness" of any Person shall mean (i) all indebtedness of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds, debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, (iv) all indebtedness created or arising under any conditional sale or other title retention agreement with respect to property acquired by such Person (even though the rights and remedies of the seller or lender under such agreement in the event of default are limited to repossession or sale of such property), (v) all Lease Obligations of such Person, (vi) all obligations, contingent or otherwise, of such Person under any issued and outstanding acceptance, letter of credit or similar instruments, (vii) all obligations of such Person to redeem or purchase any capital stock of such Person which is mandatorily redeemable, (viii) all Swaps of such Person and (ix) any Guaranty of such Person with respect to liabilities of the type described in clauses (i) through (viii) hereof.

        "Investment" shall mean the acquisition of any interest in any Person or property, a loan or advance to any Person or other arrangement for the purpose of providing funds or credit to any Person, a capital contribution in or to any Person, or any other investment in any Person or property, or any Guaranty of any of the foregoing.

        "Investment Vehicle" shall mean each Subsidiary of the Guarantor which is organized solely to acquire, make or hold one or more Investments in an Asset Company or Asset Companies, either directly or indirectly through one or more other Investment Vehicles.

        "Lease Obligations" shall mean, without duplication, (i) any Indebtedness represented by obligations under a lease that is required to be capitalized for financial reporting purposes and (ii) the present value, determined using a discount rate equal to the incremental borrowing rate (as defined in Statement of Financial Accounting Standards No. 13) of the Person incurring such obligations, of rent obligations under leases of electric generating assets or natural gas pipelines and related facilities.

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        "Lease Payment Obligations" shall mean, with respect to any Person for any period, (i) the interest component of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period, plus (ii) the principal portion of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" that are Scheduled to be Paid during such period, plus (iii) all rent payment obligations relating to Lease Obligations of such Person described in clause (ii) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period.

        "Letter Agreement" shall mean the letter agreement, dated as of April 6, 2001, from NEG LLC addressed to the Security Agent, for the benefit of the Creditors.

        "Lien" shall mean, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset or any interest or title of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset.

        "Material Adverse Effect" shall mean a materially adverse change in (a) the business, assets, property or condition (financial or otherwise) or operations of the Guarantor and its Subsidiaries taken as whole, or (b) the ability of the Guarantor to perform its obligations under this Guarantee and Agreement.

        "Material Plan" shall mean any Plan or Plans having aggregate Unfunded Liabilities in excess of $50,000,000.

        "Maximum Guarantee Amount" shall mean, as of any date of payment by the Guarantor, the aggregate of the amount of the unpaid principal of all Tranche A Loans (or, if higher, an amount equal to the aggregate outstanding Tranche A Loan Commitments in effect at such time, or, if not in effect at such time, in effect immediately prior to any termination thereof) and the amount of all accrued and unpaid interest thereon and other amounts payable in connection with the Tranche A Loans.

        "Minimum Consolidated Net Worth" shall mean US$1.8 billion.

        "Minimum Non-Trading Consolidated Net Worth" shall mean US$1.4 billion.

        "Moody's" shall mean Moody's Investors Service, Inc.

        "Multiemployer Plan" shall mean a multiemployer plan as defined in Section 4001(a)(3) of ERISA to which the Guarantor or any ERISA Affiliate is making, or accruing an obligation to make, contributions, or has within any of the preceding six years made, or accrued an obligation to make, contributions.

        "NEG/ET Letter of Credit Facilities" shall mean a letter of credit facility entered into by ET Holdings, any of its Subsidiaries and/or the Guarantor in an aggregate amount not to exceed $500,000,000, as the same may be amended, modified or supplemented from time to time.

        "NEG Downgrade Event" shall mean (i) unless the NEG Guarantee Release Date has occurred, the Guarantor's senior unsecured long term debt (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the Guarantor fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount or (ii) if a Substitute Credit Support Instrument in the form of a guaranty pursuant to clause (b) of the definition thereof has been provided in accordance with Section 2.07, from and after the

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effectiveness of such Substitute Credit Support Instrument, the senior unsecured long term debt of the guarantor thereunder (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the guarantor thereunder fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount.

        "NEG Guarantee Release Date" shall mean the earliest of (x) the date on which the Guaranteed Obligations have been paid in full, (y) the date on which NEG pays an amount equal to the Maximum Guarantee Amount to the Security Agent in accordance with the terms of this Guarantee and Agreement and (z) the date on which this Guarantee and Agreement terminates in accordance with Section 2.07(b) hereof.

        "NEG LLC" shall mean PG&E National Energy Group, LLC, a Delaware limited liability company.

        "NEG Trigger Event" shall mean any of the events set forth in Section V of this Guarantee and Agreement.

        "Non-Trading Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to (i) Unrestricted Subsidiaries or (ii) ET Holdings or any Subsidiary thereof) excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Other NEG Guarantees" shall mean (i) the Guarantee and Agreement, dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., for the benefit of the lenders and investors under the Participation Agreement, dated as of August 28, 1999, among Lake Road Generating Company, L.P., Lake Road Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A. (as amended by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among the same parties and other parties thereto), (ii) the Guarantee and Agreement to be delivered by the Guarantor in favor of the security agent thereunder, for the benefit of the lenders and investors under the Participation Agreement, dated as of November 22, 2000, among Harquahala Generating Company, LLC, Harquahala Generating Trust of Delaware Ltd., Wilmington Trust Company, the Lenders party thereto, the Investors party thereto, Société Générale and State Street Bank and Trust Company and (iii) the Guarantee and Agreement to be delivered by the Guarantor in favor of Société Générale, for the benefit of the lenders under the Credit Agreement to be executed among PG&E National Energy Group Construction Company, LLC, the lenders party thereto and Société Générale.

        "Payment Demand" shall mean the payment demand in the form of Exhibit A.

        "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA.

        "Permitted Encumbrances" shall mean, as to any Person at any date, any of the following:

          (i)  Liens for taxes, assessments or governmental charges not then delinquent, and Liens for taxes, assessments or governmental charges then delinquent but the validity of which is being contested at the time by such Person in good faith and for which adequate reserves have been established in accordance with GAAP, and (ii) Liens incurred or created in connection with or to secure the performance of bids, tenders, contracts (other than for the payment of money), leases, statutory obligations, surety bonds or appeal bonds, and carriers',

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warehousemen's, mechanics' or materialmen's Liens, assessments or similar encumbrances incurred in the ordinary course of business;

        (ii)  easements, restrictions, exceptions or reservations in any property and/or rights of way of such Person for the purpose of roads, pipe lines, substations, transmission lines, transportation lines, distribution lines, removal of oil, gas, lignite, coal or other minerals or timber, and other like purposes, or for the joint or common use of real property, rights of way, facilities and/or equipment, and defects, irregularities and deficiencies in titles of any property and/or rights of way, which do not individually or in the aggregate materially impair the use or value of such property and/or rights of way for the purposes for which such property and/or rights of way are held by such Person;

        (iii)  rights reserved to or vested in any municipality or public authority to use, control or regulate any property of such Person;

        (iv)  any obligations or duties, affecting the property of such Person, to any municipality or public authority with respect to any franchise, grant, license or permit;

        (v)  any judgment Lien against such Person securing a judgment for an amount not exceeding $50,000,000, so long as the finality of such judgment is being contested by appropriate proceedings conducted in good faith and execution thereon is stayed;

        (vi)  any Lien arising by reason of deposits with or giving of any form of security to any federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, for any purpose at any time as required by law or governmental regulation as a condition to the transaction of any business or the exercise of any privilege or license, or to enable such Person to maintain self-insurance or to participate in any fund for liability on any insurance risks or in connection with workers' compensation, unemployment insurance, old age pensions or other social security or to share in the privileges or benefits required for companies participating in such arrangements; or

      (vii)  any landlords' Lien on fixtures or movable property located on premises leased by such Person in the ordinary course of business so long as the rent secured thereby is not in default.

        "Permitted Sale-Leaseback Transactions" shall mean (i) Sale-Leaseback transactions by any Restricted Subsidiary or Asset Company, entered into on or prior to the date of this Guarantee and Agreement and identified on Schedule 1.01A and (ii) one or more Sale/Leaseback transactions entered into by any Asset Company in connection with or as part of a Project Financing Facility entered into after the date of execution of this Guarantee and Agreement.

        "Permitted Subordinated Indebtedness" shall mean all unsecured Indebtedness of the Guarantor that shall have been subordinated to all Indebtedness of the Guarantor under this Guarantee and Agreement and otherwise containing terms and conditions set forth in Schedule 1.01B with respect to Indebtedness of the Guarantor to Affiliates of the Guarantor or in Schedule 1.01C with respect to Indebtedness of the Guarantor to non-Affiliates of the Guarantor.

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        "Person" shall mean any individual, corporation, partnership, joint venture, association, joint-stock company, limited liability company, trust, unincorporated organization, governmental authority or any other entity.

        "PG&E" shall mean Pacific Gas & Electric Company, a California corporation.

        "PG&E Corp." shall mean PG&E Corporation, a California corporation.

        "PG&E Gen" shall mean PG&E Generating Company, LLC, a Delaware limited liability company.

        "PG&E Gen Credit Agreements" shall mean (i) the $1.1 Billion PG&E Gen Credit Agreement, including any commercial paper supported by credit facilities made available thereunder, and (ii) the $10,000,000 Credit Agreement, dated as of December 14, 1999, between PG&E Gen and ABN AMRO Bank N.V., as each may be amended, modified or supplemented from time to time.

        "PG&E Gen Credit Agreement Refinancing Date" shall mean the date on which the commitments and all amounts outstanding under the $1.1 Billion PG&E Gen Credit Agreement are refinanced by one or more credit facilities of the Guarantor.

        "Plan" shall mean any employee pension benefit plan described under Section 3(2) of ERISA (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA that is maintained by the Guarantor or any ERISA Affiliate or with respect to which the Guarantor or any ERISA Affiliate could have liability under Section 4069 of ERISA.

        "Project Financing Facility" shall mean any loan, note purchase agreement, indenture, lease, credit agreement, reimbursement agreement, letter of credit or other facility pursuant to which an Asset Company or Investment Vehicle which directly or indirectly owns an Asset Company incurs Indebtedness, provided that any such Indebtedness is recourse only to (a) the assets of such Asset Company or any Asset Company which is a Subsidiary of such Asset Company, (b) the equity or ownership interests of such Asset Company or any Investment Vehicle which owns such Asset Company or (c) any Equity Funding Arrangements provided with respect to such Asset Company or Investment Vehicle or a Lien on any such Equity Funding Arrangements.

        "Projections" shall mean the projections contained in the presentation materials distributed by the Guarantor to the Creditors during the bank meeting held on March 21, 2001 in New York City.

        "Ratio of Cash Flow to Fixed Charges" shall mean, as of the end of each fiscal quarter the Guarantor, the ratio of (a) Cash Flow Available for Fixed Charges of the Guarantor for the period of four consecutive fiscal quarters ending on, or most recently ended prior to, such date to (b) Fixed Charges of the Guarantor for such period, excluding from the calculation of Fixed Charges all Trading Arrangements and Credit Support Arrangements.

        "Ratio of Debt to Capitalization" shall mean, as of any date, the ratio of the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen to the Total Capitalization of the Guarantor (excluding from the calculation of Funded Indebtedness all Trading Arrangements, Credit Support Arrangements and Swaps); provided that any Equity Funding Arrangements shall only be included in Funded Indebtedness in an amount equal to the lesser of (x) the maximum amount that would be payable under such Equity Funding Arrangements (assuming a drawing is permissible as of the date of determination) and (y) the amount outstanding under any underlying Indebtedness to which any payment under such Equity Funding Arrangements would be applied (assuming such Indebtedness were due and payable as of the date of determination).

        "Refinanceable Facilities" has the meaning ascribed thereto in Section 4.12(a).

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        "Repurchase Agreement" shall mean any written agreement:

          (i)  that provides for (i) the transfer of one or more United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality in an aggregate principal amount at least equal to the amount of the Transfer Price (defined below) to the Guarantor or any Restricted Subsidiary from a financial institution that is (1) a member of the Federal Reserve System having a minimum of US$20 billion in assets, and (2) has commercial paper rated at least A-1 by S&P, at least F1 by Fitch or at least P-1 by Moody's, against a transfer of funds (the "Transfer Price") by the Guarantor or such Restricted Subsidiary to such financial institution and (ii) a simultaneous agreement by the Guarantor or such Restricted Subsidiary, in connection with such transfer of funds, to transfer to such financial institution the same or substantially similar United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality for a price not less than the Transfer Price plus a reasonable return thereon at a date certain not later than 180 days after such transfer of funds,

        (ii)  in respect of which the Guarantor or such Restricted Subsidiary shall have the right, whether by contract or pursuant to applicable law, to liquidate such agreement upon the occurrence of any default thereunder, and

        (iii)  in connection with which the Guarantor or such Restricted Subsidiary, or an agent thereof, shall have taken all action required by applicable law or regulations to perfect a Lien in such United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality.

        "Responsible Officer" of the Guarantor, shall mean any president or senior vice president of the Guarantor.

        "Restricted Subsidiary" shall mean any Subsidiary of the Guarantor that is not (x) an Asset Company, (y) an Investment Vehicle or (z) an Unrestricted Subsidiary.

        "S&P" shall mean Standard & Poor's Ratings Service, a division of McGraw Hill Companies, Inc.

        "Sale/Leaseback" shall mean any lease whereby any Person becomes or remains liable as lessee or as guarantor or other surety of any property, whether now owned or hereafter acquired, that such Person has sold or transferred or is to sell or transfer to any other Person (other than any Subsidiary of such Person), as part of a financing transaction to which such Person is a party, in contemplation of leasing such property to such Person.

        "Scheduled to be Paid" shall mean, with respect to any liability or expense for any period, the amount of such liability or expense scheduled to be paid during such period or the amount of such liability or expense that would have been scheduled to be paid during such period had the payment schedule with respect to such liability or expense been divided equally into successive periods having a duration equal to the duration of such period.

        "Subsidiary" shall mean, with respect to any Person (the "Parent"), any corporation or other entity of which sufficient securities or other ownership interests having ordinary voting power to elect a majority of the board of directors or other Persons performing similar functions are at the time directly or indirectly owned by such Parent.

        "Substitute Credit Support Amount" shall mean, as of the date any Substitute Credit Support Instrument is provided, 105% of the amount of the outstanding principal of all Tranche A Loans (or, if higher, an amount equal to 105% of the aggregate outstanding Tranche A Loan Commitments in effect at such time, or, if not in effect at such time, in effect immediately prior to any termination thereof) as determined by the Administrative Agent.

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        "Substitute Credit Support Instrument" shall mean either (a) an irrevocable letter of credit issued in form and substance satisfactory to the Security Agent in its reasonable judgment and from a bank or trust company with a combined capital and surplus of at least $1,000,000,000 whose unsecured senior long term debt is rated at least "A" by S&P and "A2" by Moody's; provided that such letter of credit shall contain provisions that authorize a draw on such letter of credit in the event that (i) either (A) there is a downgrade in the credit rating of the issuer of such letter of credit to below the level specified above or (B) such issuer is no longer rated by both S&P and Moody's and such letter of credit is not replaced with a Substitute Credit Support Instrument within thirty (30) days after such event, (ii) such letter of credit is not replaced or renewed by no later than fifteen (15) Business Days prior to its date of expiration or (iii) an Event of Default shall have occurred and be continuing and the Guaranteed Obligations are then due and payable or (b) a Guaranty in form and substance satisfactory to, and issued by a Subsidiary of the Guarantor acceptable to, each Creditor in its sole discretion.

        "Swaps" shall mean, with respect to any Person, payment obligations with respect to interest rate swaps, currency swaps and similar obligations obligating such Person to make payments, whether periodically or upon the happening of a contingency. The amount of the obligation under any Swap shall be the amount determined in respect thereof as of the end of the then most recently ended fiscal quarter of such Person, based on the assumption that such Swap had terminated at the end of such fiscal quarter, and in making such determination, if any agreement relating to such Swap provides for the netting of amounts payable by and to such Person thereunder of if any such agreement provides for the simultaneous payment of amounts by and to such Person, then in each such case, the amount of such obligation shall be the net amount so determined.

        "Total Capitalization" shall mean, with respect to the Guarantor, the sum, without duplication, of (i) total common stock equity or analogous ownership interests of the Guarantor, (ii) preferred stock and preferred securities of the Guarantor, (iii) additional paid in capital or analogous interests of the Guarantor, (iv) retained earnings of the Guarantor, excluding other comprehensive income arising from accounting treatment of hedging and mark-to-market transactions and (v) the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen.

        "Trading Arrangement" shall mean any transaction entered into by PG&E Energy Trading—Power, L.P., a Delaware limited partnership, PG&E Energy Trading Gas Corporation, a California corporation, or PG&E Energy Trading, Canada Corporation, an Alberta corporation, any other Restricted Subsidiary, Asset Company or Investment Vehicle, whether pursuant to master trading agreements or otherwise, for (1) the purchase and sale of energy, capacity, ancillary services and other energy or energy-related products, including transmission rights, environmental allowances and offsets and storage; (2) the purchase and sale of natural gas, coal, oil and other fuel, including transportation and storage rights; (3) the purchase and sale of fuel conversion services, including tolling arrangements; (4) the purchase and sale of any energy or energy-related derivatives, including weather derivatives; (5) hedging arrangements with respect to any of the foregoing and interest rate, foreign currency or credit exposure; or (6) any similar arrangements entered into in the ordinary course of business as conducted by such Persons or by other Persons in the energy trading, energy services, power generating, electric transmission or gas transmission and storage businesses (including technologies related to such businesses).

        "Unfunded Liabilities" shall mean, with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability

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of the Guarantor or any ERISA Affiliate to the PBGC or any other Person under Title IV of ERISA.

        "United States" or "U.S." or "US" shall mean the United States of America.

        "United States or Canadian Governmental Securities" shall mean securities issued, or fully guaranteed or insured by the United States or Canadian government.

        "Unrestricted Subsidiary" shall mean any Subsidiary of the Guarantor designated as such on the Closing Date, or, after the Closing Date, designated as such at the time of formation thereof or, if acquired by the Guarantor, at the time of acquisition thereof, but, in any such case, only if at such time (i) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or would occur as a result thereof and (ii) such Subsidiary or any of its Subsidiaries does not own any capital stock or Indebtedness of or have any Investment in, or own or hold any Lien on any property of, any other Subsidiary of the Guarantor which is not a Subsidiary of the Subsidiary to be so designated or otherwise an Unrestricted Subsidiary.

        "USGenNE" shall mean USGen New England, Inc., a Delaware corporation and an indirect, wholly-owned Subsidiary of the Guarantor.

        "USGenNE Credit Agreement" shall mean the $575,000,000 Credit Agreement, dated as of September 1, 1998, among USGenNE, the lenders party thereto, The Chase Manhattan Bank, as competitive advance facility agent and as administrative agent for the lenders thereunder, and The Chase Manhattan Bank, as the issuer of letters of credit thereunder, the same may be amended, modified or supplemented from time to time.

        1.02.    Other Definitional Provisions.    The following rules of usage shall apply unless otherwise required by the context or unless otherwise specified herein:

        (a)  Definitions set forth herein shall be equally applicable to the singular and plural forms of the terms defined.

        (b)  References in any document to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits are references to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits in such document.

        (c)  The headings, subheadings and table of contents used herein are solely for convenience of reference and shall not constitute a part hereof nor shall they affect the meaning, construction or effect of any provision hereof.

        (d)  References to any Person shall include such Person, its successors and permitted assigns and transferees.

        (e)  Reference to any agreement means such agreement as amended, supplemented or otherwise modified from time to time in accordance with the applicable provisions thereof.

        (f)    References to any law includes any amendment or modification to such law and any rules or regulations issued thereunder or any law enacted in substitution or replacement thereof.

        (g)  The words "hereof," "herein", "hereto" and "hereunder" and words of similar import when used in this Guarantee and Agreement shall refer to this Guarantee and Agreement as a whole and not to any particular provision of this Guarantee and Agreement.

        (h)  References to "including" means including without limiting the generality of any description preceding such term and for purposes hereof the rule of ejusdem generis shall not be applicable to limit a general statement, followed by or referable to an enumeration of specific matters, to matters similar to those specifically mentioned.

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        (i)    Each of the parties to this Guarantee and Agreement and their counsel have reviewed and revised, or requested revisions to this Guarantee and Agreement, and the usual rule of construction that any ambiguities are to be resolved against the drafting party shall be inapplicable in the construing and interpretation of this Guarantee and Agreement and any amendments hereto.

        (j)    Except as otherwise expressly provided herein, all terms of an accounting or financial nature shall be construed in accordance with GAAP, as in effect from time to time; provided that for purposes of determining compliance with any covenant set forth herein, such terms shall be construed in accordance with GAAP as in effect on the date hereof applied on a basis consistent with the application used in preparing the Guarantor's audited financial statements.

SECTION II GUARANTEE

        2.01.    Guarantee; Payment.    (a) Subject to the terms herein, the Guarantor unconditionally guarantees to the Security Agent for the benefit of the Creditors, the prompt and complete payment when due of the Guaranteed Obligations. This is a guarantee of payment and not of collection.

        (b)  When and at such time as an Event of Default shall have occurred and be continuing, the Security Agent shall be entitled to make a Payment Demand to the Guarantor in accordance with Section 2.04 for the payment of all due and unpaid Guaranteed Obligations, subject to the provisions of Section 2.02. The Guarantor shall pay such Guaranteed Obligations to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        (c)  When and at such time as a NEG Trigger Event (whether or not an Event of Default is then continuing) shall have occurred and be continuing, the Security Agent shall be entitled (to the extent that a Payment Demand has not been made pursuant to paragraph (b) of this Section) to make a Payment Demand for the payment of the Guarantee Draw Amount. The Guarantor shall pay the Guarantee Draw Amount to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        (d)  If an Event of Default is continuing at any time after payment of the Guarantee Draw Amount is made pursuant to paragraph (c) of this Section, the Security Agent shall be entitled to make a Payment Demand in an amount equal to the Maximum Guarantee Amount applicable at such time less any amount previously paid by the Guarantor pursuant to paragraph (c) of this Section. The Guarantor shall pay such amount to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        2.02.    Extent of Liability.    The Guarantor's liability for the Guaranteed Obligations under this Guarantee and Agreement is limited to the Maximum Guarantee Amount. Except as the same comprise Guaranteed Obligations under the Operative Documents, the Guarantor shall not be liable hereunder for special, consequential, exemplary, tort or other damages. The Guarantor agrees to pay all out-of-pocket expenses (including the reasonable fees and expenses of Security Agent's counsel) incurred for the enforcement of the rights of Security Agent hereunder; provided that the Guarantor shall not be liable for any such expenses if no payment in respect of the Guaranteed Obligations is due. Subject to reinstatement pursuant to Section 2.03, this Guarantee and Agreement shall remain in full force and effect until the NEG Guarantee Release Date unless otherwise terminated in writing by the Guarantor and the Security Agent.

        2.03.    Nature of Guarantee.    The Guarantor acknowledges and agrees that its guarantee obligations under this Guarantee and Agreement shall be construed as continuing, absolute and unconditional without regard to (a) the validity, regularity or enforceability of any Operative Documents, any of the Guaranteed Obligations or any other collateral security therefor or guaranty or right of offset with respect thereto at any time or from time to time held by the Security Agent or any

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Creditor, (b) any defense, set-off or counterclaim (other than a defense of payment or performance) which may at any time be available to or be asserted by the Company or the Guarantor against the Security Agent or any Creditor, or (c) any other circumstance whatsoever (with or without notice to or knowledge of the Company or the Guarantor) which constitutes, or might be construed to constitute, an equitable or legal discharge of the Guaranteed Obligations (other than payment or performance), in bankruptcy or in any other instance. The Guarantor's obligations hereunder with respect to any Guaranteed Obligations shall not be affected by the existence, validity, enforceability, substitution, perfection, or extent of any collateral for such Guaranteed Obligations. The Security Agent shall be entitled but shall not be obligated to file any claim relating to the Guaranteed Obligations owing to it if the Company becomes subject to a bankruptcy, reorganization or similar proceeding and the failure of the Security Agent to so file shall not affect the Guarantor's obligations hereunder. If any payment to the Security Agent made by the Company or the Guarantor with respect to any Guaranteed Obligations is rescinded or must otherwise be returned for any reason whatsoever, the Guarantor shall remain liable therefor hereunder (and its obligations reinstated hereunder if previously terminated) with respect to such Guaranteed Obligations as if such payment had not been made. The Guarantor reserves the right to assert defenses that the Company may have under the Operative Documents to payment of any Guaranteed Obligation other than (i) defenses arising from the bankruptcy, insolvency, incapacity, liquidation or dissolution of the Company, and (ii) defenses arising out of the matters described above in this Section 2.03 or any other circumstance or event that might otherwise constitute a legal or equitable discharge of a guarantor or a surety generally.

        2.04.    Demands and Notice; Application of Proceeds.    (a) A Payment Demand shall be sufficient notice to the Guarantor to pay under this Guarantee and Agreement. The Guarantor shall make all payments of amounts owing pursuant to this Guarantee and Agreement by wire transfer of immediately available funds to the account specified by the Security Agent in the Payment Demand. Notices under this Guarantee and Agreement shall be deemed received if sent to the address specified below: (i) on the day received if served by overnight express delivery, (ii) on the next Business Day if served by facsimile transmission when sender has machine confirmation that facsimile was transmitted to the correct fax number listed below, and (iii) four Business Days after mailing if sent by certified, first class mail, return receipt requested. Any party may change its address to which notice is given hereunder by providing notice thereof in accordance with this Section 2.04.

To the Guarantor:	PG&E National Energy Group, Inc. 7500 Old Georgetown Road, 13th floor Bethesda, MD 20814 Attention: General Counsel Fax: 301.280.6913
To the Security Agent:	Citibank, N.A. 111 Wall Street, 14th Floor, Zone 3 New York, NY 10005 Attention: Citibank Agency & Trusts Fax: 212.657.3862 Tel: 212.657.7403

        (b)  The Security Agent shall apply the proceeds of any payment made hereunder to the Security Agent in accordance with Section 5.13(e) of the Security Deposit Agreement and the other provisions of the Operative Documents.

        2.05.    Consent to Modifications, Waivers.    The Security Agent and the Company may mutually agree to modify the Operative Documents, extend the time of payment or otherwise modify the terms of payment of any of the Guaranteed Obligations, without in any way impairing or affecting this Guarantee and Agreement. The Security Agent may resort to the Guarantor for payment of any of the

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Guaranteed Obligations, whether or not the Security Agent shall have resorted to any collateral security, or shall have proceeded against (or otherwise exhausted Security Agent's remedies against) the Company or any other obligor principally or secondarily obligated with respect to any of the Guaranteed Obligations. The Guarantor hereby waives demand (except in accordance with Sections 2.01 and 2.04), promptness, diligence (subject to any applicable statute of limitations), notice of acceptance of this Guarantee and Agreement, and also presentment, protest and notice of protest or dishonor of any evidences of obligations hereby guaranteed.

        2.06.    Subrogation.    The Guarantor waives any rights of subrogation or reimbursement from the Company or any other Person that may accrue to Guarantor with respect to the payment of any Guaranteed Obligation by Guarantor to Security Agent under this Guarantee and Agreement until the time that all Guaranteed Obligations owing to the Security Agent and the Creditors are fully and indefeasibly paid and the Commitments are terminated. Upon such full and indefeasible payment of all the Guaranteed Obligations owing to the Security Agent and the Creditors and the termination of the Commitments, the Guarantor shall be subrogated to the rights of the Security Agent and the Creditors against the Company, and the Security Agent agrees to take at Guarantor's expense such steps as the Guarantor may reasonably request to cause the implementation of such subrogation.

        2.07.    Substitute Credit Support.    Notwithstanding anything to the contrary set forth herein, the following provisions shall apply:

        (a)  At any time prior to the termination of the Guaranteed Obligations, the Guarantor may deliver or cause to be delivered to Security Agent a Substitute Credit Support Instrument with a stated amount at least equal to the Substitute Credit Support Amount in substitution for this Guarantee and Agreement in accordance with this Section 2.07.

        (b)  Upon delivery of a Substitute Credit Support Instrument together with a legal opinion satisfactory to the Administrative Agent that the delivery of such instrument would not constitute a preference in a bankruptcy of the Guarantor or, if no legal opinion is delivered with such Substitute Credit Support Instrument, upon the 91^st day after the delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), this Guarantee and Agreement shall terminate and the Guarantor shall be relieved of any liability hereunder. Within ten (10) days of the receipt of such Substitute Credit Support Instrument together with such legal opinion, if applicable, or on the 91^st day after delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), if applicable, the Security Agent shall return to the Guarantor this Guarantee and Agreement together with any certificate or other documentation reasonably requested by the Guarantor in order to confirm the cancellation of this Guarantee and Agreement.

SECTION III REPRESENTATIONS AND WARRANTIES

        The Guarantor represents and warrants to the Security Agent and each of the Creditors as of the date hereof and on each date extensions of credit are to be made pursuant to the Participation Agreement and on or prior to the Conversion Date as follows (except to the extent that any representation or warranty hereunder is made with respect to an earlier date, in which case such representation and warranty shall be deemed to have been made on such earlier date):

        3.01.    Organization; Powers; Ownership of Property.    The Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) (a) is duly formed, validly existing and in good standing under the laws of the jurisdiction of its formation, except, with respect to such Subsidiaries, where the failure to be validly existing or in good standing is not reasonably likely to result in a Material Adverse Effect, (b) has all requisite power and authority to own its property and assets and to carry on its business as now conducted and as proposed to be conducted, (c) is qualified to do business in every jurisdiction

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where such qualification is required, except where the failure so to qualify is not reasonably likely to result in a Material Adverse Effect, (d) as to the Guarantor only, has the power and authority to execute, deliver and perform its obligations under this Guarantee and Agreement, and (e) owns and has good and marketable title to all of its properties and assets, subject to no Liens other than those permitted by Section 4.11 hereof, except where the failure to own or to have good and marketable title to such property or asset is not reasonably likely to result in a Material Adverse Effect.

        3.02.    Authorization.    The execution, delivery and performance by the Guarantor of this Guarantee and Agreement (a) have been duly authorized by all requisite corporate action on the part of the Guarantor, and (b) will not (i) violate (A) any provision of any law, statute, rule or regulation to which the Guarantor is subject, (B) the articles of incorporation or by-laws of the Guarantor, (C) any order of any Governmental Authority to which the Guarantor is subject, or (D) any material provision of any indenture, agreement or other instrument to which the Guarantor is a party or by which it or any of its property is or may be bound, which such violation is reasonably likely to result in a Material Adverse Effect, (ii) constitute (alone or with notice or lapse of time or both) a default under any such indenture, agreement or other instrument, which such default is reasonably likely to result in a Material Adverse Effect or (iii) result in the creation or imposition of any Lien upon any property or assets of the Guarantor, which such Lien is reasonably likely to result in a Material Adverse Effect.

        3.03.    Enforceability.    This Guarantee and Agreement constitutes a legal, valid and binding obligation of the Guarantor enforceable in accordance with its terms except to the extent that enforcement may be limited by bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally.

        3.04.    Financial Statements.    (a) The unaudited consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 1999, and the related consolidated statements of income, retained earnings and cash flows for the fiscal period then ended, a copy of which was delivered to the Administrative Agent on March 21, 2000, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such date and their consolidated results of operations and cash flows for such period ending on such date.

        (b)  The unaudited consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 2000, and the related consolidated statements of income and retained earnings for the fiscal period then ended, a copy of which was delivered to the Administrative Agent on March 21, 2000, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such date and their consolidated results of operations for such period ending on such date. As of the date hereof, there has been no material adverse change in the financial statements of the Guarantor from the unaudited financial statements referred to in the preceding sentence.

        (c)  The assumptions used in preparing the Projections were made in good faith and are reasonable as of the date of such Projections and as of the date hereof.

        (d)  Since December 31, 2000, there has been no development or condition that has had, or could reasonably be expected to result in, a Material Adverse Effect (assuming that the transactions contemplated by the Other NEG Guarantees shall have occurred).

        3.05.    Litigation.    Except as set forth on Schedule 3.05, there is no action, suit or proceeding pending against, or to the Actual Knowledge of the Guarantor threatened against or affecting, the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) before any court or arbitrator or any governmental body, agency or official in which an adverse decision is reasonably likely to result in a Material Adverse Effect or call into question the enforceability of this Guarantee and Agreement.

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        3.06.    Federal Reserve Regulations.    (a) Neither the Guarantor nor any of its Subsidiaries is engaged principally, or as one of its important activities, in the business of extending, credit for the purpose of purchasing or carrying Margin Stock.

        (b)  Not more than 25% of the value of the assets of the Guarantor is represented by Margin Stock.

        3.07.    Investment Company Act; Public Utility Holding Company Act.    (a) Neither the Guarantor nor any of its Subsidiaries is an "investment company" as defined in, or subject to regulation under, the Investment Company Act of 1940.

        (b)  The Guarantor is not a "holding company" but is a "subsidiary company" and an "affiliate" of a "holding company", the Parent, that is exempt from all provisions, except Section 9(a)(2), of the Public Utility Holding Company Act of 1935, as amended, and the execution, delivery and performance by the Guarantor of this Guarantee and Agreement and its obligations hereunder do not violate any provision of such Act or any rule or regulation thereunder.

        3.08.    No Material Misstatements.    The reports, financial statements and other written information furnished by or on behalf of the Guarantor to the Security Agent or any Creditor pursuant to or in connection with this Guarantee and Agreement do not contain, when taken as a whole, any untrue statement of a material fact and do not omit, when taken as a whole, to state any fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading in any material respect.

        3.09.    Taxes.    The Guarantor has filed or caused to be filed all Federal and material state and local tax returns which to its Actual Knowledge are required to be filed by it, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than any taxes or assessments the validity of which is being contested in good faith by appropriate proceedings and with respect to which appropriate accounting reserves have to the extent required by GAAP been set aside. Each Subsidiary of the Guarantor (other than any Unrestricted Subsidiary) has filed or caused to be filed all Federal and material state and local tax returns which to the Actual Knowledge of the Guarantor or such Subsidiary are required to be filed by such Subsidiary, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than the taxes the failure of which to pay or file a return with respect thereto is not reasonably likely to result in a Material Adverse Effect.

        3.10.    Employee Benefit Plans.    With respect to each Plan, the Guarantor and its ERISA Affiliates are in compliance in all material respects with the applicable provisions of ERISA and the Code and the final regulations and published interpretations thereunder. No ERISA Event has occurred that alone or together with any other ERISA Event has resulted or is reasonably likely to result in a Material Adverse Effect.

        3.11.    Governmental Approval; Compliance with Law and Contracts.    Each of the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) is in compliance with (a) and has obtained each Governmental Approval applicable to it in respect of this Guarantee and Agreement, the conduct of its business and the ownership of its property, each of which (i) is in full force and effect, (ii) is sufficient for its purpose without any material restraint or adverse condition and (iii) is not subject to any waiting period, further action on the part of any Governmental Authority or other Person, or stay or injunction, (b) all applicable laws relating to its business and (c) each indenture, agreement or other instrument to which it is a party or by which it or any of its property is or may be bound that is material to the conduct of its business, except in each such case for noncompliances which, and Governmental Approvals the failure to possess which, are not, singly or in the aggregate, reasonably likely to result in a Material Adverse Effect.

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        3.12.    Environmental Matters.    Except as set forth in Schedule 3.12 or as set forth in or contemplated by the financial statements or other reports of the type referred to in Section 3.04 hereof and which have been delivered to the Administrative Agent on or prior to the date hereof, the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) have complied in all material respects with all Federal, state, local and other statutes, ordinances, orders, judgments, rulings and regulations relating to environmental pollution or to environmental or nuclear regulation or control, except to the extent that failure to so comply is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, neither the Guarantor nor any of its Subsidiaries (other than Unrestricted Subsidiaries) has received notice of any material failure so to comply, except where such failure is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, no facilities of the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) are used to manage any hazardous wastes, hazardous substances, hazardous materials, toxic substances, toxic pollutants or substances similarly denominated, as those terms or similar terms are used in the Resource Conservation and Recovery Act, the Comprehensive Environmental Response Compensation and Liability Act, the Hazardous Materials Transportation Act, the Toxic Substance Control Act, the Clean Air Act, the Clean Water Act or any other applicable law relating to environmental pollution, or any nuclear fuel or other radioactive materials, in violation of any law or any regulations promulgated pursuant thereto, except to the extent that such violations, individually or in the aggregate, are not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, the Guarantor is aware of no events, conditions or circumstances involving environmental pollution or contamination that are reasonably likely to result in a Material Adverse Effect.

        3.13.    Ranking.    Under applicable laws in force on the date hereof, the claims and rights of the Security Agent under this Guarantee and Agreement in respect of the Guaranteed Obligations shall not be subordinate to, and shall rank at least pari passu in all respects with, the claims and rights of any other holders of unsecured Indebtedness of the Guarantor.

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        3.14.    Unrestricted Subsidiaries.    All Unrestricted Subsidiaries designated as such on the date hereof are identified on Schedule 3.14.

        3.15.    Separateness from PG&E.    (a) The Guarantor has operated as a business entity separate and distinct in all relevant respects from PG&E Corp. and PG&E such that the Guarantor believes there exists no reasonable basis for a substantive consolidation of NEG LLC with either PG&E Corp. or PG&E in the event of a bankruptcy proceeding with respect to either of such Persons.

        (b)  Any transfer of assets or funds from PG&E Corp. or PG&E (either directly or through PG&E Corp.) to the Guarantor during the period from the date of the Guarantor's incorporation on December 18, 1998 until the date hereof (i) was for reasonably equivalent value, (ii) was received by the Guarantor in good faith and for value and (iii) was made without intent to hinder, delay or defraud creditors of the transferor.

SECTION IV COVENANTS

        The Guarantor covenants and agrees with the Security Agent and the Creditors that, from and after the date of this Guarantee and Agreement until the Guaranteed Obligations and the Commitments shall have terminated:

        4.01.    Maintenance of Ownership.    The Guarantor shall continue (x) to own at least 50% of the equity ownership interests of, and (y) control the management and operations of, each of its Restricted Subsidiaries (except for certain Restricted Subsidiaries listed on Schedule 4.01); provided that (I) the Guarantor will in any event continue to own at least 80% of the equity ownership interests of ET Holdings and GTN, and (II) the Guarantor will continue to own (i) prior to the PG&E Gen Credit Agreement Refinancing Date, 100% of the equity ownership interests of PG&E Gen; and (ii) thereafter, at least 80% of the equity ownership interests of PG&E Gen; provided, further, that the Guarantor may wind up, dissolve or liquidate any Restricted Subsidiary (other than PG&E Gen, ET Holdings and GTN) without complying with the foregoing, so long as assets thereof are transferred or otherwise conveyed to another Restricted Subsidiary or the Guarantor.

        4.02.    Existence.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, do or cause to be done all things necessary to preserve and keep in full force and effect its legal existence and all rights, licenses, permits, franchises and authorizations necessary or desirable in the normal conduct of its business, except as otherwise permitted pursuant to Sections 4.01 (including Schedule 4.01) and 4.09, and in the case of any such Subsidiaries, except as such failure to so preserve or to keep its legal existence and such rights, licenses, permits, franchises or authorizations in full force and effect is not reasonably likely to result in a Material Adverse Effect.

        4.03.    Compliance with Law; Business and Properties.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, comply with all applicable material laws, rules, regulations and orders of any Governmental Authority, whether now in effect or hereafter enacted, except where the validity or applicability of such laws, rules, regulations or orders is being contested by appropriate proceedings in good faith or where such non-compliance is not reasonably likely to result in a Material Adverse Effect; comply with the terms of each indenture, agreement or other instrument to which it is a party and enforce all of its rights thereunder, except to the extent that noncompliance or failure to enforce is not reasonably likely to cause a Material Adverse Effect; and at all times maintain and preserve all property material to the conduct of its business and keep such property in good repair, working order and condition and from time to time make, or cause to be made, all needful and proper repairs, renewals, additions, improvements and replacements thereto necessary in order that the business carried on in connection therewith may be properly conducted at all times, except where the failure to take any such actions is not reasonably likely to result in a Material Adverse Effect.

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        4.04.    Financial Statements, Reports, Etc.    The Guarantor will furnish to the Security Agent, which will promptly forward the same to each Lender:

        (a)  as soon as available and in any event within 120 days after the end of each fiscal year of the Guarantor, a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such fiscal year and the related consolidated statements of income, retained earnings and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal year, to the extent available, all reported on by an independent public accountant of nationally recognized standing;

        (b)  as soon as available and in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Guarantor a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such quarter and the related consolidated statements of income for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, and the related consolidated statement of cash flows for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, in each case setting forth comparative figures for the previous dates and periods, to the extent available, all certified (subject to normal year-end adjustments) as to fairness of presentation, GAAP and consistency by a Financial Officer of the Guarantor;

        (c)  simultaneously with any delivery of each set of financial statements referred to in paragraphs (a) and (b) above, (i) an unconsolidated balance sheet of the Guarantor and the related unconsolidated statements of income, retained earnings and cash flows as of the same date and for the same periods applicable to the statements delivered pursuant to paragraph (a) or (b) above, as applicable, all certified (subject to normal year-end adjustments in the case of quarterly statements) as to fairness of presentation by a Financial Officer of the Guarantor and (ii) a certificate of a Financial Officer of the Guarantor (A) setting forth in reasonable detail the calculations required to establish whether the Guarantor was in compliance with the requirements of Section 4.15 on the date of such financial statements, and schedules setting forth all Indebtedness described in Section 4.12(o) that was incurred during the applicable period and (B) stating whether any NEG Trigger Event or Incipient NEG Trigger Event exists on the date of such certificate and, if any NEG Trigger Event or Incipient NEG Trigger Event then exists, setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (d)  simultaneously with the delivery of each set of financial statements referred to in paragraph (a) above, a statement of the firm of independent public accountants which reported on such statements confirming the calculations set forth in the Financial Officer's certificate delivered simultaneously therewith pursuant to subsection (c) above;

        (e)  promptly upon a Responsible Officer of the Guarantor obtaining Actual Knowledge of the occurrence of any NEG Trigger Event or Incipient NEG Trigger Event, a certificate of a Financial Officer of the Guarantor setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (f)    on or prior to the date of incurrence of any Indebtedness pursuant to Section 4.12(c) or (l) or the date of any Distribution pursuant to Section 4.14, (i) a certificate of a Financial Officer of the Guarantor setting forth in reasonable detail the calculations demonstrating compliance by the Guarantor with the applicable financial tests, together with the pro forma calculations referred to in the applicable Section, and copies of all financial statements and other supporting documents and reports, if any, upon which the Guarantor relied in making such calculations, and (ii) with respect to Section 4.12(c) and (l) only, written evidence of the confirmation of the rating agency ratings, to the extent such confirmation is required under Section 4.12 (c) or (l), as the case may be;

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        (g)  (i) on or prior to the date hereof, copies of the PG&E Gen Credit Agreements, ET Credit Agreements, GTN Credit Agreements, and USGenNE Credit Agreements, in each case accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete, and (ii) promptly upon any refinancing of the loans under any such facility, copies of the refinancing documents, accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete; and

        (h)  on each date extensions of credit are to be made pursuant to the Participation Agreement and on or prior to the proposed Conversion Date, a certificate to the effect that the representations and warranties made by the Guarantor and contained in Section III hereof are true and correct in all material respects as of such date, except to the extent made with respect to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects as of such earlier date.

        4.05.    Insurance.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, maintain such insurance or self insurance, to such extent and against such risks, including fire and other risks insured against by extended coverage, as is customary with companies similarly situated and in the same or similar businesses except, in the case of any such Subsidiaries, where such failure to so maintain is not reasonably likely to result in a Material Adverse Effect.

        4.06.    Taxes, Etc.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, pay and discharge promptly when due all material taxes, assessments and governmental charges imposed upon it or upon its income or profits or in respect of its property, in each case before the same shall become delinquent or in default and before penalties accrue thereon, unless and to the extent that the same are being contested in good faith by appropriate proceedings and adequate reserves with respect thereto shall, to the extent required by GAAP, have been set aside except, in the case of any such Subsidiaries, where such failure to so pay or discharge is not reasonably likely to result in a Material Adverse Effect.

        4.07.    Maintaining Records; Access to Properties and Inspections.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain financial records in accordance with GAAP and, upon reasonable notice and at reasonable times, permit authorized representatives designated by the Administrative Agent or the Security Agent to visit and inspect its properties, books and records and to discuss its affairs, finances and condition with its officers.

        4.08.    Risk Management Procedures.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain in effect prudent risk management procedures with respect to Trading Arrangements and Swaps.

        4.09.    Merger.    The Guarantor will not consolidate or merge with or into any Person, or sell, lease or otherwise transfer, in a single transaction or in a series of transactions, all or substantially all of its assets to any Person or Persons, unless (i) the surviving Person or transferee is formed under the laws of a State of the United States of America and assumes or is responsible by operation of law for all the Guaranteed Obligations and (ii) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event shall have occurred or be continuing at the time of or after giving effect to such consolidation or merger or transfer.

        4.10.    Investments.    The Guarantor will not make any Investment, or permit any of its Restricted Subsidiaries to make any Investment, except:

        (a)  Investments in any Restricted Subsidiary, Investment Vehicle or Asset Company (or any Person that will become a Restricted Subsidiary, Investment Vehicle or Asset Company, as the case may be, upon the making of such Investment); or

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        (b)  Investments (not otherwise permitted under this Section 4.10) existing on the date of execution of Guarantee and Agreement which are identified on a Schedule 4.10; or

        (c)  Investments permitted to be incurred as Indebtedness under Section 4.12; or

        (d)  (i) Investments made by any Restricted Subsidiary in the Guarantor or any Restricted Subsidiary in connection with the Guarantor's cash management program or (ii) Investments in Cash Equivalents; or

        (e)  Investments constituting "Equity Funding Arrangements" permitted hereunder; or

        (f)    Investments otherwise made by the Guarantor and its Restricted Subsidiaries in the ordinary course of business as conducted by the Guarantor or its Restricted Subsidiaries or by other Persons in the energy trading, energy services, power generation, electric transmission or gas transmission and storage businesses (including technologies related to such businesses); or

        (g)  Investments in connection with obligations in support of Trading Arrangements; or

        (h)  Investments in any Unrestricted Subsidiary with amounts which would otherwise be available for distribution in accordance with Section 4.14.

        4.11.    Liens.    The Guarantor will not create or assume or permit to exist any Lien, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, create or assume or permit to exist any Lien, in respect of any of its property or assets of any kind (real or personal, tangible or intangible), except:

        (a)  Liens granted pursuant to Lease Obligations described in clause (i) of the definition of "Lease Obligations" and permitted by Section 4.12; or

        (b)  Liens on cash collateral securing Equity Funding Arrangements, Credit Support Arrangements, Investments or Indebtedness permitted hereunder; or

        (c)  Liens in favor of the administrative agent under the PG&E Gen Credit Agreement on funds in the "Cash Collateral Account" and on the "Cash Collateral Account" to secure the reimbursement obligations of PG&E Gen in respect of letters of credit as provided for in the PG&E Gen Credit Agreement; or

        (d)  Liens existing on the assets of any Person at the time such Person becomes a Subsidiary of the Guarantor; or

        (e)  Liens on the equity or ownership interests of any Asset Company or any Investment Vehicle which owns such Asset Company and Liens on any Equity Funding Arrangements securing the applicable Project Financing Facility; or

        (f)    Liens on any of the assets of any Asset Company or Investment Vehicle securing or in connection with the applicable Project Financing Facility; or

        (g)  Liens on any asset of the Guarantor or any Restricted Subsidiary incurred or assumed for the purpose of financing all or any part of the cost of acquiring, constructing or improving such asset, provided that such Lien attaches contemporaneously with, or within 12 months of, the purchase, construction or improvement of such asset; or

        (h)  Liens with respect to the assets of and membership interests or other equity interests in ET Holdings and its Subsidiaries to secure the NEG/ET Letter of Credit Facilities; or

        (i)    Other Liens (not otherwise permitted under this Section 4.11) existing as of the date of this Guarantee and Agreement and identified on Schedule 4.11; or

        (j)    Permitted Encumbrances; or

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        (k)  without limiting the ability to incur Liens under the other subsections of this Section 4.11, extensions or renewals of any Lien otherwise permitted to be incurred under this Section 4.11 securing Indebtedness in an amount not exceeding the principal amount of, and accrued interest on, the Indebtedness secured by such Lien as so extended or renewed at the time of such extension or renewal; provided that such Lien shall apply only to the same property theretofore subject to the same and fixed improvements constructed thereon.

        4.12.    Indebtedness.    The Guarantor will not incur, create, assume or permit to exist Indebtedness, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, incur, create, assume or permit to exist Indebtedness, except:

        (a)  Indebtedness under (i) the USGenNE Credit Agreements, the GTN Credit Agreements, the ET Credit Agreements and NEG/ET Letter of Credit Facilities (the "Refinanceable Facilities") and (ii) the PG&E Gen Credit Agreements and the other credit facilities entered into by the Guarantor or any Restricted Subsidiary prior to the date of this Guarantee and Agreement and identified on Schedule 4.12(a); provided, that this subsection (a) shall not be deemed to permit an amendment to the facilities referred to in this subsection (a) which has the effect of increasing the available commitments thereunder or, in the case of the PG&E Gen Credit Agreements, extending the maturity of the loans thereunder; or

        (b)  Lease Obligations (1) under leases for any office buildings in which the Guarantor or any of its Subsidiaries has or will have offices; (2) under leases for any equipment not to exceed $10,000,000 in the aggregate outstanding at any time; or (3) described in clause (i) of the definition thereof of the Guarantor and its Restricted Subsidiaries if, immediately after the incurrence of any such Lease Obligation, the outstanding aggregate principal amount of all such Lease Obligations (other than those Lease Obligations incurred under subsections (c), (j), (l) and (q) below) would not exceed 2% of Consolidated Tangible Net Assets; or

        (c)  Indebtedness of (i) any Asset Company under any Project Financing Facility or (ii) any Investment Vehicle under any Project Financing Facility; provided, that if any Asset Company owned (directly or indirectly) by such Investment Vehicle has incurred any Indebtedness under a Project Financing Facility, then such Investment Vehicle may only incur Indebtedness under a Project Financing Facility if (I)(x) after giving effect to such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0, calculated on a pro forma basis to include such Indebtedness and related cash flows, (y) the Guarantor's senior unsecured long-term debt is, at the time of such incurrence, rated at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's), and (z) the Guarantor obtains a reaffirmation of such ratings from S&P and Moody's (taking into account the Indebtedness to be incurred by such Investment Vehicle under this Section 4.12(c)) or (II) such Investment Vehicle owns only one Asset Company and such Indebtedness is incurred in connection with a Project Financing Facility and the proceeds thereof are promptly invested in such Asset Company; or

        (d)  Trading Arrangements and Credit Support Arrangements, to the extent such arrangements constitute Indebtedness; or

        (e)  Indebtedness with respect to any securitization, receivables financing or similar transaction entered into by ET Holdings, GTN, USGenNE or any of their respective Subsidiaries; or

        (f)    Indebtedness not otherwise permitted under this Section 4.12, existing on the date of this Guarantee and Agreement and set forth on Schedule 4.12(f); or

        (g)  Indebtedness under any Swap; or

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        (h)  Permitted Subordinated Indebtedness; or

        (i)    Indebtedness between any of the Guarantor, any Restricted Subsidiary, Investment Vehicle, any Asset Company or any Indebtedness under any short-term overdraft lines of credit or similar arrangements entered into in the ordinary course of business, in each case associated with the Guarantor's cash management program; or

        (j)    Indebtedness attributable to any Permitted Sale-Leaseback Transactions; or

        (k)  Any Guaranty constituting Indebtedness of the Guarantor or any Restricted Subsidiary, Investment Vehicle or Asset Company under clause (ix) of the definition of "Indebtedness" to the extent that the obligations covered by such Guaranty are not reasonably quantifiable under GAAP; or

        (l)    other Indebtedness of the Guarantor or any Restricted Subsidiary (other than PG&E Gen) incurred after the date of this Guarantee and Agreement, provided that (i) after giving effect to any such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0 (calculated on a pro forma basis as of the end of the most recent fiscal quarter with respect to which financial statements of the Guarantor are available and assuming for such purpose that such Indebtedness was incurred one year prior to the end of such fiscal quarter and taking into account any related cash flows) and (ii) if such Indebtedness would constitute Indebtedness of a Restricted Subsidiary, no Asset Company, Investment Vehicle or Restricted Subsidiary owned directly or indirectly by such Restricted Subsidiary has Indebtedness outstanding which would otherwise be permitted under Section 4.12(a), (b)(3), (c), (h), (j), (l), (o) or (p); provided, further, that clause (ii) of this Section 4.12(l) will not be applicable if the Guarantor obtains a reaffirmation of the rating of its senior unsecured long-term debt of at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's) after taking into account the Indebtedness to be incurred by such Restricted Subsidiary and related cash flows; or

        (m)  Indebtedness of the Guarantor or any Restricted Subsidiary in respect of letters of credit or surety, performance or bid bonds used in the ordinary course of business not in excess of $25,000,000 in the aggregate outstanding at any time; or

        (n)  Indebtedness constituting intercompany loans (1) between the Guarantor and its Restricted Subsidiaries or between such Restricted Subsidiaries or (2) made by the Guarantor, any Restricted Subsidiary, any Investment Vehicle or any Asset Company to any Investment Vehicle or any Asset Company or (3) made by any Investment Vehicle to the Guarantor, any Restricted Subsidiary, or any other Investment Vehicle; or

        (o)  Equity Funding Arrangements; or

        (p)  without limiting the ability to incur Indebtedness under the other subsections of this Section 4.12, any refinancing of any Indebtedness permitted under Section 4.12(f) and under the Refinanceable Facilities, provided that either (i) (x) the average life of any refinanced Indebtedness shall not be less than the average life of the Indebtedness so refinanced (plus fees and expenses, including any premium or defeasance costs, of such refinancing), taking into account the prepayment or repayment of a portion of any such Indebtedness, and (y) the principal amount of the refinanced Indebtedness shall not exceed the principal amount plus accrued interest thereon of the Indebtedness so refinanced, or (ii) the Guarantor shall demonstrate pro forma compliance with the financial ratio described in Section 4.12(l) above; or

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        (q)  Indebtedness of any Subsidiary of the Guarantor existing at the time such Person becomes a Subsidiary of the Guarantor (except for any such Indebtedness of such Subsidiary incurred in contemplation of or to finance the acquisition of such Subsidiary); or

        (r)  Indebtedness of the Guarantor incurred in connection with a refinancing of any Indebtedness of PG&E Gen under the PG&E Gen Credit Agreements in an aggregate principal amount not to exceed $1,250,000,000.

        4.13.    Transactions with Affiliates.    The Guarantor will not enter into, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to enter into, any transaction with any Affiliate of the Guarantor (other than the Guarantor, any Subsidiary of the Guarantor, any Investment Vehicle and any Asset Company), except:

        (a)  transactions with such Affiliates upon fair and reasonable terms which are no less favorable to the Guarantor than would be obtained in a comparable arm's length transaction with a Person not an Affiliate of the Guarantor;

        (b)  management, operating, sharing or other similar services arrangements between and among the Guarantor, its Subsidiaries and its other Affiliates either existing on the date hereof and described on Schedule 4.13 or entered into after the date hereof on commercially reasonable terms;

        (c)  tax sharing arrangements between the Guarantor and PG&E Corp. approximating the tax position that the Guarantor would be in if it were not part of PG&E Corp.'s consolidated group, as determined by the management of the Guarantor in its reasonable business judgment or such other arrangements as may be approved by the Lenders prior to the date hereof; or

        (d)  paying or declaring any Distribution to the extent permitted under Section 4.14.

        The provisions of this Section 4.13 shall not apply to (i) transactions between the Guarantor or any of its Subsidiaries, on the one hand, and any employee of the Guarantor or any of its Subsidiaries, on the other hand, that are approved by the Board of Directors of the Guarantor or any committee of the Board of Directors and (ii) the payment of reasonable and customary regular fees to directors of the Guarantor or any Subsidiary of the Guarantor.

        4.14.    Distributions.    The Guarantor will not declare or make any Distribution if (a) an NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or shall occur after giving effect to such Distribution, (b) the Ratio of Cash Flow to Fixed Charges of the Guarantor determined as of the end of the immediately preceding fiscal quarter was not at least 2.0:1.0 or (c) the Guarantor fails to satisfy the requirements of the test set forth in Section 4.15(b), or the Guarantor fails to have a Consolidated Net Worth of at least $2.15 billion, in each case calculated on a pro forma basis as of the end of the most recent fiscal period with respect to which financial statements of the Guarantor are available (assuming such Distribution and all material events with respect to the Guarantor and its Subsidiaries which occurred after the end of such fiscal period had occurred on the last day of such fiscal period); provided that the Guarantor may declare and make Distributions of assets of or equity ownership interests in any Unrestricted Subsidiary at any time without complying with the foregoing.

        4.15.    Financial Covenants:    (a) The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Cash Flow to Fixed Charges to be less than 1.5:1.0.

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        (b)  The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Debt to Capitalization to be greater than 0.6:1.0.

        (c)  The Guarantor shall not, at the end of each fiscal quarter, permit (i) Consolidated Net Worth to be less than the Minimum Consolidated Net Worth and (ii) Non-Trading Consolidated Net Worth to be less than the Minimum Non-Trading Consolidated Net Worth.

        4.16.    Separateness from PG&E Corp.    The Guarantor shall (i) maintain adequate capital in light of the business in which it is engaged; (ii) maintain books and corporate records separate from PG&E Corp. and PG&E; (iii) not commingle assets with PG&E Corp. or PG&E; and (iv) conduct business in its own name and hold itself out as separate from PG&E Corp. and PG&E. The Guarantor shall promptly notify the Security Agent upon a Responsible Officer of the Guarantor obtaining Actual Knowledge that a creditor of PG&E Corp. or of PG&E has made a claim or filing in writing seeking the substantive consolidation of NEG LLC in any bankruptcy proceeding of PG&E Corp. or of PG&E.

        4.17.    PG&E Gen Credit Agreement Covenants.    Prior to the PG&E Gen Credit Agreement Refinancing Date, the Guarantor will not permit PG&E Gen to default in any material respect in the due observance or performance of its covenants under Sections 5.08, 5.11, 5.12, 5.13 and 5.14 of the $1.1 Billion PG&E Gen Credit Agreement.

        4.18.    Audited 2000 Financial Statements.    The audited financial statements for the fiscal year ended December 31, 2000 to be delivered by the Guarantor pursuant to Section 4.04(a) shall not reflect any material adverse change from the unaudited financial statements for the same period referred to in Section 3.04(b).

SECTION V NEG TRIGGER EVENTS

        5.01.    NEG Trigger Events.    The following shall constitute NEG Trigger Events:

        (a)  any Event of Default; or

        (b)  any representation or warranty made or deemed made by (1) the Guarantor in or in connection with the execution and delivery of this Guarantee and Agreement, or (2) NEG LLC in the Letter Agreement, shall prove to have been false or misleading in any material respect when so made, deemed made or furnished; or

        (c)  the Guarantor shall default in any material respect in the due observance or performance of any agreement contained in Section 4.01, Section 4.09, Section 4.14 or Section 4.15; or

        (d)  (1) the Guarantor shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in this Guarantee and Agreement (other than those specified in 5.01(c) above), or (2) NEG LLC shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in the Letter Agreement, and in each case, such default shall continue unremedied for a period of 30 days after notice thereof from the Security Agent; or

        (e)  the Guarantor or any Restricted Subsidiary shall default in respect of any Indebtedness or default in its obligations to make payments when due under any Equity Funding Arrangements which at the time have an aggregate principal amount outstanding or, in the case of Equity Funding Arrangements, due and unpaid, in excess of $50,000,000, and as a result thereof such Indebtedness shall have been accelerated or otherwise be or become due or subject to prepayment in full prior to its stated maturity; or

        (f)    an involuntary proceeding shall be commenced or an involuntary petition shall be filed in a court of competent jurisdiction seeking (i) relief in respect of the Guarantor or any Restricted Subsidiary or of a substantial part of the property or assets of the Guarantor or any Restricted

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Subsidiary under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary or (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary or (iii) the winding up or liquidation of the Guarantor or any Restricted Subsidiary; and such proceeding or petition shall continue undismissed for 60 days or an order or decree approving or ordering any of the foregoing shall be entered; or

        (g)  the Guarantor or any Restricted Subsidiary shall (i) voluntarily commence any proceeding or file any petition seeking relief under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) consent to the institution of, or fail to contest in a timely and appropriate manner, any proceeding or the filing of any petition described in Section 5.01(f) above, (iii) apply for or consent to the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary, (iv) file an answer admitting the material allegations of a petition filed against it in any such proceeding, (v) make a general assignment for the benefit of creditors, or (vi) take any corporate action for the purpose of effecting any of the foregoing, become unable, admit in writing its inability, or fail generally, to pay its debts as they become due; or

        (h)  one or more final judgments for the payment of money in an aggregate amount in excess of $50,000,000 (exclusive of amounts covered by insurance) shall be rendered against the Guarantor or any Restricted Subsidiary and such judgment or order shall remain undischarged, unbonded or unstayed for a period of 60 days; or

        (i)    an ERISA Event shall have occurred that, either alone or in combination with other ERISA Events that shall have occurred, is reasonably likely to result in a Material Adverse Effect.

SECTION VI MISCELLANEOUS

        6.01.    Amendments.    No provision of this Guarantee and Agreement may be amended or waived except in accordance with the Collateral Agency and Intercreditor Agreement.

        6.02.    Successors and Assigns.    This Guarantee shall bind and benefit the successors and permitted assigns of Guarantor and Security Agent and inure to the benefit of the Creditors and their successors and permitted assigns. This Guarantee shall not be deemed to benefit any Person except Security Agent and the Creditors and their successors and permitted assigns.

        6.03.GOVERNING LAW.THIS GUARANTEE SHALL BE GOVERNED BY, AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. THE GUARANTOR IRREVOCABLY SUBMITS, FOR ITSELF AND ITS PROPERTY IN ANY LEGAL ACTION RELATING TO THIS GUARANTEE, OR FOR RECOGNITION AND ENFORCEMENT OF ANY JUDGMENT IN RESPECT HEREOF OR THEREOF, TO THE NON-EXCLUSIVE JURISDICTION OF THE COURTS OF THE STATE OF NEW YORK.

        6.04.    No Waiver, Cumulative Remedies.    (a) No failure to exercise, nor any delay in exercising, on the part of the Security Agent or any Lender, any right, power or privilege hereunder shall operate as a waiver thereof. No single or partial exercise of any right, power or privilege hereunder shall preclude any other or further exercise thereof or the exercise of any other right, power or privilege. A waiver by the Security Agent or any Creditor of any right or remedy hereunder on any one occasion shall not be

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construed as a bar to any right or remedy that the Security Agent or such Creditor would otherwise have on any future occasion.

        (b)  The rights and remedies herein provided are cumulative, may be exercised singly or concurrently and are not exclusive of any other rights or remedies provided by law.

        6.05.    Authority and Rights of Security Agent.    The Guarantor acknowledges that the rights and responsibilities of the Security Agent under this Guarantee and Agreement with respect to any action taken by the Security Agent or the exercise or non-exercise by the Security Agent of any option, right, request, judgment or other right or remedy provided for herein or resulting or arising out of this Guarantee and Agreement shall, as between the Security Agent and the Creditors, be governed by the Operative Documents and by such other agreements with respect thereto as may exist from time to time among them, but, as between the Security Agent and the Guarantor, the Security Agent shall be conclusively presumed to be acting with full and valid authority so to act or refrain from acting, and the Guarantor shall not be under any obligation, or entitlement, to make any inquiry respecting such authority. The Security Agent shall be afforded the rights, privileges and immunities set forth in Section 3 of the Collateral Agency and Intercreditor Agreement as if fully set forth herein.

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        IN WITNESS WHEREOF, the parties hereto have caused this Guarantee and Agreement to be duly executed by their respective officers thereunto duly authorized as of the day and year first above written.

PG&E NATIONAL ENERGY GROUP, INC.
By:
	Name: Title:

Agreed and Accepted:
CITIBANK, N.A., NOT IN ITS INDIVIDUAL CAPACITY BUT SOLELY IN ITS CAPACITY AS SECURITY AGENT, FOR THE BENEFIT OF THE CREDITORS
By:
	Name: Title:

Schedule 1.01A

Existing Sale/Leaseback Transactions

        Facility Lease Agreement, dated as of November 30, 1998, between Bear Swamp Generating Trust No. 1 and USGen New England, Inc.

        Lease, dated as of May 12, 1988, by and between General Electric Corporation and Altresco Pittsfield, Inc.

SCHEDULE 1.01B

TERMS AND CONDITIONS OF SUBORDINATION
FOR INDEBTEDNESS OF GUARANTOR TO AFFILIATES

        All Permitted Subordinated Indebtedness (as defined in the Guarantee and Agreement to which this Schedule 1.01B is attached) incurred by PG&E National Energy Group, Inc., a Delaware corporation (the "Guarantor"), owing to any Affiliate (as defined in the Guarantee and Agreement) of the Guarantor shall be subject to the following terms and conditions, which shall be incorporated in a written agreement (the "Agreement") between the Guarantor and any Affiliate to which any such Indebtedness is owed.

        Section 1.01.    Subordination of Liabilities.    The Guarantor, for itself, its successors and assigns, covenants and agrees and each holder of the indebtedness evidenced by [DESCRIBE INDEBTEDNESS DOCUMENTATION] (the "Subordinated Indebtedness") by its acceptance thereof likewise covenants and agrees that the payment of the principal of, and interest on, and all other amounts owing in respect of, the Subordinated Indebtedness is hereby expressly subordinated, to the extent and in the manner hereinafter set forth, to the prior payment in full in cash or discharge in full of Senior Indebtedness (as defined in Section 1.08) in cash. The subordination provisions set forth herein shall constitute a continuing offer to all persons who, in reliance upon such provisions, become holders of, or continue to hold, Senior Indebtedness, and such provisions are made for the benefit of the holders of Senior Indebtedness, and such holders are hereby made obligees hereunder to the same extent as if their names were written herein as such, and they and/or each of them may proceed to enforce such provisions.

        Section 1.02.    Guarantor Not to Make Payments with Respect to Subordinated Indebtedness in Certain Circumstances.    (a) Upon the maturity of any Senior Indebtedness (including interest thereon or fees or any other amounts owing in respect thereof), whether at stated maturity, by acceleration or otherwise, all principal thereof and premium, if any, and interest thereon or fees or any other amounts owing in respect thereof, in each case to the extent due and owing at such time, shall first be paid in full in cash or discharge in full, or such payment duly provided for in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness, before any payment is made on account of the principal of (including installments thereof), or interest on, or any amount otherwise owing in respect of, the Subordinated Indebtedness. Each holder of the Subordinated Indebtedness hereby agrees that, so long as an Event of Default (as defined below), or event that with notice or lapse of time or both would constitute an Event of Default, in respect of any Senior Indebtedness exists, it will not ask, demand, sue for, or otherwise take, accept or receive, any amounts owing in respect of the Subordinated Indebtedness. As used herein, the term "Event of Default" shall mean any NEG Trigger Event (as defined below) or any Event of Default, under and as defined in, the relevant documentation governing any Senior Indebtedness, and in any event shall include any payment default with respect to any Senior Indebtedness.

        (b)  In the event that notwithstanding the provisions of the preceding subsection (a) of this Section 1.02, the Guarantor shall make any payment on account of the principal of, or interest on, or amounts otherwise owing in respect of, the Subordinated Indebtedness at a time when payment is not permitted by said subsection (a), such payment shall be held by the holder of the Subordinated Indebtedness, in trust for the benefit of, and shall be paid forthwith over and delivered to, the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, as their respective interests may appear, for application pro rata to the payment of all Senior Indebtedness remaining unpaid to the extent necessary to pay all Senior Indebtedness in full in cash in accordance with the terms of such Senior Indebtedness, after giving effect to any concurrent payment or distribution to or for the holders of Senior Indebtedness. Without in any way modifying the subordination provisions set forth herein or affecting the subordination effected hereby, the Guarantor shall give the holder of the Subordinated

Indebtedness prompt written notice of any maturity of Senior Indebtedness after which such Senior Indebtedness remains unsatisfied.

        Section 1.03.    Subordinated Indebtedness Subordinated to Prior Payment of all Senior Indebtedness on Dissolution, Liquidation or Reorganization of Guarantor.    Upon any distribution of assets of the Guarantor upon any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise):

        (a)  the holders of all Senior Indebtedness shall first be entitled to receive payment in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness of the principal thereof, premium, if any, and interest (including, without limitation, all interest accruing after the commencement of any bankruptcy, insolvency, receivership or similar proceeding at the rate provided in the governing documentation whether or not such interest is an allowed claim in such proceeding) and all other amounts due thereon before the holder of the Subordinated Indebtedness is entitled to receive any payment on account of the principal of or interest on or any other amount owing in respect of the Subordinated Indebtedness,

        (b)  any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities to which the holder of the Subordinated Indebtedness would be entitled except for the subordination provisions set forth herein, shall be paid by the liquidating trustee or agent or other person making such payment or distribution, whether a trustee or agent, directly to the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, to the extent necessary to make payment in full of all Senior Indebtedness remaining unpaid, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness; and

        (c)  in the event that, notwithstanding the foregoing provisions of this Section 1.03, any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities, shall be received by the holder of the Subordinated Indebtedness on account of principal of, or interest or other amounts due on, the Subordinated Indebtedness before all Senior Indebtedness is paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, or effective provisions made for its payment, such payment or distribution shall be received and held in trust for and shall be paid over to the holders of the Senior Indebtedness remaining unpaid or unprovided for or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, for application to the payment of such Senior Indebtedness until all such Senior Indebtedness shall have been paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness.

        Without in any way modifying the subordination provisions set forth herein or affecting the subordination effected hereby, the Guarantor shall give prompt written notice to the holder of the Subordinated Indebtedness of any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise).

        Section 1.04.    Furtherance of Subordination.    Each holder of the Subordinated Indebtedness agrees as follows:

        (a)  If any proceeding referred to in Section 1.03 above is commenced by or against the Guarantor:

          (i)  the Security Agent (as defined in the Guarantee and Agreement referred to in Section 1.08 below), acting on behalf of each holder of the Senior Indebtedness, is hereby irrevocably authorized and empowered (in its own name or in the name of the holder of the Subordinated Indebtedness or otherwise), but shall have no obligation, to demand, sue for, collect and receive every payment or distribution referred to in Section 1.03(b) and give

acquittance therefor and to file claims and proofs of claim and take such other action (including, without limitation, voting the claims arising under the Subordinated Indebtedness or enforcing any security interest or other lien securing payment of the Subordinated Indebtedness) as it may deem necessary or advisable for the exercise or enforcement of or causing the enforcement of any of the rights or interests of the holders of the Senior Indebtedness hereunder; and

        (ii)  each holder of the Subordinated Indebtedness shall duly and promptly take such action as the holders of the Senior Indebtedness may request (A) to collect the Subordinated Indebtedness for the account of the holders of the Senior Indebtedness and to file appropriate claims or proofs of claim in respect of the Subordinated Indebtedness, (B) to execute and deliver to the holders of the Senior Indebtedness such powers of attorney, assignments or other instruments as the holders of the Senior Indebtedness may request in order to enable the holders of the Senior Indebtedness to enforce any and all claims with respect to, and any security interests and other liens securing payment of, the Subordinated Indebtedness, and (C) to collect and receive any and all payments or distributions that may be payable or deliverable upon or with respect to the Subordinated Indebtedness.

        (iii)  The holders of the Senior Indebtedness are hereby authorized to demand specific performance of this Agreement, whether or not the Guarantor shall have complied with any of the provisions hereof applicable to it, at any time when the holder of the Subordinated Indebtedness shall have failed to comply with any of the provisions of this Agreement applicable to it. The holder of the Subordinated Indebtedness hereby irrevocably waives any defense based on the adequacy of a remedy at law that might be asserted as a bar to such remedy of specific performance.

        Section 1.05.    Subrogation.    Subject to the prior payment in cash in full or discharge in full of all Senior Indebtedness in cash, the holder of the Subordinated Indebtedness shall be subrogated to the rights of the holders of Senior Indebtedness to receive payments or distributions of assets of the Guarantor applicable to the Senior Indebtedness until all amounts owing in respect of the Subordinated Indebtedness shall be paid or discharged in full, and for the purpose of such subrogation no payments or distributions to the holders of the Senior Indebtedness by or on behalf of the Guarantor or by or on behalf of the holder of the Subordinated Indebtedness by virtue of the subordination provisions set forth herein that otherwise would have been made to the holder of the Subordinated Indebtedness, shall be deemed to be payment by the Guarantor to or on account of the Senior Indebtedness, it being understood that the subordination provisions set forth herein are and are intended solely for the purpose of defining the relative rights of the holder of the Subordinated Indebtedness, on the one hand, and the holders of the Senior Indebtedness, on the other hand.

        Section 1.06.    Obligation of the Guarantor Unconditional.    Nothing contained in the subordination provisions set forth herein or in the documents evidencing the Subordinated Indebtedness is intended to or shall impair, as between the Guarantor and the holder of the Subordinated Indebtedness, the obligation of the Guarantor, which is absolute and unconditional, to pay to the holder of the Subordinated Indebtedness the principal of and interest on the Subordinated Indebtedness as and when the same shall become due and payable in accordance with its terms, or is intended to or shall affect the relative rights of the holder of the Subordinated Indebtedness and creditors of the Guarantor other than the holders of the Senior Indebtedness, nor shall anything herein or therein prevent the holder of the Subordinated Indebtedness from exercising all remedies otherwise permitted by applicable law, subject to the rights, if any, under the subordination provisions set forth herein of the holders of Senior Indebtedness in respect of cash, property, or securities of the Guarantor received upon the exercise of any such remedy. Upon any distribution of assets of the Guarantor referred to herein, the holder of the Subordinated Indebtedness shall be entitled to rely upon any order or decree made by any court of competent jurisdiction in which such dissolution, winding up, liquidation or reorganization proceedings are pending, or a certificate of the liquidating trustee or agent or other person making any distribution to the holder of the Subordinated Indebtedness, for the purpose of ascertaining the persons entitled to participate in such distribution, the holders of the Senior Indebtedness and other indebtedness of the

Guarantor, the amount thereof or payable thereon, the amount or amounts paid or distributed thereon and all other facts pertinent thereto or hereto.

        Section 1.07.    Subordination Rights Not Impaired by Acts or Omissions of Guarantor or Holders of Senior Indebtedness.    (b) No rights of any present or future holders of any Senior Indebtedness to enforce subordination as herein provided shall at any time in any way be prejudiced or impaired by an act or failure to act on the part of the Guarantor or by any act or failure to act in good faith by any such holder, or by any noncompliance by the Guarantor with the terms and provisions of the Subordinated Indebtedness, regardless of any knowledge thereof which any such holder may have or be otherwise charged with. The holders of the Senior Indebtedness may, without in any way affecting the obligations of the holder of the Subordinated Indebtedness with respect thereto, at any time or from time to time and in their absolute discretion, change the manner, place or terms of payment of, change or extend the time of payment of, or renew or alter, any Senior Indebtedness, or amend, modify or supplement any agreement or instrument governing or evidencing such Senior Indebtedness or any other document referred to therein, or exercise or refrain from exercising any other of their rights under the Senior Indebtedness including, without limitation, the waiver of a default thereunder and the release of any collateral securing such Senior Indebtedness, all without notice to or consent from the holder of the Subordinated Indebtedness.

        Section 1.08.    Senior Indebtedness.    (a) The term "Senior Indebtedness" shall mean all Obligations (as defined below) of the Guarantor under the Guarantee and Agreement (as defined below).

        (c)  As used in this Agreement, the terms set forth below shall have the respective meanings provided below:

        "Guarantee and Agreement" shall mean the Guarantee and Agreement, dated as of April 6, 2001, by the Guarantor, in favor of Citibank, N.A., as Security Agent (in such capacity, the "Security Agent") for the Creditors, as same may be amended, modified, extended, renewed, restated or supplemented from time to time, and including any agreement extending the maturity of, refinancing or restructuring all or any portion of, or increasing the Obligations under such agreement or of any successor agreements.

        "NEG Trigger Event" shall have the meaning assigned to such term in the Guarantee and Agreement.

        "Obligations" shall mean the Guaranteed Obligations (as defined in the Guarantee and Agreement) and all other payment obligations of the Guarantor under the Guarantee and Agreement.

SCHEDULE 1.01C

TERMS AND CONDITIONS OF SUBORDINATION
FOR INDEBTEDNESS OF GUARANTOR TO NON-AFFILIATES

        All Permitted Subordinated Indebtedness (as defined in the Guarantee and Agreement to which this Schedule 1.01C is attached) incurred by PG&E National Energy Group, Inc., a Delaware corporation (the "Guarantor"), owing to any person other than an Affiliate (as defined in the Guarantee and Agreement) of the Guarantor shall be evidenced by a promissory note and shall have the following subordination provisions attached as Annex A thereto or incorporated within the text thereof (mutatis mutandis), and shall include in the text of such promissory note the language: "THE INDEBTEDNESS EVIDENCED BY THIS NOTE IS SUBORDINATE AND JUNIOR IN RIGHT OF PAYMENT TO ALL SENIOR INDEBTEDNESS (AS DEFINED IN ANNEX A HERETO) TO THE EXTENT PROVIDED IN ANNEX A."

ANNEX A

        Section 1.01.    Subordination of Liabilities.    The Guarantor for itself, its successors and assigns, covenants and agrees and each holder of the promissory note to which this Annex A is attached (the "Note") by its acceptance thereof likewise covenants and agrees that the payment of the principal of, and interest on, and all other amounts owing in respect of, the Note is hereby expressly subordinated, to the extent and in the manner hereinafter set forth, to the prior payment in full in cash or discharge in full of the Senior Indebtedness (as defined in Section 1.08) in cash. The provisions of this Annex A shall constitute a continuing offer to all persons who, in reliance upon such provisions, become holders of, or continue to hold, Senior Indebtedness, and such provisions are made for the benefit of the holders of Senior Indebtedness, and such holders are hereby made obligees hereunder to the same extent as if their names were written herein as such, and they and/or each of them may proceed to enforce such provisions.

        Section 1.02.    Guarantor Not to Make Payments with Respect to Notes in Certain Circumstances.

        (a)  Upon the maturity of any Senior Indebtedness (including interest thereon or fees or any other amounts owing in respect thereof), whether at stated maturity, by acceleration or otherwise, all principal thereof and premium, if any, and interest thereon or fees or any other amounts owing in respect thereof, in each case to the extent due and owing at such time, shall first be paid in full in cash or discharged in full, or such payment duly provided for in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness, before any payment is made on account of the principal of (including installments thereof), or interest on, or any amount otherwise owing in respect of, the Note. Each holder of the Note hereby agrees that, so long as an Event of Default (as defined below), or event that with notice or lapse of time or both would constitute an Event of Default, in respect of any Senior Indebtedness exists, it will not ask, demand, sue for, or otherwise take, accept or receive, any amounts owing in respect of the Note. As used herein, the term "Event of Default" shall mean any NEG Trigger Event or any Event of Default, under and as defined in, the relevant documentation governing any Senior Indebtedness, and, in any event shall include any payment default with respect to any Senior Indebtedness.

        (b)  In the event that notwithstanding the provisions of the preceding subsection (a) of this Section 1.02, the Guarantor shall make any payment on account of the principal of, or interest on, or amounts otherwise owing in respect of, the Note at a time when payment is not permitted by said subsection (a), such payment shall be held by the holder of the Note, in trust for the benefit of, and shall be paid forthwith over and delivered to, the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, as their respective interests may appear, for application pro rata, to the payment of all Senior Indebtedness remaining unpaid to the extent necessary to pay all Senior Indebtedness in full in cash in accordance with the term of such Senior Indebtedness, after giving effect to any concurrent payment or distribution to or for the holders of Senior Indebtedness.

Without in any way modifying the provisions of this Annex A or affecting the subordination effected hereby, the Guarantor shall give the holder of the Note prompt written notice of any maturity of Senior Indebtedness after which such Senior Indebtedness remains unsatisfied.

        Section 1.03.    Note Subordinated to Prior Payment of all Senior Indebtedness on Dissolution, Liquidation or Reorganization of Guarantor.    Upon any distribution of assets of the Guarantor upon any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise):

        (a)  the holders of all Senior Indebtedness shall first be entitled to receive payment in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness of the principal thereof, premium, if any, and interest (including, without limitation, all interest accruing after the commencement of any bankruptcy, insolvency, receivership or similar proceeding at the rate provided in the governing documentation whether or not such interest is an allowed claim in such proceeding) and all other amounts due thereon before the holder of the Note is entitled to receive any payment on account of the principal of or interest on or any other amount owing in respect of the Note;

        (b)  any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities to which the holder of the Note would be entitled except for the provisions of this Annex A shall be paid by the liquidating trustee or agent or other person making such payment or distribution, whether a trustee or agent; directly to the holders of Senior Indebtedness or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, to the extent necessary to make payment in full of all Senior Indebtedness remaining unpaid, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness; and

        (c)  in the event that, notwithstanding the foregoing provisions of this Section 1.03, any payment or distribution of assets of the Guarantor of any kind or character, whether in cash, property or securities, shall be received by the holder of the Note on account of principal of, or interest or other amounts due on, the Note before all Senior Indebtedness is paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, or effective provisions made for its payment, such payment or distribution shall be received and held in trust for and shall be paid over to the holders of the Senior Indebtedness remaining unpaid or unprovided for or their representative or representatives under the agreements pursuant to which the Senior Indebtedness may have been issued, for application to the payment of such Senior Indebtedness until all such Senior Indebtedness shall have been paid in full in cash or in a manner satisfactory to the holder or holders of such Senior Indebtedness or otherwise discharged in full, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness.

        Without in any way modifying the provisions of this Annex A or affecting the subordination effected hereby, the Guarantor shall give prompt written notice to the holder of the Note of any dissolution, winding up, liquidation or reorganization of the Guarantor (whether in bankruptcy, insolvency or receivership proceedings or upon an assignment for the benefit of creditors or otherwise).

        Section 1.04.    In Furtherance of Subordination.    Each holder of the Note agrees as follows:

        (a)  If any proceeding referred to in Section 1.03 above is commenced by or against the Guarantor

          (i)  the Security Agent (as defined in the Guarantee and Agreement referred to in Section 1.08 below), acting on behalf of each holder of the Senior Indebtedness, is hereby irrevocably authorized and empowered (in its own name or in the name of the holder of the Note or otherwise), but shall have no obligation, to demand, sue for, collect and receive every payment or distribution referred to in Section 1.03(b) and give acquittance therefor and to file claims and proofs of claim and take such other action (including, without limitation, voting the claims arising under the Note or enforcing any security interest or other lien securing payment

of the Note) as it may deem necessary or advisable for the exercise or enforcement of or causing the enforcement of any of the rights or interests of the holders of the Senior Indebtedness hereunder; and

        (ii)  The holders of the Senior Indebtedness are hereby authorized to demand specific performance of this Note, whether or not the Guarantor shall have complied with any of the provisions hereof applicable to it, at any time when the holder of the Note shall have failed to comply with any of the provisions of this Note applicable to it. The holder of the Note hereby irrevocably waives any defense based on the adequacy of a remedy at law that might be asserted as a bar to such remedy of specific performance.

        Section 1.05.    Subrogation.    Subject to the prior payment in cash in full or discharge in full of all Senior Indebtedness in cash, the holder of the Note shall be subrogated to the rights of the holders of Senior Indebtedness to receive payments or distributions of assets of the Guarantor applicable to the Senior Indebtedness until all amounts owing on the Note shall be paid or discharged in full, and for the purpose of such subrogation no payments or distributions to the holders of the Senior Indebtedness by or on behalf of the Guarantor or by or on behalf of the holder of the Note by virtue of this Annex A which otherwise would have been made to the holder of the Note, shall be deemed to be payment by the Guarantor to or on account of the Senior Indebtedness, it being understood that the provisions of this Annex A are and are intended solely for the purpose of defining the relative rights of the holder of the Note, on the one hand, and the holders of the Senior Indebtedness, on the other hand.

        Section 1.06.    Obligation of the Guarantor Unconditional.    Nothing contained in this Annex A or in the Note is intended to or shall impair, as between the Guarantor and the holder of the Note, the obligation of the Guarantor, which is absolute and unconditional, to pay to the holder of the Note the principal of and interest on the Note as and when the same shall become due and payable in accordance with its terms, or is intended to or shall affect the relative rights of the holder of the Note and creditors of the Guarantor other than the holders of the Senior Indebtedness, nor shall anything herein or therein prevent the holder of the Note from exercising all remedies otherwise permitted by applicable law, subject to the rights, if any, under this Annex A of the holders of Senior Indebtedness in respect of cash, property, or securities of the Guarantor received upon the exercise of any such remedy. Upon any distribution of assets of the Guarantor referred to in this Annex A, the holder of the Note shall be entitled to rely upon any order or decree made by any court of competent jurisdiction in which such dissolution, winding up, liquidation or reorganization proceedings are pending, or a certificate of the liquidating trustee or agent or other person making any distribution to the holder of the Note, for the purpose of ascertaining the persons entitled to participate in such distribution, the holders of the Senior Indebtedness and other indebtedness of the Guarantor, the amount thereof or payable thereon, the amount or amounts paid or distributed thereon and all other facts pertinent thereto or to this Annex A.

        Section 1.07.    Subrogation Rights Not Impaired by Acts or Omissions of Guarantor or Holders of Senior Indebtedness.    No rights of any present or future holders of any Senior Indebtedness to enforce subordination as herein provided shall at any time in any way be prejudiced or impaired by an act or failure to act on the part of the Guarantor or by any act or failure to act in good faith by any such holder, or by any noncompliance by the Guarantor with the terms and provisions of the Note, regardless of any knowledge thereof which any such holder may have or be otherwise charged with. The holders of the Senior Indebtedness may, without in any way affecting the obligations of the holder of the Note with respect thereto, at any time or from time to time and in their absolute discretion, change the manner, place or terms of payment of, change or extend the time of payment of, or renew or alter, any Senior Indebtedness, or amend, modify or supplement any agreement or instrument governing or evidencing such Senior Indebtedness or any other document referred to therein, or exercise or refrain from exercising any other of their rights under the Senior Indebtedness including, without limitation, the waiver of a default thereunder and the release of any collateral securing such Senior Indebtedness, all without notice to or consent from the holder of the Note.

        Section 1.08.    Senior Indebtedness.    (a) The term "Senior Indebtedness" shall mean all Obligations (as defined below) of the Guarantor under the Guarantee and Agreement (as defined below).

        (b)  As used in this Annex A, the terms set forth below shall have the respective meanings provided below:

        "Guarantee and Agreement" shall mean the Guarantee and Agreement, dated as of April 6, 2001, by the Guarantor, in favor of Citibank, N.A., as Security Agent (in such capacity, the "Security Agent") for the Creditors, as same may be amended, modified, extended, renewed, restated or supplemented from time to time, and including any agreement extending the maturity of, refinancing or restructuring all or any portion of, or increasing the Obligations under such agreement or of any successor agreements.

        "NEG Trigger Event" shall have the meaning assigned to such term in the Guarantee and Agreement.

        "Obligations" shall mean the Guaranteed Obligations (as defined in the Guarantee and Agreement) and all other payment obligations of the Guarantor under the Guarantee and Agreement.

Schedule 3.05

Litigation

        None.

Schedule 3.12

Environmental Matters

        The Brayton Point and Salem Harbor generating stations, located in Massachusetts, have received requests from the U.S. Environmental Protection Agency ("EPA") pursuant to Section 114 of the Clean Air Act seeking detailed operating and maintenance histories. In addition, the Commonwealth of Massachusetts is considering the adoption of regulations requiring additional air emissions reductions from electric generating facilities located there, including both Brayton Point and Salem Harbor, and various citizens' groups have from time to time raised concerns about air emissions from these facilities.

        The Brayton Point station is currently operating pursuant to a memorandum of understanding regarding its cooling water systems, pending issuance of a new NPDES permit to be issued under the Clean Water Act. The Rhode Island Department of Environmental Management and various citizens groups have alleged a connection between declining fish populations in Mt. Hope Bay and thermal discharges from the Brayton Point cooling system. They have asked that the EPA commence an enforcement action, which as of this date EPA has declined to do.

        In April 2000, an environmental group served notice of its intent to file a citizens' suit under the Resource Conservation and Recovery Act, as a result of the handling, storage, treatment and disposal of wastes at the Brayton Point and Salem Harbor generating stations. In September 2000, an agreement was signed with this group and the Massachusetts Department of Environmental Protection resolving the issue and implementation of the agreement is underway.

        As of the date hereof, Guarantor does not believe these matters will have a Material Adverse Effect and accordingly they are being discussed herein for disclosure purposes only.

Schedule 3.14

Unrestricted Subsidiaries

Alhambra Pacific Joint Venture
Barakat & Chamberlin, Inc.
BPS I, Inc.
Citrus Generating Company, L.P.
Conaway Conservancy Group Joint Venture
Coopers Hawk Power Corporation
Creston Financial Group, Inc.
DPR, Inc.
Eucalyptus Power Corporation
Fellows Generating Company, L.P.
Gannet Power Corporation
Gator Generating Company, L.P.
Gilia Enterprises
Heron Power Corporation
J. Makowski Associates, Inc.
Loon Power Corporation
Marengo Ranch Joint Venture
Mason Generating Company
McSweeney Ranch Joint Venture
Merlin Power Corporation
Oat Creek Associates Joint Venture
Okeelanta Power, L.P.
Pelican Power Corporation
PG&E Australia
PG&E Corporation Australia Pty Ltd.
PG&E Corporation Australian Holdings Pty Ltd.
PG&E Energy Services Ventures, Inc.
PG&E Energy Trading Australia Pty Ltd.
PG&E Gas Transmission Australia Pty Ld.
PG&E Gas Transmission Bundaberg Pty Ltd.
PG&E Gas Transmission Queensland Pty Ltd.
PG&E Gas Transmission Unit Holdings Pty Ltd.
PG&E Generating New England, Inc.
PG&E Generating New England, L.L.C.
PG&E International Development Holdings, LLC
PG&E Management Services Company
PG&E Overseas, Inc.
PG&E Overseas, Ltd.
PG&E Pacific I, Ltd.
PG&E Pacific II, Ltd.
PTP Services, LLC
Quantum Ventures
Rancho Murieta Joint Venture
Real Estate Energy Solutions, Inc.
Rocksavage Services I, Inc.
The Conaway Ranch Company
Valley Real Estate, Inc.

50

Schedule 4.01

Certain Restricted Subsidiaries not Subject to Section 4.01 or 4.02

First Massachusetts Land Company, LLC
J. Makowski Pittsfield, Inc.
J. Makowski Services, Inc.
JMCS I Management, Inc.
Pacific Gas Transmission Company
Pacific Gas Transmission International, Inc.
PG&E National Energy Group Company
PG&E International, Inc.
PG&E Operating Services Company
PG&E Operating Services Holdings, Inc.
PG&E Overseas Holdings I, Ltd.
PG&E Overseas Holdings II, Ltd.
USGen Fuel Services, Inc.
USGen Holdings, Inc.
USGen Services Company, LLC
USOSC Holdings, Inc.

Schedule 4.10

Other Existing Investments

        PG&E Gas Transmission, Northwest Corporation holds a 50 percent interest in Stanfield Hub Services, LLC.

        PG&E Gas Transmission, Northwest Corporation holds a note receivable from PG&E Corporation of $75,000,000.

        PG&E Gas Transmission Corporation holds 242,410 shares of common stock of Aerie Networks, Inc. Paperwork is under way to complete the planned transfer of those shares to GTN Holdings, LLC.

        PG&E Energy Trading—Gas Corporation holds a 40.6 percent membership interest in True Quote LLC.

Schedule 4.11

Other Existing Liens

        None.

Schedule 4.12(a)

Indebtedness under Certain Credit Agreements

        None.

Schedule 4.12(f)

Other Existing Indebtedness

        None.

Schedule 4.13

Descriptions of Existing Management, Operation, Sharing
and Similar Arrangements with Affiliates

Document Name	Document Date
Continuing Services Agreement between PG&E Generating Company LLC and Pacific Gas & Electric Company	10/15/99
Restated Continuing Services Agreement between PG&E Generating Company and Pacific Gas & Electric Company	10/15/99
Restated Continuing Services Agreement between Pacific Gas & Electric Company and PG&E Energy Trading—Gas Corporation	10/15/99
Restated Continuing Services Agreement between Pacific Gas & Electric Company and PG&E Energy Trading—Power, L.P.	10/15/99
Restated Continuing Services Agreement between Pacific Gas & Electric Company and PG&E Gas Transmission, Northwest Corporation	10/15/99
Continuing Services Agreement between Pacific Gas & Electric Company and PG&E National Energy Group, Inc.	8/7/00
Restated Continuing Services Agreement between Pacific Gas & Electric Company and PG&E Shareholdings, Inc.	10/15/99
Promissory Note by Attala Power Corporation in favor of PG&E Corporation, as amended by Amendment No. 1 dated April 6, 2001	9/28/00
Promissory Note by PG&E Corporation in favor of PG&E Gas Transmission, Northwest Corporation	10/26/00

Exhibit A

Form of Payment Demand

[Date]

PG&E National Energy Group, Inc.
7500 Old Georgetown Road, 13th floor
Bethesda, MD 20814

Attention: General Counsel

        Re: La Paloma—NEG Guarantee

Ladies and Gentlemen:

        Reference is made to (i) the Participation Agreement, March 7, 2000, among La Paloma Generating Company, LLC (the "Company"), La Paloma Generating Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A., as administrative agent and security agent, as amended by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among PG&E Corporation, PG&E National Energy Group, Inc. (the "Guarantor"), PG&E Generating Company, LLC, La Paloma Generating Company, LLC, La Paloma Generating Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto, Citibank, N.A. and the other parties thereto (the "Participation Agreement") and (ii) the Guarantee and Agreement, dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., as Security Agent, for the benefit of the Lenders (the "Guarantee and Agreement").

        Unless otherwise defined herein, terms defined in the Guarantee and Agreement shall have their defined meanings when used herein.

        [An Event of Default has occurred and is continuing. Pursuant to Section 2.01(b) of the Guarantee and Agreement, the Security Agent hereby demands payment from the Guarantor, within 5 Business Days from receipt hereof, of the Guaranteed Obligations consisting of the following:

(a)

$[                        ] of principal amount of Tranche A Loans,



(b)

$[                        ] of interest on such principal amount of Tranche A Loans;



(c)

$[                        ] of all other payment obligations and liabilities of the Company; and



(d)

interest on the sum of all amounts under clauses (a), (b) and (c) above, accruing at the Overdue Rate from [date amounts became due] until such amounts are paid in full.

provided, that the amount payable by the Guarantor on account of this payment demand shall not exceed the Maximum Guarantee Amount.](1)

        [An NEG Trigger Event has occurred and is continuing. Pursuant to Section 2.01(c) of the Guarantee and Agreement, the Security Agent hereby demands payment from the Guarantor, within 5 Business Days from receipt hereof, of the Guarantee Draw Amount in the amount of $[                        ].] (2)

        [An Event of Default has occurred and is continuing and a Security Agent has made a Payment Demand pursuant to Section 2.01(c) of the Guarantee and Agreement. Pursuant to Section 2.01(d) of the Guarantee and Agreement, the Security Agent hereby demands payment from the Guarantor, within 5 Business Days from receipt hereof, of $[                        ] (such amount being equal to the Maximum Guarantee Amount less the amount previously paid by the Guarantor pursuant to such prior

payment demand), plus interest thereon accruing at the Overdue Rate until such amount is paid in full.](3)

Very truly yours,
CITIBANK, N.A., as Security Agent
By:
	Name: Title:

(1)

This option will apply if demand is pursuant to Section 2.01(b) of the Guarantee and Agreement.

(2)

This option will apply if demand is pursuant to Section 2.01(c) of the Guarantee and Agreement.

(3)

This option will apply if demand is pursuant to Section 2.01(d) of the Guarantee and Agreement.

2

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Exhibit 10.17

Schedule 1.01A

SCHEDULE 1.01B

SCHEDULE 1.01C

Schedule 3.05

Schedule 3.12

Schedule 3.14

Schedule 4.01

Schedule 4.10

Schedule 4.11

Schedule 4.12(a)

Schedule 4.12(f)

Schedule 4.13

Exhibit A

EX-10.20

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Exhibit 10.20

        EXECUTION COUNTERPART

AMENDMENT, WAIVER AND CONSENT AGREEMENT

        THIS AMENDMENT, WAIVER AND CONSENT AGREEMENT (this "Waiver Agreement") dated as of November 6, 2002, is entered into among LA PALOMA GENERATING COMPANY, LLC, a Delaware limited liability company (the "Company"); LA PALOMA GENERATING TRUST LTD., a Delaware business trust (the "Owner") acting through WILMINGTON TRUST COMPANY, as Trustee; the LENDERS, INVESTORS and INTEREST HEDGE PARTIES party hereto; CITIBANK, N.A., as administrative agent for the Lenders, the Tranche A Banks and the Investors (in such capacity, the "Administrative Agent"); and CITIBANK, N.A., as security agent for the Creditors (in such capacity, the "Security Agent").

        WHEREAS, pursuant to the Participation Agreement dated as of March 7, 2000 among the Company, the Owner, the Trust Company, the Trustee, the Lenders party thereto, the Investors party thereto, the Tranche A Banks party thereto, the Administrative Agent and the Security Agent (as previously amended by the Omnibus Restructuring Agreement and the Second Amendment, the "Participation Agreement") and the other Operative Documents, the Company and the other parties hereto agreed, among other things, to the terms and conditions of the construction and lease financing of the Project;

        WHEREAS, the Owner (either directly or as assignee of the Company) is party to the EPC Contract, the Spare Parts Agreement, the Water Supply Agreements, the Joint Interconnection Facilities Agreement, the Generator Special Facilities Agreement, Zero Discharge System and Raw Water Pretreatment Construction Contract, the Raw and Potable Water Supply Pipelines Construction Contract, the Switchyard and Transmission Line EPC Contract, the Facilities Construction Agreement and the Agreement for Construction of Public Infrastructure Improvements, and has entered into the Construction Agency Agreement with the Company, whereby the Company, as agent for the Owner, has agreed to cause the construction and completion of the Project in accordance with the terms thereof;

        WHEREAS, the Company has entered into the PGET Gas Supply Agreement, the Water Supply Agreements, the Operating Agreement and certain other Project Contracts, pursuant to which the Company will obtain supplies of fuel, water, operational and maintenance services and other goods and services required in connection with the operation of the Project and has entered into the PGET Power Purchase Agreement pursuant to which it will sell power;

        WHEREAS, the Company needs funding to pay for Project Costs including the natural gas supplies necessary for the start-up, commissioning and testing of the Project (such natural gas, "Test Gas") and Scheduled Debt Service beginning on November 11, 2002;

        WHEREAS, the Company and the Owner have requested certain amendments, consents and waivers with respect to the Participation Agreement to enable the Lenders to make Construction Advances to fund payments for Project Costs and Scheduled Debt Service; and

        WHEREAS, the Lenders, the Administrative Agent and the Security Agent are willing to agree to the Company's and the Owner's request upon the terms and conditions of this Waiver Agreement.

        ACCORDINGLY, the parties hereto hereby agree as follows:

        Section 1.    Definitions.    Except as otherwise defined in this Waiver Agreement, terms defined in Annex A to the Participation Agreement are used herein (including in the recitals hereto) as defined

therein (and the principles of interpretation set forth in Annex A to the Participation Agreement shall apply to such terms). The following terms used herein shall have the following respective meanings:

        "Amended and Restated EPC Contract" shall mean the Amended and Restated Turnkey Construction Contract between the Company and Alstom Power, Inc. which amends and restates the EPC Contract.

        "Known Defaults" shall mean (a) the Event of Default under Section 7.1(b) of the Participation Agreement subsisting as of the date of this Waiver Agreement and (b) the Default relating to the existence of mechanics' liens on the Project in an amount in excess of $3 million subsisting as of the date of this Waiver Agreement.

        "Subject Defaults" shall mean (a) any Default or Event of Default arising under Section 7.1(a) of the Participation Agreement (but solely with respect to a failure by the Company to make or to cause to be made a payment of an Equity Contribution Amount due under Section 5.1(x) of the Participation Agreement), (b) any Default or Event of Default under Section 7.1(d) of the Participation Agreement (but solely with respect to Section 5.1(k) of the Participation Agreement or Section 2.4(a) (but solely as the same relates to the Project Budget), (b) or (c) of the Construction Agency Agreement but only to the extent that the Amended and Restated EPC Contract does not come into effect), (c) any Default or Event of Default under Section 7.1(h) of the Participation Agreement (but solely with respect to the PGET Gas Supply Agreement or the PGET Power Purchase Agreement and the occurrence of a "Material Adverse Change" (as such term is defined therein) under either such agreement), (d) any Default or Event of Default under Section 7.1(i) of the Participation Agreement, and (e) any Default or Event of Default under Section 7.1(p) of the Participation Agreement.

        Section 2.    Basic Amendment.    Subject to the occurrence of the Effective Date, the Participation Agreement is hereby amended as of the Effective Date as follows:

        (a)  Section 1.2 of the Participation Agreement is hereby amended by deleting the reference to "3%" appearing after the words "aggregate amount equal to" in the fourth line thereof and replacing the same with "the Investor Percentage";

        (b)  Section 3.3(i)(j) of the Participation Agreement shall be deleted in its entirety and replaced with the following: "(j) [INTENTIONALLY OMITTED]";

        (c)  Section 3.3(i)(k) of the Participation Agreement shall be deleted in its entirety and replaced with the following: "(k) [INTENTIONALLY OMITTED]"; and

        (d)  Annex A of the Participation Agreement is hereby amended by:

          (i)  inserting the following definition immediately after the definition of "Available Commitment":

        ""Available Construction Commitment Amount" means, as of any date of determination, an amount equal to the sum of: (a) the aggregate unutilized amount of Tranche A Loan Commitment plus (b) the aggregate unutilized amount of Tranche B Loan Commitment plus (c) the aggregate unutilized amount of Investor Contribution Commitment.";

        (ii)  inserting the following definition immediately after the definition of "Investor Contribution Percentage":

        ""Investor Percentage" means, as of any date of determination, the quotient (expressed as a percentage to the second decimal point) of: (a) the aggregate unutilized amount of Investor Contribution Commitment divided by (b) the Available Construction Commitment Amount.";

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        (iii)  amending and restating the definition of "Tranche A Percentage" in its entirety to read as follows:

        ""Tranche A Percentage" means, as of any date of determination, the quotient (expressed as a percentage to the second decimal point) of: (a) the aggregate unutilized amount of Tranche A Loan Commitment divided by (b) the Available Construction Commitment Amount."; and

        (iv)  amending and restating the definition of "Tranche B Percentage" in its entirety to read as follows:

        ""Tranche B Percentage" means, as of any date of determination, the quotient (expressed as a percentage to the second decimal point) of: (a) the aggregate unutilized amount of Tranche B Loan Commitment divided by (b) the Available Construction Commitment Amount.".

        Section 3.    Other Amendments.    Subject to (x) the occurrence of the Effective Date and (y) the receipt by the Administrative Agent of counterparts of this Waiver Agreement duly executed by each Tranche A Lender, each Interest Hedge Party, the Required Lenders and the Required Investors, the Participation Agreement is hereby amended as of the Effective Date as follows:

        (a)  Clauses (A) and (B) of Section 6.5(a)(i) of the Participation Agreement are hereby deleted in their entirety and replaced with the following:

        "(i) Mandatory Prepayment of Tranche A Loans.

        (A)  (1) Prior to the NEG Guarantee Release Date, upon (I) the occurrence and continuance of a NEG Trigger Event with respect to NEG, (II) the occurrence of a NEG Equity Payment Demand or (III) the occurrence and continuance of a NEG Downgrade Event with respect to NEG and the Company's failure to perform any of its obligations under Section 5.1(z) with respect to NEG, the Tranche A Loans shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if the Required Tranche A Lenders have (or the Administrative Agent acting at the direction of the Required Tranche A Lenders has) delivered written notice to the Company demanding that such prepayment be made.

        (2)  Prior to the NEG Guarantee Release Date, upon (I) the occurrence and continuance of a NEG Trigger Event with respect to NEG, (II) the occurrence of a NEG Equity Payment Demand or (III) the occurrence and continuance of a NEG Downgrade Event with respect to NEG and the Company's failure to perform any of its obligations under Section 5.1(z) with respect to NEG, the Tranche B Loans shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if the Required Tranche B Lenders have (or the Administrative Agent acting at the direction of the Required Tranche B Lenders has) delivered written notice to the Company demanding that such prepayment be made.

        (3)  Prior to the NEG Guarantee Release Date, upon (I) the occurrence and continuance of a NEG Trigger Event with respect to NEG, (II) the occurrence of a NEG Equity Payment Demand or (III) the occurrence and continuance of a NEG Downgrade Event with respect to NEG and the Company's failure to perform any of its obligations under Section 5.1(z) with respect to NEG, the Investor Contributions shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if all of the

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Investors have delivered written notice to the Company demanding that such prepayment be made (which notice may only be delivered in the event that the Required Tranche A Lenders and Required Tranche B Lenders have delivered notices in respect of such event in accordance with the foregoing clauses (1) and (2)).

        (B)  (1) If a Substitute Credit Support Instrument in the form of a guaranty is provided pursuant to clause (b) of the definition thereof in accordance with Section 2.07(b) of the NEG Guarantee, upon the occurrence and continuance of (I) a NEG Trigger Event or (II) a NEG Downgrade Event and the Company's failure to perform any of its obligations under Section 5.1(z), in each case with respect to such Substitute Credit Support Instrument, the Tranche A Loans shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if the Required Tranche A Lenders have (or the Administrative Agent acting at the direction of the Required Tranche A Lenders has) delivered written notice to the Company demanding that such prepayment be made.

        (2)  If a Substitute Credit Support Instrument in the form of a guaranty is provided pursuant to clause (b) of the definition thereof in accordance with Section 2.07(b) of the NEG Guarantee, upon the occurrence and continuance of (I) a NEG Trigger Event or (II) a NEG Downgrade Event and the Company's failure to perform any of its obligations under Section 5.1(z), in each case with respect to such Substitute Credit Support Instrument, the Tranche B Loans shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if the Required Tranche B Lenders have (or the Administrative Agent acting at the direction of the Required Tranche B Lenders has) delivered written notice to the Company demanding that such prepayment be made.

        (3)  If a Substitute Credit Support Instrument in the form of a guaranty is provided pursuant to clause (b) of the definition thereof in accordance with Section 2.07(b) of the NEG Guarantee, upon the occurrence and continuance of (I) a NEG Trigger Event or (II) a NEG Downgrade Event and the Company's failure to perform any of its obligations under Section 5.1(z), in each case with respect to such Substitute Credit Support Instrument, the Investor Contributions shall be subject to mandatory prepayment in whole on the date that is five Business Days after the occurrence of any of the events set forth in clauses (I), (II) or (III) above if all of the Investors have delivered written notice to the Company demanding that such prepayment be made (which notice may only be delivered in the event that the Required Tranche A Lenders and Required Tranche B Lenders have delivered notices in respect of such event in accordance with the foregoing clauses (1) and (2))."

        (b)  Clause (C) of Section 6.5(a)(i) of the Participation Agreement is hereby amended by adding the words "in the event that the Required Tranche A Lenders have delivered written notice to the Company demanding that such prepayment be made" after the words "such event" appearing in the fifth line thereof.

        (c)  Clause (D) of Section 6.5(a)(i) of the Participation Agreement is hereby amended by (i) amending the reference to "clause (A), (B) or (C)" appearing in the first and second lines thereof to refer to "clause (A)(1), (B)(1) or (C)" and (ii) amending the phrase "the date of such prepayment" commencing in the second line thereof to read "the date such prepayment is due".

        Section 4.    Waivers and Instructions with respect to Construction Advances in Participation Agreement.

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        (a)  Subject to the limitations set out in this Waiver Agreement and the occurrence of the Effective Date, the Administrative Agent, acting at the direction of the Required Participants, hereby waives for the period from the Effective Date to but excluding the earlier to occur of (x) the date on which the Administrative Agent notifies the Lenders of the occurrence of any Default or Event of Default other than any Known Default or Subject Default and (y) the end of the Commitment Period for any of the Tranche A Loan Commitments, Tranche B Loan Commitments or the Investor Contribution Commitments (the "Waiver Period"):

          (i)  the requirement set out in Section 2.2 of the Participation Agreement that restricts the occurrence of Funding Dates to no more than two per calendar month; and

        (ii)  all of the conditions precedent to the making of Tranche A Loans, Tranche B Loans and Investor Contributions set out in Section 3.3 of the Participation Agreement;

provided that, during the Waiver Period, Construction Advances shall be made in accordance with the following terms, conditions and procedures (and such procedures shall be deemed to be the relevant terms, conditions and procedures under Section 3.3 of the Participation Agreement for all purposes under the Operative Documents during the Waiver Period):

        (A)  there shall be two types of Funding Dates during the Waiver Period "Test Gas Funding Dates" and "Other Cost Funding Dates";

        (B)  the Test Gas Funding Dates shall occur only once per calendar week during the Waiver Period;

        (C)  the Other Cost Funding Dates shall occur no more than once per calendar month during the Waiver Period (and any such Other Cost Funding Date may also be a Test Gas Funding Date);

        (D)  on or prior to 10:00 AM New York City time on the Business Day prior to any Funding Date occurring during the Waiver Period, the Company shall deliver a Requisition under the Participation Agreement (which, during the Waiver Period, shall be in the form of Annex A to this Waiver Agreement) to the Administrative Agent and the Security Agent appropriately completed and including, inter alia:

        (1)  if such Funding Date is an Other Cost Funding Date:

        (aa) certification by the Company that, except as previously disclosed in writing to the Lenders, the work performed to date has been satisfactorily performed in a good and workmanlike manner and in accordance with the Construction Documents;

        (bb) certification by the Company that: (i) all proceeds of Requisitions delivered prior to the Waiver Period have been expended or applied pursuant to the provisions of the relevant Operative Documents and the Project Budget or remain in the Construction Account to be applied against such prior Requisitions and the Project Budget; and (ii) the items for which amounts are requested in the subject Requisition have not been the basis for a previous Requisition;

        (cc) a request for a Construction Advance with respect to such Other Cost Funding Date in an amount no greater than $20,000,000 exclusive of the amount allocated to pay for Test Gas costs; and

        (dd) a confirmation by the Independent Engineer of the information set forth in clause (aa) above;

        (2)  if such Funding Date is a Test Gas Funding Date:

        (aa) the aggregate amount of Test Gas costs reasonably expected to be incurred in the next seven days ("Projected Test Gas Costs") specifying the expected number of

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MMBtu's to be used on each such day and the projected price (on a $/MMBtu basis) for such Test Gas;

        (bb) the aggregate amount projected to be on deposit and available in the Construction Account to pay Test Gas costs (which amount shall exclude amounts advanced on any Other Cost Funding Date that are intended to fund Project Costs (other than Test Gas costs) and Scheduled Debt Service) on the Funding Date prior to giving effect to Construction Advances to be made on such date pursuant to such Requisition (the "Available Balance");

        (cc) a calculation showing the amount (the "Projected Test Gas Required Amount") equal to the excess, if any, of (I) Projected Test Gas Costs over (II) the Available Balance (provided that such amount shall never be less than zero);

        (dd) a request, with respect to such Test Gas Funding Date, for a Construction Advance with respect to Test Gas costs equal to the lesser of (I) the Projected Test Gas Required Amount and (II) $3,000,000;

        (ee) a description of the arrangements made by the Company for securing a supply of Test Gas to the Project identifying the Persons (the "Gas Supply Parties") to whom payments in respect of Test Gas are to be made (or with respect to whom payment was made for Test Gas for the relevant period by PGET in the event that PGET is requested to be a recipient of any such payment, and in such case PGET shall, for purposes of the following paragraph (ff) and Section 4(c), constitute a Gas Supply Party) from the proceeds of the requested Construction Advances and/or the amounts on deposit in the Construction Account;

        (ff)  the amount and timing of each payment in respect of Test Gas that needs to be made from the proceeds of the requested Construction Advances and/or the amounts on deposit in the Construction Account in the seven days following the Funding Date and the Gas Supply Parties to whom such payments are to be made; and

        (gg) a confirmation by the Independent Engineer of the amount and information set forth in clauses (aa) and (ff) above;

        (3)  on any Funding Date:

        (aa) certification by the Company that, other than with respect to the Known Defaults and any Subject Defaults, no Event of Default or Default has occurred and is continuing;

        (bb) certification by the Company that it has received all revenues for electrical energy sold during the testing of the Project due to it on or prior to such Funding Date (provided that where the costs for gas utilized in generating the electricity that gave rise to such revenues has not been funded from any of (i) withdrawals from the Construction Account authorized by the Required Participants on October 16, 2002, (ii) the proceeds of Construction Advances made under the Waiver and Consent dated as of October 21, 2002 among the Company, the Owner, the Lenders party thereto, the Administrative Agent and the Security Agent or (iii) the proceeds of Construction Advances made pursuant to this Waiver Agreement, the Company need only certify that it has received such revenues net of costs for gas in order to satisfy this condition);

        (cc) certification by the Company that the representations and warranties of the Company contained in the Operative Documents (other than that set forth in (i) Section 4.1(i) of the Participation Agreement (No Default) solely with respect to the Known Defaults and any Subject Defaults and (ii) Section 4.1(n) of the Participation

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Agreement (Collateral) solely with respect to the mechanics liens described in clause (b) of the definition of "Known Defaults") to which it is a party are true and accurate in all material respects as if made on and as of such Funding Date, except to the extent such representations and warranties relate solely to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date; and

        (dd) a request for Construction Advances consisting solely of ABR Loans and ABR Investor Contributions;

provided that if the Company fails to deliver a Requisition by 10:00 AM New York City time on the Business Day prior to any Funding Date with respect to Construction Advances occurring during the Waiver Period, the Company hereby irrevocably authorizes the Administrative Agent to issue the Requisition in its name and on its behalf; and

        (E)  except as otherwise expressly provided in this Section 4(a), Construction Advances shall otherwise be funded at the times and in the manner provided in the Operative Documents in effect prior to the Effective Date.

        (b)  Notwithstanding anything in this Section 4 to the contrary, in the event that any Subject Default shall occur and be continuing, both the Required Tranche A Lenders and the Required Tranche B Lenders shall have an independent right to deliver a notice to the Administrative Agent and the Security Agent terminating the Waiver Period and, upon the Administrative Agent's receipt of such a notice from either the Required Tranche A Lenders or Required Tranche B Lenders, the Waiver Period shall terminate without further action on the part of any Person.

        (c)  The Required Participants hereby instruct the Security Agent pursuant to Section 5.5(c) of the Security Deposit Agreement to withdraw from the Construction Account the amounts on deposit therein from time to time and pay Project Costs and Scheduled Debt Service to the Persons identified in the most recently delivered Requisition the amounts identified therein as being due to such Persons at the times and in the amounts specified in such Requisition.

        Section 5.    Waiver with respect to Tranche A Loan Agreement.    Subject to (a) the limitations set out in this Waiver Agreement, (b) the occurrence of the Effective Date and (c) the receipt by the Administrative Agent of counterparts of this Waiver Agreement duly executed by the Required Tranche A Lenders, the Administrative Agent hereby waives for the Waiver Period the requirement set out in Section 2.2 of the Tranche A Loan Agreement that borrowings of Tranche A Loans be in an amount of at least $1,000,000.

        Section 6.    Waiver with respect to Tranche B Loan Agreement.    Subject to (a) the limitations set out in this Waiver Agreement, (b) the occurrence of the Effective Date and (c) the receipt by the Administrative Agent of counterparts of this Waiver Agreement duly executed by the Required Tranche B Lenders, the Administrative Agent hereby waives for the Waiver Period the requirement set out in Section 2.2 of the Tranche B Loan Agreement that borrowings of Tranche B Loans be in an amount of at least $1,000,000.

        Section 7.    Covenants of the Company.    The Company shall:

        (a)  deliver to the Administrative Agent (in addition to the reporting requirements set forth in the Participation Agreement and the other Operative Documents):

          (i)  on or before the fifteenth Business Day of each calendar month, an unaudited balance sheet for the Company;

        (ii)  contemporaneously with the delivery thereof, copies of all reports, financial information, statements and other documents delivered to NEG's revolving credit lenders;

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        (iii)  periodic reports on the status of NEG's global reorganization efforts (including the status of discussions with NEG's other creditors);

        (iv)  timely notice of the commencement of any material litigation or other proceeding against NEG or any of its Subsidiaries; and

        (v)  any other reports reasonably requested by the Administrative Agent or FTI Consulting;

        (b)  continue to manage the construction of the Project (in cooperation with NEG) until requested otherwise by the Administrative Agent; and

        (c)  cooperate in all respects with the consultants and advisors engaged by the Administrative Agent (including, without limitation, FTI Consulting and PA Consulting Group).

        Section 8.    NEG Obligations.    NEG hereby:

        (a)  agrees to cooperate, and cause its Subsidiaries to cooperate with any reasonable proposal of the Administrative Agent regarding disposition of the ownership interests in and/or assets of the Company, on terms and conditions satisfactory to the Administrative Agent and the Creditors in their sole discretion;

        (b)  agrees to continue to manage (in cooperation with the Company) the construction of the Project until requested otherwise by the Administrative Agent;

        (c)  agrees to cooperate, and cause its Subsidiaries to cooperate, in all respects with the consultants and advisors engaged by the Administrative Agent (including, without limitation, FTI Consulting and PA Consulting Group);

        (d)  agrees to reimburse, or cause the reimbursement of, the Administrative Agent for all reasonable costs, fees and expenses of counsel, consultants and other professionals (limited to Milbank, Tweed, Hadley & McCloy LLP, Simpson, Thacher & Bartlett, FTI Consulting and PA Consulting Group) engaged by or on behalf of the Administrative Agent; and

        (e)  reaffirms and acknowledges all of its obligations under each of the Transaction Documents to which it is a party.

        Section 9.    Conditions Precedent.    This Waiver Agreement shall become effective on the date (the "Effective Date") on or after November 6, 2002 on which the following conditions precedent shall have been satisfied in the sole discretion of the Administrative Agent:

        (a)  the Administrative Agent shall have received a duly executed counterpart of this Waiver Agreement from each of the Company, the Owner, the Administrative Agent, the Security Agent, Participants constituting Required Participants and NEG;

        (b)  other than with respect to the Known Defaults, no Default or Event of Default shall have occurred and be continuing;

        (c)  NEG shall have caused PGET to execute an amendment to the PGET Gas Supply Agreement and the PGET Power Purchase Agreement pursuant to which amendment PGET agrees with the Company that the "Term" of each such Project Document as set out in Article 1 of each such Project Document shall not commence unless PGET has received written notice from the Administrative Agent (acting with the consent of the Required Participants) informing PGET that the term under each such Project Document shall commence on the date specified in such written notice; provided that, as of the date hereof and subject to the Company's right to receive revenues generated by the sale of test power and PGET's right to be reimbursed by the Company for gas purchased to provide such test power, the Company hereby acknowledges that it has no rights under, and PGET acknowledges that the Company has no obligations under, any contract

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entered into by PGET or any of its Affiliates as principal relating to the purchase or sale of gas or power which purport to be for the benefit of the Company or the Project;

        (d)  the Administrative Agent shall have received in cash, for the account of the Lenders and Investors, interest and Investor Yield (as otherwise required under the Operative Documents) for the period from the date hereof through November 14, 2002 on $23,000,000 which represents the maximum amount that may be drawn on any one Funding Date occurring during the Waiver Period (provided that this condition precedent may only be satisfied if payment of such amount is made by a Person other than the Company); it being agreed that payment of such interest shall satisfy all obligations in respect of payment of such interest for such $23,000,000 during the period from the date hereof through November 14, 2002;

        (e)  the Administrative Agent shall have received in cash, for the pro rata benefit of the Lenders and Investors, a fee in the amount of 1% of $23,000,000 (provided that this condition precedent may only be satisfied if payment of such amount is made by a Person other than the Company); and

        (f)    either (i) the Security Agent (acting for the benefit of the Creditors) shall have been granted a Lien on the bank account maintained by the Company for the purpose of holding cash retainage under the EPC Contract (the "Retainage Account"); or (ii) other arrangements acceptable to the Administrative Agent acting in its sole discretion have been put in place to ensure that funds on deposit in the Retainage Account cannot be classified as the property of or an asset of the Company;

provided that:

          (i)  the amendment set forth in Section 3 shall not be effective until the additional condition precedent set out in clause (y) of Section 3 shall have been satisfied;

        (ii)  the waivers set forth in Section 5 shall not be effective until the additional condition precedent set out in clause (c) of Section 5 shall have been satisfied; and

        (iii)  the waivers set forth in Section 6 shall not be effective until the additional condition precedent set out in clause (c) of Section 6 shall have been satisfied;

provided further that the Effective Date may occur notwithstanding the non-satisfaction of any of additional conditions precedent referred to in the foregoing clauses (i), (ii) and (iii).

        Section 10.    Representations and Warranties.    To induce the Creditors to enter into this Waiver Agreement, each of the Company and the Owner hereby represents and warrants that its representations and warranties set forth in Sections 4.1 (other than that set forth in (a) Section 4.1(i) (No Default) solely with respect to the Known Defaults and any Subject Defaults and (b) Section 4.1(n) of the Participation Agreement (Collateral) solely with respect to the mechanics liens described in clause (b) of the definition of "Known Defaults") and 4.2 of the Participation Agreement, respectively, are, after giving effect to this Waiver Agreement, true and correct in all material respects as if made on and as of the date hereof (except to the extent made as of an earlier date, in which case such representations and warranties shall have been true and correct in all material respects on and as of such earlier date) as if made on and as of the date hereof and as if each reference in such Sections 4.1 and 4.2 to the "Operative Documents" or the "Transaction Documents" included a reference to this Waiver Agreement. Each of the Company and the Owner further represent and warrant that as of November 1, 2002: (a) the aggregate outstanding principal amount of (i) Tranche A Loans is $351,122,577, (ii) Tranche B Loans is $276,644,687, (iii) Investor Contributions is $19,415,482, (iv) Working Capital Loans is $0, and (v) L/C Reimbursement Loans is $0; and (b) the aggregate undrawn face amount of (i) Working Capital L/Cs is $0, (ii) DSR L/Cs is $0 and (iii) RCE L/Cs is $0. Interest, fees and Investor Yield have accrued on the Loans and Investor Contributions and the

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Commitments as provided in the Operative Documents. As of and on the date hereof, the obligations of the Owner under the Tranche A Loan Agreement, the Tranche B Loan Agreement and other Operative Documents and the Company under the Structural Guaranty and other Operative Documents to repay the Loans and the Investor Contributions and pay the other Secured Obligations, together with all interest and fees accrued thereon, is absolute and unconditional, and there exists no right of set off or recoupment, counterclaim or defense of any nature whatsoever to payment of the Secured Obligations.

        Section 11.    Authorization.    The Participants party hereto hereby authorize and direct the Administrative Agent and the Security Agent to execute, deliver and perform their respective obligations, if any, under this Waiver Agreement.

        Section 12.    Counterparts.    This Waiver Agreement may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument and any of the parties hereto may execute this Waiver Agreement by signing any such counterpart.

        Section 13.    Headings.    The headings of the various Sections of this Waiver Agreement are for convenience of reference only and shall not modify, define, expand or limit any of the terms or provisions hereof.

        Section 14.    Operative Document.    This Waiver Agreement shall constitute an Operative Document for purposes of the Participation Agreement and the other Transaction Documents.

        Section 15.    Severability.    Any provision of this Waiver Agreement that is prohibited or unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions hereof, and any such prohibition or unenforceability in any jurisdiction shall not invalidate or render unenforceable such provision in any other jurisdiction.

        Section 16.    Reservation of Rights; Continuing Effect of Operative Documents.

        (a)  The waivers set out in Sections 4, 5 and 6 hereof shall be of limited effect as specified therein, shall apply only as expressly set out therein and shall not constitute or be deemed to be a waiver of any other provision of any Operative Document. Actions undertaken during the Waiver Period are not intended to, and shall not be construed as, establishing or continuing a course of dealing among the parties with respect to (i) any Default or Event of Default which may now exist (whether known or unknown) or which may hereafter arise or (ii) any obligation of the Company, NEG or PGET under any Transaction Document to which it is a party and no such obligation shall be deemed directly or indirectly waived by virtue of this Waiver Agreement other than as expressly set out herein. The Creditors reserve all of their rights provided under the Operative Documents with respect to any Default or Event of Default which may now exist (whether known or unknown) or which may hereafter arise except to the extent specifically waived solely for the purpose of permitting the funding by the Lenders and Investors of Project Costs as set out in Sections 4, 5 and 6 hereof.

        (b)  Except as expressly set forth herein, this Waiver Agreement shall not constitute an amendment or waiver of any provision of any Transaction Document not expressly referred to herein and shall not be construed as a waiver or consent to any further or future action on the part of the Company that would require a waiver or consent of the Creditors or the Administrative Agent. Except as expressly amended, modified and supplemented hereby, the provisions of the Participation Agreement and all other Operative Documents are and shall remain in full force and effect.

        (c)  This Waiver Agreement is an agreement among the Lenders and Investors to permit funding of Project Costs through Construction Advances when such funding would not otherwise

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be permitted pursuant to the terms of the Operative Documents. Accordingly, notwithstanding anything in this Waiver Agreement to the contrary, this Waiver Agreement (i) does not release the Company from its obligation to deliver a Requisition and make payments of Equity Contribution Amounts in accordance with Section 5.1(x) of the Participation Agreement (which obligations shall be interpreted in the Operative Documents without giving effect to any provision of this Waiver Agreement) and (ii) does not waive any Known Default or Subject Default for any purpose whatsoever (it being understood that, to the extent provided by Section 4, the funding of Project Costs through Construction Advances shall be permitted notwithstanding the occurrence and continuance of Known Defaults or Subject Defaults).

        Section 17.    GOVERNING LAW.    THIS WAIVER AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAW OF THE STATE OF NEW YORK.

        Section 18.    RELEASE OF CLAIMS.    EACH OF NEG AND THE COMPANY HEREBY ACKNOWLEDGES AND AGREES THAT IT DOES NOT HAVE ANY DEFENSES, COUNTERCLAIMS, OFFSETS, CROSS-COMPLAINTS, CLAIMS OR DEMANDS OF ANY KIND OR NATURE WHATSOEVER THAT CAN BE ASSERTED TO REDUCE OR ELIMINATE ALL OR ANY PART OF LIABILITY OF THE COMPANY TO REPAY THE LENDERS AND INVESTORS AS PROVIDED IN THE OPERATIVE DOCUMENTS OR TO SEEK AFFIRMATIVE RELIEF OR DAMAGES OF ANY KIND OR NATURE FROM THE ADMINISTRATIVE AGENT OR ANY OTHER CREDITOR. EACH OF NEG AND THE COMPANY HEREBY VOLUNTARILY AND KNOWINGLY RELEASES AND FOREVER DISCHARGES THE ADMINISTRATIVE AGENT AND THE OTHER CREDITORS, AND THE ADMINISTRATIVE AGENT'S AND EACH OTHER CREDITOR'S PREDECESSORS, AGENTS, EMPLOYEES, SUCCESSORS AND ASSIGNS, FROM ALL POSSIBLE CLAIMS, DEMANDS, ACTIONS, CAUSES OF ACTION, DAMAGES, COSTS, OR EXPENSES, AND LIABILITIES WHATSOEVER, KNOWN OR UNKNOWN, ANTICIPATED OR UNANTICIPATED, SUSPECTED OR UNSUSPECTED, FIXED, CONTINGENT, OR CONDITIONAL, AT LAW OR IN EQUITY, ORIGINATING IN WHOLE OR IN PART ON OR BEFORE THE DATE THIS AGREEMENT IS EXECUTED, WHICH EITHER NEG OR THE COMPANY MAY NOW OR HEREAFTER HAVE AGAINST THE ADMINISTRATIVE AGENT OR ANY OTHER CREDITOR, AND THE ADMINISTRATIVE AGENT'S OR ANY OTHER CREDITOR'S PREDECESSORS, AGENTS, EMPLOYEES, SUCCESSORS AND ASSIGNS, IF ANY, IN THEIR CAPACITIES AS SUCH, AND IRRESPECTIVE OF WHETHER ANY SUCH CLAIMS ARISE OUT OF CONTRACT, TORT, VIOLATION OF LAW OR REGULATIONS, OR OTHERWISE, INCLUDING, WITHOUT LIMITATION, THE EXERCISE OF ANY RIGHTS AND REMEDIES UNDER THE OPERATIVE DOCUMENTS, AND NEGOTIATION AND EXECUTION OF THIS WAIVER AGREEMENT.

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        IN WITNESS WHEREOF, the parties hereto have caused this Waiver Agreement to be duly executed by their respective officers thereunto duly authorized as of the day and year first above written.

	LA PALOMA GENERATING COMPANY, LLC
	By:
		Name:
		Title:
	LA PALOMA GENERATING TRUST LTD., by and through Wilmington Trust Company, not in its individual capacity, but solely as Trustee under the Trust Agreement
	By:
		Name:
		Title:
Additional signature pages omitted

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Exhibit 10.20

EX-10.21

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Exhibit 10.21

EXECUTION COPY

GUARANTEE AND AGREEMENT
(LAKE ROAD)

made by

PG&E NATIONAL ENERGY GROUP, INC.

in favor of

CITIBANK, N.A.,
as Security Agent

Dated as of April 6, 2001

TABLE OF CONTENTS

		Page
SECTION I DEFINED TERMS		1
1.01.	Definitions	1
1.02.	Other Definitional Provisions	14
SECTION II GUARANTEE		14
2.01.	Guarantee; Payment	15
2.02.	Extent of Liability	15
2.03.	Nature of Guarantee	15
2.04.	Demands and Notice; Application of Proceeds	16
2.05.	Consent to Modifications, Waivers	16
2.06.	Subrogation	16
2.07.	Substitute Credit Support	17
SECTION III REPRESENTATIONS AND WARRANTIES		18
3.01.	Organization; Powers; Ownership of Property	17
3.02.	Authorization	18
3.03.	Enforceability	18
3.04.	Financial Statements	18
3.05.	Litigation	18
3.06.	Federal Reserve Regulations	18
3.07.	Investment Company Act; Public Utility Holding Company Act	18
3.08.	No Material Misstatements	19
3.09.	Taxes	19
3.10.	Employee Benefit Plans	19
3.11.	Governmental Approval; Compliance with Law and Contracts	19
3.12.	Environmental Matters	19
3.13.	Ranking	20
3.14.	Unrestricted Subsidiaries	20
3.15.	Separateness from PG&E	20
SECTION IV COVENANTS		20
4.01.	Maintenance of Ownership	20
4.02.	Existence	20
4.03.	Compliance with Law; Business and Properties	20
4.04.	Financial Statements, Reports, Etc.	21
4.05.	Insurance	22
4.06.	Taxes, Etc.	22
4.07.	Maintaining Records; Access to Properties and Inspections	22
4.08.	Risk Management Procedures	22
4.09.	Merger	22
4.10.	Investments	23
4.11.	Liens	23
4.12.	Indebtedness	24
4.13.	Transactions with Affiliates	26
4.14.	Distributions	26
4.15.	Financial Covenants	27
4.16.	Separateness from PG&E Corp	27
4.17.	PG&E Gen Credit Agreement Covenants	27
SECTION V NEG TRIGGER EVENTS		27

5.01.	NEG Trigger Events	27
SECTION VI MISCELLANEOUS		28
6.01.	Amendments	28
6.02.	Successors and Assigns	28
6.03.	GOVERNING LAW	28
6.04.	No Waiver, Cumulative Remedies	29
6.05.	Authority and Rights of Security Agent	29

Schedules

1.01A	Existing Sale-Leaseback Transactions
1.01B	Terms and Conditions of Subordination for Indebtedness to Affiliates
1.01C	Terms and Conditions of Subordination for Indebtedness to Non-Affiliates
3.05	Litigation
3.12	Environmental Matters
3.14	Unrestricted Subsidiaries
4.01	Certain Restricted Subsidiaries not Subject to Sections 4.01 or 4.02
4.10	Other Existing Investments
4.11	Other Existing Liens
4.12(a)	Indebtedness under Certain Credit Agreements
4.12(f)	Other Existing Indebtedness
4.13	Description of Existing Management, Operation, Sharing and Similar Arrangements with Affiliates

Exhibits

A Form of Payment Demand

GUARANTEE AND AGREEMENT

        GUARANTEE AND AGREEMENT dated as of April 6, 2001 (this "Guarantee and Agreement") by PG&E NATIONAL ENERGY GROUP, INC., a Delaware corporation (this "Guarantor"), in favor of Citibank, N.A. as security agent (in such capacity, the "Security Agent") for the Creditors.

W I T N E S S E T H

        WHEREAS, as contemplated by the Participation Agreement, dated as of August 28, 1999, among Lake Road Generating Company, L.P., Lake Road Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A., as administrative agent and security agent (the "Participation Agreement"), the Lenders, Investors and other Creditors have agreed to make extensions of credit subject to the terms of the Operative Documents;

        WHEREAS, as contemplated by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among PG&E Corporation, the Guarantor, PG&E Generating Company, LLC, Lake Road Generating Company, L.P., Lake Road Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto, Citibank, N.A. and the other parties thereto (the "Omnibus Restructuring Agreement"), the parties thereto have agreed to certain amendments, waivers and modifications regarding the transactions contemplated by the Operative Documents (as defined in the Participation Agreement) in accordance with the terms of the Omnibus Restructuring Agreement;

        WHEREAS, it is a condition precedent to the effectiveness of the Omnibus Restructuring Agreement that the Guarantor shall have executed and delivered this Guarantee and Agreement to the Security Agent for the benefit of the Creditors;

        WHEREAS, the Guarantor owns directly or indirectly all of the membership interests in the Company, and the Guarantor will derive substantial direct and indirect benefit from the extensions of credit pursuant to the Operative Documents;

        NOW, THEREFORE, in consideration of the Creditors agreeing to make further extensions of credit pursuant to the Operative Documents as amended by the Omnibus Restructuring Agreement and the agreements contemplated thereby, the Guarantor agrees as follows:

SECTION I DEFINED TERMS

        1.01.    Definitions.    (a) Unless otherwise defined herein, capitalized terms used herein shall have the meanings given to them in the Participation Agreement (as amended by the Omnibus Restructuring Agreement).

        (b)  The following terms shall have the following meanings:

        "$1.1 Billion PG&E Gen Credit Agreement" shall mean the $1,100,000,000 Credit Agreement, dated as of September 1, 1998, as amended as of the date hereof, among PG&E Gen and the lenders party thereto.

        "Actual Knowledge" shall mean, with respect to any Person as to any event or circumstance, the actual knowledge of the Responsible Officer of such Person or receipt by such Person from the Administrative Agent or Security Agent, as the case may be, of notice of such event or circumstance.

        "Affiliate" shall mean, when used with respect to a specified Person, another Person that directly or indirectly controls or is controlled by or is under common control with the Person specified. For this purpose, "control" of a Person shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, whether through ownership of voting shares, by contract or otherwise.

        "Asset Company" shall mean any entity (a) (i) whose principal purpose is the acquisition, improvement, installation, design, engineering, construction, development, completion, financing, maintenance or operation of all or any part of a project or projects, or any asset related thereto, used in the business of generating, transmitting, transporting, distributing, producing or storing electric power, thermal energy, natural gas or other fuel or other energy-related businesses and (ii) substantially all its assets are limited to those assets being financed (or to be financed), or the operation of which is being financed (or to be financed), in whole or in part by a Project Financing Facility entered into by such entity and/or any Investment Vehicle that owns such entity or by contributions or intercompany loans from the Guarantor, any Restricted Subsidiary or any such Investment Vehicle or (b) which entity is a Subsidiary of an entity described in clause (a) and the business and assets of which are related to the business of such entity and which does not incur any Indebtedness other than (A) intercompany loans from an Asset Company which is the parent of such Subsidiary, the Guarantor, any Restricted Subsidiary or any Investment Vehicle that indirectly owns such Subsidiary, (B) Indebtedness of the type described in Section 4.12(i) or (C) Indebtedness under a Project Financing Facility.

        "Business Day" shall mean any day other than a Saturday, Sunday or other day on which commercial banks in New York City are authorized or required by law to close.

        "Cash Equivalents" shall mean (a) any evidence of indebtedness with a maturity of 180 days or less issued or directly and fully guaranteed or insured by the United States, Canada or any U.S. agency or instrumentality; (b) certificates of deposit or acceptances or Eurodollar time deposits with a maturity of 180 days or less of, and overnight bank deposits and demand accounts with (i) any financial institution that is not a foreign bank or a foreign bank holding company that has a bankwatch rating of at least B/C by Fitch and a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's or (ii) any financial institution that is a foreign bank or a foreign bank holding company that has a sovereign risk rating of at least AA by Fitch, a bankwatch rating of at least B by Fitch, a commercial paper rating of at least A-1 by S&P, F1 by Fitch or P-1 by Moody's and a minimum of US$20 billion in assets; (c) commercial paper with a maturity of 180 days or less issued by a U.S. or Canadian incorporated company that is not an Affiliate of the Guarantor and rated at least A-1 by S&P, F1 by Fitch or at least P-1 by Moody's; (d) Repurchase Agreements with a maturity of 90 days or less made with banks which meet the criteria in clause (b) above and primary government security dealers (as defined by the Federal Reserve System) which meet the criteria in clause (c) above, and are fully collateralized by investments meeting the criteria of clause (a) above; (e) tax-exempt municipal obligations of any state of the United States, or any municipality of any such state which mature within 180 days from the date of acquisition thereof and which, in each case, are rated at least MIG-1 or VMIG-1 by Moody's, and SP-1/A-1 or AA/A-1 by S&P; and (f) institutional money market funds that exclusively invest in any of the foregoing.

        "Cash Flow Available for Fixed Charges" for any period shall mean, without duplication, (i) EBITDA of the Guarantor and its Consolidated Subsidiaries which are not Unrestricted Subsidiaries for such period, minus (ii) EBITDA for such period of such Consolidated Subsidiaries that are financed with Indebtedness of such Subsidiary or which are direct or indirect Subsidiaries of a Financed Subsidiary of the Guarantor, plus (iii) Distributions received by the Guarantor from Subsidiaries described in the foregoing clause (ii) during such period except to the extent the amount of such Distributions previously constituted "Cash Flow Available for Fixed Charges" during such period as a result of clause (viii) below, minus (iv) Distributions described in the foregoing clause (iii) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", minus (v) any income reported by the Guarantor for such period for Persons that are not Consolidated Subsidiaries of the Guarantor, plus (vi) Distributions received by the Guarantor from Persons described in the foregoing

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clause (v) during such period, minus (vii) Distributions described in the foregoing clause (vi) that are attributable to extraordinary gains or other non-recurring items described in clause (iii) of the definition of "EBITDA", plus,(viii) cash and Cash Equivalents of Subsidiaries described in clause (ii) above that are legally and contractually available to such Subsidiary for the payment of dividends to the Guarantor, but only to the extent that the source of such cash and Cash Equivalents is from such Subsidiary's EBITDA for such period or from repayments during such period to such Subsidiary of loans made by such Subsidiary.

        "Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to Unrestricted Subsidiaries) determined in accordance with GAAP, excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Consolidated Subsidiary" shall mean with respect to any Person at any date any Subsidiary or other entity the accounts of which would be consolidated in accordance with GAAP with those of such Person in its consolidated financial statements as of such date.

        "Consolidated Tangible Net Assets" shall mean at any date the total net assets of the Guarantor and its Consolidated Subsidiaries (other than Unrestricted Subsidiaries) determined in accordance with GAAP, excluding, however, from the determination of total net assets (i) goodwill, organizational expenses, research and product development expenses, trade marks, trade names, copyrights, patents, patent applications, licenses and rights in any thereof, and other similar intangibles, (ii) all deferred charges or unamortized debt discount and expenses, (iii) all reserves carried and not deducted from assets, (iv) securities which are not readily marketable, (v) cash held in sinking or other analogous funds established for the purpose of redemption, retirement or prepayment of capital stock or other equity interests or Indebtedness, and (vi) any items not included in clauses (i) through (v) above which are treated as intangibles in conformity with GAAP.

        "Credit Support Arrangements" shall mean any Guaranty, letter of credit or other instrument or arrangement issued as support for the payment or performance obligations of a party under any Trading Arrangement.

        "Distribution" shall mean, in respect of any Person, (i) any payment of any dividends or other distributions with respect to the capital stock or other equity interests of such Person (except distributions in such capital stock or other equity interests) and (ii) any purchase, redemption or other acquisition or retirement for value of any capital stock or other equity interests of such Person or any Affiliate of such Person unless made contemporaneously from the net proceeds of the sale of capital stock or other equity interests.

        "EBITDA" shall mean, with respect to any Person for any period, the (i) income (or loss) before interest and taxes of such Person, plus (ii) to the extent deducted in determining such income (or loss), depreciation, amortization and other similar non-cash charges and reserves, minus (iii) to the extent recognized in determining such income (or loss), extraordinary gains (or losses), restructuring charges or other non-recurring items, plus (iv) to the extent deducted in determining such income (or loss), Lease Payment Obligations described in clause (iii) of the definition of "Lease Payment Obligations".

        "Equity Funding Arrangement" shall mean (i) an agreement to provide a capital contribution to or other equity investment in any Asset Company or Investment Vehicle in connection with any Project Financing Facility, (ii) a Guaranty, letter of credit or other similar arrangement with respect to any obligations of any Asset Company or Investment Vehicle under a Project Financing Facility, (iii) a Guaranty of any Investment Vehicle's obligation to make a capital contribution to or

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other equity investment in any Asset Company or Investment Vehicle in connection with a Project Financing Facility or (iv) a Guaranty, letter of credit or other similar arrangement to support any of the obligations or arrangements described in clauses (i) through (iii) hereof.

        "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as the same may be amended from time to time.

        "ERISA Affiliate" shall mean any trade or business (whether or not incorporated) that is a member of a group of (i) organizations described in Sections 414(b) or 414(c) of the Code and (ii) solely for purposes of the Lien created under Section 412(n) of the Code, organizations described in Sections 414(m) or 414(o) of the Code of which the Guarantor is a member.

        "ERISA Event" shall mean (i) the Guarantor or any ERISA Affiliate shall fail to pay when due an amount or amounts aggregating in excess of $15,000,000 which it shall have become liable to pay under Title IV of ERISA; or (ii) notice of intent to terminate a Material Plan shall be filed under Title IV of ERISA by the Guarantor or any ERISA Affiliate, any plan administrator or any combination of the foregoing; or (iii) the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or (iv) a condition shall exist by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated; or (v) there shall occur a complete or partial withdrawal from, or a default, within the meaning of Section 4219(c)(5) of ERISA, with respect to, one or more Multiemployer Plans which could cause the Guarantor or any ERISA Affiliate to incur a current payment obligation in excess of $15,000,000; or (vi) receipt by the Guarantor or any ERISA Affiliate of notice from one or more Multiemployer Plans of intent to terminate or that it is insolvent or in reorganization (within the meaning of Section 4241 or 4245 of ERISA, as applicable) which termination, insolvency or reorganization, individually or together with other such events, could cause the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, to incur a current payment obligation in excess of $15,000,000; or (vii) the Guarantor or any ERISA Affiliate shall engage in one or more non-exempt "prohibited transactions" (as defined in Section 406 of ERISA or Section 4975 of the Code) which could result in a current payment obligation of the Guarantor and/or any ERISA Affiliate individually or in the aggregate, in an amount or amounts aggregating in excess of $15,000,000; or (viii) the occurrence of any event or series of events of which the nature described in clauses (i) through (vii) with respect to any Plan or Multiemployer Plan which, individually or in the aggregate, could result in a liability to the Guarantor and/or any ERISA Affiliate, individually or in the aggregate, in an amount or amounts aggregating in excess of $50,000,000.

        "ET Credit Agreements" shall mean (i) the $50,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading Gas Corporation, PG&E Energy Trading, Canada Corporation, ET Holdings, PG&E Energy Trading Power, L.P. and Bank of Montreal and (ii) the $35,000,000 Credit Agreement, dated as of November 13, 1998, between PG&E Energy Trading—Gas Corporation, PG&E Energy Trading, Canada Corporation, PG&E Energy—Trading Power Holdings Corporation, PG&E Energy Trading Power, L.P. and The Chase Manhattan Bank, as each may be amended, modified or supplemented from time to time.

        "ET Holdings" shall mean PG&E Energy Trading Holdings Corporation, a California corporation.

        "Federal Reserve System" shall mean the Federal Reserve System of the United States of America.

        "Financed Subsidiary" shall mean any direct or indirect Subsidiary of the Guarantor that is financed with Indebtedness of such Subsidiary.

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        "Financial Officer" of any Person shall mean the chief financial officer, principal accounting officer, treasurer, associate or assistant treasurer, or any responsible officer analogous to the foregoing or designated by the one of the foregoing Persons, of such Person.

        "Fitch" shall mean Fitch, Inc.

        "Fixed Charges" shall mean, with respect to the Guarantor for any period, the sum, without duplication, of (i) the aggregate amount of interest expense and commitment and other fees with respect to Funded Indebtedness of the Guarantor Scheduled to be Paid for such period, including (A) the net costs under Swaps, (B) all capitalized interest, (C) the interest portion of any deferred payment obligation and (D) the Lease Payment Obligations of the Guarantor Scheduled to be Paid by the Guarantor during such period, and (ii) the aggregate amount of all mandatory scheduled payments (whether designated as payments or prepayments) and scheduled sinking fund payments with respect to principal of any Funded Indebtedness of the Guarantor, including payments in the nature of principal under Lease Obligations, provided that with respect to any Funded Indebtedness of the Guarantor consisting of Equity Funding Arrangements, "Fixed Charges" shall not include any of the foregoing enumerated items to the extent paid by a Subsidiary of the Guarantor (so long as the funds used to make such payments were not provided by the Guarantor).

        "Funded Indebtedness" of a Person shall mean all Indebtedness of such Person (after intercompany eliminations) other than any Guaranty obligations that are not reasonably quantifiable under standard accounting practices as of the date of determination.

        "GAAP" shall mean generally accepted accounting principles, applied on a consistent basis.

        "Governmental Approvals" shall mean all authorizations, consents, approvals, licenses and exemptions of, registrations and filings with, and notices and reports to all Governmental Authorities.

        "Government Authority" shall mean any Federal, state, county, municipal or other local governmental authority or judicial or regulatory agency, board, body, commission or instrumentality.

        "GTN" shall mean PG&E Gas Transmission, Northwest Corporation, a California corporation.

        "GTN Credit Agreements" shall mean (i) the $750,000,000 Indenture, dated as of May 22, 1995, between GTN and The First National Bank of Chicago, as trustee and (ii) the $100,000,000 Amended and Restated Credit Agreement and $50,000,000 364-Day Credit Agreement, each dated May 24, 1999, between GTN, the lenders party thereto and Citicorp USA, Inc., as administrative agent for such lenders, including any commercial paper supported by credit facilities made available under such credit agreements, as the same may be amended, modified or supplemented from time to time.

        "Guarantee Draw Amount" shall mean, as of the date of payment by the Guarantor, the Maximum Guarantee Amount on such date.

        "Guaranteed Obligations" shall mean the collective reference to all payment obligations and liabilities of the Company (including, without limitation, interest accruing at the applicable rate provided in the applicable Operative Document and interest accruing at the applicable rate provided in the applicable Operative Document after the filing of any petition in bankruptcy, or the commencement of any insolvency, reorganization or like proceeding relating to the Company, whether or not a claim for post-filing or post-petition interest is allowed in such proceeding) to any Creditor, whether direct or indirect, absolute or contingent, due or to become due, or now existing or hereafter incurred under the Participation Agreement, the Construction Agency Agreement, the Lease, the Structural Guarantee or any of the other Operative Documents.

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        "Guarantor" shall be defined as in the recitals hereto.

        "Guaranty" shall mean (a) a guaranty by a Person (other than by endorsement of negotiable instruments for collection in the ordinary course of business), directly or indirectly, in any manner, of any part or all of the obligations of another Person; and (b) an agreement by a Person, direct or indirect, contingent or otherwise, and whether or not constituting a guaranty, the practical effect of which is to assure the payment or performance (or payment of damages in the event of nonperformance) of any part or all of the obligations of another Person (other than in respect of operating leases not otherwise included in the definition of "Lease Obligations"), whether by (i) the purchase of securities or obligations, (ii) the purchase, sale or lease of property or the purchase or sale of services primarily for the purpose of enabling the obligor with respect to such obligation to make any payment or performance (or payment of damages in the event of nonperformance) of or on account of any part or all of such obligation, or to assure the obligee of such obligation against loss, (iii) repayment of amounts drawn down by beneficiaries of letters of credit, (iv) the maintenance of working capital, equity capital, available cash or other financial statement condition so as to enable the primary obligor to pay Indebtedness; (v) the provision of equity or other capital under or in respect of equity or other capital subscription arrangements, (vi) the supplying of funds to or investing in a Person on account of all or any part of such Person's obligation or indemnifying or holding harmless, in any way, such Person against any part or all of such obligation or (vii) the placing of any Lien on property (including, without limitation, accounts and contract rights) of a Person to secure another Person's Indebtedness.

        "Incipient NEG Trigger Event" shall mean any condition or event which, with notice or lapse of time or both, would become a NEG Trigger Event.

        "Indebtedness" of any Person shall mean (i) all indebtedness of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds, debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, (iv) all indebtedness created or arising under any conditional sale or other title retention agreement with respect to property acquired by such Person (even though the rights and remedies of the seller or lender under such agreement in the event of default are limited to repossession or sale of such property), (v) all Lease Obligations of such Person, (vi) all obligations, contingent or otherwise, of such Person under any issued and outstanding acceptance, letter of credit or similar instruments, (vii) all obligations of such Person to redeem or purchase any capital stock of such Person which is mandatorily redeemable, (viii) all Swaps of such Person and (ix) any Guaranty of such Person with respect to liabilities of the type described in clauses (i) through (viii) hereof.

        "Investment" shall mean the acquisition of any interest in any Person or property, a loan or advance to any Person or other arrangement for the purpose of providing funds or credit to any Person, a capital contribution in or to any Person, or any other investment in any Person or property, or any Guaranty of any of the foregoing.

        "Investment Vehicle" shall mean each Subsidiary of the Guarantor which is organized solely to acquire, make or hold one or more Investments in an Asset Company or Asset Companies, either directly or indirectly through one or more other Investment Vehicles.

        "Lease Obligations" shall mean, without duplication, (i) any Indebtedness represented by obligations under a lease that is required to be capitalized for financial reporting purposes and (ii) the present value, determined using a discount rate equal to the incremental borrowing rate (as defined in Statement of Financial Accounting Standards No. 13) of the Person incurring such obligations, of rent obligations under leases of electric generating assets or natural gas pipelines and related facilities.

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        "Lease Payment Obligations" shall mean, with respect to any Person for any period, (i) the interest component of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period, plus (ii) the principal portion of all Lease Obligations of such Person that are described in clause (i) of the definition of "Lease Obligations" that are Scheduled to be Paid during such period, plus (iii) all rent payment obligations relating to Lease Obligations of such Person described in clause (ii) of the definition of "Lease Obligations" and that are Scheduled to be Paid during such period.

        "Letter Agreement" shall mean the letter agreement, dated as of April 6, 2001, from NEG LLC addressed to the Security Agent, for the benefit of the Creditors.

        "Lien" shall mean, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset or any interest or title of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset.

        "Material Adverse Effect" shall mean a materially adverse change in (a) the business, assets, property or condition (financial or otherwise) or operations of the Guarantor and its Subsidiaries taken as whole, or (b) the ability of the Guarantor to perform its obligations under this Guarantee and Agreement.

        "Material Plan" shall mean any Plan or Plans having aggregate Unfunded Liabilities in excess of $50,000,000.

        "Maximum Guarantee Amount" shall mean, as of any date of payment by the Guarantor, the aggregate of the amount of the unpaid principal of all Tranche A Loans (or, if higher, an amount equal to the aggregate outstanding Tranche A Loan Commitments in effect at such time, or, if not in effect at such time, in effect immediately prior to any termination thereof) and the amount of all accrued and unpaid interest thereon and other amounts payable in connection with the Tranche A Loans.

        "Minimum Consolidated Net Worth" shall mean $1.8 billion.

        "Minimum Non-Trading Consolidated Net Worth" shall mean $1.4 billion.

        "Moody's" shall mean Moody's Investors Service, Inc.

        "Multiemployer Plan" shall mean a multiemployer plan as defined in Section 4001(a)(3) of ERISA to which the Guarantor or any ERISA Affiliate is making, or accruing an obligation to make, contributions, or has within any of the preceding six years made, or accrued an obligation to make, contributions.

        "NEG/ET Letter of Credit Facilities" shall mean a letter of credit facility entered into by ET Holdings, any of its Subsidiaries and/or the Guarantor in an aggregate amount not to exceed $500,000,000, as the same may be amended, modified or supplemented from time to time.

        "NEG Downgrade Event" shall mean (i) unless the NEG Guarantee Release Date has occurred, the Guarantor's senior unsecured long term debt (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the Guarantor fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount or (ii) if a Substitute Credit Support Instrument in the form of a guaranty pursuant to clause (b) of the definition thereof has been provided in accordance with Section 2.07, from and after the

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effectiveness of such Substitute Credit Support Instrument, the senior unsecured long term debt of the guarantor thereunder (x) ceases to be rated at least BBB- by S&P and (y) ceases to be rated at least Baa3 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt ceases to be impliedly rated by an issuer rating or indicative rating at least BBB- by S&P and Baa3 by Moody's) and the guarantor thereunder fails to provide to the Security Agent, within thirty (30) days after the date on which such event occurs, a Substitute Credit Support Instrument in the amount of the Substitute Credit Support Amount.

        "NEG Guarantee Release Date" shall mean the earliest of (x) the date on which the Guaranteed Obligations have been paid in full, (y) the date on which NEG pays an amount equal to the Maximum Guarantee Amount to the Security Agent in accordance with the terms of this Guarantee and Agreement and (z) the date on which this Guarantee and Agreement terminates in accordance with Section 2.07(b) hereof.

        "NEG LLC" shall mean PG&E National Energy Group, LLC, a Delaware limited liability company.

        "NEG Trigger Event" shall mean any of the events set forth in Section V of this Guarantee and Agreement.

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        "Non-Trading Consolidated Net Worth" shall mean, as of any date of determination thereof, the amount which would be reflected as stockholders' equity upon a consolidated balance sheet of the Guarantor (but excluding any portion thereof attributable to (i) Unrestricted Subsidiaries or (ii) ET Holdings or any Subsidiary thereof) excluding other comprehensive income arising from the accounting treatment of hedging and mark-to-market transactions.

        "Other NEG Guarantees" shall mean (i) the Guarantee and Agreement, dated as of April 6, 2001, made by the Guarantor in favor of Citibank, N.A., for the benefit of the lenders and investors under the Participation Agreement, dated as of March 7, 2000, among La Paloma Generating Company, LLC, La Paloma Trust Ltd., Wilmington Trust Company, the Lenders party thereto, the Tranche A Banks party thereto, the Investors party thereto and Citibank, N.A. (as amended by the Omnibus Restructuring Agreement, dated as of April 6, 2001, among the same parties and other parties thereto), (ii) the Guarantee and Agreement to be delivered by the Guarantor in favor of the security agent thereunder, for the benefit of the lenders and investors under the Participation Agreement, dated as of November 22, 2000, among Harquahala Generating Company, LLC, Harquahala Generating Trust of Delaware Ltd., Wilmington Trust Company, the Lenders party thereto, the Investors party thereto, Société Générale and State Street Bank and Trust Company and (iii) the Guarantee and Agreement to be delivered by the Guarantor in favor of Société Générale, for the benefit of the lenders under the Credit Agreement to be executed among PG&E National Energy Group Construction Company, LLC, the lenders party thereto and Société Générale.

        "Payment Demand" shall mean the payment demand in the form of Exhibit A.

        "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA.

        "Permitted Encumbrances" shall mean, as to any Person at any date, any of the following:

          (i)  Liens for taxes, assessments or governmental charges not then delinquent, and Liens for taxes, assessments or governmental charges then delinquent but the validity of which is being contested at the time by such Person in good faith and for which adequate reserves have been established in accordance with GAAP, and (ii) Liens incurred or created in connection with or to secure the performance of bids, tenders, contracts (other than for the payment of money), leases, statutory obligations, surety bonds or appeal bonds, and carriers', warehousemen's, mechanics' or materialmen's Liens, assessments or similar encumbrances incurred in the ordinary course of business;

        (ii)  easements, restrictions, exceptions or reservations in any property and/or rights of way of such Person for the purpose of roads, pipe lines, substations, transmission lines, transportation lines, distribution lines, removal of oil, gas, lignite, coal or other minerals or timber, and other like purposes, or for the joint or common use of real property, rights of way, facilities and/or equipment, and defects, irregularities and deficiencies in titles of any property and/or rights of way, which do not individually or in the aggregate materially impair the use or value of such property and/or rights of way for the purposes for which such property and/or rights of way are held by such Person;

        (iii)  rights reserved to or vested in any municipality or public authority to use, control or regulate any property of such Person;

        (iv)  any obligations or duties, affecting the property of such Person, to any municipality or public authority with respect to any franchise, grant, license or permit;

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        (v)  any judgment Lien against such Person securing a judgment for an amount not exceeding $50,000,000, so long as the finality of such judgment is being contested by appropriate proceedings conducted in good faith and execution thereon is stayed;

        (vi)  any Lien arising by reason of deposits with or giving of any form of security to any federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, for any purpose at any time as required by law or governmental regulation as a condition to the transaction of any business or the exercise of any privilege or license, or to enable such Person to maintain self-insurance or to participate in any fund for liability on any insurance risks or in connection with workers' compensation, unemployment insurance, old age pensions or other social security or to share in the privileges or benefits required for companies participating in such arrangements; or

      (vii)  any landlords' Lien on fixtures or movable property located on premises leased by such Person in the ordinary course of business so long as the rent secured thereby is not in default.

        "Permitted Sale-Leaseback Transactions" shall mean (i) Sale-Leaseback transactions by any Restricted Subsidiary or Asset Company, entered into on or prior to the date of this Guarantee and Agreement and identified on Schedule 1.01A and (ii) one or more Sale/Leaseback transactions entered into by any Asset Company in connection with or as part of a Project Financing Facility entered into after the date of execution of this Guarantee and Agreement.

        "Permitted Subordinated Indebtedness" shall mean all unsecured Indebtedness of the Guarantor that shall have been subordinated to all Indebtedness of the Guarantor under this Guarantee and Agreement and otherwise containing terms and conditions set forth in Schedule 1.01B with respect to Indebtedness of the Guarantor to Affiliates of the Guarantor or in Schedule 1.01C with respect to Indebtedness of the Guarantor to non-Affiliates of the Guarantor.

        "Person" shall mean any individual, corporation, partnership, joint venture, association, joint-stock company, limited liability company, trust, unincorporated organization, governmental authority or any other entity.

        "PG&E" shall mean Pacific Gas & Electric Company, a California corporation.

        "PG&E Corp." shall mean PG&E Corporation, a California corporation.

        "PG&E Gen" shall mean PG&E Generating Company, LLC, a Delaware limited liability company.

        "PG&E Gen Credit Agreements" shall mean (i) the $1.1 Billion PG&E Gen Credit Agreement, including any commercial paper supported by credit facilities made available thereunder, and (ii) the $10,000,000 Credit Agreement, dated as of December 14, 1999, between PG&E Gen and ABN AMRO Bank N.V., as each may be amended, modified or supplemented from time to time.

        "PG&E Gen Credit Agreement Refinancing Date" shall mean the date on which the commitments and all amounts outstanding under the $1.1 Billion PG&E Gen Credit Agreement are refinanced by one or more credit facilities of the Guarantor.

        "Plan" shall mean any employee pension benefit plan described under Section 3(2) of ERISA (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA that is maintained by the Guarantor or any ERISA Affiliate or with respect to which the Guarantor or any ERISA Affiliate could have liability under Section 4069 of ERISA.

        "Project Financing Facility" shall mean any loan, note purchase agreement, indenture, lease, credit agreement, reimbursement agreement, letter of credit or other facility pursuant to which an Asset Company or Investment Vehicle which directly or indirectly owns an Asset Company incurs

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Indebtedness, provided that any such Indebtedness is recourse only to (a) the assets of such Asset Company or any Asset Company which is a Subsidiary of such Asset Company, (b) the equity or ownership interests of such Asset Company or any Investment Vehicle which owns such Asset Company or (c) any Equity Funding Arrangements provided with respect to such Asset Company or Investment Vehicle or a Lien on any such Equity Funding Arrangements.

        "Projections" shall mean the projections contained in the presentation materials distributed by the Guarantor to the Creditors during the bank meeting held on March 21, 2001 in New York City.

        "Ratio of Cash Flow to Fixed Charges" shall mean, as of the end of each fiscal quarter the Guarantor, the ratio of (a) Cash Flow Available for Fixed Charges of the Guarantor for the period of four consecutive fiscal quarters ending on, or most recently ended prior to, such date to (b) Fixed Charges of the Guarantor for such period, excluding from the calculation of Fixed Charges all Trading Arrangements and Credit Support Arrangements.

        "Ratio of Debt to Capitalization" shall mean, as of any date, the ratio of the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen to the Total Capitalization of the Guarantor (excluding from the calculation of Funded Indebtedness all Trading Arrangements, Credit Support Arrangements and Swaps); provided that any Equity Funding Arrangements shall only be included in Funded Indebtedness in an amount equal to the lesser of (x) the maximum amount that would be payable under such Equity Funding Arrangements (assuming a drawing is permissible as of the date of determination) and (y) the amount outstanding under any underlying Indebtedness to which any payment under such Equity Funding Arrangements would be applied (assuming such Indebtedness were due and payable as of the date of determination).

        "Refinanceable Facilities" has the meaning ascribed thereto in Section 4.12(a).

        "Repurchase Agreement" shall mean any written agreement:

(i)

that provides for (i) the transfer of one or more United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality in an aggregate principal amount at least equal to the amount of the Transfer Price (defined below) to the Guarantor or any Restricted Subsidiary from a financial institution that is (1) a member of the Federal Reserve System having a minimum of US$20 billion in assets, and (2) has commercial paper rated at least A-1 by S&P, at least F1 by Fitch or at least P-1 by Moody's, against a transfer of funds (the "Transfer Price") by the Guarantor or such Restricted Subsidiary to such financial institution and (ii) a simultaneous agreement by the Guarantor or such Restricted Subsidiary, in connection with such transfer of funds, to transfer to such financial institution the same or substantially similar United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality for a price not less than the Transfer Price plus a reasonable return thereon at a date certain not later than 180 days after such transfer of funds,



(ii)

in respect of which the Guarantor or such Restricted Subsidiary shall have the right, whether by contract or pursuant to applicable law, to liquidate such agreement upon the occurrence of any default thereunder, and



(iii)

in connection with which the Guarantor or such Restricted Subsidiary, or an agent thereof, shall have taken all action required by applicable law or regulations to perfect a Lien in such United States or Canadian Governmental Securities or any security issued by a U.S. agency or instrumentality.

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        "Responsible Officer" of the Guarantor, shall mean any president or senior vice president of the Guarantor.

        "Restricted Subsidiary" shall mean any Subsidiary of the Guarantor that is not (x) an Asset Company, (y) an Investment Vehicle or (z) an Unrestricted Subsidiary.

        "S&P" shall mean Standard & Poor's Ratings Service, a division of McGraw Hill Companies, Inc.

        "Sale/Leaseback" shall mean any lease whereby any Person becomes or remains liable as lessee or as guarantor or other surety of any property, whether now owned or hereafter acquired, that such Person has sold or transferred or is to sell or transfer to any other Person (other than any Subsidiary of such Person), as part of a financing transaction to which such Person is a party, in contemplation of leasing such property to such Person.

        "Scheduled to be Paid" shall mean, with respect to any liability or expense for any period, the amount of such liability or expense scheduled to be paid during such period or the amount of such liability or expense that would have been scheduled to be paid during such period had the payment schedule with respect to such liability or expense been divided equally into successive periods having a duration equal to the duration of such period.

        "Subsidiary" shall mean, with respect to any Person (the "Parent"), any corporation or other entity of which sufficient securities or other ownership interests having ordinary voting power to elect a majority of the board of directors or other Persons performing similar functions are at the time directly or indirectly owned by such Parent.

        "Substitute Credit Support Amount" shall mean, as of the date any Substitute Credit Support Instrument is provided, 105% of the amount of the outstanding principal of all Tranche A Loans (or, if higher, an amount equal to 105% of the aggregate outstanding Tranche A Loan Commitments in effect at such time, or, if not in effect at such time, in effect immediately prior to any termination thereof) as determined by the Administrative Agent.

        "Substitute Credit Support Instrument" shall mean either (a) an irrevocable letter of credit issued in form and substance satisfactory to the Security Agent in its reasonable judgment and from a bank or trust company with a combined capital and surplus of at least $1,000,000,000 whose unsecured senior long term debt is rated at least "A" by S&P and "A2" by Moody's; provided that such letter of credit shall contain provisions that authorize a draw on such letter of credit in the event that (i) either (A) there is a downgrade in the credit rating of the issuer of such letter of credit to below the level specified above or (B) such issuer is no longer rated by both S&P and Moody's and such letter of credit is not replaced with a Substitute Credit Support Instrument within thirty (30) days after such event, (ii) such letter of credit is not replaced or renewed by no later than fifteen (15) Business Days prior to its date of expiration or (iii) an Event of Default shall have occurred and be continuing and the Guaranteed Obligations are then due and payable or (b) a Guaranty in form and substance satisfactory to, and issued by a Subsidiary of the Guarantor acceptable to, each Creditor in its sole discretion.

        "Swaps" shall mean, with respect to any Person, payment obligations with respect to interest rate swaps, currency swaps and similar obligations obligating such Person to make payments, whether periodically or upon the happening of a contingency. The amount of the obligation under any Swap shall be the amount determined in respect thereof as of the end of the then most recently ended fiscal quarter of such Person, based on the assumption that such Swap had terminated at the end of such fiscal quarter, and in making such determination, if any agreement relating to such Swap provides for the netting of amounts payable by and to such Person thereunder of if any such agreement provides for the simultaneous payment of amounts by and to

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such Person, then in each such case, the amount of such obligation shall be the net amount so determined.

        "Total Capitalization" shall mean, with respect to the Guarantor, the sum, without duplication, of (i) total common stock equity or analogous ownership interests of the Guarantor, (ii) preferred stock and preferred securities of the Guarantor, (iii) additional paid in capital or analogous interests of the Guarantor, (iv) retained earnings of the Guarantor, excluding other comprehensive income arising from accounting treatment of hedging and mark-to-market transactions and (v) the aggregate principal amount of Funded Indebtedness of the Guarantor and PG&E Gen.

        "Trading Arrangement" shall mean any transaction entered into by PG&E Energy Trading—Power, L.P., a Delaware limited partnership, PG&E Energy Trading Gas Corporation, a California corporation, or PG&E Energy Trading, Canada Corporation, an Alberta corporation, any other Restricted Subsidiary, Asset Company or Investment Vehicle, whether pursuant to master trading agreements or otherwise, for (1) the purchase and sale of energy, capacity, ancillary services and other energy or energy-related products, including transmission rights, environmental allowances and offsets and storage; (2) the purchase and sale of natural gas, coal, oil and other fuel, including transportation and storage rights; (3) the purchase and sale of fuel conversion services, including tolling arrangements; (4) the purchase and sale of any energy or energy-related derivatives, including weather derivatives; (5) hedging arrangements with respect to any of the foregoing and interest rate, foreign currency or credit exposure; or (6) any similar arrangements entered into in the ordinary course of business as conducted by such Persons or by other Persons in the energy trading, energy services, power generating, electric transmission or gas transmission and storage businesses (including technologies related to such businesses).

        "Unfunded Liabilities" shall mean, with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability of the Guarantor or any ERISA Affiliate to the PBGC or any other Person under Title IV of ERISA.

        "United States" or "U.S." or "US" shall mean the United States of America.

        "United States or Canadian Governmental Securities" shall mean securities issued, or fully guaranteed or insured by the United States or Canadian government.

        "Unrestricted Subsidiary" shall mean any Subsidiary of the Guarantor designated as such on the Closing Date, or, after the Closing Date, designated as such at the time of formation thereof or, if acquired by the Guarantor, at the time of acquisition thereof, but, in any such case, only if at such time (i) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or would occur as a result thereof and (ii) such Subsidiary or any of its Subsidiaries does not own any capital stock or Indebtedness of or have any Investment in, or own or hold any Lien on any property of, any other Subsidiary of the Guarantor which is not a Subsidiary of the Subsidiary to be so designated or otherwise an Unrestricted Subsidiary.

        "USGenNE" shall mean USGen New England, Inc., a Delaware corporation and an indirect, wholly-owned Subsidiary of the Guarantor.

        "USGenNE Credit Agreement" shall mean the $575,000,000 Credit Agreement, dated as of September 1, 1998, among USGenNE, the lenders party thereto, The Chase Manhattan Bank, as competitive advance facility agent and as administrative agent for the lenders thereunder, and The

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Chase Manhattan Bank, as the issuer of letters of credit thereunder, the same may be amended, modified or supplemented from time to time.

        1.02.    Other Definitional Provisions.    The following rules of usage shall apply unless otherwise required by the context or unless otherwise specified herein:

        (a)  Definitions set forth herein shall be equally applicable to the singular and plural forms of the terms defined.

        (b)  References in any document to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits are references to articles, sections, paragraphs, clauses, annexes, appendices, schedules or exhibits in such document.

        (c)  The headings, subheadings and table of contents used herein are solely for convenience of reference and shall not constitute a part hereof nor shall they affect the meaning, construction or effect of any provision hereof.

        (d)  References to any Person shall include such Person, its successors and permitted assigns and transferees.

        (e)  Reference to any agreement means such agreement as amended, supplemented or otherwise modified from time to time in accordance with the applicable provisions thereof.

        (f)    References to any law includes any amendment or modification to such law and any rules or regulations issued thereunder or any law enacted in substitution or replacement thereof.

        (g)  The words "hereof," "herein", "hereto" and "hereunder" and words of similar import when used in this Guarantee and Agreement shall refer to this Guarantee and Agreement as a whole and not to any particular provision of this Guarantee and Agreement.

        (h)  References to "including" means including without limiting the generality of any description preceding such term and for purposes hereof the rule of ejusdem generis shall not be applicable to limit a general statement, followed by or referable to an enumeration of specific matters, to matters similar to those specifically mentioned.

        (i)    Each of the parties to this Guarantee and Agreement and their counsel have reviewed and revised, or requested revisions to this Guarantee and Agreement, and the usual rule of construction that any ambiguities are to be resolved against the drafting party shall be inapplicable in the construing and interpretation of this Guarantee and Agreement and any amendments hereto.

        (j)    Except as otherwise expressly provided herein, all terms of an accounting or financial nature shall be construed in accordance with GAAP, as in effect from time to time; provided that for purposes of determining compliance with any covenant set forth herein, such terms shall be construed in accordance with GAAP as in effect on the date hereof applied on a basis consistent with the application used in preparing the Guarantor's audited financial statements.

SECTION II GUARANTEE

        2.01.    Guarantee; Payment.    (a) Subject to the terms herein, the Guarantor unconditionally guarantees to the Security Agent for the benefit of the Creditors, the prompt and complete payment when due of the Guaranteed Obligations. This is a guarantee of payment and not of collection.

        (b)  When and at such time as an Event of Default shall have occurred and be continuing, the Security Agent shall be entitled to make a Payment Demand to the Guarantor in accordance with Section 2.04 for the payment of all due and unpaid Guaranteed Obligations, subject to the provisions

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of Section 2.02. The Guarantor shall pay such Guaranteed Obligations to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        (c)  When and at such time as a NEG Trigger Event (whether or not an Event of Default is then continuing) shall have occurred and be continuing, the Security Agent shall be entitled (to the extent that a Payment Demand has not been made pursuant to paragraph (b) of this Section) to make a Payment Demand for the payment of the Guarantee Draw Amount. The Guarantor shall pay the Guarantee Draw Amount to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        (d)  If an Event of Default is continuing at any time after payment of the Guarantee Draw Amount is made pursuant to paragraph (c) of this Section, the Security Agent shall be entitled to make a Payment Demand in an amount equal to the Maximum Guarantee Amount applicable at such time less any amount previously paid by the Guarantor pursuant to paragraph (c) of this Section. The Guarantor shall pay such amount to the Security Agent within five (5) Business Days of receipt of such Payment Demand.

        2.02.    Extent of Liability.    The Guarantor's liability for the Guaranteed Obligations under this Guarantee and Agreement is limited to the Maximum Guarantee Amount. Except as the same comprise Guaranteed Obligations under the Operative Documents, the Guarantor shall not be liable hereunder for special, consequential, exemplary, tort or other damages. The Guarantor agrees to pay all out-of-pocket expenses (including the reasonable fees and expenses of Security Agent's counsel) incurred for the enforcement of the rights of Security Agent hereunder; provided that the Guarantor shall not be liable for any such expenses if no payment in respect of the Guaranteed Obligations is due. Subject to reinstatement pursuant to Section 2.03, this Guarantee and Agreement shall remain in full force and effect until the NEG Guarantee Release Date unless otherwise terminated in writing by the Guarantor and the Security Agent.

        2.03.    Nature of Guarantee.    The Guarantor acknowledges and agrees that its guarantee obligations under this Guarantee and Agreement shall be construed as continuing, absolute and unconditional without regard to (a) the validity, regularity or enforceability of any Operative Documents, any of the Guaranteed Obligations or any other collateral security therefor or guaranty or right of offset with respect thereto at any time or from time to time held by the Security Agent or any Creditor, (b) any defense, set-off or counterclaim (other than a defense of payment or performance) which may at any time be available to or be asserted by the Company or the Guarantor against the Security Agent or any Creditor, or (c) any other circumstance whatsoever (with or without notice to or knowledge of the Company or the Guarantor) which constitutes, or might be construed to constitute, an equitable or legal discharge of the Guaranteed Obligations (other than payment or performance), in bankruptcy or in any other instance. The Guarantor's obligations hereunder with respect to any Guaranteed Obligations shall not be affected by the existence, validity, enforceability, substitution, perfection, or extent of any collateral for such Guaranteed Obligations. The Security Agent shall be entitled to but shall not be obligated to file any claim relating to the Guaranteed Obligations owing to it if the Company becomes subject to a bankruptcy, reorganization or similar proceeding and the failure of the Security Agent to so file shall not affect the Guarantor's obligations hereunder. If any payment to the Security Agent made by the Company or the Guarantor with respect to any Guaranteed Obligations is rescinded or must otherwise be returned for any reason whatsoever, the Guarantor shall remain liable therefor hereunder (and its obligations reinstated hereunder if previously terminated) with respect to such Guaranteed Obligations as if such payment had not been made. The Guarantor reserves the right to assert defenses that the Company may have under the Operative Documents to payment of any Guaranteed Obligation other than (i) defenses arising from the bankruptcy, insolvency, incapacity, liquidation or dissolution of the Company, and (ii) defenses arising out of the matters described above in this Section 2.03 or any other circumstance or event that might otherwise constitute a legal or equitable discharge of a guarantor or a surety generally.

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        2.04.    Demands and Notice; Application of Proceeds.    (a) A Payment Demand shall be sufficient notice to the Guarantor to pay under this Guarantee and Agreement. The Guarantor shall make all payments of amounts owing pursuant to this Guarantee and Agreement by wire transfer of immediately available funds to the account specified by the Security Agent in the Payment Demand. Notices under this Guarantee and Agreement shall be deemed received if sent to the address specified below: (i) on the day received if served by overnight express delivery, (ii) on the next Business Day if served by facsimile transmission when sender has machine confirmation that facsimile was transmitted to the correct fax number listed below, and (iii) four Business Days after mailing if sent by certified, first class mail, return receipt requested. Any party may change its address to which notice is given hereunder by providing notice thereof in accordance with this Section 2.04.

To the Guarantor:	PG&E National Energy Group, Inc. 7500 Old Georgetown Road, 13th floor Bethesda, MD 20814 Attention: General Counsel Fax: 301.280.6913
To the Security Agent:	Citibank, N.A. 111 Wall Street, 14th Floor Zone 3 New York, NY 10005 Attention: Citibank Agency & Trusts Fax: 212.657.3862 Tel: 212.657.7403

        (b)  The Security Agent shall apply the proceeds of any payment made hereunder to the Security Agent in accordance with Section 5.13(e) of the Security Deposit Agreement and the other provisions of the Operative Documents.

        2.05.    Consent to Modifications, Waivers.    The Security Agent and the Company may mutually agree to modify the Operative Documents, extend the time of payment or otherwise modify the terms of payment of any of the Guaranteed Obligations, without in any way impairing or affecting this Guarantee and Agreement. The Security Agent may resort to the Guarantor for payment of any of the Guaranteed Obligations, whether or not the Security Agent shall have resorted to any collateral security, or shall have proceeded against (or otherwise exhausted Security Agent's remedies against) the Company or any other obligor principally or secondarily obligated with respect to any of the Guaranteed Obligations. The Guarantor hereby waives demand (except in accordance with Sections 2.01 and 2.04), promptness, diligence (subject to any applicable statute of limitations), notice of acceptance of this Guarantee and Agreement, and also presentment, protest and notice of protest or dishonor of any evidences of obligations hereby guaranteed.

        2.06.    Subrogation.    The Guarantor waives any rights of subrogation or reimbursement from the Company or any other Person that may accrue to Guarantor with respect to the payment of any Guaranteed Obligation by Guarantor to Security Agent under this Guarantee and Agreement until the time that all Guaranteed Obligations owing to the Security Agent and the Creditors are fully and indefeasibly paid and the Commitments are terminated. Upon such full and indefeasible payment of all the Guaranteed Obligations owing to the Security Agent and the Creditors and the termination of the Commitments, the Guarantor shall be subrogated to the rights of the Security Agent and the Creditors against the Company, and the Security Agent agrees to take at Guarantor's expense such steps as the Guarantor may reasonably request to cause the implementation of such subrogation.

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        2.07.    Substitute Credit Support.    Notwithstanding anything to the contrary set forth herein, the following provisions shall apply:

        (a)  At any time prior to the termination of the Guaranteed Obligations, the Guarantor may deliver or cause to be delivered to Security Agent a Substitute Credit Support Instrument with a stated amount at least equal to the Substitute Credit Support Amount in substitution for this Guarantee and Agreement in accordance with this Section 2.07.

        (b)  Upon delivery of a Substitute Credit Support Instrument together with a legal opinion satisfactory to the Administrative Agent that the delivery of such instrument would not constitute a preference in a bankruptcy of the Guarantor or, if no legal opinion is delivered with such Substitute Credit Support Instrument, upon the 91^st day after the delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), this Guarantee and Agreement shall terminate and the Guarantor shall be relieved of any liability hereunder. Within ten (10) days of the receipt of such Substitute Credit Support Instrument together with such legal opinion, if applicable, or on the 91^st day after delivery of such Substitute Credit Support Instrument (so long as no bankruptcy, insolvency or other similar event has occurred with respect to the Guarantor), if applicable, the Security Agent shall return to the Guarantor this Guarantee and Agreement together with any certificate or other documentation reasonably requested by the Guarantor in order to confirm the cancellation of this Guarantee and Agreement.

SECTION III REPRESENTATIONS AND WARRANTIES

        The Guarantor represents and warrants to the Security Agent and each of the Creditors as of the date hereof and on each date extensions of credit are to be made pursuant to the Participation Agreement and on or prior to the Conversion Date as follows (except to the extent that any representation or warranty hereunder is made with respect to an earlier date, in which case such representation and warranty shall be deemed to have been made on such earlier date):

        3.01.    Organization; Powers; Ownership of Property.    The Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) (a) is duly formed, validly existing and in good standing under the laws of the jurisdiction of its formation, except, with respect to such Subsidiaries, where the failure to be validly existing or in good standing is not reasonably likely to result in a Material Adverse Effect, (b) has all requisite power and authority to own its property and assets and to carry on its business as now conducted and as proposed to be conducted, (c) is qualified to do business in every jurisdiction where such qualification is required, except where the failure so to qualify is not reasonably likely to result in a Material Adverse Effect, (d) as to the Guarantor only, has the power and authority to execute, deliver and perform its obligations under this Guarantee and Agreement, and (e) owns and has good and marketable title to all of its properties and assets, subject to no Liens other than those permitted by Section 4.11 hereof, except where the failure to own or to have good and marketable title to such property or asset is not reasonably likely to result in a Material Adverse Effect.

        3.02.    Authorization.    The execution, delivery and performance by the Guarantor of this Guarantee and Agreement (a) have been duly authorized by all requisite corporate action on the part of the Guarantor, and (b) will not (i) violate (A) any provision of any law, statute, rule or regulation to which the Guarantor is subject, (B) the articles of incorporation or by-laws of the Guarantor, (C) any order of any Governmental Authority to which the Guarantor is subject, or (D) any material provision of any indenture, agreement or other instrument to which the Guarantor is a party or by which it or any of its property is or may be bound, which such violation is reasonably likely to result in a Material Adverse Effect, (ii) constitute (alone or with notice or lapse of time or both) a default under any such indenture, agreement or other instrument, which such default is reasonably likely to result in a Material

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Adverse Effect or (iii) result in the creation or imposition of any Lien upon any property or assets of the Guarantor, which such Lien is reasonably likely to result in a Material Adverse Effect.

        3.03.    Enforceability.    This Guarantee and Agreement constitutes a legal, valid and binding obligation of the Guarantor enforceable in accordance with its terms except to the extent that enforcement may be limited by bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally.

        3.04.    Financial Statements.    (a) The unaudited consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 1999, and the related consolidated statements of income, retained earnings and cash flows for the fiscal period then ended, a copy of which was delivered to the Administrative Agent on March 21, 2000, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such date and their consolidated results of operations and cash flows for such period ending on such date.

        (b)  The unaudited consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of December 31, 2000, and the related consolidated statements of income and retained earnings for the fiscal period then ended, a copy of which was delivered to the Administrative Agent on March 21, 2000, fairly presented in conformity with GAAP, the consolidated financial position of the Guarantor and its Consolidated Subsidiaries as of such date and their consolidated results of operations for such period ending on such date. As of the date hereof, there has been no material adverse change in the financial statements of the Guarantor from the unaudited financial statements referred to in the preceding sentence.

        (c)  The assumptions used in preparing the Projections were made in good faith and are reasonable as of the date of such Projections and as of the date hereof.

        (d)  Since December 31, 2000, there has been no development or condition that has had, or could reasonably be expected to result in, a Material Adverse Effect (assuming that the transactions contemplated by the Other NEG Guarantees shall have occurred).

        3.05.    Litigation.    Except as set forth on Schedule 3.05, there is no action, suit or proceeding pending against, or to the Actual Knowledge of the Guarantor threatened against or affecting, the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) before any court or arbitrator or any governmental body, agency or official in which an adverse decision is reasonably likely to result in a Material Adverse Effect or call into question the enforceability of this Guarantee and Agreement.

        3.06.    Federal Reserve Regulations.    (a) Neither the Guarantor nor any of its Subsidiaries is engaged principally, or as one of its important activities, in the business of extending, credit for the purpose of purchasing or carrying Margin Stock.

        (b)  Not more than 25% of the value of the assets of the Guarantor is represented by Margin Stock.

        3.07.    Investment Company Act; Public Utility Holding Company Act.    (a) Neither the Guarantor nor any of its Subsidiaries is an "investment company" as defined in, or subject to regulation under, the Investment Company Act of 1940.

        (b)  The Guarantor is not a "holding company" but is a "subsidiary company" and an "affiliate" of a "holding company", the Parent, that is exempt from all provisions, except Section 9(a)(2), of the Public Utility Holding Company Act of 1935, as amended, and the execution, delivery and performance by the Guarantor of this Guarantee and Agreement and its obligations hereunder do not violate any provision of such Act or any rule or regulation thereunder.

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        3.08.    No Material Misstatements.    The reports, financial statements and other written information furnished by or on behalf of the Guarantor to the Security Agent or any Creditor pursuant to or in connection with this Guarantee and Agreement do not contain, when taken as a whole, any untrue statement of a material fact and do not omit, when taken as a whole, to state any fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading in any material respect.

        3.09.    Taxes.    The Guarantor has filed or caused to be filed all Federal and material state and local tax returns which to its Actual Knowledge are required to be filed by it, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than any taxes or assessments the validity of which is being contested in good faith by appropriate proceedings and with respect to which appropriate accounting reserves have to the extent required by GAAP been set aside. Each Subsidiary of the Guarantor (other than any Unrestricted Subsidiary) has filed or caused to be filed all Federal and material state and local tax returns which to the Actual Knowledge of the Guarantor or such Subsidiary are required to be filed by such Subsidiary, and has paid or caused to be paid all material taxes shown to be due and payable on such returns or on any assessments received by it, other than the taxes the failure of which to pay or file a return with respect thereto is not reasonably likely to result in a Material Adverse Effect.

        3.10.    Employee Benefit Plans.    With respect to each Plan, the Guarantor and its ERISA Affiliates are in compliance in all material respects with the applicable provisions of ERISA and the Code and the final regulations and published interpretations thereunder. No ERISA Event has occurred that alone or together with any other ERISA Event has resulted or is reasonably likely to result in a Material Adverse Effect.

        3.11.    Governmental Approval; Compliance with Law and Contracts.    Each of the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) is in compliance with (a) and has obtained each Governmental Approval applicable to it in respect of this Guarantee and Agreement, the conduct of its business and the ownership of its property, each of which (i) is in full force and effect, (ii) is sufficient for its purpose without any material restraint or adverse condition and (iii) is not subject to any waiting period, further action on the part of any Governmental Authority or other Person, or stay or injunction, (b) all applicable laws relating to its business and (c) each indenture, agreement or other instrument to which it is a party or by which it or any of its property is or may be bound that is material to the conduct of its business, except in each such case for noncompliances which, and Governmental Approvals the failure to possess which, are not, singly or in the aggregate, reasonably likely to result in a Material Adverse Effect.

        3.12.    Environmental Matters.    Except as set forth in Schedule 3.12 or as set forth in or contemplated by the financial statements or other reports of the type referred to in Section 3.04 hereof and which have been delivered to the Administrative Agent on or prior to the date hereof, the Guarantor and each of its Subsidiaries (other than Unrestricted Subsidiaries) have complied in all material respects with all Federal, state, local and other statutes, ordinances, orders, judgments, rulings and regulations relating to environmental pollution or to environmental or nuclear regulation or control, except to the extent that failure to so comply is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, neither the Guarantor nor any of its Subsidiaries (other than Unrestricted Subsidiaries) has received notice of any material failure so to comply, except where such failure is not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, no facilities of the Guarantor or any of its Subsidiaries (other than Unrestricted Subsidiaries) are used to manage any hazardous wastes, hazardous substances, hazardous materials, toxic substances, toxic pollutants or substances similarly denominated, as those terms or similar terms are used in the Resource Conservation and Recovery Act, the Comprehensive Environmental Response Compensation and Liability Act, the Hazardous Materials Transportation Act, the Toxic Substance

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Control Act, the Clean Air Act, the Clean Water Act or any other applicable law relating to environmental pollution, or any nuclear fuel or other radioactive materials, in violation of any law or any regulations promulgated pursuant thereto, except to the extent that such violations, individually or in the aggregate, are not reasonably likely to result in a Material Adverse Effect. Except as set forth in or contemplated by such financial statements or other reports, the Guarantor is aware of no events, conditions or circumstances involving environmental pollution or contamination that are reasonably likely to result in a Material Adverse Effect.

        3.13.    Ranking.    Under applicable laws in force on the date hereof, the claims and rights of the Security Agent under this Guarantee and Agreement in respect of the Guaranteed Obligations shall not be subordinate to, and shall rank at least pari passu in all respects with, the claims and rights of any other holders of unsecured Indebtedness of the Guarantor.

        3.14.    Unrestricted Subsidiaries.    All Unrestricted Subsidiaries designated as such on the date hereof are identified on Schedule 3.14.

        3.15.    Separateness from PG&E.    (a) The Guarantor has operated as a business entity separate and distinct in all relevant respects from PG&E Corp. and PG&E such that the Guarantor believes there exists no reasonable basis for a substantive consolidation of NEG LLC with either PG&E Corp. or PG&E in the event of a bankruptcy proceeding with respect to either of such Persons.

        (b)  Any transfer of assets or funds from PG&E Corp. or PG&E (either directly or through PG&E Corp.) to the Guarantor during the period from the date of the Guarantor's incorporation on December 18, 1998 until the date hereof (i) was for reasonably equivalent value, (ii) was received by the Guarantor in good faith and for value and (iii) was made without intent to hinder, delay or defraud creditors of the transferor.

SECTION IV COVENANTS

        The Guarantor covenants and agrees with the Security Agent and the Creditors that, from and after the date of this Guarantee and Agreement until the Guaranteed Obligations and the Commitments shall have terminated:

        4.01.    Maintenance of Ownership.    The Guarantor shall continue (x) to own at least 50% of the equity ownership interests of, and (y) control the management and operations of, each of its Restricted Subsidiaries (except for certain Restricted Subsidiaries listed on Schedule 4.01); provided that (I) the Guarantor will in any event continue to own at least 80% of the equity ownership interests of ET Holdings and GTN, and (II) the Guarantor will continue to own (i) prior to the PG&E Gen Credit Agreement Refinancing Date, 100% of the equity ownership interests of PG&E Gen; and (ii) thereafter, at least 80% of the equity ownership interests of PG&E Gen; provided, further, that the Guarantor may wind up, dissolve or liquidate any Restricted Subsidiary (other than PG&E Gen, ET Holdings and GTN) without complying with the foregoing, so long as assets thereof are transferred or otherwise conveyed to another Restricted Subsidiary or the Guarantor.

        4.02.    Existence.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, do or cause to be done all things necessary to preserve and keep in full force and effect its legal existence and all rights, licenses, permits, franchises and authorizations necessary or desirable in the normal conduct of its business, except as otherwise permitted pursuant to Sections 4.01 (including Schedule 4.01) and 4.09, and in the case of any such Subsidiaries, except as such failure to so preserve or to keep its legal existence and such rights, licenses, permits, franchises or authorizations in full force and effect is not reasonably likely to result in a Material Adverse Effect.

        4.03.    Compliance with Law; Business and Properties.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, comply with all applicable material laws, rules, regulations and orders of any Governmental Authority, whether now in effect or hereafter enacted, except where the validity or

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applicability of such laws, rules, regulations or orders is being contested by appropriate proceedings in good faith or where such non-compliance is not reasonably likely to result in a Material Adverse Effect; comply with the terms of each indenture, agreement or other instrument to which it is a party and enforce all of its rights thereunder, except to the extent that noncompliance or failure to enforce is not reasonably likely to cause a Material Adverse Effect; and at all times maintain and preserve all property material to the conduct of its business and keep such property in good repair, working order and condition and from time to time make, or cause to be made, all needful and proper repairs, renewals, additions, improvements and replacements thereto necessary in order that the business carried on in connection therewith may be properly conducted at all times, except where the failure to take any such actions is not reasonably likely to result in a Material Adverse Effect.

        4.04.    Financial Statements, Reports, Etc.    The Guarantor will furnish to the Security Agent, which will promptly forward the same to each Lender:

        (a)  as soon as available and in any event within 120 days after the end of each fiscal year of the Guarantor, a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such fiscal year and the related consolidated statements of income, retained earnings and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal year, to the extent available, all reported on by an independent public accountant of nationally recognized standing;

        (b)  as soon as available and in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Guarantor a consolidated balance sheet of the Guarantor and its Consolidated Subsidiaries as of the end of such quarter and the related consolidated statements of income for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, and the related consolidated statement of cash flows for such quarter and for the portion of the Guarantor's fiscal year ended at the end of such quarter, in each case setting forth comparative figures for the previous dates and periods, to the extent available, all certified (subject to normal year-end adjustments) as to fairness of presentation, GAAP and consistency by a Financial Officer of the Guarantor;

        (c)  simultaneously with any delivery of each set of financial statements referred to in paragraphs (a) and (b) above, (i) an unconsolidated balance sheet of the Guarantor and the related unconsolidated statements of income, retained earnings and cash flows as of the same date and for the same periods applicable to the statements delivered pursuant to paragraph (a) or (b) above, as applicable, all certified (subject to normal year-end adjustments in the case of quarterly statements) as to fairness of presentation by a Financial Officer of the Guarantor and (ii) a certificate of a Financial Officer of the Guarantor (A) setting forth in reasonable detail the calculations required to establish whether the Guarantor was in compliance with the requirements of Section 4.15 on the date of such financial statements, and schedules setting forth all Indebtedness described in Section 4.12(o) that was incurred during the applicable period and (B) stating whether any NEG Trigger Event or Incipient NEG Trigger Event exists on the date of such certificate and, if any NEG Trigger Event or Incipient NEG Trigger Event then exists, setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (d)  simultaneously with the delivery of each set of financial statements referred to in paragraph (a) above, a statement of the firm of independent public accountants which reported on such statements confirming the calculations set forth in the Financial Officer's certificate delivered simultaneously therewith pursuant to subsection (c) above;

        (e)  promptly upon a Responsible Officer of the Guarantor obtaining Actual Knowledge of the occurrence of any NEG Trigger Event or Incipient NEG Trigger Event, a certificate of a

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Financial Officer of the Guarantor setting forth the details thereof and the action which the Guarantor is taking or proposes to take with respect thereto;

        (f)    on or prior to the date of incurrence of any Indebtedness pursuant to Section 4.12(c) or (l) or the date of any Distribution pursuant to Section 4.14, (i) a certificate of a Financial Officer of the Guarantor setting forth in reasonable detail the calculations demonstrating compliance by the Guarantor with the applicable financial tests, together with the pro forma calculations referred to in the applicable Section, and copies of all financial statements and other supporting documents and reports, if any, upon which the Guarantor relied in making such calculations, and (ii) with respect to Section 4.12(c) and (l) only, written evidence of the confirmation of the rating agency ratings, to the extent such confirmation is required under Section 4.12 (c) or (l), as the case may be;

        (g)  (i) on or prior to the date hereof, copies of the PG&E Gen Credit Agreements, ET Credit Agreements, GTN Credit Agreements, and USGenNE Credit Agreements, in each case accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete, and (ii) promptly upon any refinancing of the loans under any such facility, copies of the refinancing documents, accompanied by a certificate of a Responsible Officer of the Guarantor stating that such copies are true and complete; and

        (h)  on each date extensions of credit are to be made pursuant to the Participation Agreement and on or prior to the proposed Conversion Date, a certificate to the effect that the representations and warranties made by the Guarantor and contained in Section III hereof are true and correct in all material respects as of such date, except to the extent made with respect to an earlier date, in which case such representations and warranties shall have been true and correct in all material respects as of such earlier date.

        4.05.    Insurance.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, maintain such insurance or self insurance, to such extent and against such risks, including fire and other risks insured against by extended coverage, as is customary with companies similarly situated and in the same or similar businesses except, in the case of any such Subsidiaries, where such failure to so maintain is not reasonably likely to result in a Material Adverse Effect.

        4.06.    Taxes, Etc.    The Guarantor will, and will cause each of its Subsidiaries (other than Unrestricted Subsidiaries) to, pay and discharge promptly when due all material taxes, assessments and governmental charges imposed upon it or upon its income or profits or in respect of its property, in each case before the same shall become delinquent or in default and before penalties accrue thereon, unless and to the extent that the same are being contested in good faith by appropriate proceedings and adequate reserves with respect thereto shall, to the extent required by GAAP, have been set aside except, in the case of any such Subsidiaries, where such failure to so pay or discharge is not reasonably likely to result in a Material Adverse Effect.

        4.07.    Maintaining Records; Access to Properties and Inspections.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain financial records in accordance with GAAP and, upon reasonable notice and at reasonable times, permit authorized representatives designated by the Administrative Agent or the Security Agent to visit and inspect its properties, books and records and to discuss its affairs, finances and condition with its officers.

        4.08.    Risk Management Procedures.    The Guarantor will, and will cause each of its Restricted Subsidiaries to, maintain in effect prudent risk management procedures with respect to Trading Arrangements and Swaps.

        4.09.    Merger.    The Guarantor will not consolidate or merge with or into any Person, or sell, lease or otherwise transfer, in a single transaction or in a series of transactions, all or substantially all of its

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assets to any Person or Persons, unless (i) the surviving Person or transferee is formed under the laws of a State of the United States of America and assumes or is responsible by operation of law for all the Guaranteed Obligations and (ii) no NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event shall have occurred or be continuing at the time of or after giving effect to such consolidation or merger or transfer.

        4.10.    Investments.    The Guarantor will not make any Investment, or permit any of its Restricted Subsidiaries to make any Investment, except:

        (a)  Investments in any Restricted Subsidiary, Investment Vehicle or Asset Company (or any Person that will become a Restricted Subsidiary, Investment Vehicle or Asset Company, as the case may be, upon the making of such Investment); or

        (b)  Investments (not otherwise permitted under this Section 4.10) existing on the date of execution of Guarantee and Agreement which are identified on a Schedule 4.10; or

        (c)  Investments permitted to be incurred as Indebtedness under Section 4.12; or

        (d)  (i) Investments made by any Restricted Subsidiary in the Guarantor or any Restricted Subsidiary in connection with the Guarantor's cash management program or (ii) Investments in Cash Equivalents; or

        (e)  Investments constituting "Equity Funding Arrangements" permitted hereunder; or

        (f)    Investments otherwise made by the Guarantor and its Restricted Subsidiaries in the ordinary course of business as conducted by the Guarantor or its Restricted Subsidiaries or by other Persons in the energy trading, energy services, power generation, electric transmission or gas transmission and storage businesses (including technologies related to such businesses); or

        (g)  Investments in connection with obligations in support of Trading Arrangements; or

        (h)  Investments in any Unrestricted Subsidiary with amounts which would otherwise be available for distribution in accordance with Section 4.14.

        4.11.    Liens.    The Guarantor will not create or assume or permit to exist any Lien, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, create or assume or permit to exist any Lien, in respect of any of its property or assets of any kind (real or personal, tangible or intangible), except:

        (a)  Liens granted pursuant to Lease Obligations described in clause (i) of the definition of "Lease Obligations" and permitted by Section 4.12; or

        (b)  Liens on cash collateral securing Equity Funding Arrangements, Credit Support Arrangements, Investments or Indebtedness permitted hereunder; or

        (c)  Liens in favor of the administrative agent under the PG&E Gen Credit Agreement on funds in the "Cash Collateral Account" and on the "Cash Collateral Account" to secure the reimbursement obligations of PG&E Gen in respect of letters of credit as provided for in the PG&E Gen Credit Agreement; or

        (d)  Liens existing on the assets of any Person at the time such Person becomes a Subsidiary of the Guarantor; or

        (e)  Liens on the equity or ownership interests of any Asset Company or any Investment Vehicle which owns such Asset Company and Liens on any Equity Funding Arrangements securing the applicable Project Financing Facility; or

        (f)    Liens on any of the assets of any Asset Company or Investment Vehicle securing or in connection with the applicable Project Financing Facility; or

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        (g)  Liens on any asset of the Guarantor or any Restricted Subsidiary incurred or assumed for the purpose of financing all or any part of the cost of acquiring, constructing or improving such asset, provided that such Lien attaches contemporaneously with, or within 12 months of, the purchase, construction or improvement of such asset; or

        (h)  Liens with respect to the assets of and membership interests or other equity interests in ET Holdings and its Subsidiaries to secure the NEG/ET Letter of Credit Facilities; or

        (i)    Other Liens (not otherwise permitted under this Section 4.11) existing as of the date of this Guarantee and Agreement and identified on Schedule 4.11; or

        (j)    Permitted Encumbrances; or

        (k)  without limiting the ability to incur Liens under the other subsections of this Section 4.11, extensions or renewals of any Lien otherwise permitted to be incurred under this Section 4.11 securing Indebtedness in an amount not exceeding the principal amount of, and accrued interest on, the Indebtedness secured by such Lien as so extended or renewed at the time of such extension or renewal; provided that such Lien shall apply only to the same property theretofore subject to the same and fixed improvements constructed thereon.

        4.12.    Indebtedness.    The Guarantor will not incur, create, assume or permit to exist Indebtedness, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to, incur, create, assume or permit to exist Indebtedness, except:

        (a)  Indebtedness under (i) the USGenNE Credit Agreements, the GTN Credit Agreements, the ET Credit Agreements and NEG/ET Letter of Credit Facilities (the "Refinanceable Facilities") and (ii) the PG&E Gen Credit Agreements and the other credit facilities entered into by the Guarantor or any Restricted Subsidiary prior to the date of this Guarantee and Agreement and identified on Schedule 4.12(a); provided, that this subsection (a) shall not be deemed to permit an amendment to the facilities referred to in this subsection (a) which has the effect of increasing the available commitments thereunder or, in the case of the PG&E Gen Credit Agreements, extending the maturity of the loans thereunder; or

        (b)  Lease Obligations (1) under leases for any office buildings in which the Guarantor or any of its Subsidiaries has or will have offices; (2) under leases for any equipment not to exceed $10,000,000 in the aggregate outstanding at any time; or (3) described in clause (i) of the definition thereof of the Guarantor and its Restricted Subsidiaries if, immediately after the incurrence of any such Lease Obligation, the outstanding aggregate principal amount of all such Lease Obligations (other than those Lease Obligations incurred under subsections (c), (j), (l) and (q) below) would not exceed 2% of Consolidated Tangible Net Assets; or

        (c)  Indebtedness of (i) any Asset Company under any Project Financing Facility or (ii) any Investment Vehicle under any Project Financing Facility; provided, that if any Asset Company owned (directly or indirectly) by such Investment Vehicle has incurred any Indebtedness under a Project Financing Facility, then such Investment Vehicle may only incur Indebtedness under a Project Financing Facility if (I)(x) after giving effect to such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0, calculated on a pro forma basis to include such Indebtedness and related cash flows, (y) the Guarantor's senior unsecured long-term debt is, at the time of such incurrence, rated at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's), and (z) the Guarantor obtains a reaffirmation of such ratings from S&P and Moody's (taking into account the Indebtedness to be incurred by such Investment Vehicle under this Section 4.12(c)) or (II) such Investment Vehicle owns only one Asset Company and such Indebtedness is incurred in

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connection with a Project Financing Facility and the proceeds thereof are promptly invested in such Asset Company; or

        (d)  Trading Arrangements and Credit Support Arrangements, to the extent such arrangements constitute Indebtedness; or

        (e)  Indebtedness with respect to any securitization, receivables financing or similar transaction entered into by ET Holdings, GTN, USGenNE or any of their respective Subsidiaries; or

        (f)    Indebtedness not otherwise permitted under this Section 4.12, existing on the date of this Guarantee and Agreement and set forth on Schedule 4.12(f); or

        (g)  Indebtedness under any Swap; or

        (h)  Permitted Subordinated Indebtedness; or

        (i)    Indebtedness between any of the Guarantor, any Restricted Subsidiary, Investment Vehicle, any Asset Company or any Indebtedness under any short-term overdraft lines of credit or similar arrangements entered into in the ordinary course of business, in each case associated with the Guarantor's cash management program; or

        (j)    Indebtedness attributable to any Permitted Sale-Leaseback Transactions; or

        (k)  Any Guaranty constituting Indebtedness of the Guarantor or any Restricted Subsidiary, Investment Vehicle or Asset Company under clause (ix) of the definition of "Indebtedness" to the extent that the obligations covered by such Guaranty are not reasonably quantifiable under GAAP; or

        (l)    other Indebtedness of the Guarantor or any Restricted Subsidiary (other than PG&E Gen) incurred after the date of this Guarantee and Agreement, provided that (i) after giving effect to any such Indebtedness, the Ratio of Cash Flow to Fixed Charges of the Guarantor would not be less than 2.0:1.0 (calculated on a pro forma basis as of the end of the most recent fiscal quarter with respect to which financial statements of the Guarantor are available and assuming for such purpose that such Indebtedness was incurred one year prior to the end of such fiscal quarter and taking into account any related cash flows) and (ii) if such Indebtedness would constitute Indebtedness of a Restricted Subsidiary, no Asset Company, Investment Vehicle or Restricted Subsidiary owned directly or indirectly by such Restricted Subsidiary has Indebtedness outstanding which would otherwise be permitted under Section 4.12(a), (b)(3), (c), (h), (j), (l), (o) or (p); provided, further, that clause (ii) of this Section 4.12(l) will not be applicable if the Guarantor obtains a reaffirmation of the rating of its senior unsecured long-term debt of at least BBB by S&P and Baa2 by Moody's (or if ratings of such debt have not been issued by such rating agencies, such debt is impliedly rated by an issuer rating or indicative rating of at least BBB by S&P and Baa2 by Moody's) after taking into account the Indebtedness to be incurred by such Restricted Subsidiary and related cash flows; or

        (m)  Indebtedness of the Guarantor or any Restricted Subsidiary in respect of letters of credit or surety, performance or bid bonds used in the ordinary course of business not in excess of $25,000,000 in the aggregate outstanding at any time; or

        (n)  Indebtedness constituting intercompany loans (1) between the Guarantor and its Restricted Subsidiaries or between such Restricted Subsidiaries or (2) made by the Guarantor, any Restricted Subsidiary, any Investment Vehicle or any Asset Company to any Investment Vehicle or any Asset Company or (3) made by any Investment Vehicle to the Guarantor, any Restricted Subsidiary, or any other Investment Vehicle; or

        (o)  Equity Funding Arrangements; or

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        (p)  without limiting the ability to incur Indebtedness under the other subsections of this Section 4.12, any refinancing of any Indebtedness permitted under Section 4.12(f) and under the Refinanceable Facilities, provided that either (i) (x) the average life of any refinanced Indebtedness shall not be less than the average life of the Indebtedness so refinanced (plus fees and expenses, including any premium or defeasance costs, of such refinancing), taking into account the prepayment or repayment of a portion of any such Indebtedness, and (y) the principal amount of the refinanced Indebtedness shall not exceed the principal amount plus accrued interest thereon of the Indebtedness so refinanced, or (ii) the Guarantor shall demonstrate pro forma compliance with the financial ratio described in Section 4.12(l) above; or

        (q)  Indebtedness of any Subsidiary of the Guarantor existing at the time such Person becomes a Subsidiary of the Guarantor (except for any such Indebtedness of such Subsidiary incurred in contemplation of or to finance the acquisition of such Subsidiary); or

        (r)  Indebtedness of the Guarantor incurred in connection with a refinancing of any Indebtedness of PG&E Gen under the PG&E Gen Credit Agreements in an aggregate principal amount not to exceed $1,250,000,000.

        4.13.    Transactions with Affiliates.    The Guarantor will not enter into, or permit any Restricted Subsidiary, Investment Vehicle or Asset Company to enter into, any transaction with any Affiliate of the Guarantor (other than the Guarantor, any Subsidiary of the Guarantor, any Investment Vehicle and any Asset Company), except:

        (a)  transactions with such Affiliates upon fair and reasonable terms which are no less favorable to the Guarantor than would be obtained in a comparable arm's length transaction with a Person not an Affiliate of the Guarantor;

        (b)  management, operating, sharing or other similar services arrangements between and among the Guarantor, its Subsidiaries and its other Affiliates either existing on the date hereof and described on Schedule 4.13 or entered into after the date hereof on commercially reasonable terms;

        (c)  tax sharing arrangements between the Guarantor and PG&E Corp. approximating the tax position that the Guarantor would be in if it were not part of PG&E Corp.'s consolidated group, as determined by the management of the Guarantor in its reasonable business judgment or such other arrangements as may be approved by the Lenders prior to the date hereof; or

        (d)  paying or declaring any Distribution to the extent permitted under Section 4.14.

        The provisions of this Section 4.13 shall not apply to (i) transactions between the Guarantor or any of its Subsidiaries, on the one hand, and any employee of the Guarantor or any of its Subsidiaries, on the other hand, that are approved by the Board of Directors of the Guarantor or any committee of the Board of Directors and (ii) the payment of reasonable and customary regular fees to directors of the Guarantor or any Subsidiary of the Guarantor.

        4.14.    Distributions.    The Guarantor will not declare or make any Distribution if (a) an NEG Trigger Event, Incipient NEG Trigger Event or NEG Downgrade Event has occurred and is continuing or shall occur after giving effect to such Distribution, (b) the Ratio of Cash Flow to Fixed Charges of the Guarantor determined as of the end of the immediately preceding fiscal quarter was not at least 2.0:1.0 or (c) the Guarantor fails to satisfy the requirements of the test set forth in Section 4.15(b), or the Guarantor fails to have a Consolidated Net Worth of at least $2.15 billion, in each case calculated on a pro forma basis as of the end of the most recent fiscal period with respect to which financial statements of the Guarantor are available (assuming such Distribution and all material events with respect to the Guarantor and its Subsidiaries which occurred after the end of such fiscal period had occurred on the last day of such fiscal period); provided that the Guarantor may declare and make

26

Distributions of assets of or equity ownership interests in any Unrestricted Subsidiary at any time without complying with the foregoing.

        4.15.    Financial Covenants:    (a) The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Cash Flow to Fixed Charges to be less than 1.5:1.0.

        (b)  The Guarantor shall not, as of the end of each fiscal quarter, permit the Ratio of Debt to Capitalization to be greater than 0.6:1.0.

        (c)  The Guarantor shall not, at the end of each fiscal quarter, permit (i) Consolidated Net Worth to be less than the Minimum Consolidated Net Worth and (ii) Non-Trading Consolidated Net Worth to be less than the Minimum Non-Trading Consolidated Net Worth.

        4.16.    Separateness from PG&E Corp.    The Guarantor shall (i) maintain adequate capital in light of the business in which it is engaged; (ii) maintain books and corporate records separate from PG&E Corp. and PG&E; (iii) not commingle assets with PG&E Corp. or PG&E; and (iv) conduct business in its own name and hold itself out as separate from PG&E Corp. and PG&E. The Guarantor shall promptly notify the Security Agent upon a Responsible Officer of the Guarantor obtaining Actual Knowledge that a creditor of PG&E Corp. or of PG&E has made a claim or filing in writing seeking the substantive consolidation of NEG LLC in any bankruptcy proceeding of PG&E Corp. or of PG&E.

        4.17.    PG&E Gen Credit Agreement Covenants.    Prior to the PG&E Gen Credit Agreement Refinancing Date, the Guarantor will not permit PG&E Gen to default in any material respect in the due observance or performance of its covenants under Sections 5.08, 5.11, 5.12, 5.13 and 5.14 of the $1.1 Billion PG&E Gen Credit Agreement.

        4.18.    Audited 2000 Financial Statements.    The audited financial statements for the fiscal year ended December 31, 2000 to be delivered by the Guarantor pursuant to Section 4.04(a) shall not reflect any material adverse change from the unaudited financial statements for the same period referred to in Section 3.04(b).

SECTION V NEG TRIGGER EVENTS

        5.01.    NEG Trigger Events.    The following shall constitute NEG Trigger Events:

        (a)  any Event of Default; or

        (b)  any representation or warranty made or deemed made by (1) the Guarantor in or in connection with the execution and delivery of this Guarantee and Agreement, or (2) NEG LLC in the Letter Agreement, shall prove to have been false or misleading in any material respect when so made, deemed made or furnished; or

        (c)  the Guarantor shall default in any material respect in the due observance or performance of any agreement contained in Section 4.01, Section 4.09, Section 4.14 or Section 4.15; or

        (d)  (1) the Guarantor shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in this Guarantee and Agreement (other than those specified in 5.01(c) above), or (2) NEG LLC shall default in any material respect in the due observance or performance of any covenant, condition or agreement contained in the Letter Agreement, and in each case, such default shall continue unremedied for a period of 30 days after notice thereof from the Security Agent; or

        (e)  the Guarantor or any Restricted Subsidiary shall default in respect of any Indebtedness or default in its obligations to make payments when due under any Equity Funding Arrangements which at the time have an aggregate principal amount outstanding or, in the case of Equity Funding Arrangements, due and unpaid, in excess of $50,000,000, and as a result thereof such

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Indebtedness shall have been accelerated or otherwise be or become due or subject to prepayment in full prior to its stated maturity; or

        (f)    an involuntary proceeding shall be commenced or an involuntary petition shall be filed in a court of competent jurisdiction seeking (i) relief in respect of the Guarantor or any Restricted Subsidiary or of a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary or (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary or (iii) the winding up or liquidation of the Guarantor or any Restricted Subsidiary; and such proceeding or petition shall continue undismissed for 60 days or an order or decree approving or ordering any of the foregoing shall be entered; or

        (g)  the Guarantor or any Restricted Subsidiary shall (i) voluntarily commence any proceeding or file any petition seeking relief under Title 11 of the United States Code, as now constituted or hereafter amended, or any other Federal or state bankruptcy, insolvency, receivership or similar law, (ii) consent to the institution of, or fail to contest in a timely and appropriate manner, any proceeding or the filing of any petition described in Section 5.01(f) above, (iii) apply for or consent to the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for the Guarantor or any Restricted Subsidiary (other than in connection with any proceeding relating solely to one or more Unrestricted Subsidiaries, Investment Vehicles or Project Companies of the Guarantor) for a substantial part of the property or assets of the Guarantor or any Restricted Subsidiary, (iv) file an answer admitting the material allegations of a petition filed against it in any such proceeding, (v) make a general assignment for the benefit of creditors, or (vi) take any corporate action for the purpose of effecting any of the foregoing, become unable, admit in writing its inability, or fail generally, to pay its debts as they become due; or

        (h)  one or more final judgments for the payment of money in an aggregate amount in excess of $50,000,000 (exclusive of amounts covered by insurance) shall be rendered against the Guarantor or any Restricted Subsidiary and such judgment or order shall remain undischarged, unbonded or unstayed for a period of 60 days; or

        (i)    an ERISA Event shall have occurred that, either alone or in combination with other ERISA Events that shall have occurred, is reasonably likely to result in a Material Adverse Effect.

SECTION VI MISCELLANEOUS

        6.01.    Amendments.    No provision of this Guarantee and Agreement may be amended or waived except in accordance with the Collateral Agency and Intercreditor Agreement.

        6.02.    Successors and Assigns.    This Guarantee shall bind and benefit the successors and permitted assigns of Guarantor and Security Agent and inure to the benefit of the Creditors and their successors and permitted assigns. This Guarantee shall not be deemed to benefit any Person except Security Agent and the Creditors and their successors and permitted assigns.

        6.03.GOVERNING LAW.THIS GUARANTEE SHALL BE GOVERNED BY, AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. THE GUARANTOR IRREVOCABLY SUBMITS, FOR ITSELF AND ITS PROPERTY IN ANY LEGAL ACTION RELATING TO THIS GUARANTEE, OR FOR RECOGNITION AND ENFORCEMENT OF ANY JUDGMENT IN RESPECT HEREOF OR THEREOF, TO THE NON-EXCLUSIVE JURISDICTION OF THE COURTS OF THE STATE OF NEW YORK.

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        6.04.    No Waiver, Cumulative Remedies.    (a) No failure to exercise, nor any delay in exercising, on the part of the Security Agent or any Lender, any right, power or privilege hereunder shall operate as a waiver thereof. No single or partial exercise of any right, power or privilege hereunder shall preclude any other or further exercise thereof or the exercise of any other right, power or privilege. A waiver by the Security Agent or any Creditor of any right or remedy hereunder on any one occasion shall not be construed as a bar to any right or remedy that the Security Agent or such Creditor would otherwise have on any future occasion.

        (b)  The rights and remedies herein provided are cumulative, may be exercised singly or concurrently and are not exclusive of any other rights or remedies provided by law.

        6.05.    Authority and Rights of Security Agent.    The Guarantor acknowledges that the rights and responsibilities of the Security Agent under this Guarantee and Agreement with respect to any action taken by the Security Agent or the exercise or non-exercise by the Security Agent of any option, right, request, judgment or other right or remedy provided for herein or resulting or arising out of this Guarantee and Agreement shall, as between the Security Agent and the Creditors, be governed by the Operative Documents and by such other agreements with respect thereto as may exist from time to time among them, but, as between the Security Agent and the Guarantor, the Security Agent shall be conclusively presumed to be acting with full and valid authority so to act or refrain from acting, and the Guarantor shall not be under any obligation, or entitlement, to make any inquiry respecting such authority. The Security Agent shall be afforded the rights, privileges and immunities set forth in Section 3 of the Collateral Agency and Intercreditor Agreement as if fully set forth herein.

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        IN WITNESS WHEREOF, the parties hereto have caused this Guarantee and Agreement to be duly executed by their respective officers thereunto duly authorized as of the day and year first above written.

PG&E NATIONAL ENERGY GROUP, INC.
By:
	Name: Title:

Agreed and Accepted:
CITIBANK, N.A., NOT IN ITS INDIVIDUAL CAPACITY BUT SOLELY IN ITS CAPACITY AS SECURITY AGENT, FOR THE BENEFIT OF THE CREDITORS
By:
	Name: Title:
Schedules omitted

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Exhibit 10.21

EX-10.23

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Exhibit 10.23

AGREEMENT AND RELEASE

        This Agreement and Release (hereafter "Agreement") is made and entered into by and between Thomas G. Boren and PG&E CORPORATION (hereafter, PG&E) (collectively referred to as "the parties") and sets forth the terms and conditions of Mr. Boren's separation from PG&E CORPORATION and the PG&E NATIONAL ENERGY GROUP, INC. (hereinafter, NEG).

1.

Mr. Boren shall voluntarily resign from his positions as President and Chief Executive Officer of NEG and as an officer and/or director of any and all subsidiary, parent and affiliate companies of NEG, effective close of business November 14, 2002. Mr. Boren shall voluntarily resign from his employment with NEG and any and all subsidiary, parent and affiliate companies of NEG, effective close of business December 1, 2002.

2.

In lieu of any lump sum severance benefit to which Mr. Boren may be entitled pursuant to the PG&E Corporation Officer Severance Policy, Mr. Boren has elected to purchase additional age and additional service credit under his supplemental defined benefit executive retirement arrangement described in paragraph 8 of his offer letter dated July 21, 1999, such that age and service under this arrangement and the comparable Southern Company arrangement equal age 55 and 41.655 years, respectively.

3.

In the event that employees in Mr. Boren's funding unit or subsidiary are eligible for a payment under the PG&E's Short-Term Incentive Plan (STIP) for the year in which the resignation occurs, NEG will make a payment of the STIP that Mr. Boren would have received, pro-rated to reflect the number of months from the beginning of the year to the date of resignation. The STIP payment, if any, will be made at such time as STIP payments are made to employees in Mr. Boren's funding unit or subsidiary. The Chief Executive Officer of PG&E shall have the sole discretion to determine the amount of STIP payment, consistent with the program guidelines for the year in which the resignation occurs.

4.

Any monies Mr. Boren has in the PG&E Corporation Supplemental Retirement Savings Plan shall be paid to Mr. Boren, less applicable tax deductions, in accordance with his election(s) under the terms of that plan.

5.

Mr. Boren has been provided a private annuity and tax restoration benefit that provide him in the aggregate a benefit equal to that accrued under Mr. Boren's supplemental defined benefit executive retirement arrangement as of December 31, 2001. Mr. Boren accrued additional age and service from December 31, 2001 through December 1, 2002 under that arrangement. Consequently, from December 1, 2002 through May 31, 2004, so long as Mr. Boren is alive, he will be provided with a monthly amount equal to $51,152.83. Beginning June 1, 2004 and continuing as long as Mr. Boren is alive, he will be provided a reduced monthly amount of $38,247.50. The amounts in this paragraph 5 will be modified consistent with joint and survivor options which Mr. Boren will elect prior to the commencement of payments. Based on Mr. Boren's decision to elect a 100 percent joint and survivor option, the preceding amounts in this section will be adjusted to the following monthly amounts respectively: $48,216.92 and $36,498.92.

6.

Mr. Boren shall receive payments under the Senior Executive Retention Program equal to those he would have received pursuant to his February 21, 2002 grant under the Program had he remained employed through each payment date. Mr. Boren shall receive any such payments at the time other Program participants receive their payments.

7.

Upon the effective date of this Agreement as set forth in paragraph 22 below, all unvested performance unit grants, stock option grants, and special incentive stock ownership premiums provided to Mr. Boren under PG&E Corporation's Performance Unit Plan, Stock Option Plan, and Executive Stock Ownership Program shall continue to vest, terminate, or be canceled as provided under the terms of their respective plans or program, as modified by the PG&E

Corporation Officer Severance Policy in effect at the time this Agreement is signed by Mr. Boren. The payment, exercise, and withdrawal of Mr. Boren's vested performance units, stock option grants, and stock ownership premiums shall be as provided under the terms of their respective plans or program.

8.

NEG will pay the premium for continuation of Mr. Boren's existing company-sponsored health insurance coverage for the 18-month period commencing the first full month after the effective date of this Agreement as set forth in paragraph 22 below and until and unless Mr. Boren becomes covered under the health insurance plan of another employer, in which case NEG's obligation to pay such insurance premiums shall be discontinued. Mr. Boren therefore agrees to promptly notify NEG's Senior Human Resources Officer if he becomes reemployed in any capacity within the next 18-month period. Additional information regarding Mr. Boren's rights to continuation of his health insurance coverage under the terms of COBRA will be provided separately at that time. To the extent Mr. Boren has such rights, nothing in this Agreement will impair them.

9.

As long as Mr. Boren maintains his current home at 5630 Wisconsin Avenue, Number 1702, Chevy Chase, Maryland 20815 as his primary residence, NEG will continue to make monthly mortgage buy-down payments of $6,700 on that home until February 2006 at the latest.

10.

PG&E shall provide to Mr. Boren legal representation and indemnification protection in any legal proceeding in which he is a party or is threatened to be made a party by reason of the fact that he is or was an employee or officer, in accordance with the terms of the resolution of the Board of Directors of PG&E dated December 18, 1996.

11.

Except as provided in paragraph 10 of this Agreement, in consideration of the payment and benefits PG&E is providing under this Agreement, Mr. Boren, on behalf of himself and his representatives, agents, heirs and assigns, waives, releases, discharges and promises never to assert any and all claims, liabilities or obligations of every kind and nature, whether known or unknown, suspected or unsuspected that he ever had, now has or might have as of the effective date of this Agreement against PG&E, its predecessors, subsidiaries, parents, affiliates, related entities, officers, directors, shareholders, owners, agents, attorneys, employees, successors, or assigns. The released claims include, without limitation, any claims arising from or related to Mr. Boren's employment with PG&E, his resignation from his position as an officer and/or director of PG&E or any of its subsidiaries or parent or affiliate companies, the separation of his employment with NEG, or any of its subsidiaries, parents or affiliate companies, and/or any of the conditions, events, transactions or series of transactions related thereto, and the execution of this Agreement. The released claims also specifically include, without limitation, any claims arising under any federal, state and local statutory or common law, such as Title VII of the Civil Rights Act, the federal Age Discrimination in Employment Act, the California Fair Employment and Housing Act, the Americans With Disabilities Act, the Employee Retirement Income Security Act, the Fair Labor Standards Act, the California Labor Code (all as amended), the law of contract and tort, and any claim for attorneys' fees. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

12.

Mr. Boren acknowledges that there may exist facts or claims in addition to or different from those which are now known or believed by him to exist. Nonetheless, except as provided for in paragraph 10 of this Agreement, Mr. Boren understands, intends, and agrees that this Agreement extends to all claims of every nature and kind whatsoever, whether known or unknown, suspected or unsuspected, past or present, and he specifically waives all rights under Section 1542 of the California Civil Code which provides that:

A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS/HER FAVOR AT THE TIME OF

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EXECUTING THE RELEASE, WHICH IF KNOWN TO HIM/HER MUST HAVE MATERIALLY AFFECTED HIS/HER SETTLEMENT WITH THE DEBTOR.

Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

13.

Mr. Boren agrees that he will not initiate, maintain, or accept the benefits from any legal action or proceeding of any kind against PG&E or any of its predecessors, subsidiaries, parents, affiliates, related entities, officers, directors, shareholders, owners, agents, attorneys, employees, successors, or assigns as to any matter released in this Agreement, nor shall he assist or participate in any such proceedings, including any proceedings brought by any third parties, except as required by court order or law. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

14.

Mr. Boren shall not seek any future re-employment with PG&E or any of its subsidiaries, parents or affiliates. This paragraph does not, however, preclude Mr. Boren from accepting an offer of future employment from PG&E or any of its subsidiaries, parents or affiliates.

15.

Mr. Boren shall not disclose, publicize, or circulate to anyone in whole or in part, any information concerning the existence, terms, and/or conditions of this Agreement without the express written consent of the Chief Legal Officer of PG&E unless required by court order or law. Notwithstanding the preceding sentence, Mr. Boren may disclose the terms and conditions of this Agreement to his immediate family members, and any attorneys or tax advisors, if any, to whom there is a bona fide need for disclosure in order for them to render professional services to him, provided that Mr. Boren first instructs each affected family member, attorney, and tax advisor that he must keep the information confidential and may not make any disclosure of the terms and conditions of this Agreement, unless required by court order or law. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

16.

Mr. Boren agrees not to use, disclose, publicize, or circulate any confidential or proprietary information concerning PG&E, its subsidiaries, parents or its affiliates, which has come to his attention during his employment with PG&E or NEG, unless his doing so is expressly authorized in writing by the Chief Legal Officer of PG&E, or is required by court order or law. Before making any legally-required disclosure, Mr. Boren shall give the Chief Legal Officer of PG&E notice at least ten (10) business days in advance. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

17.

Mr. Boren agrees not to engage in any unfair competition against PG&E or any of its subsidiaries, parents or affiliates. For purposes of this Agreement, unfair competition shall be accorded the definition developed under the laws of the State of California, including section 17200, et seq., of the California Business and Professions Code. Mr. Boren agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

18.

(a) For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit or contact for the purpose of diverting or taking away or attempt to solicit or contact for the purpose of diverting or taking away any prospective customer of PG&E or its parents, affiliates or subsidiaries about whom he acquired information as a result of any solicitation efforts by PG&E, its subsidiaries, parents, or affiliates, or the prospective customer during his employment with PG&E and NEG. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

(b)

For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit or contact for the purpose of diverting or taking away or attempt to solicit or contact for the purpose of

3

diverting or taking away any existing customer of PG&E or its parents, affiliates or subsidiaries. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

(c)

For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit or contact for the purpose of diverting or taking away or attempt to solicit or contact for the purpose of diverting or taking away any existing vendor of PG&E or its parents, affiliates or subsidiaries. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.



(d)

For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit or contact for the purpose of diverting or taking away or attempt to solicit or contact for the purpose of diverting or taking away any prospective vendor of PG&E or its affiliates, parents or subsidiaries, about whom he acquired information as a result of any solicitation efforts by PG&E or its parents, affiliates or subsidiaries or the prospective vendor during his employment with PG&E or NEG. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.



(e)

For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit, contact or induce, or attempt to solicit, contact or induce, any existing employees, agents or consultants of PG&E, or of any of its subsidiaries, parents or affiliates, to terminate or otherwise alter their employment, agency or consultant relationship with PG&E or any of its subsidiaries, parents or affiliates. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.



(f)

For a period of one year after the effective date of this Agreement as set forth in paragraph 22 below, Mr. Boren shall not, directly or indirectly, solicit, contact or induce, any existing employees, agents or consultants of PG&E, or of any of its subsidiaries, parents or affiliates, to work in any capacity for or on behalf of any person, company or other business enterprise that is in competition with PG&E or any of its parents, subsidiaries or affiliates. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

19.

Mr. Boren shall, upon reasonable notice from PG&E, furnish information and proper assistance to PG&E (including truthful testimony and document production) as may reasonably be required by PG&E in connection with any legal, administrative or regulatory proceeding in which it or any of its subsidiaries, parents or affiliates is, or may become, a party, or in connection with any filing or similar obligation of PG&E imposed by any taxing, administrative or regulatory authority having jurisdiction, provided, however, that NEG shall pay all reasonable expenses incurred by Mr. Boren in complying with this paragraph. Mr. Boren further agrees that his violation of this paragraph shall constitute a material breach of this Agreement.

20.

(a) In the event that Mr. Boren breaches any material provision of his Agreement, PG&E and its parents, affiliates and subsidiaries shall have no further obligation to pay or provide to Mr. Boren any unpaid amounts or benefits specified in this Agreement. PG&E and its parents, affiliates and subsidiaries shall also be entitled to immediate return of any and all amounts or benefits previously paid or provided to Mr. Boren under this Agreement and to recalculate any future pension benefit entitlement without the additional credited service and/or age he received or would have received under this Agreement. Despite any breach by Mr. Boren his other duties and obligations under this Agreement, including his waivers and releases, shall remain in full force and effect. In the event of a breach or threatened breach by Mr. Boren of

4

any of the provisions in paragraphs 11-13 and 15-19 of this Agreement, PG&E and its parents, affiliates and subsidiaries shall, in addition to any other remedies provided in this Agreement, be entitled to equitable and/or injunctive relief and, because the damages for such a breach or threatened breach will be difficult to determine and will not provide a full and adequate remedy, PG&E and its parents, affiliates and subsidiaries shall also be entitled to specific performance by Mr. Boren of his obligations under paragraphs 11-13 and 15-19 of this Agreement. Pursuant to paragraph 24 herein, Mr. Boren shall also be liable for any litigation costs and expenses PG&E and its parents, affiliates and subsidiaries incur in successfully seeking enforcement of its rights under this Agreement, including reasonable attorney's fees.

(b)

Mr. Boren shall be entitled to recover actual damages in the event of any material breach of this Agreement by PG&E, including any unexcused late or non-payment of any amounts owed under this Agreement, or any unexcused failure to provide any other benefits specified in this Agreement. In the event of a breach or threatened breach by PG&E of any of its material obligations to Mr. Boren under this Agreement, Mr. Boren shall be entitled to seek, in addition to any other remedies provided in this Agreement, specific performance of PG&E's obligations and any other applicable equitable or injunctive relief. Pursuant to paragraph 25 herein, PG&E shall also be liable for any litigation costs and expenses Mr. Boren incurs in successfully seeking enforcement of his rights under this Agreement, including reasonable attorney's fees. Despite any breach by PG&E, its other duties and obligations under this Agreement shall remain in full force and effect.

21.

Mr. Boren acknowledges and agrees that this Agreement is not, and shall not be considered, an admission of liability or of a violation of any applicable contract, law, rule, regulation, or order of any kind.

22.

Pursuant to the Older Workers Benefit Protection Act, Mr. Boren acknowledges that he was provided up to 21 days to consider and accept the terms of this Agreement and that he was advised to consult with an attorney about the Agreement before signing it. After reviewing an earlier draft of the Agreement, Mr. Boren requested certain modifications to the Agreement, some of which were accepted and are reflected in this Agreement. Although based on these modifications Mr. Boren may have been entitled to another 21-day period in which to consider and accept the terms of this Agreement, Mr. Boren elected to waive any applicable new 21-day period. Mr. Boren also understands that, after he signs the Agreement, he will have an additional seven (7) days in which to revoke his acceptance in writing, that to revoke, he must submit a signed statement to that effect to PG&E's Senior Human Resources Officer before the close of business on the seventh day, and that, if he does not submit such a revocation, the Agreement will take effect on the eighth day after he signs it.

23.

This Agreement sets forth the entire agreement between the parties pertaining to the subject matter of this Agreement and fully supersedes any prior or contemporaneous negotiations, representations, agreements, or understandings between the parties with respect to any such matters, whether written or oral (including any that would have provided Mr. Boren any different severance arrangements). The parties acknowledge that they have not relied on any promise, representation or warranty, express or implied, not contained in this Agreement. Parol evidence will be inadmissible to show agreement by and among the parties to any term or condition contrary to or in addition to the terms and conditions contained in this Agreement.

24.

If any provision of this Agreement is determined to be invalid, void, or unenforceable, the remaining provisions shall remain in full force and effect except that, should paragraphs 11-13 and 15-19 be held invalid, void or unenforceable, either jointly or separately, NEG shall be entitled to rescind the Agreement and/or recover from Mr. Boren any payments made and benefits provided to him under this Agreement. Mr. Boren understands and agrees that before initiating any action

5

to set aside all or any part of this Agreement, a mandatory condition precedent is his prior tender back to NEG of the amounts of any payments previously made or benefits provided to him under this Agreement, including without limitation, any increased pension benefits he gained as a result of any additional credited service and/or age he received under this Agreement.

25.

With the exception of any request for specific performance, injunctive or other equitable relief, any dispute or controversy of any kind arising out of or related to this Agreement, Mr. Boren's employment with PG&E (or with the employing subsidiary), the separation thereof and from his positions as an officer and/or director of PG&E or any subsidiary, parent or affiliate, or any claims for benefits shall be resolved exclusively by final and binding confidential arbitration using a three member arbitration panel in accordance with the Commercial Arbitration Rules of the American Arbitration Association then in effect. Provided, however, that in making their determination, the arbitrators shall be limited to accepting the position of Mr. Boren or the position of PG&E, as the case may be. The only claims not covered by this paragraph 25 are any non-waivable claims for benefits under workers' compensation or unemployment insurance laws, which will be resolved under those laws. Any arbitration pursuant to this paragraph 25 shall take place in San Francisco, California. Parties may be represented by legal counsel at the arbitration but must bear their own fees for such representation. The prevailing party in any dispute or controversy covered by this paragraph 25 or with respect to any request for specific performance, injunctive or other equitable relief, shall be entitled to recover, in addition to any other available remedies specified in this Agreement, all litigation expenses and costs, including any arbitrator, administrative or filing fees and reasonable attorneys' fees. Both Mr. Boren and PG&E specifically waive any right to a jury trial on any dispute or controversy covered by this paragraph 25. Judgment may be entered on the arbitrators' award in any court of competent jurisdiction. Subject to the arbitration provisions herein, the sole jurisdiction and venue for any action related to the subject matter of this Agreement shall be the California state and federal courts having within their jurisdiction the location of PG&E's principal place of business in California at the time of such action. Both parties consent to the jurisdiction of such courts for any such action.

26.

This Agreement shall be governed by and construed under the laws of the United States and, to the extent not preempted by such laws, by the laws of the State of California, without regard to the conflicts of laws provisions thereof.

27.

The failure of either party to exercise or enforce, at any time, or for any period of time, any of the provisions of this Agreement shall not be construed as a waiver of such provision, or any portion thereof, and shall in no way affect that party's right to exercise or enforce such provisions. No waiver or default of any provision of this Agreement shall be deemed to be a waiver of any succeeding breach of the same or any other provisions of this Agreement.

28.

Mr. Boren acknowledges and agrees that he has read and understands the contents of this Agreement, that he has been afforded the opportunity to carefully review this Agreement with an attorney of his choice, that he has not relied on any oral or written representation not contained in this Agreement, that he has signed it knowingly and voluntarily, and that after this Agreement becomes effective he will be bound by all of its provisions.

6

PLEASE READ CAREFULLY. THIS AGREEMENT INCLUDES A RELEASE OF ALL KNOWN AND UNKNOWN CLAIMS.

THOMAS G. BOREN THOMAS G. BOREN	G. BRENT STANLEY PG&E CORPORATION
December 23, 2002 DATE	December 18, 2002 DATE

7

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Exhibit 10.23

EX-10.35

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EXHIBIT 10.35

2003 SHORT-TERM INCENTIVE PLAN

Background

        At its meeting on December 18, 2002, the Nominating and Compensation Committee reviewed and approved the 2003 Short-Term Incentive Plan (STIP) for officers of PG&E Corporation and each subsidiary. The structure (Attachment A) establishes the weighting of corporate earnings from operations, subsidiary earnings from operations, and other performance factors for officers.

2003 Recommended Officer Short-Term Incentive Plan Structure

Officer Group	Award Component	Weight	Performance Measures
PG&E Corporation	Corporate Financial Performance	25%	Corporate earnings from operations
	Corporate Liquidity	25%	Sufficient Corporate cash reserves
	Utility Plan of Reorganization	25%	Progress towards the reorganization of Pacific Gas and Electric Company
	NEG Restructuring	25%	Progress towards the restructuring of PG&E National Energy Group
President and CEO — Pacific Gas and Electric Company	Corporate Financial Performance	25%	Corporate earnings from operations
	Subsidiary Financial Performance	25%	Respective subsidiary contribution to corporate earnings from operations
	Utility Plan of Reorganization	50%	Progress towards the reorganization of Pacific Gas and Electric Company
President — PG&E National Energy Group	Corporate Financial Performance	25%	Corporate earnings from operations
	Subsidiary Financial Performance	25%	Respective subsidiary contribution to corporate earnings from operations
	NEG Restructuring	50%	Progress towards the restructuring of PG&E National Energy Group
Pacific Gas and Electric Company	Corporate Financial Performance	25%	Corporate earnings from operations
	Utility Plan of Reorganization	25%	Progress towards the reorganization of Pacific Gas and Electric Company
	Subsidiary Financial Performance	25%	Respective subsidiary contribution to corporate earnings from operations
	Subsidiary Operational Performance	25%	Financial, operating, and service measures determined by subsidiary CEO

PG&E National Energy Group	Corporate Financial Performance	25%	Corporate earnings from operations
	NEG Restructuring	25%	Progress towards the restructuring of PG&E National Energy Group
	Subsidiary Financial Performance	25%	Respective subsidiary contribution to corporate earnings from operations
	Subsidiary Operational Performance	25%	Financial, operating, and service measures determined by subsidiary CEO

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EXHIBIT 10.35

EX-10.37-1

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Exhibit 10.37.1

AGREEMENT AND RELEASE

December 20, 2002

To: Robert D. Glynn, Jr.

Dear Bob:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company"), as grantor of the trust pursuant to the Supplemental Executive Retirement Plan of Pacific Gas and Electric Company (the "SERP"), and you ("Executive"), addresses Executive's benefits under the SERP.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company, Pacific Gas and Electric Company and their subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the SERP, the trust pursuant to the SERP, the Company, Pacific Gas and Electric Company or any of their subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	ROBERT D. GLYNN, JR. Robert D. Glynn, Jr.

[AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.1

EX-10.37-2

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Exhibit 10.37.2

AGREEMENT AND RELEASE

December 20, 2002

To: Bruce R. Worthington

Dear Bruce:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company"), as grantor of the trust pursuant to the Supplemental Executive Retirement Plan of Pacific Gas and Electric Company (the "SERP"), and you ("Executive"), addresses Executive's benefits under the SERP.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company, Pacific Gas and Electric Company and their subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the SERP, the trust pursuant to the SERP, the Company, Pacific Gas and Electric Company or any of their subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	BRUCE R. WORTHINGTON Bruce R. Worthington

[AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.2

EX-10.37-3

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Exhibit 10.37.3

AGREEMENT AND RELEASE

December 20, 2002

To: Gregory M. Rueger

Dear Greg:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company"), as grantor of the trust pursuant to the Supplemental Executive Retirement Plan of Pacific Gas and Electric Company (the "SERP"), and you ("Executive"), addresses Executive's benefits under the SERP.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company, Pacific Gas and Electric Company and their subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the SERP, the trust pursuant to the SERP, the Company, Pacific Gas and Electric Company or any of their subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	GREGORY M. RUEGER Gregory M. Rueger

[AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.3

EX-10.37-4

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Exhibit 10.37.4

AGREEMENT AND RELEASE

December 20, 2002

To: Gordon R. Smith

Dear Gordon:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company"), as grantor of the trust pursuant to the Supplemental Executive Retirement Plan of Pacific Gas and Electric Company (the "SERP"), and you ("Executive"), addresses Executive's benefits under the SERP.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company, Pacific Gas and Electric Company and their subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the SERP, the trust pursuant to the SERP, the Company, Pacific Gas and Electric Company or any of their subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	GORDON R. SMITH Gordon R. Smith

        [AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.4

EX-10.37-5

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Exhibit 10.37.5

AGREEMENT AND RELEASE

December 20, 2002

To: James K. Randolph

Dear Jim:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company"), as grantor of the trust pursuant to the Supplemental Executive Retirement Plan of Pacific Gas and Electric Company (the "SERP"), and you ("Executive"), addresses Executive's benefits under the SERP.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company, Pacific Gas and Electric Company and their subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the SERP, the trust pursuant to the SERP, the Company, Pacific Gas and Electric Company or any of their subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	JAMES K. RANDOLPH James K. Randolph

[AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.5

EX-10.37-6

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Exhibit 10.37.6

AGREEMENT AND RELEASE

December 20, 2002

To: Thomas G. Boren

Dear Tom:

        This letter agreement (the "Agreement") by and between PG&E Corporation (the "Company") and you ("Executive") addresses Executive's supplemental executive retirement plan benefits (the "SERP") as defined in your offer letter dated July 21, 1999.

RECITALS

        1.    Executive is a participant in the SERP.

        2.    The Company has agreed to purchase annuity contracts on Executive's behalf with AIG Life Insurance Company and John Hancock Life Insurance Company in complete satisfaction of Executive's benefits accrued under the SERP through December 31, 2001.

AGREEMENTS AND ACKNOWLEDGMENTS

        1.    In consideration of the establishment and funding of contract number GA-1147 with AIG Life Insurance Company and contract number 15340 with John Hancock Life Insurance Company (the "Annuity Contracts") and the delivery to Executive of certificates under the Annuity Contracts, Executive acknowledges and agrees that all of Executive's benefits accrued under the SERP as of December 31, 2001 ("Accrued Benefits") have been fully satisfied and discharged.

        2.    Executive further acknowledges and agrees that the Company and its subsidiaries and affiliates shall have no further liability or obligation with respect to payment of the Accrued Benefits.

        3.    Executive further agrees that any claim or dispute related to the Accrued Benefits shall relate not to the SERP but rather solely to the Annuity Contracts, and Executive releases from all liability and agrees not to bring any claim, complaint or dispute against the Company or any of its subsidiaries, affiliates, officers, employees or consultants with respect to the Accrued Benefits.

        4.    The Company and Executive agree that all of their respective rights under Section 1542 of the Civil Code of the State of California, arising at any time prior to the date this Agreement is mutually executed by the parties, which are related or in any manner incidental to the matters encompassed by this Agreement are hereby waived. Section 1542 provides as follows:

"A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR."

        This Agreement constitutes the entire agreement between Executive and the Company with respect to the subject matter of this Agreement and may only be modified or amended by a writing signed by Executive and the Company.

        By signing below, you agree to all the terms of this Agreement.

PG&E CORPORATION
By	G. BRENT STANLEY G. Brent Stanley Senior Vice President
	THOMAS G. BOREN Thomas G. Boren

[AGREEMENT AND RELEASE BY AND BETWEEN PG&E CORPORATION AND [EXECUTIVE]]

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Exhibit 10.37.6

EX-10.43

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EXHIBIT 10.43

PG&E CORPORATION
OFFICER SEVERANCE POLICY
(As Amended Effective as of December 19, 2001)

1.

Purpose

This is the controlling and definitive statement of the Officer Severance Policy of PG&E Corporation ("Policy"). Since Officers are employed at the will of PG&E Corporation and its subsidiaries ("Corporation"), their employment with the Corporation may be terminated at any time, with or without cause. The Policy, which was first adopted effective November 1, 1998, provides Officers of the Corporation in Officer Compensation Bands I through V ("Officers") with severance benefits if their employment is terminated.(1) Severance benefits for officers not covered by this Policy will be provided under policies or programs developed by the appropriate lines of business in consultation with and the approval by the Senior Human Resources Officer of the Corporation.

(1)

Severance benefits for Officers who are currently covered by an employment agreement will continue to be provided solely under such agreements until their expiration at which time this Policy will become effective for such Officers.

The purpose of the Policy is to attract and retain senior management by defining terms and conditions for severance benefits, to provide severance benefits that are part of a competitive total compensation package, to provide consistent treatment for all terminated officers, and to minimize potential litigation costs associated with Officer termination of employment.

2.

Termination of Employment Not Following a Change in Control or Potential Change in Control

(a)

Corporation's Obligations. If the Corporation exercises its right to terminate an Officer's employment without cause and such termination does not entitle Officer to payments under Section 3, the Corporation shall give the Officer thirty (30) days' advance written notice or pay in lieu thereof. Except as provided in Section 2(b) below, in consideration of the Officer's agreement to the obligations described in Section 2(c) below and to the arbitration provisions described in Section 12 below, Corporation shall also provide the following payments and benefits to Officer:(2)

(2)

Any payments made hereunder shall be less applicable taxes.



(1)

The Corporation shall pay Officer a lump sum severance payment equal to: 1/12 (the sum of the Officer's annual base compensation and the Officer's Short-Term Incentive Plan target award at the time of his or her termination) times (the number of months that Officer was employed by the Corporation ("Severance Multiple")); provided, however, that the Severance Multiple shall be no less than 6, nor more than 24 for Officers in Officer Bands I, II, III, or more than 18 for Officers in Officer Bands IV or V. Annual base compensation shall mean the Officer's monthly base pay for the month in which the Officer is given notice of termination, multiplied by 12.



(2)

If Officer is a participant in the Supplemental Executive Retirement Plan of the Pacific Gas and Electric Company (SERP), Officer may elect to convert any portion of the amount described in the preceding Section 2(a)(1) to provide for additional years of service and/or additional years to Officer's age for purposes of calculating a benefit under the SERP. The value of any amount so converted shall be calculated using the same actuarial factors used in calculating benefits under the Retirement Plan for Employees of Pacific Gas and Electric Company. Any severance amounts converted to provide for additional age and/or years of service for calculating an enhanced benefit under the SERP shall not be eligible for any of the alternative payment elections described in Section 2.03c. or Section 2.03d. of the SERP.

(3)

If Officer is a participant in the SERP and if the additional age resulting from a conversion under Section 2(a)(2) does not result in an age of 55 or greater, Officer may elect to begin receiving an immediately payable SERP benefit. If Officer elects to receive an immediately payable SERP benefit, the Administrator shall use an interest rate and actuarial factors which the Administrator, in its sole discretion, has determined are appropriate to reflect the true economic value to the Corporation of providing an immediately payable SERP benefit;



(4)

The incentive awards granted to Officer under the Corporation's Long-Term Incentive Program which have not yet vested as of the date of termination will continue to vest over a period of months equal to the Severance Multiple after the date of termination as if the Officer had remained employed for such period. For vested stock options as of the date of termination, the Officer shall have the right to exercise such stock options at any time within their respective terms or within five years after termination, whichever is shorter. For stock options that vest during a period of months equal to the Severance Multiple, the Officer shall have the right to exercise such options at any time within five years after termination. Awards under the Performance Unit Plan shall continue to vest and be payable during a period of months equal to the Severance Multiple. Any unvested Performance Unit Plan awards remaining at the end of such period shall be forfeited;



(5)

For Officers in Officer Bands I, II or III, two thirds of the unvested Company stock units in the Officer's account in the Corporation's Deferred Compensation Plan for Officers which were awarded in connection with the Executive Stock Ownership Program requirements ("SISOPs") shall vest upon the Officer's termination, and one third shall be forfeited. For Officers in Officer Bands IV and V, one third of any unvested SISOPs shall vest upon the Officer's termination, and two thirds shall be forfeited. Unvested stock units attributable to SISOPs which becomes vested under this provision shall be distributed to Officer in accordance with the Deferred Compensation Plan after such stock units vest;



(6)

For a period of 18 months, the Corporation shall pay the Officer's COBRA premiums;



(7)

If Officer is terminated after serving consecutively for six months in a fiscal year, Officer shall be entitled to receive a prorated bonus under the Corporation's Short-Term Incentive Plan, at the time such bonus would otherwise be paid, if any;



(8)

To the extent not theretofore paid or provided, the Corporation shall timely pay or provide to the Officer any other amounts or benefits required to be paid or provided or which the Officer is eligible to receive under any plan, contract or agreement of the Corporation and its affiliated companies; and



(9)

Such career transition services as the Corporation's Senior Human Resources Officer shall determine is appropriate.




(b)

Remedies. The Executive Officer shall be entitled to recover damages for late or nonpayment of amounts which the Corporation is obligated to pay hereunder. The Executive Officer shall also be entitled to seek specific performance of the Corporation's obligations and any other applicable equitable or injunctive relief.



(c)

Section 2(a) shall not apply in the event that the Corporation terminates an Officer's employment "for cause." Except as used in Section 3 of this Policy, "for cause" means that the Corporation, acting in good faith based upon information then known to it, determines that the Officer has engaged in, committed, or is responsible for (1) serious misconduct, gross negligence, theft, or fraud against the Corporation; (2) refusal or unwillingness to perform his duties; (3) inappropriate conduct in violation of Corporation's equal employment opportunity policy; (4) conduct which reflects adversely upon, or making any remarks disparaging of, the Corporation, its Board of Directors, Officers, or employees, or its affiliates or subsidiaries; (5) insubordination; (6) any willful act that is likely to have the effect of injuring the

reputation, business, or business relationship of the Corporation or its subsidiaries or affiliates; (7) violation of any fiduciary duty; or (8) breach of any duty of loyalty; or (9) any breach of the restrictive covenants contained in Subsection 2(c) below. Upon termination "for cause," the Corporation shall have no liability to the Officer other than for accrued salary, vacation benefits, and any vested rights the Officer may have under the Corporation's benefit and compensation plans under the general terms and conditions of the applicable plan.

(d)

Obligations of Officer

(1)

Release of Claims. The Corporation shall have no obligation to commence the payment of the amounts and benefits described in Section 2(a) until the latter of (1) the delivery by Officer to the Corporation a fully executed comprehensive general release of any and all known or unknown claims that he or she may have against the Corporation and a covenant not to sue in the form prescribed by the Administrator, and (2) the expiration of any revocation period associated with the release to which the Officer may be entitled under law.



(2)

Covenant Not to Compete. (i) During the period of Officer's employment with the Corporation or its subsidiaries and for a period of months equal to the Severance Multiple thereafter (the "Restricted Period"), Officer shall not, in any county within the State of California or in any city, county or area outside the State of California within the United States or in the countries of Canada or Mexico, directly or indirectly, whether as partner, employee, consultant, creditor, shareholder, or other similar capacity, promote, participate, or engage in any activity or other business competitive with the Corporation's business or that of any of its subsidiaries or affiliates, without the prior written consent of the Corporation's Chief Executive Officer. Notwithstanding the foregoing, Officer may have an interest in any public company engaged in a competitive business so long as Officer does not own more than 2 percent of any class of securities of such company, Officer is not employed by and does not consult with, or becomes a director of, or otherwise engage in any activities for, such competing company.

(ii) The Corporation and its subsidiaries presently conduct their businesses within each county in the State of California and in areas outside California that are located within the United States, and it is anticipated that the Corporation and its subsidiaries will also be conducting business within the countries of Canada and Mexico. Such covenants are necessary and reasonable in order to protect the Corporation and its subsidiaries in the conduct of their businesses. To the extent that the foregoing covenant or any provision of this Section 2(c)(2)(ii) shall be deemed illegal or unenforceable by a court or other tribunal of competent jurisdiction with respect to (i) any geographic area, (ii) any part of the time period covered by such covenant, (iii) any activity or capacity covered by such covenant, or (iv) any other term or provision of such covenant, such determination shall not affect such covenant with respect to any other geographic area, time period, activity or other term or provision covered by or included in such covenant.

(3)

Soliciting Corporation Customers and Employees. During the Restricted Period, Officer shall not, directly or indirectly, solicit or contact any customer or any prospective customer of the Corporation for any commercial pursuit that could be reasonably construed to be in competition with the Corporation, or induce, or attempt to induce, any employees, agents or consultants of or to the Corporation or any of its subsidiaries or affiliates to do anything from which Officer is restricted by reason of this covenant nor shall Officer, directly or indirectly, offer or aid to others to offer employment to, or interfere or attempt to interfere with any employment, consulting or agency relationship with, any employees, agents or consultants of the Corporation, its subsidiaries and affiliates, who received compensation of $75,000 or more during the preceding six (6) months, to work for any business competitive with any business of the Corporation, its subsidiaries or affiliates.

(4)

Confidentiality. Officer shall not at any time (including after termination of employment) divulge to others, use to the detriment of the Corporation, or use in any business competitive with any business of the Corporation, any trade secret, confidential or privileged information obtained during his employment with the Corporation, without first obtaining the written consent of the Corporation's Chief Executive Officer. This paragraph covers but is not limited to discoveries, inventions (except as otherwise provided by California law), improvements, and writings, belonging to or relating to the affairs of the Corporation or of any of its subsidiaries or affiliates, or any marketing systems, customer lists or other marketing data. Officer shall, upon termination of employment for any reason, deliver to the Corporation all data, records and communications, and all drawings, models, prototypes or similar visual or conceptual presentations of any type, and all copies or duplicates thereof, relating to all matters contemplated by this paragraph.



(5)

Assistance in Legal Proceedings. During the Restricted Period, Officer shall, upon reasonable notice from the Corporation, furnish information and proper assistance (including testimony and document production) to the Corporation as may be reasonably required by the Corporation in connection with any legal, administrative or regulatory proceeding in which it or any of its subsidiaries or affiliates is, or may become, a party, or in connection with any filing or similar obligation of the Corporation imposed by any taxing, administrative or regulatory authority having jurisdiction, provided, however, that the Corporation shall pay all reasonable expenses incurred by Officer in complying with this paragraph.



(6)

Remedies. Upon Officer's failure to comply with the provisions of this Section 2(c), the Corporation shall have the right to immediately terminate any unpaid amounts or benefits described in Section 2(a) to Officer. In the event of such termination, the Corporation shall have no further obligations under this Policy and shall be entitled to recover damages. In the event of an Officer's breach or threatened breach of any of the covenants set forth in this Section 2(c), the Corporation shall also be entitled to specific performance by Officer of any such covenant and any other applicable equitable or injunctive relief.

3.

Termination of Employment Following a Change in Control or Potential Change in Control

(a)

If an Executive Officer's employment by the Corporation or any subsidiary or successor of the Corporation shall be subject to an Involuntary Termination within the Covered Period, then the provisions of this Section 3 instead of Section 2 shall govern the obligations of the Corporation as to the payments and benefits it shall provide to the Executive Officer. In the event that Executive Officer's employment with the Corporation or an employing subsidiary is terminated under circumstances which would not entitle Executive Officer to payments under this Section 3, Executive Officer shall only receive such benefits to which he is entitled under Section 2, if any. In no event shall Executive Officer be entitled to receive termination benefits under both this Section 3 and Section 2.

All the terms used in this Section 3 shall have the following meanings:

(1)

"Affiliate" shall mean any entity which owns or controls, is owned or is under common ownership or control with, the Corporation.



(2)

"Cause" shall mean (i) the willful and continued failure of the Executive Officer to perform substantially the Executive Officer's duties with the Corporation or one of its affiliates (other than any such failure resulting from incapacity due to physical or mental illness), after a written demand for substantial performance is delivered to the Executive Officer by the Board of Directors or the Chief Executive Officer of the Corporation which specifically identifies the manner in which the Board of Directors or Chief Executive Officer believes that the Executive Officer has not substantially performed the

Executive Officer's duties; or (ii) the willful engaging by the Executive Officer in illegal conduct or gross misconduct which is materially demonstrably injurious to the Corporation.

For purposes of the provision, no act or failure to act, on the part of the Executive Officer, shall be considered "willful" unless it is done, or omitted to be done, by the Executive Officer in bad faith or without reasonable belief that the Executive Officer's action or omission was in the best interests of the Corporation. Any act, or failure to act, based upon authority given pursuant to a resolution duly adopted by the Board of Directors or upon the instructions of the Chief Executive Officer or a senior officer of the Corporation or based upon the advice of counsel for the Corporation shall be conclusively presumed to be done, or omitted to be done, by the Executive Officer in good faith and in the best interests of the Corporation. The cessation of employment of the Executive Officer shall not be deemed to be for Cause unless and until there shall have been delivered to the Executive Officer a copy of a resolution duly adopted by the affirmative vote of not less than three-quarters of the entire membership of the Board of Directors at a meeting of the Board of Directors called and held for such purpose (after reasonable notice is provided to the Executive Officer and the Executive Officer is given an opportunity, together with counsel, to be heard before the Board of Directors), finding that, in the good faith opinion of the Board of Directors, the Executive Officer is guilty of the conduct described in subparagraph (i) or (ii) above, and specifying the particulars thereof in detail.

(3)

"Change in Control" shall be deemed to have occurred if:



a)

any "person" (as such term is used in Sections 13(d) and 14(d)(2) of the Securities Exchange Act of 1934, but excluding any benefit plan for employees or any trustee, agent or other fiduciary for any such plan acting in such person's capacity as such fiduciary), directly or indirectly, becomes the beneficial owner of securities of the Corporation representing 20 percent or more of the combined voting power of the Corporation's then outstanding securities;



b)

during any two consecutive years, individuals who at the beginning of such a period constitute the Board of Directors of the Corporation cease for any reason to constitute at least a majority of the Board of Directors of the Corporation, unless the election or the nomination for election by the shareholders of the Corporation, of each new Director was approved by a vote of at least two-thirds (²/3) of the Directors then still in office who were Directors at the beginning of the period; or



c)

the shareholders of the Corporation shall have approved (i) any consolidation or merger of the Corporation other than a merger or consolidation which would result in the voting securities of the Corporation outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity or any parent of such surviving entity) at least 70 percent of the Combined Voting Power of the Corporation, such surviving entity or the parent of such surviving entity outstanding immediately after such merger or consolidation; (ii) any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all or substantially all of the assets of the Corporation; or (iii) any plan or proposal for the liquidation or dissolution of the Corporation.




(4)

"Change in Control Date" shall mean the date on which a Change in Control occurs.



(5)

"Combined Voting Power" shall mean the combined voting power of the Corporation's or other relevant entity's then outstanding voting securities.



(6)

"Covered Period" shall mean the period commencing with the Change in Control Date and terminating two (2) years following said commencement; provided, however, that if a

Change in Control occurs and Executive Officer's employment with the Corporation or the employing subsidiary is subject to an Involuntary Termination before the Change in Control Date but on or after a Potential Change in Control Date, and if it is reasonably demonstrated by the Executive Officer that such termination (i) was at the request of a third party who has taken steps reasonably calculated to effect a Change in Control, or (ii) otherwise arose in connection with or in anticipation of a Change in Control, then the Covered Period shall mean, as applied to Executive Officer, the two-year period beginning on the date immediately before the Potential Change in Control Date. In the case of termination of employment following a Potential Change in Control Date, references in the definition of "Good Reason" to conditions in effect immediately prior to a Change in Control shall be deemed to mean conditions in effect immediately prior to Executive Officer's termination.

(7)

"Disability" shall mean the absence of the Executive Officer from the Executive Officer's duties with the Corporation or the employing subsidiary on a full-time basis for 180 consecutive business days as a result of incapacity due to physical or mental illness which is determined to be total and permanent by a physician selected by the Corporation or its insurers and acceptable to the Executive Officer or the Executive Officer's legal representative.



(8)

"Executive Officer" shall mean officers of the Corporation at the level of Senior Vice President and above.



(9)

"Good Reason" shall mean any one or more of the following which takes place within the Covered Period:



a)

An adverse change in Executive Officer's status or position(s) as in effect immediately before a Change in Control or Potential Change in Control, including, without limitation, the assignment to the Executive Officer of any duties inconsistent in any respect with the Executive Officer's position (including status, offices, titles and reporting requirements, including reporting requirements under Section 16 of the Securities Exchange Act of 1934), authority, duties or responsibilities prior to a Change in Control or Potential Change in Control, or any other action by the Corporation which results in the diminution in such position, authority, duties or responsibilities prior to a Change in Control or Potential Change in Control, excluding for this purpose an isolated, insubstantial and inadvertent action not taken in bad faith and which is remedied by the Corporation promptly after receipt of notice thereof given by the Executive Officer;



b)

Executive Officer's base salary is reduced from that provided to him immediately before the Change in Control Date or as the same may be increased from time to time thereafter, unless such reduction is part of an across-the-board reduction for all similarly situated executives, including executives of the other party to the transaction that results in the Change in Control;



c)

Executive Officer's eligibility to participate in bonus, stock option, incentive award and other compensation plans which provide opportunities to receive compensation is diminished from that provided to him immediately before the Change in Control Date, unless substantially equal benefits are provided to Executive Officer under comparable compensation plans, or unless such reduction is part of an across-the-board reduction for all similarly situated executives, including executives of the other party to the transaction that results in the Change in Control;



d)

The aggregate projected value of Executive Officer's employee benefits (including but not limited to supplemental and excess retirement programs, medical, dental, life insurance and long-term disability plans) and perquisites is diminished from that provided to him immediately before the Change in Control Date, unless such

reduction is part of an across-the-board reduction for all similarly situated executives, including executives of the other party to the transaction that results in the Change in Control;

e)

A change in Executive Officer's principal place of employment by Corporation (including its subsidiaries) to a location more than thirty-five miles from Executive Officer's principal place of employment immediately before the Change in Control Date;



f)

A reasonable determination by the Board of Directors that, as a result of a Change in Control and a change in circumstances thereafter significantly affecting his position, he is unable to exercise the authorities, powers, function or duties attached to his position immediately before the Change in Control Date;



g)

The failure of the Corporation to obtain the assumption of this Policy by any successor contemplated in Section 7, hereof; or



h)

The material failure of the Corporation to fulfill its obligations under this Policy, to the extent not remedied in a reasonable period of time after the Corporation's receipt of written notice from Executive Officer specifying the material failure by the Corporation.




(10)

"Involuntary Termination" shall mean a termination (i) by the Corporation without Cause, or (ii) by Executive Officer following Good Reason; provided, however, the term "Involuntary Termination" shall not include termination of Executive Officer's employment due to Executive Officer's death, Disability, or voluntary retirement.



(11)

"Potential Change in Control" shall mean the earliest to occur of (i) the date on which the Corporation executes an agreement or letter of intent, where the consummation of the transaction described therein would result in the occurrence of a Change in Control, (ii) the date on which the Board of Directors approves a transaction or series of transactions, the consummation of which would result in a Change in Control, or (iii) the date on which a tender offer for the Corporation's voting stock is publicly announced, the completion of which would result in a Change in Control; provided, however, that if such Potential Change in Control terminates by its terms, such transaction shall no longer constitute a Potential Change in Control.



(12)

"Potential Change in Control Date" shall mean the date on which a Potential Change in Control occurs.



(13)

"Reference Salary" shall mean the greater of (i) the annual rate of Executive Officer's base salary from the Corporation or the employing subsidiary in effect immediately before the date of Executive Officer's Involuntary Termination, or (ii) the annual rate of Executive Officer's base salary from the Corporation or the employing subsidiary in effect immediately before the Change in Control Date.



(14)

"Termination Date" shall be the date specified in the written notice of termination of Executive Officer's employment given by either party in accordance with Section 3(b) of this Policy.




(b)

Notice of Termination. During the Covered Period, in the event that the Corporation (including an employing subsidiary) or Executive Officer terminates Executive Officer's employment with the Corporation or employing subsidiary, the party terminating employment shall give written notice of termination to the other party, specifying the Termination Date and the specific termination provision in this Section 3 that is relied upon, if any, and setting forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of Executive Officer's employment under the provision so indicated. The Termination Date shall be determined as follows: (i) if Executive Officer's employment is terminated for Disability, thirty (30) days after a Notice of Termination is given (provided that Executive Officer shall

not have returned to the full-time performance of Executive Officer's duties during such 30-day period); (ii) if Executive Officer's employment is terminated by the Corporation in an Involuntary Termination, five days after the date the Notice of Termination is received by Executive Officer; and (iii) (as defined in this Section 3) if Executive Officer's employment is terminated by the Corporation for Cause, the date specified in the Notice of Termination, provided, that the events or circumstances cited by the Board of Directors as constituting Cause are not cured by Executive Officer during any cure period that may be offered by the Board of Directors. The Date of Termination for a resignation of employment other than for Good Reason shall be the date set forth in the applicable notice, which shall be no earlier than ten (10) days after the date such notice is received by the Corporation, unless waived by the Corporation. During the Covered Period, a notice of termination given by Executive Officer for Good Reason shall be given within three (3) months after occurrence of the event on which Executive Officer bases his notice of termination and shall provide a Termination Date not more than sixty (60) days after the notice of termination is given to the Corporation.

(c)

Corporation's Obligations. If Executive Officer's employment by the Corporation or any subsidiary or successor of the Corporation shall be subject to an Involuntary Termination within the Covered Period, then the Corporation shall provide Executive Officer the following benefits:



(1)

The Corporation shall pay to the Executive Officer a lump sum in cash within thirty (30) days after the Termination Date:



a)

the sum of (1) any earned but unpaid base salary through the Termination Date at the rate in effect at the time of the notice of termination to the extent not theretofore paid; (2) the Executive Officer's target bonus under the Short-Term Incentive Plan of the Corporation, an Affiliate, or a predecessor, for the fiscal year in which the Termination Date occurs (the "Target Bonus"); and (3) any accrued but unpaid vacation pay, in each case to the extent not theretofore paid; and



b)

the amount equal to the product of (1) three and (2) the sum of (x) the Reference Salary and (y) the Target Bonus.




(2)

Remedies. The Executive Officer shall be entitled to recover damages for late or nonpayment of amounts which the Corporation is obligated to pay hereunder. The Executive Officer shall also be entitled to seek specific performance of the Corporation's obligations and any other applicable equitable or injunctive relief.




(d)

Adjustment for Excise Taxes. If any portion of the payments to the Executive Officer under this Section 3 or under any other plan, program, or arrangement maintained by the Corporation (a "Payment") would be subject to the excise tax levied under Section 4999 of the Internal Revenue Code ("Code"), or any interest or penalties are incurred by Executive Officer with respect to such excise tax (such excise tax together with such interest and penalties are referred to herein as the "Excise Tax"), then the Corporation shall make an additional payment to Executive Officer (a "Tax Restoration Payment") in an amount such that after payment by the Executive Officer of all taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Tax Restoration Payment, the Executive Officer retains an amount of the Tax Restoration Payment equal to the Excise Tax imposed upon the Payments. The payment of a Tax Restoration Payment under this Section 3 shall not be conditioned upon the Executive Officer's termination of employment.

All determinations and calculations required to be made under this Section 3(d) shall be made by Deloitte & Touche (the "Accounting Firm"), which shall provide its determination (the "Determination"), together with detailed supporting calculations regarding the amount of any Tax Restoration Payment and any other relevant matter, both to the Corporation and the

Executive Officer within five (5) days of the termination of the Executive Officer's employment, if applicable, or such earlier time as is requested by the Corporation or the Executive Officer (if the Executive Officer reasonably believes that any of the Payments may be subject to Excise Tax). If the Accounting Firm determines that no Excise Tax is payable by the Executive Officer, it shall furnish the Executive Officer with a written statement that such Accounting Firm has concluded that no Excise Tax is payable (including the reasons therefor) and that the Executive Officer has substantial authority not to report any Excise Tax on the Executive Officer's federal income tax return. If a Tax Restoration Payment is determined to be payable, it shall be paid to the Executive Officer within five (5) days after the Determination is delivered to the Corporation or the Executive Officer. Any determination by the Accounting Firm shall be binding upon the Corporation and the Executive Officer, absent manifest error.

As a result of uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Tax Restoration Payments not made by the Corporation should have been made ("Underpayment") or that Tax Restoration Payments will have been made by the Corporation which should not have been made ("Overpayment"). In either such event, the Accounting Firm shall determine the amount of the Underpayment or Overpayment that has occurred. In the case of an Underpayment, the amount of such Underpayment shall be promptly paid by the Corporation to or for the benefit of the Executive Officer. In the case of an Overpayment, the Executive Officer shall, at the direction and expense of the Corporation, take such steps as are reasonably necessary (including the filing of returns and claims for refund), follow reasonable instructions from, and procedures established by, the Corporation, and otherwise reasonably cooperate with the Corporation to correct such Overpayment, provided, however, that (i) the Executive Officer shall in no event be obligated to return to the Corporation an amount greater than the net after-tax portion of the Overpayment that the Executive Officer has retained or has recovered as a refund from the applicable taxing authorities, and (ii) this provision shall be interpreted in a manner consistent with the intent of the Tax Restoration Payment paragraph above, which is to make the Executive Officer whole, on an after-tax basis, from the application of Excise Tax, it being understood that the correction of an Overpayment may result in the Executive Officer's repaying to the Corporation an amount that is less than the Overpayment.

4.

Administration

The Policy shall be administered by the Senior Human Resources Officer of the Corporation ("Administrator"), who shall have the authority to interpret the Policy and make and revise such rules as may be reasonably necessary to administer the Policy. The Administrator shall have the duty and responsibility of maintaining records, making the requisite calculations, securing Officer releases, and disbursing payments hereunder. The Administrator's interpretations, determinations, rules, and calculations shall be final and binding on all persons and parties concerned.

5.

No Mitigation

Payment of the amounts and benefits under Section 2(a) and Section 3 (except as otherwise provided in Section 2(a)(5)) shall not be subject to offset, counterclaim, recoupment, defense or other claim, right or action which the Corporation may have and shall not be subject to a requirement that Officer mitigate or attempt to mitigate damages resulting from Officer's termination of employment.

6.

Amendment and Termination

The Corporation, acting through its Nominating and Compensation Committee, reserves the right to amend or terminate the Policy at any time; provided, however, that any amendment which would reduce the aggregate level of benefits, or terminate the Policy, shall not become effective

prior to the third anniversary of the Corporation giving notice to Officers of such amendment or termination.

7.

Successors

The Corporation will require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business or assets of the Corporation expressly to assume and to agree to perform its obligations under this Policy in the same manner and to the same extent that the Corporation would be required to perform such obligations if no such succession had taken place; provided, however, that no such assumption shall relieve the Corporation of its obligations hereunder. As used herein, the "Corporation" shall mean the Corporation as hereinbefore defined and any successor to its business and/or assets as aforesaid which assumes and agrees to perform its obligations by operation or law or otherwise.

This Policy shall inure to the benefit of and be binding upon the Officer (and Officer's personal representatives and heirs), Corporation and its successors and assigns, and any such successor or assignee shall be deemed substituted for the Corporation under the terms of this Policy for all purposes. As used herein, "successor" and "assignee" shall include any person, firm, corporation or other business entity which at any time, whether by purchase, merger or otherwise, directly or indirectly acquires the stock of the Corporation or to which the Corporation assigns this Policy by operation of law or otherwise. If Officer should die while any amount would still be payable to Officer hereunder if Officer had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with this Policy to Officer's devisee, legatee or other designee, or if there is no such designee, to Officer's estate.

8.

Nonassignability of Benefits

The payments under this Policy or the right to receive future payments under this Policy may not be anticipated, alienated, pledged, encumbered, or subject to any charge or legal process, and if any attempt is made to do so, or a person eligible for payments becomes bankrupt, the payments under the Policy of the person affected may be terminated by the Administrator who, in his or her sole discretion, may cause the same to be held if applied for the benefit of one or more of the dependents of such person or make any other disposition of such benefits that he or she deems appropriate.

9.

Nonguarantee of Employment

Officers covered by the Policy are at-will employees, and nothing contained in this Policy shall be construed as a contract of employment between the Officer and the Corporation (or, where applicable, a subsidiary or affiliate of the Corporation), or as a right of the Officer to continued employment, or to remain as an Officer, or as a limitation on the right of the Corporation (or a subsidiary or affiliate of the Corporation) to discharge Officer at any time, with or without cause.

10.

Benefits Unfunded and Unsecured

The payments under this Policy are unfunded, and the interest under this Policy of any Officer and such Officer's right to receive payments under this Policy shall be an unsecured claim against the general assets of the Corporation.

11.

Applicable Law

All questions pertaining to the construction, validity, and effect of the Policy shall be determined in accordance with the laws of the United States and, to the extent not preempted by such laws, by the laws of the state of California.

12.

Arbitration

With the exception of any request for specific performance, injunctive or other equitable relief, any dispute or controversy of any kind arising out of or related to this Policy, Officer's employment with the Corporation (or with the employing subsidiary), the termination thereof or any claims for

benefits shall be resolved exclusively by final and binding arbitration in accordance with the Commercial Arbitration Rules of the American Arbitration Association then in effect. Provided, however, that in making their determination, the arbitrators shall be limited to accepting the position of the Officer or the position of the Corporation, as the case may be. The only claims not covered by this Section 12 are claims for benefits under workers' compensation or unemployment insurance laws; such claims will be resolved under those laws. The place of arbitration shall be San Francisco, California. Parties may be represented by legal counsel at the arbitration but must bear their own fees for such representation. The prevailing party in any dispute or controversy covered by this Section 12, or with respect to any request for specific performance, injunctive or other equitable relief, shall be entitled to recover, in addition to any other available remedies specified in this Policy, all litigation expenses and costs, including any arbitrator or administrative or filing fees and reasonable attorneys' fees. Both the Officer and the Corporation specifically waive any right to a jury trial on any dispute or controversy covered by this Section 12. Judgment may be entered on the arbitrators' award in any court of competent jurisdiction.

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EXHIBIT 10.43

EX-10.46

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EXHIBIT 10.46

EXHIBIT NOTE: Language contained in brackets may vary according to individual award.

PG&E CORPORATION
LONG-TERM INCENTIVE PROGRAM

RESTRICTED STOCK AWARD AGREEMENT

PG&E CORPORATION, a California corporation (the "Company"), hereby awards shares of Restricted Stock to the Recipient named below. The terms and conditions of the award are set forth in this cover sheet, in the attached Restricted Stock Award Agreement and in the Long-Term Incentive Program (the "Plan").

Date of Award:        January 2, 2003

Name of Recipient:

Recipient's Social Security Number:             -        -            

Number of Shares of Restricted Stock Awarded:

Aggregate Fair Market Value of Restricted Stock on Date of Award:        $                  

By signing this cover sheet, you agree to all of the terms and conditions described in the attached Restricted Stock Award Agreement and in the Plan. You are also acknowledging receipt of this Agreement and a copy of the Plan.

Recipient:
	(Signature)

Attachment

Please return your signed Agreement to PG&E Corporation, Human Resources,
One Market Street, Spear Street Tower, Suite 400, San Francisco, California 94105

PG&E CORPORATION LONG-TERM INCENTIVE PROGRAM
RESTRICTED STOCK AWARD AGREEMENT

The Plan and Other Agreements	The text of the Plan is incorporated in this Agreement by reference. You and the Company agree to execute such further instruments and to take such further action as may reasonably be necessary to carry out the intent of this Agreement. Unless otherwise defined in this Agreement, certain capitalized terms used in this Agreement are defined in the Plan. In the event of any conflict or inconsistency between the provisions of this Agreement and the Plan documents, the Plan documents shall govern.
	This Agreement, the attached Exhibits and the Plan constitute the entire understanding between you and the Company regarding this Award of Restricted Stock. Any prior agreements, commitments or negotiations are superseded.
Award of Restricted Stock	PG&E Corporation (the "Company") awards you the number of shares of Restricted Stock shown on the cover sheet of this Agreement. The award is subject to the terms and conditions of this Agreement and the Plan.
Lapse of Restrictions	As long as you remain employed with the Company (or any of its subsidiaries), the restrictions will lapse as to [20] percent of the total number of shares of Restricted Stock originally subject to this Agreement, as shown above on the cover sheet, on the first business day of January of each of the first, second, third and fourth years following the Date of Award (each such day an "Annual Lapse Date"). The restrictions will lapse as to an additional [5] percent of the total number of shares of Restricted Stock originally subject to this Agreement, as shown above on the cover sheet, on each Annual Lapse Date if PG&E Corporation is in the top [quartile] of its comparator group1 as measured by relative annual total shareholder return for the year ending immediately before each Annual Lapse Date (the "Annual Performance Goal"). Except as described below, all shares of Restricted Stock subject to this Agreement as to which the restrictions have not lapsed shall be forfeited upon your Termination.
Termination	In the event that you terminate your employment with the Company voluntarily or in the event of a Termination for Cause before the fourth anniversary of the Date of Award, you will automatically forfeit to the Company all of the shares of Restricted Stock as to which the restrictions have not lapsed subject to this Agreement as of the date of such Termination.

1 The identities of the companies currently comprising the comparator group are included in the General Information sheet you received with this Restricted Stock Award Agreement. PG&E Corporation reserves the right to change the companies comprising the comparator group at any time.

2

Termination other than for Cause	If you are an officer in Bands 1-5, the restrictions on your outstanding shares of Restricted Stock that would have lapsed during the period of the "Severance Multiple" under the applicable severance policy shall continue to lapse pursuant to the regular lapse schedule (or sooner, in the event of a Change in Control during such period). In the event of your involuntary Termination other than a Termination for Cause, if you are not an officer in Bands 1-5, the restrictions on your outstanding shares of Restricted Stock that would have lapsed within 12 months following such Termination will continue to lapse pursuant to the regular lapse schedule (or sooner, in the event of a Change in Control during such period). All other outstanding shares of Restricted Stock shall automatically be forfeited to the Company upon such Termination.
Retirement	In the event of your Retirement, the restrictions on your outstanding shares of Restricted Stock will continue to lapse as though your employment had continued. Your Termination will be considered your Retirement if you are age 55 or older on the date of Termination and if you were employed by PG&E Corporation or any of its subsidiaries for at least five consecutive years ending on the date of termination of your employment.
Death/Disability	In the event of a Termination due to your death or disability, the restrictions on all of your shares of Restricted Stock shall lapse on the next Annual Lapse Date; provided, however, that the restrictions as to [twenty] percent of all such shares of Restricted Stock shall not lapse if the Annual Performance Goal is not met with respect to such Annual Lapse Date. In the event of a Change in Control of the Company after such Termination and before such next Annual Lapse Date, the restrictions as to all shares of Restricted Stock shall immediately lapse as described below under "Change in Control."
Termination Due to Disposition of Subsidiary	In the event of a Termination by reason of a divestiture or change in control of a subsidiary of PG&E Corporation, which divestiture or change in control results in such subsidiary no longer qualifying as a subsidiary corporation under Section 424(f) of the Code or in the event of a Termination coincident with the sale of all or substantially all of the assets of a subsidiary of PG&E Corporation, the restrictions on all shares of Restricted Stock shall lapse on the next Annual Lapse Date; provided, however, that the restrictions as to [twenty] percent of all such shares of Restricted Stock shall be forfeited to the Company if the Annual Performance Goal is not met with respect to such Annual Lapse Date. In the event of a Change in Control of the Company after such Termination and before such next Annual Lapse Date, the restrictions as to all shares of Restricted Stock shall immediately lapse as described below under "Change in Control."

3

Escrow	The certificates for the Restricted Stock shall be deposited in escrow with the Corporate Secretary of the Company to be held in accordance with the provisions of this paragraph. Each deposited certificate shall be accompanied by any assignment documents the Company may require you to execute. The deposited certificates shall remain in escrow until such time as the certificates are to be released or otherwise surrendered for cancellation as discussed below. Upon delivery of the certificates to the Company, you shall be issued an instrument of deposit acknowledging the number of shares of Restricted Stock delivered in escrow to the Corporate Secretary of the Company.
	All dividends, if any, on the Restricted Stock shall be held in escrow and subject to the same restrictions, including the requirement to satisfy the [Annual Performance Goal], as the shares to which they relate.
Release of Shares and Withholding Taxes	The shares of Restricted Stock held in escrow hereunder shall be subject to the following terms and conditions relating to their release from escrow or their surrender to the Company:
	• When the restrictions as to your shares of Restricted Stock lapse as described above, the certificates for such shares shall be released from escrow and delivered to you, at your request within thirty (30) days of the applicable Annual Lapse Date.
	• Upon your Termination, any shares of Restricted Stock as to which the restrictions have not lapsed shall be forfeited and automatically surrendered to the Company as provided herein.
	Note that you must make arrangements acceptable to the Company to satisfy withholding or other taxes that may be due before your shares will be released to you. If you so elect, the Company will assist you in selling your shares through a broker so that you can use the sales proceeds to satisfy applicable taxes. You will receive the remaining proceeds in cash. However, if you wish to receive the stock certificates in lieu of selling your shares, you will need to make arrangements to pay the applicable taxes either by check or through payroll deduction. The Company will notify you about how to instruct the Company to sell your shares when the restrictions lapse or make other arrangements.
Change in Control	The restrictions on all of your outstanding shares of Restricted Stock shall automatically lapse and become nonforfeitable in the event there is a Change in Control of the Company.

4

Code Section 83(b) Election	Under Section 83(a) of the Internal Revenue Code of 1986, as amended (the "Code"), the Fair Market Value of the Restricted Stock on the date any forfeiture restrictions applicable to such Restricted Stock lapse will be reportable as ordinary income at that time. For this purpose, "forfeiture restrictions" include surrender to the Company of Restricted Stock as described above. You may elect to be taxed at the time the Restricted Stock is awarded to you, rather than when the restrictions lapse by filing an election under Section 83(b) of the Code with the Internal Revenue Service within thirty (30) days after the Date of Award. The form for making this election is attached as Exhibit A hereto. Failure to make this filing within the thirty (30) day period will result in the recognition of ordinary income by you (in the event the Fair Market Value of the Restricted Stock increases after the date of purchase) as the forfeiture restrictions lapse. YOU ACKNOWLEDGE THAT IT IS YOUR SOLE RESPONSIBILITY, AND NOT THE COMPANY'S, TO FILE A TIMELY ELECTION UNDER CODE SECTION 83(b). YOU ARE RELYING SOLELY ON YOUR OWN ADVISORS WITH RESPECT TO THE DECISION AS TO WHETHER OR NOT TO FILE A CODE SECTION 83(b) ELECTION.
Leaves of Absence	For purposes of this Agreement, if you are on an approved leave of absence from the Company (or any of its subsidiaries), or a recipient of Company sponsored disability benefits, you will continue to accrue service credit. Should you not return to active work upon the expiration of your leave of absence or the expiration of your Company sponsored disability benefits, you will have a Termination for Plan purposes.
	The Company determines which leaves count for this purpose, and when your employment terminates for all purposes under the Plan.
Voting and Other Rights	Subject to the terms of this Agreement, you shall have all the rights and privileges of a shareholder of the Company while the Restricted Stock is held in escrow, including the right to vote. As described above, all dividends, if any, on the Restricted Stock shall be held in escrow and subject to the same restrictions, including the requirement to satisfy the [Annual Performance Goal], as the shares to which they relate.
Restrictions on Issuance	The Company will not issue any Restricted Stock if the issuance of such Restricted Stock at that time would violate any law or regulation.

5

Restrictions on Resale and Hedge Transactions	By signing this Agreement, you agree not to sell any Restricted Stock before the restrictions lapse or sell any shares acquired under this award at a time when applicable laws, regulations or Company or underwriter trading policies prohibit sale. In particular, in connection with any underwritten public offering by the Company of its equity securities pursuant to an effective registration statement filed under the Securities Act of 1933, you shall not sell, make any short sale of, loan, hypothecate, pledge, grant any option for the purchase of, or otherwise dispose or transfer for value or agree to engage in any of the foregoing transactions with respect to any shares acquired under this award without the prior written consent of the Company or its underwriters, for such period of time after the effective date of such registration statement as may be requested by the Company or the underwriters.
	If the sale of shares acquired under this award is not registered under the Securities Act of 1933, but an exemption is available which requires an investment or other representation and warranty, you shall represent and agree that the Shares being acquired are being acquired for investment, and not with a view to the sale or distribution thereof, and shall make such other representations and warranties as are deemed necessary or appropriate by the Company and its counsel.
	By your acceptance of the award, you agree that while the Restricted Stock is subject to restrictions, you will not enter into a corresponding hedging transaction relating to the Company's stock nor engage in any short sale of the Company's stock. This prohibition shall not apply to transactions effected through the Company's benefit plans that provide an opportunity to invest in Company stock or which provide compensation based on the price of Company stock.
No Retention Rights	This Agreement is not an employment agreement and does not give you the right to be retained by the Company (or its subsidiaries). Except as otherwise provided in an applicable employment agreement, the Company (or any of its subsidiaries) reserves the right to terminate your employment at any time and for any reason.
Legends	All certificates representing the Restricted Stock issued under this award shall, where applicable, have endorsed thereon the following legends:
	"THE SHARES REPRESENTED BY THIS CERTIFICATE ARE SUBJECT TO CERTAIN RESTRICTIONS ON TRANSFER SET FORTH IN AN AGREEMENT BETWEEN THE COMPANY AND THE REGISTERED HOLDER, OR HIS OR HER PREDECESSOR IN INTEREST. A COPY OF SUCH AGREEMENT IS ON FILE AT THE PRINCIPAL OFFICE OF THE COMPANY AND WILL BE FURNISHED UPON WRITTEN REQUEST TO THE CORPORATE SECRETARY OF THE COMPANY BY THE HOLDER OF RECORD OF THE SHARES REPRESENTED BY THIS CERTIFICATE."
Applicable Law	This Agreement will be interpreted and enforced under the laws of the State of California.
By signing the cover sheet of this Agreement, you agree to all of the terms and conditions described above and in the Plan.

6

Note: Do not have this Section 83(b) Election filed unless you wish to pay tax withholding to the Company at the same time.

EXHIBIT A
ELECTION UNDER SECTION 83(b) OF
THE INTERNAL REVENUE CODE

        The undersigned hereby makes an election pursuant to Section 83(b) of the Internal Revenue Code with respect to the property described below and supplies the following information in accordance with the regulations promulgated thereunder:

1.

The name, address and social security number of the undersigned:  

   

Social Security No.:

2.

Description of property with respect to which the election is being made:

                      shares of common stock of PG&E Corporation (the "Company").

3.

The date on which the property was transferred is January 2, 2003.

4.

The taxable year to which this election relates is calendar year 2003.

5.

Nature of restrictions to which the property is subject:

The shares of stock are subject to the provisions of a Restricted Stock Award Agreement (the "Agreement") between the undersigned and the Company. The shares of stock are subject to forfeiture under the terms of the Agreement.

6.

The fair market value of the property at the time of transfer (determined without regard to any lapse restriction) was $                        per share, for a total of $                        .

7.

The amount paid by taxpayer for the property was $        0            .

8.

A copy of this statement has been furnished to the Company.

Dated:                        , 2003.

[Taxpayer's Name]

Note: A valid Section 83(b) Election must be filed with the IRS within 30 days of the Date of Award. Accordingly, if you wish to file, please submit this signed form for receipt by January 29, 2003 to PG&E Corporation, Human Resources, One Market Street, Spear Street Tower, Suite 400, San Francisco, CA 94105.

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EXHIBIT 10.46

EX-11

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EXHIBIT 11

PG&E CORPORATION
COMPUTATION OF EARNINGS PER COMMON SHARE

	Year ended December 31,
	2002			2001(4)		2000(4)
	(in millions, except per share amounts)
Income (loss) from continuing operations	$	(57	)	$	983	$	(3,423	)
Discontinued operations		(756	)		107		59
Net income (loss) before cumulative effect of accounting change		(813	)		1,090		(3,364	)
Cumulative effect of accounting change		(61	)		9		—
Net income (loss)	$	(874	)	$	1,099	$	(3,364	)
Weighted average common shares outstanding, basic(1)		371			363		362
Add: Employee Stock Options and PG&E Corporation shares held by grantor trusts		—			1		—
Shares outstanding for diluted calculations		371			364		362
Earnings (Loss) Per Common Share, Basic(2)
Income (loss) from continuing operations	$	(0.15	)	$	2.71	$	(9.45	)
Discontinued operations		(2.04	)		0.29		0.16
Cumulative effect of change in accounting principle		(0.17	)		0.02		—
Rounding		—			0.01		—
Net earnings (loss)	$	(2.36	)	$	3.03	$	(9.29	)
Earnings (Loss) Per Common Share, Diluted(2)(3)
Income (loss) from continuing operations	$	(0.15	)	$	2.70	$	(9.45	)
Discontinued operations		(2.04	)		0.29		0.16
Cumulative effect of change in accounting principle		(0.17	)		0.02		—
Rounding		—			0.01		—
Net earnings (loss)	$	(2.36	)	$	3.02	$	(9.29	)

(1)

Weighted average common shares outstanding exclude shares held by a subsidiary of PG&E Corporation (23,815,500 shares at December 31, 2002, 2001 and 2000, respectively) and PG&E Corporation shares held by grantor trusts to secure deferred compensation obligations (281,985 shares at December 31, 2002, 2001, and 2000, respectively).

(2)

This presentation is submitted in accordance with Item 601(b)(11) of Regulation S-K and Statement of Financial Accounting Standards No. 128.

(3)

The diluted earnings per share for the year ended December 31, 2002, excludes approximately two million incremental shares related to employee stock options and shares held by grantor trusts, two million incremental shares related to warrants, and ten million incremental shares related to the 9.5 percent Convertible Subordinated Notes and includes associated interest expense of $8 million (net of income taxes of $5 million) due to the antidilutive effect upon loss from continuing operations. In addition, the diluted share base for the year ended December 31, 2000, excludes two million incremental shares related to employee stock options and shares held by grantor trusts to secure deferred compensation obligations due to the antidilutive effect upon loss from continuing operations.

(4)

Prior year amounts have been restated to reflect the reclassification of USGenNE, Mountain View, and ET Canada operating results to discontinued operations.

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EXHIBIT 11

EX-12.1

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Exhibit 12.1

PACIFIC GAS AND ELECTRIC COMPANY
A DEBTOR-IN-POSSESSION
COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES

	Year ended December 31,
	2002		2001		2000			1999		1998
	(dollars in millions)
Earnings:
Net income (loss)	$	1,819	$	1,015	$	(3,483	)	$	788	$	729
Adjustments for minority interest in losses of less than 100% owned affiliates and the Company's equity in undistributed income (losses) of less than 50% owned affiliates		—		—		—			—		—
Income tax expense (benefit)		1,178		596		(2,154	)		648		629
Net fixed charges		1,029		1,019		648			637		673
Total earnings	$	4,026	$	2,630	$	(4,989	)	$	2,073	$	2,031
Fixed charges:
Interest on short-term borrowings and long-term debt, net	$	996	$	981	$	616		$	604	$	635
Interest on capital leases		2		2		2			3		2
AFUDC debt		21		12		6			7		12
Earnings required to cover the preferred stock dividend and preferred security distribution requirements of majority owned trust		10		24		24			24		24
Total fixed charges	$	1,029	$	1,019	$	648		$	638	$	673
Ratios of Earnings to Fixed Charges		3.91		2.58		(7.70	)(1)		3.25		3.02

Note:

For the purpose of computing Pacific Gas and Electric Company's ratios of earnings to fixed charges, "earnings" represent net income adjusted for the minority interest in losses of less than 100% owned affiliates, cash distributions from and equity in undistributed income or loss of Pacific Gas and Electric Company's less than 50% owned affiliates, income taxes and fixed charges (excluding capitalized interest). "Fixed charges" include interest on long-term debt and short-term borrowings (including a representative portion of rental expense), amortization of bond premium, discount and expense, interest of subordinated debentures held by trust, interest on capital leases, and earnings required to cover the preferred stock dividend requirements.

(1)

The ratio of earnings to fixed charges indicates a deficiency of less than one-to-one coverage aggregating $5,637 million.

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Exhibit 12.1

EX-12.2

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Exhibit 12.2

PACIFIC GAS AND ELECTRIC COMPANY
A DEBTOR-IN-POSSESSION
COMPUTATION OF RATIOS OF EARNINGS TO COMBINED FIXED CHARGES AND
PREFERRED STOCK DIVIDENDS

	Year ended December 31,
	2002		2001		2000			1999		1998
	(dollars in millions)
Earnings:
Net income (loss)	$	1,819	$	1,015	$	(3,483	)	$	788	$	729
Adjustments for minority interest in losses of less than 100% owned affiliates and the Company's equity in undistributed income (losses) of less than 50% owned affiliates		—		—		—			—		—
Income tax expense (benefit)		1,178		596		(2,154	)		648		629
Net fixed charges		1,029		1,019		648			637		673
Total earnings	$	4,026	$	2,630	$	(4,989	)	$	2,073	$	2,031
Fixed charges:
Interest on short-term borrowings and long-term debt, net	$	996	$	981	$	616		$	604	$	635
Interest on capital leases		2		2		2			3		2
AFUDC debt		21		12		6			7		12
Earnings required to cover the preferred stock dividend and preferred security distribution requirements of majority owned trust		10		24		24			24		24
Total fixed charges		1,029		1,019		648			638		673
Preferred Stock Dividends:
Tax deductible dividends		9		9		9			9		9
Pretax earnings required to cover non-tax deductible preferred stock dividend requirements		28		27		27			27		31
Total preferred stock dividends		37		36		36			36		40
Total combined Fixed Charges and Preferred Stock Dividends	$	1,066	$	1,055	$	684		$	674	$	713
Ratio of Earnings to Combined Fixed and Preferred Stock Dividends		3.78		2.49		(7.29	)(1)		3.08		2.85

Note:

For the purpose of computing Pacific Gas and Electric Company's ratios of earnings to combined fixed charges and preferred stock dividends, "earnings" represent net income adjusted for the minority interest in losses of less than 100% owned affiliates, cash distributions from and equity in undistributed income or loss of Pacific Gas and Electric Company's less than 50% owned affiliates, income taxes and fixed charges (excluding capitalized interest). "Fixed charges" include interest on long-term debt and short-term borrowings (including a representative portion of rental expense), amortization of bond premium, discount and expense, interest on capital leases, interest of subordinated debentures held by trust, and earnings required to cover the preferred stock dividend requirements of majority owned subsidiaries. "Preferred stock dividends" represent pretax earnings which would be required to cover such dividend requirements.

(1)

The ratio of earnings to combined fixed charges and preferred stock dividends indicates a deficiency of less than one-to-one coverage aggregating $5,673 million.

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Exhibit 12.2

EX-13

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EXHIBIT 13

SELECTED FINANCIAL DATA

(in millions, except per share amounts)	2002			2001		2000			1999			1998
PG&E Corporation (1)
For the Year
Operating revenues	$	12,495		$	12,210	$	12,568		$	10,956		$	11,532
Operating income (loss)		1,132			2,591		(4,929	)		829			2,097
Income (Loss) from continuing operations		(57	)		983		(3,423	)		(49	)		762
Earnings (Loss) per common share from continuing operations, basic		(0.15	)		2.71		(9.45	)		(0.13	)		1.99
Earnings (Loss) per common share from continuing operations, diluted		(0.15	)		2.70		(9.45	)		(0.13	)		1.99
Dividends declared per common share		–			–		1.20			1.20			1.20
At Year-End
Book value per common share	$	9.47		$	11.91	$	8.76		$	19.13		$	21.08
Common stock price per share		13.90			19.24		20.00			20.50			31.50
Total assets		33,696			35,963		36,152			29,588			33,234
Long-term debt (excluding current portion)		4,345			7,222		5,475			6,785			7,422
PG&E NEG debt in default		4,230			–		–			–			–
Rate reduction bonds (excluding current portion)		1,160			1,450		1,740			2,031			2,321
Financial debt subject to compromise		5,605			5,651		–			–			–
Redeemable preferred stock and securities of subsidiaries (excluding current portion)		335			635		635			635			635
Pacific Gas And Electric Company (1)
For the Year
Operating revenues	$	10,514		$	10,462	$	9,637		$	9,228		$	8,924
Operating income (loss)		3,913			2,478		(5,201	)		1,993			1,876
Income (Loss) available for (allocated to) common stock		1,794			990		(3,508	)		763			702
At Year-End
Total assets	$	24,551		$	25,269	$	21,988		$	21,470		$	22,950
Long-term debt (excluding current portion)		2,739			3,019		3,342			4,877			5,444
Rate reduction bonds (excluding current portion)		1,160			1,450		1,740			2,031			2,321
Financial debt subject to compromise		5,605			5,651		–			–			–
Redeemable preferred stock and securities (excluding current portion)		286			586		586			586			586

⁽¹⁾

See Management's Discussion and Analysis of Financial Condition and Results of Operations and Notes to the Consolidated Financial Statements for discussion of matters relating to certain data.

3

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

PG&E Corporation is an energy-based holding company headquartered in San Francisco, California that conducts its business through two principal subsidiaries: Pacific Gas and Electric Company (the Utility), an operating public utility engaged primarily in the business of providing electricity, natural gas distribution, and transmission services throughout most of Northern and Central California, and PG&E National Energy Group, Inc. (PG&E NEG), a company engaged in power generation, wholesale energy marketing and trading, risk management, and natural gas transmission.

The Utility filed a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code (Bankruptcy Code) in the Bankruptcy Court for the Northern District of California (Bankruptcy Court) on April 6, 2001. Pursuant to Chapter 11, the Utility retains control of its assets and is authorized to operate its business as a debtor-in-possession while being subject to the jurisdiction of the Bankruptcy Court. The factors causing the Utility to take this action are discussed in this Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) and in Note 2 of the Notes to the Consolidated Financial Statements.

PG&E NEG and its subsidiaries are principally located in the United States and Canada and include:

•

PG&E Generating Company, LLC and its subsidiaries (collectively, PG&E Gen LLC);



•

PG&E Energy Trading Holdings Corporation and its subsidiaries (collectively, PG&E Energy Trading or PG&E ET);



•

PG&E Gas Transmission Corporation and its subsidiaries (collectively, PG&E GTC), which includes PG&E Gas Transmission, Northwest Corporation and its subsidiaries, including North Baja Pipeline, LLC (NBP) (collectively, PG&E GTN).

PG&E NEG also has other less significant subsidiaries.

PG&E National Energy Group, LLC owns 100 percent of the stock of PG&E NEG, GTN Holdings, LLC owns 100 percent of the stock of PG&E GTN, and PG&E Energy Trading Holdings, LLC owns 100 percent of the stock of PG&E ET. The organizational documents of PG&E NEG and these limited liability companies require unanimous approval of their respective boards of directors, including at least one independent director, before they can:

•

Consolidate or merge with any entity;



•

Transfer substantially all of their assets to any entity; or



•

Institute or consent to bankruptcy, insolvency or similar proceedings or actions.

The limited liability companies may not declare or pay dividends unless the respective boards of directors have unanimously approved such action, and the company meets specified financial requirements.

As a result of the sustained downturn in the power industry, PG&E NEG and its affiliates have experienced a financial downturn, which caused the major credit rating agencies to downgrade PG&E NEG's and its affiliates' credit ratings to below investment grade. PG&E NEG is currently in default under various recourse debt agreements and guaranteed equity commitments totaling approximately $2.9 billion. In addition, other PG&E NEG subsidiaries are in default under various debt agreements totaling approximately $2.5 billion, but this debt is non-recourse to PG&E NEG. PG&E NEG and these subsidiaries continue to negotiate with their lenders regarding a restructuring of this indebtedness and these commitments. The factors affecting PG&E NEG's business causing these defaults and the principal actions being taken by PG&E NEG are discussed later in this

4

MD&A and in Note 3 of the Notes to the Consolidated Financial Statements.

During the fourth quarter of 2002, PG&E NEG and certain subsidiaries have agreed to sell or have sold certain assets, have abandoned other assets, and have significantly reduced energy trading operations. As a result of these actions, PG&E NEG has incurred pre-tax charges to earnings of approximately $3.9 billion in 2002. PG&E NEG and its subsidiaries are continuing their efforts to abandon, sell, or transfer additional assets in an ongoing effort to raise cash and reduce debt, whether through negotiation with lenders or otherwise. As a result, PG&E NEG expects to incur additional substantial charges to earnings in 2003 as it restructures its operations. In addition, if a restructuring agreement is not reached and the lenders exercise their default remedies, or if the financial commitments are not restructured, PG&E NEG and certain of its subsidiaries may be compelled to seek protection under or be forced into a proceeding under the Bankruptcy Code. Management does not expect that the liquidity constraints of PG&E NEG and its subsidiaries will affect the financial condition of PG&E Corporation or the Utility.

PG&E Corporation has identified three reportable operating segments:

•

Utility;



•

Integrated Energy and Marketing, or the Generation Business; and



•

Interstate Pipeline Operations, or the Pipeline Business.

These segments were determined based on similarities in the following characteristics:

•

Economic;



•

Products and services;



•

Types of customers;



•

Methods of distribution;



•

Regulatory environment; and



•

How information is reported to and used by PG&E Corporation's chief operating decision makers.

These three reportable operating segments provide different products and services and are subject to different forms of regulation or jurisdictions. Financial information about each reportable operating segment is provided in this MD&A and in Note 17 of the Notes to the Consolidated Financial Statements.

This discussion and analysis explains the general financial condition and the results of operations of PG&E Corporation and its subsidiaries including:

•

Factors that affect each business;



•

A comparison of revenues and expenses and why they changed between years;



•

Where earnings came from;



•

How all of this affects overall financial condition;



•

What expenditures for capital projects were for 2000 through 2002, and are expected to be through 2004; and



•

The expected sources of cash for future capital expenditures.

This is a combined annual report of PG&E Corporation and the Utility and includes separate Consolidated Financial Statements for each of these two entities. The Consolidated Financial Statements of PG&E Corporation reflect the accounts of PG&E Corporation, the Utility, PG&E NEG, and other wholly owned and controlled subsidiaries. The Consolidated Financial Statements of the Utility reflect the accounts of the Utility and its wholly owned and controlled subsidiaries. This combined MD&A should be read in conjunction with the Consolidated Financial Statements.

Forward-looking statements and risk factors

This combined annual report, including the Letter to Shareholders and this MD&A, contains forward-looking statements that are necessarily

5

subject to various risks and uncertainties. These statements are based on current expectations and on assumptions which management believes are reasonable and on information currently available to management. These forward-looking statements are identified by words such as "estimates," "expects," "anticipates," "plans," "believes," "could," "should," "would," "may," and other similar expressions. Actual results could differ materially from those contemplated by the forward-looking statements.

Although PG&E Corporation and the Utility are not able to predict all the factors that may affect future results, some of the factors that could cause future results to differ materially from those expressed or implied by the forward-looking statements, or from historical results, include:

Recovery of Under-collected Power Procurement and Transition Costs Previously Written Off.    The extent to which the Utility is able to recover its under-collected power procurement and transition costs previously written off depends on many factors, including:

•

What costs the California Public Utilities Commission (CPUC) determines are eligible for recovery as transition costs;



•

When the Utility's rate freeze ended, as determined by the CPUC;



•

Sales volatility and the level of direct access customers (i.e., those customers who choose an alternative energy provider);



•

Changes in the California Department of Water Resources' (DWR), revenue requirements required to be remitted to the DWR from existing retail rates;



•

Changes in the Utility's authorized revenue requirements;



•

Future regulatory or judicial decisions that determine whether the Utility is allowed under state law to recover under-collected power procurement and transition costs from its customers after the end of the rate freeze; and



•

The outcome of the Utility's claims against the CPUC Commissioners for recovery of under-collected power procurement and transition costs based on the federal filed rate doctrine.

Refundability of Amounts Previously Collected.    Whether the Utility is required to refund to ratepayers amounts previously collected depends on many factors including:

•

Whether the CPUC determines that certain transition or procurement costs recovered in revenues collected by the Utility were not eligible transition costs or otherwise reduces the amount of revenues authorized to recover such transition or procurement costs;



•

Whether the CPUC ultimately determines that certain past power procurement costs incurred by the Utility were not reasonably incurred and should be disallowed; and



•

The purposes for which the CPUC ultimately determines that surcharges approved by the CPUC in January, March, and May 2001 may be used.

Outcome of the Utility's Bankruptcy Case.    The pace and outcome of the Utility's bankruptcy case will be affected by:

•

Whether the Bankruptcy Court confirms the Utility's proposed plan of reorganization (Utility's Plan), the alternative plan sponsored by the CPUC and the Official Committee of Unsecured Creditors (the CPUC/OCC Plan), or some other plan of reorganization;



•

Whether regulatory and governmental approvals required to implement a confirmed plan are obtained and the timing of such approvals;



•

Whether there are any delays in implementation of a plan due to litigation related to regulatory, governmental, or Bankruptcy Court orders; and



•

Future equity or debt market conditions, future interest rates, future credit ratings,

6

and other factors that may affect the ability to implement either plan or affect the amount and value of the securities proposed to be issued under either plan.

Operating Environment.    The amount of operating income and cash flows the Utility may record may be influenced by the following:

•

Future regulatory actions regarding the Utility's procurement of power for its retail customers;



•

The terms and conditions of the Utility's long-term generation procurement plan as approved by the CPUC;



•

The ability of the Utility to timely recover in full its costs including its procurement costs;



•

Future sales levels, which can be affected by general economic and financial market conditions, changes in interest rates, weather, conservation efforts, outages, and the level of direct access customers;



•

The demand for and pricing of natural gas transportation and storage services, which may be affected by weather, overall gas fired generation, and price spreads between various natural gas delivery points;



•

Changes in the Utility's authorized revenue requirements; and



•

Acts of terrorism, storms, earthquakes, accidents, mechanical breakdowns, or other events or perils that result in power outages or damages to the Utility's assets or operations, to the extent not covered by insurance.

Legislative and Regulatory Environment.    PG&E Corporation's and the Utility's business may be impacted:

•

By legislative or regulatory changes affecting the electric and natural gas industries in the United States; and



•

By heightened regulatory and enforcement agency focus on the merchant energy business including investigations into "wash" or "round-trip" trading, specific trading strategies and other industry issues, with the potential for changes in industry regulations and in the treatment of PG&E NEG by state and federal agencies.

Regulatory Proceedings and Investigations.    PG&E Corporation's and the Utility's business may be affected by:

•

The outcome of the Utility's various regulatory proceedings pending at the CPUC and at the Federal Energy Regulatory Commission (FERC); and



•

The outcome of the CPUC's pending investigation into whether the California investor-owned utilities (IOUs), have complied with past CPUC decisions, rules or orders authorizing their holding company formations and/or governing affiliate transactions, as well as applicable statutes.

Pending Legal Proceedings.    PG&E Corporation's and the Utility's future results of operation and financial conditions may be affected by the outcomes of:

•

The lawsuits filed by the California Attorney General and the City and County of San Francisco against PG&E Corporation alleging unfair or fraudulent business acts or practices based on alleged violations of conditions established in the CPUC's holding company decisions;



•

The outcome of the California Attorney General's petition requesting revocation of PG&E Corporation's exemption from the Public Utility Holding Company Act of 1935; and



•

Other pending litigation.

Competition.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

•

The threat of municipalization which may result in stranded Utility investment, loss

7

of customer growth, and additional barriers to cost recovery;

•

Changes in the level of direct access customer cost responsibility and other surcharges related to direct access, and competition from other service providers to the extent restrictions on direct access are removed;



•

The development of alternative energy technologies;



•

The ability to compete for gas transmission services into Southern California and with alternative storage providers throughout California; and



•

The growth of distributed generation or self-generation.

Environmental and Nuclear Matters.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

•

The effect of compliance with existing and future environmental laws, regulations, and policies, the cost of which could be significant;



•

Whether the Utility is able to fully recover in rates the costs of complying with existing and future environmental laws, regulations, and policies, the cost of which could be significant; and



•

Whether the Utility incurs costs in connection with its nuclear facilities that exceed the Utility's insurance coverage and other amounts set aside for decommissioning and other potential liabilities.

Accounting and Risk Management.    PG&E Corporation's and the Utility's future results of operations and financial condition may be affected by:

•

The effect of new accounting pronouncements;



•

Changes in critical accounting estimates;



•

Volatility in income resulting from mark-to-market accounting and changes in mark-to-market methodologies;



•

The extent to which the assumptions underlying critical accounting estimates, mark-to-market accounting, and risk management programs are not realized; and



•

The volatility of commodity fuel and electricity prices, and the effectiveness of risk management policies and procedures designed to address volatility.

Efforts to Restructure PG&E NEG's Indebtedness.    Whether PG&E NEG and certain of its subsidiaries seek protection under or are forced into a proceeding under the Bankruptcy Code will be affected by:

•

The outcome of PG&E NEG's negotiations with lenders under various credit facilities, as well as with representatives of the holders of PG&E NEG's Senior Notes, to restructure PG&E NEG's and its subsidiaries' indebtedness and commitments;



•

The terms and conditions of any sale, transfer, or abandonment of certain of PG&E NEG's merchant assets, including its New England generating assets, that PG&E NEG may enter into; and



•

The terms and conditions under which certain generating projects will be transferred to the project lenders as required by recent restructuring agreements.

PG&E NEG Operational Risks.    PG&E Corporation's future results of operation and financial condition will be affected by:

•

The extent to which PG&E NEG incurs further charges to earnings as a result of the abandonment, sale or transfer of assets, or termination of contractual commitments, whether such transactions occur in connection with restructuring of PG&E NEG's indebtedness or otherwise;

8

•

Any potential charges to income that would result from the reduction and potential discontinuance of PG&E NEG's energy trading and marketing operations, including tolling transactions;



•

Any potential charges to income that would result from the discontinuance or transfer of any of PG&E NEG's merchant generation assets;



•

The inability of PG&E NEG, its merchant asset and other subsidiaries, including US Gen New England, Inc., to maintain sufficient liquidity necessary to meet their commodity and other obligations.



•

The extent to which PG&E NEG's current construction of generation, pipeline, and storage facilities are completed and the pace and cost of that completion, including the extent to which commercial operations of these construction projects are delayed or prevented because of financial or liquidity constraints, changes in the national energy markets and by the extent and timing of generating, pipeline, and storage capacity expansion and retirements by others; or by various development and construction risks such as PG&E NEG's failure to obtain necessary permits or equipment, the failure of third-party contractors to perform their contractual obligations, or the failure of necessary equipment to perform as anticipated and the potential loss of permits or other rights in connection with PG&E NEG's decision to delay or defer construction;



•

The impact of layoffs and loss of personnel at PG&E NEG; and



•

Future sales levels which can be affected by economic conditions, weather, conservation efforts, outages, and other factors.

Current Conditions in the Energy Markets and the Economy.    PG&E Corporation's future results of operations and financial condition will be affected by changes in the energy markets, changes in the general economy, wars, embargoes, financial markets, interest rates, other industry participant failures, the markets' perception of energy merchants and other factors.

Actions of PG&E NEG Counterparties.    PG&E Corporation's future results of operations and financial condition may be affected by:

•

The extent to which counterparties demand additional collateral in connection with PG&E ET's trading and nontrading activities and the ability of PG&E NEG and its subsidiaries to meet the liquidity calls that may be made; and



•

The extent to which counterparties seek to terminate tolling agreements and the amount of any termination damages they may seek to recover from PG&E NEG as guarantor.

As the ultimate impact of these and other factors is uncertain, these and other factors may cause future earnings to differ materially from historical results or outcomes currently sought or expected.

This MD&A should be read in conjunction with the Consolidated Financial Statements and Notes to the Consolidated Financial Statements included herein.

Market Conditions and Business Environment

During 2002, adverse changes in the electric power and gas utility industry and energy markets affected PG&E Corporation, the Utility, and PG&E NEG's business including:

•

Contractions and instability of wholesale electricity and energy commodity markets;



•

Significant decline in generation margins (spark spreads) caused by excess supply and reduced demand in most regions of the United States;



•

Loss of confidence in energy companies due to increased scrutiny by regulators, elected officials, and investors as a result of a string of financial reporting scandals;

9

•

Heightened scrutiny by credit rating agencies prompted by these market changes and scandals which resulted in lower credit ratings for many market participants; and



•

Resulting significant financial distress and liquidity problems among market participants leading to numerous financial restructurings and less market participation.

LIQUIDITY AND FINANCIAL RESOURCES

Utility

In 1998, the State of California implemented electric industry restructuring and established a framework allowing generators and other electricity providers to charge market-based prices for electricity sold on the wholesale market. The implementing legislation also established a retail electricity rate freeze and a plan for recovery of generation-related costs that were expected to be uneconomic under the new market framework. State regulatory action further strongly encouraged the Utility to sell a majority of its fossil fuel-fired generation facilities and made it economically unattractive to retain its remaining generation facilities. The resulting sales of generation facilities in turn made the Utility more dependent on the newly deregulated wholesale electricity market. Beginning in June 2000, wholesale prices for electricity began to increase. Prices moderated somewhat in the fall before increasing to unprecedented levels in November 2000 and later months. Since the Utility's retail rates were frozen, it financed the higher costs of wholesale electricity by issuing debt and drawing on its credit facilities. The Utility's inability to recover its electric procurement costs from customers ultimately resulted in billions of dollars in defaulted debt and unpaid bills and caused the Utility to file a voluntary petition for relief under the Bankruptcy Code in the Bankruptcy Court on April 6, 2001.

While in bankruptcy, the Utility is not allowed to pay liabilities incurred before it filed for bankruptcy without permission from the Bankruptcy Court. Additionally,

•

While in bankruptcy, the Utility does not have access to external funding from capital markets;



•

The Utility is in default under its credit facilities, commercial paper, floating rate notes, senior notes, pollution control loan agreements, and medium-term notes, as a result of its failure to pay certain of its obligations. However, the event of default under each security has been stayed in accordance with the bankruptcy proceedings; and



•

The Utility has been making capital investments (investments in property, plant, and equipment) out of its cash on hand under the supervision of the Bankruptcy Court. The Utility anticipates that it will be able to continue making such necessary capital investments in the future, subject to Bankruptcy Court approval.

As a result of the California energy crisis and the Utility's bankruptcy filing, a number of qualifying facilities (QFs) requested the Bankruptcy Court to either terminate their contracts to sell electricity to the Utility, or have the contracts suspended for the summer of 2001 so the QFs could sell electricity at market-based rates. Since July 2001, the Utility has entered into 264 five-year agreements with QFs (authorized by the Bankruptcy Court) to assume their power purchase agreements. See Note 16 of the Notes to the Consolidated Financial Statements for a discussion of the QF power purchase agreements.

In March 2002, the Bankruptcy Court authorized the Utility to pay certain pre- and post-petition interest on certain claims prior to emerging from bankruptcy. The Bankruptcy Court also authorized the Utility to make certain principal payments on pre-petition secured debt that has matured. See the Cash Flows section of this MD&A for a discussion of the Utility's interest and principal payments made during 2002.

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Since filing for bankruptcy, the Utility has been accruing interest on its pre-petition liabilities at the required rates included in the Utility's proposed plan of reorganization. As a result, the payment of such interest did not have a material adverse impact on its financial condition or results of operations.

The Utility will continue to accrue interest on its pre-petition liabilities at the required rates in 2003. However, due to the uncertainty of the ultimate outcome of the bankruptcy proceedings, the Utility is not able to estimate the amount of interest that will be paid in 2003.

The Utility and PG&E Corporation have jointly filed a proposed plan of reorganization (Plan) that, if approved, would enable the Utility to emerge from bankruptcy. The Utility Plan, and an alternative plan proposed by the CPUC and the OCC are currently moving through the Chapter 11 process. In November 2002, the Bankruptcy Court began the confirmation trial to determine which plan, if any, the Bankruptcy Court will confirm. The Bankruptcy Court has scheduled hearing dates through the end of March 2003. PG&E Corporation and the Utility are not able to predict the ultimate outcome of the Utility's bankruptcy proceedings, including which plan, if any, the Bankruptcy Court may confirm.

Both the Plan and the alternative plan propose issuing new debt as part of the reorganization. PG&E Corporation and the Utility have incurred, and will continue to incur throughout the reorganization process, legal, accounting, trustee, and other fees associated with the debt issuance. In addition, PG&E Corporation and the Utility have incurred and will continue to incur consulting fees for assistance with the implementation of either plan. The majority of the debt issuance fees and consulting expenses incurred thus far have been expensed and are included in Reorganization Professional Fees and Expenses in the Consolidated Statements of Operations, though a small amount has been capitalized. The Utility will continue to expense costs associated with the reorganization process that do not specifically relate to certain services associated with issuing new debt.

On January 1, 2003, the IOUs, including the Utility, resumed procuring electricity to meet their customers' net open position under California Senate Bill (SB) 1976. For discussion of the requirements contained in SB 1976, see "Regulatory Matters" section of the MD&A and Note 2 of the Notes to the Consolidated Financial Statements.

See Note 2 of the Notes to the Consolidated Financial Statements for further discussion of the California energy crisis, the Utility's voluntary petition for relief under the Bankruptcy Code, and the status of the Chapter 11 confirmation hearings.

PG&E NEG

PG&E NEG has been significantly impacted by adverse changes in the energy markets in 2002. New generation came online while the demand for power was dropping. This oversupply and reduced demand resulted in low spark spreads (the net of power prices less fuel costs) and depressed operating margins. These changes in the power industry have had a significant negative impact on the financial results and liquidity of PG&E NEG. Before July 31, 2002, most of the various debt instruments of PG&E NEG and its affiliates carried investment grade credit ratings assigned by Standard & Poor's Ratings Group (S&P) and Moody's Investors Service (Moody's). Since July 31, 2002, these credit rating agencies have downgraded all of PG&E NEG's debt facilities to below investment grade.

PG&E NEG is currently in default under various recourse debt agreements and guaranteed equity commitments totaling approximately $2.9 billion. In addition, other PG&E NEG subsidiaries are in default under various debt agreements totaling approximately $2.5 billion, but this debt is non-recourse to PG&E NEG. On November 14, 2002, PG&E NEG defaulted on the repayment of its $431 million 364-day tranche of its corporate revolving credit facility (Corporate Revolver). This resulted in a default under the two-year tranche of the Corporate Revolver, which had an outstanding balance of $273 million at December 31, 2002, the majority of which supports outstanding letters of credit. The default under the Corporate Revolver also constitutes a

11

cross-default under PG&E NEG's (amounts outstanding at December 31, 2002): (1) Senior Notes ($1 billion), (2) guarantee of its turbine revolving credit facility (Turbine Revolver) ($205 million), and (3) equity commitment guarantees for GenHoldings I, LLC's (Gen Holdings) credit facility ($355 million), La Paloma credit facility ($375 million) and Lake Road credit facility ($230 million). In addition, on November 15, 2002, PG&E NEG failed to pay a $52 million interest payment due under the Senior Notes. PG&E NEG does not currently have sufficient cash to meet its financial obligations and has ceased making payments on its debt and equity commitments.

PG&E NEG, and its subsidiaries are restructuring their operations to increase cash, reduce financial obligations, dispose of merchant plant facilities, and decrease energy trading operations. PG&E NEG's objective is to limit its asset trading and risk management activities to only what is necessary for energy management services to facilitate the transition of PG&E NEG's merchant generation facilities through their sale, transfer or abandonment. PG&E NEG will then further reduce and transition to only retain limited capabilities to ensure fuel procurement and power logistics for PG&E NEG's retained independent power plant operations. These restructuring activities have caused material charges to earnings in 2002, and are anticipated to cause substantial additional charges to earnings in 2003.

PG&E NEG, its subsidiaries and their lenders are engaged in discussions regarding restructuring of these commitments. If a restructuring agreement is not reached and the lenders exercise their default remedies, or if the financial commitments are not restructured, PG&E NEG and certain of its subsidiaries may be compelled to seek protection under or be forced involuntarily into proceedings under the Bankruptcy Code.

PG&E Corporation is participating with PG&E NEG, its subsidiaries and their lenders in negotiations to restructure PG&E NEG's and its subsidiaries' commitments. However, under the terms of its credit agreement, PG&E Corporation is limited as to the amount and conditions under which it can provide cash to PG&E NEG. In particular, the Credit Agreement limits PG&E Corporation's ability to make investments in PG&E NEG and its subsidiaries from existing cash to 75 percent of the net cash tax savings (less certain costs and expenses) actually received by PG&E Corporation as a result of certain sales and debt restructuring transactions of PG&E NEG and its subsidiaries. See further details in "PG&E Corporation-Debt Financing" below.

If the negotiations with PG&E NEG's lenders prove unsuccessful and if lenders exercise their default remedies and PG&E NEG is forced to seek protection under or is forced into a proceeding under the Bankruptcy Code, management does not expect the liquidity constraints at PG&E NEG and its subsidiaries will affect the financial condition of PG&E Corporation or the Utility.

Asset transfers, sales and abandonments, liquidity issues, and restructuring activities have resulted in substantial charges to earnings in 2002. In addition, PG&E NEG and its subsidiaries expect to incur additional substantial charges to earnings in 2003 primarily related to:

•

The reduction in energy trading activities;


•

The possible settlement of tolling arrangements, see discussion of tolling agreements in this MD&A under Commitments and Capital Expenditures–Tolling Agreements;


•

Charges related to the adoption of Statement of Financial Accounting Standards (SFAS) No. 143, "Accounting for Asset Retirement Obligations" (see discussion in this MD&A under Accounting Pronouncements issued but not yet adopted);


•

A possible settlement under the Attala tolling agreement and related lease (see discussion below in Impairments, Write-offs, and Other Charges);


•

Potential conversion of existing debt and equity funding commitments to new discounted obligations, including potential write-offs of deferred financing costs; and


•

Further restructuring costs.

12

Impairments, Write-offs, and Other Charges

The following table outlines the pre-tax charges for impairments, write-offs, and other charges that PG&E NEG and its subsidiaries recorded:

(in millions)	Fourth Quarter 2002		Year Ended December 31, 2002
Impairment of GenHoldings projects	$	1,147	$	1,147
Impairment of Lake Road and La Paloma projects		452		452
Impairment of Mantua Creek project		279		279
Impairment of Turbines & Other Related Equipment costs		30		276
Termination of Interest Rate Swaps on Lake Road, La Paloma, and GenHoldings projects		189		189
Impairment of Dispersed Generation		88		118
Impairment of Goodwill		–		95
Impairment of Project Development Costs		57		76
Impairment of Southaven Loan		74		74
Impairment of Prepaid Rents related to the Attala lease		43		43
Impairment of Kentucky Hydro project		18		18
Total Pre-tax Impairments, Write-offs, and Other Charges	$	2,377	$	2,767
Discontinued Operations – Pre-tax Loss on disposal of USGen New England, Inc.		1,123		1,123
Pre-tax loss on disposal of ET Canada		25		25
Total Pre-tax Charges	$	3,525	$	3,915

Impairment of GenHoldings I LLC Projects: GenHoldings, a subsidiary of PG&E NEG, is obligated under its credit facility to make equity contributions to fund construction of the Athens, Covert and Harquahala generating projects. This credit facility is secured by these projects in addition to the Millennium generating facility. GenHoldings defaulted under its credit agreement in October 2002 by failing to make equity contributions to fund construction draws for the Athens, Covert and Harquahala generating projects. Although PG&E NEG has guaranteed GenHoldings' obligation to make equity contributions of up to $355 million, PG&E NEG notified the GenHoldings' lenders that it would not make further equity contributions on behalf of GenHoldings. In November and December 2002, the lenders executed waivers and amendments to the credit agreement under which they agreed to continue to waive until March 31, 2003, the default caused by GenHoldings' failure to make equity contributions. In addition, certain of these lenders have agreed to increase their loan commitments to an amount sufficient to provide: (1) the funds necessary to complete construction of the Athens, Covert and Harquahala facilities; and (2) additional working capital facilities to enable each project, including Millennium, to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission operator requirements. The November and December increased loan commitments rank equally with each other but are senior to amounts loaned through and including the October credit extension.

In consideration of the lenders' forbearance and additional funding, PG&E NEG and GenHoldings have agreed to cooperate with any reasonable proposal by the lenders regarding disposition of the equity in or assets of any or all of the GenHoldings subsidiaries holding the Athens, Covert, Harquahala, and Millennium projects in connection with the restructuring of PG&E NEG's and it subsidiaries' financial commitments to such lenders. The amended credit agreement provides that an event of default will occur if the Athens, Covert, Harquahala, and Millennium projects are not transferred to the lenders or their designees on or before March 31, 2003. Such a default would trigger lender remedies, including the right to foreclose on the projects. Under the waiver, PG&E NEG has re-affirmed its guarantee of GenHoldings' obligation to make equity contributions of approximately $355 million to these projects. Neither PG&E NEG nor GenHoldings currently expects to have sufficient funds to make this payment. The requirement to pay $355 million remains an obligation of PG&E

13

NEG that would survive the transfer of the projects.

In accordance with the provisions of SFAS No. 144 "Accounting For the Impairment or Disposal of Long-Lived Assets," the long-lived assets of GenHoldings at December 31, 2002 were tested for impairment. As a result of the test, the assets were determined to be impaired and were written-down to fair value. Based on the current estimated fair value of these assets, GenHoldings recorded a pre-tax loss from impairment of $1.147 billion in the fourth quarter of 2002.

Impairment of Lake Road and La Paloma Projects:    On November 14, 2002, PG&E NEG defaulted under its equity commitment guarantees for the Lake Road and the La Paloma credit facilities. As of December 4, 2002, PG&E NEG and certain of its subsidiaries entered into agreements with respect to each of the Lake Road and La Paloma generating projects providing for (1) funding of construction costs required to complete the La Paloma facility; and (2) additional working capital facilities to enable each subsidiary to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission system operator requirements, as well as for general working capital purposes. Lenders extending new credit under these agreements have received liens on the projects that are senior to the existing lenders' liens. These agreements provide, among other things, that the failure to transfer right, title and interest in, to and under the Lake Road and La Paloma projects to the respective lenders by June 9, 2003, will constitute a default under the agreements. The failure to transfer the facilities would entitle the lenders to accelerate the new indebtedness and exercise other remedies.

The Lake Road and La Paloma projects have been financed entirely with debt. PG&E NEG has guaranteed the repayment of a portion of the project subsidiary debt of approximately $230 million for Lake Road and $375 million for La Paloma, which amounts represent the subsidiaries' equity contribution in the projects. The lenders have demanded the immediate payment of these equity contributions. Neither the PG&E NEG subsidiaries nor PG&E NEG have sufficient funds to make these payments. The requirement to make the payments will remain an obligation of PG&E NEG that would survive the transfer of the projects.

In accordance with the provisions of SFAS No. 144, the long-lived assets of the Lake Road and La Paloma project subsidiaries at December 31, 2002, were tested for impairment. As a result of the test, these assets were determined to be impaired and were written down to fair value. Based on the current estimated fair value of these assets, the Lake Road and La Paloma project subsidiaries recorded a pre-tax loss from impairment of approximately $186 million and $266 million, respectively, in the fourth quarter of 2002.

Impairment of Mantua Creek Project:    The Mantua Creek project is a nominal 897 megawatt (MW) combined cycle merchant power plant located in the Township of West Deptford, New Jersey. Construction began in October 2001 and the project was 24 percent complete as of October 31, 2002. Due to liquidity concerns, PG&E NEG could no longer provide equity contributions to the project and efforts to sell the project were unsuccessful. Beginning in the fourth quarter of 2002, contracts with vendors were suspended or terminated to eliminate an increase in project costs. In December 2002, the project provided notices of termination to the Pennsylvania, New Jersey, Maryland Independent System Operator (PJM), and other significant counterparties. With all significant contracts terminated, PG&E NEG's subsidiary will abandon this project in early 2003. PG&E NEG's subsidiary has written off the capitalized development and construction costs of $257 million at December 31, 2002. In addition, PG&E NEG has recorded an accrual of $22 million for charges and associated termination costs at December 31, 2002.

Impairment of Turbines and Other Related Equipment:    To support PG&E NEG's electric generating development program, PG&E NEG subsidiaries had contractual commitments and options to purchase a significant number of combustion turbines and related equipment. PG&E NEG subsidiaries' commitment to purchase

14

combustion turbines and related equipment exceeded the new planned development activities discussed herein. In the second quarter of 2002, these PG&E NEG subsidiaries recognized a pre-tax charge of $246 million. The charge consisted of the impairment of the previously capitalized costs associated with prior payments made under the terms of the turbine and equipment contracts in the amount of $188 million and an accrual of $58 million for future termination payments required under the turbine and related equipment contracts. In addition, at that time, the PG&E NEG subsidiaries retained capitalized prepayment costs associated with three development projects that were to be further developed or sold. In the fourth quarter of 2002, these PG&E NEG subsidiaries incurred an additional pre-tax charge of $30 million for the write-off of prior turbine prepayments associated with the impairment of the remaining development projects as discussed below.

In November 2002, subsidiaries of PG&E NEG reached agreement with General Electric Company (GEC) to terminate its master turbine purchase agreement and with General Electric International, Inc. (GEII) to terminate its master long-term service agreement. GEC and GEII have agreed to reduce the termination fees from approximately $34 million to approximately $22 million and to defer payment of the reduced fees to December 31, 2004. The costs to terminate this contract were accrued for in the second quarter of 2002 as discussed above.

Also in November 2002, Mitsubishi Power Systems, Inc. (MPS) notified PG&E NEG's subsidiary that it was terminating the turbine purchase agreement for failure to pay past due amounts and failure to collateralize PG&E NEG's guarantee. While PG&E NEG's subsidiary has disputed that such amounts were due before January and July 2003 and has asserted that a breach under PG&E NEG's guarantee did not give rise to a breach of the turbine purchase agreement, neither PG&E NEG nor its subsidiary intends to contest the termination. The costs to terminate this contract were accrued for in the second quarter of 2002, as discussed above. On January 31, 2003, a termination payment of $4.5 million was made with the remaining amount of $9.5 million expected to be paid in July 2003.

Termination of Interest Rate Swaps on Lake Road, La Paloma and GenHoldings Projects:    As a result of the Lake Road and La Paloma project subsidiaries' failure to make required equity payments under interest rate hedge contracts entered into by them, the counterparties to such interest rate hedge contracts have terminated the contracts. Settlement amounts due from the Lake Road and La Paloma project subsidiaries in connection with such terminated contracts are, in the aggregate, $61 million and $78 million, respectively. Further, as a result of GenHoldings' failure to make required payments under interest rate hedge contracts entered into by GenHoldings, the counterparties to such interest rate hedge contracts terminated the contracts during December 2002. Settlement amounts due by GenHoldings in connection with such terminated contracts are, in the aggregate, approximately $50 million. The Lake Road and La Paloma project subsidiaries and GenHoldings incurred a pre-tax charge to earnings in the fourth quarter of 2002 for these amounts totaling $189 million.

Impairment of Dispersed Generation:    PG&E NEG is seeking a buyer for PG&E Dispersed Generation, LLC, Plains End, LLC, Dispersed Properties, LLC and 100 percent of the capital stock of Ramco Inc, (collectively, referred to as Dispersed Gen Companies or Dispersed Generation). In accordance with the provisions of SFAS No. 144, the long-lived assets of the Dispersed Gen Companies were tested for impairment. As a result of the test, these assets were determined to be impaired and were written down to fair value. Based on the current estimated fair value (based on the estimated proceeds) of a sale, Dispersed Generation recorded a pre-tax loss from impairment of $88 million in the fourth quarter of 2002. This is in addition to a pre-tax loss from impairment of $30 million that was recorded in the third quarter of 2002, which related to certain equipment (turbines, generators, transformers, etc.) that was purchased and/or refurbished and held for future expansion at current Dispersed Generation facilities.

15

Impairment of Goodwill:    SFAS No. 142 "Goodwill and Other Intangible Assets," requires that goodwill be reviewed at least annually for impairment. Due to significant adverse changes within the national energy markets, PG&E NEG and its subsidiaries elected to test its goodwill for possible impairment in the third quarter of 2002. Based upon the results of the fair value test, PG&E NEG and it subsidiaries recognized a goodwill impairment loss of $95 million in the third quarter of 2002. The fair value of the segment was estimated using the discounted cash flows method. At December 31, 2002, there was no goodwill remaining at PG&E NEG and its subsidiaries.

Impairment of Development Costs:    In the second quarter of 2002, PG&E NEG project subsidiaries recognized an impairment loss related to the capitalized costs associated with certain development projects. These PG&E NEG subsidiaries analyzed the potential future cash flow from those projects that it no longer anticipated developing and recognized an impairment of the asset value it was carrying for those projects. The aggregate pre-tax impairment charge recorded by these PG&E NEG subsidiaries for its development assets (excluding associated equipment) was $19 million recorded in the second quarter of 2002. At that time, these PG&E NEG subsidiaries continued to develop or planned to sell three additional projects. These subsidiaries have ceased developing these projects and sought to sell the development assets. To date, these subsidiaries have been unsuccessful in selling these projects and have tested the capitalized costs associated with the projects for impairment at December 31, 2002. Based upon the results of these tests, an additional aggregate pre-tax impairment charge of approximately $57 million was recorded by these subsidiaries for their development assets (excluding associated equipment costs as discussed above) in the fourth quarter of 2002. While these subsidiaries have impaired all of their development projects, they have not abandoned the permits or rights to these projects. It is anticipated that these permits and rights will be abandoned for all development projects in 2003.

Impairment of Southaven Power LLC Loan Receivable:    PG&E ET signed a tolling agreement with Southaven Power LLC (Southaven) dated June 1, 2000, pursuant to which PG&E ET was required to provide credit support that meets certain requirements set forth in the agreement. PG&E ET satisfied this obligation by providing an investment-grade guarantee from PG&E NEG. The original maximum amount of the guarantee was $250 million. However, this amount was reduced by approximately $74 million, the amount of a subordinated loan that PG&E ET made to Southaven on August 31, 2002.

Southaven has advised PG&E ET that it believes an event of default under the tolling agreement has taken place with respect to the obligation for a guarantee because PG&E NEG is no longer investment- grade as defined in the agreement and because PG&E ET has failed to provide, within 30 days from the downgrade, substitute credit support that meets the requirements of the agreement. Under the tolling agreement, Southaven has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Southaven with a notice of default with respect to Southaven's performance under the tolling agreement. If this default is not cured, PG&E ET has the right to terminate the agreement and seek recovery of a termination payment. On February 4, 2003, PG&E ET provided a notice of termination. Southaven has objected to the notice and has filed suit in connection with this matter. PG&E ET has recorded an impairment of the loan receivable due to the uncertainty associated with the recoverability of the loan, which was subordinate to the senior debt of the project and reliant upon operations of the plant under the terms of the tolling agreement.

Impairment of Prepaid Rents on Attala Lease:    On May 7, 2002, Attala Generating Company LLC (Attala Generating), an indirect wholly owned subsidiary of PG&E NEG, completed a $340 million sale and leaseback transaction whereby it sold and leased back its approximately 526 MW generation facility located in Mississippi to a third-party special purpose entity.

16

PG&E NEG has provided a $300 million guarantee to support the payment obligations of another indirect wholly owned subsidiary, Attala Energy Company LLC (Attala Energy) under a tolling agreement entered into with Attala Generating. The payments under the 25-year term tolling agreement provide Attala Generating, as lessee, with sufficient cash flows during the term of the tolling agreement to pay rent under a 37-year lease and certain other operating costs. Due to current energy market conditions, Attala Energy is unable to make the payments under the tolling agreement and failed to make the required payment due on November 22, 2002, to Attala Generating. Failure to cure this payment default constituted an event of default under the tolling agreement as of November 27, 2002. Further, PG&E NEG's failure to pay maturing principal under its Corporate Revolver on November 14, 2002, became an event of default under the tolling agreement upon Attala Energy's failure to replace the PG&E NEG guarantee by December 16, 2002. On December 31, 2002, the tolling agreement terminated following notice of termination given by Attala Generating. The parties are currently determining the termination payment, if any, that Attala Energy would owe Attala Generating. Despite the termination of the tolling agreements, Attala Energy remains obligated to provide an acceptable guarantee or collateral to secure its obligations under the tolling agreement, including the payment of any termination payment that may be determined to be due.

No default has occurred under the related lease and Attala Generating timely made the $22.2 million lease payment due on January 2, 2003. However, the lease provides that failure to replace the tolling agreement with a satisfactory replacement tolling agreement within 180 days after the first default under the tolling agreement, which occurred on November 27, 2002, will constitute an event of default under the lease. After the termination payment has been determined in accordance with the tolling agreement and if Attala Energy or PG&E NEG both fail, or have failed, to provide security as required by the tolling agreement, the time period would not extend beyond the 60^th day after such failure to provide security. Upon the occurrence of an event of default under the lease, the lessor would be entitled to exercise various remedies, including termination of the lease and foreclosure of the assets securing the lease. At December 31, 2002, Attala Generating wrote-off prepaid rental payments of $43 million due to the uncertainty of future cash flows associated with the lease.

Impairment of Kentucky Hydro Project:    The Kentucky Hydro Generating Project consists of two run-of-river hydroelectric power plants located in Kentucky on the Ohio River. The project negotiated a turnkey, fixed price contract with VA Tech MCE Corporation (VA Tech) and issued a limited notice to proceed in August 2001. Beginning in the fourth quarter of 2002, all work on the project was suspended except for minimal expenditures to maintain the FERC licenses. The termination cost due to VA Tech of approximately $14 million was fully paid. VA Tech terminated the contract effective December 6, 2002. As part of the settlement of PG&E NEG subsidiary's partnership arrangement, this subsidiary assigned its partnership interest to the original developer, W.V. Hydro, on February 7, 2003. PG&E NEG has written-off the capitalized development and construction costs and provided for all termination costs by recording a pre-tax charge of $18 million at December 31, 2002.

Asset Held For Sale – U.S. Gen New England:    Consistent with its previously announced strategy to dispose of certain merchant assets, in December 2002, the Board of Directors of PG&E Corporation approved management's plan for the proposed sale of USGen New England Inc. (USGenNE). Under the provisions of SFAS No. 144, the equity of USGenNE has been accounted for as an asset held for sale at December 31, 2002. This requires that the assets be recorded at the lower of fair or book value. Based on the current estimated fair value (based on the estimated proceeds) of a sale of USGenNE, a pre-tax loss of $1.1 billion, with no tax benefits associated with the loss, was recorded in the fourth quarter of 2002. It is anticipated that the sale of the USGenNE assets will occur during 2003. This loss on sale, as well

17

as the operating results from USGenNE, have been reported as discontinued operations in the financial statements of PG&E NEG and subsidiaries at December 31, 2002.

Assets Held for Sale – ET Canada:    In December 2002, the proposed sale of PG&E Energy Trading, Canada Corporation (ET Canada) to Seminole Gas Company Limited was approved. Based upon the sales price, PG&E Energy Trading Holdings Corporation, the direct owner of the shares of ET Canada, recorded a $25 million pre-tax loss, with no tax benefits associated with the loss, on the disposition of ET Canada. The transaction is anticipated to close by the end of February or early March 2003. In accordance with the provisions of SFAS No. 144, the equity of ET Canada has been classified as assets held for sale and will be reflected as discontinued operations in the financial statements of PG&E NEG and subsidiaries as of December 31, 2002.

COMMITMENTS AND CAPITAL EXPENDITURES

The following table provides information about PG&E Corporation, the Utility and PG&E NEG's contractual obligations and commitments at December 31, 2002.

(Dollars in millions)			2003			2004			2005			2006			2007			Thereafter
Utility:
Power purchase agreements			$	1,984		$	1,701		$	1,544		$	1,446		$	1,377		$	8,492
Natural gas supply and transportation				595			138			83			26			10			–
Nuclear fuel				59			50			12			13			14			65
Other Commitments				60			45			39			24			11			11
Long-term debt:
	Liabilities not subject to compromise:
		Fixed rate principal obligations		281			310			290			–			–			2,139
		Average interest rate		6.25	%		6.25	%		5.88	%		–			–			7.25	%
	Liabilities subject to compromise:
		Fixed rate principal obligations		173			54			696			1			1			261
		Average interest rate		7.40	%		7.51	%		9.56	%		9.45	%		9.45	%		5.95	%
		7.90 Percent Deferrable Interest Subordinated Debentures		–			–			–			–			–			300
		Variable rate principal obligations		349			265			–			–			–			–
Rate reduction bonds				290			290			290			290			290			–
	Average interest rate			6.36	%		6.42	%		6.42	%		6.44	%		6.48	%		–
PG&E NEG:
Fuel supply and natural gas transportation agreements				105			91			91			88			75			380
Power purchase agreement				217			220			220			220			225			1,140
Operating leases				70			79			79			81			84			807
Long-Term Service Agreements				41			7			7			7			7			36
Payment in lieu of taxes				28			21			14			16			17			97
Construction commitments				237			–			–			–			–			–
Tolling agreements				62			62			62			62			62			482
Long-term debt:
	Fixed rate obligations			6			–			250			–			–			250
	Variable rate obligations			86			3			60			52			4			11
	Average interest rate			6.41	%		6.57	%		6.92	%		7.33	%		7.31	%		7.10	%
PG&E Corporation:
Long-term debt:
	Fixed rate obligations (9.50% Convertible Subordinated Notes)			–			–			–			–			–			280
Average interest rate				–			–			–			–			–			9.50	%
	Variable rate (1)			–			–			–			842			–			–

⁽¹⁾

$720 million outstanding at December 31, 2002, with 4 percent interest compounded yields value of $842 million at maturity.

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Utility

The Utility's contractual commitments include natural gas supply and transportation agreements, purchase power agreements (including agreements with QFs, irrigation districts and water agencies, bilateral power purchase contracts, and renewable energy contracts), nuclear fuel agreements, operating leases and other commitments.

The Utility's commitments under financing arrangements include obligations to repay first and refunding mortgage bonds, senior notes, medium-term notes, pollution control loan agreements, Deferrable Interest Subordinated Dedentures, lines of credit, letters of credit, floating rate notes, and commercial paper.

PG&E Funding LLC, a wholly owned subsidiary of the Utility is also obligated to make scheduled principal payments on its rate reduction bonds.

For further detailed discussion of the Utility's contractual commitments and obligations, see Notes 4, 5, and 16 of the Notes to the Consolidated Financial Statements.

PG&E NEG

PG&E NEG subsidiaries have the following contractual commitments:

Fuel Supply and Transportation Agreements – PG&E NEG, through its various subsidiaries, has entered into gas supply and firm transportation agreements with a number of pipelines and fuel transportation services. Under these agreements, PG&E NEG's subsidiaries must make specified minimum payments each month.

Power Purchase Agreements – USGenNE assumed rights and duties under several power purchase contracts with third party independent power producers as part of the acquisition of the New England Electric System assets. As of December 31, 2002, these agreements provided for an aggregate of approximately 800 MW of capacity. USGenNE is required to pay New England Power Company amounts due to third-party producers under the power purchase contracts.

Operating Leases – Various subsidiaries of PG&E NEG entered into several operating lease agreements for generating facilities and office space. Lease terms vary between 3 and 48 years.

In November 1998, USGenNE entered into a $479 million sale-leaseback transaction whereby the subsidiary sold and leased back a pumped storage station under an operating lease.

On May 7, 2002, Attala Generating completed a $340 million sale and leaseback transaction whereby it sold and leased back its facility to a third party special purpose entity. The related lease is being accounted for as an operating lease. See discussion above for further information relating to the Attala lease agreement.

Operating lease expense amounted to $78 million, $54 million, and $70 million in 2002, 2001, and 2000, respectively.

Long-Term Service Agreements – Various subsidiaries of PG&E NEG have entered into long-term service agreements for the maintenance and repair of certain combustion turbine or combined-cycle generating plants. These agreements are for periods up to 18 years.

Payments in Lieu of Property Taxes – Various subsidiaries of PG&E NEG have entered into certain agreements with local governments that provide for payments in lieu of property taxes for some of its generating facilities.

Construction Commitments – Various subsidiaries of PG&E NEG currently have four projects (Athens, Covert, La Paloma, and Harquahala) under construction. PG&E NEG's construction commitments are generally related to the major construction agreements including the construction and other related contracts. Certain construction contracts also contain commitments to purchase turbines and related equipment.

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Tolling Agreements – PG&E ET entered into tolling agreements with several counterparties allowing PG&E NEG the right to sell electricity generated by facilities owned and operated by other parties. Under the tolling agreements, PG&E NEG, at its discretion, supplies the fuel to the power plants, then sells the plant's output in the competitive market. Committed payments are reduced if the plant facilities do not achieve agreed-upon levels of performance. See Tolling Agreements below for additional information relating to these agreements.

Guarantees

PG&E NEG's and its subsidiaries' guarantees fall into four broad categories:

•

Equity commitments;



•

PG&E ET's energy trading and non-trading activities related to PG&E NEG's merchant energy portfolio excluding tolling agreements;



•

Tolling agreements; and



•

Other guarantees.

Equity Commitments:    Refer to discussion above on impairments under "Market Conditions and Business Environment."

Activities Related to Merchant Portfolio Operations:    PG&E NEG and certain subsidiaries have provided guarantees to approximately 232 counterparties in support of PG&E ET's energy trading and non-trading activities related to PG&E NEG's merchant energy portfolio in the face amount of $2.7 billion. Typically, the overall exposure under these guarantees is only a fraction of the face value of these guarantees, since not all counterparty credit limits are fully used at any time. As of January 31, 2003, PG&E NEG and its subsidiaries' aggregate exposure under these guarantees was approximately $82.8 million. The amount of such exposure varies daily depending on changes in market prices and net changes in position. In light of the downgrades, some counterparties have sought and others may seek replacement security to collateralize the exposure guaranteed by PG&E NEG and its subsidiaries. PG&E GTN and PG&E ET have terminated the arrangements pursuant to which PG&E GTN provided guarantees on behalf of PG&E ET such that PG&E GTN will provide no new guarantees on behalf of PG&E ET.

At January 31, 2003, PG&E ET's estimated exposure not covered by a guarantee (excluding exposure under tolling agreements) was approximately $90 million.

To date, PG&E ET has met those replacement security requirements properly demanded by counterparties and has not defaulted under any of its master trading agreements although one counterparty has alleged a default. No demands have been made upon the guarantors of PG&E ET's obligations under these trading agreements. In the past, PG&E ET has been able to negotiate acceptable arrangements and reduce its overall exposure to counterparties when PG&E ET or its counterparties have faced similar situations. There can be no assurance that PG&E ET can continue to negotiate acceptable arrangements in the current circumstances. PG&E NEG cannot quantify with any certainty the actual future calls on PG&E ET's liquidity. PG&E NEG's and its subsidiaries' ability to meet these calls on their liquidity will vary with market price volatility, uncertainty with respect to PG&E NEG's financial condition and the degree of liquidity in the energy markets. The actual calls for collateral will depend largely upon the ability to enter into forbearance agreements, and pre- and early-pay arrangements with counterparties, the continued performance of PG&E NEG companies under the underlying agreements, whether counterparties have the right to demand such collateral, the execution of master netting agreements and offsetting transactions, changes in the amount of exposure, and other commercial considerations.

Tolling Agreements:    PG&E ET has entered into tolling agreements with several counterparties under which it, at its discretion, supplies the fuel to the power plants and then sells the plant's output in the competitive market. Payments to the counterparties are reduced if the plant's do not achieve agreed-upon levels of performance. The face amount of PG&E NEG's and its subsidiaries' guarantees relating to PG&E

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ET's tolling agreements is approximately $600 million. The tolling agreements currently in place are with: (1) Liberty Electric Power, L.P. (Liberty) guaranteed primarily by PG&E NEG and secondarily by PG&E GTN for an aggregate amount of up to $150 million; (2) DTE-Georgetown, LLC (DTE) guaranteed by PG&E GTN for up to $24 million; (3) Calpine Energy Services, L.P. (Calpine) for which no guarantee is in place; (4) Southaven guaranteed by PG&E NEG for up to $175 million; and (5) Caledonia Generating, LLC (Caledonia) guaranteed by PG&E NEG for up to $250 million.

Liberty – Liberty has provided notice to PG&E ET that the ratings downgrade of PG&E NEG constituted a material adverse change under the tolling agreement requiring PG&E ET to replace the guarantee and post security in the amount of $150 million. PG&E ET has not posted such security. Liberty has the right to terminate the agreement and seek recovery of a termination payment. Under the terms of the guarantees to Liberty for the aggregate $150 million, Liberty must first proceed against PG&E NEG's guarantee, and can demand payment under PG&E GTN's guarantee only if (1) PG&E NEG is in bankruptcy or (2) Liberty has made a payment demand on PG&E NEG which remains unpaid five business days after the payment demand is made. In addition, PG&E ET has provided notices to Liberty of several breaches of the tolling agreement by Liberty and has advised Liberty that, unless cured, these breaches would constitute a default under the agreement. If these defaults remain uncured, PG&E ET has the right to terminate the agreement and seek recovery of a termination payment.

DTE – By letter dated October 14, 2002, DTE provided notice to PG&E ET that the downgrade of PG&E GTN constituted a material adverse change under the tolling agreement between PG&E ET and DTE and that PG&E ET was required to post replacement security within ten days. By letter dated October 23, 2002, PG&E ET advised DTE that because there had not been a material adverse change with respect to PG&E GTN within the meaning of the tolling agreement, PG&E ET was not required to post replacement security. If PG&E ET was required to post replacement security and it failed to do so, DTE would have the right to terminate the tolling agreement and seek recovery of a termination payment.

Calpine – The tolling agreement states that on or before October 15, 2002, Calpine was to have issued a full notice to proceed under its construction contract to its engineering, procurement and construction contractor for the Otay Mesa facility. On October 16, 2002, PG&E ET asked Calpine to confirm that it had issued this full notice to proceed and Calpine was not able to do so to the satisfaction of PG&E ET. Consequently, PG&E ET advised Calpine by letter dated October 30, 2002, that it was terminating the tolling agreement effective November 29, 2002. Calpine has indicated that this termination was improper and constituted a default under the agreement, but has not taken any further action.

Caledonia and Southaven New Tolling Agreements – PG&E ET signed a tolling agreement with Caledonia dated as of September 20, 2000, pursuant to which PG&E ET is to provide credit support as defined in the tolling agreement. PG&E ET satisfied this obligation by providing a guarantee from PG&E NEG that was investment-grade as defined in the agreement. The amount of the guarantee now does not exceed $250 million. By letter dated August 31, 2002, Caledonia advised PG&E ET that it believed an event of default under the tolling agreement had taken place with respect to this obligation as PG&E NEG was no longer investment-grade as defined in the tolling agreement and because PG&E ET had failed to provide, within thirty days from the downgrade substitute credit support that met the requirements of the tolling agreement. Caledonia has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Caledonia with a notice of default respecting Caledonia's performance under the tolling agreement concerning the inability of the facility to inject its output into the local grid. Caledonia has not cured this default and on February 4, 2003, PG&E ET provided a notice of termination.

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PG&E ET signed a tolling agreement with Southaven dated as of June 1, 2000, under which PG&E ET is required to provide credit support as defined in the agreement. PG&E ET satisfied this obligation by providing an investment-grade guarantee from PG&E NEG as defined in the tolling agreement. The amount of the guarantee is approximately $175 million. By letter dated August 31, 2002, Southaven advised PG&E ET that it believed an event of default under the tolling agreement had taken place as PG&E NEG was no longer investment-grade as defined in the tolling agreement and because PG&E ET had failed to provide, within thirty days from the downgrade, substitute credit support that met the requirement of the tolling agreement. Southaven has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Southaven with a notice of default respecting Southaven's performance under the tolling agreement concerning the inability of the facility to inject its output into the local grid. Southaven has not cured this default and on February 4, 2003, PG&E ET provided a notice of termination.

On February 7, 2003, Southaven filed emergency petitions to compel arbitration or alternatively, a temporary restraining order and preliminary injunction with the Circuit Court for Montgomery County, Maryland. The Court has denied the relief requested and has set the matter for hearing on February 27, 2003.

PG&E ET is not able to predict whether the counterparties will seek to terminate the agreements or whether the Court will grant the requested relief. Accordingly, it is not able to predict whether or the extent to which these proceedings will have a material adverse effect on PG&E NEG's financial condition or results of operation.

Under each tolling agreement determination of the termination payment is based on a formula that takes into account a number of factors including market conditions such as the price of power and the price of fuel. In the event of a dispute over the amount of any termination payment that the parties are unable to resolve by negotiation, the tolling agreement provides for mandatory arbitration. The dispute resolution process could take as long as six months to more than a year to complete. To the extent that PG&E ET did not pay these damages, the counterparties could seek payment under the guarantees for an aggregate amount not to exceed $600 million. PG&E NEG is unable to predict whether counterparties will seek to terminate their tolling agreements. PG&E NEG does not currently expect to be able to pay any termination payments that may become due.

Other Guarantees

PG&E NEG has provided guarantees related to other obligations by PG&E NEG companies to counterparties for goods or services. PG&E NEG does not believe that it has significant exposure under these guarantees. The most significant of these guarantees relate to performance under certain construction and equipment procurement contracts. In the event PG&E NEG is unable to provide any additional or replacement security which may be required as a result of rating downgrades, the counterparty providing the goods or services could suspend performance or terminate the underlying agreement and seek recovery of damages. These guarantees represent guarantees of subsidiary obligations for transactions entered into in the ordinary course of business. Some of the guarantees relate to the construction or development of PG&E NEG's power plants and pipelines. These guarantees are described below.

PG&E NEG has issued guarantees for the performance of the contractors building the Harquahala and Covert power projects for up to $555 million. Any exposure under the guarantees for construction completion is mitigated by guarantees in favor of PG&E NEG from the constructor and equipment vendors related to performance, schedule, and cost. The constructor and various equipment vendors are performing under their underlying contracts.

PG&E NEG has issued $100 million of guarantees to the constructor of the Harquahala and Covert projects to cover certain separate cost-sharing arrangements. Failure to perform under those separate cost-sharing arrangements or the related

22

guarantees would not have an impact on the constructor's obligations to complete the Harquahala and Covert projects pursuant to the construction contracts. However, in the event that the construction contractor incurs certain un-reimbursed project costs or cost overruns, the contractor could assert a claim against PG&E NEG's subsidiary or PG&E NEG under its guarantees. PG&E NEG believes that no claim can be validly asserted by the construction contractor as of the date hereof.

PG&E NEG has provided a $300 million guarantee to support a tolling agreement that a wholly owned subsidiary, Attala Energy, has entered into with Attala Generating. See discussion above under "Impairment of Prepaid Rents on Attala Lease," for additional discussion of this guarantee.

In addition to those discussed above, PG&E NEG has guarantees for commitments undertaken by PG&E NEG or subsidiaries in the ordinary course of business for services such as facility and equipment leases, ash disposal rights, and surety bonds.

Credit Facility Summary:

PG&E NEG has the following credit facilities outstanding at January 31, 2003:

(in millions)	Total Bank Commitment		Balance
PG&E NEG Inc. – Tranche A (2 year facility) (a)	$	264	$	264
PG&E NEG Inc. – Tranche B (364 day facility) (a)		431		431
PG&E ETH and Subsidiaries – Facility One		35		34
PG&E ETH and Subsidiaries – Facility Two		19		19
PG&E Generating LLC		10		7
USGen New England		100		88
PG&E GTC and Subsidiaries		125		53
Total	$	984	$	896

^(a)

PG&E NEG is currently in default on both its Tranche A and Tranche B credit facility.

PG&E CORPORATION

Due to the Utility's deteriorating liquidity and financial condition during the California energy crisis in 2000, PG&E Corporation refinanced its debt obligations through a credit agreement (Original Credit Agreement) with General Electric Capital Corporation (GECC) and Lehman Commercial Paper Inc. (LCPI) in 2001. The proceeds of this refinancing were used to pay commercial paper, borrowings under PG&E Corporation's long-term revolving credit facility, and a fourth quarter 2000 dividend to shareholders. During 2002, PG&E Corporation negotiated new terms to amend the Original Credit Agreement. In August 2002, PG&E Corporation made a voluntary prepayment of principal and interest totaling $607 million to the GECC portion of the debt.

On October 18, 2002, PG&E Corporation entered into a Second Amended Credit Agreement (Credit Agreement) with the remaining lenders for a total amount of $720 million. Of the total amount secured under the Credit Agreement, $420 million covered amounts retained under the prior credit agreement and $300 million represented new loans (New Loans and collectively referred to as the Loans). These New Loans were released from a separate escrow account to PG&E Corporation on January 17, 2003, concurrent with a funding fee payment of $9 million.

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All obligations of PG&E Corporation under the Credit Agreement are secured by a perfected first-priority security interest in the outstanding common stock of the Utility and all proceeds thereof. With respect to 35 percent of such common stock pledged for the benefit of the lenders, the lenders have customary rights of a secured creditor, provided that certain regulatory approvals may be required in connection with any foreclosure on such stock. With respect to the remaining 65 percent, such common stock has been pledged for the benefit of the lenders, but the lenders have no ability to control such common stock under any circumstances and do not have any of the typical rights and remedies of a secured creditor. However, the lenders do have the right to receive any cash proceeds received upon a disposition of such common stock.

All obligations of PG&E Corporation under the Credit Agreement continue to be secured by a perfected first priority security interest in 100 percent of the equity interests in PG&E NEG LLC and 100 percent of the common stock of PG&E NEG and all proceeds thereof.

The Credit Agreement limits the ability of PG&E Corporation and some of its subsidiaries to grant liens, consolidate, merge, purchase or sell assets, declare or pay dividends, incur indebtedness, or make advances, loans, and investments. In addition, PG&E Corporation may not use the proceeds of the New Loans to make investments in PG&E NEG LLC or PG&E NEG, or any of their subsidiaries or, in the Utility, except as specifically permitted by the terms of the loans or as required by applicable law or the conditions adopted by the CPUC with respect to holding companies. However, the Credit Agreement generally permits:

•

PG&E NEG LLC, PG&E NEG, and their respective subsidiaries to enter into sales and other dispositions of assets in the ordinary course of business and in certain qualified transactions;



•

PG&E Corporation to use existing cash to make investments in PG&E NEG (limited to 75 percent of the net cash tax savings actually received by PG&E Corporation from certain PG&E NEG transactions after October 1, 2002) in connection with certain sales and debt restructuring transactions of PG&E NEG and its subsidiaries;



•

PG&E Corporation to make investments funded from existing cash, and to pay obligations of PG&E NEG and its subsidiaries (including, without limitation, any obligations for which PG&E Corporation becomes a surety or a guarantor) up to a cumulative amount not to exceed $15 million;



•

PG&E NEG LLC, PG&E NEG, or their respective subsidiaries to grant liens or incur debt;



•

PG&E Corporation and the Utility to consummate the transactions contemplated in the Utility's Plan; and



•

PG&E Corporation to spin off 100 percent of the equity interests in PG&E NEG LLC and 100 percent of the common stock of PG&E NEG, and all proceeds thereof, with the consent of lenders holding more than 50.1 percent of the aggregate outstanding principal amount of the Loans.

The Credit Agreement provides for stated events of default and events requiring mandatory prepayment of the Loans. See Note 4 of the Notes to the Consolidated Financial Statements for further discussion of the Credit Agreement.

In connection with the Utility's proposed plan of reorganization, PG&E Corporation intends to negotiate with the lenders to obtain their consent to the issuance of up to $700 million of PG&E Corporation equity and the contribution of some of the proceeds of issuance to the capital of the Utility.

In connection with the Credit Agreement, PG&E Corporation also has issued to the lenders additional warrants to purchase 2,669,390 shares of common stock of PG&E Corporation, with an

24

exercise price of $0.01 per share. PG&E Corporation has agreed to provide, following consummation of a plan of reorganization of the Utility, registration rights in connection with the shares issuable upon exercise of these warrants.

The net proceeds of the Loans will be used to fund corporate working capital and for general corporate purposes.

PG&E Corporation's Convertible Subordinated Notes (Notes) in the aggregate principal amount of $280 million were issued on June 25, 2002.

The Notes, maturing on June 30, 2010, have an interest rate of 9.50 percent, and provide the holder of the Notes with a one-time right to require PG&E Corporation to repurchase the Notes on June 30, 2007, at a purchase price equal to the principal amount plus accrued and unpaid interest (including any liquidated damages and pass-through dividends).

CASH FLOWS

Utility

The following section discusses the Utility's significant cash flows from operating, investing, and financing activities for the years ended December 31, 2002, 2001, and 2000.

Operating Activities

Results from the Utility's consolidated cash flows from operating activities for the years ended 2002, 2001, and 2000 are as follows:

(in millions)	Year Ended December 31,
	2002		2001			2000
Net income (loss)	$1,819		$	1,015		$(3,483	)
Depreciation, amortization, and decommissioning included in net income	1,193			896		3,511
Reversal of ISO accrual included in net income	(970	)		–		–
Increase in accounts payable	198			1,312		3,063
Payments authorized by the Bankruptcy Court on amounts classified as liabilities subject to compromise	(1,442	)		(16	)	–
(Increase) Decrease in income taxes receivable	50			1,120		(1,120	)
Other operating activity adjustments	286			438		(1,416	)
Net cash provided by operating activities	$1,134		$	4,765		$555

Operating activities provided net cash of $1.1 billion in 2002 and $4.8 billion in 2001. The decrease during the period is primarily due to the following factors:

•

The Utility filed for bankruptcy in April 2001, which automatically stayed all payments on liabilities incurred prior to the bankruptcy. Subsequent to the bankruptcy, the Utility resumed paying its ongoing expenses in the ordinary course of business. As a result, the growth in accounts payable is $1.1 billion lower in 2002 compared to 2001;



•

The Utility received a $1.1 billion income tax refund in 2001; no comparable refund was received in 2002;



•

In 2002, approximately $901 million in principal owed to QFs prior to the bankruptcy was repaid by the Utility under Bankruptcy Court approved agreements. Among other things, the agreements provided for repayments of amounts owed to QFs prior to the bankruptcy either in full or in 6 to 12 monthly installments; and

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•

In 2002, the Bankruptcy Court issued an order authorizing the Utility to pay pre- and post-petition interest to:



1.

Holders of certain undisputed claims, including commercial paper, senior notes, floating rate notes, medium-term notes, Deferrable Interest Subordinated Debentures (QUIDS), prior bond claims, revolving line of credit claims, and secured debt claims;



2.

Trade creditors, including QFs; and



3.

Certain other general unsecured creditors.

The Utility paid approximately $1 billion in pre- and post-petition interest related to these claims during 2002. The interest payments included accrued interest on financial debt previously classified as liabilities subject to compromise totaling $433 million.

Operating activities provided net cash of $4.8 billion in 2001 and $0.6 billion in 2000. The increase in 2001 was primarily due to an increase in net income and the receipt of a $1.1 billion income tax refund in 2001. Of the $4.5 billion increase in net income, $2.6 billion was attributable to a decrease in depreciation, a non-cash expense. See the Results of Operations section of this MD&A for a discussion of the Utility's net income.

Investing Activities

Results from the Utility's consolidated cash flows from investing activities for the years ended 2002, 2001, and 2000 are as follows:

	Year Ended December 31,
(in millions)
	2002			2001			2000
Capital expenditures	$	(1,546	)	$	(1,343	)	$	(1,245	)
Other investing activities		37			5			38
Net cash used by investing activities	$	(1,509	)	$	(1,338	)	$	(1,207	)

Cash used by investing activities in 2002, 2001, and 2000, was primarily for capital expenditures related to improvements to the Utility's electricity and natural gas transmission and distribution systems.

While the Utility is in bankruptcy, capital expenditures are being funded with cash provided by operating activities.

Financing Activities

Results from the Utility's consolidated cash flows from financing activities for the years ended 2002, 2001, and 2000 are as follows:

	Year Ended December 31,
(in millions)
	2002			2001			2000
Net (repayments) borrowings under credit facilities and short-term borrowings	$	–		$	(28	)	$	2,630
Net, long-term debt issued, matured, redeemed, or repurchased		(333	)		(111	)		373
Rate reduction bonds matured		(290	)		(290	)		(290	)
Common stock repurchased		–			–			(275	)
Dividends paid		–			–			(475	)
Other financing activities		–			(1	)		(26	)
Net cash provided (used) by financing activities	$	(623	)	$	(430	)	$	1,937

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Except as contemplated in the Utility's proposed plan of reorganization discussed in Note 2 of the Notes to the Consolidated Financial Statements, the Utility has no plans to seek external financing as a source of funding. Additionally, the Utility is not allowed to pay dividends on its preferred or common stock while in bankruptcy without Bankruptcy Court approval. As discussed in Note 9 and 10 of the Notes to the Consolidated Financial Statements, the Utility did not declare or pay common and preferred stock dividends in 2001 or 2002. Preferred stock dividends have a cumulative feature in which preferred stock dividends must be brought current before any dividends can be distributed to common stockholders. Further, the preferred stocks have a mandatory sinking fund feature in which funds are set-aside for the future periodic retirement of outstanding preferred stock. Until cumulative dividend payments on the Utility's preferred stock and mandatory sinking fund payments are made, the Utility may not pay dividends on its common stock. See Note 10 of the Notes to the Consolidated Financial Statements for a discussion of the Utility's preferred stock.

2002

Financing activities used $623 million of net cash in 2002 primarily reflecting the repayments of long-term debt and rate reduction bonds. Pursuant to Bankruptcy Court approval, the Utility repaid $333 million in principal on its mortgage bonds that matured in March 2002. PG&E Funding LLC, a wholly owned subsidiary of the Utility, also repaid $290 million in principal on its rate reduction bonds during 2002. PG&E Funding LLC and the rate reduction bonds are not included in the Utility's bankruptcy.

2001

Financing activities used $430 million of net cash in 2001 primarily for repayments of long-term debt and rate reduction bonds. The repayment of long-term debt included payments on:

(in millions)
Medium-term notes	$	18
Mortgage bonds		93
Net repayment of long-term debt	$	111

The payments on the medium-term notes and the mortgage bonds were made before the Utility's April 2001 bankruptcy filing.

PG&E Funding LLC repaid $290 million in principal on its rate reduction bonds during 2001. As previously mentioned, the rate reduction bonds are not included in the Utility's bankruptcy.

2000

Financing activities provided $1.9 billion of net cash in 2000 primarily due to borrowings under credit facilities and short-term borrowings, partially offset by (1) principal payments on long-term debt and rate reduction bonds, (2) common stock repurchases, and (3) dividend payments. Net borrowings under credit facilities and short-term borrowings included the following:

(in millions)
Credit facility draws	$	614
Commercial paper issuance		776
364-day floating rate notes issuance		1,240
Net borrowings under credit facilities and short-term borrowings	$	2,630

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The Utility issued, repaid, redeemed, or repurchased long-term debt as follows:

(in millions)
Issuance of:
	Senior notes	$	680
Maturity of:
	Mortgage bonds		(110	)
	Various medium-term notes		(113	)
	Other long-term debt		(3	)
Repurchase of:
	Various pollution control loan agreements		(81	)
Net issuance, repayment, redemption, and repurchase of long-term debt		$	373

PG&E Funding LLC repaid $290 million in principal on its rate reduction bonds during 2000.

As previously mentioned, the rate reduction bonds are not included in the Utility's bankruptcy.

In April 2000, a subsidiary of the Utility repurchased 11.9 million shares of the Utility's common stock from PG&E Corporation at a cost of $275 million. The repurchase was made so that the Utility could maintain its CPUC-authorized capital structure, which is the level of common and preferred equity the Utility may maintain in relation to debt.

PG&E NEG

The cash from operations for the years 2002, 2001, and 2000 will not be indicative of the future cash flow from operations due to the changes in the operations of PG&E NEG (discussed above).

To the extent that the commitments of PG&E NEG and its subsidiaries can be restructured, future cash from operations will be principally generated by the PG&E NEG pipeline business as well as dividends from PG&E NEG's independent power producer generation project companies which are accounted for under the equity method of accounting. If the commitments are not restructured, PG&E NEG and its subsidiaries will not generate sufficient funds to meet its outstanding cash requirements and may file or be forced into bankruptcy.

In addition to the impacts of PG&E NEG's downgrades, PG&E NEG's and its subsidiaries' ability to service these obligations is impacted by constraints on the ability to move cash from one subsidiary to another or to PG&E NEG itself. PG&E NEG's subsidiaries must now independently determine, in light of each company's financial situation, whether any proposed dividend, distribution or intercompany loan is permitted and is in such subsidiary's interest. Therefore, Consolidated Statements of Cash Flow and Consolidated Balance Sheets quantifying PG&E NEG's cash and cash equivalents do not reflect the cash actually available to PG&E NEG or any particular subsidiary to meet its obligations.

At January 31, 2003, PG&E NEG and its subsidiaries had the following unrestricted cash and short-term investment balances (not including in-transit items):

(in millions)
PG&E NEG	$	126
PG&E ET and Subsidiaries		98
PG&E Gen and Subsidiaries		97
PG&E GTN and Subsidiaries		17
Other		60
Consolidated PG&E NEG	$	398

Operating Activities

Results from PG&E NEG's consolidated cash flows from operating activities for the years ended 2002, 2001, and 2000 are as follows on a summarized basis:

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(in millions)			2002			2001			2000
Net income (loss)			$	(3,423	)	$	171		$	152
Adjustments to reconcile net income to net cash (used) provided by operating activities before price risk management assets and liabilities				3,539			(38	)		119
		Subtotal		116			133			271
	Price risk management assets and liabilities, net			99			130			(21	)
Net effect of changes in operating assets and liabilities:
	Restricted cash			(62	)		(62	)		3
	Net, accounts receivable, accounts payable and accrued liabilities			100			42			65
	Inventories, prepaids, deposits and other			(471	)		143			(154	)
Net cash provided (used) by operating activities			$	(218	)	$	386		$	164

During 2002, PG&E NEG used net cash from operating activities of $218 million. Net cash from operating activities before changes in operating assets and liabilities and price risk management assets and liabilities was $116 million in 2002, created principally from results of operations offset by the timing of deferred tax benefits and lower distributions from unconsolidated affiliates. Change in price risk management assets and liabilities increased cash flow by $99 million due to realization of cash from price risk management activities. The change in inventories, prepaid expenses, deposits, and other liabilities decreased cash flow by $471 million primarily due to increased credit collateral deposit requirements in PG&E NEG's trading operations. Adding to these cash outflows were $62 million of increased in restricted cash requirements.

During 2001, PG&E NEG generated net cash from operating activities of $386 million. Net cash from operating activities before changes in operating assets and liabilities and price risk management assets and liabilities was $133 million in 2001, created principally from results of operations offset by the timing of deferred tax benefits and lower distributions from unconsolidated affiliates. Change in price risk management assets and liabilities increased cash flow by $130 million due to realization of cash from price risk management activities. PG&E NEG's net cash inflow related to the change in accounts receivable, accounts payable, and accrued liabilities from operations assets and liabilities in $42 million. The change in inventories, prepaid expenses, deposits, and other liabilities increased cash flow by $143 million primarily due to repayments of margin deposits in PG&E NEG's trading operations. Offsetting these cash inflows were $62 million of increased restricted cash requirements in several of PG&E NEG's projects in construction.

During 2000, PG&E NEG generated net cash from operating activities of $164 million. Net cash from operating activities before changes in operating assets and liabilities and price risk management assets and liabilities was $271 million in 2000, created principally from the timing of deferred tax benefits and higher distributions from unconsolidated affiliates.

Change in price risk management assets and liabilities decreased cash flow by $21 million. PG&E NEG's net cash inflow related to the change in accounts receivables, accounts payable, and accrued liabilities increased cash flow by $65 million. The change in inventories, prepaid expenses, deposits, and other liabilities decreased cash flow by $154 million principally due to increased margin deposits in PG&E NEG's trading operations.

Investing Activities

The cash outflows from investing activities for the years 2002, 2001, and 2000 will not be indicative of the future cash outflow from investing activities due to the changes in the operations of PG&E NEG (discussed above). Depending on the results of the restructuring negotiations discussed above, it is anticipated that future cash outflows from investing operations will be principally generated by our

29

pipeline business principally related to maintenance capital expenditures.

Results from PG&E NEG's consolidated cash flows from investing activities for the years ended 2002, 2001, and 2000 are as follows:

(in millions)	2002			2001			2000
Capital expenditures	$	(1,485	)	$	(1,426	)	$	(900	)
Acquisition of generating assets		–			(107	)		(311	)
Proceeds from sale of assets (equity investments)		46			–			442
Proceeds from sale leaseback		340			–			–
Long-term prepayment on turbines		(15	)		(89	)		(132	)
Investment in Southaven project		(74	)		–			–
Repayment of note receivable from PG&E Corporation		75			–			–
Long-term receivable		136			81			75
Other, net		(63	)		7			(38	)
Net cash used in investing activities	$	(1,040	)	$	(1,534	)	$	(864	)

Total capital expenditures detailed by business segment and expenditure amount associated with construction work in progress for the year ended 2002, 2001, and 2000 are as follows:

(in millions)		2002		2001		2000
Capital expenditure by business segment:
	Integrated energy and marketing activities	$	1,294	$	1,324	$	885
	Interstate pipeline operations		191		102		15
	Total capital expenditures	$	1,485	$	1,426	$	900
Expenditure associated with construction work in progress		$	1,353	$	1,318	$	722

During 2002, PG&E NEG used net cash of $1,040 million in investing activities compared to $1,534 million for the same period in 2001, or a decrease of $494 million. The decrease in cash used in investing activities from period to period was primarily due to proceeds from the Attala Generating sale leaseback transaction providing $340 million, proceeds of $46 million from the partial sale of PG&E NEG's interest in Hermiston and the repayment of a $75 million loan from PG&E Corporation to PG&E GTN. Offsetting these proceeds were capital expenditures of $1,485 million in 2002 versus $1,426 million in 2001. These capital expenditures were used primarily for construction work in progress and were financed by non-recourse debt. Due to PG&E NEG's default on making equity commitments, these construction projects will potentially be transferred to lenders in 2003. Advanced development and turbine prepayments were $144 million less in 2002 versus 2001 due to the reductions and cancellations of new construction efforts. All remaining development assets and related turbine and other equipments contracts will be abandoned and terminated during 2003. As a result of investment downgrades, PG&E ET replaced a $74 million letter of credit issued to Southaven with cash pursuant to a subordinated loan agreement. No such activity occurred in 2001.

Included in investing activities for 2002 and 2001, are cash flows of $136 million and $81 million respectively related to the long-term receivable from New England Power Company (NEPC) associated with the assumption of power purchase agreements. These cash flows offset cash payments made to NEPC which are reflected in operating activities. PG&E NEG intends to sell USGenNE in 2003.

During 2001, PG&E NEG used net cash of $1.5 billion for investing activities, which were primarily attributable to capital expenditures associated with generating projects in construction, its purchase of the Mountain View

30

wind project, and prepayments on turbines and related equipment.

During 2000, PG&E NEG used net cash of $864 million for investing activities. The primary cash outflows from investing activities were for capital expenditures associated with generating projects in construction, the acquisition of Attala, and prepayments on the turbines and related equipment. These outflows were partially offset by the receipt of $442 million in proceeds from sales of assets and equity investments. Included in investing activities is a cash flow of $75 million related to the long-term receivable from NEPC associated with the assumption of power purchase agreements. These cash flows offset cash payments made to NEPC which are reflected in operating activities.

Financing Activities

Results from PG&E NEG's consolidated cash flows from financing activities for the years ended December 31, 2002, 2001, and 2000 are as follows:

(in millions)	2002			2001			2000
Net borrowings (repayments) under credit facilities	$	–		$	(189	)	$	(5	)
Repayment of obligations due related parties and affiliates		(100	)		–			–
Advances from PG&E Corporation		–			–			79
Long-term debt issued		1,506			1,114			711
Long-term debt matured, redeemed, or repurchased		(403	)		(757	)		(85	)
Notes issuance, net of discount and issuance costs		–			987			–
Deferred financing costs		(41	)		(39	)		–
Capital contributions		–			–			608
Distributions		–			–			(106	)
Net cash provided by financing activities	$	962		$	1,116		$	1,202

During 2002, PG&E NEG provided net cash flows from financing activities of $962 million.

PG&E NEG's cash inflows from financing activities were primarily attributable to increases in long-term debt issued relating to the continuing completion of PG&E NEG's construction facilities and borrowings under construction financing.

During 2001, net cash provided by financing activities was $1.1 billion, principally from the net proceeds related to the issuance of the Senior Unsecured Notes due 2011.

During 2000, net cash provided by financing activities was $1.2 billion. Net cash provided by financing activities resulted primarily from non-recourse project debt of $711 million, and capital contributions by PG&E Corporation of $608 million, partially offset by distributions to PG&E Corporation of $106 million.

PG&E Corporation

The following section discusses PG&E Corporation's significant cash flows from operating, investing, and financing activities for the years ended December 31, 2002, 2001, and 2000.

Operating Activities

Results from PG&E Corporation's consolidated cash flows from operating activities for the years ended December 31, 2002, 2001, and 2000 are as follows:

31

			Year Ended December 31,
(in millions)
			2002			2001			2000
Net income (loss)			$	(874	)	$	1,099		$	(3,364	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
	Depreciation, amortization, and decommissioning			1,309			1,002			3,595
	Net effect of changes in operating assets and liabilities:
		Restricted cash		(513	)		(66	)		(6	)
		Accounts receivable		51			1,000			(1,941	)
		Accounts payable		377			1,213			4,200
		Payments authorized by the Bankruptcy Court on amounts classified as liabilities subject to compromise		(1,442	)		(16	)		–
		Assets and liabilities of operations held for sale		34			(117	)		64
	Other, net			1,592			1,166			(1,793	)
Net cash provided by operating activities			$	534		$	5,281		$	755

Net cash provided by operating activities was $534 million in 2002, $5,281 million in 2001, and $755 million in 2000.

The decrease during 2002 was primarily due to the following factors:

•

The continued operation of the Utility as a debtor-in-possession under the Bankruptcy Code and the prior year impact of an income tax refund.



•

Increased working capital requirements of PG&E NEG, primarily due to increased credit collateral deposit requirements in PG&E NEG's trading operations.

The increase during 2001 was primarily due to the Utility's pre-petition obligations being stayed under the Bankruptcy Code, and deliveries on previously held trading positions at PG&E NEG.

Investing Activities

Results from PG&E Corporation's consolidated cash flows from investing activities for the year ended 2002, 2001, and 2000 are as follows:

(in millions)	Year Ended December 31,
	2002			2001			2000
Capital expenditures	$	(3,032	)	$	(2,773	)	$	(2,334	)
Other, net		482			(103	)		656
Net cash used by investing activities	$	(2,550	)	$	(2,876	)	$	(1,678	)

Net cash used in investing activities in 2002, 2001, and 2000 was primarily for capital expenditures at the Utility and construction and development projects at PG&E NEG.

The decrease in cash used in investing activities in 2002, compared to 2001, was primarily due to the proceeds received by PG&E NEG from Attala Generating.

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Financing Activities

Results from PG&E Corporation's consolidated cash flows from financing activities for the year ended 2002, 2001, and 2000 are as follows:

(in millions)	Year Ended December 31,
	2002			2001			2000
Net borrowings (repayments) under credit facilities	$	–		$	(1,148	)	$	2,846
Long-term debt issued		2,414			3,008			1,659
Long-term debt matured, redeemed, or repurchased		(1,644	)		(868	)		(1,155	)
Dividends paid		–			(109	)		(436	)
Other, net		(214	)		(316	)		86
Net cash provided by financing activities	$	556		$	567		$	3,000

Net cash generated through financing activities in 2002, 2001, and 2000 was principally achieved through long-term debt issuances and increased borrowings under new and existing credit facilities. The decrease in net cash provided by financing activities in 2002, compared to 2001, of $11 million, was a result of the Utility's repayment of long-term debt, partly offset by PG&E NEG's increased borrowings under new and existing credit facilities.

During 2002, PG&E Corporation negotiated new terms to amend the Original Credit Agreement, reducing the principal balance from $1 billion to $720 million which included $300 million in new long-term debt.

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RESULTS OF OPERATIONS

In this section, PG&E Corporation discusses earnings and the factors affecting them for each operating segment. The table below details certain items from the accompanying Consolidated Statements of Operations by operating segment for the years ended December 31, 2002, 2001, and 2000.

				PG&E National Energy Group
(in millions)	Utility			Total PG&E NEG			Integrated Energy & Marketing Activities			Interstate Pipeline Operations		PG&E NEG Eliminations			PG&E Corporation, Eliminations and Other (1)			Total
2002
Operating revenues (2)	$	10,514		$	2,075		$	1,855		$	253	$	(33	)	$	(94	)	$	12,495
Operating expenses		6,601			4,812			4,653			109		50			(50	)		11,363
Operating income (loss)	$	3,913		$	(2,737	)	$	(2,798	)	$	144	$	(83	)	$	(44	)		1,132
Interest income																			132
Interest expense																			(1,454	)
Other income (expense), net																			90
Loss before income taxes																			(100	)
Income benefit																			(43	)
Loss from continuing operations																			(57	)
Net loss																		$	(874	)
2001 (3)
Operating revenues (2)	$	10,462		$	1,920		$	1,680		$	246	$	(6	)	$	(172	)	$	12,210
Operating expenses		7,984			1,787			1,679			109		(1	)		(152	)		9,619
Operating income (loss)	$	2,478		$	133		$	1		$	137	$	(5	)	$	(20	)		2,591
Interest income																			167
Interest expense																			(1,209	)
Other income (expense), net																			(31	)
Income before income taxes																			1,518
Income taxes																			535
Income from continuing operations																			983
Net income																		$	1,099
2000 (3)
Operating revenues (2)	$	9,637		$	3,127		$	2,009		$	1,112	$	6		$	(196	)	$	12,568
Operating expenses		14,838			2,858			1,937			906		15			(199	)		17,497
Operating income (loss)	$	(5,201	)	$	269		$	72		$	206	$	(9	)	$	3			(4,929	)
Interest income																			214
Interest expense																			(788	)
Other income (expense), net																			(23	)
Loss before income taxes																			(5,526	)
Income benefit																			(2,103	)
Loss from continuing operations																			(3,423	)
Net loss																		$	(3,364	)

⁽¹⁾

PG&E Corporation eliminates all inter-segment transactions in consolidation.

⁽²⁾

Operating revenues and expenses reflect the adoption during 2002 of a new accounting policy implementing a change from gross to net method of reporting revenues and expenses on trading activities. Prior year amounts for trading activities have been reclassified to conform with the new net presentation.

⁽³⁾

Prior periods amounts have been restated to reflect the reclassification of USGenNE, Mountain View, and ET Canada operating results to discontinued operations.

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PG&E Corporation – Consolidated

Overall Results

PG&E Corporation's net loss for the year ended December 31, 2002, was $874 million, compared to net income of $1,099 million for the same period in 2001, and a net loss of $3,364 million for the same period in 2000.

The significant changes in pre-tax income for both years ended December 31, 2002 and 2001, when compared to prior year are summarized in the table below:

(in millions)		2002		2001
PG&E Corporation
	Interest expense	(163	)	(87	)
	Other income	79		(1	)
Utility
	Electric revenues	852		472
	Natural gas revenues	(800	)	353
	Cost of electricity	1,292		3,967
	Deferred electric procurement costs	–		(6,465	)
	Cost of natural gas	878		(407	)
	Operating and maintenance	(432	)	302
	Depreciation amortization and decommissioning	(297	)	2,615
	Provision for loss on generation-related regulatory assets and under-collected power costs	–		6,939
	Reorganization fees and expenses	(58	)	(97	)
	Interest and other income	(49	)	(431	)
	Interest expense	(582	)	(2,750	)
PG&E NEG
	Revenues	135		(1,590	)
	Cost of revenues	(203	)	1,396
	Impairments, write-offs, and other charges	(2,767	)	–
	Operating expenses	(46	)	80
	Cumulative effect of change in accounting principle	(118	)	15
	Discontinued operations	(1,251	)	82

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PG&E Corporation's results of operations continue to be impacted by the California energy crisis, the Utility's bankruptcy filing, and the current liquidity and financial downturn at PG&E NEG. The overall results of the Utility and PG&E NEG are discussed separately below. Please see the Liquidity and Financial Resources section above, and Notes 2 and 3 of the Notes to the Consolidated Financial Statements for more information.

The changes in performance for the years ended December 31, 2002 and 2001, are attributable to the following factors:

PG&E Corporation

Interest Expense

In the third quarter, PG&E Corporation wrote off unamortized loan fees and discounts of $83 million relating to the prepayments of a portion of outstanding debt and $70 million relating to ratings waiver extensions. In addition, PG&E Corporation wrote off $38 million of unamortized loan discounts representing the value of unvested PG&E NEG options associated with the note prepayment.

Other Income

The third quarter change in the market value of vested PG&E NEG warrants previously issued in connection with the PG&E Corporation March 1, 2001, Credit Agreement totaled $71 million.

Dividends

No dividends were declared in 2002 or 2001 in accordance with the Credit Agreement, which prohibits PG&E Corporation from declaring or paying dividends until the term loans have been repaid.

In March 2001, PG&E Corporation paid $109 million of defaulted fourth quarter 2000 dividends in conjunction with the refinancing of PG&E Corporation obligations.

Utility

Electric Revenues

The following table shows a breakdown of the Utility's electric revenue by customer class:

(in millions)		Year ended December 31,
		2002			2001			2000
Residential		$	3,646		$	3,396		$	3,062
Commercial			4,588			4,105			3,110
Industrial			1,449			1,554			1,053
Agricultural			520			525			420
	Total		10,203			9,580			7,645
Direct access credits		$	(285	)	$	(461	)	$	(1,055	)
DWR pass-through revenue			(2,056	)		(2,173	)		–
Miscellaneous			316			380			264
	Total electric operating revenues	$	8,178		$	7,326		$	6,854

Electric revenues in 2002 increased $852 million, or 11.6 percent, from 2001. This increase in electric revenues was primarily due to three factors:

•

The amount of CPUC-authorized surcharges increased $751 million in 2002 from 2001. This increase reflects the collection of a $0.035 per kilowatt-hour (kWh) surcharge, effective June 2001, for all of 2002, as compared to the collection of this surcharge for only seven months during the twelve-month period ended December 31, 2001.



•

Direct access credits in 2002 decreased $176 million from 2001. In accordance with CPUC regulations, the Utility provides an energy credit to direct access customers (those who buy their electricity from another energy service provider, or ESP). The Utility bills direct access customers based on fully bundled rates, which includes generation, distribution, transmission, and other components. However, each direct access customer receives an energy credit equal to the procurement component of the fully bundled rates, which includes (1) the Utility's estimated procurement and generation cost, and (2) the Utility's

36

generation component of the frozen rate for electricity provided by the DWR.

The decrease in direct access credits was due to a decrease in the average direct access credit per kWh offset by an increase in the total electricity provided to direct access customers by ESPs. The average direct access credit per kWh was higher in 2001 because in the beginning of 2001 the Utility used the California Power Exchange (PX) price for wholesale electricity to calculate direct access credits. Subsequent to the closure of the PX in January 2001, direct access credits have been calculated based on the procurement component of the fully bundled rate, which has been significantly lower than the PX price. The average direct access credit decreased from $0.116 per kWh in 2001 to $0.038 per kWh in 2002. In 2002, ESPs supplied approximately 7,433 gigawatt-hours (GWh) of electricity to direct access customers, compared to 3,982 GWh in 2001.

•

Revenue passed through to the DWR decreased by $117 million in 2002. The Utility passes revenue through to the DWR for electricity procured by the DWR to cover the Utility's net open position (the amount of electricity needed by retail electric customers that cannot be met by utility-owned generation or electricity under contract to the Utility). Since January 2001, the DWR has been responsible for procuring electricity required to cover the Utility's net open position. Revenues collected on behalf of the DWR and the related costs are not included in the Utility's Consolidated Statement of Operations because the Utility acts only as the DWR's billing and collection agent.

The decrease in DWR pass-through revenues in 2002 was primarily due to a decrease in the Utility's net open position, which was created by (1) an increase in electricity supplied by ESPs to direct access customers, and (2) an increase in the amount of electricity the Utility was able to purchase from QFs due to renegotiated payment terms through the Utility's bankruptcy proceeding. The decrease in the Utility's net open position in 2002 was partially offset by the accrual of an additional $369 million in pass-through revenues in 2002 due to changes proposed by the DWR to the methodology used to calculate DWR remittances (see Note 2 of the Notes to the Consolidated Financial Statements).

Electric revenues in 2001 increased $472 million, or 6.9 percent, from 2000 mainly due to the CPUC-authorized surcharges implemented in January and June 2001 and a decrease in direct access credits. The decrease in direct access credits was due to a decrease in total electricity provided to direct access customers by direct access ESPs. In 2001, energy service providers supplied approximately 3,982 GWh of electricity to direct access customers, compared to 9,662 GWh in 2000.

The increase in electric revenues in 2001 was offset by revenues of $2,173 million passed through to the DWR in 2001, with no such amount in 2000.

Cost of Electricity

The following table shows a breakdown of the Utility's cost of electricity:

(in millions)	Year ended December 31,
	2002			2001			2000
Cost of purchased power	$	1,980		$	3,224		$	6,642
Fuel used in own generation		97			102			99
Other adjustments to cost of electricity		(595	)		(552	)		–
Total cost of electricity	$	1,482		$	2,774		$	6,741
Average cost of purchased power per kWh	$	0.081		$	0.143		$	0.152
Total purchased power (GWh)		24,552			22,592			43,762

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The cost of electricity in 2002 decreased $1,292 million, or 46.6 percent, from 2001. The decrease was attributable to the following factors:

•

A decrease in the average cost of purchased power. The more favorable price reflected the significantly lower prices for electricity subsequent to the stabilization of the energy market in the second half of 2001. In addition, the average cost of electricity decreased because the Utility purchased more electricity from QFs, other generators, and irrigation districts, which provided electricity at a lower cost than the electricity the Utility purchased on the market in the beginning of 2001. In 2002, the DWR purchased all of the electricity needed to meet the Utility's net open position, whereas in 2001 the Utility purchased the electricity itself through the PX market through the first half of January. As previously discussed, the Utility serves as a collection agent for the DWR and therefore does not reflect the DWR's cost of electricity in its Consolidated Statement of Operations; and



•

A net $595 million reduction to the cost of electricity recorded in March 2002 as a result of FERC and CPUC decisions, which allowed the Utility to reverse previously accrued California Independent System Operator (ISO) charges and to true-up the amount of previously accrued pass-through revenues payable to the DWR (see Note 2 of the Notes to the Consolidated Financial Statements).

Offsetting the above impacts were amounts recorded during 2001 that reduced purchased power costs by $552 million for the market value of terminated bilateral contracts with no similar amounts in 2002.

The cost of electricity in 2001 decreased $3,967 million, or 58.8 percent, from 2000. This decrease was primarily due to the following two factors:

•

After the first half of January 2001, the Utility no longer purchased electricity through the PX market. Instead, the DWR purchased electricity on behalf of the Utility's customers to cover the Utility's net open position; and



•

A statewide energy conservation campaign led the Utility's customers to use approximately 3 percent less energy than in 2000.

In 2000, the Utility deferred $6.5 billion in under-collected electric procurement costs. At the end of 2000, the Utility could no longer conclude that its under-collected electric procurement costs and generation-related regulatory assets were probable of recovery and therefore charged $6.9 billion to expense for these costs. There were no similar events in 2001.

Natural Gas Revenues

Natural gas revenues are made up of bundled gas revenues and transportation only revenues.

The following table shows a breakdown of the Utility's natural gas revenue:

(in millions)	Year ended December 31,
	2002		2001			2000
Bundled gas revenues	$	1,882	$	3,107		$	2,229
Transportation service only revenue		316		375			338
Other		138		(346	)		216
Total Natural Gas Revenues	$	2,336	$	3,136		$	2,783

In 2002, natural gas revenues decreased $800 million, or 25.5 percent, from 2001 primarily as a result of a lower average cost of natural gas, which was passed along to customers through lower rates. The average bundled price of natural gas sold during 2002 was $6.72 per thousand cubic feet (Mcf) as compared to $10.55 per Mcf in 2001.

The decrease in transportation service only revenue resulted primarily from a decrease in

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demand for gas transportation services by gas-fired electric generators in California.

Increases in other gas revenues were mainly due to a decrease in the deferral of natural gas revenue in 2002, which was attributed to the abnormally high price for natural gas in the beginning of 2001. The Utility tracks natural gas revenues and costs in natural gas balancing accounts. Over-collections and under-collections are deferred until they are refunded to or received from the Utility's customers through rate adjustments.

In 2001, natural gas revenues increased $353 million, or 12.7 percent, due to a higher average cost of natural gas, which was passed on to customers through higher rates. The average bundled price of natural gas sold during 2001 was $10.55 per Mcf, compared to $8.40 per Mcf in 2000. The increase was offset by an approximate 4 percent decrease in usage in 2001 primarily as a result of conservation efforts.

The increase in transportation service only revenue was primarily due to an increase in demand for gas transportation services by gas-fired electric generators in California.

Decreases in other gas revenues were mainly due to an increase in the deferral of natural gas revenue in 2001, which was attributed to the abnormally high price for natural gas in 2001. As previously discussed, over-collections are deferred in natural gas balancing accounts until they are refunded to customers through rate adjustments.

Cost of Natural Gas

The following table shows a breakdown of the Utility's cost of natural gas:

(in millions)	Year ended December 31,
	2002		2001		2000
Cost of natural gas purchased	$	853	$	1,593	$	1,331
Cost of gas transportation		101		239		94
Total cost of natural gas	$	954	$	1,832	$	1,425

In 2002, the Utility's cost of natural gas decreased $878 million, or 47.9 percent, from 2001 primarily due to a decrease in the average market price of natural gas purchased from $6.77 per Mcf in 2001 to $3.38 per Mcf in 2002.

Additionally, the Utility's cost to transport gas to its service area decreased significantly in 2002 due to $111 million in costs recognized in 2001 related to the involuntary termination of gas transportation hedges caused by a decline in the Utility's credit rating. There were no similar events in 2002.

In 2001, the Utility's cost of natural gas increased $407 million, or 28.6 percent, primarily due to an increase in the average cost of natural gas from $5.07 per Mcf in 2000 to $6.77 per Mcf in 2001. Furthermore, as mentioned above, in 2001 the Utility's cost to transport gas to its service area increased significantly due to $111 million in costs related to the involuntary termination of gas transportation hedges.

Other Operating Expenses

Operating and Maintenance

In 2002, the Utility's operating and maintenance expenses increased $432 million, or 18.1 percent, from 2001. This increase is mainly due to the following factors:

•

Increases in employee benefit plan-related expenses primarily due to unfavorable returns on plan investments and lower interest rates, which caused a decrease in discount rates on the Utility's present-valued benefit obligations;



•

Increases in environmental liability estimates;



•

Increases in customer accounts and service expenses related to the Utility's new customer billing system;



•

The amortization of previously deferred electric transmission related costs, which are now being collected in rates; and



•

The deferral of over-collected electric revenue associated with the rate reduction

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bonds. Prior to 2000, these revenues were used to finance the rate reduction implemented in 1998.

In 2001, the Utility's operating and maintenance expenses decreased $302 million, or 11.2 percent, primarily due to a reserve for chromium litigation of $140 million recorded in 2000, and lower regulatory and generation-related costs.

Depreciation, Amortization, and Decommissioning

Depreciation, amortization, and decommissioning expenses increased $297 million, or 33.1 percent, in 2002. This increase was due mainly to amortization of the rate reduction bond regulatory asset, which began in January 2002, and totaled $290 million through December 31, 2002. The rate reduction bond regulatory asset is discussed further in the "Regulatory Matters" section of this MD&A.

Depreciation, amortization, and decommissioning expenses decreased $2,615 million, or 74.5 percent, in 2001 due to accelerated depreciation of generation-related assets in 2000. Less depreciation was recorded in 2001 as the majority of the generation-related assets had been fully depreciated after the acceleration.

Interest Income

In accordance with the American Institute of Certified Public Accountants' Statement of Position (SOP) 90-7, the Utility reports reorganization interest income separately on the Consolidated Statements of Operations. Such income primarily includes interest earned on cash accumulated during the proceedings. Interest income decreased $49 million, or 39.8 percent, in 2002. The decrease in interest income in 2002 was due in most part to lower average interest rates on the Utility's short-term investments.

In 2001, the Utility's interest income decreased $63 million, or 33.9 percent, compared to 2000 due primarily to the write-off of generation-related regulatory balancing account interest. The decrease was offset by increases in interest on short-term investments and balancing accounts.

Interest Expense

In 2002, the Utility's interest expense increased $14 million, or 1.4 percent, from 2001 due to the Utility's bankruptcy proceeding, which has resulted in higher negotiated interest rates and an increased level of unpaid debts accruing interest. See the discussion of interest rates in Note 2 of the Notes to the Consolidated Financial Statements.

In 2001, the Utility's interest expense increased $355 million, or 57.3 percent, compared to 2000 due to increased debt levels and higher interest rates as a result of the Utility's credit rating downgrade and subsequent bankruptcy.

Reorganization Fees and Expenses

In accordance with SOP 90-7, the Utility reports reorganization fees and expenses separately on the Consolidated Statements of Operations. Such costs primarily include professional fees for services in connection with Chapter 11 proceedings and totaled $155 million in 2002 and $97 million in 2001.

PG&E NEG

Overall Results

The year ended 2002 included an expected loss on the disposal of USGenNE of $1.1 billion and on ET Canada of $25 million. Additionally, the earnings from operations of USGenNE, ET Canada, and Mountain View were reclassified to discontinued operations. USGenNE, ET Canada, and Mountain View Power Partners, LLC and Mountain View Power Partners II, LLC (collectively referred to as Mountain View) were determined to be Assets Held for Sale per SFAS No. 144. As such, their operating results were reclassified to discontinued operations and an evaluation of the value on an asset-by-asset basis conducted. PG&E NEG determined that USGenNE's and ET Canada's book values exceeded their anticipated selling prices and as such recorded losses on disposal. Earnings from

40

operations included in discontinued operations were $11 million or a decrease of $96 million principally due to USGenNE's unfavorable operating results and market conditions in New England.

The year ended 2002 included a net loss for the cumulative effect of a change in accounting principle of $61 million. The cumulative effect was based on PG&E NEG's adoption as of April 1, 2002, of interpretations issued by the Derivatives Implementation Group (DIG), DIG C15 and DIG C16, reflecting the mark-to-market value of certain contracts that had previously been accounted for under the accrual basis as normal purchases and sales.

PG&E NEG's income from continuing operations (after-tax) was a loss of $2.2 billion in 2002 or a decrease of $2.3 billion from the prior year. The decline in pre-tax operating income was mainly due to one-time impairments, write-offs and other charges previously discussed and taken during 2002 of $2.8 billion.

PG&E NEG's net income (after discontinued operations and cumulative effect of a change in accounting principle) was $171 million for the year ended 2001, an increase of $19 million from the year ended 2000.

The year ended 2001 included earnings from discontinued operations related to USGenNE, Mountain View, and ET Canada of $107 million, or an increase of $8 million from 2000. In addition, the year ended 2000 included a loss from discontinued operations of $40 million related to losses on the disposal of PG&E Energy Services Corporation.

The year ended 2001 included a net gain for the cumulative effect of a change in accounting principle of $9 million. The cumulative effect was based on an interpretation issued by the DIG C11 that clarified how certain commodity contracts should be treated. In applying this new DIG guidance, PG&E NEG determined that one of its derivative contracts no longer qualified for normal purchases and sales treatment and must be marked-to-market through earnings.

PG&E NEG's income from continuing operations (after-tax) was $55 million in 2001 or a decrease of $38 million from the prior year. The decline in pre-tax operating income of $97 million in 2001 was primarily due to the sale of Pacific Gas Transmission Teco, Inc., and subsidiaries (collectively referred to as PG&E GTT) in December 2000 which provided operating income of $77 million in 2000, and a charge in the fourth quarter of 2000 of $60 million related to the termination of certain contracts resulting from the Enron bankruptcy (principally related to PG&E NEG's energy trading business). These declines were partially offset by the sale of a development project in the third quarter of 2001, which provided operating income of $23 million, and general improvement in operating margins in the Integrated Energy and Marketing Activities (Energy) segment. Net interest expense was $33 million lower in 2001 as compared to the prior year, principally due to increased capitalization of interest for projects under construction.

Operating Revenues

PG&E NEG's operating revenues were $2.1 billion for the year ended 2002, an increase of $155 million from the year ended 2001. These revenue increases occurred primarily in PG&E NEG's Energy segment principally due to new generation plants coming on line within the wholesale energy business. The principal drivers in this increase were PG&E NEG's Interstate Pipeline Operation (Pipeline) segments operating revenues, which increased $7 million, were due to the North Baja pipeline commencing operations and PG&E GTN contract termination settlements. These operating revenue increases in the Pipeline segment were slightly offset by weak pricing fundamentals on gas transportation to the California and Pacific Northwest gas markets compared to the same period last year.

PG&E NEG's operating revenues were $1.9 billion in 2001, a decrease of $1.2 billion or 39 percent from 2000. This decline in operating revenues occurred within both PG&E NEG's Energy and Pipeline segments. The decline in PG&E NEG's Energy segment of $329 million is mainly due to lower trade volumes and lower

41

realized prices in the third and fourth quarter of 2001. These declines generally were due to higher commodity prices in the wake of the California energy crisis in the second half of 2000 and the decline in economic activity in the U.S. in the second half of 2001. The decline in PG&E NEG's Pipeline segment of $866 million is primarily due to the sale of PG&E GTT in December 2000.

Operating Expenses

PG&E NEG's operating expenses were $4.8 billion for the year ended 2002, an increase of $3 billion from the same period in the prior year. These increases occurred primarily in PG&E NEG's Energy segment, principally due to impairments, write-offs, and other charges previously discussed of $2.8 billion. The cost of commodity sales and fuel increased $197 million in line with the increases in operating revenues, compressed spark spreads, and new generation plants coming on line within the wholesale energy business. Operations, maintenance and management costs increased $33 million in 2002 as compared to the same period last year primarily due to new plants coming on line. In addition, depreciation and amortization costs increased $15 million in the period also mainly due to new plants coming on line. Administrative and general costs increased in 2002 as compared to the same period last year due to charges associated with PG&E NEG's cost reduction and restructuring programs. These increases were slightly offset on a year-to-date basis by lower costs in the first half of 2002 associated with lower employee related expense.

PG&E NEG's operating expenses were $1.8 billion in 2001, a decrease of $1.1 billion from 2000. This decline in operating expenses occurred within both PG&E NEG's Energy and Pipeline segments. The decline in PG&E NEG's Energy segment of $258 million is mainly due to lower trade volumes and lower realized prices achieved primarily in the third and fourth quarters of 2001. These declines generally were due to higher commodity prices in the wake of the California energy crisis in the second half of 2000, and the decline in economic activity in the U.S. in the second half of 2001. The decline in PG&E NEG's Pipeline segment of $792 million is primarily due to the sale of PG&E GTT in December 2000.

INFLATION

PG&E Corporation and the Utility prepare financial statements in accordance with accounting principles generally accepted in the United States of America. This means PG&E Corporation and the Utility report operating results in terms of historical costs and do not evaluate the impact of inflation.

Inflation affects construction costs, operating expenses, and interest charges. In addition, the Utility's electric revenues do not reflect the impact of inflation due to the current electric rate freeze. However, PG&E Corporation and the Utility do not expect current inflation levels to have a material adverse impact on PG&E Corporation's or the Utility's financial position or results of operations.

REGULATORY MATTERS

A significant portion of PG&E Corporation's operations is regulated by federal and state regulatory commissions. These commissions oversee service levels and, in certain cases, PG&E Corporation's revenues and pricing for its regulated services.

Utility

The Utility is the only subsidiary with significant regulatory proceedings or issues at this time. These are discussed below. Regulatory proceedings associated with electric industry restructuring are further discussed in Note 2 of the Notes to the Consolidated Financial Statements.

DWR Revenue Requirement and Servicing Order

In January 2001, the DWR began purchasing electricity on behalf of the Utility's customers in accordance with a new state law, Assembly Bill (AB) 1X, that authorized the DWR to purchase electricity for California utility customers to the

42

extent that it could not be supplied or purchased by the utilities (the amount of electricity needed to meet customers' demand that cannot be provided by the IOUs, either through their own generation or by suppliers under contracts with the IOUs, is referred to as the net open position). The DWR initially purchased electricity on the spot market until it was able to enter into long-term contracts for the supply of electricity. Under AB 1X, the DWR was prohibited from entering into new agreements to purchase electricity to meet the net open position of the California IOUs after December 31, 2002.

The DWR pays for its costs of purchasing electricity from a revenue requirement charged to Utility ratepayers (power charge) and proceeds of the DWR's $11.3 billion bond financing completed in November 2002 (see "DWR Bond Charge" below).

In February 2002, the CPUC approved a decision that set the statewide DWR revenue requirement for 2001 and 2002. In March 2002, the CPUC reallocated the amounts contained in the February 2002 decision among the customers of the three California IOUs. The March 2002 decision allocated $4.4 billion of a total statewide power charge revenue requirement of approximately $9.0 billion to the Utility's customers. Of the $4.4 billion allocated to the customers of the Utility, approximately $1.8 billion related to 2002 power charges and approximately $2.6 billion related to 2001 power charges.

In May 2002, the CPUC approved a servicing order between the Utility and the DWR, which sets forth the terms and conditions under which the Utility provides the transmission and distribution of the DWR-purchased electricity; addresses billing, collection and related services on behalf of the DWR; and addresses the DWR's compensation to the Utility for providing these services. In October 2002, the DWR filed a proposed amendment to the CPUC's May 2002 servicing order. The DWR's proposed amendment changes the calculation that determines the amount of revenues that the Utility must pass-through to the DWR. This proposed amendment would also be used to true-up previous amounts passed through to the DWR as well as future payments. Under its statutory authority, the DWR may request the CPUC to order the utilities to implement such amendments, and the CPUC has approved such amendments in the past without significant change. In December 2002, the CPUC approved an operating order requiring the Utility to perform the operational, dispatch, and administrative functions for the DWR's allocated contracts beginning on January 1, 2003. (See "CPUC Operating Order" below.) The operating order, which applies prospectively, includes the DWR's proposed method of calculating the amount of revenues that the Utility must pass-through to the DWR. As a result, as of December 31, 2002, the Utility has accrued an additional $369 million (pre-tax) liability for pass-through revenues for electricity provided by the DWR to the Utility's customers in 2002 and 2001. A separate proceeding will consider a revision or true-up for the revenue requirements remitted to the DWR for 2002 and 2001 costs, once final 2002 cost data is available. This true-up proceeding is scheduled for April 2003.

In December 2002, the CPUC issued a decision allocating approximately $2 billion of the DWR's 2003 power charge-related revenue requirement to the Utility's customers. This revenue requirement includes the costs associated with the DWR contracts allocated to the Utility's customers by the CPUC in September 2002. The DWR plans to submit a revised 2003 power charge-related revenue requirement to the CPUC in late March 2003.

Before the DWR's 2003 statewide revenue requirement filing with the CPUC in August 2002, the Utility filed comments with the DWR alleging that major portions of the DWR's revenue requirements were not "just and reasonable" as required by AB 1X and that the DWR was not complying with the procedural requirements of AB 1X in making its determination. On August 26, 2002, the Utility filed with the DWR a motion for reconsideration of the DWR's determination that its revenue requirements were "just and reasonable." The DWR denied the Utility's motion on October 8, 2002. On October 17, 2002, the Utility filed a lawsuit in a

43

California court asking the court to find that the DWR's revenue requirements had not been demonstrated to be "just and reasonable" and lawful, and that the DWR had violated the procedural requirements of AB 1X in making its determination. In part, the Utility based its allegations on the State of California's petition pending before the FERC seeking to set aside many of the DWR contracts on the basis that they are not "just and reasonable." The Utility asked that the court order the DWR's revenue requirement determination be withdrawn as invalid, and that the DWR be precluded from imposing its revenue requirements on the Utility and its customers until it has complied with the law. No schedule has yet been set for consideration of the lawsuit.

Until the CPUC modifies the curent frozen rate structure, changes to the DWR's 2003 revenue requirement may affect the Utility's future earnings. Because the Utility acts as a collection agent for the DWR, amounts collected on behalf of the DWR (related to its revenue requirement) are excluded from the Utility's revenues.

DWR Bond Charge

On October 24, 2002, the CPUC issued a decision that, in part, imposes bond charges to recover the DWR's bond costs from most bundled customers starting November 15, 2002, although the decision found that the Utility would not need to increase customer's overall rates to incorporate the bond charge. The DWR bond charge also will be imposed on all direct access customers, as described below.

On December 30, 2002, the CPUC revised the 2003 bond charge to $0.005 per kWh, effective January 6, 2003. The Utility expects to accrue bond-related charges of approximately $336 million during the 12 months ending November 14, 2003.

Until the CPUC implements bottoms-up billing (billing for specific rate components) for the Utility, any bond charges will reduce the amount of revenue available to recover previously written-off under-collected purchased power costs and transition costs.

Senate Bill 1976

Under AB 1X, the DWR is prohibited from entering into new agreements to purchase electricity to meet the net open position of the California IOUs after December 31, 2002. In September 2002, the Governor signed California SB 1976 into law. SB 1976 required that each California IOU submit, within 60 days after the CPUC allocated existing DWR contracts for electricity procurement to the customers of each California IOU, an electricity procurement plan to meet the residual net open position associated with that utility's customer demand. SB 1976 requires that each procurement plan include one or more of the following features:

•

A competitive procurement process under a format authorized by the CPUC, with the costs of procurement obtained in compliance with the authorized bidding format being recoverable in rates;



•

A clear, achievable, and quantifiable incentive mechanism that establishes benchmarks for procurement and authorizes the IOUs to procure electricity from the market subject to comparison with the CPUC-authorized benchmarks; or



•

Upfront and achievable standards and criteria to determine the acceptability and eligibility for rate recovery of a proposed transaction and an expedited CPUC pre-approval process for proposed bilateral contracts to ensure compliance with the individual utility's procurement plan.

SB 1976 provides that the CPUC may not approve the procurement plan if it finds the plan contains features or mechanisms, which would impair restoration of the IOU's creditworthiness or would lead to a deterioration of the IOU's creditworthiness. SB 1976 also indicates that procurement activities in compliance with an approved procurement plan will not be subject to after-the-fact reasonableness review. The CPUC is permitted to establish a regulatory process to verify and ensure that each contract was administered in accordance with its terms

44

and that contract disputes are resolved reasonably.

A central feature of the SB 1976 regulatory framework is its direction to the CPUC to create new electric procurement balancing accounts to track and allow recovery of the differences between recorded revenues and costs incurred under an approved procurement plan. The CPUC must review the revenues and costs associated with the IOU's electric procurement plan at least semi-annually and adjust rates or order refunds, as appropriate, to properly amortize the balancing accounts. Until January 1, 2006, the CPUC must establish the schedule for amortizing the over-collections or under-collections in the electric procurement balancing accounts so that the aggregate over-collections or under-collections reflected in the accounts do not exceed 5 percent of the IOU's actual recorded generation revenues for the prior calendar year, excluding revenues collected on behalf of the DWR. Mandatory semi-annual review and adjustment of the balancing accounts will continue until January 1, 2006, after which time the CPUC is required to conduct electric procurement balancing account reviews and adjust retail ratemaking amortization schedules for the balancing accounts as the CPUC deems appropriate and in a manner consistent with the requirements of SB 1976 for timely recovery of electric procurement costs.

On January 1, 2003, the California IOUs resumed the function of procuring electricity to meet that portion of their customers' needs that is not covered by the combination of the allocation of electricity from existing DWR contracts and the IOU's own electric resources and contracts.

Allocation of DWR Electricity to Customers of the IOUs

Consistent with applicable law and CPUC orders, since 2001, the Utility and the other California IOUs have acted as the billing and collection agents for the DWR's sales of its electricity to retail customers. In September 2002, the CPUC issued a decision to allocate the electricity provided under existing DWR contracts to the customers of the IOUs. This decision required the Utility, along with the other IOUs, to begin performing all the day-to-day scheduling, dispatch, and administrative functions associated with the DWR contracts allocated to the IOUs' portfolios on January 1, 2003. The DWR retains legal and financial responsibility for these contracts.

Under AB 1X, the CPUC has no review authority over the reasonableness of procurement costs in the DWR's contracts, although the Utility's administration of DWR contracts allocated to its customers and its dispatch of the electricity associated with those contracts may be subject to reasonableness reviews. Under a December 2002 interim opinion, the CPUC established a maximum annual procurement disallowance equal to twice the Utility's annual administrative costs of managing procurement activities, including the administration and dispatch of electricity associated with DWR allocated contracts. The Utility anticipates that its annual administrative cost of managing procurement activities in 2003 will be approximately $18 million.

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The DWR has stated publicly that it intends to transfer full legal title of, and responsibility for, the DWR electricity contracts to the IOUs as soon as possible. However, SB 1976 does not contemplate a transfer of title of the DWR contracts to the IOUs. In addition, the operating order issued by the CPUC in December 2002 implementing the Utility's operational and scheduling responsibility with respect to the DWR allocated contracts specifies that the DWR will retain legal and financial responsibility for the contracts and that the December 2002 order does not result in an assignment of the DWR allocated contracts to the Utility. However, there can be no assurance that either the State of California or the CPUC will not provide the DWR with authority to affect such a transfer of legal title in the future. The Utility has informed the CPUC, the DWR, and the State of California that the Utility would vigorously oppose any attempt to transfer the DWR allocated contracts to the Utility without its consent.

CPUC Operating Order

In December 2002, the CPUC adopted an operating order requiring the Utility to perform the operational, dispatch, and administrative functions for the DWR's allocated contracts beginning on January 1, 2003. (Similar operating orders were also adopted for the other two California IOUs.) The operating order sets forth the terms and conditions under which the Utility will administer the DWR allocated contracts and requires the Utility to dispatch all of the generating assets within its portfolio on a least-cost basis for the benefit of the Utility's customers. The order specifies that the DWR will retain legal and financial responsibility for the DWR allocated contracts and that the order does not result in an assignment of the allocated DWR contracts to the Utility.

Operating Agreement

The CPUC had previously ordered the IOUs to work with the DWR to submit to the CPUC proposed operating agreements governing the DWR allocated contracts. When the operating orders were issued, the DWR and the IOUs had not yet finalized their separate operating agreements. In its decision issuing the operating orders, the CPUC noted that if the IOUs and the DWR eventually reach mutual agreement, the CPUC would consider modifying its decision on an expedited basis to terminate the operating orders and approve the operating agreements, assuming that the operating agreements adopted a framework that was substantially similar to the one imposed by the operating orders.

On December 20, 2002, the Utility and the DWR executed an operating agreement following several months of negotiation. The agreement provides that it will not become effective unless approved by the CPUC. The Utility has submitted the agreement to the CPUC for approval and has requested that the CPUC terminate the operating order and approve the operating agreement.

Although the operating order and the operating agreement have fundamentally the same objectives, the operating agreement, among other things:

•

Provides an adequate contractual basis for establishing a limited agency relationship between the Utility and the DWR;

•

Limits the Utility's contractual liability to the DWR and other parties to $5 million per year plus 10 percent of damages in excess of $5 million with a limit of $50 million over the term of the agreement; and

•

Clarifies that the DWR does not intend to, nor is it the DWR's responsibility to, review the Utility's least-cost dispatch performance, other than to verify compliance with the supplier contracts.

On December 30, 2002, the Utility filed an application for rehearing of the operating order decision with the CPUC. On January 1, 2003, after having reserved all rights associated with challenges to the operating order, the Utility commenced providing contract administration, scheduling and dispatch services to the DWR under the CPUC's operating order.

Approval of Procurement Plan

In October 2002, the CPUC issued a decision ordering the Utility to resume full procurement on January 1, 2003. In December 2002, the CPUC

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issued an interim opinion adopting the revised electricity procurement plan for 2003 that the Utility submitted in 2002 and authorized the Utility to enter into contracts designed to hedge its residual net open position for the first quarter of 2004. The CPUC found that the maximum annual procurement disallowance exposure that each IOU should face for all of its procurement activities should be limited to twice the IOU's annual administrative costs of managing procurement activities, including its administration and dispatch of electricity associated with DWR contracts allocated to its customers. The Utility anticipates that its annual administrative costs of managing procurement activities in 2003 will be approximately $18 million. While the Utility's procurement plan covered procurement activities only for the 2003 calendar year, the CPUC authorized the IOUs to extend their planning into the first quarter of 2004.

Effective January 1, 2003, the Utility established the Energy Resource Recovery Account (ERRA) to record and recover electricity costs, excluding the DWR's electricity contract costs, associated with the Utility's authorized procurement plan. Electricity costs recorded in the ERRA include, but are not limited to, fuel costs for retained generation, QF contracts, inter-utility contracts, ISO charges, irrigation district contracts, other power purchase agreements, bilateral contracts, forward hedges, pre-payments, collateral requirements associated with procurement (including disposition of surplus electricity), and ancillary services. The Utility offsets these costs by reliability-must-run revenues, the Utility's allocation of surplus sales revenues and the ERRA revenue requirement. The CPUC has approved, on a preliminary basis, a starting ERRA revenue requirement of $2.0 billion for the Utility.

The CPUC has authorized the Utility to file an application to change retail electricity rates at any time that its forecasts indicate it will face an under-collection of electricity procurement costs in excess of 5 percent of its prior year's generation and procurement revenues, excluding amounts collected for the DWR. The Utility currently estimates that its 5 percent threshold amount will be approximately $224 million.

In February 2003, the Utility filed its 2003 ERRA forecast application requesting that the CPUC reset the Utility's 2003 ERRA revenue requirement to $1.4 billion and that the ERRA trigger threshold of $224 million be adopted. The CPUC will examine the Utility's forecast of costs for 2003 and will finalize the Utility's starting ERRA revenue requirement and ERRA trigger threshold when it reviews the Utility's ERRA application.

The Utility intends to submit its long-term procurement plan, covering the next 20 years by April 1, 2003, and the CPUC has stated that it plans to issue a final decision on the Utility's long-term procurement plan in November 2003.

In April 2001, the California Public Utilities Code was amended to require that the CPUC ensure that errors in estimates of demand elasticity or sales by the Utility do not result in material over- or under-collections of costs by the Utility. The Utility intends to address implementation of this new law in connection with pending proceedings at the CPUC relating to recovery of components of its costs of service.

2001 Annual Transition Cost Proceeding: Review of Reasonableness of Electricity Procurement

On January 11, 2002, as directed by the CPUC, the Utility filed a report with the CPUC detailing the reasonableness of the Utility's electric procurement and generation scheduling and dispatch activities for the period July 1, 2000, through June 30, 2001. In this proceeding, the CPUC will review the reasonableness of the Utility's procurement of wholesale electricity from the PX and ISO during the height of the 2000 - 2001 California energy crisis. With the exception of a limited right to purchase electricity from third parties beginning in August 2000, all of the Utility's wholesale electric purchases during this period were required to be made exclusively from or through the PX and ISO markets pursuant to FERC-approved tariffs. Prior CPUC decisions have determined that such purchases should be deemed reasonable. In addition, the Utility's complaint against the CPUC Commissioners asserts that the costs of such purchases are recoverable in the Utility's retail

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rates without further review by the CPUC under the federal filed rate doctrine. However, a CPUC administrative law judge is asserting jurisdiction to review the reasonableness of the Utility's wholesale electric purchases from the PX and ISO in the proceeding. A report from the CPUC's Office of Ratepayer Advocates (ORA) regarding the Utility's procurement activities for the covered period is due April 28, 2003. It is possible this review could result in disallowance of certain costs associated with the Utility's purchases from the PX and ISO during the 2000 - 2001 period.

Retained Generation Revenue Requirement

The CPUC has approved a 2002 revenue requirement of $3 billion for recovery of costs of generation the Utility retains, including electric purchase expenses, depreciation, operating expenses, taxes, and return on investment, based on the net regulatory value as of December 31, 2000.

The CPUC has allowed the Utility to recover reasonable costs incurred in 2002 for its own electric generation, subject to reasonableness review in the Utility's 2003 General Rate Case (GRC) proceeding. The decision does not change retail electric rates and the Utility does not expect it to have an impact on the Utility's results of operations. Instead, the decision defers consideration of future rate changes until the CPUC addresses the status of the retail rate freeze. The CPUC also deferred addressing recovery of the Utility's past unrecovered generation-related costs.

The CPUC is considering the Utility's 2003 retained generation revenue requirement as part of the Utility's 2003 GRC proceeding. The Utility's 2003 GRC application requested an increase in non-fuel generation revenue requirements of $149 million over the amount authorized for 2002. This requested revenue requirement increases the Utility's estimated fuel and procurement costs recorded in the ERRA (see "Approval of Procurement Plan" above), and the DWR's power charges.

Divestiture of Retained Generation Facilities

The California Legislature passed AB 6X in January 2001 prohibiting utilities from divesting their remaining power plants before January 1, 2006. The Utility believes this law does not supersede or repeal existing provisions of AB 1890, California's 1996 electric industry restructuring legislation, requiring the CPUC to establish a market value for the Utility's remaining generating assets by the end of 2001, based on appraisal, sale or other divestiture. The Utility has filed comments on this matter with the CPUC. However, the CPUC has not yet issued a decision.

On January 2, 2002, the CPUC issued a decision finding that AB 6X had materially affected the implementation of AB 1890. The CPUC scheduled further proceedings to address the impact of AB 6X on the AB 1890 rate freeze for the Utility and to determine the extent and disposition of the Utility's remaining unrecovered transition costs. In its November 2002 decision regarding surcharge revenues (see "One-Cent, Three-Cent, and Half-Cent Surcharge Revenues" below), the CPUC reiterated that it had yet to decide when the rate freeze ended and the disposition of any under-collected costs remaining at the end of the rate freeze.

On January 17, 2002, the Utility filed an administrative claim with the State of California Victim Compensation and Government Claims Board, or Claims Board, alleging that AB 6X violates the Utility's statutory rights under AB 1890. The Utility's claim seeks compensation for the denial of its right to at least a $4.1 billion market value of its retained generating facilities. On March 7, 2002, the Claims Board formally denied the Utility's claim. Having exhausted remedies before the Claims Board, on September 6, 2002, the Utility filed a complaint against the State of California for breach of contract in the California Superior Court. On January 9, 2003, the Superior Court granted the State's request to dismiss the Utility's complaint, finding that AB 1890 did not constitute a contract. The Utility has 60 days to file an appeal and intends to do so.

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Direct Access Suspension and Cost Responsibility Surcharge

Until September 2001, California utility customers could choose to buy their electricity from the Utility (bundled customers) or from an alternative power supplier through "direct access" service. Direct access customers receive distribution and transmission service from the Utility, but purchase electricity (generation) from their alternative provider. In September 2001, the CPUC, pursuant to AB 1X, suspended the right of retail end-use customers to choose direct access service, thereby preventing additional customers from entering into contracts to purchase electricity from alternative providers. Customers that entered into direct access contracts on or before September 20, 2001, were permitted to remain on direct access.

In November 2002, the CPUC issued a decision assessing an exit fee, or non-bypassable charge, on direct access customers to avoid a shift of costs from direct access customers to bundled service customers.

The decision establishes the Cost Responsibility Surcharge (CRS) and imposes a cap of $0.027 per kWh. The CPUC required the utilities to implement this surcharge on January 1, 2003. The CPUC has indicated that it will establish an expedited review schedule to determine whether the cap should be adjusted. The CPUC also has indicated that it will reach a decision on whether this cap should be adjusted, and whether trigger mechanisms for adjusting the cap should be established, by July 1, 2003. The Utility implemented the $0.027 per kWh CRS on January 1, 2003. (See "Direct Access Credits" below.)

Funds remitted under the CRS will be applied first to the DWR, then to the Utility's ongoing procurement and generation costs. Direct access customers who have returned to bundled service will be responsible for their share of the unrecovered costs resulting from the CRS. To the extent the cap results in an under-collection of DWR charges, the shortfall would have to be remitted to the DWR from bundled customers' funds. On an interim basis while the CPUC examines a long-term plan for financing the CRS, interest on under-collections will be assessed at the interest rate paid by the DWR on bonds issued to finance electricity purchases.

The Utility does not expect that the CPUC's implementation of this decision or the level of the CRS cap will have a material adverse effect on its results of operations or financial condition.

Direct Access Credits

When the direct access credit was established, direct access customers paid the full bundled rate less a credit based on the Schedule PX price. Under this methodology, when the Schedule PX price exceeded the bundled rates, the direct access customer received a bill credit. As a result, during the energy crisis, direct access customers did not contribute to the Utility's transition cost recovery nor did they pay for transmission and distribution services. Under the interim direct access credit methodology in place since the PX ceased operations in January 2001, the Utility has calculated the Schedule PX price using an estimate of its cost of service for its retained generation and the Utility's generation component of the frozen rate for energy provided by the DWR. Beginning January 1, 2003, the Utility reduced this direct access credit by the additional direct access exit fee of up to the $0.027 per kWh CRS cap.

Additionally, direct access customers paid the one-cent surcharge in 2001 and 2002, but were exempt from the three-cent surcharge and half-cent surcharge. In May 2001, the Utility also requested authorization to charge direct access customers for the three-cent surcharge. One party filed a protest indicating that direct access customers should not pay the three-cent surcharge, nor the one-cent surcharge beginning June 1, 2001. The one-cent surcharge generates approximately $80 million in revenues per year from direct access customers. The CPUC has not yet ruled on this issue. It is unclear how or whether direct access customers would be reimbursed if the CPUC rules that direct access customers should not have paid this charge. In November 2002, the CPUC determined that direct access customers should pay a portion of DWR's costs beginning in 2003 to keep bundled customers indifferent as to the level of direct

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access. As a result, on January 1, 2003, direct access customers began paying a $0.027 per kWh surcharge, and they no longer pay the $0.01 per kWh surcharge.

On May 31, 2002, the Utility filed its proposal for calculating the post-PX direct access credit that would continue allowing direct access customers to receive a credit for generation-related costs avoided as a result of their self-procurement. Specifically, the Utility proposed that the credit be based on avoided procurement costs. The Utility also proposed to move to bottoms-up billing (billing for specific rate components rather than a frozen rate) for direct access customers as quickly as possible. Under bottoms-up billing, direct access customers' rates would be calculated based on the services they actually take from the Utility, such as transmission and distribution, the fixed transition amount related to the rate reduction bond repayment (if applicable), and any non-bypassable charges that the CPUC approves including nuclear decommissioning and public purpose programs, as well as the direct access Customer Responsibility Surcharge described above. Consequently, direct access customers would pay at least the same non-procurement charges that are applicable to bundled customers.

The Utility proposed to adjust the direct access credit retroactively to December 28, 2000, using the Dow Jones Index after January 18, 2001, and to limit the amount of the credit to the price cap established by the FERC.

One-Cent, Three-Cent, and Half-Cent Surcharge Revenues

In the first quarter of 2001, the CPUC authorized the Utility to begin collecting energy purchase surcharge revenues totaling $0.04 per kWh (composed of a $0.01 per kWh surcharge revenue approved in January and a $0.03 per kWh surcharge revenue approved in March). The CPUC ordered the Utility to apply these new rates only to "ongoing procurement costs" and "future power purchases."

Although the CPUC authorized the $0.03 per kWh surcharge in March 2001, the Utility did not begin collecting the revenues until June 2001. As a result, in May 2001, the CPUC authorized the Utility to collect an additional $0.005 per kWh surcharge revenue for 12 months to make up for the time lag in collection of the $0.03 per kWh surcharge revenues. Although the collection of this "half-cent surcharge" was originally scheduled to end on May 31, 2002, the CPUC issued a resolution ordering the Utility to continue collecting the half-cent surcharge until further consideration by the CPUC. The Utility had recorded a regulatory liability for these $0.01 per kWh and $0.03 per kWh surcharge revenues when such surcharges exceeded ongoing procurement costs and a regulatory liability for the $0.005 per kWh surcharge revenues billed subsequent to May 31, 2002. These regulatory liabilities totaled $222 million as of September 30, 2002, and $65 million as of December 31, 2001.

In November 2002, the CPUC approved a decision modifying the restrictions on the use of revenues generated by the surcharges to permit the revenues to be used for the purpose of securing or restoring the Utility's reasonable financial health, as determined by the CPUC. The CPUC will determine in other proceedings how the surcharge revenues can be used, whether there is any cost or other basis to support specific surcharge levels, and whether the resulting rates are just and reasonable. After the CPUC determines when the AB 1890 rate freeze ended, the CPUC will determine the extent and disposition of the Utility's under-collected costs, if any, remaining at the end of the rate freeze. If the CPUC determines that the Utility recovered revenues in excess of its transition costs or in excess of other permitted uses, the CPUC may require the Utility to refund such excess revenues.

In a case currently pending before it relating to the CPUC's settlement with Southern California Edison (SCE), another California IOU, the Supreme Court of California is considering whether the CPUC has the authority to enter into a settlement which allows SCE to recover under-collected procurement and transition costs in light of the provisions of AB 1890. The Utility cannot predict the outcome of this case or whether the CPUC or others would attempt to apply any ruling to the Utility. If the Utility is

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ordered to refund material amounts to ratepayers, the Utility's financial condition and results of operations would be materially adversely affected.

In December 2002, the CPUC issued a decision authorizing the Utility to stop tracking amounts related to the $0.01 per kWh and $0.03 per kWh surcharge revenues as a separate regulatory liability and instead record them as a reduction of under-collected purchased power costs and transition costs. As a result, in January 2003, the Utility filed a letter with the CPUC requesting to withdraw its regulatory liability account used to track $0.01 per kWh and $0.03 per kWh surcharge revenues in excess of ongoing procurement costs.

Based on this December 2002 CPUC decision and an agreement between the CPUC and SCE, in which SCE was allowed to use its half-cent surcharge to offset its DWR revenue requirement, the Utility reversed its $222 million of regulatory liabilities related to the $0.01 per kWh and $0.03 per kWh surcharge revenues and the $0.005 per kWh surcharge revenues during the fourth quarter of 2002. (Of this amount, $157 million was originally recorded as a regulatory liability during 2002; as such, the reversal of this amount has no impact on current year earnings).

1999 GRC

Through a GRC proceeding, the CPUC authorizes an amount known as "base revenues" to be collected from ratepayers to recover the Utility's basic business and operational costs for its gas and electric distribution operations.

The 1999 GRC decision ordered an audit to assess the contribution of the Utility's 1999 electric and gas distribution capital additions to system reliability, capacity, and adequacy of service. The audit began in February 2002 and a final report was issued on November 8, 2002. The final report concludes, "in general the [Utility's] 1999 overall capital expenditure program appears quite acceptable." The final report offers recommendations to improve the Utility's distribution capital investment process, but recommends no adjustments to the Utility's distribution rate base.

In October 2001, the CPUC reopened the record in the 1999 GRC to review the Utility's actual 1998 capital spending on electric distribution compared with the forecast used to determine 1999 rates. This would result in an adjustment of the adopted 1998 capital spending forecast level to conform to the 1998 recorded level. The Utility does not expect a material impact on its financial position or results of operations from the remaining proceedings.

On December 1, 2002, the CPUC issued a decision further modifying the 1999 GRC decision that prospectively adopted a $10.6 million downward annual adjustment to supervision costs in customer records and collection expenses. There was no material impact on the Utility's financial position or results of operations.

2003 GRC

In the 2003 GRC, the CPUC will determine the amount of authorized base revenues the Utility can collect from ratepayers to recover its basic business and operational costs for gas and electric distribution operations for 2003 through 2005. On November 8, 2002, the Utility requested a $447 million increase in its electric distribution revenue requirements and a $105 million increase in its gas distribution revenue requirements, over the current authorized amounts. The Utility also will seek an attrition rate adjustment (ARA) increase for 2004 and 2005. The ARA mechanism is designed to avoid a reduction in earnings in years between GRCs to reflect increases in rate base and expenses.

The electric distribution revenue requirement increase would not increase overall bundled electric rates over their current authorized levels. However, the gas bill for a typical residential customer would rise by approximately 2.6 percent or $0.99 per month.

Additionally, as directed by the CPUC in the Utility's 2002 retained generation proceeding (see "Retained Generation Revenue Requirement" above), the Utility submitted testimony supporting the costs of operating the Utility's generation facilities and fuel and purchased

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power costs. The Utility requested an increase of approximately $61 million over the interim 2002 retained generation revenue requirement authorized by the CPUC. On October 25, 2002, the CPUC issued a decision ordering the Utility to resume the procurement function on January 1, 2003. That decision also directed the Utility to amend its GRC application to remove certain generation-related fuel and purchased power costs from its GRC and instead to include them in another CPUC proceeding. In its GRC, the Utility forecasts a decrease in these costs in 2003. This decrease offsets the forecast increase in costs to operate the Utility's generation facilities. Removing the fuel and purchase power from the generation-related revenue requirement set forth in the GRC would result in an increase in the forecast generation-related revenue requirement of approximately $80 million to $90 million.

On December 17, 2002, the CPUC granted the Utility's request that the revenue requirement established in the 2003 GRC be effective January 1, 2003, even though the CPUC will not issue a final decision on the 2003 GRC until sometime after that date.

The Utility cannot predict what amount of revenue requirements, if any, the CPUC will authorize for the 2003 through 2005 period. The CPUC Commissioner assigned to the 2003 GRC has adopted a schedule for this proceeding that includes a target date for a final decision of February 5, 2004.

2002 ARA Request

In April 2002, the CPUC conditionally authorized a request by the Utility for interim attrition relief and made any attrition relief ultimately granted effective as of April 22, 2002. In June 2002, the Utility filed its 2002 ARA application, requesting a $76.7 million increase to its annual electric distribution revenue requirement, and a $19.5 million increase to its annual gas distribution revenue requirement. In December 2002, the CPUC issued a proposed decision that would deny this request. The Utility filed comments in late December 2002 arguing that the proposed decision was based on a fundamental misunderstanding of the facts. In February 2003, the CPUC issued an alternate proposed decision granting a $63.5 million increase to the Utility's annual electric distribution revenue requirement, and a $10.3 million increase to the Utility's annual gas distribution revenue requirement. A final decision is expected to be issued in the first quarter of 2003.

In the 2003 GRC, the CPUC asked parties to comment on the Utility's need for a 2002 ARA proceeding. The Utility informed the CPUC in November 2001 that the Utility would need a 2002 ARA to recover escalating electric and gas distribution service costs.

Cost of Capital Proceedings

Each year, the Utility files an application with the CPUC to determine the authorized rate of return the Utility may earn on its electric and gas distribution assets.

On November 7, 2002, the CPUC issued a final decision in the Utility's 2003 Cost of Capital proceeding that retained the Utility's return on common equity (ROE) at the current authorized level of 11.22 percent. This final decision also increased the Utility's authorized cost of debt to 7.57 percent from 7.26 percent, and held in place the current authorized capital structure of 48 percent common equity, 46.2 percent long-term debt, and 5.8 percent equity. The final decision also holds open the case to address the impact on the Utility's ROE, costs of debt and preferred stock, and ratemaking capital structure of the implementation and financing of a bankruptcy plan of reorganization. The Utility is required to file an advice letter within 30 days of completing any such financing to request authority to true up its test year 2003 ratemaking capital structure, long-term debt and preferred stock cost, risks, and ROE. The Utility does not expect a material impact on the Utility's financial position or results of operations from the remaining proceedings.

FERC Prospective Price Mitigation Relief

In response to the unprecedented increase in wholesale electricity prices during 2000 and 2001, the FERC issued a series of orders in the

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spring and summer of 2001 and July 2002 aimed at mitigating future extreme wholesale energy prices. These orders established a cap on bids for real-time electricity and ancillary services of $250 per megawatt-hour (MWh) and established various automatic mitigation procedures. Recently, the FERC proposed to adopt a safety net bid cap as part of the mitigation plan for wholesale energy markets and has requested comments on the appropriate value for such a bid cap.

Also, in June and July 2001, the FERC's chief administrative law judge conducted settlement negotiations among power sellers, the State of California, and the California IOUs in an attempt to resolve disputes regarding past electric sales. Various parties, including the Utility and the State of California, are seeking up to $8.9 billion in refunds for electricity overcharges on behalf of buyers. The negotiations did not result in a settlement, but the judge recommended that the FERC conduct further hearings to determine possible refunds and what the power sellers and buyers are each owed. On December 12, 2002, a FERC administrative law judge issued an initial decision finding that power companies overcharged the utilities, the State of California and other buyers from October 2, 2000 to June 2001 by $1.8 billion, but that California buyers still owe the power companies $3 billion, leaving $1.2 billion in unpaid bills. The time period reviewed in the FERC hearings excludes the claims for refunds for overcharges that occurred before October 2, 2000, and after June 2001 when the DWR entered into contracts to buy electricity. Additional hearings are scheduled to conclude in February 2003.

The Utility has recorded $1.8 billion of generator claims made in its bankruptcy case as Liabilities Subject to Compromise. If the FERC administrative law judge's initial recommendation is upheld by the FERC, these claims would be reduced to approximately $1 billion based on the re-calculation of market prices according to the refund methodology recommended in the initial decision. After the FERC considers any additional evidence that may be presented, if the FERC determines that time periods before October 2, 2000, should be considered, or that additional market transactions or a different refund methodology are appropriate, such decisions could materially increase or decrease the amount of generator claims for which the Utility is determined to be liable. The Utility cannot predict the ultimate amount of generator claims for which it could be liable. The Utility also sold generation into the ISO and PX markets in the relevant time period. The amount of generator claims for which the Utility is determined to be liable would be net of any amounts owed to the Utility for such sales. The Utility cannot predict when the FERC will issue a decision, nor can it predict whether a refund will be ordered or the amount the Utility might receive.

FERC Transmission Rate Cases

Electric transmission revenues and both wholesale and retail transmission rates are regulated by the FERC. On January 29, 2003, the FERC approved a settlement that allows the Utility to recover in electric transmission rates $292 million on an annual basis from March 31, 1998, until October 29, 1998, and $316 million on an annual basis from October 30, 1998, until May 30, 1999. During that period, somewhat higher rates were collected, subject to refund. As a result of this settlement, the Utility will refund $30 million it had accrued for potential refunds related to the 14-month period ended May 30, 1999. The transmission rates charged to electric retail and new wholesale transmission customers are adjusted for other transmission revenue credits related to ISO congestion management charges and other transmission-related services billed by the ISO and remitted to the Utility as a transmission owner.

The Utility currently has other transmission rate cases pending with the FERC including:

•

An application that would allow the Utility to recover $545 million in electric retail transmission rates annually. Filed on January 13, 2003, the 44 percent increase over the revenue requirement currently in effect is mainly attributable to significant capital additions made to the Utility's transmission system to accommodate load growth, to maintain the infrastructure, and to ensure safe and reliable service. In

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addition, the request includes a 15-year useful life for transmission plant coming into service in 2003 and a return on equity of 13.5 percent. The January 13 filing date will allow proposed rates to go into effect, subject to refund, no later than August 13, 2003; and

•

A proposal for the FERC to increase the Utility's electricity and transmission-related rates charged to the WAPA. The majority of the requested increase is related to passing through market electricity prices billed to the Utility by the ISO and others for services, which apply to WAPA under a pre-existing contract between the Utility and WAPA. The FERC denied this request, as well as a request for a rehearing. The Utility has appealed the denial of its request for a rehearing to the U.S. Court of Appeals for the D.C. Circuit. Pending a decision from the Court, until December 31, 2004, the date the WAPA contract expires, the Utility will continue to calculate WAPA's rates on a yearly basis using the formula specified in WAPA's contract. Any revenue shortfall or benefit resulting from this contract is included in rates through the end of the contract period as a purchased power cost. The Utility cannot estimate the difference between its cost to meet its obligations to WAPA and revenues it receives from WAPA because both the purchase price and the amount of energy that WAPA will need from the Utility through the end of the contract are uncertain.

Scheduling Coordinator Costs

The Utility serves as the scheduling coordinator to schedule transmission with the ISO for the Utility's existing wholesale transmission customers. The ISO bills the Utility for providing certain services associated with these contracts. These ISO charges are referred to as the "scheduling coordinator (SC) costs." These costs historically have been tracked in the transmission revenue balancing account (TRBA) in order to recover these costs from retail and new wholesale transmission customers (TO Tariff customers).

On August 5, 2002, the FERC ruled that the Utility should refund to TO Tariff customers the scheduling coordinator costs that the Utility collected from them. In November 2002, the FERC denied the Utility's request for rehearing. On December 9, 2002, the Utility appealed the FERC's decision in the U.S. Court of Appeals for the D.C. Circuit. In the absence of an order from the FERC granting recovery of these costs in the TRBA, the Utility has made accounting entries to reflect the SC costs as accounts receivable under the Scheduling Coordinator Services (SCS) Tariff described below.

In January 2000, the FERC accepted a filing by the Utility to establish the SCS Tariff. The SCS Tariff was filed to serve as an alternative mechanism for recovery of the SC costs from existing wholesale customers if the Utility was ultimately unable to recover these costs in the TRBA. The FERC also conditionally granted the Utility's request that the SCS Tariff be effective retroactive to March 31, 1998. However, the FERC suspended the procedural schedule until the final decision was issued regarding the inclusion of SC costs in the TRBA. In September 2002, the Utility filed a notice with the FERC indicating its intent to request that the FERC resume the SCS Tariff proceeding if the request for rehearing of the FERC's August 5 order was not granted. For the period beginning April 1998 through December 31, 2002, the Utility transferred $107 million of scheduling coordinator costs from the TRBA to accounts receivable net of a $66 million reserve for potential uncollectible costs. The Utility also has disputed approximately $27 million of these costs as incorrectly billed by the ISO. Any refunds that ultimately may be made by the ISO would offset the accounts receivable and corresponding reserve.

The Utility does not expect the outcome of this proceeding to have a material adverse effect on its results of operations or financial condition.

Gas Accord II

In 1998, the Utility implemented a ratemaking pact called the Gas Accord, separating its gas transportation and storage services from its distribution services, and changing the terms of

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service and rate structure for gas transportation. The Gas Accord allows residential and small commercial customers (core customers) to purchase gas from competing suppliers, establishes an incentive mechanism whereby the Utility recovers its core procurement costs, and establishes gas transportation rates through 2002 and gas storage rates through March 2003. Under the Gas Accord, the Utility is at-risk for recovery of its gas transportation and storage costs and does not have regulatory balancing account protection for over- or under-collections of revenues. Under the Gas Accord, the Utility sells a portion of the transportation and storage capacity at competitive market-based rates. Revenues are sensitive to changes in the weather, natural gas fired generation and price spreads between two delivery or pricing points.

On October 9, 2001, the Utility asked the CPUC to extend the terms and conditions of the existing Gas Accord for two years and to maintain current gas transportation and storage rates during the extension.

In August 2002, the CPUC approved a settlement agreement among the Utility and other parties that provided for a one-year extension of its existing gas transportation and storage rates. The settlement also provided for a one-year extension of terms and conditions of service, including the Core Procurement Incentive Mechanism (for further discussion see "Utility Natural Gas Commodity Price Risk"), as well as rules governing contract extensions and an open season for new contracts. The Gas Accord II settlement left open to subsequent litigation the issues raised in the application in so far as they relate to the second year of the two-year application.

In October 2002, the assigned CPUC administrative law judge issued a ruling that granted, in part, the Utility's motion to postpone the procedural schedule for litigation of the unresolved issues. In January 2003, the Utility filed an amended application proposing to permanently retain the Gas Accord market structure, and requested a $55 million increase in the Utility's gas transmission rates for 2004 and storage rates for the period from April 1, 2004, to March 31, 2005. This request represents a 12.9 percent increase in the Utility's revenue requirement and a 13.4 percent return on equity.

The existing gas transportation and storage rates will continue until the CPUC approves such changes. The Gas Accord II proposal includes rates set based on a demand or throughput forecast basis. In addition it proposes that, at the beginning of the adopted Gas Accord II agreement period, a contract extension and an open season be held for any uncontracted capacity rights. The Utility may experience a material reduction in operating revenues (1) if the Utility were unable to renew or replace existing transportation contracts at the beginning or throughout the Gas Accord II period, (2) the Utility were to renew or replace those contracts on less favorable terms than adopted by the CPUC, or (3) overall demand for transportation and storage services were less than adopted by the CPUC in setting rates. In any of these cases, the Utility's financial condition and results of operations could be adversely affected.

The Utility cannot predict what the outcome of this litigation will be, or whether the outcome will have a material adverse effect on its results of operations or financial condition.

El Paso Capacity Decision

In May 2002, the FERC directed El Paso Natural Gas Company (El Paso) to change the way it allocates space on its pipeline. The order required shippers east of California with capacity rights on El Paso's pipeline to convert their capacity rights from unlimited "full requirement" to a limited contract demand amount of firm capacity. These shippers had to decide by July 31, 2002, how much El Paso capacity they would need in demand contracts and how much capacity they would give up.

In July 2002, the CPUC required California IOUs to sign up for El Paso pipeline capacity given up by the shippers and not subscribed to by replacement shippers serving California. The CPUC pre-approved such costs as just and reasonable. The decision stated that this requirement would spread El Paso reservation charges over as many ratepayers as possible to

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minimize the impact on any particular utility's customers.

The decision also addressed current capacity issues. It ordered the utilities to retain their current capacity levels on any interstate pipeline and to sell any excess capacity to a third party under short-term capacity release arrangements. To the extent the utilities comply with the decision, they will be able to fully recover their costs associated with existing capacity contracts.

In Phase II of this proceeding, the CPUC is addressing other issues that relate to these proposed rules, including (1) cost allocation of the El Paso capacity among the Utility's customers, (2) short-term capacity releases, and (3) details about the guaranteed rate recovery of the utilities' costs for subscription to interstate pipeline capacity. Phase II hearings are scheduled for the end of April 2003.

Since the July CPUC decision, the Utility has signed contracts for capacity on El Paso totaling approximately $50.8 million beginning November 2002 through December 2007, assuming no contracts set to expire before the end of 2007 are extended. The Utility has filed with the CPUC to recover both prepayments made to El Paso and ongoing capacity costs on the El Paso and the Transwestern Pipeline Company (Transwestern) pipelines. Under a previous CPUC decision, the Utility could not recover any costs paid to Transwestern for gas pipeline capacity through 1997. The Gas Accord (see "Gas Accord II" above) provided for partial recovery of Transwestern costs during the period 1998 through 2002. However, because of the El Paso decision, the Utility may be authorized to recover its future gas pipeline capacity purchases, which could result in additional revenues to recover costs of approximately $82 million over the remaining contract period that ends in March 2007.

On December 19, 2002, the CPUC issued a resolution that would delay the Utility's recovery of some of these costs. The resolution grants the Utility's request to recover in rates El Paso capacity costs and prepayments made to El Paso, subject to reallocation between customers in Phase II of the proceeding. However, the resolution also ordered the Utility to continue to treat Transwestern capacity costs as it had prior to the July 2002 CPUC decision. Recovery of Transwestern costs not currently authorized is being addressed in Phase II of the proceeding. The Utility does not expect the outcome of this matter to have a material adverse impact on its financial position or results of operations.

Rate Reduction Bonds

California's electric industry restructuring law (AB 1890) required that retail electric rates for residential and small commercial customers be reduced by 10 percent and frozen at that level until the earlier of March 31, 2002, or when the Utility fully recovered certain costs associated with the transition to a deregulated energy market.

To pay for the 10 percent rate reduction, the legislation authorized the issuance of rate reduction bonds to be repaid by residential and small commercial customers through the collection of a separate non-bypassable charge called the Fixed Transition Amount (FTA). The Utility sold its rights to collect FTA charges to its subsidiary PG&E Funding LLC for $2.9 billion in cash. To fund the purchase, PG&E Funding LLC issued $2.9 billion of rate reduction bonds (see discussion of "Rate Reduction Bonds" in Note 5 of the Notes to the Consolidated Financial Statements). The bonds allow for the rate reduction by lowering the carrying cost on a portion of the Utility's transition costs and by spreading recovery of that reduction over the life of the bonds.

Because of the 10 percent rate reduction, the amount of revenue the Utility had available in its frozen rates to recover its transition costs was reduced. Before the first quarter of 2002, to the extent that transition costs were not recovered because of the 10 percent rate reduction, the Utility deferred these transition costs through the rate reduction bond regulatory asset (RRBRA). The RRBRA will be recovered through future FTA charges.

In the first quarter of 2002, the Utility stopped deferring transition costs into the RRBRA and began amortizing the balance of the RRBRA

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concurrent with the amortization of the rate reduction bonds debt. The Utility recorded amortization expense of $290 million for the 12 months ended December 31, 2002. The Utility recorded deferred transition costs of $458 million for the 12 months ended December 31, 2001. The balance of the RRBRA was $1,346 million at December 31, 2002, and $1,636 million at December 31, 2001.

The proceeds of the rate reduction bonds included amounts sufficient to pay income taxes that would be levied on future FTA revenues. The Utility benefited from the receipt of this cash up front as it reduced the overall level of financing the Utility was required to maintain. Before the first quarter of 2002, the financing cost benefit was credited to ratepayers through a reduction in the amount of transition costs that were deferred into the RRBRA. When the Utility stopped deferring transition costs into the RRBRA, the Utility began crediting this benefit to a regulatory balancing account. The balance credited to residential and small commercial customers through this account was $102 million at December 31, 2002 and $17 million at December 31, 2001.

Annual Earnings Assessment Proceeding for Energy Efficiency Program Activities

The Utility administers general and low-income energy efficiency programs, and has been authorized to earn incentives based on a portion of the net present value of the savings achieved by the programs, incentives based on accomplishing certain tasks, and incentives based on expenditures. Each year the Utility files an earnings claim in the Annual Earnings Assessment Proceeding (AEAP), a forum for stakeholders to comment on, and for the CPUC to verify, the Utility's claim. On March 21, 2002, the CPUC eliminated the opportunity for shareholder incentives in connection with the California utilities' 2002 energy efficiency programs. This decision does not preclude the opportunity to recover shareholder incentives in connection with previous years' energy efficiency programs.

In May 2002, 2001, and 2000, the Utility filed its annual applications claiming incentives of approximately $106 million. The CPUC has delayed action on these proceedings and the Utility has not included any earnings associated with incentives in the Utility's Consolidated Statements of Operations.

On March 13, 2002, an administrative law judge for the CPUC requested comments on whether incentives adopted for pre-1998 energy efficiency programs should be reduced or eliminated for claims in future years. Out of the total $106 million in shareholder incentives claimed by the Utility for its 2002, 2001, and 2000 AEAP filings, $74 million is related to pre-1998 energy efficiency programs. The CPUC has not yet ruled on the comments.

The Utility cannot predict the outcome of these proceedings, or whether the outcome will have a material adverse effect on its results of operations or financial condition.

Baseline Allowance Increase

In April 2002, the CPUC required the Utility to increase baseline allowances for certain residential customers by May 1, 2002. An increase to a customer's baseline allotment increases the amount of their monthly usage that is covered under the lowest possible rate and is exempt from surcharges. The CPUC deferred consideration of corresponding rate changes until a later phase of the proceeding and ordered the utilities to track the under-collections associated with their respective baseline quantity changes in an interest-bearing balancing account. The Utility estimates the annual revenue shortfall to be approximately $96 million for electric and $6 million for gas. The Utility is charging the electric-related shortfall against earnings because it cannot predict the outcome of the second phase of the proceeding, nor can it conclude that recovery of the electric-related balancing account is probable. The total electric revenue shortfall for the period May through December 2002 was $69.8 million.

Issues that may be resolved during the second phase of the proceeding in early 2003 include items that could involve additional revenues at risk such as demographic revisions to baseline allowances, special allowances, and changes to

57

baseline territories or seasons. The Utility estimated additional annual revenue shortfalls from this second phase, if adopted, of $79.6 million for electric service and $11 million for gas service, plus $11.6 million in administration costs spread out over three to five years. Included in this amount is an estimated $18 million annual shortfall resulting from a settlement allowing common-area electric accounts to switch from residential to commercial rates. The settlement, approved by the CPUC on January 16, 2003, is designed to allow common-area accounts to avoid disproportionately high rate increases caused by the five-tiered residential electric surcharges adopted in June 2001. The new five-tiered residential rate structure resulting from the $0.03 per kWh average surcharge assesses surcharges for usage above 130 percent of a customer's baseline allowance. Because most of the usage of large common area accounts falls within the highest rate tiers, these accounts pay disproportionately high bills as a result of this rate design. By contrast, the Utility's surcharges for commercial customers do not vary based on usage levels. As with the baseline quantity changes from the first phase, the CPUC deferred common area cost allocation and rate design issues to the second phase.

The Utility cannot predict what the outcome of the second phase of the proceeding will be, nor can it conclude that recovery of the electric baseline related balancing account is probable. Any electric revenue shortfalls will continue to be charged to earnings and will reduce revenue available to recover previously written-off under-collected purchased power costs and transition costs.

Nuclear Decommissioning Cost Triennial Proceeding Application

In March 2002, the Utility filed an application to increase the Utility's nuclear decommissioning revenue requirements for the years 2003 through 2005. The Utility seeks to recover $24 million in revenue requirements relating to the Diablo Canyon Nuclear Decommissioning Trusts and $17.5 million in revenue requirements relating to the Humboldt Bay Power Plant Decommissioning Trusts. The Utility also anticipates recovering $7.3 million in CPUC-jurisdictional revenue requirements for Humboldt Bay Unit 3 SAFSTOR (a mode of decommissioning) operating and maintenance costs, and escalation associated with that amount in 2004 and 2005. The Utility proposes continuing to collect the revenue requirement through a charge in electric rates, and to record the revenue requirement and the associated revenues in a balancing account. Until post-rate freeze ratemaking is implemented, the increase in revenue requirements would reduce the amount of revenues available to offset electric generation costs.

The ORA filed testimony with the CPUC that included lower estimates on contingencies, escalation rates and the cost of disposal of low-level radioactive wastes, and a higher estimate for returns on investments in the Decommissioning Trusts. If ORA's estimates were adopted, the Utility would not need to make any new contributions to the Decommissioning Trusts for the years 2003 through 2005, since the current amounts in the Decommissioning Trusts would be adequate to pay for expected decommissioning activities. The CPUC held hearings in September 2002 and is expected to reach a final decision during April 2003.

ADDITIONAL SECURITY MEASURES

Since the September 11, 2001, terrorist attacks, PG&E Corporation and the Utility have been working to assess the need for physical security upgrades at critical facilities. Various federal regulatory agencies have issued orders requiring additional safeguards, including a May 2002 Nuclear Regulatory Commission, or NRC, order. The NRC order required decommissioned nuclear facilities, such as the Utility's Humboldt Bay Power Plant, to implement interim security compensatory measures. Facilities affected by PG&E Corporation's and the Utility's assessments include generation facilities, transmission substations, and gas transmission facilities. The security upgrades will require additional capital investment and an increased level of operating costs. However, neither PG&E Corporation nor the Utility believes these costs will have a material impact on their consolidated financial position or results of operations.

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RISK MANAGEMENT ACTIVITIES

PG&E Corporation and the Utility are exposed to various risks associated with their operations, the marketplace, contractual obligations, financing arrangements and other aspects of their business. PG&E Corporation and the Utility actively manage these risks through risk management programs. These programs are designed to support business objectives, minimize costs, discourage unauthorized risk, and reduce the volatility of earnings and manage cash flows. At PG&E Corporation and the Utility, risk management activities often include the use of energy and financial derivative instruments and other instruments and agreements.

These derivatives include forward contracts, futures, swaps, options, and other contracts.

•

A forward contract is a commitment to purchase or sell a fixed amount of a commodity at a specified future date at a specified price;


•

A futures contract is a standardized commitment, traded on an organized exchange, to purchase or sell a fixed amount of a commodity at a specified future date at a specified price;


•

A swap contract is an agreement between two counterparties to exchange cash flows in the future based on changes in the underlying commodity or index; and


•

An option contract provides the right, but not the obligation, to buy or sell the underlying asset at a predetermined price in the future.

PG&E Corporation uses derivatives for both non-trading and trading (i.e., speculative) purposes. The Utility uses derivatives for non-trading purposes only.

PG&E Corporation and the Utility may use energy and financial derivatives and other instruments and agreements to mitigate the risks associated with an asset (e.g., the natural position embedded in asset ownership and regulatory arrangements), liability, committed transaction, or probable forecasted transaction. Additionally, PG&E Corporation may engage in trading activities for purposes of generating profit, gathering market intelligence, creating liquidity, and maintaining a market presence. These instruments are used in accordance with approved risk management policies adopted by a senior officer-level risk oversight committee. Derivative activity is permitted only after the risk oversight committee approves appropriate risk limits for such activity. The organizational unit proposing the activity must successfully demonstrate that there is a business need for such activity and that the market risks will be adequately measured, monitored, and controlled.

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The activities affecting the estimated fair value of trading activities and the non-trading activities balance, included in net price risk management assets and liabilities, are presented below.

(in millions)		Year Ended December 31,
			2002		2001
	Fair values of trading contracts at beginning of period	$	58	$	199
	Net (gain) loss on contracts settled during the period		(121)		(296	)
	Fair value of new contracts when entered into		2		–
	Changes in fair values attributable to changes in valuation techniques and assumptions		(12)		–
	Other changes in fair values		51		155
	Fair values of trading contracts outstanding at end of period		(22)		58
	Fair value of non-trading contracts at the end of the period		(270)		63
	Net Price Risk Management Assets (Liabilities) at end of period		(292)		121
	Amounts reclassified as net price risk management assets (liabilities) held for sale		(377)		55
	Net price risk management assets (liabilities) reported on the Consolidated Balance Sheets	$	85	$	66

The changes in fair values attributable to changes in valuation and assumptions, as reported in the table above, are composed of a $14 million loss related to PG&E NEG's implementation of a new methodology for estimating forward prices in illiquid periods, for which price information is not readily available, and a $2 million gain related to changes in assumptions used to value transportation contracts. This change in forward prices is described more fully in Note 1 of the Notes to the Consolidated Financial Statements.

PG&E Corporation estimates the gross mark-to-market value of its non-trading and trading contracts at December 31, 2002, using the midpoint of quoted bid and ask prices, where available.

When market data is not available, PG&E Corporation uses its forward price curve methodology described in Note 1 of the Notes to the Consolidated Financial Statements.

The gross mark-to-market valuation is then adjusted for the time value of money, creditworthiness of contractual counterparties, market liquidity in future periods, and other adjustments necessary to determine fair value. Most of PG&E Corporation's risk management models are reviewed by or purchased from third-party experts in specific derivative applications.

The following table shows the fair value of PG&E Corporation's trading contracts grouped by maturity at December 31, 2002.

(in millions)	Fair Value of Trading Contracts (1)
		Maturity Less than One Year			Maturity One-Three Years			Maturity Four-Five Years			Maturity in Excess of Five Years			Total Fair Value
Source of Prices Used in Estimating Fair Value
Actively quoted markets (2)	$	6		$	10		$	–		$	–		$	16
Provided by other external sources		(26	)		7			(13	)		(3	)		(35	)
Based on models and other valuation methods (3)		(23	)		(30	)		(15	)		65			(3	)
Total Mark-to-Market	$	(43	)	$	(13	)	$	(28	)	$	62		$	(22	)

⁽¹⁾

Excludes all non-trading contracts, including non-trading contracts that receive mark-to-market accounting treatment.

⁽²⁾

Actively quoted markets are exchanged traded quotes.

⁽³⁾

In many cases, these prices are an input into option models that calculate a gross mark-to-market value from which fair value is derived.

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The amounts disclosed above are not indicative of likely future cash flows. The future value of trading contracts may be impacted by changes in underlying valuations, new transactions, market liquidity, and PG&E Corporation's risk management portfolio needs and strategies.

Market Risk

Market risk is the risk that changes in market conditions will adversely affect earnings or cash flow.

PG&E Corporation categorizes market risks as price risk, interest rate risk, foreign currency risk, and credit risk. These market risks may impact PG&E Corporation's and its subsidiaries' assets and trading portfolios. Immediately below is an overview of PG&E Corporation's market risks, followed by detailed descriptions of the market risks and explanations as to how each of these risks are managed.

•

Price risk results from the Utility's or PG&E NEG's exposure to the impacts of market fluctuations in price and transportation costs of commodities such as electricity, natural gas, other fuels, and other energy-related products;



•

Interest rate risk primarily results from exposure to the volatility of interest rates as a result of financing or refinancing through the issuance of variable-rate and fixed-rate debt;



•

Foreign currency risk results from exposure to volatilities in currency rates; and



•

Credit risk results from exposure to counterparties who may fail to perform under their contractual obligations.

Price Risk

Price risk is the risk that changes in primarily commodity market prices will adversely affect earnings and cash flows. Below are descriptions of the Utility's and PG&E NEG's specific price risks.

Also described below is the value-at-risk methodology, which is PG&E Corporation's and the Utility's method for assessing the prospective risk that exists within a portfolio for price risk.

Utility Electric Commodity Price Risk

Purchased Power

In compliance with regulatory requirements, the Utility manages commodity price risk independently from the activities in PG&E Corporation's unregulated businesses. The Utility also reports its commodity price risk separately for its electric and natural gas businesses.

Since January 2001, the DWR has been responsible for procuring electricity required to cover the Utility's net open position. The Utility bills its customers for these DWR electricity purchases and remits amounts collected to the DWR based on their CPUC approved revenue requirement. To the extent that the Utility's electricity rates remain frozen, and the CPUC increases the portion of the DWR's revenue requirement allocated to the Utility's customers to cover adverse market price changes or other factors, the Utility has commodity price risk. The Utility is exposed to price risk to the extent that the cost of new electricity purchases increases, or the revenue from new wholesale sales decreases.

The DWR's authority to enter into new electricity purchase contracts expired January 1, 2003. SB 1976 and CPUC orders required the California IOUs, including the Utility, to resume responsibility for procuring the electricity to meet the residual net open position by January 1, 2003.

On December 19, 2002, the CPUC issued an interim opinion granting the Utility authority to enter into contracts designed to hedge the residual net open position through the first quarter of 2004. The CPUC's interim opinion also established a maximum annual procurement disallowance equal to twice the Utility's annual administrative costs of managing procurement activities, including the administration and dispatch of electricity associated with DWR

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allocated contracts. However, the Utility can provide no assurance that the CPUC will not increase or eliminate this maximum annual procurement disallowance in the future. Such a change would increase the Utility's exposure to electric commodity price risk.

The residual net open position is expected to increase over time due to periodic expirations of existing and DWR allocated procurement contracts. The Utility can provide no assurance that electricity will continue to be available for purchase in quantities sufficient to satisfy the residual net open position as these or other events occur. Even if the Utility were able to purchase electricity in quantities sufficient to satisfy the residual net open position, it would be exposed to wholesale electricity commodity price fluctuations and uncertain commercial terms.

Conversely, the amount of energy provided by the DWR contracts will likely result in significant excess electricity during various periods, which the Utility will be required to attempt to sell on the open market.

Nuclear Fuel

The Utility has purchase agreements for nuclear fuel components and services for use in operating the Diablo Canyon generating facility. The Utility relies on large, well-established international producers for its long-term agreements in order to diversify its commitments and ensure security of supply. Pricing terms are also diversified, ranging from fixed prices to base prices that are adjusted using published information. In January 2002, the U.S. International Trade Commission imposed tariffs of up to 50 percent on imports from certain countries providing nuclear fuel. If these tariffs remain in place, the Utility's nuclear fuel costs may rise because there are a limited number of suppliers in the world for such fuel. The Utility's ratemaking for retained generation is cost-of-service-based; however, to the extent that the Utility's electricity rates remain frozen, changes in the cost of nuclear fuel would impact the amount of revenues the Utility has available to recover its previously written-off under-collected purchased electric generation costs. For this reason, the Utility is exposed to price risk to the extent that the cost of nuclear fuel increases.

Utility Natural Gas Commodity Price Risk

Through 2003, the Core Procurement Incentive Mechanism (CPIM) determines how much of the cost of procuring natural gas for its customers may be included in the Utility's natural gas procurement rates. Under the CPIM, the Utility's procurement costs are compared to an aggregate market-based benchmark based on a weighted average of published monthly and daily natural gas prices at the points where the Utility typically purchases natural gas. If costs fall within a range, or tolerance band currently 99 percent to 102 percent, around the benchmark, they are considered reasonable and may be fully recovered in customer rates. Ratepayers and shareholders share equally the costs and savings outside the tolerance band.

In addition, the Utility has contracts for transportation capacity on various natural gas pipelines. A recent CPUC decision found that the Utility's acquisition of additional interstate transportation capacity was reasonable and that all interstate transportation capacity already held by the Utility was also reasonable. A future decision will allocate the cost of the transportation capacity between customer groups and will also determine the date on which all transportation capacity costs held by the Utility prior to July 2002 will be recoverable.

Under the Gas Accord, shareholders are at risk for any revenues from the sale of capacity on the Utility's gas transmissions and storage facilities. Under the Gas Accord, the Utility sells a portion of the pipeline and storage capacity at competitive market-based rates. Revenues are generally lower when throughput volumes are lower than expected and when the price spreads between two delivery points narrow. In August 2002, the CPUC approved a settlement agreement between the Utility and other parties that provided for a one-year extension of the Utility's existing gas transmission and storage rates and terms and conditions of service through the end of 2003. (The Gas Accord was

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originally scheduled to expire on December 31, 2002.) For further discussion, see "Gas Accord II" in the "Regulatory Matters" section of the MD&A.

PG&E NEG Price Risk

PG&E NEG is exposed to price risk from its portfolio of proprietary trading contracts and its portfolio of electric generation assets and supply contracts that serve wholesale and industrial customers, and various merchant plants currently in development and construction.

As described above, PG&E NEG is in the process of reducing and unwinding its trading positions. Additionally, asset hedge positions associated with the merchant plants will either remain with the assets or be terminated. PG&E NEG has significantly reduced their energy trading operations in an ongoing effort to raise cash and reduce debt. PG&E NEG's objective is to limit its asset trading and risk management activities to only what is necessary for energy management services to facilitate the transition of PG&E NEG's merchant generation facilities through their sale, transfer, or abandonment process. PG&E NEG will then further reduce and transition to only retain limited capabilities to ensure fuel procurement and power logistics for PG&E NEG's retained independent power plant operations.

Value-at-Risk

PG&E Corporation and the Utility measure price risk exposure using value-at-risk and other methodologies that simulate future price movements in the energy markets to estimate the probability of future potential losses. Price risk is quantified using what is referred to as the variance-covariance technique of measuring value-at-risk, which provides a consistent measure of risk across diverse energy markets and products. This methodology requires the selection of a number of important assumptions including a confidence level for losses, price volatility, market liquidity, and a specified holding period. This technique uses historical price movements data and specific, defined mathematical parameters to estimate the characteristics of and the relationships between components of assets and liabilities held for price risk management activities. PG&E Corporation therefore uses the historical data for calculating the expected price volatility of its portfolio's contractual positions to project the likelihood that the prices of those positions will move together.

The value-at-risk model includes all of PG&E Corporation's and the Utility's commodity derivatives and other financial instruments over the entire length of the terms of the transactions in the trading and non-trading portfolios. PG&E Corporation's and the Utility's value-at-risk calculation is a dollar amount reflecting the maximum potential one-day loss in the fair value of their portfolios due to adverse market movements over a defined time horizon within a specified confidence level. This calculation is based on a 95 percent confidence level, which means that there is a 5 percent probability that PG&E Corporation's portfolios will incur a loss in value in one day at least as large as the reported value-at-risk. For example, if the value-at-risk is calculated at $5 million, there is a 95 percent probability that if prices moved against current positions, the reduction in the value of the portfolio resulting from such one-day price movements would not exceed $5 million. There would also be a 5 percent probability that a one-day price movement would be greater than $5 million.

The following table illustrates the potential one-day unfavorable impact for price risk as measured by the value-at-risk model, based on a one-day holding period. A two-year comparison of daily value-at-risk is included in order to provide context around the one-day amounts. The high and low valuations represent the highest and lowest of the values during 2002.

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The average valuation represents the average of the values during 2002.

(in millions)		December 31,				Year Ended December 31, 2002
		2002		2001		Average		High		Low
Utility
	Non-trading activities (1)	$	4.0	$	3.6	$	2.1	$	5.8	$	0.3
PG&E NEG
	Trading activities		8.2		5.8		5.2		9.7		2.1
	Non-trading activities:
	Non-trading contracts that receive mark-to-market accounting treatment (2)		2.7		–		2.9		3.9		2.1
	Non-trading contracts accounted for as hedges (3)		9.4		10.3		12.5		18.6		9.4

⁽¹⁾

Includes the Utility's gas portfolio only, as this represents the Utility's only commodity price risk through year end 2002.

⁽²⁾

Includes derivative power and fuels contracts that do not qualify under the SFAS No. 133 normal purchases and normal sales exception and do not qualify to be accounted for as cash flow hedges.

⁽³⁾

Includes only the risk related to the derivative instruments that serve as hedges and does not include the related underlying hedged item. Any gain or loss on these derivative commodity instruments would be substantially offset by a corresponding gain or loss on the hedged commodity positions, which are not included.

Value-at-risk has several limitations as a measure of portfolio risk, including, but not limited to, underestimation of the risk of a portfolio with significant options exposure, inadequate indication of the exposure of a portfolio to extreme price movements, and the inability to address the risk resulting from intra-day trading activities. Value-at-risk also does not reflect the significant regulatory and legislative risks currently facing the Utility or the risks relating to the Utility's bankruptcy proceedings.

PG&E NEG's value-at-risk levels have increased at December 31, 2002, as compared to levels at December 31, 2001, due to strong prices and increased market volatility across all commodities in 2002. It is expected that PG&E NEG's value-at-risk levels will eventually peak and start to decrease because, as previously discussed, PG&E NEG is in the process of reducing and unwinding its trading positions. Additionally, asset hedge positions associated with the merchant plants will either remain with the assets or be terminated. See the discussion above in the MD&A's "Liquidity and Financial Resources – PG&E NEG" section for further information regarding PG&E NEG's current financial situation.

Interest Rate Risk

Interest rate risk is the risk that changes in interest rates could adversely affect earnings or cash flows. Specific interest rate risks for PG&E Corporation and the Utility include the risk of increasing interest rates on working capital facilities, variable rate tax-exempt pollution control bonds, and other variable rate debt.

PG&E Corporation may use the following interest rate instruments to manage its interest rate exposure: interest rate swaps, interest rate caps, floors, or collars, swaptions, or interest rate forward and futures contracts. Interest rate risk sensitivity analysis is used to measure interest rate risk by computing estimated changes in cash flows as a result of assumed changes in market interest rates. At December 31, 2002, if interest rates changed by 1 percent for all variable rate debt at PG&E Corporation and the Utility, the change would affect net income by approximately $35 million for PG&E Corporation and $33 million for the Utility, based on variable rate debt and hedging derivatives and other interest rate-sensitive instruments outstanding.

The table included above in this MD&A's Commitments and Capital Expenditures section provides the maturity of the carrying amounts and the related weighted average interest rates on PG&E Corporation's interest bearing securities, by expected maturity dates.

Foreign Currency Risk

Foreign currency risk is the risk of changes in value of pending financial obligations in foreign currencies in relation to the U.S. dollar.

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PG&E Corporation and the Utility are exposed to such risk associated with foreign currency exchange variations related to Canadian-denominated purchase and swap agreements. PG&E Corporation is also exposed to foreign currency risk resulting from the need to translate Canadian-denominated financial statements of an affiliate into U.S. dollars in the PG&E Corporation Consolidated Financial Statements. PG&E Corporation and the Utility use forwards, swaps, and options to hedge foreign currency exposure.

For the Utility, changes in gas purchase costs due to fluctuations in the value of the Canadian dollar would be passed through to customers in rates, as long as the overall costs of purchasing gas are within a 99 percent to 102 percent tolerance band of the benchmark price under the CPIM mechanism, as discussed above. The Utility's customers and shareholders would share in the costs or savings outside of the tolerance band equally.

PG&E Corporation and the Utility use sensitivity analysis to measure their exchange rate exposure to the Canadian dollar. Based on a sensitivity analysis at December 31, 2002, a 10 percent devaluation of the Canadian dollar would be immaterial to PG&E Corporation's and the Utility's Consolidated Financial Statements.

Credit Risk

Credit risk is the risk of loss that PG&E Corporation and the Utility would incur if counterparties failed to perform their contractual obligations (these obligations are reflected as Accounts Receivable – Customers, net; notes receivable included in Other Noncurrent Assets – Other; Price Risk Management (PRM) assets; and Assets held for sale on the balance sheet). PG&E Corporation and the Utility conduct business primarily with customers or vendors, referred to as counterparties, in the energy industry. These counterparties include other investor-owned utilities, municipal utilities, energy trading companies, financial institutions, and oil and gas production companies located in the United States and Canada. This concentration of counterparties may impact PG&E Corporation's and the Utility's overall exposure to credit risk because their counterparties may be similarly affected by economic or regulatory changes or other changes in conditions.

PG&E Corporation and the Utility manage their credit risk in accordance with their respective Risk Management Policies. The policies establish processes for assigning credit limits to counterparties before entering into agreements with significant exposure to PG&E Corporation and the Utility. These processes include an evaluation of a potential counterparty's financial condition, net worth, credit rating, and other credit criteria as deemed appropriate, and are performed at least annually.

Credit exposure is calculated daily, and in the event that exposure exceeds the established limits, PG&E Corporation and the Utility take immediate action to reduce the exposure, or obtain additional collateral, or both. Further, PG&E Corporation and the Utility rely heavily on master agreements that require the counterparty to post security, referred to as credit collateral, in the form of cash, letters of credit, corporate guarantees of acceptable credit quality, or eligible securities if current net receivables and replacement cost exposure exceed contractually specified limits.

PG&E Corporation and the Utility calculate gross credit exposure for each counterparty as the current mark-to-market value of the contract (that is, the amount that would be lost if the counterparty defaulted today) plus or minus any outstanding net receivables or payables, prior to the application of the counterparty's credit collateral.

In 2002, PG&E Corporation's and the Utility's credit risk increased due in part to downgrades of some counterparties credit ratings to levels below investment grade. The downgrades increase PG&E Corporation's or the Utility's credit risk because any collateral provided by these counterparties in the form of corporate guarantees or eligible securities may be of lesser or no value. Therefore, in the event these counterparties failed to perform under their contracts, PG&E Corporation and the Utility may

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face a greater potential maximum loss. In contrast, PG&E Corporation and the Utility do not face any additional risk if counterparties' credit collateral is in the form of cash or letters of credit, as this collateral is not affected by a credit rating downgrade.

For the year ended December 31, 2002, PG&E Corporation and the Utility have recognized no losses due to the contract defaults or bankruptcies of counterparties. However, in 2001, PG&E Corporation terminated its contracts with a bankrupt company, which resulted in a pre-tax charge to earnings of $60 million related to trading and non-trading activities, after application of collateral held and accounts payable.

At December 31, 2002, and at December 31, 2001, PG&E Corporation had no single counterparty that represented greater than 10 percent of PG&E Corporation's net credit exposure. At December 31, 2002, the Utility had one investment grade counterparty that represented 21 percent of the Utility's net credit exposure, and one below investment grade counterparty that represented 11 percent of the Utility's net credit exposure. At December 31, 2001, the Utility had no single counterparty that represented greater than 10 percent of the Utility's net credit exposure.

The schedule below summarizes PG&E Corporation's and the Utility's credit risk exposure to counterparties that are in a net asset position, with the exception of exchange-traded futures (the exchange provides for contract settlement on a daily basis), as well as PG&E Corporation's and the Utility's credit risk exposure to counterparties with a greater than 10 percent net credit exposure, at December 31, 2002, and December 31, 2001:

(in millions)	Gross Credit Exposure Before Credit Collateral(1)		Credit Collateral(2)		Net Credit Exposure(2)		Number of Counterparties >10%	Net Exposure of Counterparties >10%
At December 31, 2002
PG&E Corporation	$	1,165	$	195	$	970	–	$	–
Utility (3)		288		113		175	2		55
At December 31, 2001
PG&E Corporation	$	1,203	$	207	$	996	–	$	–
Utility (3)		271		127		144	–		–

⁽¹⁾

Gross credit exposure equals mark-to-market value (adjusted for applicable credit valuation adjustments), notes receivable, and net (payables) receivables where netting is allowed. Gross and net credit exposure amounts reported above do not include adjustments for time value, liquidity, or model.

⁽²⁾

Net credit exposure is the gross credit exposure minus credit collateral (cash deposits and letters of credit).

⁽³⁾

The Utility's gross credit exposure includes wholesale activity only. Retail activity and payables incurred prior to the Utility's bankruptcy filing are not included. Retail activity at the Utility consists of the accounts receivable from the sale of gas and electricity to millions of residential and small commercial customers.

At December 31, 2002, approximately $205 million, or 21 percent of PG&E Corporation's net credit exposure was to entities that had credit ratings below investment grade. At December 31, 2002, approximately $64 million, or 37 percent of the Utility's net credit exposure was to entities that had credit ratings below investment grade. At December 31, 2001, approximately $244 million, or 25 percent of PG&E Corporation's net credit exposure was to entities that had credit ratings below investment grade. At December 31, 2001, approximately $32 million, or 22 percent of the Utility's net credit exposure was to entities that had credit ratings below investment grade. Investment grade is determined using publicly available information, i.e., rated at least Baa3 by Moody's and BBB- by S&P. If the counterparty provides a guarantee by a higher rated entity (e.g., its parent), the credit rating determination is based on the rating of its guarantor.

At December 31, 2002, approximately $65 million, or 7 percent of PG&E Corporation's net credit exposure was with counterparties at PG&E NEG that are not rated. At December 31,

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2001, none of PG&E Corporation's net credit exposure was with counterparties at PG&E NEG that were not rated. Most counterparties with no credit rating are governmental authorities which are not rated, but which PG&E Corporation has assessed as equivalent to investment grade. Other counterparties with no credit rating are subject to an internal assessment of their credit quality and a credit rating designation.

PG&E Corporation has regional concentrations of credit exposure to counterparties that conduct business primarily in the western United States and also to counterparties that conduct business primarily throughout North America. The Utility has a regional concentration of credit risk associated with its receivables from residential and small commercial customers in northern California. However, the risk of material loss due to nonperformance from these customers is not considered likely. Reserves for uncollectible accounts receivable are provided for the potential loss from nonpayment by these customers based on historical experience. The Utility has a net regional concentration of credit exposure totaling $175 million to counterparties that conduct business primarily throughout North America.

CRITICAL ACCOUNTING POLICIES

The preparation of Consolidated Financial Statements in accordance with accounting principles generally accepted in the United States involves the use of estimates and assumptions that affect the recorded amounts of assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Certain of these estimates and assumptions are considered to be Critical Accounting Policies, due to their complexity, subjectivity, and uncertainty, along with their relevance to the financial performance of PG&E Corporation. Actual results may differ substantially from these estimates. These policies and their key characteristics are outlined below.

In 2001, PG&E Corporation and the Utility adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and Hedging Activities" (collectively, SFAS No. 133), which required all derivative instruments to be recognized in the financial statements at their fair value. Prior to its rescission, PG&E Corporation accounted for its energy trading activities in accordance with Emerging Issues Task Force (EITF) No. 98-10, "Accounting for Contracts Involved in Energy Trading and Risk Management Activities", and SFAS No. 133, which require certain energy trading contracts to be accounted for at fair values using mark-to-market accounting. See discussion of Rescission of EITF 98-10 below.

Effective for the third quarter ended September 30, 2002, PG&E Corporation adopted the net method of recognizing realized gains and losses on energy trading contracts. Under the net method, revenues and expenses are netted and trading gains (or losses) are reflected in revenues on the income statement, as opposed to reporting revenues and expenses under the previously used gross method.

PG&E Corporation and the Utility have derivative commodity contracts for the physical delivery of purchase and sale quantities such as natural gas and power transacted in the normal course of business. These derivatives are exempt from the requirements of SFAS No. 133 under the normal purchases and sales exception, and are not reflected on the balance sheet at fair value. See further discussion in Notes 1 and 11 of the Notes to the Consolidated Financial Statements.

PG&E Corporation and the Utility apply SFAS No. 71, "Accounting for the Effects of Certain Types of Regulation," to their regulated operations. Under SFAS No. 71, regulatory assets represent capitalized costs that would otherwise be charged to expense. These costs are later recovered through regulated rates. Regulatory liabilities are rate actions of a regulator that will later be credited to customers through the rate making process. Regulatory assets and liabilities are recorded when it is probable that these items will be recovered or reflected in future rates. If it is determined that these items are no longer probable of recovery under SFAS No. 71, then

67

they will be written-off at that time. At December 31, 2002, PG&E Corporation reported regulatory assets of $2.2 billion, including current regulatory balancing accounts receivable and regulatory liabilities of $1.8 billion, including current regulatory balancing accounts payable. See Note 1 of the Notes to the Consolidated Financial Statements.

The Utility records revenues as electricity and natural gas are delivered. A portion of the revenue recognized has not yet been billed. Unbilled revenues are determined by factoring the actual load (energy) delivered with recent historical usage and rate patterns.

Due to the Utility's filing for bankruptcy in 2001, the financial statements for both PG&E Corporation and the Utility are prepared in accordance with SOP 90-7, which is used by reorganizing entities operating under the Bankruptcy Code. Under SOP 90-7, certain claims against the Utility prior to its bankruptcy filing are recorded as Liabilities Subject to Compromise. The Utility reported a total of $9.4 billion of Liabilities Subject to Compromise at December 31, 2002. While the Utility operates under the protection of the Bankruptcy Court, the realization of assets and the liquidation of liabilities is subject to uncertainty, as additional claims to Liabilities Subject to Compromise can change due to such actions as the resolution of disputed claims or certain Bankruptcy Court actions. See Note 2 of the Notes to the Consolidated Financial Statements.

The Utility records an environmental remediation liability when site assessments indicate that remediation is probable and the cost can be reasonably estimated. This liability is based on site investigations, remediation, operations, maintenance, monitoring, and closure. This liability is reviewed on a quarterly basis, and is recorded at the lower range of estimated costs, unless there is a better estimate available. At December 31, 2002, the Utility's undiscounted environmental remediation liability was $331 million. The Utility's future cost could increase to as much as $444 million if (1) the other potentially responsible parties are not financially able to contribute to these costs, (2) the extent of contamination or necessary remediation is greater than anticipated, or (3) the Utility is found to be responsible for clean-up costs at additional sites.

The process of estimating remediation liabilities is difficult and changes in the estimate could occur given the uncertainty concerning the Utility's ultimate liability, the complexity of environmental laws and regulations, the selection of compliance alternatives, and the financial ability of other responsible parties. PG&E NEG estimates that it may be required to spend up to approximately $608 million before insurance proceeds for environmental compliance at certain of its operating facilities. To date, PG&E NEG has spent approximately $13 million on environmental compliance. See Note 16 of the Notes to the Consolidated Financial Statements.

Since the CPUC authorized the collection of incremental surcharge revenues in January and March 2001, the Utility has used generation-related revenues in excess of generation-related costs to recover approximately $1.9 billion (after-tax) in previously written-off under collected purchased power and generation-related charges. For the 12 months ended December 31, 2002, total surcharge revenues recognized were $1.8 billion (after-tax). For the 12 months ended December 31, 2001, total surcharge revenues recognized were $1.3 billion (after-tax). The Utility has not provided reserves for potential refunds of these surcharges as it believes that recent regulatory orders and actions provide evidence that it is not probable that a refund will be ordered. However, it is possible that subsequent decisions by the CPUC may affect the amount and timing of these surcharge revenues recovered by the Utility and that subsequent CPUC decisions may order the Utility to refund all or a portion of the surcharge revenues collected. See Note 2 of the Notes to the Consolidated Financial Statements and risk factors discussed in the Overview section of this MD&A for further discussion. See Note 1 of the Notes to the Consolidated Financial Statements for further discussion of accounting policies and new accounting developments.

68

ACCOUNTING PRONOUNCEMENTS ISSUED BUT NOT YET ADOPTED

Consolidation of Variable Interest Entities – In January 2003 the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46), which expands upon existing accounting guidance addressing when a company should include in its financial statements the assets, liabilities, and activities of another entity. FIN 46 notes that many of what are now referred to as "variable interest entities" have commonly been referred to as special-purpose entities or off-balance sheet structures. However, the Interpretation's guidance is to be applied to not only these entities but to all entities found within a company. FIN 46 provides some general guidance as to the definition of a variable interest entity. PG&E Corporation is currently evaluating all entities to determine if they meet the FIN 46 criteria as variable interest entities.

Until the issuance of FIN 46, one company generally included another entity in its Consolidated Financial Statements only if it controlled the entity through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns, or both. A company that consolidates a variable interest entity is now referred to as the "primary beneficiary" of that entity.

FIN 46 requires disclosure of variable interest entities that the company is not required to consolidate but in which it has a significant variable interest.

The consolidation requirements of FIN 46 apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to variable interest entities created before January 31, 2003, in the first fiscal year or interim period beginning after June 15, 2003, so these requirements would be applicable to PG&E Corporation in the third quarter 2003. Certain new and expanded disclosure requirements apply to all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. These disclosures are required if there is an assessment that it is reasonably possible that an enterprise will consolidate or disclose information about a variable interest entity when FIN 46 becomes effective. PG&E Corporation is currently evaluating the impacts of FIN 46's initial recognition, measurement, and disclosure provisions on its Consolidated Financial Statements.

Guarantor's Accounting and Disclosure Requirements for Guarantees – In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 expands on the accounting guidance of SFAS No. 5, "Accounting for Contingencies," SFAS No. 57, "Related Party Disclosures," and SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." FIN 45 also incorporates, without change, the provisions of FASB Interpretation No. 34, "Disclosures of Indirect Guarantees of the Indebtedness of Others," which it supersedes.

FIN 45 elaborates on the existing disclosure requirements for most guarantees. It clarifies that a guarantor's required disclosures include the nature of the guarantee, the maximum potential undiscounted payments that could be required, the current carrying amount of the liability, if any, for the guarantor's obligations (including the liability recognized under SFAS No. 5), and the nature of any recourse provisions or available collateral that would enable the guarantor to recover amounts paid under the guarantee.

FIN 45 also clarifies that at the time a company issues a guarantee, it must recognize an initial liability for the fair value of the obligation it assumes under that guarantee, including its ongoing obligation to stand ready to perform over the term of the guarantee in the event that specified triggering events or conditions occur. This information must also be disclosed in interim and annual financial statements.

69

FIN 45 does not prescribe a specific account for the guarantor's offsetting entry when it recognizes the liability at the inception of the guarantee, noting that the offsetting entry would depend on the circumstances in which the guarantee was issued. There also is no prescribed approach included for subsequently measuring the guarantor's recognized liability over the term of the related guarantee. It is noted that the liability would typically be reduced by a credit to earnings as the guarantor is released from risk under the guarantee.

The initial recognition and initial measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002. PG&E Corporation is currently evaluating the impact of FIN 45's initial recognition and measurement provisions on its Consolidated Financial Statements. The disclosure requirements for FIN 45 are effective for financial statements of interim or annual periods ending after December 15, 2002, and have been incorporated into PG&E Corporation's December 31, 2002, disclosures of guarantees.

Rescission of EITF 98-10 – In October 2002, the Emerging Issues Task Force rescinded EITF 98-10. Energy trading contracts that are derivatives in accordance with SFAS No. 133 will continue to be accounted for at fair value under SFAS No. 133. Contracts that were previously marked to market as trading activities under EITF 98-10 that do not meet the definition of a derivative will be recorded at cost, with a one-time adjustment to be recorded as a cumulative effect of a change in accounting principle as of January 1, 2003. For PG&E Corporation, the majority of trading contracts are derivative instruments as defined in SFAS No. 133. The rescission of EITF 98-10 has no effect on the accounting for derivative instruments used for non-trading purposes, which continue to be accounted for in accordance with SFAS No. 133.

The reporting requirements associated with the rescission of EITF 98-10 are to be applied prospectively for all EITF 98-10 energy trading contracts entered into after October 25, 2002. For all EITF 98-10 energy trading contracts in existence at or prior to October 25, 2002, the estimated impact of the first quarter 2003 cumulative effect of a change in accounting principle is a loss of $5 million, net of taxes at December 31, 2002.

Accounting for Costs Associated with Exit or Disposal Activities – In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity" (EITF 94-3). PG&E Corporation will adopt the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under EITF 94-3, a liability for an exit cost was recognized at the date of the company's commitment to an exit plan if certain other criteria were met. SFAS No. 146 also establishes that the liability initially should be measured and recorded at fair value. Accordingly, the prospective implementation of SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized.

Accounting for Asset Retirement Obligations – In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." PG&E Corporation and the Utility will adopt this Statement effective January 1, 2003. SFAS No. 143 provides accounting requirements for costs associated with legal obligations to retire tangible, long-lived assets. Under the Statement, the asset retirement obligation is recorded at fair value in the period in which it is incurred by increasing the carrying amount of the related long-lived asset. In each subsequent period, the liability is accreted to its present value and the capitalized cost is depreciated over the useful life of the related asset. Upon adoption, the cumulative effect of applying this Statement will be recognized as a change in accounting principle in the Consolidated Statements of Operations. However,

70

rate-regulated entities may recognize regulatory assets or liabilities as a result of timing differences between the recognition of costs as recorded in accordance with this statement and costs recovered through the ratemaking process. Regulatory assets and liabilities may be recorded when it is probable that the asset retirement costs will be recovered through the ratemaking process.

PG&E Corporation estimates the impact of adopting SFAS No. 143 effective January 1, 2003 will be as follows:

•

The Utility will adjust its nuclear decommissioning obligation to reflect the fair value of decommissioning its nuclear power facilities. The Utility will also recognize asset retirement obligations associated with the decommissioning of other fossil generation assets.


At December 31, 2002, the total nuclear decommissioning obligation accrued was $1.3 billion and is included in accumulated depreciation and decommissioning on the Consolidated Balance Sheets (see Note 13, "Nuclear Decommissioning"). The Utility had accrued, at December 31, 2002, $52 million to decommission certain fossil generation assets based on its estimate of the decommissioning obligation under the accounting principles in effect at that time. These decommissioning obligations are also included in accumulated depreciation and decommissioning on the Consolidated Balance Sheets.

The Utility estimates it will recognize an adjustment to its recorded nuclear and fossil facility decommissioning obligations in the range of an increase of $222 million to a decrease of $192 million for asset retirement obligations in existence as of January 1, 2003. The estimated cumulative effect of a change in accounting principle from unrecognized accretion expense and adjustments to depreciation and decommissioning expense accrued to date will range from a loss of $19 million to a gain of $17 million (pre-tax).

•

PG&E NEG estimates that it will recognize a liability in the range of $11 million to $21 million for asset retirement obligations on January 1, 2003. The cumulative effect of a change in accounting principle from unrecognized accretion and depreciation expense is estimated to be a loss in the range of $4 million to $6 million (pre-tax).

PENSION AND OTHER POST-RETIREMENT PLANS

PG&E Corporation and its subsidiaries provide qualified and non-qualified non-contributory defined benefit pension plans for their employees, retirees, and non-employee directors. PG&E Corporation and its subsidiaries also provide contributory defined benefit medical plans for certain retired employees and their eligible dependents, and noncontributory defined benefit life insurance plans for certain retired employees (referred to collectively as other benefits). Amounts that PG&E Corporation and the Utility recognize as obligations to provide pension benefits under SFAS No. 87, "Employers' Accounting for Pensions," and other benefits under SFAS No. 106. "Employers Accounting for Postretirement Benefits other than Pensions" are based on certain actuarial assumptions. Actuarial assumptions used in determining pension obligations include the discount rate, the average rate of future compensation increases, and the expected return on plan assets. Actuarial assumptions used in determining other benefit obligations include the discount rate, the average rate of future compensation increases, the expected return on plan assets, and the assumed health care cost trend rate. While PG&E Corporation and the Utility believe the assumptions used are appropriate, significant differences in actual experience, plan changes, or significant changes in assumptions may materially affect the recorded pension and other benefit obligations and future plan expenses.

Pension and other benefit funds are held in external trust funds. Trust assets, including accumulated earnings, must be used exclusively for pension and other benefit payments. Consistent with the trusts' investment policies, assets are invested in U.S. equities, non-U.S.

71

equities, and fixed income securities. Investment securities are exposed to various risks, such as interest rate, credit, and overall market volatility risks. As a result of these risks, it is reasonably possible that the market values of investment securities could increase or decrease in the near term. Increases or decreases in market values could materially affect the current value of the trusts and, as a result, the future level of pension and other benefit expense.

Expected rates of return on plan assets were developed by determining projected stock and bond returns and then applying these returns to the target asset allocations of the employee benefit trusts, resulting in a weighted average rate of return on plan assets. Fixed income returns were based on historic returns for the broad U.S. bond market. Equity returns were determined by applying a market risk premium of 3.5 percent to the U.S. bond market return. For the Utility Retirement Plan, the assumed return of 8.1 percent compares to a ten-year actual return of 8.4 percent.

The rate used to discount pension and other post-retirement benefit plan liabilities was based on a yield curve developed from the Moody's AA Corporate Bond Index at December 31, 2002. This yield curve has discount rates that vary based on the maturity of the obligations. The estimated future cash flows for the pension and other post retirement obligations were matched to the corresponding rates on the yield curve to derive a weighted average discount rate. The resulting rate was validated by comparison to the yield of a high-quality, non-callable corporate bond portfolio with cash flows corresponding to expected future benefit payments. For the Utility Retirement Plan, a 25 basis point decrease in the discount rate would increase the accumulated benefit obligation by approximately $240 million.

TAXATION MATTERS

The Internal Revenue Service (IRS) has completed its audit of PG&E Corporation's 1997 and 1998 consolidated U.S. federal income tax returns and has assessed additional federal income taxes of $70 million (including interest). PG&E Corporation has filed protests contesting certain adjustments made by the IRS in that audit and currently is discussing these adjustments with the IRS' Appeals Office. The IRS also is auditing PG&E Corporation's 1999 and 2000 consolidated U.S. federal income tax returns, but has not issued its final report. However, the IRS has proposed adjustments totaling $77 million (including interest). The resolution of these matters with the IRS is not expected to have a material adverse effect on PG&E Corporation's earnings. All of PG&E Corporation's federal income tax returns prior to 1997 have been closed. In addition, California and certain other state tax authorities currently are auditing various state tax returns. The results of these audits are not expected to have a material adverse effect on PG&E Corporation's earnings. In the third quarter of 2002, PG&E Corporation re-evaluated its position with respect to the expected realization of certain synthetic fuel tax credits, and as a result, recorded additional tax benefits totaling $43 million.

Deferred tax assets with respect to impairments and write-offs at PG&E NEG were recorded in 2002. Due to uncertainty in realizing state tax benefits associated with these deferred tax assets, valuation allowances were established.

A valuation allowance of $109 million associated with state tax benefits was recorded in continuing operations. In addition, a valuation allowance of $63.7 million associated with state tax benefits was recorded in discontinued operations.

ENVIRONMENTAL AND LEGAL MATTERS

PG&E Corporation and the Utility are subject to laws and regulations established both to maintain and to improve the quality of the environment. Where PG&E Corporation's and the Utility's properties contain hazardous substance, these laws and regulations require PG&E Corporation and the Utility to remove those substances or to remedy effects on the environment. Also, in the normal course of business, PG&E Corporation and the Utility are named as parties in a number of claims and lawsuits. See Note 16 of the Notes to the Consolidated Financial Statements for further discussion of environmental matters and significant pending legal matters.

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PG&E Corporation
CONSOLIDATED STATEMENTS OF OPERATIONS

(in millions, except per share amounts)			Year ended December 31,
			2002			2001			2000
Operating Revenues
	Utility		$	10,514		$	10,462		$	9,637
	Energy commodities and services			1,981			1,748			2,931
		Total operating revenues		12,495			12,210			12,568
Operating Expenses
	Cost of electricity and natural gas for utility			2,436			4,606			8,166
	Deferred electric procurement cost			–			–			(6,465	)
	Cost of energy commodities and services			1,323			1,047			1,990
	Depreciation, amortization, and decommissioning			1,309			1,002			3,595
	Operating and maintenance			3,373			2,867			3,272
	Impairments, write-offs, and other charges			2,767			–			–
	Provision for loss on generation-related regulatory assets and under-collected purchased power costs			–			–			6,939
	Reorganization professional fees and expenses			155			97			–
		Total operating expenses		11,363			9,619			17,497
Operating Income (Loss)				1,132			2,591			(4,929	)
	Reorganization interest income			71			91			–
	Interest income			61			76			214
	Interest expense			(1,454	)		(1,209	)		(788	)
	Other income (expense), net			90			(31	)		(23	)
Income (Loss) Before Income Taxes				(100	)		1,518			(5,526	)
	Income tax provision (benefit)			(43	)		535			(2,103	)
Income (Loss) from Continuing Operations				(57	)		983			(3,423	)
Discontinued Operations
	Earnings from operations of USGenNE, Mountain View, and ET Canada (net of income taxes of $3 million in 2002, $73 million in 2001, and $75 million in 2000)			11			107			99
	Loss on disposal of USGenNE and ET Canada (net of income taxes of $381 million)			(767	)		–			–
	Loss on disposal of PG&E Energy Services (net of income taxes of $36 million)			–			–			(40	)
Net Income (Loss) Before Cumulative Effect of Changes in Accounting Principles				(813	)		1,090			(3,364	)
	Cumulative effect of changes in accounting principles (net of income taxes of $42 million in 2002 and $6 million in 2001)			(61	)		9			–
Net Income (Loss)			$	(874	)	$	1,099		$	(3,364	)
Weighted Average Common Shares Outstanding, Basic				371			363			362
Earnings (Loss) Per Common Share, from Continuing Operations, Basic			$	(0.15	)	$	2.71		$	(9.45	)
Net Earnings (Loss) Per Common Share, Basic			$	(2.36	)	$	3.03		$	(9.29	)
Earnings (Loss) Per Common Share, from Continuing Operations, Diluted			$	(0.15	)	$	2.70		$	(9.45	)
Net Earnings (Loss) Per Common Share, Diluted			$	(2.36	)	$	3.02		$	(9.29	)
Dividends Declared Per Common Share			$	–		$	–		$	1.20

See accompanying Notes to the Consolidated Financial Statements.

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PG&E Corporation
CONSOLIDATED BALANCE SHEETS

(in millions)			Balance at December 31,
			2002			2001
ASSETS
Current Assets
	Cash and cash equivalents		$	3,895		$	5,355
	Restricted cash			708			195
	Accounts receivable:
		Customers (net of allowance for doubtful accounts of $113 million and $89 million, respectively)		2,747			2,750
		Regulatory balancing accounts		98			75
	Price risk management			498			240
	Inventories			347			383
	Assets held for sale			707			744
	Prepaid expenses and other			480			135
		Total current assets		9,480			9,877
Property, Plant and Equipment
	Utility			27,045			25,963
	Non-utility:
		Electric generation		636			961
		Gas transmission		1,761			1,514
	Construction work in progress			1,560			2,383
	Other			177			195
		Total property, plant and equipment		31,179			31,016
	Accumulated depreciation and decommissioning			(14,251	)		(13,615	)
		Net property, plant and equipment		16,928			17,401
Other Noncurrent Assets
	Regulatory assets			2,053			2,319
	Nuclear decommissioning funds			1,335			1,337
	Price risk management			398			363
	Deferred income taxes			657			–
	Assets held for sale			916			2,254
	Other			1,929			2,412
		Total other noncurrent assets		7,288			8,685
TOTAL ASSETS			$	33,696		$	35,963

See accompanying Notes to the Consolidated Financial Statements.

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PG&E Corporation
CONSOLIDATED BALANCE SHEETS

(in millions, except share amounts)			Balance at December 31,
			2002			2001
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities Not Subject to Compromise
Current Liabilities
	Short-term borrowings		$	–		$	330
	Debt in default			4,230			–
	Long-term debt, classified as current			298			381
	Current portion of rate reduction bonds			290			290
	Accounts payable:
		Trade creditors		1,273			1,020
		Regulatory balancing accounts		360			360
		Other		660			530
	Interest payable			139			26
	Income taxes payable			129			610
	Price risk management			506			152
	Liabilities of operations held for sale			699			570
	Other			685			696
		Total current liabilities		9,269			4,965
Noncurrent Liabilities
	Long-term debt			4,345			7,222
	Rate reduction bonds			1,160			1,450
	Deferred income taxes			1,439			1,479
	Deferred tax credits			144			153
	Price risk management			305			385
	Liabilities of operations held for sale			793			1,002
	Other			2,963			2,999
		Total noncurrent liabilities		11,149			14,690
Liabilities Subject to Compromise
	Financing debt			5,605			5,651
	Trade creditors			3,580			5,555
		Total liabilities subject to compromise		9,185			11,206
Commitments and Contingencies (Notes 1, 2, 3 and 16)				–			–
Preferred Stock of Subsidiaries				480			480
Utility Obligated Mandatorily Redeemable Preferred Securities of Trust Holding Solely Utility Subordinated Debentures				–			300
Common Stockholders' Equity
	Common stock, no par value, authorized 800,000,000 shares, issued 405,486,015 and 387,898,848 shares, respectively			6,274			5,986
	Common stock held by subsidiary, at cost, 23,815,500 shares			(690	)		(690	)
	Accumulated deficit			(1,878	)		(1,004	)
	Accumulated other comprehensive income (loss)			(93	)		30
		Total common stockholders' equity		3,613			4,322
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY			$	33,696		$	35,963

See accompanying Notes to the Consolidated Financial Statements.

75

PG&E Corporation
CONSOLIDATED STATEMENTS OF CASH FLOWS

(in millions)				Year Ended December 31,
				2002			2001			2000
Cash Flows from Operating Activities
	Net loss (income)			$	(874	)	$	1,099		$	(3,364	)
	Adjustments to reconcile net income (loss) to net cash provided by operating activities:
		Depreciation, amortization, and decommissioning			1,309			1,002			3,595
		Deferred electric procurement costs						–			(6,465	)
			Reversal of ISO accrual		(970	)		–			–
		Deferred income taxes and tax credits, net			(521	)		(535	)		(819	)
		Price risk management assets and liabilities, net			(142	)		164			33
		Other deferred charges and noncurrent liabilities			263			(744	)		256
		Provision for loss on generation-related regulatory assets and under-collected purchased power costs			–			–			6,939
		Loss on impairment or disposal of assets			2,767			–			–
		Loss from discontinued operations			1,148			–			40
		Cumulative effect of change in accounting principle			61			(9	)		–
	Net effect of changes in operating assets and liabilities:
		Restricted cash			(513	)		(66	)		(6	)
		Accounts receivable			51			1,000			(1,941	)
		Inventories			36			(75	)		68
		Accounts payable			377			1,213			4,200
		Accrued taxes			(481	)		1,851			(1,452	)
		Regulatory balancing accounts, net			(23	)		311			(410	)
		Payments authorized by the Bankruptcy Court on amounts classified as liabilities subject to compromises (Note 2)			(1,442	)		(16	)		–
		Assets and liabilities of operations held for sale, net			34			(117	)		64
		Other working capital			(330	)		(399	)		331
	Other, net				(216	)		602			(314	)
Net cash provided by operating activities					534			5,281			755
Cash Flows from Investing Activities
	Capital expenditures				(3,032	)		(2,773	)		(2,334	)
	Net proceeds from sales of businesses				–			–			415
	Other, net				482			(103	)		241
Net cash used by investing activities					(2,550	)		(2,876	)		(1,678	)
Cash Flows from Financing Activities
	Net borrowings (repayments) under credit facilities				–			(1,148	)		2,846
	Long-term debt issued				2,414			3,008			1,659
	Long-term debt matured, redeemed, or repurchased				(1,644	)		(868	)		(1,155	)
	Rate reduction bonds matured				(290	)		(290	)		–
	Common stock issued				217			15			65
	Common stock repurchased				–			(1	)		(2	)
	Dividends paid				–			(109	)		(436	)
	Other, net				(141	)		(40	)		23
Net cash provided by financing activities					556			567			3,000
Net change in cash and cash equivalents					(1,460	)		2,972			2,077
Cash and cash equivalents at January 1					5,355			2,383			306
Cash and cash equivalents at December 31				$	3,895		$	5,355		$	2,383
Supplemental disclosures of cash flow information
	Cash paid for:
		Interest (net of amounts capitalized)		$	1,414		$	579		$	748
		Income taxes paid (refunded), net			971			(692	)		20
Supplemental disclosures of noncash investing and financing activities
		Retirement of long-term debt on the sale of PG&E Gas Transmission, Texas			–			–			564
		Transfer of liabilities and other payables subject to compromise from operating assets and liabilities			419			11,400			–

See accompanying Notes to the Consolidated Financial Statements.

76

PG&E Corporation
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY

(in millions, except share amounts)		Common Stock			Common Stock Held by Subsidiary			Reinvested Earnings (Accumulated Deficit)			Accumulated Other Comprehensive Income (Loss)			Total Common Stockholders' Equity			Comprehensive Income (Loss)
Balance at December 31, 1999		$	5,906		$	(690	)	$	1,674		$	(4	)	$	6,886
	Net loss		–			–			(3,364	)		–			(3,364	)	$	(3,364	)
	Common stock issued (2,847,269 shares)		65			–			–			–			65
	Common stock repurchased (59,655 shares)		(1	)		–			(1	)		–			(2	)
	Cash dividends declared on common stock		–			–			(434	)		–			(434	)
	Other		1			–			20			–			21
Balance at December 31, 2000			5,971			(690	)		(2,105	)		(4	)		3,172
	Net income		–			–			1,099			–			1,099		$	1,099
	Cumulative effect of adoption of SFAS No. 133 and interpretations		–			–			–			(243	)		(243	)		(243	)
	Mark-to-market adjustments for hedging transactions in accordance with SFAS No. 133		–			–			–			237			237			237
	Net reclassification to earnings		–			–			–			42			42			42
	Foreign currency translation adjustment		–			–			–			(1	)		(1	)		(1	)
	Other		–			–			–			(1	)		(1	)		(1	)
	Comprehensive income																$	1,133
	Common stock issued (739,158 shares)		16			–			–			–			16
	Common stock repurchased (34,037 shares)		(1	)		–			–			–			(1	)
	Other		–			–			2			–			2
Balance at December 31, 2001			5,986			(690	)		(1,004	)		30			4,322
	Net loss		–			–			(874	)		–			(874	)	$	(874	)
	Mark-to-market adjustments for hedging transactions in accordance with SFAS No. 133		–			–			–			(139	)		(139	)		(139	)
	Net reclassification to earnings		–			–			–			13			13			13
	Foreign currency translation adjustment		–			–			–			2			2			2
	Other		–			–			–			1			1			1
	Comprehensive income																$	(997	)
	Common stock issued (17,582,636 shares)		217			–			–			–			217
	Other		71			–			–			–			71
Balance at December 31, 2002		$	6,274		$	(690	)	$	(1,878	)	$	(93	)	$	3,613

See accompanying Notes to the Consolidated Financial Statements.

77

Pacific Gas and Electric Company, a Debtor-in-Possession
CONSOLIDATED STATEMENTS OF OPERATIONS

(in millions)			Year Ended December 31,
			2002			2001			2000
Operating Revenues
	Electric		$	8,178		$	7,326		$	6,854
	Natural gas			2,336			3,136			2,783
		Total operating revenues		10,514			10,462			9,637
Operating Expenses
	Cost of electricity			1,482			2,774			6,741
	Deferred electric procurement cost			–			–			(6,465	)
	Cost of natural gas			954			1,832			1,425
	Operating and maintenance			2,817			2,385			2,687
	Depreciation, amortization, and decommissioning			1,193			896			3,511
	Provision for loss on generation-related regulatory assets and under-collected purchased power costs			–			–			6,939
	Reorganization professional fees and expenses			155			97			–
		Total operating expenses		6,601			7,984			14,838
Operating Income (Loss)				3,913			2,478			(5,201	)
	Reorganization interest income			71			91			–
	Interest income			3			32			186
	Interest expense (non-contractual interest of $149 million for 2002 and $164 million for 2001)			(988	)		(974	)		(619	)
	Other income (expense), net			(2	)		(16	)		(3	)
Income (Loss) Before Income Taxes				2,997			1,611			(5,637	)
	Income tax provision (benefit)			1,178			596			(2,154	)
Net Income (Loss)				1,819			1,015			(3,483	)
	Preferred dividend requirement			25			25			25
Income (Loss) Available for (Allocated to) Common Stock			$	1,794		$	990		$	(3,508	)

See accompanying Notes to the Consolidated Financial Statements.

78

Pacific Gas and Electric Company, a Debtor-in-Possession
CONSOLIDATED BALANCE SHEETS

(in millions)			Balance at December 31,
			2002			2001
ASSETS
Current Assets
	Cash and cash equivalents		$	3,343		$	4,341
	Restricted cash			150			53
	Accounts receivable:
		Customers (net of allowance for doubtful accounts of $59 million and $48 million, respectively)		1,900			2,063
		Related parties		17			18
		Regulatory balancing accounts		98			75
	Inventories:
		Gas stored underground and fuel oil		154			218
		Materials and supplies		121			119
	Income taxes receivable			50			–
	Prepaid expenses			110			80
	Deferred income taxes			5			–
Total current assets				5,948			6,967
Property, Plant and Equipment
	Electric			18,922			18,153
	Gas			8,123			7,810
	Construction work in progress			427			323
		Total property, plant and equipment (at original cost)		27,472			26,286
	Accumulated depreciation and decommissioning			(13,515	)		(12,929	)
		Net property, plant and equipment		13,957			13,357
Other Noncurrent Assets
	Regulatory assets			2,011			2,283
	Nuclear decommissioning funds			1,335			1,337
	Other			1,300			1,325
		Total other noncurrent assets		4,646			4,945
TOTAL ASSETS			$	24,551		$	25,269

See accompanying Notes to the Consolidated Financial Statements.

79

Pacific Gas and Electric Company, a Debtor-in-Possession
CONSOLIDATED BALANCE SHEETS

(in millions, except share amounts)			Balance at December 31,
			2002			2001
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities Not Subject to Compromise
Current Liabilities
	Long-term debt, classified as current		$	281		$	333
	Current portion of rate reduction bonds			290			290
	Accounts payable:
		Trade creditors		380			333
		Related parties		130			86
		Regulatory balancing accounts		360			360
		Other		374			289
	Interest payable			126			26
	Income taxes payable			–			295
	Deferred income taxes			–			65
	Other			625			599
		Total current liabilities		2,566			2,676
Noncurrent Liabilities
	Long-term debt			2,739			3,019
	Rate reduction bonds			1,160			1,450
	Regulatory liabilities			1,461			1,485
	Deferred income taxes			1,485			1,028
	Deferred tax credits			144			153
	Other			1,274			1,239
		Total noncurrent liabilities		8,263			8,374
Liabilities Subject to Compromise
	Financing debt			5,605			5,651
	Trade creditors			3,786			5,733
		Total liabilities subject to compromise		9,391			11,384
Commitments and Contingencies (Notes 1, 2, and 16)				–			–
Preferred Stock With Mandatory Redemption Provisions
	6.30% and 6.57%, outstanding 5,500,000 shares, due 2002-2009			137			137
Company Obligated Mandatorily Redeemable Preferred Securities of Trust Holding Solely Utility Subordinated Debentures
	7.90%, 12,000,000 shares, due 2025			–			300
Stockholders' Equity
	Preferred stock without mandatory redemption provisions
		Nonredeemable, 5% to 6%, outstanding 5,784,825 shares		145			145
		Redeemable, 4.36% to 7.04%, outstanding 5,973,456 shares		149			149
	Common stock, $5 par value, authorized 800,000,000 shares, issued 321,314,760 shares			1,606			1,606
	Common stock held by subsidiary, at cost, 19,481,213 shares			(475	)		(475	)
	Additional paid-in capital			1,964			1,964
	Reinvested earnings (accumulated deficit)			805			(989	)
	Accumulated other comprehensive income (loss)			–			(2	)
		Total stockholders' equity		4,194			2,398
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY			$	24,551		$	25,269

See accompanying Notes to the Consolidated Financial Statements.

80

Pacific Gas and Electric Company, a Debtor-in-Possession
CONSOLIDATED STATEMENTS OF CASH FLOWS

(in millions)			Year Ended December 31,
			2002			2001			2000
Cash Flows from Operating Activities
	Net income (loss)		$	1,819		$	1,015		$	(3,483	)
	Adjustments to reconcile net income (loss) to net cash provided by operating activities:
		Deferred electric procurement costs		–			–			(6,465	)
		Depreciation, amortization, and decommissioning		1,193			896			3,511
		Deferred income taxes and tax credits, net		378			(306	)		(930	)
		Other deferred charges and noncurrent liabilities		102			(954	)		480
		Reversal of ISO accrual (Note 2)		(970	)		–			–
		Provision for loss on generation-related regulatory assets and under-collected purchased power costs		–			–			6,939
	Net effect of changes in operating assets and liabilities:
		Restricted cash		(97	)		(3	)		(8	)
		Accounts receivable		212			105			(507	)
		Income tax receivable		(50	)		1,120			(1,120	)
		Inventories		62			(57	)		14
		Accounts payable		198			1,312			3,063
		Income taxes payable		(295	)		295			(118	)
		Regulatory balancing accounts, net		(23	)		311			(410	)
		Payments authorized by the Bankruptcy Court on amounts classified as liabilities subject to compromise (Note 2)		(1,442	)		(16	)		–
		Other working capital		11			711			111
	Other, net			36			336			(522	)
Net cash provided by operating activities				1,134			4,765			555
Cash Flows from Investing Activities
	Capital expenditures			(1,546	)		(1,343	)		(1,245	)
	Proceeds from sale of assets			11			–			6
	Other, net			26			5			32
Net cash used by investing activities				(1,509	)		(1,338	)		(1,207	)
Cash Flows from Financing Activities
	Net (repayments) borrowings under credit facilities and short-term borrowings			–			(28	)		2,630
	Long-term debt issued			–			–			680
	Long-term debt matured, redeemed, or repurchased			(333	)		(111	)		(307	)
	Rate reduction bonds matured			(290	)		(290	)		(290	)
	Common stock repurchased			–			–			(275	)
	Dividends paid			–			–			(475	)
	Other, net			–			(1	)		(26	)
Net cash provided (used) by financing activities				(623	)		(430	)		1,937
Net change in cash and cash equivalents				(998	)		2,997			1,285
Cash and cash equivalents at January 1				4,341			1,344			59
Cash and cash equivalents at December 31			$	3,343		$	4,341		$	1,344
Supplemental disclosures of cash flow information
	Cash received for:
		Reorganization interest income	$	75		$	87		$	–
	Cash paid for:
		Interest (net of amounts capitalized)		1,105			361			587
		Income taxes (net of refunds)		1,186			(556	)		–
		Reorganization professional fees and expenses		99			19			–
Supplemental disclosures of noncash investing and financing activities
	Transfer of liabilities and other payables subject to compromise from operating assets and liabilities, net			419			11,400			–

See accompanying Notes to the Consolidated Financial Statements.

81

Pacific Gas and Electric Company, a Debtor-in-Possession
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(in millions, except share amounts)		Common Stock		Addi- tional Paid-in Capital		Common Stock Held by Subsidiary			Reinvested Earnings (Accumu- lated Deficit)			Accumu- lated Other Compre- hensive Income (Loss)			Total Common Stock- holders' Equity			Preferred Stock Without Mandatory Redemption Provisions		Compre- hensive Income (Loss)
Balance December 31, 1999		$	1,606	$	1,964	$	(200	)	$	2,107		$	–		$	5,477		$	294
Net loss			–		–		–			(3,483	)		–			(3,483	)		–	$	(3,483	)
Common stock repurchased (11,853,448 shares)			–		–		(275	)		–			–			(275	)		–
Cash dividends declared
	Preferred stock		–		–		–			(25	)		–			(25	)		–
	Common stock		–		–		–			(578	)		–			(578	)		–
Balance December 31, 2000			1,606		1,964		(475	)		(1,979	)		–			1,116			294
Net Income			–		–		–			1,015			–			1,015			–	$	1,015
Cumulative effect of adoption of SFAS No. 133			–		–		–			–			90			90			–		90
Mark-to-market adjustments for hedging			–		–		–			–			(5	)		(5	)		–		(5	)
Net reclassification to earnings			–		–		–			–			(85	)		(85	)		–		(85	)
Foreign currency translation adjustments			–		–		–			–			(2	)		(2	)		–		(2	)
Comprehensive income																				$	1,013
Preferred stock dividend requirement			–		–		–			(25	)		–			(25	)		–
Balance December 31, 2001			1,606		1,964		(475	)		(989	)		(2	)		2,104			294
Net Income			–		–		–			1,819			–			1,819			–	$	1,819
Foreign currency translation adjustments			–		–		–			–			2			2			–		2
Comprehensive income																				$	1,821
Preferred stock dividend			–		–		–			(25	)		–			(25	)
Balance December 31, 2002		$	1,606	$	1,964	$	(475	)	$	805		$	–		$	3,900		$	294

See accompanying Notes to the Consolidated Financial Statements.

82

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1:    GENERAL

Organization and Basis of Presentation

PG&E Corporation, incorporated in California in 1995, is an energy-based holding company headquartered in San Francisco, California. PG&E Corporation conducts its business through various subsidiaries, principally Pacific Gas and Electric Company (the Utility), an operating regulated electric and natural gas distribution and transmission utility company, and PG&E National Energy Group, Inc. (PG&E NEG), a power generation, wholesale energy marketing and trading, risk management, and natural gas transmission company.

The Consolidated Financial Statements of PG&E Corporation and of the Utility have been prepared on a going concern basis, which contemplates continuity of operations, realization of assets and repayment of liabilities in the ordinary course of business. However, as a result of the bankruptcy of the Utility and current liquidity concerns at PG&E NEG and its subsidiaries, as further discussed below, such realization of assets and liquidation of liabilities are subject to uncertainty.

Consolidation Policy

This is a combined annual report of PG&E Corporation and the Utility. Therefore, the Notes to the Consolidated Financial Statements apply to both PG&E Corporation and the Utility. PG&E Corporation's Consolidated Financial Statements include the accounts of PG&E Corporation, the Utility, and PG&E Corporation's wholly owned and controlled subsidiaries. The Utility's Consolidated Financial Statements include its accounts as well as those of its wholly owned and controlled subsidiaries. All significant inter-company transactions have been eliminated from the Consolidated Financial Statements.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of revenues, expenses, assets, and liabilities and the disclosure of contingencies. As these estimates involve judgments on a wide range of factors, including future economic conditions, that are difficult to predict, actual results could differ significantly from these estimates.

Accounting principles used include those necessary for rate-regulated enterprises, which reflect the ratemaking policies of the California Public Utilities Commission (CPUC) and the Federal Energy Regulatory Commission (FERC).

Nature of Operations

The Utility, incorporated in California in 1905, provides electric service to approximately 4.8 million customers and natural gas service to approximately 4.0 million customers in Northern and Central California. Effective January 1, 1997, PG&E Corporation became the holding company of the Utility and its subsidiaries. The Utility is the predecessor of PG&E Corporation.

PG&E NEG, incorporated on December 18, 1998, as a wholly owned subsidiary of PG&E Corporation (shortly thereafter, PG&E Corporation contributed various subsidiaries to PG&E NEG). The main subsidiaries of PG&E NEG include the following:

•

PG&E Generating Company, LLC and its subsidiaries (collectively, PG&E Gen LLC);



•

PG&E Energy Trading Holdings Corporation and its subsidiaries (collectively, PG&E Energy Trading or PG&E ET);



•

PG&E Gas Transmission Corporation and its subsidiaries (collectively, PG&E GTC), which includes PG&E Gas Transmission, Northwest Corporation and its subsidiaries, including North Baja Pipeline, LLC (NBP) (collectively, PG&E GTN).

PG&E NEG also has other less significant subsidiaries.

83

PG&E National Energy Group, LLC owns 100 percent of the stock of PG&E NEG, GTN Holdings LLC owns 100 percent of the stock of PG&E GTN, and PG&E Energy Trading Holdings LLC owns 100 percent of the stock of PG&E ET. The organizational documents of PG&E NEG and these limited liability companies require unanimous approval of their respective boards of directors, including at least one independent director, before they can:

•

Consolidate or merge with any entity;



•

Transfer substantially all of their assets to any entity; or



•

Institute or consent to bankruptcy, insolvency or similar proceedings or actions.

The limited liability companies may not declare or pay dividends unless the respective boards of directors have unanimously approved such action, and the company meets specified financial requirements.

Bankruptcy of the Utility

As discussed further in Note 2, on April 6, 2001, the Utility filed a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code (Bankruptcy Code) in the United States Bankruptcy Court for the Northern District of California (Bankruptcy Court). Under Chapter 11, the Utility continues to control its assets and is allowed to operate its business as a debtor-in-possession while being subject to the jurisdiction of the Bankruptcy Court.

Due to the Utility's Chapter 11 filing, the financial statements for both PG&E Corporation and the Utility are prepared in accordance with the American Institute of Certified Public Accountants' Statement of Position (SOP) 90-7, which is applied by reorganizing entities operating under the bankruptcy code. Under SOP 90-7, certain liabilities of the Utility existing prior to its bankruptcy filing are classified as Liabilities Subject to Compromise. Additionally, professional fees and expenses directly related to the Chapter 11 proceeding and interest income on funds accumulated during the bankruptcy are reported separately as reorganization items. Finally, the extent to which the Utility's reported interest expense differs from its stated contractual interest is disclosed on the Consolidated Statements of Operations.

PG&E NEG

The Consolidated Financial Statements have been prepared on a going concern basis, which contemplates continuity of operations, realization of assets and repayment of liabilities in the ordinary course of business. However, as a result of current liquidity concerns at PG&E NEG and its subsidiaries and restructuring discussions with their lenders, such realization of assets and liquidation of liabilities are subject to uncertainty.

As a result of the sustained downturn in the power industry, PG&E NEG and its affiliates have experienced a financial downturn which caused the major credit rating agencies to downgrade PG&E NEG's and its affiliates' credit ratings to below investment-grade. PG&E NEG is currently in default under various recourse debt agreements and guaranteed equity commitments totaling approximately $2.9 billion. In addition, other PG&E NEG subsidiaries are in default under various debt agreements totaling $2.5 billion, but this debt is non-recourse to PG&E NEG. PG&E NEG, its subsidiaries and their lenders are engaged in discussions to restructure PG&E NEG's and its subsidiaries debt obligations and other commitments. PG&E NEG and certain subsidiaries have significantly reduced their energy trading operations. These asset transfers, sales, and abandonments have caused substantial charges to earnings in 2002 of approximately $3.9 billion. PG&E NEG and its subsidiaries are continuing these efforts to abandon, sell or transfer additional assets in an ongoing effort to raise cash, reduce debt, whether through negotiation with lenders or otherwise. As a result, PG&E expects to incur additional substantial charges in 2003 as it restructures operations. If a restructuring agreement is not reached and the lenders exercise their default remedies or if the financial obligations and commitments are not restructured, PG&E NEG and certain of its subsidiaries may be compelled to seek protection under or be forced

84

involuntarily into proceedings under the Bankruptcy Code.

Earnings (Loss) Per Share

Basic earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per share is calculated by dividing net income (loss), adjusted for convertible note interest and amortization, by the weighted average number of common shares outstanding plus the assumed issuance of common shares for all dilutive securities.

The following table details PG&E Corporation's net income (loss) and weighted average common shares outstanding for calculating basic and diluted net income (loss) per share.

(in millions, except per share amounts)		Year ended December 31,
		2002			2001		2000
Income (loss) from continuing operations		$	(57	)	$	983	$	(3,423	)
Discontinued operations			(756	)		107		59
Net income (loss) before cumulative effect of accounting change			(813	)		1,090		(3,364	)
Cumulative effect of accounting change			(61	)		9		–
Net Income (loss)		$	(874	)	$	1,099	$	(3,364	)
Weighted average common shares outstanding, basic			371			363		362
Add: Employee Stock Options and PG&E Corporation shares held by grantor trusts			–			1		–
Shares outstanding for diluted calculations			371			364		362
Earnings (Loss) Per Common Share, Basic
	Income (loss) from continuing operations	$	(0.15	)	$	2.71	$	(9.45	)
	Discontinued operations		(2.04	)		0.29		0.16
	Cumulative effect of change in accounting principle		(0.17	)		0.02		–
	Rounding		–			0.01		–
	Net earnings (loss)	$	(2.36	)	$	3.03	$	(9.29	)
Earnings (Loss) Per Common Share, Diluted
	Income (loss) from continuing operations	$	(0.15	)	$	2.70	$	(9.45	)
	Discontinued operations		(2.04	)		0.29		0.16
	Cumulative effect of change in accounting principle		(0.17	)		0.02		–
	Rounding		–			0.01		–
Net earnings (loss)		$	(2.36	)	$	3.02	$	(9.29	)

The diluted earnings per share for the year ended December 31, 2002, excludes approximately two million incremental shares related to employee stock options and shares held by grantor trusts, two million incremental shares related to warrants, and ten million incremental shares related to the 9.5 percent Convertible Subordinated Notes and includes associated interest expense of $8 million (net of income tax of $5 million) due to the antidilutive effect upon loss from continuing operations. In addition, the diluted share base for the year ended December 31, 2000, excludes two million incremental shares related to employee stock options and shares held by grantor trusts to secure deferred compensation obligations due to the antidilutive effect upon loss from continuing operations.

PG&E Corporation reflects the preferred dividends of subsidiaries as other expense which is used to calculate both basic and diluted earnings per share.

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Summary of Significant Accounting Policies

Adoption of New Accounting Policies

Consolidation of Variable Interest Entities – In January 2003 the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46), which expands upon existing accounting guidance addressing when a company should include in its financial statements the assets, liabilities, and activities of another entity. FIN 46 notes that many of what are now referred to as "variable interest entities" have commonly been referred to as special-purpose entities or off-balance sheet structures. However, the Interpretation's guidance is to be applied to not only these entities but to all entities found within a company. FIN 46 provides some general guidance as to the definition of a variable interest entity. PG&E Corporation is currently evaluating all entities to determine if they meet the FIN 46 criteria as variable interest entities.

Until the issuance of FIN 46, one company generally included another entity in its Consolidated Financial Statements only if it controlled the entity through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns, or both. A company that consolidates a variable interest entity is now referred to as the "primary beneficiary" of that entity.

FIN 46 requires disclosure of variable interest entities that the company is not required to consolidate but in which it has a significant variable interest.

The consolidation requirements of FIN 46 apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to variable interest entities created before January 31, 2003, in the first fiscal year or interim period beginning after June 15, 2003, so these requirements would be applicable to PG&E Corporation in the third quarter 2003. Certain new and expanded disclosure requirements apply to all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. These disclosures are required if there is an assessment that it is reasonably possible that an enterprise will consolidate or disclose information about a variable interest entity when FIN 46 becomes effective. PG&E Corporation is currently evaluating the impacts of FIN 46's initial recognition, measurement, and disclosure provisions on its Consolidated Financial Statements.

Guarantor's Accounting and Disclosure Requirements for Guarantees – In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 expands on the accounting guidance of Statement of Financial Accounting Standards (SFAS) No. 5, "Accounting for Contingencies," SFAS No. 57, "Related Party Disclosures," and SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." FIN 45 also incorporates, without change, the provisions of FASB Interpretation No. 34, "Disclosures of Indirect Guarantees of the Indebtedness of Others," which it supersedes.

FIN 45 elaborates on the existing disclosure requirements for most guarantees. It clarifies that a guarantor's required disclosures include the nature of the guarantee, the maximum potential undiscounted payments that could be required, the current carrying amount of the liability, if any, for the guarantor's obligations (including the liability recognized under SFAS No. 5), and the nature of any recourse provisions or available collateral that would enable the guarantor to recover amounts paid under the guarantee.

FIN 45 also clarifies that at the time a company issues a guarantee, it must recognize an initial liability for the fair value of the obligation it assumes under that guarantee, including its ongoing obligation to stand ready to perform over the term of the guarantee in the event that specified triggering events or conditions occur.

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This information must also be disclosed in interim and annual financial statements.

FIN 45 does not prescribe a specific account for the guarantor's offsetting entry when it recognizes the liability at the inception of the guarantee, noting that the offsetting entry would depend on the circumstances in which the guarantee was issued. There also is no prescribed approach included for subsequently measuring the guarantor's recognized liability over the term of the related guarantee. It is noted that the liability would typically be reduced by a credit to earnings as the guarantor is released from risk under the guarantee.

The initial recognition and initial measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002. PG&E Corporation is currently evaluating the impact of FIN 45's initial recognition and measurement provisions on its Consolidated Financial Statements. The disclosure requirements for FIN 45 are effective for financial statements of interim or annual periods ending after December 15, 2002, and have been incorporated into PG&E Corporation's December 31, 2002, disclosures of guarantees in these footnotes.

Accounting for Stock-Based Compensation – Transition and Disclosures – On December 31, 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation – Transition and Disclosures, an Amendment of FASB Statement No. 123." This Statement provides alternative methods of transition for companies who voluntarily change to the fair value-based method of accounting for stock-based employee compensation in accordance to SFAS No. 123, "Accounting for Stock-Based Compensation." SFAS No. 148 does not permit the use of the original SFAS No. 123 prospective method of transition for changes to the fair value based method made in fiscal years beginning after December 15, 2003. The Statement also requires prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based compensation and the effect of the method used on reported results. This Statement is effective upon its issuance.

PG&E Corporation continues to account for stock-based compensation using the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees," elected under SFAS No. 123, as amended. As a result, the adoption of this Statement did not have any impact on the Consolidated Financial Statements of PG&E Corporation or the Utility.

Please refer to the Stock-Based Compensation section of this Note 1 for additional information.

Change from Gross to Net Method of Reporting Revenues and Expenses on Trading Activities – Effective for the quarter ended September 30, 2002, PG&E Corporation changed its method of reporting gains and losses associated with energy trading contracts from the gross method of presentation to the net method. PG&E Corporation believes that the net method provides a more accurate and consistent presentation of energy trading activities on the financial statements. Amounts to be presented under the net method include all gross margin elements related to energy trading activities, including both unrealized and realized trades and both physical and financial trades.

Before implementation of the net method, PG&E Corporation already had reported unrealized gains and losses on trading activities on a net basis in operating revenues. However, PG&E Corporation had reported realized gains and losses on a gross basis in operating income, as both operating revenues and costs of commodity sales and fuel. PG&E Corporation is now reporting all gains and losses from trading activities, including amounts that are realized, on a net basis as operating revenues. This will provide greater consistency in reporting the results of all energy trading activities. All prior year financial statements have been reclassified to conform to the net method.

Implementation of the net method has no net effect on gross margin, operating income, or net

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income. Accordingly, PG&E Corporation continues to report realized income from non-trading activities on a gross basis in operating revenues and operating expenses. The schedule below summarizes the amounts impacted by the change in methodology on PG&E Corporation's Consolidated Statements of Operations for the years ended December 31, 2001 and 2000.

(in millions)		Prior Method of Presentation (Gross Method)				As Presented (Net Method)
		2001		2000		2001		2000
Energy commodities and services(1)		$	11,647	$	15,809	$	1,841	$	3,062
Cost of energy commodities and services(2)			11,026		14,933		1,220		2,186
	Net subtotal	$	621	$	876	$	621	$	876

⁽¹⁾

These amounts, as presented in the net method, differ from the financial statements due to the exclusion of equity earnings in affiliates, and eliminations and other, which amounted to net charges of $93 million and $131 million at December 31, 2001, and 2000, respectively.

⁽²⁾

These amounts, as presented in the net method, differ from the financial statements due to the exclusion of eliminations and other, which amounted to net charges of $172 million and $196 million at December 31, 2001, and 2000, respectively.

Rescission of EITF 98 - 10 – In October 2002, the Emerging Issues Task Force (EITF) rescinded EITF Issue No. 98-10, "Accounting for Contracts Involved in Energy Trading and Risk Management Activities." Energy trading contracts that are derivatives in accordance with SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities" (collectively, SFAS No. 133), will continue to be accounted for at fair value under SFAS No. 133. Contracts that were previously marked to market as trading activities under EITF 98-10 that do not meet the definition of a derivative will be recorded at cost, with a one-time adjustment to be recorded as a cumulative effect of a change in accounting principle as of January 1, 2003. For PG&E Corporation, the majority of trading contracts are derivative instruments as defined in SFAS No. 133. The rescission of EITF 98-10 has no effect on the accounting for derivative instruments used for non-trading purposes, which continue to be accounted for in accordance with SFAS No. 133.

The reporting requirements associated with the rescission of EITF 98-10 are to be applied prospectively for all EITF 98-10 energy trading contracts entered into after October 25, 2002. For all EITF 98-10 energy trading contracts in existence at or prior to October 25, 2002, the estimated impact of the first quarter 2003 cumulative effect of a change in accounting principle is a loss of $5 million, net of taxes at December 31, 2002.

Change in Estimate Due to Changes in Certain Fair Value Assumptions – PG&E Corporation estimates the gross mark-to-market value of its trading contracts and certain non-trading contracts using forward curves. The forward curves used to calculate mark-to-market value have liquid periods (includes continuous maturities starting from the month for which broker quotes are available on a daily basis) and illiquid periods (includes those maturities for which broker quotes are not readily available). When market data is not available, PG&E Corporation historically has utilized alternative pricing methodologies, including third-party pricing curves, the extrapolation of forward pricing curves using historically reported data, and interpolation between existing data points. The gross mark-to-market valuation is then adjusted for time value of money, creditworthiness of contractual counterparties, market liquidity in future periods, and other adjustments necessary to determine fair value. For trading activities, these models are used to estimate the fair value of long-term transactions including certain tolling agreements. For non-trading activities, these models are used to estimate the fair value of certain derivative

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contracts accounted for as cash flow hedges or at fair value through earnings under SFAS No. 133.

Beginning in the third quarter of 2002, PG&E Corporation implemented a new model for projecting forward power and gas prices during illiquid periods. This new process primarily impacts the estimation of power prices. The model estimates forward power prices in illiquid periods using the mid-point of the marginal cost curve (the lowest variable cost of generation available in a particular region) and the forecast curve (the price at which a generation unit will recover its capital costs and a return on investment). Assumptions about cost recovery are combined with assumptions about volatility and correlation in an option model to project forward power prices. Interpolation methods continue to be used for intermediate periods when broker quotes are intermittent. In addition to implementing the new process for projecting forward power prices in illiquid periods, PG&E Corporation also enhanced its models to better incorporate certain physical characteristics of its power plants, and to account for uncertainties surrounding projected forward prices, volumetric assumptions, and modeling complexity. PG&E Corporation also refined its process for estimating the bid-ask spread in illiquid periods for purposes of liquidity adjustments.

All of these changes in fair values are being accounted for on a prospective basis as a change in accounting estimate. The change in fair values had a pre-tax income effect of a $14 million loss from trading activities and a pre-tax gain of $25 million from non-trading activities. These income effects, totaling a pre-tax gain of $11 million for both trading and non-trading activities, were recognized in the quarter ended September 30, 2002.

Accounting for Gains and Losses on Debt Extinguishment and Certain Lease Modifications – On July 1, 2002, PG&E Corporation adopted SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." This Statement eliminates the current requirement that gains and losses on debt extinguishment be classified as extraordinary items. Instead, such gains and losses will generally be classified as interest expense. During 2002, PG&E Corporation recorded $115 million of debt extinguishment losses as a charge to interest expense relating to note prepayments and ratings waiver extensions.

In addition, SFAS No. 145 eliminates an inconsistency in lease accounting by requiring that modifications of capital leases that result in reclassification as operating leases be accounted for consistently with sale-leaseback accounting rules. This provision did not have any impact on the Consolidated Financial Statements of PG&E Corporation or the Utility at the date of adoption.

Changes to Accounting for Certain Derivative Contracts – On April 1, 2002, PG&E Corporation implemented two interpretations issued by the FASB's Derivatives Implementation Group (DIG). DIG Issues C15 and C16 changed the definition of normal purchases and sales included in SFAS No. 133. Previously, certain derivative commodity contracts for the physical delivery of purchase and sale quantities transacted in the normal course of business were exempt from the requirements of SFAS No. 133 under the normal purchases and sales exception, and thus were not marked to market and reflected on the balance sheet like other derivatives. Instead, these contracts were recorded on an accrual basis.

DIG C15 changed the definition of normal purchases and sales for certain power contracts. DIG C16 disallowed normal purchases and sales treatment for commodity contracts (other than power contracts) that contain volumetric variability or optionality. PG&E NEG determined that five of its derivative commodity contracts for the physical delivery of power and purchase of fuel no longer qualified for normal purchases and sales treatment under these interpretations. Beginning April 1, 2002, these five contracts were required to be recorded on the balance sheet at fair value and marked to market through earnings. Three of the contracts had positive market values and resulted in pre-tax income of $125 million. The remaining two contracts had negative market values that resulted in a pre-tax

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charge of $127 million. The cumulative effects of implementing these accounting changes at April 1, 2002, resulted in PG&E Corporation recording price risk management assets of $37 million, price risk management liabilities of $255 million, and a reduction of out-of-market obligations of $129 million reclassified to net price risk management liabilities.

One of the contracts with a positive market value included above is a power sales contract at a partnership in which PG&E NEG has a 50 percent ownership interest. PG&E NEG reflects its investment in this partnership on an equity basis (Investments in Unconsolidated Affiliates). Upon adoption of DIG C15 and C16, PG&E NEG recognized its equity share of the gain from the cumulative change in accounting method and correspondingly increased the book value of its equity investment in the partnership. However, the future net cash flows from the partnership do not support the increased equity investment balance. Therefore, PG&E NEG has recognized an impairment charge of $101 million to reduce its equity-method investment to fair value.

The cumulative effect of the change in accounting principle for DIG C15 and C16 was a net charge of $61 million, after-tax, and included the recognition of the fair market value of the five contracts impacted by DIG C15 and C16 and the impairment charge for the equity method investment. The Utility was not impacted by these accounting changes.

Implementation of these accounting changes will not impact the timing and amount of cash flows associated with the affected contracts; however, it will impact the timing and magnitude of future earnings. Future earnings will reflect the gradual reversal of the assets and liabilities recorded upon adoption over the contracts' lives, as well as any prospective changes in the market value of the contracts. Prospective changes in the market value of these contracts could result in significant volatility in earnings. However, over the total lives of the contracts, there will be no net impact to total operating results after netting the cumulative effect of adoption against the subsequent years' impacts (assuming that the affected contracts are held to their expiration).

Accounting for the Impairment or Disposal of Long-Lived Assets – On January 1, 2002, PG&E Corporation adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of," but retains its fundamental provision for recognizing and measuring impairment of long-lived assets to be held and used. This Statement requires that all long-lived assets to be disposed of by sale be carried at the lower of carrying amount or fair value less cost to sell, and that depreciation cease to be recorded on such assets. SFAS No. 144 standardizes the accounting and presentation requirements for all long-lived assets to be disposed of by sale, and supersedes previous guidance for discontinued operations of business segments. The initial adoption of this Statement at January 1, 2002, did not have any impact on the Consolidated Financial Statements of PG&E NEG. During 2002, PG&E NEG recorded certain impairment charges in accordance with SFAS No. 144 (see Note 6, "Discontinued Operations" and Note 7, "Impairments, Write-offs, and Other Charges").

Accounting for Goodwill and Other Intangible Assets – On January 1, 2002, PG&E Corporation adopted SFAS No. 142, "Goodwill and Other Intangible Assets." This Statement eliminates the amortization of goodwill and requires that goodwill be reviewed at least annually for impairment. Upon implementation of this Statement, the transition impairment test for goodwill was performed as of January 1, 2002, and no impairment loss was recorded. Goodwill amortization expense was $5 million in 2001 and 2000. During 2002, PG&E NEG recorded a charge for impairment of goodwill in accordance with SFAS No. 142 (see Note 7, Impairment, Write-offs, and Other Charges). The Utility had no goodwill on its balance sheet at December 31, 2002, or December 31, 2001.

This Statement also requires that the useful lives of previously recognized intangible assets be

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reassessed and the remaining amortization periods be adjusted accordingly. Adoption of this Statement did not require any adjustments to be made to the useful lives of existing intangible assets and no reclassifications of intangible assets to goodwill were necessary.

Intangible assets other than goodwill are being amortized on a straight-line basis over their estimated useful lives, and are reported under non-current assets in the Consolidated Balance Sheets.

The schedule below summarizes the amount of intangible assets by major classes:

(in millions)		Balance at December 31,
		2002				2001
		Gross Carrying Amount		Accumulated Amortization		Gross Carrying Amount		Accumulated Amortization
PG&E NEG:
	Service agreements	$	33	$	7	$	33	$	6
	Power sale agreements		14		9		25		8
	Other agreements		12		6		17		5
Utility:
	Hydro licenses and other agreements		67		16		66		14
	PG&E Corporation Consolidated	$	126	$	38	$	141	$	33

PG&E NEG's amortization expense on intangible assets was $74 million in 2002, $3 million in 2001, and $4 million in 2000. The Utility's amortization expense of intangible assets was $3 million in 2002, $2 million in 2001, and $2 million in 2000.

The following schedule shows the estimated amortization expenses for intangible assets for full years 2003 through 2007.

(in millions)	2003		2004		2005		2006		2007
PG&E NEG	$	4	$	3	$	3	$	3	$	3
Utility	$	3	$	3	$	3	$	3	$	3

Accounting for Asset Retirement Obligations – In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." PG&E Corporation and the Utility will adopt this Statement effective January 1, 2003. SFAS No. 143 provides accounting requirements for costs associated with legal obligations to retire tangible, long-lived assets. Under the Statement, the asset retirement obligation is recorded at fair value in the period in which it is incurred by increasing the carrying amount of the related long-lived asset. In each subsequent period, the liability is accreted to its present value and the capitalized cost is depreciated over the useful life of the related asset. Upon adoption, the cumulative effect of applying this Statement will be recognized as a change in accounting principle in the Consolidated Statements of Operations. However, rate-regulated entities may recognize regulatory assets or liabilities as a result of timing differences between the recognition of costs as recorded in accordance with this statement and costs recovered through the ratemaking process. Regulatory assets and liabilities may be recorded when it is probable that the asset retirement costs will be recovered through the ratemaking process.

PG&E Corporation estimates the impact of adopting SFAS No. 143 effective January 1, 2003, will be as follows:

•

The Utility will adjust its nuclear decommissioning obligation to reflect the fair value of decommissioning its nuclear power facilities. The Utility will also recognize asset retirement obligations associated with the decommissioning of other fossil generation assets.


At December 31, 2002, the total nuclear decommissioning obligation accrued was $1.3 billion and is included in accumulated depreciation and decommissioning on the Consolidated Balance Sheets (see Note 13, "Nuclear Decommissioning"). The Utility has accrued, at December 31, 2002, $52 million to decommission certain fossil generation assets based on its estimate of the decommissioning obligation under the accounting principles in effect at that time. These decommissioning obligations are also included in accumulated depreciation and decommissioning on the Consolidated Balance Sheets.

The Utility estimates it will recognize an

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adjustment to its recorded nuclear and fossil facility decommissioning obligations in the range of an increase of $222 million to a decrease of $192 million for asset retirement obligations in existence as of January 1, 2003. The estimated cumulative effect of a change in accounting principle from unrecognized accretion expense and adjustments to depreciation and decommissioning expense accrued to date will range from a loss of $19 million to a gain of $17 million (pre-tax).

•

PG&E NEG estimates that it will recognize a liability in the range of $11 million to $21 million for asset retirement obligations on January 1, 2003. The cumulative effect of a change in accounting principle from unrecognized accretion and depreciation expense is estimated to be a loss in the range of $4 million to $6 million (pre-tax). The impact to PG&E NEG of implementing SFAS No. 143 by its unconsolidated affiliates is expected to be immaterial.

Cash and Cash Equivalents

Invested cash and other investments with original maturities of three months or less are considered cash equivalents. Cash equivalents are stated at cost, which approximates fair value. PG&E Corporation's and the Utility's cash equivalents are held in a variety of funds that mainly invest in:

•

Certificates of deposit and time deposits;



•

Bankers' acceptances and other short-term securities issued by banks;



•

Asset-backed securities;



•

Repurchase agreements;



•

High-grade commercial paper; and



•

Discounted notes issued or guaranteed by the United States government or its agencies.

In general, the securities are purchased on the date of issue and held in the accounts until maturity. Substantially all of PG&E Corporation's and the Utility's cash equivalents on hand at December 31, 2002, have matured and have been reinvested.

At December 31, 2002, two funds held balances greater than 10 percent of PG&E Corporation's and the Utility's cash and cash equivalents balance. They were the Citifunds Institutional Liquid Reserves Fund and the Fiduciary Trust Company International.

Restricted Cash

Restricted cash includes cash and cash equivalents, as defined above, which are (1) restricted under the terms of certain agreements for payment to third parties, and (2) held in escrow as collateral required by the California Independent System Operator (ISO) and other counterparties.

Inventories

Inventories include materials and supplies, gas stored underground, coal, and fuel oil. Materials, supplies, and gas stored underground are valued at average cost. Coal and fuel oil are valued using the last-in first-out method. PG&E ET's natural gas inventory is valued at cost as discussed in Note 1, Recission of EITF 98-10.

Income Taxes

PG&E Corporation and the Utility use the liability method of accounting for income taxes. Income tax expense (benefit) includes current and deferred income taxes resulting from operations during the year. Investment tax credits are amortized over the life of the related property. Other tax credits, primarily synthetic fuel tax credits, are recognized in income as earned.

PG&E Corporation files a consolidated U.S. (federal) income tax return that includes domestic subsidiaries in which its ownership is 80 percent or more. In addition, PG&E Corporation files combined state income tax returns where applicable. PG&E Corporation and the Utility are parties to a tax-sharing arrangement under which the Utility determines

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its income tax provision (benefit) on a stand-alone basis.

PG&E NEG is included in the consolidated tax return of PG&E Corporation. Certain creditors of PG&E NEG have asserted that past payments from tax benefits gave rise to an implied tax sharing agreement between PG&E Corporation and PG&E NEG. PG&E Corporation disputes this assertion.

Property, Plant and Equipment

Property, Plant and Equipment are reported at its original cost, unless impaired under the provisions of SAFS No. 144. Original costs include:

•

Labor and materials;



•

Construction overhead; and



•

Capitalized interest or an allowance for funds used during construction (AFUDC).

AFUDC is the estimated cost of debt and equity funds used to finance regulated plant additions that is allowed to be recorded as part of the costs of construction projects. AFUDC is recoverable from customers through rates once the property is placed in service.

Capitalized Interest and AFUDC

(in millions)	Year ended December 31,
	2002		2001		2000
PG&E Corporation	$	42	$	22	$	19
Utility		27		18		18

PG&E Corporation and the Utility periodically evaluate long-lived assets, including property, plant and equipment, when events or changes in circumstances indicate that the carrying value of these assets may be impaired.

PG&E Corporation charged the original cost of retired plant and removal costs less salvage value to accumulated depreciation upon retirement of plant in service for the Utility and for PG&E NEG's lines of business that apply SFAS No. 71, "Accounting for the Effects of Certain Types of Regulation," as amended. For the remainder of PG&E NEG business operations, the cost and accumulated depreciation of property, plant and equipment retired or otherwise disposed of from related accounts and included the amounts in the determination of the gain or loss on disposition.

Depreciation

Property, plant and equipment are depreciated on a straight-line basis over estimated useful lives, less any residual or salvage value.

Composite depreciation rates	Year ended December 31,
	2002		2001		2000
PG&E Corporation	3.36	%	3.07	%	4.49	%
Utility	3.42	%	3.63	%	4.54	%

Estimated useful lives	Utility	PG&E NEG
Electric generating facilities	15 to 50 years	20 to 50 years
Electric distribution facilities	16 to 63 years	N/A
Electric transmission	27 to 65 years	N/A
Gas distribution facilities	28 to 49 years	N/A
Gas transmission	25 to 45 years	15 to 40 years
Gas storage	25 to 48 years	N/A
Other	5 to 40 years	2 to 20 years

The useful lives of the Utility's property, plant and equipment are authorized by the CPUC. Depreciation rates include a component for the cost of asset retirement net of salvage value. The Utility has a separate rate component for the accrual of its recorded obligation for nuclear decommissioning which is included in depreciation, amortization, and decommissioning expense in the accompanying Consolidated Statements of Operations. The accrued net asset retirement obligation is included in accumulated depreciation and decommissioning in the accompanying Consolidated Balance Sheets.

Refer to the section "Accounting for the Impairment or Disposal of Long-Lived Assets" in this Note and Note 7 "Impairment, Write-offs, and Other Charges" for a discussion of impairment and the effect on Property, Plant and Equipment.

Nuclear Fuel

Property, plant and equipment includes nuclear fuel inventories. Stored nuclear fuel inventory is stated at weighted average cost. Nuclear fuel in the reactor is amortized based on the amount of energy output.

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Capitalized Software Costs

PG&E Corporation capitalizes costs incurred during the application development stage of internal use software projects to property, plant and equipment. Capitalized software costs totaled $349 million at December 31, 2002, and $269 million at December 31, 2001, net of accumulated amortization of $154 million at December 31, 2002, and $112 million at December 31, 2001. PG&E Corporation amortizes capitalized software costs ratably over the expected lives of the projects ranging from 3 to 15 years, commencing operational use, in accordance with regulatory requirements.

Gains and Losses on Debt Extinguishments

Gains and losses on debt extinguishments associated with regulated operations that are subject to the provisions of SFAS No. 71 are deferred and amortized over the remaining original amortization period of the debt reacquired, consistent with ratemaking principles. Gains and losses on debt extinguishments associated with unregulated operations are recognized at the time such debt is reacquired, and upon adoption of SFAS No. 145 on July 1, 2002 are reported as interest expense unless they were determined to be unusual and infrequent, in which case they would be reported as extraordinary gains or losses.

Fair Value of Financial Instruments

The fair value of a financial instrument represents the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced sale or liquidation. Significant differences can occur between the fair value and carrying amount of financial instruments that are recorded at historical amounts.

PG&E Corporation used the following methods and assumptions in estimating fair value disclosures for financial instruments:

•

The fair values of cash and cash equivalents, restricted cash and deposits, net accounts receivable, short-term borrowings, debt in default, and accounts payable, approximate their carrying values as of December 31, 2002, and 2001;



•

The fair value of the Utility's debt, for which no market quotations are readily available, is obtained from third-party experts with extensive experience in the fair valuation of such instruments. The fair value of a small portion of the Utility's debt is determined using the present value of future cash flows; and



•

The fair values of nuclear decommissioning funds, rate reduction bonds, the Utility's preferred stock, and the Utility's 7.90 percent deferrable interest subordinated debentures are determined based on quoted market prices.

Due to the illiquid nature and limited demand for PG&E NEG's long-term debt, the estimated fair value at December 31, 2002, was not able to be determined. At December 31, 2001, PG&E NEG's long-term receivables had a carrying value of $536 million and estimated fair value of $467 million. At December 31, 2001, PG&E NEG's long-term debt had a carrying value of $3.4 billion and an estimated fair value of $3.5 billion.

The carrying amount and fair value of PG&E Corporation's and the Utility's financial instruments are as follows (the table below excludes financial instruments with fair values that approximate their carrying values, as these instruments are presented on the Consolidated Balance Sheets):

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(in millions)		At December 31,
		2002				2001
		Carrying Amount		Fair Value		Carrying Amount		Fair Value
Nuclear decommissioning funds (Note 13):
	Utility	$	1,335	$	1,335	$	1,337	$	1,337
Long-term debt (Note 4):
	PG&E Corporation		1,000		1,000		1,000		1,000
	Utility		4,820		4,631		5,153		4,975
Rate reduction bonds (Note 5):
	Utility		1,450		1,580		1,740		1,811
Utility preferred stock with mandatory redemption provisions (Note 10):			137		132		137		109
7.90 Percent cumulative quarterly income preferred securities (Note 4)			–		–		300		246
7.90 Percent deferrable interest subordinated debentures (Note 4)			300		275		–		–

Regulation and Statement of Financial Accounting Standards No. 71

PG&E Corporation and the Utility account for the financial effects of regulation in accordance with SFAS No. 71. SFAS No. 71 applies to regulated entities whose rates are designed to recover the costs of providing service. The Utility is regulated by the CPUC, the FERC, and the Nuclear Regulatory Commission (NRC), among others. The gas transmission business in the Pacific Northwest is also regulated by the FERC.

SFAS No. 71 provides for the recording of regulatory assets and liabilities when certain conditions are met. Regulatory assets represent the capitalization of incurred costs that would otherwise be charged to expense when it is probable that the incurred costs will be included for ratemaking purposes in the future. Regulatory liabilities represent rate actions of a regulator that will result in amounts that are to be credited to customers through the ratemaking process.

If portions of the Utility's or PG&E GTN's operations no longer become subject to the provisions of SFAS No. 71, a write-off of related regulatory assets and liabilities would be required, unless some form of transition cost recovery continues through rates established and collected for the remaining regulated operations.

Regulatory Assets

Regulatory assets comprise the following:

(in millions)	Balance at December 31,
	2002		2001
Rate reduction bond assets	$	1,346	$	1,636
Unamortized loss, net of gain, on reacquired debt		299		322
Regulatory assets for deferred income tax		229		188
Other, net		137		137
Total Utility regulatory assets		2,011		2,283
PG&E GTN		42		36
Total PG&E Corporation regulatory assets	$	2,053	$	2,319

Regulatory assets are charged to expense during the period that the costs are reflected in regulated revenues.

The Utility's regulatory asset related to rate reduction bonds is amortized simultaneously with the amortization of the rate reduction bonds, and will be fully recovered by the end of 2007. The Utility's regulatory asset related to the unamortized loss, net of gain, on reacquired debt will be recovered over the remaining original amortization period of the reacquired debt over periods ranging from 1 to 24 years. The Utility's regulatory assets related to deferred income tax will be recovered over the period of reversal of the accumulated deferred taxes to which they relate. Based on current regulatory ratemaking and income tax laws, the Utility expects to

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recover deferred income tax-related regulatory assets over periods ranging from 1 to 39 years.

In general, the Utility does not earn a return on regulatory assets where the related costs do not accrue interest. At December 31, 2002, the Utility did not earn a return on regulatory assets related to deferred income taxes of $229 million.

Regulatory Liabilities

Regulatory Liabilities comprise the following:

(in millions)	Balance at December 31,
	2002		2001
Employee benefit plans	$	1,102	$	1,133
Public purpose programs		182		218
Rate reduction bonds		102		17
Other		75		117
Total Utility regulatory liabilities		1,461		1,485
PG&E GTN		14		12
Total PG&E Corporation regulatory liabilities	$	1,475	$	1,497

The Utility's regulatory liabilities related to employee benefit plan expenses represent the cumulative differences between expenses recognized for financial accounting purposes and expenses recognized for ratemaking purposes. These balances will be charged against expense to the extent that future financial accounting expenses exceed amounts recoverable for regulatory purposes. The Utility's regulatory liabilities related to public purpose programs represent revenues designated for public purpose program costs that are expected to be incurred in the future. The Utility's regulatory liability for rate reduction bonds represents the deferral of over-collected revenue associated with the rate reduction bonds that the Utility expects to return to ratepayers in the future.

Regulatory Balancing Accounts

Sales balancing accounts accumulate differences between recorded revenues and revenues the Utility is authorized to collect through rates. Cost balancing accounts accumulate differences between recorded costs and costs the Utility is authorized to recover through rates. Under-collections that are probable of recovery are recorded as regulatory balancing account assets. Over-collections are recorded as regulatory balancing account liabilities. The Utility's regulatory balancing accounts accumulate balances until they are refunded to or received from Utility customers through authorized rate adjustments.

As a result of the California energy crisis discussed in Note 2, the Utility could no longer conclude that power-generation and procurement-related balancing accounts meet the requirements of SFAS No. 71. However, the Utility continues to record balancing accounts associated with its electricity and gas distribution and transmission businesses.

In 2002, the CPUC ordered the Utility to create certain electric balancing accounts to track specific electric-related costs but has not yet determined the recovery method for these costs. In the decisions ordering the creation of these balancing accounts, the CPUC indicated that the recovery method of these amounts would be determined in the future. Because the Utility cannot conclude that the amounts in these balancing accounts are considered probable of recovery in future rates, the Utility has reserved these balances by recording a charge against earnings. As of December 31, 2002, the reserve for these balances was $136 million.

The Utility's current regulatory balancing account assets comprise the following:

(in millions)	Balance at December 31,
	2002		2001
Gas Revenue Balancing Accounts	$	65	$	42
Gas Cost Balancing Accounts		33		25
Electric Distribution Cost Balancing Accounts		–		8
Total	$	98	$	75

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The Utility's current regulatory balancing account liabilities comprise the following:

(in millions)	Balance at December 31,
	2002		2001
Gas Revenue Balancing Accounts	$	4	$	31
Gas Cost Balancing Accounts		226		178
Electric Transmission and Distribution Revenue Balancing Accounts		98		151
Electric Transmission Cost Balancing Accounts		32		–
Total	$	360	$	360

The Utility expects to collect from or refund to its ratepayers the balances included in current balancing accounts receivable and payable within the next twelve months. Regulatory balancing accounts that the Utility does not expect to collect or refund in the next twelve months are included in non-current regulatory assets and liabilities.

Revenue Recognition

Revenues are recorded in accordance with the Securities and Exchange Commission (SEC) Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition," as amended.

Energy commodities and services revenues derived from power generation are recognized upon output, product delivery, or satisfaction of specific targets, all as specified by contractual terms. Regulated gas transmission revenues are recorded as services are provided, based on rate schedules approved by the FERC. Electric utility revenues, which are comprised of generation, transmission, and distribution services, are billed to the Utility's customers at the CPUC-approved "bundled" electricity rate. Gas utility revenues, which are comprised of transmission and distribution services, are also billed at CPUC-approved rates. Utility revenues are recognized as gas and electricity are delivered, and include amounts for services rendered but not yet billed at the end of each year.

As discussed in Note 2, since January 2001, the California Department of Water Resources (DWR) has purchased electricity on behalf of the Utility's customers to cover the amount of electricity needed by the Utility's customers that could not be met by the Utility's purchased power contracts and retained generation facilities. Under California law, the DWR is deemed to sell the electricity directly to the Utility's retail customers, not to the Utility. Therefore, the Utility is a pass-through entity for transactions between its customers and the DWR. Although charges for electricity provided by the DWR are included in the amounts the Utility bills its customers, the Utility deducts from electric revenues amounts passed through to the DWR. The pass-through amounts are based on the DWR's CPUC-approved revenue requirement and are excluded from the Utility's electric revenues in its Consolidated Statements of Operations.

In accordance with EITF 98-10 and SFAS No. 133, certain energy trading contracts that are not designated as hedging instruments or as normal purchase and sale contracts, are recorded at fair value using mark-to-market accounting, which records a change in fair value as income (or a charge) on the income statement, and correspondingly adjusts the fair value of the instrument on the balance sheet. Effective January 1, 2003, all non-derivative energy trading contracts that were marked to market under EITF 98-10 will be accounted for using the cost method. Please refer to the Adoption of New Accounting Policies section of this note for additional information.

Revenues from trading activities are reported on a net basis in operating revenues for both realized and unrealized gains (and losses). Realized revenues and costs of sales from non-trading activities are reported on a gross basis as operating revenues and operating expenses, respectively.

Accounting for Price Risk Management Activities

PG&E Corporation, primarily through its subsidiaries, engages in price risk management activities for both non-trading and trading purposes. Non-trading activities are conducted to optimize and secure the return on risk capital deployed within PG&E NEG's existing asset and contractual portfolio. Because of the Utility's credit rating downgrade and subsequent

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bankruptcy, risk management activities have been limited to forward and option contracts related to the Utility's natural gas portfolio and the continuation of power forward contracts that were in existence prior to the bankruptcy.

PG&E Corporation conducts trading activities principally through its unregulated lines of business. Trading activities are conducted to generate profit, create liquidity, and maintain a market presence. Net open positions often exist or are established due to PG&E NEG's assessment of and response to changing market conditions.

PG&E NEG is significantly reducing their energy trading operations.

Derivatives associated with both non-trading and trading activities include forward contracts, futures, swaps, options, and other contracts.

Derivative instruments associated with non-trading activities are accounted for at fair value in accordance with SFAS No. 133 and ongoing interpretations of the FASB's DIG. Derivative and other financial instruments associated with trading activities in electric and other energy commodities are accounted for at fair value in accordance with SFAS No. 133 and EITF 98-10, subject to the transition requirements of the rescission of EITF 98-10 discussed above.

Both non-trading and trading derivatives are classified as price risk management assets and price risk management liabilities in the accompanying Consolidated Balance Sheets. Non-trading derivatives, or any portion thereof, that are not effective hedges are adjusted to fair value through income. For non-trading derivatives that are effective hedges, changes in the fair value are recognized in accumulated other comprehensive income (loss) until the hedged item is recognized in earnings. Derivatives associated with trading activities are adjusted to fair value through income, subject to the effects of the rescission of EITF 98-10 discussed above.

Net realized gains or losses on non-trading derivative instruments for the year ended December 31, 2002, were included in various lines on the PG&E Corporation Consolidated Statements of Operations, including energy commodities and services revenue, cost of energy commodities and services, interest income or interest expense, and other income, (expense), net. Changes in the market value of the trading contracts, resulting primarily from newly originated transactions and the impact of commodity prices or interest rate movements, are recognized in operating income in the period of change. On an unrealized and a realized basis, PG&E Corporation now recognizes trading contracts on a net basis as previously described in this Note.

As described more fully in this Note under Change in Estimate Due to Changes in Certain Fair Value Assumptions, for non-trading and trading contracts, models are used to estimate the fair value of derivatives and other contracts that are accounted for as derivative contracts. Gross mark-to-market value is estimated using the midpoint of quoted bid and ask prices for liquid periods and, for illiquid periods, using the midpoint of the marginal cost curve and the forecast curve. Interpolation methods are used for intermediate periods when broker quotes are intermittent. The gross mark-to-market valuation is then adjusted for time value of money, creditworthiness of contractual counterparties, market liquidity in future periods, and other adjustments necessary to determine fair value.

PG&E Corporation engages in non-trading activities to hedge the impact of market fluctuations on energy commodity prices, interest rates, and foreign currencies. Before the implementation of SFAS No. 133, PG&E Corporation and the Utility accounted for hedging activities under the deferral method, whereby unrealized gains and losses on hedging transactions were deferred. When the underlying item settled, PG&E Corporation and the Utility recognized the gain or loss from the hedge instrument in operating income. In instances where the anticipated correlation of price movements did not occur, hedge accounting was terminated and future changes in the value of the derivative were recognized as gains or losses. If the hedged item was sold, the value of the associated derivative was recognized in income.

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Effective January 1, 2001, PG&E Corporation and the Utility adopted SFAS No. 133 that requires that all derivatives, as defined, are recognized on the balance sheet at fair value. PG&E Corporation's transition adjustment to implement SFAS No. 133 on January 1, 2001, resulted in a non-material decrease to earnings and an after-tax decrease of $333 million to accumulated other comprehensive income. The Utility's transition adjustment to implement SFAS No. 133 resulted in a non-material decrease to earnings and an after-tax $90 million positive adjustment to accumulated other comprehensive loss. These transition adjustments, which relate to hedges of interest rate, foreign currency, and commodity price risk exposure, were recognized as of January 1, 2001, as a cumulative effect of a change in accounting principle.

PG&E Corporation and the Utility also have derivative commodity contracts for the physical delivery of purchase and sale quantities transacted in the normal course of business. These derivatives are exempt from the requirements of SFAS No. 133 under the normal purchase and sales exception, and are not reflected on the balance sheet at fair value. The FASB has approved two interpretations issued by the DIG that changed the definition of normal purchases and sales for certain power contracts. As previously described in this Note under "Changes to Accounting for Certain Derivative Contracts," PG&E Corporation implemented these interpretations on April 1, 2002.

To qualify for the normal purchases and sales exemption from SFAS No. 133, a contract must have pricing that is deemed to be clearly and closely related to the asset to be delivered under the contract. In 2001, the FASB approved another interpretation issued by the DIG that clarifies how this requirement applies to certain commodity contracts. In applying this new DIG guidance, PG&E Corporation determined that one of its derivative commodity contracts no longer qualifies for normal purchases and sales treatment, and must be marked-to-market through earnings. The cumulative effect of this change in accounting principle increased earnings by approximately $9 million (after-tax).

Stock-Based Compensation

PG&E Corporation and the Utility account for stock-based compensation using the intrinsic value method in accordance with the provisions of APB No. 25, as allowed by SFAS No. 123, as amended by SFAS No. 148. Under the intrinsic value method, PG&E Corporation and the Utility do not recognize any compensation expense, as the exercise price of all stock options is equal to the fair market value at the time the options are granted. Had compensation expense been recognized using the fair value-based method under SFAS No. 123, PG&E Corporation's pro forma consolidated earnings (loss) and earnings (loss) per share would have been as follows:

(in millions, except per share amounts)		Year ended December 31,
		2002			2001			2000
Net earnings (loss):
As reported		$	(874	)	$	1,099		$	(3,364	)
	Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(20	)		(23	)		(10	)
Proforma		$	(894	)	$	1,076		$	(3,374	)
Basic earnings (loss) per share:
As reported		$	(2.36	)	$	3.03		$	(9.29	)
Proforma		$	(2.41	)	$	2.96		$	(9.32	)
Diluted earnings (loss) per share:
As reported		$	(2.36	)	$	3.02		$	(9.29	)
Proforma		$	(2.41	)	$	2.96		$	(9.32	)

Had compensation expense been recognized using the fair value-based method under SFAS No. 123, the Utility's pro forma consolidated

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earnings (loss) and earnings (loss) per share would have been as follows:

(in millions, except per share amounts)	Year ended December 31,
	2002			2001			2000
Net earnings (loss):
As reported	$	1,794		$	1,015		$	(3,483	)
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(7	)		(7	)		(5	)
Proforma	$	1,787		$	1,008		$	(3,488	)

Accumulated Other Comprehensive Income (Loss)

Accumulated other comprehensive income (loss) reports a measure for accumulated changes in equity of an enterprise that results from transactions and other economic events other than transactions with shareholders. PG&E Corporation's and the Utility's accumulated other comprehensive income (loss) consists principally of changes in the market value of certain cash flow hedges with the implementation of SFAS No. 133 on January 1, 2001, as well as foreign currency translation adjustments.

Reclassifications

Certain amounts in the 2001 and 2000 financial statements have been reclassified to conform to the 2002 presentation. These reclassifications did not affect the consolidated net income of either PG&E Corporation or the Utility for the years presented.

NOTE 2:    THE UTILITY CHAPTER 11 FILING

Electric Industry Restructuring

In 1998, California implemented electric industry restructuring and established a market framework for electric generation in which generators and other power providers were permitted to charge market-based prices for wholesale power. The restructuring of the electric industry was mandated by the California Legislature in Assembly Bill (AB) 1890. The mandate included a retail electricity rate freeze and a plan for recovery of generation-related costs that were expected to be uneconomic under the new market framework (transition costs). Additionally, the CPUC strongly encouraged the Utility to sell more than 50 percent of its fossil fuel-fired generation facilities and made it economically unattractive for the Utility to retain its remaining generation facilities. The new market framework called for the creation of the Power Exchange (PX) and the Independent System Operator (ISO). Before it ceased operating in January 2001, the PX established market-clearing prices for electricity. The ISO's role is to schedule delivery of electricity for all market participants and operate certain markets for electricity. Until December 15, 2000, the Utility was required to sell all of its owned and contracted generation to, and purchase all electricity for its retail customers from, the PX. Customers were given the choice of continuing to buy electricity from the Utility or buying electricity from independent power generators or retail electricity suppliers (customers who chose to buy from independent power generators or retail electricity suppliers are referred to as direct access customers). Most of the Utility's customers continued to buy electricity from the Utility.

For the seven-month period from June 2000 through December 2000, wholesale electric prices in California averaged $0.18 per kilowatt-hour (kWh). During this period, the Utility's retail electric rates were frozen and provided only approximately $0.05 per kWh to pay for the Utility's electricity costs.

The frozen rates were designed to allow the Utility to recover its authorized utility costs and, to the extent the frozen rates generated revenues in excess of the Utility's authorized utility costs, recover its transitions costs. During the California energy crisis, frozen rates were insufficient to cover the Utility's electricity procurement and other costs. Because the Utility could no longer conclude that its under-collected electricity procurement and remaining transition costs were probable of recovery, the Utility charged $6.9 billion to expense for these costs at December 31, 2000. The Utility's inability to recover procurement costs from customers ultimately resulted in billions of dollars in

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defaulted debt and unpaid bills and caused the Utility to file a voluntary petition for relief under Chapter 11 of the Bankruptcy Code in the Bankruptcy Court on April 6, 2001.

In January 2001, the CPUC increased electric rates by $0.01 per kWh, and in March 2001 by another $0.03 per kWh, and restricted use of these surcharge revenues to "ongoing procurement costs" and "future power purchases." The Utility had recorded a regulatory liability for these $0.01 and $0.03 surcharge revenues when such surcharges exceeded ongoing procurement costs.

Although the CPUC authorized the $0.03 per kWh surcharge in March 2001, the Utility did not begin collecting the revenues until June 2001. As a result, in May 2001, the CPUC authorized the Utility to collect an additional $0.005 per kWh in revenues for 12 months to make up for the time lag in collection of the $0.03 surcharge revenues. Although the collection of this "half-cent" surcharge was originally scheduled to end on May 31, 2002, the CPUC issued a resolution ordering the Utility to continue collecting the half-cent surcharge until further consideration by the CPUC and to record the surcharge revenues in a balancing account. The Utility had recorded a regulatory liability for the $0.005 per kWh (half-cent) surcharge revenues billed subsequent May 31, 2002. The regulatory liabilities for the $0.01 per kWh and $0.03 per kWh surcharge revenues in excess of ongoing procurement costs, and half-cent surcharge revenues billed after May 31, 2002, totaled $222 million as of September 30, 2002, and $65 million as of December 30, 2001.

In November 2002, the CPUC approved a decision modifying the restrictions on the use of revenues generated by the surcharges to permit the revenues to be used for the purpose of securing or restoring the Utility's reasonable financial health, as determined by the CPUC. The CPUC will determine in other proceedings how the surcharge revenues can be used, whether there is any cost or other basis to support specific surcharge levels, and whether the resulting rates are just and reasonable. After the CPUC determines when the AB 1890 rate freeze ended, the CPUC will determine the extent and disposition of the Utility's under-collected costs, if any, remaining at the end of the rate freeze. If the CPUC determines that the Utility recovered revenues in excess of its transition costs or in excess of other permitted uses, the CPUC may require the Utility to refund such excess revenues.

In a case currently pending before it relating to the CPUC's settlement with Southern California Edison (SCE), another California investor-owned utility (IOU), the Supreme Court of California is considering whether the CPUC has the authority to enter into a settlement which allows SCE to recover under-collected procurement and transition costs in light of the provisions of AB 1890. The Utility cannot predict the outcome of this case or whether the CPUC or others would attempt to apply any ruling to the Utility. If the Utility is ordered to refund material amounts to ratepayers, the Utility's financial condition and results of operations would be materially adversely affected.

In December 2002, the CPUC issued a decision authorizing the Utility to stop tracking amounts related to the $0.01 and $0.03 surcharge revenues in a separate regulatory liability account and instead record them as a reduction to unrecovered transition costs. As a result, in January 2003, the Utility filed a letter with the CPUC requesting to withdraw its regulatory liability account used to track the $0.01 and $0.03 surcharge revenues in excess of ongoing procurement costs.

Based on this December 2002 CPUC decision and an agreement between the CPUC and SCE, in which SCE was allowed to use its half-cent surcharge to offset its California Department of Water Resources (DWR) revenue requirement, the Utility reversed its regulatory liabilities totaling $222 million related to the $0.01 and $0.03 per kWh surcharge revenues in excess of ongoing procurement costs, and half-cent surcharge revenues billed subsequent to May 31, 2002 during the fourth quarter of 2002. (Of this amount, $157 million was originally recorded as a regulatory liability during 2002; and as such, the reversal of this amount has no impact on current year earnings.)

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During 2001, the price of wholesale electricity stabilized. As a result, the Utility's total generation-related electric revenues were greater than its generation-related costs. In 2001, this resulted in additional earnings of $458 million (after-tax), which represented a partial recovery of previously written-off under-collected purchased power and transition costs, and included $327 million (after-tax) related to the market value of terminated bilateral contracts. During the year ended December 31, 2002, the Utility's total generation-related revenues exceeded its generation-related costs by approximately $1.4 billion (after-tax), which includes a net reduction of 2001 accrued purchased power costs of approximately $352 million (after-tax) and includes an offset of $218 million (after-tax) in additional pass-through revenues accrued in 2002 related to amounts to be remitted to the DWR in connection with the DWR's proposed amendment to the CPUC's May 16, 2002, servicing order. (See further discussion below under "Electricity Purchases.") The outstanding balance of the Utility's under-collected purchased power and transition costs (which were originally $4.1 billion, after-tax) amounted to $2.2 billion and $3.6 billion (after-tax) at December 31, 2002, and 2001, respectively. The recovery of these remaining under-collected purchased power costs and transition costs will depend on a number of factors, including the ultimate outcome of the Utility's bankruptcy and future regulatory and judicial proceedings, including the outcome of the Utility's filed rate doctrine litigation. (The filed rate doctrine litigation refers to a lawsuit filed in November 2000 in the U.S. District Court for the Northern District of California by the Utility against the CPUC Commissioners, asking the court to declare that the federally approved wholesale electricity costs that the Utility has incurred to serve its customers are recoverable in retail rates under the federal filed rate doctrine.)

Under AB 1890, the rate freeze was scheduled to end on the earlier of March 31, 2002, or the date that the Utility recovered all of its generation-related transition costs as determined by the CPUC. However, in January 2002, the CPUC issued a decision finding that new California legislation, AB 6X, had materially affected the implementation of AB 1890. The CPUC scheduled further proceedings to address the impact of AB 6X on the AB 1890 rate freeze for the Utility and to determine the extent and disposition of the Utility's remaining unrecovered transition costs. In its November 2002 decision regarding the surcharge revenues, discussed above, the CPUC reiterated that it had yet to decide when the rate freeze ended and the disposition of any under-collected costs remaining at the end of the rate freeze.

The CPUC and the Official Committee of Unsecured Creditors (OCC) filed an alternative plan of reorganization in the Utility's bankruptcy proceeding, proposing that the Utility's overall retail electric rates be maintained at current levels through January 31, 2003, in order to generate cash to repay in part the Utility's creditors under the CPUC's plan. (See "CPUC/OCC's Alternative Plan of Reorganization" below.) During the third quarter of 2002, the CPUC represented that since utilities are now required under state law, AB 6X, to retain their generating assets and the CPUC has regained its traditional rate authority over those assets, costs associated with those assets may be recovered by the utilities in the traditional way, under cost-based regulation. Based on these CPUC decisions and representations, the Utility believes it can continue to record revenues collected under its existing overall retail rates, subsequent to the statutory end of the rate freeze.

However, the CPUC's proceedings to consider the impact of AB 6X on the AB 1890 rate freeze and the disposition of the Utility's unrecovered transition costs are still pending, and it is possible that at some future date the CPUC, on its own initiative or in response to judicial decisions, including the California Supreme Court's consideration regarding the authority of the CPUC to enter into a settlement which allows SCE to recover under-collected procurement and transition costs in light of the provisions of AB 1890, may change its interpretation of law or otherwise seek to change the Utility's overall retail electric rates retroactively. The Utility has not provided reserves for potential refunds of any of these revenues as of December 31, 2002. As a result, any of the changes described above could materially affect the Utility's earnings.

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In a March 2001 decision, the CPUC adopted an accounting proposal by The Utility Reform Network (TURN) that retroactively restates the way in which the Utility's transition costs are recovered. This retroactive change had the effect of extending the AB 1890 rate freeze and reducing the amount of past wholesale electricity costs that could be eligible for recovery from customers. The CPUC, the California Supreme Court, and the Bankruptcy Court denied the Utility's request for rehearing. The Utility is currently appealing this matter to the U.S. District Court for the Northern District of California. The Utility cannot predict the outcome of this matter.

Generation Divestiture

AB 6X, passed by the California Legislature in January 2001, prohibits utilities from divesting their remaining power plants before January 1, 2006. The Utility believes this law does not supersede or repeal an existing law requiring the CPUC to establish a market value for their remaining generating assets by the end of 2001, based on appraisal, sale or other divestiture. The Utility has filed comments on this matter with the CPUC. However, the CPUC has not yet issued a decision.

On January 17, 2002, the Utility filed an administrative claim with the State of California Victim Compensation and Government Claims Board (the Board) alleging that the new law violates the Utility's statutory rights under California's deregulation law (AB 1890). The Utility believes that it has been denied its right to the market value of its retained generating facilities of at least $4.1 billion. On March 7, 2002, the Board formally denied the Utility's claim. Having exhausted remedies before the Board, the Utility filed suit for breach of contract in the California Superior Court on September 6, 2002. On January 9, 2003, the Superior Court granted the State of California's request to dismiss the complaint finding that AB 1890 does not constitute a contract. The Utility has 60 days to file an appeal and intends to do so. The Utility cannot predict what the outcome of any of these proceedings will be or whether they will have a material adverse effect on its results of operations or financial condition.

Electricity Purchases

In January 2001, as wholesale electric prices continued to exceed retail rates, the major credit rating agencies lowered their ratings for the Utility and PG&E Corporation to non-investment grade levels. Consequently, the Utility lost access to its bank facilities and capital markets, and could no longer continue buying electricity to deliver to its customers. As a result, in the first quarter of 2001, the California Legislature and the Governor of California authorized the DWR to purchase electricity for the Utility's customers and to issue revenue bonds to finance electricity purchases (governed by AB 1X). Initially, the DWR indicated that it intended to buy electricity only at "reasonable prices" to meet the Utility's net open position, leaving the ISO to purchase the remainder in order to avoid blackouts. The ISO billed the Utility for its costs to purchase electricity to cover the amount of the Utility's net open position not covered by the DWR. In 2001, the Utility accrued approximately $1 billion for these ISO purchases for the period January 17, 2001, through April 6, 2001. However, in 2001, the FERC issued a series of orders directing the ISO to buy electricity only on behalf of creditworthy entities. In March 2002, the FERC denied an application for rehearing and reaffirmed its previous orders finding that the DWR is responsible for paying such ISO charges.

In February 2002, the CPUC approved decisions adopting rates for the DWR, and allowing the DWR to collect power charges and financing charges from ratepayers to provide the revenues needed by the DWR to procure electricity for the customers of the Utility and the other California IOUs for the two-year period ending December 31, 2002.

In March 2002, the CPUC modified its February 2002, DWR revenue requirement decision, effectively lowering the amount allocated to the Utility's customers to $4.4 billion for the period from January 2001 through December 2002. The DWR's revenue requirement incorporates the procurement charges previously billed by the ISO and accrued by the Utility. As such, in light of the March 2002, FERC order and the February and

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March 2002, CPUC decisions, in the first quarter of 2002 the Utility reversed the excess of the ISO accrual (for the period from January 17, 2001, through April 6, 2001) over the amount of the additional DWR revenue requirement applicable to 2001, for a net reduction of accrued purchased power costs of approximately $595 million (pre-tax).

In October 2002, the DWR filed a proposed amendment to the CPUC's May 16, 2002, servicing order requesting changes to the calculation that determines the amount the Utility is required to pass through to the DWR. The DWR's proposed amendment changes the calculation that determines the amount of revenues that the Utility must pass-through to the DWR. This proposed amendment would also be used to true up previous amounts passed through to the DWR as well as future payments. Under its statutory authority, the DWR may request the CPUC to order utilities to implement such amendments, and the CPUC has approved such amendments in the past without significant change. In December 2002, the CPUC approved an operating order requiring the Utility to perform the operational, dispatch, and administrative functions for the DWR's allocated contracts beginning on January 1, 2003. The operating order, which applies prospectively, includes the DWR's proposed method of calculating the amount of revenues that the Utility must pass-through to the DWR. As a result, as of December 31, 2002, the Utility has accrued an additional $369 million (pre-tax) liability for pass-through revenues for electricity provided by the DWR to the Utility's customers.

In October 2002, the Utility filed a lawsuit in a California court asking the court to find that the DWR's revenue requirements had not been demonstrated to be "just and reasonable" (as required by AB 1X) and lawful, and that the DWR had violated the procedural requirements of AB 1X in making its determination. The Utility asked the court to order the DWR's revenue requirement determination be withdrawn as invalid, and that the DWR be precluded from imposing its revenue requirements on the Utility and its customers until it has complied with the law. No schedule has yet been set for consideration of the lawsuit.

Senate Bill 1976

Under AB 1X, the DWR is prohibited from entering into new agreements to purchase electricity to meet the net open position of the California IOUs after December 31, 2002. In September 2002, the Governor signed California Senate Bill (SB) 1976 into law. SB 1976 required that each California IOU submit, within 60 days after the CPUC allocated existing DWR contracts for electricity procurement to each California IOU, an electricity procurement plan to meet the residual net open position associated with that utility's customer demand. SB 1976 requires that each procurement plan include one or more of the following features:

•

A competitive procurement process under a format authorized by the CPUC, with the costs of procurement obtained in compliance with the authorized bidding format being recoverable in rates;



•

A clear, achievable, and quantifiable incentive mechanism that establishes benchmarks for procurement and authorizes the IOUs to procure electricity from the market subject to comparison with the CPUC-authorized benchmarks; or



•

Upfront and achievable standards and criteria to determine the acceptability and eligibility for rate recovery of a proposed transaction and an expedited CPUC pre-approval process for proposed bilateral contracts to ensure compliance with the individual utility's procurement plan.

SB 1976 provides that the CPUC may not approve the procurement plan if it finds the plan contains features or mechanisms which would impair restoration of the IOU's creditworthiness or would lead to a deterioration of the IOU's creditworthiness. SB 1976 also indicates that procurement activities in compliance with an approved procurement plan will not be subject to after-the-fact reasonableness review. The CPUC is permitted to establish a regulatory

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process to verify and ensure that each contract was administered in accordance with its terms and that contract disputes that arise are resolved reasonably.

A central feature of the SB 1976 regulatory framework is its direction to the CPUC to create new electric procurement balancing accounts to track and allow recovery of the differences between recorded revenues and costs incurred under an approved procurement plan. The CPUC must review the revenues and costs associated with the Utility's electric procurement plan at least semi-annually and adjust rates or order refunds, as appropriate, to properly amortize the balancing accounts. Until January 1, 2006, the CPUC must establish the schedule for amortizing the over-collections or under-collections in the electric procurement balancing accounts so that the aggregate over-collections or under-collections reflected in the accounts do not exceed 5 percent of the IOU's actual recorded generation revenues for the prior calendar year, excluding revenues collected on behalf of the DWR. Mandatory semi-annual review and adjustment of the balancing accounts will continue until January 1, 2006, after which time the CPUC will conduct electric procurement balancing account reviews and adjust retail ratemaking amortization schedules for the balancing accounts as the CPUC deems appropriate and in a manner consistent with the requirements of SB 1976 for timely recovery of electricity procurement costs.

Allocation of DWR Electricity to Customers of the IOUs

Consistent with applicable law and CPUC orders, since 2001, the Utility and the other California IOUs have acted as the billing and collection agents for the DWR's sales of its electricity to retail customers. In September 2002, the CPUC issued a decision allocating the electricity provided under existing DWR contracts to the customers of the IOUs. This decision required the Utility, along with the other IOUs, to begin performing all the day-to-day scheduling, dispatch, and administrative functions associated with the DWR contracts allocated to the IOUs' portfolios by January 1, 2003.

Although the DWR retains legal and financial responsibility for these contracts, the DWR has stated publicly that it intends to transfer full legal title of, and responsibility for, the DWR electricity contracts to the IOUs as soon as possible. However, SB 1976 does not contemplate a transfer of title of the DWR contracts to the IOUs. In addition, the operating order issued by the CPUC in December 2002 implementing the Utility's operational and scheduling responsibility with respect to the DWR allocated contracts specifies that the DWR will retain legal and financial responsibility for the contracts and that the December 2002 order does not result in an assignment of the DWR allocated contracts. The Utility's proposed plan of reorganization prohibits the Utility from accepting, directly or indirectly, assignment of legal or financial responsibility for the DWR contracts. There can be no assurance that either the State of California or the CPUC will not seek to provide the DWR with authority to effect such a transfer of legal title in the future. The Utility has informed the CPUC, the DWR and the State that the Utility would vigorously oppose any attempt to transfer the DWR allocated contracts to the Utility without the Utility's consent.

Chapter 11 Filing

On April 6, 2001, the Utility filed for relief under Chapter 11 of the Bankruptcy Code. Under Chapter 11, the Utility is subject to the jurisdiction of the Bankruptcy Court, however the Utility has control of its assets and is authorized to operate its business as a debtor-in-possession. Subsidiaries of the Utility, including PG&E Funding, LLC (which holds rate reduction bonds) and PG&E Holdings, LLC (which holds stock of the Utility), are not included in the Utility's Chapter 11 filing. PG&E Corporation, the Utility's parent, and PG&E NEG have not filed for Chapter 11 and are not included in the Utility's Chapter 11 filing. PG&E Corporation, however, is a co-proponent of the Utility's proposed plan of reorganization.

In connection with the Utility's Chapter 11 filing, various parties have filed claims with the Bankruptcy Court. Through December 31, 2002, claims filed with the Bankruptcy Court totaled

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approximately $49.4 billion. Of the $49.4 billion of claims filed, claims for approximately $25.5 billion have been disallowed by the Bankruptcy Court due to objections submitted by the Utility or as a result of the claimants withdrawing their claims from the Bankruptcy Court. Of the remaining $23.9 billion of filed claims, pursuant to the Plan and alternative plan (discussed below), claims totaling approximately $6.6 billion are expected to pass through the bankruptcy proceeding and be determined in the appropriate court or other tribunal during the bankruptcy proceeding or after it concludes.

The Utility intends to object to approximately $4.3 billion of the remaining $23.9 billion of filed claims. These objections relate primarily to generator claims. Approximately $500 million of the $23.9 billion of filed claims are subject to pending Utility objections. The Utility has recorded its estimate of all valid claims at December 31, 2002, as $9.4 billion of Liabilities Subject to Compromise and $3.0 billion of Long-Term Debt. The Utility has paid certain claims authorized by the Bankruptcy Court, as discussed below, and reduced the amount of outstanding claims accordingly. In addition, since its Chapter 11 filing, the Utility has accrued interest on all claims the Utility considers valid. This additional interest accrual is not included in the original $49.4 billion of claims filed. The following schedule summarizes the activity of the Utility's Liabilities Subject to Compromise from the period of December 31, 2001 to December 31, 2002.

(in billions)
Liabilities Subject to Compromise at December 31, 2001	$	11.4
Interest accrual for the year ended December 31, 2002		0.3
Claims paid pursuant to Bankruptcy Court orders		(1.4	)
Claims and Interest authorized by the Bankruptcy Court to be paid (transferred to accounts payable or interest payable)		(0.2	)
Reclassification of debt upon liquidation of trust holding solely Utility Subordinated Debentures (Note 4)		0.3
Reversal of first quarter 2001 ISO accrual		(1.0	)
Liabilities Subject to Compromise at December 31, 2002	$	9.4
Claims filed by PG&E Corporation and included in Liabilities Subject to Compromise		(0.2	)
Liabilities Subject to Compromise at December 31, 2002, excluding claims payable to PG&E Corporation	$	9.2

The balance of Liabilities Subject to Compromise increases and decreases due to a variety of factors. For example, disputed claims may be resolved or the Bankruptcy Court may authorize payment of certain claims.

The Bankruptcy Court has authorized the Utility to pay certain pre-petition claims and pre- and post-petition interest on certain claims prior to emerging from Chapter 11. Pursuant to Bankruptcy Court authorization, through December 31, 2002, approximately $901 million in principal and $60 million in interest had been paid to qualifying facilities (QFs). The Bankruptcy Court has also authorized the Utility to pay all undisputed creditor claims that amount to $5,000 or less and undisputed mechanics' lien and reclamation claims. At December 31, 2002, the majority of these payments had been made and totaled approximately $10 million. Also pursuant to Bankruptcy Court authorization, the Utility has paid approximately $1.3 billion through January 2, 2003, for pre- and post-petition interest on certain undisputed claims. The Utility also repaid advances and interest on advances of approximately $25 million, through January 2, 2003, to banks providing letters of credit backing pollution control bonds. In addition, the Utility has paid approximately $79 million in refunds for customer deposits, reimbursements for work performed by customers, and inspection fees for contracts related to gas and electric line extensions. A portion of these refunds, reimbursements, and inspection fees were paid as part of the Utility's normal business operations, and were not included in claims filed with the Bankruptcy Court.

As discussed above, the Bankruptcy Court has authorized payment of certain claims. These claims are therefore not included in the $9.4 billion of Liabilities Subject to Compromise, however the Utility is paying interest on these other claims at the various rates as described below. For certain claims, the Utility has identified receivable balances owed to the Utility from the claimant. These receivable balances may be settled as offsets to claims filed by the claimant, thereby reducing the amount of the

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claim and the interest ultimately payable to the claimant.

As specified in the Utility's proposed plan of reorganization (the Plan) described below, the Utility has agreed to pay pre- and post-petition interest on Liabilities Subject to Compromise at the rates set forth below, plus additional interest on certain claims as discussed below.

	Amount Owed (in millions)		Agreed Upon Rate (per annum)
Commercial Paper Claims	$	873	7.466	%
Floating Rate Notes		1,240	7.583	%	(Implied yield of 7.690%)
Senior Notes		680	9.625	%
Medium-Term Notes		287	5.810	% to 8.450%
Revolving Line of Credit Claims		938	8.000	%
Majority of QFs		97	5.000	%
Other Claims		5,276	Various
Liabilities Subject to Compromise at December 31, 2002	$	9,391

Since the Plan did not become effective on or before February 15, 2003, the interest rates for Commercial Paper Claims, Floating Rate Notes, Senior Notes, Medium-Term Notes, and Revolving Line of Credit Claims have been increased by 37.5 basis points, for periods on and after February 15, 2003. If the Plan does not become effective on or before September 15, 2003, the interest rates for these claims on and after such date will be increased by an additional 37.5 basis points. Finally, if the effective date does not occur on or before March 15, 2004, the interest rates for these claims on and after such date will be increased by an additional 37.5 basis points. For other claims, the Utility has recorded interest at the contractual or FERC-tariffed interest rate. When those rates do not apply, the Utility has recorded interest at the federal judgment rate.

The Utility has received approval from the Bankruptcy Court to make certain pre-petition principal payments on secured debt that has matured and has, at December 31, 2002, paid $333 million on this debt. At December 31, 2002, the Utility has $3 billion outstanding in pre-petition principal, secured debt. This debt is classified as Long-Term Debt in the Consolidated Balance Sheets.

The Bankruptcy Court has also authorized certain payments and actions necessary for the Utility to continue its normal business operations while operating as a debtor-in-possession. For example, the Utility is authorized to pay employee wages and benefits, certain QFs, interest on secured debt, environmental remediation expenses, and expenditures related to property, plant and equipment. In addition, the Utility is authorized to refund certain customer deposits, use certain bank accounts and cash collateral, and assume responsibility for various hydroelectric contracts.

Proposed Plan of Reorganization

The Utility and PG&E Corporation have jointly proposed a plan of reorganization, referred to as the Plan, which would allow the Utility to restructure its businesses and refinance the restructured businesses. The Plan is designed to align the Utility's existing businesses under the regulators that best match the business functions. Retail assets (natural gas and electricity distribution) would remain under the retail regulator, the CPUC. The wholesale assets (electric transmission, interstate natural gas transportation, and electric generation) would be placed under wholesale regulators, the FERC and the Nuclear Regulatory Commission (NRC). After this realignment, the retail-focused business would be a natural gas and electricity distribution company (Reorganized Utility), representing approximately 70 percent of the book value of the Utility's assets.

In contemplation of the Plan becoming effective, the Utility has created three new limited liability companies, the LLCs, which currently are owned by the Utility's wholly owned subsidiary, Newco Energy Corporation, or Newco. On the effective date of the Plan, the Utility would transfer substantially all the assets and liabilities primarily related to the Utility's electricity generation business to Electric Generation LLC, or Gen; the

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assets and liabilities primarily related to the Utility's electricity transmission business to ETrans LLC, or ETrans; and the assets and liabilities primarily related to the Utility's natural gas transportation and storage business to GTrans LLC, or GTrans.

The Plan proposes that on the effective date, the Utility would distribute to PG&E Corporation all of the outstanding common stock of Newco. Each of ETrans, GTrans, and Gen would continue to be an indirect wholly owned subsidiary of PG&E Corporation. Finally, on the effective date of the Plan or as promptly thereafter as practicable, PG&E Corporation would distribute all the shares of the Utility's common stock that it then holds to its existing shareholders in a spin-off transaction. After the spin-off, the Reorganized Utility would be an independent publicly held company. The common stock of the Reorganized Utility would be registered under federal securities laws and would be freely tradable by the recipients on the effective date or as soon as practicable thereafter. The Reorganized Utility would apply to list its common stock on the New York Stock Exchange. The Reorganized Utility would retain the name "Pacific Gas and Electric Company."

Although the Reorganized Utility would be legally separated from the LLCs, the Reorganized Utility's operations would remain connected to the operations of the LLCs after the effective date of the Plan. For example:

•

The Reorganized Utility would rely on Gen for a significant portion of the electricity the Reorganized Utility needs to meet its electricity distribution customers' demand during the 12-year term of a power purchase and sale agreement between the Reorganized Utility and Gen, or the Gen power purchase and sale agreement.



•

The Reorganized Utility would rely on ETrans for the Reorganized Utility's electricity transmission needs because the transmission lines proposed to be transferred to ETrans are currently the only transmission lines directly connected to the Utility's electricity distribution system.



•

The Reorganized Utility would rely on GTrans for the Reorganized Utility's natural gas transportation needs because the facilities proposed to be transferred to GTrans are currently the only transportation facilities directly connected to the Utility's natural gas distribution system. In addition, the Reorganized Utility would rely on GTrans for a substantial portion of the Reorganized Utility's natural gas storage requirements for at least 10 years under a transportation and storage services agreement between the Reorganized Utility and GTrans, though the Utility does have storage options with third party providers to meet a portion of their requirements.



•

The Reorganized Utility also would have significant operating relationships with the LLCs covering a range of functions and services.

Finally, the Reorganized Utility would continue to rely on its natural gas transportation agreement with PG&E GTN, for the transportation of western Canadian natural gas.

During 2002, the Utility undertook several initiatives to prepare for separation under the Plan. The Utility has spent approximately $43 million through December 31, 2002, on these initiatives.

The Plan proposes that allowed claims would be satisfied by cash, long-term notes issued by the LLCs or a combination of cash and such notes. Each of ETrans, GTrans, and Gen would issue long-term notes to the Reorganized Utility and the Reorganized Utility would then transfer the notes to certain holders of allowed claims. In addition, each of the Reorganized Utility, ETrans, GTrans, and Gen would issue "new money" notes in registered public offerings. The LLCs would transfer the proceeds of the sale of the new money notes, less working capital reserves, to the Utility for payment of allowed claims. The Plan also would reinstate nearly $1.59 billion of

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preferred stock and pollution control loan agreements.

On February 19, 2003, Standard & Poor's (S&P), a major credit rating agency, announced that it had re-affirmed its preliminary rating evaluation, originally issued in January 2002, of the corporate credit ratings of, and the securities proposed to be issued by the Reorganized Utility and the LLCs in connection with the implementation of the Utility Plan. Subject to the satisfaction of various conditions, S&P stated that the approximately $8.5 billion of securities proposed to be issued by the Reorganized Utility and the LLCs, as well as their corporate credit ratings, would be capable of achieving investment grade ratings of at least BBB-. In order to satisfy some of the conditions specified by S&P, on February 24, 2003, the Utility filed amendments to the Utility Plan with the Bankruptcy Court that, among other modifications:

•

permit the Reorganized Utility and the LLCs to issue secured debt instead of unsecured debt,



•

permit adjustments in the amount of debt the Reorganized Utility and the LLCs would issue so that additional new money notes could be issued if additional cash is required to satisfy allowed claims or to deposit in escrow for disputed claims and such debt can be issued while maintaining investment grade ratings, or so that less debt could be issued in order to obtain investment grade ratings or if less cash is required to satisfy allowed claims and be deposited into escrow for disputed claims,



•

require Gen to establish a debt service reserve account and an operating reserve account,



•

under certain circumstances, permit an increase in the amount of cash creditors receiving cash and notes will receive,



•

permit the Utility's mortgage-backed pollution control bonds to be redeemed if the Reorganized Utility issues secured new money notes, and



•

commit PG&E Corporation to contribute up to $700 million in cash to the Utility's capital from the issuance of equity or from other available sources, to the extent necessary to satisfy the cash obligations of the Utility in respect of allowed claims and required deposits into escrow for disputed claims, or to obtain investment grade ratings for the debt to be issued by the Reorganized Utility and the LLCs.

In addition to the amendments to the Plan, amendments to various filings at the FERC, and possibly other regulatory agencies, will be required in order to implement the changes to the Plan.

The Plan provides that it will not become effective unless and until the following conditions have been satisfied or waived:

•

The effective date of the Plan shall be on or before May 30, 2003;



•

All actions, documents, and agreements necessary to implement the Plan shall have been effected or executed;



•

PG&E Corporation and the Utility shall have received all authorizations, consents, regulatory approvals, rulings, letters, no-action letters, opinions, or documents that are determined by PG&E Corporation and the Utility to be necessary to implement the Plan;



•

S&P and Moody's shall have established investment-grade credit ratings for each of the securities to be issued by the Reorganized Utility, ETrans, GTrans, and Gen of not less than BBB- and Baa3, respectively;



•

The Plan shall not have been modified in a material way since the confirmation date; and



•

The registration statements pursuant to which the new securities will be issued shall have been declared effective by the SEC, the Reorganized Utility shall have consummated the sale of its new securities to be sold under the Plan, and the new securities of each of ETrans, GTrans, and Gen shall have been priced

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and the trade date with respect to each shall have occurred.

If one or more of the conditions described above have not occurred or been waived by May 30, 2003, the confirmation order would be vacated. The Utility's obligations with respect to claims and equity interests would remain unchanged.

PG&E Corporation and the Utility contend that bankruptcy law expressly preempts state law in connection with the implementation of a plan of reorganization. The Bankruptcy Court rejected this contention. PG&E Corporation and the Utility appealed the express preemption aspect of this decision to the U.S. District Court. The U.S. District Court reversed the Bankruptcy Court's ruling and remanded the case back to the Bankruptcy Court for further proceedings, ruling that the Bankruptcy Code expressly preempts "nonbankruptcy laws that would otherwise apply to bar, among other things, transactions necessary to implement the reorganization plan." The U.S. District Court entered judgment on September 19, 2002, and the CPUC and several other parties thereafter initiated an appeal to the U.S. Court of Appeals for the Ninth Circuit, which is pending.

The CPUC/OCC's Alternative Plan of Reorganization

The CPUC and the OCC have jointly proposed an alternative plan of reorganization for the Utility that does not call for realignment of the Utility's existing businesses. The alternative plan instead provides for the continued regulation of all of the Utility's current operations by the CPUC. The alternative plan proposes to satisfy all allowed creditor claims in full either through reinstatement or payment in cash, using a combination of cash on hand and the proceeds from the issuance of $7.3 billion of new senior secured debt and the issuance of $1.5 billion of new unsecured debt and preferred securities. The alternative plan proposes to establish a $1.75 billion regulatory asset, which would be amortized over ten years and would earn the full rate of return on rate base.

The CPUC/OCC Plan also provides that it would not become effective until the Utility and the CPUC enter into a "reorganization agreement" under which the CPUC promises to establish retail electric rates on an ongoing basis sufficient for the Utility to achieve and maintain investment grade credit ratings and to recover in rates (1) the interest and dividends payable on, and the amortization and redemption of, the securities to be issued under the alternative plan, and (2) certain recoverable costs (defined as the amounts the Utility is authorized by the CPUC to recover in retail electric rates in accordance with historic practice for all of its prudently incurred costs, including capital investment in property, plant and equipment, a return of capital and a return on capital and equity to be determined by the CPUC from time to time in accordance with its past practices).

PG&E Corporation and the Utility believe the alternative plan is not credible or confirmable. PG&E Corporation and the Utility do not believe the alternative plan would restore the Utility to investment grade status if the alternative plan were to become effective. Additionally, PG&E Corporation and the Utility believe the alternative plan would violate applicable federal and state law.

Confirmation Hearings

Solicitation of creditor votes began on June 17, 2002, and concluded on August 12, 2002. On September 9, 2002, an independent voting agent filed the voting results with the Bankruptcy Court. Nine of the ten voting classes under the Utility's proposed plan of reorganization approved the Plan. The alternative plan was approved by one of the eight voting classes under the alternative plan.

On November 6, 2002, the CPUC and the OCC filed an amended alternative plan and filed a motion asking the Bankruptcy Court to authorize the resolicitation of creditor votes and preferences. The Bankruptcy Court heard oral arguments on November 27, 2002. On February 6, 2003, the Bankruptcy Court issued an order denying the CPUC's and the OCC's request.

In determining whether to confirm either plan, the Bankruptcy Court will consider creditor and

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equity interests, plan feasibility, distributions to creditors and equity interests, and the financial viability of the reorganized entities. Various parties have filed objections to confirmation of either or both plans. PG&E Corporation and the Utility filed objections to the alternative plan stating their belief that the alternative plan is neither feasible nor confirmable for the reasons discussed above. The CPUC also filed an objection to the Plan.

The trial on confirmation of the alternative plan began on November 18, 2002. The trial on the Plan began on December 16, 2002, with objections common to both plans slated for trial during the Plan trial.

The Utility is unable to predict which plan, if any, the Bankruptcy Court will confirm. If either plan is confirmed, implementation of the confirmed plan may be delayed due to appeals, CPUC actions or proceedings, or other regulatory hearings that could be required in connection with the regulatory approvals necessary to implement that plan, and other events. The uncertainty regarding the outcome of the bankruptcy proceeding and the related uncertainty around the plan of reorganization that is ultimately adopted and implemented will have a significant impact on the Utility's future liquidity and results of operations. The Utility is unable at this time to predict the outcome of its bankruptcy case or the effect of the reorganization process on the claims of the Utility's creditors or the interests of the Utility's preferred shareholders. However, the Utility believes, based on information presently available to it, that cash and cash equivalents on hand at December 31, 2002, of $3.3 billion and cash available from operations will provide sufficient liquidity to allow it to continue as a going concern through 2003.

NOTE 3:    PG&E NEG LIQUIDITY MATTERS

During 2002, adverse changes in the electric power and gas utility industry and energy markets affected PG&E Corporation, the Utility and PG&E NEG business including:

•

Contractions and instability of wholesale electricity and energy commodity markets;


•

Significant decline in generation margins (spark spreads) caused by excess supply and reduced demand in most regions of the United States;


•

Loss of confidence in energy companies due to increased scrutiny by regulators, elected officials, and investors as a result of a string of financial reporting scandals;


•

Heightened scrutiny by credit rating agencies prompted by these market changes and scandals which resulted in lower credit ratings for many market participants; and


•

Resulting significant financial distress and liquidity problems among market participants leading to numerous financial restructurings and less market participation.

PG&E NEG has been significantly impacted by these changes in 2002. New generation came online while the economic recession reduced demand. This oversupply and reduced demand resulted in low spark spreads (the net of power prices less fuel costs) and depressed operating margins. These changes in the power industry have had a significant negative impact on the financial results and liquidity of PG&E NEG.

Before July 31, 2002, most of the various debt instruments of PG&E NEG and its affiliates carried investment-grade credit ratings as assigned by S&P and Moody's, two major credit rating agencies. Since July 31, 2002, PG&E NEG's rated entities have been downgraded several times. The result of these downgrades had left all of PG&E NEG's rated entities and debt instruments at below investment grade.

The downgrade of PG&E NEG's credit ratings impacts various guarantees and financial arrangements that require PG&E NEG to maintain certain credit ratings by S&P and/or Moody's. PG&E NEG's counterparties have demanded that PG&E NEG provide additional security for performance in the form of cash, letters of credit, acceptable replacement guarantees, or advanced funding of obligations. Other counterparties continue to have the right to make such demands. If PG&E NEG fails to

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provide this additional collateral within defined cure periods, PG&E NEG may be in default under contractual terms. In addition to agreements containing ratings triggers, other agreements allow counterparties to seek additional security for performance whenever such counterparty becomes concerned about PG&E NEG's or its subsidiaries' creditworthiness. PG&E NEG's credit downgrade constrains its access to additional capital and triggers increases in cost of indebtedness under many of its outstanding debt arrangements.

The credit downgrade also impacted PG&E NEG's and its subsidiaries' ability to service their financial obligations by putting constraints on the ability to move cash from one subsidiary to another or to PG&E NEG itself. PG&E NEG's subsidiaries must now independently determine, in light of each company's financial situation, whether any proposed dividend, distribution or intercompany loan is permitted and is in such subsidiary's interest.

PG&E NEG is currently in default under various recourse debt agreements and guaranteed equity commitments totaling approximately $2.9 billion. In addition, other PG&E NEG subsidiaries are in default under various debt agreements totaling approximately $2.5 billion, but this debt is non-recourse to PG&E NEG. On November 14, 2002, PG&E NEG defaulted on the repayment of the $431 million 364-day tranche of its Corporate Revolver. The amount outstanding under the two-year tranche of the Corporate Revolver is $273 million, the majority of which supports outstanding letters of credit. The default under the Corporate Revolver also constitutes a cross-default under PG&E NEG's (outstanding) (1) Senior Notes ($1 billion), (2) guarantee of the Turbine Revolver ($205 million), and (3) equity commitment guarantees for the GenHoldings credit facility ($355 million), for the La Paloma credit facility ($375 million) and for the Lake Road credit facility ($230 million). In addition, on November 15, 2002, PG&E NEG failed to pay a $52 million interest payment due under the Senior Notes.

PG&E Corporation continues to provide assistance to PG&E NEG, its subsidiaries and its lenders in their negotiations to establish a restructuring of PG&E NEG's commitments. However, if these negotiations prove unsuccessful and if lenders exercise their default remedies or if the financial commitments are not restructured, PG&E NEG and certain of its subsidiaries may be compelled to seek protection under or be forced into a proceeding under Chapter 11 of the Bankruptcy Code. Management does not expect the liquidity constraints of PG&E NEG and its subsidiaries will affect the financial condition of PG&E Corporation or the Utility.

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Debt-in Default and Long-Term Debt

The schedule below summarizes PG&E NEG's outstanding debt-in default and long-term debts as of December 31, 2002, and 2001:

(in millions)		Maturity	Interest Rates	Outstanding Balance
				December 31,
				2002		2001
Debt in Default (1)
PG&E NEG, Inc. Senior Unsecured Notes		2011	10.375%	$	1,000	$	1,000
PG&E NEG, Inc. Credit Facility – Tranche B (364 day)		11/14/02	Prime plus credit spread		431		330
PG&E NEG, Inc. Credit Facility – Tranche A (2-year facility with a $273 million total commitment)		8/23/03	Prime plus credit spread		42		–
Turbine and Equipment Facility		12/31/03	Prime plus credit spread		205		221
GenHoldings Construction Facility Tranche A		12/5/03	LIBOR plus credit spread		118		–
GenHoldings Construction Facility Tranche B		12/5/03	LIBOR plus credit spread		1,068		450
GenHoldings Swap Termination					50		–
Lake Road Construction Facility Tranche A		12/11/02	Prime plus credit spread		227		206
Lake Road Construction Facility Tranche B		12/11/02	Prime plus credit spread		219		198
Lake Road Construction Facility Tranche C			Prime plus credit spread		–		13
Lake Road Working Capital Facility		12/09/03	Prime plus credit spread		23		–
Lake Road Swap Termination		12/11/02			61		–
La Paloma Construction Facility Tranche A		12/11/02	Prime plus credit spread		367		319
La Paloma Construction Facility Tranche B		12/11/02	Prime plus credit spread		291		251
La Paloma Construction Facility Tranche C		12/11/02	Prime plus credit spread		20		18
La Paloma Construction Facility					29		–
La Paloma Swap Termination					79		–
	Subtotal				4,230		3,006
Long-Term Debt
PG&E GTN Senior Unsecured Notes		2005	7.10%		250		250
PG&E GTN Senior Unsecured Debentures		2025	7.80%		150		150
PG&E GTN Senior Unsecured Notes		2012	6.62%		100		–
PG&E GTN Medium Term Notes		Through 2003	6.96%		6		39
PG&E GTN Credit Facility		5/2/05	LIBOR plus credit spread		58		85
USGenNE Credit Facility		9/1/03	LIBOR plus credit spread		75		75
Plains End Construction Facility		9/6/06	LIBOR plus credit spread		56		23
Other non-recourse project term loans		Various	Principally LIBOR plus credit spread				100
Mortgage loan payable		2010	CP rate + 6.07%		7		7
Other		Various	Various		20		17
Subtotal					722		746
Total Debt in default and Long-term debt				$	4,952	$	3,752
Amounts classified as:
Debt in default				$	4,230	$	–
Long-term debt, classified as current					17		378
Long-term debt					630		3,299
Amount related to liabilities of operations held for sale, classified as current					75		75
Total Debt in default and Long-term debt				$	4,952	$	3,752

⁽¹⁾

Certain PG&E NEG long-term debt has been reclassified under debt in default above and has been classified as current liabilities in the accompanying Consolidated Balance Sheets. These instruments were not in default during 2001.

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As of December 31, 2002, scheduled maturities of PG&E NEG long-term debt were as follows:

(in millions)
Three months ended March 31, 2003	$	1,431
Three months ended June 30, 2003		–
Three months ended September 30, 2003		42
Three months ended December 31, 2003		2,757
2003		92
2004		3
2005		310
2006		2
2007		4
Thereafter		261
Total Long-term debt	$	722

PG&E NEG Senior Unsecured Notes – On May 22, 2001, PG&E NEG completed an offering of $1 billion in senior unsecured notes (Senior Notes) and received net proceeds of approximately $972 million after bond debt discount and note issuance costs.

On November 15, 2002, PG&E NEG failed to pay a $52 million interest payment due on these notes. At December 31, 2002, PG&E NEG has an outstanding interest payment due on these notes of $65 million.

Credit Facilities – In August 2001, PG&E NEG arranged a $1.25 billion working capital and letter of credit facility consisting of a $750 million tranche with a 364-day term and a $500 million tranche with a two-year term. On October 21, 2002, the available commitments were reduced to $431 million and $279 million, respectively. As of December 31, 2002, $431 million had been drawn against the 364-day revolving credit facility and $42 million had been drawn against the two-year facility, in addition to $231 million of letters of credit issued under the two-year facility. At December 31, 2002, PG&E NEG had outstanding interest accrued on these facilities of $6 million.

PG&E NEG also has other revolving credit facilities held by subsidiaries. These facilities relate specifically to funding requirements of these entities and are not available to PG&E NEG. Under the terms of the various revolving credit facilities, the credit spread component of the interest rates and fees charged for borrowings was increased as a result of PG&E NEG's credit downgrades. PG&E NEG's credit downgrades did not trigger any acceleration of payments due under these long-term debt arrangements.

PG&E GTN Credit Facility – On May 2, 2002, PG&E GTN entered into a three-year $125 million revolving credit facility. At December 31, 2002, there was $58 million outstanding under this facility. The average weighted interest rate on the amount outstanding at December 31, 2002 is approximately 2.89 percent.

Turbine and Equipment Facility – In May 2001, PG&E NEG established a revolving credit facility of up to $280 million to fund turbine payments and equipment purchases associated with its generation facilities. The average weighted interest rate on the amount outstanding at December 31, 2002 is approximately 4.66 percent.

USGenNE Credit Facility – In August 2001, USGenNE entered into a credit and letter of credit facility that has a total commitment of $100 million of which $75 million have been drawn upon and $13 million supports letters of credit that have been issued and are outstanding at December 31, 2002. Total amounts outstanding under this facility, including any accrued interest are included in Liabilities of operations held for sale on the Consolidated Balance Sheets. See Note 6 Discontinued Operations. The average weighted interest rate on the amount outstanding is approximately 2.61 percent.

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GenHoldings Construction Facility – In December 2001, PG&E NEG entered into a $1.075 billion 5-year non-recourse credit facility, which increased to $1.46 billion on April 5, 2002, for the GenHoldings I, LLC, (GenHoldings) portfolio of projects secured by the Millennium, Harquahala, Covert, and Athens projects. The facility was intended to be used to reimburse PG&E NEG and lenders for a portion of the construction costs already incurred on these projects and to fund a portion of the balance of the construction costs through completion.

GenHoldings, has defaulted under its credit agreement by failing to make equity contributions to fund construction draws for the Athens, Harquahala, and Covert generating projects. Through December 31, 2002, GenHoldings has contributed $833 million of equity to the projects. Although PG&E NEG has guaranteed GenHoldings' obligation to make equity contributions, PG&E NEG has notified the GenHoldings lenders that it will not make further equity contributions on behalf of GenHoldings. In November and December 2002, the lenders executed waivers and amendments to the credit agreement under which they agreed to continue to waive until March 31, 2003, the default caused by GenHoldings' failure to make equity contributions. In addition, certain of these lenders agreed to increase their loan commitments to an amount sufficient to provide (1) the funds necessary to complete construction of the Athens, Covert and Harquahala facilities; and (2) additional working capital facilities to enable each project, including Millennium, to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission system operator requirements. The November and December 2002 increased loan commitments are senior to the original liens and rank equally with each other but are senior to amounts loaned through and including the October credit extension. As a result, on November 25, 2002, the funding lenders paid GenHoldings' then pending draw request of approximately $75 million and on December 23, 2002, the funding lenders paid GenHoldings' then pending draw request of approximately $44 million.

In connection with the lenders' waiver of various defaults and additional funding commitments, PG&E NEG has agreed to cooperate with any reasonable proposal by the lenders regarding disposition of the equity in or assets of any or all of the PG&E NEG subsidiaries holding the Athens, Covert, Harquahala and Millenium projects. The amended credit agreement provides that an event of default will occur if the Athens, Covert, Harquahala and Millennium facilities are not transferred to the lenders or their designees on or before March 31, 2003. Such a default would trigger lender remedies, including the right to foreclose on the projects.

Under the waiver, PG&E NEG has re-affirmed its guarantee of GenHoldings' obligation to make equity contributions to these projects of approximately $355 million. Neither PG&E NEG nor GenHoldings currently expects to have sufficient funds to make this payment. The requirement to pay $355 million will remain an obligation of PG&E NEG that would survive the transfer of the projects.

Further, as a result of GenHoldings' failure to make required payments under the interest rate hedge contracts entered into by GenHoldings, the counterparties to such interest rate hedge contracts terminated the contracts during December 2002. Settlement amounts due by GenHoldings in connection with such terminated contracts are, in the aggregate, approximately $49.8 million.

Lake Road and La Paloma Construction Facilities – In September 1999 and March 2000, Lake Road and La Paloma (respectively) entered into Participation Agreements to finance the construction of the two plants. In 2001, subsequent to the issuance of the 1999 and 2000 financial statements, management determined that the assets and liabilities related to these leased facilities should have been consolidated. In November 2002 Lake Road and La Paloma defaulted on their obligations to pay interest and swap payments. In addition, as a result of PG&E NEG's downgrade to below investment-grade by both S&P and Moody's, PG&E NEG, as guarantor of certain debt obligations of Lake Road and La Paloma, became required to make equity

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contributions to Lake Road and La Paloma of $230 million and $375 million respectively. None of PG&E NEG, Lake Road or La Paloma have sufficient funds to make these payments.

As of December 4, 2002, PG&E NEG and certain subsidiaries entered into various agreements with the respective lenders for each of the Lake Road and La Paloma generating projects providing for (1) funding of construction costs required to complete the La Paloma facility; and (2) additional working capital facilities to enable each subsidiary to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission system operator requirements, as well as for general working capital purposes. Lenders extending new credit under these agreements have received liens on the projects that are senior to the existing lenders' liens. These agreements provide, among other things, that the failure to transfer the Lake Road and La Paloma projects to the respective lenders by June 9, 2003 will constitute a default under the agreements. The failure to transfer the facilities would entitle the lenders to accelerate the new indebtedness and exercise other remedies.

In consideration of the lenders' forebearance and additional funding, PG&E NEG had previously agreed to cooperate, and cause its subsidiaries to cooperate, with any reasonable proposal regarding disposition of the ownership interests in and/or assets of the La Paloma project, on terms and conditions satisfactory to the lenders in their sole discretion.

The La Paloma and Lake Road projects have been financed entirely with debt. PG&E NEG has guaranteed the repayment of a portion of the project subsidiary debt in the approximate aggregate amounts of $374.5 million for La Paloma and $230 million for Lake Road, which amounts represent the subsidiaries' equity contribution in the projects. The lenders have accelerated the guaranteed portion of the debt and made a payment demand under the PG&E NEG guarantee. Neither the PG&E NEG subsidiaries nor PG&E NEG have sufficient funds to make these payments. The requirement to make the payments will remain an obligation of PG&E NEG that would survive the transfer of the projects.

Further, as a result of the La Paloma and Lake Road subsidiaries' failure to make required payments under the interest rate hedge contracts entered into by them, the counterparties to such interest rate hedge contracts have terminated the contracts. Settlement amounts due from the Lake Road and La Paloma project subsidiaries in connection with such terminated contracts are, in the aggregate, approximately $61 million for Lake Road and $79 million for La Paloma.

PG&E GTN Senior Unsecured Notes, Debentures and Medium-Term Notes

On May 31, 1995, PG&E GTN completed the sale of $400 million of debt securities through a $700 million shelf registration. PG&E GTN issued $250 million of 7.10 percent 10-year senior unsecured notes due June 1, 2005, and $150 million of 7.80 percent 30-year senior unsecured debentures due June 1, 2025. The 10-year notes were issued at a discount to yield 7.11 percent and the 30-year debentures were issued at a discount to yield 7.95 percent. At December 31, 2002, the unamortized debt discount balance for the notes and debentures were $0.1 million and $2.0 million, respectively. The 30-year debentures are callable after June 1, 2005, at the option of GTN. Both the senior unsecured notes and the senior unsecured debentures were downgraded during 2002 to a credit rating of CCC from Standard and Poor's and B1 from Moody's Investors Service.

On June 6, 2002, PG&E GTN issued $100 million of 6.62 percent Senior Notes due June 6, 2012. Proceeds were used to repay $90 million of debt on its revolving credit facility, and the balance retained to meet general corporate needs.

In addition, during 1995, $70 million of medium-term notes were issued at face values ranging from $1 million to $17 million. As at January 31, 2003 the medium-term notes carry a credit rating of CCC from Standard and Poor's and B1 from Moody's Investors Service. Medium-term notes totalling $33 million in 2002 and $31 million in

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2001 matured and were accordingly extinguished. The remaining notes mature during 2003 and have an average interest rate of 6.96 percent.

Plains End Construction Facility – In September 2001, PG&E NEG established a facility for $69.4 million. The debt facility was used to fund the balance of construction costs for the Plains End project. The facility expires upon the earlier of five years after commercial operations have been declared or September 2007. The average weighted interest rate on the amount outstanding is approximately 5.17 percent.

Other long-term debt consists of non-recourse project financing associated with unregulated generating facilities, premiums, and other loans.

Certain credit agreements contain, among other restrictions, customary affirmative covenants, representations and warranties and have cross-default provisions with respect to PG&E NEG's other obligations. The credit agreements also contain certain negative covenants including restrictions on the following: consolidations, mergers, sales of assets and investments; certain liens on the PG&E NEG's property or assets; incurrence of indebtedness; entering into agreements limiting the right of any subsidiary of PG&E NEG to make payments to its shareholders; and certain transactions with affiliates. Certain credit agreements also require that PG&E NEG maintain a minimum ratio of cash flow available for fixed charges to fixed charges and a maximum ratio of funded indebtedness to total capitalization.

Letters of Credit

In addition to outstanding balances under the above credit facilities PG&E NEG has commitments available under these facilities and other facilities to issue letters of credit.

The following table lists the various facilities that have the capacity to issue letters of credit:

(in millions) Borrower	Maturity	Letter of Credit Capacity		Letter of Credit Outstanding December 31, 2002
PG&E NEG	8/03	$	231	$	231
USGenNE	8/03		25		13
PG&E Gen	12/04		7		7
PG&E ET	9/03		19		19
PG&E ET	11/03		35		34

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NOTE 4:    DEBT FINANCING

Debt in Default and Long-Term Debt

Debt in default and Long-term debt that matures in one year or more from the date of issuance consisted of the following:

(in millions)				Balance at December 31,
				2002			2001
Debt in Default: (1)
PG&E NEG credit facilities in default
	Revolving credit facilities in default			$	473		$	330
PG&E NEG long-term debt in default
	Senior unsecured notes, 10.375%, due 2011			$	1,000		$	1,000
	Term loans, various, 2002-2003				2,757			1,676
		Total long-term debt in default			3,757			2,676
Total Debt in Default				$	4,230		$	3,006
Long-Term Debt:
PG&E Corporation
	Lehman Loans due 2006, variable			$	720		$	–
	9.50% Convertible Subordinated Notes				280			–
	General Electric and Lehman Loans due in 2003, variable				–			1,000
	Discount				(24	)		(96	)
Total long-term debt, net of current portion					976			904
Utility
	First and refunding mortgage bonds:
	Maturity            Interest Rates
		2003-2005        5.875% to 6.250%			880			1,214
		2006-2010        6.35% to 6.625%			85			85
		2011-2026        5.85% to 8.80%			2,079			2,079
		Principal amounts outstanding			3,044			3,378
		Unamortized discount net of premium			(24	)		(26	)
	Total mortgage bonds				3,020			3,352
	Less: current portion				281			333
Total long-term debt, net of current portion					2,739			3,019
PG&E NEG
	Senior unsecured notes, 7.10%, due 2005				250			250
	Senior unsecured debentures, 7.80%, due 2025				150			150
	Senior unsecured notes, 6.62%, due 2012				100			–
	Medium-term notes, 6.83% to 6.96%, thru 2003				6			39
	Term loans, various, 2006				56			123
	Amount outstanding under credit facilities				133			160
	Other long-term debts				27			24
			Sub-total		722			746
			Less: current portion		17			48
			Amount related to liabilities of Operations held for sale, current		75			75
Total long-term debt, net of current portion					630			623
Total Long-Term Debt				$	4,345		$	4,546
Long-Term Debt Subject to Compromise:
Utility
	Senior notes, 9.63%, due 2005				680			680
	Pollution control loan agreements, variable rates, due 2016-2026				614			614
	Pollution control loan agreement, 5.35% fixed rate, due 2016				200			200
	Unsecured medium-term notes, 5.81% to 8.45%, due 2003-2014				287			287
	Deferrable interest subordinated debentures, 7.9%, due 2025				300			–
	Other Utility long-term debt				19			20
Total Long-Term Debt Subject to Compromise				$	2,100		$	1,801

⁽¹⁾

Certain PG&E NEG long-term debt as of December 31, 2001 has been shown in the above schedule as debt in default above for comparative purposes. This long-term debt was not in default during 2001.

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PG&E Corporation

PG&E Corporation entered in a credit agreement (Original Credit Agreement) with General Electric Capital Corporation (GECC) and Lehman Commercial Paper Inc. (LCPI) in 2001. During 2002, PG&E Corporation negotiated new terms to the Original Credit Agreement. In August 2002, PG&E Corporation made a voluntary prepayment of principal and interest totaling $607 million to the GECC portion of the debt. As a result of the prepayment, PG&E Corporation wrote off $83 million of unamortized loan fees and reversed $38 million of unamortized loan discount associated with unvested options, netting to a $45 million charge to interest expense. In relation to the remainder of the loan, PG&E Corporation also recorded $70 million of debt extinguishment losses to interest expense, as a result of new waiver extensions.

On October 18, 2002, PG&E Corporation entered into a Second Amended and Restated Credit Agreement (Credit Agreement) with Lehman Commercial Paper, Inc. (LCPI or, with other parties, the Lenders) with total principal amount of $720 million outstanding at December 31, 2002. The total principal amount includes $420 million previously retained under prior credit arrangements and $300 million representing new loans (New Loans), and collectively referred to as the Loans.

The New Loans were released from escrow to PG&E Corporation on January 17, 2003, concurrent with the payment of a funding fee of $9 million. The Loans are repayable in a single installment on September 2, 2006, unless repaid earlier in accordance with the Credit Agreement.

The interest rate under the Credit Agreement is Eurodollar Rate plus 10 percent, based upon interest periods of one, two, three, or six months, as selected each period by PG&E Corporation. Interest is payable quarterly or at the end of the selected interest period, whichever is shorter. On January 17, 2003, PG&E Corporation paid a first interest payment of $13 million and elected an initial interest period of six months.

In addition, the Credit Agreement provides for Payment-in-Kind (PIK) interest of 4 percent commencing upon receipt of the funds. PIK interest is not paid in cash but rather added to the principal amount of the loan at the start of each interest period.

Except for an option agreement (Option Agreement), granting certain lenders options to purchase common stock of PG&E & NEG, in conjunction with the prior March 1, 2002, Credit Agreement as amended (the Old Credit Agreement), amounts under the Credit Agreement are senior unsubordinated obligations of PG&E Corporation.

On September 3, 2002, General Electric Capital Corporation (GECC) gave notice to PG&E Corporation that it was exercising its right to sell (put) to PG&E Corporation its options representing 1.8 percent of PG&E NEG, which it had acquired in connection with the Old Credit Agreement. Under the terms of the option agreement, PG&E Corporation and GECC entered into an appraisal process to determine the value of the PG&E NEG options. On October 30, 2002, before the completion of the appraisal process, GECC cancelled by giving notice of cancellation of its put notice, which was accepted by PG&E Corporation. GECC no longer has the right to put these options to PG&E Corporation. On February 25, 2003, GECC exercised the options, which otherwise would have expired on March 1, 2003. Similar options representing 1.2 percent of PG&E NEG must also be exercised before March 1, 2003.

Under the Option Agreement discussed above, certain lenders were granted warrants to purchase certain quantities of PG&E NEG shares. These warrants are marked to market on a monthly basis. In the third quarter of 2002, PG&E Corporation recorded other income of $71 million, as a result of the change in market value of the PG&E NEG warrants during that period. As discussed above, the appraisal process to determine the value of PG&E NEG was not completed. If it is determined that PG&E NEG's value is greater than the value currently reflected in the mark-to market accounting, PG&E

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Corporation would be required to incur a charge to earnings as a result of the increased valuation.

Security

The Loans are secured by a first priority security interest in the common stock of PG&E NEG and the common stock of the Utility, along with substantially all other assets of PG&E Corporation.

Other Terms

Under the terms of the Credit Agreement, PG&E Corporation is required to make an offer to repay the Loans (including prepayment fees) under various circumstances, which include a change in control of PG&E Corporation and a spin-off of the Utility in connection with a plan of reorganization.

As required by the Credit Agreement, PG&E Corporation retained an interest reserve of $76 million as of December 31, 2002, and upon receipt of the New Loans placed an additional $54 million into such interest reserve.

Restrictions

The Credit Agreement contains limitations, among other restrictions, on the ability of PG&E Corporation and certain of its subsidiaries to grant liens, consolidate, merge, purchase or sell assets, declare or pay dividends, incur indebtedness, or make advances, loans, and investments.

However, PG&E Corporation is permitted to dispose of PG&E NEG assets under certain circumstances. Any proceeds to PG&E Corporation from such permitted sales must be applied to prepay the Loans.

Events of Default and Mandatory Prepayments

The Credit Agreement contains certain events of default, including PG&E Corporation's failure to pay any indebtedness of $100 million or more. Upon an event of default, the Lenders are entitled to accelerate and declare the Loans immediately due and payable.

The Credit Agreement requires mandatory prepayments with the net cash proceeds from incurrence of additional indebtedness, issuance or sale of equity by PG&E Corporation or the Utility, sale of certain assets by PG&E Corporation, the Utility, or PG&E NEG; the receipt of condemnation or insurance proceeds, and distributions or dividends paid to PG&E Corporation or PG&E NEG.

Upon mandatory prepayment, PG&E Corporation must pay a prepayment fee calculated depending upon when the prepayment occurred.

PG&E Corporation Warrants

In connection with the Credit Agreement, PG&E Corporation also issued to the Lenders warrants to purchase 2,658,268 shares of common stock of PG&E Corporation, at an exercise price of $0.01 per share. These warrants expire on September 2, 2007, and are generally exercisable except when by their exercise the holder becomes, and has the intention to remain, the single largest common shareholder.

The fair market value of these warrants was estimated at the date of grant and recorded as a discount to long-term debt. At December 31, 2002, the discount was $24 million, net of accumulated discount amortization of $1 million.

In connection with the prior June 25^th Amended and Restated Credit Agreement, PG&E Corporation issued warrants to the lenders to purchase 2,397,541 shares of common stock of PG&E Corporation, at an exercise price of $0.01 per share and with terms similar to the warrants described above. The unamortized discount related to these warrants and other deferred financing costs were charged to interest expense upon the voluntary repayment of $600 million principal and interest of approximately $6.7 million in August 2002.

PG&E Corporation has agreed to provide, following consummation of a plan of reorganization of the Utility, registration rights in

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connection with the shares issuable upon exercise of these warrants.

Use of Proceeds

PG&E Corporation will use the net proceeds of the New Loans, net of various interest reserve requirements, to fund corporate working capital and for general corporate purposes.

Convertible Subordinated Notes

On June 25, 2002, PG&E Corporation issued 7.50 percent Convertible Subordinated Notes (the Notes) due 2007 in the aggregate principal amount of $280 million. The Notes may be converted by the holders into 18,558,655 shares of the common stock of PG&E Corporation.

Concurrent with the October 18, 2002, financing described above, the Note Indenture was amended as follows:

•

The cross default provisions related to PG&E NEG and its subsidiaries was deleted;



•

The interest rate on the Notes increased to 9.50 percent from 7.50 percent;



•

The maturity of the Notes was extended to June 30, 2010, from June 30, 2007; and



•

PG&E Corporation provided the holders of the Notes with a one-time right to require PG&E Corporation to repurchase the Notes on June 30, 2007, at a purchase price equal to the principal amount plus accrued and unpaid interest (including any liquidated damages and pass-through dividends, if any).

Utility

First and Refunding Mortgage Bonds – First and refunding mortgage bonds are issued in series and bear annual interest rates ranging from 5.85 percent to 8.80 percent. All real properties and substantially all personal properties of the Utility are subject to the lien of the mortgage, and the Utility is required to make semi-annual sinking fund payments for the retirement of the bonds. While in bankruptcy, the Utility is prohibited from making payments on the Mortgage Bonds, without permission from the Bankruptcy Court. The Bankruptcy Court approved the payment of $333 million of mortgage bonds maturing in March 2002 and has also approved the payment of interest in accordance with the terms of the bonds.

Included in the total mortgage bonds outstanding at December 31, 2002, and 2001, are $345 million of bonds held in trust for the California Pollution Control Financing Authority (CPCFA) with interest rates ranging from 5.85 percent to 6.63 percent and maturity dates ranging from 2009 to 2023. In addition to these bonds, the Utility holds long-term pollution control loan agreements with the CPCFA as described below.

Senior Notes – In November 2000, the Utility issued $680 million of five-year senior notes with an interest rate of 7.38 percent. The Utility used the net proceeds to repay short-term borrowings incurred to finance scheduled payments due to the PX for August 2000 power purchases and for other general corporate purposes. These notes contained interest rate adjustments dependent upon the Utility's unsecured debt ratings.

As a result of the Utility's credit rating downgrades, there was an interest rate adjustment of 1.75 percent on the $680 million senior notes. In addition, there was an interest premium penalty of 0.5 percent imposed on the senior notes due to the Utility's inability to make a public offering on April 30, 2001. Accordingly, the rate increased to 9.63 percent from 7.38 percent effective November 1, 2001. In 2001, the Utility's bankruptcy filing and failure to make payments on the senior notes were events of default. The senior notes have been classified as Liabilities Subject to Compromise in the Consolidated Balance Sheets at December 31, 2002, and 2001.

Pollution Control Loan Agreements – Pollution control loan agreements from the CPCFA totaled $814 million at December 31, 2002, and 2001.

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Interest rates on $614 million of the loans are variable. For 2002, the variable interest rates ranged from 1.25 percent to 1.78 percent. These loans are subject to redemption by the holder under certain circumstances. They were secured primarily by irrevocable letters of credit (LOC) from certain banks, which based on terms negotiated in 2002, mature in 2003 through 2004. On March 1, 2001, a $200 million loan was converted to a fixed rate obligation with an interest rate of 5.35 percent.

In April and May 2001, four loans totaling $454 million were accelerated and the banks paid the amounts due under the LOCs. In the meantime, the Utility was unable to make interest payments due to the bankruptcy filing.

This resulted in like obligations from the Utility to the banks. Amounts outstanding at December 31, 2002, and 2001, under the pollution control agreements were classified as Liabilities Subject to Compromise in the Consolidated Balance Sheets at December 31, 2002 and 2001.

Medium-Term Notes – The Utility has outstanding $287 million of medium-term notes due from 2002 to 2014 with interest rates ranging from 5.81 percent to 8.45 percent, which are also in default. The outstanding principal amounts at December 31, 2002, and 2001, were classified as Liabilities Subject to Compromise in the accompanying financial statements.

7.90 Percent Deferrable Interest Subordinate Debentures

On November 28, 1995, PG&E Capital I (Trust), a wholly owned subsidiary of the Utility, issued 12 million shares of 7.90 percent Cumulative Quarterly Income Preferred Securities (QUIPS), with a total liquidation value of $300 million. Concurrent with the issuance of the QUIPS, the Trust issued to the Utility 371,135 shares of common securities with a total liquidation value of $9 million. The Trust in turn used the net proceeds from the QUIPS offering and issuance of the common stock securities to purchase 7.90 percent Deferrable Interest Subordinated Debentures (QUIDS) due 2025 issued by the Utility with a value of $309 million at maturity.

On March 16, 2001, the Utility postponed quarterly interest payments on the QUIDS until further notice in accordance with the bond's terms. The corresponding quarterly payments on the QUIPS, due on April 2, 2001, were similarly postponed.

Quarterly interest payments may be postponed up to 20 consecutive quarters under the terms of the bond agreement. According to the bond's terms, investors earn interest on the unpaid distributions at the rate of 7.90 percent. Upon liquidation or dissolution of the Utility, holders of the QUIPS would be entitled to the liquidation preference of $25 per share plus all accrued and unpaid interest thereon to the date of payment.

As discussed in Note 2, on March 27, 2002, the Bankruptcy Court issued an order authorizing the Utility to pay pre- and post-petition interest to holders of certain undisputed claims, including QUIPS, within ten business days after Bankruptcy Court approval of the Utility's disclosure statement.

The disclosure statement was approved on April 24, 2002. On May 6, 2002, the Utility made payments to holders of QUIPS representing interest accrued through February 28, 2002, and on March 31, 2002, the Utility made an additional interest payment for the one month ended March 31, 2002. On July 1, 2002, the Utility made an interest payment for the three months ended June 30, 2002, and since then has continued to make quarterly interest payments as scheduled.

On April 12, 2001, Bank One, N.A., as successor-in-interest to The First National Bank of Chicago (Property Trustee), gave notice that an event of default exists under the Trust Agreement due to the Utility's filing for Chapter 11 on April 6, 2001 (see Note 2). As a result of the event of default, the Trust Agreement required the Trust to be liquidated by the trustee by distributing the QUIDS, after satisfaction of liabilities to creditors of the Trust, to the holders of QUIPS. Pursuant to the Trustee's notice dated

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April 24, 2002, the Trust was liquidated on May 24, 2002. Upon liquidation of the Trust, the former holders of QUIPS received a like amount of QUIDS. The terms and interest payments of the QUIDS correspond to the terms and interest payments of the QUIPS.

The QUIDS are included in financing debt classified as Liabilities Subject to Compromise on PG&E Corporation's and Utility's Consolidated Balance Sheets at December 31, 2002. The QUIPS are reflected as "Mandatory Redeemable Preferred Securities of Trust Holding Solely Utility Subordinated Debentures" on PG&E Corporation's and the Utility's Consolidated Balance Sheets at December 31, 2001.

PG&E NEG

See Note 3 PG&E Liquidity Matters for discussions related to PG&E NEG's debt in default and long-term debt.

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Repayment Schedule

At December 31, 2002, PG&E Corporation's combined aggregate amounts of maturing long-term debt are reflected in the table below:

(dollars in millions) Expected maturity date		2003			2004			2005			2006			2007			Thereafter			Total
PG&E Corporation(1)
Long-term debt:
	Fixed rate obligations (9.50% Convertible Subordinated Notes)	$	–		$	–		$	–		$	–		$	–		$	280		$	280
	Average interest rate																	9.50	%		9.50	%
	Variable rate obligation(2)		–			–			–			842			–			–			842
Utility:
Long-term debt:
	Liabilities not subject to compromise:
	Fixed rate obligations		281			310			290			–			–			2,139			3,020
	Average interest rate		6.25	%		6.25	%		5.88	%		–			–			7.25	%		6.92	%
	Liabilities subject to compromise:
	Fixed rate obligations(3)		173			54			696			1			1			261			1,186
	Average interest rate		7.40	%		7.51	%		9.56	%		9.45	%		9.45	%		5.95	%		8.35	%
	7.90 Percent Deferrable Interest Subordinated Debentures		–			–			–			–			–			300			300
	Variable rate obligations(4)		349			265			–			–			–			–			614
Rate reductions bonds			290			290			290			290			290			–			1,450
	Average interest rate		6.36	%		6.42	%		6.42	%		6.44	%		6.48	%		–	%		6.42	%
PG&E NEG:
Long-term debt:
	Fixed rate obligations		6			–			250			–			–			250			506
	Variable rate obligations		86			3			60			52			4			11			216
	Average interest rate		6.41	%		6.57	%		6.92	%		7.33	%		7.31	%		7.10	%		6.95	%
Total		$	1,185		$	922		$	1,586		$	1,185		$	295		$	3,241		$	8,414

⁽¹⁾

Certain PG&E NEG Long-term debt has been reclassified under Long-term debt in default and has been reclassified as a current liability in the accompanying Consolidated Balance Sheets. The maturity of such debt in default is disclosed in Note 3 PG&E NEG Liquidity Matters.

⁽²⁾

$720 million outstanding at December 31, 2002, with 4 percent interest compounded yields value of $842 million at maturity.

⁽³⁾

$132 million out of the 2003 repayment amount matured in 2002 and 2001, and was unpaid.

⁽⁴⁾

The expected maturity dates for pollution control loan agreements with variable interest rates are based on the maturity dates of the letters of credit securing the loans.

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Credit Facilities and Short-Term Borrowings

The following table summarizes PG&E Corporation's lines of credit:

(in millions)			December 31,
			2002		2001
Credit Facilities Subject to Compromise:
	Utility
		5-year Revolving Credit Facility	$	938	$	938
Total Lines of Credit Subject to Compromise				938		938
Short-Term Borrowings Subject to Compromise:
	Utility
		Bank Borrowings – Letters of Credit for Accelerated Pollution Control Agreements		454		454
		Floating Rate Notes		1,240		1,240
		Commercial Paper		873		873
Total Short-Term Borrowings Subject to Compromise				2,567		2,567
Total Credit Facilities and Short-Term Borrowings Subject to Compromise			$	3,505	$	3,505

The total amount outstanding on the Utility's credit facilities was $938 million at December 31, 2002, and 2001. The total amount outstanding on the Utility's short-term borrowings was $2,567 million at December 31, 2002, and 2001. Due to the Utility's bankruptcy filing (see Note 2), both have been classified as Liabilities Subject to Compromise in the table above and on the Consolidated Balance Sheets for 2002 and 2001.

The weighted average interest rate on the short-term borrowings subject to compromise as of December 31, 2002, and 2001, was 7.47 percent and 7.53 percent.

Utility

Credit Facilities – At December 31, 2002, and 2001, the Utility had $938 million outstanding on a $1 billion five-year revolving credit facility. This facility was used to support the Utility's commercial paper program and other liquidity requirements. Non-payment of matured commercial paper in excess of $100 million in 2001 constituted an event of default under the credit facility and consequently the bank terminated its outstanding commitment. The outstanding balance is classified as Liabilities Subject to Compromise on the December 31, 2002, and 2001, Consolidated Balance Sheets.

Commercial Paper – The total amount of commercial paper outstanding at December 31, 2002, and 2001, was $873 million. The Utility has been in default on its commercial paper obligations since January 17, 2001. The weighted average interest rate on the Utility's commercial paper obligation as of December 31, 2002, and 2001, was 7.47 percent.

Floating Rate Notes – The Utility issued a total of $1,240 million of 364-day floating rate notes in November 2000, with interest payable quarterly. These notes were not paid on the maturity date of November 30, 2001. Non-payment of the floating rate notes was an event of default, entitling the floating rate note trustee to accelerate the repayment of these notes. However, the Utility is prohibited from paying liabilities incurred prior to its bankruptcy filing without Bankruptcy Court approval.

Bank Borrowing – Letters of Credit for Accelerated Pollution Control Bonds – As previously discussed in April and May 2001, four pollution control loan agreements totaling $454 million were accelerated by the note holders. These accelerations were funded by various banks under letter of credit agreements resulting in similar obligations from the Utility to the banks.

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PG&E NEG

See Note 3 PG&E Liquidity Matters for discussions related to PG&E NEG's credit facilities and short-term borrowings.

NOTE 5:    RATE REDUCTION BONDS

In December 1997, PG&E Funding LLC (Funding), a limited liability corporation wholly owned by and consolidated with the Utility, issued $2.9 billion of rate reduction bonds. The proceeds of the rate reduction bonds were used by PG&E Funding LLC to purchase from the Utility the right, known as "transition property," to be paid a specified amount from a non-bypassable charge levied on residential and small commercial customers (Fixed Transition Amount (FTA) charges). FTA charges are authorized by the CPUC pursuant to state legislation and will be paid by residential and small commercial customers until the rate reduction bonds are fully retired. FTA charges are collected by the Utility and remitted to Funding based on a transition property servicing agreement. On January 4, 2001, S&P lowered the Utility's short-term credit rating to A-3, and on January 5, 2001, Moody's lowered the Utility's short-term credit rating to P-3. As a result, on January 8, 2001, the Utility was required under the transition property servicing agreement to begin remitting to Funding on a daily basis FTA charges paid by ratepayers, as opposed to once a month, as had previously been required.

The rate reduction bonds have maturity dates ranging from 2003 to 2007, and bear interest at rates ranging from 6.36 percent to 6.48 percent. The bonds are secured solely by the transition property and there is no recourse to the Utility or PG&E Corporation.

The total amount of rate reduction bonds principal outstanding was $1,450 million at December 31, 2002, and $1,740 million at December 31, 2001. The scheduled principal payments on the rate reduction bonds for the years 2003 through 2007 are $290 million for each year. While Funding is a wholly owned consolidated subsidiary of the Utility, Funding is legally separate from the Utility. The assets of Funding are not available to creditors of the Utility or PG&E Corporation, and the transition property is not legally an asset of the Utility or PG&E Corporation.

NOTE 6:    DISCONTINUED OPERATIONS

Discontinued Operations and Assets Held for Sale

USGen New England – In September 1998, USGen New England, Inc. (USGenNE) acquired the non-nuclear generating assets of the New England Electric System (NEES) for approximately $1.8 billion. These assets included:

•

2,344 megawatts (MW) of coal and oil fired power plants in Massachusetts;



•

1,166 MW of hydroelectric facilities in New Hampshire, Vermont, and Massachusetts;



•

495 MW of gas-fired power plants in Rhode Island;



•

Above market power purchase agreements with support payments provided by NEES for the first nine years;



•

Gas pipeline transportation contracts; and



•

Transition wholesale load contracts known as Standard Offer Agreements.

Consistent with its previously announced strategy to dispose of certain merchant assets, in December 2002 the Board of PG&E Corporation approved management's plan for the proposed sale of USGenNE.

Under the provisions of SFAS No. 144, USGenNE is accounted for as an asset held for sale at December 31, 2002. This requires that the asset be recorded at the lower of fair value, less costs to sell or book value. Based on the current estimated fair value of a sale of USGenNE, PG&E NEG recorded a pre-tax loss of $1.1 billion, with no tax benefits associated with the loss, in the fourth quarter of 2002. It is anticipated that the sale of USGenNE assets will occur during 2003. This loss on sale as well as the operating results from USGenNE is being reported as discontinued

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operations in the Consolidated Financial Statements of PG&E Corporation at December 31, 2002.

Mountain View – On September 17 and 28, 2001, PG&E NEG purchased Mountain View Power Partners, LLC and Mountain View Power Partners II, LLC, respectively (collectively referred to as Mountain View). The two companies were merged on October 1, 2002.

These companies own 44 and 22 MW wind energy projects, respectively, near Palm Springs, California. PG&E NEG contracted with SeaWest for the operation and maintenance of the wind units. Total consideration for these two companies was $92 million. The power is sold to the DWR under a 10-year contract.

In December 2002, the Board of Directors of PG&E Corporation approved the sale of Mountain View. On December 18, 2002, a subsidiary of PG&E NEG entered into an agreement to sell Mountain View to Centennial Power, Inc. for $102 million.

Under the provisions of SFAS No. 144, Mountain View is accounted for as an asset held for sale at December 31, 2002. This requires that the asset be recorded at the lower of fair value, less costs to sell or book value. Based upon the current estimated proceeds from the sale of Mountain View, PG&E NEG will record an immaterial gain in the first quarter of 2003.

The operating results from Mountain View are reported as discontinued operations in the Consolidated Financial Statements of PG&E Corporation at December 31, 2002.

ET Canada – In December 2002, the proposed sale of PG&E Energy Trading Canada Corporation (ET Canada) to Seminole Gas Company Limited was approved. Based upon the sales price, PG&E Energy Trading Holdings Corporation, the direct owner of the shares of ET Canada recorded a $25 million pre-tax loss, with no tax benefits associated with the loss, on the disposition of ET Canada. The transaction is anticipated to close by the end of February or early March, 2003. Under the provisions of SFAS No. 144, the assets and liabilities of ET Canada have been classified as assets held for sale and reflected as discontinued operations in the Consolidated Financial Statements of PG&E Corporation at December 31, 2002.

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The following table reflects the operating results of the combined USGenNE, Mountain View, and ET Canada before reclassification to discontinued operations:

(in millions)		Year ended December 31,
		2002			2001			2000
Operating Revenues		$	1,289		$	943		$	905
Operating Expenses
	Cost of commodity sales and fuel		993			486			483
	Operations, maintenance, and management		243			246			236
	Depreciation and amortization		71			66			64
	Other operating expenses		1			–			–
Total operating expense			1,308			798			783
Operating Income (Loss)			(19	)		145			122
	Interest income		46			46			52
	Interest expense		(2	)		(4	)		–
	Other income (expense), net		(11	)		(7	)		–
Income Before Income Taxes			14			180			174
	Income tax expense		3			73			75
Earnings from USGenNE, Mountain View, and ET Canada classified as Discontinued Operations		$	11		$	107		$	99

The following table reflects the components of assets and liabilities of Operations held for sale of USGenNE, Mountain View, and ET Canada before reclassification to discontinued operations:

(in millions)			December 31,
			2002			2001
ASSETS
Current Assets
	Cash and cash equivalents		$	32		$	66
	Accounts receivable–trade			300			398
	Inventory			82			79
	Price risk management			196			187
	Prepaid expenses, deposits and other			97			14
		Total current assets held for sale		707			744
Property, Plant and Equipment
	Total property, plant and equipment			799			1,906
	Accumulated depreciation			(285	)		(216	)
		Net property, plant and equipment (1)		514			1,690
Other Noncurrent Assets
	Long-term receivables (2)			319			455
	Intangible assets, net of accumulated amortization of $37 million and $28 million			20			29
	Price risk management			30			60
	Other			33			20
		Total noncurrent assets held for sale		916			2,254
TOTAL ASSETS HELD FOR SALE			$	1,623		$	2,998

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LIABILITIES
Current Liabilities
	Long-term debt, classified as current		$	75	$	–
	Accounts payable and accrued expenses			207		307
	Price risk management			331		141
	Out-of-market contractual obligations (3)			86		116
	Other			–		6
		Total current liabilities of operations held for sale		699		570
Noncurrent Liabilities
	Long-term debt			–		75
	Deferred income taxes			–		187
	Price risk management			272		51
	Out-of-market contractual obligations (3)			501		683
	Other noncurrent liabilities and deferred credit			20		6
		Total noncurrent liabilities of operations held for sale		793		1,002
TOTAL LIABILITIES OF OPERATIONS HELD FOR SALE				1,492		1,572
NET ASSETS HELD FOR SALE			$	131	$	1,426

(1)

Includes impairment charges made against property, plant and equipment as further discussed in Note 7 Impairments, Write-offs, and Other Charges

(2)

Long-Term Receivable – USGenNE receives payments from a wholly owned subsidiary of NEES, related to the assumption by USGenNE in September 1998 of power supply agreements, which are payable monthly through January 2008. The long-term receivables are valued at the present value of the scheduled payments using a discount rate that reflects NEES' credit rating on the date of acquisition.

(3)

Out-of-Market Contractual Obligations – Commitments contained in the underlying Power Purchase Agreements (PPAs), gas commodity and transportation agreements (collectively, the "Gas Agreements"), and Standard Offer Agreements, acquired by USGenNE in September 1998, were recorded at fair value, based on management's estimate of either or both the gas commodity and gas transportation markets and electric markets over the life of the underlying contracts, discounted at a rate commensurate with the risks associated with such contracts. Standard Offer Agreements reflect a commitment to supply electric capacity and energy necessary for certain NEES affiliates to meet their obligations to supply fixed-rate service. PPAs and Gas Agreements are amortized on a straight-line basis over their specific lives. The Standard Offer Agreements are amortized using an accelerated method since the decline in value is greater in earlier years due to increasing contract pricing terms designed to reduce demand for supply service over time.

Discontinued Operations of Energy Services – In December 1999, PG&E Corporation's Board of Directors approved a plan to dispose of PG&E Energy Services (PG&E ES), its wholly owned subsidiary, through a sale. The disposal has been accounted for as a discontinued operation and PG&E NEG's investment in PG&E ES was written down to its estimated net realizable value. In addition, PG&E NEG provided a reserve for anticipated losses through the date of sale. In 2000, $31 million (net of taxes) of actual operating losses were charged against the reserve. During the second quarter of 2000, PG&E NEG finalized the transactions related to the disposal of the energy commodity portion of PG&E ES for $20 million, plus net working capital of approximately $65 million, for a total of $85 million. In addition, a portion of the PG&E ES business and assets was sold on July 21, 2000, for a total consideration of $18 million.

For the year ended December 31, 2000, an additional loss of $40 million, which includes an income tax benefit of $36 million, was recorded as actual losses in connection with the disposal, which exceeded the original 1999 estimate. The principal reason for the additional loss was due

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to the mix of assets, and the structure and timing of the actual sales agreements, as opposed to the one reflected in the initial provision established in 1999. In addition, the worsening energy situation in California also contributed to the actual loss incurred.

NOTE 7:    IMPAIRMENTS, WRITE-OFFS AND OTHER CHARGES

Impairments and Write-Offs

The following is a summary of impairments and write-offs incurred by PG&E NEG in continuing operations:

(in millions)		Quarter ended December 31, 2002	Year ended December 31, 2002
Assets to be Transferred to Lenders:
	GenHoldings projects	1,147	$	1,147
	Lake Road and La Paloma projects	452		452
Assets to be Abandoned:
	Impairment of Mantua Creek project	279		279
	Impairment of Kentucky Hydro project	18		18
	Impairment of Turbines and Other Related Equipment Costs	30		276
	Impairment of Project Development Costs	57		76
Other Impairments, write-offs, and charges:
	Termination of Interest Rate Swaps in Lake Road, La Paloma, and GenHoldings projects	189		189
	Impairment of Dispersed Generation Assets	88		118
	Impairment of Goodwill	–		95
	Impairment of Southaven loan	74		74
	Impairment of Prepaid Rents related to Attala lease	43		43
Total Impairments, write-offs and other charges		2,377	$	2,767

Impairment of GenHoldings I LLC Projects:    GenHoldings, a subsidiary of PG&E NEG, is obligated under its credit facility to make equity contributions to fund construction of the Harquahala, Covert and Athens generating projects. This credit facility is secured by these projects in addition to the Millennium generating facility. GenHoldings defaulted under its credit agreement in October 2002 by failing to make equity contributions to fund construction draws for the Athens, Harquahala and Covert generating projects. Although PG&E NEG has guaranteed GenHoldings' obligation to make equity contributions of up to $355 million, PG&E NEG notified the GenHoldings' lenders that it would not make further equity contributions on behalf of GenHoldings. In November and December 2002, the lenders executed waivers and amendments to the credit agreement under which they agreed to continue to waive until March 31, 2003, the default caused by GenHoldings' failure to make equity contributions. In addition, certain of these lenders have agreed to increase their loan commitments to an amount sufficient to provide (1) the funds necessary to complete construction of the Athens, Covert and Harquahala facilities; and (2) additional working capital facilities to enable each project, including Millennium, to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission operator requirements. The November and December increased loan commitments are rank equally with each other but are senior to amounts loaned through and including the October credit extension.

In consideration of the lenders' forbearance and additional funding, PG&E NEG and GenHoldings have agreed to cooperate with any reasonable proposal by the lenders regarding disposition of the equity in or assets of any or all of the GenHoldings subsidiaries holding the Athens, Covert, Harquahala, and Millennium projects in connection with the restructuring of PG&E NEG's and it subsidiaries' financial commitments to such lenders. The amended credit agreement provides that an event of default will occur if the Athens, Covert, Harquahala, and Millennium projects are not transferred to the lenders or their

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designees on or before March 31, 2003. Such a default would trigger lender remedies, including the right to foreclose on the projects. Under the waiver, PG&E NEG has re-affirmed its guarantee of GenHoldings' obligation to make equity contributions of approximately $355 million to these projects. Neither PG&E NEG nor GenHoldings currently expects to have sufficient funds to make this payment. The requirement to pay $355 million remains an obligation of PG&E NEG that would survive the transfer of the projects.

In accordance with the provisions of SFAS No. 144 the long-lived assets of GenHoldings at December 31, 2002 were tested for impairment. As a result of the test, the assets were determined to be impaired and were written-down to fair value. Based on the current estimated fair value of these assets, GenHoldings recorded a pre-tax loss from impairment of $1.147 billion in the fourth quarter of 2002.

Impairment of Lake Road and La Paloma Projects:    On November 14, 2002, PG&E NEG defaulted under its equity commitment guarantees for the Lake Road and the La Paloma credit facilities. As of December 4, 2002, PG&E NEG and certain of its subsidiaries entered into agreements with respect to each of the Lake Road and La Paloma generating projects providing for (1) funding of construction costs required to complete the La Paloma facility; and (2) additional working capital facilities to enable each subsidiary to timely pay for its fuel requirements and to provide its own collateral to support natural gas pipeline capacity reservations and independent transmission system operator requirements, as well as for general working capital purposes. Lenders extending new credit under these agreements have received liens on the projects that are senior to the existing lenders' liens. These agreements provide, among other things, that the failure to transfer right, title and interest in, to and under the Lake Road and La Paloma project to the respective lenders by June 9, 2003 will constitute a default under the agreements. The failure to transfer the facilities would entitle the lenders to accelerate the new indebtedness and exercise other remedies.

The Lake Road and La Paloma projects have been financed entirely with debt. PG&E NEG has guaranteed the repayment of a portion of the project subsidiary debt of approximately $230 million for Lake Road and $375 million for La Paloma, which amounts represent the subsidiaries' equity contribution in the projects. The lenders have demanded the immediate payment of these equity contributions. Neither the PG&E NEG subsidiaries nor PG&E NEG have sufficient funds to make these payments. The requirement to make the payments will remain an obligation of PG&E NEG that would survive the transfer of the projects.

In accordance with the provisions of SFAS No. 144, the long-lived assets of the Lake Road and La Paloma project subsidiaries at December 31, 2002 were tested for impairment. As a result of the test, these assets were determined to be impaired and were written-down to fair value. Based on the current estimated fair value of these assets, the Lake Road and La Paloma project subsidiaries recorded a pre-tax loss from impairment of approximately $186 million and $266 million, respectively, in the fourth quarter of 2002.

Impairment of Mantua Creek Project:    The Mantua Creek project is a nominal 897 megawatt (MW) combined cycle merchant power plant located in the Township of West Deptford, New Jersey. Construction began in October 2001 and the project was 24 percent complete as of October 31, 2002. Due to liquidity concerns, PG&E NEG could no longer provide equity contributions to the project and efforts to sell the project were unsuccessful. Beginning in the fourth quarter of 2002, contracts with vendors were suspended or terminated to eliminate an increase in project costs. In December 2002, the project provided notices of termination to the Pennsylvania, New Jersey, Maryland Independent System Operator (PJM), and other significant counterparties. With all significant contracts terminated, PG&E NEG's subsidiary will abandon this project in early 2003. PG&E NEG's subsidiary has written-off the capitalized development and construction costs of $257 million at December 31, 2002. In addition, PG&E NEG has recorded an accrual of $22 million for charges

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and associated termination costs at December 31, 2002.

Impairment of Turbines and Other Related Equipment:    To support PG&E NEG's electric generating development program, PG&E NEG subsidiaries had contractual commitments and options to purchase a significant number of combustion turbines and related equipment. PG&E NEG subsidiaries' commitment to purchase combustion turbines and related equipment exceeded the new planned development activities discussed herein. In the second quarter of 2002, these PG&E NEG subsidiaries recognized a pre-tax charge of $246 million. The charge consisted of the impairment of the previously capitalized costs associated with prior payments made under the terms of the turbine and equipment contracts in the amount of $188 million and an accrual of $58 million for future termination payments required under the turbine and related equipment contracts. In addition, at that time, the PG&E NEG subsidiaries retained capitalized prepayment costs associated with three development projects that were to be further developed or sold. In the fourth quarter of 2002, these PG&E NEG subsidiaries incurred an additional pre-tax charge of $30 million for the write-off of prior turbine prepayments associated with the impairment of the remaining development projects as discussed below.

In November 2002, subsidiaries of PG&E NEG reached agreement with General Electric Company (GEC) to terminate its master turbine purchase agreement and with General Electric International, Inc. (GEII) to terminate its master long-term service agreement. GEC and GEII have agreed to reduce the termination fees from approximately $34 million to approximately $22 million and to defer payment of the reduced fees to December 31, 2004. The costs to terminate this contract were accrued for in the second quarter of 2002 as discussed above.

Also in November 2002, Mitsubishi Power Systems, Inc. (MPS) notified PG&E NEG's subsidiary that it was terminating the turbine purchase agreement for failure to pay past due amounts and failure to collateralize PG&E NEG's guarantee. While PG&E NEG's subsidiary has disputed that such amounts were due before January and July 2003 and has asserted that a breach under PG&E NEG's guarantee did not give rise to a breach of the turbine purchase agreement, neither PG&E NEG nor its subsidiary intends to contest the termination. The costs to terminate this contract were accrued for in the second quarter of 2002, as discussed above. On January 31, 2003, a termination payment of $4.5 million was made with the remaining amount of $9.5 million expected to be paid in July 2003.

Termination of Interest Rate Swaps on Lake Road, La Paloma and GenHoldings Projects:    As a result of the La Paloma and Lake Road project subsidiaries' failure to make required equity payments under interest rate hedge contracts entered into by them, the counterparties to such interest rate hedge contracts have terminated the contracts. Settlement amounts due from the Lake Road and La Paloma project subsidiaries in connection with such terminated contracts are, in the aggregate, $61 million and $78 million, respectively. Further, as a result of GenHoldings' failure to make required payments under interest rate hedge contracts entered into by GenHoldings, the counterparties to such interest rate hedge contracts terminated the contracts during December 2002. Settlement amounts due by GenHoldings in connection with such terminated contracts are, in the aggregate, approximately $50 million. The La Paloma and Lake Road project subsidiaries and GenHoldings incurred a pre-tax charge to earnings in the fourth quarter of 2002 for these amounts totaling $189 million.

Impairment of Dispersed Generation:    PG&E NEG is seeking a buyer for PG&E Dispersed Generation LLC, Plains End LLC, Dispersed Properties LLC and 100 percent of the capital stock of Ramco Inc, (collectively, referred to as Dispersed Gen Companies or Dispersed Generation). In accordance with the provisions of SFAS No. 144, the long-lived assets of the Dispersed Gen Companies were tested for impairment. As a result of the test, these assets were determined to be impaired and were written-down to fair value. Based on the current estimated fair value (based on the estimated

132

proceeds) of a sale, Dispersed Generation recorded a pre-tax loss from impairment of $88 million in the fourth quarter of 2002. This is in addition to a pre-tax loss from impairment of $30 million that was recorded in the third quarter of 2002, which related to certain equipment (turbines, generators, transformers, etc.) that was purchased and/or refurbished and held for future expansion at current Dispersed Generation facilities.

Impairment of Goodwill:    SFAS No. 142 "Goodwill and Other Intangible Assets," requires that goodwill be reviewed at least annually for impairment. Due to significant adverse changes within the national energy markets, PG&E NEG and it subsidiaries elected to test its goodwill for possible impairment in the third quarter of 2002. Based upon the results of the fair value test, PG&E NEG and it subsidiaries recognized a goodwill impairment loss of $95 million in the third quarter of 2002. The fair value of the segment was estimated using the discounted cash flows method. At December 31, 2002, there was no goodwill remaining at PG&E NEG and it subsidiaries.

Impairment of Development Costs:    In the second quarter of 2002, PG&E NEG project subsidiaries recognized an impairment loss related to the capitalized costs associated with certain development projects. These PG&E NEG subsidiaries analyzed the potential future cash flow from those projects that it no longer anticipated developing and recognized an impairment of the asset value it was carrying for those projects. The aggregate pre-tax impairment charge recorded by these PG&E NEG subsidiaries for its development assets (excluding associated equipment) was $19 million recorded in the second quarter of 2002. At that time, these PG&E NEG subsidiaries continued to develop or planned to sell three additional projects. These subsidiaries have ceased developing these projects and sought to sell the development assets. To date, these subsidiaries have been unsuccessful in selling these projects and have tested the capitalized costs associated with the projects for impairment at December 31, 2002. Based upon the results of these tests, an additional aggregate pre-tax impairment charge of approximately $57 million was recorded by these subsidiaries for their development assets (excluding associated equipment costs as discussed above) in the fourth quarter of 2002. While these subsidiaries have impaired all of their development projects, they have not abandoned the permits or rights to these projects. It is anticipated that these permits and rights will be abandoned for all development projects in 2003.

Impairment of Southaven Power LLC Loan Receivable:    PG&E Energy Trading- Power, L.P. (PG&E ET) signed a tolling agreement with Southaven Power LLC (Southaven) dated June 1, 2000, pursuant to which PG&E ET was required to provide credit support that meets certain requirements set forth in the agreement. PG&E ET satisfied this obligation by providing an investment-grade guarantee from PG&E NEG. The original maximum amount of the guarantee was $250 million. However, this amount was reduced by approximately $74 million, the amount of a subordinated loan that PG&E ET made to Southaven on August 31, 2002.

Southaven has advised PG&E ET that it believes an event of default under the tolling agreement has taken place with respect to the obligation for a guarantee because PG&E NEG is no longer investment- grade as defined in the agreement and because PG&E ET has failed to provide, within 30 days from the downgrade, substitute credit support that meets the requirements of the agreement. Under the tolling agreement, Southaven has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Southaven with a notice of default with respect to Southaven's performance under the tolling agreement. If this default is not cured, PG&E ET has the right to terminate the agreement and seek recovery of a termination payment. On February 4, 2003, PG&E ET provided a notice of termination. Southaven has objected to the notice and has filed suit in connection with this matter. PG&E ET has recorded an impairment of the loan receivable due to the uncertainty associated with the recoverability of the loan, which was subordinate to the senior debt of the project and

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reliant upon operations of the plant under the terms of the tolling agreement.

Impairment of Prepaid Rents on Attala Lease:    On May 7, 2002, Attala Generating Company LLC (Attala Generating), an indirect wholly owned subsidiary of PG&E NEG, completed a $340 million sale and leaseback transaction whereby it sold and leased back its approximately 526 MW generation facility located in Mississippi to a third-party special purpose entity.

PG&E NEG has provided a $300 million guarantee to support the payment obligations of another indirect wholly owned subsidiary, Attala Energy Company LLC (Attala Energy) under a tolling agreement entered into with Attala Generating. The payments under the 25-year term tolling agreement provide Attala Generating, as lessee, with sufficient cash flows during the term of the tolling agreement to pay rent under a 37-year lease and certain other operating costs. Due to current energy market conditions, Attala Energy is unable to make the payments under the tolling agreement and failed to make the required payment due on November 22, 2002 to Attala Generating. Failure to cure this payment default constituted an event of default under the tolling agreement as of November 27, 2002. Further, PG&E NEG's failure to pay maturing principal under its Corporate Revolver on November 14, 2002, became an event of default under the tolling agreement upon Attala Energy's failure to replace the PG&E NEG guarantee by December 16, 2002. On December 31, 2002, the tolling agreement terminated following notice of termination given by Attala Generating. The parties are currently determining the termination payment, if any, that Attala Energy would owe Attala Generating. Despite the termination of the tolling agreements, Attala Energy remains obligated to provide an acceptable guarantee or collateral to secure its obligations under the tolling agreement, including the payment of any termination payment that may be determined to be due.

No default has occurred under the related lease and Attala Generating timely made the $22.2 million lease payment due on January 2, 2003. However, the lease provides that failure to replace the tolling agreement with a satisfactory replacement tolling agreement within 180 days after the first default under the tolling agreement, which occurred on November 27, 2002, will constitute an event of default under the lease. After the termination payment has been determined in accordance with the tolling agreement and if Attala Energy or PG&E NEG both fail, or have failed, to provide security as required by the tolling agreement, the time period would not extend beyond the 60^th day after such failure to provide security. Upon the occurrence of an event of default under the lease, the lessor would be entitled to exercise various remedies, including termination of the lease and foreclosure of the assets securing the lease. At December 31, 2002, Attala Generating wrote-off prepaid rental payments of $43 million due to the uncertainty of future cash flows associated with the lease.

Impairment of Kentucky Hydro Project:    The Kentucky Hydro Generating Project consists of two run-of-river hydroelectric power plants located in Kentucky on the Ohio River. The project negotiated a turnkey, fixed price contract with VA Tech MCE Corporation (VA Tech) and issued a limited notice to proceed in August 2001. Beginning in the fourth quarter of 2002, all work on the project was suspended except for minimal expenditures to maintain the Federal Energy Regulatory Commission licenses. The termination cost due to VA Tech of approximately $14 million was fully paid. VA Tech terminated the contract effective December 6, 2002. As part of the settlement of PG&E NEG subsidiary's partnership arrangement, this subsidiary assigned its partnership interest to the original developer, W.V. Hydro, on February 7, 2003. PG&E NEG has written-off the capitalized development and construction costs and provided for all termination costs by recording a pre-tax charge of $18 million at December 31, 2002.

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NOTE 8:    ACQUISITIONS AND DISPOSALS

Sale of Interest in Hermiston – On November 4, 2002, affiliates of PG&E ET entered into an agreement to sell 49.9 percent of its ownership interest in Hermiston Generating Company, L.P. (HGC) to Sumitomo Corporation and Sumitomo Corporation of America. The buyer was granted an option to purchase, during the three-month period beginning 13 months immediately following the closing date, an additional 0.1 percent interest (at the fair market value at the date of exercise). HGC owns an undivided 50.01 percent interest in a 474 MW gas-fired generating plant in Hermiston, Oregon. The other 49.99 percent is owned by PacifiCorp, which also purchases the output of the plant under a long-term contract. The sale was completed on December 20, 2002, following the receipt of necessary regulatory approvals. PG&E NEG received $46 million in proceeds for the sale of HGC resulting in a pre-tax $11 million gain, after the sale of a net investment balance of $25 million and reversal of Other Comprehensive Income of $10 million. Gain from the sale of HGC is included in other operating expenses. Prior to this sale of partnership interest, PG&E NEG owned 100 of this partnership and was fully consolidating HGC into its results.

Sale of Development Assets – On July 10, 2001, PG&E NEG completed the sale of certain development assets, resulting in a pre-tax gain of $23 million.

Purchase and Closing of Spencer Station – On June 29, 2001, PG&E ET contracted to supply the full service power requirements of the city of Denton, Texas, for a period of five years beginning July 1, 2001. PG&E ET's supply obligation to the city was net of approximately 97 megawatts of generation entitlements retained by the city, plus 40 megawatts of purchased power that the city had assigned to PG&E ET for the summer of 2001. Another affiliate of PG&E NEG acquired a 178 megawatt generating station and two small hydroelectric facilities from the city. The total consideration was approximately $12 million for this transaction.

On November 5, 2002, PG&E NEG announced its plan to shut down its Spencer Station generating plant located in Denton, Texas. However, PG&E NEG did not shut down Spencer Station and instead sold Spencer Station to the City of Garland on February 13, 2003. In addition, PG&E ET has sold its obligation to supply the full service power requirements of the City of Denton. Based on the current fair value (based on the proceeds) of a sale of Spencer Station, PG&E NEG will record an immaterial gain in the first quarter of 2003.

Purchase of Attala – On September 28, 2000, PG&E NEG purchased for $311 million Attala Generating, which owns a gas-fired power plant that was under construction. Under the purchase agreement, PG&E NEG prepaid the estimated remaining construction costs, which were being managed by the seller. The project, which was approximately 82 percent complete as of December 31, 2000, began commercial service in June 2001. In connection with the acquisition, PG&E NEG also assumed industrial revenue bonds issued by the Mississippi Business Finance Corporation in the amount of $159 million, under an agreement that the seller would pay off the bonds. Accordingly, a $159 million receivable was recorded. At December 31, 2001, the seller had paid off the bonds. See Note 7 for a current status of this facility.

Sale of PG&E GTT – On January 27, 2000, PG&E NEG signed a definitive agreement with El Paso Field Services Company (El Paso) providing for the sale of the stock of PG&E GTT to El Paso, a subsidiary of El Paso Energy Corporation. On December 22, 2000, after receipt of governmental approvals, PG&E NEG completed the stock sale. The total consideration received was $456 million, less $150 million used to retire the PG&E GTT's short-term debt, and the assumption by El Paso of PG&E GTT's long-term debt having a book value of $564 million. PG&E Corporation's Consolidated Statements of Operations included $33 million of net income related to the year ended December 31, 2000.

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NOTE 9:    COMMON STOCK

PG&E Corporation

PG&E Corporation has authorized 800 million shares of no-par common stock of which 405 million shares were issued and outstanding at December 31, 2002, and 388 million at December 31, 2001.

PG&E Corporation repurchased $0.5 million of its common stock during the year ended December 31, 2001. The repurchases were made to satisfy obligations under the Dividend Reinvestment Plan. PG&E Corporation repurchased approximately $5,000 of its common stock during the year ended December 31, 2002. PG&E Corporation is precluded by the terms of the Credit Agreement from repurchasing any more of its common stock until the Loans are repaid.

On March 2, 2001, PG&E Corporation paid its suspended fourth quarter 2000 stock dividend of $0.30 per common share, declared by the Board of Directors on October 18, 2000, to shareholders of record as of December 15, 2000.

On January 2, 2003, the Board of Directors granted 1.6 million shares of PG&E Corporation restricted stock under the PG&E Corporation Long-Term Incentive Program. Over the period of four years, restrictions will lapse as to 20 percent of the total number of shares of restricted stock each year. Restrictions will lapse as to an additional 5 percent of the total number of shares of restricted stock each year, if PG&E Corporation is in the top quartile of its comparator group. This is measured by relative annual total shareholder return for the year ending immediately before each annual lapse date. (See Note 14).

Utility

The Utility is authorized to issue 800 million shares of its $5 par value common stock. Of the total shares authorized, 321 million shares were issued and outstanding as of December 31, 2002, and 2001. PG&E Corporation and PG&E Holding LLC, a subsidiary of the Utility, hold all of the Utility's outstanding common stock.

The Utility did not repurchase any shares of its common stock during the year ended December 31, 2002, and 2001. In April 2000, PG&E Holdings LLC repurchased 11.9 million shares of the Utility's common stock at a cost of $275 million. At December 31, 2002, and 2001, the Utility held repurchased common stock totaled 19.5 million shares, at a cost of $475 million. The repurchased common stock is included as a reduction of stockholders' equity on the Utility's Consolidated Balance Sheets.

In October 2000, the Utility declared a $110 million common stock dividend to PG&E Corporation and PG&E Holding LLC. In January 2001, the Utility suspended payment of the declared dividend. The suspension was made so that the Utility could maintain its CPUC-authorized capital structure, which is the level of common and preferred equity the Utility may maintain in relation to its debt.

The Utility did not declare or pay common and preferred stock dividends in 2001 and 2002. Preferred stock dividends have a cumulative feature in which any preferred stock dividends not paid in any year must be made up in a later year before any dividends can be distributed to common stockholders. As a result, the Utility may not pay any dividends on its common stock until the cumulative preferred stock dividends and mandatory preferred sinking fund requirements are paid.

NOTE 10:    PREFERRED STOCK

Shareholder Rights Plan of PG&E Corporation

On December 20, 2000, the Board of Directors of PG&E Corporation declared a distribution of preferred stock purchase rights (the Rights) at a rate of one right for each outstanding share of PG&E Corporation common stock. The Rights apply to outstanding shares of PG&E Corporation common stock held as of the close of business on January 2, 2001, and for each share of common stock issued by PG&E Corporation

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thereafter and before the "distribution date," as described below. Each Right entitles the registered holder, in certain circumstances, to purchase from PG&E Corporation one one-hundredth of a share (a Unit) of PG&E Corporation's Series A Preferred Stock, par value $100 per share, at an initially fixed purchase price of $95 per Unit, subject to adjustment. Effective December 22, 2000, the PG&E Corporation Dividend Reinvestment Plan was modified to note these changes.

The Rights are not exercisable until the distribution date and will expire December 22, 2010, unless redeemed earlier by the PG&E Corporation Board of Directors. The distribution date will occur upon the earlier of (1) 10 days following a public announcement that a person or group (other than PG&E Corporation, any of its subsidiaries, or its employee benefit plans) has acquired or obtained the right to acquire beneficial ownership of 15 percent or more of the then-outstanding shares of PG&E Corporation common stock, and (2) 10 business days (or later, as determined by the Board of Directors) following the commencement of a tender offer or exchange offer that would result in a person or group owning 15 percent or more of the then-outstanding shares of PG&E Corporation common stock. After the distribution date, certain triggering events will enable the holder of each Right (other than a potential acquirer) to purchase Units of Series A Preferred Stock having twice the market value of the initially fixed exercise price, i.e., at a 50 percent discount. Until a Right is exercised, the holder shall have no Rights as a shareholder of PG&E Corporation, including without limitation the right to vote or to receive dividends.

A total of 5 million shares of preferred stock will be reserved for issuance upon exercise of the Rights. The Units of preferred stock that may be acquired upon exercise of the Rights will be non-redeemable and subordinate to any other shares of preferred stock that may be issued by PG&E Corporation. Each Unit of preferred stock will have a minimum preferential quarterly dividend rate of $0.01 per Unit but will, in any event, be entitled to a dividend equal to the per share dividend declared on the common stock. In the event of liquidation, the holder of a Unit will receive a preferred liquidation payment.

The Rights also have certain anti-takeover effects and will cause substantial dilution to a person or group that attempts to acquire PG&E Corporation on terms not approved by PG&E Corporation's Board of Directors, unless the offer is conditioned on a substantial number of Rights being acquired. The Rights should not interfere with any approved merger or other business combination, as the Board of Directors, at its option, may redeem the Rights. Thus, the Rights are intended to encourage persons who may seek to acquire control of PG&E Corporation to initiate such an acquisition through negotiations with PG&E Corporation's Board of Directors. However, the effect of the Rights may be to discourage a third party from making a partial tender offer or otherwise attempting to obtain a substantial equity position in the equity securities of, or seeking to obtain control of, PG&E Corporation. To the extent any potential acquirers are deterred by the Rights, the Rights may have the effect of preserving incumbent management in office.

Preferred Stock of Utility

The Utility has authorized 75 million shares of $25 par value preferred stock, which may be issued as redeemable or non-redeemable preferred stock.

At December 31, 2002, and 2001, the Utility had issued and outstanding 5,784,825 shares of non-redeemable preferred stock. Holders of the Utility's non-redeemable preferred stock 5.0 percent, 5.5 percent, and 6.0 percent series have rights to annual dividends per share ranging from $1.25 to $1.50.

At December 31, 2002, and 2001, the Utility had issued and outstanding 5,973,456 shares of redeemable preferred stock. The Utility's redeemable preferred stock is subject to redemption at the Utility's option, in whole or in part, if the Utility pays the specified redemption price plus accumulated and unpaid dividends through the redemption date. At December 31, 2002, annual dividends ranged from $1.09 to

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$1.76 and redemption prices ranged from $25.75 to $27.25.

At December 31, 2002, the Utility's redeemable preferred stock with mandatory redemption provisions consisted of 3 million shares of the 6.57 percent series and 2.5 million shares of the 6.30 percent series. These series are redeemable at par value plus accumulated and unpaid dividends through the redemption date. The 6.57 percent series may be redeemed at the Utility's option on or after July 31, 2002. The 6.30 percent series may be redeemed at the Utility's option on or after January 31, 2004. These series of preferred stock are subject to mandatory redemption provisions entitling them to sinking funds providing for the retirement of the stock outstanding.

The redemption requirements for the Utility's redeemable preferred stock with mandatory redemption provisions are for the 6.57 percent series $4 million per year from 2002 through 2006, and $55 million in 2007, and for the 6.30 percent series, $3 million per year from 2004 through 2008, and $47 million in 2009.

Due to the California energy crisis, the Utility's Board of Directors did not declare the following regular preferred stock dividends normally payable 15 days after the three-month periods ended:

•

January 31, 2001;



•

April 30, 2001;



•

July 31, 2001;



•

October 31, 2001;



•

January 31, 2002;



•

April 30, 2002;



•

July 31, 2002;



•

October 31, 2002; and



•

January 31, 2003.

Dividends on all Utility preferred stock are cumulative. All shares of preferred stock have voting rights and an equal preference in dividend and liquidation rights. Accumulated and unpaid preferred stock dividends amounted to $50 million as of December 31, 2002, and $25 million as of December 31, 2001. Upon liquidation or dissolution of the Utility, holders of preferred stock would be entitled to the par value of such shares plus all accumulated and unpaid dividends, as specified for the class and series. Until cumulative dividends on its preferred stock and mandatory preferred sinking fund payments are paid, the Utility may not pay any dividends on its common stock, nor may the Utility repurchase any of its common stock. A sinking fund sets aside funds for the future periodic retirement of the outstanding stocks.

Preferred Stock of PG&E NEG

Preferred stock of PG&E NEG consists of $58 million of preferred stock issued by a subsidiary of PG&E NEG. The preferred stock, with $100 par value, has a stated non-cumulative quarterly dividend of $3.35 per share, per quarter, and is redeemable when there is an excess of available cash. There were 549,594 shares of preferred stock outstanding at December 31, 2002, and 2001.

NOTE 11:    PRICE RISK MANAGEMENT

As previously discussed, PG&E NEG is in the process of reducing and unwinding its trading positions. Additionally, asset hedge positions associated with the merchant plants will either remain with the assets or be terminated. PG&E NEG has significantly reduced their energy trading operations in an ongoing effort to raise cash and reduce debt. PG&E NEG's objective is to limit its asset trading and risk management activities to only what is necessary for energy management services to facilitate the transition of PG&E NEG's merchant generation facilities through their sale, transfer or abandonment process. PG&E NEG will then further reduce and transition to only retain limited capabilities to ensure fuel procurement and power logistics for PG&E NEG's retained independent power plant operations.

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Non-Trading Activities

At December 31, 2002, PG&E Corporation had cash flow hedges of varying durations associated with commodity price risk, interest rate risk, and foreign currency risk, the longest of which extend through December 2011, March 2014, and December 2004, respectively.

The amount of commodity hedges included in Accumulated Other Comprehensive Income or Loss (OCI), net of tax, at December 31, 2002, was a loss of $27 million. The amount of interest rate hedges included in OCI, net of tax, at December 31, 2002, was a loss of $61 million. The amount of foreign currency hedges included in OCI, net of tax, at December 31, 2002, was a loss of $2 million.

PG&E Corporation's net derivative losses included in OCI at December 31, 2002, were $90 million, of which approximately $70 million is expected to be reclassified into earnings within the next 12 months based on the contractual terms of the contracts or the termination of the hedge position. The actual amounts reclassified from OCI to earnings will differ as a result of market price changes. The Utility did not have any cash flow hedges at December 31, 2002, or December 31, 2001. The Utility's ineffective portion of changes in amounts of cash flow hedges was immaterial for the year ended December 31, 2001.

The schedule below summarizes the activities affecting Accumulated Other Comprehensive Income (Loss), net of tax, from derivative instruments:

(in millions)	Year Ended December 31,
	2002					2001
	PG&E Corporation			Utility		PG&E Corporation			Utility
Derivative gains included in accumulated other comprehensive income at beginning of period	$	36		$	–	$	–		$	–
Cumulative effect of adoption of SFAS No. 133		–			–		(243	)		90
Net gain (loss) from current period hedging transactions and price changes		(139	)		–		237			(5	)
Net reclassification to earnings		13			–		42			(85	)
Derivative gains (losses) included in accumulated other comprehensive income at end of period		(90	)		–		36			–
Foreign currency translation adjustment		(3	)		–		(5	)		(2	)
Other		–			–		(1	)		–
Accumulated other comprehensive income (loss) at end of period	$	(93	)	$	–	$	30		$	(2	)

For most non-trading activities, earnings are recognized on an accrual basis as revenues are earned and as expenses are incurred. Thus, most non-trading activities do not affect earnings on a mark-to-market basis. For example, the effective portion of contracts accounted for as cash flow hedges have no mark-to-market effect on earnings; these contracts are presented on a mark-to-market basis on the balance sheet in PRM assets and liabilities and OCI. Other non-trading contracts are exempt from the SFAS No. 133 fair value requirements under the normal purchases and sales exception and thus have no mark-to-market effect on earnings.

However, in a few instances, non-trading activities affect PG&E NEG's earnings on a mark-to-market basis. PG&E NEG recognizes the ineffective portion of the fair value of cash flow hedges in earnings. PG&E NEG also has certain derivative contracts, which, while they are meant for non-trading purposes, do not qualify for cash flow hedge accounting or for the normal purchases and sales exception to SFAS No. 133. These derivatives are reported in earnings on a mark-to-market basis. These contracts primarily consist of those derivative commodity contracts for which normal purchases and sales treatment was disallowed upon PG&E NEG's

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implementation of DIG C15 and C16 effective April 1, 2002 (see Note 1).

The effects on pre-tax earnings of non-trading activities that are reflected in income on a mark-to-market basis are as follows:

(in millions)	Year Ended December 31,
	2002			2001
Ineffective portion of cash flow hedges	$	2		$	—
Earnings from discontinued cash flow hedges		(203	)		—
Non-trading derivatives marked-to-market through earnings		37			19
Total	$	(242	)	$	19

The $203 million pre-tax loss from discontinuance of cash flow hedges is primarily due to the interest rate hedges. Accounting hedge treatment was discontinued when certain PG&E NEG subsidiaries failed to make payments under their debt agreements and, therefore, the hedged transactions were no longer considered probable of occurrence. The $189 million loss in OCI relating to the interest rate hedges was reclassified to earnings, in accordance with the provisions of SFAS No. 133. (See further discussions in Note 3, GenHoldings Construction Facility and Lake Road and La Paloma Construction Facilities.) The remainder of the $203 million pre-tax loss relates to financial commodity hedges that were discontinued after the hedged transactions were no longer considered probable of occurrence.

Trading Activities

Unrealized gains and losses from trading activities, including the reversal of unrealized gains and losses previously recognized on contracts that go to settlement or delivery, are presented on a net basis in operating revenues. Realized gains and losses from trading activities also are presented on a net basis in operating revenues, beginning in the third quarter of 2002, as more fully described in Note 1.

Gains and losses on trading contracts affect PG&E Corporation's gross margin in the accompanying PG&E Corporation unaudited Consolidated Statements of Income on an unrealized, mark-to-market basis as the fair value of the forward positions on these contracts fluctuate. Settlement or delivery on a contract generally does not result in incremental net income recognition, because the profit or loss on a contract is recognized in income on an unrealized, mark-to-market basis during the periods before settlement occurs.

Gains and losses on trading contracts affect PG&E Corporation's cash flow when these contracts are settled. Net realized gains reported in the table below primarily reflect the net effect of contracts that have been settled in cash. Net realized gains also include certain non-cash items, including amortization of option premiums that were paid or received in cash in earlier periods, but are considered realized when the related options are exercised or expire.

PG&E Corporation's net gains (losses) on trading activities are as follows:

(in millions)	Year Ended December 31,
	2002			2001			2000
Trading activities:
Unrealized gains (losses), net	$	(74	)	$	(120	)	$	31
Realized gains, net		121			296			174
Total	$	47		$	176		$	205

See Note 1 for a discussion of the rescission of EITF 98-10, which impacted the accounting for trading activities.

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Price Risk Management Assets and Liabilities

PRM assets and liabilities on the accompanying PG&E Corporation Consolidated Balance Sheets reflect the aggregation of the fair values of outstanding contracts. These fair values are calculated on a mark-to-market basis for contracts that will be settled in future periods. PRM assets and liabilities at December 31, 2002, include amounts for trading and non-trading activities, as described below:

(in millions)	PRM Assets				PRM Liabilities						Net Assets (Liabilities)
	Current		Noncurrent		Current			Noncurrent
December 31, 2002
Trading activities	$	351	$	232	$	(349	)	$	(236	)	$	(2	)
Non-trading activities:
Cash flow hedges – offset to OCI		130		101		(155	)		(69	)		7
Derivatives marked to market through earnings		17		65		(2	)		–			80
Total consolidated PRM Assets and Liabilities	$	498	$	398	$	(506	)	$	(305	)	$	85

Non-trading activities include certain long-term contracts that are not included in PG&E Corporation's trading portfolio but that, due to certain pricing provisions and volumetric variability, are unable to receive hedge accounting treatment or the normal purchases and sales exception, as outlined by interpretations of SFAS No. 133. PG&E Corporation has certain other non-trading derivative commodity contracts for the physical delivery of purchases and sales quantities transacted in the normal course of business. These other non-trading activities include contracts that are exempt from SFAS No. 133 fair value requirements under the normal purchases and sales exemption, as described previously. Although the fair value of these other non-trading contracts is not required to be presented on the balance sheet, revenues and expenses generally are recognized in income using the same timing and basis as are used for the non-trading activities accounted for as cash flow hedges. Hence, revenues are recognized as earned and expenses are recognized as incurred.

Credit Risk

Credit risk is the risk of loss that PG&E Corporation and the Utility would incur if counterparties failed to perform their contractual obligations (these obligations are reflected as Accounts Receivable–Customers, net; notes receivable included in Other Noncurrent Assets–Other; PRM assets; and Assets held for sale on the balance sheet). PG&E Corporation and the Utility conduct business primarily with customers or vendors, referred to as counterparties, in the energy industry. These counterparties include other investor-owned utilities, municipal utilities, energy trading companies, financial institutions, and oil and gas production companies located in the United States and Canada. This concentration of counterparties may impact PG&E Corporation's and the Utility's overall exposure to credit risk because their counterparties may be similarly affected by economic or regulatory changes or other changes in conditions.

PG&E Corporation and the Utility manage their credit risk in accordance with their respective Risk Management Policies. The policies establish processes for assigning credit limits to counterparties before entering into agreements with significant exposure to PG&E Corporation and the Utility. These processes include an evaluation of a potential counterparty's financial condition, net worth, credit rating, and other credit criteria as deemed appropriate, and are performed at least annually.

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Credit exposure is calculated daily, and in the event that exposure exceeds the established limits, PG&E Corporation and the Utility take immediate action to reduce the exposure, or obtain additional collateral, or both. Further, PG&E Corporation and the Utility rely heavily on master agreements that require the counterparty to post security, referred to as credit collateral, in the form of cash, letters of credit, corporate guarantees of acceptable credit quality, or eligible securities if current net receivables and replacement cost exposure exceed contractually specified limits.

PG&E Corporation and the Utility calculate gross credit exposure for each counterparty as the current mark-to-market value of the contract (that is, the amount that would be lost if the counterparty defaulted today) plus or minus any outstanding net receivables or payables, prior to the application of the counterparty's credit collateral.

In 2002, PG&E Corporation's and the Utility's credit risk increased due in part to downgrades of some counterparties credit ratings to levels below investment grade. The downgrades increase PG&E Corporation's or the Utility's credit risk because any collateral provided by these counterparties in the form of corporate guarantees or eligible securities may be of lesser or no value. Therefore, in the event these counterparties failed to perform under their contracts, PG&E Corporation and the Utility may face a greater potential maximum loss. In contrast, PG&E Corporation and the Utility do not face any additional risk if counterparties' credit collateral is in the form of cash or letters of credit, as this collateral is not affected by a credit rating downgrade.

For the year ended December 31, 2002, PG&E Corporation and the Utility have recognized no losses due to the contract defaults or bankruptcies of counterparties. However, in 2001, PG&E Corporation terminated its contracts with a bankrupt company, which resulted in a pre-tax charge to earnings of $60 million related to trading and non-trading activities, after application of collateral held and accounts payable.

At December 31, 2002, and at December 31, 2001, PG&E Corporation had no single counterparty that represented greater than 10 percent of PG&E Corporation's net credit exposure. At December 31, 2002, the Utility had one investment-grade counterparty that represented 21 percent of the Utility's net credit exposure, and one below investment-grade counterparty that represented 11 percent of the Utility's net credit exposure. At December 31, 2001, the Utility had no single counterparty that represented greater than 10 percent of the Utility's net credit exposure.

The schedule below summarizes PG&E Corporation's and the Utility's credit risk exposure to counterparties that are in a net asset position, with the exception of exchange-traded futures (the exchange provides for contract settlement on a daily basis), as well as PG&E Corporation's and the Utility's credit risk exposure to counterparties with a greater than 10 percent net credit exposure, at December 31, 2002, and December 31, 2001:

(in millions)	Gross Credit Exposure Before Credit Collateral (1)		Credit Collateral (2)		Net Credit Exposure (2)		Number of Counterparties >10%	Net Exposure of Counterparties >10%
At December 31, 2002
PG&E Corporation	$	1,165	$	195	$	970	–	$	–
Utility (3)		288		113		175	2		55
At December 31, 2001
PG&E Corporation	$	1,203	$	207	$	996	–	$	–
Utility (3)		271		127		144	–		–

⁽¹⁾

Gross credit exposure equals mark-to-market value (adjusted for applicable credit valuation adjustments), notes receivable, and net (payables) receivables where netting is allowed. Gross and net credit exposure amounts reported above do not include adjustments for time value, liquidity, or model.

⁽²⁾

Net credit exposure is the gross credit exposure minus credit collateral (cash deposits and letters of credit).

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⁽³⁾

The Utility's gross credit exposure includes wholesale activity only. Retail activity and payables incurred prior to the Utility's bankruptcy filing are not included. Retail activity at the Utility consists of the accounts receivable from the sale of gas and electricity to millions of residential and small commercial customers.

At December 31, 2002, approximately $205 million, or 21 percent of PG&E Corporation's net credit exposure, was to entities that have credit ratings below investment grade. At December 31, 2002, approximately $64 million, or 37 percent of the Utility's net credit exposure was to entities that had credit ratings below investment grade. At December 31, 2001, approximately $244 million, or 25 percent of PG&E Corporation's net credit exposure, was to entities that had credit ratings below investment grade. At December 31, 2001, approximately $32 million, or 22 percent of the Utility's net credit exposure, was to entities that had credit ratings below investment grade. Investment grade is determined using publicly available information, i.e. rated at least Baa3 by Moody's and BBB- by S&P. If the counterparty provides a guarantee by a higher rated entity (e.g., its parent), the credit rating determination is based on the rating of its guarantor.

At December 31, 2002, approximately $65 million, or 7 percent of PG&E Corporation's net credit exposure was with counterparties at PG&E NEG that were not rated. At December 31, 2001, none of PG&E Corporation's net credit exposure was with counterparties at PG&E NEG that were not rated. Most counterparties with no credit rating are governmental authorities which are not rated, but which PG&E Corporation has assessed as equivalent to investment grade. Other counterparties with no credit rating are subject to an internal assessment of their credit quality and a credit rating designation.

PG&E Corporation's regional concentrations of credit exposure are to counterparties that conduct business primarily in the western United States and also to counterparties that conduct business primarily throughout North America. Additionally, the Utility's concentration of credit risk reflects its receivables from residential and small commercial customers in northern California. However, the risk of material loss due to nonperformance from these customers is not considered likely. Reserves for uncollectible accounts receivable are provided for the potential loss from nonpayment by these customers based on historical experience. The Utility has a net regional concentration of credit exposure totaling $175 million to counterparties that conduct business primarily throughout North America.

NOTE 12:    INVESTMENTS IN AFFILIATES AND RELATED PARTY TRANSACTIONS

Investment in Unconsolidated Affiliates

Utility

The Utility has investments in unconsolidated affiliates, which are mainly engaged in the purchase of residential real estate property. The equity method of accounting is applied to the Utility's investment in these entities. Under the equity method, the Utility's share of equity income or losses of these entities is reflected as equity in earnings of affiliates. As of December 31, 2002, the Utility's recorded investment in these entities totaled $15 million. As a limited partner, the Utility's exposure to potential loss is limited to its investment in each partnership.

PG&E NEG

PG&E NEG has non-controlling investments in various power generation and other energy projects. The equity method of accounting is applied to such investments in affiliated entities, which include corporations, joint ventures and partnerships, due to the ownership structure preventing PG&E NEG from exercising control. Under this method, PG&E NEG's share of equity income or losses of these entities is reflected as revenue on the accompanying financial statements.

PG&E NEG's share of ownership in these affiliates ranges from 5 percent to 64 percent, and its net investment amounted to $403 million as of December 31, 2002, and $414 million as of December 31, 2001.

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Net gains from the sale of interests in unconsolidated affiliates were $21 million during 2000, excluding PG&E NEG's pipeline interests that were sold as part of the GTT disposition. Amounts are included in other operating expenses. There were no sales of unconsolidated affiliates in 2002 or 2001.

The following table sets forth summarized financial information of PG&E NEG's investments in affiliates accounted for under the equity method for the years ended December 31, 2002, 2001, and 2000:

(in millions)	Year Ended December 31,
Statement of Operations Data	2002		2001		2000
Revenues	$	1,141	$	1,150	$	1,252
Income From Operations		418		482		491
Earnings Before Taxes		341		295		197
Equity in earnings from affiliates		48		79		65

		As of December 31,
Balance Sheet Data		2002		2001
Current assets		$	286	$	306
Noncurrent assets			3,713		3,567
	Total Assets	$	3,999	$	3,873
Current liabilities		$	456	$	274
Noncurrent liabilities			2,832		3,074
Equity			711		525
	Total Liabilities and Equity	$	3,999	$	3,873

The reconciliation of the PG&E NEG's share of equity to investment balance is as follows:

(in millions)	As of December 31,
	2002		2001
PG&E NEG's share of equity	$	95	$	112
Purchase premium over book value		126		131
Lease receivables and other investments		182		171
Investments in unconsolidated affiliates	$	403	$	414

The purchase premium over book value is being amortized over periods ranging from 16 to 35 years and is recorded through amortization expense. The yearly purchase premium amortization expenses were $7 million in 2002, $7 million in 2001, and $7 million in 2000.

Related Party Agreements and Transactions

In accordance with various agreements, the Utility and other subsidiaries provide and receive various services to and from their parent, PG&E Corporation. The Utility and PG&E Corporation exchange administrative and professional support services in support of operations. These services are priced either at the fully loaded (i.e., direct costs and allocations of overhead costs) or at the higher of fully loaded costs or fair market value, depending on the nature of the services provided. PG&E Corporation also allocates certain other corporate administrative and general costs to the Utility and other subsidiaries using a variety of factors when allocating these costs, which are based upon the number of employees, operating expenses, excluding fuel purchases, total assets, and other cost causal methods. Additionally, the Utility purchases gas commodity and transmission services from, and sells reservation and other ancillary services to PG&E NEG. These services are priced at either tariff rates or fair market value depending on the nature of the services provided. Intercompany transactions are eliminated in consolidation and no profit results from these transactions. The Utility's significant related party transactions were as follows:

(in millions)	Year ended December 31,
	2002		2001		2000
Utility proceeds from:
Administrative services provided to PG&E Corporation	$	7	$	6	$	12
Gas reservation services provided to PG&E ET		9		11		12
Contribution in aid of construction received from PG&E NEG		2		5		3
Other		–		1		2
Trade Deposit due from PG&E GTNW		–		11		–

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Utility payments for:
Administrative services received from PG&E Corporation	$	106	$	127	$	83
Interest on Debt to PG&E Corporation		8		3		3
Administrative services received from PG&E NEG		2		–		–
Gas commodity and transmission services received from PG&E ET		49		120		136
Interest on Debt to PG&E ET		2		–		–
Transmission services received from PG&E GTN		47		40		46
Trade Deposit due to ET		7		–		–

NOTE 13:    NUCLEAR DECOMMISSIONING

Decommissioning of the Utility's nuclear power facilities is scheduled to begin, for ratemaking purposes, in 2015 and scheduled for completion in 2041. Nuclear decommissioning means (1) the safe removal of nuclear facilities from service, and (2) the reduction of residual radioactivity to a level that permits termination of the Nuclear Regulatory Commission license and release of the property for unrestricted use.

The estimated total obligation for nuclear decommissioning costs at Diablo Canyon Power Plant and Humboldt Bay Power Plant is $1.9 billion in 2002 dollars (or $8.4 billion in future dollars). This estimate is (1) based on a February 2002 decommissioning cost study, and (2) includes labor, materials, waste disposal and other costs. The Utility plans to fund these costs from independent decommissioning trusts, which receive annual contributions as discussed further below. The Utility estimates after-tax annual earnings, including realized gains and losses, on the tax-qualified decommissioning funds of 6.34 percent and non-tax-qualified decommissioning funds of 5.39 percent. The decommissioning cost estimates are based on the plant location and cost characteristics for the Utility's nuclear plants. Actual decommissioning costs are expected to vary from this estimate because of changes in assumed dates of decommissioning, regulatory requirements, technology, costs of labor, materials, and equipment. The estimated total obligation is being recognized proportionately over the license term of each facility.

At December 31, 2002, the total nuclear decommissioning obligation accrued was $1.3 billion and is included in accumulated depreciation and decommissioning on PG&E Corporation's and the Utility's Consolidated Balance Sheets.

On January 1, 2003, the Utility adopted SFAS No. 143. Under SFAS No. 143, the Utility will adjust its nuclear decommissioning obligation to reflect the fair value of decommissioning its nuclear power facilities. See Note 1 under Adoption of New Accounting Policies – Accounting for Asset Retirement Obligations.

On March 15, 2002, the Utility filed its 2002 Nuclear Decommissioning Cost Triennial Proceeding (NDCTP), seeking to increase its nuclear decommissioning revenue requirements for the years 2003 through 2005 based on the February 2002 cost study. The Utility's NDCTP seeks recovery of $24 million in revenue requirements relating to the Diablo Canyon Nuclear Decommissioning Trusts and $17.5 million in revenue requirements relating to the Humboldt Bay Power Plant Decommissioning Trusts. The NDCTP also seeks recovery of $7.3 million in CPUC-jurisdictional revenue requirements for Humboldt Bay Unit 3 operating and maintenance costs. These costs include the radiation protection, surveillance activities, security forces, and maintenance of security systems. The Utility proposes continuing to collect the revenue requirement through a non-bypassable charge in electric rates, and to record the revenue requirement and the associated revenues in the Nuclear Decommissioning adjustment mechanism balancing account. The balancing account would require the Utility to return to ratepayers any amounts collected as part of the Utility's nuclear decommissioning revenue requirement that were not contributed to the independent trusts.

Until post-rate freeze ratemaking is implemented, an increase in the Utility's nuclear decommissioning revenue requirements would reduce the amount of revenues available to

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offset electric generation costs, and would not have an impact on the Utility's results of operations.

The CPUC held hearings on the NDCTP in September 2002 and is scheduled to issue a final decision in April 2003.

For the year ended December 31, 2002, and December 31, 2001, annual nuclear decommissioning trust contributions collected in rates were $24 million and this amount was contributed to the trusts.

Amounts contributed to the funds, along with accumulated earnings, will be used exclusively for decommissioning and cannot be released from the trusts until authorized by the CPUC. Trust fund earnings increase the trust fund balance and the accumulated provision for decommissioning.

The CPUC has authorized the qualified trust to invest a maximum of 50 percent of its funds in publicly traded equity securities, of which up to 20 percent may be invested in publicly traded non-US securities. For the nonqualified trust, no more than 60 percent may be invested in publicly traded equities. The trusts are in compliance with the investment restrictions authorized by the CPUC.

In general, investment securities are exposed to various risks, such as interest rate, credit, and overall market volatility risks. Due to the level of risk associated with certain investment securities, it is reasonably possible that changes in the market values of investment securities could occur in the near term, and such changes could materially affect the trusts' current value.

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The following table provides a summary of the amortized cost and fair value, based on quoted market prices, of the Utility's nuclear decommissioning trust funds:

(in millions)	Maturity Date	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
Year ended December 31, 2002
U.S. government and agency issues	2003-2032	$	423	$	50	$	–		$	473
Municipal bonds and other	2003-2034		185		12		(1	)		196
Equity securities			394		281		(9	)		666
Total		$	1,002	$	343	$	(10	)		1,335
Other assets										89
Other liabilities										(89	)
Fair Value									$	1,335
Year ended December 31, 2001
U.S. government and agency issues	2002-2031	$	437	$	39	$	–		$	476
Municipal bonds and other	2002-2034		218		14		(1	)		231
Equity securities			371		347		(12	)		706
Total		$	1,026	$	400	$	(13	)		1,413
Other assets										44
Other liabilities										(120	)
Fair Value									$	1,337

The cost of debt and equity securities sold is determined by specific identification. The following table provides a summary of the activity for the debt and equity securities:

(in millions)	Year Ended December 31,
	2002		2001		2000
Proceeds received from sales of securities	$	1,631	$	751	$	1,379
Gross realized gains on sales of securities held as available-for-sale		51		71		74
Gross realized losses on sales of securities held as available-for-sale		91		98		64

Under the Nuclear Waste Policy Act of 1982, the U.S. Department of Energy (DOE), is responsible for the permanent storage and disposal of spent nuclear fuel.

The Utility has signed a contract with the DOE to provide for the disposal of spent nuclear fuel and high-level radioactive waste from the Utility's nuclear power facilities. The DOE's current estimate for an available site to begin accepting physical possession of the spent nuclear fuel is 2010. At the projected level of operation for Diablo Canyon, the Utility's facilities are able to store on-site all spent fuel produced through approximately 2007. It is likely that an interim or permanent DOE storage facility will not be available for Diablo Canyon's spent fuel by 2007. Therefore, the Utility is examining its options for providing additional temporary spent fuel storage at Diablo Canyon or other facilities.

NOTE 14:    EMPLOYEE BENEFIT PLANS

PG&E Corporation and its subsidiaries provide both qualified and nonqualified noncontributory defined benefit pension plans for their employees, retirees, and non-employee directors (referred to collectively as pension benefits). PG&E Corporation and its subsidiaries also provide contributory defined benefit medical plans for certain retired employees and their eligible dependents, and noncontributory defined benefit life insurance plans for certain retired employees (referred to collectively as other

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benefits). The following schedules aggregate all of PG&E Corporation's plans. All descriptions and assumptions of the pension benefits and other benefits discussed below are based on the Utility's plans since the Utility's plans represent the majority of all plan asset and benefit obligations.

The following schedule reconciles the plans' funded status to the prepaid or accrued benefit cost recorded on the Consolidated Balance Sheets. The plans' funded status is the difference between the fair value of plan assets and the benefit obligations.

(in millions)	Pension Benefits						Other Benefits
	2002			2001			2002			2001
Change in benefit obligation
Benefit obligation at January 1	$	(6,087	)	$	(5,405	)	$	(1,065	)	$	(1,009	)
Service cost for benefits earned		(140	)		(128	)		(25	)		(21	)
Interest cost		(438	)		(420	)		(77	)		(74	)
Actuarial loss		(415	)		(408	)		(107	)		(12	)
Participants paid benefits		–			–			(25	)		(20	)
Settlement		1			–			–			–
Benefits and expenses paid		298			274			74			71
Benefit obligation at December 31	$	(6,781	)	$	(6,087	)	$	(1,225	)	$	(1,065	)
Change in plan assets
Fair value of plan assets at January 1	$	7,175		$	7,808		$	915		$	1,012
Actual return on plan assets		(690	)		(364	)		(149	)		(70	)
Company contributions		10			5			49			27
Plan participant contribution		–			–			25			20
Settlement		(8	)		–			–			–
Benefits and expenses paid		(298	)		(274	)		(77	)		(74	)
Fair value of plan assets at December 31	$	6,189		$	7,175		$	763		$	915
Funded Status
Plan assets greater (lower) than benefit obligation	$	(592	)	$	1,088		$	(462	)	$	(150	)
Unrecognized prior service cost		313			358			13			14
Unrecognized net (gain) loss		1,205			(501	)		179			(156	)
Unrecognized net transition obligation		22			36			261			287
Prepaid (accrued) benefit cost	$	948		$	981		$	(9	)	$	(5	)
Utility's share:
Plan assets greater (lower) than benefit obligation	$	(553	)	$	1,103		$	(448	)	$	(147	)
Prepaid (accrued) benefit costs	$	974		$	994		$	(11	)	$	(6	)

Unrecognized prior service costs and the net gains are amortized on a straight-line basis over the average remaining service period of active plan participants. The transition obligations for pension benefits and other benefits are being amortized over 17.5 years from 1987.

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Net benefit income (cost) was as follows:

(in millions)	Pension Benefits December 31,									Other Benefits December 31,
	2002			2001			2000			2002			2001			2000
Service cost for benefits earned	$	(140	)	$	(128	)	$	(119	)	$	(25	)	$	(21	)	$	(17	)
Interest cost		(438	)		(420	)		(386	)		(77	)		(74	)		(72	)
Expected return on assets		596			645			679			76			83			91
Amortized prior service and transition cost		(59	)		(55	)		(55	)		(28	)		(28	)		(28	)
Amortization of unrecognized gain		5			83			183			4			21			32
Settlement (loss) gain		(7	)		–			6			–			–			18
Benefit income (cost)	$	(43	)	$	125		$	308		$	(50	)	$	(19	)	$	24
Utility's share of benefit income (cost)	$	(37	)	$	127		$	302		$	(49	)	$	(19	)	$	7

Net benefit income (cost) was calculated using expected return on plan assets of 8.5 percent for both pension and other benefits.

The difference between actual and expected return on plan assets is included in net amortization and deferral and is considered in the determination of future net benefit income (cost). The actual return on plan assets was below the expected return in 2002, 2001, and 2000.

Under SFAS No. 71, regulatory adjustments have been recorded in the Consolidated Statements of Operations and Consolidated Balance Sheets of the Utility to reflect the difference between Utility pension income for accounting purposes and Utility pension income for ratemaking, which is based on a funding approach. The CPUC has authorized the Utility to recover the costs associated with its other benefits for 1993 and beyond. Recovery is based on the lesser of the annual accounting costs or the annual contributions on a tax-deductible basis to the appropriate trusts.

The following actuarial assumptions were used in determining the plans' assets and benefit obligations and net benefit income (cost). Year-end assumptions are used to compute assets and benefit obligations, while prior year-end assumptions are used to compute net benefit income (cost).

	Pension Benefits December 31,						Other Benefits December 31,
	2002		2001		2000		2002		2001		2000
Discount rate	6.75	%	7.25	%	7.50	%	6.75	%	7.25	%	7.50	%
Average rate of future compensation increases	5.00		5.00		5.00		5.00		5.00		5.00
Expected return on plan assets	8.10		8.50		8.50		(1)		8.50		8.50

⁽¹⁾

As of the end of 2002, PG&E Corporation changed the expected long-term rate of return on plan assets for various funded plans as follows:

Other Benefits:
	Defined Benefit – Medical Plan Bargaining	8.50	%
	Defined Benefit – Medical Plan Management	7.20	%
	Defined Benefit – Life Insurance Plan	8.10	%

The assumed health care cost trend rate for 2003 is approximately 10.5 percent, grading down to an ultimate rate in 2008 and beyond of approximately 5.5 percent. The assumed health care cost trend rate can have a significant effect on the amounts reported for health care plans. A one-percentage point change would have the following effects:

(in millions)	1-Percentage Point Increase		1-Percentage Point Decrease
Effect on total service and interest cost components	$	8	$	(7	)
Effect on post retirement benefits obligation	$	72	$	(67	)

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Defined Contribution 401(k) Benefits

PG&E Corporation and its subsidiaries also sponsor defined contribution pension plans more commonly referred to as 401(k) plans. These plans are qualified under applicable sections of the Internal Revenue Code. These plans provide for tax-deferred salary deductions and after-tax employee contributions as well as employer contributions. Employees designate the funds in which their contributions and any employer contributions are invested. Employer contributions include matching and /or basic contributions. For certain plans, matching employer contributions are automatically invested in PG&E Corporation common stock. Employees may reallocate matching employer contributions and accumulated earnings thereon to another investment fund or funds available to their plan at any time once they have been credited to their account. Employee contribution expense reflected in the accompanying PG&E Corporation's Consolidated Statements of Operations amounted to:

(in millions)
Year ended December 31,	Amounts
2002	$	52
2001		48
2000		60

Long-Term Incentive Program

PG&E Corporation maintains a Long-Term Incentive Program (Program) that permits various stock-based incentive awards to be granted to non-employee directors, executive officers, and other employees of PG&E Corporation and its subsidiaries. The Stock Option Plan, the Performance Unit Plan, and the Non-Employee Director Stock Incentive Plan (each of which is a component of the Program) provide incentives based on PG&E Corporation's financial performance over time.

Stock Option Plan (SOP)

The SOP provides for grants of stock options to eligible participants with or without associated stock appreciation rights and dividend equivalents.

At December 31, 2002, 45,527,595 shares of PG&E Corporation common stock had been authorized for award under the SOP, with 14,507,614 shares still available under the SOP.

PG&E Corporation – Consolidated

Fair values of options granted in 2002, 2001, and 2000 under the Black-Scholes valuation method are as follows:

(1)

Options granted in 2002 had weighted average fair value under the Black-Scholes valuation method of $6.61 per share for 211,712 shares;

(2)

Options granted in 2001 were measured using two sets of assumptions deriving weighted average fair values of $6.01 per share for 5,736,300 options granted and $5.80 per share for 5,670,852 options granted at their respective date of grant; and

(3)

Options granted in 2000 had weighted average fair values at their date of grant of $3.26.

Significant assumptions used in the Black-Scholes valuation method for shares granted in 2002, 2001 (two sets of assumptions), and 2000 were:

	2002		2001	2000
Expected stock price volatility	30.0	%	33.00% & 29.05%	20.19	%
Expected dividend yield	0	%	0% & 4.35%	5.18	%
Risk-free interest rate	4.65	%	5.24% & 5.95%	6.10	%
Expected life	10 years		10 years	10 years

Outstanding stock options become exercisable on a cumulative basis at one-third each year commencing two years from the date of grant and expire ten years and one day after the date of grant. Options outstanding at December 31, 2002, had option prices ranging from $11.80 to $34.25, and a weighted average remaining contractual life of 6.5 years.

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The following table summarizes the consolidated SOPs activity at and for the years ended December 31:

(shares in millions)	2002				2001				2000
	Shares		Weighted Average Option Price		Shares		Weighted Average Option Price		Shares		Weighted Average Option Price
Outstanding, beginning of year	34.1		$	22.11	24.3		$	25.90	16.4		$	29.42
Granted during year	0.2			19.44	11.4			14.33	10.2			20.03
Exercised during year	(0.3	)		23.65	(0.1	)		31.96	(1.2	)		23.52
Cancellations during year	(2.9	)		27.61	(1.5	)		23.55	(1.1	)		26.57
Outstanding, end of year	31.1			22.22	34.1			22.11	24.3			25.90
Exercisable, end of year	15.5			27.05	10.9			27.86	6.3			27.73

The following summarizes information for options outstanding and exercisable at December 31, 2002. Of the outstanding options at December 31, 2002:

(1)

203,712 options had exercise prices ranging from $17.35 to $21.07 with a weighted average remaining contractual life of 9.04 years, of which none of the shares were exercisable;

(2)

9,974,652 options had exercise prices ranging from $9.75 to $19.56, with a weighted average remaining contractual life of 8.3 years, of which 189,700 shares were exercisable at a weighted average exercise price of $14.21; and

(3)

7,826,604 options had exercise prices ranging from $19.81 to $29.06, with a weighted average remaining contractual life of 6.8 years, of which 3,538,779 shares were exercisable at a weighted average exercise price of $19.96.

In addition, 3,593,775 options were granted on January 2, 2003, at an exercise price of $14.61, the then-current market price of PG&E Corporation common stock.

Utility

Fair values of options granted to purchase PG&E Corporation common stock in 2002, 2001, and 2000 under the Black-Scholes valuation method, using the same assumptions as above, are as follows:

(1)

No options were granted in 2002;

(2)

Options granted in 2001 were measured using two sets of assumptions deriving weighted average fair values of $6.01 per share for 2,057,500 options granted and $5.80 per share for 2,054,100 options granted at their respective date of grant; and

(3)

Options granted in 2000 had weighted average fair values at their date of grant of $3.26.

In general, outstanding stock options become exercisable on a cumulative basis at one-third each year commencing two years from the date of grant and expire ten years and one day after the date of grant.

Options outstanding at December 31, 2002, had option prices ranging from $12.63 to $34.25, and a weighted average remaining contractual life of 7.4 years.

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The following table summarizes the SOPs activity for the Utility at and for the years ended December 31:

(shares in millions)	2002				2001				2000
	Shares		Weighted Average Option Price		Shares		Weighted Average Option Price		Shares		Weighted Average Option Price
Outstanding, beginning of year	12.7		$	22.40	8.9		$	26.31	6.8		$	29.25
Granted during year	–			–	4.1			14.32	3.3			19.89
Exercised during year	(0.2	)		23.60	(0.1	)		31.96	(0.8	)		24.81
Cancellations during year	(0.1	)		23.73	(0.2	)		24.44	(0.4	)		26.95
Outstanding, end of year	12.4			22.37	12.7			22.40	8.9			26.31
Exercisable, end of year	5.9			27.74	4.0			28.81	4.0			28.98

The following summarizes information for options outstanding and exercisable at December 31, 2002. Of the outstanding options at December 31, 2002:

(1)

4,045,600 options, related to 2001 grants had exercise prices ranging from $12.63 to $16.01, with a weighted average remaining contractual life of 9.3 years, of which 60,800 options were exercisable at a weighted average exercise price of $13.57; and

(2)

2,921,124 options, related to 2000 grants, had exercise prices ranging from $19.81 to $26.31, with a weighted average remaining contractual life of 8.0 years, of which 1,009,499 options were exercisable at a weighted average exercise price of $19.90.

In addition, 2,029,725 options were granted on January 2, 2003, at an exercise price of $14.61, the then-current market price of PG&E Corporation common stock.

Performance Unit Plan (PUP)

Under the PUP, PG&E Corporation grants performance units to certain officers of PG&E Corporation and its subsidiaries. The performance units vest one-third in each of the three years following the year of grant. The number of performance units granted and the amount of compensation expense recognized in connection with the issuance of performance units during the years ended December 31, 2002, 2001, and 2000, were not material.

Non-Employee Director Stock Incentive Plan (NEDSIP)

Under the NEDSIP, each person who is a non-employee director on the first business day of the applicable calendar year is entitled to receive stock-based grants with a total aggregate equity value of $30,000, composed of:

(1)

Restricted shares of PG&E Corporation common stock valued at $10,000 (based on the closing price of PG&E Corporation common stock on the first business day of the year); and

(2)

A combination of non-qualified stock options and common stock equivalents with a total equity value of $20,000 based on equity value increments of $5,000.

The exercise price of stock options is equal to the fair market value of PG&E Corporation common stock on the date of grant. Restricted stock and stock options vest over a five-year period following the date of grant except:

(1)

Upon a director's mandatory retirement from the Board;

(2)

Upon a director's death or disability; or

(3)

In the event of a change in control, in which cases the restricted stock and stock options will vest immediately.

The component of the NEDSIP representing stock options at December 31, 2002, 2001, and 2000, is included in the above data under SOP in accordance with APB No. 25 and SFAS No. 123, as amended by SFAS No. 148. The component of

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the NEDSIP representing expense recognized in connection with issuance of restricted stock and common stock equivalents during the years ended December 31, 2002, 2001, and 2000, was not material.

PG&E Corporation Supplemental Retirement Savings Plan (SRSP)

The SRSP provides supplemental retirement alternatives to eligible senior officers and key employees of PG&E Corporation and its subsidiaries by allowing participants to defer portions of their compensation, including salaries, amounts awarded under the PUP, and other incentive awards. The SRSP also provides a means for eligible participants to receive and invest employer contribution amounts exceeding contribution limits within the various defined contribution plans sponsored by PG&E Corporation and its subsidiaries. Under the employee-elected deferral component of the SRSP, eligible employees may defer all or part of their PUP (if eligible) and other incentive awards, and 5 to 50 percent of their monthly salary each month. Under the supplemental employer-provided retirement benefits component of the SRSP, eligible employees receive full employer matching and basic contributions in excess of limitations set out by the Internal Revenue Code as qualified under defined contribution 401(k) plans into a non-qualified account. A separate non-qualified account is maintained for each eligible employee to hold any deferred and/or employer-contributed amounts with investment options available for the employee's designation. PG&E Corporation recognizes any gain or loss from these investments and adjusts each employee account on a quarterly basis. Expense related to deferred amounts is recognized in the period in which it is earned by the employee and accrued until paid under the terms of the plan. Employer contribution expense and expenses related to gain or loss from investments of contributed and deferred amounts recognized in connection with the SRSP during the years ended December 31, 2001, and 2000, was not material. For the year ended December 31, 2002, the expense amounted to $3 million.

Executive Stock Ownership Program (ESOP)

The ESOP sets certain stock ownership targets for certain employees. The targets are set as a multiple of the employees' base salary and vary according to the employee. To the extent an employee achieves and maintains the stock ownership targets, the employee will be entitled to receive additional common stock equivalents called Special Incentive Stock Ownership Premiums (SISOPs) to be credited to his or her SRSP account. The SISOPs vest three years after the date of grant and are subject to forfeiture if the employee fails to maintain his or her respective stock ownership target. The amount of expense related to SISOPs granted including the net of appreciation and depreciation on the stock price of PG&E Corporation common stock for the years ended December 31, 2002, 2001, and 2000, was not material.

Restricted Stock Awards

In January 2003, PG&E Corporation awarded restricted shares of PG&E Corporation common stock to eligible employees of PG&E Corporation and its subsidiaries. The shares are granted with restrictions and are subject to forfeiture unless certain conditions are met. On January 2, 2003, 1.6 million shares of restricted stock were granted.

The restricted shares are issued at the grant date and are held in an escrow account. The shares become available to the employees as the restrictions lapse. In general, the restrictions lapse automatically over a period of four years at the rate of 20 percent per year, restrictions as to an additional 5 percent of the shares will lapse per year if PG&E Corporation is in the top quartile of its comparator as measured by relative annual total shareholder return for years ending immediately before each annual lapse date.

Retention Programs

PG&E Corporation implemented various retention mechanisms in 2001. These mechanisms awarded identified key personnel of

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PG&E Corporation and its subsidiaries with lump-sum cash payments and/or units of Special Senior Executive Retention Grants.

The Special Senior Executive Retention Grants provide certain employees with phantom PG&E Corporation restricted stock units that, except in the event of a change in control, or on the employees' death or disability, vest no earlier than December 31, 2003. Vesting of one half of the awards is also dependent upon meeting certain performance measures.

The number of units of phantom stock granted under these mechanisms totaled 3,044,600 units in 2001. The phantom stock units are marked-to-market based on the market price of PG&E Corporation common stock, and amortized as a charge to income over a four-year period. The expense recognized in connection with these retention mechanisms, including cash payments and phantom restricted stock units totaled $12 million for the year ended December 31, 2002, and $29 million for the year ended December 31, 2001.

NOTE 15:    INCOME TAXES

The significant parts of income tax (benefit) expense for continuing operations were:

(in millions)	PG&E Corporation									Utility
	Year Ended December 31,
	2002			2001			2000			2002			2001			2000
Current	$	478		$	967		$	(1,284	)	$	838		$	902		$	(1,224	)
Deferred		(510	)		(393	)		(780	)		351			(267	)		(891	)
Tax credits, net		(11	)		(39	)		(39	)		(11	)		(39	)		(39	)
Income tax (benefit) expense	$	(43	)	$	535		$	(2,103	)	$	1,178		$	596		$	(2,154	)

The following details net deferred income tax liabilities:

(in millions)	PG&E Corporation				Utility
	Year ended December 31,
	2002		2001		2002			2001
Deferred income tax assets:
Customer advances for construction	$	318	$	252	$	318		$	252
Unamortized investment tax credits		105		110		105			110
Reserve for damages		268		254		268			254
Environmental reserve		162		161		162			161
ISO energy purchases		–		353		–			353
Impairments		1,162		–		–			–
Other		244		336		79			217
Total deferred income tax assets	$	2,259	$	1,466	$	932		$	1,347
Deferred income tax liabilities:
Regulatory balancing accounts	$	175	$	369	$	175			369
Property related basis differences		2,220		2,085		1,778			1,665
Income tax regulatory asset		134		83		134			83
Other		517		481		325			323
Total deferred income tax liabilities		3,046		3,018		2,412			2,440
Total net deferred income taxes liabilities		787		1,552		1,480			1,093
Classification of net deferred income taxes liabilities:
Included in current liabilities		4		73		(5	)		65
Included in noncurrent liabilities		783		1,439		1,485			1,028
Total net deferred income taxes liabilities	$	787	$	1,552	$	1,480		$	1,093

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The differences between income taxes and amounts calculated by applying the federal legal rate to income before income tax expense for continuing operations were:

($ dollars in millions)		PG&E Corporation						Utility
		Year Ended December 31,
		2002		2001		2000		2002		2001		2000
Federal statutory income tax rate		35.0	%	35.0	%	35.0	%	35.0	%	35.0	%	35.0	%
Increase (decrease) in income tax rate resulting from:
	State income tax (net of federal benefit)	(45.5	)	4.7		4.5		5.4		5.0		4.3
	Effect of regulatory treatment of depreciation differences	(34.4	)	1.8		(2.0	)	1.2		1.7		(2.0	)
	Tax credits, net	83.8		(4.3	)	0.7		(0.6	)	(2.5	)	0.7
	Effect of foreign earnings at different tax rates	(15.6	)	(0.1	)	0.1		–		–		–
	Stock sale differences	–		–		(1.4	)	–		–		–
	Stock sale valuation allowance	–		–		1.5				–		–
	Other, net	20.0		(1.8	)	(0.3	)	(1.7	)	(2.3	)	0.1
Effective tax rate		43.3	%	35.3	%	38.1	%	39.3	%	36.9	%	38.1	%

At December 31, 2002, PG&E Corporation had $420 million of California net operating loss (NOL) carryforwards that will expire if not used by the end of 2012. The California Revenue and Taxation Code has suspended the use of NOL carryforwards for the tax years ending December 31, 2002, and December 31, 2003.

In 2002, PG&E Corporation established valuation allowances for state deferred tax assets associated with PG&E NEG's impairments and write-off's. A valuation allowance of $97 million was recorded in continuing operations with respect to these state deferred tax assets. In addition, a valuation allowance of $87 million was recorded in discontinued operations with respect to state deferred tax assets associated with impairments and write-offs reflected in discontinued operations. These valuation allowances were established due to the uncertainty in realizing tax benefits associated with the state deferred tax assets. PG&E Corporation could not determine that it was more likely than not that some portion or all of its state deferred tax assets would be realized.

In addition to the reserves above, PG&E NEG recorded additional valuation reserves on a stand-alone basis for federal deferred tax assets of $408 million related to continuing operations and $381 million related to discontinued operations. These reserves were eliminated in consolidation, as PG&E Corporation believes that it is more likely than not that these deferred tax benefits will be realized on a consolidated basis.

NOTE 16:    COMMITMENTS AND CONTINGENCIES

Commitments

PG&E Corporation has substantial financial commitments in connection with agreements entered into supporting the Utility's and PG&E NEG's operating, construction, and development activities. PG&E NEG's commitments are discussed in Note 3.

Utility

Natural Gas Supply and Transportation Commitments – The Utility purchases natural gas directly from producers and marketers in both Canada and the United States. The composition of the portfolio of natural gas procurement contracts has fluctuated, generally based on market conditions.

The Utility also has long-term gas transportation service agreements with various Canadian and interstate pipeline companies. These companies are responsible for transporting the Utility's gas to the California border. The total demand charges that the Utility will pay each year may change due to changes in tariff rates. These agreements include provisions for payment of

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fixed demand charges for reserving firm pipeline capacity as well as volumetric transportation charges. The total demand and volumetric transportation charges the Utility incurred under these agreements were $101 million in 2002, $239 million in 2001, and $94 million in 2000.

At December 31, 2002, the Utility's obligations for natural gas purchases and gas transportation services are as follows:

(in millions)
2003	$	595
2004		138
2005		83
2006		26
2007		10
Thereafter		–
Total	$	852

Since the Utility filed for bankruptcy and its credit rating is below investment grade, the Utility uses several different credit arrangements for the purpose of purchasing natural gas. The Utility has a $10 million standby letter of credit and pledges its gas customer accounts receivable. The core gas inventory will be pledged only if the Utility's gas customer accounts receivable are less than the amount that the Utility owes to the gas suppliers. As of December 31, 2002, the accounts receivable were sufficient. Therefore, the core gas inventory has not been pledged. The CPUC authorized the Utility to pledge its gas accounts receivable and core inventory, if necessary, until the earlier of:

•

May 1, 2003; or



•

15 days after an upgrade of the credit rating of the Utility's mortgage bonds to at least BBB- by S&P or Baa3 by Moody's; or



•

The effective date of a plan of reorganization; or



•

The dismissal or conversion of the Utility's bankruptcy proceeding.

At December 31, 2002, the pledged amount for total gas accounts receivable was $513 million.

Power Purchase Agreements

Qualifying Facilities – The Utility is required by CPUC decisions to purchase energy and capacity from independent power producers that are qualifying facilities, or QFs, under the Public Utility Regulatory Policies Act of 1978, or PURPA. Pursuant to PURPA, the CPUC required California utilities to enter into a series of long-term power purchase agreements, or PPAs, with QFs and approved the applicable terms, conditions, price options and eligibility requirements. The PPAs with QFs require the Utility to pay for energy and capacity. Energy payments are based on the QF's actual electrical output and CPUC-approved energy prices, while capacity payments are based on the QF's total available capacity and contractual capacity commitment. Capacity payments may be reduced or increased if the facility fails to meet or, alternatively, exceeds performance requirements specified in the applicable PPAs. The Utility recovers its costs incurred from these contracts through electric revenues billed to the customers. Most of the PPAs with QFs expire on various dates through 2028. The Utility's PPAs with QFs accounted for approximately 25 percent of the 2002 electricity deliveries and approximately 21 percent of the 2001 electricity deliveries. There was no single agreement that accounted for more than 5 percent of the Utility's electricity deliveries in 2002 or 2001.

As a result of the energy crisis and the Utility's bankruptcy filing, a number of QFs requested the Bankruptcy Court to either (1) terminate their contracts requiring them to sell power to the Utility, or (2) have the contracts suspended for the summer of 2001 so the QFs could sell power at market rates to the Utility. The Bankruptcy Court ordered the QFs to directly negotiate with the Utility. In July 2001, 197 QFs elected to adopt CPUC-approved amendments to their PPAs to fix their energy payments at $0.054 per kWh for five years.

In December 2001, the Bankruptcy Court approved supplemental agreements between the Utility and most QFs to resolve the applicable interest rate to be applied to pre-petition amounts owed to QFs. The supplemental

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agreements (1) set the interest rate for pre-petition payables at 5 percent, (2) provide for a "catch-up payment" of all accrued and unpaid interest through the initial payment date, and (3) depending on the amount owed, provide for either (a) payment of the principal and interest amount of the pre-petition payable, or (b) payment in 6 or 12 monthly payments beginning on the last business day of the month during which the Bankruptcy Court approval was granted. In the event the effective date of a plan of reorganization occurs before the last monthly payment is made, the remaining unpaid principal and unpaid interest shall be paid on the effective date. The total amount the Utility owed to QFs when it filed for bankruptcy protection was approximately $1 billion. The principal payments to the QFs amounted to $901 million in 2002 and the interest payments amounted to $44 million in 2002 and $16 million in 2001.

Through December 31, 2002, 264 of 313 QFs have signed assumption and/or supplemental agreements. The Utility believes it will be able to enter into similar supplemental agreements with some of the remaining QFs.

Irrigation Districts and Water Agencies – The Utility has contracts with various irrigation districts and water agencies to purchase hydroelectric power. Under these contracts, the Utility must make (1) specified semi-annual minimum payments based on the irrigation districts' and water agencies' debt service requirements, whether or not any energy is supplied (subject to the supplier's retention of the FERC's authorization), and (2) variable payments for operation and maintenance costs incurred by the suppliers. These contracts expire on various dates from 2004 to 2031. The Utility's PPAs with irrigation districts and water agencies accounted for approximately 4 percent of the 2002 electricity deliveries and accounted for approximately 3 percent of the 2001 electricity deliveries.

Bilateral Power Purchase Contracts – Despite the lack of established criteria for cost recovery from the CPUC, the Utility entered into several bilateral forward electric contracts in October 2000 to stabilize the escalating costs of purchasing power. Several of these contracts were terminated by the other parties because either the Utility filed for bankruptcy or the Utility's credit rating declined to below investment grade. As stated in the contracts, the contracts must be settled at the market value on the termination date. The estimated (pre-tax) net gain on the terminated contracts of $552 million in 2001 was used to reduce the cost of electricity in the Utility's and PG&E Corporation's Consolidated Statements of Operations.

At December 31, 2002, the Utility had outstanding two bilateral forward electric contracts, which will expire in 2003. The undiscounted future minimum energy payments due under these contracts are $196 million in 2003. Under the normal purchases and sales accounting exemption of SFAS No. 133, the Utility does not recognize the cost of the bilateral contracts until the energy is delivered. At December 31, 2002, the outstanding bilateral contracts have an estimated negative market value of $36 million. This value would be recorded as a cost of electricity in the Consolidated Statements of Operations if these contracts failed to meet the normal purchases and sales exemption. The provisions of one of the contracts allows the other party to terminate the contract without penalty at fair value while the Utility is in a Chapter 11 bankruptcy filing. The Utility expects that the physical delivery of electricity will continue through the duration of the contract period and that the contracts will continue to meet the normal purchases and sales exemptions.

Other – California Senate Bill 1078, or SB 1078, requires private utilities to increase their renewable energy supplies by 1 percent a year until these supplies are 20 percent of their generation supply portfolio, provided sufficient funds are available to cover any above-market costs of renewables. Utilities must meet the 20 percent of their generation supply portfolio no later than 2017.

In November 2002, the Utility entered into four contracts with renewable energy suppliers that would obligate the Utility and the DWR upon the occurrence of certain conditions. Subsequently,

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in February 2003, one of the contracts was terminated. The terms of these contracts with the renewable energy suppliers are for five years commencing on or after January 1, 2003. The Utility will reimburse the DWR for the cost of the contracts in the first year or until the Utility attains an investment grade credit rating, whichever comes first. The Utility has proposed to recover the costs of these contracts through its Energy Resource Recovery Account.

The amount of energy received and the total payments made under QF, irrigation district and water agency, and bilateral PPAs were as follows:

(in millions, except gigawatt-hours)	Year ended December 31,
	2002		2001		2000
Gigawatt-hours received		28,088		23,732		26,027
QF Energy payments	$	1,051	$	1,454	$	1,549
QF Capacity payments		506		473		519
Irrigation district and water agency payments		57		54		56
Bilateral payments		196		155		53

At December 31, 2002, the undiscounted future expected PPA payments are as follows:

					Irrigation District & Water Agency
	QF								Bilateral		Other
(in millions)					Operations & Maintenance		Debt Service
	Energy		Capacity						Energy		Energy		Capacity		Total
2003	$	1,150	$	530	$	38	$	28	$	196	$	14	$	28	$	1,984
2004		1,080		520		31		28		–		14		28		1,701
2005		960		490		26		26		–		14		28		1,544
2006		880		470		27		27		–		14		28		1,446
2007		830		450		28		27		–		14		28		1,377
Thereafter		5,000		2,800		524		168		–		–		–		8,492
Total	$	9,900	$	5,260	$	674	$	304	$	196	$	70	$	140	$	16,544

WAPA Sales Contract Commitments – In 1967, the Utility and the Western Area Power Administration, or WAPA, entered into a long-term power contract governing (1) the interconnection of the Utility's and WAPA's transmission systems, (2) the use of the Utility's transmission and distribution system by WAPA, and (3) the integration of the Utility's and WAPA's loads and resources. The contract gave the Utility access to surplus hydroelectric power at low prices and obligated the Utility to provide WAPA with electricity when its own resources were not sufficient to meet its requirements. The contract terminates on December 31, 2004.

As a result of California's electric industry restructuring in 1998, the Utility was required to procure the energy it needed to meet its own and WAPA's requirements from the Power Exchange. This caused the Utility to be exposed to market-based electric pricing rather than the cost of service-based electric pricing that had been presumed when the contract was executed. As a result, during the energy crisis, the Utility paid substantially more for the electricity it purchased on behalf of WAPA than it received for the sales of electricity to WAPA.

The costs going forward to procure power to fulfill the Utility's obligations to WAPA under the contract is uncertain. However, the Utility expects that the cost of meeting its obligation to WAPA may be greater than the price the Utility receives from WAPA under the contract. Under AB 1890, the Utility's retail ratepayers pay for this difference as a stranded power purchase cost. The amount of the difference between the Utility's cost to meet its obligations to WAPA and the revenues it receives from WAPA cannot be accurately estimated at this time since both the purchase price and the amount of electricity WAPA will need from the Utility through the end of the contract are uncertain. Though it is not indicative of future sales commitments or sales-

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related costs, WAPA's net amount purchased from the Utility is 3,619 GWh in 2002, 4,823 GWh in 2001, and 5,120 GWh in 2000.

Nuclear Fuel Agreements – The Utility has purchase agreements for nuclear fuel components and services for use in operating the Diablo Canyon generating facility. These agreements run from two to five years and are intended to ensure long-term fuel supply, but also permit the Utility the flexibility to take advantage of short-term supply opportunities. Deliveries under six of the eight contracts in place at the end of 2002 will end by 2005. In most cases, the Utility's nuclear fuel contracts are requirements-based and dependent on the Utility's continued operation of its Diablo Canyon generating plant.

At December 31, 2002, the undiscounted obligations under nuclear fuel agreements are as follows:

(in millions)
2003	$	59
2004		50
2005		12
2006		13
2007		14
Thereafter		65
Total	$	213

Payments for nuclear fuel amounted to $70 million in 2002, $50 million in 2001, and $78 million in 2000.

The Utility relies on large, well-established international producers for its long-term agreements in order to diversify its commitments and ensure security of supply. Pricing terms are also diversified, ranging from fixed prices to base prices that are adjusted using published information.

Operating Leases

The Utility has entered into several operating lease agreements for office space. The leases expire on various dates between 2003 and 2009.

At December 31, 2002, the approximate obligations under these operating lease agreements are as follows:

(in millions)
2003	$	9
2004		10
2005		9
2006		9
2007		9
Thereafter		9
Total	$	55

The operating expenses related to the operating lease agreements for office space amounted $13 million in 2002, $11 million in 2001, and $12 million in 2000.

Other Commitments

Capital Infusion Agreement – The Utility has entered into Capital Infusion Agreements, which obligate the Utility to make scheduled payments to an investment partnerships in return for a limited partnership interest. The CPUC has approved the Utility's investment in the non-regulated subsidiaries, which are mainly engaged in the purchase of residential real estate property. The Capital Infusion agreements are secured by the Utility's interest in the partnership and the Utility is fully responsible for its future obligations under these agreements. See discussion of unconsolidated subsidiaries in Note 1.

Under the agreements, the Utility is in default if the Utility (1) becomes insolvent or files for bankruptcy, or (2) fails to make any of its scheduled payments. While technically in default as of December 31, 2002, the Utility is current on all its payments and expects to make all future payments when they become due. The Utility believes the technical default will not result in a loss in the Utility's investment interest.

The Utility's contributions to the investment partnership amounted to $7 million in 2002, $9 million in 2001, and $4 million in 2000.

Diablo Canyon Power-Plant Turbines – The Utility has entered into a contract to retrofit its six low-pressure turbines at Diablo Canyon Unit 1 and Unit 2. These turbine retrofits will (1) improve reliability of the turbine equipment, (2) reduce maintenance costs, and (3) produce

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more electricity through improved efficiency. The installation of the turbine retrofits is expected to begin in Fall 2005. Progress payments for the turbines will begin in 2003 as certain milestones are reached. The Utility expects all costs incurred under the contract to be capitalized, and included in Property, Plant, and Equipment in the Consolidated Balance Sheets and amortized over the useful life of the asset.

Self-Generation Incentive Program – The CPUC directed the state's larger investor-owned utilities to fund load-control and self-generation initiatives at an annual cost of $138 million for four years beginning in 2001. The Utility's portion of the annual costs is $3 million for load control and $60 million for self-generation initiatives per year. Under the self-generation incentive portion, the Utility offers lump sum rebates to customers who install up to one-and-a-half megawatts of "clean" on-site distributed energy. As of December 31, 2002, the Utility has signed contracts with 54 customers. The Utility's estimated obligation under these contracts is $16 million. The Utility expects the majority of the contract obligations to be fulfilled in 2003 and payment obligations to be paid to the customers. However, customers have the option of extending the installment date by up to another 180 days due to unforeseen events (such as delays in equipment arrival, delays in permitting process, etc.), which would in turn delay the incentive payments.

The costs associated with the incentive portion of the self-generation program amounted to $7 million in 2002 with no similar costs incurred in 2001 and 2000.

The CPUC has stated that it will allow costs of this program which are not recovered during the rate freeze to be recorded in a balancing account and recovered after the rate freeze ends. The Utility receives no rate of return on its investment in these programs, and the CPUC has not addressed how these costs will be recovered. See discussion of the Utility's policy regarding balancing accounts in Note 1.

Telecommunications – The Utility has several cancelable contracts to support the Utility's local and long-distance telecommunication needs. The terms of the contracts require the Utility to give a one-year notice in order to terminate the service. Therefore, the Utility's future commitment is the annual amount, less any amount already paid.

The costs incurred under these contracts amounted to $7 million in 2002, $9 million in 2001, and $5 million in 2000.

At December 31, 2002, the future minimum payments related to other commitments as described above are as follows:

(in millions)
2003	$	51
2004		35
2005		30
2006		15
2007		2
Thereafter		2
Total	$	135

PG&E NEG

PG&E NEG, through its subsidiaries, has entered into various long-term firm commitments. PG&E NEG and its subsidiaries are negotiating with the lenders, debtholders and other counterparties in an attempt to restructure these commitments. The ability of PG&E NEG and its subsidiaries to fund these commitments depends on the terms of any restructuring plan that may be agreed to by the appropriate parties. The following table identifies by year, the aggregate amounts of these commitments:

(in millions)	2003		2004		2005		2006		2007		Thereafter		TOTAL
Fuel Supply and Transportation Agreements	$	105	$	91	$	91	$	88	$	75	$	380	$	830
Power Purchase Agreements		217		220		220		220		225		1,140		2,242
Operating Leases		70		79		79		81		84		807		1,200
Long Term Service Agreements		41		7		7		7		7		36		105
Payments in Lieu of Taxes		28		21		14		16		17		97		193
Construction Commitments		237		–		–		–		–		–		237
Tolling Agreements		62		62		62		62		62		482		792

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Fuel Supply and Transportation Agreements – PG&E NEG, through various subsidiaries, has entered into gas supply and firm transportation agreements with various pipelines and transporters to provide fuel transportation services. Under these agreements, PG&E NEG must make specified minimum payments each month.

Power Purchase Agreements – USGenNE assumed rights and duties under several power purchase contracts with third party independent power producers as part of the acquisition of the New England Electric System (NEES) assets. As of December 31, 2002, these agreements provided for an aggregate of approximately 800 MW of capacity. USGen New England is required to pay to New England Power Company amounts due to third-party producers under the power purchase contracts.

Operating Leases – Various subsidiaries of PG&E NEG have entered into several operating lease agreements for generating facilities and office space. Lease terms vary between 3 and 48 years.

In November 1998, USGenNE entered into a $479 million sale-leaseback transaction whereby the subsidiary sold and leased back a pumped storage station under an operating lease.

On May 7, 2002, Attala Generating Company LLC, an indirect subsidiary of PG&E NEG, completed a $340 million sale and leaseback transaction whereby it sold and leased back its facility to a third party special purpose entity. The related lease is being accounted for as an operating lease. See Note 7 "Impairments, Write-offs, and Other Charges".

Operating lease expense amounted to $78 million, $54 million, and $70 million in 2002, 2001, and 2000, respectively.

Long Term Service Agreements – Various subsidiaries of PG&E NEG have entered into long-term service agreements for the maintenance and repair of certain of its combustion turbine or combined-cycle generating plants. These agreements are for periods up to 18 years.

Payments in Lieu of Property Taxes – Various subsidiaries of PG&E NEG have entered into certain agreements with local governments that provide for payments in lieu of property taxes for some of its generating facilities.

Construction Commitments – Various subsidiaries of PG&E NEG currently have projects (Athens, Covert, La Paloma, and Harquahala) under construction. PG&E NEG's construction commitments are generally related to the major construction agreements including the construction and other related contracts. Certain construction contracts also contain commitments to purchase turbines and related equipment.

Tolling Agreements

PG&E ET, entered into tolling agreements with several counterparties under which it, at its discretion, supplies the fuel to the power plants and then sells the plant's output in the competitive market. Payments to counterparties are reduced if the plants do not achieve agreed-upon levels of performance. The face amount of PG&E NEG's and its subsidiaries' guarantees relating to PG&E ET's tolling agreements is approximately $600 million. The tolling agreements currently in place are with (1) Liberty Electric Power, L.P. (Liberty) guaranteed by both PG&E NEG and PG&E GTN for an aggregate amount of up to $150 million; (2) DTE-Georgetown, LLC (DTE) guaranteed by PG&E GTN for up to $24 million; (3) Calpine Energy Services, L.P. (Calpine) for which no guarantee is in place; (4) Southaven Power, LLC (Southaven) guaranteed by PG&E NEG for up to $175 million; and (5) Caledonia Generating, LLC (Caledonia) guaranteed by PG&E NEG for up to $250 million.

Liberty – Liberty has provided notice to PG&E ET that the ratings downgrade of PG&E NEG constituted a material adverse change under the tolling agreement requiring PG&E ET to replace the guarantee and to post security in the amount

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of $150 million. PG&E ET has not posted such security. Liberty has the right to terminate the agreement and seek recovery of a termination payment. Under the terms of the guarantees to Liberty for the aggregate $150 million, Liberty must first proceed against PG&E NEG's guarantee, and can demand payment under PG&E GTN's guarantee only if (1) PG&E NEG is in bankruptcy or (2) Liberty has made a payment demand on PG&E NEG which remains unpaid five business days after the payment demand is made. In addition, PG&E ET has provided notices to Liberty of several breaches of the tolling agreement by Liberty and has advised Liberty that, unless cured, these breaches would constitute a default under the agreement. If these defaults remain uncured, PG&E ET has the right to terminate the agreement and seek recovery of a termination payment.

DTE – By letter dated October 14, 2002, DTE provided notice to PG&E ET that the downgrade of PG&E GTN constituted a material adverse change under the tolling agreement between PG&E ET and DTE and that PG&E ET was required to post replacement security within ten days. By letter dated October 23, 2002, PG&E ET advised DTE that because there had not been a material adverse change with respect to PG&E GTN within the meaning of the tolling agreement, PG&E ET was not required to post replacement security. If PG&E ET was required to post replacement security and it failed to do so, DTE would have the right to terminate the tolling agreement and seek recovery of a termination payment.

Calpine – The tolling agreement states that on or before October 15, 2002, Calpine was to have issued a full notice to proceed under its construction contract to its engineering, procurement and construction contractor for the Otay Mesa facility. On October 16, 2002, PG&E ET asked Calpine to confirm that it had issued this full notice to proceed and Calpine was not able to do so to the satisfaction of PG&E ET. Consequently, PG&E ET advised Calpine by letter dated October 30, 2002 that it was terminating the tolling agreement effective November 29, 2002. Calpine has indicated that this termination was improper and constituted a default under the agreement, but has not taken any further action.

Caledonia and Southaven Tolling Agreements. – PG&E ET signed a tolling agreement with Southaven Power, LLC (Southaven) dated as of June 1, 2000, under which PG&E ET is required to provide credit support as defined in the tolling agreement. PG&E ET satisfied this obligation by providing an investment-grade guarantee from PG&E NEG as defined in the tolling agreement. The amount of the guarantee as of January 31, 2003 does not exceed $175 million. By letter dated August 31, 2002, Southaven advised PG&E ET that it believed an event of default under the tolling agreement had taken place with respect to this obligation as PG&E NEG was no longer investment-grade as defined in the tolling agreement and because PG&E ET had failed to provide, within thirty days from the downgrade substitute credit support that met the requirement of the agreement. Southaven has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Southaven with a notice of default respecting Southaven's performance under the tolling agreement concerning the inability of the facility to inject its output into the local grid. Southaven has not cured this default and on February 4, 2003, PG&E ET provided a notice of termination.

PG&E ET signed a tolling agreement with Caledonia Generating, LLC (Caledonia) dated as of September 20, 2000, under which PG&E ET is required to provide credit support as defined in the agreement. PG&E ET satisfied this obligation by providing an investment-grade guarantee from PG&E NEG as defined in the tolling agreement. The amount of the guarantee as of January 31, 2003 does not exceed $250 million. By letter dated August 31, 2002, Caledonia advised PG&E ET that it believed an event of default under the tolling agreement had taken place with respect to this obligation as PG&E NEG was no longer investment-grade as defined in the tolling agreement and because PG&E ET had failed to provide, within thirty days from the downgrade substitute credit support that met the requirement of the tolling agreement. Caledonia

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has the right to terminate the agreement and seek a termination payment. In addition, PG&E ET has provided Caledonia with a notice of default respecting Caledonia's performance under the agreement and concerning the inability of the facility to inject its output into the local grid. Caledonia has not cured this default and on February 4, 2003, PG&E ET provided a notice of termination.

On February 7, 2003, Southaven and Caledonia filed emergency petitions to compel arbitration or alternatively, a temporary restraining order and preliminary injunction with the Circuit Court for Montgomery County, Maryland. The Court has denied the relief requested and set the matter for hearing on February 27, 2003.

PG&E ET is not able to predict whether the counter parties will seek to terminate the agreements or whether the Court will grant the requested relief. Accordingly, it is not able to predict whether or the extent to which, these proceedings will have a material adverse effect on PG&E NEG's financial condition or results of operation.

Under each tolling agreement, determination of the termination payment is based on a formula that takes into account a number of factors including market conditions such as the price of power and the price of fuel. In the event of a dispute over the amount of any termination payment that the parties are unable to resolve by negotiation, the tolling agreement provides for mandatory arbitration. The dispute resolution process could take as long as six months to more than a year to complete. To the extent that PG&E ET did not pay these damages, the counterparties could seek payment under the guarantees for an aggregate amount not to exceed $600 million. PG&E NEG is unable to predict whether counterparties will seek to terminate their tolling agreements. PG&E NEG does not currently expect to be able to pay any termination payments that may become due.

Guarantees

PG&E NEG and certain subsidiaries have provided guarantees to approximately 232 counterparties in support of PG&E ET's energy trading and non-trading activities related to PG&E NEG's merchant energy portfolio in the face amount of $2.7 billion. Typically, the overall exposure under these guarantees is only a fraction of the face value of these guarantees, since not all counterparty credit limits are fully used at any time. As of December 31, 2002, PG&E NEG and its rated subsidiaries' aggregate exposure under these guarantees was approximately $176 million. The amount of such exposure varies daily depending on changes in market prices and net changes in position. In light of the downgrades, some counterparties have sought and others may seek replacement security to collateralize the exposure guaranteed by PG&E NEG and its various subsidiaries. PG&E GTN and PG&E ET have terminated the arrangements pursuant to which PG&E GTN provided guarantees on behalf of PG&E ET such that PG&E GTN will provide no new guarantees on behalf of PG&E ET.

At December 31, 2002, PG&E ET's estimated exposure not covered by a guarantee (excluding exposure under tolling agreements) is approximately $88 million.

To date, PG&E ET has met those replacement security requirements properly demanded by counterparties and has not defaulted under any of its master trading agreements although one counterparty has alleged a default. No demands have been made upon the guarantors of PG&E ET's obligations under these trading agreements. In the past, PG&E ET has been able to negotiate acceptable arrangements and reduce its overall exposure to counterparties when PG&E ET or its counterparties have faced similar situations. There can be no assurance that PG&E ET can continue to negotiate acceptable arrangements in the current circumstances. PG&E NEG cannot quantify with any certainty the actual future calls on PG&E ET's liquidity. PG&E NEG's and its subsidiaries' ability to meet these calls on their liquidity will vary with market price volatility, uncertainty with respect to PG&E NEG's financial condition and the degree of liquidity in the energy markets. The actual calls for collateral will depend largely upon counterparties' responses to the ratings downgrades,

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forbearance agreements, pre- and early-pay arrangements, the continued performance of PG&E NEG companies under the underlying agreements, whether counterparties have the right to demand such collateral, the execution of master netting agreements and offsetting transactions, changes in the amount of exposure, and the counterparties' other commercial considerations.

Other Guarantees

PG&E NEG has provided guarantees related to other obligations by PG&E NEG companies to counterparties for goods or services. PG&E NEG does not believe that it has significant exposure under these guarantees. The most significant of these guarantees relate to performance under certain construction and equipment procurement contracts. In the event PG&E NEG is unable to provide any additional or replacement security which may be required as a result of downgrades, the counterparty providing the goods or services could suspend performance or terminate the underlying agreement and seek recovery of damages. These guarantees represent guarantees of subsidiary obligations for transactions entered into in the ordinary course of business. Some of the guarantees relate to the construction or development of PG&E NEG's power plants and pipelines. These guarantees are described below.

PG&E NEG has issued guarantees for the performance of the contractors building the Harquahala and Covert power projects for up to $555 million. Any exposure under the guarantees for construction completion is mitigated by guarantees in favor of PG&E NEG from the constructor and equipment vendors related to performance, schedule and cost. The constructor and various equipment vendors are performing under their underlying contracts.

PG&E NEG has issued $100 million of guarantees to the constructor of the Harquahala and Covert projects to cover certain separate cost-sharing arrangements. Failure to perform under those separate cost-sharing arrangements or the related guarantees would not have an impact on the constructor's obligations to complete the Harquahala and Covert projects pursuant to the construction contracts. However, in the event that the construction contractor incurs certain unreimbursed project costs or cost overruns, the contractor could assert a claim against PG&E NEG's subsidiary or PG&E NEG under its guarantees. PG&E NEG believes that the construction contractor as of the date can validly assert no claim hereof.

PG&E NEG has provided a $300 million guarantee to support a tolling agreement that a wholly owned subsidiary, Attala Energy Company LLC, has entered into with another wholly owned subsidiary, Attala Generating. See discussion in Note 7 under "Impairments, Write-offs, and Other Charges".

The balance of the guarantees are for commitments undertaken by PG&E NEG or its subsidiaries in the ordinary course of business for services such as facility and equipment leases, ash disposal rights, and surety bonds.

Contingencies

PG&E Corporation

PG&E Corporation has entered into contractual obligations with healthcare providers to coordinate the payment of healthcare costs for PG&E Corporation and PG&E NEG. In the event that PG&E NEG is unable to fund future healthcare costs, PG&E Corporation could be in the position of funding these costs. PG&E NEG's annual healthcare costs in 2002 were approximately $21 million.

As further disclosed below, PG&E Corporation has guaranteed the Utility's reimbursement obligation associated with certain surety bonds and the Utility's obligation to pay workers' compensation claims.

Utility

Nuclear Insurance – The Utility has several types of nuclear insurance for its Diablo Canyon Power Plant, or DCPP, and Humboldt Bay Power Plant, or HBPP. The Utility has insurance coverage for property damages and business

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interruption losses as a member of Nuclear Electric Insurance Limited, or NEIL. NEIL is a mutual insurer owned by utilities with nuclear facilities. Under this insurance, if a nuclear generating facility insured by NEIL suffers severe losses and those losses exceed the resources of NEIL, the Utility may be responsible for additional premiums of up to $32 million to cover property damages and business interruption for DCPP and up to $1.4 million to cover property damages for HBPP.

Under federal law, the Price-Anderson Act are public liability claims from a nuclear incident limited to $9.5 billion. As required by the Act, the Utility has purchased the maximum available public liability insurance of $300 million for DCPP. The balance of the $9.5 billion of liability protection is covered by a loss-sharing program (secondary financial protection) among utilities owning nuclear reactors. Under the Act, secondary financial protection is required for all reactors of 100 MW or higher. If a nuclear incident results in costs in excess of $300 million, then the Utility may be responsible for up to $88 million per reactor with payments in each year limited to a maximum of $10 million per incident until the Utility has fully paid its share of the liability. Since the Utility has two nuclear reactors, of over 100 MW, the Utility may be assessed up to $176 million per incident with payments in year limited to a maximum of $20 million per incident. The Price-Anderson Act expired on August 1, 2002. By the terms of the act itself, the provisions of the act will remain in effect until Congress renews the act. The current draft of the bill to renew this act would increase the maximum assessment per nuclear incident per unit to $99 million from $88 million, with payments in each year limited to a maximum of $15 million per nuclear incident per unit, increased from $10 million.

Additionally, the Utility has purchased $53.3 million of private liability insurance for HBPP and has a $500 million indemnification from the Nuclear Regulatory Commission for public liability arising from nuclear incidents covering liabilities in excess of the $53.3 million of private liability insurance for HBPP.

Workers' Compensation Security – The Utility is self insured for workers' compensation. The Utility must deposit collateral with the State Department of Industrial Relations, or DIR, to maintain its status as a self-insurer for workers' compensation claims made against the Utility. Acceptable forms of collateral include surety bonds, letters of credit, cash, or securities. The Utility currently provides collateral in the form of approximately $365 million in surety bonds.

In February 2001, several surety companies provided cancellation notices because of the Utility's financial situation. The DIR has not agreed to release the canceling sureties from their obligations for claims occurring prior to the cancellation and has continued to apply the cancelled bond amounts, totaling $185 million, towards the $365 million amount of collateral. The Utility was able to supplement the difference through three additional active surety bonds totaling $180 million. At December 31, 2002, the cancelled bonds have not impacted the Utility's self-insured status under California law. PG&E Corporation has guaranteed the Utility's reimbursement obligation associated with these surety bonds and the Utility's underlying obligation to pay workers' compensation claims.

Environmental Matters – The Utility may be required to pay for environmental remediation at sites where it has been, or may be, a potentially responsible party under the Comprehensive Environmental Response Compensation and Liability Act and similar state environmental laws. These sites include former manufactured gas plant sites, power plant sites, and sites used by the Utility for the storage, recycling, or disposal of potentially hazardous materials. Under federal and California laws, the Utility may be responsible for remediation of hazardous substances even if the Utility did not deposit those substances on the site.

The Utility records an environmental remediation liability when site assessments indicate remediation is probable and a range of likely clean-up costs can be reasonably estimated. The Utility reviews its remediation liability on a quarterly basis for each site that may be exposed to remediation responsibilities. The liability is an

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estimate of costs for site investigations, remediation, operations and maintenance, monitoring, and site closure using (1) current technology, (2) enacted laws and regulations, (3) experience gained at similar sites, and (4) the probable level of involvement and financial condition of other potentially responsible parties. Unless there is a better estimate within this range of possible costs, the Utility records the lower end of this range.

The Utility had an undiscounted environmental remediation liability of $331 million at December 31, 2002, and $295 million at December 31, 2001. The $331 million accrued at December 31, 2002, includes (1) $138 million related to the pre-closing remediation liability associated with divested generation facilities, and (2) $193 million related to remediation costs for those generation facilities that the Utility still owns, manufactured gas plant sites, gas gathering sites, and compressor stations. Of the $331 million environmental remediation liability, the Utility has recovered $188 million through rates charged to its customers, and expects to recover approximately $84 million of the balance in future rates. The Utility also is recovering its costs from insurance carriers and from other third parties whenever it is possible.

The cost of the hazardous substance remediation ultimately undertaken by the Utility is difficult to estimate. A change in the estimate may occur in the near term due to uncertainty concerning the Utility's responsibility, the complexity of environmental laws and regulations, and the selection of compliance alternatives. The Utility estimates the upper limit of the range using assumptions least favorable to the Utility, which is based upon a range of reasonably possible outcomes. The Utility's future cost could increase to as much as $444 million if (1) the other potentially responsible parties are not financially able to contribute to these costs, (2) the extent of contamination or necessary remediation is greater than anticipated, or (3) the Utility is found to be responsible for clean-up costs at additional sites.

On June 28, 2001, the Bankruptcy Court authorized the Utility to continue its hazardous waste remediation program and to expend (1) up to $22 million in hazardous substance remediation programs and procedures in each calendar year in which the Chapter 11 case is pending; and (2) any additional amounts in emergency situations involving post-petition releases or threatened releases of hazardous substances subject to the Bankruptcy Court's specific approval.

The California Attorney General, on behalf of various state environmental agencies, filed claims in the Utility's bankruptcy proceeding for environmental remediation at numerous sites totaling approximately $770 million. For most if not all of these sites, the Utility is in the process of remediation in cooperation with the relevant agencies and other parties responsible for contributing to the clean-up in the normal course of business. Since the Utility's proposed plan of reorganization provides that the Utility intends to respond to these types of claims in the regular course of business, and since the Utility has not argued that the bankruptcy proceeding relieves the Utility of its obligations to respond to valid environmental remediation orders, the Utility believes the claims seeking specific cash recoveries are invalid.

PG&E NEG

PG&E NEG has substantial financial contingencies in addition to the environmental matters discussed below. See Note 3 PG&E NEG Liquidity Matters for further discussion on PG&E NEG's financial contingencies.

Environmental Matters

In May 2000, USGenNE, an indirect subsidiary of PG&E NEG, received an Information Request from the U.S. Environmental Protection Agency (EPA), pursuant to Section 114 of the Federal Clean Air Act (CAA). The Information Request asked USGenNE to provide certain information relative to the compliance of its Brayton Point and Salem Harbor plants with the CAA. No enforcement action has been brought by the EPA to date. USGenNE has had preliminary discussions with the EPA to explore a potential settlement of this matter. Management believes

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that it is not possible to predict, at this point, whether any such settlement will occur or, in the absence of a settlement, the likelihood of whether the EPA will bring an enforcement action.

As a result of the EPA Information Request and environmental regulatory initiatives by the Commonwealth of Massachusetts, USGenNE is exploring ways to achieve significant reductions of sulfur dioxide and nitrogen oxide emissions. Additional requirements for the control of mercury and carbon dioxide emissions also will be forthcoming as part of these regulatory initiatives. Management believes that USGenNE would meet these requirements through installation of controls at the Brayton Point and Salem Harbor plants and estimates that capital expenditures on these environmental projects could approximate $348 million over the next four years. To date, PG&E NEG has incurred expenditures related to these projects of $[157] million. These estimates are currently under review and it is possible that actual expenditures may be higher. Based on an emission control plan filed for Brayton Point under the regulations implementing these initiatives, the Massachusetts Department of Environmental Protection (DEP) ruled that Brayton Point is required to meet the newer, more stringent emission limitations for sulfur dioxide and nitrogen oxide by 2006. The DEP has ruled that Salem Harbor must satisfy these limitations by 2004. Although it is USGenNE's current intention to appeal DEP's ruling that Salem Harbor must comply with the new regulations by 2004, in the absence of a successful appeal of the DEP's ruling, the compliance date for Salem Harbor remains October 2004. USGenNE will not be able to operate Salem Harbor unless it is in compliance with these emission limitations. PG&E NEG believes that it is impossible to meet the October 2004 deadline. Therefore, it may not be able to operate the facility after that deadline.

Various aspects of DEP's regulations allow for public participation in the process through which DEP determines whether the 2004 or 2006 deadline applies and approves the specific activities that USGenNE will undertake to meet the new regulations. A local environmental group has made various filings with DEP requesting such participation.

The EPA is required under the CAA to establish new regulations for controlling hazardous air pollutants from combustion turbines and reciprocating internal combustion engines. Although the EPA has yet to propose the regulations, the CAA required that they be promulgated by November 2000. Another provision in the CAA requires companies to submit case-by-case Maximum Achievable Control Technology (MACT) determinations for individual plants if the EPA fails to finalize regulations within eighteen months past the deadline. On April 5, 2002, the EPA promulgated a regulation that extends this deadline for the case-by-case permits until May 2004. The EPA intends to finalize the MACT regulations before this date, thus eliminating the need for the plant-specific permits. PG&E NEG will not be able to accurately quantify the economic impact of the future regulations until more details are available through the rulemaking process.

PG&E NEG's existing power plants are subject to federal and state water quality standards with respect to discharge constituents and thermal effluents. Three of the fossil-fueled plants owned and operated by USGenNE (Salem Harbor, Manchester Street, and Brayton Point) are operating pursuant to National Pollutant Discharge Elimination System (NPDES) permits that have expired. For the facilities whose NPDES permits have expired, permit renewal applications are pending, and all three facilities are continuing to operate under existing terms and conditions until new permits are issued. On July 22, 2002, the EPA and DEP issued a draft NPDES permit for Brayton Point that, among other things, substantially limits the discharge of heat by Brayton Point into Mount Hope Bay. Based on its initial review of the draft permit, USGenNE believes that the draft permit is excessively stringent. It is estimated that USGenNE's cost to comply with the new permit conditions could be as much as $248 million through 2006, but this is a preliminary estimate. There are various administrative and judicial proceedings that must be completed before the draft NPDES permit for Brayton Point becomes

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final and these proceedings are not expected to be completed during 2003. In addition, it is possible that the new permits for Salem Harbor and Manchester Street may also contain more stringent limitations than prior permits and that the cost to comply with the new permit conditions could be greater than the current estimate of $4 million. In addition, the issuance of any final NPDES permits may be affected by the EPA's proposed regulations under Section 316(b) of the Clean Water Act.

On March 27, 2002, the Rhode Island Attorney General notified USGenNE of their belief that Brayton Point "is in violation of applicable statutory and regulatory provisions governing its operations...", including "protections accorded by common law" respecting discharges from the facility into Mount Hope Bay. He stated that he intends to seek judicial relief "to abate these environmental law violations and to recover damages..." within the next 30 days. The notice purportedly was provided pursuant to section 7A of chapter 214 of Massachusetts General Laws. PG&E NEG believes that Brayton Point is in full compliance with all applicable permits, laws, and regulations. The complaint has not yet been filed or served. In early May 2002, the Rhode Island Attorney General stated that he did not plan to file the action until the EPA issues a draft Clean Water Act NPDES permit for Brayton Point. The EPA issued this draft permit on July 22, 2002, and the Rhode Island Attorney General has since stated he has no intention of pursuing this matter until he reviews USGenNE's response to the draft permit which was submitted on October 4, 2002. Management is unable to predict whether he will pursue this matter and, if he does, the extent to which it will have a material adverse effect on PG&E NEG's financial condition or results of operation.

On April 9, 2002, the EPA proposed regulations under Section 316(b) of the Clean Water Act for cooling water intake structures. The regulations would affect existing power generation facilities using over 50 million gallons per day, typically including some form of "once-through" cooling. Brayton Point, Salem Harbor, and Manchester Street are among an estimated 539 plants nationwide that would be affected by this rulemaking. The proposed rule calls for a set of performance standards that vary with the type of water body and that are intended to reduce impacts to aquatic organisms. The final regulations are scheduled to be promulgated in February 2004. The extent to which they may require additional capital investment will depend on the timing of the NPDES permit proceedings for the affected facilities. It is possible that the regulations may allow greater flexibility in achieving specified permit limits and thereby reduce the cost of compliance.

During April 2000, an environmental group served USGenNE and other PG&E NEG's subsidiaries with a notice of its intent to file a citizen's suit under the Resource Conservation Recovery Act. In September 2000, PG&E NEG signed a series of agreements with DEP and the environmental group to resolve these matters that require PG&E NEG to alter its existing wastewater treatment facilities at its Brayton Point and Salem Harbor generating facilities.

PG&E NEG began the activities during 2000, and is expected to complete them in 2003. PG&E NEG incurred expenditures related to these agreements of $5.4 million in 2000, $2.6 million in 2001, and $4.7 million in 2002. In addition to the costs previously incurred, PG&E NEG maintains a reserve in the amount of $6 million relating to its estimate of the remaining environmental expenditures to fulfill its obligations under these agreements. PG&E NEG has deferred costs associated with capital expenditures and has set up a receivable for amounts it believes are probable of recovery from insurance proceeds.

PG&E NEG believes that it may be required to spend up to approximately $608 million, excluding insurance proceeds, through 2008 for environmental compliance to continue operating these facilities. This amount may change, however, and the timing of any necessary capital expenditures could be accelerated in the event of a change in environmental regulations or the commencement of any enforcement proceeding against PG&E NEG. PG&E NEG has not made any commitments to spend these amounts. In the event PG&E NEG does not spend required

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amounts as of each facility's compliance deadline to maintain environmental compliance, PG&E NEG may not be able to continue to operate one or all of these facilities.

Global climate change is a significant environmental issue that is likely to require sustained global action and investment over many decades. PG&E Corporation has been engaged on the climate change issue for several years and is working with others on developing appropriate public policy responses to this challenge. PG&E Corporation continuously assesses the financial and operational implications of this issue; however, the outcome and timing of these initiatives are uncertain.

There are six greenhouse gases. The Utility and PG&E NEG emit varying quantities of these greenhouse gases, including carbon dioxide and methane, in the course of their operations. Depending on the ultimate regulatory regime put into place for greenhouse gases, PG&E Corporation's operations, cash flows and financial condition could be adversely affected. Given the uncertainty of the regulatory regime, it is not possible to predict the extent to which climate change regulation will have a material adverse effect on the Utility's or PG&E NEG's financial condition or result of operations.

PG&E NEG and the Utility are taking numerous steps to manage the potential risks associated with the eventaul regulation of greenhouse gases, including but not limited to preparing inventories of greenhouse gas emissions, voluntarily reporting on these emissions through a variety of state and federal programs, engaging in demand side management programs that prevent greenhouse gas emissions, and supporting market-based solutions to the climate change challenge.

Legal Matters

In the normal course of business, PG&E Corporation, the Utility, and PG&E NEG are named as parties in a number of claims and lawsuits. The most significant of these are discussed below. The Utility's Chapter 11 bankruptcy filing on April 6, 2001, discussed in Note 2 of the Notes to the Consolidated Financial Statements, automatically stayed the litigation described below against the Utility, except as otherwise noted.

Chromium Litigation

There are 15 civil suits pending against the Utility in several California state courts. One of these suits also names PG&E Corporation as a defendant. One additional civil suit, Kearney v. Pacific Gas and Electric Company, was filed against the Utility and PG&E Corporation after the Utility's bankruptcy filing and was dismissed without prejudice while the plaintiffs sought the right to file and pursue late claims in the Bankruptcy Court. In the Kearney case, the Bankruptcy Court ruled that the six adult plaintiffs could not file untimely bankruptcy claims against the Utility. The court also ruled that the 24 minor plaintiffs could file untimely bankruptcy claims against the Utility. The suits allege personal injuries, wrongful death, and loss of consortium and seek compensatory and punitive damages based on claims arising from alleged exposure to chromium in the vicinity of the Utility's gas compressor stations at Hinkley and Kettleman, California, and the area of California near Topock, Arizona. Currently, there are approximately 1,200 plaintiffs in the chromium litigation cases.

The Utility is responding to the suits in which it has been served and is asserting affirmative defenses. The Utility will pursue appropriate legal defenses, including statute of limitations, exclusivity of workers' compensation laws, and factual defenses, including lack of exposure to chromium and the inability of chromium to cause certain of the illnesses alleged.

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In the case of Adams v. Pacific Gas and Electric Company and Betz Chemical Company, after a hearing on July 17, 2002, the state court dismissed 35 plaintiffs with prejudice because their claims are barred by the statute of limitations. The state court dismissed another 65 plaintiffs without prejudice, so these plaintiffs may attempt to prove that their claims are not barred by the statute of limitations. Thirty of these plaintiffs filed a Fourth Amended Complaint on October 16, 2002. The other 35 plaintiffs who were given leave to amend have been dismissed with prejudice for failure to amend.

Approximately 1,260 individuals have filed proofs of claims with the Bankruptcy Court (most are plaintiffs in the 15 cases) alleging that exposure to chromium in soil, air, or water at or near the Utility's compressor stations at Hinkley and Kettleman, California, and the area of California near Topock, Arizona, caused personal injuries, wrongful death, or related damages. Approximately 1,035 of these claimants have filed proofs of claim requesting an approximate aggregate amount of $580 million and approximately another 225 claimants have filed claims for an "unknown amount." On November 14, 2001, the Utility filed objections to these claims and requested the Bankruptcy Court to transfer the chromium claims to the federal District Court. On January 8, 2002, the Bankruptcy Court denied the Utility's request to transfer the chromium claims and granted certain claimants' motion for relief from stay so that the state court lawsuits pending before the Utility filed its bankruptcy petition can proceed. Orders granting relief from stay have been entered.

The Utility has recorded a reserve in its financial statements in the amount of $160 million for these matters. PG&E Corporation and the Utility believe that, after taking into account the reserves recorded at December 31, 2002, the ultimate outcome of this matter will not have a material adverse impact on PG&E Corporation's or the Utility's financial condition or future results of operations.

Natural Gas Royalties Litigation

This litigation involves the consolidation of approximately 77 False Claims Act cases filed in various federal district courts by Jack J. Grynberg (called a relator in the parlance of the False Claims Act) on behalf of the United States of America, against more than 330 defendants, including the Utility and PG&E GTN. The cases were consolidated for pretrial purposes in the District of Wyoming. The current case grows out of prior litigation brought by the same relator in 1995 that was dismissed in 1998.

Under procedures established by the False Claims Act, the United States, acting through the Department of Justice (DOJ), is given an opportunity to investigate the allegations and to intervene in the case and take over its prosecution if it chooses to do so. In April 1999, the U.S. DOJ declined to intervene in any of the cases.

The complaints allege that the various defendants (most of which are pipeline companies or their affiliates) incorrectly measured the volume and heat content of natural gas produced from federal or Indian leases. As a result, it is alleged that the defendants underpaid, or caused others to underpay, the royalties that were due to the United States for the production of natural gas from those leases. The complaints do not seek a specific dollar amount or quantify the royalties claim. The complaints seek unspecified treble damages, civil penalties, and expenses associated with the litigation.

The relator has filed a claim in the Utility's bankruptcy case for $2.5 billion, $2 billion of which is based upon the plaintiff's calculation of penalties sought against the Utility.

PG&E Corporation and the Utility believe the allegations to be without merit and intend to present a vigorous defense. PG&E Corporation and the Utility believe that the ultimate outcome of the litigation will not have a material adverse effect on their financial condition or results of operations.

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Federal Securities Lawsuit

On April 16, 2001, a complaint was filed against PG&E Corporation and the Utility in the U.S. District Court for the Central District of California. The Utility was subsequently dismissed, due to its Chapter 11 bankruptcy filing. By order entered on or about May 31, 2001, the case was transferred to the U.S. District Court for the Northern District of California. On August 9, 2001, plaintiff filed a first amended complaint in the U.S. District Court for the Northern District of California. An executive officer of PG&E Corporation also has been named as a defendant. The first amended complaint, purportedly brought on behalf of all persons who purchased PG&E Corporation common stock or certain shares of the Utility's preferred stock between July 20, 2000, and April 9, 2001, claimed that the defendants caused PG&E Corporation's Consolidated Financial Statements for the second and third quarters of 2000 to be materially misleading in violation of federal securities laws as a result of recording as a deferred cost and capitalizing as a regulatory asset the under-collections that resulted when escalating wholesale energy prices caused the Utility to pay far more to purchase electricity than it was permitted to collect from customers. On January 14, 2002, the District Court granted the defendants' motion to dismiss the plaintiffs' first amended complaint, finding that the complaint failed to state a claim in light of the public disclosures by PG&E Corporation, the Utility, and others regarding the under-collections, the risk that they might not be recoverable, the financial consequences of non-recovery, and other information from which analysts and investors could assess for themselves the probability of recovery.

On February 4, 2002, the plaintiffs filed a second amended complaint that, in addition to containing many of the same allegations as were in the first amended complaint, contains many of the same allegations that appear in the California Attorney General's complaint discussed below. The plaintiffs sought an unspecified amount of compensatory damages, plus costs and attorneys' fees. On March 11, 2002, the defendants filed a motion to dismiss the second amended complaint. After a hearing held on June 24, 2002, the District Court issued an order on June 25, 2002, granting the defendant's motion to dismiss the second amended complaint. The dismissal is with prejudice, prohibiting the plaintiffs from filing a further complaint. On November 15, 2002, the plaintiffs filed an appeal in the United States Court of Appeals for the Ninth Circuit, advancing substantially the same arguments that the District Court had rejected previously. Defendants filed their answer to the appeal on January 2, 2003.

PG&E Corporation believes the allegations to be without merit and intends to present a vigorous defense. PG&E Corporation believes that the ultimate outcome of the litigation will not have a material adverse effect on its financial condition or results of operations.

Order Instituting Investigation (OII) into Holding Company Activities and Related Litigation

On April 3, 2001, the CPUC issued an OII into whether the California IOUs, including the Utility, have complied with past CPUC decisions, rules, or orders authorizing their holding company formations and/or governing affiliate transactions, as well as applicable statutes. The order states that the CPUC will investigate (1) the utilities' transfer of money to their holding companies since deregulation of the electric industry commenced, including during times when their utility subsidiaries were experiencing financial difficulties, (2) the failure of the holding companies to financially assist the utilities when needed, (3) the transfer by the holding companies of assets to unregulated subsidiaries, and (4) the holding companies' action to "ringfence" their unregulated subsidiaries. The CPUC also will determine whether additional rules, conditions, or changes are needed to adequately protect ratepayers and the public from dangers of abuse stemming from the holding company structure. The CPUC will investigate whether it should modify, change, or add conditions to the holding company decisions, make further changes to the holding company structure, alter the standards under which the CPUC determines whether to

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authorize the formation of holding companies, otherwise modify the decisions, or recommend statutory changes to the California Legislature. As a result of the investigation, the CPUC may impose remedies, prospective rules, or conditions, as appropriate.

On January 9, 2002, the CPUC issued an interim decision and order interpreting the "first priority condition" adopted in the CPUC's holding company decision. This condition requires that the capital requirements of the Utility, as determined to be necessary and prudent to meet the Utility's obligation to serve or to operate the Utility in a prudent and efficient manner, be given first priority by the board of directors of the holding company. In the interim order, the CPUC stated, "the first priority condition does not preclude the requirement that the holding company infuse all types of capital into their respective utility subsidiaries where necessary to fulfill the Utility's obligation to serve." The three major California investor-owned energy utilities and their parent holding companies had opposed the broader interpretation, first contained in a proposed decision released for comment on December 26, 2001, as being inconsistent with the prior 15 years' understanding of that condition as applying more narrowly to a priority on capital needed for investment purposes. The CPUC also interpreted the first priority condition as prohibiting a holding company from (1) acquiring assets of its utility subsidiary for inadequate consideration, and (2) acquiring assets of its utility subsidiary at any price, if such acquisition would impair the utility's ability to fulfill its obligation to serve or to operate in a prudent and efficient manner. The utilities' applications for rehearing were denied on July 17, 2002.

In a related decision, the CPUC denied the motions filed by the California utility holding companies to dismiss the holding companies from the pending investigation on the basis that the CPUC lacks jurisdiction over the holding companies. However, in the interim decision interpreting the first priority condition discussed above, the CPUC separately dismissed PG&E Corporation (but no other utility holding company) as a respondent to the proceeding. In its written decision adopted on January 9, 2002, the CPUC stated that PG&E Corporation was being dismissed so that an appropriate legal forum could decide expeditiously whether adoption of the Utility's proposed Plan of Reorganization would violate the first priority condition. The utilities' applications for rehearing were denied on July 17, 2002.

The holding companies have filed petitions for review of both the CPUC's capital requirements and jurisdiction decisions in several state appellate courts, and the utilities also have filed petitions for review of the capital requirements decision with the California appellate courts. The CPUC moved to consolidate all proceedings in the San Francisco state appellate court and requested that the court extend the deadline by which the CPUC must file its responses to the petitions for review until after the consolidation occurred. The CPUC's request for consolidation was granted and all of the petitions are now before the First Appellate District in San Francisco, California.

On January 10, 2002, the California Attorney General filed a complaint in the San Francisco Superior Court against PG&E Corporation and its directors, as well as against directors of the Utility, alleging that PG&E Corporation violated various conditions established by the CPUC in decisions approving the holding company formation, among other allegations. The Attorney General also alleged that the December 2000 and January and February 2001 ringfencing transactions by which PG&E Corporation subsidiaries complied with credit rating agency criteria to establish independent credit ratings violated the holding company conditions.

Among other allegations, the Attorney General alleged that, through the Utility's bankruptcy proceedings, PG&E Corporation and the Utility engaged in unlawful, unfair, and fraudulent business practices in alleged violation of California Business and Professions Code Section 17200 by seeking to implement the transactions contemplated in the proposed Plan of Reorganization filed in the Utility's bankruptcy proceeding. The complaint also seeks restitution of assets allegedly wrongfully transferred to

172

PG&E Corporation from the Utility. On February 8, 2002, PG&E Corporation filed a notice of removal in the Bankruptcy Court to transfer the Attorney General's complaint to the Bankruptcy Court. On February 15, 2002, PG&E Corporation filed a motion to dismiss the lawsuit, or in the alternative, to stay the suit with the Bankruptcy Court. Subsequently, the Attorney General filed a motion to remand the action to state court. In June 2002, the Bankruptcy Court held that federal law preempted the Attorney General's allegations concerning PG&E Corporation's participation in the Utility's bankruptcy proceedings. The Bankruptcy Court directed the Attorney General to file an amended complaint omitting these allegations and remanded the amended complaint to the San Francisco Superior Court. Both parties have appealed the Bankruptcy Court's remand order. The appeal and cross-appeal are pending in the U.S. District Court for the Northern District of California.

On August 9, 2002, the Attorney General filed its amended complaint in the San Francisco Superior Court, omitting the allegations concerning PG&E Corporation's participation in the Utility's bankruptcy proceedings. PG&E Corporation and the directors named in the complaint have filed a motion to strike certain allegations of the amended complaint. Those motions are pending.

On February 11, 2002, a complaint entitled City and County of San Francisco; People of the State of California v. PG&E Corporation, and Does 1-150, was filed in San Francisco Superior Court. The complaint contains some of the same allegations contained in the Attorney General's complaint, including allegations of unfair competition. In addition, the complaint alleges causes of action for conversion, claiming that PG&E Corporation "took at least $5.2 billion from the Utility," and for unjust enrichment. The City seeks injunctive relief, the appointment of a receiver, payment to ratepayers, disgorgement, the imposition of a constructive trust, civil penalties, and costs of suit.

After removing the city's action to the Bankruptcy Court on February 8, 2002, PG&E Corporation filed a motion to dismiss the complaint. Subsequently, the City filed a motion to remand the action to state court. In June 2002, the Bankruptcy Court issued an Amended Order on Motion to Remand stating that the Bankruptcy Court retained jurisdiction over the causes of action for conversion and unjust enrichment, finding that these claims belong solely to the Utility and cannot be asserted by the City and County, but remanding the Section 17200 cause of action to state court. Both parties have appealed the Bankruptcy Court's remand order. The appeal and cross-appeal are pending in the U.S. District Court for the Northern District of California.

Following remand, PG&E Corporation brought a motion to strike. This motion is pending. PG&E Corporation also moved to coordinate this case with the Section 17200 case brought by Cynthia Behr, which is discussed below. That motion was granted.

In addition, a third case, entitled Cynthia Behr v. PG&E Corporation, et al., was filed on February 14, 2002 by a private plaintiff (who also has filed a claim in bankruptcy) in Santa Clara Superior Court also alleging a violation of California Business and Professions Code Section 17200. The Behr complaint also names the directors of PG&E Corporation and the Utility as defendants. The allegations of the complaint are similar to the allegations contained in the Attorney General's complaint but also include allegations of fraudulent transfer and violation of the California bulk sales laws. Plaintiff requests the same remedies as the Attorney General's case and in addition requests damages, attachment, and restraints upon the transfer of defendants' property. On March 8, 2002, PG&E Corporation filed a notice of removal in the Bankruptcy Court to transfer the complaint to the Bankruptcy Court. Subsequently, the plaintiff filed a motion to remand the action to state court. In its June 2002 ruling mentioned above as to the Attorney General's and the City's cases, the Bankruptcy Court retained jurisdiction over Behr's fraudulent transfer claim and bulk sales claim, finding them to belong to the Utility's estate. The Bankruptcy Court remanded Behr's Section 17200 claim to the Santa Clara Superior

173

Court. Both parties have appealed the Bankruptcy Court's remand order. The appeal and cross-appeal are pending in the U.S. District Court for the Northern District of California.

Following remand, PG&E Corporation moved to have the Behr case coordinated with the City's case described above. That motion was granted, and the Behr case will now proceed in San Francisco Superior Court.

PG&E Corporation and the Utility believe that they have complied with applicable statutes, CPUC decisions, rules, and orders. Neither the Utility nor PG&E Corporation, however, can predict what the outcome of the CPUC's investigation will be or whether the outcome will have a material adverse effect on their results of operations or financial condition. PG&E Corporation believes that the allegations of the complaints are without merit and will vigorously respond to and defend the litigation. PG&E Corporation cannot predict whether the outcome of the litigation will have a material adverse effect on its results of operations or financial condition.

William Ahern, et al. v. Pacific Gas and Electric Company

On February 27, 2002, a group of 25 ratepayers filed a complaint against the Utility at the CPUC demanding an immediate reduction of approximately $0.035 kWh in allegedly excessive electric rates and a refund of alleged recent over-collections in electric revenue since June 1, 2001. The complaint claims that electric rate surcharges adopted in the first quarter of 2001 due to the high cost of wholesale power (surcharges that increased the average electric rate by $0.04 per kWh) became excessive later in 2001. (In January 2001, the CPUC authorized a $0.01 per kWh increase to pay for energy procurement costs. In March 2001, the CPUC authorized an additional $0.03 per kWh electric rate increase as of March 27, 2001, to pay for energy procurement costs, which the Utility began to collect in June 2001.) The only alleged over-collection amount calculated in the complaint is approximately $400 million during the last quarter of 2001. On April 2, 2002, the Utility filed an answer, arguing that the complaint should be denied and dismissed immediately as an impermissible collateral action and on the basis that the alleged facts, even if assumed to be true, do not establish that currently authorized electric rates are not reasonable. On May 10, 2002, the Utility filed a motion to dismiss the complaint. The CPUC has not yet issued a decision. PG&E Corporation and the Utility believe that the ultimate outcome of this matter will not have a material adverse effect on their financial condition or results of operations.

Recorded Liability for Legal Matters

In accordance with SFAS No. 5, "Accounting for Contingencies," PG&E Corporation makes a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed quarterly and adjusted to reflect the impacts of negotiations, settlements and payments, rulings, advice of legal counsel, and other information and events pertaining to a particular case. In 2001, the Utility increased its provision for legal matters due to a significant case that had a potential material financial impact on the Utility. In 2002, the Utility adjusted its provision again due to the settlement of that case without any damages awarded to the other parties.

The provision for legal matters is included in PG&E Corporation's and the Utility's other noncurrent liabilities in the Consolidated Balance Sheets. The following table reflects the current year's activity to the recorded liability for legal matters for the Utility:

(in millions)	2002			2001
Beginning balance, January 1,	$	209		$	185
Provision for liabilities		27			7
Payments		(5	)		(2	)
Adjustments		(29	)		19
Ending balance, December 31,	$	202		$	209

NOTE 17:    SEGMENT INFORMATION

PG&E Corporation has identified three reportable operating segments based on similarities in the following characteristics:

•

Economic characteristics;



•

Products and services;

174

•

Types of customers;



•

Methods of distribution;



•

Regulatory environment; and



•

How information is reported to and used by PG&E Corporation's chief operating decision maker.

The Utility is one reportable operating segment and the other two are part of PG&E NEG. These three reportable operating segments provide products and services and are subject to different forms of regulation or jurisdictions. PG&E Corporation's reportable segments are described below:

Utility – provides natural gas and electric service in Northern and Central California.

PG&E NEG's Integrated Energy & Marketing Activities – engages in the generation, transport, marketing and trading of electricity, various fuels and other energy-related commodities throughout North America.

PG&E NEG's Interstate Pipeline Operations – owns, operates and develops interstate natural gas transmission pipeline facilities which runs from Canada/United States border to the California/Oregon border.

In December 2002, the Board of PG&E Corporation approved the sale of USGenNE and Mountain View. The sale transaction for Mountain View was closed on January 31, 2003. Both entities have been accounted for as assets held for sale at December 31, 2002, and the operating results are being reported as discontinued operations.

During 2000, PG&E NEG disposed of PG&E ES and PG&E GTT through a sale.

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Segment information for the years 2002, 2001, and 2000, is as follows:

				PG&E National Energy Group (1)
(in millions)	Utility			Total PG&E NEG			Integrated Energy & Marketing Activities			Interstate Pipeline Operations			PG&E NEG Elimi- nations			PG&E Corporation, Eliminations and Other (2)			Total
2002
Operating revenues (3)	$	10,505		$	1,990		$	1,817		$	206		$	(33	)	$	–		$	12,495
Intersegment revenues (4)		9			85			38			47			–			(94	)		–
Total operating revenues		10,514			2,075			1,855			253			(33	)		(94	)		12,495
Depreciation, amortization, and decommissioning		1,193			116			70			46			–			–			1,309
Interest income		74			18			17			4			(3	)		40			132
Interest expense		(988	)		(202	)		(136	)		(35	)		(31	)		(264	)		(1,454	)
Income tax provision (benefit) (5)		1,178			(656	)		(1,186	)		44			486			(565	)		(43	)
Income (loss) from continuing operations		1,794			(2,225	)		(1,722	)		79			(582	)		374			(57	)
Net income (loss)		1,794			(3,423	)		(2,417	)		79			(1,085	)		755			(874	)
Capital expenditures		1,546			1,485			1,294			191			–			1			3,032
Total assets at year-end (6)		24,551			7,945			7,550			1,341			(946	)		1,200			33,696
2001 (7)
Operating revenues (2)		10,450			1,760			1,560			206			(6	)		–			12,210
Intersegment revenues (4)		12			160			120			40			–			(172	)		–
Total operating revenues		10,462			1,920			1,680			246			(6	)		(172	)		12,210
Depreciation, amortization, and decommissioning		896			101			54			42			5			5			1,002
Interest income		123			40			25			7			8			4			167
Interest expense		(974	)		(134	)		(71	)		(37	)		(26	)		(101	)		(1,209	)
Income tax provision (benefit) (5)		596			(16	)		(47	)		34			(3	)		(45	)		535
Income (loss) from continuing operations		990			67			(5	)		76			(4	)		(74	)		983
Net income (loss)		990			183			111			76			(4	)		(74	)		1,099
Capital expenditures		1,343			1,426			1,324			102			–			4			2,773
Total assets at year-end (6)		25,269			10,298			8,891			1,251			156			396			35,963
2000 (7)
Operating revenues (2)		9,623			2,945			1,873			1,066			6			–			12,568
Intersegment revenues (4)		14			182			136			46			–			(196	)		–
Total operating revenues		9,637			3,127			2,009			1,112			6			(196	)		12,568
Depreciation, amortization, and decommissioning		3,511			79			38			41			–			5			3,595
Interest income		186			28			26			(3	)		5			–			214
Interest expense (8)		(619	)		(155	)		(64	)		(90	)		(1	)		(14	)		(788	)
Income tax provision (benefit) (5)		(2,154	)		55			22			37			(4	)		(4	)		(2,103	)
Income (loss) from continuing operations		(3,508	)		93			5			78			10			(8	)		(3,423	)
Net income (loss)		(3,508	)		152			104			78			(30	)		(8	)		(3,364	)
Capital expenditures (9)		1,245			1,089			1,074			15			–			–			2,334
Total assets at year-end (6) (9)		21,988			13,967			12,419			1,204			344			197			36,152

⁽¹⁾

Income from equity method investees for Integrated Energy & Marketing were $48 million in 2002, $79 million in 2001, and $65 million in 2000.

⁽²⁾

Includes PG&E Corporation, PG&E Ventures LLC, and elimination entries.

⁽³⁾

Operating revenues and expenses reflect the adoption during 2002 of a new accounting policy implementing a change from gross to net method of reporting revenues and expenses on trading activities. Prior year amounts for trading activities have been reclassified to conform with the new net presentation.

⁽⁴⁾

Intersegment revenues are recorded at market prices, but the Utility uses rate set by the CPUC and PG&E NEG's Interstate Pipeline Operations uses rate set by the FERC.

⁽⁵⁾

Income tax expense for the Utility was computed on a stand-alone basis. The balance of the consolidated income tax provision was allocated among PG&E Corporation and PG&E NEG.

⁽⁶⁾

PG&E Corporation assets exclude its investments in subsidiaries.

⁽⁷⁾

Prior periods amounts have been restated to reflect the reclassification of USGenNE, Mountain View, and ET Canada operating results to discontinued operations.

⁽⁸⁾

PG&E Corporation allocated its interest expense to subsidiaries in 2000.

⁽⁹⁾

"PG&E Corporation Eliminations and Other" column includes capital spending of zero million in 2000 and total assets of $1 million at December 31, 2000, for the discontinued operations of PG&E ES.

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QUARTERLY CONSOLIDATED FINANCIAL DATA (UNAUDITED)

Quarter ended		(in millions, except per share amounts)
		December 31			September 30		June 30		March 31
2002
PG&E CORPORATION
Operating revenues (1)		$	2,968		$	3,654	$	2,938	$	2,935
Operating income (loss) (2)(3)			(1,949	)		998		782		1,301
Income (loss) from continuing operations (2)(3)			(1,417	)		459		278		623
Net income (loss) (2)			(2,189	)		466		218		631
Earnings (Loss) per common share from continuing operations, basic			(3.72	)		1.23		0.76		1.71
Earnings (Loss) per common share from continuing operations, diluted			(3.72	)		1.17		0.75		1.69
Common stock price per share
	High		14.18			17.75		23.75		23.66
	Low		8.17			8.00		16.35		18.86
UTILITY
Operating revenues		$	2,398		$	2,949	$	2,714	$	2,453
Operating income			547			1,059		1,059		1,248
Net income			227			527		469		596
Income available for common stock			221			520		463		590
2001
PG&E CORPORATION
Operating revenues (1)		$	3,017		$	3,489	$	2,752	$	2,952
Operating income (loss) (2)(3)			1,051			1,527		1,404		(1,391	)
Income (Loss) from continuing operations (2)(3)			506			747		718		(988	)
Net income (loss) (2)			529			771		750		(951	)
Earnings (Loss) per common share from continuing operations, basic			1.39			2.06		1.98		(2.72	)
Earnings (Loss) per common share from continuing operations, diluted			1.38			2.05		1.98		(2.72	)
Common stock price per share
	High		20.10			17.45		12.54		20.94
	Low		14.96			11.66		6.50		8.38
UTILITY
Operating revenues		$	2,654		$	2,937	$	2,309	$	2,562
Operating income (loss)			1,134			1,428		1,336		(1,420	)
Net income (loss)			563			744		702		(994	)
Income (Loss) available for (allocated to) common stock			557			737		696		(1,000	)

⁽¹⁾

Operating revenues and operating expenses reflect the adoption during the third quarter of 2002 of a new accounting policy implementing a change from gross to net method of reporting revenues and expenses on trading activities. All prior period amounts for trading activities have been reclassified to conform to the new net presentation.

⁽²⁾

In December 2002, the Board of Directors of PG&E Corporation approved the sale of USGenNE, Mountain View, and ET Canada. These entities have been accounted for as assets held for sale at December 31, 2002. The operating results have been excluded from continuing operations and reported as discontinued operations for all periods presented. A loss on

177

disposal of USGenNE and ET Canada of $767 million, net of income taxes of $381 million, was recorded for the quarter ended December 31, 2002. The earnings (loss) from operations of USGenNE, Mountain View, and ET Canada for quarters ending March 31, June 30, September 30, and December 31, 2002, were $8 million, $1 million, $7 million and ($5) million, respectively. The earnings from operations for the same periods in 2001 were $37 million, $32 million, $24 million, and $14 million, respectively.

⁽³⁾

Amounts have been restated to reflect the reclassification of USGenNE, Mountain View, and ET Canada operating results to discontinued operations. Operating income and income from continuing operations previously reported for the first three quarters in 2002 were $1,306 million and $631 million, $774 million and $279 million, and $1,005 million and $466 million, respectively. Operating income (loss) and income (loss) from continuing operations previously reported for the quarters ended March 31, June 30, September 30, and December 31, 2001, were ($1,340) million and ($951) million, $1,447 million and $750 million, $1,552 million and $771 million, and $1,077 million and $520 million, respectively.

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INDEPENDENT AUDITORS' REPORT

To the Boards of Directors and Shareholders of
PG&E Corporation and Pacific Gas and Electric Company

We have audited the accompanying consolidated balance sheets of PG&E Corporation and subsidiaries (the "Company") and of Pacific Gas and Electric Company (a Debtor-in-Possession) and subsidiaries (the "Utility") as of December 31, 2002 and 2001, and the related consolidated statements of operations, cash flows and common stockholders' equity of the Company and the related consolidated statements of operations, cash flows and stockholders' equity of the Utility for each of the three years in the period ended December 31, 2002. These financial statements are the responsibility of the respective managements of the Company and of the Utility. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the respective consolidated financial position of the Company and of the Utility as of December 31, 2002 and 2001, and the respective results of their consolidated operations and cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 1 of the Notes to the Consolidated Financial Statements, during 2002, the Company adopted new accounting standards to account for goodwill and intangible assets, impairment of long-lived assets, discontinued operations, gains and losses on debt extinguishment and certain derivative contracts. Additionally, during 2002, the Company changed the method of reporting gains and losses associated with energy trading contracts from the gross method to the net method and retroactively reclassified the consolidated statements of operations for 2001 and 2000. During 2001, as discussed in Note 1 of the Notes to the Consolidated Financial Statements, the Company and the Utility adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," and the Company adopted certain interpretations issued by the Derivatives Implementation Group of the Financial Accounting Standards Board.

The accompanying consolidated financial statements have been prepared on a going concern basis of accounting. As discussed in Notes 1 and 2 of the Notes to the Consolidated Financial Statements, the Utility, a subsidiary of the Company, has incurred power purchase costs substantially in excess of amounts charged to customers in rates. On April 6, 2001, the Utility sought protection from its creditors by filing a voluntary petition under provisions of Chapter 11 of the U.S. Bankruptcy Code. Additionally, as discussed in Note 3 of the Notes to the Consolidated Financial Statements, PG&E National Energy Group, a subsidiary of the Company, has defaulted on various debt and financing obligations. These matters raise substantial doubt about the ability of the Company and of the Utility to continue as going concerns. Managements' plans in regard to these matters are also described in Notes 2 and 3 of the Notes to the Consolidated Financial Statements. The respective consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.

DELOITTE & TOUCHE LLP
San Francisco, California
February 24, 2003

RESPONSIBILITY FOR THE CONSOLIDATED FINANCIAL STATEMENTS

PG&E Corporation and Pacific Gas and Electric Company (the Utility) management are responsible for the integrity of the accompanying consolidated financial statements. The financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. Management considers materiality and uses its best judgment to ensure that such statements reflect fairly the financial position, results of operations, and cash flows of PG&E Corporation and the Utility.

PG&E Corporation and the Utility maintain systems of internal controls supported by formal policies and procedures, which are communicated throughout PG&E Corporation and the Utility. These controls are adequate to provide reasonable assurance that assets are safeguarded from material loss or unauthorized use and that necessary records are produced for the preparation of consolidated financial statements. There are limits inherent in all systems of internal controls, based on recognition that the costs of such systems should not exceed the benefits to be derived. PG&E Corporation and the Utility believe that their systems of internal control provide this appropriate balance. PG&E Corporation management also maintains a staff of internal auditors who evaluate the adequacy of, and assess the adherence to, these controls, policies, and procedures for all of PG&E Corporation, including the Utility.

Both PG&E Corporation's and the Utility's consolidated financial statements included herein have been audited by Deloitte & Touche LLP, PG&E Corporation's independent auditors. The audit includes consideration of internal accounting controls and performance of tests necessary to support an opinion. The auditors' report contains an independent informed judgment as to the fairness, in all material respects, of reported results of operations and financial position.

The Audit Committee of the Board of Directors of PG&E Corporation meets regularly with management, internal auditors, and Deloitte & Touche LLP, jointly and separately, to review internal accounting controls and auditing and financial reporting matters. The internal auditors and Deloitte & Touche LLP have free access to the Audit Committee, which consists of five outside directors. The Audit Committee has reviewed the financial data contained in this report.

PG&E Corporation and the Utility are committed to full compliance with all laws and regulations and to conducting business in accordance with high standards of ethical conduct. Management has taken the steps necessary to ensure that all employees and other agents understand and support this commitment. Guidance for corporate compliance and ethics is provided by an officers' Ethics Committee and by a Legal Compliance and Business Ethics organization. PG&E Corporation and the Utility believe that these efforts provide reasonable assurance that each of their operations is conducted in conformity with applicable laws and with their commitment to ethical conduct.

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SELECTED FINANCIAL DATA
PG&E Corporation CONSOLIDATED STATEMENTS OF OPERATIONS
PG&E Corporation CONSOLIDATED BALANCE SHEETS
PG&E Corporation CONSOLIDATED BALANCE SHEETS
PG&E Corporation CONSOLIDATED STATEMENTS OF CASH FLOWS
PG&E Corporation CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY
Pacific Gas and Electric Company, a Debtor-in-Possession CONSOLIDATED STATEMENTS OF OPERATIONS
Pacific Gas and Electric Company, a Debtor-in-Possession CONSOLIDATED BALANCE SHEETS
Pacific Gas and Electric Company, a Debtor-in-Possession CONSOLIDATED BALANCE SHEETS
Pacific Gas and Electric Company, a Debtor-in-Possession CONSOLIDATED STATEMENTS OF CASH FLOWS
Pacific Gas and Electric Company, a Debtor-in-Possession CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
QUARTERLY CONSOLIDATED FINANCIAL DATA (UNAUDITED)
INDEPENDENT AUDITORS' REPORT
RESPONSIBILITY FOR THE CONSOLIDATED FINANCIAL STATEMENTS

EX-21

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Exhibit 21

PG&E Corporation and Pacific Gas and Electric Company Subsidiaries

Subsidiary or Affiliate Name	Jurisdiction of Formation
1989 Oakland Housing Partnership Associates, L.P.	CA
1992 Oakland Regional Housing Partnership Associates, a California Limited Partnership	CA
1994 Oakland Regional Housing Partnership Associates, a California Limited Partnership	CA
201 Turk Street, L.P.	CA
949675 Alberta Ltd.	Alberta, Canada
955846 Alberta Ltd.	Alberta, Canada
982979 Alberta Ltd.	Alberta, Canada
994819 Alberta Ltd.	Alberta, Canada
Alaska Gas Exploration Associates	CA
Alhambra Pacific Joint Venture	CA
Altresco, Inc.	4/9/1986
Aplomado Power Corporation	CA
Athens Generating Company, L.P.	DE
Attala Energy Company, LLC	DE
Attala Generating Company, LLC (acquired 9/28/00)	DE
Attala Power Corporation	DE
Badger Generating Company, LLC	DE
Badger Power Corporation	3/15/1999
Balch 1 and 2 Project LLC	CA
Barakat & Chamberlin, Inc.	CA
Battle Creek Project LLC	10/30/2001
Beale Generating Company	DE
Beech Power Corporation	DE
Berkshire Feedline Acquisition Limited Partnership	MA
Berkshire Pittsfield, Inc.	CO
Black Hawk III Power Corporation	CA
Black Hawk Power Corporation	CA
Bluebonnet Generating Company, LLC	DE
Bluebonnet Power Corporation	DE
BPS I, Inc.	CA
Buckeye Power Corporation	DE
Bucks Creek Project LLC	CA
Calaska Energy Company	CA
Cannelton Hydroelectric Project, L.P.	TN
Carneys Point Generating Company	DE
Cedar Bay Cogeneration, Inc.	DE
Cedar Bay Generating Company, Limited Partnership	DE
CEG Energy Options Inc.	Saskatchewan, Canada

1

Chambers Cogeneration, Limited Partnership	DE
Chico Commons, a California Limited Partnership	CA
Chili Bar Project LLC	CA
Citrus Generating Company, L.P.	DE
Clearfield Properties, Inc.	DE
Colstrip Energy, Limited Partnership	MT
Conaway Conservancy Group Joint Venture	Yolo County, CA
Conaway Ranch Company, The	CA
Cooper's Hawk Power Corporation	CA
Covert Generating Company, LLC	DE
Covert Power Corporation	DE
Crane Valley Project LLC	CA
Creston Financial Group, Inc.	CA
DeSabla-Centerville Project LLC	CA
Diablo Canyon LLC	CA
Dispersed Gen Properties, LLC	DE
DPR, Inc.	CA
Drum-Spaulding Project LLC	CA
Eagle Power Corporation	CA
Electric Generation LLC	CA
Elm Power Corporation	DE
ETrans LLC	CA
Eucalyptus Power Corporation	DE
Eureka Energy Company	CA
Falcon Power Corporation	CA
Fellows Generating Company, L.P.	DE
First Arizona Land Corporation	DE
First California Land Corporation	DE
First Massachusetts Land Company, LLC	DE
First Oregon Land Corporation	DE
Gannet Power Corporation	CA
Garnet Power Corporation	DE
Gator Generating Company, L.P.	DE
GenHoldings I, LLC	DE
Gilia Enterprises	CA
Goose Lake Generating Company, LLC	DE
Goose Lake Power Corporation	DE
Granite Generating Company, L.P.	DE
Granite Water Supply Company, Inc.	DE
Gray Hawk Power Corporation	DE
GTN Holdings LLC	DE
GTrans LLC	CA
Haas-Kings River Project LLC	CA
Hamilton Branch Project LLC	CA
Harlan Power Corporation	CA
Harquahala Generating Company, LLC	DE
Harquahala Power Corporation	DE
Hat Creek 1 and 2 Project LLC	CA
Helms Project LLC	CA

2

Hermiston Generating Company, L.P.	DE
Heron Power Corporation	CA
Indian Orchard Generating Company, Inc.	DE
Indiantown Cogeneration Funding Corporation	DE
Indiantown Cogeneration, L.P.	DE
Indiantown Project Investment Partnership, L.P.	DE
IQ2 Communications, Inc.	Alberta
IQ2 Power Corporation	Alberta
Iroquois Gas Transmission System, L.P.	DE
Iroquois Pipeline Investment, LLC	DE
J. Makowski Associates, Inc.	MA
J. Makowski Pittsfield, Inc.	DE
J. Makowski Services, Inc.	DE
Jaeger Power Corporation	CA
JMC Altresco, Inc.	CO
JMC Iroquois, Inc.	DE
JMC Selkirk Holdings, Inc.	DE
JMC Selkirk, Inc.	DE
JMCS I Holdings, Inc.	DE
JMCS I Management, Inc.	DE
Juniper Power Corporation	DE
Kentucky Hydro Holdings, LLC	DE
Kerckhoff 1 and 2 Project LLC	CA
Kern Canyon Project LLC	CA
Keystone Cogeneration Company, L.P.	DE
Keystone Urban Renewal Limited Partnership	DE
Kilarc-Cow Creek Project LLC	CA
La Paloma Generating Company, LLC	DE
La Paloma Power Corporation	DE
Lake Road Generating Company, L.P.	DE
Lake Road Power I, LLC	DE
Lake Road Power II, LLC	DE
Larkspur Power Corporation	DE
Leechburg Properties, Inc.	DE
Liberty Generating Company, LLC	DE
Liberty Generating Corporation	DE
Liberty Urban Renewal, LLC	DE
Logan Generating Company, L.P.	DE
Long Creek Generating Company, LLC*	DE
Long Creek Power Corporation	DE
Loon Power Corporation	DE
Madison Wind Power Corporation	DE
Madison Windpower LLC	DE
Magnolia Power Corporation	DE
Mantua Creek Generating Company, L.P.	DE
Mantua Creek Urban Renewal, L.P.	DE
Marengo Ranch Joint Venture	Sacramento County, CA
Mason Generating Company	DE
MASSPOWER	MA

3

MASSPOWER, L.L.C.	DE
McCloud-Pit Project LLC	CA
Meadow Valley Generating Company, LLC	DE
Meadow Valley Power Corporation	DE
Merced Falls Project LLC	CA
Merlin Power Corporation	CA
Merritt Community Capital Fund V, L.P.	CA
MidColumbia Generating Company, LLC	DE
MidColumbia Power Corporation	DE
Millennium Power Partners, L.P.	DE
Miocene Project LLC	CA
Mokelumne River Project LLC	CA
Morro Bay Mutual Water Company	CA
Morrow Generating Company, LLC	DE
Morrow Power Corporation	DE
Moss Landing Mutual Water Company	CA
Mountain View Power Partners, LLC	DE
Narrows Project LLC	CA
Natural Gas Corporation of California	CA
NEG Construction Finance Company, LLC	DE
Newco Energy Corporation	CA
NGC Production Company	CA
North Baja Pipeline, LLC	DE
Northampton Fuel Supply Company, Inc.	DE
Northampton Generating Company, L.P.	DE
Northampton Water Supply, Inc.	DE
Oat Creek Associates Joint Venture	Yolo County, CA
Okeechobee Generating Company, LLC	DE
Okeechobee Power Corporation	DE
Okeelanta Power Limited Partnership	DE
Orchard Gas Corporation	DE
Osprey Power Corporation	CA
Otay Mesa Power Corporation	DE
Pacific California Gas System, Inc.	CA
Pacific Conservation Services Company	CA
Pacific Energy Fuels Company	CA
Pacific Gas and Electric Company	CA
Pacific Gas and Electric Housing Fund Partnership, L.P.	CA
Pacific Gas Properties Company	CA
Pacific Gas Transmission Company	CA
Pacific Gas Transmission International, Inc.	CA
Pacific Properties (general partnership)	CA
Pacific Venture Capital, LLC	DE
Peach I Power Corporation	DE
Peach IV Power Corporation	DE
Peak Power Generating Company, Inc.	CA
Pelican Power Corporation	CA
PentaGen Investors, L.P.	DE
Peregrine Power Corporation	CA

4

PG&E CalHydro, LLC	CA
PG&E Capital II	DE
PG&E Capital III	DE
PG&E Capital IV	DE
PG&E Capital, LLC	DE
PG&E Construction Agency Services I, LLC	DE
PG&E Construction Agency Services II, LLC	DE
PG&E Corporation	CA
PG&E Corporation Australia Pty Ltd.	Australia
PG&E Corporation Australian Holdings Pty Ltd.	Australia
PG&E Corporation Support Services, Inc.	DE
PG&E Dispersed Generating Company, LLC	DE
PG&E Dispersed Power Corporation	DE
PG&E Energy Services Ventures, Inc.	DE
PG&E Energy Trading—Gas Corporation	CA
PG&E Energy Trading—Power, L.P.	DE
PG&E Energy Trading Australia Pty Ltd.	Australia
PG&E Energy Trading Holdings Corporation	CA
PG&E Energy Trading Holdings, LLC	DE
PG&E Energy Trading, Canada Corporation	Alberta, Canada
PG&E Enterprises, Inc.	CA
PG&E ET Investments Corporation	DE
PG&E ET Synfuel #2, LLC	DE
PG&E ET Synfuel 166, LLC	DE
PG&E Funding LLC	DE
PG&E Gas Transmission Corporation	CA
PG&E Gas Transmission Holdings Corporation	CA
PG&E Gas Transmission Service Company LLC	DE
PG&E Gas Transmission, Northwest Corporation	CA
PG&E Generating Company, LLC	DE
PG&E Generating Energy Group, LLC	DE
PG&E Generating Energy Holdings, Inc.	DE
PG&E Generating New England, Inc.	DE
PG&E Generating New England, LLC	DE
PG&E Generating Power Group, LLC	DE
PG&E Generating Services, LLC	DE
PG&E Holdings, LLC	DE
PG&E International Development Holdings, LLC	DE
PG&E International, Inc.	CA
PG&E Management Services Company	CA
PG&E National Energy Group Acquisition Company, LLC	DE
PG&E National Energy Group Company	CA
PG&E National Energy Group Construction Company, LLC	DE
PG&E National Energy Group Holdings Corporation	CA
PG&E National Energy Group, Inc.	DE
PG&E National Energy Group, LLC	DE
PG&E Operating Services Company	CA
PG&E Operating Services Holdings, Inc.	CA
PG&E Overseas Holdings I, Ltd.	Cayman Islands

5

PG&E Overseas Holdings II, Ltd.	Cayman Islands
PG&E Overseas, Inc.	CA
PG&E Overseas, Ltd. (in process of liquidation)	Cayman Islands
PG&E Pacific I, Ltd. (in process of liquidation)	Cayman Islands
PG&E Pacific II, Ltd. (in process of liquidation)	Cayman Islands
PG&E Strategic Capital, Inc.	DE
PG&E Telecom Holdings, LLC	DE
PG&E Telecom, LLC	DE
PG&E Ventures ePro, LLC	DE
PG&E Ventures, LLC	DE
Phoenix Project LLC	CA
Pit 1 Project LLC	CA
Pit 3, 4 and 5 Project LLC	CA
Pittsfield Generating Company, L.P.	DE
Pittsfield Partners, Inc.	CO
Plains End, LLC	DE
Plover Power Corporation	CA
Poe Project LLC	CA
Potter Valley Project LLC	CA
Properties Holdings, LLC	DE
PTP Services, LLC	DE
PTTP Services LLC	DE
Quantum Ventures	CA
Raptor Holdings Company	CA
Rock Creek-Cresta Project LLC	CA
Rocksavage Services I, Inc.	DE
San Gorgonio Power Corporation	DE
Schoolhouse Lane Apartments L.P.	CA
Scrubgrass Generating Company, L.P.	DE
Scrubgrass Power Corp.	PA
Selkirk Cogen Funding Corporation	DE
Selkirk Cogen Partners, L.P.	DE
Smithland Hydroelectric Partners, Ltd.	DE
Spencer Station Generating Company, L.P.	DE
Spencer Station Power Corporation	DE
Spring-Gap Stanislaus Project LLC	CA
Spruce Limited Partnership	DE
Spruce Power Corporation	DE
Standard Pacific Gas Line Incorporated	CA
Stanfield Hub Services, LLC	WA
Times Three Austin Ltd.	Alberta, Canada
Times Three Calgary Ltd.	Alberta, Canada
Topaz Power Corporation	DE
Toyan Enterprises	CA
TrueQuote, LLC	KY
Tule River Project LLC	CA
Umatilla Generating Company, L.P.	DE
Upper NF Feather River Project LLC	CA

6

USGen Holdings, Inc.	DE
USGen New England, Inc.	DE
USGen Services Company, LLC	DE
USOSC Holdings, Inc.	DE
Valley Real Estate, Inc.	CA
Virtual Credit Services, LLC	DE
White Pine Generating Company, LLC	DE

7

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Exhibit 21

EX-23

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EXHIBIT 23

INDEPENDENT AUDITORS' CONSENT

        We consent to the incorporation by reference in Registration Statements No. 333-16255 and 333-25685 on Form S-3 and 333-16253, 333-27015, 333-68155, 333-46772, 333-77145, 333-77149 and 333-73054 on Form S-8 of PG&E Corporation and Registration Statements No. 33-64136, 33-50707, 33-62488 and 33-61959 on Form S-3 of Pacific Gas and Electric Company of our reports dated February 24, 2003 (which express an unqualified opinion and include explanatory paragraphs relating to accounting changes and going concern uncertainties, appearing in and incorporated by reference in this Annual Report on Form 10-K of PG&E Corporation and Pacific Gas and Electric Company for the year ended December 31, 2002.

DELOITTE & TOUCHE LLP
San Francisco, California
February 27, 2003

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EXHIBIT 23

EX-24.1

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Exhibit 24.1

RESOLUTION OF THE
BOARD OF DIRECTORS OF
PG&E CORPORATION

February 19, 2003

        WHEREAS, the Audit Committee of this Board of Directors has reviewed the audited consolidated financial statements for this corporation for the year ended December 31, 2002, and has recommended to the Board that such financial statements be included in the corporation's Annual Report on Form 10-K for the year ended December 31, 2002, to be filed with the Securities and Exchange Commission;

        BE IT RESOLVED that each of LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES is hereby authorized to sign on behalf of this corporation and as attorneys in fact for the Chairman of the Board, Chief Executive Officer, and President, the Senior Vice President and Chief Financial Officer, and the Senior Vice President and Controller of this corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and all amendments and other filings or documents related thereto to be filed with the Securities and Exchange Commission, and to do any and all acts necessary to satisfy the requirements of the Securities Exchange Act of 1934 and the regulations of the Securities and Exchange Commission adopted thereunder with regard to said Form 10-K Annual Report.

        I, LINDA Y.H. CHENG, do hereby certify that I am Corporate Secretary of PG&E CORPORATION, a corporation organized and existing under the laws of the State of California; that the above and foregoing is a full, true, and correct copy of a resolution which was duly adopted by the Board of Directors of said corporation at a meeting of said Board which was duly and regularly called and held at the office of said corporation on February 19, 2003; and that this resolution has never been amended, revoked, or repealed, but is still in full force and effect.

        WITNESS my hand and the seal of said corporation hereunto affixed this 25th day of February, 2003.

LINDA Y.H. CHENG Linda Y.H. Cheng
Corporate Secretary
PG&E CORPORATION

C O R P O R A T E

          S E A L

RESOLUTION OF THE
BOARD OF DIRECTORS OF
PACIFIC GAS AND ELECTRIC COMPANY

February 19, 2003

        WHEREAS, the Audit Committee of this Board of Directors has reviewed the audited consolidated financial statements for this company for the year ended December 31, 2002, and has recommended to the Board that such financial statements be included in the company's Annual Report on Form 10-K for the year ended December 31, 2002, to be filed with the Securities and Exchange Commission;

        BE IT RESOLVED that each of LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES is hereby authorized to sign on behalf of this company and as attorneys in fact for the President and Chief Executive Officer, the Senior Vice President—Chief Financial Officer and Treasurer, and the Vice President—Controller of this company the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and all amendments and other filings or documents related thereto to be filed with the Securities and Exchange Commission, and to do any and all acts necessary to satisfy the requirements of the Securities Exchange Act of 1934 and the regulations of the Securities and Exchange Commission adopted thereunder with regard to said Form 10-K Annual Report.

        I, LINDA Y.H. CHENG, do hereby certify that I am Corporate Secretary of PACIFIC GAS AND ELECTRIC COMPANY, a corporation organized and existing under the laws of the State of California; that the above and foregoing is a full, true, and correct copy of a resolution which was duly adopted by the Board of Directors of said corporation at a meeting of said Board which was duly and regularly called and held on February 19, 2003; and that this resolution has never been amended, revoked, or repealed, but is still in full force and effect.

        WITNESS my hand and the seal of said corporation hereunto affixed this 25th day of February, 2003.

LINDA Y.H. CHENG Linda Y.H. Cheng
Corporate Secretary
PACIFIC GAS AND ELECTRIC COMPANY

C O R P O R A T E

          S E A L

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Exhibit 24.1

EX-24.2

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Exhibit 24.2

POWER OF ATTORNEY

        Each of the undersigned Directors of PG&E Corporation hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his or her attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his or her capacity as such Director of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, we have signed these presents this 19th day of February, 2003.

DAVID R. ANDREWS David R. Andrews	MARY S. METZ Mary S. Metz
DAVID A. COULTER David A. Coulter	CARL E. REICHARDT Carl E. Reichardt
C. LEE COX C. Lee Cox	BARRY LAWSON WILLIAMS Barry Lawson Williams
WILLIAM S. DAVILA William S. Davila	ROBERT D. GLYNN, JR. Robert D. Glynn, Jr.

POWER OF ATTORNEY

        ROBERT D. GLYNN, JR., the undersigned, Chairman of the Board, Chief Executive Officer, and President of PG&E Corporation, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as Chairman of the Board, Chief Executive Officer, and President (principal executive officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

ROBERT D. GLYNN, JR. Robert D. Glynn, Jr.

POWER OF ATTORNEY

        PETER A. DARBEE, the undersigned, Senior Vice President and Chief Financial Officer of PG&E Corporation, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as Senior Vice President and Chief Financial Officer (principal financial officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

PETER A. DARBEE Peter A. Darbee

POWER OF ATTORNEY

        CHRISTOPHER P. JOHNS, the undersigned, Senior Vice President and Controller of PG&E Corporation, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as Senior Vice President and Controller (principal accounting officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

CHRISTOPHER P. JOHNS Christopher P. Johns

POWER OF ATTORNEY

        Each of the undersigned Directors of Pacific Gas and Electric Company hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his or her attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his or her capacity as such Director of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, we have signed these presents this 19th day of February, 2003.

DAVID R. ANDREWS David R. Andrews	MARY S. METZ Mary S. Metz
DAVID A. COULTER David A. Coulter	CARL E. REICHARDT Carl E. Reichardt
C. LEE COX C. Lee Cox	GORDON R. SMITH Gordon R. Smith
WILLIAM S. DAVILA William S. Davila	BARRY LAWSON WILLIAMS Barry Lawson Williams
ROBERT D. GLYNN, JR. Robert D. Glynn, Jr.

POWER OF ATTORNEY

        GORDON R. SMITH, the undersigned, President and Chief Executive Officer of Pacific Gas and Electric Company, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as President and Chief Executive Officer (principal executive officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

GORDON R. SMITH Gordon R. Smith

POWER OF ATTORNEY

        KENT M. HARVEY, the undersigned, Senior Vice President—Chief Financial Officer and Treasurer of Pacific Gas and Electric Company, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as Senior Vice President—Chief Financial Officer and Treasurer (principal financial officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

KENT M. HARVEY Kent M. Harvey

POWER OF ATTORNEY

        DINYAR B. MISTRY, the undersigned, Vice President—Controller of Pacific Gas and Electric Company, hereby constitutes and appoints LINDA Y.H. CHENG, WONDY S. LEE, ERIC MONTIZAMBERT, GARY P. ENCINAS, and KATHLEEN HAYES, and each of them, as his attorneys in fact with full power of substitution to sign and file with the Securities and Exchange Commission in his capacity as Vice President—Controller (principal accounting officer) of said corporation the Form 10-K Annual Report for the year ended December 31, 2002, required by Section 13 or 15(d) of the Securities Exchange Act of 1934 and any and all amendments and other filings or documents related thereto, and hereby ratifies all that said attorneys in fact or any of them may do or cause to be done by virtue hereof.

        IN WITNESS WHEREOF, I have signed these presents this 19th day of February, 2003.

DINYAR B. MISTRY Dinyar B. Mistry

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Exhibit 24.2

EX-99.1

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Exhibit 99.1

CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350

        In connection with the accompanying Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, I, Robert D. Glynn, Jr., Chairman, Chief Executive Officer and President of PG&E Corporation, hereby certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge and belief, that:

(1)

such Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)

the information contained in such Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, fairly presents, in all material respects, the financial condition and results of operations of PG&E Corporation.

ROBERT D. GLYNN, JR.

ROBERT D. GLYNN, JR.
Chairman, Chief Executive Officer and President

February 26, 2003

CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350

        In connection with the accompanying Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, I, Peter A. Darbee, Senior Vice President and Chief Financial Officer of PG&E Corporation, hereby certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge and belief, that:

(1)

such Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)

the information contained in such Annual Report on Form 10-K of PG&E Corporation for the year ended December 31, 2002, fairly presents, in all material respects, the financial condition and results of operations of PG&E Corporation.

PETER A. DARBEE

PETER A. DARBEE
Senior Vice President and Chief Financial Officer

February 26, 2003

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Exhibit 99.1

EX-99.2

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Exhibit 99.2

CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350

        In connection with the accompanying Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, I, Gordon R. Smith, President and Chief Executive Officer of Pacific Gas and Electric Company, hereby certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge and belief, that:

(1)

such Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)

the information contained in such Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, fairly presents, in all material respects, the financial condition and results of operations of Pacific Gas and Electric Company.

GORDON R. SMITH

GORDON R. SMITH
President and Chief Executive Officer

February 26, 2003

CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350

        In connection with the accompanying Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, I, Kent M. Harvey, Senior Vice President, Chief Financial Officer and Treasurer of Pacific Gas and Electric Company, hereby certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge and belief, that:

(1)

such Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)

the information contained in such Annual Report on Form 10-K of Pacific Gas and Electric Company for the year ended December 31, 2002, fairly presents, in all material respects, the financial condition and results of operations of Pacific Gas and Electric Company.

KENT M. HARVEY

KENT M. HARVEY
Senior Vice President,
Chief Financial Officer and Treasurer

February 26, 2003

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Exhibit 99.2