Jack Yeager GEMI Conference

1. Jack YeagerGEMI Conference CRA Capital Management in Commercial Optimization January 21, 2005

2. Capital Management – Capital Adequacy in Context The challenge for every company is to both ensure adequate capital to sustain the business while delivering returns that grow capital Grow Sustain More Capital vs Risk could: • Reduce cash flows and earnings surprises • Reduce amount of “self-insured” risks • Increase Cost of Risk • Reduce availability of new investments with acceptable risk/return characteristics • Reduce ability to introduce new products to market • Reduce value of equity • Reduce strategic flexibility • Increase Strategic Risk Taking on too much risk could: • Increase profitability from investments / transactions • Increase amount of “self-insured” risks • Reduce quality of credit • Increase WACC • Reduce availability of investments that satisfy hurdle • Reduce availability of counterparties willing to do business • Reduce strategic flexibility • Increase Strategic Risk

3. Capital Management - The Competitive Landscape Energy Trading & Marketing Businesses are feeling increasing competitive pressure from I-Banks & Private Equity to manage capital more effectively… Capital Management Strategy • Private Equity • Good deals seek capital • Deal level Transparency • Competition breed discipline • Investment Banks • Capital seeks good deals • Regulatory Assurance • Compliance breeds discipline Divest of Assets Transparent Capital Discipline • Energy T&M • Business model seeks capital • SEC Financial Performance • Ambiguity breeds complacency Regulated Capital Requirements

4. Capital Management - Down & Dirty The primary competitive advantage of Energy Trading & Marketing companies is their experience in employing a variety of complex commercial optimization strategies in delivering value…but this advantage is only temporary • Balancing • “if you balance early, you balance twice” • “never carry more supply than your expected demand into the delivery month” • “turn on swing within 2% of economic price, you can turn it off if you don’t need it” • “never carry an imbalance into the on-the-day market” • “never signal your true needs to the market until the afternoon” • Hedging • “hedge everything from 18 months to 6 months 50%, 6 months & in up to 90%” • “hedge is part of portfolio strategy & is put on based on positions rules” • “hedge is economic, but distinct from speculative trading, cost of collateral is considered” • “hedge expected production plus 10%, rather be over than under hedged” • Speculation • “the entire group trades a single point-of-view” • “each trader has the right to trade their own point-of-view” • “we primarily take large positions on bets greater than 150% RAROC” • “we diversify, lots of small bets, lots of locations & tenors, on RAROC of 50% or more” • “ we are looking for the bid-ask spread, the goal is to close positions in 1 to 2 days”

5. Capital Management - Down & Dirty The challenge for energy companies is to learn how to effectively incorporate capital management discipline into their commercial optimization decisions S1 represents a speculative strategy with 150% RAROC thresholds, while S2 represents a strategy with 30% RAROC thresholds While S1 represents virtually no risk of capital lost, S2 provides the greater expected return to capital

6. Capital Management - Down & Dirty As availability and cost of capital changes, so does the expected value of each strategy, so that commercial strategy and capital management become inter-related in optimizing portfolio value

7. Jack YeagerGEMI Conference CRA Capital Management in Commercial Optimization January 21, 2005