Maximizing Efficiency in Electricity Distribution Sector

1. Direct Energy Presentation to the OEBReview of Further Efficiencies in the Electricity Distribution Sector18th February 2004

2. Outline • Centrica and Direct Energy • Efficiencies – Need to Define the Role of LDCs • Consolidation – Efficiencies Based on Scale Economies Can Be Achieved • Performance-Based Regulation Can Promote Efficiency • LSEs – LDCs Should Not Play the Role of LSEs • Recommendations/Conclusions

3. Centrica’s Origins British Gas Corporation Key Facts • Can$33bn annual turnover • Can$18bn market capitalisation • Over 45 million customer relationships • 38,000 employees - of which 2,600 in North America • Stable single A credit rating Privatization 1985 British Gas plc Demerger 1997 BG plc + Centrica plc Competition & diversification 1997-2003 An international energy& services company Centrica plc

4. Our Businesses Natural gas production in UK & Alberta 2,600 MW UK gas-fired power generationRenewablesEnergy procurement & trading E MG EnergyManagement Natural Gas Electricity HVAC installation, repair, servicingand insuranceWater Heaters Plumbing & drains insurance ResidentialServices Natural Gas Electricity HVAC mechanical services & technology BusinessServices Roadside servicesTravel services & publishing Insurance & financial services RoadsideServices UK only Fixed line Cell phones Broadband Telephony

5. Direct Energy in North America • Entered North American market in Ontario in August 2000 • Has invested Can$2.9 billion in 3 years, of which Can$2.2 billion in Ontario • Can$0.7 billion was recouped by selling down the water heater assets into an Income Trust; Direct Energy still manages installation, servicing and repair of the heaters • 2003 revenues Can$5.6 billion • With acquisition of ATCO’s Alberta retail gas and electricity customers, Direct Energy will have over 5 million customers • Over 2,500 full time employees; about 2,300 in Ontario (Can$112m payroll) • Strong commitment to: • Highest ethical standards • Outstanding customer service • Providing our customers with “peace of mind” • Developing our people • Supporting our local communities – direct in the community

6. Direct Energy Locations in North America 30,000 gas customersin Manitoba 17,000 businessservice accountsacross Canada Main Offices 100 mmcf/day of gasand 0.5 million bbl paof oil and gas liquidsproduction in Alberta 1.2 million households taking;2.8 million energy and servicesproducts in Ontario 980,000 ATCO gas and electricity customersbeing acquired in Alberta 375,000 gas customersin Michigan, Ohio and Pennsylvania 770,000 “PTB” electricitycustomers in West and South Central Texas 120,000 electricitycustomers in Houstonand Dallas/Fort Worth

7. Efficiencies – Need to Define the Role of LDCs • Need to define the role of LDCs in terms of scope and responsibility. • A functional review at the activity level would greatly assist all parties in identifying further potential efficiencies. • A functional review would recognize that the source of and best remedy for inefficiencies in one activity (e.g. wires management) are likely different from those in another activity (e.g. energy procurement, customer care). • These competencies across functional activities (wires management versus energy procurement, customer care) are different.

8. Consolidation – Efficiencies Based on Scale Economies Can Be Achieved • Direct Energy supports further consolidation of LDCs since it: • Promotes business standardization • Facilitates commercial transactions among market participants • Through consolidation, efficiencies based on scale economies may be achieved, especially in those cases where LDCs’ service territories are contiguous or proximately located. BUT: • Functions such as procurement, customer care and IT are not constrained by geographical boundaries. • Consolidation must be carefully managed such that detrimental impacts to IT infrastructure and data integrity are minimized.

9. Performance-Based Regulation Can Promote Efficiency • Direct Energy suggests that creating appropriate regulatory incentives through Performance-Based Regulation (PBR) can increase efficiency. • PBR can create efficiency incentives without requiring the OEB to manage specific LDC decisions. • Implementation of PBR mechanisms for the distribution function has produced significant benefits for customers. For example, in the U.K.: • Prices paid by customers in the regulated distribution sector dropped by approximately 30% from 1995 to 2000 • Distributors managed a 3.2% average annual improvement in efficiency from 1998 to 2002

10. LSEs – LDCs Should Not Play the Role of LSEs • The procurement/supply management functions is quantitatively different from the “wires” function. The separation of these two functions has advantages: • Allows the aggregate level of risks faced by LDCs and their municipal government owners to be sharply reduced • Levels the playing field between the “standard supply service provider” and the other retail service providers • Eliminates potential cross-subsidization between the distribution and supply functions • Focuses the responsibility of LDCs on asset management, system reliability, system safety, and continued non-discriminatory access to wires

11. Commercial entities, acting under normal commercial incentives, are better placed than regulated LDCs to assume the role of the LSE. LSEs should be responsible for customer care and billing as well as energy procurement functions: Significant experience in the wholesale market and direct relationships with customers are needed to combine demand response (DR) and energy efficiency measures with pricing and procurement decisions Experience in the U.K. and Texas LSEs Should be Commercial Entities

12. Recommendations/Conclusions • The OEB should conduct a functional review at the activity level to assist in identifying further potential efficiencies. • Consolidation in the distribution sector should be encouraged. • Further efficiencies can be achieved through Performance-Based Regulation. • The “wires management function” is qualitatively different from the “energy procurement/retail supply function.” • LDCs should not fulfill the LSE function. • LSEs should be commercial entities.