energy future holindings _061405

Texas Electric Market RestructuringA Customer Success Story

C. John WilderChief Executive Officer

June 14, 2005

1

Today’s Agenda

Texas Power RestructuringTexas Power Restructuring No customer choice Full customer control

TXU’s Transformation

TXU’s Transformation A regulated monopoly An industrial

energy company

Market Restructuring

Market Restructuring Regulation A truly competitive

market

From To

2

Over Time Restructuring Allows Customers To Capture The Benefits Of Open Markets And Competition…

Increased consumer

value

Increased consumer

value

Efficiency

Investment Innovation

•Over the long term open markets allocate resources better than monopolies and regulators

•"Competition on its worst day is better than regulation on its best day.”Pat Wood, FERC Chairman

•Over the long term open markets allocate resources better than monopolies and regulators

•"Competition on its worst day is better than regulation on its best day.”Pat Wood, FERC Chairman

3

…Evidenced By The Improvements Made Across Multiple Industries

…Efficiency... ...And innovation

“Markets can both price and allocate capital; not just allocate,”Financial Times

“Markets can both price and allocate capital; not just allocate,”Financial Times

Source: British telecom, O&D survey

Access to over 300 channels (from 30)

HDTV technology

DSL (Internet broadband)

Pay-per-View

Digital Video Recorder

Parental controls

New cable services96-04; No units

US Telecom investment93-04; $ billions

Increased investment...

Percent of available airline seat miles filled77-00; Percent

5671

77 00Pre-deregulation

27%27%23

33

93-96 97-04

44%44%

Pre-deregulation

4

These Improvements Have Led To Lower Prices For Consumers…

Crashing prices: Airline prices79-05; Index of real prices (1979=100)

55

100

79 Today

45%45%

14

100

Cheap calls: US long distance80-05; Index of real revenue/minute (1980=100)

86%86%

80 Today

A competitive market forces the efficiency gains through to the customer in the form of lower prices and value added services

A competitive market forces the efficiency gains through to the customer in the form of lower prices and value added services

63

100

Trucking prices (truckload)67-05; Index of real $/ton (1967=100)

37%37%

67 Today

5

…And Difficult Transitions For The Former Monopolies: Declining Financial Flexibility…

AT&T

Yellow

MCI

Qwest

Ryder

United

Delta

American

AAA BBBAA A B CCCBB

Trucking

Telecom

Airlines

D

9090 0404

9090 0404

9090 0404

9090 0404

Bankruptcies

96

69

37

9090 0404

9090 0202

9090 0404

9090 0404

6

5.76.9

-5.1

3.15.8

-6.3

-2.0

3.5

13.0

…And Poor Returns

Poor returns: Annual total return to shareholders (CAGR)83-03; Percent

S&P 500 American

Airlines

AT&T MCI

Source: Compustat

United Delta Qwest Ryder Yellow

TruckingTelecom

There is not a single industrial deregulated incumbent that has outperformed the broader market over the last 20 years

There is not a single industrial deregulated incumbent that has outperformed the broader market over the last 20 years

Average

90%

7

Today’s Agenda




energy company



market

From To

8

267 218 196320344352415487510513

780971

1,457

3,660

The Texas Electric Market Is One Of The Largest In The World And Now One Of Only A Few Competitive Retail Markets

Electricity consumption02; TWh

United States

China

TexasGermanyJapan

Russia India France

Canada

United Kingdom

Brazil

Source: EIA

South Korea

Spain

Australia

Texas is the 11th biggest market in the worldTexas is the 11th biggest market in the world

Competitive retail

9

Texas Restructuring Has “Unbundled” The Electric Power Value Chain And Restructured Many Activities

Generation Transmission Distribution

ANPCalpineConstellationExelonFPLSempraTexas GencoTXU Power

AEP CentralAEP NorthCenterPointTNMPTXU Electric Delivery

CirroConstellation Direct EnergyEntergy First Choice GEXAGreen MountainReliant EnergyTXU Energy

Restructuring

Competitive

67 generators 5 T&D 59 active retailers

Generation Transmission Distribution Retail

Examples

Restructuring has brought a variety of new players into the marketRestructuring has brought a variety of new players into the market

10

Texas evolved from an integrated model…

Genera-tion

Trans-mission RetailDistri-

bution

…to many different models:Participate in… Examples

Retail only Reliant EnergyGreen Mountain

T&D only CenterPointAEP Central/North

Generation only

Texas Genco

All segments TXU Corp

Where companies participate

Retail and generation

Centrica (Direct) CalpineConstellationFPL/Gexa(pending)

G T RD

G T RD

G T RD

G T RD

G T RD

5 regulated, integrated companies

Competition Has Led To The Formation Of Many Different Business Models

• Only time will tell which business models will succeed• As the market continues to mature, the winning business model may continue to change

• Only time will tell which business models will succeed• As the market continues to mature, the winning business model may continue to change

11

ERCOT Was Designed So That Customers Could Capture The Benefits Of Open Markets And Competition

Simple bilateral marketExpedited permitting and interconnectionWholesaleWholesale

RetailRetail

Significant investment in state of the art technology (efficient CCGT)Improved operational performance

PTB provided headroom and mechanism to pass on commodity changesLow barriers for entryImmediate competitive pricing for customers

Many competitive optionsLower prices than under continued regulationNew products (loyalty programs, “green power”)

The Texas Legislature correctly designed the retail framework to:• Ensure Texans have access to reliable electricity at competitive prices and

improved customer service• Foster competitive behavior and encourage entrepreneurship, while

continuing to protect consumers




What Texas Did Right How Customers Benefited

12

Restructuring Spurred Massive Generation Investment In The ERCOT Market…Capacity additions90-04; GW1

From 98-04, more than $15 billion was invested in generation infrastructure –none of which was in the rate base

From 98-04, more than $15 billion was invested in generation infrastructure –none of which was in the rate base

1.7

0.2 0.6 0.8 0.4 0.5 0.20.7

5.5

4.4

2.9

5.76.6

1.1 1.0

90 91 92 93 94 95 96 97 98 99 00 01 02 03 04

27 29 27 23 23 17 16 9 8 7 12 28 35 32 33

PURA 95(wholesale competition)

Reserve Margin (%)

90-97 Additions= 6 GW 98-04 Additions= 26 GW

Year

1 GW = 1000 MW (1 MW serves approximately 1000 homes)Source: Energy Velocity; NERC

SB7(retail competition)

In rate baseNot in rate base

13

0

50

100

150

200

0 20 40 60 80

0

50

100

150

200

0 20 40 60 80

ERCOT generation portfolio: Average variable cost1

98-04; $/MWh

…Bringing Efficient CCGT Capacity Into The ERCOTGeneration Portfolio

• Restructuring led to the investment of over $15 billion and the addition of the 22GW of efficient CCGT capacity

• Overall the total market is receiving less than an 8% return on capital

• Restructuring led to the investment of over $15 billion and the addition of the 22GW of efficient CCGT capacity

• Overall the total market is receiving less than an 8% return on capital

Cumulative CapacityGW

04

98

NuclearCoal

Gas/oil

Internal combustion

NuclearCoal

Gas/oil

Internal combustion

CCGT

22 GW of new efficient capacity

1 Based on a $6.00/MMBtu gas price Source: Platt’s PowerDat

Wind

Wind

Average demand

Average price ~ $80

Average price ~ $45

14

…Leading To A Significant Reduction In Market Heat Rates

ERCOT heat rate1 cycle98-04; MMBtu/MWh

02468

10121416

98 99 00 01 02 03 04

CCGT marginal heat rate

CCGT reinvestment economics

• New capacity has led to a 40% increase in the efficiency of the marginal unit• This would be similar to improving average automobile gas mileage from 20

mpg to 35 mpg

• New capacity has led to a 40% increase in the efficiency of the marginal unit• This would be similar to improving average automobile gas mileage from 20

mpg to 35 mpg1 Heat rate is a measure of the efficiency of converting a unit of fuel (MMBtu) into a unit of electricity (MWh); lower heat rates implies higher efficiency. Based on day ahead electricity and gas prices.Source: MegaWatt Daily, Gas Daily

15

Competition Has Forced Marginal Pricing, Preventing Most Generators From Receiving Full Compensation For Capital Invested

0 416

53

1214

8

3

54 38 24

16

Wind w/o PTC Nuclear Coal CCGT

Full reinvestment economics1

052; $ / MWH Variable costFixed costCapital recovery

6656

48

72

1 Wind capacity factor=40%, Nuclear=90%, Coal=90%, CCGT=60%2 Assumes $7.50 / MMBtu natural gas prices and 7x24 Heatrate of 8 MMBtu/MWh3 Assumes range of $4.50-$5.50 / MMBtu natural gas prices and 7x24 Heatrate of 8-9 MMBtu/MWhSource: EIA, Henwood

Today’s prices2

Forward price range3

Similar to other competitive markets pricing is bid down to the variable economics of the marginal unit

Similar to other competitive markets pricing is bid down to the variable economics of the marginal unit

16

ERCOT Was Designed So That Customers Could Capture The Benefits Of Open Markets And Competition

Simple bilateral marketExpedited permitting and interconnection

WholesaleWholesale

RetailRetail

Significant investment in state of the art technology (efficient CCGT)Improved operational performance

PTB provided headroom and mechanism to pass on commodity changesLow barriers for entryImmediate competitive pricing for customers

Many competitive optionsLower prices than under continued regulationNew products (loyalty programs, “green power”)







What Texas Did Right How Customers Benefited

17

Customers Have Already Begun To Reap The Benefits Of Competition…Average residential prices1

02-04; $/MWh

•Even with historically high natural gas prices, customers have benefited from access to lower electricity prices than they would have experienced under regulation

•Even with historically high natural gas prices, customers have benefited from access to lower electricity prices than they would have experienced under regulation

1 Competitive Residential price based on 15% discount to TXU Energy PTB as currently offered by market competitors, e.g., Cirro (14.6%); Competitive large business rates include 10% wholesale gross up and 5% net margin; Regulated world assumes 9.6 GW added capacity in the rate base (as opposed to 22GW actually built) at a cost of $600/kw, O&M costs approximately $36/kw-yr resulting in an average cost of $127/kw-yr in the rate base

Source: TXU Energy, ECOM model

Average large business prices1

02-04; $/MWh

7993

If regulationcontinued

Competitive

15%15%

6653

If regulationcontinued

Competitive

20%20%

18

… Giving Customers In Texas Access To Lower Prices Than Before Restructuring

Source: Texas PUC, EIA

Competitive providers have used efficiency to combat higher purchased power costs

Competitive providers have used efficiency to combat higher purchased power costs

-6.9-3.2

8.4

3.77.5

25.2

-1.2-1-3

Change in best available priceDec 01 – Dec 04; Percent

NorthTexas

NewMexico

Oklahoma

Utah

Arizona

Louisiana

Colorado Arkansas

Houston

Gasoline

Natural gas

180101

19

-10%

-21%

-13%

32%

24%

4% 3%0%

Electricity Prices Have Increased Much Slower Than Inflation And Represent A Smaller Amount Of Disposable Income

Source: EIA, Department of Commerce

Efficiency in technology and operations has reduced the cost of electricity on a real basis

Efficiency in technology and operations has reduced the cost of electricity on a real basis

45

17

Change in prices90-04; Percent

Consumer Price Index

RecreationMedical

Residential electricity

Automobiles GasolineHousing

Change in use of disposable income90-04; Percent change

Food ClothingElectricity

62%62%

20

Significant Switching Highlights Texas As The Only Truly Competitive Residential Retail Electricity Market In The U.S.

14428

7372

LargeBusiness

Small andMedium

Business

Residential Localtelephone 3years after

restructuring

Long distance3 years afterrestructuring

Significant competition: Net incumbent switch ratesMay 05; Percent of load

ERCOT retail switching

1122233

78

28

TX DC NY PA MD OH MA CT ME CA

The only true market: Net residential incumbent switch ratesFeb 05; Percent of load1

1 Texas updated as of May ’05 based on ERCOT data; Ohio excludes load attributable to municipal aggregation

Source: KEMA, FCC, CERA

21

ERCOT Accounts for Nearly 80% of US Residential Switching

US Residential retail sales1

2004; 100% = 1,293 TWh

While ERCOT is only 8% of total electric sales in the US, it comprises 78% of residential switching across the United StatesWhile ERCOT is only 8% of total electric sales in the US, it comprises 78% of residential switching across the United States

4%

9%

9%

78%

Residential switching by state2

2004; 100% ~ 38 TWh

8%

92%

ERCOT

Rest of US

All othermarkets3

ERCOT

Pennsylvania

New York

1 Based on data from EIA; ERCOT website2 Based on data from KEMA – 2004 Restructuring Review; state PUC websites; excludes load in Ohio attributed to municipal aggregation 3 Includes AZ, CA, CT, DC, DE, IL, MA, MD, ME, MI, MT, NH, NJ, NV, OH, OR, RI, VA

22

Texas Customers Receive Superior Customer Service, Even When Benchmarked Against More Mature Industries…

489

12 1652

12

280

Average speed of answer03-05; Seconds

03 Avg Q1 05

TXU Energy

Baby Bell telephone company

National financial svcs. co.

Source: TXU

April 04 Oct 04

ERCOT Competitor

96%96% 98%98%

While TXU Energy took the lead in improving call center operations, a major competitor soon followed – exactly what you would expect in a competitive market

While TXU Energy took the lead in improving call center operations, a major competitor soon followed – exactly what you would expect in a competitive market

23

…And Will Reap The Benefits Of Innovative New Products

Existing Product Offerings

Several new products are already available, with many others in developmentSeveral new products are already available, with many others in development

Care/Service RelatedTXU Energy Rewards+Average BillChoose Your Own Due DateAutomatic Bank DraftExpress Pay – Online, PhoneE-BillOption 1 (outage notification)

Energy RelatedAuthorized Dealer Network + HVAC Referral ProgramComfort Rewards ProgramHVAC FinancingHome Energy Advisor OnlineHome Surge Protection

Commodity Related

Price To Beat (PTB) – NTXPTB Index Discount – STX

24

Texas Learned From Other Flawed Market Designs, Benefiting Customers

Other states had problems …Other states had problems …

…But Texas avoided them…But Texas avoided them

… And Texas customers benefited

… And Texas customers benefited

Poor boundaries between retail & wholesaleSupply disconnected from demand response / retail pricesLimited supply developmentInflexible business modelsLimited competition

Vibrant retail & wholesale marketAllowed retail price adjustments (PTB)Attractive to new generation & transmission projectsAccommodated multiple business modelsCreated incentive for new entrants

Plant investment decreased energy pricesLower prices than prior to deregulationRobust competitionHigh customer switchingNew products and servicesImproved customer service levels

The original Texas framework (SB7) has been successful, requiring only minor adjustments. Recently, the Legislature concluded no substantial changes were needed.

The original Texas framework (SB7) has been successful, requiring only minor adjustments. Recently, the Legislature concluded no substantial changes were needed.

25

Today’s Agenda




energy company



market

From To

26

How Will TXU Avoid The Pitfalls That Have Trapped Other Former Monopolies?

“The brief booms that airlines occasionally enjoyed in the 1980s and 1990s encouraged them to believe that radical change wasn’t necessary. Change didn’t happen fast enough because it was always a moving target,”

Alfred Kahn, Chairman of Civil Aeronautics Board

“The brief booms that airlines occasionally enjoyed in the 1980s and 1990s encouraged them to believe that radical change wasn’t necessary. Change didn’t happen fast enough because it was always a moving target,”

Alfred Kahn, Chairman of Civil Aeronautics Board

27

…By Transforming From A Regulated Monopoly To An Industrial Energy Company

Operational Excellence

• Top decile throughput • World class industrial

production costs• Industry leading reliability• Lean corporate SG&A

Market Leadership

• Superior customer service/ brand management

• Customer segmentation and pricing

• Distinctive commodity sourcing

Risk/Return Mindset

• Strict capital allocation discipline

• Risk/return restructuring• Commodity risk

management

Performance Management• High performance culture• Balanced cascading scorecards• Employee development• Incentives linked to key value drivers

28

Operational Excellence Is About Bringing “Lean Principles” To Generation…

85 8688

90

03 04 05E

Lignite capacity factors03-05; Percent

6%6%

1% improvement = $20MM EBIT

Top decile

Long term target

Nuclear operating expense03-05; $ / MWh generated

$12.0 $12.4 $12.3

$11.0

03 04 05E$1 per MWh improvement = $18MM EBIT

Top decile

9%

Long term target

$1 per MWh improvement = $45MM EBIT

Top decile

$16.9 $16.8

$14.5

$15.8

03 04 05E

Lignite fuel & O&M expense03-05; $/ MWh generated

18%

Long term target

Nuclear capacity factors 03-05; Percent

88

94

90

94

03 04 05E

7%7%

1% improvement = $10MM EBIT

Top decile

Long term target

29

… And Minimizing The Corporate Center

1,746

296 235

03 04 05E

Creating an industrial corporate center…03-05; Number of employees

… with lower costs03-05; $ millions

346

12575

370

03 04 05E

TXU has focused on removing redundancies and focusing directly on value creating opportunities

TXU has focused on removing redundancies and focusing directly on value creating opportunities

87%87%

Long term target

66%66%

30

Market Leadership Will Result In A World-Class Customer Experience And An Optimized Supply Function…

Customer retention through innovative loyalty programs

Better customer service: Average speed of answer03-05; Seconds

03 Avg ERCOT A

Q1 05

1652

115

3012

280

TXUERCOT

BBaby Bell

Leading fin. svc. co.

Better power sourcing: Uneconomic generation of gas fleet03-04; GWh

3,450

1,580

Summer 03 Summer 04

54%54%

16 24

49

118 121

9575-80

50-60

Reducing retail bad debt expense99-05; $ millions

99 00 01 02 03 04 05E Target

Start of deregulation

31

DebtHolders

FinancialFlexibility

Yes, until

Strong CreditCoverage ratio Debt/EBITDADebt/EV

Excess

Yes

Payout of 30-40%

ExcessDividendPayout

EquityHolders

Cash FlowfromOper-ations

andAssetSalesTX

U B

usin

ess

Uni

ts

Reinvest-ment

Yes, if

50% of cash returned within 3 yearsMinimum ROI of 15%

Excess“Customer”

Capital

Yes

Quality serviceProduction reliability

Repurchasesor Distributions

Retained forInvestment

Excess

Total Payout Cap - 75% ofOperational

Earnings

The Risk Return Mindset Is Focused On Optimizing the Risk Return Profile For All Key Stakeholders

32

The Industrial Skill Set Is Underpinned By A Strong Performance Management Culture

Reduced number of management layers…03-05; Number of layers

8 6 56-7

03 04 05E

100 81 74 60

0 19 26 40

03 04 05E

Long term target

Long term target

…With new managers having the right skills to compete03-05; Percent of management team

38%38%

New

Old

…Implementing best in class performance management

• Stretch targets based on best in class performance

• Monthly “performance dashboards” to review financial and operational performance

• Balanced scorecards that cascade from top-level financials to front-line operations

• Differentiated incentive systems that reward performance against key value drivers

• Succession plans aimed at developing a bench two-deep at every key position

33

Conclusion

Texas electric market restructuring has been successful at delivering significant value to consumers• Access to lower prices• Better service• Innovative new products

The “invisible hand” of the market is driving change and improvement in all market competitors

Given this success…• Why isn’t the market garnering more attention?• Why haven’t other states accelerated restructuring

efforts?

energy future holindings _061405

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