ML17059C113

Rg&E Annual 1997 Rept.

ML17059C113
Person / Time
Site:	Nine Mile Point
Issue date:	12/31/1997
From:	Richards T, Stokes J ROCHESTER GAS & ELECTRIC CORP.
To:
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ML17059C114	List: ML17059C113 ML17059C115 ML17059C116 ML18041A064
References
NUDOCS 9807070348
Download: ML17059C113 (74)

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I~ jg source of1997 revenue Dollar'se revenue of 1997 Dollar'urchased Gas -19c Taxes - 18e Residential -49e (25e Electric, 24e Gas)

Other Operations-18e Wages gr Commerdal -25e Benefits - 13c (20c Hectdc, Se Gas)

Depreciation St Amortlration - I le Industrial - 15e Distdends 8. Reinmsted (14e Hectric, le Gas) Eami s-9c Hectric fuel Sr I'ur.

Other -9e chased Hectridty-7e (7c Hectric, 2e Gas)

~~~~ Interest - Se Sales to Other Utilities (2e Hectrlc)

1997 1996 Change FinanCial Data (Dollars ln Thousands)

Operating revenues: Electric $ 700,329 $ 707,768 (1)

Gas $ 336,309 $ 346,279 (3)

Operating expenses $ 891,297 $ 904,859 (1)

Operating income $ 145,341 $ 149,188 (3)

Net income $ 95,360 $ 97,511 (2)

Earnings applicable to common stock $ 89,555 $ 90,046 (1)

Rate of return on average common equity 11.00% 11.41% (4)

Common Stock Data Weighted average number of shares OutStanding (thousands)

Basic 38,853 38,762 Diluted 38,909 38,762 Per common share:

Earnings Basic $ 2.30 $ 2.32 (1)

Earnings Diluted $ 2.30 $ 2.32 (1)

Dividends Paid $ 1.80 $ 1.80 Book Value (year end) $ 20.80 $ 20.24 3 Year-end market price $ 34.00 $ 19.13 78 Number of Common Stock Shareholders at December 31 31337 33,675 (7)

Operating Data Sales (thousands)

Kilowatt-hours to customers 6,805,719 6,726,375 1 Kilowatt-hours to other utilities 1,218,794 994,842 23 Therms of gas sold and transported 538,062 561,282 (4)

Construction expenditures, less allowance fOr fundS uSed during COnStruCtiOn (thousands) $ 84,068 $ 114,274 (26)

Employees (year end) 1,958 1,960 9

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Early Rochester Roitwoy oed Ught crew oo the job.

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s your Company enters its 150th year C+,, ,

of service to our customers, I am privileged to begin my service as Chairman and Chief Executive 05cer, I am EST 1834 j,.',iv)';;

honored by the con6dence that the Board has expressed in me and y /ffe$

committed to a~dgtpgjkj)(

continue to earn that confidence.

I have the oppor- ~IO jj O tunity in my first annual report to you to discuss what was a most eventful formed a separate, unregulated energy services year and, in many respects, a turning point subsidiary called ENERGETIX, and symbolized by this exclamation point I, that will compete in the history of the Company.

with other similar companies.

Under our settlement agreement:

Deregulation- 1. Residential electric prices will continue to be The Longer Tenn Good News reduced an average of 10 percent from 1996 Surely the most significant among the many events through the year 2002.

2. Rates for commercial and industrial customers-has to be the regulatory approval of our negotiated settlement agreement that spells out just how we the area's major employers will continue to will make the transition to competition over the be reduced an average of 15 percent from 1996 next five years. The agreement is a comprehensive through 2002.

3. Residential customers will not pay for the plan that will fundamentally change the way elec-reductions for business customers.

tricity is priced and delivered to our customers.

4. Customers'lectric demand will be increasingly Over a five-year phase-in starting next summer, the terms of the agreement will lower electric open to competing electric providers over a rates for customers, bolster economic four-year phase-in period where, by 2001, all of RGRE's electric load will be available for compe-

'~'/~der l development and job growth, and begin the transition to a competitive electric tition. We cannot predict how rapidly potential market. competitors will want to enter the local market.

RGRE is evolving into several regulated However, as they arrive, we will deliver their business segments; a generating segment, energy to customers at rates a distribution segment, and a customer specified in our new services segment. In addition, we have distribution tariff.

Lf .i '.) Hobbs Kerosene Lamp circa 1870 Courtesy of Jeanne Wenrich.

S. The agreement gives RGRE the opportunity to recover past investments which were approved by state regulators to meet our customers'nergy requirements, but may no longer be economi-cally competitive in the new unregulated market-place. These are the so called "stranded costs."

9. Last, and certainly not least, we struck an agree-ment that offers fairness to you, our shareholders.

We will have the opportunity to achieve a rate of return on equity of 11.5%, and the opportunity to share any earnings above that level with customers.

One of the first pairs of eye glasses manufactured by Bausch & Lotnb, c.1900. The Challenges and Opportunities Courtesy of Bausch 8 tomb Corp.

To implement the settlement and secure RGRE's

5. Throughout this period of time we will continue place in the deregulated gas and electric business, to retain our obligation to provide regulated we must:

ervices to all customers who cannot or do not ~ Keep the lights on and the gas flowing for oose another supplier. We provide vital everyone for lower cost.

ervices that must be available, irrespective of ~ Create the systems and facilities for a new the pace of the development of a competitive competitive system.

~ Develop a profitable, growing unregulated supply system.

6. RGRE will maintain and even improve its high energy business.

levels of energy reliability, system maintenance ~ Maintain our financial performance.

and emergency response. ~ Balance them all.

7. All of our generation will initially remain as part The key for the immediate future is balance.

of the regulated system. Although we are not Unlike other industries that have gone through required to divest our fossil-fueled electric deregulation and restructuring, we cannot abandon generation, it will have to compete in the whole- the old obligations to pursue new opportunity.

sale marketplace to recover its ongoing costs. For some time we will be running two systems; a Our nuclear generation will remain part of the traditional regulated system on which people can regulated system while we work with the other depend and a competitive system that will develop utilities and the Public Service Commission to at an uncertain pace.

arrive at a statewide determination of the role Certainly this balance is a challenge, but it is it will play in the new system. also full of opportunity. We believe that we are up to it and that our recent performance proves it, Glass insulators; Cobalt blue porcelain made by Victor Insulator, Original Vi c.1945; Hemingway Petticoat, 1893; Kodak Camera.

tall Tatunr No.l, c.1920; Hemingway Courtesy of George "Mickey Mouse "c. 1900 Eastman House.

Courtesy of Dick Bowman.

Ene~retfx We have been able to I said we have formed maintain our financial ENERGETIIX to compete performance, despite head to head with other decreased revenues resulting from rate reductions, nti f e I'r .>

energy providers in the open because of the continued outstanding performance marketplace. This is perhaps by our fine employees. Despite a substantial decline

~l the most striking de P arture in the workforce through early retirement programs from our traditional way of over the last several years, they have improved our doing business. performance and reduced our operating costs.

Our settlement agreement Another major decision reached by the Board was allows ENERGETIX to to repurchase up to 4.5 million shares of our com-compete both in and outside mon stock over the next three years. The reduction Rochester Gas Light of our service territory while of outstanding shares will increase the value of Company's first customers identifying itself as an remaining shares, eliminate the need and cost of are len street lamps and RGRE subsidiary. We expect paying out a dividend on those repurchased shares lightingfor 80 homes and ENERGETIIX not juSt tO and will likely reduce our overall cost of capital.

businesses nearits Mumford replace the traditional retail (Andrews) Street gas plant.

utility service in the sale of And the Market Performance Shows The Osbuni home (above) electricity and gas, but to the Results was the first home in In 1997 there was a substantial improvement of our in Decentber 1848 related Products and services. common stock market performance. The stock pri ENERGETllX presents our went from $ 19.125 per share to $ 34 by year's en greatest opportunity for growth. That resulted in a total annual rate of return, inc This is something about which you can expect ing dividends, of 92 percent, the best performance to hear more throughout, the coming year. among the 93 investor-owned electric utilities that comprise the Edison Electric Institute Index. While Earnings and Dividends- we hesitate to claim complete credit for the improve-The Shorter Term Good News ment that is influenced by many forces in the As we have already announced, your Board of marketplace, we believe our financial performance Directors voted in December to retain the current and balanced competitive settlement agreement dividend of $ 1.80 a year. While the continuation played a role. These factors allowed us to announce of the dividend will be reviewed each quarter by plans for the stock repurchase program and maintain the Board, this action made a forceful statement in the annual dividend which add strength to the light of some financial community speculation that foundation we are building in the marketplace.

RGRE might have to follow some other utilities and reduce its dividend. Leadership One of the reasons RGRE has been around so The Copier Model A, the first conuner- long with superior reliability, service and a strong cial xerographic process, was amrounced community presence has been the people who in 1949. This mamial device provided the have led the company as CEO. The list of RGRE knowledge and revenues with wlrich to

'1 develop automatic xerography.

Courtesy of Xerox Cor porotion. 1834 Rochester, NY founded. 1848 Rochester Gos Ugi c Named oher Nothoniol formed.

Rochester.

executives over the last 150 years is long and distinguished.

recently added to that list is Roger Kober. Roger retired this year after 32 years with the company, rising through the ranks in ~

u' h a variety of positions and responsibilities. He became chairman, president and CEO in 1992 and led the company through the restructuring necessary to position itself to compete in a less-regu-lated future. In dollars and deeds he enhanced RGRE's commit-ment to the community. Because of his foresight and leadership we are poised to succeed in a changing world. Although retired, we'l still have the benefit of Roger's advice and counsel as a member of our Board of Directors.

150 Years- Just the beginning I I I I This year, 1998, the year in which the way we do business begins I

taking a dramatic departure from the past, comes exactly 150 years after we first went into business. It was 1848 when Rochester Gas I I I Light Company first sent manufactured gas to streetlights and a few dozen homes and businesses in downtown Rochester then a flour milling boomtown of 32,000 people clustered along the powerful falls on Genesee River. We'e been a part of t ommunity just about as long as it's been around.

ghout our history we have had much to be thank-or; not the least of which is many loyal and support- I I I 'I ive customers, employees and stockholders. We need p

,I r Ill lI to pause to thank them, even as we look to the future. ~ Jr While we will be a different company in many 5 respects, we intend to honor our past and build

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on the strength that our history has provided.

We invite you to review some of the history in the pages that follow. The last 150 years have been important, but we see them as "Just the Beginning."

Thomas S. Richards z

Chairnian of the Board, Cl President and Chief Executive Officer .Q i" cs =an a~a January 30, 1998 gp, wc R, 185. hn Jacob Bausch opens a 1855 Henry Lomb partners with 1859 Charles Darwin publishes 1861 Ft. Sumter is fired vpon little eyeglass shop in Bousch - Bovsch & Lomb. The Origin of Species. Civil War. Rochester has Rochester's Reynolds 2,413 gas customers and Arcade building. 657 street lamps.

RGRE History Wooden pipes wrapped in Civil War blankets and he year of 1848 was a stirring soaked in pitch was RG&E's first attempt one in the young city of to transport natural Rochester, New York, The gas to Rochester. Tlie pipes leaked, and bustling town on the Genesee the project failed.

River and the Erie Canal had Today thousands of miles of steel and plastic pipe deliver gas already become the foremost Hour to our custoniers. milling center in the country. It had a population of 32,000, was a busy canal port and g$ >>y>>

r was located on two rail-

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roads. Conversion from I

whale oil to gas street i

lamps had begun.

- The RG&E Story Natural gas table lamp, c.1890-1910, collection The RG&E blacksmith shop of the Rochester Museuni & Science Center.

was important to operations in the early days.

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's Customer service field representatives of the early days ready for their rounds.

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L'f'r" The Central Oilgas Stove, patented in 1891, from the collection of tlie Rocliester Museum & Science Center.

1863 President Abraham Lincoln 1865 7he Civil sandt delivers his Gettysburg Genesee River floods its sr Address. dousing downtown Roche and the gas plants and rn

,j Smith's Arcade corner of West Main Ck Exchange Streets in 1877.

II PI I fnIIf Nt Early General Electnc crank key curved drawing Voltmeter.

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Early kerosene table and street lamps.

The ftrst Gas Plant at the intersection of Mumford Street (now Andrews Street) and the Genesee River in 1848. The Company had 150 customers at the tinte. Currently, we have 280,000 gas custoniers.

I I 1886 I Tar as a byproduct is 1870 An attempt to bring natural 1872 Citizens Gas Company is 1876 Philadelphia Centennial Expo.-

first sold to customers and the gas via wooden pipes 28 formed at East Station on promotes gas for cooking versus Company increases its stock miles from neighboring the banks of the Genesee oil, coal and wood, Rochester's dividend for the first time. West Bloomfield fails. River. gas companies follow.

7

1879 RGBc.E History Thomas Edison invents the incandescent light bulb.

he dawn of the "Elect 1879 comes to Roche'.. 'ge" Electricity comes to Rochester as Rochester The Genesee River provid-Electric Ught Co. A dynamo powers ten arofight street fff,;>> EhTt ~,r ed the first step in the genera-lamps and lighting for Reynolds Arcade Building. tion of electricity by furnishing le 1880 1

the water power to animate Municipal Gas light Co.

is formed. Rochester's first inovie theatre, 1889 the first generators. It was the 1880 catalyst for indus-Rochester bank clerk George Eastman gets a U.S. patent trial advances on a plate coating machine.

and modern life.

1881 The Brush Ught Co. is formed ond distributes alternating current over several miles of wire to Rochester factories. Rochester Raihvay & Light Company Ifomson/G.E.

original hydro plant, Station 4 1880. - Waffhour Meter - 1888 1881 vugh Electric street lamps begin to tt'>>iti>> ~l) r >>(

repbce 905 as the Brush Co.

sets vp hydroplant at Upper >>

Falb on the Genesee to power streetlights.

1881 George Eastman establishes T>>>>g>>>>>>l:>>I the Eastman Dry Plate Co. on State Sl. in Rochester. nviv! u iri'i i n W 'e >(a>>z~

)886 Edison Electric illuminating Company opens a steom and electric pbnt downtown at the current Wor Memorial Site.

The first telephone company sets vp in Rochester.

1887 incandescent bmps begin to replace arc lights.

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lj 1888 A yovng man, Thomos H.

Yawger, takes o job with Edison Electric ot the steam Trusted tools of die trade used by the Electrical pbnt where he worked 12 Standards Lab. These Weston 1888 Voltmeter hours o'doy, 7 days a week. and Millivoltmeters still operate today within manufactured specifications of .5% accuracy.

1888 Edison Electric illuminating becomes 1889 Rochester Gos Ught Co., 1891 Electric lights are installed o the first to meter electric vse. Citizens Gas and Municipal Bausch 8 lomb's manufacturing George Eastmon markets his first roll Gas combine as Rochester complex on St. Paul Street.

film camera ond calls it Kodak. Gas Co.

RGsc.E History An employee delivering nteters he formation of Rochester in the early 1900's Railway R Light Co. marked the real beginning of RGB. For the first time a single organiza-tion had the responsibility of supplying the whole community with electricity, gas and steam r~,

teston Voltmeter - 1888.

An early Rochester Railway & Light Co. ~ rur iftf ss>tr gas department crew Cetr rs installs gas pipeline with its manually drawn equipntent cart.

7) eh ' e A 1909, "Judd" electric laundry ntachine, one of

/s the new-fangled appliances J which saved

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• time and 1

f nfade home life easier.

Collection of the Rochester Museum &

Science Center.

~A", ~ggg Delivery of coke in the early 1900's Type K Potentiometer &

Anfmeter from the tunf of the century used by the Electrical Standards, I RQggy -"~!!I Ready for duty. RG&E employees pose tvith tlieir impressive fleet of vehicles at the Andrews Street facility - 1932.

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19. RGr E instalb 97 coke ovens 1929 Stock Market crashes. 1930 RG8E has 114,000 elec- 1935 The first of 8 steam boilers at old East Station and produces tric customers, 103,000 goes on line at "lhe Old dry quenched coke for resafe- gas customers and 349 House," one day to be the first to do so in the U.S. steam customers. called 8eebee Station.

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ool W ~,l olt, ~ '0 oil. i

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• o AH w \ pc,* S tang the steam pressure meters at the A oro w W ~o oooo Booster House Station What One Pound of Fat Will Do Rccjorrrtlt OAS rr eLC

~ o cl ttjc ecole Save every drop of fat you can spare and turn your butcher to be passed it over to

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r~ ~~ro Cliarter along for conversion into meinbers from

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RCCo rorsrr ror explosives that will defeat the r the first meeting jr solo rtjoo to oo rrjlc enemy and into medicine that will save lives. Each pound of ~~-"rr ~ of the Pioneers Club held at the fat will make enough smallpox inoculations to immunize 98 Rochester Club soldiers...or produce 8 cello. on April 27, phane gas masks...or provide

" .<<~ 1938.

10 rounds of ammunition for a 50-calibre machine gun. ~

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Reprinted from RG&E Monthly Messenger, November 1943.

1936 Thomas Yawger pvbIishes a o history of the development of electric utiIities,

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1940 RG8E has 139,00 electric customers, 113,00 gas customers and 242 steam It [electricityJ lifted the customers. burdens of millions ofpeople and gave nelv and vital 1941 impetus to industrial progress."

December 7 Pearl Harbor

-Thomas Yawger Electrical Standards Lab running attacked - U,S. declares tests in the 1930's with equipment war with Japan.

featured on these pages.

1945 VJ -

Doy The War is over 1946 ENIAC, the first electronic 1947 Rochester's Haloid Co. 1948 On the occasion c's ond RGSE pipes in notural computer, goes into service purchases rights to Chester Centennial, the first ot 4 gas to svpport Post-War at the University of Carlson's xerographic coaWired electric units goes growth. Pennsylvania. process. on line at Russell Station.

Edison, a founding fatlier of the Electric Age.

'pt'homas Charles Ed iSoli, Soli of the famous inventor, Edison 1879 inspects one of the first Reptica of first worivng light Sv'Ib, Bi-polar Direct Current Weston Hook Eye- corbonized poper Generators. Installed in 1888 filament.

I'/ by the Rochester Electric HYLO Econ Ical Eorly 1880's, carbon filoment.

RRLC (Rochester Light Co. in the Old Hydro on eor 1900's, Railway and Ught Company) Edison Station at Upper Falls, it was corbon fi ents.

1903 .1 907, corbon fiIoment.

in service for more than 50 years until it was retired and moved to an RGkE opera-tions center for display.

Bernstein - Eorly 1890's, corbon filament Sterling Special Spiral I early 1900's,

'I 'I>> carbon filoment.

G,E. Edison MAZDA Tontolvrn Filoment begon 19) 1, First dvctile, i 906 1913.

"drawn'ungsten fi'lament.

Mazda Workf Wor II Sktckovt began 1913, Svtb )9)t2,194$

slngkt coil tvt gsn)n, used to dimly light "Modern'ungsten criticol possogewoys. Coiled Coil filoment ~

began 1936 to present, Tt e evoietioa eliaore ttot)etta t)er watt began with the first crude filament of carbonized paper. Filaments of carbonized bamboo, squirted cellulose and General Electric's Metallized Carbon ("GEM"),

lighted the early days of electric light.

Pressed and drawn Tiingsten filaments Original Brush Light replaced Tantalum, and later, with GL's Company plant, 1881-1886. innovation of ductile Timgsten, higher Nokv known as Station 5.

efficiency coiled ftlatnent bulbs were possible. Today's High-Energy efficient bulbs can last up to 10 times longer st and use 75% less elec-e s tricity over those National Mazda ofjust a Light display - 1930's felv Courtesy John A. Wenrich years

>tyrKj3% v>>tj 9J~>>ryfo tS a rhtv) rn>>'t ago.

189 ester Railway Co. 1892 -

Avgust 4 Rochester Electric light, Brush Electric electrifies its lines and Eastman and Edison illuminating merge to become Courtesy Dry Plate Co. becomes known Rochester Gas and Electric. john A, Wenrich as Eastman Kodak Co.

1892 Westinghouse October 4 Citizens Ught Electric

& Power Co. is formed at Brown's Race, to become 4

I Anvneter-Stotion No. 3 al High Falls. 1913.

0 1893 July 23 Central Ught 8,

,5¹IIvIcc Power Co. is formed to 1

power some downtown "rs buildings.

1903 Rochester Ught & Power Co.

is formed in Janvory and A Rochester Railway and Light absorbs Centrol.

representative wakes a house call.

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1903 c?

Wilbvr and Orville Wright ~x'4'904 invent and test the first workable oirplane at Kitty Hawk.

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June - Rochester Ught &

Power is absorbed by RG&E and renamed as Rochester t Railway & Light Co.

~I 1908 Henry Ford produces the first Model T in Detroit, Station 5 water wheel - 1905.

Michigan. *

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45 q 1910 RG&E has 9,000 eleo tric customers, 52,000 gos customers ond 19 steom customers.

1916 I 4

Hydro Station ¹5 I IIII t~4 >,

upgrades and goes on Ppy line with 44,000 kilowatts of power.

1917 The United Stotes enters The Great War, Folmer Factograph 1918 meter reading camera used by The Armistice signed Power Billingfrom 1915.

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ending World War I. SCIIVICC SclrVICC

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SSSVICC IH A Specially designed to overcome the errors of the pad and pencil.

Manufactured in Rochester, M Y.

1919 Railway operation splits off 1920 RG8E has 35,000 electric 1925 RG&E builds a 12&tool. 1925 RG&E bvilds it te ond RG&E Corporation is customers, 81,000 gas high dam on the Genesee, headquarters at st formed. customers and 81 steam creating hydroelectric Ave.

customers. potential and Lake Rushford.

10

RGB:E History II~I: IIII~

Early testing equipment; ompany prosperity is a Hot Stick, Fisher Cable II>>>>>>

forerunner of community Testing Set and portable G.E. Voltmeter.

growth. R68iE has an essential function in the production of the products that bring Rochester fame in industry. Today we are the largest industrial base in

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New York State. sly

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ill III ggCNfIsra rstsss I>>JTi~ tr I >>O ll>>>>>>1 4>>>>+>>>>tug Rochester's Four Confers years ago.

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I 100 years in 1'elebrating 1948, complete with cake and the dancing RG&E 1 l f Kiloettes.

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Station 3 \

Iiydro plant n

',>'urbines.

195 anvfactvred gas begins 1950 Korean War begins. RG&E has 1952 RG&E's last coke oven is 1953 Korean War ends. Bausch to phase ovt in favor of 168,000 electric customers, shut down on August 6. & Lomb widens screens natural gas. 135,000 gas customers and with the introduction of 518 steom customers. Cinemascope lens.

13

I.

RGBc.E History he end of an era, the beginning of a new, With more gas and electric customers than ever, RG8iE expands its facilities and services into new territory, develops new technologies and enters the Nuclear Age as the Checking a circuit map in electric line computer revolution operations. dawns. RG8iE is in Expanding gas service, 8a the "fast lane." $ Volcott, NY - 1963.

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The RG&E Big Band still swings today, at community events. jtj'ater Tracking wind storm damage, 196 heater installed in Lake Ontario Russell -

1954 Station. 1954 Thomas Yawger dies as an octive RGlkE employee with 66 years of service.

1956 Tlie "Great Blackout,"

do you remember fast unit of Russell Station where you were?

goes on line 275,000 kilowotts total.

SIIgyygrsllillCa~tS c

BLACKOVT "8))B C)Tj 1959 hjIIrthtlrll+jjj f4 Q An 84,000kiiowott efectric generating unit goes on fine ot 8eebee Stotion. ~

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1960 RGSEhas202,000electric 1961 HaioidCo.becomesXerox 1965 November 9 - 8lackout 1966 Brookwood Sc.

customers and 157,000 Corp. First U,S. troops sent affects 80,000 square Information Center opens to gas customers. to Vietnam. miles of north east introduce people to the United States. advantages of nvdear power.

14

One stop shopping I for the conveniences Lispecting of modern life-at r I the gauges at one of the tnany Station 5.

RG&E appliance centers from the 1950's.

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'lwaltt Russell Station t

Early

/s pnesinaric cable cutter, used by linemen.

Glass lightning resistor, Pl/ s'I'tt circa .! u 196 irma Station 1970 RG8 E has 254,000 electric 1971 The Clean Air Act places 1973 RGB E instogs a 244nch gas 470,000 kilowatts on line, customers ond 196,000 gas heavy demand on oil and main to inueose reliability on schedule and on budget customers. natural gos lucis for e'lectric between east and west ot a cost of $ 88 million. generation. sectors.

Service Solutions Satisfaction the previous pages have shown, we have deep roots in the QN Rochester community and a charter commitment as one of its founding contributors. We support and serve its people, our customers. RGB is poised n pl=eR I

for sweeping change, and has anticipated I and embraced the future by leading the way gm=

with its deregulation agreement which the PSC recently approved, We'e ready for competition. And at RGB we'e saying that the first 150 years is just the beginning.

<M One-of-a-land technolog y is ssRO'uturistic featrired in the Energy Control tecluiolog y in remote meter Center at 1Vest Avenue.

reading devices: ENSCAN, and the Precise monitoring of gas and Itron MERLIN units; convenience, electric operations 24 liours accuracy and efficiency. a day allows the most rapid and efficient energy service response in utility history.

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! /j c P nr RGd'cE sponsorship of the Rochester Musetim & Science Center's Challenger Space Center Exhibit benefits the community at large.

1973 Heavy oil demand corn. 1975 Vietnam War ends. 1983 RGB E establishes The 1985 With deciinin 8E bined with the Arab Oil Community Heating Fund goes out of the steam Embargo creates the with the American Red heating buimess.

energy crisis of the 70s. Cross.

18

,¹ The history-making, unprecedented process of removal and replacement of a nuclear steam generator through the

/ top of the coirtainment dome at Ginna.

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/E2 9 rrrrr ~l~ rrrrt ~ tr New infrared coal thawing shed teclmology at Russell Statioii.

fa)s ter

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'. c gKs Today's computerized Station 5 automation inakes hydro functions easier, safer and inore efficient with the new Flectrical Standards Lab Master Controller Console. equipinent features fiilly I

automated calibration and remote site measure-rsr ment. It is 10,000 times inore accurate than tlie analog meters sliown throughout these pages.

State-of-the-art Customer Telephone Service Dept. handles over a million calls annually.

Setting the edge for competi- 1996 RGB E rep'laces the steam 1997 Deregulation plan approved 1991 e worst ice storm in NY history.

Two thirds of customers without

'992 tion, RG&E's corporate busi. generators in the Ginna by PSC. RG8E has 342,000 electric. 75% of service back in ness plan aims to break the plant on time and under electric and 280,000 gas 7 days, 100% back in 13 days. utility mentality mode. budget. customers. The Beginning.

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e 2TI'Ag8B?8llrg Dl/Cll+SlOB BBQ ABBE'lg OF FINANCIAL CONDITIONAND RESULTS OF OPERATIONS 0 he following is Management's assessment of certain significant factors affecting the financial condition and operating results of the Company. This assessment contains forward-looking statements which are subject to various risks and uncertainties. The Company's actual results could differ from those anticipated in such forward-looking statements as a result of numerous factors which may be beyond the Company's control by reason of factors such as electric and gas utility restructuring, future economic conditions, and developments in the legislative, regulatory and competitive environments in which the Company operates. Shown below is a listing of the principal items discussed.

Earnings Summary . .Page 19 Competition . .Page 20 PSC Competitive Opportunities Case Settlement Business and Financial Strategy PSC Position Paper on Nuclear Generation FERC Open Transmission Orders Gas Restructuring and PSC Negotiations Prospective I'inancial Position Rates and Regulatory Matters ~ .Page 27 1996 Electric Rate Settlement 1995 Gas Settlement Flexible Pricing Tariff Liquidity and Capital Resources .Page 28 Capital and Other Requirements Redemption of Securities Financing Results of Operations . .Page 31 Operating Revenues and Sales Fossil Unit Ratings and Status Operating Expenses Dividend Policy .Page 35 Earnings Summary Despite rate reductions in July 1996 and 1997, earnings applicable to Common Stock were nearly unchanged in 1997 due, in part, to the increased availability of the Company's Ginna nuclear generating facility following the 1996 refueling and steam generator replacement outage. Increased Company generation allowed the Company to reduce purchased electric expense, while increasing available power for customer consumption and resale. A decrease in financing costs as a result of discretionary redemptions and refinancing activities during the year also helped to increase earnings. In addition to rate reductions, offsetting a gain in 1997 earnings were a warmer heating season during the first quarter of the year coupled with a cooler summer which affected air conditioning load.

Basic and dilutive earnings per share of $ 2.30 in 1997 are down two cents compared to a year ago. In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128 ("SFAS-128"), "Earnings per Share," which changes the methodology of calculating earnings per share. The Company adopted SFAS No. 128 during the fourth quarter of 1997. The impact on earnings per share for prior periods is not material.

A discussion of the calculation of earnings per share is presented in Note 1 to the Notes to Financial Statements.

Basic and dilutive earnings per share of $ 1.69 reported in 1995 reflect a pretax reduction of

$ 44.2 million, or $ .75 per share net-of-tax, in connection with a negotiated settlement (see 1995 Gas Settlement discussed below) reached between the Company, Staff of the New York State Public Service Commission (PSC) and other parties resolving various proceedings to review issues affecting the Company's gas costs.

The impact of developing competition in the energy marketplace will affect future earnings.

The Competitive Opportunities Case Settlement (the "Settlement", see description below) allows for a phase-in to open electric markets while lowering customer prices and establishing an opportunity for competitive returns on shareholder investments. The nature and magnitude of the potential impact of the Settlement on the business of the Company will depend on the availability of qualified energy suppliers, the degree of customer participation and ultimate selection of an alternative energy supplier, the Company's ability to be competitive by controlling its operating expenses, and the Company's ultimate success in development of its unregulated business opportunities as permitted under the Settlement.

Future earnings will also be affected, in part, by the Company's degree of success in remarketing its excess gas capacity as set under the terms of the 1995 Gas Settlement and in controlling its local gas distribution costs. The Company believes it will be successful in meeting the 1995 Gas Settlement targets over the remaining year of the Settlement period, although no assurance may be given.

Competition OVERVIEW.

During 1996 and 1997, the Company, the Staff of the PSC, and several other parties negotiated an agreement which was approved by the PSC in November 1997. This agreement sets the framework for the introduction and development of open competition in the electric energy marketplace and lasts through the year 2002. Over this time, the way electricity is delivered to customers will fundamentally change. In phases, the Company will open its electric system to other suppliers. The system will be fully open to competitors by July of 2001.

These suppliers will compete to package and sell energy and related services to customers. The Company and its subsidiaries will be among the supplier choices. Competing suppliers willpay the Company a fee to use its electric distribution system and the Company will remain responsible for maintaining it and responding to most emergencies.

PSC COMPETITIVE OPPORTUNITIES CASE SETTLEMENT.

Through its "Competitive Opportunities Proceeding," the PSC has embarked on a fundamental restructuring of the electric utilityindustry in the State. Among other elements, the PSC's goals included lower rates for consumers and increased customer choice in obtaining electricity and other energy services.

The Company's proceeding was completed on November 26, 1997 with the PSC approval of a Settlement Agreement among the Company, the PSC Staff and other parties. The PSC's November 26, 1997 order of approval was confirmed by a full Opinion and Order (No. 98-1) issued January 14, 1998.

Summary. The Settlement provides for a transition to competition during its five-year ter (July 1, 1997 through June 30, 2002) and establishes the Company's electric rates for each Rochester Gas and Hectrlc Corporation annual period. A Retail Access Program willbe phased in, allowing customers to purchase electricity, and later electricity and capacity commitments, from sources other than the 20

Company. The Company will be provided a reasonable opportunity to recover prudently incurred costs, including those pertaining to generation and purchased power.

The Settlement also requires the Company to functionally separate its component operations: distribution, generation, and retailing. Any unregulated retail operations must be structurally separate from the regulated utility functions but may be funded with up to $ 100 million. In addition, the Company would have the option after receiving the necessary regulatory approvals to establish a holding company structure. Although the Settlement provides incentives for the sale of generating assets, it requires neither divestiture of generating or other assets, nor write off of "stranded costs" (the above-market costs, presumed to result from competition).

The Company believes that the Settlement will not adversely affect its eligibilityto continue to apply Statement of Financial Accounting Standards No. 71 ("SFAS-71"), with the exception of certain "to-go costs" associated with non-nuclear generation. If, contrary to the Company's view, such eligibilitywere adversely affected, a material write-down of assets, the amount of which is not presently determinable, could be required.

Rate Plan. Over the five year term of the Settlement, the cumulative rate reductions will be as follows: Rate Year 1: $ 3.5 million; Rate Year 2: $ 12.8 million; Rate Year 3: $ 27.6 million; Rate Year4: $ 39.5 million; and Rate Year5: $ 64.6million.

The Rate Plan permits the Company to offset against the foregoing total reductions certain inflation-related expenses, and certain amounts related to a power purchase agreement with Kamine/Besicorp Allegany L.P. (Kamine), including seven-eighths of any difference between Kamine costs currently included in rates and any increased amount resulting from enforcement of such agreement with any balance not recovered during the term of the Settlement subject to deferral for recovery after such term. The agreement is subject to litigation, as discussed in Note 10 of the Notes to Financial Statements. In the event of a settlement of the Kamine matter, the Settlement permits the Company to offset against rate reductions, the following amounts: Rate Year 2, $ 3.5 million; Rate Year 3, $ 8.4 million; Rate Year 4 and continuing until Settlement payments are complete or July 1, 2002, whichever is later, $ 10.5 million.

In the event that the Company earns a return on common equity in excess of an effective rate of 11.50 percent over the entire five-year term of the Settlement, 50 percent of such excess will be used to write down deferred costs accumulated during the term. The other 50 percent of the excess willbe used to write down accumulated deferrals or investment in electric plant or Regulatory Assets (which are deferred costs whose classification as an asset on the balance sheet is permitted by SFAS-71). If certain extraordinary events occur, including a rate of return on common equity below 8.5 percent or above 14.5 percent, or a pretax interest coverage below 2.5 times, then either the Company or any other party to the Settlement would have the right to petition the PSC for review of the Settlement and appropriate remedial action.

Retail Access. RGRE's Energy Choice Program willbe available to all of its customers, without regard to customer class, on an equal basis up to certain usage caps. On July 1, 1998, customers whose electric loads represent approximately 10 percent of the Company's total annual retail sales will be eligible to purchase electricity (but not capacity commitments) from alternative suppliers. On July 1, 1999, customers with 20 percent of total sales willbe eligible and as of July 1, 2000, 30 percent of total sales will be eligible. As of July 1, 2001, all retail customers will be eligible to purchase energy and capacity from alternative suppliers.

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During the initial, energy only stage of the Retail Access Program, the Company's distribution rate will be set by deducting 2.3 cents per kilowatt hour ("KWH")from its full service ("bundled" ) rates and Load Serving Entities acting as retailers in the Company's service area will be entitled to purchase electricity from the Company at a rate of 1.9 cents per KWH.

During the energy and capacity stage, the rate will generally equal the bundled rate less the cost of the electric commodity and the Company's non-nuclear generating capacity. These commodity and capacity costs, generally referred to as "contestable costs," are estimated to be 3.2 cents per KWH, inclusive of gross receipts taxes.

Generating Assets. The Company will not be required to divest any of its generation facilities. To the extent that the Company sells any generating assets during the term of the Settlement, gains on such sales will be shared between the Company and customers. With regard to losses on such sales, the Settlement acknowledges an intent that the Company will be permitted to recover such losses through distribution rates during the term of the Settlement.

Future rate treatment is to be consistent with the principle that the Company is to have a reasonable opportunity to recover such costs.

"To-go costs" of the Company's non-nuclear resources (i.e., capital costs incurred after February 28, 1997, operation and maintenance expenses, and property, payroll and other taxes) are to be recovered through the distribution access tariff. The fixed portion of to-go costs would be recovered in full through the distribution access tariff until July 1, 1999 and subject to the market thereafter in accordance with the phase-in schedule for the Retail Access Program described above. The variable portion of non-nuclear to-go costs would also be subject to the market in accordance with the phase-in Schedule described above. Upon extension of eligibilityfor the Retail Access Program to all retail customers on July 1, 2001, the Company would be authorized to modify its distribution access rates, so as to hold constant the degree to which its to-go costs are at risk for recovery through the market. Thus, while the recovery of non-nuclear to-go costs would continue to be through the market, recovery of nuclear costs would remain recoverable through regulated rates. No change in such treatment of nuclear facilities would be implemented prior to the PSC's resolution of the issues raised in its Staff Report on nuclear generation (see PSC Position'Paper on Nuclear Generation). Shutdown and decommissioning costs would be recovered during the term of the Settlement in a manner consistent with past ratemaking treatment.

Pilot Program. Consistent with a PSC order issued June 23, 1997 in a separate proceeding involving establishment of pilot programs for farmers and food processors, the Settlement provides that the Company's Retail Access Program will commence on February 1, 1998 for those groups within the Company's service area.

Tariff Filing. On December 1, 1997, the Company submitted to the PSC its proposed tariffs and a Distribution Operating Agreement to establish "Energy Choice", the Company's proposed retail access program to implement the terms of the Settlement. In an order issued January 21, 1998, the PSC approved certain provisions of the December 1, 1997 tariff filing and required the Company to revise others. In late January 1998 the Company filed revisions to the tariff to incorporate the changes required by the PSC'8 order.

Miscellaneous. After approval of the Settlement becomes final and non-appealable, the Company will withdraw legal appeals which challenge various PSC Orders regarding the PSC Rochrsttr Competitive Opportunities Proceeding, establishment of a pilot program pursuant to those Gas and Klcrtrlo Corporation proceedings, and certain provisions of the 1996 Electric Rate Settlement.

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The present Settlement supersedes the 1996 Rate Settlement. Various incentive and penalty provisions in the 1996 Electric Rate Settlement are eliminated.

BUSINESS AND FINANCIALSTRATEGY: THE COMPANY'S RESPONSE.

Under the terms of the Settlement, the Company will functionally separate its generation, distribution, and regulated energy services businesses. As permitted by the Settlement, the Company has established a separate unregulated subsidiary called Energetix which will be able to compete for energy, energy services and products both in and outside the Company's existing franchise service territory. The Company has also developed an integrated financial strategy which includes new business development initiatives and a Common Stock share repurchase program.

Energy Choice. Within the framework of the Energy Choice Program, the Company will unbundle traditional utilityservices. Retail electric customers in the Company's service territory will have the opportunity to purchase energy, capacity, and retailing services from competitive energy service companies, referred to as Load Serving Entities (LSEs). They may also continue to purchase fully-bundled electric service from the Company under existing retail tariffs.

V General Structure: Energy Choice adopts the "single-retailer" model for the relationship between RGRE, the LSEs, and retail customers. Under the "single-retailer" model the regulated utility's customer is the LSE, whose customers are the retail customers. The relationship between the regulated utility and retail customers is substantially eliminated.

The LSE assumes responsibility for providing its retail customers with bundled energy and delivery services, and for virtually all related retailing functions, including direct contact and communications with retail customers. With the exception of transmission and distribution service, the LSE will procure for its customers, or will itself create and provide them with, all necessary components of fully bundled service on a competitive basis.

Throughout the term of the Settlement, RGRE will continue to provide regulated and fully bundled electric service under its retail service tariff to customers who choose to continue with or return to such service, and to customers to whom no competitive alternative is offered.

Until the development of a wholesale market for generating capacity, there will be no suitable mechanism for the reallocation, from the regulated utility to the LSE, of responsibility for ensuring adequate installed reserve capacity. Accordingly, during the initial "Energy Only" stage of the Energy Choice Program Ouly 1, 1998 to July 1, 1999), LSEs will be able to choose their own sources of energy supply, while RGRE will provide to LSEs, and will be compensated for, the generating capacity (installed reserve) needed to serve their retail customers reliably. During the "Energy and Capacity" stage commencing July 1, 1999, the LSEs will be able to select, and will be responsible for procuring, generating capacity, as well as energy, to serve the loads of their retail customers, and distribution charges willbe accordingly reduced as hereinafter described. If by July 1, 1998 there is not a functioning Statewide energy and capacity market (see discussion under FERC Open Transmission Orders), the Company may petition the PSC for deferral of the scheduled commencement of the Energy and Capacity stage.

V Summary: The availability of LSEs to serve eligible customers and how quickly they decide to become involved cannot be determined. Likewise, the Company is not able to predict 23

the number of customers that may chose to no longer be served under the Company's regulated tariffs.

The proposed tariffs for Energy Choice as filed by the Company are expected to become effective February 1, 1998 for the pilot program. The PSC has not set a decision-making date for the full-scale program. The Company is unable to predict what final rules or regulations will ultimately be adopted by the PSC for this program.

Unregulated Energy Services Company. It is part of the Company's financial strategy to stimulate growth by entering into unregulated businesses. The first step in this direction was the formation and operation of Energetix effective January 1, 1998. Energetix is an unregulated subsidiary of the Company that will bring energy products and services to the marketplace both within and outside the Company's franchise area.

The Settlement approved by the PSC in November allows for the investment of up to

$ 100 million in unregulated businesses during the next five years. During 1998, the Company expects to determine the actual level of the initial investments to be made in unregulated business opportunities.

On July 1, 1997 the Company and Energetix filed with the Federal Energy Regulatory Commission (FERC) seeking authorization to engage in the wholesale sale of electric energy and capacity at market-based rates. These applications were accepted by FERC on September 12, 1997. The Company must seek separate authorization in order to sell electric energy to Energetix at market-based rates.

Stock Repurchase Plan, In December 1997 the Company's Board of Directors approved a Stock Repurchase Plan. This plan, which is subject to approval by the PSC, provides for the repurchase over the next three years of up to 4.5 million shares of Common Stock, representing approximately 11.5 percent of the Company's outstanding shares of Common Stock at December 31, 1997. The Company expects a PSC decision in early 1998.

Nuclear Operating Company. In October 1996, the Company and Niagara Mohawk Power Corporation (Niagara) announced plans to establish a nuclear operating company to be known as the New York Nuclear Operating Company (NYNOC). Since that time NYNOC has been organized as a New York Limited Liability Company and the Consolidated Edison Company of New York and New York Power Authority have announced their desire to move forward with the Company and Niagara with plans to implement NYNOC. It is envisioned that NYNOC would eventually assume responsibility for operation of all the nuclear plants in New York State, including the Company's totally owned Ginna Nuclear Plant and jointly owned Nine Mile Two. The Company believes that NYNOC could contribute to maintaining a high level of operational performance, contribute to continued satisfactory Nuclear Regulatory Commission (NRC) compliance, provide opportunities for continued cost reduction and provide the basis for satisfactory economic regulation by the PSC. Various groups are now involved in the detailed studies and analyses required before a definitive decision to proceed with NYNOC can be made. The organizing utilities have submitted comments on the PSC Staff position paper on nuclear generation (discussed below under the heading PSC Position Paper on Nuclear Generation) noting that the Staff proposal would nullify the potential benefits of NYNOC.

PSC POSITION PAPER ON NUCLEAR GENERATION.

On August 27, 1997, the PSC requested comments from interested parties on a PSC Staff Rochcstcs Gas and Elccutc Corpora non position paper concerning the treatment of nuclear generation after a transition period. The Staff paper concludes that (1) nuclear generation should operate on a competitive basis, (2) sale 24

of generation plants at auction to third parties is the preferred means of determining market value and offers the greatest potential for mitigation of stranded costs and the elimination of anti-competitive subsidies, and (3) where third party sales are not feasible, "to-go" costs (fuel, labor and other operating costs, prospective capital additions, property taxes and insurance) must be recovered in the wholesale market price of power.

On October 15, 1997, the Company and four other utilities jointly responded to the PSC.

The utilities believe that the inherent operating characteristics of nuclear generation and the implications of NRC regulation require that nuclear plants have access to an adequate revenue stream and that such plants should be treated for dispatch purposes as baseload, must run units. The utilities urge the PSC to adopt a process that would enable all parties to fully develop the necessary facts and analyses and to invite the NRC to participate in addressing the future of nuclear generation in New York State. Certain other parties have filed comments on the position paper, some of which oppose full recovery of "stranded costs" that could result from sales of plants at less than book costs. The Company is unable to predict the outcome of the PSC's consideration.

FERC OPEN TRANSMISSION ORDERS AND COMPANY FILINGS.

In early 1996 FERC issued new rules to facilitate the development of competitive wholesale markets by requiring electric utilities to offer "open-access" transmission service on a non-discriminatory basis in tariffs. The Company filed its required transmission service tariff on July 9, 1996. The new tariff would apply to wholesale purchases and sales made by the l'l Ill I/

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Company and the financial impact will depend on prevailing energy prices in the wholesale market. The near-term impacts of this tariff are not expected to be significant. On March 6, 1997, the Company reached a settlement in principle with the other parties respecting rate issues. FERC approval of the settlement was granted on June 25, 1997.

On January 31, 1997, the utilities filed a "Comprehensive Proposal To Restructure the New York Wholesale Electric Market" with the FERC. As proposed, the existing New York Power Pool (NYPP) will be dissolved and an independent system operator (ISO) will administer a state-wide open access tariff and provide for the short-term reliable operation of the bulk power system in the state. In addition to proposing a FERC-endorsed ISO, the proposal calls for creation of a New York Power Exchange and a New York State Reliability Council. An additional supplemental filing with I'ERC was made on December 19,1997 which lays out a specific timeframe for the implementation of a competitive wholesale electricity market in New York State. The utilities have requested FERC approval of their restructuring plan no later than March 31, 1998, which would allow the ISO to be operational by June 30, 1998. The timetable for retail competition will be determined for each utility in accordance with individual settlements in the Competitive Opportunities Proceeding.

Significant changes to pricing procedures now in effect within NYPP are expected, but it is unclear what effect these changes may have once other regulatory changes in New York State are implemented. At the present time, the Company cannot predict what effects regulations ultimately adopted by FERC will have, if any, on future operations or the financial condition of the Company.

GAS RESTRUCTURING AND PSC NEGOTIATIONS.

In March 1996 the PSC issued an Order and approved utility restructuring plans designed to open up the local natural gas market to competition and thereby allow residential, small business and commercial/industrial users the same ability to purchase their gas supplies from a variety of sources, other than the local utility, that larger industrial customers already have.

During a three-year phase-in period the State's gas utilities would be permitted to require customers converting from sales service to take associated pipeline capacity for which the utilities had originally contracted. The PSC has indicated that it will address the issue of how the costs of such capacity would be recovered after the three-year period during the third year of the phase-in period. The PSC Staff has recently issued a position paper on The Future of the Natural Gas Industry in which the Staff proposes that local distribution companies (such as the Company) exit the merchant function in five years. Treatment of existing pipeline capacity contracts and Provider of Last Resort responsibilities are substantial issues to be worked out between the PSC, the local gas distribution companies and other stakeholders. See Note 10 of the Notes to Financial Statements for further information about the PSC gas restructuring proceedings and the PSC Staff position paper.

Gas customers have had a choice of suppliers since November 1, 1996. Under separate transportation tariffs, the Company distributes the gas and charges for the distribution as well as associated services. The Company believes its position in the market is such that it will maintain its distribution system margins. Under a phase-in limitation, loss of gas commodity sales may be limited to five percent of the Company's annual gas volume the first year, and then five additional percent for each of the following two years. The phase-in will be reviewe Recharter Gar and Hcctrlc as experience is gained with the program. The Company anticipates that the use of Corporation 2B

transportation gas service will increase. Through December 31, 1997, 150 customers were being served under this service.

In July 1997, the Company commenced negotiations with the PSC Staff and other parties with the objective of developing a multi-year settlement of issues pertaining to the Company's gas business that would take effect upon expiration of the current 1995 Gas Settlement (see Rates and Regulatory Matters) on June 30, 1998. A further objective of these negotiations is to maximize the efficiencies of the entire business by structuring a settlement that willbe as consistent as possible with the provisions of the Settlement in the Competitive Opportunities Proceeding, as discussed earlier. Negotiations are at an early stage; accordingly, the Company can make no prediction as to their outcome.

COMPETITION AND THE COMPANY'S PROSPECTIVE FINANCIALPOSITION.

With PSC approval, the Company has deferred certain costs rather than recognize them on its books when incurred. Such deferred costs are then recognized as expenses when they are included in rates and recovered from customers. Such deferral accounting is permitted by SFAS-

71. These deferred costs are shown as Regulatory Assets on the Company's Balance Sheet and a discussion and summarization of such Regulatory Assets is presented in Note 10 of the Notes to Financial Statements.

paletot'y Asseg- In a competitive electric market, strandable assets would End of Period (millions of dollars) arise when investments are made in facilities, or costs are 311 incurred to service customers, and such costs are not fully 284 recoverable in market-based rates. Estimates of such strandable assets are highly sensitive to the competitive wholesale market price assumed in the estimation. In a competitive natural gas market, strandable assets would arise where customers migrate away from dependence on the Company for full service, leaving the Company with surplus pipeline and storage capacity, as well as natural gas supplies, under contract. A discussion of strandable assets I,

$ is presented in Note 10 of the Notes to Financial 4 Statements.

At December 31, 1997 the Company believes that its 1995 1996 1997 regulatory and strandable assets, if any, are not impaired and are probable of recovery. The Settlement in the Competitive Opportunities Proceeding does not impair the opportunity of the Company to recover its investment in these assets. However, the PSC has published a Staff paper to address issues surrounding nuclear generation, including the determination of fair market value for facilities after a five year restructuring transition period. It appears that the PSC may seek to apply similar principles to other types of generating facilities. A determination in this proceeding could have an impact on strandable assets.

Rates and Regulatory Matters 1996 ELECTRIC RATE SETI'LEMENT The PSC approved a Settlement Agreement (1996 Rate Settlement) among the Company, PSC Staff and several other parties which set rates for a three-year period commencing July 1, 1996.

The Competitive Opportunities Settlement (Settlement) supersedes the 1996 Rate Settlement. A rate reduction for the first rate year under the Settlement of 0.5 percent ($ 3.5 million) commencing July 1, 1997 is equal to the previously approved planned reduction under the 1996 Rate Settlement. After approval of the Settlement becomes final and non-appealable, the Company will terminate its petition seeking judicial review of the 1996 Rate Settlement.

1995 GAS SETTLEMENT In October of 1995, a settlement of various gas rate and management issues was finalized (the 1995 Gas Settlement). This settlement affects the rate treatment of various gas costs through October 31, 1998.

Highlights of the 1995 Gas Settlement are:

V The Company will forego, for three years ending in mid-1998, gas rate increases exclusive of the cost of natural gas and certain cost increases imposed by interstate pipelines.

V The Company has agreed not to charge customers for pipeline capacity costs in 1996, 1997 and 1998 of $ 22.5 million, $ 24.5 million, and $ 27.2 million, respectively. The Company may sell its excess transportation capacity in the market under FERC rules.

Y The Company agreed to write off excess gas pipeline capacity and other costs incurred through 1995.

The economic effect of the 1995 Gas Settlement on the Company's 1995 results of operations was to reduce earnings by $ .75 per share.

The Company has entered into several agreements to help manage its pipeline capacity costs and has successfully met settlement targets for capacity remarketing for the twelve months'eriods ending October 31, 1997 and October 31, 1996,'thereby avoiding negative financial impacts for those periods. The Company believes that it will also be successful in meeting the Settlement targets in the remaining year of the Settlement period, although no assurance may be given.

FLEXIBLE PRICING TARIFF.

Under its flexible pricing tariff for major industrial and commercial electric customers, the Company may negotiate competitive electric rates at discount prices to compete with alternative power sources, such as customer-owned generation facilities. Pursuant to the terms of the Settlement under the Competitive Opportunities Proceeding, the Company will absorb, as it has done since the inception of these rates, the difference between the discounted rates paid under these individual contracts and the rates that would otherwise apply. Approximately 27 percent of all electric sales (KWHs) to customers are made under long-term contracts, primarily to large industrial customers. These contracts represent approximately 42 percent of the Company's revenues from its commercial and industrial customers. The Company has not experienced any significant customer loss due to competitive alternative arrangements. Certain provisions of a flexible rate contract with the University of Rochester have been challenged by the Antitrust Division of the United States Department of Justice as discussed in Note 10 to the Financial Statements under the heading Litigation.

Liquidity and Capital Resources Cash flow, mainly from operations, provided the funds for construction expenditures, debt Roeherter Ger end Electric Corporrtlon reductions, redemption of Preferred Stock and the payment of dividends during 1997 (see Consolidated Statement of Cash Flows).

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CAPITAL AND OTHER REQUIREMENTS.

The Company's capital requirements relate primarily to expenditures for energy delivery, including electric transmission and distribution facilities and gas mains and services as well as nuclear fuel, electric production and the repayment of existing debt. In 1996 the Company completed replacement of the two steam generators at the Ginna Nuclear Plant which resulted in improved plant efficiency. The Company spent approximately $ 46 million on this project in 1996 and $ 29 million in 1995. The Company has no plans to install additional baseload generation.

Purchased Power Requirement. Under federal and New York State laws and regulations, the Company is required to purchase the electrical output of unregulated cogeneration facilities which meet certain criteria (Qualifying Facilities). The Company was compelled by regulators to enter into a contract with Kamine for approximately 55 megawatts of capacity, the circumstances of which are discussed in Note 10 of the Notes to Financial Statements. The Company has no other long-term obligations to purchase energy from Qualifying Facilities.

Year 2000 Computer Issues. As the year 2000 approaches many companies face a potentially serious information systems (computer) problem because most software application and operational programs written in the past will not properly recognize calendar dates beginning with the year 2000. At this time, the Company believes that the problem is being addressed properly to prevent any adverse operational or financial impacts, The Company believes it will incur approximately $ 15 million of costs through January 1, 2000, associated with making the necessary modifications identified to date. Total costs incurred in 1997 were approximately $ 1.4 million.

Environmental Issues. The production and delivery of energy are necessarily accompanied by the release of by-products subject to environmental controls. The Company has taken a variety of measures (e.g,, self-auditing, recycling and waste minimization, training of employees in hazardous waste management) to reduce the potential for adverse environmental effects from its energy operations. A more detailed discussion concerning the Company's environmental matters, including a discussion of the federal Clean Air Act Amendments, can be found in Note 10 of the Notes to Financial Statements.

REDEMPTION OF SECURITIES.

In addition to first mortgage bond maturities and mandatory sinking fund obligations over the past three years, discretionary redemption of securities totaled $ 1 million in 1995, $ 49 million in 1996, and approximately $ 152 million in 1997. Included in discretionary redemptions for 1997 were nearly $ 102 million of tax-exempt securities which were refinanced with new multi-mode tax-exempt bonds as discussed under Financing.

Capital Requirements Summary. Capital requirements for the three-year period 1995 to 1997 and the current estimate of capital requirements through 2000 are summarized in the Capital Requirements table.

The Company's capital expenditures program is under continuous review and could be revised for any number of issues. The Company also may consider, as conditions warrant, the redemption or refinancing of certain outstanding long-term securities.

CAPITAL REQUIREMENTS Actual Projected 1995 1996 1997 1998 1999 2000 Type of Facilities (Millions of Dollars)

Electric Property Production $ 48 $ 57 $ 9 $ 19 $ 17 $ 13 Energy Delivery 25 23 28 43 32 28 Subtotal 73 80 37 62 49 41 Nuclear I'uel 17 16 19 15 16 27 Total Electric 90 96 56 77 65 68 Gas Property 14 17 22 23 17 18 Common Property 4 6 9 24 18 6 Total 108 119 87 124 100 92 Carrying Costs Allowance for Funds Used During Construction 3 2 1 1 1 Total Construction Requirements 111 121 88 125 101 93 Securities Redemptions, Maturities and Sinking Fund Obligations* 1 67 182 40 10 30 Total Capital Requirements $ 112 $ 188 $ 270 $ 165 $ 111 $ 123

• Excludes prospective refinancings.

FINANCING.

Capital requirements in 1997, including the discretionary redemption of $ 49.7 million of securities, were satisfied primarily with internally generated funds. In addition, the Company at its option refinanced $ 101.9 million of outstanding tax-exempt securities with the proceeds from the sale on August 19, 1997 of $ 101.9 million of New York State Energy Research and Development Authority (NYSERDA) multi-mode tax-exempt bonds due August 1, 2032.

Interest rates on these bonds may be set weekly or may be set for varying periods based on market conditions at the time. The weighted average interest rate on these bonds was 3.65 percent for 1997.

On September 16, 1997, the Company completed arrangements for the delivery in September 1998 of $ 25.5 million of 5.95% NYSERDA tax-exempt bonds due September 1, 2033.

Proceeds will be used to redeem an issue of tax-exempt first mortgage bonds which is not redeemable until December 1998.

Under the Company's Performance Stock Option Plan, options for 403,605 shares of Common Stock became exercisable due to Common Stock market price performance during 1997. During 1997, Common Stock shares outstanding increased by 10,883 shares as a result of those options which were actually exercised during the year. These were the only shares of Common Stock issued by the Company during 1997.

The Company foresees modest near-term financing requirements. With an increasingly competitive environment, the Company believes maintaining a high degree of financial flexibilityis critical. In this regard, the Company's long-term objective is to control capital expenditures. Moreover, in 1998 the Company may begin funding a stock repurchase program and investments in unregulated businesses as discussed under Competition.

Capital and other cash requirements during 1998 are anticipated to be satisfied primarily Rochester from a combination of internally generated funds and the use of short-term credit Gas and Hectrlc Corporation

arrangements. The Company may refinance maturing long-term debt and Preferred Stock obligations during 1998 depending on prevailing financial market conditions.

The Company anticipates utilizing its credit agreements and unsecured lines of credit to meet any interim external financing needs prior to issuing any long-term securities. For information with respect to short-term borrowing arrangements and limitations, see Note 9 of the Notes to Financial Statements. As financial market conditions warrant, the Company may also, from time to time, redeem higher cost senior securities.

Results of Operations The following financial review identifies the causes of significant changes in the amounts of revenues and expenses, comparing 1997 to 1996 and 1996 to 1995. The Notes to Financial Statements contain additional information.

OPERATING REVENUES AND SALES.

Operating revenues in 1997 were lower than 1996 with the effect of electric base rate decreases in July 1996 and 1997 and lower therm sales of gas due to milder weather than last year partially offset by higher customer electric kilowatt-hour sales resulting from increased customers and higher electric sales to other utilities. Despite lower operating revenues, operating revenues less fuel expenses were nearly unchanged reflecting primarily a decline in purchased electricity expense as a result of increased availability of the Company's generating facilities.

The effect of weather variations on operating revenues is most measurable in the Gas Department, where revenues from spaceheating customers comprise about 90 to 95 percent of total gas operating revenues. Compared to a year earlier, weather in the Company's service area was 9.0 percent warmer during the first three months of 1997 and 1.1 percent warmer for the entire year on a calendar month heating degree day basis. In contrast, weather during 1996 was 7.1 percent colder than 1995 on a calendar month heating degree day basis. With elimination of a weather normalization clause in the Company's gas tariff effective November 1, 1995, abnormal weather variations may have a more pronounced effect on gas revenues.

Cooler than normal summer weather during 1997 and 1996 hampered the demand for air conditioning usage, ecteic Sales with a more pronounced effect in 1997 with the 1997 (thousands of mNth) weather being approximately 27 percent cooler than 1996.

Compared with a year earlier, kilowatt-hour sales of energy to retail customers were up 1.2 percent in 1997, following a 0.3 percent increase in 1996. Sales to commercial customers achieved the largest gain in 1997.

Sales to industrial customers led the increase in 1996 compared to a year earlier and were driven by one large industrial customer who purchased more electric power as an alternative to power produced at its own plant.

Decreased electric demand for air conditioning usage caused by cooler summer weather had an impact on kilowatt-hour sales in 1996 and 1997.

Fluctuations in revenues from electric sales to other 1995 1996 1997 utilities are generally related to the Company's customer energy requirements, the wholesale energy market,

availability of transmission, and the availability of electric generation from Company facilities.

Revenues from electric sales to other utilities rose in 1997 due to increased sales resulting from greater availability of our combined nuclear and fossil generation, a favorable wholesale market in the second half of the year, and increased marketing of available capacity. In contrast to 1997, revenues from sales to other electric utilities declined in 1996 reflecting decreased kilowatt-hour sales to such utilities and less generation from the Company's Ginna Nuclear Plant.

The transportation of gas for large-volume customers who are able to purchase natural gas from sources other

@ Sold' Tmngpoeted'millions than the Company is an important component of the of therms)

Company's marketing mix. Company facilities are used to 561 520 538 distribute this gas, which amounted to 16.6 million dekatherms in 1997 and 16.8 million dekatherms in 1996.

asia These purchases by eligible customers have caused decreases in Company revenues, with offsetting decreases in purchased gas expenses and, in general, do not adversely affect earnings because transportation customers are billed a++

r

'rrt at rates which, except for the cost of buying and transporting gas to the Company's city gate, approximate the rates charged the Company's retail gas service customers. Gas supplies transported in this manner are not included in Company therm sales, depressing reported rY.

'995 gas sales to non-residential customers.

1996 1997 Therms of gas sold and transported were down 4.1 percent in 1997, after increasing nearly eight percent in 1996. These changes reflect, primarily, the effect of weather variations on therm sales to customers with spaceheating. If adjusted for normal weather conditions, residential gas sales would have decreased about 1.5 percent in 1997 over 1996, while non-residential sales, including gas transported, would have increased approximately two percent in 1997. The average use per residential gas customer, when adjusted for normal weather conditions, showed a modest decrease in 1996 and 1997.

FOSSIL UNIT RATINGS AND STATUS.

Several of the Company's fossil-fueled generating units have been temporarily derated since February 1997 to maintain acceptable opacity levels while the Company investigates additional engineering solutions to address the opacity of the Units'missions ( see Note 10 of the Notes to Financial Statements under the heading "Environmental Matters, Opacity Issue" ). The financial impact of the deratings includes the lost opportunity associated with energy sales and, at times, the need to make additional purchases to meet system requirements. While the deratings have decreased earnings, and will continue to do so, the amount is not expected to be material.

The NYPP is in the process of evaluating new rules for its system load regulation. Opacity limitations are expected to reduce the ability of the Company to react to changes in load and Rochester Gas anct Bectrlc Corporatton 32

provide system load regulation services when called upon by the NYPP, resulting in additional costs. Depending on the new NYPP requirements, and whether the deratings remain in effect, the revised rules could result in the Company having to purchase additional regulation services which may cost between $ 500,000 and $ 2,500,000 annually. The Company intends to make a

$ 2.7 million capital upgrade to the precipitator of one of its fossil-fueled generating units which is expected to remove a substantial portion of the opacity exceedance which led to the derating.

On January 21, 1998 the Company decided to retire Beebee Station by mid-1999. Factors such as the plant's age, location in an area no longer consistent with the surrounding development, lack of a rail/coal delivery system and more stringent clean air regulations made the plant uneconomical in the developing competitive generation business. The retirement of Beebee Station is not expected to have a material effect on the Company's financial position or results of operations. The plant willbe fully depreciated at the time of retirement. The Settlement provides that all prudently incurred incremental costs associated with the shut down and decommisioning of the plant are recoverable through the Company's distribution access tariff. The electric capability and energy currently provided by the plant is expected to be replaced by purchased power as needed.

On December 1, 1997 Niagara announced a plan to sell its fossil-fueled and hydroelectric generating stations by auction in 1998. This plan was agreed to as part of Niagara's Power Choice Settlement currently under review by the PSC. The Company intends to include its 24 percent share of the Oswego Steam Station Unit 6 (Oswego 6) for sale as part of Niagara's auction. Any gains or losses realized by the Company from the sale of its share of Oswego 6 would be treated in accordance with the terms of the Settlement under the Competitive Opportunities Proceeding.

OPERATING EXPENSES.

Energy Costs Electric. Higher fuel expense for electric generation in 1997 compared with a year earlier reflects increased generation from both fossil and nuclear-fueled plants. Total Company electric generation was up approximately 21 percent in 1997 over 1996. For the 1996 comparison period, lower electric fuel costs resulted from less electric generation. The fuel cost adjustment clause has been eliminated effective July 1, 1996. Company shareholders will assume the full benefits and detriments realized from actual electric fuel costs and generation mix compared with PSC-approved forecast amounts.

The Company normally purchases electric power to supplement its own generation when needed to meet load or reserve requirements, and when such power is available at a cost lower than the Company's production cost. Increased availability and efficiencies following the 1996 installation of new steam generators at the Ginna nuclear plant resulted in lower kilowatt-hour purchases of electricity in 1997 which led to a decline in purchased electric power expense.

Despite an increase in kilowatt-hours purchased in 1996, electric purchased power expense was also down in 1996 reflecting, in part, lower purchases from the higher-cost Kamine facility as discussed below.

Under a contract with Kamine, the Company has been required to purchase unneeded energy at uneconomical rates (see Note 10 of the Notes to Financial Statements). The 33

Company purchased 337 thousand megawatt-hours of energy from Kamine at a total price of

$ 16.6 million in 1995. The Kamine facility has been out of service since the middle of February 1996 which helped to lower the unit cost for purchased electricity in 1996 compared to 1995.

Energy Management and Costs Gas. The Company acquires gas supply and transportation capacity based on its requirements to meet peak loads which occur in the winter months. The Company is committed to transportation capacity on the Empire State Pipeline (Empire) and the CNG Transmission Corporation (CNG) pipeline systems, as well as to upstream pipeline transportation and storage services. The combined CNG and Empire transportation capacity is adequate to meet the Company's current requirements.

For the 1997 comparison period, gas purchased for resale expense declined driven by a reduced volume of purchased gas resulting from a warmer heating season. Higher commodity costs and increased volumes of purchased gas caused an increase in gas purchased for resale expense in 1996 compared to 1995.

Operations Excluding Fuel Expenses. For the 1997 comparison period, the increase in operations excluding fuel expenses reflects mainly higher outside services expenses, recognition of obsolete and unproductive materials inventory, storm costs, and regulatory compliance costs partially offset by lower payroll costs and decreased expense associated with uncollectible accounts. For the 1996 comparison period, the increase in operations excluding fuel expenses reflects mainly higher payroll costs and an increase in amortization expense beginning July 1, 1996 for customer information system enhancements. Higher payroll costs for this period reflects amortization of additional early retirement costs for programs concluded in October 1994 and greater employee redeployment/outplacement costs. An additional expense accrual for doubtful accounts increased operating expenses by $ 15.0 million in 1995.

The Company is continuing to take aggressive steps to improve its collection efforts.

Uncollectible expense in 1997 was $ 18 million, compared with $ 20 million in 1996. In 1995, uncollectible expense was $ 23 million.

For both comparison periods, the increase in depreciation expense reflects primarily results from depreciation of the new Ginna nuclear plant steam generators (approximately $ 800,000 additional expense per month) and recovery of increased nuclear decommissioning expense of approximately $ 3.2 million per quarter beginning July 1, 1996.

Taxes Charged To Operating Expenses. Local, state and other taxes decreased in 1997 reflecting mainly lower property taxes due to decreases in assessments and/or rates and lower revenue taxes due to decreases in revenues and the New York State revenue tax surcharge rate.

The decrease in these taxes for 1996 reflects mainly lower property taxes due to decreases in assessments.

The decrease in federal income tax in 1997 reflects mainly the reversal of a prior provision for the in-service date of Nine Mile Two as a result of an agreement reached with the Internal Revenue Service.

Other Statement of Income Items. For the 1996 comparison period, the variation in non-operating federal income tax reflects mainly accounting adjustments related to regulatory disallowances.

Recorded under the caption Other Income and Deductions is the recognition of regulatory disallowances in connection with the 1995 Gas Settlement (see Rates and Regulatory Matters).

Rochester Gat and Bcctric Corporation

Other (Income) and Deductions, Other net decreased in 1997 due mainly to recognition of expense associated with management performance awards and the Company's Performance Stock Option Plan. For the 1996 comparison period, Other (Income) and Deductions, Other-net increased mainly due to the elimination in 1996 of two accrued expenses in 1995 related to depreciation expense for the Empire State Pipeline and amortization of certain employee early retirement costs.

Both mandatory redemptions and the optional redemptions of certain higher-cost long-term debt have helped to reduce long-term debt interest expense over the three-year period 1995-1997. Compared to the prior year, the average short-term debt outstanding was up slightly in 1997 following a decrease in 1996.

Preferred Stock dividends decreased in 1997 due to the Company's discretionary redemption in April of its 7.50% Preferred Stocl', Series N and the mandatory sinking fund redemption of its 7.45% Preferred Stock, Series S in September.

Dividend Policy.

The level of future cash dividend payments on Common Stock willbe dependent upon the Company's future earnings, its financial requirements, and other factors. The Company's Certificate of Incorporation provides for the payment of dividends on Common Stock out of the surplus net profits (retained earnings) of the Company.

2C8f'2lllmal/lg In October 1997, Michael T. Tomaino joined the Company as Senior Vice President and General Counsel.

Mr. Tomaino was formerly Vice President, General Counsel and Secretary at Gould Pumps, Inc. Prior to that he was a partner at the law firm of Nixon, Hargrave, Devans and Doyle, where he specialized in telecommunication and utilitylaw and general civil litigation.

Michael T. Tomaino In April 1997, WilliamJ. Reddy was named Controller of the Company with responsibility for Corporate Accounting

~ 1 i Services and Regulatory Affairs. Mr. Reddy was previously

(/gll~- ~ ) Group Manager, Public Affairs Services.

Wi%I'am L Reddy 35

MBBnCEBl+Zpol tg Report of Independent Accountants .. 36 Report of Management ~..., ~.... ~ . 62 Statement of Income ... ~... ~... ~ . 37 Interim Financial Data........ ~ . ~ . 62 Statement of Retained Earnings . ~... 37 Common Stock and Dividends .. ~ . ~ . 63 Balance Sheet.. 38 Selected Financial Data ........... 64 Statement of Cash Flows .......... 39 Electric Department Statistics....... 66 Notes to Financial Statements....... 40 Gas Department Statistics.......... 67 GEElllEEQIE-GONE-(

s" l92

~port ofIndependent Accountants 1100 Bausch R Lomb Place Price Waterhouse ceo Rochester, New York 14604-2705 January 23, 1998 To the Shareholders and Board of Directors of Rochester Gas and Electric Corporation In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of income, retained earnings and cash flows present fairly, in all material respects, the financial position of Rochester Gas and Electric Corporation and its subsidiaries at December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997 in conformity with generally accepted accounting principles.

These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement 1/~ //

presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.

'l+0 2 Bf8 t2t8mellf 0 PlColM (Thousands of Dollars) Year Ended December 31 1997 1996 1995 Operating Revenues Electric $ 679,473 $ 690,883 $ 696,582 Gas 336,309 346;279 293,863 170)5,782 1,037,162, 990,445 Electric sales to other utilities 20,856. 16,885 25,883 Total Operating Revenues 1,036,638 1,054,047 1,016,328 Operating Expenses Fuel Expenses Fuel for electric generation 47,665 40,938 44,190 Purchased electncity 28,347 46,484 54,167 Gas purchased for resale 196,579 202,297 167;762 Total Fuel Expenses 272,591 289,719 266,119 Operating Revenues Less Fuel Expenses '64,047 764,328 . 750,209 Other Operating Expenses.

0 erations excluding fuel expenses 268,474 266,094 259,207 aintenance 46,635 '7,063 49,226 Depreciation an'd amortization '116,522 105,614 91,593 Taxes local, state and other 121,796t 126,868 133,895 Federal income tax 65,27% 69,501 66,215 Total Other Operating Expenses 618,706 . 615,140 600,136 Operating hrconfe 145,341- 149,188 150,073 Other (Income) and Deductions Allow'ance for'ther funds used during construction (351) (684) (585)

Federal income tax (3,704) (3,450) (16,948)

Regulatory disallowances 26,866 Other, net 3,308 (712) 9,631 Total Other (Incomts) and Deductions (747) (4,846) 18,964 Interest Charges Long term debt 44,615 48,618 53,026 Other, net 6,676 9,328 9,056 Allowance for borrowed funds used during construction (563) (1,423) (2,901)

Total Interest Charges 50,728 569523 59,181 Net Inconre 95,360 ~

97,511 71,928 Dividends on Preferred Stock 5,805 7,465 7,465 Earnings Applicable to Co>mnon Stock $ 89,555 $ 90,046 64,463 Earnings per Conunon Share Earnings per Conunon Share .Diluted Basic $

2.30 2.30 2.32 2.32

$ '.69 1.69 neo s ate tat@ment 0 eterne arn~n S (Thousands of Dollars)

I'ear Ended December 31 1997 1996 ,1995 Balance at Beginning ofPer(od $ 90,540 $ 70,330 $ 74,S66 Add Net Income '5,360 ,

97,511 71,928 Adjustment A~sociated with Stock Redemption (846) 9 Total 185,054 167,841 146,494 Deduct Dividends declared on capital stock Cumulative preferred stock at required rates 5,805 7,465 7,465 Common stock 69,936 69,836 68,699 Total 75,741 77,301 76,164 Balance at End of Period $ 109,313 $ 90,540 $ 70,330 Cash Dividends Declared per Common Share $ 1.80 $ 1.80 $ 1.80 The accompanying notes are an inteyaf part of the finandal statements.

37

nsoliCh ted Selenite Meet (thousands of Dollars) At December 31 1997 1996 Assets Utility'Plant Electric $ 2,439,108 $ 2,413,881 Gas 416,989 ;391,231 Common 129,946 134,938'43,042 Nuclear fuel 224,701 3,234,077 3,159,759

. Less: Accumulated depreciation 1,510,074 1,381,908

.Nuclear fuel amo~tization 204,294 187,170 1,519,709 1,590.681 Construction work in progress 74,018 69,711 Net UtilityPlant 1,593,727 '1,660,392 Current Assets Cash and cash equivalents 25,405 21,301 Accounts receivable, net of allowance for doubtful accounts:

1997 $ 26,926; 1996 $ 17,502 104,781 112,908 Unbilled revenue receivable 48,438 53,261 Materials, supplies'and fuels 39,929 39,888 Prepayments, 23,818 23,103 Total Current Assets 242,371 250,461 Deferred Debits' Nuclear generating plant decommissioning fund 132,540 91,195 Nine hjife Two deferred costs 30,309 - 31,360 Unamortized debt expense 16,943 14,820 Other deferred debits 20,411 28,759 Regulatory assets 231,988 284,489

, Total Deferred Debits, 432,191 450,623 Total Assets $ 2,268,289 $ 2,361,47 Capttallzatlen and Liabilities Capitalization ~

Long term debt mortgage bonds $ 485,434 $ 555,054

-promissory. notes ~

101,900 ,91, Preferred stock redeemable at option of Company 47,000 67,00, Preferred stock subject to mandatory redemption 35,000 45,000 Common shareholders'quity:

Common stock 699,031 696,019 r

4 Retained earnings , . ~

109,313 90,540 Total Common Shareholders'quity 808,344 786,559 Total Capitalization 1,477,678 1,545,513 Long Tenn Liabilities (Departnrent ofEnergy) 7'3,261 Nuclear waste disposal 79,057 Uranium enrichment decommissioning 13,465 14,695' Total Long Term Liabilities 96,726 93,752 Current Liabilities Long term debt due within one year 30,000 "

-20,000 Preferred stock redeemable withm one year 10,000 10,000 Short term debt . 20,000 14,000 Accounts payable 53,195 49,462 Dividends payable 18,791 19,349 Taxes accrued- 5,041 4,694 Interest accrued 8,593 10,317 Other 33,697 30,395 Total Current Liabilities 189,317 158,217 Deferred Credits aud Other Liabilities, Accumulated deferred'income taxes 344,969 , 370,028 Pension costs accrued 67,361 69,806 Other 92,238 124,160 Total Deferred Credits and Other Liabilities 504,568 563,994 Connnltnrents and Other Matters Total Capitalization and Liabilities $ 2,268,289 $ 2,361,476 Rochc$ tcr G0$ 0nd Electric Corporruon The accompanying notes are an integral part of the financial statements.

~

38

nsolidated Statement of Cork Flows (Thousands of Dollars) Year Ended December 31 1997 1996 1995 Cash Flow from Operations Net inconre $ 95,360 $ 97,511 $ 71,928 Adinstnrents to reconcile net inconre to net casts provided front operating activities:

Depreciation and amortization '133,942 121,824 109,575 Deferred fuel 489 (6,5f)1) 3,432 Deferred income taxes (10,064) 6,391 (8,047)

Allowance for funds used during construction (914) (2,107) (3,486)

Unbilled revenue, net I 4,823 10I908 (9,899)

Stock option plan 2,399 Nuclear generating plant decommissioning fund (20,331) (11,732) (8,837)

Pension costs accrued (3,398) (2,494) 6,280 Post employment benefit internal reserve 6,189 6I626 4,636 Regulatory disallowance 26,866 Provision for doubtful accounts 5,078 4,987 14,893 Changes in certain current assets and liabilities:

. Accounts receivable 3,049 3I228 (25,599)

Materials, supplies and fuels (41) (1,238) 6,837 Taxes accrued 347 (13,944) 15,167 Accounts payable 3 733 (3,116) 9,644 Other current assets and liabilities, net 7,344 (5,186) 9,639 Other, net 6,847 (3,931) 28,762

\ Total 0 crating 234,852 201,226 251,791 Cash Flow from Investing Activities Net additions to utility plant (84,06 ) (114,274) (109,547)

Other, net (5) 9,204 11,124 Total Investing (85,069) (105,070) (98,423)

Cash Flow from Financing Activities Proceeds front:

Sale/Issuance of common stock 272 ,8,612 17,074 Issuance of long term debt 101,900 Short term borrowings, net 6,000 14,000 (51,600)

Retirement of long tenn debt (151,568) (67,332) (1,000)

Retirenfent ofpreferred stock (30,000)

Dividends pairi on preferred stock (6,366) (7,465) (7,465)

Dividends paid on coin!non stock (69,933) (69,657) '68,347)

Other, net 3,016 2,866 (719)

Total Financing (146,679) (118,976) (112,057)

Increase (Decrease) in cash and cash equivalents $ 4,104 $ (22,820) $ 41,311

~ Cash and cash equivalents at beginning of year $ 21,301 $ 44,121 $ 2,810 Cash and cash e uivalents at end of ear $ 25,405 5 21,301 $ 44,121 P

~uppkmental Disclogur e of Cask Flow information (Thousands of Dollars) Year Ended December 31 1997 1996 1995 Cash Paid During the Year Interest paid (net of capitalized atnonnt)

Income taxes paid The accompanying notes are an integral part of the finandal statements.

39

'~oi'eg To Financial StatementS Surnrnarf ofAccounring principles GENERAL.

The Company supplies electric and gas services wholly within the State of ¹w York. It produces and distributes electricity and distributes gas in parts of nine counties centering about the City of Rochester. The Company is subject to regulation by the Public Service Commission of th'e State of New York (PSC) under New York statutes and by thePederal Energy Regulatory Commission (FERC) as a licensee and public utilityunder the Federal Power Act. The Company's accounting policies conform to generally accepfed accounting principles as applied to New York State public utilities giving effect to the ratemaking and accounting practices and policies. of the PSC.

The prepar'ation of financial statements requires management.to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those.e'stimates.

A description of the Company.'s principal accounting policies follows.

PRINCIPLES OF CONSOLIDATION.

'he consolidated fifiancial statements include the accou'nts of the Company and its wholly-owned subsidiaries Roxdel (now uEnergetixn) and Energyline. All intercompany balances and transactions have been eliminated.

Energyline was formed as a gas pipeliiie corporation to fund the Company's investment in the Empire State Pipeline project. In late 1996, Energyline sold its investment in the Empire State Pipeline. ll The Roxdel (now uEnergetixn) activity is insignificant to the Company's.financial position and results of operation.

RATES AND REVENUE.

Revenue is recorded on the basis of meters read. In addition, the Compan'y records an estimate of unbilled revenue for service rendered subsequent to the meter-read date through the end of the aCcoun'ting period.

Through June 30; 1996, tariffs for electric service included fuel cost adjustment clauses which adjusted the rates monthly to reflect changes in the actual average cost of fuels. Beginning July 1, 1996, the electric fuel adjustment clause was eliminated in connection with a rate settlement agree-ment with the PSC.

In prior years, retail customers who used gas for spaceheating were Subject to a weather normaliza--

tion adjustinent to reflect the impact of variatioqs fiom normal weather on a billing month basis for the months of October through May, inclusive. On January 25, 1995, the Company suspended the weather normalization adjustment in an effort to mitigate high billings due to the warm weather, and the suspension became permanent. This decreased 1995 pre-tax earnings from gas operations by $ 5.8 million.

The Company continues to use gas cost deferral accounting, A reconciliation of recoverable gas costs with gas revenues is done annually as of August 31, and the excess or deficiency is refunded to or recovered from the, customers during a subsequent period.

UTILITYPLANTr DEPRECIATION AND AMORTIZATION.

The cost of additions to utilityplant and replacement of retirement units of property is capital-ized. Cost includes labor, material, and similar items, as well as indirect charges such as engineering and supervision, and is recorded at original cost. The Company capitalizes an Allowance for Funds Used During Construction (AFUDC) approximately equivalent to the cost of capital devoted to plant urIder construction that is not included in its rate base. AFUDC is segregated into two components Rochester Gas and Hectrlc ~

and classified in the Consolidated Statement of Income as Allowance for Borrowed Funds Used Cofpofatiofl

During Construction, an offset to Interest Charges, and Allowance for Other Funds Used During Construction, a part of'Other Income. The rate approved by the PSC for purposes of computing

'AFUDC was 5.0% during the three-year period ended December 31; 1997. Replacement of minor ~ *

. items of property is included in maintenance expenses. Costs of depreciable units of plant retired are eliminated from utilityplant accounts, arid such costs, plus removal expenses, less salvage, are

- charged to the accumulated depreciation reserve.

CASH AND CASH EQUIVALENTS.

Cash and cash'quivalents consist of cash and short-term commercial paper.,These investments

.hav'e original maturi'ty not exceeding three months. Such investments are stated at cost, which.

approximates fair value, and are considered cash equivalents for financial statement pilrposes.

INVESIMENIS IN DEBT AND EQUITY SECURITIES.

. 'fhe Company's accounting policy, as.presciibed by the PSC, with respect to its nuclear decommis-siohing trusts is to reflect the trusts'ssets at market value and reflect unrealized gains and losses as a change in the corresponding accrued decommissioning liability.

GAS SUPPLY.-

The Company, periodically enters into agreements to minimize price'risks for natural gas in .

storage. Gains or losses resulting from these agreements are deferred, until the corresponding gas is withdrawn from storage and delivered to'ustomers.

~ RESEARCH AND DEVELOPMENT COST.

1 Research and Development costs were charged to expense as'incurred. Expenditures for thy gears 1997, 1996, and 1995 were $ 4.5 million, $ 4.9 million and $ 5.2 million respectively.

ENVIRONMENTALREMEDIATION COSIS.

The Company accrues fo~ losses associated with environmental remediation obligations when, such losses are probable and reasonably estimable. Accruals for estimated losses from environmental remediation obligations generally. are'recognized no later than completion of the remedial feasibility study.

.Such accruals are adjusted as further information develops or circumstances changers Costs of future

- expenditures. for environmental remediation obligations are not discounted to their present value.

r

,MATERIALS, SUPPLIES AND FUELS.

Materials and supplies inventories are valued at thelower of cost or market using the first-in, first-out method. Fuel inventories are valued at average'cost. The Company periodically enters into agreements to.minimize price risks for natural gas in storage. Gains or losses resulting from these agreements are deferred until the corresponding gas is withdrawn from storage and'delivered to customers..

STOCK-BASED'COMPENSATION;,

/

Financial Accounting Standards Board Statement No. 123 (SFAS-)23), Accounting for. Stock-Based Compensation, was adopted by the Company in the first quarter of 1996: It recommends the use of value based method of accounting for compensation. costs associated with stock-based compensa-a'air

'tion. The Company currently has Stock Appreciation Rights plans covering certain employees and directors. For these plans, the Company's accounting policy has been to use a fair value method of computing periodic compensation expense. SFAS-123 was applied to the valuation of the 1996 Performance Stock Option Plan (PSOP), which became effective on January 22,'1997. The aggregate amount charged to expense as a result of these plans approximates $ 1.0 million annually in 1996 and 1995, and approximates $ 8.2 million in 1997. Additional information on the PSOP is includgd in Note 8.

RECLASSIFICATIONS.

I Certain amounts in the prior years'inancial. statements were reclassified to conform with current year presentation.

(Volt'I nmtinucd on page 42)

(conrinnad frnm EARNINGS PER SHARE.

pn,ra 41) I SEAS-128, Earnings Per Share, was adopted by the Company in the fourth quarter of 1997. This statement replaces the presentation of primary Earnings Per Share with Basic Earnings Per Share, and also requires presentation of Diluted Earnings Per Share. Basic Earnings Per Share (EPS) is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company.

The following table illustrates the calculation of both Basic and Diluted EPS for the year ended December 31, 1997.

Income Shares Per-Share (Numerator) (Oenominator) Amount Basic EPS:

Net Income $ 95,360 Less:

Preferred Stock Dividends (5,805)

Income available to Common Shareholders 89,555 38,853 $ 2.30 Diluted EPS:

Effect of Dilutive Securities Stock Option Plan Income available to Common Shareholders plus assumed conversions $ 89,555 38,909 52.3D As there were no dilutive shares in prior years, basic and dilutive earnings per share were the same for 1996 and 1995.

I

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E(ochattat (iaa anti E 1((tric

(*erporat)ott

Federa1 Incoine Taxes 4 The'piovision for federal income taxes is distributed between operating expense and other income based upon the treatment of the various components of the provision in the rate-making process. The following is a summary of income tax expense for the three most recent years.

(Thousands of Dollars) .1997 1996 1995 Charged (Credited) to operating expense:

Current $ 69,812 $ 65,757 $ 65,368 Deferred- (4,533) 3,744 847 Total 65,279 69,501 66,215

. Charged (Credited) to.other income:

Current 1,828 (6,097) (9,996)

Deferred (3,100) 5,079 (4,520)

Deferred investment tax credit (2,432) (2,432) ~

. (2,432)

Total (3,704) (3,450) (16,948)

Total Federal income tax expense $ 61,575 $ 66,051 $ 49,267 The following is a reconciliation of the difference between the amount of federal income tax expense reported in the Consolidated Statement of Income and the amount. computed by multiplying the by the statutory tax rate of 35%. 'ncome (Thousands of Dollars) 1997 . 1996 1995 Net Income $ 95,360 $ 97,511 $ 71,928 Add: Federal income tax expense ~ 61,575 66,051 49 267 Income before Federal income tax $ 156,935 $ 163,562 $ 121,195 Computed tax expense at statutory tax rate $ 54,927 $ 57,247 $ 42,418 Increases (decrease) in tax resulting from:

Difference between tax depreciation and amount deferred 107772 10,796 7,197 Deferred investment tax credit (2,432) (2,432) (2,432)

Miscellaneous items, net . (1,692) 440 2,084 Total Federal income tax expense $ 61,575 $ 66,051 $ 49,267 I

A summary of the components of the net deferred tax liability is as follows:

(Thousands of Dollars) 1997 1996 1995 Nuclear decommissioning $ (20,807) $ (17,880) $ (14,797)

Accelerated depreciation 216,704 213,907 197,952 Deferred investment tax credit 27,981 29,562 31,143 Depreciation previously flowed through 157,538 169,562 -

183,077 Pension (23,166) (24,570) (24,241)

Other (13,281) (553) 4,518 Total $ 344,969 $ 370,028 $ 377,652 SFAS-109 "Accounting for Income Taxes" requires that a deferred tax liabilitymust be recognized on the balance sheet for tax differences previously flowed through to customers. Substantially all of these flow-through adjustments relate fo property, plant and equipment and related investment tax credits and will be amortized consistent with the depreciation of these accounts. The net amount of the additional liabilityat December 31, 1997 and 1996 was $ 160 million and $ 175million, respectively. In conjunction with the recognition of this liability, a corresponding regulatory asset was also recognized.

43

Pension Plan and Other Postemplopnent Benefits The Company has a defined benefit pension plan covering substantially all of its employees. The benefits are based on years of service and the'employee's compensation. The Company's funding policy is to,contribute annually an amount consistent with the requirements of the Employee Retirement Income Security Act arrd the Internal Revenue Code. These contributions are intended to provide for benefits attributed to service to date and for those expected to be earned in the futurq.

The plan's funded status and amounts recognized on the Compan)i's balance sheet are as follows:

(Millions) 1997 1996

'Accumulated benefit obligation, including vested benefits of

$ 384.7 in 1997 and $ 314.6 in 1996 $ (404.0)* $ (392.6)*

Projected benefit obligation for service rendered to date $

Less (499.3)'(480.2)'38.4 Plan assets at fair value, primarily listed stocks and bonds 567.1 Plan assets in excess of projected benefits 139.1, 86.9 Unrecognized net loss (gain) from past experience different from that assumed and effects of changes in assumptions (219.0) (170.7) service cost not yet recognized in net periodic pension cost

'rior 10.7 11.6 Unrecognized net obligation at December 31 1.8 2.4 Pension costs accrued $ (67.4) $ (69.8)

'Actuarial present value.

Net pension cost included the following components

"(Millions) 1997 1996 1995 Service cost benefits earned during the period $ 6.2 $ 7.4 $ 6.0 Interest cost on-projected benefit obligation 33.0 33.4 35.4 Actual return on plan asSets (104.3) (80.8) (101.1)

Net amortization and deferral 63.1 39.0 '56.1 Net periodic pension (credit) cost $ (20) . $ (1.0) $ (3.6)

The projected benefit obligation at December 31, 1997 and December 31; 1996 assumed discount rates of 6.75% and 7.25%, respectiVely, and a long-term rate of increase in future compensation levels of 5.00%. The assumed long-term rate of return on plan assets was 8.50%. The unrecognized net obligation ls being amortized over 15 years beginning January 1986.

In addition to providing pension benefits, the Company provides certain health care and life insurance benefits to retired employees and health care coverage for surviving spouses of retirees.

Substantially all of the Company's employees are eligible provided that they retire as employees of the Company. In 1997, the health care benefit consisted of a contribution of up to $ 200 per retiree per month towards the cost of a group health policy provided by the Company; The life insurance

- benefit consist's of a Basic Group Life benefit, covering substantially all employees, providing a death benefit equal'to one-half of the retiree's'final pay. In addition, certain employees and retirees, employed by the Company at December 31, 1982, are entitled to a Special Group Life benefit provid-ing a death benefit equal to the employee's December 31, 1982 pay.

SFAS-106, "Accounting for Postretirement Benefits Other than Pensions", allows the Company the initial unrecognized, unfunded Accumulated Postretirement Benefit Obligation at to'mortize January 1992 estimated. at $ 56 million over twenty years. The Company intends to continue funding these benefits as the benefit becomes due.'

Rochester Gas and Bectrtc Coqeratton

The plan's funded status reconciled with the Company's balance sheet is as follows:

{Millions) 1997 f996 Accumulated postretirement benefit obligation; Retired employees $ (73.9j $ (65.6)

Active employees ~' (15.1) (13.5)

$ (89.0) $ (79.1)

Less Plan assets at fair value 0.0 0.0

. I Accumulated postretirement benefit obligation (in excess of) less than fair value of assets (89.0) (79.1)

Unrecognized net loss (gain) from past experience different from that assumed and effects of changes in assumptions 8.4 3.7 Prior service cost not yet recognized in net periodic pension cost 8.9 7.1 Unrecognized net obligation at December 31 39.5 42.3 Accrued postretirement benefit cost $ (32.2) $ (26.0)

Net periodic'postretirement benefit cost included the following components i (Millions) ~

1997 1996 Service cost benefit attributed to the period $ 0.9 $ 1.0 Interest cost on accumulated postretirement benefit obligation 5.8 5.4 Actual return on plan assets 0.0 0.0 Net amortization and deferral 3.5 4.2 Net periodic postretirement benefit cast $ 10.2 $ 10.6 The Accumulated Postretirement Benefit Obligation at December 31, 1997 and 1996 assumed rates of 6.7$ % and 7.25%, respectively, and long-term rate of increase in future 'iscount compensation levels of 5.00%.

SFAS-1 12, "Employers'ccounting for Postemployment Benefits", requires the Company to recognize the obligatioh to provide postemployment benefits to former or inactive employees after employment bpt before retirement. The Company has been allowed to recover this cost in rates.

C.

Q 0 t

c Deparbnental I'inandal Information The Company's records are maintained by opeiating depaitments, in accordance with PSC accounting policies. The following is the operating data for,each of the Company's departments, and no interdepartmental adjustments are required to arrive at the operating data included in the .

Consolidated Statement of Income.

(Thousands of Dollars) 1997 1996, 1995 ELECTRIC Operallng Infornratlon Operatin'g revenues $ 700,329 $ 707,768

' $ 722,465 Operating expenses, excluding pro vision for income taxes 516,793 521,222 523,105 Pretax operating incom'e 1837536 -

186,546 '99,360 Provision. for income taxes 61,837 '1,901 - 59,500 Net opeiating income $ 121,699 $ $ 139,860 Olber Informalton 124,645'103,395

'epreciation and amortization $ $ 78,812 Nuclear fuel amortization ' ,$ 17,419 92,615'16,'209

$ 17,982 Capital expenditures $ 58,522 $ 95',334 $ 93,634 Ineeslment Information 1 Identifiable assets (a) 8 1,783,826 $ 1,877,224 31,913,762 Ghs

, Operating Informallon Operating revenues Operating expenses, excluding provision for income taxes

.. $ $ 346,279 314,136

$ 293,863 276,935 Pretax operating income 27084 32,143 16,928 Provision for income taxes 3,442 7,600 - 6,715 Net operating income $ 24,543 $ 10,213 Other Informalton '

Depreciation and amortization $ 13,127 $ 12,999 $ 12,781 Capital expenditures $ 25,546 $ 18,940 $ 15,913 lneeslment Information Identifiable assets (a) $ 441,849 $ '. 447,865 3 477,768 (s) Excludes cesll, u a amommd deal use edc nnd olhee common llama.

. Jointly-(honed I'adlities The following'table sets forth the jointly-owned electric generating facilities in which the Company is participating. Both Oswego Unit No; 6 and Nine Mile Point, Nuclear Plant Unit No. 2 have been con- .

structed and are operated by Niagara Mohawk Power Corporation. Each participant must provide its own financing for any additions to the facilities. The Company's share of direct expenses associated with these two units is included in the appropriate operating expenses in the Consolidated Statement of Income. Various modifications willbe made throughout the lives of these plants to increase oper-ating efficiency-or reliability,. and to satisfy changing environmental and safety regulations..

s Nine Mile Oswego Point Nuclear Netmegawattcapability(summer),

RGRgs share megawatts percent ,"

' . 788 -

Unit No. 6 189 Unit No.2 1,128

. $ 58

. ~

'988

. 24 , . 14 Year of completion 1980 Millions of Dollars at December 31 1997 Plant In Service Balance Provision For Depreciation

$ 98.9,

$ 41.4

~

'879.3

$ 478.7

'ccumulated Plant Under Cpnstruction $ 0.6 $ 3.3 The Plant in Service and Accumulated Provision for Depreciation balances for Nine Mile Point-Nuclear Unit No. 2 shown above include disallowed costs of $ 374.3 million. Such costs, net of Rochestet income tax effects, were previously'ritten off in 1987 and 1989:,

.G83 atilt Hcctrtc

'Corporation f

s 49

I

• Long-Tenn Debt IRSr 8 ORTCulrIE 80'(I (Thousands of Dollars)

Principal Amount 31 'ecember Series Due 1997 1996 6/4 W Sept. 15, 1997 $ 20,000 6.7 X July 1, 1998 ., 304000 30,000 ~

8.00 Y Aug. 15, 1999 ~ 29,668 6'/a EE,. -Aug. 1, 2009 10,000 8'/e - Oo(a) Dec.-1, 2028 * '5,500 25,500

~

'P.

~

9N, ,Apr. 1, 2021 100,000 100,000 8'/4 QQ(b) Mar. 15,'2002 100,000 100,000 6.35 RR (a) May 15, 2032 10,500 10,500 6.50 SS (a) May 15, 2032 50,000 50,000 7.00 c Jan. 14, 2000 30,000 30,000 (0I . Feb.10,2003 39,000 39,000 7.15'13 Mar. 3, 2003 1,000 1,000 7;64 Mar. 15, 2023 33,000 33,000 7.66 Mar. 15, 2023 5(00 5,000 7.67 Mar. 15, 2023 12,000 12,000 6.375 (c), July 30, 2003 40,000 40,000 I0) 40,000 7.45 July 30, 2023 40,000 8

/ $ 516,000 $ 575,668 Net bond discount ~

(566) .(614)

.Less: Due within one year 30,000 20,000 Total $ 485,434 $ 555,054 (a) The Series 00, Series RR and Series SS Fiis't Mortgage Bonds equal the principal amount of and provide for all payments of principal, premium and Interest corresponding to the Pollution Control Revenue Bonds, Series C, and Pollution Control Refunding Revenue Bonds, Series 1992 A, Series 1992 B (Rochester Gas and Electric Corporation Projects), respectively, issued by the New York State Energy .

Research and Development Authority (NYSERDA) through a participation agreement with the Company. Payments of the principal of, and interest on the Series 1992 A and Series 1992 B Bonds arp guaranteed under a Bond Insurance Policy by MBIAInsurance Corporation.

(b) The Series QQ First Mortgage Bonds and the 7%~ 7.15%, 7.13% and 6.375% medium-term notes described below are generally not redeemable prior to maturity.

'c) In 1993 the Company issued $ 200 million under a medium-term note program entitled "First Mortgage Bonds, Designated Secured Medium-Term Notes, Seri(,s An'with maturities that range from seven years to thirty years.

The First Mortgage provides security for the bonds through a first lien on substantially all the property owned by the Company (except cash and accounts receivable).

Sinking and improvement fund requirements aggregate $ 333,540 per annum under the First Mortgage,- excluding mandatory sinking funds of individual series. Such requirements may be met by certification of additional property or by depositing cash with the Trustee. The 1997 and 1996 requirements were met with funds deposited with the Trustee, and these funds were used for redemp-tion of outstanding bonds of Series Y, On May 1, 1997 the Company redeemed all its outstanding FirstIMortgage 8% Bonds, Series Y, due August 15, 1999 and all its outstanding First Mortgage 6N% Bonds, Series W, due September 15, 1997. On October 15, 1997, the Company redeemed all its outstanding First Mortgage'6/ao/o Bonds, Series EE.

I I

frroro 6 rontinunf on pago 48) 47

P t (continued from page 47)

Sinking fund requirements and bond maturities for the next five years are:

horn Series X 7% Series Series QQ 1998

$ 30,000

$ 30,000 1999 Phousands of Dollars) 2000

$ 30,000

$ 30,000 2001

$ 100,000

$ 100,000 I')ro.trigger (Thousands of Dollars)

~

December 31 Issued Due 1997 3996 November 15, 1984 (d) October 1, 2014 $ 519700

,December 5, 1985 (e) November 15, 2015 40,20P August 19, 1997 (f) August 1, 2032 101,900.

Total $ 101,900 $ 91,900

'(d) The $ 51.7 million Promissory Note was issued in connection with NYSERDA's Floating Rate Monthly Demand Pollution Control'Revenue Bonds (Rochester Gas and Electric Corporation Project), Series 1984.

On October 1, 1997, the Company redeemed all the outstanding Series 1984 Bonds. The average interest rate was 3.43% through September 301997, 3.38% for 1996 and 3.68% for 1995.

(e) The $ 40.2 million Promissory Note was issued in connection with'NYSERDA's Adjustable Rate Pollution Control Revenue Bonds (Rochester Gas and electric Corporation Project), Series 1985. "

On November 15, 1997 the Cdmpany redeemed all the outstanding Series 1985 Bonds. The annual-interest rate was adjusted to 3.60~/o effective November 15, 1996 and tq 3.75% effective November 15, 1995.

(f) Multi-mode pollution control'notes totaling the principal amount of $ 101.9 million were issued in-connection with NYSERDA's Pollution Control Revenue Bonds (Rochester Gas and Electric Corporation Project), $ 34;000,000 1997 Series A, $ 34,000,000 1997 Series B and $ 33,900,000 1997 Series C. The Multi-mode Revenue Bonds have a structure that enables the Company to optimize the use of short-term'rates by allowing for the interest rates to be based on a daily rate, a weekly rate, a commercial paper rate, an auction rate or a multi-year fixed rate. Payment of the principal of, and interest on the Multi-mode Revenue Bonds is guaranteed under Bond Insurance Policies by MBIA Insurance Corporation. At December 31, 1997, the Multi-mode Revenut; Bonds bore interest at the weekly rate and the average annual interest rate for all three series was 3:65%.

4 The Company isf obligated to make payments of principal, premium and interest on each Promissory Note which correspond to the payments of principal, premium, if any,'and interest on certain Pollution. Control Revenue Bonds issued by NYSERDA as described above.

Based on an estimated borrowing rate at year-end 1997 of 6.62% for long-term debt with similar terms and average maturities (13t years), the fair value of the Company's long-term debt outstanding (including Promissory Notes as described above) is approximately $ 655 million at December 31, 1997.

Based on an esfimated borrowing rate at year-end 1996 of 7.30% for long-term debt with similar terms and average maturities (13 years), the fair value of the Company's long-term debt outstanding (including Promissory Notes as described above) is approximately $ 670 million at December 31, 1996.

On September 16, 1997, the Company completed arrangements for the delivery in September 1998 of $ 25.5 million of 5.95% NYSERDA tax-exempt bonds due September 1, 2033. Proceeds are

~

expected to be used to redeem the Series OO, tax-exempt, first mortgage bonds which are not redeemable until December 1998.

i Rocher ter G0$ 0nd tron Hectrtc'orpora R8

I I

Preferred and Preference Stock Type, by Order of Seniority Par Value Shares Authorized Shares Outstanding Preferred Stock (cumulative) $ 100 920,000',000,000 Preferred Stock (cumulative) ~

25 4,000,000 Preference Stock 1 5,000,000

'See below for mandatory redemption requ irements.

No shares of preferred or preference stock'are reserved for employees, oi for options, warrants, conversions, or other rights, A. Preferred Stock, not subject to, mandatory redemption:,:

I - (Ihousands)

Shares Optional Outstanding December 31 Redemption

'Series December 31, 1997 . 1997 =

~ 1996 (per share) P 4 F- 120,000 $ 12,000 $ 12,000 $ 105 4.10 'H 80,000'0,000 8,000 8,000 101 4Y5 I 6,000 6,000 101 4.10 J 50,000 ',000 5,000 102.5 4.95 K . 60,000 6,000 6,000 102 .

4.55'.50 M 100,00P 10,000 .10,000 101 N 20,000 102 Total 470,000 $ 47,000 ~

$ 67,000 ff May be redeemed at any time at the option of the Company on,30 days minimum notice, plus accrued dividends in all cases.

The Series N were redeemed on April 22, '1997. I B. Preferred Stock, subject to mandatory redemption:

31,

~ '4 Shares phous nds)

Opgonai Series Outstanding

'ecember 31, 1997 . 1997 December 1996 'per Redemption share) 7.45 S $ $ 10,000 Not applicable 7.55 T 100,000 10,000 'Q0()0 Not applicable, 7.65 "U 100,000 10,000 10,000 Not applicable 6.60 V 250,000 25,000 25,000 Not Before 3/1/04+,

5 To,tal 450,000 $ 45,000 $ 55,000 Less: Du'e within one year 100,000 10,000 10,000 Total 350,000 . 535,000 $ 45,000 k

+Thereafter at $ 100.00 'I

/

MANDATORYREDEMPITON PROVISIONS In the event the Company should be in arrears in the sinking fund requirement, the Company may not redeem or pay dividends on any stock subordinate to the Preferred Stock.

- Series T, Series U. All of the shares are subject to redemption pursuant to mandatory sinking funds on September'1, 1998 in the case of Series T and September 1, 1999 in the case of Series U; in each case at $ 'l00 per share.

Series V. The Series V is subject to a mandatory sinking fund sufficient to redeem on each March 1 beginning in 2004 to and including 2008; 12,500 shares at $ 100 p'erishare and on. March 1, 2009, the balance of the outstanding'shares. The Company has the option,to redeem up to an. additional

'9 12,500 shares on the same terms and dates as applicable to the mandatory sinking fund.

. Based on an estimated dividend rate at year-end 1997 of 5.67% for Preferred Stock, subject to mttndatory redemption, with similar terms and average maturities (5.92 years), the fair value of the Company's Preferred Stctck, subject to mandatory redemption, is approximately $ 48 million at December 31, 1997.

Based on an estimated dividend rate at year-end 1996 of 6,50% for Preferred Stock, subject to mandatory redemption, with similar terms and average maturities (5.66 years), the fair value of Preferred Stock, subject to~andatory redemption, is approximately $ 57'million at the'ompany's December 31, 1996.

Common Stock and Stock. Options In. December 1997, the Board. of Directors of the Company authorized the repurchase of up to 4.5 million shares of the Company's Common Stock on the open market. None of the'shares were pur; chased prior to year end.

~

At December 31, 1997, there were 50,000,000 shares of $ 5 pa'r value Common Stock authorized, of, which 38,862,347 were outstanding. No shares of Common Stock are reserved for warrants, conversions',

or other rights. There were 1,445,141 shares of Commron Stock reserved for employees un'der the 1996

- Peifoirmance Stock Option Plan, a's further described below. There were 1,026,840 shares of Common Stock reserved and unissued for shareholders under the Automatic Dividend Reinvestment and Stock Purchase Plan and 129,664 shares reserved and unissued for employees under the RGRE Savings Plus Plan.

C0.1iruozv STOCA' Shares 'Amount Outstanding 'Thousands)

Balance, January 1, 1995, 37,669,963 $ 670,569 Shares Issued through Stock Plans 783,200 17,074 Decrease (Increase) m Capital Stock Expense (125)

Balance, December 31, 1995 38,453,163 $ 687,518 Shares Issued through Stock Plans 398,301 8,612

. Decrease (Increase) m Capital Stock Expense (111)

Balance, December 31, 1996 38,851,464 $ 696,019 Shares Issued through Stock Plans 10,883 272 Additional Paid in Capital 2,399

'ecrease (Increase) in Capital Stock Expense 341 Balance, December 31, 1997 38,862,347 5699,031 PERFORMANCE STOCK OPTION PLAN Effective January 22;1997," the'Company adopted a Performance Stock Option Plan which provides for the granting of options to purchase up to 2,000,000 authorized but unissued shares or treasury shares, of

$ 5 par value Common Stock to executive officers and other key employees. Ao participant. shall be granted options for more than 200,000 shares of Common Stock during any calendar year. The options would be exercisable for a period to be determined by the Committee on Management (the Committee).

The Committee may in its sole discretion grant the right'to receive a cash payment upon any exercise of.

an option equal to the quarterly dividend payment per share of Common Stock paid from the date the

'ption was granted to the date of exercise.'n 1997, the Board of Directors-granted 504,700 options at an exeicise price of 519.0625 per share.

These options are vested at 50o/o when the stock closes at $ 25 per share, 75% at $ 30 per share and 100% at

$ 35 per share.

Also in 19r)7, the Board of Directors granted 50,159 options at an exercise price of $ 24.75 per share.,

These options are ve'sted at 25% when the stock closes at $ 25 per share, 50o(o at $ 30 per sh'are,'75o/o at $ 35 per share and 100% at $ 40 per share.

In order for the options to become vested, the closing prices must be sustained at or above the levels indicated above for"a minimum of five consecutive trading days.

-.Since the Company adopted FAS 123, compensation expense associated with the options granted is reflected in 1997 net income. For calendar 1997, the compensation expense recorded was $ 2.4 million. In applying FAS 123, the fair value of each option granted is estimated on the date of the grant using the BlackScholes option pricing model with-the following assumptions: risk-free rate of return ranging between 6.39o/o and 6.56%, expected dividend yield of 9.44%, and expected stock volatility of 17%.

A summary of the Coinpany's stock option activity is presented below:

r Weghted 4 *

- Options Average Price r 4

'ptions granted 1997 554,859 $ 19.57 Options exercised (10,883) $ 19.06 l4xhc5t48 Outstanding at 12/31/97, 543,976 $ 19.587 G85 Bnd Electric Corporation Vested, at 12/31/97 392,722 $ 19.426 J

Available for future grant at 12/31/97 1,446,141 50

I Short-Tenn Debt On December 31, 1997, the Company had short-term debt outstanding of $ 20.0 million. At December ~

31, 1996 the Company had short-term debt outstanding of $ 14.0 million. The weighted average interest rate'in 1997 on short-term debt outstanding at year end was 6:64%.and was 6.07% for.borrowings duiing the year..The weighted average interest rate on short-term, debt borrowed during 1996 was 5.86%.

In December 1997 the Company's $ 90 million revolving credit agreement was amended extending its term to five years, terminating December 31; 2002. Commitment'fees related to this facility amounted to

$ 113,000 in 1997 and 1996, and $ 165,000 in 1995.

The Company's Charter provides that the Company may not iss'ue unsecured debt if immediately after such issuance the total amount of unsecured debt outstanding would exceed 15 percent of'the Company's total secured indebtedness, capital, and surplus without the approval of at least a majority of the holders of outstanding Preferred Stock. As of December 31, 1997, the Company would be able to incur approxi-mately $ 103.8 million of additional unsecured debt under this provision-. The Company has unsecured.

'ines of credit totaling $ 27 million available from several banks, at theii discretion.

In order to be able to use its $ 90 million revolving credit ag'reement, the Company has created a subor-dinate mortgage which secures bopowings under its revolving credit agreement that might otherwise be

~

restricted by this provision of the Company's Charter. In addition, the Company has a Loan and Security Agreement to provide for borrowings up to $ 10 million for the exclusive purpose of financing Federal Energy Regulatory Commission Order 636 transition costs(636 Notes) and up to $ 30 million as needed from time to time for other working capital needs. Borrowings under this agreement, which can be renewed annually, are secured by a lien on the Company's accounts re'ceivable.

At December 31, 1997, borrowings outstanding were $ 4.34 million of 636 Notes (recorded on the Balance Sheet as a liabilityunder Deferred Credits and Other Liabilities)".

\

Commi*nents and Other Matters COMPETITION Overview. The PSC, through its Competitive'Opportunities Proceeding, has embarked on a fundamen-tal restructuring of the electric utility indust'ry in the state. Among other elements, the PSC's goals included lower rates for consumerkand increased customer choice in obtaining electricity and other energy services. During 1996 and 1997, the Company, the Staff of the PSC, and several other parties nego-tiated a Settlement Agreement (the "Settlement" ) which was approved by the PSC in November 1997. The Settlement sets the framework for the, introduction and development of open competition in the electric eneigy marketplace.

PSC Competitive Opportunities Case Settlement, The Settlement provides for a transition to compe-tition during its five year term (july 1, 1997 to June 30, 2002) and establishes the Company's electric rates for each annual period. A Retail Access Program willbe phased in, allowing customers to purchase electric-ity, and later electricity and Capacity commitments, from sources other than the Company. The Company .

,will be given a reasonable opportunity to recover prudently incurred costs, including thee pertaining to generation and purchased power. The Settlement also requires the Company to functionally separate its component operations: distribution, generation, and retailing. Any unregulated retail operations must be structurally separate from the regulated utilityfunctions but may be funded with up to $ 100 million.

Although the Settlement provides incentives for the sale of generating assets, it requires neither divestiture of generating or other assets nor write off of stranded costs. The Company belieyes that the Settlement .

willnot adversely affect its eligibilityto continue to apply SFAS-71 with the exception of certain to-go costs associated with non-nuclear, generation. If, contrary to the Company's view, such eligibilitywere adversely affected, a.material write-down of assets, the amount of which is not presently determinable,"

, could be required.

~

Rate Plan. Over the fivyear term of the Settlement, cumulative rate reductions will be: Rate Year 1:

$ 3.5 million; Rate Year 2: $ 12.8 million; Rate Year 3: $ 27.6 million; Rate Year 4: $ 39.5 million; and Rate'ear 5: $ 64.6 million. The Rate Plan permits the Company to offset against the foregoing reductions certain inflation-related expenses and certain amounts related to a purchase popover agreement with

. Kamine. In the event that the Company earns a return on common equity in excess of 11.50/0 over the entire five year term of the Settlement, 500/0 of such excess will be used to write down deferred costs accu-mulated during the term, and 50% >vill be used to write down accumulated deferrals or investment in-electric plant or regulatory assets.

(Noti 10 continued on page 52) 51

I I

~ (<oniinued from Retail Access. Tlie Company's Energy Choice Program will bh available to all of its customers on an page 51),

equal basis up to certain usage caps. On July 1, 1998, customers whose electric loads represent approxi-mately 10% of the Company's total annual retail sales willbe eligible to purchase electricity (but not capacity commitments) from alternative suppliers. On July 1, 1999, the percent of total sales moves to 20%, and customers would purchase both electricity and capacity'commitments. On July 1, 2000, the moves to 30%, and on July 1, 2001, all retail customers will be eligible to purchase energy and 'ercent l capacity from alternative suppliers.

During the initial, energy only stage of the Retail Access Program, the Company's distribution rate will be set by deducting 2.3 cents pej kilowatt hour ("KWH")from its full service (."bundled" ) rates and Load

,Serving Entities acting as retailers in the Company's service area willbe entitled to purchase electricity from the Company at a rate of 1.9 cents per KWH. During the energy and capacity stage, the rate will gen-erally equal the bundled rate less the cost of the electric commodity and the Company's non-nuclear gen-erating capacity. These commodity and capacity costs, generally referred to as "contestable costs," are

,estimated to be 3.2 cents per KWH, inclusive of gross receipts taxes.

Generating Assets. The Company will not be required to divest any of its generation facilities. To the extent that the Company sells any generating assets during the term of the Settlement, gairis on >uch sales willbe shared between the Company and customers. With regard to losses on such sales, the Settlement acknowledges an intent that the Company will be permitted to recover such losses through distribution during the term of the Settlement: Future rate treatment is'to be consistent with the piinciple that 'ates the Corn/any is to have a reasonable opportunity to recover such costs.. ~

"To-go costs".of the Company's non-nuclear resources (i.e., capital costs incurred after February 28, 1997, operation and maintenance expenses, and property, payroll and other taxes) are to be initially recovered through distribution rates. The fixed portion of to-go costs would be recovered in full until July 1, 1999, and be subject to the market thereafter in accordance with the phase-in schedule for the Retail Access program. The variable portio'n of non-nuclear to-go costs would also be subject to the market in accordance with the phase-in schedule. Under the Settlement, nuclear costs would remain recoverable through regulated rates.

Miscellaneous. The present Settlement supersedes the 1996 Rate Settlement. Various incentive and ~

penalty provisions in the 1996 Rate Settlement are eliminated.

EITF Issue 97~Deregulation of the Pricing of Electricity. In July, 1997, the Financial Accounting Standards Board's Emerging Issues Task Force (EITF) reached a consensus on accounting rules for plans for moving to more competitive environments and provided'guidance on when utilities utilities'ransition with transition plans will need to discontinue the application of SFAS-71, "Accounting for the Effects of Certain Types of Regulation". i P The major EITF consensus was that the application of SFAS-71 to a segment (e.g. generation) which is subject to a deregulation transition plan should cease when the legislation or enabling rate, order contains sufficient detail for tlie utilityto reasonably determine what the transition plan will entail. The EITF also concluded that a decision to continue to carry some or all of the regulatory assets (including stranded costs) and liabilities of the separable portion of the business that is discontinuing the application of SFAS-71 should be determined on the basis of where the regulated cash flows to realize and settle them willbe derived. Ifa transition plan provides for a non-bypassable See for the recovery of stranded costs, there may not be any significant write-off if SFAS-711s discontinued for a segment.

The Company's application of the EITF 97-4 consensus has not affected its financial position or results of operations because any above-market generation costs, regulatory assets and regulatory liabilities associ-ated with the generation portion of its business will be recovered by the regulated portion of the Company through its distribution rates, given the Settlement provisions. The Settlement provides for recovery of all prudently incurred sunk costs (all investment in electric plant and electric regulatory assets) as of March 1, 1997 by inclusion in rates charged pursuant to the Company's distribution access tariff. The Settlement also states that "the Parties intend that the provisions of this Settlement will allow the

'ompany to continue to recover such costs, during the term of the Settlement, under SFAS-71", and that "such treatment shall be consistent with the principle that the Company shall have a reasonable opportu-nity beyond July 1, 2002 to recover all such costs". As noted. previously, the fixed portion of the non-nuclear generation to-go costs after July 1, 1999 and the variable portion of the non-nuclear generation to-go costs after July 1, 1998 are subject tO market forces and would no longer be able to apply'SFAS-7$ .

The Company's net investment at December'31,.1997 in nuclear generating assets is $ 698.4 million and lbxhcstcr generating assets is $ 122.0 million. 'on-nuclear Gas and Electric Corpontlon 52 '

1 h

REGULATORY AND STRANDAHLE ASSETS With PSC approval the Company'has deferred certain costs rather than recognize them on its books when incurred. Such deferred cosfs are theri recognized as expenses when they are included in rates and recovered from customers. Such deferral accounting is'permitted by SFAS-71. Ihese defeired costs are shown as Regulatory Assets on the Company's'Balance Sheet. Su'ch cost deferral is appropriate under tradi tional regulated cost-'of-service rate setting, where all'prudently,incurred costs are recovered through rates.

In a,purely competitive pricing environment, such costsmight not have been incurred and could not have been deferred. Accordingly, if the Company's Tate setting was changed from a cost-of-service approach, and it was no longer allowed to defer these costs under SFAS-71, these assets would be adjusted for any impairment to recovery (pursuant to SFAS-121). In certain cases, the ttntire'amount could be.

written off.

SFAS-121 requires write-down of assets whenever events or circumstances occur which indicate that the,

=

carrying amount of a long-lived asset may not be fully recoverable.

'elow's a,summ'arization.qf the Regulatory Assets as of December 31, 1997 aiid 1996:

'. 1997 (Millions of Dollars) 1996

-Income Taxes $ 159.6 $ 174.6 Uranium Enrichment I)ecommissioning Deferral, 16.4 17.7 Deferred Ice Storm Charges- 11.5 14,0 FERC 636 Transition Costs ", 11.0 32.3 Side Management Costs Deferred

'emand 4,4 8.4

- Gas Deferred Fuel 1/7 7 7 Other, net 22.0 29.8 Total = Regulatory Assets $ 232.0 $ 284.5 tncome Taxes: This amount represents the unrecovefed portion of tax benefits from accelerated depre-ciation and other timing,differences which were used to reduce tax expense in past years. The recovery of this deferral. is anticipated over the remaining life of the related property when the effect of the reverses in future years.

past'eductions V Uranium. Enrichment Decommissioning Deferral: The Energy Policy Act of 1992 requires utilities to contribute such amounts based on the amount of uranium enriched by DOE for each utility. This amount is mandated to be paid to DOE through the year'007. The recovery of these costs is through base rates of fuel.

V Deferred Ice Storm Charges: These costs result from the non-capital storm damage repair costs follow-

" ing the March 1991 ice-storm. The recovery of these costs has been. approved by the PSC through the year 2007,.

V FERC 636 Transition Costs: These costs are payable to gas supply and pipeline companies which are passing various restructuring and other transition costs on to the Company, as ordered by FERC. The majority of these costs will be recovered through the Company's gas cost adjustment by the year 2000.

V Demand Side Management Costs Deferred: These costs are Demand Side Management costs which

'refate to programs initiat'ed to increase efficiency with which electricity is used. These costs are recover-able by the Company, through'he year 2002. ~ ~

V Gas Deferred Fuel: These costs result froni a PSC-approved annual reconciliation of recoverable gas

., costs with gas revenues in which the excess or deficiency is refunded to.or recovered from customers during a subsequent period.

In a Competitive electric market, strandable assets would arise when investments aie made in facilities,

- oi costs,aie incurred to service customers, and such costs are not.fully recoverable in market-based rates.

Examples include purchase power contracts (e.g., the Kamine/Besicorp Allegany L.P.'contract), or high cost generating assets. Estimates of strandable assets are highly sensitive to the competitive wholesale market piice assumed in the estiination. The amount of potentially strandable assets at December 31, 1997 depends on market prices and the competitive market in New York State which is still'under development.

subject to continuing changes which are not yet determinable,'ut could be significan't. Strandable

'nd assets, if any, could be written down for impairment of recovery in the same manner as deferred costs -

discussed above.

In a competitive natural gas market; strandable assets would arise where customers migrate away from '

dependence on the Company for full service, leaving the Company with surplus pipeline and storage capacity, as well as natural gas supplies, under contract: The Company has been restructuring its trans-portation, storage and supply portfolio to ieduce its potential exposure to strandable assets. Regulatory P'ote lo continued on page 54) 63

(continurd from developments discussed under " Gas Restructuring Proceeding," below, may affect this exposure; but pago 53) whether and to what extent there may be an impact on the level and recoverability of strandable assets cannot be determined at this time.

At December. 31, 1997 the Company believes that its regulatory and strandable assets, if any, are not impaired and are probable of'recovery. The settlement approved in the Competitive Opportunities pro-ceeding does not impair the opportunity of the Company to re'cover its investment in these assets.

However, the PSC has published a Staff paper to address issues surrounding nuclear generation, including the determination of fair market value for facilities after a five year restructuring transition

-period. It appears that the PSC may seek to apply similar principles to other types of generating facilities.-

A determination in this proceeding could have an impact on strandable assets.

CAPITAL EXPENDITURES The Company's 1998 construction expenditures program is currently estimated at $ 124 million. The Company has entered jnto certain commitments for purchase of materials and equipment, in connection.

with that program.

NUCLEAR-RELATED MATTERS Decommissioning Trust. The Company is collecting amounts in its electric rates for the eventual decommissioning of-its Ginna Plant and for its 14% share of the decommissioriing of Nine Mile Two. The operating licenses for these plants expire in 2009 and 2026, respectively.

, Under accounting procedures approved by the PSC, the Company has collected decommissioning costs of approximately $ 116.1 million through December 31, 1997 and is authorized to collect approximately

$ 22 million annually through June 30, 2002 for decommissioning, covering both nuclear units. The amount allowed in rates is based on estimated ultimate decommisSioning costs of $ 296.3 million for Ginna and $ 112.8 million for the Company's 14% share of Nine Mile T~'vo (1995 dollars). These estimates are based on site specific cost studies for each plant completed in 1995. Site specific studies of the antici-pated costs of actual decommissioning are required to be submitted to the NRC at least five years prior to the expiration of the license. ~

. </

The,NRC requires reactor licensees to submit funding plans that establish minimum NRC external funding levels for reactor decommissioning. The Company's plan, filed in 1990, consists of an external decommissioning trust fund covering both its Ginna Plarit and its Nine Mile Two shaie. Since 1990, the has contributed $ 86.4 million to this fuhd and, including realized and unrealized investment . 'ompany returns, the fund has a balance of $ 132.5 million as of December 31, 1997,. The amount attributed to the allowance for removal of non-contaminated structures is being held in an internal reserve. The internal reserve balance as of December 31, 1997 is $ 29.7 million.

. The NRC is currently considering proposals which m'ay impact financial funding requirements for decommissioning of nuclear power plants. Under current NRC regulations electric utilities provide for decommissioning funds annually over the estimated life of a plant. If state regulatory authorities were to adopt a program to remove electric generation (including nuclear plants) from cost-based rate regulation, an action which the New York PSC is currently considering, such plants would operate in a competitive electric market and would have no assured source of revenue from energy sales. Under current regulations, the NRC can require the owners of nuc/ear plants lacking such assured revenue streams, to provide assur-ance that the full estimated cost of decommissioning will ultimately be available through some guarante'e mechanism.

'The NRC is seeking pubjic comment on a number of questions,, including the likely timetable for utility restructuriIig and deregulation and to what extent costs will be recoverable if a large baseload plant is deemed to be non-competitive because of high construction costs and what funding sources will be used to shut down a plant prematurely and safely.-

The NRC has released for comments a notice of proposed rulemaking (NOPR) modifying certain aspects of the financial assurance requirements for decommissioning nuclear power reactors. The NOPR includes, among other things, changes to the definition of "electric utility"for the purposes of providing financial assurance for decommissioning as well as new reporting requirements iegarding each licerisee's progress on external funding. The Company does not anticipate a material impact from the application of these rules in their proposed form; however it cannot predict the impact of these rules as resolution of stranded asset issues proceed in New York.

The PSC in August 1997 issued for comment a report by its staff proposing norms by which nuclear Rochester Gas and Bearic plants in the state would relate to the competitive electricity market following the period covered by pxpceation ~

electric'utility restructuring agreements then pending before the PSC. Among other things, the report

/

54

envisioned tlie sale of these plants at auction, but with the selling utilities remaining iesponsible for.

decommissioning as well as for disposal of certain spent fuel. Recognizing that bidders may not'e

'ltimate attracted to certain units which could include both the'Company's Ginna planf and the Nine Mile Two plant in which it has a 14% interest, the report contemplated their early shutdown unless they could compete with other forms of generation. In Fall 1997, the Company and others commented on these and other facets of the report. Through mid-January 1998, the PSC had taken no action on the report and comm'ents.

.The Staff of the Financial Accounting Standards Board are studying the recognition, measurement and classification of decommissioning costs for nucleai generating stations in the financial statements of electric utilities. If current accounting practices for such costs were changed, the annual provisions for decommissioning costs could increase, the estimated cost for decommissioning could be reclassified as a liability rather than as accumulated depreciation', the liability accourits and corresponding plant asset accounts could be increased and trust fund income from the external decommissioning trusts could be reported as investment income rather than as a reduction to decommissionihg expense.

'If annual decommissioning costs'ncreased, the Company would expect to defer the effects of such costs pending disposition by the PSC.

Uranium Enrichment Deconfamination and Decommissioning Fund. Undei the National Energy Act, utilities with nuclear generating facilities are assessed an annual fee payabje over 15 years for the decommissioning of federally owned uranium enrichment facilities. The assessments foi Ginna and the Company's share of Nine Mile'Avo are estimated to total $ 22.1 million, excluding inflation and interest.

Installments aggregating approximately $ 9.4 million have IIeen paid through 1997. A liabilityhas been recognized on the financial statements along with a corresponding regulatory asset. For the two facilities

'he Company's liabilityat December 31, 1997 is $ 15.1 million ($ 13.4 million as a long-term liability and

$ 1.7 million as a current liability). The Compapy is recovering costs through base rates of fuel.

ln July 1996, th6 Company joined other utilities in a civil action against the U.S. DepaItment of concerning these assessments. After a favorable initial decision in a Parallel case, the Court of Appeals Energy'DOE),

for.the Federal Circuit in May 1997 reyeised the lower, court and held that the federal government could

~

assess licensees for the clean-up of these federal facilities. In January 1998, the U.S. Supreme Court refused to hear the case, effectively upholding the dismissal of the utilityclaiins.

Nuclear Fuel Disposal Costs. The Nuclear Waste Policy Act (Nuclear Waste Act) of 1982, as amended, requires the DOE to establish a nuclear waste disposal site and,to take title to nuclear waste. A permanent DOE high-level nuclear waste repository is not expected to bo operational before the year 2010. The DOF, is proposin'g to establish an interim storage facility which may allow it to take title to and possession of nuclear waste pi'ior to the establishment of a permanent repository. In'December 1996.the DOE notified the Company that the DOE will not start acceptance of Ginna spent fuel in 1998. In January 1997 the DOE released a draft request for proposal outlining a process for private fifms to accept an'd transport waste from reactors until a federal facility is operational. The Nuclear Waste Act provides for a determina-tion of the fees collectible by the DOE for the disposal of nuclear fuel irradiated prior to April 7, 1983 and for three paym'ent options. The option of a single payment to be made at any time prior to'tile first delivery of fuel to the DOE was selected by the Company in June 1985. The Company estimates the fees, including accrued interest, owed to the DOE to be $ 833 million at. December 31, 1997. The Company is allowed by the PSC to recover these co'sts in rates. The estimated fees are classified as a long-term liability and interest is accrued at the current three-month Treasury bill rate, adjusted quarterly. The Nuclear Waste Act also requires the DOE to provide for the disposal of nuclear fuel irradiated after April 6, 1983, fo'r a charge of appioximately one mill ($ .001) per KWH of nuclear energy generated and sold. This charge (approximately $ 3.6 million per year) is currently being'collected from customers and paid to the DOE pursuant to PSC authorization. The Company expects to utilize op-site storage for all spent or retired nuclear fuel assemblies until an interim or permanent nuclear disposal facility is operational.

There are presently no facilities in operation in the United States available for the reprocessing of spent nuclear fuel from utilitycompanies. In the Company's determination'of nuclear fuel costs it has taken into account that nuclear fuel would not be reprocessed and has'provided for disposal'costs in accordance

' with the Nuclear Waste Act. The Company has completed a conceptual study of alternatives to increase the capacity for the interim storage of spent nuclear fuel at the Ginna Plant. The preferred-alternative, based on cost and safety criteria,.is to ihstall high-capacity spent fuel racks in the existing area of the spegt fuel pool. The additional storage capacity, scheduled to be implemented prior to September 2000, would allow interim st'o'rage of all spent. fuel discharged from the Ginna Plant through the end of its Operating License in the year 2009.

+tote 10 continued on page 56)

'ENVIRONMENTALMATTEI5, \

pnsm s5)

The following tables list various sites where past waste handling and disposal has or may have occurred that are discussed below:

Site Name Location, Estimated Company Cost.-

'Table I Conrpany-Owned Sites:

West Station*

Rochester, NY

'ltimate

'etermined.

costs have riot been East Station . Rochester, NY.

• , Front Street'ochester, Brewer Stre'et Rochester, NY NY The Company has inc'urred a regate costs for these sites through December31, 1997 Brooks Avenue- Rochester,NY, of $ 4.3 million.-

Canandaigua' 'anandaigua, NY-

'Voluntary agreement signed:

I

Table II Superfund and Non-Owned Other Sites:

'yracuse, 1

Quanta Resources', NY .'ltimate costs have not been

, Frontier Chenlical-Pendleton* Pendleton, NY determined. The Company has Maxey Flats* 'orehead, KY . incurred aggregate costs for these Mexico Milk Mexico, NY sites through December 31, 199'7 Byron Barrel and Drum

'ergen, NY of less than $ 1.0 million.

Fulton Terminals', I Oswego, NY PASofOswego',

' Oswego,NY "Orders on consent signed.

Company-Owned Waste Site, Activities. As part of its commitment to environmental excellence, the Company is conducting proactive Site Investigation and/or Remediation (SIR) efforts at six Company-owned sites where past waste handling and disposal may have occurred. Remediation activities at four of these sites are in various stages'of,planning or completion and the Company is conducting a'program to restore the other two sites. The Company has fecorded a total liabilityof approximately $ 13.6 million,

$ 12.8 million of which it anticipates spending on SIR efforts at. the six Company-owned sites listed in

'able I above. Concurrently, the Company recorded a similar amount in its Regulatory Assets.

In mid-1995, the New York State Department of Enviroqmental Conservation (NYSDEC) developed a listing of sites called "-The Hazardous Substance Site Inventory". Under'current New York State law, unless a site, ttIhich is determined to pose a public health or environmental risk, contains hazardous wastes, State .

"Superfund" monies cannot be used to assist in the, cleanup. The'State wanted to have some sense of the scale of this problem before the legislature considered other avenues of legal and'financial redress than

, those currently available. The NYSDEC's "Hazardous Substance Waste Disposal Site Study" was developed to assess the number of and cost to remediate sites where hazardous chemicals, but not hazardous wastes are present. Of the six Company-owned sites listed in Table I above, three are listed, in this inventory.

These are-East Statiqn, Front Street and Brooks Avenue. In addition to these three sites, thy inventory includes Ambrose Yard and Lindberg Heat Treating. The Company does not believe that additional SIR

, pork for which the Company is responsible is required at either site, however the Company is unable to predict what action will be necessitated as a'result of the listing.

The Company and its predecessors formerly owned a'nd operated three manufactured gas facilities, tn the Rochester area: They are included in Table I. Cleanup activities which were previously suspended,

~ -,resumed. on a portion of the West

. Station site and were concluded in July ltt96 under ayoluntary agree-ment with'the NYSDEC. The Company received release from future liabilityand a covenant not to sue from the NYSDEC for this work. There remain other portions of. the prbperty where additiorial, remedial

• work is expected; however, only a preliminary scope and schedule have been determined. At the second of the three manufactured gas plant sites known as Eastltation, an interim remedial action was undertaken

'n late 1993. Ground water monitoring wells weie also installed to assess the quality of the ground water at this location. The Company has informed the NYSDEC of the results of the samples taken. Subsequent data evaluation indicate a wider array of potential sources of coal gassification related materials than previ-ously thought suggesting significant remedial work may be required.

At the third Rochester area property owned by the Company (Front Street) where gas manufacturing',

took place, a boring placed in the Fall of 1988 for a.sewer system ptoject showed a layer containing a black; viscous material. The study of the layer found that some of the soil and ground water-on-site had been

'dversely impacted. The matter was reported to the NYSDEG and, in September 1990, the Company also l4xhester Gas and Hcctdc provided the aI;ency with a risk assessment. The report of the results of this study and the NYSDFC's Corpontlon response to the recommendations made therein will influence the future remediation costs. The Company J

l I J

58

has signed a voluntary agreement to perform limited,additional, investigation at the site to determine whether certain remedial actions are necessary prior to development.

Another property owned by the Company where gas manufacturing took place is located in Canandaigua, New York. Limited investigative work performed there during the summer of 1995 has

, sliown evidence of both. the former gas manufpcturing operations and leakage from fuel tanks. The

...NYSDEC was informed; the fuel tanks removed; and additional investigative work continues. The SIR costs -

associated with the~e actions are included in Table I. The NYSDEC has not taken any action against the Company as a result of these findings.

On another portion of the Company's property (Brewer Street), the County of Monroe has installed and operates sewer lines. During sewer installation, the County constructed over Company property

=certain retention ponds which reportedly received from'the sewer construction area certain fossil-fuel-based materials (the materials) found there. In July 1989, the Company received a letter from the County, "asserting that activities of the Company left the County unable to effect a regulatorily-approved closure of '.

the retention pond area. The County's letter takes the position that it intends to seek reimbursement for its additional costs incurred with respect to the materials once the NYSDEC identifies the generator and that any further cleanup action wpich the NYSDEC may require at the retention pond site is 'hereof the Company's responsibility. In a November 1997 letter, the, County has claimed that the Company was original generator of the materials. It asserts that it will h'old the Company liable. for 50% of all

'he County costs presently estimated at a total of approximately $ 5 million associated both with'the mate-rials'xcavation, treatment and disposal and witlieffecting a regulatorify-approved closure of the reten-

• tion pond area. The Company could incur costs as yet undetermined if it were to be found liable for such closure and materials handling, although provisions of an, existing easemerit afford the Company rights which may serve to offset all'or a portion of any such County claim. To date, the Company has agreed to pay a 20% share of the County's 1995 investigation of this area, which is estimated to cost no more-than

$ 150,000, but no commitment has been made toward any subsequent investigations or remedial measures which may be, recommended by the investigations.

Monitoring wells installed at another Company facility (Brooks Avenue) in 1989 revealed that an unde-termined amount of leaded gasoline had reached the ground water. The Company has continued to monitor free product levels in the wells, and has begun a modest'free product recovery project. It is esti-mated that further investigative work into this problem may. cost up to $ 100,0PO. awhile the cost of cor'rec-tive actions cannot be determined until investigatiohs are completed, preliminary estimates are not -,

expected to exceed $ 500,000.

Superfund and Non-Owned Other Sites. The Company has been or may be associated as a potentially responsible party (PRP) at seven sites not owned by it. The Company has signed orders on consent for-five, of these sites and recorded estimated liabilities totaling approximately $ .8 million. I In one site, known as the Quanta Resources Site, the Company signed a consent'order with the Environmental Protection Agency (EPA) and paid its $ 27,500 share of remedial cost. The Company was again contacted by EPA in late August, 1996. The EPA informed the Company that it believed certain addi-tional work was required, including a study to determine the extent to which additional removal of waste

~

materials was required. The EPA's list of PRPs had grown to about 80: The Company, along with most of those PRPs, has agreed (through an'Administrative Order on Consenf) to conduct the required study..The Company anticipates its obligation- through this phase willbe'less than, $ 10,000. On May 12, 1997, the Company signed an Administrative Order on Consent with the NYSDEC. This agreement served-to obligate the respective parties to pay NYSDEC's past costs at the Site, the Company's share of which was determined to be $ 1,500. There is as'yet, no information on which to determine the cost to design and condu'ct at the site any remedial measures which federal or State authorities may require,"the Company does not expect its additional costs to exceed,$ 150,000.

On May 21,,1993, the Company was notified by NYSDEC that it was considered a PRP for the Frontier

, Ch'emical Pendleton Sqperfund Site located in Pendleton, NY. The Company has signed, along with other participating parties, an Administrative Order on Consent with NYSDEC. The Order on Consent obligates the parties to implement a work plan ang remediate the site. The PRPs have negotiated a'wdrk plan for, .

site remediation and hav'e retained a consulting firm to implement the work plan. Preliminary estimates indicate the Company's share of additional site remediation costs are not expected to exceed $ 350,000.-

The Company is participating with the group to allocate costs among the PRPs. Subsequent work has indi-cated that the final cost is likely to be lower.

The Company is involved in the investigation and cleanup ofthe Maxey Flats Nuclear Disposal Site in Morehead,'Kentucky and has signed various consent orders to that effect. The Company has contributed

, to a study of-thh site and estimates that its share of the additional costs of investigation and remediation is, not expected to exceed $ 250,000. p'oee continued on 10 page 58) 57

J p (mnttnurd from The Company has been named as a PRP at three other sites and has been associated with tanother site part 57) for which the Company's share of total additional projected costs is not expected to ex'ceed $ 71,000.

Actual Company expenditures for these sites are dependent upon the total cost of investigation and reme-diation and the ultimate determination of the Company's share of responsibility for such costs as'well as

~

the financial viability of other identified responsible parties.

Federal Clean Air Act A'mendments. The Company is developing strategies responsive to the federal clean air act amendments of 1990 (Amendments) which will primarily affect air emissions from the-

, Company's fossil-fueled generating facilities.'he strategy being developed is a combination of hardware solutions which have a capital and operation and maititenance (ORM) component and allowance trading solutions which have strictly an ORM impact. The most recent strategic developments still envision this combinafion of efforts as the most cost effective means of proceeding although State legislative activity could impact the Company's ability to rely upon the emission allowance market to meet some of its environmental commitments. The Company cannot predict the outcome of these proceedings in the Legislature and, as a result, the Company's projections are based solely on the combination. strategy.,

A range of capital costs between $ 2.9 and $ 3.5million has been estimated for the implementation of several potential alterations for meeting the foreseeable nitrogen oxide, opacity and sulfur dioxide requirements of the Amendments, as well as $$ .0 to $ 1.5 million per year in operating expenses. These capital costs would be incurred between 1998 and 2000. The ORM expenses would be for the year 1999.

For the year 2000 and beyon'd, the Company estimates that the annual operating expenses would rise to between $ 2.4 million and $ 3.7 million. Any additional post/000 capital costs,and operating expense cannot be predicted until resolution of State and federal legislative activity enables the" Company to hnalize its compliance strategy.

Opacity Issue. In May 1997, the, Company commenced negotiations with the NYSDEC to resolve alit!-

gations of past opacity violations at the Company's Beebee and Russell Stations. The opacity standard is a regulation which limits the density of the smoke emitted from the Stations'mokestacks. The Company

! believes that it will reach an agreement with NYSDEC on this issue and that the amount of any civil penalty willlikely include both cash and environmental benefit project components which, in the aggre-gate, will'not be material. In addition, the Stations have been temporaiily derated since February 1997 to maintain acceptable opacity levels while the Company investigates additional'engineering solutions to address opacity emissions. The finanCial impact of the deratings includes the lost opportunity associated

~

with energy sa/es and; at times, the need to make additional purchases to meet system requirements.

While the deratings have decreased earnings, and willcontinue to do so, th'e Company does not expect

. the amount to be material. Finally, the New Yoik Power Pool (NYPP)-is in the process of evaluating new rules for ity system load regulation. The current Station deratings for opacity reasons would reduce the ability of the Company to react to changes in load and provide regulation services when called upon by the NYPP, resulting in additional costs. Depending on the new NYPP requirements, and whether the der-atings remain in effect, the revised rules could result in the Company having to purchase additional regu-lation services which may cost between $ 500,000 and $ 2,500,000.annually.

GAs Cosr REcovERP" Gas Restructuring Proceeding, In the PSC's Proceeding on Restructuring the Emerging Competitive Natural Gas Market, the PSC established a three-year period (ending March 28, 1999) during which the

'State's local distribution companies (LDCs) would be permitted to require customers converting from sales.

service to take associated pipeline capacity for which the LDCs had originally contracted.'Prior to the beginning of the'third year, the LDCs would be required to demonstrate their efforts to dispose of "excess" capacity. On September 4, 1997, the PSC issued an Order clarifying the March 28, 1996 Order. The Septembei 4 Order requires, among other things, that the LDCs (a) assess strandable costs; P) evaluate and pursue options to address strandable costs, including exploration of alternative uses and quantifica-tion of market values for the capacity that could be stranded by converting customers (c) actively,encour-age competition including collaboration with marketers to expand the number of customers taking transportation service from the LDC and to provide customer education; and (d) to the extent LDCs cannot shed all their capacity as contracts expire, to continue to seek lower cost options and more flexibil-ity and shorter contract terms, where cost-effective. LDCs are required to file plans addressing the forego-ing issues by April 1, 1998r Pursuant to the PSC's orders, the cost of capacity defined as "excess" may not be fully recoverable in rates. Accordingly, the Company's~bility to avoid absorbing this cost will depend Rochestrr on the success of remarketing and portfolio structuring efforts'and, if such'efforts do not~result in elimi-Gtt jrtd HCCt!IC Coqorttlort nating all "excess" capacity, on a satisfactory explanation as to why all such ca'pacity could not be elimi-nated. The Company is engaged in negotiations with the Staff of the PSC and other parties to addiess P

58

- these and other issues related to the future provision of gas service. At this time, no assessment of the potential impact of these requirements on the Company can be made.

On September 4, 1997, the PSC also issued for comment a Staff position paper which proposes that

, LDCs exit their merchant function, i.e., cease to supply the natural gas commodity=to their existing cus-tomers, within five years and that they eliminate or restructure transportation and storage capacity con-tracts extending. beyond five years so as to eliminate obligations beyond that point, except where capacity is required to fulfilloperational requirements or the LDC's obligations as the "supplier of last resort" to customers having no competitive alternative. Ifadopted by the PSC, the Staff proposal could require the Company to remarket more capacity and to do so more rapidly than currently contemplated. The comment period concluded on December 20, 1997, and no prediction can 6e made as to whether the Staff proposal will be adopted or; if so, the extent of its potential impa'ct on the Company.,

1995 Gas Settlement. The Company has entered into several agreements to help manage its pipeline capacity costs and has successfully met Settlement targets for'capacity remarketing for the twelve months ending October 31, 1997, thereby ayoidin'g negative financial impacts for that period. The, Company, believes that it will also be successful in meeting the Settlement targets in the remaining year period, although no assurance may be given.

of'the'ettlement The FERC approved a change in rate design for the Great Lakes Gas Transmission Limited Partnership (Great Lakes) on which the Company holds transportation capacity. This change resulted in a retroactive-.

surcharge by Great Lakes to the Company in the amount of approximately $ 8 million,'including interyt.

'Under the terms of the 1995 Gas Settlement, the Company may recover approximately one-half of the surcharge in rates charged to customers; but the remainder may not be passed through and has been pre-

~

viously reserved. The Company, which, paid tlie Great Lakes assessment under protest, vigorously con-tested it before. the FERC, but on April 25, 1996, the FERC uphelrl this, determination that the charge to the Company is proper. The Company's petition to the U.S. Court of Appeals was denied on January 16; 1998. The Company is evaluating its next steps.

LEASE AGREEMENIS The Company leases five properties for administrative offices and operating activities. The total lease expense charged to operations was $ 4.2 million, $ 3.9 million and $ 2.4 million in 1997, 3996 and 1995 respectively. For the years 1998, 199$ , 2000, 2001 and 2002 the estimated lease expense charged to opera-tions will be $ 4.1 million, $ 2.4 million, $ 2.4 million, $ 2.4 million and $ 2.4,million, respectively; Commitments under capital leases were not.significant to the 'accompanying financial statements.

LITIGATION Spent Nuclear Fuel Litigation. The Nuclear Waste Act (Act) obligates the DOE to accept for disposal spent nuclear'fuel (SNF),starting in 1998. Since the mid-1980s 'the Company and other, nuclear plant

' owners and operators have paid substantial fees to the DOE to fund its obligations under the Nuclear Waste Act. DOE has indicated that it will not be in a position to accept SNF in 1998. In 1994, Northern States Power Company and other owners and operators of nuclear power plants filed suit against DOE and the U.S. in the U.S. Court'of Appeals for the District of Columbia Circuit seeking a declaration that DOE's course of action.was in violatiorr of.its obligations under the Act, and req'uesting other relief. In a July 1996 decision, the court upheld the utilities'osition that DOE is obligated to accept and dispose of the utilities'NF beginning not later than January 31, 1998. DOE had contended in effect that it could defer the disposal until'the availability of a suitable SNF repository. The court rejected this DOE reading of the Nuclear Waste Act, but stopped short of providing the utilities a remedy'since DOE has not yet'defaulted on its obligations. By letter dated December 17, 1996, DOE invited the parties to.the proceeding-to provide written comments on how DOE's anticipated inability to meet its January 31, 1998 obligation to begin accepting SNF could "best be accommodated". The Company and a number of other parties responded to that invitation. By Joint Petition for Review, dated January 31, 1997, the Company and a number of other nuclear utilities petitioned the United States Court of Appeals for the District of

,Columbia Circuit for a declaration that, the Petitioners were relieved of the obligation to pay fees into. the.

Nuclear Waste Fund, and authorized to place those fees into escrow when and until DOE commences dis-posing of SNF. The Petition further requested that DOE be ordered to develop a program that would enable it to begin acceptance of SNF by January 31, 1998. By Order dated November 14, 1997, the D. C.

- Circuit held that DOE could not exercise delay in accepting fuel on grounds that it lacked an SNE reposi-n to'ry, and that the utilities had a",clear right'to relief". Rather than grant funding relief and order the DOE to move fuel, however, the C;ourt referred the utilities to the remedies set forth in their contracts with the DOE. The Company is pursuing such remedies.

N I

(Ãoto 10 continued on paso 60) 59

a e

Department, ofJustice Lawsuit.,On June 24,.1997, the Antitrust Division of the United States

~

(mntinurd from page s9)

Department of Justice filed a civil complaint against. the Company in the United States District Court for the Western District of New York. The complaint follows a Civil Investigative Demand investigation. That investigation included,a broad look at the Company's activities in the electric power industry including

~

initially, the Company's payer purchase agreement with an independent power producer. The investiga-tion then focused primarily upon the flexible rate long term contracts entered between the Company and a number'of its large customers under a tariff approved by the PSC. The tariff and the PSC policies it implemented recognized that if large customers took. their electrical load off the system, the rates for .

remaining customers would have to increase to cover the fixed'costs of operation.

The Division in its complaint has challenged oiily certain provisions of one flexible rate contract,.the contract with the University of Rochester. The Complaint alleges that those provisions.in that contract ~

violate Section 1 of the Sherman Act by restricting the customer's right to compete with the Company in the sale of electricity and seeks an injunction prohibiting the Company from enforcing that contract and from entering other agreem'ents that limit competition in the sale of electricity to other, customers, The Companyiielieves that the investigation and the Complaint reflect the desire by the Antitrust Division to become involved in the deregulation of electric utilities, but that the proper way to do. that is in the proceedings before the PSC in the Competitive Opportunities Case.

On September 3, 1997, the Company filed its answer which denied the material allegations of the Complaint. At the same time, the, Company filed a Motion for Summary Judgment asking the Court to

. dismiss the action with prejudice on the grounds that the Company's actions are immune from antitrust

, liabilityunder the State action exemption, that the'Company's actions did not injure competition and that the Department of Justice's claims are speculative. On November 3, 1997, thh Department of Justice filed its opposition to the Company's Motion for Summary Judgment and filed its own Motion for Summary Judgement. The Company's'response to the Justice Department motion was filed on December 5, 1997.

These Motions for Suminary Judgment were argued on December 19, 1997. In Court, the parties agreed to a resolution of the dispute, suggested by the Judge which, in the company's opinion, would not have any material effect, on its contract with the University. The Antitrust Division however, has expressed its unwillingness to agree to a Consent Decree based on the agreement reached in court and the matter is still pe'nding.

Litigation with Co-Generator. Under federal and New York State laws and regulations, the Company is required to purchase the electrical output of unregulated cogeneration facilities which meet certairi criteria (Qualifying Facilities). Under these statutes,' utilityis required to pay for electricity from Qualifying Facilities at a rate that equals the cost to the utilityof power it would otherwise produce itself or purchase from other sources (Avoided Cost). With the exception of one contract which the ~-

Company was compelled by regulators to enter into with Kamine/Besicorp Allegany LJ. (Kamine) for

,. approximately 55 megawatts of capacity, the Company has no long-term obligations to purchase energy from Qualifying Facilities,-

Uiider State law and regulatory requirements in effect at the tim'e the contr'act with Kamine was negoti-ated, the Company was required to agiee to pay Kamine a price for power that is substantially greater than the-Company's own cost of production and other purchases. Since that time the State "six-centn law man-dating a minimum price higher than the Company's own costs has been repealed and PSC estimatesef future cbsts on which the contract was based have declined dramatically.

In September 1994, the Company commenced a lawsuit in New York State S'upreme Court, Monroe .

County, seeking to void or, alternatively, to reform a Power Purchase Agreement with Kamine for the puichase of the electrical output of a cogeneration facility in the Town of Hume, Allegany County, New Yorl, for a term of 25 years. The contract was negotiated pursuant'to the specific pricing, requirement of a State statute that.was later repealed, as >veil as estimates of Avoided Costs by the PSC that subsequently were drastically reduced. As a result, the contract requires the Company to pay prices for Kamine's electri-cal output tliat dramatically exceed current Avoided Costs and current projections of Avoided Costs. The

. Company's lawsuit seeks to avoid payments to Kamine that exceed actual and currently projected Avoided

~

Costs. Kamine answered the Company's complaint, seeking to force the Company to take and pay for power at the higher rates called for in the contract and claiming damages in. an unspecified amount Rocheater Gat and Bectrlc Corporatton alleged to have'been caused by the Company's conduct. The Company received test geneiation from the Kamine facility during the last quarter of 1994. Kamine contends that the facility went into commercial

'peration in December 1994 and that the Company is obligated to pay,the full contract rate for it. The

'Company disputes this contention and refuses to pay the full contract rate:Duiing 1995 Kamine filed a

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for Summary Judgment dismissing the Company's complaint and diiecting it to perform the 'otion

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Power Purchase Agreement. The court denied that motion and Kamine appealed. After argument of that appeal Kamine filed for protection under the Bankruptcy laws and.sent to the Appellate Division a notice that all further proceedings were stayed.

In addition, Kamine has filed a related complaint in the United States District Court for the Western District of New York alleging that the conduct which is the subject of the State court action violates the federal antitrust laws. The complaint seeks damages in the amount of $ 420,000,000, when trebeled, as well as preliminary and permanent injunctions. Subsequently, Kamine filed a motion for a preliminhry injunction in the. federal. action to gnjoin the Company from refusihg to accept and purchase electric power from Kamine and enjoining the Company from terminating during the pendency of this lawsuit its performance under the contract. In November 1995, the Court issued a decision denying Kamine's motion for a preliminary injunction, finding, among other things, that Kamirle had not established the necessary likelihood of success on the merits of its action. Kamine filed a notice bf appeal from that .

decision but has subsequently announced that it is withdrawing that appeal.

During 1995 the PSC invited the Company to file a pytition requesting, among other things, that the

.Commission commence an investigation to deteimine whether at the time of claimed commercial opera-tion the Hume.plant was a cogeneration facility unde? New York law as required by the Power Purchase Agreement. The Corn/any filed such a petition and Kamine filed papers in opposition. I During 1995 Kamine filed a petition before the FERC to waive certain requirements for federal Qualified Facility status for 1994. The Company and the PSC filed in opposition to the request.

Subsequently FERC issued an order granting the waiver request and the Company's motion for rehearing was denied. The Company filed a petition for review with the U.S. Court of Appeals for the District of Columbia Circuit but that court denied the request for review.

In November 1995 Kamine filed in Newark, New Jersey for protection under the Bankruptcy laws and filed a complaint in an adve'rsary proceeding seeking, among other things, specific performance of the Agreembnt. Kamine filed a motion to compel the Company to pay. what would be due under Kamine's view of the t0rms of the Agreement during the pendency of the Adversary Proceeding. After hearing,'the Bankruptcy Court denied that motion. The Court also denied various motions made by the Company to change the venue of the proceedings to New York State and to liftthe automatic stay of the pending New'ork State action. On appeal the Bankruptcy Court was reversed and the case sent back to the Bankruptcy .

'ourt to decide where the contract issues in the Adversary Proceeding should be adjudicated. As of June 16, 1997, the Company filed a Secbnd Amended Complaint in the State Court action asserting additional

'claims based on subsequent occurrences.

On March 19, 1997, the Bankruptcy Court stayed.thi.'Adversary Proceeding pending resolution of the it contract issues in the New York State court trial. Kamine has indicated will not appeal this action.

On June 26, 1997, the defendants filed a Joint Notice of Removal of Action, removing the action to the United States District Court for the Western District of New York. There have been no further proceedings to date.

Numerous other procedural motions have been presented in the Bankruptcy Court; some of which may no&be con'sidered by the New York State court. While these proceedings are pending, the Company

'ould pay approximately two cents per kilowatt hour when the plant operates: It is not operating at the present time.

General Electric Capital Corporation Lawsuit. On July 3, 1997, General Electric Capital Corporation (GECC) filed a complaint against the Company in the United States District Court for the Western District of New York in connection with the Kamine project in Hume, New York, for which GECC provided financing. The complaint asserts that the Company violated the antitrust laws in its d'ealings with Kamine

'and seeks injunctive relief, treble damages and alleged actual damages of not less than $ 100,000,000. The claims made in the complaint filed are substantially similar to the claims made by Kamine in the same

'ourt under Kamine's version of the terms of the Power Purchase'Agreeinent for the Hume project.. The court denied Kamine's motion for a preliminary injunction on grounds which included Kamine's failure to establish a likelihood of success, on the merits of its claims. Kamine had filed a notice of appeal from a decision denying Kamine's motion for a preliminary injunction. Kamine subsequently withdrew the appeal. The Company believes the complaint by GECC is also without merit and intends to defend the actidn.

Epo( r ofAXBr(agpBlerir ~ 'L Y

7 The man'agement of Rochester Gas and Electric Corporation has prepared and is responsible for the consolidated financial statements and related financial information contained in this Annual Report. Managemen't uses its best judgements and estimates to erisure that the financial statements reflect fairly the financial position, results of operations and cash flows of the Company in accor-with generally accepted accounting principles. Management maintains a system of internal 'ance accouriting controls over the preparation of'its financial statements designed to provide reasonable assurance as to the integrity and reliability of the financial'records.

This system of internal control includes documented, policies and guidelines and periodic evalua-tion and testing by the, inteinal audit departmerit.

The Company's financial statements. have been, examined by I'rice Waterhouse LLP, independent accountants, in accordance with generally. accepted auditing standards. Their examination includes a review of the Company's system of internal accounting control and such tests and other procedures necessary to express an opinion as to whether the Company's financial statements are presented .

fairly in all material respects in conformity with generally accepted accounting principles The report of-Price Waterhouse LLP is presented'on page 36.

The Audit Committee of the Board of Directors is',responsible for reviewing and monitoring the Company's financial reporting and accounting practices. The Audit Commitfee meets, regularly with management and the independent accountants to review auditing, internal control and financial,

"'reporting matters.,The independent accountants have direct access to the Audit Committee, without management present, to discuss the results of their examinations and their opinions on the adequacy of internal accounting controls and the quality of financial reporting..

Management believes that, at December 31, 1997, the Company maintained an effective system of internal control over the preparation of its published financial statements.

r Chairman of the Board,-President and Senior Vice President, Corporate Services and Chief Executive Officer Chief Financial Office rr r January 23, 1998 r

nterim Financi~/Dita - .

In the opinion of the Compa'ny, the following quarterly information includes all adjustments, consisting

, of normal recurring adjustments, necessary for a fair statement of the results of operations for such periods.

,The variationk in operations reported on a quarterly basis are a result of the sea'sonal nature of the Company's business and the availability of surplus'electricity. The sum o$ the quarterly earnings per share may not equal the fiscal year'arnings per share due to rounding. t (Thousands of Dollars) a Earnings per Common Share.

Operating . Operating Net Earnings on (in dollars)

Quarter Ended -Revenues Incoine Income Common Stock Basic, Diluted December 31, 1997 September 30, 1997 June30,1997 March 31, 1997

'. .-$ 271,039 221,335 229,419 314,845

$ 24,406 34,616

'1,125 55,194

$ 14,031 21,724 18,172 41,433

$ 12,726 20,419 16,681 39,729

$ 0.32 0.52 0.42 1.02

$ 0.32

.0.52 0.42 1.02 December 31, 1996' $ 274,431 $ 33,048 $ 22,228 $ 20,362 $ 0.52 $ 0.52 September 30, 1996 234,843 36,159 21,062 19,196 0.49 0.49 June 30, 1996 235,577 23,11$ 11,732 9,866 ~ 0.25 0.25 March 31, 1996 56,866 42,489 . 40,623 1.05 ~ 1.05 309,195'270,518 December 31, 1995t~ $ 32,324 $ (387) $ (2,253) $ (0.05) $ (0.05>

September 30, 1995 245,145 41(738 26,934 25,068 0.65 June 30, 1995 219,546 29,454 1,4,861 12,995 0.34 0..

March 31, 1995 281,119 46,557 30,& 28,653 0.75 0.7> .

Rorhtrtrr 'h Gar artd Batt(to Corporattort 'Reclassified for comparative purposes.

'Includes recogriition of $ 28.7 million net-of.tax gas settlement adjustment.

I I

82

I mmOll EOC 2B 2V2 Oil g Earnings/Dividends 1997 1996 1995 Shares/Shareholders '997 1996 '995

, .Earnings per share Numbei of shares (000's) basic $ 2.30 $ 2.32 $ 1.69 Weighted average

.diluted $ 2.30 $ 2.32 $ 1.69 basic 38I853 38,762 38,113 Dividends paid -diluted 38,909 38,762 38,113 er share $ 1.80 $ 1.80 $ 1.80 Actual number at December 31 38,862 38,851 38,453 Number of shareholders at December 31 . 31,337 .,33,675 35,356 TAx STATUs QF CAsH DlvlDENDs.

Cash dividends paid in 1997, 1996 and 1995 were 100 percent taxable for federal income tax purposes.

DIVIDEND POLICY.

The Company has paid cash dividends quarterly on its Common Stock without interruption since it became publicly held in 1949. The level of future cash dividend payments will be dependent upon the Company's future earnings, its financial requirements and other factors.

The Company's Certificate of Incorporation provides for the payment of dividends-on Common Stock out of the surplus net profits (retained earnings) of the Company.

Quarterly dividends on Common Stock are generally paid on the twenty-fifth day of January, April,July and October. In January 1998, the Company paid a cash dividend of

$ .45 per share on its Common Stock. The January 1998 dividend payment is equivalent to

$ 1.80 on an annual basis.

CQMMQN STocK TRADING.

Shares of the. Company's Common Stock are traded on the New York Stock Exchange under the symbol "RGS."

1997 1996 '995 Common Stock Price Range High 1st quarter 20Ya 23i!i 23 2nd quarter 21Yic 21Na 22Na "3rd quarter 24'c/sc 21s/s 24N 4th quarter 34i/a 19i/a 24N Low

,1st quarter 18Ya 21i/i 20Ns 2nd quarter 18 19Ns 20Ns 3rd quarter 20i/a 18 20 quarter

'th 23Yi 17Ns 22s/s At Decerrrber 31 34 19N 22i/a 63

electea'Financial 'Data (Thousands of Dollars) Year Ended December 31 1997 -

1996'995'994'993'992 Consolidated Summary of Operations Operating Revenues Electric $ 679,473 $ 690,883 $ 696,582 $ 658,148 $ 638,955 $ 608,26>

Gas 336,309 346,279 293,863 326,061 293,708 261,724 1,015,782 1,037,162 990,445 984,209 932,663 869,991 Electric sales to other utilities 20,856 16,885 25,883 16,605 16,361 25,541 Total Operating Revenues 1,036,638 1,054,047 1,016,328 1,000,814 949,024 895,532

'perating Experrses Fuel Expenses Fuel for electric generation 47,665 40,938 447199 44,961 . 45,871 48,376 Purchased electricity 28,347 46,484 54,167 37,002 31,563 29,706 Gas purchased for resale 196,579 202,297 167,762 194,390 166,884 141,291 Total Fuel Expenses 272,591 289,719 266,119 . 276,353 244,318 219,373 Operating Revenues Less Fuel Expenses 764,047 764,328 750,209 724,461 704,706 676,159 Other Operating Expenses Operations excluding fuel expenses 268,474 266,094 259,207 241,672 240,342 226,624 Maintenance 46,635, 47,063 49,226 55,069 61,693 62,720 Depreciation and amortization 116,522 105,614 91,593 87,461 84,177, 85,028 Taxes local, state and other 121,796 126,868 133,895 129,778 126,892 124,252 Federal income tax current 69,812 65,757 65,368 35,658 33,453 36,101 deferred (4,533) 3,744 847 25,587 15,877 7 490 Total Other Operating Expenses 618,706< 615,140 600,136 575,225 562,434 542,215 Operating Incoure 145,341 149,188 150,073 , 1491236 142,272 133,944 Other (Income) arid Deductions Allowance for, other funds used during construction (351) (684) (585) (396) (153) (164)

Federal income tax (3,704) (3,450) (16,948) (16,259) (9,827) (4,1 Regulatory disallowances 266866 600 1,953 8,2 Pension plan curtailment 33,679 8,179 Other, net 3,308 (712) 9,631 (923) 2,113 (6,155)

Total Other (income) and Deductions (747) (4,846) ~ 18,964 16,701 2,265 (2,299)

Interest Charges Long term debt 44,615 48,618 53,026 53,606 56,451 60,810 Short term debt 47 21 398 1,808 1,487 1,950 Other, net 6,629 9,307 8,658 4,758 5,220 5,228 Allowance for borrowed funds used during construction (563) (1,423) (2,901) (2,012) 0,714) (2,184)

Total Interest Charges 5.0,728 56,523 , 59,181 58,160 61,444 65,804 Net Income 95,360 97,511 71,928 74,375 78,563 70,439 Dividends on Preferred Stock at .

Required Rates 5,805 7,465 7,465 7,369 7,300 8,290 Earnings A licable to Coumron Stock $ 89,555 $ 90,046 $ 64,463 $ 67,006 $ 71,263 $ 62,249 Earnings per Couunon Share Basic $ 2.30 $ 2.32 $ 1.69 $ 1.79 $ 2.00 $ 1.86 Ear7ungs er Coumron Share Diluteri $ 2'.30 $ 2.32 $ 1.69 $ 1.79 $ 2.00 $ 1.86 Cash Dividends Declared er Comuron Share $ 1.80 $ 1.80 $ 1.80 $ 1.77 $ 1.73 $ 1.69

'Reclassified for comparative purposes.

R0ehester Gas and Electric

Condensed Consolidated Balance Sheet (Thousands of Dollars) At December 31 '997 1996 TS95* '. 1994" 1993*

1992'ssets UtilityPlant $ 3,234,077 , $ 3,159,759 $ 3,068,103 $ 2,981,151 $ 2,890,799 $ 2,798,581 Less: A'ccumulated depreciation and

'mortization 1,714,368 1,569,078 1,518,878 1,423,098 1,335,083 1,253,117

\ 1/519,709 1,590,681 1,549,225 - 1,558,053 ',555,716 1,545,464 Construction work in progress 74,018 69,711 121,725 128,860 112,750 83,834 Net utility plant 1,593,727 1,660,392 1,670,950 1,686,913 11668,466 J,629,298 Current Assets, 242,371, 250,461 292,596 236,519 248,589 "209,621 Investment in Enrpire 38,879 38,560 ~

38,560 9,846 Deferred Debits . 432,191 450,623 .. 453,726 484,962 488 527 181,434 Total Assets $ 2,268,289 52,361,476 $ 2,456,151 $ 2,446,954 $ 2,444,142 $ 2,030,199 Capitalization anft liatfitities Capitalization Long term debt $ 646,954 ,$ 716,232 $ 735,178 $ .747,631 $ 6S8,880 Preferred stock redeemable at option of Company 47,000 67,000 67,000 , 67,000 67,000 67,000

, Preferred stoclc subject to mandatory redemption 35,000 i 45,000 55,000 55,000 42,000 54,000 Common shareholdersquity:

Common stock 699,031 696,019 687/518 670,569 652,172 591,532 Retained earnings 109,313 90,540 70,330 74,566 75,126 66,968 Total common shareholders'quity 808,344 786,559 757,848 745,135 727,298 658,500 Total Capitalization Liabilities'587,334 1,477,678 1,545,513 ',596,080 1,602,313 1,583,929. ',438,380 Long Tenn Liabilities (Departnrent ofEnergy) 96,726 93,752 90,887 87,826 89,804 . 94/602 Current Liabilities, 189,317 158,217 1824338 181,327 234,530 267,276 Deferred Credits anrl Other Liabilities 504,568 563,994 586,846 575,488'35,879 229,941 .

Total Capitalization and $ 2,268,289 $ 2,361,476 $ 2,456,151 $ 2;446,954 $ 2,444,'142 -$ 2,030,199

'Redassihed for comparative purposes.

Financial Oata-At December 31 1997 1996 '995 1994 1993 1992 Capitalization Ratios(a) (percent),

ong terin debt 43.0 44.7 47.4 48.2 49.4'. 48.2

'.6 Preferred stock 5.2 6.9 7.3 7.3 8.0 Common shareholders'quity 51.8 48.4 45:3 44.5 44.0 43.8 Total 100.0 100.0 100.0 100.0 100.0 100.0 Book Value per Cofnnlon Share Year End $ 20.80, $ 20.24 $ 19.71 $ 19.78 $ 19.70, $ 18.92 Rate ofRetunr on Average Cornnron Equity (b)

(percent) 11.00 11.41 8.37 8.92 10.25 9.94 ~

Embedded Cost. ofSenior Capital (percent)

Long term debt .32 733 7.38'= 7:40 7.36 7.91 Preferred stock 5.80 6.26 6.26 626 6.69 6.98 Effective Federal Inconre Tax Rate, (percent) '9.2 "

40.4 40.7 37.7

'33.5 35.9 Depreciation Rate (percent) Electric 3.12 2.99 2.76 2.69 2.62 2.69 Gas 2.60 2.60 2.59 2.62 2.(30 2.78 Interest Coverages /

Before federal income taxes (incld. AFUDC) 4.06 3,82 2.95 2.98 2.87 2.62 (excld. AFUDC) 4.04 3.79 2.90 2.94 2.84 "'.58 After fedtsral income taxes (incld. AFUDC) 2.86 2.68 2.16 2.24 2.24 2/04 (excld. AFUDC) 2.84 '2.65 2.10 .2.20 2.21 2.00 Interest Coverages Items (c)

Exclutling'on-Recurring federal income taxes (incld. AFUDC) 'efore 4.06 3.82 3.6(8 3.55 3.03 2.74 (excld. AFUDC) 4;04 3.79 3.61 %51 3.00 2.70 After federal income taxes (incld. AFUDC) 2.86 .2.68 2.62 2.61 2.35 2:12 (excld. AFUDC) 2.84 2.65 2.57 2.57 2.32 2.08 (a) Indudes company's long tean liabilityto the Department of Energy (DOE) lor nudear waste disposal. Exdudes DOE long term liabilityfor uranium enrichment decommissioning and amounts due or redeemable within one >m.

(b) The return on average common equity for 1995 excluding eflects ol the 1995 Gas Settlement ls I2.IN6. The rate of return on aerage mmmon equity excluding effects of retirement enhancement programs remgrrized by the Company In 1994 and 1993 is 11.9'nd I 1.2N6, respectively. ~

(c) Remgnitlon by the Corppany In 1992 of disallowed ice storm msts as apprond bysshe PSC has beenexduded lrom 1992 coverages. Comrages fo? 1994 and 1993 exdude the effects ol retirement enhancenient programs recognized by the Company during each )var and certain gas purchase undercharges witten offin 1994 and 1993. Coverages In 199S exclude the economic effect of the 199S Gas Settlement ($ 44.2 million, pretax).

1 8

65

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e err'l c'eppr'rmeEl

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8;,/ Sr2rlgrl cp i

Year Ended December 31 1997 1996" 1g959 1994; 1993' 1992 Electric Revenue (000's)

-Residential $ 252,464 $ 254,885 $ 256,294 $ 243,961 $ 234,866 $ 222,21 Commercial 210,643 215,763 215,696 206,545 '96,100 187,262 Industrial- 144,305 153,337 157c464 150,372 148,084 141,507 Municipal and other 72,061, .66,898 67,128 57,270 59,905 57;288 Electric revenue from our customers 679,473 690,883 696,582 658,148 638,955 608,267 Other electric utilities 20,856 i 16,S85 25,883 16,605 16,361 25,541 ~

Total electric revenue 700,329 707,768 722;465 674,753 655,316 633,808 Electric Expense (000's) r Fuel used in electric generation 47,665 40,938 44,190 44,961 45,871 48,376 Purchased electricity 28,347 46,484 54,167 37,002 ,'31,563 29,706

, Other operation 205,058 204,746 199,524 192,360 192,749 183;118 44;032 w 53,714 Maintenance 41,217 41,429 47,295 52,464 Depreciation and amortization ~ 103,395 92,615 78,812 75,211 72,326 73,213 Taxes-.local, state and other 91,111 95,010 102,380 97,919 96,043 94,841 Total electric expense 516,793 521,222 . 523,105 494,748 491,016 482;968 Operating Inconle before Federalgncoine Tax 183,536 186,546 199,360 180,005 164,)00 150,840 Federal income tax 61,837 '1,901 59,500, 52,842 43,845 38,046 Operating Income fronl Electric Operations (000's) $ 121,699 $ 124,645 5139,860 5127,163 5120,455 $ 112,794 Electric Operating Ratio % 46.0 47.1" 47.3 47.7 49.2 49.7 electric Sales KWH (000's)

Residential 2,139,064 2,132,902 I 2,144,718 2,123,277, 2,084,705 2,117,168',028,611 Commercial ',118,991 2,061,625 2,064,813 1,986,100 1 938(173 Industrial 2,010,613 2,010,963 1,964I975 1,860I833 1,892,700 1,929,720 Municipal and other 537,051 520,885 531,311 513,675 504,987 503,388 Total customer sales 6,805,719 6,726,375 6,705,817 6,520,287 6,507,064 6,455,9 Other electric utilities 1,218,794 994,842 1,484,196 1,021,733 4 743,588 1,062,7.

Total electric sales 8,024,513 7,721,217 8,190,013 7,542,020 7,250,652 7,518,724 Customers at December 31

'lectric Residential - 308,909 306,601 304,494 302,219 300,344 Commercial 30,940 30,620 30,426 29,984 29,635 29,339 2,824'07,181 . 1,382 1,386 Industrial , 1,300 1,325 1,347 1,361 Municipal and other 2,688 2,711 2,670 -2,638 2,605 Total electric customers 343,973 341,841 =, 341,085 338,509 335,874 333;674

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Electricity Generated and.

Purchased KWH (000's)

, Fossil 1,664,914 1,512,513 1,631,933 1,478,120 1,520,936 2;197,757 Nuclear 5,119,544 4,094,272 4,645,646 47527;178 4,495,457 4,191,035 Hydro 227I867 248,990 171,886 218,129 199,239 278,318 Pumped storage 238(900 246,726 237,904 247,550 233,477 226,391 Less energy for pumping (358,350) (370,097) (361,144) 1 (371,383) (355,725) "(344,245 Other 890 936 1,565 1,245 2,559 811 Total generated net 6,893,765 5,733,340 6,327,790 6,100,839 6,095,943 6,550,067 Purchased 1,301,636 2,437,433 2,343,484 1,998,882 1,646,244 1,389,875 Total electric energy 8,195,401 8,170,773 8,671,274 8,099,721 7,742,187 7,939,942

'ystem Net Capability-KWat Decelnber 31 Fossil 526,000 529,000 529,000 532,000 541,000 ~ 541,000 Nuclear 638,000 638,000 640,000 617,000 620,000 617,000

-Hydro 47,000 47,000 47,000 47,000 47,000 47,000 Other 28,000 28,000 28,000 29,000 '29,000 29,000

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Purchased 375,000 375,000 375,000 375,000 ~

347,000 348,000 Total system net capability 1,614,000 1,617,000 " 1,619,000 1,600,000 1,584,(O) 1,582, Net Peak Load KW

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Rochrstrr Annual Load Factor Net %

1/4217000 56.1 4

'L9 113057000 1,425,000.

57.6 1,374,000 58.8, 1,'333,000 59.1 1,252) 62.

as an(t Hcctric rporatton

• Reclassified for comparative purposes.

BB

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4 as Depart'ment Statistics Year Ended December 31. 1997 1996'995'. 1994'993'992 Gas Revenue (000's)

Residential $ 5,852 $ '6,010 $ 4,081 $ 5,935 $ 5,526 $ 6,456

~ .Residential spaceheating 249,101 246,945 230,934 215,974 201,129 186,710 Commercial 51,893 52,073 51,117 49,115 46;321 44,395 Industrial 5,800 6,175 6,686 7,088 6,368 6,284 Municipal and other 23,663 35,076 1,045 , 47,949 34,364 17,879' Total gas revenue 336,309 346,279 293,863 326,061 293,708 261,724 I

Gas Expense (000's)

Gas purchased for resale 196,579 202,297 167,762 194,390 166,884 ~ 141,291 Other operation 63,416 61,348 59,684 49,312 47,593 43,506 Maintenance 5,418 5,634 5,194'2,781 7,774 9,229 9,006 Depreciation 13,127 12,999 12,250 11,851 11,815 Taxes lo'cal, state and other ~

30,685 . 31,858 31,514 31 859 30,849 29,411 Total gas expense, 309,225 . 314,136 276,935 295,585 266,406 235,029 Operating Inconie before Federal Income Tax 27,084 32,143 30,476 27,302 26,695

, Federal income tax 3,442 - 7,600 16,928',715 8,403 5,485 5;545 Operating Income from Gas Operations (000's) $ .23,642, $ 24,543 $ 10,213 $ 22,073 $ 21,817 $ 21,150 Gas Operating Ratio %, 78.9 77.8 79.2 77.1 76.2 74.1 Gas Sales Therins (000's) 4

' Residential 5,773 6,455 7,167 6,535

',871 8,780 Residential spaceheating 285,395 299,085 280,763 283,039 295,093 287,623 ~ 4 Commercial. 65,675 70,543 68,380 72,410 78,887 78,996 Industrial 7,828 9,334 9,560 -11,'420 12,030 12,438 Municipal 7,331 8,086 8,219 10,230 12,188 11,410 Tot'al gas sales 372,002 393,503 '374,089 ,383,634 405,069 399,247 Transportation of customer-owned gas 166,060 167,779 146,149 136,372 124,436 126,140 Total gas sold and transported 538,062 561,282 3 520,238 520,006 529,505 525,387 Gas Custoniers at De'cember 31

'esidential 16,265 16,718 - 17,443 17,836 18,389 19,114 Residential spaceheating 243,264 240,685 238,267 235,313 231,937 228,096 ~

Commercial 19,118 19,045 18,978 18,742'05 18,636 18,378 Industrial 829

• 857 879 924 9328 Municipal 1,117 961 981 988'58 1,001 1,010

-Transportation 836 744 655 ~ 466 424 Total gas customers 281,429 . 279,010 277,203 274,342 271,353 267,954 Gas Z7iernis (000's)

Purchaseri for resale 274,430 279,353 237,728 262,267 347,778 360,493 Gas from storage 104i317 =

122,843 . 152,852 134,802 76,378 53,757

-. Other 1,410 1,082 1,800 1,039 1,061 2,959'00,028 Total gas available 380,157 403,278 392,380 425,195 415,311 Cost of gas per therm 51.70e 52.30e 45.80e 50.00e 36.79e 35.35e Total Daily Capacity-Thernrs at December 31'", 4,380,000 4,480,000 5,230,000. S,625,000 5,625,000 4,485,000 Maximum daily throughput Therms 47114,290 4,022,600' 3,980,000 4,735,690 3,864',850 3,768,470 Degree Days (Calendar Month)

'For the period. 6,921 6,998 6,535 7,044 6,981 Percent-colder (warmer) than normal 2.8 3.9 '3.0) 6,699'0.6) 44 3.4

'Reclassified for comparative purposes.

"Method for determining daily capacity, ba sed on current n etwork anaiysi s, reilects the maximum demand which the transmis-sion systems can accept without a dehcie ncy.

87 4

I

'4 Wnvesror rnyormarton Business and Financial information RGRE business and financial

'. Corporate Address Rochester Gas and Dlvtdend Relnvestntent'GgtE offers a dividend

. information is available'around . Electric Corporation reinvestment plan as, a service to the, clock by phone and oti the 89 East Avenue Common Stock shareholders who Internet. - Rochester, New York 14649 wish to purchase additional (716) 546-2700 shares. In addition to full or RGRE by Phone

- partial reinvestment of dividends, Shareholders can access RGRE Shareholder Services

- from anywhere in the United Shareholders with questions the plan gives shareholders the opportunity to make direct cash States or Canada, by calling our about dividend payments, address Investments ranging from $ 50 to automated investor communi- changes, missing certificates,

$ 5,000 as often as once a cations system at (800).724-8833. ownership changes and other further information, contact month.'or

~

You willbe greeted with a brief information should 'ccount our stock transfer agent.

message, then given a menu of 'contact our stock transfer agent:

options. Among other things, you First Norlgage Bond lrustee Stock Transfer Agent can choose to hear RGRE's Bankers Trust Company BankBoston, N.A.

quarterly eainings announcement c/o BT Services c(o Boston EquiServe Tennessee Inc.

or request a copy, including P.O. Box 8040 financial statements, by fax or ~ Securities Payment Unit Boston, MA 02266-8040 ',

mail. P.O. Box 291207 (800) 736-3001 . - Nashville, TN-37229-1207 RGRE on the Intentet Tnlecot st tnttnicatton (800) 735-7777-YDLI can visit RGRE on line at

> Devtce for the Deaf (TDD) Annual tjfeettng http://wwwige.corn. Our web (800) 952-9245 site features the latest news and RGRE's 1998 annual meeting of financial information including. shareholders willbe held at the quarterlydivi'dend and earnings Rochester Riverside Convention Dividends, announcements, financial Center on Wednesday, April 15, Dlvl<lend Payntent Dates statements, consumer and product 1998 at 11 am.

RGRE's Board of Directors meets information.- 'quarterly'to consider'the payment ,Stocktjstings

' RGRE's Common Stoclcis listed, RG8rE financial results will of dividends. Dividends on

, typically be released just prior to Common Stock are normally paid on the New York Stock Exchange the dividend payment date each on or about the,25th of January, and is identified by. the stock

,quarter. April,July and October. Dividends symbol RGS. The Preferred Stock on the Preferred Stocks are issues are traded on the over-the-Secttrlty Analyst Contact counter market..

payable, as declared, on or about Security analysts and others the 1st of March, June, September reque'sting information about Form lgrKAnnual Report and December.

RGRE should contact Thomas E. SharehoIders may obtain a copy of

. Newberry, Director of Investor Dlvldend Direct Deposit the Company's 1997 annual Relations at (716) 724-8091. Shareholders can elect to have report on Form 10-K, as filed with r their quarterly cash dividends the Securities and Exchange electronically deposited into their Commission, without charge, by personal. bank accounts. Deposits calling (800) 724-8833 or writing are made on the'date the divide'nd to Investor Services.

is payable. If you would like to take advantage of this service,

~

~

I cantact our stock t'ransfer agent.

RG&E wishes to thank all of those contributors "who went ovt of their way to be so accommodoting and informative/ giving of their time~,ond expertise, lending their artifacts for photography, dnd providing their photos for indusfon. r The informol archlvists of RG&E Dick Biedenbach, Ginna ,Pn'vote Collectors ond Our Friends In the The George East mon House, international Kim Magnvson, Ginna Community: Museum of Photog ra p h y ond Film Rick Meier, Corporate Communicotions

-" r Dick Bowman, Webster, NY: glass Bavsch & Lomb Corporation Bill Meyers, Operations insvbtor collection Xerox'or ppration Don Schlegel, Op'erotions, John A. o'nd Jeonne Wenrich, Avon, NY:

Paul Sissonr Laborousry & Inspection Kerosene lamp ond light bulb collection Our opologies to oil those who heeded the coil Services< Operations Daniel M. Barber, Depvty Director, and contributed items but were left out due r Betty Weis, Marketing Collections; Eugene Ltmberger, Curator of spoce limitations.

Jim White, Operations History Chairmon ond Stephen Fentreis, y Steve Wright, Operations Director, Strasenbvrgh Planetarium; the Principal Photogrophy: Ken Lea Zimmermon, Empbyee Emeritus and Rochester Museum & Science Center Riemer'8 former RG&E Kibette

027 0 l7 8ctofg 2ll 2c8fg Board Appointments Board of Directors Officers (as ofJanuary 1, 1998) (as ofJanuary 1, 1998)

William Balderston III'g Former Executive Vice President, j Thomas S. Richards Chairman of the Board, President The Chase Manhattan Corporation and Chief Executive Officer Age 54, Years of Service, 6 Angelo J. Chlarella J Vice President, t Robert E. Smith Rochester Midtown, L.L.C. Senior Vice President, Energy Operations Allan E. Dugan "g Age 60, Years of Service, 38 Senior Vice President, Corporate Strategic Services, J. Burt Stokes Xerox Corporation Senior Vice President, Corporate Services and Chief Financial Officer Mark B. Grler Age 54, Years of Service, 2 Executive Vice President, Financial Management, Michael T. Tomaino The Prudential Insurance Company Senior Vice President and of America General Counsel Mark B. Drier Age 60, Years of Service, Susan R. Holllday Mark B. Grier is Executive Vice President and Publisher, C. Heillgman 0'atrfd President for financial Rochester Business Journal Vice President and management of the Prudential Corporate Secretary Insurance Company of America. Jay T. Holmes" J Age 57, Years of Service, 34 Attorney and Commercial Arbitrator Robert C. Mecredy Samuel T, Hubbard, Jr. t0 Vice President, President and Chief Executive Officer, Nuclear Operations The Ailing and Cory Company Age 52, Years of Service, 26 RogerW.

William J. Reddy Chairman of the Board Kober'ormer Controller and Chief Executive Officer, Age 50, Years of Service, 30 Rochester Gas and Electric Corporation Constance M. Mitchell Former Program Director, t/ Mark Keogh Treasurer Age 52, Years of Service, 26 Industrial Management Council of Rochester, New York, Inc. Jessica S. Ralnes Auditor Cornelius J. Murphy "4 Age 40, Years of Service, 2 Senior Vice President, Goodrich gt Sherwood Company Charles I. Plosser g ENERGETIX, Inc.

Susan R. Holllday Dean and John M. Olin Distinguished Michael J. Botralino Susan R. Holliday is President and Professor of Economics and Public President publisher of the Rochester Business Policy of the William E. Simon Age 42, Years of Service, I Journa, a weekly business Graduate School of Business newspaper. Administration, University of Rochester John A. Hamilton Vice President, Thomas S. Operations of the Board, President and Richards'hairman

'ge 43, Years of Service, 0'*

Chief Executive Officer, Rochester Gas and Electric Corporation Wlllred J. Schrouder, Jr.

Vice President, Sales Age 56, Years of Service, 35

• Member of Executive and Finance Committee tMember of Audit Committee I Management Member of Committee on 'ppointed Senior Vice President and General Counsel, effective

/hfember of Committee on Directors

- October 1, 1997 Employed May 19, 1997