ML17059C115

Nyseg 1997 Annual Rept.

ML17059C115
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Site:	Nine Mile Point
Issue date:	12/31/1997
From:	Von Schack W NEW YORK STATE ELECTRIC & GAS CORP.
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ML17059C114	List: ML17059C113 ML17059C115 ML17059C116 ML18041A064
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05 g pcs CORPORATE PROI:ILH Qg SN)aa NYSEG is dedicated to helping companies and people shape their energy environments 0

in ways that improve the efficiency and quality of their businesses and lives.

0 NYSEG is a market-driven energy company.

We supply, market and deliver safe, reliable energy throughout more than one-third of New York State. Our natural gas business is entrepreneurial and growing. Our electric business is poised to compete in the new energy market.

We are active and successful in the Northeast and Mid-Atlantic wholesale electricity markets.

Through XENERGY, we are a recognized leader in energy services across the country.

NYSEG has one priority: to achieve superior customer satisfaction by offering competitive, custom solutions to meet our customers'nergy needs.

Ef4xBD c4 QKORK9 Customer Service and Energy Delivery: Meeting the energy needs of 811,000 electricity and 241,000 natural gas customers, we stand by our 145-year reputation for safe, reliable energy. Our experienced people meet customers'eeds quickly and effectively and, as a result, we have the lowest customer complaint rate of any energy utility in the state.

Generation: Our electric generating system, fueled primarily with coal, is consistently rated among the most efficient in the nation. The system includes the state's only two scrubbers to control sulfur dioxide emissions. We generated 17 million megawatt-hours of electricity for retail and wholesale customers in 1997.

Natural Gas: Our natural gas business offers some of the most competitive prices in the Northeast. We have increased our customer base and profit every year since 1992. Ours is the fastest-growing natural gas business in New York State and one of the fastest-growing in the Northeast. We added 10 new franchises and delivered 59 million dekatherms of a ral ~st atail astern rsnrr 9 7.

Eer S r ces:XE E G , I c. isa e tab is ed d a idly g o ing t rnati al ener ys ces,inf r at on s stems nd en rgy co su ting o pany. X NE Y won a significa nergye icienc y roject and m jo electric y ~Iy ontra c ss the nation in 19 7 b izing o p rtu iti semer ng i t ecomp t wdenergyservi e arket.

FINANCIAL HIGHLIGHTS Per Common Share 1996  % Change Earnings $ 2.57 $2.37 ~

8 Market Value (Year end) $ 35.50 $ 21.63 64 Book Value (Year end) $ 26.71 $ 25.41 5 Dividends $ 1.40 $ 1.40 Other Common Stock Information Common Stock Price Range $ 20'/i-35'/i $ 20Ye-26/s Return on Average Common Equity 99% 9.6% 3 Average Common Shares Outstanding (Thousands) 68,153 71,127 (4)

Operating Results (Thousands)

Total Operating Revenues $ 2,129,989 $ 2,067,532 3 Total Operating Expenses $ 1,687,321 $ 1,609,989 5 Net Income $ 184,553 $ 178,241 4 Earnings Available for Common Stock $ 175,211 $ 168,711 4 Retail Deliveries-Megawatt-hours 13,238 13,216 Retail Deliveries-Dekatherms 59,324 61,542 (4)

At December 31 Total Assets (Thousands) $ 5,028,681 $ 5,059,681 a S

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Earnings (per share)

$ 2.57

$ 2.37

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'96

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$ 2.08

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'93 Contents 1 Financial Highlights 2 Letter to Shareholders 4 1997 Highlights 8 Financial Review

LETTER TO SHAREHOLDERS Dear Shareholder.

1997 zvas a year of solid reszdts for NYSEG financially, operationally and strategically. Earnings for-1997 were $ 2.57 per share, a consiclerable increase over last year's 82.37 per share. Equally important, we are at the threshold of a restructured New York State electricity market, and we are ready to compete.

NYSEG's restrzzctzzring plan, which was approved by the Public Service Coznznission of the State ofNezv Yorl: izz January>1998, willredzzce electricity prices, promote economic developnzent and enable all NYSEG electricity cllsto17zers to begin choosing their electricity supplier by Azzgzzst 1, 1999.

Highlights of the plan include:

Eliminating a previously-approved 7% increase in electricity prices; and 0

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Reducing prices 5% in each of the next five years for eligible customers who are heavy users of electricity, and capping overall average prices for all other customers for four years and cutting their prices an additional 0)

E5 5% at the beginning of the fifth year.

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>>> labile the restrzzctzzriizg plan will deliver price relief, the problenzs of 2 governznent-mandated expenses for taxes and onerozzs nonzztility generator power reznain. Those two items together account for more than 34 cents oF every electric revenue dollar and must be reduced to make our energy prices more competitive. We are in litigation over our two largest nonutility generator contracts to obtain additional price relief for our customers.

This plan also calls for the formation of a hokling company to provide organizational flexibilityto take advantage of new opportunities izz a conzpetitive znarket and build a stronger NYSEG -Subsidiaries will include companies engaged in the delivery of electricity and natural gas, power generation and energy services. As part of this process, NYSEG will auction its seven coal-fired generating stations and put up for sale its 18% interest in the Nine Mile Point 2 nuclear generating station.

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"IV is We have alremly densonstrated our ability to succeed in a competitive t ning natural gas snasket with some of the lowest prices in the Northeast. Our fror a vertically integrated electric natural gas business is growing through franchise expansion within the state and natural gas and strategic initiatives outside the state. We are particularly optimistic about utility in New York our agreement with Central Maine Power to form a jointly-owned natural gas State to a regional distribution company to serve Maine and New Hampshire customers by the end energy company serving the of 1998. Our expertise in developing new markets and similar demographics, Northeast." geography, customer mix and climate make this an excellent strategic fit.

An essential elensent of ous business stmtegy is having our customers associate NYSLG with superior customer satisfaction. We have the lowest customer complaint rate in the state, and we consistently receive high marks for service reliability. Our customer satisfaction survey results demonstrate that we are providing superior service and reliability. We also have a proud history of fulfilling our duties faithfully and being a leading corporate citizen. Our programs in the areas of economic development, community support, low-income assistance and volunteerism demonstrate our commitment to the communities we serve.

The restructuring of the electric utilityindustry is nsassive and comply and will take years to sort out. It is nearly three times the size of the telecomnninications industry restructuring that has been underway for a number of years. As managers of this enterprise, we must deal with increased uncertainty and business risk. On the other hand, industry restructuring will also present opportunities. We are taking a fresh look at the way we do things. 3 The old paradigms no longer work and energy companies must map out new 0 a

strategies to enhance shareholder value over the long term. Some companies CC will focus on a specific segment of the energy business, such as energy 8 C

distribution, commodity supply or energy services, while others will pursue an integrated strategy. 0) 0)

0 NYSLG is transitionbsgfs om a vertically integrated electric and natuml N gas utilityin New York State to a regional energy company serving the Northeast. We will consider all opportunities that allow us to intelligently manage and grow our business and that create value for our shareholders over the long term. We are taking actions today in the areas of customer service, price and growth that will favorably position NYSEG for the emerging energy market of tomorrow. Our vision is to help companies and people shape their energy environments in ways that improve the efficiency and quality of their businesses and lives. We believe this vision transcends the changes that are coming, and we look forward to further progress in 1998.

All of our people deserve recognition for their outstanding contributions to our perforsnance As 1997. On behalf of the board of directors, I thank them and you, our shareholders, for your continued support.

Wesley W. von Schack Chairman, President and Chief Executive Officer JANUAI(Y 29, 1998

1997 HIGHLIGHTS lee know bow to contpete and oQer lee are managing costs. Since 1991, attractive prices. Our natural gas busi- our operating and maintenance costs ness has prospered in a competitive have been relatively flat, and we "As a result of market. We successfully compete for expect that trend to continue. We working with large customers every day, and in have reduced capital spending. Our XENERGY to aggregate load the last two years ltave added 19 challenges continue to be taxes and and collectively new franchises, making us one of the cost of NUG power that together buy electricity, the fastest-growing natural gas account for more than 34 cents of we believe our every dollar from our electricity member compa.

companies in the Northeast. Every nies will be best year since 1992 we have increased customers. We are in litigation over positioned for our customer base and profit. With our two largest NUG contracts to significant compet- our expert assistance, our commercial obtain additional price relief for itive advantages our customers. In 1998 we will con-and industrial customers can tailor in the new n electricity market their natural gas service from a host tinue our efforts to further reduce S

Ol in Massachusetts." of pricing and delivery options. the onerous burden of NUG power S and the state gross receipts tax, x Christopher Anderson, Vice President &

lee are preparerl to bring contpetttion while encouraging the passage of Ih Cl General Counsel to our connnttnities. Our restructuring securitization legislation.

Massachusetts High plan will cut electricity prices for all Technology Council customers and promote economic Ottr natural gas business is entrepre-0 L

Q development in New York State. It will neurial and growing. Two significant 5 enable all of our electricity customers accomplishments in 1997 stand out:

C to choose their electricity supplier by n We signed an agreement with r

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August 1, 1999 one of the most Central Maine Power to create a new 0 aggressive schedules in the country. natural gas distribution company to V) With all of the changes that are com- serve Maine and New I-Iampshire cus-z tomers. This new company will bring ing, we remain committed to superior customer service, safe and reliable clean, econoinical natural gas to power delivery, and helping our communities where it has never customers use energy to improve been available before.

the quality of their lives 24 hours2.777778e-4 days <br />0.00667 hours <br />3.968254e-5 weeks <br />9.132e-6 months <br /> a day, every day.

We are managing our costs, and we are working to reduce the onerous burden of MUG power and taxes.

We are implementing strategies for profitable growth in both our electric and natural gas businesses.

"By consolidating o We expanded our Seneca Lake Elmira rather than consolidate opera-our electricity Storage Project, the first high-deliver- tions in South Carolina, Arkansas or bills from 22 plants in nine ability natural gas storage facility in Mexico. In all, we helped 48 compa-states, NYSEG's the Northeast. Now, in addition to nies with expansions or relocations in Energypoint2000 being a key s'upply source for commu- 1997, securing more than $ 230 million a Ot services give us nities in the heart of our service area, of capital investment. C I

t the kind of infor- S mation we need we can sell storage capacity in inter-x to benefit in a state markets. Our energy services covrpany is competitive market. turning bearls. XENERGY, Inc., our I IA It puts OSRAM Our economic <levelopn>entprofes- energy services company, was chosen SYLVANIAin an advantageous sionals Leep on rvb>ning. After a big in 1997 to serve as the agent to pur- 0 a

position for pur- year in 1996 when we played an chase electricity for the Massachusetts K chasing electricity." integral role in bringing Guardian High Technology Council, Inc. and 5 C

Industries to Geneva, we were a key was awarded a 10-year contract to Tom Shields r Manager- Corporate player in Corning, Inc.'s decision to help the federal government save 0)

Purchasing build a new multi-million dollar facility energy at facilities across the nation. 6 OSRAM S YLVANIA near Corning for its Photonics Tech- XENERGY was also chosen as the N Products, Inc. nologies Division. Marine Midland exclusive agent to buy electricity for Bank brought its mortgage processing the newly-formed California Electricity business to the Buffalo suburbs; GEC Aggregation Group. These successes Alsthom selected Hornell over sites demonstrate the confidence that cus-in Georgia and Virginia for its rail tomers have in XENERGY's ability to car manufacturing business; and deliver value in a competitive market.

Thomas and Betts, a high-tech connector manufacturer, chose to expand its LRC Electronics plant near "NYSEG was and effective heat-extremely helpful ing, lighting and ven-in getting our tilating systems 1,000-head dairy would make us farm up and run- as productive as ning. Their people possible."

worked closely with us to make Rocky Giroux, owner sure that efficient Adirondack Farms

We are working tirelessly to anticipate, understand and meet our customers'eeds, and we are succeeding.

Satisfying cttstomers starts with who need person al atten-superior cttstomer service. Thanks tion. We are offering to the tireless efforts of our skilled customers more billing front-line people across the state, options, such as providing our customer satisfaction survey meter reads to us via Ql results demonstrate we are providing the Internet, and we Purple ribbons S became the symbol superior service and reliability. We conduct full-scale of appreciation for X

r also enjoy the lowest customer com- drills to further NYSEG's superior (5

t plaint riitc of any energy utility in improve our recog- efforts in restoring Ncw York State, and we have a 99.9% nized expertise in r electricity to north-ern New York in 0 success rate in meeting or exceeding assessing damage January 1998 fol-a C our service guarantees. and getting the lights lowing one of the back on promptly most devastating lee are raising tbe custoiner after storms. ice storms ever to hit the region.

satisfaction bar to new heights. On their own, Q We are continuing to improve our Our connnitment customers placed (0

customer service skills by fine-tuning to our comsnunities bas never been ribbons on front z doors, mail boxes our customer call center, which we stronger. We inspire students through and trees to show expect will handle two million calls our educational services program, their gratitude to each year when our customers can including our nationally-recognized our people.

begin choosing their electricity suppli- mentoring program in western New er. For example, an automated system York. We lend support to many insti-now directs calls, freeing up our people tutions of higher learning. And our to spend more time with customers employees volunteer tens of thousands "We are very costs. We are pleased with now able to focus NYSEG and its even more of our contractors. Half resources on our of our buildings academic mission are now heated and people."

with natural gas and that means Ken Wing, President reduced operating SUNY Cob!eskill

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~ ~ .'~4)'gp)gjgi- ~jj!'!,"i Through the Community Watch Program NYSEG people work with community agen-cies to report emergencies and suspicious or unsafe situations.

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the electricity and natural gas flowing. Z Q

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of hours to many deserving organiza- 1V/~e>r it contes to safety, tee go the "Securing natural Cb Cl tions from volunteer fire departments extra mile. Wc take a broad view gas service was extremely important to food pantries. of our responsibility for providing to our future. NYSEG t0 a

natunl gas safety training in new presented us with K lee pttt ortr eyes and ears to good and existing service areas. We offer a straightforward use wlafie on tbejob. Through our a comprehensive safety training appraisal and was truly dedicated to Community Watch prognm, einployces program for emergency response working with us use their knowledge of the communi- personnel, gas code enforcement to make the project 6 ties where they work to assist police agencies and large users of natural go smoothly." V)

Z and fire departments and other gas. We also offer live line electric Andrew Abdallah, municipal agencies by reporting safety programs to fire and police Supervisor suspicious or unsafe activities, vehicle departments and other public safety Town of Plat tsburgh accidents, fires and other situations. agencies. Our community and internal Our statewide involvement with the tnining efforts help ensure safe and New York State Departn>ent of Trans- reliable energy delivery in the commu-portation's Adopt-A-I.Iiglavay program nities we serve, but most importantly, also reflects our volunteer spirit. they help ensure the safety of the people we serve.

NYSEG's educa-tional services program and support oi community organizations such as the Broome County Urban League inspire students.

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FINANCIAL REVIEW Contents

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/o MANAGEMENT S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

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COMPETITIVE CONDITIONS A major focus of the company during 1997 was the restructuring of the electric utility industry.

The transition to a competitive electricity market and other significant changes will shape the future of the company's electric, natural gas and energy services businesses and provide a base for increasing shareholder value.

Electric industry o The PSC issued an Order in its Competitive Opportunities Proceeding in May 1996, increasing the pace of change for the state's electric industry. The overall objective of this proceeding, which began in August 1994, was to identify regulatory and ratemaking practices to guide the transition to a more competitive electric industry. The company filed its proposed restructuring plan with the PSC in October 1997.

Restructurhig P1an: The PSC approved the company's restructuring plan, with minor modifications, in January 1998. It will save customers an estimated $ 725 million by the end of the settlement period.

It will eliminate a 7% increase in electricity prices previously approved by the PSC. Prices will be reduced 5% in each of the next five years for eligible industrial, commercial and public author-ity customers who are heavy users of electricity. The plan will cap overall average prices for all other customers for four years and reduce their prices an additional 5% at the beginning of the fifth year. All of the company's retail customers will be able to begin choosing their electricity 0

supplier by August 1, 1999 9

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L Complaint Rates (per 100,000 customers) 7.7 0

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The restructuring plan allows for the formation of a holding company, provides for the auction of the company's seven coal-fired generating stations and completion of the auction transactions by August 1, 1999, and allows the company to put up for sale its 18% interest in NMP2. The restructuring plan also provides a reasonable opportunity for the company to recover all prudently incurred investments made in the past.

The company believes that under the restructuring plan its electric and natural gas delivery business will continue to meet the criteria of Statement of Financial Accounting Standards No. 71, Accounting for the Effects of Certain Types of Regulation. Upon the PSC's approval of the company's restructuring plan in January 1998 the company's coal-fired generation business discontinued application of Statement 71 and applied Statement of Financial Accounting Standards No. 101, Regulated Enterprises Accounting for the Discontinuation of Application of FASH Statement No. 71. The application of Statement 101 to that business did not affect the company's financial position or results of operations because any above-market generation costs will be recovered by the regulated electric and natural gas delivery business.

Flowing Coinpany Structure: Subject to the receipt of necessary approvals, the company will form a holding company. Subsidiaries under the holding company will include an electric and natural gas delivery company, a generation company and an energy services company. The electric and natural gas delivery company will be a regulated utility transmitting and delivering electricity, transporting and delivering natural gas, and generating electricity from its nuclear and hydroelectric stations. The generation company will produce electricity from its coal-fired stations.

10 The energy services company will conduct activities such as providing energy, financial and environmental services.

0 K Applications for the necessary approvals for the formation of a holding company were made to the FERC, the SEC and the NRC. The FERC approved the company's application in December 1997.

The SEC and the NRC applications are expected to be approved in early 1998.

6 At the 1998 Annual Meeting, shareholders will vote on a plan of share exchange, pursuant to V) which, and subject to any rights of holders of the company's common stock to exercise their z

appraisal rights, all of the outstanding sltares of the company's common stock will be exchanged on a share-for-share basis for the common stock of the holding company.

Genemtion Business: The company will transfer its seven coal-fired generating stations to its generation subsidiary, and after that will conduct an auction of those plants. A company affiliate can participate as a bidder on some or all of the coal-fired plants. Any shortfall between the auc-tion proceeds, net of taxes, and the book value of the plants will be recovered by the regulated portion of the company through a nonbypassable competitive transition charge.

Petition to the IL'RC on NUGs: The company continues to seek ways to terminate / or renegotiate existing onerous NUG contracts that it was ordered to sign, and thus reduce its NUG overpayment burdens:-NUG power purchases, including termination costs, totaled $ 324 million in 1997, and the company estimates that those purchases will total $ 340 million in 1998, $ 348 million in 1999 and

$ 356 million in 2000.

The company petitioned the FERC in February 1995, asking for relief from ltaving to pay approximately S2 billion more than its avoided costs for power purchased over the term of two NUG contracts. The FERC denied that petition in April 1995 and denied the company's subsequent request for a rehearing. The company believes that the overpayments under the two contracts violate the Public Utility Regulatory Policies Act of 1978.

The company petitioned the United States Court of Appeals for the District of Columbia in June 1995 to review the FERC's decision. The Court of Appeals issued a decision in July 1997 stating that it lacks jurisdiction to rule on the company's appeal of the FERC's refusal to modify the power purchase contracts. The Court of Appeals said the company may pursue its claim in the United States District Court.

The company commenced an action in the United States District Court for the Northern District of New York in August 1997. The complaint asks the District Court to either reform the two NUG contracts by reducing the price the company must pay for electricity under the two contracts, or send the matter back to the FERC or to the PSC with direction that they modify such contracts.

The complaint also seeks restitution of all monies paid above the company's avoided costs.

EERC Orders 888 and 889: The FERC issued Orders 888 and 889 in April 1996, adopting final 0 0

rules to facilitate the development of competitive wholesale electricity markets by opening up tt:"

transmission services and to address the resulting stranded costs. In subsequent orders the FERC c

generally affirmed Orders 888 and 889. Various parties, including the company, have filed petitions C for review of these orders with the United States Courts of Appeals in various circuits. r c>

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1997 Sources of Electricity Generation and Purchases (n1egawatt-hours)

Hydro 1%

Nucloar 6%

Purchased power-othor 17%

Coal 60%

Poroheeed power-NGGe 16%

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In Order 888 the FERC directed all public utilities to file a compliance open-access transmission tariff on or before July 9, 1996. In Order 888-A the FERC directed all public utilities to file a revised compliance tariff by July 14, 1997. The FERC has approved the company's transmission tariffs.

Under the compliance tariff, the company must offer transmission service to its wholesale customers on terms comparable to those it applies to itselF, and offer and/or provide certain ancillary services.

The FERC accepted, in February 1997, a compliance filing of the New York Power Pool, of which the company is a member, in response to Order 888. NYPP members submitted additional filings to the FERC in 1997 proposing the restructuring of the NYPP by establishing an ISO, a Power Exchange and a New York State Reliability Council. NYPP members have requested FERC approval of the proposed market structure by March 1998 so that an ISO can be in place by the end of June 1998. The company is unable to predict the outcome of these filings and their ultimate effect on the company's financial position or results of operations.

Natural Gas Industry o The company's natural gas business continues to grow and build on its successes of recent years. During 1997 the company added new franchises, completed thc expansion of its Seneca Lake Storage Project and signed an agreement with Central Maine Power, Company to form a jointly-owned natural gas distribution company to serve Maine and New Hampshire customers by the end of 1998.

¹w I ranchises: The company is moving forward with its plans to increase its natural gas business 12 through the expansion of natural gas service in existing franchise areas and the acquisition of new franchises. A total oF 10 new franchises were approved by the PSC during 1997. The company 0

a began construction of a 14-mile natural gas pipeline in September 1997 to extend service into K

Lewis County, New York. The company began serving four large customers in December 1997.

The company is also expanding its distribution systems in Cobleskill and the Plattsburgh area,-

0) building from two large pipelines completed in December 1996.

0 Seneca Lake Storage Project: The company's Seneca Lake Storage Project, consisting of a natural V) z gas storage cavern, a compressor station and two natural gas transmission pipelines, began service in December 1996. The facility is located north of Watkins Glen on the west side of Seneca Lake.

The project's primary purposes are to ensure an adequate natural gas supply to customers and to support economic growth in southern and central New York. The project has also allowed the company to increase supply flexibility and retire two inefficient and expensive propane plants, and will eventually reduce pipeline demand charges.

The company received approval from the PSC in May 1997 for an expansion of the project's compressor station. The expansion, which increased the cavern's working gas storage capacity from 800 million to 1.45 billion cubic feet oF natural gas and the compressor station's deliverability from 80,000 to 145,000 dekatherms per day, will allow for growth in the company's wholesale natural gas business through the sale of storage capacity. The FERC, in October 1997, approved the company's January 1997 application to provide short-term firm and interruptible storage service in interstate commerce at market-based rates. The expansion began commercial operation on November 1, 1997.

Joint Venture with Central Maine Power Company: The company and CMP signed an agreement'=

in November 1997 to form a jointly-owned company to distribute natural gas to Maine and New Hampshire customers in. areas not currently served by a natural gas utility. The company antici-pates that construction will begin in the summer of 1998, with initial service to customers by the

end of 1998. Various regulatory approvals are required before the joint venture can operate a new gas distribution service. The opportunity for new retail distribution of natural gas also depends on other parties'nvolvement. Either of two new natural gas pipelines from Canada, the proposals for which are currently under federal and state regulatory review, must be completed.

Role of Local Distribution Coo>pmiies: The PSC Staff issued for comment in September 1997 its position paper regarding the role of natural gas local distribution companies in the sale of natural gas in New York State. The PSC Staff recommends five years for LDCs to transition from being both sellers and distributors of natural gas to being only distributors. The company filed comments in November 1997 opposing the PSC Staffs position. Reply comments to the positions of other parties were filed in December 1997. Further proceedings are at the discretion of the PSC.

ACCOUNTING ISSUES Statement 71: During 1997 the FASB's Emerging Issues Task Force issued guidance related to the continued application of Statement 71 during the electric utility industry's transition to competition.

Accordingly, upon PSC approval of the company's restructuring plan in January 1998, the compa-ny's coal-fired generation business discontinued application of Statement 71 and applied Statement 101. The application of Statement 101 to that business did not affect the company's financial posi-tion or results of operations because any above-market generation costs will be recovered by the regulated portion of the company.

Although the company-believes it will continue to meet the criteria of Statement 71 for its regulated operations, it cannot predict what effect a competitive market or future PSC actions will have on its ability to continue to do so. If the company could no longer meet the criteria of Statement 71 for all or a separable part of its regulated business, the company may have to record as expense or revenue certain regulatory assets and regulatory liabilities and may have to record as a loss the amount for power purchase contracts with NUGs that is above the estimated competitive market price of power. These items are currently recovered in rates.

The company had $ 581 million and $ 604 million, respectively, of regulatory assets, and $ 261 mil-lion and $ 269 million, respectively, of regulatory liabilities on its balance sheets at December 31, 1997 and 1996. The company also had power purchase contracts with NUGs that, on a present value basis, are more than $ 1.5 billion above the estimated competitive market price of power at December 31, 1997.

Statement 130: The FASH issued Statement of Financial Accounting Standards No. 130, Reporting Comprehensive Income, in June 1997. Statement 130 establishes standards for the reporting and display of comprehensive income and its components in a full set of financial statements.

Comprehensive income includes charges or credits to equity tltat are not the result of transactions with owners. The company will adopt Statement 130 in the first quarter of 1998. This adoption is not expected to have a material effect on the company's financial position or results of operations.

ENERGY SERVICES The company makes investments through its subsidiary, NGE Enterprises, Inc., in providers of energy, financial and environmental services.

XENERGY, Inc. is an energy services, information systems and energy consulting company serving utilities, governmental agencies and end-use energy consumers. XENERGY's 1997 revenues were

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comparable to revenues for 1996, and are expected to grow in 1998.

II XENERGY has been successful in securing customers under pilot programs for retail electricity competition. Building on the experience it has gained through participation in such programs in Massachusetts and New Hampshire since 1996, and its leadership in the energy management business, XENERGY has been named buyer's agent for two aggregation groups that will begin purchasing electricity in competitive markets in'998. XENERGY believes that its role as a buyer' agent for these aggregated groups will be a model for the way companies will buy lower-cost power in a restructured electricity market.

During 1996 it was determined that EnerSoft Corporation, a computer software and real-time information and trading systems company, no longer fit the company's strategic focus. As a result, the company took a $ 10 million (14 cents per share) charge against earnings in 1996 to write down NGE's investment in EnerSoft, and exited tliat business in December 1996.

The company's net investment in NGE was $ 20 million, $ 17 million and $ 34 million as oF December 31, 1997, 1996 and 1995, respectively. Net losses related to NGE were $ 4 million,

$ 21 million and $ 12 million for the years ended December 31, 1997, 1996 and 1995, respectively.

RATE MATTERS Electric Rate Settlement o The company's restructuring plan, with minor modifications, was approved by the PSC in January 1998, and is effective for a five-year period. (See Restructuring Plan.) The restructuring plan supersedes the company's previous three-year electric rate settlement agreement, which was to expire on July 31, 1998.

14 The restructuring plan, in addition to the key elements described earlier, includes a 12% return 0

O.

on equity cap and a 9% floor, exclusive of any common stock repurchascs, during each of the five L years of the restructuring plan and the ability to accelerate dcprcciation and amortization of certain assets. Customers will receive any net savings realized from sccuritization legislation, reductions in the gross receipts tax and 80% of NUG contract cost savings that result from contract termination or restructuring. There will be no fuel adjustment clause, no sharing of flexible rate discounts 6 and only a limited opportunity for uncontrollable cost recovery for the next five years.

V) z Average Electric Retail Prices (per kilowatt-hour) 12C 1OC

'89 '91 '93 '95 '97 C3

~

~

NUGs State and local taxes Base price

Natural Gas Rate Settlement ~ The company's natural gas rate settlement agreement, which was authorized by the PSC in December 1995, freezes natural gas prices from December 15, 1995, until July 31, 1998. The company is currently negotiating with the PSC Staff and others to set rates for the next four years.

An earnings sharing mechanism in the natural gas agreement provides that the average of the earned equity returns, exclusive of service quality awards or penalties, will be determined for the three years, and half of the three-year average of net earnings in excess of 14%, if any, will be reserved for customers.

The natural gas agreement eliminated, effective August 1, 1995, the gas adjustment clause and the weather normalization clause, which were used to collect from, or refund to, customers, amounts resulting from cltanges in the cost of purchased natural gas and the effect of unusually warm or cold weather on natural gas sales. The company uses risk management techniques such as natural gas future and option contracts to manage the company's exposure to fluctuations in natural gas commodity prices. Such contracts allow the company to fix margins on sales of natural gas generally forecasted to occur over the next 18 months. The cost or benefit of natural gas future and option contracts is included in the commodity cost when the related sales commitments are fulfilled. Gains and losses resulting from the use of those contracts for 1997 and 1996 were not material to the company's financial position or results of operations. The company does not hold or issue financial instruinents for trading or speculative purposes.

ENVIRONMENTALMATTERS The company continually assesses actions needed to comply with changing environmental laws and regulations. Any additional compliance programs will require changes in the company's operations and facilities and may increase the cost oF electric and natural gas service.

'he Clean Air Act Amendments of 1990 limit emissions of sulfur dioxide and nitrogen oxides and require emissions monitoring. The EPA allocates annual sulfur dioxide allowances to each of the company's coal-fired generating stations based on statutory emissions limits. A sulfur dioxide allowance represents an authorization to emit one ton of sulfur dioxide during or after a specified calendar year.

The company estimates that it will have sulfur dioxide allowances in excess of the affected coal-fired generating stations'ctual emissions during Phase I, which began in January 1995. The company's present strategy is to bank excess sulfur dioxide allowances for use in later years. It is estimated that the company will meet Phase II, which begins January 1, 2000, emissions require-ments through the year 2004, by using sulfur dioxide allowances banked during Phase I together with the company's Pltase II annual sulfur dioxide allowances. This strategy could be modified due to changes in market or business conditions, or the outcome of the company's auction of its coal-fired generating stations.

Capital Expenditures (millions)

$ 124

$ 215

'97

$ 248

'99

&268

'94

'93 INVESTING AND FINANCING ACTIVITIES Investing Activities o Capital expenditures for the company's electric and natural gas businesses, including nuclear fuel and AFDC, totaled $ 124 million in 1997, $ 215 million in 1996 and $ 164 million in 1995. Expenditures in those three years, which werc financed entirely with internally generated funds, were primarily for the extension of service, the Seneca Lake Storage Project, necessary improvements to existing facilities and compliance with environmental requirements.

16 Capital expenditures, including nuclear fuel and AFDC, projected for 1998, 1999 and 2000 are 0 $ 134 million,.$ 152 million and 8146 million, respectively, and are expected to be financed entirely a

C with internally generated funds.

In accordance'with the terms of certain benefit trust agreements, the company deposited

0) $ 52 million into external trust funds in July 1997. Those agreements cover employee severance C) 0 agreements, certain employee and director retirement plans and certain other employee and V) director plans. The obligation to make such deposits arose as a result of an unsolicited tender z offer to acquire the company. The company will be able, to withdraw the funds by the end of the third quarter of 1998.

Financing Activities ~ The company's current capital structure provides it with the flexibility rcquircd to compete in a competitive energy market.

In June 1997 the company completed a four million share common stock repurchase program that was initiated in September 1996. Common stock equity was reduced by $ 47 million and 840 million in 1997 and 1996, respectively, as a result of those repurchases.

The company's other financing-related activities during 1997 consisted of:

The repayment, at maturity, of 825 million of 5 5/8% Series first mortgage bonds on January 1, 1997.

~ The redemption, at par, of the remaining $ 23 million of 9 7/8% Series first mortgage bonds, due February 1, 2020, pursuant to a sinking fund provision in the company's mortgage indenture.

The repayment, at maturity, of $ 25 million of 6 1/4% Series first mortgage bonds on September 1, 1997.

The repayment of approximately $ 71 million of commercial paper.

The company uses short-term, unsecured notes, usually commercial paper, to finance certain refundings and for other corporate purposes. There was $ 58 million and $ 129 million of commer-cial paper outstanding at December 31, 1997 and 1996, respectively, at weighted average interest rates of 6.3% and 5.8%, respectively.

The company also has a revolving credit agreement with certain banks that provides for borrowing up to $ 200 million until December 31, 2001. There were no amounts outstanding under this agreement during 1997 or 1996.

FORWARD-LOOKING STATEMENTS This Annual Report to Shareholders contains certain forward-looking statements that are based upon management's current expectations and information currently available and are subject to risks and uncertainties that could cause actual results to differ materially from those projected in such statements. Whenever used in this report, the words "anticipate," "believe," "estimate,"

"expect," "project," or similar expressions are intended to identify forward-looking. statements. In addition to the assumptions and other factors referred to specifically in connection with such state-ments, factors that could cause actual results to differ materially from those contemplated in any forward-looking statements include, among others, regulatory developments; the rapidly changing and increasingly competitive electric and natural gas utility markets; the ability to obtain adequate and timely rate relief; cost recovery, including the potential effect of stranded costs; legal or admin-istrative proceedings; business conditions; technological developments; changes in the cost or availability of capital; labor developments; nuclear or environmental incidents; factors affecting the utility industry in general, such as deregulation and unbundling of energy services; weather condi-tions; changes in fuel supply or cost; and other considerations that may be disclosed from time to time in the company's publicly disseminated documents and filings. The company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

COMPUTER SOFTWARE CHANGES FOR THE YEAR 2000 Many of the company's computer systems must be modified due to certain programming limitations in recognizing dates beyond the year 1999. The company is addressing this issue to ensure the availability and integrity of its financial systems and the reliability of its operating systems. The company has established a process for evaluating and, where necessary, correcting any programming limitations. Costs associated with this process are estimated to total 813 million, of which $ 4 million had been incurred through December 31, 1997. It is expected that the process will be completed by June 1999. The company believes its process will properly address this issue and prevent any adverse financial or operational effects.

~ 0 ~ - . ~

1997 1996 over over 1996 1995 1996 1995 Change Change IThousands. except per share amounts)

Total Operating Revenues $ 2,129,989 $ 2,067,532 $ 2,017,228 3% 2%

Operating Income $ 442,668 $ 457,543 $ 472,144 (3%) (3%)

Earnings Available for Common Stock $ 175,211 $ 168,711 $ 177,969 4% (5%)

Average Shares Outstanding 68,153 71,127 71,503 (4%) (1%)

Earnings Per Share $ 2.57 $ 2.37 $ 2.49 8% (5oio)

Earnings Per Share Excluding Certain Charges $ 2.81 $ 2.51 $ 2.49 12 1%

Oividends Per Share $ 1.40 $ 1 40 $ 1.40 EARNINGS PER SHARE Earnings per share for 1997 were 20 cents higher than for 1996. An increase in electric wholesale deliveries added 16 cents, lower costs of natural gas purcltased added 15 cents and a reduction in the number of common shares outstanding added 11 cents to earnings per sllare in 1997. In 1996 a charge of 14i cents per sltare was recorded by NGE Enterprises, Inc. to write down an investment in EnerSoft Corporation. Those increases were partially offset by a cllarge in 1997 of 24 cents per share for fees related to an unsolicited tender offer, and the price of NUG power that decreased earnings 13 cents per sharc.

18 o

Earnings per share for 1996 were 12 cents lower than 1995 earnings per sharc. Without a charge a of 14 cents per share to write down an investment in EnerSoft Corporation, 1996 earnings per K

p share would have been two cents higher than the prior year. Higher electric and natural gas retail c

c deliveries, mainly due to a combination of cold weather in the first quarter of 1996 and additional r

ct rs customers, added five cents per share to earnings. Lower intcrcst clrargcs in 1996 added nine cents 0 per share to earnings and a reduction in preferred stock dividends, primarily due to the redemption to z

1997 Revenue Dollar Where it went 16C I

15ta Taxes 2'1 Purchased electricity NDGs Other matorials '14 and sorvicos Fuel Employoo wagos and benefits Depreciation and amortization Purchased gas Intorost to bondholdors, otc.

Dividends-common stock Retained in 4e the business Purchasod electricity - other 4'

of $ 100 million of 8.95% preferred stock, net of related interest expense on commercial paper, added 10 cents per share to earnings. Earnings per share were reduced 15 cents primarily due to increases in mandated purchases of power from NUGs. I-Iigher operating costs further decreased earnings six cents per share.

INTEREST EXPENSE Interest expense, before the reduction for allowance for borrowed funds used during construction, decreased $ 1 million in 1997 and $ 6 million in 1996. Both decreases were primarily the result of the retirement oF certain issues of long-term debt.

OPERATING RESULTS FOR THE ELECTRIC BUSINESS SEGMENT 1997 1996 over over 1996 1995 1996 1995 Change Change (Thousands)

Retail Deliveries Megawatt-hours 13,238 13,216 13,093 1%

Operating Revenues $ 1,792,164 $ 1,723,147 $ 1,708,297 4%

1'%

Operating Expenses $ 1,411,820 $ 1,322,885 $ 1,286,969 Operating income $ 380,344 $ 400,262 $ 421,328 (5%) (5%)

Electric retail deliveries were flat for 1997 compared to 1996.

19 Electric retail deliveries increased in 1996 primarily because of cold weather in the first quarter 0 and additional customers. CC Operating Revenues: Electric operating revenues for 1997 increased $ 69 million over 1996 due to a $ 70 million increase in wholesale deliveries.

The $ 15 million increase in electric operating revenues for 1996 was primarily due to higher 0 V) retail deliveries, which added $ 14 million to revenues. An increase in wholesale deliveries added z

$ 12 million to revenues and cleanges in prices effective August 1995, net of the effect of eliminating the fuel adjustment clause, added $ 6 million to revenues. Those increases were partially offset by an increase in regulatory deferrals of $ 21 million.

Operatb>g Expenses: Electric operating expenses increased $ 89 million in 1997 primarily due to a $ 49 million increase in electricity purchased, due to purchases for wholesale deliveries and the price of NUG power, a $ 19 million increase in operating costs, primarily due to fees related to an unsolicited tender offer, and an $ 11 million increase in fuel costs, due to increased electric generation.

Electric operating expenses rose $ 36 million in 1996. Electricity purchases, mostly required purchases from NUGs, increased operating expenses $ 42 million. That increase was partially offset by an $ 8 million decrease in fuel used in electric generation.

OPERATING RESULTS FOR THE NATURAL GAS BUSINESS SEGMENT 1997 1996 over over 1996 1995 1996 1995 Change Change tthousands)

Retail Oeliveries Oekatherms 59,324 61,542 58,535 (4%) ~

5%

Operating Revenues $ 337,825 $ 344,385 $ 308,931 (2%) 11%

Operating Expenses $ 275,501 $ 287,104 $ 258,115 (4%) 11%

Operating Income $ 62,324 $ 57,281 $ 50,816 9% 13%

Natural gas deliveries decreased in 1997 primarily due to one low-margin customer that closed its cogeneration plant. Excluding the loss of that customer, natural gas deliveries increased 2%.

Natural gas deliveries increased in 1996 due to a combination of cold weather in the first quarter and additional customers.

Operating Revenrres: The $ 7 million decrease in natural gas operating revenues for 1997 was primarily due to lower retail deliveries that reduced revenues $ 12 million and a $ 3 million decrease in other revenues. Those decreases were partially offset by a more favorable sales mix that added

$ 9 million to revenues.

Natural gas operating revenues for 1996 increased $ 35 million over 1995 revenues. A change

-20 in rate structure effective December 1995 and changes in rates effective August 1995 added 0

a $ 20 million to revenues. Higher retail deliveries added $ 9 million to revenues and an increase o: in transportation of customer-owned gas added $ 4 million to revenues for the year.

C C

Operating lwpenses: Natural gas operating expenses decreased $ 12 million in 1997 due to a r

0) 0)

decrease in the cost of natural gas purchased of $ 16 million, partially offset by an increase in 0 operating costs of $ 3 million that was primarily for fees related to an unsolicited tender offer.

N z Comparing 1996 to 1995, natural gas operating expenses rose $ 29 million. An increase in natural gas purchased, due to higher commoclity costs and higher deliveries, added $ 23 million and an increase in certain operating costs added $ 5 million to expenses.

CONSOLIDATED STATEMENTS Or INCOME Year Ended December 31 1996 1995 (Thousands, except per share amounts)

Operating Revenues Electric S1,792,164 $ 1,723,147 $ 1,708,297 Natural gas 337,825 344,385 308,931 Total Operating Revenues 2.129,989 2,067,532 2,017,228 Operating Expenses Fuel used in electric generation 233,180 222,102 229,759 Electricity purchased 409,883 360,753 318,440 Natural gas purchased 164,661 180,866 157,476 Other operating expenses 364,219 342,455 326.922 Maintenance 110,373 107,697 116,807 Depreciation and amortization 198,559 189,401 184,770 Other taxes 206,446 206,715 210,910 Total Operating Expenses 1,687,321 1,609,989 1,545,084 Operating Income 442,668 457,543 472,144 Interest Charges, Net 123,199 122,729 129,567 Other Income and Deductions 17,203 48,630 30,023 Income Before Federal Income Taxes 302,266 286,184 312,554 Federal Income Taxes 117,713 107,943 115,864 Net Income 184,553 178,241 196,690 Preferred Stock Dividends 9,342 9,530 18,721 Earnings Available for Common Stock $ 175,211 $ 168,711 $ 177,969 Earnings Per Share $ 2.57 $ 2.37 $ 2.49 '21 Average Shares Outstanding 68,153  ; 71,127, 71,503 Q

0 K

The notes on pages 26 through 38 are an integral part of the financial statements.

o rC 0) to ro z

CONSOLIDATED BALANCE SHEETS December 31 1996 IThousaads)

Assets Current Assets Cash and cash equivalents S8,168 $ 8,253 Special deposits 3,170 31,364 Accounts receivable, net 189,008 189,043 Fuel, at average cost 43,706 36,472 Materials and supplies, at average cost 41,56'I 43,044 Prepayments 68,452 47,169 Accumulated deferred federal income tax benefits, net 2.148 3,424 Total Current Assets 356,213 358,769 Utility Plant, at Original Cost Electric 5,234,725 5,177,365 Natural gas 576,683 529,023 Common 152.034 151,290 5,963,442 5,857,678 Less accumulated depreciation 2,093,274 1,933,599 Net Utility Plant in Service 3,870,168 3,924,079 Construction work in progress 52,104 58,285 Total Utility Plant 3,922,272 3.982,364 Other Property and Investments, Net 143,449 99,221 22 Regulatory and Other Assets Regulatory assets Unfunded future federal income taxes 243,129 269,767 Environmental remediation costs 82,900 32,100 Unamortized debt expense 76,418 80,745 Demand-side management program costs 64,466 71,425 Other 113,637 149,561 Total regulatory assets 580,550 603,598 Other assets 26,197 15,729 Total Regulatory and Other Assets 606,747 619,327 Total Assets S5,028,681 $ 5,059,681 The notes on pages 26 through 38 are an integral part of the financial statements.

CONSOLIDATED BALANCE SIIEETS December 31 1996 lrhousands)

Liabilities Current Liabilities Current portion of long-term debt $ 38,240 $ 83,488 Commercial paper 58,000 129,300 Accounts payable and accrued liabilities 124,981 121,123 Interest accrued 20,500 22,195 Taxes accrued 6,146 Other 79,631 71,324 Total Current Liabilities 327,498 427,430 Regulatory.and Other Liabilities Regulatory liabilities Deferred income taxes - unfunded future federal income taxes 99,126 109,065-Oeferred income taxes 81,986 94,004 Other 79,709 65,471 Total regulatory liabilities 260,821 268,540 Other liabilities Deferred income taxes 753,722 751,553 Other postretirement benefits 117,760 95,195 Environmental remediation costs 82,900 32,100 l0 n

Other 73,021 74,627 0 n

Cl Total other liabilities 1,027,403 953,475 n ~

K 1,450,224 1,480,814 Total Liabilities 3,065,946 3,130,259 23 Commitments R-Preferred Stock Redeemable Solely at the Option of the Company K 134,440 134,440 Preferred Stock Subject to Mandatory Redemption Requirements 25,000 25,000 Common Stock Equity Common stock ($ 6.66 2/3 par value, 90,000 shares 0) 0)

T authorized and 67,508 and 69,670 shares outstanding to at December 31, 1997 and 1996, respectively) 462,250 , 464,469 Vl Capital in excess of par value 811,648 816,384 Z Retained earnings 568,844 489,129 Treasury stock, at cost (1,829 shares) (39,447)

Total Common Stock Equity 1,803,295 1,769,982 Total Liabilities and Stockholders'quity $ 5,028,681 $ 5,059,681 The notes on pages 26 through 38 are an integral part of the financial statements.

CONSOLIDATED STATEMENTS OF CASH PLOWS Year Ended December 31 1996 1995 IThousands)

Operating Activities Net income $ 184,553 $ 178,241 $ 196,690 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 198,559 189,401 184,770 Deferred fuel and purchased gas 1.313 1,066 15,022 Federal income taxes and investment tax credits deferred, net 5,884 28,928 52,362 Changes in current operating assets and liabilities Accounts receivable 35 6,791 (40,169)

Inventory (5,751) (1,025) 19,286 Accounts payable and accrued liabilities 3,858 3,486 10,281 Other, net 67,792 52,144 14,913 Net Cash Provided by Operating Activities 456,243 459,032 453,155 Investing Activities Utility plant capital expenditures (123,768) (214,373) (163,401)

Proceeds from governmental and other sources 1,443 2,977 5,621 Expenditures for other property and investments (57,803) (916) (3,145)

Net Cash Used in Investing Activities (180,128) (212,312) (160,925)

Financing Activities Issuance of pollution control notes 37,000 Repurchase of common stock (7,245) (40,198)

Treasury stock acquired, net (39,447)

Repayments of first mortgage bonds and preferred stock, including net premiums (73,000) (171,478) (92,395) 0 Changes in funds set aside for first mortgage bond repayments 25,000 (25,000)

K Long-term notes, net (5,203) (2,581) (5,504) 8 C

C Commercial paper, net (71,300) 100,680 (123,280) r Dividends on common and preferred stock (105,005) (111,323) (118,940) 0)

0)

Net Cash Used in Financing Activities (276,200) (249,900) (303,119)

-0 ro Net Decrease in Cash and Cash Equivalents (85) (3,180) (10,889) z Cash and Cash Equivalents, Beginning of Year 8,253 11,433 22,322 Cash and Cash Equivalents, End of Year $ 8,168 $ 8,253 $ 11,433 The notes on pages 26 through 38 are an integral part of the financial statements.

CONSOLIDATED STATEMENTS OF CHANGES IN COMMON STOCK EQUITY I tThousands, except per share amounts)

Common Stock Outstanding Capital in

$ 6.6653 Par Value Excess of Retained Treasury Shares Amount Par Value Earnings Stock Total Balance, January 1, 1995 71,503 $ 476,686 $ 841,624 $ 346,547 $ 1,664,857 Net income 196,690 196,690 Cash dividends declared Preferred stock (at serial rates)

Redeemable - optional (8,196) (8,196)

- mandatory (10,525) (10,525)

Common stock ($ 1.40 per share) (100,104) (100,104)

Amortization of capital stock issue expense 818 818 Balance, December 31, 1995 71,503 476,686 842,442 424,412 1,743,540 Net income 178,241 178,241 Cash dividends declared Preferred stock (at serial rates)

Redeemable - optional (7,955) (7,955)

- mandatory . (1,575) (1,575)

Common stock ($ 1.40 per share) (99,611) (99,611)

Common stock repurchase 4 (1,833) (12,217) (27,981) (40,198) 4 Premium paid on preferred stock '

4 4

redemption, net (4,383) (4,383) c 4

Amortization of capital stock issue expense 1,923 1,923 25 Balance, December 31, 1996 69,670 464,469 816,384 489,129 1,769,982 0 a

'rc Net income 184,553 184,553 Cash dividends declared Preferred stock (at serial rates) r Redeemable - optional (7,767) (7,767) m

- mandatory (1,575) (1,575) 6 Common stock ($ 1.40 per share) (95,496) (95,496) V)

Common stock repurchase (333) (2,219) (5,026) (7,245) z Treasury stock acquired, net (1,829) 56 $ (39,447) (39,391)

Amortization of capital stock issue expense 234 234 Balance, December 31, 1997 67,508 $ 462,250 $ 811,648 $ 568,844 $ (39,447) $ 1,803,295 The notes on pages 26 through 38 are an integral part of the financial statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Principles of consolidation o The consolidated financial statements include the company's 0

subsidiaries, Somerset Railroad Corporation and NGE Enterprises, Inc.

Utility plant o The cost of repairs and minor replacements is charged to the appropriate operating expense accounts. The cost of renewals and betterments, including indirect costs, is capitalized.

The original cost of utility plant retired or otherwise disposed of and the cost of removal less salvage are charged to accumulated depreciation.

Depreciation and amortization ~ Depreciation expense is determined using straight-line rates, based on the average service lives of groups of depreciable property in service. Depreciation accruals were equivalent to 3.5% of average depreciable property for 1997, 1996 and 1995.

Amortization expense includes the amortization of certain regulatory assets authorized by the PSC.

Accounts receivable o The company has an agreement that expires in November 2001 to sell, with limited recourse, undivided percentage interests in certain of its accounts receivable from cus-tomers. The agreement allows the company to receive up to $ 152 million from the sale of such interests. At December 31, 19/7 and 1996, accounts receivable on the consolidated balance sheets are shown nct of $ 152 million of interests in accounts receivable sold. All fees associated with the program are included in other income and deductions on the consolidated statements of income and amounted to approximately $ 9 million in 1997 and 1996, and $ 10 million in 1995. Accounts receivable on the consolidated balance sheets are also shown net of an allowance for doubtful 26 accounts of $ 7 million at December 31, 1997 and 1996. Bad debt expense was $ 17 million, 0 $ 19 million and $ 18 million in 1997, 1996 and 1995, respectively.

a K

Income taxes o The company files a consolidated federal income tax return with SRC and NGE.

C Deferred income taxes are provided on all temporary differences between financial statement basis r and taxable income in accordance with Statement of Financial Accounting Standards No. 109, 0)

T Accounting for Income Taxes. Investinent tax credits, which reduce federal income taxes currently 0

CO payable, were deferred and are being amortized over the estimated lives of the applicable properties.

Utility operations o The company had been accounting for the economic effects of regulation on all of its utility operations in accordance with Statement of Financial Accounting Standards No. 71, Accounting for the Effects of Certain Types of Regulation. During 1997 the FASH's Emerging Issues Task Force issued guidance related to the continued application of Statement 71 .

during the electric utility industry's transition to competition. Accordingly, upon PSC approval of the company's restructuring plan in January 1998, the company's coal-fired generation business discontinued application of Statement 71 and applied Statement of Financial Accounting Standards No. 101, Regulated Enterprises Accounting for the Discontinuation of Application of FASB Statement 71. The application of Statement 101 to that business did not affect the company's financial position or results of operations because any above-market generation costs will be recovered by the regulated electric and natural gas delivery business.

Regulatory assets and liabilities o Pursuant to Statement 71, the company capitalizes, as regulatory assets, incurred costs that are probable of recovery in future electric and natural gas rates. The company also records as regulatory liabilities, obligations to customers to refund previ-ously collected revenue or to spend revenue collected from customers on future costs. In accor-dance with the company's restructuring plan and current natural gas rate settlement agreement, the company is no longer deferring most costs tlaat were previously subject to deferral accounting.

The company's regulatory assets and liabilities consisted of the following:

December 31 1996 1996 Assets Liabilities Assets Liabilities (Thousands)

Unfunded future federal income taxes $ 243,129 $ 269,767 Deferred income taxes-unfunded future federal income taxes $ 99,126 $ 109,065 Environmental remediation costs 82,900 32,100 Deferred income taxes 81,986 94,004 Unamortized debt expense 76,418 80,745 DSM program costs 64,466 71,425 MUG termination agreements 44,579 43,991 Other postretirement benefits 14,494 18,417 Other 54,564 79,709 87,153 65,471 Total $ 580,550 $ 260,821 $ 603,598 $ 268,540 27 Unfunded future federal income taxes and deferred income taxes are amortized as the related 0 a

temporary differences reverse. Unamortized debt expense is amortized over the lives of the related CC debt issues. DSM program costs, other regulatory assets and other regulatory liabilities are amor-tized over various periods in accordance with the company's restructuring plan and current natural gas rate settlement agreement. The company is earning a return on all regulatory assets for which P the company has spent funds. 0 N

z The company's restructuring plan provides that any above-market generation costs will be transferred to the regulated electric and natural gas delivery business and recovered through a nonbypassable competitive transition charge. The regulatory assets and regulatory liabilities of the coal-fired generation business will be recovered by the regulated electric and natural gas delivery business. If the company could no longer meet the criteria of Statement 71 for all or a separable part of its electric and natural gas delivery business, the company may have to record as expense or revenue certain of its regulatory assets and regulatory liabilities and may have to record as a loss the amount for power purchase contracts with NUGs that is above the estimated competitive market price of power. These items are currently recovered in rates.

Consolidated Statements of Cash Flows o The company considers all highly liquid investments with a maturity or put date of three months or less when acquired to be cash equivalents. Those investments are included in cash and cash equivalents on the consolidated balance sheets.

Total income taxes paid were $ 111 million, $ 98 million and $ 55 million for the years ended December 31, 1997, 1996 and 1995, respectively.

Interest paid, net of amounts capitalized, was $ 107 million, $ 112 million and $ 118 million for the years ended December 31, 1997, 1996 and 1995, respectively.

Risk management o The company uses risk management techniques such as natural gas future and option contracts to manage the company's exposure to fluctuations in natural gas commodity prices. Such contracts allow the company to fix margins on sales of natural gas generally forecast-ed to occur over the next 18 months. The cost or benefit of natural gas future and option contracts is included in the commodity cost when the related sales commitments are fulfilled. Gains and losses resulting from the use of those contracts for 1997 and 1996 were not material to the compa-ny's financial position or results of operations. The company does not hold or issue financial instruments for trading or speculative purposes.

Stock-based compensation o The company accounts for its stock-based compensation plans in accordance with Accounting Principles Hoard Opinion No. 25, Accounting for Stock Issued to Employees, as permitted by Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation. Total stock-based compensation cost recognized in the income state-ment for the year ended December 31, 1997, in accordance with Opinion 25, was the same as if the company accounted for its plans in accordance with Statement 123.

Estimates o Preparation oF the consolidated financial statements in conformity with generally accepted accounting principles 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 estimates.

Reclassifications o Certain amounts have been reclassified on the consolidated financial 28 statements to conform with the 1997 presentation.

3.

Year ended December 31 1996 1995 tThou sands)

Current $ 111,829 $ 79,015 $ 63,502 Deferred, net Accelerated depreciation 29,070 52,572 55,493 AMT credit (5) 310 18,009 Miscellaneous (18,125) (17,617) (14,926)

ITC (5,056) (6,337) (6,214)

Total $ 117,713 $ 107,943 $ 115,864 The company's effective tax rate differed from the statutory rate of 35% due to the following:

Year ended December 31 1996 1995 trhousonds)

Tax expense at statutory rate $ 105,792 $ 100,165 $ 109,396 Depreciation not normalized 16,854 20,542 19,774 ITC amortization (6359) (6,337) (6,214)

Research & Development credit 1,239 83 (5,547)

Other, net 187 (6,510) (1,545)

Total $ 117,713 $ 107,943 $ 115,864

The company's deferred tax assets and liabilities consisted of the following:

December 31 1996 Phousands)

Current Deferred Tax Assets $ 2,148 $ 3,424 Noncurrent Deferred Taxes Depreciation $ 775,943 $ 761,794 Unfunded future federal income taxes 99,126 109,065 Accumulated deferred ITC 114,640 119,696 Future income tax benefit- ITC (40,087) (41,847)

Other (16,399) 4,529 Total Noncurrent Deferred Tax Liabilities 933,223 953,237 Valuation Allowance 1,611 1,385 Less amounts classified as regulatory liabilities Deferred income taxes unfunded future federal income taxes 99,126 109,065 Deferred income taxes 81,986 94,004 Noncurrent Deferred Income Taxes $ 753,722 $ 751,553

~ 0 ~ ~

The company has a revolving credit agreement with certain banks that provides for borrowing up to $ 200 million through December 31, 2001. The revolving credit agreement does not require com- 29 pensating balances. The company had no outstanding loans under the revolving credit agreement -0 at December 31, 1997 or 1996. At the option of the company, the interest rate on borrowings is K related to the prime rate, the London Interbank Offered Rate or the interest rate applicable to cer-tain certificates of deposit. The agreement also provides for the payment of a commitment fee that can fluctuate from .10% to .25% depending on the credit ratings of the company's first mortgage 0) bonds. The commitment fee was .125% at December 31, 1997, 1996 and 1995. 0 I

z The company uses short-term unsecured notes, usually commercial paper, to finance certain refundings and for other corporate purposes. The weighted average interest rates on commercial paper balances at December 31, 1997, 1996 and 1995 were 6.3%, 5.8% and 6.1%, respectively.

The company makes investments through its subsidiary, NGE Enterprises, Inc., in providers of energy, financial and environmental services.

The company's net investment in NGE was $ 20 million, $ 17 million and $ 34 million as of December 31, 1997, 1996 and 1995, respectively, the majority of which is included in other property and investments, net on the consolidated balance sheets. Net losses related to NGE of $ 4 million,

$ 21 million and $ 12 million for the years ended December 31, 1997, 1996 and 1995, respectively, are included in other income and deductions on the consolidated statements of income.

8 ~ ~ u ~

At December 31, 1997 and 1996, long-term debt was:

Maturity Interest Amount Oates Rates 1996 IThousaudsl First mortgage bonds (1) 1998 to 2023 6 1/2% to 9 7/8% $ 830,000 $ 903,000 Pollution control notes (2) 2006 to 2034 3.65% to 6.15% 613,000 613,000 Long-term notes 12/31/00 28,000 29,900 Various long-term notes 12,569 15,809 Obligations under capital leases 12,269 10,699 Unamortized premium and discount on debt, net (7,374) (8,106) 1,488,464 1,564,302 Less debt due within one year included in current liabilities 38,240 83,488 Total $ 1,450,224 $ 1,480,814 At December 31, 1997, long-term debt and capital lease payments that will become due during the next five years are:

1998 1999 2000 2001 2002 (Thousands)

$ 38,240 $ 4,754 $ 30,049 $ 51,766 $ 151,462 30 (1) The company's first mortgage bond indenture constitutes a direct first mortgage lien on 0 substantially all utility plant. The mortgage also provides for a sinking and improvement fund.

a This provision requires the company to make an annual cash deposit with the Trustee equivalent to 1% of the principal amount of all bonds delivered and authenticated by the Trustee prior to Iu January 1 of that year (excluding any bonds issued on the basis of the retirement of bonds). The P company satisfied the requirement by depositing $ 23 million in cash in 1997. The funds were 0

used to redeem, at par, $ 23 million of 9 7/8% Series first mortgage bonds, due Pebruary 2020, Z in Pebruary 1997.

(2) Pixed-rate pollution control notes totaling $ 306 million were issued to secure the same amount of tax-exempt pollution control revenue bonds issued by a governmental authority. The interest ntes range from 5.70% to 6.15%.

Adjustable-rate pollution control notes totaling $ 132 million were issued to secure the same amount of tax-exempt adjustable-rate pollution control revenue bonds (Adjustable-rate Revenue Bonds) issued by a governmental authority. The Adjustable-rate Revenue Bonds bear interest at rates nnging from 3.65% to 3.80% through dates preceding various annual interest rate adjustment dates. On the annual interest rate adjustment dates the interest rates will be adjusted, or at the option of the company, subject to certain conditions, a fixed nte of interest may become effective.

Bond owners may elect, subject to certain conditions, to Itave their Adjustable-ntc Revenue Bonds purchased by the Trustee.

Multi-mode pollution control notes totaling $ 175 million were issued to secure the same amount of tax-exempt multi-mode pollution control refunding revenue bonds (Multi-mode Revenue Bonds) issued by a governmental authority. The Multi-mode Revenue Bonds have a structure that allows the interest rates to be based on a daily rate, a weekly rate, a commercial paper rate, an auction rate, a term rate or a fixed rate. Bond owners may elect, while the Multi-mode Revenue Bonds bear interest at a daily or weekly rate, to have their bonds purchased by the Registrar and Paying

Agent. The maturity dates of the Multi-mode Revenue Bonds are February 1, 2029, June 1, 2029, and October 1, 2029, and can be extended subject to certain conditions. At December 31, 1997, the interest rate for the multi-mode pollution control notes was at the daily rate. The weighted average interest rate for all three series was 3.42%, excluding letter of credit fees, for the year ended December 31, 1997.

The company has irrevocable letters of credit that support certain payments required to be made on the Adjustable-rate Revenue Bonds and Multi-mode Revenue Bonds, and tlaat expire on various dates. If the company is unable to extend the letter of credit tlaat is related to a particular series of Adjustable-rate Revenue Bonds, that series will have to be redeemed unless a fixed rate of interest becomes effective. Multi-mode Revenue Bonds are subject to mandatory purchase upon any change in the interest rate mode and in certain other circumstances. Payments made under the letters of credit in connection with purclzases of Adjustable-rate Revenue Bonds and Multi-mode Revenue Bonds are repaid with the proceeds from the remarketing of those Bonds. To the extent the proceeds are not sufficient, the company is required to reimburse the bank that issued the letter of credit.

At December 31, 1997 and 1996, serial cumulative preferred stock was:

Shares Par Value Authorized Per Redeemable and Amount Series Share Prior to Per Share Outstanding (1) 1996 31 (Thousands) 0 a

Redeemable solely at the option of the company: o."

3 75% $ 100 $ 104.00 150,000 $ 15,000 $ 15,000 C

4 1/2% (1949) 100 103.75 40,000 4,000 4,000 ~

4 415 100 101.00 14,000 1,400 1,400 0) 4.40% 100 102.00 0) 55,200 5,520 5,520 4.15% (1954) 100 102.00 35,200 3,520 3,520 0 V) 6.48% 100 102.00 300,000 30,000 30,000 z

7 40% (2) 25 12/1/98 26.85 1,000,000 25,000 25,000 Thereafter 25.00 Adjustable Rate (3) 25 12/1/98 27.50 2,000,000 50,000 50,000 Thereafter 25.00 Total $ 134,440 $ 134,440 Subject to mandatory redemption requirements:

6.30% (4) 100 1/1/99 103.15 250,000 $ 25,000 $ 25,000 At December 31, 1997, there were no preferred stock redemptions or annual redeemable preferred stock sinking fund requirements for the next five years.

(1) At December 31, 1997, there were 1,610,600 slaares of $ 100 par value preferred stock, 7,800,000 shares of $ 25 par value preferred stock and 1,000,000 shares of $ 100 par value preference stock authorized but unissued.

(2) The company is restricted in its ability to redeem this Series prior to December 1, 1998.

(3) The payment on this Series, for April 1, 1998, is at an annual rate of 5.03% and subsequent payments can vary from an annual rate of 4% to 10o/o, based on a formula included in the company's Certificate of Incorporation. The company is restricted in its ability to redeem this Series'prior t6 December 1, 1998.

(4) On January 1 of each year from 2004 through 2008, the company must redeem 12,500 shares at par, and on January 1, 2009, the company must redeem the balance of the shares at par. This Series is redeemable at the option of the company at $ 103.15 per share prior to January 1, 1999.

The $ 103.15 price will be reduced annually by 63 cents for the years ending 1999 through 2002; thereafter, the redemption price is $ 100.00. The company is restricted in its ability to redeem this Series prior to January 1, 2004.

Dividend Limitations: Common stock dividends are limited if common stock equity falls below 25% of total capitalization, as defined in the company's Certificate of Incorporation.

~ . M MM 1

Pensions o The company has a noncontributory retirement annuity plan that covers substantially all employees. Benefits are based principally on the employee's length of service and compensation for the five highest paid consecutive years during the last 10 years of service. It is the company's policy to fund pension costs accrued each year to the extent deductible for federal income tax purposes.

Net pension benefit included the following components:

Year ended December 31 1996 1995 (Thousands)

Service cost: Benefits earned during the year $ 19,317 $ 18,593 $ 16,391 Interest cost on PBO 50,951 46,070 45,400 32 (185,816)

Actual return on plan assets (213,382) (138,957)

K Net amortization and deferral 116,389 58,162 111,209 K

Net pension benefit $ (26,725) $ (16,132) $ (12,816)

The funded status of the plan was:

M 0 December 31 1996 V) z (Thousands)

Actuarial present value of ABO Vested $ 513,431 $ 472,786 Nonvested 101,181 52,272 Total $ 614,612 $ 525,058 Fair value of plan assets S(1,176,184) $ (995,795)

Actuarial present value of PBO 746,008 679,778 Plan assets in excess of PBO (430,176) (316,017)

Unrecognized net transition asset 44,660 51,898 Unrecognized net gain 372,046 275,531 Unrecognized prior service cost (28,307) (26,464)

Net pension asset S(41,777) $ (15,052)

Assumptions used to determine actuarial valuations Discount rate used to determine PBO 7.0 7 25oio Rate of compensation increase used to determine PBO 4 25% 4.75%

Long-term rate of return on plan assets for net pension benefit 85% 8.0%

Plan assets primarily consist of domestic and international equity securities; U.S. agency, corporate and Treasury bonds; and cash equivalents.

Postretirement benefits other than pensions o The company I)as postretirement benefit plans, such as a comprehensive health insurance plan and a prescription drug plan, that provide certain benefits for retired employees and their dependents. Substantially all of the company's employees who retire under the company's pension plan may become eligible for those benefits at retirement.

The postretirement benefit plans were unfunded as of December 31, 1997 and 1996.

The net periodic postretirement benefits cost other than pensions (below) recognized on the income statements for 1997, 1996 and 1995 represent the portion of costs related to Statement of Financial Accounting Standards No. 106, Employers'ccounting for Postretirement Benefits Other Than Pensions, tl)at the company i)as been allowed to collect from its customers. The company has deferred $ 14 million and $ 18 million of Statement 106 costs as of December 31, 1997 and 1996, respectively. The company expects to recover any deferred Statement 106 amounts by the year 2000. I Net postretirement benefits cost other titan pensions included the following components:

Year ended December 31 1996 1995 (Thousands)

Service cost: Benefits accumulated during the year $ 7,010 $ 6,436 $ 5,412 Interest cost on APBO 17,075 15,795 15,228 Amortization of transition obligation over 20 years 10330 10,330 10,330 I Amortization of gain (3,565) (3,246) (4,575)

,0 0

Deferral for future recovery (11,766) (8,950) (7.742) 2 Net periodic postretirement benefits cost $ 19,084 $ 20,365 $ 18,653 33 K

The status of the plans for postretirement benefits other tl)an pensions, as reflected in the company's consolidated balance sheets, was as follows:

P December 31 1996 0 (Thousands) 2 APBO Retired employees $ 103,762 $ 103,912 Fully eligible active plan participants 22,693 15,259 Other active plan employees 132,429 107,022 Total APBO 258,884 226,193 Less unrecognized transition obligation 154,948 165,278 Less unrecognized net gain (13,824) (34,280)

Accrued postretirement liability $ 117,760 $ 95,195 An 8.0% annual rate of increase in the per capita costs of covered health care benefits was assumed for 1998, gradually decreasing to 5% by the year 2003. Increasing the assumed health care cost trend rates by 1% in each year would increase the APBO as of January 1, 1998, by $ 42 million and increase the aggregate of the service cost and interest cost components of the net postretirement benefits cost for 1997 by $ 5 million. Discount rates of 7.0o/o and 7.25% were used to determine the APBO in 1997 and 1996, respectively.

0 Nine Mile Point unit 2 o The company lns an undivided 18% interest in the output and costs of NMP2, which is operated by Niagara Molnwk Power Corporation. Ownership of NMP2 is slnred with Niagara Molnwk 41%, Long Island Lighting Company 18%, Rochester Gas and Electric Corporation 14% and Central I-Iudson Gas & Electric Corporation 90/0. The company's slnre of the rated capability is 207 megawatts. The company's share of net utility plant investment, excluding nuclear fuel, was approximately $ 591 million and $ 610 million, at December 31, 1997 and 1996, respectively. The accumulated provision for depreciation was approximately $ 162 million and

$ 144 million, at December 31, 1997 and 1996, respectively. The company's slnre of operating expenses is included in the consolidated statements of income.

As part of its restructuring plan, the company will put up for sale its 18% interest in NMP2.

Nuclear insurance o Niagani Molnwk maintains public liability and property insurance for NMP2.

The company reimburses Niagara Mohawk for its 18% share of those costs.

The public liability limit for a nuclear incident is approximately $ 8.3 billion. Should losses stem-ming from a nuclear incident exceed the commercially available public liability insurance, each liccnsce of a nuclear facility would be liable for up to $ 76 million per incident, payable at a rate not to exceed $ 10 million per year. The company's maximum liability for its 18% interest in NMP2 would be approximately $ 14 million per incident. The $ 76 million assessment is subject to periodic inflation indexing and a 5% surclnrge should funds prove insufficient to pay claims associated with a nuclear incident. The Price-Anderson Act also requires indemnification for precautionary 0 evacuations whether or not a nuclear incident actually occurs.

ao CI Niagara Mohawk lns procured property insurance for NMP2 aggregating approximately $ 2.8 billion through the Nuclear Insurance Pools and the NEIL. In addition, the company lns purclnsed NEIL insurance coverage for the extra expense tint would be incurred by purclnsing replacement P

0 power during prolonged accidental outages. Under NEIL programs, should losses resulting from V) an incident at a member facility excccd the accumulated reserves of NEIL, each member, including 2 the company, would be liable for its share of the deficiency. The company's maximum liability per incident under the property damage and replacement power coverages is approximately $ 2 million.

Nuclear plant decommissioning costs o Based on the results of a 1995 decommissioning study, the company's 18% share oF the cost to decommission NMP2 is $ 155 million in 1998 dollars

($ 422 million in 2026 when NMP2's operating licerise will expire). The estimated annual contribution rieeded to cover the company's slnre of costs as outlined in the study is approximately $ 4 million.

The company's estimated liability for decommissioning NMP2 using the NRC's minimum funding requirement is approximately $ 83 million in 1998 dollars. The company's electric rates currently include an annual allowance for decommissioning of $ 2 million in 1998, which approximates the NRC's minimum funding requirement, and $ 4 million in subsequent years. Decommissioning costs are charged to depreciation and amortization expense and are recovered over the expected life of the plant. In its restructuring plan, approved by the PSC in January 1998, the company used the 1995 decommissioning study as a basis for calculating the amount of decommissioning costs.

The company has established a Qualified Fund under applicable provisions of the federal tax law to comply with NRC funding regulations. The balance in the fund, including reinvested earnings, was approximately $ 13 million and $ 11 million at December 31, 1997 and 1996, respectively. Those amounts are included on the consolidated balance sheets in other property and investments, net. The related liability for decommissioning is included in other liabilities other. At December 31, 1997, the external trust fund investments were classified as available-for-sale, and their carrying value approximated fair value.

In 1996 the Financial Accounting Standards Board issued an exposure draft, Accounting for Certain Liabilities Relatecl to Closure and Removal of Long-Lived Assets. The exposure drpft proposes that companies recognize the present value of estimated decommissioning costs. If tlie final statement includes that requirement, the estimated liability the company would have to recognize on its bal-ance sheet related to decommissioning NMP2 is approximately $ 80 million, based-on the 1995 decommissioning study.

Homer City o The company has an undivided 50% interest in the output and costs of the I-Iomer City Generating Station, which comprises three generating units. The station is owned with Pennsylvania Electric Company and is operated by its affiliate, GPU Generation, Inc. The company's share of the rated capability is 953 megawatts, and its net utility plant investment was approximately $ 262 million and $ 269 million at December 31, 1997 and 1996, respectively. The accumulated provision for depreciation was approximately $ 190 million and $ 181 million, at December 31, 1997 and 1996, respectively. The company's share of operating expenses is included in the consolidated statements of income.

35 GPU, Inc., the parent company of GPU Generation, announced in October 1997 that they will 3.

sell their non-nuclear generating stations, including their 50% interest in Homer City. The company's restructuring plan calls for the company to auction its coal-fired generating stations, including its 50% interest in I-Iomer City, and completion of the auction transactions by August 1, 1999. The company does not expect these transactions to have an adverse effect on its financial position or results of operations. 0 z

Capital expenditures o The company has commitments in connection with its capital expenditure program and estimates that expenditures, including nuclear fuel and AFDC, for 1998, 1999 and 2000 will approximate $ 134 million, $ 152 million and $ 146 million, respectively, and are expected to be financed entirely with internally generated funds. The program is subject to periodic review and revision. Capital expenditures will be primarily for the extension of service, necessary improvements to existing facilities and compliance with environmental requirements.

Nonutility generator power purchase contracts o During 1997, 1996 and 1995 the company cxpensed approximately $ 324 million, $ 320 million and $ 284 million, respectively, for NUG power, including termination costs. The company estimates that NUG power purchases, including termination costs, will total $ 340 million in 1998, $ 348 million in 1999 and $ 356 million in 2000.

The company has been notified by the EPA and the NYSDEC, as appropriate, that it is among the PRPs who may be liable to pay for costs incurred to remediate certain hazardous substances at nine waste sites, not including the company's inactive gas manufacturing sites, which are discussed below. With respect to the nine sites, six sites are included in the New York State Registry of Inactive Hazardous Waste Sites and two of the sites are also included on the National Priorities list.

Any liability may be joint and several for certain of those sites. The company has recorded an estimated liability of $ 1 million related to six of the nine sites, which is reflected in the company's consolidated balance sheets at December 31, 1997. The ultimate cost to remediate the sites may be significantly more than the estiinated amount and will depend on such factors as the remedial action plan selected, the extent of site contamination and the portion attributed to the company.

The company ltas a program to investigate and perform necessary remediation at its known inactive gas manufacturing sites. In March 1994 and October 1996 the company entered into Orders on Consent with the NYSDEC requiring the company to investigate and, where necessary, remediate 34 of the company's 38 known inactive gas manufacturing sites. With respect to the 38 sites, eight sites are included in the New York State Registry.

The company's estimate for all costs related to investigation and remediation of the 38 sites is a range of $ 81 million to $ 182 million at December 31, 1997. That estimate is based on both known and potential site conditions and multiple remediation alternatives for each of the sites.

36 The estimate has not been discounted and is based on costs in 1996 dollars that the company 0 expects to incur through the year 2017. The estimate could change materially, based on facts and a

K circumstances derived from site investigations, changes in required remedial action, changes in technology relating to remedial alternatives and changes to current laws and regulations.

The liability to investigate and perform remediation, as necessary, at the known inactive gas manufacturing sites, is reflected in the company's consolidated balance sheets at December 31, 1997 0

V) and 1996, in the amount of $ 81 million and $ 31 million, respectively. The company has recorded a corresponding regulatory asset, since it expects to recover such expenditures in rates. The company has notified and entered into negotiations with its former and current insurance carriers so that it may recover from them certain of the cleanup costs. The company is unable to predict the amount of insurance recoveries, if any, that it may obtain.

A Certain of the company's financial instruments had carrying amounts and estimated fair values, based on the quoted market prices for the same or similar issues of the same remaining maturities, as follows:

December 31 1996 1996 Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value IThousands)

Other investments external trust funds $ 53,049 $ 53,708 Preferred stock subject to mandatory redemption requirements $ 25,000 $ 24,315 $ 25,000 $ 22,531 First mortgage bonds $ 822,626 $ 882,616 $ 894,894 $ 938,873 Pollution control notes $ 613,000 $ 625,149 $ 613,000 $ 623,666 The carrying amount for the following items approximates estimated fair value because of the short maturity, within one year, of those instruments: cash and cash equivalents, commercial paper and interest accrued.

Special deposits include restricted funds tleat are set aside for preferred stock and long-term debt redemptions. The carrying amount approximates fair value because the special deposits have been invested in securities with a short-term maturity, within one year.

37 0

Q 95 ~ ~ ~ ~ o:

Certain information pertaining to the electric and natural gas operations of the company follows:

0)

Electric Natural Gas T 0

1996 1995 1996 1995 N (Thousands) z Operating Revenues $ 1,792,164 $ 1,723,147 $ 1,708,297 $ 337,825 $ 344,385 $ 308,931 Income $ 380,344 $ 400,262 $ 421,328 $ 62,324 $ 57,281 $ 50,816 Depreciation and amortization $ 183304 $ 176,906 $ 172,831 $ 15,255 $ 12,495 $ 11,939 Capital expenditures $ 78,667 $ 132,190 $ 119,159 $ 45,240 $ 82,625 $ 45,142 Identifiable assets" $ 4,273,100 $ 4,376,814 $ 4,525,541 $ 588,773 $ 550,196 $ 493,537

" Assets used in electric, natural gas and energy services operations not included above were S166,808, S132,671 and S95,253 at December 31, 1997, 1996 and 1995, respectively. They consist primarily of cash and cash equivalents, special deposits, prepayments and subsidiaries'ssets.

Quarter ended March 31 June 30 Sep. 30 Dec. 31 IThonsands, except per share amounts)

Operating revenues $ 588,137 S470,370 $ 492,829 $ 578,653 Operating income $ 167,527 $ 82,743 $ 80,826 $ 111,572 Net income $ 81,977 $ 26,275 $ 28,277 $ 48,024 Earnings available for common stock $ 79,662 $ 23,923 u'25,929"'38(a $ 45,697 Earnings per share $ 1.15 $ .35 $ .68 Dividends per share $ .35 $ .35 $ .35 S.35 Average shares outstanding 69,353 68,279 67,503 67,504 Common stock price"'igh

$ 24.50 $ 22.50 $ 27.19 $ 35.75 Low $ 21.25 $ 20.63 $ 20.81 $ 25.75 1996 1996 1996 1996 Operating revenues $ 622,056 $ 454,667 $ 457,986 $ 532,823 Operating income $ 196,353 $ 74,924 $ 74,285 $ 111,981 Net income $ 98,676 SZ0,88Z $ 11,052tn $ 47,631 Earnings available for common stock $ 96,343 $ 18,496 $ 8,616m $ 45,256 Earnings per share $ 1.35 $ .26 $ ]Ztn $ .65 Dividends per share $ .35 $ .35 $ .35 $ .35 38 Average shares outstanding 71,503 71,503 71,416 70,096 Common stock price" 0

a High $ 26.38 $ 24.50 $ 24.88 $ 22.63 K

Low $ 21.88 $ 22.00 $21.13 $ 20.38

"'ncludes the effect of fees related to an unsolicited tender offer that decreased net income and earnings available for common stock by $ 17 million and decreased earnings per share by 24 cents.

Ll "Includes the effect of the writedown of the investment in EnerSoft Corporation that decreased net income and earnings available for common stock by 0

$ 10 million and decreased earnings per share by 14 cents.

Z "The company's common stock is listed on the New York Stock Exchange. The number of shareholders of record at Oecember 31, 1997, was 38,238.

REPORT OF MANAGEMENT The company's management is responsible for the preparation, integrity and reliability of the consolidated financial statements, notes and other information in this annual report. The consoli-dated financial statements have been prepared in accordance with generally accepted accounting principles and include estimates that are based upon management's judgment and the best avail-able information. Other financial information contained in this report was prepared on a basis consistent with tltat of the consolidated financial statements.

The company maintains a system of internal controls designed to provide reasonable assurance to the company's management and board of directors regarding the preparation of reliable pub-lished financial statements and the safeguarding of assets against loss or unauthorized use. The system contains self-monitoring mechanisms and actions are taken to correct deficiencies as they are identified. Even an effective internal control system, no matter how well designed, has inherent limitations, including the possibility of the circumvention or overriding of controls, and therefore can provide only reasonable assurance with respect to financial statement preparation and the safeguarding of assets. Further, because of changes in conditions, internal control system effectiveness may vary over time.

The company maintains an internal audit department that independently assesses the effectiveness of the internal controls. In addition, the company's independent accountants, Coopers R Lybrand L.L.P., have considered the company's internal control structure to the extent they considered necessary in expressing an opinion on the consolidated financial statements. Management is 0 a

responsive to the recommendations of its internal audit department and the independent accoun-L'9 tants concerning internal controls and corrective measures are taken when considered appropriate.

The board of directors oversees the company's financial reporting through its audit committee. The committee, which is comprised entirely of outside directors, meets regularly with management, the R K

internal auditor and the independent accountants to discuss auditing, internal control and financial reporting matters. Both the internal auditor and independent accountants have direct access to the audit committee, independent of management.

The company assessed its internal control system as of December 31, 1997, in relation to criteria 0 Vl for effective internal control over financial reporting and the safeguarding of assets described in z Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, the company believes that, as of December 31, 1997, its system of internal control over financial reporting and over the safeguarding of assets against loss or unauthorized use met those criteria.

Sherwood J. Rafferty Senior Vice President and Chief Financial Officer Gary J. Turton Vice President and Controller Chief Accounting Officer

REPORT OF INDEPENDENT ACCOUNTANTS Coo ers 8Ly rand ."...

To the Shareholders and Hoard of Directors, New York State Electric R Gas Corporation and Subsidiaries Ithaca, New York We ltave audited the accompanying consolidated balance sheets of New York State Electric K. Gas Corporation and Subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, changes in common stock equity and cash flows for each of the three years in the period ended December 31, 1997. 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 in accordance with generally accepted auditing standards. Those stan-dards 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. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits pro-vide a reasonable basis for our opinion.

40 0

a In our opinion, the financial statements referred to above present fairly, in all material respects, K the consolidated financial position of New York State Electric & Gas Corporation and Subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with 0)

Cb generally accepted accounting principles.

0 New York, New York January 30, 1998

GLOSSARY Above-market costs o costs, such as amounts for power purchase contracts with NUGs, that are greater than the market price.

Allowance for funds used during construction o the cost of money used to finance a project that is added to construction costs and recovered over the life of the asset..

Allowed return on common stock equity o the cost of common stock equity as determined by the PSC.

Book value per share o common stock equity divided by the number of common shares outstanding at the end of the period.

British thermal unit o the quantity of heat required to raise the temperature of one pound of water by one degree Fahrenheit at sea level.

Common stock equity o the value of common stockholders'nvestment in a company including retained earnings.

Dekatherm o a measure of heating value equal to one million British thermal units. One dekatherm equals approximately 1,000 cubic feet of natural gas (one mcf).

Demand-side management o the planning and implementation of programs designed to help electricity customers conserve energy.

Earnings available for common stock o net income less preferred stock dividends.

Earnings per share o earnings available for common stock for a given period divided by the 0

average number of shares outstanding for the period. a K

Embedded cost of long-term debt o the weighted average interest rate on long-term debt outstanding.

I T

Net income o income after all revenues and expenses are recognized but before preferred 0 dividends are recognized. N 2

Nonutility generator o a nontraditional power generator tltat is also known as an independent pomer producer.

Price/earnings ratio o the market price of common stock divided by its earnings per share.

Retained earnings o the portion of earnings that has been reinvested in the business and not paid out as dividends.

Return on common stock equity o the rate of return actually earned on common stock equity calculated by dividing earnings for common stock by average common stock equity.

Securitization legislation o a law that mould allow utilities to refinance certain expenses at a lower cost.

Transportation gas o natural gas purchased directly from a supplier by an end user and transported, for a fee, by a local distribution company, such as the company.

Watt o one ampere of electric current under one volt of pressure (one kilowatt is 1,000 watts, one kilowatt-hour is one kilowatt used for one hour and one megawatt is 1,000 kilowatts or one million watts).

SELECTED FINANCIAL DATA 1996 1995 1994 1993 1992 (Thousands, except per share amounts)

Operating Revenues Electric $ 1,792,164 $ 1,723,147 $ 1,708,297 $ 1,600,075 $ 1,527,362 $ 1,451,525 Natural gas 337,825 344,385 308,931 298,780 272,787 240,164 Total Operating Revenues 2,129,989 2,067,532 2,017,228 1,898,855 1,800,149 1,691,689 Operating Expenses Fuel used in electric generation 233,180 222,102 229,759 231,648 245,283 262,531 Electricity purchased 409,883 360,753 318,440 242,352 161,967 95,026 Natural gas purchased 164,661 180,866 157,476 161,627 141,635 126,815 Other operating expenses . 364,219 342,455 326,922 328,961 349,177 318,680 Restructuring expenses 26,000 Maintenance 110,373 107,697 116,807 106,637 111,757 102,500 Depreciation and amortization 198,559 189,401 184,770 '78,326 164,568 158,977 Other taxes 206,446 206,715 210,910 210,729 204,962 200,941 Total Operating Expenses 1,687,321 1,609,989 1,545,084 1,460,280 1,405,349 1,265,470 Operating Income 442,668 457,543 472,144 438,575 394,800 426,219 Interest Charges, Net 123,199 122,729 129,567 136,092 141,099 151,831 Other Income and Deductions 17,203 48,630 30,023 12,377 1,923 1,144 Income Before Federal Income Taxes 302,266 286,184 312,554 290,106 251,778 273,244 Federal Income Taxes 117,713 107,943 115,864 102,461 85,750 89,276 Net Income 184,553 178,241m 196,690 187,645m 166,028" 183,968 Preferred Stock Dividends u',342 9,530 18,721 18,947 20,638 20,995 42 Earnings Available for

'0a Common Stock 175,211u'5,496 168,711m 177,969 168,698m 145,390'" 162,973 K Common Stock Dividends 99,611 100,104 142,265 152,316 144,621 8

c Retained Earnings c

r Increase (Decrease) $ 79,715 $ 64,717 $ 77,865 $ 26,433 ($ 6,926) $ 18,352 m

Average Number of Shares of 0 Common Stock Outstanding 68,153 ro 71,127 71,503 71,254 69,990 67,972 z Earnings Per Share $ 2.57n'1.40 $ 2.37m $ 2.49 $ 2.37m,$ 2.08<< $ 2.40 Dividends Paid Per Share $ 1AO $ 1AO $ 2.00 $ 2.18 $ 2.14 Book Value Per Share of Common Stock (Year End) S26.71 $ 25.41 $ 24.38 $ 23.28 $ 22.89 $ 22.85 Capital Expenditures earnings $ 123,907 $ 214,815 $ 164,301 $ 248,221 $ 267,838 $ 245,939 Total Assets $ 5,028,681 $ 5,059,681 $ 5,114,331 $ 5,230,685 $ 5,287,958 $ 5.077,916 Long-term Obligations, Capital Leases and Redeemable Preferred Stock $ 1,475,224 $ 1,505,814 $ 1,606,448 $ 1,776,081 $ 1,755,629 $ 1,883,927

'" Includes the effect of fees related to an unsolicited tender offer that decreased net income and earnings available for common stock by S17 million and decreased per share by 24 cents.

er Includes the effect of the writedown of the investment in EnerSoft Corporation that decreased not income and earnings available for common stock by S10 million and decreased earnings per share by14 cents.

"Includes the effect of the 1993 production cost penalty that decreased net income and earnings availabla for common stock by S8 million and decreased earnings per share by 12 cents.

<< Includes the effect of restructuring expenses that decreased nat income and earnings availabfe for common stock S17 million and decreased by earnings par share by 25 cents.

P FINANCIAL STATISTICS 1996 1995 1994 1993 1992 Financial Statistics Return on average common stock equity percent 9.9 10.4 10.3 9.1 10.6 Mortgage bond interest-times earned 4.4 4.1 4.0 3.5 3.0 3.1 Interest charges and preferred dividends times earned 2.3 2.3 2.2 2.1 1.9 Market value per share of common stock (Year end) $ 35.50 $ 21,63 $ 25.88 $ 19.00 $ 30.75 $ 32.50 Dividend payout ratio (Percent) 54.5 59.1 56.2 84.4 104.8 89.2 Price earnings ratio (Year end) 13.8 9.1 10.4, 8.0 14.8 13.5 Property, Plant and Equipment (includes construction work in progress) (Thousands)

Electric $ 5,267,080 $ 5,208,307 $ 5,125,336 $ 5,027,137 $ 4,887,125 $ 4,694,073 Natural gas 586,144 544,898 472,056 431,202 393,945 361,630 Common 162,322 162,758 157,823 171,639 180,532 205,345 Total $ 6,015,546 $ 5,915,963 $ 5,755,215 $ 5,629,978 $ 5,461,602 $ 5,261,048 Accumulated Depreciation $ 2,093,274 $ 1,933,599 $ 1,791,625 $ 1,642,653 $ 1,541,456 $ 1,427,793 Number of Shareholders of Record Common stock 38g38 45,608 50,576 56,279 58,990 61,183 Preferred stock 1,068 1,211 1,297 1,329 3,632 3,829

ELECTRIC AND NATURAL GAS DELIVERIES S TATISTICS 1996 1995 1994 1993 1992 trhousands)

Electric Deliveries (Megawatt-hours)

Residential 5,267 5,393 5,286 5,399 5,423 5,472 Commercial 3,495 3,430 3,405 3,315 3,298 3,283 Industrial 3,065 2,992 3,010 2,997 2,950 3,082 Other 1,411 1,401 1,392 1,437 1,417 1,457 Total Retail 13,238 13,216 13,093 13,148 13,088 13,294 Wholesale 10,406 7,914 7,636 6,827 6,233 6,003 Total Electric Deliveries 23,644 21,130 20,729 19,975 19,321 19,297 Electric Revenues Residential $ 728,776 $ 744,439 $ 725,299 $ 679,124 $ 635,155 $ 601,042 Commercial 403,480 400,841 395,076 366,854 333,674 314,272 Industrial 243,850 242,792 247,576 245,218 228,215 225,832 Other 157,537 158,377 158,568 153,888 138,320 133,819 Total Retail 1,533,643 1,546,449 1,526,519 1,445,084 1,335,364 1,274,965 Wholesale 232,138 162,232 150,444 141,902 147,175 143,414 Other 26,383 14,466 31,334 13,089 44,823 33,146 Total Electric Revenues $ 'I,792,164 $ 1,723,147 $ 1,708,297 $ 1,600,075 $ 'I,527,362 $ 1,451,525 Natural Gas Deliveries (Oekatherms)

Residential 24,357 25,470 23,512 24,662 25,080 24,913 Commercial 10,178 10,146 10,540 10,611 10,640 10,796 Industrial 2,409 2,726 2,587 2,180 1,820 1,689 Other 2,735 2,230 2,463 2,038 1,805 1,959 Transportation of customer-owned natural gas 19,645 20,970 19,433 19,133 18,701 17,009 Total Retail 59,324 61,542 58,535 58,624 58,046 56,366 Wholesale 3,027 4,056 4,754 Total Natural Gas Deliveries 62,351 65,598 63,289 58,624 58,046 56,366 Natural Gas Revenues Residential $ 190,564 $ 198,338 $ 181,697 $ 185,073 $ 170,734 $ 152,325 Commercial 83,091 83,393 75,178 72,360 66,648 59,939 Industrial 13,044 14,509 11,310 11,542 9,602 8,092

. Other 17,839 15,697 14,584 12,997 10,943 10,762 Transportation of customer-owned natural gas 21,949 17,476 13,718 12,791 12,091 11,639 Total Retail 326,487 329,413 296,487 294,763 270,018 242,757 Wholesale 9,114 10,444 8,771 Other 2,224 4,528 3,673 4,017 2,769 (2,593)

Total Natural Gas Revenues $ 337,825 $ 344,385 $ 308,931 $ 298,780 $ 272,787 $ 240,164

ELECTRIC GENERATION STATISTICS 1996 1995 1994 1993 1992 System Capability (Megawatts) N Coal 2,277 2,236 2,226 2,278 2,394 2,415 Nuclear 207 206 206 189 189 188 Hydro 66 62 61 69 67 70 Internal combustion 7 7 7 7 7 8 Total Generating Capability 2,557 2,511 2,500 2,543 2,657 2,681 Purchased Power-NUGs 551 599 595 594 362 347 Other 594 ~

591 517 514 486 489 Less: Firm sales (625) (607) (118) (367) '311) '8)

Total System Capability 3,077 3,094 3,494 3,284 3,194 3,509 System Capability (Percent)

Coal 74 72 63--- 69 75 69 Nuclear 7 7 6 6 6 5 Hydro 2 2 2 2 2 2 Total Generating Capability 83 81 71 77 83 76 Purchased Power-NUGs 18 20 17 18 12 10 Other 19 19 15 16 15 14 Less: Firm sales (20) (20) (3) (11) (10)

Total System Capability 100 100 100 100 100 100 Megawatt-Hour (mwh) Production, Net (Thousands) 45 Generated R Coal 14,985 14,195 14,296 14,338 15,131 16,709 Nuclear 1,598 1,566 1,306 1,509 1,295 922 Hydro 313 309 240 321 309 301 Total Generated 16,896 16,070 15,842 16,168 16,735 17,932 Purchased Power-NUGs 4,051 4,235 4,413 3,601 2,472 1,260 Other, net 4,156 2,386 2,004 1,714 1,695 1,625 Total 25,103 22,691 22,259 21,483 20,902 20,817 Production Expenses (Thousands)

Generated $ 327,042 $ 322,233 $ 335,706 $ 339,546 $ 371,891 $ 375,209 Purchased Power-NUGs 323,959 319,958 283,913 214,010 137,791 71,260 Other 85,924 40,795 34,527 28,342 24,176 23,766 Total $ 736,925 $ 682,986 $ 654,146 $ 581,898 $ 533,858 $ 470,235

BOARD OF DIRECTORS Richard Aurelio o a director since April 1997, is Senior Advisor to the Chairman and Chief Executive Officer of Time Warner, Inc. and President of NY1 Net, both in New York, New York.

He was President of Time Warner New York City Cable Group from 1989 to 1996. Prior,to that he served as deputy mayor of New York City.

James A. Carrigg o a director since 1983, is a director of Security Mutual Life Insurance Company of New York and a trustee of Dr. G. Clifford & Florence B. Decker Foundation, both in Binghamton, New York. He was Chairman, President and Chief Executive Officer of the corpora-tion from 1991 until September 1996, and was Chairman and Chief Executive Officer of the corpo-ration from 1988 through 1990.

Alison P. Casarett o a director since 1979, is Dean Emeritus at Cornell University in Ithaca, New York. She is Emeritus Professor of Radiation Biology at the New York State College of Veterinary Medicine of Cornell University. She was Special Assistant to the President of Cornell University from 1993 to 1995. Prior to that shc was Dean of The Graduate School at Cornell University.

Joseph J. Castiglia o a director since 1995, is Chairman of the AAA Western and Central New York and the Catholic Health System of Western New York, both in Buffalo, New York. Hc rvas Vice Chairman, President and Chief Executive Officer of Pratt ~% Lambert United, Inc. in Buffalo, New York.

Lois B. DeFleur o a director since 1995, is President of the State University of New York at Binghamton in Binghamton, New York. She is Vice Chairperson of the American Council on Education in Washington, D.C.

0 Cl Everett A. Gllmour o a director since 1980, is Chairmari of the Board of The National Bank and C Trust Company of Norwich and N.B.T. Bancorp, Inc., both in Norwich, New York.

Paul L. Gioia o a director since 1991, is of counsel at LeBoeuf, Lamb, Greene K MacRae, attorneys-0) th at-law in Albany, New York. He was a Senior Vice Prcsidcnt of First Albany Corporation from 1987 0 to 1993. Prior to that he was Chairman of the Public Service Commission of the State of New York.

John M. Keeler o a director since 1989, is Managing Partner of Hinman, Howard & Kattell, attor-neys-at-law in Binghamton, New York. He is Chairman of The Stuart and Willma Hoyt Foundation and a director of the Harriet L. Dickenson Foundation, both in Binghamton, Ncw York.

Allen E. Kintlgh o a director since 1987, is President of Royal Equipment, Inc. in Houston, Texas.

He was President and Chief Operating Officer of the corporation from 1988 through 1990.

Ben E. Lynch o a director since 1987, is President of Winchester Optical Company in Elmira, New York. He was Chairman of the Arnot-Ogden Medical Center in Elmira, New York, and President of Horsehcads Board of Education in Horseheads, New York.

Alton G. Marshall o a director since 1971, is President of Alton G. Marshall Associates, Inc., a real estate investment company in New York, New York. I.Ie is also Governor of The Real Estate Board of New York, Inc. in New York, New York.

Walter G. Rich o a director since April 1997, is President, Chief Executive Officer and a director of Delaware Otsego Corporation in Cooperstown, New York, and its subsidiary, The New York, Susquehanna K Western Railway Corporation. He is a member of the New York State Public Transportation Safety Board, appointed by the Governor.

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BOARD OF DIRECTORS Wesley W. von Schack a director since 1996, is Chairman, President and Chief Executive Officer of the corporation. I-Ie is a director of Mellon Bank Corporation and Mellon Bank, N.A. in Pittsburgh, Pennsylvania; RMI Titanium Company in Niles, Ohio; AEGIS Insurance Services, Inc. in Jersey City, New Jersey; the Business Council of New York State in Albany, New York; and Peconic Land Trust, Inc. on Long Island, New York. He was Chairman, President, Chief Executive Officer and a director of DQE, Inc. and Duquesne Light Company prior to August 1996.

Committees (Chairperson listed first)

Audit: Lynch, Castiglia, DeFleur, Keeler Corporate Developtnent: Gioia, Aurelio, Carrigg, Castiglia, von Schack Corporate Responsibility: Casarett, Keeler, Kintigh, Rich Zvectttive: Carrigg, Gilmour, Gioia, Marshall, von Schack Executive Compensation anrl StIccesslou: Gilmour, Casarett, Lynch, Marshall Nontinntlng: Marshall, Casarett, DeFleur, Gilmour EXECUTIVE OFFICERS Ages and years of service as of January 1, 1998, in parentheses Wesley W. von Schack o (53, 1) Chairman, President and Chief Executive Officer Michael I. German o (47, 3) Executive Vice President Gerald E. Putman ~ (47, 27) Senior Vice President - Economic Development and Public Policy 0 Q.

CC Sherwood J. Rafferty ~ (50, 17) Senior Vice President and Chief Financial Officer 8 C

Jeffrey K. Smith o (49, 27) Senior Vice President - Corporate Development r 0)

Ralph R. Tedesco o (44, 19) Senior Vice President - Customer Service Business Unit 0 UJ V)

Daniel W. Parley ~ (42, 16) Vice President and Secretary z Gary L. Slckles ~ (48, 23) Vice President - Generation Gary J. Turton o (50, 25) Vice President and Controller Denls E. Wlckham o (48, 25) Vice President - Electric Resource Planning Rodert D. Kump o (36, 11) Treasurer XENERGY, Ixc.

Kellogg L. Warner o (42, 9) President and Chief Executive Officer, and President of NGE Enterprises, Inc.

Jack H. Roskoz o (59, 35) Executive Vice President, retired January 1, 1998. His valuable contributions to the company are sincerely appreciated.

SHAREHOLDER INFORMATION Shareholder Services o Shareholder Services representatives are available between 8 a.m.

and 4:30 p.m. (Eastern Time) on regular business days at 1-800-225-5643. Or you may write to:

New York State Electric 8c Gas Corporation Attention: Shareholder Services P.O. Box 3200 Ithaca, NY 14852-3200 Please contact NYSEG Shareholder Services with questions regarding:

~ our dividend reinvestment and stock purchase plan

~ dividend payments or lost dividend checks

~ direct deposit of dividends o replacement of lost certificates o a change of address o annual report requests o our annual meeting of shareholders The Shareholder Connection o 1-800-226-5643 NYSEG investor information is at your fingertips.

This service provides quick access to the common stock closing price as well as timely dividend and news release information 24 hours2.777778e-4 days <br />0.00667 hours <br />3.968254e-5 weeks <br />9.132e-6 months <br /> a day, seven days a week.

Transfer Agent and Registrar o To present certificates for transfer (certified or registered mail is recommended) or for stock transfer instructions, write to:

ChaseMellon Shareholder Services Customer Service P.O. I3ox 590 Ridgefield Park, NJ 07660 Internet Address ~ http: //www.nyseg.corn NYSEG information, including financial documents and news releases, is available at our Web site.

Shareholders may also obtain a free copy of Form 10-K, which is filed each year with the Securities and Exchange Commission, by contacting Shareholder Services at the telephone number or address above.

Trading Symbol o NGE is the trading symbol for NYSEG common stock listed on the New York Stock Exchange.

Annual Meeting ~ Formal notices of the meeting, a proxy statement and form of proxy will be mailed to shareholders in March.

O'lectric 0 Natural Gas 0 Electric Sc Natural Gas

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Qp BULK RATE U.S. POSTAGE PAID New York State Electric & Gas Corporation New York State Electric & Gas Corporation Ithaca-Dryden Road P.O. Box 3287 Ithaca, NY 14852-3287 http:I/www.nyseg.corn I G IT 13746 IIItIIIIIIIIItIIIIIIIIS-D ('b ARY K HCGLON E COST SIF'55PNh '('B(4(it CHENANGO FORK S NY 13746 l(((ll((ll(l(((l(l((l(ll((l(l((l New York State Electric & Gas Corporation is an equal opportunity employer.

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