Chapter 11-mired Mirant and Pepco Holdings Inc. (PHI) last week said that they have reached a settlement agreement to restructure two power purchase agreements under review for potential rejection as part of Mirant’s bankruptcy case. Mirant’s challenge of another agreement under which the bankrupt generator buys power from Pepco remains in play.

The terms of settlement provide for additional value to Mirant in the form of higher energy prices, and will have no effect on rates paid by Pepco’s standard offer service customers in Maryland and the District of Columbia, PHI said.

Mirant and Pepco entered negotiations to restructure the power purchase agreements several weeks ago in an effort to avoid the possible rejection of the contracts through Mirant’s bankruptcy process.

Mirant supplies Pepco, a PHI subsidiary, with electricity for its standard offer service customers in Maryland and the District of Columbia. The agreement to supply Pepco’s Maryland obligations expires in June 2004, while the agreement to supply Pepco’s Washington, D.C., customers expires in January 2005.

In a filing made at the Securities and Exchange Commission, Pepco said that the two agreements will be amended to increase the purchase price of the energy. Effective Oct. 1, 2003, the energy payment prices would increase to $41.90/MWh during summer months (May 1 through September 30) and $31.70/MWh during winter months (October 1 through April 30) in the District of Columbia and $46.40/MWh during summer months and $28.60/MWh during winter months in Maryland.

These revisions will result in an increase in the average purchase price from approximately 3.4 cents per kWh to an average purchase price of approximately 4 cents per kWh. The revenues produced by the currently approved tariff rates that Pepco charges its customers for providing standard offer service average approximately 4.1 cents per kWh.

The settlement agreement, if approved by the bankruptcy court, will eliminate the price risk that Pepco would have incurred had the two agreements been rejected. Pepco previously estimated that as of Sept. 1, 2003, the additional cost to Pepco to replace the energy and capacity under the agreements at then-current prices would total approximately $150 million for the balance of 2003 through the terms of the respective agreements, reflecting the benefit to Pepco of the agreements. Pepco estimates that under the amended agreements, the additional cost of energy to Pepco will be approximately $60 million.

As an additional element of the settlement agreement, Pepco will have an allowed, pre-petition general unsecured claim of $105 million. The ability of Pepco to recover damages from the Mirant bankruptcy estate in respect of the Pepco claim would depend on the amount of assets available for distribution to creditors and other factors. At the current stage of the bankruptcy proceeding, there is insufficient information to make a prediction regarding the amount, if any, that Pepco might be able to recover from the Mirant bankruptcy estate. Any recovery would be subject to a generation procurement credit formula and shared with customers pursuant to regulatory settlements.

The effectiveness of the settlement agreement is contingent upon court approval of the deal and the Pepco claim. In addition, Pepco has the right to terminate the settlement agreement at any time prior to Nov. 7, 2003, if it believes that either the Public Service Commission of Maryland or the Public Service Commission of the District of Columbia opposes the transactions contemplated by the settlement.

“This agreement is in the best interests of Pepco’s customers because it continues to ensure a reliable supply of electricity at no increase in prices to our standard offer service customers,” said Andrew W. Williams, chief financial officer for Pepco Holdings. “And it is beneficial to PHI shareholders because it removes uncertainty as to the price Pepco will pay for electricity supply, and it provides an opportunity to recover the value of the original contract through the bankruptcy proceeding.”

“We view the proposed agreement as a significant, positive step for Mirant as it works through its bankruptcy proceeding,” said Lisa D. Johnson, president, Mirant’s Mid-Atlantic operations. “The agreement provides additional value to Mirant over and above the existing power supply contracts with Pepco, while preserving the relationship with a key customer.”

Meanwhile, Mirant in late August filed a motion with the U.S. Bankruptcy Court to reject an out-of-market agreement to purchase power from Pepco. This agreement calls for Mirant to purchase power from Pepco at prices that are “significantly out-of-line with market prices for power, requiring Mirant to pay substantially more than market rates,” Mirant has said.

Mirant forecasts it would cost the company and its stakeholders “hundreds of millions of dollars” over the duration if this agreement if it were to remain in effect. The obligations under this agreement will run out over time and end in 2021.

PHI spokesperson Bob Dobkin told NGI that Mirant’s challenge of this agreement is not affected by the settlement announced on Monday. Dobkin said that a district court in Texas has scheduled an Oct. 30 hearing related to the challenged agreement.

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