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Rating Action:

MOODY'S DOWNGRADES RATINGS OF PEPCO HOLDINGS, INC. (TO Baa2 SR.UNSEC.); POTOMAC ELECRIC (TO A3 SR.SEC.); DELMARVA P&L (TO A3 SR.SEC.); POTOMAC CAPITAL INVESTMENT (TO Baa2 SR. UNSEC.); CONECTIV (TO Baa2 SR. UNSEC.) AND ATLANTIC CITY ELEC. (TO A3 SR.SEC.)

07 Nov 2003

approximately $7 Billion of Securities Affected

New York, November 07, 2003 -- Moody's downgraded the ratings of Pepco Holdings, Inc. and its subsidiaries Potomac Electric Power Company, Potomac Capital Investment Corp., Delmarva Power and Light Company, Atlantic City Electric Company, and Conectiv. The rating outlook is stable for Conectiv, Atlantic City Electric, and Delmarva Power. The rating outlook is negative for Pepco Holdings, Potomac Electric Power, and Potomac Capital Investment Corp. The rating action concludes a review initiated on July 17, 2003.

Ratings downgraded include the following:

Pepco Holdings, Inc.'s senior unsecured debt to Baa2 from Baa1.

Potomac Electric Power Company's senior secured debt to A3 from A1; senior unsecured debt to Baa1 from A2; preferred securities to Baa3 from Baa1; and its short-term rating for commercial paper to Prime-2 from Prime-1.

Potomac Electric Power Company Trust I's preferred securities to Baa3 from Baa1.

Potomac Capital Investment Corp.'s senior unsecured debt to Baa2 from Baa1.

Atlantic City Electric Company's senior secured debt to A3 from A2; senior unsecured debt to Baa1 from A3; preferred stock to Baa3 from Baa2; and short-term rating for commercial paper to Prime-2 from Prime-1.

Atlantic Capital II's preferred securities to Baa2 from Baa1.

Delmarva Power and Light Company's senior secured debt to A3 from A2; secured pollution control bonds to A3/VMIG 2 from A2/VMIG 1; senior unsecured debt to Baa1 from A3; preferred stock to Baa3 from Baa2; and its short-term rating for commercial paper to Prime-2 from Prime-1.

Delmarva Power Financing I's preferred securities to Baa2 from Baa1.

Conectiv's senior unsecured debt to Baa2 from Baa1.

Rating confirmed include the following:

Pepco Holdings, Inc.'s Prime-2 rating for commercial paper.

Moody's has lowered Pepco Holdings' debt ratings due to weaker than anticipated financial performance, expected additional pressure on the company's credit metrics as a result of various rate freezes at the company's subsidiaries, and the relatively slow pace of the company's delevering strategy. The negative rating outlook for Pepco Holdings reflects the uncertainty surrounding Mirant's attempt to reject its back-to-back purchased power agreements (PPAs) with Potomac Electric, under Mirant's bankruptcy proceeding. If Mirant is successful, there would be a substantial negative impact on the consolidated entity's profitability and cash flow.

We note that consolidated debt continues to be reduced, albeit at a slower than expected pace, with cash proceeds from the sale of real estate and securities portfolio at Potomac Capital Investment and cash proceeds from Atlantic City Electric's planned securitization financings. However, the debt reduction benefit is partially offset by the fact that these activities also entail the loss of assets and cash flow that formerly supported the company's debt.

The downgrade of Potomac Electric reflects cash flow coverages that are more consistent with the lower rating category, the negative effect of recently renegotiated terms and conditions associated with the transition power agreements (TPAs) with Mirant. Under the settlement agreement with Mirant for the TPAs, Potomac Electric will be paying an average of $40 per megawatt-hour from an average of $34 per mwh, while it collects $41 per mwh (unchanged) from its customers under its Standard Offer Service tariff. Under the renegotiated terms and conditions of the settlement, the company estimated that it would lose approximately $60 million in pre-tax margin over the remaining contract period of the TPAs. The contract period expires on June 30, 2004 in Maryland and February 7, 2005 in the District of Columbia. As an additional item to the settlement, the parties agreed that Potomac Electric will have an allowed, pre-petition unsecured bankruptcy claim of $105 million. Potomac Electric's ability to recover damages from the Mirant bankruptcy estate would depend on the ultimate recovery rate for unsecured creditors. Any amount recovered would be shared with customers under the previously established Generation Procurement Credit formula contained in the restructuring rate agreements in Maryland and the District of Columbia. The TPA settlement agreement requires the approval of the bankruptcy court, which the company expects will occur before year end.

The negative outlook for Potomac Electric reflects the risk of substantial loss of margin if Mirant is successful in its attempt to reject its PPAs with Potomac Electric. Based upon the regulatory review of the Mirant contracts at the time these were entered into, and regulatory precedents in its service territory, the company may be able obtain regulatory support for recovery through its distribution rates if the contracts are rejected. However, this process could be quite lengthy, and there is no assurance that the company could recover the full amount of any economic loss. Under the back-to-back PPAs, Potomac Electric buys power from third parties at above-market prices and sells it to Mirant for the same price. Under Potomac Electric's restructuring rate agreements with the Maryland Public Service Commission and the District of Columbia Public Service Commission, there is a provision that would allow Potomac Electric to recover the stranded costs associated with the PPAs from its customers if the generation asset sale did not include the transfer of the PPAs to the buyer.

On October 15th, the Northern Texas Federal District Court asserted that Mirant's motion for rejection of the PPAs should be removed from the bankruptcy court, and should instead be adjucated at the Federal District Court level. As ordered by the Federal District Court, Potomac Electric filed briefs on the matter on October 30, 2003 and Mirant filed reply briefs on November 6. The Federal Energy Regulatory Commission also filed its brief. A court hearing is unlikely to occur until 2004, and final resolution of the matter could be a prolonged process.

The downgrade of Potomac Capital Investment's (PCI) debt rating reflects the downgrade of Pepco Holdings. PCI's debt obligations are unconditionally guaranteed by Pepco Holdings. The negative outlook mirrors the negative outlook at Pepco Holdings.

The downgrade of Delmarva Power's ratings reflects expected cash flow erosion due to its current rate cap, which extends through 2006, as well as an expected modest increase in leverage. The stable outlook reflects the company's lower business risk as a regulated transmission and distribution utility and the hedging of price and volume risk associated with its provider of last resort obligations. Delmarva Power's Standard Offer Service obligations are being supplied by Conectiv Energy through 2006.

Moody's notes that Pepco Holdings' family of companies is interrelated and operates as an integrated system. This interrelationship includes operating transactions and contracts between some affiliates, tax sharing agreements that entail substantial benefit to some entities, and movement of funds under a money pool arrangement. In addition, Pepco Holdings, Potomac Electric, Atlantic City Electric and Delmarva Power all share the same bank credit facilities.

The downgrade of Atlantic City Electric (ACE) reflects the interrelationship with its T&D affiliates, and the expectation that the parent will continue to extract a relatively high dividend to meet its own needs. However, the stable rating outlook for ACE reflects the company's ability to maintain relatively predictable and steady financial performance as a regulated utility over the next several years. We note that ACE has recently received several favorable regulatory decisions, which will enable the company to strengthen its financial performance in the intermediate term. Approvals from the New Jersey Board of Public Utilities include the securitization of $440 million of stranded costs at the end of 2002 and the recent authorization for ACE to recover $125 million in deferred fuel and purchased power costs associated with non-utility generation contracts, as well as permission for ACE to issue $155 million in securitization debt for its stranded investment in December 2003, and ACE anticipates that it will receive regulatory approval to issue an additional $110 million in 2004. Proceeds from the securitization financings will be used to pay down debt. ACE's "all requirements" or provider of last resort obligations are under one-year to three-year contracts recently completed under the New Jersey Basic Generation Service auction.

The downgrade of Conectiv's rating reflects the downgrades of its principal subsidiaries, Atlantic City Electric and Delmarva Power. The stable rating outlook for Conectiv recognizes the relatively stable financial performance expected on a consolidated basis, with significant cash flow and earnings from the regulated delivery business of Atlantic City Electric and Delmarva Power. Expansionary capital spending by Conectiv Energy, Conectiv's non-regulated generation subsidiary, has resulted in substantially negative free cash flow in 2001, 2002, and 2003. However, capital expenditures will be significantly reduced to approximately $20 million per year from 2004 through 2006, which should result in a better balance between retained cash flow and capital spending.

Pepco Holdings, Inc., a diversified holding company, is headquartered in Washington, D. C. Pepco Holdings, Inc. is the parent holding company of Potomac Electric Power Company (a regulated transmission and distribution utility), Potomac Capital Investment Corporation (a non-regulated finance company whose debt is unconditionally guaranteed by Pepco Holdings), and Conectiv (intermediate holding company of Atlantic City Electric Company and Delmarva Power and Light Company). Atlantic City Electric is a regulated transmission and distribution utility and Delmarva Power and Light is a regulated transmission and distribution utility.

New York
Daniel Gates
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Mo Ying W. Seto
Senior Vice President
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

MOODY'S DOWNGRADES RATINGS OF PEPCO HOLDINGS, INC. (TO Baa2 SR.UNSEC.); POTOMAC ELECRIC (TO A3 SR.SEC.); DELMARVA P&L (TO A3 SR.SEC.); POTOMAC CAPITAL INVESTMENT (TO Baa2 SR. UNSEC.); CONECTIV (TO Baa2 SR. UNSEC.) AND ATLANTIC CITY ELEC. (TO A3 SR.SEC.)
No Related Data.
© 2020 Moody's Corporation, Moody's Investors Service, Inc., Moody's Analytics, Inc. and/or their licensors and affiliates (collectively, "MOODY'S"). All rights reserved.

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