Jim:
It was a pleasure speaking with you on Wednesday.  Based on our conversation, 
this email includes the following:

An Enron contact to discuss developing small-scale generation on Tribal lands.

Our views on the impediments to distributed generation and suggestions on how 
to remove those impediments.

A description of the credit issues that continue to impede DWR,s ability to 
sign contracts with power suppliers, and options to resolve them. Two 
possible options for addressing the credit issue are 1) a California PUC 
order clarifying that DWR will recover its power purchase costs through 
rates, and 2) an amendment to AB1X designed to accomplish the same goal.  I 
have attached talking points regarding the California PUC order and proposed 
amendments to AB1X.  We believe that an amendment to AB1X is the preferable 
option.

Our assessment of the supply/demand picture in California.

Our suggestions for a legislative package designed to solve both the near- 
and long-term electricity crisis in California.  We will deliver to your 
office today detailed legislative language.  In those materials we will also 
identify existing bills that we believe can easily accommodate our proposed 
language.

I hope that the information is useful.  Please do not hesitate to contact me 
if you would like to discuss these materials further, or if there is anything 
else that I can do to assist you.

Regards,
Ken Lay



Contact Information to Discuss Interest Expressed by Native American Tribes 
in Installing Small-scale Generation on Tribal Lands

David Parquet, Vice-President
Enron North America
101 California Street, Suite 1950
San Francisco, CA 94111
Phone: 415.782.7820
Fax: 415.782.7851


2. Key Barriers to Distributed Generation

Excessive and Unnecessary Utility Stand-by Charges

Solution: The executive orders issued by the Governor on February 14th took a 
step in the right direction.  Utility stand-by charges have always been 
designed by the utilities to protect their monopoly position, extract 
monopoly prices from customers, or both.  But there is no reason to limit the 
elimination of these charges to generation facilities that are less than 
1MW.  These limits will only lengthen unnecessarily the time it takes for 
California to close the significant gap between supply and demand and reduce 
the risk of black outs this summer.  We would propose lifting the cap by 
offering amendments to SB27X, which is designed to facilitate development of 
distributed generation.
 
Excessive delays and costs related to interconnecting facilities with 
investor-owned and municipal utilities

Solution:   The Governor,s executive order regarding interconnection is a 
step in the right direction*D-D-26-01 requires utilities to complete 
interconnection studies within 7 days.  California should ensure that this 
requirement applies to all generation facilities, including distributed 
generation.  In addition, the financial conflicts the utilities face when 
interconnecting generation facilities are simply too powerful to overcome 
through executive orders or other regulations.  To the greatest extent 
possible, California should shift control over interconnection away from the 
utility and place that control with the California ISO.  This could be 
accomplished through amendments to SB 27X.

Permitting and Air Quality Issues
Developers of distributed (i.e., &on-site8) generation that is 50 MWs or 
greater must receive certification from the California Energy Commission and 
therefore face all of the impediments to development that large-scale 
generation faces.  

Solution: California should ensure that the executive orders (D-22-01 thru 
D-26-01) issued by the Governor to expedite plant siting and maximize plant 
output apply equally to smaller scale, &distributed generation8 facilities. 
In addition, distributed generation that is less than 50 MWs continues to 
face local opposition.  The State should ensure that local, parochial 
interests cannot block otherwise beneficial distributed generation projects.  
These objectives could be accomplished through amendments to SB27X.

3. Credit Concerns Regarding Authority Granted to DWR in AB1X to Purchase 
Electricity on Behalf of the Utilities 

Enron responded to the RFP issued by DWR to enter into power contracts with 
suppliers.
Enron is in active discussions with DWR to establish contract terms with the 
goal of entering into a power purchase agreement as soon as possible.
However, ambiguities contained in AB1X have created significant credit risk 
concerns that need to be resolved in order to finalize contract terms.
We understand that the lion,s share of counterparties share Enron,s credit 
risk concerns.
Enron has proposed several options for resolving the credit risk issues and 
is working with DWR to arrive at a solution that is mutually agreeable to 
both sides and that might serve as a template for power purchase agreements 
going forward.

Summary of the Source of the Credit Risk Issue

Ambiguous Ratemaking Authority
The language in AB1X is ambiguous as to whether DWR has any authority to 
charge California ratepayers for the costs of purchasing power.  From our 
analysis of the bill, the language in AB1X appears to leave intact the 
California PUC,s exclusive jurisdiction over ratemaking in California.  As 
such, suppliers have no assurance that the PUC will agree to include in rates 
adequate charges to cover DWR,s costs of power purchases.

Ambiguous Regulatory Authority Regarding Contract &Prudence8
The language in AB1X leaves open the possibility that the California Public 
Utilities Commission could determine that power purchases made by DWR are 
&imprudent.8  On the basis of such a finding, the CPUC could then refuse to 
allow DWR to collect from ratepayers the costs associated with its power 
purchases.  Consequently, suppliers have no assurance that the PUC will agree 
to include in rates the charges to cover the costs of power contracts that 
DWR has entered into with suppliers.
 
Ambiguous Language Regarding the Ratemaking Mechanism that Will Be Used to 
Recover DWR,s Costs of Power Purchases
In addition to the ambiguity regarding ratemaking and regulatory authority 
noted above, the language in the bill is equally ambiguous with respect to 
the specific ratemaking &mechanics8 that AB1X directs the PUC to employ to 
permit DWR to recover its power purchase costs. Based on our analysis, it is 
extremely difficult to determine how the PUC would design the rates to ensure 
DWR recovers its power purchase costs.  Moreover, as currently drafted, it is 
difficult to determine whether AB1X would even permit the PUC to include in 
rates all of the charges necessary to fully recover DWR,s power purchase 
costs.  Again, this ambiguity raises significant credit risk concerns since 
suppliers have little assurance that DWR will have the ability to recover 
from ratepayers the costs of purchasing power.

Options to Resolve Concerns Regarding Credit Risk 

We have been working diligently with DWR officials to resolve the credit risk 
issues.  We have identified three options:

Amend AB1X
The amendments, which are attached to this email, would clarify that a) the 
PUC would accept as &prudent and reasonable8 all purchase costs incurred by 
DWR, and b) the PUC is obligated to include in rates the charges necessary to 
ensure that DWR fully recovers its costs of power purchases.  This is the 
preferred option, though we understand that the there may be some political 
challenges standing in the way of amending AB1X.  (See attached file 
entitled, &AmendAB1X.doc8.)

Clarify the Ambiguities in AB1X through an Order Issued by the PUC, and 
through Contract Language
This is the option that we are currently working with DWR officials to 
implement.  However, it is more complicated and could take significantly more 
time to implement than the "legislative" fix.  We have attached electronic 
copies of the talking points related to the order that the California PUC 
would need to issue under this option.  (See attached file entitled, 
&cpuctalkingpoints.doc.8)

Make Use of Other Instruments Designed to Address Credit Risk
As indicated in our letter responding to DWR,s RFP, we are willing to accept 
other forms of credit from DWR.  Those options include a letter of credit, 
cash prepayment, or an acceptable form of collateral.  DWR officials have 
indicated to us that DWR prefers to pursue the second options. That is, DWR 
prefers to clarify the ambiguities in AB1X through a PUC order and through 
contract amendments.

4. California,s Supply-demand Picture Heading into Summer 2001

Both the California Energy Commission and Cambridge Energy Research 
Associates (CERA), a private sector energy think tank, have issued reports 
showing that California faces a severe supply-demand imbalance.  They differ 
only on how much and how soon additional supply will be made available.  All 
credible sources agree that supply will be very tight throughout the Summer 
of 2001 and that unless a solution is found immediately, blackouts are 
likely.  

CEC and CERA both forecast that California will be short of supply this 
summer by approximately 5,000 MW.   These numbers are in line with our 
estimates.  California,s supply base currently has a 6% capacity margin, well 
below the average 15-20%, which is recommended for reliable system operation 
in the West.  Since the West relies more heavily upon hydroelectric power 
than other regions, reserves are particularly important, owing to the 
unpredictability of the weather and the dry year the West has experienced to 
date. In the event of a low rain and snow period, the system must possess the 
flexibility to respond to the reduced availability of power supply.  
California,s very low reserve margin makes it especially susceptible to this 
requirement.  

Other reasons for reduced supply for the Summer of 2001 include the early 
draw-down of reservoirs in the continual effort to manage California's severe 
supply-demand gap; emissions restrictions on existing plants; and a reduced 
number of customers who can be curtailed under their contracts with the 
utilities.  Cambridge Energy Research Associates asserts that at the current 
pace of siting, permitting and construction, adequate supplies will not be 
added to correct the market imbalance until 2003 at the earliest.

CERA predicts that California is likely to face approximately 20 hours of 
rolling black outs this summer.  The CEC paints a considerably more 
optimistic scenario, betting that California will bring an additional 5,000 
MWs on line to meet peaking summer demand.  It is our view that California 
should view the CEC's "rosy scenario" with considerable skepticism.

5. Suggested Package of Legislative Proposals Designed to Solve California,s 
Electricity Crisis

This email offers an overview of our proposed legislative solution.  We will 
deliver to your office tomorrow specific legislative language and existing 
bills that we believe can accommodate our proposals.

As we have suggested throughout the crisis, any solution to California's 
crisis must focus on four issues:

Increase supply
Decrease demand
Establish a truly competitive retail electricity market
Return California,s Investor-owned utilities to solvency

Increase supply--Legislative vehicle: SB28X (Sher)
To site and construct a power plant in Texas takes approximately 2 years.  
Enron and others have completed the entire process in other states in less 
than a year.  In California, it takes about six years, or longer.

The Governor,s executive orders and Senator Sher,s siting reform legislation 
are steps in the right direction.  Our suggested amendments can improve those 
efforts by further addressing the difficulties that project developers face 
in securing air emission reduction credits to meet the air permit 
requirements included in the CEC's certification requirements.  Enron,s 
proposal seeks to streamline the process for 1) obtaining credits and 2) 
transfering credits between air districts.  In addition, it creates an 
innovative emissions reduction bank to allow project sponsors to fund 
emissions in advance of obtaining certification, and permits the affected air 
districts to use those funds to finance projects that will produce the 
required reductions in pollution emissions.

Decrease demand*Legislative Vehicle:   AB31X (Wright)
Because of the delay in getting a solution in place in California, closing 
the supply-demand gap through energy conservation and efficiency offers the 
best chance of avoiding blackouts this summer.  This can be accomplished most 
effectively and quickly in two ways:

Buy-down demand
California is tapping into an enormous amount of money from the General Fund 
to finance DWR,s power purchases.  California could likely reduce demand more 
economically by running an auction to determine the payments businesses would 
be willing to receive to reduce their demand for a sustained period (e.g., 
through the summer months).  DWR could easily run an on-line auction to 
determine the price it could pay for these demand reductions.  To 
participate, businesses would be required to have the metering equipment 
necessary to monitor and verify that they are actually achieving the 
reductions.  Enron has developed an on-line auction software package, &Deal 
Bench,8 that it would be willing to contribute to the effort.

Use Price Signals to Incent Voluntary Curtailment
To be successful, customers need access to the following key elements:

An internet based hour-ahead price posting system to track the market price 
for hour-ahead power in real time. 
Real-time metering systems for baseline demand and voluntarily curtailment 
verification.
Settlement process that allows for market clearing prices of energy to be 
paid for load reduction (&Negawatts8).

The potential benefits of an effective demand response program would include:

&creation8 of additional summer peaking capacity in California, particularly 
in the short term, without requiring construction of additional generation 
resources.
reduction of  peak or super-peak load on the over-stressed California 
electric system, thus potentially reducing the overall cost of electricity in 
the state.
fostering of demand elasticity without subjecting customers to the full risk 
of hourly market price volatility by passing market price signals to 
customers and allowing them to voluntarily shed load and be compensated for 
responding. 

We estimate that we could generate a summer 2001 on-peak demand response in 
excess of 400 MW during certain high cost hours, and a demand response for 
summer 2002 on-peak hours that could exceed 1000 MW.  We further estimate 
that the market response to this program from all ESPs could be 2 to 3 times 
that amount.  We recommend that the State of California provide rebates 
directly to customers to fund the installation of advanced metering and 
control systems that would support load curtailment implementation.

Establish a truly competitive retail electricity market*Legislative vehicle: 
SB27X
The only customers who were protected from price volatility in San Diego were 
customers who chose Direct Access and signed fixed price deals with energy 
service providers.  Ironically, AB1X takes that important option away from 
customers and businesses.  It is critical that AB1X be amended to remove the 
prohibition against Direct Access.

Enron's legislative proposal would give customers freedom to enter into a 
direct access transaction, while simultaneously addressing the Department of 
Water Resources' concerns about stranded power costs that might result from 
customer migration.  

In addition, California will only achieve a competitive retail market when 
the utility is removed completely from the procurement function.  Procurement 
is not a utility core competency, as evidenced by the dire financial 
condition in which the utilities now find themselves.  California should 
therefore begin immediately to phase the utility out of the procurement 
function entirely, with the goal of having all customers served by a 
non-utility provider within 36 months.  To execute the transition, California 
should hold a series of competitive solicitations over the 36-month period in 
which competing service providers would bid for the right to serve segments 
of utility load.

Return California,s Investor-owned utilities to solvency*Legislative vehicle: 
AB18X
Utility bankruptcy will not increase supply and it will not decrease demand.  
In short, bankruptcy does nothing to solve California,s supply-demand 
imbalance.  In addition, bankruptcy increases the likelihood that consumers 
and businesses will bear the significant financial risks of having California 
State government assume the role of &electricity buyer8 for an extended 
period of time.  Finally, bankruptcy will undermine both investor confidence 
in California's energy markets and the private sector's willingness to 
participate in that market.

California can return the utilities to financial solvency by implementing a 
series of staged rate increases.  California should design those rate 
increases with the dual goal of returning the utilities to solvency without 
&shocking8 the economy or household budgets For example, California could 
amortize the recovery of the utilities, past debt over a 5-10 year period.  
In addition, the magnitude of the rate increase can be reduced in two ways: 
First, the utilities could absorb some portion of their existing debt in 
recognition of the risk they accepted when they agreed to the structure of AB 
1890.  Second, California can &net8 the revenues the utilities have received 
from selling electricity into the Power Exchange against the debts they have 
accrued due to the retail price cap.