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Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 1998, for Public Service Enterprise Group Incorporated (Enterprise) and its primary subsidiary, Public Service Electric and Gas Company (PSE&G). Enterprise is a public utility holding company with no operations of its own, deriving earnings from PSE&G (regulated utility) and Enterprise Diversified Holdings Incorporated (EDHI) (non-utility investments). The filing highlights significant regulatory changes in New Jersey, including the elimination of the Gross Receipts and Franchise Tax (NJGRT) and the introduction of a new Corporate Business Tax and Transitional Energy Facility Assessment (TEFA).

Key Financial Metrics

Material Changes vs. Prior Period

• Earnings Growth: Enterprise Net Income increased 36% ($51 million) and EPS increased 37% ($0.22) compared to Q1 1997. This growth was primarily driven by a one-time $53 million charge in Q1 1997 related to the settlement of Salem litigation, which did not recur in 1998.
• Revenue Mix: Electric revenues rose 23% ($217 million) due to increased energy trading activity and higher sales to large industrial customers. Conversely, Gas revenues fell 17% ($122 million) due to milder winter weather and lower fuel cost recovery.
• Expense Fluctuations: Fuel expenses for electric generation surged 96% ($238 million) due to energy trading volume. However, the Levelized Energy Adjustment Clause (LEAC) mechanism largely offsets these variances in earnings.
• Tax Reform Impact: The transition from NJGRT to the new tax structure reduced the "Transitional Energy Facility Assessment/New Jersey Gross Receipts Taxes" line item by 72% ($123 million). While this reduced reported expenses, it also reduced reported revenues as the tax is no longer collected as part of utility revenue.
• Non-Utility Performance: EDHI earnings increased $32 million, driven by Public Service Resources Corporation (PSRC) gains from leveraged buyout investments and a leveraged lease buyout.

Guidance, Outlook, Risks, and Contingencies

• Regulatory Uncertainty (Energy Master Plan): The New Jersey Board of Public Utilities (BPU) is reviewing proposals for electric restructuring, including retail competition and potential separation of generation assets. Hearings are ongoing, with a decision expected in Q3 1998. The outcome could materially affect financial condition and operations.
• Rate Proceedings: PSE&G is litigating the final outcome of the Levelized Gas Adjustment Clause (LGAC) and has received approval for a partial increase in the Demand Side Adjustment Factor (DSAF) to recover conservation costs.
• Nuclear Operations: Salem Unit 1 returned to service on April 17, 1998. An Operating Performance Standard (OPS) agreement requires payments to co-owners if capacity factors fall below 40% starting in 2001. Peach Bottom Unit 3 was shut down in March 1998 for repairs but has returned to full power.
• Year 2000 Compliance: Management estimates total costs of $92 million (1997-2001), with $41 million expected in 1998. Failure to meet deadlines could materially impact operations.
• Environmental Liabilities: PSE&G is engaged in a long-term remediation program for former manufactured gas plant sites. Costs are estimated at approximately $20 million per year over 30 years, which could be material to financial condition.
• Liquidity: Enterprise maintains a 48% common equity capital structure. PSE&G expects to internally generate capital requirements for the next five years, subject to timely cost recovery.

Investor Verification Checklist

• Regulatory Outcomes: Monitor the BPU's final decision on the Energy Master Plan and its impact on stranded costs and generation asset sales.
• Rate Recovery: Verify the final approval of the LGAC and DSAF rate adjustments to ensure full recovery of underrecovered fuel and conservation costs.
• Nuclear Performance: Track the capacity factors of Salem and Peach Bottom units to assess potential future liabilities under the Operating Performance Standard.
• Year 2000 Costs: Confirm that actual Year 2000 remediation costs align with the $92 million estimate and do not result in operational disruptions.
• Non-Utility Valuation: Review the performance of EDHI's leveraged buyout and venture capital portfolio, which drove a significant portion of the earnings increase.