3. SCE's Response to the October 1, 2002 Ruling

We are addressing SCE's response in its entirety since it includes a wealth of information with regard to this application and to utility financing in general. The following is SCE's detailed response to our questions as well as our seven questions:

1. Other Decisions Where SCE Requested and Received an Exemption from the Competitive Bidding Rule

SCE has received an exemption from the Competitive Bidding Rule in each if its existing financing authorization decisions where it has been requested. Thus, D.98-02-104, D.00-10-063 and D.88-07-069 include exemptions for issues of variable rate debt securities, overseas indebtedness, foreign currency denominated securities, medium term notes, commercial paper, preferred securities, tax exempt securities and for obtaining loans. The exemptions have been granted in recognition that these types of debt issues do not lend themselves to competitive bidding. SCE also received an exemption from competitive bidding in D.02-01-061, which financed PROACT.

What SCE did not seek in the above decisions was an exemption for fixed rate bonds, intermediate and long-term notes and debentures (other than tax exempt securities) sold publicly in the domestic market. This additional component, domestic underwritten public offerings of fixed interest rate bonds and debentures exceeding $200 million in principal amount, forms the basis for SCE's present request for expanded competitive bidding relief.

2. The Competitive Bid Process vs. a Negotiated Offering Process

In a competitive bidding process, an issuer, usually after consulting with one or more investment banks, determines the amount, structure and timing of the debt offering. The issuer invites two or more lead managers to bid on the transaction. In turn, the lead managers form underwriting syndicates consisting of other investment and commercial banks, and possibly other financial institutions. There is no premarketing of the securities. At a specified time and date (determined by the issuer), the lead managers submit their bids to the issuer. The issuer awards the deal to the lowest bidder, although it retains the ability to reject all bids.

The competitive bidding process is fundamentally designed for highly rated, well-known issuers who do not require any pre-sale meetings or discussions with potential investors. These issuers are frequently in the market and the investment community knows and is comfortable with their credit profiles, performance and outlook. Investor confidence in the issuer, and consequently the debt issue itself, is essential to obtaining successful and cost-effective financing. Furthermore, the issue must be small enough to be fully sold to investors in a short period of time.

In contrast, under a negotiated offering, an issuer selects one or more underwriters for a debt offering. Usually, a lead manager is appointed with others possibly sharing or being given various roles in the transaction (e.g. co-book, co-lead, or senior underwriter). The underwriting group will advise the issuer as to the appropriate structure, timing, and amount of the proposed transaction, given the issuer's credit story and current market conditions.

If necessary, the lead underwriter will arrange and schedule investor presentations in strategic locations across the country and possibly internationally. These meetings are attended by prospective investors and analysts, and involve presentations by company executives and investment bankers. Online or video investor conferences may also be used to educate inventors.

After the investor presentations, an order period is initiated whereby the investment banks solicit purchase orders from investors. This period is critical in identifying investor demand at different pricing levels and therefore in setting the final price or rate on the securities. This type of market intelligence cannot be obtained through a competitive bid process.

In a negotiated offering, final pricing is determined based upon investor demand for the bonds, and is based on the lowest possible rate that will achieve the necessary transaction size. Underwriting fees for negotiated capital market transactions are generally determined according to an industry-wide standard, which is based upon the debt's maturity.

Negotiated transactions are the most commonly means used for issuing securities. They are necessary when there are potential investor concerns about the issuer and/or the financing, including such matters as credit quality, and unresolved or uncertain legislative, judicial or regulatory issues affecting the issuer. In these types of situations, the investor presentations described above are commonly conducted to perform additional marketing and solicit investor interest in the debt offering.

SCE explains that being non-creditworthy effectively eliminates the competitive bidding option because, as noted above, that method of offering securities is limited to highly rated issuers having no or limited credit issues. On the other hand, being non-creditworthy does not affect the ability to conduct a negotiated transaction and is the means by which such issuers accomplish their financings.

The rules adopted in D.38614, as amended in Commission D.49941, 75556 and 81908 and Resolution F-616 (collectively referred to herein as the "Competitive Bidding Rule" or "Rule") reflect a policy preference by the Commission for California public utilities to obtain competitive bids for the sale of their debt securities. However, Exhibit A to Resolution F-616, provides, "Utilities with bond ratings of `BBB' or below should have the flexibility to be able to issue bonds both on a competitive bidding and a negotiated basis." Resolution F-616, by its express terms, states that the Competitive Bidding Rule is "only applicable to Utilities with bond ratings of `A' or higher." The Competitive Bidding Rule, therefore, recognizes that a non-creditworthy issuer cannot reasonably, and should not be required to, engage in competitive bidding.

3. Need to Use Current Financing Authority and For What Purposes

SCE expects to use current financing authority as early as 2003 in order to refinance outstanding debt. In 2002 and 2003, SCE has $725 million of maturing long-term debt, none of which has been refinanced. In addition, in 2002 and 2003, SCE has $1.3 billion of PROACT-related debt maturing which will need to be repaid using proceeds from financing.¹ As indicated below, even if by these times it has returned to single-A credit status, SCE expects that competitive bidding will not be possible for these refinancings.

4. Impact if Exemption is not Granted

SCE explains that if it is not granted the requested exemption, the refinancings could be difficult, if not impossible to complete, if SCE is required to do them through competitive bidding. SCE could attempt a competitively bid offering, but maintains that there is no assurance that any investment banks would participate. If they did, SCE believes the banks would add a large risk premium to the pricing of the transaction in order to offset the potential risk that they would not be able to place the securities with investors. Thus, even if a competitively bid transaction were achievable, it would likely not be cost-effective. Furthermore, SCE believes that if it announces a competitive bid transaction and investment banks fail to participate, even greater investor and market anxiety over the transaction would result because of the negative perception created by the banks' failure to participate. SCE contends that if it returns to the market at a later date with the same transaction, there would already be built-in apprehension about the deal.

SCE states that another possibility is that investment banks would participate in the transaction but submit unattractive bids due to their perception of the transaction's risk. As noted above, SCE has the option to reject all bids and cancel the transaction; however, issuers rarely exercise that option due to the negative signals it sends to the market due to uncertainty about the reasons for the rejected bid. SCE maintains that a subsequent offerings will inevitably come at higher costs, again due to investor perception of increased risk.

One last financing possibility would be for SCE to seek financing through the bank market. Since such financings tend to be for shorter terms, SCE states that it would have to seek refinancing again in the not-too-distant future. In addition, SCE believes that with the recent contraction in bank lending (due to various market factors including the downturn in the economy and stock market as well as many large corporate failures), it may be very difficult to raise sufficient funds to meet SCE's requirements through this market.

As long as SCE's bond rating remains below single-A, the Commission's Competitive Bidding Rule does not apply and is not a factor in its financing activities. However, the broadened Competitive Bidding Rule exemption SCE now seeks reflects its concern that even if and when it returns to a single-A rating status, SCE will continue to face lingering challenges accessing the capital markets. Moreover, given its anticipated financing requirements over the next two years, SCE believes it is important to obtain broadened Competitive Bidding Rule exemption now to avoid possible delay in the future.

5. Relationship Between Requested Exemption and Creditworthiness Status.

As explained above, SCE's creditworthiness status will not prevent it from securing financing, due to its ability to conduct financings on a negotiated basis. SCE states that the further exemption is required because SCE does not expect to be able to competitively bid transactions of any appreciable size even when it returns to single-A status. Given its recent history, SCE contends that investors will require additional assurances that its ratings are stable and that in the face of increased due diligence by investors, additional marketing by SCE and its underwriters will be necessary. SCE states that the flexibility to pre-market and to test the bond market offered by negotiated transactions will be critical.

6. SCE's Ability to Use the Debt Authority if it Remains Non-Creditworthy for an Extended Period of Time

If SCE remains non-creditworthy for an extended period of time, as stated above, SCE maintains that it should be able to use its debt authority as long as it is not required to use competitive bidding for its financings.

SCE expects that until it becomes investment grade and possibly until it attains at least a high BBB rating, it likely will be limited to issuing secured debt (e.g., first mortgage bonds) as opposed to the senior unsecured notes it issued prior to its credit downgrades.

SCE is currently rated "non-investment grade" by the credit rating agencies. Due to this extended "non-investment grade" rating, even at the low investment grade levels of "BBB" which SCE hopes to achieve in the near future, as well as upon its return to "A" status, SCE contends that it is quite possible that SCE will be unable to access the capital markets using a competitive bidding process.

SCE also explains that there has been considerable consolidation recently in the financial services sector, with the end result of fewer investment and commercial banks. Thus, there are now significantly fewer potential underwriters in the capital markets than there were even five years ago. In a competitively bid offering, the underwriting community is further divided into competitive bidding syndicates, with fewer participants and consequently increased risk for each. Risk is offset by higher costs. As a result, competitive bidding issues in excess of $200 million are likely to result in a higher cost of funds. Thus, SCE believes that negotiated transactions provide greater flexibility to adjust the timing and terms of a proposed debt offering to meet changing market conditions.