Managing Risks in Trade Credit Enron Credit com

Managing Risks in Trade Credit: Enron. Credit. com “After price risk, counterparty risk is the next most significant risk to a trading operation. ” Moody’s Investor Services

Agenda CONFIDENTIAL n Why Enron. Credit? n Products and Services n Bankruptcy Hedge 2

Why? n n Have you ever wanted to protect yourself from the risk of one of your customers/partners/suppliers going bankrupt? Have you ever wanted to assess the credit quality of a company at a glance? Have you ever been frustrated by the time credit evaluations take? Have you ever wanted to price incremental new credit lines to close an originated commodity trade? CONFIDENTIAL 3

What Enron does n n www. Enron. Credit. com provides 24/7 -available cost of credit, 2 -way transactable prices, and a space on which to create build user-designed portfolios of names being covered Enron. Credit provides businesses with the essential marketplace to value, manage and transfer credit risks on an “always-on” basis. Enron. Credit can work together with its clients (as it does internally) to structure an active management program and to supply the necessary tools. CONFIDENTIAL 4

What it does for the Client n Market for risk transfer n Names that may not have rated securities, or difficult-to-find CDS n No physical recovery - no need to disclose underlying exposures n n Two-way markets: Client can sell protection to Enron to gain yield on underutilized credit lines Markets to diversify risks away from sector/geography concentrations (e. g. , buy protection on Sithe, sell on Raytheon) Cost of credit that is forward-looking and is formatted to plug into investment and risk management analytics Foundation for an active credit process for the Client: evaluation of risk transfer pricing, portfolio analytics, position measurements, etc. CONFIDENTIAL 5

What is it? n n The Enron Cost of Credit (ECC) is a market-based price for trade credit. It is a measure of the probability of bankruptcy combined with the historical recovery assumptions for senior unsecured obligations. The ECC is derived using proprietary techniques which integrate many sophisticated tools and approaches for evaluating credit to generate a modeled price for a specific counterparty. The modeled price is then further calibrated to current indicators in the debt and equity markets as well as macro economic factors. Enron makes two-way markets on each of the credit prices it quotes. This forces the quoted price to be the market clearing price for each credit. Prices are continually updated during trading hours. CONFIDENTIAL 6

Why Enron? l Extensive commodity market experience and understanding of associated credit risk – Enron prices credit risk for all its commodity / finance / asset transactions l Constant investments in risk management architecture and personnel l Ability to provide credit protection on non-rated smaller companies operating in the energy markets l Ability to act quickly l Continuous development of new and unique products, such as Bankruptcy Hedge CONFIDENTIAL 7

Products & Services

Valuation Services Requested Name (incl. self) l The ECC and underlying market pricing give clients the ability to evaluate and compare their customers and competitors. – This gives our clients deeper knowledge of their operations, the risks they are taking, the risk-adjusted profitability. – It allows them to make smarter and faster decisions on their business. – Furthermore, it gives our clients insight into the balance sheet strengths of competition. Clients request new names to be covered - themselves or third parties. l For a fee, Enron creates price and covers for one year. The price may be informational, indicative or firm – depending upon the quality of information available to Enron. Companies can also volunteer information on the reference entity when requesting for a price – in particular if they are choosing themselves to be priced and covered. l Limitations can include affiliation, control, lack of information l CONFIDENTIAL 9

Credit Evaluation Outsourcing Requested Portfolios: l Enron offers cost-effective solutions to monitor expected losses and bankruptcy probabilities, and to evaluate the cost of hedging. l Client provides a portfolio, and reference entity information, if necessary. Enron provides, by subscription, the technology to price the risks. l Based on the quality of information available, Enron will back its valuations with firm, indicative or information-only prices. l Price will be maintained for a term that is tailored for each customer. CONFIDENTIAL 10

Outsourcing Credit Risk Management l Together, client and Enron create a framework for valuing and managing credit risks on a real-time basis. The goal will be to have client develop commercial activities undelayed by lack of credit analysis infrastructure. l Enron contributes credit risk pricing, portfolio valuation, risk transfer capabilities, and advisory on setting risk limits. l Client contributes the underlying commercial risk to be covered, and final control over risk limits and reporting requirements. CONFIDENTIAL 11

Structured Use of Swaps CONFIDENTIAL l Commodity-linked l Project-linked l Weather-linked l Insurance-linked l Stand-alone Needs l Whatever you need 12

Contact n Web site: www. Enron. Credit. com n e-mail: Credit-desk@enron. com n Telephones n Technical enquiries +44 (0)20 7783 5555. n General enquiries +44 (0)20 7783 5151. Enquiries relating to specific transactions +44 (0)20 7783 4242 n CONFIDENTIAL 13

Bankruptcy Hedge

Bankruptcy Hedge l Purpose: Ü l Provide a tradable product with which a firm can hedge it’s counterparty credit risk Features: Ü Credit Event: Bankruptcy Ü Reference Entity: Counterparty Ü Notional: Mark-to-Market of Transaction Ü Term (Years) Ü Premium (basis points): Cost of swap CONFIDENTIAL 15

Why Bankruptcy? l Viable businesses honor trade obligations l Lenders will restructure debt if business is viable but under financial strain l Well written contracts cover extraneous credit events l Financial loss will only occur if counterpart is insolvent/bankrupt l Publicly observable event CONFIDENTIAL 16

Bankruptcy Hedge Structure Premium HEDGER SWAP SELLER 0 100 % Notional 2 year Contract Reference Entity CONFIDENTIAL If the reference entity goes bankrupt, the Swap Seller pays the Hedger the entire notional specified in the Swap contract. 17

Example • Bankruptcy • Swap • Contract Value • £ 100 m • Expected Recovery • 30% • Loss if Default • £ 70 m • Notional • £ 70 m • Payment from seller • Payment to seller • Net • Cost • £ 70 m • 0 • £ 70 m • 71. 4 • bps • (on £ 70 m) • Total Cost • £ 0. 5 m • (50 • bps on £ 100 m) • (Swap buyer takes Recovery risk) CONFIDENTIAL 18

Credit Events Enron Ü Bankruptcy The only credit event required to hedge non-payment risk in trade obligations is bankruptcy/ insolvency. ISDA Ü Bankruptcy Ü Failure to Pay Ü Obligation Acceleration Ü Restructuring Ü Repudiation / Moratorium } “Technical Defaults” ISDA’s definition is designed to hedge non-payment risk in financial obligations (Bonds, loans, other debt) and mirrors default language in lending covenants. CONFIDENTIAL 19

How to Compare to Insurance? l Insurance can have limited flexibility Often there is a term mismatch Making a claim can be slow and difficult Lots of conditions on what goes into the portfolio and how it goes in. Who gets the upside in recovered value? How many customers are excluded? CONFIDENTIAL l Impossible to trade: insurance only tae one side l What if the risk is not directly on trade receivables? 20

And CDS? l Designed to protect the value of bonds Trigger events are tied to bond performance and are numerous If default occurs, often the security has to be physically delivered to the protection seller If swap is financially settled, settlement can be lengthy and complicated CONFIDENTIAL l How many of your customers have issued debt securities? l Do you hold those securities? l Is bond default the correct measure of your risk? l Physical delivery may be difficult (vis-à-vis small float) or impossible l Who wants to take recovery risk? l Illiquid to trade 21

Bankruptcy vs. Default CONFIDENTIAL 22

ENRON EUROPE FINANCE & TRADING LIMITED RESPONSIBILITY STATEMENT Enron Europe Finance & Trading Limited (“EEFT”) is regulated in the conduct of investment business in the United Kingdom by The Securities and Futures Authority. Information relating to investments which is contained in the accompanying material has been approved by EEFT as an investment advertisement for the purposes of Section 57 of the Financial Services Act 1986. The transactions and products which are described therein are of a sophisticated nature and are not being made available by EEFT to private individual investors. The accompanying material is provided solely for the purpose of enabling you to form an opinion as to the suitability or otherwise of your utilising the transactions and products described therein. Nothing stated in the accompanying material shall be construed in any manner whatsoever as meaning that EEFT has considered (i) the appropriateness or suitability for your business of the products described therein or (ii) the appropriateness or suitability for your business of any other characteristic that may be attributed to the products described therein. Nothing stated in the accompanying material shall be construed in any manner whatsoever as meaning that you are placing reliance on the information provided therein as constituting advice given by EEFT to you in connection with your consideration of any such products.