Fitch Revises NYSEG's Outlook to Negative After Rate Order.

NEW YORK -- Fitch affirms the ratings of New York State Electric and Gas Corp. (NYSEG) following the Aug. 23, 2006 rate order decision by the New York Public Service Commission (NYPSC), which was worse than expected. The Outlook is revised to Negative from Stable.

E[acute accent]NYSEG's ratings are affirmed as follows:

E[acute accent]-- Issuer default rating (IDR) at 'BBB';

E[acute accent]-- Senior unsecured at 'BBB+';

E[acute accent]-- Preferred Stock at 'BBB';

E[acute accent]-- Short term at 'F2'.

E[acute accent]The Negative Outlook reflects NYSEG's weaker credit measures in the short term and the expectation of continued regulatory uncertainty as the company reacts to the NYPSC's decision and considers re-entering rate proceedings when the current order expires in one year. E[acute accent]Under the rate order which is effective Jan. 1, 2007, NYSEG is required to reduce delivery rates by $36.2 million based on a 9.55% return on equity (ROE). The company had filed a six-year rate plan with a $58 million increase in delivery rates in the first year and a rate freeze for the remainder of the period. Moreover, the $36.2 million decrease assumes an incremental $30 million of cost reductions/revenue increases. In addition, the 9.55% ROE is calculated using parent company Energy East's (EE) capital structure (approximately 42% equity) as opposed to NYSEG's capital structure (approximately 49% equity). As management has historically adjusted dividends from NYSEG to its parent company to maintain NYSEG's equity ratio at the level assumed in its rates, Fitch expects the company to increase distributions to EE to match NYSEG's equity ratio to that allowed in the rate order. This will have the effect of increasing NYSEG's financial leverage. E[acute accent]In addition to lowering the company's delivery rates, the rate order amends the company's commodity service options. Specifically, the order replaced the fixed price option (FPO) as the default service option for NYSEG customers with a variable rate option (VRO) and reduced the FPO rate conversion factor to approximately 24% from the earlier 35%. Fitch estimates the combined effect of the distribution rate cut and changes to the company's commodity offerings to be approximately $50 million of funds from operations annually. This is significantly worse than Fitch had anticipated. While pro-forma credit metrics remain consistent with the rating category, the Negative Outlook factors in the one-year term of the current rate order and the prospect of another rate proceeding, the outcome of which would come into effect Jan. 1, 2008. Further resolution of the Outlook and ratings would be conditional on the outcome of such a proceeding and/or measures taken by the company to shore up profitability and cash flow in the interim. E[acute accent]NYSEG is a regulated utility active primarily in the transmission, storage and distribution of natural gas. NYSEG serves approximately 854,000 electricity and 253,000 gas customers in central, eastern and western New York, including the cities of Binghamton, Elmira, Auburn, Geneva, Ithaca and Lockport. E[acute accent]Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.