ML17059C116

1997 Annual Rept for Chge. W/Form 10-K

ML17059C116
Person / Time
Site:	Nine Mile Point
Issue date:	12/31/1997
From:	GANCI P J, MACK J E CENTRAL HUDSON GAS & ELECTRIC CORP.
To:
Shared Package
ML17059C114	List: ML17059C113 ML17059C115 ML17059C116 ML18041A064
References
NUDOCS 9807070353
Download: ML17059C116 (174)

Text

F00grDDroM@,~

iDII5iggg 000-0~D~00JgDgOD@0(Qgg3f+oPgQQPPPl~QDD00o]~tomCO~IO(QO0Ijtjli5)~(OO 000-'0-.00e,Do",t'Eisenhower Hall,theUnitedStatesMilitaryAcademyatWestPoint9807070353 980b30PDRADOCK05000220PDR1997AnnualReportandForm10-K Cover:CentralHudsonprovidesEnergySolutions forourelectricandnaturalgascustomers.

TheUnitedStatesMilitaryAcademyatWestPointisamajorgascustomer, andthesummerof1997markedthefirstfullseasonthatgaswasusedtoprovideairconditioning forEisenhower Hall.Formoreinformation aboutgascoolingatEisenhower HallandavarietyofotherEnergySolutions, seepagesfourthroughtenofthisreport.~~~~MN~4~I~A\OE~MW~~IlaLj3g(lEisenhower HallwasnamedafterDwightD.Eisenhower, theSupremeCommander oftheAlliedExpeditionary ForcesinEuropeduringWorldWarIIandthe34thPresident oftheUnitedStates.Themilitaryinsigniashownontherightisdisplayed onthefrontofthebuilding.

ContentsFinancial Highlights ReporttoShareholders ReportfortheYear1997Financial ProfileCorporate

&StockInformation Form10-KAnnualReportDirectors kOfficerspage1page2page4page11page12page13insidebackcoverFinancial Highliglhts Operating RevenuesNetIncomeEarningsPerShareAverageSharesOutstanding Dividends DeclaredPerShareTotalAssetsElectricSalesOwnTerritory (kwh.)NaturalGasFirmSales(thousands ofcubicfeet)ElectricCustomers OwnTerritory (average)

FirmGasCustomers (average) 197$520,277)000 55,086,000

$2.9717,435,000

$2.135$1,252,090,000 4,490,317,000 10,285,000 266,4716173371996$513,971,000 56,082,000

$2.9917,549,000

$2.115$1,249,106,000 4,608,211,000 10,850,000 263,78160,470change1.2%(1.8)%(.7)%(.6)%.9%.2%(2.6)%(5.2)%1.0%1.4%ICentralHudsonGas&ElectricCorporation JohnE.MackIII,seated,ChairmanoftheBoardandChiefExecutive Officer;andPaulJ.Ganci,President andChiefOperating Officer."Inacompetitive businessworldwe'egoingtobeawinner."Thisquotewasdisplayed onthecoverofour1994AnnualReport.Thepurposeforrepeating itasaprologuetothisyear'sletteristore-affirm ourconfi-denceinthedirectors,

officers, management andunionemployees asbeingthebestoftheutilityindustry.

1997wasayearofcontinued growth,solidfinancial performance andimprovedproductivity.

Earningspersharewere$2.97for1997,aslightdecreasefrom1996reflecting unseasonal weather.Dividends paidtoshareholders increased onepercentfrom$2.11in1996to$2.13in1997.Duringthepastfiveyears,theaverageannualreturntoshareholders was14.9percent,andin1997itwas48.4percent,ranking15thoutof96electricutilities intheUnitedStates.Bookvaluepershareincreased from$26.87attheendof1996to$27.61attheendof1997.Inthepast,wehavepointedoutthatwhiletheoveralltrendinutilitycreditratingsinrecentyearshasbeendownward, CentralHudson'shastrendedupward.During1997,Standard8zPoor'supgradedtheCompany's secureddebtratingtoAfromA-basedonastrengthened financial profile,whichisexpectedtocontinuetoimprove.Thisprofilereflectsourcompetitive prices,aflexibleanddiversefuelandenergysupplymixandmanagement's commitment tocreditquality.2CentralHudsonGas&ElectricCorporation Webelievethatthisupgrade,whichmarkedthefirsttimethattheCompanyhasreceivedanAratingfromStandard&Poor'ssince1975,recognizes oureffortstoaggressively manageourcostsandstrengthen ourfinancial positioninanticipation ofacompetitive marketplace.

InourJanuary15,1998lettertoshareholders, weinformedyouaboutthestatusofanAmendedandRestatedSettlement Agreement, datedJanuary2,1998,whichwasexecutedandfiledwiththeNewYorkStatePublicServiceCommission.

Aswepointedout,thisagreement, whichwasapprovedonFebruary4,1998,providesabalancedapproachforproviding retailaccesstoallofourcustomers byJuly1,2001andprovidesshareholders withtheoppor-tunityforfullcostrecoveryofallexpenditures madebytheCompanytofulfillitsobligation toserveandprovidesafe,reliableenergytocustomers withinourfranchised serviceterritory.

Inaddition, theagreement pro-videsfortheformation ofaholdingcompanynolaterthanJune30,2001.Theagreement alsorequiresthattheCompanyauctionitsfossil-fueled generating stationsnolaterthanJune30,2001.Theagreement callsforthecustomershareofthenetsaleproceedsabovenetbookvaluetobeappliedascustomerbenefitstooffsetregulatory assetsandtheCompany's netinvestment intheNineMilePoint2NuclearStation.AlthoughtheCompanyretainstherighttobidintheauctionthroughanunregulated affiliate, wecanmakenoprojections astotheoutcomeoftheauctionorotherstrategic alternatives theCompanymaypursue,norcanweestimatethefutureimpactofregulation ontherestructured com-pany.Aspartofthetransition processwewillreevaluate ourfinancial

policies, including theappropriate levelofthecommondividend.

Thethemeofthisyear'sAnnualReportillustrates howwearebuildingpartnerships withcustomers throughourEnergySolutions program,whichprovidesabroadrangeofproductsandservicestohelpsolveamultitude ofbusinesschallenges.

Ourlongstanding presenceintheCommunity helpsusunderstand theneedsofourcustomers.

Ouremployees liveandworkinthecommu-nitiesweserve.Weareaccessible, weareresponsive andwestrivetobesuccessful bycontinuously exceeding theexpectations ofourcustomers, meetingtheneedsofouremployees andretaining theconfidence ofourshareholders.

Verytrulyyours,ChairmanoftheBoardandChiefExecutive OfficerPresident andChiefOperating Officer3CentralHudsonGas&ElectricCorporation CentralHudsonanditspredecessor companies havebeenservingtheMid-Hudson Valleysince1850.Wearethe"local"utilitycompany,withlongstanding rootsintheValley.Wearehonoredtoservethepeopleoftheregion.Wevaluethemascustomers andwewanttocontinueservingtheminthemonthsandyearsahead.Beingthelocalutilitycompany,wehaveapresenceinthecommunity whichhelpsusunderstand theneedsofourcustomers.

Weareaccessible andweareresponsive.

Weareabletomeetourcustomers'xpectations.

Eisenhower Hallisthemaincadetactivities buildingattheUnitedStatesMilitaryAcademyatWestPoint,OrangeCounty.CentralHudsonhasbeenproviding naturalgasservicetoWestPointsince1931.Whentheacademywasconsidering replacing anagingelectricairconditioning systeminEisenhower Hall,CentralHudsonrecommended theuseofnaturalgascooling,whichwasconsistent withthefederalgovernment's objective ofusingcleannaturalgasasafuelwheneverpossiblebecauseofenvironmental considerations.

Inthisinstance, gassuppliedbyCentralHudsonreplacedelectricity suppliedbyaneighboring utilitycompany.LookingnorthfromWestPoint,theHudsonRiverpassesthroughtheHudsonHighlands.

'it'll.l)IX(l

.'LIIPITlilt Xi'I!lVI'AI'I'/'lllodezniga((on olCoIkInca(l scieceBa(ldMII;INCLUDES; CHEMISTRY, BIOLOGY,JOURNALISTS%

MEDIACENTER.COMPUTERSERVICESANDPLANETARIUM Naturalgasisreplacing oilattheStateUniversity ofNewYorkatNewPaltz,UlsterCounty.PhaseIwascompleted withtheinstallation ofgasservicetofivemajorbuildings forhotwaterandotherapplications.

PhaseIIwillinvolvetheconversion oflargebc'tonaturalgas.Eventually, naturalgaswillservetheentirecampCentralHudsonGas&ElectricCorporation CentralHudsoncollaborated withamajorperforming artstorganization, citygovernment, onomicdevelopment agenciesandbusinessorganizations tocreateaRiverfront Amphitheater asanewentertainment venueontheHudsonRiverinPoughkeepsie, DutchessCounty.CentralHudsonprovidedavarietyoflightingdesignandrelatedelectricserviceswhichhelpedmakepossibletheinitialconcertbySawyerBrown,recognized asAmerica's topcountryband.Thispartnership helpedre-enforce CentralHudson'spresenceinthecommunity anditsreputation asthe"local"energysupplier.

'IRaregeological beautyandexceptional outdoorrecreational activities characterize theMinnewaska StateParkPreserve, locatednearNewPaltz,UlsterCounty.Keepingtheenvironment inmind,CentralHudsondeveloped acomprehensive Environmental Management andConstruction Planforrebuilding anelectrictransmission linewhichwasbuiltthroughMinnewaska inthe1930swhenthelandwasprivately owned.Oneinnovative aspectoftheplanwastheuseofahelicopter totransport personnel andequipment toworkareas,thuseliminating theneedtomoveheavytrucksandmaterials alongthepark'strailsandcarriageways.

Inaddition, allconstruction personnel receivedformalenvironmental sensitivity trainingregarding theproject,whichwillenhancethereliability ofelectricserviceintheregion.Thephotograph showsalargehelicopter transporting atransmission structure, whichweighsabout8,000pounds.5CentralHudsonGas&ElectricCorporation d$P4~~pl~CentralHudsonhasastrong,workingrelationship withHunterMountain, datingbackalmost40yearstowhentheskicenterfirstopenedinGreeneCounty.Overtheyears,CentralHudshelpedHunterMountainintroduce newelectricsnowmaking technology toproducemoresnow,operatemoreefficiently andcontrolcosts.Theskicenter,thelargestintheCatskills, recentlytookadvantage ofCentralHudson'snewlow-costfinancing programtoaddmoreenergyefficient equipment, whichwillenhanceitsreputation asthe"Snowmaking CapitaloftheWorld."Snowmaking beganafewweeksafterthefallfoliagereacheditspeak.Customers candependonus...torespondincreativewaystotheirenergy-related problems...

tooffergreaterchoice,serviceandvalue.Forexample,CentralHudsonintroduced aServiceGuarantee onApril1oflastyear.Underthisprogram,CentralHudsonguarantees thatitwilpscheduled appointments withanelectricorgascustomeroritwillcredit$20tothecustomeraccount.Duringthelastninemonthsof1997,10,078appointments weremade,and9,960-or98.8%-werekeptonschedule.

CentralHudson'sabilitytodistinguish itsproductsandservicesinacompetitive energymarketplace dependsuponmeetingitscustomers'xpectations.

Asaresult,theServiceGuarantee goalfor1998istokeep100%ofallscheduled appointments.

6CentralHudsonGas&ElectricCorporation Favorable experience with"groundsource"heatpumpsincampusbuildings encouraged BardCollegetoinstalladditional heatpumpsinstudentresidences, whichwerebeingrenovated andexpanded.

Thecollege,locatedinAnnandale-on-Hudson,DutchessCounty,isoneoftheleadingliberalartscollegesintheNortheast.

Groundsourceheatpumps,whicharequicklybecomingthemostreliableandcompetitive systemforheating,cingandwaterheating,arebecomingattractive fincommercial andeducational buildings aswasforresidential use.

-sPassengers onanearlymorningDeltaflighttoAtlantausednewboardingbridgeswhicharepartofa$15.4millionrenovation programatStewartInternational Airport,locatedintheNewburgharea,OrangeCounty.Theexpansion projectdoubledthesizeoftheterminalandaddedanumberofotherpassenger amenities.

Naturalgaswasselectedforheatingandwaterheatingintheexpandedfacility.

Stewart,recognized asthe"economic engine"forthefuturedevelopment oftheMid-Hudson Valley,isthefirstcommercial airportinthecountrytoreceivefederalapprovaltoproceedwithprivatization undertheFederalAviationAdministration's pilotprogram.tisabout2a.m.onasnowyNovembermorningatthePoughkeepsie TrainStation,whereMetroNorthpassenger carsontheHudsonlinearebeingheatedforearlymorningtripsintoNewYorkCity.During1997,MetroNorthcontacted CentralHudsonaboutthepossibility ofreplacing dieselfuelwithelectricity forheatingtraincarsinthewinterandcoolingtheminthesummer.MetroNorthalsowantedtoservicethetraincarsatthePoughkeepsie stationratherthanatvariouslocations alongtheHudsonline.CentralHudsonworkedcloselywithMetroNorthtodevelopasolutiontothisenergyproblempriortothearrivalofcoldweather.addition, alargenumberofhwereinstalled atthestationforbothsafetyandsecurity.

kI/47CentralHudsonGas&ElectricCorporation We'zeyomzjzzzezgySollmlL;zozzs cozzzyzzzy

'entralHudson'sEnergySolutions programhasexpandedfromaninitiative tohelpcommercial andindustrial customers becomemorecompetitive toabroad-based programwhichoffersEnergySolutions toresidential customers aswell:suchthingsasenergy-related

products, servicesandexpertise.

During1998,anumberofnewproductsandserviceswillbeintroduced toenhanceourfocusonmeetingtheneedsofourcustomers.

Ai)~+')l)I-I,.I)):5Q.'1:.xf.)'reserving thenaturalenvironment wasamajorpriorityintheconstruction ofMohonkPreserve's

$2.8millionvisitorscenter,locatednearNewPaltz,UlsterCounty.Byusingnativematerials forconstruction andleavingthesiteundisturbed asmuchaspossible, theTrappsGatewayCenterreflectsitssurrounding environment atthefootoftheShawangunk mountains.

Aninnovative application ofaground-sourceheatpumpwilluserenewable energyresources locatedbelowtheearth'ssurfacetoprovidecentralheating,coolingandhotwaterforthe9,200square-foot center.Inadditiontobeingenergyefficient andcosteffective, theheatpumpwillhavevirtually noeffectontheenvironment, noemissions andnoriskoffuelleaksonthesite.8CentralHudsonGas&ElectricCorporation

~ePS~l~~Fels"'I'IW))))))it

\tNllCSKlll,f4>41big))~)))-LLThedilemma:howtomaintainiceforindoorskatingat theIceTimeSportsComplexwhentheoutsidetemperature is90degreesandthehumidityis80percent.TheEnergySolution:

installaninsulated foilceilingabovetheicerinktocontrolcondensation.

Byutilizing CentralHudson'senergyefficiency expertise, IceTimesolvedanoperating problem,reducedenergycostsandcreatedabusinessopportunity allatthesametime.IceTime,whichopenedoneyearagoinNewburgh,Orange County,ollyplannedtooperateonlyduringthewintermonths.Thesuspeioilceiling,however,hasbeenamajorfactorinenablingIceTimetooperateyear-round.

nklinCorporation, locatedinPleasantValley,utchessCounty,isaleadingsupplierofdatansmission technologies totelephone companies throughout NorthAmerica.Uponlearningthatthiscustomerwasplanningaplantexpansion, andrealizing theemphasisthatConklinCorporation placesonproducing highqualityproducts, CentralHudsonassistedbyconducting anIndustrial Competitiveness Survey.Basedontheresultsofthesurvey,whichanalyzedmanufacturing operations, recommendations weremadetoenhanceproductivity andqualitycontrol.ConklinCorporation wasthefirstISO9001registered companyintheMid-Hudson Valley,andithasbeenrecognized asaSupplierofExcellence forthreeconsecutive yearsbyGTETelephone.

PicturedaboveisConklin's familyofISDNMultiplexers, whichallowtelephone companies todeployhigh-speed dataserviceanywherethereisaneed.Theirsmallsizerepresents apackaging breakthrough utilizing advancedmanufacturing methodswhichprovidecustomers witha40%savings.Theproductsareusedfortelecommuting, high-speed Internetaccess,distancelearningandtele-medicine, allofwhicharerapidlygrowingapplications.

ondoutReservoir inUlsterCountyispartofthereservoir systemwhichsuppliesanaverageofbilliongallonsofwaterperdayfortheCityofNewYork.CentralHudsonisworkingwiththecity'sDepartment ofEnvironmental Protection todetermine howvariouselectrotechnologies maybeusedtohelpprotectthequalityofdrinkingwaterfromtheCatskillMountains watershed.

9CentralHudsonGas8cElectricCorporation Zjliiea.gy SOlliLlllEOnS foxIReaMlelliilL;ilail CmlI;orms sI~~JAfterconsidering alloptions,morethan1,000customers haveelectedtoleaseanelectricwaterheaterfromCentralHudson.Foraslittleas$10.95amonth,thispopularprogramprovidesinstallation and24-hourserviceandrepairsforthelifeofthelease.During1997,waterheaterleaseswereup32%.iCw)Moreandmorecustomers areselecting clean-burning naturalgasfireplaces overwood-burning fireplaces.

Thereisnochopping, nosplitting, nostacking, nosparks,nosmoke,nosootandnoash.Toenhancesales,CentralHudsonofferslow-costfinancing tocustomers.

g'tr('pi~~rr~r~rest~rrrrr~~~r~-=,.A,'ihi"~Qpr'rI"IgIIIjmIrIII'Ilrlrl'I1lH",IIIIIII~41.,rgrCIOCentralHudsonGas&ElectricCorporation Whenconsidering outdoorlighting, anincreasing numberofhome-owners, residential developments andbusinesses arechoosinglow-cost, leased1'optionsfromCentralHudson.Alightinstalled nexistingpolestartsatlessthen$10permonth.Outdoorlightingsaleswereup33%in1997.

04CO3K21ElectricSales199319941995199619970Residential 5Commercial CIIndustrial QOther11109v)8C65uO43210FirmGasSales199319941995199619976,517',483',719',718*

6,164*'BillingDegreeDaysClResidential IICommercial 0Industrial RatioofFundsFromOperations ToTotalInterestCharges5.554.5l-43.52.52o1.5O10.5EPS&Dividends ClDividends PaidQEPS199319941995199619971993199419951996199710080g6040o20Capitalization Ratios0CommonEquityIIPreferred StockCILong-term DebtQShort-term Debt5040I30OO2010CommonStockPricesCILowlgHighaBookDClosetli1993199419951996199719931994199519961997IICentralHudsonGasRElectricCorporation Corporate cRStockInformation AnnualMeetingTheannualmeetingofholdersofcommonstockwillbeheldonTuesday,April7,1998at10:30a.m.attheCorporation's GeneralOffices,284SouthAvenue,Poughkeepsie, NewYork.Themanagement welcomesthepersonalattendance ofshareholders atthismeeting.Asummaryreportofthemeetingwillbemailedtoallshareholders ofrecordatalaterdate.Financiol andStatistical ReportAcomprehensive ten-yearfinancial andstatistical supplement tothisAnnualReportwillbeavailable toshareholders attending theAnnualMeeting.CopiesmayalsobeobtainedbywritingorcallingStevenV.Lant,Treasurer andAssistant Secretary, 284SouthAvenue,Poughkeepsie, NY12601;telephone (914)486-5254.

SecurityAnalystsandInstitutional Investors StevenV.Lant,Treasurer andAssistant Secretary; telephone (914)486-5254.

MultipleCopiesofthisAnnualReportShareholders whoreceivemultiplecopiesofthisAnnualReportmay,iftheychoose,reducethenumberreceivedbycallingFirstChicagoTrustCompanyofNewYorkat(800)428-9578.

CommonStockPurchasePlanCentralHudsonoffersaStockPurcliase Planunderwhichinvestors mayconveniently purchasecommonstockandreinvestcashdividends.

Allbrokerage andotherfeestoacquiresharesarepaidbytheCorporation.

Toparticipate, contactPaulJ.Gajdos,Director-OfficeServicesandShareholder Relations, at(914)486-5204orFirstChicagoTrustCompanyofNewYorkat(800)428-9578.

InternetThisAnnualReport,ourSECfilingsandtheProspectus forourStockPurchasePlan,aswellasotherinformation abouttheCompany,isavailable byaccessing ourWebsiteatwww.cenhud.corn.

TransferAgentcRRegistrar, CommonandPreferred Stock/Shareholder Information FirstChicagoTrustCompanyofNewYork,POBox2500,JerseyCity,NJ07303-2500.

Internet:

www.fctc.corn; telephone (800)428-9578between8:30a.m.and7p.m.weekdays.

StockExchangeListing/Stock TradingSymbolCommon:NewYorkStockExc/range

-CNHGeneralCounselGould&WilkieOneChaseMan)rattan PlazaNewYork,NY10005enIIfClill U(ol3QoAYourEnergySolutions Company"IIndependent Accountants PriceWaterhouse LLP1177AvenueoftheAmericasNcwYork,NY10036Common1"Quarter2""Quarter3"Quarter4'hQuarterStockMarketPriceandDividends PaidPerShare19971996~W~vlCJl~l~w$33'/s$30'/z$53$31'/2$28'/4$.52534'/429'/4.5331'/428/s525357/s32i/53531r/29r/53437/s34>>/r653531r/z29S312CentralHudsonGas&ElectricCorporation SECURITIES ANDEXCHANGECOMMISSION Washington, D.C.20549FORMI0-KANNUALREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIES EXCHANGEACTOF1934Forthefiscalyearended......................December 31,1997Commission filenumber1-3268CENTRALHUDSONGAS8tELECTRICCORPORATION (Exactnameofregistrant asspecified initscharter)NewYork(Stateorotherjurisdiction ofincorporation ororganization)

I4-0555980 (I.R.S.EmployerIdentification No.)284SouthAvenue,Poughkeepsie, NewYork(Addressofprincipal executive offices)I260I-4879(ZipCode)Registrant's telephone number,including areacode(914)452-2000Securities registered pursuanttoSection12(b)oftheAct:TitleofeachclassNameofeachexchangeonwhichregistered CommonStock,$5.00parvalueNewYorkStockExchangeSecurities registered pursuanttoSection12(g)oftheAct:TitleofeachclassCumulative Preferred Stock:4I/2%Series4.75%SeriesIndicatebycheckmarkwhethertheRegistrant (1)hasfiledallreportsrequiredtobefiledbySection13or15(d)oftheSecurities ExchangeActof1934duringthepreceding 12months(orforsuchshorterperiodthattheRegistrant wasrequiredtofilesuchreports),

and(2)hasbeensubjecttosuchfilingrequirements forthepast90days.YesXNoIndicatebycheckmarkifdisclosure ofdelinquent filerspursuanttoItem405ofRegulation S-Kisnotcontained herein,andwillnotbecontained, tothebestofRegistrant's knowledge, indefinitive proxyorinformation statements incorporated byreference inPartIIIofthisForm10-Koranyamendment tothisForm10-K.[X]Theaggregate marketvalueofthevotingandnon-voting commonequityheldbynon-affiliates oftheRegistrant asofFebruary9,1998was$689,835,480 baseduponthelowestpriceatwhichRegistrant's CommonStockwastradedonsuchdate,asreportedontheNewYorkStockExchangelistingofcomposite transactions.

Thenumberofsharesoutstanding ofRegistrant's CommonStock,asofFebruary9,1998,was17,245,887.

DOCUMENTS INCORPORATED BYREFERENCE CertainportionsofRegistrant's AnnualReporttoShareholders, forthefiscalyearendedDecember31,1997,are;--incorporated byreference inPartsI,IIandIVofthisReport.rRegistrant's definitive ProxyStatement, tobedatedMarch2,1998,andtobeusedinconnection withitsAnnualMeetingofShareholders tobeheldonApril7,1998,isincorporated byreference inPartIIIhereof.l3CentralHudsonGas&ElectricCorporation TABLEOFCONTENTSPagePARTIITENIITEN2BUSINESSGenerally RatesRegulation Construction ProgramandFinancing FuelSupplyandCostEnvironmental QualityResearchandDevelopment OtherMattersExecutive OfficersoftheCompanyPROPERTIES ElectricNcwYorkPowerPool/Independent SystemOperatorGasOtherMatters151515161616171919202222242425ITEN3ITEN4LEGALPROCEEDINGS SUBMISSION OFMATTERSTOAVOTEOFSECURITYHOLDERSPARTIIITEMSITEN6ITEM7ITEM7AITEN8ITEM9MARKETFORTHECOMPANY'S COMMONEQUITYANDRELATEDSTOCKHOLDER MATTERSSELECTEDFINANCIAL DATAMANAGEMENT'S DISCUSSION ANDANALYSISOFFINANCIAL CONDITION ANDRESULTSOFOPERATIONS QUANTITATIVE ANDQUALITATIVE DISCLOSURE ABOUTMARKETRISKFINANCIAL STATEMENTS ANDSUPPLEMENTARY DATACHANGESINANDDISAGREEMENTS WITHACCOUNTANTS ONACCOUNTING ANDFINANCIAL DISCLOSURE 28383861PARTIIIITEN10ITEMIIITEM12ITEN13DIRECTORS ANDEXECUTIVE OFFICERSOFTHECOMPANYEXECUTIVE COMPENSATION SECURITYOWNERSHIP OFCERTAINBENEFICIAL OWNERSANDMANAGEMENT CERTAINRELATIONSHIPS ANDRELATEDTRANSACTIONS 6162PARTIYITEN14SIGNATURESEXHIBITS, FINANCIAL STATEMENT

SCHEDULE, ANDREPORTSONFORM8-K-0l4CentralHudsonGas8ElectricCorporation PARTIForwardLookingStatements ThisForm10-Kmaycontainstatements which,totheextenttheyarenotrecitations ofhistorical fact,constitute "forward-lookingstatements'ithin themeaningoftheSecurities Litigation ReformActof1995("ReformAct").Allsuchforward-looking statements areintendedtobesubjecttothesafeharborprotection providedbythcReformAct.Anumberofimportant factorsaffecting thcCompany's businessandfinancial resultscouldcauseactualresultstodiffermaterially fromthosestatedintheforward-looking statements.

Thosefactorsincludedevelopments inthelegislative, regulatory andcompetitive environment, electricandgasindustryrestructuring andcertainenvironmental matters.ITENIBusinessGenerally Registrant

("Company")isagasandelectriccorporation formedonDecember31,1926,asaconsolidation ofseveraloperating utilities whichhadbeenaccumulated underonemanagement duringtheprevious26years.ThcCompanygenerates, purchases anddistributes electricity, andpurchases anddistributes gas.TheCompany,intheopinionofitsgeneralcounsel,has,withminorexceptions, validfranchises, unlimited induration, toserveaterritory extending about85milesalongtheHudsonRiverandabout25to40mileseastandwestfromsuchRiver.Thesouthernendoftheterritory isabout25milesnorthofNewYorkCity,andthenorthernendisabout10milessouthoftheCityofAlbany.Theterritory, comprising approximately 2,600squaremiles,hasapopulation estimated at622300.Electricserviceisavailable throughout theterritory, andnaturalgasserviceisprovidedinandaboutthccitiesofPoughkeepsie, Beacon,NewburghandKingstonandincertainoutlyingandintervening territories.

ThenumberofCompanyemployees atDecember31,1997was1,196.TheCompany's territory reflectsadiversified economy,including manufacturing industries, rcscarchfirms,farms,overnmental

agencies, publicandprivateinstitutions, resorts,andwholesale andretailtradeoperations.

Forinformation concerning revenuesandoperating incomebeforetaxes(expressed aspercentages) andoperating profitsandinformation regarding identifiable assetsfortheelectricandgassegments, whicharethesignificant industrysegmentsoftheCompany,secNote10-"Departmental Information" oftheNotestotheFinancial Statements refcrrcdtoinItem8hereof(eachsuchNotebeinghereinafter calledthe"Note").Consumption ofelectricity inNewYorkStatehasstabilized andthereisanexcessofelectricgenerating capacityintheState.In1998,asthecompetitive marketplaceisdeveloped forelectricutilities, itisanticipated thatelectriccustomers willhavetheopportunity topurchaseenergyandrelatedservicesfromsourcesotherthantheirlocalutility.Theseopportunities existtodayfornaturalgascustomers.

SeeItem7hereofunderthccaption"Competition/Deregulation" andNote1-"Regulatory Matters"hereinforadiscussion ofthecurrentsettlemcnt negotiations regarding theOctober1,1996submissions ofthcNewYorkutilities aspartofthePublicServiceCommission oftheStateofNewYork's("PSC")Competitive Opportunities Proceeding whichmayaffectfutureoperations oftheCompany.RatesGenerally:

TheelectricandgasratesoftheCompanyapplicable toservicesuppliedtoretailcustomers withintheStateofNewYorkareregulated bythePSC.Transmission ratesandratesforelectricity soldforresaleininterstate commerceareregulated bytheFederalEnergyRegulatory Commission

("FERC").

TheCompany's presentretailratestructure consistsofvariousserviceclassifications coveringresidential, commercial andindustrial customers.

During1997,theaveragepriceofelectricity tosuchcustomers was8.55centsperkilowatthour

("kWh"),representing nochangefromthe1996averageprice.RateProcccdings

-ElectricandGas:Forinformation regarding theCompany's mostrcccntclcctricandgascasesfiledwithePSC,seeItem7hereofunderthecaption"RateProceedings."

CostAdjustment Clauses:Forinformation withrespecttotheCompany's electricandgascostadjustment clauses,seeNote2-"SummaryofSignificant Accounting Policies" hereinunderthccaption"Rates,RcvenucsandCostAdjustment Clauses."

ISCentralHudsonGas&ElectricCorporation Regulation Generally:

TheCompanyissubjecttoregulation bythePSCwithrespectto,amongotherthings,servicerendered(including theratescharged),

majortransmission facilitysiting,energyplanning, accounting procedures andissuanceofsecurities.

CertainoftheCompany's activities, including accounting andtheacquisition anddisposition ofcertainproperty, aresubjecttoregulation bytheFERC,undertheFederalPowerAct,byreasonoftheCompany's transmission andsaleforresaleofelectricenergyininterstate commerce.

TheCompanyisnotsubjecttotheprovisions oftheNaturalGasAct.IntheopinionofgeneralcounselfortheCompany,theCompany's majorhydroelectric facilities arenotrequiredtobelicensedundertheFederalPowerAct.Purchased ElectricPowerGeneration:

Pursuanttotheprovisions ofthefederalPublicUtilityRegulatory PoliciesActof1978("PURPA"),

andtheNewYorkPublicServiceLaw,theCompanyisrequiredtoenterintolong-term contracts topurchaseelectricpowergenerated bysmallhydro,alternative energyandcogeneration facilities whichmeetqualification standards established bysuchstatutesandtheregulatory programspromulgated thereunder.

Withrespecttofacilities qualified underPURPA,theCompanymustpayitsavoidedcost(i.e.,thecosttheCompanywouldotherwise incurtogeneratetheincrement ofpowerpurchased) forelectricpowerpurchased fromqualified facilities, which,undertheNewYorkPublicServiceLaw,is"atratesjustandreasonable toelectric[...]corporation ratepayers."

AsofDecember31,1997,theCompany's avoidedcostatthe115kVtransmission levelwasapproximately 3.0centsperkWh.AsofDecember31,1997,19Megawatts

("MW")ofgeneration, qualifying foravoidedcostpaymentsbytheCompanywasinterconnected withtheCompany's system.Theopportunity underPURPAandtheNewYorkPublicServiceLawtorequiretheCompanytopurchasepowerfromqualifying facilities couldserveasaninducement totheCompany's industrial andcommercial customers toinstalltheirownqualifying on-sitegeneration facilities toreducetheirpurchases ofelectricpowerfromtheCompanyThisactionwouldresultinlossesofrevenuesfromsuchcustomers.

However,asofDecember31,1997,nosignificant customerhasindicated totheCompanytheintention topursuesuchalternative.

Construction ProgramandFinancing TheCompanyisengagedinaconstruction programwhichispresently estimated toinvolvetotalcashexpenditures duringtheperiod1998through1999ofapproximately

$109.8million.TheCompany's principal construction projectsconsistofthosedesignedtoimprovethereliability, efficiency andenvironmental compatibility oftheCompany's generating facilities andthoserequiredtoexpand,reinforce andreplacetheCompany's transmission, substation, distribution andcommonfacilities.

Forestimates ofconstruction expenditures, internalfundsavailable, mandatory andoptionalredemption oflong-term securities, andworkingcapitalrequirements forthetwo-yearperiod1998-1999, seethesubcaption "Construction Program"inItem7hereofunderthecaption"CapitalResources andLiquidity."

Foradiscussion oftheCompany's capitalstructure, financing programandshort-term borrowing arrangements, seeNotes5,6and7"Short-term Borrowing Arrangements,"

"Capitalization

-CapitalStock"and"Capitalization

-Long-term Debt,"respectively, andItem7hereofunderthesubcaptions "CapitalStructure,"

"Financing Program"and"Short-Term Debt"ofthecaption"CapitalResources andLiquidity."

TheCompany's Certificate ofIncorporation anditsvariousdebtinstruments donotcontainanylimitations upontheissuanceofauthorized, butunissued, preferred stockandcommonstockorofunsecured short-term debt.TheCompany's variousdebtinstruments includelimitations astotheamountofadditional fundedindebtedness whichtheCompanycanissue.TheCompanybelievessuchlimitations willnotimpairitsabilitytoissueanyorallofthedebtdescribed undertheabove-referenced subcaption "Financing Program."

FuelSupplyandCostTheCompany's twoprimaryfossilfuel-fired electricgenerating stationsaretheRosetonSteamElectricGenerating Plant("Roseton Plant")(described inItem2hereofunderthesubcaptions "Electric

-General"and"Electric

-RosetonPlant")andtheDanskammer PointSteamElectricGenerating Station("Danskammer Plant")(referred toinItem2hereofunderthesubcaption "Electric

-General").Unit2oftheRosetonPlant,whichPlantisfullyequippedtoburnbothresidualoilandnaturalgas,hasbeenthepredominant operating unitofthatPlant'stwounitsduring1997,withUnit1available onanalternate basis.Units1and2oftheDanskammer Plant,whichareequippedtobumresidualoilornaturalgas,areonlyoperatedwhenthedemandforpowerishighorpurchased powerandenergyexchangecontracts areuneconomical.

Units3and4oftheDanskammer Plant,whichareoperatedpredominantly, arecapableofburningcoal,naturalgas,orresidualoil.l6CentralHudsonGas&ElectricCorporation Forthe12monthsendedDecember31,1997,thesourcesandrelatedcostsofelectricgeneration fortheCompanywereasfollows:SourcesofGeneration Purchased PowerCoalGasNuclearOilHydroelectric Aggregate Percentage ofEnergyGenerated 34.0%38.54.813.76.62.4100.0%Costsin1997($000)$56,00240,1597,6004,10011,437638FuelHandlingCostsDeferredFuelCost1,536509$121,981ResidualOil:AtDecember31,1997,therewere438,176barrelsoffueloilininventory inCompany-owned tanksforuseintheDanskammer andRosetonPlants,whichamountrepresents anaveragedailysupplyof36days.TheoilstoragecapacityasofDecember31,1997forthesePlantswas16,251and1,079,000 barrels,respectively.

TheCompany's shareoftheRosetonPlant'soilstoragecapacityis377,650barrels.During1997,therewerenopurchases offueloilmadefortheDanskammer Plant.During1997,theRosetonPlant'sfueloilrequirements weresuppliedunderoncfirmandtwospotmarketcontracts.

Thepricesunderthefirmcontractweredetermined onthebasisofpublished marketindicesineffectatthetimeofdelivery.

Thetermofthefirmcontractbecameeffective onSeptember 1,1996andcontinues throughAugust31,1998.ThisfirmcontractpermitstheCompanytomakecertainspotpurchases fromothers.Coal:Inordertoprovideforitsfuturerequirements forcoaltobeburnedinUnits3and4attheDanskammer Plant,theCompany,effective JanuaryI,1997,enteredintotwosupplycontracts forthepurchaseofanaggregate of720,000tonsperyearoflowsulfur(0.7%maximum)coal.OnecontractprovidesforthedeliveryofcoalbywaterfromsourcesinVenezuela andColumbia, SouthAmerica.Thebasepriceofpurchases underthiscontractwasfixedfortheperiodwhichendedonDecember31,1997.Asrequiredbythiscontract, thepriceisrenegotiated bythepartiesonanannualbasis.Thecontract, aslastrenegotiated, nowcoversthetermfromJanuary1,1998throughDecember31,2000.Thesecondcontract, whichprovidesforthedeliveryofdomesticcoalbyrail,expiresonDecember31,1998.Thebasepriceofpurchases isfixedforthetermofthatcontract.

TheCompanyhasalsoenteredintoalong-term railcontractforthedeliveryofcoal.ThiscontractcoverstheperiodJanuaryI,1997-December31,2001.Duringthefirsttwoyearsofthiscontract, railratesarefixed,andthereafter, suchrateswillbenegotiated bytheparties.ITheCompanyalsopurchased during1997aportionofitscoalsupplyonthespotmarket.Nuclear:Forinformation regarding fuelreloading atUnitNo.2oftheNineMilePointNuclearStation("NineMile2"),ofwhichtheCompanyownsa9%interest, secItem7hereofunderthesubcaption "NuclearOperations" underthecaption"ResultsofOperations."

Environmental QualityTheCompanyissubjecttoregulation byfederal,stateand,tosomeextent,localauthorities withrespecttotheenvironmental effectsofitsoperations, including regulations relatingtoairandwaterquality,aesthetics, levelsofnoise,hazardous wastes,toxicsubstances, protection ofvegetation andwildlifeandlimitations onlanduse.Inconnection withsuchregulation, certainpermitsarequiredwithrespecttotheCompany's facilities, whichpermitshavebeenobtainedand/orareintherenewalprocess.Generally, eprincipal environmental areasandrequirements towhichtheCompanyissubjectareasfollows:Air:Stateregulations affecting theCompany's existingelectricgenerating plantsgovernthesulfurcontentoffuelusedtherein,theemissionofparticulate matterandcertainotherpollutants thcrcfiom andthevisibility ofsuchemissions.

Inaddition, federall7CentralHudsonGas&ElectricCorporation andstateambientairqualitystandards forsulfurdioxide,nitrogenoxidesandsuspended particulates mustbecompliedwithintheareasurrounding thcCompany's generating plants.Basedontheoperation ofitscontinuous emissionstackmonitoring systemsanditsambientairqualitymonitoring systemintheareasurrounding theRosetonandDanskammer Plants,theCompanybelievesthatpresentairqualitystandards fornitrogenoxides,sulfurdioxideandparticulates aresatisfied inthoseareas.ThcDanskammer Plantburnscoalhavingamaximumsulfurcontentof0.7%,fueloilhavingamaximumsulfurcontentof1%andnaturalgas.ThesulfurcontentoftheoilburnedattheRosetonPlantislimitedbystipulation with,amongothers,theNewYorkStateDepartment ofEnvironmental Conservation

("NYSDEC"),

toanamountnotexceeding 1.5%maximumand1.3%weightedannualaverage.Suchsulfurcontentlimitation attheRosetonPlantcanbemodifiedbytheNYSDECintheeventoftechnological changesatsuchPlant,providedthatthesulfurdioxideandnitrogenoxidesemissions arelimitedtothatwhichwouldhavebeengenerated bytheuseofoilwithasulfurcontentof1.3%onaweightedannualaverage.NaturalgasfuelisalsoburnedattheRosetonPlant.Foradiscussion oftheimpactoftheCleanAirActAmendments of1990("CAAAmendments"

)ontheCompany's effortstoattainandmaintainnationalambientairqualitystandards forcmissions fromitsfossil-fueled electricpowerplantsandforadiscussion oftheproposaloftheFederalEnvironmental Protection Agency("EPA")tomodifyemissionstandards fornitrogenoxidesandsuspended particulates, seeNote9-"Commitments andContingencies,"

hereofunderthecaption,"Environmental Matters-CleanAirActAmendments."

Exceptassetforthabove,theCompanyisunabletopredicttheeffect(including cost)oftheseprogramsonitspowerplantoperations sincethedetailsoftheCAAAmendments areyettobecompletely established byimplementing regulations tobeissuedoveraperiodofyearsbytheEPAandtheNYSDEC.IVntcr:TheCompanyisrequiredtocomplywithapplicable stateandfederallawsandregulations governing thedischarge ofpollutants intoreceiving waters.Thedischarge ofanypollution intonavigable waterways isprohibited exceptincompliance withapermitissuedbytheEPAundertheNationalPollutant Discharge Elimination System("NPDES")

established undertheCleanWaterAct.Likewise, underthcNewYorkEnvironmental Conservation Lawindustrial wastecannotbedischarged intostatewaterswithoutaStatePollutant Discharge Elimination System("SPDES")

permitissuedbytheNYSDEC.IssuanceofaSPDESpermitsatisfies theNPDESpermitrequirement.

TheCompanyhasreceivedSPDESpermitsforboththeRosetonPlantandtheDanskammer Plant,itsEltingsCornersmaintenance andwarehouse

facility, anditsRiftonRecreation andTrainingCenter.TheSPDESpermitsfortheRosetonandDanskammer PlantsexpiredonOctoberIandNovember1,1992,respectively, andsuchpermitrenewalapplications arependingbeforetheNYSDEC.ThcRosctonPlantapplication iscurrently beingreviewedinaNYSDECproceeding.

Thesubjectoftherestriction onuseofwaterforcoolingpurposesatthatPlant(asreferredtoinItem3hereofunderthecaption"Environmental Litigation"

)isbeingconsidcrcd inthatproceeding.

ItistheCompany's beliefthattheexpiredSPDESpermitscontinueinfullforceandeffectpendingissuanceofthenewSPDESpermits.Forfurtherdiscussion oftheCompany's compliance withtheCleanWaterActandtheCompany's SPDESpermitrenewalproceeding, seeNote9-"Commitments andContingencies,"

hereofunderthecaption"Environmental Matters-CleanWaterActCompliance."

ToxicSubstances andHazardous Wastes:TheCompanyissubjecttostateandfederallawsandregulations relatingtotheuse,handling, storage,treatment, transportation anddisposalofindustrial, hazardous andtoxicwastes.TheNYSDECin1986addedtotheNewYorkStateRegistryofInactiveHazardous WasteDisposalSites(the"Registry"

)sixlocations atwhichgasmanufacturing plantsownedoroperatedbytheCompanyorbypredecessors totheCompanywereoncelocated.Twoothersites,whichformerlycontained gasmanufacturing plants,havebeenidentified bytheCompany.TheCompanystudiedtheseeightsitestodetermine whethertheycontainanyhazardous wasteswhichcouldposeathreattotheenvironment orpublichealthand,ifsuchwasteswerelocatedatsuchsites,todetermine theremedialactionswhichmaybeappropriate.

AlloftheseeightsiteswerestudiedusingthePhaseIguidelines oftheNYSDECandfivesuchsiteswerestudiedusingthemoreextensive PhaseIIguidelines oftheNYSDEC.Asaresultofthesestudies,theCompanyconcluded thatnoremedialactionswererequiredatanyofthesesites.In1991,theNYSDECadvisedtheCompanythatfourofthesixsiteshadbeendeletedfromsuchRegistry.

In1992,theNYSDECadvisedtheCompanythatthetworemaining siteslistedontheRegistryhadbeendeletedfromtheRegistry.

ThcNYSDECalsoindicated thatsuchdeletions ofthesitesweresubjecttoreconsideration inthefuture,atISCentralHudsonGas&ElectricCorporation whichtimenewanalytical testsmayberequiredtodetermine whetherornotwastesonsitearehazardous.

If,asaresultofsuchpotential newanalytical tests,orotherwisc, remedialactionswereultimately requiredatthesesitesbytheNYSDEC,thecostthereofcouldhaveamaterialadverseeffect(theextentofwhichcannotbereasonably estimated) onthcfinancial condition oftheCompanyiftheCompanycouldnotrecoverall,orasubstantial portionthereof,throughinsurance andrates.Foradiscussion oFlitigation filedagainsttheCompanyinvolving oneoftheeightsitesbytheCityofNewburgh, NewYorkandtheCompany's responsethereto,seeNote9-"Commitments andContingencies,"

hereofunderthesubcaption "Environmental Matters-FormerManufactured GasPlantFacilities."

InAugust1992,theNYSDECnotifiedtheCompanythattheNYSDECsuspected thattheCompany's officesatLittleBritainRoadinNewWindsor,NewYork,mayconstitute aninactivehazardous wastedisposalsite.PursuanttoaConsentOrderenteredintobetweentheCompanyandtheNYSDEC,theCompanyperformed apreliminary siteassessment and,onJanuary31,1996,adraftfinalreport("siteassessment rcport")preparedbytheCompany's consultant wassubmitted totheNYSDECforitsreview,evaluation andcomment.AsaresultoftheNYSDEC'sreviewofthissiteassessmcnt report,theCompanyagreedtoperformadditional testing.Thedraftrcportonthisadditional testingwassubmitted tothePIYSDEConDecember6,1996.Thesereportsbothindicated thatalimitedamountofsubsurface soilcontamination wasdetectednearonecornerofthesiteandthatcontaminants werealsodetectedinthegroundwaterbeneaththesite.Operations conducted onthcsitebythcCompanysinceitpurchased thepropertyin1978arenotbelicvcdtohavecontributed toeitherthesoilorthcgroundwatercontamination.

TheCompanycanmakeno(i)prcdiction regarding w)iatactionthcNYSDECmaytakewithregardtothedraftreports,or(ii)prediction astotheoutcomeofrecoveryattemptsagainstthirdpartiesbytheCompany.However,theCompanybelievesthatthecostofsuchsiteassessment andremediation, ifany,willnotbematerial.

Other:ThcCompanyestimates thatexpenditures attributable, inwholeorinsubstantial part,toenvironmental considerations totaled$8.4millionin1997,ofwhichabout$.5millionrelatedtocapitalprojectsand$7.9millionwerechargedtoexpense.Itisestimated thatin1998thetotalofsuchexpenditures willbeapproximately

$10.6million.ThcCompanyisnotinvolvedasadefendant inanycourtlitigation withrespecttoenvironmental mattersand,tothebestofitsknowledge, nolitigation againstitisthreatened withrespectthereto,exceptwithrespecttothelitigation described inItem3hereofunderthecaptions"Environmental Litigation" and"Environmental Claims-NewburghManufactured GasSite,"andasdescribed inMote9-"Commitments andContingencies,"

underthecaption"Environmental Matters-FormerManufactured GasPlantacilities."

tResearchandDevelopment TheCompanyisengagedintheconductandsupportofresearchanddevelopment

("R&D")activities thatarefocusedonproviding enhancedcustomerserviceatlowercostswhileimproving existingenergytechnologies anddeveloping newtechnologies relatedtotheproduction, distribution andconservation ofenergy.ThcCompanylcvcragcs itsR&Dexpenditures bycontributing toprojectssponsored byvariousstateandnationalresearchconsortia andseekingexternalfundingforthosesponsored bytheCompany.Inaddition, NewYorklawrequireselectricandgasutilitics tocontribute toresearchundertaken bytheNewYorkStateEnergyResearchandDevelopment Authority.

TheCompany's expenditures, netofrevenuesfromroyalties, forelectricandgasresearchanddevelopment projectsamountedto$3.3millionin1996and$3.6millionin1997.TheCompanyprojectsthatits1998expenditures forresearchanddevelopment willtotalapproximately

$3.4million.OtherMattersMunicipal Utilities:

Article14-AofthcNewYorkGeneralMunicipal Lawpermitsanymunicipality toconstruct, lease,purchase, own,acquire,uscand/oroperateanyutilityserviceforthebenefitofitsinhabitants, and,infurtherance thereof,permitsanymunicipality toacquire,throughpurchaseorcondemnation, thepublicutilityserviceofanypublicutilitycompany.Thecurrentandprojected excesssupplyofelectricity intheNortheastern UnitedStatesandinCanadahassignificantly depressed wholesale prices,andtheincreased levelofcompetition inthcelectricutilityindustrycouldcausemunicipalization effortstointensify.

ThcCompanyisnotawareofanymunicipalization effortsinitsfranchise area.PASNYEconomicDevelopment PowcriTheNewYorkStateEconomicDevelopment PowerAllocation Boardisauthorized lawtosolicitapplications for"economic development power"bymunicipalities ormunicipal agcncicsonbehalfofbusinesses hichnormallyuseaminimumpeakelectricdemandof400kWforpurposesofeconomicdevelopment, particularly jobcreation.

"Economic Development Power"("EDP")iselectricpowergenerated attheFitzpatrick NuclearGcncrating StationofthePowerAuthority oFtheStateofNewYork("PASNY")

whichisavailable forsuchpurpose.Shouldsuchpowerbcallocated toacustomerwithintheCompany's serviceterritory, theCompanywouldberequiredtowheelsuchpowertotheuseratacost-based rate,whichmustbeapprovedbythePSCand/orbytheFERC.l9CentralHudsonGas&ElectricCorporation AsofDecember31,1997,theCompanyisnotawareofanyofitselectriccustomers havingappliedforsuchEDP.Inaddition, in1997theNewYorkStateGovernorsignedlegislation making400MWoflowcostpoweravailable tocommercial andindustrial customers aswellasnot-for-profit organizations.

Energyavailable underthis"PowerforJobs"programwillbeobtainedfromPASNYaswellascompetitively bidsources,including privateutilities.

TheCompanywillreceiveacreditagainstitsgrossreceiptstaxliability, underSection186-aoftheNewYorkTaxLaw,foranylostrevenueresulting fromcustomers participating inthisprogram.ElectricEconomicDevelopment Rate:TheCompany's tariffincludesaneconomicdevelopment electricratediscountprovision forlargeindustrial customers (whichexhibitnewannualelectricloadof500kWormore)takingsubstation ortransmission serviceandlocatingorexpanding theirbusinessoperations withintheCompany's serviceterritory.

Certainenergyefficiency guidelines mustalsobemetbyeligiblecustomers.

Qualifying customers paylowerelectricpricesfortheincreased load,withsavingsoncurrentratesfortenyears.Customers mustapplyforthediscountbyOctoberI,1999.AsofDecember31,1997,theCompanyhadfourindustrial customers participating underthisratestructure.

LaborRelations:

TheCompanyhasagreements withtheInternational Brotherhood ofElectrical Workersforits834unionized employees, representing production andmaintenance employees, customerrelations representatives, serviceworkersandclericalcmployces, excluding personsinmanagerial, professional orsupervisory positions, whichagreements wererenegotiated effective July1,1994andcontinuethroughJune30,1998.Theagreements provideforanaveragegeneralwageincreaseof3.2%ineachofthefirstthreeyearsofsuchagreements anda3.5%increaseinthefourthyearofsuchagreements, andcertainadditional fringebenefits.

Afliliatcs:

iI':CentralHudsonEnterprises Corporation

("CHEC")isengagedinthebusinessofconducting energyaudits,providing servicesrelatedtothedesign,financing, installation andmaintenance ofenergyconservation measuresandcogeneration systemsforprivatebusinesses, institutional organizations andgovernmental entitiesandparticipates incogeneration, smallhydroandalternate energyproduction

projects, directlyorthroughoneormorcofitsaffiliates.

ann.nni1:Thesecorporations, eachawholly-owned subsidiary oftheCompany,wereestablished toeitherholdrealpropertyforthefutureuseoftheCompanyortoparticipate inenergy-related ventures.

Currently, theassetsheldbythesesubsidiaries arenotmaterial.

CHECandtheothersubsidiaries notedabove(withtheexception ofPhoenixDevelopment Company,Inc.)wouldbecomesubsidiaries ofaproposedholdingcompanyaspartofarestructuring oftheCompanydescribed inItem7hereofunderthecaption,"Competition/Deregulation

-Competitive Opportunities Proceeding" andinNoteI-"Regulatory Matters"hereofunderthecaption"AmendedSettlemcntAgreement."

Executive OfficersoftheCompanyThenamesofthecurrentofficersoftheBoardofDirectors andtheexecutive officersoftheCompany,theirpositions heldandbusinessexperience duringthcpastfive(5)yearsandages(atDecember31,1997)areasfollows:NameofOfficer,AgeandPositionHeldOfficersoftheBoardPrincipal Occupation orEmploymcnt andPositions andOfficeswiththeCompanyduringthepastfive(5)yearsJohnE.Mack,III,63,ChairmanofthcBoardandChiefExecutive Officer;ChairmanoftheExecutive, Retirement andFinanceCommittees Presentpositions, exceptChairmanoftheCommittee onFinance,April1996JackEffron,64,ChairmanofCommittee onCompensation andSuccession PresentpositionsinceApril1994;President ofEFCOProducts, abakeryingredients corporation; memberoftheSt.FrancisHealthCareFoundation; ChairmanoftheChiefExecutive's NetworkforManufacturing oftheCouncilofIndustryofSoutheastern NewYorkHeinzK.Fridrich, 64,ChairmanofCommittee onAudit20CentralHudsonGas&ElectricCorporation PresentpositionsinceApril1995;CourtesyProfessUniversity ofFloridaatGainesville, since1994;VicePresident

-Manufacturing, International BusinessMachinesCorporation, December1992-September 1993;BoardofTrustees; MountSt.MaryCollege Executive OfficersoftheCompanyNameofOfficer,AgeandPositionHeldPaulJ.Ganci,59,President andChiefOperating OfficerPrincipal Occupation orEmployment andPositions andOfficeswiththeCompanyduringthepastfive(5)yearsPresentpositionCarlE.Meyer,50,Sr.VicePresident

-CustomerServicesPresentpositionsinceApril1996;VicePresident-CustomerServices, December1992-April1996AllanR.Page,50,Sr.VicePresident

-Corporate ServicesPresentpositionsinceApril1996;VicePresident-Corporate

Services, December1992-April1996JosephJ.DeVirgilio, Jr.,46,VicePresident

-HumanResources andAdministration PresentpositionRonaldP.Brand,59,VicePresident

-Engineering andEnvironmental AffairsPresentpositionEllenAhearn,43,Secretary PresentpositionsinceApril1994;Assistant Secretary andInternalAuditingManager,December1992-April1994StevenV.Lant,40,Treasurer andAssistant Secretary Presentpositions sinceApril1993;Assistant Treasurer andAssistant Secretary, December1992-April1993DonnaS.Doyle,49,Controller PresentpositionsinceApril1995;Assistant Controller April1994-April1995;ManagerofTaxes,BudgetsandCustomerAccounting, April1993-April1995,ManagerofPlantandDepreciation andGeneralAccounting, December1992-April1993ArthurR.Upright,54,Assistant VicePresident

-CostandRateandFinancial PlanningPresentpositionsinceFebruary1994;ManagerCostandRateandFinancial

Planning, December1992-February1994GladysL.Cooper,46,Assistant VicePresident

-Governmental Relations PresentpositionsinceSeptember 1995;leaveofabsenceforeducational purposesDecember1992-September 1995;Secretary, December1992-April1994JamesP.Lovette,48,Assistant VicePresident

-FossilProduction PresentpositionsinceOctober1997;PlantSuperintendent, December1992-November1997Therearenofamilyrelationships existingamonganyoftheexecutive officersoftheCompany.Eachoftheaboveexecutive officersiselectedorappointed annuallybytheBoardofDirectors.

2ICentralHudsonGas&ElectricCorporation ITEN2Properties ElectricGeneral:Thenetcapability oftheCompany's electricgenerating plantsasofDecember31,1997,thenetoutputofeachplantfortheyearendedDecember31,1997,andtheyeareachplantwasplacedinserviceorrehabilitated areassetforthbelow:ElectricGenerating Plant(MW)*NetCapability (96-97)1997UnitTeofFuelYearPlacedInServiceSummerWinterNetOututMWhDanskammerPlant**ResidualOil,1951-1967 NaturalGasandCoal4994972,359,884 RosetonPlant(35%share)**ResidualOilandNaturalGas1974422419510,944Nevcrsink HydroStationWater1953232370/10Dashville HydroStationWater192011,752SturgeonPoolHydroStationHighFallsHydroStationWaterWater19241986161653@527/97Coxsackic GasTurbine("GT")KeroseneorNaturalGas196920253,128So.CairoGTNineMile2Plant(9%share)KeroseneNuclear1970198819212,008102104794,475Total1,1071,1123,813350Rejlectsmaxitnumone.hournetcapability oftheCompany's ownership ofgeneration resources and,therefore, doesnotincludefinnpurchases orsales.~~PlantssubjecttoauctionbasedonAmendedSettlement Agreement asdescribed inItem7hereofunderthccaption"Cotnpetition/Deregulation

-Competitive Opportunities Proceeding" andinblateI-"Regulatory hfatters."

TheCompanyhasacontractwithPASNYwhichentitlesthcCompanyto49MWnetcapability fromthcBlenheim-Gilboa PumpedStorageHydroelectric Plantthrough2002.SeeItem1hereof,underthecaption"Regulation" andthesubcaption "Purchased ElectricPowerGeneration,"

withrespecttoalternative electricpowergeneration interconnected withtheCompany's system..ThcCompanyowns83substations havinganaggregate transformer capacityof4AmillionkVA.Thetransmission systemconsistsof588polemilesoflineandthedistribution systemof7/94polemilesofoverheadlinesand856trenchmilesofunderground lines.LoadandCapacity:

TheCompany's maximumone-hourdemandwithinitsownterritory, fortheyearendedDeccmbcr31,1997,occurredonJuly15,1997andamountedto917MW.TheCompany's maximumone-hourdemandwithinitsownterritory, forthatpartofthc1997-1998 wintercapability periodthroughFebruary9,1998occurredonDecember10,1997andamountedto752MW.Basedoncurrentprojections ofpeakone-hourdemandsforthethree-year periodcomprising thc1998summercapability periodthroughthewintercapability periodof2000-2001, theCompanyestimates thatitwillhavecapacityavailable tosatisfyitsprojected peakdemandsplustheestimated installed reservegcncrating capacityrequirements whichitisrequiredtomaintainasamemberofthcNewYorkPowerPool("NYPP"),

described herein.22CentralHudsonGasRElectricCorporation Thefollowing tablesetsforththeamountsofanyexcesscapacitybysummerandwintercapability periodsforsuchthree-year period:Capability PeriodForecasted Peak(MW)ExcessofCapacityoverPeakPlusPeakPlusInstalled Available NYPPInstalled ReserveRequirements Reserveof18%(MW)Caacit(MW)(MW)Percent1998Summer1998-99Winter1999Summer1999-00Winter2000Summer2000-01Winter910870925885940905107410744109210924'109 1109*117411791174117911741179100105828765709.39.87.58.05.96.3*Summerperiodpeakplusreserverequirements carryovertothefollowing winterperiod.RosctonPlant:TheRosetonPlantislocatedintheCompany's franchise areaatRoseton,NewYork,andisownedbytheCompany,Consolidated EdisonCompanyofNewYork("ConEdison")andNiagaraMohawkPowerCorporation

("NiagaraMohawk")astenants-in-common.

TheRosetonPlant,placedincommercial operation in1974,hasagenerating capacityof1,200MWconsisting oftwo600MWgenerating units,bothofwhicharecapableofbeingfiredeitherbyresidualoilornaturalgas(seesubcaption belowentitled"Gas-Sufficiency ofSupplyandFutureGasSupply").ThcCompanyisactingasagentfortheownerswithrespecttooperation oftheRosetonPlant.Generally, theownerssharethecostsandexpensesoftheoperation ofsuchPlantinaccordance withtheirrespective ownership interests.

TheCompany,undera1968Agreement

("BasicAgreement"

),hastheoptiontopurchasethcinterests ofNiagaraMohawk(25%)andofConEdison(40%)intheRosetonPlantinDecember2004.TheexerciseofthisoptionissubjecttoPSCapproval.

However,byagrecmcnt, datedMarch30,1994,betweentheCompanyandNiagaraMohawk,NiagaraMohawkwasgiven,amongotherthings,anoptiontoretainits25%interestintheRosetonPlant,providedthatNiagaraMohawkexercises suchoptionbyMay31,1999.InMarch1997,NiagaraMohawkandtheCompanyenteredintoaPowerSalesandOptionAgreement which,amongotherhings,providestheCompanywithvariousoptionsfrom1998through2004topurchasecapacityandassociated energyfromNiagaraMohawk'sinterestintheRosetonPlant.OnDecember1,1997,aspartofitsrestructuring

proposal, NiagaraMohawkfiledwiththePSCaplantodivestitsfossil-fueledandhydroelectric generating assetsbyauctionbymid-1999.

NiagaraMohawk's25%interestintheRosetonPlantwouldbepartofsuchdivestiture.

AspartofConEdison'sAmendedandRestatedAgreement andSettlement, asamendedonSeptember 19,1997,betweenConEdison,theStaffofthcPSC("Staff')andothers,andasapprovedbythePSCbyitsOrderissuedandeffective November3,1997,ConEdisonagreedtodevelopaplantodivestandtransfercertainofitselectricgenerating assetstounregulated

entities, including thirdpartiesandConEdisonaffiliates, bytheendof2002.ConEdison's40%interestintheRosetonPlantwouldbesubjecttosuchdivestiture.

TheCompanycannotpredictwhateffectanyauction/transfer ofNiagaraMohawk'sand/orConEdison'sinterests intheRosetonPlantwouldhaveontheCompany's interestintheRosetonPlant.Forinformation withrespecttotheCompany's obligation todivestitselfofitsinterestintheRosctonPlant,seeItem7hereofunderthecaption"Competition/Deregulation

-Competitive Opportunities Proceeding" andNote1-"Regulatory Matters,"

underthesubcaption "AmendedSettlement Agreement."

The345kVtransmission linesandrelatedfacilities toconnecttheRosetonPlantwithotherpointsinthesystemoftheCompanyandwiththesystemsofConEdisonandNiagaraMohawktothenorthandwestofsuchPlantare100%-owned bytheCompany.TheshareofeachofthepartiesintheoutputoftheRosetonPlantistransmitted overtheselinespursuittoacertaintransmission agreement relatingtosuchPlant,whichprovides, amongotherthings,forcompensation totheCompanyforsuchusebytheotherparties.Inaddition, theCompanyhascontractrightswhichentitletheCompanytothelesserof300MW,oronequarterofthccapacityina345kVtransmission lineownedbyPASNY,whichconnectstheRosetonPlantwithaConEdisonsubstation totheeastofsuchPlantinEastFishkill, NewYork.Inexchangefortheserights,theCompanyagreedtoprovideASNYcapacityinthe345kVtransmission linestheCompanyownsfromtheRosetonPlant,totheextentitcandosoaftertisfyingitsobligations toConEdisonandNiagaraMohawk.NineMile2Plant:Foradiscussion oftheCompany's ownership interestin,costsfor,andcertainoperating mattersrelatingtotheNineMile2Plant,seeItem7hereofunderthesubcaption "NuclearOperations,"

Note3-"NineMile2Plant,"andNote2-"SummaryofSigniTicant Accounting Policies,"

underthesubcaption "Jointly-Owned Facilities."

23CentralHudsonGas&ElectricCorporation NewYorkPowerPool/Independent SystemOperatorTheCompanyisamemberoftheNYPPconsisting ofthemajorinvestor-owned electricutilitycompanies intheStateandPASNY.ThemembersoftheNYPP,byagreement, provideforcoordinated operation oftheirbulkpowerelectricsystemswiththeobjectives ofusingthemosteconomical sourceofelectricity, forthemaintenance ofareservemarginequaltoatleast18%ofeachmember'sforecasted peakloadandforthesaleandinterchange ofelectricgenerating capability andenergyamongsuchmembers.ThemembersoftheNYPPalsoprovideforthecooperative development oflong-range plansfortheexpansion onanintegrated basisofthebulkpowersupplysystemforNewYorkState,compatible withenvironmental standards, andappropriately relatedtointerstate andinternational capacityandreliability considerations.

Aspartoftheongoingdiscussions regarding therestructuring oftheelectricindustryinNewYorkStatereferredtoinItem7hereofunderthecaption"Competition/Deregulation,"

proposals havebeenmadetorestructure theNYPP.InafilingwithFERC,datedJanuary31,1997,themembersystemsoftheNYPPproposedanewmarketstructure thatwouldincludeasitskeyelementstheestablishment ofanIndependent SystemOperator("ISO"),theNewYorkStateReliability Council("NYSRC"),

andtheNewYorkPowerExchange("NYPE").

TheISO,NYSRCandNYPEwouldcollectively replacetheNYPP.Asupplemental filingexpanding theproposedrestructure ofNYPPwasmadebyNYPPtoFERCinDecember, 1997.TheCompanyisunabletopredicttheoutcomeoftheseFERCfilings.TheISO'sprincipal missionwouldbetomaintainthereliability oftheNewYorkStatebulkpowersystemsandtoprovidetransmission serviceonacomparable andnon-discriminatory basis.TheISOwouhlbeopentobuyers,sellers,consumers andenvironmental groupsandtransmission providers; eachofthesegroupswouldberepresented ontheBoardofDirectors oftheISO,whichisproposedtobeanot-for-profit NewYorkcorporation.

TheNYSRC'smissionwouldbetopromoteandpreservethereliability ofthebulkpowersystemwithinNewYorkState,throughitsprimaryresponsibility forthepromulgation ofreliability rules;theISOwoulddeveloptheprocedures necessary tooperatethesystemwithinthesereliability rules.TheNYSRCisproposedtobegovcrncdbyacommittee comprised oftransmission providers andrepresentatives ofbuyers,sellers,andconsumerandenvironmental groups.TheNYPEisproposedtobeestablished asanon-profit corporation thatwouldprovideavehiclethroughwhichbuyersandsellerscouldparticipate inthemarketsforenergy,capacityandancillary services.

GasGeneral:TheCompany's gassystemconsistsof161milesoftransmission pipelines and977milesofdistribution pipelines.

During1997,naturalgaswasavailable tofirmgascustomers atapricecompetitive withthatofalternative fuels.Ascomparedto1996,in1997,firmretailgassales,normalized forweather,increased by1.17%andtheaveragenumberoffirmgascustomers increased by1.43%or867.Salestointerruptible customers increased 111%in1997ascomparedto1996.Forfurtherintormation regarding theCompany's incentive arrangements forinterruptible gassales,seeItem7hereofunderthesubcaption "Interruptible GasSales."FortheyearendedDecember31,1997,thetotalamountofgaspurchased fromallsourceswas19,397,777 Mcf.,whichincludes1,831,307 Mcf.purchased directlyforuseasaboilerfuelattheRosetonPlant.TheCompanyalsoownstwopropane-air mixingfacilities foremergency andpeakshavingpurposeslocatedinPoughkeepsie andinNewburgh, NewYork.Eachfacilityiscapableofsupplying 8,000Mcf.perdaywithpropanestoragecapability adequatetoprovidemaximumfacilitysendoutforuptothreeconsecutive days.SufIiciency ofSupplyandFutureGasSupply:ThepeakdailydemandfornaturalgasbytheCompany's customers fortheyearendedDecember31,1997occurredonJanuary18,1997andamountedto101,175Mcf.TheCompany's peak-daygascapability in1997was116,865Mcf.ThepeakdailydemandfornaturalgasbytheCompany's customers forthatpartofthe1997-1998 heatingseasonthroughFebruary9,1998,occurredonDecember3,1997andamountedto88,903Mcf.FixedPriceOption:ByPSCOrderissuedandeffective June5,1997,theCompanyfiledaratedesignforafixednaturalgaspriceoption.Thefixedpriceserviceoptionwasmadeavailable tofirmsalescustomers effective withthe1997-98heatingseasoninanattempttostabilize thecommodity pricethatcustomers payfornaturalgas.Thisoptionisofferedtoresidential, commercial andindustrial customers whoseannualconsumption isgreaterthan500Ccf(hundredcubicfeet)annually.

Approximately 36,000customers qualified fortheprogramonafirst-come, first-service basis.Responsetothefixedpriceoptionwasfavorable.

Other:FERCpermitsnon-discriminatory accesstothepipelinefacilities ofinterstate gaspipelinetransmission companies subjecttothejurisdiction ofFERCundertheNaturalGasAct.Thisruleallowsaccesstosuchpipelincs bythepipelinetransmission company's customers enablingthemtotransport gaspurchased directlyfromthirdpartiesandspotsourcesthroughsuchpipelines.

Suchaccessalsopermitsindustrial customers ofgasdistribution utilities toconnectdirectlywiththepipeline24CentralHudsonGas&ElectricCorporation transmission companyandtocontractdirectlywiththepipelinetransmission companies totransport gas,therebyby-passing thedistribution utility.ThePSChasauthorized NewYorkStatedistribution gasutilities totransport customer-owned gasthroughitsfacilities uponrequestofacustomer.

Currently, interstate pipelinetransmission companies arelocatedincertainareaswheretheCompanyprovidesretailgasservice(theTownsofCarmel,PleasantValley,Coxsackie, andLaGrangeinNewYorkState).TherehasbeennoadverserevenueimpactontheCompanyasaresultofsuchactionbytheCompanytotransport gas.Foradiscussion ofthePSCproceeding relatingtoissuesassociated withtherestructuring ofthenaturalgasmarket,seeItem7hereofunderthesubcaption "Competition/Deregulation

-NaturalGas-PSCPositionPaper."OtherMattersTheDanskammer PlantandtheRosetonPlantandalloftheotherprincipal generating plantsandimportant propertyunitsoftheCompanyareheldbyitinfeesimple,except(1)certainrights-of-way, and(2)aportionofthepropertyusedinconnection withthehydroelectric plantsofthcCompanyconsisting offlowageorotherriparianrights.TheCompany's presentinterests intheRosetonPlantandtheNineMile2Plantareownedasundivided interests asatenant-in-common withtheotherutilityownersthereof.Certainoftheproperties oftheCompanyarcsubjecttorights-of-way andeasements whichdonotinterfere withtheCompany's operations.

Inthccaseofcertaindistribution lines,theCompanyownsonlyapartinterestinthepolesuponwhichitswiresareinstalled, theremaining intcrcstbeingownedbytelephone companies.

Certainelectrictransmission facilities ownedbyothersareusedbytheCompanypursuanttolong-term contractual arrangements.

Allofthephysicalproperties oftheCompany,otherthanpropertysuchasmaterialandsuppliesexcludedintheCompany's FirstMortgageBondIndenture

("Mortgage"

)anditsfranchises, aresubjecttothelienoftheMortgageunderwhichallofitsMortgageBondsareoutstanding.

Suchproperties arefromtimetotimesubjecttoliensforcurrenttaxesandassessments whichtheCompanypaysregularly asandwhendue.Duringthethree-year periodendedDecember31,1997,theCompanymadegrosspropertyadditions of$144.0millionandpropertyretirements andadjustments of$34.7million,resulting inanctincrease(including Construction WorkinProgress) inutilityplantof$109.3million,or7.7%.ITEN3LegalProceedings AsbestosLitigation:

Foradiscussion oflitigation againsttheCompanyinvolving

asbestos, seeNote9-"Commitments andContingencies,"

hereofunderthecaption"Asbestos Litigation."

Environmental Litigation:

OnMarch23,1992,inanactionbroughtin1991bytheNaturalResources DefenseCouncil,Inc.,theHudsonRiverFisherman's Association andScenicHudson,Inc.,aConsentOrderwasapprovedbytheSupremeCourtoftheStateofNewYork,AlbanyCounty.SuchConsentOrderprovidesforcertainoperating restrictions attheRosetonPlantrelatingtotheuseofriverwaterforplantcoolingpurposes, whichrestrictions havenot,andarenotexpectedtoimposematerialadditional costsontheCompany.TheConsentOrderwasextendeduntilFebruary1,1998byagrccment ofthcpartiesandCourtapproval.

Afurtherextension isbeingcurrently negotiated.

Foradescription ofthependingNYSDECproceeding involving therenewaloftheSPDESpermitfortheRosctonPlant,seeItem1hereofunderthesubcaption "Environmental Quality-Water,"andNote9-"Commitments andContingencies,"

underthecaption"Environmental Matters-CleanWaterActCompliance."

Environmental Claims-NcwburghManufactured GasSite:Foradiscussion oflitigation filedagainsttheCompanybytheCityofNewburgh, NewYork,onMay26,1995inthcUnitedStatesDistrictCourt,SouthernDistrictofNewYork,andtheCompany's responsethereto,seeNote9-"Commitments andContingencies,"

underthesubcaption "Environmental Mattcrs-FormerManufactured GasPlantFacilities."

CatskillIncident:

Anexplosion occurredinadwellingintheCompany's gasserviceterritory inCatskill, NewYorkinNovember1992whichresultedinpersonalinjuries, thedeathofanoccupantandpropertydamage.Lawsuitshavebeencommenced againsttheCompanyarisingoutofsuchincident, including thefollowing:

Bycomplaint, datedFebruary2,1994,CarlFatzinger, asexecutoroftheestateofMildredFatzinger, andVirginiaFatzinger ommencedanactionintheSupremeCourtoftheStateofNcwYork,GreeneCounty,againsttheCompanyandtwoother25CentralHudsonGas&ElectricCorporation defendants.

Thecomplaint seeksanunspecified amountofcompensatory andpunitivedamagesbasedontheoriesofnegligence, absoluteliability andgrossnegligence forthedeathofMildredFatzinger, personalinjuriestoVirginiaFatzinger andpropertydamageallegedtohavebeencausedbysaidexplosion.

Bycomplaint, datedOctober18,1993andfiledintheSupremeCourtoftheStateofNewYork,GreeneCounty,FrankReyescommenced anactionagainsttheCompanyforunspecified personalinjuriesandpropertydamageallegedtohavebeencausedbysaidexplosion.

Thecomplaint seeks$2,000,000 incompensatory damagesand$2,000,000 inpunitivedamagesfromtheCompany,basedontheoriesofnegligence andgrossnegligence.

TheCompanyisinvestigating theseclaimsandpresently hasinsufficient information onwhichtopredicttheiroutcome.TheCompanybelievesthatithasadequateinsurance withregardtotheclaimsforcompensatory damages.TheCompany's insurance, however,doesnotextendtopunitivedamages.Ifpunitivedamageswercultimately awardedineitherorbothoftheselawsuits, suchaward(s)couldhaveamaterialadverseeffectonthefinancial condition oftheCompany.Atthistime,theCompanycanmakenoprediction astoanyotherlitigation whichmayariseoutofthisincident.

Wapplngcrs FallsIncident:

Twoconsecutive firesandexplosions occurredonFebruary12,1994,destroying aresidence andcommercial establishment intheVillageofWappingers Falls,NewYork,intheCompany's serviceterritory.

Lawsuitshavebeencommenced againsttheCompanyarisingoutofsuchincident, including thefollowing:

OnAugust31,1994,theCompanywasservedwithasummonsandcomplaint inanactionbroughtbyJohnDeLorenzo againsttheCompanyandtheVillageofWappingers FallsintheSupremeCourtoftheStateofNewYork,CountyofDutchess.

Thecomplaint seeksunspecified amountsofdamages,basedonatheoryofnegligence, forpersonalinjuriesandpropertydamageallcgcdtohavebeencausedbytheincident.

OnMarch9,1995,theCompanywasservedwithasummonsandcomplaint inanactionbroughtbyCengizCeng,individually andasexecutorunderthelastwillandtestament ofNizamettin Ccng,andTarkanThomasCengagainsttheCompanyandtheVillageofWappingers FallsintheSupremeCourtofthcStateofNewYork,CountyofDutchess.

Thecomplaint sccksrecoveryof$250,000fromtheCompany,basedonthetheoryofnegligence, forpropertydamagesallegedtohavebeencausedbythcincident.

TheCompanyisinvestigating theseclaimsandprcscntly hasinsufficient information onwhichtopredicttheiroutcome.TheCompanybelievesthatithasadequateinsurance withregardtotheclaimsforcompensatory damages.TheCompany's insurance, howcvcr,doesnotextendtopunitivedamages.Ifpunitivedamageswereultimately awarded,inanyoftheselawsuits, suchaward(s)couldhaveamaterialadverseeffectonthefinancial condition oftheCompany.Atthistime,theCompanycanmakenoprediction astoanyotherlitigation whichmayariseoutofthisincident.

ITEN4Submission ofNatterstoaVoteofSecurityHoldersNomatterwassubmitted toavoteofsecurityholdersduringthefourthquarteroftheCompany's fiscalyearcoveredbythisReport.PARTIIITEN5NarketfortheCompany's CommonEquityandRelatedStockholder NattersForinformation regarding themarketfortheCompany's commonstockandrelatedstockholder matters,seeItem7hereofunderthecaptions"CapitalResources

&Liquidity

-Financing Program"and"CommonStockDividends andPriceRanges"andNote6-"Capitalization

-CapitalStock."Pursuanttoapplicable statutesanditsCertificate ofIncorporation, theCompanymaypaydividends onsharesofPreferred andCommonStockonlyoutofsurplus.Forinformation regarding thereplacement, effective January1,1997,oftheCompany's Automatic DividendReinvestment andStockPurchasePlan("DRP"),CustomerStockPurchasePlan("CSPP")andEmployeeStockPurchasePlan("ESPP"),

byasinglenewStockPurchasePlan,seeNote6-"Capitalization

-CapitalStock."Forinformation ontheCompany's programtorepurchase someofitsissuedandoutstanding commonstockpursuanttoaprogramapprovedbythePSC,seeItem7hereofunderthecaption"Financing Program."

26CentralHudsonGas&ElectricCorporation ITEN6SelectedFinancial Data$411,082$422,92510458694448520,277513,971512,215515,668517,373Five-Year SummaryofConsolidated Operations andSelectedFinancial Data*ttnThousands)

Operating RevenuesElectric$416,429$418,761$409,445Gas.10384895210102770TotalOperating ExpensesOperations Maintenance

..........

Depreciation andamortization

...Taxes,otherthanincometax......Federalincometax.TotalOperating Income284,71427,57443,86464,87929190267,77928,93842,58066,14532700274,66529,44041,46766,7092904045022143814244132170,05675,82970,894274,49732,71640,38066,89928043274,47734,48639,68265,5642860344253544281273,13374,561OtherIncomeAllowance forequityfundsusedduringconstruction

...FederalincometaxOther-netTotal3874669862,9531,632353807948158886114196,91310,2258661,23762968,3999341,44551677,546IncomebeforeInterestCharges...InterestChargesNctIncomePremiumonPreferred StockRedemption

-NetDividends DcclarcdonCumulative Preferred Stock...............

IncomeAvailable forCommonStock.......Dividends DeclaredonCommonStock....AmountRetainedintheBusiness.............

RetainedEarnings-beginning ofyear.....RetainedEarnings-endofyear................

81)47582,74281,1192638926,66028,39755,08656,08252,7223781693,2303,2304,90351,8537,13737,12836,45915,3469047514,71910582111,19179284$120,540$105,821$90,47581,53230,60350,92982,10731,71750,3905,1275,56235,54134,49710,3315869210,26169023$79,284$69,023CommonStockAveragesharesoutstanding (000s).....Earningspershareonaveragesharesoutstanding

..........

Dividends declaredpershare..............

Bookvaluepershare(atyear-end)

....17,435$2.97$2.135$27.6117,549$2.99$2.115$26.8717,380$2.74$2.095$25.9617,102$2.68$2.075$25.3416,725$2.68$2.045$24.65$1,264,240 391,81081,030417,846$1,249,106 362,04056,030471,709$1,250,781 389,36481,030436,731$1,250,092 389,24569,030454,239$1)252,090 361,82956,0304777104TotalAssets.Long-term DebtCumulative Preferred Stock..........................

CommonEquityThissummaryshouldbereadinconjunction withtheConsolidated Financial Statements andNotestheretoincludedinItem8ofthisForm10-K.27CentralHudsonGas&ElectricCorporation lTEN7Nanagement's Discussion AndAnalysisOfFinancial Condition AndResultsOfOperations 0COMPETITION/DEREGULATION GeneralTheregulatory framework underwhichutilities operateisundergoing significant change,althoughthepathandpaceofthatchangevaryfromjurisdiction tojurisdiction.

TheCompanyissubjecttoregulation forretailratesbythePSCandwholesale ratesbytheFERC.Theseagencieshaveeachadoptedpoliciesthatfocusoncompetition ingasandelectricmarkets.Asaresult,thepublicutilityindustryisfacingincreasing competition anddcrcgulation initiatives acrossthecountryandinNewYorkState.Duetotherapidchangeintheutilityindustry, theCompanycontinues todevelopstrategies designedtoenhanceitscompetitive positionandtoadapttoanticipated changesinitsbusiness.

TheCompany's goalistobetheenergyservicesproviderofcompetitive choiceintheemergingretailmarket.Inordertoachievethisgoal,theCompanycontinues toidentifyandimplement measurestoincreaseefficiency andimproveeffectiveness.

Competitive Opportunities Proceeding In1994,thePSCinstituted the"Competitive Opportunities Proceeding,"

theoverallobjective ofwhichistoidentifyregulatory andrate-making practices thatwillassistinthetransition toamorecompetitive electricindustry.

InMay1996,thePSCissueditsorderinthatProceeding, whichrequiredalloftheelectricutilities subjecttothatProceeding, including theCompany,tofilearestructuring planbyOctober,1996.ThatPlanwasrequiredtoaddress,amongotherthings,thestructure oftheelectricutility,bothintheshortandlong-term, andaschedulefortheintroduction ofretailaccess.TheCompanyfileditsresponseonOctober1,1996andthereafter beganaseriesoflengthydiscussions andnegotiations withthcPSCandcertainotherinterested partieswhichculminated inanAmendedandRestatedSettlement Agreement, datedJanuary2,1998("Amended Settlement Agreement"

),amongtheCompany,PSCStaffandcertainotherparties.ThePSCapprovedtheAmendedSettlement Agreement atitsFebruary4,1998session;however,thePSChadnotyetissueditsfinalorderatthctimethisdocumentwasfiledwiththeSecurities andExchangeCommission.

Generally, theprincipal pointsoftheAmendedSettlement Agreement areasfollows:(i)continuation ofabasicelectricratefreezeforresidential, commercial andsmallindustrial customers throughJune2001;(ii)a5%reduction inbaseelectricratesforlargeindustrial customers; (iii)aphase-inofretailaccessthroughJunc30,2001toresidential, commercial andsmallindustrial customers; (iv)a10.6%returnonequity("ROE")capwithexcessearnings, ifany,deferredforstrandedcostmitigation; (v)areasonable opportunity torecoverallprudently incurredstrandable costs;(vi)functional unbundling ofthcCompany's Danskammer PlantanditsinterestintheRosetonPlantin1998,followedbystructural separation byJune30,2001;(vii)transferoftitlebyanauctionoftheCompany's Danskammcr PlantanditsinterestintheRosetonPlanttobecompleted byJune30,2001(anaffiliate oftheCompanycanbid);(viii)approvaltoformaholdingcompanynotlaterthanJune30,2001,whichholdingcompanyinitially wouldownthcCompanyandallbutoneoftheCompany's existingsubsidiaries; and(ix)permission fortheCompanytotransferupto$100millionofequityfromthcCompanytounregulated affiliates priortoformation oftheholdingcompany.Theconsideration receivedbytheCompanyinanauction,referredtoin(vii)above,would,uptothcnetbookvalueoftheassetssold,beavailable forinvestmcnt inunregulated operations withoutPSCapproval.

AnyexcessoversuchnetbookvaluewouldberequiredtobeusedtooffsettheCompany's fossil-fueled generation relatedregulatory assetsand,totheextentofanyremaining consideration, toreducethebookcostoftheCompany's investment intheNineMile2Plant.IntheeventthatthesalepriceofanysuchassetswerebelowtheCompany's thencurrentnctbookvalue,thcdiffcrcnce wouldbepreserved forrecoveryasastrandable cost.IntheeventaCompanyaffiliate electsnottobidonanysuchauction,theCompanywouldretain,priortoapplication oftheconsideration described intheimmediately preceding paragraph, 10%ofsuchconsideration inexcessofthebookvalueoftheCompany's fossil-fueled generation assets,nottoexceedintheaggregate

$17.5million.AsprovidedforintheAmendedSettlement Agrcemcnt, theCompanywillwithdrawfromacertainlawsuitcommenced bytheCompanyandcertainotherutilities intheNewYorkStatecourtsystemchallenging thevalidityofsaidMay1996PSCOrder.TheAmendedSettlement Agreement createscertainchangestotheCompany's accounting policies.

Formoreinformation regarding theAmendedSettlement Agreement anditsimpactontheCompany's accounting policiesseeNote1-"Regulatory Matters"herein.FERC-ElectricOnApril24,1996,theFERCreleasedOrderNos.888and889,promoting wholesale competition betweenpublicutilities byproviding openaccess,non-discriminatory transmission services.

ThcOrdershavethceffectof(i)requiring electricutilities toopertheirtransmission linestowholesale competitors, whileallowingrecoveryofcertain"stranded costs,"(ii)requiring electricutilities toestablish electronic systemstosharcinformation aboutavailable transmission

capacity, subjecttocertainstandards ofconduct,28CentralHudsonGas&ElectricCorporation and(iii)requiring certainfunctional separation ofpowermarketing fromotheroperations.

TheCompanydulyfileditsopenaccesstransmission

("OAT")tariffwithFERC,asrequiredbyOrderNo.888,whichtariffhasbeenapprovedbyFERC.UndertheOATtariff,theCompanymustoffertransmission servicetowholesale customers onabasisthatiscomparable tothatwhichitprovidesitself.TheCompanyisalsorequiredtoofferand/orprovidecertainancillary serviceswhichcontribute tothereliability andsecurityofthetransmission system.OnDecember30,1996,theNYPP,ofwhichtheCompanyisamember,filedaninterimrestructuring planwithFERCinresponsetotherequirements ofOrderNo.888.OnJanuary31,1997,theNYPPfiledanadditional restructuring filing,whichincludesproposals toestablish anISO,aNYPE,andaNYSRC.TheNYPPfiledasupplemental filingwithFERCinDecember1997whichexpandedthepriorrestructuring filing.Pendingtheoutcomeofsuchproceedings astheFERCmayrequireinresponsetosuchfilings,theCompanycanmakenoprediction astotheeffectonitofthesefilings,orofcompliance withFERCOrderNos.888or889.MergersintheElectricIndustryInresponsetotheincreasingly competitive environment, utilities acrossthecountryhavebeenreorganizing tobetterpositionthemselves financially intheirmarketareasforthefuture.Thus,mergersandpossiblemergershavebeenreportedinthenewsmedia,including thepublicannouncement oftheproposedmergerbetweenLongIslandLightingCompany("LILCO")

andBrooklynUnionGasCompany,twoNewYorkutilities.

NaturalGas-PSCPositionPaperOnSeptember 4,1997,thcPSCissuedanoticeinvitingcommentsonareportpreparedbythePSCStaff,entitled"TheFutureoftheNaturalGasIndustry"

("PositionPaper").Recognizing thatcustomerchoicehasnotevolvedasexpectedunderthegasgenericrestructuring ordersfromthePSC,thePSCStaffreachedtheconclusion that"themosteffective waytoestablish arobustlycompetitive marketingassupplyistoseparatethemerchantanddistribution function."

ThePositionPapersetsforthavarietyofrecommendations addressing issuessuchasupstreamcapacity, ratedesign,systemreliability, marketpower,customercommunication, socialprogramsandtaxes.ThePSCStaffbelievesthatafive-year periodisnecessary forlocaldistribution companies totransition outofthemerchantbusiness.

TheCompanyisunabletopredictwhatwillbetheultimateoutcomeofsuchaproposal.

RATEPROCEEDINGS ElectricTheCompany's mostrecentcompleted electricratecasewasfiledNovember12,1992and,byOrderissuedandeffective February11,1994,thePSCpermitted theCompanytoincreaseitselectricbaseratesby$5.133million(orapproximately 1.3%onanannualbasis),basedona10.6%returnoncommonequity,andan8.58%returnontotalinvestedcapital.Seethecaptionabove"Competition/Deregulation" andthesubcaption "Competitive Opportunities Proceeding" thereunder, foradiscussion relatedtotheCompany's October1,1996filinginthatProceeding.

GasTheCompanyfileditsmostrecentgasratecaseonNovember10,1995,andthePSC,onOctober3,1996,issueditsOrderandOpinion("Order")regarding theCompany's requesttoincreaseitsnaturalgasprices.TheOrderdidnotprovideforanincreaseinbaseprices,butdidauthorize ratemoderation tooffsetaprojected revenuedeficiency of$500,000,largelythroughtheuseofpreviously retainedinterruptible profits.ThePSCalsodetermined thata10%returnoncommonequityisappropriate fortheCompany's gasoperations.

CAPITALRESOURCES ANDLIQUIDITY Construction ProgramAsshownintheConsolidated Statement ofCashFlows,thecashexpenditures relatedtotheCompany's construction programamountedto$43.5millionin1997,a$5.9milliondecreasefromthe$49.4millionexpendedin1996.Asshowninthetablebelow,cashconstruction expenditures for1998areestimated tobe$58.1million,anincreaseof$14.6millioncomparedto1997expenditures.

In1998,theCompanyexpectstosatisfyitsexternalfundingrequirements, ifany,throughissuances ofadditional debtsecurities, theamountandtypeofwhichcannotbepredicted.

29CentralHudsonGas&ElectricCorporation Estimates ofconstruction expenditures, internalfundsavailable, mandatory andoptionalredemption orrepurchase oflong-term securities, andworkingcapitalrequirements forthetwo-yearperiod1998-1999 aresetforthbyyearinthefollowing table:Total19991998-1999 Construction Expenditures*

...InternalFundsAvailable

$58,100(InThousands)

$51,700$109,80055,90056,600112,500ExcessofConstruction Expenditures overInternalFunds...Mandatory Redemption ofLong-term debt.....OptionalRedemption orPurchaseofSecurities:

Long-term debtCommonstock.Total.OtherCashRequirements

...TotalCashRequirements

...2,200(4,900)(2,700)10020,10020,2007,00011,00018.000$33,300$66,900$100,20016,70016,70024000240004800024,00040,70064,700~Ercluding theequityportionofAllowance forFundsUsedDuringConstruction

("AFDC"),

anoncashitem.Estimates ofconstruction expenditures aresubjecttocontinuous reviewandadjustment, andactualexpenditures mayvaryfromestimates.

Theseconstruction expenditures includecapitalized overheads, nuclearfuelandthedebtportionofAFDC.Includedintheconstruction expenditures areexpenditures whicharerequiredtocomplywiththeCleanAirActandrelatedAmendments of1990.Asshowninthetableabove,itispresently estimated thatfundsavailable frominternalsourceswillfinanceover100%oftheCompany's cashconstruction expenditures forthetwo-yearperiod1998-1999.

Duringthissametwo-yearperiod,totalexternalfinancing requirements arcprojected toamountto$100.2million,ofwhich$20.2millionisrelatedtothemandatory redemption oflong-term securities and$64.7millionisrelatedtotheoptionalredemption oflong-term securities andtherepurchase ofcommonstock.CapitalStructure Overtheperiod1988-1997, theCompanysubstantially increased itscommonequityratiothroughretention ofaportionofitsearnings, offerings ofitscommonstocktothcpublic,originalissuances ofitscommonstockunderitsDRPanditsCSPP(bothofwhichhavesincebeensuperseded, effective JanuaryI,1997,bytheCompany's StockPurchasePlandescribed inthisItem7underthecaption"Financing Program,"

belowandinNote6-"Capitalization

-CapitalStock"hereof)andredemption ofdebtandpreferred stock.Oncresultoftheserecentincreases intheCompany's commonequityratiohasbeenasignificant improvement initsinterestcoverageratiosasshownunderthecaption"Financial Indices"inthisItem7.TheCompany's interestcoverageratioshavealsobeenimprovedbytherefinancing ofaportionofitsdebtatlowerinterestrates.Despiteatightening ofbondratingcriteriaappliedtotheelectricutilityindustry, theCompanyhasmaintained orimproveditsbondratingssince1991.During1997,Standard8t,Poor'sCorporation, upgradedtheCompany's seniordebtratingfrom"A-"to"A."TheCompany's otherbondratings,whichwerereaffirmed during1997,arc"A"byDuff&PhelpsCreditRatingCo.andFitchInvestors Serviceand"A3"byMoody'sInvestors Service,Inc.TheCompany's continuing goalistoachieveandmaintainbondratingsatthe"A"level.UnderthetermsoftheAmendedSettlement Agreement, described underthccaption"Competition/Deregulation" ofItem7hereof,theCompanymayinvestupto$100millioninunregulated businesses priortothcformation ofaholdingcompany,whichformation iscontemplated tobecomeeffective betweenJanuary1,1999andJune30,2001.Afteritsformation, suchholdingcompanywillbefreetoinvestinnewbusinesses subjectonlytothetermsoftheAmendedSettlement Agreement.

Asaresultofthenewinvestmcnt opportunities theCompanyexpectstobecomeavailable in1998and1999,theCompanymaymakesubstantial newinvestments andmaychangeitscapitalstructure inwaysthatcannotbepredicted atthistime.Setforthbelowisce'rtaininformation withrespecttotheCompany's capitalstructure attheendof1997,1996and1995:Year-cndCaitalStructure 199719961995Long-term debt.Short-term debtPreferred stockCommonequity40.5%6.353.240.1%42.8%1.76.27.552.049.730CentralHudsonGas&ElectricCorporation 100.0%100.0%100.0%

~~Financing ProgramByanOrderissuedandeffective December4,1996,thePSCgrantedtheCompanyauthorization toissueandsell,throughDecember31,1999,uptoanadditional

$40millionofsecurities.

This$40millioncanbecomprised ofmediumtermnotesorcommonstocksolelyoracombination ofmediumtermnotesandcommonstock.ThatOrderalsoauthorizes theCompanytoacquire,throughDecember31,1999,notmorethan2.5millionsharesofitsissuedandoutstanding commonstock.TheCompanyalsoreceivedapprovaltocombineitsDRP,itsCSPPanditsESPPintoanewStockPurchasePlan,effective January1,1997.TheCompanyimproveditscommonequityratiofrom35.4%atDecember31,1987(following thewritedownofaportionoftheNineMile2PlantasdirectedbythePSC)to52.0%atDecember31,1996,whichlevelwasdeemedsufficient bytheCompany.Pursuanttotheaforementioned PSCauthorization, theCompany,inJanuary1997,instituted acommonstockrepurchase programprimarily forthepurposeofmanagingcontinuing growthinitscommonequityratio.UndersuchprogramtheCompanyrepurchased 275,200sharesofitscommonstockduring1997.Despitesuchprogram,theCompany's commonequityratiofurtherimprovedto53.2%atDecember31,1997.TheCompany's targetlevelofsharerepurchase for1998willbedetermined inearly1998inviewofthepricepershareofcommonstock,cashflowandopportunities toreinvestintheCompny'sbusinessorinvestinnewbusinesses.

TheCompanyintendstorefinance, ifeconomic, its8.375%SeriesNYSERDABonds($16.7million)onorsoonafteritscalldateonDecemberI,1998atalowercost.TheCompanyalsointendstorefundatmaturityits5.38%SeriesMediumTermNotes($20million)onJanuary15,1999.UnderthetermsoftheAmendedSettlement Agreement described aboveunderthecaption"Competitive Opportunities Proceeding,"

priortotheformation ofanewholdingcompany,theCompanymaytransferupto$100millionfromitsregulated utilitybusinesstoitsunregulated businesses.

TheCompanymay,pursuanttothisauthorization, issueupto$100millionofnewsecurities in1998or1999.Following theformation oftheholdingcompanycontemplated undertheAmendedSettlement Agreement tooccurbetweenJanuary1,1999andJune30,2001,theCompanymayissuenewsecurities infurtherance ofitsbusinessplantobedeveloped forsuchholdingcompany.Thetypeofanysuchsecurities tobeissuedaftertheformation ofsuchholdingcompanyandtimingofissuancecannotbepredicted atthistime.Formoreinformation withrespecttosuchOrderandtheCompany's financing programin.general,seeNote6-"Capitalization

-CapitalStock"andNote7-"Capitalization

-Long-Term Debt."Short-Term DebtAsmorefullydiscussed inNote5-"Short-Term Borrowing Arrangements" hereof,theCompanyhasarevolving creditagreement withfourcommercial banksforborrowing upto$50millionthroughOctober23,2001.Inaddition, theCompanyhasseveralcommitted anduncommitted bankfacilities rangingfrom$.5millionto$50millionfromwhichitmayobtainshort-term financing.

Suchagreements givetheCompanycompetitive optionstominimizeitscostofshort-term borrowing.

Authorization fromthePSClimitstheamounttheCompanymayhaveoutstanding atanytimeunderallofitsshort-term borrowing arrangements to$52.0millionintheaggregate.

RESULTSOFOPERATIONS Thefollowing discussion andanalysisincludesanexplanation ofthesignificant changesinrevenuesandexpenseswhencomparing 1997to1996and1996to1995.Additional information relatingtochangesbetweentheseyearsisprovidedintheNotes.EarningsEarningspersharcofcommonstockareshownafterprovision fordividends onpreferred stockandarecomputedonthebasisofthcaveragenumberofcommonsharesoutstanding duringtheyear.Thenumberofcommonshares,theearningspershareandtherateofreturnearnedonaveragecommonequityareasfollows:1997Averagesharesoutstanding (000s).....................................

17,435Earningspershare....

$2.97Returnearnedoncommonequityperfinancial statements*

10.8%~Returnonequityforregulatory rate-making purposesdiversfromthesefigures.199617,549$2.9911.1%199517,380$2.7410.5%Earningspersharein1997,whencomparedto1996results,decreased

$.02pershare.Thisdecreaseresultedsubstantially fromdecreased electricandgasnetoperating revenues(including fuelcostsandpurchased electricity) attributable largelytodecreased Ialesresulting primarily fromadecreaseinusagebyresidential andindustrial electriccustomers andresidential andcommercial gascustomers duetounseasonable weatherexperienced in1997.Billingadjustedheatingdegreedayswere8%lowerandcoolingdegreedayswere16%lower,when1997resultswerecomparedto1996.Theeffectoftheseunseasonable weatherconditions alonereducedearningsbyanestimated

$.22,despitea1%increaseinthenumberofcustomers.

Alsocontributing tothedecreasein19973ICentralHudsonGas&ElectricCorporation earningsaredecreased electricearningsrelatedtoregulatory incentive programsbasedonfuelcostsandenergyefficiency, largelyduetothereducedavailability ofpurchased poweratacostbelowtheCompany's fossil-fueled generation, andincreased depreciation expenseontheCompany's plantandequipment.

Partially offsetting thesedecreases in1997earningsisa$.09increaseresulting fromtheneteffectoftwonon-recurring itemsasfollows:the1997recording oftaxadjustments including additional investment taxcreditsandrelatedinterestrefundedfromthesettlement ofvariousInternalRevenueService("IRS")audits,andthe1997provision forthenon-recoverable portionofapurchased powercontract.

Otheritemsalsoimpactedearningsfavorably including:

decreased uncollectible

accounts, avoidedinterestexpensefromtheoptionalredemption inMay1996oftheCompany's 83/4%Series$30millionFirstMortgageBonds,increased interestanddividendincome,anddecreased interestexpense.Earningspersharein1996increased

$.25pershareover1995resulting primarily fromincreased electricandgasnetoperating revenuescausedlargelybyanincreaseinusagebyresidential customers, andtheunseasonable hotand/orcoldweatherconditions experienced in1996whencomparedto 1995.Hcatingdegreedays were17%higher in1996thanintheprioryear.

Alsocontributing totheincreasein1996weretheoptionalredemption oftheCompany's 7.44%SeriesCumulative Preferred StockinOctober1995,7.72%SeriesCumulative Preferred StockinJanuary1996and83/4%Series$30millionFirstMortgageBondsinMay1996.This1996increaseinearningspersharewaspartially offsetbyincreased employeewagesandassociated fringebenefitsandthc1995non-recurring gainfromthesaleoflong-term stockinvestments.

Variousotheritemsunfavorably impactedearningspershareincluding increased depreciation expenseassociated withtheCompany's plantandequipment, decreased interestanddividendincomeandincreased uncollectible accounts.

Operating RevenuesTotaloperating revenuesincreased

$6.3million(1%)in1997ascomparedto1996andincreased

$1.8million(.3%)in1996,ascomparedto1995.Seethetablebelowfordetailsofthevariations:

Increaseor(Decrease) fromPriorYear1997ElectricC~asTotalElectric1996asTotalCustomersales.Salestootherutilities

...Fuelcostadjustment

....Deferredrevenues.Miscellaneous.

Total(InThousands)

$(5,236)$9,7842,5503308,555(1,248)(450)677887(227)$(7,860)4,840(291)675304$2,624(2,290)8,846(1,125)583$1,4162,805(3,745)1,517(237)$(8,368)2,475(2,497)840(10)$(2)332)$8,638$6@06S9,316S(7,560)S1,756SalesTheCompany's salesvaryseasonally inresponsetoweather.Generally electricrevenues.

peakinthesummerandgasrevenuespeakinthewinter.Salesofelectricity withintheCompany's serviceterritory decreased 3%in1997andincreased 3%in1996.Electricsalesin1997decreased primarily becauseofadecreaseinusagebyresidential andindustrial customers largelyduetotheunseasonable weatherconditions cxperienccd in1997whencomparedto1996.In1996,electricsalesincreased largelyfromanincreaseinusagebyresidential customers, andthcunseasonable hotand/orcoldweatherexperienced throughout 1996whencomparedtotheweatherconditions of1995.Firmsalesofnaturalgas(whichexcludesinterruptible andtransportation sales)decreased 5%in1997dueprimarily toadecreaseinusagebyresidential andcommercial customers.

In1996,firmsalesofnaturalgasincreased 12%duetoanincreaseinusagebyrcsidcntial, commercial andindustrial customers.

Changesinsalesfromlastyearbymajorcustomerclassification, including interruptible gassalesaresetforthbelow.Alsoindicated arethechangesrelatedtotransportation ofcustomer-owned gas:%IncreaseDecreasefromPriorYearElectric(Mwh)Gas(Mcf)1997199619971996Residential

.Commercial

.Industrial Interruptible Transportation ofCustomer-Owned Gas...(2)(6)N/AN/A5I3N/AN/A(6)(6)1111174161215(78)10532CentralHudsonGas&ElectricCorporation

~~Residential andCommercial Sales:Residential electricandgassalesareprimarily affectedbythegrowthinthenumberofcustomers andthechangeincustomerusage.In1997,residential electricandgassalesandcommercial gassalesdecreased primarily fromadecreaseincustomerusagelargelyduetotheunseasonable weatherexperienced intheCompany's serviceterritory.

in1997.Billingadjustedheatingdegreedayswere8%lowerandcoolingdegreedayswere16%lowerwhen1997resultswerecomparedto1996.In1996,residential andcommercial electricandgassalesincreased primarily duetoanincreaseincustomerusagepartlycausedbyunseasonable hotand/orcoldweatherexperienced throughout 1996intheCompany's serviceterritory.

Heatingdegreedayswere17%higherin1996thanintheprioryear.Industrial ElectricSales:In1997,ascomparedto1996,industrial electricsalesdecreased 6%primarily duetoadecreaseinusagebyalargeindustrial customer.

In1996,ascomparedto1995,industrial electricsalesincreased 3%largelybecauseofanincreaseinusagebyalargeindustrial customer.

Industrial GasSales:In1997,firmgassalestoindustrial customers increased 11%primarily becauseofanincreaseinusagebyalargeindustrial customer.

Firmgassalestoindustrial customers for1996increased 15%substantially becauseofincreased usagebyseverallargeindustrial customers.

Interruptible GasSales:In1997,interruptible gassalesincreased 111%largelyduetoanincreaseinnaturalgassoldforuseasaboilerfuelattheRo'setonPlant.Interruptible gassalesdecreased 78%in1996,duesubstantially toadecreaseinnaturalgassoldforuseasaboilerfuelattheRosetonPlant.TheuseofgasasaboilerfuelattheRosetonPlantisdependent uponitseconomicbenefitascomparedtotheuseofoilforgeneration orthepurchaseofelectricity tomeettheCompany's loadrequirements.

Duetosharingarrangements, asdescribed inthecaption"Incentive Arrangements" ofItem7hereofthatareinplaceforinterruptible gassalesandtransportation ofcustomer-owned gas,variations fromyeartoyeartypically haveaminimalimpactonearnings.

Transportation ofCustomer-Owned GastThevolumeofcustomer-owned gastransported in1997increased 74%and105%in1996dueprimarily toanincreaseinusagebyalargetransportation customer.

Incentive Arrangements Pursuanttocertainincentive formulasapprovedbythePSC,theCompanyeithershareswithitscustomers, certainrevenuesand/orcostsavingsexceeding definedpredetermined levels,orispenalized insomecasesforshortfalls fromthetargetedlevelsordefinedperformance standards.

Incentive formulasareinplaceforfuelcostvariations, salesofelectricity andgastootherutilities, interruptible gassales,capacityreleasetransactions andcustomersatisfaction.

Thenetresultsoftheseincentive formulasweretoincreasepretaxearningsby$700,000,$2.9millionand$2.8millionduring1997,1996and1995,respectively.

-Operating ExpensesChangesfromtheprioryearinthecomponents oftheCompany's operating expensesarelistedbelow:Increaseor(Decrease) fromPriorYearAmount1997Amount(InThousands) 1996Operating Expenses:

Fuelandpurchased electricity......

Purchased naturalgas...................

Otherexpensesofoperation

........Maintenance

................

Depreciation andamortization

.....Taxes,otherthanincometax.......Federalincometax.......................

Total$7,58410,878(1,527)(1,364)1,284(1,266)3510$12,079722(2)(5)3(2)11$1,134(11,703)3,683(502)1,113(564)3.6603$(3,179)I(19)4(2)3(I)13Themostsignificant elementsofoperating expensesarefuelandpurchased electricity intheCompany's electricdepartment ndpurchased naturalgasintheCompany's gasdepartment.

Approximately 29%in1997and27%in1996ofeveryrevenuedollarilledbytheCompany's electricdepartment wasexpendedforthecombinedcostoffuelusedinelectricgeneration andpurchased electricity.

Thecorresponding figuresintheCompany's gasdepartment forthecostofpurchased gaswere59%and53%,respectively.

33CentralHudsonGas&ElectricCorporation Inanefforttokeepthecostofelectricity atthelowestreasonable level,theCompanypurchases energyfromsourcessuchasothermembercompanies oftheNYPP,Canadianhydrosourcesandenergymarketers wheneverenergycanbepurchased ataunitcostlowerthantheincremental costofgenerating theenergyintheCompany's plants.Fuelandpurchased electricity increased

$7.6million(7%)in1997primarily becauseofa3%increaseintotalsystemsaleswhichincludessalestootherutilities.

Purchased naturalgasincreased

$10.9million(22%)in1997largelyduetohigherinterruptible gassales,including gasusedasaboilerfuelattheRosetonPlant.In1996,purchased naturalgasdecreased

$11.7million(19%)primarily becauseoflowerinterruptible gassalesforusageasaboilerfuelattheRosetonPlant.Otherexpensesofoperation increased

$3.7million(4%)in1996primarily duetoincreased employeewagesandassociated fringebenefitsandincreased uncollectible accounts.

SeeNote4-"FcdcralIncomeTax,"hereinforananalysisandreconciliation ofthefederalincometax.OtherIncomeAndInterestChargesOtherincome(excluding AFDC)increased

$4.6million(71%)in1997anddecreased

$2.8million(30%)in1996.The1997increasewasdueprimarily tointerestrefundedin1997fromthesettlement ofvariousIRSauditsandthe1996chargesassociated withtheoptionalredemption ofthe83/4%SeriesofFirstMortgageBonds.The1996decreasewaslargelyduetothenon-recurring gainof$2.1millionrealizedin1995fromthesaleoflong-term stockinvestments andtherecording ofone-timechargesassociated withtheoptionalredemption of$30million83/4%SeriesofFirstMortgageBondsinMay1996.Totalinterestcharges(excluding AFDC)decreased

$533,000(2%)in1997and$1.7million(6%)in1996.Thefollowing tablesetsforthsomeofthepertinent dataontheCompany's outstanding debt:19971996(InThousands) 1995Long-term debt:Debtretired$85Outstanding atyear-end*:

Amount(including currentportion)...........

363,744364,026Effective rate6.78%6.70%Short-term debt:Averagedailyamountoutstanding

.............

$1,692$5,477Weightedaverageinterestrate...................

5.54%5.59%<</neludingdebtofsubsidiaries of$7.4millioninl997,$7.6millionin1996and$$.3millionin1995.$2,562$30,000391,7157.00%$1036.16%SeeNote5-"Short-Term Borrowing Arrangements" andNote7-"Capitalization

-Long-Term Debt"foradditional information onshort-term andlong-term debtoftheCompany.NuclearOperations ThcNineMile2Plantisowned,astenants-in-common, bytheCompany,NiagaraMohawk,NewYorkStateElectriclkGasCorporation

("NYSEG"),

LILCOandRochester GasandElectricCorporation

("Rochester"

).NiagaraMohawkoperatestheNineMile2Plant.TheCompanyownsa9%interestoftheNineMile2Plant,whichisdiscussed inNote3-"NineMile2Plant."Theoperations ofthisPlanthavecontinued toimprove.Theactualcapacityfactorof88.7%for1997exceededthetargetedcapacityfactorof84%includedintheCompany's electricfueladjustment clause.Thisresultedinafavorable impactonearnings.

Theoperating

expenses, taxesanddepreciation pertaining totheoperation ofthcNineMile2PlantareincludedintheCompany's financial results.Forboth1997and1996,theactualcostofoperations waslessthantheallowable NineMile2Plantoperation andmaintenance expensesprovidedinSupplement No.5tothe1990Settlement Agreement, asapprovedbythePSC.Inboth1997and1996,theunderruns wereentirelydeferredforthefuturebenefitofcustomers (seeNote1-"Regulatory Matters").TheCompanyhascontinued toparticipate activelyinthemanagement, operations andaccounting committees fortheNineMile2Plantandwilldosointhefuture.OnOctober12,1996,NiagaraMohawkandRochester announced planstoestablish ajointnuclearoperation companytobeknownasNewYorkNuclearOperating Company("NYNOC").

NYNOCisenvisioned toassumefullresponsibility foroperation ofallthenuclearplantsinNewYorkState,including theNineMile2Plant,NiagaraMohawk'sUnitNo.1ofthcNineMilePointNuclearStationandRochester's GinnaNuclearPlant.SincethattimeNYNOChasbeenorganized asaNewYorklimitedliability company,andConEdisonandPASNYhaveannounced theirdesiretomoveforwardwiththeNiagaraMohawkandRochester planstoimplement NYNOC.ItisexpectedthatNYNOCcouldcontribute tomaintaining ahighlevelofoperational performance, contribute tocontinued satisfactory NuclearRegulatory Commission

("NRC")regulatory compliance, provideopportunities forcontinued costreductions andprovidethebasisforsatisfactory economicregulation bythePSC.Variousgroupsarenowinvolved34CentralHudsonGas&ElectricCorporation inthedetailedstudiesandanalysisrequiredbeforeadefinitive decisiontoproceedwithNYNOCcanbemade.Sufficient information isnotavailable fortheCompanytomakeanassessment ofsuchplansorwhetheritwouldconsenttosuchplanstotheextentthattheNineMile2Plantisaffected.

Untilsuchassessmcnt canbemade,theCompanycantakenopositionwithrespecttosuchplans.TheNineMile2Plantcompleted itsfifthrefueling outageNovember2,1996.Itisscheduled tocommenceitssixthrefueling outageinMay1998,withatargeted37-dayduration.

Adecommissioning studyfortheNineMile2Plantwascompleted in1995.Thestudy'sestimateofthecosttodecommission theNineMile2Plantissignificantly higherthanpreviousestimates.

TheCompanybelievesthatdecommissioning costs,ifhigherthancurrently estimated, willultimately berecovered inrates,althoughnosuchassurance canbegiven.However,futuredevelopments intheutilityindustry, including theeffectsofderegulation andincreasing competition couldchangethisconclusion.

TheCompanycannotpredicttheoutcomeofthesedevelopments.

Forfurtherinformation ondecommissioning, seeNote3-"NineMile2Plant."InOctober1996,NiagaraMohawk,asoperating cotenantfortheNineMile2Plant,alongwithothercompanies thatoperatenuclearplants,receivedaletterfromtheNRC,requiring ittoprovidetheNRCwithinformation onthe"adequacy andavailability" ofdesignbasisdocumentation ontheirnuclearplantswithin120days.Suchinformation willbeusedbytheNRCtoverifythatcompanies areincompliance withthetermsandconditions oftheirlicense(s) andNRCregulations.

Inaddition, itwillallowtheNRCtodetermine ifotherinspection activities orenforcement actionsshouldbetakenonaparticular company.TheCompanybelievesthattheNRCisbecomingmorestringent asindicated bythisletterandthattheremaybedirectcostimpactoncompanies withnuclearplantsasaresult.TheNRCissuedapolicystatement ontheRestructuring andEconomicDeregulation oftheElectricUtilityIndustry("PolicyStatement")

in1997.ThePolicyStatement addresses NRC'sconcernsabouttheadequacyofdecommissioning fundsandaboutthepotential impactonoperational safety.CurrentNRCregulations allowautilitytosetasidedecommissioning fundsannuallyovertheestimated lifeofaplant.InadditiontotheabovePolicyStatement, theNRCisproposing toamenditsregulations ondecommissioning fundingtoreflectconditions expectedfromdcrcgulation oftheelectricpowerindustry.

TheCompanyisunabletopredicthowsuchincreased stringency mayaffectthcresultsofoperations orfinancial condition oftheNineMile2Plant.OnAugust27,1997,thePSCStaffissueda"NoticeSoliciting CommentsonNuclearGeneration" requesting commentsandalternative approaches byinterested partiesona"StaffReportonNuclearGeneration"

("NuclearReport").TheNuclearReportconcludes thatnucleargeneration, alongwithnon-nuclear generation facilities, shouldbesubjecttothediscipline ofmarket-based

~~pricing.According tothePSCStaff,theoptimal,leastcostmethodfor"regulating" generating unitsistofreethemtooperateinthewholesale competitive marketswhererunningcostsmustberecovered inthewholesale marketpriceofpower.TheCompanysubmitted

comments, pointingouttheshortcomings intheNuclearReport,whichcommentsincludedadoptingaprocesstofullydevelopthenecessary factsandanalyses.

TheNYNOCorganizing utilities submitted commentsnotingthatthePSCStaffproposalwouldnullifythepotential benefitsofNYNOC.ThePSCStaffhasyettorespondtothecommentsandreplycommentsofthenumerousparties.TheCompanycanmakenoprediction astotheoutcomeoftheNuclearReportproposal.

OnDecember30,1997,theNRCissueditslatestsystematic assessment oflicenseeperformance

("SALP")reviewoftheNineMilePointNuclearStationfortheperiodJune2,1996toNovcmbcr8,1997("1996/97 SALPReport").TheNineMilePointNuclearStationiscomprised ofbothUnitsNo.1andNo.2.UnitNo.1,locatedadjacenttotheNineMile2Plant,isownedandoperatedsolelybyNiagaraMohawk.The1996/97SALPReport,conducted undertherevisedSALPprocessthatwasimplemented bytheNRConJuly19,1993,rateslicenseeperformance infourfunctional areas;operations, maintcnancc, engineering andplantsupport.Overall,theNRCindicated thattheperformance attheNineMilePointNuclearStationwasgenerally good;however,continued management attention wasneededtoaddressissuesinseveralareas.Theratingswereasfollows:(i)operations wasratedCategory2("good"),

whichwaslowerthantheCategory1("superior")

ratingonthepriorSALPReport(covering theperiodJanuary1995throughJune1,1996);(ii)maintenance wasratedCategory2("good"),

whichwasthcsameratingasonthe1995/1996SALPReport;(iii)engineering wasratedCategory3("acceptable"

),whichwaslowerthantheCategory2insaidpriorSALPReport;and(iv)plantsupportwasratedCategory2("good"),

remaining thesameasthepriorSALPReport.OtherIviatters StormCosts:OnApril1,1997,asnowandwindstormdisrupted servicetoapproximately 100,000customers intheCompany's scrviccterritory.

Therestoration costsofthestormtotaledapproximately

$8.9millionwhich,afterapplyingmitigating credits,amountedto$5.3millionasreflected in"Deferred Charges-Other" intheConsolidated BalanceShcct.TheCompanybelievesthesecostsarerecoverable inratesandhastherefore requested thePSCtoauthorize deferralofthesecosts.TheAmendedSettlement Agreement authorizes thedeferralofthesecosts.FederalIncomeTaxRefund:Inthesecondquarterof1997theCompanyreceiveda$1.9millionnetrefundasaresultofauditsbytheIRSoftheCompany's federalincometaxreturnsfortheyears1987-1991.

TheCompanyhascompliedwiththePSCnotification rcquircmcnts fortaxrefundsandrecordedtherefundinthefourthquarterof1997.35CentralHudsonGas&ElectricCorporation Year2000:TheCompanyisaddressing potential adverseimpactsfrompotential Year2000computersoftwarefailurestoensuretheavailability andintegrity ofitsfinancial systemsandthereliability ofitsoperational systems.TheCompanyhasestablished processes forevaluating andmanagingtherisksandcostsassociated withthisproblem.TheCompanyhas,andwillcontinuetomake,certaininvestments initssoftwaresystemsandapplications toensuretheCompanyisYear2000compliant.

Thefinancial impacttotheCompanyhasnotbeendetermined butisnotanticipated tobematerial.

ElectricSalestoIBM:TheCompany's largestcustomerisInternational BusinessMachinesCorporation

("IBM"),whichaccounted forapproximately 9%and10%oftheCompany's totalelectricrevenuesfortheyearsendedDecember31,1997and1996,respectively.

IBMannounced thatitwillbeinvesting

$700millionatitsEastFishkill, NewYorkfacilitytoconstruct oneoftheworld'mostsophisticated microchip manufacturing plants.Thisfacility, slatedtoopenin1999with400employees, willembracenewtechnology indeveloping 12"diametersiliconwafers.Thisexpansion couldhaveafavorable impactontheCompany's revenuebaseandcustomers.

NewAccounting Standards:

InJune1997,theFinancial Accounting Standards Board("FASB")issuedStatement ofFinancial Accounting Standards No.131"Disclosures aboutSegmentsofanEnterprise andRelatedInformation"

("SFAS131").ThisStatement establishes standards forreporting information aboutoperating segmentsinannualandinterimfinancial statements.

TheCompanydoesnotexpectthattheadoptionofSFAS131willhaveasignificant impactonthereporting requirements oftheCompany.Foradiscussion ofproposedandnewaccounting standards fromtheFASB,seeNote2-"SummaryofSignificant Accounting Policies,"

herein.InFebruary1996,theFASBissuedanexposuredraftentitled"Accounting forCertainLiabilities RelatedtoClosureandRemovalofLong-Lived Assets,"whichincludesnuclearplantdecommissioning.

Iftheaccounting standardproposedinsuchexposuredraftwereadopted,itcouldresultinhigherannualprovisions forremovalordecommissioning toberecognized earlierintheoperating lifeofnuclearandothergenerating unitsandanaccelerated recognition ofthedecommissioning obligation.

TheFASBisdeliberating thisissueandtheresulting finalpronouncement couldbedifferent fromthatproposedintheexposuredraft.TheCompanycanmakenoprediction atthistimeastotheultimateformofsuchproposedaccounting

standard, assumingitisadopted,norcanitmakeanyprediction astoitsultimateeffect(s) onthefinancial condition of'heCompany.OtherIssues:Onanongoingbasis,theCompanyassessesenvironmental issueswhichcouldimpacttheCompanyanditscustomers.

Note3-"NineMile2Plant"andNote9-"Commitments andContingencies" discusscurrentenvironmental issuesaffecting theCompany,including (i)the1995decommissioning coststudyoftheNineMile2Plant,(ii)theCleanWaterActandCleanAirActAmendments of1990,whichrequirecontrolofemissions fromfossil-fueled electricgenerating units,(iii)asbestoslitigation cases,and(iv)alegalactionfiledin1995againsttheCompanybytheCityofNewburgh, NcwYork.36CentralHudsonGas&ElectricCorporation FINANCIAL INDICESSelectedfinancial indicesforthelastfiveyearsaresetforthinthefollowing table:Pretaxcoverageoftotalinterestcharges:Including AFDCExcluding AFDCFundsfromOperations

.199719963.94x4.08x3.69x3.83x5.18x5.29x19953.68x3.43x4.69x19943.38x3.15x4.24x19933.29x3.15x4.27xPretaxcoverageoftotalinterestchargesandpreferred stockdividends

...............

Percentofconstruction expenditures financedfrominternalfunds...........

3.37x100%3.47x100%2.97x100%2.74x2.65x100%100%AFDCandMirrorCWIP*asapercentage ofincomeavailable forcommonstock.....Effective taxrate.13%13%16%16%32%36%35%35%11%35%*Referto/VoteI-"Regulatory hfaners"undersubcaptions "SummaryofRegulatory AssetsandLiabilities" and"Deferred FinanceCharges-¹nehfile2Plant"foradefinition ofMirrorC)VIP.CONNONSTOCKDIYIDENDSAND PRICERANGESTheCompanyanditsprincipal predecessors havepaiddividends onitscommonstockineachyearcommencing in1903,andthecommonstockoftheCompanyhasbeenlistedontheNewYorkStockExchangesince1945.Thepricerangesandthedividends paidforeachquarterly periodduringtheCompany's lasttwofiscalyearsareasfollows:Hih1997LowDividendHih1996LowDividend1stQuarter......2ndQuarter....3rdQuarter.....4thQuarter.....$333/8$301/2$.53343/4293/4.53357/8321/8.535437/83411/16.535$31I/231I/431I/431I/2$283/4$.525287/8.52529I/2.5329.53OnJune27,1997,theCompanyincreased itsquarterly dividendrateto$.535persharefrom$.53in1996.OnJune28,1996,theCompanyincreased itsquarterly dividendrateto$.53persharefrom$.525pershare.Anydetermination withregardtofuturedividenddeclarations, andtheamountsanddatesofsuchdividends, willdependonthecircumstances atthetimeofconsideration ofsuchdeclaration.

Onesuchconsideration willbetheeffectonthcCompanyofthecorporate restructuring described inthisItem7underthecaption"Competition/Deregulation."

Thcnumberofregistered holdersofcommonstockasofDecember31,1997was22,605.Ofthese,21,933wereaccountsinthenamesofindividuals withtotalholdingsof5,544,827 shares,oranaverageof253sharesperaccount.The672otheraccounts, inthenamesofinstitutional orothernon-individual holders,forthemostpart,holdsharesofcommonstockforthebenefitofindividuals.

37CentralHudsonGas&ElectricCorporation ITEN7AQuantitative andQualitative Disclosure AboutNarketRiskNotApplicable ITEN8Financial StatementsAnd Supplementary DataI-IndextoFinancial Statements:

ReportofIndependent Accountants Statement ofManagement's Responsibility Consolidated BalanceSheetatDecember31,1997and1996Consolidated Statement ofIncomeforthethreeyearsendedDecember31,1997Consolidated Statement ofRetainedEarningsforthethreeyearsendedDecember31,1997Consolidated Statement ofCashFlowsforthethreeyearsendedDecember31,1997NotestoConsolidated Financial Statements SelectedQuarterly Financial Data(Unaudited)

Page3939404242434460II-ScheduleII-ReservesAllotherschedules areomittedbecausetheyarenotapplicable ortherequiredinformation isshownintheConsolidated Financial Statements ortheNotesthereto.61Supplementary DataSupplementary datathatisincludedin"Selected Quarterly Financial Data(Unaudited)"

appearsunderthisItemandreference ismadethereto.38CentralHudsonGasScElectricCorporation REPORTOFINDEPENDENT ACCOUNTANTS QlPriceWaterhoase LLpTotheBoardofDirectors andShareholders ofCentralHudsonGas&ElectricCorporation Inouropinion,theconsolidated financial statements listedintheaccompanying indexpresentfairly,inallmaterialrespects, thefinancial positionofCentralHudsonGas&ElectricCorporation anditssubsidiaries atDecember31,1997and1996,andtheresultsoftheiroperations andtheircashflowsforeachofthethreeyearsintheperiodendedDecember31,1997,inconformity withgenerally acceptedaccounting principles.

Thesefinancial statements aretheresponsibility oftheCompany's management; ourresponsibility istoexpressanopiniononthesefinancial statements basedonouraudits.Weconducted ourauditsofthesefinancial statements inaccordance withgenerally acceptedauditingstandards whichrequirethatweplanandperformtheaudittoobtainreasonable assurance aboutwhetherthefinancial statements arefreeofmaterialmisstatement.

Anauditincludesexamining, onatestbasis,evidencesupporting theamountsanddisclosures inthefinancial statements, assessing theaccounting principles usedandsignificant estimates madebymanagement, andevaluating theoverallfinancial statement presentation.

Webelievethatourauditsprovidearcasonablc basisforthcopinionexpressed above./~43JU~t-t.WNewYork,NewYorkJanuary23,1998,exceptastoNote1oftheconsolidated financial statements whichisasofFebruary4,1998STATENENT OFNANAGENENT'S RESPONSIBILITY Management isresponsible forthepreparation, mtegntyandobJectivity oftheconsolidated financial statements ofCentralHudsonGas&ElectricCorporation anditssubsidiaries (collectiveiy, theCompany)aswellasallotherinformation contained inthisForm10-K.Theconsolidated financial statements havebeenpreparedinconformity withgenerally acceptedaccounting principles and,insomecases,reflectamountsbasedonthebestestimates andjudgements oftheCompany's Management, givingdueconsider-ationtomateriality.

TheCompanymaintains adequatesystemsofinternalcontroltoprovidereasonable assurance, that,amongotherthings,transac-tionsareexecutedinaccordance withManagement's authorization, thattheconsolidated financial statements arepreparedinaccor-dancewithgenerally acceptedaccounting principles andthattheassetsoftheCompanyareproperlysafeguarded.

Thesystemsofin-ternalcontrolaredocumented, evaluated andtestedbytheCompany's internalauditorsonacontinuing basis.Duetothcinherentlimitations ofthecffcctiveness ofinternalcontrols, nointernalcontrolsystemcanprovideabsoluteassurance thaterrorswillnotoc-cur.Management believesthattheCompanyhasmaintained aneffective systemofinternalcontroloverthcpreparation ofitsflinan-cialinformation including theconsolidated financial statements oftheCompanyasofDecember31,1997.Independent accountants werecngagcdtoaudittheconsolidated financial statements oftheCompanyandissuetheirreportthereon.TheReportofIndepcndcnt Accountants, whichispresented above,doesnotlimittheresponsibility ofManagement forin-formation contained intheconsolidated financial statements andelsewhere inthisForm10-K.TheCompany's BoardofDirectors maintains aCommittee onAuditwhichiscomposedofDirectors whoarcnotemployees oftheCompany.TheCommittee onAuditmeetswithManagement, itsInternalAuditingManager,anditsindcpcndent accountants severaltimesayeartodiscussinternalcontrolsandaccounting matters,theCompany's consolidated financial statements, thescopeandresultsoftheauditspcrformcd bytheindependent accountants andtheCompany's InternalAuditingDepartment.

Theindepen-dentaccountants andtheCompany's InternalAuditingManagerhavedirectaccesstotheCommittee onAudit.JOHNE.MACK,IIIChairmanoftheBoardandChiefExecutive OfficerDONNAS.DOYLEController January23,199839CentralHudsonGas&ElectricCorporation Consolidated BalanceSheetAtDecember31,UtilityPlantElectricGas..Common.Nuclearfuel.Less:Accumulated depreciation.

Nuclearfuelamortization.

(InThousands)

ASSETS1997$1,193,735 151,22291,52237,2621,473,741 560,30433,059880,3781996$1,171,798 145,37587,59136,9131,441,677 520,99929,748890,930Construction workinprogressNctUtilityPlant52,413932,79148,699939,629Investments andOtherAssetsPrefundcd pensioncostsOther.TotalInvestmcnts andOtherAssets23,53614,95838,49410,67212,41923,091CurrentAssetsCashandcashequivalents.

Accountsrcccivable fromcustomers

-netofallowance fordoubtfulaccounts;

$2.8millionin1997and$3.2millionin1996...Accruedunbilledutilityrevenues.Otherreceivables

...Materials andsupplies, ataveragecost:Fuel.Construction andoperating

.Specialdepositsandprepayments.

TotalCurrentAssets.9,05449,64316,2292,07311,92012,18014,210115,3094,23548,08016,0422,89614,93513,16013,440112,788DeferredClmrgcsRegulatory assets(Note1)Unamortized debtexpenseTotalDeferredCharges139,2365,00221,258165,496151,4265,39316,779173,598TOTALASSETS$1@52,090$1,249,106 TheNotestoConsolidated FinanualStatements areanintegralparthereof.40CentralHudsonGas&ElectricCorporation Capitalization CommonStockEquity(InThousands)

CAPITALIZATION ANDLIABILITIES 19971996Commonstock,$5parvalue(Note6).Paid-incapital(Note6)Retainedearnings.

Reacquired capitalstock(Note6)CapitalstockexpenseTotalCommonStockEquity$87,775284,4651201540(9,398)(6,278)477,104$87,775284,465105,821(6,352)471,709Cumulative Prcfcrred Stock(Note6)Notsubjecttomandatory redemption Subjecttomandatory redemption TotalCumulative Preferred Stock21)03035,00056,03021,03035,00056,030Long-term Debt(Note7)..TotalCapitalization.

361)829,894,963362,040889,779CurrentLiabilities Currentmaturities oflong-term debtNotespayableAccountspayable..Dividends payable.Accruedtaxesandinterest.

AccruedvacationCustomerdeposits.

OtherTotalCurrentLiabilities

..1,31724@6810,0523,2404,3394,0016,54553,8621,36215,60026,13710,1125,3474,2514,0196,67673,504DeferredCreditsandOtherLiabilities Regulatory liabilities (NoteI)Operating reservesOtherTotalDeferredCreditsandOtherLiabilities.

81,2716,5821001997,87274,5874,755915588,497DeferredIncomeTax(Note4)205,393197,326Commitments andContingencies (NotesI,3and9).TOTALCAPITALIZATION ANDLIABILITIES

$1,252,090

$1,249,106 TheNotestoConsolidated Financial Statements areanintegralparthereof.4ICentralHudsonGas&ElectricCorporation Consolidated Statement ofIncomeYearEndedDecember31,Operating RevenuesElectricGas(InThousands) 1997$416,4291038481996$418,761952101995$409,445102770TotalOperating Rcvcnucs.

Operating ExpensesOperation:

Fuelusedinelectricgeneration

.Purchased electricity Purchased naturalgasOtherexpensesofoperation.

Maintenance Depreciation andamortization (Note2)Taxes,otherthanincometaxFederalincometax(Note4).TotalOperating Expcnscs60,94052,32362,33999,06329,44041,46766,7092904058,87455,52350,636102,74628,93842,58066,1453270066,11755,86461,514101,21927,57443,86464,87929190450221438,142441,321520,277513,971512,215Operating IncomeOtherIncome...

Allowance forequityfundsusedduringconstruction (Note2)....Federalincometax(Note4).Other-net.TotalOtherIncome.IncomebeforeInterestCharges.InterestClmrgcsInterestonlong-term debtOtherinterestAllowance forborrowedfundsusedduringconstruction (Note2)...Amortization ofexpenseondebtTotalInterestCharges...........................................................

700563872,953807911,4198147523,0972,647(261)758294661,63248156,91382,74223,6172,626(523)2666070894986353888610,22581,11925,9251,917(514)28397NetIncomePremiumonPrcfcrrcd StockRedemptions

-Net.Dividends DeclaredonCumulative Preferred StockIncomeAvailable forCommonStock56,082378323055,086323052,7221694903$51,856S52,474S47,650CommonStock:Averagesharesoutstanding (000s).Earningspershareonaveragesharesoutstanding

.17,435$2.9717,549$2.9917,380$2.74Consolidated Statement ofRetainedEarningsYearEndedDecember31,(InThousands)

Balanceatbeginning ofyearNctIncome.PremiumonPreferred StockRedemption

-NetDividends declared:

Oncumulative preferred stockOncommonstock($2.135persharc1997;$2.115pershare1996;$2.095persltare1995)TotalDividends DcclarcdBalanceatendofyear.1997$105,82155,0863,2303713740,367$120,5401996S90,47556,0823783,2303712840,358$105,8211995S79,28452,7221694,9033645941,362$90,475TheNotestoConsolidated Financial Statements areanintegralparthereof.42CentralHudsonGas&ElectricCorporation Consolidated Statement ofCashFlowsYearEndedDecember31,(InThousands) 199719961995Operating Activities NetIncomeAdjustments toreconcile netincometonetcashprovidedbyoperating activities:

Depreciation andamortization including nuclearfuelamortization.

Deferredincometaxes,net.Allowance forequityfundsusedduringconstruction

.NineMile2Plantdeferredfinancecharges,netProvisions foruncollectibles

........AccruedpensioncostsGainonsaleoflong-term investment.

DeferredgascostsDeferredgasrefunds.Other-netChangesincurrentassetsandliabilities, net:Accountsreceivable andunbilledutilityrevenues.Materials andsupplies................................................

Specialdepositsandprepayments AccountspayableAccruedtaxesandinterestOthercurrentliabilities Nctcashprovidedbyoperating activities.

48,34814,077(387)(4)855)3,493(8,555)3,4751,6957/23347,07317,848(466)(4,855)4,336(6,757)(4,861)(1,556)4,039(4,420)3)995(770)(1,769)(27107)61114,478(6,338)(505)(781)1,704(2,477)602103,088$55,086$56,082$52,72245,38814,146(986)(4,855)3,220,(10,627)(2,104)5,302(1,784)11,466(3,300)5,799(567)(5,008)995944110,751Investing Activities Additions toplant.Allowance forequityfundsusedduringconstruction Netadditions toplantNineMile2Plantdecommissioning trustfund.Proceedsfromsaleoflong-term investments

.Other-net.Nctcashusedininvesting activities.

I<'inancing Activities Proceedsfromissuanceof:Long-term debtCommonstock.Netborrowings (repayments) ofshort-term debt.Retirement andredemption oflong-term debtRetirement andredemption ofcumulative preferred stock.Premiumonpreferred stockredemption

.Dividends paidoncumulative preferred andcommonstockIssuanceandredemption costs.Reacquired capitalstockNctcashusedinfinancing activities.

NetChangeinCashandCashEquivalents.

CashandCashEquivalents atBeginning ofYear.CashandCashEquivalents atEndofYear(43,868)387(43,481)(2,861)2,389(43,953)2,000(15,600)(2,282)(40,426)(9,398)(65,706)4,8194,235$9,054$(49,860)466(49,394)(1,734)200(50,928)3,0901,81715,600(30,779)(13,000)(378)(40,489)736(63,403)(11,243)15,4784,235(50,269)986(49,283)(1,895)2,879(1,161)(49,460)1,0007,064(3,000)(3,139)(12,000)(146)(41,364)(20)(51,605)9,6865,792$15,478Supplemental Disclosure ofCashFlowInformation InterestpaidFederalincometaxespaid..$24,30917,111$25,18415,875$26,73814,100TheNotestoConsolidated Financial Statements areanintegralparthereof.43CentralHudsonGas&ElectricCorporation NOTESTOCONSOLIDATED FINANCIAL STATENENTSNOTEI-REGULATORY MATTERSCompetitive Opportunities Proceeding In1994,thePublicServiceCommission oftheStateofNewYork("PSC")instituted the"Competitive Opportunities Proceeding,"

theoverallobjective ofwhichistoidentifyregulatory andrate-making practices thatwillassistinthetransition toamorecompetitive electricindustry.

OnMay20,1996,thePSCissueditsOrder("Order")inthisproceeding settingforththePSC'svisionandgoalsforthefutureoftheelectricindustryinNewYorkState.TheOrdercalledforimplementation ofacompetitive wholesale powermarket,reducingratesforconsumers, increasing customerchoice,continuing reliability ofservice,continuing programsthatareinthepublicinterest, allayingconcernsaboutmarketpower,continuing customerprotections andtheobligation toserve.TheOrderrequiredtheCompanyandcertainotherutilities tofilearateandrestructuring planwiththePSCbyOctoberI,1996.TheCompanywasobligated tocomply(anddidsoonOctober1,1996)withtheprovision oftheOrder.OnOctober9,1996,thePSCissuedanorderestablishing procedures foracompletion ofdiscovery andsettlement negotiations regarding theutilities'ctober 1,1996submissions, and,intheabsenceofsettlement, foradministrative litigation beforeaPSCAdministrative LawJudge.AmendedSettlement Agreement OnMarch20,1997,aftermonthsofnegotiations, theCompanyenteredintoaSettlement Agreement withtheStaffofthePSC("Staff',theNewYorkStateDepartment ofEconomicDevelopment andotherparties("Settlement Agreement"

)whichaddressed theCommission's Orderbyproviding a(i)four-year basicelectricratefreezeforallcustomers; (ii)economicdevelopment inducements tocreateandmaintainjobsintheMid-Hudson Valley;(iii)areduction inpricesforthelargestindustrial customers; (iv)aphased-in programtoprovideallcustomers withtheopportunity tochoosetheirenergysupplierbeginning in1998;(v)amechanism fortheCompanytorecoverallprudently incurredstrandable costsand(vi)aproposaltostructurally separateitsgeneration assetsbyJuly1,2001throughthccreationofaholdingcompany,divestiture orotheroption.AtitsSeptember 17,1997session,thePSCdiscussed theSettlement Agreement andindicated thatfurthernegotiations wereneededoncertainopenissuesrelatedtotheauctioning oftheCompany's fossil-fuel electricgenerating units,theprovision ofcertaintypesofmetersandenvironmental programfunding.OnJanuary2,1998,theCompanyconcluded furthernegotiations withStaffandothersresulting inanAmendedSettlement Agreement betweentheCompany,thePSCStaff,andseveralotherinterested parties("AmendedSettlement Agreement"

).ThePSCapprovedtheAmendedSettlement Agreement atitsFebruary4,1998session;howeverthePSChadnotyetissueditsfinalorderatthetimethisdocumentwasfiledwiththeSccuritics andExchangeCommission.

Amongthemostsignificant developments intheAmendedSettlement Agreement isanagreement thattheCompanywillauctionitsfossil-fueled electricgenerating unitsfi.e.,theCompany's interestintheRosetonElectricGenerating Station("Roseton Plant")andtheCompany's Danskammer PointSteamElectricGenerating Station,("Danskammer Plant")],

withthesaleandtransfertobecompleted byJune30,2001.AtDecember31,1997thebookvalueofthoseunitsrepresented approximately 20%ofnetutilityplant.TheCompanyhasmaintained therighttobidintheauction.Theauctionwillalsoprovidecustomerbenefitsiftheauctionresultsinthesaleofassetsinexcessoftheirbookvalue.TheAmendedSettlement Agreement doesnotcontemplate thedivestiture ortransferoftheCompany's shareofUnitNo.2oftheNineMilePointNuclearStation("NineMile2Plant").AspartoftheAmendedSettlement Agreement, theCompanywillhaveareasonable opportunity torecoverprudently incurredandappropriately mitigated investments.

TheCompany's potential strandable costsarethosepriorutilityinvestments andcommitments thatmaynotberecoverable inacompetitive energymarket.Examplesincludeanyunrecovered costoftheCompany's fossil-fueled generating plants(resulting fromtheauctionprocess)andnetgeneration relatedregulatory assets.Duringthetransition, theCompanywillcontinuetorecoveritspotential electricstrandable costsintheratesitchargesitstransmission anddistribution customers.

Following thetransition, theCompanywillbegivenareasonable opportunity torecover,throughanon-bypassable chargetocustomers, remaining electricstrandable costs.Otherkeycomponents oftheAmendedSettlement Agreement include(i)abasicelectricratefreezethroughJune2001;(ii)phase-inofretailaccessthroughJune30,2001toresidential, commercial andsmallindustrial customers; (iii)a10.6%returnonequitycapwithexcessearningsdeferredforstrandedcostmitigation; (iv)provision toparticipate inastatewide programtosupportpublicpolicyinitiatives suchasenergyefficiency andrenewable sourcesforelectricity production; (v)thecreationofamechanism forimplementing retailtransmission tariffsthatwillbelimitedtocustomers eligibleduringthetransition periodand(vi)adetermination thatcustomers participating intheCompany's "Customer ChoicePlanforFarmersandFoodProcessing Businesses" willdosoundertermsoftheAmendedSettlement Agreement.

TheAmendedSettlement Agreement alsoaddresses optionsregarding anewcorporate structure fortheCompany.OnorbeforeJune30,2001,theCompany,subjecttoshareholder andregulatory approvals, willestablish aholdingcompany.Theholdingcompanywillincludearegulated transmission anddistribution companythatwillmaintainthesystemofwiresandpipelines whichdeliverelectricity andnaturalgastocustomers.

Theholdingcompanywillalsoincludeunregulated companies whichwillprovidea,varietyofnewservicestocustomers withinandoutsidetheMid-Hudson Valleyregionand,possibly, fossil-fueled generating unitsretainedoracquired.

44CentralHudsonGas&ElectricCorporation ImpactofAmendedSettlement Agreement onAccounting PoliciesThcAmendedSettlement Agreement createscertainchangestotheCompany's accounting policies.

TheCompany's accounting policiesconformtogenerally acceptedaccounting principles, which,forregulated publicutilities, includeStatement ofFinancial Accounting Standards No.71,"Accounting fortheEffectsofCertainTypesofRegulation"

("SFAS71").UnderSFAS71,regulated companies defercostsandcreditsonthebalancesheetasregulatory assetsandliabilities whenitisprobablethatthosecostsandcreditswillbeallowedintherate-making processinaperioddifferent fromwhentheyotherwise wouldhavebeenrcflected inincome.Thesedeferredregulatory assetsandliabilities arethenreflected intheincomestatement inthcperiodinwhichthcsameamountsarerefiectcd inrates.Ifsomeofanenterprise's operations areregulated andmeettheappropriate

criteria, SFAS71isappliedonlytothcregulated portionoftheenterprise's operations.

Asdiscussed above,thegoaloftheAmendedSettlement Agreement istoderegulate and,ultimately, divesttheCompany's fossil-fueled generating assets.During1997,theFinancial Accounting Standards Board("FASB")EmergingIssuesTaskForceconcluded thatanentityshoulddiscontinue application ofSFAS71toanyportionofitsbusinesswhenaderegulation transition planisinplaceandthetermsareknown.TheAmendedSettlement Agreement wasapprovedbythePSConFebruary4,1998,andonthatdatetheCompanyappliedthestandards inStatement ofFinancial Accounting Standards No.101,"Regulated Enterprises-Accounting fortheDiscontinuation ofApplication ofFASHStatement No.71"("SFAS101")tothefossil-fueled generating portionofitsbusiness.

Therefore, theCompanydiscontinued application ofSFAS71toitsfossil-fueled generation assetsasofthedateofsuchapproval.

Theapplication ofSFAS101tothefossil-fueled generating portionoftheCompany's businesswillnothaveamaterialadversecffcctonthcCompany's financial positionorresultsofoperations asofthedateofsuchapproval.

Statement ofFinancial Accounting Standards No.121,"Accounting fortheImpairment ofLong-Lived AssetsandforLong-LivedAssetstobcDisposedOf,"("SFAS121")requiresthatlong-lived assetsbereviewedforimpairment ifthccarryingvalueofthcassetmaynotbcrecoverable.

SFAS121alsorequiresthatlong-lived assetstobedisposedofbecarriedatthelowerofnetbookvalueorfairvalue,andamendsSFAS71torequirethatregulatory assetsbechargedagainstearningsifrecoveryofsuchassetsisnolongerconsidered probable.

TheCompanywillnotrecognize animpairment ofitsfossil-fueled generating assetsbecausethcestimated cashflowsfromoperations, thesaleofsuchgenerating assets,andstrandedcostrecoveryprovisions oftheAmendedSettlement Agreement arenotexpectedtobelessthanthenetcarryingamountofsuchgenerating assets.Certainregulatory assetsandliabilities havebeencreatedasaresultoftransactions relatingtotheCompany's fossil-fueled generating assets.AtDecember31,1997,netregulatory assetsassociated withthefossil-fueled generating assetstotaled$7.6million.ThcCompanydidnotexpenseanyofthesenetregulatory assetsbecauserecoveryofsuchassetsisconsidered probable~~~undertheAmendedSettlement Agreement.

SummaryofRegulatory AssetsandLiabilities Thefollowing tablesetsforththeCompany's regulatory assetsandliabilities:

AtDecember31Regulatory Assets(Debits):

Defcrrcdfinancecharges-NineMile2Plant....Incometaxesrecoverable throughfuturerates...Deferredenergyefficiency costs.........................

Other.TotalRegulatory Assets1997$68,47049/205,16816378$139/361996S69,61555,7918,89417126$151,426(InThousands)

Regulatory Liabilities (Credits):

Deferredfinancecharges-NineMile2Plant...Incometaxesrefundable DeferredNineMile2Plantcosts.......................

Deferredpensioncostsovercollection

...............

DeferredOPEBcostsovercollection

.................

Deferredunbilledgasrevenues...........

Other.TotalRegulatory Liabilities

.NetRegulatory Assets.S16%43128/1611/968@066/244/555643$81771$57@65S22,43129,0776/2239974,77843573625$74/87$76,839Someofthesignificant regulatory assetsandliabilities include:DeferredFinanceCharges-NineMile2Plant:Duringtheconstruction oftheNineMile2Plant,thePSCauthorized thenclusioninratebaseofincreasing amountsoftheCompany's investment inthatPlant.TheCompanydidnotaccrueanallowance forthccostoffundsusedduringconstruction

("AFDC")onanyofthcNineMile2Plantconstruction workinprogress("CWIP")whichwasincludedinratebaseandforwhichacashreturnwasbeingallowed;howcvcr,thcPSCordered,effective January1,1983,45CentralHudsonGas&ElectricCorporation thatamountsbeaccumulated indeferreddebitandcreditaccountsequaltotheamountofAFDCwhichwasnotbeingaccruedontheCWIPincludedinratebase("MirrorCWIP").Thebalanceinthe-deferred creditaccountisavailable toreducefuturerevenuerequirements byamortizing portionsofthedeferredcredittootherincomeorbytheelimination throughwritingoffotherdeferredbalancesasdirectedbythePSC.TheCompanyexpectssuchapplication ofthedeferredcreditwilloccuroveraperiodsubstantially shorterthanthelifeoftheNineMile2Plant.Whenamountsofsuchdeferredcreditareappliedinordertoreducerevenuerequirements, amortization isstartedforacorresponding amountofthedeferreddebit,whichamortization continues onalevelbasisovertheremaining lifeoftheNineMile2Plantresulting inrecoveryofsuchcorresponding amountthroughrates.MirrorCWIPisexpectedtobeexhausted bythecndoftheusefullifeoftheNineMile2Planteitherthroughtheamortization orwrite-off proccdurcs described aboveorthroughthewrite-off oftheremaining debitandcreditasdirectedbythePSC.Theneteffectofthisprocedure isthatattheendoftheamortization periodforthedeferredcredit,theaccounting andrate-making treatment willbethesameasiftheNineMile2PlantCWIPhadnotbeenincludedinratebaseduringtheconstruction period.PursuanttoaPSCOrderissuedandeffective February11,1994,inanelectricrateproceeding, theCompanywasauthorized toamortize$6.0millionannuallyofthedeferredcreditbeginning inDecember1993.The$6.0millionamortization ofthedeferredcreditwillbecontinued unlesschangedbyafuturePSCrateorderoruntilitisexhausted.

Underprovisions oftheAmendedSettlement Agreement, thisamortization willbereplacedwithotherdeferredcreditstotheextentnecessary toprovideforfullreplacement oftheexpiringmirrorCWIPcredits.Thecurrentlevelofthedeferreddebitamortization of$1.145millionisbasedonthelevelofdeferredcreditsthathavebeenutilizedthroughthemostrecentrateyear,whichhasended.Creditamountsutilizedsubsequently areincludedinthedeferreddebitamortization levelatthetimeofthenextPSCrateorderforthenewrateyearbasedonthethenremaining lifeoftheNineMile2Plant.IncomeTaxesRccovcrabldRcfundablc:

TheadoptionofStatement ofFinancial Accounting Standards 109,"Accounting forIncomeTaxes,"("SFAS109")in1993increased theCompany's netdeferredtaxobligation.

Asitisprobablethattheincreasewillberecovered fromcustomers, theCompanyestablished anetregulatory asset.DcfcrrcdNineMile2PlantCosts:Theexistingrate-making fortheNineMile2Plant,asdirectedbythePSCinitsOrderonNineMile2Operating andCapitalForecastfor1996("Supplement No.5"),providesforthedeferralofthedifference betweenactualandauthorized operating andmaintenance expense.Supplement No.5continues ineffectuntilchangedbyasubsequent rateorder.For1996and1997theNineMile2Plantincurredlessactualexpensethanauthorized, andtheCompany's sharehasbeenrccordcdasaregulatory liability inaccordance withSupplement No.5.Independent SystemOperatorThcCompanyisamemberoftheNewYorkPowerPool("NYPP")whosemembers,majorinvestor-owned Stateelectricutilitycompanies andthePowerAuthority oftheStateofNewYork("PASNY"),

byagreement, provideforcoordinated operation oftheirbulkpowerelectricsystems.InafilingwiththeFederalEnergyRegulatory Commission

("FERC"),

datedJanuary31,1997,themembersystemsoftheNYPPproposedanewmarketstructure thatwouldincludeasakeyelementtheestablishment ofanIndependent SystemOperator("ISO").TheISO'sprincipal missionwouldbetomaintainthereliability oftheNewYorkStatebulkpowersystemsandtoprovidetransmission serviceonacomparable andnon-discriminatory basis.TheNYPPfiledasupplemental filingwithFERCinDecember1997,whichexpandedtherestructuring filingofJanuary31,1997.TheCompanyisunabletopredicttheoutcomeoftheseFERCfilings.NOTE2-SUNIvIARY OFSIGNIFICANT ACCOUNTING POLICIESPrinciples ofConsolidation Thcconsolidated financial statements includetheaccountsoftheCompanyanditssubsidiaries.

Intercompany balancesandtransactions havebeeneliminated.

TheCompany's subsidiaries areeachwhollyownedandarecomprised oflandholding, cogeneration orenergy'anagement companies.

ThenetincomeoftheCompany's subsidiaries isreflected intheConsolidated Statement ofIncomeasothernon-operating income.Rates,RevenuesandCostAdjustment ClausesElectricandgasretailrates,including fuelandgascostadjustment clauses,applicable tointrastate service(otherthancontractually established ratesforservicetomunicipalities andgovernmental bodies)areregulated bythePSC.Transmission rates,facilities chargesandratesforelectricity soldforresaleininterstate commerceareregulated bytheFERC.Revenuesarerccognizcd onthebasisofcyclebillingsrenderedmonthlyorbimonthly.

Estimated revenuesareaccruedforthosecustomers billedbimonthly whosemetersarenotreadinthecurrentmonth.TheCompany's tariffforretailelectricserviceincludesafuelcostadjustment clausepursuanttowhichelectricratesareadjustedtoreflectchangesintheaveragecostoffuelsusedforelectricgeneration andincertainpurchased powercosts,fromtheaverageofsuchcostsincludedinbaserates.TheCompany's tariffforgasservicecontainsacomparable clausetoadjustgasratesforchangesinthcpriceofpurchased naturalgasandcertaincostsofmanufactured gas.46CentralHudsonGas&ElectricCorporation

~~~UtilityPlantThecostsofadditions toutilityplantandreplacements ofretiredunitsofpropertyarecapitalized atoriginalcost.TheCompany's shareofthecostsoftheNineMile2Plantarecapitalized atoriginalcost,lessthedisallowed investment of$169.3millionwhichwasrecordedin1987.Costsincludelabor,materials andsupplies, indirectchargesforsuchitemsastransportation, certaintaxes,pensionandotheremployeebenefitsandAFDC.Replacement ofminoritemsofpropertyisincludedinmaintenance expenses.

Theoriginalcostofproperty, togetherwithremovalcost,lesssalvage,ischargedtoaccumulated depreciation atsuchtimeasthepropertyisretiredandremovedfromservice.JointlyOwnedFacilities TheCompanyhasa9%,or103MW,undivided interestinthe1,143MWNineMile2Plant(seeNote3,hereof)anda35%,or420MW,undivided interestinthe1,200MWRosetonPlant.TheCompany's shareoftherespective investments intheNineMile2PlantandtheRosetonPlant,asincludedinitsConsolidated BalanceSheetatDecember31,1997and1996,were:(InThousands)

NineMile2PlantPlantinserviceAccumulated depreciation

..........

Construction workinprogress....RosetonPlantPlantinserviceAccumulated depreciation

..........

Construction workinprogress....$316,123(70,202)1,032$134,555(77,438)571$314,270(61,708)1,894$135,026(74,963)745Allowance ForFundsUsedDuringConstruction TheCompanyincludesinplantcostsAFDCapproximately equivalent tothecostoffundsusedtofinanceconstruction expenditures.

Theconcurrent creditfortheamountsocapitalized isreportedintheConsolidated Statement ofIncomeasfollows:theportionapplicable toborrowedfundsisreportedasareduction ofinterestchargeswhiletheportionapplicable tootherfunds(theequitycomponent, anoncashitem)isreportedasotherincome.TheAFDCratewas8.0%in1997,7.5%in1996and8.5%in1995.Depreciation andAmortization Forfinancial statement

purposes, thcCompany's depreciation provisions arecomputedonthestraight-line methodusingratesbasedonstudiesoftheestimated usefullivesandestimated netsalvagevalueofproperties, withtheexception oftheNineMile2Plantwhichisdepreciated onaremaining lifeamortization method.Theyear2026,whichistheyearinwhichtheNineMile2Plantoperating licenseexpires,isusedastheenddateinthedevelopment oftheremaining lifeamortization.

ThcCompanyperformsdepreciation studiesonacontinuing basisand,uponapprovalbythePSC,periodically adjuststheratesofitsvariousclassesofdepreciable property.

Themostrecentstudywasperformed in1993.TheCompany's composite ratesfordepreciation were3.16%in1997,3.13%in1996and3.14%in1995oftheoriginalcostofaveragedepreciable property.

Theratiooftheamountofaccumulated depreciation tothecostofdepreciable propertyatDecember31was38.2%in1997,36.5%in1996and35.3%in1995.Forfcdcralincometaxpurposes, theCompanyusesanaccclcratcd methodofdepreciation andgenerally usestheshortestlifepermitted foreachclassofassets.Amortization ofNuclearFuelThecostoftheNineMile2Plantnuclearfuelassemblies andcomponents isamortized tooperating expensebasedonthcquantityofheatproducedforthegeneration ofelectricenergy.NiagaraMohawkPowerCorporation

("NiagaraMohawk"),onbehalfoftheNineMile2Plantcotenants, hasenteredintoanagreemcnt withtheU.S.Department ofEnergy("DOE")fortheultimatedisposalandstorageofspentnuclearfuel.Thecotenants areassessedafeeforsuchdisposalbaseduponthekilowatthours generated bytheNineMile2Plant.Thesecostsarechargedtooperating expenseandrecovered fromcustomers throughbaseratesorthroughtheelectricfuelcostadjustment clausedescribed herein.TheCompanycannotnowdetermine whethersucharrangements withtheDOEwillultimately provideforthesatisfactory pcrmancnt disposalofsuchwasteproducts.

47CentralHudsonGas&ElectricCorporation CashandCashEquivalents ForpurposesoftheConsolidated Statement ofCashFlows,theCompanyconsiders temporary cashinvestments withamaturitywhenpurchased ofthreemonthsorlesstobecashequivalents.

FederalIncomeTaxTheCompanyanditswholly-owned subsidiaries fileaconsolidated federalincometaxreturn.Federalincometaxesareallocated tooperating expensesandotherincomeanddeductions intheConsolidated Statement ofIncome.Federalincometaxesaredeferredundertheliability methodinaccordance withFinancial Accounting StandardNo.109,"Accounting forIncomeTaxes."Undertheliability method,deferredincometaxesareprovidedforalldifferences betweenfinancial statement andtaxbasisofassetsandliabilities.

Additional deferredincometaxesandoffsetting regulatory assetsorliabilities arerecordedtorecognize thatincometaxeswillberecoverable orrefundable throughfuturerevenues.

UseofEstimates Preparation ofthefinancial statements inaccordance withgenerally acceptedaccounting principles includestheuseofestimates andassumptions bymanagement thataffectthereportedamountsofassetsandliabilities anddisclosures ofcontingent assetsandliabilities atthedateofthefinancial statements andreportedamountofrevenuesandexpensesduringthereporting period.Actualresultsmaydifferfromthoseestimates.

NewAccounting Standards andOtherFASBProjectsSegmentDisclosures:

InJune1997,theFASBissuedStatement ofFinancial Accounting Standards No.131,"Disclosures aboutSegmentsofanEnterprise andRelatedInformation"

("SFAS131").ThisStatement establishes standards forreporting information aboutoperating segmentsinannualandinterimfinancial statements.

Italsoestablishes standards forrelateddisclosures aboutproductsandservices, geographic areasandmajorcustomers.

Incompliance withtherequirements ofthisStatement, theCompanyexpectstoadoptSFAS131in1998.TheCompanydoesnotexpectthattheadoptionofSFAS131willhaveasignificant impactonthereporting requirements oftheCompany.PlantDecommissioning:

TheFASBisconsidering whenaliability forplantdecommissioning orotherlong-lived assetretirement shouldberecognized, howanysuchliability shouldbemeasured, andwhetheracorresponding assetiscreated.InanexposuredraftissuedFebruary1996,FASBtentatively concluded thataliability shouldberecognized forlegalorunavoidable constructive obligations forclosureandremovaloffacilities, suchastheNineMile2Plant,astheobligation isincurred.

Theliability recognized forthoseclosureandremovalobligations shallreflectthcpresentvalueofestimated futurecashoutflowscurrently expectedtoberequiredtosatisfythoseobligations.

Initialrecognition ofaliability forclosureandremovalobligations increases thecostoftherelatedassetbecauseincurrence oftheobligation isintegraltooraprerequisite foroperating theasset.Further,anysecurities orotherassetsdedicated tofuturesettlement ofclosureandremovalobligations cannotbcoffsettothoseliabilities forfinancial reporting purposes.

TheFASBisdeliberating thisissueandtheresulting finalpronouncement, whichmaybeissuedin1998,couldbedifferent fromthatprojected intheexposuredraft.TheCompanydocsnotbelievethatsuchchanges,ifrequired, wouldhaveasignificant adverseeffectonresultsofoperations duetoitscurrentbeliefthatdecommissioning costswillcontinuetoberecovered inrates.However,futuredevelopments intheutilityindustry, including theeffectsofdcrcgulation andincreasing competition, couldchangethisconclusion.

NOTE3-NINENILE2PLANTGeneralTheNineMile2PlantislocatedinOswegoCounty,NewYork,andisoperatedbyNiagaraMohawk.TheNineMile2PlantisownedastenantsincommonbytheCompany(9%interest),

NiagaraMohawk(41%interest),

NewYorkStateElectric&GasCorporation

("NYSE&G")

(18%interest),

LongIslandLightingCompany("LILCO")

(18%interest),

andRochester GasandElectricCorporation

("Rochester"

)(14%interest).

TheoutputoftheNineMile2Plant,whichhasaratednetcapability of1,143MW,issharedandtheoperating expensesofthePlantareallocated tothecotenants inthesameproportions asthecotenants'espective ownership interests.

TheCompany's shareofdirectoperating expensefortheNineMile2Plantisincludedintheappropriate expenseclassifications intheaccompanying Consolidated Statement ofIncome.UndertheOperating Agreement enteredintobythecotenants, NiagaraMohawkactsasoperatoroftheNineMile2Plant,andallfivecotenants sharecertainpolicy,budgetandmanagerial oversight functions.

TheOperating Agreement remainsineffectsubjecttotermination onsixmonths'otice.

48CentralHudsonGas&ElectricCorporation

~~Radioactive WasteNiagaraMohawkhascontracted withtheDOEfordisposalofhigh-level radioactive waste("spentfuel")fromtheNineMile2Plant.Despiteacourtorderreaffirming theDOE'sobligation toacceptspentnuclearfuelbyJanuary31,1998,theDOEhasforecasted thestartofoperations ofitshigh-level radioactive wasterepository tobenoearlierthan2010.TheCompanyhasbeenadvisedbyNiagaraMohawkthattheNineMile2Plantspentfuelstoragepoolhasacapacityforspentfuelthatisadequateuntil2012.IfDOEscheduleslippageshouldoccur,facilities thatextendtheon-sitestoragecapability forspentfuelattheNineMile2Plantbeyond2012wouldneedtobeacquired.

NuclearPlantDecommissioning CostsTheCompany's 9%shareofcoststodecommission theNineMile2Plantisestimated tobeapproximately

$209.6million($77.7millionin1997dollars)andassumesthatdecommissioning willbeginintheyear2028.Thisestimateisbaseduponasite-specificstudycompleted inDecember1995.InordertoassisttheCompanyinmeetingthisobligation, theCompanymakesannualcontributions of$868,000toaqualiTied externaldecommissioning trustfund.Thetotalannualamountallowedinratesis$999,000,butthemaximumannualtaxdeduction allowedis$868,000.Currently, thedifference betweentherateallowance

($999,000)andtheamountcontributed totheexternalqualified fund($868,000)isrecordedasaninternalreserve($131,000),

andthefundsareheldbytheCompany.Thcqualified externaldecommissioning trustfundatDcccmbcr31,1997and1996amountedto$11.0millionand$8.1million,respectively, including netreinvested earningstodateof$4.3million.Thequalified externaldecommissioning trustfundisreflecteintheCompany's Consolidated BalanceSheetin"Investments andOtherAssets-Other."

AtDecember31,1997,theexternaldecommissioning trustfundinvestments carryingvalueapproximated fairmarketvalue.Theamountofaccumulated decommissioning costsrecovered throughratesandthenctearningsoftheexternaldecommissioning trustfundarereflected inaccumulated depreciation intheConsolidated BalanceShcctandamountto$12.6millionand$9.6millionatDecember31,1997and1996,respectively.

Reference ismadetothesubcaption "NewAccounting Standards andOtherFASBProjects-PlantDecommissioning" inNote2hereoffordetailsoftheproposedchangesinaccounting fornucleardecommissioning costs.TheCompanybelievesthatifdecommissioning costsaregreaterthancurrently estimated, suchrevisedcostswouldberecovered inrates.However,futuredevelopments intheutilityindustry, including theeffectsofderegulation andincreasing competition, couldchangethisconclusion.

NOTE4-FEDERALINCOMETAXComponents ofFederalIncomeTaxThefollowing isasummaryofthecomponents offederalincometaxasreportedintheConsolidated Statement ofIncome:199719961995(InThousands)

Chargedtooperating expense:Fcdcralincometax.................................................

DeferredincometaxIncometaxchargedtooperating expense.....$19,00410,18629,190$18,93613,76432,700$19,2459,79529,040Charged(credited) tootherincomeanddeductions:

FederalincometaxDeferredincometaxIncometaxcharged(credited) tootherincomeanddeductions.

Totalfederalincometax.(6,844)3,891(2,953)$26,237(5,716)4,084(1,632)$31,068(4,704)4,351(353)$28,68749CentralHudsonGas&ElectricCorporation Reconciliation:

Thefollowing isareconciliation betweentheamountoffederalincometaxcomputedonincomebeforetaxesatthestatutory rateandtheamountreportedintheConsolidated Statement ofIncome:19971996(InThousands) 1995Netincome......................

Federalincometax.DeferredincometaxIncomebeforetaxes$55,08612,16014077$81823$56,08213/2017848$87,150$52,72214/4114146$81,409ComputedtaxI35%statutory rateIncrease(decrease) tocomputedtaxdueto:Alternative minimumtax.Taxdepreciation PensionexpenseDeferredstormcosts.Deferredfinancecharges-NineMile2Plant...NineMile2settlement costsDeferredgascosts...............................................

OtherFederalincometax.DcferrcdincometaxTotalfcdcralincometax$28/63(7@50)(4/25)(2855)(2457)(1,699)1/671/16(700)12,16014077$26/37$30403(2862)(10,499)(2,424)(1,699)1,043(1,703)26113/2017848$31,068$28,493(2,958)(10,096)(1,738)(1,701)8432/86588)14/4114146$28,687Effective taxrate323%35.6%35.2%Thefollowing isasummaryofthecomponents ofdefcrrcdtaxesatDcccmber31,1997and1996,asreportedintheConsolidated BalanceSheet:1997(InThousands) 1996Accumulated DcfcrrcdIncomeTaxAssets:Futuretaxbenefitsoninvestmcnt taxcreditbasisdifference Alternative minimumtax.UnbilledrevenuesOther.Accumulated DcfcrrcdIncomeTaxAssets$14/371,0485,67529,047$50,607$isyig8@985,65426,891$56$61Accumulated DeferredIncomeTaxLiabilities:

Taxdcprcciation Accumulated deferredinvestment taxcredit.................

Futurerevenues-recoveryofplantbasisdifferences

...Other.Accumulated DeferredIncomeTaxLiabilities

..................

$181P1427/5517,47529656$256,000$176/2228,44820,3212896$253/87NetAccumulated DefencdIncomeTaxLiability

...$205493$197@2650CentralHudsonGas&ElectricCorporation NOTE5-SHORT-TERN BORROWING ARRANGEIvIENTS TheCompanyhasineffectarevolving creditagreement withfourcommercial bankswhichallowsittoborrowupto$50.0millionthroughOctober23,2001("Agreement"

).TheAgreement givestheCompanytheoptionofborrowing ateitherthehigheroftheprimerateorthesumofthefederalfundsrateplus1/2%,orthreeothermoneymarketrates,ifsuchratesarelower.Compensating balancesarenotrequiredundertheAgreement.

Inaddition, theCompanycontinues tomaintainconfirmed linesofcredittotaling$1.5millionwithtworegionalbanks.Therewerenooutstanding loansundertheAgrecmcnt orthelinesofcreditatDecember31,1997or1996.Inordertodiversify itssourcesofshort-term financing, theCompanyhasenteredintoshort-term creditfacilities agreements withseveralcommercial banks.TheCompanyhadnoshort-term debtoutstanding atDecember31,1997.AtDecember31,1996,theCompanyhadoutstanding short-term debtof$15.6millionundersuchfacilities withaweightedaverageinterestrateof5.94%.Authorization fromthePSClimitstheamounttheCompanymayhaveoutstanding, atanytime,underallofitsshort-term borrowing arrangements to$52.0millionintheaggregate.

NOTE6-CAPITALIZATION

-CAPITALSTOCKCommonStock,$5parvalue;30,000,000 sharesauthorized:

SharesOutstanding Amount($000)CommonStockPaid-InCapital($000)Reacquired CapitalStock($000)January1,1995Issuedunderdividendreinvestment plan("DRP")(a)

...Issuedundercustomerstockpurchaseplan("CSPP")(a)

.Redemption ofpreferred stockDecember31,1995.IssuedunderDRP(a).IssuedunderCSPP(a)December31.1996.Rcpurchascd undercommonstockrepurchase plan.December31,1997.17438,464 218,610$86,192$277,205$1,0934,8978793919538,97717,496,051 49,023913282,9421,27824587,4802450284,465939887,77517654,987 27520017+79,787

$87,775$284,465$(9/98)(a)Inhfayl996,theCompanyconverted itsDRPanditsCSPPfromoriginalissuetoopenmarketpurchaseofcommonshares.Cumulative Preferred Stock,$100parvalue;1,200,000 sharesauthorized:

NotSubjecttoMandatory Redemption:

SeriesFinalRedemption Redemption PriceDate12/31/97SharesOutstandin December31,19971996SubjecttoMandatory Redemption:

41/2%4.75%4.35%4.96%6.20%6.80%10/I/08(a)10/1/27(0)Total$107.00106.75102.00101.0070,30020,00060)00060,000210,300200,00015000035000056)030070/0020,00060,00060,000210300200,000150000350000560300(a)CannotberedeemedpriortoOctoberI,2003.51CentralHudsonGas&ElectricCorporation TheCompanyhadnocumulative preferred stockredemptions orissuances during1997;howeveronJanuaryI,1996,theCompanyoptionally redeemedits7.72%SeriesCumulative Preferred Stock(parvalue$100pershare)ataredemption priceof$101.00pershare.The$13.1millionredemption pricepaidandassociated costswerefundedthroughinternalsources.Expensesincurredonissuanceofcapitalstockareaccumulated andreportedasareduction incommonstockequity.Theseexpensesarenotbeingamortized, exceptthat,asdirectedbythePSC,certainissuanceandredemption costsandunamortized expensesassociated withcertainissuesofpreferred stockthatwereredeemedhavebeendeferredandarebeingamortized overtheremaining livesoftheissuessubjecttomandatory redemptions.

ByOrder,issuedandeffective December4,1996,thePSCauthorized theissuanceandsaleofcertaindebtandequitysecurities oftheCompany.ThatOrderauthorizes theCompany,throughDecember31,1999,to:I)issueandsellupto$40.0millionofnewsecurities comprised ofcommonstockand/ormediumtermnotes,2)acquirenotmorethan2.5millionsharesofitsissuedandoutstanding commonstockofwhichtheCompanyrepurchased 275,200sharesduring1997,and3)effective JanuaryI,1997,combineitsexistingDRP,itsCSPPanditsEmployeeStockPurchasePlanintoasingleplancalledtheStockPurchasePlan.TheStockPurchasePlanbecameeffective JanuaryI,1997,superseded suchotherplansandoperatesasanoriginalissueoropenmarketpurchaseplan.NOTE7-CAPITALIZATION

-LONG-TERN DEBTDetailsof'ong-term debtareshownbelow:December31,SeriesMaturitDate(InThousands)

FirstMortgageBonds(NctofSinkingFundRequirements):

6.10%(a)7.70%(a)7.97%(a)7.97%(a)6.46%(a)6I/4%(b)9I/4%8.12%(a)8.14%(a)8.375%(b)

Promissory Notes:April28,2000June12,2000June11,2003Junc13,2003August11,2003JuneI,2007MayI,2021August29,2022August29,2022DecemberI,2028$10,00025,0008,0008,00010,0004@2570,00010,00010,00016700172025$10,00025,0008,0008,00010,0004,41570,00010,00010,00016700172,1151984SeriesA(73/8%)(c)1984SeriesB(73/8%)(c)1985SeriesA(Var.rate)(c)1985SeriesB(Var.rate)(c)1987SeriesA(Var.rate)(c)1987SeriesB(Var.rate)(c)5.38%(a)7.85%(a)OctoberI,2014OctoberI,2014NovemberI,2020NovemberI,2020JuneI,2027JuneI,2027January15,1999July2,200416,70016,70036,25036,00033,7009,90020,00015.000184,25016,70016,70036,25036,00033,7009,90020,00015.000184,250SecuredNotesPayableofSubsidiary Unamortized DiscountonDebtTotallong-term debt6,152(598)$361,8296,299(624)$362,040(a)IssuedundertheCompany's hfediumTermNoteProgram.(b)Firsthiortgage Bondsissuedinconnection withthesalebytlteNewYorkStateEnergyResearchandDevelopment Authority

("NYSERDA

")oftax-exempt pollution controlrevenuebonds.(c)Prom!ssory Notesissuedinconnection withthesalebyNYSERDAoftax.exempt pollution controlrevenuebonds.52CentralHudsonGas&ElectricCorporation FirstMortgageBondsTheCompanydidnotissueorredeemanyfirstmortgagebondsduring1997;however,onMay1,1996,theCompanyredeemed$30millionofits83/4%Seriesdue2001ataredemption priceof102.07%oftheprincipal amount.MediumTermNotesByOrder,issuedandeffective December4,1996,thePSCauthorized theCompanytoissueandsellnotlaterthanDecember31,1999,acombination ofnewdebtsecurities and/orcommonstocktotalingnotmorethan$40.0millionintheaggregate.

AmendedSettlement Agreement UnderthetermsoftheAmendedSettlement Agreement described inNoteIhereof,theCompanymaytransferupto$100millionfromitsregulated utilitybusinesstoitsunregulated businesses priortotheformation ofaholdingcompany.TheCompanymay,pursuanttothisauthorization, issueupto$100millionnewsecurities in1998or1999.Thetypeofsecurities ortimingofissuanceisuncertain.

NYSERDATheNYSERDAPollution ControlRevenueBondsissuedin1985(SeriesAandB)and1987(SeriesAandB)(collectively, the"1985and1987NYSERDABonds")arevariablerateobligations subjecttoweeklyrepricing andinvestortender.TheCompanyhastheright,exercisable independently withrespecttoeachseriesofthe1985and1987NYSERDABonds,toconvertthoseBondsofeachsuchseriestoafixedratefortheremainder oftheirterm.Initsrateorders,thePSChasauthorized deferredaccounting fortheinterestcostsontheCompany's 1985and1987SeriesAandBPromissory Noteswhichwereissuedinconnection withthesaleofthe1985and1987NYSERDABonds.Theauthorization providesforfullrecoveryofthevariancebetweenthatportionoftheactualinterestcostssupporting utilityoperations andtheinterestcostsallowedinrates.Thepercentofinterestcostssupporting utilityoperations represents approximately 95%ofthetotalcosts.Thedeferredbalancesundersuchaccounting were$3.8millionand$2.4millionatDecember31,1997and1996,respectively, andwereincludedin"Regulatory Assets"intheCompany's Consolidated BalanceSheet.Suchdcferrcdbalancesaretobeaddressed infutureratecases.ByOrder,issuedandeffective December4,1996,thePSCauthorized theCompanytoissueupto$132.55millionoftax-exempt NYSERDAPollution ControlRevenueBondsforrefunding purposesorforthepurposeofrefinancing, ifeconomical, alikeamountofsuchbondspresently outstanding.

LettersofCreditTheCompanyhasinplaceirrevocable lettersofcreditwhichsupportcertainpaymentsrequiredtobemadeonthe1985and1987NYSERDABonds.Suchlettersofcreditexpirein1999and2000.TheCompanyanticipates beingabletoextendsuchlettersofcreditiftheinterestrateontherelatedseriesofsuchBondsisnotconverted toafixedinterestrate.IftheCompanywereunabletoextendtheletterofcreditthatisrelatedtoaparticular seriesofsuchBonds,thatserieswouldhavetoberedeemedunlessafixedrateofinterestbecameeffective.

Paymentsmadeunderthelettersofcreditinconnection withpurchases oftendered1985and1987NYSERDABondsarerepaidwiththeproceedsfromtheremarketing ofsuchBonds.Totheextenttheproceedsarenotsufficient, theCompanywouldberequiredtoreimburse thebankthatissuedtheletterofcreditfortheamountofanyresulting drawunderthatletterpriortoitsexpiration date.InterestRateCapByOrder,issuedandeffective December4,1996,thePSCauthorized theCompanytoemployinterestratecaps,collarsandfloorstomanageinterestrateriskassociated withitsvariablerate1985and1987NYSERDABondsandtorecognize theassociated costsasinterestexpenseforrate-making purposes.

TheCompanyenteredintoaninterestratecapagreement withabanktomanageexposuretoupwardchangesininterestratesonthe1985and1987NYSERDABonds.Underthisagreement, intheeventanationally recognized tax-exempt bondinterestrateindexexceeds8%,theCompanywillreceiveapaymentfromsuchbankequaltotheamountbywhichtheactualinterestcostsonsuchBondsexceeds8%perannum.Thisagreement hastheeffectoflimitingtheinterestratetheCompanymustpayonsuchbonds(ona$115.9millionnotionalamount)tothelesseroftheiractualrateor8%perannum.Intheeventsuchbankfailedtomakeanyrequiredpaymentundersuchinterestratecapagreement, theCompany's exposurewouldbelimitedtoamaximuminterestrateof15%perannumunderthetermsofsuchBonds.Theinterestratecapagreement currently ineffectexpiresonApril19,1998.TheCompanyintendstoenterintoanewagreement priortosuchexpiration datetoprovidesimilarriskmanagement benefitsfortheremainder of1998andpossiblybeyond.DebtExpenseExpensesincurredondebtissuesandanydiscountorpremiumondebtaredeferredandamortized overthelivesoftherelatedissues.Expensesincurredondebtredemptions priortomaturityhavebeendeferredandaregenerally beingamortized overtheshorteroftheremaining livesoftherelatedextinguished issuesorthenewissuesasdirectedbythcPSC.DebtCovenants Certaindebtagreements requirethemaintenance bytheCompanyofcertainfinancial ratiosandcontainotherrestrictive covenants.

MortgageIndenture CovenantArticleXXIoftheCompany's FirstMortgageBondIndenture requiresthattheCompanydeposit,annuallywiththeIndenture rusteecashinanamountequaltothedifference betweenannualcapitaladditions anddepreciation charges,ifsuchchargesexceedcapitaladditions, totheextentthatsuchdifference isnotoffsetbycreditsfromprioryears.Thoughnocashdepositwasrcquircdin1997or1996,theCompanyanticipates thatadepositofcashofupto$4.0millionwillbemadepursuanttosuchArticlebyMarch31,1998.Suchdepositmaybewithdrawn atasubsequent datetofundredemptions ofoutstanding mortgagebonds.53CentralHudsonGas8cElectricCorporation NOTE8-POSTENPLOYNENT BENEFITSRetirement IncomePlanTheCompanyhasanon-contributory retirement incomeplan("Retirement Plan")coveringsubstantially allofitsemployees.

TheRetirement Planprovidespensionbenefitsthatarebasedontheemployee's compensation andyearsofservice.IthasbeentheCompany's practicetoprovideperiodicupdatestothebenefitformulastatedintheRetirement Plan.TheCompany's fundingpolicyistomakeannualcontributions equaltotheamountofnetperiodicpensioncost,butnotinexcessofthemaximumallowable tax-deductible contribution underthefederalincometaxlawnorlessthantheminimumrequirement undertheEmployeeRetirement IncomeSecurityActof1974.Thereturnonplanassetshasresultedinnetperiodicpensionincomeofwhich25%wasallocated tocapitalprojectsinboth1997and1996and27%in1995.Thisallocation followsthepayrolldistribution.

Netperiodicpensionincomefor1997,1996and1995includethefollowing components:

19971996(InThousands) 1995Servicecost-benefitsearnedduringtheperiod.Interestcostonprojected benefitobligation ActualreturnonRetirement PlanassetsNetamortization anddeferralNetperiodicpension(income)$4,47915@16(60,760)28,101$(12,864)S4,556$3,87714,594(30,772)1,87214,449(38,849)9,896S(9,750)$(10,627)Thefollowing tablesetsforththeRetirement Plan'sfundedstatusatOctober1,1997and1996andamountsrecognized intheCompany's Consolidated BalanceSheetatDecember31,1997and1996:19971996(InThousands)

Actuarial presentvalueofbenefitobligations:

Vested..Nonvested.

Total.$192,4103455$195,865$173,4243207$176,631Projected benefitobligation

("PBO")forservicerenderedtodateRetirement PlanassetsatmarketvalueExcessofRetirement PlanassetsoverPBO...Unrecognized nctgain.Unrecognized priorservicecostUnrecognized netasset*Prefunded PensionCost.$222,25031685294,602(74,326)5,9602700$23,536$199,41626861569,199(58,464)32733336S10,672~Beingamorrized over15years.Assumptions usedtodetermine actuarial valuations:

Discountrateusedtodetermine PBO.Rateofcompensation increaseusedtodetermine PBO...Long-term rateofreturnonplanassetsfornetpensionbenefit.7.25%4.50%9.25%7.75%4.50%9.75%Retirement Planassetsconsistprimarily ofequities, realestateandfixedincomesecurities.

TheRetirement Planisdeemedtobcfullyfundedforfederalincometaxpurposes, therefore, theCompanydidnotmakeanycontributions totheRetirement Planduring1997or1996.The1997and1996accounting forpensionbenefitsreflectsadoptionofPSC-prescribed provisions which,amongotherthings,requiresten-yearamortization ofactuarial gainsandlossesanddeferralofdifferences betweenactualcostsandrateallowances.

54CentralHudsonGas&ElectricCorporation OtherPostretirernent BenefitsTheCompanyprovidescertainhealthcareandlifeinsurance benefitsforretiredemployees throughitspostretircment benefitplan("BenefitPlan").Substantially alloftheCompany's employees maybecomeeligibleforthesebenefitsiftheyreachretirement agewhileworkingfortheCompany.Theseandsimilarbenefitsforactiveemployees areprovidedthroughinsurance companies whosepremiumsarebasedonthebenefitspaidduringtheyear.Inordertorecoveraportionofthecostsofthesebenefits, theCompanyrcquircsemployees whoretiredonorafterOctober1,1994,tocontribute towardthecostofsuchbenefits.

TheCompanyisfullyrecovering itsnetperiodicpostretircment costsinaccordance withPSCguidelines.

Undertheseguidelines, thedifference betweentheamountsofpostretirement benefitsrecoverable inratesandtheamountsofpostretiremcnt benefitsdetermined bythcactuaryunderSFAS106,"Employers Accounting forPostrctirement BenefitsOtherThanPensions,"

aredeferredaseitheraregulatory assetorliability, asappropriate.

Netperiodicpostrctirement benefitcostfor1997,1996and1995includesthefollowing components:

199719961995Servicecost-benefitsattributed totheperiod............

Intcrcstcostonaccumulated postretiremcnt benefitobligation.

ActualreturnonBenefitPlanassetsAmortization ofTransition Obligation*

......................

Netamortization anddeferralNctperiodicpostretirement benefitcost..................

$1,745(InThousands)

$1,8755,149(1/35)3,114(784)5/64(1/86)3,114(1/14)$6,7238,019$1,3844,613(875)3,114(1,837)6,399~TheCompanyisamortizing theunfundedaccumulated postretirement benefitobligation

("Transition Obligation"

)atJanuaryl,1993overa20-yearperiod.ThcCompanyhasestablished aqualified fundingvehicleforsuchretirement benefitsforcollective bargaining employees andasimilarvehicleformanagement employees intheformofqualified Voluntary EmployeeBeneficiary Association

("VEBA")trusts.Contributions tothcVEBAtrustsaretaxdeductible, subjecttolimitations contained intheInternalRevenueCodeandotheregulations.

Contributions totheVEBAtrustsaremadetofundemployees'ostretirement healthcareandlifeinsurance

benefits, aswellasbenefitsastheyarepaidtoretirees.

TheVEBAtrustsconsistsprimarily ofequitiesandfixedincomesecurities.

ThcBenefitPlan'sfundedstatusreconciled withtheCompany's Consolidated BalanceSheetisasfollows:December31,19971996(lnThousands)

Accumulated postretircment benefitobligation

("APBO"):

Retirecs.

Fullyeligibleemployees

.Otheremployees BenefitPlanassetsatfairvalue...$(36@91)(4P91)(37/71)(78853)45,109$(33,427)(4,632)(33,422)(71,481)31,402ExcessofAPBOoverBenefitPlanassets.Unrecognized nctgainUnrecognized priorservicecost.Unrecognized Transition Obligation (33/44)(14,716)(139)46,693(40,079)(11,419)(149)49,807Postretiremcnt benefitliability

.$(2,006)$(1,840)Assumptions usedtodetermine actuarial valuations:

Discountrateusedtodetermine APBO.Rateofcompensation increaseforapplicable lifeinsurance plansLong-term rateofreturnonplanassetsforperiodicpostretirement benefitcosts.7.25%450%6.80%7.75%4.50%6.60%55CentralHudsonGas&ElectricCorporation Theassumedhealthcarecosttrendis11%intheearlyyearsandtrendsdowntoanultimaterateof5.5%bytheyear2010.A~1%increaseinhealthcarecosttrendrateassumptions wouldproduceanincreaseintheaccumulated postretirements benefitobligation atDecember31,1997and1996of$10.3and$9.4million,respectively, andanincreaseintheaggregate serviceandinterestcostcomponents ofthenetperiodicpostretirement benefitcostof$1millionforboth1997and1996,respectively.

NOTE9-COIvIIvIITIvIENTS ANDCONTINGENCIES NuclearLiability andtnsurance ThePrice-Anderson Actisafederallawwhichlimitsthepublicliability whichcanbeimposedwithrespecttoanuclearincidentatalicensednuclearelectricgenerating facility.

SuchActalsoprovidesforassessment ofownersofalllicensednuclearunitsintheUnitedStatesforlossesinexcessofcertainlimitsintheeventofanuclearincidentatanysuchlicensedunit.Undertheprovisions ofthePrice-Anderson Act,theCompany's potential assessment (basedonits9%ownership interestintheNineMile2PlantandassumingthattheotherNineMile2Plantcotenants weretocontribute theirproportionate sharesofthepotential assessments) wouldbe$6.8million(subjecttoadjustment forinflation) andtheCompanycouldbeassessed$339,800(subjecttoadjustment forinflation) asanadditional surcharge, butwouldbelimitedtoamaximumassessment of$900,000inanyyearwithrespecttoanynuclearincident.

Thepublicliability insurance coverageof$200millionrequiredunderthePrice-Anderson ActfortheNineMile2PlantisprovidedthroughNiagaraMohawk.TheCompanyalsocarriesinsurance tocovertheadditional costsoFreplacement power(underaBusinessInterruption and/orExtraExpenseInsurance Policy)incurredbytheCompanyintheeventofaprolonged accidental outageoftheNineMile2Plant.Thisinsurance arrangement providesforpaymentsofupto$342,000perweekiftheNineMile2Plantexperiences acontinuous accidental outagewhichextendsbeyond21weeks.Suchpaymentswillcontinuefor52weeksafterexpiration ofthe21-weekdeductible period,andthereafter theinsurershallpay80%oftheweeklyindemnity forasecondandthird52-weekperiod.Subjecttocertainlimitations, theCompanymayrequestprepayment, inalumpsumamount,oftheinsurance paymentswhichwouldotherwise bepaidtoitwithrespecttosaidthird52-weekperiod,calculated onanetpresentvaluebasis.'heCompanyisinsuredastoitsrespective interestintheNineMile2Plantunderpropertydamageinsurance providedthroughNiagaraMohawk.Theinsurance coverageprovides$500millionofprimarypropertydamagecoverageforbothUnitsoftheNineMilePointNuclearStationand$2.25billionofexcesspropertydamagecoveragesolelyforUnit2ofthatstation.Suchinsurance coversdecontamination costs,debrisremovalandrepairand/orreplacement ofproperty.

TheCompanyintendstomaintain, orcausetobemaintained, insurance againstsuchrisksattheNineMile2Plant,providedsuchcoveragecanbeobtainedatanacceptable cost.Environmental MattersGeneral:Onanongoingbasis,theCompanyassessesenvironmental issueswhichcouldimpacttheCompanyanditscustomers.

CleanWaterActCompliance:

In1992theCompanyfiledrenewalapplications fortheStatePollution Discharge Elimination System("SPDES")

permitsforitsRosetonandDanskammer Plants.SuchpermitsarerequiredtooperatethePlants'ooling watersystemsandwastewater treatment systems.TheCompanyisapartytoanactiveproceeding beforetheNewYorkStateDepartment ofEnvironmental Conservation

("NYSDEC")

relatedtotheprocessing oftheapplication fortheRosetonPlant.Atthisstageoftheproceeding, theCompanycanmakenodetermination astotheoutcomeoftheproceeding ortheimpact,iFany,ontheCompany's financial position.

CleanAirActAmendments:

TheCleanAirActAmendments of1990("CAAAmendments"

)addedseveralnewprogramswhichaddressattainment andmaintenance ofnationalambientairqualitystandards.

Theseincludecontrolofemissions fromfossil-fueled electricpowerplantsthataffect"acidrain"andozone.AtDecember31,1997,theCompanybelievesitwasinfullcompliance withregulations promulgated todateundertheCAAAmendments.

Ongoingfederalandstatecleanairinitiatives mayrequiretheCompanytoreduceitsemissions inthefuture.TheCompany's emissions ofnitrogenoxides("NOx")weresubjecttoadditional controlseffective May31,1995underTitleIoftheCAAAmendments.

TheCompanyhasinstalled appropriate controlsincompliance withthisrequirement.

TheNortheast OzoneTransport Commission, ofwhichNewYorkStateisamember,hasagreedthatadditional reductions ofNOxemissions willberequiredin1999and,possibly, intheyear2003.Becauseregulations havenotyetbeenpromulgated byNewYorkStatetoimplement thisagreement, thespecificreductions requiredattheCompany's facilities havenotbeendetermined.

InJuly1997,theEnvironmental Protection Agency("EPA")promulgated revisions totheNationalAmbientAirQualityStandards forozoneandparticulates.

Theseregulations mayresultintheneedforadditional reductions ofsulfurdioxideandNOxemissions, depending ontheresultsoFongoingambientairmonitoring programs.

Shouldmonitoring determine thatcountiesinthevicinityoftheCompany's electricgenerating stationsexceedthenewstandards, emissions reductions couldberequired.

However,ambientairmonitoring forparticulates willnotbecompleted until2002,atwhichtimetheEPAalsointendstocompleteareassessment ofhealthrisksassociated withparticulate emissions.

Similarly, additional controlsofNOxemissions thatare56CentralHudsonGas8cElectricCorporation associated withozoneformation areunlikelyuntil2003.AtthattimetheEPAwillhavecompleted itsreviewofplansformeetingthenewozonestandards thataretobesubmitted bythestates.Whileitisnotpresently possibletodetermine theadditional emissions reductions, ifany,requiredattheCompany's facilities, theCompanyexpectsthatitwillhaveadequatefinancial resources tocomplywiththeCAAAmendments requirements.

FormerManufactured GasPlant:Facilities InMay1995,theCityofNewburgh, NewYork("City")filedsuitagainsttheCompanyintheUnitedStatesDistrictCourtfortheSouthernDistrictofNewYork("DistrictCourt").TheCityallegesthattheCompanyhasreleasedcertainallegedly hazardous substances withoutapermitfromthesiteoftheCompany's formercoalgasification plant("CentralHudsonSite")inNewburgh, NewYorkintothegroundattheCentralHudsonSiteandintoadjacentandnearbypropertyoftheCity,inviolation ofthefederalComprehensive Environmental

Response, Compensation andLiability Act("CERCLA"),

thefederalResourceConservation andRecoveryAct("RCRA")andthefederalEmergency PlanningandCommunity RighttoKnowAct("EPCRA").

TheCityalsoallcgesanumberofnuisance,

trespass, damageandindemnification claimspursuanttoNewYorkStatelaw.TheCityseeksinjunctive reliefagainstsuchallegeddisposal, storageorreleaseofhazardous substances attheCentralHudsonSite,remediation andabatement oftheconditions allegedtoleadtoendangerment oftheCity'sproperty, paymentofrestitution ofclean-upcostsandmonetarydamagesofatleast$70million,assessmcnt ofcertaincivilpenalties underRCRA,CERCLAandEPCRA,andrecoveryoftheCity'scostsandattorneys'ees insuchaction.TheCompanyandtheCitycontinuetoinvestigate thismatter.Atentative scheduleofproceeding hasbeenappliedbytheDistrictCourt.TheCompanyandtheNYSDEChaveenteredintoanOrderonConsentregarding thedevelopment andimplementation ofaninvestigation andremediation programfortheCentralHudsonSite,thcCity'sadjacentandnearbypropertyandtheadjoining areasoftheHudsonRiver.Remedialinvestigations werecompleted inScptcmber 1997.Adraftreportontheinvestigations wasprovidedtotheNYSDECforitsreviewandcommentonOctober31,1997.Theinvestigations revealedthepresenceofcontaminants inthesoilinportionsofthestudyarea.Inthemajorityofthestudyareacontaminants werefounddeepwithinthegroundandarenotathreattothepublic.Contaminated groundwaterisassociated withthecontaminated soilbutitisnotusedasadrinkingwatersupply.Impactedsediments werealsopresentwithintheHudsonRiveradjacenttotheCity'spropertywhichisthelocationofitssewagetreatment plant.Thereareseveralpossiblesourcesofthecontaminants duetothelongindustrial historyandcurrentusesofthearea.Following NYSDEC'sapprovalofthereportanditsdetermination whetherornotthecontaminants foundintheinvestigation mayposeasignificant threattohumanhealthortheenvironment, ariskassessment willbecompleted bytheCompany,ifrequired.

Remedialalternatives addressing anyunacceptable risksidentified intheriskassessment willbeevaluated.

Itiscurrently anticipated thattheriskassessment andremedialalternatives reportwillbecompleted in1998.Atthistime,theCompanycanmakenoprediction astotheoutcomeofthislitigation, norcanitmakereasonable estimates ofthecostoftheactivities requiredundertheOrderonConsent.However,thcCompanyhasputitsinsurance carriersonnoticeandintendstopursuereimbursement fromthem.TheCompanycannotpredictthcextentofreimbursement thatwillbeavailable fromitscarriersatthistime.ByletterdatedJune3,1997,theCompanyreceivedauthorization fromthePSCtodefercostsrelatedtothismatter,including legaldefensecosts,butexcluding theCompany's labor,relatedtoenvironmental siteinvestigation andremediation actions.TheCompanyhasdeferredcostsexpendedtodatethatitexpectstoberecovered infuturerates.Thecumulative deferredcostsfor1997amountedto$2.2millionandwereincludedin"Deferred Charges-Regulatory Assets"intheCompany's Consolidated BalanceSheet.AsbestosLitigation Since1987,theCompany,alongwithmanyotherparties,hasbeenjoinedasadefendant orthird-party defendant in1,212asbestoslawsuitscommenced inNewYorkStateandfederalcourts.Theplaintiffs intheselawsuitshaveeachsoughtmillionsofdollarsincompensatory andpunitivedamagesfromalldefendants.

Thecaseswerebroughtbyoronbehalfofindividuals whohaveallegedly sufferedinjuryfromexposuretoasbestos, including exposurewhichallegedly occurredatCompanyfacilities.

AsofDecember31,1997,ofthe1,212casesthathadbeenbroughtagainsttheCompany,596remainedpendingagainsttheCompany.The616casesthatwerenolongerpendingagainsttheCompanyasofDecember31,1997wereresolvedasfollows:(i)theCompanynegotiated voluntary dismissals in372casesandwonsummaryjudgcmcnt dismissals in10cases;(ii)116third-party claimswereextinguished withrespecttotheCompanywhenthethirdpartyplaintiff, OwensCorningFiberglass settledthecaseswiththeplaintiffs; and(iii)theCompanysettled118cases.TheCompanyispresently unabletoassessthevalidityoftheremaining asbestoslawsuits; accordingly, itcannotdetermine theultimateliability relatingtothesecases.Basedoninformation knowntotheCompanyatthistime,including itsexperience insettlingasbestoscasesandinobtaining dismissals ofasbestoscases,theCompanybelievesthatthecosttobeincurredinconnection withtheremaining lawsuitswillnothaveamaterialadverseeffectontheCompany's financial positionorresultsofoperations.

TheCompanyisinsuredundersuccessive comprehensive generalliability policicsissuedbyanumberofinsurers, hasputsuchinsurersonnoticeoftheasbestoslawsuitsandhasdemandedrcimburscment foritsdefensecostsandliability.

57CentralHudsonGas&ElectricCorporation Purchased PowerCommitments UnderfederalandNewYorkStatelawsandregulations, theCompanyisrequiredtopurchasetheelectrical outputofunregulated cogeneration facilities

("IPPs")whichmeetcertaincriteriaforQualifying Facilities, assuchtermisdefinedintheappropriate legislation.

Purchases aremadeunderlong-term contracts whichrequirepaymentatrateshigherthanwhatcanbepurchased onthewholesale market.Thesecostsarecurrently fullyrecoverable throughtheCompany's electricfueladjustment clause.However,thePSChasindicated totheCompanythatitmaynotallowfullrecoveryofoncsuchIPPcontract.

AtDecember31,1997,thcCompanyhasaccruedaliability foritsestimateoffuturepaymentsunderthisIPPcontractwhichwillnotberecovered throughrates.IPPswithwhichtheCompanyhascontracts represent 4.6%oftheCompany's energypurchases in1997.OtherMattersTheCompanyisinvolvedinvariousotherlegalandadministrative proceedings incidental toitsbusinesswhicharcinvariousstages.Whilethesematterscollectively involvesubstantial amounts,itistheopinionofmanagement thattheirultimateresolution willnothaveamaterialadverseeffectonthcCompany's financial positionorresultsofoperations.

Includedinsuchproceedings arelawsuitsagainsttheCompanyarisingfromaNovember1992explosion inadwellinginCatskill, NewYork.Theselawsuitsinclude:oneallegingpersonalinjuries, thedeathofanoccupant, andpropertydamageandrecoveryofanunspecified amountofcompensatory andpunitivedamages;andoneallegingpersonalinjuriesandpropertydamageandcompensatory andpunitivedamagesinthesumof$4.0million.Inadditiontotheabove,onFebruary12,1994,afireandanexplosion destroyed aresidence intheVillageofWappingers Falls,NewYork,inthcCompany's serviceterritory.

Ashorttimelater,asecondexplosion andfiredestroyed anearbycommercial facility.

Lawsuitshavebccncommcnccd againsttheCompanyarisingoutoftheWappingers Fallsincidentincluding:

oneallegingpropertydamageandseekingrecoveryof$250,000incompensatory damagesandoneallegingpersonalinjuriesandpropertydamageandseekinganunspecified amountofdamagesagainsttheCompany.TheCompanyisinvestigating thcaboveclaimsandpresently hasinsufficient information onwhichtopredicttheiroutcome.TheCompanybelievesthatithasadequateinsurance tocoveranycompensatory damagesthatmightbeawarded.TheCompany's insurance, however,doesnotextendtopunitivedamageswhich,ifawarded,couldhaveamaterialadverseeffectontheCompany's financial position.

NOTEI0-DEPARTMENTAL INFORMATION TheCompanyisengagedintheelectricandnaturalgasutilitybusinesses andservestheMid-Hudson ValleyregionofNewYorkState.Totalrevenuesandoperating incomebeforeincometaxes(expressed aspercentages),

derivedfromelectricandgasoperations foreachofthelastthreeyears,wereasfollows:PercentofTotalRevenuesPercentofOperating IncomeBeforeIncomeTaxesElectricGasElectricGas1997~eoteoooo1996................

1995................

80%81%80%20%19%20%85%88%90%15%12%10%FortheyearendedDecember31,1997,theCompanyservedanaverageof266,471electricand61,402gascustomers.

OftheCompany's totalelectricrevenuesduringthatperiod,approximately 43%wasdcrivcdfromresidential customers, 31%fromcommercial customers, 17%fromindustrial customers and9%fromotherutilities andmiscellaneous sources.OfthcCompany's totalgasrevenuesduringthatperiod,approximately 43%wasderivedfromresidential customers, 32%fromcommercial customers, 5%fromindustrial customers, 15%frominterruptible customers and5%frommiscellaneous sources(including revenuesfromtransportation ofcustomer-owned gas).TheCompany's largestcustomerisInternational BusinessMachinesCorporation

("IBM"),whichaccounted forapproximately 9%oftheCompany's totalelectricrevcnucsandapproximately 1%ofitstotalgasrevenuesfortheyearendedDecember31,1997.58CentralHudsonGas&ElectricCorporation Certainadditional information regarding thesesegmentsissetforthinthefollowing table.Generalcorporate

expenses, propertycommontobothsegmentsanddepreciation ofsuchcommonpropertyhavebeenallocated tothesegmentsinaccordance withpracticeestablished forregulatory purposes.

ELECTRIC19971996(InThousands) 1995Operating RevenuesOperating Expenses:

Fuelandpurchased electricity Depreciation andamortization.

Other,excluding incometax.Total.$416,429121,98139,480170338331,799114,39738,401170498113,26337,503168313323,296319,079$418761$409445Operating IncomebeforeIncomeTax.Fcdcralincometax,including deferredincometax-net.Operating Income.Construction Expenditures 84,63024622$60,008$36,68695,4652859290,36626632S66,873S63,734S43,359S41,195Identifiable AssetsatDecember31*Netutilityplant.Construction workinprogress..

TotalutilityplantMaterials andsuppliesTotal.$771,11043173814,28318695$832,978$784,58234823,92822668$784,345823,32323167$846,596$846,490GASOperating Revcnucs.Operating Expenses:

Purchased naturalgas..Depreciation andamortization.

Other,excluding incometax.Total..$103,84861,5144,3842333489,232$95,210$102,77050,6364,1792733162,3393,9642689982,14693,202Operating IncomebeforeIncomeTax.Federalincometax,including defcrrcdincometax-net.Operating IncomeConstruction Expenditures

..14,6164568$10,048$7,18313,0649,56841082408S8,956$7,160$6,501$9,074Identifiable AssetsatDecember31*Netutilityplant.Construction workinprogress..

TotalutilityplantMaterials andsuppliesTotal.$109,2689240118,5085405$123,913115,7015427113,7714423$121,128$118,194$106,348$103,97993539792~Identifiable assetsnotincludedIrereinareconsidered tobecorporate assetsandhavenotbeenallocated benveentheelectricandgassegments.

59CentralHudsonGas&ElectricCorporation Thefollowing methodsandassumptions wereusedtoestimatethefairvalueofeachclassoffinancial instruments forwhichitispracticable toestimatethatvalue:CashandTemporary CashInvestments:

Thecarryingamountapproximates fairvaluebecauseoftheshortmaturityofthoseinstruments.

Cumulative Preferred StockSubjecttoMandatory Rcdcmptioni Thefairvalueisestimated basedonthequotedmarketpriceofsimilarinstruments.

Long-Term Debt:Thefairvalueisestimated basedonthequotedmarketpricesforthesameorsimilarissuesoronthecurrentratesofferedtotheCompanyfordebtofthesameremaining maturities andquality.NotesPayable:Thecarryingamountapproximates fairvaluebecauseoftheshortmaturityofthoseinstruments.

Theestimated fairvaluesoftheCompany's financial instruments areasfollows:December311997December311996CarryingAmountFairValueCarryingAmountFairValue(InThousands)

Cumulative preferred stocksubjecttomandatory redemption

................................

Long-term debt(including currentmaturities)

...$(35,000)$(39,100)(363,146)

(382/37)$(35,000)$(33,950)(363,402)

(380,875)

SELECTEDQUARTERLY FINANCIAL DATA(UNAUDITED)

Selectedfinancial dataforeachquarterly periodwithin1997and1996arepresented below:QuarterEnded:1997March31.June30.September 30..........

December31...Operating Rcvcnues$151/75118,604123407126/91Operating Income(InThousands)

$25/0214/4217@1111/01IncomeAvailable forCommonStock$20,6779,65612/608/63EarningsPerAverageShareofCommonStockOutstandin (Dollars)

$1.1855.72$21996March31June30.............

September 30.....December31.$153,846116,994117,684125,447$27,09216,36618,00014,371$21,01410,19512,8578,407$1.20.58.73.4860CentralHudsonGas&ElectricCorporation CHEDULEll-ReservesAdditions Description BalanceatBeginning ofPeriodChargedtoCostandExpensesChargedtoOtherAccountsPaymentsChargedtoReservesBalanceatEndofPeriodYEARENDEDDECEMBER31,1997Operating Reserves...$4,755,264

$2,142,391

$334,700$650,741$6,581,614 ReserveforUncollectible Accounts.....$3,200,000

$3,493,405

$-$3,893,405

$2,800,000 YEARENDEDDECEMBER31,1996Operating Reserves...............................

$6,024,101

$2,665,136

$195,608$4.129.581

$4,755,264 ReserveforUncollectible Accounts.....$2,500,000

$4,335,676

$-$3,635,676

$3,200,000 YEARENDEDDECEMBER31,1995Operating Reserves...$5,663,407

$3,044,329

$1,091,388

$3,775,023

$6,024,101 ReserveforUncollectible Accounts.....$2,000,000

$3,220,608

$-$2,720,608

$2,500,000 TEN9ChangesInAndDisagreements W'ithAccountants OnAccounting AndFinancial Disclosure None.PARTIIIITENIODirectors AndExecutive OfficersOfTheCompanyTheinformation withrespecttotheDirectors oftheCompanyrequiredhereunder isincorporated byreference tothecaption"Election ofDirectors" intheCompany's definitive proxystatement, tobedatedMarch2,1998,andtobeusedinconnection withitsAnnualMeetingofShareholders tobeheldonApril7,1998,whichproxystatement willbesubmitted totheSecurities andExchangeCommission pursuanttothatCommission's Regulation S-T.Theinformation withrespecttotheexecutive officersoftheCompanyrequiredhereunder isincorporated byreference toItemIherein,underthecaption"Executive OfficersoftheCompany."

ITENIIExecutive Compensation Theinformation requiredhereunder isincorporated byreference tothecaption"Executive Compensation" intheCompany's definitive proxystatement, tobedatedMarch2,1998,andtobeusedinconnection withitsAnnualMeetingofShareholders tobeldonApril7,1998.61CentralHudsonGas&ElectricCorporation ITENl2SecurityOwnership OfCertainBeneficial OwnersAndNanagement Theinformation requiredhereunder isincorporated byreference tothecaption"Security Ownership" intheCompany's definitive proxystatement, tobedatedMarch2,1998,andtobeusedinconnection withitsAnnualMeetingofShareholders tobeheldonApril7,1998.ITENI3CertainRelationships AndRelatedTransactions Therewerenorelationships ortransactions ofthctyperequiredtobedescribed bythisItem.PARTIYITENl4Exhibits, Financial Statement

Schedule, AndReportsOnForm8-K(a)l.and2.AllFinancial Statements andFinancial Statement Schedules filedaspartofthisReportareincludedinItem8ofthisForm10-Kandrefercncc ismadethereto.3.ExhibitsIncorporated hereinbyreference totheExhibitIndexforthisRcport.SuchExhibitsincludethefollowing management contracts orcompensatory plansorarrangements requiredtobefiledasanExhibitpursuanttoItem14(c)hereof:Directors'eferred Compensation Plan,effective OctoberI,1980.(Exhibit(10)(iii)1)

TrustAgreement betweenRegistrant andDutchessBank&TrustCompany,astrustee,datedasofJanuary1,1984,pursuanttoRegistrant's SavingsIncentive Plan.(Exhibit(10)(iii)2)

FirstAmcndmcnt, datedDecember31,1990,toTrustAgreement betweenRegistrant andTheBankofNewYork,assuccessor trustee,datedasofJanuary1,1984,pursuanttoRegistrant's SavingsIncentive Plan.(Exhibit(10)(iii)3)

Agreement, madeMarch14,1994byandbetweenRegistrant andMellonBank,N.A.,amendingandrestating, effective AprilI,1994,Registrant's SavingsIncentive PlanandrelatedTrustAgreement withTheBankofNewYork,togetherwithiamendments datedJuly22,1994andDecember16,1994.(Exhibits (10)(iii)18, 19and20)Executive DeferredCompensation PlanofthcCompany,effective MarchI,1992,togetherwithAmendment theretodatedDecember17,1993.(Exhibits (10)(iii) 8and15)Retirement BenefitRestoration PlanofthcCompany,cffectivc May1,1993,togetherwithAmendment theretodatedJuly23,1993.(Exhibits (10)(iii)10 and11)Executive Incentive Compensation PlanoftheCompany,effective January1,1993,togetherwithAmendment theretodatedApril4,1995.(Exhibits (10)(iii)17 and21)StockPlanforOutsideDirectors oftheCompany,datedNovember17,1995.(Exhibit(10)(iii)22)

Management Incentive ProgramoftheCompany,effective April1,1994,togetherwithAmendment theretodatedJuly25,1997.(Exhibits (10)(iii)23 and24)462CentralHudsonGas8ElectricCorporation DuringthclastquarteroftheperiodcoveredbythisRcportandincluding theperiodtothedatehereof,thefollowing ReportsonForm8-KwerefiledbytheCompany:(1)ReportdatedNovember17,1997relatingtotheCompany's formermanufactured gasplantfacilities described underthecaption"Environmental Claims-NewburghManufactured GasSite"inItem3ofPartIoftheAnnualReportonForm10-KforthefiscalyearendingDecember31,1997,whichinturnrelatestothelitigation filedagainstthcCompanybythcCityofNcwburgh, NewYork,onMay26,1995,inthcUnitedStatesDistrictCourt,SouthernDistrictofNewYork.PursuanttotheOctober1995OrderonConsententeredintobetweentheCompanyandtheNYSDEC,asreferredtoinsaidItem3,theCompanyfiled,onOctober31,1997,aRemedialInvestigation reportwiththeNYSDECfortheinvestigation andremediation progmmbeingconducted ontheCompany's formercoalgasification plantsiteandtheCityofNewburgh's adjacentandnearbyproperty.

OnOctober31,1997,theCompanyissuedarelatedpressreleasewhichwasfiledasExhibit99andincorporated byreference tosaidForm8-K.(2)RcportdatedJanuary7,1998regarding theCompany's execution ofanAmendedandRestatedSettlement Agreement, datedJanuary2,1998withvariousparties,relatedtothcCompetitive Opportunities Proceeding described inNotel.(c)tIIncorporated hereinbyreference tosubpart(a)-3ofItem14,above.NotetoShareholders:

ThecopyofthisAnnualRcporttotheSEC,onForm10-KforthefiscalyearendedDecember31,1997,doesnotcontainthelistofexhibitscontained inthccopyoftheRcportasfiledwiththeSEC.Sliareholders whowishtoobtainacopyofthelistofexhibitsmayobtainitwithoutchargebycontacting:

EllenAhcam,Secretary, CentralHudsonGas&ElectricCorporation,284 SouthAvenue,Poughkccpsie, NY12601-4879, telephone (914)486-5757; E-mail:http:

//www.ccnhud.corn.

Copiesoftheexhibitscanbcpurchased fromtheCompanyforaspecified fcc.(d)wNotapplicable, sceItem8hereof.63CentralHudsonGas&ElectricCorporation SIGNATURES itVPursuanttotherequirements ofSection13or15(d)oftheSecurities ExchangeActof1934,theCompanyhasdulycausedthis.2Reporttobesignedonitsbehalfbytheundersigned, thereunto dulyauthorized.

iCENTRALHUDSONGAS&ELECTRICCORPORATION By(JohnE.Mack,III,ChairmanoftheBoardandChiefExecutive Officer)Dated:February10,1998Pursuanttotherequirements oftheSecurities ExchangeActof1934,thisReporthasbeensignedbelowbythefollowing personsonbehalfoftheCompanyandinthecapacities andonthedateindicated:

BigtgItm(a)Principal Executive OfficerorOfficers(hnE.Mack,III)ChairmanoftheBoardandChiefExecutive OfficerFebruary10,1998(b)Principal Accounting Officer:(DonnaS.Doyle)Controller February10,1998.r(c)Principal Financial Officer:(StevenV.Lant)Treasurer andAssistant Secretary February10,1998(d)AmajorityofDirectors:

L.i~Vallace Cross*,JackEffron*,HeinzK.Fridrich*,

EdwardF.X.Gallagher*,

PaulJ.Ganci*,CharlesLaForge*,

JohnE.Mack,IIVandEdwardP.Swyer*,Directors By:(JoiE.Mack,III)February10,1998*JohnE.Mack,III,bysigninghisnamehereto,doestherebysignthisdocumentforhimselfandonbehalfofthepersonsnamedaboveafterwhoseprintednameanasteriskappears,pursuanttopowersofattorneydulyexecutedbysuchpersonsandfiledwiththeSecurities andExchangeCommission asExhibit24hereof.64CentralHudsonGas8cElectricCorporation QtectorsLWallaceCrosskeepsie,NYExecutive VicePresident andChiefFinancial OfficeroftheCorporation; retired;memberoftheCommittees onAuditandonFinance*1990EdwardP.SwyerAlbany,NYPresident, TheSwyerCompanies; memberoftheCommittee onCompensation andSuccession andtheRctiremcnt Committee

• 1990AllanR.PageSeniorVicePresident

-Corporate ServicesRonaldP.BrandVicePresident

-Engineering andEnvironmental AffairsJackEffronPoughkeepsie, NYPresident, EFCOProducts, Inc.;ChairmanoftheCommittee onCompensation andSuccession andmemberoftheExecutive Committee andtheCommittee onFinance*1987FrancesD.Fergusson Poughkeepsie, NYPresident, VassarCollege;memberofthcCommittees onAuditandonCompensation andSuccession

• 1993HeinzK.FridrichFernandina Beach,FLCourtesyProfessor, University ofFlorida,Gainsville, FL;FormerVicePresident-Manufacturing, International BusinessMainesCorp.;ChairmanoftheCommittee rt;memberoftheExecutive tee*1988EdwardF.X.Gallagher

Newburgh, NYPresident andOwner,Gallagher Transportation Services; memberoftheCommittee onFinance*1984Paul'J.GanciPoughkeepsie, NYPresident andChiefOperating Officer;memberoftheExecutive Committee andtheCommittee onFinance*1989*YearjoinedtiicboardQfftcersofTheBoardJohnE.MackIIIChairmanoftheBoardandChiefExecutive Officer;ChairmanoftheExecutive, FinanceandRetirement Comrnittecs JackEffronCliairman oftheCommittee onCompensation andSuccession HeinzK.FridrichChairmanofthcCommittee onAuditJohnE.Mack,IIIChairmanoftheBoardandChiefExecutive OfficerPaulJ.GanciPresident andChiefOperating OfficerCarlE.MeyerSeniorVicePresident

-CustomerServicesBenonBudziakI'IVicePresident

-Production JosephJ.DeVirgilio, Jr.VicePresident

-HumanResources andAdministration EllenAbeamSecretary DonnaS.DoyleController StevenV.LantTreasurer andAssistant Secretary GladysL.CooperAssistant VicePresident-Govcrnmcntal Relations JamesP.Lovette<'>Assistant VicePresident-FossilProduction ArthurR.UprightAssistant VicePresident-Cost&RateandFinancial PlanningWilliamP.ReillyAssistant Secretary andAssistant Treasurer i'>>RetiredeffectiveNovemberi,1997u>Appointed effective October20,1997CharlesLaForgeRhinebeck, NYPresident ofWayfarerInnsandOwnerofBeekmanArms;memberoftheRctircmcnt Committee andthcCommittee onAudit*1987,JohnE.Mack,III,IPoughkeepsie, NY',ChairmanoftheBoardandChiefExecutive tOft"ChairmanoftheExecutive, FinanceiaimentCommittees

• 1981Affirmative ActionStatement ofPolicyItisthepolicyofCentralHudsonGas8cElectricCorporation toprovideequalemployment opportunities forallpersons.CentralHudsoniscommitted torecruit,hire,trainandpromotepersonsinallpositions, withoutregardtorace,sex,color,creed,religion, age,nationalorigin,personswithadisability, disabledvctcranorVietnam-cra vctcranstatus,exceptwheresexisabonafideoccupational qualiTication.

TheCoinpanywillbasedecisions onemployment soastofurthertheprinciple ofequalcmploymcnt opportunity.

CentralHudsonwillinsurethatpromotion decisions arcinaccordwi(hprinciples ofequalemployment opportunity byimposingonlyvalidrequirements forpromotional opportunities.

CentralHudsonwillinsurethatallpersonnel actionssuchascompensation,

bcncfits, transfers, layoffs,returnfromlayoff,employersponsored

training, education, tuitionassistance, socialandrecreational

programs, willbeadministered withoutregardtorace,scx,color,creed,religion, age,nationalorigin,disability, disabledveteranorVietnam-era veteranstatus.

A'lIll'GoI UdomOoAYourEnergySolutions CompanyŽQPPrintedonrecycledpaper SeriesGG,$1.67SeriesNN,$1.95"lSKCUR.ITIKSANDKX'C8AN6KC0MMISSI0NWASHINGTON, D.C.20549Form'10-K XANNUALREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIES EXCHANGEACTOF1934[NOFEEREQUIRED]

ForthefiscalyearendedMarch31,19980TRANSITION REPORTPURSUA'NT TOSECTION'13 OR15(tt)OFTHESECURITIES EXCHANGEACTOF1934fNOFEEREQUIRED]

Commission filenumber1-3571LongIslandLightingCompany'ncorporated pursuanttotheLawsofNewYorkStateInternalRevenueService-EmployerIdentification, Number11-1019782 175EastOldCountryRoad,Hicksville,'ew'York 11801516-755-,6650 Securities registered pursuanttoSection12(b)-oftheAct:.Titleofeachclasssoregistered:

CommonStock($5par)Preferred Stock($100par,cumulative):

SeriesB,5.00%SeriesE,4.35%,,SeriesI,53/4%,Convertible eriesD,4.25%,...SeriesCC,7.66%NlPreferred Stock($25par,cumulative):

SeriesAA,7.95%SeriesQQ,7.05PoGeneralandRefunding Bonds:7.85%SeriesDue199985/8%SeriesDue20048.50%SeriesDue20067.90%SeriesDue200893/4%SeriesDue202195/8%SeriesDue2024,Debentures:

7.30%SeriesDue19997.30%SeriesDue20006.25%SeriesDue2001Indicatebycheckmarkwhethertheregistrant (I)hasfiledallreportsrequiredtobefiledbySection13:or15(d)oftheSecurities ExchangeActot1934duringthepreceding 12months(orforsuchshorterperiodthattheregistrant wasrequiredtofilesuchteports)and(2)hasbeensubjecttosuchfilingrequirements forthepast90days.YesXNoQIgIndicatebycheckmarkifdisclosure ofdelinquent filersyursuant toItem405ofRegulation S-Kisnotcontained herein,andwillnotbecontained, tothebestofregistrant's knowledge, indefinitive proxyorinformation statements incorporated byreference inPartIIIofthisForm10-Koranyamendment tothisForm10-K.K7.05%SeriesDue2003,,8.90%SeriesDue20197.00%SeriesDue20049'.00%SeriesDue20227.125%SeriesDue20058.20%SeriesDue20237.50%SeriesDue2007Nameofeachexchangeonwhicheachclassisregistered:

TheNewYorkStock.ExchangeandthePacificStockExchangearetheonlyexchanges onwhichtheCommon'Stock isregistered.

TheNewYorkStockExchangeistheonlyexchangeonwhichcertainoftheothersecurities listedaboveareregistered.

kliSecurities register'ed pursuanttoSection'12(g)oftheAct:NoneThBro'aggregate marketvalueoftheCommonStockheldbynon-affiliates oftheCompanyatMarch31,1998was$3,832,943,909.

temarketvalueofPreferred Stockheldbynon-aAiliates oftheCompanyatMarch31,1998,established byLehmanedontheaveragebidandaskedprice,was$735,033,360.

CommonStock($5par)-Sharesoutstanding atMarch31,1998:121,680,759 TABLEOFCONTENTSAbbreviations..

Item1.Item2,Item3.PARTIBusiness.TheCompany.Territory

.BusinessSegments.

Employees.

Regulation andAccounting Controls.

LongIslandPowerAuthority, Transaction.

KeySpanEnergyCorporation Transaction.

Competitive Environment..

ElectricOperations.

General..

SystemRequirements, EnergyAvailable andReliability FuelMixEnergySources."'......Oil..NaturalGas.Purchased PowerNuclear".

Interconnections.

Conservation'Services The1989Settlement ElectricRates.GasOperations

...........................................,..............,................

General..

GasSystemRequirements...................................................

PeakDayCapability Transportation StorageCogen/IPP Deliveries.

PeagkShaving.....

FirmGasSupplyGasRatesRecoveryofTransition CostsNaturalGasVehicles.

Environmental Matters.General..

Air.WaterLandNuclearWaste..........................................~...........................

TheCompany's Securities.

General..

TheG&RMortgage.

Unsecured DebtEquitySecurities.

CommonStockPreferred StockPreference StockExecutive OfficersoftheCompanyCapitalRequirements, Liquidity andCapitalProvided.

Properties LegalProceedings ShorehamEnvironmental HumanResources

.OtherMatters'I14.6.6.6.7.7.7.7.....8.8.9.9.9.9.9....1010101111121212131516.....192020202121212222,23"2828'282829.3030 Item4.~'ubmission ofMatterstoaVoteofSecurityHolders........

tItem5.Item6.Item7.ItemS.Item9.Item10.Item11.Item12.Item13.tern14.SIGNATURES PARTII......3355'.",;......

55................

575859,'.....'......

59.6I9698..............

98...................

9898'.............

9898.......,.........98

...................

99~100fr~~~J~'r~~~~~~~~~l~~~~~~~~~~~~~~~~~~~~~~~~~~~MarketfortheRegistrant's CommonEquityandRelatedStockholder Matter....'.........~......~...31 SelectedFinancial Data~,..........32Management's Discussion andAnalysisofFinancial Condition andResultsofOperations.

Financial Statements andSupplementary Data'.~BalanceSheetStatement ofIncomeStatement ofCashFlows.Statement ofRetainedEarnings..',.

Statement ofCapitalization.

'NotestoFinancial Statements.

'eportofIndependent Auditors:

ChangesinandDisagreem'eritsrWith Ac'countants onAccounting

'andFinancial Disclosures...:.

97IPARTIIIDirectors andExecutive Officersof.theCompany..~~Executive Compensation

~~'.'"'~ISecurityOwnership ofCertainBeneficial OwnersandManagement.

CertainRelationships andRelatedTransactions...........................................

IPARTIV,'I,4Exhibits, Financial Statement Schedules, aridReportsonListofFinancial Statements.,

ListofFinancial Statement Schedules List'ofExhibitsR~eortsonForm8-K..'IrIIIIrP,lhl<rI

~~~~~~~~'~~~~I-I~~~lO~~~~~~~~I~-.I~.~~~I.~.I.~'o.I~~~~~II~~.I.II~~I~~'~~~~~~~~~~~~~~~~~~a~~I~~~~~,~~~~~I.~.~'I'II'I~I~~~~~~~~~o.I~~I~~~~~I~I~~~~~I~I~I.~~'~~IIs~~~~~~~~~~~~~~~~~~~~~I~~'~~~~~I~~I'~~~I~.~I~0~~~~~~'a~~~~~~~I~~~~~~~~I'~~~~~~~I~o~~o~~~~~I~~~~I~

PARTIItem1.BusinessTheCompanyongIslandLightingCompany(CompanyorLILCO)wasincorporated in1910undertheransportation Corporations LawoftheStateofNew.YorkandsupplieselectricandgasserviceinNassauandSuffolkCountiesandtotheRockawayPeninsula inQueensCounty,allonLongIsland,NewYork.ThemailingaddressoftheCompanyis175EastOldCountryRoad,Hicksville, NewYork11801andthegeneraltelephone numberis(516)755-6650.

IplOnApril11,1997,theCompanychangeditsyearendfromDecember31toMarch31..Accordingly, unlessotherwise indicated, references to1998and1997represent thetwelvemonthperiodsendedMarch31,1998andMarch31,1997,respectively, whilereferences toallotherperiodsreferto-therespective calendaryearsendedDecember31.Territory TheCompany's serviceterritory coversanareaofapproximately 1,230squaremiles.The.population oftheservicearea,according totheCompany's 1998LongIslandPopulation Survey,is2.75millionpersons,including, approximately'8,500 personswhoresideinQueensCountywithintheCityofNewYork.The1998population surveyreflectsa1.6%increasesincethe1990census.llApproximately 80%ofallworkersresidinginNassauandSuffolkCountiesareemployedwithinthetwocounties.

DuringtheyearendedDecember31,1997totalnon-agricultural employment inNassauandSuffolkCountiesincreased byapproximately 18,600positions, anemployment increaseof1.7%.eCompanyservesapproximately

1.0 4millionelectriccustomers

ofwhichapproximately 931,000areresidential.

TheCompanyreceivesapproximately 49%ofitselectricrevenuesfrom,residential customers, 48%;-from commerciaVindustrial, customers andthebalancefromsalestootherutilities andpublicauthorities.

TheCompanyalsoservesapproximately 467,000gascustomers, 417,000ofwhichareresidential, accounting forabout,f1%

ofitsgasrevenues, 17,000ofwhicharecommercial/industrial, accounting for23%ofitsgasrevenues, 3,600ofwhicharefirmtransportation customers, accounting for3%ofitsgasrevenues, withthebalanceofthegasrevenuesderivedfromoff-system sales.BusinessSegmentsForinformation concerning theCompany's electricandgasfinancial andoperating results,seeItem7,"Management's Discussion andAnalysisofFinancial'Condition andResultsofOperations" andNote13ofNotestoFinancial Statements.

E<mployees, AsofMarch31,1998,theCompanyhad5,187full-time employees, ofwhich2,149belongtoLocal1049and1,220belongtoLocal1381oftheInternational Brotherhood ofElectrical Workers.Effective February14,1996,theCompanyandtheseunionsagreeduponcontracts whichwillexpireonFebruary13,2001.Thecontracts provide,amongotherthings,forwageincreases totaling15.5%overthetermoftheagreements.

Regulation andAccounting ControlsTheCompanyissubjecttoregulation bythePublicServiceCommission oftheStateofNewYork(PSC)withrespecttorates,issuances andsalesofsecurities, adequacyandcontinuance ofservice,safetyandsitingofcertainfacilities, accounting, conservation ofenergy,management effectiveness andothermatters.Toensurethatitsaccounting controlsandprocedures areconsistently maintained, theCompanyactivelymonitorsthesecontrolsandprocedures.

TheAuditCommittee oftheCompany's BoardofDirectors, aspartofitsresponsibilities, periodically reviewsthismonitoring program.4TheCompanyisalsosubject,incertainofitsactivities, tothejurisdiction oftheUnitedStatesDepartment ofEnergy(DOE)andtheFederalEnergyRegulatory Commission (FERC).Inadditiontoaccounting jurisdiction, theFERChasjurisdiction overratesthattheCompanymaychargeforthesaleofelectricenergyforresaleininterstate

commerce, including ratestheCompanychargesforelectricity soldtomunicipal electricsystemswithintheCompany's territory, andforthetransmission, throughtheCompany's system,ofelectricenergytootherutilities orcertainindustrial customers.

Itisintheexerciseofthisjurisdiction overtransmission thattheFERChasissuedtwoordersrelatingtothedevelopment ofcompetitive wholesale electricmarkets.Foradiscussion oftheseFERCOrders,seeNote12ofNotestoFinancial Statements.

TheFERCalsohassomejurisdiction overaportionoftheCompany's gassuppliesandsubstantial jurisdiction overtransportation totheCompanyofitsgassupplies.

Operation ofNineMilePointNuclearPowerStation,Unit2(NMP2),anuclearfacilityinwhichtheCompanyhas"an18%interest, issubjecttoregulation bytheNuclearRegulatory Commission (NRC).nLongIslandPowerAuthority Transaction OnJune26,1997,theCompanyandLongIslandPowerAuthority (LIPA)enteredintodefinitive agreements pursuanttowhich,afterthetransferoftheCompany's gasbusinessunitassets,non-nuclearelectricgenerating facilityassetsandcertainotherassetsandliabilities tooneormorenewly-formed subsidiaries ofanewholdingcompany(HoldCo),

formedinconnection withtheLIPATransaction andKeySpanTransaction discussed below,theCompany's commonstockwillbesold'toLIPAfor$2.4975billionincash.Inconnection withthistransaction, theprincipal assetsto'beacquiredbyLIPAthroughitsstockacquisition ofLILCOinclude:(i)thenetbookvalueofLILCO'selectrictransmission anddistribution system,whichamountedtoapproximately

$1.3billionatMarch31,1998;(ii)LILCO'snetinvestment inNMP2,whichamountedtoapproximately

$0.7billionatMarch31,1998;(iii)certainofLILCO'sregulatory assetsassociated withitselectricbusiness;-and (iv)allocated accountsreceivable andotherassets.Theregulatory assetstobeacquiredbyLIPAamountedtoapproximately

$6.6billionatMarch31,1998,andprimarily consistoftheBaseFinancial Component (BFC),RateModeration Component (RMC),Shorehampost-settlement costs,Shorehamnuclearfuel,andtheelectricportionoftheregulatory taxasset.Forafurtherdiscussion oftheseregulatory assets,seeNote1ofNotestoFinancial Statements.

LIPAiscontractually responsible forreimbursing-HoldCo forpostretirement benefitsotherthanpensioncostsrelatedtoemployees ofLILCO'selectricbusiness.

Accordingly, uponconsummation ofthetransaction, HoldCowillreclassify theassociated regulatory assetforpostretirement benefitsotherthanpensionstoacontractual receivable.

Theprincipal liabilities tobeassumedbyLIPAthroughitsstockacquisition ofLILCOinclude2 I(i)LILCO'sregulatory liabilities associated withitselectricbusiness; (ii)allocated accountspayable,customerdeposits, otherdeferredcreditsandclaimsanddamages;and(iii)certainseriesoflong-term debt,aportionofwhichwillberefinanced.

Theregulatory liabilities tobeassumedbyLIPAamountedtoapproximately

$365millionatMarch31,1998,andprimarily consistoftheegulatory liability component, 1989Settlement creditsandtheelectricportionoftheregulatory taxliability.

Forafurtherdiscussion oftheseregulatory, liabilities, seeNote1ofNotestoFinancial Statements.

Thelong-term debttobeassumedbyLIPAwillconsistof;(i)allamountsthenoutstanding undertheGeneralandRefunding (G&R)Indentures; (ii)allamountsthenoutstanding undertheDebenture Indentures, exceptasnotedbelow;and(iii)substantially allofthetax-exempt authority financing notes.HoldCoisrequiredtoassumethefinancial obligation associated withthe7.30/tyDebentures dueJuly15,1999,withanaggregate principal amountcurrently outstanding of$397millionand8.2010Debentures dueMarch15,2023,withanaggregate principal amountcurrently outstanding of$270million.HoldCowillseektoexchangeitsDebentures, withidentical terms,forthesetwoseriesofDebentures andwillissueapromissory notetoLIPAinanamountequaltotheunexchanged amountofsuchDebentures.

HoldComillalsoissueapromissory notetoLIPAforaportionofthetax-exempt debtborrowedtosupportLILCO'scurrentgasoperations, withtermsidentical tothosecurrently outstanding.

TheCompanycurrently estimates tgeamountofthispromissory notetobeapproximately

$250million.InJuly1997,inaccordance withtheprovisions oftheLIPATransaction, theCompanyandTheBrooklynUnionGasCompany(Brooklyn Union)formedalimitedpartnership andeachCompanyinvested$30millioninordertopurchaseaninterestrateswapoptioninstrument toprotectLIPAagainstmarketriskassociated withthemunicipal bondsexpectedtobeissuedbyLIPAtofinanceetransaction.

UpontheclosingoftheLIPATransaction, eachlimitedpartnerwillreceive.fromPA$30millio'nplusinterestthereon,basedoneachpartners'verage weightedcostofcapital.theeventthattheLIPATransaction isnotconsummated, themaximumpotential losstotheCompanyistheamountoriginally invested.

Insuchevent,theCompanyplanstodeferanylossandpetitionthePSCtoallowrecoveryfromitscustomers.

AspartoftheLIPATransaction, thedefinitive agreements contemplate thatoneormore'ubsidiaries ofHoldCowillenterintoagreements withLIPA,pursuanttowhichsuchsubsidiaries willprovidemanagement andoperations servicestoLIPAwith'respect totheelectrictransmission anddistribution system,deliverpowergenerated byitspowerplantstoLIPAandmanageLIPA'sfuelandelectricpurchases andanyoff-system electric'sales.

Inaddition, threeyearsaAertheLIPATransaction isconsummated, LIPAwillhavetherightforaone-yearperiodtoacquireallofHoldCo'sgenerating assetsatthefairmarketvalueatthetimeoftheexerciseoftheright,whichvaluewillbedetermined byindependent appraisers.

InJuly1997,theNewYorkStatePublicAuthorities ControlBoard(PACB),createdpursuantfotheNewYorkStatePublicAuthorities Lawandconsisting offivemembersappointed by})hebq~s,,governor, unanimously approvedthedefinitive agreements relatedtotheLIPATransaction'subject tothefollowing conditions:

(I)withinoneyearoftheeffective dateofthetransaction,Ii,+rtp)n-;;

!itttrestablish aplanforopenaccesstotheelectricdistribution system;(ii)ifLIPAexercises itsoptiqn-.toacquirethegeneration assetsofHoldCo'sgeneration subsidiary, LIPAmaynotpurchasetheg"generating facilities, ascontemplated inthegeneration purchaserightagreement,

'ataprice"greater'han bookvalue;(iii)HoldComustagreetoinvest,'ver aten-yearperiod,atleast$1.3billidniny-related andeconomicdevelopment

projects, andnaturalgasinfrastructure proJectsonLongd;(iv)LIPAwillguarantee that,overaten-yearperiod,averageelectricrateswillbereduced3 bynolessthan14%whenmeasuredagainsttheCompany's ratestodayandnolessthana2%co's<<savingstoLIPAcustomers mustresultfromthesavingsattributable tothemergerofLILCOandKeySpan;and(v)LIPAwillnotincreaseaverageelectriccustomerratesbymorethan2.5%overatwelve-month periodwithoutapprovalfromthePSC.LIPAhasadoptedtheconditions setforthbythePACB.Theholdersofcommonandcertainseriesofpreferred stockoftheCompanyeligibletovoteapprovedtheLIPATransaction inAugust1997.InDecember1997,theUnitedStatesNuclearRegulatory Commission (NRC)issuedanorderapproving theindirecttransferofcontroloftheCompany's 18%ownership interestinNMP2toLIPA./rInDecember1997,theCompanyfiledwiththeFERCasettlement agreement reachedwithLIPAinconnection withapreviousfilingoftheCompany's proposedratesforthesaleofcapacityandenergytoLIPA,ascontemplated intheLIPAtransaction agreements.

TheCompanyalsohadpreviously filedanapplication withtheFERCseekingapprovalofthetransferoftheCompany's electrictransmission anddistribution systemtoLIPAinconnection withL'IPA'spurchaseofthecommonstockoftheCompany.WInFebruary1998,the'FERCissuedordersonbothoftheCompanyfilings.Specifically, theFERCapprovedtheCompany's application to'trarisfer assetstoLIPAinconnection withLIPA'sacquisition oftheCompany's commonstock.Inaddition, theFERCacceptedtheCompany's proposedratesforsaleofcapacityandenergytoLIPA.Thoseratesmaygointoeffect.onthedatetheservicetoLIPAbegins,subjecttorefund,andfinalrateswillbesetaftertheFERChascompleted itsinvestigation ofsuchrates,thetimingofwhichcannotbedetermined atthistime.InJanuary1998,theCompanyfiledanapplication withthePSCinconnection withtheproposedtransferofitsgasbusinessunitassets,non-nuclear generating facilityassetsandcertainotherassetsandrelatedliabilities tooneormoresubsidiaries ofHoldCotobeformedascontemplated intheLIPATransaction agreements.

OpApril29,1998,thePSGapprovedthetransferoftheabove-mentioned assets.InJuly1997,theCompany,BrooklynUnionandLIPAfiledrequestsforprivateletterrulingswiththeInternalRevenueService(IRS)regarding certainfederalincometaxissueswhichrequirefavorable rulingsinorderfortheLIPATransaction tobeconsummated.

OnMarch4,1998,theIRSissuedaprivateletterrulingconfirming thatthesaleoftheCompany's commonstocktoLIPAwouldnotresultinacorporate taxliability totheCompany.Inaddition, theIRSruledthat,afterthestocksale,theincomeofLIPA'selectricutilitybusinesswillnotbesubjecttofederalincometax.InaseparaterulingonFebruary27,1998,theIRSalsoruledthatthebondstobeissuedbyLIPAtofinancetheacquisition wouldbetax-exempt.

InJanuary1998,theCompanyfiledanapplication withtheSECseekinganexception formostoftheprovisions ofthePublicUtilities HoldingCompanyActo'f1935.InMay1998,theSECissuedanorderapproving theCompany's application.

TheCompanycurrently anticipates thattheLIPAtransaction willbeconsummated onoraboutMay28,1998.KeySpanEnergyCorporation Transaction OnDecember29,1996,TheBrooklynUnionGasCompany(Brooklyn Union)andtheCompanyentered-into anAgreement andPlanofExchangeandMerger(ShareExchangeAgreement),

pursuanttowhichthecompanies willbemergedinatransaction (KeySpanTransaction) thatwillresultintheformation ofHoldCo.TheShareExchangeAgreement wasamendedandrestatedtoreflectcertaintechnical changesasfFebruary7,1997andJune26,1997.Effective September 29,1997,BrooklynUnionreorganized intoaholdingcompanystructure, withKeySpan,EnergyCorporation (KeySpan) becomingitsparentholdingcompany.Accordingly, thepartiesenteredintoanAmendment, Assignment andAssumption Agreement, datedasofSeptember 29,1997,whichamongotherthings,amendedtheShareExchangeAgreement andrelatedstockoptionagreements toreflecttheassignment byBrooklynUniontoKeySpanandtheassumption byKeySpanofallBrooklynUnion'srightsandobligations undersuchagreements.

TheKeySpanTransaction,'which hasbeenapprovedbybothc'ompanies'oards ofdirectors andshareholders, wouldunitetheresources oftheCompanywiththeresources ofKeySpan.KeySpan,withapproximately 3,300employees, distribu'tes naturalgasatretail,primarily inaterritory of'pproximately 187squaremileswhichincludestheb'o<oughs ofBrooklynandStatenIslandandtwo-thirds oftheboroughofQueens,allinNewYorkCity.KeySpanhasenergy-related investments ingasexploration,>production and.marketiitg'ih theUnitedStatesandNorthernIreland,aswellasenergyservicesintheUnitedStates,including cogeneration

projects, pipelinetransportation andgasstorage.UnderthetermsoftheKeySpanTransaction, theCompany's commonshareownbrs willreceive0.803shares(theRatio)ofHoldCo'scommonstockforeachshareoftheCompaq'ommon stockthattheyholdatthetimeofclosing.KeySpancommonshareowners willreceiveoneshareofcommonstockofHoldCoforeachcommonshareofKeySpantheyholdatthetimeofclosing.Shareowners oftheCompanywillownapproximately 66/oofthecommonstockofHoldCowhileySpanshareowners willownapproximately 34/o.IntheeventthattheLIPATransaction isnsummated, theRatiowillbe0.880withCompanyshareowners owningapproximately 68/ooftheHoldCocommonstock.Consummation oftheShare'xchange Agreement isnotconditioned upontheconsummation oftheLIPATransaction andconsummation oftheLIPATransaction isnotconditioned uponconsummation oftheShareExchangeAgreement.

Basedoncurrentfactsandcircumstances, it'isprobablethatthepurchase'method ofaccounting willapplytotheKeySpanTransaction, withtheCompanybeingtheacquiring

'companyforaccounting purposes.,

InMarch1997,theCompanyfiledanapplication withtheFERCseekingapprovalofthetransferoftheCompany's commonequityandcertainFERC-jurisdictional assetstoHoldCo.InJuly1997,theFERCgrantedsuchapproval.

TheShareExchangeAgreement containscertaincovenants ofthepartiespendingtheconsummation ofthetransaction.

Generally, thepartiesmustcarryontheirbusinesses intheordinarycourseconsistent withpastpractice, maynotincreasedividends oncommonstockbeyondspecified levelsandmaynotissuecapitalstockbeyondcertainlimits.TheShareexchangeAgreement alsocontainsrestrictions on,amongotherthings,charterandby-lawamendments, capitalexpenditures, acquisitions, dispositions, incurrence ofindebtedness, certainincreases inemployeecompensation andbenefits, andaffiliate transactions.

TheCompanyandKeySpanexpecttocontinuetheirrespective currentdividendpoliciesuntilcompletion oftheKeySpanTransaction.

Itisanticipated thatHoldCowillsetaninitialannual'dendrateof$1.78pershareforitscommopstock.

Uponcompletion ofthemerger,Dr.WilliamJ.Catacosino's willbecomechairmanandchief.executive officerofHoldCo;Mr.RobertB.Catell,currently chairmanandchiefexecutive officer-ofKeySpan,willbecomepresident andchiefoperating officerofHoldCo.Oneyearaftertheclosing,Mr.CatellwillsucceedDr.Catacosinos aschi'efexecutive officer,withDr.Catacosinos continuing aschairman.

Theboardofdirectors ofHoldCow'illbecomprised of15members,sixfromtheCompany,sixfromKeySpanandthreeadditional personspreviously unaffiliated witheithercompany.EffectsofLIPAandE'eySpanTransactions onFutureOperations Thefutureoperations andfinancial positionoftheCompanywillbesignificantly affectedbyeachoftheproposedtransactions withLIPAandKeySparidescribed "above.Thediscussion contained inthisreportandanyanalysisoffinancial condition an'dresultsofoperations doesnotreflect,unlessotherwise indicated, thepotential effectsofthetransactions withLIPAandKeySpan.Competitive Environment Adiscussion ofthecompetitive issuestheCompanyfacesappearsinNote12ofNotestoFinancial Statements.

ElectricOperations t~'jlIGeneralTheCompany's systemenergyrequirements aresuppliedfromsourceslocatedbothonandoffLongIsland.tThefollowing tableindicates the1997summercapacityoftheCompany's steamgeneration facilities, InternalCombustion (IC)Unitsandother,generation facilities asreportedtotheNewYorkPowerPool(NYPP):~~itLocationofUnitsDescription FuelUnitsMWCompanyOwned:Northport, L.I.PortJefferson, L.I.Glenwood, L.I.IslandPark,L.I.FarRockaway, L.I.'hroughout L.I.lSteamTurbineSteamTurbineSteamTurbineSteamTurbineSteamTurbineICUnitsDual*.OilDual*GasDual*Dual*'ual*Oil*2222"2230778,754382218386'092791,072Jointly0wned:NMP2(18%Share)Oswego,NewYorkOwnedbytheNewYorkPowerAuthority Holtsville, L.I.SteamTurbineCombinedCycleNuclear1Dual*"205142Total554,325*Dual-Oilornaturalgas.1ErAdditional generating facilities ownedbyothers,suchasindeperident powerproducers (IPPs)andcogenerators locatedonLongIslandandinvestor-owned andpublicelectricsystemslochtedoffLongIslandprovidethebalanceoftheCompany's energysupplies.

"ThemaximumdemandontheCompany's systemwas4,"140Megawatts (MW)onJuly15,1997,representing 84%ofthetotalavailable capacityof4,953MWonthatday,w'hichincluded766MWoffirmcapacitypurchased fromothersources.Byagreement withtheNYPP,theCompanyisrequiredtomaintain, onamonthlybasis,aninstalled andcontracted firmpowerreserve6 generating capacityequaltoatleast18%ofitsactualpeakload.TheCompanycontinues tomeet.thisNYPPrequirement.

,hstemReuirements Ener-Available andRelb'11rortheyearendedMarch31,1998,systemkilowatthours(kWh)energyrequirements ontheCompany's systemwere1.0%higherthanthecorresponding 1997period.TheCompanyforecasts increases of2.3%and3.2%,for'theyearsendingMarch1999and2000,respec'tively comparedtothatexperienced fortheyearendedMarch31,1998.FortheyearsendingMarch31,2001-2010, theCompanyforecasts anaverageannualgrowthrateinsystemenergyrequirements of1.1%.Duetotheeffectsofpriceela'sticity, theprojected peakdemandforelectricpowerisexpectedtoincreaseiftheLIPAtransaction isconsummated.

Base'd'on projecti'ons ofpeak'demand forelectricpowerinthe',absence oftheLIPATransaction, theCompanybelievesitwill'needto,acquireadditional generating ordemhand-side resources startingin1998inordertomaintainelectricsupplyreliability.

Inaccordance withtheCompany's Integrated ElectricResourcePlan(IERP),issuedin1996,theComp'anyintendstoinstitute acombinati'on ofapeakloadreduction'emand-side management programandacapacitypurchasetomeetthisneed.Currentprojections arethatnewelectricgenerating capacitywillnotneedtobeinstalled onLongIslandtomeet.peakdemanduntilaAer2002.Itisanticipated that'such new.capacitywouldbeacquiredthroughacompetitive biddingprocess.FuelMixThemegawatthours'(MWh) andpercentages oftotalenergyavailable by,typeoffuelforelectricoperations fortheyearsendedMarch31;1998and1997,and-theyearsendedDecember31,1996and1995wereasfollows:Inthousands fMWh'earEndedMarch3119981997,YearEndedDecember31'9961995MWhMWh%MWh%"1MWhOilGasNuclearPurchased ower3,43420%6,21235%15459%641236%3,278-19%546931%1,5539%'"7261414,219'24%',54225%:15589%738842%309917%6,344i36%13017%714340%Total17603100%'7561100%17707100%17887100%iIiiThetotalenergyprovidedbyoilandnaturalgasisgenerated bytheCompany's unitslocatedonLongIsland,whilethenucleargeneration isprovidedthrough.NMP2, theCompany's 18%owned>nuclearpowerplantwhichislocatednearOswego,NewYork.~hi'1OslTheavailability andcostofoilusedbytheCompanyisaffectedbyfactorssuchasthein'ternational.oil, m'arket,environmental regulations,,conservation measuresandtheavailability of,alternative fuels.Inordertoreducetheimpactoftheabovefactorson-theCompany's operations,,

.theCompany,overthepastseveralyears,has,refitted themajorityofjtssteamgen'eration unitsenablingthemtoburnoilornaturalgas,whichever ismoreeconomical andconsistent withseasonalenvironmental requirements.'he Company's fueloilissuppliedprincipally bythreepliers.

Oilconsumption inbarrelswasasfollows:YearsEndedMarch311998March311997,December311996December311995Consumption (inbarrels)5.6million5.5million7.1million5.2million.~NaturalGasNineoftheCompany's elevensteamgenerating unitshavethe'capability ofburningnaturalgas.Sevenoftheseunitsarecapableofburningeitheroilo'rnaturalgas.ThisenablestheCompanytoburnthemostcost-efficient fuel,consisten't withseasonalenvironmental requir'ements, therebyreducingtheCompany's generation costs.InApril1996andMay1997,theCompanycompleted twoplannedconversions ofoil-fired steamgenerating unitsatitsPortJefferson PowerStationtodual-firing units.Gasconsumption forelectricgeneration wasasfollows:YearsEndedMarch311998March311997December311996December31'995Consumption (inmillionDth)69.463.650.269.8Thepercentage ofenergygenerated byburningnaturalgasattheCompany's steamandinternalcombustion unitswasasfollows:YearsEndedMarch311998March311997December311996December311995PercentGenerated 64%63%52%67%Purchased PowerTheCompanystrivestoprovideitscustomers withthemosteconomical energyavailable tokeepelectricratesaslowaspossible.

Often,thisenergyisgenerated moreeconomically atpowerplantswithinotherelectricsystemsandtransmitted totheCompanythroughitsinterconnections.

Inaddition, theCompanyisrequiredtopurchaseenergyfromsourceslocatedwithinitsserviceterritory including theNewYorkPowerAuthority (NYPA)'Holtsville

facility, IPPsandcogenerators.

IPPsandcogenerators locatedwithintheCompany's serviceterritory providedapproximately 206MWofcapacitytotheCompanyduringtheyearendedMarch31,1998.Thepercentage ofthetotalenergymadeavailable totheCompanybyIPPs,cogenerators andtheNYPAHoltsville facilitywasfollows:YearsEndedMarch311998March311997December311996December3119958PercentofEnergyAvailable 17.2%16.1%163%

TileCompanydoesnotexpectanynewmajorIPPsorcogenerators tobebuiltonLongIslandinthenearfuture.Amongthereasonssupporting thisconclusion istheCompany's beliefthatthemarketforIPPsandcogenerators toprovide.powertotheCompany's remaining commercial and~~~dustrialcustomers issmall.Furthermore, underfederallaw,theCompanyisrequiredtobuynergyfromqualified producers attheCompany's long-range avoidedcosts.Currentlong-range "avoidedcostestimates fortheCompanyhavesignificantly reducedtheeconomicadvantage toentrepreneurs seekingtocompetewiththeCom'panyandwithexistingIPPs.Foradditional information withrespecttocompetitive'issues facingtheCompany,seeNote12ofNote'stoFinancial Statements.

18Nuclear4TheCompanyholdsan18%interestinNMP2,an1,137MWnucleargenerating unitnearOswego,NewYork,whichisoperatedbyNiagaraMohawkPowerCorporation (NMPC).Thecotenants ofNMP2,"inadditiontotheCompany,'are NMPC(41%),NewYork-St'ateElectric&GasCorporation (18%),Rochester GasandElectricCorporation (14%)andCentralHudsonGas&,ElectricCorporation (9%).FortheyearendedMar'ch31,1998,NMP2operatedat86.63%'ofitscapacity.

Forafurtherdiscussion ofNMP2,seeNote5ofNotestoFinancial Statements.

ffInterconnections Fiveinterconnections allowforthetransferofelectricity betweentheCompanyandmembersoftheNYPPandtheNewEnglandPowerPool.Energyfromthesesourcesistransmitted pursuantto',transmission agreements withNMPC,NYPA,Northeast Utilities ServiceCompany(NUSCO),aco-ownerofoneoftheseinterconnections, andConsolidated EdisonCompanyofNewYork,Inc.(ConEdison)anddisplaces energythatwouldotherwise begenerated ontheCompany's systematahighercost.Thecapacityoftheseinterconnections isutilizedforCompany'equirements eludingthetransmission oftheCompany's shareofpowerfromNMP2,therequirements ofConison,aco-ownerwiththeCompanyofthreeoftheseinterconnections, andtherequirements onongIslandofNYPA,theownerofoneoftheseinterconnections.

Conservation ServicesAdiscussion ofconservation servicesappearsin'tem7,"Management's Discussion andAnalysis'f Financial Condition andResultsofOperations."

The1989Settlement rInFebruary1989,th'eCompanyandtheStateofNewYorkenteredintothe1989Settlement resolving certainissuesrelatingtotheCompanyandpro9idin'g, amongothermatters,forthefinancial recoveryoftheCompanyandforthe"transfer oftheShoreham'Nuclear PowerStation(Shoreham) toLIPAforitssubsequent decommission'ing.

IIAdiscussion ofthe1989Settlement andShorehamdecommissioning appearsinNote10ofNotestoFinancial Statements.

ElectricRatesAdiscussion ofelectricratesappearsinNote4ofNotestoFinancial Statements.

eqSGasOperations General'TheCompany's gassuppliesaretransported byinterstate pipelines fromCanadiananddomesticsources.On-.system peakshavingandIPP/Cogen peakingsuppliesareavailable tomeetsystemrequirements duringwinterperiods.Duringthepastseveralyears,theCompanyactivelyparticipated inproceedings beforetheFERCinanefforttomitigateany.adverseimpactthatfilingsbyinterstate pipelinecompanies mighthave.ontheCompany's gascustomers aswellastodecreaseupstreamtransportation costsandimproveoperational tariffs.TheCompanyalsoactivelyparticipated intheproceedings beforethePSCwhichestablished theframework fora.newcompetitive naturalgasmarketplace withintheStateofNewYork.g1In.responsetochangesinfederalandstateregulations thathave"unbundled" traditional pipelineservicesinordertopromotecompetition inthegassupplyandgasservicesmarket,theCompanyimplemented itsNaturalChoice firmtransportation programinApril1996.UnderNaturalChoice, customers maypurchasenaturalgasfromqualified suppliers otherthantheCompany.TheCompanycontinues toprovideNaturalChoice customers withallgasservicesprovidedtotraditional customers exceptfortheprocurement andsaleofgas.Theseservicesincludethelocaltransportation ofgas,meterreadingandbilling,,equipment maintenance andemergency response.

TheCompany's profitmarginshavenotbeenimpactedby.thisnewprogramastheCompanycollectsfromthesecustomers allcostsassociated withproviding itsservice,including operating thegassystem.AsofMarch31,1998,therewereapproximately 3,600NaturalChoice customers withannualrequirements ofapproximately 4,213,000 Dthor7percentoftheCompany's annualgassystemrequirements.

GasSstemReuirements TheCompanyhas467,000firmgascustomers atMarch31,1998,including 295,000gasspaceheatingcustomers, anincreaseofmorethan15,000gasspaceheatingcustomers overthepastthreeyears.TheCompany's penetration inthegasspaceheatingmarketwithinitsseryiceterritory isapproximately 29%.TotalfirmsalesfortheyearendedMarch31,1998,whennormalized forweather,decreased approximately 3.6%overthecomparable periodin199$primarily duetocustomers switching totheNaturalChoice Program.Themaximumdailysendoutexperienced ontheCompany's gassystemwas585,227DthonJanuary,19,1994,representing 83%oftheCompany's perdaycapability atthattime.Theforecasted maximumdailysendoutforthe1998-1999 winterseason(November 1-March31)isapproximately 652,000Dth,or88%oftheCompany's peak-daycapability.

10 PeakDaCaabiliTheCompanyhasfirmgaspeakdaycapability inexcessofitsprojected requirements forfirmgascustomers forthe1998-1999 winterseason(November 1-March31).Firmcapability isummarized inthefollowing table.'iITransportation

'torage.'ogen/IPP Deliveries PeakShavingTotalDth'perda263,000-294,00085,000.103,000745,000%ofTotal3540,1114100%lIIIiTransportation TheCompanyhasavailable underfirmcontract263,000Dthperday,ofyear-r'ound andseasonalpipelinetransportation capacitywhichisprovidedbyfourinterstate pip'eline companies including theIroquoisGasTransmission System.TheCompany,throughitsmajority,,

intei;est ina,subsidiary, LILCOEnergySystems,Inc.,isageneralpartnerintheIroquoispipelinewithanequityshareof1%.StorageInordertomeethigherwinterdemand,theCompanyalsohaslong-term firmmarketareastorageservicesinPennsylvania andNewYorkwhichprovideatotalmaximumsupplyof294,000Dthperday,withatotal.capacityof22,534,000 Dthforthewinterperiod.*I),gIIInordertoprovidetheCompanywithgreatersecurity, ofsupplyandenhancedoperational

'lexibility inmeeti'ngpeak-dayrequirements, theCompanyalsocontracts forproduction area.ragecapacityinLouisiana andMississippi.

However,theCompanyhasnojncremental firmelinetransportation capacityforthesesupplies.

IICogen/IPP Deliveries TheCompanyhas'contract rightswiththeBrooklynNavyYardCogenfacilitytoreceive'pproximately 576,000Dthofpeakingsuppliesduringthewinterperiodat'arateofapproximately 30,000Dthperday.Also,theCompanyhascontractrightswiththeNassauDistrictEnergyCorporation toreceive250,000Dthofpeakingsuppliesduringthewinterperiodata'rate'of 12;500Dthperday.'heCompanyhascontractrightswiththeNYPAIPPfacilitytoreceive900,000Dthofstorageserviceduringany'continuous 100-dayperiodduringeachwinter'season atadailyratenotto'exceed31,000Dth'perday.Inaddition, theCompanyhascontractrigh'tswithNissequogue Cogenfacilityto"receiveup"to330,000Dth'ofstorageservicefor'30daysduringeachwinterseasonata'dailyratenot'toexceed'11,000Dthperday.TheCompanyhastheobligation toreturnthesequantities inkindduringthefollowing summerperiod.Inaddition, theCompanyhastherightto'equest 812,000DthinthewinterseasonfromtheTBGCogenfacilitywiththeobligation toreturnthequantities inkindduringthefollowing summerperiod.Thedailyquantityof12,500Dthisonlyavailable onwarmerwinterdays.PeakShavingTheCompanyhasitsownpeakshavingsuppliestomeetitsfirmrequirements onexcessively coldnterdays.Theyincludealiquefied, naturalgasplantwithastoragecapacityofapproximately 000Dthandvaporization facilities whichprovideapproximately 103,000Dthperdaytothe11 peak-daycapability oftheCompany's system.'IIiiISTheCompanyhasapproximately 161,000Dthperdayoffirmgassuppliesthataretransported underitsfirmpipelinetransportation capacity.

About83,000DthperdayisobtainedfromCanadiansourcesand78,000Dthper.day,isobtainedfromdomesticsources.Includedinthelong-termfirmCanadiangasisabout'3,000 Dthperday'fgascontracted withBoundaryGas,Inc.(Boundary).

TheCompanyowns2.7%ofthecommonstockofBoundary, acorporation formedwith14othergasutilitycompanies toactasapurchasing agentfortheimportation ofnaturalgas"'romCanada.TheCompany's 161,000Dthperdayoflong-term supplycontracts havecommodity ratesthataremarket-based.

TheCompanyhasnofixedpricesupplycontracts.

Certainofthesecontracts'have minimum'annual'take orpayar'rangements and/orassociated demandcharges".

'4TheCompanyalso'purchases variousquantities ofmarket-priced'gas inboththeseasonaland'onthlyspot'markets thatistransported underfirmandinterruptible transpo'rtation agreements.

'1GasRatesAdiscussion ofgasratesappearsinNote4ofNotestoFinancial Statements.

RecoveofTransition Cos'ts*Transition costsarethecostsassociated'with unbund/ing thepip'eline companies'erchant servicesincompliance with.FERC OrderNo.636.Theyincludepipelinecompanies'..unrecovered gascostsandthecoststhatpipelines incuras,"aresultofmodifying orterminating theirgassupplycontracts.

Ino'rder"torecovertransition costs,pipelirie companies mustdemonstrate totheFERCthatsuchcostswereattributable toOrderNo.636andthattheywereprudently incurred.

WhiletheCompanyhaschallenged, onbotheligibility andprudencegrounds,itssupplier'ipelines'fforts torecovertheirclaimedtransition costs,theCompanyestimates thatitwillberesponsible.

fortotaltransition costsofapproximately

$10million.AsofMarch31,1998,theCompanyhascollected

$8.7million ofthesetransition costs,fromitsgascustomers.,

I,NaturalGasVehicles'IIITheCompanycontinues tomaintainafocusonpromoting NaturalGasVehicles(NGVs)andinfrastructure development.

Additional resources havebeendedicated totheNGVprogramin1997and1998andanarrangement withacompanynamedFuelmaker hasprovidedcustomers withalowrisk,lowcost.approachtorefueling theirNGVs.Inaddition, consistent withaCleanCitiesdesignation, theCompanyhasaggressively assistedcustomers inobtaining Congestion Mitigation AirQuality(CMAQ)grantsand,other Department ofEnergyfundstohelpoffsettheir,incremental NGVandrefueling equipment costs.Asaresultoftheseefforts,NGVsconsumedapproximately130,000,Dth andresultedin$260,000inrevenuenetoffuelfortheyearendedMarch3,1,1998.III'nvironmental MattersGeneralTheCompany's ordinarybusinessoperations necessarily involvematerials andactivities whichsubjecttheCo'mpanytofederal,stateandlocallaws,rulesandregulations dealingwiththeenvironment, including air,waterandlandquality.Theseenvironmental requirements mayentailsignificant expenditures forcapitalimprovements.

ormodifications andmayexposetheCompany12 to,potential liabilities which,incertaininstances, maybeimposedwithout,regardtofaultorforhistorical activities whichwerelawfulatthetimetheyoccurred.

Lawswhichmayimposesuchpotential liabilities include(butarenotlimitedto)thefederal,omprehensiye Environmental

Response, Compensation andLiability Act(CERCLA,commonlyownasSuperfund),

thefederalResourceConservation andRecoveryAct,thefederalToxicSubstances ControlAct(TSCA),thefederalCleanWaterAct(CWA),andthefederalCleanAir~Act(CAA).Capitalexpenditures forenvironmental improvements andrelatedstudiesamountedtoapproximately

$9.2millionfortheyearendedMarch31,1998and,,based onexistinginformation, areexpectedtobe$4.0millionfortheyearendedMarch31,1999.Theexpenditures infiscalyear1998andexpectedspendinginfiscalyear1999includea,totalof$10.6millionforthecompletion ofagas-firing capability projectatNorthport Unit1andPortJefferson Unit$.Itisnotpossibletoascertain withcertainty iforwhenthevariousrequiredgovernmental approvals forwhichapplications havebeenmadewillbeissued,orwhether,exceptasnotedbelowadditional facilities ormodifications ofexistingorplannedfacilities willberequiredoi,generally, whateffectexistingorfuturecontrolsmayhaveuponCompanyoperations.

ExceptassetforthbelowandinItem3-"LegalProceedings,"

nomaterialproceedings havebeencommenced or,totheknowledge oftheCompany,arecontemplated byanyfederal,stateorlocalagencyagainsttheCompany,noristheCompanyadefendant inanymateriallitigation withrespecttoanymatterrelatingtotheprotection oftheenvironment.

Recoverabili oEnvironmental Costs"~~TheCompanybelievesthatnoneoftheenvironmental matters,discussed below,willhaveaterialadverseimpactontheCompany's financial

position, cashflowsorresultsofoperations...

addition, theCompanybelievesthatallsignificant costsincurredwithrespecttoenvironmental investigation andremediation activities, notrecoverable frominsuiance

carriers, willberecoverable fromitscustomers.

lt\IAirL,1Federal,stateandlocalregulations affecting new,andexistingelectricgenerating plantsgovernemissions ofsulfurdioxide(SO,),nitrogenoxides(NO),particulate matter,and,potentially inthefuture,fineparticulate matter(aerosols ofSO,),ha'zardous airpollutants andcarbondioxide(CO,).,SulfurDioxideRequirements Thelawsgoverning thesulfurcontentofthefueloilbeingburnedbytheCompanyincompliance, withtheUnitedStatesEnvironmental Protection Agency(EPA)approvedAirQualityStateImplementation Plan(SIP)areadministered bytheNewYorkStateDepartment ofEnvironmental Conservation (DEC).TheCompanydoesnotexpecttoincuranycoststosatisfythe1990,amendments tothefederalCAAwithrespecttothereduction ofSO,emissions, astheCompanyalreadyusesnaturalgasandoilwithacceptably lowlevelsofsulfurasboilerfuels.Thesefuelsalsoresultinreducedvulnerability toanyfuturefineparticulate standards implemented intheformofstringent sulfurdioxideemissionlimits.TheCompany's useoflowsulfurfuelshasresulted, andwillcontinuetoresult,inapproximately 70,000excessSO,allowances peryearthroughtheyear1999.TheCompanypresently appliestheproceedsresulting fromanysalesofexcessSO,allowances asareduction totheRMCbalance.~ompanyenteredintoavoluntary Memorandum ofUnderstanding withtheDECwhich13 providesthattheCompanywillnotsellSO,allowances forusein15statesinanefforttomitigatethetransport ofacidrainprecursors intoNewYorkStatefromupwindstates.NitrogenOxidesRequirements DuetotheCompany's programofcost-effective emissionreductions, including theoptimization ofnaturalgasfiringabilityatalmostallthesteamelectricgenerating

stations, theCompanyhadthelowestNOemissions rateofalltheutilities inNewYorkStatefortheyearsendedDecember31,1997,1996and1995.'SincetheCompany's generating facilities arelocatedwithinaCAA,Amendment-designated ozonenon-attainment area,theyaresubjecttoNOreduction requirements whicharebeingimplemented inthreephases.PhaseIwascompleted in1995;PhaseIIandPhaseIIIwillbecompleted in1999and2003,respectively.

>>TheCompanyiscurrently incompliance withPhaseINOreduction requirements.

Itis'estimated thatadditional expenditures ofapproximately

$1millionwillberequiredto'meetPhaseIINOreduction requirements.

Subjecttorequirements thatareexpectedtobepromulgated inforthcoming regulations, theCompanyestimates thatitmayberequiredtospendanadditional

$10millionto$34million,excluding theNorthport Unit1conversion, bytheyear2003'omeetPhase'IINOreduction requirements.

Thecompletion oftheprojecttoaddgas-firing'apability atNorthport Unit1(completed inMay1998atatotalcostofapproximately

$8.4million)willalsofacilitate theCompany's compliance withtheanticipated PhaseIIINoreduction requirements.

Continuous EmissionMonitoring Additional sofbvareandequipment upgradesforContinuous Emissions Monito'rs ofapproximately

$2millionmayberequiredthrough1999atallgenerating facilities inordertomeetEPArequirements underdevelopment fortheNOallowance tracking/trading program.>>Hazardous AirPollutants Utilityboilersarepresently exemptfromregulation assourcesofhazardous airpollutants untiltheEPAcompletes astudyoftherisks,ifany,topublichealthreasonably anticipated tooccurasaresultofemissions byelectricgenerating units.TheEPAisexpectedtomakeadetermination

'oncerning theneedforcontrolofhazardous airpollutants fromutilityfacilities in1998.Untilsuchdetermination ismadebytheEPA,theCompanycannotfullyascertain what,ifany,costswillbeincurredforthecontrolofhazardous airpollutants.

However,aftertheexpenditure ofapproximately

$1.5millioninfiscal1998andtheplannedspendingof$0.5millionthroughMarch31,1999,forelectrostatic precipitator upgradesand,withthemaximization ofcleanburningnaturalgasastheprimaryfuel,hazardous airpollutant regulations, ifenacted,shouldnotimposeanyadditional controlrequirements fortheCompany's facilities.

mkCarbonDioxideRequirements CO,emissions fromtheCompany's plantshazebeenreducedbyapproximately 23%since1990,largelythroughgreaterrelianceontheuseofnaturalgasandthroughconservation programs.

ThismakestheCompanylessvulnerable tofutureCO,reduction requirements.

'pacityIssuesTheDEChasproposedcommencing enforcement actions'gainst allNewYorkutilities forallegedopacityexceedences fromsteamelectricgenerating facilities.

Opacityisameasureoftherelativeleveloflightthatisobscuredfrompassingthroughapowerplantstackemissionplume.Anexceedence occurswhentheleveloflightpassingthroughtheplumeisreducedbymorethan20%140 forsixmihutesormor'.'The CompanyhasenteredintoanAdininistrative ConsentOrder(ACO)withtheDECwhichresolvesallhistorical opacityexceedences, establishes anopacityreduction programtobeundertaken bytheCompany,andsetsastipulated penaltyscheduleforfuturexceedences.

Thenumberofexceedences'experienced bytheCompanyisrelatively low,placingeCompanyamongthebestperformers inNewYorkState.Electromagnetic FieldsElectromagnetic fields(EMF)occurnaturally andalsoare'produced whereverthereiselectricity.

Thesefieldsexistaroundpowerlinesandother'utility equipment.

TheCompanyisincompliance withallapplicable regulatory standards andrequirements concerning EMF."TheCompanyalsomonitorsscientific developments inthestudyofEMF,hascontributed tofundingforresearchefforts,andisactivelyinvolvedincustomerandemployeeoutreachprogramstoinformthecommunity ofEMFdevelopments astheyoccur.Althoughanextensive bodyofscientific literature hasnotshownanunsafe"exposureleveloracausalrelationship betweenEMFexposureandadversehealtheffects,concernoverthepotential foradversehealtheffectswilllikelycontinuewithoutfinalresolution forsometime.Todate,fourresidential propertyownershaveinitiated separate'lawsuits againsttheCompanyallegingthatthee'xistence ofEMFhasdiminished thevalueoftheirhomes.Theseactionsareinthepreliminary stagesofdiscovery andaresimilartoactionsbroughtagainstanotherNewYorkStateutility,whichweredismissed bytheNewYorkStateCourtofAppeals.'heCompanyisnotinvolvedinanyactivelitigation thatallegesacausalrelationship betweenexposuretoEMFandadversehealtheffects.WaterUnderthefederalCWAandtheNewYorkStateEnvironmental Conservation Law,theCompanyisrequiredtoobtainaStatePollutant Discharge Elimination Systempermit'to makeanydischarge tothewatersoftheUnitedStateso'rNewYor'kState.TheDEChasthejurisdiction toissuesepermitsandtheirrenew'als aridhasissuedpermitsfortheCompan'y's

'generating units.Thepermitsallowthecontinued useofthecirculating watersystemswhichhavebeendetermined tobeincompliance withstatewaterqualitystandards.

Thepermitsalsoallowforthecontinued useofthechemicaltreatment systemsandforthecontinued discharge ofwater'naccordance withapplicable permitlimits.vVHF.Infiscalyear1998,theCompanyspentapproximately"$

300;000toupgradeitswastewatertreatment facilities andforothermeasuresdesignedtopro'tectsurfaceandgroundwaterqu'alityandexpectstospendan'additional

$100,000intheyears1998-2000.

LongIslandSoundTransriiission Cables"'During1996,theConnecticut Departm'ent ofEnvironment'al Protection (DEP)issuedamodification toanAdministrative ConsentOrder(ACO)previously issuedinconnection withaninvestigation ofanelectrictransmissio'n cablesystemlocatedundertheLongIslandSound(SoundCable)thatisjointlyownedbytheCompanyand'the'onnecticut LightandPowerCompany(Owners).

ThembdifiedACOrequirestheOwnerstosubmittotheDEPandDECaseriesofreportsandstudiesde'scribing cablesystemcondition, operation andr'epairpractices, alternatives forcableimprovements orr'eplacement andenvironmental impactsassociated withleaksoffluidintotheLongIslandSoundwhichh'aveoccurredfr'omtimetotime.TheCompanycontinues tocompilerequiredinformation andcoordinate the'activities necessary toperformthesestudiesandatthepresenttime,isunabletodetermine the'costsitwillincurto'complete therequirements ofodifiedACOorto,comply withanyadditional requirements.

15 TheOwnershavealsoenteredintoanACOwiththeDEC.asaresultofleaksofdielectric fluid'fromtheSoundCable,TheACOformalizes theDEC's,authority toparticipate inandseparately approvethereportsandstudiesbeingpreparedpursuanttotheACOissuedbythe,DEP.Inaddition, theACOsettlesanyDECclaimfornaturalresourcedamagesinconnection withhistorical releasesofdielectric fluidfromtheSoundCable.InOctober1995,theU.S.AttorneyfortheDistrictofConnecticut hadcommenced aninvestigation regarding occasional releasesoffluidfromtheSoundCable,aswellasassociated operating andmaintenance practices.

TheOwnershaveprovidedtheU.S.Attorneywithallrequested documentation.

TheCompanybelievesthatallactivities associated withtheresponsetooccasional releasesfromtheSoundCablewereconsistent withlegalandregulatory requirements.

EIInDecember1996,abarge,ownedandoperatedbyathirdparty,droppedanchorwhichthendraggedoveranddamagedthe,SoundCable,resulting inthereleaseofdielectric fluidintoLong.IslandSound.Temporary clampsandleakabaterswere,installed onthecablestostoptheleaks.Permanent repairswerecompleted inJune1997.ThecosttorepairtheSoundCablevyasapproximately.

$17.8million,forwhichtherewas$15millionofinsurance coverage.

TheOwnersfiledaclaimandanswer,inresponse.

to,themaritimelimitation proceeding instituted bythebargeownerintheUnitedStatesDistrictCourt,EasternDistrictofNewYork.Theclaimseeksrecoveryoftheamountspaid,byinsurance carriersandrecoveryofthecostsincurredforwhichtherewasno,insurance coverage.

AnycoststorepairtheSound,Cablewhicharenotreimbursed byathirdpartyorcoveredbyinsurance willbesharedequallybytheOwners.LandUSuperfund imposesjoint,and severalliability, regardless, offault,upongenerators ofhazardous substances for,costsassociated withenvironmental cleanupactivities.

Superfund alsoimposes,liability forremediation ofpollution causedbyhistorical actswhichwere.lawfulatthetimetheyoccurred.

i,IInthecourseoftheCo'mpany's ordinarybusiriess'operations, theCompanyisinvolvedinth'handlingofmaterials"that aredeemedtobehazardous subsfa'nc'es underSuperfund.

Thesematerials includeasbestos, metals,certainflammable andorganiccompounds anddielectric fluidscontaining polychlorinated biphenyls (PCBs)..Other hazardous substances, maybehandledintheCompany's,operations ormaybepresentatCompany.locations asaresultofhistorical practices bytheCompanyoritspredecessors ininterest.,The Companyhas,received noticeconcerning possibleclaimsunderSuperfund oranalogous statela'wsrelatingtoanumberofsitesatwhichitisallegedthathazardous substances generated bytheCompanyandother,potentially.

responsible, parties(PRPs)weredeposited.

Adiscussion ofthesesitesissetforthbelow.J,Estimates'of theCompa'ny's allocated shar'eofc'osts'for'investigative, removalandremedialactivities atthesesitesrangefrompreli'minary torefinedandareupdatedasnewinformation becomesavailable.

InDe'cember 1996,theCompanyfiledacomplaint in'heUnitedStatesDistrictCourtfortheSouthernDistrictofNewYorkagaIrist1$oftheCompany's insurerswhich'ssuedgeneralcomprehensive lIability (GCL)policiestotheCompany.In'January 1998,the.'ompany,"commenced asimilaractionagainstthesame,andcertainadditional insurerdefendants inNewYorkStateSupremeCourt,'irst Department; thefederalcourtactionwassubsequently dismissed inMarch1998.TheCompanyisseekingrecovery, undertheGCLpolicies'for thecostsincurredtodateandfuturecostsassociated withtheclean-upoftheCompany's formermanufactured gasplant(MGP)sitesandSuperfund sitesfor.whichtheCompanyhasbeennamedaPRP.TheCompanyisseekingadeclaratory judgmentthatthedefendant insurersare'bound bythe160 termsoftheGCLpolicies, subjecttothestatedcoveragelimits,toreimburse theCompanyforthecleanupcosts.Theoutcomeofthisproceeding cannotyetbedetermined.

SuerundSites,etalBankTheEPAhasnotified, theCompanythat,itisoneofmanyPRPsthatmay.beliablefortheremediation ofalicenseddisposalsitelocatedin,Philadelphia, Pennsylvania, andoperatedby.",MetalBankofAmerica.TheCompanyandnineotherPRPs,allofwhicharepublicutilities, completed performance ofaRemedialInvestigation andFeasibility, Study(RI/FS),whichwas.conducted underan.ACOwiththeZPA.InDecember1997,theEPAissueditsRecordofDecision(ROD),settingforththefinalremedialactionselectedforthesite.IntheROD,the.EPAestimated that'thepresentcostoftheselectedremedyforthesiteis$17.3million.Atthistime,theCompanycannotpredictwithreasonable certainty theactualcostoftheselectedremedy,whowillimplement theremedy,1orthecost,ifany,totheCompany.UnderaPRP"participation agreement, theCompanypreviously wasresponsible for8.2%ofthe'costs ass'ociated withtheRI/FS.TheCompany.'s allocable shareofliability fortheremediation activities hasnotyetbeendetermined.

,E'TheCompanyhasrecordedaliability ofapproximately

$1millionrepresenting'ts estimated shareoftheadditional costtoremediate thissitebaseduponits8.2%responsibility undertheRI/FS.E'ESyossetTheCompany'andnineotherPRPshavebe'ennamedin'alawsuitwheretheTownofOysterBay(Town)isseekingindemnification for'emediation'nd investigation coststhathave,beenorwillbeincurredforafeder'alSuperfund siteinSyos'set,-New York.Forafurtherdiscussion onthismatter,seeIt'em3,'Le'gal Proceedings

-Environm'ental.

BTreatment, Inc.eCompanyhasalsobeennamedaPRPfordisposalsitesinKansasCity,Kansas',andKan'sasCity,Missouri.

Thetwositesw'ere'used'by'a companynamedPQBTreatment, Inc.from1982until1987forthestorage,'processing, andtreatment'of electricequipment, dielectric oilsandmaterials contaihing PCBs.According totheEPA,thebuildings'and certainsoilar'easoutsidethebuildings arecontaminated with'PCBs.

II1F111CertainofthePRPs,including theCompanyandseveralotherutilities, formedaPRPgroup,signedanACO,andhavedeveloped aworkplanforinvestigating environmental conditions atthesites.Documentation c'onnecting theCompanytothesitesin'dicates thattheCompa'nywas'esponsible forless.tHan1%oftHematerials thatwereshippedtotheMissourisite;'fheEPAhas"'.notyetcorn'pleted compiling'the~documents fortheKansassite.1',11'E',1OsageTheEPAhasnotifiedthe'Company'that itisaPRPattheOsageMetalsSite,aformerscrapmetal"recycling facilitylocatedin-Kansas City,Kanshs.UnderSection107(a)ofCERCLA,partieswhoarrangedfordisposalofhazardous substances areliableforcostsincurredbythe'EPA'in responding toareleaseorthreatofreleaseofthehazardous substances.

Osagehadpurchased capacitor scrapmetalfromPCBTreatment, Inc.Throughthearrangements thattheCompanymadewithPCBTreatment, Inc.todisposeofcapacitors, theCompanyisallegedto'havearrangedfordisposal<within the'meaning ofthefederalSuperfund law:Asimilarletterwassentto861..ieswhosentcapacitors toPCBTreatment, Inc.'TheEPAisseekingtorecover.approximately milliondollarsitexpendedtoconductaremovalactionatthesite.TheCompanyiscurrently lEV17 unabletodetermine itsshareofthe$1.1millionexpenditure.

PortRefineryTheCompanyhasbeennotifiedthatitisaPRPatthePortRefinery'uperfund sitelocatedinWestchester County,NewYork.PortRefinerywasengagedinthebusinessofpurchasing, selling,refiningandprocessing mercuryandtheCompanymayhaveshippedasmallamount:of wasteproductscontaining mercurytothissite.Testsconducted by.theEPAindicated thatthesiteandcertainadjacentproperties werecontaminated withmercury.Asaresult,theEPAhasperformed aresponseactionat'hesiteandseekstorecoveritscosts,currently totalingapproximately

$4.4million,plusinterest, fromthePRPs.TheCompanydoesnotbelieveitsportionofthesecosts,ifany,willbematerial.

Port0'ashington In1989,theEPAnotifiedtheCompanythatitwas"aPRPforalandfillinPortWashington, NewYork.TheCompanydoesnotbelievethatitsentanymaterials tothesitethatcontributed tothecontamination whichrequiresremediation andhastherefore declinedtheEPA'srequeststoparticipate infundingtheinvestigation andremediation activities attheproperty.

TheCompanyhasnotreceivedfurthercommunications regarding thissite.LibertyTheEPAhasnotifiedtheCompanythatitisaPRPinaSuperfund sitelocatedinFarmingdale, NewYork.Industrial operations tookplaceatthissiteforatleastfiAyyears.ThePRPgrouphasclaimedthattheCompanyshouldabsorbremediation expensesintheamountofapproximately

$100,000associated withremovingPCB-contaminated soilsfromaportionofthesitewhichformerlycontained electrictransformers.

TheCompanyiscurrently unabletodetermine itsshareofcostsofremediation atthissite.Huntington/East Northport TheDEChasnotifiedtheCompany,pursuanttotheStateSuperfund program,thatitsrecordsindicatetheCompanymayberesponsible forthedisposalofwasteatthismunicipal landfillproperty.

TheCompanyconducted asearchofitscorporate recordsanddidnotlocateanydocuments concerning wastedisposalpractices associated withthislandfill.

TheCompanyiscurrently unabletodetermine itsshare,ifany,ofthecoststoinvestigate andremediate thissite.Blydenburgh TheNewYorkStateOfficeoftheAttorneyGeneralhasnotifiedtheCompanythatitmayberesponsible forthedisposalofwastesand/orforthegeneration ofhazardous substances whichmayhavebeendisposedofattheBlydenburgh Superfund site,amunicipal sanitarylandfilllocatedintheTownofIslip,SuffolkCounty.TheStatehasincurredapproximately

$15millionincostsfortheinvestigation andremediation ofenvironmental conditions atthelandfill.

Inconnection withthisnotification, theCompanyconducted areviewofitscorporate recordsanddidnotlocateanydocuments concerning wastedisposalpractices associated withthislandfill.

TheCompanyiscurrently unabletodetermine itsshare,ifany,ofthecoststoinvestigate andremediate thissite.OtherSitesManufactured GasPlantSitesTheDEChasrequiredtheCompanyandotherNewYorkStateutilities toinvestigate and,wherenecessary, remediate theirformerMGPsites.Currently, theCompanyistheownerofsixpiecesofpropertyonwhichtheCompanyorcertainof-itspredecessor companies producedmanufactured gas.Operations atthesefacilities inthelate1800'sandearly1900'smayhaveresultedinthe18 disposalofcertainwasteproductslocatedatthesesites.TheCompanyhasenteredintodiscussions withtheDECwhichpreexpectedtoleadtotheissuanceofoneormoreACOsregarding themanagement ofenvironmental activities atthesesixroperties.

AlthoughtheexactamountoftheCompany's cleanupcostscannotyetbedetermined, basedonthefindingsofpreliminary investigations conducted ateachofthesesixsites,currentestimates indicatethatit'maycost'approximately

$54to$92milliontoinvestigate andremediate allofthesesites.Considering therangeofpossibleremediation estimates, theCompanyfeltitappropriate torecorda$54millionliability reflecting thepresentvalueofthefuturestreamofpaymentsamounting to$70milliontoinvestigate andremediate thesesites.TheCompanyusedarisk-free rateof6.0/otodiscountthisobligation.

TheCompanybelievesthatthePSCwillprovideforfuturerecoveryofthesecostsandhasrecordeda$54millionregulatory asset.TheCompany's ratesettlement whichthePSCapprovedFebruary4,1998asdiscussed inNote3ofNotestoFinancial Statements, allowsfortherecoveryofMGPexpenditures fromgascustomers.-

TheCompanyisalsoevaluating itsresponsibilities withrespecttoseveralotherformerMGPsitesthatexistedinitsterritory whichitdoesnotpresently own.Researchisunderwaytodetermine theexistence andnatureofoperations andrelationship, ifany,totheCompanyoritspredecessor companies.

NorthHillsLeakTheCompanyhasundertak'en remediation ofcertainsoillocations inNorthHills,NewYorkthatwereimpactedbyareleaseofinsulating fluidfromanelectrical cableinAugust1994.TheCompanyestimates thatanyadditional cleanupcostswillnotexceed$0.5million.TheCompanyhasinitiated costrecoveryactionsagainstthethirdpartiesitbelievesareresponsible forcausingecableleak,theoutcomeofwhichareuncertain.

torageFacilities As:aresultofpetroleum leaksfromunderground storagefacilities andotherhistorical occurrences, theCompanyisrequiredtoinvestigate and,incertaincases,remediate aQectedsoilandgroundwater conditions atseveralfacilities withinitsservice'territory.

Theaggregate costsofsuchremediation workcouldbebetween$3millionand$5milli'on.

'Totheextentthatthesecostsarenotrecoverable throughinsurance

carriers, theCompanybelievessuchcostswillberecoverable fromitscustomers.

NuclearWasteLoivLevelRadioactive 5'asteThefederalLowLevelRadioactive WastePolicyAmendment Actof1985,requiresstatesto'rrange forthedisposalofalllowlevelradioactive wastegenerated withinthes'tateor,inthealternative, tocontractfor.theirdisposalatanoperating facilityoutsidethestate.Asaresult,NewYorkStatehasstateditsintentions ofdev'eloping anin-statedisposalfacilityduetothelargevolumeoflowlevelradioactive wastegenerated withinthe"state andhascommitted todevelopaplanforthemanagement ofsuchwasteduringtheinterimperioduntiladisposalfacilityis'vailable.

NewYork'State isstilldeveloping adisposalmethodology andacceptance criteriaforadisposalfacility.

ThelatestNewYorkStatelowlevelradioactive wastesitedevelopment schedulenowassumestwopossiblesitingscenarios,,a volunteer approachandanon-volunteer

approach, eitherofwhichwouldnotbeginoperation untilatleast2001.Low'evelradioactive wasteratedatNMP2iscurrently beingdisposedofattheBarnwell, SouthCarolinawastedisposalitywhichreopenedinJuly1995toout-,of-state lowlevelwastegenerators.

19 Intheeventthatoff-sitestoragebecomesunavailable priorto2001,NMPChasimplemented alowlevelradioactive wastemanagement programthatwillproperlyhandleinterimon-sitestorageoflowlevelradioactive wasteforNMP2foratleasttenyears.TheCompany's shareofthecostsassociated withtemporary storageandultimatedisposalarecurrently recovered in-rates.

CSpentNuclearFuelNMPC,onbehalfoftheNMP2cotenants, hasenteredintoacontractwiththeDOEforthepermanent storageofNMP2spentnuclearfuel.TheCompanyreimburses NMPCforits18%shareofthecostunderthecontractatarateof$1.00permegawatthourofnetgeneration lessafactortoaccountfortransmission linelosses.TheCompanyiscollecting itsportionofthisfeefromitselectriccustomers.

Itisanticipated thattheDOEfacilitymaynotbeavailable forpermanent storageuntilatleast2010.Currently, allspentnuclearfuelfromNMP2isstoredattheNMPCsite,and.existing facilities aresufficient tohandleallspentnuclearfuelgenerated atNMP2throughtheyear2012.Forinformation concerning environmental litigation; seeItem3"LegalProceedings" undertheheadingEnvironmental.

IITheCompany's Securities GeneralTheCompany's securities areratedbyMoody'sInvestors Service,Inc.,StandardandPoor's,FitchIBCA,Inc.andDuff&PhelpsCreditRatingCo.Forinformation relatingtotheratingsoftheCompany's securities, seeItem7,"Management's Discussion andAnalysisofFinancial Condition andResultsofOperations."

TheG&RMortaeTheCompany's GeneralandRefunding Indenture datedJune1,1975(G&RMortgage) isalienupon.substantially alloftheCompany's properties.

Outstanding atMarch31,1998and1997wereapproximately

$1.3billionofG&RBonds.UndertheG&RMortgage, theCompanymayissueG&RBondsonthebasisofeithermaturedorredeemedG&RBondsoronthebasisoftheBondableValueofPropertyAdditions (BVPA).Generally, whenissuingG&RBonds,theCompanymustsatisfyamortgageinterestcoveragerequirement, knownastheG&RMortgageInterestCoverage.

TheG&RMortgageInterestCoveragerequiresthatthenetearningsasdefinedintheG&RIndenture, available forinterestfor,any12consecutive calendarmonthswithinthe15consecutive calendarmonthspreceding theissuanceofanyG&RBondsmustbeequaltoatleasttwotimesthestatedannualinterestpayableonoutstanding G&RBonds,including anynewG&RBonds.UndertheG&RMortgageInterestCoverage, theCompanywould,currently beabletoissueapproximately

$5.2billionofadditional G&RBondsbaseduponnetearningsfortheyearendedMarch31,1998andanassumedinterestrateof7.75%forsuchadditional G&RBonds.AchangeofI/8-of1%intheassumedinterestrateofsuchG&RBondswouldresultinachangeofapproximately

$82millionintheamountofsuchG&RBondsthattheCompanycouldissue.Themaximumamountofadditional G&RBondswhichtheCompanyiscurrently ableto.issueonthebasisofeithermaturedorretiredG&RBondsandonthebasisoftheBVPAisapproximately

$1.5billion.Underthepro'visions oftheG&RMortgage, theCompanymustalsosatisfybyJune30ofeachyearaSinkingFundrequirement, whichfortheyearendedDecember31,1997is$25million.TheCompanybelievesthat,baseduponcurrently scheduled redemptions andmaturities, itwill200 heeachavesufficient retiredG&RBondsfortheforeseeable futuretosatisfytherequirements oftheG&RSinkingFund.G&RMortgagealsocontainsaMaintenance Fundcovenantwhichrequiresthattheaggregate ountofpropertyadditions addedsubsequent toDecember31,1974mustbe,asoftheendofhcalendaryearsubsequent to1974,atleastequaltothecumulative provision fordepreciation (asdefinedintheG&RMortgage) fromDecember31,1974.TheG&RMortgagerequirescash(orretiredG&RBonds)tobedeposited tosatisfytheMaintenance Fundrequirem'ent onlywhensuchcumulative provision fordepreciation exceedssuchaggregate amountofpropertyadditions.

AsofDecember31,1997,theamountofsuchcumulative propertyadditions calculated pursuanttotheG&RMortgagewasapproximately

$10.4billion,including approximately

$5.5billionofpropertyadditions attributable toShoreham.

Also,asofDecember31;1997;theamountofthecumulative provision fordepreciation, similarly calculated, wasapproximately

$2.0billion.TheCompanyanticipates thattheaggregate amountofpropertyadditions willcontinuetoexceedthecumulative provision fordepreciation.

Foradiscussion oftheeffecttheLIPATransaction willhaveonCompanydebtoutstanding, seeLongIslandPowerAuthority Transaction, above.Unsecured DebtTheCompany's G&RMortgageanditsRestatedCertificate ofIncorporation donotcontainanylimitations upontheissuanceofunsecured debt.TheCompany's unsecured debtconsistsofdebentures andcertaintax-exempt securities.

TheCompany's Debenture Indenture, datedasofNovember1,1986,assupplemented, anditsebentureIndenture, datedasofNovember1,1992,assupplemented, eachprovidefortheuanceofanunlimited amountofDebentures tobeissuedinamountsthatmaybeauthorized romtimetotimeinoneormoreseries.Thedebentures areunsecured andrank~errnssuwithallotherunsecured indebtedness oftheCompanysubordinate totheobligations securedbytheCompany's G&RMortgage.

AtMarch31,1998and1997,therewere'pproximately

$2.3billionofdebentures outstanding.

Foradiscussion oftheeffectthattheLIPATransaction willhaveontheCompany's G&RBondsandDebentures, see"LongIslandPowerAuthority Transaction,"

above.AsofMarch31,1998,theCompanyhadoutstanding approximately

$941millionprincipal amountofpromissory notes,comprised of:(i)$2millionoftax-exempt Industrial Development RevenueBonds(IDRBs);(ii)approximately

$214millionoftax-exempt Pollution ControlRevenueBonds(PCRBs);and(iii)$725millionoftax-exempt ElectricFacilities RevenueBonds(EFRBs).Oftheseamounts,certainseriesaresubjecttoperiodictenders.Foradiscussion oftheeffectthattheLIPATransaction willhaveontheCompany's tax-exempt authority financing notes,see"LongIslandPowerAuthority Transaction,"

above.Foradditional information respecting tenderprovisions andotherinformation ontheCompany's outstanding debt,seeNote7ofNotestoFinancial Statements.

EuitSecurities CommonStockeCompany's commonstockislistedontheNewYorkandPacificStockExchanges, andisedunderthesymbol"LIL."TheBoardofDirectors'urrent policyistopaycashdividends oncommonstockonaquarterly basis.However,beforedeclaring anydividends, theCompany's 21 BoardofDirectors considers, amongotherfactors,theCompany's financial condition, itsability'te complywithprovisions oftheCompany's RestatedCertificate ofIncorporation andtheavailability ofretainedearnings, futureearningsandcash.Foradditional information withrespecttotheCompany's commonstock,seeNote6ofNotestoFinancial Statements.

1Preferred StockTheCompany's RestatedCertificate ofIncorporation providesthattheCompanymaynotissueadditional preferred stockunless,forany12consecutive calendarmonthswithinthe15calendarmonthsimmediately preceding thecalendarmonthwithinwhichsuchadditional sharesshallbeissued,thenetearningsoftheCompanyavailable forthepaymentofinterestchargesonthe.Company's interest-bearing indebtedness, determined aAerprovision fordepreciation andalltaxes,andinaccordance withsoundaccounting

practice, shallhavebeenatleastoneandone-halftimestheaggregate oftheannualinterestchargesontheinterest-bearing indebtedness oftheCompanyandannualdividendrequirements onallsharesof.preferred stocktobeoutstanding immediately aftertheproposedissueofsuchsharesofthepreferred stock(Earnings Ratio).AtMarch31,1998,theCompanysatisfied theEarningsRatioandcouldissueuptoapproximately

$1,076millionofpreferred stockatanassumeddividendrateof8.25%.Whentheproceedsfromthesaleofthe,preferred stocktobeissuedareusedtoredeemoutstanding preferred stock,therequirement tosatisfytheEarningsRatioisnotapplicable ifthedividendrequirement andtherequirements forredemption inavoluntary liquidation ofthepreferred stocktobeissueddonotexceedtherespective amountsforthepreferred stockwhichistoberetired.Additional preferred stockmayalsobeissuedbeyondamountspermitted undertheEarningsRatiowiththeapprovalofatleasttwo-thirds ofthevotesentitledtobecastbytheholdersofthetotalnumberofsharesofoutstanding preferred stock.Foradditional information withrespecttotheCompany's preferred stock,seeNote6ofNotestoFinancial Statements.

Preference StockIssuanceofpreference stock,whichissubordinate totheCompany's preferred stockbutseniortoitscommonstock,withrespecttodeclaration andpaymentofdividends andtherighttoreceiveamountspayableon,anydissolution,'oes notrequiresatisfaction ofanetearningstestoranyothercoveragerequirement, unlessestablished bytheBoardofDirectors foroneormoreseriesofpreference stock,priortotheissuanceofsuchseries.Nopreference stockhasbeenissuedbytheCompany,nordoestheCompanycurrently plantoissueany.I22 Executive OfficersoftheCompanyCurrentinformation regarding theCompany's Executive

Officers, allofwhomserveatthewilloftheBoardofDirectors, follows:illiamJ.'atacosinos:

Dr.Catacosinos hasservedasChairmanoftheBoardofDirectors andChiefExecutive OfficeroftheCompanysinceJanuary1984,andasaDirectorsinceDecember1978.Hecurrently chairstheExecutive Committee oftheCompany's BoardofDirectors.

Dr.Catacosinos alsoservedasPresident oftheCompanyfromMarch1984toJanuary1987andfromMarch1994toDecember1996.Dr.Catacosinos, 68,aresidentofMillNeck,LongIsland,earnedabachelorofsciencedegree,amastersdegreeinbusinessadministration andadoctoraldegreeineconomics fromNewYorkUniversity.

Dr.Catacosinos isamemberoftheBoardsofAtlanticBankofNewYo'rk,theLongIslandAssociation andtheEmpireStateBusinessAlliance, andisamemberoftheAdvisoryCommittee oftheHuntington TownshipChamberFoundation.

HeistheformerChairmanandChiefExecutive OfficerofAppli'edDigitalDataSystems,Inc.,Hauppauge, NewYork;servedasChairmanoftheBoardandTreasurer ofCorometric Systems,Inc.of~Wallingford, Connecticut; andservedasAssistant DiiectoratBrookhaven NationalLaboratory, Upton,NewYork.TheodoreA.Babcock:VicePresident sinceJanuary1997,Treasurer sinceFebruary1994andAssistant Corporate Secretary sinceJanuary1996,Mr.BabcockjoinedtheCompanyinJuly1992asAssistant Treasurer.

Hepreviously spentfiveyearswiththeAMBASECorporation asanAssistant VicePresident andwaspromotedin1988toVicePresident andTreasurer.

PriortoAMBASE,Mr.Babcockspent11yearswiththeAssociated DryGoodsCorporation wherehewaspromotedtoAssistant Treasurer andDirectorofCorporate TreasuryOperations in1984.Mr.Babcock,43,receivedabachelorofsciencedegreeinaccounting fromManhattan Collegeanda~~~~~astersdegreeinfinancefromIonaCollege.Mr.BabcockisamemberoftheboardofthentingtonTownshipChamberFoundation.

MichaelE.Bray:SeniorVicePresident oftheElectricBusinessUnitsincejoiningtheCompanyinMarch1997.PriortojoiningtheCompanyMr.BraywasPresident andCEOofDBRileyConsolidated inWorcester, Massachusetts.

From1987-1994 Mr.BraywaswithABBPowerGeneration, Inc.inWindsor,Connecticut holdingthepositions ofSeniorVicePresident Sales&Marketing forABBPowerGeneration andPresident ofABB'sResourceRecoverySystemsorganization.

Priortothat,hespent17yearswithGeneralElectricCompanybeginning asafield'ngineer inthepowerequipment serviceorganization andultimately managingGen'eralElectric's cogeneration development, construction andoperating organization.

Mr.Bray,50,holdsabachelorofsciencedegreeinmechanical engineering fromtheUniversity ofMissouriatRollaand'mastersdegreeinBusinessAdministration fromWashington University.

Mr.BrayisamemberoftheAmericanAcademyofMechanical Engineers, pastBoardofDirector/member ofAmericanBoilerManufacturer's Association andtheGreaterHartfordChamberofCommerce.

Heisalsoachartermemberofthe'Academy ofMechanical Engineers attheUniversity ofMissouriatRolla.CharlesA.Daverio:VicePresident ofTheEnergyExchangeGroupsinceDecember1996,Mr.Daverio,48,holdsabachelorofengineering degreeinmechanical engineering fromManhattan College,amasterofsciencedegreeinindustrial engineering fromNewYork'niversity anda=masterofbusinessadministration fromNewYorkInstitute ofTechnology.

HejoinedtheCompanyin1976asanAssociate Engineer.

Heheldvarioussupervisory andmanagerial positions theNuclearEngineering Department from1979through1989.In1990,hewasassignedagerofGasSupplyandPlanningandwasgiventheadditional responsibility forGasperations in1993.Mr.DaverioistheCompany's representative ontheIroquoisGas23 Transmission System'sManagement Committee andisontheBoardoftheIroquoisPipeline, Operating Company.Mr.DaverioisamemberoftheboardoftheHuntington ArtsCouncil.JaneA.Fernandez:

VicePresident ofHumanResources sinceMay1997,Ms.Fernandez joinedtheCompanyin1973andhas.heldvariouspositions intheEmployeeRelations/Human Resources organization since,thattime.ShewasDirectorofHumanResourcePlanningfrom1988to1990,-,.DirectorofHumanResourceServicesfrom,1990 to19/4;Director, ofCorporate TrainingaqdHumanResources in1994,andAssistant VicePresident ofHumanResources from1994to1997.Ms.Fernandez, 48,isagraduateofC.W.Post,CollegeandholdsanMBAinManagement fromHofstraUniversity.,

~4JamesT.Flynn:President andmemberoftheCompany's BoardofDirectors sinceDecember1996andChiefOperating OfficersinceMarch.1994,Mr.,Flynn joinedtheCompanyinOctober1986asVicePresident ofFossilProduction.

Healsogeldthepositions ofGroupVicePresident, Engineering andOperations,and Executive VicePresident.

beforejoiningtheCompany,Mr.Flynn,64,wasGeneralManager-Easter'ervice Department forGeneralElectric.

HiscareerbeganasamemberofGeneralElectric's Technical Marketing Programin1957.Heholdsa,bachelorofsciencedegreeinmechanical engineering fromBucknellUniversity andisaLicensedProfessional EngineerintheStateofPennsylvania.

'lllHJosephE.Fontana:.VicePresident sinceJanuary1997andController sinceOctober1994,Mr.FontanajoinedtheCompanyinDecember1992asDiiectorofAccounting Services.

HeheldthepositionofAssistant Controller fromFebruary1994throughSeptember 1994.InhiscapacityasController, Mr.FontanaservesastheCompany's ChiefAccounting Officer.Mr.FontanaisamemberoftheAmericanInstitute ofCertified PublicAccountants andtheNewYorkStateSocietyofCPAs.BeforejoiningtheCompany,Mr.FontanawasaSeniorManagerattheinternational accounting firmofErnstAYoung,LLP.Mr.Fontana,40,holdsabachelorofsciencedegreeinaccounting fromWestchester StateCollegeandisaCertified PublicAccountant.

'IGeorgeB.Jongeling:

VicePresident ofSpecialProjectssinceApril1998.Priortojoiningthe.Company,Mr.Jongeling wasPresident andChiefOperating OfficerofSmithCogeneration Company,anIndependent Power.Development Companywithactiveindependent powerdevelopment inAsiaandoperating plantsintheU.S.Previousassignments jncludedVicePresident ofOperations andMemberoftheBoardofDirectors ofDBRiley,President ofPACEConstruction Company,VicePresident ofServiceandSparePartsforEBBGasTurbine,Business andVicePresident ofBusinessDevelopment forABBwastet'oenergybusiness.

Hestartedhiscareerin'1966,as afieldengineerfortheGeneralElectricCompanyandspent24,yearsworkinginthepowergeneration businessindomesticandforeignmanagement positions.

HislastGeneralElectricassignmentwas asManageroftheEasternRegionoftheU.S.fortheSystemsMarketing Groupsupporting thecogeneration, construction, development andOEcMbusinesses forGeneral,Electric.

Mr.Jongelin'g, 54,receivedaBachelorofSciencedegreeinMechanical Engineeiing fromtheSouthDakotaSchoolofMinesandTechnology andisalicensedprofessional engineerinIllinoisandMissouri.,

IRobertXKelleher:

SeniorVicePresident ofHumangesources since,May1997,Mr.KelleherjoinedtheCompanyin1959andhasheldvariousmanagerial positions intheFinance,Accounting, Purchasing, Stores,andEmployeeRelations organizations.

HewasIndustrial Relations Managerfrom,1975 to1979,ManageroftheEmployee, Relations Department from1979,to1985,Assistant VicePresident oftheEmployeeRelations Department from1985to1986,andVicePresident ofHumanResources from.1986 to1997.Mr.Kelleher, 61,isagraduateofSt.24 FrancisCollegeand,theHumanResources Management andExecutive Management ProgramsofPennsylvania StateUniversity.

Mr.Kelleherisamember.oftheAmericanCompensation Association,"Personnel Directors Council,Industrial Relations ResearchInstitute andTheEdisonlectricInstitute's L'aborRelations Committee.

JohnD.Leonard,Jr.:VicePresident ofSpecialProjectssinceApril1997,Mr.Leonardjoined.the.Companyin1984asVicePresident ofNuclearOperations.

Hecontinues.to beresponsible fornuclearissues.Mr.LeonardservedasVicePresident ofEngineering andConstruction fromMarch1994throughMarch1997,andpreviously servedasVicePresident ofCorporate Servicesfrom~July1989throughMarch1994.,From'1980 to1984,Mr.LeonardwastheVicePresident andAssistant ChiefEngineerforDesignandAnalysisattheNewYorkPowerAuthority.

Priortothisposition, heservedahaResidentManageroftheFitzpatrick NuclearPowerPlant.,for...

approximately fiveyears.Beforeaccepting apositionattheNewYorkPowerAuthority, Mr.Leonardservedas.Corporate Supervisor ofOperational QualityAssurance oftheVirginiaElectricPowerCompanyfrom1974to1976.In1974,Mr.'eonard:retired withtherankofCommander, fromtheUnitedStatesNavy,havingcommanded twonuclear-powered submarines ina.careerthatspanned20years.HeholdsabachelorofsciencedegreefromDukeUniversity andamasterofsciencedegreefromtheNavalPostGraduateSchool.Heis65and.aLicensedProfessional EngineerintheStateofNewYork.ivAdamM.Madsen:SeniorVicePresident ofCorporate andStrategic Planningsince1984,'r.Madsen,61,holdsabachelors degreeinelectrical engineering fromManhattan Collegeandamasterofsciencedegree.innuclearengineering fromLongIslandUniversity.

HehasbeenwiththeCompanysince1961;"servinginvariousengineering positions including ManagerofEngineering from1978to'1984.Priortothattime,heheldthe.position" ofManager'of the"armingDepartment.

Since.1978,Mr.MadsenhasbeentheCompany's representative tothe-~ingCommittee oftheNewYorkPowerPool.Heisamemberofthe.Northeast Power'oordinating Council',s Executive Committee andtheCouncil's Reliability Coordinating,

.Committee.

HealsoservesontheBoardofDirectors oftheEmpireStateElectricEnergyResearchCompany.Mr.MadsenisaLicensedProfessional EngineerintheStateofNewYork.14KathleenA.Marion:'VicePresident ofCorporateiServices sinceApril1994andCorporate Secretary sinceApril,1992, Ms.'Marion hasservedasAssistant,to theChairmansinceApril1987.ShewasAssistant Corporate Secretary fromApril3990toApril1992.Ms.Marion;43,hasa.bachelorofsciencedegreeinbusinessandfinancefromtheStateUniversity ofNewYorkatOld.Westbury.

BrianR.McCafPey:

VicePresident ofCommunications sinceFebruary.$

997,"Mr.McCaffrey, joinedtheCompanyin1973.Mr.McCaffrey, 52,holdsabachelorofscience,degreeinaerospace engineering from,theUniversity ofNotreDame;Healamoreceived.

amasterofsciencedegreeinaerospace engineering fromPennsylvania StateUniversity andamasterof.sciencedegreein,nuclearengineering fromPolytechnic University.

HeisaLicensedProfessional EngineerintheStateofNewYork.Priortohispresentassignment, Mr.McCaffrey wasVicePresident ofAdministration since1987.Previously, Mr.McCaffrey servedinmanypositions inthe,nuclearorganizations oftheCompanyandpositions inengineering'capacities associated withgasturbineandfossilpowerstationprojects.

Mr.McCaffrey isamemberoftheExecutive BoardoftheSuffolkCounty'Council B'oyScoutsofAmerica."1vphP'.McDonnell:

SeniorVicePresident ofMarketing and,ExternalAffairssinceDecember6,Dr.McDonnell joinedtheCompanyin1984.Dr.McDonnell wasAssistant totheChairman25 from1984through1987whenhewasnamedVicePresident ofCommunications.

In'July1992h6wasnamedVicePresident ofExternalAffairs.PriortojoiningtheCompany,hewastheDirectorofStrategic PlanningandBusinessAdministration forAppliedDigitalDataSystems,Inc.andAssociate DirectoroftheUniversity HospitalattheStateUniversity ofNewYorkatStonyBrook.Dr.McDonnell, 46,holdsbachelorofartsandmasterofartsdegreesinphilosophy fromtheStateUniversity ofNewYorkatStonyBrookandadoctoraldegreeincommunications fromtheUniversity ofSouthernCalifornia.

LeonardP.NovelloSeniorVicePresident sinceDecember1996,andGeneralCounselsincehejoinedtheCompanyinApril1995.BeforejoiningtheCompany,Mr.NovellowasGeneralCounselattheinternational accounting firmofKPMGPeatMarwick,whereheadvisedseniormanagement onavarietyoflitigation andcorporate issuesandwasresponsible foralllegalJmattersarisingoutofthefirm'soperations anditsaudit,taxandmanagement'consulting engagements.

PriortojoiningPeatMarwickin1975asanAssociate GeneralCounsel,Mr.Novellowasassociated withtheNewYorklawfirmofCravath,SwaineandMoore.Mr.Novelloisactiveinprofessional associations andisamemberoftheExecutive Committee oftheLitigation Commercial andFederalSectionoftheNewYorkStateBarAssociation andtheAssociation oftheBaroftheCityofNewYork..HeisalsoamemberoftheExecutive Committee oftheCPRInstitute forDisputeResolution.

Mr.Novello,57,hasabachelors degreefromtheCollegeoftheHolyCrossandajurisdoctorate fromFordhamUniversity.

AnthonyNozzolillo:

SeniorVicePresident ofFinanceandChiefFinancial OfficeroftheCompanysinceFebruary1994,Mr.Nozzolillo servedastheCompany's Treasurer fromJuly1992toFebruary1994.HehasbeenwiththeCompanysince1972servinginvariouspositions including ManagerofFinancial.

PlanningandManagerofSystemsPlanning.

Mr.Nozzolillo, 49,holdsabachelorofsciencedegreeinelectrical engineering fromthePolytechnic Institute ofBrooklynandamasterofbusinessadministration degreefromLongIslandUniversity, C.W.PostCampus.Mr.Nozzolillo ischairmanoftheCommunity AdvisoryBoardofLawrencePublicSchools'School toCareerInitiative."

RichardReichler:

DeputyGeneralCounselandVicePresident ofTaxPlanningandServicessinceJanuary1997.Mr.Reichlerheldthepositions ofDeputyGeneralCounselandVicePresident ofFinancial PlanningandTaxationfromJanuary1995throughDecember1996andAssistant VicePresident forTaxandBenefitsPlanningfromOctober1992throughDecember1994.Priortojoiningthe'Company, hewasapartnerintheinternational accounting firmofErnst&YoungLLPfor23years.Mr.Reichler, 63,holdsabachelorofartsdegreefromColumbiaCollegeandabacheloroflawdegreefromColumbiaUniversity SchoolofLaw.Since1989,hehastaughtvariouscoursesatBaruchCollege,including stateandlocaltaxation,'corporate taxationandrealestatetaxation.

Hehasauthoredseveralpublications ontaxandemployeebenefittopicsandhasservedasamemberoftheExecutive Committee oftheTaxSectionoftheNewYorkStateBarAssociation andasanAdvisortotheUrbanDevelopment Corporation HighTechnology AdvisoryCouncil.,18'illiamG.Schiffmacher:

SeniorVicePresident ofCustomerRelations andInformation SystemsandTechnology sinceDecember1996,Mr.Schiffmacher heldthepositions ofVicePresident ofCustomerRelations fromApril1994throughNovember1996andVicePresident ofElectricOperations fromJuly1990throughMarch1994.HejoinedtheCompanyin1965afterreceiving abachelorofelectrical engineering degreefromManhattan College.Mr.Schiffmacher, 54,alsoholdsamasterofsciencedegreeinmanagement engineering fromLongIslandUniversity.

Hehasheldavarietyofpositions intheCompany,including Manager'of ElectricSystemOperations, 26 ManagerofElectrical Engineering andVicePresident ofEngineering andConstruction..

8'ernerJ.Schweiger:

VicePresident ofElectricOperations sinceDecember1996,Mr.Schweiger

'oinedtheCompanyin1981andhasheldanumberofpositions inElectricOperations, aswellasEngineering.

Mostrecently, hewasManagerofElectricSystemsEngineering fromOctober1995throughNovember1996.Mr.Schweiger, 38,receivedhisbachelors degreeinelectrical engineering fromManhattan CollegeandalsoholdsamastersdegreeinEnergyManagement fromtheNewYorkInstitute ofTechnology.

RichardM.Siegel:VicePresident ofInformation SystemsandTechnology sinceDecember1996,Mr.SiegelheldthepositionofDirectorofInformation SystemsandTechnology fromJune1995toDecember1996.Mr.Siegel,51,joined'the Companyin1969asanAssociate Engineerandhasheldprogressive management positions inElectricOperations andEngineering, including

'anagerofElectricSystemEngineering andManagerofElectricSystemOperations.

Mr.Siegelholdsabachelorofelectrical engineering degreefromtheCityCollegeofNewYorkandamasterofsciencedegreeinIndustrial Management fromtheStateUniversity ofNewYorkatStonyBrook.Mr.SiegelisaLicensedProfessional EngineerintheStateofNewYork.RobertB.Steger:SeniorVicePresident ofGasBusinessUnitsinceDecember1996,Mr.Stegerheldthepositions ofVicePresident ofElectricOperations fromApril1994throughNovember1996andVicePresident ofFossilProduction fromFebruary1990throughMarch1994.HejoinedtheCompanyin1963andheldprogressive operating andengineering positions including ManagerofElectricProduction-Fossil from1985through1989.Mr.Steger,61,holdsabachelorof,mechanical engineering degreefromPrattInstitute andisaLicensedProfessional EngineerintheStateofNewYork.'lliamE.Steiger,Jr.:.VicePresident ofFacilities andRealEstatesinceFebruary,1997, Mr.eiger,54,heldthepositions ofVicePresident ofFossilProduction, fromApril1994throughFebruary1997andVicePresident ofEngineering andConstruction fromJuly1990throughMarch1994.DuringhiscareerwiththeCompany,whichbeganin1968,hehasserved,amongotherpositions, asLeadNuclearEngineerforShoreham, ChiefOperations EngineerforShoreham, PlantManagerforShorehamaswellasAssistant VicePresident ofNuclearOperations.

Mr.Steigerreceivedabachelorofsciencedegreeinmarineengineering fromtheUnitedStatesMerchantMarineAcademyandamasterofsciencedegreeinnuclearengineering fromLongIslandUniversity.

EdwardJ.Youngling:

SeniorVicePresident ofEngineering BcConstruction sinceFebruary1997,.Mr.Youngling joinedtheCompanyin1968andhasheldvariouspositions intheofficesofFossilProduction, Engineering andNuclearOperations including serviceasDepartment ManagerofNuclearEngineering.

In1988,Mr.Youngling wasnamedVicePresident ofConservation andLoadManagement.

In1990,hebecameVicePresident ofCustomerRelations, andfromMarch1993throughMarch1994,hewasVicePresident ofCustomerRelations andConservation.

InApril1994hewasnamedSeniorVicePresident oftheElectricBusinessUnit.Mr.Youngling, 53,holdsabachelorofsciencedegreeinmechanical engineering fromLehigh,University.

Mr.Youngling servesontheboardoftheEmpireStateElectricEnergyResearchCompanyandisamemberoftheExecutive Committee oftheNewYorkPowerPool.Mr.Youngling alsoservesontheEasternAdvisoryBoardoftheProtection MutualInsurance Company.27 CapitalRequirements, Liquidity andCapitalProvidedInformation asto"CapitalRequirements,"

"Liquidity" and"CapitalProvided" appearsinItem7,"Management's Discu'ssion andAnalysisofFinancial Condition andResultsofOperations."

Item2.'roperties Thelocationandgeneralcharacter oftheprincipal properties oftheCompanyaredescribed inItem1,"Business"'under the'headings "Electric Operations" and"GasOperations."

Item3.LegalProceedings PShorehamPursuanttotheLIPAAct,LIPAisrequiredtomakepayments-in-lieu-of-taxes (PILOTs)tothemunicipalities'that imposerealpropertytaxesonShoreham.

Pursuanttothe1989Settlement, theCompanyagreedtofundLIPA'sobligation tomakeShorehamPILOTs.ThetiminganddurationofPILOTsundertheLIPAActwerethesubjectof,litigation entitledLIPAetal.v.Shoreham-WadinRiverCentralSchoolDistrictetal.,broughtinNassauCountySupremeCourtbyLIPAagainst,amongothers,SuffolkCounty,theTownofBrookhaven andtheShoreham-Wading RiverCentralSchoolDistrict.

TheCompanywaspermitted tointervene inthelawsuit.InJune1996,theNewYorkStateCourtofAppealsrendereditsopiniononthecross-appeals filedbythepartiesregarding thetiming,durationandrefundability ofPILOTsundertheLIPAAct.TheCourtaffirmedportionsofapriorrulin'gbytheAppellate

Division, SecondDepartment byholdingthat(a)LIPA'sPILOTobligation isperpetual, (b)PILOTs,liketaxes,aresubjecttorefundiftheassessment uponwhichthePILOTswerebasedisdetermined tobeexcessive, and(c)PILOTsphasedownbytenpercentoftheprioryear'samount,ratherthantenpercentofthefirstPILOTyearamount,untilPILOTsreachalevelthatequalsthetaxesthatwouldhavebeenleviedontheplantinanon-operative state.Additionally, theCourtmodifiedtheAppellate Division's rulingbyfindingthatPILOTscommence, notatthetimetheCompanytransferred ShorehamtoLIPAinFebruary1992,butratheronDecember1,1992,thebeginning ofthenexttaxyear.IUnlessotherwise agreedbytheparties,theproperassessment ofShorehamforpurposesofdetermining theproperamountofPILOTsistobedetermined inaproceeding challenging theShorehamassessment forthe1992-93taxyear.Ifthatdetermination resultsinPILOTsthatarelessthantheamountofPILOTsthathavealreadybeenpaid,LIPA,andtherefore theCompany,shouldbeentitledtorefundsofexcessive PILOTsalreadymade.ThecostsofShorehamincludedrealpropertytaxesimposedby,amongothers,theTownofBrookhaven, and.werecapitalized bytheCompanyduringconstruction.

TheCompanysoughtjudicialreviewinNewYorkSupremeCourt,SuffolkCountyLonIslandLihtinComanv.TheAssessoroftheTownofBrookhaven etal.oftheassessments uponwhichthosetaxeswerebasedfortheyears1976through1992(excluding 1979whichhadbeensettled).

TheSupremeCourtconsolidated thereviewofthetaxyearsatissueintotwophases:1976through1983(PhaseI);and1984through1992(PhaseII).InJanuary1996,theCompanyreceivedapproximately

$81million,including interest,'rom SuffolkCountypursuanttorulingbytheSupremeCourt,upheldonappeal,thatfoundthatShorehamhadbeenovervalued forrealpropertytaxpurposesinPhaseI.280 InNovember1996,theSupremeCourtruledthatShorehamhadalsobeenover-assessed forreal'ropertytaxpurposesfor'Phase ILAjudgmentwasenteredonMarch26,1997intheamountof$868,478,912 whichincludesinteresttoNovember4,1996.SuffolkCounty,theTownofrookhaven andtheShorehamWading-River CentralSchoolDistricthaveappealedthejudgmentotheAppellate

Division, SecondDepartment.

AllbriefshavebeenfiledandoralargumentoccurredonMay6,1998.TheCourtreserveddecision.

Iftheassessment forthe1991-92taxyearisusedtodetermine theproper'amount ofPILOTsthisrulingshouldalsoresultinarefundof'pproximately

$260millionplusinterestforPILOTsfortheyears1992-1996.

IITherefundofanyrealpropertytaxes,PILOTs,andinterestthereon,netoflitigation costs;willbeusedtoreduceelectricratesinthefuture.However,thecourt'srulingissubjecttoappealand,asaresult,theCompanyisunabletodetermine theamountandtimingofanyadditional realpropertytaxandPILOTrefunds.Environmental InFebruary1994,alawsuitwasfiledintheUnitedStatesDistrictCourtfortheEasternDistrictofNewYorkbytheTownofOysterBay(Town),'gainst theCompanyandnineotherPRPs.The'ownisseekingindemnification forremediation andinvestigation coststhathavebeenorwillbe'ncurredforafederalSuperfund siteinSyosset,NewYork,whichservedasaTown-owned andoperatedlandfillbetween1933and1975.InaRecordofDecisionissuedinSeptember 1990,'the EPAsetfortharemedialdesignplan;thecostofwhichwasestimated at$27millionandisreflected intheTown'slawsuit.InanAdministrative ConsentDecreeenteredintobetweentheEPAandtheTowninDec'ember 1990,theTownagreedtoundertake remediation atthesite.TheCompanyisparticipating inajointPRPdefenseeffortwithseveralotherdefendants.'iability, ifimposed,wouldbejointandsev'eral.

Anagreement inprincipal hasbeenreachedbetwee'ntheompany,certainotherdefendants, theStateofNewYorkandtheTown;anysettlement issubjectcourtapprovalandifapprovedwouldnothaveamaterialadverseeffectonitsfinancial

position, cashflowsorresultso'foperatioris.

InMarch1996,theVillageofAsharoken filedalawsuitagainsttheCompanyintheNewYorkSupremeCourt,SuffolkCounty IncooratedVillaeofAsharoken NewYorketal.v.Lon IslandLihtinComan.TheVillageisseekingmonetarydamagesandinjunctive reliefbasedupontheoriesofnegligence, grossnegligence andnuisanceinconnection withtheCompany's designandconstruction oftheNorthport PowerPlantwhichtheVillageallegesupsetthelittoral'rift, therebycausingbeacherosion.InNovember1996,theCourtdecidedtheCompany's motiontodismissthelawsuit,dismissing twoofthethreecausesofaction.TheCourtlimitedmonetarydamagesonthesurviving continuous nuisanceclaimtothreeyearspriortothecommencement oftheaction.TheCompany's liability, ifany,resulting fromthisproceeding cannoty'etbedetermined.

However,theCompanydoesnotbelievethatthisproceeding willhaveamaterialadverseeffectonitsfinancial

position, cashflowsorresultsofoperations.

InJune1996,alawsuitwascommenced againsttheCompanyintheNewYorkSupremeCourt,SuffolkCountyTownofRiverhead etal.v.LonIslandLihtinComan,inwhichtheplaintiffs seekmonetarydamagesandinjunctive reliefbasedupontheoriesofnuisance, breachofcontract, andbreachofthePublicTrustinconnection withtheCompany's construction oftheShorehamNuclearPowerStationandtheCompany's diversion andmaintenance oftheWadingRiverCreek.Theplaintiffs allegethatthediversion oftheWadingRiverCreekandthestruction oftheShorehamNuclearPowerStationhavecausednegativeenvironmental impactsurrounding areas.Theplaintiffs alsoallegethattheCompanyhascontractual obligations to29 performannualmaintenance dredgingoftheWadingRiverCreekandbeachreplenishment of~,certainbeachfrontproperty.

InSeptember 1996,theCompanyfiledamotiontodismissthecomplaint onnumerousgrounds.InJanuary1997,theplaintiffs cross-moved foranorderseekingpartialsummaryjudgment.

TheCourtissuedanOrderdatedAugust26,1997whichdeniedbothmotionsexceptthatitdismissed Plaintiffs'ause ofactionallegingviolation ofthePublicTrustDoctrineandprohibited theTownofRiverhead fromsuinginitssovereign capacity.

Thepartieshavefilednoticesofintenttoappealthisorderanddiscovery hascommenced.

TheCompany's liability, ifany,resulting fromthisproceeding cannotyetbedetermined.

However,theCompanydoesnotbelievethatthisproceeding willhaveamaterialadverseeffectonitsfinancial

position, cashflowsorresultsofoperations.,

HumanResources Pendingbeforefederalandstatecourts,thefederalEqualEmployment Opportunity, Commission andtheNewYorkStateDivisionofHumanRightsarechargesbyseveralindividuals

alleging, inseparateactions,thattheCompariydiscriminated againstthem,orthattheywerethesubjectofharassment, onvariousgrounds.TheCompanyhasestimated thatanycoststotheCompanyresulting fromthesematterswillnothaveamaterialadverseeffectonitsfinancial

position, cashflowsorresultsofoperations.

InMay1995,eightparticipants oftheCompany's Retirement IncomePlan(RIP)'filed.a lawsuitagainsttheCompany,theRIPandRobertX.Kelleher, thePlanAdministrator, intheUnitedStatesDistrictCourtfortheEasternDistrictofNewYorkBecheretal.v.LonIslandLihtinC~l.).tJV1996,ICd*dhUiib"iidaction.Thisproceeding aroseinconnection withtheplaintiffs'ithdrawal, approximately 25yearsago,ofcontributions madetotheRIP,therebyresulting inareduction oftheirpensionbenefits.

Theplaintiffs arenowseeking,amongotherthings,tohavethesereducedbenefitsrestoredtotheirpensionaccounts.

TheCompany's liability, ifany,resulting fromthisproceeding cannotyetbedetermined.

InNovember1997,theCompanyfiledamotionforpartialsummaryjudgmentwiththeDistrictCourt.OnApril28,1998,theCourtdeniedtheCompany's motionandpermitted theCompanytofileafurthermotionforpartialsummaryjudgement onadditional grounds.TheCompanymaintains thattheplaintiff's claimsarewithoutmeritandintendstodefendagainstsaidclaims.OtherMattersIIAdiscussion oflegalproceedings relatedtocompetitive issuesfacingtheCompanyappearsinNote12ofNotestoFinancial Statements.

Item4.NoneSubmission ofMatterstoaVoteofSecurityHolders30 PARTIIItem5.MarketfortheRegistrant's CommonEquityandRelatedStockholder Matters~~~~tMarch31,1998,theCompanyhad78,314registered holdersofrecordofcommonstock.ThecommonstockoftheCompanyistradedontheNewYorkStockExchangeandthePacificStockExchange.

CertainoftheCompany's preferred stockseriesaretradedontheNewYorkStockExchange.

ThehighandlowmarketpricesoftheCompany's commonstockanddividends percommonsharefor1996,1997andthefirstquarterofcalendar1998issetforthonthetablebelow.3MonthsEnded3/31/976/30/97FiscalYearEndedMarch31,19989/30/9712/31/97, 3/31/98MarketpriceofcommonstockHighLowDividends percommonshare24'/,21s/,.44524'/g22,445,26229.44530*'/,24'/s.44531s/s27l5/.445CalendarYearEndedDecember31,19963MonthsEndedMarketpriceofcommonstockHighLowDividends percommonsharc3/31/961815r/g.4456/30/96177/s16i/s.4459/30/96179,6s/z.44512/31/9622'/,17'/,.44531 Item6.SelectedFinaricialfData (inthousands ofdollarsexceptpcrsharoamounts)ForthecarendedMarch31"1998'h{arch311997December31Dcccmbcr31'995December311994RevenuesElectricGasTotalRcvcnucsOperating ExpensesOperations

-fuelandpurchased power'Operations

-otherh{aintcnsncc Dcprcciation andamortization Basefinancial component amortization Ratemoderation coinponent amortization Regulatory liability component amortization 1989Scttlcmcntcreditsamortization Otherregulatory amortization Operating taxesFederalincometax-currentFcdcralincometax-defcircdandotherTotaltintinincomeOtherIncomeand(Deductions)

Ratemoderation component canyingchargesOtherincomoanddeductions, netClassScttlcmcnt Allowance forotherfundsusedduringconstruction

"'ederalincometax-currentFederalincometax-dcfcncdandotherTotalOtherIncomeandductionslcornoeorecrearcsInterestChargesInterestonIong.term debtOtherintcrcstAllowanco forbonowcdfundsusedduiinconstruction TotalIntcrcstChaNetIncomePrcfcnedstockdividendrcuircments" EarnlnsforCommonStockAveraeCommonSharesOutstandin 000,S2,478,435 645,6593124,094957,807*'400,045111,1201$8,S37100>971(3$,079)(79,359)(9,213)47,272466,32686,388150983$5,79876829623,632'.(18,156)(15,623)3,84659441241$83351,26157,8054,593404473362,24051,813S310,427121415S2;464>957 67270$3131,662954,848>>.372,880116,9881$4,921100>971(2,999)(79,359)(9>213)112,294469,S61S2,7371$78732,401,502 736,160'5,27913>921(19,89$)2,88672321468372,10866,8183,70435,219322,40952,113S270,2961206202,466,43$

6842603,150,695 963,251381,076118,13$153,92$100,971(24>232)(79,359)(9,214)127,288472,07642,1911680002,414114736,58125,25919>197(20,772)2,88894027512384,19867,1303699447,629316,46452,216S264,248'120,360$',484,014 5911143075128~834,979383,238128,155145>357100,971ZIP33(79,359)(9,214)161>605447,50714,$961937422,343$1073161825,27434>400(21,669)2,89880043703412,S1263,4613,93847035303,2865620S250666119,195$2,481,637

$8$6703067307847>986406,014134,640130,664100,971191,656(79,359)(9>214)4,328406>89510,784170997362744,94$32,3213$,343(22,730)2,71650695719437,75162,3454284495812301,8$253020$248832115880S2,352,109 528886880995827,S91387,808133,852122,471100>97188,667(79@59)(9,214)(18,044)385,8476,324178$301254447$$$$140,00438>997(23,178)2,47315780874466,S3867,5344210529862296,56356108S24045511057BasicandDilutedEarninserCominonShareS2.56S2.24S2.20S2.10S2.15$2.1$Commonstockdividends declaredpcrshareCommonstockdividends paidpcrshamBookvsluopcrconunonshareatCommonsharesoutstanding at(000)Conuuonsharcowners ofrecordatTotalAssetsLong-Term DebtPreferred Stock-redemption requiredPreferred Stock-noredemption requiredCommonShareowners'quity

$1.78$1.78S21.88121,68178314$11,900,725

$4,381,949

$S62,600SS2,662,447

$1.78$1.78S21.07120,98777691$11,849>574 S4>457,047,

$638,$00S63,598$2,$49>049S1.78$1.78S20.89120,78186,60712,209>67$

4,456,772 638>$0063,6642,523>369

$1.78S',1.78S,20;$0119,65$93088S12,S27,597

$4,706,600 S639>$50S63,934$2,452,953 S1.78S1,78S20.21118,41796,491S12,419,289 S5,145,397 S644,350$63,9$7$2,393,628 S1.76S1,75S19.88112@3294877$12,4$3,771S4,870,340 S649,150$64,038S2,232/SO32 Item7;'anagement's Discussion andAnalysisofFinancial Condition and-ResultsofOperations NtOnApril11,1997,theCompanychangeditsyearendfromDecember31toMarch31.Accordingly, unlessotherwise indicated, references to1998and1997represent thetwelvemonthperiodsendedMarch31,1998andMarch31,1997,respectively, whilereferences toallotherperiodsrefer.totherespective calendaryearsendedDecember31.EffectsofLIPAandKeySpanTransactions onFutureOperations

-,,*Thefutureoperations andfinancial positionoftheCompanywillbesignificantly affectedbyeachoftheproposedtransactions withLIPAandKeySpandescribed below.Thediscussion contained inthismanagement's discussion andanalysisoffinancial condition andresultsofoperations doesnotreflect,unlessotherwise indicated, thepotential effectsofthetransactions withLIPAandKeySpan.ResultsofOperations EarningsEarningsfortheyearsendedMarch31,1998andMarch31,1997wereasfollows:(Inmillionsofdollarsandsharesexceptearningspershare)19981997NetincomePreferred stockdividendruirements

$362.2$322.451.852.1Eaminsforcommonstock$310.4$270.3Averaecommonsharesoutstandin Basicanddilutedeaminsercommonshare121.4120.6$2.56$2.24ortheyearendedMarch31,1998theCompanyhadhigherearningsintheelectricbusinesspartially ffsetbylowerearningsinthegasbusinesscomparedtotheyearendedMarch31,1997.Intheelectric'-business, theincreaseinearningsfortheyearendedMarch31,1998,wasprimarily duetoachangeinthemethodofamortizing theRateModeration Component (RMC)toeliminate theeffectsofseasonality onmonthlyoperating income,asmorefullydiscussed inthesectiontitled"RateModeration Component."

-Thispositivecontributor toearningsmorethanoffsettheeffectsoflowershort-term interestincomeandtheaccrualsforcertainobligations forkeyemployees, asmorefullydiscussed inNote8ofNotestoFinancial Statements.

VThedecreaseinearningsinthegasbusinessfortheyearendedMarch31,1998resultedfromlowershort-terminterestincomeandtheaccruals, notedabove,partially offsetbyloweroperations andmaintenance expenses.

EarningsfortheyearsendedDecember31,1996andDecember31,1995wereasfollows:(Inmillionsofdollarsandsharesexceptearningspershare)NetincomePreferred stockdividendreuirements EaminsforcommonstockAveraecommonsharesoutstandin Basicanddilutedeaminsercommonshare1996$316.552.2$264.3"120.4$2.201995$303.352.6$250.7119.2$,2.1033 TheCompany's 1996earningswerehigherforbothitselectricandgasbusinesses ascomparedto1995.WhiletheCompany's allowedrateofreturnin1996wasthesameas1995,thehigherearningsfortheelectricbusinessweretheresultoftheCompany's increased investment inelectricplantin1996,ascomparedto1995.Alsocontributing totheincreaseinelectricbusinessearningsweretheCompany's continued effortstoreduceoperations andmaintenance expensesandtheefficient useofcashgenerated byoperations toretirematuringdeb't.JTheincreaseinearningsinthegasbusinesswastheresultofadditional revenuesduetothecontinued growthinthenumberofgasspaceheatingcustomers.

Alsocontributing totheincreaseingasbusinessearningswasa3.2%rateincreasewhichbecameeffective December1,1995,andanincreaseinoff-systemgassales.IRevenuesElectricRevenuesThetablebelowprovidesasummaryoftheCompany's electricrevenues, salesandcustomers.

YearsEndedIvlarch31,YearsEnded1)ecember 31,Revenues(000)1998199719961995Residential Commercial andindustrial Othersystemrevenues$1,206,640

$1,199,976

$1,205,133

$1,204,987 1,194,725 1,178,471 1,174,499 1,194,014 47,83250,49950,51352,472TotalsystemrevenuesOtherrevenues2,449,197 29,2382,428,946 36,0112,430,145 36,2902,451,473 32,541TotalRevenues$2,478,435

.,$2,464,957

$2,466,435

$2,484,014 Sales-millionsofkwhResidential Commercial andindustrial OthersystemsalesTotalsystemsalesCustomers

-monthlyaverageResidential Commercial andindustrial 7,1708,37541515,960928,580105,7957,1218,20943715,767922,330104,7037,2038,24244115,886920,930'04,488 7,1568,33646015,952915,162103,669YearsEndedMarch311998and1997"TheCompany's electricrevenu'es fluctuate mainlyasaresultofsystemgrowth,'ariations inweatherandfuelcosts,aselectricbaserateshaveremainedunchanged sinceDecember1993.However,thesevariations, havenoimpactonearningsduetothecurrentelectricratestructure whichincludesarevenuereconciliation mechanism toeliminate theimpactonearningscausedbysalesvolumesthatareaboveorbelowadjudicated levels.TheslightincreaseinrevenuesfortheyearendedMarch31,1998,whencomparedtotheyearendedMarch31,1997,wasprimarily duetohighersystemsalesvolumes-.resulting inpartfromtheadditionofapproximately 8,000newelectriccustomers andhigherfuelexpenserecoveries, partially offsetbylowersalestootherutilities.

YearsEndedDecember311996and1995TheCompanyexperienced agrowthinelectricsystemsalesin1996onaweather-normalized basiscomparedto1995.Thisgrowthisprimarily attributable totheadditionofnewelectriccustomers.

34 Zorafurtherdiscussion onelectricrates,seeNote4ofNotes'toFinancial Statements.

GasRevenuesaThetablebelowprovidesasummaryoftheCompany's gasrevenues, salesandcustomers.

IYearsEncedMarch31,Year>Endedl)eccmber 31,Revenues(000)199819971996'995Residential Commercial andindustrial

$390>990.$396,143$414,749,,

$365,775145,861163,824~,181>356165,257TotalfirmrevenuesInterruptible revenuesTotalsystemrevenuesOtherrevenuesTotalRevenuesSales-thousands ofDthResidential Commercial andindustrial TotalfirmsalesInterruptible salesOfr-system salesTotalSalesCustomers

-monthlyaverageResidential Commercial andindustrial Totalfirmcustomers Interruptible customers Firmtransportation customers 536,85137,565574,41671,243$645,65937,41717,16854,5859,13010,37274>087415>36944,917460,2866883,589559,96742,584602,55170,154$672,70539,28619,34158,6278,39910>03677,062411,73445,684457,418659833596,10537,927634,03250,228$684,26040,85021,05461,9047,8697,45777,230U410,92245,887456,809651349531,03232,837563,86927,245$591,11438,26520,43958,7049,1767,74375,623407,56645,340452,906623YearsEndedMarch311998and1997Despiteanincreaseofapproximately 5,600gasspaceheatingcustomers, gasrevenuesdecreased primarily asaresultoflowersalesvolumesduetowarmerweatherexperienced duringtheyearendedMarch31,1998whencomparedtotheyearendedMarch31,1997.In1998and1997,othergasrevenuestotaled$71millionand$70million,respectively.

Includedinothergasrevenuesisoff-system gassaleswhichtotaled$34millionand$43million,for1998and1997,respectively.

Profitsgenerated fromoff-system gassalesareallocated 85%tofirmgascustomers and15%totheshareowners, inaccordance withPSCmandates..Off-system gassalesdecreased asthedemandfornaturalgasdeclinedasadirectresultofthewarmerweatherexperienced inthisregionduringthisperiod.YearsEndedDecember311996and1995Theincreasein1996gasrevenueswhencomparedto1995isattributable toa3.2%gasrateincreasewhichbecameeffective onDecember1,1995,highersalesvolumes,anincreaseingasfuelexpenserecoveries drivenbyhighersalesvolumes,andrevenuesgenerated throughnon-traditional

services, including off-system gassales.,Therecoveryofgasfuelexpensesin1996whencomparedto1995increased approximately

$31millionasaresultofhigheraveragegaspricesandincreased percustomerusageduetocolderweatherthanexperienced intheprioryear.In1996and1995,othergas35 revenuestotaled$50millionand$27million,respectively.

IncludedinothergasrevenuesisOff-systemgassaleswhichtotaled$37millionand$24millionfor1996and1995,respectively.

Operating ExpensesFuelandPurchased PowerElectricSystemFuelandpurchased p'owerexpensesfortheyearsendedMarch31,1998and1997,andfortheyears'ndedDecember31,1996and1995wereasfollows:(Inmillionsofdollars),

YearsEndedMarch3119981997YearsEndedDecember31 19961998FuelforElectricOperations OilGasNuclearPurchased ower$12319715324$12817015333$15813815329$9814914310Total$659$646$640$571Variations infuelandpurchased powercostshavenoimpactonoperating resultsastheCompany's currentelectricratestructure includesa-mechanism thatprovidesfortherecoveryoffuelcostswhicharegreaterthanthecostscollected inbaserates.Iftheactualfuelcostsarelessthantheamountsincludedinbaserates,thedifference iscreditedtotheRMCbalance.Electricfuelandpurchased powermixfortheyearsendedMarch31,1998and1997,andyearsendedDecember31,1996and1995wereasfollows:Inthousands ofMWhYearsEndedMarch3119981997YearsEndedDecember3119961995MWhMWhMWhMWhOilGasNuclearPurchased ower3,43420%3,27819%,4,219 24%3,09917%621235%546931%454225%634436%15459%1,5539%1,5589%1,301641236%726141%738842%714340%Total17603100%17561100%'7707100%17887100%InMay1997,theCompanycompleted thesecondoftwoplannedconversions ofoil-fired steamgenerating unitsatitsPortJefferson PowerStationtodualfiringunits,bringingthetotalnumberofsteamunitscapableofburningnaturalgastonine.Asaresult,sevenoftheCompany's ninesteamgenerating unitsarecurrently dual-fired, providing theCompanywiththeabilitytoburnthemostcost-efficient fuelavailable, consistent withseasonalenvironmental requirements.

YearsEndedMarch311998and1997Electricfuelcostsincreased asaresultofhighersystemsalesvolumes.During1998,the'price perkWhofpowerpurchased increased over1997.Asaresult,'the Companychangedthemixofgeneration andpurchased powerin1998whencomparedto1997'bygenerating moreelectricity usinggasandoilratherthanpurchasing theequivalent energyfromoff-system.

36 YearsEitdedDecember311996and1995,*Asaresultofasharpincreaseinthecostofnatural'gas'n 1996,generation withoilbecamemoreeconomical thangeneration withgas.Thetotalbarrelsofoilconsumedforelectricoperations'ere 7.1millionand5.2millio'nfortheyears1996and1995;respectively.

IGasSystem'IVariations ingasfuelcosts.havenoimpactonoperating results,astheCompany's currentgasrate,structure includesafueladjustment clausewherebyvariations betweenactualfuel'costs andfuelcostsincludedinbaseratesaredeferredandsubsequently returnedtoorcollected fromcustomers.

Effective February5,1998,inaccordance withtheStipulation, discussed inNote3ofNotestoFinancial Statements, totalgasfuelcostsarerecovered throughthegasfueladjustment clause.YearsEndedMarch311998and1997Gas"systemfuelexpensetotaled$299millio'nand$309million'for theyear'sendedMarch31,"1998and1997,respectively.

Thedecreaseisduetolowerfirmsalesvolumesandloweroff-system gassalesresulting fromwarmerweatherexperienced inthisregion"duringthisperiod.YearsEndedDecember311996and19958FortheyearsendedDecember31,1996and1995,gassystemfuelexpensetotaled$323millionand$264million,respectively.

Theincreaseof$59millionwasduetohigherfirmsales'volumes, anincreaseintheCompany's averagepriceofgasandhigheroff-system'gas sales.'f/Operations andMaintenarice ExpensesYearsEndedMarch311998and1997perations andMaintenance (O&M)expenses, excluding fuelandpur'chased'power, were$511millionand$490million,fortheyearsendedMarch31,1998and1997,respectively.

ThisincreaseinO&Mwasprimarily duetotherecognition ofhigherperformance'-based employeeincentives andcertain,other,chargesforemployeebenefitsrelated,to theKeySpan/LILCO merger.,IIIIIYearsEndedDecember311996and'1995,

'&Mexpenses, exclu'ding fuelandpurchased power,were$499millionand$511million,fortheyearsendedDecember31,1996and1995,respectively..This decreasein0&M'wasprimarily duetotheCompany's costcontainment'program which'resulted inlowerplantmaintenance expenses; lowerdistribution expensesandloweradministrative andgeneralexpenses.

'RateModeration Component TheRateModeration Component (RMC)represents thedifference betweentheCompany's revenuerequirements underconventional ratemaking andtherevenuesprovi'ded oyitselectric'te structure.

'naddition, theRMC:isalsoadjustedfortheoperation of'theCompany's FuelModeration Component" (FMC)mechanism andthedifference betweentheComp'any's shareofactualoperating costsat-'Nine"'ilePointNuclearPowerStation,'Uriit 2(NMP2)andamountsprovidedforinelectricrates.37 InApril1998,thePSCauthorized arevisiontotheCompany's methodforrecording itsmonthlyRMCamortization.

Priortothisrevision, theamortization oftheannuallevelofRMCwasrecordedmonthlyonastraight-line, levelized basisovertheCompany's rateyearwhichrunsfromDecember1toNovember30.However,revenuerequirements fluctuate frommonthtomonthb'asedupontconsumption, whichisgreatlyimpactedbytheeffectsofweather.Underthisrevisedmethod,effective December1,1997,themonthlyamortization oftheannualRMClevelvariesbaseduponeachmonth'sforecasted revenuerequirements, whichmorecloselyalignssuchamortization withtheCompany's costofservice.Asaresultofthischange,forthe'iscal yearendedMarch31,1998,theCompanyrecordedapproximately

$65.1millionmoreofnon-cashRMCcreditstoincome(representing accretion oftheRMCbalance),

or$42.5millionnetoftax,representing

$.35persharemorethanitwouldhaveunderthepreviousmethod.However,thetotalRMCamortization fortherateyearendedNovember30,1998,willbeequaltotheamountthatwouldhavebeenprovidedforunderthepreviousmethod.TheCompanycontinues tobelievethatthefullamortization andrecoveryoftheRMCbalance,whichatMarch31,1998,wasapproximately

$434million,willtakeplacewithinthetimeframeestablished bytheRateModeration Agreement (RMA),inaccordance withtherateplanssubmitted tothePublicServiceCommission oftheStateofNewYork(PSC)forthesinglerateyear1997andthethreeyearrateperiod1997through1999.InDecember1997,theCompanyreceivedPSCapprovaltocontinuetheRMCmechanism andtheLILCORatemaking andPerformance Plan(LRPP)ratemaking mechanisms andincentives fortheelectricrateyearendingNovember30,1997.IntheeventthattheLIPATransaction isnotconsummated, theCompanyexpectsthatthePSCwillissueanorderproviding for,amongotherthings,thecontinuing

recovery, throughrates,oftheRMCbalance,oneoftheShoreham-related regulatory assets.Ifsuchanelectricrateorderisnotobtainedordoesnotprovideforthecontinuing recoveryoftheRMCbalance,theCompanymayberequiredtowrite-off theamountnotexpectedtobeprovidedforinrates.Forafurtherdiscussion oftheLIPATransaction, seeNote2ofNotestoFinancial Statements.

YearsEndedMarch311998and1997FortheyearsendedMarch31,1998andMarch31,1997,theCompanyrecordednon-cashcreditstoincomeofapproximately

$52millionand$30million,respectively, representing theamountbywhichrevenuerequirements exceededrevenuesprovidedforunderthecurrentelectricratestructure.

Partially offsetting theseaccretions weretheeffectsoftheFMCmechanism andthedifferences betweenactualandadjudicated operating costsforNMP2,asdiscussed above.Theadjustments totheaccretion oftheRMCtotaled$17millionand$27million,respectively, ofwhich$12millionand$23.million,respectively, werederivedfromtheoperation oftheFMCmechanism.

YearsEndedDecember311996and1995FortheyearendedDecember31,1996,theCompanyrecordedanon-cashcredittoincomeofapproximately

$50million,representing theamountbywhichrevenuerequirements exceededrevenuesprovidedforunderthecurrentelectricratestructure.

Partially offsetting thisaccretion weretheeffectsoftheFMCmechanism andthedifferences betweenactualandadjudicated operating costsforNMP2.Theadjustments totheaccretion oftheRMCtotaled$26million,ofwhich$24million,'asderivedfromtheoperation oftheFMCmechanism.

38

,FortheyearendedDecember31,1995,theCompanyrecordedanon-cashchargetoincomeofapproximately

$22million,aftergivingeffecttothecreditsgenerated.

principally bytheoperation oftheFMCmechanism.

FMCcreditsfor1995totaledapproximately

$87million.t1Forafurtherdiscussion oftheRMC,seeNote4ofNotestoFinancial Statements.

OtherRegulatory Amortization Thesignificant components ofotherregulatory amortization arethefollowing:

InmillionsodollarsIncomeExenseYearsEndedMarch31YearsEndedDecember31NetMarginLRPPAmortization ExcessEarnings-ElectricExcessEarnings-GasShorehamPostSettlement CostsOther1998$2(3)10317$471997$(5)4221103014$1121996$35910102916$1271995$6453312714$162NetMargin-Anelectricbusinessunitrevenuereconciliation mechanism, established undertheLRPP,whicheliminates theimpactonearningsofexperiencing salesthatareaboveorbelowadjudicated levelsbyproviding afixedannualnetmarginlevel(definedassalesrevenue,netoffuelandgrossreceiptstaxes).Variations inelectricrevenueresulting fromdifferences betweenactualandadjudicated netmarginsaleslevelsaredeferredonamonthlybasisduringtherateyearthroughachargeorcredittootherregulatory amortization.

Thesedeferrals arethenrefundedtoorrecovered tfromratepayers asexplained belowunder"LRPPAmortization."

LRPPAmortization-Asestablished undertheLRPP,deferredbalancesresulting fromthenetmargin,electricpropertytaxexpensereconciliation, earnedperformance incentives, andassociated carryingchargesareaccumulated duringeachrateyear.Thefirst$15millionofthetotaldeferralisrecovered fromorcreditedtoelectricratepayers byincreasing ordecreasing theRMCbalance.Amountsdeferredinexcessof$15million,uponapprovalbythePSC,"arerefundedtoorrecovered fromratepayers throughtheFuelCostAdjustment (FCA)mechanism overasubsequent 12-monthperiod,withtheoffsetbeingrecordedinotherregulatory amortization.

FortherateyearsendedNovember30,1997and1996,thetotalamountdeferredundertheLRPPwas$4.0and$15.0million,respectively.

SuchamountswerecreditedagainsttheRMCbalance.YearsEndedMarch311998and1997FortheyearendedMarch31,1998,therewasnoLRPPamortization, astheCompanyhasnotyetreceivedapprovalfromthePSCtobeginrefunding

$26millionoftheremaining deferredLRPPbalanceinexcessof$15millionfortherateyearendedNovember30,1995.FortheyearendedMarch31,1997,theCompanyrecognized

$42.4millionofnon-cashchargestoincomerepresenting theamortization ofthedeferredLRPPbalancerelatedtotherateyearendedNovember30,1994.39 YearsEndedDecember311996and1995FortheyearendedDecember,3'1, 1996,theCompanyrecognized

$58.7millionofnon-cashchargestoincomerepresenting theamortization ofthedeferredLRPPbalancerelatedtotherateyearendedNovember30,1994.FortheyearendedDecember31,1995,theCompanyrecognized

$52.9millionofnon-cashchargestoincomerepresenting theamortization ofthedeferredLRPP.balance relatedtotherateyearendedNovember30,1993..Forafurtherdiscussion'of theLRPP,see'Note4ofNotestoFinancial Statements.

ExcessEarnings-Alsorecordedinotherregulat'ory amortization, ifapplicable, arenon-cashchargesrepresenting:

(a)100%ofelectricearningsgenerated bytheCompanyinexcessofamountsprovidedforinelectricrates,whichisreturnedtotheelectriccustomer,,through areduction totheRMCbalance;and(b)50%ofthegasearningsgenerated bytheCompanyinexcessofamountsprovident foiingasrates,whichwillbe'returned tothefirmgascustomers.

Effective February5,1998,the'Company,-in accordance'with theStipulation, discussed inNote3ofNotestoFinancial Statements, established agasbalancing accountinordertodeferexcessgasearningsforfuturedisposition.

FortherateyearendedNovember30,1997,theelectricbusinessearned$4.8millioninexcessofitsallowedreturnoncommonequity'and'the firmgascustomers'ortion ofthegasbusinessearningswas$6.3million.tShoreham'Pos't Settlement Cosfs-Represents theamortization of-Shoreham decommissioning costs,=-fueldisposalcosts,payments'-in-lieu-'of-taxes, carryingchargesandothercostsoveraforty-year periodonastraightlineremaining'life basis.1Pll'It,YearsEndedMarch311998and1997pOtherregulatory amortization wasanon-"cash chargetoincome.of$47millionand$112,million forthsendedMarch31,'1998and1997.;respectively.

For,theyearendedMarch31,,1997; theCompanyrecognized a'pproximately

$42millionofchargesrepresenting theamortization ofthedeferredLRPPbalanceassociated withtherateyearended'Noveinber 30;~1994.,

FortheyearendedMarch31,1998,therewasno,LRPPamortizatio'n, as.the;Compariy hasnotyet"receivedapproval.

fromthePSC;tobegin.refunding

$26millionofthe.remaining deferredLRPPbalanceinexcessof$15millionfor.therate'year'ended November30,1995.Alsocontributing tothedecreaseinother,regulatory, amortization.was thetimingoftherecognition ofelectricexcessearningsfortherateyearsen/edNovember30,1997and1996.pYearsEndedDecember311996and1995Otherregulatory amortization wasanon-cashchargetoincomeof$127millionand$162;million.for theyearsendedDecember31,1996and1995,respectively.

Thisdecreaseisprimarily attributable totheoperation ofthenetmargin;discussed above.FortheyearendedDecember31,1995,theamountdeferredrelatedtothenetmarginamountedto$64millioncompare'd to$3:million fortheyearendedDecember31,.1996.V1It'gH40 Dperdting TaxesOperating taxeswere$466millionand$470millionfortheyearsendedMarch31,1998and1,997trespectively.

Thedecreasein1998isprimarily attributable totheexpiration oftheCorporate TaxSurcharge andlowergrossreceiptstaxesrelatedtolowergasrevenues.

FortheyearsendedDecember31,1996and1995,operating taxeswere$472millionand$448million,respectively.

Theincreasein1996comparedto1995isprimarily relatecltohigherpropertytaxesandhighergrossreceiptstaxes,duetoincreased revenues.

FederalIncomeTaxFederalincometaxwas$233millionand$211millionfortheyearsendedMarch311998and1997,respectively.

FortheyearsendedDecember31,1996andDecember31,1995,federalincometaxwas$209millionand$206million,respectively.

Theincreaseinfederalincometaxforbothperiodswasprimarily attributable tohigherpre-taxearningspartially offsetbytheutilization ofinvestment taxcredits.4OtherIncomeandDeductions, NetYearsEndedMarch311998and1997Otherincomeand'deductions wasa$18millionchargetoincome.fortheyearendedMarch.31, 1998,comparedtoa$14millioncredittoincomeforthesameperiodin1997.Thedifference, whichamountstoapproximately

$32million,relatesprimarily toachargeofapproximately

$31millionwithrespecttocertainbenefitsearnedbyitsofficersrecordedin1998.Forafurtherdiscussion ofthismatter,seeNote8ofNotestoFinancial Statements.

tYearsEndedDecember311996and1995Otherincomeanddeductions totaled$19millionfortheyearendedDecember31,1996,comparedto$34millionforthesameperiodin1995.Thedecreasein1996whencomparedto1995isprimarily attributable totherecognition ofnon-recurring expenditures associated withoneoftheCompany's wholly-owned subsidiaries, adecreaseinnon-cashcarryingchargeincomeassociated withregulatory assetsnotcurrently inratebaseandtherecognition in1995ofcertainlitigation proceedsrelatedtotheconstruction oftheShorehamNuclearPowerStation.Interest'Expense

'earsEndedMarch311998and1997InterestexpensefortheyearendedMarch31,1998totaled$409millioncomparedto$439millionfortheyearendedMarch31,1997.Thisdecreaseisprimarily attributable toloweroutstanding debtlevelsastheCompanyretired$250millionofG&RBondsinFebruary1997.YearsEndedDecember311996and1995InterestexpensefortheyearendedDecember31,1996totaled$451millioncomparedto$476millionfortheyearendedDecember31,1995.Thisdecreaseisprimarily attributable toloweroutstanding debtlevels,partially offsetbyhigherletterofcreditandcommitment feesassociated withthechangeintheCompany's creditratin'gin1996.III41 heCompany's heresultof,amongLiquidity andCapitalResources Liquidity FortheyearendedMarch31,1998,cashgenerated fromoperations exceededtoperating, construction anddividendrequirements.

Thispositivecashflowistotherthings:(i)theCompany's continuing effortstocontrolbothO&Mexpensesandconstruction expenditures; (ii)lowerinterestpaymentsresulting fromlowerdebtlevels;and(iii)lowerfuelexpenditures.

AtMarch31,1998,theCompany's cashandcashequivalents amountedtoapproximately

$181million,comparedto$65millionatMarch31,1997.Inaddition, the'Company hasavailable foritsusearevolving lineofcreditthroughOctober1,1998,providedbyits1989Revolving CreditAgreement (1989RCA).ThislineofcreditissecuredbyafirstlienupontheCompany's accountsreceivable andfueloilinventories.

InJuly1997,theCompanyutilized$40millionininterimfinancing undertheRCA,whichwasrepaidinAugust1997.TheCompanywill,inordertosatisfyshort-term cashrequirements, continuetoavailitselfofinterimfinancing throughtheRCA,asnecessary.

Forafurtherdiscussion ofthe1989RCA,seeNote7ofNotestoFinancial Statements.

TheCompanydoesnotintendtoaccessthefinancial marketsduring1998tomeetanyofitsongoingoperating, construction orrefunding requirements.

However,theCompanywillavailitselfofanytax-exemptfinancing madeavailable toitbytheNewYorkStateEnergyResearchandDevelopment Authority (NYSERDA).

TheCompanyusedcashonhandtosatisfytheretirement of$100millionofG&RBondswhichmaturedonApril15,1998.InDecember1997,theCompanyreceived$24.5millioninnetproceedsfromthesaleofElectricFacilities RevenueBonds(EFRBs)issuedbyNYSERDA.Theproceedsfromthisofferingwereused,toreimburse theCompany's treasuryforamountspreviously expendedonelectricnon-nuclear generation projects.

LWithrespecttotherepayment of$454millionofmaturingdebtand$22millionofmaturingpreferred stockin1999andtherepayment of$37millionofmaturing, debtand$363millionofmaturingpreferred stockin2000,shouldtheLIPATransaction notclose,theCompanyintendstousecashgenerated fromoperations tothemaximumextentpracticable.

PursuanttothetermsoftheLIPATransaction, eachissuedandoutstanding shareoftheCompany's preferred stockthatissubjecttooptionalredemption willbecalledforredemption atorbeforeclosingoftheLIPATransaction.

TheLIPATransaction providesforrepayment totheCompany,atclosing,fortheprincipal amountofthepreferred stocktoberedeemed.,

Accordingly, onApril17,1998,theCompanyexercised itsoptionandcalledforredemption onMay]9,1998,alltheoutstanding sharesofitsPreferred StockSeriesB,D,E,F,H,I,L,andNN.Theredemption ofthesePreferred StockSeriesamountedto$122millionwhichincludedapproximately

$5millionofredemption premiums.

TheCompanyusedcashgenerated fromoperations andtheutilization ofinterimfinancing throughits1989RCAtofinancetheredemption.

IntheeventtheLIPATransaction isnotconsummated, theCompanymayelecttoaccessthecapitalmarketsforpermanent financing toreplacethePreferred Stockredeemed.

In1990and1992,theCompanyreceivedRevenueAgents'eports disallowing certaindeductions andcreditsclaimedbytheCompanyonitsfederalincometaxreturnsfortheyears1981through1989.Asettlement resolving allauditissueswasreachedbetweentheCompanyandtheInternalRevenue42 ServiceinMay1998.Thesettlement providedforthepaymentoftaxesandinterestofapproximately

$9millionand$35million,respectively, whichtheCompanymadeinMay1998.InMay1998,theCompanyfundedcertainofitsobligations forpostretirement benefitsotherthanpensionsinordertotakeacurrenttaxdeduction.

TheCompanysecuredabridgeloanof$250milliontofundVoluntary Employee's Beneficiary Association trusts.TheCompanyintends.to repaythisbridgeloanupontheclosingoftheLIPATransaction.

Capitalization TheCompany's capitalization, including currentmaturities oflong-term debtandcurrentredemption requirements ofpreferred stock,atMarch31,1998and1997andDecember31,1996and1995,was$7.8billion,$7.7billion,$7.9billionand$8.3billion,respectively.

AtMarch31,1998and1997andat,December31,1996and1995,theCompany's capitalization ratioswereasfollows:1998March311997December3119961995LongtermdebtPreferred stockCommonshareowners'quity 57.3%9.033.7578%9.133.1593%8.931.861.8%8.629.6IPPP%IPPP%100.0%1PPPInsupportoftheCompany's continuing goaltoreduceitsdebtratio,theCompany,inFebruary1997,retiredatmaturity$250millionofG&RBondswithcashonhandandbyutilizing interimfinancing of$30million,whichwasrepaid.inMarch1997.TheCompanyusedcashonhandtosatisfythe$100~~millionofG&RBondswhichmaturedinApril1998.nvestment RatingTheCompany's securities areratedbyStandardandPoor's(S&P),Moody'sInvestors Service,Inc.(Mo'ody's),

FitchIBCA,Inc.(Fitch)andDuff&PhelpsCreditRatingCo.(D&P).AtMarch31,1998,theratingsforeachoftheCompany's principal securities wereasfollows:S&P,Moody'sFitchD&PG&RBondsDebentures Preferred StockBBBBB+BB+Baa3BalbalBBB-BB+BB-BBBBB+BBMinimumInvestment GradeBBB-Baa3BBB-BBB-Boldfaceindicates securities thatmeetorerceedminimuminvestment gradeDuringMarch1998,following theannouncement thattheCompanyreceivedfavorable taxrulingsfromtheIRSwithrespecttotheLIPATransaction, Moody'sraisedtheratingsoftheCompany's G&RBondstoBaa3fromBal;itsdebentures toBalfromBa3anditspreferred stocktobalfromba3.DuringOctober1997,S&Pannounced thatitraisedtheCompany's G&RBondsratingsonenotchtoBBBfromBBB-.TheupgraderesultedfromS&Pincorporating intoitsratingsofcorporate issuesamorevigorousanalysisofultimaterecoverypotential tosupplement theanalysisofdefaultrisk.The043 incorporation ofultimaterecoveryriskisparticularly important forratingsofelect'ric, gas;and'water"

~utilityseniorsecureddebt.If,in~S&P.'s analytical.

conclusion, fullrecoveryofprincipal canbeanticipated inapost-default

scenario, anissue'sratingmaybeenhancedabovethecorporate creditratingordefaultrating.UUCapitalRequirements andCapitalProvided.~UlCapitalrequirements andcapitalprovided.

fortheyearendedMarch31,1998,thethreemonthsendedMarch31,1997andtheyearendedDecember31,1996,wereasfollows:(InMillionsofDollars)CapitalRequirements Construction

'-'U.YearEnded,March31,1998'$257ThreeMonthsEndedMarch31,1997$50YearEndedDecember31,1996$240Redemptions andDividends Long-term debtPreferred stockPreferred stockdividends Commonstockdividends I,,250.415I5521352'16,54214TotalRedemption andDividends Shorehampost-settlement costs,Investment ininterestratehedgeTotalCapitalRequircmcnts 2704030$59731712,$37968652."$978CapitalProvidedCashfromoperations (Increase)

DecreaseincashbalancesLongtermdebtissuedCommonstockissuedOtherinvesting andfinancing activities TotalCapitalProvided$8927119)$160215'(I),.,$674(116)2518,(4)~(4$597.,~$379$978Excludesnon-cashallowance forotherfitndsusedduringconstruction.

eForfurtherinformation, seetheStatement ofCashFlows.FortheyearendedMarch31,1999,totalcapitalrequirements (excluding'common stock.dividends) areestimated tobe$589million,ofwhichmaturingdebtis$101million,construction requirements are$266million,preferred stockdividends are$45million,redemptions ofpreferred stockare$144'illionandShorehampost-settlement costsare$33million(including

$31millionforpayments-in-lieu-of-taxes).

TheCompanybelievesthat'cashgenerated fromoperations coupledwithcashbalanceswillbesufficient tomeetallcapitalrequirements duringthisperiod.IOtherMattersLongIslandPowerAuthority Transaction Foradiscussion oftheLongIslandPowerAuthority Transaction, seeNote.2ofNotes,toFinancial'tatements, Ul'ti'itIIIil'IKeySpanEnergyCorporation Transaction Foradiscussion oftheKeySpanEnergyCorporatio'n Transaction, seeNote3ofNotestoFinancial Statements..'

ji'i44

'R'ateM'attersForadiscussion ofRateMatters,seeNote4ofNotestoFinancial Statements...

'ICompetitive Environment Foradiscussion ofCompetitive issuesfacingtheCompany,seeNote12ofNotestoFinancial Statements.

IEnvironmental MattersIIGeneralI~rTheCompany's ordinarybusinessoperations necessarily involvematerials andactivities whichsubjecttheCompanytofederal,stateandlocallaws,'rules andregulations dealingwiththeenvironment, including air,waterandlandquality.Theseenvironmental requirements mayentailsignificant expenditures forcapitalimprovements ormodifications andmayexposetheCompanytopotential liabilities which;incertaininstances,'ay beimposedwithoutregardtofaultorforhistorical activities whichwerelawfulatthetimeth'eyoccurred}!'i'I,Lawswhichmayimposesuchpotential liabilities include(butarenotlimitedto)thefederalComprehensive Environmental

Response, Compensation andLiability Act(CERCLA',

commonlyknownasSuperfund),

thefederalResourceConservation andRecoveryAct,thefederalToxic'ubstances ControlAct(TSCA),thefederalCleanWaterAct(CWA),andthefederalCleanAirAct(CAA).'I'apitalexpenditures forenvironmental improvements andrelatedstudiesamountedtoapproximately

$9.2millionfortheyearendedMarch31,1998and,basedonexistinginformation, areexpectedtobe$4.0millionfortheyearendedMarch31,1999.Theexpenditures infiscalyear1998andexpected.spendinginfiscalyear1999includeatotalof$10.6millionforthecompletion ofagas-firing capability projectatNorthport Unit1andPortJefferson Unit4.IIIItisnotpossibletoascertain withcertainty iforwhenthevariousrequiredgovernmental approvals for,whichapplications havebeenmadewIlfbeissued,orwhether,exceptasnotedbelow,additional facilities ormodifications ofexistingorplannedfacilities willberequiredor,generally, whateffectexistingorfuturecontrolsmayhaveuponCompanyoperations.

ExceptassetforthbelowandinItem3-"LegalProceedings,"

nomaterialproceedings havebeencommenced or,totheknowledge oftheCompany,arecontemplated byanyfederal,stateorlocalagencyagainsttheCompany,noristheCompanyadefendant inanymateriallitigation withrespecttoanymatterrelatingtotheprotection oftheenvironment.

Recoverabili oEnvironmental Costs'TheCompanybelievesthatnoneoftheenvironmental matters,discussed below,willhaveamaterialadverseimpactontheCompany's financial

position, cashflowsorresultsofoperations.

Inaddition, theCompanybelievesthatallsignificant costsincurredwithrespecttoenvironmental investigation andremediation activities, notrecoverable frominsurance

carriers, willberecoverable fromitscustomers.

AirIIII'ederal, stateandlocalregulations affecting newandexisting.

electricgenerating, plantsgovernemissions ofsulfurdioxide(SO2),nitrogenoxides(NOx),particulate matter,and,potentially inthefuture,fineparticulate matter(aerosols ofSO2),hazardous airpollutants andcarbondioxide(CO>).45 SulfurDioxideRequirements

~~)~Thelawsgoverning thesulfurcontentofthefuel-oilbeingburnedbytheCompanyincompliance withtheUnitedStatesEnvironmental Protection Agency(EPA)approvedAirQualityStateImplementation Plan(SIP)areadministered bytheNewYorkStateDepartment ofEnvironmental'Conservation

'DEC).The.Companydoesnotexpecttoincuran/'costs tosatisfythe1990amendments tothefederalCAAwithrespecttothereduction ofSO2emissions, astheCompanyalreadyusesnaturalgasandoil"withacceptably lowlevelsofsulfurasboilerfuels.Thesefuelsalsoresultinreducedvulnerability toanyfuturefineparticulate standards implemented intheformofstringent sulfurdioxideemissionlimits.TheCompany's useoflowsulfurfuelshasresulted, andwillcontinuetoresult,inapproximately 70,000.excess SOzallowances peryearthroughtheyear1999.TheCompanypresently appliestheproceedsresulting fromanysalesofexcessS02allowances asareduction.to theRMCbalance."

I4'TheCompanyenteredintoavoluntary Memorandum ofUnderstanding withtheDECwhichprovidesthattheCompanywillnotsellSO2allowances forusein15statesinaneffortto,mitigatethetransport ofacidrainprecursors intoNewYorkStatefromupwindstates.I*NitrogenOxidesRequirements.

DuetotheCompany's pr'oIgram ofcost-'effective emission'reductions, including theoptimization ofnaturalgasfiringabilityatalmostallthesteamelectricgenerating'tations, theCompanyhadthe""'owestNOxemissions rateofalltheutilities inNewYorkStatefortheyearsendedDecember31,1997,1996and1995.SincetheCompany's generating facilities arelocatedwithinaCAAAmendment-designated ozonenon-attainment area,they'resubjec'ttoNOreduction requirements whicharebeingimplemented in'threephases.PhaseIwascompleted in1995;PhaseIIandPhaseIIIwillbecompleted in1999and2003',respectively.

4ITheCompanyiscurrently incompliance withPhaseINOreduction requirements.

Itisestimated that~additional expenditures ofapproximately

$1millionwillberequiredtomeetPhaseIINOreduction requirements.

Subjectto'requirements thatareexpectedtobepromulgated inforthcoming regulations, theCompanyestimates thatitmayberequiredtospendanadditional

$10millionto$34million,excluding theNorthport Unit1'conversion, bytheyear2003tomeetPhaseIIINOreduction requirements.

'Thecompletion oftheprojecttoaddgas-firing capability atNorthport'Unit 1(completed inMay1998ata,total'cost ofapproximately

$8.4'million) willalsofacilitate the'ompany's complian'ce withtheanticipated PhaseIIINoreduction requirements.

Continuous EmissionMonitoring Additional softwareandequipment upgradesforContinuous Emissions Monitorsofapproximately

$2millionmayberequiredthrough1999atallgenerating facilities inordertomeetEPArequirements underdevelopment fortheNO'llowance tracking/trading program.414Hazardous AirPollutants Utilityboilersarepresently exemptfromregulation assourcesofhazardous airpollutants untiltheEPAcompletes astudyoftherisks,ifany,topublichealthreasonably anticipated tooccurasaresultofemissions byelectricgenerating units.TheEPAisexpectedtomakeadetermination concerning theneedforcontrolofhazardous airpollutants fromutilityfacilities in1998.Untilsuchdeterminatio'n IIII46

.is'madebytheEPA,the:.Company cannotfullyascertain what,.ifany,costswill'beincurredforthecontrolofhazardous airpollutants.

l'However,aftertheexpenditure ofapproximately

$1.5millioninfiscal,1998 andtheplannedspending'f$0.5millionthroughMarch,31,:1999, forelectrostatic precipitator upgradesand,withthemaximization ofcleanburningnaturalgasastheprimaryfuel,hazardous'ir pollritant regulations, ifenacted,shouldnotimposeanyadditional controlrequirements fortheCompany's facilities.

CarbonDioxideRequirements, CO2emissions fromthe.Company.'s plantshavebeenreducedbyapproximately 23%since1990,largelythroughgreaterrelianceontheuseofnaturalgasandthroughconservation programs.

ThismakestheCompanylessvulnerable tofutureCO2reduction requirements.

i"ffrtOpacityIssuesv8~4fTheDEChasproposedcommencing enforcement actionsagainst'all New'orkutilities" for=alle'ged opacityexceedences fromsteamelectricgenerating fa'cilities."'Op'acity is'ameasureofthe:relative leveloflightthatis'obscured frompassingthr6ughapowerplantstackemissionplume.An'"exceedence occurswh'entheleveloflightpassingthroughtheplumeisreducedbymorethan20%forsixminutesormore.TheCompanyhasenteredintoanAdministrative ConsentOrder(ACO)withtheDECwhichresolvesallhistorical opacityexceedences, establishes anopacityreduction programtobeundertaken bytheCompany,andsetsastipulated penalty,scheduleforfutureexceedences.

Thenumberofexceedences

'experienced bytheCompanyisrelatively,low',

placingtheCompanyamong'hebestperformers inNew'YorkState."lectromagnetic Fieldslectromagnetic fields(EMF)occurnaturally andalsoareproducedwhereverthereiselectricity.

hesefieldsexistaroundpowerlinesandotherutilityiequipment.

TheCompanyisincompliance withallapplicable regulatory standards and..requirements concerning EMF.TheCompanyalsomonitorsscientific developments igthestudyofEMF,hascontributed tofundingforresearchefforts,andisactivelyinvolvedincustomerandemployeeoutreachprogramstoinformthecommunity of.EMFdevelopments astheyoccur.Althoughanextensive bodyofscientific literature hasnotshownanunsafeexposureleveloracausalrelationship betweenEMFexposureandadversehealtheffects,concern'over thepotential foradversehealtheffectswilllikelycontinuewithoutfinalresolution for'ometime.Todate,fourresidential propertyownershaveinitiated separatelawsuitsagainsttheCompan'yallegingthattheexistence ofEMFhasdiminished thevalue'oftheirhomes,Theseactionsareinthepreliminary stagesofdiscovery andare'similar toactionsbroughtagainstanotherNewYorkStateutility,whichweredismissed bytheNew'YorkStateCourtofAppeals.TheCompanyisnot"'nvolved inanyactivelitigation thatallegesacausalrelationship betw'eenexposuretoEMFandadveisehealtheffects.'INtWaterUnderthefederalCWAandtheNewYorkStateEnvironmental Conservation Law,theCompanyisrequiredtoobtainaStatePollutant Discharge Elimination Systempermittomakeanydischarge intothewatersoftheUnitedStatesorNewYorkState.TheDEChasthejurisdiction toissuethesepermitsandtheirrenewalsandhasissuedpermitsfortheCompany's generating units:Thepermitsallowthecontinued useofthecirculating

'watersystemswhichhavebeendetermined tobeincompliance with47 statewaterqualitystandards.

Thepermitsalsoallowforthecontinued useofthechemicaltreatment"

~systemsandforthecontinued discharge ofwaterinaccordance withapplicable permitlimits.Infiscalyear1998,th'eCompanyspentapproximately

$300,000toupgradeitswastewatertreatment facilities andforothermeasuresdesignedtoprotectsurfaceandgroundwaterqualityand.expects tospendanadditional

$100,000intheyears1998-2000.

rrrkILongIslandSoundTransmission CablesDuring1996,theConnecticut Department ofEnvironmental Protection (DEP)issuedamodification toanAdministrative ConsentOrder(ACO)previously issuedinconnection withaninvestigation ofanelectrictransmission cablesystemlocatedundertheLongIslandSound(SoundCable)thatisjointlyownedbytheCompanyandtheConnecticut LightandPowerCompany(Owners).

ThemodifiedACOrequirestheOwnerstosubmittotheDEPandDECaseriesofreportsandstudiesdescribing cablesystemcondition, operation andrepairpractices, alternatives forcableimprovements orreplacement andenvironmental impactsassociated withleaksoffluidintotheLongIsland.Soundwhichhaveoccurredfromtime,totime.TheCompanycontinues tocompilerequiredinformation andcoordinate theactivities, necessary toperformthesestudiesand,atthepresenttime,isunabletodetermine thecostsitwillincurtocompletetherequirements ofthemodifiedACOortocomplywithanyadditional requirements.

'ITheOwnershavealsoenteredintoanACOwiththeDECasaresultofleaksofdielectric fluidfromtheSoundCable.TheACOformalizes theDEC'sauthority, toparticipate inandseparately approvethereport'sandstudiesbeingpreparedpursuanttotheACOissuedbytheDEP.Inaddition, theACOsettlesanyDECclaimfornaturalresourcedamagesinconnection withhistorical releasesofdielectric fluidfromtheSoundCable.InOctober1995,theU.S.AttorneyfortheDistrictofConnecticut hadcommenced aninvestigation regarding occasional releasesoffluidfromtheSoundCable,aswellasassociated operating andmaintenance practices.

TheOwnershaveprovidedtheU.S.Attorneywithallrequested documentation.

TheCompanybelievesthatallactivities associated Kiththeresponsetooccasional releasesfromtheSoundCablewereconsistent withle'galandregulatory requirements.

rrInDecember1996,abarge,ownedandoperatedbyathirdparty,droppedanchorwhichthendraggedoveranddamagedtheSoundCable,resulting inthereleaseofdielectric fluidinto.LongIslandSound.Temporary clampsandleakabaterswereinstalled onthecablestostoptheleaks.Permanent repairswerecompleted inJune1997.ThecosttorepairtheSoundCablewasapproximately

$17.8million,forwhichtherewas$15millionofinsurance, coverage.

TheOwnersfiledaclaimandanswerinresponsetothemaritimelimitation proceeding instituted bythebargeownerintheUnitedStatesDistrictCou~rEasternDistrictofNewYork.Theclaimseeksrecoveryoftheamountspaidbyinsurance carriersandrecoveryofthecostsincurredforwhichtherewasnoinsurance coverage.

AnycoststorepairtheSoundCablewhicharenotreimbursed byathirdpartyorcoveredbyinsurance willbesharedequallybytheOwners.LandrSuperfund imposesjointandseveralliability, regardless offault,upongenerators ofhazardous substances foicostsassociated withenvironmental, cleanupactivities.

Superfund alsoimposesliability forremediation ofpollution causedbyhistorical actswhichwerelawfulatthetimetheyoccurred.

48

.Inthe'courseoftheCompany's ordinarybusinessoperations, the'Company isinvolvedinthehandlingofmaterials thataredeemedtobehazardous substances underSuperfund.

These-materials includeasbestos, metals,certainflammable andorganiccompounds anddielectric fluidscontaining polychlorinated biphenyls (PCBs).Otherhazardous substances maybehandledintheCompa'ny's

'~operations ormay,bepresentatCompanylocations asaresultofhistorical practices bytheCompanyoritspredecessors ininterest.

TheCompanyhas,received noticeconcerning possibleclaimsunder;~'uperfund oranalogous statelawsrelatingtoanumber,ofsitesatwhichjtisallegedthathazardous substances generated, bytheCompanyandotherpotentially.

responsible parties(PRPs).were deposited:

Adiscussion ofthesesitesissetforthbelow.Estimates oftheCompany,'s allocated share'ofcostsforinvestigative, removalandremedialactiyIties atthesesites~range Porn,preliminary torefinedandareupdatedasnewinformation becomesavailable.

InDecember1996,theCompanyfiledacomplaint intheUnitedStatesDistrictCourtfor,theSouthernDistrictofNewYorkagainst14oftheCompany's insurers,which issuedgeneralcomprehensive,.

liability (GCL)policiestotheCompany.InJanuary1998,.the Companycommenced asimilar,action againstthesameandcertainadditional insurerdefendants inNewYorkStateSupremeCourt,FirstDepartment; thefederalcourtactionwassubsequently dismissed inMarch1998.TheCompanyis;..seekingrecoveryundertheGCLpoliciesforthecostsincurredtodateandfuture,costsassociated withtheclean-upoftheCompany's formermanufactured gasplant(MGP)sitesandSuperfund sitesforwhichtheCompany,has beennamedaPRP.TheCompanyisseekingadeclaratory judgment'that thedefendant insurersare boundbythetermsoftheGCLpolicies, subjecttothestatedcove'r'age'limits, toreimburse theCompanyforthe.'clean upcosts.,Theoutcomeofthisproceeding cannotyetbe..,,'etermined.

S~ZSVMetalBankTheEPAhasnotifiedtheCompanythatitisoneofmanyPRPsthatmaybeliablefortheremediation ofalicenseddisposalsitelocatedinPhiladelphia, Pennsylvania, andoperatedbyMetalBankofAmerica.TheCompanyandnineotherPRPs,allofwhicharepublicutilities, completed performan'ce ofaRemedialInvestigation andFeasibility Study(Rl/FS),whichwasconducted under'anAGOwith'theEPA.InDecember1997,theEPAissueditsRecordofDecision(ROD),settingforththe:.final

~'remedialactionselectedforthesite.IntheROD,theEPAestimated thatthepresent'cost ofthe-selectedremedyfor'the'site is$17.3million.Atthistime,theCompanycan'notpredictwith'reasonable certainty theactualcostoftheselectedr'emedy,whowillimplement theremedy,'r thecost;ifany",totheCompany.UnderaPRPparticipatiori agreement,"'the Companypreviously wasresponsible'for

"'.2%ofthecostsassociated withtheRI/FS--TlieCompany's'allocable shareofliability fortheremediation activities hasnotyetbeendetermined.

IITheCompanyhasrecordedaliability ofapproximately

$]millionrepresenting itsestimated shareoftheadditional costtoremediate thissitebaseduponits8.2%responsibility undertheRI/FS.wSyossetTheCompanyandnineotherPRPshavebeennamedin'alawsuitwheretheTownof,OysterBay(Town)isseekingindemnification forremediation andinvestigation coststhathavebeen,orwillbe'49 incurredforafederalSuperfund siteinSyosset,NewYork.Forafurtherdiscussion onthismatter,see.Item3,LegalProceedings

-Environmental.

PCBTreatment, Inc.TheCompanyhasalsobeennamedaPRPfordisposalsitesinKansasCity,Kansas,andKansasCity,Missouri.

Thetwo"siteswereusedbyacompanynamedPCBTreatment, Inc.from1982until1987forthestorage,processing, andtr'eatment ofelectricequipment, dielectric oilsandmaterials containing PCBs.According totheEPA,thebuildings andcertainsoilareasoutsidethebuildings are'ontaminated withPCBs.CertainofthePRPs,including theCompanyandseveralotherutilities, formedaPRPgroup,signedanACO,andhavedeveloped aworkplanforinvestigating environmental conditions atthesites'.Documentation connecting theCompanytothesitesindicates thattheCompanywasresponsible forlessthan1%ofthematerials thatwereshippedtotheMissourisite.TheEPAhasnotyetcompleted "compiling thedocuments fortheKansassite.'JHOsageTheEPAhasnotifiedtheCompa'nythatitisaPRPattheOsageMetalsSite,aformer'scrap metalrecycling facilitylocatedinKansasCity,Kans'as.UnderSection107(a)ofCERCLA,partieswhoarrangedfordisposalofhazardous substances are'liable forcostsincurredbytheEPAinresponding toa'release orthreatofreleaseofthehazardous'ubstances.

Osagehad"purchased capacitor'scrap metalfromPCBTreatment, Inc.Throughthearrangements thattheCompanymadewithPCBTreatment, Inc.todisposeofcapacitors, theCompanyisallegedtohavearrangedfordisposalwithinthemeaningofthefederalSuperfund law.Asimilarletterwassentto861partieswhosentcapacitors toPCBTreatment, Inc.TheEPAisseekingtorecoverapproximately

$1.1milliondollarsitexpendedto'onduct aremovalactionatthesite.TheCompanyiscurrently unabletodetermine itsshareofthe,$1~1millionexpenditure.

PortRefineryTheCompanyhasbeennotifiedthatitisaPRPatthePortRefinerySuperfund sitelocatedinWestchester County,NewYork:,Port Refinerywasengagedinthebusinessofpurchasing, selling,refiningandprocessing mercuryandtheCompanymayhaveshippedasmallamountofwasteproductscontaining mercurytothissite.Testsconducted bytheEPAindicated thatthesiteandcertainadjacentproperties werecontaminated withmercury.Asaresult,theEPAhasperformed aresponseactionatthesiteandseekstorecoveritscosts,currently totalingapproximately

$4.4million,plusinterest, fromthePRPs.TheCompanydoesnotbelieveitsportionofthesecosts,ifany,willbematerial.

Port8'ashington In1989,theEPAnotifiedtheCompanythatitwasaPRPfor'alandfillinPortWashington, NewYork.TheCompanydoesnotbelievethatitsentanymaterials tothesitethatcontributed tothecontamination whichrequiresremediation andhastherefore declinedtheEPA'srequeststoparticipate infundingtheinvestigation andremediation activities attheproperty.

TheCompanyhasnotreceivedfurthercommunications regarding thissite.50 Liberty'he EPAhasnotifiedtheCompany'hat itisaPRPinaSuperfund sitelocatedinFarmingdale, NewtYork.Industrial'operations tookplaceatthissiteforatleastfiftyyears.ThePRPgrouphas'claimedthattheCompanyshouldabsorbremediation expensesintheamountofapproximately

$100,000associated withremovingPCB-contaminated soilsfromaportionofthesitewhichformerlycontained electrictransformers.

TheCompanyiscurrently unabletodetermine itsshareofcostsofremediation atthissite.t&Huntington/East 1Vorthport, TheDEChasnotifiedtheCompany,pursuanttotheStateSupeifund program,thatitsrecordsindicatetheCompanymayberesponsible forthedisposalofwasteatthismunicipal landfillproperty.

TheCompanyconducted asearchofitscorporate recordsanddidnotlocateanydocuments concerning wastedisposalpractices associated withthislandfill.

TheCompanyiscurrently unabletodetermine itsshare,ifany,ofthecoststoinvestigate andremediate thissite.BlydenburghTheNewYorkStateOfficeoftheAttorneyGeneralhasnotifiedtheCompanythatitmayberesponsible forthedisposalofwastesand/orforthegeneration ofhazardous substances whichmay,havebeendisposedofattheBlydenburgh Superfund site,amunicipal sanitarylandfilllocatedintheTownofIslip,SuffolkCounty.TheStatehasincurredapproximately

$15millionincostsfortheinvestigation andremediation ofenvironmental conditions atthelandfill.

Inconnection withthisnotification, theCompanyconducted areviewofitscorporate recordsanddidnotlocateanydocuments concerning wastedisposalpractices associated withthislandfill.

TheCompanyiscurrently unabletodetermine its-share, ifany,ofthecoststoinvestigate andremediate thissite.therSites4anufactured GasPlantSitesTheDEChasrequiredtheCompanyandotherNewYorkStateutilities toinvestigate and,wherenecessary, remediate theirformerMGPsites.Currently, theCompanyistheownerofsixpiecesofpropertyonwhichtheCompanyorcertainofitspredecessor companies producedmanufactured gas.Operations atthesefacilities inthelate1800'sandearly1900'smayhaveresultedinthedisposalofcertainwasteproductslocatedatthesesites.TheCompanyhasenteredintodiscussions withtheDECwhichisexpectedtoleadtotheissuanceofoneormoreACOsregarding themanagement ofenvironmental activities atthesesixproperties.

Althoughtheexactamount'of theCompany's cleanupcostscannotyetbe,determined, basedonthefindingsofpreliminary investigations conducted ateachofthesesixsites,currentestimates indicatethatitmaycostapproximately

$54to$92milliontoinvestigate andremediate allofthesesites.Considering therange,ofpossiblereinediation estimates, theCompanyfeltitappropriate torecorda$54millionliability reflecting thepresentvalueofthefuturestreamofpaymentsamounting to$70milliontoinvestigate andremediate thesesites.TheCompanyused,arisk-free rateof6.0%todiscountthisobligation.

TheCompanybelievesthatthePSCwillprovideforfuturerecoveryofthesecostsandhasrecordeda$54millionregulatory asset.TheCompany's ratesettlement whichthePSCapprovedFebruary4,1998asdiscussed inNote3ofNotestoFinancial Statements, allowsfortherecoveryofMGPexpenditures fromgascustomers.

51 TheCompanyisalsoevaluating itsresponsibilities withrespecttoseveralotherformerMGPsites,that,existedinitsterritory whichit,doesnotpresently own.Researchisunderwaytodetermine theexistence andnatureofoperations andrelationship, ifany,totheCompanyoritspredecessor companies.

NorthHillsLeakTheCompanyhasundertaken remediation ofcertainsoillocations inNorthHills,NewYorkthatwereimpactedbyareleaseofinsulating fluidfromanelectrical cableinAugust1994.TheCompanyestimates thatanyadditional cleanupcostswillnotexceed$0.5million.TheCompanyhas,initiated costrecoveryactionsagainstthethirdpartiesit,believespreresponsible forcausingthe,cableleak,theoutcome,ofwhichareuncertain.

4StorageFacilities, "Asaresultofpetroleum leaksfromundergro'und storagefacilities andotherhistorical occurrences, the"Companyisrequiredtoinvestigate and,incertaincases,remediate affectedsoilandgroundwater conditions atseveralfacilities withinitsserviceterritory.

Theaggregate costsofsuchreme'diation workcouldbebetween$3millionand$5'million.

Totheextent-that thesecostsarenotrecoverable throughinsurance

carriers, the'Company believessuchcostswillberecoverable fromitscustomers.

IINuclearWastedNLowLevelRadioactive'Waste ThefederalLow-Level Radioactive WastePolicyAmendment Actof1985;requiresstatestoarrangeforthedisposal, ofalllowlevelradioactive, wastegenerated withinthestateor,inthe,alternative, tocontractfortheirdisposalatanoperating facilityoutsidethestate.Asaresult,NewYorkStatehasstateditsintentions ofdeveloping anin-statedisposalfacilityduetothelargevolumeoflowlevelradioactive wastegenerated withinthestateandhascommitted todevelopaplanforthemanagement ofsuchwasteduringthe,interimperioduntiladisposalfacilityisavailable.

NewYorkStateisstilldeveloping adisposalmethodology andacceptance criteriafora~disposalfacility.

ThelatestNewYorkStatelowlevelradioactive wastesitedevelopment schedulenowassumestwopossiblesitingscenarios, avolunteer approachandanon-volunteer

approach, eitherofwhichwouldnotbeginoperation untilatleast2001..Low levelradioactive waste~generated atNMP2iscurrently beingdisposedofattheBarnwell, SouthCarolinawastedisposalfacilitywhichreopenedinJuly1995toout-of-state lowlevelwastegenerators.

Intheeventthatoff-sitestoragebecomesunavailable.

priorto2001,NMPChasimplemented alow"levelradioactive wastemanagement programthat';will properlyhandleinterimon-site.,

storageoflowlevelradioactive wasteforNMP2foratleastten.years."

TheCompany's shareofthecosts,associated withtemporary storageandultimatedisposal.

arecurrently recovered inrates.I'lSpentNuclearFuelNMPC,on'behalf oftheNMP2cotenants, has'enteredintoacontractwiththeDOEforthepermanent storageofNMP2spentnuclearfuel.TheCompanyreimburses NMPCforits18%shareofthecostunderthecontractatarate'of$1.'00permegawatthour'o'fnet'generation lessafactortoaccountfortransmission linelosses.TheCompanyiscollecting itsportionofthisfeefromitselectriccustomers.

Itisanticipated thattheDOEfacilitymaynotbeavailable forpermanent 52

.storageuntilatleast2010.Currently, allspentnuclearfuelfromNMP2isstoredattheNMPCsite,andexistingfacilities are,sufficient tohandleallspentnuclearfuelgenerated atNMP2throughtheyear2012.tForinformation concerning environmental litigation, seeItem3"LegalProceedings" undertheheadingEnvironmental.

ImpactofYear2000SomeoftheCompany's oldercomputerprogramswerewrittenusingtwodigitsratherthanfourtodefinetheapplicable, year.Asaresult,thosecomputerprogramshavetime-sensitive softwarethatrecognizes adateusing"00"astheyear1900ratherthantheyear2000.Thiscouldcauseasystemfailureormiscalculations causingdisruptions ofoperations, including, amongotherthings,atemporary inability toprocesstransactions, orengageinnormalbusinessactivities.

TheCompanyembarkedonaprogramin1996tocompleteYear2000compliance byDecember31,1998.Acorporate-wide programhasbeenestablished toreviewallsoftware, h'ardware and"associated compliance plans.Thereadiness ofsuppliers an'dvendorsystemsisalsounderreview.Contingency andbusinesscontinuation plansarebeingprepared"andwillbereviewedper'iodically.

TheCompanyexpectstospendapproximately

$10milliontoaddressthe'ear2000issueoverathree-yearperiod(1997-1999) consisting of$7milliontotestandmodifyapplication'systems and$3milliontotestandmodifynori-information technology systems,Allcostswillbeexpensedasincurred.

AsofMarch31,1998,$4.53millionhasbeenexpendedininvestigating andmodifying software.

Thiseffortisscheduled tobecompleted in1998andtestingwillcontinueintoearly1999.TheCompanybelievesthat,withmodifications toexistingsoftwareandconversions tonewsoftware, theYear2000Issuewillriotposesignificant operational problemsforitscomputersystems.However,ifsuchmodifications andconversions arenotmade,orarenotcompleted'on time,theYear2000Issuecouldhaveamaterialadverseimpactontheoperations oftheCompany.ThecostsoftheprojectandthedateonwhichtheCompanybelievesitwillcompletetheYear2000modifications arebasedonmanagement's bestestimates, whichwerederivedutilizing numerousassumptions offutureevents,including thecontinued availability ofcertainresources andotherfactors.However,actualresultscoulddiffermaterially fromthoseanticipated.

Specificfactorsthatmightcausesuchmaterialdifferences include,butarenotlimitedto,theavailability andcostofpersonnel trainedinthisarea,theabilitytolocateandcorrectallrelevantcomputercodesandsimilaruncertainties.

JRecentAccounting Pronouncements Comprehensive IncomeInJune1997,theFinancial Accounting Standards Board(FASB)issuedStatement ofFinancial'ccountirig Standards (SFAS)No.130.SFASNo.130establishes standards forreporting comprehensive income.Comprehensive incomeisthechange'in theequityofacompany,notincluding thosechangesthatresultfromshareholder tran'sactions.

'Allcomponents ofcomprehensive incomearerequiredtobereportedinanewfinancial statement thatisdisplayed withequal"53 prominence asexistingfinancial statements.

TheCompanywill'berequiredtoadoptSFASNo.130fortheyearendingMarch31,1999.TheCompanydoesnotexpectthattheadoptionofSFASNo.130willhaveasignificant impactonitsreporting anddisclosure requirements.

.~SegmentDisclosures AlsoinJune1997,FASBissuedSFASNo.131.SFASNo.131establishes standards foradditional disclosure aboutoperating segmentsforinterimandannualfinancial statements.

Morespecifically, itrequiresfinancial information tobedisclosed forsegmentswhoseoperating resultsarereviewedbythechiefdecisionmakerfordecisions onresourceallocation.

Italsorequiresrelateddisclosures aboutproductsandservices, geographic areas'and majorcustomers.

TheCompanywillberequiredtoadoptSFASNo.131fortheyearendingMarch31,1999.TheCompanydoesnotexpectthattheadoptionofSFASNo.131willhaveasignificant impactonitsreporting anddisclosure requirements.

Conservation ServicesTheCompany's 1997DemandSideManagement (DSM)Planfocusedonthe.pursuitofenergyefficiency andpeakloadreduction inawaythathadminimalimpacton,electricrateincreases.

Toassurethesuccessofthisstrategy,

>heCompanyimplemented abalancedandcost-effective mixofDSMprogramsthatcontinued torepresent alimitedrelianceonbroad-based rebatesandaconcentrated emphasisonprogramsthatprovidededucation andinformation, targetedbusinessdevelopment, providedfinancing forenergyefficiency, inducedmarkettransformation andimprovedtheefficiency ofLILCOfacilities.

TheCompanywassuccessful inmeetingthePSCEnergyPenaltyThreshold byobtaining energysavingsofapproximately 24.4GWhatacostlessthanthatprovidedforinelectricrates.In1998,theCompanyplanstocontinuetofollowtheaforementioned strategywhileintroducing severalnewinitiatives.

Theseincludeaprogramtargetedatincreasing theenergyefficiency ofresidences oflowincomecustomers, theintroduction ofapeakloadcurtailment programconstructed tohelptheCompanymeetitspeaksupplysiderequirements andanincreased emphasisonprogramsthatinducemarkettransformation.

Overall,the1998Plantargetsanannualized energysavingsof18.6GWhatabudgetof$10.7million.NCautionary Statement Regarding Forward-Looking Statements Thisreportcontainsstatements which,totheextenttheyarenotrecitations ofhistorical fact,constitute "forward-looking statements" withinthemeaningoftheSecurities Litigation ReformActof1995(ReformAct).Inthisrespect,thewords"estimate,"

"project,"

"anticipate,"

"expect,"

"intend,"

"believe" andsimilarexpressions areintendedtoidentifyforward-looking statements.

Allsuchforward-looking statements areintendedtobesubjecttothesafeharborprotection providedbytheReformAct.Anumberofimportant factorsaffecting theCompany's businessandfinancial resultscouldcauseactualresultstodiffermaterially fromthosestatedintheforward-looking statements.

Thosefactorsincludetheproposedtransactions withTheKeySpanEnergyCorporation andLIPAas,discussed undertheheading"KeySpanEnergyCorporation Transaction" and"LongIslandPowerAuthority Transaction" stateandfederalregulatory rateproceedings, competition, andcertainenvironmental matterseachasdiscussed herein,intheJointProxyStatement/Prospectus filedJune30,1997,orinotherreportsfiledbytheCompanywiththeSecurities andExchangeCommission.

54 FINANCIAL STATEMENTS BalanceSheet'etsattInthousands ofdollars)March31,1998 March31,1997 December31,1996 tilityPlantElectricGasCommonConstruction workinprogressNuclearfuelinrocessandinreactorLess-Accumulated dcreciation andamortization TotalNetUtiliPlantRegulatory AssetsBasefinancial component (lessaccumulated amortization of$883,496,$782,525and$757,282)Ratemoderation component Shoreham'post-settlement costsShorehamnuclearfuelUnamortized costofissuingsecurities Postretirement benefitsotherthanpensionsRegulatoiy taxassetOtherTotalRelatoAssetsnutilitProcrtand"OthcrInvcstmcnts rentAssetsshandcashequivalents SpecialdepositsCustomeraccountsreceivable (lessallowance fordoubtfulaccountsof$23,483,$23,675and$25,000)Otheraccountsreceivable AccruedunbilledrevenuesrMaterials andsuppliesataveragecostFueloilataveragecostGasinstorageataveragecostDefcrrcdtaxasset-netoperating lossPreamentsandothercurrentassetsTotalCurrentAssetsDeferredCharesTofalAssetsSee)VotestoFinancial Statements.

4,031,510

$1,233,281 290,221118,80818,1195,691,939 1,877;858 3,814,081 3,155,334 434,0041,005,316 66,455159,941340,1091,737,932 192,7637,091,854 50,816180,91995,790297,88943,744124,46454,88332,14214,63413,807858,27285,70211,900,725

$3,900,264

$1,'171,183 263,267108,850-'5,5035,459,067 1,759,110 3,699,957 3,256,305 409,512'96,27068,581187,309357,6681,767,164 200,1377,242,946 1887064,53937,631305,43642,946141,38955,45449,70310,89393,3498,805810,14577,65611,849,574

$3,882,297 1,154,543 260,268112,18415,4545,424,746 1,729,576 3,695,170 3,281,548 402,213991,79569,113194,151360,8421,772,778 199,8797,272,319 18597279,99338,266'r255,80165,764'69,71255,78953,'94173,562145,2058,5691,146,602 76,99112,209,679 55 Caitaltzation andLiabilities atMarch31,1998Pnthousands odollars)March31,1997December31,199Capitalization Long-term debtUnamortized discountondebtPreferred stock-redemption requiredFPrcfencdstock-noredemtionuiredTotalPreferred StockCommonstockPremiumoncapitalstockCapitalstockexpenseRetainedearningsTrcasustock,atcostTotalCommonShareoivners'i TotalCaitalization Regulatory Liabilities Regulatory liability component 1989Settlement creditsRegulatory taxliability OtherT1RItLiabilities CurrentLiabilities Currentmaturities oflong-term debtCurrentredemption requirements ofpreferred stockAccountspayableandaccruedexpensesLRPPpayableAccruedtaxes(including federalincometaxof$28,308,$49,262and$25,884)AccruedinterestDividends payableifClassSettlement CustomerdesitsTotalCurrentLiabilities DeferredCreditsDeferredfederalincometax-netClassSettlement OtherTotalDeferredCreditsOperating ReservesPensionsandotherpostretirement benefitsClaimsanddamacsTotal0ratinReservesCommitments andContinenciesTotalCaitalization andLiabilities SeeNotestoFinancial Statements.

4,395,555 (13,606)4,381,949 562,600562,600608,6351,146,425 (47,501)956,092(1,204)2,662,447 7,606,996 99,19959,39778,913151,922389,431101,000139,374228,58330,11834,753146,60758,74860,00028,627827,8102,539,364 46,94022,5292,608,833 401,40166,254467,655$'1,900,725 564,471,675

$(14,628)4,457,047 638,50063,598702,098605,0221,131,576 (48,915)861,751(385)2,549,049 7,708,194 178,558125,138100,377158,660562,7331,0001,050230,18940,49951,157143,98358,47458,33329,173613,8582,420,443 89,48720,8892,530,819 387,04846,922433,97011,849,574

$4,471,675 14,903)4,456,772 638,50063,664702,164603,9211,127,971 (49,330)840,867(60)2,523,369 7,682,305 198,398127,442102,887139,510568,237251,001,050289,14140,49963,640160,61558,37855,83329,471949,6272,442,606 98,49739,4472,580,550 381,99646,964428,96012,209, Statement ofincome(inthousands ofdollarscxtYearEndedMarch31,1998,TheeMonthsEndedMarch31,1997YearEndedDecember31,1996YearEndedDecember31,1995RevenuesElcctncGasTotalRcvcnues$2,478,435 645,6593,124,094 557,791$2,466,435

$2,484,014 293,391684,260591,114851,1823,150,695 3,075,128 Operating ExpensesOperations

-fuelandpurchased powerOperations

-otherMaintcnancc Depreciation andamortization BaseIinancial component amortization Ratemoderation component amortization Rcgu!atoty liability component amortization 1989Settlemcnt creditsamortization Otherregulatory amortization Operating taxesFcdcralincometax-currentFederalincometax-deferredandotherTotalratinExnscs0ratinIncomeOtherIncomeand(Deductions)

Ratemoderation component carryingchargesOtherincomeanddeductions, nctClassScttlcment forotherfundsusedduringconstruction Fmctax-currentFetncometax-deferred an'dotherTotalOtherIncomeandDeductions IncomeBcforcInterestCharcsInterestChargesInterest'on long-term debtOtherintcrcstAllowance forborrowedfundsuseddurinconstruction TotalInterestChaesNetIncomePreferred stockdividendruircments EarninforCommonStockAvcraeCommonSharesOutstandin 000BasicandDilutedEarninerCommonShareDividends DeclaredcrCommonSharcSee"¹lesroFinanctal Slarensenrs.

957,807400,045,111,120158,537100,971(35,079)(79,359)(9,213)47,272466,32686,388150,9832,355,798 768,29623,632(18,156)(15,623)3,8465944,1241,583766,713351,26157,8054,593404,473362,24051,813310,427121,4152.561.78301,86795,67329,34038,56125,2435,907(19,840)(2,303)12,218117,51323,37833,624661,181190,0015,919645(4,496)7177893,574193,57590,16816,659949105,87887,69712,96974,728$120,9950.62$0.45$963,251381,076118,135153,925100,971(24,232)(79,359)(9,214)127p288472,07642,197168,0002,414,114 736,58125,25919,197(20,772)2,888"'94027,512764,0933&4,19867,1303,699447,629316,46452,216264248$120,3602.20$1.78$834,979383,238128,155145,357100,97121,933(79,359)(9,214)161,605447,50714,596193,7422,343,510 731,61825,27434,400(21,669)2,8982,80043,703775,321412,51263,4613938472,035303,28652,620250,666119,1952.101.7857 Statement ofCashFlowsOperating Activities NetIncomeAdjustmcnts toreconcile netincometonetcashprovidedbyoperating, activities Provision fordoubtfulaccountsDepreciation andamortization Basefinancial component amortization Ratemoderation component amorhzation Regulatory liability component amortization 1989Settlement creditsamortization Otherregulatory amortization Ratemoderation component carryingchargesClassSettlement Amortization ofcostofissuingandredeeming securities Federalincometax-deferredandotherPensionsandOtherPostRetirement BenefitsOtherChangesinoperating assetsandliabilities Accountsreceivable Materials andsupplies, fueloilandgasinstorageAccountspayableandaccruedexpensesClassSettlement SpecialdepositsOtherN'db0tinActivities Investing Activuies Construction andnuclearfuelexpenditures Shorehampost-settlement costsInvestment ininterestratehedgeOtlierNetCashUsedinInvestinActivities Financing Activities Proceedsfromissuanceofsecurities Redemption ofsecurities Commonstockdividends paidPtefetred stockdividends paidOtherNetCashUsedhiFinancinActivities NctIncrease(Decrease)

InCashandCashEquivalents Cashandcashequivalents atbeginning ofperiodNethicrease(decrease) incashandcasheuivalents CashandCashEquivalents atendofperiodInterestpai,otereduchonorieallowance forborrowedfundsusedduringconstruction FederalincometaxpaidSeePtotestoFinancial Statements.

YearEndedMarch311998$362,24023,239158,537100,971(35,079)(79,359)(9,213)47,272(23,632)15,62330,823146,85948,51287,618(14,905)14,3911,668(56,503)(58,159)(86,819)674,084(257,402)

(39,828)(30,000)

(1.987)329,217)43,218(2,050)(215,790)

(51,833)2,032)(228,487)

$116,380$64,539116,380$180,919$364,864$108,980ThtceMonthsEndedMarch311997$87,6974,82138,56125,243',907(19,840)(2,303)12,218(5,919)4,4968,08732,83513,4962,381(31,638)67,242(58,952)(11,006)63514,394159,567(50,375)(12,104)160(62,3194,640(250,000)

(53,749)(12,969)(624)(312,702($215,454)$279,993215,454$64,539$112,981YearEndedDecember311996$316,46423,119153,925100,971(24,232)(79,359)(9,214)127,288(25,259)20,77234,611167,06014,95251,67169,215(34,531)28,258(42,084)25,14626,460892,313(239,896)

(51,722)(4,806296,42418,837(419,800)

(213,753)

(52,264)(369)(667,349($71,460)$351,45371,460$279,993$404,663$45,050(fnthousands ofdollars)YearEnded.Decein199$303,28617,751"145,357'100,97121,'933(79,359)(9,214)161,605(25,274)21,66939,589190,9424,90056,675(67;213)21,98619,100'33,464)(35,798)83,442772000(6)(70,589)8,019306,15668,726(104,800)

(211,630)

(52,667),529299,842$166,002$185,451'66,002.'351,453'427,988

$14,20058 Statement ofRetainedEarninsPnthousands ofdolkws)

Dcocmber31~1995st~ofperiodNctincomefortheperiodDeductions IICashdividends declaredoncommonstockCashdividends dcclarcdonpreferred stockOthertBalancestendofrlodSreNotestoFinandolStaternerus.

$861,7518362.240),223P91216,08651,8121$956,0925840,867887,697928,564$3,84412.969861,751$790,9198316,4641,107/83214,25552,24021840.867$752.480303~1,055,766 212,18152,64719790,919Statement ofCaitalization ShanesIssued (fnthousands ofdollars)March31,1998March31,1997Deccmbcr31,1996March31,1998rMarch31,1997December31,1996CommonShareovrncrs'quity Commonstock,$5.00pervaluePremiumoncapitalstockCapitalstockexpenseRctaincdcomingsTreasurystock,stcostTotalCommonShsreovrners'quity 121,727,040 12L00431$

16,985120,784,277

$3,485608,635$'~146,425(47,501)956,092(1,204)605,022$V31476(48.915)861,751(385)2,549,049 603P211,127P71(49@30)840,867(60)2,523369Preferred Stock-Redemption RequiredParvsluo$100pcrshare/vSensaLvScricsCCescalledforredemption 150,$00$70,000161,000570,000161,000570,00015,05057,00015.050'6,10057,0001,0$016,100$7,0001,0$057.0CN.72.0$0'2,050Parvalue$25pershare7.95%SeriesAA$1.67SeriesGG$1.95SeriesNN7.05%SeriesQQ6.875%SensaUULess-Seriescalledforredemption Lessredemption ofpreferred stock14/20,000 880,0001/$4,0003,464,000 2,~,00014,520,000 880,0001,554,000 3,464,000 2,~00014,$20.000880,0001,554,000 3,464.000

',240,000 363,000t22,00038,85086,60056,00038,850363,00022,00038,85086,60056,000363,00022,00038,8$086,60056,000TotalPrefcrrcd Stock-Redem'onRequirel505.600i"566.450566,4$0Preferred Stock-NoRedemption RequiredParvalue$100persharo$.00/iSeriesB.4.25%SeriesD435%ScricsB4.35%SeriesF51/8/eScricsH,53/4%Series1-Convertible Less-Scncscelledlbrrcdcmptien TotalPreferred Stock-NoRedemption RequiredTotsreferredStock100,00070,00050,000200,00014,743100,00070,000200,00050,000200,00015,978)00,00070,000200,00050.000200,00016,63710,0007P~20,0005,000,20,0001,47463.474562600$10,0007,000~20,0005.00020,0001,59863,598702,098S10,0007,00020,0005,00020.000lr664163.66459 grithourrurr/s odollorr)31IGeneralandRefunding BoridsTotalGeneralandRetbnding BondsDcbcntures TotalDcbcnturcs FehuaryIS,1997April15,1998Msy15,1999April15,2004Msy1$,2006JulyIS,2008May1,2021JulyI,2024JulyIS,1999January1$,2000July15.2001MarchIS.2003MachI,2004JunoI,2OOSMarchI,2007July1$,2019NovemberI,2022March15,202383/4%75/SYi7.85%85/SYi8.50Yi7.pter/i93/4%95/8/i7.30Yi7.30Yi6.25%7.05%7.00Yi7.125%7.50/i8.90Yi9.00Yi8.20Yi$100,00056,000185,00075.00080,000415,000375,0001,286.000 397,00036,000145,000150,00059,000200,000142,000420.000451,000270.0002,270,000 100,00056,000185,00075,00080,000'15,000375.0001,286,000 397,00036,000145,0001$0,00059,000200,000142,000420,000451,000270.0002,270,000

$250,000100,00056,000'SS,00075,00080,000415,000375,00036,000145,000150,00059,000451,000270,000Authority Flnanclng NotesIndustriai Development RevenueBondsPoliurion ControlRevenueBondsElcctrioFaeilitics RcvcnueBendsDcccmberI,2006DecemberI,2006DeccmbcrI,2009OctoberI,2012MachI,20167.50Yi7.50/i7.80Yi8I/4%3.58/i,1976AB1976AI979B19821985AB2737$19,10017,200150.00028/7519,10017,200150,0002837$19,10017,200ISO,000Sq¹cmberI,2019JuneI,2020DecemberI,2020FchuaryI,2022AugustI,2022NovemberI~2023NovemberI,2023OctoberI,2024AugustI,202SDecemberI,20277.15%7.15%.7.15%7.15%6.90/i3.70/i3.70/i3.70Yi3.70Yi3.55%1989AB,1990A1991A1992iEB1992CiD1993A1993B1994A199SA1997A100,000100,000100,000100,000100,00050.000S0,00050,000S0,00024,880100,000100,000100.000100,000100,00050,000100,000100,000100,000100.000100,00050,00050,000-50,00050,000TotalAuthority Financing NotesUnamortized DiscountonDebt940355916,675(13,606)(14.628)916.6754,482@49101.0004,4SS,OI7 1,0004,707,772 2S1,000TotalLong-Term DebtTotalCaItalhatlon SceNo/rsroFinmrdol$/a/eaten/a 4,381,949 4.457.047

$7.6069K$7.708.194

$4.45(c772 7,68230560 NOTESTOFINANCIAL STATEMENTS Note1.SummaryofSignificant Accounting Policies~~~~~asisofPresentation OnApril11,1997,theCompanychangeditsyearendfromDecember31toMarch31.Accordingly, unlessotherwise indicated, references to1998and1997represent thetwelvemonthperiodendedMarch31,1998andMarch31,1997,whilereferences toallotherperiods'refer totherespective calendaryearsendedDecember31.'sfurtherdiscussed inNote2,onJune26,1997,theCompanyandtheLongIslandPowerAuthority (LIPA)enteredintodefinitive agreements pursuanttowhich,aflerthetransferoftheCompany's gasbusinessunitassets,non-nuclear electricgenerating facilityassetsandcertainotherassetsandliabilities tooneormorenewly-formed subsidiaries ofanewholdingcompany,theCompany's commonstockwillbesoldtoLIPAforapproximately

$2.4975billionincash.Noadjustments havebeenmadetotheCompany's financial statements toreflectthisproposedtransaction.

IINatureofOperations TheCompanywasincorporated in1910undertheTransportation Corporations LawoftheStateofNewYorkandsupplieselectricandgasserviceinNassauandSuffolkCountiesandtotheRockawayPeninsula inQueensCounty,allonLongIsland,NewYork.TheCompany's serviceterritory coversanareaofapproximately 1,230squaremiles.Thepopulation oftheservicearea,according totheCompany's 1998LongIslandPopulation Surveyestimate, isabout2.75millionpersons,including approximately 98,500personswhoresideinQueensCountywithintheCityofNewYork.eCompanyservesapproximately

1.0 4millionelectriccustomers

ofwhichapproximately 931,000aresidential.

TheCompanyreceivesapproximately 49'/0ofitselectricrevenuesfromresidential customers, 48/0fromcommercial/industrial customers andthebalancefromsalestootherutilities andpublicauthorities.

TheCompanyalsoservesapproximately 467,000gascustomers, 417,000ofwhichareresidential, accounting forabout610/0ofitsgasrevenues, 17,000ofwhicharecommercialiindustrial,:

accounting for23/oofitsgasrevenues, 3,600ofwhicharefirmtransportation customers, accounting for30/0ofitsgasrevenues, withthebalanceofthegasrevenuesmadeupbyoff-system sales.TheCompany's geographic locationandthelimitedelectrical interconnections toLongIslandservetolimittheaccessibility ofthetransmission gridtopotential competitors fromoffthesystem.Inaddition, theCompanydoesnotexpectanynewmajorindependent powerproducers (IPPs)orcogenerators tobebuiltonLongIslandintheforeseeable future.Oneofthereasonssupporting thisconclusion isbasedontheCompany's beliefthatthecomposition anddistribution oftheCompany's remaining commercial andindustrial customers wouldmakeitdifficult forlargeelectricprojectstooperateeconomically.

Furthermore, underfederallaw,theCompanyisrequiredtobuyenergyfromqualified producers attheCompany's avoidedcost.Currentlong-range avoidedcostestimates fortheCompanyhavesignificantly reducedtheeconomicadvantage toentrepreneurs seekingtocompetewiththeCompanyandwithexistingIPPs.Forafurtherdiscussion ofthecompetitive issuesfacingtheCompany,seeNote12.Regulation TheCompany's accounting recordsaremaintained inaccordance withtheUniformSystemsofAccountscribedbythePublicServiceCommission oftheStateofNewYork(PSC)andtheFederalEnergyulatoryCommission (FERC).Itsfinancial statements reflecttheratemaking policiesandactionsof61 thesecommissions inconformity withgenerally acceptedaccounting principles forrate-regulated-enterprises.

Accounting fortheEffectsofRateRegulation GeneralTheCompanyissubject,totheprovisions ofStatement ofFinancial Accounting Standards (SFAS)No.'1,"Accounting fortheEf'fectsofCertainTypesofRegulation."

Thisstatement recognizes theeconomicabilityofregulators, throughtheratemaking process,tocreatefutureeconomicbenefitsandobligations affecting rate-regulated companies.

Accordingly, theCompanyrecordsthesefutureeconomicbenefitsandobligations asregulatory assetsandregulatory liabilities, respectively.

Regulatory assetsrepresent pr'ob'able futurerevenuesassociated withpreviously incurredcoststhatareexpectedtoberecovered fromcustomers.

Regulatory liabilities represent probablefuturereductions in'evenuesassociated withamountsthatareexpectedtoberefundedtocustomers throughtheratemaking process.Regulatory assetsnetofregulatory liabilities amo'unted toapproximatefy

$6.7billionatMarch31,1998,March31,1997andDecember31,199'6.Inorderforarate-regulated entitytocontinuetoapplytheprovisions ofSFASNo.71,itmustcontinuetomeetthefollowing three'criteria:

(i)theenterprise's ratesforregulated servicesprovidedtoitscustomers mustbeestablished byanindependent third-party regulator; (ii)theregulated ratesmustbedesignedtorecoverthespecificenterprise's costsofproviding theregulated services; and(iii)inviewofthedemandfortheregulated servicesandthelevelofcompetition, itisreasonable toassumethatratessetatlevelsthatwillrecovertheenterprise's costscanbechargedtoandcollected fromcustomers.

BasedupontheCompany's evaluation ofthethreecriteriadiscussed aboveinrelationtoitsoperations, theeffectof'competition onitsabilitytorecoveritscosts,including itsallowedreturnoncomrrionequityantheregulatory environment inwhichtheCompanyoperates, theCompanybelievesthatSFASNo.71continues toapplytdtheCompany's electricandgasoperations.

TheCompanyformeditsconclusion baseduponseveralfactorsincluding:

(i)theCompany's continuing abilitytoearnitsallowedreturnoncommonequityforbothitselectricandgasoperations; and(ii)thePSC'scontinued commitment totheCompany's fullrecoveryoftheShorehamNuclearPowerStation(Shoreham) relatedassetsandallotherprudently incurredcosts.Notwithstandirig theabove,rate'regulation isundergoing significant changeasregulators and'customers seeklowerpricesforelectricandgasservice.Intheeventthatregulation sig'nificantly changestheopportunity fortheCompanytorecoveritscostsinthefuture,alloraportionoftheCompany's operations maynolongermeetthe'criteria discussed above.Inthatevent,asignificant write-down ofall'raportionoftheCompany's existingregulatory assetsandliabilities co1rldresult.IftheCompanyhadbeenunabletocontinuetoapplytheprovisions ofSFAS71atMarch31,1998,theCompanywouldapplytheprovisions ofSFAS101"Regulated Enterprises

-Accounting fortheDiscontinuation ofApplication ofPASBStatement No.71."IfSFAS'101wereimplement'ed, thechargetoearningscouldbeashighas$4.5billion,netoftax.Foradditional information respecting theCompany's Shoreham-related assets,seebelowandNotes4and10.SFASNo.121,"Accounting fortheImpairment ofLong-Lived AssetsandforLong-Lived AssetstobeDisposedOf'equires thatcostswhichwerecapitalized inaccordance withregulatory practices, becauseitwasprobablethatfuturerecoverywouldbeallowedbytheregulator, mustbechargedagainstcurrentperiodearningsifitappearsthatthecriterion forcapitalization nolongerapplies.Thecarryingamountsuchassetswouldbereducedbyamountsforwhichrecoveryisunlikely.

SFASNo.121alsoprovidesfor62 therestoration ofpreviously disallowed coststhataresubsequently allowedbyaregulator.

Noimpairment losseshavebeenrecognized bytheCompanywithrespecttoregulatory orotherlong-lived assets.lhtDiscussed belowaretheCompany's significant regulatory assetsandregulatory liabilities.

IBaseFinancial Component andRateModeration, Component, hPursuanttothe19S9Settlement, theCompanyrecordedaregulatory assetknownastheFinancial ResourceAsset(FRA).TheFRAisdesignedtoprovidetheCompanywithsufficient cashflowstoassureitsfinancial recovery.

TheFRAhastwocomponents, theBaseFinancial Component (BFC)andtheRateModeration Component (RMC).,TheBFCrepresents thepresentvalueofthefuturenet-after-tax cash,,flows whichtheRateModeration Agreement (RMA),oneoftheconstituent documents ofthe1989Settlement, providedtheCompany,foritsfinancial recovery.

TheBFCwasgrantedratebasetreatment underthetermsoftheRMAandisincludedintheCompany's revenuerequirements throughanamortization includedinratesoveraforty-year periodonastraight-line basiswhichbeganJuly1,19S9.'hTheRMCreflectsthedifference betweentheCompany's revenuerequirements underconventional ratemakirig andtherevenuesresulting fromtheimplementation oftheratemoderation planprovidedforinthe.RMA.TheRMCiscurrently

adjusted, onamonthlybasis,fortheCompany's shareofcertainNMP2operations andmainten'ance

expenses, fuelcreditsresulting fromtheCompany's electricfuelcostadjustment clauseandgrossreceiptstaxadjustinents relatedtotheFRA.InApril1998,thePSCauthorized arevisiontotheCompany's methodforrecording itsmonthlyRMCamortization.

Priortothisrevision, theamortization oftheannuallevelofRMCwasrecordedmonthlyonatraight-line, levelized basisovertheCompany's rateyearwhichrunsfromDecember1toNovember30.owever,revenuerequirements fluctuate frommonthtomonthbaseduponconsumptionwhich isgreatlyimpactedbytheeffectsofweather.Underthisrevisedmethod,effective December1,1997,themonthlyamortization oftheannualRMClevelvariesbaseduponeachmonth'sforecasted revenuerequirements, whichmore.closelyalignssuchamortization withtheCompany's costofservice.Asaresultofthischange,forthefiscalyear'ended March31,1998,theCompanyrecordedapproximately

$65.1millionmoreofnon-cashRMCcreditstoincome(representing accretion oftheRMCbalance),,or

$42.5millionnetoftax,representing

$.35persharemorethanitwouldhaveunderthepreviousmethod.However,thetotalRMCamortization fortherateyearendingNovember30,1998,willbeequaltotheamountthatwouldhavebeenprovidedforunderthepreviousmethod.Asdiscussed inNote2,theRMCwillbeacquiredbyLIPAaspartoftheLIPATransaction.

hForafurtherdiscussion ofthe1989Settlement andFRA,seeNotes4and10.ShorehamPost-Settlement CostsShorehampost-settlement costsconsistofSh'oreham decommissioning costs,fueldisposalcosts,payments-in-lieu-of-taxes, carryingchargesandothercosts.Thesecostsarebeingcapitalized andamortized andrecovered throughratesoveraforty-year periodonastraight-line remaining lifebasiswhichbeganJuly1,1989.Forafurtherdiscussion ofShorehampost-settlement costs,seeNote10.hShorehamNuclearFuelhorehamnuclearfuelprincipally reflectstheunamortized portionofShorehamnuclearfuelwhichwaslassified fromNuclearFuelinProcessandinReactoratthetimeofthe1989Settlement.

Thisamountiseingamortized andrecovered throughratesoveraforty-year periodonastraight-line remaining lifebasiswhichbeganJuly1,1989.63 Unamortized CostofIssuingSecurities Unamortized costofissuingsecurities represents theunamortized premiumsordiscounts andexpensesrelatedtotheissuesoflong-term debtthathavebeenretiredpriortomaturityandthecostsassociated withtheearlyredemption ofthoseissues.Inaddition, thisbalanceincludestheunamortized capitalstockexpenseandredemption costsrelatedtocertainseriesofpreferred stockthathavebeenrefinanced.

Thesecostsareamortized andrecovered throughrates,asprovidedbythePSC,overtheshorterofthelifeoftheredeemedissueorthenewissue.Postretirement BenefitsOtherThanPensionsTheCompanydefersasaregulatory assetthedifference betweenpostretirement benefitexpenserecordedinaccordance withSFASNo.106,"Employers'ccounting forPostretirement BenefitsOtherThanPensions,"

andpostretirement benefitexpensereflected incurrentrates.PursuanttoaPSCorder,theongoingannualSFASNo.106benefitexpensewasphasedintoandfullyreflected inratesbyNovember30,1997,withtheaccumulated deferredassettoberecovered inratesoverthefifteen-year periodwhichbeganDecember1,1997.Forafurtherdiscussion ofSFASNo.106,seeNote8.Regulatory TaxAssetandRegulatory TaxLiability TheCompanyhasrecordedaregulatory taxassetforamountsthatitwillcollectinfutureratesfortheportionofitsdeferredtaxliability thathasnotyetbeenrecognized forratemaking purposes.

The'egulatory taxassetiscomprised principally ofthetaxeffectofthedifference inthecostbasisoftheBFCforfinancial andtaxreporting

purposes, depreciation differences notnormalized andtheallowance forequityfundsusedduringconstruction.

Theregulatory taxliability isprimarily attributable todeferredtaxespreviously recognized atrateshigherthancurrentenactedtaxlaw,unamortized investment'tax creditsandtaxcreditcarryforwards.

Regulatory Liability Component Pursuanttothe1989Settlement, certaintaxbenefitsattributable totheShorehamabandonment aretobesharedbetweenelectriccustomers andshareowners.

Aregulatory liability ofapproximately

$794millionwasrecordedinJune1989topreserveanamountequivalent tothecustomertaxbenefitsattributable totheShorehamabandonment.

Thisamountisbeingamortized overaten-yearperiodonastraight-line basiswhichbeganJuly1,1989.1989Settlement CreditstRepresents theunamortized portionofanadjustment ofthe'bookwrite-off tothenegotiated 1989Settlement amount.Aportionofthisamountisbeingamortized overaten-yearperiodwhichbeganonJuly1,1989.Theremaining portionisnotcurrently beingrecognized for;ratemaking purposes.

UtilityPlantAdditions toandreplacements ofutilityplantarecapitalized atoriginalcost,whichincludesmaterial, labor,indirectcostsassociated withanadditionorreplacement andanallowance forthecostoffundsusedduringconstruction.

Thecostofrenewalsandbetterments relatingtounitsofpropertyisaddedtoutilityplant.Thecostofpropertyreplaced, retiredorotherwise disposedofisdeductedfromutilityplantand,generally, togetherwithdismantling costslessanysalvage,ischargedtoaccumulated depreciation.

Thecostofrepairsandminorrenewalsischargedtomaintenance expense.Massproperties (suchaspoles,wireandmeters)areaccounted foronanaverageunitcostbasisbyyearofinstallation.

64 Allowance forFundsUsedDuringConstruction TheUniformSystemsofAccountsasprescribed bythePSC,definestheAllowance, ForFundsUsedDuringConstruction (AFC)asthenetcostofborrowedfundsusedforconstruction purposesanda,treasonable rateofreturnupontheutility's.equity'when soused.AFCisnotanitemofcurrentcashincome.AFCiscomputedmonthlyusingaratepermitted bytheFERConaportionofconstruction workinprogress.

TheaverageAFCrate,withoutgivingeffecttocompounding, wasasfollows:Periods'AFCRate12MonthsEnded3/31/989.29/o3MonthsEnded3/31/972.26/o12MonthsEnded12/31/969.02/o12MonthsEnded12/31/959.36/oDepreciation Theprovisions fordepreciation resultfromtheapplication ofstraight-line ratestotheoriginalcost,bygroups,ofdepreciable properties inservice.Theratesaredetermined byage-lifestudiesperformed annuallyondepreciable properties.

Theaveragedepreciation rateasapercentage ofrespective averagedepreciable plantcostswasasfollows:Periods12MonthsEnded3/31/983MonthsEnded3/31/9712MonthsEnded12/31/9612MonthsEnded12/31/95Electric3.07o/o78o/o3.00/o3.00o/oGas2.04o/o'51o/o200o/o200o/oCashandCashEquivalents

~~Cashequivalents arehighlyliquidinvestments withmaturities ofthreemonthsorlesswhenpurchased.

hecarryingamountapproximates fairvaluebecauseoftheshortmaturityoftheseinvestments.

LRPPPayableRepresents thecurrentportionofamountsduetoratepayers thatresultfromtherevenueandexpensereconciliations, performance-based incentives andassociated carryingcharges'as established un'dertheLILCORatemaking andPerformance Plan(LRPP).Forfurtherdiscussion oftheLRPP,seeNote4.FairValuesofFinancial Instruments ThefairvaluesfortheCompany's long-term debtandredeemable preferred stockarebasedonquotedmarketprices,whereavailable.

Thefairvaluesforallotherlong-term debtandredeemable preferred stockareestimated usingdiscounted cashflowanalysesbasedupontheCompany's currentincremental borrowing rateforsimilartypesofsecurities.

RevenuesRevenuesarecomprised ofcyclebillingsrenderedtocustomers andtheaccrualofelectricandgasrevenuesforservicesrenderedtocustomers notbilledatmonth-end.

TheCompany's electricratestructure providesfeararevenuereconciliation mechanism whicheliminates theimpactonearningsofexperiencing electricsalesthatareaboveorbelowthelevelsreflected inrates.TheCompany's gasratestructure providesforaweathernormalization clausewhichreducestheimpactrevenuesofexperiencing weatherwhichiswarmerorcolderthannormal.gt65 FuelCostAdjustments hTheCompany's electric.and gastariffsincludefuelcostadjustment (FCA)clauseswhichprovideforthe'isposition ofthedifference betweenactualfuelcostsandthefuelcostsallowedintheCompany's basetariffrates(base fuelcosts).The.Companydefersthesedifferences tofutureperiodsinwhichtheywillbebilledorcreditedto'customers, exceptforbase'electric fuelcostsinexcessofactualelectricfuel'costs,'hich arecurrently creditedtotheRMCasincurred.

"Purs'uant'to theStipulation,'as described inNote3,gasfuelcostsareexcludedfrombasefuelcostsandrecovered throughthegasfueladjustment clause.FederalIncomeTaxTheCompanyprovidesdeferredfederalincometaxwithrespecttocertainitemsofincomeandexpensethatarereportedindifferent periodsforfederalincometaxpurposesthanforfinancial statement purposes.

Additionally, theCompanyprovidesdeferredfederalincometaxwithrespecttoitemswithdifferent basesforfinancial andtaxreporting

purposes, asdiscussed inNote9.TheCompany'defersthebenefitof,60/0ofpre-1982gasandpre-.1983 electricand100/oofallother,'nvestment taxcredits,withrespecttoregulated properties, whenrealizedonitstaxreturns.Accumulated deferredinvestment taxcreditsareamortized ratablyoverthelivesoftherelatedproperties.

'1IIForratemaking

purposes, theCompanyprovidesdeferredfederalincometaxwithrespecttocertaindifferences betweenincomebeforeincometaxforfinancial reporting purposesandtaxableincomeforfederalincometaxpurposes.

Also,certainaccumulated deferredfederalincometaxisdeductedfromratebaseandamortized orotherwise appliedasareduction in'federal inc'ometaxexpensein'futureyears.ReservesforClaimsandDamagesLossesarisingfromclaimsagainst,theCompany,including workers',

compensation claims,property...

damage,extraordinary storm'costs andgeneralliability claims,arepartially self-insured.

-Reserves fortheseclaimsanddamagesarebasedon,amongotherthings,experience, riskoflossandtheratemaking practices ofthePSC.Extraordinary stormlossesincurredbytheCompanyarepartially insuredbyvarious,commercial insurance carriers.-,

These"insurance carriersprovidepartialinsurancecoverage forindivjdual stormlossesto,theCompany',s transmission anddistribution systembetween$15millionand$25million..

Stormlosseswhich,areoutsideofthisrangeareself-insured bytheCompany.RecentAccounting Pronouncements "V'IEarningsI'erShareAtDecember31,1997,theCompanyadoptedSFASNo;128,"Earnings PerShare."Thisstatement replacedthecalculation of.primaryandfullydilutedearningspersharewithbasicanddilutedearningspershare.Unlikeprimaryearningspershare,basicearningspershareexcludes'any dilutiveeffectsofoptions,warrantsandconvertible securities.

Dilutedearningspershareareverysimilartothepreviously reportedfullydilutedearningspershare.Noneoftheearningspershareamountsforperiodspresented wereeffectedby,theadoptionof.,SFASNo.128:.,'Comprehensive IncomeInJune1997,theFinancial Accounting'Standards Board'(FASB) issuedStatement ofFinancial Accounting.

Standards (SFAS)No.130."SFASNo."130establish'tandards forreporting comprehensive income.Comprehensive incomeisthechangeintheequityofacompany,notincluding thosechangesthatre'suitfrom'sh'areholder tran'sactions'.

Allcomponents ofcomprehensive incomearerequiredtobereportedinanewfinancial statement thatisdisplayed withequalprominence'as existingfinancial statements.

TheCompanywillberequiredtoadoptSFASNo.130fortheyearendingMarch31,1999.66 TheCompanydoes'n'ot expectthattheadoptionofSFASNo.130willhaveasignificant impactonits"'eporting anddisclosure requirements'.

III'i~~7?7~~~~~~~Irr~~u~I!~~~!~~~~!~~~!!~~~~~~~~~l~iSegmentDisclosures InJune1997,FASBissuedSFASNo.131"Disclosures aboutSegmentsofanEnterprise andRelatedInformation."

SFASNo.131establishes standards foradditional disclosure aboutoperafing segmentsforinterimand'annual financial statem'ents.

Morespecifically, it,requiresfinancial inform'ation tobedisclosed forsegmentswhoseoperating resultsarereviewedbythechiefoper'ating decisionmakerfordecisions onresourceallocation.

Italsorequiresrelateddisclosures aboutproductsandservices,"

""geographic areasandmajorcustom'ers.

TheCompanywillberequiredtoadoptSFASNo.131forthefiscalyearendingMarch31,1999.TheCompanydoes"notexpectthattheadoptionofSFASNo.131willhaveasignificant'impact onitsreporting anddisclosure requirements.

'IUseofEstimates'l Theprepar'ation ofthe'financial statements inconfo'rmity withgenerally acceptedaccounting principles requiresmanagement tomakeestimates andassumptions thataffectthe'amounts reported'in thefinancial statements andaccompanying notes.Actualresultscoulddifferfromthoseestimates.

VVReclassifications

"'ertain'prior yearamountshaveb'eenreclassified inthefinancial statements toconform'with thecurrentyearpresentation.

VilhIV'ote2.'LongIslandPowerAuthority Transaction OnJune26,1997,theCompanyandLongIslandPowerAuthority (LIPA)e'ntered'into definitive agreements purs'uant towhich,afterthetransferoftheCompany's gasbusinessunitassets,non-nuclear'ectric generating facilityassetsandcertainotherassetsandliabilities tooneormorenewly-foimed

'ubsidiaries ofanewholdingcompany(HoldCo),

formedinconnection withtheLIPATransaction andKey'Span'Transaction discussed below,theCo'mpany's commonstockwillbes'old'toLIPAfor$2.4975billionincash.Inconnection withthistransacti'on",

theprincipal'assets tobeacquiredbyLIPAthroughitsstock'cquisition ofLIL'COinclude:(i)thenetbookvalueofLILCO'selectrictransmission anddistribution system',whichamountedto'pproximately

$1.3billionatMarch31;1998;(ii)LILCOs'etinvestment inNMP2,whichamountedtoapproximately

$0.7billionatMarch31,1998(asmorefullydiscus'sed inNote5);(iii)certainofLILCO'sregulatory assetsassociated withitselectricbusiness; and(iv)allocated'ccounts receivable andotherassets.Theregulatory assetstobeacquiredbyLIPAamountedtoapproximately

$6.6billionatMarch31,1998,aridp'rimarily consistoftheBaseFinancial Component (BFC),RateModeration Component (RMC),'Shoreham post-settlement costs,Shorehamnuclearfuel, andtheelectricportionoftheregulatory taxasset.Forafurtherdiscussion oftheseregulatory assets,seeNote1.VVIILIPAiscontractually re'sponsible forreimbursing HoldCoforpostretirement b'enefits otherthanpensioncostsrelatedtoemployees ofLILCO's'electric business.

'Accordingly, uponcoinsurnmationiof the'ransaction, HoldCowillreclassify theassociated regulatory assetforpo'stretirement benefitsotherthanpensionstoacontractual receivable.

IVeprincipal liabilities tobeassumedbyLIPAthroughitsstockacquisition ofLILCOinclude::

(i)LCO'sregulatory liabilities associated withitselectricbusiness; (ii)allocated accountspayable,ustomerdeposits, otherde'ferred'credits andclaimsanddamages;and(iii)certainseriesoflong-term 67 debt.Theregulatory liabilities tobeassumedbyLIPAamountedtoapproximately

$365millionatMarch31,1998,andprimarily consistoftheregulatory liability component, 1989Settlement, creditsandtheelectricportionoftheregulatory taxliability.

Forafurtherdiscussion oftheseregulatory liabilities, seeNote1ofNotestoFinancial Statements.

Thelong-term debttobeassumedbyLIPAwillconsistof:(i)allamountsthenoutstanding undertheGeneralandRefunding (G&R)Indentures; (ii)allamountsthenoutstanding undertheDebenture Indentures, exceptasnotedbelow;and(iii).substantially allofthetax-exempt authority financing notes.HoldCoisrequiredtoassumethe,financial obligation associated withthe7.30'/0Debentures dueJuly15,1999,withanaggregate principal amountcurrently outstanding of$397millionand8.20/0Debentures dueMarch15,2023,withanaggregate principal amountcurrently outstanding of$270million.HoldCowillseektoexchangeitsDebentures, withidentical terms,forthesetwoseriesofDebentures andwillissueapromissory notetoLIPAinanamountequaltotheunexchanged amountofsuchDebentures.

HoldCowillalsoissueapromissory notetoLIPAforaportionofthetax-exempt debtborrowedtosupportLILCO'scurrentgasoperations, withtermsidentical tothosecurrently outstanding.

TheCompanycurrently estimates theamountofthispromissory notetobeapproximately

$250million.lInJuly1997,inaccordance withtheprovisions oftheLIPATransaction, theCompanyandTheBrooklynUnionGasCompany(Brooklyn Union)formedalimitedpartnership andeachCompanyinvested$30millioninordertopurchaseaninterestrateswapoptioninstrument toprotectLIPAagainstmarketriskassociated withthemunicipal bondsexpectedtobeissuedbyLIPAtofinancethetransaction.

UpontheclosingoftheLIPATransaction, eachlimitedpartnerwillreceivefromLIPA$30millionplusinterestthereon,basedoneachpartners'verage weightedcostofcapital.IntheeventthattheLIPATransaction isnotconsummated, themaximumpotential losstotheCompanyistheamountoriginally invested.

Insuchevent,theCompanyplanstodeferanylossandpetitionthePSCtoallowrecoveryfromitscustomers.

AspartoftheLIPATransaction, thedefinitiy'e agreements contemplate thatoneormoresubsidiaries ofHoldCowillenterintoagreements withLIPA,pursuanttowhichsuchsubsidiaries willprovidemanagement andoperations servicestoLIPAwithrespecttotheelectrictransmission anddistribution system,deliverpowergenerated byitspowerplantstoLIPA,andmanageLIPA'sfuelandelectricpurchases andanyoff-system electricsales.Inaddition, threeyearsaAertheLIPATransaction isconsummated, LIPAwillhavetherightforaone-yearperiodtoacquireallofHoldCo'sgenerating assetsatthefairmarketvalueatthetimeoftheexerciseoftheright,whichvaluewill,bedetermined byindependent appraisers.

1I4InJuly1997,theNewYorkStatePublicAuthorities ControlBoard(PACB),createdpursuanttotheNeqYorkStatePublicAuthorities Lawandconsisting offivemembersappointed bythegovernor, unanimously approvedthedefinitive agreements relatedtotheLIPATransaction subjecttothefollowing conditions:

(i)withinoneyearoftheeffective dateofthetransaction, LIPAmustestablish aplanforopenaccesstotheelectricdistribution system;(ii)ifLIPAexercises itsoptiontoacquirethegeneration assetsofHoldCo'sgeneration subsidiary, LIPAmaynotpurchasethegenerating facilities, ascontemplated inthegeneration purchaserightagreement, at,apricegreaterthanbookvalue<(iii)HoldComustagreetoinvest,overaten-yearperiod,atleast$1.3billioninenergy-related andeconomicdevelopment

projects, andnaturalgasinfrastructure projectsonLongIsland;(iv)LIPAwillguarantee that,overaten-yearperiod,averageelectricrateswillbereducedbynolessthan14/owhenmeasuredagainsttheCompany's ratestodayandnolessthana2/o'costsavingstoLIPAcustomers mustresultfromthesavingsattributab tothemergerofLILCOandKeySpan;and(v)LIPAwillnotincreaseaverageelectriccustomerrates'bmorethan2.50/0overatwelve-month periodwithoutapprovalfromthePSC.LIPAhasadoptedtheconditions setforthbythePACB.68 T'eholdersofcommonandcertain.s'eries ofpreferred stockoftheCompanyeligible'to vote'approved theLIPATransaction inAugust1997."-'IIh~lnDecember1997,theUnitedStates'Nuclear Regulatory Commission'(NRC) is'suedanorderapproving.

~theindirecttransferofcontroloftheCo'mpany's 18loownership interestinNMP2toLIPA.InDecember1997,theCompanyfiledwiththeFERCasettlement agreement reachedwith'LIPA inconnection withaprev'ious filingoftheCompany's proposedratesforthesaleofcapacityandenergytoLIPA,ascontemplated intheLIPAtransaction'agreements.

TheCompany'lso hadpreviously file'dan""application withtheFERCseekingapprovalofthetransferoftheCompany's electrictr'ansmission anddistribution systemtoLIPAinconnection withLIPA'spur'chase ofthecommonstockoftheCompany.InFebruary1998,theFERCissuedordersonbothoftheCompanyfilings.Specifically, theFERCapprovedtheCompany's application totransferassetstoLIPAinconnection withLIPA'sacquisition.

oftheCompany's commonstock.Inaddition, theFERCacceptedtheCompariy's pro'posed ratesforsale"ofcapacityandenergytoLIPA.Thoseratesmaygointoeffecton.thedatetheservicetoLIPAegins, subjecttorefund,andfinalrateswillbe"setaftertheFERChascompleted itsinvestigation ofsuchrates,:"thetimingofwhichcannot'be determined atthistime.I'IInJanuary1998,theCompanyfiledanapplication withthePSCinconnection withtheproposedtransferofitsgasbusinessunitassets,non-nuclear generating facilityassetsandcertainotherassetsandrelated.'iabilities tooneormoresubsidiaries ofHoldCotobeformedas'contemplated.,in'the LIPATransaction agreements.

OnApril29,1998,thePSCapprovedthetransferoftheabove-mentioned assets..InJuly1997,theCompany,BrooklynUnionandLIPAfiledrequestsforprivateletter.rulingswiththeternalRevenueService(IRS)regarding certainfederalincometaxissueswhichrequirefavorable lingsinorderfortheLIPATransaction tobeconsummated.

OnMarch4,1998,theIRSissuedaprivateletterrulingconfirming thatthesaleoftheCompany's commonstocktoLIPAwouldnotresultinacorporate taxliability totheCompany.Inaddition, theIRS'ruled that,aAerthestocksale,theincomeofLIPA'selectricutilitybusinesswillnotbesubjecttofede'ralincometax'.In'a'separate rulingonFebruary27,1998,theIRSalsoruledthatthebondstobeissuedbyLIPAtofinancetheacquisition wouldbetax-exempt.

CI'InJanuary1998,theCompanyfiledanapplication withtheSECseekinganexception'or mostoftheprovisions ofthePublicUtilities HoldingCompanyActof1935.In'May1998,the'SECissuedanorderapproving theCompany's application

~I[TheCompanycurrently anticipates thattheLIPAtransaction willbeconsummated byJune30,1998.Note3.KeySpanEnergyCorporation Transaction OnDecember29,1996,The-Brooklyn, UnionGasCompany"(Brookl)n Union)andtheCompanyenteredintoanAgreement andPlanofExchangeandMerger(ShareExchangeAgreemen't),

pursuanttowhichthecompanies willbemergedinatransaction (KeySpanTransaction) thatwill'result intheformation of'HoldCo.P'4TheShareExchangeAgreement wasamendedandrestatedtoreflectcertaintechnical changes'as ofFebruary7,1997andJune26,1997.Effective September 29,1997,BrooklynUnionreorganized intoa69 holdingcompanystructure, withKeySpanEnergyCorporation (KeySpan) becomingitsparentholding'-company.Accordingly, thepartiesenteredintoanAmendment, Assignment andAssumption Agreement, datedasofSeptember 29,1997,whichamongotherthings,amendedtheShareExchangeAgreement andtrelatedstockoptionagreements toreflecttheassignment byBrooklynUniontoKeySpanandtheassumption byKeySpanofallBrooklynUnion'srights'and obligations undersuchagreements.

TheKeySpanTransaction, whichhasbeenapprovedbybothcompanies'oards ofdirectors and,shareholders, wouldunitetheresources oftheCompanywiththeresources ofKeySpan.KeySpan,withapproximately 3,300employees, distributes naturalgasatretail,primarily inaterritory ofapproximately 187squaremileswhichincludestheboroughsofBrooklynandStatenIslandandtwo-thirds oftheboroughofQueens,allinNewYorkCity.KeySpanhasenergy-related investments ingasexploration, production andmarketing intheUnitedStatesandNorthernIreland,aswellasenergyservicesintheUnitedStates,including cogeneration

projects, pipelinetransportation andgasstorage.UnderthetermsoftheKeySpanTransaction, theCompany's commonshareowners willreceive.803shares(theRatio)ofHoldCo'scommonstockforeachshareoftheCompany's commonstockthattheycurrently hold.KeySpancommonshareowners willreceiveoneshareofcommonstockofHoldCofor.eachcommonshareofKeySpantheycurrently hold.Shareowners oftheCompanywillownapproximately 66%ofthecommonstockofHoldCowhileKeySpanshareowners willownapproximately 34%.IntheeventthattheLIPATransaction isconsummated, theRatiowillbe0.880withCompanyshareowners owningapproximately 68%oftheHoldCocommonstock.Basedoncurrentfactsandcircumstances, itisprobablethatthepurchasemethodofaccounting willapplytotheKeySpan'ransaction, withtheCompanybeingtheacquiring companyforaccounting purposes; Consummation oftheShareExchangeAgreement isnotconditioned upontheconsummation oftheLIPATransaction andconsummation oftheLIPATransaction isnotconditioned uponconsummation oftheShareExchangeAgreement.

InMarch1997,theCompanyfiledanapplication withtheFERCseekingapprovalofthetransferoftheCompany's commonequityandcertainFERC-jurisdictional assetstoHoldCo.OnJuly17,1997,theFERCgrantedsuchapproval.

TheShareExchangeAgreement containscertaincovenants ofthepartiespendingtheconsummation ofthetransaction.

Generally, thepartiesmustcarryontheirbusinesses intheordinarycourseconsistent withpastpractice, maynotincreasedividends.

on,commonstockbeyondspecified levelsandmaynot~issuecapitalstockbeyondcertainlimits.TheShareExchangeAgreement alsocontainsrestrictions on,amongotherthings,charterandby-lawamendmerits, capitalexpenditures, acquisitions, dispositions, incurrence ofindebtedness, certainincreases inemployeecompensation andbenefits, andaffiliate transactions.

Uponcompletion ofthemerger,Dr.WilliamJ.Catacosinos willbecomechairmanandchiefexecutive officerofHoldCo;Mr.RobertB.Catell,currently chairmanandchiefexecutive offiicerofKeySpan,will,becomepresident andchiefoperating officerofHoldCo.Oneyearaftertheclosing,Mr.CatellwillsucceedDr.Catacosinos aschief.executive officer,withDr.Catacosinos continuing aschairman.

Theboardofdirectors ofHoldCowillbecomprised of15members,sixfromtheCompany,sixfromKeySpanandthreeadditional personspreviously unaffiliated witheithercompany.70 InMarch-1997,theCompanyandtheBrooklynUnionGasCompany(Brooklyn Union)filedajointpetitionwiththePSCseekingapproval, undersection70oftheNewYorkPublicSer'viceLaw,oftheKeySpanAgreement bywhichtheCompanyandKeySpaneachwouldbecomesubsidiaries ofHoldCothroughanexchangeofsharesofcommonstockwithHoldCo.Inaddition, thepetitioncalledforapproximately

$1.0billionofsavingsattributable tooperating synergies thatareexpectedtoberealizedoverthe10-yearperiodfollowing thecombination tobeallocated to'customers, netoftransaction costsforthecombination.

OnDecember10,1997,BrooklynUnion,theCompany,theStaffofthePSCandthreeotherpartiesenteredintoaSettlement Agreement (Stipulation) resolving allissuesamongthemintheproceeding.

HearingsontheStipulation wereheldinearlyJanuary1998and,onFebruary4,1998,thePSCapproved, effective February5,1998,theStipulation, modiflied'only toreduceBrooklynUnion'searningscapfortheremaining yearsofitsrateplan.rUndertheStipulation, athree-year gasrateplancoveringtheperiodDecember1,1997throughNovember30,2000willbeimplemented bytheCompanywhichprovidesfor,amongotherthings,anestimated reduction incustomers'ills ofapproximately 3.9%,including fuelsavings,throughatleastNovember30,2000.Thisgasratereduction willoccurinthreephasesasfollows:(i)areduction inbaseratesofapproximately

$12.2'"million toreflectdecreases intheCompany's gascostofserviceeffective onFebruary5,1998;(ii)abaseratereduction ofapproximately

$6.2millionassociated withnon-fuelsavingsrelatedtotheKeySpanTransaction tobecomeeffective ontheclosingdateofthetransaction; and(iii)anexpectedreduction intheGasAdjustment Clause(GAC)toreflectannualfuelsavingsassociated withthetransaction estimated atapproximately

$4.0million,theactuallevelofwhichwillbereflected inratesifandwhentheyactuallymaterialize.'he Companywillbesubjecttoanearningssharingprovision pursuanttowhichitwillberequiredtocredittocore/firm customers 60%ofanyutilityearningsupto100basispointsabove11.10%and50%ofanyutilityearningsinexcessof12.10%oftheallowedreturnoncommonequity.Bothacustomerserviceandasafetyandreliability incentive performance programwilleimplemented effective December1,1997,withmaximumpre-taxreturnonequitypenalties of40and12basispoints,respectively, iftheCompanyfails'toachievecertainperformance standards intheseareas.TheStipulation, whichobligates theCompanytoreduceelectriccustomers'ills byapproximately 2.5%resulting fromthesavingsinoperating andfuelcosts,relatedtosynergysavings,alsodefersthetimewithinwhichthePSCmustactontheCompany's pendingelectricrateplanuntilJuly1,1998.However,anyreduction incustomers'ills wouldnotbecomeeffective untilthePSCsetstheCompany's electricrates.ForBrooklynUnion,effective onthedateoftheconsummation oftheKeySpanTransaction, BrooklynUnion'.sbaseratestocore/firm customers willbereducedby$23.9millionannually.

Inaddition, effective inthefiscalyearinwhichtheKeySpanTransaction isconsummated, BrooklynUnionwillbesubjecttoanearningssharingprovision pursuanttowhichitwillberequiredtocredittocore/firm customers 60%ofanyutilityearningsupto100basispointsabovecertainthreshold equityreturnlevelsoverthetermoftherateplan(otherthananyearningsassociated withdiscreteincentives) and50%ofanyutilityearningsinexcessof100basispointsabovesuchthreshold levels.Thethreshold levels,asmodifiedbytheFebruary5,1998Order,are13.75%forfiscalyear1998,-13.50%

forfiscalyears1999,<<II71 2000,and2001;and13.25'/0for,fiscal~year 2002.Asafetyandreliability incentive mechanism will'beimplemented effective ontheconsummation dateoftheKeySpanTransaction, withamaximum12basispointpre.-taxpenaltyreturn.-on commonequityifBrooklynUnionfailstoachievecertainsafetyandreliability.

performance standards.

Withtheexception ofthesimplification ofthecustomerserviceperformance standards, thecurrentBrooklynUnionrateplanapprovedbythePSCin1996remainsunchanged.

Anygascostsavingsallocable toBrooklynUnionresulting fromtheKeySyanTransaction willbe,reflected inratestoutilitycustomers throughtheGAC.asthosesavingsarerealized.

ITheStipulation adopts.certainaffiliate, transaction restrictionscost allocation andfinancial integrity conditions, andacompetitive codeofconduct.Theserestrictions andconditions eliminate orrelaxmanyrestrictions currently applicable toBrooklynUnioninsuchareasasaffiliate transactions, useofthenameandreputation ofBrooklynUnionbyunregulated affiliates, commonofficersofHoldCo,theutilitysubsidiaries andunregulatedlsubsidiaries, dividendpaymentrestrictions, andthecomposition oftheBoardofDirectors ofBrooklynUnion.RRIRI~TheStipulation alsoenables,theutilities toform,oneormoresharedservicessubsidiaries toperformfunctions commontobothutilities andtheiraffiliates, suchasaccounting, finance,humanresources, legal.andinformation systemsand.technology torealizesynergysavings,IRNote4.RateMatters,RlElectricInApril1996,thePSCissuedanorderdirecting the,Companytofilefinancial and.other information

.sufficient toprovidealegalbasisforsettingnewratesforthethree-year period1997through1999,Incompliance withtheorder,theCompanysubmitted amulti-year, rateplan(Plan)inSeptember 1996.MajorelementsofthePlaninclude:(i)abaseratefreezeforthethree-year periodDecember1,1996throughNovember,30, 1999;,(ii)anallowedreturnoncommonequityof11.0/0throughtheterm'ofthePlanwiththeCompanyfullyretaining.all earningsup,to12.66/o,andsharingwiththecustomeranyearningsabove12.66/0,(iii)thecontinuation ofexistingLRPPrevenueandexpensereconciliation mechanisms andperformance incentive programs; (iv)crediting allnetproceedsfromtheShoreham, propertytaxlitigation totheRMCtoreduceitsbalance;and(v)a.mechanism tofullyrecoveranyoutstanding.

RMCbalance.attheendofthe1999rate.yea'rthroughRinclusion intheFCA,overatwo-yearperiod.Pursuantto'theprovisions oftheStipulation discussed above,undertheheadingKeySpanEnergyCorporation Transaction, thePSChasuntilJuly1,1998torenderadecision'onthisfiling.Asan.interimmeasure,pendingtheconsummation oftheLIPA.Transaction ortheadjudication ofits=electricratefiling;theCompanysubmitted petitionsinkfay 1997and,December:1997 requesting PSCapprovaltoextend,throughtherateyearsendingNovember30,1996a'nd1997,respectively, theprovisions ofits1995electricrateorder(1995Order).Thesepetitionswere appiovedbythePSCinDecember1997and,April;1998; respectively.

RRII'~RR.1995ElectricRateOrder,Thebasis.ofthe1995Orderincludedminimizing futureelectricrateincreases whilecontinuing toprovidefortherecoveryoftheCompany's regulatory assetsandretaining consistency withtheRMA'sobjective ofrestoring theCompanytofinancial health.The1995Order,whichbecameeffective December1,1994,frozebaseelectricrates,reducedtheCompany's allowedreturnoncommonequityfrom11.6/0to11.0/0andmodifiedoreliminated certainperformance-based incentives, asdiscussed below.TheLRPP,originally approvedbythePSCinNovember1991,contained threemajorcomponents:

(i)revenuereconciliation; (ii)expenseattrition andreconciliation; and,(iii)performance-based incentives.

72 Inthe1995Order,thePSCcontinued thethreemajorcomponents oftheLRPPwithmodifications totheexpenseattrition andreconciliation mechanism andtheperformance-based incentives.

Therevenuereconciliation mechanism remainsunchanged.

Ievenuereconciliation providesamechanism thateliminates theimpactofexperiencing salesthatareaboveorbelowadjudicated levelsbyproviding afixedannualnetmarginlevel(definedassalesrevenues, netoffuelexpensesandgrossreceiptstaxes).Thedifference betweenactualandadjudicated netmarginlevelsaredeferredonamonthlybasisduringtherateyear.1Theexpenseattrition andreconciliation component permitstheCompanytomakeadjustments forcertainexpensesrecognizing thatthesecostincreases areunavoidable duetoinflation andchangesoutsidethecontroloftheCompany.Pursuanttothe1995Order,theCompanyispermitted toreconcile expensesforpropertytaxesonly,whereasundertheoriginalLRPPtheCompanywasabletoreconcile expensesforwagerates;propertytaxes,interestcostsanddemandsidemanagement (DSM)costs.TheoriginalLRPPhadalsoprovidedforthedeferralandamortization ofcertaincostvariances forenhancedreliability, production operations andmaintenance expensesandtheapplication ofaninflation indextootherexpenses.

Underthe1995Order,thesedeferrals have'been eliminated andany.unamortized balanceswerecreditedtotheRMCduring1995.Themodifiedperformance-based incentive programsincludetheDSMprogram,thecustomerserviceperformance programandthetransmission anddistribution reliability program.Undertheserevisedprograms, theCompanywassubjecttoamaximumpenaltyof38basispointsoftheallowedreturnoncommonequityandcouldearnupto4basispointsunderthecustomerserviceprogram.PursuanttotheStipulation, theCompany's customerserviceincentive programwasfurthermodifiedtoeliminate the4ispointrewardandincreased themaximumpenaltywhichcanbeincurredunderthetheseprogramsom38to62basispoints.Thepartialpass-through fuelincentive programremainsunchanged.

Underthisincentive, theCompanycanearnorforfeitupto20basispointsoftheallowedreturnoncommonequity.FortherateyearendedNovember30,1997,theCompanyearned12.7basispoints,orapproximately

$2.9million,netoftaxeffects,asaresultofitsperformance underallincentive programs.

FortherateyearsendedNovember30,1996and1995,theCompanyearned20and19basispoints,respectively, orapproximately

$4.3millionand$4.0million,respectively, netoftaxeffects,undertheincentive programsineffectatthosetimes.Thedeferredbalancesresulting fromthenetmarginandexpensereconciliations, andearnedperformance-based incentives arenettedattheendofeachrateyear,asestablished undertheLRPPandcontinued underthe1995Order.Thefirst$15millionofthetotaldeferralisrecovered fromorcreditedtoratepayers byincreasing ordecreasing theRMCbalance.Deferrals inexcessofthe$15million,uponapprovalofthePSC,arerefundedtoorrecovered fromthecustomers throughtPeFCAmechanism overa12-monthperiod.FortherateyearendedNovember30,1997,theamounttobereturnedtocustomers resulting fromtherevenueandexpensereconciliations, performance-based incentive programsandassociated carryingchargestotaled$4.1million.Consistent withthemechanics oftheLRPP,'itisanticipated thattheentirenceofthedeferralwillbeusedtoreducetheRMCbalanceuponapprovalbythePSCofthepany'sreconciliation filingwhichwassubmitted tothePSCinMarch1998.FortherateyearendedNovember30,1996,theCompanyrecordedanetdeferredLRPPcreditofapproximately

$14.5million73 whichwassubsequently appliedasareduction totheRMCuponthePSClsapproval.

oftheCompany's

~reconciliation filinginDecember1996.FortherateyearendedNovember301995,theCompanyrecordedanetdeferredcreditofapproximately

$41million.Thefirst$15millionofthedeferralwasappliedasareduction totheRMCwhiletheremaining portionofthedeferralof$26millionwillbereturnedtocustomers throughtheFCAwhenapprovedbythePSC.'IAnothermechanism oftheLRPP,providesthatearningsinexcessoftheallowedreturnoncommonequity,excluding theimpactsofthevariousincentive and/orpenaltyprograms, areusedtoreducetheRMC.FortherateyearsendedNovember30,1997,1996and1995,theCompanyearned$4.8million,$9.1million,and$6.2million,respectively, inexcessofitsallowedreturnoncommonequity.Theseexcessearningswereappliedasreductions totheRMC.hlIntheeventthattheLIPATransaction isnotconsummated,"

theCompanyiscurrently unabletopredicttheoutcomeoftheelectricrateproceeding currently before.thePSCanditseffect,ifany,ontheCompany's financial

position, cashflowsorresultsofoperations.

0.GasInMay1997,theCompanysubmitted apetitionrequesting PSCapprovaltoextendthroughtherateyearendingNovember30,1997,thegasexcessearningssharingmechanism established initspriorthree-year gasratesettlement agreement whichexpiredonNovember30,1996.Pursuanttothisrequest,earningsinexcessofareturnoncommonequityof11.0/0aretobeallocated equallybetweencustomers andshareowners withthecustomers'hare ofexcessearningscreditedtotheregulatory assetcreatedasaresultofcostsassociated withmanufactured gasplant(MGP)siteinvestigation andremediation costs.ThisrequestwasapprovedbythePSCinDecember1997.Asaresultofthismechanism, thecustomer' allocation ofexcessearningsamountedto$6.3millionfortherateyearendedNovember30,1997,andwillbeappliedtooffsetcostsincurredtoinvestigate andremediate MGPsites.Thepriorgasratesettlement providedthatearningsinexcessofa10.6/0returnoncommonequitybesharedequallybetweentheCompany's firmgascustomers anditsshareowners.

FortherateyearsendedNovember30,1996and1995,thefirmgascustomers'ortion ofgasexcessearningstotaledapproximately

$10millionand$1million,respectively.

In1997,theCompanywasgrantedpermission bythePSCtoapplythecustomers'ortion ofthegasexcessearningsandassociated carryingchargesforthe1996and1995rateyearstotherecoveryofdeferredcostsassociated withpost-retirement benefitsotherthanpensionsandcostsincurredforinvestigation andremediation ofMGPsites.4Note5.NineMilePointNuclearPowerStation,Unit2TheCompanyhasanundivided 18/0interestinNMP2,locatednearOswego,NewYorkwhichisoperatedbyNiagaraMohawkPowerCorporation (NMPC).TheownersofNMP2andtheirrespective percentage ownership areasfollows:theCompany(18/0),NMPC(41/0),NewYorkStateElectric&GasCorporation (18/0),'ochester GasandElectricCorporation (14/0)andCentralHudsonGas&ElectricCorporation (9/0).TheCompany's shareoftheratedcapability isapproximately 205MW.TheCompany's netutilityplantinvestment, excluding nuclearfuel,wasapproximately

$689millionatMarch31,1998,$710millionatMarch31,1997and$715millionatDecember31,1996.Theaccumulated provision fordepreciation, excluding decommissioning costs,wasapproximately

$196millionand$175millionatMarch31,1998and1997,respectively, and$169millionatDecember31,1996,Generation fromNMP2andoperating expensesincurredbyNMP2aresharedinthesameproportions asthecotenants'espective ownership interests.

TheCompanyisrequiredtoprovideitsrespective shareoffinancing foranycapitaladditions toNMP2.Nuclearfuelcostsassociated withNMP2arebeingamortized onthebasisofthequantityofheatproducedforthegeneration ofelectricity.

74 NMPChascontracted withtheUnitedStatesDepartment ofEnergyforthedisposalofspentnuclearfuel.TheCompanyreimburses NMPCforits18'/oshare,ofthecostunderthecontractatarateof$1.00permegawatthourofnetgeneration lessafactortoaccountfortransmission linelosses.Fortheyearendedarch31,1998andforthethreemonthsendedMarch31,1997,thistotaled$1.4millionand$0.4illion,respectively.

FortheyearsendedDecember31,1996and1995,thistotaled$1.4millionand$1.2million,respectively.

Asdiscussed inNote2,theLIPATransaction contemplates thatLIPAwillacquiretheCompany's 18/0interestinNMP2.NuclearPlantDecommissioning NMPCexpectstocommencethedecommissioning ofNMP2in2026,shortlyafterthecessation ofplantoperations, usingamethodwhichprovidesfortheremovalofallequipment andstructures andthereleaseofthepropertyforunrestricted use:TheCompany's shareofdecommissioning costs,basedupona"Site-Specific" 1995study(1995study),isestimated tobe$309millionin2026dollars

($155millionin1998dollars).

TheCompany's shareoftheestimated decommissioning costsiscurrently beingprovidedforinelectricratesandisbeingchargedtooperations asdepreciation expenseovertheservicelifeofNMP2.Theamountofdecommissioning costsrecordedasdepreciation expensefortheyearendedMarch31,'998andthethreemonthsendedMarch31,1997,totaled$2.2millionand$0.5million,respectively,,and

$3.9millionand$2.3millionfortheyearsendedDecember31,1996and1,995,respectively.

Theaccumulated decommissioning costscollected inratesthroughMarch31,1998and1997andDecember31,'1996amountedto$17.7million,$15.5millionand$14.9million,respectively.

TheCompanyhasestablished trustfundsforthedecommissioning ofthecontaminated portionoftheNMP2plant.Itiscurrently estimated thatthecosttodecommission thecontaminated portionoftheplantwillbeapproximately 76/oofthetotaldecommissioning costs.These.fundscomplywithregulations

'ssuedbytheNRCandtheFERCgoverning thefundingofnuclearplantdecommissioning costs.Thempany'spolicyistomakequarterly contributions tothefundsbasedupontheamountofecommissioning costsreflected inrates.AsofMarch31,1998,thebalanceinthesefunds,including reinvested netearnings, wasapproximately

$17.9million.useamountsareincludedontheCompany's BalanceSheetinNonutility PropertyandOtherInvestments.

Thetrustfundsinvestment consistsofU.S.Treasurydebtsecurities andcashequivalents.

Thecarrying amountsoftheseinstruments approximate fairmarketvalue.'IITheFASBissuedanexposuredraftin1996,entitled "Accounting forCertainLiabilities RelatedtoClosureorRemovalofLong-Lived Assets."Undertheprovisions oftheexposuredraft,theCompanywouldberequiredtochangeitscurrentaccounting practices fordecommissioning costsasfollows;(i)theCompany's shareofthetotalestimated decommissioning costswouldbeaccounted forasaliability, basedondiscounted futurecashflows;(ii)therecognition oftheliability fordecommissioning costswouldresultinacorresponding increasetothecostofthenuclearplantratherthanasdepreciation expense;and(iii)investment earningsontheassetsdedicated totheexternaldecommissioning trustfundwouldbbrecordedasinvestment incomeratherthanasanincreasetoaccumulated depreciation.

Discussions oftheissuesexpressed intheexposuredraftareongoing.IftheCompanywasrequiredtorecordthepresentvalueofitsshareofNMP2decommissioning costsonitsBalanceSheetasofMarch31,1998,theCompanywouldhavetorecognize aliability andcorresponding increasetonuclearplantofapproximately

$62million.Uponconsummation oftheLIPATransactiori,'LIPA willacquiretheCompany's interestinNMP2aswellasthetrustsreferredtoabove."'clearPlantInsurance PCprocurespublicliability andprop'erty insurance forNMP2,andtheCompanyreimburses NMPCforits18/0shareofthosecosts.75 ThePrice-Anderson Amendments Actmandatesthatnuclearpowerplantssecurefinancial protection in'heeventofanuclearaccident.

Thisprotection mustconsistoftwolevels.Theprimarylevelprovidesliability insurance coverageof$200million(themaximumamountavailable) intheeventofanuclearaccident.

Ifclaimsexceedthatamount,asecondlevelofprotection isprovidedthrougharetrospective assessment ofalllicensedoperating reactors.

Currently, this"secondary financial protection" subjectseachofthe110presently licensednuclearreactorsintheUnit'edStatestoaretrospective assessment ofupto$76millionforeachnuclearincident, payableataratenottoexceed$10millionperyear.The'ompany's interestinNMP2couldexposeittoamaximumpotential lossof$13.6million,perincident, throughassessments of$1.8millionperyearintheeventofaseriousnuclearaccidentatNMP2oranotherlicensedU.S;commercial nuclearreactor.Theseassessments aresubjecttoperiodicinflation indexingandtoa5'/0surcharge iffundsproveinsufficient topayclaims..II4NMPChasalsoprocured$500millionprimarynuclearpropertyinsurance withtheNuclearInsurance Poolsandapproximately

$2.3billionofadditional protection (including decontamination costs)inexcessoftheprim'arylayerthroughNuclearElectricInsurance Limited(NEIL).EachmemberofNEIL,including theCompany,'s alsosubjecttoretrospective premiumadjustments intheeventlossesexceedaccumulated reserves.

-ForitsshareofNMP2,theCompanycouldbeassesseduptoapproximately

$1.6millionperloss.Thislevelofinsurance isinexcessoftheNRCrequired$1.06billionofcoverage.

TheCompanyhasobtainedinsurance coveragefromNEILfortheextraexpenseincurredinpurchasing replacement powerduringprolonged accidental outages.Underthisprogram,shouldlossesexceedtheaccumulated reservesofNEIL,eachmember,including theCompany,wouldbeliableforifsshareofdeficiency.

TheCompany's maximumliability perincidentunderthereplacement powercoverage, intheeventofadeficiency, isapproximately

$0.7million.Note6.CapitalStockCommonStockCurrently theCompanyhas150,000,000 sharesofauthorized commonstock,ofwhich121,727,040 wereissuedand46,281shareswereheldinTreasuryatMarch31,1998.TheCompanyhas1,644,865 sharesreservedforsalethroughitsEmployeeStockPurchasePlan,2,829,968 sharescommitted totheInvestorCommonStockPlanand86,099sharesreservedforconversion oftheSeriesIConvertible Preferred Stockatarateof$17.15pershare.Inaddition, inconnection withtheShareExchangeAgreement, asdiscussed'in Note3,thbCompanyhasgrantedKeySpantheoptiontopurchase, undercertaincircumstances, 23,981,964 sharesofcommonstockatapr'iceof$19.725pershare.Inconnection withsuchoption,theCompanyhasreceivedshareowner approvaltoincreasetheauthorized sharesofcommonstockto160,000,000.

C'referred StockATheCompanyhas7,000,000 authorized shares,cumulative preferred stock,parvalue$100pershareand.,3P,000,000 authorized shares,cumulative preferred stock,parvalue$25pershare.Dividends onpreferred stockarepaidinpreference todividends oncommonstockoranyotherstockrankingjuniortopreferred stock.Preferred StockSubjecttoMandatory Redemption Theaggregate fairvalueofredeemable preferred stockwithmandatory redemptions atMarch31,1998and1997andDecember31,1996amountedtoapproximately

$675,$643and$637million,respectively, comparedtotheircarryingamountsof$639,$640and$640million,respectively.

Forafurtherdiscussion onthebasisofthefairvalueofthesecurities discussed above,seeNote1.76 EachyeartlieCompanyisrequired'to redeemcertainseriesofpreferred stockthroughtheoperation ofsinkingfundprovisions'as follows:"NumberofSharesRedemplion AmountshSeriesRedemlionProvision Beginning Ending6.875%SeriesUU...10/15/99,,10/15/19

~112,000,,

$2,800,000 1ltIl'heaggregate parvalu'eofpreferred stockrequiredtoberedeemedthroughsinkingfundsduringthefiscalyearendedMarch31,is$2.8million'in eachoftheyears2000,2001,2002and2003.TheCompanyalso,hasthenon-cumulative optiontodoublethenumberofsharestobe,redeemedpursuanttothesinkingfundprovisions inanyyearfor,thepreferred;stock seriesUU.TheCompanyisalsorequiredtoredeemallsharesofcertainseries'of preferred stockwhicharenotsubjecttosinkingfundrequirements.

Themandatory redemption requirements fortheseseriesareasfollows:Series".Redemption Dale'Numb'erofSitaresRedemption Amounts,$1.67Ser'ies'GG.

3/1/997.95%SeriesAA...-,6/1/00'7.05%SeriesQQ5/1/017.66%SeriesCC8/1/02880,00014,520,000 3,464,000 570,000$22,000,000

'63,000,000 86,600,000 57,000,000 Preferred StockSubject toOptionalRedemption

heCompany,has theoptiontoredeemcertainseriesofitspreferred, stock.Fortheseriessubjecttooptionalredemption at,March31,,1998,,the callpriceswereas'olio'ws:

',"~hgh'htlSeriesCalpPrice

-'edemption Amounts.00/0SenesB$101.00,$10,100,000 4.25%SeriesD102.00'7,140,000 4.35%SeriesE102.00~'20,400,000 4.35%SeriesFE102.00~'5,100,000 5'/,%SeriesH102.00.,20,400,000 5'/,%Series1-Convertible 100.001,474,300 7.40%SeriesL,,'102.07~,15,361,535

$1'.95'Serie'sNN6.95'1880300JtlaOn'April17,1998,the'Company exeicised itsoptiontoredeemitscallablepreferred stockand'calledforredemption onMay19,1998alloftheoutstanding sharesofthepreferred stockseriesnotedabove'oratotalof$122millionincluding approximately

$5millionofcallpremiums.

h'tPreference Stock.AtMarch31,1998,noneoftheauthorized 7,500,000 sharesofnonparticipating preference stock,parvalue$1pershare,whichranksjuniortopreferred stock,wereoutstanding.

>>Note7.Long-Term DebtG&RMortgageTheGeneralandRefunding l'G&R)BondsaretheCompany's onlyoutstanding securedindebtedness.,

The.G&RMortgageisalienon'substantially alloftheCompany's properties.

TheannualG&RMortgage, sinkingfundrequirement for1997,duenotlaterthanJune30,1998,isatedat$25million.Itisanticipated thatthisrequirement wi11besatisfied withretiredG&RBonds,erty'additions,'r

'ahnycombination'hereof.

77 Uponconsummation,.of theLIPATransaction, alloftheCompany's seriesofG&RBondswillbe,'ssumedbyLIPA.LIPAhasindicated thatitintendstoredeemallsuchG&RBondsassoonaspracticable aftertheclosingoftheLIPATransaction.

1989Revolving CreditAgreement TheCompanyhasavailable throughOctober1,1998,$250millionunderits1989Revolving CreditAgreement (1989RCA).ThislineofcreditissecuredbyafirstlienupontheCompany'.s accountsreceivable andfueloilinventories.

InFebruary1997,theCompanyutilized$30millionininterimfinancing underthe1989RCA,whichwasrepaidinMarch1997,and$40millioninJuly'1997, whichwasrepaidinAugust1997.AtMarch31,1998,noamountswereoutstanding underthe1989RCA.,TheCompanyhasfiled,withthelendinginstitutions, thedocumentation necessary toterminate the1989RCAeffective upontheclosingofthe,LIPAandKeySpanTransactions.

Authority Financing NotesAuthority Financing NotesareissuedbytheCompanytotheNewYorkStateEnergyResearchandDevelopment Authority (NYSERDA) tosecurecertaintax-exeinpt Industrial Development RevenueBonds,Pollution ControlRevenueBonds(PCRBs)andElectricFacilities RevenueBonds(EFRBs)issuedbyNYSERDA.Certainofthesebondsaresubjecttoperiodictender,atwhichtimetheirinterestratesmaybesubjecttoredetermination.

Tenderrequirements ofAuthority Financing NotesatMarch31,1998wereasfollows:(Inthousands ofdollars)InterestRateSeriesPrincipal TenderedPCRBsEFRBs8'/%3.58%3.70%3.70%3.70%3.70%3.55%19821985A,B1993A1993B1994A1995A1997A$17,200150,00050,00050,00050,00050,00024,880Tenderedeverythreeyears,nexttenderOctober2000TenderedannuallyonMarch1TenderedweeklyTenderedweeklyTenderedweeklyTenderedweeklyTenderedweeklyIThe1997,1995,1994and1993EFRBsandthe1985PCRBsaresupported bylettersofcreditpursuanttowhichtheletterofcreditbankshaveagreedtopaytheprincipal, interestandpremium,ifapplicable, intheaggregate, uptoapproximately

$408millionintheeventofdefault.Theobligation oftheCompany,toreimburse the,letterofcreditbanksisunsecured.

Theexpiration datesfortheselettersofcreditareasfollows:PCRBsEFRBsSeries1985A,B1993A,B1994A1995A1997AExiralionDale3/16/9911/17/9910/26/008/24/9812/30/98Priortoexpiration, theCompanyisrequiredtoobtaineitheranextension ofthelettersofcreditorasubstitute creditfacility.

Ifneithercanbeobtained, theauthority financing notessupported bylettersofcreditmustberedeemed.

Inaccordance withtheLIPAAgreement, LIPAwillassumesubstantially allofthetax-exempt authoritrfinancing notes.HoldCowillissueapromissory notetoLIPAforaportionofthetax-exempt debtborrowedtosupportLILCO'scurrentgasoperations, withtermsidentical tothosecurrently outstanding.

TheCompanycurrently estimates theamountofthispromissory notetobeapproximately

$250million.78 FairValu'esofLong-Term Debt8ThecarryingamountsandfairvaluesoftheCompany's long-term debtatMarch31,1998and1997andDecember31,1996wereasfollows:airlGeneralandRefunding BondsDebentures

'uthority Financing NotesTotalMarch31,1998$1,288,470 2,407,178 987,646$4,683,294 March31,1997$1,314,273 2,256,573 959,092$4,529,938

,.(Inthousands ofdollars)December31,1996$1,571,745 2,271,095 950,758$4,793,598 CarryingAmountGen'eralandRefunding BondsDebentures Authority Financing NotesTotal'arch31,1998$1,286,000 2,270,000 940,555$4,496,555 March31,1997=-$1,286,000

,2,270,000 916,675$4,472,675 (Inthousands ofdollars)December31,1996$1,536,000 2,270,000 916,675$4,722,675 Forafurtherdiscussion onthebasisofthefairvalueofthesecurities listedabove,seeNote1.DebtMaturityScheduleThetotallong-term debtmaturingineachofthenextfiveyearsendingMarch31isasfollows:1999,$10.1million;2000,$490million;2001,$1million;2002,$146million;and2003,$154million.,NoteS.Retirement BenefitPlansPensionPlansTheCompanymaintains adefinedbenefitpensionplanwhichcoverssubstantially allemployees (Primaryn),asupplemental planwhichcoversofficersandcertainkeyexecutives (Supplemental Plan)andatirementplanwhichcoverstheBoardofDirectors (Directors'lan).

TheCompanyalsomaintains

$401(k)plansforitsunionandnon-union employees towhichitdoesnotcontribute.

~PrimaryPlan,TheCompany's fundingpolicyistocontribute annuallytothePrimaryPlanaminimumamountconsistent withtherequirements ofthe.EmployeeRetirement IncomeSecurityActof1974,plussuchadditional amounts,ifany,astheCompanymaydetermine tobeappropriate fromtimetotime.Pensionbenefitsarebaseduponyearsofparticipation inthePrimaryPlanandcompensation.

ThePrimaryPlan'sfundedstatusandamountsrecognized, ontheBalanceSheetatMarch31,1998andMarch31,1997andDecember31,1996wereasfollows:(Inthousands ofdollars)March31,1998March31,1997December31,1996Actuarial presentvalueofbenefitobligation VestedbenefitsNonvested benefits$661,07559,268$642,39257,960$547,00255,157Accumulated BenefitObligation PlanassetsatfairvalueActuarial presentvalueofprojected benefitobligation Projected benefito'bligation less(greater) thanlanassetsrecognized netobligation recognized net(gam)Net(Accrued)

PrepaidPensionCost$700,352$602,159$720,343$919,100$744,400$746,400689,661825,159'07,70393,941(63,303)56,73962,652<<.69;399,"71,085(163034)'1,605)(123,759)

$(6,441)$4,491$4,0679 TheincreaseinthepresentvalueoftheaccruedbenefitatMarch31,1997comparedtoDecember31,1996,isdueprimarily tothechangeinthediscountratefrom7.25%to7.00%andtheuseofupdatedactuarial assumptions, relatingtomortality.

PeriodicpensioncostforthePrimaryPlanandthesignificant assumptions consisted ofthefollowing:

(Inthousands ofdollars)YearEndedThreeMonthsEndedYearEndedYearEndedMarch31,1998March31,1997December31,1996December31,1995Servicecost-benefitsearnedduringtheperiodInterestcostonprojected benefitsobligation andservicecostActualreturn'on'planassetsNetamortization anddeferral$21,11'456,379(200,025) 151,438$4,64512,494(3,694)(9,446)$17,38447,927(81,165)33,541$15,38545,987(102,099) 57,665NetPeriodicPensionCost$28,906$3,999$17,687$16,938March31,1998.March31,1997December31,1996December31,1995Discountrateforobligation DiscountrateforexpenseRateoffuturecompensation increases Long-term rateofreturnonassets7.00%7.00%4.50%85P%7.00%7.25%5PP%7.50%725%7.25%5.00%7.50%7.25%7.25%500%750%ThePrimaryPlanassetsatfairvalueincludecash,cashequivalents, groupannuitycontracts, bondsandequitysecurities.

In1993,thePSCissuedanOrderwhichaddressed theaccounting andratemaking treatment ofpensioncostsinaccordance withSFASNo.87,"Employers'ccounting forPensions."

UndertheOrder,theCompany.isrequiredtorecognize anydeferrednetgainsorlossesoveraten-yearperiodratherthanusingthecorridorapproachmethod.TheCompanybelievesthatthismethodofaccounting forfinancial reporting purposesresultsinabettermatchingofrevenuesandtheCompany's pensioncost.TheCompanydefersdifferences betweenpensionrateallowance andpensionexpenseundertheOrder.Inaddition, thePSCrequirestheCompanytomeasureandpayacarryingchargeonamountsinexcessofthepensionrateallowance andtheannualpensioncontributions contributed intothepensionfund.I'naddition, effective December1,1997,inaccordance withtheStipulation, theCompanydefersthedifference betweenthesumofgaspensionandgaspostretirement benefitcostsotherthanpensionandtheamountsprovidedforinrates,totheextentthatsuchdifferences areinexcessoforbelowthreepercentoftheCompany's pretaxnetincomefromitsgasoperations.

Suchexcesswillbetransferred toagasbalancing account.Forafurtherdiscussion oftheStipulation, seeNote3.Supplemental PlanTheSupplemental Planprovidessupplemental deathandretirement benefitsforofficersandotherkeyexecutives withoutcontribution fromsuchemployees.

TheSupplemental Planisanon-qualified planundertheInternalRevenueCode.Theprovision forplanbenefitstotaledapproximately

$0.7millionforthethreemonthsendedMarch31,1997and$2.7millionand$2.3millionfortheyearsendedDecember31,1996and1995,respectively.

FortheyearendedMarch31,1998,theCompanyrecordedachargeofapproximately

$31millionrelatingtocertainben'efits earnedbyitsofficersrelatingtothetermination oftheirannuitybenefitsearnedthroughthesupplemental retirement planandotherexecutive retirement benefits.

Thesecharges,thecostofwhicharebornebytheCompany's shareowners, resultfromprovisions oftheofficers'mployment contracts, including theChairman's employment

contract, andthependingtransactions withLIPAandKeySpanwhichaffectthetimingofwhenthesecostsarerecordei'0 Directors'Plan TheDirectors'Plan providesbenefitstodirectors whoarenotofficersoftheCompany.Directors whohaveservedinthatcapacityformorethanfiveyearsqualifyasparticipants undertheplan.TheDirectors'an isanon-qualified planundertheInternalRevenueCode.Theprovision forretirement

benefits, hichareunfunded, totaledapproximately

$132,000fortheyearendedMarch31,1998,$34,000forthethreemonthsendedMarch31,1997and$127,000and$114,000fortheyearsendedDecember31,1996and1995,respectively.

Postretirement BenefitsOtherThanPensionsInadditiontoproviding pensionbenefits, theCompanyprovidescertainmedicalandlifeinsurance benefitstoretiredemployees.

Substantially alloftheCompany,'s employees maybecomeeligibleforthesebenefitsiftheyreachretirement ageafterworkingfortheCompanyforaminimumoffiveyears.Theseandsimilarbenefitsforactiveemployees areprovidedbytheCompanyorbyinsurance companies whosepremiumsarebasedonthebenefitspaidduringtheyear.Effective January1,1993,theCompanyadoptedtheprovisions ofSFASNo.106,"Employers'ccounting forPostretirement BenefitsOtherThanPensions,"

whichrequirestheCompanytorecognize theexpectedcostofproviding postretirement benefitswhenemployeeservicesarerenderedratherthanwhenpaid.Asaresult,theCompany,in1993,recordedan'accumulated,postretirement benefitobligation andacorresponding regulatory assetofapproximately

$376million.ThePSCrequirestheCompanytodeferasare'gulatory assetthedifference betweenpostretirement benefitexpenserecordedforaccounting purposesinaccordance withSFASNo.106andthepostretirement benefitexpensereflected inrates.Theongoingannualpostretirement benefitexpensewasphasedintoandfullyreflected inratesbeginning December1,1996withtheaccumulated regulatory assettoberecovered inratesovera15-yearperiod,beginning December1,1997.Inaddition, theCompanyisquiredtorecognize anydeferrednetgainsorlossesoveraten-yearperiod.Inaddition, effective December1,1997,inaccordance withtheStipulation, theCompanydefersthedifference betweenthesumofgaspensionandgaspostretirement benefitcostsotherthanpensionandtheamountsprovidedforinrates,totheextentthatsuchdifferences areinexcessoforbelowthreepercentoftheCompany's pretaxnetincomefromitsgasoperations.

Suchexcesswillbetransferred toagasbalancing account.Forafurtherdiscussion oftheStipulation, seeNote3.VIn1994,theCompanyestablished Voluntary Employee's Beneficiary Association trustsfor'union andnon-union employees forthefundingofincremental costscollected inratesforpostretirement benefits.

TheCompanyfundedthetrustswithapproximately

$21millionfortheyearendedMarch31,1998,$5millionforthethreemonthsendedMarch'31, 1997and$18millionand$50millionfortheyearsendedDecember31,1996and1995,respectively.

InMay1998,theCompanyfundedanadditional

$250millionintothetrusts,representing obligations relatedtotheelectricbusinessunitemployees.

TheCompanysecuredabridgeloantofundthesetrusts.81 f)December31,1996$156,18156,950152,627$365,75874,692March31,1997March31,1998$169,65562,491183,526$157,38060,711140,850RetireesFullyeligibleplanparticipants Otheractiveplanparticipants

$358,941108,165$415,67280,533Accumulated postretirement benefitobligation PlanassetsAccumulated postretirement benefitobligation otherthanpensionsatMarch31,1998,March31;1997~andDecember31,1996wasasfollows:v(Inthousands odollarsAccumulated postretirement benefitobligation inexcessofplanassetsUnrecognized prior,servicecostsUnrecognized netgainAccruedPostretirement BenefitCost250,776(175)102,346$352,947335,139(185)'8,563

$363,517291,066(188)75,309$366,187TheincreaseinthepresentvalueoftheaccruedbenefitatMarch31,1997comparedtoDecember31,1996isduetothechangeinthediscountratefrom7.25%to7.00%andtheuseofupdatedactuarial assumptions relatingtomortality.

Thechangeintheaccumulated postretirement benefitobligation fromMarch31,1997toMarch31;1998reflectsadecreaseinthehealthcare costtrendratebasedontheCompany's reviewofthemedicalplancostexperience andalsorevisedassumptions withrespecttofuturecompensation increases, mortality andthepercentage ofemployees whoareassumedtobemarriedatthetimeofretirement.

AtMarch31,1998,March31,1997andDecember31,1996thePlanassets,'which arerecoidedatfairvalue,includecashandcash"equivalents, fixedincomeinvestments andapproximately

$100,000oflistedequitysecurities oftheCompany.Periodicpostretirement benefitcostotherthanpensionsandthe'significant assumptions consisted ofthefollowing:

f(Inthousands ofdollars)YearEndedThreeMonthsEndedYearEndedYearEndedMarch31,1998March31,1997December31,1996December31,1995Servicecost-benefits=earnedduringtheperiodInterestcostonprojected benefitsobligation andservicecostActualreturnonplanassetsNetamortization anddeferral$12,20427,328(6,632)(10,000)$2,8216,642(591)(3,446)$10,69025,030(3,046)(12,175)$9,08222,412(1,034)(14,699)NetPeriodicPensionCost$22,900$5,426$20,499$15,761March31,1998March31,1997December31,1996December31,1995Discountrateforobligation DiscountrateforexpenseRateoffuturecompensation increases Long-term rateofreturnonassets7.00%7.00%450%850%7.00%7.25PP%7.50%725%7.25%5PP%750%7.25%7.25%5P07.50%Theactuarial assumptions usedforpostretirement benefitplansare:(InIhousands ofdollars)March31,1998 March31,1997 December3l, 1996HealthcarecosttrendEffectofonepercentincreaseinhealthcarecosttrendrate:Oncostcomponents Onaccumulated benefitobligation (a)Peryearindefinitely (b)Gradually declining to6.0%in2001andthereafter.

500%(a)$7$428.00%(b)$1$598.00%(b)$5$4382 Note9.FederalIncomeTaxThesignificant components oftheCompany's deferredtaxassetsandliabilities calculated undertheprovisions ofSFASNo.109,"Accounting forIncomeTaxes,"wereasfollows:(Inthousands ofdollars)DeferredTaxAssetsNetoperating losscarryforwards Reservesnotcurrently deductible Taxdepreciable basisinexcessofbookNondiscretionary excesscreditsCreditcarryforwards OtherTotalDeferredTaxAssetsDeferredTaxLiabilities 1989Settlement Accelerated depreciation CallpremiumsRatecasedefer'rais OtherTotalDeferredTaxLiabilities NetDeferredTaxLiability 3/31/9839,66710,55924,85840,318261,729$377,131$2,169,909 650,56238,69856456,7622,916,495

'2,539,364 3/31/97$93,34956,74933,84827,037128,469225,885$565,337$2,165,462 642,65643,6172,57938,117'2,892,431

$2,327,094 12/31/96$145,20558,98134,314'7,700135,902186,907$589,009$2,163,239 642,70244,8462,12733,4962,886,410

$2,297,401 SFASNo.109requiresutilities toestablish regulatory assetsandliabilities fortheportionofitsdeferredtaxassetsandliabilities thathavenotyetbeenrecognized forratemaking,purposes.

Themajorcomponents oftheseregulatory assetsandliabilities areasfollows:(Intltousands ofdollars)Regulatory Assets1989Settlement lantitemsther,TotalRegulatory Assets3/31/98$1,652,412 100,661(15141)$1,737,932 3/31/97$1,659,065 120,460(12,361)$1,767,164 12/31/96$1,660>871 125,976(14,069)$1,772,778 Regulatory Liabilities Carryforward creditsOther$38,72040,193$64,548$68,42135,82934,466TotalRegulatory Liabilities

'78,913$100,377$102,887fThefederalincometaxamountsincludedintheStatement ofIncomedifferfromtheamountswhichresultfromapplyingthestatutory federalincometaxratetoincomebeforeincometax.The'table belowsetsforththereasonsforsuchdifferences.

.INI(Inthousands ofdollars)YearEndedThreeMonthsEnded"YearEndedYearEndedMarch31,1998March31,1997December31,1996December31,1995IncomebeforefederalincometaxStatutory federalincometaxrateStatutory federalincometaxAdditions (reductions) tnjegeralincometaxExcessofbookovertaxdepreciation 1989Settlement Interestcapitalized TaxcreditsTaxratechangeamortization hAIIowancc forfundsusedduringconstruction Otheritems$594,89335%$208,21317,9124,2122,962(2,464)2223(2,953)2,549$,I43,91035%$50,3694,3561,053588(940)815(583)555$525,72135%$184,00218,3394,2122,270(4,383)3,686(2,305)3,436$508,82435%$I78,08818,5884,2132,218(1,025)3,752(2,392)2,096otalFederalIncomeTaxExpensectlveFederalIncomeTaxRate$232,654$56,2I3$209,257~$205,538404%398%39,1%39.1%83 TheCompanycurrently hastaxcreditcarryforwards ofapproximately

$40million.-

Thisbalanceiscomposedofinvestment taxcredit(ITC)carryforwards, netofthe35/oreduction requiredbytheTaxReformActof1986,totalingapproximately

$31millionandresearchanddevelopment creditstotalingapproximately

$9million.In1990and1992,theCompanyreceivedRevenueAgents'eports disallowing certaindeductions andcreditsclaimedbytheCompanyonitsfederalincometaxreturnsfortheyears1981through1989.Asettlement resolving allauditissueswasreachedbetweentheCompanyandtheInternalRevenueServiceinMay1998.Thesettlement providedforthepaymentoftaxesandinterestofapproximately

$9millionand$35million,respectively, whichtheCompanymadeinMay1998.TheCompanyhadpreviously providedreservesadequatetocoversuchtaxesandinterest.

Note10.The1989Settlement InFebruary1989,theCompanyandtheStateofNewYorkenteredintothe1989Settlement resolving certainissuesrelatingtotheCompanyandproviding, amongothermatters,forthefinancial recoveryoftheCompanyandforthetransferofShorehamtoLIPA,anagencyoftheStateofNewYork,foritssubsequent decommissioning.

InFebruary1992,theCompanytransferred ownership ofShorehamtoLIPA.InMay1995,theNRCterminated LIPA'spossession-only licenseforShorehamwhichsignified theNRC'sapprovalthatdecommissioning wascompleteandthatthesiteissuitableforunrestricted use.Upontheeffectiveness ofthe1989Settlement, inJune1989,theCompanyrecordedtheFRAonitsBalanceSheetandtheretirement ofitsinvestment ofapproximately

$4.2billion,principally inShoreham.'or afurtherdiscussion oftheFRA,seeNote1.Pursuanttothe1989Settlement, theCompanywasrequiredtoreimburse LIPAforallofitscostsassociated withthedecommissioning ofShoreham.

ThePSChasdetermined thatallcostsassociated wiShorehamwhichareprudently incurredbytheCompanysubsequent totheeffectiveness ofthe1989Settlement aredecommissioning costs.TheRMAprovidesfortherecoveryofsuchcoststhroughelectricratesoverthebalanceofaforty-year periodending2029.AtMarch31,1998,Shorehampost-settlement coststotaledapproximately

$1.2billion,consisting of$587millionofpropertytaxesandpayments-in-lieu-of-taxes, and$568millionofdecommissioning costs,fueldisposalcostsandallothercostsincurredatShorehamafterJune30,1989.Note11.TheClassSettlement TheClassSettlement, whichbecameeffective inJune1989,resolvedacivillawsuitagainsttheCompanybroughtunderthefederalRacketeer Influenced andCorruptOrganizations Act.Thelawsuit,whichtheClassSettlement

resolved, hadallegedthattheCompanymadeinadequate disclosures beforethePSCconcerning theconstruction andcompletion ofnucleargeneratmg facilities.

eTheClassSettlement providestheCompany's electriccustomers

'withratereductions aggregating

$390millionthatarebeingreflected asadjustments totheirmonthlyelectricbillsoveraten-yearperiod'which beganonJune1,1990.Uponitseffectiveness, theCompanyrecordeditsliability fo'rtheClassSettlement onapresentvaluebasisat$170million.TheClassSettlement obligation atMarch31,1998reflectsthepresentvalueoftheremaining reductions toberefundedtocustomers.

Theremaining reductions tocustomers bills,amounting toapproximately

$130millionasofMarch31,1998,consistsofapproximately

$10millionforthetwo-month periodbeginning April1,1998,and$60millionforeachofthe12-monthperiodsbeginning June1,1998and1999.84 Npte12.Commitments andContingencies Electric,.

TheCompanyhasenteredintocontracts withnumerousIndependent PowerProducers (IPPs)andtheNewYorkPowerAuthority (NYPA)forelectricgenerating capacity.

Underthetermsoftheagreement with.,YPA,whichissettoexpireinMay2014,theCompanymaypurchaseupto100%oftheelectricenergy.producedattheNYPAfacilitylocatedwithintheCompany's serviceterritory atHoltsville, NY.TheCompanyisrequiredtoreimburse PYPAfortheminimumdebtservicepayments, andtomake,fixednon-energypaymentsandexpensesassociated withoperating andmaintaining theplant.Withrespecttocontracts enteredintowiththeIPPs,the,Companyjsob]igated topurchasealltheenergytheymakeavailable,to theCompanyatpricesthatoftenexceedcurrentmarketprices.However,theCompanyhasnoobligation totheIPPsiftheyfailtodeliverenergy,For,purposesofthetablebelow,theCompanyhasassumedfullperformance bytheIPPs,asnoeventhasoccurredtosuggestanythinglessthanfullperformance bytheseparties.*~,TheCompanyalsohascontracted withNYPAforfirmtransmission (wheeling) capacityinconnection withatransmission cablewhich'was constructed, inpart,for'heb'enefitoftheCompany.Inaccordance with'theprovisions ofthisagreement, whichexpir'e's'in 2020,'heCompanyisrequiredtoreimburse NYPAfordebtservicepaymentsandthecost'ofoperating and'maintaining thecables.Thecostofsuchcontracts isincludedinelectricfuelexpenseand,isrecoverable throughrates.IThefollowing tablerepresents theCompany's commitments underpurchased powercontracts.

4,ElectricOperations (Inmillionsofdollars)NYPAHoltsville l9'therFixed~FirmForthefiscalyearsendedDebtSerin'ceC/barges

.-.Energy~...

Transmission IPPsiTotalB900020012002'003Subsequent YearsTotal$196.4200.8207.2214.2'13.52$14.7$6.7$25.7$127.6,21.713.7,6.7,26.0,,,132.721.814.67.227.8135.821.9"16.3',."8.727.8139.522.0"16.7,",',9.0'27.9137.9,,232.4,217.1.,119.8,474,0..957.5',,000.8$341.5$293.1$158.1$609.2,~$1,631.0$3,032.9Less:lmpu'te'd Interest'"$166.8$154.1$85.3"$381.9"'805.2'$1,593.3PresentValueofPayments$174.7$139.0'72.8

"$227.3'$825.8"~~$1,439.6'Assumesfullperformance bytheIPPsandJIYPA.-GasHInordertoprovideforsufficient suppliesofg'as'for'the Company's gascust'omers,

'theCompanyhasenteredintolong-term firmgastransportation, storageandsupplycontracts whichco'ntainprovision's thatrequiretheCompanytomakefixedpayments(demandcharges)eveniftheservicesarenotfullyutilized.

Thecostofsuchcontracts is,included.

ingasfuel,expense andisrecoverable throughrates.The.tablebelowsetsforththeCompany's aggregate obligation underthesecommitments whichextendthrough,2014.Gas0erationsInmillionsofdollarsForthefiscalyearsended1999$111.732000110.372001'i,101.33,

,2002,,:97.8120031.69SubseuentYears'71.20Total~$884.'13Less:ImutedInterest.

258.45PresentValueofPaments$625.6885 Competitive Environment Theelectricindustrycontinues toundergofundamental changesasregulators, electedofficials andcustomers seeklowerenergyprices.Thesechanges,whichmayhaveasignificant impactonfuturefinancial performance ofelectricutilities, arebeingdrivenbyanumberoffactorsincluding aregulatory environment inwhichtraditional cost-based regulation isseenasabarriertolowerenergyprices.In199and1998,boththePSCandtheFERCcontinued theirseparate, butmsomecasesparallel, initiatives withrespecttodeveloping aframework foracompetitive electricmarketplace.

TheElectricIndustry-StateRegulatory IssuesIn1994,thePSCbegantheseco'ndphaseofitsCompetitive Opportunities Proceedings toinvestigate issuesrelatedtothefutureoftheregulatory proces'sinanindustrywhichismovingtowardcompetition.

ThePSC'soverallobjective wastoidentifyregulatory andratemaking practices thatwouldassistNewYorkStateutilities inthetransition toamorecompetitive environment designedtoincreaseefficiency inproviding electricity whilemaintaining safe,affordable andreliableservice.AsaresultoftheCompetitive Opportunities Proceedings, inMay1996,thePSCissuedanorder(Order)whichstateditsbeliefthatintroducing competition totheelectricindustryinNewYorkhasthepotential toreduceelectricratesovertime,increasecustomerchoiceandencourage economicgrowth.TheOrdercalledforacompetitive wholesale powermarkettobeinplacebyearly1997tobefollowedbytheintroduction ofretailaccessforallcustomers byearly1998.ThePSCstatedthatcompetition shouldbetransitioned onanindividual companybasis,duetodifferences inindividual serviceterritories, thelevelandtypeofstrandable investments (i.e.,coststhatutilities wouldhaveotherwise recovered throughratesundertraditional costofserviceregulation that,undermarketcompetition, wouldnotberecoverable) andutilityspecificfinancial conditions.

TheOrdercontemplates thatimplementation ofcompetition willproceedontwotracks.TheOrderrequiresthateachmajorelectricutility(excepttheCompanyandNiagaraMohawkPowerCorporation) filearate/restructuring planwhichisconsistent withthePSC'spolicyandvisionforincreased competition.

Thoseplansweresubmitted byOctober1,1996,incompliance withtheOrder.However,theCompanywasexemptedfrom:this requirement duetothePSC'sseparateinvestigation oftheCompany's ratesandLIPA'sexamination oftheCompany's structure.

ThePSChasnowapprovedsettlement agreements witheachofthefiveNewYorkutilities thatwererequiredIofilerestructuring plansintheCompetitive Opportunities Proceeding.

LILCOandNiagaraMohawkwereexempthowever,onFebruary18,1998thePSCalsoapprovedasettlement agreement ontheNiagaraMohawkPowerChoice restructuring proposalthathadbeenfiledinOctober1995.Ingeneral,theterm'softheagreements varyfromthreeto'fiveyearswithallagreements callingforsomeratereductions, structural separation ofthegeneration andpowerdeliveryfunction, divestiture offossilgeneration, fullretailaccessintwotofouryears,andtheimposition ofasystembenefitschargetocoverthecostsofresearchanddevelopment (R&D),conservation, low-income andenvironmental programs.

Ineachcase,thePSCisgivingtheutilityareasonable opportunity torecoverallprudently-incurred strandedcosts.ThePSCOrderalsoanticipated thatcertainotherfilingswouldbemadeonOctober1,1996,byallNewYorkStateutilities, toboththePSCandtheFERC.Thefilingsweretoaddressthedelineation oftransmission anddistribution facilities jurisdiction betweentheFERCorthePSC,apricingofeachcompany's transmission

services, andajointfilingbyalltheutilities toaddresstheformation ofanIndependent SystemOperator(ISO)andthecreationofamarketexchangethatwillestablish spotmark86 prices.Althoughtherewereextensive collaborative meetingsamongtheparties,itwasnotpossiblefortheadditional filingstobecompleted byOctober1,1996.OriDecember31,1996,theNewYorkPowerPoolmemberssubmitted acompliance filingtotheFERCwhichprovidesopenmembership andomparable servicestoeligibleentitiesinaccordance withFERCOrder888,discussed below.TheNeworkStateutilities submitted thefullISO/Power ExchangefilingtotheFERGinJanuary1997,whichproposestoestablish acompetitive wholesale marketplace inNewYorkStateforelectricenergyandtransmission pricingatmarket-based rates.Subsequent totheFERCfilinginJanuary1997,theNewYorkStateutilities madethreerelatingfilingswiththeFERC:(i)asupplemental filing,providing additional detailsregarding thecreationofaNewYorkStateReliability Council,inMay1997;(ii)arequestformarket-based rateauthority, bysixoftheNewYorkutilities, inAugust1997;and(iii)asupplemental filingwiththeFERConDecember19,1997whichexpandsuponandprovidesadditional detailswithrespecttotheJanuary1997filing.ThePSChastakenthepositionthatafullyoperational wholesale competitive structure willfosterthe'xpeditious movementtofullretailcompetition.

ThePSC'svisionoftheretailcompetitive structure, knownastheFlexibleRetailPoolcoModel,consistsof:(i)thecreationofanISOtocoordinate thesafeandreliableoperation ofelectricgeneration andtransmission; (ii)openaccesstothetransmission system,whichwouldberegulated bytheFERC;(iii)thecontinuation ofaregulated distribution companytooperateandmaintainthedistribution system;(iv)thederegulation ofenergy/customer servicessuchasmeterreadingandcustomerbilling;(v)theabilityofcustomers tochooseamongsuppliers ofelectricity; and(vi)theallowance ofcustomers toacquireelectricity eitherbylong-term contracts, purchases onthespotmarket,or,acombination ofthetwo.Oneissuediscussed intheOrderthatcouldaffecttheCompanyisstrandable investments.

ThePSCstatedinitsOrderthatitisnotrequiredtoallowrecoveryofallprudently-incurred investments, that,ithasnsiderable discretion tosetratesthatbalanceratepayer andshareholder interests, andthattheamountofandableinvestments thatautilitywillbepermitted torecoverwilldependontheparticular circumstances ofeachutility.Additionally, theOrderprovidedthateveryeffortshouldbemadebyutilities tomitigatethesecostspriortoseekingrecovery.

hCertainaspectsoftherestructuring envisioned bythePSC-particularly thePSC'sapparentdeterminations thatitmaydenytheutilities recoveryofprudentinvestments madeonbehalfofthepublic,orderretailwheeling, requiredivestiture ofgeneration assets,andderegulate certainsectorsoftheenergymarket-could,ifimplemented, haveanegativeimpactontheoperations andfinancial conditions ofNew,York'sinvestor-owned electricutilities, including.

theCompany.TheCompanyispartytoalawsuitcommenced inSeptember 1996bytheEnergyAssociation ofNewYorkStateandthestate'sotherinvestor-owned electricutilities (collectively, Petitioners) againstthePSCinNewYorkSupremeCourt,AlbanyCountyTheEnerAssociation ofNewYorkStateetal.v.PublicServiceCommission oftheStateofNewYorketal..ThePetitioners haverequested thattheCourtdeclarethattheOrderisunlawfulor,inthealternative, thattheCourtclarifythatthePSC'sstatements intheOrderconstitute simplyapolicystatement withnobindinglegaleffect.InNovember1996,the,CourtissuedaDecisionandOrderdenyingthePetitioners'equest toinvalidate theOrder.AlthoughtheCourtstatedthatmostoftheOrderisanon-binding statement ofpolicy,theCourtrejectedthePetitioners'ubstantive challenges totheOrder.InDecember1996,thePetitioners filedanoticeofappealwiththeThirdDepartment oftheAppellate DivisionoftheNewYorkStateSupremeCourt;Thelitigation isoingandtheCompanyisunableatthistimetopredictthelikelihood ofsuccessortheimpactoftheationontheCompany's financial

position, cashflowsorresultsofoperations.

AttherequestoftheI87 EnergyAssociation andPublicUtilityLawProjectofNewYork(PULP),theCourthasextendeddhe tiradeinwhichtheEnergyAssociation andPULPmustperfecttheirappealsuntilJuly6,1998.TheElectricIndustry-FederalRegulatory IssuesInApril1996,inresponsetoitsNoticeofProposedRulemaking issuedinMarch1995,theFERCissuedOrders8S8and889relatingtothedevelopment ofcompetitive wholesale electricmarkets.Order888isafinalruleonopentransmission accessandstrandedcostrecoveryandprovidesthatthe'ERChasexclusive jurisdiction overinterstate wholesale wheelingandthatutilitytransmission systemsmustnowbeopentoqualifying sellersandpurchasers ofpoweronanon-discriminatory basis.Order888allowsutilities torecoverlegitimate, prudentandverifiable strandedcostsassociated withwholesale transmission, including thecircumstances wherefullrequirements customers becomewholesale transmission customers, suchaswhereamunicipality establishes itsownelectricsystem.Withrespecttoretailwheeling, theFERCconcluded thatithasjurisdiction overrates,termsandconditions ofservice,butwouldleavetheissueofrecoveryofthecostsstrandedbyretailwheelingtothestates.Order888requiredutilities tofileopenaccesstariffsunder'which theywouldprovidetransmission

services, comparable t'othosewhichthey'rovide tothemselves andtothirdpartiesonanon-discriminatory basis.Additionally, utilities mustusethesesametariffsfortheirownwholesale sales.Order8SS-A,issuedinMarch1997,generally reaffirmed theFERC'sbasicdetermination inOrder888.Onepertinent changemadeinS88-A,however,wasthattheFERC,asopposedtothestates,willbetheprimaryforumfordetermining strandedcostsincasesinvolving municipal annexation.

OrderSSS-B,issuedNovember1997,reaffirmed 888-A'sfindings.

TheCompanyfileditsopenaccesstariffinJuly1996.InSeptember 1996,theFERCorderedRateHearingson28utilitytransmission tariffs,including theCompany's.

Onthebasisofapreliminary review,theFERCwasnotsatisfied thatthetariffrateswerejustandreasonable.

Settlement discussions havebeenheldbetweentheCompanyandvariousintervenors concerning theCompany's transmission rates.InDecember1996,thepartiesreachedatentative settlement ontherateissues.OnMay14,1997,theFERCapprovedthesettlement agreement thattheCompanyfiled(withfiveotherentities) concerning theratesfortheCompany's openaccesselectrictariff.Theeffective dateforthoserateswasJuly9,1996.TheCompanyandfourotherNewYork'utilities areseekingreviewofcertainnon-rateaspectsoftheFERC'sopenaccesstransmission tariffordersintheU.S.CourtofAppealsfortheD.C.Circuit.Order889,'hich'is afinalruleonatransmission pricingbulletinboard,addresses therulesandtechnical standards foroperation ofanelectronic bulletinboardthatwillmakeavailable, onareal-time basis,theprice,availability andotherpertinent information concerning eachtransmission utility's services.

Italso"addresses standards ofconducttoensurethattransmission utilities functionally separatetheirtransmission andwholesale powermerchantfunctions topreventdiscriminatory self-dealing.

InDecember1996,theCompanyfileditsstandards ofconductinaccordance withtheOrder.Order889-Aand889-B,issuedinMarchandNovember1997,respectively, generally reaffirmed andclarified theoriginalOrder889.Order889-Aimplemented newdiscounting policiesandrequiredthatnegotiations betweenatransmission providerandapotential customertakeplaceonthetransmission pricingbulletinboardandbevisibletoall.88 Itisnotpossibletopredicttheultimateoutcomeoftheseproceedings, thetimingthereof,orthe'amount, jfany,ofstrandedcoststhatthe.Companywouldrecoverinacomp'etitive environment.

Theoutcomeofthestateandfederalregulatory proceedings couldadversely affecttheCompany's abilitytoapplySFASNo.1,"Accounting fortheEffectsofCertainTypesofRegulation,"

which,pursuanttoSFASNo.101,ccounting forDiscontinuation ofApplication ofSFASNo.71,"couldthenrequireasignificant write-downofalloraportionoftheCompany's netregulatory assets.TheCompany's ServiceTerritory TheCompany's geographic locationandthelimitedelectrical interconnections toLongIslandservetolimitthe.accessibility ofitstransmission gridtopotential competitors fromoffthesystem.However,thechangingutilityregulatory environment hasaffectedtheCompanybyrequiring theCompanytoco-existwithstate'and federally mandatedcompetitors, non-utility generators (NUGs).ThePublicUtilityRegulatory PoliciesActof1978(PURPA),thegoalsofwhicharetoreducetheUnitedStates'ependency onforeignoil,toencourage energyconservation andtopromotediversification ofthe=fuelsupply,hasnegatively impactedthe'Company throughtheencouragement oftheNUGindustry.

ThePURPAprovidesforthedevelopment ofanewclassofelectricgenerators whichrelyoneithercogeneration technology oralternate fuels.Utilities areobligated underthePURPAtopurchasetheoutputofcertainofthesegenerators, whichareknownasqualified facilities (QFs).FortheyearsendedMarch31,1998and1997,theCompany.lostsalestoNUGstotaling447and422gigawatthours(GWh)representing alossinelectricrevenuesnetoffuel(netrevenues) ofapproximately

$36millionand$34million,respectively or2.0/oand1.9/0oftheCompany's netrevenue's, respectively.

FortheyearendedDecember31,1996,theCompanylostsalestoNUGstotaling422GWh~epresenting asinelectricnetrevenuesofapproximately

$34million,or1.9/0oftheCompany's netrevenues.

ForyearendedDecember31,1995,theCompanylostsalestoNUGstotaling366GWhorapproximately 28millionor1.5'/0oftheCompany's netrevenues.

'lTheincreaseinlostnetrevenues'esulted principally fromthecompletion ofsevenfacilities thatbecamecommercially operational during1996andthefullyearoperation oftheIPPlocatedattheStateUniversity ofNewYorkatStonyBrook,NY.TheCompanyestimates thatin1999saleslossestoNUGswillbe447GWh,orapproximately 1.8/0ofprojected netrevenues,

TheCompanybelievesthatloadlossesduetoNUGshavestabilized.

ThisbeliefisbasedonthefactthattheCompany's customerloadcharacteristics, whichlackasignificant industrial baseandrelatedlargethermalload,willmitigateloadlossandtherebymakecogeneration economically, unattractive.

Additionally, asmentioned above,theCompanyisrequiredtopurchaseallthepowerofferedbyQFs,whichfortheyearsendedMarch31,19)8and1997,approximated 220megawatts (MW)and226MW,respectively.

TheCompanyestimates thatpurchases fromQFsrequiredbyfederalandstatelawcosttheCompany$71millionand$64millionin1998and1997,respectively, morethanitwouldhavecosthadtheCompanypurchased thepowerintheopenmarketorgenerated it.FortheyearsendedDecember31,1996and1995,QFsofferedapproximately 218MWand205MW,respectively.

TheCompanyestimates thatpurchases fromQFsrequiredbyfederalandstatelawcosttheCompany$63millionand$5$millionfortheyearsendedDecember31,1996and1995,respectively, thanitwouldhavecosthadtheCompanypurchased thepowerin,theopenmarket"or generated it.89 QFshavethechoiceofpricingsalestotheCompanyateitherthePSC'spublished estimates ofthe'-Company's long-range avoidedcosts(LRAC)ortheCompany's tariffrates,whicharemodifiedfromtimetotime,reflecting theCompany's actualavoidedcosts.Additionally, untilrepealedin1992,NewYorkStatelawsetaminimumpriceofsixcentsperkilowatt-hour,(kWh) forutilitypurchases ofpowerfromcertaincategories ofQFs,considerably abovetheCompany's avoidedcost.Thesixcentminimumcontinues toapplytocontracts enteredintobeforeJune1992.TheCompanybelievesthattherepealof'hesixcentminimum,coupledwithrecentPSCupdateswhichresultedinlowerLRACestimates, hassignificantly reducedtheeconomicbenefitsofconstructing newQFswithinitsserviceterritory.

TheCompanyhasalsoexperienced arevenuelossasaresultofitspolicyofvoluntarily providing wheelingofNewYorkPowerAuthority (NYPA)powerforeconomicdevelopment.

TheCompanyestimates thatfortheyearsendedMarch31,1998and1997,NYPApowerdisplaced approximately 373GWhand424GWhofannualenergysales,respectively.

Netrevenuelossassociated withthesevolumesofsalesisapproximately

$23million,or1.2~/ooftheCompany's 1998netrevenues, and$27million,or1.5/ooftheCompany's 1997netrevenues.

Currently, thepotential lossofadditional loadislimitedbyconditions inthe'Company's transmission agreements withNYPA.TheCompanyestimates thatfortheyearsendedDecember31,1996and1995,NYPApowerdisplaced approximately 417GWhand429GWhofannualenergysales,respectively, Netrevenuelossassociated withthesevolumesofsalesisapproximately

$26million,or1.4~/ooftheCompany's 1996netrevenues, and$30million,or1.6o/ooftheCompany's 1995netrevenues.

Anumberofcustomergroupsareseeking;to hastenconsideration andimplementation offullretailcompetition.

Forexample,anenergyconsultant haspetitioned thePSC,seekingalternate sourcesofpowerforLongIslandschooldistricts.

TheCountyofNassauhasalsopetitioned thePSCtoauthorize retailwheelingforallclassesofelectriccustomers inthecounty.,Inaddition, severaltownsandvillagesonLongIslandareinvestigating municipalization, inwhichcustomers formagovernment-sponsored electricsupplycompany.Thisisoneformofcompetition thatislikelytoincreaseasaresultoftheNationalEnergy,PolicyActof1992(NEPA).NEPAsoughttoincreaseeconomicefficiency inthecreationanddistribution ofpowerbyrelaxingrestrictions ontheentryofnewcompetitors tothewholesale electric.

powermarket.NEPAdoessobycreatingexemptwholesale generators thatcansellpowerinwholesale marketswithouttheregulatory constraint placedonutilitygenerators suchasontheCompany.NEPAalsoexpandedtheFERC'sauthority tograntaccesstoutilitytransmission systemstoallpartieswhoseekwholesale wheelingforwholesale competition.

WhileitshouldbenotedthattheFERC'spositionfavoringstrandedcostrecoveryfromretailturnedwholesale customers willreduceutilityriskfrommunicipalization, significa'nt issuesassociated withtheremovalofrestrictions onwholesale transmission systemaccesshaveyettoberesolved.

TherearenumeroustownsandvillagesintheCompany's serviceterritory thatareconsidering theformation ofamunicipally-owned andoperatedelectricauthority toreplacetheservicescurrently providedbytheCompany.tr,sIn1995,SuffolkCountyissuedarequestforproposalfromsuppliers forupto300MWofpowerwhichtheCountywouldthenselltoitsresidential andcommercial customer'.

TheCountyhasawardedthebidtotwooff-LongIslandsuppliers:and hasrequested theCompanytodeliverthepower.AftertheCompanychallenged SuffolkCounty'seligibility-for suchservice,theCountypetitioned theFERCtoordertheCompanytoprovidetherequested transmission service.~90 InDhcemB'er 1996,the'FERCorderedtheCompanytoprovidetransmission servicesto'Suffolk Countytotheextentnecessary toaccommodate proposed.

salestocustomers towhichitwasproviding serviceonthedateofenactment ofNEPA(thisOrdercouldprovideSuffolkCountywiththeabilitytoimportupto200Wofpoweronadailybasis).TheFERCreserveddecisionontheremaining.100 MWofSuffolkounty'srequestuntiltheCountyidentifies theownership orcontrolofdistribution facilities thatitallegesqualifies itforawheelingordertoSuffolkCountycustomers whowerenotreceiving serviceonthedateofNEPA'senactment.

TheCompanymayasktheFERCtoreconsider itsdecisiononcethatdecisionbecomesfinal;whichisnotexpectedfoxseveralmonths.TheCompanyandSuffolkCountysubmitted briefsinJuly1997addressing thepricingforthe200MWofpower.TheFERChasyettodetermine thepricingof.thatservice.Aspreviously noted;FERC'Order 888allows'utilities torecoverlegitimate, pruderitandverifiable strandedcostsassociated" withwholesale transmission,'ncluding thecircumstances wherefullrequirements customers'.become wholesale transmission customers, such'aswhereamunicipality establishes itsownelec'tric system'.'t tttIt')Themattersdiscussed aboveinvolvesubstantial social;economic, legal,environmental'and financial issues.TheCompany;is,opposed toanyproposal.

thatmerelyshiAscostsfromonegroupofcustomers toanother,thatfailstoenhancetheprovision ofleast-cost, efficiently-generated electricity orthatfailstoprovidetheCompany's shareowners withanadequatereturnonandrecoveryoftheirinvestment.

TheCompanyisunabletopredictwhataction,ifany,thePSCortheFERCmaytakeregarding anyofthesematters,ortheimpactontheCompany's financial

position, c'ashflowsor'esults ofoperations ifsomeorallofthesemattersareapprovedorimplemented bytheappropriate regul'atory authority'.

Notwithstanding theoutcomeofthestateorfederalregulatory proceedings, oranyotherstateaction,theCompanybelievesthat,amongotherobligations, theStatehasacontractual obligation toallowtheCompanytorecover'its Shoreham-related ass'ets.Flh)gttAkvironmental MattersTheCompanyissubjecttofederal,stateandlocallawsandregulationsŽdealing with'airandwaterqualityandotherenvironmental matters.Environmental matte'rsmayexposetheCompanytopotential liabilities which,incertaininstances, maybeimposed'without regardtofaultorforhistorical activities whikhwere"lawfulatthe'timetheyoccurred.

'heCompan'ycontinually monitorsitsactivities inordertodetermine theimpactofitsactivities ontheenvironment andtoensurecompli'ance withvarious'environmental laws.Exceptassetforthbelow,nomater'ial proceedings havebeencommenced or,totheknowledge oftheCompany,arecontemplated againsttheCompanywithrespecttoa'ymatterrelating-to theprotection oftheenvironment.

4vTheNewYorkStateDepartment ofEnvironmental Conservation (DEC)hasrequiredtheCompanyandotherNewYorkStateutilities'to investigate and,where'necessary,

're'mediate theirformermanufactured gasplant(MGP)sites.-Currently, theCompanyisthe'ownerofsixpiecesofpropertyonwhichtheCompanyorcertainofitspredecessor companies arebelievedtohaveproduce'd manufactured gas.Operations atthesefacilities'in thelate1800'sandearly1900'smayhaveresultedinthe'disposal ofcertainwasteproductsonthese sites.'"t\TheCompanyhasenteredintodiscussions withtheDECwhichisexpectedtoleadtotheissuanceofoneormoreACOsregarding themanagement ofenvironmental activities atthesesixproperties.,

AlthoughtheexactamountoftheCompany's cleanupcostscannot'yet bedetermined, based'onthefindingsof'inaryinvestigations conducted ateachofthesesixsites,currentestimates indicatethatitmaycostximately$54to$92milliontoinvestigate andremediate allofthesesites.Inconsidering therangeoossibleremediation estimates, theCompany'felt ita'ppropriate torecorda$54millionliability tt191 reflecting the,presentvalue-ofthe,futurestreamofpaymentsamounting to$70milliontoinvestigate and.remediate thesesites."The,Companyused.arisk-free, rateof6.0/otodiscount.

thisobligation.

TheCompany.believesthat,thePSCw'illprovideforfuturerecoveryofthesecostsandhasrecordeda$54millionregulatory'ass'et.

The.Company's ratesettleinent which'the PSCapproved'February 4,:1998as'discussed in,Note3:o'fNotes'toFinancial Statements, allowsfortherecoveryofMGPexpenditures from~gascustomers.

~rrh'rrInDecember,1996, theCompanyfiledacomplaint inthe,UnitedStatesDistrictCourtfortheSouthern,,

DistrictofNewYorkagainst,14 oftheCompany,'s insuredswhichissuedgeneralcomprehensive liability (GCL)policiestotheCompany."

InJanuary1998;theCompanycommenced asimilaractionagainstthesameandcertainadditional insurerdefendants inNewYorkStateSupremeCourt,First33epartment; the-federalcourtactionwassubsequently dismissed inMarch1998..The,Company isseekingrecovery.

under.theGCLpoliciesforthecostsincurredtodateandfuturecostsassociated withtheclean-upoftheCompany's formermanufactured gasplant(MGP)sitesandSuperfund sitesforwhichtheCompanyhasbeennameda,PRP:TheCompanyisseekingadeclaratory judgmentthatthedefendant insurersare"bound.bythe.termsofthe,GCLpolicies, subjecttothestatedcoveragelimits,toreimburse theCompany'or thecleanupcosts.The'outcome ofthisproceeding cannotyetbedetermined.

rrt'riTheCompanyhasbeennotifiedbytheUnitedStatesEnvironmental Protection Agency(EPA)thatit-isoneofmany+/Psthatmaybeliablefortheremediation ofthreelicensedtreatment, storageanddisposalsitestowhichtheCompanymayhaveshippedwasteproductsand.which.

havesubsequently becomeenvironmentally contaminated.

II,rAtonesite,locatl;dinPhiladelphia, Pennsylvania, andoperatedbyMetal.BankofAmerica,.the Company.andnineotherPRPs,allofwhicharepublicutilities, completed performance ofaRemedialIpvestigation andFeasibility Study(RI/FS),whichwasconducted underanACOwiththeEPA.InDecember1997,EPAissueditsRecordofDecision(ROD),settingforththefinalremedialactionselected'or thissite.theROD,the;EPAe'gtimated that,thepresentcostoftheselectedremedyforthesiteis$17.3million..

Atthistime;theCompanycannot predict.with,reasonable certainty, the.actual.costoftheselectedremedy,'howill,implement theremedy,orthecost,ifany,totheCompany.,Under aPRPparticipation agreement, the~Company previously wasresponsible for8.2/oofthecostsassociated withtheRI/FS.~TheCompany,'s,allocable shareofliability for.theremediation activities hasnot'yetbeen:determined; TheCompany,hasrecordedaliability ofapproximately.

$1millionrepresenting itsestimated shareofthecosttoremediate,this site;-based uponits8.2'/0responsibility undertheRI/FS;TheCompanyhasalsobeennamedaPRPfordisposalsitesinKansasCity,Kansas,andKansasCity,Missouri.

ThetwositeswereusedbyacompanynamedPCB,Inc.from1982until1987forthestorage,'

processing, and,treatment ofelectricequipment, dielectric oilsandmaterials containing PCBs.According totheEPA,'thebuildings andcertainsoilareasoutsidethebuildings arecontaminated withe'CBs.

CertainofthePRPs,including theCompanyand,several otherutilities formeda,PRPgroup,signedan.ACO,andhavedeveloped aworkplanforinvestigating environmental conditions atthesites.Documentation connecting theCompanytothesitesindicates thattheCompanywasresponsible forlessthan1/0ofthematerials thatwereshippedtotheMissourisite.TheEPAhasnotyetcompleted

.compiling thedocuments fortheKansassite...itWIInadditiqn, ttieCompanywas;notified thatitjsa,PRP,ata$uperfundsite,locatedinFarmingdale, NewYork..Industrial operations, tookplaceatthissiteforatleastfiftyyears.ThePRPgrouphasclaimedttheCompanyshould absorbremediation expenses-in theamountofapproximately.$

100,000associatwithremovingPCB-'contaminated soilsfromaportionofthesitewhichformerlycontained electrictransformers.

TheCompanyiscurrently unabletodetermine itsshareofcostsofremediation atthissite.92 Dur'ing1996,theConnecticut Department ofEnvironmental Protection (DEP)issuedamodification toanACOpreviously, issuedin'connection withaninvesti'gation.

ofanelectric'transmission cablelocatedundertheLongIslandSound(SoundCable)thatisjointlyownedbyth'eCompanyandtheConnecticut Light.dPowerCompany(Owners).

The'modified ACOrequirestheOwnersto'submit totheDEPandDECariesofreportsandstudiesdescribing cablesystemcondition, operation andrepairpractices, alternatives forcableimprovements orreplacement andenvironmental impactsassociated withleaksoffluidintotheLongIslandSound,whichhaveoccurredfromtimetotime.TheCompanycontinues tocompilerequiredinformation andcoordinate the.activities necessary toperformthesestudiesand,atthepresenttime,isunabletodetermine thecostsitwillincurtocompletetherequirements ofthemodifiedACOortocomplywithanyadditional requirements.

'heOwnershavealsoenteredintoanACOwiththeDECasaresultofleaksofdielectric fluidfromtheSoundCable.TheACOformalizes theDEC'sauthority toparticipate inandseparately, approvethereportsandstudiesbeingpreparedpursuanttotheACOissuedbytheDEP.Inaddition, theACOsettlesanyDECclaimfornaturalresourcedamagesinconnection withhistorical releasesofdielectric fluidfromtheSoundCable.InOctober1995,theU.S.AttorneyfortheDistrictofConnecticut hadcommenced aninvestigation regarding occasional releasesoffluidfromtheSound.Cable,aswell.asassociated operating andmaintenance practices.

TheOwnershaveprovidedtheU.S.Attorneywithallrequested documentation.

TheCompanybelievesthatallactivities associated withtheresponsetooccasional releasesfromtheSoundCablewereconsistent withlegalandregulatory requirements.

InDecember1996,abarge,ownedandoperated-by athirdparty,droppedanchorwhichthendraggedoverddamagedtheSoundCable,resulting inthereleaseofdielectric fluidintoLongIslandSoun'd.poraryclampsandleakabaterswereinstalled onthecablestostoptheleaks.Permanent repairswerepletedinJune1997.The'costtorepairtheSoundCablewasapproximately

$17.8million,forwhichtherewas$15millionofinsurance coverage.

TheOwnersfiledaclaimandanswerinresponsetothemaritimelimitation proceeding instituted bythebargeownerintheUnitedStatesDistrictCourt,Easte'rnDistrictofNewYork.Theclaimseeksrecoveryoftheamountspaidbyinsurance carriersandrecoveryofthecostsincurredfor..which therewasnoinsurance coverage.

AnycoststorepairtheSoundCablewhicharenotreimbursed byathirdpartyorcoveredbyinsurance

'willbesharedequallybytheOwners.TheCompanybelievesthat.noneoftheenvironmental matters,discussed above,willhaveamaterialadverseimpactontheCompany's financial

position, cashflowsorresultsofoperations.

Inaddition, theCompanybelievesthatallsignificant costsincurredwithrespecttoenvironmental investigation andremediation activities, notrecoverable frominsurance

carriers, willberecoverable throughrates.93 Note13.BusinessSegmentsIdentifiable assetsbysegmentincludenetutilityplant,regulatory assets,materials andsupplies, accruedunbilledrevenues, gasinstorage;fuelanddeferredcharges.AssetsutilizedforoverallCompanyoperations consistprimarily'f cashandcashequivalents, accountsreceivable, commonnetutilityplant'ndunamortized costofissuingsecurities.

YearEndedMarch31,1998ThreeMonthsEndedMarch31,1997(Inmillionsofdollars)YearEndedYearEndedDecember31,1996December31,1995Operating revenuesElectricGas'otalOperating expenses(excludes federalincometax)ElectricGasTotalOperating income(beforefederalincometax)Electric'asTotaloperating incomeAFCOtherincomeanddeductions InterestchargesFederalincometaxNetIncomeDepreciation andAmortization ElectricGasTotal$2,478646$3,1241,595523$2,118$883123$1,006$(8)10409233$362"$131"28$159$558293$851$400204$604$15889$247(2)(2)"10756$88$327$.39$2,467684$3,151$1,644560$2,204$823124$947$(6)(23)451209$316$12925$154$2,484591$3,075$1,657478$2,135$827113$940(7)(38)476206$303Construction andnuclearfuelexpenditures*

ElectricGasfl$181'35165$16280,~'67884Total$261$51$243$,246~Includesnon-cashallowance forotherfundsusedduringconstruction andexcludesShorehampost-settlement costs.March31,1998March31,1997December31,1996December31,1995Identifiable AssetsElectric'asTotalIdentifiable AssetsAssetsUtilizedforOverallCompanyOperations

$9,5531,21910,7721,129$10,0481,13411,182668$9,835I)23211,0671,143$10,0201,18111,2011,326TotalAssets$11,901$11,850$12,210$12,52794 Note'14.0'isaggregated Condensed BalanceSheet(Unaudited),

SetforthbelowistheCompany's condensed balancesheetatMarch3l,1998whichhasbeendisaggregated pursuanttothetermsoftheLIPAAgreement togiveeffecttotheproposedLIPAansaction asifithadoccurredonMarch31;1998.Theassets;-capitalization andliabilities attributable HoldCoSubsidiary represent the,Company's transferofitsgasandgeneration businesstosuchsubsidiary.

Theassets,capitalization andliabilities attributable'to LIPArepresent thoseitemsthatwillbeacquiredorassumedbyLIPAthroughitsacquisition oftheCompany's commonstock.Allsuchamountsexclude'the proceedsfromthesaleofcommonstocktoLIPA.Thedisaggregated condensed balancesheetwaspreparedby'management o'ftheCom'pany, andissubjecttoadjustment.

Forafurtherdiscussion oftheLIPATransaction, seeNote2.'(Inmillionstofdollars)ASSETSLILCOHoldCoSubsidiary LIPATotalNetUtilityPlantRegulatory AssetsShorehamrelatedRegulatory taxassetOtherTotalRegulatory Assets$3,814.14,661.11,737.9'92.8

=7,091.8$1,777.821.0430,1451.1$2,036.34,661.11,716.9262,76,640.7Nonutility PropertyandOtherInvestments

.,TotalCurrentAssetsDeferredChargesTotalAssetsCAPITALIZATION AND,LIABILITIES 50.8858.3,85.7$11,900.732.9,'7.9494.2,,364.138.047.7$2,794.0$9,106.7Longtermdebt,including currentmaturities Preferred stock,including currentmaturities tommonShareowner's Equity1latoryLiabilities CurrentLiabilities DeferredCredits,Operating Reserves'ommitments andContingencies

$4,482.9702.02,662.5$7,847.4389.4587.4.,2,608.8,467.7.$1,130.5363.0161.7$1,655.224.2433.0211.2,470.4$3,352.4339.025008$6,192.2365.2154.42,397.6,-(2.7)TotalCapitalization andLiabilities

$11,900.7';'2,794.0$9,106.7kckkItktt'I~ktt'tfPk"ttktk95 Note15.Quarterly Financial Information (Unaudited)

Summarized

'quarterly financial'data for1998,"1997 and1996is.asfollows:(In'ihousands ofdollarsexceptearningspercommonshare)iscaear3MonthsEnded"'"3/31/976/30/97'9/30/9712/31/97"3/31/98Operating Revenues~$851,182Operating Income.'190,001'etIncome87,697Earningsforcommonstock,74,728,Basicanddilutedearningspercommonsfiare'62$664,488""'852,408',$779,622144,079,",,

'42,611,171,96945)16)',1144)384-i56,75632,193131,435.,43,807.261.09.36$827,576209,637115,939,.102,992.853MonthsEnde'iI3/31/96CalendarYearEndedDecember31,19966/30/969/30/9612/31/96Operating RevenuesOperating IncomeNetIncomeEarnings'for commonstockBasicanddilutedearningspercommonshare$864,214190,42181,75368,682.57$694,602141,06540,52427,453.23$849,775235,402130,023116,972.97$742;104169,693'4,16451,141.43ReportofErnst&,YoungLLP,Independent

Auditors, TotheShareowners andBoardofDirectors ofLongIslandLightingCompanyWehaveauditedtheaccompanying balancesheetofLongIslandLightingCompanyandtherelatedstatement ofcapitalization asofMarch31,1998and1997,andDecember31,1996andtherelatedstatements ofincome,retainedearningsandcashflowsfortheyearendedMarch31,1998,thetransition periodfromJanuary1,1997toMarch31,1997and'eachofthetwoyearsintheperiodendedDecember31,1996.Ourauditsalsoincludedthefinancial statement schedulelistedintheindexatItem14(a).Thesefinancial statements andschedulearetheresponsibility oftheCompany's management.

Ourresponsibility istoexpressanopiniononthesefinancial statements andschedulebasedonouraudits.Weconducted ourauditsinaccordance withgenerally acceptedauditingstandards.

Thosestandards requirethatweplanandperformtheaudittoobtainreasonable assurance aboutwhetherthefinancial statements arefreeofmaterialmisstatement.

Anauditincludesexamining, onatestbasis,evidencesupporting theamountsanddisclosures inthefinancial statements.

Anauditalsoincludesassessing theaccounting principles usedandsignificant estimates madebymanagement, aswellasevaluating theoverallfinancial statement presentation.

Webelievethatourauditsprovideareasonable basisforouropinion.-

In.our'pinion",

thefinancial statements referredto.abovepresentfairly,'in all'material respec'ts,'the financial positionofLongIslandLightingCompanyatMarch31,1998and1997,andDecember31,1996,andtheresultsofitsoperations anditscflowsfortheyearendedMarch31,1998,theqtransition periodfromJanuary1,1997toMarch31,1997andeachofthetwoyearsintheperiodendedDecember31,1996,inconformity withgenerally

'cceptedaccounting principles.

Also,"inouropinion,therelatedfinancial statement

schedule, whenconsidered inrelationtothebasicfinancial statements takenasawhole,presentsfairlyinallmaterialrespectstheinformation setforththerein.Asdiscussed inNote1tothefinancial statements, duringtheyearendedMarch31,1998theCompanychangeditsmethodofaccounting forrevenuesprovidedforundertheRateModeration Component.

Melville, NewYorkMay22,199896 Item9.'ChangesinandDisagreements WithAccountants onAccounting andFinancial Disclosures flVNotapplicable.

httItJVg97 PARTIII~'ncludedintheSECfilingofMay28,1998.Item10.Directors andExecutive OfficersoftheCompanyllItem11.Executive Compensation Item12.SecurityOwnership ofCertainBeneficial OwnersandManagement 1Item13.CertainRelationships andRelatedTransactions PARTIVItem1'4.Exhibits, Financial Statement Schedules, andReportsonForm8-K(a)(1)ListofFinancial Statements Statement ofIncomefortheyearendedMarch31,1998,thethreemonthsendedMarch31,1997andtheyearsendedDecember31,1996and1995.BalanceSheetatMarch31,1998and1997andDecember31,1996.Statement ofRetainedEarningsatMarch31,1998'and1997andDecember31,1996and1995.Statement ofCapitalization atMarch31,1998and1997andDecember31,1996.Statement ofCashFlowsfortheyearendedMarch31,1998,thethreemonthsendedMarch1997andtheyearsendedDecember31,1996and1995.NotestoFinancial Statements (2)ListofFinancial Statement Schedules Valuation andQualifying Accounts(Schedule II)(3)ListofExhibitsTobeprovidedbytheLegalDepartment andincludedinthefilingcopy.98 SCHEDULEII-VALUATION ANDQUALIFYING ACCOUNTS(Thousands ofDollars)ColumnAColumnBColumnCColumnDColumnEAdditions Description Balanceatbeginning ofperiodChargedtocostsandexpensesChargedtootheraccounts-describeDeductions-describeBalanceatendofperiodYearendedMarch31,1998Deductedfromassetaccounts:

Allowance fordoubtfulaccounts$23,675$23,239$23,431to$23,483ThreeMonthsEndedMarch31,1997Deductedfromassetaccounts:

Allowance fordoubtfulaccounts$25,000$4,821$6,146<0$23,675YearendedDecember31,1996Deductedfromassetaccounts:

Allowance fordoubtfulaccounts$24,676$23,119$22,795re$25,000arendedDecember31,1995ductedfromassetaccounts:

Allowance fordoubtfulaccounts$23,365$17,751$16,44000$24,676(I)Uncollectible accountswrittenognetofrecoveries.

99

".(',i",'~'ignatures,,

DateWILLIAMJ.CATACOSINOS4

• '.Willia'mJ.Catacosinos, Principal Executiye Otic'erandChairmanoftheBoard,ofDirectors

.JAMEST."FLYNN*

JamesT.Flynn,President,

',ChiefOperating Officer,Director"/s/JOSEPHE.FONTANAJosephE.Fontana,VicePresident, Controller, Principal Accounting OfficerPursuanttotherequirements oftheSecurities ExchangeActof1934,thisreporthasbeensignedbelowbythefollowing personsonbehalfoftheregistrant andinthecapacities andonthedatesindicated.

tSinatureandTitleA.JAMESBARNES*A.JamesBarnes,DirectorI,fMay28,1998GEORGEBUGLIARELLO*

GeorgeBugliarello, DirectorRENSOL.CAPORALI*.,

RensoL.Caporali, DirectorVICKIL.FULLER*VickiL.Fuller,DirectorKATHERINE D.ORTEGA*Katherine D.Ortega,DirectorBASILA.PATERSON*

BasilA.Paterson, DirectorRICHARDL.SCHMALENSEE*

RichardL.Schmalensee, DirectorGEORGEJ.SIDERIS*GeorgeJ.Sideris,DirectorJOHNH.TALMAGE*JohnH.Talmage,Director/s/ANTHONYNOZZOLILLO AnthonyNozzolillo (Individually, asSeniorVicePresident andPrincipal Financial Officerandasattorney-in-fact foreachofthepersonsindicated) 100 SIGNATURES, ByP11Pursuanttotherequirements ofSection13or.15(d)oftheSecurities ExchangeActof1934,theregistrant hasdulycaused,thisreporttobesignedonitsbehalfbytheundersigned,,thereunto dulyauthprized.

LONGISLANDLIGHTINGCOMPANYVIi4qltDate:May28,1998:=/s/ANTHONYNOZZOLILLO ANTHONYNOZZOLILLO Principal Financial OfficerOriginalpowersofattorney, authorizing KathleenA.MarionandAnthonyNozzolillo, andeachofthem;tosignthisreportandanyamendments thereto,asattorney-in-fact foreachoftheDirectors andOfficersoftheCompany,andacertified copyoftheresolution oftheBoardofDirectors oftheCompanyauthorizing saidpersonsandeachofthemtosignthisreportand~,,'mendments theretoasattorney-in-fact foranyOfficerssigningonbehalfoftheCompany,havebeen,arebeingfiledorwillbefiledwiththeSecurities andExchangeCommission.

101 ConsentofIndeendentAuditorsWeconsenttotheincorporation byreference inthePost-Effective Amendment No.3toRegistration Statement (No.33-16238) onFormS-8relatingtoLongIslandLightingCompany's EmployeeStock'Purchase Plan,Post"-Effective Amendment No.1toRegistration Statement (No.2-87427)onFormS-3relatingtoLongIslandLightingCompany's Automatic DividendReinvestment PlanandintherelatedProspectus, Registration Statement (No.2-88578)onFormS-3relatingtotheissuanceofCommonStockandintherelatedProspectus andRegistration Statement (No.33-52963) onFormS-3relatingtotheissuanceofGeneralandRefunding Bonds,Debentures, Preferred StockorCommonStockandintherelatedProspectus, ofourreportdatedMay22,1998,withrespecttothefinancial statements andscheduleofLongIslandLighting" Companyincludedin'thisAnnualReportonForm10-KfortheyearendedMarch31,1998./s/ERNST&YOUNG'LLPiMelville, NewYorkMay26,1998102