UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-Q
                                  ANNUAL REPORT
                         PURSUANT TO SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934

[X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934

                For the quarterly period ended September 30, 2006


[ ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934

           For the transition period from __________ to _________

                         Commission file number 1-14161

                               KEYSPAN CORPORATION
             (Exact Name of Registrant as Specified in its Charter)

              NEW YORK                                       11-3431358
(State or Other Jurisdiction of                           (I.R.S. Employer
 Incorporation or Organization)                          Identification No.)
One MetroTech Center, Brooklyn, New York                        11201
175 East Old Country Road, Hicksville, New York                 11801
 (Address of Principal Executive Offices)                     (Zip Code)


                            (718) 403-1000 (Brooklyn)
                           (516) 755-6650 (Hicksville)
              (Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the  preceding 12 months (or for such  shorter  period that the  registrant  was
required  to file  such  reports),  and  (2) has  been  subject  to such  filing
requirements for the past 90 days.
                                                              Yes[X] No[ ]

Indicate by check mark whether the registrant is a large  accelerated  filer, an
accelerated filer or a non-accelerated filer.

Large accelerated filer[X]     Accelerated filer[ ]     Non-accelerated filer[ ]

Indicate by check mark whether the  registrant is a shell company (as defined in
Rule 12b-2 of the Act).
                                                              Yes[ ] No[X]

Indicate the number of shares  outstanding  of each of the  issuer's  classes of
common stock, as of the latest practicable date.

  Class of Common Stock                       Outstanding at October 19, 2006
  ---------------------                       -------------------------------
      $.01 par value                                    175,283,247


<PAGE>

                      KEYSPAN CORPORATION AND SUBSIDIARIES

                                      INDEX
                                      -----

                   Part I.   FINANCIAL INFORMATION                      Page No.
                                                                        --------

Item 1. Financial Statements

         Consolidated Balance Sheet -
         September 30, 2006 and December 31, 2005                            3

         Consolidated Statement of Income -
         Three and Nine Months Ended September 30, 2006 and 2005             5

         Consolidated Statement of Cash Flows -
         Nine Months Ended September 30, 2006 and 2005                       6

         Notes to Consolidated Financial Statements                          7

Item 2. Management's Discussion and Analysis of Financial
        Condition and Results of Operations                                 45

Item 3. Quantitative and Qualitative Disclosures About Market Risk          74

Item 4. Controls and Procedures                                             77

                   Part II.   OTHER INFORMATION

Item 1. Legal Proceedings                                                   77

Item 1A. Risk Factors                                                       77

Item 2. Unregistered Sale of Equity Securities and Use of Proceeds          79

Item 3. Defaults Upon Senior Securities                                     79

Item 4. Submission of Matters to a Vote of Security Holders                 79

Item 5. Other Information                                                   80

Item 6. Exhibits                                                            80

Signatures                                                                  81


                                       2

<PAGE>

<TABLE>
<CAPTION>

                           CONSOLIDATED BALANCE SHEET
                                   (Unaudited)


---------------------------------------------------------------------------------------------------------
(In Millions of Dollars)                                      September 30, 2006        December 31, 2005
---------------------------------------------------------------------------------------------------------
<S>                                                                     <C>                    <C>
ASSETS

Current Assets
    Cash and temporary cash investments                               $     40.0              $    124.5
    Restricted cash                                                          5.6                    13.2
    Accounts receivable                                                    779.9                 1,035.6
    Unbilled revenue                                                       221.0                   685.6
    Allowance for uncollectible accounts                                   (52.7)                  (62.8)
    Gas in storage, at average cost                                        788.9                   766.9
    Material and supplies, at average cost                                 144.8                   140.5
    Derivative contracts                                                    46.9                   142.8
    Other                                                                  172.5                   173.8
                                                       --------------------------------------------------
                                                                         2,146.9                 3,020.1
                                                       --------------------------------------------------

Investments and  Other                                                     257.9                   242.4

Property
    Gas                                                                  7,545.8                 7,275.9
    Electric                                                             2,549.3                 2,492.3
    Other                                                                  430.4                   416.3
    Accumulated depreciation                                            (3,096.0)               (2,922.6)
    Gas exploration and production, at cost                                186.0                   184.2
    Accumulated depletion                                                 (112.3)                 (109.2)
                                                       --------------------------------------------------
                                                                         7,503.2                 7,336.9
                                                       --------------------------------------------------

Deferred Charges
    Regulatory assets:
         Miscellaneous assets                                              710.7                   688.3
         Derivative contracts                                              260.2                    30.9
    Goodwill and other intangible assets                                 1,666.3                 1,666.3
    Derivative contracts                                                   138.5                    75.2
    Other                                                                  754.7                   752.5
                                                       --------------------------------------------------
                                                                         3,530.4                 3,213.2
                                                       --------------------------------------------------

Total Assets                                                          $ 13,438.4              $ 13,812.6
                                                       ==================================================
---------------------------------------------------------------------------------------------------------
</TABLE>

        See accompanying Notes to the Consolidated Financial Statements.


                                       3
<PAGE>

<TABLE>
<CAPTION>
                           CONSOLIDATED BALANCE SHEET
                                   (Unaudited)


-----------------------------------------------------------------------------------------------------------------------
(In Millions of Dollars)                                                   September 30, 2006         December 31, 2005
-----------------------------------------------------------------------------------------------------------------------
<S>                                                                                 <C>                       <C>
LIABILITIES AND CAPITALIZATION
Current Liabilities
    Accounts payable and other liabilities                                         $    681.9                $  1,087.0
    Commercial paper                                                                    330.0                     657.6
    Current redemption of long-term debt                                                 13.2                      13.0
    Taxes accrued                                                                       150.8                     176.3
    Dividends payable                                                                    81.4                      81.1
    Customer deposits                                                                    35.6                      39.1
    Interest accrued                                                                     74.5                      53.8
    Derivative contracts                                                                279.4                      47.3
                                                                     ------------------------- -------------------------
                                                                                      1,646.8                   2,155.2
                                                                     ------------------------- -------------------------

Deferred Credits and Other Liabilities
    Regulatory liabilities:
          Miscellaneous liabilities                                                      44.8                      69.9
          Removal cost recovered                                                        549.0                     516.4
          Derivative contracts                                                          122.2                     175.4
    Asset retirement obligations                                                         49.4                      47.4
    Deferred income tax                                                               1,222.4                   1,157.9
    Postretirement benefits and other reserves                                        1,144.8                   1,118.4
    Derivative contracts                                                                 47.7                      44.3
    Other                                                                               109.1                     127.5
                                                                     ------------------------- -------------------------
                                                                                      3,289.4                   3,257.2
                                                                     ------------------------- -------------------------

Commitments and Contingencies (See Note 6)                                                  -                         -

Capitalization
    Common stock - 184,864 shares issued, 175,232
           shares outstanding at September 30, 2006, par value $0.01                  3,985.6                   3,975.9
    Retained earnings                                                                   930.5                     866.9
    Other comprehensive (loss)                                                          (69.8)                    (74.8)
    Treasury stock                                                                     (278.9)                   (303.9)
                                                                     ------------------------- -------------------------
         Total common shareholders' equity                                            4,567.4                   4,464.1
    Long-term debt and capital leases                                                 3,919.3                   3,920.8
                                                                     ------------------------- -------------------------
Total Capitalization                                                                  8,486.7                   8,384.9
                                                                     ------------------------- -------------------------

Minority Interest in Subsidiary Companies                                                15.5                      15.3
                                                                     ------------------------- -------------------------
Total Liabilities and Capitalization                                               $ 13,438.4                $ 13,812.6
                                                                     ========================= =========================
------------------------------------------------------------------------------------------------------------------------
</TABLE>

        See accompanying Notes to the Consolidated Financial Statements.


                                       4
<PAGE>

<TABLE>
<CAPTION>

                        CONSOLIDATED STATEMENT OF INCOME
                                   (Unaudited)


------------------------------------------------------------------------------------------------------------------------------------
                                                        Three Months Ended Sept. 30,                 Nine Months Ended Sept. 30,
(In Millions of Dollars, Except Per Share Amounts)        2006                 2005                2006                     2005
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                    <C>                 <C>                 <C>                       <C>
Revenues
     Gas Distribution                                  $    595.5          $    629.6          $  3,648.8                $  3,476.1
     Electric Services                                      565.6               619.9             1,434.6                   1,488.9
     Energy Services                                         49.0                45.4               147.8                     134.1
     Energy Investments                                       8.4                 8.2                26.1                      27.0
                                                   --------------- -------------------  ------------------    ----------------------
Total Revenues                                            1,218.5             1,303.1             5,257.3                   5,126.1
                                                   --------------- -------------------  ------------------    ----------------------
Operating Expenses
     Purchased gas for resale                               361.5               395.7             2,412.7                   2,206.1
     Fuel and purchased power                               172.6               254.6               418.3                     546.9
     Operations and maintenance                             372.7               364.3             1,199.3                   1,143.3
     Depreciation, depletion and amortization                84.2                92.1               295.7                     295.8
     Operating taxes                                         95.9                97.1               309.9                     303.0
                                                   --------------- -------------------  ------------------    ----------------------
Total Operating Expenses                                  1,086.9             1,203.8             4,635.9                   4,495.1
Income from equity investments                                3.2                 2.5                 9.5                      12.5
Sale of assets                                                1.0                 1.0                 1.4                       1.2
                                                   --------------- -------------------  ------------------    ----------------------
Operating Income                                            135.8               102.8               632.3                     644.7
                                                   --------------- -------------------  ------------------    ----------------------
Other Income and (Deductions)
     Interest charges                                       (67.1)              (67.4)             (192.7)                   (200.1)
     Gain on sale of investments                                -                   -                   -                       4.1
     Cost of debt redemption                                    -                   -                   -                     (20.9)
     Other                                                    8.0                (3.8)               25.6                       9.4
                                                   --------------- -------------------  ------------------    ----------------------
Total Other Income and (Deductions)                         (59.1)              (71.2)             (167.1)                   (207.5)
                                                   --------------- -------------------  ------------------    ----------------------
Income Taxes
     Current                                                (17.9)              (25.8)              104.3                     119.0
     Deferred                                                44.3                34.8                53.3                      41.0
                                                   --------------- -------------------  ------------------    ----------------------
Total Income Taxes                                           26.4                 9.0               157.6                     160.0
                                                   --------------- -------------------  ------------------    ----------------------
Earnings from continuing operations                          50.3                22.6               307.6                     277.2
Discontinued Operations
    Income (loss) from discontinued
      operations, net of tax                                    -                   -                   -                      (4.1)
    Gain on disposal, net of tax                                -                   -                   -                       2.3
                                                   --------------- -------------------  ------------------    ----------------------
Loss from discontinued operations                               -                   -                   -                      (1.8)
                                                   --------------- -------------------  ------------------    ----------------------
Net Income                                                   50.3                22.6               307.6                     275.4
Preferred stock dividend requirements                           -                   -                   -                       2.2
                                                   --------------- -------------------  ------------------    ----------------------
Earnings for Common Stock                              $     50.3          $     22.6          $    307.6                $     273.2
                                                   =============== ===================  ==================    ======================
Basic Earnings Per Share:
  Continuing Operations,
         less preferred stock dividends                $     0.29          $     0.13          $     1.76                $     1.63
  Discontinued Operations                                       -                   -                   -                     (0.01)
                                                   --------------- -------------------  ------------------    ----------------------
Basic Earnings Per Share                               $     0.29          $     0.13          $     1.76                $     1.62
                                                   =============== ===================  ==================    ======================
Diluted Earnings Per Share
  Continuing Operations,
         less preferred stock dividends                $     0.29          $     0.13          $     1.75                $     1.62
  Discontinued Operations                                       -                   -                   -                     (0.01)
                                                   --------------- -------------------  ------------------    ----------------------
Diluted Earnings Per Share                             $     0.29          $     0.13          $     1.75                    $ 1.61
                                                   =============== ===================  ==================    ======================
Average Common Shares Outstanding (000)                   175,114             174,332             174,935                   168,465
Average Common Shares Outstanding - Diluted (000)         176,295             175,238             175,996                   169,403
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

        See accompanying Notes to the Consolidated Financial Statements.


                                       5
<PAGE>


<TABLE>
<CAPTION>

                      CONSOLIDATED STATEMENT OF CASH FLOWS
                                   (Unaudited)

-----------------------------------------------------------------------------------------------
                                                                    Nine Months Ended Sept. 30,
(In Millions of Dollars)                                                2006             2005
-----------------------------------------------------------------------------------------------
<S>                                                                   <C>              <C>
Operating Activities
Net income                                                          $    307.6       $   275.4
Adjustments to reconcile net income to net
      cash provided by (used in) operating activities
    Depreciation, depletion and amortization                             295.7           295.8
    Deferred income tax                                                   53.3            41.0
    Income from equity investments                                        (9.5)          (12.5)
    Dividends from equity investments                                      8.7             5.3
    Amortization of interest rate swap/financing fees                      6.2            (2.5)
    (Gain) on sale of property and investments                            (1.5)           (5.3)
    Loss from discontinued operations                                        -             1.8
    Amortization of property tax prepayments                             106.9            91.8
Changes in assets and liabilities
    Accounts receivable                                                  712.5           294.3
    Materials and supplies, fuel oil and gas in storage                  (26.3)         (245.2)
    Accounts payable and other liabilities                              (409.8)         (165.2)
    Insurance recovery and regulatory settlements, net                    16.6            21.1
    Property tax prepayment                                              (79.4)          (69.5)
    Environmental payments                                               (37.8)          (24.4)
    Other                                                                (35.6)          (29.8)
                                                               ----------------  --------------
Net Cash Provided by Operating Activities                                907.6           472.1
                                                               ----------------  --------------
Investing Activities
    Construction expenditures                                           (377.6)         (372.1)
    Cost of removal                                                      (23.1)          (10.8)
    Derivative margin calls                                              (42.7)          (63.3)
    Net proceeds from sale of property and investments                     1.5            46.9
                                                               ----------------  --------------
Net Cash Used in Investing Activities                                   (441.9)         (399.3)
                                                               ----------------  --------------
Financing Activities
    Treasury stock issued                                                 21.2            41.0
    MEDs equity conversion                                                   -           460.0
    Payment of long-term debt                                                -          (590.1)
    Payment of commercial paper                                         (327.6)         (592.2)
    Common and preferred stock dividends paid                           (243.8)         (229.1)
    Other                                                                    -            14.0
                                                               ----------------  --------------
Net Cash Used in Financing Activities                                   (550.2)         (896.4)
                                                               ----------------  --------------
Net Decrease in Cash and Cash Equivalents                                (84.5)         (823.6)
Cash Flow from Discontinued Operations - Operating                           -           (15.1)
Cash Flow from Discontinued Operations - Investing                           -             0.5
Cash Flow from Discontinued Operations - Financing                           -             0.2
Cash and Cash Equivalents at Beginning of Period                         124.5           922.0
                                                               ----------------  --------------
Cash and Cash Equivalents at End of Period                          $     40.0       $    84.0
                                                               ================  ==============
-----------------------------------------------------------------------------------------------
</TABLE>

Cash equivalents are short-term  marketable securities purchased with maturities
of three months or less that were carried at cost which approximates fair value.

        See accompanying Notes to the Consolidated Financial Statements.


                                       6
<PAGE>


           NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

INTRODUCTION TO THE NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

KeySpan  Corporation  (referred to in the Notes to the  Financial  Statements as
"KeySpan,"  "we," "us" and "our") is a holding  company under the Public Holding
Company Act of 2005 ("PUHCA  2005").  KeySpan  operates six regulated  utilities
that distribute  natural gas to approximately  2.6 million customers in New York
City,  Long Island,  Massachusetts  and New Hampshire,  making KeySpan the fifth
largest  gas  distribution  company in the United  States and the largest in the
Northeast.  We also own, lease and operate electric  generating plants in Nassau
and Suffolk  Counties  on Long Island and in Queens  County in New York City and
are  the  largest  electric   generation  operator  in  New  York  State.  Under
contractual   arrangements,   we  provide  power,   electric   transmission  and
distribution services, billing and other customer services for approximately 1.1
million  electric  customers  of  the  Long  Island  Power  Authority  ("LIPA").
KeySpan's other operating subsidiaries are primarily involved in gas exploration
and production;  underground gas storage;  liquefied natural gas storage; retail
electric marketing; large energy-system ownership,  installation and management;
service and  maintenance  of energy  systems;  and  engineering  and  consulting
services.  We also  invest and  participate  in the  development  of natural gas
pipelines,  electric generation and other energy-related  projects.  (See Note 2
"Business Segments" for additional information on each operating segment.)

On February 25, 2006,  KeySpan entered into an Agreement and Plan of Merger (the
"Merger   Agreement"),   with  National  Grid  plc,  a  public  limited  company
incorporated  under the laws of England and Wales  ("Parent")  and National Grid
US8, Inc., a New York Corporation  ("Merger Sub"),  pursuant to which Merger Sub
will merge with and into KeySpan (the "Merger"),  with KeySpan continuing as the
surviving  company and thereby becoming an indirect  wholly-owned  subsidiary of
the  Parent.  Pursuant to the Merger  Agreement,  at the  effective  time of the
Merger,  each  outstanding  share of KeySpan  common stock,  par value $0.01 per
share of KeySpan (the  "Shares"),  other than treasury shares and shares held by
the Parent and its  subsidiaries,  shall be canceled and shall be converted into
the right to receive $42.00 in cash, without interest.

Consummation of the Merger is subject to various closing  conditions,  including
but not limited to the adoption of the Merger  Agreement by the  stockholders of
KeySpan and the Parent and the receipt of requisite  regulatory  approvals  from
certain  United  States  federal and state public  utility,  antitrust and other
regulatory authorities, many of which have been filed or obtained. Specifically,
we filed our  application  for  approval  of the Merger  pursuant to the Federal
Power Act in May 2006 and in October the  requisite  approval was obtained  from
the  Federal  Energy  Regulatory  Commission  ("FERC").  In early July 2006,  we
cleared  review by the  Federal  Trade  Commission  under the  Hart-Scott-Rodino
Antitrust  Improvement  Act and  received  notification  that the  Committee  on
Foreign  Investment  in the U.S.  has  determined  that  there  are no issues of
national security sufficient to warrant an investigation of the transaction.  On
July 20, 2006 we filed an application for approval of the  transaction  with the
New York Public Service Commission  ("NYPSC").  KeySpan has also sought approval
of the merger from the New Hampshire Public Utility Commission. In October 2006,
the State of New Jersey Board of Public  Utilities  approved a change of control
of KeySpan  Communication Corp., which provides  telecommunications  services in
New Jersey.  In  addition,  the Merger was approved by our  shareholders  at our
Annual  Meeting on August 17, 2006.  Shareholders  of National Grid plc approved
the transaction at a meeting held on July 31, 2006.


                                       7
<PAGE>


In addition to seeking  approval of the Merger,  the application  filed with the
NYPSC also contained a proposed  ten-year rate plan for KeySpan Energy  Delivery
of New York ("KEDNY") and KeySpan Energy Delivery of Long Island  ("KEDLI"),  as
well  as  proposals  concerning   corporate   structure,   affiliate  rules  and
transactions   and  the  rate  treatment  for   contemplated   synergy  savings.
Specifically,  the rate plan proposal provides for, among other things, a freeze
of base delivery  rates for KEDNY and KEDLI for 18 months.  Thereafter,  KEDNY's
and  KEDLI's  gas  adjustment  clause  would  be  increased  to  recover,  on  a
prospective  basis, gas  commodity-related  costs of $68.6 million for KEDNY and
$28.7  million  for KEDLI that would no longer be  included  in base  rates.  In
addition,  KEDNY and KEDLI base delivery  rates would be increased by an average
of 2.5% ($62.4 million) and 2.3% ($39.4 million),  respectively in years 3, 5, 7
and 9 of the rate plan.  The  proposed  rate plan also  contemplates  an allowed
return on equity of 11.0% for each  entity.  Cumulative  earnings  above  11.75%
would be shared  between  gas sales  customers  and  KeySpan  over the rate plan
period. On October 3, 2006 Nation Grid plc filed testimony and exhibits with the
NYSPSC  that  refers to both  exhibits  and  attachments  that  were  previously
submitted as part of the July 20, 2006 petition.

Assuming receipt of all required approvals, it is currently anticipated that the
Merger will be  consummated in mid-2007.  However,  we are unable to predict the
outcome of the  regulatory  proceedings  and no assurance  can be given that the
Merger will occur or the timing of its  completion.

In the  meantime,  individual  applications  for a proposed  annual  increase in
revenues  for KEDNY and KEDLI were filed on October 3, 2006 with the NYPSC.  The
proposed  revenue  increases  are for  9.1%  and  10.9%  for  KEDNY  and  KEDLI,
respectively.  KEDNY's last base rate increase  took effect  October 1, 1993 and
since then base rates have been  reduced  twice - once in 1996 and then again in
1998.  KEDLI's last base rate increase took effect December 1, 1995.  Since that
time  KEDLI's  base rates were  reduced  twice in 1998.  The  principal  factors
creating the need for rate relief are  increases in  operating  and  maintenance
expenses,  increases in rate base,  increased  property  taxes and  depreciation
expense,  and the need to commence recovery of previously deferred costs such as
pension and post retirement  benefits,  environmental  expenditures and property
taxes.

The total projected increase in revenues is comprised of two components;  (i) an
increase in base rates of $180.7  million for KEDNY and $145  million for KEDLI;
and (ii)  projected  increases  of $32.8  million  and $14 million for KEDNY and
KEDLI, respectively, for gas related expenses that will be recovered through the
Gas Adjustment Clause ("GAC") and/or  Transportation  Adjustment Clause ("TAC").
The proposed rate of return on equity is 11.0% for both KEDNY and KEDLI.

The NYPSC may suspend the  implementation  of the proposed tariff changes for up
to eleven  months,  which  would  mean,  absent  other  intervening  events,  an
effective  date of  September  3, 2007 for new rates.  Although  KEDNY and KEDLI
proposed the new rates described above in these tariff filings, KeySpan does not
expect that the rate  increases  proposed  therein will be  implemented  because
KEDNY's  and  KEDLI's  need for  rate  relief  on a stand  alone  basis  will be
superseded  and rendered moot by an earlier NYPSC approval of the merger between
National Grid plc and KeySpan and the approval of the related ten-year rate plan
previously noted.


                                       8
<PAGE>


At December 31, 2005,  KeySpan was a holding  company  under the Public  Utility
Holding  Company Act of 1935, as amended  ("PUHCA  1935").  In August 2005,  the
Energy  Policy Act of 2005 (the "Energy  Act") was enacted.  The Energy Act is a
broad energy bill that places an increased  emphasis on the production of energy
and promotes the development of new technologies and alternative  energy sources
and provides  tax credits to companies  that  produce  natural gas,  oil,  coal,
electricity  and  renewable  energy.  For KeySpan,  one of the more  significant
provisions  of the Energy Act was the repeal of PUHCA 1935,  which repeal became
effective  on  February  8,  2006.  Since  that time,  the  jurisdiction  of the
Securities  and  Exchange   Commission  ("SEC")  over  certain  holding  company
activities,  including the regulation of our affiliate  transactions and service
companies,  has been  transferred  to the FERC  pursuant  to  PUHCA  2005.  (For
additional  information  on the Energy Act and PUHCA 2005 see  KeySpan's  Annual
Report on Form 10-K for the year ended December 31, 2005,  Item 7.  Management's
Discussion  and  Analyses of  Financial  Condition  and Results of  Operations -
"Regulation and Rate Matters.")

1. BASIS OF PRESENTATION

In our opinion,  the accompanying  unaudited  Consolidated  Financial Statements
contain all adjustments necessary to present fairly KeySpan's financial position
as of September 30, 2006,  and the results of operations  for the three and nine
months ended  September  30, 2006 and  September 30, 2005, as well as cash flows
for the nine  months  ended  September  30, 2006 and  September  30,  2005.  The
accompanying  financial  statements  should  be read  in  conjunction  with  the
consolidated  financial statements and notes included in KeySpan's Annual Report
on Form 10-K for the year  ended  December  31,  2005.  The  December  31,  2005
financial statement information has been derived from the 2005 audited financial
statements. Income from interim periods may not be indicative of future results.
Certain reclassifications were made to conform prior period financial statements
to the current period financial statement presentation.

Consolidated  earnings are seasonal in nature  primarily due to the  significant
contributions to earnings of the gas distribution  operations.  As a result,  we
expect to earn most of our annual earnings in the first and fourth quarters.

Basic  earnings per share ("EPS") is calculated by dividing  earnings  available
for  common  stock by the  weighted  average  number of  shares of common  stock
outstanding  during  the  period.  No  dilution  for  any  potentially  dilutive
securities is included.  Diluted EPS assumes the  conversion of all  potentially
dilutive  securities and is calculated by dividing earnings available for common
stock,  as  adjusted,  by the sum of the  weighted  average  number of shares of
common stock outstanding plus all potentially dilutive securities.




                                       9
<PAGE>


Under the requirements of Statement of Financial  Accounting  Standards ("SFAS")
No. 128, "Earnings Per Share" our basic and diluted EPS are as follows:

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------------------
                                                         Three Months Ended Sept. 30,             Nine Months Ended Sept. 30,
(In Millions of Dollars, Except Per Share Amounts)         2006                 2005               2006                 2005
--------------------------------------------------------------------------------------------------------------------------------
<S>                                                      <C>                 <C>                <C>                    <C>
Earnings for common stock                               $    50.3           $    22.6         $    307.6             $    273.2
--------------------------------------------------------------------------------------------------------------------------------

Weighted average shares outstanding (000)                 175,114             174,332            174,935                168,465
Add dilutive securities:
Options                                                     1,045                 906                970                    938
Performance shares                                            136                   -                 91                      -
--------------------------------------------------------------------------------------------------------------------------------
Total weighted average shares
 outstanding - assuming dilution                          176,295             175,238            175,996                169,403
--------------------------------------------------------------------------------------------------------------------------------
Basic earnings per share                                $    0.29           $    0.13          $    1.76              $    1.62
--------------------------------------------------------------------------------------------------------------------------------
Diluted earnings per share                              $    0.29           $    0.13          $    1.75              $    1.61
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>

2. BUSINESS SEGMENTS

We have four reportable segments:  Gas Distribution,  Electric Services,  Energy
Services and Energy Investments.

The Gas  Distribution  segment  consists of six gas  distribution  subsidiaries.
KeySpan Energy Delivery New York ("KEDNY") provides gas distribution services to
customers in the New York City Boroughs of Brooklyn,  Queens and Staten  Island.
KeySpan Energy Delivery Long Island ("KEDLI") provides gas distribution services
to customers in the Long Island  Counties of Nassau and Suffolk and the Rockaway
Peninsula of Queens County. The remaining gas distribution subsidiaries,  Boston
Gas Company,  Colonial Gas Company,  Essex Gas Company and  EnergyNorth  Natural
Gas,  Inc.,  collectively  referred to as KeySpan  Energy  Delivery  New England
("KEDNE"),  provide gas distribution  service to customers in Massachusetts  and
New Hampshire.

The Electric Services segment consists of subsidiaries that operate the electric
transmission and distribution  system owned by LIPA; own and provide capacity to
and  produce  energy  for LIPA from our  generating  facilities  located on Long
Island;  and manage fuel  supplies  for LIPA to fuel our Long Island  generating
facilities.  These services are provided in accordance  with existing  long-term
service  contracts having remaining terms that range from one to seven years and
power purchase  agreements  having  remaining  terms that range from seven to 21
years. On February 1, 2006, KeySpan and LIPA agreed to extend, amend and restate
these  contractual  arrangements.  (See Note 10,  "2006 LIPA  Settlement"  for a
further  discussion of these  agreements.)  The Electric  Services  segment also
includes  subsidiaries  that own or lease and  operate  the 2,200 MW  Ravenswood
Facility located in Queens,  New York, and the 250 MW combined-cycle  Ravenswood
Expansion.  Collectively  the Ravenswood  Facility and Ravenswood  Expansion are
referred to as the "Ravenswood Generating Station." All of the energy,  capacity
and ancillary services related to the Ravenswood  Generating Station are sold to
the New York Independent  Systems Operator ("NYISO") energy markets.  To finance
the purchase and/or construction of the Ravenswood  Generating Station,  KeySpan
entered into a leasing  arrangement  for each  facility.  The Electric  Services
segment also conducts retail  marketing of electricity to commercial  customers.
(See Note 6 "Financial  Guarantees and Contingencies" for further details on the
leasing arrangements.)


                                       10
<PAGE>


The Energy  Services  segment  includes  companies  that provide  energy-related
services to customers located  primarily within the northeastern  United States.
Subsidiaries in this segment provide residential and small commercial  customers
with  service  and  maintenance  of energy  systems and  appliances,  as well as
operation  and  maintenance,  design,  engineering,  consulting  and fiber optic
services to commercial, institutional and industrial customers.

In 2005,  KeySpan sold its mechanical  contracting  subsidiaries.  The operating
results  and  financial  position  of these  companies  have been  reflected  as
discontinued operations on the Consolidated Statement of Income and Consolidated
Statement of Cash Flows for 2005.

The Energy  Investments  segment  consists of our gas exploration and production
investments,  as well as  certain  other  domestic  energy-related  investments.
KeySpan's gas exploration  and production  activities  include its  wholly-owned
subsidiaries  Seneca  Upshur  Petroleum,  Inc.   ("Seneca-Upshur")  and  KeySpan
Exploration  and  Production,  LLC  ("KeySpan  Exploration").  Seneca-Upshur  is
engaged in gas exploration and production activities primarily in West Virginia.
See Footnote 12 "Gas  Exploration  and  Production  Property - Depletion"  for a
discussion of the September 30, 2006 ceiling test calculation.

This segment is also  engaged in pipeline  development  activities.  KeySpan and
Duke Energy  Corporation  each own a 50% interest in the Islander  East Pipeline
Company,  LLC  ("Islander  East").  Islander  East was  created  to  pursue  the
authorization  and  construction  of an interstate  pipeline  from  Connecticut,
across Long Island Sound,  to a terminus  near  Shoreham,  Long Island.  Once in
service,  the  pipeline is expected to  transport up to 260,000 DTH daily to the
Long  Island and New York City  energy  markets.  Further,  KeySpan  has a 26.3%
interest in the Millennium Pipeline Company LLC, the developer of the Millennium
pipeline  project,  which is expected to have the  capacity to  transport  up to
525,000 DTH of natural  gas a day from  Corning,  New York to Ramapo,  New York,
where it will connect to an existing  pipeline.  Additionally,  subsidiaries  in
this segment hold a 20% equity interest in the Iroquois Gas Transmission  System
LP,  a  pipeline  that  transports   Canadian  gas  supply  to  markets  in  the
northeastern United States. These investments are accounted for under the equity
method.  Accordingly,  equity  income from these  investments  is reflected as a
component of operating income in the Consolidated Statement of Income.

Through its wholly owned subsidiary,  KeySpan LNG, KeySpan owns a 600,000 barrel
liquefied  natural gas  storage and  receiving  facility  in  Providence,  Rhode
Island, the operations of which are fully consolidated.

In the  first  quarter  of  2005,  KeySpan  sold  its 50%  interest  in  Premier
Transmission  Limited  ("Premier"),  a gas pipeline from  southwest  Scotland to
Northern  Ireland.  The sale  generated  cash  proceeds of  approximately  $48.1
million.  In the fourth quarter of 2004,  KeySpan  reduced its carrying value in
Premier to an amount  approximating the anticipated cash proceeds from the sale.


                                       11
<PAGE>


The final sale of Premier resulted in a pre-tax gain of $4.1 million  reflecting
the  difference  from  earlier  estimates;  this gain was  recorded in the first
quarter of 2005.


The  accounting  policies  of the  segments  are the same as those  used for the
preparation of the Consolidated Financial Statements. The segments are strategic
business units that are managed separately because of their different  operating
and regulatory environments.  Operating results of our segments are evaluated by
management on an operating income basis. At September 30, 2006, the total assets
of each  reportable  segment  have not  changed  materially  from  those  levels
reported at December 31, 2005. The reportable segment information is as follows:

<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------
                                           Gas             Electric    Energy     Energy
(In Millions of Dollars)               Distribution        ServiceS    Services  Investments   Eliminations     Consolidated
----------------------------------------------------------------------------------------------------------------------------
<S>                                         <C>             <C>        <C>           <C>             <C>           <C>
Three Months Ended Sept. 30, 2006
Unaffiliated revenue                         595.5           565.6      49.0          8.4               -           1,218.5
Intersegment revenue                             -               -       2.8          1.3            (4.1)                -
Operating Income                             (10.8)          144.4       3.0          4.7            (5.5)            135.8

Three Months Ended Sept. 30, 2005
Unaffiliated revenue                         629.6           619.9      45.4          8.2               -           1,303.1
Intersegment revenue                             -               -       1.7          3.7            (5.4)                -
Operating Income                             (45.5)          149.6      (1.1)         4.7            (4.9)            102.8

----------------------------------------------------------------------------------------------------------------------------
</TABLE>

Eliminating  items  include  intercompany   interest  income  and  expense,  the
elimination  of certain  intercompany  accounts,  as well as  activities  of our
corporate and administrative areas.

Because of the nature of our Electric Services  business,  electric revenues are
derived  from two  large  customers  - the NYISO  and  LIPA.  Electric  Services
revenues from these customers of $553.5 million and $612.1 million for the three
months ended September 30, 2006 and 2005, respectively,  represent approximately
45% and 47%, respectively of our consolidated revenues in these periods.

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
                                            Gas           Electric       Energy        Energy
(In Millions of Dollars)               Distribution       ServiceS      Services     Investments     Eliminations      Consolidated
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                        <C>             <C>            <C>              <C>              <C>            <C>
Nine Months Ended Sept. 30, 2006
Unaffiliated revenue                        3,648.8         1,434.6        147.8            26.1                -           5,257.3
Intersegment revenue                              -               -          7.6             4.0            (11.6)                -
Operating Income                              365.1           271.7          4.6            11.3            (20.4)            632.3

Nine Months Ended Sept. 30, 2005
Unaffiliated revenue                        3,476.1         1,488.9        134.1            27.0                -           5,126.1
Intersegment revenue                              -             4.6          7.9             3.7            (16.2)                -
Operating Income                              376.8           266.3         (6.7)           16.6             (8.3)            644.7

-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

Eliminating items include the elimination of certain intercompany  accounts,  as
well as activities of our corporate and administrative areas.

Because of the nature of our Electric Services  business,  electric revenues are
derived  from two  large  customers  - the NYISO  and  LIPA.  Electric  Services
revenues from these customers of $1,415.5  million and $1,423.4  million for the
nine  months  ended  September  30,  2006  and  2005,  respectively,   represent
approximately 27%, of our consolidated revenues in both periods.



                                       12
<PAGE>


3. COMPREHENSIVE INCOME

The table below indicates the components of comprehensive income:

<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------------
                                                                    Three Months Ended Sept. 30,       Nine Months Ended Sept. 30,
(In Millions of Dollars)                                                  2006             2005             2006            2005
----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                      <C>              <C>             <C>              <C>
Net Income                                                              $ 50.3          $  22.6          $ 307.6          $ 275.4
----------------------------------------------------------------------------------------------------------------------------------
Other comprehensive income (loss), net of tax
Reclassification of (gains) losses included in net income                 (4.7)            10.7            (43.6)            18.4
Foreign currency translation adjustments                                     -                -                -             (5.0)
Unrealized gains on marketable securities                                  0.2              2.9              0.5              1.4
Unrealized (losses) gains on derivative financial instruments              7.3            (59.8)            48.1            (78.0)
----------------------------------------------------------------------------------------------------------------------------------
Other comprehensive gain (loss), net of tax                                2.8            (46.2)             5.0            (63.2)
----------------------------------------------------------------------------------------------------------------------------------
Comprehensive Income (Loss)                                             $ 53.1          $ (23.6)         $ 312.6          $ 212.2
----------------------------------------------------------------------------------------------------------------------------------
Related tax (benefit) expense
Reclassification of (gains) losses included in net income                 (2.6)             5.8            (23.5)             9.9
Foreign currency translation adjustments                                     -                -                -             (2.7)
Unrealized gains on marketable securities                                  0.1              1.6              0.3              0.8
Unrealized (losses) gains on derivative financial instruments              4.5            (33.6)            27.4            (44.3)
----------------------------------------------------------------------------------------------------------------------------------
Total Tax (Benefit) Expense                                             $  2.0          $ (26.2)         $   4.2          $ (36.3)
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


4. HEDGING AND DERIVATIVE FINANCIAL INSTRUMENTS

Financially-Settled  Commodity Derivative Instruments - Hedging Activities: From
time  to  time,  KeySpan   subsidiaries  have  utilized   derivative   financial
instruments,  such as futures, options and swaps, for the purpose of hedging the
cash flow variability  associated with changes in commodity  prices.  KeySpan is
exposed to commodity  price risk primarily  with regard to its gas  distribution
operations,   gas  exploration  and  production   activities  and  its  electric
generating facilities at the Ravenswood Generating Station.

Derivative financial instruments are employed by our gas distribution operations
to reduce the cash flow  variability  associated  with the purchase  price for a
portion  of  future  natural  gas  purchases  for our  regulated  firm gas sales
customers. The accounting for certain of these derivative instruments is subject
to  SFAS 71  "Accounting  for the  Effects  of  Certain  Types  of  Regulation."
Therefore,  the fair  value of these  derivatives  are  recorded  as  current or
deferred  assets  and  liabilities,   with  offsetting   positions  recorded  as
regulatory assets and regulatory  liabilities on the Consolidated Balance Sheet.
Gains or losses on the settlement of these contracts are initially  deferred and
then refunded to or collected from our firm gas sales customers  consistent with
regulatory  requirements.  See the  caption  below  "Firm Gas  Sales  Derivative
Instruments  -  Regulated   Utilities"   for  a  further   discussion  of  these
derivatives.

Certain  derivative  instruments  employed by our gas  distribution  operations,
however,  are not  subject  to SFAS 71 and  thus  are not  subject  to  deferral
accounting  treatment.   Utility  tariffs  applicable  to  certain  large-volume
customers  permit gas to be sold at prices  established  monthly,  relative to a


                                       13
<PAGE>


prevailing  alternate  fuel price,  but limited to the cost of gas plus the rate
for the highest  consumption  block otherwise  applicable to our firm commercial
customers. During 2006, KeySpan used over-the-counter ("OTC") natural gas swaps,
with offsetting  positions in OTC fuel oil swaps of equivalent  energy value, to
hedge the cash-flow variability of specified portions of gas purchases and sales
associated  with  these  customers.   At  September  30,  2006,  there  were  no
outstanding  derivative  instruments  associated  with this  strategy.  However,
KeySpan may elect to enter into similar  derivative  financial  instruments when
prevailing market conditions are favorable.

We have three fixed price forward sale contracts with large-volume interruptible
gas sales  customers.  KeySpan uses OTC natural gas swaps to hedge the cash-flow
variability of gas purchases  associated with these  customers.  These gas swaps
are accounted for as hedges.  KeySpan uses market quoted forward prices to value
these swap positions.  The maximum length of time over which we have hedged such
cash  flow  variability  is  through  October  2007.  The  fair  value  of these
derivative  instruments  at September  30, 2006 was a liability of $2.5 million,
all of which is  reported  in  accumulated  other  comprehensive  income  and is
expected to be reclassified into earnings within the next twelve months.

Our Energy Investments subsidiary, Seneca-Upshur, utilizes OTC natural gas swaps
to hedge the cash flow variability associated with forecasted sales of a portion
of its natural gas production.  At September 30, 2006,  Seneca-Upshur  has hedge
positions in place for  approximately 90% of its estimated 2006 through 2009 gas
production, net of gathering costs. We use market quoted forward prices to value
these swap positions.  The maximum length of time over which  Seneca-Upshur  has
hedged such cash flow  variability  is through  December 2009. The fair value of
these  derivative  instruments  at  September  30, 2006 was a liability  of $5.2
million.  The  estimated  amount  of  losses  associated  with  such  derivative
instruments that are reported in accumulated other comprehensive income and that
are expected to be  reclassified  into  earnings  over the next twelve months is
$2.9  million.  Ineffectiveness  associated  with these  outstanding  derivative
financial  instruments  was immaterial  for the nine months ended  September 30,
2006.

The Ravenswood  Generating  Station hedges the cash flow variability  associated
with a portion of electric  energy sales.  Our strategy is to hedge up to 50% of
the on-peak capacity of the Ravenswood Generating Station. The maximum length of
time over which we have hedged cash flow  variability  is through March 2007. To
accomplish  our stated hedging  strategy,  KeySpan  employs  financially-settled
electric-power  swap  contracts  with  offsetting  financially-settled  oil swap
contracts  and OTC natural gas swaps.  We use market  quoted  forward  prices to
value the  electric-power  swap contracts.  The fair value of the electric power
derivative  instruments at September 30, 2006 was $17.1 million, all of which is
reported  in  accumulated  other  comprehensive  income  and is  expected  to be
reclassified  into earnings within the next twelve months.  We use market quoted
forward  prices  to  value  the oil  swap  contracts.  The  fair  value of these
derivative  instruments  at September 30, 2006,  was a liability of $3.8 million
all of which is  reported  in  accumulated  other  comprehensive  income  and is
expected to be reclassified  into earnings within the next twelve months. We use
market quoted forward prices to value the gas swap contracts.  The fair value of
these  derivative  instruments  at September 30, 2006,  was a liability of $14.6


                                       14
<PAGE>


million,  of which $13.6 million is reported in accumulated other  comprehensive
income and is expected to be  reclassified  into earnings within the next twelve
months.  Ineffectiveness  associated with these outstanding derivative financial
instruments was immaterial for the nine months ended September 30, 2006.

The above noted derivative  financial  instruments are cash flow hedges that are
accounted for as hedges under SFAS 133  "Accounting  for Derivative  Instruments
and Hedging  Activities,"  as amended by SFAS 149 "Amendment of Statement 133 on
Derivative  Instruments and Hedging Activities,"  collectively SFAS 133, and are
not  considered  held for  trading  purposes  as defined  by current  accounting
literature.  Accordingly,  we carry the fair value of our derivative instruments
on the  Consolidated  Balance  Sheet as either a current  or  deferred  asset or
liability, as appropriate,  and record the effective portion of unrealized gains
or losses in  accumulated  other  comprehensive  income.  Gains and  losses  are
reclassified  from accumulated  other  comprehensive  income to the Consolidated
Statement of Income in the period the hedged transaction affects earnings. Gains
and  losses on settled  transactions  are  reflected  as a  component  of either
revenue or fuel and purchased power depending on the hedged  transaction.  Hedge
ineffectiveness   results   from   changes   during  the  period  in  the  price
differentials  between the index price of the derivative  contract and the price
of the purchase or sale for the cash flow that is being hedged,  and is recorded
directly to earnings.

Firm Gas Sales Financial Derivative  Instruments - Regulated  Utilities:  We use
derivative financial instruments to reduce the cash flow variability  associated
with the purchase price for a portion of future natural gas purchases associated
with our Gas Distribution  operations.  Our strategy is to minimize fluctuations
in gas sales prices to our  regulated  firm gas sales  customers in our New York
and New  England  service  territories.  The  accounting  for  these  derivative
instruments  is  subject  to  SFAS  71.  Therefore,  the  fair  value  of  these
derivatives  is  recorded as current or deferred  assets and  liabilities,  with
offsetting positions recorded as regulatory assets and regulatory liabilities on
the  Consolidated  Balance  Sheet.  Gains or losses on the  settlement  of these
contracts are initially deferred and then refunded to or collected from our firm
gas sales customers  consistent with regulatory  requirements.  At September 30,
2006 the fair value of these  derivative  instruments  was a liability of $276.8
million.

Physically-Settled  Commodity  Derivative  Instruments:   SFAS  133  establishes
criteria that must be satisfied in order for option contracts, forward contracts
with  optionality  features,  or contracts that combine a forward contract and a
purchase  option  contract  to  qualify  for  the  normal  purchases  and  sales
exception. Certain contracts for the physical purchase of natural gas associated
with our regulated gas utilities do not qualify for normal  purchases under SFAS
133. Since these contracts are for the purchase of natural gas sold to regulated
firm gas sales customers,  the accounting for these contracts is subject to SFAS
71. At September  30,  2006,  these  derivatives  had a net fair value of $130.1
million.

Financially-Settled  Commodity  Derivative  Instruments  that Do Not Qualify for
Hedge Accounting:  KeySpan subsidiaries also have financial  derivatives that do
not qualify for hedge accounting treatment under SFAS 133. In 2006, we purchased
a series of call options on the spread  between the price of heating oil and the
price of natural  gas to further  complement  our hedging  strategy  noted above


                                       15
<PAGE>


regarding  sales to certain  large-volume  customers.  As of September 30, 2006,
these derivatives have expired. However, KeySpan may elect to enter into similar
derivative   financial   instruments  when  prevailing   market  conditions  are
favorable.

The  Ravenswood  Generating  Station also employs a limited  number of financial
derivatives that have not been designated for hedge  accounting  treatment under
SFAS 133 to  economically  hedge the cash  flow  variability  for a  portion  of
forecasted  purchases of natural gas that will be consumed during the generation
of electricity.  The fair value of these derivative instruments at September 30,
2006 was a liability of $2.3 million.  In addition,  the  Ravenswood  Generating
Station  employs a limited  number of financial  derivatives  that have not been
designated for hedge  accounting  treatment to economically  hedge the cash flow
variability for a portion of forecasted electric energy sales. The fair value of
these derivative instruments at September 30, 2006 was $3.6 million; such amount
was  recorded in the  Consolidated  Statement of Income to reflect the change in
the market  value  associated  with these  derivative  instruments  for the nine
months ended September 30, 2006.

On  January  18,  2006,  KeySpan  entered  into an  International  SWAP  Dealers
Association  Master Agreement for a fixed for float unforced capacity  financial
swap (the " Swap  Agreement")  with Morgan Stanley  Capital Group Inc.  ("Morgan
Stanley").  The Swap  Agreement has a three year term that began on May 1, 2006.
The notional  quantity was  1,800,000kW  (the  "Notional  Quantity")  of In-City
Unforced Capacity and the fixed price is $7.57/kW-month ("Fixed Price"), subject
to adjustment upon the occurrence of certain events. Cash settlement occurs on a
monthly basis based on the In-City  Unforced  Capacity  price  determined by the
relevant  New York  Independent  System  Operator  ("NYISO")  Spot Demand  Curve
Auction Market ("Floating Price"). For each monthly settlement period, the price
difference  equals  the Fixed  Price  minus the  Floating  Price.  If such price
difference is less than zero, Morgan Stanley will pay KeySpan an amount equal to
the product of (a) the  Notional  Quantity  and (b) the  absolute  value of such
price  difference.  Conversely,  if such price  difference is greater than zero,
KeySpan  will pay  Morgan  Stanley  an amount  equal to the  product  of (a) the
Notional  Quantity and (b) the  absolute  value of such price  difference.  This
derivative instrument does not qualify for hedge accounting treatment under SFAS
133 and is subject to fair value accounting treatment. The recognized fair value
associated  with this  instrument is  immaterial to the financial  statements at
September 30, 2006. As noted, this is a financial  derivative  instrument and is
unrelated to any physical production of electricity.

KeySpan has a  management  contract  with  Merrill  Lynch  Trading,  under which
KeySpan and Merrill Lynch Trading will share the  responsibilities  for managing
KeySpan's upstream gas distribution assets associated with its Massachusetts gas
distribution subsidiaries, as well as providing city-gate delivered supply. This
contract,  which  replaces the prior  arrangement  with Merrill  Lynch  Trading,
allows  for  both  KeySpan  and  Merrill  Lynch  Trading  to  employ  derivative
instruments  to  maximize  the  profitability  of  KeySpan's  portfolio  of  gas
distribution assets. Profits associated with these activities are shared between
KeySpan,  Merrill  Lynch  Trading and  KeySpan's  Massachusetts  ratepayers.  At
September 30, 2006,  KeySpan's  proportionate share of the fair value associated
with  these  derivative  instruments  amounted  to $10.8  million.  KeySpan  has
recorded a  regulatory  liability of $7.8  million on the  Consolidated  Balance
Sheet representing the portion to be shared with Massachusetts  ratepayers.  The
remaining  amount was recorded as a benefit to revenues.  KeySpan provides these
services  internally  for  its  New  York  and New  Hampshire  gas  distribution
subsidiaries.


                                       16
<PAGE>


Interest Rate Derivative  Instruments:  KeySpan anticipates issuing,  subject to
execution of definitive agreements,  approximately $400 million Senior Unsecured
Notes at KEDNY and approximately $100 million Senior Unsecured Notes at KEDLI in
the fourth quarter of 2006. The Notes are anticipated to be issued with ten year
maturities.  KeySpan  utilized a $125 million  treasury lock, at 4.77%, to hedge
the 5-year US Treasury  component  of the  underlying  notes and a $125  million
treasury  lock,  at 4.82%,  to hedge the  10-year US Treasury  component  of the
underlying  notes.  At  September  30,  2006 the fair value of these  derivative
instruments was a liability of $2.9 million. The accounting for these derivative
instruments  is  subject  to  SFAS  71.  Therefore,  the  fair  value  of  these
derivatives  was recorded as a current  liability,  with an offsetting  position
recorded as a regulatory asset on the Consolidated Balance Sheet.

These derivative  instruments  settled on October 25, 2006 at which time KeySpan
paid  $0.2  million  to the  counterparty  to the  contracts.  The  loss  on the
settlement of these contracts has been deferred for future  collection from firm
gas sales customers consistent with regulatory requirements.

The  table  below  summarizes  the fair  value of all of the  above  outstanding
derivative  instruments  at September  30, 2006 and  December 31, 2005,  and the
related line item on the Consolidated Balance Sheet. Fair value is the amount at
which derivative instruments could be exchanged in a current transaction between
willing parties, other than in a forced liquidation sale.

----------------------------------------------------------------------------
(In Millions of Dollars)                 Sept. 30, 2006    December 31, 2005
----------------------------------------------------------------------------
Gas Contracts:
  Other current assets                          $   26.2           $  132.1
  Other deferred charges                           138.2               75.2
  Regulatory asset                                 257.3               30.9
  Other current liability                         (272.7)             (39.8)
  Other deferred liabilities                       (47.7)             (44.3)
  Regulatory liability                            (122.2)            (175.4)

Oil Contracts:
  Other current assets                                 -                0.5
  Other current liability                           (3.8)              (6.8)

Electric Contracts:
  Other current assets                              20.7               10.2
  Other deferred charges                             0.3                  -
  Other current liability                              -               (0.7)

Interest Rate Contracts:
  Regulatory asset                                   2.8                  -
  Other current liability                           (2.8)                 -
----------------------------------------------------------------------------
                                                $   (3.7)          $  (18.1)
----------------------------------------------------------------------------



                                       17
<PAGE>


Weather  Derivatives:  The utility tariffs associated with KEDNE's operations do
not contain weather normalization  adjustments.  As a result,  fluctuations from
normal weather may have a significant positive or negative effect on the results
of these operations.

In 2005, we entered into  heating-degree  day put options,  which expired during
the first  quarter of 2006, to mitigate the effect of  fluctuations  from normal
weather on KEDNE's  financial  position and cash flows for the 2005/2006  winter
heating season - November 2005 through March 2006.  These put options would have
paid  KeySpan up to $40,000 per heating  degree day when the actual  temperature
was below 4,169  heating  degree days, or  approximately  5% warmer than normal,
based on the most recent 20-year average for normal weather.  The maximum amount
KeySpan would have received on these purchased put options was $16 million.  The
net premium cost for these options was $1.2 million and was  amortized  over the
heating season.  Weather for the entire primary winter heating season  -November
2005 through March 2006 - was slightly colder than normal. Therefore,  there was
no earnings  impact  associated with these weather  derivatives,  except for the
amortization of the net premium cost. We account for these derivatives  pursuant
to the requirements of EITF 99-2,  "Accounting for Weather Derivatives." In this
regard, such instruments are accounted for using the "intrinsic value method" as
set forth in such guidance.

In the third quarter of 2006, we entered into  heating-degree day put options to
mitigate the effect of  fluctuations  from normal  weather on KEDNE's  financial
position  and cash flows for the  upcoming  2006/2007  winter  heating  season -
November  2006  through  March 2007.  These put  options  will pay KeySpan up to
$37,500  per  heating  degree day when the  actual  temperature  is below  4,159
heating degree days, or approximately  5% warmer than normal,  based on the most
recent  20-year  average for normal  weather.  The maximum  amount  KeySpan will
receive on these purchased put options is $15 million.  The net premium cost for
these options is $1.7 million and will be amortized over the heating season.

Credit and Collateral:

Derivative  contracts  are  primarily  used to manage  exposure  to market  risk
arising  from changes in commodity  prices and interest  rates.  In the event of
non-performance by a counterparty to a derivative  contract,  the desired impact
may not be  achieved.  The risk of  counterparty  non-performance  is  generally
considered a credit risk and is actively managed by assessing each  counterparty
credit  profile and  negotiating  appropriate  levels of  collateral  and credit
support. In instances where the counterparties'  credit quality has declined, or
credit  exposure  exceeds  certain  levels,  we may limit our credit exposure by
restricting  new  transactions   with   counterparties,   requiring   additional
collateral or credit support and  negotiating  the early  termination of certain
agreements.  At September  30, 2006,  KeySpan has received $5.6 million from its
counterparties as collateral  associated with outstanding  derivative contracts.
This amount has been recorded as restricted cash, with an offsetting position in
current  liabilities on the  Consolidated  Balance Sheet. At September 30, 2006,
KeySpan has $51.6 million of outstanding  margin calls to its counterparties for
open   derivative   instruments   associated   with  its  strategy  to  minimize
fluctuations in gas sales prices to its regulated firm gas sales customers.


                                       18
<PAGE>


We  believe  that our credit  risk  related  to the above  mentioned  derivative
financial  instruments is no greater than the risk  associated  with the primary
contracts  which they hedge and that the  elimination  of a portion of the price
risk  reduces  volatility  in the  reported  results  of  operations,  financial
position and cash flows and lowers overall business risk.

5. RECENT ACCOUNTING PRONOUNCEMENTS

On September 29, 2006, the Financial  Accounting Standards Board ("FASB") issued
Statement  of  Financial   Accounting  Standard  158  ("SFAS  158")  "Employers'
Accounting for Defined Benefit Pensions and Other Postretirement  Benefit Plans,
an amendment of FASB  Statements  No. 87, 88, 106 and 132(R)." SFAS 158 requires
employers to fully  recognize  all  postretirement  plans  funded  status on the
balance  sheet as a net  liability  or  asset  and will  require  an  offsetting
adjustment to accumulated other  comprehensive  income in shareholders'  equity.
KeySpan estimates, using actual results through January 1, 2006 adjusted for the
amortization  of  unrecognized  gains and losses and prior  service  cost during
2006,  that  the  pre-tax  increase  in  its  total  postretirement  liabilities
resulting  from the adoption of the  recognition  provisions of SFAS 158 will be
approximately  $1  billion.  Certain of  KeySpan's  subsidiaries  are subject to
deferral accounting  requirements pursuant to rate agreements with the NYPSC and
the  Massachusetts   Department  of  Telecommunications  and  Energy  ("MADTE").
Further,   KeySpan  has  certain   contractual   rights  to  reimbursement   for
postretirement  liabilities  in  its  agreements  with  the  Long  Island  Power
Authority  ("LIPA").  As such,  a  portion  of the  offsetting  position  to the
increase  in  the  total  postretirement  liabilities  will  be  reflected  as a
regulatory  asset and  long-term  receivable.  The  amount to be  recorded  as a
regulatory   asset  and  long-term   receivable   and  the  related   impact  on
shareholders' equity is subject to final  determination.  At this point in time,
KeySpan believes that it will remain in compliance with all applicable financial
covenants  upon  implementation  of SFAS  158.  SFAS  158 does  not  change  how
postretirement  benefits are accounted for and reported in the income statement;
companies  will  continue  to apply  existing  accounting  guidance.  KeySpan is
currently reviewing the income tax implications, if any, of SFAS 158.

The recognition  and disclosure  provisions of SFAS 158 are effective for fiscal
years ending after December 15, 2006, on a prospective  basis. SFAS 158 does not
permit  retroactive  application of its provisions;  however,  SFAS 158 requires
footnote  disclosure  of the  incremental  effect on the balance sheet on a line
item basis in the year of adoption.

On September 15, 2006, the FASB issued SFAS 157 "Fair Value  Measurements." This
statement  defines fair value,  establishes a framework for measuring fair value
in generally accepted  accounting  principles and expands disclosures about fair
value.  This Statement  expands the  disclosures  about the use of fair value to
measure  assets and  liabilities  in interim and annual  periods  subsequent  to
initial  recognition.  The disclosures  focus on the inputs used to measure fair
value,  the recurring fair value  measurements  using  significant  unobservable
inputs and the effect of the  measurement on earnings (or changes in net assets)
for the period.  The guidance in this Statement also applies for derivatives and
other  financial   instruments  measured  at  fair  value  under  Statement  133


                                       19
<PAGE>


"Accounting  for  Derivative  Instruments  and  Hedging  Activities"  at initial
recognition  and in all  subsequent  periods.  This  Statement is effective  for
fiscal years beginning after November 15, 2007, and interim periods within those
fiscal years. KeySpan is currently reviewing the requirements of this Statement,
and at this point in time cannot  determine what impact,  if any, this Statement
will have on its results of operations  or financial  position.  This  Statement
will have no impact on cash flow.

On July  13,  2006,  the FASB  issued  Interpretation  No.  48  "Accounting  for
Uncertainty  In Income  Taxes."  The FASB,  in its  interpretation  of SFAS 109,
"Accounting  for  Income  Taxes,"  seeks to reduce  the  diversity  in  practice
associated with certain aspects of the recognition and measurement  requirements
related to accounting for income taxes. The Interpretation  requires application
for fiscal  years  beginning  after  December  15,  2006.  KeySpan is  currently
reviewing the  requirements of this Statement,  and at this point in time cannot
determine  what  impact,  if any,  this  Statement  will have on its  results of
operations or financial  position.  This  Statement  will have no impact on cash
flow.

In  December   2004  the  FASB  issued  SFAS  123  (revised  2004  "SFAS  123R")
"Share-Based   Payment."   SFAS  123R  focuses   primarily  on  accounting   for
transactions in which an entity obtains employee services in share-based payment
transactions.  SFAS 123R revises certain  provisions of SFAS 123 "Accounting for
Stock-Based  Compensation"  and supersedes APB Opinion 25 "Accounting  for Stock
Issued to Employees." The fair-value-based method in SFAS 123R is similar to the
fair-value-based method in SFAS 123 in most respects. However, the following are
key  differences   between  the  two:  entities  are  now  required  to  measure
liabilities  incurred to employees in share-based  payment  transactions at fair
value as compared to using the intrinsic method allowed under SFAS 123; entities
are now required to estimate the number of  instruments  for which the requisite
service is expected to be rendered, as compared to accounting for forfeitures as
they occur under SFAS 123; and incremental  compensation cost for a modification
of the terms or conditions of an award are also measured  differently under SFAS
123R compared to Statement  123. SFAS 123R also clarifies and expands SFAS 123's
guidance in several areas.  The effective date of SFAS 123R was the beginning of
the first  fiscal  year  beginning  after June 15,  2005.  KeySpan  adopted  the
prospective  method of transition for stock options in accordance  with SFAS 148
"Accounting   for  Stock-Based   Compensation  -  Transition  and   Disclosure."
Accordingly,  compensation  expense has been  recognized  by employing  the fair
value  recognition  provisions  of SFAS 123 for grants  awarded after January 1,
2003.  Therefore  implementation  of SFAS  123R in  January  2006 did not have a
material impact on KeySpan's results of operations or financial  position and no
impact on its cash flows.

6. FINANCIAL GUARANTEES AND CONTINGENCIES

Variable  Interest Entity:  KeySpan has an arrangement with a variable  interest
entity through which it leases a portion of the Ravenswood Facility. We acquired
the Ravenswood Facility,  a 2,200-megawatt  electric generating facility located
in Queens,  New York,  in part,  through  the  variable  interest  entity,  from
Consolidated  Edison on June 18, 1999, for approximately $597 million.  In order


                                       20
<PAGE>


to reduce the initial cash requirements,  we entered into a lease agreement (the
"Master Lease") with a variable  interest,  unaffiliated  financing  entity that
acquired a portion of the facility,  or three steam generating  units,  directly
from  Consolidated  Edison and leased it to our subsidiary,  KeySpan  Ravenswood
LLC. The variable interest  unaffiliated  financing entity acquired the property
for $425 million,  financed with debt of $412.3 million (97% of  capitalization)
and equity of $12.7  million (3% of  capitalization).  KeySpan has no  ownership
interests in the units or the variable  interest entity.  KeySpan has guaranteed
all payment and performance  obligations of KeySpan  Ravenswood,  LLC, under the
Master Lease.  Monthly lease payments  substantially  equal the monthly interest
expense on such debt securities.

The term of the  Master  Lease  extends  through  June 20,  2009.  On all future
semi-annual  payment  dates,  we have the  right to:  (i)  either  purchase  the
facility for the original  acquisition  cost of $425  million,  plus the present
value of the lease  payments  that would  otherwise  have been paid through June
2009; or (ii)  terminate  the Master Lease and dispose of the facility.  In June
2009,  when the Master  Lease  terminates,  we may  purchase  the facility in an
amount  equal to the  original  acquisition  cost,  subject  to  adjustment,  or
surrender the facility to the lessor.  If we elect not to purchase the property,
the Ravenswood  Facility will be sold by the lessor.  We have  guaranteed to the
lessor, as residual value, 84% of the acquisition cost of the property.

We have  classified  the Master Lease as $412.3 million of long-term debt on the
Consolidated  Balance Sheet based on our current status as primary  beneficiary.
Further,  we have an asset  on the  Consolidated  Balance  Sheet  for an  amount
substantially  equal  to the  fair  market  value of the  leased  assets  at the
inception of the lease,  less  depreciation  since that date,  or  approximately
$311.4 million.  If KeySpan  Ravenswood LLC, was not able to fulfill its payment
obligations  with respect to the Master Lease payments,  then the maximum amount
KeySpan would be exposed to under its current  guarantees  would be $425 million
plus the present value of the remaining lease payments through June 20, 2009.

Sale/leaseback  Transaction:  KeySpan  also  has  a  leveraged  lease  financing
arrangement associated with the Ravenswood Expansion.  In May 2004, the unit was
acquired  by  a  lessor  from  our  subsidiary,  KeySpan  Ravenswood,  LLC,  and
simultaneously  leased back to that  subsidiary.  All the obligations of KeySpan
Ravenswood,  LLC have been  unconditionally  guaranteed  by KeySpan.  This lease
transaction  qualifies  as an  operating  lease  under SFAS 98  "Accounting  for
Leases:  Sale/Leaseback Transactions Involving Real Estate; Sales-Type Leases of
Real Estate;  Definition  of the Lease Term;  an Initial  Direct Costs of Direct
Financing Leases, an amendment of FASB Statements No.13, 66, 91 and a rescission
of FASB Statement No. 26 and Technical Bulletin No. 79-11."

Asset Retirement  Obligations:  KeySpan has various asset retirement obligations
primarily   associated  with  its  gas  distribution  and  electric   generation
activities.   These  obligations  have  remained  substantially  unchanged  from
December 31, 2005, except for normal accretion adjustments. Generally, KeySpan's
largest asset retirement  obligations  relate to: (i) legal  requirements to cut
(disconnect from the gas distribution  system),  purge (clean of natural gas and


                                       21
<PAGE>


PCB contaminants) and cap gas mains within its gas distribution and transmission
system when mains are retired in place;  or dispose of sections of gas main when
removed  from the  pipeline  system;  (ii)  cleaning  and  removal  requirements
associated with storage tanks containing waste oil and other waste contaminants;
and (iii)  legal  requirements  to remove  asbestos  upon  major  renovation  or
demolition  of  structures  and  facilities.   At  September  30,  2006,   these
obligations  total $49.4 million.  See KeySpan's  Annual Report on Form 10-K for
the  year  ended  December  31,  2005,  Note  7 to  the  Consolidated  Financial
Statements "Contractual Obligations, Financial Guarantees and Contingencies" for
additional information regarding these obligations.

Environmental Matters

New York Sites:  Within the State of New York we have  identified  43 historical
manufactured gas plant ("MGP") sites and related facilities, which were owned or
operated by KeySpan subsidiaries or such companies'  predecessors.  These former
sites, some of which are no longer owned by KeySpan, have been identified to the
Department of  Environmental  Conservation  ("DEC") for inclusion on appropriate
site inventories.  Administrative Orders on Consent ("ACO") or Voluntary Cleanup
Agreements  ("VCA") have been executed with the DEC to address the investigation
and/or remediation activities associated with certain sites and one waterway. In
March 2005,  KeySpan withdrew its previously filed  applications under the DEC's
Brownfield  Cleanup Program  ("BCP") because of the uncertainty  associated with
the  effect  emerging  case law will  have on  contribution  suits  which may be
brought  against  other  parties  who  impacted  these  sites for their share of
remedial  cost.  KeySpan  continues  to evaluate  how to proceed with respect to
participation in the BCP or alternative DEC remediation programs.  Regardless of
which  cleanup  program  is  ultimately  employed,   KeySpan  fully  intends  to
investigate  and  remediate  these  sites,  as  necessary,  and has adjusted its
planned expenditures accordingly.

KeySpan has identified 28 of these sites as being associated with the historical
operations of KEDNY. One site has been fully  remediated.  Subject to the issues
described  in  the  preceding   paragraph,   the  remaining  27  sites  will  be
investigated  and, if necessary,  remediated  under the terms and  conditions of
ACOs, VCAs, or Brownfield Cleanup Agreements ("BCA").  Expenditures  incurred to
date by us with respect to KEDNY MGP-related activities total $75.2 million.

The  remaining  15 sites  have  been  identified  as being  associated  with the
historical  operations  of  KEDLI.  One  site has been  fully  investigated  and
requires no further action. Subject to the issues described above, the remaining
sites will be  investigated  and, if necessary,  remediated  under the terms and
conditions  of ACOs,  VCAs,  or BCAs.  Expenditures  incurred to date by us with
respect to KEDLI MGP-related activities total $59.1 million.

KeySpan  presently   estimates  the  remaining  cost  of  its  KEDNY  and  KEDLI
MGP-related  environmental  remediation activities will be $333.7 million, which
amount has been  accrued by us as a  reasonable  estimate of  probable  cost for
known sites.  However,  remediation costs for each site may be materially higher
than noted,  depending  upon changing  technologies  and  regulatory  standards,


                                       22
<PAGE>


selected end use for each site, and actual environmental conditions encountered.
With respect to remediation  costs, KEDNY and KEDLI rate plans generally provide
for the  recovery  from  customers of  investigation  and  remediation  costs of
certain sites.  At September 30, 2006, we have  reflected a regulatory  asset of
$378.4 million for KEDNY/KEDLI MGP sites. In October 2003, KEDNY and KEDLI filed
a  joint   petition  with  the  NYPSC  seeking  rate  treatment  for  additional
environmental  costs that may be incurred at all of the New York MGP sites. That
petition is still  pending.  KeySpan has recently  filed proposed rate plans for
KEDNY and KEDLI with the NYPSC as part of its  application  for  approval of the
KeySpan / National  Grid plc merger,  as well as individual  applications  for a
proposed  annual  increase in revenues for KEDNY and KEDLI.  Among other things,
these filings seek recovery of deferred expenses  associated with remediation of
MGP  sites,  as  well as  recovery  of  ongoing  remediation  expenses.  See the
"Introduction  to  the  Notes  to the  Consolidated  Financial  Statements"  for
additional details on the filings.

KeySpan is also responsible for  environmental  obligations  associated with the
Ravenswood  Facility,  purchased  from  Consolidated  Edison in 1999,  including
remediation  activities  associated with its historical  operations and those of
the  MGP  facilities  that  formerly  operated  at  the  site.  KeySpan  is  not
responsible for liabilities arising from disposal of waste at off-site locations
prior  to  the   acquisition   closing  and  any  monetary  fines  arising  from
Consolidated  Edison's  pre-closing conduct. We presently estimate the remaining
environmental  clean up  activities  for this site will be $1.5  million,  which
amount has been accrued by us. Expenditures incurred to date total $3.5 million.

New England Sites: Within the Commonwealth of Massachusetts and the State of New
Hampshire, we are aware of 74 former MGP sites and related facilities within the
existing or former service territories of KEDNE.

Boston Gas Company, Colonial Gas Company and Essex Gas Company may have or share
responsibility under applicable  environmental laws for the remediation of 64 of
these sites. A subsidiary of National Grid USA ("National  Grid"),  formerly New
England Electric System, has assumed  responsibility for remediating 11 of these
sites,  subject  to a limited  contribution  from  Boston Gas  Company,  and has
provided full  indemnification to Boston Gas Company with respect to eight other
sites.  In  addition,  Boston Gas Company,  Colonial Gas Company,  and Essex Gas
Company have assumed  responsibility  for remediating  three sites each. At this
time, it is uncertain as to whether Boston Gas Company,  Colonial Gas Company or
Essex Gas Company have or share  responsibility for remediating any of the other
sites. No notice of responsibility  has been issued to us for any of these sites
from any governmental environmental authority.

KeySpan  presently  estimates  the  remaining  cost of the  Massachusetts  KEDNE
MGP-related environmental cleanup activities will be $10.5 million, which amount
has been  accrued by us as a  reasonable  estimate  of  probable  cost for known
sites,  however  remediation  costs for each site may be materially  higher than
noted,  depending upon changing technologies and regulatory standards,  selected
end  use  for  each  site,  and  actual  environmental  conditions  encountered.
Expenditures  incurred since the November 8, 2000, the acquisition date of these
subsidiaries, with respect to these MGP-related activities total $32.8 million.


                                       23
<PAGE>


KeySpan may have or share responsibility under applicable environmental laws for
the  remediation  of 10 MGP sites and  related  facilities  associated  with the
historical  operations of EnergyNorth in New Hampshire.  At four of these sites,
KeySpan has entered into cost sharing  agreements  with other  parties who share
responsibility for remediation of these sites.  EnergyNorth also entered into an
agreement with the United States Environmental Protection Agency ("EPA") for the
contamination  from the Nashua site that was allegedly  commingled with asbestos
at the so-called  Nashua River Asbestos  Site,  adjacent to the Nashua MGP site.
The Nashua River Asbestos Site now has been fully remediated.

KeySpan  presently  estimates  the  remaining  cost of  EnergyNorth  MGP-related
environmental  cleanup  activities will be $26.7 million,  which amount has been
accrued as a  reasonable  estimate of probable  cost for known  sites,  however,
remediation costs for each site may be materially  higher than noted,  depending
upon changing technologies and regulatory  standards,  selected end use for each
site and actual  environmental  conditions  encountered.  Expenditures  incurred
since November 8, 2000, the acquisition date of this subsidiary, with respect to
the MGP-related activities total $21.7 million.

By rate orders, the Massachusetts  Department of  Telecommunications  and Energy
("MADTE") and the New Hampshire Public Utility Commission  ("NHPUC") provide for
the recovery of site  investigation and remediation costs and,  accordingly,  at
September  30, 2006, we have  reflected a regulatory  asset of $49.3 million for
the KEDNE MGP sites.

KeySpan New  England,  LLC Sites:  KeySpan is aware of three  non-utility  sites
associated  with  KeySpan  New  England,  LLC,  a  successor  company to Eastern
Enterprises, for which it may have or share environmental remediation or ongoing
maintenance   responsibility.   These  three  sites,  located  in  Philadelphia,
Pennsylvania, New Haven, Connecticut and Everett, Massachusetts, were associated
with  historical  operations  involving  the  production  of  coke  and  related
industrial processes. Honeywell International,  Inc. and Beazer East, Inc. (both
former  owners and/or  operators of certain  facilities at Everett (the "Everett
Facility")   together  with   KeySpan,   have  entered  into  an  ACO  with  the
Massachusetts  Department of Environmental  Protection for the investigation and
development  of a remedial  response  plan for a portion of that site.  In 1989,
KeySpan,  Honeywell and Beazer East entered into a cost-sharing  agreement under
which each company  agreed to pay one-third of the costs of compliance  with the
consent  order,  while  preserving  any  claims  it may have  against  the other
companies for, among other things,  reallocation of proportionate  liability. In
2002,  Beazer  East  commenced  an  action  in the U.S.  District  Court for the
Southern  District of New York,  which  sought a judicial  determination  on the
allocation  of liability for the Everett  Facility.  A  confidential  settlement
agreement has been executed on favorable terms to KeySpan and the Beazer lawsuit
has been discontinued.

KeySpan  presently  estimates the remaining  cost of the  environmental  cleanup
activities  for  these  three  non-utility  sites  will be  approximately  $13.4
million,  which  amount has been  accrued as a  reasonable  estimate of probable
costs for known sites however, remediation costs for each site may be materially
higher  than  noted,   depending  upon  changing   technologies  and  regulatory
standards,  selected end use for each site, and actual environmental  conditions
encountered. Expenditures incurred since November 8, 2000, with respect to these
sites total $19.5 million.


                                       24
<PAGE>


KeySpan  believes  that in the  aggregate,  the accrued  liability for these MGP
sites and related  facilities  identified above are reasonable  estimates of the
probable  cost  for  the  investigation  and  remediation  of  these  sites  and
facilities.  As circumstances  warrant, we periodically  re-evaluate the accrued
liabilities associated with MGP sites and related facilities. We may be required
to investigate and, if necessary, remediate each site previously noted, or other
currently  unknown former sites and related facility sites, the cost of which is
not  presently  determinable  but may be  material  to our  financial  position,
results of operations or cash flows.

Insurance  Settlements:   KeySpan  has  entered  into  confidential   settlement
agreements  with  certain  of its  insurance  carriers  for  recovery  of  costs
associated  with the  investigation  and  remediation  of its MGP  sites and the
KeySpan New  England  LLC  non-utility  sites.  Pursuant  to these  settlements,
KeySpan  recorded a benefit of $5.5  million in its  Consolidated  Statement  of
Income for the nine months  ended  September  30, 2006,  reflecting  the benefit
accruing  to  KeySpan's  shareholders.  Recovery  of  environmental  costs  from
insurance  carriers  associated with utility MGP sites are refunded to KeySpan's
ratepayers, subject to certain sharing provisions. During the past year, KeySpan
has received  approximately  $20 million from insurance  carriers in settlements
for recovery of environmental costs associated with remediation of MGP sites.

See KeySpan's  Annual  Report on Form 10-K for the year ended  December 31, 2005
Note 7, to those Consolidated  Financial  Statements  "Contractual  Obligations,
Financial Guarantees and Contingencies" for further information on environmental
matters.

Legal Matters

From time to time KeySpan is subject to various legal proceedings arising out of
the ordinary course of its business.  Except as described below, or in KeySpan's
Annual  Report on Form 10-K for the year  ended  December  31,  2005,  we do not
consider  any of such  proceedings  to be material to our  business or likely to
result  in a  material  adverse  effect  on  results  of  operations,  financial
condition or cash flows.

On March 20, 2006, a purported class action lawsuit was filed alleging breach of
fiduciary duty against KeySpan and its directors. The complaint, which was filed
in the New York  State  Supreme  Court for the  County of Kings  (the  "Court"),
related to the  execution of the Merger  Agreement  with  National  Grid plc and
alleged that the merger consideration which KeySpan's stockholders would receive
in connection  with the proposed  merger  transaction  was inadequate and unfair
because the transaction value of $42.00 for each share of KeySpan's common stock
outstanding did not provide its stockholders with a meaningful  premium over the
market price of the common  stock.  On April 19,  2006,  we moved to dismiss the
complaint  for  failure to state a cause of action  upon which  relief  could be
granted.  On May 26, 2006,  the  plaintiff  served an amended  complaint  adding
National Grid plc as a defendant.  The amended  complaint  alleged that National


                                       25
<PAGE>


Grid plc aided and  abetted  the alleged  breach of  fiduciary  duties and added
claims of  inadequate  disclosure  with respect to KeySpan's  preliminary  proxy
materials. In June 2006, the parties agreed in principle to settle the case, the
terms of which  provide for,  among other  things,  the  inclusion of additional
disclosures in our 2006 Annual Meeting Proxy Statement concerning the background
and principle  events leading to execution of the Merger  Agreement,  as well as
the payment of plaintiff's  counsel fees of up to $350,000  following closing of
the transaction.  In October 2006, definitive settlement documents were executed
by the parties and submitted to the Court.  The settlement  remains subject to a
number of conditions, including Court approval following notice to shareholders.

On July 12, 2006, a purported class action was filed alleging damages  resulting
from  contamination  associated  with  the  historic  operations  of the  former
manufactured  gas plant in Bay Shore,  New York.  On  September  6, 2006 KeySpan
filed a motion to dismiss this matter which is pending. In addition,  on October
31, 2006, a lawsuit was filed alleging damages  resulting from the contamination
associated with the historic  operations of a former  manufactured  gas plant in
Staten Island,  New York.  KeySpan has been  conducting site  investigation  and
remediation activities at this location pursuant to an Order on Consent with the
DEC. KeySpan intends to contest each of these  proceedings  vigorously.  At this
time,  we are  unable to  predict  what  effect,  if any,  the  outcome of these
proceedings will have on our financial condition, results of operations and cash
flows.

Other  Contingencies:  We derive a  substantial  portion of our  revenues in the
Electric  Services  segment from a series of  agreements  with LIPA  pursuant to
which we manage  LIPA's  transmission  and  distribution  system  and supply the
majority of LIPA's customers'  electricity needs.  KeySpan and LIPA have entered
into agreements to extend,  amend, and restate these  contractual  arrangements.
See Note 10 "2006 LIPA Settlement" for a further discussion of these agreements.

LIPA  completed  its  strategic  review  initiative  that it had  undertaken  in
connection with, among other reasons,  its option under the Generation  Purchase
Rights  Agreement  with KeySpan.  As part of its review,  LIPA engaged a team of
advisors and  consultants,  held public  hearings  and  explored  its  strategic
options,   including   continuing  its  existing   operations,   municipalizing,
privatizing,  selling some,  but not all of its assets,  becoming a regulator of
rates and services,  or merging with one or more  utilities.  Upon completion of
its  strategic  review,  LIPA  determined  that it would  continue  its existing
operations  and entered  into the  renegotiated  2006 LIPA  Agreements  that are
discussed in Note 10 "2006 LIPA  Settlement."  Following the announcement of the
proposed  acquisition of KeySpan by National Grid plc,  LIPA,  National Grid plc
and KeySpan have engaged in discussions concerning the impact of the transaction
on LIPA's  operations.  At this time, we are unable to determine what impact, if
any, such  discussions  may have on the 2006 LIPA Agreements and the receipt and
timing of governmental approvals relating thereto.

As reported in KeySpan's  Annual Report on Form 10-K for the year ended December
31,  2005,  pursuant  to  indemnity  obligations  contained  in the Long Island
Lighting  Company  ("LILCO")  / KeySpan  merger  agreement,  KeySpan has been in
discussions with the Internal Revenue Service ("IRS") with regard to LILCO's tax
returns for the tax years ended  December 31, 1996 through  March 31, 1999,  and
KeySpan's  and the Brooklyn  Union Gas Company's tax returns for the years ended
September  30, 1997 through  December 31, 1998.  Two issues were resolved in the
second quarter of 2006. It is anticipated that the remaining  issues,  including
the primary issue relating to the valuation of certain assets transferred in the
KeySpan/LILCO  business  combination,  will be settled following approval by the
Joint Committee on


                                       26
<PAGE>


Taxation.  The IRS  submitted  the case to the Joint  Committee  on  Taxation on
October 30, 2006.  Additionally,  the IRS recently  commenced the examination of
KeySpan's tax returns for the years ended 2002 and 2003. At this time, we cannot
predict the result of these audits.  See Note 11 "Income  Taxes" for  additional
information.

Financial Guarantees

KeySpan has issued  financial  guarantees in the normal  course of business,  on
behalf of its subsidiaries,  to various third party creditors.  At September 30,
2006,  the  following  amounts  would have to be paid by KeySpan in the event of
non-payment by the primary obligor at the time payment is due:

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
                                                               Amount of   Expiration
  Nature of Guarantee (In Millions of Dollars)                 Exposure       Dates
------------------------------------------------------------------------------------------
<S>                                               <C>           <C>       <C>
Guarantees for Subsidiaries
  Medium-Term Notes - KEDLI                       (i)          $   525.0   2008 - 2010
  Industrial Development Revenue Bonds            (ii)             128.3       2027
  Ravenswood - Master Lease                       (iii)            425.0       2009
  Ravenswood - Sale/leaseback                     (iv)             403.5       2019
  Surety Bonds                                    (v)               71.4   2006 - 2008
  Commodity Guarantees and Other                  (vi)              77.0   2006 - 2009
  Letters of Credit                               (vii)             80.3   2006 - 2010
------------------------------------------------------------------------------------------
                                                               $ 1,710.5
------------------------------------------------------------------------------------------
</TABLE>

The following is a description of KeySpan's outstanding subsidiary guarantees:

(i)  KeySpan has fully and unconditionally guaranteed $525 million to holders of
     Medium-Term  Notes  issued  by KEDLI.  These  notes are due to be repaid on
     January  15, 2008 and  February  1, 2010.  KEDLI is required to comply with
     certain  financial  covenants under the debt agreements.  The face value of
     these notes is  included  in  long-term  debt on the  Consolidated  Balance
     Sheet.

(ii) KeySpan has fully and unconditionally guaranteed the payment obligations of
     its  subsidiaries  with regard to $128  million of  Industrial  Development
     Revenue  Bonds  issued   through  the  Nassau  County  and  Suffolk  County
     Industrial   Development   Authorities   for   the   construction   of  two
     electric-generation  peaking plants on Long Island. The face value of these
     notes are included in long-term debt on the Consolidated Balance Sheet.

(iii) KeySpan has guaranteed all payment and performance  obligations of KeySpan
     Ravenswood,  LLC, the lessee under the Master Lease.  The term of the lease
     has been  extended to June 20,  2009.  The Master  Lease is  classified  as
     $412.3 million long-term debt on the Consolidated Balance Sheet.


                                       27
<PAGE>


(iv) KeySpan has guaranteed all payment and  performance  obligations of KeySpan
     Ravenswood, LLC, the lessee under the sale/leaseback transaction associated
     with the Ravenswood Expansion,  including future decommissioning costs. The
     initial term of the lease is for 36 years. As noted previously,  this lease
     qualifies as an operating  lease and is not  reflected on the  Consolidated
     Balance Sheet.

(v)  KeySpan  has  agreed  to  indemnify  the  issuers  of  various  surety  and
     performance  bonds  associated  with certain  construction  projects  being
     performed by certain current or former subsidiaries.  In the event that the
     subsidiaries fail to perform their obligations under contracts, the injured
     party may demand that the surety make  payments or provide  services  under
     the bond.  KeySpan  would then be obligated to reimburse the surety for any
     expenses or cash outlays it incurs.  Although  KeySpan is not  guaranteeing
     any new  bonds  for any of the  former  subsidiaries,  KeySpan's  indemnity
     obligation   supports   the   contractual   obligation   of  these   former
     subsidiaries.  KeySpan  has  also  received  from a  former  subsidiary  an
     indemnity bond issued by a third party  insurance  company,  the purpose of
     which is to  reimburse  KeySpan in an amount up to $80 million in the event
     it is required to perform under all other indemnity obligations  previously
     incurred by KeySpan to support  such  company's  bonded  projects  existing
     prior to  divestiture.  At September  30, 2006,  the total cost to complete
     such  remaining  bonded  projects is  estimated to be  approximately  $26.5
     million.

(vi) KeySpan has guaranteed  commodity-related  payments for subsidiaries within
     the Energy  Services  segment,  as well as KeySpan  Ravenswood,  LLC. These
     guarantees  are  provided  to third  parties  to  facilitate  physical  and
     financial  transactions  involved in the  purchase of natural  gas, oil and
     other petroleum products for electric production and marketing  activities.
     The guarantees cover actual purchases by these  subsidiaries that are still
     outstanding as of September 30, 2006.

(vii) KeySpan has arranged for stand-by  letters of credit to be issued to third
     parties that have extended credit to certain subsidiaries.  Certain vendors
     require us to post  letters of credit to guarantee  subsidiary  performance
     under our contracts and to ensure payment to our subsidiary  subcontractors
     and vendors  under those  contracts.  Certain of our vendors  also  require
     letters of credit to ensure  reimbursement  for amounts they are disbursing
     on  behalf  of  our  subsidiaries,  such  as  to  beneficiaries  under  our
     self-funded insurance programs. Such letters of credit are generally issued
     by a bank or similar  financial  institution.  The letters of credit commit
     the issuer to pay  specified  amounts to the holder of the letter of credit
     if the  holder  demonstrates  that  we have  failed  to  perform  specified
     actions. If this were to occur,  KeySpan would be required to reimburse the
     issuer of the letter of credit.

     To date,  KeySpan has not had a claim made  against it for any of the above
     guarantees and we have no reason to believe that our subsidiaries or former
     subsidiaries will default on their current obligations.  However, we cannot
     predict  when or if any  defaults  may take  place or the  impact  any such
     defaults  may have on our  consolidated  results of  operations,  financial
     condition or cash flows.


                                       28
<PAGE>


7.   STOCK BASED COMPENSATION

From  time to  time,  KeySpan  awards  stock  based  compensation  to  officers,
directors,  consultants and certain other management employees,  primarily under
the Long Term Performance  Incentive  Compensation Plan (the "Incentive  Plan").
The  Incentive  Plan  provides  for  the  award  of  incentive   stock  options,
non-qualified  stock  options,  performance  shares and restricted  shares.  The
purpose of the  Incentive  Plan is to  optimize  KeySpan's  performance  through
incentives  that  directly  link the  participant's  goals to those of KeySpan's
shareholders  and to  attract  and  retain  participants  who  make  significant
contributions to the success of KeySpan.

Under this Plan,  19,250,000  shares were  authorized  for issuance of which the
total shares awarded to date include 16.9 million stock options,  222,143 shares
of restricted  stock,  and 891,555  performance  shares.  At September 30, 2006,
after  adjusting for  forfeitures,  there are  approximately  3.1 million shares
still  eligible to be granted  under the  Incentive  Plan.  In  addition,  under
previous plans, there were an additional 1.7 million shares authorized for which
approximately 1.2 million stock options were awarded.

In 2005,  KeySpan continued to apply APB Opinion 25 "Accounting for Stock Issued
to  Employees,"  in accounting  for grants  awarded prior to January 1, 2003. No
compensation  cost had been  recognized  for these stock option awards since the
exercise  prices  and  market  values  were  equal  on  the  grant  dates.   Had
compensation cost for these plans been determined based on the fair value at the
grant dates for awards under the plans  consistent with SFAS 123 "Accounting for
Stock-Based  Compensation,"  our net income and earnings per share for the three
and nine months ended  September 30, 2005 would have  decreased to the pro-forma
amounts indicated below:

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------
                                                              Three Months Ended     Nine Months Ended
(In Millions of Dollars, Except Per Share Amounts)             September 30, 2005    September 30, 2005
-------------------------------------------------------------------------------------------------------
<S>                                                                        <C>                  <C>
Earnings available for common stock:
As reported                                                             $   22.6              $  273.2
     Add: recorded stock-based compensation expense, net of tax              1.3                   7.4
     Deduct: total stock-based compensation expense, net of tax             (1.8)                 (8.8)
-------------------------------------------------------------------------------------------------------
Pro-forma earnings                                                      $   22.1              $  271.8
-------------------------------------------------------------------------------------------------------
Earnings per share:
     Basic - as reported                                                $   0.13              $   1.62
     Basic - pro-forma                                                  $   0.13              $   1.61

     Diluted - as reported                                              $   0.13              $   1.61
     Diluted - pro-forma                                                $   0.13              $   1.60
-------------------------------------------------------------------------------------------------------
</TABLE>



                                       29
<PAGE>


In 2003,  KeySpan adopted the prospective method of transition of accounting for
stock based  compensation  expense in accordance  with SFAS 148  "Accounting for
Stock-Based Compensation - Transition and Disclosure". Accordingly, compensation
expense has been recognized by employing the fair value  recognition  provisions
of SFAS 123 for grants  awarded after January 1, 2003. In January 2006,  KeySpan
adopted  SFAS 123  (revised  2004)  "Share-Based  Payment  ("SFAS  123R")."  The
implementation  of this  standard  required  KeySpan  to expense  certain  stock
options that had  previously  been accounted for under the  requirements  of APB
Opinion 25 and related  Interpretations,  i.e. awards issued prior to January 1,
2003.  No  compensation  cost had been  recognized  for these fixed stock option
plans in the  Consolidated  Financial  Statements  since the exercise prices and
market values were equal on the grant dates. For the nine months ended September
30, 2006,  KeySpan  recorded an expense of $1.0 million for stock option  awards
previously accounted for under APB 25 and which have not fully vested.

The following table presents the actual expense for all of KeySpan's stock based
compensation  awards  recorded in the  Consolidated  Statement of Income for the
periods indicated.

<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------
                                                                                 Nine Months Ended
                                                                         September 30,       September 30,
(In Millions of Dollars, Except Per Share Amounts)                             2006               2005
----------------------------------------------------------------------------------------------------------
<S>                                                                             <C>                 <C>
Performance shares                                                              $  6.1              $ 2.5
Restricted stock                                                                   3.9                0.6
Stock options                                                                      4.6                4.2
EDSPP discount                                                                     3.8                3.9
----------------------------------------------------------------------------------------------------------
Total stock-based compensation included in operations and maintenance expense     18.4               11.2
Income tax benefit                                                                (6.4)              (3.9)
----------------------------------------------------------------------------------------------------------
Total stock based compensation expense, net of tax                              $ 12.0              $ 7.3
----------------------------------------------------------------------------------------------------------
</TABLE>

Prior to the  adoption of SFAS 123R,  KeySpan  presented  all tax  benefits  for
deductions  resulting  from the  exercise  of stock  options  and  disqualifying
dispositions  as  operating  cash flows in its  Consolidated  Statement  of Cash
Flows. SFAS 123R requires the benefits of tax deductions in excess of recognized
compensation  expense to be reported as a financing cash flow, rather than as an
operating cash flow. This  requirement  will reduce net operating cash flows and
increase net  financing  cash flows in periods after  adoption.  Total cash flow
will remain  unchanged from what would have been reported under prior accounting
rules.

During the nine months ended  September  30, 2006 and 2005,  cash  received from
stock options exercised was $24.9 million and $42.7 million,  respectively.  The
actual tax benefit realized for tax deductions from stock options  exercised was
$2.6 million and $5.3 million for the nine months ended  September  30, 2006 and
2005,  respectively.  The benefits  received from these tax deductions were less
than the recognized  compensation  expense and accordingly  there were no excess
tax deductions  reported in the financing section of the Consolidated  Statement
of Cash Flows.









                                       30
<PAGE>


The following  represents a discussion of the various  awards  granted under our
stock based compensation plans:

Performance shares

Performance  shares were awarded under the Incentive Plan in 2004 and 2005 based
upon the attainment of overall corporate  performance  goals.  These performance
shares are measured over a three year period by comparing  KeySpan's  cumulative
total  shareholder  return to the S&P Utilities  Group.  For actual  performance
achieved at a  threshold  level,  50% of the award will be  granted;  for actual
performance achieved at a targeted level, 100% of the award will be granted; and
for actual performance  achieved at the maximum level, 150% of the award will be
granted.  The 2004  and 2005  awards  are  being  expensed  ratably  over  their
remaining performance periods.

The 2006 performance share award reflects the new performance condition criteria
under SFAS 123R. In 2006,  314,560  performance shares were granted to officers.
Performance  shares were  granted with a  three-year  performance  period with a
threshold,  target and  maximum  performance  level.  The number of  performance
shares earned at the end of the performance  period can range from 0% to 150% of
the  shares  granted  and  will  be  linked  to two  performance  measures:  the
percentage  improvement in return on invested capital,  or "ROIC," and KeySpan's
cumulative  three-year  total  stockholder  return,  or "TSR,"  relative  to the
cumulative  three-year TSR for the Standard and Poor's Utilities Group,  using a
matrix approach that  encompasses  both measures.  The ROIC goal will act as the
primary trigger.  If the ROIC goal performance is below the threshold level, all
shares shall be forfeited without payment. Upon a change of control, performance
shares shall be distributed  based upon the greater of the number of performance
shares  awarded at target  level or the number of shares  earned based on actual
performance  through the change of control date.  Performance  share awards were
priced  at fair  value on the date of grant.  The  unearned  compensation  as of
September 30, 2006 associated with all of the performance share awards was $13.8
million.

Restricted Stock Awards

KeySpan has made certain  grants of  restricted  stock to officers and directors
under the Incentive Plan. Awards of restricted stock were made in 2002, 2005 and
2006.  These  awards  may not be sold or  otherwise  transferred  until  certain
restrictions have lapsed. The unearned stock-based compensation related to these
awards is being amortized to  compensation  expense over the period in which the
awards vest. The  share-based  expense for these awards was determined  based on
the fair value of the stock at the date of grant  applied to the total number of
shares that were  anticipated  to fully  vest.  The 2002 and 2005 awards will be
fully  expensed  by the end of this year and the 2006 award was  expensed in the
first quarter of 2006.  Upon a change of control,  all  restricted  stock awards
will vest  immediately.  The unearned  compensation  as of  September  30, 2006,
associated with these awards was $0.1 million.


                                       31
<PAGE>


Employee Discount Stock Purchase Plan

KeySpan's  Employee  Discount  Stock  Purchase  Plan  ("EDSPP")  allows  KeySpan
employees to purchase shares of KeySpan stock at a 10% discount  through payroll
deductions. KeySpan is currently expensing the discount. The number of shares of
common stock  authorized  for issuance  under the EDSPP is 1,750,000  shares and
there are 414,602 shares remaining to be issued.

Stock Options

The stock option  component of the Incentive Plan entitles the  participants  to
purchase  shares of common stock at an exercise price per share which is no less
than the  closing  price of the  common  stock on the date of the  grant.  Stock
options  generally  vest over a  three-to-five  year period and have an exercise
period of ten years.  Upon a change of control,  all stock  options  granted and
outstanding will vest immediately.

The value of all stock  option  grants  are  estimated  on the date of the grant
using  the  Black-Scholes  option-pricing  model.  There  were no stock  options
granted in 2006. The following  table presents the weighted  average fair value,
exercise price and assumptions used for the 2005 stock option grant:

---------------------------------------------------
                                       2005
---------------------------------------------------
Fair value of grants issued        $      6.15
Dividend yield                            4.64%
Expected volatility                      22.63%
Risk free rate                            4.10%
Expected lives                        6.4 years
Exercise price                     $     39.25
---------------------------------------------------

A summary of the status of our fixed stock option plans and changes is presented
below for the nine months ended September 30, 2006:

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
                                                              Weighted         Aggregate
                                                               Average     Intrinsic Value
       Fixed Options                         Shares         Exercise Price    (In Millions)
------------------------------------------------------------------------------------------
<S>                                        <C>                    <C>          <C>
Outstanding at beginning of period          10,443,055           $ 33.74
Granted during the year                              -           $     -
Exercised                                     (774,984)          $ 32.18
Forfeited                                     (136,436)          $ 36.77
------------------------------------------------------------------------------------------
Outstanding at end of period                 9,531,635           $ 33.82      $ 65.4
------------------------------------------------------------------------------------------
Exercisable at end of period                 6,984,633           $ 32.74      $ 55.5
------------------------------------------------------------------------------------------
</TABLE>

The total intrinsic value of the options  exercised during the nine months ended
September 30, 2006 and 2005 was  approximately  $6.6 million and $11.4  million,
respectively.


                                       32
<PAGE>


<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
Remaining    Options Outstanding at    Weighted Average     Range of       Options Exercisable at   Weighted Average    Range of
Contractual    September 30, 2006       Exercise Price    Exercise Price      September 30, 2006    Exercise Price    Exercise Price
Life
------------------------------------------------------------------------------------------------------------------------------------
<S>                <C>                       <C>          <C>                    <C>                     <C>         <C>
 1 years                    -               $     -            $ -                        -             $     -           $ -
 2 years              185,000               $ 32.63          $32.63                 185,000             $ 32.63         $32.63
 3 years              704,625               $ 28.00      $ 24.73 - 29.38            704,625             $ 28.00     $ 24.73 - 29.38
 4 years              382,181               $ 26.97      $ 21.99 - 27.06            382,181             $ 26.97     $ 21.99 - 27.06
 5 years              972,837               $ 22.69      $ 22.50 - 32.76            972,837             $ 22.69     $ 22.50 - 32.76
 6 years            1,557,199               $ 39.50          $39.50               1,557,199             $ 39.50         $39.50
 7 years            1,769,595               $ 32.66          $32.66               1,436,495             $ 32.66         $32.66
 8 years            1,174,801               $ 32.40          $32.40                 770,961             $ 32.40         $32.40
 9 years            1,424,134               $ 37.54          $37.54                 656,945             $ 37.54         $37.54
 10 years           1,361,263               $ 39.25          $39.25                 318,390             $ 39.25         $39.25
------------------------------------------------------------------------------------------------------------------------------------
                    9,531,635                                                     6,984,633
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

As of September 30, 2006, there are approximately 2.5 million options which have
not yet vested.  The  unearned  compensation  cost related to these stock option
awards is $4.7  million  which is  expected  to be  recognized  over a  weighted
average period of 2 years.

8. POSTRETIREMENT BENEFITS

Pension  Plans:  The  following  information  represents  the  consolidated  net
periodic pension cost for the three and nine months ended September 30, 2006 and
2005,  for  our  noncontributory  defined  benefit  pension  plans  which  cover
substantially  all  employees.  Benefits  are  based  on years  of  service  and
compensation. Funding for pensions is in accordance with requirements of federal
law and  regulations.  KEDLI and  Boston  Gas  Company  are  subject  to certain
deferral  accounting   requirements   mandated  by  the  NYPSC  and  the  MADTE,
respectively for pension costs and other postretirement  benefit costs. Further,
KeySpan's electric  subsidiaries are subject to certain "true-up"  provisions in
accordance with the LIPA service agreements.

The calculation of net periodic pension cost is as follows:

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
                                                         Three Months Ended September 30,           Nine Months Ended September 30,
(In Millions of Dollars)                                    2006                   2005                2006                 2005
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                         <C>                    <C>               <C>                  <C>
Service cost, benefits earned during the period     $        14.9         $         14.2       $       47.0         $       42.5
Interest cost on projected benefit obligation                39.1                   37.1              116.3                111.4
Expected return on plan assets                              (45.5)                 (43.2)            (139.5)              (129.8)
Net amortization and deferral                                22.7                   18.4               66.5                 55.4
------------------------------------------------------------------------------------------------------------------------------------
Total pension cost                                  $        31.2         $         26.5       $       90.3         $       79.5
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

Other  Postretirement   Benefits:   The  following  information  represents  the
consolidated  net periodic other  postretirement  benefit cost for the three and
nine months ended  September 30, 2006 and 2005 for our  noncontributory  defined
benefit  plans  covering  certain  health care and life  insurance  benefits for
retired  employees.  We have  been  funding a portion  of future  benefits  over
employees'   active  service  lives  through  Voluntary   Employee   Beneficiary
Association  ("VEBA")  trusts.  Contributions to VEBA trusts are tax deductible,
subject to limitations contained in the Internal Revenue Code.


                                       33
<PAGE>


Net  periodic   other   postretirement   benefit  cost  included  the  following
components:

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------------
                                                      Three Months Ended September 30,            Nine Months Ended September 30,
(In Millions of Dollars)                                   2006                 2005                  2006                 2005
---------------------------------------------------------------------------------------------------------------------------------
<S>                                                        <C>                  <C>                   <C>                  <C>
Service cost, benefits earned during the period           $  4.7               $  6.1                $ 18.6               $ 18.3
Interest cost on accumulated
   postretirement benefit obligation                        15.9                 19.0                  56.2                 56.8
Expected return on plan assets                              (9.2)                (9.0)                (27.5)               (27.1)
Net amortization and deferral                                9.7                 14.9                  43.0                 44.9
---------------------------------------------------------------------------------------------------------------------------------
Other postretirement cost                                 $ 21.1               $ 31.0                $ 90.3               $ 92.9
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>

During the first nine months of 2006,  KeySpan  contributed $90.0 million to its
pension  plans and $18.0  million  to its other  postretirement  benefit  plans.
KeySpan  anticipates  contributing  an  additional  $12.0  million  to its other
postretirement   benefit   plans  during  the   remainder  of  2006.   Estimated
contribution  levels  are  subject  to change  based on future  market  returns,
interest rates and certain other measurements. Actual contributions,  therefore,
may vary from these levels.

9. COMMERCIAL PAPER

At September 30, 2006, KeySpan had two credit facilities totaling $1.5 billion -
$920 million for five years through 2010, and $580 million  through 2009,  which
continue to support  KeySpan's  commercial  paper  program  for ongoing  working
capital needs.

The fees for the  facilities  are based on KeySpan's  current credit ratings and
are increased or decreased  based on a downgrading  or upgrading of our ratings.
The current  annual  facility  fee is 0.07% based on our credit  rating of A3 by
Moody's  Investor  Services and A by Standard & Poor's for each  facility.  Both
credit  facilities allow for KeySpan to borrow using several  different types of
loans;  specifically,  Eurodollar  loans, ABR loans, or competitively bid loans.
Eurodollar  loans are based on the Eurodollar rate plus a margin that is tied to
our applicable  credit  ratings.  ABR loans are based on the higher of the Prime
Rate,  the base CD rate plus 1%, or the Federal Funds  Effective Rate plus 0.5%.
Competitive  bid loans are based on bid results  requested  by KeySpan  from the
lenders.  We do not anticipate  borrowing against these facilities;  however, if
the credit rating on our commercial paper program were to be downgraded,  it may
be necessary to do so.

The facilities  contain certain  affirmative and negative  operating  covenants,
including  restrictions on KeySpan's  ability to mortgage,  pledge,  encumber or
otherwise subject its utility property to any lien, as well as certain financial
covenants  that  require us to,  among  other  things,  maintain a  consolidated
indebtedness  to  consolidated  capitalization  ratio of no more than 65% at the
last day of any fiscal quarter. Violation of these covenants could result in the
termination  of the facilities  and the required  repayment of amounts  borrowed
thereunder,  as well as possible cross defaults under other debt agreements.  At
September  30,  2006,  KeySpan's  consolidated  indebtedness  was  48.3%  of its
consolidated capitalization and KeySpan was in compliance with all covenants.


                                       34
<PAGE>


Subject to certain conditions set forth in the credit facility,  KeySpan has the
right, at any time, to increase the commitments  under the $920 million facility
up to an additional $300 million. In addition,  KeySpan has the right to request
that the termination date be extended for an additional period of 365 days prior
to each  anniversary  of the  closing  date.  This  extension  option,  however,
requires the approval of lenders holding more than 50% of the total  commitments
to such  extension  request.  Under the  agreements,  KeySpan has the ability to
replace  non-consenting  lenders  with  other  pre-approved  banks or  financial
institutions.

At September  30, 2006,  we had cash and  temporary  cash  investments  of $40.0
million.  During  the first nine  months of 2006,  we repaid  $327.6  million of
commercial paper and, at September 30, 2006,  $330.0 million of commercial paper
was  outstanding at a weighted  average  annualized  interest rate of 5.38%.  At
September 30, 2006,  KeySpan had the ability to issue up to an  additional  $1.2
billion, under its commercial paper program.

10. 2006 LIPA SETTLEMENT

LIPA is a corporate municipal instrumentality and a political subdivision of the
State  of New  York.  On May 28,  1998,  certain  of the  Long  Island  Lighting
Company's ("LILCO's") business units were merged with KeySpan and LILCO's common
stock  and  remaining  assets  were  acquired  by  LIPA.  At the  time  of  this
transaction,  KeySpan  and LIPA  entered  into  three  major  long-term  service
agreements that (i) provide to LIPA all operation,  maintenance and construction
services and  significant  administrative  services  relating to the Long Island
electric  transmission and distribution  ("T&D") system pursuant to a Management
Services  Agreement (the "1998 MSA"); (ii) supply LIPA with electric  generating
capacity,  energy  conversion  and  ancillary  services  from  our  Long  Island
generating units pursuant to a Power Supply Agreement (the "1998 PSA") and other
long-term  agreements  through which we provide LIPA with approximately one half
of its customers'  energy needs; and (iii) manage all aspects of the fuel supply
for our  Long  Island  generating  facilities,  as well  as all  aspects  of the
capacity  and energy  owned by or under  contract to LIPA  pursuant to an Energy
Management  Agreement (the "1998 EMA").  We also purchase  energy,  capacity and
ancillary  services in the open market on LIPA's  behalf under the 1998 EMA. The
1998 MSA,  1998 PSA and 1998 EMA all became  effective  on May 28,  1998 and are
collectively referred to as the 1998 LIPA Agreements.

On February 1, 2006,  KeySpan and LIPA  entered into (i) an amended and restated
Management  Services Agreement (the "2006 MSA"),  pursuant to which KeySpan will
continue to operate and  maintain  the electric T&D System owned by LIPA on Long
Island;  (ii) a new Option and  Purchase  and Sale  Agreement  (the "2006 Option
Agreement"),  to replace the Generation  Purchase Rights  Agreement (as amended,
the "GPRA"),  pursuant to which LIPA had the option,  through December 15, 2005,
to acquire  substantially  all of the electric  generating  facilities  owned by
KeySpan on Long Island;  and (iii) a Settlement  Agreement (the "2006 Settlement
Agreement")  resolving outstanding issues between the parties regarding the 1998
LIPA Agreements. The 2006 MSA, the 2006 Option Agreement and the 2006 Settlement
Agreement  are  collectively  referred to herein as the "2006 LIPA  Agreements."


                                       35
<PAGE>


Each of the 2006 LIPA  Agreements  will become  effective as of January 1, 2006,
upon  all of the  2006  LIPA  Agreements  receiving  the  required  governmental
approvals;  otherwise none of the 2006 LIPA  Agreements  will become  effective.
Following the  announcement  of the proposed  acquisition of KeySpan by National
Grid plc,  LIPA,  National  Grid plc and  KeySpan  have  engaged in  discussions
concerning the impact of the transaction on LIPA's operations.  At this time, we
are unable to determine what impact, if any, the results of such discussions may
have on the 2006 LIPA  Agreements  and the  receipt  and timing of  governmental
approvals relating thereto.

2006 Settlement Agreement

Pursuant to the terms of the 2006 Settlement Agreement,  KeySpan and LIPA agreed
to resolve issues that have existed between the parties  relating to the various
1998 LIPA Agreements. In addition to the resolution of these matters,  KeySpan's
entitlement  to utilize  LILCO's  available tax credits and other tax attributes
will  increase from  approximately  $50 million to  approximately  $200 million.
These  credits  and  attributes  may be used  to  satisfy  KeySpan's  previously
incurred indemnity  obligation to LIPA for any federal income tax liability that
may result from the settlement of a pending  Internal  Revenue  Service  ("IRS")
audit for LILCO's tax year ended March 31, 1999. In  recognition of these items,
as  well  as for  the  modification  and  extension  of the  1998  MSA  and  the
elimination of the GPRA, upon effectiveness of the Settlement Agreement, KeySpan
will record a contractual asset in the amount of approximately $160 million,  of
which approximately $110 million will be attributed to the right to utilize such
additional  tax credits and  attributes  and  approximately  $50 million will be
amortized over the eight year term of the 2006 MSA. In order to compensate  LIPA
for the  foregoing,  KeySpan  will pay LIPA $69  million in cash and will settle
certain accounts  receivable in the amount of approximately $91 million due from
LIPA.

Generation Purchase Rights Agreement and 2006 Option Agreement.

Under an amended GPRA,  LIPA had the right to acquire  certain of KeySpan's Long
Island-based  generating assets formerly owned by LILCO, at fair market value at
the time of the exercise of such right.  LIPA was  initially  required to make a
determination  by May 2005,  but  KeySpan  and LIPA agreed to extend the date by
which LIPA was to make this  determination  to December 15, 2005. As part of the
2006  Settlement  between  KeySpan and LIPA,  the parties  entered into the 2006
Option  Agreement  whereby LIPA has the option during the period January 1, 2006
to December 31, 2006 to purchase only KeySpan's Far Rockaway and/or E.F. Barrett
Generating  Stations  (and certain  related  assets) at a price equal to the net
book value of each facility.  The 2006 Option  Agreement  replaces the GPRA, the
expiration  of which  has been  stayed  pending  effectiveness  of the 2006 LIPA
Agreements.  If LIPA were to exercise the option and purchase one or both of the
generation  facilities  (i) LIPA and KeySpan  will enter into an  operation  and
maintenance agreement,  pursuant to which KeySpan will continue to operate these
facilities for a fixed management fee plus  reimbursement for certain costs; and
(ii) the 1998 PSA and 1998 EMA will be  amended to  reflect  that the  purchased
generating  facilities  would no longer be  covered by those  agreements.  It is
anticipated  that the fees received  pursuant to the  operation and  maintenance
agreement  will offset the reduction in the operation  and  maintenance  expense
recovery component of the 1998 PSA and the reduction in fees under the 1998 EMA.
In the event such  agreements  do not become  effective  by reason of failure to
secure the requisite governmental  approvals,  the GPRA will be reinstated for a
period of 90 days.


                                       36
<PAGE>


Management Services Agreements

In place of the previous compensation  structure (whereby KeySpan was reimbursed
for budgeted  costs,  and earned a management  fee and certain  performance  and
cost-based incentives), KeySpan's compensation for managing the T&D System under
the 2006 MSA consists of two  components:  a minimum  compensation  component of
$224 million per year and a variable component based on electric sales. The $224
million  component  will  remain  unchanged  for three  years and then  increase
annually by 1.7%, plus inflation. The variable component, which will comprise no
more than 20% of  KeySpan's  compensation,  is based on  electric  sales on Long
Island  exceeding a base amount of 16,558 gigawatt hours,  increasing by 1.7% in
each year. Above that level,  KeySpan will receive  approximately 1.34 cents per
kilowatt hour for the first contract  year,  1.29 cents per kilowatt hour in the
second  contract  year  (plus an annual  inflation  adjustment),  1.24 cents per
kilowatt hour in the third contract year (plus an annual inflation  adjustment),
with the per  kilowatt  hour rate  thereafter  adjusted  annually by  inflation.
Subject to certain  limitations,  KeySpan will be able to retain all operational
efficiencies realized during the term of the 2006 MSA.

LIPA will  continue to reimburse  KeySpan for certain  expenditures  incurred in
connection  with the  operation  and  maintenance  of the T&D System,  and other
payments made on behalf of LIPA,  including:  real property and other T&D System
taxes, return postage, capital construction expenditures and storm costs.

11. INCOME TAXES

KeySpan's  consolidated  effective  income  tax rate,  including  city and state
income taxes, was 33.9% for the nine months ended September 30, 2006 compared to
36.6% for the  corresponding  period in 2005. During the second quarter of 2006,
KeySpan  resolved its dispute with the New York City  Department of Taxation and
Finance with respect to income taxes  relating to the operations of its merchant
electric generating  facility.  In addition,  pursuant to indemnity  obligations
contained  in the  LILCO  /  KeySpan  merger  agreement,  KeySpan  has  been  in
discussions  with the IRS with  regard to LILCO's  tax returns for the tax years
ended  December 31, 1996 through  March 31, 1999 and  KeySpan's and The Brooklyn
Union Gas Company's  tax returns for the years ended  September 30, 1997 through
December 31, 1998.  Two issues were resolved in the second quarter of 2006. As a
result of settling the two issues with the IRS, as well as the New York City tax
issue, KeySpan realized a tax benefit of $16.4 million for the nine months ended
September 30, 2006. It is anticipated  that the remaining  issues  including the
primary issue  relating to the valuation of certain  assets  transferred  in the
KeySpan/LILCO  business  combination  of May  1998  will  be  settled  following
approval by the Joint  Committee on Taxation.  The IRS submitted the case to the
Joint Committee on Taxation on October 30, 2006. Further, a $3.4 million benefit
was  recorded  in the third  quarter of 2006  reflecting  an  accrual  for prior
investment  tax credits that KeySpan is entitled to.  KeySpan has recently filed
amended tax returns to reflect its entitlement to investment tax credits for the
period 2000 through  2004.  The decrease in the  effective tax rate for the nine
months  ended  September  30,  2006  compared  to the same  period in 2005,  was
primarily due to the aforementioned items.


                                       37
<PAGE>


The IRS has also recently commenced the examination of KeySpan's tax returns for
the years ended  December 31, 2002 and 2003. At this time, we cannot predict the
result of these audits.

12. GAS EXPLORATION AND PRODUCTION PROPERTY - DEPLETION

KeySpan  has  gas  exploration  and  production   activities   through  its  two
wholly-owned  subsidiaries - KeySpan  Exploration and Production,  LLC ("KeySpan
Exploration") and Seneca-Upshur Petroleum, Inc. ("Seneca-Upshur").  At September
30, 2006, these subsidiaries had net exploration and production  property in the
amount of $73.7  million.  These  assets are  accounted  for under the full cost
method  of  accounting.  Under  the full  cost  method,  costs  of  acquisition,
exploration  and  development  of  natural  gas  and  oil  reserves  plus  asset
retirement  obligations  are  capitalized  into a "full cost pool" as  incurred.
Unproved  properties  and related  costs are  excluded  from the  depletion  and
amortization  base until a  determination  is made as to the existence of proved
reserves.  Properties  are depleted and charged to operations  using the unit of
production method using proved reserve quantities.

To the extent that such  capitalized  costs (net of accumulated  depletion) less
deferred taxes exceed the present value (using a 10% discount rate) of estimated
future net cash flows from proved  natural gas and oil reserves and the lower of
cost or fair value of unproved  properties,  less  deferred  taxes,  such excess
costs are  charged to  operations,  but would not have an impact on cash  flows.
Once  incurred,  such  impairment of gas properties is not reversible at a later
date even if gas prices increase.

The ceiling test is calculated  using natural gas and oil prices in effect as of
the  balance  sheet  date,  held  flat  over  the life of the  reserves.  We use
derivative  financial  instruments  that qualify for hedge accounting under SFAS
133 "Accounting for Derivative Instruments and Hedging Activities," to hedge the
volatility of natural gas prices. In accordance with current SEC guidelines,  we
have included  estimated  future cash flows from our hedging  program in ceiling
test calculations.

As of September 30, 2006,  KeySpan estimated that its capitalized costs exceeded
the ceiling test limitation by $25.8 million.  KeySpan used an average  wellhead
price of $3.63 per MCF for this  measurement.  In  accordance  with  current SEC
guidelines,  we have  included  estimated  future  cash flows  from our  hedging
program in the ceiling test calculation.  At September 30, 2006, Seneca-Upshur's
cash flow  hedges had an average  fixed  price of  approximately  $7.00 per MCF.
Therefore,  since  the fixed  price of $7.00  MCF was in  excess of the  average
wellhead  price of $3.63 per MCF,  the cash flow hedges  resulted in a favorable
impact to the ceiling test calculation of $15.2 million.

Subsequent  to  September  30,  2006,  the  average   wellhead  price  increased
substantially and was $7.77 per MCF on October 26, 2006. As permitted by current
SEC guidelines,  KeySpan elected to use this  measurement date to re-compute the
ceiling  test  limitation.  Based on this  price,  KeySpan  determined  that its
capitalized costs did not exceed the ceiling test limitation, and as a result, a


                                       38
<PAGE>


non-cash  impairment  charge was not recorded in the third  quarter of 2006.  As
noted previously, at September 30, 2006, Seneca-Upshur's cash flow hedges had an
average fixed price of approximately $7.00 per MCF.  Therefore,  since the fixed
price of $7.00 MCF was below the more current  average  wellhead  price of $7.77
per  MCF,  the  cash  flow  hedges  resulted  in an  unfavorable  impact  to the
re-computed ceiling test calculation of $3.5 million.


13. KEYSPAN GAS EAST CORPORATION SUMMARY FINANCIAL INFORMATION

KEDLI is a wholly owned  subsidiary of KeySpan.  KEDLI was formed on May 7, 1998
and on May 28, 1998 acquired  substantially all of the assets related to the gas
distribution  business of the Long Island Lighting Company.  KEDLI established a
program for the  issuance,  from time to time,  of up to $600 million  aggregate
principal  amount of  Medium-Term  Notes,  which  are fully and  unconditionally
guaranteed by the parent, KeySpan Corporation. On February 1, 2000, KEDLI issued
$400 million of 7.875% Medium-Term Notes due 2010. In January 2001, KEDLI issued
an additional  $125 million of  Medium-Term  Notes at 6.9% due January 2008. The
following  condensed  financial  statements  are required to be disclosed by SEC
regulations  and set forth those of KEDLI,  KeySpan  Corporation as guarantor of
the Medium-Term Notes and our other subsidiaries on a combined basis.

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------------
                               Statement of Income
---------------------------------------------------------------------------------------------------------------------------------
                                                                         Three Months Ended September 30, 2006
(In Millions of Dollars)                              Guarantor        KEDLI    Other Subsidiaries   Eliminations   Consolidated
--------------------------------------------------------------------------------------------------------------------------------
<S>                                                      <C>           <C>               <C>               <C>         <C>
                                                   -----------------------------------------------------------------------------
Revenues                                                $   0.2       $ 163.3           $ 1,055.2     $     (0.2)     $ 1,218.5
                                                   -----------------------------------------------------------------------------
Operating Expenses
  Purchased gas                                               -         112.9               248.6              -          361.5
  Fuel and purchased power                                    -             -               172.6              -          172.6
  Operations and maintenance                               13.0          33.3               326.4              -          372.7
  Intercompany expense                                        -           1.3                (1.1)          (0.2)             -
  Depreciation and amortization                               -          15.0                69.2              -           84.2
  Operating taxes                                             -          15.5                80.4              -           95.9
                                                   -----------------------------------------------------------------------------
Total Operating Expenses                                   13.0         178.0               896.1           (0.2)       1,086.9
                                                   -----------------------------------------------------------------------------
Income from equity investments                                -             -                 4.2              -            4.2
                                                   -----------------------------------------------------------------------------
Operating Income (Loss)                                   (12.8)        (14.7)              163.3              -          135.8
                                                   -----------------------------------------------------------------------------

Interest charges                                          (42.5)        (13.4)              (20.5)           9.3          (67.1)
Other income and (deductions)                              93.9           1.1               (16.8)         (70.2)           8.0
                                                   -----------------------------------------------------------------------------
Total Other Income and (Deductions)                        51.4         (12.3)              (37.3)         (60.9)         (59.1)
                                                   -----------------------------------------------------------------------------

Income Taxes (Benefit)                                    (11.7)        (11.5)               49.6              -           26.4
                                                   -----------------------------------------------------------------------------
Net Income (Loss)                                       $  50.3       $ (15.5)          $    76.4     $    (60.9)     $    50.3
                                                   =============================================================================
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>




                                       39
<PAGE>


<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------------
                               Statement of Income
---------------------------------------------------------------------------------------------------------------------------------
                                                                        Three Months Ended September 30, 2005
(In Millions of Dollars)                             Guarantor      KEDLI     Other Subsidiaries   Eliminations   Consolidated
--------------------------------------------------------------------------------------------------------------------------------
                                                  ------------------------------------------------------------------------------
<S>                                                        <C>        <C>               <C>              <C>           <C>
Revenues                                                $   0.2     $  185.1           $ 1,118.0        $  (0.2)      $ 1,303.1
                                                  ------------------------------------------------------------------------------
Operating Expenses
  Purchased gas                                               -        136.5               259.2              -           395.7
  Fuel and purchased power                                    -            -               254.6              -           254.6
  Operations and maintenance                                3.5         32.6               328.2              -           364.3
  Intercompany expense                                        -          1.2                (1.0)          (0.2)              -
  Depreciation and amortization                               -         14.1                78.0              -            92.1
  Operating taxes                                             -         15.5                81.6              -            97.1
                                                  ------------------------------------------------------------------------------
Total Operating Expenses                                    3.5        199.9             1,000.6           (0.2)        1,203.8
                                                  ------------------------------------------------------------------------------
 Income from equity investments                               -            -                 2.5              -             2.5
Gain on sale of property                                      -            -                 1.0              -             1.0
                                                  ------------------------------------------------------------------------------
Operating Income (Loss)                                    (3.3)       (14.8)              120.9              -           102.8
                                                  ------------------------------------------------------------------------------

Interest charges                                          (37.3)       (13.7)              (22.4)           6.0           (67.4)
Other income and (deductions)                              50.4          0.3               (28.3)         (26.2)           (3.8)
                                                  ------------------------------------------------------------------------------
Total Other Income and (Deductions)                        13.1        (13.4)              (50.7)         (20.2)          (71.2)
                                                  ------------------------------------------------------------------------------

Income Taxes (Benefit)                                    (12.8)        (9.9)               31.7              -             9.0
                                                  ------------------------------------------------------------------------------
Net Income (Loss)                                       $  22.6     $  (18.3)          $    38.5        $ (20.2)      $    22.6
                                                  ==============================================================================
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>


<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------
                               Statement of Income
-----------------------------------------------------------------------------------------------------------------------------
                                                                     Nine Months Ended September 30, 2006
(In Millions of Dollars)                           Guarantor       KEDLI    Other Subsidiaries  Eliminations   Consolidated
-----------------------------------------------------------------------------------------------------------------------------
                                               ------------------------------------------------------------------------------
<S>                                                    <C>          <C>              <C>              <C>           <C>
Revenues                                            $    0.5       $ 952.9          $ 4,304.4     $     (0.5)     $  5,257.3
                                               ------------------------------------------------------------------------------
Operating Expenses
  Purchased gas                                            -         631.6            1,781.1              -         2,412.7
  Fuel and purchased power                                 -             -              418.3              -           418.3
  Operations and maintenance                            30.2         104.1            1,065.0              -         1,199.3
  Intercompany expense                                     -           4.0               (3.5)          (0.5)              -
  Depreciation and amortization                            -          58.8              236.9              -           295.7
  Operating taxes                                          -          48.5              261.4              -           309.9
                                               ------------------------------------------------------------------------------
Total Operating Expenses                                30.2         847.0            3,759.2           (0.5)        4,635.9
                                               ------------------------------------------------------------------------------
Income from equity investments                             -             -                9.5              -             9.5
 Gain on sale of assets                                    -             -                1.4              -             1.4
                                               ------------------------------------------------------------------------------
Operating Income (Loss)                                (29.7)        105.9              556.1              -           632.3
                                               ------------------------------------------------------------------------------

Interest charges                                      (122.2)        (40.7)             (51.5)          21.7          (192.7)
Other income and (deductions)                          418.8           2.1              (50.7)        (344.6)           25.6
                                               ------------------------------------------------------------------------------
Total Other Income and (Deductions)                    296.6         (38.6)            (102.2)        (322.9)         (167.1)
                                               ------------------------------------------------------------------------------

Income Taxes (Benefit)                                 (40.7)         23.9              174.4              -           157.6
                                               ------------------------------------------------------------------------------
Net Income                                          $  307.6       $  43.4          $   279.5     $   (322.9)     $    307.6
                                               ==============================================================================
-----------------------------------------------------------------------------------------------------------------------------
</TABLE>



                                       40
<PAGE>


<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
                               Statement of Income
------------------------------------------------------------------------------------------------------------------------------------
                                                                             Nine Months Ended September 30, 2005
(In Millions of Dollars)                                  Guarantor      KEDLI     Other Subsidiaries   Eliminations   Consolidated
------------------------------------------------------------------------------------------------------------------------------------
                                                      ------------------------------------------------------------------------------
<S>                                                                       <C>               <C>              <C>           <C>
Revenues                                                    $   0.5      $ 916.1           $ 4,210.0       $   (0.5)     $  5,126.1
                                                      ------------------------------------------------------------------------------
Operating Expenses
  Purchased gas                                                   -        588.1             1,618.0              -         2,206.1
  Fuel and purchased power                                        -            -               546.9              -           546.9
  Operations and maintenance                                   10.9         96.4             1,036.0              -         1,143.3
  Intercompany expense                                            -          3.7                (3.2)          (0.5)              -
  Depreciation and amortization                                   -         59.1               236.7              -           295.8
  Operating taxes                                                 -         47.8               255.2              -           303.0
                                                      ------------------------------------------------------------------------------
Total Operating Expenses                                       10.9        795.1             3,689.6           (0.5)        4,495.1
                                                      ------------------------------------------------------------------------------
 Income from equity investments                                   -            -                12.5              -            12.5
Gain on sale of property                                          -            -                 1.2              -             1.2
                                                      ------------------------------------------------------------------------------
Operating Income (Loss)                                       (10.4)       121.0               534.1              -           644.7
                                                      ------------------------------------------------------------------------------

Interest charges                                             (104.8)       (46.1)              (64.9)          15.7          (200.1)
Other income and (deductions)                                 364.8          3.2               (62.4)        (313.0)           (7.4)
                                                      ------------------------------------------------------------------------------
Total Other Income and (Deductions)                           260.0        (42.9)             (127.3)        (297.3)         (207.5)
                                                      ------------------------------------------------------------------------------

Income Taxes (Benefit)                                        (25.8)        28.2               157.6              -           160.0
                                                      ------------------------------------------------------------------------------
                                                                                                                                  -
Earnings from Continuing Operations                           275.4         49.9               249.2         (297.3)          277.2
Discontinued Operations                                           -            -                (1.8)             -            (1.8)
                                                      ------------------------------------------------------------------------------
Net Income                                                  $ 275.4      $  49.9           $   247.4       $ (297.3)     $    275.4
                                                      ==============================================================================
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>







                                       41
<PAGE>

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
Balance Sheet
------------------------------------------------------------------------------------------------------------------------------------
                                                                             September 30, 2006
(In Millions of Dollars)                          Guarantor          KEDLI      Other Subsidiaries    Eliminations     Consolidated
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                <C>               <C>                <C>                <C>            <C>
ASSETS
Current Assets
   Cash & temporary cash investments               $     8.6        $     3.3          $     28.1        $        -      $     40.0
   Accounts receivable, net                              0.6            101.8               624.8                 -           727.2
   Other current assets                                  2.1            268.5             1,109.1                 -         1,379.7
                                             ---------------------------------------------------------------------------------------
                                                        11.3            373.6             1,762.0                 -         2,146.9
                                             ---------------------------------------------------------------------------------------

                                             ---------------------------------------------------------------------------------------
Equity Investments                                   4,893.5                -               138.7          (4,774.3)          257.9
                                             ---------------------------------------------------------------------------------------
Property
   Gas                                                     -          2,146.0             5,399.8                 -         7,545.8
   Other                                                   -             25.3             3,140.4                 -         3,165.7
   Accumulated depreciation and depletion                  -           (425.5)           (2,782.8)                -        (3,208.3)
                                             ---------------------------------------------------------------------------------------
                                                           -          1,745.8             5,757.4                 -         7,503.2
                                             ---------------------------------------------------------------------------------------
Intercompany Accounts Receivable                       976.1            289.7             1,980.7          (3,246.5)              -
                                             ---------------------------------------------------------------------------------------
Deferred Charges                                     1,971.0            409.3             1,150.1                 -         3,530.4
                                             ---------------------------------------------------------------------------------------
Total Assets                                       $ 7,851.9        $ 2,818.4          $ 10,788.9        $ (8,020.8)     $ 13,438.4
                                             =======================================================================================

LIABILITIES AND CAPITALIZATION
Current Liabilities
   Accounts payable                                $    32.2        $   102.8          $    546.9        $        -      $    681.9
   Commercial paper                                    330.0                -                   -                 -           330.0
   Other current liabilities                           207.8             84.4               342.7                 -           634.9
                                             ---------------------------------------------------------------------------------------
                                                       570.0            187.2               889.6                 -         1,646.8
Intercompany Accounts Payable                          128.8            473.4             1,130.4          (1,732.6)              -
                                             ---------------------------------------------------------------------------------------

Deferred Credits and Other Liabilities
Deferred income tax                                     24.3            364.1               834.0                 -         1,222.4
Other deferred credits and liabilities                 680.1            203.3             1,183.6                 -         2,067.0
                                             ---------------------------------------------------------------------------------------
                                                       704.4            567.4             2,017.6                 -         3,289.4
                                             ---------------------------------------------------------------------------------------
Capitalization
Common shareholders' equity                          4,586.7            939.5             3,815.5          (4,774.3)        4,567.4
Long-term debt                                       1,862.0            650.9             2,920.3          (1,513.9)        3,919.3
                                             ---------------------------------------------------------------------------------------
Total Capitalization                                 6,448.7          1,590.4             6,735.8          (6,288.2)        8,486.7
                                             ---------------------------------------------------------------------------------------
Minority Interest in Subsidiary Companies                  -                -                15.5                 -            15.5
                                             ---------------------------------------------------------------------------------------
Total Liabilities & Capitalization                 $ 7,851.9        $ 2,818.4          $ 10,788.9        $ (8,020.8)     $ 13,438.4
                                             =======================================================================================
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

                                       42
<PAGE>

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
Balance Sheet
------------------------------------------------------------------------------------------------------------------------------------
                                                                                  December 31, 2005
(In Millions of Dollars)                             Guarantor         KEDLI     Other Subsidiaries   Eliminations     Consolidated
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                  <C>              <C>                 <C>             <C>             <C>
ASSETS
Current Assets
   Cash & temporary cash investments                 $    79.6       $     3.5          $     41.4      $        -       $    124.5
   Accounts receivable, net                                0.6           149.9               822.2               -            972.7
   Other current assets                                    4.0           368.9             1,550.0               -          1,922.9
                                                ------------------------------------------------------------------------------------
                                                          84.2           522.3             2,413.6               -          3,020.1
                                                ------------------------------------------------------------------------------------

Investments and Other                                  4,571.0             0.7               128.2        (4,457.5)           242.4
                                                ------------------------------------------------------------------------------------
Property
   Gas                                                       -         2,111.3             5,164.6               -          7,275.9
   Other                                                     -               -             3,092.8               -          3,092.8
   Accumulated depreciation and depletion                    -          (400.6)           (2,631.2)              -         (3,031.8)
                                                ------------------------------------------------------------------------------------
                                                             -         1,710.7             5,626.2               -          7,336.9
                                                ------------------------------------------------------------------------------------

Intercompany Accounts Receivable                       2,813.6            44.6                95.6        (2,953.8)               -

Deferred Charges                                         482.5           316.1             2,414.6               -          3,213.2

                                                ------------------------------------------------------------------------------------
Total Assets                                         $ 7,951.3       $ 2,594.4          $ 10,678.2      $ (7,411.3)      $ 13,812.6
                                                ====================================================================================

LIABILITIES AND CAPITALIZATION
Current Liabilities
   Accounts payable                                  $    36.4       $   149.7          $    900.9      $        -       $  1,087.0
   Commercial paper                                      657.6               -                   -               -            657.6
   Other current liabilities                             196.2           128.5                85.9               -            410.6
                                                ------------------------------------------------------------------------------------
                                                         890.2           278.2               986.8               -          2,155.2
                                                ------------------------------------------------------------------------------------
Intercompany Accounts Payable                             51.8           338.3             1,049.8        (1,439.9)               -
                                                ------------------------------------------------------------------------------------
Deferred Credits and Other Liabilities
Deferred income tax                                       27.2           330.6               800.1               -          1,157.9
Other deferred credits and liabilities                   634.0           225.3             1,240.0               -          2,099.3
                                                ------------------------------------------------------------------------------------
                                                         661.2           555.9             2,040.1               -          3,257.2
                                                ------------------------------------------------------------------------------------
Capitalization
Common shareholders' equity                            4,485.4           897.0             3,539.3        (4,457.6)         4,464.1
Long-term debt                                         1,862.7           525.0             3,046.9        (1,513.8)         3,920.8
                                                ------------------------------------------------------------------------------------
Total Capitalization                                   6,348.1         1,422.0             6,586.2        (5,971.4)         8,384.9
                                                ------------------------------------------------------------------------------------
Minority Interest in Subsidiary Companies                    -               -                15.3               -             15.3
                                                ------------------------------------------------------------------------------------
Total Liabilities & Capitalization                   $ 7,951.3       $ 2,594.4          $ 10,678.2      $ (7,411.3)      $ 13,812.6
                                                ====================================================================================
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>


                                       43
<PAGE>

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
Statement of Cash Flows
-----------------------------------------------------------------------------------------------------------------------------------
                                                                              Nine Months Ended September 30, 2006
                                                           ------------------------------------------------------------------------
(In Millions of Dollars)                                         Guarantor            KEDLI      Other Subsidiaries   Consolidated
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                <C>                 <C>               <C>               <C>
Operating Activities
Net Cash (Used in) Provided by Operating Activities                $ (11.3)           $ 124.1            $ 794.8           $ 907.6
                                                           ------------------------------------------------------------------------
Investing Activities
   Capital expenditures                                                  -              (63.1)            (314.5)           (377.6)
   Cost of removal                                                       -               (5.5)             (17.6)            (23.1)
   Derivative margin calls                                               -              (17.6)             (25.1)            (42.7)
   Proceeds from sale of property                                        -                  -                1.5               1.5
                                                           ------------------------------------------------------------------------
Net Cash Provided by (Used in) Investing Activities                      -              (86.2)            (355.7)           (441.9)
                                                           ------------------------------------------------------------------------
Financing Activities
   Treasury stock issued                                              21.1                  -                  -              21.1
   Payment of debt, net                                             (327.5)                 -                  -            (327.5)
   Common and preferred stock dividends paid                        (243.8)                 -                  -            (243.8)
   Intercompany dividen payments                                       8.4                  -               (8.4)                -
   Net intercompany accounts                                         482.2              (38.1)            (444.1)                -

                                                           ------------------------------------------------------------------------
Net Cash (Used in) Financing Activities                              (59.6)             (38.1)            (452.5)           (550.2)
                                                           ------------------------------------------------------------------------
Net (Decrease) in Cash and Cash Equivalents                        $ (70.9)           $  (0.2)           $ (13.4)          $ (84.5)
Cash and Cash Equivalents at Beginning of Period                      79.5                3.5               41.5             124.5
                                                           ------------------------------------------------------------------------
Cash and Cash Equivalents at End of Period                         $   8.6            $   3.3            $  28.1           $  40.0
                                                           ========================================================================
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


<TABLE>
<CAPTION>

----------------------------------------------------------------------------------------------------------------------------------
Statement of Cash Flows
----------------------------------------------------------------------------------------------------------------------------------
                                                                             Nine Months Ended September 30, 2005
                                                           -----------------------------------------------------------------------
(In Millions of Dollars)                                        Guarantor            KEDLI       Other Subsidiaries   Consolidated
----------------------------------------------------------------------------------------------------------------------------------
<S>                                                              <C>                  <C>               <C>              <C>
Operating Activities
Net Cash Provided by (Used in )Operating Activities              $ (326.2)           $ 156.7           $  641.6          $  472.1
                                                           -----------------------------------------------------------------------
Investing Activities
   Capital expenditures                                                 -              (70.9)            (301.2)           (372.1)
   Cost of removal                                                      -               (1.6)              (9.2)            (10.8)
   Proceeds from sale of investment                                     -               (2.1)              49.0              46.9
   Derivative margin calls                                              -                  -              (63.3)            (63.3)
                                                           -----------------------------------------------------------------------
Net Cash (Used in) Investing Activities                                 -              (74.6)            (324.7)           (399.3)
                                                           -----------------------------------------------------------------------
Financing Activities
   Treasury stock issued                                             41.0                  -                  -              41.0
   Payment of debt, net                                          (1,092.2)                 -              (15.1)         (1,107.3)
   Redemption of preferred stock                                    (75.0)                 -                  -             (75.0)
   Common and preferred stock dividends paid                       (229.1)                 -                  -            (229.1)
   MEDs equity conversion                                           460.0                  -                  -             460.0
   Intercompany dividend payments                                   317.0                  -             (317.0)                -
   Net intercompany accounts                                        304.0              (80.0)            (224.0)                -
   Other                                                             (2.4)                 -               16.4              14.0
                                                                                                                                -
                                                           -----------------------------------------------------------------------
Net Cash (Used in) Financing Activities                            (276.7)             (80.0)            (539.7)           (896.4)
                                                           -----------------------------------------------------------------------
Net Increase (Decrease) in Cash and Cash Equivalents             $ (602.9)           $   2.1           $ (222.8)         $ (823.6)
Net Cash Flow from Discontinued Operations                              -                  -              (14.4)            (14.4)
Cash and Cash Equivalents at Beginning of Period                    580.7               (0.9)             342.2             922.0
                                                           -----------------------------------------------------------------------
Cash and Cash Equivalents at End of Period                       $  (22.2)           $   1.2           $  105.0          $   84.0
                                                           =======================================================================
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>



                                       44
<PAGE>




Item 2. Management's  Discussion and Analysis of Financial Condition and Results
of Operations

On February 25, 2006,  KeySpan entered into an Agreement and Plan of Merger (the
"Merger   Agreement")   with  National  Grid  plc,  a  public  limited   company
incorporated  under the laws of England and Wales  ("Parent")  and National Grid
US8, Inc., a New York Corporation  ("Merger Sub"),  pursuant to which Merger Sub
will merge with and into KeySpan (the "Merger"),  with KeySpan continuing as the
surviving  company and thereby becoming an indirect  wholly-owned  subsidiary of
the Parent.

Consummation  of the Merger is subject to various closing  conditions.  Assuming
receipt of all required approvals,  it is currently  anticipated that the Merger
will be  consummated  in mid-2007.  However,  no assurance can be given that the
Merger will occur, or the timing of its completion.  See the Introduction to the
Notes  to the  Consolidated  Financial  Statements  for  additional  information
regarding the Merger.

Consolidated Review of Results
------------------------------

The following is a summary of transactions  affecting  comparative  earnings for
the three and nine months ended  September  30, 2006,  compared to the three and
nine months ended  September 30, 2005.  Capitalized  terms used in the following
discussion, but not otherwise defined, have the same meaning as when used in the
Notes to the Consolidated Financial Statements included under Item 1. References
to "KeySpan," "we," "us," and "our" mean KeySpan Corporation,  together with its
consolidated subsidiaries.










                                       45
<PAGE>


Operating income by segment,  as well as consolidated  earnings for common stock
is set forth in the following table for the periods indicated.

<TABLE>
<CAPTION>

--------------------------------------------------------------------------------------------------------------------------------
(In Millions of Dollars, Except per Share)
--------------------------------------------------------------------------------------------------------------------------------
                                                        Three Months Ended September 30,         Nine Months Ended September 30,
                                                             2006                 2005                2006                2005
--------------------------------------------------------------------------------------------------------------------------------
<S>                                                        <C>                  <C>                  <C>                 <C>
Gas Distribution                                          $ (10.8)             $ (45.5)             $ 365.1             $ 376.8
Electric Services                                           144.4                149.6                271.7               266.3
Energy Services                                               3.0                 (1.1)                 4.6                (6.7)
Energy Investments                                            4.7                  4.7                 11.3                16.6
Eliminations and other                                       (5.5)                (4.9)               (20.4)               (8.3)
--------------------------------------------------------------------------------------------------------------------------------
Operating Income                                            135.8                102.8                632.3               644.7
--------------------------------------------------------------------------------------------------------------------------------
Other Income and (Deductions)
   Interest charges                                         (67.1)               (67.4)              (192.7)             (200.1)
   Gain on sale of investments                                  -                    -                    -                 4.1
   Cost of debt redemption                                      -                    -                    -               (20.9)
   Other income and (deductions)                              8.0                 (3.8)                25.6                 9.4
--------------------------------------------------------------------------------------------------------------------------------
Total Other Income and (Deductions)                         (59.1)               (71.2)              (167.1)             (207.5)
--------------------------------------------------------------------------------------------------------------------------------
Earnings before income taxes                                 76.7                 31.6                465.2               437.2
    Income taxes                                             26.4                  9.0                157.6               160.0
--------------------------------------------------------------------------------------------------------------------------------
Earnings from continuing operations                          50.3                 22.6                307.6               277.2
    Discontinued operations                                     -                    -                    -                (1.8)
--------------------------------------------------------------------------------------------------------------------------------
Net Income                                                   50.3                 22.6                307.6               275.4
    Preferred stock dividend requirements                       -                    -                    -                 2.2
--------------------------------------------------------------------------------------------------------------------------------
Earnings for Common Stock                                 $  50.3              $  22.6              $ 307.6             $ 273.2
--------------------------------------------------------------------------------------------------------------------------------
Basic Earnings per Share
   Continuing operations, less preferred
      stock dividends                                     $  0.29              $  0.13              $  1.76             $  1.63
   Discontinued operations                                      -                    -                    -               (0.01)
--------------------------------------------------------------------------------------------------------------------------------
                                                          $  0.29              $  0.13              $  1.76             $  1.62
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>

Results of Operations For The Quarter Ended September 30, 2006 vs 2005

KeySpan's  earnings for common stock for the three  months ended  September  30,
2006, were $50.3 million, or $0.29 per share, compared to $22.6 million or $0.13
per share realized  during the  corresponding  quarter last year, an increase of
$27.7 million, or $0.16 per share. The favorable  comparative  operating results
primarily reflect an increase in operating income of $33.0 million or 32%.

The primary driver behind the increase in operating  income was lower  operating
expenses in the Gas Distribution segment of $30.9 million. The Electric Services
segment results were slightly lower than last year, reflecting a decrease in net
electric revenues associated with the Ravenswood  Generating Station,  KeySpan's
merchant electric  generating  facility.  During the quarter,  this segment also
recognized a gain on a fixed for floating unforced capacity financial swap which
is reflected in operating results of this segment. (See the discussion under the
caption "Review of Operating Segments" for further details on each segment.)


                                       46
<PAGE>


For the third  quarter of 2006,  other  income and  (deductions)  reflects a net
expense of $59.1  million  compared  to a net  expense of $71.2  million for the
third quarter of 2005.  Included in the caption "Other Income and  (Deductions)"
are  interest  charges and certain  other  miscellaneous  items.  The  favorable
variation of $12.1 million is due, in part, to an increase in interest income on
certain investments. Further, during the third quarter of 2005, KeySpan recorded
an $8.5 million  non-cash  charge  associated with the fair value of outstanding
derivative  financial  instruments  that did not  qualify  for hedge  accounting
treatment.

Income  tax  expense  increased  $17.4  million  for the third  quarter  of 2006
compared to the same  quarter in 2005,  due to the  increase in pre-tax  income.
Offsetting this increase, to some extent, was a $3.4 million benefit recorded in
the third  quarter of 2006,  reflecting  an  accrual  for prior  investment  tax
credits  that KeySpan is entitled to.  KeySpan has  recently  filed  amended tax
returns to reflect its entitlement to investment tax credits for the period 2000
through 2004.

Results of Operations For The Nine Months Ended September 30, 2006 vs 2005

KeySpan's  earnings  for common stock for the nine months  ended  September  30,
2006, were $307.6 million,  compared to $273.2 million  realized during the same
period last year,  an  increase  of $34.4  million.  The  favorable  comparative
earnings primarily reflect:  (i) the benefits  associated with the settlement of
certain  outstanding  issues with the New York City  Department  of Taxation and
Finance and the Internal Revenue Service ("IRS"); and (ii) debt redemption costs
incurred  in 2005,  but not  repeated  in 2006;  offset by (iii) a  decrease  in
operating income.

KeySpan's  earnings per share for the nine months ended September 30, 2006, were
$1.76 per share,  compared  to $1.62 per share  realized  during the same period
last  year,  an  increase  of $0.14 per share.  Earnings  per share for the nine
months ended  September  30, 2006 reflect a higher level of  outstanding  common
stock compared to last year. In May 2005,  KeySpan issued 12.1 million shares of
common stock upon the  conversion  of  previously  held MEDs Equity  Units.  The
dilutive effect on earnings per share in 2006 from this issuance, in addition to
KeySpan's employee stock purchase plans, was approximately $0.07 per share. (See
KeySpan's  Annual Report of Form 10-K for the year ended December 31, 2005, Note
6 to the Consolidated Financial Statements "Long-Term Debt and Commercial Paper"
for additional details on the MEDs Equity Units.)

Operating  income  decreased  $12.4  million,  or 2% for the nine  months  ended
September 30, 2006, compared to the corresponding period last year.  Comparative
operating income reflects lower earnings from the Gas  Distribution  segment and
Energy  Investments  segments of $11.7 million and $5.3  million,  respectively,
offset by higher  earnings from  KeySpan's  electric  operations  and its Energy
Services  segment of $5.4  million  and $11.3  million  respectively.  Operating
income  from the Gas  Distribution  segment was  adversely  impacted by the warm
weather  experienced during the first quarter of 2006 (KeySpan's primary heating
season)  which  resulted  in a decrease to  comparative  net gas  revenues.  The
decrease in operating income from the Energy Investments  segment reflects lower
earnings  from  KeySpan's  investment  in the Iroquois Gas  Transmission  System


                                       47
<PAGE>


pipeline, as well as lower earnings from the transportation of liquefied natural
gas. The Electric  Services  segment  results were favorably  affected by a gain
recognized  on a fixed  for  floating  unforced  capacity  financial  swap.  The
favorable  comparative  results  from the Energy  Services  segment  were due to
higher gross margins on engineering and service  contracts and lower general and
administrative   expenses.  The  operating  income  variation  as  reflected  in
"elimination  and other" is due  primarily  to  incremental  costs  residing  at
KeySpan's holding company level primarily  related to the anticipated  KeySpan /
National  Grid plc merger  including  legal and  consulting  fees, as well as to
corporate advertising expenses. (See the discussion under the caption "Review of
Operating Segments" for further details on each segment.)

Other income and (deductions)  reflects interest charges,  costs associated with
debt   redemptions,   income  from  subsidiary  stock   transactions  and  other
miscellaneous  items. For the nine months ended September 30, 2006, other income
and  (deductions)  reflects a net  expense of $167.1  million  compared to a net
expense of $207.5 million for the same period of 2005.  The favorable  variation
of $40.4 million is due, in part, to debt redemption  costs incurred in 2005. In
2005,  KeySpan  redeemed  $500  million  6.15%  Series  Notes due 2006.  KeySpan
incurred $20.9 million in call premiums and wrote-off $1.3 million of previously
deferred  financing  costs.  In addition,  we accelerated  the  amortization  of
approximately $11.2 million of previously  unamortized  benefits associated with
an interest  rate swap on the  redeemed  bonds.  The  write-off  of the deferred
financing costs and the amortization of the benefits associated with an interest
rate swap were recorded to interest expense.

Interest  expense for the nine months ended  September 30, 2006  decreased  $7.4
million compared to the same period in 2005,  reflecting,  in part, the reversal
of a previously  recorded $6 million  reserve  established in connection with an
income tax dispute  with the New York City  Department  of Taxation and Finance.
During the second  quarter of 2006,  KeySpan  resolved  its dispute with the New
York City  Department  of Taxation  and  Finance  with  respect to income  taxes
relating to the operations of its merchant electric  generating  facility.  As a
result of the favorable  settlement of this issue, KeySpan reversed a previously
recorded interest reserve established in connection with this dispute.  Further,
comparative  interest  expense  reflects  lower  carrying  charges on regulatory
deferrals in 2006,  offset by the benefits  recorded in 2005 associated with the
amortization of the interest rate swap.

The  favorable  variation in other income and  (deductions)  for the nine months
ended  September  30, 2006,  compared to the same period in 2005,  also reflects
higher  interest  income  on  certain  investments.  Further,  in 2005,  KeySpan
recorded  an $8.5  million  non-cash  charge  associated  with the fair value of
outstanding  derivative  financial  instruments  that did not  qualify for hedge
accounting treatment.

Other  income and  (deductions)  for the nine months ended  September  30, 2005,
reflects the sale of  KeySpan's  50%  interest in Premier  Transmission  Limited
("Premier"),  a gas pipeline from southwest  Scotland to Northern  Ireland.  The
sale  generated  cash proceeds of  approximately  $48.1  million.  In the fourth
quarter of 2004,  KeySpan  reduced  its  carrying  value in Premier to an amount


                                       48
<PAGE>


approximating  the  anticipated  cash proceeds from the sale.  The final sale of
Premier,  which took place in the first  quarter of 2005,  resulted in a pre-tax
gain of $4.1 million reflecting the difference from earlier estimates.

Income tax expense  decreased  $2.4 million for the nine months ended  September
30, 2006,  compared to same period of 2005,  despite the higher pre-tax  income,
primarily  reflecting the settlement of certain  outstanding issues with the New
York City Department of Taxation and Finance and the IRS.

Pursuant to indemnity  obligations contained in the Long Island Lighting Company
("LILCO") / KeySpan merger  agreement,  KeySpan has been in discussions with the
IRS with regard to LILCO's tax returns for the tax years ended December 31, 1996
through March 31, 1999,  and KeySpan's and the Brooklyn  Union Gas Company's tax
returns for the years ended  September 30, 1997 through  December 31, 1998.  Two
issues were resolved in the second quarter of 2006. It is  anticipated  that the
remaining  issues,  including  the primary  issue  relating to the  valuation of
certain assets transferred in the KeySpan/LILCO  business  combination,  will be
settled following approval by the Joint Committee on Taxation.  In addition,  as
noted  above,  KeySpan  resolved its dispute  with New York City  Department  of
Taxation  and Finance  with  respect to income  taxes  relating to its  merchant
electric  generating  facility.  As a result of settling the two issues with the
IRS, as well as the New York City issue, KeySpan realized a tax benefit of $16.4
million  during the nine months  ended  September  30, 2006.  Further,  as noted
previously,  during the third  quarter of 2006  KeySpan  recorded a $3.4 million
benefit for prior investment tax credits to which KeySpan is entitled.

The IRS has also recently commenced the examination of KeySpan's tax returns for
the years ended  December 31, 2002 and 2003. At this time, we cannot predict the
result of these audits.

Additionally,  it should be noted that KeySpan recorded a $1.8 million loss from
discontinued  operations  for the nine months ended  September  30, 2005. In the
fourth  quarter of 2004,  KeySpan's  investment  in its  mechanical  contracting
subsidiaries  was  written-down  to fair  value.  During the first six months of
2005, operating losses amounting to $4.1 million after tax were incurred through
the dates of sale of these  companies,  including,  but not  limited  to,  costs
incurred for employee related benefits.  Partially offsetting these losses was a
gain of $2.3 million  associated with the related  divestitures,  reflecting the
difference  between the fair value  estimates  and the  financial  impact of the
actual sale transactions.  The net income impact of the operating losses and the
disposal gain was a loss of $1.8 million, or $0.01 per share for the nine months
ended September 30, 2005.

Consolidated earnings are seasonal in nature due to the significant contribution
to earnings of our gas distribution  operations.  As a result, we expect to earn
most of our annual earnings in the first and fourth quarters of our fiscal year.

In light of the pending  merger  between  KeySpan and National  Grid plc and the
widespread  integration  efforts  being  undertaken by both  companies,  KeySpan
believes that it is no longer relevant to comment on previously  issued guidance
on projected 2006 earnings.


                                       49
<PAGE>


Review of Operating Segments
----------------------------

KeySpan  reports its segment  results on an Operating  Income basis.  Management
believes  that this  Generally  Accepted  Accounting  Principle  ("GAAP")  based
measure  provides a reasonable  indication of KeySpan's  underlying  performance
associated  with its  operations.  The  following is a  discussion  of financial
results  achieved by  KeySpan's  operating  segments  presented  on an operating
income basis.

Gas Distribution

KeySpan Energy Delivery New York ("KEDNY") provides gas distribution  service to
customers in the New York City Boroughs of Brooklyn, Staten Island and a portion
of Queens,  and KeySpan  Energy  Delivery  Long Island  ("KEDLI")  provides  gas
distribution  service to  customers  in the Long  Island  counties of Nassau and
Suffolk and the  Rockaway  Peninsula  of Queens  County.  Four gas  distribution
companies - Boston Gas Company,  Colonial Gas  Company,  Essex Gas Company,  and
EnergyNorth  Natural Gas Inc., each doing business under the name KeySpan Energy
Delivery New England ("KEDNE"), provide gas distribution service to customers in
Massachusetts and New Hampshire.

The table below  highlights  certain  significant  financial  data and operating
statistics for the Gas Distribution segment for the periods indicated.

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------------------------------
                                                        Three Months Ended September 30,        Nine Months Ended September 30,
(In Millions of Dollars)                                       2006               2005                 2006              2005
-------------------------------------------------------------------------------------------------------------------------------
<S>                                                         <C>                 <C>                  <C>              <C>
Revenues                                                   $   595.5          $   629.6             $ 3,648.8        $ 3,476.1
Cost of gas                                                    362.8              399.8               2,416.5          2,214.9
Revenue taxes                                                    6.9                7.8                  43.1             43.0
-------------------------------------------------------------------------------------------------------------------------------
Net Revenues                                                   225.8              222.0               1,189.2          1,218.2
-------------------------------------------------------------------------------------------------------------------------------
Operating Expenses
   Operations and maintenance                                  145.5              162.9                 512.4            519.8
   Depreciation and amortization                                52.3               63.5                 197.3            207.4
   Operating taxes                                              38.8               41.1                 114.4            114.2
-------------------------------------------------------------------------------------------------------------------------------
Total Operating Expenses                                       236.6              267.5                 824.1            841.4
-------------------------------------------------------------------------------------------------------------------------------
Operating Income                                           $   (10.8)         $   (45.5)            $   365.1        $   376.8
-------------------------------------------------------------------------------------------------------------------------------
Firm gas sales and transportation (MDTH)                      27,682             28,020               203,437          228,260
Transportation - Electric Generation (MDTH)                   28,689              9,756                55,797           21,188
Other Sales (MDTH)                                            48,274             47,937               146,217          142,398
Warmer (Colder) than Normal - New York                           N/A                N/A                   14%              (3%)
Warmer (Colder) than Normal - New England                        N/A                N/A                    5%             (12%)
-------------------------------------------------------------------------------------------------------------------------------
</TABLE>

     A MDTH is 10,000 therms  (British  Thermal  Units) and reflects the heating
     content of  approximately  one million cubic feet of gas. A therm  reflects
     the  heating  content of  approximately  100 cubic feet of gas.One  billion
     cubic feet (BCF) of gas equals approximately 1,000 MDTH.


                                       50
<PAGE>


Executive Summary

For the third quarter of 2006, the Gas Distribution  segment realized a seasonal
operating loss of $10.8 million,  compared to a seasonal operating loss of $45.5
million  realized  in the  third  quarter  of 2005.  The  favorable  comparative
operating results were primarily due to a decrease of $30.9 million in operating
expenses as a result of a lower provision for uncollectible  accounts receivable
of $16.4 million and a decrease in depreciation charges of $11.6 million.

For the nine months ended September 30, 2006,  operating  income decreased $11.7
million  compared to the same period last year,  primarily  due to a decrease in
net gas  revenues  of $29.0  million,  primarily  resulting  from the warm first
quarter weather.  Operating expenses,  however, decreased $17.3 million due to a
lower  provision for  uncollectible  accounts  receivable of $13.9 million and a
decrease in  depreciation  charges of $7.9 million,  partially  offset by higher
employee benefit costs, primarily postretirement expenses.

Net Revenues

Net gas revenues from our gas distribution operations decreased $29.0 million,
or 2%, for the nine months ended September 30, 2006, compared to the same period
last year. Both the New York and New England based gas distribution operations
were adversely impacted by the significantly warmer than normal weather
experienced throughout the northeastern United States during the 2006 heating
season - January through April. As measured in heating degree days, weather
during that period in our New York and New England service territories was
approximately 13% and 8% warmer than normal, respectively, and was approximately
15% warmer than last year across KeySpan's service territories.

Net revenues from firm gas customers  (residential,  commercial  and  industrial
customers)  decreased $43.8 million in the first nine months of 2006 compared to
the same period last year.  The  favorable  impact to net gas revenues from load
growth additions was more than offset by declining usage per customer due to the
extremely  warm  weather  during  the  winter  heating  season,  the use of more
efficient gas heating equipment and higher gas costs. KeySpan estimates that the
warm  winter  weather  resulted  in an  adverse  impact to net gas  revenues  of
approximately  $26 million,  net of the benefits from the weather  normalization
adjustment and weather derivatives discussed below.

KEDNY and KEDLI  each  operate  under  utility  tariffs  that  contain a weather
normalization  adjustment  that  significantly  offsets  variations  in firm net
revenues due to fluctuations in weather. These weather normalization adjustments
resulted  in a benefit to KeySpan of $25 million  during the nine  months  ended
September  30, 2006,  but this did not fully  mitigate the impact of the loss in
revenues due to the extremely warm weather experienced, as previously noted. The
New   England-based   gas   distribution   subsidiaries   do  not  have  weather
normalization  adjustments.  To mitigate  the effect of  fluctuations  in normal
weather  patterns  on KEDNE's  results of  operations  and cash  flows,  weather
derivatives  were in place for the 2005/2006  winter  heating  season.  Weather,
during the first quarter of 2006 was  significantly  warmer than normal as noted
earlier. However, during the entire primary winter heating season -November 2005
through March 2006 - weather was slightly colder than normal.  Therefore,  there
was no earnings impact  associated with these weather  derivatives for the first
nine  months  of 2006.  (See  Note 4 to the  Consolidated  Financial  Statements
"Hedging and Derivative Financial Instruments" for further information).


                                       51
<PAGE>


Firm gas distribution  rates for KEDNY,  KEDLI and KEDNE in 2006, other than for
the recovery of gas costs,  have  remained  substantially  unchanged  from rates
charged in 2005.


In our large-volume  heating and other interruptible  (non-firm) markets,  which
include large apartment houses, government buildings and schools, gas service is
provided  under rates that are  designed to compete  with prices of  alternative
fuel,  including No. 2 and No. 6 grade heating oil. These "dual-fuel"  customers
can consume either natural gas or fuel oil for heating purposes. Net revenues in
these markets increased $14.8 million during the nine months ended September 30,
2006, compared to the same period last year primarily reflecting higher pricing.

Firm Sales, Transportation and Other Quantities

Firm gas sales and transportation quantities for the nine months ended September
30, 2006, decreased 11% compared to the same period in 2005 due primarily to the
warmer  weather  this  year  compared  to  last  year.  Customer  additions  and
oil-to-gas  conversions  offset  the full  impact  of the  warmer  weather.  Net
revenues are not affected by customers  opting to purchase their gas supply from
other  sources,  since  delivery  rates  charged  to  transportation   customers
generally  are  the  same as  delivery  rates  charged  to  full  sales  service
customers.  Transportation quantities related to electric generation reflect the
transportation  of gas to our  electric  generating  facilities  located on Long
Island. Net revenues from these services are not material.

Other sales quantities include on-system  interruptible  quantities,  off-system
sales quantities  (sales made to customers  outside of our service  territories)
and related  transportation.  We have a management  contract  with Merrill Lynch
Trading,   under  which  KeySpan  and  Merrill  Lynch  Trading  will  share  the
responsibilities   for  managing  KeySpan's  upstream  gas  distribution  assets
associated with its  Massachusetts  gas  distribution  subsidiaries,  as well as
providing  city-gate  delivered  supply.  KeySpan,  Merrill  Lynch  Trading  and
KeySpan's  Massachusetts gas sales customers will share in the profits generated
from  the  optimization  of  these  assets.  The  Massachusetts   Department  of
Telecommunications  and Energy  ("MADTE")  approved  this contract in March 2006
effective April 1, 2006. KeySpan provides these services  internally for its New
York and New Hampshire gas distribution subsidiaries.

Purchased Gas for Resale

The increase in gas costs for the nine months ended September 30, 2006, compared
to the same period of 2005 of $201.6 million, or 9%, reflects an increase of 20%
in the price per dekatherm of gas purchased for firm gas sales customers, offset
by a 13%  decrease  in the  quantity  of gas  purchased  due to the warm  winter
heating  season  weather.  The  current  gas rate  structure  of each of our gas


                                       52
<PAGE>


distribution  utilities  includes a gas  adjustment  clause,  pursuant  to which
variations  between actual gas costs incurred for resale to firm sales customers
and gas costs  billed to firm sales  customers  are  deferred and refunded to or
collected from customers in a subsequent period.

Operating Expenses

Operating  expenses for the third  quarter of 2006  compared to the same quarter
last year decreased $30.9 million,  or 12%.  Operations and maintenance  expense
decreased $17.4 million, or 11%, in 2006 compared to 2005 primarily reflecting a
decrease  of  $16.4  million  in  the  provision  for   uncollectible   accounts
receivable.  In December 2005, The Boston Gas Company  ("Boston Gas") received a
MADTE order,  effective January 1, 2006,  permitting Boston Gas to fully recover
the gas cost component of bad debt write-offs through its cost-of-gas adjustment
clause  rather than filing for recovery as an  exogenous  cost.  The  beneficial
impact of this MADTE order was the primary  driver  behind the  reduction in the
provision for  uncollectible  accounts  receivable,  combined with a decrease in
firm sales  quantities in 2006 compared to 2005.  See the  discussion  under the
caption  "Regulation  and Rate Matters - Gas Matters" for additional  details of
the MADTE order.

The decrease in depreciation and amortization  charges of $11.2 million, or 18%,
for the third  quarter  of 2006  compared  to the  third  quarter  of 2005,  was
primarily  due to an  adjustment  recorded  this  quarter  to  the  depreciation
allowance  to correct for an error in useful lives  associated  with certain gas
distribution assets.

For the nine months ended September 30, 2006, operating expenses decreased $17.3
million, or 2% compared to the same period last year. Operations and maintenance
expense  decreased  $7.4  million,  or 1%,  in 2006  compared  to 2005  due to a
decrease  of  $13.9  million  in  the  provision  for   uncollectible   accounts
receivable,  resulting  from the MADTE  order  noted  above and lower firm sales
quantities in 2006 compared to 2005.  This  beneficial  impact to operations and
maintenance expense was partially offset by increases in postretirement expenses
and regulatory fees.

The decrease in depreciation and amortization  charges of $10.1 million,  or 5%,
for the nine months  ended  September  30,  2006  compared to the same period of
2005,  reflects a decrease  in  depreciation  charges of $7.9  million and lower
regulatory  amortization  charges  of $2.2  million.  As noted  previously,  the
decrease in  depreciation  charges  reflects an adjustment  to the  depreciation
allowance  to correct for an error in useful lives  associated  with certain gas
distribution assets.

Gas Supply and Pricing

KeySpan  believes  it has  adequate  gas supply  available  to meet its gas load
demand in its service  territories  for the 2006/2007  winter  heating season as
KeySpan  expects  its gas  storage  to be 100% full at the  start of the  winter
heating season.  The current gas rate structure of each of our gas  distribution
utilities  includes a gas  adjustment  clause,  pursuant  to which gas costs are
recovered  in  billed  sales to  regulated  firm gas sales  customers.  Although
KeySpan is  allowed  to "pass  through"  the cost of gas to its  customers,  the
volatility of natural gas prices can have an adverse  impact on  customers'  gas


                                       53
<PAGE>


bills and recovery of customer accounts receivable.  High gas prices have led to
an  increase  in  price   elasticity   resulting  in  an  increase  in  customer
conservation  measures and  attrition.  The MADTE order,  received in the fourth
quarter of 2005,  permitting  Boston  Gas  regulatory  recovery  of the gas cost
component of net bad debt  write-offs has helped to mitigate any increase in bad
debt expense.

With KeySpan's continuing strategy of having its storage facilities 100% full at
the start of the heating  season and through the use of  financial  derivatives,
KeySpan  anticipates that it will  effectively  hedge the price of approximately
two-thirds  of the gas supply needed to serve its gas heating  customers  during
the 2006/2007 winter heating season.  This strategy  mitigates the volatility of
natural gas prices on customers' winter heating gas bills. Further,  KeySpan has
programs in place to help  customers  manage  their gas bills,  such as balanced
billing  plans,  deferred  payment  arrangements  and the low income home energy
assistance  program,  which we  supported  the  expansion  of through the Energy
Policy Act of 2005.  Management  believes that these  measures help mitigate the
impact of high gas prices on customers' bills.

Other Matters

We remain committed to our ongoing gas system expansion  strategies.  We believe
that  significant  growth  opportunities  exist  on Long  Island  and in our New
England service territories, as well as continued growth in the New York service
territory, despite the volatility in gas prices. We estimate that on Long Island
approximately 37% of the residential and multi-family markets, and approximately
60% of the  commercial  market,  currently  use natural  gas for space  heating.
Further, we estimate that in our New England service  territories  approximately
50% of the residential and multi-family markets, as well as approximately 60% of
the commercial market,  currently use natural gas for space heating purposes. We
will continue to seek growth, in all our market segments,  through the expansion
of our gas distribution  system for new  construction and to penetrate  existing
communities  where  no  distribution  system  exists,  as  well as  through  the
conversion of residential  homes from oil-to-gas for space heating  purposes and
the pursuit of  opportunities  to grow  multi-family,  industrial and commercial
markets.

In order to serve the  anticipated  market  requirements in our New York service
territories,  KeySpan and Duke Energy  Corporation formed Islander East Pipeline
Company,  LLC  ("Islander  East") in 2000.  Once in  service,  the  pipeline  is
expected to have the  capacity to  transport up to 260,000 DTH of natural gas to
the Long Island and New York City  energy  markets,  enough  natural gas to heat
600,000  homes.  In  addition,  KeySpan has a 26.3%  interest in the  Millennium
Pipeline development project which is anticipated to transport up to 525,000 DTH
of natural gas a day to the Algonquin  pipeline.  KEDLI has executed a Precedent
Agreement for 175,000 DTH of natural gas per day of transportation capacity from
the Millennium Pipeline system,  increasing to 200,000 DTH in the second year of
the pipeline  being in service.  These  pipeline  projects will allow KeySpan to
diversify the geographic sources of its gas supply. See the discussion under the
caption "Energy Investments" for additional information regarding these pipeline
projects.


                                       54
<PAGE>


Electric Services

The Electric  Services segment  primarily  consists of subsidiaries that own and
operate oil and gas-fired  electric  generating  plants in the Borough of Queens
(including the  "Ravenswood  Generating  Station" which comprises the Ravenswood
Facility  and  Ravenswood  Expansion)  and the counties of Nassau and Suffolk on
Long Island. In addition, through long-term contracts of varying lengths, we (i)
provide to the Long Island Power Authority  ("LIPA") all operation,  maintenance
and construction  services and significant  administrative  services relating to
the Long Island electric  transmission and distribution  ("T&D") system pursuant
to a  Management  Services  Agreement  (the "1998  MSA");  (ii) supply LIPA with
electric generating capacity,  energy conversion and ancillary services from our
Long Island  generating  units  pursuant to a Power Supply  Agreement (the "1998
PSA");  and (iii)  manage  all  aspects of the fuel  supply for our Long  Island
generating  facilities,  as well as all aspects of the capacity and energy owned
by or under  contract to LIPA pursuant to an Energy  Management  Agreement  (the
"1998 EMA"). The 1998 MSA, 1998 PSA and 1998 EMA all became effective on May 28,
1998 and are collectively referred to herein as the "1998 LIPA Agreements."

On February 1, 2006,  KeySpan and LIPA  entered into (i) an amended and restated
Management  Services Agreement (the "2006 MSA"),  pursuant to which KeySpan will
continue to operate and  maintain  the electric T&D System owned by LIPA on Long
Island;  (ii) a new Option and  Purchase  and Sale  Agreement  (the "2006 Option
Agreement"), to replace the Generation Purchase Rights Agreement as amended (the
"GPRA"),  pursuant to which LIPA had the option,  through  December 15, 2005, to
acquire substantially all of the electric generating facilities owned by KeySpan
on  Long  Island;  and  (iii)  a  Settlement  Agreement  (the  "2006  Settlement
Agreement")  resolving outstanding issues between the parties regarding the 1998
LIPA Agreements. The 2006 MSA, the 2006 Option Agreement and the 2006 Settlement
Agreement  are  collectively  referred to herein as the "2006 LIPA  Agreements."
(For  a  further  discussion  on  these  LIPA  agreements  see  Note  10 to  the
Consolidated Financial Statements "2006 LIPA Settlement.") The Electric Services
segment also provides retail marketing of electricity to commercial customers.







                                       55
<PAGE>


Selected  financial data for the Electric  Services  segment is set forth in the
table below for the periods indicated.

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------
                                           Three Months Ended September 30,         Nine Months Ended September 30,
(In Millions of Dollars)                       2006                 2005                 2006                2005
--------------------------------------------------------------------------------------------------------------------
<S>                                       <C>                   <C>                 <C>                 <C>
Revenues from Operations                $      539.0          $      619.9        $    1,390.3         $    1,493.5
Purchased fuel                                 172.5                 254.2               418.0                546.0
--------------------------------------------------------------------------------------------------------------------
Net Revenues from Operations                   366.5                 365.7               972.3                947.5
Derivative Financial Instrument                 26.6                     -                44.3                    -
--------------------------------------------------------------------------------------------------------------------
Net Electric Revenues                          393.1                 365.7             1,016.6                947.5
--------------------------------------------------------------------------------------------------------------------
Operating Expenses
   Operations and maintenance                  176.8                 150.6               527.3                480.8
   Depreciation                                 24.9                  21.5                77.1                 67.6
   Operating taxes                              47.5                  45.0               141.0                133.8
--------------------------------------------------------------------------------------------------------------------
Total Operating Expenses                       249.2                 217.1               745.4                682.2
--------------------------------------------------------------------------------------------------------------------
Sale Of Property                                 0.5                   1.0                 0.5                  1.0
--------------------------------------------------------------------------------------------------------------------
Operating Income                        $      144.4          $      149.6        $      271.7         $      266.3
--------------------------------------------------------------------------------------------------------------------
Electric sales (MWH)*                      1,718,241             2,351,722           3,605,693            4,798,239
Capacity(MW)*                                  2,450                 2,450               2,450                2,450
Cooling degree days                              839                 1,125               1,115                1,438
--------------------------------------------------------------------------------------------------------------------
</TABLE>

*Reflects the operations of the Ravenswood Generating Station only.

Executive Summary

Operating  income  decreased  $5.2  million,  or 3%, for the three  months ended
September 30, 2006,  compared to the same quarter last year,  due primarily to a
decrease in net revenues from the Ravenswood Generating Station of $50.4 million
as a result of lower energy margins and capacity revenues,  as well as to higher
operating  expenses  of  $4.1  million,  partially  offset  by  higher  revenues
associated  with KeySpan's  service  agreements with LIPA of  approximately  $24
million, which are primarily timing in nature. KeySpan also recognized a gain of
$26.6 million on a fixed for floating unforced capacity financial swap.

For the nine months ended September 30, 2006,  operating  income  increased $5.4
million,  or 2%, compared to the same period last year, due, in part, to a $44.3
million gain recognized on the fixed for floating  unforced  capacity  financial
swap,  higher  off-system sales associated with service  agreements with LIPA of
$4.5  million,  an increase  of $4.4  million in  revenues  associated  with our
electric  marketing  activities and slightly  lower  operating  expenses.  These
benefits to comparative  operating income were partially offset by a decrease in
net revenues from the Ravenswood Generating Station of $51.6 million as a result
of lower energy margins and capacity revenues.

Net Revenues

Total electric net revenues realized during the third quarter of 2006 were $27.4
million higher than such revenues realized during the corresponding  period last
year.


                                       56
<PAGE>


KeySpan  has entered  into an  International  SWAP  Dealers  Association  Master
Agreement for a fixed for floating unforced capacity  financial swap with Morgan
Stanley Capital Group Inc. ("Swap  Agreement").  This agreement has a three year
term that began on May 1, 2006.  For the three months ended  September  30, 2006
KeySpan  recognized  a gain of $26.6  million  from  this  derivative  financial
instrument.  (See Note 4 to the Consolidated Financial Statements,  "Hedging and
Derivative  Financial   Instruments,"  for  further  information  on  this  swap
agreement.)

Net  revenues  for the third  quarter of 2006 from the service  agreements  with
LIPA,  including  the power  purchase  agreements  associated  with two electric
peaking  facilities,  increased  $52.0 million  compared to the third quarter of
2005.  This  increase  reflects,   in  part,  the  recovery  of  operations  and
maintenance  costs billed to LIPA, which increased by approximately $28 million.
Therefore, approximately $24 million of the increase in net revenues resulted in
a benefit to operating  income.  The major portion of this increase is timing in
nature with $4.6 million  resulting from an increase in off-system sales. (For a
description of the LIPA Agreements and power purchase agreements,  see KeySpan's
2005  Annual  Report on Form 10-K for the year ended  December  31, 2005 Item 7.
Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations under the caption "Electric Services - Revenue Mechanisms.")

Net revenues associated with KeySpan's electric marketing  activities  decreased
$0.8 million  during the third  quarter of 2006  compared to the same quarter of
2005.

Net revenues from the Ravenswood  Generating Station decreased $50.4 million, or
31% for the three months ended September 30, 2006,  compared to the same quarter
last year reflecting lower capacity  revenues of $27.0 million and a decrease in
energy  margins of $23.4 million.  The decrease in capacity  revenues was due to
additional capacity installed in New York City in 2006.

The decrease in energy margins for the third quarter of 2006 reflects,  in part,
a 28% decrease in realized  "spark-spreads"  (the selling  price of  electricity
less the cost of fuel, exclusive of hedging gains or losses). Further, the level
of megawatt  hours ("MWh") sold into the New York  Independent  System  Operator
("NYISO")  energy market  decreased 27% due to increased  competition and cooler
comparative  weather. As measured in cooling-degree days, weather was 25% cooler
during  the  third  quarter  of 2006  compared  to the  third  quarter  of 2005.
Combined,  these two items reduced energy  margins by $44.6  million.  Partially
offsetting these adverse impacts to energy margins were the benefits  recognized
from derivative  financial  instruments.  We employ derivative financial hedging
instruments  to hedge the cash flow  variability  for a  portion  of  forecasted
purchases  of natural  gas and fuel oil  consumed at the  Ravenswood  Generating
Station.  We have  also  engaged  in the  use of  derivative  financial  hedging
instruments  to hedge the cash flow  variability  associated  with a portion  of
forecasted electric energy sales from the Ravenswood  Generating Station.  These
derivative  instruments  resulted in hedging  gains,  which are reflected in net
electric  margins,  of $9.4  million for the third  quarter of 2006  compared to
hedging  losses of $11.8 million for the third  quarter of 2005.  (See Note 4 to
the  Consolidated   Financial   Statements  "Hedging  and  Derivative  Financial
Instruments" for further information on KeySpan's hedging strategy.)


                                       57
<PAGE>


Total electric net revenues  realized during the nine months ended September 30,
2006,  were  $69.1  million  higher  than  such  revenues  realized  during  the
corresponding  period last year.  For the nine months ended  September 30, 2006,
KeySpan  recognized a gain of $44.3 million from the fixed for floating unforced
capacity derivative financial instrument described previously.

Net  revenues  for the nine months ended  September  30, 2006,  from the service
agreements with LIPA,  including the power purchase  agreements  associated with
two electric  peaking  facilities,  increased $72.0 million compared to the same
period  of 2005,  reflecting  the  recovery  of  approximately  $67  million  in
operations and  maintenance  costs billed to LIPA and therefore had no impact on
operating  income.  The remaining  increase  reflects higher  off-system  energy
sales.

Net revenues associated with KeySpan's electric marketing  activities  increased
$4.4 million  during the nine months ended  September  30, 2006  compared to the
same period of 2005.

The Ravenswood Generating Station, however, realized a decrease of $51.6 million
in net revenues during the nine months ended September 30, 2006, compared to the
same period last year,  reflecting  lower  capacity  revenues of $61.7  million,
partially  offset by an increase in energy margins of $10.1  million.  Installed
capacity  additions  during 2006 in New York City were the primary driver behind
the decrease in capacity revenues.

The  increase in energy  margins for the nine months  ended  September  30, 2006
reflects  the  settlement  of  derivative   financial   instruments.   As  noted
previously, we employ derivative financial hedging instruments to hedge the cash
flow  variability for a portion of forecasted  purchases of natural gas and fuel
oil  consumed at the  Ravenswood  Generating  Station and to hedge the cash flow
variability associated with a portion of forecasted electric energy sales. These
derivative  instruments  resulted in hedging  gains,  which are reflected in net
electric  margins,  of $72.1 million during the nine months ended  September 30,
2006 compared to hedging  losses of $4.5 million during the same period of 2005.
The benefits to energy margins from KeySpan's  hedging strategy were offset by a
36% decrease in realized  "spark-spreads."  Further,  the level of MWh sold into
the NYISO energy market  decreased 25% due to additional  competition and cooler
weather.  As measured in cooling-degree  days, weather was 22% cooler during the
nine  months  ended  September  30,  2006  compared  to the same period of 2005.
Combined,  these two items  resulted  in an adverse  impact to  comparative  net
revenues of $66.5 million.

The rules and  regulations  for  capacity,  energy sales and the sale of certain
ancillary  services to the NYISO energy markets continue to evolve and there are
several matters pending with the Federal Energy Regulatory  Commission ("FERC").
See the  discussion  under  the  caption  "Market  and  Credit  Risk  Management
Activities" for further details on these matters.

In addition,  on September 29, 2006, the NYISO Management Committee  recommended
approval of an in-City capacity mitigation proposal (the "Mitigation Proposal").
The  Mitigation  Proposal  imposes a reduced  capacity  offer cap on bids by the
Ravenswood  Generating  Station and certain other generation  owners of capacity
into the NYISO Spot  Demand  Curve  Auction  Market.  The  current  offer cap is
$105/kW-year and is proposed to be reduced to $82/kW-year plus 3%.


                                       58
<PAGE>


The reduced  offer cap would be  implemented  using a conduct and impact test on
the offers of capacity from the Ravenswood  Generating  Station and other owners
of Consolidated Edison divested generation units. Under the Mitigation Proposal,
if an offer to sell capacity is 3% or more above $82/kW-year,  then the offer is
subject to possible  mitigation.  To determine if mitigation will be applied,  a
second test, an impact test, is utilized. If the unmitigated offer causes market
clearing prices to be 3% or more above $82/kW-year,  then the offer is mitigated
(reduced) to $82/kW-year. Essentially, the Ravenswood Generating Station and the
other  owners of  generation  divested  by  Consolidated  Edison may not set the
market  clearing price in excess of this new offer cap. The Mitigation  Proposal
is in addition to the existing in-City capacity mitigation measures.

The Mitigation Proposal must be approved by the NYISO Board of Directors and the
FERC. On October 11, 2006,  KeySpan and other parties filed appeals to the NYISO
Board of Directors  requesting that the Mitigation Proposal be rejected and more
thoroughly analyzed and revised pursuant to detailed  stakeholder  meetings.  At
this time,  we are unable to predict  the  outcome of this  proceeding  and what
effect it will have on our financial condition,  results of operations, and cash
flows.  However,  adoption and implementation of the Mitigation  Proposal in its
current form could  materially  adversely affect the revenue realized by KeySpan
from the sale of capacity from the Ravenswood Generating Station, as well as the
potential  revenue  that  could be  realized  in  connection  with the fixed for
floating financial Swap Agreement.

Operating Expenses

Operating  expenses  increased  $32.1  million  during the third quarter of 2006
compared  to the  second  quarter of 2005  primarily  reflecting  a $28  million
increase in  recoverable  costs from LIPA,  as noted  previously.  The remaining
increase  primarily reflects higher  postretirement  expenses and an increase in
plant  overhaul  costs and  non-outage  work  performed on KeySpan's Long Island
based generating units.

Operating  expenses  increased  $63.2  million  during  the  nine  months  ended
September 30, 2006, compared to the same period of 2005 reflecting a $67 million
increase in recoverable costs from LIPA, as noted  previously,  partially offset
by a decrease  in  overhaul  costs  associated  with the  Ravenswood  Generating
Station.

Other Matters

In 2003,  the New  York  State  Board  on  Electric  Generation  Siting  and the
Environment  issued  an  opinion  and  order  which  granted  a  certificate  of
environmental  capability  and public need for a 250 MW combined  cycle electric
generating facility in Melville, Long Island, which is final and non-appealable.
Also in 2003,  LIPA  issued a Request for  Proposal  ("RFP")  seeking  bids from
developers to either build and operate a Long Island generating facility, and/or
a new cable that will link Long Island to power from a non-Long Island source of
between  250 to 600 MW of  electricity  by no  later  than the  summer  of 2007.


                                       59
<PAGE>


KeySpan  filed a proposal in response  to LIPA's  RFP.  In 2004,  LIPA  selected
proposals submitted by two other bidders in response to the RFP. KeySpan remains
committed  to the  Melville  project and the  benefits to Long  Island's  energy
future that this project would  supply.  The project has received New York State
Article X approval by having met all  operational and  environmental  permitting
requirements.  Further, the project is strategically  located in close proximity
to both the high  voltage  power  transmission  grid and the high  pressure  gas
distribution  network. In addition,  given the intense public pressure to reduce
emissions  from  existing  generating  facilities,  development  of the Melville
project is possible as a means to "virtually  re-power"  older,  less  efficient
generating units. Specifically, KeySpan believes that it would be able to reduce
emissions on Long Island in a cost  effective  manner by developing the Melville
project and retiring an older, less efficient generating facility. Additionally,
in August  2006,  the NYISO  included the  Melville  project in its  Reliability
Report as one of the market solutions to help address the long-term  reliability
of New York State's  electric  grid.  At September 30, 2006,  total  capitalized
costs  associated  with the siting,  permitting and procurement of equipment for
the Melville facility were $63.1 million.

On February 6, 2006,  the  NYISO's  New York City local  reliability  rules that
required that 80% of the electric capacity needs of New York City be provided by
"in-City"  generators  was increased to 83%.  However,  in March 2006, the NYISO
Operating  Committee  reversed its  decision and returned the local  reliability
rules to 80%.  See the  discussion  under the  caption  "Market  and Credit Risk
Management  Activities - Regulatory Issues and the Competitive  Environment" for
further information regarding this matter.

Energy Services

The Energy  Services  segment  includes  companies  that provide  energy-related
services to customers located  primarily within the northeastern  United States.
Subsidiaries in this segment provide residential and small commercial  customers
with  service  and  maintenance  of energy  systems and  appliances,  as well as
operation  and  maintenance,  design,  engineering,  consulting  and fiber optic
services to commercial, institutional and industrial customers.

The table below highlights  selected financial  information  associated with the
Energy Services segment.

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------------------
                                          Three Months Ended September 30,          Nine Months Ended September 30,
(In Millions of Dollars)                       2006                2005                  2006                2005
-------------------------------------------------------------------------------------------------------------------
<S>                                           <C>                 <C>                   <C>                 <C>
Revenues                                  $    51.8           $    47.1              $   155.4           $   142.0
Operating expenses                             48.8                48.2                  150.8               148.7
-------------------------------------------------------------------------------------------------------------------
Operating Income (Loss)                   $     3.0           $    (1.1)             $     4.6           $    (6.7)
-------------------------------------------------------------------------------------------------------------------
</TABLE>

The Energy Services  segment posted  operating  profits of $3.0 million and $4.6
million for the three and nine months ended  September  30, 2006,  respectively,
compared to operating  losses of $1.1 million and $6.7 million  incurred for the
three and nine months  ended  September  30,  2005,  respectively.  The improved


                                       60
<PAGE>


performance  reflects  higher gross profit and operating  margins on engineering
contracts and appliance  service work, as well as the  completion  and favorable
pricing  associated with these  contracts,  an increase in bandwidth sales and a
reduction in general and administrative expenses as a result of cost containment
measures implemented in 2005.

Energy Investments

The Energy  Investments  segment  consists of our gas exploration and production
investments,  as well as  certain  other  domestic  energy-related  investments.
KeySpan's gas exploration  and production  activities  include its  wholly-owned
subsidiaries  Seneca  Upshur  Petroleum,  Inc.   ("Seneca-Upshur")  and  KeySpan
Exploration  and  Production,  LLC  ("KeySpan  Exploration").  Seneca-Upshur  is
engaged in gas exploration and production activities primarily in West Virginia.

As of September 30, 2006,  based on an average  wellhead price of $3.63 per MCF,
adjusted for derivative  instruments,  KeySpan  estimated  that its  capitalized
costs  exceeded  the ceiling  test  limitation  by $25.8  million.  However,  as
permitted by current SEC guidelines,  KeySpan elected to use a measurement  date
closer to the  filing of its  September  30,  2006 Form 10-Q to  re-compute  the
ceiling test limitation.  Using an average wellhead price on October 26, 2006 of
$7.77 per MCF, adjusted for derivative instruments,  KeySpan determined that its
capitalized  costs did not exceed the ceiling  test  limitation.  Therefore,  an
impairment  charge was not considered  necessary at September 30, 2006.  Natural
gas prices  continue to be  volatile  and the risk that a write down to the full
cost pool increases when, among other things,  natural gas prices are low, there
are significant  downward  revisions in our estimated proved reserves or we have
unsuccessful  drilling  results.  See  Note  12 to  the  Consolidated  Financial
Statements "Gas Exploration and Production  Property-  Depletion" for additional
details.

This segment is also  engaged in pipeline  development  activities.  KeySpan and
Duke Energy Corporation each own a 50% interest in Islander East.  Islander East
was  created to pursue  the  authorization  and  construction  of an  interstate
pipeline  from  Connecticut,  across  Long  Island  Sound,  to a  terminus  near
Shoreham, Long Island.  Further,  KeySpan has a 26.3% interest in the Millennium
Pipeline Company LLC, the developer of the Millennium  pipeline project which is
expected to have the  capacity to  transport  up to 525,000 DTH of natural gas a
day from  Corning,  New York to Ramapo,  New York,  where it will  connect to an
existing pipeline. Additionally,  subsidiaries in this segment hold a 20% equity
interest in the Iroquois Gas Transmission  System LP, a pipeline that transports
Canadian  gas  supply  to  markets  in the  northeastern  United  States.  These
investments   are  accounted   for  under  the  equity  method  of   accounting.
Accordingly, equity income from these investments is reflected as a component of
operating income in the Consolidated Statement of Income.

KeySpan also owns a 600,000  barrel  liquefied  natural gas ("LNG")  storage and
receiving  facility  in  Providence,  Rhode  Island,  through  its wholly  owned
subsidiary KeySpan LNG, the operations of which are fully consolidated.

As noted previously, in the first quarter of 2005, KeySpan sold its 50% interest
in Premier, a gas pipeline from southwest Scotland to Northern Ireland. On March
18, 2005,  the sale was completed and generated  cash proceeds of $48.1 million.
In the fourth quarter of 2004,  KeySpan reduced its carrying value in Premier to


                                       61
<PAGE>


an amount  approximating  the anticipated cash proceeds from the sale. The final
sale of Premier,  which took place in the first  quarter of 2005,  resulted in a
pre-tax gain of $4.1 million  reflecting the difference from earlier  estimates.
This gain was  recorded in other  income and  (deductions)  on the  Consolidated
Statement of Income.

Selected financial data for these energy-related investments is set forth in the
following table for the periods indicated.

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------------------
                                                    Three Months Ended September 30,             Nine Months Ended September 30,
(In Millions of Dollars)                                2006                 2005                   2006                  2005
--------------------------------------------------------------------------------------------------------------------------------
<S>                                                     <C>                  <C>                    <C>                    <C>
Revenues                                            $    9.7                $ 11.9               $   30.1               $   30.7
Less:  Operation and maintenance expense                 5.5                   7.0                   19.5                   19.0
        Other operating expenses                         2.7                   2.7                    9.0                    7.7
Add:   Equity earnings                                   3.2                   2.5                    9.5                   12.5
        Sale of assets                                     -                     -                    0.2                    0.1
--------------------------------------------------------------------------------------------------------------------------------
Operating Income                                    $    4.7                $  4.7               $   11.3               $   16.6
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>

As  indicated in the above table,  operating  income for the Energy  Investments
segment for the third quarter of 2006 remained consistent with the third quarter
of 2005,  as an increase in earnings  from our  investment  in the  Iroquois Gas
Transmission  System of $0.6  million  was offset by lower  realized  gas prices
associated with our Seneca-Upshur investment.

For the nine months ended September 30, 2006,  operating  income  decreased $5.3
million compared to the same period in 2005 due, in part, to lower earnings from
KeySpan's  investment  in the Iroquois Gas  Transmission  System.  In 2005,  the
Iroquois Gas  Transmission  System  realized a benefit  from a court  settlement
relating to a gas supply  contract that was defaulted on by a counterparty in an
earlier period.  Further,  a KeySpan subsidiary engaged in the transportation of
liquefied  natural gas realized lower  earnings due to the warm winter  weather.
Finally, equity earnings were adversely impacted by the sale of Premier in March
2005.

Other Matters

In order to serve the  anticipated  market  requirements in our New York service
territories,  KeySpan and Duke Energy  Corporation formed Islander East Pipeline
Company,  LLC ("Islander  East") in 2000.  Islander East is owned 50% by KeySpan
and  50% by Duke  Energy,  and was  created  to  pursue  the  authorization  and
construction  of an  interstate  pipeline from  Connecticut,  across Long Island
Sound, to a terminus near Shoreham, Long Island.  Applications for all necessary
regulatory  authorizations  were  filed  in 2000  and  2001.  Islander  East has
received a final  certificate  from the FERC and all necessary  permits from the
State of New York. The State of Connecticut denied Islander East's request for a
consistency  determination  under the Coastal Zone  Management  Act ("CZMA") and
application for a permit under Section 401 of the Clean Water Act. Islander East
appealed  the  State of  Connecticut's  determination  on the CZMA  issue to the
United  States  Department  of  Commerce.  In 2004,  the  Secretary  of Commerce
overrode   Connecticut's   denial  and  granted  the  CZMA  authorization.   The
determination  of the  Secretary of Commerce  was appealed to the United  States


                                       62
<PAGE>


District  Court for the District of Columbia  and a decision  from that court is
pending.  Islander East's petition for a declaratory order overriding the denial
of the Clean  Water Act  permit is pending  with  Connecticut's  State  Superior
Court.  Pursuant to a provision  of the Energy  Policy Act of 2005 (the  "Energy
Act"),  Islander East appealed the denial of the Clean Water Act permit directly
to the United  States Court of Appeals for the Second  Circuit and moved to stay
the  Connecticut  case  pending  the  Second  Circuit's  decision.  The State of
Connecticut filed a motion to challenge the  constitutionality of the provisions
of the Energy Act providing  this appeal.  The appeal was argued in January 2006
and oral arguments on the constitutional and jurisdictional  issues were held in
April 2006.  The Second  Circuit  Court of Appeals ruled on October 5, 2006 that
the  Energy  Act is  constitutional  and  that  the  Connecticut  Department  of
Environmental Protection ("CTDEP") acted arbitrarily and capriciously in denying
the Clean Water Act permit.  The Court  remanded the matter to CTDEP to conduct,
within 75 days of October 5, 2006,  "the sort of complete  and  reasoned  review
required by law." KeySpan  anticipates  that this pipeline will be in service in
late  2008.  As  of  September  30,  2006,  KeySpan's  total  capitalized  costs
associated  with the siting and  permitting  of the Islander  East pipeline were
approximately $29.5 million.

As  noted,  KeySpan  also  owns a 26.3%  ownership  interest  in the  Millennium
Pipeline  Company LLC, the developer of the  Millennium  Pipeline  project.  The
other partners in the Millennium  Pipeline are Columbia Gas  Transmission  Corp.
("Columbia  Transmission"),  a unit of  NiSource  Incorporated  and  DTE  Energy
Company.  The Millennium Pipeline project is anticipated to have the capacity to
transport  up to 525,000  DTH of natural gas a day from  Corning to Ramapo,  New
York,  interconnecting  with the pipeline  systems of various other utilities in
New York.  The project  received a FERC  certificate  to construct,  acquire and
operate the  facilities  in 2002,  subject to certain  conditions.  On August 1,
2005, the project filed an application to amend the FERC certificate requesting,
among other  things,  authority  to phase in over time the  construction  of the
proposed  pipeline  system,  approval  of a reduction  in  capacity  and maximum
allowable operating pressure, minor route modifications, the addition of certain
facilities and the acquisition of certain facilities from Columbia Transmission.
Additionally,  in November and December  2005,  Consolidated  Edison,  KEDLI and
Columbia Transmission each entered into amended precedent agreements to purchase
capacity on the pipeline.  KEDLI has agreed to purchase 175,000 DTH per day from
the Millennium Pipeline system,  increasing to 200,000 DTH in the second year of
the pipeline being in service.  This will provide KEDLI with new,  competitively
priced  supplies  of natural gas from  Canada and other  North  American  supply
basins.  The conditions in the precedent  agreements are subject to, among other
things, the receipt of necessary regulatory  approvals and financing.  On May 3,
2006,  Millennium  filed a  further  amendment  to its  August  1,  2005  filing
requesting,  among  other  things,  that the FERC vacate  those  portions of its
certificate  not included in its August 1, 2005 filing;  that request is pending
before the FERC. On June 9, 2006, the FERC issued a favorable draft supplemental
environmental impact statement.  On July 11, 2006,  Millennium informed the FERC
that the  anticipated  in-service  date for Millennium  Phase 1 will be extended
from November 1, 2007 to November 1, 2008, or earlier,  if feasible.  On October
13, 2006, the FERC issued its Final Supplemental  Environmental Impact Statement
with respect to Millennium and its companion  applicants.  Millennium's  amended
application  and those of its companion  applicants are pending  decision by the
FERC. As of September 30, 2006,  KeySpan's investment in the Millennium Pipeline
project was $17.7 million.


                                       63
<PAGE>


In 2005, KeySpan LNG entered into a precedent agreement with BG LNG Services,  a
subsidiary  of  British  Gas,  to provide  liquefied  natural  gas  terminalling
service.  KeySpan LNG proposed to upgrade the liquefied  natural gas facility to
accept marine deliveries and to triple vaporization (or regasification) capacity
to  provide  these  services.  In June  2005,  the  FERC  denied  KeySpan  LNG's
application to expand the facility  citing  concerns that the proposed  upgraded
facility  would not meet current  federal new  construction  standards.  KeySpan
sought a  rehearing  with FERC,  and on January 20,  2006,  the FERC denied such
request, although the order provided that KeySpan LNG could file an amendment to
its original  application  addressing a revised  expansion  project  which would
differ  substantially  from that  originally  proposed by  KeySpan.  Any amended
application  would need to include a detailed analysis of the new project scope,
including  upgrades to the existing  facilities  and  alternative  plans for any
service  disruptions that may be necessary during construction of a new expanded
project. KeySpan has filed a petition for judicial review of the FERC order with
the United  States  Circuit  Court for the  District of  Columbia.  The Court is
expected to issue a decision affirming or vacating the FERC orders by the second
quarter of 2007.

In addition to the  proceeding at FERC,  KeySpan LNG also is involved in seeking
other required  regulatory  approvals and the  resolution of certain  litigation
regarding  such  approvals.  In  February  2005,  KeySpan LNG filed an action in
Federal District Court in Rhode Island seeking a declaratory judgment that it is
not  required to obtain a "Category B Assent" from the State of Rhode Island and
an injunction  preventing the Rhode Island Coastal Resources  Management Council
("CRMC") from enforcing the Category B assent  requirements.  In March 2005, the
Rhode Island Attorney General answered the complaint and moved to substitute the
State of Rhode  Island  as the  defendant  and  filed a  counterclaim  seeking a
declaratory  judgment that the expansion requires a Category B Assent. In April,
the parties filed cross motions for summary  judgment with respect to all issues
presented to the Court.  On April 14, 2005,  the Attorney  General also filed on
behalf  of the State a  complaint  against  KeySpan  LNG in Rhode  Island  State
Superior  Court  raising  substantially  the same  issues as the  federal  court
action.  KeySpan LNG removed that action to federal  court and moved for summary
judgment.  The  Attorney  General  subsequently  withdrew  both  the  motion  to
substitute defendants and the counterclaim. Although the Court had indicated its
intention  to issue a decision in the pending  cases by August  2005,  the Court
subsequently stayed the litigation pending resolution of the FERC appeal process
discussed  above.  As of September 30, 2006,  our investment in this project was
$16.8 million,  a portion of which may be subject to  reimbursement  from BG LNG
pursuant to the terms of the precedent agreement.

Allocated Costs

We are subject to the  jurisdiction of the FERC under PUHCA 2005. As part of the
regulatory  provisions of PUHCA 2005,  the FERC regulates  various  transactions
among affiliates within a holding company system. In accordance with regulations
under  PUHCA 2005 and  regulations  and  policies  of the New York State  Public
Service  Commission,  the  Massachusetts  Department of  Telecommunications  and
Energy and the New Hampshire Public Utility  Commission,  we established service
companies that provide: (i) traditional  corporate and administrative  services;
(ii) gas and electric transmission and distribution system planning,  marketing,
and gas supply  planning and  procurement;  and (iii)  engineering and surveying


                                       64
<PAGE>


services to  subsidiaries.  The  operating  income  variation  as  reflected  in
"elimination and other" is due primarily to costs residing at KeySpan's  holding
company level such as incremental  costs associated with the anticipated  merger
with National Grid plc, as well as corporate advertising expenses. Also, KeySpan
entered into  confidential  settlement  agreements with certain of its insurance
carriers for recovery of environmental  costs associated with  investigation and
remediation of gas plant sites and non-utility  sites.  KeySpan  recorded a $5.5
million  benefit in its  Consolidated  Statement  of Income for the nine  months
ended September 30, 2006 associated with these settlement agreements.

Liquidity

Cash flow from operations  increased $435.5 million, or 90%, for the nine months
ended  September 30, 2006 compared to the same period last year primarily due to
favorable  working capital  requirements and income tax payments.  The favorable
working  capital  requirements  were  primarily  driven by receipt  of  customer
payments associated with winter heating season gas sales. In addition, KeySpan's
income tax  payments  were $74.1  million  lower  during the nine  months  ended
September 30, 2006, compared to the same period last year.

At September  30, 2006,  we had cash and  temporary  cash  investments  of $40.0
million.  During the nine months  ended  September  30, 2006,  we repaid  $327.6
million of  commercial  paper and, at  September  30,  2006,  $330.0  million of
commercial paper was outstanding at a weighted-average  annualized interest rate
of 5.38%.  We had the  ability  to borrow up to an  additional  $1.2  billion at
September 30, 2006, under the terms of our credit facility.

KeySpan has two credit  facilities  which total $1.5  billion - $920 million for
five years  through  2010,  and $580 million  through  2009 - which  continue to
support KeySpan's commercial paper program for ongoing working capital needs.

The fees for the  facilities  are based on KeySpan's  current credit ratings and
are increased or decreased  based on a downgrading  or upgrading of our ratings.
The current  annual  facility  fee is 0.07% based on our credit  rating of A3 by
Moody's  Investor  Services and A by Standard & Poor's for each  facility.  Both
credit  facilities allow for KeySpan to borrow using several  different types of
loans;  specifically,  Eurodollar  loans, ABR loans, or competitively bid loans.
Eurodollar  loans are based on the Eurodollar rate plus a margin that is tied to
our applicable  credit  ratings.  ABR loans are based on the higher of the Prime
Rate,  the base CD rate plus 1%, or the Federal Funds  Effective Rate plus 0.5%.
Competitive  bid loans are based on bid results  requested  by KeySpan  from the
lenders.  We do not anticipate  borrowing against these facilities;  however, if
the credit rating on our commercial paper program were to be downgraded,  it may
be necessary to do so.

The facilities  contain certain  affirmative and negative  operating  covenants,
including  restrictions on KeySpan's  ability to mortgage,  pledge,  encumber or
otherwise subject its utility property to any lien, as well as certain financial
covenants  that  require us to,  among  other  things,  maintain a  consolidated
indebtedness to consolidated  capitalization ratio of no more than 65% as of the


                                       65
<PAGE>


last day of any fiscal quarter. Violation of these covenants could result in the
termination  of the facilities  and the required  repayment of amounts  borrowed
thereunder,  as well as possible cross defaults under other debt agreements.  At
September  30,  2006,  KeySpan's  consolidated  indebtedness  was  48.3%  of its
consolidated capitalization and KeySpan was in compliance with all covenants.

Subject to certain conditions set forth in the credit facility,  KeySpan has the
right, at any time, to increase the commitments  under the $920 million facility
up to an additional $300 million. In addition,  KeySpan has the right to request
that the termination date be extended for an additional period of 365 days prior
to each  anniversary  of the  closing  date.  This  extension  option,  however,
requires the approval of lenders holding more than 50% of the total  commitments
to such  extension  request.  Under the  agreements,  KeySpan has the ability to
replace  non-consenting  lenders  with  other  pre-approved  banks or  financial
institutions.  Upon  effectiveness  of PUHCA  2005,  KeySpan's  ability to issue
commercial  paper was no longer  limited  by the SEC.  Accordingly,  subject  to
compliance with the foregoing conditions,  KeySpan is currently able to issue up
to $1.5 billion of commercial paper.

A substantial  portion of consolidated  revenues are derived from the operations
of businesses within the Electric  Services segment,  that are largely dependent
upon two large customers - LIPA and the NYISO.  Accordingly,  our cash flows are
dependent upon the timely payment of amounts owed to us by these counterparties.
(See Note 10. to the  Consolidated  Financial  Statements "2006 LIPA Settlement"
for  information  regarding  the  recent  settlement  between  KeySpan  and LIPA
regarding the current contractual agreements.)

We  satisfy  our  seasonal  working  capital   requirements   primarily  through
internally generated funds and the issuance of commercial paper. We believe that
these  sources of funds are  sufficient  to meet our  seasonal  working  capital
needs.

Capital Expenditures and Financing

Construction Expenditures

The table below sets forth our  construction  expenditures by operating  segment
for the periods indicated:


-------------------------------------------------------------------------
                                          Nine Months Ended September 30,
(In Millions of Dollars)                     2006                  2005
-------------------------------------------------------------------------
Gas Distribution                           $ 288.6               $ 270.1
Electric Services                             58.3                  72.8
Energy Investments                             5.0                  17.8
Energy Services and other                     25.7                  11.4
-------------------------------------------------------------------------
                                           $ 377.6               $ 372.1
-------------------------------------------------------------------------


                                       66
<PAGE>


Construction  expenditures related to the Gas Distribution segment are primarily
for  the  renewal,   replacement  and  expansion  of  the  distribution  system.
Construction  expenditures  for the Electric  Services  segment reflect costs to
maintain our generating facilities. The increase in capital expenditures for the
nine months ended  September  30, 2006  compared to the same period last year of
$5.5 million reflects an increase in the Gas Distribution  segment due, in part,
to the  timing of capital  main and  service  work,  as well as to  upgrades  to
KeySpan's  New  York LNG  facility.  In  total,  KeySpan  anticipates  incurring
approximately  the  same  amount  of  construction  expenditures  in  2006 as it
incurred in 2005.

Financing

KeySpan did not engage in any  financing  activities in the first nine months of
2006, other than commercial paper repayments as noted earlier.  However, KeySpan
anticipates   issuing,   subject  to   execution   of   definitive   agreements,
approximately  $400 million Senior  Unsecured  Notes at KEDNY and  approximately
$100  million  Senior  Unsecured  Notes at KEDLI in the fourth  quarter of 2006,
pursuant  to a private  placement  that is exempt  from  registration  under the
Securities  Act of 1933.  The Notes were priced on October 26, 2006 at 5.55% and
are anticipated to be issued with ten year maturities. The net proceeds from the
issuance  of the Notes  will be used by KEDNY and  KEDLI to  refinance  existing
intercompany indebtedness and/or for general working capital purposes.

The following  table  represents  the ratings of our long-term debt at September
30, 2006. In 2004 Standard & Poor's  reaffirmed its ratings on KeySpan's and its
subsidiaries' long-term debt and removed its negative outlook.  Further in 2005,
Fitch Ratings revised its ratings on KeySpan's and its  subsidiaries'  long-term
debt to positive  outlook.  Moody's  Investor  Services,  however,  continues to
maintain  its  negative  outlook  ratings  on  KeySpan's  and its  subsidiaries'
long-term debt.

-------------------------------------------------------------------------------
                         Moody's Investor        Standard
                             Services            & Poor's       FitchRatings
-------------------------------------------------------------------------------
KeySpan Corporation             A3                   A               A-
KEDNY                           N/A                  A+               A+
KEDLI                           A2                   A+              A-
Boston Gas                      A2                   A              N/A
Colonial Gas                    A2                   A+             N/A
KeySpan Generation              A3                   A              N/A
-------------------------------------------------------------------------------


Off-Balance Sheet Arrangements

Guarantees

KeySpan had a number of financial  guarantees with its subsidiaries at September
30, 2006. KeySpan has fully and unconditionally  guaranteed: (i) $525 million of
medium-term notes issued by KEDLI;  (ii) the obligations of KeySpan  Ravenswood,
LLC, which is the lessee under the $425 million Master Lease associated with the
Ravenswood  Facility  and the  lessee  under  the  $385  million  sale/leaseback
transaction for the Ravenswood  Expansion including future decommission costs of
$19 million;  and (iii) the payment  obligations of our subsidiaries  related to
$128 million of  tax-exempt  bonds issued  through the Nassau County and Suffolk


                                       67
<PAGE>


County   Industrial   Development   Authorities  for  the  construction  of  two
electric-generation  peaking  facilities on Long Island.  The medium-term notes,
the Master Lease and the  tax-exempt  bonds are  reflected  on the  Consolidated
Balance Sheet; the sale/leaseback obligation is not recorded on the Consolidated
Balance  Sheet.  Further,  KeySpan has  guaranteed:  (i) up to $71.4  million of
surety bonds  associated  with certain  construction  projects  currently  being
performed by former subsidiaries; (ii) certain supply contracts, margin accounts
and purchase  orders for certain  subsidiaries  in an aggregate  amount of $77.0
million;  and (iii)  $80.3  million  of  subsidiary  letters  of  credit.  These
guarantees  are  not  recorded  on the  Consolidated  Balance  Sheet.  KeySpan's
guarantees  on  certain  performance  bonds  relating  to  current  construction
projects of the  discontinued  mechanical  contracting  companies will remain in
place  throughout  the  construction  period  for these  projects.  KeySpan  has
received an indemnity bond issued by a third party to offset potential  exposure
related to a significant portion of the continuing  guarantee.  At this time, we
have no reason to believe  that our  subsidiaries  or former  subsidiaries  will
default on their current obligations.  However, we cannot predict when or if any
defaults may take place or the impact such defaults may have on our consolidated
results of  operations,  financial  condition or cash flows.  (See Note 6 to the
Consolidated Financial Statements,  "Financial Guarantees and Contingencies" for
additional information regarding KeySpan's guarantees.)

Contractual Obligations

KeySpan has certain contractual obligations related to its outstanding long-term
debt,  outstanding  credit facility  borrowings,  outstanding  commercial  paper
borrowings,  operating and capital  leases,  and demand charges  associated with
certain  commodity  purchases.  These  obligations  have remained  substantially
unchanged  since December 31, 2005.  (For  additional  details  regarding  these
obligations see KeySpan's Annual Report on Form 10-K for the year ended December
31, 2005, Item 7 Management's Discussion and Analysis of Financial Condition and
Results  of  Operations,  as  well  as  Note  6  "Long-Term  Debt"  and  Note  7
"Contractual  Obligations,  Financial  Guarantees  and  Contingencies"  to those
Consolidated Financial Statements.)

Discussions of Critical Accounting Policies and Assumptions

In preparing our financial  statements,  the  application of certain  accounting
policies  requires   difficult,   subjective  and/or  complex   judgments.   The
circumstances  that make these judgments  difficult,  subjective  and/or complex
have to do with the need to make estimates  about the impact of matters that are
inherently  uncertain.  Actual effects on our financial  position and results of
operations  may vary  significantly  from expected  results if the judgments and
assumptions underlying the estimates prove to be inaccurate.

Below is a discussion of KeySpan's critical  accounting policies and assumptions
at September  30, 2006.  For a more detailed  discussion  of these  policies and
assumptions see KeySpan's Annual Report on Form 10-K for the year ended December
31, 2005, Item 7.  Management's  Discussion and Analysis of Financial  Condition
and Results of  Operations  "Discussion  of  Critical  Accounting  Policies  and
Assumptions."


                                       68
<PAGE>


Valuation of Goodwill

KeySpan records  goodwill on purchase  transactions,  representing the excess of
acquisition  cost over the fair value of net  assets  acquired.  In testing  for
goodwill impairment under Statement of Financial  Accounting  Standards ("SFAS")
142 "Goodwill and Other Intangible Assets,"  significant reliance is placed upon
a  number  of  estimates   regarding  future   performance  that  require  broad
assumptions and significant  judgment by management.  A change in the fair value
of our  investments  could cause a significant  change in the carrying  value of
goodwill.  The assumptions used to measure the fair value of our investments are
the  same  as  those  used  by  us  to  prepare  annual  operating  segment  and
consolidated  earnings and cash flow forecasts.  In addition,  these assumptions
are used to set annual budgetary guidelines.  At September 30, 2006, KeySpan has
$1.7 billion of recorded  goodwill and has concluded  that the fair value of the
business units that have recorded goodwill exceed their carrying value.

Accounting for the Effects of Rate Regulation on Gas Distribution Operations

The financial  statements of the Gas Distribution segment reflect the ratemaking
policies and orders of the New York Public Service Commission ("NYPSC"), the New
Hampshire  Public  Utilities   Commission   ("NHPUC"),   and  the  Massachusetts
Department of Telecommunications and Energy ("MADTE").

Four of our six regulated gas utilities  (KEDNY,  KEDLI,  Boston Gas Company and
EnergyNorth  Natural  Gas,  Inc.)  are  subject  to the  provisions  of SFAS 71,
"Accounting  for the Effects of Certain  Types of  Regulation."  This  statement
recognizes the actions of regulators,  through the ratemaking process, to create
future economic benefits and obligations affecting rate-regulated companies.

In  separate  orders  issued by the MADTE  relating  to the  Eastern  Enterprise
acquisition  in 2000,  the base rates  charged by Colonial Gas Company and Essex
Gas  Company  have been  frozen at their  current  levels for a ten-year  period
ending  2009.  Due to the length of these base rate  freezes,  the  Colonial and
Essex Gas Companies had previously discontinued the application of SFAS 71.

As is further  discussed  under the caption  "Regulation  and Rate Matters," the
rate plans previously in effect for KEDNY and KEDLI have expired.  The continued
application  of SFAS 71 to  record  the  activities  of  these  subsidiaries  is
contingent  upon the actions of regulators  with regard to future rate plans. As
part of its  application for approval of the KeySpan / National Grid plc merger,
KeySpan  has filed  proposed  rate plans for KEDNY and KEDLI with the NYPSC.  In
addition, individual applications for a proposed annual increase in revenues for
KEDNY and KEDLI were filed.  The  ultimate  resolution  of any future rate plans
could have a significant  impact on the application of SFAS 71 to these entities
and,  accordingly,  on our financial  position,  results of operations  and cash
flows.  However,  management believes that currently available facts support the
continued  application of SFAS 71 and that all regulatory assets and liabilities
are recoverable or refundable through the regulatory environment.


                                       69
<PAGE>


Pension and Other Postretirement Benefits

KeySpan participates in both non-contributory  defined benefit pension plans, as
well   as   other   post-retirement   benefit   ("OPEB")   plans   (collectively
"postretirement plans").  KeySpan's reported costs of providing pension and OPEB
benefits  are  dependent  upon  numerous  factors  resulting  from  actual  plan
experience  and  assumptions  of  future  experience.  Pension  and  OPEB  costs
(collectively   "postretirement   costs")  are   impacted  by  actual   employee
demographics,  the level of  contributions  made to the plans,  earnings on plan
assets,  and health care cost trends.  Changes made to the  provisions  of these
plans may also impact current and future  postretirement  costs.  Postretirement
costs  may  also  be   significantly   affected  by  changes  in  key  actuarial
assumptions,  including  anticipated  rates of  return  on plan  assets  and the
discount  rates  used  in  determining  the  postretirement  costs  and  benefit
obligations. Actual results that differ from our assumptions are accumulated and
amortized over ten years.

Historically, we have funded our qualified pension plans in excess of the amount
required to satisfy minimum ERISA funding  requirements.  At September 30, 2006,
we had a  funding  credit  balance  in  excess  of  the  ERISA  minimum  funding
requirements.  Although we have presently  exceeded ERISA funding  requirements,
our pension plans, on an actuarial basis, are currently underfunded.  Therefore,
for 2006,  KeySpan  expects to  contribute a total of $120 million to its funded
and unfunded  post-retirement  plans.  Future funding  requirements  are heavily
dependent on actual return on plan assets and  prevailing  interest  rates.  (In
addition to Item 7 Management's  Discussion and Analysis of Financial  Condition
and Results of Operations  in KeySpan's  Annual Report on Form 10-K for the year
ended  December  31,  2005,  see  also  Note 4 of those  Consolidated  Financial
Statements, "Postretirement Benefits.")

Regulation and Rate Matters

Gas Matters

The rate  agreements  for KEDNY and KEDLI have  expired.  Under the terms of the
KEDNY and KEDLI rate agreements, gas distribution rates and all other provisions
will remain in effect until  changed by the NYPSC.  KeySpan has  recently  filed
proposed  rate  plans  for  KEDNY  and  KEDLI  with  the  NYPSC  as  part of its
application  for approval of the KeySpan / National Grid plc merger,  as well as
individual applications for a proposed annual increase in revenues for KEDNY and
KEDLI.  See  the  "Introduction  to  the  Notes  to the  Consolidated  Financial
Statements" for additional details on the filings.

Effective  November 1, 2003, the MADTE approved a $25.9 million increase in base
revenues for Boston Gas with an allowed return on equity of 10.2%  reflecting an
equal  balance of debt and equity.  On January 27,  2004,  the MADTE  issued its
order on Boston Gas  Company's  Motion for  Recalculation,  Reconsideration  and
Clarification  that granted an additional  $1.1 million in base revenues,  for a
total of $27 million. The MADTE also approved a Performance Based Rate Plan (the
"Plan")  for up to ten years,  as well as a true-up  mechanism  for  pension and
other postretirement benefit costs under which variations between actual pension
and other  postretirement  benefit costs and amounts used to establish rates are
deferred and collected from or refunded to customers in subsequent periods. This


                                       70
<PAGE>


true-up mechanism allows for carrying charges on deferred assets and liabilities
at Boston Gas's weighted-average cost of capital. On October 31, 2006, the MADTE
approved a base rate increase of $8.6 million  under the Plan.  In addition,  an
increase  of $2.7  million  in the  local  distribution  adjustment  clause  was
approved to recover  pension and other  postretirement  costs subject to further
review by the MADTE.

In connection with the Eastern Enterprises  acquisition of Colonial Gas in 1999,
the MADTE  approved a merger and rate plan that resulted in a ten year freeze of
base rates to  Colonial  Gas's firm  customers.  The base rate freeze is subject
only to certain  exogenous  factors,  such as  changes  in tax laws,  accounting
changes, or regulatory,  judicial,  or legislative changes. Due to the length of
the base rate freeze,  Colonial Gas  discontinued  its  application  of SFAS 71.
Essex Gas is also under a ten-year  base rate  freeze and has also  discontinued
its application of SFAS 71.  EnergyNorth base rates continue as set by the NHPUC
in 1993.

In  December  2005,  Boston Gas  received a MADTE  order  permitting  regulatory
recovery  of the 2004  gas  cost  component  of bad  debt  write-offs.  This was
approved for full recovery as an exogenous cost  effective  November 1, 2005. In
addition,  effective  January 1, 2006, Boston Gas was permitted to fully recover
the gas cost component of bad debt write-offs through its cost-of-gas adjustment
clause  rather than filing for  recovery as an  exogenous  cost.  On October 31,
2006,  the MADTE granted Boston Gas recovery of $12 million of the 2005 gas cost
component of bad debt write-offs from Boston Gas ratepayers  beginning  November
1, 2006. This amount will also be recovered  through the cost-of-gas  adjustment
clause.

For an additional  discussion of our current gas  distribution  rate agreements,
see KeySpan's  Annual Report on Form 10-K for the year ended  December 31, 2005,
Item 7 Management's  Discussion and Analysis of Financial  Condition and Results
of Operations "Regulation and Rate Matters."

Electric Matters

KeySpan sells to LIPA all of the capacity and, to the extent  requested,  energy
conversion  services  from our  existing  Long  Island  based oil and  gas-fired
generating  plants.  Sales of capacity and energy  conversion  services are made
under rates approved by the FERC in accordance with the PSA entered into between
KeySpan and LIPA in 1998.  The original FERC approved  rates,  which had been in
effect since May 1998, expired on December 31, 2003. On October 1, 2004 the FERC
approved a settlement  reached between KeySpan and LIPA to reset rates effective
January 1, 2004.  Under the new  agreement,  KeySpan's  rates  reflect a cost of
equity of 9.5% with no revenue  increase  in the first year.  The FERC  approved
updated  operating and maintenance  expense levels and recovery of certain other
costs as agreed to by the parties.

As noted  earlier,  on February 1, 2006,  KeySpan and LIPA  entered  into (i) an
amended  and  restated  Management  Services  Agreement;  (ii) a new  Option and
Purchase and Sale Agreement, to replace the Generation Purchase Rights Agreement
as  amended;  and (iii) a  Settlement  Agreement  resolving  outstanding  issues
between  the  parties  regarding  the  1998  LIPA  Agreements.  (For  a  further
discussion  on the LIPA  agreements  see Note 10 to the  Consolidated  Financial
Statements  "2006 LIPA  Settlement," as well as KeySpan's  Annual Report on Form
10-K for the year ended December 31, 2005,  Item 7  Management's  Discussion and
Analysis of Financial  Condition and Results of Operations  "Electric Services -
LIPA Agreements.")


                                       71
<PAGE>


The Energy  Policy Act of 2005 and the Public  Utility  Holding  Company Acts of
1935 and 2005

In August 2005,  the Energy Policy Act of 2005 (the "Energy Act") was enacted by
Congress and signed into law by the  President.  The Energy Act is a broad based
energy bill that places an increased  emphasis on the  production  of energy and
promotes the development of new technologies  and alternative  energy sources by
providing  tax  credits to  companies  that  produce  natural  gas,  oil,  coal,
electricity  and  renewable  energy.  For KeySpan,  one of the more  significant
provisions of the Energy Act was the repeal of PUHCA 1935, effective February 8,
2006, and the transfer of certain holding company oversight from the SEC to FERC
pursuant to PUHCA 2005.

Pursuant  to PUHCA  2005,  the SEC no longer has  jurisdiction  over our holding
company  activities,   other  than  those  traditionally   associated  with  the
registration and issuance of our securities  under the federal  securities laws.
FERC now has  jurisdiction  over  certain  of our  holding  company  activities,
including (i) regulating  certain  transactions  among our affiliates within our
holding company system; (ii) governing the issuance, acquisition and disposition
of  securities  and assets by certain of our public  utility  subsidiaries;  and
(iii) approving certain utility mergers and acquisitions.

Moreover,  our affiliate transactions also remain subject to certain regulations
of the NYPSC, MADTE and NHPUC, in addition to FERC.

Environmental Matters

KeySpan  is  subject to  various  federal,  state and local laws and  regulatory
programs related to the  environment.  Through various rate orders issued by the
NYPSC,  MADTE and NHPUC,  costs related to MGP environmental  cleanup activities
are recovered in rates charged to gas  distribution  customers and, as a result,
adjustments  to  these  reserve  balances  do  not  impact  earnings.   However,
environmental  cleanup activities related to the three non-utility sites are not
subject to rate recovery.

We estimate that the  remaining  cost of our MGP related  environmental  cleanup
activities,  including costs associated with the Ravenswood  Generating Station,
will be  approximately  $372.4 million and we have recorded a related  liability
for such amount.  We have also recorded an additional  $13.4 million  liability,
representing the estimated  environmental cleanup costs related to a former coal
tar processing  facility.  As of September 30, 2006, we have expended a total of
$211.8 million on environmental  investigation and remediation activities.  (See
Note 6 to the  Consolidated  Financial  Statements,  "Financial  Guarantees  and
Contingencies.")

Market and Credit Risk Management Activities

Market Risk: KeySpan is exposed to market risk arising from potential changes in
one or more market variables,  such as energy commodity prices,  interest rates,
volumetric risk due to weather or other variables. Such risk includes any or all
changes  in value  whether  caused  by  commodity  positions,  asset  ownership,
business or contractual  obligations,  debt covenants,  exposure  concentration,


                                       72
<PAGE>


currency,  weather, and other factors regardless of accounting method. We manage
our  exposure  to  changes  in  market  prices  using  various  risk  management
techniques  for  non-trading  purposes,  including  hedging  through  the use of
derivative  instruments,  both exchange-traded and  over-the-counter  contracts,
purchase of insurance and execution of other contractual arrangements.

KeySpan  is  exposed  to  price  risk  due to  investments  in  equity  and debt
securities held to fund benefit  payments for various employee pension and other
postretirement  benefit plans. To the extent that the value of investments  held
change,  or long-term  interest  rates  change,  the effect will be reflected in
KeySpan's  recognition  of periodic cost of such employee  benefit plans and the
determination of contributions to the employee benefit plans.

Credit Risk:  KeySpan is exposed to credit risk arising from the potential  that
our counterparties fail to perform on their contractual obligations.  Our credit
exposures  are  created  primarily  through  the sale of gas and  transportation
services  to  residential,   commercial,  electric  generation,  and  industrial
customers and the provision of retail access  services to gas marketers,  by our
regulated gas  businesses;  the sale of commodities and services to LIPA and the
NYISO; the sale of power and services to our retail customers by our unregulated
energy  service  businesses;  entering  into  financial  and  energy  derivative
contracts with energy marketing  companies and financial  institutions;  and the
sale of gas, oil and  processing  services to energy  marketing  and oil and gas
production companies.

We  have  regional   concentration  of  credit  risk  due  to  receivables  from
residential,  commercial and industrial customers in New York, New Hampshire and
Massachusetts,  although this credit risk is spread over a  diversified  base of
residential, commercial and industrial customers. Customers' payment records are
monitored and action is taken,  when  appropriate and in accordance with various
regulatory requirements.

We also have credit risk from LIPA, our largest customer,  and from other energy
and financial services  companies.  Counterparty  credit risk may impact overall
exposure to credit risk in that our  counterparties may be similarly impacted by
changes in economic, regulatory or other considerations. We actively monitor the
credit  profile  of  our  wholesale   counterparties  in  derivative  and  other
contractual  arrangements,  and manage  our level of  exposure  accordingly.  In
instances where counterparties'  credit quality has declined, or credit exposure
exceeds  certain  levels,  we may limit our credit  exposure by restricting  new
transactions with the counterparty,  requiring  additional  collateral or credit
support and negotiating the early termination of certain agreements.

Regulatory Issues and Competitive  Environment:  We are subject to various other
risk  exposures  and   uncertainties   associated  with  our  gas  and  electric
operations.  The most significant  contingency involves the evolution of the gas
distribution  and electric  industries  towards more competitive and deregulated
environments.  The risks associated with KeySpan's gas  distribution  activities
have  not  changed   substantially  since  December  31,  2005.  For  additional
information  regarding these risks see KeySpan's  Annual Report on Form 10-K for
the year ended December 31, 2005, Item 7 Management's Discussion and Analysis of
Financial Condition and Results of Operations "Market and Credit Risk Management
Activities."  The following is an update to certain  matters  related  KeySpan's
electric operations.


                                       73
<PAGE>


The Ravenswood Generating Station and KeySpan's New York City Operations

On February 9, 2006,  the NYISO  Operating  Committee  increased  the  "in-City"
locational  capacity  requirements  (LCR) from 80% to 83%  beginning in May 2006
through the period  ending April 2007,  based in part on the  statewide  reserve
margin of 118% set by the New York State Reliability Council.  However, in early
March 2006, the NYISO discovered data inconsistencies in the input files used in
the Multi Area  Reliability  Simulation  (MARS) computer program that is used to
determine  the  statewide  installed  reserve  margin  (Statewide  IRM)  and the
corresponding  minimum LCRs for New York City and Long Island.  Revisions to the
data,  and  rerunning  the  MARS  computer  program  resulted  in a shift in the
relationship  between the Statewide IRM and the minimum LCRs. On March 20, 2006,
the New York State Reliability Council voted to retain the Statewide IRM of 118%
and reported the  corresponding  revised minimum LCRs to the NYISO. On March 28,
2006, the NYISO Operating Committee approved revised minimum LCRs of 80% and 99%
for New York City and Long Island, respectively.  For New York City, this action
effectively  returned the  locational  requirement to the minimum level used for
the last six years (80%) and negated the increase to 83%.

KeySpan  appealed  this  decision to the NYISO Board of  Directors  claiming the
revised  study was hastily  prepared and that there were  historic  factors that
justified  using  83% as the New York City LCR.  The  NYISO  Board of  Directors
denied KeySpan's appeal on April 3, 2006 and the "in-City"  locational  capacity
requirement  beginning  May 1, 2006 through the period  ending April 30, 2007 is
currently 80%.

In addition,  for information concerning the pending in-City capacity mitigation
proposal, see the discussion in "Item 2 Management's  Discussion and Analysis of
Financial Condition and Results of Operations - Electric Services."

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Financially-Settled  Commodity Derivative Instruments - Hedging Activities: From
time  to  time,  KeySpan   subsidiaries  have  utilized   derivative   financial
instruments,  such as futures, options and swaps, for the purpose of hedging the
cash flow variability  associated with changes in commodity  prices.  KeySpan is
exposed to commodity  price risk primarily  with regard to its gas  distribution
operations,   gas  exploration  and  production   activities  and  its  electric
generating facilities.  Our gas distribution operations utilize over-the-counter
("OTC")  natural gas and fuel oil swaps to hedge the  cash-flow  variability  of
specified   portions  of  gas  purchases  and  sales   associated  with  certain
large-volume  customers when  economically  appropriate to do so.  Seneca-Upshur
utilizes OTC natural gas swaps to hedge cash flow  variability  associated  with
forecasted  sales  of  natural  gas.  The  Ravenswood  Generating  Station  uses
derivative financial  instruments to hedge the cash flow variability  associated
with the  purchase  of a portion  of natural  gas and oil that will be  consumed
during the generation of  electricity.  The Ravenswood  Generating  Station also
hedges the cash flow  variability  associated  with a portion of electric energy
sales using OTC electricity swaps.

KeySpan uses market quoted forward prices to value OTC swap contracts.


                                       74
<PAGE>


Financially-Settled  Commodity  Derivative  Instruments  that Do Not Qualify for
Hedge  Accounting:  KeySpan  subsidiaries also have employed a limited number of
financial  derivatives that do not qualify for hedge accounting  treatment under
SFAS 133. We had  purchased a series of call  options on the spread  between the
price of heating  oil and the price of natural  gas to  further  complement  our
hedging strategy noted above regarding sales to certain large-volume  customers.
As of September 30, 2006,  these options,  as well as the OTC gas and oil swaps,
have  expired.  The  Ravenswood  Generating  Station has also employed a limited
number  of  financial  derivatives  that do not  qualify  for  hedge  accounting
treatment under SFAS 133 associated with the purchase of fuel oil. Additionally,
KeySpan entered into an International SWAP Dealers  Association Master Agreement
for a fixed for floating  unforced  capacity  financial swap with Morgan Stanley
Capital Group Inc., as well as a gas distribution  asset  optimization  contract
that employs derivative financial instruments.

The following  tables set forth selected  financial data  associated  with these
derivative financial  instruments noted above that were outstanding at September
30, 2006.

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------
                                    Year of   Volumes   Fixed          Current       Fair Value
       Type of Contract            Maturity     mmcf    Price $        Price $     (In $ Millions)
-------------------------------------------------------------------------------------------------
              Gas
<S>                                 <C>       <C>    <C>             <C>                 <C>
Swaps/Futures - Long Natural Gas     2006      4,101  4.82 - 11.94    4.20 - 7.35        (11.7)
                                     2007      3,651  9.82 - 11.94    7.20 - 8.76         (5.1)
                                     2008        360          9.82    7.26 - 9.14         (0.3)

OTC Swaps - Short Natural Gas        2006        683  6.17 - 10.69    4.20 - 7.35          2.5
                                     2007      2,622  5.86 - 11.54    7.20 - 8.76         (4.6)
                                     2008      1,596  6.77 - 6.85     7.26 - 9.14         (2.7)
                                     2009      1,300  7.60 - 10.90    7.02 - 8.89          1.0
-------------------------------------------------------------------------------------------------
                                              14,313                                     (20.9)
-------------------------------------------------------------------------------------------------
</TABLE>

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
                                            Year of         Volumes       Fixed                Current                  Fair Value
    Type of Contract                        Maturity        Barrels       Price $               Price $                (In Millions)
------------------------------------------------------------------------------------------------------------------------------------
            Oil
<S>                                           <C>           <C>        <C>                  <C>                              <C>
Swaps - Long Fuel Oil                          2006           51,755    57.90 - 67.60            46.80                       (0.8)
                                               2007          251,812    59.20 - 69.08        53.69 - 58.18                   (2.7)
                                               2008           34,544        67.60                58.18                       (0.3)
------------------------------------------------------------------------------------------------------------------------------------
                                                             338,111                                                         (3.8)
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------------
                                 Year of                            Fixed Margin/             Current               Fair Value
    Type of Contract             Maturity           MWh                Price $                 Price $            (In $ Millions)
---------------------------------------------------------------------------------------------------------------------------------
       Electricity
<S>                                <C>           <C>               <C>                     <C>                            <C>
Swaps - Energy                      2006          471,800           59.90 - 123.00          44.75 - 88.25                  11.6
                                    2007          144,800           97.60 - 150.50          78.92 - 108.69                  9.4
---------------------------------------------------------------------------------------------------------------------------------
                                                  616,600                                                                  21.0
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>



                                       75
<PAGE>


-----------------------------------------------------------------
                                                       2006
Change in Fair Value of Derivative Instruments    (In $ Millions)
-----------------------------------------------------------------
Fair value of contracts at January 1,                      (18.1)
Net (gains) on contracts realized                          (67.1)
Increase in fair value of all open contracts                81.5
-----------------------------------------------------------------
Fair value of contracts outstanding at September 30,        (3.7)
-----------------------------------------------------------------


------------------------------------------------------------------------------
(In Millions of Dollars)
------------------------------------------------------------------------------
                                      Fair Value of Contracts
------------------------------------------------------------------------------
                                      Mature Within                    Total
Sources of Fair Value                   12 Months      Thereafter   Fair Value
------------------------------------------------------------------------------
Prices actively quoted                     $ (18.6)      $ (2.2)      $ (20.8)
Local published indicies                      17.1            -          17.1
------------------------------------------------------------------------------
                                           $  (1.5)      $ (2.2)      $  (3.7)
------------------------------------------------------------------------------

We measure the commodity risk of our derivative hedging  instruments  (indicated
in the  above  table)  using a  sensitivity  analysis.  Based  on a  sensitivity
analysis as of September 30, 2006 a 10%  increase/decrease in natural gas prices
would decrease/increase the value of derivative instruments maturing in one year
by $5.1 million.

Firm Gas Sales Derivative  Instruments - Regulated Utilities:  We use derivative
financial  instruments to reduce the cash flow  variability  associated with the
purchase price for a portion of future natural gas purchases associated with our
Gas Distribution operations.  The accounting for these derivative instruments is
subject to SFAS 71 "Accounting  for the Effects of Certain Types of Regulation."
Therefore,  changes in the fair value of these derivatives have been recorded as
a regulatory asset or regulatory  liability on the  Consolidated  Balance Sheet.
Gains or losses on the settlement of these contracts are initially  deferred and
then refunded to or collected from our firm gas sales customers  consistent with
regulatory requirements.

The following  table sets forth selected  financial data  associated  with these
derivative financial instruments that were outstanding at September 30, 2006.

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------
                      Year of     Volumes     Fixed         Current          Fair Value
Type of Contract      Maturity      mmcf      Price ($)      Price ($)    (In $ Millions)
-----------------------------------------------------------------------------------------
<S>                     <C>      <C>      <C>             <C>                  <C>
Swaps                    2006      29,636  6.05 - 12.29    5.62 - 7.35           (94.2)
                         2007      66,936  6.81 - 12.29    7.20 - 8.76          (159.4)
                         2008      11,985  7.16 - 11.64    7.26 - 9.14           (23.2)
-----------------------------------------------------------------------------------------
                                  108,557                                       (276.8)
-----------------------------------------------------------------------------------------
</TABLE>

See Note 4 to the  Consolidated  Financial  Statements  "Hedging and  Derivative
Financial   Instruments"  for  a  further  description  of  all  our  derivative
instruments.


                                       76
<PAGE>


Item 4. Controls and Procedures

We maintain  disclosure  controls and  procedures (as defined under Exchange Act
Rule  13a-15(e)  and  15d-15(e))  that are  designed to ensure that  information
required  to be  disclosed  by us in the  reports  we file or  submit  under the
Exchange Act is recorded,  processed,  summarized  and reported  within the time
periods specified in the Securities and Exchange  Commission's  rules and forms,
and  that  such   information  is  accumulated  and  communicated  to  KeySpan's
management,  including our Chief Executive Officer and Chief Financial  Officer,
as appropriate,  to allow timely decisions  regarding required  disclosure.  Any
control  system,  no matter how well  designed  and  operated,  can provide only
reasonable   assurance  of  achieving  the  desired  control   objectives.   Our
management,  under  the  supervision  and with the  participation  of our  Chief
Executive Officer and Chief Financial  Officer,  has evaluated the effectiveness
of our disclosure  controls and procedures as of September 30, 2006.  Based upon
that  evaluation,  our  Chief  Executive  Officer  and Chief  Financial  Officer
concluded  that  the  design  and  operation  of  our  disclosure  controls  and
procedures  were  effective at the reasonable  assurance  level in alerting them
timely to material information required to be included in KeySpan's periodic SEC
reports.

Furthermore,  there  has been no  change  in  KeySpan's  internal  control  over
financial  reporting that occurred during  KeySpan's last fiscal quarter,  which
has materially affected, or is reasonably likely to materially affect, KeySpan's
internal control over financial reporting.

PART II.  OTHER INFORMATION
---------------------------

Item 1. Legal Proceedings

See Note 6 to the Consolidated  Financial Statements  "Financial  Guarantees and
Contingencies".

Item 1A. Risk Factors

Certain  statements  contained in this Quarterly  Report on Form 10-Q concerning
expectations,  beliefs, plans, objectives,  goals, strategies,  future events or
performance and underlying  assumptions and other statements that are other than
statements of historical  facts,  are  "forward-looking  statements"  within the
meaning of Section  21E of the  Securities  Exchange  Act of 1934,  as  amended.
Without  limiting the  foregoing,  all  statements  under the captions  "Item 2.
Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations" and "Item 3.  Quantitative and Qualitative  Disclosures About Market
Risk" relating to our future outlook,  anticipated capital expenditures,  future
cash flows and borrowings, pursuit of potential future acquisition opportunities
and sources of funding,  are forward-looking  statements.  Such  forward-looking
statements  reflect  numerous  assumptions  and  involve  a number  of risks and
uncertainties  and actual results may differ  materially from those discussed in
such statements.



                                       77
<PAGE>


Among the factors that could cause actual results to differ materially are:

-    the occurrence of any event,  change or other circumstances that could give
     rise to the  termination of the merger  agreement with National Grid plc or
     the failure of the merger to close for any reason;


-    volatility of energy prices used to generate electricity;

-    fluctuations in weather and in gas and electric prices;

-    general economic conditions, especially in the Northeast United States;

-    our  ability  to  manage  our  cost  structure   successfully  and  operate
     efficiently;

-    our ability to successfully  contract for natural gas supplies  required to
     meet the needs of our customers;

-    implementation  of  new  accounting  standards  or  changes  in  accounting
     standards or GAAP which may require adjustments to financial statements;

-    inflationary trends and interest rates;

-    the ability of KeySpan to identify and make complementary acquisitions,  as
     well as the successful integration of such acquisitions;

-    available sources and cost of fuel;

-    creditworthiness of counterparties to derivative  instruments and commodity
     contracts;

-    the resolution of certain disputes with LIPA concerning each party's rights
     and obligations under various agreements;

-    retention of key personnel;

-    federal and state regulatory  initiatives that threaten cost and investment
     recovery  and place limits on the type and manner in which we invest in new
     businesses and conduct operations;

-    the  impact  of  federal,  state  and local  utility  regulatory  policies,
     legislation and orders on our regulated and unregulated businesses;

-    potential  write-down  of our  investment  in natural gas  properties  when
     natural  gas  prices  are  depressed  or if we  have  significant  downward
     revisions in our estimated proved gas reserves;

-    competition facing our unregulated Energy Services businesses;

-    the degree to which we develop  unregulated  business ventures,  as well as
     federal,  state and local  regulatory  policies  affecting  our  ability to
     retain and operate such business ventures profitably;


                                       78
<PAGE>


-    a  change  in the  fair  value  of  our  investments  that  could  cause  a
     significant  change  in the  carrying  value  of  such  investments  or the
     carrying value of related goodwill;

-    timely  receipts of payments  from our two largest  customers  LIPA and the
     NYISO;

-    changes in the UCAP pricing structure;

-    timing of approval of the 2006 LIPA Agreements and;

-    other risks detailed from time to time in other reports and other documents
     filed by KeySpan with the SEC.

For any of these  statements,  KeySpan  claims the protection of the safe harbor
for forward-looking  information  contained in the Private Securities Litigation
Reform Act of 1995,  as  amended.  For  additional  discussion  on these  risks,
uncertainties and assumptions, see "Item 2. Management's Discussion and Analysis
of Financial  Condition and Results of Operations" and "Item 3. Quantitative and
Qualitative Disclosures About Market Risk."

Item 2. Unregistered Sale of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Submission of Matters to a Vote of Security Holders

(a)  Date of Meeting

     The Annual  Meeting of  Stockholders  of  KeySpan  Corporation  was held on
August 17, 2006.

(b) and (c) Name of Each Director Elected at the Meeting and Description of Each
Matter Voted on and Number of Votes Cast





                                       79
<PAGE>


<TABLE>
<CAPTION>
                                                                                   For       Against     Withheld
                                                                             --------------- --------- --------------
<S>                                                                            <C>                 <C>    <C>
1.    The proposal to elect directors to serve until the next meeting of
      stockholders or until their successors are elected.
              Robert B. Catell                                                  141,113,738         --      8,301,560
              Andrea S. Christensen                                             142,856,453         --      6,558,845
              Robert J. Fani                                                    143,069,405         --      6,345,893
              Alan H. Fishman                                                   133,692,168         --     15,723,130
              James R. Jones                                                    142,516,931         --      6,898,367
              James L. Larocca                                                  142,674,326         --      6,740,972
              Gloria C. Larson                                                  142,588,762         --      6,826,536
              Stephen W. McKessy                                                142,533,304         --      6,881,994
              Edward D. Miller                                                  142,520,380         --      6,894,918
              Vikki L. Pryor                                                    142,790,782                 6,624,516
</TABLE>


<TABLE>
<CAPTION>
                                                            For           Against       Abstain        Non-Vote
                                                       -----------------------------  ------------- ----------------
<S>                                                    <C>               <C>            <C>          <C>
2.   The proposal to ratify the appointment of
     Deloitte & Touche LLP as independent registered
     public accounting firm as auditors of the Company
     for the fiscal year ending December 31, 2006.      143,871,717       3,332,653      2,210,928         --



                                                            For           Against       Abstain        Non-Vote
                                                       -----------------------------  ------------- ----------------
3.   The proposal to adopt the Agreement and Plan of
     Merger dated February 25, 2006, among National
     Grid plc, National Grid US8 Inc. and KeySpan       109,184,628       7,442,564      2,160,682      30,627,424
     Corporation.



                                                            For           Against       Abstain        Non-Vote

                                                     -------------------------------  ------------- ----------------
4.   The shareholder proposal to adopt simple            65,114,814      48,536,898      5,136,162      30,627,424
     majority vote.
</TABLE>


Item 5. Other Information

None

Item 6. Exhibits

31.1*     Certification of the Chairman and Chief Executive  Officer pursuant to
          Section 302 of the Sarbanes-Oxley Act of 2002

31.2*     Certification  of the Executive  Vice  President  and Chief  Financial
          Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1*     Certification of the Chairman and Chief Executive  Officer pursuant to
          Section 906 of the Sarbanes-Oxley Act of 2002

32.2*     Certification  of the Executive  Vice  President  and Chief  Financial
          Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

----------------------
*Filed Herewith




                                       80
<PAGE>


                                   SIGNATURES

Pursuant  to the  requirements  of the  Securities  Exchange  Act of  1934,  the
registrant has duly caused this report to be signed on behalf of the undersigned
there unto duly authorized.



                                            KEYSPAN CORPORATION
(Registrant)
                                            By:    /s/Gerald Luterman
                                                   ------------------
                                            Name:  Gerald Luterman
                                            Title: Executive Vice President and
                                                   Chief Financial Officer




Date: November 3, 2006                      /s/ Gerald Luterman
                                            ----------------------
                                                Gerald Luterman
                                                Executive Vice President and
                                                Chief Financial Officer


Date: November 3, 2006                      /s/ Theresa A. Balog
                                            --------------------
                                                Theresa A. Balog
                                                Vice President and
                                                Chief Accounting Officer














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