**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON,D.C. 20549**

 

**FORM 10-Q**

 

| **(Mark  One)**                                                                                                                                                 |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **ý****   QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(****d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                    |
|                                                                                                                                                            |
| **For  the quarterly period ended March 31, 2003**                                                                                                              |
|                                                                                                                                                            |
| **or**                                                                                                                                                          |
|                                                                                                                                                            |
| ** ̈****   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** |   | **Registrant, State of Incorporation,  Address and Telephone Number**                           |   | **I.R.S. Employer  Identification No.** |
|-----------------------------|--------|-------------------------------------------------------------------------------------------------|--------|-----------------------------------------|
|                        |   |                                                                                            |   |                                    |
| **1-11377**                 |   | **CINERGY CORP.**                                                                               |   | **31-1385023**                          |
|                        |   | **(A  Delaware Corporation)  139 East Fourth Street  Cincinnati, Ohio 45202  (513) 421-9500**   |   |                                    |
|                        |   |                                                                                            |   |                                    |
| **1-1232**                  |   | **THE CINCINNATI GAS &  ELECTRIC COMPANY**                                                  |   | **31-0240030**                          |
|                        |   | **(An  Ohio Corporation)  139 East Fourth Street  Cincinnati, Ohio 45202  (513) 421-9500**      |   |                                    |
|                        |   |                                                                                            |   |                                    |
| **1-3543**                  |   | **PSI ENERGY, INC.**                                                                            |   | **35-0594457**                          |
|                        |   | **(An  Indiana Corporation)  1000 East Main Street  Plainfield, Indiana 46168  (513) 421-9500** |   |                                    |
|                        |   |                                                                                            |   |                                    |
| **2-7793**                  |   | **THE UNION LIGHT, HEAT AND  POWER COMPANY**                                                    |   | **31-0473080**                          |
|                        |   | **(A  Kentucky Corporation)  139 East Fourth Street  Cincinnati, Ohio 45202  (513) 421-9500**   |   |                                    |

 

----

 

Indicate by check markwhether the registrants (1) have filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrants were required tofile such reports), and (2) have been subject to such filing requirements forthe past 90 days.

Yes  ý  No  o

 

----

 

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).

Yes  ý  No  o

 

----

 

This combined Form 10-Qis separately filed by **Cinergy Corp.**,**The Cincinnati Gas & Electric Company**,**PSI Energy, Inc.**, and **The Union Light, Heat and Power Company**.  Information contained herein relating to anyindividual registrant is filed by such registrant on its own behalf.  Each registrant makes no representation asto information relating to the other registrants.

 

**TheUnion Light, Heat and Power Company** meets the conditions setforth in General Instruction H(1)(a) and (b) of Form 10-Q and is thereforefiling its company specific information with the reduced disclosure formatspecified in General Instruction H(2) of Form 10-Q.

 

----

 

As of April 30, 2003,shares of common stock outstanding for each registrant were as listed:

 
| **Registrant**                                 |   | **Description**                                 |   | **Shares**  |   |
|------------------------------------------------|--------|-------------------------------------------------|--------|-------------|--------|
|                                           |   |                                            |   |        |   |
| **Cinergy  Corp.**                             |   | Par value $.01 per  share                       |   | 176,091,329 |   |
|                                           |   |                                            |   |        |   |
| **The  Cincinnati Gas & Electric Company** |   | Par value $8.50 per  share                      |   | 89,663,086  |   |
|                                           |   |                                            |   |        |   |
| **PSI  Energy, Inc.**                          |   | Without par value,  stated value $.01 per share |   | 53,913,701  |   |
|                                           |   |                                            |   |        |   |
| **The  Union Light, Heat and Power Company**   |   | Par value $15.00 per  share                     |   | 585,333     |   |

 

 

 

2

----

**TABLE OF CONTENTS**

 
| **Item  Number**                        |                                                                                            |
|-----------------------------------------|-------------------------------------------------------------------------------------------------|
| **PART I   FINANCIAL INFORMATION** |
|                                    |                                                                                            |
| 1                                       | **Financial  Statements**                                                                       |   |
|                                    |                                                                                            | ***Cinergy  Corp.*** |   |
|                                    |                                                                                            |   | Consolidated  Statements of Income |   |
|                                    |                                                                                            |   | Consolidated Balance Sheets |   |
|                                    |                                                                                            |   | Consolidated  Statements of Changes in Common Stock Equity |   |
|                                    |                                                                                            |   | Consolidated Statements of Cash Flows |   |
|                                    |                                                                                            |   |   |
|                                    |                                                                                            | ***The  Cincinnati Gas & Electric Company*** |   |
|                                    |                                                                                            |   | Consolidated  Statements of Income and Comprehensive Income |   |
|                                    |                                                                                            |   | Consolidated  Balance Sheets |   |
|                                    |                                                                                            |   | Consolidated  Statements of Cash Flows |   |
|                                    |                                                                                            |   |   |
|                                    |                                                                                            | ***PSI  Energy, Inc.*** |   |
|                                    |                                                                                            |   | Consolidated Statements of Income  and Comprehensive Income |   |
|                                    |                                                                                            |   | Consolidated  Balance Sheets |   |
|                                    |                                                                                            |   | Consolidated  Statements of Cash Flows |   |
|                                    |                                                                                            |   |   |
|                                    |                                                                                            | ***The  Union Light, Heat and Power Company*** |   |
|                                    |                                                                                            |   | Statements of Income |   |
|                                    |                                                                                            |   | Balance Sheets |   |
|                                    |                                                                                            |   | Statements of  Cash Flows |   |
|                                    |                                                                                            |   |   |
|                                    | **Notes to Financial  Statements**                                                              |   |
|                                    |                                                                                            |   |   |
|                                    | **Cautionary  Statements Regarding Forward-Looking Information**                                |   |
|                                    |                                                                                            |   |   |
| 2                                       | **Management’s  Discussion and Analysis of Financial Condition and Results of Operations** |   |
|                                    |                                                                                            |   | Introduction |   |
|                                    |                                                                                            |   | Organization |   |
|                                    |                                                                                            |   | Liquidity and Capital  Resources |   |
|                                    |                                                                                            |   | 2003 Quarterly Results  of Operations - Historical |   |
|                                    |                                                                                            |   | Results of Operations -  Future |   |
|                                    |                                                                                            |   |   |
| 3                                       | **Quantitative  and Qualitative Disclosures About Market Risk**                                 |   |
|                                    |                                                                                            |
| 4                                       | **Controls and Procedures**                                                                     |   |
|                                    |                                                                                            |
| **PART II  OTHER INFORMATION**     |                                                                                            |
|                                    |                                                                                            |
| 1                                       | **Legal Proceedings**                                                                           |   |
|                                    |                                                                                            |
| 4                                       | **Submission  of Matters to a Vote of Security Holders**                                        |   |
|                                    |                                                                                            |
| 6                                       | **Exhibits  and Reports on Form 8-K**                                                           |   |
|                                    |                                                                                            |
|                                    | **Signatures**                                                                                  |   |
|                                    |                                                                                            |
|                                    | **Certifications**                                                                              |   |

 

 

3

----

 

**CINERGY CORP.**

**AND SUBSIDIARY COMPANIES**

 

4

----

 

**CINERGY CORP.**

**CONSOLIDATEDSTATEMENTS OF INCOME**

 
|                                                                                                  |   | **Quarter  Ended March 31**                   |        |
|-------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------|-------------|
|                                                                                                  |   | **2003**                                      |        | **2002** |   |
|                                                                                                  |   | **(in  thousands, except per share amounts)** |        |
|                                                                                                  |   | **(unaudited)**                               |        |
| **Operating Revenues **(Note 3)                                                                  |   |                                          |        |   |   |
| Electric                                                                                              |   | **$**                                         | **836,883** |   | $ | 779,376 |   |
| Gas                                                                                                   |   | **398,913**                                   |        | 190,064 |   |
| Other                                                                                                 |   | **45,986**                                    |        | 16,937 |   |
| **Total Operating Revenues**                                                                          |   | **1,281,782**                                 |        | 986,377 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Operating Expenses**                                                                                |   |                                          |        |   |   |
| Fuel  and purchased and exchanged power (Note  3)                                                     |   | **279,483**                                   |        | 229,290 |   |
| Gas  purchased (Note 3)                                                                               |   | **235,995**                                   |        | 109,880 |   |
| Operation  and maintenance                                                                            |   | **326,661**                                   |        | 262,578 |   |
| Depreciation                                                                                          |   | **106,023**                                   |        | 98,566 |   |
| Taxes  other than income taxes                                                                        |   | **77,749**                                    |        | 72,422 |   |
| **Total Operating Expenses**                                                                          |   | **1,025,911**                                 |        | 772,736 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Operating Income**                                                                                  |   | **255,871**                                   |        | 213,641 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Equity in Earnings (Losses) of Unconsolidated Subsidiaries**                                        |   | **592**                                       |        | 4,689 |   |
| **Miscellaneous - Net**                                                                               |   | **8,375**                                     |        | (1,309 | ) |
| **Interest**                                                                                          |   | **60,564**                                    |        | 61,223 |   |
| **Preferred Dividend Requirement of Subsidiary Trust**                                                |   | **5,970**                                     |        | 5,913 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Income Before Taxes**                                                                               |   | **198,304**                                   |        | 149,885 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Income Taxes**                                                                                      |   | **57,823**                                    |        | 53,777 |   |
| **Preferred Dividend Requirements of Subsidiaries**                                                   |   | **858**                                       |        | 858 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Income Before Discontinued Operations and Cumulative Effect  of a Change in Accounting Principles** |   | **139,623**                                   |        | 95,250 |   |
|                                                                                                  |   |                                          |        |   |   |
| Discontinued  operations, net of tax                                                                  |   | **—**                                    |        | 478 |   |
| Cumulative  effect of a change in accounting principles, net of tax (Note 1(j)(*viii*))               |   | **26,462**                                    |        | (10,899 | ) |
| **Net Income**                                                                                        |   | **$**                                         | **166,085** |   | $ | 84,829 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Average Common Shares Outstanding**                                                                 |   | **173,387**                                   |        | 164,295 |   |
|                                                                                                  |   |                                          |        |   |   |
| **Earnings Per Common Share**(Note 9)                                                                 |   |                                          |        |   |   |
| Income  Before Discontinued Operations and Cumulative Effect of a Change in  Accounting Principles    |   | **$**                                         | **0.81**    |   | $ | 0.58 |   |
| Discontinued  operations, net of tax                                                                  |   | **—**                                    |        | — |   |
| Cumulative  effect of a change in accounting principles, net of tax                                   |   | **0.15**                                      |        | (0.06 | ) |
| Net  Income                                                                                           |   | **$**                                         | **0.96**    |   | $ | 0.52 |   |
|                                                                                                  |   |                                          | ** **  |   | ** ** |
| **Earnings Per Common Share - Assuming Dilution**  (Note 9)                                           |   |                                          |        |   |   |
| Income  Before Discontinued Operations and Cumulative Effect of a Change in Accounting  Principles    |   | **$**                                         | **0.80**    |   | $ | 0.58 |   |
| Discontinued  operations, net of tax                                                                  |   | **—**                                    |        | — |   |
| Cumulative  effect of a change in accounting principles, net of tax                                   |   | **0.15**                                      |        | (0.06 | ) |
| Net  Income                                                                                           |   | **$**                                         | **0.95**    |   | $ | 0.52 |   |
|                                                                                                  |   |                                          | ** **  |   | ** ** |
| **Dividends Declared Per Common Share**                                                               |   | **$**                                         | **0.46**    |   | $ | 0.45 |   |

 

**Theaccompanying notes as they relate to Cinergy Corp. are an integral part ofthese consolidated financial statements.**

 

5

----

 

**CINERGY CORP.**

**CONSOLIDATEDBALANCE SHEETS**

 

**ASSETS**

 
|                                                                                                                                  |   | **March 31  2003**  |           | **December  31  2002** |   |
|---------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|----------------|------------------------|--------|
|                                                                                                                                  |   | **(in  thousands)** |           |
|                                                                                                                                  |   | **(unaudited)**     |           |
|                                                                                                                                  |   |                |           |                   |   |
| **Current Assets**                                                                                                                    |   |                |           |                   |   |
| Cash  and cash equivalents                                                                                                            |   | **$**               | **259,159**    |                   | $      | 221,083 |   |
| Restricted  deposits                                                                                                                  |   | **8,221**           |           | 8,116                  |   |
| Notes  receivable                                                                                                                     |   | **96,884**          |           | 135,873                |   |
| Accounts  receivable less accumulated provision for doubtful accounts of $12,881 at  March 31, 2003, and $16,374 at December 31, 2002 |   | **1,383,244**       |           | 1,292,410              |   |
| Materials,  supplies, and fuel (Note 1(d))                                                                                            |   | **245,061**         |           | 319,456                |   |
| Energy  risk management current assets (Note 1(c))                                                                                    |   | **439,358**         |           | 464,028                |   |
| Prepayments  and other                                                                                                                |   | **108,367**         |           | 118,208                |   |
| **Total Current Assets**                                                                                                              |   | **2,540,294**       |           | 2,559,174              |   |
|                                                                                                                                  |   |                |           |                   |   |
| **Property, Plant, and Equipment - at Cost**                                                                                          |   |                |           |                   |   |
| Utility  plant in service                                                                                                             |   | **9,100,552**       |           | 8,641,351              |   |
| Construction  work in progress                                                                                                        |   | **508,021**         |           | 469,300                |   |
| **Total Utility Plant**                                                                                                               |   | **9,608,573**       |           | 9,110,651              |   |
| Non-regulated  property, plant, and equipment                                                                                         |   | **4,355,409**       |           | 4,704,904              |   |
| Accumulated  depreciation (Note 1(j)(*iii*))                                                                                          |   | **5,184,319**       |           | 5,166,881              |   |
| **Net Property, Plant, and Equipment**                                                                                                |   | **8,779,663**       |           | 8,648,674              |   |
|                                                                                                                                  |   |                |           |                   |   |
| **Other Assets**                                                                                                                      |   |                |           |                   |   |
| Regulatory  assets                                                                                                                    |   | **1,016,477**       |           | 1,022,696              |   |
| Investments  in unconsolidated subsidiaries                                                                                           |   | **427,378**         |           | 417,188                |   |
| Energy  risk management non-current assets (Note 1(c))                                                                                |   | **92,631**          |           | 162,773                |   |
| Other  investments                                                                                                                    |   | **165,130**         |           | 163,851                |   |
| Goodwill                                                                                                                              |   | **43,717**          |           | 43,717                 |   |
| Other  intangible assets                                                                                                              |   | **14,117**          |           | 14,736                 |   |
| Other                                                                                                                                 |   | **336,811**         |           | 273,099                |   |
| **Total Other Assets**                                                                                                                |   | **2,096,261**       |           | 2,098,060              |   |
|                                                                                                                                  |   |                |           |                   |   |
| **Assets of Discontinued Operations**                                                                                                 |   | **1,916**           |           | 1,120                  |   |
|                                                                                                                                  |   |                |           |                   |   |
| **Total Assets**                                                                                                                      |   | **$**               | **13,418,134** |                   | $      | 13,307,028 |   |

 

**Theaccompanying notes as they relate to Cinergy Corp. are an integral part ofthese consolidated financial statements.**

 

6

----

**CINERGY CORP.**

**CONSOLIDATED Balance Sheets**

** **

**LIABILITIES AND SHAREHOLDERS’ EQUITY**

 
|                                                                                                                                                       |   | **March 31  2003**  |           | **December  31  2002** |   |
|------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|----------------|------------------------|--------|
|                                                                                                                                                       |   | **(in  thousands)** |           |
|                                                                                                                                                       |   | **(unaudited)**     |           |
|                                                                                                                                                       |   |                |           |                   |   |
| **Current Liabilities**                                                                                                                                    |   |                |           |                   |   |
| Accounts  payable                                                                                                                                          |   | **$**               | **1,455,370**  |                   | $      | 1,321,968 |   |
| Accrued  taxes                                                                                                                                             |   | **235,646**         |           | 254,823                |   |
| Accrued  interest                                                                                                                                          |   | **60,328**          |           | 64,340                 |   |
| Notes  payable and other short-term obligations (Note 5)                                                                                                   |   | **327,616**         |           | 667,973                |   |
| Long-term  debt due within one year                                                                                                                        |   | **318,949**         |           | 191,454                |   |
| Energy  risk management current liabilities (Note 1(c))                                                                                                    |   | **434,111**         |           | 407,710                |   |
| Other                                                                                                                                                      |   | **91,450**          |           | 108,056                |   |
| **Total Current Liabilities**                                                                                                                              |   | **2,923,470**       |           | 3,016,324              |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Non-Current Liabilities**                                                                                                                                |   |                |           |                   |   |
| Long-term  debt (Note 4)                                                                                                                                   |   | **3,977,024**       |           | 4,080,768              |   |
| Deferred  income taxes                                                                                                                                     |   | **1,507,089**       |           | 1,471,872              |   |
| Unamortized  investment tax credits                                                                                                                        |   | **115,792**         |           | 118,095                |   |
| Accrued  pension and other postretirement benefit costs                                                                                                    |   | **642,121**         |           | 626,167                |   |
| Energy  risk management non-current liabilities (Note 1(c))                                                                                                |   | **84,805**          |           | 143,991                |   |
| Other                                                                                                                                                      |   | **213,643**         |           | 183,613                |   |
| **Total Non-Current Liabilities**                                                                                                                          |   | **6,540,474**       |           | 6,624,506              |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Liabilities of Discontinued Operations**                                                                                                                 |   | **1,831**           |           | 1,707                  |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Total Liabilities**                                                                                                                                      |   | **9,465,775**       |           | 9,642,537              |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Preferred Trust Securities**                                                                                                                             |   |                |           |                   |   |
| Company  obligated, mandatorily redeemable, preferred trust securities of subsidiary,  holding solely debt securities of the company                       |   | **308,702**         |           | 308,187                |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Cumulative Preferred Stock of Subsidiaries**                                                                                                             |   |                |           |                   |   |
| Not  subject to mandatory redemption                                                                                                                       |   | **62,828**          |           | 62,828                 |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Common Stock Equity **(Note 2)                                                                                                                      |   |                |           |                   |   |
| Common  stock - $.01 par value; authorized shares - 600,000,000; outstanding shares -  175,876,919 at March 31, 2003, and 168,663,115 at December 31, 2002 |   | **1,759**           |           | 1,687                  |   |
| Paid-in  capital                                                                                                                                           |   | **2,116,222**       |           | 1,918,136              |   |
| Retained  earnings                                                                                                                                         |   | **1,491,861**       |           | 1,403,453              |   |
| Accumulated  other comprehensive income (loss)                                                                                                             |   | **(29,013**         | **)**          | (29,800                | )      |
| **Total Common Stock Equity**                                                                                                                              |   | **3,580,829**       |           | 3,293,476              |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Commitments and Contingencies** (Note 7)                                                                                                                 |   |                |           |                   |   |
|                                                                                                                                                       |   |                |           |                   |   |
| **Total Liabilities and Shareholders’ Equity**                                                                                                        |   | **$**               | **13,418,134** |                   | $      | 13,307,028 |   |

 

**Theaccompanying notes as they relate to Cinergy Corp. are an integral part ofthese consolidated financial statements.**

 

7

----

 

**CINERGY CORP.**

**CONSOLIDATEDSTATEMENTS OF CHANGES IN COMMON STOCK EQUITY**

 
|                                                                |   | **Common  Stock**  |       | **Paid-in  Capital** |       | **Retained  Earnings** |       | **Accumulated  Other  Comprehensive  Income (Loss)** |          | **Total  Common  Stock  Equity** |       |
|---------------------------------------------------------------------|--------|--------------------|------------|----------------------|------------|------------------------|------------|------------------------------------------------------|---------------|----------------------------------|------------|
|                                                                |   | **(in thousands)** |       |
|                                                                |   | **(unaudited)**    |       |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| **Quarter Ended March 31, 2003**                                    |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| **Balance at January 1, 2003 (168,663,115 shares)**                 |   | **$**              | **1,687**  | ** **           | **$**      | **1,918,136**          | ** ** | **$**                                                | **1,403,453** | ** **                       | **$**      | **(29,800** | **)** | **$** | **3,293,476** | ** ** |
| **Comprehensive income:**                                           |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| **Net income**                                                      |   |               | ** ** |                 | ** ** | **166,085**            | ** ** |                                                 | ** **    | **166,085**                      | ** ** |
| **Other comprehensive income (loss), net of tax effect of  ($275)** |   |               | ** ** |                 | ** ** |                   | ** ** |                                                 | ** **    |                             | ** ** |
| **Foreign currency translation adjustment**                         |   |               |       |                 |       |                   |       | **2,090**                                            | ** **    | **2,090**                        | ** ** |
| **Unrealized gain (loss) on investment trusts**                     |   |               |       |                 |       |                   |       | **(851**                                             | **)**         | **(851**                         | **)**      |
| **Cash flow hedges**(Note 1(j)(*iv*))                               |   |               |       |                 |       |                   |       | **(452**                                             | **)**         | **(452**                         | **)**      |
| **Total comprehensive income**                                      |   |               | ** ** |                 | ** ** |                   | ** ** |                                                 | ** **    | **166,872**                      | ** ** |
|                                                                |   |               | ** ** |                 | ** ** |                   | ** ** |                                                 | ** **    |                             | ** ** |
| **Issuance of common stock - net**(7,213,804  shares)               |   | **72**             | ** ** | **193,896**          | ** ** |                   | ** ** |                                                 | ** **    | **193,968**                      | ** ** |
| **Dividends on common stock**($.46 per  share)                      |   |               |       |                 |       | **(77,685**            | **)**      |                                                 | ** **    | **(77,685**                      | **)**      |
| **Other**                                                           |   |               |       | **4,190**            | ** ** | **8**                  | ** ** |                                                 | ** **    | **4,198**                        | ** ** |
|                                                                |   |               | ** ** |                 | ** ** |                   | ** ** |                                                 | ** **    |                             | ** ** |
| **Ending balance at March 31, 2003 (175,876,919 shares)**           |   | **$**              | **1,759**  | ** **           | **$**      | **2,116,222**          | ** ** | **$**                                                | **1,491,861** | ** **                       | **$**      | **(29,013** | **)** | **$** | **3,580,829** | ** ** |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Quarter  Ended March 31, 2002                                       |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Balance  at January 1, 2002 (159,402,839 shares)                    |   | $                  | 1,594      |                 | $          | 1,619,659              |       | $                                                    | 1,337,135     |                             | $          | (16,929 | ) | $ | 2,941,459 |   |
| Comprehensive  income:                                              |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Net  income                                                         |   |               |       |                 |       | 84,829                 |       |                                                 |          | 84,829                           |       |
| Other  comprehensive income (loss), net of tax effect of $1,084     |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Foreign  currency translation adjustment                            |   |               |       |                 |       |                   |       | (1,584                                               | )             | (1,584                           | )          |
| Unrealized  gain (loss) on investment trusts                        |   |               |       |                 |       |                   |       | (1,051                                               | )             | (1,051                           | )          |
| Minimum  pension liability adjustment                               |   |               |       |                 |       |                   |       | 136                                                  |          | 136                              |       |
| Cash  flow hedges (Note 1(j)(*iv*))                                 |   |               |       |                 |       |                   |       | 240                                                  |          | 240                              |       |
| Total  comprehensive income                                         |   |               |       |                 |       |                   |       |                                                 |          | 82,570                           |       |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Issuance  of common stock - net (7,423,257 shares)                  |   | 75                 |       | 215,894              |       |                   |       |                                                 |          | 215,969                          |       |
| Dividends  on common stock ($.45 per share)                         |   |               |       |                 |       | (71,882                | )          |                                                 |          | (71,882                          | )          |
| Other                                                               |   |               |       | 3,785                |       | 8                      |       |                                                 |          | 3,793                            |       |
|                                                                |   |               |       |                 |       |                   |       |                                                 |          |                             |       |
| Ending  balance at March 31, 2002 (166,826,096 shares)              |   | $                  | 1,669      |                 | $          | 1,839,338              |       | $                                                    | 1,350,090     |                             | $          | (19,188 | ) | $ | 3,171,909 |   |

 

**Theaccompanying notes as they relate to Cinergy Corp. are an integral part ofthese consolidated financial statements.**

 

8

----

 

**CINERGY CORP.**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

 
|                                                                                  |   | **Quarter  Ended  March 31** |        |
|---------------------------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                                  |   | **2003**                     |        | **2002** |   |
|                                                                                  |   | **(in  thousands)**          |        |
|                                                                                  |   | **(unaudited)**              |        |
|                                                                                  |   |                         | ** **  |   |   |
| **Operating Activities**                                                              |   |                         | ** **  |   |   |
| Net  income                                                                           |   | **$**                        | **166,085** | ** ** | $ | 84,829 |   |
| Items  providing or (using) cash currently:                                           |   |                         | ** **  |   |   |
| Depreciation                                                                          |   | **106,023**                  | ** **  | 98,566 |   |
| Loss  (gain) on discontinued operations, net of tax                                   |   | **—**                   | ** **  | (478 | ) |
| Cumulative  effect of a change in accounting principles, net of tax                   |   | **(26,462**                  | **)**       | 10,899 |   |
| Change  in net position of energy risk management activities                          |   | **9,730**                    | ** **  | (50,005 | ) |
| Deferred  income taxes and investment tax credits - net                               |   | **18,013**                   | ** **  | 2,594 |   |
| Equity  in (earnings) losses of unconsolidated subsidiaries                           |   | **(592**                     | **)**       | (4,689 | ) |
| Allowance  for equity funds used during construction                                  |   | **(3,579**                   | **)**       | (2,850 | ) |
| Regulatory  assets deferrals                                                          |   | **(20,588**                  | **)**       | (17,665 | ) |
| Regulatory  assets amortization                                                       |   | **27,966**                   | ** **  | 29,976 |   |
| Accrued  pension and other postretirement benefit costs                               |   | **15,954**                   | ** **  | (105 | ) |
| Deferred  costs under gas recovery mechanism                                          |   | **(38,659**                  | **)**       | 5,955 |   |
| Changes  in current assets and current liabilities:                                   |   |                         | ** **  |   |   |
| Restricted  deposits                                                                  |   | **(105**                     | **)**       | (728 | ) |
| Accounts  and notes receivable                                                        |   | **(51,845**                  | **)**       | 76,442 |   |
| Materials,  supplies, and fuel                                                        |   | **74,395**                   | ** **  | 22,459 |   |
| Prepayments                                                                           |   | **1,382**                    | ** **  | 1,101 |   |
| Accounts  payable                                                                     |   | **133,402**                  | ** **  | (29,497 | ) |
| Accrued  taxes and interest                                                           |   | **(23,189**                  | **)**       | 50,274 |   |
| Other  assets                                                                         |   | **3,489**                    | ** **  | 13,449 |   |
| Other  liabilities                                                                    |   | **6,045**                    | ** **  | (6,918 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) operating activities**                               |   | **397,465**                  | ** **  | 283,609 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Financing Activities**                                                              |   |                         | ** **  |   |   |
| Change  in short-term debt                                                            |   | **(340,357**                 | **)**       | (205,918 | ) |
| Issuance  of long-term debt                                                           |   | **35,000**                   | ** **  | — |   |
| Redemption  of long-term debt                                                         |   | **(11,270**                  | **)**       | (30,722 | ) |
| Retirement  of preferred stock of subsidiaries                                        |   | **—**                   | ** **  | (2 | ) |
| Issuance  of common stock                                                             |   | **193,968**                  | ** **  | 215,969 |   |
| Dividends  on common stock                                                            |   | **(77,685**                  | **)**       | (71,882 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) financing activities**                               |   | **(200,344**                 | **)**       | (92,555 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Investing Activities**                                                              |   |                         | ** **  |   |   |
| Construction  expenditures (less allowance for equity funds used during construction) |   | **(151,187**                 | **)**       | (187,678 | ) |
| Acquisitions  and other investments                                                   |   | **(7,858**                   | **)**       | (18,125 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) investing activities**                               |   | **(159,045**                 | **)**       | (205,803 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net increase (decrease) in cash and cash equivalents**                              |   | **38,076**                   | ** **  | (14,749 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at beginning of period**                                  |   | **221,083**                  | ** **  | 111,067 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at end of period**                                        |   | **$**                        | **259,159** | ** ** | $ | 96,318 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Supplemental Disclosure of Cash Flow Information**                                  |   |                         | ** **  |   |   |
| Cash  paid during the period for:                                                     |   |                         | ** **  |   |   |
| Interest  (net of amount capitalized)                                                 |   | **$**                        | **67,259**  | ** ** | $ | 48,373 |   |
| Income  taxes                                                                         |   | **$**                        | **66,477**  | ** ** | $ | 19,242 |   |

 

**Theaccompanying notes as they relate to Cinergy Corp. are an integral part ofthese consolidated financial statements.**

 

9

----

 

**THE CINCINNATI GAS & ELECTRIC COMPANY**

**AND SUBSIDIARY COMPANIES**

 

10

----

 

**THE CINCINNATI GAS & ELECTRIC COMPANY**

**CONSOLIDATEDSTATEMENTS OF INCOME AND COMPREHENSIVE INCOME**

 
|                                                                                    |   | **Quarter  Ended  March 31** |        |
|-----------------------------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                                    |   | **2003**                     |        | **2002** |   |
|                                                                                    |   | **(in  thousands)**          |        |
|                                                                                    |   | **(unaudited)**              |        |
|                                                                                    |   |                         |        |   |   |
| **Operating Revenues** (Note 3)                                                         |   |                         | ** **  |   |   |
| Electric                                                                                |   | **$**                        | **428,564** | ** ** | $ | 398,119 |   |
| Gas                                                                                     |   | **275,276**                  | ** **  | 179,609 |   |
| **Total Operating Revenues**                                                            |   | **703,840**                  | ** **  | 577,728 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Operating Expenses**                                                                  |   |                         | ** **  |   |   |
| Fuel  and purchased and exchanged power (Note 3)                                        |   | **130,554**                  | ** **  | 107,248 |   |
| Gas  purchased                                                                          |   | **171,765**                  | ** **  | 107,968 |   |
| Operation  and maintenance                                                              |   | **134,760**                  | ** **  | 105,855 |   |
| Depreciation                                                                            |   | **49,264**                   | ** **  | 48,160 |   |
| Taxes  other than income taxes                                                          |   | **60,518**                   | ** **  | 53,486 |   |
| **Total Operating Expenses**                                                            |   | **546,861**                  | ** **  | 422,717 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Operating Income**                                                                    |   | **156,979**                  | ** **  | 155,011 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Miscellaneous - Net**                                                                 |   | **6,584**                    | ** **  | (3,704 | ) |
| **Interest**                                                                            |   | **25,841**                   | ** **  | 22,855 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Income Before Taxes**                                                                 |   | **137,722**                  | ** **  | 128,452 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Income Taxes**                                                                        |   | **51,424**                   | ** **  | 50,867 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Income Before Cumulative Effect of a Change in Accounting  Principles**               |   | **86,298**                   | ** **  | 77,585 |   |
|                                                                                    |   |                         | ** **  |   |   |
| Cumulative  effect of a change in accounting principles, net of tax (Note 1(j)(*viii*)) |   | **30,938**                   | ** **  | — |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Net Income**                                                                          |   | **$**                        | **117,236** | ** ** | $ | 77,585 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Preferred Dividend Requirement**                                                      |   | **211**                      | ** **  | 211 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Net Income Applicable to Common Stock**                                               |   | **$**                        | **117,025** | ** ** | $ | 77,374 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Net Income**                                                                          |   | **$**                        | **117,236** | ** ** | $ | 77,585 |   |
|                                                                                    |   |                         | ** **  |   |   |
| **Other Comprehensive Income (Loss), Net of Tax Effect**                                |   | **(306**                     | **)**       | (172 | ) |
|                                                                                    |   |                         | ** **  |   |   |
| **Comprehensive Income**                                                                |   | **$**                        | **116,930** | ** ** | $ | 77,413 |   |

 

**Theaccompanying notes as they relate to The Cincinnati Gas & Electric Companyare an integral part of these consolidated financial statements.**

 

11

----

 

**THE CINCINNATI GAS & ELECTRIC COMPANY**

**CONSOLIDATEDBALANCE SHEETS**

 

**ASSETS**

 
|                                                                                                                                |   | **March 31  2003**  |          | **December  31  2002** |   |
|-------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|---------------|------------------------|--------|
|                                                                                                                                |   | **(in  thousands)** |          |
|                                                                                                                                |   | **(unaudited)**     |          |
|                                                                                                                                |   |                |          |                   |   |
| **Current Assets**                                                                                                                  |   |                |          |                   |   |
| Cash  and cash equivalents                                                                                                          |   | **$**               | **26,870**    | ** **             | $      | 45,336 |   |
| Restricted  deposits                                                                                                                |   | **3,037**           | ** **    | 3,071                  |   |
| Notes  receivable from affiliated companies                                                                                         |   | **207,402**         | ** **    | 148,823                |   |
| Accounts  receivable less accumulated provision for doubtful accounts of $2,707 at  March 31, 2003, and $5,942 at December 31, 2002 |   | **106,416**         | ** **    | 117,269                |   |
| Accounts  receivable from affiliated companies                                                                                      |   | **27,650**          | ** **    | 97,584                 |   |
| Materials,  supplies, and fuel                                                                                                      |   | **94,226**          | ** **    | 121,881                |   |
| Energy  risk management current assets (Note 1(c))                                                                                  |   | **74,339**          | ** **    | 57,912                 |   |
| Prepayments  and other                                                                                                              |   | **14,409**          | ** **    | 8,560                  |   |
| **Total Current Assets**                                                                                                            |   | **554,349**         | ** **    | 600,436                |   |
|                                                                                                                                |   |                | ** **    |                   |   |
| **Property, Plant, and Equipment - at Cost**                                                                                        |   |                | ** **    |                   |   |
| Utility  plant in service                                                                                                           |   |                | ** **    |                   |   |
| Electric                                                                                                                            |   | **2,097,439**       | ** **    | 2,073,133              |   |
| Gas                                                                                                                                 |   | **1,019,175**       | ** **    | 1,003,870              |   |
| Common                                                                                                                              |   | **249,593**         | ** **    | 248,938                |   |
| **Total Utility Plant In Service**                                                                                                  |   | **3,366,207**       | ** **    | 3,325,941              |   |
| Construction  work in progress                                                                                                      |   | **80,664**          | ** **    | 84,249                 |   |
| **Total Utility Plant**                                                                                                             |   | **3,446,871**       | ** **    | 3,410,190              |   |
| Non-regulated  property, plant, and equipment                                                                                       |   | **3,469,525**       | ** **    | 3,445,056              |   |
| Accumulated  depreciation (Note 1(j)(*iii*))                                                                                        |   | **2,692,027**       | ** **    | 2,712,105              |   |
| **Net Property, Plant, and Equipment**                                                                                              |   | **4,224,369**       | ** **    | 4,143,141              |   |
|                                                                                                                                |   |                | ** **    |                   |   |
| **Other Assets**                                                                                                                    |   |                | ** **    |                   |   |
| Regulatory  assets                                                                                                                  |   | **596,271**         | ** **    | 604,776                |   |
| Energy  risk management non-current assets (Note 1(c))                                                                              |   | **33,946**          | ** **    | 64,762                 |   |
| Other  investments                                                                                                                  |   | **1,081**           | ** **    | 1,082                  |   |
| Other                                                                                                                               |   | **193,325**         | ** **    | 127,550                |   |
| **Total Other Assets**                                                                                                              |   | **824,623**         | ** **    | 798,170                |   |
|                                                                                                                                |   |                | ** **    |                   |   |
| **Total Assets**                                                                                                                    |   | **$**               | **5,603,341** | ** **             | $      | 5,541,747 |   |

 

**Theaccompanying notes as they relate to The Cincinnati Gas & Electric Companyare an integral part of these consolidated financial statements.**

 

12

----

**THE CINCINNATI GAS & ELECTRIC COMPANY**

**CONSOLIDATED BALANCE SHEETS**

 

**LIABILITIES AND SHAREHOLDER’S EQUITY**

 
|                                                                                                                                        |   | **March 31  2003**  |          | **December  31  2002** |   |
|---------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|---------------|------------------------|--------|
|                                                                                                                                        |   | **(in  thousands)** |          |
|                                                                                                                                        |   | **(unaudited)**     |          |
|                                                                                                                                        |   |                |          |                   |   |
| **Current Liabilities**                                                                                                                     |   |                |          |                   |   |
| Accounts  payable                                                                                                                           |   | **$**               | **241,667**   | ** **             | $      | 195,812 |   |
| Accounts  payable to affiliated companies                                                                                                   |   | **40,652**          | ** **    | 146,558                |   |
| Accrued  taxes                                                                                                                              |   | **159,892**         | ** **    | 159,199                |   |
| Accrued  interest                                                                                                                           |   | **18,042**          | ** **    | 22,872                 |   |
| Notes  payable and other short-term obligations (Note 5)                                                                                    |   | **112,100**         | ** **    | 112,100                |   |
| Notes  payable to affiliated companies (Note 5)                                                                                             |   | **3,260**           | ** **    | 8,947                  |   |
| Long-term  debt due within one year                                                                                                         |   | **230,000**         | ** **    | 120,000                |   |
| Energy  risk management current liabilities (Note 1(c))                                                                                     |   | **89,627**          | ** **    | 49,288                 |   |
| Other                                                                                                                                       |   | **37,255**          | ** **    | 37,160                 |   |
| **Total Current Liabilities**                                                                                                               |   | **932,495**         | ** **    | 851,936                |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Non-Current Liabilities**                                                                                                                 |   |                | ** **    |                   |   |
| Long-term  debt                                                                                                                             |   | **1,459,760**       | ** **    | 1,569,713              |   |
| Deferred  income taxes                                                                                                                      |   | **916,930**         | ** **    | 882,628                |   |
| Unamortized  investment tax credits                                                                                                         |   | **83,695**          | ** **    | 85,198                 |   |
| Accrued  pension and other postretirement benefit costs                                                                                     |   | **205,087**         | ** **    | 201,284                |   |
| Energy  risk management non-current liabilities (Note 1(c))                                                                                 |   | **20,335**          | ** **    | 31,326                 |   |
| Other                                                                                                                                       |   | **84,583**          | ** **    | 88,843                 |   |
| **Total Non-Current Liabilities**                                                                                                           |   | **2,770,390**       | ** **    | 2,858,992              |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Total Liabilities**                                                                                                                       |   | **3,702,885**       | ** **    | 3,710,928              |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Cumulative Preferred Stock**                                                                                                              |   |                | ** **    |                   |   |
| Not  subject to mandatory redemption                                                                                                        |   | **20,485**          | ** **    | 20,485                 |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Common Stock Equity**                                                                                                                     |   |                | ** **    |                   |   |
| Common  stock - $8.50 par value; authorized shares - 120,000,000; outstanding shares  - 89,663,086 at March 31, 2003, and December 31, 2002 |   | **762,136**         | ** **    | 762,136                |   |
| Paid-in  capital                                                                                                                            |   | **586,292**         | ** **    | 586,292                |   |
| Retained  earnings                                                                                                                          |   | **557,595**         | ** **    | 487,652                |   |
| Accumulated  other comprehensive income (loss)                                                                                              |   | **(26,052**         | **)**         | (25,746                | )      |
| **Total Common Stock Equity**                                                                                                               |   | **1,879,971**       | ** **    | 1,810,334              |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Commitments and Contingencies**(Note 7)                                                                                                   |   |                | ** **    |                   |   |
|                                                                                                                                        |   |                | ** **    |                   |   |
| **Total Liabilities and Shareholder’s Equity**                                                                                         |   | **$**               | **5,603,341** | ** **             | $      | 5,541,747 |   |

 

**Theaccompanying notes as they relate to The Cincinnati Gas & Electric Companyare an integral part of these consolidated financial statements.**

 

13

----

 

**THE CINCINNATI GAS & ELECTRIC COMPANY**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

 
|                                                                                  |   | **Quarter  Ended  March 31** |        |
|---------------------------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                                  |   | **2003**                     |        | **2002** |   |
|                                                                                  |   | **(in  thousands)**          |        |
|                                                                                  |   | **(unaudited)**              |        |
|                                                                                  |   |                         |        |   |   |
| **Operating Activities**                                                              |   |                         |        |   |   |
| Net  income                                                                           |   | **$**                        | **117,236** | ** ** | $ | 77,585 |   |
| Items  providing or (using) cash currently:                                           |   |                         | ** **  |   |   |
| Depreciation                                                                          |   | **49,264**                   | ** **  | 48,160 |   |
| Deferred  income taxes and investment tax credits - net                               |   | **13,092**                   | ** **  | 7,465 |   |
| Cumulative  effect of a change in accounting principles, net of tax                   |   | **(30,938**                  | **)**       | — |   |
| Change  in net position of energy risk management activities                          |   | **1,041**                    | ** **  | (2,069 | ) |
| Allowance  for equity funds used during construction                                  |   | **(719**                     | **)**       | 543 |   |
| Regulatory  assets deferrals                                                          |   | **(5,949**                   | **)**       | (11,131 | ) |
| Regulatory  assets amortization                                                       |   | **16,376**                   | ** **  | 11,494 |   |
| Accrued  pension and other postretirement benefit costs                               |   | **3,803**                    | ** **  | (307 | ) |
| Deferred  costs under gas cost recovery mechanism                                     |   | **(38,659**                  | **)**       | 5,955 |   |
| Changes  in current assets and current liabilities:                                   |   |                         | ** **  |   |   |
| Restricted  deposits                                                                  |   | **34**                       | ** **  | (764 | ) |
| Accounts  and notes receivable                                                        |   | **103,008**                  | ** **  | 121,927 |   |
| Materials,  supplies, and fuel                                                        |   | **27,655**                   | ** **  | 33,593 |   |
| Prepayments                                                                           |   | **361**                      | ** **  | 535 |   |
| Accounts  payable                                                                     |   | **(60,051**                  | **)**       | (59,074 | ) |
| Accrued  taxes and interest                                                           |   | **(4,137**                   | **)**       | 34,192 |   |
| Other  assets                                                                         |   | **(4,677**                   | **)**       | 4,331 |   |
| Other  liabilities                                                                    |   | **(6,924**                   | **)**       | 980 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) operating activities**                               |   | **179,816**                  | ** **  | 273,415 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Financing Activities**                                                              |   |                         | ** **  |   |   |
| Change  in short-term debt, including net affiliate notes                             |   | **(86,487**                  | **)**       | (141,171 | ) |
| Dividends  on preferred stock                                                         |   | **(211**                     | **)**       | (211 | ) |
| Dividends  on common stock                                                            |   | **(47,082**                  | **)**       | (44,787 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) financing activities**                               |   | **(133,780**                 | **)**       | (186,169 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Investing Activities**                                                              |   |                         | ** **  |   |   |
| Construction  expenditures (less allowance for equity funds used during construction) |   | **(64,501**                  | **)**       | (80,191 | ) |
| Other  investments                                                                    |   | **(1**                       | **)**       | (840 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) investing activities**                               |   | **(64,502**                  | **)**       | (81,031 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net increase (decrease) in cash and cash equivalents**                              |   | **(18,466**                  | **)**       | 6,215 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at beginning of period**                                  |   | **45,336**                   | ** **  | 9,074 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at end of period**                                        |   | **$**                        | **26,870**  | ** ** | $ | 15,289 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Supplemental Disclosure of Cash Flow Information**                                  |   |                         | ** **  |   |   |
| Cash  paid during the period for:                                                     |   |                         | ** **  |   |   |
| Interest  (net of amount capitalized)                                                 |   | **$**                        | **30,010**  | ** ** | $ | 9,551 |   |
| Income  taxes                                                                         |   | **$**                        | **29,451**  | ** ** | $ | 12,620 |   |

 

**Theaccompanying notes as they relate to The Cincinnati Gas & Electric Companyare an integral part of these consolidated financial statements.**

 

14

----

 

**PSI ENERGY,INC.**

**AND SUBSIDIARY COMPANY**

 

15

----

 

**PSI ENERGY, INC.**

**CONSOLIDATEDSTATEMENTS OF INCOME AND COMPREHENSIVEINCOME**

 
|                                                                                   |   | **Quarter  Ended  March 31** |        |
|----------------------------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                                   |   | **2003**                     |        | **2002** |   |
|                                                                                   |   | **(in  thousands)**          |        |
|                                                                                   |   | **(unaudited)**              |        |
|                                                                                   |   |                         |        |   |   |
| **Operating Revenues** (Note 3)                                                        |   |                         |        |   |   |
| Electric                                                                               |   | **$**                        | **411,688** | ** ** | $ | 366,401 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Operating Expenses**                                                                 |   |                         | ** **  |   |   |
| Fuel  and purchased and exchanged power (Note 3)                                       |   | **166,872**                  | ** **  | 123,049 |   |
| Operation  and maintenance                                                             |   | **112,385**                  | ** **  | 115,079 |   |
| Depreciation                                                                           |   | **42,712**                   | ** **  | 37,748 |   |
| Taxes  other than income taxes                                                         |   | **15,882**                   | ** **  | 16,397 |   |
| **Total Operating Expenses**                                                           |   | **337,851**                  | ** **  | 292,273 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Operating Income**                                                                   |   | **73,837**                   | ** **  | 74,128 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Miscellaneous - Net**                                                                |   | **2,158**                    | ** **  | 5,351 |   |
| **Interest**                                                                           |   | **20,115**                   | ** **  | 19,291 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Income Before Taxes**                                                                |   | **55,880**                   | ** **  | 60,188 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Income Taxes**                                                                       |   | **21,659**                   | ** **  | 22,105 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Income Before Cumulative Effect of a Change in Accounting  Principle**               |   | **34,221**                   | ** **  | 38,083 |   |
|                                                                                   |   |                         | ** **  |   |   |
| Cumulative  effect of a change in accounting principle, net of tax (Note 1(j)(*viii*)) |   | **(494**                     | **)**       | — |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Net Income**                                                                         |   | **$**                        | **33,727**  | ** ** | $ | 38,083 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Preferred Dividend Requirement**                                                     |   | **647**                      | ** **  | 647 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Net Income Applicable to Common Stock**                                              |   | **$**                        | **33,080**  | ** ** | $ | 37,436 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Net Income**                                                                         |   | **$**                        | **33,727**  | ** ** | $ | 38,083 |   |
|                                                                                   |   |                         | ** **  |   |   |
| **Other Comprehensive Income (Loss), Net of Tax Effect**                               |   | **(630**                     | **)**       | (497 | ) |
|                                                                                   |   |                         | ** **  |   |   |
| **Comprehensive Income**                                                               |   | **$**                        | **33,097**  | ** ** | $ | 37,586 |   |

 

**Theaccompanying notes as they relate to PSI Energy, Inc. are an integral part ofthese consolidated financial statements.**

 

16

----

 

**PSI ENERGY, INC.**

**CONSOLIDATEDBALANCE SHEETS**

 

**ASSETS**

 
|                                                                                                                                |   | **March 31  2003** |          | **December  31  2002** |   |
|-------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|---------------|------------------------|--------|
|                                                                                                                                |   | **(in thousands)** |          |
|                                                                                                                                |   | **(unaudited)**    |          |
|                                                                                                                                |   |               |          |                   |   |
| **Current Assets**                                                                                                                  |   |               |          |                   |   |
| Cash  and cash equivalents                                                                                                          |   | **$**              | **4,095**     | ** **             | $      | 2,007 |   |
| Restricted  deposits                                                                                                                |   | **20**             | ** **    | 20                     |   |
| Notes  receivable from affiliated companies                                                                                         |   | **37,548**         | ** **    | 53,755                 |   |
| Accounts  receivable less accumulated provision for doubtful accounts of $1,927 at  March 31, 2003, and $5,656 at December 31, 2002 |   | **62,504**         | ** **    | 84,819                 |   |
| Accounts  receivable from affiliated companies                                                                                      |   | **439**            | ** **    | 437                    |   |
| Materials,  supplies, and fuel                                                                                                      |   | **132,959**        | ** **    | 137,292                |   |
| Energy  risk management current assets (Note 1(c))                                                                                  |   | **8,023**          | ** **    | 8,701                  |   |
| Prepayments  and other                                                                                                              |   | **34,806**         | ** **    | 44,725                 |   |
| **Total Current Assets**                                                                                                            |   | **280,394**        | ** **    | 331,756                |   |
|                                                                                                                                |   |               | ** **    |                   |   |
| **Property, Plant, and Equipment - at Cost**                                                                                        |   |               | ** **    |                   |   |
| Utility  plant in service                                                                                                           |   | **5,734,345**      | ** **    | 5,315,410              |   |
| Construction  work in progress                                                                                                      |   | **427,357**        | ** **    | 385,051                |   |
| **Total Utility Plant**                                                                                                             |   | **6,161,702**      | ** **    | 5,700,461              |   |
| Accumulated  depreciation                                                                                                           |   | **2,374,840**      | ** **    | 2,334,157              |   |
| **Net Property, Plant, and Equipment**(Note  11)                                                                                    |   | **3,786,862**      | ** **    | 3,366,304              |   |
|                                                                                                                                |   |               | ** **    |                   |   |
| **Other Assets**                                                                                                                    |   |               | ** **    |                   |   |
| Regulatory  assets                                                                                                                  |   | **420,206**        | ** **    | 417,920                |   |
| Energy  risk management non-current assets (Note 1(c))                                                                              |   | **12,539**         | ** **    | 16,590                 |   |
| Other  investments                                                                                                                  |   | **54,477**         | ** **    | 54,683                 |   |
| Other                                                                                                                               |   | **42,044**         | ** **    | 35,703                 |   |
| **Total Other Assets**                                                                                                              |   | **529,266**        | ** **    | 524,896                |   |
|                                                                                                                                |   |               | ** **    |                   |   |
| **Total Assets**                                                                                                                    |   | **$**              | **4,596,522** | ** **             | $      | 4,222,956 |   |

 

**Theaccompanying notes as they relate to PSI Energy, Inc. are an integral part ofthese consolidated financial statements.**

 

17

----

**PSI ENERGY, INC.**

**CONSOLIDATEDBALANCE SHEETS**

 

**LIABILITIES AND SHAREHOLDER’S EQUITY**

 
|                                                                                                                                                            |   | **March 31  2003**  |          | **December  31  2002** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|---------------|------------------------|--------|
|                                                                                                                                                            |   | **(in  thousands)** |          |
|                                                                                                                                                            |   | **(unaudited)**     |          |
|                                                                                                                                                            |   |                |          |                   |   |
| **Current Liabilities**                                                                                                                                         |   |                |          |                   |   |
| Accounts  payable                                                                                                                                               |   | **$**               | **73,155**    | ** **             | $      | 113,563 |   |
| Accounts  payable to affiliated companies                                                                                                                       |   | **39,150**          | ** **    | 107,364                |   |
| Accrued  taxes                                                                                                                                                  |   | **107,385**         | ** **    | 105,960                |   |
| Accrued  interest                                                                                                                                               |   | **26,811**          | ** **    | 23,078                 |   |
| Notes  payable and other short-term obligations (Note 5)                                                                                                        |   | **—**          | ** **    | 35,000                 |   |
| Notes  payable to affiliated companies (Note 5)                                                                                                                 |   | **229,865**         | ** **    | 138,055                |   |
| Long-term  debt due within one year                                                                                                                             |   | **83,838**          | ** **    | 56,000                 |   |
| Energy  risk management current liabilities (Note 1(c))                                                                                                         |   | **7,133**           | ** **    | 8,000                  |   |
| Other                                                                                                                                                           |   | **22,550**          | ** **    | 22,335                 |   |
| **Total Current Liabilities**                                                                                                                                   |   | **589,887**         | ** **    | 609,355                |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Non-Current Liabilities**                                                                                                                                     |   |                | ** **    |                   |   |
| Long-term  debt (Note 4)                                                                                                                                        |   | **1,699,186**       | ** **    | 1,315,984              |   |
| Deferred  income taxes                                                                                                                                          |   | **536,174**         | ** **    | 538,745                |   |
| Unamortized  investment tax credits                                                                                                                             |   | **32,097**          | ** **    | 32,897                 |   |
| Accrued  pension and other postretirement benefit costs                                                                                                         |   | **188,107**         | ** **    | 184,299                |   |
| Energy  risk management non-current liabilities (Note 1(c))                                                                                                     |   | **15,837**          | ** **    | 17,157                 |   |
| Other                                                                                                                                                           |   | **89,647**          | ** **    | 80,879                 |   |
| **Total Non-Current Liabilities**                                                                                                                               |   | **2,561,048**       | ** **    | 2,169,961              |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Total Liabilities**                                                                                                                                           |   | **3,150,935**       | ** **    | 2,779,316              |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Cumulative Preferred Stock**                                                                                                                                  |   |                | ** **    |                   |   |
| Not  subject to mandatory redemption                                                                                                                            |   | **42,343**          | ** **    | 42,343                 |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Common Stock Equity**                                                                                                                                         |   |                | ** **    |                   |   |
| Common  stock - without par value; $.01 stated value; authorized shares - 60,000,000;  outstanding shares - 53,913,701 at March 31, 2003, and December 31, 2002 |   | **539**             | ** **    | 539                    |   |
| Paid-in  capital                                                                                                                                                |   | **426,931**         | ** **    | 426,931                |   |
| Retained  earnings                                                                                                                                              |   | **984,523**         | ** **    | 981,946                |   |
| Accumulated  other comprehensive income (loss)                                                                                                                  |   | **(8,749**          | **)**         | (8,119                 | )      |
| **Total Common Stock Equity**                                                                                                                                   |   | **1,403,244**       | ** **    | 1,401,297              |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Commitments and Contingencies**(Note 7)                                                                                                                       |   |                | ** **    |                   |   |
|                                                                                                                                                            |   |                | ** **    |                   |   |
| **Total Liabilities and Shareholder’s Equity**                                                                                                             |   | **$**               | **4,596,522** | ** **             | $      | 4,222,956 |   |

 

**Theaccompanying notes as they relate to PSI Energy, Inc. are an integral part ofthese consolidated financial statements.**

18

----

 

**PSI ENERGY, INC.**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

 
|                                                                                  |   | **Quarter  Ended  March 31** |        |
|---------------------------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                                  |   | **2003**                     |        | **2002** |   |
|                                                                                  |   | **(in  thousands)**          |        |
|                                                                                  |   | **(unaudited)**              |        |
|                                                                                  |   |                         |        |   |   |
| **Operating Activities**                                                              |   |                         |        |   |   |
| Net  income                                                                           |   | **$**                        | **33,727**  | ** ** | $ | 38,083 |   |
| Items  providing or (using) cash currently:                                           |   |                         | ** **  |   |   |
| Depreciation                                                                          |   | **42,712**                   | ** **  | 37,748 |   |
| Cumulative  effect of a change in accounting principle, net of tax                    |   | **494**                      | ** **  | — |   |
| Deferred  income taxes and investment tax credits - net                               |   | **(2,654**                   | **)**       | (8,580 | ) |
| Change  in net position of energy risk management activities                          |   | **(1,245**                   | **)**       | 133 |   |
| Allowance  for equity funds used during construction                                  |   | **(2,860**                   | **)**       | (3,393 | ) |
| Regulatory  assets deferrals                                                          |   | **(14,639**                  | **)**       | (6,534 | ) |
| Regulatory  assets amortization                                                       |   | **11,590**                   | ** **  | 18,482 |   |
| Accrued  pension and other postretirement benefit costs                               |   | **3,808**                    | ** **  | 2,864 |   |
| Changes  in current assets and current liabilities:                                   |   |                         | ** **  |   |   |
| Restricted  deposits                                                                  |   | **—**                   | ** **  | (2 | ) |
| Accounts  and notes receivable                                                        |   | **38,520**                   | ** **  | 99,305 |   |
| Materials,  supplies, and fuel                                                        |   | **4,333**                    | ** **  | (16,776 | ) |
| Prepayments                                                                           |   | **1,345**                    | ** **  | 1,074 |   |
| Accounts  payable                                                                     |   | **(108,622**                 | **)**       | (60,867 | ) |
| Accrued  taxes and interest                                                           |   | **5,158**                    | ** **  | 37,874 |   |
| Other  assets                                                                         |   | **7,355**                    | ** **  | 534 |   |
| Other  liabilities                                                                    |   | **1,066**                    | ** **  | 128 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) operating activities**                               |   | **20,088**                   | ** **  | 140,073 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Financing Activities**                                                              |   |                         | ** **  |   |   |
| Change  in short-term debt, including net affiliate notes                             |   | **56,810**                   | ** **  | 24,057 |   |
| Issuance  of long-term debt                                                           |   | **35,000**                   | ** **  | — |   |
| Redemption  of long-term debt                                                         |   | **—**                   | ** **  | (23,000 | ) |
| Retirement  of preferred stock                                                        |   | **—**                   | ** **  | (2 | ) |
| Dividends  on preferred stock                                                         |   | **(647**                     | **)**       | (647 | ) |
| Dividends  on common stock                                                            |   | **(30,503**                  | **)**       | (26,944 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) financing activities**                               |   | **60,660**                   | ** **  | (26,536 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Investing Activities**                                                              |   |                         | ** **  |   |   |
| Construction  expenditures (less allowance for equity funds used during construction) |   | **(77,833**                  | **)**       | (104,977 | ) |
| Other  investments                                                                    |   | **(827**                     | **)**       | (3,557 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net cash provided by (used in) investing activities**                               |   | **(78,660**                  | **)**       | (108,534 | ) |
|                                                                                  |   |                         | ** **  |   |   |
| **Net increase (decrease) in cash and cash equivalents**                              |   | **2,088**                    | ** **  | 5,003 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at beginning of period**                                  |   | **2,007**                    | ** **  | 1,587 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Cash and cash equivalents at end of period**                                        |   | **$**                        | **4,095**   | ** ** | $ | 6,590 |   |
|                                                                                  |   |                         | ** **  |   |   |
| **Supplemental Disclosure of Cash Flow Information**                                  |   |                         | ** **  |   |   |
| Cash  paid during the period for:                                                     |   |                         | ** **  |   |   |
| Interest  (net of amount capitalized)                                                 |   | **$**                        | **20,465**  | ** ** | $ | 22,819 |   |
| Income  taxes                                                                         |   | **$**                        | **36,000**  | ** ** | $ | 6,590 |   |
|                                                                                  |   |                         | ** **  |   |   |
| Non-cash  financing and investing activities:                                         |   |                         | ** **  |   |   |
| Issuance  of promissory notes to affiliated company for acquisition of assets         |   | **$**                        | **375,969** | ** ** | $ | — |   |

 

**Theaccompanying notes as they relate to PSI Energy, Inc. are an integral part ofthese consolidated financial statements.**

 

19

----

 

**THE UNION LIGHT****, HEAT AND POWER COMPANY**

 

20

----

 

**THE UNION LIGHT, HEAT AND POWER COMPANY**

**STATEMENTSOF INCOME**

 
|                                                  |   | **Quarter  Ended  March 31** |       |
|-------------------------------------------------------|--------|------------------------------|------------|
|                                                  |   | **2003**                     |       | **2002** |   |
|                                                  |   | **(in  thousands)**          |       |
|                                                  |   | **(unaudited)**              |       |
|                                                  |   |                         |       |   |   |
| **Operating Revenues**                                |   |                         |       |   |   |
| Electric                                              |   | **$**                        | **54,929** | ** ** | $ | 51,857 |   |
| Gas                                                   |   | **49,384**                   | ** ** | 35,204 |   |
| **Total Operating Revenues**                          |   | **104,313**                  | ** ** | 87,061 |   |
|                                                  |   |                         | ** ** |   |   |
| **Operating Expenses**                                |   |                         | ** ** |   |   |
| Electricity  purchased from parent company for resale |   | **39,123**                   | ** ** | 36,838 |   |
| Gas  purchased                                        |   | **31,500**                   | ** ** | 22,889 |   |
| Operation  and maintenance                            |   | **12,585**                   | ** ** | 9,452 |   |
| Depreciation                                          |   | **4,445**                    | ** ** | 4,220 |   |
| Taxes  other than income taxes                        |   | **1,161**                    | ** ** | 1,201 |   |
| **Total Operating Expenses**                          |   | **88,814**                   | ** ** | 74,600 |   |
|                                                  |   |                         | ** ** |   |   |
| **Operating Income**                                  |   | **15,499**                   | ** ** | 12,461 |   |
|                                                  |   |                         | ** ** |   |   |
| **Miscellaneous - Net**                               |   | **1,479**                    | ** ** | (5,168 | ) |
| **Interest**                                          |   | **1,502**                    | ** ** | 1,505 |   |
|                                                  |   |                         | ** ** |   |   |
| **Income Before Taxes**                               |   | **15,476**                   | ** ** | 5,788 |   |
|                                                  |   |                         | ** ** |   |   |
| **Income Taxes**                                      |   | **6,070**                    | ** ** | 1,904 |   |
|                                                  |   |                         | ** ** |   |   |
| **Net Income**                                        |   | **$**                        | **9,406**  | ** ** | $ | 3,884 |   |

 

**Theaccompanying notes as they relate to The Union Light, Heat and Power Companyare an integral part of these financial statements.**

 

21

----

 

**THE UNION LIGHT, HEAT AND POWER COMPANY**

**BALANCE SHEETS**

 

**ASSETS**

 
|                                                                                                                          |   | **March 31  2003**  |        | **December  31  2002** |   |
|-------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|-------------|------------------------|--------|
|                                                                                                                          |   | **(in  thousands)** |        |
|                                                                                                                          |   | **(unaudited)**     |        |
|                                                                                                                          |   |                |        |                   |   |
| **Current Assets**                                                                                                            |   |                |        |                   |   |
| Cash  and cash equivalents                                                                                                    |   | **$**               | **7,559**   | ** **             | $      | 3,926 |   |
| Notes  receivable from affiliated companies                                                                                   |   | **9,902**           | ** **  | 13,337                 |   |
| Accounts  receivable less accumulated provision for doubtful accounts of $91 at March  31, 2003, and $84 at December 31, 2002 |   | **710**             | ** **  | 703                    |   |
| Accounts  receivable from affiliated companies                                                                                |   | **682**             | ** **  | 1,671                  |   |
| Materials,  supplies, and fuel                                                                                                |   | **3,516**           | ** **  | 8,182                  |   |
| Prepayments  and other                                                                                                        |   | **158**             | ** **  | 316                    |   |
| **Total Current Assets**                                                                                                      |   | **22,527**          | ** **  | 28,135                 |   |
|                                                                                                                          |   |                | ** **  |                   |   |
| **Property, Plant, and Equipment - at Cost**                                                                                  |   |                | ** **  |                   |   |
| Utility  plant in service                                                                                                     |   |                | ** **  |                   |   |
| Electric                                                                                                                      |   | **262,800**         | ** **  | 258,094                |   |
| Gas                                                                                                                           |   | **221,244**         | ** **  | 215,505                |   |
| Common                                                                                                                        |   | **31,629**          | ** **  | 31,679                 |   |
| **Total Utility Plant In Service**                                                                                            |   | **515,673**         | ** **  | 505,278                |   |
| Construction  work in progress                                                                                                |   | **11,482**          | ** **  | 14,745                 |   |
| **Total Utility Plant**                                                                                                       |   | **527,155**         | ** **  | 520,023                |   |
| Accumulated  depreciation                                                                                                     |   | **191,743**         | ** **  | 187,876                |   |
| **Net Property, Plant, and Equipment**                                                                                        |   | **335,412**         | ** **  | 332,147                |   |
|                                                                                                                          |   |                | ** **  |                   |   |
| **Other Assets**                                                                                                              |   |                | ** **  |                   |   |
| Regulatory  assets                                                                                                            |   | **9,678**           | ** **  | 5,134                  |   |
| Other                                                                                                                         |   | **22,309**          | ** **  | 16,811                 |   |
| **Total Other Assets**                                                                                                        |   | **31,987**          | ** **  | 21,945                 |   |
|                                                                                                                          |   |                | ** **  |                   |   |
| **Total Assets**                                                                                                              |   | **$**               | **389,926** | ** **             | $      | 382,227 |   |

 

**Theaccompanying notes as they relate to The Union Light, Heat and Power Companyare an integral part of these financial statements.**

 

22

----

**THE UNION LIGHT, HEAT AND POWER COMPANY**

**BALANCESHEETS**

 

**LIABILITIESAND SHAREHOLDER’S EQUITY**

 
|                                                                                                                                    |   | **March 31  2003**  |        | **December  31  2002** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|-------------|------------------------|--------|
|                                                                                                                                    |   | **(in  thousands)** |        |
|                                                                                                                                    |   | **(unaudited)**     |        |
|                                                                                                                                    |   |                |        |                   |   |
| **Current Liabilities**                                                                                                                 |   |                |        |                   |   |
| Accounts  payable                                                                                                                       |   | **$**               | **13,565**  | ** **             | $      | 8,816 |   |
| Accounts  payable to affiliated companies                                                                                               |   | **20,331**          | ** **  | 22,297                 |   |
| Accrued  taxes                                                                                                                          |   | **1,016**           | ** **  | 1,487                  |   |
| Accrued  interest                                                                                                                       |   | **1,217**           | ** **  | 1,226                  |   |
| Long-term  debt due within one year                                                                                                     |   | **20,000**          | ** **  | 20,000                 |   |
| Notes  payable to affiliated companies (Note 5)                                                                                         |   | **4,543**           | ** **  | 14,076                 |   |
| Other                                                                                                                                   |   | **6,658**           | ** **  | 6,368                  |   |
| **Total Current Liabilities**                                                                                                           |   | **67,330**          | ** **  | 74,270                 |   |
|                                                                                                                                    |   |                | ** **  |                   |   |
| **Non-Current Liabilities**                                                                                                             |   |                | ** **  |                   |   |
| Long-term  debt                                                                                                                         |   | **54,661**          | ** **  | 54,653                 |   |
| Deferred  income taxes                                                                                                                  |   | **47,877**          | ** **  | 43,360                 |   |
| Unamortized  investment tax credits                                                                                                     |   | **3,077**           | ** **  | 3,143                  |   |
| Accrued  pension and other postretirement benefit costs                                                                                 |   | **15,891**          | ** **  | 15,620                 |   |
| Other                                                                                                                                   |   | **14,520**          | ** **  | 14,017                 |   |
| **Total Non-Current Liabilities**                                                                                                       |   | **136,026**         | ** **  | 130,793                |   |
|                                                                                                                                    |   |                | ** **  |                   |   |
| **Total Liabilities**                                                                                                                   |   | **203,356**         | ** **  | 205,063                |   |
|                                                                                                                                    |   |                | ** **  |                   |   |
| **Common Stock Equity**                                                                                                                 |   |                | ** **  |                   |   |
| Common  stock - $15.00 par value; authorized shares - 1,000,000; outstanding shares -  585,333 at March 31, 2003, and December 31, 2002 |   | **8,780**           | ** **  | 8,780                  |   |
| Paid-in  capital                                                                                                                        |   | **23,644**          | ** **  | 23,644                 |   |
| Retained  earnings                                                                                                                      |   | **154,206**         | ** **  | 144,800                |   |
| Accumulated  other comprehensive income (loss)                                                                                          |   | **(60**             | **)**       | (60                    | )      |
| **Total Common Stock Equity**                                                                                                           |   | **186,570**         | ** **  | 177,164                |   |
|                                                                                                                                    |   |                | ** **  |                   |   |
| **Commitments and Contingencies** (Note 7)                                                                                              |   |                | ** **  |                   |   |
|                                                                                                                                    |   |                | ** **  |                   |   |
| **Total Liabilities and Shareholder’s Equity**                                                                                     |   | **$**               | **389,926** | ** **             | $      | 382,227 |   |

 

**Theaccompanying notes as they relate to The Union Light, Heat and Power Companyare an integral part of these financial statements.**

 

23

----

 

**THE UNION LIGHT, HEAT AND POWER COMPANY**

**STATEMENTSOF CASH FLOWS**

 
|                                                                                     |   | **Quarter  Ended  March 31** |       |
|------------------------------------------------------------------------------------------|--------|------------------------------|------------|
|                                                                                     |   | **2003**                     |       | **2002** |   |
|                                                                                     |   | **(in  thousands)**          |       |
|                                                                                     |   | **(unaudited)**              |       |
|                                                                                     |   |                         |       |   |   |
| **Operating Activities**                                                                 |   |                         |       |   |   |
| Net  income                                                                              |   | **$**                        | **9,406**  | ** ** | $ | 3,884 |   |
| Items  providing or (using) cash currently:                                              |   |                         | ** ** |   |   |
| Depreciation                                                                             |   | **4,445**                    | ** ** | 4,220 |   |
| Deferred  income taxes and investment tax credits - net                                  |   | **4,451**                    | ** ** | (727 | ) |
| Allowance  for equity funds used during construction                                     |   | **(85**                      | **)**      | (47 | ) |
| Regulatory  assets deferrals                                                             |   | **(33**                      | **)**      | 4,687 |   |
| Regulatory  assets amortization                                                          |   | **(22**                      | **)**      | (887 | ) |
| Accrued  pension and other postretirement benefit costs                                  |   | **271**                      | ** ** | (43 | ) |
| Deferred  costs under gas cost recovery mechanism                                        |   | **(9,372**                   | **)**      | 4,347 |   |
| Changes  in current assets and current liabilities:                                      |   |                         | ** ** |   |   |
| Accounts  and notes receivable                                                           |   | **4,417**                    | ** ** | 14,388 |   |
| Materials,  supplies, and fuel                                                           |   | **4,666**                    | ** ** | 7,272 |   |
| Prepayments                                                                              |   | **158**                      | ** ** | 150 |   |
| Accounts  payable                                                                        |   | **2,783**                    | ** ** | 3,648 |   |
| Accrued  taxes and interest                                                              |   | **(480**                     | **)**      | 1,990 |   |
| Other  assets                                                                            |   | **20**                       | ** ** | 224 |   |
| Other  liabilities                                                                       |   | **174**                      | ** ** | 397 |   |
|                                                                                     |   |                         | ** ** |   |   |
| **Net cash provided by (used in) operating activities**                                  |   | **20,799**                   | ** ** | 43,503 |   |
|                                                                                     |   |                         | ** ** |   |   |
| **Financing Activities**                                                                 |   |                         | ** ** |   |   |
| Change  in short-term debt, including net affiliate notes                                |   | **(9,533**                   | **)**      | (35,978 | ) |
|                                                                                     |   |                         | ** ** |   |   |
| **Net cash provided by (used in) financing activities**                                  |   | **(9,533**                   | **)**      | (35,978 | ) |
|                                                                                     |   |                         | ** ** |   |   |
| **Investing Activities**                                                                 |   |                         | ** ** |   |   |
| Construction  expenditures (less allowance for equity funds used during****construction) |   | **(7,633**                   | **)**      | (7,382 | ) |
| Other  investments                                                                       |   | **—**                   | ** ** | (114 | ) |
|                                                                                     |   |                         | ** ** |   |   |
| **Net cash provided by (used in) investing activities**                                  |   | **(7,633**                   | **)**      | (7,496 | ) |
|                                                                                     |   |                         | ** ** |   |   |
| **Net increase (decrease) in cash and cash equivalents**                                 |   | **3,633**                    | ** ** | 29 |   |
|                                                                                     |   |                         | ** ** |   |   |
| **Cash and cash equivalents at beginning of period**                                     |   | **3,926**                    | ** ** | 4,099 |   |
|                                                                                     |   |                         | ** ** |   |   |
| **Cash and cash equivalents at end of period**                                           |   | **$**                        | **7,559**  | ** ** | $ | 4,128 |   |
|                                                                                     |   |                         | ** ** |   |   |
| **Supplemental Disclosure of Cash Flow Information**                                     |   |                         | ** ** |   |   |
| Cash  paid during the period for:                                                        |   |                         | ** ** |   |   |
| Interest  (net of amount capitalized)                                                    |   | **$**                        | **1,437**  | ** ** | $ | 875 |   |
| Income  taxes                                                                            |   | **$**                        | **3,000**  | ** ** | $ | 1,901 |   |

 

**Theaccompanying notes as they relate to The Union Light, Heat and Power Companyare an integral part of these financial statements.**

 

24

----

 

**NOTES TOFINANCIAL STATEMENTS**

 

In this report **Cinergy** (which includes **Cinergy Corp.** and all of our regulated andnon-regulated subsidiaries) is, at times, referred to in the first person as“we”, “our”, or “us”.

 

**1.****                        Summary ofSignificant Accounting Policies**

 

**(a)*****                                  Presentation***

 

Our Financial Statementsreflect all adjustments (which include normal, recurring adjustments) necessaryin the opinion of the registrants for a fair presentation of the interimresults.  These statements should be readin conjunction with the Financial Statements and the notes thereto included inthe registrants’ combined Form 10-K for the year ended December 31, 2002 (200210-K).  Certain amounts in the 2002Financial Statements have been reclassified to conform to the 2003presentation.

 

**(b)*****                                  FinancialDerivatives***

 

We use derivativefinancial instruments to manage funding costs and exposures to fluctuations ininterest rates.

 

We account forderivatives under Statement of Financial Accounting Standards No. 133, *Accounting for Derivative Instruments and HedgingActivities* (Statement 133), which requires all derivatives that arenot exempted to be accounted for at fair value.  Changes in the derivative’s fair value must be recognizedcurrently in earnings unless specific hedge accounting criteria are met.  Gains and losses on derivatives that qualifyas hedges can (a) offset related fair value changes on the hedged item in theincome statement for fair value hedges; or (b) be recorded in othercomprehensive income for cash flow hedges. To qualify for hedge accounting, financial instruments must bedesignated as a hedge (for example, an offset of interest rate risks) at theinception of the contract and must be effective at reducing the risk associatedwith the hedged item.  Accordingly,changes in the fair values or cash flows of instruments designated as hedgesmust be highly correlated with changes in the fair values or cash flows of therelated hedged items.

 

We use interest rateswaps (an agreement by two parties to exchange fixed-interest rate cash flowsfor floating-interest rate cash flows) and treasury locks (an agreement thatfixes the yield or price on a specific treasury security for a specific period,which we sometimes use in connection with the issuance of fixed rate debt).  We account for such derivatives at fairvalue, and we assess the effectiveness of any interest rate swaps and/ortreasury locks used in hedging activities.

 

At March 31, 2003, theineffectiveness of instruments that we have classified as cash flow hedges ofvariable-rate debt instruments was not material.  Reclassification of unrealized gains or losses on cash flowhedges of debt instruments from *Accumulatedother comprehensive income (loss)* occurs as interest is accrued onthe debt instrument.  We currentlyestimate that on an after-tax basis, $5 million of unrealized losses will bereclassified as a charge to *Interest*during

 

25

----

 

the twelve-month periodending March 31, 2004.  See (j)(*iv*) below for further discussion ofStatement 133.

 

**(c)*****                                  EnergyMarketing and Trading***

 

We market and tradeelectricity, natural gas, coal, and other energy-related products.  We designate derivative transactions astrading or non-trading at the time they are originated in accordance withEmerging Issues Task Force (EITF) Issue 02-3, *IssuesInvolved in**Accounting forDerivative Contracts Held for Trading Purposes and Contracts Involved in EnergyTrading and Risk Management Activities* (EITF 02-3).  Derivatives are classified as non-tradingonly when we have the intent and projected ability to fulfill substantially allobligations from company-owned assets. Such classification is generally limited to the sale of generation tothird parties when it is not required to meet native load requirements (end-usecustomers within our public utility companies’ franchise serviceterritory).  All other energyderivatives (excluding electric, coal, and gas purchase contracts for use inserving our native load requirements) are classified as trading.  Gas trading is comprised of transactions forwhich gas is physically delivered to a customer (physical gas trading), as wellas transactions that are financial in nature for which delivery rarely occurs(financial gas trading).  Since **Cinergy** owns no gas production and haslimited transmission capabilities, all gas transactions (other than procurementand sale of gas to The Cincinnati Gas & Electric Company (**CG&E**) and to The Union Light, Heat andPower Company (**ULH&P**) retailcustomers) are considered trading whether physical or financial.  Certain gas and coal contracts do not meetthe definition of a derivative and, therefore, are not required to beclassified as trading or non-trading.

 

We account fornon-trading derivatives and non-derivative energy contracts on the accrualbasis of accounting (accrual contracts). Non-trading derivatives are accounted for as accrual only if thecontract qualifies for the normal purchases and sales scope exception inStatement 133.  We account for alltrading derivatives using the fair value method of accounting.  Under the fair value method of accounting,unrealized trading derivatives are shown at fair value in our Balance Sheets as*Energyrisk management assets* and *Energy risk management liabilities*.  All changes in fair value of such contractsare reflected as gains or losses in our Statements of Income.  In October 2002, the EITF reached aconsensus in EITF 02-3 to rescind EITF Issue 98-10, *Accounting for Contracts Involved inEnergy Trading and Risk Management Activities* (EITF 98-10).  Thisdecision required that non-derivative contracts previously accounted for atfair value be accounted for on an accrual basis, beginning January 1,2003.  See (j)(*i*) below for further discussion.

 

In 2003, we beganreflecting realized and unrealized gains and losses on trading derivatives on anet basis in *Operating Revenues* pursuantto the requirements of EITF 02-3, regardless of whether the transactions weresettled physically.  Prior to 2003, therealized results for trading contracts that were physical in nature werepresented as either (a) *Operating Revenues*,**if sales contracts**or (b)*Fuel and purchased and exchanged power* expense or *Gas purchased* expense, if purchasecontracts.  The presentation for 2002has been reclassified to conform to the new presentation.  Non-trading derivatives, as well assubstantially all energy marketing contracts that are not derivatives, arepresented on a gross basis in *OperatingRevenues* or *Fuel and purchasedand exchanged power* expense. (For more information see Note 3).

 

26

----

 

Although we intend tosettle accrual contracts with company-owned assets, occasionally we settlethese contracts with purchases on the open trading markets.  The cost of these purchases could be inexcess of the associated revenues.  Werecognize the gains or losses on these transactions as delivery occurs.  Due to the infrequency of such settlements,both historical and projected, and the fact that physical settlement to thecustomer still occurs, we continue to apply the normal purchases and salesexemption to such physical contracts that constitute derivatives.  Open market purchases may occur for thefollowing reasons:

 

•                  generatingstation outages;

•                  least-costalternative;

•                  nativeload requirements; and

•                  extremeweather.

 

We anticipate that someof the electricity obligations, even though considered trading derivatives,will ultimately be settled using company-owned generation.  The variable cost of this generation isusually below the market price at which the trading portfolio has been valued.  The potential for earnings volatility fromperiod to period is increased due to the risks associated with marketing andtrading electricity, natural gas, and other energy-related products.

 

We value tradingderivatives using end-of-the-period fair values, utilizing the followingfactors (as applicable):

 

•                  closingexchange prices (that is, closing prices for standardized electricity andnatural gas products traded on an organized exchange, such as the New YorkMercantile Exchange);

•                  broker-dealerand over-the-counter price quotations; and

•                  modelpricing (which considers time value and historical volatility factors ofelectricity and natural gas).

 

**(d)*****                                  Inventory***

 

Prior to January 1, 2003,natural gas inventory for our domestic gas trading operation, Cinergy Marketing& Trading, LP (Marketing & Trading) was accounted for at fairvalue.  All other inventory wasaccounted for at the lower of cost or market, cost being determined through theweighted average method.  EffectiveJanuary 1, 2003, accounting for Marketing & Trading’s gas inventory wasadjusted to the lower of cost or market method with a cumulative effectadjustment, as required by EITF 02-3. See (j)(*i*) below foradditional discussion of the impacts of adopting EITF 02-3.

 

**(e)*****                                  IntangibleAssets***

 

Goodwill and otherintangibles with indefinite lives are not amortized.  Goodwill is assessed for impairment annually, or whencircumstances indicate that the fair value of a reporting unit has declinedsignificantly, by applying a fair-value-based test.  This test is applied at the “reporting unit” level, which is notbroader than the current business segments discussed in Note 8.  Acquired intangible assets are separatelyrecognized if the benefit of the intangible asset is

 

27

----

 

obtained throughcontractual or other legal rights, or if the intangible asset can be sold,transferred, licensed, rented, or exchanged, regardless of intent to do so.

 

**(f)*****                                    Impairmentof Long-lived Assets***

 

We evaluate long-livedassets for impairment when events or changes in circumstances indicate that thecarrying value of such assets may not be recoverable.  So long as an asset or group of assets is not held for sale, thedetermination of whether an impairment has occurred is based on an estimate ofundiscounted future cash flows attributable to the assets, as compared with thecarrying value of the assets.  If animpairment has occurred, the amount of the impairment recognized is determinedby estimating the fair value of the assets and recording a provision for animpairment loss if the carrying value is greater than the fair value.  Once assets are classified as held for sale,the comparison of undiscounted cash flows to carrying value is disregarded andan impairment loss is recognized for any amount by which the carrying valueexceeds the fair value of the assets.

 

**Cinergy**has classified certain non-core investments as held for sale.  The results of operations for theseinvestments are presented as *Discontinuedoperations, net of tax* in our financial statements.

 

**(g)*****                                 Stock-BasedCompensation***

 

We have historicallyaccounted for our stock-based compensation plans using the intrinsic valuemethod under Accounting Principles Board (APB) Opinion No. 25, *Accounting for Stock Issued to Employees*(APB 25).  Effective January 1, 2003, **Cinergy** adopted prospectively the fairvalue recognition provisions of Statement of Financial Accounting Standards No.123, *Accounting for Stock-Based Compensation*(Statement 123), as amended by Statement of Financial AccountingStandards No. 148, *Accounting forStock-Based Compensation—Transition and Disclosure* (Statement 148),for all employee awards granted or modified after January 1, 2003.  The following table illustrates the effecton our *Net Income* and *Earnings Per Common Share* (EPS) if thefair value based method had been applied to all outstanding and unvested awardsin each period.

 

28

----

 

|                                 |                                                                                                                            | **Quarter  Ended March 31**                   |       |
|--------------------------------------|---------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------|------------|
|                                 |                                                                                                                            | **(in  millions, except per share  amounts)** |       |
|                                 |                                                                                                                            | **2003**                                      |       | **2002** |   |
|                                 |                                                                                                                            |                                          |       |   |   |
| Net  income, as reported             |                                                                                                                            | **$**                                         | **166**    | ** ** | $ | 85 |   |
|                                 |                                                                                                                            |                                          | ** ** |   |   |
| Add:                                 | Stock-based employee compensation expense included  in reported net income, net of related tax effects.                         |                                          | **4**      | ** ** | 3 |   |
|                                 |                                                                                                                            |                                          | ** ** |   |   |
| Deduct:                              | Stock-based employee compensation expense determined  under fair value based method for all awards, net of related tax effects. |                                          | **5**      | ** ** | 3 |   |
|                                 |                                                                                                                            |                                          | ** ** |   |   |
| Pro-forma  net income                |                                                                                                                            | **$**                                         | **165**    | ** ** | $ | 85 |   |
|                                 |                                                                                                                            |                                          | ** ** |   |   |
| EPS  - as reported                   |                                                                                                                            | **$**                                         | **0.96**   | ** ** | $ | 0.52 |   |
| EPS  - pro-forma                     |                                                                                                                            | **$**                                         | **0.95**   | ** ** | $ | 0.52 |   |
|                                 |                                                                                                                            |                                          | ** ** |   |   |
| EPS  Assuming Dilution - as reported |                                                                                                                            | **$**                                         | **0.95**   | ** ** | $ | 0.52 |   |
| EPS  Assuming Dilution - pro-forma   |                                                                                                                            | **$**                                         | **0.94**   | ** ** | $ | 0.52 |   |

 

The pro-forma amountsreflect certain assumptions used in estimating fair values.  As a result of this and other factors whichmay effect the timing and amounts of stock-based compensation, the pro-formaeffect on *Net Income* and EPS maynot be representative of future periods.

 

**(h)*****                                 AssetRetirement Obligations***

 

We recognize the fairvalue of legal obligations associated with the retirement or removal oflong-lived assets at the time the obligations are incurred.  The initial recognition of this liability isaccompanied by a corresponding increase in property, plant, and equipment.  Subsequent to the initial recognition, theliability is adjusted for any revisions to the expected cash flows of theretirement obligation (with corresponding adjustments to property, plant, andequipment), and for accretion of the liability due to the passage of time(recognized as an operation expense). Additional depreciation expense is recorded prospectively for anyproperty, plant, and equipment increases.

 

We do not recognizeliabilities for asset retirement obligations for which the fair value cannot bereasonably estimated.  **CG&E** and PSI Energy, Inc. (**PSI**) have asset retirement obligationsassociated with river structures at certain generating stations.  However, the retirement date for these riverstructures cannot be determined; therefore, the fair value of the associatedliability currently cannot be estimated and no amounts are recognized in thefinancial statements herein.

 

Effective with ouradoption of Statement of Financial Accounting Standards No. 143, *Accounting for Asset Retirement Obligations*(Statement 143), on January 1, 2003, we do not accrue the estimated cost ofremoval when no obligation exists for any of our non-regulated assets, even ifremoval of the asset is likely.  For ourrate-regulated assets where our tariff rate

 

29

----

 

includes a cost ofremoval component, we recognize a charge for estimated cost of removal underStatement of Financial Accounting Standards No. 71, *Accounting for the Effects of Certain Types of Regulation*(Statement71), as part of depreciation.  Thisincludes most assets for **PSI**, **CG&E**, except for its generating assets,and **ULH&P**.  See (j)(*iii*)for additional information.

 

**(i)*****                                    OperatingRevenues***

 

Our operating companiesrecord *Operating revenues* forelectric and gas service when delivered to customers.  Customers are billed throughout the month as both gas andelectric meters are read.  We recognizerevenues for retail energy sales that have not yet been billed, but where gasor electricity has been consumed.  Thisis termed “unbilled revenue” and is a widely recognized and accepted practicefor utilities.  In making our estimatesof unbilled revenue, we use complex systems that consider various factors,including weather, in our calculation of retail customer consumption at the endof each month.  Given the use of thesesystems and the fact that customers are billed monthly, we believe it isunlikely that materially different results will occur in future periods whenrevenue is subsequently billed.

 

The amount of unbilledrevenues for **Cinergy**, **CG&E**, **PSI**,and **ULH&P** as of March 31, 2003and 2002, were as follows:

 

|                         |   | **2003**           |       | **2002**   |   |
|------------------------------|--------|--------------------|------------|------------|--------|
|                         |   | **(in  millions)** |       |
|                         |   |               |       |       |   |
| **Cinergy**                  |   | **$**              | **119**    | ** ** | $      | 123 |   |
| **CG&E**and subsidiaries |   | **67**             | ** ** | 68         |   |
| **PSI**                      |   | **52**             | ** ** | 55         |   |
| **ULH&P**                |   | **12**             | ** ** | 11         |   |
|                              |        |                    |            |            |        |  |  |

 

**(j)*****                                    AccountingChanges***

 

*(i)**                    Energy Trading*

 

In October 2002, the EITFreached consensus in EITF 02-3, to (a) rescind EITF 98-10, (b) generallypreclude the recognition of gains at the inception of new derivatives, and (c)require all realized and unrealized gains and losses on energy tradingderivatives to be presented net in the Statements of Income, whether or notsettled physically.  The consensus torescind EITF 98-10 required most energy trading contracts that do not qualifyas derivatives to be accounted for on an accrual basis, rather than at fairvalue.  The consensus was immediatelyeffective for all new contracts executed after October 25, 2002, and required acumulative effect adjustment to income, net of tax, on January 1, 2003, for allcontracts executed on or prior to October 25, 2002.  The cumulative effect adjustment, on a net of tax basis, was aloss of $13 million for **Cinergy**and $8 million for **CG&E**, whichincludes primarily the impact of certain coal contracts, gas inventory, andcertain gas contracts, which were all accounted for at fair value.  We expect the ongoing impact of thisrescission to have the largest impact on our gas trading business, which usesfinancial contracts, physical contracts, and gas inventory to take advantage ofvarious arbitrage opportunities.  Priorto the rescission of EITF 98-10, all of these activities were

 

30

----

 

accounted for at fairvalue.  Under the revised guidance, onlycertain items are accounted for at fair value, which could increase volatilityin reported results of operations.

 

The consensus to requireall gains and losses on energy trading derivatives to be presented net in theStatements of Income was effective January 1, 2003, and requiredreclassification for all periods presented. This resulted in substantial reductions in reported *Operating Revenues, Fuel and purchased and exchangedpower*expense, and *Gas purchased*expense.  However, *Operating Income* and *Net Income* were not affected by thischange.  See Note 3 for additionalinformation.

 

*(ii)**                BusinessCombinations and Intangible Assets*

 

In June 2001, theFinancial Accounting Standards Board (FASB) issued Statement of FinancialAccounting Standards No. 141, *BusinessCombinations* (Statement 141), and No. 142, *Goodwill and Other Intangible Assets*(Statement 142).  Statement 141 requiresall business combinations initiated after June 30, 2001, to be accounted forusing the purchase method.  With theadoption of Statement 142, goodwill and other intangibles with indefinite liveswill no longer be subject to amortization. Statement 142 requires that goodwill be assessed for impairment uponadoption (transition impairment test) and at least annually thereafter byapplying a fair-value-based test, as opposed to the undiscounted cash flow testapplied under prior accounting standards. This test must be applied at the “reporting unit” level, which is notpermitted to be broader than the current business segments discussed in Note8.  Under Statement 142, an acquiredintangible asset should be separately recognized if the benefit of the intangibleasset is obtained through contractual or other legal rights, or if theintangible asset can be sold, transferred, licensed, rented, or exchanged,regardless of the acquirer’s intent to do so.

 

We began applyingStatement 141 in the third quarter of 2001 and Statement 142 in the firstquarter of 2002.  The discontinuance ofamortization of goodwill, which began in the first quarter of 2002, was notmaterial to our financial position or results of operations.  We finalized our transition impairment testin the fourth quarter of 2002 and have recognized a non-cash impairment chargeof approximately $11 million (net of tax) for goodwill related to certain ofour international assets.  This amountis reflected in **Cinergy’s**Statementsof Income as a *Cumulative effect of a changein accounting principles, net of tax*.  While Statement 142 did not require the initial transitionimpairment test to be completed until December 31, 2002, it required atransition impairment charge to be reflected as of January 1, 2002.  We will continue to perform goodwillimpairment tests annually, as required by Statement 142, or when circumstancesindicate that the fair value of a reporting unit has declined significantly.

 

*(iii)**            Asset RetirementObligations*

 

In July 2001, the FASBissued Statement 143, which requires fair value recognition beginning January1, 2003, of legal obligations associated with the retirement or removal oflong-lived assets, at the time the obligations are incurred.  The initial recognition of this liability isaccompanied by a corresponding increase in property, plant, and equipment.  Subsequent to the initial recognition, theliability is adjusted for any revisions to the expected cash flows of theretirement obligation (with corresponding adjustments to property, plant, andequipment), and

 

31

----

 

for accretion of theliability due to the passage of time (recognized as an operation expense).  Additional depreciation expense is recordedprospectively for any property, plant, and equipment increases.

 

We previously accruedcosts of removal on many long-lived assets through depreciation expense if webelieved removal of the assets at the end of their useful life was likely.  The Securities and Exchange Commission (SEC)staff has interpreted Statement 143 to disallow the accrual of estimated costof removal when no obligation exists under Statement 143, even if removal ofthe asset is likely.  As a result, allaccumulated cost of removal for our non-regulated assets, primarily **CG&E’s** generation assets, was reversedupon adoption.  However, accrued cost ofremoval for rate-regulated assets is recoverable through our rates as acomponent of depreciation.  SinceStatement 71 applies, accruing estimated cost of removal continues to beacceptable.  As a result, accumulatedcost of removal was not reversed upon adoption of Statement 143 for therate-regulated assets of **PSI**, **CG&E**, and **ULH&P**.

 

We adopted Statement 143on January 1, 2003, and **Cinergy**and**CG&E** both recognized a gain of$39 million (net of tax) for the cumulative effect of this change in accountingprinciple.  Substantially all of thisadjustment reflects the reversal of previously accrued cost of removal for **CG&E’s** generating assets, which do notapply Statement 71.  *Accumulated Depreciation* at adoption includes$316 million, $25 million, and $146 million of accumulated cost of removalrelated to **PSI’s**, **ULH&P’s**, and **CG&E’s**utility plant in service assets, respectively,which represent regulatory liabilities and were not included as part of thecumulative effect adjustment.  Theincreases in assets and liabilities from adopting Statement 143 were notmaterial to our financial position.

 

Pro-forma results as ifStatement 143 was applied retroactively for the years ended December 31, 2002,2001, and 2000 and the quarter ended March 31, 2002 are not materiallydifferent from reported results.

 

*(iv)**              Derivatives*

 

During 1998, the FASBissued Statement 133.  This standard waseffective for **Cinergy**beginning in2001, and requires us to record derivative instruments, which are not exemptunder certain provisions of Statement 133, as assets or liabilities, measuredat fair value (i.e., mark-to-market). Our financial statements reflect the adoption of Statement 133 in thefirst quarter of 2001.  Since many ofour derivatives were previously required to use fair value accounting, theeffects of implementation were not material.

 

In May 2003, the FASBissued Statement of Financial Accounting Standards No. 149, *Amendment of Statement 133 on Derivative Instrumentsand Hedging Activities* (Statement 149).  Statement 149 primarily amends Statement 133 to incorporateimplementation conclusions previously cleared by the FASB staff, to clarify thedefinition of a derivative and to require derivative instruments that includeup-front cash payments to be classified as a financing activity in thestatement of cash flows.  Implementationissues that have been previously cleared by the FASB staff will continue to beapplied in accordance with their respective effective dates at the time thatthey were cleared and new guidance has varying implementation provisions, noneof

 

32

----

 

which will apply untilthe third quarter of 2003.  We havebegun to evaluate the impacts of adopting Statement 149 but are currentlyunable to determine whether the impacts will be material to our results ofoperations or financial position.

 

There has been recent discussion about the use ofbroad market indices (e.g., consumer price index) in power sales contracts andwhether such indices disqualify capacity contracts that otherwise qualify forthe use of the normal purchases and sales scope exception.  In April 2003, the FASB staff provided someproposed clarifications on this issue. This guidance is currently open for public comment.  We expect this guidance to be finalizedsometime during the summer of 2003, with a proposed effective date for **Cinergy** of October 1, 2003.  We are unable to determine whether theimpact of this recent interpretation would be material to our results ofoperations or financial position until the FASB staff finalizes its guidance.

 

*(v)**                  Exit Activities*

 

In August 2002, the FASBissued Statement of Financial Accounting Standards No. 146, *Accounting for Costs Associated with Exit or DisposalActivities* (Statement 146). Statement 146 addresses accounting and reporting for the recognition ofexit costs, including, but not limited to, one-time employee benefitterminations, contract cancellations, and facility consolidations.  This statement requires that such costs berecognized only when they meet the definition of a liability under generallyaccepted accounting principles. However, Statement 146 applies only to exit activities initiated in 2003and after.  All costs recorded throughDecember 31, 2002, were unaffected by this pronouncement.  The impact of adoption on our financialposition and results of operations was not material.

 

*(vi)**              Accounting forStock-Based Compensation*

 

We have historicallyaccounted for our stock-based compensation plans under APB 25.  InJuly 2002, **Cinergy** announced thatit would adopt Statement 123 for all employee awards granted or modified afterJanuary 1, 2003, and would begin measuring the compensation cost of stock-basedawards under the fair value method.  InDecember 2002, the FASB issued Statement 148, which amends Statement 123 andAPB Opinion No. 28, *Interim Financial Reporting*. Statement 148 provides alternative methods of transition to Statement123 and more expanded disclosures about the method of accounting forstock-based employee compensation and the effect of the method used on reportedresults in both annual and interim financial statements.  **Cinergy**adoptedStatement 148 on January 1, 2003, and has adopted the transition provisionsthat require expensing options prospectively beginning in the year ofadoption.  Awards granted prior toJanuary 1, 2003, will continue to follow the intrinsic value method prescribedby APB 25.  The impact of adoption onour financial position and results of operations, assuming award levels andfair values similar to past years, is not material.  This change will primarily impact the accounting for stockoptions and other performance based awards related to the Cinergy Corp. 1996Long-Term Incentive Compensation Plan, the Cinergy Corp. Employee StockPurchase and Savings Plan, and the Cinergy Corp. Stock Option Plan.

 

33

----

 

*(vii)**          Consolidation of SpecialPurpose Entities (SPE)*

 

The FASB issuedInterpretation No. 46, *Consolidation ofVariable Interest Entities* in January 2003.  This interpretation will significantly changethe consolidation requirements for SPEs. We have begun reviewing the impact of this interpretation but have notyet concluded whether consolidation of certain SPEs will be required.  There are two SPEs for which consolidationmay be required.  These SPEs haveindividual power sale agreements to an unrelated third party for approximately45 megawatts (MW) of capacity, ending in 2009, and 35 MW of capacity, ending in2016.  In addition, the SPEs haveindividual power purchase agreements with Cinergy Capital & Trading, Inc.(Capital & Trading) to supply the power. Capital & Trading also provides various services, including certaincredit support facilities.

 

**Cinergy’s**quantifiable exposure to loss as a result of involvement with these two SPEs is$28 million, which includes investments in these entities of $3 million andexposure under the capped credit facilities of approximately $25 million.  There is also a non-capped facility, but itcan only be called upon in the event the SPE breaches representations, violatescovenants, or other unlikely events.

 

If appropriate,consolidation of all assets and liabilities of these two SPEs, at theircarrying values, will be required in the third quarter of 2003.  Approximately $225 million of non-recoursedebt would be included in **Cinergy’s**Balance Sheet upon initial consolidation. However, the impact on results of operations would be expected to beimmaterial.

 

**Cinergy**believes that its accounts receivable sale facility, as discussed in the 200210-K, would remain unconsolidated since it involves transfers of financialassets to a qualifying SPE, which is exempted from consolidation by Statementof Financial Accounting Standards No. 140, *Accountingfor Transfers and Servicing of Financial Assets and Extinguishments ofLiabilities* and this interpretation.

 

34

----

 

*(viii)**      Cumulative effect of achange in accounting principles, net of tax*

 

The following tablesummarizes the various cumulative effect adjustments (net of tax) discussedabove for the rescission of EITF 98-10, and the adoption of Statement 142 andStatement 143:

 

|                                                  |   | **Quarter  Ended March 31** |       |
|-------------------------------------------------------|--------|-----------------------------|------------|
|                                                  |   | **2003**                    |       | **2002** |   |
|                                                  |   | **(in  thousands)**         |       |
|                                                  |   |                        |       |   |   |
| **Cinergy(1)**                                        |   |                        |       |   |   |
| Goodwill  impairment (Statement 142 adoption)         |   | **$**                       | **—** | ** ** | $ | (10,899 | ) |
| Rescission  of EITF 98-10 (EITF 02-3 adoption)        |   | **(12,512**                 | **)**      | — |   |
| Asset  retirement obligation (Statement 143 adoption) |   | **38,974**                  | ** ** | — |   |
|                                                  |   | **26,462**                  |       | (10,899 | ) |
|                                                  |   |                        | ** ** |   |   |
| **CG&E**                                          |   |                        | ** ** |   |   |
| Rescission  of EITF 98-10 (EITF 02-3 adoption)        |   | **(8,239**                  | **)**      | — |   |
| Asset  retirement obligation (Statement 143 adoption) |   | **39,177**                  | ** ** | — |   |
|                                                  |   | **30,938**                  |       | — |   |
| **PSI**                                               |   |                        | ** ** |   |   |
| Rescission  of EITF 98-10 (EITF 02-3 adoption)        |   | **(494**                    | **)**      | — |   |
|                                                  |   | **(494**                    | **)**      | — |   |
|                                                       |        |                             |            |  |  |  |  |

 

----

| (1) |  The results of **Cinergy** also include amounts related to non-registrants. |
|-----|-----------------------------------------------------------------------------------|

 

**2.****                        CommonStock**

 

As discussed in the 200210-K, **Cinergy** currently issues new**Cinergy Corp.** common stock sharesto satisfy obligations under its various employee stock plans and the CinergyCorp. Direct Stock Purchase and Dividend Reinvestment Plan.  During the first quarter of 2003, **Cinergy** issued approximately 1.5 millionshares under these plans.

 

On January 15, 2003, **Cinergy Corp.** filed a registrationstatement with the SEC with respect to the issuance of common stock, preferredstock, and other securities in an aggregate offering amount of $750million.  On February 5, 2003, **Cinergy** sold 5.7 million shares of commonstock of **Cinergy Corp.** with netproceeds of approximately $175 million under this registration statement.  The net proceeds from the transaction wereused to reduce short-term debt of **CinergyCorp.** and for other general corporate purposes.

 

**3.****                        Change inMethod of Revenue Presentation for Energy Trading Derivatives**

 

In October 2002, the EITFreached consensus in EITF 02-3 to require all realized and unrealized gains andlosses on energy trading derivatives to be presented net in the Statements ofIncome, whether or not settled physically. This consensus was effective beginning January 1, 2003, and requiredreclassification for the quarter ended March 31, 2002.

 

35

----

 

We have reclassifiedamounts in our Statements of Income in accordance with EITF 02-3.  The table below presents the effect of thechange in revenue presentation on *OperatingRevenues, Fuel and purchased and exchanged power*expense, and*Gas purchased*expense for the quarterended March 31, 2002.  *Operating Income* and *Net Income* were not affected by thischange.

 
|                                                                     |   | **Cinergy(1)**      |      | **CG&E  and subsidiaries** |   | **PSI**  |   |
|--------------------------------------------------------------------------|--------|---------------------|-----------|--------------------------------|--------|----------|--------|
|                                                                     |   | **(in  thousands)** |      |
|                                                                     |   |                |      |                           |   |     |   |
| *Electric Operating Revenues* as  previously reported                    |   | $                   | 1,283,424 |                           | $      | 635,886  |   | $ | 629,844 |   |
|                                                                     |   |                |      |                           |   |     |   |
| Adjustment  for effect of EITF 02-3 implementation                       |   | (492,921            | )         | (237,767                       | )      | (263,443 | )      |
| Other(2)                                                                 |   | (11,127             | )         | —                         |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Electric Operating Revenues* as adjusted                                |   | 779,376             |      | 398,119                        |   | 366,401  |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Gas Operating Revenues* as previously  reported                         |   | 903,261             |      | 179,609                        |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| Adjustment  for effect of EITF 02-3 implementation                       |   | (713,197            | )         | —                         |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Gas Operating Revenues* as adjusted                                     |   | 190,064             |      | 179,609                        |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Fuel and purchased and exchanged power*  expense as previously reported |   | 727,547             |      | 345,015                        |   | 386,492  |   |
|                                                                     |   |                |      |                           |   |     |   |
| Adjustment  for effect of EITF 02-3 implementation                       |   | (492,921            | )         | (237,767                       | )      | (263,443 | )      |
| Other(2)                                                                 |   | (5,336              | )         | —                         |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Fuel and purchased and exchanged power*  expense as adjusted            |   | 229,290             |      | 107,248                        |   | 123,049  |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Gas purchased* expense as previously  reported                          |   | 823,077             |      | 107,968                        |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| Adjustment  for effect of EITF 02-3 implementation                       |   | (713,197            | )         | —                         |   | —   |   |
|                                                                     |   |                |      |                           |   |     |   |
| *Gas purchased* expense as adjusted                                      |   | 109,880             |      | 107,968                        |   | —   |   |
|                                                                          |        |                     |           |                                |        |          |        |  |  |  |

 
|     |
|-----|
| (1) | The results of **Cinergy** also include amounts related to  non-registrants and include the elimination of certain intercompany amounts. |
| (2) | Item represents amounts  reclassified to *Discontinued operations,  net of tax*. |

 

**4.****                                      Long-termDebt**

 

In October 2002, **PSI** filed a petition with the IndianaUtility Regulatory Commission (IURC) for the purpose of securing authorizationand approval to issue two subordinated promissory notes to **Cinergy Corp.** for the acquisition of theButler County, Ohio and Henry County, Indiana peaking plants.  In January 2003, the IURC granted thisrequest, and in February 2003, **PSI**issued the notes.  One subordinated notewas for the principal amount of $200 million with an annual interest rate of6.302% and will mature on April 15, 2004. The second subordinated note was for $176 million with an annualinterest rate of 6.403% and will mature on September 1, 2004.

 

36

----

 

On March7, 2003, **PSI** borrowed theproceeds from the issuance by the Indiana Development Finance Authority of $35million of its Environmental Refunding Revenue Bonds Series 2003,due April 1, 2022.  Interest wasinitially set at 1.05% and will reset every 35 days by auction. The bondsare not putable by the holders; therefore, **PSI’s**debt obligation is classified as *Long-termdebt*.  On March 28, 2003, theproceeds from this borrowing plus the interest income earned wereused to cause the refunding of the $35 million principal amountoutstanding of the City of Princeton, Indiana Pollution Control RevenueRefunding Bonds, 1997 Series.

 

On April 25, 2003, **PSI** redeemed $26.8 million of the followingSeries A, Medium-term Notes:

 

| **Principal Amount** |   | **Interest  Rate** |   | **Maturity  Date** |   |
|----------------------|--------|--------------------|--------|--------------------|--------|
| **(in millions)**    |   |               |   |               |   |
|                 |   |               |   |               |   |
| $2.0                 |   | 8.37               | %      | 11/08/2006         |   |
| 5.0                  |   | 8.81               |   | 05/16/2022         |   |
| 3.0                  |   | 8.80               |   | 05/18/2022         |   |
| 16.8                 |   | 8.67               |   | 06/01/2022         |   |

 

**5.****                        NotesPayable and Other Short-term Obligations**

 

At March 31, 2003, **Cinergy Corp.** had $796 million remainingunused and available capacity relating to its $1 billion revolving creditfacilities.  These revolving creditfacilities included the following:

 

| **Credit Facility**          |   | **Expiration** |   | **Established  Lines** |   | **Outstanding  and  Committed** |   | **Unused and  Available** |   |
|------------------------------|--------|----------------|--------|------------------------|--------|---------------------------------|--------|---------------------------|--------|
|                         |   |           |   | **(in  millions)**     |   |
|                         |   |           |   |                   |   |                            |   |                      |   |
| 364-day  senior revolving    |   | April 2003     |   |                   |   |                            |   |                      |   |
| Direct  borrowing            |   |           |   | $                      |   |                            | $      | —                    |   | $ |   |   |
| Commercial  paper support    |   |           |   |                   |   | 193                             |   |                      |   |
|                         |   |           |   |                   |   |                            |   |                      |   |
| Total  364-day facility      |   |           |   | 600                    |   | 193                             |   | 407                       |   |
|                         |   |           |   |                   |   |                            |   |                      |   |
| Three-year  senior revolving |   | May 2004       |   |                   |   |                            |   |                      |   |
| Direct  borrowing            |   |           |   |                   |   | —                          |   |                      |   |
| Commercial  paper support    |   |           |   |                   |   | —                          |   |                      |   |
| Letter  of Credit support    |   |           |   |                   |   | 11                              |   |                      |   |
|                         |   |           |   |                   |   |                            |   |                      |   |
| Total  three-year facility   |   |           |   | 400                    |   | 11                              |   | 389                       |   |
|                         |   |           |   |                   |   |                            |   |                      |   |
| Total  credit facilities     |   |           |   | $                      | 1,000  |                            | $      | 204                       |   | $ | 796 |   |

 

In April 2003, **Cinergy Corp.** successfully placed a $600million, 364-day senior unsecured revolving credit facility.  This facility replaces a $600 million,364-day facility that expired April 30, 2003.

 

37

----

 

The following tablesummarizes our *Notes payable and othershort-term obligations*, and *Notespayable to affiliated companies*.

 

|                             |   | **March 31,  2003**    |       | **December  31, 2002** |       |
|----------------------------------|--------|------------------------|------------|------------------------|------------|
|                             |   | **Established  Lines** |       | **Outstanding**        |       | **Established  Lines** |   | **Outstanding** |   |
|                             |   | **(in  millions)**     |       |
| **Cinergy**                      |   |                   |       |                   |       |   |   |   |   |
| **Cinergy Corp.**                |   |                   |       |                   |       |   |   |   |   |
| Revolving  lines                 |   | **$**                  | **1,000**  | ** **             | **$**      | **—** | ** ** | $ | 1,000 |   | $ | 25 |   |
| Uncommitted  lines (1)           |   | **65**                 | ** ** | **—**             | ** ** | 65 |   | — |   |
| Commercial  paper (2)            |   |                   | ** ** | **193**                | ** ** |   |   | 473 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Operating  companies             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Uncommitted  lines (1)           |   | **75**                 | ** ** | **—**             | ** ** | 75 |   | — |   |
| Pollution  control notes         |   |                   | ** ** | **112**                | ** ** |   |   | 147 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Non-regulated  subsidiaries      |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Revolving  lines                 |   | **8**                  | ** ** | **1**                  | ** ** | 7 |   | 1 |   |
| Short-term  debt                 |   | **22**                 | ** ** | **22**                 | ** ** | 22 |   | 22 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **Cinergy Total**                |   |                   | ** ** | **$**                  | **328**    | ** ** |   |   | $ | 668 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **CG&E****and subsidiaries** |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Uncommitted  lines (1)           |   | **$**                  | **15**     | ** **             | **$**      | **—** | ** ** | $ | 15 |   | $ | — |   |
| Pollution  control notes         |   |                   | ** ** | **112**                | ** ** |   |   | 112 |   |
| Money  pool                      |   |                   | ** ** | **3**                  | ** ** |   |   | 9 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **CG&E Total**               |   |                   | ** ** | **$**                  | **115**    | ** ** |   |   | $ | 121 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **PSI**                          |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Uncommitted  lines (1)           |   | **$**                  | **60**     | ** **             | **$**      | **—** | ** ** | $ | 60 |   | $ | — |   |
| Pollution  control notes         |   |                   | ** ** | **—**             | ** ** |   |   | 35 |   |
| Money  pool                      |   |                   | ** ** | **230**                | ** ** |   |   | 138 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **PSI Total**                    |   |                   | ** ** | **$**                  | **230**    | ** ** |   |   | $ | 173 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **ULH&P**                    |   |                   | ** ** |                   | ** ** |   |   |   |   |
| Money  pool                      |   |                   | ** ** | **$**                  | **5**      | ** ** |   |   | $ | 14 |   |
|                             |   |                   | ** ** |                   | ** ** |   |   |   |   |
| **ULH&P Total**              |   |                   | ** ** | **$**                  | **5**      | ** ** |   |   | $ | 14 |   |

 

----

| (1) | Outstanding amounts may  be greater than established lines as uncommitted lenders are, at times,  willing to loan funds in excess of the established lines. |
|-----|-------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) | The commercial paper  program is limited to $800 million and is supported by **Cinergy Corp.’s** revolving lines.                                      |

 

In our credit facilities,**Cinergy Corp.** has covenanted tomaintain:

 

•                  aconsolidated net worth of $2 billion; and

•                  aratio of consolidated indebtedness to consolidated total capitalization not inexcess of 65 percent.

 

38

----

 

A breach of thesecovenants could result in the termination of the credit facilities and theacceleration of the related indebtedness. In addition to breaches of covenants, certain other events that couldresult in the termination of available credit and acceleration of the relatedindebtedness include:

 

•                  bankruptcy;

•                  defaultsin the payment of other indebtedness; and

•                  judgmentsagainst the company that are not paid or insured.

 

The latter two events,however, are subject to dollar-based materiality thresholds.

 

**6.****                        EnergyTrading Credit Risk**

 

**Cinergy’s**extension of credit for energy marketing and trading is governed by a CorporateCredit Policy.  Written guidelinesdocument the management approval levels for credit limits, evaluation ofcreditworthiness, and credit risk mitigation procedures.  Exposures to credit risks are monitoreddaily by the Corporate Credit Risk function. As of March 31, 2003, approximately 98 percent of the credit exposurerelated to energy trading and marketing activity was with counterparties ratedInvestment Grade or the counterparties’ obligations were guaranteed by a parentcompany or other entity rated Investment Grade.  No single non-investment grade counterparty accounts for morethan one percent of our total credit exposure. Energy commodity prices can be extremely volatile and the market can, attimes, lack liquidity.  Because of theseissues, credit risk for energy commodities is generally greater than with othercommodity trading.

 

We continually review andmonitor our credit exposure to all counterparties and secondarycounterparties.  If appropriate, we mayadjust our credit reserves to attempt to compensate for increased credit riskwithin the industry.  Counterpartycredit limits may be adjusted on a daily basis in response to changes in acounterparty’s creditworthiness, financial status, or public debt ratings.

 

**7.****                        Commitmentsand Contingencies**

 

**(a)*****                                  Guarantees***

 

In the ordinary course ofbusiness, **Cinergy**enters intovarious agreements providing financial or performance assurances to thirdparties on behalf of certain unconsolidated subsidiaries and jointventures.  These agreements are enteredinto primarily to support or enhance the creditworthiness otherwise attributedto these entities****on a stand-alonebasis, thereby facilitating the extension of sufficient credit to accomplishtheir intended commercial purposes.  Theguarantees have various termination dates, from short-term (less than one year)to open-ended.

 

In many cases, themaximum potential amount of an outstanding guarantee is an express term, setforth in the guarantee agreement, representing the maximum potential obligationof **Cinergy**under that guarantee(excluding, at times, certain legal fees to which a guaranty beneficiary may beentitled).  In those cases where thereis no maximum potential amount expressly set forth in

 

39

----

 

the guarantee agreement,we calculate the maximum potential amount by considering the terms of theguaranteed transactions, to the extent such amount is estimable.

 

**Cinergy**hasguaranteed the payment of $33 million as of March 31, 2003, for unconsolidatedsubsidiaries’ debt and for borrowings by individuals under the Director,Officer, and Key Employee Stock Purchase Program.  **Cinergy**may beobligated to pay the debt’s principal and any related interest in the event ofan unexcused breach of a guaranteed payment obligation by the unconsolidatedsubsidiary or an unexcused breach of guaranteed payment obligations by certaindirectors, officers, and key employees. The majority of these guarantees expire in two years.

 

**CinergyCorp.** has also provided performance guarantees on behalf ofcertain unconsolidated subsidiaries and joint ventures.  These guarantees support performance undervarious agreements and instruments (such as construction contracts, operationand maintenance agreements and energy service agreements).  **CinergyCorp.**may be liable in the event of an unexcused breach of a guaranteedperformance obligation by an unconsolidated subsidiary.  **CinergyCorp.** has estimated its maximum potential amount to be $133 millionunder these guarantees as of March 31, 2003. **Cinergy Corp.** may also haverecourse to third parties for claims required to be paid under certain of theseguarantees.  The majority of theseguarantees expire at the completion of the underlying performance agreements,generally 15 to 20 years.

 

**Cinergy**hasentered into contracts that include indemnification provisions as a routinepart of its business activities. Examples of these****contractsinclude purchase and sale agreements and operating agreements.  In general, these provisions indemnify thecounterparty for matters such as breaches of representations and warranties andcovenants contained in the contract.  Insome cases, particularly with respect to purchase and sale agreements, thepotential liability for certain indemnification obligations is capped, in wholeor in part (generally at an aggregate amount not exceeding the sale price), andsubject to a deductible amount before****anypayments would become due.** **In other cases (such asindemnifications for willful misconduct of employees in a joint venture), themaximum potential amount is not estimable given that the magnitude of anyclaims under those indemnifications would be a function of the extent ofdamages actually incurred, which is not practicable to estimate unless anduntil the event occurs.  **Cinergy** has estimated the maximum potentialamount, where estimable, to be $129 million under these indemnificationprovisions and considers the likelihood of making any material payments underthese provisions to be remote.  Thetermination period for the majority of matters provided by indemnificationprovisions in purchase and sale agreements generally ranges from one to sixyears.

 

We believe the likelihoodthat **Cinergy**would be required toperform or otherwise incur any significant losses associated with any or all ofthe guarantees described in the preceding paragraphs is remote.

 

**(b)*****                                  OzoneTransport Rulemakings***

 

In June 1997, the Ozone Transport Assessment Group, which consisted of37 states, made a wide range of recommendations to the Environmental ProtectionAgency (EPA) to address the impact of ozone transport on serious non-attainmentareas (geographic areas defined by the EPA as non-compliant

 

40

----

 

with ozone standards) inthe Northeast, Midwest, and South. Ozone transport refers to wind-blown movement of ozone and ozone-causingmaterials across city and state boundaries.

 

*(i)**               Nitrogen Oxide (NOX)State Implementation Plan (SIP) Call*

 

In October 1998, the EPAfinalized its ozone transport rule, also known as the NOX SIPCall.  It applied to 22 states in theeastern half of the United States (U.S.), including the three states in whichour electric utilities operate, and proposed a model NOX emissionallowance trading program.  This rulerecommended that states reduce NOX emissions primarily fromindustrial and utility sources to a certain level by May 2003.

 

In August 2000, the U.S.Circuit Court of Appeals for the District of Columbia (Court of Appeals)extended the deadline for NOX reductions to May 31, 2004.  In June 2001, the Court of Appeals remandedportions of the NOX SIP Call to the EPA for reconsideration of howgrowth was factored into the state NOX budgets.  On May 1, 2002, the EPA published, in theFederal Register, a final rule reaffirming its growth factors and state NOXbudgets, with additional explanation. The states of West Virginia and Illinois, along with various industrygroups (some of which we are a member), have challenged the growth factors andstate NOX budgets in an action filed in the Court of Appeals.  It is unclear when the Court of Appeals willreach a decision in this case, or whether this decision will result in anincrease or decrease in the size of the NOX reduction requirement,or a deferral of the May 31, 2004 compliance deadline.

 

The states of Indiana andKentucky developed final NOX SIP rules in response to the NOXSIP Call, through cap and trade programs, in June and July of 2001,respectively.  On November 8, 2001, theEPA approved Indiana’s SIP rules, which became effective December 10,2001.  On April 11, 2002, the EPA proposed direct final approval of Kentucky’srules and they became effective on June 10, 2002.  The state of Ohio completed its NOXSIP rules in response to the NOX SIP Call on July 8, 2002, with aneffective date of July 18, 2002.  OnJanuary 16, 2003, the EPA proposed a direct final rule to approve Ohio’sSIP.  The EPA has since withdrawn thatproposal, and now intends to issue a conditional approval, which will not takeeffect until Ohio changes one specific aspect of its final rule (relating tothe date flow control takes effect).  **Cinergy’s** current plans for compliance withthe EPA’s NOX SIP Call would also satisfy compliance with Indiana’s,Kentucky’s, and Ohio’s SIP rules.

 

On September 25, 2000, **Cinergy** announced a plan for itssubsidiaries, **CG&E** and **PSI**, to invest in pollution controlequipment and other methods to reduce NOX emissions.  This plan includes the following:

 

•                  installnine selective catalytic reduction units at several different generatingstations;

•                  installother pollution control technologies, including new computerized combustioncontrols, at all generating stations;

•                  makecombustion improvements; and

•                  utilizethe NOX allowance market to buy or sell NOX allowances asappropriate.

 

The current estimate foradditional expenditures for this investment is approximately $238 million andis in addition to the $604 million already incurred to comply with thisprogram.

 

41

----

 

*(ii)**           Section 126 Petitions*

 

In February 1998, severalnortheast states filed petitions seeking the EPA’s assistance in reducing ozonein the Eastern U.S. under Section 126 of the Clean Air Act (CAA).  The EPA believes that Section 126 petitionsallow a state to claim that sources in another state are contributing to itsair quality problem and request that the EPA require the upwind sources toreduce their emissions.

 

In December 1999, the EPAgranted four Section 126 petitions relating to NOX emissions.  This ruling affected all of our Ohio andKentucky facilities, as well as some of our Indiana facilities, and required usto reduce our NOX emissions to a certain level by May 2003.  In May 2001, the Court of Appealssubstantially upheld a challenge to the Section 126 requirements, and remandedportions of the rule to the EPA for reconsideration of how growth was factoredinto the emission limitations.  On May1, 2002, the EPA issued a final rule extending the Section 126 rule compliancedeadline to May 31, 2004, thus harmonizing the deadline with that for the NOXSIP Call.

 

On April 4, 2003, the EPAissued a proposed rule withdrawing the Section 126 rule in states with approvedSIPs under the NOX SIP Call, which include the states of Indiana andKentucky.  The proposed rule states thatthe EPA will withdraw the Section 126 in Ohio once Ohio has a fully approvedSIP.  As a result of these actions, weanticipate that the Section 126 rule will not affect any of our facilities.

 

See (e) below for adiscussion of the tentative EPA Agreement, the implementation of which couldaffect our strategy for compliance with the final NOX SIP Call.

 

**(c)*****                                  NewSource Review (NSR)***

 

The CAA’s NSR provisionsrequire that a company obtain a pre-construction permit if it plans to build anew stationary source of pollution or make a major modification to an existingfacility, unless the changes are exempt.

 

On November 3, 1999, theUnited States sued a number of holding companies and electric utilities,including **Cinergy**, **CG&E**, and **PSI**, in various U.S. District Courts.  The **Cinergy**,**CG&E**, and **PSI** suit alleged violations of the CAA attwo of our generating stations relating to NSR and New Source Performance Standardsrequirements.  The suit sought (1)injunctive relief to require installation of pollution control technology oneach of the generating units at **CG&E’s**W.C. Beckjord Generating Station (Beckjord Station) and at **PSI’s** Cayuga Generating Station, and (2)civil penalties in amounts of up to $27,500 per day for each violation.  Since that time, two amendments to thecomplaint have been filed by the United States, alleging additional violationsof the CAA, including allegations involving different generating units.  In addition, three northeast states and twoenvironmental groups have intervened in the case.

 

On December 21, 2000, **Cinergy**, **CG&E**,and **PSI** reached an agreement inprinciple with the parties in the litigation for a negotiated resolution of theCAA claims in the litigation.  See (e)below for a discussion of the tentative EPA Agreement, which relates to mattersdiscussed within this note.

 

42

----

 

On October 4, 2002, theIndiana District Court issued a Revised Case Management Plan in **Cinergy’s** case that sets forth the dates bywhich various events in the litigation, such as discovery and the filing ofdispositive motions, must be completed. Consistent with the plan, on October 9, 2002, the Indiana District Courtset the case for trial by jury commencing on October 4, 2004.

 

At this time, it is notpossible to predict whether a final agreement implementing the agreement inprinciple can be reached.  The partiescontinue to negotiate.  If the settlementis not completed, we intend to defend against the allegations vigorously incourt.  In such an event, it is notpossible to determine the likelihood that the plaintiffs would prevail upontheir claims or whether resolution of these matters would have a material effecton our financial position or results of operations.

 

**(d)*****                                  BeckjordStation Notice of Violation (NOV)***

 

On November 30, 1999, theEPA filed an NOV against **Cinergy**and **CG&E**, alleging thatemissions of particulate matter at the Beckjord Station exceeded the allowablelimit.  The allegations contained inthis NOV were incorporated within the March 1, 2000 amended complaint, asdiscussed in (c) above.  On June 22,2000, the EPA issued an NOV and a finding of violation (FOV) allegingadditional particulate emission violations at Beckjord Station.  The NOV/FOV indicated the EPA may issue anadministrative compliance order, issue an administrative penalty order, orbring a civil or criminal action.

 

See (e) below for adiscussion of the tentative EPA Agreement, which relates to matters discussedwithin this note.

 

**(e)*****                                  EPAAgreement***

 

On December 21, 2000, **Cinergy**, **CG&E**,and **PSI** reached an agreement inprinciple with the United States, three northeast states, and two environmentalgroups for a negotiated resolution of CAA claims and other related matters broughtagainst coal-fired power plants owned and operated by **Cinergy’s** operating subsidiaries.  The complete resolution of these issues iscontingent upon establishing a final agreement with the EPA and otherparties.  If a final agreement is reachedwith these parties, it would resolve past claims of alleged NSR violations aswell as the Beckjord Station NOVs/FOV discussed previously under (c) and (d).

 

In return for resolutionof claims regarding past maintenance activities, as well as future operationalcertainty, we have tentatively agreed to:

 

•                  shutdown or repower with natural gas, nine small coal-fired boilers at three powerplants beginning in 2004;

•                  buildfour additional sulfur dioxide (SO2) scrubbers, the first of whichmust be operational by December 31, 2007;

•                  upgradeexisting particulate control systems;

•                  phasein the operation of NOX reduction technology year-round starting in2004;

•                  reduceour existing Title IV SO2 cap by 35 percent in 2013;

•                  paya civil penalty of $8.5 million to the U.S. government; and

 

43

----

 

•                  implement$21.5 million in environmental mitigation projects, including retiring 50,000tons of SO2 allowances by 2005.

 

The estimated cost forthese capital expenditures is expected to be approximately $700 million through2013.  These capital expenditures are inaddition to our previously announced commitment to install NOXcontrols as discussed in (b) above, but does include capital costs that **Cinergy** would expect to spend regardless ofthe settlement due to new environmental requirements expected in the secondhalf of this decade.

 

**Cinergy**,**CG&E**, and **PSI** have accrued costs related to certainaspects of the tentative agreement.  Inreaching the tentative agreement, we did not admit any wrongdoing and remainfree to continue our current maintenance practices, as well as implement futureprojects for improved reliability.

 

At this time, it is notpossible to predict whether a final agreement implementing the agreement inprinciple can be reached.  The partiescontinue to negotiate.  If thesettlement is not completed, we intend to defend against the allegations,discussed in (c) and (d) above, vigorously in court.  In such an event, it is not possible to determine the likelihoodthat the plaintiffs would prevail upon their claims or whether resolution ofthese matters would have a material effect on our financial position or resultsof operations.

 

**(f)*****                                    ManufacturedGas Plant (MGP) Sites***

 

Prior to the 1950s, gaswas produced at MGP sites through a process that involved the heating of coaland/or oil.  The gas produced from thisprocess was sold for residential, commercial, and industrial uses.

 

Coal tar residues,related hydrocarbons, and various metals associated with MGP sites have beenfound at former MGP sites in Indiana, including at least 21 sites which **PSI** or its predecessors previouslyowned.  **PSI** acquired four of the sites from Northern Indiana PublicService Company (NIPSCO) in 1931.  Atthe same time, **PSI** sold NIPSCO thesites located in Goshen and Warsaw, Indiana. In 1945, **PSI** sold 19 ofthese sites (including the four sites it acquired from NIPSCO) to thepredecessor of the Indiana Gas Company, Inc. (IGC).  IGC later sold the site located in Rochester, Indiana to NIPSCO.

 

IGC and NIPSCO madeclaims against **PSI** for the costsof investigating and remediating the sites. In 1998, NIPSCO, IGC, and **PSI**entered into Site Participation and Cost Sharing Agreements (Agreements).  These Agreements allocated the ComprehensiveEnvironmental Response, Compensation and Liability Act (CERCLA) liability forpast and future costs at the MGP sites in Indiana among the threecompanies.  These agreements concludedall CERCLA and similar claims between the three companies related to MGP sites.  The parties continue to investigate andremediate the sites, as appropriate, under the agreements and applicablelaws.  The Indiana Department ofEnvironmental Management (IDEM) oversees investigation and cleanup of some ofthe sites.

 

**PSI**notified its insurance carriers of the claims related to MGP sites raised byIGC, NIPSCO, and IDEM.  In April 1998, **PSI** filed suit in Hendricks County CircuitCourt in the State of

 

44

----

 

Indiana against itsgeneral liability insurance carriers.  **PSI** sought a declaratory judgment toobligate its insurance carriers to (1) defend MGP claims against **PSI**, or (2) pay **PSI’s** costs of defense and compensate **PSI** for its costs of investigating,preventing, mitigating, and remediating damage to property and paying claimsrelated to MGP sites.  The lawsuit wasmoved to the Hendricks County Superior Court in July 1998.  The trial court issued a variety of rulingswith respect to the claims and defenses in the litigation.  **PSI**hasappealed certain adverse rulings to the Indiana Court of Appeals.  At the present time, **PSI** cannot predict the outcome of thislitigation, including the outcome of the appeals to the Indiana Court ofAppeals.

 

**CG&E**is aware of potential sites where MGP activities have occurred at some time inthe past.  None of these sites is knownto present a risk to the environment.  **CG&E** has begun preliminary siteassessments to obtain information about some of these MGP sites.

 

**PSI**and **CG&E**, including itsutility subsidiaries, have accrued costs for the sites related toinvestigation, remediation, and groundwater monitoring to the extent such costsare probable and can be reasonably estimated. **PSI** and **CG&E**, including its utilitysubsidiaries, do not believe they can provide an estimate of the reasonablypossible total remediation costs for any site before a remedial investigation/feasibilitystudy is performed.  To the extentremediation is necessary, the timing of the remediation activities impacts thecost of remediation.  Therefore, **PSI** and **CG&E**,including its utility subsidiaries, currently cannot determine the total coststhat may be incurred in connection with remediation of all sites, to the extentthat remediation is required.  Untilinvestigation and remediation activities have been completed on these sites,and the extent of insurance coverage for these costs, if any, is determined, weare unable to reasonably estimate the total costs and impact on our financialposition or results of operations.

 

**(g)*****                                 AsbestosClaims Litigation***

 

**CG&E**and **PSI** have been named inlawsuits related to Asbestos at their electric generating stations.  In these lawsuits, plaintiffs claim to havebeen exposed to Asbestos containing products in the course of their work at the**CG&E** and **PSI** generating stations.  The plaintiffs further claim that as theproperty owner of the generating stations,**CG&E**and **PSI** should be held liable fortheir injuries and illnesses based on an alleged duty to warn and protect themfrom any Asbestos exposure.  A majorityof the lawsuits to date have been brought against **PSI**.  The impact on **CG&E’s** and **PSI’s** financial position or results of operations of thesecases to date has not been material.

 

One specific case filedagainst **PSI** has been tried toverdict.  The jury returned a verdictagainst **PSI** in the amount ofapproximately $500,000 on a negligence claim and for **PSI** on punitive damages. **PSI** is appealing thejudgment in this case.  The totaldamages were immaterial to **PSI’s**financial position and results of operations. At this time, **CG&E** and **PSI**are not able to predict the ultimateoutcome of these lawsuits or the impact on **CG&E’s**and **PSI’s** financial position orresults of operations.

 

**(h)*****                                 GasCustomer Choice***

 

InJanuary 2000, Cinergy Investments (Investments) sold Cinergy Resources, Inc.(Resources), a former subsidiary, to Licking Rural Electrification, Inc., doingbusiness as The Energy

 

45

----

 

Cooperative(Energy Cooperative).  In February 2001,**Cinergy**, **CG&E**, and Resources were named as defendants in three class action lawsuitsbrought by customers relating to Energy Cooperative’s removal from the Ohio GasCustomer Choice program and the failure to deliver gas to customers.

 

Subsequently,these class action suits were amended and consolidated into one suit.  **CG&E** has been dismissed as a defendant in the consolidated suit.  In March 2001, **Cinergy**, **CG&E**, and Investments were named as defendants in a lawsuit filed by bothEnergy Cooperative and Resources.  Thislawsuit concerns any obligations or liabilities Investments may have to EnergyCooperative following its sale of Resources. This lawsuit is pending in the Licking County Common Pleas Court.  Trial is anticipated to occur in late 2003or early 2004.  In October 2001, **Cinergy**, **CG&E**,and Investments initiated litigation against the Energy Cooperative requestingindemnification by the Energy Cooperative for the claims asserted by formercustomers in the class action litigation. This customer litigation is pending in the Hamilton County Common PleasCourt.  A trial date has not been set.  Weintend to vigorously defend these lawsuits. At the present time, we cannot predict the outcome of these suits.

 

**(i)*****                                    PSIFuel Adjustment Charge***

 

In June 2001, **PSI** filed a petition with the IURCrequesting authority to recover $16 million in under billed deferred fuel costsincurred from March 2001 through May 2001. The IURC approved recovery of these costs subject to refund pending thefindings of an investigative sub-docket. The sub-docket was opened to investigate the reasonableness of, andunderlying reasons for, the under billed deferred fuel costs.  A hearing was held in July 2002, and inMarch 2003 the IURC issued an order giving final approval to **PSI’s** recovery of the $16 million.

 

**(j)*****                                    PSIRetail Rate Case***

 

In December 2002, **PSI** filed a petition with the IURC seekingapproval of a base retail electric rate increase.  **PSI** filed initialtestimony in this case in March 2003.  **PSI** proposes an increase in revenues ofapproximately $200 million, or an average increase of approximately 15 percentover **PSI’s** retail electric ratesin effect at the end of 2002.  An IURCdecision is expected in the first quarter of 2004.

 

46

----

 

**(k)*****                                PSIConstruction Work in Progress (CWIP) Ratemaking Treatment for NO******XEquipment***

 

In April 2003, **PSI** filed an application with the IURCrequesting that its CWIP rate adjustment mechanism be updated for expendituresthrough December 2002 related to NOX equipment currently beinginstalled at certain **PSI**generation facilities.  CWIP ratemakingtreatment allows for the recovery of carrying costs on certain pollutioncontrol equipment while and after the equipment is under construction.  Testimony and exhibits supporting **PSI’s** second CWIP rate adjustment mechanismupdate have not yet been filed. However, amounts proposed for potential recovery are presented below:

 

**PSI CWIP Ratemaking for NOXEquipment**

 

|                                                       |   | **PSI**            |   |
|------------------------------------------------------------|--------|--------------------|--------|
|                                                       |   | **(in  millions)** |   |
|                                                       |   |               |   |
| Total  retail CWIP expenditures as of December 31, 2002    |   | $                  | 305    |   |
|                                                       |   |               |   |
| Proposed  total amount requested through CWIP mechanism(1) |   | 35                 |   |
| Less:  previously approved CWIP mechanism amounts          |   | (28                | )      |
| Proposed  incremental CWIP mechanism amounts               |   | $                  | 7      |   |

 

----

| (1) | Amounts include retail  customers’ portion only and represent an annual return on qualified NOX  equipment expenditures. |
|-----|-------------------------------------------------------------------------------------------------------------------------------|

 

**PSI’s**initial CWIP rate mechanism adjustment (authorized in July 2002) resulted in anapproximately one percent increase in customer rates.  Under the IURC’s CWIP rules, **PSI**may update its CWIP tracker at six-month intervals.  The first such update to **PSI’s** CWIP rate mechanism occurred in thefirst quarter of 2003.  The IURC’s July2002 order also authorized **PSI** todefer, for subsequent recovery, post-in-service depreciation and to continuethe accrual for allowance for funds used during construction (AFUDC).  Pursuant to Statement of FinancialAccounting Standards No. 92, *RegulatedEnterprises-Accounting for Phase-in Plans*, the equity component ofAFUDC will not be deferred for financial reporting after the related assets areplaced in service.

 

**(l)*****                                    PSIPurchased Power Tracker (Tracker)***

 

The Tracker was designedto provide for the recovery of costs related to purchases of power necessary tomeet native load requirements to the extent such costs are not recoveredthrough the existing fuel adjustment clause.

 

**PSI**is authorized to seek recovery of 90 percent of its purchased power expensesthrough the Tracker (net of the displaced energy portion recovered through thefuel recovery process and net of the mitigation credit portion), with theremaining 10 percent deferred for subsequent recovery in **PSI’s**general rate case.  In March 2002, **PSI** filed a petition with the IURC seeking approval to extendthe Tracker process beyond the summer of 2002. A hearing was held on January 16, 2003, and the case is now awaiting anIURC order.  We cannot predict theoutcome of this proceeding at this time.

 

47

----

 

**(m)*****                              CG&EGas Rate Case***

 

In the third quarter of2001, **CG&E** filed a retail gasrate case with the Public Utilities Commission of Ohio (PUCO) seeking toincrease base rates for natural gas distribution service and requestingrecovery through a tracking mechanism of the costs of an accelerated gas mainreplacement program with an estimated capital cost of $716 million over 10years.  **CG&E** entered into a settlement agreement with most of theparties and a hearing on this matter was held in April 2002.  An order was issued in May 2002, in whichthe PUCO approved the settlement agreement and authorized a base rate increaseof approximately $15 million, or 3.3 percent overall, effective May 30,2002.  In addition, the PUCO authorized **CG&E** to implement the trackingmechanism to recover the costs of the accelerated gas main replacement program,subject to certain rate caps that increase in amount annually through May 2007,through the effective date of new rates in **CG&E’s**next retail gas rate case.  In thefourth quarter of 2002, **CG&E**filedan application to increase its rates under the tracking mechanism.  In April 2003, **CG&E** entered into a settlement agreement with the parties,providing for an increase of $6.5 million, which the PUCO subsequentlyapproved.

 

**(n)*****                                 ULH&PGas Rate Case***

 

Asdiscussed in the 2002 10-K, in the second quarter of 2001, **ULH&P** filed a retail gas rate case with theKentucky Public Service Commission (KPSC) seeking to increase base rates fornatural gas distribution services and requesting recovery through a trackingmechanism of the costs of an accelerated gas main replacement program with anestimated capital cost of $112 million over 10 years.  **ULH&P** made its second annual filing for an increase under the trackingmechanism in March 2003.  Theapplication seeks an increase of $2 million. **ULH&P** expectsthe KPSC to rule on the application during the second quarter of 2003.  At the present time, **ULH&P** cannot predict the outcome ofthis proceeding.  The Kentucky Attorney General has appealedthe KPSC’s approval of the tracking mechanism to the Franklin Circuit Court andhas also appealed the KPSC’s August 2002 order approving the new trackingmechanism rates.  At the present time, **ULH&P** cannot predict the timing or outcome of thislitigation.

 

**(o)*****                                  ContractDisputes***

 

**Cinergy**,through a subsidiary of Investments, is currently involved in negotiations toresolve a customer billing dispute.  Theprimary issue of contention between the parties relates to the determinantsused in calculating the monthly charge billed for electricity.  **Cinergy**has reserved for a portion of the amount billed based on our current estimateof net realizable value.

 

**Cinergy**,through a subsidiary of Capital & Trading, is in arbitration with acounterparty concerning various disputes under an agreement whereby we marketnatural gas that the counterparty produces or acquires in North America.  We have reserved for a portion of the amountbilled based on the current estimate of net realizable value.  Absent a voluntary resolution to thedisputes, we intend to pursue the arbitration vigorously.

 

48

----

 

Although we cannotpredict the outcome of these matters, we believe the ultimate impact on **Cinergy’s** financial position and results ofoperations, beyond amounts reserved, will not be material.

 

**(p)*****                                  EnronCorp. (Enron) Bankruptcy***

 

In December 2001, Enronfiled for protection under Chapter 11 of the U.S. Bankruptcy Code in theSouthern District of New York.  Wedecreased our trading activities with Enron in the months prior to itsbankruptcy filing and have filed a motion with the bankruptcy court overseeingthe Enron bankruptcy seeking appropriate netting of the various payables andreceivables between and among Enron and **Cinergy**entities.  We intend to resolve anycontract differences pursuant to the terms of those contracts, businesspractices, and the applicable provisions of the U.S. Bankruptcy Code, asapproved by the court.  While we cannotpredict the court’s resolution of these matters, we do not believe that anyexposure relating to those contracts would have a material impact on ourfinancial position or results of operations.

 

**8.****                        FinancialInformation by Business Segment**

 

As discussed in the 200210-K, we conduct operations through our subsidiaries, and manage through thefollowing three business units:

 

•                  EnergyMerchant Business Unit (Energy Merchant);

•                  RegulatedBusinesses Business Unit (Regulated Businesses); and

•                  PowerTechnology and Infrastructure Services Business Unit (Power Technology).

 

The following sectiondescribes the activities of our business units as of March 31, 2003.

 

Energy Merchant manageswholesale generation and energy marketing and trading of energycommodities.  Energy Merchant operatesand maintains our regulated and non-regulated electric generating plantsincluding some of our jointly-owned plants. Energy Merchant is also responsible for all of our internationaloperations and performs the following activities:

 

•                  energyrisk management;

•                  proprietaryarbitrage activities; and

•                  customizedenergy solutions.

 

Regulated Businesses consistsof **PSI’s** regulated, integratedutility operations, and **Cinergy’s**other regulated electric and gas transmission and distribution systems.  Regulated Businesses plans, constructs,operates, and maintains **Cinergy’s**transmission and distribution systems and delivers gas and electric energy toconsumers.  Regulated Businesses alsoearns revenues from wholesale customers primarily by transmitting electricpower through **Cinergy’s**transmission system.

 

Power Technologyprimarily manages the development, marketing, and sales of our non-regulatedretail energy and energy-related businesses. This is accomplished through various subsidiaries and jointventures.  Power Technology also managesCinergy Ventures, LLC

 

49

----

 

(Ventures), **Cinergy’s** venture capital subsidiary.  Ventures invests in emerging energytechnologies that can benefit future **Cinergy**business development activities.

 

Following are thefinancial results by business unit. Certain amounts for the prior year have been restated to reflectimplementation of EITF 02-3 and other prior year amounts have been reclassifiedto conform to the current presentation.

 

50

----

 

Financial results by business unit for the quarters ended March 31,2003, and March 31, 2002 are as indicated below.

 

**BusinessUnits**

 
|                                                                    |   | **Cinergy  Business Units** |        |                      |       |                  |       |
|-------------------------------------------------------------------------|--------|-----------------------------|-------------|---------------------------|------------|-----------------------|------------|
|                                                                    |   | **Energy  Merchant**        |        | **Regulated  Businesses** |       | **Power  Technology** |       | **Total** |   | **Reconciling  Eliminations(1)** |   | **Consolidated** |   |
|                                                                    |   | **(in  thousands)**         |        |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| **Quarter ended March 31, 2003**                                        |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| **Operating revenues-**                                                 |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| **External customers**                                                  |   | **$**                       | **447,466** | **(3)**                   | **$**      | **834,315**           | **(4)**    | **$** | **1** | ** ** | **$** | **1,281,782** | ** ** | **$** | **—** | ** ** | **$** | **1,281,782** | ** ** |
| **Intersegment revenues**                                               |   | **39,123**                  | ** **  | **—**                | ** ** | **—**            | ** ** | **39,123** | ** ** | **(39,123** | **)** | **—** | ** ** |
|                                                                    |   |                        | ** **  |                      | ** ** |                  | ** ** |   | ** ** |   | ** ** |   | ** ** |
| **Cost of sales -**                                                     |   |                        | ** **  |                      | ** ** |                  | ** ** |   | ** ** |   | ** ** |   | ** ** |
| **Fuel and purchased and exchanged power**                              |   | **138,495**                 | ** **  | **140,988**               | ** ** | **—**            | ** ** | **279,483** | ** ** | **—** | ** ** | **279,483** | ** ** |
| **Gas purchased**                                                       |   | **64,230**                  | ** **  | **171,765**               | ** ** | —                |       | **235,995** | ** ** | — | ** ** | **235,995** | ** ** |
|                                                                    |   |                        | ** **  |                      | ** ** |                  | ** ** |   | ** ** |   | ** ** |   | ** ** |
| **Discontinued operations, net of tax**                                 |   | **—**                  | ** **  | **—**                | ** ** | **—**            | ** ** | **—** | ** ** | **—** | ** ** | **—** | ** ** |
| **Cumulative effect of a change in accounting principles, net  of tax** |   | **26,462**                  | ** **  | **—**                | ** ** | **—**            | ** ** | **26,462** | ** ** | **—** | ** ** | **26,462** | ** ** |
|                                                                    |   |                        | ** **  |                      | ** ** |                  | ** ** |   | ** ** |   | ** ** |   | ** ** |
| **Segment profit (loss)(2)**                                            |   | **97,105**                  | ** **  | **74,069**                | ** ** | **(5,089**            | **)**      | **166,085** | ** ** | **—** | ** ** | **166,085** | ** ** |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Quarter  ended March 31, 2002                                           |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Operating  revenues -                                                   |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| External  customers                                                     |   | $                           | 271,613     |                      | $          | 714,762               |       | $ | 2 |   | $ | 986,377 |   | $ | — |   | $ | 986,377 |   |
| Intersegment  revenues                                                  |   | 36,838                      |        | —                    |       | —                |       | 36,838 |   | (36,838 | ) | — |   |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Cost  of sales -                                                        |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Fuel  and purchased and exchanged power                                 |   | 107,569                     |        | 121,721                   |       | —                |       | 229,290 |   | — |   | 229,290 |   |
| Gas  purchased                                                          |   | 1,912                       |        | 107,968                   |       | —                |       | 109,880 |   | — |   | 109,880 |   |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Discontinued  operations, net of tax                                    |   | 478                         |        | —                    |       | —                |       | 478 |   | — |   | 478 |   |
| Cumulative  effect of a change in accounting principle, net of tax      |   | (10,899                     | )           | —                    |       | —                |       | (10,899 | ) | — |   | (10,899 | ) |
|                                                                    |   |                        |        |                      |       |                  |       |   |   |   |   |   |   |
| Segment  profit (loss)(2)                                               |   | 16,638                      |        | 72,797                    |       | (4,606                | )          | 84,829 |   | — |   | 84,829 |   |

 
|     |
|-----|
| (1) | The Reconciling  Eliminations category eliminates the intersegment revenues of Energy  Merchant. |
| (2) | Management utilizes  segment profit (loss) to evaluate segment performance. |
| (3) | The increase in 2003 is  primarily due to the increase in the average price realized on wholesale  commodity non-firm transactions and the sale of synthetic fuel which began in  July 2002. |
| (4) | The increase in 2003 is  primarily due to the increase in the average price received per thousand  cubic feet (mcf) delivered reflecting a substantial increase in the wholesale  gas commodity costs, which is passed directly to the retail customer  dollar-for-dollar under the state mandated gas cost recovery mechanism.  Also contributing to this increase was  higher mcf volumes sold due to colder than normal weather. |

 

51

----

 

Total segment assets atMarch 31, 2003, and December 31, 2002, were as follows:

 

**BusinessUnits**

 
|                                       |   | **Cinergy  Business Units** |          |                      |   |                  |       |
|--------------------------------------------|--------|-----------------------------|---------------|---------------------------|--------|-----------------------|------------|
|                                       |   | **Energy  Merchant**        |          | **Regulated  Businesses** |   | **Power  Technology** |       | **Total** |   | **All  Other(1)** |   | **Consolidated** |   |
|                                       |   | **(in  thousands)**         |          |
|                                       |   |                        |          |                      |   |                  |       |   |   |   |   |   |   |
| **Total segment assets at March 31, 2003** |   | **$**                       | **5,305,552** | ** **                | **$**  | **7,902,311**         | ** ** | **$** | **159,185** | ** ** | **$** | **13,367,048** | ** ** | **$** | **51,086** | ** ** | **$** | **13,418,134** | ** ** |
| Total  segment assets at December 31, 2002 |   | 5,774,750                   |          | 7,283,812                 |   | 155,252               |       | 13,213,814 |   | 93,214 |   | 13,307,028 |   |
|                                            |        |                             |               |                           |        |                       |            |  |  |  |  |  |  |  |  |  |  |  |  |

 
|     |
|-----|
| (1) | The All Other category  represents miscellaneous corporate items which are not allocated to business  units for purposes of segment performance measurement. |

 

52

----

 

**9.****                        EPS**

 

A reconciliation of EPSto EPS – Assuming Dilution (EPS - assuming dilution) is presented below for thequarters ended March 31, 2003 and March 31, 2002:

 
|                                                                                              |   | **Income**                                    |        | **Shares** |        | **EPS**    |   |
|---------------------------------------------------------------------------------------------------|--------|-----------------------------------------------|-------------|------------|-------------|------------|--------|
|                                                                                              |   | **(in  thousands, except per share amounts)** |        |
| **Quarter ended March 31, 2003**                                                                  |   |                                          |        |       |        |       |   |
| **EPS:**                                                                                          |   |                                          |        |       |        |       |   |
| **Income before cumulative effect of a change in accounting  principles**                         |   | **$**                                         | **139,623** | ** ** |        | ** ** | **$**  | **0.81** |   |
| **Cumulative effect of a change in accounting principles, net  of tax**                           |   | **26,462**                                    | ** **  |       | ** **  | **0.15**   |   |
| **Net Income**                                                                                    |   | **$**                                         | **166,085** | ** ** | **173,387** | ** ** | **$**  | **0.96** |   |
|                                                                                              |   |                                          | ** **  |       | ** **  |       |   |
| **Effect of dilutive securities:**                                                                |   |                                          | ** **  |       | ** **  |       |   |
| **Common stock options**                                                                          |   |                                          | ** **  | **724**    | ** **  |       |   |
| **Directors’ compensation plans**                                                            |   |                                          | ** **  | **134**    | ** **  |       |   |
| **Contingently issuable common stock**                                                            |   |                                          | ** **  | **717**    | ** **  |       |   |
|                                                                                              |   |                                          | ** **  |       | ** **  |       |   |
| **EPS - assuming dilution:**                                                                      |   |                                          | ** **  |       | ** **  |       |   |
| **Net income plus assumed conversions**                                                           |   | **$**                                         | **166,085** | ** ** | **174,962** | ** ** | **$**  | **0.95** |   |
|                                                                                              |   |                                          |        |       |        |       |   |
| Quarter  ended March 31, 2002                                                                     |   |                                          |        |       |        |       |   |
| EPS:                                                                                              |   |                                          |        |       |        |       |   |
| Income  before discontinued operations and cumulative effect of a change in  accounting principle |   | $                                             | 95,250      |       |        |       | $      | 0.58 |   |
| Discontinued  operations, net of tax                                                              |   | 478                                           |        |       |        | —     |   |
| Cumulative  effect of a change in accounting principle, net of tax                                |   | (10,899                                       | )           |       |        | (0.06      | )      |
| Net  Income                                                                                       |   | $                                             | 84,829      |       | 164,295     |       | $      | 0.52 |   |
|                                                                                              |   |                                          |        |       |        |       |   |
| Effect  of dilutive securities:                                                                   |   |                                          |        |       |        |       |   |
| Common  stock options                                                                             |   |                                          |        | 976        |        |       |   |
| Employee  stock purchase and savings plan                                                         |   |                                          |        | 1          |        |       |   |
| Directors’  compensation plans                                                               |   |                                          |        | 151        |        |       |   |
| Contingently  issuable common stock                                                               |   |                                          |        | 542        |        |       |   |
|                                                                                              |   |                                          |        |       |        |       |   |
| EPS  - assuming dilution:                                                                         |   |                                          |        |       |        |       |   |
| Net  income plus assumed conversions                                                              |   | $                                             | 84,829      |       | 165,965     |       | $      | 0.52 |   |

 

Options to purchaseshares of common stock are excluded from the calculation of EPS - assumingdilution when the exercise prices of these options are greater than the averagemarket price of the common shares during the period.  For the quarters ended March 31, 2003 and 2002, approximately 3.5million and 3.1 million shares, respectively, were excluded from the EPS -assuming dilution calculation.

 

Also excluded from theEPS - assuming dilution calculation for the quarters ended March 31, 2003 and2002, are up to 10.8 million shares issuable pursuant to the stock purchasecontracts associated with the preferred trust securities issued by **Cinergy Corp.** in December 2001.  The number of shares issuable pursuant tothe stock purchase contracts is contingent upon the market price of **Cinergy Corp.** stock in February 2005 andcould range between 9.2 and 10.8 million shares.

 

53

----

 

**10.****                 Ohio Deregulation**

 

As discussed in the 200210-K, **CG&E** is in a marketdevelopment period, beginning the transition to electric deregulation in thestate of Ohio.  The transition period isgoverned by Amended Substitute Senate Bill No. 3 (Electric Restructuring Bill)and a stipulated agreement adopted and approved by the PUCO.  Under **CG&E’s**transition plan, retail customers continue to receive transportation servicesfrom **CG&E**, but may purchaseelectricity from another supplier. Retail customers that purchase electricity from another supplier receiveshopping credits from **CG&E**.  The shopping credits generally reflect thecosts of electric generation included in **CG&E’s**frozen rates.  However, shopping creditsfor the first 20 percent of electricity usage in each customer class to switchsuppliers are higher than **CG&E’s**electric generation costs in order to stimulate the development of thecompetitive retail electric service market.

 

**CG&E**recovers its regulatory assets and other transition coststhrough a Regulatory Transition Charge (RTC) paid by all retail customers.  As the RTC is collected from customers, **CG&E** amortizes the deferred balance ofregulatory assets and other transition costs. A portion of the RTC collected from customers is recognized currently asa return on the deferred balance of regulatory assets and other transitioncosts and as reimbursement for the difference in the shopping credits providedto customers and the wholesale revenues from switched generation.  The ability of **CG&E** to recover its regulatory assets and other transitioncosts is dependent on several factors, including, but not limited to, the levelof **CG&E’s** electric sales,prices in the wholesale power markets, and the amount of customers switching toother electric suppliers.

 

On January 10, 2003, **CG&E** filed an application with the PUCOfor approval of a methodology to establish how market-based rates fornon-residential customers will be determined when the market development periodends.  In the filing, **CG&E** seeks to establish a market-basedstandard service offer rate for non-residential customers that do not switchsuppliers and a process for establishing the competitively bid generationservice option required by the Electric Restructuring Bill.  As of March 31, 2003, more than 20 percentof the load in each of **CG&E’s**non-residential customer classes has switched to other electric suppliers.  Under its transition plan, **CG&E** may end the market developmentperiod for those classes of customers once 20 percent switching has beenachieved; however, PUCO approval of the standard service offer rate andcompetitive bidding process is required before the market development periodcan be ended.  **CG&E** is not requesting to end themarket development period for non-residential customers at this time.  **CG&E**is unable to predict the outcome of this proceeding.

 

**11.****                 Transfer ofGenerating Assets**

 

In December 2002, theIURC approved a settlement agreement among **PSI**,the Indiana Office of the Utility Consumer Counselor, and the IURC TestimonialStaff authorizing **PSI’s** purchaseof the Henry County, Indiana and Butler County, Ohio, gas-fired peaking plantsfrom two non-regulated affiliates.  InFebruary 2003, the Federal Energy Regulatory Commission (FERC) issued an orderunder Section 203 of the Federal Power Act authorizing **PSI’s** acquisition of the plants, whichoccurred on February 5, 2003. Subsequently, in April 2003, the FERC issued a tolling order allowingadditional time to consider a request for rehearing filed in response to theFebruary 2003 FERC order.  At this time,we cannot predict the outcome of this matter.

 

54

----

 

## **CAUTIONARYSTATEMENTS** REGARDING FORWARD-LOOKINGINFORMATION

 

This document includesforward-looking statements within the meaning of Section 27A of the SecuritiesAct of 1933 and Section 21E of the Securities Exchange Act of 1934.  These forward-looking statements areidentified by terms and phrases such as “anticipate”, “believe”, “intend”,“estimate”, “expect”, “continue”, “should”, “could”, “may”, “plan”, “project”,“predict”, “will”, and similar expressions.

 

Forward-lookingstatements involve risks and uncertainties that may cause actual results to bematerially different from the results predicted.  Factors that could cause actual results to differ materially fromthose indicated in any forward-looking statement include, but are not limitedto:

 

•                  Factorsaffecting operations, such as:

 

(1)          unanticipated weatherconditions;

(2)          unscheduled generationoutages;

(3)          unusual maintenance orrepairs;

(4)          unanticipated changes incosts;

(5)          environmental incidents,including costs of compliance with existingand future environmental requirements; and

(6)          electric transmission orgas pipeline system constraints.

 

•                  Legislativeand regulatory initiatives.

 

•                  Additionalcompetition in electric or gas markets and continued industry consolidation.

 

•                  Financialor regulatory accounting principles.

 

•                  Political,legal, and economic conditions and developments in the countries in which wehave a presence.

 

•                  Changingmarket conditions and other factors related to physical energy and financialtrading activities.

 

•                  Theperformance of projects undertaken by our non-regulated businesses and thesuccess of efforts to invest in and develop new opportunities.

 

•                  Availabilityof, or cost of, capital.

 

•                  Employeeworkforce factors.

 

•                  Delaysand other obstacles associated with mergers, acquisitions, and investments injoint ventures.

 

55

----

 

•                  Costsand effects of legal and administrative proceedings, settlements,investigations, and claims.  Examplescan be found in Note 7 of the “Notes to Financial Statements” in “Part 1.Financial Information”.

 

We undertake noobligation to update the information contained herein.

 

56

----

 

**MD&A- INTRODUCTION**

 

## **ITEM 2.  MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS**

 

In this report **Cinergy**(which includes **Cinergy Corp.** and all of our regulated and non-regulatedsubsidiaries) is, at times, referred to in the first person as “we”, “our”, or“us”.

 

The following discussionshould be read in conjunction with the accompanying financial statements andrelated notes included elsewhere in this report and the combined Form 10-K forthe year ended December 31, 2002 (2002 10-K). The results discussed below are not necessarily indicative of theresults that may occur in any future periods.

 

### **INTRODUCTION**

 

In Management’sDiscussion and Analysis of Financial Condition and Results of Operations(MD&A), we explain our general operating environment, as well as ourliquidity and capital resources and results of operations.  Specifically, we discuss the following:

 

•                  factorsaffecting current and future operations;

•                  potentialsources of cash for future capital expenditures;

•                  whyrevenues and expenses changed from period to period; and

•                  howthe above items affect our overall financial condition.

 

### **ORGANIZATION**

 

**CinergyCorp.**, a Delaware corporation created in October 1994, ownsall outstanding common stock of The Cincinnati Gas & Electric Company (**CG&E**) and PSI Energy, Inc. (**PSI**), both of which are public utility subsidiaries.  As a result of this ownership, we areconsidered a utility holding company. Because we are a holding company with material utility subsidiariesoperating in multiple states, we are registered with and are subject toregulation by the Securities and Exchange Commission (SEC) under the PublicUtility Holding Company Act of 1935, as amended (PUHCA).  Our other principal subsidiaries are:

 

•                  CinergyWholesale Energy, Inc.;

•                  CinergyServices, Inc. (Services);

•                  CinergyInvestments, Inc.; and

•                  CinergyGlobal Resources, Inc.

 

**CG&E**,an Ohio corporation, is a combination electric and gas public utility companythat provides service in the southwestern portion of Ohio and, through itssubsidiaries, in nearby areas of Kentucky and Indiana.  **CG&E’s**principal subsidiary, The Union Light, Heat and Power Company (**ULH&P**), is a Kentucky corporation thatprovides electric and gas service in northern Kentucky.  **CG&E’s**other subsidiaries are insignificant to its results of operations.

 

In 2001, **CG&E** began a transition to electricderegulation and customer choice. Currently, the competitive retail electric market in Ohio is in thedevelopment stage.  **CG&E** is recovering its

 

57

----

 

**MD&A- LIQUIDITY AND CAPITAL RESOURCES**

 

Public UtilitiesCommission of Ohio (PUCO) approved costs and retail electric rates are frozenduring this market development period.

 

**PSI**,an Indiana corporation, is a vertically integrated and regulated electricutility that provides service in north central, central, and southern Indiana.

 

The majority of ouroperating revenues are derived from the sale of electricity and the sale and/ortransportation of natural gas.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

**Environmental Issues**

 

**Cinergy’s**2002 10-K, includes a discussion of certain environmental issues that couldaffect our liquidity.  These include:

 

•                  AmbientAir Standards;

•                  RegionalHaze;

•                  GlobalClimate Change; and

•                  AirToxics Regulation.

 

In addition, see Note 7of the “Notes to Financial Statements” in “Item 1.  Financial Information” contained herein, for additionalinformation regarding other environmental items and other matters that couldeffect our liquidity.

 

***Pensions***

 

**Cinergy**maintains qualified defined benefit pension plans covering substantially allUnited States (U.S.) employees meeting certain minimum age and servicerequirements.  Plan assets consist ofinvestments in equity and fixed income securities.  Funding for the qualified defined benefit pension plans is basedupon actuarially determined contributions that take into account the amountdeductible for income tax purposes and the minimum contribution required underthe Employee Retirement Income Security Act of 1974, as amended.  Due to the decline in market value of theinvestment portfolio over the last few years, assets held in trust to satisfyplan obligations have decreased. Additionally, recent decreases in long-term interest rates have theeffect of increasing the measured liability for funding purposes.  As a result of these events, future fundingobligations could increase substantially. **Cinergy’s** minimum requiredcontributions for calendar year 2003 are $11 million, as compared to $4 millionfor the calendar year 2002.  We areconsidering additional discretionary contributions of up to $50 million for thecalendar year 2003.  The discretionarycontributions would be intended to improve the overall funding of the plan.

 

***Other InvestingActivities***

 

Our ability to invest ingrowth initiatives is limited by certain legal and regulatory requirements,including PUHCA.  The PUHCA limits thetypes of non-utility businesses in which **Cinergy**and other registered holding companies under PUHCA can invest as well as theamount of capital

 

58

----

 

that can be invested inpermissible non-utility businesses. Also, the timing and amount of investments in the non-utility businessesis dependent on the development and favorable evaluations ofopportunities.  Under the PUHCArestrictions, we are allowed to invest or commit to invest in certain non-utilitybusinesses, including:

 

•                  ExemptWholesale Generators (EWG) and Foreign Utility Companies (FUCO)

 

An EWG is an entity,certified by the Federal Energy Regulatory Commission (FERC), devotedexclusively to owning and/or operating, and selling power from one or moreelectric generating facilities.  An EWGwhose generating facilities are located in the U.S. is limited to making onlywholesale sales of electricity.

 

A FUCO is a company allof whose utility assets and operations are located outside the U.S. and whichare used for the generation, transmission, or distribution of electric energyfor sale at retail or wholesale, or the distribution of gas at retail.  A FUCO may not derive any income, directlyor indirectly, from the generation, transmission or distribution of electricenergy for sale or the distribution of gas at retail within the U.S.  An entity claiming status as a FUCO mustprovide notification thereof to the SEC under PUHCA.

 

In May 2001, the SECissued an order under PUHCA authorizing **Cinergy**to invest (including by way of guarantees) an aggregate amount in EWGs andFUCOs equal to the sum of (1) our average consolidated retained earnings fromtime to time plus (2) $2 billion.  As ofMarch 31, 2003, we had invested or committed to invest $1.0 billion in EWGs andFUCOs, leaving available investment capacity under the May 2001 order of $2.4billion.

 

•                  QualifyingFacilities and Energy-Related Non-utility Entities

 

SEC regulations under thePUHCA permit **Cinergy** and otherregistered holding companies to invest and/or guarantee an amount equal to 15percent of consolidated capitalization (consolidated capitalization is the sumof *Notes payable and other short-termobligations*, *Long-term debt*(including amounts due within one year), *PreferredTrust Securities*, *CumulativePreferred Stock of Subsidiaries*, and total *Common Stock Equity*) in domesticqualifying cogeneration and small power production plants (qualifyingfacilities) and certain other domestic energy-related non-utilityentities.  At March 31, 2003, we hadinvested and/or guaranteed approximately $0.5billion of the $1.3 billion available.

 

***Guarantees***

 

We are subject to an SECorder under the PUHCA, which limits the amounts **Cinergy Corp.** can have outstanding under guarantees at any onetime to $2 billion.  As of March 31,2003, we had $608 million outstanding under the guarantees issued, of whichapproximately 88 percent represents guarantees of obligations reflected on **Cinergy’s** Consolidated Balance Sheets.  The amount outstanding represents **Cinergy Corp.’s** guarantees of liabilitiesand commitments of its

 

59

----

 

consolidatedsubsidiaries, unconsolidated subsidiaries, and joint ventures.  See Note 7(a) of the “Notes to Financial Statements” in “Item 1.Financial Information” for a discussion of guarantees in accordance withFinancial Accounting Standards Board (FASB) Interpretation No. 45, *Guarantor’s Accounting and Disclosure Requirementsfor Guarantees, Including Indirect Guarantees of Indebtedness of Others*(Interpretation 45).  Interpretation 45requires disclosure of maximum potential liabilities for guarantees issued onbehalf of unconsolidated subsidiaries and joint ventures and underindemnification clauses in various contracts. The Interpretation 45 disclosure differs from the PUHCA restrictions inthat it requires a calculation of maximum potential liability, rather thanactual amounts outstanding; it excludes guarantees issued on behalf ofconsolidated subsidiaries; and it includes potential liabilities underindemnification clauses.

 

***CollateralRequirements***

 

**Cinergy**hascertain contracts in place, primarily with trading counterparties, that requirethe issuance of collateral in the event our debt ratings are downgraded belowinvestment grade.  Based upon our March31, 2003 trading portfolio, if such an event were to occur, **Cinergy** would be required to issue up toapproximately $75 million in collateral related to its gas and power tradingoperations.

 

**Capital Resources**

 

We meet our current andfuture capital requirement needs through a combination of internally andexternally generated funds, including the issuance of debt and/or equitysecurities.  **Cinergy** believes that it has adequate financial resources tomeet its future needs.

 

60

----

 

***Notes Payable andOther Short-term Obligations***

 

We are required to secureauthority to issue short-term debt from the SEC under the PUHCA and from thePUCO.  The SEC under the PUHCA regulatesthe issuance of short-term debt by **CinergyCorp.**, **PSI**, and **ULH&P**. The PUCO has regulatory jurisdiction over the issuance of short-termdebt by **CG&E**.

 

|                         |   | **Short-term  Regulatory Authority  March 31, 2003** |   |
|------------------------------|--------|------------------------------------------------------|--------|
|                         |   | **(millions)**                                       |   |
|                         |   | **Authority**                                        |   | **Outstanding** |   |
|                         |   |                                                 |   |   |   |
| **Cinergy Corp.**            |   | $                                                    | 5,000  | (1) | $ | 193 |   |
| **CG&E**and subsidiaries |   | 671                                                  |   | 3 |   |
| **PSI**                      |   | 600                                                  |   | 230 |   |
| **ULH&P**                |   | 65                                                   |   | 5 |   |
|                              |        |                                                      |        |  |  |  |  |

 

----

| (1) | **Cinergy  Corp.,**under the PUHCA, was granted approval to increase  total capitalization (excluding retained earnings and accumulated other  comprehensive income (loss)), which may be any combination of debt and equity  securities, by $5 billion.  Outside  this requirement, **Cinergy Corp.**  is not subject to specific regulatory debt authorizations. |
|-----|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

For the purposes ofquantifying regulatory authority, short-term debt includes revolving creditborrowings, uncommitted credit line borrowings, inter-company money poolobligations, and commercial paper.

 

61

----

 

**CinergyCorp.’s**short-term borrowing consists primarily of unsecuredrevolving lines of credit and the sale of commercial paper.  **CinergyCorp.’s** $1 billion revolving credit facilities and $800 millioncommercial paper program also support the short-term borrowing needs of **CG&E** and **PSI**.  In addition, **Cinergy**, **CG&E**,and **PSI** maintain uncommitted linesof credit.  These facilities are notfirm sources of capital but rather informal agreements to lend money, subjectto availability, with pricing determined at the time of advance.  The following is a summary of outstandingshort-term borrowings for **Cinergy**,**CG&E**, **PSI**, and **ULH&P**,including variable rate pollution control notes:

 
|                         |   | **Short-term  Borrowings  March 31, 2003** |   |
|------------------------------|--------|--------------------------------------------|--------|
|                         |   | **Established  Lines**                     |   | **Outstanding** |   | **Unused** |   | **Standby  Liquidity(3)** |   | **Available  Revolving  Lines of  Credit** |   |
|                         |   | **(in  millions)**                         |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **Cinergy**                  |   |                                       |   |   |   |   |   |   |   |   |   |
| **Cinergy Corp.**            |   |                                       |   |   |   |   |   |   |   |   |   |
| Revolving  lines             |   | $                                          | 1,000  |   | $ | — |   | $ | 1,000 |   | $ | 204 |   | $ | 796 |   |
| Uncommitted  lines(1)        |   | 65                                         |   | — |   | 65 |   |   |   |   |   |
| Commercial  paper(2)         |   |                                       |   | 193 |   | 607 |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| Operating  companies         |   |                                       |   |   |   |   |   |   |   |   |   |
| Uncommitted  lines(1)        |   | 75                                         |   | — |   | 75 |   |   |   |   |   |
| Pollution  control notes     |   |                                       |   | 112 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| Non-regulated  subsidiaries  |   |                                       |   |   |   |   |   |   |   |   |   |
| Revolving  lines             |   | 8                                          |   | 1 |   | 7 |   |   |   | 7 |   |
| Short-term  debt             |   | 22                                         |   | 22 |   | — |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **Cinergy Total**            |   |                                       |   | $ | 328 |   |   |   |   |   | $ | 803 |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **CG&E**and subsidiaries |   |                                       |   |   |   |   |   |   |   |   |   |
| Uncommitted  lines(1)        |   | $                                          | 15     |   | $ | — |   | $ | 15 |   |   |   |   |   |
| Pollution  control notes     |   |                                       |   | 112 |   |   |   |   |   |   |   |
| Money  pool                  |   |                                       |   | 3 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **CG&E Total**           |   |                                       |   | $ | 115 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **PSI**                      |   |                                       |   |   |   |   |   |   |   |   |   |
| Uncommitted  lines(1)        |   | $                                          | 60     |   | $ | — |   | $ | 60 |   |   |   |   |   |
| Pollution  control notes     |   |                                       |   | — |   |   |   |   |   |   |   |
| Money  pool                  |   |                                       |   | 230 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **PSI Total**                |   |                                       |   | $ | 230 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **ULH&P**                |   |                                       |   |   |   |   |   |   |   |   |   |
| Money  pool                  |   |                                       |   | $ | 5 |   |   |   |   |   |   |   |
|                         |   |                                       |   |   |   |   |   |   |   |   |   |
| **ULH&P Total**          |   |                                       |   | $ | 5 |   |   |   |   |   |   |   |
|                              |        |                                            |        |  |  |  |  |  |  |  |  |  |  |  |  |  |

 
|     |
|-----|
| (1) | Outstanding amounts may  be greater than established lines as uncommitted lenders are, at times,  willing to loan funds in excess of the established lines. |
| (2) | The commercial paper  program is limited to $800 million and is supported by **Cinergy Corp.’s** revolving lines. |
| (3) | Standby liquidity is  reserved against the revolving lines to support the commercial paper program  and outstanding letters of credit (currently $193 million and $11 million,  respectively). |

 

62

----

 

At March 31, 2003, **Cinergy Corp.** had $796 million remainingunused and available capacity relating to its $1 billion revolving creditfacilities.  These revolving creditfacilities included the following:

 

| **Credit Facility**          |   | **Expiration**     |   | **Established  Lines** |   | **Outstanding  and  Committed** |   | **Unused and  Available** |   |
|------------------------------|--------|--------------------|--------|------------------------|--------|---------------------------------|--------|---------------------------|--------|
|                         |   | **(in  millions)** |   |
|                         |   |               |   |                   |   |                            |   |                      |   |
| 364-day  senior revolving    |   | April 2003         |   |                   |   |                            |   |                      |   |
| Direct  borrowing            |   |               |   | $                      |   |                            | $      | —                    |   | $ |   |   |
| Commercial  paper support    |   |               |   |                   |   | 193                             |   |                      |   |
|                         |   |               |   |                   |   |                            |   |                      |   |
| Total  364-day facility      |   |               |   | 600                    |   | 193                             |   | 407                       |   |
|                         |   |               |   |                   |   |                            |   |                      |   |
| Three-year  senior revolving |   | May 2004           |   |                   |   |                            |   |                      |   |
| Direct  borrowing            |   |               |   |                   |   | —                          |   |                      |   |
| Commercial  paper support    |   |               |   |                   |   | —                          |   |                      |   |
| Letter  of Credit support    |   |               |   |                   |   | 11                              |   |                      |   |
|                         |   |               |   |                   |   |                            |   |                      |   |
| Total  three-year facility   |   |               |   | 400                    |   | 11                              |   | 389                       |   |
|                         |   |               |   |                   |   |                            |   |                      |   |
| Total  credit facilities     |   |               |   | $                      | 1,000  |                            | $      | 204                       |   | $ | 796 |   |
|                              |        |                    |        |                        |        |                                 |        |                           |        |  |  |  |  |

 

In April 2003, **Cinergy Corp.** successfully placed a $600million, 364-day senior unsecured revolving credit facility.  This facility replaces a $600 million,364-day facility that expired April 30, 2003.

 

In our credit facilities,**Cinergy Corp.** has covenanted tomaintain:

 

•                  aconsolidated net worth of $2 billion; and

•                  aratio of consolidated indebtedness to consolidated total capitalization not inexcess of 65 percent.

 

A breach of thesecovenants could result in the termination of the credit facilities and theacceleration of the related indebtedness. In addition to breaches of covenants, certain other events that couldresult in the termination of available credit and acceleration of the relatedindebtedness include:

 

•                  bankruptcy;

•                  defaultsin the payment of other indebtedness; and

•                  judgmentsagainst the company that are not paid or insured.

 

The latter two events,however, are subject to dollar-based materiality thresholds.

 

63

----

 

*Variable Rate Pollution ControlNotes*

 

**CG&E**has issued certain variable rate pollution control notes (tax-exempt notesobtained to finance equipment or land development for pollution controlpurposes).  Because the holders of thesenotes have the right to have their notes redeemed on a daily, monthly, orannual basis, they are reflected in *Notespayable and other short-term obligations* on the Balance Sheets for **Cinergy** and **CG&E**.  At March 31,2003, **CG&E** had $112 millionoutstanding in variable rate pollution control notes, classified as short-termdebt.  **PSI**had no outstanding short-term pollution control notes.  Any short-term pollution control noteborrowings outstanding do not reduce the unused and available short-term debtregulatory authority of **CG&E**, **PSI**, and **ULH&P**.  See Notes 4 and 5 of the “Notes to FinancialStatements” in “Item 1. Financial Information” for additional informationregarding pollution control notes.

 

*Money Pool*

 

**CinergyCorp.**, Services, and our operating companies participate in amoney pool arrangement to better manage cash and working capitalrequirements.  Under this arrangement,those companies with surplus short-term funds provide short-term loans toaffiliates (other than **Cinergy Corp.**)participating under this arrangement. This surplus cash may be from internal or external sources.  The amounts outstanding under this moneypool arrangement are shown as a component of *Notesreceivable from affiliated companies* and/or *Notes payable to affiliated companies* onthe Balance Sheets of **CG&E**, **PSI**, and **ULH&P**.  Any money pool borrowings outstanding reducethe unused and available short-term debt regulatory authority of **CG&E**, **PSI**,and **ULH&P**.

 

***Long-term Debt***

 

We are required to secureauthority to issue long-term debt from the SEC under the PUHCA and the stateutility commissions of Ohio, Kentucky, and Indiana.  The SEC under the PUHCA regulates the issuance of long-term debtby **Cinergy Corp.**  The respective state utility commissionsregulate the issuance of long-term debt by our operating companies.

 

64

----

 

A summary of ourlong-term debt authorizations at March 31, 2003, is as follows:

 

|                                  |   | **Authorized**    |   | **Used** |   | **Available** |   |
|---------------------------------------|--------|-------------------|--------|----------|--------|---------------|--------|
|                                  |   | **(in millions)** |   |
|                                  |   |              |   |     |   |          |   |
| **Cinergy Corp.**                     |   |              |   |     |   |          |   |
| PUHCA  total capitalization(1)        |   | $                 | 5,000  |     | $      | 1,521         |   | $ | 3,479 |   |
|                                  |   |              |   |     |   |          |   |
| **CG&E **and subsidiaries(2) |   |              |   |     |   |          |   |
| State  Public Utility Commissions     |   | 575               |   | —   |   | 575           |   |
|                                  |   |              |   |     |   |          |   |
| **PSI**                               |   |              |   |     |   |          |   |
| State  Public Utility Commission      |   | 500               |   | 83       |   | 417           |   |
|                                  |   |              |   |     |   |          |   |
| **ULH&P**                         |   |              |   |     |   |          |   |
| State  Public Utility Commission      |   | 75                |   | —   |   | 75            |   |
|                                       |        |                   |        |          |        |               |        |  |  |  |

 

----

| (1) | **Cinergy  Corp.,**under PUHCA, was granted approval to increase total  capitalization (excluding retained earnings and accumulated other  comprehensive income (loss)), which may be any combination of debt and equity  securities, by $5 billion.  Outside  this requirement, **Cinergy Corp.**is  not subject to specific regulatory debt authorizations. |
|-----|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) | Includes amounts for **ULH&P**.                                                                                                                                                                                                                                                                                                                                |

 

**CinergyCorp.** has an effective shelf registration statement with theSEC relating to the issuance of up to $750 million in any combination of commonstock, preferred stock, stock purchase contracts or unsecured debt securities,of which approximately $573 million remains available for issuance.  **CG&E**has an effective shelf registration statement with the SEC relating to theissuance of up to $500 million in any combination of unsecured debt securities,first mortgage bonds, or preferred stock, all of which remains available forissuance.  **PSI** has an effective shelf registration statement with the SECrelating to the issuance of up to $700 million in any combination of unsecureddebt securities, first mortgage bonds, or preferred stock, all of which remainsavailable for issuance.  **ULH&P** has effective shelf registrationstatements with the SEC relating to the issuance of up to $50 million inunsecured debt securities and up to $40 million in first mortgage bonds, ofwhich $30 million in unsecured debt securities and $20 million in firstmortgage bonds remain available for issuance.

 

***Off-Balance SheetFinancing***

 

As discussed in the 200210-K, **Cinergy** uses special-purposeentities (SPE) to finance various projects. The FASB issued Interpretation No. 46, *Consolidationof Variable Interest Entities* (Interpretation 46) in January2003.  This interpretation willsignificantly change the consolidation requirements for SPEs.  We have begun reviewing the impact of thisinterpretation but have not yet concluded whether consolidation of certain SPEswill be required.  There are two SPEsfor which consolidation may be required. These SPEs have individual power sale agreements to an unrelated thirdparty for approximately 45 megawatts (MW) of capacity, ending in 2009, and 35MW of capacity, ending in 2016.  Inaddition, the SPEs have individual power purchase agreements with CinergyCapital & Trading, Inc. (Capital & Trading) to supply the power.  Capital & Trading also provides variousservices, including certain credit support facilities.

 

65

----

 

**Cinergy’s**quantifiable exposure to loss as a result of involvement with these two SPEs is$28 million, which includes investments in these entities of $3 million andexposure under the capped credit facilities of approximately $25 million.  There is also a non-capped facility, but itcan only be called upon in the event the SPE breaches representations, violatescovenants, or other unlikely events.

 

If appropriate,consolidation of all assets and liabilities of these two SPEs, at their carryingvalues, will be required in the third quarter of 2003.  Approximately $225 million of non-recoursedebt would be included in **Cinergy’s**Consolidated Balance Sheets upon initial consolidation.  However, the impact on results of operationswould be expected to be immaterial.

 

**Cinergy**believes that its accounts receivable sale facility, as discussed in the 200210-K, would remain unconsolidated since it involves transfers of financialassets to a qualifying SPE, which is exempted from consolidation by Statementof Financial Accounting Standards No. 140, *Accountingfor Transfers and Servicing of Financial Assets and Extinguishments ofLiabilities* (Statement 140) and Interpretation 46.

 

**Cinergy**holds investments in various unconsolidated subsidiaries which are accountedfor under the equity method and has guaranteed approximately $8 million of thedebt of these entities.

 

66

----

 

***Securities Ratings***

 

As of March 31, 2003, themajor credit ratings agencies rated our securities as follows:

 

|                        |   | **Fitch(1)** |   | **Moody’s(2)** |   | **S&P(3)** |   |
|-----------------------------|--------|--------------|--------|---------------------|--------|----------------|--------|
|                        |   |         |   |                |   |           |   |
| **Cinergy Corp.**           |   |         |   |                |   |           |   |
| Corporate  Credit           |   | BBB+         |   | Baa2                |   | BBB+           |   |
| Senior  Unsecured Debt      |   | BBB+         |   | Baa2                |   | BBB            |   |
| Commercial  Paper           |   | F-2          |   | P-2                 |   | A-2            |   |
| Preferred  Trust Securities |   | BBB+         |   | Baa2                |   | BBB            |   |
|                        |   |         |   |                |   |           |   |
| **CG&E**                |   |         |   |                |   |           |   |
| Senior  Secured Debt        |   | A-           |   | A3                  |   | A-             |   |
| Senior  Unsecured Debt      |   | BBB+         |   | Baa1                |   | BBB            |   |
| Junior  Unsecured Debt      |   | BBB          |   | Baa2                |   | BBB-           |   |
| Preferred  Stock            |   | BBB          |   | Baa3                |   | BBB-           |   |
| Commercial  Paper           |   | F-2          |   | P-2                 |   | Not Rated      |   |
|                        |   |         |   |                |   |           |   |
| **PSI**                     |   |         |   |                |   |           |   |
| Senior  Secured Debt        |   | A-           |   | A3                  |   | A-             |   |
| Senior  Unsecured Debt      |   | BBB+         |   | Baa1                |   | BBB            |   |
| Junior  Unsecured Debt      |   | BBB          |   | Baa2                |   | BBB-           |   |
| Preferred  Stock            |   | BBB          |   | Baa3                |   | BBB-           |   |
| Commercial  Paper           |   | F-2          |   | P-2                 |   | Not Rated      |   |
|                        |   |         |   |                |   |           |   |
| **ULH&P**               |   |         |   |                |   |           |   |
| Senior  Unsecured Debt      |   | Not Rated    |   | Baa1                |   | BBB            |   |

 

----

| (1)                                                                                                      | Fitch IBCA (Fitch )                                     |
|----------------------------------------------------------------------------------------------------------|---------------------------------------------------------|
| (2)                                                                                                      | Moody’s Investors  Service (Moody’s )         |
| (3)                                                                                                      | Standard & Poor’s  Ratings Services (S&P ) |
|                                                                                                     |
| The lowest investment  grade credit rating for Fitch is BBB-, Moody’s is Baa3, and S&P is BBB-. |

 

These securities ratingsmay be revised or withdrawn at any time, and each rating should be evaluatedindependently of any other rating.

 

***Equity Securities***

 

As discussed in the 200210-K, under the SEC’s June 2000 Order, **CinergyCorp.** is permitted to increase its total capitalization by $5billion.  The proceeds from any newissuances will be used for general corporate purposes.

 

On January 15, 2003, **Cinergy Corp.** filed a registrationstatement with the SEC with respect to the issuance of common stock, preferredstock, and other securities in an aggregate offering amount of $750million.  On February 5, 2003, **Cinergy** sold 5.7 million shares of commonstock of **Cinergy Corp.** with netproceeds of approximately $175 million under this registration statement.

 

See Note 2 of the “Notes to Financial Statements” in “Part 1. FinancialInformation” for additional information regarding other common stock issuances.

### ** **

### **67**

### ****

###  

**MD&A- QUARTERLY RESULTS OF OPERATIONS -HISTORICAL**

 

### **2003 QUARTERLY RESULTS OFOPERATIONS - HISTORICAL**

 

#### **Summary of Results**

 

Electric and gas grossmargins and net income for **Cinergy**,**CG&E**, and **PSI** for the quarters ended March 31, 2003and 2002 were as follows:

 

|                   |   | **Cinergy(1)**      |        | **CG&E  and subsidiaries** |   | **PSI**     |       |
|------------------------|--------|---------------------|-------------|--------------------------------|--------|-------------|------------|
|                   |   | **2003**            |        | **2002**                       |   | **2003**    |       | **2002** |   | **2003** |   | **2002** |   |
|                   |   | **(in  thousands)** |        |
|                   |   |                |        |                           |   |        |       |   |   |   |   |   |   |
| Electric  gross margin |   | **$**               | **557,400** | ** **                     | $      | 550,086     |       | **$** | **298,010** | ** ** | $ | 290,871 |   | **$** | **244,816** | ** ** | $ | 243,352 |   |
| Gas  gross margin      |   | **162,918**         | ** **  | 80,184                         |   | **103,511** | ** ** | 71,641 |   | **—** | ** ** | — |   |
| Net  income            |   | **166,085**         | ** **  | 84,829                         |   | **117,236** | ** ** | 77,585 |   | **33,727** | ** ** | 38,083 |   |
|                        |        |                     |             |                                |        |             |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

| (1) | The results of **Cinergy** also include amounts related to  non-registrants. |
|-----|------------------------------------------------------------------------------|

 

Net income for the firstquarter of 2003 was $166 million ($.95 per share on a diluted basis) ascompared to $85 million ($.52 per share on a diluted basis) for the same periodlast year.  Income before taxes for theperiod was $198 million compared to $150 million for the same period a yearago.  Increased gross margins, primarilyfrom wholesale and retail gas operations, were partially offset by higheroperating costs.  These gas marginsprimarily reflect the results of our domestic gas trading operation, CinergyMarketing & Trading, LP (Marketing & Trading) as well as an increasedvolume of retail sales due to colder than normal weather during thequarter.  Also contributing to the gasmargin increase over 2002 was the impact of accounting changes that requiredcertain gas contracts and inventory to be accounted for on the accrual basisbeginning in 2003.  **Cinergy’s**increased income also reflects anet gain resulting from the implementation of certain accounting changes, whichhave been reflected as a cumulative effect of a change in accountingprinciples.  See Note 1(j)(*viii*) of the “Notes to FinancialStatements” in “Item 1. Financial Information” for further informationregarding these accounting changes.

 

#### **Electric Operating Revenues**

 
|           |   | **Cinergy(1)**     |       | **CG&E  and subsidiaries** |   | **PSI**      |   |
|----------------|--------|--------------------|------------|--------------------------------|--------|--------------|--------|
|           |   | **2003**           |       | **2002**                       |   | **% Change** |   | **2003** |   | **2002** |   | **% Change** |   | **2003** |   | **2002** |   | **% Change** |   |
|           |   | **(in  millions)** |       |
|           |   |               |       |                           |   |         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Retail         |   | **$**              | **678**    | ** **                     | $      | 651          |   | 4 |   | **$** | **328** | ** ** | $ | 334 |   | (2 | ) | **$** | **350** | ** ** | $ | 318 |   | 10 |   |
| Wholesale      |   | **126**            | ** ** | 94                             |   | 34           |   | **70** | ** ** | 33 |   | N/M |   | **56** | ** ** | 44 |   | 27 |   |
| Transportation |   | **6**              | ** ** | 2                              |   | N/M          |   | **6** | ** ** | 2 |   | N/M |   | **—** | ** ** | — |   | — |   |
| Other          |   | **27**             | ** ** | 32                             |   | (16          | )      | **25** | ** ** | 29 |   | (14 | ) | **6** | ** ** | 4 |   | 50 |   |
| Total          |   | **$**              | **837**    | ** **                     | $      | 779          |   | 7 |   | **$** | **429** | ** ** | $ | 398 |   | 8 |   | **$** | **412** | ** ** | $ | 366 |   | 13 |   |

 
|                                                                                       |
|---------------------------------------------------------------------------------------|
| (1)  The results of **Cinergy** also include amounts related to non-registrants. |
| N/M Not meaningful to an understanding of the  change.                                |

 

*Electricoperating revenues*increased for **Cinergy**,**CG&E**,****and**PSI**for the quarter ended March 31, 2003, as compared to 2002.  Retail revenues increased for **Cinergy** and **PSI**primarily due to

 

68

----

 

increased megawatt hour(MWh) sales due to colder than normal weather. **PSI’s** retail revenuesreflect increases in MWh sales in residential, commercial, and industrialcustomer classes.  **PSI’s** increase also reflects a higher pricereceived per MWh due to tariff adjustments associated with fuel cost recoveryand certain construction programs.  **CG&E’s** retail revenues decreasedslightly for the quarter ended March 31, 2003, as compared to 2002.  Increased residential sales, attributable tocolder than normal weather, were offset by decreases in revenue from commercialand industrial customers.  This decreasereflects a sluggish economy and the migration of certain customers to atransportation-only tariff in connection with the Ohio electric customer choiceprogram.

 

Wholesale revenuesincreased for **Cinergy**,**CG&E**,and**PSI** for the quarterended March 31, 2003, as compared to 2002. The increase in wholesale revenues for **Cinergy**and **CG&E** primarily reflectshigher non-firm wholesale sales volumes due to the colder than normalweather.  Also contributing to theincrease was an increase in the wholesale gross margin realized per MWh.  **CG&E’s**increase also reflects the implementation of the new joint operating agreement effectiveApril 2002.  In connection with theimplementation of the new operating agreement, the majority of new wholesalesales transactions entered into since April 2002 were originated on behalf of **CG&E**. **PSI’s**increase reflectshigher wholesale gross margins realized per MWh.  This increase was partially offset by lower wholesale salesvolumes due to the new joint operating agreement.

 

#### **Gas Operating Revenues**

 

|           |   | **Cinergy(1)**    |       | **CG&E  and subsidiaries** |   |
|----------------|--------|-------------------|------------|--------------------------------|--------|
|           |   | **2003**          |       | **2002**                       |   | **% Change** |   | **2003** |   | **2002** |   | **% Change** |   |
|           |   | **(in millions)** |       |
|           |   |              |       |                           |   |   |   |   |   |   |   |   |   |
| Retail         |   | **$**             | **253**    | ** **                     | $      | 161 |   | 57 |   | **$** | **253** | ** ** | $ | 161 |   | 57 |   |
| Wholesale      |   | **125**           | ** ** | 11                             |   | N/M |   | **—** | ** ** | — |   | — |   |
| Transportation |   | **20**            | ** ** | 17                             |   | 18 |   | **20** | ** ** | 17 |   | 18 |   |
| Other          |   | **1**             | ** ** | 1                              |   | — |   | **2** | ** ** | 2 |   | — |   |
| Total          |   | **$**             | **399**    | ** **                     | $      | 190 |   | N/M |   | **$** | **275** | ** ** | $ | 180 |   | 53 |   |

 

----

| (1)  The results of **Cinergy** also include amounts related to non-registrants. |
|---------------------------------------------------------------------------------------|
| N/M  Not meaningful to an understanding of the change.                                |

 

*Gasoperating revenues* increased for **Cinergy** and **CG&E**for the quarter ended March 31, 2003, as compared to 2002.  **Cinergy’s**and**CG&E’s** retail gas revenuesincreased due to an increase in retail per thousand cubic feet (mcf) sales andhigher prices received per mcf delivered. The increase in retail gas sales volumes is primarily the result of the colderthan normal weather in the first quarter of 2003.  The higher price per mcf delivered reflects an increase in **CG&E’s** base rates, as approved by thePUCO in May 2002, and tariff adjustments associated with the gas mainreplacement program and gas cost recovery mechanism.  For further information see Note 7(m) in the “Notes to FinancialStatements” in “Item 1. Financial Information”.**  CG&E’s** wholesalegas commodity cost is passed directly to the retail customer dollar-for-dollarunder the gas cost recovery mechanism mandated by state law.

 

69

----

 

Wholesale gas revenuesconsist almost exclusively of activity within Marketing & Trading.  **Cinergy**began reporting revenues from energy trading derivative contracts on a netbasis in 2003, in accordance with the required adoption of Emerging Issues TaskForce (EITF) Issue 02-3, *Issues Involved inAccounting for Derivatives Contracts Held for Trading Purposes and ContractsInvolved in Energy Trading and Risk Management Activities* (EITF02-3).  See Note 3 in the “Notes toFinancial Statements” in “Item 1. Financial Information” for additionalinformation.  Wholesale gas revenues for**Cinergy** increased for the quarterended March 31, 2003, as compared to 2002. Marketing & Trading beganengaging in significant storage activities in the second quarter of 2002,resulting in increased revenues, which must be presented on a gross revenuebasis.   (Storage activity involvesacquiring and storing gas primarily during off-peak periods for withdrawal andsale during periods of higher demand.) Additionally, revenues (net margins) increased from basis trading due toextreme volatility of natural gas prices.

 

#### **Other Revenues**

 

*Otherrevenues*for **Cinergy**increased for the quarter ended March 31, 2003, as compared to 2002, primarilydue to the sale of synthetic fuel, which began in July 2002.

 

#### **Operating Expenses**

 
|                           |   | **Cinergy(1)**     |       | **CG&E  and subsidiaries** |   | **PSI**      |   |
|--------------------------------|--------|--------------------|------------|--------------------------------|--------|--------------|--------|
|                           |   | **2003**           |       | **2002**                       |   | **% Change** |   | **2003** |   | **2002** |   | **% Change** |   | **2003** |   | **2002** |   | **% Change** |   |
|                           |   | **(in  millions)** |       |
|                           |   |               |       |                           |   |         |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Fuel                           |   | **$**              | **240**    | ** **                     | $      | 204          |   | 18 |   | **$** | **105** | ** ** | $ | 93 |   | 13 |   | **$** | **135** | ** ** | $ | 110 |   | 23 |   |
| Purchased  and exchanged power |   | **39**             | ** ** | 25                             |   | 56           |   | **26** | ** ** | 14 |   | 86 |   | **32** | ** ** | 13 |   | N/M |   |
| Gas  purchased                 |   | **236**            | ** ** | 110                            |   | N/M          |   | **172** | ** ** | 108 |   | 59 |   | **—** | ** ** | — |   | — |   |
| Operation  and maintenance     |   | **327**            | ** ** | 263                            |   | 24           |   | **135** | ** ** | 106 |   | 27 |   | **112** | ** ** | 115 |   | (3 | ) |
| Depreciation                   |   | **106**            | ** ** | 99                             |   | 7            |   | **49** | ** ** | 48 |   | 2 |   | **43** | ** ** | 38 |   | 13 |   |
| Taxes  other than income taxes |   | **78**             | ** ** | 72                             |   | 8            |   | **60** | ** ** | 54 |   | 11 |   | **16** | ** ** | 16 |   | — |   |
| Total                          |   | **$**              | **1,026**  | ** **                     | $      | 773          |   | 33 |   | **$** | **547** | ** ** | $ | 423 |   | 29 |   | **$** | **338** | ** ** | $ | 292 |   | 16 |   |

 

----

(1)  The results of **Cinergy** also include amounts related to non-registrants.

N/M Not meaningful to anunderstanding of the change.

 

70

----

 

***Fuel***

 

*Fuel* primarily represents the cost ofcoal, natural gas, and oil that is used to generate electricity.  The following table details the changes tofuel expense from the quarter ended March 31, 2002, to the quarter ended March31, 2003:

 

|                                     |   | **Cinergy(1)**     |    | **CG&E** |   | **PSI** |       |
|------------------------------------------|--------|--------------------|---------|--------------|--------|---------|------------|
|                                     |   | **(in  millions)** |    |
|                                     |   |               |    |         |   |    |       |
| Fuel  expense - March 31, 2002           |   | $                  | 204     |         | $      | 93      |       | $ | 110 |   |
|                                     |   |               |    |         |   |    |       |
| *Increase (decrease) due to changes in:* |   |               |    |         |   |    |       |
| Price  of fuel                           |   | 6                  |    | —       |   | 6       |       |
| Deferred  fuel cost                      |   | 13                 |    | —       |   | 13      |       |
| MWh  generation                          |   | 14                 |    | 8            |   | 6       |       |
| Other(2)                                 |   | 3                  |    | 4            |   | —  |       |
|                                     |   |               |    |         |   |    |       |
| **Fuel  expense - March 31, 2003**       |   | **$**              | **240** | ** **   | **$**  | **105** | ** ** | **$** | **135** | ** ** |

 

----

| (1)  The results of **Cinergy** also include amounts related to non-registrants. |
|---------------------------------------------------------------------------------------|
| (2)  Includes costs of third party coal sales.                                   |

 

***Purchased andExchanged Power***

 

*Purchasedand exchanged power*expense* *increasedfor **Cinergy**,**CG&E**,and**PSI**for****the quarter ended March 31, 2003, ascompared to 2002.  This increase isprimarily the result of increases in MWh volumes purchased caused by the colderthan normal weather conditions.  Also,contributing to this increase was an increase in the price paid per MWh.  First quarter average wholesale electricityprices were 85 percent higher over the same period in 2002.  As discussed above, **CG&E’s** and **PSI’s***Purchased andexchanged power* expense also reflects the effects of theimplementation of the new joint operating agreement beginning in April 2002.

 

***Gas Purchased***

 

*Gaspurchased* expense increased for **Cinergy** and **CG&E**for the quarter ended March 31, 2003, as compared to 2002.  This increase was primarily due to anincrease in the average cost per mcf of gas purchased.  Also, contributing to the increase wasincreased volumes purchased.  The****primary cause of the price and consumptionincreases was the colder than normal weather experienced in the Midwest, whichdrove up the demand for natural gas.  **CG&E’s** wholesale commodity cost ispassed directly to the retail customer dollar-for-dollar under the gas cost recoverymechanism mandated by state law.  Asdiscussed under “Gas Operating Revenues”, storage activity is required to bepresented on a gross basis, resulting in the utilization of storage gas beingreflected as *Gas purchased*expense rather than netted with gas revenue. With Marketing & Trading’s increased storage activity, asignificantly greater quantity of gas was sold during the quarter.

 

71

----

 

***Operation andMaintenance***

 

*Operationand maintenance* expense increased for **Cinergy** and**CG&E** and decreased for **PSI**for the quarter ended March 31, 2003 as compared to 2002.  **Cinergy’s**increase primarily reflects costs associated with the production of syntheticfuel, which began in July 2002. Additionally, **Cinergy’s**,**CG&E’s**,****and**PSI’s**comparative*****Operationand maintenance* expenses reflect an increase in the costs ofemployee compensation and benefit programs. **Cinergy’s**and **CG&E’s**increase also reflects increasedamortization of regulatory transition assets.

 

##### ***Depreciation***

* *

*Depreciation*expense increased for **Cinergy**,**CG&E**, and **PSI** for the quarter ended March 31, 2003,as compared to 2002.  This increase wasprimarily attributable to the addition of depreciable plant.  **Cinergy’s**increasealso includes the addition of the depreciable equipment associated with theproduction of synthetic fuel, which began in July 2002.

 

***Taxes Other ThanIncome Taxes***

 

*Taxesother than income taxes*expense increased for **Cinergy** and **CG&E** for the quarter ended March 31, 2003, as compared to2002.  This increase was primarilyattributable to an increase in gas and electric sales volumes.  Also contributing to **CG&E’s** increase was an increase inproperty taxes.

 

**Miscellaneous - net**

 

*Miscellaneous- net* increased for the quarter ended March 31, 2003, ascompared to 2002, primarily due to the recognition of expense in 2002 forpreviously deferred costs, that were denied recovery in the final order on **ULH&P’s** gas rate case.  Also contributing to this increase was again on the sale of property held for potential future use in Ohio.

 

**Interest**

 

*Interest*expense decreased for **Cinergy** andincreased for **CG&E**for thequarter ended March 31, 2003, as compared to 2002.  **Cinergy’s** decreasewas primarily the result of lower interest rates.  **CG&E’s** increasewas mainly due to an increase in the amount of long-term debt outstanding,partially offset by a reduction in the amount of short-term debtoutstanding.  In general, long-termfixed interest rates are higher than variable short-term interest rates.

 

**Income Taxes**

 

*Incometaxes* expense increased for **Cinergy**for the quarter ended March 31, 2003, as compared to 2002, primarily due toincreased taxable income.  Partiallyoffsetting this increase were the tax credits associated with the productionand sale of synthetic fuel, which began in July 2002.

 

72

----

 

**Cumulative Effect of a Change in Accounting Principles, Netof Tax**

 

**Cinergy**,**CG&E**, and **PSI**recognized a *Cumulativeeffect of a change in accounting principles, net of tax* gain/(loss)of approximately $26 million, $31 million, and $(0.5) million,respectively.  The cumulative effect ofa change in accounting principles is a result of the adoption of Statement ofFinancial Accounting Standards No. 143, *Accountingfor Asset Retirement Obligations* (Statement 143) and the rescissionof EITF Issue 98-10, *Accounting forContracts Involved in Energy Trading and Risk Management Activities*(EITF 98-10).  See Note 1(j)(*viii*) of the “Notes to FinancialStatements” in “Item 1. Financial Information” for further information.

 

In 2002, **Cinergy** recognized a *Cumulative effect of a change in accountingprinciple, net of tax*loss of approximately $11 million as a resultof implementation of Statement of Financial Accounting Standards No. 142, *Goodwill and Other Intangible Assets*(Statement 142).  See Note 1(j)(*viii*) of the “Notes to FinancialStatements” in “Item 1. Financial Information” for further information.

 

73

----

 

**ULH&P**

 

The Results of Operationsdiscussion for **ULH&P** ispresented only for the three months ended March 31, 2003, in accordance withGeneral Instruction H(2)(a) of Form 10-Q.

 

Electric and gas marginsand net income for **ULH&P** forthe three months ended March 31, 2003 and 2002, were as follows:

 

|                   |   | **ULH&P**       |       |
|------------------------|--------|---------------------|------------|
|                   |   | **2003**            |       | **2002** |   |
|                   |   | **(in  thousands)** |       |
|                   |   |                |       |   |   |
| Electric  gross margin |   | **$**               | **15,806** | ** ** | $ | 15,019 |   |
| Gas  gross margin      |   | **17,884**          | ** ** | 12,315 |   |
| Net  income            |   | **9,406**           | ** ** | 3,884 |   |
|                        |        |                     |            |  |  |  |  |

 

**Electric Operating Revenues**

 

*Electricoperating revenues* increased for the three months ended March31, 2003, as compared to 2002, mainly due to an increase in MWh sales resultingfrom colder than normal weather.

 

**Electricity Purchased from ParentCompany for Resale**

 

*Electricitypurchased from parent company for resale* increased for thethree months ended March 31, 2003, as compared to 2002 due to an increase inconsumption as a result of colder than normal weather.

 

**Gas Operating Revenues**

 

*Gasoperating revenues* increased for the three months ended March31, 2003, as compared to 2002.  Thisincrease is primarily due to an increase in mcf sold and higher prices receivedper mcf, as a result of colder than normal weather.  New base rates for **ULH&P**,which were effective January 31, 2002, and tariff adjustments associated withthe gas main replacement program and gas cost recovery mechanism alsocontributed to this increase.  Forfurther information see Note 7(n) in the “Notes to Financial Statements” in“Item 1.  Financial Information”.  **ULH&P’s**wholesale gas commodity cost is passed directly to the retail customerdollar-for-dollar under the gas cost recovery mechanism mandated by state law.

 

**Gas Purchased**

 

*Gaspurchased* expense increased for the three months ended March31, 2003, as compared to 2002, due to increased purchases and higher pricespaid per mcf, primarily the result of colder than normal weather experienced inthe Midwest, which drove up the demand for natural gas.  The wholesale gas commodity cost is passeddirectly to the retail customer dollar-for-dollar under the gas cost recoverymechanism that is mandated under state law.

 

74

----

 

***Operation andMaintenance***

 

*Operationand maintenance* expense increased for the three months endedMarch 31, 2003, as compared to 2002, due primarily to increased amortization ofdemand side management program costs and maintenance of overhead lines costs.

 

**Miscellaneous - net**

 

*Miscellaneous- net* increased for the three months ended March 31, 2003, ascompared to 2002, primarily due to the recognition of expense in 2002 forpreviously deferred costs, that were denied recovery in the final order on **ULH&P’s** gas rate case.

 

**Income Taxes**

 

*Incometaxes* expense increased for the three months ended March 31,2003, as compared to 2002, primarily due to an increase in taxable income.

 

75

----

 

**MD&A - RESULTS OF OPERATIONS - FUTURE**

 

**FUTURE EXPECTATIONS/TRENDS**

 

In the “FutureExpectations/Trends” section, we discuss electric and gas industry developments,market risk sensitive instruments and positions, and accounting matters.  Each of these discussions will address thecurrent status and potential future impact on our results of operations andfinancial condition.

 

**ELECTRIC INDUSTRY**

 

**Wholesale Market Developments**

 

***Supply-side Actions***

 

In December 2002, theIndiana Utility Regulatory Commission (IURC) approved a settlement agreementamong **PSI**, the Indiana Office ofthe Utility Consumer Counselor, and the IURC Testimonial Staff authorizing **PSI’s** purchase of the Henry County, Indianaand Butler County, Ohio, gas-fired peaking plants from two non-regulatedaffiliates.  In February 2003, the FERCissued an order under Section 203 of the Federal Power Act authorizing **PSI’s** acquisition of the plants, whichoccurred on February 5, 2003. Subsequently, in April 2003, the FERC issued a tolling order allowingadditional time to consider a request for rehearing filed in response to theFebruary 2003 FERC order.  At this time,we cannot predict the outcome of this matter.

 

**Retail Market Developments**

 

***Ohio***

 

As discussed in the 200210-K, **CG&E** is in a marketdevelopment period, beginning the transition to electric deregulation in thestate of Ohio.  The transition period isgoverned by Amended Substitute Senate Bill No. 3 (Electric Restructuring Bill)and a stipulated agreement adopted and approved by the PUCO.  Under **CG&E’s**transition plan, retail customers continue to receive transportation servicesfrom **CG&E**, but may purchaseelectricity from another supplier. Retail customers that purchase electricity from another supplier receiveshopping credits from **CG&E**.  The shopping credits generally reflect thecosts of electric generation included in **CG&E’s**frozen rates.  However, shopping creditsfor the first 20 percent of electricity usage in each customer class to switchsuppliers are higher than **CG&E’s**electric generation costs in order to stimulate the development of thecompetitive retail electric service market.

 

**CG&E**recovers its regulatory assets and other transition coststhrough a Regulatory Transition Charge (RTC) paid by all retail customers.  As the RTC is collected from customers, **CG&E** amortizes the deferred balance ofregulatory assets and other transition costs. A portion of the RTC collected from customers is recognized currently asa return on the deferred balance of regulatory assets and other transitioncosts and as reimbursement for the difference in the shopping credits providedto customers and the wholesale revenues from switched generation.  The ability of **CG&E** to recover its regulatory assets and other transitioncosts is dependent on several factors, including, but not limited to, the levelof **CG&E’s** electric sales,prices in the wholesale power markets, and the amount of customer switching toother electric suppliers.

 

76

----

 

On January 10, 2003, **CG&E** filed an application with the PUCOfor approval of a methodology to establish how market-based rates fornon-residential customers will be determined when the market development periodends.  In the filing, **CG&E** seeks to establish a market-basedstandard service offer rate for non-residential customers that do not switchsuppliers and a process for establishing the competitively bid generationservice option required by the Electric Restructuring Bill.  As of March 31, 2003, more than 20 percentof the load in each of **CG&E’s**non-residential customer classes has switched to other electric suppliers.  Under its transition plan, **CG&E** may end the market developmentperiod for those classes of customers once 20 percent switching has beenachieved; however, PUCO approval of the standard service offer rate andcompetitive bidding process is required before the market development periodcan be ended.  **CG&E** is not requesting to end themarket development period for non-residential customers at this time.  **CG&E**is unable to predict the outcome of this proceeding.

 

***Federal Update***

 

*Energy Bill*

 

The U.S. House ofRepresentatives (House) passed the Energy Policy Act in April 2003.  This followed extensive committee debate andattempts to pass similar legislation in 2002. This year’s bill includes PUHCA repeal, tax incentives for gas andelectric distribution lines, and combined heat and power and renewable energy.

 

The U.S. Senate (Senate)Energy and Natural Resources Committee passed its version of the Energy Bill inApril 2003.  That legislation isscheduled to be considered by the entire Senate sometime during the secondquarter of 2003.  The Senate versionincludes PUHCA repeal and encourages regional dialogues between states and theFERC on the continued formation of regional transmission organizations.

 

*Clear Skies Legislation*

 

The importance of ClearSkies legislation is that it would replace unpredictable environmentalregulations with set targets and timetables, allowing the industry adequatetime to access needed capital and build environmental improvementprojects.  Clear Skies legislation wouldseek an overall 70 percent improvement in emissions from power plants over aphased-in reduction schedule beginning in 2010 and stretching to 2018.  The first hearing was held on thelegislation in early April 2003 and **Cinergy**testified in favor of swift passage. Additional hearings are scheduled and the Senate Environment Committeehopes to review the bill in subcommittee in the second quarter of 2003.  Timing for consideration is less certainwith the House.  Therefore, theprospects for passage of the Clear Skies legislation are unclear.

 

**Midwest Independent TransmissionSystem Operator, Inc. (Midwest ISO)**

 

***Historical***

 

As part of the effort tocreate a competitive wholesale power marketplace, the FERC approved theformation of the Midwest ISO during 1998. In that same year, **Cinergy**agreed to join the Midwest ISO in preparation for meeting anticipated changesin the FERC regulations and future

 

77

----

 

deregulationrequirements.  The Midwest ISO wasestablished as a non-profit organization to maintain functional control overthe combined transmission systems of its members.

 

***FERC Orders***

 

In related activity, theFERC issued an order in December 2001, in response to protests of the MidwestISO’s proposed methodology related to the calculation of its administrativeadder fees for the services it provides. **Cinergy** and a number ofother parties filed protests to the proposed methodology, suggesting, amongother things, that the methodology was inconsistent with the transmissionowners’ prior agreement with the Midwest ISO and selectively allowed onlyindependent transmission companies to choose which unbundled administrativeadder services they wished to purchase from the Midwest ISO.  A partial settlement was reached in the FERCproceeding, resolving the issues addressed by **Cinergy’s**protest in a manner favorable to **Cinergy**.  The settlement agreement was approved by theFERC in a February 24, 2003 order and will be implemented during 2003 -resulting in about $25 million of administrative adder credits to be sharedamong the Midwest ISO transmission owners.

 

In late 2001 and early2002, the FERC issued its Opinion Nos. 453 and 453-A ordering, among otherthings, that transmission service for bundled retail customers (i.e., customerswho cannot select an alternative energy provider) be provided under the MidwestISO’s open access transmission tariff, and that the Midwest ISO’s charges forits administrative services apply to bundled retail customers.  **Cinergy**and other parties have appealed these orders to the U.S. Court of Appeals forthe District of Columbia Circuit (the Court), challenging the application ofthe Midwest ISO’s tariff, and the Midwest ISO’s charges for its administrativeservices to bundled retail customers. At the request of the FERC, the Court remanded the matter back to theFERC for further proceedings.  In itsorder on remand, the FERC upheld its prior determinations in Opinion Nos. 453and 453-A.  **Cinergy** and other Midwest ISO transmission owners haverequested rehearing of the FERC’s order on remand.  **Cinergy** cannotpredict the outcome of the rehearing request, whether the matter will again beappealed to the courts, or the outcome of any such appeal.

 

**Significant Rate Developments**

 

***PSI Retail RateCase***

 

In December 2002, **PSI** filed a petition with the IURC seekingapproval of a base retail electric rate increase.  **PSI** filed initialtestimony in this case in March 2003.  **PSI** proposes an increase in revenues ofapproximately $200 million, or an average increase of approximately 15 percentover **PSI’s** retail electric ratesin effect at the end of 2002.  An IURCdecision is expected in the first quarter of 2004.

 

***PSI Purchased PowerTracker (Tracker)***

 

The Tracker was designedto provide for the recovery of costs related to purchases of power necessary tomeet native load requirements to the extent such costs are not recoveredthrough the existing fuel adjustment clause.

 

78

----

 

**PSI**is authorized to seek recovery of 90 percent of its purchased power expensesthrough the Tracker (net of the displaced energy portion recovered through thefuel recovery process and net of the mitigation credit portion), with the remaining10 percent deferred for subsequent recovery in **PSI’s**general rate case. In March 2002, **PSI** filed apetition with the IURC seeking approval to extend the Tracker process beyondthe summer of 2002.  A hearing was heldon January 16, 2003, and the case is now awaiting an IURC order.  We cannot predict the outcome of thisproceeding at this time.

 

***PSI Fuel AdjustmentCharge***

 

In June 2001, **PSI** filed a petition with the IURCrequesting authority to recover $16 million in under billed deferred fuel costsincurred from March 2001 through May 2001. The IURC approved recovery of these costs subject to refund pending thefindings of an investigative sub-docket. The sub-docket was opened to investigate the reasonableness of, andunderlying reasons for, the under billed deferred fuel costs.  A hearing was held in July 2002, and inMarch 2003 the IURC issued an order giving final approval to **PSI’s** recovery of the $16 million.

 

***PSI ConstructionWork in Progress (CWIP) Ratemaking Treatment for Nitrogen Oxide (NO******X)Equipment***

 

In April 2003, **PSI** filed an application with the IURCrequesting that its CWIP rate adjustment mechanism be updated for expendituresthrough December 2002 related to NOX equipment currently beinginstalled at certain **PSI**generation facilities.  CWIP ratemakingtreatment allows for the recovery of carrying costs on certain pollutioncontrol equipment while and after the equipment is under construction.  Testimony and exhibits supporting **PSI’s** second CWIP rate adjustment mechanismupdate have not yet been filed. However, amounts proposed for potential recovery are presented below:

 

**PSI CWIP Ratemaking for NO*****X*Equipment**

 

|                                                       |   | **PSI**            |   |
|------------------------------------------------------------|--------|--------------------|--------|
|                                                       |   | **(in  millions)** |   |
|                                                       |   |               |   |
| Total  retail CWIP expenditures as of December 31, 2002    |   | $                  | 305    |   |
|                                                       |   |               |   |
| Proposed  total amount requested through CWIP mechanism(1) |   | 35                 |   |
| Less:  previously approved CWIP mechanism amounts          |   | (28                | )      |
| Proposed  incremental CWIP mechanism amounts               |   | $                  | 7      |   |

 

----

| (1) | Amounts include retail  customers’ portion only and represent an annual return on qualified NOX  equipment expenditures. |
|-----|-------------------------------------------------------------------------------------------------------------------------------|

 

**PSI’s**initial CWIP rate mechanism adjustment (authorized in July 2002) resulted in anapproximately one percent increase in customer rates.  Under the IURC’s CWIP rules, **PSI**may update its CWIP tracker at six-month intervals.  The first such update to **PSI’s** CWIP rate mechanism occurred in thefirst quarter of 2003.  The IURC’s July2002 order also authorized **PSI** todefer, for subsequent recovery, post-in-service depreciation and to continuethe accrual for allowance for funds used during construction (AFUDC).  Pursuant to Statement of Financial

 

79

----

 

Accounting Standards No.92, *Regulated Enterprises-Accounting forPhase-in Plans*, the equity component of AFUDC will not be deferredfor financial reporting after the related assets are placed in service.

 

**GAS INDUSTRY**

 

**ULH&P Gas Rate Case**

 

Asdiscussed in the 2002 10-K, in the second quarter of 2001, **ULH&P** filed a retail gas rate case with theKentucky Public Service Commission (KPSC) seeking to increase base rates fornatural gas distribution services and requesting recovery through a trackingmechanism of the costs of an accelerated gas main replacement program with anestimated capital cost of $112 million over 10 years.  **ULH&P** made its second annual filing for an increase under the trackingmechanism in March 2003.  Theapplication seeks an increase of $2 million. **ULH&P** expectsthe KPSC to rule on the application during the second quarter of 2003.  Atthe present time, **ULH&P** cannot predict the outcome of this proceeding.  The Kentucky Attorney General has appealed the KPSC’s approval ofthe tracking mechanism to the Franklin Circuit Court and has also appealed theKPSC’s August 2002 order approving the new tracking mechanism rates.  At the present time, **ULH&P** cannot predict the timing or outcome of thislitigation.

 

**CG&E Gas Rate Case**

 

In the third quarter of2001, **CG&E** filed a retail gasrate case with the PUCO seeking to increase base rates for natural gasdistribution service and requesting recovery through a tracking mechanism ofthe costs of an accelerated gas main replacement program with an estimatedcapital cost of $716 million over 10 years. **CG&E** entered into asettlement agreement with most of the parties and a hearing on this matter washeld in April 2002.  An order was issuedin May 2002, in which the PUCO approved the settlement agreement and authorizeda base rate increase of approximately $15 million, or 3.3 percent overall,effective May 30, 2002.  In addition,the PUCO authorized **CG&E** toimplement the tracking mechanism to recover the costs of the accelerated gasmain replacement program, subject to certain rate caps that increase in amountannually through May 2007, through the effective date of new rates in **CG&E’s** next retail gas rate case.  In the fourth quarter of 2002, **CG&E**filed an application to increaseits rates under the tracking mechanism. In April 2003, **CG&E**entered into a settlement agreement with the parties, providing for an increaseof $6.5 million, which the PUCO subsequently approved.

 

**Gas Prices**

 

Natural gas prices began to escalate dramaticallyduring the fourth quarter of 2002 and peaked midway through the first quarterof 2003.  This significant increase ingas costs prompted **CG&E** and **ULH&P** to make additional interimfilings with the PUCO and KPSC, respectively, to increase their gas costadjustment rates for the remaining two months of the quarter which began inMarch 2003.  These interim filings weresubsequently approved by the Commissions.** **Currently, neither **CG&E** nor **ULH&P** profit from changes in the cost of gas.  Natural gas purchase costs are passeddirectly to the customer dollar-for-dollar under the gas cost recoverymechanism that is mandated under state law.

 

80

----

 

In May 2003, **ULH&P**filed an application with the KPSC requesting approval of a gasprocurement-hedging program designed to mitigate the effects of gas pricevolatility on customers.  If approved,the hedging program will allow the pre-arranging of between 20-65 percent ofwinter heating season base load gas requirements and between 0-50 percent ofsummer season base load gas requirements.

 

**ULH&P**uses primarily fixed price forward contracts and contractswith a ceiling and floor on the price. These contracts employ the normal purchases and sales exemption, and donot involve Statement of Financial Accounting Standards No. 133, *Accounting for Derivative Instruments and HedgingActivity* (Statement 133), hedges.

 

**MARKET RISK SENSITIVE INSTRUMENTS ANDPOSITIONS**

 

The transactionsassociated with the Energy Merchant Business Unit (Energy Merchant) energymarketing and trading activities give rise to various risks, including pricerisk.  Price risk represents thepotential risk of loss from adverse changes in market price of electricity orother energy commodities.  As EnergyMerchant continues to develop its energy marketing and trading business (anddue to its substantial investment in generation assets), its exposure tomovements in the price of electricity and other energy commodities may becomegreater.  As a result, we may be subjectto increased future earnings volatility.

 

81

----

 

*Changes in Fair Value*

 

The changes in fair valueof the energy risk management assets and liabilities for the quarters endedMarch 31, 2003 and 2002, are presented in the table below:

 
|                                                                                       |   | **Change in  Fair Value** |       |
|--------------------------------------------------------------------------------------------|--------|---------------------------|------------|
|                                                                                       |   | **March 31, 2003**        |       | **March 31,  2002** |   |
|                                                                                       |   | **Cinergy(1)**            |       | **CG&E** |   | **PSI** |   | **Cinergy(1)** |   | **CG&E** |   | **PSI** |   |
|                                                                                       |   | **(in  millions)**        |       |
|                                                                                       |   |                      |       |   |   |   |   |   |   |   |   |   |   |
| Fair  value of contracts outstanding at beginning of period:                               |   | **$**                     | **75**     | ** ** | **$** | **42** | ** ** | **$** | **—** | ** ** | $ | 18 |   | $ | 28 |   | $ | (7 | ) |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Inception  value of new contracts when entered(2)                                          |   | **—**                | ** ** | **—** | ** ** | **—** | ** ** | 3 |   | 1 |   | 1 |   |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Changes  in fair value attributable to changes in valuation techniques and  assumptions(3) |   | **1**                     | ** ** | **1** | ** ** | **—** | ** ** | — |   | — |   | — |   |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Other  changes in fair value(4)                                                            |   | **73**                    | ** ** | **4** | ** ** | **3** | ** ** | 1 |   | 5 |   | — |   |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Option  premiums paid/(received)                                                           |   | **(2**                    | **)**      | **1** | ** ** | **—** | ** ** | 28 |   | — |   | — |   |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Cumulative  effect of a change in accounting principle(5)                                  |   | **(20**                   | **)**      | **(13** | **)** | **(1** | **)** | — |   | — |   | — |   |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Contracts  settled                                                                         |   | **(114**                  | **)**      | **(37** | **)** | **(4** | **)** | 18 |   | (4 | ) | (1 | ) |
|                                                                                       |   |                      | ** ** |   | ** ** |   | ** ** |   |   |   |   |   |   |
| Fair  value of contracts outstanding at end of period                                      |   | **$**                     | **13**     | ** ** | **$** | **(2** | **)** | **$** | **(2** | **)** | $ | 68 |   | $ | 30 |   | $ | (7 | ) |

 

----

(1)         Theresults of **Cinergy** also includeamounts related to non-registrants.

(2)         Representsfair value, recognized in income, attributable to long-term, structuredcontracts, primarily in power, which is recorded on the date a deal issigned.  These contracts are primarilywith end-use customers or municipalities that seek to limit their risk to powerprice volatility.  While caps and floorsoften exist in such contracts, the amount of power supplied can vary from hourto hour to mirror the customers load volatility.  See Note 1(j)(*i*) inthe “Notes to Financial Statements” in “Item 1. Financial Information” foradditional information regarding inception gains.

(3)         Representschanges in fair value recognized in income, caused by changes in assumptionsused in calculating fair value or changes in modeling techniques.

(4)         Representschanges in fair value, recognized in income, primarily attributable tofluctuations in price.  This amountincludes both realized and unrealized gains on energy trading contracts.

(5)         SeeNote 1(j)(*i*) of the “Notes toFinancial Statements” in “Item 1. Financial Information” for further information.

 

82

----

 

The following tablepresents the expected maturity of the *Energyrisk management assets* and *Energyrisk management liabilities* as of March 31, 2003:

 
|                                                |   | **Fair Value  of Contracts as of March 31, 2003** |   |
|-----------------------------------------------------|--------|---------------------------------------------------|--------|
|                                                |   | **Maturing**                                      |   |   |   |
| **Source of Fair Value(1)**                         |   | **Within  12 months**                             |   | **12-36  months** |   | **36-60  months** |   | **Thereafter** |   | **Total  Fair Value** |   |
|                                                |   | **(in  millions)**                                |   |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| **Cinergy**(2)                                      |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  actively quoted                             |   | $                                                 | (4     | ) | $ | (2 | ) | $ | — |   | $ | — |   | $ | (6 | ) |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  based on models and other valuation methods |   | 9                                                 |   | 15 |   | 3 |   | (8 | ) | 19 |   |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Total                                               |   | $                                                 | 5      |   | $ | 13 |   | $ | 3 |   | $ | (8 | ) | $ | 13 |   |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| **CG&E**                                        |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  actively quoted                             |   | $                                                 | (11    | ) | $ | (5 | ) | $ | — |   | $ | — |   | $ | (16 | ) |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  based on models and other valuation methods |   | (4                                                | )      | 15 |   | 3 |   | — |   | 14 |   |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Total                                               |   | $                                                 | (15    | ) | $ | 10 |   | $ | 3 |   | $ | — |   | $ | (2 | ) |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| **PSI**                                             |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  actively quoted                             |   | $                                                 | (1     | ) | $ | (9 | ) | $ | — |   | $ | — |   | $ | (10 | ) |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Prices  based on models and other valuation methods |   | 2                                                 |   | 3 |   | 3 |   | — |   | 8 |   |
|                                                |   |                                              |   |   |   |   |   |   |   |   |   |
| Total                                               |   | $                                                 | 1      |   | $ | (6 | ) | $ | 3 |   | $ | — |   | $ | (2 | ) |

 

----

(1)         Activequotes are considered to be available for two years for standard electricitytransactions and three years for standard gas transactions.  Non-standard transactions are classifiedbased on the extent, if any, of modeling used in determining fair value.  Long-term transactions can have portions inboth categories depending on the tenor.

(2)         Theresults of **Cinergy** also includeamounts related to non-registrants.

 

*Energy Trading Credit Risk*

 

**Cinergy’s**extension of credit for energy marketing and trading is governed by a CorporateCredit Policy.  Written guidelinesdocument the management approval levels for credit limits, evaluation ofcreditworthiness, and credit risk mitigation procedures.  Exposures to credit risks are monitoreddaily by the Corporate Credit Risk function. As of March 31, 2003, approximately 98 percent of the credit exposurerelated to energy trading and marketing activity was with counterparties ratedInvestment Grade or the counterparties’ obligations were guaranteed by a parentcompany or other entity rated Investment Grade.  No single non-investment grade counterparty accounts for morethan one percent of our total credit exposure.

 

83

----

 

Energy commodity pricescan be extremely volatile and the market can, at times, lack liquidity.  Because of these issues, credit risk isgenerally greater than with other commodity trading.  We continually review and monitor our credit exposure to all counterpartiesand secondary counterparties.  Ifappropriate, we may adjust our credit reserves to attempt to compensate forincreased credit risk within the industry. Counterparty credit limits may be adjusted on a daily basis in responseto changes in a counterparty’s creditworthiness, financial status, or publicdebt ratings.

 

**ACCOUNTING MATTERS**

 

**Critical Accounting Policies**

 

Preparation of financialstatements and related disclosures in compliance with generally acceptedaccounting principles (GAAP) requires the use of assumptions andestimates.  In certain instances, theapplication of GAAP requires judgments regarding future events, including thelikelihood of success of particular initiatives, legal and regulatorychallenges, and anticipated recovery of costs. Therefore, the possibility exists for materially different reportedamounts under different conditions or assumptions.

 

**Cinergy’s**2002 10-K includes a discussion of accounting policies that are significant tothe presentation of **Cinergy’s**financial position and results of operations. These include:

 

•                  FairValue Accounting for Energy Marketing and Trading;

•                  RetailCustomer Revenue Recognition;

•                  RegulatoryAccounting;

•                  Pensionand Other Postretirement Benefits; and

•                  Impairmentof Long-lived Assets.

 

**Accounting Changes**

 

***Energy Trading***

 

In October 2002, the EITFreached consensus in EITF 02-3 to (a) rescind EITF 98-10, (b) generallypreclude the recognition of gains at the inception of new derivatives, and (c)require all realized and unrealized gains and losses on energy tradingderivatives to be presented net in the Statements of Income, whether or notsettled physically.  The consensus torescind EITF 98-10 required most energy trading contracts that do not qualifyas derivatives to be accounted for on an accrual basis, rather than at fairvalue.  The consensus was immediatelyeffective for all new contracts executed after October 25, 2002, and required acumulative effect adjustment to income, net of tax, on January 1, 2003, for allcontracts executed on or prior to October 25, 2002.  The cumulative effect adjustment, on a net of tax basis, was aloss of $13 million for **Cinergy**and $8 million for **CG&E**, whichincludes primarily the impact of certain coal contracts, gas inventory, andcertain gas contracts, which were all accounted for at fair value.  We expect the ongoing impact of thisrescission to have the largest impact on our gas trading business, which usesfinancial contracts, physical contracts, and gas inventory to take advantage ofvarious arbitrage opportunities.  Priorto the rescission of EITF 98-10, all of these activities were accounted for atfair value.  Under the revised guidance,only certain items are accounted for at

 

84

----

 

fair value, which couldincrease volatility in future results of operations.  As a result, we are reviewing the possible application of hedgeaccounting under Statement 133.

 

***BusinessCombinations and Intangible Assets***

 

In June 2001, the FASBissued Statement of Financial Accounting Standards No. 141, *Business Combinations* (Statement 141), andStatement 142.  Statement 141 requiresall business combinations initiated after June 30, 2001, to be accounted forusing the purchase method.  With the adoptionof Statement 142, goodwill and other intangibles with indefinite lives will nolonger be subject to amortization. Statement 142 requires that goodwill be assessed for impairment uponadoption (transition impairment test) and at least annually thereafter byapplying a fair-value-based test, as opposed to the undiscounted cash flow testapplied under prior accounting standards. This test must be applied at the “reporting unit” level, which is notpermitted to be broader than the current business segments discussed in Note 8.  Under Statement 142, an acquired intangibleasset should be separately recognized if the benefit of the intangible asset isobtained through contractual or other legal rights, or if the intangible assetcan be sold, transferred, licensed, rented, or exchanged, regardless of theacquirer’s intent to do so.

 

We began applyingStatement 141 in the third quarter of 2001 and Statement 142 in the firstquarter of 2002.  The discontinuance ofamortization of goodwill, which began in the first quarter of 2002, was notmaterial to our financial position or results of operations.  We finalized our transition impairment testin the fourth quarter of 2002 and have recognized a non-cash impairment chargeof approximately $11 million (net of tax) for goodwill related to certain ofour international assets.  This amountis reflected in **Cinergy’s**Statementsof Income as a *Cumulative effect of a changein accounting principles, net of tax*.  While Statement 142 did not require the initial transitionimpairment test to be completed until December 31, 2002, it required atransition impairment charge to be reflected as of January 1, 2002.  We will continue to perform goodwillimpairment tests annually, as required by Statement 142, or when circumstancesindicate that the fair value of a reporting unit has declined significantly.

 

***Asset RetirementObligations***

 

In July 2001, the FASBissued Statement 143, which requires fair value recognition beginning January1, 2003, of legal obligations associated with the retirement or removal oflong-lived assets, at the time the obligations are incurred.  The initial recognition of this liability isaccompanied by a corresponding increase in property, plant, and equipment.  Subsequent to the initial recognition, theliability is adjusted for any revisions to the expected cash flows of theretirement obligation (with corresponding adjustments to property, plant, andequipment), and for accretion of the liability due to the passage of time(recognized as an operation expense). Additional depreciation expense is recorded prospectively for anyproperty, plant, and equipment increases.

 

We previously accruedcosts of removal on many long-lived assets through depreciation expense if webelieved removal of the assets at the end of their useful life was likely.  The SEC staff has interpreted Statement 143to disallow the accrual of estimated cost of removal when no obligation existsunder Statement 143, even if removal of the asset is likely.  As a result, all accumulated cost of removalfor our non-regulated assets, primarily **CG&E’s**generation assets,

 

85

----

 

was reversed uponadoption.  However, accrued cost ofremoval for rate-regulated assets is recoverable through our rates as acomponent of depreciation.  SinceStatement of Financial Accounting Standards No. 71, *Accounting for the Effects of Certain Types of Regulation*,applies, accruing estimated cost of removal continues to be acceptable.  As a result, accumulated cost of removal wasnot reversed upon adoption of Statement 143 for the rate-regulated assets of **PSI**, **CG&E**,and **ULH&P**.

 

***Derivatives***

 

During 1998, the FASBissued Statement 133.  This standard waseffective for **Cinergy**beginning in2001, and requires us to record derivative instruments, which are not exemptunder certain provisions of Statement 133, as assets or liabilities, measuredat fair value (i.e., mark-to-market). Our financial statements reflect the adoption of Statement 133 in thefirst quarter of 2001.  Since many ofour derivatives were previously required to use fair value accounting, theeffects of implementation were not material.

 

In May 2003, the FASBissued Statement of Financial Accounting Standards No. 149, *Amendment of Statement 133 on Derivative Instrumentsand Hedging Activities* (Statement 149).  Statement 149 primarily amends Statement 133 to incorporate implementationconclusions previously cleared by the FASB staff, to clarify the definition ofa derivative and to require derivative instruments that include up-front cashpayments to be classified as a financing activity in the statement of cashflows.  Implementation issues that havebeen previously cleared by the FASB staff will continue to be applied inaccordance with their respective effective dates at the time that they werecleared and new guidance has varying implementation provisions, none of which willapply until the third quarter of 2003. We have begun to evaluate the impacts of adopting Statement 149 but arecurrently unable to determine whether the impacts will be material to ourresults of operations or financial position.

 

There has been recent discussion about the use ofbroad market indices (e.g., consumer price index) in power sales contracts andwhether such indices disqualify capacity contracts that otherwise qualify forthe use of the normal purchases and sales scope exception.  In April 2003, the FASB staff provided someproposed clarifications on this issue. This guidance is currently open for public comment.  We expect this guidance to be finalizedsometime during the summer of 2003, with a proposed effective date for **Cinergy** of October 1, 2003.  We are unable to determine whether theimpact of this recent interpretation would be material to our results ofoperations or financial position until the FASB staff finalizes its guidance.

 

***Accounting forStock-Based Compensation***

 

We have historicallyaccounted for our stock-based compensation plans under Accounting PrinciplesBoard (APB) Opinion No. 25, *Accounting forStock Issued to Employees* (APB 25)*. *In July 2002, **Cinergy** announced that it would adoptStatement of Financial Accounting Standards No. 123, *Accounting for Stock-Based Compensation* (Statement 123) forall employee awards granted or modified after January 1, 2003, and would beginmeasuring the compensation cost of stock-based awards under the fair valuemethod.  In December 2002, the FASBissued Statement of Financial Accounting Standards No. 148, *Accounting for Stock-Based Compensation-Transitionand Disclosure*(Statement 148), which amends Statement 123 and

 

86

----

 

APB Opinion No. 28, *Interim Financial Reporting.*  Statement 148 provides alternative methodsof transition to Statement 123 and more expanded disclosures about the methodof accounting for stock-based employee compensation and the effect of themethod used on reported results in both annual and interim financial statements.  **Cinergy**adoptedStatement 148 on January 1, 2003, and has adopted the transition provisionsthat require expensing options prospectively beginning in the year ofadoption.  Awards granted prior toJanuary 1, 2003, will continue to follow the intrinsic value method prescribedby APB 25.  The impact of adoption onour financial position and results of operations, assuming award levels andfair values similar to past years, is not material.  This change will primarily impact the accounting for stock optionsand other performance based awards related to the Cinergy Corp. 1996 Long-TermIncentive Compensation Plan, the Cinergy Corp. Employee Stock Purchase andSavings Plan, and the Cinergy Corp. Stock Option Plan.

 

***Consolidation ofSPEs***

 

The FASB issued Interpretation46, in January 2003.  Thisinterpretation will significantly change the consolidation requirements forSPEs.  We have begun reviewing theimpact of this interpretation but have not yet concluded whether consolidationof certain SPEs will be required.  Thereare two SPEs for which consolidation may be required.  These SPEs have individual power sale agreements to an unrelatedthird party for approximately 45 MW of capacity, ending in 2009, and 35 MW ofcapacity, ending in 2016.  In addition,the SPEs have individual power purchase agreements with Capital & Tradingto supply the power.  Capital &Trading also provides various services, including certain credit supportfacilities.

 

**Cinergy’s**quantifiable exposure to loss as a result of involvement with these two SPEs is$28 million, which includes investments in these entities of $3 million andexposure under the capped credit facilities of approximately $25 million.  There is also a non-capped facility, but itcan only be called upon in the event the SPE breaches representations, violatescovenants, or other unlikely events.

 

If appropriate,consolidation of all assets and liabilities of these two SPEs, at theircarrying values, will be required in the third quarter of 2003.  Approximately $225 million of non-recoursedebt would be included in **Cinergy’s**Balance Sheet upon initial consolidation. However, the impact on results of operations would be expected to beimmaterial.

 

**Cinergy**believes that its accounts receivable sale facility, as discussed in the 200210-K, would remain unconsolidated since it involves transfers of financialassets to a qualifying SPE, which is exempted from consolidation by Statement140 and this interpretation.

 

87

----

 

**ITEM3.  QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK**

 

This information isprovided in, and incorporated by reference from, the “Market Risk SensitiveInstruments and Positions” section in “Item 2. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations” in “Part 1. Financial Information”.

 

88

----

 

**ITEM 4.  CONTROLS AND PROCEDURES**

 

Disclosure controls and procedures are our controlsand other procedures that are designed to ensure that information required tobe disclosed by us in the reports that we file or submit under the SecuritiesExchange Act of 1934 (Exchange Act) is recorded, processed, summarized, andreported, within the time periods specified in the Securities and ExchangeCommission’s (SEC) rules and forms. Disclosure controls and procedures include, without limitation, controlsand procedures designed to ensure that information required to be disclosed byus in the reports that we file under the Exchange Act is accumulated andcommunicated to our management, including our chief executive officer and chieffinancial officer, as appropriate to allow timely decisions regarding requireddisclosure.

 

Under the supervision and with the participation ofour management, including our chief executive officer and chief financialofficer, we have evaluated the effectiveness of the design and operation of ourdisclosure controls and procedures within 90 days of the filing date of thisquarterly report, and, based upon this evaluation, our chief executive officerand chief financial officer have concluded that these controls and proceduresare adequate to ensure that information requiring disclosure is communicated tomanagement in a timely manner and reported within the timeframe specified bythe SEC’s rules and forms.

 

There were no significantchanges in our internal controls or in other factors that could significantlyaffect our internal controls subsequent to the date of our most recentevaluation.

 

89

----

 

**PART II.  OTHER INFORMATION**

 

**ITEM 1.  LEGAL PROCEEDINGS**

 

We currently, and fromtime to time, are involved in lawsuits, claims, and complaints incidental tothe conduct of our business.  In theopinion of management, no such proceeding is likely to have a material adverseeffect on us.

 

See Note 7 of the “Notesto Financial Statements” in “Item 1. Financial Information” for further information regarding our commitmentsand contingencies.

 

90

----

 

**ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS**

 

The annual meeting ofshareholders of **Cinergy****Corp.** was held on April 22, 2003, inCovington, Kentucky.

 

At the meeting, threeClass III directors were elected to the board of **Cinergy Corp.** to serve for three-year terms ending in 2006, asset forth below:

 

| **Directors**       |   | **Votes For** |   | **Votes Withheld** |
|---------------------|--------|---------------|--------|--------------------|
|                |   |          |   |               |
| **Class III**       |   |          |   |               |
| Phillip R. Cox      |   | 141,244,619   |   | 2,739,531          |
| James E. Rogers     |   | 140,128,456   |   | 3,855,694          |
| John J. Schiff, Jr. |   | 141,206,249   |   | 2,777,901          |

 

In lieu of the annualmeeting of shareholders of The Cincinnati Gas & Electric Company (**CG&E**), a resolution was duly adopted viaunanimous written consent of **Cinergy Corp.**, **CG&E’s** sole shareholder,effective April 21, 2003, electing the following members to the Board ofDirectors for one-year terms expiring in 2004:

 

•                  JamesE. Rogers

•                  R.Foster Duncan

•                  JamesL. Turner

 

The annual meeting ofshareholders of PSI Energy, Inc. (**PSI**)was held on April 22, 2003, in Covington, Kentucky.  Proxies were not solicited for the annual meeting.  **Cinergy****Corp.** owns all of the 53,913,701 outstanding shares,representing a like number of votes, of the common stock of **PSI**.  By unanimous vote, the following members tothe Board of Directors were elected at the annual meeting for one-year termsexpiring in 2004:

 

•                  MichaelG. Browning

•                  JamesE. Rogers

•                  DouglasF. Esamann

 

None of the 651,089outstanding shares, representing 423,431 votes, of the preferred stock of **PSI**, were present or voted at the annualmeeting.

 

91

----

 

**ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K**

 

(a)              The documents listedbelow are being filed on behalf of **CinergyCorp.**, The Cincinnati Gas & Electric Company (**CG&E**), PSI Energy, Inc. (**PSI**), and The Union Light, Heat and PowerCompany (**ULH&P**) and areincorporated herein by reference from the documents indicated and made a parthereof.  Exhibits not identified aspreviously filed are filed herewith:

 

| **Exhibit  Designation**   |   | **Registrant**                              |   | **Nature of Exhibit**                                                                                                                       |   | **Previously Filed as  Exhibit to:** |
|----------------------------|--------|---------------------------------------------|--------|---------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------------------|
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| **Additional****Exhibits** |   |                                        |   |                                                                                                                                        |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 4-xxx                      |   | **PSI**                                     |   | Loan Agreement between **PSI** and the Indiana Development Finance  Authority dated as of February 15, 2003.                                |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 4-yyy                      |   | **PSI**                                     |   | 6.302% Subordinated  Note between **PSI** and **Cinergy Corp.**, dated February 5, 2003.                                                    |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 4-zzz                      |   | **PSI**                                     |   | 6.403% Subordinated  Note between **PSI** and **Cinergy Corp.** dated February 5, 2003.                                                     |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 10-tt                      |   | **PSI**                                     |   | Asset Purchase  Agreement by and among Cinergy Capital & Trading, Inc., CinCap Madison,  LLC and **PSI** dated as of February  5, 2003. |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 10-uu                      |   | **PSI**                                     |   | Asset Purchase  Agreement by and among Cinergy Capital & Trading, Inc., CinCap VII, LLC  and **PSI** dated as of February 5,  2003.     |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 99.1                       |   | **Cinergy  Corp. CG&E  PSI  ULH&P** |   | Certification of James  E. Rogers under Section 906 of Sarbanes-Oxley Act.                                                                  |   |                                 |
|                       |   |                                        |   |                                                                                                                                        |   |                                 |
| 99.2                       |   | **Cinergy  Corp. CG&E  PSI  ULH&P** |   | Certification of R.  Foster Duncan under Section 906 of Sarbanes-Oxley Act.                                                                 |   |                                 |

 

(b)             The following reportson Form 8-K were filed during the quarter ended March 31, 2003.

 

| **Date of Report** |   | **Registrant**     |   | **Item Filed**                                  |
|--------------------|--------|--------------------|--------|-------------------------------------------------|
|               |   |               |   |                                            |
| January 31, 2003   |   | **Cinergy  Corp.** |   | Item 7.  Financial Statements and Exhibits |
|               |   |               |   |                                            |
|               |   |               |   | Item 9.  Regulation FD Disclosure          |
|               |   |               |   |                                            |
| February 5, 2003   |   | **Cinergy  Corp.** |   | Item 5.  Other Events                      |
|               |   |               |   |                                            |
|               |   |               |   | Item 7.  Financial Statements and Exhibits |
|               |   |               |   |                                            |
| February 7, 2003   |   | **PSI**            |   | Item 9.  Regulation FD Disclosure          |
|               |   |               |   |                                            |

 

92

----

 

## **SIGNATURES**

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, theRegistrants have duly caused this report to be signed by an officer and thechief accounting officer on their behalf by the undersigned thereunto dulyauthorized.

 
| CINERGY CORP.                              |
|--------------------------------------------|
| THE CINCINNATI GAS  & ELECTRIC COMPANY |
| PSI ENERGY, INC.                           |
|                                       | THE UNION LIGHT, HEAT  AND POWER COMPANY |   |
| Registrants                                |
|                                       |   |
|                                       |   |
|                                       | Date:  May 09, 2003 | /s/ | Bernard  F. Roberts |   |
|                                       | Bernard F.  Roberts |   |
|                                       | Duly Authorized  Officer |   |
|                                       | and |   |
|                                       | Chief Accounting  Officer |   |
|                                            |  |  |  |  |  |  |

 

93

----

 

I, James E. Rogers, certify that:

 

1. I have reviewed thisquarterly report on Form 10-Q of Cinergy Corp., The Cincinnati Gas &Electric Company, PSI Energy, Inc., and The Union Light, Heat and PowerCompany;

 

2. Based on my knowledge,this quarterly report does not contain any untrue statement of a material factor omit to state a material fact necessary to make the statements made, inlight of the circumstances under which such statements were made, notmisleading with respect to the period covered by this quarterly report;

 

3. Based on my knowledge,the financial statements, and other financial information included in thisquarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrants as of, andfor, the periods presented in this quarterly report;

 

4. The registrants’ othercertifying officers and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrants and we have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrants,including their consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrants’ disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5. The registrants’ othercertifying officers and I have disclosed, based on our most recent evaluation,to the registrants’ auditors and the audit committee of the registrants’ boardof directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the design oroperation of internal controls which could adversely affect the registrants’ability to record, process, summarize and report financial data and haveidentified for the registrants’ auditors any material weaknesses in internalcontrols; and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrants’ internal controls; and

 

6. The registrants’ othercertifying officers and I have indicated in this quarterly report whether ornot there were significant changes in internal controls or in other factorsthat could significantly affect internal controls subsequent to the date of ourmost recent evaluation, including any corrective actions with regard tosignificant deficiencies and material weaknesses.

 

 

Date: May 09, 2003

 

 
| /s/ James E. Rogers     |            |   |
|-------------------------|-----------------|--------|
|                    | James E. Rogers |
| Chief Executive Officer |            |
|                         |                 |        |  |

 

94

----

 

I, R. Foster Duncan, certifythat:

 

1. I have reviewed thisquarterly report on Form 10-Q of Cinergy Corp., The Cincinnati Gas &Electric Company, PSI Energy, Inc., and The Union Light, Heat and PowerCompany;

 

2. Based on my knowledge,this quarterly report does not contain any untrue statement of a material factor omit to state a material fact necessary to make the statements made, inlight of the circumstances under which such statements were made, notmisleading with respect to the period covered by this quarterly report;

 

3. Based on my knowledge,the financial statements, and other financial information included in thisquarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrants as of, andfor, the periods presented in this quarterly report;

 

4. The registrants’ othercertifying officers and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrants and we have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrants,including their consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrants’ disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5. The registrants’ othercertifying officers and I have disclosed, based on our most recent evaluation,to the registrants’ auditors and the audit committee of the registrants’ boardof directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the design oroperation of internal controls which could adversely affect the registrants’ability to record, process, summarize and report financial data and haveidentified for the registrants’ auditors any material weaknesses in internalcontrols; and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrants’ internal controls; and

 

6. The registrants’ othercertifying officers and I have indicated in this quarterly report whether ornot there were significant changes in internal controls or in other factorsthat could significantly affect internal controls subsequent to the date of ourmost recent evaluation, including any corrective actions with regard tosignificant deficiencies and material weaknesses.

 

 

Date: May 09, 2003

 

 
| /s/ R. Foster Duncan    |             |   |
|-------------------------|------------------|--------|
|                    | R. Foster Duncan |
| Chief Financial Officer |             |
|                         |                  |        |  |

 

95

----