**PENNSYLVANIA
      POWER COMPANY**





**2005
      ANNUAL
      REPORT TO STOCKHOLDERS**











Pennsylvania
      Power
      Company, an electric utility operating company of FirstEnergy Corp. and a wholly
      owned subsidiary of Ohio Edison Company, furnishes electric service to
      communities in a 1,500 square mile area of western Pennsylvania. It also engages
      in the purchase of electric energy from other electric companies. The area
      served has a population of approximately 0.3 million.




















**Contents**
            **Page**Glossary
                of
                Terms
            i-iiReport
                of
                Independent Registered Public Accounting Firm
            1Selected
                Financial Data
            2Management's
                Discussion and Analysis
            3-14Consolidated
                Statements of Income
            15Consolidated
                Balance Sheets
            16Consolidated
                Statements of Capitalization
            17Consolidated
                Statements of Common Stockholder's Equity
            18Consolidated
                Statements of Preferred Stock
            18Consolidated
                Statements of Cash Flows
            19Consolidated
                Statements of Taxes
            20Notes
                to
                Consolidated Financial Statements
            21-35











**GLOSSARY
      OF
      TERMS**





The
      following
      abbreviations and acronyms are used in this report to identify Pennsylvania
      Power Company and its affiliates:





ATSI
            American
                Transmission Systems, Inc., owns and operates transmission
                facilitiesCEI
            The
                Cleveland
                Electric Illuminating Company, an affiliated Ohio electric
                utilityCompanies
            OE,
                CEI, TE,
                Penn, JCP&L, Met-Ed and PenelecFENOC
            FirstEnergy
                Nuclear Operating Company, operates nuclear generating
                facilitiesFES
            FirstEnergy
                Solutions Corp., provides energy-related products and
                servicesFESC
            FirstEnergy
                Service Company, provides legal, financial, and other corporate support
                servicesFGCO
            FirstEnergy
                Generation Corp., owns and operates non-nuclear generating
                facilitiesFirstEnergy
            FirstEnergy
                Corp., a registered public utility holding companyJCP&L
            Jersey
                Central
                Power & Light Company, an affiliated New Jersey electric
                utilityMet-Ed
            Metropolitan
                Edison Company, an affiliated Pennsylvania electric
                utilityNGC
            FirstEnergy
                Nuclear Generation Corp., owns nuclear generating
                facilitiesOE
            Ohio
                Edison
                Company, Penn's Ohio electric utility parent companyOhio
                Companies
            CEI,
                OE and
                TEPenelec
            Pennsylvania
                Electric Company, an affiliated Pennsylvania electric utilityPenn
            Pennsylvania
                Power CompanyTE
            The
                Toledo
                Edison Company, an affiliated Ohio electric
                utility





The
      following
      abbreviations and acronyms are used to identify frequently used terms in this
      report:





AOCL
            Accumulated
                Other Comprehensive LossAPB
            Accounting
                Principles BoardAPB
                29
            APB
                Opinion
                No. 29, "Accounting for Nonmonetary Transactions"ARB
            Accounting
                Research BulletinARB
                43
            ARB
                No. 43,
                "Restatement and Revision of Accounting Research
                Bulletins"ARO
            Asset
                Retirement ObligationCAL
            Confirmatory
                Action LetterCO2
            Carbon
                DioxideCTC
            Competitive
                Transition ChargeDOJ
            United
                States
                Department of JusticeECAR
            East
                Central
                Area Reliability Coordination AgreementEITF
            Emerging
                Issues Task ForceEITF
                03-1
            EITF
                Issue No.
                03-1, "The Meaning of Other-Than-Temporary and Its Application to
                Certain
              Investments”EITF
                04-13
            EITF
                Issue No.
                04-13, "Accounting for Purchases and Sales of Inventory with the
                Same
                CounterpartyEPA
            Environmental
                Protection AgencyEPACT
            Energy
                Policy
                Act of 2005FASB
            Financial
                Accounting Standards BoardFERC
            Federal
                Energy
                Regulatory CommissionFIN
                47
            FASB
                Interpretation 47, "Accounting for Conditional Asset Retirement
                Obligations - aninterpretation
                of FASB Statement No. 143"FMB
            First
                Mortgage
                BondsFSP
            FASB
                Staff
                PositionFSP
                106-1
            FASB
                Staff
                Position No.106-1, "Accounting and Disclosure Requirements Related
                to the
                Medicare
              Prescription
                Drug, Improvement and Modernization Act of 2003"FSP
                106-2
            FASB
                Staff
                Position No.106-2, "Accounting and Disclosure Requirements Related
                to the
                Medicare
              Prescription
                Drug, Improvement and Modernization Act of 2003"FSP
                115-1 and
                FAS 124-1
            FASB
                Staff
                Position No. 115-1 and FAS 124-1, "The Meaning of Other-Than-Temporary
                Impairment and its Application to Certain Investments"GAAP
            Accounting
                Principles Generally Accepted in the United StatesIRS
            Internal
                Revenue ServiceKWH
            Kilowatt-hoursMACT
            Maximum
                Achievable Control TechnologiesMedicare
                Act
            Medicare
                Prescription Drug, Improvement and Modernization Act of
                2003MISO
            Midwest
                Independent Transmission System Operator, Inc.Moody’s
            Moody’s
                Investors ServiceNAAQS
            National
                Ambient Air Quality Standards




i




NERC
            North
                American
                Electric Reliability CouncilNOV
            Notices
                of
                ViolationNOX
            Nitrogen
                OxideNRC
            Nuclear
                Regulatory CommissionOCI
            Other
                Comprehensive IncomeOPEB
            Other
                Post-Employment BenefitsPJM
            PJM
                Interconnection L. L. C.PPUC
            Pennsylvania
                Public Utility CommissionPUCO
            Public
                Utilities Commission of OhioPUHCA
            Public
                Utility
                Holding Company ActRFP
            Request
              for
              ProposalS&P
            Standard
&
                Poor’s Ratings ServiceSEC
            United
                States
                Securities and Exchange CommissionSFAC
            Statement
                of
                Financial Accounting ConceptsSFAC
                7
            SFAC
                No. 7,
                “Using Cash Flow Information and Present Value in Accounting
                Measurement”SFAS
            Statement
                of
                Financial Accounting StandardsSFAS
                71
            SFAS
                No. 71,
                "Accounting for the Effects of Certain Types of
                Regulation"SFAS
                87
            SFAS
                No. 87,
                "Employers' Accounting for Pensions"SFAS
                101
            SFAS
                No. 101,
                “Accounting for Discontinuation of Application of SFAS
                71”SFAS
                106
            SFAS
                No. 106,
                "Employers' Accounting for Postretirement Benefits Other Than
                Pensions"SFAS
                115
            SFAS
                No. 115,
                “Accounting for Certain Investments in Debt and Equity
                Securities”SFAS
                143
            SFAS
                No. 143,
                "Accounting for Asset Retirement Obligations"SFAS
                144
            SFAS
                No. 144,
                "Accounting for the Impairment or Disposal of Long-Lived
                Assets"SFAS
                150
            SFAS
                No. 150,
                "Accounting for Certain Financial Instruments with Characteristics
                of Both
              Liabilities
                and Equity"SFAS
                151
            SFAS
                No. 151,
                "Inventory Costs - an amendment of ARB No. 43, Chapter
                4"SFAS
                153
            SFAS
                No. 153,
                "Exchanges of Nonmonetary Assets - an amendment of APB Opinion No.
                29"SFAS
                154
            SFAS
                No. 154,
                "Accounting Changes and Error Corrections - a replacement of APB
                Opinion
                No. 20 and FASB Statement No. 3"SO2
            Sulfur
                Dioxide





ii


**Report
      of
      Independent Registered Public Accounting Firm**








To
      the Stockholder
      and Board of


Directors
      of
      Pennsylvania Power Company:








In
      our opinion, the
      accompanying consolidated balance sheets and the related consolidated statements
      of income, capitalization, common stockholder’s equity, preferred stock, cash
      flows and taxes present fairly, in all material respects, the financial position
      of Pennsylvania Power Company and its subsidiary at December 31, 2005 and
      2004, and the results of their operations and their cash flows for each of
      the
      three years in the period ended December 31, 2005 in conformity with
      accounting principles generally accepted in the United States of America. These
      financial statements are the responsibility of the Company’s management. Our
      responsibility is to express an opinion on these financial statements based
      on
      our audits. We conducted our audits of these statements in accordance with
      the
      standards of the Public Company Accounting Oversight Board (United States).
      Those standards require that we plan and perform the audit to obtain reasonable
      assurance about whether the financial statements are free of material
      misstatement. An audit includes examining, on a test basis, evidence supporting
      the amounts and disclosures in the financial statements, assessing the
      accounting principles used and significant estimates made by management, and
      evaluating the overall financial statement presentation. We believe that our
      audits provide a reasonable basis for our opinion.





As
      discussed in Note
      2(G) and Note 8 to the consolidated financial statements, the Company changed
      its method of accounting for asset retirement obligations as of January 1,
      2003.











PricewaterhouseCoopers
      LLP


Cleveland,
      Ohio


February 27,
      2006








1


The
      following
      selected financial data should be read in conjunction with, and is qualified
      in
      its entirety by reference to, the sections entitled “Management’s Discussion and
      Analysis of Results of Operations and Financial Condition” and with our
      consolidated financial statements and the “Notes to Consolidated Financial
      Statements.” Our Consolidated Statements of Income are not necessarily
      indicative of future conditions or results of operations.





**PENNSYLVANIA
                  POWER COMPANY****SELECTED
                  FINANCIAL DATA****2005**
              
              **2004**
              
              **2003**
              
              **2002**
              
              **2001*****(Dollars
                  in thousands)*****GENERAL
                  FINANCIAL INFORMATION:**Operating
                  Revenues
              
              $
              540,556
              
              $
              549,121
              
              $
              526,581
              
              $
              506,407
              
              $
              498,401Operating
                  Income
              
              $
              68,025
              
              $
              60,780
              
              $
              47,363
              
              $
              60,922
              
              $
              55,178Income
                  Before
                  Cumulative Effectof
                  Accounting
                  Change
              
              $
              65,865
              
              $
              59,076
              
              $
              37,833
              
              $
              47,717
              
              $
              41,041Net
                  Income
              
              $
              65,865
              
              $
              59,076
              
              $
              48,451
              
              $
              47,717
              
              $
              41,041Earnings
                  on
                  Common Stock
              
              $
              64,176
              
              $
              56,516
              
              $
              45,263
              
              $
              44,018
              
              $
              37,338Total
                  Assets
              
              $
              815,000
              
              $
              921,156
              
              $
              878,967
              
              $
              907,748
              
              $
              960,097**CAPITALIZATION
                  AS OF DECEMBER 31:**Common
                  Stockholder’s Equity
              
              $
              296,933
              
              $
              327,379
              
              $
              230,786
              
              $
              229,374
              
              $
              223,788Preferred
                  Stock-Not
                  Subject to
                  Mandatory Redemption
              
              
              14,105
              
              
              39,105
              
              
              39,105
              
              
              39,105
              
              
              39,105Subject
                  to
                  Mandatory Redemption
              
              
              -
              
              
              -
              
              
              -
              
              
              13,500
              
              
              14,250Long-Term
                  Debt
                  and Other Long-Term Obligations
              
              
              130,677
              
              
              133,887
              
              
              130,358
              
              
              185,499
              
              
              262,047Total
                  Capitalization
              
              $
              441,715
              
              $
              500,371
              
              $
              400,249
              
              $
              467,478
              
              $
              539,190**CAPITALIZATION
                  RATIOS:**Common
                  Stockholder’s Equity
              
              
              67.2
              %
              
              65.4
              %
              
              57.7
              %
              
              49.1
              %
              
              41.5
              %Preferred
                  Stock-Not
                  Subject to
                  Mandatory Redemption
              
              
              3.2
              
              
              7.8
              
              
              9.8
              
              
              8.3
              
              
              7.3Subject
                  to
                  Mandatory Redemption
              
              
              -
              
              
              -
              
              
              -
              
              
              2.9
              
              
              2.6Long-Term
                  Debt
                  and Other Long-Term Obligations
              
              
              29.6
              
              
              26.8
              
              
              32.5
              
              
              39.7
              
              
              48.6Total
                  Capitalization
              
              
              100.0
              %
              
              100.0
              %
              
              100.0
              %
              
              100.0
              %
              
              100.0
              %**DISTRIBUTION
                  KWH DELIVERIES (Millions):**Residential
              
              
              1,664
              
              
              1,551
              
              
              1,506
              
              
              1,533
              
              
              1,391Commercial
              
              
              1,367
              
              
              1,299
              
              
              1,283
              
              
              1,268
              
              
              1,220Industrial
              
              
              1,629
              
              
              1,573
              
              
              1,464
              
              
              1,505
              
              
              1,540Other
              
              
              6
              
              
              7
              
              
              6
              
              
              6
              
              
              6Total
              
              
              4,666
              
              
              4,430
              
              
              4,259
              
              
              4,312
              
              
              4,157**CUSTOMERS
                  SERVED:**Residential
              
              
              138,834
              
              
              138,377
              
              
              137,170
              
              
              136,410
              
              
              134,956Commercial
              
              
              18,939
              
              
              18,730
              
              
              18,455
              
              
              18,397
              
              
              18,153Industrial
              
              
              211
              
              
              219
              
              
              219
              
              
              220
              
              
              224Other
              
              
              85
              
              
              85
              
              
              85
              
              
              85
              
              
              87Total
              
              
              158,069
              
              
              157,411
              
              
              155,929
              
              
              155,112
              
              
              153,420**Number
                  of Employees**
              
              
              201
              
              
              200
              
              
              201
              
              
              201
              
              
              256




2


**PENNSYLVANIA
      POWER COMPANY**





**MANAGEMENT’S
      DISCUSSION AND**


**ANALYSIS
      OF
      RESULTS OF OPERATIONS**


**AND
      FINANCIAL CONDITION**








***Forward-looking
      Statements.*** *This
      discussion
      includes forward-looking statements based on information currently available
      to
      management. Such statements are subject to certain risks and uncertainties.
      These statements typically contain, but are not limited to, the terms
      "anticipate," "potential," "expect," "believe," "estimate" and similar words.
      Actual results may differ materially due to the speed and nature of increased
      competition and deregulation in the electric utility industry, economic or
      weather conditions affecting future sales and margins, changes in markets for
      energy services, changing energy and commodity market prices, replacement power
      costs being higher than anticipated or inadequately hedged, the continued
      ability of our regulated utilities to collect transition and other charges
      or to
      recover increased transmission costs, maintenance costs being higher than
      anticipated, legislative and regulatory changes (including revised environmental
      requirements), the repeal of PUHCA and the legal and regulatory changes
      resulting from the implementation of the EPACT, the uncertainty of the timing
      and amounts of the capital expenditures (including that such amounts could
      be
      higher than anticipated) or levels of emission reductions related to the
      settlement agreement resolving the New Source Review litigation, adverse
      regulatory or legal decisions and outcomes (including, but not limited to,
      the
      revocation of necessary licenses or operating permits, fines or other
      enforcement actions and remedies) of governmental investigations and oversight,
      including by the Securities and Exchange Commission, the United States
      Attorney's Office, the Nuclear Regulatory Commission and the Pennsylvania Public
      Utility Commission as disclosed in our Securities and Exchange Commission
      filings, the continuing availability and operation of generating units, the
      ability of generating units to continue to operate at, or near full capacity,
      our inability to accomplish or realize anticipated benefits from strategic
      goals
      (including employee workforce factors), the anticipated benefits from our
      voluntary pension plan contributions, our ability to improve electric commodity
      margins and to experience growth in the distribution business, our ability
      to
      access the public securities and other capital markets and the cost of such
      capital, the outcome, cost and other effects of present and potential legal
      and
      administrative proceedings and claims related to the August 14, 2003
      regional power outage, the risks and other factors discussed from time to time
      in our Securities and Exchange Commission filings, and other similar factors.
      Also, a credit rating should not be viewed as a recommendation to buy, sell
      or
      hold securities and may be revised or withdrawn by a rating agency at any time.
      We expressly disclaim any current intention to update any forward-looking
      statements contained herein as a result of new information, future events,
      or
      otherwise.*





**FirstEnergy
      Intra-System Generation Asset Transfers**





On
      May 13,
      2005, Penn, and on May 18, 2005, the Ohio Companies entered into certain
      agreements implementing a series of intra-system generation asset transfers
      that
      were completed in the fourth quarter of 2005. The asset transfers resulted
      in
      the respective undivided ownership interests of the Ohio Companies and Penn
      in
      FirstEnergy's nuclear and non-nuclear generation assets being owned by NGC,
      and
      FGCO, respectively. The generating plant interests transferred do not include
      our leasehold interests in certain of the plants that are currently subject
      to
      sale and leaseback arrangements with non-affiliates.





On
      October 24,
      2005, we completed the intra-system transfer of non-nuclear generation assets
      to
      FGCO. Prior to the transfer, FGCO, as lessee under a Master Facility Lease
      with
      the Ohio companies and Penn, leased, operated and maintained the non-nuclear
      generation assets that it now owns. The asset transfers were consummated
      pursuant to FGCO's purchase option under the Master Facility Lease.





On
      December 16,
      2005, we completed the intra-system transfer of our ownership interests in
      the
      nuclear generation assets to NGC through an asset spin-off in the form of a
      dividend. FENOC continues to operate and maintain the nuclear generation
      assets.





These
      transactions
      were undertaken pursuant to the Ohio Companies’ and Penn’s restructuring plans
      that were approved by the PUCO and the PPUC, respectively, under applicable
      Ohio
      and Pennsylvania electric utility restructuring legislation. Consistent with
      the
      restructuring plans, generation assets that had been owned by the Ohio Companies
      and Penn were required to be separated from the regulated delivery business
      of
      those companies through transfer to a separate corporate entity. The
      transactions essentially completed the divestitures contemplated by the
      restructuring plans by transferring the ownership interests to NGC and FGCO
      without impacting the operation of the plants.





The
      transfers are
      expected to affect our near-term future results with reductions in revenues
      and
      expenses. Revenues will be reduced due to the termination of the sale of our
      nuclear generation KWH and the lease of our non-nuclear-generated assets
      arrangements with FES. Our expenses will be lower due to the nuclear fuel and
      operating costs assumed by NGC as well as depreciation and property tax expenses
      assumed by FGCO and NGC related to the transferred generating assets. In
      addition, we will receive interest income from associated company notes
      receivable from FGCO and NGC for the transfer of our generation net assets
      and
      eliminate the interest expense on certain pollution control notes to be
      transferred to FGCO and NGC. FES will continue to provide our PLR requirements
      under revised purchased power arrangements for a three-year period beginning
      January 1, 2006 (see Regulatory Matters).




3


**Results
      of
      Operations**





Earnings
      on common
      stock in 2005 increased to $64 million from $57 million in 2004. Improved
      earnings in 2005 resulted from lower purchased power and nuclear operating
      costs, partially offset by lower operating revenues, higher other operating
      expenses and higher income taxes. Operating revenues were down primarily due
      to
      reduced wholesale sales to FES. Other operating costs were higher in 2005
      primarily due to increased transmission expenses.





Earnings
      on common
      stock in 2004 increased to $57 million from $45 million in 2003. Earnings in
      2003 included an after-tax credit of $11 million from the cumulative effect
      of
      an accounting change due to the adoption of SFAS 143 (see Note 2(G)). Income
      before the cumulative effect of an accounting change in 2003 was $38 million.
      Improved results in 2004 reflected lower nuclear operating costs, higher
      operating revenues and reduced net interest charges, partially offset by higher
      purchased power costs. Operating revenues were higher in 2004 primarily due
      to
      significant increases in wholesale sales to FES. Lower nuclear operating costs
      in 2004 compared with 2003 were due to the absence of scheduled nuclear
      refueling outages at Beaver Valley Unit 2 and the Perry Plant in 2003.





*Operating
      Revenues*





Operating
      revenues
      decreased by $9 million or 2% in 2005 as compared with 2004. The lower revenues
      primarily resulted from reductions in wholesale sales to FES of $24 million,
      lease revenues to FGCO of $4 million and distribution throughput of $2
      million. These reductions were partially offset by a $19 million increase in
      retail generation sales. The decrease in FES sales revenues was primarily due
      to
      lower unit prices. In
      addition, the
      nuclear generation asset transfers on December 16 terminated our nuclear
      generation sales arrangement to FES. Revenues from the leases of fossil
      generation assets to FGCO decreased when the lease arrangements were terminated
      as a result of the non-nuclear intra-system asset transfers completed on October
      24, 2005. Distribution revenues decreased due to lower unit prices which were
      partially offset by higher distribution KWH deliveries resulting from the
      w armer
      summer weather in 2005. The higher retail generation revenues (residential
      - $4
      million, commercial - $5 million and industrial - $10 million) resulted from
      higher KWH sales in all customer sectors and higher unit prices. The increase
      in
      industrial sector sales reflected higher KWH sales to our steel industry
      customers.





Operating
      revenues
      increased by $23 million or 4% in 2004 as compared with 2003. The higher
      revenues primarily resulted from $14 million of increased wholesale revenues
      in
      2004 (primarily to FES) due to an increase in nuclear generation available
      for
      sale and higher retail generation revenues. Sales increased in all retail
      customer sectors for 2004 compared with 2003. Increased generation sales and
      higher unit prices resulted in a $15 million increase in generation revenues.
      Distribution deliveries increased in all customer classes in 2004 compared
      with
      2003 reflecting an improving economy in our service area; lower unit prices
      more
      than offset the effect of the higher deliveries in 2004, resulting in a
      $6 million decrease in revenues. Higher deliveries to the steel sector in
      2004 were principally responsible for the increase in KWH sales to industrial
      customers.





Changes
      in electric
      generation and distribution deliveries in 2005 and 2004 compared to the prior
      years are summarized in the following table:





**Changes
                in KWH Sales**
            
            **2005**
            
            **2004*****Increase
                (Decrease)***Electric
                Generation:Retail
            
            
            5.3
            %
            
            4.1
            %Wholesale
            
            
            (1.5
            )%
            
            10.9
            %Total
                Electric
                Generation Sales
            
            
            1.3
            %
            
            8.0
            %Distribution
                Deliveries:Residential
            
            
            7.3
            %
            
            3.0
            %Commercial
            
            
            5.2
            %
            
            1.3
            %Industrial
            
            
            3.5
            %
            
            7.5
            %Total
                Distribution Deliveries
            
            
            5.3
            %
            
            4.0
            %





4


*Operating
      Expenses and Taxes*





Total
      operating
      expenses and taxes decreased by $16 million in 2005 and increased by $9 million
      in 2004 from the prior year. The following table presents changes from the
      prior
      year by expense category.





**Operating
                Expenses and Taxes - Changes**
            
            **2005**
            
            **2004*****Increase
                (Decrease)***
            
            ***(In
                millions)***Fuel
                costs
            
            $
            -
            
            $
            1Purchased
                power costs
            
            
            (5
            )
            
            15Nuclear
                operating costs
            
            
            (35
            )
            
            (22
            )Other
                operating costs
            
            
            17
            
            
            (2
            )Provision
                for
                depreciation
            
            
            -
            
            
            1Amortization
                of regulatory assets
            
            
            -
            
            
            -General
                taxes
            
            
            2
            
            
            1Income
                taxes
            
            
            5
            
            
            15Total
                operating expenses and taxes
            
            $
            (16
            )
            $
            9





The
      $35 million
      decrease in nuclear operating costs in 2005 was due to our lower owned
      interests in the two plants (Beaver Valley Unit 2 - 13.74% and Perry - 5.24%)
      with refueling outages in 2005 as compared to the Beaver Valley Unit 1 (65.00%
      owned) that had a refueling outage in 2004. Purchased power
      costs decreased by $5 million in 2005 compared with 2004 as a result of
      lower unit prices, partially offset by increased KWH purchases to meet our
      higher retail generation sales requirements. Other operating costs increased
      by
      $17 million in 2005, reflecting a $14 million increase in transmission
      expenses associated with MISO Day 2 transactions that began on April 1, 2005.





Purchased
      power
      costs increased in 2004 compared with 2003 as a result of a $15 million increase
      in power purchased from FES, reflecting higher unit prices and higher KWH
      purchases to meet increased retail generation sales requirements. Nuclear
      operating costs decreased $22 million in 2004, primarily due to expenses
      associated with one scheduled refueling outage in 2004 compared to three
      scheduled refueling outages in 2003.





General
      taxes
      increased $2 million in 2005 primarily due to the absence in 2005 of settled
      property tax claims in the prior year.





*Net
      Interest
      Charges*





Net
      interest charges
      continued to trend lower, decreasing by $1 million in 2005 and by $7 million
      in
      2004 compared with the prior years, as we continued to redeem and refinance
      outstanding debt. Long-term debt redemptions in 2005, 2004 and 2003 totaled
      $10
      million, $64 million and $41 million, respectively.





*Cumulative
      Effect of Accounting Change*





Upon
      adoption of
      SFAS 143 in 2003, we recorded an after-tax credit to net income of
      $11 million. The cumulative adjustment for unrecognized depreciation,
      accretion offset by the reduction in the existing decommissioning liabilities
      and ceasing the accounting practice of depreciating non-regulated generation
      assets using a cost of removal component was an $18 million increase to income,
      or $11 million net of income taxes.





**Capital
      Resources and Liquidity**





Our
      cash
      requirements in 2005 for operating expenses, construction expenditures,
      scheduled debt maturities and preferred stock redemptions were met without
      increasing our net debt and preferred stock outstanding (excluding any debt
      impacts related to the intra-system generation asset transfer). During 2006
      and
      thereafter, we expect to meet our contractual obligations with a combination
      of
      cash from operations and funds from the capital markets.





*Changes
      in Cash
      Position*





As
      of
      December 31, 2005, we had $24,000 of cash and cash equivalents compared
      with $38,000 as of December 31, 2004. The major sources for changes in
      these balances are summarized below.


5


*Cash
      Flows From
      Operating Activities*





Net
      cash provided
      from operating activities was $162 million in 2005, $115 million in 2004 and
      $116 million in 2003. Cash provided from 2005, 2004 and 2003 operating
      activities are as follows:





**Operating
                Cash Flows**
            
            **2005**
            
            **2004**
            
            **2003*****(In
                millions)***Cash
                earnings(1)
            
            $
            126
            
            $
            135
            
            $
            99Pension
                trust
                contribution(2)
            
            
            (13
            )
            
            (8
            )
            
            -Working
                capital and other
            
            
            49
            
            
            (12
            )
            
            17Net
                cash
                provided fromoperating
                activities
            
            $
            162
            
            $
            115
            
            $
            116





(1 )  Cash
      earnings are a
      Non-GAAP measure (see reconciliation below).


(2)  Pension
      trust
      contributions in 2005 and 2004 are net of $6 million and $5 million


of
      income tax
      benefits, respectively.





Cash
      earnings (in
      the table above) are not a measure of performance calculated in accordance
      with
      GAAP. We believe that cash earnings is a useful financial measure because it
      provides investors and management with an additional means of evaluating our
      cash-based operating performance. The following table reconciles cash earnings
      with net income.





**Reconciliation
                of Cash Earnings**
            
            **2005**
            
            **2004**
            
            **2003*****(In
                millions)***Net
                Income
                (GAAP)
            
            $
            66
            
            $
            59
            
            $
            48Non-Cash
                Charges (Credits):Provision
                for
                depreciation
            
            
            14
            
            
            14
            
            
            13Amortization
                of regulatory assets
            
            
            40
            
            
            40
            
            
            41Nuclear
                fuel
                and capital lease amortization
            
            
            17
            
            
            17
            
            
            16Deferred
                income taxes and investment tax credits, net*
            
            
            (12
            )
            
            -
            
            
            (13
            )Cumulative
                effect of accounting change
            
            
            -
            
            
            -
            
            
            (11
            )Other
                non-cash
                expenses
            
            
            1
            
            
            5
            
            
            5Cash
                earnings
                (Non-GAAP)
            
            $
            126
            
            $
            135
            
            $
            99





*
            Excludes
                $5
                million of deferred tax benefit from pension contribution in
                2004.





Net
      cash provided
      from operating activities increased $47 million in 2005 compared with 2004
      due
      to a $61 million increase in working capital and other, partially offset by
      a $9 million decrease in cash earnings as described under "Results of
      Operations" and a $5 million increase in the after-tax voluntary pension trust
      contributions in 2005 compared to 2004. The increase in working capital and
      other was primarily due to a decreased cash outflow of $22 million for payables
      and a decreased outflow of $22 million in tax payments.





Net
      cash from
      operating activities decreased $1 million in 2004 compared with 2003 due to
      a
      $29 million comparative change in working capital and the $8 million
      after-tax voluntary pension trust contribution in 2004, partially offset by
      a
      $36 million increase in cash earnings as described above under “Results of
      Operations”. The working capital decrease was primarily due to an increased cash
      outflow of $28 million in higher tax payments.





*Cash
      Flows From
      Financing Activities*





In
      2005, 2004 and
      2003, net cash used for financing activities of $53 million, $25 million and
      $76 million, respectively, primarily reflected the new issues and
      redemptions shown below.





**Securities
                Issued or Redeemed**
            
            **2005**
            
            **2004**
            
            **2003*****(In
                millions)*****New
                Issues:**Pollution
                Control Notes
            
            $
            -
            
            $
            -
            
            $
            -Short-Term
                Borrowings, Net
            
            
            5
            
            
            1
            
            
            11**Redemptions:**FMB
            
            $
            1
            
            $
            63
            
            $
            41Pollution
                Control Notes
            
            
            9
            
            
            -
            
            
            -Capital
                Fuel
                Leases
            
            
            
            
            
            -
            
            
            -Preferred
                Stock
            
            
            38
            
            
            1
            
            
            1Other
            
            
            -
            
            
            1
            
            
            -$
            48
            
            $
            65
            
            $
            42






6





The
      $28 million
      increase in cash used for financing in 2005 was primarily due to the absence
      of
      a $65 million equity contribution from OE received in 2004, partially offset
      by
      a $15 million decrease in common stock dividend payments to OE and the net
      decrease in debt redemptions shown above. In 2004, net cash used for financing
      activities decreased by $51 million from 2003. This decrease primarily
      reflects a $65 million equity contribution from OE and a $19 million
      reduction in common stock dividends to OE, partially offset by an $11 million
      decrease in short-term borrowings and a $23 million increase in long-term
      debt redemptions.





We
      had $ 489,000
      of cash and
      temporary investments (which include short-term notes receivable from associated
      companies) and approximately $13 million of short-term indebtedness with
      associated companies as of December 31, 2005. We have obtained
      authorization from the SEC to incur short-term debt of up to our charter limit
      of $44 million (including the utility money pool described below). In
      addition, we have a $25 million (all of which was unused as of December 31,
      2005) of accounts receivable financing facility through Penn Funding, our wholly
      owned subsidiary. As
      a separate legal
      entity with separate creditors, Penn Funding would have to satisfy its
      obligations to creditors before any of its remaining assets could be made
      available to us.





As
      of December 31,
      2005, we had the capability to issue $7 million of additional FMB on the basis
      of property additions and retired bonds. Based upon applicable earnings coverage
      tests, we could issue up to $526 million of preferred stock (assuming no
      additional debt was issued as of December 31, 2005).





On
      June 14,
      2005, we, FirstEnergy, OE, CEI, TE, JCP&L, Met-Ed, Penelec, FES
      and ATSI, as Borrowers, entered into a
      syndicated $2 billion five-year revolving credit facility. Borrowings under
      the
      facility are available to each Borrower separately and will mature on the
      earlier of 364 days from the date of borrowing or the commitment termination
      date. Our borrowing limit under the facility is $50 million, subject to
      applicable regulatory approvals.





Under
      the revolving
      credit facility, borrowers may request the issuance of letters of credit
      expiring up to one year from the date of issuance. The stated amount of
      outstanding letters of credit will count against total commitments available
      under the facility and against the applicable borrower’s borrowing sub-limit.
      Total unused borrowing capability under the existing credit facility and
      accounts receivable financing facilities totaled $75 million as of
      December 31, 2005.





The
      revolving credit
      facility contains financial covenants requiring each borrower to maintain a
      consolidated debt to total capitalization ratio of no more than 65%. As of
      December 31, 2005, our debt to total capitalization as defined under the
      revolving credit facility was 42%.





The
      facility does
      not contain any provisions that either restrict our ability to borrow or
      accelerate repayment of outstanding advances as a result of any change in our
      credit ratings. Pricing is defined in “pricing grids”, whereby the cost of funds
      borrowed under the facility is related to our credit ratings.





We
      have the ability
      to borrow from our regulated affiliates and FirstEnergy to meet our short-term
      working capital requirements. FESC administers this money pool and tracks
      surplus funds of FirstEnergy and its regulated subsidiaries. Companies receiving
      a loan under the money pool agreements must repay the principal amount, together
      with accrued interest, within 364 days of borrowing the funds. The rate of
      interest is the same for each company receiving a loan from the pool and is
      based on the average cost of funds available through the pool. The average
      interest rate for borrowings in 2005 was 3.24%.





On
      July 18,
      2005, Moody’s revised its rating outlook on FirstEnergy and its subsidiaries to
      positive from stable. Moody’s stated that the revision to FirstEnergy’s outlook
      resulted from steady financial improvement and steps taken by management to
      improve operations, including the stabilization of its nuclear operations.
      On
      October 3, 2005, S&P raised its corporate credit rating on FirstEnergy
      and the EUOC to 'BBB' from 'BBB-'. At the same time, S&P raised the senior
      unsecured ratings at the holding company to 'BBB-' from 'BB+' and each of the
      EUOC by one notch above the previous rating. S&P noted that the upgrade
      followed the continuation of a good operating track record, specifically for
      the
      nuclear fleet through the third quarter of 2005. On
      December 23,
      2005, Fitch revised its rating outlook on FirstEnergy and its subsidiaries
      to
      positive from stable. Fitch stated that the revision to FirstEnergy's outlook
      resulted from improved performance of the Company's generating fleet and ongoing
      debt reduction.





Our
      access to
      capital markets and costs of financing are dependent on the ratings of our
      securities and the securities of OE and FirstEnergy. The following table shows
      securities ratings as of December 31, 2005. The ratings outlook from
      S&P on all securities is stable. The ratings outlook from Moody's and Fitch
      on all securities is positive.


7


**Ratings
                  of Securities****Securities**
              
              **S&P**
              
              **Moody’s**
              
              **Fitch****FirstEnergy**
              
              Senior
                  unsecured
              
              BBB-
              
              Baa3
              
              BBB-**OE**
              
              Senior
                  unsecured
              
              BBB-
              
              Baa2
              
              BBBPreferred
                  stock
              
              BB+
              
              Ba1
              
              BBB-**Penn**
              
              Senior
                  secured
              
              BBB+
              
              Baa1
              
              BBB+Senior
                  unsecured(1)
              
              BBB-
              
              Baa2
              
              BBBPreferred
                  stock
              
              BB+
              
              Ba1
              
              BBB-
  (1)
                Penn’s
                    only
                    senior unsecured debt obligations are pollution control revenue
                    refunding
                    bonds issued bythe
                    Ohio
                  Air
                    Quality Development Authority to which this rating
                    applies.







*Cash
      Flows from
      Investing Activities*





Net
      cash used in
      investing activities totaled $109 million in 2005 compared to $90 million in
      2004. The $19 million increase in 2005 is primarily due to the collection
      of $114 million of principal on long-term notes receivable, partially offset
      by
      a $50 million loan to associated companies and $78 million of investments for
      an
      escrow fund and a mortgage indenture deposit.





Net
      cash used in
      investing activities totaled $90 million in 2004 compared to $41 million in
      2003. The $49 million increase in 2004 reflects $22 million of increased
      property additions and a reduction of $34 million in loan repayments from
      associated companies.





Our
      capital spending
      for the period 2006-2010 is expected to be about $91 million of which
      approximately $19 million applies to 2006. We had no other material
      obligations as of December 31, 2005 that have not been recognized on our
      Consolidated Balance Sheet.





**Contractual
      Obligations**





As
      of
      December 31, 2005, our estimated cash payments under existing contractual
      obligations that we consider firm obligations are as follows:





**2007-**
            
            **2009-****Contractual
                Obligations**
            
            **Total**
            
            **2006**
            
            **2008**
            
            **2010**
            
            **Thereafter*****(In
                millions)***Long-term
                debt(1)
            
            $
            200
            
            $
            1
            
            $
            2
            
            $
            2
            
            $
            195Short-term
                borrowings
            
            
            13
            
            
            13
            
            
            -
            
            
            -
            
            
            -Operating
                leases(2)
            
            
            7
            
            
            1
            
            
            2
            
            
            1
            
            
            3Total
            
            $
            220
            
            $
            15
            
            $
            4
            
            $
            3
            
            $
            198





(1)  Amounts
      reflected do
      not include interest on long-term debt.


(2)  See
      Note 5 to
      Consolidated Financial Statements.





**Interest
      Rate Risk**





Our
      exposure to
      fluctuations in market interest rates is reduced since a significant portion
      of
      our debt has fixed interest rates, as noted in the following table.


8


The
      table below
      presents principal amounts and related weighted average interest rates by year
      of maturity for our investment portfolio, debt obligations and preferred stock
      with mandatory redemption provisions.





**Comparison
                of Carrying Value to Fair Value****There-**
            
            
            
            **Fair****Year
                of Maturity**
            
            **2006**
            
            **2007**
            
            **2008**
            
            **2009**
            
            **2010**
            
            **after**
            
            **Total**
            
            **Value*****(Dollars
                in millions)***AssetsInvestments
                Other Than Cash
              and
                Cash
                Equivalents-Fixed
                Income
            
            $
            -
            
            $
            -
            
            $
            1
            
            $
            1
            
            $
            1
            
            $
            281
            
            **$**
            284
            
            **$**
            269Average
                interest rate
            
            
            7.8
            %
            
            7.8
            %
            
            7.8
            %
            
            7.8
            %
            
            7.8
            
            
            5.6
            %
            
            5.7
            %LiabilitiesLong-term
                Debt
                and Other
              Long-Term
                Obligations:Fixed
                rate
            
            $
            1
            
            $
            1
            
            $
            1
            
            $
            1
            
            $
            64
            
            $
            79
            
            **$**
            147
            
            **$**
            152Average
                interest rate
            
            
            9.7
            %
            
            9.7
            %
            
            9.7
            %
            
            9.7
            %
            
            5.5
            %
            
            6.4
            %
            
            6.1
            %Variable
                rate
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            53
            
            **$**
            53
            
            **$**
            53Average
                interest rate
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            3.4
            %
            
            3.4
            %Short-term
                Borrowings
            
            $
            13
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            **$**
            13
            
            **$**
            13Average
                interest rate
            
            
            4.0
            %
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            4.0
            %





**Outlook**





W e
      have a continuing
      responsibility to provide power to those customers not choosing to receive
      power
      from an alternative energy supplier subject to certain limits. We continue
      to
      deliver power to homes and businesses through our existing distribution system,
      which remains regulated.





*Regulatory
      Matters*




Regulatory
        assets
        and liabilities are costs which have been authorized by the PPUC and the
        FERC
        for recovery from or credit to customers in future periods and, without such
        authorization, would have been charged or credited to income when incurred.
        Our
        net regulatory liabilities were approximately $ 59 million
        and
        $19 million as of December 31, 2005 and December 31, 2004,
        respectively, and are included under Noncurrent Liabilities on the Consolidated
        Balance Sheets.
 
 On
        October 11, 2005,
        we filed a plan with the PPUC to secure electricity supply for our customers
        at
        set rates following the end of our transition period on December 31, 2006.
        We
        are recommending that a RFP process cover the period January 1, 2007 through
        May
        31, 2008. Hearings were held on January 10, 2006 with main briefs filed on
        January 27, 2006 and reply briefs on February 3, 2006. On February 17,
        2006, the ALJ issued a Recommended Decision to adopt our RFP process with
        modifications. A PPUC vote is expected in April 2006. Under Pennsylvania’s
        electric competition law, we are required to secure generation supply for
        customers who do not choose alternative suppliers for their
        electricity.
 
 On
        November 1, 2005,
        FES filed two power sales agreements for approval with the FERC. One power
        sales
        agreement provided for FES to provide the PLR requirements of the Ohio Companies
        at a price equal to the retail generation rates approved by the PUCO for
        a
        period of three years beginning January 1, 2006. The Ohio Companies will
        be relieved of their obligation to obtain PLR power requirements from FES
        if the Ohio competitive bid process results in a lower price for retail
        customers. A similar power sales agreement between FES and Penn permits Penn
        to
        obtain its PLR power requirements from FES at a fixed price equal to the
        retail
        generation price during 2006. The Company has filed a plan with the PPUC
        to use
        an RFP process to obtain its power supply requirements after 2006.
 
 On
        December 29,
        2005, the FERC issued an order setting the two power sales agreements for
        hearing. The order criticizes the Ohio competitive bid process, and requires
        FES
        to submit additional evidence in support of the reasonableness of the prices
        charged in the Ohio and Pennsylvania Contracts. A pre-hearing conference
        was
        held on January 18, 2006 to determine the hearing schedule in this case.
        FES
        expects an initial decision to be issued in this case in the fall of 2006.
        The
        outcome of this proceeding cannot be predicted. FES has sought rehearing
        of the
        December 29, 2005 order.


See
      Note 6 to
      the consolidated financial statements for further details and a complete
      discussion of regulatory matters in Pennsylvania, including a detailed
      discussion of reliability initiatives.





*Environmental
      Matters*





We
      accrue
      environmental liabilities only when we conclude that it is probable that we
      have
      an obligation for such costs and can reasonably estimate the amount of such
      costs. Unasserted claims are reflected in our determination of environmental
      liabilities and are accrued in the period that they are both probable and
      reasonably estimable.


9


On
      December 1,
      2005, FirstEnergy issued a comprehensive report to shareholders regarding air
      emissions regulations and an assessment of our future risks and mitigation
      efforts. The report is available on our website at
      www.firstenergycorp.com/environmental.





*W.
                H.
                Sammis Plant*





In
      1999 and 2000,
      the EPA issued NOV or Compliance Orders to nine utilities alleging violations
      of
      the Clean Air Act based on operation and maintenance of 44 power plants,
      including the W. H. Sammis Plant, which was owned at that time by OE and Penn.
      In addition, the DOJ filed eight civil complaints against various investor-owned
      utilities, including a complaint against OE and Penn in the U.S. District Court
      for the Southern District of Ohio. These cases are referred to as New Source
      Review cases. On March 18, 2005, OE and Penn announced that they had
      reached a settlement with the EPA, the DOJ and three states (Connecticut, New
      Jersey, and New York) that resolved all issues related to the W. H. Sammis
      Plant
      New Source Review litigation. This
      settlement
      agreement was approved by the Court on July 11, 2005, and requires
      reductions of NOx and
      SO2 emissions
      at the
      W. H. Sammis Plant and other coal fired plants through the installation of
      pollution control devices and provides for stipulated penalties for failure
      to
      install and operate such pollution controls in accordance with that
      agreement. Consequently, if we
      fail to install such pollution control devices, for any reason, including,
      but
      not limited to, the failure of any third-party contractor to timely meet its
      delivery obligations for such devices, we could be exposed to penalties under
      the settlement agreement. Capital expenditures necessary to meet those
      requirements are currently estimated to be $1.5 billion (the primary
      portion of which is expected to be spent in the 2008 to 2011 time period).
      On
      August 26, 2005, FGCO entered into an agreement with Bechtel Power
      Corporation (Bechtel), under which Bechtel will engineer, procure, and construct
      air quality control systems for the reduction of sulfur dioxide emissions.
      The
      settlement agreement also requires OE and Penn to spend up to $25 million
      toward environmentally beneficial projects, which include wind energy purchased
      power agreements over a 20-year term. OE and Penn agreed to pay a civil penalty
      of $8.5 million. Results in 2005 included the penalties payable by OE and
      Penn of $7.8 million and $0.7 million, respectively. OE and Penn also
      recognized liabilities of $9.2 million and $0.8 million,  respectively,
      for
      probable future cash contributions toward environmentally beneficial
      projects.





*Other
                Legal Proceedings*





There
      are various
      lawsuits, claims (including claims for asbestos exposure) and proceedings
      related to our normal business operations pending against FirstEnergy and its
      subsidiaries. The other material items not otherwise discussed above are
      described below.





*Power
                Outages and Related
                Litigation-*





On
      August 14,
      2003, various states and parts of southern Canada experienced widespread power
      outages. The outages affected approximately 1.4 million customers in
      FirstEnergy’s service area. The U.S. - Canada Power System Outage Task Force’s
      final report in April 2004 on the outages concludes, among other things, that
      the problems leading to the outages began in our Ohio service area. Specifically,
      the
      final report concluded, among other things, that the initiation of the
      August 14, 2003 power outages resulted from an alleged failure of both
      FirstEnergy and ECAR to assess and understand perceived inadequacies within
      our
      system; inadequate situational awareness of the developing conditions; and
      a
      perceived failure to adequately manage tree growth in certain transmission
      rights of way. The Task Force also concluded that there was a failure of the
      interconnected grid's reliability organizations (MISO and PJM) to provide
      effective real-time diagnostic support. The final report is publicly available
      through the Department of Energy’s website (www.doe.gov). We believe that the
      final report does not provide a complete and comprehensive picture of the
      conditions that contributed to the August 14, 2003 power outages and that
      it does not adequately address the underlying causes of the outages. We remain
      convinced that the outages cannot be explained by events on any one utility's
      system. The final report contained 46 “recommendations to prevent or minimize
      the scope of future blackouts.” Forty-five of those recommendations related to
      broad industry or policy matters while one, including subparts, related to
      activities the Task Force recommended be undertaken by FirstEnergy, MISO, PJM,
      ECAR, and other parties to correct the causes of the August 14, 2003 power
      outages. We implemented several initiatives, both prior to and since the
      August 14, 2003 power outages, which were independently verified by NERC as
      complete in 2004 and were consistent with these and other recommendations and
      collectively enhance the reliability of our electric system. Our implementation
      of these recommendations in 2004 included completion of the Task Force
      recommendations that were directed toward FirstEnergy. We also are proceeding
      with the implementation of the
      recommendations regarding enhancements to regional reliability that were to
      be
      completed subsequent to 2004 and will continue to periodically assess the
      FERC-ordered Reliability Study recommendations for forecasted 2009 system
      conditions, recognizing revised load forecasts and other changing system
      conditions which may impact the recommendations. Thus far implementation of
      the
      recommendations has not required, nor is expected to require, substantial
      investment in new, or material upgrades, to existing equipment, and therefore
      we
      have not accrued a liability as of December 31, 2005 for any expenditures
      in excess of those actually incurred through that date. We note, however, that
      the FERC or other applicable government agencies and reliability coordinators
      may take a different view as to recommended enhancements or may recommend
      additional enhancements in the future that could require additional, material
      expenditures. Finally, the PUCO is continuing to review our filing that
      addressed upgrades to control room computer hardware and software and
      enhancements to the training of control room operators before determining the
      next steps, if any, in the proceeding.


10


We
      are vigorously
      defending these actions, but cannot predict the outcome of any of these
      proceedings or whether any further regulatory proceedings or legal actions
      may
      be initiated against the Companies. Although unable to predict the impact of
      these proceedings, if FirstEnergy or its subsidiaries were ultimately determined
      to have legal liability in connection with these proceedings, it could have
      a
      material adverse effect on our financial condition, results of operations and
      cash flows.





*Nuclear
                Plant Matters-*





As
      of
      December 16, 2005 NGC acquired ownership of the nuclear generation assets
      transferred from the OE, Penn, CEI and TE with the exception of leasehold
      interests of OE and TE in certain of the nuclear plants that are subject to
      sale
      and leaseback arrangements with non-affiliates. The transfer included our prior
      owned interests in Beaver Valley Unit 1 (65.00%), Beaver Valley Unit 2
      (13.74%) and Perry (5.24%).





On
      August 12,
      2004, the NRC notified FENOC that it would increase its regulatory oversight
      of
      the Perry Nuclear Power Plant as a result of problems with safety system
      equipment over the preceding two years and the licensee's failure to take prompt
      and effective corrective action. FENOC operates the Perry Nuclear Power Plant.





In
      an April 4,
      2005 public meeting discussing FENOC’s performance at Perry identified in its
      annual assessment, NRC stated that , overall the Perry Plant operated "in a
      manner that preserved public health and safety" even though it remained under
      heightened NRC oversight. The NRC indicated that additional inspections will
      continue and that the plant must improve performance to be removed from the
      Multiple/Repetitive Degraded Cornerstone Column of the Action Matrix. By an
      inspection report dated January 18, 2006, the NRC closed one of the White
      Findings (related to emergency preparedness) which led to the multiple degraded
      cornerstones.





*Other
                Legal Matters-*





There
      are various
      lawsuits, claims (including claims for asbestos exposure) and proceedings
      related to our normal business operations pending against us. The other material
      items not otherwise discussed above are described herein.





If
      it were
      ultimately determined that FirstEnergy or its subsidiaries have legal liability
      or are otherwise made subject to liability based on the above matters, it could
      have a material adverse effect on FirstEnergy's or its subsidiaries' financial
      condition, results of operations and cash flows.





See
      Note 10(B)
      to the consolidated financial statements for further details and a complete
      discussion of other legal proceedings.





**Critical
      Accounting Policies**





We
      prepare our
      consolidated financial statements in accordance with GAAP. Application of these
      principles often requires a high degree of judgment, estimates and assumptions
      that affect financial results. All of our assets are subject to their own
      specific risks and uncertainties and are regularly reviewed for impairment.
      Our
      more significant accounting policies are described below.





*Regulatory
      Accounting*





We
      are subject to
      regulation that sets the prices (rates) we are permitted to charge our customers
      based on the costs that the regulatory agencies determine we are permitted
      to
      recover. At times, regulators permit the future recovery through rates of costs
      that would be currently charged to expense by an unregulated company. This
      rate-making process results in the recording of regulatory assets based on
      anticipated future cash inflows. We regularly review these assets to assess
      their ultimate recoverability within the approved regulatory guidelines.
      Impairment risk associated with these assets relates to potentially adverse
      legislative, judicial or regulatory actions in the future.





*Revenue
      Recognition*





We
      follow the
      accrual method of accounting for revenues, recognizing revenue for electricity
      that has been delivered to customers but not yet billed through the end of
      the
      accounting period. The determination of electricity sales to individual
      customers is based on meter readings, which occur on a systematic basis
      throughout the month. At the end of each month, electricity delivered to
      customers since the last meter reading is estimated and a corresponding accrual
      for unbilled sales is recognized. The determination of unbilled sales requires
      management to make estimates regarding electricity available for retail load,
      transmission and distribution line losses, demand by customer class,
      weather-related impacts, prices in effect for each customer class and
      electricity provided by alternative suppliers.





*Pension
      and
      Other Postretirement Benefits Accounting*





Our
      reported costs
      of providing non-contributory defined pension benefits and postemployment
      benefits other than pensions are dependent upon numerous factors resulting
      from
      actual plan experience and certain assumptions.


11


Pension
      and OPEB
      costs are affected by employee demographics (including age, compensation levels,
      and employment periods), the level of contributions we make to the plans, and
      earnings on plan assets. Such factors may be further affected by business
      combinations, which impact employee demographics, plan experience and other
      factors. Pension and OPEB costs are also affected by changes to key assumptions,
      including anticipated rates of return on plan assets, the discount rates and
      health care trend rates used in determining the projected benefit obligations
      for pension and OPEB costs.





In
      accordance with
      SFAS 87, changes in pension and OPEB obligations associated with these
      factors may not be immediately recognized as costs on the income statement,
      but
      generally are recognized in future years over the remaining average service
      period of plan participants. SFAS 87 and SFAS 106 delay recognition of
      changes due to the long-term nature of pension and OPEB obligations and the
      varying market conditions likely to occur over long periods of time. As such,
      significant portions of pension and OPEB costs recorded in any period may not
      reflect the actual level of cash benefits provided to plan participants and
      are
      significantly influenced by assumptions about future market conditions and
      plan
      participants' experience.





In
      selecting an
      assumed discount rate, we consider currently available rates of return on
      high-quality fixed income investments expected to be available during the period
      to maturity of the pension and other postretirement benefit obligations. Due
      to
      recent declines in corporate bond yields and interest rates in general, we
      reduced the assumed discount rate as of December 31, 2005 to 5.75% from
      6.00% and 6.25% used as of December 31, 2004 and 2003, respectively.





Our
      assumed rate of
      return on pension plan assets considers historical market returns and economic
      forecasts for the types of investments held by its pension trusts. In 2005,
      2004
      and 2003, plan assets actually earned $325 million or 8.2%, $415 million or
      11.1% and $671 million or 24.2% respectively. Our pension costs in 2005, 2004
      and 2003 were computed assuming a 9.0% rate of return on plan assets based
      upon
      projections of future returns and our pension trust investment allocation is
      approximately 63% equities, 33% bonds, 2% real estate and 2% cash. The gains
      or
      losses generated as a result of the difference between expected and actual
      returns on plan assets are deferred and amortized and will increase or decrease
      future net periodic pension expense, respectively.





In
      the fourth
      quarter of 2005, FirstEnergy made a $500 million voluntary contribution to
      its pension plan (our share was $19 million). As a result of our voluntary
      contribution and the increased market value of pension plan assets, we
      recognized a prepaid benefit cost of $42 million as of December 31,
      2005. As prescribed by SFAS 87, we eliminated our additional minimum
      liability of $29 million and its intangible asset of $6 million. In
      addition, the entire AOCL balance was credited by $14 million (net of
      $9 million in deferred taxes) as the fair value of trust assets exceeded
      the accumulated benefit obligation as of December 31, 2005.





Health
      care cost
      trends have significantly increased and will affect future OPEB costs. The
      2005
      and 2004 composite health care trend rate assumptions are approximately 9-11%,
      gradually decreasing to 5% in later years. In determining our trend rate
      assumptions, we included the specific provisions of our health care plans,
      the
      demographics and utilization rates of plan participants, actual cost increases
      experienced in its health care plans, and projections of future medical trend
      rates. The effect on Penn Power's portion of pension and OPEB costs from changes
      in key assumptions are as follows:




**Increase
                  in Costs from Adverse Changes in Key Assumptions****Assumption**
              
              **Adverse
                  Change**
              
              **Pension**
              
              **OPEB**
              
              **Total*****(In
                  millions)***Discount
                  rate
              
              
              Decrease
                  by
                  0.25%
              
              $
              0.2
              
              $
              0.1
              
              $
              0.3Long-term
                  return on assets
              
              
              Decrease
                  by
                  0.25%
              
              $
              0.3
              
              $
              -
              
              $
              0.3Health
                  care
                  trend rate
              
              
              Increase
                  by
                  1%
              
              
              na
              
              $
              0.8
              
              $
              0.8





*Long-Lived
      Assets*





In
      accordance with
      SFAS 144, we periodically evaluate our long-lived assets to determine
      whether conditions exist that would indicate that the carrying value of an
      asset
      might not be fully recoverable. The accounting standard requires that if the
      sum
      of future cash flows (undiscounted) expected to result from an asset is less
      than the carrying value of the asset, an asset impairment must be recognized
      in
      the financial statements. If impairment has occurred, we recognize a loss -
      calculated as the difference between the carrying value and the estimated fair
      value of the asset (discounted future net cash flows).





The
      calculation of
      future cash flows is based on assumptions, estimates and judgment about future
      events. The aggregate amount of cash flows determines whether an impairment
      is
      indicated. The timing of the cash flows is critical in determining the amount
      of
      the impairment.


12


*Asset
      Retirement
      Obligations*





In
      accordance with
      SFAS 143 and FIN 47, we recognize an ARO for the future
      decommissioning of our nuclear power plants and future remediation of other
      environmental liabilities associated with all our long-lived assets. The ARO
      liability represents an estimate of the fair value of our current obligation
      related to nuclear decommissioning and the retirement or remediation of
      environmental liabilities of other assets. A fair value measurement inherently
      involves uncertainty in the amount and timing of settlement of the liability.
      We
      used an expected cash flow approach to measure the fair value of the nuclear
      decommissioning and environmental remediation ARO. This approach applies
      probability weighting to discounted future cash flow scenarios that reflect
      a
      range of possible outcomes. The scenarios consider settlement of the ARO at
      the
      expiration of the nuclear power plants' current license; settlement based on
      an
      extended license term and expected remediation dates.





**NEW
      ACCOUNTING STANDARDS AND INTERPRETATIONS**





*FSP
      FAS 115-1
      and FAS 124-1, "The Meaning of Other-Than-Temporary Impairment and its
      Application to Certain Investments"*





Issued
      in November
      2005, FSP 115-1 and FAS 124-1 addresses the determination as to when
      an investment is considered impaired, whether that impairment is other than
      temporary, and the measurement of an impairment loss. The FSP finalized and
      renamed EITF 03-1 and 03-1-a to FSP FAS 115-1. This FSP will (1) nullify certain
      requirements of Issue 03-1 and supersedes EITF topic No. D-44, "Recognition
      of
      Other Than Temporary Impairment upon the Planned Sale of a Security Whose Cost
      Exceeds Fair Value," (2) clarify that an investor should recognize an impairment
      loss no later than when the impairment is deemed other than temporary, even
      if a
      decision to sell has not been made, and (3) be effective for
      other-than-temporary impairment and analyses conducted in periods beginning
      after September 15, 2005. The FSP requires prospective application with an
      effective date for reporting periods beginning after December 15, 2005. We
      are currently evaluating this FSP Issue and any impact on its
      investments.





*EITF
                Issue
                04-13, "Accounting for Purchases and Sales of Inventory with the
                Same
                Counterparty"*





In
      September 2005,
      the EITF reached a final consensus on Issue 04-13 concluding that two or more
      legally separate exchange transactions with the same counterparty should be
      combined and considered as a single arrangement for purposes of applying
      APB 29, when the transactions were entered into "in contemplation" of one
      another. If two transactions are combined and considered a single arrangement,
      the EITF reached a consensus that an exchange of inventory should be accounted
      for at fair value. Although electric power is not capable of being held in
      inventory, there is no substantive conceptual distinction between exchanges
      involving power and other storable inventory. Therefore, we will adopt this
      EITF
      effective for new arrangements entered into, or modifications or renewals of
      existing arrangements, in interim or annual periods beginning after
      March 15, 2006.





*SFAS
                154 -
                “Accounting Changes and Error Corrections - a replacement of APB Opinion
                No. 20 and FASB Statement No.
                3”*





In
      May 2005, the
      FASB issued SFAS 154 to change the requirements for accounting and
      reporting a change in accounting principle. It applies to all voluntary changes
      in accounting principle and to changes required by an accounting pronouncement
      when that pronouncement does not include specific transition provisions. This
      Statement requires retrospective application to prior periods’ financial
      statements of changes in accounting principle, unless it is impracticable to
      determine either the period-specific effects or the cumulative effect of the
      change. In those instances, this Statement requires that the new accounting
      principle be applied to the balances of assets and liabilities as of the
      beginning of the earliest period for which retrospective application is
      practicable and that a corresponding adjustment be made to the opening balance
      of retained earnings (or other appropriate components of equity or net assets
      in
      the statement of financial position) for that period rather than being reported
      in the Consolidated Statements of Income. This Statement also requires that
      a
      change in depreciation, amortization, or depletion method for long-lived,
      nonfinancial assets be accounted for as a change in accounting estimate affected
      by a change in accounting principle. The provisions of this Statement are
      effective for accounting changes and corrections of errors made in fiscal years
      beginning after December 15, 2005. We adopted this Statement effective
      January 1, 2006.





*SFAS
                153,
                “Exchanges of Nonmonetary Assets - an amendment of APB Opinion No.
                29”*





In
      December 2004,
      the FASB issued SFAS 153 amending APB 29, which was based on the
      principle that nonmonetary assets should be measured based on the fair value
      of
      the assets exchanged. The guidance in APB 29 included certain exceptions to
      that principle. SFAS 153 eliminates the exception from fair value
      measurement for nonmonetary exchanges of similar productive assets and replaces
      it with an exception for exchanges that do not have commercial substance. This
      Statement specifies that a nonmonetary exchange has commercial substance if
      the
      future cash flows of the entity are expected to change significantly as a result
      of the exchange. The provisions of this Statement are effective January 1,
      2006 for us. This FSP is not expected to have a material impact on our financial
      statements.


13


*SFAS
      151,
“Inventory Costs - an amendment of ARB No. 43, Chapter 4”*





In
      November 2004,
      the FASB issued SFAS 151 to clarify the accounting for abnormal amounts of
      idle facility expense, freight, handling costs and wasted material (spoilage).
      Previous guidance stated that in some circumstances these costs may be “so
      abnormal” that they would require treatment as current period costs.
      SFAS 151 requires abnormal amounts for these items to always be recorded as
      current period costs. In addition, this Statement requires that allocation
      of
      fixed production overheads to the cost of conversion be based on the normal
      capacity of the production facilities. The provisions of this statement are
      effective for inventory costs incurred by us beginning January 1, 2006. We
      do not expect it to have a material impact on our financial
      statements.








14







**PENNSYLVANIA
                  POWER COMPANY****CONSOLIDATED
                  STATEMENTS OF INCOME****For
                  the Years Ended December 31,**
              
              **2005**
              
              **2004**
              
              **2003*****(In
                  thousands)*****OPERATING
                  REVENUES (Note 2(I))**
              
              $
              540,556
              
              $
              549,121
              
              $
              526,581**OPERATING
                  EXPENSES AND TAXES:**Fuel
              
              
              23,042
              
              
              22,894
              
              
              21,443Purchased
                  power (Note 2(I))
              
              
              175,782
              
              
              181,031
              
              
              165,643Nuclear
                  operating costs
              
              
              71,690
              
              
              106,659
              
              
              128,895Other
                  operating costs (Note 2(I))
              
              
              68,005
              
              
              51,180
              
              
              52,809Provision
                  for
                  depreciation
              
              
              14,409
              
              
              14,134
              
              
              13,017Amortization
                  of regulatory assets
              
              
              39,967
              
              
              40,012
              
              
              40,789General
                  taxes
              
              
              25,580
              
              
              23,607
              
              
              22,458Income
                  taxes
              
              
              54,056
              
              
              48,824
              
              
              34,164Total
                  operating expenses and taxes
              
              
              472,531
              
              
              488,341
              
              
              479,218**OPERATING
                  INCOME**
              
              
              68,025
              
              
              60,780
              
              
              47,363**OTHER
                  INCOME (net of income taxes) (Notes 2(I))**
              
              
              1,786
              
              
              3,464
              
              
              2,807**NET
                  INTEREST CHARGES:**Interest
                  on
                  long-term debt
              
              
              8,144
              
              
              8,250
              
              
              14,228Allowance
                  for
                  borrowed funds used during construction
              
              
              (5,944
              )
              
              (4,563
              )
              
              (3,189
              )Other
                  interest
                  expense
              
              
              1,746
              
              
              1,481
              
              
              1,298Net
                  interest
                  charges
              
              
              3,946
              
              
              5,168
              
              
              12,337**INCOME
                  BEFORE CUMULATIVE EFFECT****OF
                  ACCOUNTING CHANGE**
              
              
              65,865
              
              
              59,076
              
              
              37,833Cumulative
                  effect of accounting change (net of incometaxes
                  of
                  $7,532,000) (Note 2(G))
              
              
              -
              
              
              -
              
              
              10,618**NET
                  INCOME**
              
              
              65,865
              
              
              59,076
              
              
              48,451**PREFERRED
                  STOCK DIVIDEND REQUIREMENTS**
              
              
              1,689
              
              
              2,560
              
              
              3,188**EARNINGS
                  ON COMMON STOCK**
              
              $
              64,176
              
              $
              56,516
              
              $
              45,263The
                  accompanying Notes to Consolidated Financial Statements are an
                  integral
                  part of these statements.
   15
  **PENNSYLVANIA
                    POWER COMPANY****CONSOLIDATED
                    BALANCE SHEETS****As
                    of
                    December 31,**
                
                **2005**
                
                **2004*****(In
                    thousands)*****ASSETS****UTILITY
                    PLANT:**In
                    service
                
                $
                359,069
                
                $
                866,303Less
                    -
                    Accumulated provision for depreciation
                
                
                129,118
                
                
                356,020229,951
                
                
                510,283Construction
                    work in progress -Electric
                    plant
                
                
                3,775
                
                
                104,366Nuclear
                    fuel
                
                
                -
                
                
                3,3623,775
                
                
                107,728233,726
                
                
                618,011**OTHER
                    PROPERTY AND INVESTMENTS:**Nuclear
                    plant
                    decommissioning trusts
                
                
                -
                
                
                143,062Long-term
                    notes receivable from associated companies
                
                
                284,482
                
                
                32,985Other
                
                
                351
                
                
                722284,833
                
                
                176,769**CURRENT
                    ASSETS:**Cash
                    and cash
                    equivalents
                
                
                24
                
                
                38Notes
                    receivable from associated companies
                
                
                465
                
                
                431Receivables
                    -Customers
                    (less accumulated provision of $1,087,000 and $888,000,respectively,
                    for uncollectible accounts)
                
                
                44,555
                
                
                44,282Associated
                    companies
                
                
                115,441
                
                
                23,016Other
                
                
                2,889
                
                
                1,656Materials
                    and
                    supplies, at average cost
                
                
                -
                
                
                37,923Prepayments
                    and other
                
                
                86,995
                
                
                8,924250,369
                
                
                116,270**DEFERRED
                    CHARGES:**Prepaid
                    pension costs
                
                
                42,243
                
                
                -Other
                
                
                3,829
                
                
                10,10646,072
                
                
                10,106$
                815,000
                
                $
                921,156**CAPITALIZATION
                    AND LIABILITIES****CAPITALIZATION
                    (See Consolidated Statements of Capitalization):**Common
                    stockholder's equity
                
                $
                296,933
                
                $
                327,379Preferred
                    stock
                
                
                14,105
                
                
                39,105Long-term
                    debt
                    and other long-term obligations
                
                
                130,677
                
                
                133,887441,715
                
                
                500,371**CURRENT
                    LIABILITIES:**Currently
                    payable long-term debt
                
                
                69,524
                
                
                26,524Accounts
                    payable -Associated
                    companies
                
                
                73,444
                
                
                46,368Other
                
                
                1,828
                
                
                1,436Notes
                    payable
                    to associated companies
                
                
                12,703
                
                
                11,852Accrued
                    taxes
                
                
                28,632
                
                
                14,055Accrued
                    interest
                
                
                1,877
                
                
                1,872Other
                
                
                8,086
                
                
                8,802196,094
                
                
                110,909**NONCURRENT
                    LIABILITIES:**Accumulated
                    deferred income taxes
                
                
                66,576
                
                
                93,418Asset
                    retirement obligation
                
                
                149
                
                
                138,284Retirement
                    benefits
                
                
                45,967
                
                
                49,834Regulatory
                    liabilities
                
                
                58,637
                
                
                18,823Other
                
                
                5,862
                
                
                9,517177,191
                
                
                309,876**COMMITMENTS
                    AND CONTINGENCIES (Notes 5 and 10)**$
                815,000
                
                $
                921,156The
                    accompanying Notes to Consolidated Financial Statements are an
                    integral
                    part of these balance sheets.
   16
  **PENNSYLVANIA
                    POWER COMPANY****CONSOLIDATED
                    STATEMENTS OF CAPITALIZATION****As
                    of
                    December 31,**
                
                **2005**
                
                **2004*****(Dollars
                    in thousands, except per share
                    amounts)*****COMMON
                    STOCKHOLDER'S EQUITY:**Common
                    stock,
                    $30 par value, 6,500,000 shares authorized, 6,290,000 shares
                    outstanding
                
                
                
                
                
                
                
                $
                188,700
                
                $
                188,700Other
                    paid-in
                    capital
                
                
                
                
                
                
                
                
                
                
                
                
                
                71,136
                
                
                64,690Accumulated
                    other comprehensive loss (Note 2(F))
                
                
                
                
                
                
                
                
                
                
                
                
                
                -
                
                
                (13,706
                )Retained
                    earnings (Note 7(A))
                
                
                
                
                
                
                
                
                
                
                
                
                
                37,097
                
                
                87,695Total
                    common
                    stockholder’s equity
                
                
                
                
                
                
                
                
                
                
                
                
                
                296,933
                
                
                327,379Number
                    of Shares
                
                
                **Optional****Outstanding**
                
                **Redemption
                    Price****2005**
                
                
                **2004**
                
                
                **Per
                    Share**
                
                
                **Aggregate****PREFERRED
                    STOCK NOT SUBJECT TO****MANDATORY
                    REDEMPTION (Note 7(B)):**Cumulative,
                    $100 par value-Authorized
                    1,200,000 shares4.24%
                
                
                
                
                
                
                
                
                40,000
                
                
                40,000
                
                $
                103.13
                
                $
                4,125
                
                
                4,000
                
                
                4,0004.25%
                
                
                
                
                
                
                
                
                41,049
                
                
                41,049
                
                
                105.00
                
                
                4,310
                
                
                4,105
                
                
                4,1054.64%
                
                
                
                
                
                
                
                
                60,000
                
                
                60,000
                
                
                102.98
                
                
                6,179
                
                
                6,000
                
                
                6,0007.75%
                
                
                
                
                
                
                
                
                -
                
                
                250,000
                
                
                
                
                
                -
                
                
                -
                
                
                25,000Total
                
                
                
                
                
                
                
                
                141,049
                
                
                391,049
                
                
                
                
                $
                14,614
                
                
                14,105
                
                
                39,105**LONG-TERM
                    DEBT AND LONG-TERM OBLIGATIONS (Note 7(C)):**First
                    mortgage
                    bonds-9.740%
                    due
                    2005-2019
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                13,669
                
                
                14,6437.625%
                    due
                    2023
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                6,500
                
                
                6,500Total
                    first
                    mortgage bonds
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                20,169
                
                
                21,143Secured
                    notes-5.400%
                    due
                    2013
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                1,000
                
                
                1,0005.400%
                    due
                    2017
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                10,600
                
                
                10,600* 
3.300%
                    due 2017
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                17,925
                
                
                17,9255.900%
                    due
                    2018
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                16,800
                
                
                16,800* 
3.300%
                    due 2021
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                10,525
                
                
                14,4826.150%
                    due
                    2023
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                12,700
                
                
                12,700* 
3.610%
                    due 2027
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                10,300
                
                
                10,3005.375%
                    due
                    2028
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                1,734
                
                
                1,7345.450%
                    due
                    2028
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                6,950
                
                
                6,9506.000%
                    due
                    2028
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                14,250
                
                
                14,2505.950%
                    due
                    2029
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                -
                
                
                238* 
1.800%
                    due 2033
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                -
                
                
                5,200Total
                    secured
                    notes
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                102,784
                
                
                112,179Unsecured
                    notes-* 
3.500%
                    due 2029
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                14,500
                
                
                14,5005.390%
                    due
                    2010 to associated company
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                62,900
                
                
                -Total
                    unsecured notes
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                77,400
                
                
                14,500Preferred
                    stock subject to mandatory redemption
                
                
                
                
                
                
                
                
                
                
                
                
                
                -
                
                
                12,750Net
                    unamortized discount on debt
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (152
                )
                
                (161
                )Long-term
                    debt
                    due within one year
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (69,524
                )
                
                (26,524
                )Total
                    long-term debt and other long-term obligations
                
                
                
                
                
                
                
                
                
                
                
                
                
                130,677
                
                
                133,887**TOTAL
                    CAPITALIZATION**
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                $
                441,715
                
                $
                500,371*
                    Denotes
                    variable-rate issue with applicable year-end interest rate
                    shown.The
                    accompanying Notes to Consolidated Financial Statements are an
                    integral
                    part of these statements.
   17
   **PENNSYLVANIA
                    POWER COMPANY****CONSOLIDATED
                    STATEMENTS OF COMMON STOCKHOLDER'S EQUITY****Accumulated****Other**
                
                **Other****Comprehensive**
                
                **Number**
                
                **Par**
                
                **Paid-In**
                
                **Comprehensive**
                
                **Retained****Income**
                
                **of
                    Shares**
                
                **Value**
                
                **Capital**
                
                **Income
                    (Loss)**
                
                **Earnings*****(Dollars
                    in thousands)***Balance,
                    January 1, 2003
                
                
                
                
                
                6,290,000
                
                $
                188,700
                
                $
                (310
                )
                $
                (9,932
                )
                $
                50,916Net
                    income
                
                $
                48,451
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                48,451Minimum
                    liability for unfunded retirementbenefits,
                    net
                    of $(1,290,000) of income taxes
                
                
                (1,851
                )
                
                
                
                
                
                
                
                
                
                
                (1,851
                )Comprehensive
                    income
                
                $
                46,600Cash
                    dividends
                    on preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (3,188
                )Cash
                    dividends
                    on common stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (42,000
                )Balance,
                    December 31, 2003
                
                
                
                
                
                6,290,000
                
                
                188,700
                
                
                (310
                )
                
                (11,783
                )
                
                54,179Net
                    income
                
                $
                59,076
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                59,076Minimum
                    liability for unfunded retirementbenefits,
                    net
                    of $(1,372,000) of income taxes
                
                
                (1,923
                )
                
                
                
                
                
                
                
                
                
                
                (1,923
                )Comprehensive
                    income
                
                $
                57,153Cash
                    dividends
                    on preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (2,560
                )Cash
                    dividends
                    on common stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (23,000
                )Equity
                    contribution from parent
                
                
                
                
                
                
                
                
                
                
                
                65,000Balance,
                    December 31, 2004
                
                
                
                
                
                6,290,000
                
                
                188,700
                
                
                64,690
                
                
                (13,706
                )
                
                87,695Net
                    income
                
                $
                65,865
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                65,865Minimum
                    liability for unfunded retirementbenefits,
                    net
                    of $9,707,000 of income taxes
                
                
                13,706
                
                
                
                
                
                
                
                
                
                
                
                13,706Comprehensive
                    income
                
                $
                79,571Affiliated
                    company asset transfers
                
                
                
                
                
                
                
                
                
                
                
                6,101
                
                
                
                
                
                (106,774
                )Preferred
                    stock redemption adjustment
                
                
                
                
                
                
                
                
                
                
                
                345Cash
                    dividends
                    on preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (1,689
                )Cash
                    dividends
                    on common stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (8,000
                )Balance,
                    December 31, 2005
                
                
                
                
                
                6,290,000
                
                $
                188,700
                
                $
                71,136
                
                $
                -
                
                $
                37,097
 **CONSOLIDATED
                      STATEMENTS OF PREFERRED STOCK****Not
                      Subject to**
                  
                  **Subject
                      to****Mandatory
                      Redemption**
                  
                  **Mandatory
                      Redemption *****Number**
                  
                  **Par**
                  
                  **Number**
                  
                  **Par****of
                      Shares**
                  
                  **Value**
                  
                  **of
                      Shares**
                  
                  **Value*****(Dollars
                      in thousands)***Balance,
                      January 1, 2003
                  
                  
                  391,049
                  
                  $
                  39,105
                  
                  
                  142,500
                  
                  $
                  14,250Redemptions-7.625%
                      Series
                  
                  
                  
                  
                  
                  
                  
                  
                  (7,500
                  )
                  
                  (750
                  )Balance,
                      December 31, 2003
                  
                  
                  391,049
                  
                  
                  39,105
                  
                  
                  135,000
                  
                  
                  13,500Redemptions-7.625%
                      Series
                  
                  
                  
                  
                  
                  
                  
                  
                  (7,500
                  )
                  
                  (750
                  )Balance,
                      December 31, 2004
                  
                  
                  391,049
                  
                  
                  39,105
                  
                  
                  127,500
                  
                  
                  12,750Redemptions-7.750%
                      Series
                  
                  
                  (250,000
                  )
                  
                  (25,000
                  )7.625%
                      Series
                  
                  
                  
                  
                  
                  
                  
                  
                  (127,500
                  )
                  
                  (12,750
                  )Balance,
                      December 31, 2005
                  
                  
                  141,049
                  
                  $
                  14,105
                  
                  
                  -
                  
                  $
                  -* 
                      Preferred stock subject to mandatory redemption is classified
                      as debt
                      under SFAS 150.The
                      accompanying Notes to Consolidated Financial Statements are
                      an integral
                      part of these statements.
    18
   **PENNSYLVANIA
                    POWER COMPANY****CONSOLIDATED
                    STATEMENTS OF CASH FLOWS****For
                    the Years Ended December 31,**
                
                **2005**
                
                **2004**
                
                **2003*****(In
                    thousands)*****CASH
                    FLOWS FROM OPERATING ACTIVITIES:**Net
                    income
                
                $
                65,865
                
                $
                59,076
                
                $
                48,451Adjustments
                    to
                    reconcile net income to net cash fromoperating
                    activities -Provision
                    for
                    depreciation
                
                
                14,409
                
                
                14,134
                
                
                13,017Amortization
                    of regulatory assets
                
                
                39,967
                
                
                40,012
                
                
                40,789Nuclear
                    fuel
                    and other amortization
                
                
                16,796
                
                
                16,790
                
                
                15,947Deferred
                    income taxes and investment tax credits, net
                
                
                (12,390
                )
                
                5,011
                
                
                (12,760
                )Cumulative
                    effect of accounting change (Note 2(G))
                
                
                -
                
                
                -
                
                
                (10,618
                )Pension
                    trust
                    contribution
                
                
                (18,791
                )
                
                (12,934
                )
                
                -Decrease
                    (increase) in operating assets -Receivables
                
                
                13,320
                
                
                1,919
                
                
                16,276Materials
                    and
                    supplies
                
                
                (729
                )
                
                (4,005
                )
                
                (3,609
                )Prepayments
                    and other current assets
                
                
                177
                
                
                459
                
                
                (4,037
                )Increase
                    (decrease) in operating liabilities -Accounts
                    payable
                
                
                28,704
                
                
                6,338
                
                
                (11,163
                )Accrued
                    taxes
                
                
                14,577
                
                
                (13,036
                )
                
                14,584Accrued
                    interest
                
                
                5
                
                
                (2,524
                )
                
                (1,162
                )Asset
                    retirement obligation, net
                
                
                -
                
                
                (1,242
                )
                
                4,112Other
                
                
                130
                
                
                5,097
                
                
                5,814Net
                    cash
                    provided from operating activities
                
                
                162,040
                
                
                115,095
                
                
                115,641**CASH
                    FLOWS FROM FINANCING ACTIVITIES:**New
                    Financing
                    -Long-term
                    debt
                
                
                99
                
                
                -
                
                
                -Short-term
                    borrowings, net
                
                
                4,815
                
                
                518
                
                
                11,334Equity
                    contributions from parent
                
                
                -
                
                
                65,000
                
                
                -Redemptions
                    and Repayments -Preferred
                    stock
                
                
                (37,750
                )
                
                (750
                )
                
                (750
                )Long-term
                    debt
                
                
                (10,370
                )
                
                (63,903
                )
                
                (41,155
                )Dividend
                    Payments-Common
                    stock
                
                
                (8,000
                )
                
                (23,000
                )
                
                (42,000
                )Preferred
                    stock
                
                
                (1,689
                )
                
                (2,560
                )
                
                (3,188
                )Net
                    cash used
                    for financing activities
                
                
                (52,895
                )
                
                (24,695
                )
                
                (75,759
                )**CASH
                    FLOWS FROM INVESTING ACTIVITIES:**Property
                    additions
                
                
                (92,375
                )
                
                (93,320
                )
                
                (70,864
                )Contributions
                    to nuclear decommissioning trusts
                
                
                (1,594
                )
                
                (1,594
                )
                
                (1,594
                )Collection
                    of
                    principal on long-term notes receivable
                
                
                113,638
                
                
                6,452
                
                
                370Loan
                    repayments from (payments to) associated companies
                
                
                (50,287
                )
                
                (290
                )
                
                34,290Other
                
                
                (78,541
                )
                
                (1,650
                )
                
                (3,266
                )Net
                    cash used
                    for investing activities
                
                
                (109,159
                )
                
                (90,402
                )
                
                (41,064
                )Net
                    increase
                    (decrease) in cash and cash equivalents
                
                
                (14
                )
                
                (2
                )
                
                (1,182
                )Cash
                    and cash
                    equivalents at beginning of year
                
                
                38
                
                
                40
                
                
                1,222Cash
                    and cash
                    equivalents at end of year
                
                $
                24
                
                $
                38
                
                $
                40**SUPPLEMENTAL
                    CASH FLOW INFORMATION:**Cash
                    Paid
                    During the Year-Interest
                    (net
                    of amounts capitalized)
                
                $
                5,242
                
                $
                6,885
                
                $
                12,449Income
                    taxes
                
                $
                46,289
                
                $
                68,869
                
                $
                33,502The
                    accompanying Notes to Consolidated Financial Statements are an
                    integral
                    part of these statements.
   19
  **PENNSYLVANIA
                      POWER COMPANY****CONSOLIDATED
                      STATEMENTS OF TAXES****For
                      the Years Ended December 31,**
                  
                  
                  
                  **2005**
                  
                  **2004**
                  
                  **2003*****(In
                      thousands)*****GENERAL
                      TAXES:**State
                      gross
                      receipts*
                  
                  
                  
                  
                  $
                  20,425
                  
                  $
                  19,234
                  
                  $
                  18,028Real
                      and
                      personal property
                  
                  
                  
                  
                  
                  2,330
                  
                  
                  1,288
                  
                  
                  2,262State
                      capital
                      stock
                  
                  
                  
                  
                  
                  2,049
                  
                  
                  2,014
                  
                  
                  952Other
                  
                  
                  
                  
                  
                  776
                  
                  
                  1,071
                  
                  
                  1,216Total
                      general
                      taxes
                  
                  
                  
                  
                  $
                  25,580
                  
                  $
                  23,607
                  
                  $
                  22,458**PROVISION
                      FOR INCOME TAXES:**Currently
                      payable-Federal
                  
                  
                  
                  
                  $
                  43,268
                  
                  $
                  33,273
                  
                  $
                  37,351State
                  
                  
                  
                  
                  
                  24,065
                  
                  
                  11,468
                  
                  
                  11,36867,333
                  
                  
                  44,741
                  
                  
                  48,719Deferred,
                      net-Federal
                  
                  
                  
                  
                  
                  (1,034
                  )
                  
                  5,552
                  
                  
                  (2,424
                  )State
                  
                  
                  
                  
                  
                  (9,336
                  )
                  
                  1,693
                  
                  
                  (392
                  )(10,370
                  )
                  
                  7,245
                  
                  
                  (2,816
                  )Investment
                      tax
                      credit amortization
                  
                  
                  
                  
                  
                  (2,020
                  )
                  
                  (2,234
                  )
                  
                  (2,412
                  )Total
                      provision for income taxes
                  
                  
                  
                  
                  $
                  54,943
                  
                  $
                  49,752
                  
                  $
                  43,491**INCOME
                      STATEMENT CLASSIFICATION****OF
                      PROVISION FOR INCOME TAXES:**Operating
                      income
                  
                  
                  
                  
                  $
                  54,056
                  
                  $
                  48,824
                  
                  $
                  34,164Other
                      income
                  
                  
                  
                  
                  
                  887
                  
                  
                  928
                  
                  
                  1,795Cumulative
                      effect of accounting change
                  
                  
                  
                  
                  
                  -
                  
                  
                  -
                  
                  
                  7,532Total
                      provision for income taxes
                  
                  
                  
                  
                  $
                  54,943
                  
                  $
                  49,752
                  
                  $
                  43,491**RECONCILIATION
                      OF FEDERAL INCOME TAX****EXPENSE
                      AT STATUTORY RATE TO TOTAL****PROVISION
                      FOR INCOME TAXES:**Book
                      income
                      before provision for income taxes
                  
                  
                  
                  
                  $
                  120,808
                  
                  $
                  108,828
                  
                  $
                  91,942Federal
                      income
                      tax expense at statutory rate
                  
                  
                  
                  
                  $
                  42,283
                  
                  $
                  38,090
                  
                  $
                  32,180Increases
                      (reductions) in taxes resulting from-State
                      income
                      taxes, net of federal income tax benefit
                  
                  
                  
                  
                  
                  9,573
                  
                  
                  8,555
                  
                  
                  7,134Amortization
                      of investment tax credits
                  
                  
                  
                  
                  
                  (2,020
                  )
                  
                  (2,234
                  )
                  
                  (2,412
                  )Amortization
                      of tax regulatory assets
                  
                  
                  
                  
                  
                  1,661
                  
                  
                  1,658
                  
                  
                  1,650Competitive
                      transition charge
                  
                  
                  
                  
                  
                  3,322
                  
                  
                  3,650
                  
                  
                  3,966Other,
                      net
                  
                  
                  
                  
                  
                  124
                  
                  
                  33
                  
                  
                  973Total
                      provision for income taxes
                  
                  
                  
                  
                  $
                  54,943
                  
                  $
                  49,752
                  
                  $
                  43,491**ACCUMULATED
                      DEFERRED INCOME TAXES AS OF****DECEMBER
                      31:**Property
                      basis
                      differences
                  
                  
                  
                  
                  $
                  66,970
                  
                  $
                  87,584
                  
                  $
                  77,147Competitive
                      transition charge
                  
                  
                  
                  
                  
                  713
                  
                  
                  18,862
                  
                  
                  37,280Asset
                      retirement obligations
                  
                  
                  
                  
                  
                  -
                  
                  
                  7,422
                  
                  
                  7,469Customer
                      receivables for future income taxes
                  
                  
                  
                  
                  
                  84
                  
                  
                  1,471
                  
                  
                  2,860Unamortized
                      investment tax credits
                  
                  
                  
                  
                  
                  (812
                  )
                  
                  (1,335
                  )
                  
                  (1,457
                  )Deferred
                      gain
                      for asset sales- affiliated companies
                  
                  
                  
                  
                  
                  7,342
                  
                  
                  7,451
                  
                  
                  8,106Retirement
                      benefits
                  
                  
                  
                  
                  
                  4,874
                  
                  
                  (2,620)
                  
                  
                  (7,317
                  )Other
                      comprehensive income
                  
                  
                  
                  
                  
                  -
                  
                  
                  (9,707
                  )
                  
                  (8,335
                  )Other
                  
                  
                  
                  
                  
                  (12,595
                  )
                  
                  (15,710
                  )
                  
                  (17,882
                  )Net
                      deferred
                      income tax liability
                  
                  
                  
                  
                  $
                  66,576
                  
                  $
                  93,418
                  
                  $
                  97,871*Collected
                      from customers through regulated rates and included in revenue
                      in the
                      Consolidated Statements of Income.The
                      accompanying Notes to Consolidated Financial Statements are
                      an integral
                      part of these statements.


20


**NOTES
      TO
      CONSOLIDATED FINANCIAL STATEMENTS**





**1.**  **ORGANIZATION
      AND BASIS OF PRESENTATION:**





The
      consolidated
      financial statements include Penn (Company) and its wholly owned subsidiary,
      Penn Power Funding LLC. The Company is a wholly owned subsidiary of
      OE ,
      which is a wholly owned subsidiary of FirstEnergy. In the fourth quarter of
      2005, the Company completed the intra-system transfers of its fossil and nuclear
      generation assets to FGCO and NGC, respectively. See Note 11 - FirstEnergy
      Intra-System Generation Asset Transfers for further discussion. The Company
      follows GAAP and complies with the regulations, orders, policies and practices
      prescribed by the SEC, PPUC and FERC.  The preparation of financial
      statements in conformity with GAAP requires management to make periodic
      estimates and assumptions that affect the reported amounts of assets,
      liabilities, revenues and expenses and the disclosure of contingent assets
      and
      liabilities. Actual results could differ from these estimates.





The
      Company
      consolidates all majority-owned subsidiaries over which the Company exercises
      control and, when applicable, entities for which the Company has a controlling
      financial interest. Intercompany transactions and balances are eliminated in
      consolidation. Investments in nonconsolidated affiliates (20-50% owned
      companies, joint ventures and partnerships) over which the Company has the
      ability to exercise significant influence, but not control, are accounted for
      on
      the equity basis.





Unless
      otherwise
      indicated, defined terms used herein have the meanings set forth in the
      accompanying Glossary of Terms.





**2.**  **SUMMARY
      OF
      SIGNIFICANT ACCOUNTING POLICIES:**





**(A)**  **ACCOUNTING
      FOR THE EFFECTS OF REGULATION-**





The
      Company accounts
      for the effects of regulation through the application of SFAS 71 since its
      rates:





·
            are
                established by a third-party regulator with the authority to set
                rates
                that bind customers;





·
            are
                cost-based; and





·
            can
                be charged
                to and collected from customers.





An
      enterprise
      meeting all of these criteria capitalizes costs that would otherwise be charged
      to expense if the rate actions of its regulator make it probable that those
      costs will be recovered in future revenue. SFAS 71 is applied only to the
      parts of the business that meet the above criteria. If a portion of the business
      applying SFAS 71 no longer meets those requirements, previously recorded
      regulatory assets are removed from the balance sheet in accordance with the
      guidance in SFAS 101.





*Regulatory
      Assets and Liabilities-*





The
      Company
      recognizes, as regulatory assets, costs which the FERC and PPUC have authorized
      for recovery from customers in future periods or for which authorization is
      probable. Without the probability of such authorization, costs currently
      recorded as regulatory assets would have been charged to income as incurred.
      All
      regulatory assets are expected to be recovered from customers under the
      Company’s rate restructuring plan. Based on the rate restructuring plan, the
      Company continues to bill and collect cost-based rates relating to the Company’s
      nongeneration operations and continues the application of SFAS 71 to these
      operations.





Net
      regulatory
      assets (liabilities) on the Consolidated Balance Sheets are comprised of the
      following:





**2005**
            
            **2004*****(In
                millions)***Competitive
                transition costs
            
            $
            3
            
            $
            46Customer
                receivables for future income taxes
            
            
            -
            
            
            4Loss
                on
                reacquired debt
            
            
            6
            
            
            7Nuclear
                decommissioning costs
            
            
            (62
            )
            
            (69
            )Asset
                removal
                costs
            
            
            (6
            )
            
            (7
            )Net
                regulatory
                liabilities
            
            $
            (59
            )
            $
            (19
            )





21


Pursuant
      to
      FirstEnergy's intra-system generation asset transfers (see Note 11), the Company
      transferred the ARO associated with its prior ownership interests in Beaver
      Valley and Perry to NGC, along with the nuclear decommissioning trust funds
      that
      are legally restricted for purposes of settling the ARO. Customer obligations
      regarding nuclear decommissioning costs remain as specified in the PPUC’s Order
      approving the Company’s Restructuring Plan. As of December 31, 2005, the Company
      continues to recognize a regulatory liability for nuclear decommissioning costs,
      as any excess or deficiency of trust funds to ultimately decommission the
      nuclear sites owned by the Company at the time of restructuring may be refunded
      to or recovered from customers.





Accretion
      on the ARO
      and depreciation on the associated asset retirement costs will reduce the
      intercompany receivable from NGC that was recognized as part of the nuclear
      generation asset transfer, with a corresponding reduction in the Company's
      regulatory liability for nuclear decommissioning costs. Unrealized gains and
      losses and earnings on the nuclear decommissioning trust funds held by NGC
      will
      also adjust the Company's intercompany receivable and regulatory liability
      balances.





**(B)**  **CASH
      AND
      SHORT-TERM FINANCIAL INSTRUMENTS-**





All
      temporary cash
      investments purchased with an initial maturity of three months or less are
      reported as cash equivalents on the Consolidated Balance Sheets at cost, which
      approximates their fair market value.





**(C)**  **REVENUES
      AND
      RECEIVABLES-**





The
      Company's
      principal business is providing electric service to customers in western
      Pennsylvania. The Company's retail customers are metered on a cycle basis.
      Electric revenues are recorded based on energy delivered through the end of
      the
      calendar month. An estimate of unbilled revenues is calculated to recognize
      electric service provided between the last meter reading and the end of the
      month. This estimate includes many factors including estimated weather impacts,
      customer shopping activity, historical line loss factors and prices in effect
      for each class of customer. In each accounting period, the Company accrues
      the
      estimated unbilled amount receivable as revenue and reverses the related prior
      period estimate.





Receivables
      from
      customers include sales to residential, commercial and industrial customers
      located in the Company’s service area and sales to wholesale customers. There
      was no material concentration of receivables as of December 31, 2005 with
      respect to any particular segment of the Company’s customers. Total customer
      receivables were $45 million (billed - $28 million and unbilled -
      $17 million) and $44 million (billed - $28 million and unbilled -
      $16 million) as of December 31, 2005 and 2004,
      respectively.





**(D)**  **UTILITY
      PLANT AND DEPRECIATION-**





Utility
      plant
      reflects original cost of construction, including payroll and related costs
      such
      as taxes, employee benefits, administrative and general costs, and interest
      costs incurred to place the assets in service. The costs of normal maintenance,
      repairs and minor replacements are expensed as incurred. The Company's
      accounting policy for planned major maintenance projects is to recognize
      liabilities as they are incurred.





The
      Company provides
      for depreciation on a straight-line basis at various rates over the estimated
      lives of property included in plant in service. The annual composite rate for
      electric plant was approximately 2.4% in 2005 and 2.2% in 2004 and
      2003.





**(E)**  **ASSET
      IMPAIRMENTS-**





*Long-Lived
      Assets-*





The
      Company
      evaluates the carrying value of its long-lived assets when events or
      circumstances indicate that the carrying amount may not be recoverable. In
      accordance with SFAS 144, the carrying amount of a long-lived asset is not
      recoverable if it exceeds the sum of the undiscounted cash flows expected to
      result from the use and eventual disposition of the asset. If an impairment
      exists, a loss is recognized for the amount by which the carrying value of
      the
      long-lived asset exceeds its estimated fair value. Fair value is estimated
      by
      using available market valuations or the long-lived asset's expected future
      net
      discounted cash flows. The calculation of expected cash flows is based on
      estimates and assumptions about future events.





**(F)**  **COMPREHENSIVE
      INCOME-**





Comprehensive
      income
      includes net income as reported on the Consolidated Statements of Income and
      all
      other changes in common stockholder's equity except those resulting from
      transactions with OE and preferred stockholders. As of December 31, 2005,
      the Company does not have an accumulated other comprehensive balance. As of
      December 31, 2004, accumulated other comprehensive loss consisted of a
      minimum liability for unfunded retirement benefits of
      $14 million.


22


**(G)**  **CUMULATIVE
      EFFECT OF ACCOUNTING CHANGE-**





As
      a result of
      adopting SFAS 143 in January 2003, asset retirement costs were recorded in
      the amount of $78 million as part of the carrying amount of the related
      long-lived asset, offset by accumulated depreciation of $9 million. The ARO
      liability on the date of adoption was $121 million, including accumulated
      accretion for the period from the date the liability was incurred to the date
      of
      adoption. The Company expects substantially all of its nuclear decommissioning
      costs to be recoverable in rates over time. Therefore, it recognized a
      regulatory liability of $69 million upon adoption of SFAS 143 for the
      transition amounts subject to refund through rates related to the ARO for
      nuclear decommissioning. The remaining cumulative effect adjustment for
      unrecognized depreciation and accretion, offset by the reduction in the existing
      decommissioning liabilities and the reversal of accumulated estimated removal
      costs for non-regulated generation assets, was $18 million increase to
      income ($11 million, net of tax) in the year ended December 31, 2003.





**(H)**  **INCOME
      TAXES-**





Details
      of the total
      provision for income taxes are shown on the Consolidated Statements of Taxes.
      The Company records income taxes in accordance with the liability method of
      accounting. Deferred income taxes reflect the net tax effect of temporary
      differences between the carrying amounts of assets and liabilities for financial
      reporting purposes and the amounts used for tax purposes. Investment tax
      credits, which were deferred when utilized, are being amortized over the
      recovery period of the related property. Deferred income tax liabilities related
      to tax and accounting basis differences and tax credit carryforward items are
      recognized at the statutory income tax rates in effect when the liabilities
      are
      expected to be paid. Deferred tax assets are recognized based on income tax
      rates expected to be in effect when they are settled. The Company is included
      in
      FirstEnergy's consolidated federal income tax return. The consolidated tax
      liability is allocated on a “stand-alone” company basis, with the Company
      recognizing any tax losses or credits it contributed to the consolidated
      return.





**(I)**  **TRANSACTIONS
      WITH AFFILIATED COMPANIES-**





Operating
      revenues,
      operating expenses and other income include transactions with affiliated
      companies, primarily ATSI, FES, NGC and FESC. FES operates the generation
      businesses of the Company, OE, CEI and TE. As a result, the Company had entered
      into power supply agreements (PSA) whereby FES purchased all of the Company's
      nuclear generation and the generation from leased fossil generation facilities.
      In the fourth quarter of 2005, the Company, OE, CEI and TE completed the
      intra-system transfers of their generation assets to FGCO and NGC (see
      Note 11). This resulted in the elimination of the fossil generating units
      rent revenues and the nuclear generation PSA revenues. The Company is now
      receiving interest income from FGCO and NGC on the associated companies notes
      received in exchange for the transferred net assets. The Company continues
      to
      purchase its power from FES to meet its PLR obligations. In the fourth
      quarter of 2003, ATSI transferred operational control of its transmission
      facilities to MISO and previously affiliated transmission service expenses
      are
      now provided under the MISO Open Access Transmission Tariff. The primary
      affiliated companies transactions are as follows:





**2005**
            
            **2004**
            
            **2003*****(In
                millions)*****Operating
                Revenues:**PSA
                revenues
                from FES
            
            $
            153
            
            $
            177
            
            $
            162Generating
                units rent from FES
            
            
            17
            
            
            20
            
            
            20Ground
                lease
                with ATSI
            
            
            1
            
            
            1
            
            
            1**Services
                Received:**Purchased
                power under PSA
            
            
            176
            
            
            181
            
            
            166Transmission
                facilities rentals
            
            
            -
            
            
            -
            
            
            10FESC
                support
                services
            
            
            14
            
            
            15
            
            
            13**Other
                Income:**Interest
                income from ATSI
            
            
            3
            
            
            3
            
            
            3Interest
                income from FES
            
            
            1
            
            
            -
            
            
            1





FirstEnergy
      does not
      bill directly or allocate any of its costs to any subsidiary company. Costs
      are
      allocated to the Company from FESC, a subsidiary of FirstEnergy. The majority
      of
      costs are directly billed or assigned at no more than cost. The remaining costs
      are for services that are provided on behalf of more than one company, or costs
      that cannot be precisely identified and are allocated using formulas developed
      by FESC. The current allocation or assignment formulas used and their bases
      include multiple factor formulas; each company’s proportionate amount of
      FirstEnergy’s aggregate direct payroll, number of employees, asset balances,
      revenues, number of customers, other factors and specific departmental charge
      ratios. Management believes that these allocation methods are reasonable.
      Intercompany transactions with OE, FirstEnergy and its other subsidiaries are
      generally settled under commercial terms within thirty days.


23


**3.**  **PENSION
      AND
      OTHER POSTRETIREMENT BENEFIT PLANS:**





FirstEnergy
      provides
      noncontributory defined benefit pension plans that cover substantially all
      of
      its employees. The trusteed plans provide defined benefits based on years of
      service and compensation levels. The Company's funding policy is based on
      actuarial computations using the projected unit credit method. In the fourth
      quarter of 2005, FirstEnergy made a $500 million voluntary contribution to
      its pension plan (Company's share was $19 million). Projections indicated
      that absent this funding, cash contributions would have been required at some
      point prior to 2010. Pre-funding the pension plan is expected to eliminate
      this
      future funding requirement under current pension funding rules and should also
      minimize FirstEnergy's exposure to any funding requirements resulting from
      proposed pension reform.





FirstEnergy
      provides
      a minimum amount of noncontributory life insurance to retired employees in
      addition to optional contributory insurance. Health care benefits, which include
      certain employee contributions, deductibles and copayments, are also available
      upon retirement to employees hired prior to January 1, 2005, their
      dependents and, under certain circumstances, their survivors. The Company
      recognizes the expected cost of providing other postretirement benefits to
      employees and their beneficiaries and covered dependents from the time employees
      are hired until they become eligible to receive those benefits. In addition,
      FirstEnergy has obligations to former or inactive employees after employment,
      but before retirement for disability related benefits.




Pension
      and OPEB
      costs are affected by employee demographics (including age, compensation levels,
      and employment periods), the level of contributions made to the plans, and
      earnings on plan assets. Such factors may be further affected by business
      combinations, which impact employee demographics, plan experience and other
      factors. Pension and OPEB costs may also be affected by changes in key
      assumptions, including anticipated rates of return on plan assets, the discount
      rates and health care trend rates used in determining the projected benefit
      obligations and pension and OPEB costs. FirstEnergy uses a December 31
      measurement date for most of its plans.





Unless
      otherwise
      indicated, the following tables provide information applicable to FirstEnergy’s
      pension and OPEB plans.


24


**Obligations
                  and Funded Status**
              
              **Pension
                  Benefits**
              
              **Other
                  Benefits****As
                  of
                  December 31**
              
              **2005**
              
              **2004**
              
              
              **2005**
              
              **2004*****(In
                  millions)*****Change
                  in benefit obligation**Benefit
                  obligation as of January 1
              
              $
              4,364
              
              $
              4,162
              
              $
              1,930
              
              $
              2,368Service
                  cost
              
              
              77
              
              
              77
              
              
              40
              
              
              36Interest
                  cost
              
              
              254
              
              
              252
              
              
              111
              
              
              112Plan
                  participants’ contributions
              
              
              -
              
              
              -
              
              
              18
              
              
              14Plan
                  amendments
              
              
              15
              
              
              -
              
              
              (312
              )
              
              (281
              )Actuarial
                  (gain) loss
              
              
              310
              
              
              134
              
              
              197
              
              
              (211
              )Benefits
                  paid
              
              
              (270
              )
              
              (261
              )
              
              (100
              )
              
              (108
              )Benefit
                  obligation as of December 31
              
              $
              4,750
              
              $
              4,364
              
              $
              1,884
              
              $
              1,930**Change
                  in fair value of plan assets**Fair
                  value of
                  plan assets as of January 1
              
              $
              3,969
              
              $
              3,315
              
              $
              564
              
              $
              537Actual
                  return
                  on plan assets
              
              
              325
              
              
              415
              
              
              33
              
              
              57Company
                  contribution
              
              
              500
              
              
              500
              
              
              58
              
              
              64Plan
                  participants’ contribution
              
              
              -
              
              
              -
              
              
              18
              
              
              14Benefits
                  paid
              
              
              (270
              )
              
              (261
              )
              
              (100
              )
              
              (108
              )Fair
                  value of
                  plan assets as of December 31
              
              $
              4,524
              
              $
              3,969
              
              $
              573
              
              $
              564**Funded
                  status**
              
              $
              (226
              )
              $
              (395
              )
              $
              (1,311
              )
              $
              (1,366
              )Unrecognized
                  net actuarial loss
              
              
              1,179
              
              
              885
              
              
              899
              
              
              730Unrecognized
                  prior service cost (benefit)
              
              
              70
              
              
              63
              
              
              (645
              )
              
              (378
              )Net
                  asset
                  (liability) recognized
              
              $
              1,023
              
              $
              553
              
              $
              (1,057
              )
              $
              (1,014
              )**Amounts
                  Recognized in the**
                **Consolidated
                  Balance Sheets**
                **As
                  of
                  December 31**Prepaid
                  benefit cost
              
              $
              1,023
              
              $
              
              
              $
              -
              
              $Accrued
                  benefit cost
              
              
              -
              
              
              (14
              )
              
              (1,057
              )
              
              (1,014
              )Intangible
                  assets
              
              
              -
              
              
              63
              
              
              -
              
              
              -Accumulated
                  other comprehensive loss
              
              
              -
              
              
              504
              
              
              -
              
              
              -Net
                  amount
                  recognized
              
              $
              1,023
              
              $
              553
              
              $
              (1,057
              )
              $
              (1,014
              )Company's
                  share of net amount recognized
              
              $
              42
              
              $
              23
              
              $
              (46
              )
              $
              (43
              )Decrease
                  in
                  minimum liabilityIncluded
                  in
                  other comprehensive income(net
                  of
                  tax)
              
              $
              (295
              )
              $
              (4
              )
              $
              -
              
              $
              -**Assumptions
                  Used to Determine**
                **Benefit
                  Obligations As of December 31**Discount
                  rate
              
              
              5.75
              %
              
              6.00
              %
              
              5.75
              %
              
              6.00
              %Rate
                  of
                  compensation increase
              
              
              3.50
              %
              
              3.50
              %
 
 **Allocation
                  of Plan Assets**
                **As
                  of
                  December 31**Asset
                  CategoryEquity
                  securities
              
              
              63
              %
              
              68
              %
              
              71
              %
              
              74
              %Debt
                  securities
              
              
              33
              
              
              29
              
              
              27
              
              
              25Real
                  estate
              
              
              2
              
              
              2
              
              
              -
              
              
              -Cash
              
              
              2
              
              
              1
              
              
              2
              
              
              1Total
              
              
              100
              %
              
              100
              %
              
              100
              %
              
              100
              %







**Information
                for Pension Plans With an**
              **Accumulated
                Benefit Obligation in****Excess
                of Plan Assets**
            
            **2005**
            
            **2004*****(In
                millions)***Projected
                benefit obligation
            
            $
            4,750
            
            $
            4,364Accumulated
                benefit obligation
            
            
            4,327
            
            
            3,983Fair
                value of
                plan assets
            
            
            4,524
            
            
            3,969





25





**Pension
                Benefits**
            
            **Other
                Benefits****Components
                of Net Periodic Benefit Costs**
            
            **2005**
            
            **2004**
            
            **2003**
            
            **2005**
            
            **2004**
            
            **2003*****(In
                millions)***Service
                cost
            
            $
            77
            
            $
            77
            
            $
            66
            
            $
            40
            
            $
            36
            
            $
            43Interest
                cost
            
            
            254
            
            
            252
            
            
            253
            
            
            111
            
            
            112
            
            
            137Expected
                return on plan assets
            
            
            (345
            )
            
            (286
            )
            
            (248
            )
            
            (45
            )
            
            (44
            )
            
            (43
            )Amortization
                of prior service cost
            
            
            8
            
            
            9
            
            
            9
            
            
            (45
            )
            
            (40
            )
            
            (9
            )Amortization
                of transition obligation
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            9Recognized
                net
                actuarial loss
            
            
            36
            
            
            39
            
            
            62
            
            
            40
            
            
            39
            
            
            40Net
                periodic
                cost
            
            $
            30
            
            $
            91
            
            $
            142
            
            $
            101
            
            $
            103
            
            $
            177Company's
                share of net periodic cost (income)
            
            $
            (1
            )
            $
            -
            
            $
            4
            
            $
            5
            
            $
            5
            
            $
            7





**Weighted-Average
                Assumptions Used****to
                Determine Net Periodic Benefit Cost**
            
            **Pension
                Benefits**
            
            **Other
                Benefits****for
                Years Ended December 31**
            
            **2005**
            
            **2004**
            
            **2003**
            
            **2005**
            
            **2004**
            
            **2003**Discount
                rate
            
            
            6.00
            %
            
            6.25
            %
            
            6.75
            %
            
            6.00
            %
            
            6.25
            %
            
            6.75
            %Expected
                long-term return on plan assets
            
            
            9.00
            %
            
            9.00
            %
            
            9.00
            %
            
            9.00
            %
            
            9.00
            %
            
            9.00
            %Rate
                of
                compensation increase
            
            
            3.50
            %
            
            3.50
            %
            
            3.50
            %





In
      selecting an
      assumed discount rate, FirstEnergy considers currently available rates of return
      on high-quality fixed income investments expected to be available during the
      period to maturity of the pension and other postretirement benefit obligations.
      The assumed rates of return on pension plan assets consider historical market
      returns and economic forecasts for the types of investments held by the
      Company's pension trusts. The long-term rate of return is developed considering
      the portfolio’s asset allocation strategy.





FirstEnergy
      employs
      a total return investment approach whereby a mix of equities and fixed income
      investments are used to maximize the long-term return on plan assets for a
      prudent level of risk. Risk tolerance is established through careful
      consideration of plan liabilities, plan funded status, and corporate financial
      condition. The investment portfolio contains a diversified blend of equity
      and
      fixed-income investments. Furthermore, equity investments are diversified across
      U.S. and non-U.S. stocks, as well as growth, value, and small and large
      capitalization funds. Other assets such as real estate are used to enhance
      long-term returns while improving portfolio diversification. Derivatives may
      be
      used to gain market exposure in an efficient and timely manner; however,
      derivatives are not used to leverage the portfolio beyond the market value
      of
      the underlying investments. Investment risk is measured and monitored on a
      continuing basis through periodic investment portfolio reviews, annual liability
      measurements, and periodic asset/liability studies.





**Assumed
                Health Care Cost Trend Rates****As
                of
                December 31**
            
            **2005**
            
            **2004**Health
                care
                cost trend rate assumed for nextyear
                (pre/post-Medicare)
            
            
            9-11
            %
            
            9-11
            %Rate
                to which
                the cost trend rate is assumed todecline
                (the
                ultimate trend rate)
            
            
            5
            %
            
            5
            %Year
                that the
                rate reaches the ultimate trendrate
                (pre/post-Medicare)
            
            
            2010-2012
            
            
            2009-2011





Assumed
      health care
      cost trend rates have a significant effect on the amounts reported for the
      health care plans. A one-percentage-point change in assumed health care cost
      trend rates would have the following effects:





**1-Percentage-**
            
            **1-Percentage-****Point
                Increase**
            
            **Point
                Decrease*****(In
                millions)***Effect
                on
                total of service and interest cost
            
            $
            23
            
            $
            (19
            )Effect
                on
                postretirement benefit obligation
            
            $
            239
            
            $
            (209
            )





As
      a result of its
      voluntary contribution and the increased market value of pension plan assets,
      the Company recognized
      a prepaid
      benefit cost of $42 million as of December 31, 2005. As prescribed by
      SFAS 87, the Company eliminated its additional minimum liability of
      $29 million and its intangible asset of $6 million. In addition, the
      entire AOCL balance was credited by $14 million (net of $9 million of
      deferred taxes) as the fair value of trust assets exceeded the accumulated
      benefit obligation as of December 31, 2005.





Taking
      into account
      estimated employee future service, FirstEnergy expects to make the following
      benefit payments from plan assets:


26





**Pension
                Benefits**
            
            **Other
                Benefits*****(In
                millions)***2006
            $
            228
            
            $
            1062007
            
            228
            
            
            1092008
            
            236
            
            
            1122009
            
            247
            
            
            1152010
            
            264
            
            
            119Years
                2011 -
                2015
            
            1,531
            
            
            642





**4.**  **FAIR
      VALUE
      OF FINANCIAL INSTRUMENTS:**





*Long-term
      Debt
      and Other Long-term Obligations-*





All
      borrowings with
      initial maturities of less than one year are defined as financial instruments
      under GAAP and are reported on the Consolidated Balance Sheets at cost, which
      approximates their fair market value. The following table provides the
      approximate fair value and related carrying amounts of long-term debt and other
      long-term obligations as of December 31:





**2005**
            
            **2004****Carrying**
            
            **Fair**
            
            **Carrying**
            
            **Fair****Value**
            
            **Value**
            
            **Value**
            
            **Value*****(In
                millions)***Long-term
                debt
            
            $
            200
            
            $
            204
            
            $
            148
            
            $
            160Preferred
                stock subject to mandatory redemption
            
            
            -
            
            
            -
            
            
            13
            
            
            12$
            200
            
            $
            204
            
            $
            161
            
            $
            172





The
      fair values of
      long-term debt and other long-term obligations reflect the present value of
      the
      cash outflows relating to those securities based on the current call price,
      the
      yield to maturity or the yield to call, as deemed appropriate at the end of
      each
      respective year. The yields assumed were based on securities with similar
      characteristics offered by corporations with credit ratings similar to the
      Company’s ratings.





*Investments-*





The
      carrying amounts
      of cash and cash equivalents approximate fair value due to the short-term nature
      of these investments. The following table provides the approximate fair value
      and related carrying amounts of investments other than cash and cash equivalents
      as of December 31:





**2005**
            
            **2004****Carrying**
            
            **Fair**
            
            **Carrying**
            
            **Fair****Value**
            
            **Value**
            
            **Value**
            
            **Value*****(In
                millions)***Debt
                securities:(1)-Government
                obligations
            
            $
            -
            
            $
            -
            
            $
            41
            
            $
            41-Corporate
                debt securities
            
            
            284
            
            
            269
            
            
            77
            
            
            83-Mortgage-backed
                securities
            
            
            -
            
            
            -
            
            
            1
            
            
            1284
            
            
            269
            
            
            119
            
            
            125Equity
                securities(1)
            
            
            -
            
            
            -
            
            
            57
            
            
            57$
            284
            
            $
            269
            
            $
            176
            
            $
            182





(1) Includes nuclear
      decommissioning trust investments as of December 31, 2004.





The
      fair value of
      investments other than cash and cash equivalents represent cost (which
      approximates fair value) or the present value of the cash inflows based on
      the
      yield to maturity. The yields assumed were based on financial instruments with
      similar characteristics and terms.





Investments
      other
      than cash and cash equivalents include held-to-maturity securities and
      available-for-sale securities. Prior to their transfer to NGC (see Note 11),
      the
      Company’s decommissioning trust investments were classified as
      available-for-sale. The Company has no securities held for trading
      purposes.





Proceeds
      from the
      sale of decommissioning trust investments, gross realized gains and losses
      on
      those sales, and interest and dividend income for the three years ended
      December 31, 2005 were as follows:





**2005**
            
            **2004**
            
            **2003*****(In
                millions)***Proceeds
                from
                sales
            $
            75
            
            $
            41
            
            $
            47Gross
                realized
                gains
            
            11
            
            
            1
            
            
            2Gross
                realized
                losses
            
            1
            
            
            1
            
            
            1Interest
                and
                dividend income
            
            5
            
            
            5
            
            
            5





27


The
      investment
      policy for the nuclear decommissioning trust funds restricts or limits the
      ability to hold certain types of assets including private or direct placements,
      warrants, securities of FirstEnergy, investments in companies owning nuclear
      power plants, financial derivatives, preferred stocks, securities convertible
      into common stock and securities of the trust fund's custodian or managers
      and
      their parents or subsidiaries.





**5.**
            **LEASES:**





The
      Company leases
      office space and other property and equipment under cancelable and noncancelable
      leases. Rentals for operating leases are charged to operating expenses on the
      Statements of Income. Such costs for the three years ended December 31,
      2005, are summarized as follows:





**2005**
            
            **2004**
            
            **2003*****(In
                millions)***Operating
                leasesInterest
                element
            
            $
            0.6
            
            $
            0.4
            
            $
            0.3Other
            
            
            1.4
            
            
            1.3
            
            
            0.8Total
                rentals
            
            $
            2.0
            
            $
            1.7
            
            $
            1.1





The
      future minimum
      lease payments as of December 31, 2005 are:




**Operating**
                **Leases*****(In
                  millions)***2006
              
              $
              1.02007
              
              
              0.92008
              
              
              0.92009
              
              
              0.82010
              
              
              0.7Years
                  thereafter
              
              
              2.8Total
                  minimum
                  lease payments
              
              
              7.1


**6.**
            **REGULATORY
                MATTERS:**





In
      late 2003 and
      early 2004, a series of letters, reports and recommendations were issued from
      various entities, including governmental, industry and ad hoc reliability
      entities (PUCO, FERC, NERC and the U.S. - Canada Power System Outage Task Force)
      regarding enhancements to regional reliability. In 2004, FirstEnergy completed
      implementation of all actions and initiatives related to enhancing area
      reliability, improving voltage and reactive management, operator readiness
      and
      training and emergency response preparedness recommended for completion in
      2004.
      On July 14, 2004, NERC independently verified that FirstEnergy had
      implemented the various initiatives to be completed by June 30 or summer
      2004, with minor exceptions noted by FirstEnergy, which exceptions are now
      essentially complete. FirstEnergy is proceeding with the implementation of
      the
      recommendations that were to be completed subsequent to 2004 and will continue
      to periodically assess the FERC-ordered Reliability Study recommendations for
      forecasted 2009 system conditions, recognizing revised load forecasts and other
      changing system conditions which may impact the recommendations. Thus far,
      implementation of the recommendations has not required, nor is expected to
      require, substantial investment in new, or material upgrades to existing
      equipment. The FERC or other applicable government agencies and reliability
      coordinators may, however, take a different view as to recommended enhancements
      or may recommend additional enhancements in the future as the result of adoption
      of mandatory reliability standards pursuant to the EPACT that could require
      additional, material expenditures. Finally, the PUCO is continuing to review
      the
      FirstEnergy filing that addressed upgrades to control room computer hardware
      and
      software and enhancements to the training of control room operators before
      determining the next steps, if any, in the proceeding.





In
      May 2004, the
      PPUC issued an order approving revised reliability benchmarks and standards,
      including revised benchmarks and standards for the Company. The Company filed
      a
      Petition for Amendment of Benchmarks with the PPUC on May 26, 2004, due to
      their implementation of automated outage management systems following
      restructuring. On December 30, 2005 the ALJ recommended that the PPUC adopt
      the
      Joint Petition for Settlement among the parties involved in the Company's
      request to amend the distribution reliability benchmarks, thereby eliminating
      the need for full litigation. The ALJ’s recommendation, adopting the revised
      benchmarks and standards was approved by the PPUC on February 9,
      2006.





The
      EPACT provides
      for the creation of an ERO to establish and enforce reliability standards for
      the bulk power system, subject to FERC review. On February 3, 2006, the FERC
      adopted a rule establishing certification requirements for the ERO, as well
      as
      regional entities envisioned to assume monitoring responsibility for the new
      reliability standards.


28


The
      NERC has been
      preparing the implementation aspects of reorganizing its structure to meet
      the
      FERC’s certification requirements for the ERO. The NERC will make a filing with
      the FERC to obtain certification as the ERO and to obtain FERC approval of
      delegation agreements with regional entities. The new FERC rule referred to
      above, further provides for reorganizing regional reliability organizations
      (regional entities) that would replace the current regional councils and for
      rearranging the relationship with the ERO. The “regional entity” may be
      delegated authority by the ERO, subject to FERC approval, for enforcing
      reliability standards adopted by the ERO and approved by the FERC. NERC also
      intends to make a parallel filing with the FERC seeking approval of mandatory
      reliability standards. These
      reliability
      standards are expected to be based on the current NERC Version 0 reliability
      standards with some additional standards. The
      two filings are
      expected to be made in the second quarter of 2006.





The
      ECAR,
      Mid-Atlantic Area Council, and Mid-American Interconnected Network reliability
      councils have completed the consolidation of these regions into a single new
      regional reliability organization known as ReliabilityFirst Corporation.
      ReliabilityFirst began operations as a regional reliability council under NERC
      on January 1, 2006 and intends to file and obtain certification consistent
      with the final rule as a “regional entity” under the ERO during 2006. All of
      FirstEnergy’s facilities are located within the ReliabilityFirst
      region.





On
      a parallel path,
      the NERC is establishing working groups to develop reliability standards to
      be
      filed for approval with the FERC following the NERC’s certification as an ERO.
      These reliability standards are expected to build on the current NERC Version
      0
      reliability standards. It is expected that the proposed reliability standards
      will be filed with the FERC in early 2006.





FirstEnergy
      believes
      it is in compliance with all current NERC reliability standards. However, it
      is
      expected that the FERC will adopt stricter reliability standards than those
      contained in the current NERC Version 0 standards. The financial impact of
      complying with the new standards cannot be determined at this time. However,
      the
      EPACT required that all prudent costs incurred to comply with the new
      reliability standards be recovered in rates.





On
      November 1, 2005,
      FES filed two power sales agreements for approval with the FERC. One power
      sales
      agreement provided for FES to provide the PLR requirements of the Ohio Companies
      at a price equal to the retail generation rates approved by the PUCO for a
      period of three years beginning January 1, 2006. The Ohio Companies will
      be relieved of their obligation to obtain PLR power requirements from FES
      if the Ohio competitive bid process results in a lower price for retail
      customers. A similar power sales agreement between FES and Penn permits Penn
      to
      obtain its PLR power requirements from FES at a fixed price equal to the retail
      generation price during 2006. The Company has filed a plan with the PPUC to
      use
      an RFP process to obtain its power supply requirements after 2006.





On
      December 29,
      2005, the FERC issued an order setting the two power sales agreements for
      hearing. The order criticizes the Ohio competitive bid process, and requires
      FES
      to submit additional evidence in support of the reasonableness of the prices
      charged in the Ohio and Pennsylvania Contracts. A pre-hearing conference was
      held on January 18, 2006 to determine the hearing schedule in this case.
      FES expects an initial decision to be issued in this case in the fall of 2006.
      The outcome of this proceeding cannot be predicted. FES has sought rehearing
      of
      the December 29, 2005 order.





On
      October 11,
      2005, the Company filed a plan with the PPUC to secure electricity supply for
      its customers at set rates following the end of its transition period on
      December 31, 2006. The Company is recommending that the RFP process cover
      the period January 1, 2007 through May 31, 2008. Hearings were held on
      January 10, 2006 with Main Briefs filed on January 27, 2006 and Reply
      Briefs on February 3, 2006. On February 17, 2006, the ALJ issued a
      Recommended Decision to adopt the Company's RFP process with modifications.
      A
      PPUC vote is expected in April 2006. Under Pennsylvania's electric
      competition law, the Company is required to secure generation supply for
      customers who do not choose alternative suppliers for their
      electricity.





**7.**
            **CAPITALIZATION:**





**(A)**
            **RETAINED EARNINGS-**





Under
      the Company’s
      first mortgage indenture, the Company’s retained earnings unrestricted for
      payment of cash dividends on the Company’s common stock were $30 million as
      of December 31, 2005.





**(B)**
            **PREFERRED STOCK-**





All
      preferred stock
      may be redeemed by the Company in whole, or in part, with 30-60 days’
notice.


29


**(C)**
            **LONG-TERM DEBT AND OTHER LONG-TERM
                OBLIGATIONS-**





*Other
      Long-Term
      Debt-*





The
      Company has a
      first mortgage indenture under which it issues FMB secured by a direct first
      mortgage lien on substantially all of its property and franchises, other than
      specifically excepted property. The Company has various debt covenants under
      its
      financing arrangements. The most restrictive of the debt covenants relate to
      the
      nonpayment of interest and/or principal on debt which could trigger a default
      and the maintenance of minimum fixed charge ratios and debt to capitalization
      ratios. There also exists cross-default provisions among financing arrangements
      of FirstEnergy and the Company.




Sinking
      fund
      requirements for FMB and maturing long-term debt during the next five years
      are
      $70 million in 2006, $1 million in each year 2007 through 2009 and
      $64 million in 2010. Included in the 2006 amount are $15 million for
      variable interest rate long-term debt that have provisions by which individual
      debt holders are required to "put back" the respective debt to the issuer for
      redemption prior to its maturity date. This amount represents the next time
      the
      debt holders may exercise this provision.





The
      Company's
      obligations to repay certain pollution control revenue bonds are secured by
      several series of FMB. Certain pollution control revenue bonds are entitled
      to
      the benefit of noncancelable municipal bond insurance policies of
      $102 million to pay principal of, or interest on, the pollution control
      revenue bonds. To the extent that drawings are made under the policies, the
      Company is entitled to a credit against its obligation to repay the related
      bond. The Company pays an annual fee of 0.24% to 0.30% of the amounts of the
      policies to the insurers and is obligated to reimburse the insurers for any
      drawings thereunder.





**8.**
            **ASSET RETIREMENT OBLIGATION:**





In
      January 2003, the
      Company implemented SFAS 143, which provides accounting guidance for
      retirement obligations associated with tangible long-lived assets. This standard
      requires recognition of the fair value of a liability for an ARO in the period
      in which it is incurred. The associated asset retirement costs are capitalized
      as part of the carrying amount of the long-lived asset. Over time the
      capitalized costs are depreciated and the present value of the ARO increases,
      resulting in a period expense. Upon retirement, a gain or loss would be
      recognized if the cost to settle the retirement obligation differs from the
      carrying amount.





The
      Company
      initially identified applicable legal obligations as defined under the standard
      for nuclear power plant decommissioning of Beaver Valley and Perry nuclear
      generating facilities and reclamation of a sludge disposal pond related to
      the
      Bruce Mansfield Plant. The ARO liability as of the date of adoption was
      $121 million, including accumulated accretion for the period from the date
      the liability was incurred to the date of adoption. The Company’s share of the
      obligation to decommission these units was developed based on site specific
      studies performed by an independent engineer. The Company utilized an expected
      cash flow approach to measure the fair value of the nuclear decommissioning
      ARO.





Pursuant
      to the
      generation asset transfers on October 24, 2005 and December 16, 2005,
      FGCO and NGC now own the fossil and nuclear generation assets, respectively,
      which were previously owned by the Company.





The
      Company
      implemented FIN 47, "Accounting for Conditional Asset Retirement
      Obligations", an interpretation of SFAS 143 on December 31, 2005.
      FIN 47 provides accounting standards for conditional retirement obligations
      associated with tangible long-lived assets, requiring recognition of the fair
      value of a liability for an ARO in the period in which it is incurred if a
      reasonable estimate can be identified. FIN 47 states that an **** obligation
      exists
      even though there may be uncertainty about timing or method of settlement
      and **** further
      clarifies
      SFAS 143, stating that the uncertainty surrounding the timing and method of
      settlement when settlement is conditional on a future event occurring should
      be
      reflected in the measurement of the liability not in the recognition of the
      liability. Accounting for conditional ARO under FIN 47 is the same as
      described above for SFAS 143. The adoption of FIN 47 had an immaterial
      impact on the Company’s year ended December 31, 2005.


The
      following table
      describes the changes to the ARO balances during 2005 and 2004.





**2005**
            
            **2004****ARO
                Reconciliation**
            
            ***(In
                millions)***Balance
                at
                beginning of year
            
            $
            138
            
            $
            130Transfer
                to
                FGCO and NCG
            
            
            (155)
            
            
            -Accretion
            
            
            9
            
            
            8Revisions
                in
                estimated cash flows
            
            
            8
            
            
            -Balance
                at end
                of year
            
            $
            -
            
            $
            138






30





**9.**
            **SHORT-TERM
                BORROWINGS:**





Short-term
      borrowings outstanding as of December 31, 2005, consisted of
      $13 million of borrowings from affiliates. Penn Funding, a wholly owned
      subsidiary of Penn, is a limited liability company whose borrowings are secured
      by customer accounts receivable purchased from Penn. It can borrow up to
      $25 million under a receivables financing arrangement at rates based on
      bank commercial paper rates. The financing arrangements require payment of
      an
      annual facility fee of 0.15% on the entire finance limit. Penn's receivables
      financing agreements expire in June 2006. As a separate legal entity with
      separate creditors, it would have to satisfy its separate obligations to
      creditors before any of its remaining assets could be made available to the
      Company.





In
      June 2005,
      the Company, FirstEnergy, OE, CEI, TE, JCP&L, Met-Ed, Penelec, FES and ATSI,
      as Borrowers, entered into a syndicated $2 billion five-year revolving
      credit facility that expires in June 2010. Borrowings under the facility are
      available to each Borrower separately and mature on the earlier of 364 days
      from
      the date of borrowing or the commitment termination date, as the same may be
      extended. The Company's borrowing limit under the facility is $50 million.
      The average interest rate on short-term borrowings outstanding as of
      December 31, 2005 and 2004, was 4.0% and 2.0%, respectively.





**10.**  **COMMITMENTS
      AND CONTINGENCIES:**





**(A)**
            **ENVIRONMENTAL MATTERS-**





The
      Company accrues
      environmental liabilities only when they conclude that it is probable that
      they
      have an obligation for such costs and can reasonably estimate the amount of
      such
      costs. Unasserted claims are reflected in the Company’s determination of
      environmental liabilities and are accrued in the period that they are both
      probable and reasonably estimable.





On
      December 1,
      2005, FirstEnergy issued a comprehensive report to shareholders regarding air
      emissions regulations and an assessment of its future risks and mitigation
      efforts.





*W.
                H.
                Sammis Plant*





In
      1999 and 2000,
      the EPA issued NOV or Compliance Orders to nine utilities alleging violations
      of
      the Clean Air Act based on operation and maintenance of 44 power plants,
      including the W. H. Sammis Plant, which was owned at that time by OE and Penn.
      In addition, the DOJ filed eight civil complaints against various investor-owned
      utilities, including a complaint against OE and Penn in the U.S. District Court
      for the Southern District of Ohio. These cases are referred to as New Source
      Review cases. On March 18, 2005, OE and Penn announced that they had
      reached a settlement with the EPA, the DOJ and three states (Connecticut, New
      Jersey, and New York) that resolved all issues related to the W. H. Sammis
      Plant
      New Source Review litigation. This
      settlement
      agreement was approved by the Court on July 11, 2005, and requires
      reductions of NO x and SO 2 emissions at the
      W. H. Sammis Plant and other coal fired plants through the installation of
      pollution control devices and provides for stipulated penalties for failure
      to
      install and operate such pollution controls in accordance with that
      agreement. Consequently, if OE
      and Penn fail to install such pollution control devices, for any reason,
      including, but not limited to, the failure of any third-party contractor to
      timely meet its delivery obligations for such devices, OE and Penn could be
      exposed to penalties under the settlement agreement. Capital expenditures
      necessary to meet those requirements are currently estimated to be
      $1.5 billion (the primary portion of which is expected to be spent in the
      2008 to 2011 time period). On August 26, 2005, FGCO entered into an
      agreement with Bechtel Power Corporation (Bechtel), under which Bechtel will
      engineer, procure, and construct air quality control systems for the reduction
      of sulfur dioxide emissions. The settlement agreement also requires OE and
      Penn
      to spend up to $25 million toward environmentally beneficial projects,
      which include wind energy purchased power agreements over a 20-year term. OE
      and
      Penn agreed to pay a civil penalty of $8.5 million. Results in 2005
      included the penalties payable by OE and Penn of $7.8 million and
      $0.7 million, respectively. OE and Penn also recognized liabilities of
      $9.2 million and $0.8 million,  respectively,
      for
      probable future cash contributions toward environmentally beneficial
      projects.


**(B)**
            **OTHER LEGAL PROCEEDINGS-**





There
      are various
      lawsuits, claims (including claims for asbestos exposure) and proceedings
      related to FirstEnergy's normal business operations pending against FirstEnergy
      and its subsidiaries. The other potentially material items not otherwise
      discussed above are described below.





31


*Power
      Outages
      and Related Litigation-*





On
      August 14,
      2003, various states and parts of southern Canada experienced widespread power
      outages. The outages affected approximately 1.4 million customers in
      FirstEnergy's service area. The U.S. - Canada Power System Outage Task Force’s
      final report in April 2004 on the outages concluded, among other things, that
      the problems leading to the outages began in FirstEnergy’s Ohio service area. Specifically,
      the
      final report concluded, among other things, that the initiation of the
      August 14, 2003 power outages resulted from an alleged failure of both
      FirstEnergy and ECAR to assess and understand perceived inadequacies within
      the
      FirstEnergy system; inadequate situational awareness of the developing
      conditions; and a perceived failure to adequately manage tree growth in certain
      transmission rights of way. The Task Force also concluded that there was a
      failure of the interconnected grid's reliability organizations (MISO and PJM)
      to
      provide effective real-time diagnostic support. The final report is publicly
      available through the Department of Energy’s website (www.doe.gov). FirstEnergy
      believes that the final report does not provide a complete and comprehensive
      picture of the conditions that contributed to the August 14, 2003 power
      outages and that it does not adequately address the underlying causes of the
      outages. FirstEnergy remains convinced that the outages cannot be explained
      by
      events on any one utility's system. The final report contained 46
“recommendations to prevent or minimize the scope of future blackouts.”
Forty-five of those recommendations related to broad industry or policy matters
      while one, including subparts, related to activities the Task Force recommended
      be undertaken by FirstEnergy, MISO, PJM, ECAR, and other parties to correct
      the
      causes of the August 14, 2003 power outages. FirstEnergy implemented
      several initiatives, both prior to and since the August 14, 2003 power
      outages, which were independently verified by NERC as complete in 2004 and
      were
      consistent with these and other recommendations and collectively enhance the
      reliability of its electric system. FirstEnergy’s implementation of these
      recommendations in 2004 included completion of the Task Force recommendations
      that were directed toward FirstEnergy. FirstEnergy also is proceeding with
      the
      implementation of the recommendations regarding enhancements to regional
      reliability that were to be completed subsequent to 2004 and will continue
      to
      periodically assess the FERC-ordered Reliability Study recommendations for
      forecasted 2009 system conditions, recognizing revised load forecasts and other
      changing system conditions which may impact the recommendations. Thus far,
      implementation of the recommendations has not required, nor is expected to
      require, substantial investment in new or material upgrades to existing
      equipment, and therefore FirstEnergy has not accrued a liability as of December
      31, 2005 for any expenditures in excess of those actually incurred through
      that
      date. The FERC or other applicable government agencies and reliability
      coordinators may, however, take a different view as to recommended enhancements
      or may recommend additional enhancements in the future that could require
      additional, material expenditures. Finally, the PUCO is continuing to review
      FirstEnergy’s filing that addressed upgrades to control room computer hardware
      and software and enhancements to the training of control room operators, before
      determining the next steps, if any, in the proceeding.





On
      August 22,
      2005, a class action complaint was filed against the OE in Jefferson County,
      Ohio Common Pleas Court, seeking compensatory and punitive damages to be
      determined at trial based on claims of negligence and eight other tort counts
      alleging damages from W. H. Sammis Plant air emissions. The Sammis Plant
      had been owned by OE and the Company at that time. The two named plaintiffs
      are
      also seeking injunctive relief to eliminate harmful emissions and repair
      property damage and the institution of a medical monitoring program for class
      members.





FirstEnergy
      is
      vigorously defending these actions, but cannot predict the outcome of any of
      these proceedings or whether any further regulatory proceedings or legal actions
      may be initiated against the Companies. In particular, if FirstEnergy or its
      subsidiaries were ultimately determined to have legal liability in connection
      with these proceedings, it could have a material adverse effect on FirstEnergy's
      or its subsidiaries' financial condition, results of operations and cash
      flows.





*Nuclear
      Plant
      Matters-*





As
      of
      December 16, 2005 NGC acquired ownership of the nuclear generation assets
      transferred from the Company, OE, CEI and TE with the exception of leasehold
      interests of OE and TE in certain of the nuclear plants that are subject to
      sale
      and leaseback arrangements with non-affiliates. The transfer included the
      Company's prior owned interests in Beaver Valley Unit 1 (65.00%), Beaver
      Valley Unit 2 (13.74%) and Perry (5.24%).





On
      August 12,
      2004, the NRC notified FENOC that it would increase its regulatory oversight
      of
      the Perry Nuclear Power Plant as a result of problems with safety system
      equipment over the preceding two years and the licensee's failure to take prompt
      and effective corrective action. FENOC operates the Perry Nuclear Power Plant.


In
      an April 4,
      2005 public meeting discussing FENOC’s performance at Perry identified in its
      annual assessment, NRC stated that, overall the Perry Plant operated "in a
      manner that preserved public health and safety" even though it remained under
      heightened NRC oversight. The NRC indicated that additional inspections will
      continue and that the plant must improve performance to be removed from the
      Multiple/Repetitive Degraded Cornerstone Column of the Action Matrix. By an inspection
      report dated January 18, 2006, the NRC closed one of the White Findings (related
      to emergency preparedness) which led to the multiple degraded
      cornerstones.




32


On
        May 26,
        2005, the NRC held a public meeting to discuss its oversight of the Perry
        Plant.
        While the NRC stated that the plant continued to operate safely, the NRC
        also
        stated that the overall performance had not substantially improved since
        the
        heightened inspection was initiated. The NRC reiterated this conclusion in
        its
        mid-year assessment letter dated August 30, 2005. On September 28,
        2005, the NRC sent a CAL to FENOC describing commitments that FENOC had made
        to
        improve the performance of Perry and stated that the CAL would remain open
        until
        substantial improvement was demonstrated. The CAL was anticipated as part
        of the
        NRC's Reactor Oversight Process. If performance does not improve, the NRC
        has a
        range of options under the Reactor Oversight Process, from increased oversight
        to possible impact to the plant’s operating authority. Although unable to
        predict a potential impact, its ultimate disposition could have a material
        adverse effect on FirstEnergy's or its subsidiaries' financial condition,
        results of operations and cash flows.





If
      it were
      ultimately determined that FirstEnergy or its subsidiaries have legal liability
      or are otherwise made subject to liability based on the above matters, it could
      have a material adverse effect on FirstEnergy's or its subsidiaries' financial
      condition, results of operations and cash flows.





**11.**
            **FIRSTENERGY
                INTRA-SYSTEM GENERATION ASSET TRANSFERS**





On
      May 13,
      2005, the Company, and on May 18, 2005, the Ohio Companies entered into
      certain agreements implementing a series of intra-system generation asset
      transfers. The asset transfers resulted in the respective undivided ownership
      interests of the Company and the Ohio Companies in FirstEnergy’s nuclear and
      non-nuclear generation assets being owned by NGC, and FGCO, respectively. The
      generating plant interests transferred do not include leasehold interests of
      the
      Ohio Companies in certain of the plants that are currently subject to sale
      and
      leaseback arrangements with non-affiliates.





On
      October 24,
      2005, the Company completed the intra-system transfer of non-nuclear generation
      assets to FGCO. Prior to the transfer, FGCO, as lessee under a Master Facility
      Lease with the Company and the Ohio Companies, leased, operated and maintained
      the non-nuclear generation assets that it now owns. The asset transfers were
      consummated pursuant to FGCO's purchase option under the Master Facility
      Lease.




The
        difference
        (approximately $2.7 million) between the purchase price specified in the
        Master
        Facility Lease and the net book value at the date of transfer was credited
        to
        equity. FGCO also assumed certain assets and liabilities relating to the
        purchased units. As consideration, FGCO delivered to the Company a promissory
        note of approximately $124.5 million that is secured by a lien on the units
        purchased, bears interest at a rate per annum based on the weighted cost
        of
        Penn’s long-term debt (5.39%) and matures twenty years after the date of
        issuance. FGCO may pre-pay a portion of the promissory note through refunding
        from time to time of Penn’s outstanding pollution control debt. The timing of
        any refunding will be subject to market conditions and other
        factors.


On
      December 16,
      2005, the Company completed the intra-system transfer of its interests in the
      nuclear generation assets to NGC through a spin-off by way of dividend. FENOC
      will continue to operate and maintain the nuclear generation
      assets.




The
        purchase price
        of the generation assets was the net book value as of September 30, 2005.
        The
        difference (approximately $3.4 million) between the purchase price and the
        net
        book value at the date of transfer was credited to equity. Pursuant to the
        Penn
        Contribution Agreement, Penn previously acquired the common stock of NGC.
        Upon
        closing, Penn made a capital contribution to NGC of its undivided interests
        in
        certain nuclear generation assets, together with associated decommissioning
        trust funds and other related assets. In connection with the contribution,
        NGC
        assumed certain other liabilities associated with the transferred assets.
        In
        addition, Penn received a promissory note from NGC in the principal amount
        of
        approximately $240.4 million, representing the net book value of the contributed
        assets as of September 30, 2005, less other liabilities assumed. The note
        bears interest at a rate per annum based on Penn’s weighted average cost of
        long-term debt (5.39%), matures twenty years from the date of issuance, and
        is
        subject to prepayment at any time, in whole or in part, by NGC. Following
        the
        capital contribution, Penn distributed the common stock of NGC as a dividend
        (approximately $106.8 million) to its parent, OE, such that NGC became a
        wholly
        owned subsidiary of OE.


These
      transactions
      are pursuant to the Company's and the Ohio Companies’ restructuring plans that
      were approved by the PPUC and the PUCO, respectively, under applicable
      Pennsylvania and Ohio electric utility restructuring legislation. Consistent
      with the restructuring plans, generation assets that had been owned by the
      Company and the Ohio Companies were required to be separated from the regulated
      delivery business of those companies through transfer to a separate corporate
      entity. The transactions essentially complete the divestitures contemplated
      by
      the restructuring plans by transferring the ownership interests to NGC and
      FGCO
      without impacting the operation of the plants.





33


The
      transfers are
      expected to affect the Company's near-term future results with reductions in
      revenues and expenses. Revenues will be reduced due to the termination of the
      sale of its nuclear generation KWH and the lease of its non-nuclear generation
      assets arrangements with FES. The Company's expenses will be lower due to the
      nuclear fuel and operating costs assumed by NGC as well as depreciation and
      property tax expenses assumed by FGCO and NGC related to the transferred
      generating assets. In addition, the Company will receive interest income from
      associated company notes receivable from FGCO and NGC for the transfer of our
      generation net assets and eliminate the interest expense on certain pollution
      control notes to be transferred to FGCO and NGC. FES will continue to provide
      the Company's PLR requirements revised purchased power arrangements for a
      three-year period beginning January 1, 2006 (see Note 6 - Regulatory Matters).




The
        following table
        provides the value of assets transferred along with the related
        liabilities:
 
 **Assets
                  Transferred (In millions)**Property,
                  plant and equipment
              
              $
              451Other
                  property
                  and investments
              
              
              150Current
                  assets
              
              
              39Deferred
                  charges
              
              
              -$
              640**Liabilities
                  Related to Assets Transferred**Long-term
                  debt
              
              $
              -Current
                  liabilities
              
              
              -Noncurrent
                  liabilities
              
              
              174$
              174**Net
                  Assets Transferred**
              
              $
              466


**12.**  **NEW
      ACCOUNTING STANDARDS AND INTERPRETATIONS:**





*FSP
      FAS 115-1
      and FAS 124-1, "The Meaning of Other-Than-Temporary Impairment and its
      Application to Certain Investments"*





Issued
      in November
      2005, FSP 115-1 and FAS 124-1 addresses the determination as to when
      an investment is considered impaired, whether that impairment is other than
      temporary, and the measurement of an impairment loss. The FSP finalized and
      renamed EITF 03-1 and 03-1-a to FSP FAS 115-1. This FSP will (1) nullify
      certain requirements of Issue 03-1 and supersedes EITF topic No. D-44,
      "Recognition of Other Than Temporary Impairment upon the Planned Sale of a
      Security Whose Cost Exceeds Fair Value," (2) clarify that an investor should
      recognize an impairment loss no later than when the impairment is deemed other
      than temporary, even if a decision to sell has not been made, and (3) be
      effective for other-than-temporary impairment and analyses conducted in periods
      beginning after September 15, 2005. The FSP requires prospective
      application with an effective date for reporting periods beginning after
      December 15, 2005. The Company is currently evaluating this FSP Issue and
      any impact on its investments.





*EITF
                Issue
                04-13, "Accounting for Purchases and Sales of Inventory with the
                Same
                Counterparty"*





In
      September 2005,
      the EITF reached a final consensus on Issue 04-13 concluding that two or more
      legally separate exchange transactions with the same counterparty should be
      combined and considered as a single arrangement for purposes of applying
      APB 29, when the transactions were entered into "in contemplation" of one
      another. If two transactions are combined and considered a single arrangement,
      the EITF reached a consensus that an exchange of inventory should be accounted
      for at fair value. Although electric power is not capable of being held in
      inventory, there is no substantive conceptual distinction between exchanges
      involving power and other storable inventory. Therefore, the Company will adopt
      this EITF effective for new arrangements entered into, or modifications or
      renewals of existing arrangements, in interim or annual periods beginning after
      March 15, 2006.




34





*SFAS
                154 -
                “Accounting Changes and Error Corrections - a replacement of APB Opinion
                No. 20 and FASB Statement No.
                3”*





In
      May 2005, the
      FASB issued SFAS 154 to change the requirements for accounting and
      reporting a change in accounting principle. It applies to all voluntary changes
      in accounting principle and to changes required by an accounting pronouncement
      when that pronouncement does not include specific transition provisions. This
      Statement requires retrospective application to prior periods’ financial
      statements of changes in accounting principle, unless it is impracticable to
      determine either the period-specific effects or the cumulative effect of the
      change. In those instances, this Statement requires that the new accounting
      principle be applied to the balances of assets and liabilities as of the
      beginning of the earliest period for which retrospective application is
      practicable and that a corresponding adjustment be made to the opening balance
      of retained earnings (or other appropriate components of equity or net assets
      in
      the statement of financial position) for that period rather than being reported
      in the Consolidated Statements of Income. This Statement also requires that
      a
      change in depreciation, amortization, or depletion method for long-lived,
      nonfinancial assets be accounted for as a change in accounting estimate affected
      by a change in accounting principle. The provisions of this Statement are
      effective for accounting changes and corrections of errors made in fiscal years
      beginning after December 15, 2005. The Company adopted this Statement
      effective January 1, 2006.





*SFAS
                  153,
                  “Exchanges of Nonmonetary Assets - an amendment of APB Opinion No.
                  29”*
 
 In
        December 2004,
        the FASB issued SFAS 153 amending APB 29, which was based on the
        principle that nonmonetary assets should be measured based on the fair value
        of
        the assets exchanged. The guidance in APB 29 included certain exceptions to
        that principle. SFAS 153 eliminates the exception from fair value
        measurement for nonmonetary exchanges of similar productive assets and replaces
        it with an exception for exchanges that do not have commercial substance.
        This
        Statement specifies that a nonmonetary exchange has commercial substance
        if the
        future cash flows of the entity are expected to change significantly as a
        result
        of the exchange. The provisions of this Statement are effective January 1,
        2006 for us. This FSP is not expected to have a material impact on our financial
        statements.
 
 *SFAS
                  151,
                  “Inventory Costs - an amendment of ARB No. 43, Chapter
                  4”*
 
 In
        November 2004,
        the FASB issued SFAS 151 to clarify the accounting for abnormal amounts of
        idle facility expense, freight, handling costs and wasted material (spoilage).
        Previous guidance stated that in some circumstances these costs may be “so
        abnormal” that they would require treatment as current period costs.
        SFAS 151 requires abnormal amounts for these items to always be recorded as
        current period costs. In addition, this Statement requires that allocation
        of
        fixed production overheads to the cost of conversion be based on the normal
        capacity of the production facilities. The provisions of this statement are
        effective for inventory costs incurred by us beginning January 1, 2006. The
        Company does not expect it to have a material impact on its financial
        statements.


**13.**  **SUMMARY
      OF
      QUARTERLY FINANCIAL DATA (UNAUDITED):**





The
      fol **l** owing
      summarizes
      certain consolidated operating results by quarter for 2005 and
      2004:




**March
                  31,**
              
              **June
                  30,**
              
              **September
                  30,**
              
              **December
                  31,****Three
                  Months Ended**
              
              **2005**
              
              **2005**
              
              **2005**
              
              **2005*****(In
                  millions)***Operating
                  Revenues
              
              $
              134.5
              
              $
              134.3
              
              $
              145.5
              
              $
              126.3Operating
                  Expenses and Taxes
              
              
              117.8
              
              
              118.1
              
              
              122.3
              
              
              114.3Operating
                  Income
              
              
              16.7
              
              
              16.2
              
              
              23.2
              
              
              12.0Other
                  Income
              
              
              (0.7
              )
              
              0.8
              
              
              0.5
              
              
              1.2Net
                  Interest
                  Charges
              
              
              1.0
              
              
              1.3
              
              
              0.7
              
              
              1.0Net
                  Income
              
              $
              15.0
              
              $
              15.7
              
              $
              23.0
              
              $
              12.2Earnings
                  on
                  Common Stock
              
              $
              14.3
              
              $
              15.0
              
              $
              22.9
              
              $
              12.0
 
 **March
                    31,**
                
                **June
                    30,**
                
                **September
                    30,**
                
                **December
                    31,****Three
                    Months Ended**
                
                **2004**
                
                **2004**
                
                **2004**
                
                **2004*****(In
                    millions)***Operating
                    Revenues
                
                $
                142.6
                
                $
                134.6
                
                $
                143.3
                
                $
                128.6Operating
                    Expenses and Taxes
                
                
                122.1
                
                
                115.4
                
                
                123.1
                
                
                127.7Operating
                    Income
                
                
                20.5
                
                
                19.2
                
                
                20.2
                
                
                0.9Other
                    Income
                
                
                1.0
                
                
                0.5
                
                
                0.8
                
                
                1.2Net
                    Interest
                    Charges
                
                
                1.8
                
                
                1.8
                
                
                0.6
                
                
                1.0Net
                    Income
                
                $
                19.7
                
                $
                17.9
                
                $
                20.4
                
                $
                1.1Earnings
                    on
                    Common Stock
                
                $
                19.1
                
                $
                17.3
                
                $
                19.7
                
                $
                0.4
 
 
 35