** **

**UNITED STATES SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 

**ý** QUARTERLY REPORT PURSUANT TO SECTION 13OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934

 

**For the quarterly period ended March 31, 2006**

 

**Commissionfile number:  1-2385**

 

**THE DAYTON POWER AND LIGHTCOMPANY**

(Exact name of registrant asspecified in its charter)

 

| **OHIO**                                                         | ** ** | **31-0258470**                         |
|------------------------------------------------------------------|------------|----------------------------------------|
| (State or  other jurisdiction of  incorporation or organization) |       | (I.R.S.  Employer  Identification No.) |
|                                                             |       |                                   |
| **1065  Woodman Drive, Dayton, Ohio**                            | ** ** | **45432**                              |
| (Address of  principal executive offices)                        |       | (Zip Code)                             |

 

Registrant’s telephone number,including area code: **937-224-6000**

 

Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the registrant was required to file such reports),and (2) has been subject to such filing requirements for the past 90 days.
| Yes  ý | No  o |   |
|------------------|------------|--------|

 

Indicate by check mark whetherthe registrant is a large accelerated filer, an accelerated filer, or anon-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act.

 
| Large accelerated filer o |   | Accelerated  filer o |   | Non-accelerated  filer ý |
|---------------------------|--------|----------------------|--------|-------------------------------|

 

Indicate by check mark whetherthe registrant is a shell company (as defined in Rule 12b-2 of the ExchangeAct).
| Yes  o | No  ý |   |
|-------------|-----------------|--------|

 

As of May 3, 2006, there were 41,172,173shares of common stock outstanding, all of which were held by DPL Inc.

 

 

----

 

**THE DAYTON POWER AND LIGHT COMPANY**

**INDEX**

 
| ** **   | ** **                | **Page No.**                                                                                |
|--------------|---------------------------|---------------------------------------------------------------------------------------------|
| **Part I.**  | **Financial Information** |                                                                                        |
|         |                      |                                                                                        |   |
|         | Item 1.                   | Financial Statements                                                                        |   |
|         |                      |                                                                                        |   |
|         |                      | Consolidated Statements of  Results of Operations                                           | 3 |
|         |                      |                                                                                        |   |
|         |                      | Consolidated Statements of  Cash Flows                                                      | 4 |
|         |                      |                                                                                        |   |
|         |                      | Consolidated Balance Sheets                                                                 | 5 |
|         |                      |                                                                                        |   |
|         |                      | Notes to Consolidated  Financial Statements                                                 | 7 |
|         |                      |                                                                                        |   |
|         | Item 2.                   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations | 17 |
|         |                      |                                                                                        |   |
|         |                      | Operating Statistics                                                                        | 27 |
|         |                      |                                                                                        |   |
|         | Item 3.                   | Quantitative  and Qualitative Disclosures about Market Risk                                 | 27 |
|         |                      |                                                                                        |   |
|         | Item 4.                   | Controls and  Procedures                                                                    | 27 |
|         |                      |                                                                                        |   |
| **Part II.** | **Other Information**     |                                                                                        |
|         |                      |                                                                                        |   |
|         | Item 1.                   | Legal Proceedings                                                                           | 28 |
|         |                      |                                                                                        |   |
|         | Item 1A.                  | Risk Factors                                                                                | 29 |
|         |                      |                                                                                        |   |
|         | Item 4.                   | Submission  of Matters to a Vote of Security Holders                                        | 29 |
|         |                      |                                                                                        |   |
|         | Item 5.                   | Other Information                                                                           | 30 |
|         |                      |                                                                                        |   |
|         | Item 6.                   | Exhibits                                                                                    | 30 |
|         |                      |                                                                                        |   |
| **Other**    |                      |                                                                                        |   |
|         | Signatures                | 31                                                                                          |
|         |                      |                                                                                        |   |
|         | Certifications            |                                                                                        |

 

**AvailableInformation:**

 

TheDayton Power and Light Company (DP&L, the Company, we, us, our, or oursunless the context indicates otherwise) files current, annual and quarterlyreports, and other information required by the Securities Exchange Act of 1934,as amended, with the Securities and Exchange Commission (SEC). You may read andcopy any document we file at the SEC’s public reference room located at 100 FStreet N.E., Washington, D.C. 20549, USA. Please call the SEC at (800) SEC-0330for further information on the public reference rooms. Our SEC filings are alsoavailable to the public from the SEC’s web site at http://www.sec.gov.

 

Ourpublic Internet site is http://www.dplinc.com. We make available, free ofcharge, through our internet site, our annual reports on Form 10-K, quarterlyreports on Form 10-Q, current reports on Form 8-K, and amendments to thosereports filed or furnished pursuant to the Securities Exchange Act of 1934, asamended, as soon as reasonably practicable after we electronically file suchmaterial with, or furnish it to, the SEC.

 

Inaddition, our public Internet site includes other items related to corporategovernance matters, including, among other things, our governance guidelines,charters of various committees of the Board of Directors and our code ofbusiness conduct and ethics applicable to all employees, officers and directors.You may obtain copies of these documents, free of charge, by sending a request,in writing, to DP&L Investor Relations, 1065 Woodman Drive, Dayton, Ohio45432.

 

2

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**Part I. Financial Information**

 

**Item 1. Financial Statements**

 

**THE DAYTON POWER AND LIGHT COMPANY**

**CONSOLIDATEDSTATEMENTS OF RESULTS OF OPERATIONS**

 
| ** **                             | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------|------------|----------------------------------|------------|
| ** **                             | ** ** | **March 31,**               | ** ** |
| **$ in millions**            | ** ** | **2006**                         | ** ** | **2005** | ** ** |
|                                   |       |                             |       |   |   |
| **Revenues**                           | ** ** | **$**                            | **339.1**  |   | $ | 305.1 |   |
|                                   |       |                             |       |   |   |
| **Cost of  revenues:**                 | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Fuel                                   | ** ** | **83.9**                         |       | 77.7 |   |
| Purchased power                        | ** ** | **25.6**                         |       | 29.3 |   |
| Total cost of revenues                 | ** ** | **109.5**                        |       | 107.0 |   |
|                                   |       |                             |       |   |   |
| **Gross  margin**                      | ** ** | **229.6**                        |       | 198.1 |   |
|                                   |       |                             |       |   |   |
| **Operating  expenses:**               | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Operation and maintenance              | ** ** | **54.2**                         |       | 48.8 |   |
| Depreciation and amortization          | ** ** | **31.3**                         |       | 30.0 |   |
| General taxes                          | ** ** | **27.5**                         |       | 27.4 |   |
| Amortization of regulatory assets, net | ** ** | **1.1**                          |       | 0.5 |   |
|                                   | ** ** | ** **                       |       |   |   |
| Total operating expenses               | ** ** | **114.1**                        |       | 106.7 |   |
|                                   |       |                             |       |   |   |
| **Operating  income**                  | ** ** | **115.5**                        |       | 91.4 |   |
|                                   |       |                             |       |   |   |
| Investment  income                     | ** ** | **1.9**                          |       | 1.1 |   |
| Interest  expense                      | ** ** | **(6.7**                         | )          | (11.3 | ) |
| Other income  (deductions)             | ** ** | **(0.5**                         | )          | 6.7 |   |
|                                   | ** ** | ** **                       |       |   |   |
| **Income before  income taxes**        | ** ** | **110.2**                        |       | 87.9 |   |
|                                   |       |                             |       |   |   |
| Income tax  expense                    | ** ** | **43.3**                         |       | 34.6 |   |
|                                   | ** ** | ** **                       |       |   |   |
| **Net  income**                        | ** ** | **66.9**                         |       | 53.3 |   |
| ** **                             | ** ** | ** **                       |       |   |   |
| Preferred  dividends                   | ** ** | **0.2**                          |       | 0.2 |   |
|                                   | ** ** | ** **                       |       |   |   |
| **Earnings  on common stock**          | ** ** | **$**                            | **66.7**   |   | $ | 53.1 |   |

 

SeeNotes to Consolidated Financial Statements.

Theseinterim statements are unaudited.

 

3

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**THE DAYTON POWER AND LIGHT COMPANY**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

 
| ** **                                       | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------------------|------------|----------------------------------|------------|
| ** **                                       | ** ** | **March 31,**               | ** ** |
| **$ in millions**                      | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| **Cash  flows from operating activities:**       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income                                       | ** ** | **$**                            | **66.9**   |   | $ | 53.3 |   |
|                                             |       |                             |       |   |   |
| Adjustments:                                     |       |                             |       |   |   |
| Depreciation and amortization                    | ** ** | **31.3**                         |       | 30.0 |   |
| Amortization of regulatory assets, net           | ** ** | **1.1**                          |       | 0.5 |   |
| Deferred income taxes                            | ** ** | **(1.9**                         | )          | 11.4 |   |
| Changes in  certain assets and liabilities:      |       |                             |       |   |   |
| Accounts receivable                              | ** ** | **(10.7**                        | )          | 2.8 |   |
| Accounts payable                                 | ** ** | **38.1**                         |       | 2.8 |   |
| Accrued taxes payable                            | ** ** | **14.2**                         |       | 15.8 |   |
| Accrued interest payable                         | ** ** | **4.8**                          |       | 4.7 |   |
| Prepayments                                      | ** ** | **4.4**                          |       | 8.6 |   |
| Inventories                                      | ** ** | **(7.4**                         | )          | (8.0 | ) |
| Deferred  compensation assets                    | ** ** | **4.6**                          |       | 3.6 |   |
| Deferred  compensation obligations               | ** ** | **(3.5**                         | )          | 0.7 |   |
| Other                                            | ** ** | **1.6**                          |       | (11.2 | ) |
| **Net cash provided by operating activities**    | ** ** | **143.5**                        |       | 115.0 |   |
|                                             |       |                             |       |   |   |
| **Cash  flows from investing activities:**       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Capital  expenditures                            | ** ** | **(110.5**                       | )          | (42.7 | ) |
| **Net cash (used for) investing activities**     | ** ** | **(110.5**                       | )          | (42.7 | ) |
|                                             |       |                             |       |   |   |
| **Cash  flows from financing activities:**       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Dividends  paid on common stock                  | ** ** | **—**                       |       | (75.0 | ) |
| Dividends  paid on preferred stock               | ** ** | **(0.2**                         | )          | (0.2 | ) |
| **Net cash (used for) financing activities**     | ** ** | **(0.2**                         | )          | (75.2 | ) |
|                                             |       |                             |       |   |   |
| **Cash and  cash equivalents:**                  | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net change                                       | ** ** | **32.8**                         |       | (2.9 | ) |
| Balance at  beginning of period                  | ** ** | **46.2**                         |       | 17.2 |   |
| **Cash and  c ash equivalents at end of period** | ** ** | **$**                            | **79.0**   |   | $ | 14.3 |   |
|                                             |       |                             |       |   |   |
| **Supplemental  cash flow information:**         | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Interest  paid, net of capitalized interest      | ** ** | **$**                            | **1.2**    |   | $ | 5.8 |   |
| Income taxes  paid, net                          | ** ** | **$**                            | **9.3**    |   | $ | (2.9 | ) |

 

SeeNotes to Consolidated Financial Statements.

Theseinterim statements are unaudited.

 

4

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**THE DAYTON POWER AND LIGHT COMPANY**

**CONSOLIDATEDBALANCE SHEETS**

 
| ** **                                                                                     | ** ** | **At**             | ** **  | **At**                | ** ** |
|------------------------------------------------------------------------------------------------|------------|--------------------|-------------|-----------------------|------------|
| ** **                                                                                     | ** ** | **March 31,** | ** **  | **December 31,** | ** ** |
| **$ in millions**                                                                    | ** ** | **2006**           | ** **  | **2005**              | ** ** |
| **ASSETS**                                                                                     | ** ** | ** **         | ** **  | ** **            | ** ** |
|                                                                                           |       |               |        |                  |       |
| **Property:**                                                                                  | ** ** | ** **         | ** **  | ** **            | ** ** |
| Property, plant and equipment                                                                  | ** ** | **$**              | **4,212.2** |                  | $          | 4,118.0 |   |
| Less: Accumulated depreciation and  amortization                                               | ** ** | **(2,002.1**       | )           | (1,973.3              | )          |
|                                                                                           | ** ** | ** **         |        |                  |       |
| Net property                                                                                   | ** ** | **2,210.1**        |        | 2,144.7               |       |
|                                                                                           |       |               |        |                  |       |
| **Current  assets:**                                                                           | ** ** | ** **         | ** **  | ** **            | ** ** |
| Cash and cash equivalents                                                                      | ** ** | **79.0**           |        | 46.2                  |       |
| Accounts receivable, less provision for  uncollectible accounts of $1.0 and $1.0, respectively | ** ** | **184.7**          |        | 182.7                 |       |
| Inventories, at average cost                                                                   | ** ** | **85.1**           |        | 77.7                  |       |
| Taxes applicable to subsequent years                                                           | ** ** | **34.4**           |        | 45.9                  |       |
| Other current assets                                                                           | ** ** | **18.5**           |        | 19.3                  |       |
| Total current assets                                                                           | ** ** | **401.7**          |        | 371.8                 |       |
|                                                                                           |       |               |        |                  |       |
| **Other  assets:**                                                                             | ** ** | ** **         | ** **  | ** **            | ** ** |
| Regulatory assets                                                                              | ** ** | **82.4**           |        | 83.8                  |       |
| Other deferred assets                                                                          | ** ** | **135.9**          |        | 138.3                 |       |
| Total other assets                                                                             | ** ** | **218.3**          |        | 222.1                 |       |
|                                                                                           |       |               |        |                  |       |
| **Total  Assets**                                                                              | ** ** | **$**              | **2,830.1** |                  | $          | 2,738.6 |   |

 

SeeNotes to Consolidated Financial Statements.

Theseinterim statements are unaudited.

 

5

----

 

**The Dayton Power and Light Company**

**ConsolidatedBalance Sheets**

(continued)

 
| ** **                                     | ** **                 | **At**             | ** **  | **At**                | ** ** |
|------------------------------------------------|----------------------------|--------------------|-------------|-----------------------|------------|
| ** **                                     | ** **                 | **March 31,** | ** **  | **December 31,** | ** ** |
| **$**                                          | ** in millions** | ** **         | **2006**    | ** **            | **2005**   | ** ** |
|                                           |                       |               |        |                  |       |
| **CAPITALIZATION  AND LIABILITIES**            | ** **                 | ** **         | ** **  | ** **            | ** ** |
|                                           |                       |               |        |                  |       |
| **Capitalization:**                            | ** **                 | ** **         | ** **  | ** **            | ** ** |
| Common  shareholders’ equity:             |                       |               |        |                  |       |
| Common stock, at par value of $0.01 per  share | ** **                 | **$**              | **0.4**     |                  | $          | 0.4 |   |
| Other paid-in capital                          | ** **                 | **780.9**          |        | 783.4                 |       |
| Accumulated other comprehensive income         | ** **                 | **5.1**            |        | 5.1                   |       |
| Earnings reinvested in the business            | ** **                 | **357.2**          |        | 290.5                 |       |
| Total common shareholders’ equity         | ** **                 | **1,143.6**        |        | 1,079.4               |       |
|                                           |                       |               |        |                  |       |
| Preferred  stock                               | ** **                 | **22.9**           |        | 22.9                  |       |
|                                           |                       |               |        |                  |       |
| Long-term  debt                                | ** **                 | **685.7**          |        | 685.9                 |       |
| Total capitalization                           | ** **                 | **1,852.2**        |        | 1,788.2               |       |
|                                           |                       |               |        |                  |       |
| **Current  liabilities:**                      | ** **                 | ** **         | ** **  | ** **            | ** ** |
| Accounts payable                               | ** **                 | **139.3**          |        | 116.2                 |       |
| Accrued taxes                                  | ** **                 | **161.7**          |        | 167.7                 |       |
| Accrued interest                               | ** **                 | **14.7**           |        | 9.8                   |       |
| Other current liabilities                      | ** **                 | **28.2**           |        | 28.4                  |       |
| Total current liabilities                      | ** **                 | **343.9**          |        | 322.1                 |       |
|                                           |                       |               |        |                  |       |
| **Deferred  credits:**                         | ** **                 | ** **         | ** **  | ** **            | ** ** |
| Deferred taxes                                 | ** **                 | **324.3**          |        | 323.2                 |       |
| Unamortized investment tax credit              | ** **                 | **45.7**           |        | 46.4                  |       |
| Other deferred credits                         | ** **                 | **264.0**          |        | 258.7                 |       |
| Total deferred credits                         | ** **                 | **634.0**          |        | 628.3                 |       |
|                                           |                       |               |        |                  |       |
| Contingencies  (Note 7)                        |                       |               |        |                  |       |
|                                           |                       |               |        |                  |       |
| **Total  Capitalization and Liabilities**      | ** **                 | **$**              | **2,830.1** |                  | $          | 2,738.6 |   |
|                                                |                            |                    |             |                       |            |  |  |  |

 

SeeNotes to Consolidated Financial Statements.

Theseinterim statements are unaudited.

 

6

----

 

**Notes to Consolidated FinancialStatements**

 

**1.****    ****Basis of Presentation**

 

***Description of Business***

 

TheDayton Power and Light Company (DP&L, the Company, we, our, or ours unlessthe context indicates otherwise) is a wholly-owned subsidiary of DPL Inc. (DPL).We are a public utility incorporated in 1911 under the laws of Ohio and weconduct our principal business in one business segment – Electric utility. Wesell electricity to residential, commercial, industrial and governmentalcustomers in a 6,000 square mile area of West Central Ohio. Electricity for our24-county service area is primarily generated at eight coal-fired power plantsand is distributed to more than 500,000 retail customers. We also purchaseretail peak load requirements from DPL Energy LLC (DPLE), a wholly-ownedsubsidiary of DPL Inc. Principal industries served include automotive, foodprocessing, paper, plastic manufacturing, and defense. Our sales reflect thegeneral economic conditions and seasonal weather patterns of the area. We sellany excess energy and capacity into the wholesale market.

 

***Financial Statement Presentation***

 

Weprepare our consolidated financial statements in accordance with accountingprinciples generally accepted in the United States of America (GAAP). The consolidatedfinancial statements include the accounts of DP&L and our majority-ownedsubsidiaries. Investments that are not majority owned are accounted for usingthe equity method when our investment allows us the ability to exertsignificant influence, as defined by GAAP. Undivided interests in jointly-ownedgeneration facilities are consolidated on a pro rata basis. All materialintercompany accounts and transactions are eliminated in consolidation. Interimresults for the three months ended March 31, 2006 may not be indicative of ourresults that will be realized for the full year ending December 31, 2006.

 

Pursuantto the Securities and Exchange Commission (SEC) rules, certain information andfootnote disclosures normally included in the annual financial statementsprepared in accordance with GAAP have been omitted from interim reports.Therefore, these financial statements should be read along with the annualfinancial statements included in our Annual Report on Form 10-K for the yearended December 31, 2005. In the opinion of our management, the consolidatedfinancial statements contain all adjustments (which are all of a normalrecurring nature) necessary to fairly state our financial condition as of March31, 2006, our results of operations for the three months ended March 31, 2006,and our cash flows for the three months ended March 31, 2006 in accordance withGAAP.

 

***Estimates, Judgments and Reclassifications***

 

Thepreparation of financial statements in conformity with GAAP requires us to makeestimates and judgments that affect the reported amounts of assets andliabilities, the disclosure of contingent assets and liabilities at the date ofthe financial statements, and the revenue and expenses of the period reported. Differentestimates could have a material effect on our financial results. Judgments anduncertainties affecting the application of these policies and estimates mayresult in materially different amounts being reported under differentconditions or circumstances. Significant items subject to such estimates andjudgments include the carrying value of property, plant and equipment; unbilledrevenues; the valuation of derivative instruments; valuation allowances forreceivables and deferred income taxes; reserves recorded for income tax exposures;litigation; and assets and liabilities related to employee benefits. Actualresults may differ from those estimates. Certain amounts from prior periodshave been reclassified to conform to the current reporting presentation.

 

**RecentlyIssued Accounting Standards**

 

***Stock-Based Compensation***

 

InDecember 2004, the Financial Accounting Standards Board (FASB) issued Statementof Financial Accounting Standard No. 123 (revised 2004), “Share-Based Payment”(SFAS 123R). SFAS 123R replaces SFAS 123, “Accounting for Stock-BasedCompensation”, and supersedes Accounting Principles Board (APB) Opinion No. 25(Opinion 25), “Accounting for Stock Issued to Employees”. SFAS 123R requires apublic entity to measure the cost of employee services received and paid withequity instruments to be based on the fair-value of such equity on the grantdate. This cost is recognized in results of operations over the period in whichemployees are required to provide service. Liabilities initially incurred arebased on the fair-value of equity instruments and are to be re-measured at eachsubsequent reporting date until the liability is ultimately settled. Thefair-value for employee share options and other similar instruments at thegrant date are estimated using option-pricing models and any excess taxbenefits are recognized as an addition to paid-in capital. Cash retained fromthe excess tax benefits is presented in the statement of cash flows asfinancing cash inflows. The provisions of this Statement became effective as ofJanuary 1, 2006. Our March 31, 2006 year-to-date pre-tax results of operationswere increased by

 

7

----

 

approximately$0.3 million as a result of the adoption of SFAS 123R which we apply tostock-based transactions related to DPL Inc. common stock.  See Note 5 of Notes to Consolidated FinancialStatements.

 

***Accounting Changes and Error Corrections***

 

InJune 2005, the FASB issued Statement of Financial Accounting Standards No. 154(SFAS 154), “Accounting Changes and Error Corrections - a replacement of APBOpinion No. 20 and FASB Statement No. 3”. This Statement replaces APB OpinionNo. 20, “Accounting Changes,” and FASB Statement No. 3, “Reporting AccountingChanges in Interim Financial Statements,” and changes the requirements for theaccounting for and reporting of a change in accounting principle.  ThisStatement applies to all voluntary changes in accounting principle.  Italso applies to changes required by an accounting pronouncement in the unusualinstance that the pronouncement does not include specific transitionprovisions.  When a pronouncement includes specific transition provisions,those provisions should be followed. This Statement is effective for accountingchanges and corrections of errors made in fiscal years beginning after December15, 2005.  The adoption of this newaccounting standard had no impact on the Company.

 

8

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**2.Supplemental Financial Information**

 
| ** **                                         | ** ** | **At**             | ** ** | **At**                | ** ** |
|----------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| **Balance Sheet**                             | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
| **$ in millions**                        | ** ** | **2006**           | ** ** | **2005**              | ** ** |
| **Accounts  receivable, net:**                     | ** ** | ** **         | ** ** | ** **            | ** ** |
| Utility customers                                  | ** ** | **$**              | **69.5**   |                  | $          | 71.1 |   |
| Unbilled revenue                                   | ** ** | **56.1**           |       | 57.5                  |       |
| Partners in commonly-owned plants                  | ** ** | **50.7**           |       | 37.7                  |       |
| Refundable franchise tax                           | ** ** | **3.1**            |       | 11.8                  |       |
| Wholesale customers                                | ** ** | **3.1**            |       | 3.4                   |       |
| Other                                              | ** ** | **3.2**            |       | 2.2                   |       |
| Provision for uncollectible accounts               | ** ** | **(1.0**           | )          | (1.0                  | )          |
| **Total accounts receivable, net**                 | ** ** | **$**              | **184.7**  |                  | $          | 182.7 |   |
| ** **                                         | ** ** | ** **         |       |                  |       |
| **Inventories,  at average cost:**                 | ** ** | ** **         | ** ** | ** **            | ** ** |
| Fuel and emission allowances                       | ** ** | **$**              | **55.3**   |                  | $          | 48.6 |   |
| Plant materials and supplies                       | ** ** | **29.7**           |       | 29.1                  |       |
| Other                                              | ** ** | **0.1**            |       | —                |       |
| **Total inventories, at average cost**             | ** ** | **$**              | **85.1**   |                  | $          | 77.7 |   |
| ** **                                         | ** ** | ** **         |       |                  |       |
| **Other  current assets:**                         | ** ** | ** **         | ** ** | ** **            | ** ** |
| Current deferred income taxes                      | ** ** | **$**              | **6.3**    |                  | $          | 4.9 |   |
| Deposits and other advances                        | ** ** | **5.7**            |       | 5.8                   |       |
| Prepayments                                        | ** ** | **4.3**            |       | 7.6                   |       |
| Other                                              | ** ** | **2.2**            |       | 1.0                   |       |
|                                               | ** ** | ** **         |       |                  |       |
| **Total other current assets**                     | ** ** | **$**              | **18.5**   |                  | $          | 19.3 |   |
|                                               |       |               |       |                  |       |
| **Other  deferred assets:**                        | ** ** | ** **         | ** ** | ** **            | ** ** |
| Master Trust assets                                | ** ** | **$**              | **103.8**  |                  | $          | 107.7 |   |
| Unamortized loss on reacquired debt                | ** ** | **21.6**           |       | 22.0                  |       |
| Unamoritized debt expense                          | ** ** | **7.3**            |       | 7.4                   |       |
| Other                                              | ** ** | **3.2**            |       | 1.2                   |       |
|                                               | ** ** | ** **         |       |                  |       |
| **Total other deferred assets**                    | ** ** | **$**              | **135.9**  |                  | $          | 138.3 |   |
| ** **                                         | ** ** | ** **         |       |                  |       |
| **Accounts  payable:**                             | ** ** | ** **         | ** ** | ** **            | ** ** |
| Trade payables                                     | ** ** | **$**              | **64.1**   |                  | $          | 26.1 |   |
| Fuel accruals                                      | ** ** | **46.5**           |       | 39.5                  |       |
| Other                                              | ** ** | **28.7**           |       | 50.6                  |       |
|                                               | ** ** | ** **         |       |                  |       |
| **Total accounts payable**                         | ** ** | **$**              | **139.3**  |                  | $          | 116.2 |   |
| ** **                                         | ** ** | ** **         |       |                  |       |
| **Other  current liabilities:**                    | ** ** | ** **         | ** ** | ** **            | ** ** |
| Customer security deposits                         | ** ** | **$**              | **19.7**   |                  | $          | 19.2 |   |
| Payroll taxes payable                              | ** ** | **1.1**            |       | 2.3                   |       |
| Current portion of long-term debt                  | ** ** | **0.9**            |       | 0.9                   |       |
| Other                                              | ** ** | **6.5**            |       | 6.0                   |       |
|                                               | ** ** | ** **         |       |                  |       |
| **Total other current liabilities**                | ** ** | **$**              | **28.2**   |                  | $          | 28.4 |   |
| ** **                                         | ** ** | ** **         |       |                  |       |
| **Other  deferred credits:**                       | ** ** | ** **         | ** ** | ** **            | ** ** |
| Asset retirement obligations - regulated  property | ** ** | **$**              | **83.1**   |                  | $          | 81.7 |   |
| Master trust obligations                           | ** ** | **73.5**           |       | 74.5                  |       |
| Retirees’ health and life benefits            | ** ** | **32.7**           |       | 32.9                  |       |
| SECA net revenue subject to refund                 | ** ** | **24.1**           |       | 20.5                  |       |
| Pension liability                                  | ** ** | **24.6**           |       | 23.5                  |       |
| Asset retirement obligations - generation          | ** ** | **13.0**           |       | 13.2                  |       |
| Litigation and claims pending                      | ** ** | **3.7**            |       | 3.0                   |       |
| Environmental reserves                             | ** ** | **0.1**            |       | 0.1                   |       |
| Other                                              | ** ** | **9.2**            |       | 9.3                   |       |
|                                               | ** ** | ** **         |       |                  |       |
| **Total other deferred credits**                   | ** ** | **$**              | **264.0**  |                  | $          | 258.7 |   |

 

9

----

 

**2.Supplemental Financial Information (continued)**

 
| ** **                                                                                             | ** ** | **Three Months Ended March 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| **$ in millions**                                                                            | ** ** | **2006**                                             | ** ** | **2005** | ** ** |
|                                                                                                   |       |                                                 |       |   |   |
| **Cash  flows - other:**                                                                               | ** ** | ** **                                           | ** ** | ** ** | ** ** |
| Payroll taxes payable                                                                                  | ** ** | **$**                                                | **(1.1**   | ) | $ | (1.4 | ) |
| Deposits and other advances                                                                            | ** ** | **(1.5**                                             | )          | 0.3 |   |
| Deferred storm costs                                                                                   | ** ** | **—**                                           |       | (9.7 | ) |
| Other                                                                                                  | ** ** | **4.2**                                              |       | (0.4 | ) |
|                                                                                                   | ** ** | ** **                                           |       |   |   |
| **Total cash flows - other**                                                                           | ** ** | **$**                                                | **1.6**    |   | $ | (11.2 | ) |
|                                                                                                   |       |                                                 |       |   |   |
| **Comprehensive  income:**                                                                             | ** ** | ** **                                           | ** ** | ** ** | ** ** |
| Net income                                                                                             | ** ** | **$**                                                | **66.9**   |   | $ | 53.3 |   |
| Net change in unrealized gains (losses) on  financial instruments, net of reclassification adjustments | ** ** | **0.8**                                              |       | (1.3 | ) |
| Net change in deferred gains on cash flow  hedges                                                      | ** ** | **0.6**                                              |       | (1.3 | ) |
| Deferred income taxes related to unrealized  gains and (losses)                                        | ** ** | **(1.4**                                             | )          | 0.9 |   |
|                                                                                                   | ** ** | ** **                                           |       |   |   |
| **Total comprehensive income**                                                                         | ** ** | **$**                                                | **66.9**   |   | $ | 51.6 |   |

 

**3. PreferredStock**

 

$25par value, 4,000,000 shares authorized, no shares outstanding; and $100 parvalue, 4,000,000 shares authorized, 228,508 shares without mandatory redemptionprovisions outstanding.

 
| **Preferred Stock** | ** ** | **Rate**   | ** ** | **Current  Redemption  Price** | ** ** | **Current  Shares  Outstanding at  March 31,  2006** | ** ** | **Par Value  At March 31,  2006** | ** ** | **Par Value  At  December  31, 2005** | ** ** |
|--------------------------|------------|------------|------------|--------------------------------|------------|----------------------------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **               | ** ** | ** ** | ** ** | ** **                     | ** ** | ** **                                                     | ** ** | **($ in millions)**                         | ** ** | **($ in millions)**                        | ** ** |
| Series A                 |       | 3.75%      |       | $                              | 102.50     |                                                           |       | 93,280                                           |       | $                                               | 9.3        |   | $ | 9.3 |   |
| Series B                 |       | 3.75%      |       | $                              | 103.00     |                                                           |       | 69,398                                           |       | 7.0                                             |       | 7.0 |   |
| Series C                 |       | 3.90%      |       | $                              | 101.00     |                                                           |       | 65,830                                           |       | 6.6                                             |       | 6.6 |   |
| Total                    |       |       |       |                           |       |                                                           | 228,508    |                                             | $          | 22.9                                            |       | $ | 22.9 |   |
|                          |            |            |            |                                |            |                                                                |            |                                                  |            |                                                 |            |  |  |  |  |  |  |

 

Thepreferred stock may be redeemed at our option at the per-share pricesindicated, plus cumulative accrued dividends.

 

Aslong as any preferred stock is outstanding, our Amended Articles ofIncorporation contain provisions restricting the payment of cash dividends onany of our common stock if, after giving effect to such dividend, the aggregateof all such dividends distributed subsequent to December 31, 1946 exceeds thenet income available for dividends on our common stock subsequent to December31, 1946, plus $1.2 million. As of March 31, 2006, all earnings reinvestedin the business were available for common stock dividends. We expect all 2006earnings reinvested in the business to be available for common stock dividends,payable to DPL.

 

**4.****    ****Pension and Postretirement Benefits**

 

We sponsor a defined benefit plan forsubstantially all employees. For collective bargaining employees, the definedbenefits are based on a specific dollar amount per year of service. For allother employees, the defined benefit plan is based primarily on compensationand years of service. We fund pension plan benefits as accrued in accordancewith the minimum funding requirements of the Employee Retirement IncomeSecurity Act of 1974 (ERISA).

 

Qualifiedemployees who retired prior to 1987 and their dependents are eligible forhealth care and life insurance benefits. We have funded the union-eligiblehealth benefit using a Voluntary Employee Beneficiary Association Trust.

 

10

----

 

Thenet periodic benefit cost of the pension and postretirement benefit plans forthe three months ended March 31, 2006 and 2005 was:

 

**Net periodic benefit cost**

 
| ** **                                    | ** ** | **Pension** | ** ** | **Postretirement** | ** ** |
|-----------------------------------------------|------------|-------------|------------|--------------------|------------|
| **$ in millions**                   | ** ** | **2006**    | ** ** | **2005**           | ** ** | **2006** | ** ** | **2005** | ** ** |
| Service cost                                  | ** ** | **$**       | **1.1**    |               | $          | 1.0 | ** ** | **$** | **—** |   | $ | — |   |
| Interest  cost                                | ** ** | **4.1**     |       | 3.9                | ** ** | **0.4** |   | 0.4 |   |
| Expected  return on assets                    | ** ** | **(5.4**    | **)**      | (5.4               | )          | **(0.1** | **)** | (0.1 | ) |
|                                          |       |        |       |               |       |   |   |   |   |
| Amortization  of unrecognized:                |       |        |       |               |       |   |   |   |   |
| Actuarial (gain) loss                         | ** ** | **1.0**     |       | 0.9                | ** ** | **(0.2** | **)** | (0.3 | ) |
| Prior service cost                            | ** ** | **0.6**     |       | 0.6                | ** ** | **—** |   | — |   |
| Transition obligation                         | ** ** | **—**  |       | —             | ** ** | **0.1** |   | 0.1 |   |
| Net periodic  benefit cost before adjustments | ** ** | **1.4**     |       | 1.0                | ** ** | **0.2** |   | 0.1 |   |
| Special  termination benefit cost (a)         | ** ** | **0.3**     | ** ** | **—**         | ** ** | **—** | ** ** | **—** | ** ** |
| Net periodic  benefit cost after adjustments  | ** ** | **$**       | **1.7**    |               | $          | 1.0 | ** ** | **$** | **0.2** |   | $ | 0.1 |   |

 

----

(a)   In 2006, a special termination benefit costwas recognized as a result of 16 employees who participated in a voluntaryearly retirement program and retired at various dates during 2006.

 

Thefollowing estimated benefit payments, which reflect future service, areexpected to be paid as follows:

 

**EstimatedFuture Benefit Payments**

 
| **$ in millions** | ** ** | **Pension** | ** ** | **Postretirement** | ** ** |
|-----------------------------|------------|-------------|------------|--------------------|------------|
| 2006                        |       | $           | 14.8       |               | $          | 2.3 |   |
| 2007                        |       | $           | 20.0       |               | $          | 3.1 |   |
| 2008                        |       | $           | 20.2       |               | $          | 3.0 |   |
| 2009                        |       | $           | 20.5       |               | $          | 3.0 |   |
| 2010                        |       | $           | 21.0       |               | $          | 2.9 |   |
| 2011                        |       | $           | 21.4       |               | $          | 2.7 |   |
| 2012 – 2016            |       | $           | 114.6      |               | $          | 10.7 |   |

 

**5.****    ****Stock-Based Compensation**

 

Weadopted Statement of Financial Accounting Standard 123 Revised (SFAS 123R) onJanuary 1, 2006 using the modified prospective approach for stock options andrestricted stock units (RSUs), based on stock-based transactions related to commonstock of DPL Inc., our parent company. As a result of our adoption of SFAS 123R,we recognized $1.7 million in compensation expense in the first quarter of 2006as opposed to $2.0 million that would have been recognized under SFAS 123.

 

In2000, DPL Inc.’s Board of Directors adopted and its shareholders approved TheDPL Inc. Stock Option Plan. The plan provides that “no single Participant shallreceive Options with respect to more than 2,500,000 shares.”  Options granted in 2000, 2001 and 2002 werefully vested as of December 31, 2005 and expire ten years from the grant date. In2003, 100,000 options were granted which vest equitably over five years andexpire ten years from the grant date. In 2004, 200,000 options were grantedthat vest over nineteen months and expire approximately 6.5 years from thegrant date; 100,000 of these options vested in May of 2005. Another 20,000options were granted in 2004 that vested in five months and expire ten yearsfrom the grant date. In December of 2004, 30,000 options were granted that vestequitably over three years and expire ten years from the grant date. In 2005,350,000 options were granted that vest in June 2006 and expire three years fromthe grant date. At March 31, 2006, there were 1,478,500 options available forgrant. Non-vested options at December 31, 2005 and at March 31, 2006 amountedto 510,000 options, at a weighted average grant date fair value of $12.6million.

 

11

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Summarized stock optionactivity was as follows:

 
| ** **                                 | ** ** | **Three Months  ended  March 31,  2006** | ** ** | **Twelve months  ended  December 31,  2005** | ** ** |
|--------------------------------------------|------------|------------------------------------------|------------|----------------------------------------------|------------|
| Options:                                   |       |                                     |       |                                         |       |
| Outstanding  at beginning of year (a)      | ** ** | **5,486,500**                            |       | 6,165,500                                    |       |
| Granted                                    | ** ** | **0**                                    |       | 350,000                                      |       |
| Exercised                                  | ** ** | **(10,000**                              | **)**      | (1,025,000                                   | )          |
| Forfeited                                  | ** ** | **0**                                    |       | (4,000                                       | )          |
| Outstanding  at end of period              | ** ** | **5,476,500**                            |       | 5,486,500                                    |       |
| Exercisable  at end of period              | ** ** | **4,941,000**                            |       | 4,100,000                                    |       |
|                                       |       |                                     |       |                                         |       |
| Weighted  average option prices per share: |       |                                     |       |                                         |       |
| Outstanding at beginning of year           | ** ** | **$**                                    | **21.86**  |                                         | $          | 21.39 |   |
| Granted                                    | ** ** | **—**                               |       | $                                            | 26.82      |   |
| Exercised                                  | ** ** | **$**                                    | **21.00**  |                                         | $          | 21.18 |   |
| Forfeited                                  | ** ** | **—**                               |       | $                                            | 29.63      |   |
| Outstanding at end of period               | ** ** | **$**                                    | **21.90**  |                                         | $          | 21.86 |   |
| Exercisable at end of period               | ** ** | **$**                                    | **20.98**  |                                         | $          | 20.98 |   |

 

----

*a)**   **In dispute with certain former executives, among other things, areapproximately 1 million forfeited options and 3.6 million outstanding options(see Note 7 of Notes to Consolidated Financial Statements).*

 

Nooptions were granted in the first quarter 2006. The weighted-average fair valueof options granted was $3.80 per share in 2005. The fair values of the optionswere estimated as of the dates of grant using a Black-Scholes option pricingmodel.

 

Thestock options exercised in the first quarter of 2006 were valued at $0.3million and produced proceeds of $0.2 million. The market value of options thatwere vested at March 31, 2006 was $147.9 million. Shares issued upon shareoption exercise are issued from treasury stock. DPL Inc. has sufficienttreasury stock to satisfy outstanding options.

 

Thefollowing table reflects information about stock options outstanding at March31, 2006:

 
| ** **                              | ** ** | ** **      | ** ** | **Options Outstanding**              | ** ** | **Options Exercisable**            | ** ** |
|-----------------------------------------|------------|-----------------|------------|-------------------------------------------|------------|-----------------------------------------|------------|
| **Range of Exercise  Prices** | ** ** | **Outstanding** | ** ** | **Weighted-  Average  Contractual  Life** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Exercisable** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** |
|                                    |       |            |       |                                      |       |                                    |       |   |   |   |   |
| $14.95-$21.00                           |       | 4,690,000       |       | 4.2 years                                 |       | $                                       | 20.44      |   | 4,550,000 |   | $ | 20.46 |   |
| $21.01-$29.63                           |       | 786,500         |       | 3.5 years                                 |       | $                                       | 28.08      |   | 391,000 |   | $ | 29.18 |   |

 

Asof March 31, 2006, there was $0.7 million of total unrecognized compensationcost related to non-vested stock options granted under the Plan.  Weexpect to recognize $0.6 million of this cost over the remainder of 2006 and$0.1 million in 2007.

 

Inaddition, RSUs were granted to certain key employees prior to 2001. There were1.4 million RSUs outstanding as of March 31, 2006, of which 1.3 million werevested. Substantially all of the vested RSUs are in dispute due to our ongoinglitigation with Peter H. Forster, formerly DPL’s Chairman; Caroline E.Muhlenkamp, formerly DPL’s Group Vice President and interim Chief FinancialOfficer; and Stephen F. Koziar, formerly DPL’s Chief Executive Officer andPresident.  The remaining 0.1 millionnon-vested RSUs will be paid in cash upon vesting and will vest as follows: 25,547in 2006; 20,099 in 2007; 14,688 in 2008; 10,205 in 2009; and 5,008 in 2010. VestedRSUs are marked to market each quarter and any adjustment to compensationexpense is recognized at that time. Non-vested RSUs are valued quarterly atfair value using the Black-Scholes model to determine the amount ofcompensation expense to be recognized.

 

12

----

 

Operatingincome was $0.3 million higher under SFAS 123R than under SFAS 123 due to theuse of the Black Scholes model to value the non-vested RSUs. The impact on netincome was $0.2 million due to a decrease in the tax benefit of $0.1 million.

 

Compensationexpense for the first quarter 2006 was $1.7 million for all share-basedcompensation (stock options and RSUs) and the tax benefit associated with theseexpenses was $0.7 million.

 

Thefollowing assumptions were used in the Black Scholes model to calculate thefair value of the non-vested stock options and RSUs:

 
| Volatility               | ** ** | **24.0 - 29.1**    | **%**      |
|--------------------------|------------|--------------------|------------|
| Expected  life (years)   | ** ** | **0.3 – 8.0** | ** ** |
| Dividend  yield rate     | ** ** | **3.7 – 4.8** | **%**      |
| Risk-free  interest rate | ** ** | **3.7 – 4.3** | **%**      |

 

**6.****    ****Long-term Debt**

 
| ** **                                                  | ** ** | **Long-term Debt** | ** ** |
|-------------------------------------------------------------|------------|--------------------|------------|
| ** **                                                  | ** ** | **At**             | ** ** | **At** | ** ** |
| ** **                                                  | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
| **$ in millions**                                 | ** ** | **2006**           | ** ** | **2005** | ** ** |
| First  Mortgage Bonds maturing:                             |       |               |       |   |   |
| 2013 - 5.125%                                               | ** ** | **$**              | **470.0**  |   | $ | 470.0 |   |
| Pollution  Control Series maturing through 2034 - 4.78% (a) | ** ** | **214.4**          |       | 214.4 |   |
|                                                        | ** ** | **684.4**          |       | 684.4 |   |
|                                                        |       |               |       |   |   |
| Obligation  for capital leases                              | ** ** | **2.8**            |       | 3.0 |   |
| Unamortized  debt discount                                  | ** ** | **(1.5**           | )          | (1.5 | ) |
| Total                                                       | ** ** | **$**              | **685.7**  |   | $ | 685.9 |   |

 

----

(a)  Weighted average interest rates for 2006 and2005.

 

Theamounts of maturities and mandatory redemptions for first mortgage bonds andcapital leases are $0.7 million for the remainder of 2006, $0.9 million in2007, $0.7 million in 2008, $0.7 million in 2009 and $0.7 million in 2010. Substantiallyall of our property is subject to the mortgage lien securing the first mortgagebonds.

 

Wehave a $100 million unsecured revolving credit agreement that is renewableannually and expires on May 30, 2010. This facility may be increased up to $150million. The facility contains one financial covenant:  our total debt to total capitalization ratiois not to exceed 0.65 to 1.00. This covenant is currently met. We had nooutstanding borrowings under this credit facility at March 31, 2006. Feesassociated with this credit facility are approximately $0.2 million per year. Changesin credit ratings, however, may affect the applicable interest rate for ourrevolving credit agreement.

 

OnFebruary 17, 2006, we renewed our $10 million Master Letter of CreditAgreement for one year with a financial lending institution. This agreementsupports performance assurance needs in the ordinary course of business. Wehave certain contractual agreements for the sale and purchase of power, fueland related energy services that contain credit rating related clauses allowingthe counter parties to seek additional surety under certain conditions. As ofMarch 31, 2006, we had two outstanding letters of credit for a total of $2.2million.

 

During the first quarter of 2006, the Ohio Air QualityDevelopment Authority (OAQDA) awarded us the ability to issue over the nextthree years up to $200 million of qualified tax-exempt financing from the OAQDA’s2005 volume cap carryforward. The financing is expected to be used to partiallyfund the ongoing flue gas desulphurization (FGD) projects.

 

13

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Thereare no inter-company debt collateralizations or debt guarantees between us andour parent. None of our debt obligations are guaranteed or secured byaffiliates and no cross-collateralization exists between any subsidiaries.

 

**7.****    ****Commitments and Contingencies**

 

**Contingencies**

 

Inthe normal course of business, we are subject to various lawsuits, actions,proceedings, claims and other matters asserted under laws and regulations. Webelieve the amounts provided in our consolidated financial statements, asprescribed by GAAP, are adequate in light of the probable and estimablecontingencies. (See Note 1 of Notes to Consolidated Financial Statements.)  However, there can be no assurances that theactual amounts required to satisfy alleged liabilities from various legalproceedings, claims, tax examinations and other matters discussed below, and tocomply with applicable laws and regulations, will not exceed the amountsreflected in our Consolidated Financial Statements.

 

**EnvironmentalMatters**

 

Ourfacilities and operations are subject to a wide range of environmentalregulations and law. In the normal course of business, we have investigatoryand remedial activities underway at these facilities to comply, or to determinecompliance, with such regulations. We have been identified, either by agovernment agency or by a private party seeking contribution to site clean-upcosts, as a potentially responsible party (PRP) at two sites pursuant to stateand federal laws. We record liabilities for probable estimated loss inaccordance with Statement of Financial Accounting Standards No. 5 (SFAS 5), “Accountingfor Contingencies.”  To the extent aprobable loss can only be estimated by reference to a range of equally probableoutcomes, and no amount within the range appears to be a better estimate thanany other amount, we accrue for the low end of the range. Because ofuncertainties related to these matters, accruals are based on the bestinformation available at the time. We evaluate the potential liability relatedto probable losses quarterly and may revise our estimates. Such revisions inthe estimates of potential liabilities could have a material effect on ourresults of operations and financial position.

 

**LegalMatters**

 

On August 24, 2004, we, DPL and MVE filed aComplaint against Peter H. Forster, formerly DPL’s Chairman; Caroline E.Muhlenkamp, formerly DPL’s Group Vice President and interim Chief FinancialOfficer; and Stephen F. Koziar, formerly DPL’s Chief Executive Officer andPresident (collectively, the Defendants) in the Court of Common Pleas ofMontgomery County, Ohio asserting legal claims against them relating to thetermination of the Valley Partners Agreements, challenging the validity of thepurported amendments to the deferred compensation plans and to the employmentand consulting agreements with the Defendants, and the propriety of thedistributions from the plans to the Defendants, and alleging that theDefendants breached their fiduciary duties and breached their consulting andemployment contracts. We, DPL and MVE seek, among other things, damages inexcess of $25,000, disgorgement of all amounts improperly withdrawn by theDefendants from the plans and a court order declaring that we, DPL and MVE haveno further obligations under the consulting and employment contracts due tothose breaches.

 

TheDefendants filed motions to dismiss the Complaint, which the Court subsequentlydenied. On June 15, 2005, Defendants filed their answers denying liability andfiled counterclaims against us, DPL, MVE, various compensation plans (thePlans), and against the then-current members of our Board of Directors and twoof our former Board members. These counterclaims allege generally that we, DPL,MVE, the Plans and the individual defendants breached the terms of theemployment and consulting contracts of the Defendants, and the terms of thePlans. They further allege theories of breach of fiduciary duty, breach ofcontract, promissory estoppel, tortious interference, conversion, replevin andviolations of ERISA under which they seek distribution of deferred compensationbalances, conversion of stock incentive units, exercise of options and paymentof amounts allegedly owed under the contracts and the Plans. Defendants’counterclaims also demand payment of attorneys’ fees.

 

OnMarch 15, 2005, Mr. Forster and Ms. Muhlenkamp filed a lawsuit in New Yorkstate court against the purchasers of the private equity investments in DPLInc.’s financial asset portfolio and against outside counsel to us and DPLconcerning purported entitlements in connection with the purchase of thoseinvestments. We, DPL and MVE are not defendants in that case; however, thethree of us are parties to an indemnification agreement with respect to thepurchaser defendants. We, DPL and MVE filed a Motion for Preliminary Injunctionin the Ohio case, requesting that the court issue a preliminary injunctionagainst Mr. Forster and Ms. Muhlenkamp regarding the New York lawsuit. OnAugust 18, 2005, the Ohio court issued a preliminary injunction against Mr.Forster and Ms. Muhlenkamp that precludes them from pursuing certain key issuesraised by Mr. Forster and Ms. Muhlenkamp in their New York lawsuit that areidentical to the issues raised in the pending Ohio lawsuit in the New Yorkcourt or any other forum

 

14

----

 

otherthan the Ohio litigation. In addition, the New York court has stayed the NewYork litigation pending the outcome of the Ohio litigation. Mr. Forster and Ms.Muhlenkamp have appealed the preliminary injunction and the appeal is pendingat the Ohio Supreme Court. The parties continue to proceed with the discoveryphase of the litigation, and a number of motions have been filed and briefedwith respect to document discovery and depositions.

 

We continue to evaluate all of the matters relevant tothis litigation and are considering other claims against Defendants Forster,Muhlenkamp and Koziar that include, but are not limited to, breach of fiduciaryduty or other claims relating to personal and DPL investments, the calculationof benefits under the Supplemental Executive Retirement Program (SERP) and financialreporting with respect to such benefits, and with respect to Mr. Koziar, thefulfillment of duties owed to us as our legal counsel. Cumulatively through March31, 2006, we have accrued for accounting purposes, obligations of approximately$52 million to reflect claims regarding deferred compensation, estimated MVEincentives and/or legal fees that Defendants assert are payable per contracts. Wedispute Defendants’ entitlement to any of those sums and, as noted above, weare pursuing litigation against them contesting all such claims.

 

Onor about June 24, 2004, the SEC commenced a formal investigation into issuesraised as a result of previously disclosed matters brought up by one of ourexecutives during the 2003 year-end financial closing process (the Memorandum).We are cooperating with the investigation.

 

OnMay 28, 2004, the U.S. Attorney’s Office for the Southern District of Ohio,assisted by the Federal Bureau of Investigation, notified us that it hasinitiated an inquiry involving the subject matters covered by our internalinvestigation. We are cooperating with this investigation.

 

OnJune 24, 2004, the Internal Revenue Service (IRS) began an audit of tax years1998 through 2003 and issued a series of data requests to us including issuesraised in the Memorandum. The staff of the IRS has requested that we providecertain documents, including but not limited to, matters concerningexecutive/director deferred compensation plans, management stock incentiveplans and MVE financial statements. On September 1, 2005, the IRS issued anaudit report for tax years 1998 through 2003 that shows proposed changes to ourfederal income tax liability for each of those years. The proposed changesresult in a total tax deficiency, penalties and interest of approximately $23.9million. On November 4, 2005, we filed a written protest to one of the proposedchanges. On April 3, 2006, the IRS agreed to revise its audit report for taxyears 1998 through 2003. The revised audit report resulted in a total taxdeficiency, penalties and interest of approximately $1.2 million. We hadpreviously made a deposit with the IRS of approximately $1.3 million that werequested on April 14, 2006 be applied to offset the $1.2 million taxdeficiency, penalties and interest for tax years 1998 through 2003. We believethat once the Joint Committee completes its review of the revised audit reportfor tax years 1998 through 2003 that we will receive a Closing Agreement fromthe IRS and will have no further exposure for these tax years.

 

OnFebruary 13, 2006, we received correspondence from the Ohio Department ofTaxation (ODT) notifying us that ODT has completed their examination and reviewof our Ohio Corporation Franchise Tax Returns for tax years 2002 through 2004and that the final proposed audit adjustments result in a balance due of $90.8million before interest and penalties. We have reviewed the proposed auditadjustments and are vigorously contesting the ODT findings and notice ofassessment through all administrative and judicial means available. On March29, 2006, we filed petitions for reassessment with the ODT to protest eachassessment as well as request corrected assessments for each tax year. Webelieve we have recorded adequate tax reserves related to the proposedadjustments; however, we cannot predict the outcome, which could be material toour results of operations and cash flows.

 

Weare also under audit review by various state agencies for tax years 2002through 2004. We have also filed an appeal to the Ohio Board of Tax Appeals fortax years 1998 through 2001. Depending upon the outcome of these audits and theappeal, we may be required to increase our tax provision if actual amountsultimately determined exceed recorded reserves. We believe we have adequatereserves in each tax jurisdiction but cannot predict the outcome of theseaudits.

 

**ContractualObligations and Commercial Commitments**

 

Weenter into various contractual and other long-term obligations that may affectthe liquidity of our operations. At March 31, 2006, these include:

 

15

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**ContractualObligations**

 
| ** **                           | ** ** | ** ** | ** ** | **Payment Year**           | ** ** |
|--------------------------------------|------------|------------|------------|---------------------------------|------------|
| **$ in millions**          | ** ** | **Total**  | ** ** | **Less Than 1  Year** | ** ** | **2 - 3 Years** | ** ** | **4 - 5 Years** | ** ** | **More than 5  Years** | ** ** |
|                                 |       |       |       |                            |       |   |   |   |   |   |   |
| Long-term  debt                      |       | $          | 682.9      |                            | $          | — |   | $ | — |   | $ | — |   | $ | 682.9 |   |
| Interest  payments                   |       | 463.9      |       | 34.3                            |       | 68.7 |   | 68.7 |   | 292.2 |   |
| Pension and  postretirement payments |       | 260.2      |       | 17.1                            |       | 46.3 |   | 47.4 |   | 149.4 |   |
| Capital  leases                      |       | 3.7        |       | 0.9                             |       | 1.7 |   | 1.1 |   | — |   |
| Operating  leases                    |       | 0.9        |       | 0.5                             |       | 0.4 |   | — |   | — |   |
| Fuel and  limestone contracts (a)    |       | 755.1      |       | 291.5                           |       | 279.0 |   | 97.5 |   | 87.1 |   |
| Other  long-term obligations         |       | 550.2      |       | 376.7                           |       | 167.6 |   | 5.9 |   | — |   |
| Total  long-term obligations         |       | $          | 2,716.9    |                            | $          | 721.0 |   | $ | 563.7 |   | $ | 220.6 |   | $ | 1,211.6 |   |

 

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(a) DP&L operated units

 

Long-term debt:

Long-term debt as of March 31, 2006, consists of ourfirst mortgage bonds and tax-exempt pollution control bonds and includes anunamortized debt discount. (See Note 6 of Notes to Consolidated FinancialStatements.)

 

Interest payments:

Interest payments associated with the long-term debtdescribed above.

 

Pension and postretirement payments:

As of March 31, 2006, we had estimated futurebenefit payments as outlined in Note 4 of Notes to Consolidated FinancialStatements. These estimated future benefit payments are projected through 2016.

 

Capital leases:

Asof March 31, 2006, we had two capital leases that expire in November 2007 andSeptember 2010.

 

Operating leases:

Asof March 31, 2006, we had several operating leases with various terms andexpiration dates. Not included in this total is approximately $88 thousand peryear related to right-of-way agreements that are assumed to have no definiteexpiration dates.

 

Fuel and limestone contracts:

Wehave entered into various long-term coal contracts to supply portions of our coalrequirements for our generating plants and a long-term contract to supplylimestone for the operation of our FGDs. Coal contract prices are subject toperiodic adjustment, and have features that limit price escalation in any givenyear. Our long-term barge transportation agreement will expire August 31, 2006;however, we are in the process of finalizing the terms for our new agreementand expect to conclude this process by the end of the second quarter of 2006.

 

Other contractual obligations:

Asof March 31, 2006, we had various other contractual obligations includingnon-cancelable contracts to purchase goods and services with various terms andexpiration dates.

 

Weenter into various commercial commitments, which may affect the liquidity ofour operations. At March 31, 2006, these include:

 

Credit facilities:

Wehave a $100 million, 364-day unsecured credit facility that is renewableannually and expires on May 30, 2010. At March 31, 2006, there were noborrowings outstanding under this credit agreement. The new facility may beincreased up to $150 million.

 

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Guarantee:

Weown a 4.9% equity ownership interest in an electric generation company. As ofMarch 31, 2006, we could be responsible for the repayment of 4.9%, or $21.8million, of a $445 million debt obligation that matures in 2026.

 

**Item 2. Management’s Discussion and Analysis of Financial Conditionand Results of Operations**

 

Certainstatements contained in this discussion are “forward-looking statements” withinthe meaning of the Private Securities Litigation Reform Act of 1995. Mattersdiscussed in this report that relate to events or developments that areexpected to occur in the future, including management’s expectations, strategicobjectives, business prospects, anticipated economic performance and financialcondition and other similar matters constitute forward-looking statements. Forward-lookingstatements are based on management’s beliefs, assumptions and expectations ofour future economic performance, taking into account the information currentlyavailable to management. These statements are not statements of historical fact.Such forward-looking statements are subject to risks and uncertainties andinvestors are cautioned that outcomes and results may vary materially fromthose projected due to various factors beyond our control, including but notlimited to:  abnormal or severe weather;unusual maintenance or repair requirements; changes in fuel costs and purchasedpower, coal, environmental emissions, gas and other commodity prices; increasedcompetition; regulatory changes and decisions; changes in accounting rules;financial market conditions; and general economic conditions.

 

Forward-lookingstatements speak only as of the date of the document in which they are made. Wedisclaim any obligation or undertaking to provide any updates or revisions toany forward-looking statement to reflect any change in our expectations or anychange in events, conditions or circumstances on which the forward-lookingstatement is based.

 

**OTHER MATTERS**

 

**Updateson Competition and Regulation**

 

OnMay 28, 2004, the U.S. Attorney’s Office for the Southern District of Ohio,assisted by the Federal Bureau of Investigation, notified us that it hadinitiated an inquiry involving matters connected to our internal investigation.We are cooperating with this investigation.

 

Onor about June 24, 2004, the SEC commenced a formal investigation into theissues raised by the Memorandum. We are cooperating with the investigation.

 

OnApril 4, 2005, we filed a request at the Public Utilities Commission ofOhio (PUCO) to implement a new rate stabilization surcharge effectiveJanuary 1, 2006 to recover cost increases associated with environmentalcapital and related operations and maintenance costs, and fuel expenses. OnNovember 3, 2005, we entered into a settlement agreement that extended our ratestabilization period through December 31, 2010. During this time, we willcontinue to provide retail electric service at fixed rates with the ability torecover increased fuel and environmental costs through surcharges and riders. Specifically,the agreement provides for:

•                  A rate stabilization surcharge equal to 11%of generation rates beginning January 1, 2006 and continuing through December2010. Based on 2004 sales, this rider is expected to result in approximately$65 million in net revenues per year.

•                  A new environmental investment rider to beginJanuary 1, 2007 equal to 5.4% of generation rates, with incremental increases equalto 5.4% each year through 2010. Based on 2004 sales, this rider is expected toresult in approximately $35 million in annual net revenues beginning January2007, growing to approximately $140 million by 2010.

•                  An increase to the residential generationdiscount from January 1, 2006 through December 31, 2008 which is expected toresult in a revenue decrease of approximately $7 million per year for threeyears, based on 2004 sales. The residential discount will expire on December31, 2008.

 

OnDecember 28, 2005, the PUCO adopted the settlement with certain modificationsRSS Stipulation. The PUCO ruled that the environmental rider will be bypassableby all customers who take

 

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servicefrom alternate generation suppliers. Future additional revenues are dependentupon actual sales and levels of customer switching. Applications for rehearingwere denied on February 22, 2006.

 

Weagreed to implement a Voluntary Enrollment Process that would provide customerswith an option to choose a competitive supplier to provide their retailgeneration service should switching not reach 20% in each customer class. During2005, approximately 51 thousand residential customers that volunteered for theprogram were bid out to Competitive Retail Electric Service (CRES) providerswho were registered in our service territory however no bids were received andthe 2005 program ended. As part of the RSS Stipulation, we agreed to implementthe Voluntary Enrollment Program again in 2006 and 2007. The magnitude of anycustomer switching and the financial impact of this program cannot bedetermined at this time.

 

Asof March 31, 2006, four unaffiliated marketers were registered as CRESproviders in our service territory; to date, there has been no significantactivity from these suppliers.  DPL Energy Resources, Inc. (DPLER), one ofour parent’s significant subsidiaries, is also a registered CRES provider andaccounted for nearly all load served by CRES providers within our serviceterritory in 2005.  In addition, several communities in our service areahave passed ordinances allowing the communities to become governmentaggregators for the purpose of offering alternative electric generationsupplies to their citizens. To date, none of these communities have aggregatedtheir generation load.

 

Inearly 2004, there was a complaint filed at the PUCO concerning the pricing of ourbilling services. On October 13, 2004, the parties reached a settlement on theprice we charge CRES providers for performing billing services. The PUCO issuedan Order approving the settlement with minor modifications. This Order gave usthe authority to defer costs of approximately $16 million plus carryingcharges, and later request PUCO approval for recovery of those costs. The PUCOdenied applications for rehearing, and the deferral case was appealed to theOhio Supreme Court. On June 17, 2005, we filed a subsequent case, requestingPUCO approval for recovery of the deferred billing costs plus carrying chargesbeginning January 1, 2006. On March 1, 2006, the PUCO approved our recovery ofthis cost with one minor modification. This new rider is expected to result inapproximately $7 million in additional annual revenue through 2010. On March30, 2006, the OCC filed an appeal of this new rider to the Ohio Supreme Court. Withinthat appeal, on April 12, 2006, the OCC filed a motion to stay our recovery ofthis new rider. The motion for stay is pending.

 

OnSeptember 1, 2005, we filed an application requesting the PUCO to grant usauthority to recover distribution costs associated with storm restorationefforts for ice storms that took place in December 2004 and January 2005. OnFebruary 10, 2006, we filed updated schedules in support of our applicationupon discussions with PUCO Staff. If approved as proposed, this new rider isexpected to result in approximately $8.6 million in additional revenues over atwo-year period.

 

EffectiveOctober 1, 2004, PJM began to assess a FERC-approved administrative fee onevery megawatt-hour consumed by our customers. We were granted permission bythe PUCO to defer the PJM administrative fee, plus carrying charges until wecould recover this cost from customers. Applications for rehearing were deniedby the PUCO, and on September 9, 2005, the deferral case was appealed to theOhio Supreme Court. We filed a subsequent case requesting PUCO authority for recoveryof the PJM administrative fee from retail customers. On January 25, 2006, thePUCO issued an order approving the tariff as filed, which should result inapproximately $8 million in additional revenue per year for three yearsbeginning in February 2006. Applications for rehearing were denied in thesubsequent case and on March 14, 2006, this case was also appealed to the OhioSupreme Court.

 

OnJuly 23, 2003, the FERC issued an Order that the rates for transmission serviceof seven companies, including us, may be unjust, unreasonable, or undulydiscriminatory or preferential. We are operating under FERC-approved ratesthrough December 2008. In addition, the FERC ordered transitional payments,known as Seams Elimination Charge Adjustment (SECA), effective December 1, 2004through March 31, 2006, subject to refund. Through this proceeding, we areobligated to pay SECA charges to other utilities but we receive a net benefitfrom these transitional payments. Several parties have sought rehearing of theFERC orders and there likely will be appeals filed in the matter. All motionsfor rehearing are pending. The hearing is scheduled to begin May 1, 2006. BeginningMay 2005, we began receiving these FERC ordered transitional payments and havereceived over $27.7 million of SECA collections, net of SECA charges, throughMarch 2006. We have entered several bi-lateral settlement agreements withcertain parties to resolve the matter, although many SECA claims are stilloutstanding. Our management believes that appropriate reserves have beenestablished in the event that SECA collections are required to be refunded. Theultimate outcome of the proceeding establishing SECA rates is uncertain at thistime. However, based on the amount of reserves established for this item, theresults of this proceeding are not expected to have a material adverse effecton our results of operations.

 

OnMay 31, 2005, the FERC instituted a proceeding under Federal Power Act Section206 concerning the justness and reasonableness of PJM’s rate design. Thisproceeding sets the rates for hearing and requests that all of PJM members,which include us, address the justness and reasonableness of the current ratedesign. On November 22, 2005,

 

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we,along with ten other transmission owners, filed in support of PJM’s existingrate design. We cannot determine what effect, if any, the outcome of thisproceeding may have on our future recovery of transmission revenues. A hearingbegan April 18, 2006 in this case.

 

**Updateon Environmental Considerations**

 

*Air andWater Quality*

 

OnOctober 27, 2003, the United States Environmental Protection Agency(USEPA) published its final rules regarding the equipment replacement provision(ERP) of the routine maintenance, repair and replacement (RMRR) exclusion ofthe Clean Air Act (CAA).  Subsequently, on December 24, 2003, the UnitedStates Court of Appeals for the D.C. Circuit stayed the effective date of therule pending its decision on the merits of the lawsuits filed by numerousstates and environmental organizations challenging the final rules. On March17, 2006, the D.C. Circuit struck down the ERP rule. It is unclear what impactthis will have on USEPA’s October 20, 2005 proposal to revise the emissionstest for existing electric generating units.  The proposed rule seekscomments on two different hourly emissions test options as well as the USEPA’scurrent method of measuring previous actual emission levels to projectedemission levels after the modification. Also available for comment is a thirdoption which tests emissions output based upon emissions per unit of energyproduced. We cannot predict the outcome of this rulemaking or its impact oncurrent environmental litigation.

 

On December 17, 2003, the USEPA proposed theInterstate Air Quality Rule (IAQR) designed to reduce and permanently capsulfur dioxide (SO2) and nitrogen oxide (NOx) emissions fromelectric utilities. The proposed IAQR focused on states, including Ohio, whosepower plant emissions are believed to be significantly contributing to fineparticle and ozone pollution in other downwind states in the eastern UnitedStates. On June 10, 2004, the USEPA issued a supplemental proposal to theIAQR, now renamed as the Clean Air Interstate Rule (CAIR). The final rules weresigned on March 10, 2005 and were published on May 12, 2005. On August 24,2005, the USEPA proposed additional revisions to the CAIR and initiatedreconsideration on one issue. On March 15, 2006, the USEPA announced it hadcompleted its review of the requests for reconsideration and determined that itwould propose no changes to CAIR and denied the requests for stay. We havedetermined that CAIR requirements will have a material effect on ouroperations, requiring the installation of FGD equipment and continual operationof the currently-installedSelective Catalytic Reduction (SCR) equipment. As aresult, we are proceeding with the installation and have begun the constructionof FGD equipment at various generating units.

 

On January 30, 2004, the USEPA published itsproposal to restrict mercury and other air toxins from coal-fired and oil-firedutility plants. The final Clean Air Mercury Rule (CAM-R) was signed March 15,2005 and was published on May 18, 2005. The final rules will have a materialeffect on our operations. We anticipate that the FGDs being planned to meet therequirements of CAIR may be adequate to meet the Phase I requirements of CAM-R.We expect that additional controls will be needed to meet the Phase IIrequirements of CAM-R that go into effect January 1, 2018. On March 29, 2005,nine states filed lawsuits against USEPA, opposing the regulatory approachtaken by USEPA. On March 31, 2005, various groups requested that USEPA stayimplementation of CAM-R. On August 4, 2005, the United States Court of Appealsfor the District of Columbia denied the motion for stay. On October 21, 2005,USEPA initiated reconsideration proceedings on a number of issues. We cannotpredict the outcome of the reconsideration proceedings on the ongoing lawsuitson this matter.

 

Under the CAIR and CAM-R cap and trade programs for SO2,NOx and mercury, we estimate we will spend more than $453 million from2006 through 2008 to install the necessary pollution controls. If CAM-Rlitigation results in plant specific mercury controls, our costs may be higher.Due to the ongoing uncertainties associated with the litigation of the CAM-R,we cannot project the final costs at this time.

 

On January 5, 2005, the USEPA published its finalnonattainment designations for the national ambient air quality standard forFine Particulate Matter 2.5 (PM 2.5) designations.  These designationsincluded counties and partial counties in which we operate and/or owngenerating facilities.  On March 4, 2005, we and other Ohio electricutilities and electric generators filed a petition for review in the D.C.Circuit Court of Appeals, challenging the final rule creating thesedesignations.  On November 30, 2005, the court ordered USEPA to decide onall petitions for reconsideration by January 20, 2006. On January 20, 2006,USEPA denied the petitions for reconsideration. The Ohio EnvironmentalProtection Agency (Ohio EPA) will have three years to develop regulations toattain and maintain compliance with the PM 2.5 national ambient air qualitystandard.  We cannot determine the outcome of the petition for review orthe effect such Ohio EPA regulations will have on its operations.

 

**RISK FACTORS**

 

Thisquarterly report and other documents that we file with the SEC and otherregulatory agencies, as well as other oral or written statements we may makefrom time to time, contain information based on management’s beliefs andinclude forward-looking statements (within the meaning of the PrivateSecurities Litigation Reform Act of 1995) that

 

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involvea number of known and unknown risks, uncertainties and assumptions. Theseforward-looking statements are not guarantees of future performance, and thereare a number of which could cause actual outcomes and results to differmaterially from the results contemplated by such forward-looking statements. Wedo not undertake any obligation to publicly update or revise anyforward-looking statements, whether as a result of new information, futureevents or otherwise. These forward-looking statements are identified by termsand phrases such as “anticipate”, “believe”, “intend”, “estimate”, “expect”, “continue”,“should”, “could”, “may”, “plan”, “project”, “predict”, “will”, and similarexpressions.

 

Acomprehensive listing of risk factors that we consider to be the mostsignificant to your decision to invest in us is provided in our most recent10-K and may be obtained as discussed on page 2, ‘Available Information.’  Any updates are provided in Part II, Item 1A “RiskFactors” of this quarterly report. If any of these events occur, our business,financial position or results of operation could be materially affected.

 

**OVERVIEW**

 

**2006Compared to 2005**

 

Ouroperating income for the first quarter of 2006 increased $24.1 million or 26%compared to the first quarter of 2005, primarily due to a higher gross marginof $31.5 million. Total revenues of $339.1 million in the first quarter of 2006exceeded total revenues for the first quarter of 2005 by $34 million or 11%resulting from increases in retail market rates, wholesale sales volume andancillary revenues associated with participation in an RTO, partially offset bylower retail sales volume and wholesale market rates. Cost of revenuesincreased $2.5 million or 2%, representing a $6.2 million increase in fuelcosts, offset by a $3.7 million decrease in purchased power costs. Operatingexpenses of $114.1 million in the first quarter of 2006 were $7.4 millionhigher compared to 2005 primarily resulting from a $5.4 million increase inoperations and maintenance costs. Interest expense decreased by $4.6 million,primarily due to greater capitalized interest and debt refinancings during thethird quarter of 2005. Other income (deductions) decreased $7.2 million, primarilydue to the $12.4 million gain recognized on the sale of pollution controlemission allowances during the first quarter of 2005. Income tax expenseincreased by $8.7 million due to increased pre-tax income partially offset by alower effective tax rate due to the phase-out of the Ohio Franchise Tax.

 

**RESULTS OF OPERATIONS**

 

**Income Statement Highlights**

 
| ** **                               | ** **       | **Three Months Ended March 31,** | ** ** |
|------------------------------------------|------------------|------------------------------------------------------|------------|
| **$ in millions**              | ** **       | **2006**                                             | ** ** | **2005** | ** ** |
|                                     |             |                                                 |       |   |   |
| Revenues                                 | ** **       | **$**                                                | **339.1**  |   | $ | 305.1 |   |
| Less:                                    | Fuel             | ** **                                           | **83.9**   |   | 77.7 |   |
|                                     | Purchased  power | ** **                                           | **25.6**   |   | 29.3 |   |
| Gross margin                             | ** **       | **$**                                                | **229.6**  |   | $ | 198.1 |   |
|                                     |             |                                                 |       |   |   |
| Gross margin as a percentage of revenues | ** **       | **67.7**                                             | **%**      | 64.9 | % |
|                                     |             |                                                 |       |   |   |
| Operating  income                        | ** **       | **$**                                                | **115.5**  |   | $ | 91.4 |   |

 

**Revenues**

 

Revenuesincreased 11% to $339.1 million in the first quarter of 2006 compared to $305.1million for the first quarter of 2005 reflecting higher average rates forretail revenues, greater wholesale sales volume and increased ancillaryrevenues associated with participation in an RTO. These increases were partiallyoffset by lower retail sales volume and lower wholesale average rates.

 

Retailrevenues increased $16.5 million in the first quarter of 2006 compared to theretail revenues in the first quarter of 2005, primarily resulting from $20.9million related to higher average rates and $0.2 million of highermiscellaneous revenues, offset by decreased sales volume of $4.6 million. Thehigher average rates were

 

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primarilythe result of higher rates charged for the rate stabilization plan, regulatedasset recovery and a change in the customer mix of sales. Wholesale revenueincreased $15.3 million, primarily related to a $18.0 million increase relatedto higher sales volume, offset by a $2.7 million decrease in average marketrates. During the first quarter of 2006, RTO ancillary revenues were $17.7million, compared to $15.5 million during the first quarter of 2005. Heatingdegree-days were down 13% to 2,514 for the first quarter of 2006 compared to2,897 for the same period in 2005.

 

**Gross Margin, Fuel and Purchased Power**

 

Grossmargin of $229.6 million in the first quarter of 2006 increased by $31.5million from $198.1 million in the first quarter of 2005. As a percentage oftotal revenues, gross margin increased by 2.8 percentage points to 67.7% from64.9%. This improvement is primarily the result of an increase in revenues,offset by increased fuel costs. Fuel costs increased by $6.2 million or 8% inthe three months ended March 31, 2006 compared to the same period in 2005primarily resulting from higher sales volumes supplied by our plants. Purchasedpower costs decreased by $3.7 million or 13% in the first quarter of 2006compared to the same period in 2005 primarily resulting from $4.8 millionrelated to lower purchase power volume and $0.2 million in lower average marketprices, offset in part by $1.3 million in increased ancillary chargesassociated with moving power.

 

**Operation and Maintenance Expense**

 

Operationand maintenance expense increased $5.4 million or 11% for the three monthsended March 31, 2006 compared to the same period in 2005 resulting from a $2.6million increase in service operations costs relating to electric lineclearance and electric system overhead and substations costs; $2.4 million inmark-to-market adjustments for restricted stock units (RSUs); a $1.7 millionincrease in injuries and damages reserves; and a $1.3 million increase inLow-Income Payment Program costs. These increases were partially offset by a$1.0 million decrease in Directors’ and Officers’ liability insurance costs.

 

**Depreciation and Amortization**

 

Depreciationand amortization increased $1.3 million in the first quarter of 2006 comparedto the first quarter of 2005 primarily reflecting a higher plant base.

 

**General Taxes**

 

Generaltaxes for the first quarter of 2006 were relatively flat compared to the firstquarter of 2005.

 

**Amortization of Regulatory Assets, net**

 

Amortizationexpense was $0.6 million higher during the first quarter of 2006 as compared tothe same period in 2005, primarily due to the amortization of regulatory assetsrelated to approval received in the first quarter of 2006 from the PublicUtilities Commission of Ohio (PUCO) to begin recovery of billing services costsand RTO administrative fees. The rate rider for the billing costs is expectedto be in place for five years, and the rate rider for the RTO administrativefees is expected to continue for three years.

 

**Investment Income**

 

Investmentincome increased $0.8 million during the first quarter of 2006 as compared tothe first quarter of 2005 primarily resulting from a $0.7 million net gain onMaster Trust investments (related to deferred compensation) and a $0.3 millionincrease in interest income earned on additional cash available for short-terminvestments.

 

## **Interest Expense**

##  

Interestexpense decreased $4.6 million or 41% in the first quarter of 2006 compared tothe first quarter of 2005, primarily relating to $2.3 million of greatercapitalized interest resulting from increased capital expenditures forpollution control equipment at the generating plants and $2.2 million of lowerinterest expense reflecting the 2005 refinancing of pollution control bonds atreduced interest rates, lower debt servicecharges associated with DPL Inc.’s early retirement of ESOP debt, andthe elimination of the interest penalty resulting from the delayed exchangeoffer registration of the 5.125% First Mortgage Bonds due 2013 that wascompleted during the second quarter of 2005. (See Note 6 of Notes toConsolidated Financial Statements.)

 

## **Other Income (Deductions)**

##  

Otherincome (deductions) for the first quarter ended March 31, 2006 decreased $7.2million compared to the first quarter ended March 31, 2005. This decrease is primarilyattributable to a $12.4 million gain realized from the sale of pollution controlemission allowances in the first quarter of 2005, as compared to no sales of suchallowances during the first quarter of 2006. This decrease was offset by $4.7million in reduced investment management fees.

 

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## **Income Tax Expense**

##  

Incometaxes increased $8.7 million reflecting higher book income offset in part by a 0.1%decrease in the effective tax rate for the first quarter of 2006 compared tothe first quarter of 2005 due primarily to the phase-out of the Ohio FranchiseTax.

 

**FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES**

 

Ourcash and cash equivalents totaled $79 million at March 31, 2006, compared to$46.2 million at December 31, 2005, a total increase of $32.8 million. Thisincrease was primarily attributed to $143.5 million in cash generated fromoperating activities, offset by $110.5 million in capital expenditures and $0.2million in dividends paid on preferred stock.

 

Wegenerated net cash from operating activities of $143.5 million and $115 millionfor the first quarter of 2006 and 2005, respectively. The net cash provided byoperating activities in both quarters was primarily the result of operatingprofitability, and by cash provided by certain assets and liabilities. Thetariff-based revenue from our business continues to be the principal source ofcash from operating activities. Management believes that the diversified retailcustomer mix of residential, commercial, and industrial classes provides uswith a reasonably predictable cash flow from utility operations.

 

Netcash flows used for investing activities were $110.5 million in the firstquarter of 2006 and $42.7 million in the first quarter of 2005 to providefunding for capital expenditures.

 

Netcash flows used for financing activities were $0.2 million in the first quarterof 2006 compared to $75.2 million in the first quarter of 2005. Net cash flowsused for financing activities for each of these periods were to pay dividends onpreferred stock and, for 2005, to pay dividends on common stock to our parentcompany.

 

Wehave obligations to make future payments for capital expenditures, debtagreements, lease agreements and other long-term purchase obligations, and havecertain other contingent commitments. We believe our cash flows fromoperations, the credit facilities (existing or future arrangements), and othershort- and long-term debt financing, will be sufficient to satisfy our futureworking capital, capital expenditures and other financing requirements for theforeseeable future. Our ability to generate positive cash flows from operationsis dependent on general economic conditions, competitive pressures, and otherbusiness and risk factors.  If we are unableto generate sufficient cash flows from operations, or otherwise comply with theterms of our credit facilities and long-term debt, we may be required torefinance all or a portion of our existing debt or seek additional financingalternatives. A discussion of each of our critical liquidity commitments isoutlined below.

 

**Capital Requirements**

 

Capital expenditures were $110.5 million and $42.7 million for thefirst quarter of 2006 and 2005, respectively, and are expected to approximate anaggregate amount of $360 million in 2006. Planned construction additions for2006 primarily relate to our environmental compliance program, power plantequipment, and our transmission and distribution system.

 

Capital projects are subject to continuingreview and are revised in light of changes in financial and economicconditions, load forecasts, legislative and regulatory developments andchanging environmental standards, among other factors. Over the next threeyears, we are projecting to spend an estimated $745 million in capitalprojects, approximately 61% of which is to meet changing environmentalstandards. Our ability to complete our capital projects and the reliability offuture service will be affected by our financial condition, the availability ofinternal and external funds at reasonable cost, and adequate and timely returnon these capital investments. We expect to finance our construction additionsin 2006 with a combination of cash and short-term investments on hand,tax-exempt debt and internally-generated funds.

 

**Debt and Debt Covenants**

 

At March 31, 2006, our scheduled maturitiesof long-term debt, including capital lease obligations, over the next fiveyears are $0.7 million for the remainder of 2006, $0.9 million in 2007, $0.7million in 2008, $0.7 million in 2009 and $0.7 million in 2010. Substantiallyall of our property is subject to the mortgage lien securing the first mortgagebonds. Debt maturities in 2006 are expected to be financed with internal funds.Certain debt agreements contain reporting and financial covenants for which weare in compliance as of March 31, 2006 and expect to be in compliance duringthe near term.

 

Issuance of additional amounts of first mortgagebonds is limited by the provisions of our mortgage; however, managementbelieves that we continue to have sufficient capacity to issue first mortgage bondsto satisfy our

 

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requirements in connection with our constructionprograms. The amounts and timing of future financings will depend upon marketand other conditions, interest rate increases, levels of electric sales andconstruction plans.

 

Wehave a $100 million unsecured revolving credit agreement that is renewableannually and expires on May 30, 2010. This facility may be increased up to $150million. The facility contains one financial covenant: our total debt to totalcapitalization ratio is not to exceed 0.65 to 1.00. This covenant is currentlymet. We had no outstanding borrowings under this credit facility at March 31,2006. Fees associated with this credit facility are approximately $0.2 millionper year. Changes in credit ratings, however, may affect the applicableinterest rate for our revolving credit agreement.

 

During the first quarter of 2006, the Ohio Air QualityDevelopment Authority (OAQDA) awarded us the ability to issue over the next threeyears up to $200 million of qualified tax-exempt financing from the OAQDA’s2005 volume cap carryforward. The financing is expected to be used to partiallyfund the ongoing FGD projects.

 

OnFebruary 17, 2006, we renewed our $10 million Master Letter of CreditAgreement for one year with a financial lending institution. This agreementsupports performance assurance needs in the ordinary course of business. Wehave certain contractual agreements for the sale and purchase of power, fueland related energy services that contain credit rating related clauses allowingthe counter parties to seek additional surety under certain conditions. As of March31, 2006, we had two outstanding letters of credit for a total of $2.2 million.

 

Thereare no inter-company debt collateralizations or debt guarantees between us andour parent. None of our debt obligations are guaranteed or secured byaffiliates and no cross-collateralization exists between any subsidiaries.

 

**Credit Ratings**

 

Currently,our senior secured debt credit ratings are as follows:

 
| ** **                        | ** ** | **Rating** | ** ** | **Outlook**                        | ** ** | **Effective** | ** ** |
|-----------------------------------|------------|------------|------------|------------------------------------|------------|---------------|------------|
|                              |       |       |       |                               |       |          |       |
| Fitch  Ratings (a)                |       | A          |       | Stable                             |       | April  2006   |       |
|                              |       |       |       |                               |       |          |       |
| Moody’s  Investors Service   |       | Baa1       |       | Under  review for possible upgrade |       | April  2006   |       |
|                              |       |       |       |                               |       |          |       |
| Standard  & Poor’s Corp. |       | BBB-       |       | Positive                           |       | April  2005   |       |

 

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(a) Upgraded in April of 2006

 

**Off-Balance Sheet Arrangements**

 

We do not have any off-balance sheetarrangements that have or are reasonably likely to have a current or futureeffect on our financial condition, revenues or expenses, results of operations,liquidity, capital expenditures or capital resources that are material toinvestors.

 

**Contractual and Commercial Commitments**

 

Weenter into various contractual and other long-term obligations that may affectthe liquidity of our operations. At March 31, 2006, these include:

 

**Long Term Obligations**

 
| ** **                           | ** ** | ** ** | ** ** | **Payment Year**           | ** ** |
|--------------------------------------|------------|------------|------------|---------------------------------|------------|
| **$ in millions**          | ** ** | **Total**  | ** ** | **Less Than 1  Year** | ** ** | **2 - 3 Years** | ** ** | **4 - 5 Years** | ** ** | **More than  5 Years** | ** ** |
|                                 |       |       |       |                            |       |   |   |   |   |   |   |
| Long-term  debt                      |       | $          | 682.9      |                            | $          | — |   | $ | — |   | $ | — |   | $ | 682.9 |   |
| Interest  payments                   |       | 463.9      |       | 34.3                            |       | 68.7 |   | 68.7 |   | 292.2 |   |
| Pension and  postretirement payments |       | 260.2      |       | 17.1                            |       | 46.3 |   | 47.4 |   | 149.4 |   |
| Capital  leases                      |       | 3.7        |       | 0.9                             |       | 1.7 |   | 1.1 |   | — |   |
| Operating  leases                    |       | 0.9        |       | 0.5                             |       | 0.4 |   | — |   | — |   |
| Fuel and  limestone contracts (a)    |       | 755.1      |       | 291.5                           |       | 279.0 |   | 97.5 |   | 87.1 |   |
| Other  long-term obligations         |       | 550.2      |       | 376.7                           |       | 167.6 |   | 5.9 |   | — |   |
| Total  long-term obligations         |       | $          | 2,716.9    |                            | $          | 721.0 |   | $ | 563.7 |   | $ | 220.6 |   | $ | 1,211.6 |   |

 

----

(a)DP&L operated units

 

23

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Long-term debt:

Long-termdebt as of March 31, 2006, consists of our first mortgage bonds and tax-exemptpollution control bonds and includes an unamortized debt discount. (See Note 6of Notes to Consolidated Financial Statements.)

 

Interest payments:

Interestpayments associated with the long-term debt described above.

 

Pension and postretirement payments:

Asof March 31, 2006, we had estimated future benefit payments as outlined in Note4 of Notes to Consolidated Financial Statements. These estimated future benefitpayments are projected through 2016.

 

Capital leases:

Asof March 31, 2006, we had two capital leases that expire in November 2007 andSeptember 2010.

 

Operating leases:

Asof March 31, 2006, we had several operating leases with various terms andexpiration dates. Not included in this total is approximately $88,000 per yearrelated to right-of-way agreements that are assumed to have no definiteexpiration dates.

 

Fuel and limestone contracts:

Wehave entered into various long-term coal contracts to supply portions of ourcoal requirements for our generating plants and a long-term contract to supplylimestone for the operation of our FGDs. Coal contract prices are subject toperiodic adjustment, and have features that limit price escalation in any givenyear. Our long-term barge transportation agreement will expire August 31, 2006;however, we are in the process of finalizing the terms for our new agreementand expect to conclude this process by the end of the second quarter of 2006.

 

Other contractual obligations:

Asof March 31, 2006, we had various other contractual obligations includingnon-cancelable contracts to purchase goods and services with various terms andexpiration dates.

 

Weenter into various commercial commitments, which may affect the liquidity ofour operations. At March 31, 2006, these include:

 

Credit facilities:

Wehave a $100 million, 364-day unsecured credit facility that is renewableannually and expires on May 30, 2010. At March 31, 2006, there were noborrowings outstanding under this credit agreement. The new facility may beincreased up to $150 million.

 

Guarantee:

We own a 4.9% equity ownership interestin an electric generation company. As of March 31, 2006, we could beresponsible for the repayment of 4.9%, or $21.8 million, of a $445 million debtobligation that matures in 2026.

 

**MARKET RISK**

 

As a result of our operating, investing andfinancing activities, we are subject to certain market risks, including fluctuationsin interest rates and changes in commodity prices for electricity, coal,environmental emissions and gas. Commodity pricing exposure includes theimpacts of weather, market demand, potential coal supplier contract breaches ordefaults, increased competition and other economic conditions. For purposes ofpotential risk analysis, we use sensitivity analyses to quantify potentialimpacts of market rate changes on the results of operations. The sensitivityanalysis represents hypothetical changes in market values that may or may notoccur in the future.

 

**Commodity Pricing Risk**

 

Approximately21% of our first quarter 2006 revenues were from sales of excess energy andcapacity in the wholesale market. Energy and capacity in excess of the needs ofexisting retail customers are sold in the wholesale market when we can identifyopportunities with positive margins. As of March 31, 2006, a hypotheticalincrease or decrease of 10% in annual wholesale revenues could result inapproximately a $17 million increase or decrease to net income, assuming no increasesor decreases in fuel and purchased power costs.

 

24

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Fuel(including coal, gas, oil and emission allowances) and purchased power costs asa percent of total revenues in 2006 and 2005 were 32% and 35%, respectively. Wehave approximately 95% of the total expected coal volume needed for 2006 undercontract. The percentage of coal under contract at our individual facilities isas low as 90%. Contracted coal volumes at certain facilities exceed 100% of theexpected need. Due to the differences in contracted volumes at variousfacilities, it is expected we will be in the spot market for more than 5% ofour 2006 coal volume at some facilities while we may make no spot purchases atother facilities. We may have excess coal volumes to meet 2007 needs at somefacilities. The majority of our contracted coal is purchased at fixed prices. Somecontracts provide for periodic adjustment and some are priced based on marketindices. Substantially all contracts have features that limit price escalationsin any given year. Our 2006 emission allowance (SO2) consumption isexpected to be similar to 2005.  Our holdings of 2006 SO2allowances are approximately equal to our expected needs.  There may besmall exchanges of allowances between 2006 and future years to balance our2006 position.  We do not expect to purchase allowances outright for 2006.The exact consumption of SO2 allowances will depend on market pricesfor power, availability of our generating units and the actual sulfur contentof the coal burned. Fuel costs are impacted by changes in volume and price andare driven by a number of variables including weather, reliability of coaldeliveries, scheduled outages and generation plant mix.  Based on weathernormalized sales, fuel costs are forecasted to be flat in 2006 compared to 2005and are forecasted to increase approximately 5% in 2007 compared to 2006. Thisforecast assumes coal prices will increase approximately 10% in 2006 ascompared to 2005 and remain flat in 2007 as compared to 2006.

 

Purchasedpower costs depend, in part, upon the timing and extent of planned andunplanned outages of our generating capacity. We will purchase power on adiscretionary basis when wholesale market conditions provide opportunities toobtain power at a cost below our internal production costs. As of March 31,2006, a hypothetical increase or decrease of 10% in annual fuel and purchasedpower costs, excluding RTO services, could result in approximately a $24million increase or decrease to net income.

 

**Interest Rate Risk**

 

Asa result of our normal borrowing and leasing activities, our results areexposed to fluctuations in interest rates, which we manage through our regularfinancing activities. We maintain both cash on deposit and investments in cashequivalents that may be affected by interest rate fluctuations. Our long-termdebt represents publicly-held secured notes with fixed interest rates. At March31, 2006, we had no short-term borrowings.

 

Thecarrying value of our debt was $686.6 million at March 31, 2006, consisting of ourfirst mortgage bonds, our tax-exempt pollution control bonds and our capitalleases. The fair value of this debt was $676.0 million, based on current marketprices or discounted cash flows using current rates for similar issues with similarterms and remaining maturities. The principal cash repayments and relatedweighted average interest rates by maturity date for long-term, fixed-rate debtat March 31, 2006, are as follows:

 
| ** **            | ** ** | **Contractual Debt**     | ** ** |
|-----------------------|------------|--------------------------|------------|
| **Expected Maturity** | ** ** | **Amount**               | ** ** | ** ** | ** ** |
| **Date**              | ** ** | **($ in millions)** | ** ** | **Average Rate** | ** ** |
|                  |       |                     |       |   |   |
| 2006                  | ** ** | **$**                    | **0.7**    |   | 5.3 | % |
| 2007                  | ** ** | **0.9**                  |       | 5.3 | % |
| 2008                  | ** ** | **0.7**                  |       | 5.8 | % |
| 2009                  | ** ** | **0.7**                  |       | 5.8 | % |
| 2010                  | ** ** | **0.7**                  |       | 5.8 | % |
| Thereafter            | ** ** | **682.9**                |       | 5.0 | % |
| Total                 | ** ** | **$**                    | **686.6**  | ** ** | ** ** | ** ** |
|                  |       |                     |       |   |   |
| Fair Value            | ** ** | **$**                    | **676.0**  | ** ** | ** ** | ** ** |

 

Debtmaturities in 2006 are expected to be financed with internal funds.

 

25

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**CRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

Weprepare our consolidated financial statements in accordance with accountingprinciples generally accepted in the United States of America (GAAP). Theconsolidated financial statements include the accounts of DP&L and our majority-ownedsubsidiaries. Investments that are not majority owned are accounted for usingthe equity method when our investment allows us the ability to exertsignificant influence, as defined by GAAP. Undivided interests in jointly-ownedgeneration facilities are consolidated on a pro rata basis. All materialintercompany accounts and transactions are eliminated in consolidation.

 

Thepreparation of financial statements in conformity with GAAP requires us to makeestimates and judgments that affect the reported amounts of assets andliabilities, the disclosure of contingent assets and liabilities at the date ofthe financial statements and the revenue and expenses of the period reported. Differentestimates could have a material effect on our financial results. Judgments anduncertainties affecting the application of these policies and estimates mayresult in materially different amounts being reported under differentconditions or circumstances. Significant items subject to such estimates andjudgments include the carrying value of property, plant and equipment; unbilledrevenues; the valuation of derivative instruments; valuation allowances forreceivables and deferred income taxes; reserves recorded for income taxexposures; litigation; and assets and liabilities related to employee benefits.Actual results may differ from those estimates. Refer to our 2005 annual reporton Form 10-K for a complete listing of our critical accounting policies andestimates.

 

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**THE DAYTON POWER AND LIGHT COMPANY**

**OPERATING STATISTICS**

 
| ** **                           | ** ** | **Three Months Ended** | ** **  |
|--------------------------------------|------------|----------------------------------|-------------|
| ** **                           | ** ** | **March 31,**               | ** **  |
| ** **                           | ** ** | **2006**                         | ** **  | **2005** | ** ** |
|                                 |       |                             |        |   |   |
| Sales  (millions of kWh)             |       |                             |        |   |   |
|                                 |       |                             |        |   |   |
| Residential                          | ** ** | **1,468**                        |        | 1,535 |   |
| Commercial                           | ** ** | **893**                          |        | 885 |   |
| Industrial                           | ** ** | **988**                          |        | 1,010 |   |
| Other retail                         | ** ** | **338**                          |        | 331 |   |
| Total retail                         | ** ** | **3,687**                        |        | 3,761 |   |
|                                 |       |                             |        |   |   |
| Wholesale                            | ** ** | **819**                          |        | 617 |   |
|                                 |       |                             |        |   |   |
| Total sales                          | ** ** | **4,506**                        |        | 4,378 |   |
|                                 |       |                             |        |   |   |
| Revenues ($ in  thousands)      |       |                             |        |   |   |
|                                 |       |                             |        |   |   |
| Residential                          | ** ** | **$**                            | **130,631** |   | $ | 125,932 |   |
| Commercial                           | ** ** | **65,890**                       |        | 57,174 |   |
| Industrial                           | ** ** | **30,835**                       |        | 29,784 |   |
| Other retail                         | ** ** | **20,669**                       |        | 18,884 |   |
| Other  miscellaneous revenues        | ** ** | **2,984**                        |        | 2,782 |   |
| Total retail                         | ** ** | **251,009**                      |        | 234,556 |   |
|                                 |       |                             |        |   |   |
| Wholesale                            | ** ** | **70,360**                       |        | 55,061 |   |
|                                 |       |                             |        |   |   |
| RTO  ancillary revenues              | ** ** | **17,704**                       |        | 15,502 |   |
|                                 |       |                             |        |   |   |
| Total  revenues                      | ** ** | **$**                            | **339,073** |   | $ | 305,119 |   |
|                                 |       |                             |        |   |   |
| Electric  customers at end of period | ** ** | **514,380**                      |        | 511,180 |   |

 

 

# **Item3. Quantitative and Qualitative Disclosures about Market Risk**

 

Seethe “Market Risk” section of Item 2.

 

**Item 4. Controls and Procedures**

 

Our Chief Executive Officer(CEO) and Chief Financial Officer (CFO) are responsible for establishing andmaintaining our disclosure controls and procedures. These controls and procedureswere designed to ensure that material information relating to us and oursubsidiaries are communicated to the CEO and CFO. We evaluated these disclosurecontrols and procedures as of the end of the period covered by this report withthe participation of our CEO and CFO. Based on this evaluation, our CEO and CFOconcluded that our disclosure controls and procedures are effective (i) toensure that information required to be disclosed by us in the reports that wefile or submit under the Exchange Act is recorded, processed, summarized andreported, within the time periods specified in the SEC’s rules and forms and(ii) to ensure that information required to be disclosed by us in the reportsthat we submit under the Exchange Act is accumulated and communicated to ourmanagement, including our principal executive and principal financial officers,or persons performing similar functions, as appropriate, to allow timelydecisions regarding required disclosure.

 

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**Part II. Other Information**

 

**Item 1. Legal Proceedings**

 

On August 24, 2004, we, DPL and MVE filed aComplaint against Peter H. Forster, formerly DPL’s Chairman; Caroline E.Muhlenkamp, formerly DPL’s Group Vice President and interim Chief FinancialOfficer; and Stephen F. Koziar, formerly DPL’s Chief Executive Officer andPresident (collectively, the Defendants) in the Court of Common Pleas ofMontgomery County, Ohio asserting legal claims against them relating to thetermination of the Valley Partners Agreements, challenging the validity of thepurported amendments to the deferred compensation plans and to the employmentand consulting agreements with the Defendants, and the propriety of thedistributions from the plans to the Defendants, and alleging that theDefendants breached their fiduciary duties and breached their consulting andemployment contracts. We, DPL and MVE seek, among other things, damages inexcess of $25,000, disgorgement of all amounts improperly withdrawn by theDefendants from the plans and a court order declaring that we, DPL and MVE haveno further obligations under the consulting and employment contracts due tothose breaches.

 

The Defendants filed motions to dismiss theComplaint, which the Court subsequently denied. On June 15, 2005, Defendantsfiled their answers denying liability and filed counterclaims against us, DPL,MVE, various compensation plans (the Plans), and against the then-currentmembers of our Board of Directors and two of our former Board members. Thesecounterclaims allege generally that we, DPL, MVE, the Plans and the individualdefendants breached the terms of the employment and consulting contracts of theDefendants, and the terms of the Plans. They further allege theories of breachof fiduciary duty, breach of contract, promissory estoppel, tortiousinterference, conversion, replevin and violations of ERISA under which theyseek distribution of deferred compensation balances, conversion of stockincentive units, exercise of options and payment of amounts allegedly owedunder the contracts and the Plans. Defendants’ counterclaims also demandpayment of attorneys’ fees.

 

On March 15, 2005, Mr. Forster and Ms.Muhlenkamp filed a lawsuit in New York state court against the purchasers ofthe private equity investments in DPL Inc.’s financial asset portfolio andagainst outside counsel to us and DPL concerning purported entitlements inconnection with the purchase of those investments. We, DPL and MVE are notdefendants in that case; however, the three of us are parties to anindemnification agreement with respect to the purchaser defendants. We, DPL andMVE filed a Motion for Preliminary Injunction in the Ohio case, requesting thatthe court issue a preliminary injunction against Mr. Forster and Ms. Muhlenkampregarding the New York lawsuit. On August 18, 2005, the Ohio court issued apreliminary injunction against Mr. Forster and Ms. Muhlenkamp that precludesthem from pursuing certain key issues raised by Mr. Forster and Ms. Muhlenkampin their New York lawsuit that are identical to the issues raised in thepending Ohio lawsuit in the New York court or any other forum other than theOhio litigation. In addition, the New York court has stayed the New Yorklitigation pending the outcome of the Ohio litigation. Mr. Forster and Ms.Muhlenkamp have appealed the preliminary injunction and the appeal is pendingat the Ohio Supreme Court. The parties continue to proceed with the discoveryphase of the litigation, and a number of motions have been filed and briefedwith respect to document discovery and depositions.

 

We continue to evaluate all of the matters relevant tothis litigation and are considering other claims against Defendants Forster,Muhlenkamp and Koziar that include, but are not limited to, breach of fiduciaryduty or other claims relating to personal and DPL investments, the calculationof benefits under the Supplemental Executive Retirement Program (SERP) andfinancial reporting with respect to such benefits, and with respect to Mr.Koziar, the fulfillment of duties owed to us as our legal counsel. Cumulativelythrough March 31, 2006, we have accrued for accounting purposes, obligations ofapproximately $52 million to reflect claims regarding deferred compensation,estimated MVE incentives and/or legal fees that Defendants assert are payableper contracts. We dispute Defendants’ entitlement to any of those sums and, asnoted above, we are pursuing litigation against them contesting all suchclaims.

 

Onor about June 24, 2004, the SEC commenced a formal investigation into issuesraised as a result of previously disclosed matters brought up by one of ourexecutives during the 2003 year-end financial closing process (the Memorandum).We are cooperating with the investigation.

 

OnMay 28, 2004, the U.S. Attorney’s Office for the Southern District of Ohio,assisted by the Federal Bureau of Investigation, notified us that it hasinitiated an inquiry involving the subject matters covered by our internalinvestigation. We are cooperating with this investigation.

 

OnJune 24, 2004, the Internal Revenue Service (IRS) began an audit of tax years1998 through 2003 and issued a series of data requests to us including issuesraised in the Memorandum. The staff of the IRS has

 

28

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requestedthat we provide certain documents, including but not limited to, mattersconcerning executive/director deferred compensation plans, management stockincentive plans and MVE financial statements. On September 1, 2005, the IRSissued an audit report for tax years 1998 through 2003 that shows proposedchanges to our federal income tax liability for each of those years. Theproposed changes result in a total tax deficiency, penalties and interest ofapproximately $23.9 million. On November 4, 2005, we filed a written protest toone of the proposed changes. On April 3, 2006, the IRS agreed to revise its auditreport for tax years 1998 through 2003. The revised audit report resulted in atotal tax deficiency, penalties and interest of approximately $1.2 million. Wehad previously made a deposit with the IRS of approximately $1.3 million thatwe requested on April 14, 2006 be applied to offset the $1.2 million taxdeficiency, penalties and interest for tax years 1998 through 2003. We believethat once the Joint Committee completes its review of the revised audit reportfor tax years 1998 through 2003 that we will receive a Closing Agreement fromthe IRS and will have no further exposure for these tax years.

 

OnFebruary 13, 2006, we received correspondence from the Ohio Department ofTaxation (ODT) notifying us that ODT has completed their examination and reviewof our Ohio Corporation Franchise Tax Returns for tax years 2002 through 2004and that the final proposed audit adjustments result in a balance due of $90.8million before interest and penalties. We have reviewed the proposed auditadjustments and are vigorously contesting the ODT findings and notice ofassessment through all administrative and judicial means available. On March29, 2006, we filed petitions for reassessment with the ODT to protest eachassessment as well as request corrected assessments for each tax year. Webelieve we have recorded adequate tax reserves related to the proposedadjustments; however, we cannot predict the outcome, which could be material toour results of operations and cash flows.

 

Weare also under audit review by various state agencies for tax years 2002through 2004. We have also filed an appeal to the Ohio Board of Tax Appeals fortax years 1998 through 2001. Depending upon the outcome of these audits and theappeal, we may be required to increase our tax provision if actual amountsultimately determined exceed recorded reserves. We believe we have adequatereserves in each tax jurisdiction but cannot predict the outcome of theseaudits.

 

InJune 2002, a contractor’s employee received a verdict against DP&L forinjuries he sustained while working at a DP&L power station. The AdamsCounty Court of Common Pleas awarded the contractor’s employee compensatorydamages of approximately $0.8 million and prejudgment interest of approximately$0.6 million. On April 28, 2004, the 4th District Court of Appeals upheld thisverdict except the award for prejudgment interest. On September 1, 2004, theOhio Supreme Court refused to hear the case, so the matter was remanded to theAdams County Court of Common Pleas for a re-determination of the amount ofprejudgment interest that should be awarded. The trial court heard this matteron October 15, 2004. On November 1, 2004, DP&L paid approximately $976thousand to the contractor’s employee to satisfy the judgment and post-judgmentinterest. On December 6, 2004, the Adams County Court of Common Pleas ruledthat prejudgment interest should be reduced to approximately $30 thousand. Bothparties appealed this decision. On January 25, 2006, the Fourth District Courtof Appeals ruled in DP&L’s favor, finding it owed no prejudgment interestto Plaintiff. The parties have settled the prejudgement interest matter for anominal amount.

 

**Item 1A. Risk Factors**

 

Acomprehensive listing of risk factors that we consider to be the mostsignificant to your decision to invest in us is provided in our most recent AnnualReport on Form 10-K and may be obtained as discussed on page 2, ‘AvailableInformation.’  If any of these eventsoccur, our business, financial position or results of operation could bematerially affected. The following risk factors are additions to our 2005Annual Report on Form 10-K discussion on risk factors.

 

Greenhousegas (GHG) emissions, consisting primarily of carbon dioxide emissions, arepresently unregulated. Numerous bills have been introduced in Congress toregulate GHG emissions, but to date none have passed. Future regulation of GHGemissions is uncertain. However, such regulation would be expected to imposecosts on our operations. Such costs could include measures as advanced byvarious constituencies, including a carbon tax; investments in energyefficiency; installation of CO2 emissions control technology, to theextent such technology exists; purchase of emission allowances, should atrading mechanism be developed; or the use of higher cost, lower CO2emitting fuels. We will continue to make prudent investments in energyefficiency that reduces our GHG emissions intensity.

 

In August of 2006, an electric supply contract with Wright PattersonAir Force Base (WPAFB) is set to expire. WPAFB represents approximately 1% ofour annual revenues. It is unknown at this time whether WPAFB will choose toreturn to our standard offer rate or choose to bid out their electric supply;however, we do not anticipate a material impact on our results of operations.

 

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

 

Therewere no submissions to the security holder in the first quarter.

 

29

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**Item 5. Other Information**

 

None

 

**Item 6. Exhibits**

 
| 10.1   |   | DPL Inc. Executive Incentive Compensation Plan (Filed  as Exhibit 10.1 to the Company’s Current Report on Form 8-K/A filed on March  2, 2006, file #1-9052)                                                                                       |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                   |
| 10.2   |   | DPL Inc. 2006 Equity and Performance Incentive Plan (Filed  as Exhibit 10.2 to the Company’s Current Report on Form 8-K/A filed on March  2, 2006, file #1-9052)                                                                                  |
|   |   |                                                                                                                                                                                                                                                   |
| 10.3   |   | Form of Performance Shares Agreement (Filed as Exhibit  10.3 to the Company’s Current Report on Form 8-K/A filed on March 2, 2006,  file #1-9052)                                                                                                 |
|   |   |                                                                                                                                                                                                                                                   |
| 10.4   |   | DPL Inc. Severance Pay and Change of Control Plan (Filed  as Exhibit 10.4 to the Company’s Current Report on Form 8-K/A filed on March  2, 2006, file #1-9052)                                                                                    |
|   |   |                                                                                                                                                                                                                                                   |
| 10.5   |   | DPL Inc. Supplemental Executive Defined Contribution Retirement Plan  (Filed as Exhibit 10.5 to the Company’s Current Report on Form  8-K/A filed on March 2, 2006, file #1-9052)                                                                 |
|   |   |                                                                                                                                                                                                                                                   |
| 10.6   |   | Participant Agreement and Waiver among DPL Inc., The Dayton Power and  Light Company and Patricia K. Swanke, dated February 28, 2006 (Filed  as Exhibit 10.6 to the Company’s Current Report on Form 8-K/A filed on March  2, 2006, file #1-9052) |
|   |   |                                                                                                                                                                                                                                                   |
| 10.7   |   | Participant Agreement and Waiver among DPL Inc., The Dayton Power and  Light Company and W. Steven Wolff, dated February 24, 2006 (Filed  as Exhibit 10.7 to the Company’s Current Report on Form 8-K/A filed on March  2, 2006, file #1-9052)    |
|   |   |                                                                                                                                                                                                                                                   |
| 10.8   |   | Participant Agreement and Waiver among DPL Inc., The Dayton Power and  Light Company and James V. Mahoney, dated March 7, 2006 (Filed  as Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on March  10, 2006, file #1-9052)        |
|   |   |                                                                                                                                                                                                                                                   |
| 10.9   |   | Participant Agreement and Waiver among DPL Inc., The Dayton Power and  Light Company and Arthur G. Meyer, dated March 6, 2006 (Filed  as Exhibit 10.2 to the Company’s Current Report on Form 8-K filed on March  10, 2006, file #1-9052)         |
|   |   |                                                                                                                                                                                                                                                   |
| 31.1   |   | Certification of Chief Executive Officer pursuant to Section 302 of  the Sarbanes Oxley Act of 2002                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                   |
| 31.2   |   | Certification of Chief Financial Officer pursuant to Section 302 of  the Sarbanes Oxley Act of 2002                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                   |
| 32     |   | Certification pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                               |

 

30

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**SIGNATURES**

 

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 

 
|   |        |   | **THE DAYTON POWER AND LIGHT  COMPANY**                 |   |
|--------|-------------|--------|---------------------------------------------------------|--------|
|   |        |   | (Registrant)                                            |   |
|   |        |   |                                                    |   |
|   |        |   |                                                    |   |
| Date:  | May 3, 2006 |   | /s/ James V.  Mahoney                                   |   |
|   |        |   | James V.  Mahoney                                       |   |
|   |        |   | President  and Chief Executive Officer                  |   |
|   |        |   | (principal  executive officer)                          |   |
|   |        |   |                                                    |   |
|   |        |   |                                                    |   |
|   | May 3, 2006 |   | /s/  John  J. Gillen                               |   |
|   |        |   | John J.  Gillen                                         |   |
|   |        |   | Senior Vice  President and Chief Financial Officer      |   |
|   |        |   | (principal  financial and principal accounting officer) |   |
|   |        |   |                                                    |   |
|   |        |   |                                                    |   |
|   | May 3, 2006 |   | /s/ Daniel  L. Thobe                                    |   |
|   |        |   | Daniel L.  Thobe                                        |   |
|   |        |   | Corporate  Controller                                   |   |

 

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