<PAGE>

================================================================================

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

                                  FORM 10-Q/A

                                AMENDMENT NO. 1

[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
    Act of 1934

                 For the quarterly period ended June 30, 2002

[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities
    Exchange Act of 1934

              For the transition period from          to

                       Commission file number: 000-29311

                             DYNEGY HOLDINGS INC.
            (Exact name of registrant as specified in its charter)

                 Delaware                         94-3248415
      (State or other jurisdiction of (I.R.S. Employer Identification No.)
      incorporation or organization)

                1000 Louisiana, Suite 5800 Houston, Texas 77002
              (Address of principal executive offices) (Zip Code)

                                (713) 507-6400
             (Registrant's telephone number, including area code)

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

   All outstanding equity shares of Dynegy Holdings Inc. are held by its
parent, Dynegy Inc.

================================================================================

<PAGE>

                             DYNEGY HOLDINGS INC.

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                                     Page
                                                                                     ----
<S>                                                                                  <C>
Part I.  Financial Information
 Item 1.  Condensed Consolidated Financial Statements (Unaudited and Restated):
 Condensed Consolidated Balance Sheets:
   June 30, 2002 and December 31, 2001..............................................   3
 Condensed Consolidated Statements of Operations:
   For the three months ended June 30, 2002 and 2001................................   4
 Condensed Consolidated Statements of Operations:
   For the six months ended June 30, 2002 and 2001..................................   5
 Condensed Consolidated Statements of Cash Flows:
   For the six months ended June 30, 2002 and 2001..................................   6
 Notes to Condensed Consolidated Financial Statements...............................   7
 Item 2.  Management's Discussion and Analysis of Financial Condition and Results of
   Operations.......................................................................  40
 Item 3.  Quantitative and Qualitative Disclosures About Market Risk................  68

Part II.  Other Information
 Item 1.  Legal Proceedings.........................................................  69
 Item 6.  Exhibits and Reports on Form 8-K..........................................  69
</TABLE>

                               INTRODUCTORY NOTE

   Dynegy Holdings Inc. ("Dynegy") is filing this Amendment No. 1 on Form
10-Q/A ("Amendment No. 1") to reflect restatements relating to its audited
consolidated financial statements as of December 31, 2001 and its unaudited
condensed consolidated financial statements for the three- and six-month
periods ended June 30, 2002 and 2001. These financial statements were
previously included in Dynegy's Quarterly Report on Form 10-Q for the quarter
ended June 30, 2002, which was originally filed with the SEC on August 14, 2002
(the "Original Filing"). These financial statements and the other financial
information included in the Original Filing have been revised to reflect the
restatement items described in the Explanatory Note to the accompanying
unaudited condensed consolidated financial statements. Revised financial
information for the periods presented reflecting these restatements was
previously included in Dynegy's Annual Report on Form 10-K for the fiscal year
ended December 31, 2001, which was amended by Amendment No. 1 thereto filed
with the SEC on April 16, 2003 (the "2001 Form 10-K/A"), and Dynegy's Annual
Report on Form 10-K for the fiscal year ended December 31, 2002, which also was
filed with the SEC on April 16, 2003 (the "2002 Form 10-K"). The restated
financial and other information in this Amendment No. 1 should be read together
with the 2001 Form 10-K/A and the 2002 Form 10-K. Certain of the balance sheet
and cash flow data included in this Amendment No. 1 has been revised from the
comparable data included in Note 19--Quarterly Financial Information
(Unaudited) beginning on page F-66 of the 2002 Form 10-K. This revised data,
which reflects minor corrections for errors, should be read to replace and
supersede the data previously included in the 2002 Form 10-K. In addition to
the restatements described elsewhere herein, this Amendment No. 1 also includes
certain other revisions to the Original Filing.

   PLEASE NOTE THAT THE INFORMATION CONTAINED IN THIS AMENDMENT NO. 1,
INCLUDING THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND THE
NOTES THERETO, DOES NOT REFLECT EVENTS OCCURRING AFTER AUGUST 14, 2002 (THE
DATE OF THE ORIGINAL FILING). FOR A DESCRIPTION OF THESE EVENTS, PLEASE READ
DYNEGY'S EXCHANGE ACT REPORTS FILED SINCE AUGUST 14, 2002, INCLUDING ITS ANNUAL
REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002. SEE NOTE
14--SUBSEQUENT EVENTS FOR FURTHER DISCUSSION.

                                      2

<PAGE>

                             DYNEGY HOLDINGS INC.

               CONDENSED CONSOLIDATED BALANCE SHEETS (RESTATED)

                      SEE EXPLANATORY NOTE--RESTATEMENTS
                           (unaudited) (in millions)

<TABLE>
<CAPTION>
                                                                                     June 30,   December 31,
                                                                                       2002         2001
                                                                                     --------   ------------
<S>                                                                                  <C>        <C>
                                       ASSETS
Current Assets
Cash and cash equivalents........................................................... $   322     $   144
Accounts receivable, net of allowance for doubtful accounts of $114 million and $108
  million, respectively.............................................................   3,154       2,969
Accounts receivable, affiliates.....................................................      59          37
Inventory...........................................................................     241         201
Assets from risk-management activities..............................................   4,547       3,945
Prepayments and other assets........................................................     417       1,373
                                                                                     -------      -------
       Total Current Assets.........................................................   8,740        8,669
                                                                                     -------      -------
Property, Plant and Equipment.......................................................   9,815        7,581
Accumulated depreciation............................................................    (973)        (814)
                                                                                     -------      -------
       Property, Plant and Equipment, Net...........................................   8,842        6,767
Other Assets
Investments in unconsolidated affiliates (Note 9)...................................     818         803
Accounts receivable, affiliate......................................................                 185
Assets from risk-management activities..............................................   4,257       2,212
Goodwill............................................................................   1,625         773
Other assets........................................................................     502         269
                                                                                     -------      -------
       Total Assets................................................................. $24,784      $19,678
                                                                                     =======      =======
                        LIABILITIES AND STOCKHOLDER'S EQUITY
Current Liabilities
Accounts payable.................................................................... $ 2,886      $ 3,091
Accounts payable, affiliates........................................................      62           36
Accrued liabilities and other.......................................................     818        1,265
Liabilities from risk-management activities.........................................   4,491        3,347
Notes payable and current portion of long-term debt.................................   1,428          256
                                                                                     -------      -------
       Total Current Liabilities....................................................   9,685        7,995
                                                                                     -------      -------
Long-Term Debt                                                                         3,815        2,707
Other Liabilities
Accounts payable, affiliates........................................................      30           --
Liabilities from risk-management activities.........................................   3,832       1,870
Deferred income taxes...............................................................     327         585
Other long-term liabilities.........................................................     864         853
                                                                                     -------      -------
       Total Liabilities............................................................  18,553       14,010
                                                                                     -------      -------
Minority Interest...................................................................     151        1,003
Company Obligated Preferred Securities of Subsidiary Trust..........................     200          200
Commitments and Contingencies (Note 10)
Stockholder's Equity
Preferred stock.....................................................................   1,501           --
Additional paid-in capital..........................................................   2,395        2,392
Accumulated other comprehensive income, net of tax..................................      28           10
Retained earnings...................................................................     924        1,031
Stockholder's Equity................................................................   1,032        1,032
                                                                                     -------      -------
Total Stockholder's Equity..........................................................   5,880        4,465
                                                                                     -------      -------
       Total Liabilities and Stockholder's Equity................................... $24,784      $19,678
                                                                                     =======      =======
</TABLE>

         See the notes to condensed consolidated financial statements.

                                      3

<PAGE>

                             DYNEGY HOLDINGS INC.

          CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (RESTATED)

                      SEE EXPLANATORY NOTE--RESTATEMENTS
                           (unaudited) (in millions)

<TABLE>
<CAPTION>
                                                                     Three Months Ended
                                                                         June 30,
                                                                     -----------------
                                                                      2002      2001
                                                                     ------   -------
<S>                                                                  <C>      <C>
Revenues............................................................ $9,466   $11,756
Cost of sales (exclusive of depreciation shown below)...............  9,440    11,490
Depreciation and amortization.......................................     93        70
Impairment and other charges (Note 4)...............................     44        --
General and administrative expenses.................................     70       100
Gain on sale of assets..............................................     --       (29)
                                                                     ------   -------
   Operating income (loss)..........................................   (181)      125
Earnings from unconsolidated investments (Notes 4 and 9)............     21        61
Other income (expense), net (Note 4)................................      9        14
Interest expense....................................................    (62)      (35)
Minority interest expense...........................................     (9)      (52)
Accumulated distributions associated with trust preferred securities     (4)       (4)
                                                                     ------   -------
Income (loss) before income taxes...................................   (226)      109
Income tax provision (benefit)......................................    (94)       54
                                                                     ------   -------
Net Income (Loss)................................................... $ (132)  $    55
                                                                     ------   -------
</TABLE>



         See the notes to condensed consolidated financial statements.

                                      4

<PAGE>

                             DYNEGY HOLDINGS INC.

    CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (RESTATED)--(Continued)

                      SEE EXPLANATORY NOTE--RESTATEMENTS
                           (unaudited) (in millions)

<TABLE>
<CAPTION>
                                                                     Six Months Ended
                                                                         June 30,
                                                                     ----------------
                                                                       2002     2001
                                                                     -------  -------
<S>                                                                  <C>      <C>
Revenues............................................................ $17,614  $24,460
Cost of sales, (exclusive of depreciation shown below)..............  17,320   23,803
Depreciation and amortization.......................................     172      135
Impairment and other charges (Note 4)...............................      44       --
General and administrative expenses.................................     165      178
Gain on sale of assets..............................................      --      (33)
                                                                     -------  -------
   Operating income (loss)..........................................     (87)     377
Earnings from unconsolidated investments (Notes 4 and 9)............      52       90
Other income (expense), net (Note 4)................................      10        5
Interest expense....................................................    (116)     (68)
Minority interest expense...........................................     (39)     (74)
Accumulated distributions associated with trust preferred securities      (8)      (8)
                                                                     -------  -------
Income (loss) before income taxes and change in accounting principle    (188)     322
Income tax provision (benefit)......................................     (72)     148
                                                                     -------  -------
Income (loss) from operations.......................................    (116)     174
Cumulative effect of change in accounting principle, net............      --        2
                                                                     -------  -------
Net Income (Loss)................................................... $  (116) $   176
                                                                     -------  -------
</TABLE>



         See the notes to condensed consolidated financial statements.

                                      5

<PAGE>

                             DYNEGY HOLDINGS INC.

          CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (RESTATED)

                      SEE EXPLANATORY NOTE--RESTATEMENTS
                           (unaudited) (in millions)

<TABLE>
<CAPTION>
                                                                                 Six Months Ended
                                                                                    June 30,
                                                                                 --------------
                                                                                  2002         2001
                                                                                 -----       -------
<S>                                                                              <C>         <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)............................................................... $(116)      $   176
Items not affecting cash flows from operating activities:
   Depreciation and amortization................................................   177           129
   (Earnings) losses from unconsolidated investments, net of cash distributions.   (10)          (74)
   Risk-management activities...................................................   400            48
   Deferred income taxes........................................................   (81)           91
   Other........................................................................    38            28
                                                                                 -----       -------
Operating cash flows before changes in working capital..........................   408           398
Change in working capital:
   Accounts receivable..........................................................    81           794
   Inventory....................................................................   (33)          127
   Prepayments and other assets.................................................    --          (189)
   Accounts payable and accrued liabilities.....................................  (144)         (957)
   Other, net...................................................................     1           140
                                                                                 -----       -------
Net cash provided by operating activities.......................................   313           313
                                                                                 -----       -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures............................................................  (472)       (1,262)
Investments in unconsolidated affiliates........................................   (12)          (30)
Business acquisitions, net of cash acquired.....................................   (20)           --
Proceeds from asset sales.......................................................     5           996
Affiliate transactions..........................................................    61          (158)
Other investing, net............................................................    --          (119)
                                                                                 -----       -------
Net cash used in investing activities...........................................  (438)         (573)
                                                                                 -----       -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from long-term borrowings..........................................   539           605
Repayments of long-term borrowings..............................................  (172)           --
Net proceeds from short-term borrowings.........................................   245            --
Net cash flow from commercial paper and revolving lines of credit...............  (255)          (87)
Other financing, net............................................................   (17)          188
                                                                                 -----       -------
Net cash provided by financing activities.......................................   340           706
                                                                                 -----       -------
Effect of exchange rate changes on cash.........................................   (37)           (7)
Net increase in cash and cash equivalents.......................................   178           439
Cash and cash equivalents, beginning of period..................................   144            32
                                                                                 -----       -------
Cash and cash equivalents, end of period........................................ $ 322       $   471
                                                                                 -----       -------
</TABLE>

         See the notes to condensed consolidated financial statements.

                                      6

<PAGE>

                             DYNEGY HOLDINGS INC.

             NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

EXPLANATORY NOTE--RESTATEMENTS

   This Amendment No. 1 on Form 10-Q/A of Dynegy Holdings Inc. ("Dynegy" or the
"Company") includes restatements relating to the Company's audited consolidated
financial statements as of December 31, 2001 and for its unaudited condensed
consolidated financial statements for the three- and six-month periods ended
June 30, 2002 and 2001. On April 16, 2003, Dynegy filed its Annual Report on
Form 10-K for the fiscal year ended December 31, 2002 (the "2002 Form 10-K"),
which included restated financial statements for each of the two years in the
period ended December 31, 2001. The 2002 Form 10-K also included restated
financial information for the three- and six-month periods ended June 30, 2002
and 2001. The restatements relate to the following:

  .   the Project Alpha structured natural gas transaction,

  .   a balance sheet reconciliation project relating principally to the
      Company's natural gas marketing business,

  .   corrections to the Company's previous hedge accounting for certain
      contracts resulting in the Company accounting for these contracts
      pursuant to the mark-to-market method under Statement of Financial
      Accounting Standards No. 133, "Accounting for Derivative Instruments and
      Hedging Activities," as amended ("Statement No. 133"); in addition, the
      Company determined that it had incorrectly accounted for certain
      derivative transactions prior to the adoption of Statement No. 133,

  .   the restatement of the Company's forward power curve methodology to
      reflect forward power and market prices more closely,

  .   the recognition of additional assets, accrued liabilities and debt
      associated with certain lease arrangements, as well as depreciation and
      amortization expense for the related assets,

  .   the recognition of an other-than-temporary decline in value of a
      technology investment in the third quarter of 2001 rather than the second
      quarter of 2002,

  .   corrections to the Company's previous accounting for income taxes, and

  .   other adjustments that arose during the re-audit of the Company's
      1999-2001 financial statements.

   Specifically, the restatements are as follows:

   Project Alpha.  Dynegy entered into the Project Alpha structured natural gas
transaction in April 2001. As described in a Current Report on Form 8-K dated
April 25, 2002 (the "Alpha Form 8-K"), Dynegy restated the cash flow associated
with the related gas supply contract as a financing activity in its
Consolidated Statement of Cash Flows for 2001. The effect of this restatement
was to reclassify approximately $70 million and $290 million of previously
disclosed operating cash flow to financing cash flow for the six-month period
ended June 30, 2001 and year ended December 31, 2001, respectively. Following
the disclosure in the Alpha Form 8-K and in connection with a further review of
Project Alpha, Arthur Andersen LLP ("Andersen") informed the Company that it
could no longer support its tax opinion relating to the transaction. Andersen's
change in position was based in part on its conclusion that the
reclassification of cash flow from operations to cash flow from financing
lessened the factual basis for the opinion. Dynegy's financial statement
recognition of the tax benefit in 2001 was based principally on the Company's
assessment of the relevant issues, as corroborated by Andersen's tax opinion.
After the withdrawal of Andersen's tax opinion, management concluded that
sufficient support to include the income tax benefit for financial statement
presentation purposes no longer existed, the effect of which was a reversal of
approximately $79 million of tax benefit previously recognized by the Company
during the

                                      7

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

2001 period, $27 million of which related to the three and six months ended
June 30, 2001. Andersen further advised the Company that its audit opinion
relating to 2001 should no longer be relied upon as a result of the pending
restatements relating to Project Alpha and such audit opinion has been
withdrawn. Dynegy subsequently concluded that its 2001 restated consolidated
financial statements would include the consolidation of ABG Gas Supply, LLC
("ABG"), one of the entities formed in connection with the transaction. The
consolidation of ABG is included herein based on compilations of financial
information received from an agent of ABG's equity holders.

   The table below reflects the impact of the Project Alpha restatements on net
income for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $(27)       $(27)
                   2002.............       --          --
</TABLE>

   Balance Sheet Reconciliation Project.  Dynegy originally recognized an
after-tax charge of approximately $80 million ($124 million pre-tax) in the
second quarter 2002 related to a balance sheet reconciliation project
undertaken by the Company at the beginning of 2002. The charge related
principally to the Company's natural gas marketing business and was associated
with the process of reconciling accrued to actual results. Accrual accounting
for natural gas marketing involves the estimation of gas volumes, bought, sold,
transported and stored, as well as the subsequent reconciliation of estimated
to actual volumes. The Company has restated its financial statements to
allocate this $80 million charge from the second quarter 2002 back to the
periods in which the transactions giving rise to the charge originally occurred.

   The table below reflects the impact of this restatement on net income for
the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $(18)       $ 4
                   2002.............       89         93
</TABLE>

   Corrected Hedge Accounting.  The Company adopted Statement No. 133 effective
January 1, 2001 and reflected certain contracts as cash flow hedges upon such
adoption. Management has subsequently determined that following the initial
adoption of Statement No. 133, the documentation of compliance requirements
under the standard, particularly as it relates to documentation and the
periodic assessment of hedge effectiveness, was inadequate to support the
accounting method previously applied. In addition, the Company determined that
it had incorrectly accounted for certain derivative transactions prior to the
adoption of Statement No. 133. The resulting restatement reflects the
accounting for these contracts on a mark-to-market basis rather than on the
hedge accounting basis previously employed. This correction had no impact on
previously reported cash flows from operations in any period.

                                      8

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   The table below reflects the impact of this restatement on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $(12)       $  3
                   2002.............        5         (22)
</TABLE>

   Restated Forward Power Curve Methodology.  The Company values substantially
all of its natural gas marketing, power marketing and portions of its natural
gas liquids marketing operations under a mark-to-market accounting methodology.
The estimated fair value of the marketing and trading portfolio is computed by
multiplying all existing positions in the portfolio by estimated prices,
reduced by a LIBOR-based time value of money adjustment and deduction of
reserves for credit, price and market liquidity risks. Dynegy uses a
combination of market quotes, derivatives of market quotes and proprietary
models to periodically value this portfolio as required by generally accepted
accounting principles. Market quotes are used for near-term transactions, where
such quotes are generally available; derivatives of market quotes are used for
mid-term transactions, where broker quotes are only marginally available; and
proprietary models are used for long-term transactions, where broker quotes or
other objective pricing indicators typically are not available. Beginning in
the third quarter 2001, the Company began to enter into longer-term power
transactions in the United States with respect to which no broker quotes or
other market data was available; consequently, the Company applied a
proprietary model to estimate forward prices and, in turn, the fair market
value of these longer-term power transactions.

   During January 2003, in connection with the re-audit of the Company's
1999-2001 financial statements and an assessment of various accounting
policies, the Company reconsidered the model-based methodology used to value
the portions of its power marketing and trading portfolio for which broker
quotes were not available. Under the Company's prior methodology, forward
curves used to calculate the value of its long-term U.S. power contracts were
derived from a proprietary model based on a required rate of return on
investments in new generation facilities. The primary disadvantage of this type
of methodology, which was confirmed by the Company's former independent
auditors prior to the withdrawal of their audit opinion for unrelated matters,
is that, in certain circumstances, it may not reflect true market prices in
future years. After reconsidering the appropriateness of this methodology in
light of changing industry circumstances and in connection with the re-audit,
in late January 2003, the Company determined that, beginning with the third
quarter 2001, a different forward power curve methodology would more
appropriately reflect the value of its long-term power contracts.

   Upon making this determination, the Company corrected the forward power
curve methodology it used to estimate the fair market value of its U.S. power
marketing and trading portfolio. This corrected methodology incorporates
forward energy prices derived from broker quotes and values from executed
transactions to estimate forward price curves for periods where broker quotes
and transaction data cannot be obtained. Further, the Company determined that
in order to adequately reflect its results, it was appropriate to restate its
prior period financial statements, beginning with the third quarter 2001, to
reflect the corrected methodology.

                                      9

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   The table below reflects the impact of this restatement on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............    $  --       $  --
                   2002.............     (128)       (202)
</TABLE>

   Restated Lease Accounting.  The Company previously accounted for seven
generation lease arrangements as operating leases. Its previous accounting
treatment of these lease arrangements, which was confirmed by the Company's
former independent auditors prior to the withdrawal of their audit opinion for
unrelated matters, reflected its belief that these arrangements satisfied the
applicable generally accepted accounting principles ("GAAP") requirements so as
to justify their treatment as operating leases. However, these requirements are
very technical and subject to a high degree of interpretation. During the
course of the re-audit of the Company's financial statements for 1999-2001, the
Company analyzed its accounting for these arrangements and considered a variety
of factors, including interpretations of the applicable GAAP requirements. Upon
completion of this analysis and discussions with PricewaterhouseCoopers LLP, in
January 2003, the Company determined it necessary to correct its accounting for
these lease arrangements to recognize on its balance sheet the related assets
as of the inception of five of these arrangements. Although the Company
previously amended the agreements relating to six generation lease arrangements
so as to require them to be treated as capital leases in the second quarter
2002, the restatement of the accounting originally applied to these
arrangements results in the recognition of the related assets as of an earlier
date. Consequently, the Company's previously reported net income has been
reduced, reflecting the recognition of depreciation and amortization expenses
associated with the related assets. In addition, balance sheet amounts have
been adjusted for this change as follows:

<TABLE>
<CAPTION>
                                            June 30, December 31,
                                              2002       2001
                                            -------- ------------
                                                (in millions)
              <S>                           <C>      <C>
              Accounts receivable..........  $   3       $ --
              Prepayments and other assets.    104         --
              Property, plant and equipment    (23)       713
              Accrued liabilities and other   (107)       447
              Long-term debt...............     14        342
</TABLE>

Please read Note 7--Debt in the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 2001, as amended by Amendment No. 1 thereto
filed with the SEC on April 16, 2003 (the "2001 Form 10-K/A"), for further
discussion.

   The table below reflects the impact of this restatement on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $--         $--
                   2002.............      (2)         (3)
</TABLE>

                                      10

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   Valuation of Technology Investment.  The Company acquired the common stock
of a technology investment in the second quarter 2000. In the second quarter
2002, after several quarters of declines in the market price of the investment,
the Company determined that the decline in value was other-than-temporary. As
such, the Company recognized a $12 million after-tax charge during the second
quarter 2002. Upon further review, the Company determined that it incorrectly
delayed recognition of the charge associated with this investment, as the
decline in value through September 30, 2001 met the "other-than-temporary"
threshold. Therefore, the Company has restated the financial statements to
record the impairment in the third quarter 2001.

   The table below reflects the impact of this restatement on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $--         $--
                   2002.............      10          10
</TABLE>

   Correction for Income Taxes.  During the course of the re-audit of its
1999-2001 financial statements, the Company reviewed its previous accounting
for income taxes and determined that it made errors in accounting for certain
tax matters. These errors related to book-tax basis differences that were
reflected as permanent differences as opposed to temporary differences, the
failure to record differences between the amounts recognized as income tax
provision and the amounts actually reflected in the applicable income tax
returns, adjustments related to book and tax-basis balance sheet
reconciliations and changes in estimates of tax contingencies. The Company has
restated its financial statements to correct these errors, resulting in
additional deferred tax expense as further described below.

   The table below reflects the impact of these restatements on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $--         $(21)
                   2002.............      25            2
</TABLE>

   Other Adjustments Arising During the Re-Audit.  PricewaterhouseCoopers LLP
re-audited Dynegy's 1999-2001 financial statements. The re-audit was completed
in April 2003. The Company has restated its 1999-2001 financial statements to
correct various errors that were identified during the course of the re-audit,
which restatements are reflected in the 2001 Form 10-K/A and the 2002 Form
10-K. These corrections principally relate to the timing on which various
transactions were recorded in the ordinary course of business.

   The table below reflects the impact of these restatements on net income as
originally reported for the three and six months ended June 30, 2002 and 2001.

<TABLE>
<CAPTION>
                                     Three Months Six Months
                                        Ended       Ended
                                       June 30     June 30
                                     ------------ ----------
                                          (in millions)
                   <S>               <C>          <C>
                   Net Income (Loss)
                   2001.............     $(47)       $(68)
                   2002.............        4         (21)
</TABLE>

                                      11

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   A synopsis of the aggregate financial impact of these restatements on the
amounts originally reported in the Original Filing is as follows (in millions):

                     RESTATED SELECTED BALANCE SHEET DATA

<TABLE>
<CAPTION>
                                               June 30,
                                                 2002
                                               ---------
                                                  (in
                                               millions)
                        <S>                    <C>
                        Current Assets
                           As Reported........  $ 9,454
                           Restatement Effect.     (714)
                                                -------
                           As Restated........  $ 8,740
                                                =======
                        Total Assets
                           As Reported........  $25,675
                           Restatement Effect.     (891)
                                                -------
                           As Restated........  $24,784
                                                =======
                        Current Liabilities
                           As Reported........  $10,041
                           Restatement Effect.     (356)
                                                -------
                           As Restated........  $ 9,685
                                                =======
                        Total Liabilities
                           As Reported........  $19,032
                           Restatement Effect.     (479)
                                                -------
                           As Restated........  $18,553
                                                =======
                        Stockholder's Equity
                           As Reported........  $ 6,339
                           Restatement Effect.     (459)
                                                -------
                           As Restated........  $ 5,880
                                                =======
</TABLE>

                                      12

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


                        RESTATED RESULTS OF OPERATIONS

<TABLE>
<CAPTION>
                                        Three Months Six Months
                                           Ended       Ended
                                          June 30,    June 30,
                                        ------------ ----------
                                             (in millions)
                 <S>                    <C>          <C>
                 2002
                 Net Income (Loss):
                    As Reported........    $(135)      $  27
                    Restatement Effect.        3        (143)
                                           -----       -----
                    As Restated........    $(132)      $(116)
                                           =====       =====
                 2001
                 Net Income:
                    As Reported........    $ 159       $ 285
                    Restatement Effect.     (104)       (109)
                                           -----       -----
                    As Restated........    $  55       $ 176
                                           =====       =====
</TABLE>

                                      13

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

                       RESTATED SELECTED CASH FLOW DATA

<TABLE>
<CAPTION>
                                              Six Months
                                                Ended
                                               June 30,
                                              ----------
                                                 (in
                                              millions)
                       <S>                    <C>
                       2002
                       Operating Cash Flows:
                          As Reported........   $ 359
                          Restatement Effect.     (46)
                                                -----
                          As Restated........   $ 313
                                                =====
                       Investing Cash Flows:
                          As Reported........   $(431)
                          Restatement Effect.      (7)
                                                -----
                          As Restated........   $(438)
                                                =====
                       Financing Cash Flows:
                          As Reported........   $ 287
                          Restatement Effect.      53
                                                -----
                          As Restated........   $ 340
                                                =====
                       2001
                       Operating Cash Flows:
                          As Reported........   $ 385
                          Restatement Effect.     (72)
                                                -----
                          As Restated........   $ 313
                                                =====
                       Investing Cash Flows:
                          As Reported........   $(563)
                          Restatement Effect.     (10)
                                                -----
                          As Restated........   $(573)
                                                =====
                       Financing Cash Flows:
                          As Reported........   $ 624
                          Restatement Effect.      82
                                                -----
                          As Restated........   $ 706
                                                =====
</TABLE>

                                      14

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   PLEASE NOTE THAT THESE FINANCIAL STATEMENTS AND THE NOTES THERETO DO NOT
REFLECT EVENTS OCCURRING AFTER AUGUST 14, 2002 (THE DATE ON WHICH DYNEGY
ORIGINALLY FILED ITS SECOND QUARTER 2002 FORM 10-Q). FOR A DESCRIPTION OF THESE
EVENTS, PLEASE READ THE COMPANY'S EXCHANGE ACT REPORTS FILED SINCE AUGUST 14,
2002, INCLUDING ITS ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED
DECEMBER 31, 2002. SEE NOTE 14--SUBSEQUENT EVENTS FOR FURTHER DISCUSSION.

NOTE 1--ACCOUNTING POLICIES

   The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with the instructions to interim financial
reporting as prescribed by the Securities and Exchange Commission ("SEC").
These interim financial statements should be read in conjunction with the
restated consolidated financial statements and notes thereto included in the
2001 Form 10-K/A, which includes restated financial statements for 1999-2001
reflecting the revisions described in the Explanatory Note above.

   The financial statements include all material adjustments, which, in the
opinion of management, are necessary for a fair presentation of the results for
the interim periods. Interim period results are not necessarily indicative of
the results for the full year. The preparation of the condensed consolidated
financial statements in conformity with generally accepted accounting
principles requires management to develop estimates and make assumptions that
affect reported financial position and results of operations and that impact
the nature and extent of disclosure, if any, of contingent assets and
liabilities. Actual results could differ materially from those estimates.
Certain reclassifications have been made to prior period amounts in order to
conform to current year presentation.

NOTE 2--LIQUIDITY AND INDUSTRY CONDITIONS

   During 2002, a number of events negatively impacted Dynegy as well as the
merchant energy industry in general. These events have resulted in downgrades
in the Company's credit ratings to non-investment grade by each of the major
rating agencies and a reduction in available liquidity resulting from a
combination of lower than expected cash flow from operations, reduced access to
sources of capital and increased collateralization of its trading and
commercial obligations. The credit ratings downgrades have limited and will
likely continue to limit significantly the Company's ability to refinance its
debt obligations and to access the capital markets and will likely increase the
borrowing costs incurred by the Company in connection with any refinancing
activities. The Company's financial and operating flexibility is likely to be
similarly reduced as a result of restrictive covenants and other terms that are
typically imposed on non-investment grade borrowers. The Company has
significant debt maturities over the next 12 months, which are further
described in Note 8 below. Additionally, the increased collateralization of the
Company's trading and commercial obligations has decreased capital otherwise
available to satisfy the Company's debt service, debt maturities and other
obligations.

   In response to these events, on June 24, 2002 Dynegy Inc. announced a $2
billion capital plan designed to enhance liquidity and reduce debt. Pursuant to
this capital plan, Dynegy negotiated the elimination of $301 million in credit
ratings triggers relating to its financings and completed several interim
financings. On July 28, 2002, Dynegy entered into an agreement to sell Northern
Natural Gas Company ("Northern Natural") to MidAmerican Energy Holdings Company
("MidAmerican") for $928 million in cash, subject to adjustment for working
capital changes.

                                      15

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   The closing of the Northern Natural sale and the execution of the remaining
elements of the Company's capital plan are expected to provide sufficient
near-term liquidity for the Company. The Northern Natural sale is expected to
close in August 2002 and is subject to customary closing conditions, including
expiration of the Hart-Scott-Rodino waiting period, and the continuation of
certain transition services to Northern Natural. The remaining elements of the
capital plan are subject to a number of risks including factors beyond the
Company's control. These factors include, among others, market conditions for
asset sales, the timeliness and ability to obtain required regulatory
approvals, ongoing investigations and litigation, and the effect of commodity
prices and continued contraction in the markets in which the Company operates,
which may negatively impact its operating cash flow. The Company also must seek
to rationalize its customer and risk-management business either through the
formation of a joint venture or an alternative strategy that would reduce
Dynegy's capital commitments to this business.

   As is discussed in greater detail in "Management's Discussion and Analysis
of Financial Condition and Results of Operations," the Company's liquidity will
be improved by the closing of the Northern Natural sale. Dynegy has no
significant maturities prior to November 2002 and believes that its current
liquidity will be sufficient to meet the collateral requirements of its
business through the expected closing of the Northern Natural sale. However, a
delay in the closing of the Northern Natural sale or other adverse developments
affecting the Company's liquidity could materially adversely affect Dynegy's
financial condition. If Dynegy is unable to complete the Northern Natural sale
in the near term or other elements of its strategy prior to the second quarter
2003, it may be forced to consider other strategic alternatives or a possible
reorganization under the protection of bankruptcy laws.

   The accompanying unaudited condensed consolidated financial statements have
been prepared assuming that the Company will continue as a going concern. This
basis of accounting contemplates the recovery of the Company's assets and the
satisfaction of its liabilities in the normal course of conducting business,
which in turn is dependent upon the Company's ability to consummate the
Northern Natural sale and successfully execute its capital plan as well as the
performance of the Company's operations for the foreseeable future. Management
believes that actions presently being taken relative to the Company's capital
plan and other strategic alternatives should enable the Company to meet its
obligations in a manner consistent with this accounting treatment.

NOTE 3--CHANGES IN ACCOUNTING PRINCIPLES

   In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 142, "Goodwill and Other Intangible Assets" ("Statement No. 142").
Statement No. 142 discontinues goodwill amortization over its estimated useful
life and provides that goodwill is subject to at least an annual fair-value
based impairment test. The Company adopted Statement No. 142 effective January
1, 2002. The changes in the carrying amount of goodwill for each of Dynegy's
reportable business segments for the six-month period ended June 30, 2002 are
as follows (in millions):

<TABLE>
<CAPTION>
                                      Wholesale  Dynegy   Transmission
                                       Energy   Midstream      &
                                       Network  Services  Distribution  Total
                                      --------- --------- ------------ ------
  <S>                                 <C>       <C>       <C>          <C>
  Balances as of January 1, 2002.....   $757       $16        $ --     $  773
  Goodwill acquired during the period     --        --         887        887
  Purchase price adjustments.........     (7)       --         (28)       (35)
                                        ----       ---        ----     ------
  Balances as of June 30, 2002.......   $750       $16        $859     $1,625
                                        ====       ===        ====     ======
</TABLE>

                                      16

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   Goodwill acquired during the period relates to the acquisition of Northern
Natural, the previously announced sale of which is further described in Note 5
below. The purchase price adjustments relate to the United Kingdom natural gas
storage assets purchased in late 2001 and to the acquisition of Northern
Natural in early 2002.

   The following table sets forth what Dynegy's net income would have been in
the three- and six-month periods ended June 30, 2001, if goodwill had not been
amortized during those periods, compared to the net loss Dynegy recorded for
the three- and six-month periods ended June 30, 2002 (in millions).

<TABLE>
<CAPTION>
                                            Three Months Ended Six Months Ended
                                             June 30,           June 30,
                                            ------------------ ----------------
                                             2002      2001     2002     2001
                                              -----    ----     -----    ----
            <S>                             <C>        <C>     <C>       <C>
            Reported net income (loss)..... $(132)     $55     $(116)    $176
            Add back: Goodwill amortization    --        3        --        6
                                              -----    ---      -----     ----
            Adjusted net income (loss)..... $(132)     $58     $(116)    $182
</TABLE>

   In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets"
("Statement No. 144"). Statement No. 144 addresses the accounting and reporting
for the impairment or disposal of long-lived assets and supersedes FASB
Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of" and APB Opinion No. 30, "Reporting the
Results of Operations--Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." The Company's adoption of Statement No. 144 on January 1, 2002
did not have any impact on its financial position, results of operations or
cash flows.

   Accounting Principles Not Yet Adopted. FASB Statement No. 143.  Also during
2001, the FASB issued Statement of Financial Accounting Standards No. 143,
"Accounting for Asset Retirement Obligations" ("Statement No. 143"). Statement
No. 143 requires that the fair value of a liability for an asset retirement
obligation is recognized in the period in which it is incurred with the
associated asset requirement costs being capitalized as a part of the carrying
amount of the long-lived assets. The Company is evaluating the future financial
effects of adopting Statement No. 143 and will adopt the standard effective
January 1, 2003.

   FASB Statement No. 145.  In April 2002, the FASB issued Statement of
Financial Accounting Standards No. 145, "Rescission of FASB Statements No. 4,
44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections"
("Statement No. 145"). The adoption of Statement No. 145 effective January 1,
2003 is not expected to impact the Company.

   FASB Statement No. 146.  In July 2002, the FASB issued Statement of
Financial Accounting Standards No. 146, "Accounting for Exit or Disposal
Activities" ("Statement No. 146"). Statement No. 146 addresses issues regarding
the recognition, measurement and reporting of costs that are associated with
exit and disposal activities, including restructuring activities that are
accounted for pursuant to the guidance that the Emerging Issues Task Force
("EITF" or the "Task Force") has set forth in EITF Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit
an Activity (including Certain Costs Incurred in a Restructuring)." The scope
of Statement No. 146 also includes (1) costs related to terminating a contract
that is not a capital lease and (2) termination benefits that employees who are
involuntarily terminated receive under the

                                      17

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

terms of a one-time benefit arrangement that is not an ongoing benefit
arrangement or an individual deferred compensation contract. Statement No. 146
will be effective for exit or disposal activities that are initiated after
December 31, 2002, although early adoption of the standard is allowed. If the
Company had adopted Statement No. 146 early, it would not have affected the
Company's accounting for restructuring activities which occurred in the second
quarter 2002.

   EITF Issue 02-3.  In June 2002, the EITF reached consensus on two of three
issues presented in EITF Issue 02-3, "Accounting for Contracts Involved in
Energy Trading and Risk Management Activities" ("EITF Issue 02-3"). First, the
Task Force concluded that all mark-to-market gains and losses on energy trading
contracts (whether realized or unrealized) should be shown net in the income
statement, irrespective of whether the contract is physically or financially
settled. In addition, the Task Force concluded that an entity should disclose
the gross transaction volumes for those energy trading contracts that are
physically settled. Beginning in the third quarter 2002, Dynegy will present
all mark-to-market gains and losses on a net basis and will expand its
volumetric disclosures to comply with the consensus. Additionally, in
accordance with the transition provisions in the consensus, comparative
financial statements will be conformed to meet the requirements mandated by the
Task Force. This change in accounting classification will have no impact on
operating income, net income, or cash flow from operations.

   The second consensus reached by the Task Force related to required
disclosures regarding energy trading operations. The Task Force agreed to
clarify the application of APB Opinion No. 22, "Disclosure of Accounting
Policies" and SOP 94-6, "Disclosure of Significant Risks and Uncertainties" to
an entity's energy trading operations by requiring that entities disclose the
applicability of EITF Issue 98-10, "Accounting for Contracts Involved in Energy
Trading and Risk Management Activities," the types of contracts that are
accounted for as energy trading contracts, a description of the methods and
significant assumptions used to estimate the fair value of various classes of
energy trading contracts and the sensitivity of its estimates to changes in the
near term. The Task Force indicated that additional disclosure regarding the
fair value of contracts, aggregated by source or method of estimating fair
value and by maturity date, would also be meaningful. The Company will assess
its disclosures with respect to these matters.

   The third issue addressed by the Task Force in EITF Issue 02-3 deals with
the recognition of unrealized gains and losses at inception of an energy
trading contract (commonly referred to as dealer profit). The Task Force
reached no consensus on this issue, and the issue was assigned to a working
group for resolution by the end of 2002. It is not possible to predict how the
working group will resolve issues related to the recognition of dealer profit.
Further, it is unclear how the working group will address the accounting
transition resulting from adoption of new guidance. Three transition
alternatives exist in practice. These transition alternatives include: (a) a
retroactive restatement to eliminate dealer profit recognized in previous
periods; (b) a cumulative effect adjustment for a change in accounting
principle, which eliminates the recognition of previous periods' dealer profit
in the current period; or, (c) as a prospective change, eliminating the
recognition of dealer profit on future transactions but leaving past
transactions unaffected.

   Finally, it is unclear whether the scope of the working group's activities
will include a comprehensive conclusion regarding the appropriateness of the
use of models as a fundamental method for valuing transactions when market
quotations are unavailable. Should the Task Force issue definitive guidance on
any one or all of these issues, it will impact Dynegy. However, the extent of
the financial impact to Dynegy, if any, cannot be predicted with any degree of
certainty until the scope of the Task Force's conclusion is known and the
transition alternative is determined. If the Task Force prefers a retroactive
or a cumulative effect transition alternative, then Dynegy's historical
financial position and results of operations will be impacted negatively. If
the Task Force

                                      18

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

prefers a prospective transition alternative, then Dynegy's current financial
position will be unaffected and the impact to future operations in the near
term is not expected to be material (largely as a result of a reduction in
these types of transactions in the marketplace).

NOTE 4--RESTRUCTURING AND IMPAIRMENT CHARGES

   During the second quarter 2002, the Company recognized a $54 million pre-tax
($35 million after-tax) charge principally related to the impairment, write-off
or obsolescence of certain assets and an accrual for severance related to a
corporate restructuring. The charge primarily relates to the impairment of
investments in securities of entities engaged in technology-related ventures
and a severance charge related to a plan of restructuring of the Company's
operations. The pre-tax charges, which were substantially non-cash in nature,
consisted of the following (in millions):

<TABLE>
                    <S>                                  <C>
                    Impairment of technology investments $10
                    Severance charge....................  32
                    Write-off of other obsolete assets..  12
                                                         ---
                                                         $54
                                                         ---
</TABLE>

   At June 30, 2002, the valuations of certain technology investments were
assessed in light of Dynegy Inc.'s decision to pursue a managed exit strategy
from its telecommunications business. These investments were originally entered
into in order to leverage existing commercial relationships or as a means of
expanding new relationships. Historically, the Company viewed these investments
as strategic and core to Dynegy Inc.'s telecommunications strategy.
Accordingly, Dynegy expected to hold these investments for the long-term and
viewed trends in the sector as cyclical. These investments include ownership in
public and private companies and investment funds focused in the technology
sector. The continued downturn in the technology sector during the second
quarter 2002 combined with the Company's change in strategy resulted in a
decision to recognize an impairment charge relative to these investments. After
recognition of the impairment, values for these investments represent expected
realizable value at June 30, 2002. The $10 million pre-tax ($7 million
after-tax) charge was recorded in Earnings of Unconsolidated Affiliates in the
accompanying Condensed Consolidated Statements of Operations for the three and
six months ended June 30, 2002.

   The Company recognized a pre-tax charge of approximately $32 million ($21
million after-tax) for severance benefits for approximately 309 employees who
were from various segments and included all staffing levels, including the
Company's former Chief Executive Officer and Chief Financial Officer. The
charge is included in Impairment and Other Charges in the accompanying
Condensed Consolidated Statements of Operations. No severance amounts were paid
as of June 30, 2002, thus the entire amount is included within Accrued
Liabilities and Other in the accompanying June 30, 2002 Condensed Consolidated
Balance Sheet.

   The remaining pre-tax non-cash charge of $12 million ($8 million after-tax)
relates to the retirement of partially depreciated information technology
equipment and software replaced during the quarter with new system applications
and arrangements as well as miscellaneous deposits that are not expected to
provide future value. The charge was recorded in Impairment and Other Charges
in the accompanying Condensed Consolidated Statements of Operations for the
three and six months ended June 30, 2002.

   During the three months ended March 31, 2002, the Company incurred an $18
million pre-tax ($13 million after-tax) charge associated with a commitment to
deliver gas assumed in the acquisition of Northern Natural.

                                      19

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

The pre-tax charge is included in revenues in the accompanying Condensed
Consolidated Statement of Operations for the six months ended June 30, 2002.

NOTE 5--BUSINESS COMBINATIONS AND OTHER ACQUISITIONS

   In November 2001, Dynegy Inc. acquired 1,000 shares of Series A Preferred
Stock ("Series A Preferred Stock") in Northern Natural for $1.5 billion. In
connection with the investment, Dynegy acquired an option to purchase all of
the equity of Northern Natural's indirect parent company. Dynegy exercised its
option to acquire the indirect parent of Northern Natural in November 2001 upon
termination of Dynegy's merger agreement with Enron Corp. ("Enron"), and the
closing of the option exercise occurred on January 31, 2002. Enron retained an
option to reacquire Northern Natural, which expired unexercised on July 1, 2002.

   On July 28, 2002, Dynegy executed an agreement to sell Northern Natural to
MidAmerican for $928 million in cash, subject to adjustment for working capital
changes. Under the terms of this agreement, MidAmerican is expected to acquire
all of the common and preferred stock of Northern Natural and to assume all of
Northern Natural's $950 million of debt with a fair value of approximately $890
million. The transaction is expected to close in August 2002 and is subject to
customary closing conditions, including expiration of the Hart-Scott-Rodino
waiting period. No assurance can be given as to the timing of such approval or
the consummation, if at all, of the transaction. Because Dynegy paid
approximately $1.5 billion for Northern Natural, Dynegy expects to incur a
significant loss associated with the sale.

   Northern Natural was consolidated with Dynegy's operations beginning
February 1, 2002. The following table reflects certain unaudited pro forma
information for Dynegy for the periods presented as if Dynegy's acquisition of
Northern Natural had taken place on January 1, 2001 (in millions).

<TABLE>
<CAPTION>
                                                                     Three Months      Six Months
                                                                         Ended           Ended
                                                                       June 30,         June 30,
                                                                    --------------- ----------------
                                                                     2002    2001     2002    2001
                                                                    ------  ------- -------  -------
<S>                                                                 <C>     <C>     <C>      <C>
Pro forma revenues................................................. $9,466  $11,864 $17,672  $24,743
Pro forma income (loss) from operations before change in accounting
  principle........................................................   (132)      72     (93)     239
Pro forma net income (loss)........................................   (132)      72     (93)     241
</TABLE>

NOTE 6--COMMERCIAL OPERATIONS, RISK MANAGEMENT ACTIVITIES AND FINANCIAL
                   INSTRUMENTS

   Provisions in Statement No. 133, as amended, affect the accounting and
disclosure of certain contractual arrangements and operations of the Company.
Under Statement No. 133, as amended, all derivative instruments are recognized
in the balance sheet at their fair values and changes in fair value are
recognized immediately in earnings, unless the derivatives (which are not part
of the Company's marketing activities) qualify, and are designated, as hedges
of future cash flows or fair values, net investments or qualify, and are
designated, as normal purchases and sales. Derivatives treated as normal
purchases or sales are recorded and recognized in income using accrual
accounting.

   The nature of the Company's business necessarily involves certain market and
financial risks. The Company routinely enters into financial instrument
contracts in an attempt to mitigate or eliminate these various risks. These
risks and the Company's strategy for mitigating these risks are more fully
described in Note 3 to the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 2001 (the "2001 Form 10-K").

                                      20

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   Changes in stockholder's equity related to derivatives for the six-month
period ended June 30, 2002 were as follows, net of tax (in millions):

<TABLE>
                 <S>                                       <C>
                 Balance at December 31, 2001............. $ 8
                 Current period changes in fair value, net  (3)
                 Reclassifications to earnings, net.......   2
                                                           ---
                 Balance at June 30, 2002................. $ 7
                                                           ---
</TABLE>

   Accumulated other comprehensive income, net of tax is included in
Stockholder's Equity on the Condensed Consolidated Balance Sheet as follows (in
millions):

<TABLE>
   <S>                                                                  <C>
   Statement No. 133, net.............................................. $  7
   Currency translation adjustment.....................................   20
   Unrealized loss on available-for-sale securities, net...............    1
                                                                        ----
   Accumulated other comprehensive income, net of tax, at June 30, 2002 $ 28
                                                                        ----
</TABLE>

   Other comprehensive income (loss) is as follows (in millions):

<TABLE>
<CAPTION>
                                                   Six Months
                                                      Ended
                                                    June 30,
                                                   -----------
                                                    2002  2001
                                                   -----  ----
                 <S>                               <C>    <C>
                 Net income (loss)................ $(116) $176
                 Other comprehensive income.......    18     7
                                                   -----  ----
                 Total comprehensive income (loss) $ (98) $183
                                                   -----  ----
</TABLE>

   Additional disclosures required by Statement No. 133, as amended, are
provided in the following paragraphs.

   The Company enters into various financial derivative instruments which
qualify as cash flow hedges. For derivatives treated as hedges of future cash
flows, the effective portion of changes in fair value is recorded in other
comprehensive income until the related hedged items impact earnings. Any
ineffective portion of a hedge is reported in earnings immediately. Instruments
related to the Company's customer and risk-management and midstream liquids
businesses are entered into for purposes of hedging forward fuel requirements
for certain power generation facilities, locking in future margin in the
domestic midstream liquids business and hedging price risk in the global
liquids business. Interest rate swaps are used to convert the floating interest
rate component of certain obligations to fixed rates.

   Dynegy recognized a charge of less than $1 million relating to hedge
ineffectiveness during the six months ended June 30, 2002, and no amounts were
excluded from the assessment of hedge effectiveness related to the hedge of
future cash flows. Additionally, no amounts were reclassified to earnings in
connection with forecasted transactions that were no longer considered probable
of occurring.

   The balance in other comprehensive income at June 30, 2002 associated with
these cash flow hedges is expected to be reclassified to future earnings
contemporaneously with the related purchases of fuel, sales of electricity or
liquids and payments of interest, as applicable to each type of hedge. Of this
amount, approximately

                                      21

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

$9 million in losses, net of taxes, is estimated to be reclassed into earnings
over the 12-month period ending June 30, 2003. The actual amounts that will be
reclassified to earnings over the next 12 months could vary materially from
this estimated amount as a result of changes in market conditions.

   The Company also enters into derivative instruments which qualify as fair
value hedges. For derivatives treated as fair value hedges, changes in the fair
value of the derivative and changes in the fair value of the related asset or
liability are recorded in current period earnings. The Company uses interest
rate swaps to convert a portion of its fixed-rate debt into variable-rate debt.
During the six months ended June 30, 2002 and 2001, there was no
ineffectiveness from changes in fair value of hedge positions, and no amounts
were excluded from the assessment of hedge effectiveness. Additionally, no
amounts were recognized in relation to firm commitments that no longer
qualified as fair value hedge items.

   The Company has investments in foreign subsidiaries, and the net assets of
these subsidiaries are exposed to currency exchange-rate volatility. The
Company uses derivative financial instruments, including foreign exchange
forward contracts and cross currency interest rate swaps, to hedge this
exposure. For the six months ended June 30, 2002, approximately $47 million of
net losses related to these contracts were included in the cumulative
translation adjustment. During the six months ended June 30, 2002,
ineffectiveness from changes in fair value of net investment hedge positions
was a loss of approximately $6 million. There were no net investment hedges for
the six months ended June 30, 2001.

NOTE 7--CAPITAL LEASES

   In response to the initiatives underway at the FASB, on June 28, 2002, the
Company unilaterally undertook certain actions, the effect of which altered the
accounting for one of its existing lease obligations. These actions included
the delivery of a guarantee of the lessor debt in the lease of a power
generation facility. As a result of these actions, the lease is now accounted
for as a capital lease and approximately $165 million of generation assets and
the associated debt were brought on-balance sheet. The Company has the option
to purchase the related assets at lease maturity in 2005. This obligation bears
interest at a rate of LIBOR plus 1.5% to 2.75%, depending on the tranche.

   This non-cash action resulted in an increase to property, plant and
equipment and a corresponding increase in long-term debt on the condensed
consolidated balance sheets. This obligation was previously reported as a lease
obligation in the footnotes to the financial statements and in the Commercial
Financial Obligations and Contingent Financial Commitments tables in the 2001
Form 10-K.

   The following is a schedule of future minimum lease payments under capital
leases together with the present value of the net minimum lease payments as of
June 30, 2002 (in millions):

<TABLE>
               <S>                                         <C>
               Six months ending December 31, 2002........ $  3
               Year ending December 31:
                  2003....................................    5
                  2004....................................    7
                  2005....................................  176
                                                           ----
               Total minimum lease payments...............  191
               Less: Amount representing interest.........  (26)
                                                           ----
               Present value of net minimum lease payments $165
                                                           ====
</TABLE>

                                      22

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


NOTE 8--DEBT

   As of August 12, 2002, the Company's debt and preferred stock maturities
through December 31, 2003, inclusive of letters of credit issued under
revolving credit facilities, were as follows: remainder of third quarter
2002--$19 million; fourth quarter 2002--$73 million (not including a $450
million secured line of credit at Northern Natural that will be assumed by
MidAmerican in the sale of Northern Natural, as further described in Note 5
above); first quarter 2003--$237 million; second quarter 2003--$1,553 million;
third quarter 2003--$41 million; and fourth quarter 2003--$41 million. Please
read "Management's Discussion and Analysis of Financial Condition and Results
of Operations--Liquidity and Capital Resources" for a discussion of the
Company's liquidity and capital plans.

   In July 2002, the Company completed a $200 million interim financing,
bearing interest at LIBOR plus 1.38 percent. This loan matures in January 2003
and is secured by interests in Dynegy's Renaissance and Rolling Hills merchant
power generation facilities.

   In June 2002, the Company completed a $250 million interim financing,
bearing interest at LIBOR plus 1.75 percent. This loan matures in June 2003 and
represents an advance on a portion of the proceeds from the expected sale of
certain of the Company's United Kingdom natural gas storage facilities.

   Dynegy completed an amendment to the Catlin Associates, LLC transaction also
referred to as "Black Thunder" in June 2002 that permanently removed a $270
million obligation that could have been triggered by declines in our credit
ratings. The amended agreement requires one of our subsidiaries to make
periodic payments totaling $275 million over the remaining three years of the
transaction with $577 million due in June 2005. The subsidiary has already paid
approximately $73 million of this total. Quarterly maturities are approximately
$20 million through the first quarter 2005. Balances outstanding incur interest
based on market conditions in accordance with the agreement. In addition, we
agreed to grant mortgages on the Midwest generation assets covered by the
transaction, post a letter of credit to secure a contingent obligation expiring
December 31, 2002 and to make certain structural changes to enhance the
security of the third-party lenders involved in the transaction. As a result of
this amendment, $796 million related to Catlin Associates, LLC was reclassified
from minority interest to debt on Dynegy's Condensed Consolidated Balance Sheet
at June 30, 2002.

   Also in June 2002, West Coast Power, LLC ("West Coast Power"), a joint
venture owned equally by Dynegy and NRG Energy with generation assets in
California, repaid a non-recourse project financing with cash on hand within
the joint venture entity. This payment eliminated a $31 million obligation
which could have been triggered by declines in Dynegy's credit ratings.
Concurrent with the retirement of the project financing, West Coast Power
entered into an amended $120 million bank facility consisting of a $100 million
letter of credit facility that will be used to collateralize West Coast Power's
obligations, a $10 million term loan and a $10 million working capital
facility. The facility has resulted in the release of approximately $100
million in letters of credit previously posted by Dynegy on behalf of West
Coast Power.

   Dynegy incurred upfront fees aggregating approximately $19 million in
connection with the interim financings, Black Thunder amendment and West Coast
Power transactions described above. Such amounts are capitalized and amortized
over the terms of the respective financing transactions.

   On April 29, 2002, Dynegy closed a $900 million unsecured revolving credit
agreement with a syndicate of commercial banks. This facility, which matures on
April 28, 2003, replaced an expiring $1.2 billion revolving credit agreement.
The new facility provides funding for working capital, capital expenditures and
general corporate purposes. Generally, borrowings under the credit agreement
bear interest at a Eurodollar rate plus a

                                      23

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

margin that is determined based on designated unsecured debt ratings. Facility
fees are payable on the full amount of the facility and are determined based on
designated unsecured debt ratings. Dynegy will incur higher interest costs and
fees associated with the new facility as compared to those incurred under the
expired facility. Specifically, assuming that all amounts were outstanding
under this facility, Dynegy would pay approximately $10 million in additional
interest expense on the new facility compared to what it would have paid under
the expired facility. Additionally, as compared to similar fees paid by Dynegy
under the expired facility, Dynegy expects to pay approximately $2 million in
additional facility fees during the term of the new facility and paid
approximately $3 million in additional upfront fees.

   Financial covenants under the new Dynegy revolver include a
debt-to-capitalization test (which takes into account certain lease and similar
commitments of Dynegy and its subsidiaries) and a newly added 3.5 times
earnings before interest, taxes and depreciation and amortization
("EBITDA")-to-interest test. The permissible threshold for the
debt-to-capitalization test was lowered in the new facility from 65% to 60%.
Other newly added covenants in the facility include subordination of certain
intercompany debt owed to Dynegy Inc. and its subsidiaries (other than Dynegy
and its subsidiaries), restrictions on liens and limitations prohibiting
subsidiary debt at Dynegy Marketing & Trade, Dynegy Power Marketing, Inc. and
Dynegy Midstream Services, Limited Partnership. Default provisions include
cross payment default of Dynegy Inc., Dynegy or any principal subsidiary with
respect to debt or other similar obligations that exceed $100 million, cross
acceleration of Dynegy Inc., Dynegy or any principal subsidiary under any
instrument covering debt or similar obligations that exceed $100 million and
bankruptcy or receivership of Dynegy Inc., Dynegy or any principal subsidiary.
The new facility does not contain any defaults relating to material adverse
changes in the condition of Dynegy Inc. or Dynegy after the closing date or to
changes in Dynegy Inc.'s or Dynegy's credit ratings. The new facility also does
not contain a "term-out" provision that would permit Dynegy Inc. to extend the
maturity for borrowings under the facility beyond the facility's April 28, 2003
maturity date. As such, the amounts outstanding under this facility are
classified as current. Management believes Dynegy is in compliance with the
covenants contained in this agreement.

   On April 10, 2001, ABG Gas Supply entered into a credit agreement with a
consortium of lenders in order to provide financing associated with Project
Alpha. Advances under the agreement allowed ABG Gas Supply to purchase NYMEX
natural gas contracts with the underlying physical gas supply to be sold to
Dynegy Marketing and Trade under an existing natural gas purchases and sales
agreement. The credit agreement requires ABG Gas Supply to repay the advances
in monthly installments commencing February 2002 through December 2004 from
funds received from Dynegy Marketing and Trade under the natural gas purchases
and sales agreement. The advances bear interest at a Eurodollar rate plus a
margin as defined in the agreement. Advances of $290 million were outstanding
under this agreement at June 30, 2002.

   On February 21, 2002, Dynegy issued $500 million of 8.75% senior notes due
2012. Interest on the notes is due on February 15 and August 15 of each year,
beginning August 15, 2002. The notes are unsecured and are not subject to a
sinking fund. Dynegy may redeem the notes prior to maturity, in whole or in
part, at a redemption price equal to the greater of the principal amount of the
notes and the make-whole price specified in the indenture relating to the notes.

   On January 31, 2002, the Company acquired debt with a face value of
approximately $950 million (and a fair value of approximately $890 million)
through the acquisition of Northern Natural. Approximately $500 million of the
Northern Natural debt consists of senior unsecured notes with maturities
ranging from 2005 to 2011. The remaining $450 million consists of a secured
line of credit that matures in November 2002. See Note 5 for discussion of
Dynegy's previously announced sale of Northern Natural. In the event the
Company cannot consummate the sale of Northern Natural, management believes,
based on an internal analysis of Northern

                                      24

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

Natural's credit capacity, including a review of other regulated pipelines,
that Northern Natural will be able to refinance the $450 million secured line
of credit, and it is Northern Natural's management's current intention to do
so. On April 26, 2002, Dynegy purchased $90 million of Northern Natural's
senior unsecured notes due 2005 pursuant to a tender offer. The Company is
considering alternatives relating to the sale of these notes.

   During the six-month period ended June 30, 2002, the Company repaid
commercial paper borrowings and revolving credit facilities of approximately
$255 million. Additionally, during the six months ended June 30, 2002, Dynegy
issued an aggregate of $193 million of letters of credit under its revolving
credit facilities. During the period from June 30, 2002 through August 12,
2002, Dynegy paid at maturity $200 million in senior notes and borrowed $53
million and issued an aggregate of $289 million of letters of credit under the
revolving credit facilities.

NOTE 9--UNCONSOLIDATED INVESTMENTS

   Investments in affiliates that are not controlled by the Company but where
the Company has significant influence over operations are accounted for by the
equity method. The Company's share of net income from these affiliates is
reflected in the consolidated statements of operations as earnings (losses)
from unconsolidated investments. The Company's principal equity method
investments consist of entities that operate generation assets and natural gas
liquids assets. These equity investments totaled $778 million and $755 million
at June 30, 2002 and December 31, 2001, respectively. The Company entered into
these ventures principally for the purpose of sharing risk and leveraging
existing commercial relationships. These ventures maintain independent capital
structures and have financed their operations on a non-recourse basis to the
Company. Dynegy holds investments in joint ventures in which ChevronTexaco or
its affiliates are investors. For additional information about these
investments, please read Note 11--Related Party Transactions in the 2001 Form
10-K.

   Generation Assets.  These investments include ownership interests in eight
joint ventures that own fossil fuel electric generation facilities in diverse
geographic regions as well as a limited number of international ventures. The
Company's ownership is generally 50 percent in the majority of these ventures.
The Company's aggregate net investment of $644 million at June 30, 2002
represents approximately 2,400 MW of net generating capacity. The Company's
most significant investment in generating capacity is its interest in West
Coast Power, representing approximately 1,400 MW of net generating capacity in
California. The net investment in West Coast Power totaled approximately $348
million at June 30, 2002. West Coast Power provided equity earnings of
approximately $37 million and $70 million in the six months ended June 30, 2002
and 2001, respectively.

   Midstream Investments.  These investments primarily include ownership
interests in three ventures that operate natural gas liquids ("NGL")
processing, extraction, fractionation and storage facilities in the Gulf Coast
region as well as an interstate NGL pipeline. The Company's ownership interest
in these ventures ranges from 23 percent to 39 percent. At June 30, 2002, the
Company's aggregate net investment in these midstream businesses totaled
approximately $134 million.

   Summarized aggregate financial information for these generation and
midstream investments and Dynegy's equity share thereof was (in millions):

<TABLE>
<CAPTION>
                                    Six Months Ended June 30,
                                   ---------------------------
                                       2002          2001
                                   ------------- -------------
                                          Equity        Equity
                                   Total  Share  Total  Share
                                   ------ ------ ------ ------
                  <S>              <C>    <C>    <C>    <C>
                  Revenues........ $1,594  $662  $2,153  $891
                                   ------  ----  ------  ----
                  Operating margin $  316  $123  $  313  $139
                                   ------  ----  ------  ----
                  Net income...... $  155  $ 63  $  210  $ 88
                                   ------  ----  ------  ----
</TABLE>

                                      25

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   Other Investments.  In addition to these equity investments, the Company
holds interests in non-public companies for which it does not have significant
influence over the operations. These investments are generally accounted for by
the cost method. Such investments totaled $28 million and $39 million at June
30, 2002 and December 31, 2001, respectively. The change is primarily
attributed to the impairment of technology investments resulting from
unfavorable market conditions. See Note 4 for further discussion regarding
these impairments.

   The Company also owns equity securities that have a readily determinable
fair market value and are considered available-for-sale. The market value of
these investments at June 30, 2002 and December 31, 2001 was determined to be
$12 million and $9 million, respectively. The change is primarily attributed to
the decline in value of available-for-sale technology investments resulting
from unfavorable market conditions. The Company wrote off the unrealized losses
related to such dealings in the second quarter 2002. The Company is in the
process of selling these investments.

NOTE 10--COMMITMENTS AND CONTINGENCIES

   PLEASE NOTE THAT THE INFORMATION CONTAINED IN THIS NOTE 10, WHICH WAS
PRESENTED IN THE COMPANY'S SECOND QUARTER 2002 FORM 10-Q ORIGINALLY FILED WITH
THE SEC ON AUGUST 14, 2002 IN ORDER TO REFLECT MATERIAL CHANGES IN OR UPDATES
TO THE COMPANY'S MATERIAL LEGAL PROCEEDINGS SINCE THE ORIGINAL FILING OF ITS
2001 FORM 10-K AND FIRST QUARTER 2002 FORM 10-Q, DOES NOT REFLECT EVENTS
OCCURRING AFTER AUGUST 14, 2002. FOR A DESCRIPTION OF THESE EVENTS, INCLUDING
MATERIAL CHANGES IN OR UPDATES TO THE COMPANY'S MATERIAL LEGAL PROCEEDINGS,
PLEASE READ ITS EXCHANGE ACT REPORTS FILED SINCE AUGUST 14, 2002, INCLUDING ITS
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002. SEE
NOTE 14--SUBSEQUENT EVENTS FOR FURTHER DISCUSSION.

   Please see Note 11, "Commitments and Contingencies," in the 2001 Form 10-K
and Note 8, "Commitments and Contingencies," in the Company's Form 10-Q for the
quarter ended March 31, 2002 (the "Form 10-Q") for a description of the
Company's material legal proceedings. Set forth below is a description of any
material developments that have occurred with respect to such proceedings since
the Company's filing of the Form 10-Q for the first quarter 2002 and a
description of any new matters that have arisen during the quarter.

   We record reserves for estimated losses from contingencies when information
available indicates that a loss is probable and the amount of the loss is
reasonably estimable in accordance with SFAS No. 5, "Accounting for
Contingencies." For environmental matters, we record liabilities when
environmental assessment indicates that remedial efforts are probable and the
costs can be reasonably estimated. Please read Note 2--Accounting Policies of
the 2001 Form 10-K for further discussion.

   With respect to several of the items listed below, Dynegy has determined
that a loss is not probable or that any such loss, to the extent probable, is
not reasonably estimable. Notwithstanding the foregoing, Dynegy's management
has assessed the matters described below based on currently available
information and made an informed judgment concerning the potential outcome of
such matters, giving due consideration to the nature of the claim, the amount
and nature of damages sought and the possibility of success. Management's
judgment may,

                                      26

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

as a result of facts arising prior to resolution of these matters or other
factors, prove inaccurate and investors should be aware that such judgment is
made subject to the known uncertainty of litigation.

   Baldwin Station Litigation.  Illinois Power ("IP") and Dynegy Midwest
Generation, Inc. (collectively, the "Defendants"), are currently the subject of
a Notice of Violation ("NOV") from the Environmental Protection Agency (the
"EPA") and a complaint filed by the EPA and the Department of Justice alleging
violations of the Clean Air Act (the "Act") and the regulations promulgated
under the Act. Similar notices and complaints have been filed against a number
of other utilities. Both the NOV and the complaint allege that certain
equipment repairs, replacements and maintenance activities at the Defendants'
three Baldwin Station generating units constituted "major modifications" under
the Prevention of Significant Deterioration and/or New Source Performance
Standards regulations. When activities that meet the definition of "major
modifications" occur and they are not otherwise exempt, the Act and related
regulations generally require that generating facilities meet more stringent
emissions standards, which may entail the installation of potentially costly
pollution control equipment. The Defendants filed an answer denying all claims
and asserting various specific defenses and a trial date of February 11, 2003
has been set.

   The Company believes that it has meritorious defenses to the EPA allegations
and will vigorously defend against these claims. The Company has undertaken
activities to significantly reduce emissions at the Baldwin Station since the
complaint was filed in 1999. In 2000, the Baldwin Station was converted from
high to low sulfur coal. This conversion resulted in sulfur dioxide emission
reductions of over 90% from 1999 levels. Furthermore, selective catalytic
reduction equipment has been installed at two of the three units at Baldwin
Station resulting in significant emission reductions of nitrogen oxides.
However, the EPA may seek to require the installation of the "best available
control technology" (or the equivalent) at the Baldwin Station. Independent
experts hired by Dynegy estimate capital expenditures of up to $380 million if
the installation of best available control technology is required. The EPA also
has the authority to seek penalties for the alleged violations in question at
the rate of up to $27,500 per day for each violation. The Company has filed a
motion for summary judgment based on the five-year statute of limitations,
which could affect the EPA's ability to collect penalties.

   None of the Defendants' other facilities are covered in the complaint and
NOV, but the EPA has officially requested information concerning activities at
the Defendants' Vermilion, Wood River and Hennepin Plants as well as Dynegy
Northeast Generation's Danskammer and Roseton Plants. It is possible that the
EPA will eventually commence enforcement actions based on activities at those
plants as well.

   On June 13, 2002, the EPA announced its intention to implement several
reforms to its regulations governing new source review. These reforms, if made,
would clarify the routine maintenance, repair and replacement exclusion,
provide more certainty in evaluating permit requirements and increase
operational flexibility for affected facilities.

   California Market Litigation.  Six class action lawsuits have been filed
against various Dynegy entities based on the events occurring in the California
power market. The complaints allege violations of California's Business and
Professions Code, Unfair Trade Practices Act and various other statutes. The
plaintiffs allege that the defendants, including the owners of in-state
generation and various power marketers, conspired to manipulate the California
wholesale power market to the detriment of California consumers. Included among
the acts forming the basis of the plaintiffs' claims are the alleged improper
sharing of generation outage data, improper withholding of generation capacity
and the manipulation of power market bid practices. The plaintiffs seek
unspecified treble damages.

                                      27

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   All six lawsuits were consolidated before Judge Sammartino, Superior Court
Judge for the County of San Diego. Subsequent to the consolidation, two
defendants filed cross-complaints against a number of corporations and
governmental agencies that sold power in California's wholesale energy markets.
Four cross defendants removed the six cases to the United States District Court
for the Southern District of California (San Diego). Following removal, certain
cross defendants filed motions to dismiss the cross complaints, which motions
are pending. The original plaintiffs in the six consolidated complaints filed
motions to remand the consolidated cases back to state court, which motions are
pending. The defendants in the six consolidated cases have filed motions to
dismiss the complaints based on the filed rate doctrine and preemption defense,
which motions are currently pending. Federal Judge Whaley has decided that the
Court will hear the motion to remand and the cross defendants' motion to
dismiss on September 19, 2002. If the Court decides that it has jurisdiction
over the claims, the defendants' motion to dismiss will be heard as soon as
possible after September 19th.

   On March 11, 2002, the California Attorney General filed, on behalf of the
People of the State of California, complaints in San Francisco Superior Court
against several owners of power generation facilities, including subsidiaries
of West Coast Power. The complaints allege that since June 1998, these
generators sold power in the open market that should have been held in
emergency reserve for the State. In the aggregate, the complaints seek more
than $150 million in penalties, restitution and return of profits from the
generators. These lawsuits were subsequently removed to the United States
District Court for the Northern District of California. The California Attorney
General filed motions to remand the cases back to state court. By Order issued
on August 6, 2002, Judge Walker denied the motions to remand, thus keeping the
cases in federal court. The Company intends to vigorously defend against these
claims.

   In addition to the six consolidated lawsuits discussed above, eight new
putative class actions were filed on behalf of business and residential
electricity consumers, including consumers residing in the state of Washington.
The lawsuits were filed in various state courts and in Northern California, and
in respect to the lawsuit on behalf of consumers in the state of Washington, in
the United States District Court for the Northern District of California. Named
as defendants are various generators and marketers, including Dynegy and some
of our affiliates. The complaints allege unfair, unlawful, and deceptive
practices in violation of the California Unfair Business Practices Act and seek
to enjoin illegal conduct, restitution and unspecified damages. While some of
the allegations in these lawsuits are similar to the allegations in the other
six lawsuits, these lawsuits include additional allegations based on events
occurring subsequent to the filing of the other six lawsuits. These additional
allegations include allegations similar to those made by the California
Attorney General in the March 11, 2002 lawsuit described above as well as
allegations that contracts between these power generators and the California
Department of Water Resources (the "DWR") constitute unfair business practices
resulting from market manipulation. The lawsuits filed in state court have been
removed to federal courts. Some defendants have filed a petition with the
Judicial Panel For Multidistrict Litigation seeking to consolidate the new
cases with the six cases consolidated in the United States District Court for
the Southern District of California. The Company intends to vigorously defend
against these claims.

   On May 13, 2002, two California law firms filed suit in California State
Court against more than 20 energy generators, including those owned directly by
West Coast Power and indirectly by Dynegy. This suit principally alleges the
defendant generators, in connection with their execution of long-term power
supply contracts with the DWR, took advantage of a manipulated market to
overcharge for electricity. The suit, which was filed on behalf of California
taxpayers, seeks to halt enforcement of the existing DWR contracts to the
extent that the agreed prices are found to be unfair. The suit further seeks
damages in the amount of the alleged excess prices under the contracts. The
Company intends to vigorously defend against these claims.

                                      28

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   Enron Litigation.  As previously described, Dynegy Inc. and Dynegy were sued
on December 2, 2001 by Enron and Enron Transportation Services Co. in the
United States Bankruptcy Court for the Southern District of New York, Adversary
Proceeding No. 01-03626 (AJG). Enron claims that Dynegy Inc. materially
breached the Merger Agreement dated November 9, 2001 between Enron and Dynegy
Inc. and related entities by wrongfully terminating that Agreement on November
28, 2001. Enron also claimed that Dynegy wrongfully exercised its option to
take ownership of Northern Natural under an Option Agreement dated November 9,
2001. Enron sought damages in excess of $10 billion and declaratory relief
against Dynegy Inc. for breach of the Merger Agreement. Enron also sought
unspecified damages against Dynegy Inc. and Dynegy for breach of the Option
Agreement. Dynegy filed an answer on February 4, 2002, denying all material
allegations. On April 12, 2002, the Bankruptcy Court granted Dynegy's motion to
transfer venue in the proceeding to the United States District Court for the
Southern District of Texas (Houston Division).

   Dynegy also previously described a suit filed against Dynegy Inc. and Dynegy
by Ann C. Pearl and Joel Getzler in the United States District Court for the
Southern District of New York, Cause No. 01 CV 11652. Plaintiffs filed the
lawsuit as a purported class action on behalf of all persons or entities who
owned common stock of Enron Corp. as of November 28, 2001. A similar suit was
filed by Bernard D. Shapiro and Peter Strub in the 129th Judicial District
Court for Harris County, Texas, Cause No. 2002-00080. Plaintiffs in each case
allege that they are intended third party beneficiaries of the Merger Agreement
dated November 9, 2001 among Enron and Dynegy Inc. and related entities.
Plaintiffs claim that Dynegy materially breached the Merger Agreement by, inter
alia, wrongfully terminating that agreement. Plaintiffs also claim that Dynegy
breached the implied covenant of good faith and fair dealing. Plaintiffs seek
unspecified damages and other relief. Enron moved for an order of the
Bankruptcy Court in the Southern District of New York, directing that the Pearl
and Shapiro plaintiffs be enjoined from prosecuting their actions and
immediately dismiss those actions. The Bankruptcy Court held that the claims
asserted by the Pearl and Shapiro plaintiffs were the exclusive property of the
Enron bankruptcy estate, and that the plaintiffs lacked standing to sue as
third party beneficiaries of the Merger Agreement. Accordingly, by an order
entered on April 19, 2002, the Bankruptcy Court granted Enron's motion,
enjoined the prosecution of both actions, and directed that they be dismissed.
The Pearl and Shapiro plaintiffs thereafter complied with that order, but filed
an appeal to the United States District Court for the Southern District of New
York, which remains pending.

   Dynegy believes that we have meritorious defenses against these claims and
intends to vigorously defend against them. Dynegy is unable to estimate the
range of possible loss that could be incurred with respect to the lawsuits.
However, an adverse result in any of these proceedings could have a material
adverse effect on its financial position and results of operations.

   As previously described, as a result of Enron's bankruptcy filing, Dynegy
recognized in its fourth quarter 2001 financial statements a pre-tax charge
related to the Company's net exposure for commercial transactions with Enron.
As of June 30, 2002, the Company's net exposure to Enron, inclusive of certain
liquidated damages and other amounts relating to the termination of the
transactions, was approximately $84 million and was calculated by setting off
approximately $230 million owed from various Dynegy entities to various Enron
entities against approximately $314 million owed from various Enron entities to
various Dynegy entities. The master netting agreement between Dynegy and Enron
as well as the valuation of the commercial transactions covered by the
agreement, which valuation is based principally on the parties' assessment of
market prices for such period, remain subject to dispute by Enron with respect
to which there have been negotiations between the parties. These negotiations
have focused on the scope of the transactions covered by the master netting
agreement and the parties' valuations of those transactions. If any disputes
cannot be resolved by the parties, the agreements call for

                                      29

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

arbitration. If the setoff rights were modified or disallowed, either by
agreement or otherwise, the amount available for Dynegy entities to set off
against sums that might be due Enron entities could be reduced materially.

   Shareholder Litigation.  Since April 2002, a number of class action lawsuits
have been filed on behalf of purchasers of publicly traded securities of Dynegy
Inc. generally during the period between April 2001 and April 2002. These
lawsuits principally assert that Dynegy Inc. and certain of its executive
officers violated the federal securities laws in connection with Dynegy Inc.'s
accounting treatment and disclosure of Project Alpha. These lawsuits have been
consolidated in the United States District Court for the Southern District of
Texas. Under the Private Securities Litigation Reform Act of 1995, the court in
which the cases have been consolidated will appoint a lead plaintiff, and the
lead plaintiff will, in turn, select class counsel. Following that process, a
consolidated complaint will be filed which may differ materially from the
complaints presently on file. Dynegy intends to vigorously defend against these
lawsuits. It is not possible to predict with certainty whether the Company will
incur any liability or to estimate the damages, if any, that might be incurred
in connection with these lawsuits, but an adverse result could have a material
adverse effect on the Company's financial condition or results of operations.

   In addition, three derivative lawsuits have been filed in which the Company
is a nominal defendant. Two of these three lawsuits relate to Project Alpha and
the third relates to severance for the Company's former Chief Executive
Officer. All three lawsuits seek recovery on behalf of the Company from various
present and former officers and directors. These actions have only recently
been filed and the Company is analyzing them. The Company does not expect to
incur any material liability with respect to these derivative claims.

   Farnsworth Litigation.  On August 2, 2002, Bradley Farnsworth filed a
lawsuit against Dynegy in Texas state district court claiming that he was
demoted and ultimately fired from the position of Controller for refusing to
participate in illegal activities. Specifically, Mr. Farnsworth alleges, in the
words of his complaint, that certain of Dynegy's former executive officers
requested that he "shave or reduce for accounting purposes" the forward price
curves associated with the natural gas business in the United Kingdom for the
period of October 1, 2000 through March 31, 2001, in order to indicate a
reduction in Dynegy's mark-to-market losses. Mr. Farnsworth, who seeks
unspecified actual and exemplary damages and other compensation, also alleges
that he is entitled to a termination payment under his employment agreement
equal to 2.99 times the greater of his average base salary and incentive
compensation for the highest three calendar years preceding termination or his
base salary and target bonus amount for the year of termination (estimated at a
range of approximately $700,000 to $1,200,000). Dynegy believes that it has
meritorious defenses against these claims and intends to vigorously defend
against them. Dynegy does not believe that any liability it might incur as a
result of this litigation would have a material adverse effect on our financial
condition or results of operations.

   Roundtrip Transactions.  On November 15, 2001, Dynegy executed two sets of
simultaneous buy and sale trades with CMS Energy Corp. In the first set of
trades, Dynegy purchased 5 million megawatts of power from CMS Energy for
delivery in December 2001 at $25.50 per megawatt hour; concurrently, CMS Energy
purchased from Dynegy the same amount of power at the same price per megawatt
hour for delivery during the same period. In the second set of trades, Dynegy
purchased 20 million megawatts of power from CMS Energy for delivery in the
period January-December 2002 at $34.00 per megawatt hour; concurrently, CMS
Energy purchased from Dynegy the same amount of power at the same price per
megawatt hour for delivery during the same period. Dynegy and CMS have
terminated the 2002 trades.

   During the second quarter 2002, the Company undertook a comprehensive review
of these CMS Energy trades and its trading operations generally. The Company's
review confirmed that the CMS Energy trades were

                                      30

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

consummated outside the view of other trading parties and could not have
impacted market prices. In an April 30, 2002 press release, 2002 first quarter
Revenues and 2002 first quarter Costs of Sales each contained $236 million
related to these trades. These amounts netted to zero in the operating margin
line, resulting in no net income effect from the trades in that press release.
For the purposes of reporting for the first quarter 2002 in the 2002 Form 10-K
and herein, the revenues and costs of sales for accrued portions of the CMS
Energy trades were not included in the Company's December 31, 2001, March 31,
2002 or June 30, 2002 Revenues or Cost of Sales in the Consolidated Statements
of Operations. The volumes related to these CMS Energy trades were excluded
from the Operating Statistics for the WEN segment in the 2001 Forms 10-K and
10-K/A and the 2002 Forms 10-Q and 10-Q/A.

   Based on the Company's review of its trading operations to date, although
certain simultaneous buy and sell trades have been consummated, Dynegy believes
that it has not executed any simultaneous buy and sell trades with
counterparties for the purpose of artificially increasing its trading volumes
or revenues.

   SEC Investigation.  The SEC has commenced an investigation into the facts
and circumstances surrounding Project Alpha and the roundtrip trades described
above. The Company has produced documents and witnesses for interviews in
connection with this investigation. The Company has assured the SEC that it
intends to cooperate fully with this investigation. Dynegy has been informed by
the Staff of the SEC that they believe that, among other things, Dynegy's
disclosures and reports relating to both Project Alpha and the CMS Energy
trades violate various antifraud and other provisions of the federal securities
laws. The Company cannot predict the ultimate outcome of this matter.

   CFTC Investigation.  The U.S. Commodity Futures Trading Commission ("CFTC")
has commenced an investigation relating to, among other things, our past
trading activities on Dynegydirect the Company's on-line trading platform, and
any roundtrip gas or power trades since January 2000, including all trades or
trading activities between Dynegy and CMS Energy in November 2001. The
investigation also relates to the Company's trading activities in the
California power market. The Company has produced documents in connection with
this investigation. The Company has assured the Staff of the CFTC that we
intends to cooperate fully with this investigation. The Company cannot predict
the ultimate outcome of this matter.

   FERC and Related Regulatory Investigations.  On February 13, 2002, the FERC
initiated an investigation of possible manipulation of natural gas and power
prices in the western United States during the period from January 2001 through
the present. On May 8, 2002, in response to three memoranda (authorized by
individuals employed by, or previously employed by, Enron) discovered by the
FERC allegedly containing evidence of market manipulation by Enron in
California, the FERC issued requests for information to all sellers in the
California Independent System Operator (the "ISO") and the California Power
Exchange (the "PX") markets during 2000 and 2001 seeking information with
respect to whether those sellers engaged in trading strategies described in the
three Enron memoranda.

   Dynegy responded to these requests on May 22, 2002, and updated its
responses on July 30, 2002 at the conclusion of its due diligence. A California
State Senate committee subsequently issued similar requests, and Dynegy's
responses were consistent with those submitted to the FERC. Based on its
investigation to date, Dynegy believes that its trading practices are
consistent with applicable law and tariffs and will continue to cooperate fully
with these investigations. The California State Senate committee has not issued
its preliminary findings on its investigation, and Dynegy cannot predict with
certainty how such allegations will ultimately be resolved.

                                      31

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   On August 13, 2002, the FERC issued a notice requesting comments on a
proposal made by the FERC staff to change the method for determining natural
gas prices for purposes of computing the market mitigation clearing price that
it intends to utilize in calculating refunds for sales of power in California
power markets during the period from October 2, 2000 to June 19, 2001. As
drafted, the proposal would likely reduce gas prices used in the computation,
thus reducing the market mitigation clearing price for power and potentially
increasing calculated refunds, subject to a provision that would generally
provide full recoverability of fuel costs by the generators. The FERC has
provided parties to the refund proceeding with 30 days to provide comments and
it may or may not adopt the staff's recommendation. Dynegy is evaluating the
staff's recommendation and is unable to assess at this time the impact, if any,
that this proposal may have on any refunds which the FERC may order from Dynegy
or West Coast Power pursuant to the FERC's investigation of the California
power market for the period from October 2, 2000 to June 19, 2001.

   On May 21, 2002, the FERC issued requests for information to all sellers of
wholesale electricity and/or ancillary services in the Western Systems
Coordinating Council ("WSCC") seeking information with respect to whether those
sellers engaged in "wash," "round trip" or "sale/buyback" transactions in the
WSCC during the years 2000-2001. Dynegy responded on May 31, 2002. On May 22,
2002, the FERC issued requests for information to all sellers of natural gas in
the WSCC or Texas seeking information with respect to whether those sellers
engaged in "wash," "round trip" or "sale/buyback" transactions in the WSCC or
Texas during the years 2000-2001. Dynegy responded on June 5, 2002. On August
12, 2002, Dynegy updated its May 31 and June 5 responses at the conclusion of
its due diligence. Requests for similar information with respect to electric
power trading activities in the Electric Reliability Council of Texas were
received from the Texas Public Utility Commission on June 12, 2002. Dynegy
responded to these requests on July 2, 2002.

   Based on the investigation conducted in order to make these filings,
although certain simultaneous buy and sell trades have been consummated, Dynegy
believes it has not executed any simultaneous buy and sell trades with
counterparties for the purpose of artificially increasing its trading volumes
or revenues in these markets. Please read "CFTC Investigation" above for
discussion of the restated accounting treatment of these trades.

   In addition, on February 25, 2002 the California Public Utilities Commission
and the California Electricity Oversight Board filed complaints with the FERC
asking that it void or reform power supply contracts between the DWR and, among
others, West Coast Power. A rehearing order issued on July 23, 2002 affirmed
the underlying findings and conclusions related to West Coast Power's contract
with the DWR. The complaints allege that prices under the contracts exceed just
and reasonable prices permitted under the Federal Power Act. The FERC recently
set these complaints for evidentiary hearing. The hearing, however, is being
held in abeyance pending completion of settlement talks. While West Coast Power
continues in good faith negotiations with the State of California on reforming
the terms of its DWR contract, settlement ultimately may not be possible. If a
hearing on the contracts entered into by West Coast Power or others is
necessary, the first phase of the hearing will be limited to the question of
whether the California real-time market adversely affected the long-term
bilateral markets. While the Company believes the terms of its contracts are
just and reasonable and do not reflect alleged market manipulation, it cannot
predict the outcome of this matter.

   U.S. Attorney Investigation.  In May 2002, Dynegy received a subpoena from
the U.S. Attorney's office in Houston requesting documents relating to Project
Alpha, roundtrip trades with CMS Energy and the Black Thunder transaction. The
Company is cooperating fully with the U.S. Attorney's office in its
investigation of these matters. The Company cannot predict the ultimate outcome
of this matter.

                                      32

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


NOTE 11--REGULATORY ISSUES

   Dynegy is subject to regulation by various federal, state, local and foreign
agencies, including extensive rules and regulations governing transportation,
transmission and sale of energy commodities as well as the discharge of
materials into the environment or otherwise relating to environmental
protection. Compliance with these regulations requires general and
administrative, capital and operating expenditures including those related to
monitoring, pollution control equipment, emission fees and permitting at
various operating facilities and remediation obligations. In addition, the U.S.
Congress has before it a number of bills that could impact regulations or
impose new regulations applicable to Dynegy and its subsidiaries. Dynegy cannot
predict the outcome of these bills or other regulatory developments or the
effects that they might have on its business. For a more detailed description
of regulatory issues affecting the Company's business, please refer to "Item 1.
Business--Regulation" in the 2001 Form 10-K.

NOTE 12--RELATED PARTY TRANSACTIONS

   ChevronTexaco Commercial Arrangements.  In March 2002, Dynegy and
ChevronTexaco executed agreements to expand their commercial relationships to
include substantially all of the natural gas and domestic mixed NGLs and NGL
products produced or controlled by the former Texaco. This expanded
relationship increased the volume of natural gas Dynegy purchased from
ChevronTexaco from approximately 1.7 Bcf/d to approximately 2.9 Bcf/d. Dynegy
also provides supply and service for in excess of 1.6 Bcf/d of natural gas for
the combined ChevronTexaco facilities and third-party term markets. In
addition, the expanded contract with ChevronTexaco includes substantially all
of the U.S. NGL production of the former Texaco.

   Concurrent with the expanded commercial agreements, the two companies
executed a new security agreement designed to improve Dynegy's liquidity
position by reducing its reliance upon the financial markets for surety bonds
and letters of credit and to significantly reduce ChevronTexaco's open credit
exposure. The new security agreement involved the replacement of historic
credit support arrangements with a perfected security interest in a portion of
Dynegy's domestic natural gas receivables. Dynegy has the option to revert back
to historic credit support arrangements, which included the issuance of surety
bonds and/or letters of credit.

   In July 2002, Dynegy and ChevronTexaco executed a 90-day amendment to their
security agreement. This amendment was designed to address the reduction in
activity in Dynegy's gas marketing business and the corresponding reduction in
Dynegy's gas marketing receivables relative to the required coverage ratio
contained in the security agreement. The amendment, which was executed in
conjunction with a six-month netting agreement between the parties that has
since been made permanent, reduced the required coverage ratio contained in the
security agreement.

   In August 2002, Dynegy executed an agreement with ChevronTexaco pursuant to
which the parties amended the existing gas purchase agreement, security
agreement, netting agreement and certain related agreements. Under this new
agreement, Dynegy agreed to accelerate payment to the month of delivery for a
portion of the natural gas it purchases from ChevronTexaco, with the amount of
the accelerated payment generally being equal to 75 percent of the value of the
prior month's gas deliveries, after reduction pursuant to the netting agreement
between us and ChevronTexaco. This payment arrangement will be effective upon
the closing of the sale of Northern Natural described in Note 5 above. The
initial payment amount, upon consummation of the Northern Natural sale, is
estimated to be $187.5 million. The amount of the payment could change
materially as a result of changes in commodity prices. If the Northern Natural
sale does not close on or

                                      33

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001

prior to August 30, 2002, then a special report concerning the security
agreement coverage ratios would be due by September 4, 2002. Dynegy's right to
withdraw sums from the designated account in which the proceeds from the gas
receivables covered by the security agreement in favor of ChevronTexaco are
deposited would be suspended pending receipt of that report, and that report
demonstrating compliance with the required coverage ratios. Management believes
that absent the agreed payment with proceeds from the Northern Natural sale,
this special report likely would require Dynegy to pay additional amounts in
order to be in compliance with the coverage ratios under the security
agreement. The new agreement also suspends ChevronTexaco's right to request
special reports concerning the security agreement coverage ratios as long as
those payments are made, and makes permanent the netting agreement and
reduction in the coverage ratios referred to above.

   Also in August 2002, in partial satisfaction of certain of its obligations
to ChevronTexaco under these agreements, the Company sold to ChevronTexaco its
39.2% ownership interest in West Texas LPG Pipeline Limited Partnership
("WTLPS"), which is the owner of West Texas LPG Pipeline. ChevronTexaco was
already the owner of the largest interest in WTLPS and the operator of the
pipeline. The interest sold to ChevronTexaco was valued at approximately $45
million.

   The obligation to make payments as described above will be suspended if
Dynegy or a successor to its gas and natural gas liquids customer and
risk-management business carries at least two of the following three credit
ratings: at least BBB+ by Standard & Poor's, at least Baa1 by Moody's and at
least BBB+ by Fitch.

   Dan Dienstbier Contract for Services.  Dynegy entered into a services
agreement with Daniel L. Dienstbier effective as of May 28, 2002, the date on
which Mr. Dienstbier assumed the position of interim Chief Executive Officer.
Mr. Dienstbier agreed to serve as Dynegy's interim Chief Executive Officer
until either Dynegy or Mr. Dienstbier terminate the arrangement on 30 days'
written notice. Pursuant to the terms of the agreement, Dynegy agreed to pay
Mr. Dienstbier $1 million per year, to be paid ratably once per month, in the
form of cash or Dynegy Class A common stock as the parties shall agree. Upon
termination of the agreement, Mr. Dienstbier is eligible to receive a bonus
payment and a Class A common stock grant, in each case at Dynegy's discretion.
The agreement contains customary indemnification, confidentiality and
non-compete provisions relating to Mr. Dienstbier's provision of services.

   Preferred Stock.  Dynegy Inc. owns the approximately $1.5 billion in
preferred stock on the accompanying Condensed Consolidated Balance Sheet. This
is preferred stock in Northern Natural. (See Note 5.)

                                      34

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


NOTE 13--SEGMENT INFORMATION

   Dynegy's operations for the periods presented have been reported in three
segments: Dynegy Wholesale Energy Network ("WEN"), Dynegy Midstream Services
("DMS") and Transmission and Distribution ("T&D"). WEN is engaged in a broad
array of businesses, including physical supply of, and risk-management
activities around, wholesale natural gas, power, coal and other similar
products. This segment is focused on optimizing Dynegy's and its customers'
global portfolio of energy assets and contracts, as well as direct commercial
and industrial sales and retail marketing alliances. DMS consists of the
Company's North American midstream gas processing and natural gas liquids
marketing businesses and worldwide natural gas liquids marketing and
transportation operations. Dynegy's T&D segment includes the operations of
Northern Natural. Northern Natural's 16,600 miles of pipeline extend from the
Permian Basin in Texas to the Upper Midwest, providing extensive access to
major utilities and industrial customers. Northern Natural's storage capacity
is 59 billion cubic feet ("Bcf") and its market area capacity is approximately
4.3 Bcf per day. As reflected in Note 5, the Company is expecting to close the
sale of Northern Natural in August 2002. DGC is engaged in the communications
business. DGC has a global long-haul fiber optic network and metropolitan
network in cities in the United States and Europe. Management is aggressively
pursuing alternatives for exiting this business segment and has impaired
substantially all of the historical cost of the fiber optic network at June 30,
2002. Dynegy accounts for intercompany transactions at prevailing market rates.
Unaudited operating segment information for the three- and six-month periods
ended June 30, 2002 and 2001 is presented below. See the Explanatory Note for a
discussion of the restatements made to the financial information included
herein.

                                      35

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   DYNEGY'S SEGMENT DATA FOR THE QUARTER ENDED JUNE 30, 2002 ($ IN MILLIONS)

<TABLE>
<CAPTION>
                                                         WEN      DMS     T&D   Eliminations  Total
                                                       -------  ------  ------  ------------ -------
<S>                                                    <C>      <C>     <C>     <C>          <C>
Unaffiliated revenues:
   Domestic........................................... $ 5,975  $  578  $   74      $ --     $ 6,627
   Canadian...........................................     725     361      --        --       1,086
   European and other.................................   1,429     200      --        --       1,629
                                                       -------  ------  ------      ----     -------
                                                         8,129   1,139      74        --       9,342
                                                       -------  ------  ------      ----     -------
Affiliate revenues....................................     124      --      --        --         124
Intersegment revenues.................................      50      41       5       (96)         --
                                                       -------  ------  ------      ----     -------
       Total revenues.................................   8,303   1,180      79       (96)      9,466
                                                       -------  ------  ------      ----     -------
Depreciation and amortization.........................     (54)    (22)    (17)       --         (93)
Impairment and other charges..........................     (35)     (5)     (4)       --         (44)
Operating income (loss)...............................    (202)     11      10        --        (181)
Interest expense......................................     (32)    (14)    (16)       --         (62)
Other income (expense)................................       9     (12)     (1)       --          (4)
Earnings (losses) from unconsolidated Investments.....      17       4      --        --          21
Income tax provision (benefit)........................     (88)     (3)     (3)       --         (94)
Net income (loss)..................................... $  (120) $   (8) $   (4)     $ --     $  (132)
Identifiable assets:
   Domestic........................................... $16,666  $1,957  $2,764      $ --     $21,387
   Canadian...........................................     605     139      --        --         744
   European and other.................................   2,653      --      --        --       2,653
Investments in unconsolidated affiliates..............     672     146      --        --         818
Capital expenditures and investments in unconsolidated
  affiliates..........................................    (148)    (22)     (5)       --        (175)
</TABLE>

                                      36

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


   DYNEGY'S SEGMENT DATA FOR THE QUARTER ENDED JUNE 30, 2001 ($ IN MILLIONS)

<TABLE>
<CAPTION>
                                                         WEN      DMS   Eliminations  Total
                                                       -------  ------  ------------ -------
<S>                                                    <C>      <C>     <C>          <C>
Unaffiliated revenues:
   Domestic........................................... $ 8,334  $  901     $  --     $ 9,235
   Canadian...........................................   1,188     340        --       1,528
   European and other.................................     715     160        --         875
                                                       -------  ------     -----     -------
                                                        10,237   1,401        --      11,638
Affiliate revenues....................................     118      --        --         118
Intersegment revenues.................................      38      71      (109)         --
                                                       -------  ------     -----     -------
       Total revenues.................................  10,393   1,472      (109)     11,756
                                                       -------  ------     -----     -------
Depreciation and amortization.........................     (50)    (20)       --         (70)
Operating income (loss)...............................      93      32        --         125
Interest expense......................................     (21)    (14)       --         (35)
Other income (expense)................................     (36)     (6)       --         (42)
Earnings from unconsolidated investments..............      56       5        --          61
Income tax provision (benefit)........................      47       7        --          54
Net income (loss)..................................... $    45  $   10     $  --     $    55
Identifiable assets:
   Domestic........................................... $17,439  $1,889     $  --     $19,328
   Canadian...........................................     714     227        --         941
   European and other.................................     506      --        --         506
Investment in unconsolidated affiliates...............     620     161        --         781
Capital expenditures and investments in unconsolidated
  affiliates..........................................     (81)    (25)       --        (106)
</TABLE>

                                      37

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


 DYNEGY'S SEGMENT DATA FOR THE SIX MONTHS ENDED JUNE 30, 2002 ($ in millions)

<TABLE>
<CAPTION>
                                                         WEN      DMS     T&D   Eliminations  Total
                                                       -------  ------  ------  ------------ -------
<S>                                                    <C>      <C>     <C>     <C>          <C>
Unaffiliated revenues:
   Domestic........................................... $10,612  $1,228  $  172     $  --     $12,012
   Canadian...........................................   1,430     592      --        --       2,022
   European and other.................................   2,947     396      --        --       3,343
                                                       -------  ------  ------     -----     -------
                                                        14,989   2,216     172        --      17,377
Affiliate revenues....................................     237      --      --        --         237
Intersegment revenues.................................      76      74       5      (155)         --
                                                       -------  ------  ------     -----     -------
       Total revenues.................................  15,302   2,290     177      (155)     17,614
                                                       -------  ------  ------     -----     -------
Depreciation and amortization.........................    (103)    (41)    (28)       --        (172)
Impairment and other charges..........................     (35)     (5)     (4)       --         (44)
Operating income (loss)...............................    (203)     50      66        --         (87)
Interest expense......................................     (63)    (24)    (29)       --        (116)
Other income (expense)................................     (27)    (11)      1        --         (37)
Earnings (losses) from unconsolidated investments.....      44       8      --        --          52
Income tax provision (benefit)........................     (96)      9      15        --         (72)
Net income (loss)..................................... $  (153) $   14  $   23     $  --     $  (116)
Identifiable assets:
   Domestic........................................... $16,666  $1,957  $2,764     $  --     $21,387
   Canadian...........................................     605     139      --        --         744
   European and other.................................   2,653      --      --        --       2,653
Investments in unconsolidated affiliates..............     672     146      --        --         818
Capital expenditures and investments in unconsolidated
  affiliates..........................................    (422)    (53)     (9)       --        (484)
</TABLE>

                                      38

<PAGE>

                             DYNEGY HOLDINGS INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

                           (UNAUDITED AND RESTATED)

             For the Interim Periods Ended June 30, 2002 and 2001


 DYNEGY'S SEGMENT DATA FOR THE SIX MONTHS ENDED JUNE 30, 2001 ($ in millions)

<TABLE>
<CAPTION>
                                                                    WEN      DMS   Eliminations  Total
                                                                  -------  ------  ------------ -------
<S>                                                               <C>      <C>     <C>          <C>
Unaffiliated revenues:
   Domestic...................................................... $15,792  $2,412     $  --     $18,204
   Canadian......................................................   3,276     680        --       3,956
   European and other............................................   1,720     349        --       2,069
                                                                  -------  ------     -----     -------
                                                                   20,788   3,441        --      24,229
Affiliate revenues...............................................     231      --        --         231
Intersegment revenues............................................      74     176      (250)         --
                                                                  -------  ------     -----     -------
       Total revenues............................................  21,093   3,617      (250)     24,460
                                                                  -------  ------     -----     -------
Depreciation and amortization....................................     (95)    (40)       --        (135)
Operating income (loss)..........................................     288      89        --         377
Interest expense.................................................     (40)    (28)       --         (68)
Other income (expense)...........................................     (66)    (11)       --         (77)
Earnings from unconsolidated investments.........................      84       6        --          90
Income tax provision (benefit)...................................     129      19        --         148
Income (loss) from operations....................................     137      37        --         174
Cumulative effect of change in accounting principle..............       2      --        --           2
Net income (loss)................................................ $   139  $   37     $  --     $   176
Identifiable assets:
   Domestic...................................................... $17,439  $1,889     $  --     $19,328
   Canadian......................................................     714     227        --         941
   European and other............................................     506      --        --         506
Investments in unconsolidated affiliates.........................     620     161        --         781
Capital expenditures and investments in unconsolidated affiliates  (1,234)    (58)       --      (1,292)
</TABLE>

NOTE 14--SUBSEQUENT EVENTS

   DYNEGY HAS EXPERIENCED A NUMBER OF MATERIAL DEVELOPMENTS SINCE THE ORIGINAL
FILING OF ITS SECOND QUARTER 2002 FORM 10-Q ON AUGUST 14, 2002. FOR FURTHER
DISCUSSION OF THE EVENTS THAT HAVE AFFECTED THE COMPANY SINCE AUGUST 14, 2002,
PLEASE READ ITS EXCHANGE ACT REPORTS FILED SINCE SUCH DATE, INCLUDING ITS
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002, WHICH
DISCUSSION IS INCORPORATED HEREIN BY THIS REFERENCE.

                                      39

<PAGE>

                             DYNEGY HOLDINGS INC.

  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
                                  OPERATIONS

             For the Interim Periods Ended June 30, 2002 and 2001

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS

   The following discussion and analysis should be read in conjunction with the
unaudited condensed consolidated financial statements of Dynegy Holdings Inc.
("Dynegy" or the "Company") and the notes thereto included elsewhere herein and
with the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2001, as filed with the SEC. As discussed in the Introductory Note
to this Form 10-Q/A, the financial information contained in this report has
been revised to reflect the restatement items described in the Explanatory Note
to the accompanying unaudited Condensed Consolidated Financial Statements.
Dynegy has also amended its 2001 Form 10-K, with Amendment No. 1 thereto filed
with the SEC on April 16, 2003. The restatements to the Company's 2001
financial statements and related information are further described therein, and
this Form 10-Q/A should be read together with such Amendment No. 1.

   PLEASE NOTE THAT THE INFORMATION CONTAINED IN THIS FORM 10-Q/A, INCLUDING
THE FINANCIAL STATEMENTS AND THE NOTES THERETO, DOES NOT REFLECT EVENTS
OCCURRING AFTER AUGUST 14, 2002 (THE DATE ON WHICH DYNEGY ORIGINALLY FILED ITS
JUNE 30, 2002 FORM 10-Q). FOR A DESCRIPTION OF THESE EVENTS, PLEASE READ THE
COMPANY'S EXCHANGE ACT REPORTS FILED SINCE AUGUST 14, 2002, INCLUDING ITS
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002. SEE
NOTE 14--SUBSEQUENT EVENTS FOR FURTHER DISCUSSION.

   Dynegy is a global energy merchant. Through its owned and contractually
controlled network of physical assets and its marketing, logistics and
risk-management capabilities, the Company provides services to customers in
North America, the United Kingdom and Continental Europe. Dynegy's operations
are reported in three segments: Wholesale Energy Network ("WEN"), Dynegy
Midstream Services ("DMS") and Transmission and Distribution ("T&D").

   Like many companies in the merchant energy industry, Dynegy has faced a
number of challenges since the end of 2001. These challenges include, among
others, the effects of contraction in the trading markets and downgrades in the
Company's credit ratings on its ability to conduct its customer and
risk-management business, a weak commodity price environment for natural gas
and power, the impact of various legal proceedings and investigations involving
Project Alpha, roundtrip trades and the Company's failed merger with Enron,
increased collateralization requirements for the Company's commercial
obligations resulting from downgrades in its credit ratings and the effect of
these and other issues on public confidence in Dynegy's long-term business
strategy and its ability to generate sustainable cash flows.

   Since the Company filed its first quarter 2002 Form 10-Q on May 15, 2002,
Dynegy has announced a number of significant developments. On May 24, 2002,
Dynegy announced that it received a subpoena from the U.S. Attorney's office in
Houston requesting documents relating to the Company's transactions, including
Project Alpha and the roundtrip trades with CMS Energy. On May 28, 2002, Dynegy
announced that Charles L. Watson had resigned as its Chairman of the Board and
Chief Executive Officer and that two of its Board members, Glenn F. Tilton and
Daniel L. Dienstbier, respectively, had been appointed to fill those positions
on an interim basis. On June 19, 2002, Dynegy announced that Robert D. Doty,
Jr. had resigned as its Chief Financial Officer and that Louis J. Dorey had
been appointed to fill that position. Also on June 19th, Dynegy announced a
workforce reduction that affected approximately 309 employees.

                                      40

<PAGE>

   On June 24, 2002, Dynegy Inc. announced a $2 billion capital plan designed
to enhance liquidity and reduce debt. Dynegy also announced that
PricewaterhouseCoopers would re-audit Dynegy's 2001 financial statements as
part of the previously announced 2001 restatement process. Dynegy Inc. further
announced that its second quarter results were expected to include one-time
pre-tax charges of up to $450 million related to the communications business,
severance expenses, consulting fees and other charges. On July 15, 2002, Dynegy
Inc. announced that it would adjust upward its previously disclosed estimated
second quarter pre-tax charge from $450 million to $500 million as the result
of an increase in an expected non-cash charge in the Company's natural gas
marketing business. Dynegy also announced that it had requested
PricewaterhouseCoopers to expand its re-audit to include the Company's 1999 and
2000 financial statements. On July 23, 2002, Dynegy Inc. announced that it was
lowering its earlier fiscal year 2002 guidance for cash flow from operations to
a range of $600 million to $700 million from its previous estimate of up to $1
billion. The Company's parent attributed the reduction to a downturn in its
customer and risk-management activities, partially the result of industry
conditions, and lower-than-expected prices for power, natural gas and natural
gas liquids.

   These and other issues facing the Company have resulted in downgrades to the
Company's credit ratings by all three major credit rating agencies to below
investment grade. The Company's trading and commercial counterparties have also
required additional postings of collateral or ceased conducting business with
the Company. These actions, together with the general contraction in the
trading markets, contributed to lower than anticipated operating results and
cash flows during the second quarter 2002 and have materially adversely
affected the Company's business and operating capabilities. Dynegy remains
committed to addressing these issues. However, the Company's future financial
condition will depend upon Dynegy Inc.'s ability to successfully execute its $2
billion capital plan. Important factors impacting its ability to execute this
plan and to otherwise continue its operations and achieve its business strategy
include the following:

  .   Dynegy's ability to address its significant financial obligations given
      its non-investment grade status and lack of borrowing capacity;

  .   Dynegy's ability to rationalize its customer and risk-management
      business, either through the formation of a joint venture or the
      execution of an alternative strategy;

  .   Dynegy's ability to generate sustainable cash flows from its assets and
      businesses;

  .   ongoing investigations and litigation relating to Project Alpha, Black
      Thunder, the California power markets and roundtrip transactions; and

  .   confidence in Dynegy's financial reporting in light of the previously
      announced restatements and the re-audit of its 1999-2001 financial
      statements.

   Please read "Liquidity and Capital Resources" for additional details with
respect to these factors and "Uncertainty of Forward-Looking Statements and
Information" for additional factors that could impact future operating results.

                                      41

<PAGE>

                        LIQUIDITY AND CAPITAL RESOURCES

Capital Plan

   On June 24, 2002, Dynegy's parent announced a $2 billion capital plan
designed to enhance liquidity and reduce debt. These measures are in addition
to the equity sales and capital expenditure reductions totaling approximately
$1.25 billion previously achieved through its December 2001 capital plan. The
new plan proposed removing $301 million in obligations triggered by declines in
Dynegy's credit ratings, a $100 million reduction in capital expenditures, a
sale or joint venture of a portion of Dynegy's ownership interest in Northern
Natural and in its United Kingdom natural gas storage facilities, a proposed
initial public offering of Dynegy Energy Partners L.P., a proposed $300-$400
million mortgage bond offering by IP, workforce reductions and certain other
measures.

   As part of the capital plan, on June 27, 2002, Dynegy completed an amendment
to the Catlin Associates, LLC minority interest transaction (also referred to
as "Black Thunder"), which permanently removed a $270 million obligation which
could have been triggered by declines in Dynegy's credit ratings. The amended
agreement requires a subsidiary of Dynegy to amortize $275 million over the
remaining three years of the transaction. The subsidiary has already paid
approximately $73 million of the amortization. Quarterly maturities are
approximately $20 million through the first quarter 2005. In addition, Dynegy
agreed to grant mortgages on the midwest power generation assets covered by the
transaction, post a letter of credit to secure a contingent obligation expiring
on December 31, 2002 and make certain structural changes to enhance the
security of the third-party lenders involved in the transaction. As a result of
this amendment, $796 million related to Catlin Associates, LLC was reclassified
from Minority Interest to debt on Dynegy's Condensed Consolidated Balance
Sheets at June 30, 2002.

   On June 28, 2002, Dynegy completed a $250 million interim financing, which
bears interest at LIBOR plus 1.75 percent. This loan matures in June 2003 and
represents an advance on a portion of the proceeds from the expected sale of
certain of the Company's United Kingdom natural gas storage facilities. Dynegy
also completed a restructuring of the financing arrangements for West Coast
Power, LLC ("West Coast Power"), a joint venture owned equally by Dynegy and
NRG Energy, that resulted in the release of approximately $100 million in
letters of credit that Dynegy had posted on behalf of West Coast Power. In
connection with this restructuring, West Coast Power repaid bank borrowings
that resulted in the permanent elimination of a $31 million net obligation
which could have been triggered by declines in Dynegy's credit ratings.

   On July 15, 2002, Dynegy completed a $200 million interim financing, bearing
interest at LIBOR plus 1.38 percent. This loan matures in January 2003 and is
secured by interests in Dynegy's Renaissance and Rolling Hills merchant power
generation facilities.

   Dynegy incurred upfront fees aggregating approximately $19 million in
connection with the interim financings, Black Thunder amendment and West Coast
Power transaction described above.

   In addition, on July 28, 2002 Dynegy entered into an agreement to sell
Northern Natural Gas Company ("Northern Natural") to MidAmerican Energy
Holdings Company ("MidAmerican") for $928 million in cash, subject to
adjustment for working capital changes. Under the terms of this agreement,
MidAmerican is expected to acquire all of the common and preferred stock of
Northern Natural and to assume $950 million in outstanding Northern Natural
debt. The transaction is expected to close in August 2002 and is subject to
customary closing conditions, including expiration of the Hart-Scott-Rodino
waiting period, and the continuation of certain transition services to Northern
Natural. The sale will eliminate approximately $800 million of Northern Natural
debt on Dynegy's consolidated balance sheet.

   Following is a list of items that remain to be completed under Dynegy Inc.'s
original $2 billion capital plan:

  .   Closing of the pending sale of Northern Natural;

  .   Sale or joint venture transaction of Dynegy's natural gas storage and gas
      processing facilities in the United Kingdom;

                                      42

<PAGE>

  .   Sale of additional assets totaling $200 million;

  .   Issuance of $300-$400 million of IP mortgage bonds to repay or refinance
      existing obligations;

  .   Initial public offering of Dynegy Energy Partners L.P., a newly formed
      master limited partnership expected to own and operate a portion of the
      Company's downstream natural gas liquids business; and

  .   Consideration of an equity-like offering based on market conditions and
      the results of capital-enhancing transactions.

   The closing of the Northern Natural sale and the execution of the remaining
elements of the Company's capital plan are expected to provide sufficient
near-term liquidity for the Company. The remaining elements of the capital plan
are subject to a number of risks including factors beyond the Company's
control. These factors include, among others, market conditions for asset
sales, the timeliness and ability to obtain required regulatory approvals,
ongoing investigations and litigation, and the effect of commodity prices and
continued contraction in the markets in which the Company operates, which may
negatively impact the Company's operating cash flow. Current conditions have
caused the termination of a previously announced $325 million mortgage bond
offering by IP and delayed the proposed initial public offering of Dynegy
Energy Partners L.P. These conditions will also impact any potential
capital-raising activities for the Company in the near future. In addition,
Dynegy has previously announced its intention to rationalize its customer and
risk-management business through a joint venture or another strategic
alternative. Dynegy cannot guarantee that any of these planned transactions
will be successfully completed or that if completed they will occur on terms
that the Company anticipates.

Available Credit Capacity, Liquidity and Debt Maturities

   Dynegy is satisfying its capital requirements primarily with cash from
operations, cash on hand and limited borrowings available under its revolving
credit facilities. Dynegy does not have access to the commercial paper market
and has only limited access to the capital markets due to its non-investment
grade credit ratings, the ongoing re-audit of the Company's historical
financial statements and other factors. Given these facts, Dynegy expects to
continue to rely primarily on cash from operations, cash on hand and proceeds
from its capital plan initiatives to fund its near-term obligations.

   The following table summarizes Dynegy's credit capacity and liquidity
position at June 30, 2002:

<TABLE>
<CAPTION>
                                                   Dynegy
                                                  Holdings Northern
                                           Total    Inc.   Natural
                                          ------  -------- --------
                                               ($ in millions)
            <S>                           <C>     <C>      <C>
            Total Credit Capacity........ $1,790   $1,340   $ 450
            Outstanding Loans............   (840)    (390)   (450)
            Outstanding Letters of Credit   (570)    (570)     --
                                          ------   ------   -----
            Unused Borrowing Capacity.... $  380   $  380   $  --
            Cash.........................    322      322      --
            Highly Liquid Inventory(1)...    214      214      --
                                          ------   ------   -----
            Total Available Liquidity.... $  916   $  916   $  --
                                          ------   ------   -----
</TABLE>
--------
(1) Consists principally of natural gas inventories that the Company believes
    could be monetized within 60 days based on current spot market prices.

   During July and August 2002, Dynegy repaid approximately $200 million in
debt maturities and posted substantial additional collateral to support its
business resulting in a reduction in total liquidity from June 30, 2002. The
Company's total available liquidity as of August 12, 2002 was approximately
$558 million, including approximately $291 million in cash, $38 million in
available borrowing capacity and $211 million in highly liquid inventory.
Completion of the Northern Natural sale should enable Dynegy to have sufficient
time and

                                      43

<PAGE>

financial resources to rationalize its customer and risk-management business
through a joint venture or another strategic alternative, thereby reducing its
capital requirements and enhancing its liquidity position.

   Dynegy's current liquidity levels and its dependence on the sale of Northern
Natural and other elements of its capital plan for financing expose the Company
to substantial risk. In the event that the Northern Natural sale is not
completed or is significantly delayed or if other adverse developments impact
cash liquidity, the Company may not be able to meet its near-term obligations.
Over the longer term, particularly in the second quarter 2003 when Dynegy
expects to have approximately $1.5 billion in debt maturities, Dynegy's ability
to meet its obligations will require the successful execution of remaining
elements of the capital plan and the rationalization of its customer and
risk-management business. Dynegy faces execution risk with respect to its
capital plan and other strategies both in the near and longer term. If Dynegy
is unable to complete the Northern Natural sale in the near term or other
elements of its strategy prior to the second quarter 2003, it may be forced to
consider other strategic alternatives or a possible reorganization under the
protection of bankruptcy laws.

   As of August 12, 2002, the Company's debt and preferred stock maturities
through December 31, 2003, inclusive of letters of credit issued under
revolving credit facilities, were as follows: remainder of third quarter
2002--$19 million; fourth quarter 2002--$73 million (not including a $450
million secured line of credit at Northern Natural that will be assumed by
MidAmerican in the sale of Northern Natural as further described above); first
quarter 2003--$237 million; second quarter 2003--$1,553 million; third quarter
2003--$41 million; and fourth quarter 2003--$41 million.

Trade Credit and Other Collateral Obligations

   During the second quarter 2002, Dynegy continued to experience increased
demands to provide collateral in both its trading and other commercial
operations. Counterparties have increased their collateral demands and, in some
cases, have refused to transact little more than spot gas trades with Dynegy.
Most commercial agreements typically include "adequate assurance" provisions or
specific ratings triggers. Specific ratings triggers give counterparties the
right to suspend or terminate credit if the Company's credit ratings fall below
investment grade; "adequate assurance" provisions permit a counterparty to
request adequate assurance (which is generally not specified in the agreement)
of continued performance. Parties engaged in the customer and risk-management
business, including Dynegy, are attempting to implement standardized agreements
that allow for the netting of positive and negative exposures associated with a
single counterparty. Dynegy has executed or is in the process of negotiating
such agreements with a number of its trading partners.

   Dynegy's counterparties have historically relied upon its investment grade
credit rating to satisfy their credit support requirements. Prior to April 25,
2002, Dynegy had approximately $350 million in letters of credit posted in
connection with its commercial operations. Since that date, Dynegy has posted
approximately $710 million in additional cash and letters of credit to
collateralize its commercial obligations. Outstanding letters of credit and
cash collateral totaled approximately $1.06 billion as of August 12, 2002.

   As further described in Note 12 to the accompanying financial statements,
following the closing of the Northern Natural sale, Dynegy has agreed to
accelerate payment to the month of delivery for a portion of the natural gas
sold to Dynegy by ChevronTexaco under the parties' gas purchase agreement, with
the amount of the accelerated payment generally being equal to 75 percent of
the value of the prior month's gas deliveries, after reduction pursuant to the
parties' netting agreement. Upon consummation of the Northern Natural sale, the
initial payment amount will be $187.5 million. The amount of the payment could
change materially as a result of changes in commodity prices.

   As a result of downgrades to Dynegy's credit ratings, the Company received a
request from Sithe/Independence Funding to provide adequate assurance for its
obligations under a long-term tolling agreement, and

                                      44

<PAGE>

three other related contracts, with the Sithe/Independence Power Project. The
Company's annual payments under these arrangements approximate $66 million and
the contracts extend through 2014. The Company has offered to post an
additional amount of collateral as adequate assurance under the contracts. The
Company has yet to reach agreement with Sithe/Independence Funding regarding a
mutually acceptable amount of collateral. Sithe/Independence Funding has sent
the Company a notice of default in this regard and the two parties are
continuing to negotiate with regard to these issues.

   Dynegy intends to continue to manage its customer and risk-management
business in a manner consistent with its liquidity position. In response to the
decreasing liquidity in the trading markets and the actions of counterparties
either requiring additional collateral or refusing to trade with the Company,
Dynegy has reduced the level of its customer and risk-management business
activities. The impact of this reduction in activities has adversely impacted
earnings and cash flow. Accordingly, Dynegy is assessing alternative strategies
for its customer and risk-management business. These alternatives include,
among others, an independently rated joint venture comprising this business and
potentially other complimentary assets or businesses. Dynegy's ability to
execute a joint venture or other alternative transaction with respect to its
customer and risk-management business will significantly affect its liquidity
position and future results of operations. For example, if Dynegy were to
contribute its customer and risk-management business to a joint venture with an
investment grade credit rating and independently established trade credit,
Dynegy's capital commitments with respect to that business would be
significantly reduced. Similarly, a reduction in the size of this business
would reduce Dynegy's capital commitments. However, the amount of this
reduction will depend upon the Company's ability to execute such a transaction
and the structure of any such transaction.

Credit Rating Discussion

   Credit ratings impact the Company's ability to obtain short- and long-term
financing, the cost of such financing and the execution of its commercial
strategies, including counterparty confidence and the Company's ability to
conduct its customer and risk-management business. In determining the Company's
credit ratings, the rating agencies consider a number of factors. Quantitative
factors that management believes are given significant weight include, among
other things, EBITDA; operating cash flow; total debt outstanding; off balance
sheet obligations and other commitments; fixed charges such as interest
expense, rent or lease payments; payments to preferred stockholders; liquidity
needs and availability; and various ratios calculated from these factors.
Qualitative factors include, among other things, predictability of cash flows,
business strategy, industry position, regulatory investigations and other
contingencies. Although these factors are among those considered by the rating
agencies, each agency may calculate and weigh each factor differently.

   Since the Company originally filed its first quarter 2002 Form 10-Q on May
20, 2002, all three major credit rating agencies have downgraded Dynegy's
credit ratings. On June 24, 2002, following the announcement of Dynegy Inc.'s
new capital plan, Fitch, Inc. lowered its credit ratings for, and maintained
its Ratings Watch Negative status on, Dynegy. The senior unsecured debt was
downgraded to "BB+," which is below investment grade. Fitch subsequently
downgraded the senior unsecured debt ratings to "BB-" and then to "B," which is
five notches below investment grade. Fitch stated that these ratings actions
were based on a continued weakening in Dynegy's credit profile and concerns
over Dynegy Inc.'s ability to generate sustainable cash flows and to execute
its $2 billion capital plan.

   On June 25, 2002, Standard & Poor's Rating Services lowered its ratings on
Dynegy and stated that these ratings would remain on CreditWatch with negative
implications. Standard & Poor's lowered its long-term corporate credit ratings
of Dynegy to "BBB-," its lowest investment grade credit rating. Standard &
Poor's subsequently lowered its long-term corporate credit ratings of Dynegy to
"BB" and then to "B+," which is four notches below investment grade. Standard &
Poor's stated that these ratings actions reflected pronounced erosion in
Dynegy's core merchant energy business, including the unwillingness of
counterparties to transact in little more than spot gas trades with Dynegy, and
Dynegy's failure to provide sustainable cash flow necessary for investment
grade status.

                                      45

<PAGE>

   On June 28, 2002, Moody's Investors Service lowered its ratings on Dynegy
and stated that the ratings outlook remained negative. The senior unsecured
debt was downgraded from "Baa3" to "Ba1," which is below investment grade.
Moody's subsequently lowered its senior unsecured debt ratings on Dynegy to
"B1," which is four notches below investment grade. Moody's stated that these
ratings actions were based on continuing concerns over Dynegy's liquidity and
operating cash flow, increased amounts of secured debt and the expectation that
future renewals of existing bank debt will likely be done on a secured basis,
effectively subordinating the Company's senior unsecured lenders.

   As of August 12, 2002, Dynegy's credit ratings, as assessed by the three
major credit rating agencies, were as follows:

<TABLE>
<CAPTION>
                                            Standard
                    Rated Enterprises       & Poor's Moody's Fitch
                    -----------------       -------- ------- -----
              <S>                           <C>      <C>     <C>
              Senior Unsecured Debt Rating:
                 Dynegy Holdings Inc.(1)...    B-      B1      B
                 Northern Natural..........    B+      B3      B
</TABLE>
--------
(1) Dynegy Holdings Inc. is the primary debt financing entity for the
    enterprise. This entity is a subsidiary of Dynegy Inc. and is a holding
    company that includes substantially all of the operations of the WEN and
    DMS business segments and Northern Natural, which is reported in the T&D
    segment.

   The recent downgrades in Dynegy's credit ratings have caused further
reductions in the amount of trade credit extended by Dynegy's counterparties.
Counterparties have generally increased their collateral demands relating to
Dynegy's trading and commercial obligations. Counterparties in Dynegy's
customer and risk-management business have refused to trade or are unwilling to
transact little more than spot gas trades with the Company. See "Trade Credit
and Other Collateral Obligations" discussion above. Additionally, Dynegy's
non-investment grade status has limited and will likely continue to limit
significantly its ability to refinance its debt obligations and to access the
capital markets and will likely increase the borrowing costs incurred by the
Company in connection with any refinancing activities. The Company's financial
flexibility is likely to be reduced as a result of, among other things,
restrictive covenants and other terms typically imposed on non-investment grade
borrowers.

Financing Trigger Events

   Dynegy's debt instruments and other financial obligations include routine
provisions, which, if not met, could require early payment, additional
collateral support or similar actions. For Dynegy, these trigger events include
leverage ratios, insolvency events, defaults on scheduled principal or interest
payments, acceleration of other financial obligations and change of control
provisions. Dynegy does not have any trigger events tied to specified credit
ratings or stock price in its debt instruments and has not executed any
transactions that require it to issue equity based on credit rating or other
trigger events.

Capital Leases

   In response to the initiatives underway at the FASB, on June 28, 2002, the
Company unilaterally undertook certain actions, the effect of which altered the
accounting for one of its existing lease obligations. These actions included
the delivery of a guarantee of the lessor debt in the lease of a power
generation facility. As a result of these actions, the lease is now accounted
for as a capital lease and approximately $165 million of generation assets and
the associated debt were brought on-balance sheet. The Company has the option
to purchase the related assets at lease maturity in 2005. This obligation bears
interest at a rate of LIBOR plus 1.5% to 2.75%, depending on the tranche.

                                      46

<PAGE>

   This non-cash action resulted in an increase to property, plant and
equipment and a corresponding increase in long-term debt on the Company's
condensed consolidated balance sheets. This obligation was previously reported
as a lease obligation in the footnotes to the Company's financial statements
and in the Commercial Financial Obligations and Contingent Financial
Commitments tables in the 2001 Form 10-K.

                                 OTHER MATTERS

California Market/West Coast Power

   Dynegy and NRG Energy each own 50 percent of West Coast Power, a joint
venture owning power generation plants in southern California. Dynegy's net
interest in West Coast Power represents approximately 1,400 MW of generating
capacity. Dynegy also participates in the California markets independently, as
a wholesale marketer of gas and power. Through its interest in West Coast
Power, Dynegy has credit exposure for past transactions to certain state
agencies ("ISO" and "PX"), which primarily relied on receipts from California
utilities to pay their bills. West Coast Power currently sells directly to the
California Department of Water Resources ("DWR") pursuant to other bilateral
agreements.

   As described in Note 10 to the accompanying financial statements, on
February 25, 2002, the California Public Utilities Commission and the
California Electricity Oversight Board filed complaints with the FERC asking
that it void or reform power supply contracts between DWR and, among others,
West Coast Power. The complaints allege that prices under the contracts exceed
just and reasonable prices permitted under the Federal Power Act. The FERC
recently set these complaints for evidentiary hearing. The hearing, however, is
being held in abeyance pending completion of settlement talks. While West Coast
Power continues in good faith negotiations with the State of California on
reforming the terms of its DWR contract, settlement ultimately may not be
possible. If a hearing on the contracts entered into by West Coast Power or
others is necessary, the first phase of the hearing will be limited to the
question of whether the California real-time market adversely affected the
long-term bilateral markets. Please read Note 11, "Commitments and
Contingencies," to the 2001 Form 10-K and Note 10 to the accompanying financial
statements for additional discussion of the Company's activities in the
California power market.

   As a result of West Coast Power's previously announced long-term sales
arrangement with the DWR, ongoing management of credit risk associated with
direct sales to customers in California and other factors, management believes
that Dynegy's primary exposure relates to the realization of its share of West
Coast Power's receivables from the ISO and PX and potential refunds or offsets
associated with related transactions. Transactions with the aforementioned
counterparties, other than the ISO and PX, are current under the terms of each
individual arrangement. At June 30, 2002, Dynegy's portion of the receivables
owed to West Coast Power by the ISO and PX approximated $208 million.
Management is continually assessing Dynegy's exposure, as well as its exposure
through West Coast Power, relative to its California receivables and
establishes reserves for contingent liabilities where the amount of potential
loss is determined to be probable and estimable. Dynegy's share of reserves
taken by West Coast Power totaled $(0.2) million and $14.2 million for the
three-month periods ended June 30, 2002 and 2001, respectively. Dynegy's share
of reserves taken by West Coast Power totaled zero and $99.6 million for the
six-month periods ended June 30, 2002 and 2001, respectively. Dynegy's share of
the total reserve at June 30, 2002 and December 31, 2001 was $151.8 million and
$151.8 million, respectively.

New Power Plants

   In the second quarter 2002, Dynegy started commercial operation at three new
merchant power plants in Kentucky and Michigan. The combined generating
capacity of the facilities is 1,510 MW. These three peaking facilities will
sell the power generated through the East Central Area Reliability Council and
other regions of the country.


                                      47

<PAGE>

Recent Accounting Pronouncements

   See Note 3 to the accompanying financial statements for a discussion of
recently issued accounting pronouncements that could affect the Company.
Additionally, the following further describes proposed rules that are likely to
affect the Company if they are issued.

   EITF Issue 02-3.  In June 2002, the EITF reached consensus on two of three
issues presented in EITF Issue 02-3 "Accounting for Contracts Involved in
Energy Trading and Risk Management Activities." First, the Task Force concluded
that all mark-to-market gains and losses on energy trading contracts (whether
realized or unrealized) should be shown net in the income statement,
irrespective of whether the contract is physically or financially settled. In
addition, the Task Force concluded that an entity should disclose the gross
transaction volumes for those energy trading contracts that are physically
settled. Beginning in the third quarter of 2002, Dynegy will present all
mark-to-market gains and losses on a net basis and will expand its volumetric
disclosures to comply with the consensus. Additionally, in accordance with the
transition provisions in the consensus, comparative financial statements will
be conformed to meet the requirements mandated by the Task Force. It is
estimated that this accounting change will reduce Dynegy's reported revenues
and cost of sales by as much as 90 percent in any given period. The change in
accounting classification will have no impact on operating income, net income,
earnings per share or cash flow from operations.

   The second consensus reached by the Task Force related to required
disclosures regarding energy trading operations. The Task Force agreed to
clarify the application of APB Opinion No. 22, "Disclosure of Accounting
Policies" and SOP 94-6, "Disclosure of Significant Risks and Uncertainties" to
an entity's energy trading operations by requiring that entities disclose the
applicability of EITF Issue 98-10, "Accounting for Contracts Involved in Energy
Trading and Risk Management Activities," the types of contracts that are
accounted for as energy trading contracts, a description of the methods and
significant assumptions used to estimate the fair value of various classes of
energy trading contracts and the sensitivity of its estimates to changes in the
near term. The Task Force indicated that additional disclosure regarding the
fair value of contracts, aggregated by source or method of estimating fair
value and by maturity date, would also be meaningful. The Company will assess
its disclosures with respect to these matters.

   The third issue addressed by the Task Force in EITF Issue 02-3 deals with
the recognition of unrealized gains and losses at inception (commonly referred
to as dealer profit) of an energy trading contract. The Task Force reached no
consensus on this issue and the issue was assigned to a working group for
resolution by no later than the end of the calendar year. Inherent in these
discussions is the fundamental conclusion of whether and when an enterprise
should use valuation models for the purpose of valuing energy contracts that
are transacted in regions or in periods which lack significant trading activity
(i.e., market liquidity).

   Consistent with SFAS No. 107, SFAS No. 125, and SFAS No. 133, EITF Issue No.
98-10 footnote 2, stated that quoted market prices in active markets are the
best evidence of fair value and shall be used as the basis for measuring
transactions, if available. The footnote further states that if a quoted market
price is unavailable, the estimate of fair value shall be based on the best
information available in the circumstances. The estimate of fair value shall
consider prices for similar energy contracts and the results of valuation
techniques to the extent available. Those techniques shall incorporate
assumptions that market participants would use in their estimates of values,
future revenues, future expenses, interest rates, default risk, prepayment
risk, and volatility. The guidance goes on to explain that examples of
valuation techniques include the present value of expected future cash flows
using discount rates commensurate with the risks involved, option-pricing
models, matrix pricing, option-adjusted spread models, and fundamental analysis.

   In EITF Issue No. 00-17, the Task Force reiterated its consensus that energy
contracts, including energy-related contracts, that are within the scope of
EITF Issue No. 98-10 should be reported at fair value on a stand-alone, or
individual contract, basis. In Issue No. 00-17, the Task Force declined to
specify whether any specific measurement techniques for estimating fair value
of individual contracts should be considered unacceptable or to

                                      48

<PAGE>

proscribe any specific valuation methodologies. Rather, the Task Force
reiterated that the estimate of fair value should be based on the best
information available in the circumstances. The Task Force stated in Issue No.
00-17 that:

  .   The price at which an energy contract is exchanged normally is its
      initial fair value;

  .   Current market transactions also may provide evidence for recognition of
      dealer profit;

  .   When available, current market transactions provide the basis for
      estimating subsequent changes in fair value;

  .   Valuation models, including option pricing models, should be used only
      when market transactions are not available to evidence fair values; and

  .   When valuation models are used, the best information available would
      consider, but is not limited to, recent spot prices and forward prices,
      and for option pricing models, the volatility implied by recent
      transactions, when available, or the historical volatility of the
      commodities and/or services underlying the contract.

   As stated previously, a working group of the Task Force was assigned the
task of definitively resolving this issue by the end of the calendar year.
However, upon issuing the EITF minutes of the June 19-20 EITF meeting (which
meeting included a discussion of Issue No. 02-3), the FASB staff stated that it
will continue to hold the view that EITF 98-10 and 00-17 do not allow for
recognition of dealer profit (i.e., unrealized gain or loss at inception of a
transaction) unless evidenced by quoted market prices or other current market
transactions for energy trading contracts with similar terms and
counterparties. The businesses affected, the models employed and the
assumptions underlying these models are disclosed in the 2001 Form 10-K.

   Management is uncertain as to how the working group will resolve issues
related to recognition of dealer profit. Further, it is unclear how the working
group will address dealer profit and the accounting transition resulting from
adoption of new guidance. Three transition alternatives exist in practice.
These transition alternatives include: (a) a retroactive restatement to
eliminate dealer profit recognized in previous periods; (b) a cumulative effect
adjustment for a change in accounting principle, which eliminates the
recognition of previous periods' dealer profit in the current period; or, (c)
as a prospective change, eliminating the recognition of dealer profit on future
transactions but leaving past transactions unaffected. Finally, it is unclear
whether the scope of the working group's activities will include a
comprehensive conclusion regarding the appropriateness of the use of models as
a fundamental method for valuing transactions when market quotations are
unavailable. Should the Task Force issue definitive guidance on any one or all
of these issues, it will impact Dynegy. However, the extent of the financial
impact to Dynegy, if any, cannot be predicted with any degree of certainty
until the scope of the Task Force's conclusion is known and the transition
alternative is mandated. If the Task Force prefers a retroactive or a
cumulative effect transition alternative, then Dynegy's historical financial
position and results of operations will be impacted negatively. If the Task
Force prefers a prospective transition alternative, then Dynegy's current
financial position will be unaffected and the impact to future operations in
the near term is not expected to be material (largely as a result of a
reduction in these types of transactions in the marketplace). As an order of
magnitude, approximately $42 million of liabilities valued using models are
included in Dynegy's net risk management assets at June 30, 2002.

   EITF Issue 01-08.  The EITF is deliberating the issue of when an
energy-related contract under EITF Issue No. 98-10, "Accounting for Contracts
Involved in Energy Trading and Risk Management Activities," is a lease. This
issue impacts the accounting for tolling arrangements that are considered
energy-related contracts. A working group has been formed to assess the
implications of this issue and their work is continuing. The working group
agreed that the evaluation of whether an arrangement conveys the right to use
property, plant, or equipment should be based on the substance of an
arrangement and that the property that is the subject of a lease must be
specified (explicitly or implicitly) either at inception of the arrangement or
at the beginning of the lease term. The working group generally agreed that
when property, plant, or equipment is explicitly identified and the

                                      49

<PAGE>

benefits of the property, plant, or equipment are conveyed based on the passage
of time, the arrangement is likely a lease. The difficulty in determining
whether an arrangement is a lease arises when the property, plant, or equipment
is not explicitly identified and/or the benefits of property, plant, or
equipment are conveyed based on the output of the property, plant, or
equipment. Management is uncertain as to how the working group will conclude on
this issue but will continue to assess the potential impact to the Company as
more definitive guidance from the working group is made public.

                            ACCOUNTING METHODOLOGY

   The Company has identified three critical accounting policies that require a
significant amount of judgment and are considered to be the most important to
the portrayal of Dynegy's financial position and results of operations. These
policies include the accounting for long-lived assets, the evaluation of
counterparty credit and other similar risks and revenue recognition. See Note 3
to the financial statements included in the 2001 Form 10-K for a discussion of
the process surrounding the evaluation of counterparty credit and other similar
risks. For disclosure on the Company's accounting for long-lived assets and
revenue recognition, refer to Note 2 to the financial statements included in
the 2001 Form 10-K. Accounting methodology and application of accounting
methodologies are more fully described in the 2001 Form 10-K.

             ENTERPRISE RISK MANAGEMENT, VALUATION AND MONITORING

   Market Risk.  The Company is exposed to commodity price variability related
to its natural gas, NGLs, crude oil, electricity and coal businesses. In
addition, fuel requirements at its power generation, gas processing and
fractionation facilities represent additional commodity price risks to the
Company. In order to manage these commodity price risks, Dynegy routinely
utilizes certain types of fixed-price forward purchase and sales contracts,
futures and option contracts traded on the New York Mercantile Exchange and
swaps and options traded in the over-the-counter financial markets to:

  .   Manage and hedge its fixed-price purchase and sales commitments;

  .   Provide fixed-price commitments as a service to its customers and
      suppliers;

  .   Reduce its exposure to the volatility of cash market prices;

  .   Protect its investment in storage inventories; and

  .   Hedge fuel requirements.

   The potential for changes in the market value of Dynegy's commodity,
interest rate and currency portfolios is referred to as "market risk." A
description of each market risk category is set forth below:

  .   Commodity price risks result from exposures to changes in spot rates,
      forward prices and volatilities in commodities, such as electricity,
      natural gas, coal, NGLs, crude oil and other similar products;

  .   Interest rate risks primarily result from exposures to changes in the
      level, slope and curvature of the yield curve and the volatility of
      interest rates; and

  .   Currency rate risks result from exposures to changes in spot rates,
      forward rates and volatilities in currency rates.

   Dynegy seeks to manage these market risks through diversification,
controlling position sizes and executing hedging strategies. The ability to
manage an exposure may, however, be limited by adverse changes in market
liquidity or other factors.

                                      50

<PAGE>

   Valuation Criteria and Management Estimates.  As more fully described in the
2001 Form 10-K, Dynegy utilizes a fair value accounting model for certain
aspects of its operations as required by generally accepted accounting
principles. The net gains or losses resulting from the revaluation of these
contracts during the period are recognized currently in the Company's results
of operations. For financial reporting purposes, assets and liabilities
associated with these transactions are reflected on the Company's balance sheet
as risk management assets and liabilities, classified as short- or long-term
pursuant to each contract's individual tenor. Net unrealized gains and losses
from these contracts are classified as revenue in the accompanying statement of
operations. Transactions that have been realized and settled are currently
reflected gross in revenues and cost of sales. Upon adoption of EITF 02-3,
effective for the third quarter 2002, realized and settled amounts will be
reflected net in the income statement.

   As more fully described in the Explanatory Note to the accompanying
unaudited Condensed Consolidated Financial Statements, the Company corrected
the forward power curve methodology it used to estimate the fair market value
of its U.S. power marketing and trading portfolio. Further, the Company
restated its financial statements, beginning with the third quarter 2001, to
reflect the revised methodology.

   Risk-Management Asset and Liability Disclosures.  The following tables
depict the mark-to-market value and cash flow components of the Company's net
risk-management assets and liabilities at June 30, 2002 and December 31, 2001:

            MARK-TO-MARKET VALUE OF NET RISK-MANAGEMENT ASSETS (1)

<TABLE>
<CAPTION>
                                            Total  2002(2) 2003 2004 2005 2006  Thereafter
                                            -----  ------- ---- ---- ---- ----  ----------
                                                           ($ in Millions)
<S>                                         <C>    <C>     <C>  <C>  <C>  <C>   <C>
Mark-to-Market Value of Net Risk-Management
  Assets and Liabilities:
   June 30, 2002........................... $ 376   $ (14) $164 $111 $18  $  2     $95
   December 31, 2001.......................   906     581   113   70  21    30      91
                                            -----   -----  ---- ---- ---  ----     ---
Increase (Decrease)........................ $(530)  $(595) $ 51 $ 41 $(3) $(28)    $ 4
                                            -----   -----  ---- ---- ---  ----     ---
</TABLE>
--------
(1) The table reflects the fair value of Dynegy's risk-management asset
    position after deduction of time value, credit, price and other reserves
    necessary to determine fair value. These amounts exclude the fair value
    associated with certain derivative instruments designated as hedges. The
    net risk-management assets of $481 million on the Condensed Consolidated
    Balance Sheet include the $376 million herein as well as emission allowance
    credits, other comprehensive income balances and other non-trading amounts.
(2) Amounts represent July 1 to December 31, 2002 values in the June 30, 2002
    row and January 1 to December 31, 2002 values in the December 31, 2001 row.

   The increases (decreases) in the Net Risk Management Asset and Liabilities
were impacted by the following:

  .   A net deferral of the anticipated timing of cash inflows totaling $95
      million from the 2002 through 2004 time periods to beyond 2006 related to
      long-term natural gas storage transactions. The change in the timing of
      cash inflows on these transactions results from the decision to extend
      the term of the contract through 2007;

  .   The realization of approximately $522 million of cash related to
      contracts settled during the first and second quarters of 2002; and

  .   The impact of the recognition of other net mark-to-market gains, change
      in reserves, changes in interest rates and changes in foreign exchange
      rates and their related impact on the discounted value of the portfolio
      and related annual cash flow amounts.

                                      51

<PAGE>

               CASH FLOW COMPONENT OF NET RISK-MANAGEMENT ASSET

<TABLE>
<CAPTION>
                             Six Months  Six Months
                               Ended       Ended
                              June 30,  December 31, Total
                                2002        2002     2002  2003 2004 2005  2006  Thereafter
                             ---------- ------------ ----- ---- ---- ----  ----  ----------
                                                    ($ in Millions)
<S>                          <C>        <C>          <C>   <C>  <C>  <C>   <C>   <C>
Cash Flow of Risk-Management
 Assets and Liabilities(1):
   June 30, 2002............    $522        $83      $605  $195 $136 $ 22  $ --     $212
   December 31, 2001........                          646   154  112   53    58      281
                                                     ----  ---- ---- ----  ----     ----
Increase (Decrease).........                         $(41) $ 41 $ 24 $(31) $(58)    $(69)
                                                     ----  ---- ---- ----  ----     ----
</TABLE>
--------
(1) The cash flow values at June 30, 2002 reflect realized cash flows for the
    six months ended June 30, 2002 and anticipated undiscounted cash inflows
    and outflows by contract based on tenor of individual contract position for
    the remaining periods and have not been adjusted for counterparty credit or
    other reserves. These amounts exclude the cash flows associated with
    derivative instruments designated as hedges as well as emission allowance
    credits and other non-trading amounts.

   The following table provides a reconciliation of the risk-management data on
the balance sheet, statement of operations and statement of cash flows ($ in
millions):

<TABLE>
<CAPTION>
                                                                                     As of and
                                                                                      For the
                                                                                     Six Months
                                                                                     Ended June
                                                                                      30, 2002
                                                                                     ----------
<S>                                                                                  <C>
BALANCE SHEET RISK-MANAGEMENT ACCOUNTS
Fair value of portfolio at January 1, 2002..........................................   $ 940
Risk-management gains recognized through the income statement in the period, net....      64
Cash received related to contracts settled in the period, net.......................    (522)
Changes in fair value as a result of a change in valuation technique(1).............      --
Non-cash adjustments and other......................................................      (1)
                                                                                       -----
Fair value of portfolio June 30, 2002...............................................   $ 481
                                                                                       -----
INCOME STATEMENT RECONCILIATION
Risk-management gains recognized through the income statement in the period, net....   $  64
Physical business recognized through the income statement in the period, net........     (30)
Non-cash adjustments and other......................................................      (3)
                                                                                       -----
Net recognized operating margin(2)..................................................   $  31
                                                                                       -----
CASH FLOW STATEMENT
Cash received related to risk-management contracts settled in the period, net.......   $ 522
Estimated cash paid related to physical business settled in the period, net.........     (30)
Timing and other, net(3)............................................................     (61)
                                                                                       -----
Cash received (paid) during the period..............................................   $ 431
                                                                                       -----
Risk Management cash flow adjustment for the six-month period ended June 30, 2002(5)   $ 400
                                                                                       -----
</TABLE>
--------
(1) Dynegy's modeling methodology has been consistently applied period over
    period.
(2) This amount consists primarily of the customer and risk-management portion
    of WEN's operating income before the deduction of Depreciation and
    Amortization, Impairment and Other Charges and General and Administrative
    Expenses.
(3) Primarily represents cash paid for emission credits and physical inventory
    utilized in customer and risk-management business.
(4) This amount is calculated as "Cash received (paid) during the period" less
    "Net recognized operating margin."

                                      52

<PAGE>

   The following table provides an assessment of net contract values by year
based on the Company's valuation methodology described above.

                     NET FAIR VALUE OF MARKETING PORTFOLIO

<TABLE>
<CAPTION>
                              Total 2002(1) 2003 2004 2005  2006 Thereafter
                              ----- ------- ---- ---- ----  ---- ----------
                                             ($ in Millions)
    <S>                       <C>   <C>     <C>  <C>  <C>   <C>  <C>
    Market Quotations(2)..... $232   $(14)  $ 78 $ 35 $(18) $(4)    $155
    Other External Sources(3)  186     --     83   74   25   (1)       5
    Prices Based on Models(4)  (42)    --      3    2   11    7      (65)
                              ----   ----   ---- ---- ----  ---     ----
                              $376   $(14)  $164 $111 $ 18  $ 2     $ 95
                              ----   ----   ---- ---- ----  ---     ----
</TABLE>
--------
(1) Amount represents July 1 to December 31, 2002 values.
(2) Prices obtained from actively traded, liquid markets for commodities other
    than natural gas positions. All natural gas positions for all periods are
    contained in this line based on available market quotations.
(3) Mid-term prices validated against industry posted prices.
(4) See "Critical Accounting Policies" in the 2001 Form 10-K/A for a discussion
    of Dynegy's use of long-term models.

   The Company is evaluating the possibility of presenting the Net Fair Value
of the Marketing Portfolio in two categories, "Market Quotations and Other
External Sources" and "Prices Based on Models" beginning in the third quarter
2002.

   Value at Risk ("VaR").  In addition to applying business judgment, senior
management uses a number of quantitative tools to manage the Company's exposure
to market risk. These tools include:

  .   Risk limits based on a summary measure of market risk exposure, referred
      to as VaR; and

  .   Stress and scenario analyses performed daily that measure the potential
      effects of various market events, including substantial swings in
      volatility factors, absolute commodity price changes and the impact of
      interest rate and foreign exchange rate movements.

   The modeling of the risk characteristics of Dynegy's marketing portfolio
involves a number of assumptions and approximations. Dynegy estimates VaR using
a JP Morgan RiskMetrics/TM/ approach assuming a one-day holding period. Inputs
for the VaR calculation are prices, positions, instrument valuations and the
variance-covariance matrix. While management believes that these assumptions
and approximations are reasonable, there is no uniform industry methodology for
estimating VaR, and different assumptions and/or approximations could produce
materially different VaR estimates.

   Dynegy uses historical data to estimate the Company's VaR and, to better
reflect current asset and liability volatilities, this historical data is
weighted to give greater importance to more recent observations. Given its
reliance on historical data, VaR is effective in estimating risk exposures in
markets in which there are not sudden fundamental changes or shifts in market
conditions. An inherent limitation of VaR is that past changes in market risk
factors, even when weighted toward more recent observations, may not produce
accurate predictions of future market risk. VaR should be evaluated in light of
this and the methodology's other limitations.

   VaR represents the potential loss in value of Dynegy's enterprise-wide
marketing portfolio due to adverse market movements over a defined time horizon
within a specified confidence level. For the VaR numbers reported below, a
one-day time horizon and a 95% confidence level were used. This means that
there is a one in 20 statistical chance that the daily portfolio value will
fall below the expected maximum potential reduction in portfolio value at least
as large as the reported VaR. Thus, a change in portfolio value greater than
the expected change in portfolio value on a single trading day would be
anticipated to occur, on average, about once a month. Gains or losses on a
single day can exceed reported VaR by significant amounts. Gains or losses can
also accumulate over a longer time horizon such as a number of consecutive
trading days.

                                      53

<PAGE>

   In addition, Dynegy has provided its VaR using a one-day time horizon and a
99% confidence level. The purpose of this disclosure is to provide an
indication of earnings volatility using a higher confidence level. Under this
presentation, there is one in one hundred statistical chance that the daily
portfolio value will fall below the expected maximum potential reduction in
portfolio value at least as large as the reported VaR. Average VaR is not
available for the six-month period ended June 30, 2002 or year ended December
31, 2001 due to the restatement of historical results. While VaR can be
calculated at a single point in time, it is not feasible to recalculate the
historical results necessary to calculate an average.

   The following table sets forth the aggregate daily VaR of Dynegy's marketing
portfolio:

                       DAILY VaR FOR MARKETING PORTFOLIO

<TABLE>
<CAPTION>
                                              June 30, December 31,
                                                2002       2001
                                              -------- ------------
                                                 ($ in Millions)
            <S>                               <C>      <C>
            One Day VaR--95% Confidence Level   $17        $17
                                                ---        ---
            One Day VaR--99% Confidence Level   $24        $24
                                                ---        ---
</TABLE>

   Credit Risk.  Credit risk represents the loss that the Company would incur
if a counterparty fails to perform under its contractual obligations. To reduce
the Company's credit exposure, the Company seeks to enter into netting
agreements with counterparties that permit Dynegy to offset receivables and
payables with such counterparties. Dynegy attempts to further reduce credit
risk with certain counterparties by entering into agreements that enable the
Company to obtain collateral or to terminate or reset the terms of transactions
after specified time periods or upon the occurrence of credit-related events.
The Company may, at times, use credit derivatives or other structures and
techniques to provide for third-party guarantees of the Company's
counterparties' obligations.

   Dynegy's industry has historically operated under negotiated credit lines
for physical delivery contracts. Dynegy's Credit Department, based on
guidelines set by Dynegy's Credit Policy Committee, establishes Dynegy's
counterparty credit limits. For collateralized transactions, the Company also
evaluates potential exposure over a shorter collection period and gives effect
to the value of collateral received. The Company further seeks to measure
credit exposure through the use of scenario analyses and other quantitative
tools. Dynegy's credit management systems monitor current and potential credit
exposure to individual counterparties and on an aggregate basis to
counterparties and their affiliates. Recent events in the merchant energy
industry have affected historical credit activities in the industry. Please
read "Trade Credit and Other Collateral Obligations" above.

   The following table displays the value of Dynegy's marketing portfolio,
inclusive of hedging activities, at June 30, 2002 (in millions):

<TABLE>
                <S>                                       <C>
                Investment Grade Credit Quality.......... $ 699
                Below Investment Grade Quality or Unrated   176
                                                          -----
                Value of portfolio before reserves.......   875
                Credit and market reserves...............  (499)
                                                          -----
                                                            376
                Other(1).................................   105
                                                          -----
                Net risk-management assets(2)............ $ 481
                                                          -----
</TABLE>
--------
(1) Amount represents emission allowance credits, other comprehensive income
    balances and other non-trading amounts.
(2) Represents amounts included in "Current Assets--Assets from Risk Management
    Activities," "Other Assets--Assets from Risk-Management Activities,"
    "Current Liabilities--Liabilities from Risk- Management Activities," and
    "Other Liabilities--Liabilities from Risk-Management Activities" on the
    Condensed Consolidated Balance Sheet.

                                      54

<PAGE>

   Interest Rate Risk.  Interest rate risk primarily results from variable rate
financial obligations and from providing risk management services to customers,
since changing interest rates impact the discounted value of future cash flows
used to value risk-management assets and liabilities. Management continually
monitors its exposure to fluctuations in interest rates and may execute swaps
or other financial instruments to hedge and mitigate this exposure.

   The following table sets forth the daily VaR associated with the interest
rate component of the marketing portfolio. Average VaR is not available for the
six-month period ended June 30, 2002 or the year ended December 31, 2001 due to
the restatement of historical results. While VaR can be calculated at a single
point in time, it is not feasible to recalculate the historical results
necessary to calculate an average. Dynegy seeks to manage its interest rate
exposure through application of various hedging strategies. Hedging instruments
executed to mitigate such interest rate exposure in the marketing portfolio are
included in the VaR as of June 30, 2002 and December 31, 2001 and are reflected
in the table below.

            DAILY VaR ON INTEREST COMPONENT OF MARKETING PORTFOLIO

<TABLE>
<CAPTION>
                                              June 30, December 31,
                                                2002       2001
                                              -------- ------------
                                                 ($ in Millions)
            <S>                               <C>      <C>
            One Day VaR--95% Confidence Level   $2.1       $0.1
                                                ----       ----
</TABLE>

   The increase in One Day VaR is due to changes in the interest rate exposure
on the underlying risk-management marketing portfolio. Interest rate swaps
entered into to manage such exposure were not simultaneously adjusted,
resulting in net interest rate exposure to the Company.

   In addition to the marketing portfolio, the Company is exposed to
fluctuating interest rates as it relates to other variable rate financial
obligations. Based on sensitivity analysis as of June 30, 2002, it is estimated
that a one percentage point interest rate movement in the average market
interest rates (either higher or (lower)) over the twelve months ended June 30,
2003 would decrease (increase) income before taxes by approximately $20
million. This amount was determined based on hypothetical interest rate
movement on our variable rate financial obligations as of June 30, 2002.

   Foreign Currency Exchange Rate Risk.  Foreign currency risk arises from the
Company's investments in affiliates and subsidiaries owned and operated in
foreign countries. Such risk is also a result of risk management transactions
with customers in countries outside the U.S. Management continually monitors
its exposure to fluctuations in foreign currency exchange rates. When possible,
contracts are denominated in or indexed to the U.S. dollar, or such risk may be
hedged through debt denominated in the foreign currency or through financial
contracts. At June 30, 2002, the Company's primary foreign currency exchange
rate exposures were the United Kingdom Pound, Canadian Dollar, European Euro
and Norwegian Kroner.

   The following table sets forth the daily and average foreign currency
exchange VaR. Hedging instruments executed to mitigate such foreign currency
exchange exposure are included in the VaR as of June 30, 2002 and December 31,
2001 reflected in the table below.

                DAILY AND AVERAGE FOREIGN CURRENCY EXCHANGE VaR

<TABLE>
<CAPTION>
                                                              June 30, December 31,
                                                                2002       2001
                                                              -------- ------------
                                                                 ($ in Millions)
<S>                                                           <C>      <C>
One Day VaR--95% Confidence Level............................   $0.7       $0.6
                                                                ----       ----
Average VaR for the Year-to-Date Period--95% Confidence Level   $0.4       $1.1
                                                                ----       ----
</TABLE>

                                      55

<PAGE>

   Derivative Contracts.  The absolute notional financial contract amounts
associated with the Company's commodity risk-management, interest rate and
foreign currency exchange contracts were as follows at June 30, 2002 and
December 31, 2001, respectively:

                      ABSOLUTE NOTIONAL CONTRACT AMOUNTS

<TABLE>
<CAPTION>
                                                                            June 30, December 31,
                                                                              2002       2001
                                                                            -------- ------------
<S>                                                                         <C>      <C>
Natural Gas (Trillion Cubic Feet)..........................................   17.592    12.044
Electricity (Million Megawatt Hours).......................................  152.842    79.931
Natural Gas Liquids (Million Barrels)......................................   37.267     5.655
Crude Oil (Million Barrels)................................................   37.250        --
Weather Derivatives (In thousands of $/Degree Day)......................... $    224   $   190
Coal (Millions of Tons)....................................................      9.8      18.5
Variable Rate Financial Obligation Interest Rate Swaps (In Millions of U.S.
  Dollars)................................................................. $  2,000   $    --
Weighted Average Fixed Interest Rate Paid (Percent)........................    2.755        --
Fair Value Hedge Interest Rate Swaps (In Millions of U.S. Dollars)......... $    626   $   206
   Fixed Interest Rate Received on Swaps (Percent).........................    5.619     5.284
Cash Flow Hedge Interest Rate Swaps (In Millions of U.S. Dollars).......... $     --   $   100
   Fixed Interest Rate Paid on Swaps (Percent).............................       --     4.397
Interest Rate Risk-Management Contract (In Millions of U.S. Dollars)....... $    932   $   503
   Fixed Interest Rate Paid (Percent)......................................    5.999     6.150
U.K. Pound Sterling Net Investment Hedges (In Millions of U.S. Dollars).... $    595   $   595
Average U.K. Pound Sterling Contract Rate (In U.S. Dollars)................ $  1.413   $ 1.413
</TABLE>

                                      56

<PAGE>

                             RESULTS OF OPERATIONS

   The following table reflects certain operating and financial data for the
Company's business segments for the three- and six-month periods ended June 30,
2002 and 2001. This financial data has been revised to reflect the restatement
items described in the Explanatory Note to the accompanying unaudited
Consolidated Financial Statements. Please read this Explanatory Note for
further discussion of these restatement items. For segment reporting purposes,
all general and administrative expenses incurred by Dynegy on behalf of its
subsidiaries are charged to the applicable subsidiary as incurred. Dynegy
allocates indirect general and administrative expenses to its subsidiaries
using a two-step formula that considers both payroll expense and the net book
value of property, plant and equipment. Interest expense incurred by Dynegy on
behalf of its subsidiaries is allocated based on the subsidiaries' debt to
equity relationship. Other income (expense) items incurred by Dynegy on behalf
of its subsidiaries are allocated equally among sub-components of the three
segments.

   Net income (loss) include the following charges (in millions):

<TABLE>
<CAPTION>
                                                        Three Months   Six Months Ended
                                                       Ended June 30,     June 30,
                                                       --------------- ---------------
                                                        2002    2001    2002     2001
                                                       ------- ------- -------  ------
                                                       Charges Charges Charges  Income
                                                       ------- ------- -------  ------
<S>                                                    <C>     <C>     <C>      <C>
Severance(1)..........................................   $21     $--     $21     $--
Loss on gas delivery commitment(2)....................    --      --      13      --
Impairment of communications assets(3)................     7      --       7      --
Cumulative effect of change in accounting principle(4)    --      --      --      (2)
Other(5)..............................................     8      --       8      --
</TABLE>
--------
(1) The Company recognized an after-tax charge of approximately $21 million
    ($32 million pre-tax) for severance benefits for approximately 309
    employees, including the Company's former Chief Executive Officer and Chief
    Financial Officer. The charge is included in Impairment and Other Charges
    in the accompanying Condensed Consolidated Statements of Operations.
(2) The Company incurred a $13 million ($18 million pre-tax) charge in the
    first quarter 2002 associated with a commitment to deliver gas assumed in
    the acquisition of Northern Natural. The pre-tax charge is included in
    Revenues in the accompanying Condensed Consolidated Statements of
    Operations.
(3) The Company recognized an after-tax charge of $7 million ($10 million
    pre-tax) associated with the write-down of certain technology investments
    for the three- and six-month periods ended June 30, 2002. The pre-tax
    charge is included in Earnings of Unconsolidated Affiliates in the
    accompanying Condensed Consolidated Statements of Operations.
(4) Effective January 1, 2001, the Company adopted Statement of Financial
    Accounting Standards No. 133, "Accounting for Derivative Instruments and
    Hedging Activities," as amended, realizing an after-tax cumulative effect
    gain of approximately $2 million.
(5) The amount represents $4 million after-tax ($6 million pre-tax) of fees
    related to a voluntary action that the Company took that altered the
    accounting for certain lease obligations. Additionally, the Company had $4
    million after-tax ($6 million pre-tax) of write-offs related to information
    technology equipment. These amounts are included in Other Income and Other
    Expenses in the accompanying Condensed Consolidated Statements of
    Operations.

Three-month Periods Ended June 30, 2002 and 2001

   For the quarter ended June 30, 2002, Dynegy recorded a net loss of $132
million, compared with second quarter 2001 net income of $55 million. The
second quarter 2002 net income includes after-tax charges of $7 million related
to the impairment of technology investments and $29 million primarily for
severance and related exit costs and other write-offs. The $187 million
decrease in net income is due primarily to the impairment charges in the 2002
period and reduced energy trading and customer origination and lower sales
prices received

                                      57

<PAGE>

by the Company's generation and natural gas liquids businesses. Second quarter
2002 results benefited from inclusion of the BG Storage Limited ("BGSL")
natural gas storage assets in the United Kingdom, which were acquired in the
fourth quarter 2001.

   As described in Note 3 to the accompanying financial statements, the Company
adopted Statement of Financial Accounting Standards No. 142, "Goodwill and
Other Intangible Assets" ("Statement No. 142"), effective January 1, 2002. The
Company's net income and earnings per share for the three months ended June 30,
2001, had goodwill not been amortized during that period, would have been $58
million.

   Operating income decreased $306 million quarter-to-quarter due primarily to
the $44 million pre-tax impairment and other charges in the 2002 period, less
price volatility for gas marketing in certain areas of the country, lower sales
prices received by the Company's generation and natural gas liquids businesses
and increased depreciation and amortization expense. Increased depreciation and
amortization expense is associated with the expansion of Dynegy's depreciable
asset base, primarily due to the acquisitions of Northern Natural and the BGSL
natural gas storage assets.

   Impacting Dynegy's consolidated results was the Company's earnings from
investments in unconsolidated affiliates, which were approximately $21 million
in 2002 compared to $61 million in 2001. Variances period-to-period in these
results primarily reflect the impact of the impairment of $10 million of
certain technology investments resulting from unfavorable market conditions, a
$36 million decrease in earnings related to West Coast Power.

   Interest expense totaled $62 million for the three-month period ended June
30, 2002, compared to $35 million for the equivalent 2001 period. The variance
is primarily attributable to higher average principal balances in the 2002
period compared to the 2001 period, partially offset by lower average interest
rates on borrowings.

   Other income and expenses, net (including minority interest expense and
accumulated distributions associated with trust preferred securities) totaled
$4 million in expense in the quarter ended June 30, 2002. Combined other income
and other expenses totaled $42 million in expense in the 2001 period. Variances
period-to-period in these results primarily reflect the impact of decreased
minority interest expense.

   The Company reported an income tax benefit of $94 million for the quarter
ended June 30, 2002, compared to an income tax provision of $54 million for the
2001 period. The effective tax rates approximated 42 percent and 50 percent in
2002 and 2001, respectively. The difference from the effective tax rates and
the statutory tax rate of 35 percent results principally from permanent
differences arising from the amortization of certain intangibles, book-tax
basis differences and the effect of certain foreign equity investments and
state income taxes.

Six-month Periods Ended June 30, 2002 and 2001

   For the six months ended June 30, 2002, Dynegy recorded a net loss of $116
million, compared with net income of $176 million in the same 2001 period. The
six-month period ended June 30, 2002 net income includes charges related to
technology investments, severance and a loss on a gas delivery commitment. The
decrease in net income is due primarily to the impairment charges in the 2002
period, decline in price volatility and lower sales prices received by the
Company's generation and natural gas liquids businesses in the second quarter,
partially offset by increased origination in the first quarter. In addition,
the 2002 period results benefited from the inclusion of Northern Natural, which
the Company acquired effective February 1, 2002, and the BGSL natural gas
storage assets. Net income for the six-month period ended June 30, 2001 also
includes the $2 million cumulative effect of change in accounting principle
recorded in connection with the Company's adoption of Statement No. 133.

                                      58

<PAGE>

   As described in Note 3 to the accompanying financial statements, the Company
adopted Statement of Financial Accounting Standards No. 142, "Goodwill and
Other Intangible Assets" ("Statement No. 142"), effective January 1, 2002. The
Company's net income for the six months ended June 30, 2001, had goodwill not
been amortized during the period, would have been $182 million.

   Operating income decreased $464 million period over period primarily due to
the $44 pre-tax impairment and other charges, less price volatility for gas
marketing in certain areas of the country, lower sales prices received by the
generation business and increased depreciation and amortization expense.
Increased depreciation and amortization expense is associated with the
expansion of Dynegy's depreciable asset base, primarily due to the acquisitions
of Northern Natural and the BGSL natural gas storage assets.

   Impacting Dynegy's consolidated results was the Company's earnings from
investments in unconsolidated affiliates, which were approximately $52 million
and $90 million in the 2002 and 2001 periods, respectively. Variances
period-to-period in these results primarily reflect the impact of the
impairment of $10 million of certain technology investments resulting from
unfavorable market conditions, a $33 million decrease in earnings related to
West Coast Power.

   Interest expense totaled $116 million for the six-month period ended June
30, 2002, compared to $68 million for the equivalent 2001 period. The variance
is primarily attributed to higher average principal balances in the 2002 period
compared to the 2001 period, partially offset by lower average interest rates
on borrowings.

   Other income and expenses, net (including minority interest expense and
accumulated distributions associated with trust preferred securities) totaled
$37 million in expense in the six-month period ended June 30, 2002 compared
with $77 million in expense in the same 2001 period. Variances period-to-period
in these results primarily reflect decreased minority interest expense.
Additional items impacting the variance include increased litigation expense
during 2002, losses associated with the retirement of existing IT systems
during the second quarter of 2002 as a result of implementing new systems and
gains recognized in 2001 from asset sales and insurance refunds.

   The Company reported an income tax benefit of $72 million for the six-month
period ended June 30, 2002, compared to an income tax provision of $148 million
for the 2001 period. The effective tax rates approximated 38 percent and 46
percent in 2002 and 2001, respectively. The difference from the effective tax
rates and the statutory tax rate of 35 percent results principally from
permanent differences arising from the amortization of certain intangibles,
book-tax basis differences and the effect of certain foreign equity investments
and state income taxes.

                                      59

<PAGE>

Segment Disclosures

                           WHOLESALE ENERGY NETWORK

<TABLE>
<CAPTION>
                                                          Three Months   Six Months Ended
                                                         Ended June 30,      June 30,
                                                        ---------------  ---------------
                                                         2002     2001    2002     2001
                                                        ------  -------  ------  -------
                                                                 ($ In Millions,
                                                          Except Operating Statistics)
<S>                                                     <C>     <C>      <C>     <C>
Operating Income (Loss):
   Customer and Risk-Management Activities............. $ (242) $    32  $ (303) $   157
   Asset Businesses....................................     40       61     100      131
                                                        ------  -------  ------  -------
       Total Operating Income (Loss)...................   (202)      93    (203)     288
Earnings from Unconsolidated Investments...............     17       56      44       84
Other Items............................................      9      (36)    (27)     (66)
                                                        ------  -------  ------  -------
       Earnings (Loss) Before Interest and Taxes.......   (176)     113    (186)     306
Interest Expense.......................................    (32)     (21)    (63)     (40)
                                                        ------  -------  ------  -------
       Pre-tax Earnings (Loss).........................   (208)      92    (249)     266
Income Tax Provision (Benefit).........................    (88)      47     (96)     129
                                                        ------  -------  ------  -------
       Income (Loss) From Operations...................   (120)      45    (153)     137
Cumulative Effect of Change in Accounting Principle....     --       --      --        2
                                                        ------  -------  ------  -------
       Net Income (Loss)............................... $ (120) $    45  $ (153) $   139
                                                        ------  -------  ------  -------
Operating Statistics:
 Natural Gas Marketing (Bcf/d)--
   Domestic Marketing Volumes..........................    8.5      8.2     9.1      8.3
   Canadian Marketing Volumes..........................    2.7      2.7     3.0      2.5
   European Marketing Volumes..........................    2.2      0.7     2.2      0.7
                                                        ------  -------  ------  -------
       Total Marketing Volumes.........................   13.4     11.6    14.3     11.5
                                                        ------  -------  ------  -------
   Million Megawatt Hours Generated-- Gross............   10.0      9.9    19.5     20.2
   Million Megawatt Hours Generated-- Net..............    9.1      7.9    17.6     16.9
   North American Physical Million Megawatt Hours Sold.   82.0     70.1   232.0    122.1
   European Physical Million Megawatt Hours Sold.......   36.2       --    96.2       --
                                                        ------  -------  ------  -------
       Total Physical Million Megawatt Hours Sold......  118.2     70.1   328.2    122.1
                                                        ------  -------  ------  -------
   Coal Marketing Volumes (Millions of Tons)...........    9.0      9.3    17.3     18.5
   Average Natural Gas Price--Henry Hub ($/MMbtu)...... $ 3.38  $  4.65  $ 2.86  $  5.85
   Average On-Peak Market Power Prices
       Cinergy......................................... $26.89  $ 39.71  $24.43  $ 41.01
       TVA.............................................  28.06    51.71   25.11    47.25
       PJM.............................................  35.84    44.09   30.54    44.19
       New York--Zone G................................  46.52    57.97   39.48    58.57
       Platts SP 15....................................  32.14   188.92   30.49   206.58
</TABLE>

Three-month Periods Ended June 30, 2002 and 2001

   WEN reported segment net loss of $120 million for the three-month period
ended June 30, 2002, compared with segment net income of $45 million in the
2001 quarter. The segment's customer and risk-management business incurred an
operating loss of $242 million during the second quarter 2002. The results
reflect reduced energy trading and customer origination due to an overall
decline in market liquidity because of increasing credit concerns in the
merchant energy sector, counterparty concerns over Dynegy's lower credit
ratings, a reduction in

                                      60

<PAGE>

the spread between natural gas and power prices and an allocated charge of $15
million associated with severance and related costs. The segment's asset
businesses recorded operating income of $40 million in the second quarter 2002.
The results reflect lower generation earnings due to an overall decrease in
commodity prices compared to the second quarter 2001 and an allocated charge of
$7 million associated with severance and related costs. The lower earnings from
generation were partially offset by margins associated with the BGSL natural
gas storage and processing facilities in the United Kingdom not included in
2001 results. The loss from unconsolidated investments in the second quarter
2002 resulted primarily from the impairment of certain technology equity
investments. Additionally, there was a $36 million decline in earnings from the
equity investment in West Coast Power due to a decrease in power prices and an
overall decline in demand. Interest expense was higher in the second quarter
2002 due to higher average borrowings, partially offset by lower average
interest rates.

   Total physical MW hours sold in the second quarter 2002 increased to 118.2
million MW hours as compared to 70.1 million MW hours in the second quarter
2001 due primarily to increased physical MW hours sold in Europe. Total natural
gas volumes sold in the second quarter 2002 increased to 13.4 billion cubic
feet per day as compared to 11.6 billion cubic feet per day during last year's
second quarter due primarily to increases in gas volumes sold in Europe.

Six-month Periods Ended June 30, 2002 and 2001

   WEN reported segment net loss of $153 million for the six-month period ended
June 30, 2002, compared with net income of $139 million in the same 2001
period. In addition to the items described above for the second quarter
comparisons, there are unfavorable variances in marketing activities due to a
continual decline in price volatility throughout the first quarter 2002 as well
as reduced margins associated with power generation as a result of lower market
prices.

   Total physical MW hours sold in the six-month period ended June 30, 2002
increased to 328.2 million MW hours compared to 122.1 million MW hours in the
same period in 2001 due primarily to increased physical MW hours sold in Europe
and greater customer origination in the first quarter of 2002. Total natural
gas volumes sold in the six months ended June 30, 2002 increased to 14.3
billion cubic feet per day as compared to 11.5 billion cubic feet per day
during the same period last year due to the inclusion of incremental
ChevronTexaco volumes associated with former Texaco equity production and
increases in gas volumes sold in Europe.

Outlook for Remainder of 2002

   The weak commodity price environment for natural gas and power has continued
into the third quarter 2002. In addition, the above-described reduction in
market liquidity has become more pronounced, as has the inability of the
customer and risk-management business to hedge its positions. These and other
factors, including counterparty concerns relating to Dynegy's non-investment
grade credit ratings and Dynegy's ability to rationalize its customer and
risk-management business through a joint venture or another strategic
alternative, can be expected to negatively impact this segment's results of
operations for the third quarter 2002 and beyond.

                                      61

<PAGE>

                           DYNEGY MIDSTREAM SERVICES

<TABLE>
<CAPTION>
                                                 Three Months   Six Months Ended
                                                Ended June 30,     June 30,
                                                --------------  --------------
                                                 2002    2001    2002     2001
                                                ------  ------  ------   ------
                                                        ($ In Millions,
                                                 Except Operating Statistics)
 <S>                                            <C>     <C>     <C>      <C>
 Operating Income:
    Upstream................................... $    6  $   21  $   19   $   62
    Downstream.................................      5      11      31       27
                                                ------  ------  ------   ------
        Total Operating Income.................     11      32      50       89
 Earnings from Unconsolidated Investments......      4       5       8        6
 Other Items...................................    (12)     (6)    (11)     (11)
                                                ------  ------  ------   ------
        Earnings Before Interest and Taxes.....      3      31      47       84
 Interest Expense..............................    (14)    (14)    (24)     (28)
                                                ------  ------  ------   ------
        Pre-tax Earnings (Loss)................    (11)     17      23       56
 Income Tax Provision (Benefit)................     (3)      7       9       19
                                                ------  ------  ------   ------
        Net Income (Loss)...................... $   (8) $   10  $   14   $   37
                                                ------  ------  ------   ------

 Operating Statistics:

 Natural Gas Processing Volumes (MBbls/d):
    Field Plants...............................   52.7    56.0    54.3     55.8
    Straddle Plants............................   37.9    27.9    37.1     25.2
                                                ------  ------  ------   ------
    Total Natural Gas Processing Volumes.......   90.6    83.9    91.4     81.0
                                                ------  ------  ------   ------
 Fractionation Volumes (MBbls/d)...............  241.6   250.6   223.2    224.9
    Natural Gas Liquids Sold (MBbls/d).........  468.8   493.8   538.7    567.9
    Average Commodity Prices:
        Natural Gas--Henry Hub ($/MMbtu)....... $ 3.38  $ 4.65  $ 2.86   $ 5.85
        Crude Oil--Cushing ($/Bbl).............  25.32   27.90   22.95    28.46
        Natural Gas Liquids ($/Gal)............   0.39    0.49    0.36     0.55
        Fractionation Spread ($ /MMBtu)........   1.02    0.92    1.16     0.45
</TABLE>

Three-month Periods Ended June 30, 2002 and 2001

   DMS reported net loss of $8 million in the second quarter 2002 compared with
net income of $10 million in the second quarter 2001. The segment's results of
operations were impacted by lower natural gas and NGL prices, the residual
volume effect of low rig counts in the second half of 2001 and a temporary
shutdown of a major third-party natural gas pipeline in North Texas, which
resulted in a decline in volumes processed. In addition, as a result of slow
economic recovery, high industry-wide inventory levels, reduced NGL liquidity
and Dynegy specific credit limitations, the segment experienced a decline in
domestic and foreign marketing volumes and margins.

   Aggregate domestic NGL processing volumes totaled 90.6 thousand gross
barrels per day in the second quarter 2002 compared to 83.9 thousand gross
barrels per day during the same period in 2001. A small percentage of this
volume increase resulted from the inclusion of incremental ChevronTexaco
volumes associated with former Texaco equity production. The majority of the
volume growth is related to the Louisiana straddle plants and is the direct
result of an increasing need to process Gulf of Mexico natural gas production
to meet third party pipeline dew point specification limits. This pipeline
specification-driven need for processing has moved fractionation spread risk to
the producer by shifting processing contract terms to a fee based arrangement
when keep-whole processing is not economical. The fractionation spread
represents the value

                                      62

<PAGE>

relationship between natural gas liquids and its component parts. This trend is
expected to continue as the volume of gas produced in the deep-water Gulf of
Mexico increases.

   The average fractionation spread was $1.02 for the three months ended June
30, 2002, compared to $0.92 for the comparable 2001 period. Despite the
year-over-year increase in this spread, traditional keep-whole processing is
still not economical at this level. Historically, the Louisiana straddle plants
would not have operated in this pricing environment.

   Gas processing volumes for the field plants were slightly lower for second
quarter 2002 as compared to prior period volumes as the result of low drilling
rig counts during the latter half of 2001 and second quarter 2002. DMS'
business is dependent on producer drilling activity in the producing regions
that its gathering systems serve. At current natural gas price levels,
producers are actively drilling new wells and DMS' new connect gas volumes for
processing are growing enough to more than offset natural decline in
production. The producers supplying DMS' facilities are primarily independent
producers who, as a group, react quickly to changes in gas prices. As natural
gas prices decline significantly from current levels, these producers have
historically reduced their drilling investment. If this occurs going forward,
DMS could experience difficulty in acquiring enough volumes to offset natural
declines. Conversely, as gas prices strengthen from current levels, producers
have historically invested more heavily in drilling and development.

Six-month Periods Ended June 30, 2002 and 2001

   DMS reported net income of $14 million in the six months ended June 30, 2002
compared with net income of $37 million in the six months ended June 30, 2001.
In addition to the items described above for the second quarter comparisons,
warmer winter temperatures influenced results of operations period-to-period.

   Aggregate domestic NGL processing volumes totaled 91.4 thousand gross
barrels per day in the six months ended June 30, 2002 compared to 81.0 thousand
gross barrels per day during the same period in 2001. A small percentage of
this volume resulted from the inclusion of incremental ChevronTexaco volumes
associated with former Texaco equity production. The majority of the volume
growth related to the Company's Louisiana straddle plants and is the direct
result of an increasing need to process Gulf of Mexico natural gas production
to meet third party pipeline dew point specification limits. This pipeline
specification-driven need for processing has moved fractionation spread risk to
the producer by shifting processing contract terms to a fee based arrangement
when keep-whole processing is not economical. This trend is expected to
continue as the volume of gas produced in the deep-water Gulf of Mexico
increases.

   The average fractionation spread was $1.16 for the six months ended June 30,
2002, compared to $0.45 for the comparable 2001 period. Despite the
year-over-year increase in this spread, traditional keep-whole processing is
still not economical at this level. Historically, the Louisiana straddle plants
would not have operated in this pricing environment.

Outlook for Remainder of 2002

   The weak fractionation spread environment has continued into the third
quarter 2002. The correlation of prices for propane relative to prices for oil
is lower than historical levels, yielding lower than expected revenues for DMS
in the current pricing environment. As described above, drilling activity,
which is substantially dependent upon the commodity pricing environment,
significantly impacts DMS' results of operations.

   In addition, counterparty credit concerns and the resulting industry-wide
contraction in trade credit have limited DMS' ability to purchase incremental
volumes of natural gas liquids at historical levels. DMS cannot predict with
any degree of certainty the effect that this contraction in credit will have on
its results of operations in the future.

                                      63

<PAGE>

                         TRANSMISSION AND DISTRIBUTION

<TABLE>
<CAPTION>
                                                Three Months
                                                Ended June    Six Months
                                                   30,       Ended June 30,
                                                ------------ --------------
                                                2002   2001   2002    2001
                                                ----   ----  ------   ----
                                                    ($ In Millions)
         <S>                                    <C>    <C>   <C>      <C>
         Operating Income...................... $ 10   $ --  $   66   $ --
         Losses from Unconsolidated Investments   --     --      --     --
         Other Items...........................   (1)    --       1     --
                                                ----   ----  ------   ----
            Earnings Before Interest and Taxes.    9     --      67     --
         Interest Expense......................  (16)    --     (29)    --
                                                ----   ----  ------   ----
            Pre-tax Earnings...................   (7)    --      38     --
         Income Tax Provision (benefit)........   (3)    --      15     --
                                                ----   ----  ------   ----
            Net Income(1)...................... $ (4)  $ --  $   23   $ --
                                                ----   ----  ------   ----
            Heating Degree Days................  976    N/A   4,465    N/A
            Throughput (Bcf/d).................  3.2    N/A    12.8    N/A
</TABLE>
--------
(1) Northern Natural was acquired effective February 1, 2002 and had a net loss
    of $4 million and net income of $23 million for the three and six months
    ended June 30, 2002.

Three-Month Periods Ended June 30, 2002 and 2001

   Northern Natural was acquired February 1, 2002, therefore there were not
results for this segment in the prior year. The T&D segment reported a net loss
of $4 million in the second quarter 2002 which includes a $3 million severance
allocation.

Six Month Periods Ended June 30, 2002 and 2001

   Northern Natural was acquired February 1, 2002, therefore there were not
results for this segment in the prior year. The T&D segment reported net income
of $23 million in the six months ended June 30, 2002. In addition to the
severance allocation in the three-month period, the net income for the six
months ended June 30, 2002 includes an $18 million pre-tax ($13 million
after-tax) charge associated with a gas delivery commitment that was assumed
with the acquisition of Northern Natural.

Outlook for Remainder of 2002

   The T&D Segment's results of operations for the third quarter 2002 and
beyond will exclude the operating results of Northern Natural upon consummation
of the sale of Northern Natural as described in Note 5 to the accompanying
financial statements.

                                      64

<PAGE>

Cash Flow Disclosures

   The following table is a condensed version of the operating section of the
Condensed Consolidated Statements of Cash Flows (in millions):

<TABLE>
<CAPTION>
                                                        For The Six Months Ended June 30, 2002
                                                       ----------------------------------------
                                                                        Corporate
                                                                            &
                                                        WEN   DMS T&D  Eliminations Consolidated
                                                       -----  --- ---- ------------ ------------
<S>                                                    <C>    <C> <C>  <C>          <C>
Net Income (Loss)..................................... $(153) $14 $ 23     $--         $(116)
Net Non-Cash Items Included in Net Income (Loss)......   418   41   62       3           524
                                                       -----  --- ----     ---         -----
Operating Cash Flows Before Changes in Working Capital   265   55   85       3           408
Changes in Working Capital............................  (162)   6   31      30           (95)
                                                       -----  --- ----     ---         -----
Net Cash Provided by (Used in) Operating Activities... $ 103  $61 $116     $33         $ 313
                                                       -----  --- ----     ---         -----
</TABLE>

<TABLE>
<CAPTION>

                                                       For The Six Months Ended June 30, 2001
                                                       ------------------------------------
                                                                     Corporate
                                                                         &
                                                        WEN    DMS  Eliminations Consolidated
                                                       -----   ---- ------------ ------------
<S>                                                    <C>     <C>  <C>          <C>
Net Income (Loss)..................................... $ 139   $ 37     $--          $176
Net Non-Cash Items Included in Net Income (Loss)......   161     59       2           222
                                                       -----   ----     ---          ----
Operating Cash Flows Before Changes in Working Capital   300     96       2           398
Changes in Working Capital............................  (136)    53      (2)          (85)
                                                       -----   ----     ---          ----
Net Cash Provided by (Used in) Operating Activities... $ 164   $149     $--          $313
                                                       -----   ----     ---          ----
</TABLE>

   Operating Cash Flow.  Cash flow from operating activities totaled $313
million for the six-month period ended June 30, 2002 compared to $313 million
reported in the same 2001 period. Non-cash add-backs were greater in the 2002
period, primarily due to the following charges, which are further described in
Note 4 to the accompanying financial statements:

  .   Pre-tax write-offs within Earnings (Losses) from Unconsolidated
      Investments of $10 million representing technology investment impairments
      based on the Company's change in business strategy and continued downturn
      in the technology sector.

   Other changes in non-cash items include the following:

  .   Depreciation and amortization expense increased by $48 million primarily
      due to the addition of Northern Natural in January 2002 and the United
      Kingdom natural gas storage facilities in November 2001;

  .   A reduction in Earnings (Losses) from Unconsolidated Investments of
      approximately $33 million related to West Coast Power;

  .   Deferred income taxes decreased by $172 million as compared to the 2001
      period; and

  .   Risk Management activity produced a $400 million add-back, compared to an
      add-back of $48 million in the 2001 period. The add-backs represent cash
      realized for settled contracts in excess of gains recognized.

   Changes in working capital had a negative impact on cash flow from
operations for the six-month period ended June 30, 2002 primarily due to the
following:

  .   The timing on which the Company recorded customer accounts receivable and
      vendor accounts payable, primarily for WEN's natural gas and power
      accruals;

                                      65

<PAGE>

  .   Parts, supplies and natural gas inventory builds for the power generation
      business in anticipation of plants becoming commercial and increased
      summer generation demand;

  .   Fuel oil and coal inventory builds to replenish supply for the Northeast
      generation plants in anticipation of seasonal summer generation demand;

  .   Amortization of liabilities associated with previous acquisitions; and

  .   Increased natural gas futures positions or contracts at June 30, 2002
      versus December 31, 2001, representing cash remitted to brokers held on
      account for the WEN segment.

   Capital Expenditures and Investing Activities.  Cash used for investing
activities during the six-month period ended June 30, 2002 totaled $438
million. Capital spending and investments in unconsolidated investments totaled
$484 million and relate primarily to generation asset additions and
improvements, environmental compliance and first quarter investments in
technology infrastructure. Cash spent for the acquisition of Northern Natural
totaled $20 million, net of cash acquired. These cash outflows were offset by
$5 million in proceeds from asset sales.

   Financing Activities.  Cash provided by financing activities during the
six-month period ended June 30, 2002 totaled $340 million.

   Long-term debt proceeds, net of issuance costs, for the six-months ended
June 30, 2002 primarily consisted of $496 million from the issuance of 8.75
percent senior notes due February 2012 and $36 million primarily related to
borrowings entered into by ABG Gas Supply. Repayments of long-term debt totaled
$172 million for the six-months ended June 30, 2002 and consisted of $90
million relating to the April 2002 purchase of Northern Natural's senior
unsecured notes due 2005, $54 million in June 2002 principal payments related
to the restructuring of Black Thunder from Minority Interest to Long-Term Debt
and $28 million in repayments by ABG Gas Supply. Net proceeds from short-term
financing consisted of $245 million cash advance for the anticipated sale of
certain United Kingdom gas storage assets. Additionally, during the six months
ended June 30, 2002, Dynegy repaid $255 million in commercial paper and
borrowings under revolving credit lines.

   Finally, other financing cash payments totaled $17 million for the
six-months ended June 30, 2002. These payments primarily consisted of $13
million in interest associated with the Black Thunder transaction prior to the
June 2002 restructuring.

                                      66

<PAGE>

           UNCERTAINTY OF FORWARD-LOOKING STATEMENTS AND INFORMATION

   This Quarterly Report on Form 10-Q includes statements reflecting
assumptions, expectations, projections, intentions or beliefs about future
events that are intended as "forward-looking statements" under the Private
Securities Litigation Reform Act of 1995. You can identify these statements by
the fact that they do not relate strictly to historical or current facts. They
use words such as "anticipate," "estimate," "project," "forecast," "may,"
"will," "should," "expect" and other words of similar meaning. In particular,
these include, but are not limited to, statements relating to the following:

  .   Projected operating or financial results, including the application of
      forecasted pricing curves to contractual commitments that may result in
      realized cash returns on these commitments which may vary significantly,
      either positively or negatively, from estimated values;

  .   Expectations regarding capital expenditures, dividends and other payments;

  .   The pending sale of Northern Natural, including the anticipated closing
      date and the financial impact of the sale on Dynegy's balance sheet and
      liquidity position;

  .   Expectations regarding transaction volume and liquidity in wholesale
      energy markets in North America and Europe;

  .   The Company's beliefs and assumptions relating to trade credit in the
      wholesale energy market and its liquidity position, including its ability
      to meet its obligations;

  .   The Company's ability to execute additional capital-raising transactions
      such as asset sales, joint ventures or financings to enhance its
      liquidity position;

  .   Beliefs or assumptions about the outlook for deregulation of retail and
      wholesale energy markets in North America and Europe and anticipated
      business developments in such markets;

  .   The Company's ability to effectively compete for market share with
      industry participants;

  .   Beliefs about the outcome of legal and administrative proceedings,
      including matters involving Enron, the California power market,
      shareholder class action lawsuits and environmental matters as well as
      the investigations primarily relating to Project Alpha, roundtrip trades
      and Black Thunder;

  .   The Company's ability to rationalize its customer and risk-management
      business, either through the formation of a joint venture or the
      execution of an alternative strategy; and

  .   The expected commencement date for commercial operations for new power
      plants.

   Any or all of Dynegy's forward-looking statements may turn out to be wrong.
They can be affected by inaccurate assumptions or by known or unknown risks and
uncertainties, including the following:

  .   The timing and consummation of the Northern Natural sale;

  .   The timing and extent of changes in commodity prices for energy,
      particularly natural gas, electricity and NGLs;

  .   The timing and extent of deregulation of energy markets in North America
      and Europe and the rules and regulations adopted on a transitional basis
      in such markets;

  .   The condition of the capital markets generally, which will be affected by
      interest rates, foreign currency fluctuations and general economic
      conditions, and Dynegy's financial condition, including its ability to
      improve its credit ratings;

  .   Developments in the California power markets, including, but not limited
      to, governmental intervention, deterioration in the financial condition
      of our counterparties, default on receivables due and adverse results in
      current or future litigation;

                                      67

<PAGE>

  .   The effectiveness of Dynegy's risk-management policies and procedures and
      the ability of Dynegy's counterparties to satisfy their financial
      commitments;

  .   The liquidity and competitiveness of wholesale trading markets for energy
      commodities, including the impact of electronic or online trading in
      these markets;

  .   The direct or indirect effects on Dynegy's business resulting from the
      financial difficulties of Enron, or other competitors of Dynegy,
      including, but not limited to, their effects on liquidity in the trading
      and power industry, and its effects on the capital markets views of the
      energy or trading industry and our ability to access the capital markets;

  .   Operational factors affecting the start up or ongoing commercial
      operations of Dynegy's power generation or midstream natural gas
      facilities, including catastrophic weather related damage, unscheduled
      outages or repairs, unanticipated changes in fuel costs or availability
      of fuel emission credits, the unavailability of gas transportation, the
      unavailability of electric transmission service or workforce issues;

  .   The cost of borrowing, availability of trade credit and other factor's
      affecting Dynegy's financing activities, including the effect of issues
      described in this Form 10-Q;

  .   Dynegy Inc.'s ability to successfully execute its $2 billion capital plan
      and to otherwise satisfy its obligations as they become due;

  .   The direct or indirect effects on Dynegy's business of downgrades in
      credit ratings (or actions we may take in response to changing credit
      ratings criteria), including increased collateral requirements to execute
      our business plan, demands for increased collateral by our
      counterparties, refusal by our counterparties to enter into transactions
      with us and our inability to obtain credit or capital in amounts or on
      terms favorable to us;

  .   Cost and other effects of legal and administrative proceedings,
      settlements, investigations and claims, including legal proceedings
      related to the terminated merger with Enron, the California power market,
      shareholder claims and environmental liabilities that may not be covered
      by indemnity or insurance, as well as the SEC, and FERC, CFTC and other
      similar investigations primarily surrounding Project Alpha and roundtrip
      trades;

  .   Other North American or European regulatory or legislative developments
      that affect the demand for energy generally, increase the environmental
      compliance cost for Dynegy's power generation or midstream gas facilities
      or impose liabilities on the owners of such facilities; and

  .   General political conditions, including any extended period of war or
      conflict involving North America or Europe.

   Many of these factors will be important in determining Dynegy's actual
future results. Consequently, no forward-looking statement can be guaranteed.
Dynegy's actual future results may vary materially from those expressed or
implied in any forward-looking statements.

   All of Dynegy's forward-looking statements, whether written or oral, are
expressly qualified by these cautionary statements and any other cautionary
statements that may accompany such forward-looking statements. In addition,
Dynegy disclaims any obligation to update any forward-looking statements to
reflect events or circumstances after the date of this report.

Item 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

   The Quantitative and Qualitative Disclosures About Market Risk are set forth
in "Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations" herein.

                                      68

<PAGE>

                          PART II. OTHER INFORMATION

Item 1.  LEGAL PROCEEDINGS

   See Note 10 to the accompanying financial statements for discussion of
material recent developments in the Company's material legal proceedings.

Item 6.  EXHIBITS AND REPORTS ON FORM 8-K

(a)  The following instruments and documents are included as exhibits to this
Form 10-Q/A:

<TABLE>
<C>   <S>

 10.1 Purchase and Sale Agreement dated July 28, 2002 among Dynegy Inc., NNGC Holding
      Company, Inc. and MidAmerican Energy Holdings Company (incorporated by reference to
      Exhibit 99.2 to the Company's Current Report on Form 8-K dated July 29, 2002).

 10.2 Agreement dated as of July 31, 2002 among Chevron U.S.A. Inc., Dynegy Marketing and Trade,
      Dynegy Holdings Inc., Dynegy Inc. and the other parties thereto (incorporated by reference to
      Exhibit 10.2 to Dynegy Inc.'s Quarterly Report on Form 10-Q for the quarterly period ended
      June 30, 2002).

 10.3 Contract for Services between Daniel L. Dienstbier and Dynegy Inc. effective as of May 28, 2002
      (incorporated by reference to Exhibit 10.3 to Dynegy Inc.'s Quarterly Report on Form 10-Q for
      the quarterly period ended June 30, 2002).

+99.1 Certification pursuant to 18 United States Code Section 1350, as adopted pursuant to Section 906
      of the Sarbanes-Oxley Act of 2002.

+99.2 Certification pursuant to 18 United States Code Section 1350, as adopted pursuant to Section 906
        of the Sarbanes-Oxley Act of 2002.
</TABLE>
--------
+  Pursuant to Securities and Exchange Commission Release No. 33-8212, this
   certification will be treated as "accompanying" this Amendment No. 1 and not
   "filed" as part of such report for purposes of Section 18 of the Securities
   Exchange Act of 1934, as amended, or the Exchange Act, or otherwise subject
   to the liability of Section 18 of the Exchange Act and this certification
   will not be deemed to be incorporated by reference into any filing under the
   Securities Act of 1933, as amended, or the Exchange Act.

(b)  Reports on Form 8-K of Dynegy Holdings Inc. for the second quarter 2002.

1.  During the quarter ended June 30, 2002, the Company filed a Current Report
           on Form 8-K dated April 25, 2002. Items 5, 7 and 9 were reported and
           no financial statements were filed.

2.  During the quarter ended June 30, 2002, the Company filed a Current Report
           on Form 8-K dated April 29, 2002. Items 5 and 7 were reported and no
           financial statements were filed.

3.  During the quarter ended June 30, 2002, the Company filed a Current Report
           on Form 8-K dated May 8, 2002. Items 5 and 7 were reported and no
           financial statements were filed.

4.  During the quarter ended June 30, 2002, the Company filed a Current Report
           on Form 8-K dated May 28, 2002. Items 5 and 7 were reported and no
           financial statements were filed.

5.  During the quarter ended June 30, 2002, the Company filed a Current Report
           on Form 8-K dated June 24, 2002. Items 5 and 7 were reported and no
           financial statements were filed.

                                      69

<PAGE>

                             DYNEGY HOLDINGS INC.

                                  SIGNATURES

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

<TABLE>
<S>                            <C> <C>
                               DYNEGY HOLDINGS INC.

Date: May 14, 2003             By:                 /s/  NICK J. CARUSO
                                   --------------------------------------
                                                      Nick J. Caruso
                                   Executive Vice President and Chief Financial Officer
</TABLE>

                                      70

<PAGE>

                           SECTION 302 CERTIFICATION

   I, Bruce A. Williamson, certify that:

   1.  I have reviewed this Amendment No. 1 to Quarterly Report on Form 10-Q/A
of Dynegy Holdings Inc. (the "Amendment No. 1");

   2.  Based on my knowledge, this Amendment No. 1 does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the periods covered by this Amendment
No. 1; and

   3.  Based on my knowledge, the financial statements, and other financial
information included in this Amendment No. 1, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this Amendment No. 1.

<TABLE>
<C>                                                                          <C> <S>

Date: May 14, 2003                                                           By:      /s/  BRUCE A. WILLIAMSON
                                                                                 ----------------------------------
                                                                                        Bruce A. Williamson
                                                                                      Chief Executive Officer
</TABLE>

                                      71

<PAGE>

                           SECTION 302 CERTIFICATION

   I, Nick J. Caruso, certify that:

   1.  I have reviewed this Amendment No. 1 to Quarterly Report on Form 10-Q/A
of Dynegy Holdings Inc. (the "Amendment No. 1");

   2.  Based on my knowledge, this Amendment No. 1 does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the periods covered by this Amendment
No. 1; and

   3.  Based on my knowledge, the financial statements, and other financial
information included in this Amendment No. 1, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this Amendment No. 1.

<TABLE>
<C>                                                                          <C> <S>

Date: May 14, 2003                                                           By:        /s/  NICK J. CARUSO
                                                                                 ----------------------------------
                                                                                           Nick J. Caruso
                                                                                      Chief Financial Officer
</TABLE>

                                      72