UNITED
        STATES


SECURITIES
      AND EXCHANGE COMMISSION


Washington,
      D.C. 20549


**FORM
      10-Q**








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








**For
                the quarterly period ended June 30, 2007**
              
              **OR**





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








**For
                the Transition period from ________ to
                _________**








Commission
              File
                Number
            Exact
                name of registrant as specified
              in
                its charter, state of incorporation,
              address
                of principal executive offices,
              telephone
                number
            I.R.S.
              Employer
              Identification
              Number








1-16305
            **PUGET
                ENERGY, INC.**
              A
                Washington Corporation
              10885
                NE 4th
                Street, Suite 1200
              Bellevue,
                Washington 98004-5591
              (425)
                454-6363
            91-1969407








1-4393
            **PUGET
                SOUND ENERGY, INC.**
              A
                Washington Corporation
              10885
                NE 4th
                Street, Suite 1200
              Bellevue,
                Washington 98004-5591
              (425)
                454-6363
            91-0374630





Indicate
      by check mark whether the registrants: (1) have 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 registrants were
      required to file such reports), and (2) have been subject to such filing
      requirements for the past 90 days.




Puget
                Energy, Inc.
            Yes
            /X/
            No
            /  /
            
            Puget
                Sound Energy, Inc.
            Yes
            /X/
            No
            /  /





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




Puget
                Energy, Inc.
            Large
                accelerated filer
            /X/
            Accelerated
                filer
            /  /
            Non-accelerated
                filer
            /  /Puget
                Sound Energy, Inc.
            Large
                accelerated filer
            /  /
            Accelerated
                filer
            /  /
            Non-accelerated
                filer
            /X/





Indicate
      by check mark whether the registrant is a shell company (as defined in Exchange
      Act Rule 12b-2)


Puget
                Energy, Inc.
            Yes
            /  /
            No
            /X/
            
            Puget
                Sound Energy, Inc.
            Yes
            /  /
            No
            /X/





As
      of
      July 25, 2007, (i) the number of shares of Puget Energy, Inc. common stock
      outstanding was 117,024,977 ($.01 par value) and (ii) all of the outstanding
      shares of Puget Sound Energy, Inc. common stock were held by Puget Energy,
      Inc.








**Table
      of Contents**


**Definitions****Filing
                Format****Forward
                Looking Statements****Part
                I.**
            **Financial
                Information****Item
                1.**
            **Financial
                Statements****Puget
                Energy, Inc.**Consolidated
                Statements of Income – Three and Six Months
                Ended June 30, 2007 and 2006Consolidated
                Statements of Comprehensive Income – Three and Six Months EndedJune
                30, 2007 and 2006Consolidated
                Balance Sheets – June 30, 2007 and December 31,
                2006Consolidated
                Statements of Cash Flows – Six Months Ended
                June 30, 2007 and 2006**Puget
                Sound Energy, Inc.**Consolidated
                Statements of Income – Three and Six Months
                Ended June 30, 2007 and 2006Consolidated
                Statements of Comprehensive Income – Three and Six Months
                EndedJune
                30, 2007 and 2006Consolidated
                Balance Sheets – June 30, 2007 and December
                31, 2006Consolidated
                Statements of Cash Flows – Six Months Ended
                June 30, 2007 and 2006**Notes**Combined
                Notes to Consolidated Financial
                Statements**Item
                2.**
            **Management’s
                Discussion and Analysis of Financial
                Condition****and Results of
                Operations****Item
                3.**
            **Quantitative
                and Qualitative Disclosure About Market
                Risk****Item
                4.**
            **Controls
                and Procedures****Part
                II.**
            **Other
                Information****Item
                1.**
            **Legal
                Proceedings****Item
                1A.**
            **Risk
                Factors****Item
                4.**
            **Submission
                of Matters to a Vote of Security
                Holders****Item
                6.**
            **Exhibits****Signatures****Exhibit
                Index**








**DEFINITIONS**





ACO
            Administrative
                Consent OrderAFUDC
            Allowance
                for Funds Used During ConstructionaMW
            Average
                MegawattBPA
            Bonneville
                Power AdministrationCAISO
            California
                Independent System OperatorEITF
            Emerging
                Issues Task ForceFASB
            Financial
                Accounting Standards BoardFERC
            Federal
                Energy Regulatory CommissionFIN
            Financial
                Accounting Standards Board InterpretationGAAP
            Generally
                Accepted Accounting PrinciplesIBEW
            International
                Brotherhood of Electrical WorkersInfrastruX
            InfrastruX
                Group, Inc.IRP
            Integrated
                Resource PlankWh
            Kilowatt
                HourLIBOR
            London
                Interbank Offered RateMW
            Megawatt
                (one MW equals one thousand kW)MWh
            Megawatt
                Hour (one MWh equals one thousand kWh)NERC
            North
                American Electric Reliability CorporationNPNS
            Normal
                Purchase Normal SalePCA
            Power
                Cost AdjustmentPCORC
            Power
                Cost Only Rate CasePGA
            Purchased
                Gas AdjustmentPSE
            Puget
                Sound Energy, Inc.PSE
                Funding
            PSE
                Funding, Inc.PTC
            Production
                Tax CreditPuget
                Energy
            Puget
                Energy, Inc.TBtu
            Trillion
                British Thermal UnitTenaska
            Tenaska
                Power Fund, L.P.SFAS
            Statement
                of Financial Accounting StandardsWashington
                Commission
            Washington
                Utilities and Transportation CommissionWECC
            Western
                Electricity Coordinating Council






**FILING
      FORMAT**


This Quarterly
      Report on Form 10-Q is a combined quarterly report filed separately by two
      different registrants, Puget Energy, Inc. (Puget Energy) and Puget Sound Energy,
      Inc. (PSE).  Any references in this report to the “Company” are to
      Puget Energy and PSE collectively.  PSE makes no representation as to
      the information contained in this report relating to Puget Energy and the
      subsidiaries of Puget Energy other than PSE and its subsidiaries.





**FORWARD-LOOKING
      STATEMENTS**


Puget
      Energy, Inc. (Puget Energy) and Puget Sound Energy, Inc. (PSE) are including
      the
      following cautionary statements in this Form 10-Q to make applicable and to
      take
      advantage of the safe harbor provisions of the Private Securities Litigation
      Reform Act of 1995 for any forward-looking statements made by or on behalf
      of
      Puget Energy or PSE.  This report includes forward-looking statements,
      which are statements of expectations, beliefs, plans, objectives and assumptions
      of future events or performance.  Words or phrases such as
“anticipates,” “believes,” “estimates,” “expects,” “future,” “intends,” “plans,”
“predicts,” “projects,” “will likely result,” “will continue” or similar
      expressions identify forward-looking statements.


Forward-looking
      statements involve risks and uncertainties that could cause actual results
      or
      outcomes to differ materially from those expressed.  Puget Energy’s
      and PSE’s expectations, beliefs and projections are expressed in good faith and
      are believed by Puget Energy and PSE, as applicable, to have a reasonable basis,
      including without limitation management’s examination of historical operating
      trends, data contained in records and other data available from third
      parties.  However, there can be no assurance that Puget Energy’s and
      PSE’s expectations, beliefs or projections will be achieved or
      accomplished.


In
      addition to other factors and matters discussed elsewhere in this report, some
      important factors that could cause actual results or outcomes for Puget Energy
      and PSE to differ materially from those discussed in forward-looking statements
      include:





·
            Governmental
                policies and regulatory actions, including those of the Federal Energy
                Regulatory Commission (FERC) and the Washington Utilities and
                Transportation Commission (Washington Commission), with respect to
                allowed
                rates of return, cost recovery, industry and rate structures, transmission
                and generation business structures within PSE, acquisition and disposal
                of
                assets and facilities, operation, maintenance and construction of
                electric
                generating facilities, operation of distribution and transmission
                facilities (gas and electric), licensing of hydroelectric operations
                and
                gas storage facilities, recovery of other capital investments, recovery
                of
                power and gas costs, recovery of regulatory assets and present or
                prospective wholesale and retail competition;·
            Failure
                to comply with new electric reliability standards developed by the
                North
                American Electric Reliability Corporation (NERC) for users, owners
                and
                operators of the power system, which could result in penalties of
                up to
                $1.0 million per day per violation;·
            Changes
                in, adoption of and compliance with laws and regulations, including
                decisions and policies concerning the environment, climate change,
                emissions, natural resources, and fish and wildlife (including the
                Endangered Species Act);·
            The
                ability to recover costs arising from changes in enacted federal,
                state or
                local tax laws through revenue in a timely manner;·
            Natural
                disasters, such as hurricanes, windstorms, earthquakes, floods, fires
                and
                landslides, which can interrupt service and/or cause temporary supply
                disruptions and/or price spikes in the cost of fuel and raw materials
                and
                impose extraordinary costs;·
            Commodity
                price risks associated with procuring natural gas and power in wholesale
                markets that impact customer loads;·
            Wholesale
                market disruption, which may result in a deterioration of market
                liquidity, increase the risk of counterparty default, affect the
                regulatory and legislative process in unpredictable ways, negatively
                affect wholesale energy prices and/or impede PSE’s ability to manage its
                energy portfolio risks and procure energy supply, affect the availability
                and access to capital and credit markets and/or impact delivery of
                energy
                to PSE from its suppliers;·
            Financial
                difficulties of other energy companies and related events, which
                may
                affect the regulatory and legislative process in unpredictable ways
                and
                also adversely affect the availability of and access to capital and
                credit
                markets and/or impact delivery of energy to PSE from it
                suppliers;·
            The
                effect of wholesale market structures (including, but not limited
                to,
                regional market designs or transmission organizations) or other related
                federal initiatives;·
            PSE
                electric or gas distribution system failure, which may impact PSE’s
                ability to deliver energy supply to its customers;·
            Changes
                in weather conditions in the Pacific Northwest, which could have
                effects
                on customer usage and PSE’s revenues, thus impacting net
                income;·
            Weather,
                which can have a potentially serious impact on PSE’s ability to procure
                adequate supplies of gas, fuel or purchased power to serve its customers
                and on the cost of procuring such supplies;·
            Variable
                hydro conditions, which can impact streamflow and PSE’s ability to
                generate electricity from hydroelectric facilities;·
            Plant
                outages, which can have an adverse impact on PSE’s expenses with respect
                to repair costs, added costs to replace energy or higher costs associated
                with dispatching a more expensive resource;·
            The
                ability of gas or electric plant to operate as
                intended;·
            The
                ability to renew contracts for electric and gas supply and the price
                of
                renewal;·
            Blackouts
                or large curtailments of transmission systems, whether PSE’s or others’,
                which can affect PSE’s ability to deliver power or natural gas to its
                customers and generating facilities;·
            The
                ability to restart generation following a regional transmission
                disruption;·
            Failure
                of the interstate gas pipeline delivering to PSE’s system, which may
                impact PSE’s ability to adequately deliver gas supply to its
                customers;·
            The
                amount of collection, if any, of PSE’s receivables from the California
                Independent System Operator (CAISO) and other parties and the amount
                of
                refunds found to be due from PSE to the CAISO or other
                parties;·
            Industrial,
                commercial and residential growth and demographic patterns in the
                service
                territories of PSE;·
            General
                economic conditions in the Pacific Northwest, which might impact
                customer
                consumption or affect PSE’s accounts receivable;·
            The
                loss of significant customers or changes in the business of significant
                customers, which may result in changes in demand for PSE’s
                services;·
            The
                impact of acts of God, terrorism, flu pandemic or similar significant
                events;·
            Capital
                market conditions, including changes in the availability of capital
                or
                interest rate fluctuations;·
            Employee
                workforce factors, including strikes, work stoppages, availability
                of
                qualified employees or the loss of a key executive;·
            The
                ability to obtain insurance coverage and the cost of such
                insurance;·
            Future
                losses related to corporate guarantees provided by Puget Energy as
                a part
                of the sale of its InfrastruX subsidiary; and·
            The
                ability to maintain effective internal controls over financial reporting
                and operational processes.




Any
      forward-looking statement speaks only as of the date on which such statement
      is
      made, and, except as required by law, Puget Energy and PSE undertake no
      obligation to update any forward-looking statement to reflect events or
      circumstances after the date on which such statement is made or to reflect
      the
      occurrence of unanticipated events.  New factors emerge from time to
      time and it is not possible for management to predict all such factors, nor
      can
      it assess the impact of any such factor on the business or the extent to which
      any factor, or combination of factors, may cause results to differ materially
      from those contained in any forward-looking statement.  You are also
      advised to consult Item 1A-“Risk Factors” in our most recent annual report on
      Form 10-K and this quarterly report for updates.





**PART
      I   FINANCIAL INFORMATION**





Item
      1.          **Financial
      Statements**


**PUGET
      ENERGY, INC.**


CONSOLIDATED
      STATEMENTS OF INCOME


(Dollars
      in thousands except per share amounts)


(Unaudited)


Three
                Months Ended
              June
                30,
            
            
            Six
                Months Ended
              June
                30,2007
            
            
            2006
            
            
            2007
            
            
            2006Operating
                revenues:Electric
            $
            435,261
            
            
            $
            380,980
            
            
            $
            962,880
            
            
            $
            848,403Gas
            
            225,175
            
            
            
            192,457
            
            
            
            692,184
            
            
            
            599,044Non-utility
                operating revenues
            
            702
            
            
            
            954
            
            
            
            9,979
            
            
            
            5,092Total
                operating revenues
            
            661,138
            
            
            
            574,391
            
            
            
            1,665,043
            
            
            
            1,452,539Operating
                expenses:Energy
                costs:Purchased
                electricity
            
            172,757
            
            
            
            187,945
            
            
            
            454,849
            
            
            
            440,070Electric
                generation fuel
            
            23,726
            
            
            
            14,292
            
            
            
            49,784
            
            
            
            35,876Residential
                exchange
            
            (17,562
            )
            
            
            (38,670
            )
            
            
            (52,040
            )
            
            
            (95,303
            )Purchased
                gas
            
            139,055
            
            
            
            118,362
            
            
            
            449,702
            
            
            
            385,041Net
                unrealized (gain) loss on derivative instruments
            
            1,536
            
            
            
            (150
            )
            
            
            (4,246
            )
            
            
            825Utility
                operations and maintenance
            
            98,935
            
            
            
            83,598
            
            
            
            197,106
            
            
            
            170,966Non–utility
                expense and other
            
            2,768
            
            
            
            915
            
            
            
            4,898
            
            
            
            1,709Depreciation
                and amortization
            
            65,832
            
            
            
            64,545
            
            
            
            135,441
            
            
            
            128,429Conservation
                amortization
            
            8,749
            
            
            
            7,462
            
            
            
            19,078
            
            
            
            15,510Taxes
                other than income taxes
            
            63,294
            
            
            
            54,199
            
            
            
            150,363
            
            
            
            133,938Total
                operating expenses
            
            559,090
            
            
            
            492,498
            
            
            
            1,404,935
            
            
            
            1,217,061Operating
                income
            
            102,048
            
            
            
            81,893
            
            
            
            260,108
            
            
            
            235,478Other
                income (deductions):Charitable
                foundation funding
            
            --
            
            
            
            (15,000
            )
            
            
            --
            
            
            
            (15,000
            )Other
                income
            
            6,223
            
            
            
            6,786
            
            
            
            10,987
            
            
            
            10,127Other
                expense
            
            (2,829
            )
            
            
            (781
            )
            
            
            (3,861
            )
            
            
            (2,258
            )Interest
                charges:AFUDC
            
            2,943
            
            
            
            3,027
            
            
            
            5,361
            
            
            
            5,049Interest
                expense
            
            (52,192
            )
            
            
            (44,562
            )
            
            
            (103,453
            )
            
            
            (88,274
            )Income
                from continuing operations before income taxes
            
            56,193
            
            
            
            31,363
            
            
            
            169,142
            
            
            
            145,122Income
                tax expense
            
            17,593
            
            
            
            10,788
            
            
            
            51,480
            
            
            
            50,974Income
                from continuing operations
            
            38,600
            
            
            
            20,575
            
            
            
            117,662
            
            
            
            94,148Income
                from discontinued segment (net of tax)
            
            12
            
            
            
            32,954
            
            
            
            12
            
            
            
            51,901Net
                income before cumulative effect of accounting change
            
            38,612
            
            
            
            53,529
            
            
            
            117,674
            
            
            
            146,049Cumulative
                effect of implementation of accounting change (net of tax)
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            89Net
                income
            $
            38,612
            
            
            $
            53,529
            
            
            $
            117,674
            
            
            $
            146,138Common
                shares outstanding weighted average (in thousands)
            
            116,659
            
            
            
            115,907
            
            
            
            116,567
            
            
            
            115,817Diluted
                shares outstanding weighted average (in thousands)
            
            117,158
            
            
            
            116,405
            
            
            
            117,115
            
            
            
            116,266Basic
                earnings per common share before cumulative effect of accounting
                change
            $
            0.33
            
            
            $
            0.18
            
            
            $
            1.01
            
            
            $
            0.81Basic
                earnings per common share from discontinued operations
            
            --
            
            
            
            0.28
            
            
            
            --
            
            
            
            0.45Cumulative
                effect from accounting change
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            --Basic
                earnings per common share
            $
            0.33
            
            
            $
            0.46
            
            
            $
            1.01
            
            
            $
            1.26Diluted
                earnings per common share before cumulative effect of accounting
                change
            $
            0.33
            
            
            $
            0.18
            
            
            $
            1.00
            
            
            $
            0.81Diluted
                earnings per common share from discontinued operations
            
            --
            
            
            
            0.28
            
            
            
            --
            
            
            
            0.45Cumulative
                effect from accounting change
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            --Diluted
                earnings per common share
            $
            0.33
            
            
            $
            0.46
            
            
            $
            1.00
            
            
            $
            1.26





*The
      accompanying notes are an integral part of the financial
      statements.*









**PUGET
      ENERGY, INC.**


CONSOLIDATED
      STATEMENTS OF COMPREHENSIVE INCOME


(Dollars
      in thousands)


(Unaudited)





Three
                Months Ended
              June
                30,
            
            
            Six
                Months Ended
              June
                30,2007
            
            
            2006
            
            
            2007
            
            
            2006Net
                income
            
            $
            38,612
            
            
            $
            53,529
            
            
            $
            117,674
            
            
            $
            146,138Other
                comprehensive income, net of tax at 35%:Foreign
                currency translation adjustment, net of tax of $0, $(167), $0 and
                $(176),
                respectively
            
            
            --
            
            
            
            (311
            )
            
            
            --
            
            
            
            (327
            )Unrealized
                gain from pension and postretirement plans, net of tax of $642, $78,
                $1,285 and $78, respectively
            
            
            1,193
            
            
            
            145
            
            
            
            2,386
            
            
            
            145Net
                unrealized gains (losses) on derivative instruments during the period,
                net
                of tax of $(7,465), $(2,684), $(5,551) and $(9,646),
                respectively
            
            
            (13,863
            )
            
            
            (4,984
            )
            
            
            (10,309
            )
            
            
            (17,914
            )Reversal
                of net unrealized gains (losses) on derivative instruments settled
                during
                the period, net of tax of $(585), $(5,345), $1,068 and $(5,323),
                respectively
            
            
            (1,086
            )
            
            
            (9,926
            )
            
            
            1,984
            
            
            
            (9,885
            )Amortization
                of cash flow hedge contracts to earnings, net of tax of $43, $102,
                $86 and
                $206, respectively
            
            
            79
            
            
            
            190
            
            
            
            159
            
            
            
            382Settlement
                of cash flow hedge contracts net of tax of $0, $7,463, $0 and $7,463,
                respectively
            
            
            --
            
            
            
            13,860
            
            
            
            --
            
            
            
            13,860Deferral
                of cash flow hedges related to the power cost adjustment mechanism,
                net of
                tax of $0, $375, $0 and $3,366, respectively
            
            
            --
            
            
            
            696
            
            
            
            --
            
            
            
            6,252Comprehensive
                loss
            
            
            (13,677
            )
            
            
            (330
            )
            
            
            (5,780
            )
            
            
            (7,487
            )Comprehensive
                income
            
            $
            24,935
            
            
            $
            53,199
            
            
            $
            111,894
            
            
            $
            138,651





*The
      accompanying notes are an integral part of the financial
      statements.*








**PUGET
      ENERGY,
      INC**.


CONSOLIDATED
      BALANCE SHEETS


(Dollars
      in thousands)




**ASSETS**





June
                30,
              2007
              (Unaudited)
            
            
            December
                31,
              2006Utility
                plant: (at original cost, including construction work in progress
                of$264,747
                and $206,459, respectively)Electric
            
            $
            5,787,328
            
            
            $
            5,334,368Gas
            
            
            2,231,505
            
            
            
            2,146,048Common
                plant
            
            
            475,210
            
            
            
            458,262Less:  Accumulated
                depreciation and amortization
            
            
            (3,067,420
            )
            
            
            (2,757,632
            )Net
                utility plant
            
            
            5,426,623
            
            
            
            5,181,046Other
                property and investments
            
            
            154,307
            
            
            
            151,462Current
                assets:Cash
            
            
            16,515
            
            
            
            28,117Restricted
                cash
            
            
            4,744
            
            
            
            839Accounts
                receivable, net of allowance for doubtful accounts
            
            
            224,029
            
            
            
            253,613Secured
                pledged accounts receivable
            
            
            50,000
            
            
            
            110,000Unbilled
                revenues
            
            
            96,104
            
            
            
            202,492Purchased
                gas adjustment receivable
            
            
            --
            
            
            
            39,822Materials
                and supplies, at average cost
            
            
            60,136
            
            
            
            43,501Fuel
                and gas inventory, at average cost
            
            
            95,807
            
            
            
            115,752Unrealized
                gain on derivative instruments
            
            
            20,120
            
            
            
            16,826Prepayments
                and other
            
            
            34,960
            
            
            
            9,228Deferred
                income taxes
            
            
            4,281
            
            
            
            1,175Total
                current assets
            
            
            606,696
            
            
            
            821,365Other
                long-term assets:Restricted
                cash
            
            
            --
            
            
            
            3,814Regulatory
                asset for deferred income taxes
            
            
            104,847
            
            
            
            115,304Regulatory
                asset for PURPA contract buyout costs
            
            
            154,230
            
            
            
            167,941Unrealized
                gain on derivative instruments
            
            
            254
            
            
            
            6,934Power
                cost adjustment mechanism
            
            
            3,569
            
            
            
            6,357Other
            
            
            638,814
            
            
            
            611,816Total
                other long-term assets
            
            
            901,714
            
            
            
            912,166Total
                assets
            
            $
            7,089,340
            
            
            $
            7,066,039





*The
      accompanying notes are an integral part of the financial
      statements.*




**PUGET
        ENERGY, INC.**
 CONSOLIDATED
        BALANCE SHEETS
 (Dollars
        in thousands)
 
 **CAPITALIZATION
        AND LIABILITIES**
 
 June
                  30,
                2007
                (Unaudited)
              
              
              December
                  31, 2006Capitalization:Common
                  shareholders’ investment:Common
                  stock $0.01 par value, 250,000,000 shares authorized, 117,017,566
                  and
                  116,576,636 shares outstanding, respectively
              
              $
              1,170
              
              
              $
              1,166Additional
                  paid-in capital
              
              
              1,978,697
              
              
              
              1,969,032Earnings
                  reinvested in the business
              
              
              231,839
              
              
              
              172,529Accumulated
                  other comprehensive loss, net of tax at 35%
              
              
              (32,478
              )
              
              
              (26,698
              )Total
                  shareholders’ equity
              
              
              2,179,228
              
              
              
              2,116,029Redeemable
                  securities and long-term debt:Preferred
                  stock subject to mandatory redemption
              
              
              1,889
              
              
              
              1,889Junior
                  subordinated note
              
              
              250,000
              
              
              
              --Junior
                  subordinated debentures of the corporation payable to a subsidiary
                  trust
                  holding mandatorily redeemable preferred securities
              
              
              --
              
              
              
              37,750Long-term
                  debt
              
              
              2,458,360
              
              
              
              2,608,360Total
                  redeemable securities and long-term debt
              
              
              2,710,249
              
              
              
              2,647,999Total
                  capitalization
              
              
              4,889,477
              
              
              
              4,764,028Current
                  liabilities:Accounts
                  payable
              
              
              206,013
              
              
              
              379,579Short-term
                  debt
              
              
              289,854
              
              
              
              328,055Current
                  maturities of long-term debt
              
              
              175,000
              
              
              
              125,000Accrued
                  expenses:Purchased
                  gas liability
              
              
              41,604
              
              
              
              --Taxes
              
              
              63,381
              
              
              
              54,977Salaries
                  and wages
              
              
              22,392
              
              
              
              32,122Interest
              
              
              44,012
              
              
              
              36,915Unrealized
                  loss on derivative instruments
              
              
              39,037
              
              
              
              70,596Other
              
              
              52,152
              
              
              
              43,889Total
                  current liabilities
              
              
              933,445
              
              
              
              1,071,133Long-term
                  liabilities:Deferred
                  income taxes
              
              
              754,440
              
              
              
              745,095Unrealized
                  loss on derivative instruments
              
              
              1,325
              
              
              
              415Other
                  deferred credits
              
              
              510,653
              
              
              
              485,368Total
                  long-term liabilities
              
              
              1,266,418
              
              
              
              1,230,878Total
                  capitalization and liabilities
              
              $
              7,089,340
              
              
              $
              7,066,039
 
 *The
        accompanying notes are an integral part of the financial
        statements.*





**PUGET
      ENERGY,
      INC.**


CONSOLIDATED
      STATEMENTS OF CASH FLOWS


(Dollars
      in thousands, Unaudited)


Six
                Months Ended
              June
                30,2007
            
            
            2006Operating
                activities:Net
                income
            
            $
            117,674
            
            
            $
            146,138Adjustments
                to reconcile net income to net cash provided by operating
                activities:Depreciation
                and amortization
            
            
            135,441
            
            
            
            128,429Deferred
                income taxes and tax credits, net
            
            
            19,809
            
            
            
            (25,138
            )Net
                unrealized (gain) loss on derivative instruments
            
            
            (4,246
            )
            
            
            825Amortization
                of gas pipeline capacity assignment
            
            
            (5,411
            )
            
            
            (5,267
            )Impairment
                on InfrastruX investment
            
            
            --
            
            
            
            (7,269
            )Gain
                on sale of InfrastruX
            
            
            --
            
            
            
            (29,764
            )Cash
                collateral paid from energy suppliers
            
            
            --
            
            
            
            (19,950
            )Decrease
                in residential exchange program
            
            
            (25,673
            )
            
            
            (7,529
            )Cash
                receipt from lease purchase option settlement
            
            
            18,909
            
            
            
            --Chelan
                PUD contract initiation prepayment
            
            
            --
            
            
            
            (89,000
            )Power
                cost adjustment mechanism
            
            
            2,788
            
            
            
            --Storm
                damage deferred costs
            
            
            (16,359
            )
            
            
            (4,453
            )Other
            
            
            8,514
            
            
            
            14,201Change
                in certain current assets and liabilities:Accounts
                receivable and unbilled revenue
            
            
            195,971
            
            
            
            190,636Materials
                and supplies
            
            
            (16,635
            )
            
            
            (2,229
            )Fuel
                and gas inventory
            
            
            19,945
            
            
            
            3,420Prepayments
                and other
            
            
            (25,730
            )
            
            
            (4,470
            )Purchased
                gas adjustment receivable/payable
            
            
            81,425
            
            
            
            (5,638
            )Accounts
                payable
            
            
            (168,806
            )
            
            
            (163,262
            )Taxes
                payable
            
            
            8,404
            
            
            
            (50,081
            )Accrued
                expenses and other
            
            
            (116
            )
            
            
            2,392Net
                cash provided by operating activities
            
            
            345,904
            
            
            
            71,991Investing
                activities:Construction
                and capital expenditures - excluding equity AFUDC
            
            
            (375,677
            )
            
            
            (310,663
            )Energy
                efficiency expenditures
            
            
            (18,464
            )
            
            
            (13,846
            )Refundable
                cash received for customer construction projects
            
            
            9,179
            
            
            
            7,739Restricted
                cash
            
            
            (91
            )
            
            
            (3,703
            )Gross
                proceeds from sale of InfrastruX, net of cash disposed
            
            
            --
            
            
            
            263,575Other
            
            
            1,394
            
            
            
            3,363Net
                cash used by investing activities
            
            
            (383,659
            )
            
            
            (53,535
            )Financing
                activities:Change
                in short-term debt and leases, net
            
            
            (38,201
            )
            
            
            148,656Dividends
                paid
            
            
            (52,653
            )
            
            
            (51,984
            )Payments
                to minority shareholders of InfrastruX
            
            
            --
            
            
            
            (10,451
            )Issuance
                of common stock
            
            
            3,510
            
            
            
            3,411Issuance
                of bonds and notes
            
            
            250,000
            
            
            
            250,000Redemption
                of trust preferred stock
            
            
            (37,750
            )
            
            
            (200,000
            )Redemption
                of bonds, notes and leases
            
            
            (100,000
            )
            
            
            (183,358
            )Settlement
                of cash flow hedge of interest rate derivative
            
            
            --
            
            
            
            21,323Issuance
                and redemption costs of bonds and other
            
            
            1,247
            
            
            
            (2,548
            )Net
                cash provided by financing activities
            
            
            26,153
            
            
            
            (24,951
            )Net decrease
                in cash
            
            
            (11,602
            )
            
            
            (6,495
            )Cash
                at beginning of year
            
            
            28,117
            
            
            
            22,897Cash
                at end of period
            
            $
            16,515
            
            
            $
            16,402Supplemental
                cash flow information:Cash
                paid for interest (net of capitalized interest)
            
            $
            91,666
            
            
            $
            92,358Income
                taxes paid
            
            
            23,000
            
            
            
            77,346





*The
      accompanying notes are an integral part of the financial
      statements.*





**PUGET
        SOUND ENERGY, INC.**
 CONSOLIDATED
        STATEMENTS OF INCOME
 (Dollars
        in thousands)
 (Unaudited)
  Three
                  Months Ended
                June
                  30,
              
              
              Six
                  Months Ended
                June
                  30,2007
              
              
              2006
              
              
              2007
              
              
              2006Operating
                  revenues:Electric
              
              $
              435,261
              
              
              $
              380,980
              
              
              $
              962,880
              
              
              $
              848,403Gas
              
              
              225,175
              
              
              
              192,457
              
              
              
              692,184
              
              
              
              599,044Non-utility
                  operating revenues
              
              
              702
              
              
              
              954
              
              
              
              9,979
              
              
              
              5,092Total
                  operating revenues
              
              
              661,138
              
              
              
              574,391
              
              
              
              1,665,043
              
              
              
              1,452,539Operating
                  expenses:Energy
                  costs:Purchased
                  electricity
              
              
              172,757
              
              
              
              187,945
              
              
              
              454,849
              
              
              
              440,070Electric
                  generation fuel
              
              
              23,726
              
              
              
              14,292
              
              
              
              49,784
              
              
              
              35,876Residential
                  exchange
              
              
              (17,562
              )
              
              
              (38,670
              )
              
              
              (52,040
              )
              
              
              (95,303
              )Purchased
                  gas
              
              
              139,055
              
              
              
              118,362
              
              
              
              449,702
              
              
              
              385,041Unrealized
                  (gain) loss on derivative instruments
              
              
              1,536
              
              
              
              (150
              )
              
              
              (4,246
              )
              
              
              825Utility
                  operations and maintenance
              
              
              98,935
              
              
              
              83,598
              
              
              
              197,106
              
              
              
              170,966Non-utility
                  expense and other
              
              
              2,609
              
              
              
              468
              
              
              
              4,576
              
              
              
              725Depreciation
                  and amortization
              
              
              65,832
              
              
              
              64,545
              
              
              
              135,441
              
              
              
              128,429Conservation
                  amortization
              
              
              8,749
              
              
              
              7,462
              
              
              
              19,078
              
              
              
              15,510Taxes
                  other than income taxes
              
              
              63,294
              
              
              
              54,199
              
              
              
              150,363
              
              
              
              133,938Total
                  operating expenses
              
              
              558,931
              
              
              
              492,051
              
              
              
              1,404,613
              
              
              
              1,216,077Operating
                  income
              
              
              102,207
              
              
              
              82,340
              
              
              
              260,430
              
              
              
              236,462Other
                  income (deductions):Other
                  income
              
              
              6,223
              
              
              
              6,431
              
              
              
              10,985
              
              
              
              9,771Other
                  expense
              
              
              (2,829
              )
              
              
              (781
              )
              
              
              (3,861
              )
              
              
              (2,258
              )Interest
                  charges:AFUDC
              
              
              2,943
              
              
              
              3,027
              
              
              
              5,361
              
              
              
              5,049Interest
                  expense
              
              
              (52,192
              )
              
              
              (44,562
              )
              
              
              (103,453
              )
              
              
              (88,274
              )Interest
                  expense on Puget Energy note
              
              
              (340
              )
              
              
              (122
              )
              
              
              (674
              )
              
              
              (121
              )Income
                  before income taxes
              
              
              56,012
              
              
              
              46,333
              
              
              
              168,788
              
              
              
              160,629Income
                  tax expense
              
              
              17,654
              
              
              
              16,233
              
              
              
              51,652
              
              
              
              56,779Net
                  income before cumulative effect of accounting change
              
              $
              38,358
              
              
              $
              30,100
              
              
              $
              117,136
              
              
              $
              103,850Cumulative
                  effect of implementation of accounting change (net of tax)
              
              
              --
              
              
              
              --
              
              
              
              --
              
              
              
              89Net
                  income
              
              $
              38,358
              
              
              $
              30,100
              
              
              $
              117,136
              
              
              $
              103,939
 
 *The
        accompanying notes are an integral part of the financial
        statements.*








**PUGETSOUND
      ENERGY, INC.**


CONSOLIDATED
      STATEMENTS OF COMPREHENSIVE INCOME


(Dollars
      in thousands)


(Unaudited)





Three
                Months Ended
              June
                30,
            
            
            Six
                Months Ended
              June
                30,2007
            
            
            2006
            
            
            2007
            
            
            2006Net
                income
            
            $
            38,358
            
            
            $
            30,100
            
            
            $
            117,136
            
            
            $
            103,939Other
                comprehensive income, net of tax at 35%:Unrealized
                gain from pension and postretirement plans, net of tax of $642, $78,
                $1,285 and $78, respectively
            
            
            1,193
            
            
            
            145
            
            
            
            2,386
            
            
            
            145Net
                unrealized gains (losses) on derivative instruments during the period,
                net
                of tax of $(7,465), $(2,684), $(5,551) and $(9,646),
                respectively
            
            
            (13,863
            )
            
            
            (4,984
            )
            
            
            (10,309
            )
            
            
            (17,914
            )Reversal
                of net unrealized gains (losses) on derivative instruments settled
                during
                the period, net of tax of $(585), $(5,345), $1,068 and $(5,323),
                respectively
            
            
            (1,086
            )
            
            
            (9,926
            )
            
            
            1,984
            
            
            
            (9,885
            )Amortization
                of cash flow hedge contracts to earnings, net of tax of $43, $102,
                $86 and
                $206, respectively
            
            
            79
            
            
            
            190
            
            
            
            159
            
            
            
            382Settlement
                of cash flow hedge contracts net of tax of $0, $7,463, $0 and $7,463,
                respectively
            
            
            --
            
            
            
            13,860
            
            
            
            --
            
            
            
            13,860Deferral
                of cash flow hedges related to the power cost adjustment mechanism,
                net of
                tax of $0, $375, $0 and $3,366, respectively
            
            
            --
            
            
            
            696
            
            
            
            --
            
            
            
            6,252Comprehensive
                loss
            
            
            (13,677
            )
            
            
            (19
            )
            
            
            (5,780
            )
            
            
            (7,160
            )Comprehensive
                income
            
            $
            24,681
            
            
            $
            30,081
            
            
            $
            111,356
            
            
            $
            96,779





*The
      accompanying notes are an integral part of the financial
      statements.*





**PUGET
      SOUND ENERGY, INC.**


CONSOLIDATED
      BALANCE SHEETS


(Dollars
      in thousands)





**ASSETS**





June
                30,
              2007
              (Unaudited)
            
            
            December
                31,
              2006Utility
                plant: (at original cost, including construction work in progress
                of
                $264,747 and $206,459, respectively)Electric
            
            $
            5,787,328
            
            
            $
            5,334,368Gas
            
            
            2,231,505
            
            
            
            2,146,048Common
                plant
            
            
            475,210
            
            
            
            458,262Less:  Accumulated
                depreciation and amortization
            
            
            (3,067,420
            )
            
            
            (2,757,632
            )Net
                utility plant
            
            
            5,426,623
            
            
            
            5,181,046Other
                property and investments
            
            
            154,307
            
            
            
            151,462Current
                assets:Cash
            
            
            16,208
            
            
            
            28,092Restricted
                cash
            
            
            841
            
            
            
            839Accounts
                receivable, net of allowance for doubtful accounts
            
            
            224,029
            
            
            
            253,613Secured
                pledged accounts receivable
            
            
            50,000
            
            
            
            110,000Unbilled
                revenues
            
            
            96,104
            
            
            
            202,492Purchased
                gas adjustment receivable
            
            
            --
            
            
            
            39,822Materials
                and supplies, at average cost
            
            
            60,136
            
            
            
            43,501Fuel
                and gas inventory, at average cost
            
            
            95,807
            
            
            
            115,752Unrealized
                gain on derivative instruments
            
            
            20,120
            
            
            
            16,826Prepayments
                and other
            
            
            34,385
            
            
            
            8,659Deferred
                income taxes
            
            
            4,281
            
            
            
            1,175Total
                current assets
            
            
            601,911
            
            
            
            820,771Other
                long-term assets:Regulatory
                asset for deferred income taxes
            
            
            104,847
            
            
            
            115,304Regulatory
                asset for PURPA contract buyout costs
            
            
            154,230
            
            
            
            167,941Unrealized
                gain on derivative instruments
            
            
            254
            
            
            
            6,934Power
                cost adjustment mechanism
            
            
            3,569
            
            
            
            6,357Other
            
            
            638,688
            
            
            
            611,598Total
                other long-term assets
            
            
            901,588
            
            
            
            908,134Total
                assets
            
            $
            7,084,429
            
            
            $
            7,061,413





*The
      accompanying notes are an integral part of the financial
      statements.*







**PUGET
        SOUND ENERGY, INC.**
 CONSOLIDATED
        BALANCE SHEETS
 (Dollars
        in thousands)
 
 **CAPITALIZATION
        AND LIABILITIES**
 
 June
                  30,
                2007
                (Unaudited)
              
              
              December
                  31,
                2006Capitalization:Common
                  shareholder’s investment:Common
                  stock ($10 stated value) - 150,000,000 shares authorized, 85,903,791
                  shares outstanding
              
              $
              859,038
              
              
              $
              859,038Additional
                  paid-in capital
              
              
              999,914
              
              
              
              996,737Earnings
                  reinvested in the business
              
              
              327,687
              
              
              
              263,206Accumulated
                  other comprehensive loss, net of tax at 35%
              
              
              (32,478
              )
              
              
              (26,698
              )Total
                  shareholder’s equity
              
              
              2,154,161
              
              
              
              2,092,283Redeemable
                  securities and long-term debt:Preferred
                  stock subject to mandatory redemption
              
              
              1,889
              
              
              
              1,889Junior
                  subordinated note
              
              
              250,000
              
              
              
              --Junior
                  subordinated debentures of the corporation payable to a subsidiary
                  trust
                  holding mandatorily redeemable preferred securities
              
              
              --
              
              
              
              37,750Long-term
                  debt
              
              
              2,458,360
              
              
              
              2,608,360Total
                  redeemable securities and long-term debt
              
              
              2,710,249
              
              
              
              2,647,999Total
                  capitalization
              
              
              4,864,410
              
              
              
              4,740,282Current
                  liabilities:Accounts
                  payable
              
              
              206,130
              
              
              
              379,494Short-term
                  debt
              
              
              289,854
              
              
              
              328,055Short-term
                  note owed to Puget Energy
              
              
              24,467
              
              
              
              24,303Current
                  maturities of long-term debt
              
              
              175,000
              
              
              
              125,000Accrued
                  expenses:Purchased
                  gas liability
              
              
              41,604
              
              
              
              --Taxes
              
              
              64,179
              
              
              
              55,365Salaries
                  and wages
              
              
              22,392
              
              
              
              31,591Interest
              
              
              44,123
              
              
              
              37,031Unrealized
                  loss on derivative instruments
              
              
              39,037
              
              
              
              70,596Other
              
              
              52,150
              
              
              
              43,889Total
                  current liabilities
              
              
              958,936
              
              
              
              1,095,324Long-term
                  liabilities:Deferred
                  income taxes
              
              
              758,150
              
              
              
              749,033Unrealized
                  loss on derivative instruments
              
              
              1,325
              
              
              
              415Other
                  deferred credits
              
              
              501,608
              
              
              
              476,359Total
                  long-term liabilities
              
              
              1,261,083
              
              
              
              1,225,807Total
                  capitalization and liabilities
              
              $
              7,084,429
              
              
              $
              7,061,413
 
 *The
        accompanying notes are an integral part of the financial
        statements.*





**PUGET
      SOUND ENERGY, INC.**


CONSOLIDATED
      STATEMENTS OF CASH FLOWS


(Dollars
      in thousands)


(Unaudited)





Six
                Months Ended
              June
                30,2007
            
            
            2006Operating
                activities:Net
                income
            
            $
            117,136
            
            
            $
            103,939Adjustments
                to reconcile net income to net cash provided by operating
                activities:Depreciation
                and amortization
            
            
            135,441
            
            
            
            128,429Deferred
                income taxes and tax credits, net
            
            
            19,580
            
            
            
            (11,562
            )Net
                unrealized (gain) loss on derivative instruments
            
            
            (4,246
            )
            
            
            825Amortization
                of gas pipeline capacity assignment
            
            
            (5,411
            )
            
            
            (5,267
            )Cash
                collateral paid from energy suppliers
            
            
            --
            
            
            
            (19,950
            )Decrease
                in residential exchange program
            
            
            (25,673
            )
            
            
            (7,529
            )Cash
                receipt from lease purchase option settlement
            
            
            18,909
            
            
            
            --Chelan
                PUD contract initiation payment
            
            
            --
            
            
            
            (89,000
            )Power
                cost adjustment mechanism
            
            
            2,788
            
            
            
            --Storm
                damage deferred costs
            
            
            (16,359
            )
            
            
            (4,453
            )Other
            
            
            8,374
            
            
            
            28,851Change
                in certain current assets and liabilities:Accounts
                receivable and unbilled revenue
            
            
            195,971
            
            
            
            206,759Materials
                and supplies
            
            
            (16,635
            )
            
            
            (3,146
            )Fuel
                and gas inventory
            
            
            19,945
            
            
            
            3,420Prepayments
                and other
            
            
            (25,726
            )
            
            
            (1,785
            )Purchased
                gas adjustment receivable/payable
            
            
            81,425
            
            
            
            (5,638
            )Accounts
                payable
            
            
            (168,605
            )
            
            
            (165,884
            )Taxes
                payable
            
            
            8,814
            
            
            
            (53,214
            )Accrued
                expenses and other
            
            
            410
            
            
            
            7,479Net
                cash provided by operating activities
            
            
            346,138
            
            
            
            112,274Investing
                activities:Construction
                expenditures - excluding equity AFUDC
            
            
            (375,677
            )
            
            
            (306,387
            )Energy
                efficiency expenditures
            
            
            (18,464
            )
            
            
            (13,846
            )Refundable
                cash received for customer construction projects
            
            
            9,179
            
            
            
            7,739Restricted
                cash
            
            
            (2
            )
            
            
            (3
            )Other
            
            
            1,394
            
            
            
            3,466Net
                cash used by investing activities
            
            
            (383,570
            )
            
            
            (309,031
            )Financing
                activities:Change
                in short-term debt, net
            
            
            (38,201
            )
            
            
            168,099Loan
                from Puget Energy
            
            
            164
            
            
            
            --Dividends
                paid
            
            
            (52,654
            )
            
            
            (57,411
            )Investment
                from Puget Energy
            
            
            2,740
            
            
            
            62,986Issuance
                of bonds and notes
            
            
            250,000
            
            
            
            250,000Redemption
                of trust preferred stock
            
            
            (37,750
            )
            
            
            (200,000
            )Redemption
                of bonds and notes
            
            
            (100,000
            )
            
            
            (46,000
            )Settlement
                of cash flow hedge interest rate derivative
            
            
            --
            
            
            
            21,323Issuance
                and redemption cost of bonds and other
            
            
            1,249
            
            
            
            (2,598
            )Net
                cash provided by financing activities
            
            
            25,548
            
            
            
            196,399Net
                decrease in cash
            
            
            (11,884
            )
            
            
            (358
            )Cash
                at beginning of year
            
            
            28,092
            
            
            
            16,709Cash
                at end of period
            
            $
            16,208
            
            
            $
            16,351Supplemental
                cash flow information:Cash
                paid for interest (net of capitalized interest)
            
            $
            91,666
            
            
            $
            88,958Income
                taxes paid
            
            
            23,000
            
            
            
            77,346





*The
      accompanying notes are an integral part of the financial
      statements.*





**COMBINED
      NOTES TO CONSOLIDATED FINANCIAL
      STATEMENTS**


**(1)**
              **Summary
                  of Consolidation
                  Policy**


**Basis
        of Presentation**


Puget
        Energy, Inc. (Puget Energy) is a holding company that owns Puget Sound Energy,
        Inc. (PSE) and until May 7, 2006, InfrastruX Group, Inc.
        (InfrastruX).  PSE is a public utility incorporated in the state of
        Washington that furnishes electric and gas services in a territory covering
        6,000 square miles, primarily in the Puget Sound region.


The
        2007
        consolidated financial statements of Puget Energy reflect the accounts of
        Puget
        Energy and its subsidiary, PSE.  PSE’s consolidated financial
        statements include the accounts of PSE and its subsidiaries.  Puget
        Energy and PSE are collectively referred to herein as “the
        Company.”  The consolidated financial statements are presented after
        elimination of all significant intercompany items and
        transactions.  Certain amounts previously reported have been
        reclassified to conform to current year presentations with no effect on total
        equity or net income.  The reclassification relates to the income
        statements of Puget Energy and PSE, which have been changed from a utility
        presentation format based on Federal Energy Regulatory Commission (FERC)
        guidelines to a presentation based on generally accepted accounting principles
        (GAAP).


The
        2006
        consolidated financial statements of Puget Energy reflect the accounts of
        Puget
        Energy and its subsidiaries, PSE and InfrastruX.  Puget Energy holds
        all the common shares of PSE and until May 7, 2006, a 90.9% interest in
        InfrastruX.  The results of PSE and InfrastruX are presented on a
        consolidated basis.  The financial position and results of operations
        for InfrastruX are presented as discontinued operations.  At the time
        that it was owned by Puget Energy, InfrastruX was a non-regulated utility
        construction service company incorporated in the state of Washington, which
        provides construction services to the electric and gas utility industries
        primarily in the Midwest, Texas, south-central and eastern United States
        regions.


The
        consolidated financial statements contained in this Form 10-Q are
        unaudited.  In the respective opinions of the management of Puget
        Energy and PSE, all adjustments necessary for a fair statement of the results
        for the interim periods have been reflected and were of a normal recurring
        nature.  These condensed financial statements should be read in
        conjunction with the audited financial statements (and the Combined Notes
        thereto) included in the combined Puget Energy and PSE Report on Form 10-K
        for
        the year ended December 31, 2006.


The
        preparation of financial statements in conformity with GAAP requires management
        to make estimates and assumptions that affect the reported amounts of assets
        and
        liabilities, disclosure of contingent assets and liabilities at the date
        of the
        financial statements, and the reported amounts of revenues and expenses during
        the reporting period.  Actual results could differ from those
        estimates.


PSE
        collected Washington State excise taxes (which are a component of general
        retail
        rates) and municipal taxes of $48.2 million and $122.9 million for the three
        and
        six months ended June 30, 2007, respectively, and $40.6 million and $105.2
        million for the three and six months ended June 30, 2006,
        respectively.  The Company’s policy is to report such taxes on a gross
        basis in operating revenues and taxes other than income taxes in the
        accompanying consolidated statements of income.






**(2)**
            **Earnings
                per Common Share**(Puget Energy
                Only)


Puget
        Energy’s basic earnings per common share have been computed based on weighted
        average common shares outstanding of 116,659,000  and 116,567,000 for
        the three and six months ended June 30, 2007, respectively, and 115,907,000
        and
        115,817,000 for the three and six months ended June 30, 2006,
        respectively.


Puget
        Energy’s diluted earnings per common share have been computed based on weighted
        average common shares outstanding and issuable upon exercise of options or
        expiration of vesting periods of 117,158,000 and 117,115,000 for the three
        and
        six months ended June 30, 2007, respectively, and 116,405,000 and 116,266,000
        for the three and six months ended June 30, 2006, respectively.  These
        shares include the dilutive effect of securities related to employee and
        director equity plans.






**(3)**
            **Accounting
                for Derivative Instruments and Hedging
                Activities**




Statement
      of Financial Accounting Standards (SFAS) No. 133, “Accounting for Derivative
      Instruments and Hedging Activities,” as amended, requires that all contracts
      considered to be derivative instruments be recorded on the balance sheet at
      their fair value.  The Company enters into contracts to manage its
      energy resource portfolio and interest rate exposure including forward physical
      and financial contracts, option contracts and swaps.  The majority of
      these contracts qualify for the normal purchase normal sale (NPNS) exception
      to
      derivative accounting rules provided they meet certain
      criteria.  Generally, NPNS applies if PSE deems the counterparty
      creditworthy, if the counterparty owns or controls energy resources within
      the
      western region to allow for physical delivery of the energy and if the
      transaction is within PSE’s forecasted load requirements and adjusted from time
      to time.  Those contracts that do not meet NPNS exception or cash flow
      hedge criteria are marked-to-market to current earnings in the income statement,
      subject to deferral under SFAS No. 71, “Accounting for the Effects of Certain
      Types of Regulation,” for energy related derivatives due to the Power Cost
      Adjustment (PCA) mechanism and Purchased Gas Adjustment (PGA)
      mechanism.


The
      nature of serving regulated electric customers with its wholesale portfolio
      of
      owned and contracted electric generation resources exposes the Company and
      its
      customers to some volumetric and commodity price risks within the sharing
      mechanism of the PCA.  The Company’s energy risk portfolio management
      function monitors and manages these risks using analytical models and
      tools.  The Company is not engaged in the business of assuming risk
      for the purpose of realizing speculative trading revenues.  Therefore,
      wholesale market transactions are focused on balancing the Company’s energy
      portfolio, reducing costs and risks where feasible and reducing volatility
      in
      wholesale costs and margin in the portfolio.  In order to manage risks
      effectively, the Company enters into physical and financial transactions which
      are appropriate for the service territory of the Company and are relevant to
      its
      regulated electric and gas portfolios.


The
      following tables present the impact of changes in the market value of derivative
      instruments not meeting NPNS or cash flow hedge criteria to the Company’s
      earnings during the three and six months ended June 30, 2007 and June 30,
      2006:


(Dollars
                  in millions)
                Three
                  Months Ended June 30,
              2007
              2006
              ChangeIncrease
                  (decrease) in earnings
              $
                  (1.5)
              $  0.2
              $
                  (1.7)


(Dollars
                  in millions)
                Six
                  Months Ended June 30,
              2007
              2006
              ChangeIncrease
                  (decrease) in earnings
              $  4.2
              $
                  (0.8)
              $  5.0





The
      Company
      recorded a decrease of $1.5 million and an increase of $4.2 million in earnings
      during the three and six months ended June 30, 2007, respectively, primarily
      due
      to the change in the mark-to-market valuation of a physically delivered gas
      supply contract for electric generation that did not meet NPNS or cash flow
      hedge criteria.  The mark-to-market valuation in 2007 primarily
      relates to a physical contract reserve that was released on a contract due
      to
      improved credit of a counterparty.  At June 30, 2007, the
      Company deferred a net unrealized day one loss of $10.0 million related to
      a three and a half year locational power exchange contract.  The fair
      value of the exchange contract was based on a propriety model.  The
      deferred loss will be amortized over the term of the contract based upon the
      power exchanged.  Any future changes in the mark-to-market value will
      be recorded through the income statement.  The contract has an
      economic benefit to the Company over its term and will help ease electric
      transmission congestion across the Cascade Mountains during winter months as
      PSE
      will take delivery of energy at a location that interconnects with PSE’s
      transmission system in Western Washington.  At the same time, PSE will
      make available the same quantities of power at the Mid-Columbia trading hub
      location.


The
      amount of net unrealized gain (loss), net of tax, related to the Company’s cash
      flow hedges under SFAS No. 133 consisted of the following at June 30, 2007
      and
      December 31, 2006:





(Dollars
                in millions)
            June
                30,
              2007
            December
                31,
              2006Other
                comprehensive income – unrealized gain (loss)
            $  (3.4)
            $  4.9




The
      Company’s energy derivative contracts designated as cash flow hedges that
      represent forward financial purchases of natural gas supply for electric
      generation from PSE-owned electric plants in future periods at June 30, 2007
      and
      December 31, 2006 are presented below:




Electric
                Derivatives(Dollars
                in millions)
            
            June
                30,
              2007
            
            December
                31,
              2006Short-term
                asset
            
            $
            11.0
            
            
            $
            9.2Long-term
                asset
            
            
            0.2
            
            
            
            6.8Total
                assets
            
            $
            11.2
            
            
            $
            16.0Short-term
                liability
            
            $
            15.5
            
            
            $
            8.0Long-term
                liability
            
            
            1.0
            
            
            
            0.4Total
                liabilities
            
            $
            16.5
            
            
            $
            8.4





If
      it is
      determined that it is uneconomical to run the plants in the future period,
      the
      hedging relationship is ended and the cash flow hedge is de-designated and
      any
      unrealized gains and losses are recorded in the income
      statement.  Gains and losses are recognized in energy costs and are
      included as part of the PCA mechanism when these de-designated cash flow hedges
      are settled.


The
      following table presents derivative hedges of natural gas contracts to serve
      natural gas customers at June 30, 2007 and December 31, 2006:





Gas
                Derivatives(Dollars
                in millions)
            
            June
                30,
              2007
            
            December
                31,
              2006Short-term
                asset
            
            $
            4.9
            
            
            $
            6.7Long-term
                asset
            
            
            --
            
            
            
            0.1Total
                assets
            
            $
            4.9
            
            
            $
            6.8Short-term
                liability
            
            $
            23.5
            
            
            $
            61.6Long-term
                liability
            
            
            0.3
            
            
            
            --Total
                liabilities
            
            $
            23.8
            
            
            $
            61.6





Due
      to
      the PGA mechanism, mark-to-market adjustments relating to the natural gas
      business have been reclassified to a deferred account in accordance with SFAS
      No. 71.  The PGA mechanism passes increases and decreases in the cost
      of natural gas supply to customers.  As the gains and losses on the
      hedges are realized in future periods, they will be recorded as gas costs under
      the PGA mechanism.


At
      June
      30, 2007, a portion of the ending balance in other comprehensive income relates
      to previously settled treasury interest rate swap contracts which gave rise
      to a
      loss of $8.3 million after-tax and accumulated amortization.






**(4)**
            **Discontinued
                Operations and Corporate Guarantees**(Puget Energy
                Only)




On
      May 7,
      2006, Puget Energy sold InfrastruX to an affiliate of Tenaska Power Fund, L.P.
      (Tenaska).  Puget Energy accounted for InfrastruX as a discontinued
      operation under SFAS No. 144, “Accounting for the Impairment or Disposal of
      Long-Lived Assets” in 2006.


As
      part
      of the transaction, Puget Energy made certain representations and warranties
      concerning InfrastruX.  Puget Energy obtained a representation and
      warranty insurance policy and deposited $3.7 million into an escrow account
      to
      serve as retention under the policy.  At June 30, 2007, restricted
      cash in the escrow account was $3.9 million, which is included in Puget Energy’s
      balance sheets, representing management’s estimate of the aggregate fair value
      of Puget Energy’s maximum risk of loss related to those representations and
      warranties.  Should Tenaska make any such claims against Puget Energy,
      payment for the claims would be made from the escrow account.  The
      representation and warranty obligation expires May 7, 2008.


Puget
      Energy also agreed to indemnify Tenaska for certain costs and expenses incurred
      after closing by InfrastruX related to an investigation of one of InfrastruX’s
      subsidiary companies.  Under the indemnity agreement, Puget Energy is
      also liable for refunding a portion of the purchase price paid by Tenaska for
      InfrastruX if the subsidiary does not achieve certain operating results during
      the measurement year.  The maximum obligation of Puget Energy for
      defense costs and a refund of a portion of the purchase price is capped at
      $15.0
      million.  Tenaska has notified Puget Energy that 2008 will be the
      measurement year for purposes of calculating the potential purchase price refund
      obligation.  At June 30, 2007, a liability in the amount of $5.0
      million is included in the accompanying balance sheets; that amount represents
      Puget Energy’s estimate of the fair value of the amount potentially payable
      using a probability-weighted approach to a range of future cash
      flows.  The obligation expires May 7, 2011.


Puget
      Energy’s accounting policy for its representations and warranties loss reserve
      and the indemnity agreement is to reduce the loss reserve only when the
      guarantee expires or is settled.  Any increase to the loss reserves
      subsequent to the initial recognition would be determined if it is probable
      that
      a future event will occur confirming the additional loss and the amount of
      the
      additional loss can be reasonably estimated in accordance with SFAS No. 5,
      “Accounting for Contingencies.”


Puget
      Energy also provided an environmental guarantee as part of the sale
      agreement.  Under the terms of the agreement, Tenaska will be
      responsible for the first $0.1 million of environmental claims, Tenaska and
      Puget Energy will share the next $6.4 million equally and Puget Energy will
      be
      responsible for the next $3.5 million.  Puget Energy believes it will
      not have a future loss in connection with the environmental
      guarantee.


The
      following table summarizes Puget Energy’s income from discontinued
      operations:





Three
                Months Ended
              June
                30,
            
            
            Six
                Months Ended
              June
                30,(Dollars
                in Thousands)
            
            2007
            
            
            2006
            
            
            2007
            
            
            2006Revenues
            
            $
            --
            
            
            $
            46,504
            
            
            $
            --
            
            
            $
            138,573Operating
                expenses (including interest expense)
            
            
            --
            
            
            
            (40,735
            )
            
            
            --
            
            
            
            (128,634
            )Pre-tax
                income
            
            
            --
            
            
            
            5,769
            
            
            
            --
            
            
            
            9,939Income
                tax expense
            
            
            --
            
            
            
            (2,260
            )
            
            
            --
            
            
            
            (3,516
            )Puget
                Energy carrying value adjustment of InfrastruX
            
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            7,269Puget
                Energy cost of sale related to InfrastruX, net of tax
            
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            (937
            )Puget
                Energy deferred tax basis adjustment of InfrastruX
            
            
            --
            
            
            
            --
            
            
            
            --
            
            
            
            9,966Gain
                on sale, net of tax
            
            
            12
            
            
            
            29,764
            
            
            
            12
            
            
            
            29,764Minority
                interest in income of discontinued operations
            
            
            --
            
            
            
            (319
            )
            
            
            --
            
            
            
            (584
            )Income
                from discontinued operations
            
            $
            12
            
            
            $
            32,954
            
            
            $
            12
            
            
            $
            51,901





In
      accordance with SFAS No. 144, InfrastruX discontinued depreciation and
      amortization of its assets effective February 8, 2005.  This
      discontinuation of depreciation and amortization resulted in $6.7 million ($4.3
      million after-tax) lower depreciation and amortization expense than otherwise
      would have been recorded as continuing operations for the six months ended
      June
      30, 2006.  Puget Energy did not record any amortization expense
      related to the intangible assets of InfrastruX in 2006.









**(5)**
            **Retirement
                Benefits**




The
      Company has a defined benefit pension plan with a cash balance feature covering
      substantially all PSE employees.  Benefits are a function of age,
      salary and service.  Puget Energy also maintains a non-qualified
      supplemental retirement plan for officers and certain director-level
      employees.


The
      following table summarizes the net periodic benefit cost for the three months
      ended June 30:





Pension
                Benefits
            
            
            Other
                Benefits(Dollars
                in thousands)
            
            2007
            
            
            2006
            
            
            2007
            
            
            2006Service
                cost
            
            $
            3,392
            
            
            $
            3,061
            
            
            $
            91
            
            
            $
            85Interest
                cost
            
            
            6,686
            
            
            
            6,163
            
            
            
            379
            
            
            
            358Expected
                return on plan assets
            
            
            (9,679
            )
            
            
            (9,434
            )
            
            
            (205
            )
            
            
            (182
            )Amortization
                of prior service cost
            
            
            511
            
            
            
            586
            
            
            
            134
            
            
            
            134Recognized
                net actuarial (gain) loss
            
            
            1,420
            
            
            
            1,246
            
            
            
            (56
            )
            
            
            (127
            )Amortization
                of transition obligation
            
            
            --
            
            
            
            --
            
            
            
            105
            
            
            
            105Net
                periodic benefit cost
            
            $
            2,330
            
            
            $
            1,622
            
            
            $
            448
            
            
            $
            373





The
      following table summarizes
      the net periodic benefit cost for the six months ended June 30:





Pension
                Benefits
            
            
            Other
                Benefits(Dollars
                in thousands)
            
            2007
            
            
            2006
            
            
            2007
            
            
            2006Service
                cost
            
            $
            6,655
            
            
            $
            6,122
            
            
            $
            183
            
            
            $
            171Interest
                cost
            
            
            13,256
            
            
            
            12,329
            
            
            
            759
            
            
            
            716Expected
                return on plan assets
            
            
            (19,429
            )
            
            
            (18,869
            )
            
            
            (410
            )
            
            
            (363
            )Amortization
                of prior service cost
            
            
            1,021
            
            
            
            1,171
            
            
            
            267
            
            
            
            267Recognized
                net actuarial (gain) loss
            
            
            2,594
            
            
            
            2,499
            
            
            
            (112
            )
            
            
            (254
            )Amortization
                of transition obligation
            
            
            --
            
            
            
            --
            
            
            
            209
            
            
            
            209Net
                periodic benefit cost
            
            $
            4,097
            
            
            $
            3,252
            
            
            $
            896
            
            
            $
            746





The
      Company previously disclosed in its financial statements for the year ended
      December 31, 2006 that it expected contributions by the Company to fund the
      pension and other benefits plans for the year ending December 31, 2007 to be
      $4.5 million and $0.3 million, respectively.  During the three and six
      months ended June 30, 2007, the actual cash contributions to the pension plans
      were $0.4 million and $0.9 million, respectively.  Based on this
      activity, the Company anticipates contributing an additional $3.6 million to
      the
      Company’s non-qualified pension plan in 2007.  The full amount of the
      pension plan funding for 2007 is for the Company’s non-qualified supplemental
      retirement plan.


During
      the three and six months ended June 30, 2007, actual other post-retirement
      medical benefit plan contributions were less than $0.2 million and $0.7 million,
      respectively, and the Company does not expect to make additional contributions
      for the remaining period of 2007.


On
      June
      20, 2007, the International Brotherhood of Electrical Workers (IBEW) ratified
      a
      collective bargaining agreement with PSE.  The collective bargaining
      agreement included changes to the Company’s subsidy for retiree medical
      insurance.  As of June 20, 2007, no new IBEW employees will receive a
      retiree medical subsidy at retirement.  Current IBEW employees with
      less than five years of service will no longer receive a subsidy at retirement
      and those employees with more than one year of service but less than five years
      of service will receive a one-time cash payment that varies depending on the
      years of employment with PSE.  Current IBEW employees with five or
      more years of service have a one-time opportunity to elect a cash payment in
      lieu of continuing eligibility for the retiree medical subsidy.  Once
      elections are known, PSE will record a curtailment gain or loss in the third
      quarter of 2007.  The Company does not expect the curtailment gain or
      loss to be material to its financial statements in 2007.






**(6)**
            **Income
                Taxes**




In
      July
      2006, Financial Accounting Standards Board (FASB) issued Interpretation No.
      48
      (FIN 48), “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB
      Statement No. 109,” which clarifies the accounting for uncertainty in income
      taxes recognized in the financial statements in accordance with FASB Statement
      No. 109, “Accounting for Income Taxes.”  FIN 48 requires the use of a
      two-step approach for recognizing and measuring tax positions taken or expected
      to be taken in a tax return.  First, a tax position should only be
      recognized when it is more likely than not, based on technical merits, that
      the
      position will be sustained upon examination by the taxing
      authority.  Second, a tax position that meets the recognition
      threshold should be measured at the largest amount that has a greater than
      50%
      likelihood of being sustained.


FIN
      48
      was effective for the Company as of January 1, 2007.  As of the date
      of adoption, the Company had no material unrecognized tax benefits but accrued
      $6.6 million in interest expense related to tax deductions for certain
      capitalized internal labor and related overhead costs previously deducted before
      repayment in 2005 and 2006.  Additionally, the Company has accrued
      $0.2 million and $0.6 million in interest expense for the three and six months
      ended June 30, 2007, respectively, related to the tax deductions for the
      capitalized internal labor and overheads.


In
      its
      2001 tax return, PSE claimed a deduction when it changed its tax accounting
      method with respect to capitalized internal labor and
      overheads.  Under the new method, the Company could immediately deduct
      certain costs that it had previously capitalized.  In the IRS audit of
      the Company’s 2001, 2002 and 2003 federal income tax returns, the IRS disallowed
      the deduction, citing Revenue Ruling 2005-53.  The Company believes
      the original deductions were valid as filed and has formally appealed the IRS
      adjustment.  The Company repaid the tax benefits in 2005 and 2006 as
      provided in the new Regulations, issued on August 2, 2005 (Regulation
      1.263(a)-1).  At December 31, 2006, the full tax benefit had been
      repaid.  The IRS national office is in the process of establishing
      settlement guidelines which will apply to its settlement offers on this
      issue.  It is possible that this issue could be resolved in the next
      12 months.


Based
      on prior Washington Utilities and Transportation Commission (Washington
      Commission) orders on this issue, it is management’s expectation that if the IRS
      is ultimately successful in challenging some portion of the deduction the
      Company could request rate recovery of the regulatory asset for the interest
      accrued.


For federal income tax purposes, the Company has open tax years from 2001
      through 2007.  The Company continues its policy of classifying
      interest and penalties as interest expense as other expense in the financial
      statements.






**(7)**
            **Regulation
                and Rates**




On
      March
      20, 2007, PSE submitted a Power Cost Only Rate Case (PCORC) filing to request
      approval of an updated power cost baseline rate beginning September
      2007.  The PCORC filing also requested recovery of the Goldendale
      generating facility (Goldendale) ownership and operating costs through retail
      electric rates.  The requested electric rate increase is $64.7 million
      or 3.7% annually.  On May 23, 2007, PSE filed updated power costs due
      to changes in market conditions of natural gas and other costs which resulted
      in
      a revised proposed increase of $77.8 million or 4.4% annually.  On
      July 5, 2007, a settlement agreement in this PCORC rate case signed by PSE
      and
      certain other parties to the proceeding was filed with the Washington
      Commission.  The terms of the settlement agreement include an electric
      rate increase of $64.7 million.  Goldendale ownership and operating
      costs are agreed upon as prudent, thus allowing for recovery of the costs
      through electric retail rates and the parties agree to participate in a
      collaborative effort to examine the rules and procedures of the Washington
      Commission’s PCORC process.  On August 2, 2007, the Washington
      Commission approved the settlement agreement which provides for new
      electric rates effective on September 1, 2007.


On
      May
      21, 2007, the Bonneville Power Administration (BPA) informed PSE and other
      investor-owned utilities that BPA was suspending payments related to its
      residential exchange program due to an adverse Ninth Circuit Court of Appeals
      (Ninth Circuit) decision of May 3, 2007.  The Ninth Circuit concluded
      in its decision that certain BPA actions in entering into residential exchange
      settlements in 2000 were not in accordance with the law.  BPA has
      suspended payments under the residential exchange program until final decisions
      by the Ninth Circuit are determined.  As a result of the BPA
      suspension of payment, PSE filed for suspension of the Residential Exchange
      Credit electric tariff which is a pass-through of the benefits of the
      Residential Exchange.  The Washington Commission approved the
      suspension of electric tariff effective June 7, 2007 to all residential and
      small farm customers.  As of June 30, 2007, PSE had provided
      residential and small farm customers more benefits under the residential
      exchange program than what BPA has reimbursed to PSE primarily due to the
      seasonal nature of electric energy used by PSE’s electric
      customers.  As such, PSE has a regulatory asset representing an amount
      receivable from its electric residential and small farm customers of $33.3
      million.  Under Federal law, investor-owned utilities receiving
      residential exchange benefits must pass-through the benefits to their
      residential and small farm electric customers.


PSE
      has
      an accounting petition pending before the Washington Commission requesting
      deferred accounting treatment for amounts credited to customers under the
      Residential Exchange Credit electric tariff that have not been reimbursed by
      BPA.  The accounting petition is seeking approval of recording
      carrying costs on the deferred balance until the deferred balance is recovered
      from customers.  PSE is not currently accruing carrying costs on such
      balances.  Alternatively, PSE may seek recovery of the deferral
      through the pass-through electric rate tariff if the accounting petition is
      not
      approved.


In
      May
      2007, the Washington Commission Staff alleged that PSE’s gas system service
      provider had violated certain Washington Commission recordkeeping
      rules.  The Washington Commission has since filed a complaint against
      PSE that includes Washington Commission Staff’s recommendation that PSE be
      assessed a $2.0 million regulatory penalty.  As of June 30, 2007, PSE
      management determined the penalty met the SFAS No. 5, “Accounting for
      Contingencies” criteria for recording a loss contingency and thus recorded a
      $2.0 million loss reserve.  The Washington Commission investigation is
      ongoing and a settlement conference is scheduled for mid-August
      2007.


On
      April
      11, 2007, the Washington Commission approved PSE’s petition for issuance of an
      accounting order that authorizes PSE to defer certain ownership and operating
      costs the Company will incur related to its purchase of Goldendale during the
      period prior to inclusion in PSE’s retail electric rates in the
      PCORC.  PSE established a regulatory asset of $7.0 million at June 30,
      2007.  Deferrals will continue until new rates are approved in the
      PCORC proceeding, which is anticipated to be September 1, 2007.


On
      January 5, 2007, the Washington Commission issued its order in PSE’s electric
      general rate case filed in February 2006, approving a general rate decrease
      for
      electric customers of $22.8 million or 1.3% annually.  The rates for
      electric customers became effective beginning January 13, 2007.  In
      its order, the Washington Commission approved a weighted cost of capital of
      8.4%, or 7.06% after-tax, and a capital structure that included 44.0% common
      equity with a return on equity of 10.4%.  The Washington Commission
      had earlier approved (on June 28, 2006) a PCORC increase of $96.1 million
      annually effective July 1, 2006.


On
      January 5, 2007, the Washington Commission also issued its order in PSE’s
      natural gas general rate case, granting an increase for gas customers of $29.5
      million or 2.8% annually, effective January 13, 2007.


On
      June
      20, 2002, the Washington Commission approved a PCA mechanism that becomes
      operative if PSE’s costs to provide customers’ electricity falls outside certain
      bands established in an electric rate case.  The cumulative maximum
      pre-tax earnings exposure due to power cost variations over the four-year period
      ended June 30, 2006 was limited to $40.0 million plus 1.0% of the
      excess.  In October 2005, the Washington Commission approved a shift
      to an annual PCA mechanism measurement period from January through December
      starting in 2007.  On January 5, 2007, the Washington Commission
      approved the PCA mechanism for continuation under the same annual graduated
      scale without a cumulative cap for excess power costs.  All
      significant variable power supply cost variables (hydroelectric and wind
      generation, market price for purchased power and surplus power, natural gas
      and
      coal fuel price, generation unit forced outage risk and transmission cost)
      are
      included in the PCA mechanism.






**(8)**
            **Litigation**




**Residential
      Exchange.**  Petitioners in several actions in the Ninth
      Circuit against BPA asserted that BPA acted contrary to law in entering into
      a
      number of agreements, including the amended settlement agreement (and the May
      2004 agreement) between BPA and PSE regarding the BPA Residential Purchase
      and
      Sale Program.  BPA rates used in such agreements between BPA and PSE
      for determining the amounts of money to be paid to PSE by BPA under such
      agreements during the period October 1, 2001 through September 30, 2006 have
      been confirmed, approved and allowed to go into effect by
      FERC.  Petitioners in several actions in the Ninth Circuit against
      BPA, also asserted that BPA acted contrary to law in entering into agreements
      in
      which the benefits received or to be received from BPA during the October 1,
      2001 through September 30, 2006 period were based.  The parties to
      these various actions presented oral arguments to the Ninth Circuit in November
      2005.  A number of parties have claimed that the BPA rates proposed or
      adopted in the BPA rate proceeding to develop BPA rates to be used in the
      agreements for determining the amounts of money to be paid to PSE by BPA during
      the period October 1, 2006 through September 30, 2009 are contrary to law and
      that BPA acted contrary to law or without authority in deciding to enter into,
      or in entering into or performing or implementing such agreements.  In
      June 2007, BPA requested FERC to continue a stay of FERC’s review of such rates
      in light of uncertainties created by the Ninth Circuit litigation.  It
      is not clear what impact, if any, development or review of such rates, review
      of
      such agreements and the above described Ninth Circuit litigation may have on
      PSE.


On
      May 3,
      2007, the Ninth Circuit issued an opinion in *Portland Gen. Elec. v.
      BPA*, No. 01-70003, in which proceeding the actions of BPA in entering into
      settlement agreements, regarding the BPA Residential Purchase and Sale Program,
      with PSE and with other investor-owned utilities were challenged.  In
      this opinion, the Ninth Circuit granted petitions for review and held the
      settlement agreements entered into between BPA and the investor-owned utilities
      being challenged in that proceeding to be inconsistent with
      statute.  On May 3, 2007, the Ninth Circuit also issued an opinion in
*Golden Northwest Aluminum v. BPA*, No. 03-73426, in which proceeding the
      petitioners sought review of BPA’s 2002-06 power rates.  In this
      opinion, the Ninth Circuit granted petitions for review and held that BPA
      unlawfully shifted onto its preference customers the costs of its settlements
      with the investor-owned utilities.  In May 2007, following the Ninth
      Circuit’s issuance of these opinions, BPA suspended payments to PSE under the
      amended settlement agreement (and the May 2004 agreement).  As the
      residential exchange benefits are a pass-through benefit, PSE currently cannot
      predict any cash flow impact from these discussions other than what has already
      been provided to customers.


**Colstrip
      Matters.**  In May 2003, approximately 50 plaintiffs brought an
      action against the owners of Colstrip which has since been amended to add
      additional claims.  The lawsuit alleges that certain domestic water
      wells, groundwater and the Colstrip water supply pond were contaminated by
      seepage from a Colstrip Units 1 & 2 effluent holding pond, that seepage from
      Colstrip Units 1 & 2 have decreased property values and that seepage from
      the Colstrip water supply pond caused structural damage to buildings and toxic
      mold.  Discovery is ongoing.  The trial is set for the first
      quarter 2008.  On March 29, 2007, a second complaint was filed on
      behalf of two ranch owners alleging damage due to the Colstrip Units 3 & 4
      effluent holding pond.


In
      December 2003, the Environmental Protection Agency (EPA) issued an
      Administrative Consent Order (ACO) which alleged violation of the Clean Air
      Act
      permit at Colstrip since 1980.  The permit required Colstrip to
      submit, for review and approval by the EPA, an analysis and proposal for
      reducing emissions of nitrogen oxide to address visibility concerns upon the
      occurrence of certain triggering events.  The EPA asserts that
      regulations it promulgated in 1980 triggered this
      requirement.  Although Colstrip owners believe that the ACO was
      unfounded, the Colstrip owners entered into negotiations with the EPA and the
      Northern Cheyenne Tribe.  On May 14, 2007, the ACO was approved and
      deemed entered by the Montana Federal District Court.  The agreement
      requires installation of low nitrogen oxide equipment on Colstrip Units 3 &
4, payment of a non-material penalty and financing of an energy efficiency
      project on the Northern Cheyenne reservation.  The estimated total
      additional capital cost to PSE is $2.7 million.


On
      June
      15, 2005, the EPA issued the Clean Air Visibility Rule to address regional
      haze
      or regionally-impaired visibility caused by multiple sources over a wide
      area.  The rule defines Best Available Retrofit Technology (BART)
      requirements for electric generating units, including presumptive limits for
      sulfur dioxide, particulate matter and nitrogen oxide controls for large
      units.  In February 2007, Colstrip was notified by EPA that Colstrip
      Units 1 & 2 were determined to be subject to the BART requirements and were
      required to submit a BART engineering analysis for Colstrip Units 1 & 2 in
      the third quarter of 2007.  PSE cannot yet determine the need for or
      costs of additional controls to comply with this rule, though any such costs
      could be significant and would most likely be capitalized to plant.


**Proceedings
      Relating to the Western Power Market.**  PSE is vigorously
      defending each case in the western power market
      proceedings.  Litigation is subject to numerous uncertainties and PSE
      is unable to predict the ultimate outcome of these
      matters.  Accordingly, there can be no guarantee that these
      proceedings, either individually or in the aggregate, will not materially and/or
      adversely affect PSE’s financial condition, results of operations or
      liquidity.


*CPUC
      Decision.*Proceedings, including filings of requests for
      rehearing or further review, before the Ninth Circuit and/or FERC, continue
      to
      be stayed upon the Court’s own motion to allow for possible settlement
      discussions to proceed.  The matter is stayed until August 13,
      2007.


*Lockyer
      Case.*On June 18, 2007, the U.S. Supreme Court denied the
      petition that PSE and other energy sellers had submitted that sought Supreme
      Court review of the Ninth Circuit decision.  As such, this matter will
      be remanded to FERC for further proceedings, but not before August 13, 2007,
      when the stay of the mandate back to FERC expires.


**Snoqualmie
      Falls project.**The Snoqualmie Falls project was granted a
      new 40-year operating license by FERC on June 29, 2004.  On July 29,
      2004, the Snoqualmie Tribe filed a request for rehearing of the new license
      and
      a request to stay the FERC license.  On March 1, 2005, FERC issued an
      Order on Rehearing and Dismissing Stay Request.  Appeals to the U.S.
      Court of Appeals by the Snoqualmie Tribe and by PSE have been
      consolidated.  Oral arguments were held on February 8,
      2007.  An adverse ruling from the Court or adverse action by FERC if
      the license issuance is remanded could impact PSE’s future use of this
      generating asset.






**(9)**
            **Related
                Party Transaction**




On
      June
      1, 2006, PSE entered into a revolving credit facility with its parent, Puget
      Energy, in the form of a Demand Promissory Note (Note).  Through the
      Note, PSE may borrow up to $30.0 million from Puget Energy, subject to approval
      by Puget Energy.  Under the terms of the Note, PSE pays interest on
      the outstanding borrowings based on the lowest of the weighted average interest
      rate of (a) PSE’s outstanding commercial paper interest rate; (b) PSE’s senior
      unsecured revolving credit facility; or (c) the interest rate available under
      the receivable securitization facility of PSE Funding, Inc. (PSE Funding),
      a PSE
      subsidiary, which is the London Interbank Offered Rate (LIBOR) plus a marginal
      rate.  At June 30, 2007, the outstanding balance of the Note was $24.5
      million and the interest rate was 5.5%.  The outstanding balance and
      the related interest under the Note are eliminated by Puget Energy upon
      consolidation of PSE’s financial statements.






**(10)**
            **Financings**




On
      June
      1, 2007, PSE redeemed all remaining $37.8 million of its 8.231% Capital Trust
      Preferred Securities (classified as Junior Subordinated Debentures of the
      Corporation Payable to a Subsidiary Trust Holding Mandatorily Redeemable
      Preferred Securities on the balance sheet and referred to herein as
“Securities”).  The purpose of the redemption was to reduce interest
      costs by retiring higher cost debt.  The Securities were redeemed at a
      4.12% premium, or $39.3 million, plus accrued interest on the redemption
      date.


On
      June
      4, 2007, PSE issued $250 million of Junior Subordinated Notes (Notes) due June
      2067.  The Notes bear a fixed rate of interest for the first ten and a
      half years with interest payable semiannually in May and November of each year,
      after which the Notes will bear a variable rate of interest (3-month LIBOR
      plus
      2.35%).  Proceeds were used to repay short-term debt, incurred in part
      to redeem the Securities.  The Notes are structured to be treated as
      debt by the IRS, yet they are considered to have equity-like characteristics
      by
      the credit rating agencies.  In addition, the Notes contain a call
      option feature and are callable in whole or in part by PSE on or after June
      1,
      2017.  They are presented on the balance sheet as a separate line item
      in the redeemable securities and long-term debt.


In
      March
      2007, PSE entered into a five-year, $350 million credit agreement with a group
      of banks.  The agreement supports the Company’s energy hedging
      activities.  Pursuant to the Washington Commission order in PSE’s
      electric and gas general rate cases issued on January 5, 2007, the costs of
      this
      hedging credit facility will be recovered through the PCA and PGA
      mechanisms.  Under the terms of the credit agreement, PSE pays a
      floating interest rate on outstanding borrowings based either on the agent
      bank’s prime rate or on LIBOR plus a marginal rate based on PSE’s long-term
      credit rating at the time of borrowing.  The facility can also be used
      to provide letters of credit.  PSE pays a commitment fee on any unused
      portion of the credit agreement based on long-term credit ratings of
      PSE.


In
      March
      2005, PSE entered into a five-year, $500 million unsecured credit agreement
      with
      a group of banks.  In March 2007, PSE restated this credit agreement
      to extend the expiration date to April 2012.  The agreement is
      primarily used to provide credit support for commercial paper and letters of
      credit.  The terms of this agreement, as restated, are essentially
      identical to those contained in the $350 million facility.






**(11)**
            **Other**




FASB
      Interpretation No. 46R, “Consolidation of Variable Interest Entities” (FIN 46R)
      requires that if a business entity has a controlling financial interest in
      a
      variable interest entity, the financial statements of the variable interest
      entity must be included in the consolidated financial statements of the business
      entity.  The Company has evaluated its power purchase agreements and
      determined that three counterparties during the six months ended June 30, 2007
      may be considered variable interest entities.  Consistent with FIN
      46R, PSE submitted requests for information to those parties; however, the
      parties have refused to submit to PSE the necessary information for PSE to
      determine whether they meet the requirements of a variable interest
      entity.  PSE also determined that it does not have a contractual right
      to such information.  PSE will continue to submit requests for
      information to the counterparties in accordance with FIN 46R.


For
      the
      three power purchase agreements that may be considered variable interest
      entities under FIN 46R, PSE is required to buy all the generation from these
      plants, subject to displacement by PSE, at rates set forth in the power purchase
      agreements.  If at any time the counterparties cannot deliver energy
      to PSE, PSE would have to buy energy in the wholesale market at prices which
      could be higher or lower than the power purchase agreement
      prices.  PSE’s purchased electricity expense for the three months
      ended June 30, 2007 and 2006 for these three entities was $30.6 million and
      $37.1 million, respectively.  PSE’s purchased electricity expense for
      the six months ended June 30, 2007 and 2006 for these three entities was $97.2
      million and $95.9 million, respectively.


One
      of
      these counterparties, Sumas Cogeneration Company, LP (Sumas), delivered a letter
      to PSE on May 7, 2007, stating that it had sold its dedicated gas reserves
      to a
      third party and that it no longer intended to deliver energy to PSE through
      the
      remaining term of the contract, which expires on April 15, 2013.  The
      last energy delivered to PSE by Sumas occurred on March 15, 2007.  PSE
      and Sumas have initiated discussion relating to Sumas’ actions under the
      contract, but PSE cannot yet determine what may result from such
      discussions.


The
      EPA
      required states to produce regulations by November 15, 2006 to bring their
      mercury emissions in line with those mandated by the Clean Air Mercury
      Rule.  The Montana Board of Environmental Review approved the state’s
      regulation to limit mercury emissions from coal-fired plants on October 16,
      2006.  The new rule takes a two-tiered approach to reducing mercury
      emissions, allowing power plants burning lower-quality lignite coal to release
      more emissions than plants burning cleaner sub-bituminous coal, such as
      Colstrip.  The new rule has a more stringent limit than the federal
      rule (0.9 lbs/Trillion British thermal unit (TBtu), instead of the federal
      1.4
      lbs/TBtu), but includes a cap-and-trade provision as well as alternative
      emission limits for plants that have tried to meet the new standards but have
      demonstrated that they cannot.  The Colstrip owners are still
      evaluating the potential impact of the new rule and have not determined whether
      the new rule will be appealed.


In
      November 2006, PSE’s Crystal Mountain Generation Station had an accidental
      release of approximately 18,000 gallons of diesel fuel.  PSE crews and
      consultants responded and worked with applicable state and federal agencies
      to
      control and remove the spilled diesel.  On July 11, 2007, PSE received
      a Notice of Completion for work performed pursuant to the Administrative Order
      for Removal from the EPA.  The Notice stated that PSE had met the
      requirements of the Order and the accompanying scope of work.  Total
      removal costs as of June 30, 2007 were approximately $12.0
      million.  PSE estimates the total remediation cost to be approximately
      $15.0 million.  At June 30, 2007, PSE had an insurance receivable
      recorded in the amount of $12.6 million associated with this fuel
      spill.  PSE has also filed a petition with the Washington Commission
      to defer costs associated with the remediation effort.  The Washington
      Commission has not yet ruled on this matter.


On
      May
      30, 2007, PSE agreed to extend the terms of the existing leases of its Bellevue
      corporate office complex from 10 years to 15 years.  PSE’s lease
      agreement included a one-time right to purchase the office
      complex.  PSE elected to monetize the value of this purchase option
      and negotiated for a cash payment of $18.9 million, net of transaction fees,
      in
      exchange for the removal of the purchase option.  PSE intends to file
      an accounting petition with the Washington Commission seeking deferred
      accounting treatment of the net proceeds and amortization of the net proceeds
      to
      match the near-term contractual lease payment increases.






**(12)**
            **New
                Accounting Pronouncements**




In
      September 2006, FASB issued SFAS No, 157, “Fair Value
      Measurements”.  SFAS No. 157 establishes a common definition for fair
      value to be applied to GAAP, a framework for measuring fair value, and expands
      disclosure about such fair value measurements.  SFAS No. 157 is
      effective for fiscal years beginning after November 15, 2007 which will be
      the
      calendar year beginning January 1, 2008 for the Company.  The Company
      is currently assessing the impact of SFAS No. 157 on its financial
      statements.









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




*The
      following discussion of the Company’s financial condition and results of
      operations contains forward-looking statements that involve risks and
      uncertainties, such as statements of the Company’s plans, objectives,
      expectations and intentions.  Words such as “anticipates,” “believes,”
“estimates,” “expects,” “future,” “intends,” “plans,” “projects,” “predicts,”
“will likely result,” and “will continue” and similar expressions are used to
      identify forward-looking statements.  However, these words are not the
      exclusive means of identifying such statements.  In addition, any
      statements that refer to expectations, projections or other characterizations
      of
      future events or circumstances are forward-looking statements.  The
      Company’s actual results could differ materially from those anticipated in these
      forward-looking statements for many reasons, including the factors described
      below and under the caption “Forward-Looking Statements” at the beginning of
      this report.  You should not place undue reliance on these
      forward-looking statements, which apply only as of the date of this Form
      10-Q.*








**Overview**




Puget
      Energy, Inc. (Puget Energy) is an
      energy services holding company and all of its operations are conducted through
      its subsidiary Puget Sound Energy, Inc. (PSE), a regulated electric and gas
      utility company.  Until May 7, 2006, Puget Energy owned a 90.9%
      interest in InfrastruX Group, Inc. (InfrastruX), a utility construction and
      services company that was sold to an affiliate of Tenaska Power Fund, L.P.
      (Tenaska).  Puget Energy is substantially dependent upon the results
      of PSE since PSE is its most significant asset.  PSE is the largest
      electric and natural gas utility in the state of Washington, primarily engaged
      in the business of electric transmission, distribution, generation and natural
      gas distribution.  Puget Energy’s business strategy is to generate
      stable earnings and cash flow by offering reliable electric and gas service
      in a
      cost effective manner through PSE.





**Puget
      Sound Energy**


PSE
      generates revenues from the sale of
      electric and gas services, mainly to residential and commercial customers within
      Washington State.  PSE’s operating revenues and associated expenses
      are not generated evenly during the year.  Variations in energy usage
      by consumers occur from season to season and from month to month within a
      season, primarily as a result of weather conditions.  PSE normally
      experiences its highest retail energy sales and subsequently higher power costs
      during the winter heating season in the first and fourth quarters of the year
      and its lowest sales in the third quarter of the year.  Varying
      wholesale electric prices and the amount of hydroelectric energy supplies
      available to PSE also make quarter to quarter comparisons
      difficult.


As
      a regulated utility company, PSE is
      subject to Federal Energy Regulatory Commission (FERC) and Washington Utilities
      and Transportation Commission (Washington Commission) regulation which may
      impact a large array of business activities, including limitation of future
      rate
      increases related to retail rates, transmission rates and wholesale power sales;
      directed accounting requirements that could negatively impact earnings;
      licensing of PSE-owned generation facilities; and other FERC and Washington
      Commission directives that may impact PSE’s long-term goals.  In
      addition, PSE is subject to risks inherent to the utility industry as a whole,
      including weather changes affecting purchases and sales of energy; outages
      at
      owned and contracted generation plants where energy is obtained; storms or
      other
      events which can damage gas and electric distribution and transmission lines;
      wholesale market stability over time and significant evolving environmental
      legislation.


PSE’s
      main business objective is to
      provide reliable, safe and cost-effective energy to its customers.  To
      help accomplish this objective, PSE seeks to become more energy efficient and
      environmentally responsible in its energy supply portfolio.  PSE is
      continually exploring new electric-power resource generation and long-term
      purchase power agreements to meet this goal on an ongoing basis.  On
      February 21, 2007, PSE acquired the Goldendale generating facility (Goldendale),
      a 277 megawatt (MW) capacity natural gas generating facility in the state of
      Washington, from the Calpine Corporation through its bankruptcy
      proceeding.  PSE paid $120.0 million for such generating facility plus
      transaction costs totaling $2.4 million.  PSE is seeking recovery of
      related ownership and operating costs in a Power Cost Only Rate Case (PCORC)
      rate case filed on March 20, 2007 with the Washington Commission.  PSE
      filed a settlement agreement in the PCORC rate case on July 5, 2007 which
      approved the Goldendale acquisition.  PSE is awaiting approval from
      the Washington Commission on the matter.


On
      May 31, 2007, PSE filed its 2007
      Integrated Resource Plan (IRP) with the Washington Commission.  The
      plan supports a strategy of diverse acquisitions to cost-effectively meet
      growing demand for energy and reduce carbon emissions.  According to
      the IRP, PSE can secure additional power supplies through heightened
      energy-efficiency efforts and expanded wind-power generation.  PSE
      believes that a cost-effective and environmentally responsible way to
      source generation will likely include additional natural gas-fired
      resources.


In
      August 2006, PSE announced the
      selection of seven projects for further discussion and possible negotiation
      as a
      result of the 2005 request for proposal process.  Of the seven, PSE
      has completed three, which include the purchase of Goldendale, the purchase
      of
      150 MW of winter, on-peak energy under a four-year power purchase agreement
      which commences in 2008, and on July 12, 2007, the execution of a power purchase
      agreement for a portion of the output of Klondike Wind Power III, LLC, a
      wind-powered electric generating facility scheduled to be completed in fall
      2007
      in north-central Oregon.  Of the remaining four, PSE remains in
      discussion on one project and has discontinued discussions on the other
      three.





**Non-GAAP
      Financial Measures**


The
      following discussion includes
      financial information prepared in accordance with generally accepted accounting
      principles (GAAP), as well as two other financial measures, Electric Margin
      and
      Gas Margin, that are considered “non-GAAP financial
      measures.”  Generally, a non-GAAP financial measure is a numerical
      measure of a Company’s financial performance, financial position or cash flows
      that exclude (or include) amounts that are included in (or excluded from) the
      most directly comparable measure calculated and presented in accordance with
      GAAP.  The presentation of Electric Margin and Gas Margin is intended
      to supplement investors’ understanding of the Company’s operating
      performance.  Electric Margin and Gas Margin are used by the Company
      to determine whether the Company is collecting the appropriate amount of energy
      costs from its customers to allow recovery of operating costs.  PSE’s
      Electric Margin and Gas Margin measures may not be comparable to other
      companies’ Electric Margin and Gas Margin measures.  Furthermore,
      these measures are not intended to replace operating income as determined in
      accordance with GAAP as an indicator of operating performance.








**Results
      of Operations**


**Puget
      Energy**


All
      the
      operations of Puget Energy are conducted through PSE and until May 7, 2006,
      InfrastruX.  Net income for the three months ended June 30, 2007 was
      $38.6 million on operating revenues of $661.1 million compared to net income
      of
      $53.5 million on operating revenues from continuing operations of $574.4 million
      for the same period in 2006.  Net income for 2006 includes the results
      of discontinued operations for InfrastruX.


Basic
      and
      diluted earnings per share for the three months ended June 30, 2007 were $0.33
      compared to basic and diluted earnings per share for the three months ended
      June
      30, 2006 of $0.46.  Included in the basic and diluted earnings per
      share for the three months ended June 30, 2006 were earnings per share related
      to discontinued operations of InfrastruX of $0.28.  Electric margin
      increased $32.6 million and gas margin increased $8.1 million for the three
      months ended June 30, 2007, compared to the same period in
      2006.  Offsetting
      the
      increases in margin were an increase of $15.3 million related to utility
      operation and maintenance, a $1.9 million increase in non-utility operation
      and
      maintenance and other expenses, a $1.2 million increase in depreciation
      and amortization, an increase in other expenses of $2.0 million due to the
      accrual of a gas pipeline penalty proposed by Washington Commission Staff,
      a
      $7.9 million increase in interest expense due to higher debt levels, a decrease
      of $1.7 in the unrealized gain on derivative instruments and an increase in
      income taxes of $6.8 million.  Net income for the three months ended
June 30,
      2006
      was positively impacted by income from discontinued operations from InfrastruX
      of $33.0 million (after-tax).  The income from discontinued operations
      for the three months ended June 30, 2006 includes a gain on disposal of $29.8
      million (after-tax) resulting from the sale of InfrastruX.  The
      increase was partially offset by a charitable contribution of $15.0 million
      ($9.75 million after-tax) to the Puget Sound Energy Foundation (Foundation)
      formed on May 12, 2006.


For
      the
      six months ended June 30, 2007, Puget Energy’s net income was $117.7 million on
      operating revenues from continuing operations of $1.7 billion compared to net
      income of $146.1 million on operating revenues from continuing operations of
      $1.5 billion for the same period in 2006.  Basic and diluted earnings
      per share for the six months ended June 30, 2007 were $1.01 and $1.00,
      respectively, compared to basic and diluted earnings per share of $1.26 for
      the
      same period in 2006.


Net
      income for the
      six months ended June 30, 2007 was positively impacted by increased electric
      and
      gas margins of $27.4 million and $18.2 million, respectively, compared to the
      same period in 2006.  Net income was negatively impacted by an
      increase of $26.1 million related to utility operation and maintenance, an
      increase in depreciation and amortization of $7.0 million and a $15.4 million
      increase in interest expense due to increased debt levels.Net
      income for the six months ended June 30, 2006 was positively impacted by income
      from discontinued operations of InfrastruX of $51.9 million
      (after-tax).  The income from discontinued operations for the six
      months ended June 30, 2006 included a gain on disposal of $29.8 million
      (after-tax) resulting from the sale of InfrastruX.  The increase was
      partially offset by the charitable contribution of $15.0 million ($9.75 million
      after-tax) by Puget Energy.





**Puget
      Sound Energy**


PSE’s
      operating revenues and associated expenses are not generated evenly during
      the
      year.  Variations in energy usage by customers occur from season to
      season and from month to month within a season, primarily as a result of weather
      conditions.  PSE normally experiences its highest retail energy sales
      and subsequently higher power costs during the winter heating season in the
      first and fourth quarters of the year, and its lowest sales in the third quarter
      of the year.  Power cost recovery is seasonal, with underrecovery
      normally in the first and fourth quarters and overrecovery in the second and
      third quarters.  Varying wholesale electric prices and the amount of
      hydroelectric energy supplies available to PSE also make quarter to quarter
      comparisons difficult.









**Energy
      Margins**


The
      following table displays the details of electric margin changes for the three
      months ended June 30, 2007 compared to the same period in
      2006.  Electric margin is electric sales to retail and transportation
      customers less pass-through tariff items and revenue-sensitive taxes, and the
      cost of generating and purchasing electric energy sold to customers, including
      transmission costs to bring electric energy to PSE’s service
      territory.





Electric
                Margin(Dollars
                in Millions)
              Three
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeElectric
                operating revenue1
            
            $
            435.3
            
            
            $
            381.0
            
            
            $
            54.3
            
            
            
            14.3
            %Less:
                Other electric operating revenue
            
            
            (15.8
            )
            
            
            (16.4
            )
            
            
            0.6
            
            
            
            3.7Add:
                Other electric revenue-gas supply resale
            
            
            4.7
            
            
            
            6.1
            
            
            
            (1.4
            )
            
            
            (23.0
            )Total
                electric revenue for margin
            
            
            424.2
            
            
            
            370.7
            
            
            
            53.5
            
            
            
            14.4Adjustments
                for amounts included in revenue:Pass-through
                tariff items
            
            
            (9.7
            )
            
            
            (8.4
            )
            
            
            (1.3
            )
            
            
            (15.5
            )Pass-through
                revenue-sensitive taxes
            
            
            (29.0
            )
            
            
            (24.8
            )
            
            
            (4.2
            )
            
            
            (16.9
            )Net
                electric revenue for margin
            
            
            385.5
            
            
            
            337.5
            
            
            
            48.0
            
            
            
            14.2Minus
                power costs:Purchased
                electricity1
            
            
            (172.8
            )
            
            
            (187.9
            )
            
            
            15.1
            
            
            
            8.0Electric
                generation fuel1
            
            
            (23.7
            )
            
            
            (14.3
            )
            
            
            (9.4
            )
            
            
            (65.7
            )Residential
                exchange1
            
            
            17.6
            
            
            
            38.7
            
            
            
            (21.1
            )
            
            
            (54.5
            )Total
                electric power costs
            
            
            (178.9
            )
            
            
            (163.5
            )
            
            
            (15.4
            )
            
            
            (9.4
            )Electric
                margin2
            
            $
            206.6
            
            
            $
            174.0
            
            
            $
            32.6
            
            
            
            18.7
            %


____________________________


1
            *As
                reported on PSE’s Consolidated Statement of
                Income.*2
            *Electric
                margin does not include any allocation for amortization/depreciation
                expense or electric generation operation and maintenance
                expense.*




Electric
      margin increased $32.6 million for the three months ended June 30, 2007 compared
      to the same period in 2006 due to lower purchased electricity costs related
      to
      increased production of low cost hydroelectric power and company-owned
      generating facilities.  The PCORC rate increase of 5.9% effective July
      1, 2006, net of a 1.3% general rate decrease effective January 13, 2007
      increased electric margin by approximately $9.6 million due in part to the
      recovery of the Wild Horse wind project (Wild Horse).  In addition, a
      1.8% increase in retail-sales volumes increased electric margin $2.6
      million.  These increases were partially offset by a decrease in
      electric margin of $3.7 million due to an increase of production tax credits
      (PTCs) provided to customers.  PTCs provided to customers through
      lower rates are recovered through a lower effective tax rate.  Such
      favorable changes in the allocation of power costs between PSE and the customer
      may not be repeated in the future and should not be considered a recurring
      element in operating income for the quarter.


The
      Power
      Cost Adjustment (PCA) mechanism allows PSE to recover power costs according
      to
      certain terms.  The PCA mechanism was revised effective July 1, 2006
      resulting in a shift in PSE’s power cost recovery between quarters and within
      the calendar year.  The increase in the second quarter 2007 electric
      margin reflects $23.5 million related to the PCA mechanism.  PSE
      overrecovered power costs under the PCA mechanism by $36.5 million in the second
      quarter 2007 compared to $13.0 million in the second quarter 2006.









The
      following table displays the details of electric margin changes for the six
      months ended June 30, 2007 compared to the same period in
      2006.  Electric margin is electric sales to retail and transportation
      customers less pass-through tariff items and revenue-sensitive taxes, and the
      cost of generating and purchasing electric energy sold to customers, including
      transmission costs to bring electric energy to PSE’s service
      territory.





Electric
                Margin(Dollars
                in Millions)
              Six
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeElectric
                operating revenue1
            
            $
            962.9
            
            
            $
            848.4
            
            
            $
            114.5
            
            
            
            13.5
            %Less:
                Other electric operating revenue
            
            
            (26.7
            )
            
            
            (30.0
            )
            
            
            3.3
            
            
            
            11.0Add:
                Other electric revenue-gas supply resale
            
            
            6.4
            
            
            
            12.0
            
            
            
            (5.6
            )
            
            
            (46.7
            )Total
                electric revenue for margin
            
            
            942.6
            
            
            
            830.4
            
            
            
            112.2
            
            
            
            13.5Adjustments
                for amounts included in revenue:Pass-through
                tariff items
            
            
            (20.9
            )
            
            
            (17.0
            )
            
            
            (3.9
            )
            
            
            (22.9
            )Pass-through
                revenue-sensitive taxes
            
            
            (65.7
            )
            
            
            (56.7
            )
            
            
            (9.0
            )
            
            
            (15.9
            )Net
                electric revenue for margin
            
            
            856.0
            
            
            
            756.7
            
            
            
            99.3
            
            
            
            13.1Minus
                power costs:Purchased
                electricity1
            
            
            (454.8
            )
            
            
            (440.1
            )
            
            
            (14.7
            )
            
            
            (3.3
            )Electric
                generation fuel1
            
            
            (49.8
            )
            
            
            (35.9
            )
            
            
            (13.9
            )
            
            
            (38.7
            )Residential
                exchange1
            
            
            52.0
            
            
            
            95.3
            
            
            
            (43.3
            )
            
            
            (45.4
            )Total
                electric power costs
            
            
            (452.6
            )
            
            
            (380.7
            )
            
            
            (71.9
            )
            
            
            (18.9
            )Electric
                margin2
            
            $
            403.4
            
            
            $
            376.0
            
            
            $
            27.4
            
            
            
            7.3
            %


____________________________


1
            *As
                reported on PSE’s Consolidated Statement of
                Income.*2
            *Electric
                margin does not include any allocation for amortization/depreciation
                expense or electric generation operation and maintenance
                expense.*




Electric
      margin increased $27.4 million for the six months ended June 30, 2007 compared
      to the same period in 2006 due to lower purchased electricity related to the
      increased production from low-cost hydroelectric generation and company-owned
      generating facilities.  The PCORC rate increase of 5.9% effective July
      1, 2006 net of a 1.3% general rate decrease effective January 13, 2007 increased
      electric margin by $16.9 million due in part to the recovery of Wild
      Horse.  In addition, a 2.4% increase in retail sales volumes increased
      electric margin by $7.7.  These increases were partially offset by a
      decrease in electric margin of $8.5 million due to an increase of PTCs provided
      to customers.  PTCs provided to customers through lower rates are
      recovered through a lower effective tax rate.


The
      PCA
      mechanism allows PSE to recover power costs according to certain
      terms.  The PCA mechanism was revised effective July 1, 2006 resulting
      in a shift in PSE’s power cost recovery between quarters and within the calendar
      year.  The increase in the second quarter 2007 electric margin
      reflects $23.5 million related to the PCA mechanism.  PSE
      overrecovered power costs under the PCA mechanism by $36.5 million in the second
      quarter 2007 compared to $13.0 million in the second quarter 2006.  In
      the first quarter 2007, PSE’s power cost underrecovery was $13.6
      million.  During the first quarter 2006, power cost underrecovery did
      not affect earnings because PSE’s maximum exposure under the PCA mechanism was
      limited by a $40.0 million cap in effect during the
      period.  Therefore, PSE’s net power cost overrecovery for the six
      months ended June 30, 2007 was $22.9 million compared to $13 million for the
      same period in 2006, or $9.9 million related to the PCA
      mechanism.  Such favorable changes in the allocation of power costs
      between PSE and the customer may not be repeated in the future and should not
      be
      considered a recurring element in operating income.


The
      following table displays the details of gas margin changes for the three months
      ended June 30, 2007 compared to the same period in 2006.  Gas margin
      is gas sales to retail and transportation customers less pass-through tariff
      items and revenue-sensitive taxes, and the cost of gas purchased, including
      gas
      transportation costs to bring gas to PSE’s service territory.




Gas
                  Margin(Dollars
                  in Millions)
                Three
                  Months Ended June 30,
              
              2007
              
              
              2006
              
              
              Change
              
              
              Percent
                ChangeGas
                  operating revenue1
              
              $
              225.2
              
              
              $
              192.5
              
              
              $
              32.7
              
              
              
              17.0
              %Less:
                  Other gas operating revenue
              
              
              (4.4
              )
              
              
              (4.3
              )
              
              
              (0.1
              )
              
              
              (2.3
              )Total
                  gas revenue for margin
              
              
              220.8
              
              
              
              188.2
              
              
              
              32.6
              
              
              
              17.3Adjustments
                  for amounts included in revenue:Pass-through
                  tariff items
              
              
              (1.7
              )
              
              
              (1.2
              )
              
              
              (0.5
              )
              
              
              (41.7
              )Pass-through
                  revenue-sensitive taxes
              
              
              (19.1
              )
              
              
              (15.8
              )
              
              
              (3.3
              )
              
              
              (20.9
              )Net
                  gas
                  revenue for margin
              
              
              200.0
              
              
              
              171.2
              
              
              
              28.8
              
              
              
              16.8Less:
                  Purchased gas costs1
              
              
              (139.1
              )
              
              
              (118.4
              )
              
              
              (20.7
              )
              
              
              (17.5
              )Gas
                  margin2
              
              $
              60.9
              
              
              $
              52.8
              
              
              $
              8.1
              
              
              
              15.3
              %


____________________


1
            *As
                reported on PSE’s Consolidated Statement of
                Income.*2
            *Gas
                margin does not include any allocation for amortization/depreciation
                expense or electric generation operations and maintenance
                expense.*





Gas
      margin increased $8.1 million for the three months ended June 30, 2007 compared
      to the same period in 2006 primarily due to a 2.8% general rate increase
      effective January 13, 2007 which increased gas margin $5.4 million, a 3.1%
      increase in gas therm volume sales which contributed $1.7 million to gas margin
      and change in customer usage and pricing which increased gas margin by $1.0
      million.


The
      following table displays the details of gas margin changes for the six months
      ended June 30, 2007 compared to the same period in 2006.  Gas margin
      is gas sales to retail and transportation customers less pass-through tariff
      items and revenue-sensitive taxes, and the cost of gas purchased, including
      gas
      transportation costs to bring gas to PSE’s service territory.





Gas
                Margin(Dollars
                in Millions)
              Six
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeGas
                operating revenue1
            
            $
            692.2
            
            
            $
            599.0
            
            
            $
            93.2
            
            
            
            15.6
            %Less:
                Other gas operating revenue
            
            
            (9.2
            )
            
            
            (8.6
            )
            
            
            (0.6
            )
            
            
            (7.0
            )Total
                gas revenue for margin
            
            
            683.0
            
            
            
            590.4
            
            
            
            92.6
            
            
            
            15.7Adjustments
                for amounts included in revenue:Pass-through
                tariff items
            
            
            (4.9
            )
            
            
            (3.8
            )
            
            
            (1.1
            )
            
            
            (28.9
            )Pass-through
                revenue-sensitive taxes
            
            
            (57.1
            )
            
            
            (48.5
            )
            
            
            (8.6
            )
            
            
            (17.7
            )Net
                gas
                revenue for margin
            
            
            621.0
            
            
            
            538.1
            
            
            
            82.9
            
            
            
            15.4Less:
                Purchased gas costs1
            
            
            (449.7
            )
            
            
            (385.0
            )
            
            
            (64.7
            )
            
            
            (16.8
            )Gas
                margin2
            
            $
            171.3
            
            
            $
            153.1
            
            
            $
            18.2
            
            
            
            11.9
            %




_______________________


1
            *As
                reported on PSE’s Consolidated Statement of
                Income.*2
            *Gas
                margin does not include any allocation for amortization/depreciation
                expense or electric generation operations and maintenance
                expense.*





Gas
      margin increased $18.2 million for the six months ended June 30, 2007 compared
      to the same period in 2006 primarily due to a 2.8% general rate increase
      effective January 13, 2007 which increased gas margin $12.6 million and a 3.6%
      gas therm volume sales increase which increased gas margin $5.5
      million.





**Electric
      Operating Revenues**


The
      table
      below sets forth changes in electric operating revenues for PSE for the three
      months ended June 30, 2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Three
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeElectric
                operating revenues:Residential
                sales
            
            $
            199.4
            
            
            $
            167.1
            
            
            $
            32.3
            
            
            
            19.3
            %Commercial
                sales
            
            
            173.5
            
            
            
            159.5
            
            
            
            14.0
            
            
            
            8.8Industrial
                sales
            
            
            25.1
            
            
            
            24.2
            
            
            
            0.9
            
            
            
            3.7Other
                retail sales, including unbilled revenue
            
            
            (7.9
            )
            
            
            (5.6
            )
            
            
            (2.3
            )
            
            
            (41.1
            )Total
                retail sales
            
            
            390.1
            
            
            
            345.2
            
            
            
            44.9
            
            
            
            13.0Transportation
                sales
            
            
            2.4
            
            
            
            2.7
            
            
            
            (0.3
            )
            
            
            (11.1
            )Sales
                to other utilities and marketers
            
            
            27.1
            
            
            
            16.8
            
            
            
            10.3
            
            
            
            61.3Other
            
            
            15.7
            
            
            
            16.3
            
            
            
            (0.6
            )
            
            
            (3.7
            )Total
                electric operating revenues
            
            $
            435.3
            
            
            $
            381.0
            
            
            $
            54.3
            
            
            
            14.3
            %





Electric
      retail sales increased $44.9 million for the three months ended June 30, 2007
      compared to the same period in 2006 due primarily to rate increases related
      to
      the PCORC rate increase of July 1, 2006 and increased retail sales volumes
      offset by the electric general rate decrease of January 13, 2007.  The
      electric tariff changes provided $18.4 million to electric operating revenues
      for the three months ended June 30, 2007 compared to the same period in
      2006.  Retail electricity usage increased 86,835 megawatt hours (MWh)
      or 1.8% for the three months ended June 30, 2007 compared to the same period
      in
      2006, which resulted in an increase of approximately $6.4 million in electric
      operating revenue.  The increase in electricity usage was primarily
      related to 2.4% higher average number of customers served in 2007 compared
      to
      2006.  During the three month period ended June 30, 2007, the benefits
      of the Residential and Farm Energy Exchange Benefit credited to customers
      reduced electric operating revenues by $18.4 million compared to $40.5 million
      for the same period in 2006.  This credit also reduced power costs by
      a corresponding amount with no impact on earnings.  The Residential
      and Farm Energy Exchange Benefit was suspended to residential and small farm
      customers effective June 7, 2007 due to adverse rulings from the Ninth Circuit
      Court of Appeals (Ninth Circuit) which states that Bonneville Power
      Administration (BPA) actions in entering into residential exchange settlement
      agreements with investor owned utilities were not in accordance with the
      law.


Sales
      to
      other utilities and marketers increased $10.3 million for the three months
      ended
      June 30, 2007 compared to the same period in 2006 due to an increase in
      wholesale market prices in 2007 compared to 2006 partially offset by a decrease
      in sales volume of 147,774 MWh or 18.8%.







The
      table
      below sets forth changes in electric operating revenues for PSE for the six
      months ended June 30, 2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Six
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeElectric
                operating revenues:Residential
                sales
            
            $
            491.4
            
            
            $
            409.1
            
            
            $
            82.3
            
            
            
            20.1
            %Commercial
                sales
            
            
            373.0
            
            
            
            342.2
            
            
            
            30.8
            
            
            
            9.0Industrial
                sales
            
            
            52.3
            
            
            
            50.5
            
            
            
            1.8
            
            
            
            3.6Other
                retail sales, including unbilled revenue
            
            
            (31.6
            )
            
            
            (21.4
            )
            
            
            (10.2
            )
            
            
            (47.7
            )Total
                retail sales
            
            
            885.1
            
            
            
            780.4
            
            
            
            104.7
            
            
            
            13.4Transportation
                sales
            
            
            4.8
            
            
            
            5.4
            
            
            
            (0.6
            )
            
            
            (11.1
            )Sales
                to other utilities and marketers
            
            
            46.3
            
            
            
            32.6
            
            
            
            13.7
            
            
            
            42.0Other
            
            
            26.7
            
            
            
            30.0
            
            
            
            (3.3
            )
            
            
            (11.0
            )Total
                electric operating revenues
            
            $
            962.9
            
            
            $
            848.4
            
            
            $
            114.5
            
            
            
            13.5
            %





Electric
      retail sales increased $104.7 million for the six months ended June 30, 2007
      compared to the same period in 2006 due primarily to rate increases related
      to
      the PCORC rate increase of July 1, 2006 offset by the electric general rate
      decrease of January 13, 2007 and increased retail sales volumes.  The
      electric tariff changes provided $36.7 million to electric operating revenues
      for the six months ended June 30, 2007 compared to the same period in
      2006.  Retail electricity usage increased 258,637 MWh or 2.4% for the
      six months ended June 30, 2007 compared to the same period in 2006, which
      resulted in an increase of approximately $19.1 million in electric operating
      revenue.  The increase in electricity usage was related to 2.3% higher
      average number of customers served in 2007 compared to 2006.  During
      the six month period ended June 30, 2007, the benefits of the Residential and
      Farm Energy Exchange Benefit credited to customers reduced electric operating
      revenues by $54.5 million compared to $99.8 million for the same period in
      2006.  This credit also reduced power costs by a corresponding amount
      with no impact on earnings.


Sales
      to
      other utilities and marketers increased $13.7 million for the six months ended
      June 30, 2007 compared to the same period in 2006 due to an increase in
      wholesale market prices in 2007 compared to 2006 partially offset by a decrease
      in sales volume.


Other
      electric revenues decreased $3.3 million for the six months ended June 30,
      2007
      compared to the same period in 2006, primarily due to gains from gas financial
      hedges on natural gas sold to third parties in 2006 that did not recur in
      2007.


The
      following electric rate changes
      were approved by the Washington Commission in 2007 and 2006:





Type
                of Rate
              Adjustment
            Effective
                Date
            Average
              Percentage
                Increase
              in
                Rates
            Annual
                Increase
              in
                Revenues
              (Dollars
                in Millions)Power
                Cost Only Rate Case
            July
                1, 2006
            5.9%
            $
                45.31Electric
              General Rate Case
            January
                13, 2007
            (1.3)%
            (22.8) _______________________


1
            *The
                rate increase is for the period July 1, 2006 through December 31,
                2006.  The annualized basis of the PCORC rate increase is $96.1
                million.*





**Gas
      Operating Revenues**


The
      table
      below sets forth changes in gas operating revenues for PSE for the three months
      ended June 30, 2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Three
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeGas
                operating revenues:Residential
                sales
            
            $
            134.9
            
            
            $
            110.1
            
            
            $
            24.8
            
            
            
            22.5
            %Commercial
                sales
            
            
            72.4
            
            
            
            62.4
            
            
            
            10.0
            
            
            
            16.0Industrial
                sales
            
            
            10.3
            
            
            
            12.6
            
            
            
            (2.3
            )
            
            
            (18.3
            )Total
                retail sales
            
            
            217.6
            
            
            
            185.1
            
            
            
            32.5
            
            
            
            17.6Transportation
                sales
            
            
            3.2
            
            
            
            3.1
            
            
            
            0.1
            
            
            
            3.2Other
            
            
            4.4
            
            
            
            4.3
            
            
            
            0.1
            
            
            
            2.3Total
                gas operating revenues
            
            $
            225.2
            
            
            $
            192.5
            
            
            $
            32.7
            
            
            
            17.0
            %





Gas
      retail sales increased $32.5 million for the three months ended June 30, 2007
      compared to the same period in 2006 due to higher Purchased Gas Adjustment
      (PGA)
      mechanism rates, the approval of a 2.8% general gas rate increase effective
      January 13, 2007 and increased customer gas usage.  The Washington
      Commission approved a PGA mechanism rate increase effective September 27, 2006
      that increased rates 10.2% annually.  The PGA mechanism passes through
      to customers increases or decreases in the gas supply portion of the natural
      gas
      service rates based upon changes in the price of natural gas purchased from
      producers and wholesale marketers or changes in gas pipeline transportation
      costs.  PSE’s gas margin and net income are not affected by changes
      under the PGA mechanism.  For the three months ended June 30, 2007,
      the effects of the PGA mechanism rate increases provided an increase of $16.3
      million in gas operating revenues.  The gas general rate case provided
      an additional $5.4 million in gas revenues for the three months ended June
      30,
      2007 as compared to the same period in 2006.  The remaining increase
      in gas retail revenues was primarily due to higher gas sales of 6.2 million
      therms or $5.8 million for the three months ended June 30, 2007 compared to
      the
      same period in 2006, which was related to a 2.6% increase in
      customers.


The
      table
      below sets forth changes in gas operating revenues for PSE for the six months
      ended June 30, 2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Six
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            Change
            
            
            Percent
              ChangeGas
                operating revenues:Residential
                sales
            
            $
            435.8
            
            
            $
            375.1
            
            
            $
            60.7
            
            
            
            16.2
            %Commercial
                sales
            
            
            207.9
            
            
            
            179.2
            
            
            
            28.7
            
            
            
            16.0Industrial
                sales
            
            
            32.5
            
            
            
            29.4
            
            
            
            3.1
            
            
            
            10.5Total
                retail sales
            
            
            676.2
            
            
            
            583.7
            
            
            
            92.5
            
            
            
            15.8Transportation
                sales
            
            
            6.8
            
            
            
            6.7
            
            
            
            0.1
            
            
            
            1.5Other
            
            
            9.2
            
            
            
            8.6
            
            
            
            0.6
            
            
            
            7.0Total
                gas operating revenues
            
            $
            692.2
            
            
            $
            599.0
            
            
            $
            93.2
            
            
            
            15.6
            %





Gas
      retail sales increased $92.5 million for the six months ended June 30, 2007
      compared to the same period in 2006 due to higher PGA mechanism rates, the
      approval of a 2.8% general gas rate increase effective January 13, 2007 and
      increased customer gas usage.  The Washington Commission approved a
      PGA mechanism rate increase effective September 27, 2006 that increased rates
      10.2% annually.  The PGA mechanism passes through to customers
      increases or decreases in the gas supply portion of the natural gas service
      rates based upon changes in the price of natural gas purchased from producers
      and wholesale marketers or changes in gas pipeline transportation
      costs.  PSE’s gas margin and net income are not affected by changes
      under the PGA mechanism.  For the six months ended June 30, 2007, the
      effects of the PGA mechanism rate increases provided an increase of $52.9
      million in gas operating revenues.  The gas general rate case provided
      an additional $12.6 million in gas revenues for the six months ended June 30,
      2007 as compared to the same period in 2006.  The remaining increase
      in gas retail revenues was primarily due to higher gas sales of 21.4 million
      therms or $21.4 million for the six months ended June 30, 2007 compared to
      the
      same period in 2006, which was related to a 2.7% increase in
      customers.


The
      following gas rate adjustments were approved by the Washington Commission in
      2007 and 2006:





Type
                of Rate
              Adjustment
            Effective
                Date
            Average
              Percentage
                Increase
              in
                Rates
            Annual
                Increase
              in
                Revenues
              (Dollars
                in Millions)Purchased
                Gas Adjustment
            September
                27, 2006
            10.2%
            $   95.1Gas
                General Rate Case
            January
                13, 2007
            2.8%
            29.5





**Non-Utility
      Operating Revenues**


The
      table
      below sets forth changes in non-utility operating revenues for PSE for the
      six
      months ended June 30, 2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Six
                Months Ended June 30,
            2007
            2006
            Change
            Percent
              ChangeNon-Utility
                Operating Revenue
            $  10.0
            
            $   5.1
            
            $    4.9
            
            96.1
            %





Non-utility
      operating revenues
      increased $4.9 million for the six months ended June 30, 2007 compared to the
      same period in 2006 primarily due to additional property sales during 2007
      by
      PSE’s real estate subsidiary.




**Operating
      Expenses**


The
      table
      below sets forth significant changes in operating expenses for PSE and its
      subsidiaries for the three months ended June 30, 2007 compared to the same
      period in 2006.





(Dollars
                in Millions)
              Three
                Months Ended June 30,
            2007
            2006
            Change
            Percent
              ChangePurchased
                electricity
            $  172.8
            
            $  187.9
            
            $  (15.1
            )
            (8.0
            )%Electric
                generation fuel
            23.7
            
            14.3
            
            9.4
            
            65.7Residential
                exchange credit
            (17.6
            )
            (38.7
            )
            21.1
            
            54.5Purchased
                gas
            139.1
            
            118.4
            
            20.7
            
            17.5Unrealized
                (gain) loss on derivative instruments
            1.5
            
            (0.2
            )
            1.7
            
            *Utility
                operations and maintenance
            98.9
            
            83.6
            
            15.3
            
            18.3Non-utility
                expense and other
            2.6
            
            0.5
            
            2.1
            
            *Depreciation
                and amortization
            65.7
            
            64.5
            
            1.2
            
            1.9Conservation
                amortization
            8.7
            
            7.5
            
            1.2
            
            16.0Taxes
                other than income taxes
            63.3
            
            54.2
            
            9.1
            
            16.8


_________________


*
            *Percent
                change not applicable or
                meaningful*




The
      table
      below sets forth significant changes in operating expenses for PSE and its
      subsidiaries for the six months ended June 30, 2007 compared to the same period
      in 2006.





(Dollars
                in Millions)
              Six
                Months Ended June 30,
            2007
            2006
            Change
            Percent
              ChangePurchased
                electricity
            $  454.8
            
            $  440.1
            
            $   14.7
            
            3.3
            %Electric
                generation fuel
            49.8
            
            35.9
            
            13.9
            
            38.7Residential
                exchange credit
            (52.0
            )
            (95.3
            )
            43.3
            
            45.4Purchased
                gas
            449.7
            
            385.0
            
            64.7
            
            16.8Unrealized
                (gain) loss on derivative instruments
            (4.3
            )
            0.8
            
            (5.1
            )
            *Utility
                operations and maintenance
            197.1
            
            171.0
            
            26.1
            
            15.3Non-utility
                expense and other
            4.6
            
            0.7
            
            3.9
            
            *Depreciation
                and amortization
            135.4
            
            128.4
            
            7.0
            
            5.5Conservation
                amortization
            19.1
            
            15.5
            
            3.6
            
            23.2Taxes
                other than income taxes
            150.4
            
            133.9
            
            16.5
            
            12.3


_________________


*
            *Percent
                change not applicable or
                meaningful*





**Purchased
      electricity** expenses decreased $15.1 million and increased $­14.7
      million for the three and six months ended June 30, 2007, respectively, compared
      to the same periods in 2006.  The decrease for the three months ended
      June 30, 2007 was primarily the result of increased production from low cost
      hydroelectric power and company-owned renewable and thermal generating
      facilities.  PSE’s hydroelectric power increased 4.0% for the three
      months ended June 30, 2007 as compared to the same period in
      2006.  Total purchased power for the three months ended June 30, 2007
      decreased 523,053 MWh or 11.5% compared to the same period in
      2006.  The PCA mechanism reflected an overrecovery of allowable power
      costs of $23.5 million, $16.9 million of which results from a change in the
      PCA
      mechanism sharing bands as compared to the prior period when PSE was subject
      to
      the $40.0 million cumulative cap on power cost variations.  The change
      in the PCA mechanism sharing bands at January 2007 resulted in a significant
      decrease in overrecovery benefits provided to customers in 2007 as compared
      to
      2006.  Such favorable changes in the allocation of power costs between
      PSE and the customer may not be repeated in the future and should not be
      considered a recurring element in operating income.  PSE is allowed to
      recover power cost through the PCA mechanism on a shared basis with customers
      if
      actual costs are outside the normalized level established in
      rates.  The increase for the six months ended June 30, 2007 was
      primarily the result of higher wholesale market prices offset by a decrease
      in
      purchased power of 386,112 MWh or 4.1%, resulting in an increase of $16.3
      million.  The decrease in purchased power is related to increased
      production from hydroelectric power and company-owned renewable and thermal
      generating facilities.  Increases in transmission and other expenses
      contributed $7.9 million due in part to increased kilowatt hour (kWh) sales
      to
      customers.  The PCA mechanism reflected an overrecovery of allowable
      power costs of $9.9 million for the six months ended June 30, 2007.


The
      Runoff Forecast published by the
      National Weather Service Northwest River Forecast Center indicated that the
      total forecasted runoff above Grand Coulee Reservoir for the period January
      through July 2007 is 102% of normal.  PSE’s hydroelectric production
      and related power costs in 2006 for the January to July period were positively
      impacted by above-normal precipitation and snow pack in the Pacific Northwest
      region, which resulted in the runoff above Grand Coulee Reservoir to be 106%
      of
      normal which occurred in the first quarter of 2006.


To
      meet customer demand, PSE
      economically dispatches resources in its power supply portfolio such as
      fossil-fuel generation, owned and contracted hydroelectric capacity and energy
      and long-term contracted power.  However, depending principally upon
      availability of hydroelectric energy, plant availability, fuel prices and/or
      changing load as a result of weather, PSE may sell surplus power or purchase
      deficit power in the wholesale market.  PSE manages its regulated
      power portfolio through short-term and intermediate-term off-system physical
      purchases and sales and through other risk management techniques.


**Electric
      generation fuel** expense increased $9.4 million and $13.9 million for
      the three and six months ended June 30, 2007, respectively, compared to the
      same
      periods in 2006.  The increase for the three months ended June 30,
      2007 was the result of an increase of $6.3 million primarily due to the
      operations of Goldendale which was acquired on February 21, 2007 and an increase
      in electric generation and the cost of coal at Colstrip generating facilities
      of
      $3.1 million compared to the same period in 2006 due to higher volumes of
      electricity generated at Colstrip combined with an increase in the cost of
      coal.  The increase for the six months ended June 30, 2007 was the
      result of an increase of $8.6 million primarily due to the operations of
      Goldendale and an increase in electric generation and the cost of coal at
      Colstrip generating facilities of $5.3 million due to higher volumes of
      electricity generated at Colstrip combined with an increase in the cost of
      coal
      in 2007 compared to 2006.


**Residential
      exchange credits** associated with the Residential Purchase and Sale
      Agreement with BPA decreased $21.1 million and $43.3 million for the three
      and
      six months ended June 30, 2007, respectively, compared to the same periods
      in
      2006 as a result of lower residential and small farm customer electric credit
      in
      rates effective October 1, 2006.  The residential exchange credit is a
      pass-through tariff item with a corresponding credit in electric operating
      revenue; thus, it has no impact on electric margin or net income.  The
      residential exchange credit provided to residential and small farm customers
      was
      suspended effective June 7, 2007.


**Purchased
      gas** expenses increased $20.7 million and $64.7 million for the three
      and six months ended June 30, 2007, respectively, compared to the same periods
      in 2006 primarily due to an increase in PGA rates as approved by the Washington
      Commission and higher customer therm sales.  The PGA mechanism allows
      PSE to recover expected gas costs, and defer, as a receivable or liability,
      any
      gas costs that exceed or fall short of this expected gas cost amount in PGA
      mechanism rates, including accrued interest.  The PGA mechanism
      payable balance at June 30, 2007 was $41.6 million compared to a receivable
      balance at December 31, 2006 of $39.8 million.  PSE is authorized by
      the Washington Commission to accrue carrying costs on PGA receivable and payable
      balances.  A receivable balance in the PGA mechanism reflects an
      underrecovery of market gas cost through rates.  A payable balance
      reflects overrecovery of market gas cost through rates.


**Unrealized
      gain on derivative instruments**decreased $1.7 million and increased
      $5.1 million for****the three and six months ended June 30,
      2007, respectively, compared to the same periods in 2006.  The
      decrease for the three months ended June 30, 2007 was primarily the result
      of
      the reversal of the unrealized gain related to a physical gas supply contract
      for PSE’s electric generating facilities.  The mark-to-market gain
      that was recorded is the difference between the forward market price of natural
      gas and the contract price for natural gas based on volumes
      purchased.  As the contract nears termination in June 2008, the gain
      will continue to reverse due to settlement of the contract on a monthly basis
      and the mark-to-market value will decrease as long as the price for natural
      gas
      is at or near the current forward market prices of natural gas.  The
      increase for the six months ended June 30, 2007 is primarily the result of
      the
      unrealized gain of $5.8 million related to this physical gas supply contract
      in
      the first quarter 2007 offset by a decrease in the mark-to-market valuation
      of
      $1.0 million during the second quarter 2007 and the settlement of a portion
      of
      the gain of $0.5 million recorded in the second quarter 2007.


**Utility
      operations and maintenance**expense increased $15.3 million and $26.1
      million for the three and six months ended June 30, 2007, respectively, compared
      to the same periods in 2006.  The increases were the result of higher
      operating and maintenance costs of $7.5 million and $11.1 million at PSE’s
      generating facilities, due to the addition of Wild Horse which began operations
      on December 22, 2006, Goldendale, which was acquired during February 2007,
      Colstrip and higher expenses related to operating and maintaining PSE’s energy
      delivery system.  Wild Horse operations and maintenance expense is
      fully recovered in rates.  The balance of the increases were the
      result of higher expenses of operating and maintaining PSE’s energy delivery
      systems, support services and increased customer service costs.


**Non-utility
      expense and other** increased $2.1 million and $3.9 million for the three
      and six months ended June 30, 2007, respectively, compared to the same periods
      in 2006 primarily due to an increase in PSE’s long-term share-based incentive
      plan costs.


**Depreciation
      and amortization** expense increased $1.2 million and $7.0 million for
      the three and six months ended June 30, 2007, respectively, compared to the
      same
      periods in 2006.  These increases include the benefit of the deferral
      of Goldendale ownership and operating costs of $5.9 million and $6.9 million
      for
      the three and six months ended June 30, 2007, respectively, which, had it not
      been included, would have resulted in an increase to depreciation and
      amortization expense of $7.1 million and $13.9 million for the three and six
      months ended June 30, 2007, respectively, as compared to the same periods in
      2006.  The increase in depreciation and amortization excluding the
      Goldendale deferral was due to placing Wild Horse into service on December
      22,
      2006, placing Goldendale into service on February 22, 2007 and from other
      depreciable property placed into service during 2007.  PSE anticipates
      the Goldendale deferral of ownership and operating costs to cease effective
      September 1, 2007, pursuant to the terms of the PCORC settlement filed July
      5,
      2007.


**Conservation
      amortization** increased $1.2 million and $3.6 million for the three and
      six months ended June 30, 2007, respectively, compared to the same periods
      in
      2006 due to higher authorized recovery of electric conservation
      expenditures.  Conservation amortization is a pass-through tariff item
      with no impact on earnings.


**Taxes
      other than income taxes** increased $9.1 million and $16.5 million for
      the three and six months ended June 30, 2007, respectively, compared to the
      same
      periods in 2006 due primarily to increases in revenue-based Washington State
      excise tax and municipal tax due to increased operating
      revenues.  Revenue sensitive Washington State excise and municipal
      taxes have no impact on earnings.  Revenue sensitive taxes are
      presented in the income statement on a gross basis.





**Other
      Income, Expense, Interest Charges and Income Tax Expense**


The
      table
      below sets forth significant changes in other income, interest charges and
      income taxes for PSE and its subsidiaries for the three months ended June 30,
      2007 compared to the same period in 2006.





(Dollars
                in Millions)
              Three
                Months Ended June 30,
            2007
            
            2006
            
            Change
            
            Percent
              ChangeOther
                expense
            $
            (2.8
            )
            $
            (0.8
            )
            $
            (2.0
            )
            
            *Interest
                charge
            
            (49.6
            )
            
            (41.7
            )
            
            (7.9
            )
            
            (18.9
            )%Income
                tax expense
            
            17.7
            
            
            16.2
            
            
            1.5
            
            
            (9.3
            )


_________________


*
            *Percent
                change not applicable or
                meaningful*





**Other
      expenses**increased $2.0 million for the three months ended June 30,
      2007 compared to the same period in 2006 primarily due to the accrual of a
      recordkeeping violation penalty that could be assessed by the Washington
      Commission, which is not tax-deductible.


**Interest
      expense**increased $7.9 million due primarily to an increase in
      outstanding debt as a result of additional borrowing related to Wild Horse,
      Goldendale, pre-payment associated with the Chelan PUD long-term purchase power
      agreement and system restoration expense incurred as a result of a severe
      December 2006 wind storm.


**Income
      tax expense**increased $1.5 million for the three months ended June 30,
      2007 compared to the same period in 2006 as a result of higher taxable income
      offset by higher tax credits associated with the production of wind-powered
      energy.  The PTCs for the three months ended June 30, 2007 were $4.7
      million compared to $0.9 million for the same period in 2006.  These
      additional credits were made available due to the addition of Wild Horse, which
      was placed in service in December 2006.


The
      table
      below sets forth significant changes in other income, interest charges and
      income taxes for PSE and its subsidiaries for the six months ended June 30,
      2007
      compared to the same period in 2006.




(Dollars
                in Millions)
              Six
                Months Ended June 30,
            2007
            
            2006
            
            Change
            
            Percent
              ChangeOther
                income
            $
            11.0
            
            $
            9.8
            
            $
            1.2
            
            
            12.2
            %Other
                expense
            
            (3.9
            )
            
            (2.3
            )
            
            (1.6
            )
            
            (69.6
            )Interest
                charge
            
            (98.8
            )
            
            (83.4
            )
            
            (15.4
            )
            
            (18.5
            )Income
                tax expense
            
            51.7
            
            
            56.8
            
            
            (5.1
            )
            
            (9.0
            )




**Other
      income**increased $1.2 million for the six months ended June 30, 2007
      compared to the same period in 2006 primarily due to an increase on the return
      of the Chelan PUD regulatory asset offset by a decrease in the return of
      regulatory assets that are currently being recovered in electric and gas
      rates.


**Other
      expenses**increased $1.6 million for the six months ended June 30, 2007
      compared to the same period in 2006 primarily due to the accrual in the second
      quarter 2007 of a recordkeeping violation penalty that could be assessed by
      the
      Washington Commission.


**Interest
      expense**increased $15.4 million due primarily to an increase in
      outstanding debt as a result of additional borrowing related to Wild Horse,
      Goldendale, and other capital related electric and gas infrastructure projects,
      along with pre-payment associated with the Chelan PUD long-term purchase power
      agreement and system restoration expense incurred as a result of a severe
      December 2006 wind storm.


**Income
      tax expense**decreased $5.1 million for the six months ended June 30,
      2007 compared to the same period in 2006 due primarily to higher tax credits
      associated with the production of wind-powered energy.  The PTCs for
      the six months ended June 30, 2007 were $12.2 million compared to $4.6 million
      for the same period in 2006.  These additional credits were made
      available due to the addition of Wild Horse, which was placed in service in
      December 2006.




**Capital
      Requirements**


**Contractual
      Obligations and Commercial Commitments**


**Puget
      Energy.**  The following are Puget Energy’s aggregate
      consolidated (including PSE) contractual obligations and commercial commitments
      as of June 30, 2007:




Puget
                  Energy
              Payments
                  Due Per PeriodContractual
                  Obligations
                (Dollars
                  in Millions)
              Total
              2007
              2008-
                2009
              2010-
                2011
              2012
                  &
                ThereafterLong-term
                  debt including interest
              $
              6,639.5
              $
              204.3
              $
              689.6
              $
              775.8
              $
              4,969.8Short-term
                  debt including interest
              
              289.9
              
              289.9
              
              --
              
              --
              
              --Mandatorily
                  redeemable preferred stock
              
              1.9
              
              --
              
              --
              
              --
              
              1.9Service
                  contract obligations
              
              141.0
              
              16.4
              
              69.1
              
              43.1
              
              12.4Non-cancelable
                  operating leases
              
              171.4
              
              7.9
              
              53.1
              
              24.8
              
              85.6Fredonia
                  combustion turbines lease 1
              
              62.3
              
              3.0
              
              12.5
              
              46.8
              
              --Energy
                  purchase obligations
              
              6,509.9
              
              610.9
              
              2,035.2
              
              1,238.9
              
              2,624.9Contract initiation payment/collateral requirement
              
              18.5
              
              --
              
              --
              
              18.5
              
              --Financial
                  hedge obligations
              
              5.3
              
              8.7
              
              (3.4
              )
              --
              
              --Purchase
                  obligations
              
              25.5
              
              2.8
              
              22.7
              
              --
              
              --Non-qualified pension and other benefits funding
              
              45.5
              
              4.9
              
              7.4
              
              9.1
              
              24.1Interest liability on uncertain tax positions
              
              7.2
              
              --
              
              7.2
              
              --
              
              --Total
                  contractual cash obligations
              $
              13,917.9
              $
              1,148.8
              $
              2,893.4
              $
              2,157.0
              $
              7,718.7







Puget
                Energy
            Amount
                of Commitment
              Expiration
                Per PeriodCommercial
                Commitments
              (Dollars
                in Millions)
            Total
            2007
            2008-
              2009
            2010-
              2011
            2012
                &
              ThereafterIndemnity
                agreements 2
            $
            8.9
            $
            --
            $
            3.9
            $
            --
            $
            5.0Credit
                agreement - available 3
            
            601.8
            
            --
            
            --
            
            --
            
            601.8Receivable
                securitization facility 4
            
            150.0
            
            --
            
            --
            
            150.0
            
            --Energy
                operations letter of credit
            
            8.3
            
            8.3
            
            --
            
            --
            
            --Total
                commercial commitments
            $
            769.0
            $
            8.3
            $
            3.9
            $
            150.0
            $
            606.8


_________________


1
            *See
                “Fredonia 3 and 4 Operating Lease” under “Off-Balance Sheet Arrangements”
                below.*2
            *Under
                the InfrastruX sale agreement, Puget Energy is obligated for certain
                representations and warranties concerning InfrastruX’s business and
                anti-trust inquiries.  The fair value of the business warranty
                is $3.9 million at June 30, 2007 and the obligation expires on May
                7,
                2008. ****Puget Energy also agreed to indemnify the
                buyer relating to an inquiry of an InfrastruX subsidiary and the
                fair
                value of the warranty was $5.0 million at June 30,
                2007.*3
            *At
                June 30, 2007, PSE had available a $500.0 million and a $350.0 million
                unsecured credit agreement expiring in April 2012.  The credit
                agreements provide credit support for letters of credit and commercial
                paper.  At June 30, 2007, PSE had $8.3 million for an
                outstanding letter of credit and $239.9 million commercial paper
                outstanding, effectively reducing the available borrowing capacity
                to
                $601.8 million.*4
            *At
                June 30, 2007, PSE had available a $200.0 million receivables
                securitization facility that expires in December 2010. $50.0 million
                was
                outstanding under the receivables securitization facility at June
                30, 2007
                thus leaving $150.0 million available.  The facility allows
                receivables to be used as collateral to secure short-term loans,
                not
                exceeding the lesser of $200.0 million or the borrowing base of eligible
                receivables, which fluctuate with the seasonality of energy sales
                to
                customers.  See “Receivables Securitization Facility” below for
                further discussion.*









**Puget
      Sound Energy.**  The following are PSE’s aggregate contractual
      obligations and commercial commitments as of June 30, 2007:


Puget
                  Sound Energy
              Payments
                  Due Per PeriodContractual
                  Obligations
                (Dollars
                  in Millions)
              Total
              2007
              2008-
                2009
              2010-
                2011
              2012
                  &
                ThereafterLong-term
                  debt including interest
              $
              6,639.5
              $
              204.3
              $
              689.6
              $
              775.8
              $
              4,969.8Short-term
                  debt including interest
              
              314.4
              
              314.4
              
              --
              
              --
              
              --Mandatorily
                  redeemable preferred stock
              
              1.9
              
              --
              
              --
              
              --
              
              1.9Service
                  contract obligations
              
              141.0
              
              16.4
              
              69.1
              
              43.1
              
              12.4Non-cancelable
                  operating leases
              
              171.4
              
              7.9
              
              53.1
              
              24.8
              
              85.6Fredonia
                  combustion turbines lease 1
              
              62.3
              
              3.0
              
              12.5
              
              46.8
              
              --Energy
                  purchase obligations
              
              6,509.9
              
              610.9
              
              2,035.2
              
              1,238.9
              
              2,624.9Contract initiation payment/collateral requirement
              
              18.5
              
              --
              
              --
              
              18.5
              
              --Financial
                  hedge obligations
              
              5.3
              
              8.7
              
              (3.4)
              
              --
              
              --Purchase
                  obligations
              
              25.5
              
              2.8
              
              22.7
              
              --
              
              --Non-qualified pension and other benefits funding
              
              45.5
              
              4.9
              
              7.4
              
              9.1
              
              24.1Interest liability on uncertain tax positions
              
              7.2
              
              --
              
              7.2
              
              --
              
              --Total
                  contractual cash obligations
              $
              13,942.4
              $
              1,173.3
              $
              2,893.4
              $
              2,157.0
              $
              7,718.7




Puget
                  Sound Energy
              Amount
                  of Commitment
                Expiration
                  Per PeriodCommercial
                  Commitments
                (Dollars
                  in Millions)
              Total
              2007
              2008-
                2009
              2010-
                2011
              2012
                  &
                ThereafterCredit
                  agreement - available 2
              $
              601.8
              $
              --
              $
              --
              $
              --
              $
              601.8Receivable
                  securitization facility 3
              
              150.0
              
              --
              
              --
              
              150.0
              
              --Energy
                  operations letter of credit
              
              8.3
              
              8.3
              
              --
              
              --
              
              --Total
                  commercial commitments
              $
              760.1
              $
              8.3
              $
              --
              $
              150.0
              $
              601.8


_________________


1
            *See
                note 1 under Puget Energy above.*2
            *See
                note 3 under Puget Energy above.*3
            *See
                note 4 under Puget Energy
                above.*





**Off-Balance
      Sheet Arrangements**


**Fredonia
      3 and 4 Operating Lease****.**PSE leases two
      combustion turbines for its Fredonia 3 and 4 electric generating facility
      pursuant to a master operating lease that was amended for this lease in April
      2001.  The term of the lease expires in 2011, but can be canceled by
      PSE at any time.  Payments under the lease vary with changes in the
      London Interbank Offered Rate (LIBOR).  At June 30, 2007, PSE’s
      outstanding balance under the lease was $49.7 million.  The expected
      residual value under the lease is the lesser of $37.4 million or 60% of the
      cost
      of the equipment.  In the event the equipment is sold to a third party
      upon termination of the lease and the aggregate sales proceeds are less than
      the
      unamortized value of the equipment, PSE would be required to pay the lessor
      contingent rent in an amount equal to the deficiency up to a maximum of 87%
      of
      the unamortized value of the equipment.





**Utility
      Construction Program**


Utility
      construction expenditures for generation, transmission and distribution are
      designed to meet continuing customer growth and to improve efficiencies of
      PSE’s
      energy delivery systems.  Construction expenditures, excluding equity
      Allowance for Funds Used during Construction (AFUDC) and customer refundable
      contributions, were $375.7 million for the six months ended June 30,
      2007.  Utility construction expenditures, excluding AFUDC and
      excluding new generation resources other than Wild Horse (which will be
      determined as the Company proceeds through the integrated resource planning
      process) are anticipated to be as follows in 2007, 2008 and 2009:





Capital
                Expenditure Estimates
              (Dollars
                in Millions)
            
            2007
            
            2008
            
            2009Energy
                delivery, technology and facilities
            $
            530
            $
            555
            $
            640New
                supply resources
            
            120
            
            70
            
            210Total
                expenditures
            $
            650
            $
            625
            $
            850





The
      proposed utility construction expenditures and any new generation resource
      expenditures that may be incurred are anticipated to be funded with a
      combination of cash from operations, short-term debt, long-term debt and
      equity.  Construction expenditure estimates, including any new
      generation resources, are subject to periodic review and adjustment in light
      of
      changing economic, regulatory, environmental and efficiency
      factors.





**Capital
      Resources**


**Cash
      From Operations**


Cash
      generated from operations for the six months ended June 30, 2007 was $345.9
      million which is 87.8% of the $394.1 million used for utility construction
      expenditures and other capital expenditures.  For the six months ended
      June 30, 2006, cash generated from operations was $72.0 million which is 22.2%
      of the $324.5 million used for utility construction expenditures and other
      capital expenditures.


The
      overall cash generated from operating activities for the six months ended June
      30, 2007 increased $273.9 million compared to the same period in
      2006.  The increase was primarily the result of costs incurred in 2006
      that did not recur in 2007, including the Chelan PUD contract initiation payment
      of $89.0 million and cash collateral repaid to energy suppliers of $20.0
      million.  Also contributing to the increase were collection of the
      purchased gas receivable of $87.1 million, $77.3 million in income taxes paid
      in
      the first six months of 2006 compared to $23.0 paid in the same period in 2007
      and a cash receipt PSE received of $18.9 million for the settlement of a
      purchase option related to the lease for its corporate offices.





**Financing
      Program**


Financing
      utility construction requirements and operational needs are dependent upon
      the
      cost and availability of external funds through capital markets and from
      financial institutions.  Access to funds is dependent upon factors
      such as general economic conditions, regulatory authorizations and policies,
      and
      Puget Energy’s and PSE’s credit ratings.





**Restrictive
      Covenants**


In
      determining the type and amount of future financing, PSE may be limited by
      restrictions contained in its electric and gas mortgage indentures, articles
      of
      incorporation and certain loan agreements.  Under the most restrictive
      tests, at June 30, 2007, PSE could issue:


·
            approximately
                $608.0 million of additional first mortgage bonds under PSE’s electric
                mortgage indenture based on approximately $1,013.3 million of electric
                bondable property available for issuance, subject to an interest
                coverage
                ratio limitation of 2.0 times net earnings available for interest
                (as
                defined in the electric utility mortgage), which PSE exceeded at
                June 30,
                2007;


·
            approximately
                $422.0 million of additional first mortgage bonds under PSE’s gas mortgage
                indenture based on approximately $703.3 million of gas bondable property
                available for issuance, subject to interest coverage ratio limitations
                of
                1.75 times and 2.0 times net earnings available for interest (as
                defined
                in the gas utility mortgage), which PSE exceeded at June 30,
                2007;


·
            approximately
                $825.2 million of additional preferred stock at an assumed dividend
                rate
                of 6.9%; and


·
            approximately
                $718.4 million of unsecured long-term
                debt.


At
      June
      30, 2007, PSE had approximately $4.3 billion in electric and gas ratebase to
      support the interest coverage ratio limitation test for net earnings available
      for interest.





**Credit
      Ratings**


Neither
      Puget Energy nor PSE has any debt outstanding that would accelerate debt
      maturity upon a credit rating downgrade.  A ratings downgrade could
      adversely affect the ability to renew existing, or obtain access to new credit
      facilities and could increase the cost of such facilities.  For
      example, under PSE’s revolving credit facility, the borrowing costs and
      commitment fee increase as PSE’s secured long-term debt ratings
      decline.  A downgrade in commercial paper ratings could preclude PSE’s
      ability to issue commercial paper under its current programs.  The
      marketability of PSE commercial paper is currently limited by the A-3/P-2
      ratings by Standard & Poor’s and Moody’s Investors Service.  In
      addition, downgrades in PSE’s debt ratings may prompt counterparties to require
      PSE to post a letter of credit or other collateral, make cash prepayments,
      obtain a guarantee or provide other security.


The
      ratings of Puget Energy and PSE, as of July 25, 2007, were as
      follows:





RatingsStandard
                & Poor’s
            Moody’s**Puget
                Sound Energy**Corporate
                credit/issuer rating
            BBB-
            Baa3Senior
                secured debt
            BBB
            Baa2Shelf
                debt senior secured
            BBB
            (P)Baa2Junior
                Subordinated Notes
            BB
            Ba1Preferred
                stock
            BB
            Ba2Commercial
                paper
            A-3
            P-2Revolving
                credit facility
            *
            Baa3Ratings
                outlook
            Stable
            Positive**Puget
                Energy**Corporate
                credit/issuer rating
            BBB-
            Ba1


____________


*
      *Standard
      & Poor’s does not rate credit facilities*.





**Shelf
      Registrations, Long-Term Debt and Common Stock Activity**


On
      June
      1, 2007, PSE redeemed the remaining 8.231% Capital Trust Preferred Securities
      (classified as Junior Subordinated Debentures of the Corporation Payable to
      a
      Subsidiary Trust Holding Mandatorily Redeemable Preferred Securities on the
      balance sheet and referred to herein as “Securities”).  The purpose of
      the redemption is to help reduce interest costs by retiring higher cost
      debt.  The remaining $37.8 million of the Securities outstanding were
      redeemed on June 1, 2007 at a 4.12% premium, or $39.3 million, plus accrued
      interest on the redemption date.


On
      June
      4, 2007, PSE issued $250.0 million of Junior Subordinated Notes (Notes) due
      June
      2067.  The Notes bear a fixed rate of interest for the first ten and a
      half years with interest payable semiannually in May and November of each year,
      after which the notes will bear a variable rate of interest (3-month LIBOR
      plus
      2.35%).  Proceeds were used to fund the redemption of the remaining
      $37.8 million 8.231% Securities and to repay short-term debt.  The
      Notes are structured to be treated as debt by the IRS, yet they are considered
      to be similar to equity by the credit rating agencies.  In addition,
      the Notes contain a call option feature and are callable in whole or in part
      by
      PSE on or after June 1, 2017.  They are presented on the balance sheet
      as a separate line item in the redeemable securities and long-term
      debt.





**Liquidity
      Facilities and Commercial Paper**


PSE’s
      short-term borrowings and sales of commercial paper are used to provide working
      capital fund to utility construction programs and support the Company’s energy
      hedging activities.





**PSE
      Credit Facilities**


The
      Company has three committed credit facilities that provide, in aggregate, $1.05
      billion in short-term borrowing capability.  These include a $500.0
      million credit agreement, a $200.0 million accounts receivable securitization
      facility and a $350.0 million credit agreement to support hedging
      activity.





**Credit
      Agreements.**  In March 2007, PSE entered into a five-year,
      $350.0 million credit agreement with a group of banks.  The agreement
      is used to support the Company’s energy hedging activities and may also be used
      to provide letters of credit.  The interest rate on outstanding
      borrowings is based either on the agent bank’s prime rate or on LIBOR plus a
      marginal rate related to PSE’s long-term credit rating at the time of
      borrowing.  PSE pays a commitment fee on any unused portion of the
      credit agreement also related to long-term credit ratings of PSE.  At
      June 30, 2007, there were no borrowings or letters of credit outstanding under
      the credit facility.


In
      March
      2005, PSE entered into a five-year, $500.0 million unsecured credit agreement
      with a group of banks.  In March 2007, PSE restated this credit
      agreement to extend the expiration date to April 2012.  The agreement
      is primarily used to provide credit support for commercial paper and letters
      of
      credit.  The terms of this agreement as restated, are essentially
      identical to those contained in the $350.0 million facility described
      above.  At June 30, 2007, there was $8.3 million outstanding under a
      letter of credit and $239.9 million commercial paper outstanding, effectively
      reducing the available borrowing capacity under the credit agreements to $601.8
      million.





**Receivables
      Securitization Facility.**  PSE entered into a five-year
      Receivable Sales Agreement with PSE Funding, Inc. (PSE Funding), a wholly owned
      subsidiary, on December 20, 2005.  Pursuant to the Receivables Sales
      Agreement, PSE sells all of its utility customer accounts receivable and
      unbilled utility revenues to PSE Funding.  In addition, PSE Funding
      entered into a Loan and Servicing Agreement with PSE and two
      banks.  The Loan and Servicing Agreement allows PSE Funding to use the
      receivables as collateral to secure short-term loans, not exceeding the lesser
      of $200.0 million or the borrowing base of eligible receivables which fluctuate
      with the seasonality of energy sales to customers.  All loans from
      this facility are reported as short-term debt in the financial
      statements.  The PSE Funding facility expires in December 2010, and is
      terminable by PSE and PSE Funding upon notice to the banks.  There was
      $50.0 million in loans that were secured by accounts receivable pledged at
      June
      30, 2007.  The remaining borrowing base of eligible receivables at
      June 30, 2007 was $150.0 million.





**Demand
      Promissory Note****.**On June 1, 2006, PSE
      entered into an uncommitted revolving credit facility with its parent, Puget
      Energy, pursuant to a Demand Promissory Note (Note) under which PSE may borrow
      up to $30.0 million from Puget Energy.  Under the terms of the Note,
      PSE pays interest on the outstanding borrowings based on the lowest of the
      weighted average interest rate of (a) PSE’s outstanding commercial paper
      interest rate; (b) PSE’s senior unsecured revolving credit facility; or (c) the
      interest rate available under the receivable securitization facility of PSE
      Funding, Inc., a PSE subsidiary.  At June 30, 2007, the outstanding
      balance of the Note was $24.5 million.  The outstanding balance and
      the related interest under the Note are eliminated by Puget Energy upon
      consolidation of PSE’s financial statements.





**Stock
      Purchase and Dividend Reinvestment Plan**


Puget
      Energy has a Stock Purchase and Dividend Reinvestment Plan pursuant to which
      shareholders and other interested investors may invest cash and cash dividends
      in shares of Puget Energy common stock.  Since new shares of common
      stock may be purchased directly from Puget Energy, funds received may be used
      for general corporate purposes.  Puget Energy issued common stock
      under the Stock Purchase and Dividend Reinvestment Plan of $3.2 million (124,995
      shares) and $6.5 million (255,891 shares) for the three and six months ended
      June 30, 2007, respectively, compared to $3.4 million (164,784 shares) and
      $6.9
      million (331,635 shares) for the three and six months ended June 30, 2006,
      respectively.





**Common
      Stock Offering Programs**


To
      provide additional financing options, Puget Energy entered into agreements
      in
      July 2003 with two financial institutions under which Puget Energy may offer
      and
      sell shares of its common stock from time to time through these institutions
      as
      sales agents, or as principals.  Sales of the common stock, if any,
      may be made by means of negotiated transactions or in transactions that may
      be
      deemed to be “at-the-market” offerings as defined in Rule 415 promulgated under
      the Securities Act of 1933, including in ordinary brokers’ transactions on the
      New York Stock Exchange at market prices.








**Other**




**FERC
      Hydroelectric Projects And Licenses**


**Baker
      River project.**The Baker River project’s current annual
      license expires on April 30, 2008, and PSE submitted an application for a new
      license to FERC on April 30, 2004.  On November 30, 2004, PSE and 23
      parties, (federal, state and local governmental organizations, Native American
      Indian tribes, environmental and other non-governmental entities) filed a
      proposed comprehensive settlement agreement on all issues relating to the
      relicensing of the Baker River project.  The proposed settlement
      includes a set of proposed license articles and, if approved by FERC without
      material modification, would allow for a new license of 45 years or
      more.  The proposed settlement would require an investment of
      approximately $360 million over the next 30 years (capital expenditures and
      operations and maintenance cost) in order to implement the conditions of the
      new
      license.  The proposed settlement is subject to additional regulatory
      approvals yet to be attained from various agencies and other contingencies
      that
      have yet to be resolved.  FERC has not yet ruled on the proposed
      settlement and its ultimate outcome remains uncertain.





**White
      River project.**The White River project was operated as a
      hydropower facility until 2004.  PSE is actively seeking to sell the
      project and the municipal water rights associated with the project to one or
      more entities.  In June 2003, the Washington State Department of
      Ecology (Ecology) approved an application for new municipal water rights related
      to the White River project reservoir.  After an appeal in July 2004,
      this decision was remanded back to Ecology for further analysis of
      non-hydropower operations.  On December 21, 2006, PSE entered into a
      Purchase and Sale Agreement with the Cascade Land Conservancy to sell certain
      rights and interests in a portion of former project properties; the closing
      of
      the sale is subject to contingencies that have yet to be resolved.  On
      April 7, 2004, the Washington Commission approved PSE’s recovery on the
      unamortized White River plant investment.  At June 30, 2007, the White
      River project net book value totaled $71.6 million, which included $42.6 million
      of net utility plant, $16.9 million of capitalized FERC licensing costs, $7.0
      million of costs related to construction work in progress and $2.2 million
      related to dam operations and safety.  On February 18, 2005, the
      Washington Commission approved the recovery of the White River net utility
      plant
      costs but did not allow current recovery of FERC licensing costs and other
      related costs until all costs associated with selling the White River plant
      and
      any sales proceeds are known.  Any proceeds from the sale of the White
      River assets and water rights will reduce the balance of the deferred regulatory
      asset.  Neither the outcome of this matter nor any potential
      associated financial impacts can be predicted at this time.





**Snoqualmie
      Falls project.**The Snoqualmie Falls project was granted a
      new 40-year operating license by FERC on June 29, 2004.  On July 29,
      2004, the Snoqualmie Tribe filed a request for rehearing of the new license
      and
      a request to stay the FERC license.  On March 1, 2005, FERC issued an
      Order on Rehearing and Dismissing Stay Request.  Appeals to the U.S.
      Court of Appeals by the Snoqualmie Tribe and by PSE have been
      consolidated.  Oral arguments were held on February 8,
      2007.  An adverse ruling from the Court or adverse action by FERC if
      the license issuance is remanded could impact PSE’s future use of this
      generating asset.





**Electric
      Regulation and Rates**


**Integrated
      Resource Plan.**  PSE filed its IRP on May 31, 2007 with the
      Washington Commission.  The plan supports a strategy of diverse
      acquisitions to cost-effectively meet growing demand for energy and reduce
      carbon emissions.  According to the IRP, PSE can secure additional
      power supplies through heightened energy-efficiency efforts and expanded
      wind-power generation.  PSE believes that a cost-effective and
      environmentally responsible way to source generation will likely include
      additional natural gas-fired resources.  PSE’s analysis targets a need
      to acquire 1,600 average megawatts (aMW) of additional power supply in the
      next
      decade and 2,600 aMW by 2025.





**Mandatory
      Electric Reliability Standards.**  On March 16, 2007, FERC
      issued Order 693, “Mandatory Reliability Standards for the Bulk-Power System,”
which imposes penalties of up to $1.0 million per day per violation for a
      failing to comply with new electric reliability standards.  FERC
      approved 83 reliability standards developed by the North American Electric
      Reliability Corporation (NERC).  The 83 standards comprise 586
      requirements and sub-requirements that PSE must comply with.  On June
      18, 2007, the standards became mandatory and enforceable under federal
      law.  PSE expects that the existing standards will be constantly
      changing due to modifications, guidance and clarification as a result of
      industry implementation and ongoing audits and enforcement.


Per
      NERC
      and Western Electricity Coordinating Council (WECC) guidelines, users, owners
      and operators of the bulk power system that self-report non-compliance with
      any
      of the NERC standards and that submit mitigation plans to address the
      non-compliance will not be subject to sanctions if the mitigation plans are
      submitted on or before June 18, 2007 and approved by WECC.  In June
      2007, PSE submitted self reports and mitigation plans to WECC for review and
      approval.  The financial impact to PSE of complying with Order 693, if
      any, cannot now be determined.





**Power
      Cost Only Rate Case.**  On March 20, 2007, PSE submitted a
      PCORC filing to request approval of an updated power cost baseline rate
      beginning September 2007.  The PCORC filing also requested recovery of
      Goldendale ownership and operating costs through retail electric
      rates.  The requested electric rate increase is $64.7 million or 3.7%
      annually.  On May 23, 2007, PSE filed updated power costs due to
      changes in market conditions of natural gas and other costs which resulted
      in a
      revised proposed increase of $77.8 million or 4.4% annually.  On July
      5, 2007, a settlement agreement in this PCORC rate case signed by PSE and other
      parties to the proceeding was filed with the Washington
      Commission.  The terms of the settlement agreement include an electric
      rate increase of $64.7 million, Goldendale ownership and operating costs are
      agreed upon as prudent, thus allowing for recovery of the costs through electric
      retail rates and the parties agree to participate in a collaborative effort
      to
      streamline the Washington Commission’s PCORC process.  On August 2,
      2007, the Washington Commission approved the settlement agreement which provides
      for new electric rates effective September 1, 2007.





**Accounting
      Petition.**  On April 11, 2007, the Washington Commission
      approved PSE’s petition for issuance of an accounting order that authorizes PSE
      to defer certain costs the Company will incur related to its purchase of
      Goldendale before the ownership and operating costs are included in PSE’s
      electric retail customer rates.  PSE established a regulatory asset of
      $7.0 million at June 30, 2007.





**Electric
      General Rate Case.**  On January 5, 2007, the Washington
      Commission issued its order in PSE’s electric general rate case filed in
      February 2006, approving a general rate decrease for electric customers of
      $22.8
      million or 1.3% annually.  The rates for electric customers were
      effective beginning January 13, 2007.  In its order, the Washington
      Commission approved a weighted cost of capital of 8.4%, or 7.06% after-tax,
      and
      a capital structure that included 44.0% common equity with a return on equity
      of
      10.4%.  The Washington Commission had earlier approved (on June 28,
      2006) a PCORC increase of $96.1 million annually effective July 1,
      2006.





**Production
      Tax Credit**.  On October 30, 2006, PSE revised its PTC
      electric tariff to increase the revenue credit to customers from $13.1 million
      to $28.8 million, effective January 1, 2007.  The credit is based on
      expected wind generation and reflects the true-up of prior years’ credits
      provided to customers versus credits for actual wind generation taken for
      federal income taxes and the addition of Wild Horse to the wind
      portfolio.


**PCA
      Mechanism.**  On June 20, 2002, the Washington Commission
      approved a PCA mechanism that triggers if PSE’s costs to provide customers’
electricity falls outside certain bands established in an electric rate
      case.  The cumulative maximum pre-tax earnings exposure due to power
      cost variations over the four-year period ending June 30, 2006 was limited
      to
      $40.0 million plus 1% of the excess.  On January 5, 2007, the
      Washington Commission approved the PCA mechanism for continuation under the
      same
      annual graduated scale without a cumulative cap for excess power
      costs.  All significant variable power supply cost variables
      (hydroelectric and wind generation, market price for purchased power and surplus
      power, natural gas and coal fuel price, generation unit forced outage risk
      and
      transmission cost) are included in the PCA mechanism.  The PCA
      mechanism apportions increases or decreases in power costs, on a calendar year
      basis, between PSE and its customers on a graduated scale:





Annual
                Power
              Cost
                Variability
            Customers’
                Share
            Company’s
                Share1+/-
                $20
                million
            0%
            100%+/-
                $20 - $40
                million
            50%
            50%+/-
                $40 -
                $120 million
            90%
            10%+/-
                $120
                million
            95%
            5%


_________________


1
            *Over
                the four-year period July 1, 2002 through June 30, 2006, the Company’s
                share of pre-tax power cost variations was capped at a cumulative
                $40
                million plus 1% of the excess.  Power cost variations after June
                30, 2006 are apportioned on an annual basis, on the graduated scale
                without a cumulative cap.*




**Gas
      Regulation and Rates**


**Gas
      General Rate Case.**  On January 5, 2007, the Washington
      Commission issued its order in PSE’s gas general rate case, granting a rate
      increase for gas customers of $29.5 million or 2.8% annually, effective January
      13, 2007.  In its order the Washington Commission approved the same
      weighted cost of capital of 8.4%, or 7.06% after-tax and capital structure
      that
      included 44.0% common equity with a return on equity of 10.4%, consistent with
      the Company’s electric operations.




**Proceedings
      Relating to the Western Power Market**


****Puget
      Energy’s and PSE’s Report on Form 10-K for the year ended December 31, 2006
      includes a summary relating to the western power market
      proceedings.  The following discussion provides a summary of material
      developments in these proceedings that occurred during and subsequent to the
      period covered by this report.  PSE is vigorously defending each of
      these cases.  Litigation is subject to numerous uncertainties and PSE
      is unable to predict the ultimate outcome of these
      matters.  Accordingly, there can be no guarantee that these
      proceedings, either individually or in the aggregate, will not materially and/or
      adversely affect PSE’s financial condition, results of operations or
      liquidity.


*CPUC
      Decision.*Proceedings, including filings of requests for
      rehearing or further review, before the Ninth Circuit and/or FERC, continue
      to
      be stayed upon the Court’s own motion to allow for possible settlement
      discussions to proceed.  The matter is stayed until August 13,
      2007.


*Lockyer
      Case.*On June 18, 2007, the U.S. Supreme Court denied the
      petition for a writ of certiorari that PSE and other energy sellers had
      submitted.  As such, this matter will be remanded to FERC for further
      proceedings, but not before August 13, 2007, when the stay of the mandate back
      to FERC expires.




**Colstrip
      Matters**


In
      May
      2003, approximately 50 plaintiffs brought an action against the owners of
      Colstrip which has since been amended to add additional claims.  The
      lawsuit alleges that certain domestic water wells, groundwater and the Colstrip
      water supply pond were contaminated by seepage from a Colstrip Units 1 & 2
      effluent holding pond, that seepage from Colstrip Units 1 & 2 have decreased
      property values and that seepage from the Colstrip water supply pond caused
      structural damage to buildings and toxic mold.   Discovery is
      ongoing.  The trial is scheduled for the first quarter
      2008.  On March 29, 2007, a second complaint was filed on behalf of
      two ranch owners alleging damage due to the Colstrip Units 3 & 4 effluent
      holding pond.


In
      May 2005, the Environmental
      Protection Agency (EPA) enacted the Clean Air Mercury Rule that will permanently
      cap and reduce mercury emissions from coal-fired power plants.  The
      Montana Board of Environmental Review approved the state’s regulation to limit
      mercury emissions from coal-fired plants on October 16, 2006.  The new
      rule has a more stringent limit than the federal rule (0.9 lbs/Trillion
      British thermal units (TBtu), instead of the federal 1.4 lbs/TBtu), but
      includes a cap-and-trade provision as well as alternative emission limits for
      plants that have tried to meet the new standards but have demonstrated that
      they
      cannot.  The Colstrip owners are still evaluating the potential impact
      of the new rule and it is still unknown whether the new rule will be
      appealed.  Preliminary treatment technology studies undertaken by the
      Colstrip owners estimate that PSE’s portion of the capital costs to comply with
      the new rule could be as much as $75 million, but this number could change
      as new information becomes available.


In
      December 2003, the EPA issued an Administrative Consent Order (ACO) which
      alleged violation of the Clean Air Act permit at Colstrip since
      1980.  The permit required Colstrip to submit, for review and approval
      by the EPA, an analysis and proposal for reducing emissions of nitrogen oxide
      to
      address visibility concerns upon the occurrence of certain triggering
      events.  The EPA asserts that regulations it promulgated in 1980
      triggered this requirement.  Although Colstrip owners believe that the
      ACO was unfounded, the Colstrip owners entered into negotiations with the EPA
      and the Northern Cheyenne Tribe.  On May 14, 2007, the ACO was
      approved and deemed entered by the Montana Federal District
      Court.  The agreement requires installation of low nitrogen oxide
      equipment on Colstrip Units 3 & 4, payment of a non-material penalty and
      financing of an energy efficiency project on the Northern Cheyenne
      reservation.  The estimated total additional cost to PSE is $2.7
      million.


In
      June
      2005, the EPA issued the Clean Air Visibility Rule to address regional haze
      or
      regionally-impaired visibility caused by multiple sources over a wide
      area.  The rule defines Best Available Retrofit Technology (BART)
      requirements for electric generating units, including presumptive limits for
      sulfur dioxide, particulate matter and nitrogen oxide controls for large
      units.  In February 2007, Colstrip was notified by EPA that Colstrip
      Units 1 & 2 were determined to be subject to the BART requirements and were
      required to submit a BART engineering analysis for Colstrip 1 & 2 by May
      2007; EPA recently extended that date to July 31, 2007.  PSE cannot
      yet determine the need for or costs of additional controls to comply with this
      rule, through any such costs could be significant.





**Sumas
      Cogeneration Company Contract**


****Sumas
      Cogeneration Company, LP (Sumas), delivered a letter to PSE on May 7, 2007,
      stating that it had sold its dedicated gas reserves to a third party and that it
      no longer intended to deliver energy to PSE through the remaining term of the
      contract, which expires on April 15, 2013.  The last energy delivered
      to PSE by Sumas occurred on March 15, 2007.  PSE and Sumas have
      initiated discussion relating to Sumas’ actions under the contract, but PSE
      cannot yet determine what may result from such discussions.




**New
      Accounting Pronouncements**


In
      September 2006, Financial Accounting Standards Board (FASB) issued SFAS No,
      157,
“Fair Value Measurements”.  SFAS No. 157 establishes a common definition
      for fair value to be applied to GAAP, establishes a framework for measuring
      fair
      value, and expands disclosure about such fair value
      measurements.  SFAS No. 157 is effective for fiscal years beginning
      after November 15, 2007 which will be the calendar year beginning January 1,
      2008 for the Company.  The Company is currently assessing the impact of
      SFAS No. 157 on its financial statements.


In
      July
      2006, FASB issued Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in
      Income Taxes, an Interpretation of FASB Statement No. 109,” which clarifies the
      accounting for uncertainty in income taxes recognized in the financial
      statements in accordance with FASB Statement No. 109, “Accounting for Income
      Taxes.”  FIN 48 provides guidance on recognition threshold and
      measurement attributed to a tax position taken or expected to be taken in a
      tax
      return.  The tax positions should only be recognized when it is more
      likely than not, based on technical merits, that the position will be sustained
      upon examination by the taxing authority.  FIN 48 was effective for
      the Company as of January 1, 2007.  The Company has performed a review
      of all open tax years (2001 through 2007) and identified one tax position that
      must be reported under the provisions of FIN 48.  The Company has
      determined that the proper amount of interest to accrue under FIN 48 is $6.6
      million as of January 1, 2007.  See discussion at Note 6, “Income
      Taxes.”






Item
        3.         
**Quantitative and Qualitative Disclosure About Market
        Risk**




**Energy
      Portfolio Management**


The
      Company has energy risk policies and procedures to manage commodity and
      volatility risks.  The Company’s Energy Management Committee
      establishes the Company’s energy risk management policies and procedures and
      monitors compliance.  The Energy Management Committee is comprised of
      certain Company officers and is overseen by the Audit Committee of the Company’s
      Board of Directors.


The
      Company is focused on commodity price exposure and risks associated with
      volumetric variability in the gas and electric portfolios.  It is not
      engaged in the business of assuming risk for the purpose of speculative
      trading.  The Company hedges open gas and electric positions to reduce
      both portfolio risk and volatility risk in prices.  The exposure
      position is determined by using a probabilistic risk system that models 100
      scenarios of how the Company’s gas and power portfolios will perform under
      various weather, hydro and unit performance conditions.  The
      objectives of the hedging strategy are to:





·
            ensure
                physical energy supplies are available to reliably and cost-effectively
                serve retail load;·
            prudently
                manage energy portfolio risks to serve retail load at overall least
                cost
                and limit undesired impacts on PSE’s customers and shareholders;
                and·
            reduce
                power costs by extracting the value of the Company’s
                assets.







The
      Company’s energy derivative contracts designated as cash flow hedges that
      represent forward financial purchases of natural gas supply for electric
      generation from PSE-owned electric plants in future periods at June 30, 2007
      and
      December 31, 2006 are presented below:




Electric
                Derivatives(Dollars
                in millions)
            
            June
                30,
              2007
            
            
            December
                31,
              2006Short-term
                asset
            
            $
            11.0
            
            
            $
            9.2Long-term
                asset
            
            
            0.2
            
            
            
            6.8Total
                assets
            
            $
            11.2
            
            
            $
            16.0Short-term
                liability
            
            $
            15.5
            
            
            $
            8.0Long-term
                liability
            
            
            1.0
            
            
            
            0.4Total
                liabilities
            
            $
            16.5
            
            
            $
            8.4





If
      it is
      determined that it is uneconomical to run the plants in the future period,
      the
      hedging relationship is ended and the cash flow hedge is de-designated and
      any
      unrealized gains and losses are recorded in the income
      statement.  Gains and losses when these de-designated cash flow hedges
      are settled are recognized in energy costs and are included as part of the
      PCA
      mechanism.


The
      amount of net unrealized gain (loss), net of tax, at June 30, 2007 and December
      31, 2006 related to the Company’s cash flow hedges under SFAS No. 133 recorded
      in other comprehensive income is presented as follows:





(Dollars
                in millions)
            
            June
                30,
              2007
            
            
            December
                31,
              2006Other
                comprehensive income – unrealized gain (loss)
            
            $
            (3.4
            )
            
            $
            4.9





The
      following table presents the derivative hedges of natural gas contracts to
      serve
      natural gas customers at June 30, 2007 and December 31, 2006:





Gas
                Derivatives(Dollars
                in millions)
            
            June
                30,
              2007
            
            
            December
                31,
              2006Short-term
                asset
            
            $
            4.9
            
            
            $
            6.7Long-term
                asset
            
            
            --
            
            
            
            0.1Total
                assets
            
            $
            4.9
            
            
            $
            6.8Short-term
                liability
            
            $
            23.5
            
            
            $
            61.6Long-term
                liability
            
            
            0.3
            
            
            
            --Total
                liabilities
            
            $
            23.8
            
            
            $
            61.6





All
      mark-to-market adjustments relating to the natural gas business have been
      reclassified to a deferred account in accordance with SFAS No. 71 due to the
      PGA
      mechanism.  The PGA mechanism passes increases and decreases in the
      cost of natural gas supply to customers.  As the gains and losses on
      the hedges are realized in future periods, they will be recorded as gas costs
      under the PGA mechanism.


The
      following tables present the impact of changes in the market value of derivative
      instruments not meeting normal purchase normal sale or cash flow hedge criteria
      to the Company’s earnings during the three and six months ended June 30, 2007
      and June 30, 2006:





(Dollars
                in millions)
              Three
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            ChangeIncrease
                (decrease) in earnings
            
            $
            (1.5
            )
            
            $
            0.2
            
            
            $
            (1.7
            )





(Dollars
                in millions)
              Six
                Months Ended June 30,
            
            2007
            
            
            2006
            
            
            ChangeIncrease
                (decrease) in earnings
            
            $
            4.2
            
            
            $
            (0.8
            )
            
            $
            5.0




The
      Company recorded a decrease of $1.5 million and an increase of $4.2 million
      in
      earnings during the three and six months ended June 30, 2007, respectively,
      primarily due to the change in the mark-to-market valuation on a physical
      delivered gas supply contract for electric generation that did not meet normal
      purchase normal sale (NPNS) or cash flow hedge criteria.  The
      mark-to-market valuation in 2007 primarily relates to a physical contract
      reserve that was released on a contract due to improved credit of a
      counterparty.  The contract had a short term asset of $4.2 million
      which will settle over the next 12 months.  At June 30, 2007, the
      Company recorded a net unrealized loss of $10.0 million related to a three
      and a
      half year locational power exchange contract and deferred the day one loss
      to
      the balance sheet.  The fair value of the exchange contract was based
      on a propriety model.  The deferred loss will be amortized over the
      term of the contract based upon the power exchanged.  Any future
      changes in the mark-to-market value will be recorded through the income
      statement.  The contract has an economic benefit to the Company over
      its term and will help ease electric transmission congestion across the Cascade
      Mountains during winter months as PSE will take delivery of energy at a location
      that interconnects with PSE’s transmission system in western
      Washington.  At the same time, PSE will make available the same
      quantities of power at the Mid-Columbia trading hub location.


A
      hypothetical 10.0% decrease in the market prices of natural gas and electricity
      would decrease the fair value of qualifying cash flow hedges and comprehensive
      income by $12.4 million after tax and would decrease the fair value of those
      contracts marked-to-market in earnings by $0.7 million after tax.




**Credit
      Risk**


The
      Company is exposed to credit risk primarily through buying and selling
      electricity and gas to serve its customers.  Credit risk is the
      potential loss resulting from counterparty’s non-performance under an
      agreement.  The Company manages credit risk with policies and
      procedures for, among other things, counterparty analysis, exposure measurement,
      exposure monitoring and exposure mitigation.


It
      is
      possible that extreme volatility in energy commodity prices could cause the
      Company to have sub-optimal credit risk exposures with one or more
      counterparties.  If such counterparties fail to perform their
      obligations under one or more agreements, the Company could suffer a material
      financial loss.  However, as of June 30, 2007, approximately 97% of
      the Company’s energy portfolio was rated investment grade or higher by Standard
& Poor's Ratings Services and/or Moody's Investor Services,
      Inc.




**Interest
      Rate Risk**


The
      Company believes its interest rate risk primarily relates to the use of
      short-term debt instruments, variable-rate leases and anticipated long-term
      debt
      financing needed to fund capital requirements.  The Company manages
      its interest rate risk through the issuance of mostly fixed-rate debt of various
      maturities.  The Company utilizes commercial paper, line of credit
      facilities and accounts receivable securitization to meet short-term cash
      requirements.  These short-term obligations are commonly refinanced
      with fixed-rate bonds or notes when needed and when interest rates are
      considered favorable.  The Company may enter into swap instruments or
      other financial hedge instruments to manage the interest rate risk associated
      with these debts.


The
      ending balance in other comprehensive income related to the forward starting
      swaps and previously settled treasury lock contracts at June 30, 2007 was a
      net
      loss of $8.3 million after-tax and accumulated amortization.  All
      financial hedge contracts of this type are reviewed by senior management and
      presented to the Securities Pricing Committee of the Board of Directors and
      are
      approved prior to execution.






Item
      4.          **Controls
      and Procedures**




**Puget****Energy**


**Evaluation
      of Disclosure Controls and Procedures**


Under
      the supervision and with the
      participation of Puget Energy’s management, including the Chairman, President
      and Chief Executive Officer and the Executive Vice President and Chief Financial
      Officer, Puget Energy has evaluated the effectiveness of its disclosure controls
      and procedures (as defined in Rule 13a-15(e) under the Securities Exchange
      Act
      of 1934) as of June 30, 2007, the end of the period covered by this
      report.  Based upon that evaluation, the Chairman, President and Chief
      Executive Officer and the Executive Vice President and Chief Financial Officer
      of Puget Energy concluded that these disclosure controls and procedures are
      effective.




**Changes
      in Internal Control Over Financial Reporting**


There
      have been no changes in Puget
      Energy’s internal control over financial reporting during the period ended June
      30, 2007 that have materially affected, or are reasonably likely to materially
      affect, Puget Energy’s internal control over financial reporting.




**Puget
      Sound Energy**


**Evaluation
      of Disclosure Controls and Procedures**


Under
      the supervision and with the
      participation of PSE’s management, including the Chairman, President and Chief
      Executive Officer and the Executive Vice President and Chief Financial Officer,
      PSE has evaluated the effectiveness of its disclosure controls and procedures
      (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as
      of
      June 30, 2007, the end of the period covered by this report.  Based
      upon that evaluation, the Chairman, President and Chief Executive Officer and
      the Executive Vice President and Chief Financial Officer of PSE concluded that
      these disclosure controls and procedures are effective.




**Changes
      in Internal Control Over Financial Reporting**


There
      have been no changes in PSE’s
      internal control over financial reporting during the period ended June 30,
      2007,
      that have materially affected, or are reasonably likely to materially affect,
      PSE’s internal control over financial reporting.








**PART
      IIOTHER INFORMATION**




Item
      1.          **Legal
      Proceedings**




See
      the
      section titled “Proceedings Relating to the Western Power Market” under Item 2
“Management’s Discussion and Analysis of Financial Conditions and Results of
      Operations” of this Report on Form 10-Q.  Contingencies arising out of
      the normal course of the Company’s business exist at June 30,
      2007.  The ultimate resolution of these issues in part or in the
      aggregate is not expected to have a material adverse impact on the financial
      condition, results of operations or liquidity of the Company.





Item
      1A.       **Risk
      Factors**




The
      following risk factor is an update to the previously disclosed risk factors
      by
      Puget Energy and PSE in their Form 10-K, Item 1A for the period ending December
      31, 2006.





**Costs
      of compliance with environmental, climate change, and endangered species laws
      are significant and the cost of compliance with new laws and regulations and
      the
      incurrence of associated liabilities could adversely affect PSE’s results of
      operations.**


PSE’s
      operations are subject to extensive federal, state and local laws and
      regulations relating to environmental, climate change, and endangered species
      protection.  To comply with these legal requirements, PSE must spend
      significant sums on measures including resource planning, remediation,
      monitoring, pollution control equipment, and emissions related abatement and
      fees.  New environmental, climate change, and endangered species laws
      and regulations affecting PSE’s operations may be adopted, and new
      interpretations of existing laws and regulations could be adopted or become
      applicable to PSE or its facilities, which may substantially increase
      environmental, climate change and endangered species expenditures made by PSE
      in
      the future.  Compliance with these or other future regulations could
      require significant capital expenditures by PSE and adversely affect PSE’s
      financial position, results of operations, cash flows and
      liquidity.  In addition, PSE may not be able to recover all of its
      costs for such expenditures through electric and natural gas rates at current
      levels in the future.


With
      respect to endangered species laws, the listing or proposed listing of several
      species of salmon in the Pacific Northwest is causing a number of changes to
      the
      operations of hydroelectric generating facilities on Pacific Northwest rivers,
      including the Columbia River.  These changes could reduce the amount,
      and increase the cost, of power generated by hydroelectric plants owned by
      PSE
      or in which PSE has an interest and increase the cost of the permitting process
      for these facilities.


Under
      current law, PSE is also generally responsible for any on-site liabilities
      associated with the environmental condition of the facilities that it currently
      owns or operates or has previously owned or operated, regardless of whether
      the
      liabilities arose before, during or after the time the facility was owned or
      operated by PSE.  The incurrence of a material environmental liability
      or the new regulations governing such liability could result in substantial
      future costs and have a material adverse effect on PSE’s results of operations
      and financial condition.


Specific
      to climate change, Washington State has adopted both a renewable portfolio
      standard and greenhouse gas legislation, including a performance standard
      provision.  Recent U.S. Supreme Court decisions related to climate
      change have also drawn greater attention to this issue at the federal, state and
      local level.  PSE cannot yet determine the costs of compliance with
      the recently enacted legislation.




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




Puget
      Energy’s annual meeting of shareholders was held on May 4, 2007.  At
      the annual meeting, the shareholders elected one director to hold office until
      the annual meeting of shareholders in 2008 and four directors to hold office
      until the annual meeting of shareholders in 2010.  The vote was as
      follows:





Number
                of SharesFor
            WithheldTERM
                EXPIRING 2008George
                W. Watson
            100,689,248
            1,473,102TERM
                EXPIRING 2010Phyllis
                J. Campbell
            100,814,867
            1,347,483Stephen
                E. Frank
            99,933,073
            2,229,278Dr.
                Kenneth P. Mortimer
            100,754,686
            1,407,665Stephen
                P. Reynolds
            100,411,751
            1,750,600





There
      were no broker non-votes.





Secondly,
      the shareholders approved amendments to the Company’s Articles of Incorporation
      to adopt a majority voting standard in uncontested elections of Puget Energy,
      Inc. directors.  The vote was as follows:





For
            Against
            Abstain92,974,723
            8,401,830
            785,798





There
      were no broker non-votes.





Third,
      the shareholders approved amendments to the Puget Energy, Inc. Employee Stock
      Purchase Plan, including increasing the number of shares available for purchase
      under the Plan.  The vote was as follows:





For
            Against
            Abstain
            Broker
                Non-Vote82,277,072
            2,590,612
            829,162
            16,465,505










Finally,
      shareholders ratified the appointment of PricewaterhouseCoopers
      LLP.  The vote was as follows:





For
            Against
            Abstain100,618,891
            1,005,921
            537,539





There
      were no broker non-votes.




Item
      6.          **Exhibits**




See
      Exhibit Index for list of exhibits.





**SIGNATURES**


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








**PUGET
                ENERGY, INC.****PUGET
                SOUND ENERGY, INC.****/s/
                James W. Eldredge****James
                W. Eldredge**Vice
                President, Controller and Chief Accounting OfficerDate:  August
                6, 2007Chief
                accounting officer and officer duly authorized to sign this report
                on
                behalf of each registrant





**EXHIBIT
      INDEX**





Certain
      of the following exhibits are filed herewith.  Certain other of the
      following exhibits have heretofore been filed with the Securities and Exchange
      Commission and are incorporated herein by reference.




3.1
            Articles
                of Amendment, as filed with the Washington Secretary of State on
                May 8,
                2007 (incorporated herein by reference to Exhibit 3.1 to Puget Energy,
                Inc’s Current Report on Form 8-K dated May 8, 2007, Commission File No.
                1-16305).4.1
            Amended
                and Restated Credit Agreement, dated as of March 29, 2007, among
                Puget
                Sound Energy, Inc., the various financial institutions named therein,
                and
                Wachovia Bank, N.A., as Administrative Agent (incorporated herein
                by
                reference to Exhibit 10.1 to Puget Energy, Inc.’s Current Report on Form
                8-K dated April 3, 2007, Commission File No. 1-16305).4.2
            Credit
                Agreement, dated as of March 29, 2007, among Puget Sound Energy,
                Inc., the
                various financial institutions named therein, and JP Morgan Chase
                Bank,
                N.A., as Administrative Agent (incorporated herein by reference to
                Exhibit
                10.2 to Puget Energy, Inc.’s Current Report on Form 8-K dated April 3,
                2007, Commission File No. 1-16305).4.3
            Second
                Supplemental Indenture, dated as of June 1, 2007, between the Company
                and
                The Bank of New York Trust Company, N.A., as Trustee (incorporated
                herein
                by reference to Exhibit 4.1 to Puget Sound Energy’s Current Report on Form
                8-K dated June 1, 2007, Commission File No. 1-4393).4.4
            Form
                of Replacement Capital Covenant (incorporated herein by reference
                to
                Exhibit 4.2 to Puget Sound Energy’s Current Report on Form 8-K dated June
                1, 2007, Commission File No. 1-4393).12.1*
            Statement
                setting forth computation of ratios of earnings to fixed charges
                (2002
                through 2006 and 12 months ended June 30, 2007) for Puget
                Energy.12.2*
            Statement
                setting forth computation of ratios of earnings to fixed charges
                (2002
                through 2006 and 12 months ended June 30, 2007) for
                PSE.31.1*
            Chief
                Executive Officer certification of Puget Energy pursuant to 18 U.S.C.
                Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley
                Act
                of 2002.31.2*
            Chief
                Financial Officer certification of Puget Energy pursuant to 18 U.S.C.
                Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley
                Act
                of 2002.31.3*
            Chief
                Executive Officer certification of Puget Sound Energy pursuant to
                18
                U.S.C. Section 1350, as adopted pursuant to Section 302 of the
                Sarbanes-Oxley Act of 2002.31.4*
            Chief
                Financial Officer certification of Puget Sound Energy pursuant to
                18
                U.S.C. Section 1350, as adopted pursuant to Section 302 of the
                Sarbanes-Oxley Act of 2002.32.1*
            Chief
                Executive Officer certification pursuant to 18 U.S.C. Section 1350,
                as
                adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
                2002.32.2*
            Chief
                Financial Officer certification pursuant to 18 U.S.C. Section 1350,
                as
                adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
                2002.***
            *Filed
                herewith.*