Fitch Downgrades PPL Energy Supply's Sr Unsecured Debt; Affirms Other Ratings of PPL & Subs

The downgrade of PPLES' senior unsecured debt ratings to 'BBB' from 'BBB+' aligns the senior unsecured debt ratings with the 'BBB' Issuer Default Rating (IDR) in a manner that is consistent with the approach Fitch applies to other competitive generators and also recognizes a lower valuation of PPLES' power assets based on current and forward wholesale power prices. The ratings also reflect Fitch's expectation of lower than previously expected earnings and cash flow improvement in 2010 and 2011. Based on recent hedge transactions entered into by PPLES for the years 2010 and 2011, Fitch no longer expects leverage and cash flow measures, which weakened in 2008 and through the first half of 2009, to reach the levels required to support the former rating. The financial improvement expected to begin in 2010 is driven by the expiration of a below market power supply contract with affiliate PPLEU. The company has entered into replacement hedges that are approximately 33% above the price in the expiring contract, but below Fitch's previous forecast. The ratings also consider $250 million of debt reductions accomplished in 2009 that will reduce interest expense by approximately $15 million and cost savings from work force reductions. PPLES has sufficient liquidity to manage its collateral and working capital needs.

The ratings of PPL are supported by the cash flow and earnings of its two core subsidiaries PPLES and PPLEU, sufficient liquidity and the expected improvement in PPLES' earnings and cash flow. The ratings also reflect the beneficial impact of approximately $451 million of debt retirements in 2009 (interest savings of $24 million), including a tender offer for $250 million of PPLES debt and the retirement of $201 million of PPL Capital Funding debt with cash, and work force reductions that are projected to save $25 million annually. PPLES also reached two separate agreements to sell assets in Maine and Long Island with expected net proceeds of approximately $230 million. The asset sales are expected to close before year-end.

The primary credit concerns are the future level of electricity demand and power prices in the wholesale energy markets in which PPLES operates and the uncertain cost and impact on gross margins of meeting potential environmental regulations addressing greenhouse gas (GHG) emissions. While power market prices and demand are expected to improve over time, the extent and timing of the improvement is uncertain. The near-term market price risk is mitigated by hedge positions in 2010, 2011 and to a lesser extent 2012 that protect gross margins against further deterioration in forward energy prices. PPLES has a high concentration of coal-fired generation, and its cash flows and asset values could be adversely affected by limits on carbon emissions.

The ratings of PPLEU reflect the low business risk of its regulated electric utility distribution operations and the absence of any commodity price risk. Although financial measures are declining, they remain supportive of existing rating guidelines and comparable to PPLEU's rating peer group. The company has no commodity price exposure, and concerns over legislative interference into the transition to market based rates have abated with the completion of six auctions for the company's 2010 provider of last resort (PLR) obligations. Based on the six auctions, PPLEU's electricity tariffs will increase approximately 30% for residential customers in 2010. Customers have a deferral option to phase-in the rate increase, but only about 10% of customers have opted into the programs. The ratings also consider the financial impact of a large capital expenditure program, largely to build the $500 million Susquehanna-Roseland transmission line. The project has been approved for an incentive ROE and is allowed construction work in progress (CWIP) in rate base with annual true-ups, which lessens construction and financing risk. This relatively low risk investment strategy will increase PPLEU's earnings power and the regulated contribution to consolidated earnings. The ability to receive adequate base rate compensation for its electric distribution business during a period of economic weakness and rising power procurement costs is the primary credit concern. PPLEU intends to file a distribution rate case in early 2010, with new rates to be effective Jan. 1, 2011. Based on the recent auction for a portion of PPLEU's 2011 PLR obligation, the prospective distribution rate increase should be offset, in part, by a reduction in generation charges. Prices in the initial auction were approximately 9% below the average price in the 2010 procurement.

Holders of PPLEU's senior secured bonds also benefit from a package of structural enhancements and bond covenants that further reduce financial risk. The bond covenants restrict dividend payments to the parent if cash from operations interest coverage falls below 1.5 times (x), and limits the issuance of new debt or a merger if either would result in a ratings downgrade. Other structural enhancements include amendments to the Articles of Incorporation and By-Laws that effectively separate the accounts and assets of PPLEU from its parent PPL Corp. and its other affiliates and greatly reduce the likelihood of a consolidation of PPLEU in the unlikely case of a parent company or affiliate bankruptcy.

Fitch downgrades the following rating:

PPL Energy Supply, LLC

--Senior Unsecured debt to 'BBB' from 'BBB+'

Fitch affirms the following ratings:

PPL Corp.

--Long-term IDR at 'BBB';

--Short-term IDR at 'F2'.

PPL Capital Funding Inc.

--Long-term IDR at 'BBB';

--Short-term IDR at 'F2';

--Senior Unsecured debt at 'BBB';

--Jr. Subordinated Notes at 'BBB-'.

PPL Electric Utilities Corp.

--Long-term IDR at 'BBB';

--Secured debt at 'A-';

--Preferred Stock at 'BBB';

--Preference Stock at 'BBB';

--Short-term IDR at 'F2';

--Commercial Paper at 'F2'.

PPL Energy Supply, LLC

--Long-term IDR at 'BBB';

--Short-term IDR at 'F2'.

Additional information is available at www.fitchratings.com.

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Fitch Ratings, New York
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Jill Schmidt, +1-212-908-0644
or
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