Utilities Sector

1. Utilities Sector Pedro Batista Eduardo Haiama, CFA Rafael Espírito Santo Strategist Analyst Analyst +5521 3262 9849 +5521 3262 9655 +5521 3262 8636 pedro.batista@ubs.com eduardo.haiama@ubs.com rafael.espiritosanto@ubs.com This material has been prepared by UBS Pactual S.A. September 2008 Analyst Certification and Required Disclosures Begin on Page 46 UBS does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Customers of UBS in the United States can receive independent, third-party research on the company or companies covered in this report, at no cost to them, where such research is available. Customers can access this independent research at ubs.com/independentresearch or may call +1 877-208-5700 to request a copy of this research.

2. Agenda • Key themes remain mostly intact • Main Events in the Short-/Mid-Terms • Concession Renewal Issue • Consolidation process • New energy auctions • Eletrobras: Role in the Future • Brasiliana: sale of BNDES stake? • Conclusion of methodology for the reference company costs • Supply x Demand • Transmission auctions • Distribution’s tariff revision • Companies overview

3. Key Sector Themes • Reservoir levels and potential rationing risk – now only in 2009 or later • Tight supply x demand to remain until 2010 leading to high spot prices • Concession renewals • Secular increase in generation prices • Positive impact of Investment Grade on the sector • Regulatory risk perception with the implementation of second cycle of tariff revisions • Consolidation move in Brazil and worldwide • Eletrobras’ role in sector investments • Favorable macro scenario • More attractive financing lines (?) • Comfortable financial situation of companies

4. Main Events

5. Main Events in 2008 Cemig, Paulista, RGE (CPFL), Enersul (EDB) Tariff Revision Light Tariff Revision Copel Tariff Revision Brasiliana Sale?? JAN | FEB | MAR | APR | MAY | JUN | JUL | AUG | SEP | OCT | NOV | DEC | DEC JAN | FEB | MAR | APR | MAY | JUN | JUL | AUG | SEP | OCT | NOV 2 0 0 8 CESP Privatization failure Transmission auction New energy auctions Rio Madeira Auction (Jirau) Auction for Rio Madeira transmission Reserve energy auction - Biomass Source: UBS Pactual, ANEEL

6. Concession Renewal Issue • Different methodologies for Generation, Transmission and Distribution • Generation: • Re-auction of the assets? • Low price cap or UBP? • Impacts on free and captive markets unknown depending on the proposed solution • Probable scenario: renewal of the concessions with low fee (political solution) • Transmission: • Probable scenario: renewal with full tariff process for all revenues (as opposed to today’s regulatory framework that only applies to investments made after 1999) • RAP decrease by about 30% (real terms) in 2015 to adjust revenues to full tariff revision • Distribution: • Probable scenario: concession renewal • Regulatory framework for tariff revisions already implemented (return on RAB)

7. Concession Renewal Issue • Capacity expiring in 2015 (already renewed once): • Cesp: 63% • Cemig: 9% • Copel: 5% • Eletrobras: 44% • Should government re-auction the concessions? What could be the alternatives? • Highest concession rights (UBP)? • Lowest tariffs? • Impact on long-term energy prices (?) Copel Cemig Cesp (*) Adjusted by Cemig’s stake in each plant

8. Concession Renewal Issue Eletrobras

9. Consolidation process • Most straightforward M&A already made: Cemar, Elektro, small independent distributors • Remaining companies are mostly financially sound (net debt/EBITDA less than 2.0x), limiting need for cash inflow • Smaller deals at competitive prices (at low implied IRR – strategic players willing to invest at rate of returns below 10% for existing assets) • Potential opportunities among small companies with good pipeline of projects and lack of access to capital • Big assets for sale: CESP and Brasiliana?

10. New energy auctions • Another thermal auctions (A-3 and A-5) • Lack of competitive supply (gas, fuel oil) • Coal should be the winner. In 2009, scenario should change • Lack of hydro power plant projects to increase thermal generation in future auctions • Lack of reservoirs translating into more volatility to spot prices • Energy reserve: the federal government’s solution for reducing higher volatility? It seems so.

11. Eletrobras’s role • Improving corporate governance? • ADR listing closer than before • New investments centralized at the holding level: • Mitigates risk of unrealistic / unsustainable low required rate of returns • Reduces internal struggles between subsidiaries • Internationalization: • Not an easy path: Bolivia to invest alone… Peru reluctant to allow investments, etc… • Need of bi-national treaties • Improvements in the federalized companies? • Single management structure for all distribution companies • Goal to eliminate cash drag in about 1-1.5 year

12. Multiples Comparison

13. Electricity Supply/Demand

14. Supply/Demand Balance - Scenarios Alternative Scenario (Demand growth 5.5%, 40% of Proinfa, Delays in LNG) Base Case (Demand growth 4.8%) Source: Aneel and UBS Pactual estimates Source: Aneel and UBS Pactual estimates

15. Price Signals • Tight supply/demand scenario already driving energy prices up • LT energy prices in the free market are already above those of regulated market. • New energy auctions pointing to prices around R$130/MWh (understated in our view on unrealistic fuel cost for thermal plants). • Upside risk on upcoming auctions as fuel costs are adjusted and lower competitiveness for fuel oil thermal plants. Price Evolution—Regulated vs. Free Market Source: CPFL and UBS Pactual

16. Contractual Situation Cemig Copel CESP Tractebel Source: CCEE, Companies, UBS Pactual

17. Contractual Situation Eletronorte Furnas Chesf Source: Companies and UBS Pactual

18. Energy Supply: Which Sources? Price per Source of Energy (R$/avg MW) for an IRR of 13% Source: PSR and UBS Pactual

19. Electricity Supply: Which Sources?

20. Energy Supply: Which Sources? • Challenging supply scenario => higher energy prices: • Lack of new hydro power projects. Only Rio Madeira so far (slightly above 1-year demand growth). It might take many years to approve new projects. Rising transmission and environmental costs to increase marginal cost of new power plants. • Gas supply issues. Problems with Bolivian supply and high demand growth to limit gas availability to thermal plants. LNG supply does not seem a feasible alternative. Recent gas crisis to benefit other energy sources such as coal. • Coal. Abundant commodity in the world and more stable prices (than oil and gas). Main problem is logistics for imported coal (plant sites). • Nuclear. High cost and even more difficult to approve environmental licenses. Angra III should provide only 1,350 MW of installed capacity. • Fuel oil / Diesel. Competitiveness in recent auctions reduced, as the federal government changed methodology for ICB (cost benefit for thermal capacity).

21. Energy Supply: Alternatives Sources of Energy? • PCH (small hydro power plants). Competitive prices with subsidies (TUSD/TUST discount, lower regulatory fees and tax rate) but with increasing costs for greenfield projects and acquisitions. On top of that, Aneel is changing regulatory framework for authorization process that creates uncertainty to the development of some projects. Estimated feasible capacity expansion around 5,000MW. • Biomass. After hydro power plants, it is the most preferred source of energy by the federal government. The economics are interesting (especially for greenfield projects). Problems are firm supply of bagasse for 15 years, connection to the grid and lack of equipments in the short-term. Total supply could reach 10,000avg. MW (considering retrofit projects). Same regulatory / fiscal benefits as PCHs. Last auction for energy reserve was a failure and only contracted 548 avg. MW of an estimated demand of 1,500-2,000 avg. MW. • Wind power. Least preferred source of energy by the federal government (after fuel oil). Potential supply of 70GW but still too many uncertainties on the demand side. Only feasible with federal auctions that should occur in 2009. Other bottleneck is the current high price of EPC in the country.

22. Alternatives – Hydro • Undergoing feasibility studies by the federal government. • No environmental license yet (only Rio Madeira so far) and it might be difficult to obtain (Amazon region or Indian territories) => more costly. • New power plants should have lower assured capacity (lack of reservoirs) • Location of new power plants far away from consumption sites (higher transmission costs). • Optimistically, new plants might be offered in 2009/2010 • So far, most of power plants were mostly allocated to regulated market. Plants With Approved Feasibility Studies but not Auctioned Plants With Feasibility Studies Under Aneel’s Analysis Source: EPE Source: EPE

23. Alternatives - Hydro Main Plants With Feasibility Studies Under Development Source: EPE

24. Alternatives - Hydro Rio Madeira – Not an indication for long-term prices • Not sufficient to cover demand growth. • Assured capacity of Santo Antonio and Jirau should be ~4,000 avg. MW over 4 to 5 years (versus an annual demand growth of about 3,000 avg. MW)—not to mention potential delays in construction schedule • Tucuruí hydro plant took ~10 years to be constructed • Initial budget of US$4.2 billion increased to US$7.5 billion at the end of the work • Flooded area, initially estimated in 1,630 km2 was actually 2.850 km2, with a significant environmental impact • Price cap distorted by high assured energy capacity • Load factor of about 70% (vs. Brazilian average of about 55%), although run-of-river with no reservoir. • Assuming load factor of 55%, cap would increase to R$153/MWh • Rising energy price for captive consumers • Auctions already contracted 3,320 MW of hydro at above R$130/MWh and 6,368 MW of thermal at prices above R$135/MWh • Considering R$110/MWh for Rio Madeira, weighted average price is R$126/MWh (which we believe is conservative) • New thermal plants should be dispatched more often than current official simulation (around 5% of the time) and at a cost higher than initially expected.

25. Alternatives – Natural Gas • As an alternative for gas supply, Petrobras is implementing two LNG regasification units in Brazil to attend the existing gas power plants • We believe the country still faces some difficulties in securing gas supply in the long run. Besides just supplying the thermal plants, LNG should also be used to reduce the dependence on Bolivian supply • We foresee limited availability of this fuel for thermal generation in Brazil, considering: • Challenges in growing domestic gas production • Suppliers’ political instability (Bolivia, Argentina) • Increasing demand for industrial use of natural gas, Natural Gas Supply/Demand Balance in Brazil Source: Gas Energy

26. Transmission

27. Transmission • Clear and stable regulatory framework attracted private investments to the segment • First auctions (2000-2001) presented low or no discount to maximum revenues • Real IRR to Equity above 20% • Entrance of new players, particularly Spanish and construction companies increased competition in the segment • Higher discounts • Lower returns (as low as 5%) Transmission Auctions – Players Breakdown IRR Evolution Source: Aneel and UBS Pactual estimates Source: Aneel and UBS Pactual

28. Distribution – Tariff Revisions

29. How to Evaluate a Distribution Company? • The best proxy to evaluate a distribution company is to compare it to a FRN (floating-rate note) which has coupons “reseted” every 4/5 years. • Main factors are: • Regulatory Asset Base (RAB) • Regulatory WACC • Reference Costs • X Factor The main difference is the possibility of obtaining higher or lower returns than the coupon due to the real performance compared to the reference company.

30. Regulatory EBITDA x Real • Until now companies EBITDA drop indicate an average of 30% to 40%. • Despite that, most of results were relatively more predictable. • Most companies still trading at EV/RAB of 1.0x-2.0x after the tariff revision process. • What can be different from our forecasts? • Higher / Lower demand growth • Better other revenues => key example is Coelce • Better or worse manageable expenses • Better or worse energy losses / delinquency rate • Different mix of clients (average tariff) • Sharper drop in regulatory WACC in the future (after the investment grade received by the country)