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Competition, Convergence...and Cashflow?

Fortnightly Magazine - April 1 1996

a dozen years, rate-based generation will form a tiny portion of total generation. The rate-based sales function will have practically withered away, and traditional service areas will be blurred. A largely unregulated generating industry will emerge to serve the unregulated energy bulk and retail sales industries. The ratio of dedicated, term sales (to one or two large buyers, such as utilities, municipal distribution companies, and other buying authorities) to total power sales will decline inexorably. Merchant sales and merchant power plants will dominate.

Merchant plants are balance-sheet financed, with 40 to 45 percent equity and senior debt backed by corporate guarantees. The plants manage a portfolio of sales contracts (ranging from one day to perhaps 10 years) as well as a portfolio of fuel- and risk-management contracts, with no assured revenues for the term of the senior debt.

New generating capacity will be dominated by the combined-cycle gas turbine, and an increasing share of this capacity will be merchant. The first grassroots, merchant, gas-turbine units (in the 100- to 300-megawatt range) will be ready to deploy in three to four years. Merchant plant planning will be quite a growth industry in the next 18 months.

The new power industry will exhibit a new structure:

s GemCos. A few enormous gas/electric manufacturing companies with over $20 billion in production assets will emerge.

s Commodity Players. Several commodity generating companies ($5 to $10 billion in assets) will be built around the assets of existing independent power companies (IPPs) and spun-off utility assets (almost all thermal units, most coal-fired).

s Niche Players. Scores, if not hundreds, of niche generating companies will appear (em ranging from just one to dozens of units, and from a few million to over $1 billion in assets.

s Captives. Captive generation will provide system support for regulated energy network companies.

s Nonplayers. Scattered captive generation will reside in the hands of regulated energy logistics companies (for reasons both logical and unfathomable).

s NuCos. The special-purpose nuclear operating company will appear, a transitional corporate form that will prove essentially self-liquidating.

Scores of existing, project-financed generating plants (QFs and IPPs) will likely be economically and technologically obsolete by end of century, with equity and junior debt extinguished and a portion of the senior debt erased. Many others will seek to reposition themselves as merchant units; less than half will have the right combination of location, fuel and transportation portfolio, heat rates, and operation and maintenance costs, since this is not the purpose for which they were originally configured. The remaining project-financed units (em through a happy confluence of depreciated book value, debt paydown, location, technology, and fuel choice (em will do well and create substantial additional value for current owners.

Existing generating plants (em corporate or balance-sheet financed (em (almost always owned by a utility or major oil company) will experience mixed results. A surprisingly large proportion of the thermal units may actually earn windfall gains when marked to market, despite their generally poor heat rates; others (the break-even prospects) will prove to be sound competitors after a modest one-time write-down. The