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Deregulation and Mergers: Is Consolidation Inevitable?

Fortnightly Magazine - October 15 1996

more than running costs.

The consuming public shares an equal and reciprocal concern that not enough new plant will be built to provide adequate service. Ordinarily, one would expect more rational long-term planning from stable, diversified operators than from a more fragmented industry subject to a boom-and-bust cycle. Presumably, the industry would eschew excess capacity at all costs, and might, more plausibly, run with inadequate reserves in hopes of recovering maximum revenues in relation to investment (em leaving to tomorrow the risk of unreliability. From both the producer and the consumer perspective, allowing a more "natural" industry structure to develop might improve planning.

If transmission charges are so material that relevant competition will only occur on a regional (power pool) basis, consolidation of generation sources distant from one another should not impair competition.17 By contrast, a consolidation of interconnected or adjacent producers is more problematic than if they are located in different areas of the country.18 (It is interesting that this last principle seems to lie totally at odds with the theory behind the Public Utility Holding Company Act (em that utility consolidations are acceptable only if the parties can be electrically integrated, which implies that the constituents are contiguous.)

Yet it is just this kind of consolidation (em a merger of distant companies (em that might hold advantages for electric generators in terms of diversity of various kinds. A base extending to various parts of the nation would offset and balance regulatory and economic advantages and disadvantages, which tend to vary geographically. Fuel use and availability might be prominent among these factors.

Reliability and Financial Integrity

Other factors may lead the electric power business to greater consolidation as it moves to deregulate. One of these might be an opportunity to create quality features (em such as reliability. It might prove economic to market quality features on a systemwide basis, though this would be impractical for individual plants. In addition, the plants of a system (like a utility) might be developed on a balanced basis (em some base load, some peaking, and some intermediate (em to meet the various needs of a distribution customer: One-stop shopping, so to speak.

Another, perhaps obvious, reason to seek consolidation of electric power generators would be the presumed advantages in attraction of capital and in cost of capital. The reduced risk of a geographically and technologically diversified system would most likely prove a strong factor in attracting capital at a reasonable cost. Risk certainly has been a powerful factor in inducing consolidation in a variety of industries (em particularly capital-intensive businesses. For an early example, one need look no farther than J.P. Morgan's formation of the U.S. Steel Company as the flagship of Big Steel. It may be impossible, or at least expensive, to raise money to build generating plants without a guaranteed market unless they are part of a diversified network with some history of successful operation.19

Similarly, a substantial number of generating plants brought together under one ownership may be able to support a broader and more expert management and a more promising research