Annual Annual EPS
Close Close Percent 52-Wk 52-Wk Div Div Book P/E Last
Company Region 09/30/94 12/30/94 Change High Low Rate Yield Value Ratio 12 Mos. Electric...
Efforts to make generation competitive have induced several electric utilities to sell their power plants. Some sales are voluntary. Some are forced by rules mandating functional segregation from transmission and distribution. Of those sales announced or completed, most have involved high-cost utilities, and all have garnered at least book value, suggesting an attempt by sellers to deal with stranded costs.
Why then, are buyers willing to pay more than book value? They must believe they can improve on cash flows - either by raising revenues, trimming costs, or both. But such expectations lie open to scrutiny.
For one thing, price deregulation does not eliminate regulation.
I started my consulting career with the management consulting firm that remained after Sam Insull's Middle West Utilities operating companies were spun off in response to the 1935 Public Utility Holding Company Act. Insull supported regulation early on, because he knew it would stifle competition. Today, electric utilities deciding to retain the wires business are opting for continued price regulation, but some are also opting to participate in the market for unregulated generation. This mixture of regulation and competition will prove unstable and will invite efforts to extend government oversight beyond the regulated business. Note, for example, how the California Independent System Operator has mandated that plants designated as "must-run" by the California Public Utilities Commission must sell into the Power Exchange at prices based on costs approved in regulatory proceedings.
On the other hand, whatever deregulation does take place will only hasten the onset of new technologies - which could make any asset a white elephant.
Regulated businesses can control the introduction of new technology, but competitive firms cannot. Consider the concept of central station generation. It came about through the development of high-voltage transmission lines, but further developments are likely to eliminate it. That process is already in place, as is evident from large customers installing peak-shaving facilities and from expansion of distributed generation to smaller customers through installation of combustion turbines, fuel cells and solar units.
Of course, for the buyer, special circumstances may govern the relationship between price and book value. The buyer may assume purchased power contracts, fuel supply agreements, power supply commitments or operation and maintenance contracts - any of which could be above or below market. The plant may carry environmental or decommissioning obligations associated with retirement. Also, depreciation deferral may have inflated book values.
Nevertheless, any buyer seeking to boost revenues must either charge higher prices or increase product volume. Higher prices would be detrimental to consumers and could attract the attention of regulators. Higher volume would require changing the way the generating units are operated or require site expansion or unit replacement.
In fact, if opportunities to improve operating cash flows are as limited as I believe, then the announced or completed sales suggest that site expansion, through the addition of new units or replacement or refurbishment of existing units, marks an important consideration in the minds of would-be plant purchasers. If this assessment is correct, then purchasers are more interested in buying sites than in buying equipment.