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Gas Turbinemania: The Merchant Power Plant

Why it happened? Who lost in the bust? Who will survive to build another turbine?
Fortnightly Magazine - June 15 2002

ratings agencies concerned that the company was over-leveraged.

Calpine, in January 2002, halted development of 34 projects in "advanced development," which represent 15,100 MW. Nevertheless, Calpine, with 11,100 MW operating in January 2001, continues to construct 15,000 MW.

The Convergence Investors

Convergence was a 1990's fad. The idea was for the fuel owner to capture the "spark spread" by entering the generating business, usually through turbine ownership. However, in the case of Williams Energy and El Paso, the so-called convergence play was achieved by signing tolling agreements with risk adverse owner-operators.

Tolling is an arrangement whereby a party moves fuel to a power generator and receives kilowatt hours (kWh) in return for a pre-established fee ().

Most convergence players are characterized by "deep pockets," or strong balance sheets, by access to natural gas, by ownership of gas pipeline or regulated utilities, and by stable regulated cash flows. But this group has its winners and losers, as well as early and late entrants. The financially strongest among this group will likely be among the vulture acquirers of the weak merchants (), or at least many of their plants.

Duke is the largest convergence merchant developer. Dominion is a later entrant, which is likely to experience lower margins pursuing its Maine to MAIN strategy. PSEG has plants under construction from ECAR to PJM, with a focus in deregulated New Jersey. Dynegy has retrenched, and NiSource and CMS were too late to get a foothold. As noted, El Paso and Williams prefer to trade gas and electricity and toll electricity, rather than build plants themselves.

Meanwhile, among the largest players in the turbine market are the still-regulated investor-owned utilities (IOUs) and member or government-owned monopoly generators who are quietly increasing market share by building a large share of the new turbine crop to serve their captive customers. These players are the public and private power companies, partially listed in Exhibit 3.

Of the combined cycle (CCs) and combustion turbines (CTs) that came online between 2000 and 2002, these IOUs have built 27,902 MW or 32 percent. And these companies, along with the deep pocket vulture investors, will pick up the best turbine projects abandoned by the weaker companies.

Merchant Generators

The final group (7) is the most vulnerable to the turbine downturn: the pure merchant generators. Some are free standing but staggering: Mirant, NRG (being re-acquired by 74 percent owner Xcel), and Reliant Resources.

These three companies and others have nixed () thousands of megawatts of new turbine capacity and written off hundreds of millions of dollars. Even pioneer Calpine has moved to this group.

Calpine has ceased development of all its projects not under construction, cutting its plans to build 70,000 MW to 25,000 MW, canceling 35 turbines and taking a $168 million write-off in the process.

Other affiliate merchants have re-trenched, including PPL Global and Entergy. In December 2001, PPL Global canceled 2,100 MW, or $1.36 billion in projects, in Pennsylvania and Washington and wrote off $150 million in cancellation charges. 4 PPL Global still has 2,150 MW of turbines under development.