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Wall Street wants utilities to return to basics, but the CEOs worry it won't be enough.
Fortnightly Magazine - October 15 2003

and risks. Improved market monitoring and tougher rules were called for, but those are now being pursued. I'm not even sure of the argument that utility credit quality is not strong enough for proprietary energy trading.

I think that was just an easy way for ratings agencies to get out of having to understand high-level math. Organizations with much smaller balance sheets than utilities trade any number of commodities. Let's face it: Risk has always been a part of the business, whether analysts woke up to that reality after Enron or not.

In fact, when one looks at the Internet, telecom, investment banking, and utilities industries, they all were swept up by the irrational exuberance of the times, and all paid dearly for it one way or another. A clear argument has not been made for why utilities cannot pursue growth strategies such as international, energy trading, or retail competition, or some other derivative of their business.

Why Not a Core Competency?

Tell me why the buying and selling of power and power plant development should not qualify as a core competency for electric utilities.

Sure, the industry failed to properly value its international investments. But how many times will that happen-particularly in this current environment, where every utility dollar is scrutinized, and lightning-fast ratings downgrades are the order of the day? I'd more trust a utility with international growth plans or energy trading now than when the money to build and buy anything was flowing freely from the commercial banks, and those paid to scrutinize such things were asleep at the switch.

Maybe the better idea was not to buy plants outright in other countries, but to partner up with foreign companies that might have had expertise in properly evaluating those assets. Certainly, the current restrictions on how much debt a utility can incur for any growth plan is much more limited.

It stands to reason that utility business plans today would be more thoughtful. This can be said of anything a utility does from here on out. Debt restrictions are a caveat for any plan.

As for retail competition, some U.S. utilities have been able to prove that they can make a profit from selling to commercial and industrial customers, even if the residential retail business is still an enigma.

Of course, many will be skeptical of the energy-trading portion of the business after sham trades and price-fixing charges. But a utility that manages its surpluses and shortages properly through energy trading and risk management will be able to better contain financial losses to ratepayers and investors. Even regulated utilities and their regulators see the benefits in proper risk management, if not trading per se.

Last but not least, the merchant function also must come around. In a few years, demand for power will outstrip supply. We'll need more power plants. International ventures, energy trading, retail, and merchant gen will come back.

But do analysts believe that?

Naturally, most analysts say it will be 12 months before investors will entertain any growth ideas. And given the last two years, most