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Business & Money

Sticking to the Knitting:
Fortnightly Magazine - March 2005

Business & Money

Sticking to the Knitting:

A review of three years of post-Enron stock performance by electric utilities.

Immediately following the Enron collapse, investors dumped the stock of any electric power company that appeared to be pursuing non-traditional growth strategies. Any company that emphasized unregulated businesses-investments in overseas assets, merchant power plant development, and energy marketing and trading-was suspect. In response, these companies and the overall industry turned to the back-to-basics strategy, refocusing on core, regulated utility businesses.

But some companies never had to go "back-to-basics" because they never left. Other companies went against the back-to-basics trend and continued to pursue a growth agenda.

As we end the third year of the back-to-basics era, what does the performance track-record for the industry look like? What were the key performance drivers for the most successful players? Do certain nuances of the back-to-basics strategy appear more successful than others, and why?

To answer these questions, we considered the performance of 57 electric companies. To examine the impact of alternative strategies on investor performance, we grouped these companies into three categories: 1,2

Recent Converts. In response to a massive sell-off by investors and pressure from rating agencies, companies in the Convert category turned from their growth strategies and adopted a back-to-basics strategy.

Long-Time Traditionalists. Even if they had unregulated businesses, companies in the Traditionalist category always emphasized their utility businesses in terms of capital investment, management attention and focus, and positioning with investors.

The Skeptics. Without exception, companies in the Skeptics group have utility businesses focused on running well. However, these companies have not abandoned more aggressive earnings growth targets and have continued to focus on opportunities associated with investments in non-regulated businesses. For each of these groups, we considered the performance measured in terms of total shareholder return (TSR)-dividends plus change in stock price.

The 2004 Performance Story

After a major slump in 2002, the electric utility industry has largely re-bounded, with much of the value creation coming from the Convert group. Over the past two years, 2003-2004, total shareholder return for the set of 57 companies was 66 percent, whereas the S&P 500 index returned about 10 percent. In 2004, top performers were primarily Converts ().

From Dec. 31, 2001, through Dec. 31, 2004, this set of 57 companies created almost $101 billion in shareholder value in connection with an overall 29 percent return over the three-year period. This compares favorably to the S&P 500 index, which returned only 6 percent during this period. However, as expected, during this period, 3 the differences among the three groups' performance were significant.

Although the Convert group as a whole created enough value to more than make up for its precipitous declines in stock prices during the period surrounding the Enron collapse, the statistic is misleading. Overall, the group created enough value to get back to where it started, but this was largely due to the success of three companies (out of 15): Exelon, TXU, and Edison International. Excluding these three companies, the group lost an average of $1.1 billion over that time period.