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A Constellation Of Risks

Will the deal with FPL serve the best interests of ratepayers? 

Fortnightly Magazine - February 2006

increased customer usage because of hotter-than-normal weather, which increased the company’s cost to serve fixed-price, load-serving obligations.

Steve Fleishman from Merrill Lynch says that while “CEG is the largest player in the load-serving business of both wholesale and retail consumers … periods where load and power prices are higher than expected can present challenges to this type of business model.”

Fleishman adds that “the current high-priced environment creates near-term headwinds for New Energy [Constellation’s retail division] as customers are more likely to stick with lower-priced POLR [provider of last resort] alternatives where available.”

Meanwhile, regulators may be surprised at the lack of cost cutting. Reuters quotes Deutsche Bank analyst Robert Rubin as admitting that the deal was more about strategy than cost cutting and efficiencies. Rubin tepidly calls the merger not a “bad thing,” but state and federal regulators should be extremely skeptical of any merger that does not promise significant belt tightening and cost cutting on the part of the merger partners.

At Bank of America, research analyst Shelby Tucker adds, “We question the effectiveness of having members of the management in two headquarters.”

The Ugly Optics of the Deal

Investors—both FPL and Constellation stockholders—blogging on the Yahoo! investor site, in equal numbers have voiced the opinion that they may not be getting fair value. They suspect the deal’s real purpose is to line management’s pockets. Certainly, Constellation’s management has done nothing to allay these concerns.

Many have criticized the deal received by Mayo A. Shattuck III, Constellation’s CEO, who would get as much as $15 million (several times his yearly salary) should he be forced out within a year. Also, the insider selling among Constellation’s management has many stockholders worried about whether something is wrong at the company.

Seasoned investors see it as a bad sign when the captain of the ship and his lieutenants are selling. Who can forget what happened at Enron? Records at the SEC show that on Dec. 21, Shattuck cashed in options worth $61 million. On the same day, Constellation CFO E. Follin Smith cashed in stock for almost $16 million. And most troubling of all, there was Thomas V. Brooks, the president of the company’s highly touted commodities group, also cashing in for $21 million and change.

Perhaps Brooks was saving up for a Learjet for Christmas, but it looks bad from an investor standpoint. The Constellation management should have known better.

Yet, even as FPL stockholders worry about the risks involved in buying Constellation, some Constellation shareholders feel that FPL isn’t paying top dollar. One blogger on the Yahoo! investment site, operating under the name burnintoo, names five reasons that “the deal sucks”:

  1. A 15 percent premium is not very good.
  2. The time period the premium was calculated over is disadvantageous to CEG [Constellation Energy Group]. For the 20 days through 12/13, CEG had an average price of $53.44. In comparison, for the 6 MONTHS ended 12/13, CEG had an average price of $56.76. That’s 6 percent, or 40 percent of the “premium” right there.
  3. Estimated cost reductions (three years out) total less