By some measures, merchant power assets look like a bargain, selling for well below their replacement cost. But whether low prices signal a buying opportunity or a value trap depends on the...
Asset Ownership Takes New Shape
The North American electric-power sector remains highly fragmented, with much consolidation potential.
During the last few years, the generating asset-ownership structure in North America has gone through a major change. The recent boom-and-bust cycle has created a different generating plant asset-ownership landscape. During one of the most severe bust cycles of the industry, and the gradual recovery of the markets, significant amounts of assets have changed hands. Between 2002 and 2006, about 144 GW of generating assets have been sold. Average asset value for these transactions was at $441/kw. 1
We saw significant activity in this area during the first quarter of 2007, and the general expectation in the industry is the remainder of 2007 will be busy, too. We expect more activity during the second half of the year.
Figure 1 shows the number of transaction deals we have seen between 2002 and 2006. The deal count peaked in 2004, with 60 counted deals based on the closing dates. This peak was driven mostly by the energy companies selling their assets as they struggled to improve their balance sheets.
During this period there were several project-financed assets that defaulted. Because the markets were not robust enough, most of the lenders have set up companies to operate the assets until the markets allow them to recover their debt. Although we do not count these cases as deals, this was a major development in terms of ownership structure.
Figs. 2 and 3 tell us the story about who is involved in these transactions. As we went through the bust cycle, the majority of the sellers were unregulated/diversified companies, developers, and independent power producers (IPPs). On the other side of the table were the private equity and financial investors grabbing a major chunk of distressed assets from 2003 through 2005 (see Figure 2) . Some of these opportunistic buyers and banks have started offloading these assets in 2005 and 2006 (see Figure 3) . Financial players have sold about 17 percent of the assets transacted between 2002 and 2006.
For diversified energy companies on the sell side, such as Aquila, El Paso, TECO Energy, Duke Energy, and Allegheny Energy, their transactions represent a strategic shift away from the unregulated power business. In many cases this was, by necessity, a “back-to-basics” tactical move. About 55 percent of the plants sold during the past five years came from the non-regulated merchant affiliates of investor-owned utilities (IOUs) whose assets lost significant value with the increasing uncertainty in the trading business. Next came the IPPs, which sold about 20 percent of the assets transacted between 2002 and 2006. Some IPPs like Calpine and Mirant experienced bankruptcy, while others, such as Dynegy and NRG, embraced leaner, more focused business models. New players also have entered the industry.
As the pioneer financial players see the return on their investment, we expect some of them to continue to cash out, in a fashion similar to the Texas Genco sale to NRG.