WHEN UTILITIES SAY THEY WILL "EXIT" THE generation business (em their stock in trade for the last 50 years (em what does that mean exactly? And what of those that plan to "concentrate" on transmission and distribution? Can you visualize a T&D utility? What would it look like? How many employees? How big a dividend? It's time to ponder these questions.
And what better place to delve deeper than at Florida's Disney World, where dreams come true, and where the Edison Electric Institute just concluded its annual Financial Conference, to which the EEI invites credit analysts, equity analysts, investment bankers and other Wall Street types to put some hard questions to the financial officers of the nation's major electric companies.
The analysts came in droves. From what I saw, Wall Street appeared very skeptical of a restructured electric utility left without generating assets. After all, can you name a U.S. utility that has set up a profitable, standalone wires business?
The questions at the conference ran something like this: Where is the shareholder value in a T&D company? How do you (the utility) evaluate the T&D business? What is the capital structure? What should an investor measure (em cash flow, asset appreciation, dividend growth? With very few exceptions, the answers that came back did not appear convincing.
To be fair, the utilities have brought this cynicism upon themselves. Appearing almost glib, they have embraced the sale of generating plants perhaps too willingly. John E. Hayes Jr., chair and CEO of Western Resources Inc., struck the tone: "You cannot be in love with the machinery. You have to be willing to let it go."
And so, the utilities continue to file their divorce papers. They agree to sell off their generation, seeing no margin in power production. But I don't buy it. The utilities themselves don't seem to have their hearts in it. They're still in love with the machinery.
* * *
"There is no money to be made in power trading today. It's all just brag-a-watts," says Charles M. Oglesby, president and COO of the HI Trading and Transportation Group, part of Houston Industries Inc.
Stephen W. Naeve, executive vice president and CFO at the parent company tells why: "Some power marketers are doing deals at a loss. They're willing to take a 'haircut' just to boost volume so that they will get onto the top-ten list."
Nevertheless, Houston Industries is bullish on generation. It sees the generation business as merging with power marketing to become power wholesaling (em a single unified function full of untapped value for those who are willing to play the new game as it must be played. Thus, it will sell some the generating assets serving its present retail territory, but will buy more on a merchant basis in other locations.
Contrast that strategy with GPU Inc., which is closing its Oyster Creek plant and intends to sell Three Mile Island. The company says it has signed a confidentiality agreement with a potential party interested in buying nuclear assets. Even overseas, GPU says it will sell off a piece of Solaris Power to become eligible to buy all of PowerNet, the regulated grid company in Victoria, Australia. Said Bruce Levy, president and CEO of GPU International Inc., "GPU is used to being a regulated business. We don't mind being a regulated business."
Fred D. Hafer, GPU's president and COO, summed up their plan to exit the generation business: "This was one of the most gut-wrenching [decisions] of all. It's very difficult to let go of a member of the family. But our plants are located in an area of excess capacity. To compete you need to be bigger and you need to have plants located over wide areas (em all over the country and all over the world.
"We will exit a business that we feel we cannot compete in, since it is going in a merchant direction. We will grow T&D assets horizontally and acquire other regulated commodity transport and distribution systems."
And how big does the domestic T&D business need to be? "It's 2 billion [dollars] now," said John G. Graham, GPU's senior vice president and CFO. "But we think you might need 6 to 8 billion."
At Houston Industries, I saw a different way of thinking. Forget about your current list of plants. Don't fish or cut bait on that basis. Don't worry if your plants look unprofitable; after all, you would never have put together that exact portfolio if you had known then what you know now. Instead, ask a different question: "How can you buy or sell generating assets to assemble a new portfolio of plants that will earn a profit?"
Oglesby at HI Trading offered the most cogent presentation on how to run a merchant generation business that I've heard yet. It's obvious that he relishes the idea of competition.
According to Oglesby, merchant generating plants will be selling largely into a competitive power exchange, with demand and supply bidding, so when you choose your portfolio, you want to own plants that operate on the margin. Picture a traditional supply curve from your Econ 101 textbook. Says Oglesby, you want to own plants that operate on the right-hand side of the curve (em where the curve starts moving upward at a steep slope.
In fact, he sees no problem at all in owning and operating a high-cost plant that might not be dispatched but once or twice a year, and then only for a few hours.
Oglesby acknowledges that utilities might have to play a few tricks to make generation profitable. "We have a lot of experience dealing with summer peaks and dispatching plants. When you operate on a merchant basis, and sell into a power exchange, you can watch the price climb during the day. We might decide to hold our plant off the market at 12 noon, even if the price looks favorable, because we know we can get a better price at 4 p.m. We think we know a little bit about what will happen if we hold our plant out for a few hours. We can play on that expertise."
Imagine that. Did I just hear a utility say that it might try to "game" the generation market?
On the other hand, you can surrender and become a T&D-only utility, sticking to your so-called core competency. It's a game plan, I guess, but is T&D the right game?
Putting on a Spin?
WAS EEI trying to spin its financial conference to convince its utility members to give up their merger dreams?
It sure looked that way, especially when one of EEI's invited speakers, Mitch Diamond (vice president, energy practice, Booz-Allen) stepped up to the microphone. Here are some tidbits from Diamond's sermon against mergers and acquisitions:
"Most diversified businesses actually destroy shareholder value. They do poorly compared to less-diversified businesses."
"Spinoffs of small companies from diversified businesses begin within 18 months to generate 30 percent more value than before, when they were part of a diversified conglomerate."
"Executives often tend to talk about synergy and leverage because they have to do that to justify the corporate center as essential."
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