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California Dreamin'
By Christopher Edmonds
Special to TheStreet.com
Originally posted at 5:44 PM ET 4/2/01 on RealMoney.com
California just can't seem to get it right.
Friday's news that PG&E (PCG:NYSE - news) may take a nearly $7 billion charge against 2000 earnings -- just over $4 billion after tax -- to write down debt amassed in the wholesale power markets is a clear indication that things are getting worse in the Golden State.
The news caught one of PG&E's newfound bulls off guard. Credit Suisse First Boston power analyst Paul Patterson -- who had upgraded PG&E to buy on March 26 -- reduced his rating to hold on Monday, saying, "We believe the risk of bankruptcy for PG&E has not diminished and may indeed increase."
The story appears similar for California's other beleaguered utility, Edison International's (EIX:NYSE - news) Southern California Edison subsidiary. While Edison has yet to file its intentions with the Securities and Exchange Commission to consider a charge similar to PG&E's, a press release from the company late Friday suggests it may only be a matter of time.
"We must analyze the California Public Utility Commission's complex rate-hike decisions to determine their potential effects on our financial results, including possible earnings charges, and that will take some time," said Ted Carver, Edison's chief financial officer, in the statement. If Edison were to take a write-off similar to PG&E's, it is estimated that it would amount to about $2.7 billion.
But, wait a minute. Just last week, the California Public Utilities Commission, or CPUC, approved a 40% rate hike, a move cheered by analysts and investors as a big step toward solving the financial woes of Edison and PG&E. But then it became clear the CPUC would not allow any of the rate increase to be used to pay down the utilities' debt from earlier power purchases. The CPUC also is demanding the utilities join with the agency to take legal action against the generators for charging too much for power over the course of 2000.
Now, it is increasingly clear the rate hike authorized by the CPUC was nothing but a way for the state to pay for the power it is purchasing. "Late Friday, the CPUC determined that the entire $0.03 per kilowatt-hour increase will go toward DWR [Department of Water Resources] recovery," notes Patterson. The DWR is the state agency buying power on behalf of the credit-challenged utilities. That being the case, there is little in the rate hikes to cheer utility investors.
If California won't use a rate hike to make the utilities whole, there is little chance other alternatives will work. "Last week's comments from the utilities confirm our concerns about the prospects for these stocks and the uncertainty associated with the very politically charged environment in California," says Deutsche Bank Alex. Brown analyst Jay Dobson. "We are not convinced regulators will allow the utilities to earn a reasonable rate of return and the risk-reward on these stocks is not terribly attractive."
Progress on other fronts also appears stalled. California Gov. Gray Davis' plan to buy the state's transmission grid from the utilities has moved nowhere in the past month, although Davis had said the deal would be completed by mid-March.
PG&E reportedly is no longer in formal talks with Davis, while talks with Edison "are barely moving," according to one source. And there are rumblings now in the state capital that the Legislature may not approve the purchase of the transmission grid even if Davis reaches an agreement with the utilities.
The rate hike has consumers furious, and unsympathetic to the utilities' potential bankruptcy. "Because of political backlash from the recent rate increase, we do not believe there will be much legislative support for efforts to resolve the utility's financial difficulty," notes First Boston's Patterson.
That reality isn't lost on the utilities' creditors, especially the generating companies that are owed hundreds of millions of dollars by PG&E and Edison. While none of the companies are willing to comment on legal strategies being considered to collect the debt, it is clear that many are running out of patience.
Companies like Dynegy (DYN:NYSE - news), Duke (DUK:NYSE - news), Mirant (MIR:NYSE - news) and Reliant (REI:NYSE - news) have all said they want to remain patient as long as a solution appears in reach.
More recently, however, all have expressed concern about the pace of progress and have suggested they must get the money they are owed for past power deliveries. While an involuntary bankruptcy filing isn't imminent, the possibility of creditor action is gaining momentum. Forcing the utilities into bankruptcy "gets a little closer every day," says one source close to the process. "The generators won't let this go on forever. Patience is beginning to run thin."
Added Deutsche Bank's Dobson, "There is an historic game of brinkmanship going on here. And, there is a brink."
Given the game, Patterson's downgrade to hold appears optimistic.
The Urge Not to Merge
On the heels of the end to the ConEd (ED:NYSE - news)-Northeast Utilities (NU:NYSE - news) engagement to merge, Monday's announcement that the marriage of Entergy (ETR:NYSE - news) and FPL Group (FPL:NYSE - news) will end before it began suggests utility mergers are tough to consummate.
The inability to get the ConEd-Northeast deal done was surprising. That combination would have created a stronger New York utility.
However, I was never convinced the merger between Entergy and FPL, the parent group of Florida Power & Light, would come to fruition. First, the cultures of the two companies are very different. Additionally, the merger synergies appeared minimal, given that FPL and Entergy operate in noncontiguous territories.
In fact, the merger might have had trouble gaining regulatory approval because there was no direct interconnection between the two utilities. And standing between the two companies was one of the nation's largest utilities, Southern Company (SO:NYSE - news). In addition, one investor suggests Entergy's recent trading and marketing alliance with Koch Industries may have complicated the merger.
That doesn't mean both won't look for other partners. While the termination agreement could require either company to pay a termination fee if another deal is struck within nine months, it is likely both FPL and Entergy aren't satisfied to remain independent. Look for companies like Duke, Reliant, Southern and AEP (AEP:NYSE - news) to surface as names in the mix for future partners. |
