Merchant Energy Meltdown Seen Nowhere Near Its End
By ANDREW DOWELL
Of DOW JONES NEWSWIRES
(This article was originally published Thursday.)
NEW YORK -- If merchant energy companies see a light at the end of the tunnel, they can be pretty sure it's an oncoming train.
The outlook for a sector that has seen nothing but bad news this year got even worse this week, as concerns about a cash crunch left shares priced in some cases in cents and bonds at levels that indicate a high risk of bankruptcy.
As bad as it is, though credit and industry analysts said the sector still hasn't hit bottom. Investigations into accounting and trading practices have just begun, and collapsing electricity prices aren't expected to turn around for perhaps another two years. Moreover, merchant energy companies are now caught up not only in their own mess, but also in the broader crisis of confidence in the markets that the collapse of their erstwhile leader, Enron Corp. (ENRNQ), helped bring about.
If the broader market can regain its footing, and if the wounded can somehow limp through the coming months, then some of the companies that pioneered the country's deregulated power markets may yet survive. But the odds are long, and credit analysts say as many as a half-dozen companies face some risk of falling into bankruptcy.
"I think there are several that could go," said Dot Matthews, utility analyst at independent credit research firm CreditSights.
Below A Buck
A number of the sector's once-leading lights have come under severe financial stress in recent months. Concerns are now focusing on Williams Cos. (WMB) and Dynegy Inc. (DYN). Their shares have fallen below $1 this week, down 95% from a year ago, as both failed to close key financings, while Dynegy warned its cash flow could be 40% lower than expected due to weakened energy markets.
Other highly leveraged companies, such as AES Corp. (AES), Calpine Corp. (CPN) and Reliant Resources Inc. (RRI), have also been hammered.
The concern is that energy companies, unable to raise funds by selling shares or bonds, will also fail to roll over bank debt, forcing a bankruptcy, said Arleen Spangler, a director in the utilities, energy and project finance group at Standard & Poor's.
"Obviously, access to capital is closed for most of these participants, which is a big problem for a lot of them," Spangler said. "Some companies may opt for strategic bankruptcy."
Banks don't like to trigger bankruptcies, and S&P is picking up indications that they are likely to forebear, but there's no guarantee, Spangler said.
"It's very difficult to say whether they can get through this period," she said.
Dynegy and Williams both declined to comment, beyond to say they were working to resolve issues regarding their liquidity.
Drubbing Seen Overdone, Overdue
A number of analysts argued that the deeply troubled sector's beating has been overdone: Unlike the dot.coms, energy companies have real assets that make real money, and they provide services that people and companies need.
Others, however, added that the sector's weak managements, business plans and financial structures have finally come in for long-overdue scrutiny. Moody's Investors Service has argued that the current crop of merchant energy companies are too weak to trade power.
That sentiment was echoed by Dan Gordon, president of Allegheny Energy (AYE) unit Allegheny Energy Global Markets, who said at a recent conference that the sector isn't up to the task of managing risk.
After years of being hyped as by Wall Street as the next growth story, companies are scrambling to rework their operations. But analysts said the fixes won't necessarily help, and investors likely aren't patient enough to give all of them the time they need.
"I would say that every independent company in this sector gets restructured," said Gerald Keenan, a partner in the energy strategy practice at PWC Consulting. "They don't all have to disappear, but they aren't going to look like they are now, and I think the equity holders are going to be sad, sad people."
Bad credit has left companies unable to transact in the markets they were set up to ply, except at great cost. Of the Top 8 U.S. power traders at the end of 2001 according to trade publication Power Markets Week, only two - Duke Energy (DUK) and American Electric Power Co. (AEP) - are still trading actively. The rest have cut back their operations or have been shunned by wary counterparties.
No fewer than five companies - Mirant Corp. (MIR), Dynegy, Williams, Aquila Inc. (ILA) and Calpine - are looking for partners to help support their trading operations. Those partners haven't shown up yet, and industry observers don't expect them to.
The banks, oil companies and European utilities seen as the most likely candidates to jump in aren't keen to take on the sector's taint at a time when their own performance is under heavy scrutiny and when the punishment for perceived missteps is as severe as it is now, said Steve Fetter, a former utility analyst at Fitch and now president of energy advisory firm Regulation UnFettered.
Banks in particular, have been left even less likely to get involved by the hammering they took this week on their dealings with Enron, Fetter said.
"All of these companies are trying to stabilize their own situation, as opposed to going out and looking for things that are the least bit unusual," he said.
Threats To Efficient Markets
With no one riding to the rescue, companies are left to try to stay afloat by selling off assets - a survival method that remains untested. Lots of companies are putting pipelines and power plants up for sale, so the market is glutted, Spangler said. And few have sold, so valuations aren't clear.
Moreover, buyers have the option of waiting until the assets end up in bankruptcy court, where they can pick and choose, observers said.
The reliability of electrical service hasn't been threatened by the meltdown and isn't expected to be. But the withdrawal of key companies from the wholesale power markets has reduced liquidity and is starting to impinge on their efficient operation, said Paul Joskow, a professor of economics at the Massachusetts Institute of Technology and an expert on electricity deregulation.
Power is still easily available in the spot markets, but long-term deals tailored to users' specific needs have all but dried up, as companies lack the credit to offer them. That has foreclosed important options, he said.
"I don't think it's reached a crisis stage yet, but I think it's becoming a problem," he said.
Also at risk, he said, is the next round of power-plant construction, which will be needed to meet demand in the second half of the decade. Plants going up now were planned years ago. With the markets oversupplied, merchant generators are slashing spending, and no one is stepping up to replace them, he said.
Last week, William Hederman, director of the Federal Energy Regulatory Commission's new office of market oversight, said his main concern about the markets was the worsening financial weakness of their participants.
So far, the markets have managed to work failing companies like Enron out of transactions pretty smoothly. There are concerns, however, that more bankruptcies could have a knock-on effect.
"The whole market is interdependent," said David Owens, executive vice president of the Edison Electric Institute, an industry group.
-By Andrew Dowell, Dow Jones Newswires; 201-938-4430; andrew.dowell@dowjones.com
Updated July 26, 2002 8:35 a.m. EDT |
