Mixed results in slow financial recovery of 2002
Strategy changes poise companies to pick up the pace in 2003

Pam Boschee, Managing Editor

Wishes for a speedy financial recovery may have gone unheeded, but all indications suggest an optimistic prognosis for continued recovery‚Äďalbeit slow.

Although dramatic improvement is absent from EL&P’s 2002 financial rankings, the more significant observation is that the worst, for most, may be over. Most investor-owned utility holding companies found that the pruning of balance sheets and adhering or returning to the basics served them well, or at least prevented further decline and embarrassment.

The big picture

EL&P’s 2002 data (to view data tables, click here) was provided by The C Three Group, Atlanta (www.cthree.net), and PennWell’s MAPSearch, Houston, (www.mapsearch.com).

Data was derived from annual reports/ 10K, income statements, statements of operations, statements of cash flow, company FERC Form 1, electric operation and maintenance expenses, electric/

utilities operating data or statistics. MAPSearch included calculated data for electric operating revenues, electric operating expenses and net electric operating income.

Table 1 is the overview of electric holding companies. Table 2 presents capital expenditures, and Table 3 shows aggregate industry statistics.

Jean Reaves Rollins, The C Three Group, shared analysis from the group’s year-end review included in their recent report, “Diversified Business of U.S. Investor-Owned Utilities.” She highlighted the following in a recent interview with EL&P:

“- Total industry net income for 2002 was a negative $4 billion. Seventeen companies reported losses: AES, AEP, Aquila, CenterPoint Energy, TXU, Dynegy, Mirant, El Paso, CMS, DQE, Northwestern, NUI, PG&E, Reliant Resources, SCANA, Westar and Williams.

“- Comprehensive income, defined as net income plus or minus unrealized gains and losses from a company’s own investments, was a negative $21 billion. Rollins commented, “Many people aren’t paying enough attention to this number.”

“- Debt-to-equity ratios for the industry overall remain unbalanced. In 2002, shareholder equity was $223 billion while long-term debt was about $368 billion. About $74 billion long-term debt was issued while $54 billion long-term debt was retired.

“- Capital expenditures showed a $13 billion drop in 2002 when compared with 2001. Rollins pointed out that this number carries with it a “two- to three-fold multiplier in terms of trickle down [effects].”

Table 2 shows Duke Energy was in first place with capital expenditures of $4.9B. The overall average was $733M, down $117M from 2001. The 2002 median was $259M, down $36M from 2001.

The companies holding the top 10 slots held the same rank as last year or were shuffled around in those slots. The exception was Dynegy Inc., which fell from position 4 in 2001 to 25 in 2002.

Table 3 summarizes key aggregate industry statistics. Asset sales increased 73 percent from 2001 levels, a reflection of the merchant sector’s struggle with debt. Standard & Poor’s estimated a total of $80 billion coming due by December 2006. This total includes $23 billion coming due by December 2003.

Financially healthy electric utilities, (such as Entergy, Dominion Resources, FPL Group, DTE Energy) have been scouting the field for potential plant acquisitions.

Scott, Madden & Associates reported earlier this year that there has been a valuation gap between potential asset acquirers and lenders who are reluctant to allow a sale for less than the value of the debt.

However, asset sales will most likely continue at a strong pace in 2003.

What works, what doesn’t

Beginning in 1998, U.S. utilities formulated corporate strategies to prepare for deregulation. Because it takes time for strategies to bear fruit (or die on the vine), some conclusions can now be made from the review of the last five years.

According to a recent study by Lexecon, Cambridge, Mass., the winners appear to be those utilities that relied on traditional regulated utility assets. Those who ventured into international investments, merchant power generation, and non-regulated businesses did not fare as well.

Lexecon identified the top five companies in annualized shareholder return as Exelon Corp., Southern Co., Entergy Corp., Western Gas Resources, and PPL Corp. The bottom five companies in total shareholder return for the five-year period were Aquila Inc., Dynegy., The Williams Companies Inc., The AES Corp. and El Paso Corp.

Table 4, which shows trading and marketing revenue for 2001 and 2002, reveals part of the story for the bottom five companies mentioned above.

Although four (AES was the exception) were among the list of top 20 electricity traders in the spring of 2002, by spring 2003 they had exited trading entirely. Other companies, such as AEP, Duke Energy and Dominion pulled back substantially from the speculative power trading market.

Scott, Madden & Associates contend that the prevailing strategy of trading around core assets and long-term contracts will further decrease market liquidity, transparency and number of counterparties. More players are likely to exit.

In a spring 2003 report, Scott, Madden & Associates made the following points:

“- Trading is still important. With half a billion dollars of daily value at risk between power and gas, trading is the means to put boundaries around that risk.

“- The necessary establishment of an effective gas and electric clearing system may be several years away. Hurdles include lack of product uniformity, competition among clearinghouses, and difficulty in replacing counterparties in deals gone awry.

What lies ahead

In 2002, IOUs appeared to have halted the financial freefall of 2001. They ignored the death knells and managed to regain momentum in the right direction.

The intense attention now being given to transmission in the U.S. as a result of the August 14 blackout may drive changes that will be reflected in future rankings within these pages. However, even if federal and/or state directives provide the impetus for significant investment in this industry, the effects may not be realized until 2005 or later.

See companion article “Institutional investors cozy up to IOU favorites.”

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