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James Flanigan

Utilities Return to Reliability

March 02, 2003|James Flanigan

Now that the plug has been pulled on the ill-fated concept of energy deregulation, a funny thing is starting to happen among the nation's electric companies: They are emphasizing predictability of power supplies and stability of dividends for investors, just the way the industry used to do some 20 years ago.

You can see this back-to-the-future approach in the Midwest, for example, where Cinergy Corp. and Ameren Corp. are moving four of their unregulated power generating plants into regulated utility systems.

These two major companies are doing so in part to shore up reserves of standby power, reviving the old practice of keeping a surplus on hand to meet the kind of peak demand that occurs on hot summer days, when air conditioners are turned up full blast.

The push into the regulated arena marks a profound shift from the pattern of the 1990s. At that time, many companies emphasized their non-utility investments in "merchant" power plants, which supposedly stood ready to supply vital electricity wholesale on an hour-by-hour basis, reducing the need for prudent reserves.

Financial markets made abundant capital available to build such power plants, persuaded by arguments that the enormous U.S. electric industry -- more than 3,000 companies and $300 billion in annual revenue -- was going to blossom into a rapid growth business worthy of celestial stock prices.

The collapse of that craze has left a lot of companies trying to cope with rising losses and massive debts to repay.

But it is at this low point that an industry reformation is beginning. Companies are realizing that "utility investment rarely goes terribly wrong; non-utility investment rarely goes right," says analyst Christopher Ellinghaus of Williams Capital.

The result: The industry is again investing in transmission lines and distribution networks -- the fundamental assets on which they are allowed under state regulation to earn a return.

And that is attracting Wall Street's notice. Steve Fleishman, an analyst with Merrill Lynch, is touting "plain vanilla" utility operations such as Cinergy and Pepco Holdings, which serves the Washington, D.C., area.

In California, which is suffering the aftermath of a ruinous experiment in electricity deregulation, the major utilities are looking past present losses to a day when they will return to strength.

PG&E Corp. last week reported a $2-billion deficit for the final quarter of 2002, owing to the troubles at its non-utility generating company, National Energy Group. But the old regulated utility, Pacific Gas & Electric, turned a profit.

Similarly, Edison International of Rosemead posted a fourth-quarter loss, but the regulated side of the company -- Southern California Edison -- did just fine. It made $153 million for the period.

A big key going forward for Edison: putting money into its traditional business. "We will invest $1 billion this year in maintaining our utility system," says Edison Chairman John Bryson, adding that the firm "would be eager to invest in transmission lines in the Southwest" depending on certain policy decisions at the state and federal level.

Edison would even be eager to invest in new power plants within the regulated universe, Bryson says. He foresees renewed energy shortages in California by 2005 because of rising demand and the need to renew old generating stations.

"Building and operating electrical plants and transmission lines," he says, "is the work that we know how to do."

Bryson, who hopes to restore his company's dividend by year-end, thinks the trend among utilities nationally is much the same: He and colleagues are striving for "prudence."

The move toward the old value of reliability does not mean that electricity will be cheap for consumers. In California, companies and regulators agree on the need to keep a 17% reserve of power for peak loads, Bryson says, and such capacity will have to be financed.

What's more, natural gas prices are rising because of an imbalance in supply and demand. Most new electric plants are fed by natural gas, and that is adding 25% to the country's annual use of the fuel -- to

30 trillion cubic feet a day -- even as domestic gas production is declining 2% annually.

But shortages of power and fuel can be self-correcting. The important trend is that, at least for the moment, the attempt to deregulate the electricity business is over -- and chastened companies are going back to the basics.

To be sure, something has been lost with the demise of deregulation. Specifically, the promise of greater choice and lower prices for industries and consumers has been dashed.

But something maybe even more important has been gained: a power system that can be counted on. That's certainly crucial in an economy that is increasing its use of electricity 2% to 3% year after year, and simply can't afford for the lights to go out.


James Flanigan can be reached at jim.flanigan

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