 Calpine Calls Bankruptcy Rumors “Unfounded” - By Ken Silverstein Daily IssueAlert 5/11/2005 Free Calpine Corp. has always been at the pinnacle of the independent power sector. But, it too, has been unable to evade hard luck, although the merchant energy producer insists that it will wade through the current thicket. Calpine's tale is a common one: Restructuring of the electricity industry in the 1990s along with surging demand necessitated the construction of more power plants and particularly ones built to run on natural gas. But, the industry overbuilt and power prices subsequently fell and squeezed the merchant energy sector. Calpine saw its stock hit a record high of $57 a share in April 2001. Just last week at the height of bankruptcy rumors, however, the company's share price was slightly more than $2. Because forecasts made in the 1990s as to the future demand for power did not hold true, many lenders overvalued the energy assets used as collateral for the loans they made. That allowed unregulated independent power producers to borrow aggressively. The total merchant debt is $65 billion, due by 2012. While money is cheap today, the credit markets now give all their risks more scrutiny. In the case of Calpine, it has repeatedly called the “rumors”—spread in the last two weeks—that it would declare bankruptcy as “reckless” and “unfounded.” But, losses have mounted at the San Jose, Calif.-based energy provider. In the first quarter of 2005, it reported that it lost nearly $169 million compared to $71 million for the same time period last year. At the same time, the company is mired in $18 billion total debt, all from 92 power plants that it operates worldwide, including five facilities that it has opened in the last year. The good news is that demand for power is picking up and that the gross margins on its profits are less stressed and did grow by 24 percent over the last year. All told, revenues grew by nearly 9 percent, rising to $2.21 billion from $2.03 billion a year earlier. While cash flow is expected to remain weak, Calpine insists that it will maintain the liquidity to meet its debt obligations—noting that it has never missed a payment yet and trying to dispense with the notion that it would even consider bankruptcy. “Let me say unequivocally that these rumors are all false,” says Peter Cartwright, CEO of Calpine, in a conference call to Wall Street analysts. “While these rumors and subsequent trading pressure on our securities have created unnecessary distractions, they have not had an impact on how we do business.” The pressure on energy companies generally has been and remains intense: close to 200 were put on “credit watch negative” in 2002 alone. According to Standard & Poor's, downgrades in the merchant generation and trading sectors have slowed down as of year-end 2004 but at the same time, they have outpaced upgrades. The unregulated merchant business model has not changed much and no blueprint has yet to emerge to make those power sales and trades any less risky. “Stable is really the name of the game,” says Peter Rigby, utility analyst for Standard & Poor's at a UtiliPoint seminar on the industry's future prospects. “We don't see things getting any worse or better. But we still believe there is a greater potential for downgrades.” The mean debt to capitalization ratio for the entire utility industry is 60-40, says S&P. That's only changed marginally in recent years, it says, because it's too easy and too cheap to obtain debt financing today. Interest rates are low and banks have loosened their grip on the money, although they enhanced their due diligence efforts. At the same time, companies are selling assets that work to keep such ratios higher. Valuable Assets What's a company like Calpine to do? There is little capital recovery because the spark spreads are so low. That's the difference between the prices of natural gas as a feedstock and the market price for electricity. In other words, sufficient capital recovery needed to pay off the debt is not there and relief probably won't happen until at least 2010, say many utility analysts. That's because generation capacity margins in most regions of the country are well above the typical minimum of 15 percent. Meantime, demand growth has moderated as evidenced by annual gross domestic product rising 3 percent over the past decade with annual electricity growth increasing only 1.8 percent. Clearly, Calpine owns valuable assets, accounting for nearly 40 percent of all megawatts that will eventually be produced just in California where it is based, say regulators there. And its management is intent on improving productivity and cutting expenses in an effort to lift its junk bond status. Like all merchants, it is staggering debt maturities, negotiating bank loan covenants and maintaining bank lines of credit in excess of anticipated needs. But with 92 plants operating around the globe, the company is willing to sell some plants at fair market values to reduce its $18 billion debt. At the same time, recent projects undertaken by merchants remain exposed. Prior to construction, such companies received commitments for only 40-65 percent of the gas-fired power they were to generate. The idea was that the balance would be sold on the spot market for presumably more money than term deals—a model that fell apart as natural gas prices soared and as wholesale electricity prices plummeted because of soft demand and too much generation supply. Basically, the spark spread is so thin that some companies have trouble covering their fixed costs. “We remain on track to complete our previously announced programs of raising nearly $900 million of liquidity-enhancing transactions and repurchasing over $1 billion of corporate debt,” says CEO Cartwright. The sale most likely to occur first: the Saltend power project in the United Kingdom. Calpine is not out of the woods yet. But it is likely to avert bankruptcy in the short term, and in the long-term it can probably look forward to a more robust power market in which it can more fully utilize its power plants. Its goal is to generate enough cash to reduce its borrowing rate and elevate its bond rating—all while earning a comfortable profit margin. That's a far cry from its objectives in the 1990s, although it's the reality that it and all other merchants now face. UtiliPoint's IssueAlerts are compiled based on the independent analysis of UtiliPoint consultants. The opinions expressed in UtiliPoint's IssueAlerts are not intended to predict financial performance of companies discussed, or to be the basis for investment decisions of any kind. UtiliPoint's sole purpose in publishing its IssueAlerts is to offer an independent perspective regarding the key events occurring in the energy industry, based on its long-standing reputation as an expert on energy issues. Copyright 2005. UtiliPoint International, Inc. All rights reserved. |
