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BusinessWeek: January 11, 1993 |
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Industry Outlook: Services
TIME TO TURN UP THE JUICE Paquette's moves are just one example of the medicine that utilities are swallowing to get ready for the deregulation that's about to sweep their industry. Starting in 1993, the Energy Act that Congress passed last October is likely to lead to a major restructuring of the industry by speeding up existing trends such as cost-cutting, mergers, and the growth of so-called independent power producers. "It's going to dramatically change the way we do business," predicts Richard C. Green Jr., chairman of UtiliCorp United Inc., a diversified utility company based in Kansas City, Mo. "In a sense that we haven't felt in the past, we'll have to be market-driven." For starters, the new legislation lifts most of the restrictions on independent power producers, who build generating plants and contract to sell power to utilities at market rates. Independents aren't subject to all the heavy regulations that burden utilities, and their share of U. S. electricity production has already jumped to 8% from zilch 12 years ago. With deregulation, predicts Daniel Scotto, an analyst with Donaldson, Lufkin & Jenrette Securities Corp., independents will build up to 75% of all new generating capacity, up from about half now. NEW RIVALS. Just as important, the law opens the wholesale power market to new competition. Potentially, any producer, including an independent, will be allowed to transmit power anywhere over the nation's electric lines, as long as it pays for the privilege. This means that a utility needing more capacity will be able to shop around and buy power at market rates from independents or utilities far from its territory. If it all works, competition will drive down rates. All this is hitting just as utilities struggle to recover from a lousy 1992. The recession and a cool summer kept demand flat and whacked earnings. Assuming an economic recovery this year, demand should grow 2% or 2.5%, says Thomas Kuhn, president of the Edison Electric Institute, the industry's lobbying group. Barring more unseasonable weather, adds Goldman, Sachs & Co. analyst Ernest Liu, pubhc utilities' net earnings could rise about 8% on average. The big question now: How far will deregulation go? What utilities fear most is retail competition, where outsiders could come in and pick off their best industrial customers by selling them power direct. For now, that's prohibited. But such analysts as Smith Barney, Harris Upham & Co.'s Edward J. Tirello contend that its inevitable. In fact, UtiliCorp's Green expects the beginnings of such a trend by late this year. "You'll start to see evidence of large industrial customers shopping around for cheaper power," he says, which will put pressure on regulators to allow more competition. "There are financial risks," warns Richard A. Clarke, chairman of San Francisco-based Pacific Gas & Electric Co. "Some utilities could be left with stranded investments" in high-cost generating capacity. FOREIGN CAMPAIGNS. To gird for such eventualities, many utilities are scouting new income streams abroad, where they're buying or contracting to run privatized foreign utilities. Houston Industries Inc., for instance, recently made its first foreign acquisition when, with Citicorp Capital Investors and two Argentine partners, it paid $139 million for 51% of a utility near Buenos Aires. Cost-cutting is also sure to continue apace. Philadelphia Electric now expects to reduce employment at its nuclear-power operation by up to 600, or 20%. And more big savings may come through mergers. For instance, the combination of Gulf States Utilities Co. in Beaumont, Tex., with New Orleans-based Entergy Corp., expected to be completed in 1994, will save $1.7 billion on energy, operational, and other costs over 10 years, Entergy estimates. To further deflect competition from rivals, most big utilities plan to rapidly expand their own independent power subsidiaries, something the new law makes far easier. Pacific Gas & Electric, for instance, is building $3 billion worth of such projects that will generate 1,500 megawatts of power, and it is considering adding 1,200 Mw more. Given such determination and financial clout, Clarke contends, the utilities themselves will one day dominate independent power. William T. McCormick Jr., chairman of cms Energy Corp., a large Dearborn (Mich.) utility holding company, agrees-sort of. With big companies such as General Electric, Bechtel, and Europe's ABB Asea Brown Boveri also investing in independent power, he says, "the survivers will be companies with a lot of experience and capital." In short, a new age is starting for the utility business. "The new legislation will create an industry that will look vastly different in 5 to 10 years," says Donaldson, Lufkin & Jenrette's Scotto. Companies that don't adapt now risk ending up at the back of the pack. | |
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