Bloomberg News

Reliant Energy Posts Loss as Natural-Gas Costs Surge

February 21, 2006

Reliant Energy Inc., the second- largest Texas power retailer, posted its 10th loss in 13 quarters as cost for natural gas used to fuel generators surged.

The fourth-quarter net loss narrowed to $158.1 million, or 52 cents a share, from $264.4 million, or 88 cents, a year earlier, Houston-based Reliant said today in a statement. Revenue jumped 34 percent to $2.62 billion.

Fourth-quarter costs for purchased electricity and natural gas jumped 40 percent to $2.48 billion, Reliant said. The power producer has said it will have a $100 million first-quarter loss on its largest business, power retailing in Texas, after locking in higher gas costs than it will be able to pass on to customers under an agreement with regulators.

``It is not a result we were happy with in general,'' said Lasan Johong, an analyst at RBC Capital Markets in New York who rates Reliant shares at ``outperform'' and doesn't own any. ``The first quarter is obviously going to be somewhat poor.''

Excluding such items as changes in the valuation of energy contracts and costs related to legal settlements, the per-share loss from businesses the company is keeping widened to 49 cents from 36 cents, Reliant said. The power producer was expected to lose 33 cents a share, the average estimate from 13 analysts surveyed by Thomson Financial.

Shares of Reliant fell 27 cents, or 2.6 percent, to $10.15 in New York Stock Exchange composite trading. The stock has dropped 21 percent in the past year.

Gas Prices Soar

U.S. gas futures surged to a record in December amid concern producers wouldn't be able to keep pace with demand after Hurricanes Katrina and Rita idled most wells in the Gulf of Mexico. The jump in fuel prices forced Reliant to put up more collateral to ensure that it would honor its supply commitments to customers.

Reliant also had to adjust its valuation of power-supply contracts, reducing fourth-quarter earnings by 17 cents a share, the company said. The company must make such adjustments, called mark to market, each quarter to reflect market prices for power and the fuel used to produce it.

The adjustments represent a snapshot of what losses or gains would be if the energy contracts were immediately liquidated. Reliant is required to account for market fluctuations even when it locks in profits through agreements that fix fuel costs and the prices it will be paid for power.

Hedging Reduced

Reliant is reducing its use of hedging, contracts that lock in prices, after miscues last year led to increased costs and collateral requirements. Costs to eliminate hedges totaled an estimated $415 million last year and will be $643 million this year, the company said on Feb. 8.

``The complexity and cost associated with hedging substantially outweighed the benefits,'' Chief Executive Officer Joel Staff told investors today on a conference call. ``Thus we're taking steps to reduce wholesale hedging.''

Fitch Ratings last week downgraded Reliant's debt by one level to B, four notches below investment grade. The rating cut reflects increased risk as Reliant reduces hedging, said Hugh Welton, an analyst for Fitch. Providing collateral for hedging contracts reduced Reliant's cash flow, he said.

``With all the gas-price volatility, that's become very expensive for them,'' Welton said today in a telephone interview. With the new strategy, ``they'll basically be at the mercy of the market.''

`Cash Is the Lifeblood'

When gas prices go down, a company that has hedged its fuel purchases is locked into paying more than market prices. When gas prices go up, such a company is protected from a drop in earnings but has to put up more collateral, Dynegy Inc. Chief Executive Officer Bruce Williamson said.

``When the industry hit its trough, it wasn't about the earnings, it was about the cash and liquidity,'' Williamson said in a Feb. 9 interview. ``Cash is the lifeblood of what runs a company. The income statement is an arithmetic exercise.''

Houston-based Dynegy, which produces power in 12 U.S. states, has opted against hedging.

Reliant's operating cash flow from continuing operations was a negative $1.11 billion last year. Free cash flow, which also includes collateral that was returned, fell to $22 million in 2005 from $274 million in 2004, Reliant said.

After gas prices dropped last month, Reliant may have to cut power rates to stay competitive, said RBC's Johong. Staff said it's too early to tell how competitors will react.

`Competitive Dynamic'

``We think the competitive dynamic as we move into the summer depends on what the competition's willing to do associated with aggressive marketing,'' Staff said.

Reliant had a full-year net loss of $354.6 million, or $1.17 a share, compared with 2004's loss of $29.4 million, or 10 cents. The loss last year included costs to settle allegations of manipulating power prices during the California energy crisis of 2000 and 2001. Reliant agreed to pay $460 million.

TXU Corp., based in Dallas, is the largest Texas power retailer.

To contact the reporter on this story: Amy Strahan in Houston at astrahan@bloomberg.net.

To contact the editor responsible for this story: Robert Dieterich at rdieterich@bloomberg.net.


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