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CA AG Litigation Alive for Sempra; Settlement Sparks Utility Changes, S&P Praise

Despite its newly announced, widely praised settlement, Sempra Energy still faces four outstanding legal actions by the California Attorney General's Office -- three in the courts and one at FERC -- and the AG's spokesperson said Thursday the state law enforcement office plans to fully pursue all of the cases, alleging that California consumers are still due restitution for being "ripped off" during the 2000-2001 energy crisis by Sempra and some of its companies. Industry observers and regulators don't think these outstanding lawsuits lessen the significant financial value of the settlement, and in addition they point to more than $1.5 billion in noncash value from the agreement for both the state and company.

Standard & Poor's Ratings Services said Thursday the agreement on pending litigation does not alters Sempra's relatively strong credit rating (BBB+/Sable/A-2), saying the settlement "represents the most significant of the various legal suits outstanding against the company."

California's AG filed in a state Superior Court last November, alleging that Sempra Energy's trading unit violated state laws in its practices in the wholesale electricity markets in 2000-2001, and in a second, more recently filed case (Nov. 21), the state AG alleged that Sempra's utilities misled the California Public Utilities Commission on its ability to sell gas to power plants in North Baja in Mexico and still meet its domestic needs during a time of high demand among its largest customers in San Diego.

The AG also is continuing to seek refunds from Sempra as part of the overall energy crisis refund case at the Federal Energy Regulatory Commission and is litigating issues surrounding the long-term power supply contract between a Sempra merchant power unit and the California Department of Water Resources (DWR).

Calling last Wednesday's announced settlement a "down payment," the AG's spokesperson Tom Dresslar said the state would continue "to pursue [the pending] litigation to get back the rest of the money that Sempra ripped off," according to a report in the Los Angeles Times.

Nevertheless, the settlement greatly reduces Sempra's financial exposure, and its litigation reserve has been whittled down to $130 million pre-tax, compared to a level five times bigger that was in place in light of the pending class action lawsuits that now have been settled. "If this settlement is ultimately accepted by the relevant [state] courts, we believe that the company has indeed succeeded in affordably resolving the vast majority of its California crisis legacy litigation risk," said Christine Tezak, in a Stanford Washington Research Group electricity policy bulletin issued Thursday.

Tezak has said that the California AG's pending lawsuits "are very weak on the merits," and they have a "high probability of failure." Sempra Chairman Steve Baum said the two most recent AG legal actions will be dismissed by the courts.

Sempra and industry observers are attaching substantial value for both the company and California energy consumers from the $350 million settlement agreement resolving claims in several class action lawsuits tied to the energy crisis, including the Continental Forge, Nevada and some natural gas price reporting cases. The agreement is subject to the approvals of the San Diego Superior Court where a jury trial is now ongoing, the Nevada District Court for Clark County, City of Los Angeles and the City of Long Beach, CA.

Sempra expects the approval process to take up to six months, according to Baum, who retires the end of this month. He stressed that Sempra and the utilities "vigorously deny any wrongdoing."

The comprehensive agreement includes payments by Sempra over the next eight years through 2013, with incentives for early payments providing a 7% discount. The deal will have no impact on Sempra's future earning from 2006 onward, said Baum, adding that Sempra was increasing its earnings guidance for all of 2005 to $3.60/share from a previous range of $3.40-$3.60/share. After-tax cost of the settlement is approximately $350 million, including a $100 million after-tax charge Sempra recorded in the fourth quarter of 2005.

"Far more important than the cash settlement, this agreement restructures Sempra's business practices and lets the bright California sun shine on its utility operations formerly conducted behind the company's drawn drapes," said Brad Baker, a partner with the Southern California law firm of Baker, Burton and Lundy, one of the plaintiffs attorneys trying the class action lawsuit against Sempra. Previously, the two Sempra utilities have operated their gas transmission/distribution operations in a "black box system," Baker said.

A Sempra attorney who helped negotiate the settlement placed its total value at $1.9 billion, attributing about $1.55 billion of noncash benefits, including some $860 million in savings that would come from the proposed merging of certain Sempra utility natural gas operations, $300 million from reducing the charges for the long-term DWR contract, and another $270 million savings to the state from Sempra voluntarily changing its flexible delivery points used in the contract, for which there are still six more years.

"This agreement will put the major pieces of energy-crisis litigation behind us," Baum said. "Above and beyond the costs to our company, this settlement will provide substantial benefits to millions of energy consumers in California and Nevada." In response to a question during a conference call with financial analysts, Baum said an adverse jury decision on appeal of the ongoing class action jury trial in San Diego would have been "fatal to the company, and we're not in the business of betting the company."

CPUC President Michael Peevey lauded the deal as a significant step in the right direction. "This settlement will provide significant economic benefits to electric and natural gas consumers in California, both in lower electricity and gas costs and in the structural changes in the natural gas operations of [Southern California Gas and San Diego Gas & Electric], which the CPUC will carefully review," said Peevey. "I hope all the parties not part of this settlement, including the state AG and the DWR, can resolve their outstanding issues with Sempra quickly."

While steadfastly maintaining that the holding company and its two utilities, did nothing wrong, the settlement requires that Sempra's companies voluntarily agree to structural and reporting changes for utility natural gas transmission, storage and procurement activities. Sempra said that assuming CPUC approval, the changes "will increase regulatory oversight of natural gas operations, enhance transparency of utility operations to market participants and provide large customers more choices as to how they can gain access to, and operate on, the utility systems."

In addition, Sempra voluntarily committed to sell to its California utility subsidiaries up to 500 MMcf/d of regasified LNG from its North Baja LNG terminal at a 2-cent discount to the California Border index price. The liquefied natural gas import terminal is currently under construction south of the border.

Sempra also will voluntarily modify the terms of its long-term power supply contract with the state DWR, even though both sides continue to dispute some aspects of the deal. Effective Jan. 1, 2006, and continuing for the remaining six years of the contract, Sempra agreed to lower by $4.15/MWh the price of power it sells to the DWR (off-peak now is $26/MWh and $31/MWh for on-peak). Sempra calls this a $300 million savings for the state.

"The impact will be recorded in 2005, and future Sempra Energy financial results will not be impacted by the discount," said Baum, clarifying that Sempra Generation Co., which has the DWR contract, has the option to pre-pay these savings, realizing a 7% discount.

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