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Edison Mission Earnings Hit by Gas Prices, Carbon Issues

Despite reporting increased profits for all of 2008, Edison International senior executives were verbose about depressed natural gas prices, but downright closed mouth March 2 regarding a delayed general rate decision for its utility, Southern California Edison Co. (SCE). The lower gas prices, executives said, may impact near-term prospects for the holding company's independent power unit, Edison Mission Group (EMG), which had a rough fourth quarter last year.

Edison CEO Ted Craver said the company would take no questions about the controversial $2.1 billion SCE rate case.

Depressed wholesale natural gas and power prices, along with the prospects for curbing emissions to meet anticipated future carbon constraints, combined to drive down earnings in the fourth quarter for Edison Mission, the parent company reported as part of a conference call on its year-end 2008 earnings, which were up 4% over the previous year. Prospects for EMG this year are not much better, according to Craver.

Overall, 2008 earnings under generally accepted accounting principles (GAAP) totaled $1.215 billion, or $3.69/share, compared with $1.098 billion, or $3.33/share, for 2007. For the fourth quarter, similar GAAP earnings were $217 million, or 66 cents/share, compared with $211 million, or 64 cents/share, for the fourth quarter of 2007. EMG earnings were down for the quarter ($81 million vs. $99 million in the same period in 2007), and utility earnings up ($141 million vs. $120 million for the fourth quarter of 2007).

Craver called the collapse of natural gas prices "stunning, both in its extent and its speed," adding that while it has been helpful to the SCE utility and its customers, it has hurt EMG's competitive energy operations. "Gas prices have, indeed, fallen sharply and EMG was affected by several other commodity prices as well," he said. "The current volatility in commodities makes the job of predicting market sensitivities even more difficult."

In looking at 2009, coal-fired generation plants, which comprise the largest component of EMG earnings, face lower expected earnings. It can be explained in the context of lower natural gas and power prices, along with increased in environmental compliance costs, collectively reducing the margins of the coal plants, Craver said. "Additionally, we have a decline in earnings from the 'Big Four' projects as long-term contracts with Exelon expire."

As a result, even without any formal earnings guidance yet for this year, Craver said EMG earnings are predicted to be a fraction of what they have been the past two years (in the 50-90 cents/share range in 2009, compared with $1.72/share for the past two years).

"It might be an oversimplification, but the drop in expected earnings per share is commensurate with the move in natural gas prices from a total of about $8.55 [per Mcf] to the current price of about $4," Craver said. "It is clearly the most important variable in explaining the lower earnings from EMG."

Since it was restructured during the last downturn (2002-2003), EMG has become more sensitive to downturns in the commodity price cycle because it no longer has its international power projects and the expiration of the transition contracts it had with Exelon for Midwestern (mostly coal) generation plants that it bought from the Chicago-based utility. It is more of a coal-fired generation operator, which the Edison unit is working to diversify away from in the years ahead.

"We're concentrating broadly on developing more renewable projects and selectively on some gas-fired plants," Craver said. "Earnings from the coal portfolio were increasing significantly as margins expanded with the commodity prices, but earnings are decreasing now as long-term contracts expire and are recontracted at much lower prices."

Craver said the energy unit's trading operations and its expanding portfolio of new wind projects "have more than offset the losses from coal."

Regarding the SCE utility, Craver said he had expected the California Public Utilities Commission (CPUC) to act on the rate case when it met in February, but the decision was delayed until this Thursday (March 12) amidst a chorus of consumer protests. The case sparked the state's major utility consumer organization to blast CPUC President Michael Peevey, who 15 years ago was president of the Edison utility and a member of its board. On the request of Commissioner Timothy Alan Simon, the five-member CPUC postponed any action or public discussion on the proposed $2.1 billion rate hike that would be spread over the next three years.

"In light of the pending decision, the scheduling of this investor call is awkward, and it would be unwise and disrespectful for us to comment on the GRC on this call -- either in terms of the decision's content or its impact on SCE."

As part of an outlook for 2009 coming off a year that he called "difficult for investors," Carver said Edison's stock declined in line with major market indexes, but "underperformed" in relation to the utility sector. "This same basic trend appears to be continuing so far this year," he said, attributing the continuation to EMG's sensitivity to depressed commodity prices in the ongoing down cycle in the economy.

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