Aquila Inc. took a major step in its “repositioning” efforts on Monday, reaching agreement with two sureties to discharge the guarantees of four prepaid natural gas supply contracts. Release from the supply contracts, which represent 92% of Aquila’s prepaid gas obligations, lifts a heavy burden off of the Kansas City-based utility as it works to exit its unregulated businesses.

The four contracts will be discharged by Chubb Group of Insurance Cos. and St. Paul Travelers, and are between Aquila Merchant Services (AMS), an unregulated business that Aquila is exiting, and two parties — American Public Energy Agency (APEA) and the Municipal Gas Authority of Mississippi (MGAM). The agreement settles the company’s long-standing litigation with two Chubb companies, Federal Insurance Co. and Pacific Indemnity Co., as well as a demand by St. Paul Travelers to support its surety bonds (see Daily GPI, June 24).

During a conference call with financial analysts to discuss the transaction, CEO Richard C. Green said Aquila has made “key progress” in its restructuring efforts, especially in the past few months. “While much hard work remains, these initiatives are an important step toward improved financial performance in the years ahead,” and an “important milestone” to become a financially strong, regulated utility.

Even though most of its unregulated business has now been dissolved, Green said “we still have a basket of non-strategic assets we continue to evaluate,” and the company is determining strategies to deal with the remaining properties.

Under the deal announced Monday, Aquila will provide $485 million to Chubb in support of the surety bonds for two contracts with APEA. Aquila and Chubb jointly filed with the U.S. District Court for the Western District of Missouri to dismiss the current litigation between the two companies.

To support the St. Paul Travelers surety bond on the MGAM contract, Aquila will provide $90 million to St. Paul Travelers. This settlement further requires that Aquila will immediately provide $25 million in support of the surety bond executed by St. Paul Travelers on another APEA contract and take additional actions in the coming months to support the remaining position under this bond.

Aquila also is working to terminate three prepaid natural gas supply contracts in its unregulated business portfolio, which represent 75% of its prepaid supply contract obligations. Two of the contracts are with APEA and one is with MGAM. As part of that process, Aquila is offering to make arrangements for an alternate gas supplier that can continue supplying natural gas to APEA and MGAM. The contracts are structured to address the situation where AMS terminates deliveries of natural gas, and the public agencies consequently would be financially protected by the surety bonds.

Aquila’s regulated natural gas utility operations in Nebraska, which serve 190,000 customers, will not be affected by the contract terminations with Lincoln, NE-based APEA. Aquila inked several long-term contracts over the years with APEA, which supplies gas to a group of Nebraska municipalities, including its last long-term contract in 2000 to supply 154 Bcf over 12 years to members (see Daily GPI, Aug. 29, 2000).

Although the announcement was released after the markets had closed, the news should come as a relief to investors. UBS analyst Ronald Barone said last year that he doubted Aquila would be able to make any money until it exited the pre-paid contracts and reduced its debt (see Daily GPI, June 2, 2003). And last month, Fitch Ratings said the contracts “persistently drag on cash flow,” which is “viewed to be critical for financial recovery.”

The company also plans to amend its shelf registration statement with the Securities and Exchange Commission (SEC), which currently provides the company standing authority to issue up to $712.5 million in securities. The amendment consists of only technical changes, and there will be no changes to Aquila’s existing shelf capacity, the company said. It also plans to file applications with the Federal Energy Regulatory Commission and with state regulatory agencies to allow alignment with the SEC shelf registration statement and ensure capital market access.

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