Taking the offensive in what has become an increasingly stressful time for energy companies, Aquila Inc.’s CEO said last week the company may sell up to $1 billion in assets — twice as much as announced two months ago — in an effort to improve the company’s wobbling credit quality. It also has cut 200 employees from its merchant services and corporate staff and expects the previously announced reduction of 500 positions at its utility companies to be completed by July.

Aquila management said it has less confidence that it will meet full-year earnings targets of $2.20-$2.30 per share, which were higher than analysts’ consensus estimate of $2.16.

In March, Aquila said that it would sell up to $500 million in assets to ensure liquidity, but CEO Robert Green gave the higher figure during a conference call with analysts and investors. He did not provide details on what assets may be put on the sales block, but the company had about $12.3 billion in assets at the end of March.

Aquila’s asset portfolio includes electric and gas utilities, electric generation plants, a coal terminal and natural gas gathering, storage, pipeline and processing assets. Its Merchant Services unit markets and trades a diverse portfolio of commodities including natural gas, power, global liquids and weather derivatives. Aquila also serves about 6 million electric and natural gas utility customers in the United States, Canada, the United Kingdom, New Zealand and Australia.

As part of its paring down, the Kansas City, MO-based company had already trimmed about $101 million in jobs and executive incentives, according to CFO Dan Streek. An initiative launched internally two months ago, “Project BBB+/Baa1,” had sharpened the company’s focus even before Moody’s Investor Services moved last Monday to place the company under review for a possible downgrade, said Green. The initiative was set to reduce costs by $100 million and to include the sale of $500 million in non-core, non-strategic assets to improve its credit ratings.

After reviewing the company’s first quarter results and the continued market pressures in the merchant energy sector, Moody’s placed the ratings of Aquila Inc. and Aquila Merchant Services (AMS) under review for possible downgrade last week. The ratings agency noted that Aquila’s first quarter earnings declined 40% from the year ago quarter and cash from operations fell “well short” of investment needs. Moody’s also pointed out that Aquila has changed its business strategy and redirected its growth into the energy merchant business, which has increased its business and financial risk profile in a “challenging market environment” for energy trading companies.

“While the company has issued equity over the past year, cash outlays have significantly exceeded internal cash generation,” Moody’s said. “Leverage as measured by comparing debt and lease obligations to cash flow from operations has deteriorated. In addition, cash from international investments has been modest in comparison to the sizable capital employed.” The Moody’s review will also reassess whether there continues to be a sufficient difference in risk profile to warrant a distinction between the ratings of Aquila Merchant Services and Aquila Inc.

As federal and state inquiries into energy trading practices have grown — along with credit restrictions — Aquila has decided to take an even more conservative approach. The company has cut 200 jobs in its power trading and risk management business, and with those cuts and a previously announced reduction of 500 employees from its regulated utility unit, the company will take a second quarter charge of $30 million.

Along with the internal cuts, Aquila also has pulled back from a hostile takeover of Houston-based Quanta Services Inc., a power and telephone line installer. Aquila and Quanta reached an agreement this week to end the bid by Aquila to control Quanta’s board, and is withdrawing all litigation and arbitration against the company. Aquila also will not buy Quanta’s shares on the open market.

“We were fully aware that Moody’s action was a potential outcome,” said Green. “We’ve maintained an open dialogue with Moody’s and made them aware of our plans to improve cash flow. We’ve already identified approximately $96 million in savings as a result of staff reductions, elimination of executive incentives and a tightening on all expenditures. We expect to make significant progress in short order.”

Moody’s rates Aquila’s senior unsecured debt Baa3, one notch above junk status. Aquila Merchant Services’ long-term credit is rated Baa2, two notches above junk status. Aquila’s stock has fallen almost 61% in the past year, not unlike its peers in the energy sector, but even with reduced earnings, it still is earning money. As of March 31, Aquila had 12-month sales of $37.3 billion.

Calling it a “sensitive time for the entire financial and energy merchant sector,” Green said, “while our credit metrics are the strongest in the company’s history, we are moving forward to meet the new requirements of the credit industry. We’re taking a proactive position with the full expectation that we will weather this storm.”

Aquila has already begun to strengthen its financial position. In April, it closed a $650 million revolving credit facility, which provides back-up liquidity to the company’s commercial paper program. The facility closed on April 15, consisting of a $325 million one-year tranche and a $325 million three-year tranche. The syndicate of nearly 20 banks consists of long-time relationship banks as well as several new banks, Aquila said. In February, Aquila also issued $287.5 million of 30-year debt to repay $220 million outstanding in an accounts receivable sales program.

Bank of America Securities Tuesday downgraded Aquila’s stock to “buy” from “strong buy.” Its share price had also fallen Tuesday morning about 20 cents to stand at $14.49. It has been as high as $37.85 in the past year.

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