Just days after the Bank of Montreal reported losses in the millions due to wrong-way natural gas bets, Juno Beach, FL-based FPL Group Inc. Monday said 1Q2007 earnings suffered from a net unrealized after-tax loss of $126 million associated with the mark-to-market effect of nonqualifying commodity hedges.
FPL Group's 1Q2007 net income on a Generally Accepted Accounting Principles (GAAP) basis of $150 million, or $0.38/share, marked a 40% reduction from the $251 million ($0.64/share) recorded in the first quarter of 2006. The company noted that the results for last year's first quarter included a net unrealized after-tax gain of $23 million associated with the mark-to-market effect of nonqualifying hedges and $3 million of after-tax merger-related costs. FPL Group's competitive energy subsidiary, FPL Energy, markets power to large buyers. The company protects itself from power and natural gas price decreases through a hedging strategy. However, with natural gas and power prices rising during 1Q2007, the company lost money on the hedges it had in place.
Excluding the mark-to-market effect of nonqualifying hedges (and merger-related costs in 2006), FPL Group's adjusted earnings were $276 million ($0.70/share) in 1Q2007, compared with $231 million ($0.59/share) in 1Q2006.
In explaining the significant losses due to the company's hedging strategy, FPL said the "negative mark" is the result of "increasing forward prices" for natural gas and power during the quarter, but that it also implies an "increase in underlying values" for FPL Energy's power generation assets, not marked to market under GAAP, as well as improved market conditions for future contracting opportunities.
"FPL Group is off to an excellent start in 2007 with another outstanding quarter of earnings growth at FPL Energy coupled with a solid contribution from FPL," said FPL CEO Lew Hay. "FPL Energy once again posted double-digit adjusted earnings growth and, similar to last year's first quarter, exceeded the contributions of FPL on an adjusted earnings basis. FPL Energy's results were driven by incremental asset additions, strong results from our wholesale marketing activities and favorable market conditions."
Seven months after Amaranth was caught on the wrong side of the natural gas market with devastating effect, history was repeated, although on a smaller scale, late last week as the Bank of Montreal reported Friday that it had lost between C$350 million and C$450 million (US$313.70 million to US$403.33 million) in similar wrong-way trades in natural gas, specifically out-of-the-money options (see Daily GPI, April 30).
Taking a closer look at FPL Group's 1Q2007 earnings, its Florida Power & Light Company (FPL) rate-regulated utility subsidiary reported net income of $126 million ($0.32/share), compared to $122 million ($0.31/share) for the prior-year quarter. Retail sales of electricity grew 3% during the first quarter. Much of this was driven by customer growth: in the last 12 months, the average number of FPL accounts increased by 98,000, or 2.2%, which is slightly ahead of FPL's long-term historical growth rate.
FPL Energy reported first quarter net income on a GAAP basis of $45 million ($0.11/share), compared to $154 million ($0.39/share) in the prior year quarter. Excluding the mark-to-market effect of nonqualifying hedges, adjusted net income for FPL Energy was $171 million ($0.43/share), compared to $131 million ($0.33/share) in 2006. FPL Energy said the loss in the nonqualifying hedge category is offset by increases in the fair value of physical asset positions in the portfolio, which are not marked-to-market under GAAP. The same factors that drove the decline in value of the hedges also increased the future value of many of FPL Energy's physical assets.
"The outstanding performance at FPL Energy reflects the strength of our balanced business model," said Hay. "We entered the year highly hedged. Our existing portfolio delivered results comparable to last year's very strong performance, while new assets and favorable results from our full requirements business led to strong growth overall."
FPL Energy said its hedged gross margin position for 2007 remains essentially unchanged from the pervious quarter, while hedging of 2008 expected output increased modestly. Over 90% of FPL Energy's 2007 equivalent gross margin is protected against commodity price volatility. For 2008 the comparable figure is 85%.
Looking ahead, FPL Group executives said they believe 1Q2007 results have started the year off right. "At this early stage of the year we are not changing our previously disclosed adjusted earnings expectations for 2007 and 2008. For 2007, we expect adjusted EPS to be in the range of $3.35 to $3.45, while for 2008, we expect adjusted EPS [earnings per share] to be in the range of $3.60 to $3.80," said Hay. "Although we are not changing our official earnings expectations for 2007 and 2008 at this time, I am pleased with the general trend of the first quarter and optimistic that we can achieve better than the midpoints of the respective ranges."
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