El Paso Corp.’s securities filing late last week revealed thatits Merchant Energy segment, which includes the company’s tradingand risk management functions, posted an astounding increase in2000 earnings before interest and taxes over 1999. The segmentposted $3 million in EBIT in 1999, compared with $563 million for2000.

For the year 2000, El Paso’s trading gross margin from physicalenergy commodity sales was $406 million, a $315 million increaseover 1999’s $91 million mark. The trading gross margin from 1998 to1999 only increased by $20 million. Power sales between 1999 and2000 contributed the largest spike, rising from 79,361 MMWh in 1999to 113,652 MMWh for 2000. Natural gas sales creeped higher, from6,713 to 6,899 BBtue/d.

El Paso said the rise in commodity marketing and trading marginscould be attributed to “significant price volatility” in gas andpower markets which elevated the value of the company’s tradingportfolio in 2000. El Paso also indicated that higher income frompower transactions originated in 2000 versus 1999, also played apart in the increase.

As of March 2001, Merchant Energy set its exposure for sales ofpower and gas to the state of California, including receivablesrelated to its interest in California power plant investments, atapproximately $50 million.

“During the latter half of 2000, and continuing into 2001,California has experienced sharp increases in natural gas pricesand wholesale power prices due to energy shortages resulting fromthe concurrence of a variety of circumstances, including unusuallywarm summer weather followed by high winter demand, low gas storagelevels, poor hydroelectric power conditions, maintenance downtimeof significant generation facilities, and price caps thatdiscouraged power movement from other nearby states intoCalifornia,” the company said in its filing. “We have historicallybeen one of the largest suppliers of energy to California, and weare actively participating with all parties in California to be apart of a long-term, stable solution to California’s energy needs.”

El Paso’s production segment also made leaps and bounds in 2000.El Paso Production Co., the third largest gas producer in theUnited States, posted a dismal $257 million EBIT loss for 1999, butreported a positive $196 million EBIT in 2000.

The company attributed the increase to a significant decline inoperating expenses. Production expenses for 2000 were $405 millionlower than in 1999. The decrease was primarily due to full costceiling test charges incurred in the first quarter of 1999 anddecreased 2000 labor costs as a result of an organizationalrestructuring following the Sonat merger.

On the whole, El Paso Energy increased its consolidated EBITfrom $191 million in 1999 to $1.5 billion for 2000.

While Merrill Lynch analysts Donato Eassey, Carl Kirst, StevenFleishman and Peter Staples were weary of two charges equalingapproximately $1.7 billion relating to the Coastal Corp. merger,they remain optimistic on El Paso. About $812 million of the chargeis a non-cash balance sheet cost relating to below market hedges onnatural gas production. Merrill Lynch said this charge would notaffect earnings, and the balance sheet impact likely would bereversed by year’s end. The remaining charge stems from companyrestructuring involving the merger.

“While these charges are significant, they do not change ouroperating EPS, nor our fundamental view on EPG’s valuation goingforward,” said Merrill Lynch. Despite the charges, the firm labeledEl Paso a long term “Buy.”

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