So much for the halcyon days when convergence in the face of growing deregulation was all the rage in the utility industry. Those go-go times of only a few years ago have been replaced with a decided sour outlook, according to Standard & Poor’s latest “Report Card on U.S. Utilities (electric, gas and water)” released last Thursday.

“The rating trend for the electricity and combined energy industry remains decidedly negative, with the average rating down from a year ago (to triple-‘B’-plus, from single-‘A’-minus),” according to S&P’s analyst Cheryl E. Richer in New York City who looked at more than 300 major utilities. “The negative credit picture can be traced to weakening financial profiles, largely attributable to debt raised to fund unregulated business ventures or acquisitions.”

While the market was embracing moves of utilities to develop merchant generation and corresponding trading operations, along with natural gas distributors acquiring midstream operations, those efforts have all added to the level of risk now facing the average utility in the United States, Richer underscored in her report. “The negative trend is expected to continue, as reflected in the cascade of ratings downgrades, numerous outlook changes to negative from stable and several negative “CreditWatch” listings in the first quarter of 2002,” she said.

“The momentum of the utility industry to disaggregate into its component parts appears, for now to have stalled, as companies such as Allegheny Energy Inc., Constellation Energy Group Inc. and Xcel Energy Inc., have revised their strategies to remain more vertically integrated,” Richer said, adding that S&P’s still expects state-by-state restructuring to continue, although at a slower pace in the wake of the “California deregulation debacle.”

The number of downgrades, while still outnumbering swings upward, slowed in the first quarter, however. There were 19 companies with rating revisions the first three months of 2002, of which16 were downgrades. In the fourth quarter of last year, there were 44 downgrades and 7 upgrades In just 12 months, Richer noted, the number of companies with ‘A’ ratings has “declined significantly”; almost half of the industry now carries a triple-‘B’ (BBB) rating; 6% hold below-investment grade ratings.

While the continuing decline is very unusual for the staid, low-risk utility sector, as an industry it is still a lot higher than other, traditionally risky industries, said Richer, who noted that the U.S. industrials average rating is only double-‘B’ (BB), for example.

“The bleak credit picture can be traced primarily to weakening financial profiles, increasing business risk related to investments outside the traditional regulated utility business, stock repurchases, and faltering regulatory support,” Richer said. “These trends, in turn, reflect companies’ strategies to deal with an increasingly competitive market, while seeking to enhance shareholder value in a more uncertain environment.”

In the West, the report specifically reviews California, noting that Southern California Edison Co. was raised to a double-‘B’ rating (BB) from a ‘D’, but it is still below investment grade, following the payment of more than $2.2 billion to creditors, including power suppliers. S&P’s sees Edison as making “significant progress toward re-establishing its historically strong creditworthiness,” although it sees the state regulatory environment as still leaving “considerable uncertainty.”

For Pacific Gas and Electric Co., S&Ps sees a more unclear future as to when the utility emerges from its ongoing Chapter 11 bankruptcy proceedings. Until the CPUC’s and utility’s competing reorganization plans are somehow resolved, the situation will continue to be unclear, S&P’s said.

Similarly, Nevada’s regulatory and utility financial situation is equally dicey, according to the S&P report.

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