Standard & Poor’s Rating Services on Monday lowered its long-term corporate credit ratings of Dynegy Inc. and its subsidiaries to “BB” from “BBB-“, reflecting the company’s increased use of secured financing that “places the unsecured debtholders at a disadvantage.” The Houston-based company’s ratings also will remain on CreditWatch with negative implications. The “erosion in Dynegy’s core merchant energy business has become more pronounced,” S&P said of its rating. “Despite cutbacks in capital expenditures and costs savings, including a reduction in the common dividend payout, needed incremental cash flow has been slow to materialize.”

According to credit analyst John Kennedy, “Dynegy’s financial plan has not provided the level of sustainable cash flow necessary for investment-grade status. Decreased marketing opportunities and lower power prices are two of the factors curtailing cash flow improvement. Dynegy’s difficulties in accessing the capital markets also impinge on credit quality.” Dynegy’s “meaningful access to the capital market is unlikely, given the firm’s depressed stock price and recent difficulties in selling debt at the Illinois Power Co. unit.”

The power subsidiary announced Friday that it planned to raise $325 million by Tuesday (July 23) through two mortgage bond offerings — pricing $100 million worth of bonds due in 2007, and $225 million due in 2012; both carry a 10.625% rate (see Daily GPI, July 22)

“Dynegy’s liquidity position is strained,” said Kennedy. “Currently, the firm claims to have access to about $900 million for liquidity needs, which is a 35% decline from the $1.4 billion level in shown April 2002. The sources of these funds are cash on hand, unused bank facilities, and commodity (natural gas) in storage. The company has posted a significant amount of margin payments,” and the analyst said margin activity is not expected to substantially increase “because margin calls related to trading contracts have already been triggered, and the firm has eliminated an additional $301 million in triggers.”

S&P said Dynegy may have to further reduce its capital expenditures, because its net cash flow as a percentage of capital expenditures is forecast to be under 60% of cash needs. “Also, Dynegy has several obligations on the horizon, with about $750 million in debt and bank facilities ($300 million at Dynegy and $450 million at Northern Natural Gas Co.) due to mature or expire by November 2002, and a $1.5 billion preferred stock right held by Dynegy’s largest shareholder, ChevronTexaco Corp., which is redeemable in November 2003.”

The company’s plan to launch a master limited partnership, Dynegy Energy Partners to raise $200 million in additional capital, also faces risk in several areas, said S&P, and “the success of this transaction under current market conditions is questionable. Further, the proposed sale of a percentage of Northern Natural Gas’s pipeline to raise additional capital would reduce the firm’s mix of regulated businesses.”

Resolution of the CreditWatch listing, said S&P, “is predicated on Dynegy’s execution of stated business objectives, generation of reliable cash flow from sustainable sources, and its ability to meet debt maturities at a level that supports the current rating. A demonstrated ability to achieve these goals should result in ratings stability.”

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