Having characterized the nation’s major energy firms as “failing miserably” to deliver promised increased cash flows from merchant energy businesses, most of the private-sector energy companies were blistered last Thursday by critical Standard & Poor’s analysts who conducted a conference call on the global utilities/energy merchant sector. The same firms with aggressive diversification plans five years ago, today for the most part, are “desperately trying to unwind” those businesses in response to a severe liquidity and capital crisis, triggered by the plunge in their stock prices, the analysts said.

Ronald M. Barone, an S&P energy utility analyst, said the industry is definitely at a “crossroads,” and the situation “ain’t pretty.” The increasing need for fuller disclosure and being more forthcoming among the companies is now necessary because of the negative change in the general business environment and the fact that most are no longer solidly investment-grade in their credit ratings, said Richard Cortright, the head of the S&P’s energy utility analysis group.

In response to Wednesday’s Federal Energy Regulatory Commission proposed market design standards, S&P analysts said there is no immediate impact on ratings, and that they expect the states to have greater input before the final rules are put in place by FERC.

In a broader response to the increased political and regulatory criticism of the nation’s major rating agencies for allegedly being slow to begin looking critically at some of the major energy companies, Barone said S&P began its trend toward ratings downgrades in the sector in late 1999. In fact, downgrades outpaced other ratings “four-to-one” last year and are running the same this year.

Overall, the “credit specifics” for most energy sector firms “have gotten extremely weak,” said Barone, noting that in 1997, the industry had a 53% debt ratio of total capitalization overall and that statistic is now 60%; cash-flow -coverage-of-interest was four times, compared to three times today; and cash flow-coverage-of-debt was 23% in 1997 and is now 17%.

“The companies did not deliver the cash flow necessary to maintain their ratings, and on top of that, their general business risk had increased approximately 100%,” said Barone. “Those that had nonregulated operations that equalled 10% of their business, grew that proportion to 25% and then into 50% or more.”

In the public sector, the picture is starkly different, according to S&P, where more government-run utilities and the vast array of cooperatives have emerged “relatively unscathed,” despite all the turbulence in the energy business. About half of the S&P ratings in the public sector are in the “A” category, Cortright said. “For the most part, these entities have been shielded to a much greater degree from market volatility than the investor-owned utilities,” he said.

Most of the munis and co-ops have been able to remain vertically integrated, which has allowed them to “serve their customers well and at reasonable prices,” said Cortright, even though most of the public sector organizations are dependent on the market for some of their energy. Unlike their private sector counterparts, the public sector utilities are for the most part self-regulating and can count on recovering their costs of operations in their retail rates.

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