A few months back, Edison International’s prospects looked bright. Its two Irvine-based subsidiaries, Edison Mission Energy and Edison Capital, were helping to lead the way into the new world of energy deregulation. The company was on a buying spree of power plants around the world, and the stock market responded. Rising from the low 20s in April of 1999, the stock price was flirting with the 30 level by last November, and was still at that height going into February of this year.
But now, Edison International’s future is a bit dimmer. The stock has been nearly halved, trading last week around 16. Its debt is under review by Moody’s.
Suddenly, the buying spree looks like a binge gone awry. Several disappointing announcements from the company have raised concerns among investors about some of the company’s acquisitions and the prices that Edison paid for them.
The biggest blow came in England, where Edison last year bought two power plants for $2 billion. The British government enacted deregulation measures several years sooner than Edison had anticipated, with a resulting sharp cutback in the profitability of the two plants. Instead of earning a projected $105 million to $185 million annually for the next three years, Edison now expects the plants to generate only about $15 million to $55 million in profit.
Furthermore, the company now says it has “experienced some higher-than-anticipated start-up costs” with Midwest Generation, which operates 12 U.S. plants with 9,500 megawatts. Edison Mission bought the facilities from Commonwealth Edison last year for nearly $5 billion.
Setback in Indonesia
And then there is Edison Mission’s 40% stake in an Indonesian power plant called Paiton, which was recently constructed at a cost of $2.5 billion. Although the power plant was completed by mid-1999, it hasn’t yet started generating any revenue because of a dispute with the Indonesian government.
In early March, Edison Mission and the Indonesian government reached an interim agreement that the facility will provide energy at prices below what Edison Mission originally anticipated. Both sides have agreed to drop their lawsuits against each other for now. The agreement holds until the end of the year and the two sides are working on a permanent deal.
“Edison Mission bought $10 billion worth of assets in 1999. People don’t know if there is another problem out there,” said one analyst, who requested anonymity.
A source of much of the recent woes is the same one that held so much promise not long ago, Edison Mission Energy. Edward Muller, its president and CEO since 1994, departed abruptly in January, shortly before the bad news was announced.
He was replaced by Alan J. Fohrer, who was CFO of Edison International. Fohrer declined to speak for this article.
When reached at his home in Santa Monica, Muller said, “Was my departure related to the recent announcement about earnings? The answer is unequivocally no.”
Muller said confidentiality reasons precluded him from speaking about the exact reason for his departure, but he hoped to do so in a few months.
Muller departed with a $35 million payment for phantom stock he held in Edison Mission. That was part of $75 million in charges that Edison took to clear its books of that form of executive incentive compensation,$67.5 million to Edison Mission executives and $7.5 million to Edison Capital executives. The company announced it was taking the charge at the same time it announced Miller’s departure.
Peaks and Valleys
Neither event rattled Wall Street at the time, as Edison International stock hit its peak in late January.
But since then, the Street has definitely soured on Edison International. Out of 18 analysts tracked by Zacks, nine ranked Edison International as a hold, up from six a month ago. Only three call it a strong buy while six said it was a moderate buy.
Out of 101 utilities ranked on Yahoo according to analysts, Edison International was ranked 55th, an unusual position for the traditionally well-regarded utility.
At least one major bond analyst is considering lowering parent firm Edison International’s debt rating.
A.J. Sabatelle, VP and senior credit officer of corporate finance for Moody’s Investors Service, said he plans to meet soon with Edison International executives to discuss possibly downgrading about $4 billion of Edison International’s total of $13 billion in long-term debt. These involve the long-term security ratings of Edison International’s senior unsecured debt, currently rated A2, and Edison Mission’s senior unsecured debt, which is rated A3. The debt of Southern California Edison and Edison Capital are not under review.
Double Whammy
It has been an industry-wide practice to finance power plant purchases using “double leverage”,debt issued by both the holding and the operating subsidiary. For aggressive Edison, this is now a double whammy.
“Ultimately, they have much more debt that they have to service in some shape or form. The problem the company faces is that its stock price is where it is and it’s difficult to issue new equity when it’s weak,” Sabatelle said.
Edison’s debt increased 64% last year, to $13.3 billion. Its short-term debt jumped five-fold, to $2.6 billion. Indeed, some observers think Edison might now be under-valued.
“I think it’s an overreaction,” agreed Paul Patterson, an analyst with Credit Suisse First Boston. “The market had thought very highly of Edison International’s management. It’s really one of the blue chips. They were trading at a premium. Essentially with this mistake they’re trading at a discount.”
Bolstering Image
Edison International executives have been spending the past two weeks trying to convince skeptical analysts that the company is still a good bet. It announced a 3.7% increase in the annual dividend. Edison International also said it would step up the pace of an $350 million stock buyback program.
It’s also looking at ways to cut costs at the non-utility operations, but spokeswoman Diane Whittenberg said, “We haven’t worked out the specifics yet.”
Edison International is the parent holding company of Southern California Edison, based in Rosemead. Two other subsidiaries, Edison Mission and Edison Capital, are both based in the same Irvine building overlooking the 405 freeway.
In the past three years, Edison Mission has gone on a buying spree, with assets now totaling $15.5 billion. The company has 76 current projects in the U.S, Australia, Spain, Italy and the United Kingdom, among other places. Edison Mission’s number of employees have doubled in the past year, reflecting its binge of acquisitions. It now employs 3,245 employees worldwide, including 250 in Orange County. Edison Capital has 900 employees, including about 100 in its Orange County office.
Last May, Edison Mission bought for $2 billion two English power plants, Fiddler’s Ferry and Ferrybridge, which supply power to about 2 million homes in the London area.
Recently, the British government announced that its long-anticipated Utilities Act would be implemented this coming Nov. 1. The key change is that instead of selling power into a pool, which was believed to be artificially creating higher prices, the power plants have to sell the energy in direct bilateral contracts with customers. The effect is expected to bring more competition and lower prices.
Edison Mission had assured analysts that they were capable of handling the changes and had accounted for them in their projections. But the change will take place more quickly than anticipated and Edison Mission was left without large bilateral contracts to lock in future revenues. Even Whittenberg acknowledged the company was caught flatfooted.
“The government announced these rules quite awhile ago, but the question was when they would take effect,” Whittenberg said. “We didn’t expect these rules to come in as quickly as they did.”
Edison International wasn’t the only one hit by the British rule changes. Other American investors in British power plants, such as AES Corp., Texas Utilities Corp. and New Orleans-based Entergy Corp., also saw their stocks drop after Edison’s announcement, although at about 10% to 15%, not to the same degree as Edison’s.
Committed to Growth
Edison International’s management is on record as remaining committed to achieving a 12% annual compound growth rate in the 1999-2003 period. But the company acknowledges that “will require some additional growth from future investment opportunities.”
Sabatelle said Edison International is “still a solid company with good financial fundamentals.” But the anonymous analyst said, “From an investor’s perspective, it’s unstable. People need more certainty. There are a lot of other stocks to pick from.” n