December 01, 2008
Entergy Corp.'s planned spin-off of its unregulated nuclear generation units is creating a lot of stir among shareholders and activists alike. The idea is to create additional value for those shareholders willing to incur more risks. But opponents of the concept fear that ratepayers and taxpayers will bear the costs of any failures.
Companies of all stripes have sought before to separate assets that don't mix in an effort to accommodate various shareholders. Utilities are no different. In the 1990s, regulated units were earning tepid returns while the unregulated power generation had seen their stocks -- temporarily -- go through the roof.
Therein lays New Orleans-based Entergy's proposition: It would create a new corporation called Enexus Energy that would house its five nuclear plants in the Northeast and Michigan. That operation, in turn, could sell its power at market prices and presumably with better results. The risk, of course, is that rates would fall and that the new business unit would subsequently lose a ton of money.
That is, in effect, what happened to several unregulated power generators during 2001 through 2003. Some went bankrupt and stock and bondholders suffered. According to documents that Entergy filed with the Securities and Exchange Commission, the new entity -- Enexus -- will take on $4.5 billion in debt. It will then pay the parent company $3.5 billion. Then, Entergy will issue debt securities to investors.
"The Board of Directors' decision to pursue a plan to spin off the non-utility nuclear business to shareholders reflects the same commitment to shareholder value that has produced the highest return in the industry over the last nine years," says Wayne Leonard, Entergy's chief executive. He goes on to say that it does not make economic sense to keep regulated and unregulated units under the same corporate umbrella.
While Entergy is still working to get all relevant regulatory approvals, it has suspended any launch date until the credit crisis eases. The financial rationale for creating Enexus is that the Northeastern United States will be short generation, creating a lucrative market for those power plants that can deliver electricity on wholesale, spot markets. While there may be ample opposition to the building of new nuclear units, existing ones have shown themselves to be increasingly efficient and productive. Therefore, Entergy would expect to maximize its returns to shareholders for those with higher risk profiles.
Corporate Shield
To be sure, it may not work out as planned. Critics say that Entergy is merely trying to shield itself from market hazards. In other words, the high level of debt -- and subsequent risks -- that would be incurred might ultimately be shifted to consumers and taxpayers if the enterprise should be troubled or fail.
At the same time, those five nuclear plants would eventually need to be modified or dismantled -- a process that is exceedingly expensive. If market conditions turn for the worse and Enexus does not have the funds to fulfill these obligations, then it would fall on others to absorb the payments. That's something for which Entergy says it has planned, noting that its "decommissioning" allocations have risen from $2.8 billion in 2006 to $3.3 billion in 2007.
Nevertheless, the Tacoma, Md.-based Nuclear Information and Resource Service says that Entergy's primary motivation is to set up a limited liability corporation so as to shield itself from serious financial danger if something were to go awry. "It's about protecting the parent companies' assets," says Michael Marriotte, the group's executive director. "If something does go wrong, who do you think will pick up the tab?"
A cursory look at the history of nuclear power construction is a case study in cost over-runs and cancellations, he says, pointing to previous bond defaults and numerous failures. "There have been lots of cases where ratepayers have paid dearly for economic problems when it comes to the construction of nuclear reactors."
Other types of financial risks are also present. New York State has been opposed to the separation of the two entities because it said it would cost the state millions in revenue it now shares with Entergy. Specifically, the New York Power Authority sold two units to Entergy in 2000 for close to a $1 billion. The agreement stipulates they share revenues from those plants, which totals in the hundreds of millions. Before the state would give its consent to the spin-off, this matter has to be adequately addressed.
In Vermont, which must also approve the deal, policymakers are insisting that more money be set aside for the mothballing of those nuclear plants that become obsolete. That's something that concerns some, who say that Entergy would then have to raise its electricity prices to pay for those requirements.
For its part, the Nuclear Regulatory Commission's staff has approved the transfer of certain assets into the new corporation. It concluded that Entergy has set aside enough money to pay all future obligations associated with these plants, including decommissioning costs.
The agency also said that it reviewed the prospects of the five unregulated power plants and found that in four cases, the revenues would exceed the expenses over the next five years. Meanwhile, Macquarie Research Equities says that it would expect Enexus' earnings to rise from $800 million in 2007 to $2.5 billion in 2012.
Success, however, is not a slam dunk. But National City Bank analyst James Halloran says that those troubled natural gas-fired peaking plants that sold into newly established and unregulated markets are different from Entergy's base-load nuclear generators that have stable and existing markets. "If Entergy kept the pieces together, it would not get the same market valuation."
Entergy may have put the move on hold. But after weighing the risks and potential rewards, its board is bullish long-term. Markets, though, are the ultimate arbiter -- a verdict that will affect all stakeholders in this process.
Respond to the editor.
Ken Silverstein EnergyBiz Insider Editor-in-Chief
Read Ken's Blog