Power Players

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The utility industry used to be the place widows and retirees invested their savings for steady dividend payouts and slow appreciation. That, of course, was before Enron — and before a recession and mild winter that crimped the demand for power. Since last October, investors have fled not only from the stocks of energy companies with complex finances and trading operations but also from old reliable electric and gas utilities. Some have lost half their value. Analysts view many of these utilities as prime candidates for acquisition, but even among the stronger U.S. energy firms, few are in a position to buy. Their stocks are battered, and credit-rating agencies have downgraded many of them, effectively drying up their access to capital.

Enter the Europeans. Last month, in a PricewaterhouseCoopers survey of major utilities in 19 European countries, more than half the larger firms said they plan to expand into North America. Some have already begun. Last month shareholders approved a deal to sell LG&E Energy Corp., based in Louisville, Ky., to the German giant E.ON. Its German competitor, RWE, bought one of the largest U.S. water utilities in January, the same month that a British firm picked up Niagara Mohawk of Syracuse, N.Y. Flush with cash and out of room to grow on their own turf, the Europeans see an opportunity in the U.S. to pick up individual plants or whole companies at fire-sale prices.

"They've all opened offices; they've all got advisers," says John Sodergreen, editor in chief of Scudder Publishing, a group of energy-industry newsletters based in Annapolis, Md. He expects five midsize U.S. companies to be bought by Europeans by the end of the year. The objects of their desire don't look very sexy today, but that will probably change once the economy starts growing faster and demand for power surges.

Leading the charge are the two German companies: E.ON, based in Dusseldorf, and RWE, with headquarters in Essen. "Our goal is to achieve a leading position in the U.S.," says E.ON CEO Ulrich Hartmann, 64, a jazz buff who already has transformed his company. He took over Veba — the firm his father once ran as a state enterprise — in 1993, just before Germany deregulated its electricity markets. He focused the company on its core utility business and two years ago merged it with Viag, another major German utility, to form E.ON. Hartmann is sitting on $31 billion in cash and says he wants to spend it on two major U.S. electric companies, completing one acquisition by the end of the year.

Unlike many of its U.S. rivals, E.ON had its balance sheet in order at the end of 2001. After selling off underperforming telecom assets, it lowered its debt-equity ratio from 21% to 2%. (Compare that with 79% for Calpine, the power-generating firm based in San Jose, Calif.) Hartmann's advance team is already on the ground in New York City. Its members arrived to handle the purchase of LG&E, which E.ON took over through the acquisition of LG&E's British parent, PowerGen. Shareholders approved the deal last month, and the company is waiting only for an expected green light from the Securities and Exchange Commission. In the meantime, Hartmann has assigned PowerGen's former chairman, Ed Wallis, and E.ON board member Michael Gaul to run a new company that will push forward E.ON's Stateside expansion.

E.ON isn't openly in talks with anyone yet, but speculation centers on companies that are located near LG&E. J.P. Morgan Chase utility analyst Pierre Stiennon says to look for a deal with Cinergy, based in Cincinnati, Ohio; Allegheny Energy in Hagerstown, Md.; or PPL of Allentown, Pa. All three companies produce and sell power on the wholesale market and also serve a large base of regulated retail customers. Hartmann is known as a careful shopper. When he explored a U.S. acquisition as CEO of Veba, the man on the other side of the table was Enron's Jeff Skilling. Hartmann walked away after deciding that the two companies' cultures and business models wouldn't mesh well together.

RWE is further along in its U.S. plans. About 20% of RWE's revenue in the past fiscal year was generated in the U.S., from a water utility in New Jersey and power plants in Pennsylvania, among other holdings. If its $4.6 billion purchase of American Water Works, based in Voorhees, N.J., is approved by regulators as expected, RWE will own the largest publicly traded water utility in the U.S.

Some energy analysts believe the next item on RWE's shopping list is a large independent U.S. power producer. Stiennon named four of the biggest firms in the industry — Calpine, AES, Reliant Resources and Mirant — as likely targets. RWE CEO Dietmar Kuhnt insists that "we've done a lot of good acquisitions, and now we want to rest." But when analysts asked whether RWE had ruled out buying one of the big merchant generators, CFO Klaus Sturany said, "We are talking about one or two power plants at most."

RWE wisely strikes a cautious public tone. The U.S. Public Utility Holding Company Act of 1935 restricts companies that already have holdings in multiple utilities (electricity, gas, water) from making further acquisitions. "We can't follow a fully integrated strategy in the U.S. because of puhca," Sturany said. The energy bill before Congress includes an amendment that would repeal puhca.

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