Sempra Still Feeling the Heat
Sempra Energy just can’t seem to get out of the hot seat.
First there was the controversial 1998 merger between the parents of San Diego Gas & Electric and Southern California Gas, which created the Sempra Energy holding company and gave it more customers--21 million--than any other utility company in the nation.
Now, although the calendar says autumn is less than a week away, warm weather still has Sempra sweating through a summer of electricity discontent. And winter doesn’t look like much fun either for Sempra or its natural-gas customers, with residential gas bills projected to increase 30% to 35% without fueling anything above a strictly regulated rate of return for Sempra’s gas utilities.
Hanging over the San Diego-based energy company is a new uncertainty generated by the turmoil in California’s restructuring electricity industry. Of particular concern to the investment community is a rapidly swelling debt caused by the difference between the high wholesale cost of electricity and the freshly capped retail power rates for the 1.2 million customers of San Diego Gas & Electric.
Who will pay that debt--Sempra Energy’s shareholders or SDG&E;’s electricity customers--and how big it will grow may not be known for years. The answer will hinge in part on an investigation of SDG&E;’s conduct by the California Public Utilities Commission.
In the meantime, Sempra Energy, whose two utilities serve nearly 7 million gas and electricity meters representing about 21 million customers from Central California to the Mexican border, continues to post sparkling earnings largely because of its non-utility businesses. Sempra wants to be much more than its utilities, pushing into energy trading and electricity and natural-gas contracting outside of California.
Indeed, Sempra has stressed that recent profit surges came not at the expense of its California utility customers. Consumer advocates are not persuaded, painting Sempra as a profit-hungry company that has not done enough to protect ratepayers.
Despite all the tumult, Sempra’s previously languid stock price has risen a bit this summer, a fact that appears to amaze even Stephen L. Baum, Sempra’s new chairman and chief executive.
“Maybe it’s all the publicity we’ve been getting,” he recently quipped, ruefully.
It’s a careful-what-you-wish-for proposition for Sempra Energy, which spent hundreds of thousands of dollars in the last two years to boost its corporate profile by, among other things, becoming a sponsor of Staples Center and rolling out a new logo that looks like a small flaming man. Now the corporation and its San Diego utility are puzzling over how to repair an image so scorched that angry residents in SDG&E;’s 4,200-square-mile territory covering the San Diego area and southern Orange County have taken to verbally and physically abusing company employees.
“This has been an agonizing time for all of us,” Baum told the Federal Energy Regulatory Commission at a hearing Tuesday that is part of an investigation into this summer’s gyrations in the California wholesale electricity market. “SDG&E; takes enormous pride in serving this community with safe and reliable electric service at, what were until recently, just and reasonable prices.”
Although regulators themselves, not to mention consumer advocates, warned of looming shortages in power supplies, no one predicted this summer of sky-high prices during which wholesale electricity prices jumped fivefold and bills doubled for SDG&E; customers, the first in the country to pay free-market power prices.
That produced a “Ratepayer Rebillion”--so dubbed by Michael Shames, executive director of the San Diego-based Utility Consumers Action Network, a longtime SDG&E; sparring partner. The shock waves quickly reached utility regulators and state lawmakers, the architects of electricity deregulation, who are still scrambling for solutions.
“SDG&E; has become the corporate equivalent of the gang that couldn’t shoot straight,” Shames said. “They have the distinction of having the market blow up on them in a very visible way . . . and I’m quite convinced they didn’t have a clue how customers were going to respond.”
This high-voltage atmosphere visited the San Diego area because SDG&E; did such a good job selling its power plants, as required under deregulation. The 1996 law that launched the overhaul of California’s electricity world broke the industry into three separate businesses: companies that make electricity, companies that distribute electricity and companies that sell electricity directly to consumers and businesses.
SDG&E; and the state’s other big investor-owned utilities--Edison International unit Southern California Edison and PG&E; Corp.’s Pacific Gas & Electric--lost their secure monopoly status. They were deemed to be electricity distribution companies only--though still monopolies in that segment of the business.
The utilities handed over their long-distance transmission systems to a new nonprofit, the California Independent System Operator, and were required to buy their electricity from another new nonprofit, the California Power Exchange. The utilities remained the default provider for customers who didn’t pick a new electricity retailer, but they were required to pass along the cost of electricity with no markup.
Electricity rates for consumers and small businesses were frozen until the utilities paid off their “stranded assets”--investments in nuclear power and renewable energy contracts that became unprofitable under deregulation--or until March 2002. Rates are still frozen for SCE and PG&E; customers, but SDG&E; customers lost that protection in July 1999, after the San Diego utility sold its power plants to eager buyers who were willing to pay much more than book value.
The rapid payoff surprised even regulators, who had developed no post-freeze rules. The California Public Utilities Commission allowed SDG&E; to maintain a 12% ceiling on prices for the summer of 1999 and recoup any excess electricity costs later. Thanks to a cool summer and a smoothly functioning wholesale market, the ceiling was little employed.
This summer, however, no ceiling was allowed by the PUC as part of its original post-freeze order, SDG&E; executives said. And prices on the California Power Exchange began behaving strangely, spiking higher and higher even in the middle of the night when demand was low.
San Diego-area electricity users began seeing “true market prices from a market that’s dysfunctional,” Baum said. “Of course I wish we had foreseen this market spike. We didn’t.”
Consumer fury has been calmed somewhat by a new law that caps electricity prices for SDG&E; residential and small-business customers at 6.5 cents a kilowatt-hour, compared with the 21.5-cent peak this summer. Who will eventually pay the electricity costs above the cap, currently collecting in a balancing account, is left unclear by the legislation.
It could mean a big balloon payment for customers, or some of the costs could be shared by SDG&E; if a PUC investigation finds that the utility didn’t act in the best interests of its customers in buying electricity. A companion bill that would use $150 million in taxpayer funds to defray some of the costs passed the Legislature but has not been signed by Gov. Gray Davis.
“I don’t think that we did anything wrong,” Baum said. “This is a bum rap that has been hung on us, on SDG&E;, that we somehow mismanaged the power supply for our customers.”
PUC officials and consumer advocates have criticized SDG&E; for not “hedging” more by buying ahead of time when prices are relatively low, for example. SDG&E; said that it asked the commission for such authority but didn’t get it. What’s more, Baum said, SDG&E; found better prices for its customers than did SCE or PG&E;, even though they have broader hedging ability.
SDG&E; will have to borrow money to pay for the electricity, since ratepayers aren’t paying the full cost. SDG&E; says the under-collection of electricity costs could eventually top $800 million, whereas sponsors of the rate-cap bill put the total closer to $150 million.
The future debt and the unsettled state of the deregulation process in California were the reasons given when Moody’s Investors Service recently changed the credit outlook for Sempra and SDG&E; to “negative.”
Shareholders can’t be happy with Sempra’s stock price, which fell from a high of about $28 a share right after the 1998 merger between Enova and Pacific Enterprises, which was loudly opposed by consumer advocates because of the market clout a merged company would wield, to a low of $16.63 in April. Sempra bought back 36.1 million shares at $20 each in February and lowered the stock dividend to $1 a share from $1.56 a share. The stock closed Friday up 14 cents at $20.14 on the New York Stock Exchange.
Baum acknowledged that the company has lagged in return to shareholders, blaming that partly on a turning away by investors from utilities and other old-economy companies to Internet and other new-economy stocks.
Sempra wants to be much more than its utilities and has made some promising inroads into unregulated areas, such as energy commodity trading, telecommunications, power-plant building and the sale of electricity and natural-gas to consumers and businesses in other states, Mexico, South America and Canada, analysts said.
In fact, Sempra Energy Trading, which buys and sells electricity, natural gas, oil and coal, earned more money in the first quarter--$3 million--than in all of 1999. That subsidiary’s $40 million in second-quarter earnings was primarily responsible for Sempra’s better-than-expected income for the period of $110 million, or 55 cents a diluted share, up 34% from the second quarter of last year.
Analyst Paul Fremont of Jefferies & Co., who has a “buy” rating on Sempra, notes that the trading company income will be volatile and that the other subsidiaries remain unknown quantities.
“They’ve really got to have sustained growth in that [unregulated] part of the business because there’s not a lot of growth in the utility part” in California, Fremont said.
Sempra’s earnings growth during this electricity furor has consumer advocates fuming even though company executives emphasized that electricity trading gains came from the East, not California.
“Consumers don’t need to feel sorry for this company,” said Mindy Spatt, spokeswoman for the Utility Reform Network, also known as TURN, a San Francisco-based consumer group. Spatt noted that Sempra’s new El Dorado power plant near Las Vegas “did very well” selling electricity in Nevada and California during most of the second quarter.
“We don’t think consumers should be responsible for the failures of deregulation, and we think that Sempra is in a much better position to pay for some of these costs than the average San Diegan,” Spatt said.
Sempra has had some problems in reaching beyond its California utility origins. One subsidiary, Energy America, which sells electricity and natural gas door to door in six Eastern states, has run afoul of regulators in two states because of aggressive sales tactics that prompted complaints from consumers. The company has been variously fined and ordered to retrain salespeople.
Sempra is on track to reach its goal of reaping one-third of its earnings from its non-California businesses by the end of 2003 and to increase overall earnings by 8% to 10% compounded annually in the next four years, Baum said.
That success is whipping up customer ire.
“People tend to look at Sempra-SDG&E; as a monolith. . . . People are saying, ‘They’re making a ton of money here. That company is doing very well. We’re getting screwed, and we don’t like it, and why should we have to pay for it?’ ” Baum said. “It’s a very natural reaction. People don’t understand, and they don’t care to understand.”
One of SDG&E;’s immediate concerns is fixing relations with its customers. Baum said the utility recently polled customers and found that 9% considered it credible, down from 35% (“which is not much to brag about, but it’s not bad in the utility business”) before the electricity crisis.
“I don’t know that a corporation can do very well with a credibility rating of 9% on a sustained basis. That is something I worry about,” Baum said.
SDG&E; President Debra L. Reed said most customers don’t understand that the investor-owned utilities are now only distribution companies, despite a $90-million education campaign by the Public Utilities Commission.
“They see our name on the bill and they think we’re making money on the commodity,” Reed said. “We have a lot of education to do with our customers. But we realize that it is probably not the best time to educate them in the middle of what they see as a crisis. . . . What we’re trying to do is help them through this.”
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Metering Sempra Energy
Earnings are up at Sempra Energy, but the San Diego company is spiking on the controversy meter because of soaring bills for customers of its utilities, San Diego Gas & Electric and Southern California Gas. Sempra’s name is not well-known, but its utilities serve 21 million people from the Central Valley to the Mexican border.
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Branching Out
Sempra Energy also is pushing into other businesses, primarily outside of California:
Sempra Energy Trading: Trades energy commodities
Sempra Energy International: Develops and operates energy projects such as power plants and natural gas lines in international markets
Sempra Energy Solutions: Markets electricity, natural gas and energy services to large electricity users
Sempra Energy Resources: Develops or buys power plants and natural gas facilities in the United States
Sempra Communications: Invests in telecommunications
Sempra Energy Financial: Invests in affordable housing partnerships
Source: Company reports
