Bankruptcy is hardly a good thing, but some analysts think Pacific Gas & Electric's decision to seek court protection could finally prompt a solution to California's power crisis.

In the short term, it re-energizes Pacific Gas & Electric. "With debtor-in-possession financing, PG&E is once again creditworthy," says Jeff Dietert, power analyst at Simmons & Co., a Houston energy investment boutique and a member of the TSC Energy Roundtable. "Now, selling power to Pacific Gas & Electric is a real possibility. The only reason to sell to the state was that the utility wasn't creditworthy. Bankruptcy changes all that."

Many generators have reached agreements to sell power to the state but have refused to execute contracts until they receive payment for past power sales and receive a credit guarantee from the state for future sales. Now, the entire state-sponsored power process could be in jeopardy. "PG&E's action puts the political process in jeopardy," opined Dietert. "Anything [California Gov. Gray] Davis does now will have to have bankruptcy court approval. You can't have a comprehensive settlement without Pacific Gas & Electric being a part of it."

Moreover, the bankruptcy court's involvement may calm the political rhetoric and provide a framework and impetus for those who are working toward a solution.

Generators: Uncertainty, but Limited Risk

Power generators face a risk because many are creditors of Pacific Gas & Electric and the California Independent System Operator, which bought power from generators on behalf of the utilities. The ISO acts as a conduit for payments from the utilities to generators.

By late February, many generators were owed hundreds of millions of dollars for sales of power through the ISO. They include Dynegy (DYN:NYSE - news - boards) and NRG Corp. (NRG:NYSE - news - boards), at $265 million each; Williams (WMB:NYSE - news - boards), at $110 million; and Mirant (MIR:NYSE - news - boards), at $385 million.

While the companies may get paid all or part of the money as part of the bankruptcy process, the uncertainty will put pressure on the generators. "The voluntary bankruptcy filing by Pacific Gas & Electric and the potential for subsequent bankruptcy filings by others does create a psychological cloud over the convergence industry that will likely hang around for a while until a reorganization is filed," noted UBS Warburg energy analyst Ron Barone.

Dietert says there are many uncertainties. "You will probably see a longer delay in recovering accounts receivable by the generators," says Dietert. "And, there may be negotiated settlements that include reductions in the receivables that actually are paid."

Yet both Barone and Dietert say the impact on the generator's balance sheets will be minimal. "It may mean a 15-cent to 20-cent reduction in cash flow for the utilities," Dietert says. "But I don't see any material earnings impact because most of the generators have taken adequate reserves to cover their exposure."

Adds Barone, "The net exposure of the average company ... to [bankruptcy] is materially mitigated by its senior ranking on the payment food chain, significant reserves established over the several past quarters and the reality that these companies are an integral part of the solution to California's crisis going forward."

Investors were more in tune with perception rather than long-term reality, as all of the generators felt the pressure of Pacific Gas & Electric's filing. Barone thinks that may have been an overreaction. "We note that the market has taken off more than $1.3 billion from Dynegy's market capitalization even though its California exposure is roughly $265 million. Moreover, the market has taken more than $1.7 billion off of Calpine's (CPN:NYSE - news - boards) capitalization, even though its exposure to Pacific Gas & Electric is roughly $300 million without reserves."

Still, it isn't clear that the generators have taken reserves to completely cover their exposure. And PG&E's claim that its debt is growing by nearly $300 million per month suggests the generators' exposure likely grew in March even though the state was directly purchasing most of the power.

However, many of the generators think the filing provides clarity to an otherwise uncertain process. "The Chapter 11 filing provides a defined process to collect our past receivables and keep PG&E in business going forward," a spokesperson for Duke Energy (DUK:NYSE - news - boards) said in a statement after the bankruptcy was filed.

Federal Lawsuit Is Key

The action by Pacific Gas & Electric returns a federal lawsuit to the forefront of the crisis.

In the lawsuit, both PG&E and Edison are asking a federal court to require the CPUC to retroactively raise California retail power rates. The lawsuit sites a longstanding federal precedent, the "filed rate doctrine," that should allow the utilities to pass wholesale power costs through to retail customers. In a February comment, Merrill Lynch utilities analyst Steve Fleishman indicated that the claim is tenable. "They have a very strong case. There is a general expectation that the utilities likely will win this case."

One utility fund manager thinks the focus will now return to this action. "The state was successful in convincing the court to postpone hearing the case because a political solution was at hand," the fund manager said. "Since that is no longer the case, the federal judge may be persuaded to expedite a decision."

Indeed, while neither side will admit as much, Gov. Davis' insistence that the suit be dropped as part of a political solution has likely been the stumbling block to reaching a solution with PG&E. "Why give up on something you are likely to win?" says a source close to the negotiations. "Davis' demand it be dropped suggests he is worried about the outcome."

A trial victory by PG&E and Edison could lead to a faster resolution of the bankruptcy process. While the details of collecting back power costs are complicated, a legal victory would provide a vehicle for making the utilities and their creditors whole. If that were the case, lengthy reorganization in bankruptcy court might be avoided.