Red Ink Dims Prospects for Cinergy's Trading Operations

Look for the utility to get out of that business soon. Plus, all's not quite quiet on the Western front.
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The heat puts heat on the electric utility business. But have no fear: Unlike some utilities, Power Lines has plenty of juice for all your needs! And today, a basket of powerful news should provide enough energy to get you through the weekend. Hope you find it enlightening.

Cinergy Feels the Heat

As Power Lines

reported last week, power price spikes took a toll on several utilities last month. As the mercury soared to record highs, many utilities scrambled for power to meet demand. One report put prices as high as $12,500 per megawatt-hour, up substantially (to say the least) from the $30-to-$100 per megawatt-hour that's considered normal in the industry.

While many utilities felt the heat, Cincinnati-based

Cinergy

(CIN)

may have been burned the worst. The company will take a $73 million charge in its third quarter to cover losses in energy trading. The charge consists of a $57 million trading loss and $16 million in payments to power marketers in cases in which Cinergy couldn't meet delivery obligations.

In an attempt to soothe investors, Cinergy this week met with analysts in New York and Boston. Cinergy CEO Jim Rogers said there was a chance the company would exit the trading business. "We are either going to fix it or exit," he said at the meeting. But his comments did little to ease investors' concerns: The stock continued its slide this week and has now declined nearly 10% this month.

One analyst at the Boston meeting felt Rogers was a bit too cavalier. "He didn't seem overly concerned about the losses," said the analyst. "Institutional investors weren't happy."

While Rogers' ego may try to keep Cinergy in the trading business, it is unlikely the company's board will concur. An announcement from the company is expected this fall, but one analyst thinks the decision has been made. "They are likely to get out of the trading business," says

Schroder & Co.

analyst Ray Niles. "They are a regional player that doesn't have the scale, scope or experience to compete with the national integrated energy merchants."

Also hurting Cinergy is that its stock's decline also devalues the stock as currency in future business deals. While a merger between Cinergy and Louisville's

LG&E

(LGE)

has been rumored for months, Cinergy's recent price decline makes a deal less likely. "Cinergy isn't in a position to make a purchase that involves its stock," says one buy-side analyst who questions the benefits of a merger with LG&E. "That deal would take two average regional utilities and create a larger, average regional utility. I'm not sure what benefit that provides to anyone." Ironically, last year's price spikes knocked LG&E out of the power-trading business.

While Niles doesn't see any imminent deals, he does think Cinergy stock could bounce back if the company leaves the trading business. "Focusing on its core business should improve valuation," he says. "And, for the right partner with national scope, Cinergy might be an attractive fit." (As we mentioned last week, the companies declined to comment on the rumors.)

More on the Western Front

Along with lower-than-expected second-quarter earnings -- 27 cents a share vs. the

First Call

consensus of 32 cents --

Western Resources

(WR)

disclosed that its security-alarm subsidiary,

Protection One

,

(POI)

received notice from the

Securities and Exchange Commission

raising questions about Protection One's financial statements. In the SEC's view, there are errors that are material to Protection One's financial reports. We reported the

details of the investigation earlier this year. Protection One stock slid on the news, losing nearly a quarter of its value.

If Protection One is forced to restate past financial performance, the changes could reduce Western's past earnings as well. Western declined to comment further.

And, if that isn't enough, the

Kansas Corporations Commission

-- after its staff reached an agreement with Western regarding the terms of its merger with

Kansas City Power & Light

(KLT)

-- has decided to reopen the matter. It appears the commission, after reviewing Western's agreement with Missouri regulators, decided it hadn't negotiated as good a deal as the Show-Me State and wants more for the state and less for Western.

Western was perplexed by the decision. "To think that the KCC will force us to reopen the record in Kansas after we reached an agreement in this merger is unbelievable," said Western's chief administrative officer, Carl Koupal, in a statement.

Unbelievable is an understatement. The commission should remain true to its word and allow the merger to proceed under the negotiated agreement. The fact that Missouri negotiated a different agreement is the result of different facts and different negotiators. The merger is in the long-term best interests of both states, both utilities, their customers and shareholders. This regulatory debacle only accentuates the need for a more uniform approach toward utility deregulation and the merger activity that is sure only to increase.

The unsettling news has pulled Western stock lower. After trading at nearly 27 at the beginning of the month, the stock has dropped to right around 24 today. While both Western and KCP&L say they are committed to completing the merger, both the depressed stock price and regulatory concerns still threaten its completion.

Blackout in the Windy City

Summertime in Chicago is hot enough without power problems. But at

Unicom

(UCM)

, the parent of Chicago's

Commonwealth Edison

, the heat has the company searching for answers to ongoing problems that have led to power outages twice this summer. And Thursday's outage, which halted trading at the

Chicago Board of Trade

, has Chicago's mayor fuming and investors scratching their heads.

Mayor Richard Daley threatened to sue Unicom, saying the company has lied to consumers about its problems. And investors are wondering what the future holds for Unicom. "Last year they said once all their plants were online, they would be fine," says one buy-side analyst. "Two blackouts this year would suggest otherwise."

The company says this year's problems are related to distribution failures, not generation issues. Still, investors are nervous. Unicom stock has dropped from a July high of 42 to 38 in Friday afternoon trading.

Weekend Power Trivia

If you think you know the power business, this trivia question should provide a challenge: Can you name the first U.S. municipality to be powered by electricity?

If you think you know, shoot me an

email. The first three people with the right answer will get a T-shirt or cap with the all-powerful

TSC

logo. Good luck!

Christopher S. Edmonds is president of Resource Dynamics, a private financial consulting firm based in Atlanta. At time of publication, Edmonds' firm was long Protection One, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While Edmonds cannot provide investment advice or recommendations, he welcomes your feedback at

invest@cjnetworks.com.