Seemingly astute move brings Allegheny pain

Acquiring Merrill unit contributes to plunge by stock, reversals

September 29, 2002|By Dan Thanh Dang | Dan Thanh Dang,SUN STAFF

When Allegheny Energy Inc. spent $490 million to buy a power-trading unit from Merrill Lynch & Co. Inc., the purchase was supposed to launch the Hagerstown-based energy company into the ranks of the nation's top 10 power marketers.

Now, more than a year later, owning what was once a lucrative trading business has turned into Allegheny's latest headache, adding to the turmoil resulting from an industry downturn.

This month, Allegheny fired the head of the trading unit on grounds of violating the company's conflict-of-interest policies. Worse, questions of trading improprieties that occurred before it bought Global Energy Markets has Allegheny embroiled in a legal fight with Merrill Lynch.

"At the time, it seemed like the right route to go in order to accelerate earnings," analyst William D. Hyler of CIBC World Markets said of Allegheny's purchase of GEM. "It doesn't look like it made any sense now."

Samir Nangia, energy analyst at Credit Lyonnais Securities, said, "They made a mistake. ... Purchasing GEM has hit them on the negative side in ways that none of us could have perceived."

The GEM debacle punctuates a period during which Allegheny has been forced to drastically change course. It had to dump its plan to split into two businesses. It lowered its expected earnings for the year. It had to cut power plant projects. It trimmed about 600 employees.

The company's stock has plummeted to lows not seen in decades. And investment analysts and ratings agencies have downgraded its credit profile because of a liquidity crunch.

Such a situation was unimaginable in January last year, when it seemed that nothing could go wrong for Allegheny. It had just launched a billion-dollar growth plan, its stock price was at an all-time high, it had announced its plan to buy an energy-trading business, and it had landed in Standard & Poor's 500 index, a closely monitored market benchmark made up of leading U.S. companies.

Allegheny, which supplies electricity to 1.5 million customers in Maryland, Ohio, Pennsylvania, Virginia and West Virginia, was well on its way toward its goal of becoming a nation-wide power producer and marketer.

Then the energy sector collapsed.

Like those of other energy companies, Allegheny's fortunes sank with the fall of wholesale power prices, a reported glut in power plant construction, Enron Corp.'s bankruptcy, California's power crisis and energy-trading scams.

But while others, including Baltimore's Constellation Energy Group Inc. - which changed its top management - have begun recovering, Allegheny is struggling to turn itself around.

"It's not been a very pleasant calendar year for us," said Michael P. Morrell, president of subsidiary Allegheny Energy Supply and the man in charge of the trading unit. Morrell is also Chief Executive Officer Alan J. Noia's No. 2 as they attempt to right the company.

"For the first nine months, 2001 was good for us," Morrell said. "It looked like the moves we made were the right moves. Other companies were making similar decisions.

"But then things that were largely out of our control changed the environment. It made the strategic moves we made not serve us well. ... Now, people say, `Things would be great if you hadn't bought Global Energy Markets. Things would be great if you hadn't entered into negative cash flow agreements with California.' But at that point, it made eminent good sense to do those things.

"As we all know, life doesn't work out as well as one would hope, and hindsight is 20/20," Morrell said.

Noia and Morrell moved swiftly to cut costs after the economy soured. Besides trimming jobs and canceling two power projects, they refocused on Allegheny's reliable, regulated utility business in five states. Noia also has announced that Allegheny is considering selling some contracts and plants to raise cash.

But that hasn't been enough. The stock is mired in the low double digits, closing Friday at $12.86, down from a 52-week high of $42.86. Its debt-to-equity ratio hovers at more than 60 percent. And it lost $32.3 million in the second quarter.

Morrell concedes that it could be next year before progress is evident.

Not everyone is convinced that it will happen that quickly.

Fitch Ratings, a credit rating agency, lowered its rating on Allegheny's senior unsecured debt to BBB from BBB+, noting key concerns that "poor power markets conditions and trading losses affecting AE Supply will weaken [Allegheny's] 2002 consolidated financial profile considerably, lowering the company's coverage ratios and raising its leverage."

`Stocks to Sell Now'

Zacks Investment Research placed Allegheny on its "Stocks to Sell Now" list. Zacks recommended that customers "save themselves the misery of unrelenting losses" by getting rid of stocks that have done 89.8 percent worse than the S&P 500.

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