Is utility consolidation the order of the day?
Consolidation in the US electric utility industry will continue to gather steam over the next couple of years, according to analysts. "Expect 50% consolidation over the next five years," predicted Gary Hunt, president of Global Energy Advisors at an industry conference. Driving the trend: "The next round of generation is already out there, sitting in the ground," said Hunt. A high number of gas-fired power plants built between 1999 and 2001 are mostly sitting idle.
Gas utilities
Source: Platts
Another driver: Investor-owned utilities (IOUs) have few other opportunities for growth. "IOUs have three paths to growth: ratebase expansion, building fuel resources such as LNG facilities, and the merger with or acquisition of another company," said Randy McAdams, principal at ScottMadden Management Consultants. "We see [mergers and acquisitions] continuing quite a bit. We think there are a couple of major stories that are going to unfold in this industry in the next couple of years."
US utilities are not operating in a high-growth environment, McAdams noted. A recent report by the DOE forecasts 1.8% average annual electricity demand growth over the next 25 years. In that scenario, McAdams said, "it is not realistic for utilities to project 6% to 8% annual earnings growth." The reality of slower growth is already reflected in the price/earnings (P/E) ratios of many utility stocks with P/E ratios in the range of 13 or 18 times earnings, he explained.
Arguing a different perspective, David Schanzer, first vice president with Janney Montgomery Scott LLC, said, "The only thing that stands in the way of a consolidating electric utility industry is the greed of state regulators. If state regulators demand all the savings from a merger up front, a lot of utilities just are not going to do the merger." The temptation could be strong, however. US electricity demand is expected to rise by 3% in 2005 and an additional 1.5% in 2006, largely because of continuing economic growth, according to the EIA.
The agency projected a 2.4% increase in 2005 power demand and 2% growth in 2006, following estimated demand growth of 1.6% in 2004. For the third quarter of 2005, the EIA projected US power demand at 1,073.1-bil kWh, up from the 1,065.2-bil kWh it forecast in June. The estimated electricity demand in Q4 2005 is 923.1-bil kWh, up slightly from the 921.7-bil kWh the agency previously forecast.
A few words of caution
Don't judge the future of the utility and power industries by the present, because you could be wrong.
With some regional variations, most US industry leaders expect the next five years to bring moderate demand growth, no major new environmental regulations, little new restructuring, favorable rate case outcomes, and capital markets that like the stable returns available from companies embracing the "back-to-basics" model. Those were the conclusions of an analysis by Deloitte Research, a unit of Deloitte & Touche USA LLP.