Repercussions for the energy industry from the Enron Corp. debacle are bound to be numerous and complex for years to come. One immediate result is fewer opportunities for exploration and production companies to arrange long-term commodity price risk hedges.
The lack of these hedges could generate greater volatility in earnings for natural gas companies in particular. Subsequently, that trend could change the investor profile for corporations whose management insists upon consistent returns by eliminating price risk exposure.
That outlook emerged from an OGJ interview with Harry Quarls, senior vice-president with Booz Allen Hamilton Inc., Dallas.
He noted that Enron's electronic trading platform, Enron Online, was the predominant player offering forward contracts for natural gas and electricity out to 5 years.
"They were very aggressive on the longer-data contractsellipseThe market has disappeared, so we are missing liquidity in the longer-data contracts," Quarls said.
"[That] only matters for people who want 5-year contractsellipse.[for example] people who would hedge or make a bet about a power plant coming on stream, and they want to sell electricity 5 years forth," Quarls said. "It prevents you from locking in profit 5 years from now."
Among trading exchanges, Enron Online had the biggest volume of natural gas and electric trades before its parent company filed for Chapter 11 bankruptcy on Dec. 2, 2001. Since then, Enron Online essentially has gone into hibernation.
The federal bankruptcy judge presiding over the Enron reorganization has approved the sale of Enron Online to UBS Warburg LLC. The deal remains subject to regulatory approvals (OGJ, Jan. 28, 2002, p. 40).
Quarls said the disappearance of long-term hedges creates some market inefficiencies, although he predicted it would not affect short-term pricing. Enron was only one of numerous players providing short-term gas and power contracts with terms of 3-18 months.
"That market, especially in the 3-6 month time frame, is staying very, very liquid, and a lot of trading has moved from Enron Online to IntercontinentalExchange [Inc.]," Quarls said. "[Beyond] 18 months, there is a very, very thin market. That is where no one is playing."
Atlanta-based IntercontinentalExchange (ICE) has reported record trading volumes since Enron's demise. Although ICE is filling much of the void from Enron Online, ICE has established two major distinctions for itself compared with its former competitor.
ICE provides a forum for buyers and sellers to post prices and make trades, but ICE stops short of actually getting involved in the deals itself-unlike Enron, which was willing to take a side of the trade.
Also, Enron is a publicly traded company, while ICE is a private partnership composed of financial and energy companies.
Other impacts
Another post-Enron impact is an increased awareness about the creditworthiness of a company's business partners, Quarls said.
"The counterparty credit risk has really clamped downellipse.I suspect there also has been a clamp-down on traders in terms of limits and authority," he said, adding that he expects it could be 6 months to a year before companies begin to loosen those credit restraints.
"People pretty much believed that Enron, until recently, was a pretty good company [in terms of creditworthiness]," Quarls said.
For example, Dallas-based independent exploration and production company Wiser Oil Co. has said it could lose about $6 million from oil and gas hedges that it had placed with Enron. The hedges were for 2001 and 2002.
Wiser Oil and other creditors have filed a motion asking the bankruptcy judge to appoint another company to supervise or take control of Enron. Citing evidence of shredding of Enron's financial documents, the creditors said Enron executives should not be trusted with leading the company through bankruptcy. A Feb. 20 hearing is slated on that motion.
Meanwhile, Dominion Resources Inc., Richmond, Va., said it took a special after-tax charge of $97 million resulting from its estimated Enron exposure. Houston-based Dynegy Inc., which abandoned a merger offer for Enron, has reported a $67 million after-tax charge from its exposure to Enron's bankruptcy and costs related to the terminated merger agreement.
Deregulation hobbled?
Quarls also said he is concerned that Enron's financial collapse, coupled with last year's energy crisis in California, could delay the process of deregulating electricity markets across the US.
"Of course we are going to have people become more cautionary. I think that would be a mistake, but I think it is going to cause people to have second thoughts about it or try to interject more regulation, which would obstruct the purpose of deregulation in the first place," he said.
Others have expressed this same concern. Vicky Bailey, Assistant Secretary of Energy for International Affairs and Domestic Policy, told reporters at a Jan. 15 US-Canada energy conference in Washington that the combination of the California and Enron debacles probably will slow electricity restructuring efforts down for 2-3 years.
Bailey, who served 7 years on the Federal Energy Regulatory Commission, acknowledged that Enron was aggressive in its efforts to open US energy markets to competition. She defended those efforts, adding congressional scrutiny of Enron may make other energy companies reluctant to become the next deregulation promoter.
"The Enron issue is a financial issue, banking issue, accounting issue," she told Reuters. "It shouldn't be the death knell for energy legislation, because that's larger than Enron."
Meanwhile, the C Three Group LLC, an Atlanta management consulting company, has said Enron's problems, combined with the "dot-com" bust are bad omens for the energy industry.
"Despite its sins, Enron fought a 10-year-plus battle to open the electricity industry to competition. Thus far, it's unclear who will assume Enron's leadership role in keeping deregulation moving forward," said Jean Rollins, founder of C Three Group.
Auditing practices
Although it's unclear yet how Enron's problems might affect energy trading accounting practices, Quarks said he doubts that most other companies will see a noticeable impact on their accounting methods in general.
Enron's accounting firm, Arthur Andersen LLP, is under congressional investigation regarding its role in how Enron disclosed its financial results.
"For most energy companies that are traders, it's not an issue. For BP [PLC] or Royal Dutch/Shell [Group], or Williams [Cos. Inc.], you get some big trading revenues but relative to your asset size, it's not that important," he said.
He said a second issue would be whether more disclosure is required regarding off-balance sheet items.
"You might see some tightening down of what really can be taken off balance sheetellipse.But for most people, I don't think it is going to affect what they do. The changes could be a combination of government oversight and maybe some self-policing of the accounting profession," he said.
