Don Diaz, Contributing Editor
Given the ongoing quagmire of problems in the energy sector, member firms are employing a wide array of methods in order to raise much-needed capital. Bankruptcies, credit downgrades and scandals have all but stifled traditional capital-raising conduits, further eroding investor trust. As a result, hyper-low interest rates, normally a boon to corporate debt-restructuring options, have done little to ease the pain of cash-starved companies. Investor distrust of the sector has also acted to quash equity-finance avenues, which would act to curb bloated, debt-laden balance sheets. Asset sales and unsavory, high-interest rate loans from takeover-minded creditors have increasingly become the price of remaining solvent among power-generating utilities and other sector-related entities.
Visiting the Buffet
CenterPoint Energy Inc.'s (NYSE:CNP) $1.3 billion senior secured "facility," procured November on behalf of its flagging electric utility subsidiary CenterPoint Houston Electric LLC, illustrates the doleful trend plaguing the sector's firms. CenterPoint's utility was near default and forced acceleration on $4.7 billion of its recent outstanding bank debt facility, $400 million of which was due by November 15, mandating it pony up in rate charges or face a likely bankruptcy filing. Its latest facility, or loan, has a three-year term and will cost CenterPoint the London Inter Bank Offering Rate (LIBOR) plus 9.75, subject to a minimum rate of 3 percent LIBOR (the rate has fluctuated between 1.4 to 2 percent in the past 12 months). This equates to a best-case interest rate of 12.75 percent, and still requires CenterPoint to secure the note with second mortgage bonds. Credit Suisse First Boston partnered with Warren Buffet's Berkshire Hathaway to underwrite the high-risk loan, taking advantage of CenterPoint's poor credit rating in order to reap huge interest income. The deal is similar to a $900 million dollar loan Buffet and investment bank Lehman Brothers made to Williams Companies Inc. (NYSE:WMB) in August. Buffet and his New York bankers are earning an unreal 34 percent on their one-year line of credit to the ailing energy firm. Williams, like CenterPoint was also forced to secure the loan, pledging nearly all of its recently acquired assets of Barrett Resources in order to close the deal.
Throwback to Camelot
The astronomical interest rate costs attached to these short-term loans, or lines of credit, underscore the financial woes of the sector. Firms must either pay up for capital in order to meet debt service and continue operations, or face possible bankruptcy. This is especially alarming given the lowest interest rate environment since the Kennedy era.
The Federal Reserve's target for fed funds sits at 1.25 percent, the lowest in 41 years, yet Wall Street remains reticent to further sector exposure. Enron's demise a year ago was a hard, cruel lesson to the street's bankers, brokers and traders, resulting in unfamiliar market paradigms. The failed energy trader's corporate debt was still rated investment grade just one month prior to its bankruptcy, as was the debt of NRG Energy and Southern California Edison. U.S. financial markets have never seen "A" rated debt securities evaporate into default at such hyper rates. The result has been a combination of extreme volatility and ill liquidity in the corporate bond market; with violent downward shifts the general trend. High-yield issues have posted abysmal returns through the first three quarters of the year, while investment grade bonds charted their worst-ever performance versus Treasuries in the third quarter (in contrast, long-term direct U.S. obligation debt is on the verge of outperforming stocks for the third consecutive year).
Raising capital among sector firms will remain a treacherous endeavor in creative financing, at least for the near-term. Hard assets, either sold outright, or pledged as collateral, will continue to play a pivotal role the success or failure of capital procurement. Those securing deals will likely endure high interest costs and severe terms until the sector's high debt loads, weak balance sheets, and lagging revenues are resolved.
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Diaz is an independent industry analyst with 15 years of experience in the financial and energy markets.
