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Subject: FW: Dynegy vs. Enron: A "Tale of Two Companies"
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=20
-----Original Message-----
From: Corey, Paula=20
Sent:  Wednesday, October 24, 2001 3:51 PM
To: Kaminski, Vince J; Mihura,  Brian
Subject: FW: Dynegy vs. Enron: A "Tale of Two Companies" =20
Thought you might find this of  interest
=20
See  you both at 5:00
-----Original Message-----
From: Rhonda Brown  [mailto:rhonda.brown@divine.com]
Sent: Wednesday, October 24, 2001  3:49 PM
To: Paula_Corey@enron. net; Marcinkowski,  Danielle
Subject: Dynegy vs. Enron: A "Tale of Two Companies" =20
fyi, and my apologies  if you already received  this.  =20
=20

Dynegy vs. Enron:
A "Tale of Two Companies" =20
By Will McNamara
Director, Electric Industry Analysis =20

Facts: Dynegy Inc. (NYSE: DYN) beat expectations in  the third quarter, rep=
orting that its earnings rose to $286 million, or 85 cents  per diluted sha=
re, from $177 million, or 55 cents per diluted share, for the  same period =
in 2000. This represented a 22-percent increase from 3Q 2000 and  boosted t=
he company's 2001 earnings estimate. Dynegy has a market capitalization  of=
 $14.5 billion. Its stock is currently trading at about $43 down from a5 2-=
week high of $59, although it is important to note that for year-end 2000 t=
he  company's stock was one of the top performers among Standard & Poor's 5=
00  companies with a total shareholder return of 218 percent. Dynegy employ=
s 5,778  people.=20
Enron Corp. (NYSE: ENE) reported $638 million in losses for  the third quar=
ter, after taking $1.01 billion in charges associated with several  of its =
non-core businesses. The company's 3Q recurring net income (before the  wri=
te-offs) increased 35 percent to $393 million, or 43 cents a diluted share,=
  and revenue in the quarter rose to $47.6 billion from $30 billion in 3Q 2=
000.  Enron has a market capitalization of $14.8 billion. Its stock is curr=
entlyt rading at about $16.0, which represents a six-year low for the compa=
ny and is  considerably lower than the peak of $82 hit in August 2000. Enro=
n employs 20,600  people.=20
Analysis: Dynegy closed out a banner year in 2000 and  appears to still be =
on a roll in terms of its financial performance. In  contrast, Enron faced =
an unprecedented year of turmoil, and is presently  languishing in a low eb=
b, characterized by a strategic crossroads and heightened  scrutiny of the =
company's financial reporting. While the two companies operate  in the same=
 market space of power trading and are fierce competitors,  Dynegy-ironical=
ly the younger and smaller of the two companies-is an industry  success sto=
ry while Enron's status remains rather uncertain. The questions to be  addr=
essed in this article are: What is Dynegy doing "right"? What is Enron doin=
g  "wrong"? What lessons can other power and natural-gas marketers learn fr=
om this  "tale of two companies"?=20
Although they are often referred to as "cross-town rivals,"  Dynegy and Enr=
on are worlds apart in terms of their competitive positions. Their  diverge=
nt approaches to the global marketplace illustrate what could be thes ingle=
-most important element related to their disparate positions at the end of =
 2001. Put more simply, the two companies have vastly different strategies,=
a nd-hindsight being 20/20-a strong argument can be made that Dynegy's stra=
tegy  is the winner at this juncture. Throughout this article, I will focus=
 on two key  areas in which Dynegy and Enron differ dramatically. Those two=
 key areas are the  ownership of physical generation assets and the extent =
to which the companies  have expanded (and invested) into non-core sectors.=
=20
Both companies started out as natural-gas companies and  converged into the=
 power market in the 1990s. However, that is essentially where  their simil=
arities end, and over the last few years Enron and Dynegy havef ollowed dec=
idedly different paths. In an attempt to make the complex rather  rudimenta=
ry, let me summarize the two paths this way: Enron does not believe it  nee=
ds to own physical assets to be a success in the power and natural-gast rad=
ing sector; Dynegy, on the other hand, not only believes in the ownership o=
f  physical assets, but has set a goal that could ultimately establish the =
company  as owning one of the largest generation arsenals in the industry.=
=20
Let's look at the companies separately. We'll discuss Enron  first since it=
 is the older of the two. Enron readily admits that its strategy  is diffic=
ult to define, but a close approximation is that Enron literallyc reates co=
mmodity markets so that it can deliver physical commodities to  customers. =
The participation and success in commodity markets, according toE nron, doe=
s not necessitate ownership of physical assets. In fact, the company  has r=
outinely sold physical assets that are not considered to be strategic to  i=
ts wholesale business. Rather, Enron has concentrated on developing a newp =
hilosophy of risk management excellence, in which it will merely buy and se=
ll  the commodities it needs to participate in trading venues.=20
As an example, Enron bought Portland General (which owns  2,000 MW of gener=
ation and 41,600 kilometers of electric T&D lines) in 1996  as a way to lau=
nch its penetration of the West Coast power markets. When  competition fizz=
led in that region, Enron put Portland General back on the sales  block (a =
sale of Portland General to Northwest Natural is pending at thisw riting). =
Likewise in Europe, where it is one of the most prominent tradingc ompanies=
, Enron has disposed of generation assets such as Sutton Bridge inE ngland =
and, unlike other U.S. competitors, has refrained from buying additional  g=
enerating units in opening countries such as Germany and Italy. According t=
o  its most recent 10K report filed with the Securities and Exchange Commis=
sion,  Enron owns or controls 2,015 MW of generating capacity (including jo=
int  ownerships), which is drastically lower than the average among other c=
ompanies  operating in the power trading sector.=20
Dynegy's approach to the market is crystal clear andr adically different fr=
om Enron's. In the words of CEO Chuck Watson, "Dynegy's  long-term strategy=
 is to focus on marketing and trading around physical assets,  which suppor=
ts earnings sustainability." Ever since going public in 1995, Dynegy  has b=
een on an acquisition binge, with each purchase significantly increasing  i=
ts generation capability. Dynegy presently owns or controls about 27,000 MW=
 of  generating capacity in the United States, 26 gas-processing plants and=
 14,000  miles of pipelines, which are located in geographically competitiv=
e areas. The  company's goal is to own or control 70,000 MW, or 10 percent =
of the U.S. market,  within the next five years. Sometimes, Dynegy has acqu=
ired assets throughp artnerships with other companies such as NRG Energy, b=
ut just as often it has  purchased assets independently. Most notably, when=
 Dynegy acquired Illinova in  early 2000, the purchase doubled Dynegy's gen=
erating capacity. Dynegy is now  attempting to replicate this approach in E=
urope, where it is presently planning  to purchase natural-gas storage faci=
lities in England. Dynegy executives have  argued that natural-gas storage =
is the best way to back up a natural-gas trading  operation. There's no que=
stion that the approach is working. Out of the $286  million that Dynegy re=
ported in the third quarter, $263 million of it came from  the company's ma=
in wholesale business.=20
The issue of asset ownership is probably the centrald efining difference be=
tween Enron and Dynegy, and its significance should not be  overlooked. It =
is not difficult to make a case that supports Dynegy's approach.  Owning ph=
ysical assets often enables a trading company to gain information in  the c=
ourse of operating power plants that can help the company to gauge markets =
 and anticipate small changes in price. In other words, by controlling the =
actual  output of generation instead of just being involved in buys and sel=
ls, a trader  such as Dynegy will theoretically know what the load is going=
 to be in a  particular region, how much power can be produced to meet that=
 load and when  shortages might occur. In addition, in markets that are sho=
rt on infrastructure,  it may be difficult for a trader to participate in t=
he market unless theya ctually have ownership of physical assets in the reg=
ion. By the same token,  those companies that do control physical assets of=
ten have greater communication  with grid operators, and possible insight t=
o spreads (the difference between  various energy prices). In fact, Dynegy'=
s CEO Watson fully acknowledges that his  company excels at being able to t=
rade around the volatility of price, and being  capable of resolving balanc=
es when shortages exist. This may be more difficult  for a company such as =
Enron to accomplish when it has no physical generation of  its own to meet =
discrepancies in power bids. Dynegy's strategy of acquiring both  natural-g=
as pipelines and power plants also gives it the flexibility to trade on  bo=
th commodities.=20
On the other side of this argument, a case could be made  that Enron's appr=
oach provides more flexibility in reacting to trading  volatility. Certainl=
y, by investing less in power generation facilities, Enron  has less capita=
l on the line when compared to a company like Dynegy. Under a  scenario whe=
n market prices suddenly drop, a company such as Enron that does not  have =
heavy capital invested in power generation could actually fare better than =
 an asset-laden company because Enron does not face the pressure to meet th=
ef ixed payments of a generation facility. Asset-heavy companies also may f=
ind  that their earnings could be impacted by the investment in generation =
facilities  in times of extreme price volatility. As the industry becomes i=
ncreasinglyf ocused on bottom-line results, this could be seen as a potenti=
al concern for  investors. Further, some would argue that Enron's approach =
of establishingp urchasing contracts with various parties to meet its buy a=
nd sell requirements  is the rough equivalent of owning a generation facili=
ty. What Enron gains by  this approach is the presumed flexibility it has b=
y not being tied down to a  specific generation unit and being able to buil=
d its own portfolio.=20
Consequently, the issue of asset ownership can perhaps be  considered the "=
great debate" among power traders. However, although Dynegy's  overall perf=
ormance in the third quarter was better than Enron's, that does not  necess=
arily provide a clear endorsement of Dynegy's strategy toward acquiring  ne=
w generation facilities. Keep in mind that Enron's 3Q losses resulted  prim=
arily from non-recurring charges related to its non-core businesses  (broad=
band and water in particular). Without these charges, Enron's core  wholesa=
le trading business continues to perform well. This is a point that CEO  Ke=
n Lay has been quick to reiterate to investors. "Our 26-percent increase in=
  recurring earnings per diluted share shows the very strong results of our=
 core  wholesale and retail energy businesses and our natural-gas pipelines=
," Lay said.  "The continued excellent prospects in these businesses and En=
ron's leadingm arket position make us very confident in our strong earnings=
 outlook."=20
Moreover, perhaps even more than ownership of physical  assets, the key iss=
ue that played a role in the current disparity between Dynegy  and Enron ea=
rnings in the third quarter is the companies' approach to developing  new l=
ines of business. Telecom is a perfect example to illustrate the point.  En=
ron, which prides itself as usually gaining a first-strike advantage, plung=
ed  into the telecom sector well ahead of other energy companies. Under the=
  leadership of then-CEO Jeffrey Skilling, Enron sunk large sums of capital=
 into  purchasing broadband capacity on the expectation that the market wou=
ld quickly  become lucrative. Now Lay admits that the company "could have g=
otten into the  broadband business with less capital" and that Enron "spent=
 too much too soon"  in this sector. Nevertheless, Enron recorded an $80-mi=
llion non-recurringw rite-down for restructuring its broadband unit in the =
third quarter and isp resently attempting to stop the bleeding in this sect=
or by reducing futurec osts in this sector to $40 million a quarter.=20
Dynegy took a much more cautious approach toward expanding  into the teleco=
m sector and made a comparatively small amount of investment when  compared=
 to Enron. Dynegy has likewise been impacted by the slowdown of thet elecom=
 sector, but in the third quarter took a $15-million loss in its  broadband=
 business compared to the $80-million loss that Enron reported.  However, D=
ynegy clearly specializes in marketing and trading two commodities  (electr=
icity and natural gas) and seems to add other businesses in a verym ethodic=
al way that merely supplements its core business.=20
It is also important to note that Enron gained the  first-strike advantage =
when it developed EnronOnline, an electronic tradinge xchange. In fact, Enr=
on was the first to create such an exchange in the energy  space, well ahea=
d of its competitors. Dynegy later followed this trend withc reating Dynegy=
direct. The two exchanges are different in terms of their  trading standard=
s, but it is important to acknowledge that in this particular  case Enron w=
as successful in launching into the electronic trading space well  ahead of=
 its competitors. The latest available information indicates thatE nronOnli=
ne has recorded transactions that exceed $590 in notional value. Since  its=
 inception in November 2000, Dynegydirect has recorded $33 billion in  noti=
onal transactions.=20
At this juncture, Dynegy and Enron are very different with  regard to their=
 approaches toward financial reporting. Enron, which has often  been accuse=
d of not providing a balance sheet to investors, is currently  struggling f=
rom a serious image problem as the Securities and Exchange  Commission purs=
ues an investigation of possible mishandling of funds by Enron's  CFO. To m=
y recollection, no one has ever accused Dynegy of not providing ab alance s=
heet, and thus the company's status with investors is arguably more  solid.=
 As I don't expect either company to radically alter its competitives trate=
gy any time soon, my projection is that (at least in the near term), we  wi=
ll continue to see a wide disparity in Wall Street performance between Dyne=
gy  and Enron. That is not to say that anyone should count Enron out of the=
 game. As  noted, the company's core business of wholesale business remains=
 strong, but  clearly has been tainted by the impact of other non-core busi=
nesses. Thatd oesn't mean Enron is down permanently, but it will have to fi=
nd a way to strike  a better balance between the businesses that it does be=
st and those businesses  that former CEO Jeffrey Skilling believed were adv=
antageous.=20
In many ways, the comparison between Dynegy and Enron is  rather like the t=
ortoise and the hare parable. I am sure you can guess which  company is the=
 tortoise and which is the hare in this analogy. The race between  the two =
is far from over, although Dynegy is taking the lead at this point,b ased o=
n its more methodical approach. What will be fascinating to observe is  how=
 both companies continue to adapt to changes in the marketplace and possibl=
y  modify what up to this point have been adamantly espoused philosophies. =
=20
=20
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