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The Sky is NOT Falling

Issue 2 and Volume 106.

By Brian K. Schimmoller,
Managing Editor

From the gloomy tone of the energy-related news stories filling the airwaves and print media these days, you’d be tempted to think the energy industry is in some sort of death spiral. While there has certainly been a pullback in enthusiasm and investment in the energy industry, and the path toward deregulation has been anything but smooth, the mid- and long-term prospects remain strong. The sky is not falling. It’s a little lower, maybe, but it’s not falling.

Admittedly, recent events present cause for concern and demand candid evaluation.

  • The Enron collapse into bankruptcy and nationwide scandal, which may have trumped the California crisis and the corporate defaults of Southern California Edison and Pacific Gas & Electric as the biggest energy story in recent memory, certainly has damaged confidence in the industry. Energy companies, in fact, helped push the nation into a record year for corporate defaults, according to Standard & Poors. Of the 211 issuers that defaulted on a record $115 billion of debt in 2001, Enron, Southern California Edison and PG&E accounted for a whopping 20 percent of the total.
  • The slowing economy and mild weather have applied downward pressure on electricity and fuel prices, diminishing near-term demand for power. Estimates of 1.5 million lost U.S. jobs, on top of already depressed industrial activity, contribute in part to projections from the Energy Information Administration that electricity demand growth will at most reach 0.8 percent in 2002. Power and natural gas prices have been at very low levels for the past six months or more, only reinforcing the negative outlook.
  • Waning Wall Street confidence and interest in energy companies, coupled with the struggling economy, have slowed power plant development. Mirant has deferred or canceled new plant development beyond the 5,700 MW already in construction. PPL Corp. has canceled 2,100 MW of planned development following a re-assessment of current market conditions. And Calpine, after much hand-wringing, finally announced in mid-January that it was placing 34 advanced-stage development projects – totaling 15,100 MW – on hold pending further review.

So why am I not joining in the chorus of naysayers who claim we’ve entered a “bust” cycle? I guess it’s simply because I see the glass as half-full rather than half-empty.

One of the statistics that is being widely bandied about deals with the extent of project cancellations. Some estimates indicate that out of a total portfolio of more than 300,000 MW in new plant announcements over the past year, almost one-third had been canceled or delayed by the end of 2001. The naysayers point to such numbers as proof of a bust cycle, considering that only about 30,000 MW of announced capacity was delayed or canceled in 2000.

But turn those numbers around and things don’t look so bad. If 100,000 MW is now out of the picture, that leaves 200,000 MW still in the game. Is that a bust?

Most likely, the 200,000 MW total will be reduced further. But even if it’s halved, the workload will keep the EPC contractors and equipment suppliers busy for several years. The same week Calpine announced it was scaling back development plans, Duke/Fluor Daniel announced it was awarded three more EPC contracts for gas-fired plants in the Western U.S., bringing its project backlog to more than 16,000 MW.

The slowdown has begun, but its impacts on construction likely won’t be felt until 2004 or 2005, giving the economy – and merchant plant developers – time to recover and find a new equilibrium. I think it’s important to note Calpine’s choice of words in announcing its pullback. The 34 projects were placed “on hold,” not canceled, and Calpine pointedly stated: “Development of these projects will continue until they are ready for construction, at which point they will be placed on ‘hot standby’ status pending further review.”

The mid- and long-term prospects remain promising, as the hi-tech economy grows increasingly dependent on electricity and reliable power. “The increase in demand for power and for higher quality power is going to be driven by the digital economy,” said John Rice, CEO of GE Power Systems at POWER-GEN International this past December. “And although this is probably going to be delayed for a year or soellipseit will return eventually and the timing of that and the significance of that is going to have a big impact.”

When the gas boom was in full force the last few years, it seemed a day didn’t go by without someone announcing a new plant under development. Most of us would end a conversation about the tremendous surge in new plant announcements with a comment like, “Not all of them will get built,” almost afraid to acknowledge, let alone enjoy, the good times.

Well, now that that prediction is indeed coming true, too many fear the worst. The irony is that our industry would have welcomed – with salivating tongue – this “problem” a decade or less ago.

The heady days of the gas boom are indeed giving way to a period of greater caution as the energy industry comes to grips with a slowing economy and wavering investor confidence. Whereas the dot-com industry buckled under such forces, however, the power industry – and its indispensable product – has the bricks and mortar to hold the sky up.