Real Assets May Not Be Enough to Save Calpine

Analysts question its liquidity, disclosure, and core strategy

Until recently, Calpine Corp. (CPN ) was the star of the power industry. Unlike Enron Corp., which mostly traded power, Calpine had real assets. It also had ambitious plans to spend billions on new power plants to increase electricity output tenfold by 2005. Wall Street expected huge gains in revenues and earnings. As deregulation took hold, its shares more than tripled, to $57, between January, 2000, and April, 2001.

Today, Calpine is powering down fast. In Enron's wake, investors are worried about the company's disclosure practices. It's reeling from falling electricity demand caused by the recession and from the debts it racked up to fund new plants. Calpine faces uncertainty about its liquidity and expansion strategy. "We're questioning its ability to stay financially viable until an economic recovery comes," says William D. Hyler, an analyst at CIBC World Markets.

Adding to Calpine's woes is the Securities & Exchange Commission. On Feb. 6, the company revealed that the SEC was investigating whether it had violated selective-disclosure rules by allegedly telling a few analysts about 2002 building plans before announcing them publicly. And, in response to an order from the SEC, Calpine made disclosures on Feb. 13 about its payment arrangement with the now-bankrupt Enron, its derivatives transactions, and its contracts with the California state government, a major customer. Despite the scrutiny, "there's no restatement of earnings," says Calpine CEO Peter Cartwright.

Nonetheless, investors have driven Calpine shares down 60%, to about $8.50, since Enron filed for bankruptcy protection on Dec. 2. And Calpine clearly has other problems. It risks running out of cash if demand for power doesn't return. Lehman Brothers analyst Daniel Ford estimates the company's sources of cash for the year total $4.4 billion, just a tad over its estimated $4.3 billion in expenses.

The company contends that Ford's cash estimate is too low. It expects to generate about $1.2 billion in operating cash flow in 2002. It also claims an additional $1.8 billion in cash and bank credit lines totaling $875 million and says it will build a surplus of "several hundred million dollars."

Even so, Calpine will certainly struggle to build that cushion. Its low stock price may rule out issuing equity, and the debt market doesn't look any more inviting. In December, credit-rating agencies Fitch and Moody's Investors Service downgraded $12.7 billion of its debt to junk status. And an industry glut may make selling assets tough.

Nor can Calpine depend on strong growth. No one knows when the economy will recover and reignite power prices. Until that happens, Calpine's outlook remains grim. Many analysts think the company's projected net earnings of $748 million this year, up 13.4% from a year ago, is too optimistic. UBS Warburg, for one, expects 2002 earnings to fall to $594 million. Indeed, California is now seeking to renegotiate its big long-term contracts with Calpine at lower prices. "If California were to successfully renegotiate, servicing $13 billion in debt becomes dicey," says Peter Navarro, a business professor at the University of California at Irvine.

To preserve cash, Calpine has halved its 2002 capital spending budget. The $2.5 billion now earmarked for construction will be used to finish those plants already in progress. "When the economy returns to normal, we'll be in a strong position," says Cartwright. Still, rating agency Fitch figures Calpine shouldn't continue to build plants at all.

Calpine is surely not in the heap of trouble and scandal Enron now finds itself in. But unless it can shore up its balance sheet and make better sense of its aggressive build out, it too faces a dim future.

By Louise Lee in San Mateo, Calif., with Christopher Palmeri in Los Angeles

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