Reliant Energy posts wider loss, says company is on track to lowering leverage

By Paul Deckelman

New York, March 2 - Reliant Energy Inc. reported a substantially wider fourth-quarter loss versus a year ago on Wednesday as well as a decline in full-year adjusted income - but the Houston-based utility operator and wholesale energy provider's executives said on a conference call following release of the results that the company continues to make progress toward its goals of lowering its leverage in the near term and, in the longer run, positioning itself to take advantage of coming changes in the energy generation industry, which continues to restructure itself after the Enron Corp. debacle earlier in the decade.

"If you look at industries that have undergone similar restructurings," said Joel Staff, the company's chairman and chief executive officer, such dramatic changes have created opportunities for asset purchases and merger and acquisition activity.

Staff said that Reliant's goals, once it gets to its desired capital structure, will be to "purchase assets at good prices, be the survivor in any merger and look for ways to expand our retail business."

But before it can do any of that, Reliant, which operates utility plants and sells power to other utility operators in such markets as its home base of Texas, California, New York and in the Pennsylvania/New Jersey/Delaware region, will have to keep working to bring down its leverage ratio of debt versus earnings.

At year end, the company had $5.781 billion of total debt, including $585 million of off-balance sheet debt, and $5.142 billion of net debt. About $4.124 billion of the debt was located at the parent company and the remainder at various subsidiaries.

Staff said that in 2004, Reliant had reduced debt by $1 billion by using proceeds from the sale of its upstate New York assets and free cash flow, further reducing bank debt by accessing the capital markets and refinancing the remaining bank facilities at "attractive rates."

The company had adjusted EBITDA for the year of $942 million, which Staff noted was "within 4%" of the $980 million it had projected when it gave 2004 guidance in February of that year, and had free cash flow of $326 million - $76 million more than it originally expected.

For 2005, Reliant is looking for about $1 billion of adjusted EBITDA, in the middle of a range of $900 million to $1.1 billion, "reflecting our significant exposure to commodity prices and market conditions," Staff said, and free cash flow of $375 million, midway between the extremes of $275 million and $475 million.

He noted that a year ago, the company projected a drop in its ratio of adjusted net debt to adjusted EBITDA to 3 times or below by 2006, along with total cost improvements of $340 million - $140 million announced in August 2003 and another $200 million announced in February 2004, "and we remain on track toward honoring those commitments."

First goal is boosting cash flow

The CEO said that Reliant's "first focus" in pursuit of its leverage ratio target would be to boost free cash flow, presumably to use it to further bring down debt, but he said "the numbers imply that we still need to do asset sales."

He said that Reliant had previously projected asset sales of between $1 billion and $2 billion, said that just under $900 million had been harvested that way so far, and so it had "about another billion to go."

Asked by an analyst what kind of asset sales the company might be looking to do, Staff said that "we have to look for an opportunity where someone puts a value on an asset" in line with Reliant's own valuation. Such a deal, he said, "would have to give us the right kind of yield," since while sale proceeds would be used to bring down the debt side of the leverage ratio, losing too much EBITDA from such a deal would defeat the whole purpose. Then too, he cautioned, "we're going to be in this business for a while," and so would be reluctant to unload an asset that would have long-term value to the company's strategy.

The company's chief financial officer, Mark Jacobs, noted that $1.5 billion of the company's debt was floating rate and said Reliant expected to use the proceeds to continue paying down that floating-rate debt.

Staff noted that $4.25 billion debt refinancing Reliant undertook in December moved more of the company's debt to fixed rate from floating rate, one of the company's key financial objectives going into the various transactions, along with the extension of all significant debt maturities out at least five years, and "establishing a clear path to becoming an unsecured creditor."

That refinancing consisted of a new $1.7 billion revolving credit agreement, and a $1.3 billion term loan B facility, upsized from $1.1 billion originally, and a $750 million issue of 6¾% senior secured notes due 2014. The bond offering was downsized by $350 million from an originally planned $1.1 billion by the elimination of a scheduled tranche of new floating-rate notes, with $200 million of the difference shifted to the term loan facility and the other $150 million used to increase a tranche of tax-exempt bonds to $500 million from $350 million originally.

Proceeds from the refinancing were used to refinance existing debt facilities, including a $2.1 billion revolver and a $1.7 billion term loan at the parent company, $300 million of Orion Power Midwest bank debt, and $400 million of floating-rate tax-exempt bonds.

Staff noted that the December refinancing resulted in Reliant's writing off some $60 million, or 13 cents a share, of costs in connection with its prior financings.

Liquidity below target but goal unchanged

Jacobs told an analyst that total year-end liquidity, in terms of cash and available credit, was somewhere in the area of $800 million to $900 million. Reminded that Reliant had previously outlined a goal of keeping liquidity of at least $1 billion, Jacobs said that the current somewhat lower figure did not really represent any kind of change in that goal.

"We look at [natural] gas price scenarios, and we look at stressed commodity scenarios" in a broad range of prices for gas and other fuels, ranging both sharply higher and sharply lower than current levels, he said. "We manage our business to make sure we maintain sufficient liquidity, even in such extreme scenarios," some of which would require the company to post more collateral with its counterparties to ensure that it executes supply agreements on agreed-upon terms.

Reliant reported a fourth-quarter loss from continuing operations of $188 million (63 cents per share), widening out from a loss of $25 million (eight cents per share), for the same period of 2003. The adjusted loss from continuing operations was $81 million (27 cents per share), versus a $7 million loss (three cents per share) a year earlier. The company said the increase in its adjusted loss from continuing operations was primarily related to a decline in retail gross margin and higher interest expense due to accelerated amortization of deferred financing costs resulting from the December refinancing. These factors were partially offset by lower operation and maintenance, selling and marketing and bad debt expenses.

On a full-year basis, Reliant reported a loss from continuing operations of $172 million (58 cents per share) for 2004 - an improvement from the 2003 continuing operations loss of $889 million ($3.03 per share). But adjusted income from continuing operations for 2004 was $21 million (seven cents per share), well down from $193 million (66 cents per share) in 2003.

The company attributed the decline in full-year adjusted income from continuing operations is primarily related to a decline in retail gross margin, increased depreciation and amortization expense and higher interest expense. These factors were partially offset by lower operation and maintenance, selling and marketing, bad debt and other general and administrative expenses.

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