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Regulators block utility acquisition -- Iberdrola's growing pains

Spanish energy giant Iberdrola's push into the US power market using wind as a bridgehead has run into a roadblock in New York. The company, which is second only to FPL Energy in its ownership of wind assets in the US, has been eager to broaden its footprint in the American market by buying Energy East, a regional energy services and delivery company that sells natural gas and electricity to nearly three million customers across five states in the Northeast. But regulators are concerned the purchase, coupled with Iberdrola's wind plant ownership in the region, would create too much vertical integration of assets in New York, which could lead to high electricity prices for consumers.

For Iberdrola, buying Energy East would not only diversify its American assets beyond wind, but also give it more taxable US income for making use of the $0.02/kWh production tax credit it wins on generation from its 1645 MW of operational wind plant in the US.

Regulators in four of the states in Energy East's market have agreed to the $4.5 billion takeover, but New York State Public Service Commission (PSC) has not signed off on it. The sticking points relate to a pair of utilities owned by Energy East -- New York State Electric & Gas and Rochester Gas & Electric.

New York has a deregulated electric market where state law stipulates that the same company cannot both generate and sell power. Iberdrola's US wind development subsidiary, Iberdrola Renewables, owns 50% of the 300 MW Maple Ridge Wind Farm in New York's Lewis County. The subsidiary, formerly known as PPM Energy of Portland, Oregon, is the nation's second-largest wind developer and has plans for ten new projects in New York. Iberdrola has stated intentions to pour $6.7 billion into the US by 2010.

But with the acquisition of Energy East, it would both be generating power through its wind plants and be selling power through the two New York utilities. The PSC is asking that Iberdrola relinquish its wind assets if it wants to acquire the utilities. "That's the framework," says PSC's James Denn. "And when you come into a state to do something, it's the same for anybody. You know the rules of the road. None of this is new. It's not like six months ago we changed our minds and now we're doing XYZ. This has been a longstanding commission policy."

Uncertain

Negotiations are ongoing but uncertain because Iberdrola is unlikely to sell the wind projects, says the Spanish company. It believes the state should relax its standards on this particular deal because there will be substantial economic benefits to the transaction, including a continuation of the build out of Iberdrola's wind pipeline in New York, which provides income streams to local communities upstate. No one is better positioned to bring a lot more clean wind power online quickly and at the lowest cost, says the company. It is used to operating in a vertically integrated power market in Spain.

Iberdrola says it has a substantially better credit rating than Energy East, meaning that it believes ratepayers will benefit because it can build wind power more cheaply. "In that line of work, you have huge capital expenses that have to be financed on the debt market," says a public affairs professional speaking for Iberdrola, who says he may not be quoted by name. "When you pay more for debt, those costs are ultimately paid by the ratepayers." Whether built by Iberdrola or by others, wind projects will be built in New York because a strong green energy mandate law requires it.

The New York PSC is concerned that Iberdrola could simultaneously generate electricity from its wind projects and set the prices paid for the power through its utilities. Iberdrola counters that laws are in place at the Federal Energy Regulatory Commission (FERC) to prevent that. Wind power, argues Iberdrola's public affairs counselor, is a "price taker, not a price setter."

Furthermore, the load demand is downstate in New York City and a transmission bottleneck roughly separates upstate from downstate. "The power from wind that is added to the grid from these wind farms is not only intermittent -- and therefore not able to set prices -- it's also on the wrong side of the divide if you wanted to try to use it to set prices," he adds.

Denn defends the PSC's position, saying that New York operates as a net-benefit state. "What is meant by that is a merger or an acquisition has to result in benefits to the ratepayers and to the public before it can be approved." In addition to Iberdrola relinquishing its wind assets, the PSC wants the company to create a $664 million trust fund to ensure against hikes in customer rates in addition to $209 million in one-time adjustments. Iberdrola has agreed to $200 million.

The PSC board was expected to consider the issue in late in May. "This is both an energy issue and an economic development issue," says Iberdrola's counselor. The company claims that both FERC and the New York Independent System operator share Iberdrola's view that the PSC's vertical market concerns are without foundation. Iberdrola hopes to see a favourable decision by the end of June.

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