Energy Deregulation Comes Home to Roost

In the 1980s and 1990s, many analysts argued that the industry had become inefficient, thus hurting consumers. Some big industrial and commercial customers believed they could get cheaper rates by buying power from firms other than the local utility.

In 1992, a bill passed by Congress gave utilities and customers the limited ability to buy and sell power in a new wholesale power market. Last year, the Energy Policy Act of 2005 further freed up utility companies for restructuring and dealmaking.

Constellation's story shows how this works. BG&E has dutifully supplied energy to residential customers at the frozen rates, thanks in part to long-term supply arrangements.

Meanwhile, the rest of Constellation was changing. In October 2001, Shattuck became CEO. He had worked for Bain & Co., a high-powered consulting firm, and then for Deutsche Banc Alex. Brown, an investment banking firm. Shattuck quickly shed real estate, assisted living centers and leasing deals on airplanes to raise cash for the heavily indebted company.

He also changed the corporate culture. "You got the sense back in the 1990s that people here didn't know how to sell or market anything," Shattuck says. "Now there's an entrepreneurial idea."

Part of that new ethic came from buying out the half interest the Goldman Sachs Group Inc. had in an energy trading venture with Constellation for $355 million. At the time, after the 2001 Enron Corp. energy trading scandal, most companies were fleeing that business. In 2002, Constellation spent $250 million to buy New Energy, whose sales force marketed power to industrial clients in 22 states.

Shattuck decided not to spin off BG&E, keeping it as balance to the riskier merchant energy business. And he invested in the nuclear power business when many companies were shunning it. He acquired two nuclear plants in upstate New York to go with Constellation's one other.

By 2004, many industrial customers were buying power directly. That meant paying the local utility regulated transmission fees while making deals with generating companies, brokers or power marketing firms around the country. These deals were made at different prices and for different time periods. In this area, industrial customers or BG&E itself can buy power from any company whose generating stations are hooked up to the Pennsylvania-Jersey-Maryland regional transmission network. Of BG&E's large industrial customers, 87 percent are doing this, which is why the new rate increase won't affect many of them.

Constellation has benefited greatly in this new environment. Its revenue rose to $17.1 billion in 2005 from $4.7 billion in 2002. Its stock price bottomed out in 2002 at $19.30 a share; yesterday it closed at $54.40.

Residential customers, however, are just getting plugged into this new world, and they're feeling rate shock. To supply them, BG&E held auctions in January, February and March. The company says 16 firms submitted bids and that it chose several. Constellation says it was one of those bidders. The identity or other bidders or amount bid has not been disclosed, but Constellation is one of the biggest suppliers in the PJM network. Other bidders could be investment banks that trade energy but don't operate any plants.

And that has Maryland politicians and consumer groups crying foul. The auction, they say, is flawed because in a tight market some low-cost power generators (using coal or nuclear) might get higher prices (closer to natural gas prices) than they would in a regulated system. "You might as well be minting money," said Public Citizen's Slocum.

In Illinois, the attorney general is challenging the legality of the auction system. "The electrons will come down the same wires in the same way," says Cohen, the governor's aide. "What changes is who are the middlemen and what are we paying. This is not about how the power flows, but how the money flows."

What Shattuck calls the "perfect storm" of energy cost increases, the merger and election-year politics has affected his views. A year ago, he predicted that the utility industry would soon have fewer, more competitive and efficient players.

Last week, he was still worried about possible state legislature interference with the Florida Power & Light merger and talked about the feasibility of limited re-regulation.

"My view has changed," he said about the industry's future. "It is more difficult to get transactions done in this industry than in any other industry."