1. Utility Investment Strategies Objectives & issues November 1999

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5. Contents Introduction. Background. Investment drivers. Strategies summary. States of regulation. Service unbundling. Summary of regulation. Conclusions. Utilities examined.

6. Introduction Last 10 years have seen huge investment in the Victorian & NZ (VNZ) and UK electricity industries by US utilities. It has also seen some withdrawals from these markets by a key US utility (Entergy Corporation). This slide show looks at the key drivers of global investment and examines a few utilities’ strategies.

7. Background In VNZ terms (and perhaps even in UK terms) some overseas utilities are huge. US utilities are heavily regulated on a cost-plus basis, with additional restrictions on recovering stranded costs and imprudent investments. Some larger overseas utilities have accumulated huge cash reserves and borrowing capabilities over the years.

8. Background Deregulation of several global markets in the early 1990’s coincided with privatisation - Victoria, UK and NZ to a lesser extent. Many large US utilities saw it as an opportunity to invest for reasons that appear to fall into five broad categories.

9. Investment drivers Key factors driving global investment by US utilities are.… The likely capital gains if an industry is privatised for less than true market value. The superior earnings at an acceptable risk level that can be derived from less regulated markets. The learning experiences from newly deregulated markets that can be imported back to the domestic market.

10. Investment drivers The desire to boost revenues by redefining the long-term market as global rather than just local or national. The need to diversify risk away from one jurisdiction or economy.

11. Investment drivers Key drivers of global investment are therefore.… the relative states of deregulation between each domestic and global market. the earning potential derived from underlying economic factors. the investment risk in each global market relative to each domestic market (mainly comprising political risk).

12. Strategies summary Identified strategies are therefore.… Capital gain (from purchase and resale). Increase earnings from a fixed portfolio. Increase revenues by redefining and expanding markets (increasing portfolio size). Learning from deregulated markets. Diversifying risk.

13. States of regulation Victoria restructured and privatised early in the 1990’s over a 15 month period. Significant US investment - no obvious evidence to suggest that the industry was sold significantly below market value. Spectacular profits from improved industry efficiencies. Recent supply failures may lead to some sort of supply reliability surveillance.

14. States of regulation NZ restructured with partial privatisation early in the 1990’s over a drawn-out period. Minimal US investment, although huge strategic premiums were paid. Spectacular profits from improved industry efficiencies. Increasing regulation due to recent supply failures and “excessive” profits.

15. States of regulation UK restructured with full privatisation in the late 1980’s. Heavy US investment with huge strategic premiums being paid. Spectacular profits from improved industry efficiencies. Increasing regulation due to “excessive” profits, along with “windfall” taxes.

16. States of regulation Most US states except S.Dakota are at least considering deregulation, with many having approved customer choice to begin over the next year or two. California, Pennsylvania & Massachusetts appear to be leading the way. Many utilities are vigorously fighting to allow recovery of stranded funds.

17. Service unbundling Regulatory regimes are primarily focused on regulating the lines businesses. Lines regulation may look at revenues or profits, and include some measure of supply reliability. Energy markets are unlikely to be regulated because of increasing competition.

18. Summary of regulation NZ - lines businesses will most probably be incentive regulated, with close scrutiny of supply reliability. UK - lines businesses will continue to be incentive regulated, with OFFER signaling that the one-off adjustment may increase in the year beginning 1 April 2000 (this has previously been up to 15%).

19. Summary of regulation UK - water and wastewater businesses are incentive regulated by OFWAT. Possibility of further windfall taxes in the UK - water businesses hit very hard. Victoria - lines revenue regulated on a “fair & reasonable” basis with an incentive criteria. US - various stages of deregulation in each state, focused on mainly on energy.

20. Summary of regulation Early in the 1990’s, the VNZ and UK markets were less regulated than the US. Private profit motive certainly got in ahead of any increasing regulation to restrain profits. Increasing regulation in VNZ and UK markets driven by public concern over “excessive profits” and recent supply failures.

21. Summary of regulation Corresponding decrease in regulation in many US states will make the US a more favorable destination for investment capital.

22. Conclusions Differing states of deregulation are providing huge investment opportunities. Maturing regulatory regimes appear to be reducing the potential earnings streams. Most strategies fall into one or more of the five previously identified.

23. Utilities examined American Electric Power Edison Mission Energy Electricité de France Entergy Corporation General Public Utilities Pacificorp Texas Utilities Utilicorp

24. American Electric Power Late entry into Australia (purchased CitiPower from Entergy) suggests an earnings or market expansion strategy. Opportunities for capital gains in the Victorian market are probably minimal.

25. Edison Mission Energy Recent investment in NZ and Australia suggests a market expansion strategy, combined with learning experience. Introduction of wholesale competition in NZ on 1 April 1999 depressed wholesale prices, hence it is unlikely to be an earnings strategy. Huge premium paid suggests a capital gains strategy is unlikely.

26. Electricité de France Recent purchase of London Electricity following Entergy’s withdrawal, along with several investments in Argentina suggests a market expansion strategy. Emphasis appears to be on holding partial stakes. Strategy is probably not a capital gains one because the UK industry is now relatively mature.

27. Entergy Corporation Original strategy of global market growth has been altered to focus on domestic market penetration. Recent sale of London Electricity, CitiPower and Edesur. Strategy appears to be one of learning about deregulation, possibly some capital gains with business sales.

28. General Public Utilities Extensive electricity and gas investments in Australia, South America and the UK. Strategy appears to be cautious market expansion combined with strong community values. Diversifying risk is a key concern. Recent attempt to enter NZ distribution industry suggests a market expansion strategy.

29. Pacificorp Early and continued investment in Australia (PowerCor) suggests a market expansion strategy - certainly not a capital gain strategy. Merger with SottishPower, who have a similar investment strategy in the UK, would appear to confirm similar values.

30. Texas Utilities Diversified into gas and telecomm’s in Texas. Early movers in Victoria, but appear to be in for the long haul - suggests a market growth strategy. Entry and consolidation into UK at a mature market stage suggests a market growth strategy.

31. Utilicorp Extensive investments in Australia and NZ, thought to be bidding for businesses in SA, and would probably bid if Vector was put up for sale. Early movers in NZ and Australia, but strategy appears to be market expansion. Reducing their stake in United Networks (NZ) to 51% suggesting cautious further investment - could be a response to NZ market uncertainties.

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