Home Utilities: Gas and Electric Wisconsin Energy SWOT Analysis of WISCONSIN ENERGY

SWOT Analysis of WISCONSIN ENERGY

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Wisconsin Energy Corporation is a diversified holding company engaged in electric generation; electric, natural gas, steam and water distribution; and other non utility businesses. The company’s strong retail presence, and diversified customer base reduces its business risk. However, the increasing coal and natural gas prices could reduce the operating margins of the company.

Strengths

Weaknesses

Diversified customer base Clean power generation assets Improving revenues

Declining profitability Decreasing cash from operations

Opportunities

Threats

Power the Future plan Increasing focus on renewable energy Projected increase in the demand for electricity Rate increases

Rising coal and natural gas prices Rising US interest rates Environmental regulations

Strengths

Diversified customer base

WEC serves about 1.1 million electric customers and about one million natural gas customers in Wisconsin. Wisconsin Electric provides electric utility service to a diversified base of customers in such industries as mining, paper, foundry, food products and machinery production, as well as to large retail chains. Edison Sault provides electric service to industrial accounts in the paper, crude oil pipeline and limestone quarry industries, as well as to several state and federal government facilities.
In fiscal 2005, retail electricity sales accounted for more than 90% of the total electric utility sales of 32.4 million megawatt hours. Furthermore, residential sales increased by about 6% in 2005, compared to 2004. The customer base of the company is well diversified, with no segment accounting for a high share of electricity sales. In fiscal 2005, the commercial/industrial customers accounted for 64.3% of total electricity

sales, while residential customers accounted for 26.4%. Commercial segment and others accounted for the remaining retail electricity sales. Strong retail sales partially insulates the company from the volatility in the wholesale segment.

Clean power generation assets

WEC has significant clean power generation assets. Nuclear power accounted for about 20% of its generation capacity in 2005, while natural gas accounted for about 3% of total generation capacity. Hydro power accounted for 2% of total generation capacity. In addition, the company has made recent investments in wind energy facilities. WEC would leverage its strong clean power generation assets to derive a cost advantage and improve its brand image.

Improving revenues

The company witnessed a double digit growth in revenues in fiscal 2005. Its revenues increased by about 12% in 2005, as compared to 2004. In addition, the utility segment’s revenues increased by 12.4% and the revenues of non utility segment more than doubled in fiscal 2005. Moreover, this would enable the company to increase its capital spending which was 4.1% during 2001-2005, higher than the industry average of 3.1%. Improving revenues would provide financial stability as well as enhance the company’s market position.

Weaknesses

Declining profitability

WEC’s profit margins have witnessed a marginal decline in recent years. The company’s operating profit margin decreased from 15.6% in 2004 to 14.7% in 2005, while its net profit margin decreased from 9% to 8.1%. In addition, the company’s margins also lagged behind the industry averages. Moreover, the company’s operating profit margin of 14.7% in 2005 was also significantly lower than that of its key competitors such as Duke Energy (21.6%), PPL Corporation (21.6%), Entergy (17.7%) and PSEG (16.8%). Relatively weak profitability suggests scope for improving operating efficiency and capital structure.

Decreasing cash from operations

WEC recorded a decline of about 4% in net cash flows from its operating activities for the fiscal year ending 2005. The net cash flows from operating activities have come down to $576.9 million in 2005, from $599 million in 2004. Declining cash flows from
operations may adversely affect the company’s liquidity and its ambitious growth plans in short term.
Opportunities

’Power the Future’ plan

WEC has been implementing the ’Power the Future’ plan for the period 2001-2010, to improve the supply and reliability of electricity in Wisconsin. Under Power the Future, the company plans to add new coal-fired and natural gas-fired generating capacity to the state’s power portfolio. As part of its Power the Future strategy, WEC plans to invest approximately $2.6 billion in 2,120 megawatts of new natural gas-fired and coal-fired generating capacity at existing sites; upgrade Wisconsin Electric’s existing electric generating facilities; and invest in upgrades of its existing energy distribution system.
Power the Future plan includes two 545 megawatt natural gas units at an existing site in Port Washington, Wisconsin. The first natural gas unit was placed into service in 2005. The second natural gas unit is expected to be operational in 2008. The construction of two 615 megawatt coal units at an existing site in Oak Creek, Wisconsin has been started, and the first coal unit is expected to be placed in service in 2009, followed by the second unit in 2010. When Power the Future is complete, the company expects to reduce emissions system by more than 65% while generating approximately 50% more electricity. The company’s earnings could grow significantly in the short term.

Increasing focus on renewable energy

Total renewable generation in the US, including combined heat and power generation, is projected to grow from 359 billion kWh in 2003 to 489 billion kWh in 2025, expanding by 1.4% per year through to 2025. The company has been increasing its focus on the renewable energy sources in recent years, as a part of the Power the Future plan. We Energies has targeted 5% of its retail electricity sales to be generated from renewable energy sources by 2011. In 2005, We Energies purchased the development rights for two wind farm projects in Wisconsin from Navitas Energy, which are expected to be online by 2008.
The proposed Blue Sky Green Field Wind Project will be located in the towns of Calumet and Marshfield in northeast Fond du Lac County. The wind project is being designed to generate up to 203 megawatts of electricity to power approximately 45,000 residential homes. Increasing focus on renewable energy projects would reduce its dependence on coal fired power generation capacity and improve its brand image.

Projected increase in the demand for electricity

The electricity demand in the Mid-America Interconnected Network (MAIN) region is expected to increase. Residential electricity demand in this region will increase from 79.8 billion kilowatt-hours in 2004 to 94.9 billion kilowatt-hours in 2014. The industrial electricity demand is expected to increase from 82.6 billion kilowatt-hours in 2004 to 93.5 billion kilowatt-hours in 2014. Total electricity sale (including residential, commercial/other, Industrial and transportation) in the region is expected to increase from 251.8 billion kilowatt-hours in 2004 to 302 billion kilowatt-hours in 2014.
In addition, the company also expects the total retail and municipal electric kilowatt-hour sales of utility energy segment to grow at an annual rate of 1.0% to 1.5% over the next five years. And the annual electric demand is expected to grow at a rate of 2.0% to 3.0% over the next five years in the company’s electric utility service territories. The total therm deliveries of natural gas are expected to grow at an annual rate of approximately 1.6% for the combined gas operations of Wisconsin Electric and Wisconsin Gas over the five-year period till 2010.The company could leverage the growing demand to drive its topline growth.

Rate increases

In July 2005, the company filed an electric and steam price increase request with the Public Service Commission of Wisconsin (PSCW). Under a limited rate proceeding, the company requested an increase in electric rates of $143.6 million for 2006, and an $8.8 million total increase in rates for steam over the two year period of 2006 and 2007. The requested electric rate increase included costs associated with the continued investment in Power the Future strategy; recovery of transmission costs incurred; additional sources of renewable energy; and a rate freeze for day to day operations of the electric system until 2008.
In October 2005, WEC filed a letter with the PSCW to include the additional increased cost of natural gas (in 2005) used for generation of electricity in the company’s pending 2006 pricing request. The PSCW considered these additional costs and approved an increase in electric rates of $222.0 million in January 2006. In addition, the PSCW approved an increase in steam rates of $7.8 million or 31.5% to be phased in over the two year period of 2006 and 2007. These rate increases became effective on January 26, 2006 and are expected to boost the company’s revenues in the short term.

Threats

Rising coal and natural gas prices

The company and its subsidiaries largely use coal and natural gas to generate electricity. Coal accounted for 57.6% of total generation capacity in 2005, while natural gas accounted for about 3%. The price of both these commodities has been rising in the last three years. The average spot price for natural gas at the Henry Hub rose from $5.2 per thousand cubic feet (mcf) in September 2004 to $6.33 per mcf in June 2006. Natural gas prices are likely to rise substantially through 2007. Increased natural gas costs increase the risk that customers will switch to alternative sources of fuel or reduce their usage.
Prices of coal too have increased. The price of Central Appalachia coal (one of the key coal supply bases in the US) was, towards the end of 2004, at its highest level in more than a decade at $65 per ton versus $30 per ton in 2002. Although coal prices have recently come off highs, they are still substantial at $50 per ton in June 2006. The company’s total operating expenses increased by about 13% in fiscal 2005, and its fuel and purchased power costs increased by about 31%. Rising coal and natural gas prices are likely to put pressure on the margins of the company.

Rising US interest rates

The US, the company’s market has seen 17 successive interest rate hikes over the past few years leading to the current high of 5.25%. Inflation fears in US may see another raise in the short-term. A one-percentage point change in interest rates would cause the company’s annual interest expense to increase or decrease by approximately $4.6 million before taxes from short-term borrowings and $1.9 million before taxes from variable rate long-term debt outstanding. This in turn could negatively affect its financing costs and offset some of the positive developments in the US for the growth of the company.

Environmental regulations

WEC is subject to several environmental regulations relating to air emissions such as carbon dioxide, sulfur dioxide, nitrogen oxide, small particulates and mercury, water discharges and management of hazardous and solid waste. The company incurs significant expenditures for the installation of pollution control equipment, environmental monitoring and emissions fees. Moreover, the company’s coal fired power generation capacity accounted for about 57.6% in 2005. Due to this, it may have to reckon with higher environmental compliance costs in the coming years
because of higher emissions from coal generation than clean-burning fuels such as natural gas.
WEC may also be forced to replace its coal fired generation capacity with clean power generation capacity at a considerable cost in the coming years. For instance, the company’s 225-megawatt coal-fired plant was recently replaced by Port Washington Generating Station, which is a natural gas combined-cycle unit.

Environmental compliance costs of Wisconsin Electric were approximately $153 million in 2005 compared with $78 million in 2004. These expenditures are expected to be $83 million during 2006, reflecting nitrogen oxide (NOx), sulfur dioxide (SO2) and other pollution control equipment needed to comply with the US Environmental Protection Agency (EPA) regulations. Greater environmental awareness and stringent regulations could lead to higher operating expenses and capital expenditures by the company for environmental compliance. This will adversely affect the operating margins of the company.