Letbetter leads Reliant's growth in energy market
Todd Cater, WG '02 and Sharon Lin, WG '02
Issue date: 9/24/01 Section: News
Steve Letbetter is Chairman, President and Chief Executive Officer of Reliant Energy, Incorporated. He was interviewed on August 9, 2001.
Wharton Journal: Last year Reliant achieved 65% growth in adjusted earnings. What were the main drivers of that growth?
Steve Letbetter: There were three things that fueled last year’s growth. First, there was the California situation; because of our asset position in the Western region, we benefited from higher prices. Second, last year was our first full year of trading operations, and our trading and marketing skills enabled us to achieve very favorable returns from our assets in a period of volatility. Finally we were able to continue to increase our commercial skills and integrate our functional areas.
WJ: How long can Reliant sustain these growth rates?
SL: Sixty-five percent growth cannot be maintained, but Reliant will continue to take advantage of the arbitrage opportunities with the fuels that support electricity generation, as well as the commercial opportunities that will occur as the market continues to deregulate. When Federal Energy Regulatory Commission (FERC) regulations are completed, there will be additional opportunities. The opening of the electricity marketplace should increase trading volumes substantially. Finally as this industry rationalizes, there will be a natural consolidation as the market demands greater efficiencies. This market will not be in equilibrium by the time I retire and I’m 53 years old, so there will be a few more years!
WJ: Mergers and acquisitions have had a great deal to do with Reliant’s growth in recent years. Do you see that trend continuing?
SL: It will be one of the components, but not the only component. What we’ve been doing is creating a new business. We’ve transformed from a local, regulated electric utility to an integrated energy merchant business working both nationally and internationally. We were only able to do that by bringing in additional necessary skills. And the best way to bring in those skills was through mergers. Going forward, M&A will be more driven by strategic requirements and portfolio fit rather than just a tool for growth. As markets open up, there will be more asset and corporate plays that will come about and support Reliant’s growth.
WJ: From the deregulated side, who are Reliant’s main competitors?
SL: There is a wide range of players in the deregulated energy business. At one extreme is a pure trader across commodities like Enron. They generally have limited physical assets and their business is similar to that of an investment bank - they are more of a market maker. They make markets by trading on either side of a commodity and working on the spreads. At the other extreme is Calpine, which is basically a physical asset player. Their whole business model is to develop projects and gain the margins between the power price and the fuel price. The company only grows when the margin grows. Our model is more balanced. It is based upon the ability to bring energy to the market and commercialize the opportunities that result. Short of physical fuel ownership, we are basically integrated along the entire energy chain. As an entity, we are most like Dynegy.
WJ: Is there any preoccupation with not being specialized like Enron with its trading or Calpine with its asset base?
SL: I personally believe that as this business consolidates, there will be a very limited number of national energy merchants that will evolve. The winning model will look more like ours. It is the combination of asset ownership and commercial skills that is vital. The assets provide the all-important information that you really need to be in a preferred position and to take some of the volatility out of the marketplace. The commercial skills allow you to capture additional value through market inefficiencies while supporting decision-making around asset acquisitions and divestitures.
WJ: What is Reliant’s perspective on the California situation and the best way to solve it?
SL: Put someone in charge that understands Economics 101! (laughs) There are a number of forces that involve not just California but the entire west, because it’s energy grid is interconnected. California has been relying upon the rest of the west for so long that it has created a shortage of capacity and energy throughout the region. The only way you can solve the problem in the long term is by balancing supply and demand.
Markets only work if you offer the right price signals. In California, there is a disconnect between the wholesale price and the price charged at the retail level. In the long-term, the market cannot operate in that fashion because prices will be either too low or too high and will result in windfalls and shortages. FERC has mandated price caps to provide some stability, but in the end that will negatively impact supply investment and therefore is not a solution.
At Reliant, we have engaged in dialogue. We have attempted to engage policy makers and we have been successful in getting the facts out. The significance of these efforts is that the right questions are now being asked. In terms of generation, Reliant has produced a record amount of electricity in California by doubling the output of our plant portfolio, which consists of assets that are 35-50 years old. We are producing all that is possible.
WJ: The majority of Wharton students will seek careers in consulting or banking. Why would Reliant be a solid alternative? And what are the opportunities for an MBA interested in coming to Reliant?
SL: The successful companies in the merchant energy space are dependent on intellectual capital to move forward. That is clearly the number one priority for Reliant. With Reliant, you are part of a business and you have the opportunity to create something that is changing as the market transforms. As the industry restructures, you are participating in a once in a lifetime opportunity. We are looking for people to help implement and execute all these new ideas - we are short on people and long on opportunities.
Wharton Journal: Last year Reliant achieved 65% growth in adjusted earnings. What were the main drivers of that growth?
Steve Letbetter: There were three things that fueled last year’s growth. First, there was the California situation; because of our asset position in the Western region, we benefited from higher prices. Second, last year was our first full year of trading operations, and our trading and marketing skills enabled us to achieve very favorable returns from our assets in a period of volatility. Finally we were able to continue to increase our commercial skills and integrate our functional areas.
WJ: How long can Reliant sustain these growth rates?
SL: Sixty-five percent growth cannot be maintained, but Reliant will continue to take advantage of the arbitrage opportunities with the fuels that support electricity generation, as well as the commercial opportunities that will occur as the market continues to deregulate. When Federal Energy Regulatory Commission (FERC) regulations are completed, there will be additional opportunities. The opening of the electricity marketplace should increase trading volumes substantially. Finally as this industry rationalizes, there will be a natural consolidation as the market demands greater efficiencies. This market will not be in equilibrium by the time I retire and I’m 53 years old, so there will be a few more years!
WJ: Mergers and acquisitions have had a great deal to do with Reliant’s growth in recent years. Do you see that trend continuing?
SL: It will be one of the components, but not the only component. What we’ve been doing is creating a new business. We’ve transformed from a local, regulated electric utility to an integrated energy merchant business working both nationally and internationally. We were only able to do that by bringing in additional necessary skills. And the best way to bring in those skills was through mergers. Going forward, M&A will be more driven by strategic requirements and portfolio fit rather than just a tool for growth. As markets open up, there will be more asset and corporate plays that will come about and support Reliant’s growth.
WJ: From the deregulated side, who are Reliant’s main competitors?
SL: There is a wide range of players in the deregulated energy business. At one extreme is a pure trader across commodities like Enron. They generally have limited physical assets and their business is similar to that of an investment bank - they are more of a market maker. They make markets by trading on either side of a commodity and working on the spreads. At the other extreme is Calpine, which is basically a physical asset player. Their whole business model is to develop projects and gain the margins between the power price and the fuel price. The company only grows when the margin grows. Our model is more balanced. It is based upon the ability to bring energy to the market and commercialize the opportunities that result. Short of physical fuel ownership, we are basically integrated along the entire energy chain. As an entity, we are most like Dynegy.
WJ: Is there any preoccupation with not being specialized like Enron with its trading or Calpine with its asset base?
SL: I personally believe that as this business consolidates, there will be a very limited number of national energy merchants that will evolve. The winning model will look more like ours. It is the combination of asset ownership and commercial skills that is vital. The assets provide the all-important information that you really need to be in a preferred position and to take some of the volatility out of the marketplace. The commercial skills allow you to capture additional value through market inefficiencies while supporting decision-making around asset acquisitions and divestitures.
WJ: What is Reliant’s perspective on the California situation and the best way to solve it?
SL: Put someone in charge that understands Economics 101! (laughs) There are a number of forces that involve not just California but the entire west, because it’s energy grid is interconnected. California has been relying upon the rest of the west for so long that it has created a shortage of capacity and energy throughout the region. The only way you can solve the problem in the long term is by balancing supply and demand.
Markets only work if you offer the right price signals. In California, there is a disconnect between the wholesale price and the price charged at the retail level. In the long-term, the market cannot operate in that fashion because prices will be either too low or too high and will result in windfalls and shortages. FERC has mandated price caps to provide some stability, but in the end that will negatively impact supply investment and therefore is not a solution.
At Reliant, we have engaged in dialogue. We have attempted to engage policy makers and we have been successful in getting the facts out. The significance of these efforts is that the right questions are now being asked. In terms of generation, Reliant has produced a record amount of electricity in California by doubling the output of our plant portfolio, which consists of assets that are 35-50 years old. We are producing all that is possible.
WJ: The majority of Wharton students will seek careers in consulting or banking. Why would Reliant be a solid alternative? And what are the opportunities for an MBA interested in coming to Reliant?
SL: The successful companies in the merchant energy space are dependent on intellectual capital to move forward. That is clearly the number one priority for Reliant. With Reliant, you are part of a business and you have the opportunity to create something that is changing as the market transforms. As the industry restructures, you are participating in a once in a lifetime opportunity. We are looking for people to help implement and execute all these new ideas - we are short on people and long on opportunities.