Tuesday, July 11, 2006 6:52:17 PM
ahead-of-the-curve investments
By JERAN WITTENSTEIN, The Daily Transcript
Friday, July 7, 2006
Eight years ago when Sempra Energy formed, many observers viewed the company as just another utility with aspirations to diversify into energy services.
Today the company has achieved diversification and is now focused on its next goal: investing in the future.
Drawing from a lucrative commodities trading branch and infrastructure operations outside of its utilities, San Diego Gas and Electric and Southern California Gas Co., Sempra (NYSE: SRE) has managed to recruit more than half of its $11.7 billion in 2005 revenues and nearly three quarters of its $920 million net income from outside its core utility business.
But the real story behind Sempra's success rests in its ability to forecast industry trends through internal research and to invest in a "counter-cyclical" manner that has enabled the company to secure profits by investing in assets other energy companies have passed over. Example: In 2002 Sempra bought Twin Oaks, a coal-fired power plant in Texas for $120 million. Earlier this year the company sold the plant for $480 million.
"(Sempra) bought coal-fired plants when nobody wanted them and they sold them when everybody wanted them," said Rebecca Followill, an analyst with Howard Weil Inc.
"One of the things that has made us successful is that we are not absolutely wedded to any of the assets," said Neal Schmale, president and chief operating officer of Sempra. "We've always said that at the right price, anything's for sale."
"When everybody's doing something it ends up being the wrong thing," observed Schmale with a sly smile. Schmale has been with Sempra for eight years, serving as chief financial officer before he assumed his current position the beginning of this year.
A lean man in his late 50s, Schmale articulated the company's position in a calm and thorough manner in his corner office, overlooking San Diego Bay, in Sempra's Ash Street building, in which the energy company occupies all 19 floors. "When we see very low prices that people are forecasting are going to last forever, we will tend to see that as a buying opportunity."
Sempra's playbook appears to have worked well for the Fortune 500 company. It has achieved an average annual earnings growth of more than 17 percent since 1998. Sempra has 14,000 employees worldwide and a market capitalization of $11.85 billion, making it the second largest company based in the San Diego-area after Qualcomm (Nasdaq: QCOM).
Commodity investment key
Part of Sempra's ability to get in on the ground floor of an investment lies in its relationship with Sempra Commodities, the company's marketing and trading branch. Schmale explains that being able to source physical commodities and transact in the natural gas and electrical markets are critical components of Sempra's business. Analysts agree.
"(The sale of Coleto Creek) is an example of how the energy marketing and trading business has strategic values for Sempra," said Sam Brothwell, director of power and gas equity research at Wachovia Securities. "Having that presence in the energy market provides synergy to other pieces of the business."
Another important resource the trading branch adds to Sempra is cash flow. In fact, in 2005 Sempra Commodities reported net income of $460 million, half of Sempra's total $920 million.
Unlike many commodities operations forced out of business after Wall Street became disillusioned with the business following the collapse of Enron -- and its cash cow commodities branch -- Sempra Commodities has managed to turn a profit for 29 consecutive quarters.
"A lot of (Sempra's) competitors had to leave the business. They were able to grow that business as others were getting out of it," said Brothwell.
Sempra's operation managed to be profitable, according to Schmale, because it maintained a short dated book, transacting on futures positions no more than a few years out. He also added that Sempra Commodities trades oil, natural gas, powers and metals, making it diversified and less subject to risk.
But while Sempra Commodities is a major contributor to Sempra's bottom line, according to Brothwell and other analysts, it has had a negative impact on the company's stock price.
"The earnings from the commodities business are inherently more volatile and risky than those that come from the utility," Brothwell said. "Sempra started out as a utility. And I would say its core investor base remains utility investors. Utility investors are looking for stability and predictability in the earnings stream. You don't find that in a commodities business."
Despite outperforming the Dow Jones industrial average by 50 percent over the last five years, Brothwell described Sempra's stock as "languishing." Yet he added that his target price for Sempra shares is "high $40s, low $50s."
Followill said she currently has a Buy rating on Sempra's stock and has set a target price of $55. At close on Thursday, shares of Sempra were trading at $45.99.
Schmale agreed that investors have been skeptical of the commodities business because of problems that competitors were having in the market, but added he thinks those feelings are going away. "At some point in time, people little by little get more comfortable with the business."
Full article
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