Analysts at UBS, a major investment bank, downgraded FirstEnergy’s stock to a “sell” recommendation. I have seen the 25 page analysis by UBS’s Julien Dumoulin-Smith who follows FirstEnergy, but it is behind a pay wall, so I won’t link to it. Dumoulin-Smith points to very high debt levels at FirstEnergy, as well as threats to the company’s highly leveraged unregulated business, FirstEnergy Solutions, posed by stagnant or falling electricity demand as the main reasons for the downgrade. Dumoulin-Smith revised his stock price projection from $31 per share to $26 per share. FirstEnergy is currently trading at around $33 per share.
A “sell” recommendation is a warning to investors to sell now because the share price is only going to fall. Dumoulin-Smith points directly to FirstEnergy as a merger target, but he doesn’t think anyone wants the company.
Furthermore, it appears unlikely that FE will participate in M&A, either as a buyer or a seller, given that the most logical acquirer (Exelon, the only other large remaining integrated utility) is already pursuing the $7Bn acquisition of PEPCO Holdings, and given FE’s weak currency rather any deal would need to be done for cash. For these reasons we see FE testing its ~$30/sh low and heading lower.
Dumoulin-Smith also sees continued low gas prices and FirstEnergy’s heavy reliance on coal-fired generation as another major threat to the company’s cash flow.
Among the most important takeaways from the latest downturn in gas is the surprising resilience of production in both the Marcellus and Utica regions. We sense that expectations around structural discounts to both these regions remain exceptionally depressed with upwards of $0.75/MMBtu spreads vs. Henry Hub as likely sustainable through the near term. This is likely to drive a continued build of new gas generation in subsequent PJM capacity auctions, enabling further heat rate backwardation – and driving further market share erosion from coal.
You gotta love analystspeak. Dumoulin-Smith loves to throw around words like “backwardation.” Heaven help us.
Dumoulin-Smith points out that FirstEnergy’s strategy has been to cram as many coal-fired power plants into its regulated utilities (Harrison) and to then file base rate cases to jack up the base rate return on equity that gets passed on to rate payers (the WV base rate case filed in April). But given all of FirstEnergy’s other problems, this strategy is too little too late.
Stay tuned. Something big is going to have to happen if FirstEnergy is going to save itself.