Incorporated: 1984 as Natural Gas Clearinghouse
Sales: $42.24 billion (2001)
Stock Exchanges: New York
Ticker Symbol: DYN
NAIC: 211112 Natural Gas Liquids (e.g., Ethane, Isobutane, Natural Gasoline, Propane) Recovered from Oil and Gas Field Gases; 221210 Natural Gas Distribution; 221112 Electric Power Distribution Systems
Dynegy Inc. is one of the world’s leading energy commodity and service providers, offering “one-stop” gathering, processing, marketing, and transportation of natural gas, natural gas liquids, crude oil, and electricity. Led almost since its formation by Chairman and CEO Charles L. (Chuck) Watson, Dynegy achieved its market dominance through several mergers and acquisitions in the middle and late 1990s. By the early 2000s, subsidiary Dynegy Midstream Services had become a top producer and marketer of natural gas liquids in North America, with an interest in about 14,000 miles of pipelines and more than 33 gas processing facilities. Dynegy Marketing and Trade was a leading producer of electricity, with 19,000 megawatts (MW) of generating capacity, and a top marketer and trader of natural gas and power. Dynegy’s subsidiary Illinois Power served 650,000 electricity and natural gas customers in 2001, and Dynegy Global Communications moved its parent company into the broadband market, with a 5,100-mile fiber optic network.
Dynegy’s marketing arm essentially acts as an energy services middleman. Dynegy has arranged for the purchase of natural gas supplies from as many as 600 different suppliers ranging from major natural gas producers to small independents. The company has purchased or negotiated for the purchase of specific volumes of natural gas through fixed short-term and long-term contracts and arranged for their transmission or transportation through company-owned and third-party pipeline systems. Supplies purchased have been aggregated by the company and resold to the company’s customers, including local distribution companies, energy utility companies, power plants, and retail and industrial end-users. Dynegy complements its marketing activities with the gathering, processing, fractionation (that is, separation into component parts), and transmission of natural gas liquids, crude oil, and other petroleum and gas-based products, such as butane.
Negotiating the Deregulation of the 1980s
The natural gas industry was tightly regulated until the late 1970s, with the gathering, transportation, and marketing of natural gas dominated by a few companies and pricing restrictions that kept gas prices below market value. Prior to deregulation, natural gas typically was sold on a flat-rate, long-term contract basis. Gas producers sold to interstate pipeline companies, which sold the gas to distributors, which in turn marketed the gas to end-users. The National Gas Policy Act (NGPA) of 1978 began the process of deregulation, loosening restrictions on the transmission, marketing, and production of natural gas, and establishing new pricing layers, which removed price controls from new gas production. Over the next decade and a half the NGPA would be implemented by a series of orders promulgated by the Federal Energy Regulatory Commission (FERC), beginning with Order 380, introduced in 1984, which allowed third-party marketers to sell gas at prices competitive with the gas producers. This was followed by Order 436, which allowed transportation of natural gas over interstate pipelines and opened the way for market-responsive pricing.
The immediate effect of the NGPA was to increase drilling activities, as producers sought to develop gas resources that could be sold without pricing restrictions. But, in 1982, with the onset of a national recession, demand for natural gas collapsed. This situation opened the way for a new method of selling gas, spot pricing, and, with the deregulation of the industry, gave rise to an industry of third-party marketers. The Natural Gas Clearinghouse was set up in June 1984 as a broker for negotiating spot market transactions between producers and end-users. The Clearinghouse itself would not take title to the gas it brokered. The Clearinghouse was formed as a joint venture by investment banker Morgan Stanley, New York law firm Akin, Gump, Strauss, Hauer & Feld, and Transco Energy Company, an interstate natural gas pipeline company with a 10,000-mile system reaching an 11-state market. By October 1984, the Clearinghouse was in business, arranging its first spot market sale of 200 million daily cubic feet of natural gas. The company also negotiated with other pipeline systems to link up with the Clearinghouse.
The venture struggled in its first year. Then Transco and other pipeline companies defected, believing they could negotiate better pricing on their own. Morgan Stanley bought out Transco and Akin, Gump in 1985 for $24 million and recruited Chuck Watson to head up the company. Watson, then 35 years old, had gained 13 years of experience in the energy industry at Conoco Oil. Born at the Great Lakes Naval Academy in Illinois, Watson graduated with a business degree from Oklahoma State University and went to work for Conoco. Considered a rising star at the company, Watson received a series of promotions around the company, giving him a wide range of exposure to pipeline transportation and operations and to the marketing of natural gas and natural gas liquids. When Morgan Stanley hired him as president and CEO of the Natural Gas Clearinghouse, Watson set out to change the company’s focus. Instead of merely acting as a broker, Watson used Morgan Stanley’s financial backing to buy and then resell gas, while also beginning to build the company’s own transmission, distribution, and processing infrastructure through a series of acquisitions. Meanwhile, new orders promulgated by FERC began to increase the volumes of gas the independent marketers were allowed to handle. The Clearinghouse quickly gained a leadership position in the gas marketing field, seeing sales rise to 1.3 billion daily cubic feet by 1988 and then top two billion daily cubic feet the following year, making the Clearinghouse the country’s largest independent natural gas marketer.
The Bill Gates of Gas in the 1990s
Watson sought further growth for the company. In 1989, he arranged to sell the Clearinghouse to two oil and gas exploration and production companies, Apache Corporation and Noble Affiliates, Inc., gaining those companies’ financial backing to fuel expansion. Watson remained as president, CEO, and ultimately chairman of the Clearinghouse. At the end of 1989, he arranged for the Clearinghouse to acquire Apache’s Nagasco, Inc. gas gathering system, boosting the Clearinghouse’s natural gas volume to 2.55 billion daily cubic feet. The following year, the Clearinghouse, which had been developing natural gas futures, began trading gas futures at the New York Mercantile Exchange. By 1990, the Clearinghouse was posting annual revenues of $1.7 billion.
By the beginning of the 1990s, however, margins on sales of natural gas were dropping from a high of 25 cents per 1,000 cubic feet to the single-digit range in the 1990s, reaching a low of two to three cents per 1,000 cubic feet in the 1990s. Watson responded by expanding the Clearinghouse beyond natural gas marketing into gathering, processing, and marketing natural gas, as well as other fuel oils, building the Clearinghouse into a “one-stop energy store.” The company formed its NGC Oil Trading and Transportation subsidiary and began expanding its gathering and processing capacity through acquisitions and contracts of facilities. Between 1990 and early 1994 the company spent some $150 million buying gathering systems and processing and storage facilities. Financing the company’s expansion came from selling it, adding Dekalb Energy Company to the list of owners. Then, in 1992, the company, which had revenues of nearly $2.1 billion in 1991, with an operating profit of $78.5 million, was sold to Louisville Gas & Electric Company and British Gas, each of which controlled a one-third share of the company; management retained control of the remaining one-third. In that year, FERC Order 636 took away the last of the regulatory restrictions on the natural gas industry. In response, the Clearinghouse, through a new subsidiary, Hub Services, Inc., joined with three gas utility companies to form Enerchange LLC, which would own and operate three natural gas marketing hubs. The hubs, which were located at the intersection of interstate pipelines, offered various transaction services to customers, including taking deliveries from multiple suppliers and arranging sales to a range of distributors and end-users.
The company’s revenues, aided by growing sales of natural gas liquids and crude oil, neared $2.5 billion in 1992 and $2.8 billion in 1993. The company’s operating profit, a key industry indicator, also remained strong, at $96.8 million in 1992 and $92 million in 1993. Net profits for these years were $44 and $46 million, respectively, highlighting the tight margins available in the industry. These margins were also leading to an industry shakeout, as the field of marketers began to narrow, and mergers and acquisitions among industry giants marked the industry’s consolidation. Canada’s Nova Corporation entered the U.S. field in 1994, paying $170 million for Louisville Gas & Electric’s share in the Clearinghouse; ownership was now split at 36.5 percent held by both Nova and British Gas and 17 percent held by Clearinghouse management. Terms of the Nova acquisition also brought the Clearinghouse into Canada, through a 50 percent joint venture in Novagas Clearinghouse Ltd., based in Calgary. Also in 1994, the Clearinghouse moved to enter the European market, then beginning its own deregulation, forming the Accord Energy joint venture with British Gas.
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Watson, however, continued to steer the Clearinghouse toward his “energy store” concept. In 1995, the company took an important step toward increasing its capacity in products other than natural gas when it merged with publicly held Trident NGL Holdings Inc. The deal, worth more than $750 million in cash, stock, and the assumption of Trident’s debt, more than doubled the company’s natural gas liquids capacity. The merger also took the company public. The company’s name was changed to NGC Corporation, reflecting the company’s diversification from its natural gas marketing base. By 1995, natural gas marketing contributed only 65 percent of the company’s $3.7 billion in revenues. By then, Watson was already preparing to complete the company’s energy store concept, bringing NGC into selling electricity. Setting up its Electric Clearinghouse subsidiary in 1994, NGC was poised to take advantage of the coming deregulation of the electricity marketing industry, which, at an estimated $200 billion per year, was some three times larger than the natural gas market.
The energy store concept was not unique to NGC. The importance of being able to offer customers a full range of energy services was recognized throughout the industry. A new wave of mergers and acquisitions swept the industry. With the Trident merger, NGC’s share of the market had grown to 8 percent, and the company began to forecast capturing as much as 12 percent during the second half of the decade. By the end of 1996, however, the company had easily surpassed its own forecast. In January 1996, NGC entered talks with industry giant Chevron Corporation to merge Chevron’s gas gathering, processing, and marketing operations with NGC. By June of that year the companies had reached agreement and, by September 1996, the merger was completed. NGC acquired Chevron’s Natural Gas Business unit and parts of its Warren Petroleum subsidiary; Chevron joined British Gas and Nova as owners of NGC, with each controlling approximately 25 percent of the company. NGC’s Trident subsidiary was renamed Warren Petroleum, and Chevron’s natural gas marketing activities were merged under the Natural Gas Clearinghouse subsidiary. The Chevron merger also added to the company’s electricity capacity, making NGC the country’s third largest independent power marketer.
With the merger, NGC also became the industry’s largest gas marketer, with daily volumes of ten billion cubic feet and daily sales of some 470,000 barrels of natural gas liquids taking a 14 percent share of the market. Analysts began comparing Watson, who had steered NGC to become one of the top 150 businesses in the country, with Microsoft’s Bill Gates. Watson stepped down as president in November 1996, but retained his chairman and CEO titles, promising to continue controlling day-to-day activities.
1997–2001: Further Growth Through Acquisitions
In January 1997, the company announced its intention to spend $650 million on capital improvements, investments, and acquisitions. The company’s efforts to purchase more electric power plants and gas processing plants was thwarted by a lack of cash. Only 12 percent of NGC was traded publicly; the rest was owned by employees and three companies. Watson arranged to buy out Nova and British Gas and float their shares on the market, raising the publicly traded portion of the company to 60 percent. The resulting funds helped NGC purchase Destec Energy, an independent power producer. NGC sold Destec’s foreign operations, its Tiger Bay cogeneration plant, and its lignite reserves, but hung on to its U.S. power plants.
Also in 1997, NGC formed several alliances with regional power companies, including NICOR, All Energy, and Canada’s Consumersfirst. The company continued that strategy in 1998, joining forces in the Southeast with Piedmont Natural Gas and AGL Resources to create SouthStar Energy. These joint ventures gave NGC an entrée into local retail markets. That same year, NGC changed its name to Dynegy Inc.
With revenues of $15.4 billion in 1999, Dynegy had more than doubled its 1997 take of $7.3 billion. Although net income, $152 million, was only 1 percent of revenues, it represented a respectable margin for a wholesaler. The company’s retail energy business proved unprofitable in 1999, losing the company $3.5 million. Dynegy, however, was not willing to abandon the electricity retail market. Following its successful strategy in the gas market of purchasing gas processing plants and large producers, Dynegy sought to acquire its own electric power producer, eventually settling on Illinova. Financial difficulties at Illinova helped Dynegy negotiate the bargain basement price of $2 billion. In 2000, Dynegy finalized its purchase of Illinova, acquiring in the process 75-year-old Illinois Power, five power plants, and more than 600,000 retail customers.
Focusing more resources on retail electricity meant Dynegy had to pull back in other areas. In 1999, the company’s midstream business sold four gas processing plants, thus reducing operating expenses by $50 million. The following year, ONEOK bought more of Dynegy’s natural gas assets for $308 million.
With a plan to trade bandwidth online, Dynegy purchased two fiber-optic network providers in 2000: Taxis in Britain, and Extant in the United States. The company also began selling electricity and natural gas online in 2000 through Dynegydirect.
- Natural Gas Clearinghouse is established as a natural gas broker.
- Company acquires Apache’s Nagasco, Inc.
- Company is bought by Louisville Gas & Electric Company, British Gas, and management, each owning a third.
- Company merges with Trident NGL Holdings Inc.
- Company merges with most of Chevron Corporation’s natural gas and gas liquids businesses, including Warren Petroleum.
- Company acquires Destec Energy.
- NGC changes its name to Dynegy Inc.
- Company purchases Illinova, including subsidiary Illinois Power.
- Company backs out of a deal to purchase troubled rival Enron.
Enron Angst in 2001
Having long stood in the shadow of its rival Enron, Dynegy jumped at the chance to play the white knight when Enron faced possible financial ruin in 2001. As the preeminent energy trader in the world, Enron was valued at $70 billion early in the year.
Several high-level resignations and revelations about suspect accounting practices that may have inflated the company’s bottom line sent Enron’s stock plummeting. In November, Dynegy announced that it would save Enron by purchasing it for only $9 billion in Dynegy stock. Further nasty revelations about Enron’s financial position kept its stock falling, until, only two weeks after Dynegy’s offer, Enron’s market capitalization was $270 million. Dynegy pulled out of the deal, sealing Enron’s fate: its stock fell to below $1 a share and bankruptcy was inevitable.
The failed deal was not entirely a fiasco for Dynegy, however. Dynegy had invested $1.5 billion in Enron as part of the merger terms, in return for the right to acquire Enron’s subsidiary Northern Natural Gas (NNG) if the merger fell through. The U.S. natural gas pipeline was valued at $2.25 billion before the deal, making it a nice consolation prize. Although Enron fought the transfer of the subsidiary, at the end of January 2002 Dynegy announced that it had completed its acquisition of NNG.
The spectacular collapse of Enron led to a closer scrutiny of its fellow energy traders, who seemed tainted by association. Although energy trading accounted for only 20 percent of Dynegy’s revenues, compared with 80 percent at Enron, Dynegy saw its stock drop to $20 a share by January 2002. Falling oil and gas prices also hurt Dynegy’s prospects early in 2002. CEO Watson promised to improve the company’s liquidity and bolster its bottom line with a $1.25 billion restructuring plan. Asset sales and capital expense reductions would bring in about $750 million, and a stock offering was expected to raise another $500 million. Whether these measures would be enough to reassure nervous investors remained to be seen.
Dynegy Canada; Dynegy Customer Care; Dynegy Europe Energy; Dynegy Europe Communications; Dynegy Global Communications; Dynegy Operating Company; Dynegy Midwest Generation; Dynegy Midstream Services; Dynegy Northeast Generation; Dynegy Storage Limited; Dynegy Technology Strategy & Ventures; Illinois Power Company; Northern Natural Gas Company; Wholesale Energy Network.
American Electric Power, Inc.; Aquila, Inc.; Duke Energy; Exxon Mobil Corporation; Reliant Energy.
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“The Deal Not Taken,” Forbes, November 28, 2001.
Durgin, Hillary, “Energy Firms See Future Role As Multi-Service ‘Stores,’” Houston Chronicle, September 5, 1995, Bus. Sec., p. 1.
Grugal, Robin M., “NGC Corp.,” Investor’s Business Daily, August 5, 1996, p. A4.
Hotz, Lindsay K., “Dynegy Completes Merger,” Houston Business Journal, June 9, 2000, p. 11B.
McWilliams, Gary, “Chuck Watson’s Power Play,” Business Week, April 8, 1996, p. 98.
Palmeri, Christopher, “Power Base,” Forbes, February 21, 2000, p. 88.
——, “Power Broker,” Forbes, November 6, 1995, p. 60.
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Williams, John, “Business Powers Locked in Feud Over Summit: Watson’s Laid-Back Style Hides Intensity,” Houston Chronicle, December 22, 1996, p. A1.
—M. L. Cohen
—update: Susan Windisch Brown