Saturday, January 2, 2010

Buy a Warren Buffett throwaway: Constellation Energy

Constellation Energy is an energy trading holding company with a large regulated utility, Baltimore Gas & Electric, as a subsidiary. In late 2008, the bankruptcy of Lehman Bros caused a massive liquidity crunch for Constellation Energy holding company. The ensuing capital crunch for their positions led them to seek Warren Buffett to provide the capital to allow the holding comapany to stay out of bankruptcy. Warren the White Knight, after staving off creditors sold his position and for his charity received break up fee of $1B from Constellation Energy.

The story was not over. With it's credit rating shot because of the trading mishap, Constellation Energy still needed to secure greater financing. Since the credit markets were closed to risky investments, the company sold half of it's assets to EDF, the French state owned electric utility for $4.5B. The story was still a nail biter because there was political pressure in France not to do the deal. For Constellation Energy, this was a quick end to their liquidity issues or possibly another capital crisis if the deal fell through. On Nov 6th, the deal completed and now CEG is on stable ground.

Reviewing their 3rd quarter statement, the Constellation Energy holding company still holds over $1B in energy trading instrument exposure.

So why touch this dog with bad management? Purely on value. Constellation Energy is a company with annual sales of $19B for 2008 (expected at $16B in 2009) with a market cap of $7B. Now that the EDF joint venture is closed, bankruptcy is absolutely off the table. The company turned profitable again in the 3rd quarter of 2009. Is it sustainable? I don't know. But even if the company breaks even, it is a steal.

Just two years ago, this stock was $60 and had a 3% yield.

I am buying CEG at market. On Jan 4th and it will be the first thing I do in the new year.

Even better than the common shares are the subordinated debt of the Baltimore Gas & Electric (BGE) subsidiary. Thus far, all the problems with CEG have come from the energy trading holding company, the regulated utility has been uneffected other than the fact that they have leaned on the subsidiary for capital during the capital crisis.

As a measure for closing the sale to EDF, CEG committed to recapitalizing BGE.

"The PSC ruled Oct. 30 that Baltimore-based Constellation (NYSE: CEG) could go forward with the EDF deal if it included a handful of concessions. They included:


• A $250 million investment into BGE; and,

• A restriction from drawing dividends from BGE if it would drop the utility’s cash reserves below a certain level."

Thus I am also recommending again BGE Capital Trust II (NYSE:BGE-PB). The subordinated debt has a 7.5% yield and is selling 10% below par.


Lockstep said...

Bought BGE-B at $22.3 and CEG at $34.3.

Lockstep said...

Read an message board post about how CEG is run by ex-Goldman guys and how horrible of a management team they are. Something to watch.

But I still think there is huge value in this company. Stay long.

Lockstep said...

The CEG long position was closed at $33.5 for a loss. CEG is tracking the price of oil and since oil has declined and seemed to have peaked, there is a temporary downside to this stock. Still long BGE-B.


Good onld warren buffett.