Subject: NGI's Article on the Merger

NGI's Daily Gas Price Index  published : November 13, 2001 Watson: Enron Upside 'Clearly Worth Doing the Deal'  Dynegy CEO Chuck Watson told the investment community Monday that he was "90% sure" that the risk/reward ratio in the planned merger with Enron Corp. made it "clearly worth doing the deal," because the issues that decimated the former market leader were with its non-core businesses.
Explaining that his team had "adequately bracketed the downside," as the deal fell together over the past few weeks, Watson said he could not be "99% positive," but noted that the upside was "substantial," and said he had a "good deal of confidence...that we'll be absolutely fine here."
Dynegy, which announced a $22 billion cash, stock and debt deal with its downtown Houston rival on Friday night, joined with Enron executives including Chairman Kenneth Lay on Monday to answer as many questions as they could in about 90 minutes.
If all goes to plan, the two companies would become Dynegy Inc. by the third quarter of 2002, the clear leader in natural gas and power marketing.
In the second quarter 2001, Enron and Dynegy combined sold a total of 36.2 Bcf/d of gas, which represented 21% of the volumes sold by the top 20 gas marketers in North America (168.9 Bcf/d), according to a ranking by NGI.
Enron was the top gas marketer with 25.3 Bcf/d and Dynegy was No.
6 with 10.9 Bcf/d.
Statistics provided by Maryland-based Energy Performance Review (EPR) show that Enron and Dynegy combined sold 143,824 million kWh of power in the second quarter.
That total represented 14% of the power sold by the top 20 largest power marketers (1,000,961 million kWh), according to EPR.
Enron was in fifth place among power marketers with 73,724 million kWh sold, while Dynegy was in sixth place with 70,100 million kWh.
The blending of the two will not come without challenges, but Watson stressed he expects to see more opportunities than problems.
The opportunity appears to have come none too soon for Enron.
Greg Whalley, Enron's president and a future member of Dynegy's executive team, confirmed that without some kind of equity investment in the company, the once market leader probably could not have sustained its liquidity through the rest of this year.
"We definitely needed to raise some type of equity capital," said Whalley.
"Under normal market conditions, we would have had adequate liquidity.
This was not normal for Enron.
We would not have had liquidity to the end of the year."
Asked about asset sales in anticipation of meeting federal requirements to merge, executives acknowledged there would be some, but did not elaborate.
Whalley said that from an "Enron perspective, we have not spent a lot of time with Dynegy people to agree on a plan.
Chuck (Watson) has to clear what is core to Dynegy.
There are several (assets for consideration to sell) on the list."
Enron Chairman Kenneth Lay, who will not be part of the management team, but may hold a place on the Dynegy board of directors, added that Enron already has $4 billion in sales under contract, all expected to close by the end of 2002.
"We also have three other significant international assets under contract," said Lay, referring to the among other things, the Dabhol power plant in India.
Once the merger of Dynegy with Enron is successfully completed, the new Dynegy will become the "primary market player in all markets," but there will be a significant difference in how the company moves forward, noted Dynegy CFO Rob Doty.
Enron's financial-backed trading strategy will merge with the "strong asset base" of Dynegy's.
Dynegy has protected itself on the downside, however.
The deal includes an out for Dynegy if Enron's legal liabilities exceed $3.5 billion.
Asked about the possibility that some of Enron's marketing and trading team may desert the company for another company, Watson, stressing that teamwork will be the guiding force going forward, said, "if I were in this industry, this is the combination I'd work for.
This is an exciting day here.
It's been an exciting couple of weeks" creating a "platform for something really special in the future."
Enron's Whalley said that he believes the company will keep most of its team intact.
"They're accustomed to being part of a winning deal," he said, and "going forward, they will be very pleased with the additional infusion of equity and the stability in the marketplace."
As of Monday morning, Whalley said that "activity looks pretty good," and said there had been a positive reception to the merger.
"Right now, people are pleased with the introduction of new liquidity, and really want to go about establishing or re-establishing the energy franchise."
Dynegy President Steve Bergstrom agreed.
"Most traders want to be part of a winning team.
This is a combination that will be a winning team.
We have similar issues there as well.
The 'A' players will stay around to be part of the winning team."
Bergstrom explained that when the merger is complete, the new Dynegy will become the "primary player in all markets."
He said Dynegy has a "more asset-backed strategy," adding that he has said before that "you can only have one market maker and Enron clearly was it."
By combining the two companies, there will be a blend of Dynegy's asset strategy with Enron's "financial skill set," giving the new entity "more liquidity market-making than Dynegy itself has historically done."
Added Watson, "both companies had a successful ratio and nothing is going to change there...I'm a strong believer in teams and the team concept.
I don't want to see individuals do well if the company doesn't do well.
It (will be) imbedded in the whole company."
Ben Schlesinger, whose company Schlesinger & Associates analyzes the energy industry, said Monday that the big problem in the merger is "whether these two companies are able to pull together...to harness what's there."
He said the "two parties are clearly leaders," but theoretically, they will have to streamline their operations.
"Both books are fairly strong," he said, and once their efficiencies are put together, the new company will offer "stable returns."
In the "very short term," however, Schlesinger said there will be moves to other traders.
Other analysts also seemed to be throwing support behind the merger.
UBS Warburg reiterated its "strong buy" rating on Dynegy, noting that "if successfully executed, this transaction would yield the most widely recognized, respected and downright credible wholesale/retail energy merchant in the world."
However, UBS warned that Dynegy still faces a "daunting" task in merging the operations and employees.
"We are not naive in underestimating the enormous challenge at hand.
In the near-term, Enron must remain highly liquid, investment grade and its employees must remain focused on keeping its core wholesale/retail franchises up and running."
Merrill Lynch's Donato Eassey reiterated the "buy" on Dynegy and "moving to no opinion" on Enron.
He said, "Dynegy has all the necessary skill sets and as importantly, the financial stability, resources and investor confidence and experience to get the job done...Enron's unparalleled online trading business should translate to significant prospects for the new Dynegy."
Curt Launer, an analyst with Credit Suisse First Boston, added that despite the size of the new company, "we do not expect major divestitures or closing issues because of the lack of asset concentration and the inherent competitiveness of the natural gas and power marketing business."
He noted too that with the combination, "we have modeled a merchant unit that does 25% less business," because of "cross trading between them and some expectation of a loss of market share."
Still, Launer said Dynegy would become a "formidable competitor" benefiting from a market share in excess of 20% of U.S. natural gas and power trading markets."
As expected with most major merger announcements, Moody's Investors Service placed the ratings of Dynegy and its subsidiaries under review for possible downgrade, noting that "notwithstanding the franchise benefits of the proposed merger, the financial and business risks associated with the transaction could negatively impact Dynegy's credit fundamentals."
The review affects about $4 billion of Dynegy securities, including its subsidiaries Illinova Corp. and Illinois Power Co.
In its rating review, Moody's said it will "assess Dynegy's plans to meet the liquidity needs of the combined entity and to deal with the uncertainty surrounding Enron's off-balance sheet transactions and contingent risks...and examine the ultimate structure of the transaction, and its impact on Dynegy's financial leverage and on management's targeted debt levels."
The ratings service also plans to "consider the governance framework within which the combined trading activities will operate."
Ratings under review are: Dynegy's Prime-3 rating for commercial paper; Dynegy Holdings' Baa2 senior unsecured debt rating and its Prime-2 rating for commercial paper; Illinova Corp.'s Baa3 senior unsecured debt rating; and Illinois Power Co.'s Baa1 senior secured and Baa2 senior unsecured debt ratings, and its Prime-2 rating for commercial paper.
Fitch revised its rating watch on Enron's outstanding securities to "evolving" from "negative," where they were placed in late October.
The rating watch evolving means the ratings may be raised, lowered or maintained.
Fitch also placed a rating watch negative on Dynegy and Dynegy Holding's long-term credit ratings, which also means they could be lowered or affirmed.
The outstanding "F2" rated commercial paper programs for Dynegy and Dynegy Holdings were not affected.