?Ask me about anything except for provisions,? said one banker outside of the conference room. What, and how deep, the charges banks will have to take against souring power loans is not considered a polite subject for a power conference, but crucial to restoring equilibrium in the market. Recognising that some assets were overvalued, indeed that some will take years, if ever, to reach again the values they attained during the boom, is one of the hardest tasks facing power bankers.

This, at least, is the mindset of the private equity-backed shops looking to buy up assets on the cheap. The players, which by and large consist of developers or former developers with deep-pocketed backers, hope that desperation, as well as a seismic shift in corporate lending practices, will deliver them assets at low prices. Their other hope is that utilities will soon become more willing to sign up to power purchase agreements that will improve a plant's economics.

Some have been examining the industry for several years, starting with an interest in making the huge returns that many merchants achieved in 1999 and 2000. As Alan Rosenberg, a former global head of power project finance at Bank of America and now with restructuring firm Alvarez & Marsal, says ?private equity is already a major player in the industry. If you look at the bond positions take to date, the people in the so-called ?rescue? loans and the DIP [debtor in position] financings, there were the same 10 or 15 players in all of them. In two of the largest distressed companies, they are the major investors, so they're quite heavily committed. There have been a lot of new joint ventures springing up to invest in the multitude of assets being put up for sale, but the existing funds have been looking at many of these opportunities for some time.?

A recovery in wholesale prices is in a sense important only as a sign of recovery ? an incentive to utilities to enter into financeable power purchase agreements. And some buyers are interested in playing in the wholesale markets. Doug Egan, CEO of Competitive Power Ventures, says ?we're focused on the extreme end of the spectrum, the true merchants, since we see them as undervalued?. This is a bold bet that depends on location, location, location, and willing lenders, unless Warburg Pincus, a major investor, puts in more equity.

An investor like Invenergy is more interested in signing up contracts on assets that it buys, however, and according to its CFO Jim Murphy, ?sellers have to be honest about what they've got. Short-term contracts are not long-term contracts, and our perceived ability to secure long-term contracts is much more relevant than any forward curves?.

The problem for an investor such as Invenergy is that any utility looking to source additional power would often be able to buy a plant cheaply and bring it into its rate base, rather than commit to high purchased power prices for 25 years. But there have been some encouraging signs that regulators may force utilities in load-constrained regions to enter into PPAs, as has happened to Southern California Edison, ConEd and APS. Jay Worenklein, SG's former global head of project finance turned distressed asset buyer, notes these examples, and believes that the merchant model is dead. As far as he is concerned, ultimately shortages in key markets, and at least a continuation of the status quo in regulation, will create opportunities for key contracts.

George Schaefer, the new treasurer at bankrupt NRG Energy, is less sure that the PPA model will be bankable in the near term. ?I don't see how independents go out and do this if there isn't a long market for power sales?, he said. ?You have to have a lot of capital and equity to build these plants, and I don't see an independent building that kind of capital base, given the sort of multiples they have to pay in the market.?

For utilities at present, however, the incentives to put in place PPAs are decreasing, and ratings agencies no longer view them favourably. In a recent report, Standard & Poor's said that it would begin to treat power contracts signed by utilities as debt. Jeffrey Wolinsky, the report's author, said at the event that ?there are no real incentives for utilities to enter into PPAs, because there is no return, and it is not flattering to their financial statistics. We've come from a utility background where debt/equity is the norm. The industry has pushed the envelope and driven some companies up to maybe 65-70% debt to total capitalisation. But if you look at deregulated markets, particularly something like a refinery, you'd see debt levels at something like 35%, which, given the volatility of the marketplace, is about right. We need to find a new approach to financing this business.?

There is little likelihood, however, of finding a strong unregulated counterparty, since, this universe consists of Coral energy, and the investment banks, and these either are full of exposure to independent power projects, or not looking for long-term contracts. There are signs of recovery, but these are halting, according to Any Rovito, a former finance director at InterGen, now a consultant. He believes that ?on the dispatch risk side, and constructing a collar around price risk, the problem we have is that the surety market fell apart, and a lot of insurance companies that were providing credit to the sector have pulled out of the power market. They're starting to come back in, but it's going to be a slow go. One solution may be for a monoline to provide a wrap on a contract with a utility in exchange for a fee or security, but this solution would be best suited for those with liquidity problems that could not buy assets, because such a contract could not be included in rate base.?

For Rosenberg, the problem is as much one of financial as industry structure. ?It's not just new trading parties and counterparties,? he says, ?but the ability of parties in distress, to trade, to procure fuel, to sell electricity, and to balance their positions has been materially impacted at these companies. This is particularly a problem at companies that have project financings or genco financings, where all the cash is locked up down below in a subsidiary and the trading operations are up above at a corporate level. They have nowhere to turn, they need capital and the capital requirements in this industry have changed, because when you're not investment grade, it costs a lot more to buy gas and sell electricity. Those firms that can take advantage of the current window that has opened in the high yield market will be given a reprieve, for others, however, there are real liquidity issues.?

On the bank side, the predictions for future power prices are a key interest and will be calculated based on projected gas prices and concomitant spark spreads. The psychology at work is best summarised by Brian Goldstein, president for structured finance at Republic Financial. ?The longer institutions can hold off on recognising losses the longer they will,? he says. ?This is perpetuating a delay in valuing assets properly. If people anticipate a recovery in three years, then prices will go up or stay closer to replacement cost. If it is six years, however, then people will choose to sell or acknowledge a lower valuation for these assets.? Finding the tipping point is the most difficult part of negotiating sales ? workout teams have become the inscrutable bear market equivalent of credit committees during the boom.

Goldstein is one of the debt investors who is interested in buying up on the secondary market. He has been buying from lenders with ?deal fatigue?, as he puts it, but acknowledges that by buying in at a discount he will be working from a different direction than existing lenders and will find it a challenge to shape a consensus around a resolution plan without a controlling interest in the loan.

The equity investor will also attest to the inherent problems with restructurings. Patrick Eilers, Vice President at Madison Dearborn Partners, is interested in buying assets at out of chapter 11 but notes that ?you're often dealing with a 100-member creditor base, where any one institution has the ability to holdout looking for incremental value, rather than dealing with just one seller?.

Some banks can be more malleable than others, but the holdout is a well-worn feature of restructurings and rollovers. WestLB, during one presentation, tried to give the perspective of the participant on refinancings. Gary Greendale, executive director in the bank's global specialised finance department, notes that lead agents tend to be appointed at the behest of the corporate client, and tend to be remunerated in a way that creates conflicts of interest.

Greendale posited a number of reasons why the panic towards getting a refinancing done may be based on a number of flawed assumptions, including a misunderstanding at European banks as to what the chapter 11 process entails. The fraught atmosphere also makes communication between agents and participants difficult. A more consultative and open process may make it easier to reach a useful consensus without the pressure, artificial as Greendale believes, of a deadline.

It is probable that Greendale is referring to the Reliant refinancing, which ultimately went through with a few of the concessions that WestLB was looking for, and has been bearing up reasonably well. It is, however, a lesson that banks working on the Mirant and Calpine restructurings, as well as the Chapter 11 corporates NRG Energy and, now, PG&E NEG, would to well to study.

The participants in the roundtable appeared most comfortable trying to suggest what they thought Ferc could do to alleviate the situation, and were prompted by a brief recap of the Ferc's thinking up to the present crisis from an energy lawyer with close experience of dealing with Ferc. ?From a regulatory standpoint what I've seen is that Ferc started out with a model where merchant generation would be able to capture scarcity rents,? he said. ?We'd have price spikes and the regulator would not intervene. The best examples of that are the prices spikes of 1998-9, where we had huge increases. Some people made a lot of money, and some people lost huge amounts. The concept was that a merchant generator would be able to capture those rents and recover its fixed costs going forward.

?This was reflected in the forward price curves and it helped to justify a lot of the assets that were purchased and developed. Ferc stuck with that model in 98 and 99 despite all that political pressure, but started to bend towards the end of 99 and into 2000, and capitulated totally with the fall of the California market. And as a result, in every ISO there are price caps and there is market mitigation. What this means that is every plant that can't cover its fixed costs in the commodity market is not going to make it up during times of scarcity.?

The evidence of moves to bring power plants back into utilities' regulated rate base is growing. Cinergy and Ameren have both attempted to do so, and some of the southern utilities may harbour similar ambitions. As such, they may be the best potential buyers of distressed assets, should the location be right.

The only other bright spot in the market is the ongoing process of unbundling transmission assets. Jon Larson, a principal at Trimaran, the CIBC-affiliated private equity group, and Stephen Shulman, vice president of finance at Trans-Elect, both believe there is a clear incentive for utilities to divest transmission assets, even while they take power plants back in hand. Or, as Shulman says, ?the risks associated with the transmission and generation sectors, respectively, are very different, and it is hard for investors to factor in these separate risks. In the case of transmission the value of transmission assets is higher for an independent company than for an investor-owned utility.?

Larson, who recently bought DTE energy's transmission network in a venture with Kohlberg Kravis Roberts, has an even more ambitious agenda for the industry. ?Those moving a commodity have no business making decisions on its transmission. So I'd advocate an end to co-ops and munis and place all generation in the hands of merchants, although it probably won't happen in my or my children's lifetime.? In the immediate future, some clarity from regulators on power purchase agreements is the best the market can hope for.