Dynegy CEO Quits as Probe of Sham Trades Intensifies

Dynegy Inc. Chief Executive Chuck Watson resigned Tuesday amid increasing questions about the company’s finances and the energy-trading business that so affected California’s energy crisis.

Dynegy’s board of directors gave no reason for the resignation. But analysts assumed it was related to disclosures of sham transactions in energy trading and to the fact that Dynegy faces downgrading of its credit rating unless it can reduce its large debt.

Watson was replaced on an interim basis by two Dynegy directors, one of whom, Glenn Tilton, is also vice chairman of oil giant ChevronTexaco Corp., which owns 26.5% of Dynegy. Energy experts said Tuesday that ChevronTexaco was stepping in to bolster Dynegy’s standing in credit markets and to sort out its business records.

Houston-based Dynegy, which owns power plants in California and other states plus natural gas pipelines and processing facilities, was once considered a leading player in the industry of energy trading and marketing.

Now it’s under investigation by the Securities and Exchange Commission and the Justice Department for its reporting of a natural gas transaction.

Along with other energy-trading companies, Dynegy’s stock price has fallen sharply this year. Watson--who in an interview Friday with The Times vowed to find a way to restore confidence in the company--becomes the fourth top corporate officer of an energy company to quit this year.

The credibility of the energy-trading sector has been severely damaged by disclosures of sham transactions in energy trading, designed to build up ostensible sales and profits and therefore share prices of the trading companies.

Executives of Reliant Resources, a subsidiary of Reliant Energy Inc. of Houston, and CMS Energy Corp. of Michigan have been forced to resign in recent weeks.

The biggest energy trader of all, Enron Corp., collapsed in Chapter 11 bankruptcy in December--just after Dynegy abandoned an effort to merge with it because Enron’s debt was downgraded to “junk” status.

Now Dynegy, which reported $42.2 billion in sales and $648 million in net income last year, faces a similar downgrade. The company plans to sell partial interest in its assets, including major gas pipelines, to raise money.

Dynegy stock, which sold a year ago for almost $55 a share, closed Tuesday on the New York Stock Exchange at $9.69, up 39 cents, as investors saw in the appointment of Tilton as interim chairman a sign that ChevronTexaco was supporting the Houston firm.

Indeed, the San Francisco-based oil company issued a statement Tuesday that it is “supporting a strategy that will restore investor confidence.”

“Confidence is the crux of the industry’s problem,” said Stephen Bergstrom, chief operating officer of Dynegy. He will continue to serve under Tilton and the interim chief executive, Daniel Dienstbier, a Dynegy director and head of one of its pipeline units.

In addition to its other problems, Dynegy has been hurt by the disclosure that it engaged in a sham trade with CMS Energy. Watson, maintained that the trade was at CMS’ initiation and benefit.

“We didn’t enter the transaction to inflate our revenues,” Watson said.

But Dynegy also constructed within its financial system a Project Alpha, which through complex accounting had the effect of swelling Dynegy’s cash flow by $300million while reducing its federal tax bill by about $80 million. That is the transaction now being investigated by the SEC and the U.S. attorney’s office in Houston.

Bergstrom said in an interview Tuesday that Dynegy now would “roll out information to explain its trading business to shareholders and investors” and the general public.

“More than 80% of our cash flow comes from hard assets, not from trading,” Bergstrom said, referring to Dynegy’s power plants, pipelines and other facilities.

Energy trading began when natural gas was deregulated in the 1980s. Independent gas suppliers, rather than regulated pipeline companies with guaranteed profits, became the marketers of the essential fuel and used trading of contracts to hedge risks.

When electricity deregulation came to half a dozen states, including California, in the 1990s, markets were created to trade electricity supplies.

But some trading practices had the effect of withholding electricity at times from the California market, leading to price spikes.

It was those trading practices that Gov. Gray Davis denounced in the state’s energy crisis of 2000-2001. He referred to Dynegy and other companies as “pirates” and “snakes.”

Those charges were given new credence this month with the release of Enron memoranda outlining trading ploys to inflate prices.

The Federal Energy Regulatory Commission is investigating possible market manipulation by Enron and other California suppliers, including Dynegy.

Dynegy’s Bergstrom and Watson deny that the firm engaged in misleading transactions in California’s market.

The firm purchased power plants from Southern California Edison, among other companies, when the state deregulated in 1998.

Despite pledges to invest as much as $200 million to upgrade the generating plants, Dynegy has not done so and may not be able to afford to now.

Energy experts predicted Tuesday that ChevronTexaco will have its financial executives pore over Dynegy’s business accounts to see which operations are valuable and which are not.

ChevronTexaco’s cumulative investment in Dynegy amounts to $1.3 billion, not counting an additional $1.5 billion Chevron forwarded to Dynegy last fall in the attempted Enron acquisition.