Morningstar | Cutting Our PG&E FVE, but Bankruptcy No Death Knell at This Point
Our new fair value estimate for PG&E is $11 per share after considering possible bankruptcy scenarios. We think this is a unique circumstance where shareholders retain postbankruptcy equity value. We are reaffirming our no-moat and very high uncertainty ratings.We think the most likely near-term scenario is a fourth-quarter 2018 accounting charge that cuts PG&E's book equity well below its allowed regulatory capital structure. PG&E would have to issue a large amount of equity to restore its required equity share to 52% of total capital. We think the cost to raise this equity would be prohibitively expensive with the stock trading at just 22% of book value.
PG&E's restricted capital market access likely pushed it toward plans for Chapter 11 bankruptcy. We have raised our cost of equity to 11% from 9% and our cost of debt to 8% from 6.5% in our discounted cash flow valuation. We also now assume shareholders are responsible for $15 billion of probability-adjusted 2017-18 wildfire liabilities.
There are three reasons we think PG&E shareholders will retain equity value through bankruptcy. First, regulators last week voted to create a framework for a so-called stress test that limits 2017 wildfire liabilities. Second, government officials have said they want a healthy investor-owned utility. This would require about a 50% equity layer, limiting the losses shareholders would suffer.
Third, PG&E's financially strong gas and electric transmission businesses must maintain an equity layer to ensure their access to capital markets. A breakup would probably preserve at least $5 billion of equity value in those two businesses for shareholders. Bondholders might be reluctant to support a breakup recapitalization. Wildfire liability securitization, which California Senate Bill 901 allows, would effectively recapitalize the company while protecting bondholders and preserving equity value.
PG&E is a holding company that conducts its business through Pacific Gas and Electric Company (Utility), a public utility engaged in the sale and delivery of electricity and natural gas to customers. The Utility generates electricity and provides electric transmission and distribution services throughout its service territory in northern and central California to residential, commercial, industrial, and agricultural customers. The Utility provides natural gas transportation services to small commercial and residential customers and to industrial, commercial, and natural gas-fired electric generation facilities that are connected to the Utility's gas system in its service territory.
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