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This must be what it feels like in the eye of a hurricane. An eerie calm in an oddly empty space. Muted light. No noise. A sense that just outside this sanctuary, all hell is breaking loose. Stephen Pickett sits in a standard-issue, windowless office in a San Francisco building patiently answering a reporter’s questions. Silver-haired with a classic fireplug build, he seems solid, reassuring. He’s remarkably composed for a man in the midst of the biggest crisis of his career — a disaster that could bankrupt the company he’s worked for since 1978, and trash the economy of the state where he’s lived his entire life. Pickett is the general counsel for Southern California Edison. That used to mean a nice, guaranteed way of life for him and his 70 lawyers. After all, in the game of Monopoly the most reliable, albeit boring, properties to hold are the utilities: the Electric Company and the Water Works. Not anymore. Now in the fifth year A.D. (After Deregulation), with the California energy crisis raging, Pickett and company are caught in a swirl of lawsuits, legislative wrangling, regulatory battles, and high-stakes negotiations. His staff has been in overdrive for about a year, working nights and weekends, through Thanksgiving, Christmas, and then Easter, with little or no vacation and no prospect for pay raises or bonuses. Pickett himself is constantly conferring with teams of outside counsel, which now include bankruptcy specialists. “Nothing,” says Pickett, leaning forward, eyes bright, “could have prepared me or anyone else for this.” He spoke not long after a marathon 48-hour meeting in which he’d worked out a rescue plan for Edison with lawyers for the state. The goal was simple: Avoid bankruptcy. The state’s biggest utility, Pacific Gas and Electric Company, had been unable to reach such an accord, and so had filed for Chapter 11 just the week before. “PG&E pulled the ripcord, and our chute opened,” says Pickett. “The governor realized he didn’t have time to diddle around.” At the SoCal Edison headquarters in Rosemead, Calif. (just outside L.A.), Pickett says, “emotionally there was a sense … of, ‘My God, this is real now,’ and an increased vigor about trying to help us avoid bankruptcy.” The plan called for the state to buy Edison’s power transmission system for nearly $3 billion, injecting the utility with badly needed cash to pay off what by May was $5 billion in debt. The hope was that such a move would make Edison more attractive to investors and lending institutions. But the deal needs legislative approval by August, and state lawmakers are balking, trying instead to devise their own deals to pitch to Edison. They also are gridlocked with about 200 energy crisis-related bills. Only this was certain: A lot of legal work would have to be done, and life in the utility law department might never be predictable again. “I think all of us feel that this is the most challenging professional opportunity we’ve ever had as lawyers,” says Barbara Reeves, Edison’s assistant general counsel in charge of litigation. Reeves, who once headed the litigation department at Los Angeles’ Paul, Hastings, Janofsky & Walker, had left the firm to join Edison in the wake of deregulation because it looked like “a really interesting challenge.” She had no idea. THE STAGE IS SET From the outset, Pickett and other utility insiders were skeptical of deregulation. But they resigned themselves to its inevitability. Deregulation would let customers choose among electricity providers and, Pickett says, “customer choice would be impossible to oppose.” As much as the folks at Edison and other California utility companies could, they tried to influence how the new marketplace would operate. The utilities and their substantial in-house lobbying staffs pressed hard to shape the deregulation bill that California lawmakers adopted — unanimously — in 1996. But many onlookers, Pickett included, felt that even though the final version was more utility-friendly than the original plan, it was still badly flawed. And the prospect of changing over unnerved him. “We were moving from a known environment to an unknown one,” Pickett explains. “Known environment” is a great understatement for Pickett, a lifer in the utility business. After graduating from California State University, Los Angeles, he worked as an engineer for several years before going to law school. He had his heart set on utility work. “The electricity industry always fascinated me,” he says. So, from Southwestern Law School, Pickett went directly to Southern California Edison. As he worked his way up the corporate ladder, Pickett supervised almost every practice area within the law department. But mostly his hands-on work was in the regulatory arena. After 22 years, Pickett ascended to the top legal spot at age 49 in January of 2000. It was just in time for the energy crisis. THE YEAR OF LIVING DANGEROUSLY The next month, the Federal Energy Regulatory Commission (FERC) issued a ruling that would have the effect of allowing the price of natural gas to rise. Natural gas is used to fire many power plants, so energy suppliers started raising the prices that they charged utilities. By May, California’s deregulated electricity market was going haywire. “We were in a transition period to deregulation and suddenly we were almost immediately in crisis, trying to do something about runaway prices,” Pickett says. As he and his brethren had feared, the California law created a marketplace that could be easily manipulated. A number of other deregulated states, including New Jersey, New York, and Pennsylvania, allow utilities to hedge power purchases or “buy forward,” as it’s known. Long-term, set-priced contracts give the companies time to adjust to the market. But California’s legislation not only required the utilities to sell most of their power plants, it also forced them to buy power on the spot market. The theory was that spot buying would create the most viable, open marketplace for electricity. But it also can, and did, lead to price volatility. “Electricity traders want to make money,” says one power company lawyer. “You can’t blame them.” Meanwhile, California’s partial deregulation plan kept utility rates frozen. Edison and PG&E could not pass their costs on to consumers — and those costs were killing them. In late April 2000 electricity ran 2.7 cents per kilowatt hour at peak demand. By July 1 the price shot up to 52 cents. For the utility lawyers, doing business was getting more complex and combative. They launched what Pickett describes as an all-out campaign to get the feds to adopt price controls, and to win some sort of regulatory relief from the state. That meant many filings with FERC and the California Public Utilities Commission (PUC). There was, says Pickett, “a dramatically increased workload for all of our lawyers,” including outside counsel, primarily Steptoe & Johnson in Washington, D.C., and Munger, Tolles & Olson in L.A. Pickett estimates that his staff (which is divided into three areas: transactions, litigation, and regulatory) has been forced to work 25 percent harder than before the crisis. But, given the fiscal emergency, he has not been able to give them raises, or even bonuses. Salaries already were a problem. Lawyers’ pay averaged about $121,500 and bonuses around $25,000, according to responses to Corporate Counsel‘s 2001 Quality of Life survey. Both figures fell below the averages for 26 corporate law departments in the survey. (However, the total cash compensation was just below the median for lawyers at 20 utilities, of which Edison was one, polled in PricewaterhouseCoopers’ 2000 U.S. Law Department Spending Survey: $139,962.) Edison had been planning to shift to an incentive-driven compensation system that would reflect the new competitive market in which utilities found themselves. But then energy prices began to rise — and the incentive plan was put on hold. SPIRALING OUT OF CONTROL When the summer heat kicked in, power demand among Edison’s 4.3 million customers soared. California didn’t have enough electricity generation capacity to keep pace, because power plant construction in the state had stopped a decade earlier. Tough environmental laws and a wait-and-see approach to deregulation had killed almost all plant-building plans. So in the summer of 2000 the utilities were looking elsewhere for electricity to keep their customers’ lights on. Sometimes there was simply not enough. Shortages led to rolling blackouts up and down the state. The utilities began piling up billions of dollars in debt. Yet the stock value of SoCal Edison’s parent company, Edison International (which operates power plants worldwide) managed to withstand this onslaught. Throughout the summer it held steady at $20-$25 a share. In September, Pickett and other Edison officials were still optimistic. They believed that the high wholesale prices, while extreme, were a normal consequence of the traditional summertime peak. Then October arrived, and there was no fall — either in consumer demand or in the prices generators were charging. Clearly, deregulation California-style was failing. The scheme hadn’t foreseen the boom in the state’s high-tech new economy, with its skyrocketing need for power. Also, the population in California and its neighboring states (Arizona, Colorado, Nevada, and Washington) had exploded, along with their competing demands for energy. Wholesale energy prices hit the roof — then kept going: from about $25 a megawatt hour in January 2000 to more than $250 by fall 2001. Edison and PG&E, along with California government officials, accused the power-selling companies of price gouging. Denying the charge, the suppliers blamed higher prices for the natural gas that they need to buy to fuel their plants. Heading into November, the crisis was gathering energy as the state was losing it. Once again, Edison’s in-house government affairs staff was lobbying federal and state officials, asking for some sort of regulatory relief. “If you look at what we needed, and that included being able to raise rates and to engage in long-term contracts, it wasn’t rocket science,” says Ann Cohn, the associate general counsel at Edison in charge of regulatory affairs. Pickett was confident that they’d get some kind of relief. “Having reliable electric service depends on there being credit-worthy utilities to provide it,” Pickett explains. “We didn’t think regulators would allow the situation to deteriorate any further than it had.” But they did. Regulators put their faith, and the utilities’ fate, in the market. Many frustrating conversations with state officials later, the Edison lawyers feared for the company’s life. Lengthy talks among Edison’s management team, top legal officers, and outside counsel led to what Cohn calls “a well-agonized-over” decision to sue the state PUC to force it to lift the rate freeze and let Edison pass on its higher energy costs to customers. Edison, led by Reeves and John Spiegel of Munger Tolles, asked U.S. District Court Judge Ronald Lew in L.A. to uphold the Filed Rate Doctrine, a federal regulation that the company argued allowed Edison to charge customers what it was paying for electricity. The company also claimed that the state, by refusing to allow a rate hike, was engaging in an illegal taking. The filing was a defining moment in the crisis for Edison, the state and everybody in the energy business in California. It announced to the country how serious were Edison’s woes, and brought the crisis into the court-house. It also marked the end of any normal life for Edison’s lawyers. “I said to our in-house and outside lawyers,” recalls Reeves: ” ‘This is a bet-the-company issue.’ ” It was a refrain she’d repeat often to keep her troops fired up. The PUC suit was just one component of a larger Edison strategy that, beginning in November, assumed a “best defense is a good offense” approach to state and federal regulatory issues. In late November, FERC handed down an order that declared the California energy market “dysfunctional.” But, says J. A. “Lon” Bouknight Jr., Steptoe chairman and Edison’s outside regulatory counsel, the order did nothing to make the market healthy. So Edison’s lawyers asked the U.S. Court of Appeals for the D.C. Circuit to order FERC to take steps — immediately — to fix the problems. The court declined to do so. “I’ve never seen anything as difficult as this,” says Bouknight. Neither has Cohn, who joined Edison 20 years ago right out of law school. Incredulous, she speaks of the regulatory agencies’ and legislators’ lack of intervention as the crisis worsened — and tells of how the utilities were left out of the decision-making process. “This is unfathomable, what started happening in terms of the policy makers’ unwillingness to look at the issues involved,” says Cohn. “I can’t explain why the utilities weren’t listened to.” A LONG, HARD WINTER As fall blurred into winter, the company was paying five times more for power on the wholesale market than what it could charge customers. The debt became crushing — hitting $5 billion in January. Edison stopped paying its outside power producers, forcing the state to start buying electricity for Edison’s customers. Edison International’s stock finally took the hit. From nearly $25 in November, it plunged to under $5 in January. “By December and January,” says Pickett, “we were giving bankruptcy serious consideration.” That, of course, meant hiring bankruptcy counsel. Ronald Olson of Munger Tolles had been Edison’s primary lawyer for about a decade. So Pickett took his advice and hired as the utility’s restructuring specialist Robert Greenfield, a partner at L.A.’s Stutman, Treister & Glatt. Greenfield has represented such high-profile debtors as the now-defunct department store conglomerate Carter Hawley Hale Inc., and creditors such as United Airlines. Stutman Treister is generally considered one of the nation’s premier bankruptcy firms. Immediately Greenfield went to work with Munger Tolles bankruptcy attorney Thomas Walper to help Edison avoid Chapter 11 — and to prepare the company just in case it did have to file. Greenfield got on the phone and had face-to-face meetings with creditors and lenders. A team of five Stutman Treister lawyers were assigned solely to Edison’s case. Edison’s dilemma, says Greenfield, is “much more complicated than the usual bankruptcy situation” because of the regulatory issues involved. A separate group of Edison lawyers — led by Cohn on the inside, and by outside counsel Henry Weissmann and Burton Gross at Munger Tolles and Bouknight at Steptoe — kept pressing state and federal officials for relief. While Stutman Treister was the only new counsel Pickett hired to handle the crisis, a mushrooming workload — and the inability to attract new attorneys to his department — was forcing him to send much more business to established outside counsel. “None of the basic work was going away,” notes Cohn, “and we were using a lot more outside counsel than I would have liked.” By the early spring of 2001 Edison was spending about 40 percent more on outside counsel than it had been before disaster struck. (Pickett would not divulge Edison’s outside legal spending figures. But the PricewaterhouseCoopers’ Law Department Spending Survey in which Edison participated shows that the median outside legal spending for 20 utilities of varying sizes was $7,403,931 in 2000.) LET’S MAKE A DEAL Even Olson — a veteran of countless high-stakes legal clashes with such heavy-hitter clients as Universal Studios Inc., Atlantic Richfield Company and Merrill Lynch & Co. Inc. — is awed by what’s at stake in Edison’s case. “This is,” he says, “unique in the history of California and in the history of regulation.” Trying to solve the conundrum, a group of lawyers, regulators, and financial advisers converged on the San Francisco bayfront offices of Folger, Levin & Kahn. Name partner Michael Kahn chairs California’s Electricity Oversight Board and sits on several other energy-related panels, and advises Gov. Gray Davis on energy issues. In addition to Kahn, the governor sent Barry Goode, his legal affairs secretary and a former partner at San Francisco’s McCutchen, Doyle, Brown & Enersen. Coping with the energy crisis is a sort of booby prize for Goode, an environmental lawyer. But for the Republican war on Clinton’s judicial nominations, Goode might be a judge sitting on the 9th U.S. Circuit Court of Appeals. His nomination was stalled, then allowed to evaporate in the transition from the Clinton to the Bush administration. Pickett brought Olson and Ann Cohn. Parent company Edison International, also based in Rosemead, sent its chief financial officer Theodore Craver Jr. The negotiations were intense. “We were up for 48 straight hours on that baby,” Olson says. They began early Saturday morning April 7 and broke that night at around 11 p.m. They worked privately for a few more hours, slept a little, then started up again at dawn on Sunday and wrapped up Monday at 5 a.m. By that time the talks had migrated a few blocks to a conference room at Morrison & Foerster. An agreement was reached. The Edison crew left MoFo in a driving rainstorm, caught a 6 a.m. plane to L.A., and presented the pact to an 8 a.m. Edison International board of directors meeting. The heart of the deal: In return for the state’s purchase of its transmission system, Edison agreed to put on hold its lawsuit against the public utility commission. The Edison board approved. Still, Edison litigators were so busy that Reeves was throwing tons of work to regular litigation counsel Munger Tolles; O’Melveny & Myers; and a handful of specialty firms, most notably Honolulu-based corporate and energy experts Carlsmith Ball. By May, a year after the crisis had broken out, they were defending the company against 25 lawsuits by power producers, who were either seeking payment Edison owed to them, or trying to get out of long-term contracts signed with Edison before deregulation so that they could charge the company and the state inflated rates. Crisis-induced claims topped $1 billion. Shareholder suits also were piling up. Litigation expenses, says Reeves, hit “the millions of dollars … . We joke that we’re making every lawyer in California rich.” As if that weren’t enough, the company’s docket was swelling with run-of-the-mill utility suits, such as injury complaints and claims that equipment caused a fire. “From individuals to the federal government,” says Reeves, “people are afraid we’ll go bankrupt … [so] they’ve decided they’d better get a claim on file.” In late May the City of Long Beach, Calif., attached an Edison bank account for $9 million that the utility owed the city for power it had purchased from a small municipal waste-to-energy plant. Edison appealed the attachment. By the end of the month, five other small generators had secured writs of attachment against Edison, but none had acted on them. Meanwhile, Edison continued to pursue its aggressive regulatory strategy, seeking state and federal agency rulings that might grant them some financial relief and restore order to the energy market. In mid-May Edison filed a complaint with FERC accusing Houston-based El Paso Corporation of artificially inflating the price of natural gas in California by $3.7 billion over the past year. Edison alleges that this market manipulation cost it an extra $1 billion in payments for electricity generated by gas-fueled power plants. El Paso claims it has done nothing wrong, and a FERC hearing was underway at press time, with Edison represented by in-house counsel Douglas Porter and attorneys from Hogan & Hartson, led by Kevin Lipson. This was supposed to be a four-day hearing, notes Lipson. At press time it had already lasted four weeks and was expected to go longer still. El Paso is just one of several Texas companies now rolling in Golden State money. First-quarter revenue at Houston’s Reliant Energy, Inc. more than tripled, from $4.2 billion in 2000 to $13.3 billion in 2001, thanks largely to price increases in California. But California’s troubles also are causing problems for distant power firms with no ties to the state — among them the Newark-based PSEG Power LLC (not to be confused with California’s PG&E). In April, the East Coast utility embarked on a $1.8 billion debt offering to institutional investors. Ultimately, it was successful — but not before some anxious moments courtesy of the California crisis. First, PSEG had to add materials to its offering circular explaining why its situation was different and why it was healthy. Then, on the verge of the offering, California’s PG&E declared bankruptcy, delaying the Jersey company’s offering by three days. In those three days, interest rates rose, costing PSEG some money. (PSEG general counsel Harold “Tony” Borden declined to say how much.) “Everyone’s been surprised and shocked by what’s going on in California,” says Borden. “Everybody’s struggling to understand what went wrong and wondering ‘Can it happen here?’ “ BLACK HUMOR HELPS SoCal Edison’s debt in June was still hovering around $5 billion. Edison International’s stock was stuck below $10. And if there was a light at the end of the tunnel, Edison’s lawyers weren’t even close to seeing it. “When you’re in a trial, even a long trial, you always know there’s going to be an end,” says Reeves. “In this case nobody knows when this will end. We have lawsuits and ex-parte motions coming at us every day. It’s like triage. You work not until the work is done, but until you can’t work anymore. Then you go home and go to bed.” Cohn is spending three to four days a week in Sacramento, the state capitol, even though she lives several hundred miles away in Los Angeles. “It’s a long commute,” she says tiredly. “It’s sad. I can’t even find the words to describe what this is like.” Pickett knows the hamster-wheel existence is taking a toll. “In the broadest sense I hope our morale is where it needs to be to survive this,” he says, but “it’s hard to know this with certainty.” Pickett says he does “hear the rumor mill churn with reports of those looking and of headhunters coming in.” It’s not surprising, given that Edison’s lawyers did not receive raises or bonuses this year. After all, Pickett acknowledges, “when something like one-third of your compensation doesn’t materialize, our lawyers would be less than human if they weren’t upset.” Yet, Pickett says, only one lawyer has left during this time, and that, he claims, was not for crisis-related reasons. Reeves marvels that “people are keeping their spirits up and pulling together. There’s been no sniping.” Black humor must help. Reeves shares a crisis-spawned lightbulb joke going around. Question: How many California utility workers does it take to screw in a light bulb? Answer: None. There is no electricity. Several Edison lawyers, who asked not to be named, said that despite the company’s uncertain future, they are stimulated by the work they have now. After all, solving high-stakes problems can make a lawyer’s career. Says Reeves: “I know I’ll look back on this and be glad I went through it.” Even in legal departments of thriving utilities, the California crisis has changed the whole tone of utility law practice. “The constant regulatory work right now is more intense than it’s ever been,” says Borden, who has 30 years in the business. “This is the most fascinating, challenging, exciting time I’ve ever seen.” Borden also is optimistic that the California situation will straighten itself out and deregulation will continue across the country. “Once we see it settle down, I think we’ll see there are still benefits of deregulation for the U.S. economy and for consumers,” he says. Even Pickett agrees, although he wishes it had been done differently in California. Ultimately, he says, the exact regulatory scheme is not as important as the reestablishment of confidence and trust between the regulators and the regulated. The crisis, he believes, “wasn’t just about a market that melted down” but also about a “meltdown in investor confidence and a breach in the trust and respect that has characterized the relationship between regulators and the regulated for the last 100 years.” That breach can be repaired, he hopes. But it’s not going to happen quickly. “We’ll be working on getting out of this mess,” says Pickett, “for the rest of my working career.”

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