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IRS will slow sale of TECO interests

When other energy companies sneeze these days, TECO Energy Inc. seems to catch a cold, and that's happening again in the stir over hundreds of millions of dollars in federal tax credits for synthetic fuel plants.

Progress Energy Inc., the parent of Progress Energy Florida Inc. of St. Petersburg, acknowledged last week that Internal Revenue Service officials have "raised questions" about its synfuel operations during a formal audit of its facilities. The IRS confirmed it is reviewing synfuel tax credits to ensure that companies taking them meet legal requirements.

On Thursday, TECO of Tampa released a statement acknowledging that the IRS's inquiries would delay the sale of most of its remaining interest in its synfuel facilities. However TECO defended its synfuel tax credits as valid and added it is not the target of an IRS audit.

The Tampa utility sold a 49 percent stake in the Kentucky synfuel operations in April, but Wall Street analysts now caution that the earlier transaction could unravel due to the IRS's concerns.

That would represent a setback in TECO's efforts to raise cash and reduce debt after troubles in its wholesale power business prompted ratings agencies to cut the company's debt ratings to junk status. TECO had expected the two rounds of sales to contribute about $70-million to its cash flow this year and $90-million to annual cash flow from 2004 through 2007.

In recent years, TECO, Progress and other companies have piled into the money-losing business of making coal-based synfuel in order to reap hundreds of millions of dollars in lucrative, if controversial, federal tax credits.

To qualify for coal-based synfuel tax credits, companies must show that the coal they are turning into synthetic fuel has undergone a "significant chemical change." But in a June 27 public comment about the synfuel program, the IRS said it "has had reason to question the scientific validity" of such claims and warned that if the agency determines the necessary chemical change didn't occur, it would take "appropriate action, including revoking" permission to receive the credits.

The language was strong enough that Jefferies & Co. downgraded TECO this week to its lowest investment recommendation of "underperform" from "hold" and reduced its earnings estimates for the utility. Morgan Stanley, which already has its lowest "underweight" rating on TECO, said Tuesday in a research note that synfuel credits account for roughly 35 percent of its 2004 earnings-per-share projection for the company. In the same note, Morgan cut its rating on Progress to "equal-weight" from "overweight," citing synfuel uncertainties.

TECO's 2002 synfuel tax credits of $107.3-million, most for coal-based synfuel, were dwarfed by Progress' credits of $291-million. But given TECO's broader troubles, Morgan warned, "We consider (TECO) on balance to have the most serious exposure to possible negative outcomes from the IRS synfuel review."

During a shortened trading session ahead of the July 4 holiday, TECO's shares fell a nickel to close Thursday at $12.03. Progress' shares also fell 5 cents to close at $43.70.

_ Louis Hau can be reached at or (813) 226-3404.