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The Business for Co-Op Acquisitions

IOUs considering co-op acquisitions are finding fertile territory for growth.
Fortnightly Magazine - January 2005

convince a majority of co-op members to support the transaction and accept the acquirer as their new electric utility. This is accomplished by appealing directly to members through various channels of communication, including direct mail and placements in local media.

The offer to co-op members can include various inducements-the most obvious being a lump-sum cash payment for involuntary patronage capital contributions. This is money that members generally would not otherwise receive, except over a period of years after they leave the co-op territory (because patronage capital refunds continue but contributions cease), or upon their death, depending on the policies of the given co-op.

Furthermore, since members are turning their share of the co-op over to an investor-owned company, acquisition by an IOU will relieve them of the risks of owning a utility operation and absorbing losses due to bad investments or mismanagement. Co-op customers typically absorb losses through increased rates, while IOU customers are protected from such risks.

Other incentives can include better rates (and rate stability), a broader range of services, and more advanced customer-service capabilities-contrasted with the limited capabilities of some co-ops, which actually forward after-hours customer calls to the local sheriff's office or funeral home.

Valuation Factors

Identifying the best prospects for acquisition can be a tricky endeavor. While each case presents its own valuation and cost-benefit factors, analyzing groups of co-ops yields insight into a potential acquisition business case.

Co-op acquisitions present numerous opportunities for savings and synergies. Some of the most compelling drivers involve the strategic benefits of acquiring a fast-growing, baseload-heavy customer territory. These opportunities bring an attractive load profile to the IOU's customer portfolio, supporting capital expenditures and ultimately rate cases before state utility commissions.

Such benefits can be difficult to quantify, but other benefits can be more easily measured for the purposes of a business-case analysis. The primary benefits are cost savings at the co-op resulting from reductions in general and administrative (G&A) expenses.

G&A savings are captured by eliminating duplicative functions and improving efficiencies. Namely, an IOU that acquires a co-op will integrate the smaller utility's general management, governance, operations, rates, billing, customer service, marketing, human resources, and other functions into its own, much larger organizational systems. Because virtually every cooperative has its own general manager, operations manager, board of directors, billing system, etc., an acquirer can realize significant G&A savings by integrating these functions into its own larger organization, and applying its more-rigorous processes to ensure customers are served as efficiently as possible.

In many cases, a co-op's G&A functions can be integrated into an IOU's systems with very little incremental increase in overhead. For the purpose of a generalized business case, a savings benchmark of 60 percent savings is appropriate. In many cases, however, savings will be much greater. Additionally, O&M savings can safely be pegged at 10 percent (greater savings might be achievable in many cases, but co-ops' generally low customer density per mile of line creates a limiting factor that justifies a conservative benchmark).

Because more duplication is eliminated, cost savings will be greater when absorbing multiple, small co-ops