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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

than one larger one with the same number of customers. For example, savings from eliminating fixed costs will be greater when absorbing five co-ops with 10,000 members each than they will be when absorbing a single co-op with 50,000 members. This implies that the best candidates are groups of small, geographically contiguous (or nearly so) co-ops. However, because acquisition efforts themselves entail certain fixed costs per co-op, acquiring multiple small co-ops is somewhat more expensive than acquiring fewer, larger co-ops, in terms of all-in costs per customer.

Of course, some costs will increase following an acquisition. Namely, the "margins" (co-op parlance for profits) of the former co-op will become taxable income, and the co-op's subsidized debt provided by the U.S. government's Rural Utilities Service (RUS) will (as a practical matter) need to be refinanced. Such refinancing, however, might be accomplished at a discount as provided by applicable federal laws and regulations, depending on a variety of factors. Whether such debt is replaced by equity or market-rate debt depends on the financial goals and capabilities of the acquirer.

Post-Acquisition Performance

Using the benchmarks outlined above, the following business-case analysis was prepared for a utility company (WireCo) in the southwestern United States. The purpose of this analysis was to evaluate the feasibility of acquiring cooperatives within a reasonable distance of the utility's territory. The results showed that nearly all (more than 80 percent) of the co-ops in the study population were likely to be feasible acquisition candidates, based on conservative assumptions. This analysis did not identify or prioritize specific candidates; such is being undertaken as part of a second phase of data collection, screening, and prioritization of acquisition candidates based on strategic and commercial considerations.

Co-ops in the sample were drawn from RUS borrowers in the year 2002, within a 400-mile radius of WireCo's territory. Co-ops' financial data are available from the RUS, pursuant to Freedom of Information Act request, but data for non-RUS borrowers is somewhat more difficult to obtain. For this business case, non-RUS borrowers were excluded, but they typically represent more successful cooperatives, based on the fact that they have been able to retire their government-subsidized debt and replace it with market-rate debt. How their exclusion affects the business case is not entirely clear. On the one hand, co-ops that are more successful might represent more attractive acquisition targets than those with poorer cost structures. On the other hand, weaker co-ops might be easier to acquire, and might provide stronger savings opportunities.

At any rate, the study sample consisted of RUS-borrowers representing the minimum, median and maximum values for seven criteria:

  • Number of customers
  • Total revenue
  • Equity per customer
  • O&M costs per customer
  • G&A costs per customer
  • Profits
  • Given these assumptions, co-ops in the WireCo sample were analyzed to yield pro-forma calculations of the acquisition feasiblity of each. These calculations were intentionally conservative, and did not consider strategic advantages, indirect synergies, or load growth and diversity factors that would yield additional economic benefits in future years.

    The calculations revealed that profit margins would increase by roughly one-third to about 10.5 percent