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M&A Uptick

Do regulatory and economic trends favor industry mergers?

Fortnightly Magazine - October 2010

the components of, any divestiture proposal. Otherwise, a proposal that satisfies one mode of analysis may not suffice under another, and an applicant may be trapped into expanding the amount of divestiture required to satisfy successive regulatory reviews. Knowing in advance how each of these bodies will assess the situation allows an applicant to anticipate a worst-case and advocate a best-case outcome and be certain both that no unnecessary divestiture will be required, and that the amount of mitigation ultimately imposed will be acceptable. It’s especially important, in this regard, that the pre-merger analysis take into account the modeling approach used by the Department of Justice and FTC, as well as the approaches used by FERC and the states.

Anyone familiar with the history of utility mergers knows that state commissions typically demand a sharing of benefits. However, the new factors concerning transmission planning and expansion, and their inter-relationship to renewables goals, might offer merger applicants an additional avenue for identifying benefits to consumers. Though the benefits from an expanded transmission network and more assured accomplishment of renewables goals are hard to quantify, they might carry weight with responsible, policy-wise regulators. Indeed, it might be possible to devise merger commitments responsive to these policy goals that will lessen the need for other benefits-sharing mechanisms. In any event, these issues need to be addressed at the state level at least to a much more extensive degree than in the past.

The pressure on gas prices might make long-term merger benefits due to an expanded generation portfolio difficult to quantify reliably. While the negotiation of rate concessions is a very complex and politically sensitive process in every case, the importance of attaining emerging policy goals of renewable resources and related transmission expansion might create opportunities for new performance-related metrics that address a reasonable sharing of merger benefits. For example, the merged company could be given credits, and allowed to retain a greater share of benefits, upon achievement of renewables and transmission goals.

Trend vs. Opportunism

Focusing on the most recent major transactions, each seems to represent an opportunistic effort to respond to some of the changes underway in the industry. The sale of E.On U.S. to PPL Corp. appears to reflect E.On’s desire to retrench on more familiar territory, coupled with PPL’s desire to rebalance its business mix by expanding its regulated business and to dilute the risk of its merchant generation. This goal presumably responds in part to perceived greater uncertainty in the generation sector. 10 FirstEnergy-Allegheny at first glance might appear like some past mergers that positioned companies to benefit from a prospective upsurge in power prices. However, company executives emphasize that Allegheny would add 6,000 MW of supercritical coal-fired generation to FirstEnergy’s fleet, thus enhancing the merged company’s competitiveness at the same time and diversifying Allegheny’s assets with FirstEnergy’s nuclear generation. Thus, the transaction appears to be an opportunistic effort to consolidate generating assets in PJM and to diversify the merged company’s portfolio to reduce risks and augment possible upside gains. Mirant’s acquisition of RRI reflects the purchase of an entity