A UK earnings stream down the line


Deputy City Editor

While the identity of the target may have been a well-guarded secret, Hanson's plan to acquire an electricity distributor was widely expected. After the demerger of US Industries in May, taking pounds 855m of debt off the balance sheet, the market convinced itself that a bid of up to pounds 3bn was imminent.

Buying a REC suits Hanson, most importantly because of the industry's reliable UK-based earnings stream. With more than half its profits made in the US, and with a relatively high dividend, Hanson pays large amounts of unrelievable advanced corporation tax each year. Offsetting those forward payments against Eastern's profits means its new subsidiary will pay a marginal tax rate of just 13 per cent.

Buying a REC also fits in with the industrial conglomerate's focus on basic businesses - energy companies, tobacco, chemicals and building products, all of which have relatively stable demand.

Hanson also believes there is considerable scope within the electricity business for diversification into areas such as power generation, gas supply and contracting . That is important because in some ways this deal is not Hanson's style at all.

What the Eastern acquisition does not offer Hanson is much scope for cost-cutting. The company already has lower costs than most of its peers, having cut its headcount sharply over the past three years. Eastern's management is well regarded and stays on board so the injection of Hanson disciplines is less of a factor.

There is also none of the benefit Hanson often relies on from acquiring a company at the bottom of an economic cycle. Quantum Chemical turned out to be a good acquisition largely because it was purchased when the industry was in the doldrums and has since benefited from surging bulk chemical prices.

The undisputed attractions of Eastern have also come at a serious price. Hanson was pushed into paying a premium of 39 per cent to Eastern's share price last Friday.

To secure a recommendation from Eastern's board, it is paying a higher multiple of earnings than either of the hostile bids currently on the sector's table - for Sweb and Manweb.

Hanson thinks the deal will enhance earnings, but the cost of borrowings will rise from under 40 per cent of shareholders' funds to 130 per cent, a level not seen since 1984, when the company acquired London Brick and US Industries prompting Moody's, the debt rating agency, to put Hanson's long-term debt rating under review for a possible downgrade.

The acquisition of Quantum in 1993 made Hanson a much more cyclical business, a potentially worrying state of affairs as the US and UK economies show signs of slowing. Since the beginning of 1985, Hanson's shares have underperformed the rest of the market by a yawning 37 per cent. In its long history of acquisitions, it has rarely needed a good deal more.

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