£1bn power deal revolt

Bondholders are considering derailing a £1.1bn purchase of Midlands Electricity by rival power group Scottish and Southern.

The bondholders, who are being advised by Close Brothers and the law firm Cadwalader Wickersham & Taft, are seeking an "imminent" meeting with Scottish and Southern. They are angry about the terms of the takeover, which will require them to take a 14 per cent cut in the value of their investment.

It is understood the bondholders are looking to either veto the deal altogether or renegotiate, depending on what Scottish and Southern is prepared to put on the table.

Scottish and Southern has offered 86p in the pound to buy out £576m of bonds while the US owners of the business, Aquila and First Energy, will receive £43m in cash. Scottish and Southern will also take on £502m of other debt.

Aquila has a 79.9 per cent stake in the business, which is owned by an Aquila-First Energy joint venture, Avon Energy. Aquila, the owner of utilities in seven US states, is selling assets after incurring losses in energy trading following the collapse of Enron.

A Scottish and Southern spokesman said: "It's inevitable that two or three bondholders will jump up and down and say it's unfair, but while no one likes to take a cut, at the end of the day, what's the alternative? Scottish and Southern have offered a fair price for the business."

The chief executive, Ian Marchant, has already warned that Midlands Electricity faces administration if the deal does not go ahead. One insider also believes Scottish and Southern is unlikely to pay any more for the business, which supplies 2.4m customers, and would simply walk away if the bondholders reject the deal.

Standard & Poor's, the ratings agency, last week said that should the bondholders accept the offer, it would amount to default because it is less than the nominal value of the bonds.

The acquisition of Midlands Electricity, which owns and manages a network covering a total of 15,000 miles, would almost double Scottish and Southern's debt at £2.3bn.

The Thing Is » Electricity bondholders

By Heather Tomlinson

A grey sky, concrete towers and belching smoke is not the usual backdrop to financial drama. But the electricity sector is in turmoil, and those with financial interests are doing their best to come out of it without soot on their face.

This week, the dour Drax power station in Yorkshire will be under the spotlight. Thanks to a collapse in energy prices, it is not making enough money to make its creditors' interest payments. Earlier this year it negotiated to keep them at bay through a standstill agreement. But D-day is coming on Friday, and a deal must be done, or the power station risks going bust.

The banks and bondholders, who are mainly American, thought they were getting a nice little earner when AES, the US electricity company, bought Drax in 1999 for £1.9bn and quickly piled it with debt. They were content that the steady demand for electricity would keep the money coming in.

But since the Government introduced a free market for electricity in 2001, lone power plants such as these have seen the price for their product plummet.

Creditors are trying to negotiate a takeover in return for forgiving the debt. Frantic negotiations are going on between bondholders, banks and AES. Specialised vulture fund investors are believed to have piled into the cut-price bonds. They are experts in trying to eke out more than they paid for them.

Drax is not alone in having a financial wrestle with its bondholders. This week, the bondholders in Avon Energy, which holds Midlands Electricity, will threaten the proposed bid from Scottish and Southern, under which they would have to accept 85 per cent of their bond value.

The nuclear power generator British Energy is also in trouble and its bondholders and banks are furiously trying to rescue their investment. But it is not just the companies that creditors are fighting. They are scrapping between themselves. The proposed deal between British Energy, the Government and its creditors is being threatened by AES Drax, which is unhappy that one operator can get a £650m loan from the Government while it is being left to rot.

TXU Europe, which went bust last year, also had a row with Drax. It was the loss of a contract to supply TXU with electricity that first triggered Drax's problems. Drax is now one of the many creditors waiting on the administrators.

Many observers blame the free market in electricity for the subsequent hoo-ha. But one banker puts it a different way. "It's a simple supply-and-demand situation," said the source. "Too much finance was available to build too many power stations, so too much money pours into the sector and ruins it for everyone else."

The banks and bondholders are now trying to make up for their mistake, but there's likely to be much more jostling before their future is decided.