Meanwhile, it emerged that the Southern Electric bid, if successful, could lead to 1,000 job losses among the combined workforce of 10,500 and the closure of Southern Water's Worthing headquarters in West Sussex.
As Southern Electric moved into the market, paying pounds 156m for a stake of just under 10 per cent in Southern Water, the City was divided on whether Scottish Power would escalate the bid battle. Some analysts speculated that it might turn its attention to another water company. But the favoured view was that the Scottish utility would increase its terms from the pounds 1.56bn hostile bid launched on Tuesday. However, Scottish Power is under no pressure to rebid immediately and is likely to bide it time before moving.
Adam Forsyth of stockbrokers NatWest Markets, said: "There are advantages and strategic logic in both bids. On balance it is more likely that Scottish Power will up the ante."
He estimates that a merger of Southern Electric and Southern Water would produce cost savings of pounds 45m a year. The savings for Scottish Power would be lower at pounds 30m but a successful takeover would increase its customer base by two million and give it access to the gas and electricity markets in the south of England.
Last night Scottish Power issued a statement attacking Southern Electric's offer and re-iterating its commitment to a multi-utility strategy "but only on terms which create value for shareholders".
Murray Stuart, Scottish Power's chairman, said the rival bid was "reactive, defensive and does not enhance competition". His chief executive, Ian Robinson, added that the move amounted to a "strategy on the rebound" following its failure to merge with National Power and did nothing for customers while offering the prospect of significant job losses below board level.
Southern Electric hit back immediately, saying: "Scottish Power's statement completely misses the point which is that we have come out with a higher offer which has been recommended by the Southern Water board."
Southern Electric is offering 0.526 shares and pounds 6.31 in cash for every Southern Water share, valuing its offer at pounds 10.03 a share at last night's closing price. There is a cash alternative of 975.7p.
Scottish Power's cash and shares offer is worth pounds 9.74 a share at last night's closing price. Its full cash alternative is worth 935.7p.
If the Southern Electric bid succeeds it would create a merged utility with 2.6 million customers covering an area with a population of 8 million stretching from the North Sea coastline of Kent across to Weymouth in Dorset.
But there would also be job losses in the two companies' core regulated businesses because of duplication in metering, billing and information technology functions. The two companies share about 700,000 customers - more than a quarter of Southern Electric's domestic market. A merger could save perhaps pounds 25m in annual salaries and pounds 20m in IT costs.
But Jim Forbes of Southern Electric, who would become chief executive officer of the combined group, insisted that the merger was not a defensive move to protect its own market. The objective was to grow the customer base by as much as 4 million, creating jobs in the process in both the regulated and non-regulated divisions of the two companies.
Southern Electric said it had been holding general discussions with its neighbouring utility for more than a year but had only begun talking serious merger terms last Friday when it became known that Scottish Power was preparing to make an offer. Mr Forbes said: "The business sense in this deal stands out like sore thumb." But Scottish Power's Ian Robinson said: "In the last two years Southern Electric has failed to merge with Midlands Electricity, has failed to acquire Sweb and in its attempt to be taken over by National Power. This latest move is strategy on the rebound: a lunge into a new sector within weeks of it recomme nding the National Power bid."
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