ScottishPower turns tables with US buy

News Analysis: Will the Scots have more joy in the US power market than the Americans have had here?
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The Independent Online
THE BRITISH are coming. At last. After watching more than half the UK electricity industry being swallowed up by American utilities, ScottishPower yesterday turned the tables with an all-paper pounds 4.4bn takeover of the Oregon-based electricity company PacifiCorp.

ScottishPower's bid is opportunist - PacifiCorp shares are at an 18-month low and the business is rudderless having sacked its chief executive three months ago. Nor was PacifiCorp the first choice, ScottishPower's chief executive, Ian Robinson, having previously held abortive talks with two other US utilities - Florida Light and Power and Cinergy.

The question the City is now asking is will the Scots have any more joy in the US power market than the Americans have had over here?

The US invasion of the British electricity industry has scarcely been an unalloyed success. Of the eight regional electricity companies bought by American utilities, two have been sold back, another has been split in two and a further three are reckoned to be on the block.

And yet the "me too" mentality that attracted so many US companies into the UK electricity market looks like being repeated in the opposite direction across the Atlantic. Where ScottishPower has led, British Energy, National Grid and, eventually perhaps, PowerGen look to follow.

ScottishPower may know everything there is to know about electricity and how to supply it more efficiently. But with PacifiCorp, it is walking into a business that is 8,000 miles away and operates under a very different regulatory regime. Nor are there the same synergies and cost benefits to be wrung out of PacifiCorp as ScottishPower achieved with its earlier UK acquisitions, Manweb and Southern Water.

So is this merely empire building on a grand and distant scale? Richard Alderman of Merrill Lynch says the straight answer is probably yes. "ScottishPower would have had to do a deal soon or it would have run out of steam."

But for the moment he is prepared to give the company the benefit of the doubt. "The other question you have to ask is have they managed acquisitions successfully in the past and the answer has to be yes. It will be hard for them not to show a positive return on this deal."

In PacifiCorp, ScottishPower is inheriting a business with 1.4 million customers in six US states along with interests in 10,000 megawatts of coal-fired generation and a handful of coal mines. PacifiCorp also owns the electricity supply and distribution business serving Melbourne, Australia.

It also inherits a business that has underperformed both financially and managerially. PacifiCorp has not raised its dividend since 1993 and it has consistently undershot the "profit cap" imposed by its state regulators by an average of 25 per cent.

Whereas US utilities are typically allowed to earn a rate of return on equity of 12-13 per cent, PacifiCorp has struggled to achieve 10 per cent and in some states has slipped as low as 8-9 per cent. ScottishPower estimates that over the next four years it can generate annual efficiency savings of up to $200m without bumping up against its regulated rate of return.

Ian Russell, deputy chief executive of ScottishPower and the other half of the management duo that has plotted its spectacular expansion, says there are many myths about the US electricity industry.

One is that is it difficult, if not impossible for foreigners to buy into the industry because of the restrictions imposed through the Public Utilities Holding Act. The other myth, he says, is that there is only limited scope for earnings growth in the US because the US regulatory system caps profits, unlike the British one, which caps prices and therefore allows shareholders to hang onto any efficiency gains made.

Mr Russell says ScottishPower has been "welcomed with open arms" by the Securities and Exchange Commission while state regulatory approval should be received in five to six months since the deal raises no competition concerns but is merely a change of ownership.

He also points out that in two of the six states in which PacifiCorp operates - Oregon and Wyoming - incentive-based regulation has been introduced, allowing utilities to exceed their regulated rate of return and share the surplus between customers and shareholders.

The other big questionmark is how well ScottishPower's share offer will go down in the US and whether it has the firepower to match any rival cash bidder that might surface.

About half of PacifiCorp's shares are held by private investors. ScottishPower believes its all-paper offer will be attractive to them because there will be no tax to pay immediately while income growth, the main reason retail investors hold shares, will be superior.

Analysts also point out that ScottishPower has been assiduous in courting US investors. "When it goes on a roadshow it covers the country east coast to west. It is better known in the US than any other European utility," says one analyst.

In the past three years, the proportion of the company owned by US investors has risen from 1.5 per cent to 10 per cent. ScottishPower has not ruled out a rival bid for PacifiCorp. But, as Mr Russell says: "There are not many others who could afford to match us on a cash basis. And if another US utility decided to bid it could face competition problems and an 18- month wait for regulatory clearance."

Nevertheless, the PacifiCorp bid will be its most ambitious and most risky expansion to date.

Mr Robinson says: "We spent a year looking at the US, researching the market, and we are confident we have found the ideal partner." History will show whether those words stand the test of time.