Biggest LBO Demise Poised to Put Oncor in Play: Real M&A

The prospective bankruptcy filing of Energy Future Holdings Corp., taken private in the biggest leveraged buyout in history, is poised to put the most profitable unit of the power producer up for grabs.

Oncor Electric Delivery Co. may eventually end up in the hands of hedge funds and other investors who then could sell it to a utility buyer if bankruptcy proceedings unshackle it from Energy Future, according to debt researchers Gimme Credit LLC and CreditSights Inc. Power companies from Warren Buffett’s MidAmerican Energy Holdings Co. to CenterPoint Energy Inc., Exelon Corp. and American Electric Power Co. may jump at the chance to bid for the operator of the largest transmission and distribution system in Texas, said Moody’s Investors Service.

Energy Future, which KKR & Co., Goldman Sachs Capital Partners and TPG Capital took private in 2007, is working on a restructuring plan after falling natural gas prices sparked losses at the power company laden with about $45 billion in debt. Oncor may be the most coveted unit because of its regulated, steady earnings, and Bloomberg Industries values it at more than $15 billion. While creditors stand to take over Energy Future’s 80 percent stake, legal safeguards would keep Oncor protected in the bankruptcy proceedings.

“We view Oncor as a premium asset,” Jim Hempstead, a New York-based analyst at Moody’s, said in a telephone interview. “The list of interested buyers would probably be as long as a West Texas country mile.”

Good Investment

The Dallas-based company will probably file for bankruptcy protection this month after a grace period expires May 1 for a missed coupon payment at the beginning of April, according to a regulatory filing yesterday. Energy Future is currently in negotiations with its creditors hammering out a pre-arranged reorganization plan.

Oncor, which provides electricity to more than 3 million homes and businesses, “recovered faster from the recession than anyone else and is one of the few utilities reporting actual customer growth,” Dot Matthews, a New York-based analyst who covers the utility for CreditSights, said in a telephone interview. “They have remained a stable, good investment.”

Allan Koenig, a spokesman for Energy Future, formerly known as TXU Corp., declined to comment on a possible sale of Energy Future’s portion of Oncor.

The company’s 80 percent equity stake in the utility is valued at more than $7 billion, excluding $6.3 billion in total debt, said Spencer Cutter, an analyst with Bloomberg Industries. The remaining 20 percent of Oncor is in the hands of Texas Transmission Investment LLC, an entity indirectly owned by an Ontario municipal pension fund and Singapore’s sovereign wealth fund.

Utility Experience

Although creditors would take majority ownership in Oncor in the restructuring, they probably would want to eventually sell it instead of holding it for dividend payments that are capped by regulators, said Philip Adams, a credit analyst for Gimme Credit. A buyer could also bid for the other 20 percent not owned by Energy Future, he said.

“They will want that stake to be transferred for cash to someone who is used to running a utility,” Adams said in a telephone interview.

Oncor Growth

Oncor’s steady return and growth potential could make it a target for a number of investor-owned utilities including Berkshire’s MidAmerican Energy, Timothy Winter, an analyst for Gabelli & Co., said in an interview. Oncor is allowed about a 10 percent return on its investments by regulators and said in February that it plans to spend $1 billion annually over the next five years as it upgrades its power line network to meet increasing demand.

Net income at the utility increased 24 percent last year to $432 million, according to a February filing. The company paid $310 million in dividends to Energy Future and other owners in 2013.

MidAmerican probably would prefer a private negotiation to participating in a bidding war, Winter said.

Oncor could appeal to Exelon, which has expressed interest in expanding in Texas, said Julien Dumoulin-Smith, a New York-based analyst with UBS AG.

American Electric Power, CenterPoint and Xcel Energy, all of which own regulated utilities in Texas, could become more efficient and potentially more profitable through a purchase of nearby Oncor, said Travis Miller, an analyst at Morningstar Inc., in a telephone interview.

Shares of CenterPoint rallied 1 percent to $24.70 today. Xcel Energy climbed 0.6 percent to $31.62, while Exelon increased 0.7 percent to $36.24 and American Electric Power rose 0.3 percent to $52.50.

Other Interest

Representatives for MidAmerican and Exelon declined to comment on speculation regarding a purchase of Oncor, as did representatives for American Electric Power, CenterPoint and Xcel Energy.

Financial buyers such as pension, sovereign wealth or infrastructure funds could also be possible bidders, as they seek steady returns from cash-producing assets, Miller said. Or, the minority investors may want to take over the majority stake, he said.

Representatives for Texas Transmission didn’t immediately respond to a telephone call placed after business hours.

While Oncor may attract buyer interest, disentangling the utility from its parent could be tricky and may take time. Splitting the regulated and deregulated portions of Energy Future might trigger a $7 billion tax bill, according to people with knowledge of the restructuring talks.

Separating Oncor

“It could take a year or two to play out if Energy Future goes into bankruptcy without any sort of separation agreement prior to filing,” said Joseph DeSapri, an analyst for Morningstar.

Energy Future’s other units are deregulated and separated from Oncor. They include Luminant, which owns more than 15,400 megawatts of power-plant capacity in Texas, and TXU Energy, a retail electricity seller.

Even though those businesses, whose revenue has declined since the 2007 buyout, could also be sold as part of the bankruptcy proceedings, creditors may want to hold onto their plants and retail operations in a gamble that power prices will eventually rise, according to Andy DeVries, an analyst with CreditSights.

Texas regulators would also need to sign off on a change of ownership, said Hempstead of Moody’s. Still, the state would probably prefer to see Oncor split off from its more risky owner and put in the hands of a utility, he said.

“There is a lot of appetite out there from power companies and financial buyers for utilities with a strong customer base and growth investment opportunities,” Miller of Morningstar said. “Oncor could be an attractive acquisition.”

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