The assets serve all major metropolitan areas, the largest industrialload centers, and numerous natural gas trading hubs, El Paso said. Theyare also well positioned to serve many of the state’s existing and plannedgas-fired electric generation facilities. Included in the transaction are8,500 miles of natural gas transmission pipelines that transport approximately2.8 Bcf/d, nine processing plants that currently process 1.5 Bcf/d, anda 7.2 Bcf natural gas storage field. The transaction also includes significantnatural gas liquids pipelines and fractionation facilities.

“The market prices for natural gas transportation and natural gas liquids,combined with the price we paid to acquire these businesses, resulted ina significant drag on earnings despite recent improvement in operationaland financial performance,” said Thomas Boren, CEO of PG&E’s NationalEnergy Group. “This transaction will eliminate a negative impact on ourearnings and will help the National Energy Group achieve its financialgoals by 2002.”

A Steal for El Paso

Industry experts agree El Paso bought the assets at a discount. “PG&Esold at a very ripe price,” said Donato Eassey, an analyst with MerrillLynch. “Their book value is anywhere from $2.5 billion to $2.7 billion,and El Paso got them for $800 million and change.”

The deal is expected to be completed by the middle of this year. Itrequires FTC and third-party approvals and will result in a one-time chargeagainst 1999 earnings of $890 million, or $2.42/share, that will be reflectedin National Energy Group’s financial results of operations for the year.

PG&E originally bought the facilities from Valero Energy and Tecoin 1997 for a total of $1.02 billion. At the time, wide basis differentialsblessed the west-east gas transportation market and PG&E paid a premiumprice to enter this volatile business.

Since then, the basis between Waha in West Texas and Katy and the HoustonShip Channel in East Texas has tightened. PG&E’s effort to become amajor liquids and gatherer player in Texas hit a major roadblock it couldnot overcome. “They conceded defeat on this project months ago,” said JohnOlson, a consultant with Sanders, Morris & Mundy. “[Last week’s] announcementjust brought a sad end to a brave venture PG&E had embarked upon yearsago.”

Rumors of the sale had been circulating throughout the industry formonths. When Robert Glynn was hired as PG&E’s CEO in September 1998,he first mentioned the possibility of selling the Texas assets. The companyfinally stated in an 8-K form filed last December that it was ready tosell (see NGI, Dec. 6, 1999).

For the third quarter ended Sept. 30, the Texas gas operations posteda loss of negative 2 cents/share, which was actually an improvement overnegative 6 cents/share recorded for the same period last year. In contrast,PG&E’s gas pipeline network in the Pacific Northwest is a “very goodbusiness,” reporting earnings of 5 cents/share in the third quarter.

PG&E appears to be going back to its traditional roots, emphasizingelectricity, although a San Francisco-based corporate spokesperson saidlast week the company expects “to continue to have a strong presence inTexas through its Houston-based trading operations.”

Nationally, the strategy is to focus on developing gas-fired merchantelectricity generating plants, a business it has been in for more thana decade through predecessors to its current PG&E Generating Co. Thatwill include looking for possible generating projects in Texas where PG&EGenerating currently has no plants, said Greg Pruett, vice president andcorporate spokesperson.

“We have said before we are going to concentrate on the developmentof our generation portfolio,” Pruett said. “We’ve already said this toanalysts and publicly at the beginning of December. Bob Glynn talked aboutthe focus on four regions in the U.S. and particularly focusing on growingthe generation business nationally.

“It doesn’t preclude us for the interim – maybe even in the near future- from acquiring gas assets where we find a strategically located pipelineor pipeline company in one of the four U.S. regions we’re focusing on.”

A California-based energy marketer for a Texas-headquartered internationalcompany noted that at the time (1996-97) that PG&E acquired its Texasgas assets, his firm was looking at the deal and questioning why PG&Ewould want it. As it turned out, this marketer noted, the timing was verybad because within months of the closing, the gas price differentials betweenwest and east Texas evaporated.

“So they paid billions of dollars for something that all of a suddenwas only worth a fraction of that,” the San Francisco-based marketer said.”Now it looks like they are going to have to bite the bullet and writeit off. Even though things have gotten somewhat better in the past yearto the extent that someone [El Paso] is now interested in buying the assets.

“A year ago it would have been worse. I don’t think they could havesold it back then. I think they decided now it is as good as it can getfor the future. So with a book loss they get behind, but they can go forwardwithout having it be a drag on earnings.”

PG&E’s Pruett noted that “the market values today would not supportthe price we paid back in 1997. So ultimately, we hired Lehman Brothersto see if there was interest on behalf of third parties in acquiring thosebusinesses.”

While PG&E suffered with these assets, analysts believe El Pasowill thrive. It is expected to be immediately accretive to El Paso’s earnings.Also, El Paso is an experienced player in the liquids game, whereas itwas not the core business of PG&E. In a teleconference after the dealwas announced, El Paso said that 70% of the cash flow generated by theseassets comes from stable fee-based activities with the balance from processing.Using the experience from its El Paso Field Services division, the companybelieves it can actively manage the risk associated with the non-fee-basedside.

With this purchase, El Paso will be in the position to compete withthe yet-to-be-formed Duke Energy Field Services (DEFS). The creation ofDEFS, which was announced in December, will create the largest gas liquidscompany in the country (see NGI, Dec. 20).”They will clearly be in contention,” Olson said. El Paso will have moregathering operations.”

Richard Nemec; John Norris

©Copyright 2000 Intelligence Press, Inc. All rights reserved.The preceding news report may not be republished or redistributed in wholeor in part without prior written consent of Intelligence Press, Inc.