Although it cautioned that the proponents can develop remedies that would cause it to change its mind, the staff of the Arizona Corporation Commission (ACC) Friday filed its initial opposition to the proposed sale of Tucson-based utility holding company, UniSource Energy Corp., to a private investment group that includes three major Wall Street investment banking firms.

The ACC staff submitted the first round of the written regulatory arguments in the case that UniSource, parent to Tucson Electric Power Co (TEP)., filed Dec. 29 for approval of the deal for the Arizona-based Saguaro Utility Group’s Sage Mountain LLC, to acquire it, retaining the existing management and organization structure. The staff outlined concerns about both the structure of the acquiring organization and what an ACC spokesperson characterized as “the resulting risk exposure” left to UniSource’s two utilities, TEP and UniSource Energy Services Co. (formerly the natural gas and electric utility systems of Citizens Communications).

UniSource is required to submit testimony in response to the staff and intervenors by May 25; the ACC staff and intervenors will make an additional filing by June 11, prior to an initial public hearing June 21

“Staff has concluded that the proposed transaction is not in the public interest,” said an ACC spokesperson. “Although the transaction provides immediate benefit to the new investors, existing shareholders and senior management at UniSource, the transaction introduces a new level of risk to the regulated utilities.” The staff concluded that the purchase — as proposed — could “impair the financial status of the regulated utilities.”.

There are a lot of “what-if” questions raised by the ACC staff regarding changes in the ownership in the future, and the perceived lack of any control by the Arizona regulators over those changes. Further, the staff expressed concerns about protections against utility service and reliability levels, given the traditional track record of leveraged buyouts leading to considerable cost-cutting in the acquired companies.

“UniSource, already heavily burdened by debt, could be forced to take on new and greater debts,” the ACC staff said in its filing to the five-member elected regulatory commission. A holding company overburdened with debt, could begin to draw off cash from the “cash cow” utility, such as TEP, the ACC spokesperson said.

Other concerns cited by the regulatory commission staff include:

The principal financial backers for Saguaro Group’s Sage Mountain are limited partners: Kohlberg Kravis Roberts & Company; J. P. Morgan Partners; and Wachovia Capital Partners. UniSource shareholders last March 29 approved the sale in what the company characterized as an “overwhelming” majority of more than 72% of the outstanding shares, approving an offer of $25.25/share, which represents a 30% premium over the closing share price before the deal was announced last November.

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