Mirant Corp. and RRI Energy Inc. last week said they agreed to combine in an all-stock "merger of equals" to create GenOn Energy, which would create the country's second largest independent power producer (IPP) with 24,700 MW of capacity and a market capitalization of $3.1 billion.

Mirant shareholders would get 2.835 shares of RRI Energy for each common share of Mirant. The ratio reflects an at-market transaction based on the volume-weighted average price for the preceding 10 trading days, the companies said.

Based on the closing price of $3.95/share for RRI Energy prior to the deal's announcement, the transaction values Mirant at $11.20/share, a 4% premium to Mirant's pre-announcement close of $10.73/share. Based on 144.97 million Mirant shares outstanding, the transaction is worth about $1.62 billion. Upon closing, which is expected by the end of 2010, Mirant stockholders would own approximately 54% of the combined company and RRI Energy shareholders would own approximately 46%.

"This is in all ways a merger of equals committed to utilizing a best-of-both-companies approach," Mirant CEO Edward R. Muller told financial analysts during a conference call.

The stock market reacted positively to the deal on the day it was announced. RRI shares gained nearly 15% last Monday to close at $4.53, while Mirant shares gained more than 18% to close at $12.68. The gains by both companies were pared slightly by the end of last week.

The combined company would have a presence across key regions, including the Mid-Atlantic, California, Northeast, Southeast and Midwest. Annual cost savings are predicted by the merger partners to be $150 million.

Only Exelon Corp. with 31,000 MW would have more generating capacity than GenOn, according to Mirant and RRI. Following GenOn in the ranking of companies by generating capacity would be Calpine Corp., NRG Energy Inc., the combined FirstEnergy Corp. and Allegheny Energy Inc. and FPL Corp. By the merger partners' count, RRI Energy currently ranks seventh and Mirant ranks 10th when GenOn is excluded from the roster.

Of GenOn's generating capacity, 50% would be in PJM Interconnection, 23% in the California Independent System Operator territory, 10% in the Southeast, 75% in the Midwest Independent Transmission System Operator, and 10% would be in the New York Independent System Operator and ISO New England. The capacity would be 30% dual fuel, 2% oil-fired, 37% natural gas and 30% coal-fueled.

Analysts at Tudor, Pickering, Holt & Co. Securities Inc. (TPH) said the rationale for the deal is the cost savings. While Muller said that the projected $150 million in cost savings would be achieved by the beginning of 2012, the TPH analysts noted that "this transaction will test the IPP sector's long-held belief that operating in a given region has a fixed set of costs…and that adding assets won't really appreciably increase the cost structure."

RRI Energy owns and leases generation assets in Southern California (3,392 MW), the Midwest (1,696 MW), the Mid-Atlantic (6,952 MW) and the Southeast (1,911 MW). Mirant owns and leases generation assets in Northern California (2,347 MW), the Mid-Atlantic (5,194 MW) and the Northeast (2,535 MW). Both companies generate power utilizing coal, natural gas and oil. The combined fleets are largely complementary, with limited overlap in their respective operating regions, the companies said.

Muller, who is also chairman of Mirant, would be chairman and CEO of the combined company until 2013, when he plans to retire. Mark M. Jacobs, president and CEO of RRI Energy, would be president and COO of GenOn and would serve on its board. Jacobs is to succeed Muller as CEO in 2013. Mirant CFO J. William Holden III would be CFO of GenOn. The GenOn board would be composed of 10 directors, with five members of the current Mirant board and five members of the current RRI Energy board. GenOn's corporate headquarters would be in Houston, which is where RRI is headquartered.

RRI Energy was previously known as Reliant Energy Inc.; it was renamed May 2, 2009. The acquisition of RRI Energy represents a comeback for Mirant, which emerged from two and a half years in bankruptcy in January 2006 (see NGI, Dec. 5, 2005).

Muller said neither he nor Jacobs saw any other transactions available to Mirant or RRI that would offer value comparable to the tie-up of their two companies. However, there is provision for a breakup fee of about $58 billion, which applies to each company, should a deal not go forward under certain circumstances, Muller allowed.

Jacobs said that because the companies' assets don't overlap, divestitures are not likely to be necessary and antitrust review should not be a problem. There are no plans to close any of the companies' power plants, Muller said.

The transaction is subject to approval by the stockholders of RRI Energy and Mirant, U.S. antitrust approval and approval by the Federal Energy Regulatory Commission (FERC). The closing is also subject to the refinancing of a portion of each company's debt.

The TPH analysts noted three barriers to the deal's completion: antitrust issues and approval from FERC; a partial debt refinancing; and shareholder approval.

"The first two should be relatively easy to navigate; the third could be trickier. Market concentration in both PJM and California is near to, but still below, the 10% threshold," the TPH team said. "The combined company will own 7% of total PJM capacity and 9% of total California capacity…not likely to trigger antitrust concerns. We're guessing debt issues will be manageable with relatively light leverage and large cash positions ($5 billion combined debt versus $3 billion-plus in combined cash). Interestingly, the shareholder base of the two companies has little overlap. We believe that those who are believers in the [Mirant] story are generally not believers in RRI and vice versa. Thus, we expect that management has some work ahead in selling this deal to shareholders. Our call: [the deal] will require some effort and communication, but the deal gets done in its current configuration."

The deal is the second big merger in the power industry to be announced this year. In February Akron, OH-based FirstEnergy Corp. and Allegheny Energy Inc. of Greensburg, PA, said they would combine in a deal worth $4.7 billion in stock and another $3.8 billion in debt to create a company that would have 10 regulated electric utilities serving more than six million customers in Pennsylvania, Ohio, Maryland, New Jersey, New York, Virginia and West Virginia (see NGI, Feb. 15).

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