It's True; El Paso, Sonat Plan Combination
Like dreams, rumors sometimes come true-and more frequently
these days when the gossip foretells of yet another energy industry
consolidation. Last week's buzz became this week's ballyhoo Monday
when El Paso Energy and Sonat Inc. said they will merge in a $6
The transaction includes $2 billion in Sonat debt and is
expected to be completed in the second half of the year. Each Sonat
share is to be converted into one share of El Paso in a pooling of
interests to create a combined company worth more than $14 billion
based on El Paso's Friday closing price. Sonat shareholders would
own 48% of the new company.
According to the companies, the joining of El Paso and Sonat
would unseat top players as measured by two industry yardsticks. El
Paso-Sonat's 40,600 miles of interstate pipe would surpass Enron's
32,000 miles, and El Paso-Sonat's 12.4 Bcf/d of interstate
transport volumes would better Williams and the stand-alone El
Paso, both of which transport 9.2 Bcf/d. The combined company would
rank No. 3 in gas marketing, behind Enron and Duke Energy, and No.
4 in power marketing, behind Enron, Duke, and Coastal.
"The merger between El Paso and Sonat will create the preeminent
natural gas company in North America," said El Paso CEO William A.
Wise. "The combined company will rank among the leaders in all key
sectors of our industry including interstate transmission,
intrastate transmission, gas gathering and processing, energy
marketing and power development."
Wise will head the combined company, which will retain the El
Paso name. One industry observer said he thinks it was Wise's
desire to remain top dog that quashed a rumored El Paso pairing
with Southern Co. Still, the observer did not rule out the
potential for El Paso to pair with an electric company down the
El Paso-Sonat's interstate pipeline systems would stretch from
Bakersfield to Birmingham and Brownsville to Boston. "They will tap
the most prolific supply basins in North America and access the
largest and fastest growing natural gas markets in the United
States, including Florida and other key southeastern states," Wise
said. "New gas-fueled power generation development is particularly
active in these areas. Our ability to access these new markets will
further diversify our market base and allow us to employ our
combined expertise in energy marketing and power generation."
Wise also highlighted the Sonat E&P assets his company would
acquire and the opportunities they would provide for El Paso Field
Services. In a conference call, Wise pledged to maintain E&P
operations as a "strategic asset," not a "growth engine." Sonat's
production is seen by El Paso as ripe for powering gas-fired
electric generation. The combined company would control about 4,000
MW of generation, and there are plans in the next two to three
years to develop 7,000 to 8,000 MW more. Some analysts scoffed at
the idea of merely maintaining an E&P business, saying it's
either a growth or depletion business. One noted Sonat produces far
more gas than a combined El Paso-Sonat would need to fire its power
"Sonat Exploration has a substantial oil and gas exploration and
production base that spans the southern United States from Texas to
Alabama, including an important presence in the Gulf of Mexico,"
Wise said. "Our onshore gathering and processing facilities and
Leviathan Gas Pipeline's offshore gathering operations will provide
Sonat Exploration's existing 1.6 Tcf of natural gas equivalent
reserves access to burgeoning power generation markets and the best
interstate pipeline network in the U.S."
El Paso-Sonat would hedge a large portion of its production.
"[El Paso] is acquiring the E&P program at near $1.00 per Mcf
after it has been fully restructured over the past year.
Nevertheless, we would not rule out a divestment at some point,"
PaineWebber said in a research note. As the merger would be a
pooling of interests, El Paso would be constrained by Securities
and Exchange regulations affecting the amount of combined company
assets it could sell initially.
Analysts considering an El Paso-Sonat pairing generally didn't
see a deal as being non-dilutive to earnings, one of El Paso's
stated criteria for acquisitions. That thinking has changed.
PaineWebber analyst Ron Barone, in a research note, said three
factors cause him to believe the deal will be accretive in 2000.
They are cost savings and synergies, a lower depreciation,
depletion and amortization rate per unit of production at Sonat
after a ceiling test write-down, and lower benefits plan expenses
at El Paso. PaineWebber raised its 2000 earnings per share estimate
for El Paso to $2.40 from $2.35 and retained its 1999 estimate of
$2.10/share. El Paso said it expects earnings accretion of about 3%
The combined company will be headquartered in Houston. Sonat is
currently headquartered in Birmingham, AL, and the headquarters of
Sonat's interstate pipeline, Southern Natural Gas Co., will remain
in Birmingham. Sonat CEO Ronald L. Kuehn Jr. will become the
non-executive chairman of the board for the combined company until
Dec. 31, 2000. The board will consist of 15 directors-nine
designated by El Paso and six by Sonat. The merger is subject to
customary conditions, including approval by the stockholders of
Sonat and receipt of certain required governmental approvals.
To assure Sonat stockholders the deal will be completed, El Paso
agreed that if El Paso stockholder approval for the common issuance
were not obtained, El Paso would issue 19.9% of its outstanding
common stock as merger consideration, with the balance of the
consideration paid in non-convertible, long-term preferred stock.
This arrangement, which is not expected to come to pass, is similar
to a provision in El Paso's acquisition of Tenneco Energy three
The merger agreement includes customary non-solicitation,
termination fee and expense reimbursement provisions. In addition,
each of the companies granted the other an option to buy up to
19.9% of its outstanding common stock, exercisable if the merger is
terminated under certain circumstances. Members of the Zilkha
family, who own about 21% of the outstanding Sonat shares, agreed
to vote for the merger. Donaldson, Lufkin and Jenrette Securities
is El Paso's financial advisor, and Merrill Lynch is advising