As many analysts and observers expected, Columbia Energy Group’sboard swiftly rejected NiSource’s $5.7 billion, $68/share, purchaseoffer last week on the advice of management, legal counsel and afinancial team at Salomon Smith Barney. But NiSource officials saidthey were “undeterred” by the decision and would move forward ondiscussions with Columbia’s shareholders.

It took Columbia’s board only four days to make a final decisionto reject the offer and conclude its initial impressions of thedeal were accurate: that the purchase would “deprive” Columbiashareholders of the long-term growth expected from the company’sexisting strategic plan.

“We can’t believe that our offer received a thorough review inthe short period since making it public on Monday,” NiSourceChairman Gary L. Neale responded late Thursday. “Columbia’sannouncement does not mean that we are going away. We’re determinedto complete this transaction, which we believe creates value forboth companies’ shareholders.”

Neale said last week his company met with shareholdersrepresenting 35% of Columbia’s outstanding shares. They were “vocalin support of our offer. We believe they will not accept thedismissive tone of Columbia’s response and will continue to expresstheir support for our position that it is time to negotiate withNiSource.”

In a letter detailing the decision for Neale, Columbia CEOOliver G. (Rick) Richard III said “Our decision not to pursue yourproposal is final.” Richard seemed astounded that a company whoseperformance has paled in comparison to Columbia’s would have thenerve to expect Columbia management to embrace such a minimal offerand become prey to a smaller company. It would be a sharp rolereversal for Columbia, which just last month lost in a bidding warwith Dominion Resources for the purchase of Consolidated NaturalGas.

Richard noted that since he joined Columbia in 1995 “our totalrate of return has outperformed the S&P 500 and the S&PNatural Gas Index and has been approximately double that of yourcompany.

“The [board] believes Columbia’s stock does not fully reflectour true earnings potential. This only strengthens our resolve toprevent another company from taking advantage of this currentanomaly and reaping for itself the significant values inherent inour strategic plan,” he said. That plan, he added, includes”driving earnings growth in transmission and distribution segmentsthrough both new business opportunities and continued costreduction, redeploying cash in higher return nonregulated businesssegments and building on Columbia’s established positions toprosper in the emerging deregulated energy industry.”

Richard also told Neale that a number of NiSource publicstatements, including its expectations for the regulatory timingand potential benefits of its strategy for a combined company,”simply are not realistic.”

NiSource claims regulatory approval could be completed by theend of the year and said it based that expectation on the analysisof two other merging companies, Dominion Resources and ConsolidatedNatural Gas, regarding their own merger process, which will includereview by the same state and federal regulatory bodies.

NiSource’s strategy is to create a “natural gas distributioncorridor” between Chicago and New England and between the GulfCoast region and the Northeast. NiSource closed on a $780 millionacquisition of Massachusetts-based Bay State Gas Co. in Februaryand in April completed a $150 million purchase of TPC Corp., whichowns a network of high-deliverability salt cavern storagefacilities in the eastern U.S.

“This combination will create a super-regional powerhousecapable of earnings growth in excess of 12% per year primarily fromour core businesses,” said Neale in reference to the Columbiatransaction. “For Columbia’s shareholders, the offer representsfull and fair value in a six- to nine-month time frame with littleregulatory risk. For NiSource’s shareholders, this transaction isaccretive in the first 12 months with minimal synergies required.”Neale predicted there would be no layoffs from core operationalgroups.

NiSource’s $5.7 billion, $68/share bid is a 31% premium over a20-day average of Columbia’s share price as of June 4 and a premiumto Columbia’s all-time high stock price. NiSource also would assumeabout $2.25 billion in Columbia debt.

The combination would more than double the size of Merrillville,IN-based NiSource, creating a company with a market capitalizationof $8.3 billion. It would be one of the largest energy distributioncompanies in the country with nearly 4 million electric, gas andpropane distribution customers, 19,000 miles of pipelinesconnecting the Texas Gulf Coast and the Atlantic coast, 700 Bcf oftotal storage capacity, and 800 Bcf of gas reserves.

Merrill Lynch energy analyst Donato Eassey said last week helikes the strategy behind the transaction. “I love geographicdiversification. I think the management of [NiSource] has done avery good job at accumulating assets that are going to add value.You have to have as critical a mass size as you can get in order tobe competitive in the energy world today.”

But Eassey and several other analysts concluded the priceoffered was far too low. “It’s a decent offer. But I think Columbiawill go for a higher number if they go at all,” he said. “The factof the matter is $68/share is a good number but $73 is probably theright number in terms of what the company is worth as we speak.”Eassey said fundamentally Columbia’s stock is worth close to $70 on2000 earnings forecasts. “There are people suggesting it’s worth asmuch as $82/share. I’m not there.”

NiSource likely will have to increase its bid, and it does seemwilling to do so “if its reasonable,” Eassey added. “They’re tryingto buy it cheap still. This is the bottom of the first inning.”

Donaldson, Lufkin & Jenrette energy analyst Curt Launer alsosaid the offer would be “too low to be successful.” Launerestimated the NiSource bid to be 16.2 times Columbia’s 2000earnings per share, eight times 2000 cash flow, 7.7 times 2000EBITDA and 2.7 times Columbia’s book value. “Our analysis shows allof these multiples to be below the ranges shown by recent deals,providing an opportunity for others to consider entering thebidding for CG, and/or NI to increase its bid.”

Although many observers were expecting the offer to immediatelytrigger other bids, none had been made as of Friday. “..I’ve got afunny feeling this opens the door to a bunch more bids,” said BTAlex. Brown energy analyst Ed Tirello. “Every big electric companyis looking, all the guys with cash. I mean you have First Energy,GPU. You’ve got Unicom, Cinergy. It probably will be one of theguys right there in the neighborhood. They’re all flushed withcash.

“I’d bet that every investment banker that wasn’t in the deal isnow trying to get somebody to come into do the deal,” Tirelloadded. “You’ve got management looking around for a white knight.They don’t want to do the [NiSource] deal because they want to stayin the business or they want to own someone else; it’s a naturalreaction. This is the beginning of the story, not the end.”

Rocco Canonica

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