Major El Paso Corp. investors Selim K. Zilkha and Oscar S. Wyatt Jr. will have to win the support of three major institutional investment firms in California to take control of the board of directors from the financially weakened company at the annual El Paso shareholder meeting this year, a veteran energy analyst said. Zilka, who has Wyatt’s backing, revealed his plans last week to make a run at the El Paso board.

The three California institutional investors own approximately 27% of the common stock in the Houston-based energy company, said analyst John Olson of Sanders Morris Harris Inc.

Two of the California investment management firms are Pacific Financial Research Inc. and Capital Research & Management Co., which own an estimated 20% of El Paso common stock. Pacific Financial, a wholly owned subsidiary of Old Mutual (US) Holdings, holds just over 60 million voting shares and 5.547 million non-voting shares for a total of 10.9% of El Paso common stock, according to a Feb. 14 filing.

Los Angeles-based Capital Research, which is part of the Capital Group Cos., holds 55.47 million shares, or about 9.3% of the outstanding El Paso common stock, according to a Dec. 31, 2002 filing at the Securities and Exchange Commission (SEC).

“Our policy is we do not discuss our holdings,” said Capital Research spokesman Chuck Freadhoff last week , when asked if the firm had been approached by either or both of the El Paso investors. As for monitoring the situation, he noted, “obviously, we pay attention to all of our holdings.” Pacific Financial did not return NGI’s telephone calls.

Winning the support of institutional investors would give Zilkha, a wealthy Los Angeles businessman and former El Paso board member, and Wyatt, a prominent and hard-charging energy figure, added leverage in their campaign to replace the current 12-member El Paso board with their own nine-member board. While the two men are among the largest individual stockholders in El Paso, their combined holdings amount to only about 2.27% of the 598.9 million common shares that were outstanding as of last November.

Zilkha, 75, owns 8.9 million shares of common stock in El Paso; he acquired his holdings when he sold his company, Zilkha Energy Co., in 1998 to Sonat Inc., which then was gobbled up by El Paso the following year. Wyatt, 74, owns 4.678 million shares of El Paso common stock. He sold Coastal Corp., the company he founded, to El Paso for $24 billion in 2001. Wyatt has been a harsh critic of El Paso Chairman William Wise over the past months, and has spearheaded a class-action lawsuit accusing the company of engaging in fraudulent schemes and conduct.

In a letter delivered to El Paso last Tuesday, Zilkha said he could “no longer watch passively as the value of the company continues to decline.” In an effort to reverse the “disastrous decline” in the company’s stock and debt ratings over the past months, he signaled he will “seek the support of my fellow stockholders” to replace El Paso’s current board.

The announcement earlier this month that Wise would resign as El Paso chairman at the end of 2003 and hand over his title of CEO as soon as the board finds a replacement is “woefully inadequate to address the many problems that plague El Paso,” the disgruntled investor wrote in his letter (See NGI, Feb.17)

The embattled company quickly called on shareholders to reject Zilkha’s proposal, saying it would be “highly disruptive” to El Paso’s ongoing efforts to improve its balance sheet. El Paso has made “numerous efforts to reach out to him,” but Zilkha instead has chosen to launch “this counterproductive proxy campaign,” said company spokeswoman Norma Dunn.

A bitter proxy fight would be costly for both sides, regardless of who wins in the end, analysts agree. And a “change in control” of El Paso’s board would make the company liable for huge payouts for severance and other benefit packages, El Paso said in a report filed with the SEC last week.

Olson refused to speculate on Zilkha’s and Wyatt’s chances for success, but he said “they have a lot of marbles in this game.” With both men “collectively financing this proxy fight” with El Paso, “you have the makings of an interesting evolution here.”

He believes Zilkha and Wyatt have several factors in their favor. They have nominated a “very strong” proposed board to replace the El Paso board, whose current members include a mix from the original El Paso board, Coastal and Sonat. The proposed board, which would include Zilkha but not Wyatt, is “one of the strongest I’ve ever seen in the energy industry…It’s knee deep in experience.”

Other nominees for the El Paso board would include G. Gerald Bennett, chairman and CEO of Total Safety Inc., which provides safety solutions to industrial and energy markets, and formerly an executive with several gas pipeline companies, including Equitable Resources Inc.; C. Robert Black, retired from Texaco Inc. after 41 years; Charles H. Bowman, professor emeritus at Texas A&M University; Ronald J. Burns, chairman of Burns Capital Partners LP, which is involved in private equity investments, and former president and CEO of Entergy Corp.; Stephen Chesebro, non-executive chairman of Harvest Natural Resources, and previously associated with Pennzoil and Tenneco Energy; Ted Earl Davis, energy industry consultant, and ex-Conoco executive; John D. Murphy, retired, former chairman and CEO of Dresser Industries Inc., and past managing director of SMG Management LLC, a privately owned investment group; and John V. Singleton, a retired federal district judge.

Olson noted the current El Paso board “certainly has good people” on it, but he doesn’t believe the members have the “requisite experience” in energy. The terms of all of El Paso’s board members expire this year, which could work to the benefit of Zilkha and Wyatt.

In addition, the two investors have caught El Paso at a “very weakened time” — the company’s stock is hovering at about $4.30 per share, its credit rating has been cut “well down to junk,” the company has had to make “numerous write-offs,” and its Chairman and CEO William Wise is in the process of retiring, he said.

Olson seriously questioned whether there would be any “great collective urge” on the part of El Paso to fend off a proxy fight by the two stockholders at this year’s shareholder meeting. El Paso said it has not scheduled a date for the annual meeting yet. Last year it was held in mid-May, and SEC rules require the company to hold its next meeting within 13 months.

While Wyatt is something of a legend in the energy industry, Zilkha maintains a low profile. Zilkha, a native of Iraq, currently jointly owns Houston-based Zilkha Renewable Energy, an independent power producer and developer of wind energy, with his son, Michael. He also has been involved in the retail clothing field and banking.

In a related development last week, Credit Suisse First Boston analysts, led by Curt Launer, indicated El Paso would face Chapter 11 bankruptcy in the event it is hit with a “multi-billion [dollar] judgment” in the long-running FERC proceeding that has pitted California regulators against the El Paso natural gas pipeline. Launer believes a settlement of the price manipulation allegations could be achieved for $300-800 million.

“Recent indications of a $1.5-6 billion settlement,” as reported in The Wall Street Journal, “would result in a bankruptcy filing by [El Paso] and are therefore unlikely,” the analysts said.

The loss of El Paso stock value in response to the ratings downgrades and Wise’s resignation announcement week was “overdone, in our view, because no new collateral is needed or debt due or default created by the downgrade action,” they noted. Moody’s Investors Service recently dropped El Paso’s stock by five notches.

Despite the gloom shrouding the company now, Launer expects El Paso shares to more than double during 2003, hitting $11. This is still a far cry from the company’s $71 stock price in early 2001. Launer also stuck with Enron right up until the very end.

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