Arizona-based utility holding company, UniSource Energy Corp., headed into the New Year with its stock price remaining near its 52-week high ($25/share), following a not-so-merry holiday season. Just before Christmas, Arizona regulators rejected UniSource’s proposed sale to a private investors group headed by three major Wall Street buy-out firms, and then just before the New Year’s weekend, the investors pulled the plug on their $3 billion offer to buy the holding company for Tucson Electric Power (TEP) and another combination utility in Arizona.

The Arizona-based utility holding company backed by the Wall Street firm, Saguaro Utility Group LP, exercised its termination rights under the original acquisition agreement forged in November 2003. It provided the right for either party in the event the Arizona Corporation Commission (ACC) rejected the deal as it did Dec. 21. Also under the terms of the original agreement, UniSource Energy is supposed to pay $7 million of Saguaro’s “transaction-related expenses.”

UniSource CEO James Pignatelli said he was disappointed because he believed the purchase “would have provided significant benefits for this company and our customers. Nevertheless, UniSource is prepared to move forward into a new year of growth and opportunity.”

Pignatelli maintained that the company retains its “fundamental strength” that was an attraction for the acquisition, and the company’s utilities will remain focused on “reliability, service, and value for customers and shareholders.” Retail utility customers will not be asked to pay any of the costs of the aborted deal, he said.

After two days of debate and several failed attempts to salvage the deal with eleventh-hour conditions, the ACC Dec. 21 rejected the proposed sale to Saguaro and the private investor group headed by the buyout firm, Kohlberg Kravis Roberts & Co. (KKR). The commissioners on a 4-1 vote supported a regulatory judge’s recommendation to reject the multi-billion-dollar deal.

Last November, ACC Administrative Law Judge Jane Rodda issued a proposed decision denying the pending sale of UniSource to Saguaro, et al. Rodda said she found that the risks of the proposed acquisition of UniSource, the Tucson-based utility holding company, outweighed any expected benefits, and in the final judgment four of the ACC regulators agreed with her.

UniSource is the holding company for TEP and UniSource Energy Services, two utilities regulated by the ACC, which has to approve taking the holding company private. The five-member elected commission was not bound by the ALJ’s recommendation.

For many months, UniSource senior officials had predicted an ACC decision by the end of 2004, and under the terms of their deal, they had until the end of the first quarter of 2005 to obtain state regulatory approval for the proposed sale to the Saguaro group, whose major backers include the Wall Street titans, J. P. Morgan Partners LLC, and Wachovia Capital Partners, in addition to KKR.

Saguaro’s general partner is Sage Mountain LLC, an Arizona-based company managed and owned by Frederick Rentschler, a former CEO at Armour-Dial, Beatrice Companies and Northwest Airlines.

UniSource argued that the deal would not only strengthen the company’s financial status and ability to attract capital, but would upgrade its utilities’ ability to ensure safe, reliable service. Rodda was not swayed, however.

“The ALJ concluded that the transaction does not meet the standard of being in the public interest,” said the ACC spokesperson. “The judge also determined that the transaction does not support a finding that is required by the affiliated interest rules.”

In her proposed decision, Rodda identified such risks as increase debt, what she described as “inadequate” bankruptcy protections, limited access to information from the limited partnership that would own UniSource, and undue power concentrated in the general partner all outweighing the recognized benefits of a shareholder premium over the market price of their stock, improved capital structure, a “local presence,” and a commitment to spend $1.5 billion in operations and maintenance over the next three years in the two utilities, TEP being by far the largest and most capital intensive.

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