The combination announced last week of Oneok Inc. and SouthwestGas Corp. would be the largest stand-alone gas distributor in theUnited States, with Columbia Energy in second place, and the fourthlargest when gas and electric combination utilities are considered.The combined company would have 2.6 million customers in fivestates and would capitalize on Southwest’s growth potential andOneok’s strong balance sheet.

Last week, Oneok agreed to pay $28.50/share for Southwest Gascommon stock outstanding, valuing Southwest at about $1.8 billion,including assumed debt. The transaction is expected to be accretivein the first full year of operations. Oneok would be the primarygas distribution company in Arizona, Kansas, Nevada and Oklahomaand will also have a strong presence in California. Southwest Gascurrently provides gas to about 1.2 million customers in Arizona,Nevada and California.

PaineWebber’s Ron Barone called the deal a “win-win” and notedOneok would get Southwest for a price about 1.9 times its bookvalue when similar transactions have been priced at about 2.5 timesbook value. In explaining the seemingly low price, Barone notedsome leverage to Southwest’s balance sheet and the fact thatSouthwest’s earnings next year are expected to be about$1.25/share, down from $1.70/share projected for the current year.Last winter saw colder than normal temperatures in Southwest’sservice territory, something not expected to happen again thiswinter, Barone explained.

Larry Brummett, CEO of Oneok, said, “We believe the expertise ofOneok as a fully integrated gas distribution company with gasproduction, marketing and processing will create new opportunitiesat Southwest Gas. Southwest Gas serves two of the fastest-growingstates in the country – Arizona and Nevada – and we look forward toprofitably developing this growth with our new partner.”

Oneok has not identified any cost savings in any particular areaof the merger, said Oneok COO David Kyle. “We project the deal tobe accretive absent any kind of efficiencies.” As for adding moreregulated assets, he said the company takes deals as they come,whether they be for regulated or non-regulated assets.

Michael Maffie, CEO of Southwest Gas said, “The new company willbe solid financially with strong cash flow to enhance growthopportunities in the rapidly expanding Southwest Gas serviceterritories and will minimize regulated business risks with thediversified geographic exposure of five states.”

The terms of the deal call for three Southwest Gas board membersto join Oneok’s board, filling a current vacancy and two positionsthat will be vacated due to retirements in 1999. Southwest Gas willoperate as a division of Oneok Inc. and will retain its name in thelocal markets it serves. Brummett said, “The merger is not expectedto result in employee layoffs, and we would expect future employeeadjustments to be the result of attrition and/or voluntaryseparation.”

Southwest stock prices soared 9.7%, or $2.31 last Tuesday, whenthe deal was announced, to $26.06/share, while Oneok stock pricesinched downward 1% to $33.19/share. The transaction is subject toshareholder and regulatory approvals. It is expected to beaccounted for using the purchase method and is expected to closeduring the fall of 1999.

“From our perspective the reason [for the merger] now is thereare two great plusses here,” said Southwest spokesman RogerBuehrer. “Southwest Gas is the fastest growing utility in thecountry. We’ve been growing at an excess of 5% a year for the lastseveral years, and that’s double the national average for gasutilities. And [Oneok brings] an infusion of cash and financialstrength to the company, and this just made good sense. Two majorresources, growth and money, make a really strong company.”

Oneok’s regulated operations are conducted mainly throughOklahoma Natural Gas and represented roughly 78% of operatingincome before tax in the 1997 fiscal year. Last year Oneokcompleted a strategic alliance with Western Resources, combiningthe gas assets of both companies into Oneok. The $660 milliontransaction made Oneok the nation’s eighth largest LDC, servingalmost 1.4 million customers in Kansas and Oklahoma.

One day before announcing the Southwest merger, Oneok said ithad made a strategic alliance with Magnum Hunter Resources Inc. toboost gas production and development opportunities for bothcompanies. Oneok will buy $50 million of Magnum Hunter convertiblepreferred stock, becoming a 31% equity owner. Oneok will acquire$10 million of Magnum Hunter’s pending acquisition of Spirit 76,including reserves and a gathering system.

The Southwest transaction is not expected to slow down Oneok inmaking similar deals, Brummett said. “We have a number of deals inthe works even as we talk,” he said during an analyst conferencecall last week. “We have been continuously announcing the deals,and again our criteria there is the same as it is on the regulatedside, that those deals must be accretive, and that makes itdifficult. It makes us work harder to find those kinds of deals.It’s a very good time to be buying if you have faith and confidencein the long-term prospects of this business, as we do.”

Joe Fisher, Houston

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