After three years of attempts to generate profitability from itsTexas gathering and liquids businesses, PG&E National EnergyGroup finally threw in the towel yesterday and announced the saleof these assets to El Paso Energy Field Services for $840 millionin stock and debt.

The assets serve all major metropolitan areas, the largestindustrial load centers, and numerous natural gas trading hubs, ElPaso said. They are also well positioned to serve many of thestate’s existing and planned gas-fired electric generationfacilities. Included in the transaction are 8,500 miles of naturalgas transmission pipelines that transport approximately 2.8 Bcf/d,nine processing plants that currently process 1.5 Bcf/d, and a 7.2Bcf natural gas storage field. The transaction also includessignificant natural gas liquids pipelines and fractionationfacilities.

“The market prices for natural gas transportation and naturalgas liquids, combined with the price we paid to acquire thesebusinesses, resulted in a significant drag on earnings despiterecent improvement in operational and financial performance,” saidThomas Boren, CEO of PG&E’s National Energy Group. “Thistransaction will eliminate a negative impact on our earnings andwill help the National Energy Group achieve its financial goals by2002.”

The deal is expected to be completed by the middle of this year.It requires FTC and third-party approvals and will result in aone-time charge against 1999 earnings of $890 million, or$2.42/share, that will be reflected in National Energy Group’sfinancial results of operations for the year.

PG&E originally bought the facilities from Valero Energy andTeco in 1997 for a total of $1.02 billion. At the time, wide basisdifferentials blessed the west-east gas transportation market andPG&E paid a premium price to enter this volatile business.

Yet since then, the basis between Waha in West Texas and Katyand the Houston Ship Channel in East Texas has tightened.PG&E’s effort to become a major liquids and gatherer player inTexas hit a major roadblock it could not overcome. “They concededdefeat on this project months ago,” said John Olson, a consultantwith Sanders, Morris & Mundy. “[Yesterday’s] announcement justbrought a sad end to a brave venture PG&E had embarked uponyears ago.”

Rumors of the sale had been circulating throughout the industry formonths. When Robert Glynn was hired as PG&E’s CEO in September1998, he first mentioned the possibility of selling the Texasassets. The company finally stated in an 8-K form filed last Decemberthat it was ready to sell (see Daily GPI, Dec. 2, 1999).

For the third quarter ended Sept. 30, the Texas gas operationsposted a loss of negative 2 cents/share, which was actually animprovement over negative 6 cents/share recorded for the sameperiod last year. In contrast, PG&E’s gas pipeline network inthe Pacific Northwest is a “very good business,” reporting earningsof 5 cents/share in the third quarter.

While PG&E suffered with these assets, analysts believe ElPaso will thrive. It is expected to be immediately accretive to ElPaso’s earnings. Also, El Paso is an experienced player in theliquids game, whereas it was not the core business of PG&E. Ina teleconference after the deal was announced, El Paso said that70% of the cash flow generated by these assets comes from stablefee-based activities with the balance from processing. Using theexperience from its El Paso Field Services division, the companybelieves it can actively manage the risk associated with thenon-fee-based side.

“We have sought these assets for some time, and they are anexcellent fit for us, especially in light of our proposed Coastalmerger. This transaction represents compelling value and will beimmediately accretive to El Paso’s earnings per share,” saidRobert G. Phillips, president of El Paso Field Services Co. “Manyof the acquired assets will be ideal candidates for contribution toour affiliated master limited partnership, El Paso Energy Partners,L.P.”

With this purchase, El Paso will be in the position to compete withthe yet-to-be-formed Duke Energy Field Services (DEFS). The creationof DEFS, which was announced last December and scheduled for laterthis year, will create the largest gas liquids company in the country(see Daily GPI, Dec. 17). “They willclearly be in contention,” Olson said. “The DEFS company will be thelarger liquids company, but El Paso will have more gatheringoperations.”

El Paso is getting good exercise opening its wallet. The Houston,TX-based company completed a purchase of Sonat Inc. last October, andjust a few weeks ago announced intentions to merge with Coastal Corp(see Daily GPI, Jan. 19). Despite all ofthe movement, neither management nor Olson see anything that mightcause the FTC to pause. “There might be some points where thesePG&E assets conflict with some Coastal assets, but nothing of anysignificance,” Olson said.

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