As filed with the Securities and Exchange Commission on December 21, 2001
File No. 70-09961
United States Securities and Exchange Commission
Washington, D.C. 20549
________________________________________
Amendment No. 2
to
Form U-1
Application/Declaration
Under the
Public Utility Holding Company Act of 1935
________________________________________
E.ON AG Powergen plc
E.ON-Platz 1 Powergen US Holdings Limited
40479 Dusseldorf Powergen US Investments
Germany Powergen Luxembourg sarl
Powergen Luxembourg Holdings sarl
Powergen Luxembourg Investments sarl
Powergen US Investments Corp.
City Point
1 Ropemaker Street
London EC2Y 9HT
United Kingdom
(Names of companies filing this statement
and addresses of principal executive offices)
________________________________________
E.ON AG
(Name of top registered holding company)
________________________________________
Ulrich Hueppe David Jackson
General Counsel, Executive Vice President Company Secretary and General Counsel
Dr. Guntram Wuerzberg Powergen plc
Vice President General Legal Affairs City Point
E.ON AG 1 Ropemaker Street
E.ON-Platz 1 London EC2Y 9HT
40479 Dusseldorf United Kingdom
Germany Telephone: 011-44-207-826-2742
Telephone: 011-49-211-4579-388 Facsimile: 011-44-207-826-2889
Facsimile: 011-49-211-4579-610
(Names and addresses of agents for service)
The Commission is also requested to send copies
of any communication in connection with this matter to:
Tia S. Barancik Peter D. Clarke
LeBoeuf, Lamb, Greene & MacRae, L.L.P. Debra J. Schnebel
125 West 55th Street Jones, Day, Reavis & Pogue
New York, NY 10019-5389 77 West Wacker Drive, Ste. 3500
Telephone: (212) 424-8455 Chicago, IL 60601-1692
Facsimile: (212) 424-8500 Telephone: (312) 782-3939
Facsimile: (312) 782-8585
Markian M. W. Melnyk
LeBoeuf, Lamb, Greene & MacRae, L.L.P. Joseph B. Frumkin
1875 Connecticut Ave., N.W. Sullivan & Cromwell
Washington, D.C. 20009-5728 125 Broad Street
Telephone: (202) 986-8212 New York, NY 10004
Facsimile: (202) 986-8102 Telephone: (212)-558-4000
Facsimile: (212) 558-3588
TABLE OF CONTENTS
Item 1. Description of the Proposed Transaction................................2
A. Introduction........................................................2
1. Background of the Transaction....................................2
2. E.ON Generally...................................................3
a. Energy - E.ON Energie.........................................4
b. Chemicals - Degussa AG........................................5
c. Real Estate - Viterra AG......................................6
d. Oil - VEBA Oel................................................6
e. Telecommunications - E.ON Telecom GmbH and VIAG Telecom
Beteiligungs GmbH...........................................6
f. Distribution and Logistics - Stinnes AG and Klockner
& Co. AG....................................................6
g. Aluminum - VAW aluminium AG...................................7
h. Silicon Wafers - MEMC Electronic Materials Inc................7
i. RAG...........................................................7
j. Divestiture Program Generally.................................8
3. Powergen Generally...............................................8
a. Powergen UK...................................................9
b. LG&E Energy..................................................10
c. Powergen International.......................................12
B. Description of the Acquisition.....................................12
1. Introduction....................................................12
2. The Offer.......................................................12
3. Loan Note Alternative...........................................14
4. Conditions to the Offer.........................................15
C. Financing the Acquisition and the Resulting Financial and
Corporate Structure..............................................16
D. E.ON's Shareholders................................................20
E. Management of the Combined System..................................20
F. Regulatory Environment.............................................21
1. Generally.......................................................21
2. The Acquisition Under U.K. Law..................................21
3. Restructuring Activity in the U.S...............................22
G. Service Company....................................................23
Item 2. Fees, Commissions and Expenses........................................23
Item 3. Applicable Statutory Provisions.......................................24
A. Legal Analysis of the Acquisition..................................25
B. Undue Concentration................................................26
C. Reasonableness of Consideration....................................28
D. Capital Structure and Corporate Structure Complication.............31
E. Compliance with State Law..........................................41
F. Integrated Public Utility System...................................43
G. Retention of Nonutility Subsidiaries...............................49
1. E.ON's Nonutility Subsidiaries..................................49
a. Degussa......................................................50
b. Viterra......................................................52
c. RAG..........................................................53
2. Powergen's Nonutility Businesses................................57
H. EWG/FUCO-Related Financings........................................58
1. Retention of Existing Foreign Utility and
Energy-related Businesses.....................................58
2. Reinvestment of Proceeds from the Divestiture of
Nonutility Businesses.........................................59
3. Additional Investments in EWGs/FUCOs............................59
a. Compliance with Rule 53................................60
b. Compliance With Rule 54................................71
I. Investments in TBD Subsidiaries....................................73
J. E.ON's Investments in Portfolio Securities.........................74
K. Intrasystem Provision of Services..................................76
1. LG&E Services and the LG&E Energy Group.........................76
2. Services provided by Powergen Group and E.ON Group..............76
3. Exemptions for Transactions with Non-utility Companies..........78
4. Interaction with Other Regulatory Agencies......................79
5. Restriction on Amendments.......................................80
L. E.ON's Water Operations............................................81
M. Reporting Requirements.............................................83
Item 4. Regulatory Approvals..................................................85
A. Antitrust..........................................................86
B. Federal Power Act..................................................86
C. Exon-Florio........................................................86
D. State Regulatory Approval..........................................86
Item 5. Procedure.............................................................87
Item 6. Exhibits and Financial Statements.....................................87
Item 7. Information as to Environmental Effects...............................89
Certain Defined Terms
1. "Applicants" means E.ON, Powergen and the Powergen Intermediate Holding
Companies.
2. "E.ON Energie" means E.ON Energie AG.
3. "E.ON Group" means E.ON and all of its direct and indirect subsidiary
companies.
4. "E.ON" means E.ON AG.
5. "GAAP" means generally accepted accounting principles.
6. "KU" means Kentucky Utilities Company.
7. "LG&E Energy Group" means LG&E Energy and all of its direct and indirect
subsidiary companies.
8. "LG&E Energy" means LG&E Energy Corp.
9. "LG&E" means Louisville Gas and Electric Company.
10. "Powergen Group" means Powergen and all of its direct and indirect
subsidiary companies.
11. "Powergen UK Group" means Powergen, Powergen Group Holdings and all of the
direct and indirect subsidiary companies of Powergen Group Holdings.
12. "Powergen Intermediate Holding Companies" means Powergen US Holdings
Limited, Powergen US Investments Limited, Powergen Luxembourg sarl,
Powergen Luxembourg Holdings sarl, Powergen Luxembourg Investments sarl and
Powergen US Investments Corp.
13. "Powergen" means Powergen plc.
14. "Utility Subsidiaries" means LG&E and KU.
This pre-effective Amendment No. 2 replaces and revises the Form U-1
Application - Declaration in this proceeding originally filed in File No.
70-9961 on September 4, 2001, and subsequently amended by Amendment No. 1 on
October 23, 2001. It does not replace exhibits previously filed except for
Exhibits G-1, G-2 and J-1.
Item 1. Description of the Proposed Transaction
A. Introduction
This Application/Declaration (the "Application") requests the authorization
of the Securities and Exchange Commission (the "Commission" or "SEC") for the
proposed acquisition of Powergen plc ("Powergen") by E.ON AG ("E.ON") (the
"Acquisition"), and for certain related transactions. Commission authorization
of the Acquisition is required under Sections 9(a)(2) and 10 of the Public
Utility Holding Company Act of 1935 (the "1935 Act" or "Act") because E.ON's
acquisition of Powergen will result in E.ON's indirect acquisition of Powergen's
U.S. holding company, LG&E Energy Corp. ("LG&E Energy"), and its public utility
company subsidiaries Louisville Gas and Electric Company ("LG&E") and Kentucky
Utilities Company ("KU").
Following consummation of the Acquisition, E.ON will register with the
Commission as a holding company under Section 5 of the Act.
1. Background of the Transaction
E.ON seeks to become a leading global integrated energy and utility
company. The acquisition of Powergen is a natural step in furtherance of E.ON's
effort to build a global presence and will provide E.ON with a leading
pan-European position in energy utilities. Powergen also provides E.ON with a
significant presence in the U.K., the third largest European electricity market
and brings with it substantial energy trading experience.
At the same time, E.ON's indirect acquisition of LG&E Energy provides a
platform for E.ON to build a profitable position in the U.S. LG&E Energy has
been ranked number one in cross industry customer surveys and benefits from a
high quality asset base and regional price and cost advantages. E.ON expects to
utilize the high quality management of Powergen and LG&E Energy to expand its
presence in the U.S. In addition, E.ON's financial strength and utility
expertise can help to build LG&E Energy into a stronger company. For example,
the greater employment opportunities associated with a multinational corporation
such as E.ON should help attract (and keep) the most skilled and motivated
employees to LG&E Energy and its subsidiaries.
E.ON believes LG&E Energy is the ideal nucleus about which to expand its
U.S. energy and utility operations. The U.S. energy market is eight times the
size of the German energy market and the highly fragmented nature of the U.S.
energy and utility industry presents significant opportunities to grow, both
organically and by acquisition. E.ON is the right company to grow LG&E Energy.
E.ON brings unrivaled experience and resources to the task, as the world's
largest investor-owned utility. E.ON's market capitalization of approximately
Euro 39.5 billion (approximately $35.7 billion/1/) as of April 6, 2001 (the last
business day before the
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/1/ Throughout this Application, unless otherwise indicated, amounts
originally in Euros were converted at $0.88: Euro 1 and amounts in British
Pounds were converted at $1.43 : Pound 1.
2
public announcement of the preconditional offer), and its financial strength
equals or exceeds that of any company in the U.S. energy/utility industry.
In addition to providing greater global scale, the acquisition of Powergen
will accelerate E.ON's strategic move towards a pure-play, globally integrated
energy and utility business. E.ON intends to divest its non-energy and
non-utility related assets over three to five years and to reinvest the proceeds
of these sales to grow core energy and utility activities. E.ON's Management
Board and Powergen's management share a common managerial philosophy, comparable
organizational cultures and strategic objectives. These key areas of commonality
should result in the rapid realization of the benefits of the business
combination. The Acquisition will also provide Powergen's shareholders with a
substantial premium to the market price of the Powergen stock and is expected to
provide E.ON's shareholders with immediate earnings enhancement (pre-goodwill
amortization).
E.ON's commitment to participate in the U.S. energy market is strong. E.ON
was one of the first utility companies on the European continent to list its
shares on the New York Stock Exchange and to publish financial statements
according to U.S. GAAP. E.ON's willingness to register as a holding company
under the 1935 Act and to submit to the ongoing regulation associated with that
status further evidences E.ON's commitment to develop its presence in the U.S.
2. E.ON Generally
E.ON is an Aktiengesellschaft, the equivalent of a U.S. stock corporation,
formed under the laws of the Federal Republic of Germany. E.ON's shares are
traded on all German stock exchanges, the Swiss Stock Exchange and as American
Depository Receipts ("ADRs") on the New York Stock Exchange, Inc. ("NYSE"). As
of year end 2000, E.ON is Germany's third largest industrial group, employs more
than 180,000 people and has a market capitalization of approximately Euro 39.5
billion (approximately $35.7 billion) as of April 6, 2001, the last business day
prior to the announcement of the Acquisition. More detailed information
concerning E.ON and its subsidiaries is contained in E.ON's Annual Report on
Form 20-F for the year ended December 31, 2000. See Exhibit F-1.
For the nine months ended September 30, 2001, E.ON had revenues of Euro
64.3 billion ($58.7 billion) and net income of Euro 1.0 billion ($0.9 billion).
As of September 30, 2001, E.ON had net assets of Euro 23.2 billion ($21.2
billion) and a market capitalization of approximately Euro 43.4 billion ($39.6
billion).
E.ON was formed in June 2000 as a result of the merger of German
conglomerates VEBA AG and VIAG AG, which trace their roots to the 1920s. E.ON
provides strategic management for group members and coordinates group
activities. E.ON also provides centralized controller, treasury, risk management
and service functions to group members, as well as communications, capital
markets and investor relations functions. E.ON currently is organized into eight
separate business divisions: energy, chemicals, real estate, oil,
telecommunications, distribution/logistics, aluminum and silicon wafers. Each
business division is responsible for managing its own day-to-day business.
E.ON's energy business division comprises 54% of E.ON's total investments. A
list of E.ON subsidiaries, based on the
3
information provided as part of E.ON's annual accounts, is attached as Exhibit
G-1 hereto. The business divisions are further described below.
Upon completion of the Acquisition, E.ON will be the world's second largest
utility company and the largest investor-owned utility, based on electricity
sales of 323 trillion watt hours and approximately 30 million electric and
natural gas customers./2/
a. Energy - E.ON Energie
In July 2000, following completion of the merger between VEBA AG and VIAG
AG, E.ON merged the two major energy divisions of former VEBA AG and VIAG AG
(PreussenElektra AG and Bayernwerk AG, respectively) to form E.ON Energie. E.ON
Energie, a wholly owned subsidiary of E.ON, supplies roughly one-third of
Germany's electricity. E.ON Energie's core business consists of the ownership
and operation of power generation facilities, the transmission and distribution
of electric power, gas and heat and energy-related businesses, including the
supply of water and water-related services.
E.ON Energie owns interests in and operates electric power generation
facilities with a total installed capacity of more than 37,000 MW, its
attributable share of which is approximately 29,000 MW (not including
mothballed, shut down or inactive power plants). The power generation business
division is subdivided into three wholly owned German limited liability
companies according to fuels used: E.ON Kraftwerke GmbH owns and operates the
power stations using fossil energy sources, E.ON Kernkraft GmbH owns and
operates the nuclear power stations and E.ON Wasserkraft GmbH owns and operates
the hydroelectric power plants. On July 12, 2001, E.ON Energie and the Austrian
utility company Verbund signed a Memorandum of Understanding concerning the
establishment of a combined company for hydroelectric power production. To form
European Hydro Power ("EHP"), E.ON Energie will contribute its subsidiary, E.ON
Wasserkraft GmbH, and Verbund will contribute its stake in Austrian Hydro Power.
E.ON Energie will have a 40% share in EHP and Verbund will own the remaining
60%. The new company will own some 200 hydroelectric power plants with a
capacity of 9,600 MW, employing approximately 2,500 people. EHP is expected to
commence operations by January 1, 2002.
The power transmission grid of E.ON Energie is located in the German states
of Schleswig-Holstein, Lower Saxony, North Rhine-Westphalia, Hesse, Bavaria and
Mecklenburg- Western Pomerania and reaches from Scandinavia to the Alps. The
grid is interconnected with the western European power grid with links to the
Netherlands, Austria, Switzerland and eastern Europe. With a system length of
over 37,000 km (23,000 miles) and a coverage area of nearly 170,000 square km
(66,000 square miles), the grid covers more than one-third of the surface area
of Germany. The high-voltage network allows long-distance power transport at low
transmission losses. The system is operated from two main circuit control
headquarters. In addition, there are more than ten smaller control units at
decentralized locations within the grid area. The system is mainly, but not
completely (depending on regional locations), operated by E.ON Netz GmbH, a
wholly owned subsidiary of E.ON Energie.
-----------------------
/2/ The amounts indicated include results from companies in which E.ON
holds less than a 50% interest.
4
E.ON Energie conducts its retail energy business through a number of mostly
majority-owned subsidiaries and its utility distribution and supply business
through a number of majority-owned subsidiaries in Germany which are identified
in Exhibit G-1. E.ON Energie supplied about one-third of the electricity
consumed in Germany in 2000. Its customers are interregional, regional and
municipal utilities and traders, large industrial and special-rate customers
and, mainly through regional distributors, standard-rate customers. In 2000,
E.ON Energie sold 125.9 billion kWh of electricity in western Germany and 24.1
billion kWh in eastern Germany and exported 19.9 billion kWh.
E.ON Energie conducts its marketing and energy trading business through
E.ON Trading GmbH, which is a wholly owned subsidiary of E.ON Energie. E.ON
Energie believes that its trading floor provides E.ON Energie with valuable
market insight and has strengthened its competitive position in the European
electricity market. E.ON Energie intends to expand both third party trading on
the trading floor and its own trading of financial contracts of electricity
products. During 2000, E.ON Energie was one of the first participants in the
newly-established Leipzig Power Exchange as well as the European Energy Exchange
in Frankfurt. In 1999, E.ON Energie became a participant in the Scandinavian
electricity exchange, Nordpool, as well as the Amsterdam Power Exchange in the
Netherlands. E.ON Energie's overall electricity trading volume amounted to 46.1
billion kWh in 2000. In the summer of 2000, in order to improve its gas trading
capabilities and expand its gas trading business, E.ON Energie formed a 75% -
25% joint venture with the management of D-Gas B.V., an experienced British team
of gas traders.
E.ON Trading has incorporated a complete risk management system in
compliance with requirements for trading businesses of the German Federal
Supervisory Office for Banking. As a consequence, there is an operational
separation between the functions of trading, transacting/handling and
controlling, so-called front-, middle- and back-office functions. Especially
important, the function of risk-management is not handled by E.ON Trading
itself, but by the separate department of Risk Management within E.ON Energie.
The two major risks in the trading business, i.e. adverse effects of market
price changes on open trading positions and counter-party credit risk, are
covered by: (i) a limit system that is actualized daily by risk management and
controlling and (ii) credit limits on the basis of rating analysis for each
contractual partner.
E.ON intends to qualify E.ON Energie as a foreign utility company ("FUCO")
under Section 33 of the Act at the time of the Acquisition.
b. Chemicals - Degussa AG
Degussa AG ("Degussa") was formed on February 9, 2001, as a result of the
merger of Degussa-Huls and SKW Trostberg, two major specialty chemical
companies. E.ON owns 64.55% of the equity of Degussa. The new company has
divided its specialty chemicals businesses into six business divisions: health
and nutrition, construction chemicals, fine and industrial chemicals,
performance chemicals, coatings and advanced fillers, and specialty polymers. As
discussed in greater detail below, E.ON proposes to divest its interest in the
chemicals business within 5 years of the date of the completion of the
Acquisition and the registration of E.ON as a holding company under the Act.
5
c. Real Estate - Viterra AG
Viterra AG ("Viterra") is E.ON's real estate group and is engaged in four
strategic business units: residential investment, residential development,
residential services and commercial real estate. Viterra has a property
portfolio of approximately 120,000 housing units and 125 commercial units. As
discussed in greater detail below, E.ON proposes to divest its interest in the
real estate business subsidiaries within 5 years of the date of the completion
of the Acquisition and the registration of E.ON as a holding company under the
Act.
d. Oil - VEBA Oel
VEBA Oel manages interests in oil, gas and petrochemicals business
including the exploration for, and production of, hydrocarbons, refining of
crude oil, production of petrochemicals and the marketing of petroleum products
and petrochemicals. On July 16, 2001, E.ON and BP plc, announced that they had
reached an agreement to reorganize their oil and gas business. As part of this
reorganization and the related transactions, BP will become VEBA Oel's majority
shareholder (51%) by subscribing to a capital increase at the turn of the year
at the earliest. Beginning on April 1, 2002, E.ON will have the option to sell
its remaining interest in VEBA Oel (49%) to BP. Upon completion of this
transaction (i.e., after exercising the put option) E.ON would have divested its
oil businesses completely. E.ON proposes to divest its interest in VEBA Oel
within 3 years of the date of the completion of the Acquisition and the
registration of E.ON as a holding company under the Act.
In addition, BP, through its subsidiary Gelsenberg AG ("Gelsenberg") which
directly and indirectly holds 25.5% of Ruhrgas AG ("Ruhrgas"), Germany's largest
natural gas transmission, storage, distribution and import company, has agreed
with E.ON that E.ON will acquire 51% of Gelsenberg by means of a capital
increase at the turn of the year at the earliest. Beginning on January 1, 2002,
BP will have the option to sell its remaining 49% interest in Gelsenberg to
E.ON. Detailed information concerning Ruhrgas is provided below.
These transactions are subject to receipt of merger control clearance.
e. Telecommunications - E.ON Telecom GmbH and VIAG Telecom
Beteiligungs GmbH
E.ON, through two intermediate holding companies, E.ON Telecom GmbH
(formerly VEBA Telecom) and VIAG Telecom Beteiligungs GmbH, has disposed of most
of its telecommunication business activities during 1999 and 2000 and holds
interests in cellular phone providers in Austria (50.1%) and France (17.5%).
E.ON currently intends to retain the cellular phone providers. The basis for the
retention of such business is set forth in Exhibit G-1.
f. Distribution and Logistics - Stinnes AG and Klockner & Co. AG
E.ON's activities in distribution and logistics are organized in two
holding companies, Stinnes AG ("Stinnes") and Klockner & Co. AG ("Klockner").
E.ON holds 65.5% of Stinnes, the remaining shares are publicly listed. Klockner
is a wholly owned subsidiary of E.ON. Stinnes is active in logistics services in
the following areas: transportation, chemicals distribution and materials.
Transportation logistics include land, air and sea freight, as well as
6
logistics systems services. Klockner is a leading European metal distributor (on
the basis of sales and volume) with locations throughout Europe and North
America.
On August 8, 2001, E.ON announced that it had sold Klockner to Balli group
of London. The transaction is based on an enterprise value of approximately Euro
1.1 billion ($0.97 bn), including approximately Euro 0.8 billion ($0.7 bn) in
debt and pension provisions. E.ON expects to realize a book gain of
approximately Euro 150 million ($132 mm) from the disposal. The transaction
closed on October 16, 2001.
As discussed in greater detail below, E.ON proposes to divest its interest
in Stinnes within 3 years of the date of the completion of the Acquisition and
the registration of E.ON as a holding company under the Act.
g. Aluminum - VAW aluminium AG
VAW aluminium AG ("VAW") is a wholly owned subsidiary of E.ON. VAW is
active in the production and processing of aluminum into innovative, high
quality aluminum products and focuses its activities on the fabrication of
semi-finished and finished products for packaging and for specially selected
technical applications in the automotive, printing and construction industries.
VAW's business portfolio is divided into the following business segments:
primary materials, rolled products, flexible packaging and automotive products.
As discussed in greater detail below, E.ON proposes to divest its interest in
VAW within 3 years of the date of the completion of the Acquisition and the
registration of E.ON as a holding company.
h. Silicon Wafers - MEMC Electronic Materials Inc.
The U.S. based and listed MEMC Electronic Materials Inc. ("MEMC"), a 71.8%
owned subsidiary of E.ON, is a leading worldwide manufacturer of silicon wafers
used in the manufacture of semiconductors that are utilized in all types of
microelectric applications, including computer systems, telecommunications
equipment, automobiles, consumer electronics products, industrial automation and
control systems, and analytical and defense systems. MEMC operates manufacturing
facilities in the United States, Italy, Japan, Korea and Malaysia, has a joint
venture in Taiwan, and sells its products to most of the world's largest
manufacturers of semiconductors. MEMC was sold effective November 13, 2001.
i. RAG
E.ON directly owns 37.1 % of the shares of RAG AG ("RAG"), a unique entity
created under the auspices of the German government to own all operating coal
mines in Germany. E.ON also has a 2.1% indirect interest in RAG, through its 21%
interest in Montan-Verwaltungsgesellschaft mbH, which owns 10% of RAG.
RAG owns, indirectly through a subsidiary, RAG Coal International AG,
certain coal mines in the Appalachian, midwestern, and mountain west regions of
the U.S. that supply certain U.S. electric generating units.
7
j. Divestiture Program Generally
Degussa, Viterra, VEBA Oel, Stinnes and VAW and their respective
subsidiaries are hereafter referred to as the "to-be-divested subsidiaries" or
"TBD Subsidiaries."/3/
The proposed Acquisition is significant not just because Powergen provides
E.ON with a foothold in the energy industry in the U.S. and the U.K., but also
because the Acquisition marks E.ON's entry into the next stage of its
focus-and-growth-strategy by becoming a pure-play energy and utility company. As
described herein, the divestiture of non-core businesses and activities is an
integral part of the strategy for achieving E.ON's primary goal. Since the
announcement of E.ON's disposal program in the last year, major steps in the
transformation of E.ON to a pure-play energy and utility company have been
achieved and have resulted in proceeds to E.ON in the amount of approximately
$19 billion from the sale of non-core assets.
The divestiture of such a significant component of E.ON's current business
is a major undertaking and, consequently, E.ON proposes to conduct the
divestiture over 3 to 5 years. Pending divestiture, E.ON will continue to invest
in the TBD Subsidiaries to preserve and protect shareholder value and to prevent
any diminution in the value or the prospects of the business until such time as
a sale or other exit strategy can be implemented, consistent with the order of
the Commission in this Application./4/ For example, Degussa will be divested
after completion of its ongoing extensive restructuring plan. Accordingly, E.ON
intends to redeploy the proceeds of the divestitures in other TBD Subsidiaries
and in E.ON's core utility business. E.ON proposes to limit its additional
investment in the TBD Subsidiaries to future credit support (e.g., including
capital contributions, guarantees and loans) not to exceed $5.5 billion over the
3-5 year time frame for the contemplated divestitures.
3. Powergen Generally
Powergen is an international integrated energy company with its principal
operations in the U.K. and the U.S. Following a Scheme of Arrangement between
the company now known as Powergen UK plc (which was previously the ultimate
holding company for the group) and its shareholders, Powergen became the holding
company for the Powergen Group on December 9, 1998. Through the acquisition of
LG&E Energy on December 11, 2000, and announced sales of assets in the U.K. and
overseas, Powergen has transformed itself into an Anglo-American electricity and
gas business.
Powergen's ordinary shares are listed on the London Stock Exchange ("LSE")
and Powergen's American Depositary Shares ("ADSs") are listed on the NYSE.
Powergen, including its predecessor company, has been since 1995 a reporting
company under the Securities Exchange Act of 1934, as amended (the "1934 Act"),
and has filed reports with the Commission in accordance with the requirements of
the 1934 Act applicable to foreign private issuers. More
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/3/ The TBD Subsidiaries are indicated in E.ON's list of subsidiaries
included in Exhibit G-1 to this Application.
/4/ E.ON has realized substantial value via the disposals of its shares in
E-Plus, Cablecom, Switzerland's Orange Communications and VIAG Interkom, prior
to the re-rating of telecoms stocks. Last year, E.ON also fully disposed of VEBA
Electronics, Gerresheimer Glas and partially Schmalbach-Lubeca (the remaining
indirect interest of 46.6% is also to be divested). All in all, the divestitures
have generated proceeds in total of roughly 21 billion Euros since the
announcement of the VEBA/VIAG merger.
8
detailed information concerning Powergen and its subsidiaries is contained in
Powergen's Annual Report on Form 20-F for the year ended December 31, 2000. See
Exhibit F-2.
For the year ended December 31, 2000, Powergen had revenues of (pound)4,191
million ($6,268 million) and net income under U.S. GAAP of (pound)430 million
($643 million). As at December 31, 2000, Powergen had net assets of (pound)2,286
million ($3,419 million) and a market capitalization of approximately (pound)4.6
billion ($6.9 billion)./5/
For the nine months ended September 30, 2001, Powergen had revenues of
(pound)4,230 million ($6,210 million) and net income under U.S. GAAP of
(pound)152 million ($223 million). As at September 30, 2001, Powergen had net
assets of (pound)2,332 million ($3,423 million) and a market capitalization of
approximately (pound)4.8 billion ($7 billion).
Powergen has two principal subsidiaries: Powergen Group Holdings ("PGH")
and Powergen US Holdings Limited ("US Holdings"). PGH, which is a FUCO, is the
holding company for Powergen's U.K. and international businesses. US Holdings, a
registered holding company under the Act, is the holding company for Powergen's
U.S. business, and is the indirect parent of LG&E Energy. All of Powergen's
direct and indirect non-utility subsidiary companies were reviewed by the
Commission in connection with the application filed by Powergen for
authorization to acquire LG&E Energy./6/ A complete list of the subsidiaries of
Powergen, including the non-utility subsidiaries of LG&E Energy, and a
description of their respective businesses are contained in Exhibit G-2 hereto.
a. Powergen UK
Powergen UK plc ("Powergen UK") is one of the UK's leading integrated
electricity and gas businesses. Powergen UK, a public limited company under the
laws of England and Wales, was organized as one of the four successor companies
of the former Central Electricity Generating Board as part of the reorganization
of the electricity supply industry under the Electricity Act of 1989. In 1998
Powergen UK acquired East Midlands Electricity plc ("East Midlands"), one of the
largest regional electricity companies in England and Wales.
As of March 31, 2001, Powergen UK owned or operated approximately 8,200 MW
of core generation capacity (of which around 7,400 MW is wholly owned and the
balance held through joint ventures), and served over 3 million customer
accounts. Powergen operates an integrated electricity and gas business in the UK
built on the following principles: marketing electricity, gas,
telecommunications and other essential services to domestic and business
customers; asset management in electricity production and distribution; and
energy trading to support these activities. Powergen's strategy in the UK is to
sustain and develop its asset businesses, and to build competitive trading and
retail businesses.
-----------------------
/5/ Amounts originally in Pounds were converted at $1.4955:1 Pound.
/6/ Powergen plc, Holding Co. Act Release No. 27291 (December 6, 2000),
(Authorizing the applications filed in SEC File No. 70-9671 and 70-9763) (the
"Powergen Order").
9
b. LG&E Energy
LG&E Energy, an indirect subsidiary of Powergen, is a public utility
holding company exempt by order under Section 3(a)(1) of the Act./7/ LG&E Energy
owns subsidiaries that are engaged in power generation and project development;
retail gas and electric utility services; and asset-based energy marketing (LG&E
Energy, together with its subsidiaries, is referred to as the "LG&E Energy
Group"). LG&E Energy operates in domestic and international markets from
Powergen's North American headquarters in Louisville, Kentucky.
(i) LG&E Energy's Public Utility Subsidiaries
LG&E Energy has two public utility subsidiary companies,/8/ LG&E and KU
(the "Utility Subsidiaries"). LG&E and KU have joint generation capacity of
6,500 MW and serve in the aggregate approximately 857,000 electricity customers
and 299,000 gas customers over a transmission and distribution network covering
some 27,000 square miles.
LG&E engages in the generation, transmission, and distribution of
electricity to approximately 364,000 customers in Louisville and 16 surrounding
counties. LG&E also purchases, distributes and sells natural gas to
approximately 299,000 customers within this service area and in limited
additional areas. For the twelve months ended December 31, 2000, LG&E had
electric operating revenues of $711.0 million (net of provision for rate
refunds), gas operating revenues of $272.5 million, electric operating income of
$131.5 million and gas operating income of $17.4 million. For the nine months
ended September 30, 2001, LG&E had electric operating revenues of $557.9 million
(net of provision for rate refunds), gas operating revenues of $216.1 million,
electric operating income of $50.8 million and a gas operating loss of $7.7
million. LG&E is subject to regulation by the Federal Energy Regulatory
Commission ("FERC") and the Kentucky Public Service Commission ("KPSC").
KU engages in the generation, transmission, and distribution of electricity
to approximately 464,000 customers in over 600 communities and adjacent suburban
and rural areas in 77 counties in central, southeastern and western Kentucky,
and to approximately 29,000 customers in five counties in southwestern Virginia.
In Virginia, KU operates under the name Old Dominion Power Company. KU also
sells electric energy at wholesale for resale to twelve Kentucky municipalities
and one Pennsylvania municipality. In addition, KU owns and operates a small
amount of electric utility property in one county in Tennessee. For the year
ended December 31, 2000, KU had electric operating revenues of $851.9 million
and operating income of $128.1 million. For the nine months ended September 30,
2001, KU had electric operating revenues of $647.5 million and operating income
of $58.4 million. KU is subject to regulation by the FERC, the KPSC and the
Virginia State Corporation Commission ("VSCC"). KU is also subject to the
jurisdiction of the Tennessee Regulatory Authority ("TRA").
-----------------------
/7/ LG&E Energy Corp., Holding Co. Act Release No. 26886 (April 30, 1998).
See also, the Powergen Order (confirming the exemption).
/8/ In File No. 70-9671, Electric Energy Inc. ("EEI") was described as a
public utility subsidiary of KU. In 92 F.E.R.C.P. 62,079 (August 1, 2000), EEI
was granted exempt wholesale generator ("EWG") status and thus is no longer a
public utility company. As a result, KU is no longer a holding company, within
the meaning of the Act.
10
LG&E and KU own 4.9% and 2.5%, respectively, of the common stock of Ohio
Valley Electric Corp. ("OVEC"), which in turn has one wholly owned subsidiary,
Indiana-Kentucky Electric Corp. ("IKEC"). OVEC and IKEC were organized in 1952
by LG&E and other public utilities to supply the entire power requirements of
the U.S. Department of Energy's gaseous diffusion plant in Pike County, Ohio.
OVEC owns a 1,075 MW generating station near Cheshire, Ohio, and IKEC owns a
1,290 MW generating station at Madison, Indiana. All of the electricity sold by
OVEC and IKEC is sold either to the U.S. Department of Energy or to the owners
of the stock of OVEC (or their subsidiaries, all of which are utility
companies). OVEC and IKEC do not sell electricity to private consumers and do
not have any securities outstanding in the hands of the public. For each of the
three years ended December 31, 1998-2000, LG&E and KU each derived less than
0.2% of net income from their share of the earnings of OVEC./9/
(ii) LG&E Energy's Non-Utility Subsidiaries
LG&E Energy is engaged through subsidiaries in a variety of non-utility
businesses, the more significant of which are described below.
Through Western Kentucky Energy Corp. and its affiliates, LG&E Energy has a
25-year lease of and operates the generating facilities of Big Rivers Electric
Corporation, and a coal-fired facility owned by the City of Henderson, Kentucky.
These plants generate a combined total of approximately 1,700 MW of electricity.
Through other subsidiaries, LG&E Energy develops, operates, maintains and
owns interests in several U.S. independent power generation facilities.
LG&E Energy, through its subsidiaries, also owns stakes in three Argentine
gas distribution companies. The company owns a controlling interest in
Distribuidora de Gas del Centro ("Centro") and minority interests in
Distribuidora de Gas del Cuyana ("Cuyana") and Gas Natural BAN, S.A. LG&E Energy
also indirectly owns an interest in a wind power generation facility in Spain.
LG&E Energy, through its subsidiaries, also provides energy services,
commercial and industrial energy consulting, home maintenance and repair
services for customers' major appliances and markets energy-related retail
products. LG&E Energy also indirectly owns CRC-Evans Pipeline International,
Inc. ("CRC-Evans"), a provider of specialized equipment and services used in the
construction and rehabilitation of gas and oil transmission pipelines. In
compliance with the Powergen Order, LG&E Energy intends to dispose of its
interests in CRC-Evans by the end of 2003.
LG&E Energy markets power through LG&E Energy Marketing ("LEM"). LEM
conducts asset-based marketing which primarily involves the marketing of power
generated by physical assets owned or controlled by LG&E Energy and its
affiliates.
-----------------------
/9/ See In the Matter of Ohio Valley Electric Corporation, Holding Co. Act
Release No. 11578, 34 S.E.C. 323 (Nov. 7, 1952).
11
c. Powergen International.
Through Powergen International Ltd ("PGI"), Powergen holds interests in
power projects in India and the Asia Pacific region. These investments are
described in Exhibit G-2.
B. Description of the Acquisition
1. Introduction
The boards of E.ON and Powergen have agreed to the terms of a recommended
pre-conditional cash offer to be made by Goldman Sachs International on behalf
of E.ON for the capital stock of Powergen. Powergen's Board welcomed the
proposed takeover and intends to recommend to Powergen's shareholders that they
accept the offer.
In connection with the offer, E.ON and Powergen have entered into a letter
agreement dated April 8, 2001 (the "Agreement") which, among other things,
provides that Powergen will not solicit competing proposals and describes the
steps that are to be taken to satisfy the pre-conditions to the offer. Under the
Agreement, certain fees may be payable by either E.ON or Powergen to the other
in certain circumstances. The Agreement is included as Exhibit B-1 to this
Application.
The Agreement will terminate (and the obligations of the parties, including
E.ON's obligation to make the offer, will lapse) if the pre-conditions are not
satisfied by July 9, 2002. In addition, there are a number of conditions
precedent to the offer, which are described below.
The Acquisition would be the first acquisition of a U.K.-based registered
holding company that has been considered under Section 9(a)(2) of the Act. The
offer will be made pursuant to U.K. law and regulations/10/ which are
significantly different from those in the U.S. Under U.K. takeover regulations,
the shares of the target company are generally required to be acquired within
109 days after a tender offer is first announced. For a description of the
regulatory issues associated with the acquisition of Powergen under U.K. law,
see Item 1.F.2.
2. The Offer
E.ON proposes to offer (pound)7.65 for each Powergen share and (pound)30.60
for each Powergen ADS (representing four Powergen shares). The offer values the
whole of Powergen's capital stock at approximately (pound)5.1 billion ($7.3
billion) (assuming the exercise in full of all outstanding options under the
Powergen Share Option Schemes, discussed below). E.ON will acquire Powergen
including its outstanding debt as at closing. On the basis of the Powergen debt
outstanding as at December 31, 2000 of (pound)4.5 billion ($6.4 billion)
adjusted for divestitures and announced by Powergen prior to the date of the
Agreement, the total value of the proposed acquisition would be (pound)9.6
billion ($13.7 billion).
Before taking into account future dividends payable to Powergen
shareholders, the offer represents a premium of 8.4% over the price of Powergen
shares as at the close of
-----------------------
/10/ The U.K. City Code on Takeovers and Mergers has no statutory basis,
but is in practice adhered to by parties to takeovers of U.K. public companies.
12
business on April 6, 2001 (the last trading day prior to the announcement of
the Acquisition); 25.8% over the closing price of Powergen shares on January 16,
2001, the last business day before the announcement of preliminary talks between
E.ON and Powergen in relation to the offer; and 35.2% over the average price of
Powergen shares over the 6 months ended January 16, 2001.
The Powergen shares will be acquired by E.ON fully paid or credited as
fully paid and free from all liens, charges, equities, encumbrances, rights of
preemption and any other rights of any nature.
The offer will extend to all existing issued Powergen shares and to any
Powergen shares which are unconditionally allotted or issued prior to the date
on which the offer closes (or such earlier date as E.ON may, subject to The City
Code on Takeovers and Mergers ("City Code"), decide) including Powergen shares
issued pursuant to the exercise of options under the Powergen Share Option
Schemes or otherwise./11/ In conjunction with the offer for the Powergen
-----------------------
/11/ Powergen currently maintains three employee benefit plans pursuant to
which its employees may acquire ordinary shares of Powergen as part of their
compensation: (i) the Powergen ShareSave Scheme, (ii) the Powergen Executive
Share Option Scheme, and (iii) the Powergen Restricted Share Plan. The Powergen
ShareSave Scheme, which is available for all eligible employees of Powergen,
provides for the issuance of share options that are normally exercisable on
completion of a three or five year "save-as-you-earn" contract. The exercise
price of options granted may be at a discount of no more than 20% of the market
price at the date of grant. The Powergen Executive Share Option Scheme, which is
available to executive directors and other senior executives and managers
selected by the Remuneration Committee of the Board of Directors, grants options
which are generally exercisable between the third and tenth anniversaries of the
date of grant. These options are granted at the market price of Powergen's
shares at the time of the grant or, in certain previous instances, at a higher
price where options have previously been exercised at a higher rate. The
Powergen Restricted Share Plan involves two types of awards: (1) Medium Term
Bonus Awards and (2) Annual Bonus Enhancement Awards. The Medium Term Bonus
Awards are available to executive directors and senior managers selected by the
Remuneration Committee. Shares of equivalent value to the annual bonus received
by the participant are placed into trust. Subject to certain performance
conditions being met, shares vest into the ownership of the participant after
three and four years, and may be called for a year after that. The Annual Bonus
Enhancement Awards are available to executive directors and managers, who may
elect to forgo some or all of their cash Annual Bonus. Shares of equivalent
value to the bonus forgone are placed into trust, and if held in trust for a
period of three years, are enhanced by Powergen on the basis of one extra share
for every four shares so held. In connection with the Acquisition, these
programs will be terminated and will be replaced by employee benefit plans
administered by E.ON.
LG&E Energy has two present arrangements pursuant to which employees or
officers may acquire or be granted certain equity or equity-related interests in
Powergen. These are: (a) the Savings Plans, and (b) the Powergen Long-Term
Incentive Plan. The Savings Plans are maintained for general employee
participation and contain various investment options, including a Powergen ADS
sub-fund. Employees may direct amounts held in their account under the Savings
Plans to go into this sub-fund, which primarily invests in Powergen ADS's.
However, employees are not direct or beneficial owners of such Powergen ADS's.
Company profit-sharing contributions to employees during 2001 were also invested
in this sub-fund. The Powergen Long-Term Incentive Plan is available to senior
management and officers of LG&E Energy as selected by the Remuneration
Committee. Under this plan, participants receive option grants to purchase
Powergen ADS's, with exercise prices set at the market prices at the time of
grant. Options generally vest in one year and are exercisable during a 10 year
period. Under this plan, certain participants also receive grants of performance
units. Subject to achievement of performance goals, these performance units are
paid out at the end of a three year performance period. The payout is made 50%
in cash and 50% in Powergen ADS's. Finally, current employment agreements for
certain senior executive officers provide for certain additional grants of
Powergen ADS's, under the Powergen Long-Term Incentive Plan. Upon satisfaction
of a designated holding period of 24 months, these officers will receive one
Powergen ADS for every four Powergen ADS acquired by the executive upon (a)
exercise of prior options still held at the end of the period or (b) if such
prior options have been exercised, resultant Powergen ADS's which are still held
at that time. Additionally, the employment agreements provide for grants of
restricted Powergen ADS's, which restrictions will lapse upon completion of
designated employment periods. In connection with the Acquisition,
change-of-control events generally occur, or will occur, thereby resulting in
the acceleration of vesting or payment of awards under the Powergen Long-Term
Incentive plan. In connection with the Acquisition, certain of these plans or
agreements may be terminated and replaced by plans or agreements administered by
E.ON.
13
shares, an offer will be made to holders of Powergen ADSs to tender the Powergen
shares underlying such ADSs into the offer.
If more than 90% of Powergen shares and Powergen ADSs are tendered or
otherwise acquired, E.ON would be able to rely on applicable U.K. law to
compulsorily acquire any remaining shares thus enabling E.ON to acquire 100% of
Powergen. If more than 50% of Powergen shares and Powergen ADS, are tendered or
otherwise acquired, it would be E.ON's option to declare the offer unconditional
even if E.ON had not acquired the 90% tender that is necessary to implement
compulsory acquisition of the dissenting minority.
When the offer becomes unconditional in all respects, Powergen will apply
to the London and New York stock exchanges for the Powergen securities to be
de-listed. It is anticipated that the cancellation of Powergen's listing on the
London Stock Exchange will take effect no earlier than 20 business days after
the offer becomes or is declared unconditional in all respects.
E.ON and Powergen have agreed that as an alternative to the pre-conditional
tender offer, E.ON, with the consent of Powergen, may elect to implement the
transaction by a Scheme of Arrangement. The Scheme of Arrangement is permitted
by U.K. law and is more comparable to a U.S. merger. The Scheme of Arrangement
is described below under Item F.2. It would be implemented on the same terms, as
applicable, as those which would apply to the offer.
3. Loan Note Alternative
For U.K. tax purposes, some shareholders of Powergen might prefer receiving
a loan note rather than cash from E.ON in return for their Powergen shares.
Under U.K. tax law, such shareholders can defer recognition of any capital gains
from the sale of their Powergen shares until they redeem the loan notes.
In the event the loan notes are used, accepting shareholders of Powergen
shares (other than U.S. and certain other overseas shareholders) will be
entitled to elect to receive loan notes to be issued by E.ON, or a subsidiary
created for purposes of the transaction, instead of some or all of the cash
consideration which would otherwise be receivable under the offer. The accepting
shareholders would receive (pound)1 nominal of loan notes for every (pound)1 of
cash consideration. If E.ON elects to make the offer through another member of
the E.ON Group, E.ON will guarantee the loan notes. The loan notes would be
unsecured and would not exceed, in aggregate principal amount issued, $7.3
billion.
The loan notes will bear interest from the date of issue to the relevant
holder of the loan notes at a rate of one-half of one percent per annum below
LIBOR for six month sterling
14
deposits payable every six months in arrears. The loan notes will be
transferable, but no application will be made for them to be listed or dealt in
on any stock exchange.
The loan notes will be redeemable at par at the holder's option, in part or
in whole, on any interest payment date on or following the date falling six
months following the date of issue of the relevant loan notes. Any loan notes
not previously repaid, redeemed or purchased will be repaid in full at par on
the first interest payment date falling on or after the fifth anniversary of the
first issue of the loan notes.
If valid elections for the loan note alternative do not require the issue
of loan notes exceeding (pound)25 million in nominal value of loan notes, no
loan notes will be issued unless E.ON determines otherwise, and holders of
Powergen shares who have elected for the loan note alternative will receive cash
in accordance with the basic terms of the offer.
The loan note alternative will be conditional upon the offer becoming or
being declared unconditional in all respects and will remain open for so long as
the tender offer remains open for acceptance. The loan notes to be issued
pursuant to the offer have not been, and will not be, registered under the
Securities Act of 1933, as amended (the 1933 Act"), and will not be offered to
U.S. investors.
E.ON requests authorization to maintain the loan notes and the associated
guarantee in connection with the Acquisition. The loan notes would be issued
solely to effect the Acquisition and would be adequately supported by the
earning power and the solid capital structure of E.ON.
4. Conditions to the Offer
The offer is subject to various conditions typical to acquisitions in
Europe and the U.S. The conditions include the receipt of acceptances
representing at least 90% (or such lesser percentage as E.ON may decide in
excess of 50%) in nominal value of the Powergen shares or, in the event the
offer is effected through a Scheme of Arrangement, rather than a tender offer,
approval at a court-ordered meeting of the Powergen shareholders by a majority
in number, representing 75% or more in value present and voting, either in
person or by proxy, of the holders of the Powergen shares. In addition, all
required government and regulatory filings must have been made and the
respective approvals received, including:
o a decision by the European Commission not to initiate proceedings
under Article 6(1)(c) of the Council Regulation (EEC) 4064/89 (as
amended), which governs market concentration and competition in the
European Economic Community, or, if such proceedings are initiated, a
finding that the concentration is compatible with the common market.
On November 26, 2001, the European Commission authorized the
Acquisition and found that the activities of the parties "do not
overlap in any of the EEA [European Economic Area] countries where
E.ON and Powergen are present, with the exception of electricity
trading in the Nordic markets and the Netherlands. But even in those
markets the increment in market shares is negligible."/12/
-----------------------
/12/ European Commission press release dated November 26, 2001.
15
o an indication by the Director General of the Office of Gas and
Electricity Markets in the U.K. that he will not seek modifications to
any of the Powergen Group's licenses under the Electricity Act 1989 or
the Gas Act 1986 as amended by the Gas Act 1995 and subsequent
legislation, including the Utilities Act 2000; that he will not seek
undertakings or assurances from any member of the E.ON Group or the
Powergen Group except, in each case, on terms acceptable to E.ON
acting reasonably; and that in connection with the acquisition by E.ON
of Powergen, he will give such consents and/or directions (if any)
and/or seek or agree to such modifications (if any) as are, in the
reasonable opinion of E.ON, necessary in connection with such
licenses. E.ON has made certain assurances agreed with the Office of
Gas and Electricity Markets in this connection.
o the passing of applicable waiting periods under the Hart-Scott-Rodino
Antitrust Improvements Act of 1976 ("HSR Act"). The waiting period
expired on November 15, 2001.
o the termination of the review and investigation of the offer under the
Exon-Florio Amendment to the Defense Production Act of 1950. This
process terminated on December 19, 2001.
o the approval of the states of Kentucky, Virginia and Tennessee under
applicable state utility law, the approval of the FERC under the
Federal Power Act and the approval of this Commission under the 1935
Act. All three states and the FERC have approved the Acquisition. See
Item 4, infra.
In addition, the offer contains standard conditions restricting Powergen
and its subsidiaries from issuing additional securities, paying dividends,
bonuses or distributions, transferring assets not in the ordinary course of
business, changing loan capital, making capital expenditures and other
transactions of a long-term, onerous or unusual nature, changing director
remuneration, repurchasing shares, changing constitutive documents, instituting
bankruptcy and similar proceedings or entering into agreements to effect any of
the above transactions, matters or events, subject to certain conditions.
The conditions also contain standard provisions regarding developments
material to the Powergen Group, taken as a whole, including adverse changes in
the assets, business, financial or trading position or profits of the Powergen
Group; legal proceedings having been threatened, announced or instituted by or
against or remaining outstanding against any member of the Powergen Group;
contingent or other liabilities having arisen; and steps having been taken which
are likely to result in the withdrawal, cancellation, termination or
modification of any license held by any member of the Powergen Group which is
necessary for the proper carrying on of its business.
The conditions to the offer are more fully set forth in Exhibit B-1 to the
Application.
C. Financing the Acquisition and the Resulting Financial and Corporate Structure
E.ON has a conservative financial policy and has financed most of its
acquisitions out of equity. E.ON proposes to finance the Acquisition with cash
on hand, the proceeds of liquidating certain readily marketable assets, funds
from E.ON's existing lines of credit or the issuance and sale of long-term or
short-term debt securities or bank lines of credit. Powergen,
16
LG&E Energy and its subsidiaries, including LG&E and KU, will not borrow or
issue any security, incur any debt or pledge any assets to finance any portion
of the purchase price paid by E.ON for Powergen shares.
The table below shows revenues, net income and total assets for E.ON and
Powergen for the year ended December 31, 2000, according to U.S. GAAP.
----------------- ---------------------- -----------------------
E.ON ($ mm)* Powergen ($ mm)*
----------------- ---------------------- -----------------------
Revenues 77,904 6,268
----------------- ---------------------- -----------------------
Net Income 3,352 643
----------------- ---------------------- -----------------------
Total Assets 99,715 17,322
----------------- ---------------------- -----------------------
*Amounts originally in Euros were converted at $0.9388 : Euro 1. Amounts in
Pounds were converted at $1.4955 : Pound 1.
The table below shows revenues, net income and total assets for E.ON and
Powergen for the nine months ended September 30, 2001, according to U.S. GAAP.
---------------- ----------------------- -----------------------
E.ON ($ mm)* Powergen ($ mm)*
---------------- ----------------------- -----------------------
Revenues 58,711 6,210
---------------- ----------------------- -----------------------
Net Income 937 223
---------------- ----------------------- -----------------------
Total Assets 96,686 15,302
---------------- ----------------------- -----------------------
* Amounts originally in Euros were converted at $0.9131 : Euro 1. Amounts in
Pounds were converted at $1.4680: Pound 1.
The table that follows shows the capitalization of each company as of December
31, 2000 and the combined group on a pro forma basis, according to U.S.
GAAP./13/
-----------------------
/13/ Unless specifically noted, the pro forma information included in the
Application does not reflect the divestiture of the TBD Subsidiaries.
17
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
E.ON ($ E.ON (%) Powergen Powergen Adjust-ments Pro Forma Pro Forma
mm) Group Group (%) Combined Combined (%)
($ mm) ($ mm)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Common stock 31,126 69.94 3,916 30.55 (3,751) 31,291 51.09
equity *
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Preferred 0 0 135 1.05 0 135 0.22
stock
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Long-term 6,879 15.46 5,965 46.52 7,669** 20,513 33.50
debt
(including
current
portion)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Short-term 6,496 14.60 2,805 21.88 0 9,301 15.19
debt
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Total 44,501 100.00 12,821 100.00 3,918 61,240 100.00
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
* Common stock equity includes common stock (i.e., amounts received equal to the
par or stated value of the common stock), additional paid-in capital and
retained earnings, and minority interests of E.ON of $4.8 billion and of
Powergen of $165 million.
** The adjustment for long-term debt is based on the assumption that the
Acquisition is fully financed with debt, although the ultimate financial
structure for the transaction has not been finalized.
The table that follows shows the capitalization of each company as of September
30, 2001 and the combined group on a pro forma basis, according to U.S. GAAP.
18
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
E.ON ($ E.ON (%) Powergen Powergen Adjust-ments Pro Forma Pro Forma
mm) Group Group (%) Combined Combined (%)
($ mm) ($ mm)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Common stock 27,000 67.68 3,688 32.92 (3,521) 27,167 49.36
equity*
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Preferred 0 0 135 1.20 0 135 0.24
stock
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Long-term 9,213 23.09 5,227 46.65 7,459** 21,899 39.79
debt
(including
current
portion)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Short-term 3,684 9.23 2,154 19.23 0 5,838 10.61
debt
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Total 39,897 100.00 11,204 100.00 3,938 55,039 100.00
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
* Common stock equity includes common stock (i.e., amounts received equal to the
par or stated value of the common stock), additional paid-in capital and
retained earnings, and minority interests of E.ON of $5.8 billion and of
Powergen of $167 million.
** The adjustment for long-term debt is based on the assumption that the
Acquisition is fully financed with debt, although the ultimate financial
structure for the transaction has not been finalized.
E.ON is financially sound and as shown above, its capital structure on a
pro forma basis as of December 31, 2000 would be comprised of 51.09% equity and
48.69% debt. E.ON's fundamental financial strength is also reflected in its very
favorable credit ratings.
E.ON's long-term debt rating of Aa2 and short-term rating of Prime-1 have
been confirmed by Moody's Investors Service. The outlook for the rating has been
changed from negative to stable after announcement of the Acquisition. Standard
& Poor's put E.ON's long-term senior debt rating of AA on credit watch negative
after the announcement of the Acquisition and confirmed the short-term debt
rating of A-1+./14/
Moody's has placed the Baa1/Prime-2 issuer ratings of Powergen on review
for possible upgrade reflecting the anticipated support it will receive from
becoming a core part of the E.ON Group. Standard & Poor's has given Powergen a
senior debt rating of BBB+, a corporate credit rating of BBB and a short-term
issuer rating of A-2 and has placed them on credit watch positive pending the
Acquisition.
-----------------------
/14/ Investment grade long-term debt is denoted by the Standard & Poor's
ratings of AAA, AA, A and BBB. The ratings may be modified by a plus (+) or
minus (-) to show relative standing within the rating categories. Moody's
ratings of Aaa, Aa, A and Baa denote investment grade long-term debt. Moody's
applies numerical clarifiers (1, 2 and 3) to denote relative ranking within a
generic rating category. Standard & Poor's short-term debt ratings range from
A-1 for the highest quality obligations to D for the lowest. Categories A-1 to
A-3 are investment grade. The A-1 rating may also be modified by a plus sign to
distinguish the strongest credits in that category. Moody's short-term issuer
ratings are Prime-1, Prime-2 and Prime-3, all of which are investment grade.
Fitch IBCA's ratings of AAA - BBB are denoted investment grade categories. A
plus (+) or minus (-) may be appended to a rating to denote relative status
within major rating categories.
19
Each of LG&E Energy and LG&E Capital Corp. has a corporate credit rating of
BBB+ from Standard & Poor's. In addition, LG&E Energy has an issuer rating from
Moody's of A3. Moody's has confirmed the ratings of LG&E and KU at their present
levels of A2. All Moody's and S&P ratings for LG&E Energy, LG&E, KU and LG&E
Capital Corp. are on credit watch for upgrade as a result of the Acquisition
announcement. Fitch IBCA has given LG&E Energy an implied senior unsecured debt
rating of BBB+ and has given the senior unsecured debt of LG&E Capital Corp. a
rating of BBB+ and the senior secured debt of LG&E and KU ratings of A+. Fitch
IBCA has placed LG&E Energy and LG&E Capital Corp. on credit watch positive, and
LG&E and KU on credit watch evolving, all following the Acquisition
announcement.
After the consummation of the Acquisition, E.ON expects to make LG&E Energy
an indirect subsidiary of E.ON through two intermediate holding companies that
are wholly owned directly or indirectly and fully controlled by E.ON. LG&E and
KU will remain first-tier subsidiaries of LG&E Energy and will keep their names
and headquarters locations. This corporate structure will take into account
international tax regulations and clearly separate the U.S. utility operations
of LG&E and KU from the other businesses of E.ON and Powergen. Powergen will
become an indirect subsidiary of E.ON through two intermediate wholly-owned
holding companies. Powergen will continue to play a management role in the
operations of LG&E Energy. Yet, as explained more fully in this Application,
Powergen will cease to own any public utility companies. Powergen will remain a
registered holding company under the Act. E.ON will register as a holding
company under the Act.
The financing arrangements and entities below Powergen that are used to
finance LG&E Energy provide certain tax-related efficiencies and are expected to
remain in place following the consummation of the Acquisition.
Charts depicting the corporate structure of Powergen, LG&E Energy and E.ON
after the transaction are included in Exhibit E-1 to this Application.
D. E.ON's Shareholders
Institutional and retail investors in Germany hold approximately 58% of
E.ON's shares. Shareholders in the rest of Europe hold approximately 30% and
those in the U.S. hold approximately 11% of E.ON's equity.
E. Management of the Combined System
E.ON attaches great importance to the skills and experience of the existing
management and employees of Powergen. Upon completion of the Acquisition,
Powergen will operate as a separate subsidiary of E.ON. Powergen's management
team will be responsible for the development and operation of E.ON's
Anglo-American energy business under consideration of E.ON's overall group
strategy. The board of Powergen will be chaired by Ulrich Hartmann, Chairman of
the board of management and CEO of E.ON. Edmund A. Wallis, Powergen's current
chairman will be Deputy Chairman and Mr. Wallis will also join the E.ON Energie
Supervisory Board. Nick Baldwin, the current CEO of Powergen, will remain
Powergen's CEO and will join the E.ON Energie Management Board. Peter Hickson,
Powergen's CFO, Victor Staffieri, LG&E Energy's CEO, and a representative of
Powergen's U.K. business will serve as
20
directors on Powergen's board. They will be joined by Dr. Hans Michael Gaul, a
member of E.ON's Management Board, by Dr. Hans-Dieter Harig, the CEO of E.ON
Energie, and by an additional member of the E.ON Energie Management Board. Two
independent directors based in the U.K. will complete the Powergen board of
directors. The employment rights, including pension rights, of the Powergen
Group employees will be fully safeguarded in accordance with applicable law.
F. Regulatory Environment
1. Generally
The German and European utility regulations that affect the E.ON Group
apply only to its German and European operating companies and not to the parent
holding company which will register under the Act. Therefore, there is no
conflict between the regulatory scheme under the 1935 Act and German or European
regulation. Similarly, U.K. utility regulation affecting Powergen (and E.ON
following its acquisition of Powergen) would apply only to the U.K. operating
companies and not directly to the parent registered holding company. Therefore,
there also will be no conflict between the regulatory scheme under the 1935 Act
and U.K. regulation. In addition to the U.S. federal and state approvals
described in Item 4 herein, the transaction has been reviewed by the European
Commission and by the U.K. Office of Gas and Electricity Markets.
2. The Acquisition Under U.K. Law
Acquisitions of U.K. public companies are normally effected by way of a
tender offer. There is no statutory merger concept in U.K. law.
Tender offers for U.K. public companies are regulated by the City Code that
is administered by the Panel on Takeovers and Mergers (the "Panel"). The City
Code requires that:
o A tender offer should be made, by dispatch of the relevant documents
to shareholders, within 28 days after the public announcement that it
will be made;
o the deadline for tendering sufficient shares to satisfy the acceptance
condition of the tender offer is the 60th day after dispatch of the
tender documentation to shareholders; and
o all conditions of a tender offer, including any conditions relating to
regulatory clearances, should be satisfied within 21 days after
sufficient shares are tendered to satisfy the acceptance condition of
the tender offer (which is normally between 50% and 90% of the shares
of the target company).
Consequently, the longest period for receipt of regulatory clearances
normally permitted by the Takeover Code is 109 days (28 days from announcement
of the offer to dispatch of the documents; plus 60 days to the acceptance
deadline; plus 21 days for receipt of regulatory clearances), and the period may
be shorter if sufficient shares are tendered before the 60th day of the tender
offer period.
21
Where this timetable cannot be met, the Panel may permit the offeror to
make:
o A "pre-conditional offer announcement", under which the offeror will
commence its tender offer only if and when specified conditions, such
as receipt of regulatory clearances are met; or
o A "possible offer announcement", under which the offeror may or may
not commence a tender offer at some time in the future.
In this case, the obtaining of the necessary regulatory approvals to
consummate the Acquisition, including the approval of the SEC under Section
9(a)(2) of the 1935 Act, could not be accomplished within the Panel's normal
takeover offer timetable set forth above. The Panel therefore agreed to the
making of a pre-conditional offer announcement by E.ON, under which E.ON will
commence its tender offer for Powergen only if and when the relevant U.S.,
European Community and U.K. regulatory approvals have been obtained.
E.ON has, in its announcement of the Acquisition, reserved the right to
elect, with the agreement of the Board of Powergen, to acquire the Powergen
shares under an alternative U.K. legal procedure known as a "Scheme of
Arrangement." This would involve the acquisition of all the outstanding Powergen
shares by virtue of an order of the English court under the Companies Act 1985
of the United Kingdom (excluding Northern Ireland), given following approval at
a Powergen shareholders' meeting by a majority in number, representing 75% or
more in value present and voting, either in person or by proxy, of the Powergen
shares. The timetable for a Scheme of Arrangement is somewhat different from the
timetable for a tender offer. However, similar issues arise in relation to the
timing of the approval of the SEC since the court will not grant its order if
there are significant conditions outstanding and it may not sanction the Scheme
of Arrangement if there has been a substantial passage of time between the date
of the shareholders' meeting and the date of the court hearing.
E.ON expects, therefore, that some steps in the Acquisition process, would
not occur until after an order by the SEC authorizing this Application has been
issued. There would be no guarantee, therefore, that the acquisition of Powergen
by E.ON would be consummated following the SEC's approval since the shareholders
of Powergen may determine that they will not accept the terms offered by E.ON.
However, it is extremely rare for shareholders of a U.K. public company not to
accept an offer that has been recommended by their board.
3. Restructuring Activity in the U.S.
As discussed in Powergen's application to acquire LG&E Energy, both LG&E
and KU implemented an earnings sharing mechanism ("ESM") for electric rates in
2000. The ESM is intended to transition the utilities to a more competitive
structure. The ESM authorizes a threshold return on equity of 11.5% with a
"deadband" of 100 basis points above and below. If earnings fall within the
deadband range, customers are not charged an additional rate and do not receive
any rate credits. Over and under earnings outside the band are shared between
shareholders and ratepayers of the affected company on a 60/40 basis. The ESM
provides LG&E and KU with incentives to improve performance and, at the same
time, maintains the KPSC's regulatory authority and a fair regulatory
environment.
22
Restructuring legislation has not been passed in Kentucky. The Kentucky
legislature created a special task force on electricity restructuring in March
1998, whose mission is to assess the desirability of deregulating and
restructuring electric service delivery. The task force submitted its final
report in September, 2000 and recommended that no action be taken during the
2000 legislative session of the General Assembly to restructure Kentucky's
electric utility industry. The task force also recommended that the General
Assembly continue to study the issue of retail competition, monitor actions
taken in other states to restructure and to address other issues such as
reliability of service, transmission, and consumer education.
The Virginia legislature enacted an electric restructuring implementation
law in March 1999. The VSCC and a legislative task force have begun to implement
the restructured framework and to resolve issues not addressed by the law.
Electric retail access under the new law is to commence January 2002, but the
law provides the VSCC with the option to accelerate or delay implementation so
long as it is in place by 2005. The law caps retail electric rates from 2001
through 2007, but does not require rate reductions. The law allows utilities to
recover just and reasonable stranded costs, if any, through the capped rates or,
in the case of customers who choose alternative generation suppliers, through a
usage-based surcharge. There will be no explicit determination of stranded costs
by the VSCC. The law further provides for all incumbent utilities to join a
regional transmission entity ("RTE") and to transfer operational control of
their transmission assets to the RTE. The RTE may be an independent system
operator (e.g., the Midwest Independent System Operator, of which LG&E and KU
are members). The VSCC has established a proceeding to investigate issues
relating to the establishment of an RTE. The restructuring law does not require
divestiture of generation assets, but utilities must functionally separate
generation from transmission and distribution by 2002. The effect of this
restructuring law on KU should be minimal, as its operations in Virginia are
relatively small in nature.
G. Service Company
LG&E Energy Services, Inc. ("LG&E Services"), the service company under
Section 13 of the Act for the Powergen Group, will become the service company
under Section 13 of the Act for the E.ON Group upon completion of the
Acquisition. LG&E Services will remain a first-tier, wholly owned subsidiary of
LG&E Energy. The services to be provided by LG&E Services and other affiliated
transactions are described in Item 3 below.
Item 2. Fees, Commissions and Expenses
The total fees, commissions, and expenses expected to be incurred in
connection with the Acquisition are estimated to be approximately $ *
--------
Fees for investment bankers, lawyers, brokers, accountants, consultants, and
other service providers are included within the Acquisition-related fees
disclosed above.
$ Millions
Accountants' fees *
----------
Legal fees and expenses *
----------
23
Shareholder communication expenses,
and filing fees *
----------
Investment bankers' fees and expenses *
----------
Consulting fees *
----------
Total *
----------
* To be filed by amendment.
Item 3. Applicable Statutory Provisions
The following sections of the Act and the Commission's rules thereunder are
or may be directly or indirectly applicable to the proposed transaction:
Sections of the Act Transactions to which section or rule is or may be
applicable:
2(a)(8) Exemption of RAG
4, 5 Registration of E.ON as a holding company,
following the consummation of the Acquisition.
Deregistration of the intermediate holding
companies.
6(a), 7 Issuances and sales of securities by E.ON and
companies in the E.ON System.
9(a)(2), 10 Acquisition by E.ON of the common stock of LG&E
Energy, LG&E, KU, OVEC and IKEC.
13 Exemption of E.ON and its non-U.S. subsidiaries to
allow the provision of goods and services to
non-U.S. associate companies on an other than cost
basis.
14, 15 Reporting, books and records
32, 33 Investments in E.ON's EWG and FUCO subsidiary
companies.
24
Rules
42, 45(a), 52 Financing transactions, generally.
53, 54 Investment in FUCOs and EWGs.
80-91 Affiliate transactions, generally.
93, 94 Accounts, records and annual reports by subsidiary
service company.
A. Legal Analysis of the Acquisition
Pursuant to Section 9(a) (2) of the Act, it is unlawful, without approval
of the Commission under Section 10 of the Act, "for any person . . . to acquire,
directly or indirectly, any securities of any public utility company, if such
person is an affiliate . . . of such company and of any other public utility or
holding company, or will by virtue of such acquisition become such an
affiliate." Under the definition set forth in Section 2(a)(11)(A) of the Act, an
"affiliate" of a specified company means "any person that directly or indirectly
owns, controls, or holds with power to vote, 5 per centum or more of the
outstanding voting securities of such specified company."
Because E.ON will indirectly acquire more than five percent of the voting
securities of LG&E, KU, OVEC and IKEC by virtue of the acquisition of Powergen,
E.ON must demonstrate that the Acquisition meets the criteria of Section 10 of
the Act and must obtain the Commission's authorization prior to completing the
Acquisition.
Section 10 of the Act incorporates the requirements and policies of
Sections 8 and 11 of the Act into the authorization process. Applicants address
the issues raised by the Acquisition under Sections 8, 9, 10 and 11 below and
demonstrate that the Acquisition and the related transactions for which
authority is sought herein satisfy the requirements, standards and policies of
the Act. For purposes of clarity and in order to avoid unnecessary repetition,
the discussion is organized by statutory issue, rather than tracking the statute
directly.
The Applicants note that this Application is based on substantially the
same pertinent facts under the Act and seeks substantially the same
authorizations under the Act previously granted by the Commission in The
National Grid Group plc, Holding Co. Act Release No. 27154 (March 15, 2000) (the
"National Grid Order") and, subsequent thereto, in the Powergen Order.
Based on the precedent of the Powergen Order and the National Grid Order
and as set forth more fully below, the Acquisition complies with all of the
applicable provisions of Section 10 of the Act and should be approved by the
Commission because:
- the Acquisition does not tend towards interlocking relations or the
concentration of control of public utility companies to the detriment of the
public interest or the interest of investors or consumers;
25
- the consideration to be paid by E.ON in connection with the Acquisition
is reasonable and fair in relation to the utility assets underlying the Powergen
securities to be acquired;
- the Acquisition will not result in an unduly complicated capital or
corporate structure for the E.ON system;
- the Acquisition will comply with all applicable state laws, including
state laws applicable to combination electric and gas utilities;
- the Acquisition tends towards the economical and efficient development of
an integrated public utility system and the additional gas system may be
retained; and
- the Acquisition is consistent with Sections 8 and 11 of the Act.
B. Undue Concentration
The Acquisition Does Not Tend Towards Interlocking Relations or the
Concentration of Control of Public Utility Companies to the Detriment of
the Public Interest or the Interest of Investors or Consumers.
Pursuant to Section 10(b)(1) of the Act the Commission shall approve an
acquisition unless it finds that "such acquisition will tend towards
interlocking relations or the concentration of control of public utility
companies, of a kind or to an extent detrimental to the public interest or the
interest of investors or consumers."
By its nature, any merger results in new links between theretofore
unrelated companies. Northeast Utilities, Holding Co. Act Release No. 25221
(Dec. 21, 1990), as modified, Holding Co. Act Release No. 25273 (March 15,
1991), aff'd sub nom. City of Holyoke v. SEC, 972 F.2d 358 (D.C. Cir. 1992)
("interlocking relationships are necessary to integrate [the two merging
entities]"). The links that will be established as a result of the Acquisition
are not the types of interlocking relationships targeted by Section 10(b)(1),
which was primarily aimed at preventing business combinations unrelated to
improved operations. Indeed, the links to be established as a result of the
Acquisition are intended to enhance the operations of Powergen and ultimately of
the LG&E Energy Group. Upon consummation of the Acquisition, Powergen's
management team will remain responsible for the development and operation of
LG&E's and KU's business and for the development of E.ON's Anglo-American energy
and utility business within the context of E.ON's overall group-strategy./15/
Powergen's board will be composed of U.K., U.S. and German citizens reflecting
the interests of Powergen, LG&E Energy and E.ON and two members of the current
board of Powergen will become members of E.ON Energie's boards.
More specifically, the board of Powergen will be chaired by Ulrich
Hartmann, Chairman of the board of management and Chief Executive Officer of
E.ON. Edmund A.
-----------------------
/15/ See, Exhibit E-2 for a chart depicting the management and equity
relationship between Powergen, E.ON and LG&E Energy.
26
Wallis, Powergen's current chairman will be Deputy Chairman and Mr. Wallis will
also join the E.ON Energie Supervisory Board. Nick Baldwin, the current Chief
Executive Officer of Powergen, will remain Powergen's Chief Executive Officer
and will join the E.ON Energie Management Board. Peter Hickson, Powergen's
existing Finance Director, Victor Staffieri, LG&E Energy's Chief Executive
Officer, and a representative of Powergen's U.K. business will serve as
directors on Powergen's board. They will be joined by Dr. Hans Michael Gaul, a
member of E.ON's Management Board, by Dr. Hans-Dieter Harig, the CEO of E.ON
Energie, and by an additional member of the E.ON Energie Management Board. Two
independent directors based in the U.K. will complete the Powergen board of
directors. The interlocking board memberships are necessary to integrate
Powergen and LG&E Energy fully into the E.ON system and the representation of
LG&E Energy on Powergen's board will continue to assure a close relationship
between E.ON and the Anglo-American businesses. Forging such relations promotes
the sharing of best practices, investment opportunity identification, strategic
and operational coordination and is generally beneficial to the protected
interests under the Act. These types of interlocking relationships will
therefore be in the public interest and the interests of investors and consumers
and are not prohibited by the Act.
The Commission has administered the Act to avoid "an excess of
concentration and bigness" while preserving the "opportunities for economies of
scale, the elimination of duplicate facilities and activities, the sharing of
production capacity and reserves and generally more efficient operations"
afforded by the coordination of local utilities into an integrated system.
American Electric Power Co., 46 S.E.C. 1299, 1309 (1978). In applying Section
10(b)(1) to utility acquisitions, the Commission must determine whether the
acquisition will create "the type of structures and combinations at which the
Act was specifically directed." Vermont Yankee Nuclear Corp., 43 S.E.C. 693, 700
(1968). As discussed below, the Acquisition will not create a "huge, complex,
and irrational system," but rather will replace one registered holding company
with another without increasing or expanding the concentration of control over
U.S. utility operations. The increased size of the combined enterprise will
actually create opportunities for economies of scale and access to resources
that would not be available without a combination with E.ON. See WPL Holdings,
Inc., Holding Co. Act Release No. 24590 (Feb. 26, 1988), aff'd in part and rev'd
in part sub nom., Wisconsin's Environmental Decade, Inc. v. SEC, 882 F.2d 523
(D.C. Cir. 1989), reaffirmed, Holding Co. Act Release No. 25377 (Sept. 18,
1991).
The concern with concentration and bigness is in essence a concern that
overly large entities will restrict competition in the marketplace to the
detriment of consumers and the public interest. In Northeast Utilities, Holding
Co. Act Release No. 25221 (Dec. 21, 1990), the Commission stated that "antitrust
ramifications of an acquisition must be considered in light of the fact that
public utilities are regulated monopolies and that federal and state
administrative agencies regulate the rates charged consumers." The effect of the
Acquisition on competition will be fully explored by several regulators. E.ON
has filed Notification and Report Forms with the Department of Justice ("DOJ")
and the Federal Trade Commission ("FTC") pursuant to the Hart-Scott-Rodino
Antitrust Improvements Act ("HSR Act") and the waiting period expired on
November 15, 2001.
In addition, the competitive impact of the Acquisition has been considered
by the FERC pursuant to Section 203 of the Federal Power Act in its review of
the Acquisition. As explained more fully in the FERC application, a copy of
which is attached hereto as Exhibit C-5, the Acquisition will not have an
adverse effect on competition. Powergen and its subsidiary
27
companies, on the one hand, and E.ON and its related companies, on the other, do
not have utility facilities or sell electricity in any common geographic markets
in the U.S. E.ON owns no generation or transmission facilities in the U.S.
E.ON does, however, have a direct and an indirect ownership interest in
STEAG AG ("STEAG"), which has started a business of financing and constructing
independent power plants in the U.S. E.ON's interest in STEAG, however, is
non-controlling./16/ No STEAG-owned power plants are under construction or
operating in the U.S. to date, and STEAG plans to sell its interests in the
plants before they become operational.
As the FERC application explains, the plants that STEAG has under
development or consideration are either in geographic markets different from
those in which LG&E Energy and its subsidiaries operate or the extent of any
overlapping operation would be de minimis. Consequently, horizontal market
concentration is not increased by the Acquisition.
With respect to vertical market power issues (i.e., control over the inputs
to production or the means to reach the market), E.ON has an ownership interest
in RAG, which owns indirectly, through RAG Coal International AG, certain U.S.
coal mines that supply various U.S. electric generating plants. E.ON, however,
owns only 37.1% of RAG's stock (39.2% if indirect interests are included), and
cannot control its management decisions. As the FERC application demonstrates,
even assuming that E.ON controlled RAG's U.S. coal operations the Acquisition
would have no adverse vertical competitive effects.
The FERC order authorizing the Acquisition concludes that, consistent with
the standards of Section 203(a) of the Federal Power Act, there would be no
adverse effect on competition, rates or regulation. See Exhibit C-6, hereto.
For these reasons, the Acquisition will not "tend toward interlocking
relations or the concentration of control" of public utility companies, of a
kind or to the extent detrimental to the public interest or the interests of
investors or customers within the meaning of Section 10(b)(1). In addition, FERC
has concluded that the Acquisition does not raise competitive concerns. The
Commission has found, and the courts have agreed, that it may appropriately rely
upon the FERC with respect to such findings. See City of Holyoke v. SEC, supra
at 363-364, quoting Wisconsin's Environmental Decade, Inc. v. SEC, supra at 527.
C. Reasonableness of Consideration
The Consideration to be Paid by E.ON in Connection with the Acquisition is
Reasonable and Fair in Relation to the Utility Assets Underlying the
Powergen Securities to be Acquired.
Section 10(b)(2) of the Act requires the Commission to determine whether
the consideration to be given by E.ON to the holders of Powergen common stock in
connection with
-----------------------
/16/ E.ON holds indirect ownership interests in STEAG, a company
headquartered in Essen, Germany that has been in the business of constructing,
owning, and operating power plants since 1937. E.ON has a 13% indirect interest
in STEAG through its 50.3% interest in Gesellschaft fur Energiebeteiligung mbH,
which owns 25.89% of STEAG. E.ON also has a 28.3% indirect interest in STEAG
through its 39.2% interest in RAG, which owns a 72.2% interest in STEAG.
28
the Acquisition is reasonable and whether it bears a fair relation to investment
in and earning capacity of the utility assets underlying the securities being
acquired./17/ Market prices at which securities are traded have always been
strong indicators as to values.
The price of (pound)7.65 per share which E.ON will offer to Powergen's
shareholders is a fair price. The price was reached through arm's-length
negotiations with Powergen and it includes a premium of 8.4 % relative to the
closing price of Powergen's common shares on April 6, 2001 (the last day of
trading before announcement of the Acquisition), a premium of 25.8 % relative to
the share price on January 16, 2001 (the last day of trading before the talks
with Powergen were confirmed), and a premium of 35.2 % relative to the average
price of the last 6 months preceding January 16, 2001.
The purchase price for 100% of Powergen's equity capital (assuming the
exercise in full of all outstanding options under the Powergen Share Option
Schemes) amounts to a total of Euro 8.2 billion ((pound)5.1 billion, $7.3
billion). The enterprise value amounts to Euro 15.3 billion ((pound)9.6 billion,
$13.7 billion) including debt (on the basis of Powergen debt outstanding as at
December 31, 2000, adjusted for divestitures announced prior to April 9, 2001).
This valuation is generally in line with current trading multiples of European
utilities.
As shown in the table below, the quarterly price data, in pence per share,
high and low, for Powergen common stock provide support for the consideration of
(pound)7.65 for each share of Powergen common stock.
------------------------ --------------- ---------------- --------------------
all amounts in pence High Low Dividends
------------------------ --------------- ---------------- --------------------
------------------------ --------------- ---------------- --------------------
1998
First Quarter 893 760 10.00 (interim)
Second Quarter 858.5 755 14.10 (final)
Third Quarter 892 731
Fourth Quarter 887 778.5
------------------------ --------------- ---------------- --------------------
------------------------ --------------- ---------------- --------------------
1999
First Quarter 905 669.5 10.80 (interim)
Second Quarter 769.5 675 24.00 (second interim)
Third Quarter 699.5 570
Fourth Quarter 641.5 440.75
------------------------ --------------- ---------------- --------------------
------------------------ --------------- ---------------- --------------------
2000
First Quarter 496 328.25 10.80 (first interim)
Second Quarter 565 365 25.40 (second interim)
Third Quarter 615 489.5
Fourth Quarter 635 493
------------------------ --------------- ---------------- --------------------
Powergen paid an interim and a second interim or final dividend during each
fiscal year and not necessarily at the end of a quarter. In 2001, dividend
payments have become quarterly.
-----------------------
/17/ Under Section 10(b)(2) of the Act the Commission shall approve an
acquisition unless it finds that "in the case of the acquisition of securities
or utility assets, the consideration, including all fees, commissions, and other
remuneration, to whomsoever paid, to be given, directly or indirectly, in
connection with such acquisition is not reasonable or does not bear a fair
relation to the sums invested in or the earning capacity of the utility assets
to be acquired or the utility assets underlying the securities to be acquired."
29
As indicated above, the consideration is the product of extensive and
vigorous arm's-length negotiations between E.ON and Powergen./18/ These
negotiations were preceded by appropriate due diligence, analysis and evaluation
of the assets, liabilities and business prospects of the respective companies.
Both parties received advice from internationally-recognized investment bankers.
E.ON was advised in the negotiations by Goldman Sachs International and NM
Rothschild & Sons Limited. Under the City Code, the directors of Powergen are
required to obtain competent independent advice on any offer and the substance
of such advice must be made known to the shareholders of Powergen; the directors
of Powergen were advised in the negotiations by Dresdner Kleinwort Wasserstein
and have received advice from Dresdner Kleinwort Wasserstein that the terms of
the offer are fair and reasonable. The assistance of independent consultants in
setting consideration has been recognized by the Commission as evidence that the
requirements of Section 10(b)(2) have been met. Southern Co., supra; SV
Ventures, Inc. Holding Co. Act Release No. 24579A (February 26, 1988).
As described in Item 1.F.2 above, E.ON will commence its tender offer for
Powergen only if and when the other relevant U.S., European Community and U.K.
regulatory approvals have been obtained. The Commission is charged generally
with the protection of the national public interest, the interest of investors
in the securities of holding companies and the interest of consumers./19/ In
particular, investor interests in connection with the acquisition of public
utility companies are protected by Section 10(b)(2) of the Act which requires
the consideration paid in connection with an acquisition to be reasonable and
fair. As demonstrated above, the consideration to be paid by E.ON for the
Powergen shares includes a significant premium, will be paid in cash or in loan
notes, has been found fair and reasonable by financial advisors and,
accordingly, the offer has been recommended by the Powergen board. The
Commission may make its findings under Section 10 and issue an order authorizing
the Acquisition before Powergen's shareholders have indicated whether or not
they will accept E.ON's tender offer./20/ Applicants will provide prominent
disclosure in the relevant solicitation material distributed to Powergen
shareholders that the Commission's authorization of the Acquisition is not an
endorsement of the Acquisition or a recommendation by the Commission that
Powergen's shareholders should accept the tender offer, or approve the Scheme of
Arrangement if that is the method used to implement the transaction./21/
An evaluation of the reasonableness of the consideration under the Act also
involves an inquiry as to the reasonableness of the fees paid by the acquiror in
connection with the acquisition. As set forth in Item 2 of the Application,
Applicants together expect to incur a combined total of approximately $__*___
million in fees, commissions and expenses in
-----------------------
/18/ As recognized by the Commission in Ohio Power Co., Holding Co. Act
Release No. 16753 (June 8, 1970), prices arrived through arm's length
negotiations are particularly persuasive evidence that Section 10(b)(2) is
satisfied. See also Southern Company, Holding Co. Act Release No. 24579 (Feb.
12, 1998).
/19/ Section 1(b) of the Act.
/20/ In contrast, Section 10(f) of the Act explicitly directs the
Commission not to approve any acquisition application made under Section 10
unless state laws have been complied with, except where such compliance would be
detrimental to carrying out the provisions of Section 11.
/21/ See 17 CFR 229.501(b)(7) (requiring the outside cover page of a
prospectus to include a legend indicating that neither the Securities and
Exchange Commission nor any state securities commission has approved or
disapproved of the securities offered by the prospectus or passed on the
accuracy or adequacy of the disclosures in the prospectus and that any contrary
representation is a criminal offense).
30
connection with the Acquisition. This amount represents __*___% (based on a
purchase price of $7.3 billion) of the value of the consideration to be paid by
E.ON to Powergen's shareholders. (* To be filed by amendment.)
Applicants expect this percentage to be consistent with percentages
previously approved by the Commission. See, e.g., Powergen plc, Holding Co. Act
Release No. 27291 (Dec. 6, 2000) (fees and expenses of approximately $50.4
million represented approximately 1.6% of equity value of LG&E Energy common
stock on Feb. 25, 2000, the last day of trading before the announcement of the
merger); NiSource, Inc., Holding Co. Act Release No. 27263 (Oct. 30, 2000) (fees
and expenses of approximately $50 million represented approximately 0.83% of the
value of the consideration to be paid for Columbia Energy Group); Exelon
Corporation, Holding Co. Act Release No. 27256 (Oct. 19, 2000) (fees and
expenses of approximately $87.4 million represented approximately 0.49% of the
value of Unicom and PECO common stock on Sep. 21, 1999); Xcel Energy, Holding
Co. Act Release No. 27212 (Aug. 16, 2000) (fees and expenses of approximately
$52 million represented approximately 1.4% of the value of the consideration to
be paid for New Century Energies, Inc.); American Electric Power Co., Inc.,
Holding Co. Act Release No. 27186 (June 14, 2000) (fees and expenses of
approximately $73 million represented approximately 1.1% of the value of the
consideration to be paid for Central and South West Corporation); Entergy Corp.,
Holding Co. Act Release No. 25952 (Dec. 17, 1993) (fees and expenses represented
approximately 1.7% of the value of the consideration paid to the shareholders of
Gulf States Utilities); Northeast Utilities, Holding Co. Act Release No. 25548
(June 3, 1992) (fees and expenses of approximately 2% of the value of the assets
to be acquired).
Based on the above analysis and in light of the size and complexity of the
Acquisition relative to other transactions, the overall fees, commissions and
expenses incurred and to be incurred in connection with the Acquisition are
reasonable, fair and consistent with SEC precedent. Furthermore, the aggregate
of the fees, expenses and consideration for the Acquisition bears a fair
relation to the sums invested in, and the earning capacity of, the utility and
other assets of Powergen.
D. Capital Structure and Corporate Structure Complication
The Acquisition Does Not Cause the E.ON System to Have an Unduly
Complicated Capital Structure or Corporate Structure.
Sections 10(b)(3), 11(a) and 11(b)(2) of the Act impose various
requirements as to the corporate and capital structure of the E.ON system
subsequent to the Acquisition./22/
-----------------------
/22/ Under Section 10(b)(3) of the Act the Commission shall approve an
acquisition unless it finds that "such acquisition will unduly complicate the
capital structure of the holding-company system of the applicant or will be
detrimental to the public interest or the interest of investors or consumers or
the proper functioning of such holding company system." Section 11(a) of the Act
requires the Commission to examine the corporate structure of a registered
holding company system "to determine the extent to which the corporate structure
of such holding-company system and the companies therein may be simplified,
unnecessary complexities therein eliminated, voting power fairly and equitably
distributed among the holders of securities thereof, and the properties and
business thereof confined to those necessary or appropriate to the operations of
an integrated public-utility system." Section 11(b)(2) requires the Commission
to guard against complicated corporate structures and the unfair distribution of
voting power among holding company security holders and, in that connection, to
take action as necessary to cause a holding company to "cease to be a holding
company with respect to each of its subsidiary companies which itself has a
subsidiary company which is a holding company." This is commonly referred to as
the "great grandfather clause."
31
E.ON's Corporate Structure
E.ON's corporate structure after the Acquisition will not be unduly
complicated and will not be detrimental to the public interest or the interest
of investors or consumers or the proper functioning of the resulting system.
Exhibit E-1 to the Application illustrates E.ON's post-Acquisition
organizational structure. Cross border transactions require financial and
corporate structures designed to preserve the economic benefits of a transaction
under numerous, often changing tax laws. Because Powergen already has a tax
efficient financing structure in place with respect to its investment in LG&E
Energy, E.ON plans to structure its acquisition of Powergen in a manner that
preserves the benefits of this structure.
As a result of Powergen's acquisition of LG&E Energy, Powergen and the
Powergen Intermediate Holding Companies registered as public utility holding
companies under Section 5 of the Act. The Powergen Intermediate Holding
Companies consist of Powergen US Holdings Limited and Powergen US Investments,
corporations organized under the laws of England and Wales, Powergen Luxembourg
sarl, Powergen Luxembourg Holdings sarl and Powergen Luxembourg Investments
sarl, corporations organized under the laws of Luxembourg, and Powergen US
Investments Corp., a Delaware corporation ("PUSIC"). PUSIC currently holds all
of the outstanding voting securities of LG&E Energy.
To effect the Acquisition, E.ON has established a wholly-owned subsidiary
E.ON UK Verwaltungs GmbH ("E.ON UK"), a corporation organized under German law.
E.ON UK owns all the outstanding shares of an acquisition vehicle, E.ON UK plc,
a corporation organized under the laws of England and Wales, that will acquire
all of the outstanding Powergen shares. E.ON UK plc will survive the
Acquisition. Because Powergen will remain a registered holding company after the
Acquisition, E.ON UK and E.ON UK plc will also register under the Act.
Powergen will continue to hold an indirect voting equity interest in LG&E
Energy through the Powergen Intermediate Holding Companies for a short period of
time not to exceed six months after the Acquisition. This period will allow time
for E.ON to accomplish a reorganization whereby the ownership of PUSIC, the
immediate parent of LG&E Energy would be transferred to E.ON US Verwaltungs GmbH
("E.ON US"), a wholly-owned E.ON subsidiary company. Applicants request
authorization to effect the reorganization.
After the Acquisition and the reorganization, E.ON will hold all the
outstanding voting stock of LG&E Energy through PUSIC and E.ON U.S. (the
"Intermediate Companies"). PUSIC will remain a registered holding company under
the Act and E.ON and E.ON US will register as such. The Powergen Intermediate
Holding Companies will cease to own voting securities directly or indirectly in
PUSIC or LG&E Energy, although certain arrangements to finance LG&E Energy will
remain in place./23/ Because the Powergen Intermediate Holding
-----------------------
/23/ Powergen US Holdings Ltd. and Powergen US Funding LLC, its financing
subsidiary, at September 30, 2001 had debt outstanding to unaffiliated third
parties in the principal amount of approximately $2.6 billion, consisting of
approximately $1.0 billion of commercial paper outstanding of Powergen US
Funding LLC and $1.6 billion of debt outstanding under the bank facility of
Powergen US Holdings Ltd. See Exhibit E-1, Chart 3.
Powergen US Funding LLC is a financing subsidiary of Powergen US Holdings
Ltd. The commercial paper and Notes issued by Powergen US Funding LLC has been
used to refinance a portion of the bank debt initially incurred by Powergen US
Holdings Ltd. to finance the LG&E Energy acquisition.
In October 2001, Powergen US Funding LLC issued $1.2 billion principal
amount of notes due 2004 (the "Notes"), the net proceeds of which were used to
repay a portion of the loans outstanding under the bank facility. The $1.6
billion bank debt was thereby reduced to $0.4 billion. Under authorization
granted in the Powergen Order, during December 2001, Powergen US Holdings Ltd.
entered into a new credit facility to replace the prior credit facility. As of
December 13, 2001, there was approximately $250 million outstanding under this
new bank facility and the amount of CP issued increased to $1.15 billion.
It is intended that the external debt of the Powergen Intermediate Holding
Companies and Powergen US Funding LLC ($2.6 billion in the aggregate as of
November 30, 2001), consisting of commercial paper, the Notes and the bank
facility, will remain in place following E.ON's acquisition of Powergen, and
following the proposed reorganization by E.ON. None of these financings can be
transferred. Such debt also has restrictions on or penalties for prepayment
prior to maturity. The Notes are not prepayable at the option of Powergen US
Funding LLC. The new credit facility requires the payment of funding losses in
the event that the loans thereunder are prepaid during an interest period. In
addition, the Indenture pursuant to which the Notes were issued provides that in
connection with the E.ON reorganization, E.ON or E.ON US will be required to
guarantee the Notes. The credit facility has a similar provision.
Powergen UK plc, a subsidiary of Powergen Group Holdings, a FUCO, also had
as of September 30, 2001 loans outstanding to Powergen US Holdings Ltd, one of
the intermediate companies, amounting to approximately $1.4 billion, consisting
of a $1.3 billion loan and a (pound)0.1 billion loan. See Exhibit E-1, Chart 3.
These loans may remain in place or be repaid after the reorganization. Thus,
counting the external loans through credit facilities and through Powergen US
Funding LLC, and the intrasystem loans from Powergen UK plc, Powergen US
Holdings Ltd. had aggregate debt outstanding as of November 30, 2001 of
approximately $4.0 billion. This debt constitutes amounts borrowed to finance
Powergen's acquisition of LG&E Energy and other amounts used to fund the
operations of the LG&E Energy Group.
In addition, PUSIC has an obligation to contribute capital of $3.1 billion
to Powergen US Securities Ltd. when a capital call is made. This obligation
constitutes the refinancing of intra-system acquisition debt incurred to acquire
LG&E Energy. Under US GAAP this obligation is treated as a loan from Powergen US
Securities Ltd. to PUSIC. In connection with the E.ON reorganization, the stock
of PUSIC will be transferred from Powergen Luxembourg Holdings sarl to E.ON US,
for value, payable in the form of cash or a note. PUSIC's obligation in respect
of the capital call discussed above will remain an obligation of PUSIC.
32
Companies will cease to hold direct or indirect voting interests in LG&E Energy,
they will cease to be holding companies under the Act and, consequently, they
request that the Commission unconditionally approve their deregistration under
Section 5(d) of the Act. Applicants request that the Commission reserve
jurisdiction over the deregistration of the Powergen Intermediate Holding
Companies until after the reorganization has been effected and the record with
respect to this matter is complete. LG&E Energy and the Utility Subsidiaries
survive the Acquisition and each retains its separate existence.
Accordingly, the Acquisition and reorganization will result in a relatively
simple chain of equity ownership between E.ON and LG&E Energy and preserve the
efficient financing arrangements in the Powergen Intermediate Holding Company
structure. The equity ownership structure is preferable from a tax law
perspective because it avoids holding a U.S. asset through another foreign
jurisdiction. Currently, German tax regulations with regard to controlled
foreign
33
corporations discourage German corporations from holding assets through
multi-tier subsidiaries located in multiple jurisdictions. The Powergen
Intermediate Holding Company structure is maintained because it provides
efficient financing that is already in place. It would be inefficient to unwind
this structure post-Acquisition and to replace it with other financing
arrangements. Some of the financings currently in place prohibit, or would
involve penalties for, early repayment.
Maintaining an efficient post-Acquisition structure may require a rapid
response to changes in matters such as tax and accounting rules, including by
making appropriate revisions after consummation of the Acquisition to add or
subtract an intermediate holding company between E.ON and LG&E Energy. Such
changes to the "upper structure" will not have any material impact on the
financial condition or operations of LG&E Energy or its subsidiaries. Applicants
request authorization to make corporate structure changes without having to seek
specific authority from the Commission for each change, subject to the condition
that no change (i) will result in the introduction of any third party interests
in the upper structure, (ii) will introduce a non-European Union or non-U.S.
entity into the upper structure or (iii) will have any material impact on the
financial condition or operations of E.ON or LG&E Energy and its subsidiaries.
Applicants note that the Commission granted authority to make such changes
subject to comparable conditions in the Powergen Order and in the National Grid
Order.
E.ON North America Inc. ("E.ON NA"), E.ON's wholly-owned U.S. subsidiary,
has served in the past as the holding company for certain of E.ON's activities
in North America, handling certain finance, legal, tax and other service
functions. E.ON NA owns Fidelia Inc. ("Fidelia"), a finance company subsidiary
organized under Delaware law. Fidelia lends money exclusively to E.ON Group
companies in the U.S., including the U.S. subsidiaries of Degussa AG, one of
E.ON's to-be-divested subsidiaries.
It is more efficient from an operations, tax and financing perspective to
integrate E.ON NA and Fidelia under the E.ON U.S. corporate structure
post-Acquisition. This structure would reduce costs by avoiding duplication of
corporate services such as tax filings, and would simplify the overall corporate
structure of the E.ON Group. In addition, Fidelia holds the cash proceeds of
certain divestitures of E.ON's nonutility businesses in the U.S. It would be
preferable to continue to hold such funds in Fidelia for use in future U.S.
acquisitions as permitted or authorized by the Commission. In addition, Fidelia
may lend funds to other companies in the E.ON Group, except as prohibited under
the Act./24/ This would avoid repatriating the funds to Germany and exposure to
the risks of currency value fluctuations.
To effect the restructuring, E.ON would transfer the E.ON NA shares to E.ON
U.S. E.ON U.S. would then transfer the E.ON NA shares to PUSIC./25/ For tax
reasons, debt of E.ON NA to E.ON may be cancelled, or E.ON may contribute assets
to E.ON NA, in connection with the restructuring transactions.
-----------------------
/24/ Applicants' application in SEC File No. 70-9985 describes the
financing plan for the E.ON Group, including Fidelia's role, in more detail.
/25/ Authorization to restructure nonutility holdings from time to time is
requested in Applicants' application in SEC File No. 70-9985. See Item 1.D.8 of
that application.
34
Powergen will remain the immediate parent company of Powergen Group
Holdings Ltd., the current "umbrella" FUCO in the Powergen Group. Powergen will
remain responsible for the development and operation of LG&E Energy, LG&E and KU
and in this manner develop E.ON's Anglo-American energy and utility business in
the context of E.ON's overall group strategy. Although Powergen will cease to
continue to own any public utility companies, due to Powergen's continuing role
regarding the LG&E Energy Group Powergen will remain a registered holding
company under the Act.
For German law reasons, it is impractical for E.ON to isolate its
non-utility businesses under a single "umbrella" FUCO, as was done in the
structuring of Powergen's acquisition of LG&E Energy and other cross-border
transactions. Rather, certification of FUCO status will be provided by filing
Form U-57 for certain existing E.ON first tier subsidiaries, including E.ON
Energie. E.ON Energie's activities have already been described above. See Item
1.A.2.a.
Gelsenberg will also certify as a FUCO after the completion of the VEBA Oel
divestiture transactions. At such time, E.ON will acquire 51% of Gelsenberg
which, in turn, directly and indirectly will hold 25.5% of Ruhrgas. The VEBA Oel
divestiture transaction is described more fully in Item 1.A.2.d., above.
E.ON presently owns a small (below 1%) direct interest in Ruhrgas. E.ON
also indirectly holds an additional 18% interest in Ruhrgas through E.ON's
interest in RAG./26/ E.ON's indirect interests in Ruhrgas participate in a
voting pool that includes 59% of the voting power of Ruhrgas.
Ruhrgas is Germany's largest natural gas transmission, storage, and import
company, with total sales of approximately 600 billion kWh (approximately 50
billion cubic meters) of gas. These operations account for 88% of its total
revenues of Euro 7.3 billion ($6.4bn). Most of its remaining revenues of 12% are
generated in activities that support the import and transport of gas.
Ruhrgas owns a high-pressure grid that covers nearly all of western
Germany. In addition, it owns stakes in regional gas transmission companies, in
local gas distributors and in "Stadtwerke" (municipal utilities) in Germany and
elsewhere in Europe. As explained below, Stadtwerke frequently also sell
electricity, water and other services. Ruhrgas owns minor stakes of 5% to 9% in
four gas fields and a 5% stake in its main gas supplier, the Russian gas company
Gazprom. These stakes are usually held to secure supply. Ruhrgas supplies gas to
E.ON, among others. Ruhrgas also manufactures equipment for the gas industry,
such as meters, to assist its customers in their use of Ruhrgas gas and to
strengthen its relationship with those customers./27/
-----------------------
/26/ E.ON directly and indirectly owns 39.2% of the shares of RAG which is
engaged predominantly in the production of coal for power generation. As
described below and in Item 3.G.1.c. RAG is a unique entity under German law.
E.ON seeks a commission order under Section 2(a)(8) to the effect that RAG is
not a subsidiary of E.ON.
/27/ Ruhrgas owns a U.S. manufacturer of metering equipment, American Meter
Company of Horsham, Pennsylvania. American Meter Company sells meters to, among
others, LG&E. That metering equipment is used in connection with gas operations,
and American Meter Company is thus retainable consistent with Commission
precedent. Ruhrgas also is engaged in gas-related engineering activities in the
U.S., of the type authorized under Rule 58(b)(1)(vii).
35
Other E.ON direct subsidiaries, including Degussa and Viterra, will
continue as such and, in this Application, E.ON is seeking appropriate
Commission authorizations to own and operate such subsidiaries under the Act
pending their divestiture within 5 years of the completion of the Acquisition
and the registration of E.ON as a holding company.
Because E.ON will: (1) maintain the relationship among LG&E Energy and its
Utility Subsidiaries unchanged, (2) cause the Powergen Intermediate Holding
Companies to cease to be holding companies, (3) have large segments of its
business organized under FUCO subsidiaries, and (4) divest many nonutility
subsidiaries, it will not have an unduly complicated corporate structure. Its
corporate structure is consistent with that adopted by other foreign registered
holding companies and approved by the Commission. Moreover, the voting
securities of LG&E Energy will be wholly owned directly or indirectly by E.ON
and the Intermediate Companies, after the Acquisition and E.ON reorganization.
Consequently, as required under Section 11(b)(2) of the Act, there will be no
unequal distribution of voting power or the creation of minority interests as a
consequence of the Acquisition.
The post-Acquisition corporate structure also does not cause an unduly
complicated corporate structure under the "great grandfather" clause of Section
11(b)(2) of the Act that would require Commission simplification. After the
Acquisition, E.ON, and each of the Intermediate Companies will be a holding
company over LG&E Energy which itself would be a holding company over LG&E and
KU.
The Commission reviewed and permitted a structure including holding
companies similar to this in the Powergen Order and the National Grid Order. In
the past, the Commission has recognized the necessity of permitting the
continued existence of intermediate holding companies to achieve economic and
tax efficiencies that would not otherwise be achievable in the absence of such
arrangements. The Intermediate Companies will not be a means by which E.ON seeks
to diffuse control of LG&E Energy and LG&E Energy's subsidiaries. Rather, the
Intermediate Companies will be created as special-purpose entities for the sole
purpose of helping the parties capture economic efficiencies that might
otherwise be lost in a cross-border transaction. The Intermediate Companies will
not issue securities to third parties and consequently can appropriately be
considered as mere financial conduits. Each of the Intermediate Companies will
be wholly owned, directly or indirectly and fully controlled by E.ON and the
creation and existence of the Intermediate Companies will not adversely affect
the operation of the LG&E Energy Group. Accordingly, this is not the type of
situation that concerned the drafters of the Act, and, in the Applicants' view,
the Commission should exercise its discretion to find that any apparent
complexity of the proposed transaction structure is neither undue nor
unnecessary.
E.ON UK, E.ON UK plc and Powergen will also be registered holding companies
after the Acquisition. All will be wholly-owned directly or indirectly by E.ON.
E.ON UK and Powergen will not issue securities to third parties and, as with the
Intermediate Companies, should be considered mere financial conduits for
purposes of Section 11(b)(2) of the Act. E.ON UK plc, however, may issue and
sell debt securities, in particular, bonds, to third parties to finance the
authorized or permitted activities of the Powergen Group. Bonds issued by E.ON
36
UK plc may be guaranteed by E.ON. Financing the Powergen Group through bonds
issued by E.ON UK plc is expected to be more cost effective due to tax
considerations than financing capital needs through E.ON or another E.ON
subsidiary and then lending the funds to E.ON UK plc.
Any third party debt issued by E.ON UK plc would be consolidated into
E.ON's consolidated financial statements and would count against the financing
limits for E.ON's external financing program set forth in the Financing
Application. Because the debt would be reflected in E.ON's consolidated
financial statements and in the Financing Application E.ON will commit to a
minimum 30% equity to total capitalization level, the issuance of debt at E.ON
UK plc does not pose the danger that such debt would result in an unduly
leveraged holding company system. In effect, especially in the case where such
debt is backed by an E.ON guarantee, E.ON UK plc functions as a financing
subsidiary for E.ON./28/ For these reasons, the E.ON UK plc debt should be
treated as E.ON debt for purposes of determining compliance with the great
grandfather clause of Section 11(b)(2) of the Act. In other words, E.ON UK plc,
together with E.ON UK and Powergen, should be viewed as financing conduits that
may be "looked through" for purposes of determining compliance with Section
11(b)(2).
Section 11(b)(2) of the Act requires the Commission to guard against
complicated corporate structures and the unfair distribution of voting power
among holding company security holders and, in that connection, to take action
as necessary to cause a holding company to "cease to be a holding company with
respect to each of its subsidiary companies which itself has a subsidiary
company which is a holding company." The great grandfather clause does not
prohibit E.ON's proposed corporate structure. E.ON's corporate structure and its
need to hold the acquired Powergen and LG&E Energy groups across borders
efficiently are very similar to the corporate structure and facts presented to,
and approved by, the Commission in the Powergen Order and the National Grid
Order. In particular, in the National Grid Order, the Commission decided "to
'look through' the Intermediate Companies (or treat the Intermediate Companies
as a single company) for purposes of the analysis under Section 11(b)(2) of the
Act," and found that the corporate structure did "not unduly or unnecessarily
complicate the structure" of National Grid. Applicants respectfully submit that
the same result should follow in the present case.
In particular, the Intermediate Companies, E.ON UK, E.ON UK plc and
Powergen should be disregarded as holding companies and treated as mere
financial conduits because they simply facilitate the holding of the Utility
Subsidiaries without introducing the evils of overly leveraged corporate
structures or diffused voting power that the prohibition in Section 11(b)(2) was
intended to address. Only E.ON and LG&E Energy, therefore, remain as holding
companies within the meaning of Section 11(b)(2). Consequently, Section 11(b)(2)
is satisfied because when the other holding companies are disregarded or "looked
through," E.ON's subsidiary LG&E Energy does not itself have a subsidiary which
is itself a holding company. Simply stated, there are only two substantive
levels of holding companies in the proposed corporate structure, the others
being mere financial conduits. Section 11(b)(2) permits up to two levels of
holding companies.
-----------------------
/28/ See e.g., The Southern Company, Holding Co. Act Release No. 27134
(Feb. 9, 2000) (authorizing Southern to use special purpose subsidiaries to
issue certain preferred and debt securities to provide the flexibility necessary
to achieve the lowest cost of capital).
37
It is again worth emphasizing that none of the economic planning reflected
in the proposed transaction structure will result in any change in the corporate
organization of the LG&E Energy Group or in the financing transactions
undertaken by LG&E Energy and its subsidiaries. Neither LG&E Energy nor any of
LG&E Energy's subsidiaries will borrow or issue any security or pledge any
assets to finance any part of the Acquisition. Thus, there is no possibility
that implementation and continuance of the proposed transaction structure could
result in an undue or unnecessarily complex capital structure to the detriment
of the public interest or the interest of consumers.
E.ON's Capital Structure
The capital structure of E.ON will not be unduly complicated nor will it be
detrimental to the public interest, the interest of investors or consumers or
the proper functioning of the combined system. E.ON currently has a simple
capital structure and is proposing to acquire the outstanding Powergen shares
using its available cash resources, existing lines of credit, and possibly the
proceeds of debt issuances, in addition to the loan notes described in Item
1.B.3. In addition, none of Powergen, LG&E Energy or any of their subsidiaries,
including the Utility Subsidiaries, will borrow or issue any security, incur any
debt or pledge any assets to finance any portion of the purchase price paid by
E.ON for the Powergen shares.
E.ON's capital structure is sound as well as simple. E.ON's capital
structure as of December 31, 2000 and September 30, 2001 is summarized below:
----------------------- --------------------------------- ---------------------------------------
As of December 31, 2000 As of September 30, 2001
----------------------- ----------------- --------------- ------------------ --------------------
$bn % $bn %
----------------------- ----------------- --------------- ------------------ --------------------
Common stock equity* 31.126 69.94 27,000 67.68
----------------------- ----------------- --------------- ------------------ --------------------
Long-term debt 6.879 15.46 9,213 23.09
----------------------- ----------------- --------------- ------------------ --------------------
Short-term debt 6.496 14.60 3,684 9.23
----------------------- ----------------- --------------- ------------------ --------------------
Total 44.501 100.00 39,897 100.00
----------------------- ----------------- --------------- ------------------ --------------------
*Common stock equity includes common stock (i.e., amounts received equal to the
par or stated value of the common stock), additional paid-in capital, retained
earnings and minority interests of $4.8 billion and $5.8 billion for December
31, 2000 and September 30, 2001, respectively.
As of September 30, 2001, Moody's and Standard and Poor's gave E.ON's
long-term bonds ratings of Aa2 and AA, respectively. E.ON's short-term debt
received ratings of P-1 and A-1+, respectively, from Moody's and Standard &
Poor's. Standard & Poor's put E.ON's long-term senior debt rating of AA on
credit watch negative after the announcement of the Acquisition and confirmed
the short-term debt rating of A-1+. Even accounting for the credit watch status,
E.ON's excellent ratings underscore the E.ON Group's sound financial condition.
After the Acquisition, the E.ON Group will continue to have a sound capital
structure. The table below shows the capitalization of each company as of
December 31, 2000 and the combined group on a pro forma basis, according to U.S.
GAAP.
38
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
E.ON ($ E.ON (%) Powergen Powergen Adjust-ments Pro Forma Pro Forma
mm) Group Group (%) Combined Combined (%)
($ mm) ($ mm)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Common stock 31,126 69.94 3,916 30.55 (3,751) 31,291 51.09
equity *
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Preferred 0 0 135 1.05 0 135 0.22
stock
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Long-term 6,879 15.46 5,965 46.52 7,669** 20,513 33.50
debt
(including
current
portion)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Short-term 6,496 14.60 2,805 21.88 0 9,301 15.19
debt
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Total 44,501 100.00 12,821 100.00 3,918 61,240 100.00
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
* Common stock equity includes common stock (i.e., amounts received equal to the
par or stated value of the common stock), additional paid-in capital and
retained earnings, and minority interests of E.ON of $4.8 billion and of
Powergen of $165 million.
** The adjustment for long-term debt is based on the assumption that the
Acquisition is fully financed with debt, although the ultimate financial
structure for the transaction has not been finalized.
The table that follows shows the capitalization of each company as of September
30, 2001 and the combined group on a pro forma basis, according to U.S. GAAP.
39
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
E.ON ($ E.ON (%) Powergen Powergen Adjust-ments Pro Forma Pro Forma
mm) Group Group (%) Combined Combined (%)
($ mm) ($ mm)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Common stock 27,000 67.68 3,668 32.92 (3,521) 27,167 49.36
equity*
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Preferred 0 0 135 1.20 0 135 0.24
stock
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Long-term 9,213 23.09 5,227 46.65 7,459** 21,899 39.79
debt
(including
current
portion)
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Short-term 3,684 9.23 2,154 19.23 0 5,838 10.61
debt
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
Total 39,897 100.00 11,204 100.00 3,938 55,039 100.00
--------------- --------- --------- ------------ ------------ ------------ ------------ -------------
* Common stock equity includes common stock (i.e., amounts received equal to the
par or stated value of the common stock), additional paid-in capital and
retained earnings, and minority interests of E.ON of $5.8 billion and of
Powergen of $167 million.
** The adjustment for long-term debt is based on the assumption that the
Acquisition is fully financed with debt, although the ultimate financial
structure for the transaction has not been finalized.
E.ON's shares are listed on all German stock exchanges, the Swiss Stock
Exchange, and as ADRs on the NYSE (ticker symbol "EON"). E.ON's ADRs are
registered under the 1933 Act, and, as a foreign private issuer, the company
files Form 20-F and other periodic disclosure reports with the Commission./29/
E.ON's financial statements are maintained in accordance with U.S. GAAP.
After the Acquisition, E.ON will have outstanding long-term debt at the
parent-company and subsidiary level. The presence of debt at more than one level
of the E.ON system does not "unduly complicate" the capital structure of that
company for purposes of Section 10(b)(3). To the contrary, E.ON's financing
system more appropriately reflects the optimal capitalization of its various
businesses to the greater benefit of the entire system by properly allocating
the cost of capital to each business segment based on its risk profile.
Moreover, in the first instance, to the extent that the debt is associated with
facilities that have been entered into before E.ON becomes a registered holding
company, such debt should be grandfathered for purposes of the Act. Second, and
more important, Section 7(c)(2)(D) expressly provides for the issuance of
nontraditional securities if "such security is to be issued or sold solely for
necessary or urgent corporate purposes of the declarant where the requirements
of the provisions of paragraph (1) would impose an unreasonable financial burden
upon the declarant and are not
-----------------------
/29/ As of September 30, 2001, E.ON had approximately 763.3 million common
shares issued and 670.1 million outstanding shares. E.ON is currently
repurchasing shares through a buyback program that started in October 2000 and
resulted in the repurchase of approximately 65.9 million shares by September 30,
2001. E.ON is authorized by its shareholders to repurchase up to 10% of its
common stock through October 31, 2002. E.ON plans to cancel the majority of the
repurchased shares.
40
necessary or appropriate in the public interest or for the protection of
investors or consumers." Registered gas systems have relied on this provision
for years in connection with their routine financing transactions. See, e.g.,
The Columbia Gas System, Inc., Holding Co. Act Release No. 26634 (Dec. 23, 1996)
(authorizing Columbia to issue external, long-term debt which, in the aggregate
with equity financing issued by Columbia, would not exceed $5 billion at any one
time outstanding through December 31, 2001). Based on the same rationale, the
Commission has permitted a registered electric system to have long-term debt at
the parent company level. Southern Co., Holding Co. Act Release No. 27134 (Feb.
9, 2000). Following the Southern Co. decision, the Commission similarly allowed
investment grade long-term debt at the parent company level in the National Grid
Order and the Powergen Order. Third, as described in this Application, E.ON is
in the process of transforming itself into a pure-play energy and utility
company. Rationalization of E.ON's capital structure will be a natural result of
that process.
As a predicate to receiving such flexibility, the registered holding
companies generally committed to maintain an investment grade credit rating and
a minimum level of equity capitalization. See, e.g., Southern Co., Holding Co.
Act Release No. 27134 (February 9, 2000), the National Grid Order, the Powergen
Order, KeySpan Corp., Holding Co. Act Release No. 27272 (November 8, 2000), and
Cinergy Corp., Holding Co. Act Release No. 27190 (June 23, 2000). E.ON's capital
structure and post-registration financing plans, including its commitments
regarding maintaining an investment grade credit rating and a minimum
capitalization ratio, are discussed in more detail in its separate application
filed with the Commission in SEC File No. 70-9985 (the "Financing Application").
For the reasons stated above the capital and corporate structure of the
E.ON system will not be unduly complicated by the proposed Acquisition. In
addition, for the reasons set forth above, and the assurances provided below in
the section "Compliance with State Law," Applicants believe that the proposed
Acquisition will, in fact, benefit the protected interests and enhance the
functioning of the resulting holding company system.
E. Compliance with State Law
All State Laws Applicable to the Acquisition Will be Complied With,
Including State Laws Applicable to Combination Electric and Gas Utilities.
Consistent with the Act's purpose of supplementing effective state utility
regulation, Section 8 of the Act prevents holding companies, by use of separate
subsidiaries, from circumventing state restrictions on common ownership of gas
and electric operations./30/
The Acquisition will not result in any new situations of common ownership
of "combination" systems within any state. LG&E is presently a combination gas
and electric
-----------------------
/30/ Under Section 10(c)(1) of the Act, the Commission may not approve "an
acquisition of securities or utility assets, or of any other interest, which is
unlawful under the provisions of Section 8 or is detrimental to the carrying out
of the provisions of Section 11." Section 8 of the Act makes it unlawful for a
registered holding company or subsidiary to have or acquire an interest in an
electric and gas utility serving substantially the same territory if state law
would prohibit such combination ownership. Lastly, Section 10(f) of the Act
prohibits the Commission from approving an application regarding an acquisition
unless it appears that the applicants have complied with all applicable state
laws (except where such compliance would conflict with Section 11 of the Act).
41
public utility serving substantially the same territory in Kentucky. After the
Acquisition, LG&E will continue to serve both gas and electric customers in
Kentucky. No state law prohibits LG&E's combined gas and electric operations,
and no state law prohibits E.ON from indirectly acquiring LG&E.
With respect to Section 10(f) of the Act, Applicants have made full filings
with the KPSC and the VSCC for approval of the Acquisition in accordance with
all applicable state laws. Applicants also provided the TRA with a copy of the
KPSC application and requested by letter that the TRA disclaim jurisdiction over
the Acquisition. The TRA instead asserted its jurisdiction and accepted the
letter and supporting materials as sufficient to meet the applicable filing
requirements. The authorizations of the KPSC, the VSCC and the TRA have been
granted./31/ To provide a further measure of assurance that the Acquisition will
not be detrimental to the public interest or the interest of investors or
consumers or the proper functioning of the registered holding company system,
Applicants expect that, upon request by the Commission, the Commission will
receive affirmations from the KPSC, the VSCC and the TRA that each has the
authority and resources to protect consumers subject to its jurisdiction and
that each intends to exercise that authority. The state commission
authorizations and supporting affirmations assure that the interests of retail
customers are adequately protected. In addition, E.ON commits that it will not
seek recovery in higher rates to LG&E or KU ratepayers for any losses or
inadequate returns that may be associated with E.ON's nonutility investments.
Accordingly, the Acquisition will be lawful under state law and the Act's
requirements regarding proper state authorization will be satisfied.
Based on similar facts and assurances, the Commission held in the National
Grid Order and the Powergen Order that the proposed acquisition would not be
detrimental to the public interest or the interest of investors or consumers.
Applicants therefore respectfully submit that the Commission make the same
finding with respect to the Acquisition.
-----------------------
/31/ See Item 4 infra and Exhibits C-2, C-4 and C-9; the orders of the
KPSC, VSCC and TRA, respectively.
42
F. Integrated Public Utility System
The Acquisition Tends Towards the Economical and Efficient Development of
an Integrated Public Utility System and the Additional Gas System May Be
Retained./32/
To establish that the Acquisition has a tendency toward the economical and
efficient development of an integrated public utility system Applicants
demonstrate, first, that the transaction produces benefits to the operations of
the Utility Subsidiaries and, second, that the technical requirements of
integration continue to be satisfied post-Acquisition.
Operational and Other Benefits
E.ON will supplement the existing management of LG&E Energy with its own
high quality management team with proven generation, transmission and
distribution expertise. In addition to its management expertise, due to its
financial strength and size, E.ON has expansive access to the international
capital markets. Its strong credit ratings and liquid assets allow it to attract
capital at reasonable rates. For example, Moody's and Standard & Poors's have
placed the credit ratings of LG&E Energy, LG&E Capital Corp., LG&E and KU on
review for possible upgrade reflecting the anticipated support these companies
will receive from becoming a core part of the E.ON System. E.ON's current
long-term debt rating of Aa2 and short-term rating of Prime-1 have been
confirmed by Moody's. The ratings of senior secured debt of LG&E and KU were
also confirmed by Moody's at their present levels of A-1.
E.ON has significant expertise in providing the infrastructure, dispatch
and power exchange necessary for providing reliable and efficient power supply,
transmission and distribution. E.ON is the fourth largest electricity producer
in the world ranked by electricity sales volume. E.ON supplies electricity and
gas to approximately 25 million customers. Through E.ON Energie it owns
interests in and operates electric power generation facilities with a total
installed generation capacity of more than 37,000 MW and an attributable
capacity of 29,000 MW. E.ON's power transmission grid extends from Scandinavia
to the Alps. The grid covers more than one-third of the surface area of Germany.
E.ON's power trading operations are sophisticated and incorporate a full risk
management system. The wealth and depth of E.ON's experience and expertise open
up a wide range of possibilities for improving operations, lowering costs and
environmental impacts and increasing efficiency and reliability.
The process of evaluating integration possibilities, aimed at eliminating
duplication and implementing best practices has just begun. E.ON's significantly
larger scale,
-----------------------
/32/ Under Section 10(c)(2) of the Act, the Commission may not approve "the
acquisition of securities or utility assets of a public utility or holding
company unless the Commission finds that such acquisition will serve the public
interest by tending towards the economical and efficient development of an
integrated public utility system." Section 11(b)(1) of the Act, requires the
Commission to limit the operations of the holding-company system to a single
integrated public-utility system and one or more additional integrated public
utility systems if the Commission finds that "(A) Each of such additional
systems cannot be operated as an independent system without the loss of
substantial economies which can be secured by the retention of control by such
holding company of such systems; (B) All of such additional systems are located
in one State, or in adjoining States, or in a contiguous foreign country; and
(C) The continued combination of such systems under the control of such holding
company is not so large (considering the state of the art and the area or region
affected) as to impair the advantages of localized management, efficient
operation, or the effectiveness of regulation."
43
both in financial and operational terms, will enhance the ability of the LG&E
Energy Group to utilize new developments in transmission and distribution
technology, information systems, and capital markets, where these can be seen to
bring economic benefit.
For the employees of LG&E Energy the transaction represents an opportunity
for growth as the company becomes the U. S. base of operations for a large
international group. E.ON's expressed intentions to expand and consolidate its
operations in this country will bring expanded opportunities for LG&E Energy
employees. Those opportunities will help to retain and attract the best
employees to the benefit of LG&E, KU and the Commonwealth of Kentucky. Powergen
shareholders will also benefit from the premium received for their shares upon
the closing of the transaction.
These opportunities represent a tangible net benefit to customers of LG&E
and KU, because not only does E.ON bring financial strength and managerial
experience to the Midwestern market, but future acquisitions may result in cost
savings to be shared with customers of LG&E and KU. The benefits to be provided
by the Acquisition are comparable to those presented in the Powergen Order. In
addition, as part of its decision regarding the Acquisition, the KPSC required
the applicants to file, within 60 days of closing any future utility merger or
acquisition in the United States over which KPSC approval would not be required,
a petition setting forth a formal analysis of any potential synergies and
benefits from the merger or acquisition and a proposed methodology for allotting
an appropriate share of the potential synergies and benefits to LG&E's and KU's
ratepayers.
Although some of the anticipated economies and efficiencies will be fully
realizable only in the longer term, they are properly considered in determining
whether the standards of Section 10(c)(2) of the Act have been met. See American
Electric Power Co., 46 S.E.C. 1299, 1320-1321 (1978). Further, the Commission
has recognized that while some potential benefits cannot be precisely estimated,
nevertheless they too are entitled to be considered: "[S]pecific dollar
forecasts of future savings are not necessarily required; a demonstrated
potential for economies will suffice even when these are not precisely
quantifiable." Centerior Energy Corp., Holding Co. Act Release No. 24073 (April
29, 1986) (citation omitted). See Energy East Corporation, Holding Co. Act
Release No. 26976 (Feb. 12, 1999) (authorizing acquisition based on strategic
benefits and potential, but presently unquantifiable, savings).
Moreover, E.ON's strategic vision is to become a pure-play global utility,
hence its commitment to divest numerous nonutility businesses. In keeping with
its global ambition, E.ON intends to expand into the U.S., the key world energy
market. E.ON views LG&E Energy's operations centered in Louisville, Kentucky as
ideally positioned to serve as the nucleus of its U.S. operations. The
Midwestern U.S. accounts for approximately 30% of the U.S. electricity market.
44
Integrated Utility System
The Utility Subsidiaries form an integrated utility system in compliance
with the standards of the Act./33/ In the Powergen Order the Commission very
recently found that the Utility Subsidiaries constituted an integrated public
utility system and that LG&E's gas operations constituted an additional
permissible gas system. No material changes in the composition or operations of
the Utility Subsidiaries has occurred since the date of the Powergen Order to
require a different conclusion today. As discussed above, the structure of the
Acquisition also would not change the integrated nature of the Utility
Subsidiaries since all such companies will remain intact in the LG&E Energy
Group after the Acquisition.
Because Section 2(a)(29) specifies separate definitions for gas and
electric systems, the Commission has historically taken the position that gas
and electric properties together cannot constitute a single integrated
public-utility system./34/
However, it is equally clear that under the Act the Commission's authority
is not limited to approval of acquisitions resulting in only one integrated
system. "[W]e have indicated in the past that acquisitions may be approved even
if the combined system will not be a single integrated system. Section 10(c)(2)
requires only that the acquisition tend 'towards the economical and the
efficient development of an integrated public-utility system.'"/35/
In this case, the Acquisition will tend toward the economical and efficient
development of two integrated systems: the combined electric utility system of
LG&E and KU and the stand-alone gas utility system of LG&E.
-----------------------
/33/ The FUCO holdings of E.ON, Powergen and LG&E Energy need not be
included in this analysis as Section 33(c)(3) of the Act explicitly provides
that FUCOs shall be considered to be consistent with the operation of a single
integrated public utility system.
/34/ See New Century Energies, Inc., Holding Co. Act Release No. 26748,
citing SEC v. New England Electric System, 384 U.S. 176,178 n.7; In the Matter
of Columbia Gas & Electric Corporation, Holding Co. Act Release No. 2477, 8
S.E.C. 443, 462-463 (Jan. 10, 1941) (rejecting an earlier interpretation to the
contrary in American Water Works and Electric Company, Inc., 2 S.E.C. 972, 983
(Dec. 30, 1937)).
/35/ Gaz Metropolitan, Inc., quoting In the Matter of Union Electric
Company, Holding Co. Act Release No. 18368, 45 S.E.C. 489, 505 (April 10, 1974),
aff'd without op. sub nom. City of Cape Girardeau, Missouri v. S.E.C., 521 F.2d
324 (D.C. Cir. 1975). See also, New Century Energies, File No. 70-8787.
Environmental Action, Inc. v. S.E.C., 895 F.2d 1255, 1263 (9th Cir. 1990)
(citing In re Electric Energy, Inc., Holding Co. Act Release No. 35-13781, 38
S.E.C. 658, 668 (Nov. 28, 1958)).
45
Electric System
As applied to electric utility companies, the term "integrated public
utility system" is defined in Section 2(a)(29)(A) of the Act as:
a system consisting of one or more units of generating plants and/or
transmission lines and/or distributing facilities, whose utility assets,
whether owned by one or more electric utility companies, are physically
interconnected or capable of physical interconnection and which under
normal conditions may be economically operated as a single interconnected
and coordinated system confined in its operations to a single area or
region, in one or more States, not so large as to impair (considering the
state of the art and the area or region affected) the advantages of
localized management, efficient operation, and the effectiveness of
regulation.
On the basis of this statutory definition, the Commission has established
four standards that must be met before the Commission will find that an
integrated electric system will result from a proposed acquisition of
securities:
o the utility assets of the system are physically interconnected or
capable of physical interconnection;
o the utility assets, under normal conditions, may be economically
operated as a single interconnected and coordinated system;
o the system must be confined in its operations to a single area or
region; and
o the system must not be so large as to impair (considering the state of
the art and the area or region affected) the advantages of localized
management, efficient operation, and the effectiveness of regulation.
LG&E and KU were integrated before the Acquisition and, after the
Acquisition, will continue to satisfy all four of these requirements.
First, LG&E and KU are already physically interconnected. LG&E and KU are
directly connected through transmission lines that they own, including two 138
Kv transmission lines and two 69 Kv transmission lines. See Exhibit D-1.
Second, LG&E and KU will continue to be economically operated as a single
interconnected and coordinated system. The two companies are interconnected by a
transmission system which allows the transfer of power between LG&E and KU. LG&E
and KU will continue operating as a single system, economically dispatched.
Third, this single integrated system will operate in a single area or
region, the area delineated on Exhibit D-1, covering portions of Kentucky,
Virginia, and Tennessee. In considering size, the Commission has consistently
found that utility systems spanning multiple states can satisfy the single area
or region requirement of the 1935 Act. For example, the Entergy system covers
portions of four states (Entergy Corp., Holding Co. Act Release No. 25952 (Dec.
17, 1993)); the Southern system provides electric service to customers in
portions of
46
four states (Southern Co., Holding Co. Act Release No. 24579 (Feb. 12, 1998));
and New Century Energies served customers in six states (New Century Energies,
Holding Co. Act Release No. 26748 (Aug. 1, 1997)).
Fourth, the system is not so large as to impair the advantages of localized
management, efficient operations, and the effectiveness of regulation. The
Commission's past decisions on "localized management" show that the Acquisition
fully preserves the advantages of localized management. In these cases, the
Commission has evaluated localized management in terms of: (i) responsiveness to
local needs, see American Electric Power Co., Holding Co. Act Release No. 20633,
46 S.E.C. 1299, 1312 (July 21, 1978) (advantages of localized management
evaluated in terms of whether an enlarged system could be "responsive to local
needs"), General Public Utilities Corp., Holding Co. Act Release No. 13116, 37
S.E.C. 28, 36 (Mar. 2, 1956) (localized management evaluated in terms of "local
problems and matters involving relations with consumers"); (ii) whether
management and directors were drawn from local utilities, see Centerior Energy
Corp., Holding Co. Act Release No. 24073, 35 S.E.C. Docket 769, 775 (Apr. 29,
1986) (advantages of localized management would not be compromised by the
affiliation of two electric utilities under a new holding company because the
new holding company's "management [would be] drawn from the present management"
of the two utilities); Northeast Utilities, Holding Co. Act Release No. 25221,
47 S.E.C. Docket 1270, 1285 (Dec. 21, 1990) (advantages of localized management
would be preserved in part because the board of a New Hampshire Utility, which
was to be acquired by an out-of-state holding company, included "four New
Hampshire residents"); (iii) the preservation of corporate identities, see Id.
(utilities "will be maintained as separate New Hampshire corporations. .
.[t]herefore the advantages of localized management will be preserved");
Columbia Gas & Electric Corporation, Holding Co. Act Release No. 2477, 8 S.E.C.
443 (Jan. 10, 1941)(benefits of local management maintained where the utility to
be added would be a separate subsidiary); and (iv) the ease of communications,
see American Electric Power Co., supra, at 1312 (distance of corporate
headquarters from local management was a "less important factor in determining
what is in the public interest" given the "present-day ease of communication and
transportation.")
The Acquisition satisfies all of the factors regarding "localized
management" noted above. LG&E and KU will continue to operate through regional
offices with local service personnel and line crews available to respond to
customers' needs. E.ON has no current plans to change the existing management of
LG&E or KU. After the Acquisition, LG&E and KU will maintain their current
offices as subsidiary headquarters and as local operating headquarters for the
areas they presently serve, while LG&E Energy will maintain the LG&E Energy
Group headquarters. KU will maintain its Lexington headquarters and a
substantial presence throughout its service territory in order to conduct the
state-wide operations of KU. Furthermore the headquarters for E.ON's energy
activities in the U.S. will be in Louisville. Therefore the fact that the
location of the corporate headquarters of E.ON (Germany) and Powergen (U.K.) are
distant from customers served by LG&E and KU, is, as noted by the Commission in
American Electric Power, supra, a relatively unimportant factor given the
present ease of transportation and communications and the retention of the LG&E
and KU headquarters at their present locations. In addition, the Commission in
the National Grid Order and in the Powergen Order approved a substantially
similar management arrangement. Thus, the Acquisition will preserve all the
benefits of localized management of LG&E and KU.
47
Finally, the Acquisition will not impair the effectiveness of state
regulation. LG&E and KU will continue their separate existence as before and
their utility operations will remain subject to the same regulatory authorities
by which they are presently regulated, namely the KPSC, the VSCC, the TRA, and
the FERC.
Gas Utility System
Section 2(a)(29)(B) defines an "integrated public utility system" as
applied to gas utility companies as:
a system consisting of one or more gas utility companies which are so
located and related that substantial economies may be effectuated by being
operated as a single coordinated system confined in its operations to a
single area or region, in one or more States, not so large as to impair
(considering the state of the art and the area or region affected) the
advantages of localized management, efficient operation, and the
effectiveness of regulation: Provided, that gas utility companies deriving
natural gas from a common source of supply may be deemed to be included in
a single area or region.
The LG&E gas utility system will meet the standard set forth in Section
2(a)(29)(B) and, therefore, will satisfy the integration requirements of the Act
and should be approved by the Commission.
LG&E's gas utility system will operate as a coordinated system confined in
its operation to a single area or region covering portions of Kentucky. See
Exhibit D-1. As shown by the maps in Exhibit D-1, there is substantial overlap
between the gas service territory of LG&E and the electric service territories
of LG&E and KU. The system also will not be so large as to impair the advantages
of localized management or the effectiveness of regulation.
As discussed above, localized management will be preserved. The centralized
functions of LG&E's gas utility business will continue to be managed from
Louisville, Kentucky, and the local functions will continue to be handled from
several regional offices. Management will, accordingly, remain close to the gas
operations, thereby preserving the advantages of local management.
As also discussed above, the Acquisition will not impair regulatory
effectiveness. The same regulators currently overseeing the LG&E gas operations
(i.e., the KPSC) will continue to have jurisdiction after the Acquisition. For
all of these reasons, the post-Acquisition gas operations satisfy the
integration requirements of the Act.
Retention of Additional Gas System
In the Powergen Order, the Commission found that the additional gas
integrated public utility system of LG&E was retainable by Powergen. In finding
the additional gas system to be retainable, the Commission reviewed a study of
the gas utility operations that analyzed the lost economies that these
operations would suffer upon divestiture as compared to retention by the
applicants. Powergen also demonstrated that certain non-quantifiable economies
would be lost if divestiture were required and that the divestiture of LG&E's
gas operations would cause a significant amount of damage to LG&E's ability to
compete in the marketplace. The study filed
48
in that proceeding as Exhibit O-1, File No. 70-9671, is incorporated herein by
reference. No material changes to the assets or operations of LG&E's gas
operations have occurred since that study was prepared and Applicants submit
that it continues to demonstrate that LG&E's gas utility operations should be
permitted to be retained as an additional system under the ABC Clauses of
Section 11. Moreover, the KPSC in its order approving the Acquisition
specifically found that it was in the public interest for LG&E to remain a
combination gas and electric utility.
G. Retention of Nonutility Subsidiaries
Except for the To-Be-Divested Subsidiaries, E.ON's Nonutility Subsidiaries
are Reasonably Incidental, or Economically Necessary or Appropriate to the
Operations of the E.ON System and Should be Retained./36/
Finally, Section 11(b)(1) of the Act poses the question whether the
"nonutility subsidiaries" of E.ON and Powergen are retainable under the
standards of Section 11 and the statutory amendment thereto.
1. E.ON's Nonutility Subsidiaries
Except for the TBD Subsidiaries, E.ON's nonutility subsidiaries are of a
nature and character that has already been authorized by the Commission in other
filings. Their basis for retention is described in Exhibit G-1 to this
Application. Generally these subsidiaries are businesses that are related or
incidental to E.ON's energy and utility business. For example, they are holding
companies for energy-related nonutility businesses, vehicles used to finance
E.ON Group businesses and companies that hold real estate acquired and held in
connection with E.ON's energy and utility businesses. None of the retained
nonutility subsidiaries is material to E.ON in terms of assets or revenues.
In connection with becoming a registered holding company, E.ON will be
divesting its interest in the TBD Subsidiaries. These are E.ON's nonutility
subsidiaries that are not consistent with E.ON's strategy of becoming a
pure-play global energy and utility company. The TBD Subsidiaries are identified
in Exhibit G-1. Consequently, after the Acquisition, E.ON's registration under
the Act and divestiture of the TBD Subsidiaries as provided herein, it will have
a corporate structure comprised of energy-related businesses that is focused on
growth in the energy and utilities industry and that is not unduly complicated.
The retention/divestiture of E.ON subsidiaries and their businesses is
discussed in greater detail in Exhibit G-1; but the timing of divestiture of
Degussa and Viterra warrant some
-----------------------
/36/ Section 11(b)(1) directs the Commission: "To require . . . that each
registered holding company, and each subsidiary company thereof, shall take such
take such action as the Commission shall find necessary to limit the operations
of the holding-company system of which such company is a part to a single
integrated public-utility system, and to such other businesses as are reasonably
incidental, or economically necessary or appropriate to the operations of such
integrated public-utility system. . . . The Commission may permit as reasonably
incidental, or economically necessary or appropriate to the operations of one or
more integrated public-utility systems the retention of an interest in any
business (other than the business of a public-utility company as such) which the
Commission shall find necessary or appropriate in the public interest or for the
protection of investors or consumers and not detrimental to the proper
functioning of such system or systems."
49
special mention below. In addition, in the discussion that follows the
Applicants note the need for E.ON to retain its interest in RAG as well as
E.ON's request that RAG be declared not to be a subsidiary of E.ON under Section
2(a)(8).
a. Degussa
E.ON is committed to divest its chemicals business in order to realize its
overall global strategy of becoming a leading energy and utility company.
However, for a number of reasons, E.ON requires a five-year divestiture period
for the chemicals business./37/ A five-year divestiture period is appropriate
because Degussa presents a unique situation as regards divestiture commitments
under the 1935 Act. With sales in 2000 of about Euro 20 billion ($17.6 bn), it
is an extremely large company, several times the size of any business that has
been the subject of a divestiture commitment before the Commission. It was
formed by a large merger that occurred only this year, and time is needed to
focus and rationalize the business if fair value is to be obtained in the
marketplace. In addition to its large absolute size, Degussa operates in a
specialized business area, such that the number of potential buyers is limited
and antitrust issues will require careful analysis. In these unprecedented
circumstances, allowing five years for the completion of divestiture is
appropriate.
Both of the companies that merged to create E.ON in mid-2000 had major
chemicals businesses. VEBA owned 64.7% of Degussa-Huls, and VIAG owned 63.97% of
SKW Trostberg. The two chemical companies were themselves the products of very
recent mergers between substantial chemical companies -- Degussa AG and Huls AG
in 1999 and SKW Trostberg AG and Goldschmidt AG, also in 1999. On February 9,
2001, Degussa-Huls and SKW Trostberg merged to create Degussa AG, which in 2001
will have combined sales in the order of Euro 19 billion ($16.7 bn) and some
63,000 employees. Following the completion of an extensive restructuring
program, putting approximately Euro 6.5 billion ($5.7 bn) (plus Euro 3.3 billion
($2.9 bn) precious metals trading) of revenues up for sale, the reorganized,
purely specialty chemicals company will generate revenues of approximately Euro
10 billion ($8.8 bn).
The process of integrating what two years ago were four separate chemicals
companies into a single chemicals company has just begun and will take time to
achieve before the entire group can be sold to a willing purchaser. The full
integration of the former chemical subsidiaries will require substantial time.
The three mergers described above, which took place within a two year period,
have entailed significant corporate reorganizations. Those mergers will yield
substantial efficiency gains, which should eventually be reflected in the value
(and sales price) of the chemicals business. However, full realization of those
efficiency gains will require a great deal of effort and substantial additional
time. Moreover, it may take still more time before those gains will be reflected
in the price a buyer is willing to pay for the chemicals business. Given the
magnitude of the tasks involved, E.ON believes that a three-year divestiture
period would force it to sell the chemicals business at a price that would not
reflect the true value of the business.
-----------------------
/37/ A five year divestiture period for compliance with conditions imposed
by the Commission under the Act is not unprecedented. In General Public
Utilities Corporation, Holding Company Act Release No. 15184, (February 9,
1965), the Commission authorized GPU to acquire 50% of Laing-Vortex, Inc., a
non-utility business. GPU stated that it believed it needed to invest only
through the development and demonstration stages of Laing's products, and GPU
agreed to divest its interest after 3 years, unless the SEC granted a 2 year
extension. The Commission subsequently granted the extension, thereby allowing
GPU five years to divest this business.
50
That concern is compounded by E.ON's belief that the market currently
undervalues Degussa because of the mix of its businesses and the structure of
its operations. To address this, Degussa is in the process of implementing
measures that will combine, streamline and refocus its operations, including a
number of divestitures. The focus of the new Degussa is the specialty chemicals
business, which involves chemicals with a particularly high customer value
(relative to their cost) and low substitutability. Such specialty chemicals
usually offer higher margins with lower production quantities. E.ON expects
Degussa's market valuation to improve as Degussa implements its new strategic
focus./38/
The cyclicality of the specialty chemicals business also makes a three year
divestiture period unlikely to result in a sale of E.ON's chemicals business for
full value. Market conditions must be such that they will be conducive to a sale
of the business at a fair price. A sale of E.ON's Degussa shares to the market
in a secondary placement is difficult to achieve under current market conditions
due to the mere size of the transaction. Chemical industry cycles normally last
between three to five years, and this cycle is unstable and hard to predict. It
therefore would be prejudicial to E.ON and the other Degussa shareholders (who
continue to own about 36 percent of the recently merged company) to require that
divestiture be completed within three years of E.ON becoming a registered
holding company.
A five-year divestiture period is also necessary because E.ON could well
face substantial delays before it can close a transaction to sell its chemicals
business. Relatively few companies compete in the global chemicals markets, and
as to many potential buyers there may be questions regarding the resulting
levels of concentration with respect to certain chemicals or processes in
certain geographic areas. The inherent complexity of much of the chemicals
business, the production processes involved and related intellectual property
concerns could mean that a substantial period of time would be required to work
through any such concerns with antitrust authorities and craft solutions that
will permit the sale to be completed.
E.ON cannot, of course, at this stage predict whether or to what extent
such issues will arise, nor how difficult and time-consuming it will prove to
resolve them. However, it is clear that E.ON must anticipate the possibility of
such delays occurring even after it is possible to reach agreement to sell the
business on terms that will permit E.ON to recover the value of its investment
"in an orderly fashion, consistent with market conditions and the financial
interests" of its shareholders./39/
In this regard, E.ON notes that the merger of Dow Chemical and Union
Carbide -- which was announced on August 4, 1999 -- did not receive clearance
from the Federal Trade Commission under the Hart-Scott-Rodino process until
February 2001. In other words, antitrust review of that major chemicals
transaction took approximately eighteen months. While E.ON certainly hopes and
expects that any HSR review of the sale of its chemicals business can be
completed within a shorter time, the Dow/Carbide experience clearly underscores
the appropriateness of allowing a longer period for the divestiture of a large
chemicals business.
-----------------------
/38/ To further strengthen its specialty chemicals business, Degussa
recently acquired LaPorte plc, a U.K. fine chemicals specialist.
/39/ See HSBC Holdings, SEC No-Action Letter (Mar. 15, 2000).
51
b. Viterra
For the reasons set forth below, E.ON also requires five years to dispose
of Viterra. In addition, during the divestiture period, Viterra requires the
ability to refocus its business consistent with current business plans, which
necessarily involve an increase in its commercial properties and an upgrading of
its residential holdings. These actions are appropriate and necessary for E.ON
to preserve the value of its investment in Viterra and to place the business in
a more saleable form so that E.ON and its shareholders can receive a fair price
for it. If the five-year refocusing process and the possibility of further
investment in Viterra were not permitted, it would be extremely difficult for
E.ON to market Viterra to potential purchasers as an independently viable real
estate business with reasonable growth prospects. Thus, in the absence of the
requested relief, the realizable value of Viterra to E.ON would be significantly
depressed.
The special considerations relevant to Viterra stem from (i) its unique
history, (ii) its unique tax characteristics and (iii) the lack of ready buyers
for a company of Viterra's current size, nature and tax characteristics.
Viterra's historical role as a provider of low-income housing has shaped the
company. Viterra's business consists primarily of residential housing. It
directly owns about 120,000 residential housing units and indirectly owns
another 50,000 housing units via its 50% shareholdings in two German real estate
companies; on the other hand, it owns only about 125 commercial units. Viterra's
housing portfolio is predominantly comprised of low-income housing units
concentrated in highly industrialized areas of Germany. These units mainly date
from the 1950's and 1960's. Viterra's business was highly regulated until 1990
because it provided publicly subsidized housing.
E.ON doubts that the business as presently constituted can be sold at a
fair price to E.ON or its shareholders. For this reason, E.ON is already engaged
in a process to restructure Viterra to put it in a more saleable form. It
intends to accomplish this by refocusing Viterra's activities away from the
low-income housing market. This process has three main objectives. First,
Viterra is selling low-income housing units and reinvesting a portion of those
proceeds in upgraded residential units, particularly in more affluent areas of
Germany. Second, Viterra is expanding the commercial side of its business. E.ON
currently believes that, notwithstanding the quality of Viterra's housing
portfolio, Viterra does not appear readily saleable absent an expansion of its
commercial real estate holdings. Third, Viterra's management is in the process
of developing the skills required to compete in a free market economy, while
shedding the regulatory mindset that prevailed in the company during the time it
operated in the highly regulated low-income housing environment. This process
requires the management to move from administration to active management of
Viterra's portfolio and from a focus on regulatory compliance to an emphasis on
value optimization and investor returns.
E.ON believes that these three changes will gradually transform the
business into a far more attractive asset, allowing Viterra to be sold at a much
higher -- and, given E.ON's investment in the business, a far fairer -- price
than Viterra could command in the near future. E.ON anticipates that Viterra
will be in substantially better shape to sell in five years than it will be in
three years, since it has much to accomplish with respect to restructuring the
business and transforming its management.
52
The relative size of Viterra also makes it exceedingly difficult -- if not
impossible -- to sell the business at a fair price within a three-year time
frame. Viterra's revenues in 2000 were Euro 1.3 billion ($1.1 bn). It is the
largest privately owned real estate company in Germany. The sheer size of the
business significantly reduces the number of potential buyers. Indeed, E.ON
believes that the number of potential buyers may be limited to only a few
international insurance groups or financial investors.
The universe of potential buyers also is affected by tax/dividend situation
confronting Viterra. Due to differences in valuation under applicable German
GAAP and tax law as a result of Viterra's history as a non-taxable corporation
until January 1, 1990, Viterra currently records losses for tax purposes and is
projected to begin to show only a very low taxable income within the next couple
of years. However, if it were to pay dividends during the next 15 years to the
owner of its common stock, whether that be E.ON or a new third party, they would
be taxed at a tax rate of about 43% of the dividend, despite Viterra's negative
or very low taxable income. If, on the other hand, Viterra does not pay
dividends, its untaxed reserves would stay in its balance sheet. Then, at the
end of 15 years, it could pay those reserves out as dividends without incurring
any tax on the dividend payments. E.ON believes that this unusual tax situation
will further reduce the number of potential buyers.
In seeking a five-year divestiture period for Viterra and the ability, for
itself and for Viterra, to invest funds in Viterra and to continue the
refocusing of that business, E.ON seeks merely the ability to conclude a
business process that has already begun -- a process designed to make Viterra
more attractive to a larger universe of ready buyers.
c. RAG
E.ON seeks to retain its ownership interest in RAG after becoming a
registered holding company and seeks an order of the Commission under Section
2(a)(8) of the Act declaring RAG not to be a subsidiary company of E.ON under
the Act. The unique nature of E.ON's ownership interest in RAG and of RAG itself
justify its retention as a non-subsidiary interest.
Coal mines located in Germany's Ruhr and Saar valleys were critical to
post-war growth in what then was West Germany. They not only provided energy for
much of the country but also export revenue. By the late 1960s, however, a
combination of forces, including competition from other international coal
suppliers and the increasing substitution of oil and gas for coal left German
coal mining in a state of crisis. The response was consolidation combined with
government-led efforts to preserve jobs in the industry. In 1968/69, a number of
major coal mining enterprises, including long-held coal operations of E.ON's
predecessor VEBA were combined to form Ruhrkohle AG, which subsequently became
RAG. RAG became the national umbrella organization for 52 coal mines, 29 coke
producers, and five briquette manufacturing plants.
RAG has operated as a private enterprise, but has been - and continues to
be - dependent on very large subsidies from the German government for its coal
mining operations. In 1999 alone, RAG received some Euro 4 billion ($3.52 bn) in
such subsidies.
53
While the companies that contributed assets into RAG received shares in the
company, those shares do not have the economic benefits normally associated with
equity ownership. RAG is effectively forbidden to pay dividends to its
shareholders largely as a result of the government subsidies that RAG has
received over the years. Thus, although E.ON holds a 39.2% direct and indirect
interest in RAG, E.ON does not receive cash distributions from RAG.
While RAG's shares give their owners no economic benefits, they also impose
no ongoing burdens or risks. Indeed, the ability to cut off the liabilities
associated with money-losing coal operations in-part motivated RAG's shareowners
to contribute mining and mining-related assets into RAG in the first place.
RAG's shareholders - including E.ON - have no obligations to make any further
capital contributions, or otherwise contribute any funds into RAG.
While E.ON owns some 39.2% of the shares, under RAG's corporate governance
arrangements that does not and cannot give it power to control the company. E.ON
is represented only on the Supervisory Board and not on the Management Board of
RAG. The powers and duties of Supervisory Board members are narrowly limited by
German corporate law. Importantly, Supervisory Board members have no say in the
day-to-day management and operations of the company and cannot compel the
Management Board members, who direct and manage the company, to follow their
instructions.
E.ON has only 3 out of 21 seats on the RAG Supervisory Board, and thus has
no approval or veto power with respect to the limited issues on which the
Supervisory Board votes./40/ Further, E.ON's 39.2% ownership interest is offset
by a comparable 30.2% interest held by RWE AG, a large German utility and a
direct competitor of E.ON. Indeed, only six entities, including E.ON, own all of
RAG's outstanding voting stock./41/
As the foregoing demonstrates, there is little economic benefit associated
with E.ON's RAG interest and only passive participation by E.ON on the RAG
Supervisory Board. It is appropriate to characterize the RAG interest as a
social obligation rather than an investment. As such, E.ON's continued ownership
of RAG is necessary and publicly expected. Given the central role RAG has played
in the social compact for handling employment and other issues in the post-war
German coal mining industry, a sale would be incompatible with E.ON's social
obligations. In addition, RAG shares cannot be sold without the approval of the
owners of 75%
-----------------------
/40/ E.ON's competitor, RWE, also holds 3 out of 21 seats on the
Supervisory Board. Ten of the seats are held by employee representatives, four
by other shareholders, and one by a so-called "additional member," who is
elected by the other Supervisory Board members.
/41/ RAG's shareholder structure is as follows:
E.ON AG - 37.10% plus 2.1% indirect participation through
Montan-Verwaltungsgesellschaft mbH,
BGE Beteiligungsgesellschaft fur Energieunternehmen mbH - 21.25% (a 100%
subsidiary of RWE AG),
Societe Nouvelle Sidechar, Paris - 8.26% (a 100% subsidiary of RWE AG),
ThyssenKrupp Stahl AG - 12.69%,
Montan-Verwaltungsgesellschaft mbH - 10% (79% held by ThyssenKrupp Stahl AG
and 21% held by E.ON)
Verwaltungsgesellschaft Ruhrkole Beteiligung mbH - 10% (35% held by the RAG
group, 65% held by ARBED S.A.).
54
of its shares./42/ Lastly, RAG's owners are economically precluded from
divesting their shares by the absence of any market for the shares, due to RAG's
inability to distribute profits to its owners.
RAG's businesses are consistent with its heritage and social purpose. They
are also largely energy-related. Consequently, allowing retention of the RAG
investment would not frustrate the policies of the Act. At the time E.ON
acquired its interest in RAG, RAG's activities consisted exclusively of coal
operations and related activities, and RAG continues to engage largely in such
activities. While RAG has acquired other businesses since its formation by the
German government those businesses grew out of RAG's coal and related
activities. Accordingly, RAG is akin to energy-related companies that the
Commission has allowed registered holding companies to retain under Rule 58 (in
particular, subsections (b)(1)(ix) and (b)(1)(x) of that rule).
Today, approximately 75% of RAG's business consists of coal, including some
coal assets located in the U.S./43/ RAG currently supplies 39.5% of E.ON's total
coal demand for electric generation in Germany. Another 5% of RAG's business
consists of power generation, and the remaining 20% of the business devoted to
diversified activities such as chemicals, plastics and environmental services.
RAG's other businesses grew directly from its coal operations./44/
At the time RAG was formed and E.ON effectively became locked in as a
shareholder, RAG's operations were focussed solely on coal mining and other
coal-related activities. Then and now, as a passive minority shareholder, E.ON
could not control the activities of RAG. It is clear, however, that sensible
diversification was part of RAG's social role as a quasi-public organization.
The changing economics of fuel supply had adversely affected the economics of
domestic coal production in Germany, with the result of serious social
dislocation. To mitigate these dislocations, the German government subsidizes
RAG to support the process of structural change in the coal mining regions. For
example, RAG Bildung is a RAG entity that provides pre-vocational training,
apprenticeship opportunities, occupational retraining, job training and career
counseling. It employs 950 trainers at 40 training centers and
-----------------------
/42/ RAG Articles of Association, Section 5.
/43/ RAG owns, indirectly through a subsidiary, RAG Coal International AG,
certain coal mines in the Appalachian, midwestern and mountain west regions of
the U.S. that supply certain U.S. electric generating units. Additional detail
about RAG's U.S. coal operations is included in the Applicants' FERC application
included as Exhibit C-5 hereto. In particular, Exhibit B and the testimony of
Dr. William Hieronymous included in the FERC application demonstrate the lack of
any significant effect on competition of these coal operations in the relevant
U.S. markets.
/44/ STEAG AG, which was founded as
Steinkohle-Elektrizitat-Aktiengesellschaft, is principally involved in
constructing and operating power plants. Rutgers began as a coal-tar and
coal-tar derivatives business and is now a chemical and plastics company. RAG
Saarberg AG, which originally held Saarland coal mines, operates power plants,
provides heating and water service, distributes mineral oil, manufactures rubber
products and provides coal mining technical services and environmental services.
RAG Immobilien handles RAG's real estate holdings, which are principally used
for operations and (both historically and today) employee housing. In addition,
RAG has "service companies" that provide training, data processing services and
insurance. RAG also owns 18% of Ruhrgas, a German gas utility company. STEAG and
Ruttgers have U.S. operations in the manufacturing and plastics industries, but
neither holds any U.S. utility interests. In addition, RAG's coal operations
have expanded geographically. While RAG produces coal principally in Germany, it
now also has substantial working mines in the U.S. and Australia.
55
administers approximately 2,000 on-the-job training positions that are financed
by grants from state and federal governments. From 1958 to the end of 1990,
during which time the number of employees in the German coal mining industry
dropped from 607,000 to 130,000, not one miner was discharged via the
unemployment office. Any profits made by RAG businesses other than German mining
will, for the foreseeable future, be used to reduce government subsidization.
E.ON also should be permitted to retain its interest in RAG because that
interest is analogous to so-called "good citizen" investments, which the
Commission has approved under Section 9(c)(3) and Rule 40(a)(5). See, e.g., WPL
Holdings, Holding Co. Act Release No. 26856 (Apt. 14, 1998) (permitting
retention of 54.55% interest in a company organized to promote local economic
development); Exelon Corp., Holding Co. Act Release No. 27256 (Oct. 19, 2000)
(allowing retention of interest in local development company); Georgia Power
Co., Holding Co. Act Release No. 25949 (Dec. 15, 1993) (allowing investment in
limited partnership formed to provide venture capital to high-technology
companies); Hope Gas, Inc., Holding Co. Act Release No. 25739 (Jan. 26, 1993)
(allowing investment in venture capital partnership designed to provide venture
capital to local businesses); The Potomac Edison Co., Holding Co. Act Release
No. 25312 (May 14, 1991) (permitting investment in for-profit, economic
development corporation created to stimulate and promote growth and retain
jobs); Consol. Natural Gas Co., Holding Company Act Release No. 23799 (Aug. 20,
1985) (authorizing registered holding company to acquire a partnership interest
in a nonprofit partnership to encourage and finance local high risk
entrepreneurial ventures); The Connecticut Light & Power Co., Holding Company
Act Release No. 17136 (May 20, 1971) (authorizing acquisition of long-term notes
of nonprofit development corporation.); 17 C.F.R.ss. 250.40(a)(5) (allowing
investments in securities of certain "local enterprises" which promote industry
and development in the service territory of the registered holding company
system).
Because RAG is not controlled by E.ON and it is not necessary or
appropriate in the public interest or for the protection of investors or
consumers that RAG be subject to the obligations, duties and liabilities imposed
under the Act upon subsidiary companies of holding companies, the Commission
should find under Section 2(a)(8) of the Act that RAG is not a subsidiary of
E.ON. Under Section 2(a)(8)(B), the Commission, upon application, shall by order
declare that a company is not a subsidiary company of a specified holding
company under clause (A) if the Commission finds that:
(i) the applicant is not controlled, directly or indirectly, by such
holding company (either alone or pursuant to an arrangement or
understanding with one or more other persons) either through one or
more intermediary persons or by any means or devise whatsoever,
(ii) the applicant is not an intermediary company through which such
control of another company is exercised, and
(iii) the management or policies of the applicant are not subject to a
controlling influence, directly or indirectly, by such holding company
(either alone or pursuant to an arrangement or understanding with one
or more other persons) so as to make it necessary or appropriate in
the public interest or for the protection of investors or consumers
that the applicant
56
be subject to the obligations, duties and liabilities imposed in this
title upon subsidiary companies of holding companies.
As demonstrated above, RAG is not controlled directly or indirectly by
E.ON. E.ON's Supervisory Board seats do not give it control because the powers
of the Supervisory Board are narrowly limited under German law and also because
other RAG shareholders have a significant presence on the Supervisory Board./45/
E.ON also does not control RAG pursuant to an arrangement or understanding with
one or more other persons. RAG is not an intermediary company through which E.ON
exercises control of other companies. Lastly, because RAG is not a public
utility company or a company that controls public utility companies in the U.S.,
even if the Commission found that E.ON exerted an influence on RAG through its
representation on the Supervisory Board, it should find that such influence
would not be such that it would be necessary or appropriate in the public
interest or for the protection of investors or consumers that RAG be subject to
the obligations, duties and liabilities imposed under the Act upon subsidiary
companies of holding companies.
In an effort to further mitigate any concern that the Commission may have
over E.ON's ownership interest in RAG, E.ON will undertake to advise the
Commission annually in its report on Form U5S of any changes in the current
attributes of its ownership interest in RAG (e.g., inability to receive
dividends) and to not increase, directly or indirectly, its investment in RAG
without prior approval of the SEC.
2. Powergen's Nonutility Businesses
The nonutility businesses of Powergen and the LG&E Energy Group are
retainable under the Powergen Order./46/ The business of each of these
subsidiaries and the basis for their retention was set forth in detail in
Exhibit F-1.2 and Exhibit F-2.2 to File No 70-9671. Attached as Exhibit G-2 is a
list of the non-utility subsidiaries of Powergen and the basis of their
retention as approved in the Powergen Order, and a list of the non-utility
subsidiaries of Powergen that commenced operations after the Powergen Order and
the basis of their retention.
In the event that the Applicants seek to reactivate any inactive company
after completion of the Acquisition, the Applicants will file a post-effective
amendment seeking authority to engage in the proposed activities if such
authorization is required under the Act.
-----------------------
/45/ See e.g., Cinergy Corp., Holding Co. Act Release No. 26362 (August 25,
1995) (holding that U.S. Energy Partners, a gas marketing partnership in which a
Cinergy subsidiary held a one-third interest, was not a subsidiary under the
Act).
/46/ In the Powergen Order the Commission reserved jurisdiction over the
retention pursuant to Section 11(b)(1) of the Act of the following companies:
CRC-Evans International, Inc.; CRC-Evans Pipeline International, Inc.; CRC-Key,
Inc.; CRC-Evans B.V.; CRC-Evans Canada Ltd.; PIH Holdings Ltd.; and Pipeline
Induction Head Ltd. The Applicants will take appropriate steps to divest these
companies within three years after the date of the order in that proceeding.
57
H. EWG/FUCO-Related Financings/47/
Applicants seek authorization (i) to retain existing investments in foreign
utility and energy-related businesses; (ii) to invest the proceeds from
divestitures (including any divestitures occurring since the June 2000 VEBA-VIAG
merger, as well as future divestitures), which may total approximately $35
billion, in EWG and FUCO activities without including those investments in
E.ON's Aggregate EWG/FUCO Financing Limitation (as defined below);/48/ and (iii)
to enter into transactions to finance additional investments in EWGs and FUCOs
in an amount up to $25 billion, which is approximately equal to 200% of E.ON's
consolidated retained earnings as of December 31, 2000, on a pro forma basis
reflecting the Acquisition, determined in accordance with U.S. GAAP./49/ The
authorization requested in (ii), above, would also include the flexibility for
E.ON to issue and sell securities to finance EWG and FUCO investments pending
the receipt of divestiture proceeds ("Bridge Loans"), provided that upon the
receipt of such proceeds the Bridge Loans or securities with an equivalent
principal amount are retired, redeemed or otherwise paid down such that the
aggregate EWG and FUCO investment under the authorization requested in (ii) does
not exceed the cash proceeds from divestitures. The $35 billion Bridge Loan
authorization plus the $25 billion additional investment amount referred to in
(iii) above, are in the aggregate referred to as the "Aggregate EWG/FUCO
Financing Limitation".
1. Retention of Existing Foreign Utility and Energy-related Businesses
E.ON will join the other existing non-U.S. registered holding companies as
a registered holding company with significant foreign investments and operating
experience in foreign markets. As of December 31, 2000, E.ON had an "aggregate
investment," as the term is defined in Rule 53(a) under the Act, in EWGs and
FUCOs of $6.009 billion./50/ This investment represents 44% of E.ON's pro forma
consolidated retained earnings of $13.805 billion as of December 31, 2000, as
adjusted for the Acquisition and determined in accordance with U.S. GAAP.
Due to E.ON's history as a significant operator and investor in foreign
utility companies at the time that it will become a registered holding company,
a forward-looking view of the appropriate level of investment in EWGs and FUCOs
is most valuable in determining whether the additional investments proposed in
this Application will have a substantial adverse effect upon the financial
integrity of the registered holding company system. This approach is
-----------------------
/47/ For purposes of this analysis, FUCOs is deemed to include all foreign
businesses which qualify for FUCO-status, but for the fact that the appropriate
notice has not yet been provided to the Commission. E.ON intends to provide all
such notices to the Commission at the time of the consummation of the
Acquisition.
/48/ Although the proceeds of divestitures may be invested in EWGs and
FUCOs they would not be limited to such uses and could be used to finance the
activities of the E.ON Group generally, as authorized or permitted under the
Act.
/49/ E.ON's pro forma consolidated retained earnings would be $13.805
billion as of December 31, 2000. As of September 30, 2001, E.ON's pro forma
consolidated retained earnings would be $11.679 billion.
/50/ Presently, E.ON has no EWG investments and its FUCO investment is in
E.ON Energie only. E.ON's aggregate investment in E.ON Energie reflects the book
value of E.ON's investment, including loans, in E.ON Energie as of December 31,
2000. As of September 30, 2001, E.ON's aggregate investment in E.ON Energie was
$6,147 billion. E.ON valued the profit and loss transfer agreement between E.ON
and E.ON Energie by estimating E.ON's potential exposure based on prior
experience and projected potential payment amounts. The profit and loss transfer
agreements are explained in more detail in the Financing Application.
58
consistent with the Commission's position in the National Grid Order and the
Powergen Order. Thus, E.ON should be permitted to retain its existing foreign
utility and energy-related businesses and should not be required to include such
investment in the calculation of the Aggregate EWG/FUCO Financing Limitation.
2. Reinvestment of Proceeds from the Divestiture of Nonutility Businesses.
As discussed above, E.ON proposes to divest significant non-utility,
non-FUCO assets. See also Exhibit G-1. E.ON requests authorization to reinvest
the proceeds of such divestitures in eligible EWG and FUCO assets. Eligible FUCO
assets include non-U.S. electric and gas utilities as well as energy-related and
other functionally related activities such as water utility assets. Because the
reinvestment may occur by using Bridge Loans for a period until divestiture
proceeds have been obtained, Bridge Loans of up to $35 billion are included in
the Aggregate EWG/FUCO Financing Limitation.
E.ON should not be penalized because of the unique requirements of German
law. If the TBD Subsidiaries were held within a FUCO group of companies, the
FUCO could invest the divestiture proceeds in FUCO activities without affecting
E.ON's aggregate investment in EWGs and FUCOs. E.ON cannot take advantage of
this structure, however, due to the particulars of German corporate law. German
law effectively prevents E.ON from transferring these businesses under a holding
company that could provide a FUCO "umbrella" exemption. The additional
investments of divestiture proceeds in EWGs and FUCOs do not involve any
additional commitment by E.ON to its non-U.S. businesses. Rather, the substance
of the transactions is the Euro-for-Euro substitution of utility or
energy-related investments for non-utility investments. Unlike the FUCO
investments of U.S. holding companies, no part of the capital currently invested
in E.ON's FUCO and non-utility operations was derived, directly or indirectly,
from U.S. ratepayers.
Because the timing of the receipt of divestiture proceeds will not always
coincide with the opportunity to invest in additional EWG or FUCO assets, the
authorization requested to reinvest divestiture proceeds would also include
flexibility for E.ON to enter into bridge financing arrangements, i.e., Bridge
Loans, so that attractive investment opportunities could be pursued pending the
ultimate receipt of divestiture proceeds. When the divestiture proceeds are
received by E.ON it would retire, redeem or otherwise pay down the Bridge Loans
or securities with an equivalent principal amount, so that the aggregate EWG and
FUCO investment made by E.ON under the authorization to reinvest divestiture
proceeds does not, in fact, exceed the proceeds from the divestitures.
3. Additional Investments in EWGs/FUCOs
Applicants request authorization to finance additional EWG/FUCO investments
in an aggregate amount at any time up to $25 billion, in addition to E.ON's
existing investments and the reinvestment of the proceeds of divestitures. Such
financings/51/ may include the issue or sale of a security for purposes of
financing the acquisition or operations of an EWG or FUCO, or the guarantee of a
security of an EWG or FUCO.
-----------------------
/51/ The specific types of financings are addressed in the Financing
Application.
59
E.ON's diversified multi-utility portfolio enhances the stability of its
energy division by reducing the risk of any one operation. E.ON has substantial
experience and expertise in managing a multi-utility portfolio, as reflected in
its earnings from its foreign utility operations. Further, E.ON subjects its
potential FUCO investments to careful scrutiny to minimize the risks associated
with such investments. This risk review and management process accords with that
outlined in the Commission's February 7, 2001 proposed rulemaking on foreign
utility companies and with the practice of registered holding companies that
have received similar authorization.
Following the Acquisition, E.ON will maintain a corporate structure that
separates its foreign operations from its U.S. utility operations, insulating
the latter from any adverse effects from FUCO investments. The organization of
the U.S. utility activities under LG&E Energy, PUSIC and E.ON US reflects E.ON's
intent to operate the U.S. utility business in a financially independent manner.
Although it may not be possible to organize the non-U.S. operations under a
single, distinct holding company structure, as was the case with Powergen, E.ON
anticipates that its non-U.S. businesses will be operated financially
independently. Nonetheless, under certain circumstances, it may be desirable
from time to time for E.ON to provide some investment capital or credit support
for its FUCO operations and related acquisitions. Such support may include the
issue or sale of a security for purposes of financing the acquisition or
operations of an EWG or FUCO, or the guarantee of a security of an EWG or FUCO.
As explained more fully below, these transactions will not have an adverse
effect on the financial integrity of the E.ON system, nor will they have an
adverse impact on the Utility Subsidiaries, any customers of the Utility
Subsidiaries, or the ability of the affected state commissions to protect the
Utility Subsidiaries and their customers. In addition, E.ON will commit not to
seek to recover any FUCO losses from its Utility Subsidiaries or their
customers.
Furthermore, E.ON will commit to not issuing additional debt securities to
finance EWG or FUCO acquisitions if upon original issuance its senior debt
obligations are not rated investment grade by at least two of the major rating
agencies (i.e., Standard & Poor's Corporation, Fitch Investor Service and
Moody's Investor Service) and to maintaining a capital structure in which common
equity comprises at least 30% of its consolidated capitalization.
a. Compliance with Rule 53
E.ON is seeking authority to finance after the Acquisition EWG and FUCO
investments so long as the additional "aggregate investment" by E.ON in EWGs and
FUCOs through May 31, 2005 (the "Authorization Period"), not including E.ON's
pre-Acquisition investment, does not exceed the Aggregate EWG/FUCO Financing
Limitation. Rule 53 provides that, if each of the conditions of paragraph (a) is
met, and none of the conditions of paragraph (b) is applicable, then the
Commission may not make certain adverse findings under Sections 6, 7 and 12 of
the 1935 Act in determining whether to approve a proposal by a registered
holding company to issue securities in order to finance an investment in any EWG
or to guarantee the securities of any EWG. Giving effect to the proposals
contained herein, E.ON will satisfy all of the conditions of Rule 53(a) except
for clause (1). As of December 31, 2000, on a pro forma basis to reflect the
Acquisition, E.ON's "aggregate investment" (as defined in Rule 53(a)(1)) in EWGs
and FUCOs would exceed 50% of E.ON's consolidated retained earnings. E.ON's
aggregate investment in EWG's and FUCO's as of December 31, 2000 is $6.009
billion. In addition, the combined LG&E Energy Group and Powergen aggregate
investment in EWG's and
60
FUCO's as of December 31, 2000 is $1.048 billion. As of December 31, 2000, on a
pro forma basis to reflect the Acquisition, E.ON had consolidated retained
earnings of $13.805 billion. The combined E.ON, Powergen and LG&E Energy
aggregate investment ($7.057 bn) represents approximately 51% of E.ON's pro
forma consolidated retained earnings. Including the reinvestment of the expected
proceeds from divestitures of approximately $35 billion as aggregate investment,
the combined E.ON, Powergen and LG&E Energy aggregate investment ($42.057 bn)
would represent approximately 305% of E.ON's pro forma consolidated retained
earnings.
Rule 53(c) states that, in connection with a proposal to issue and sell
securities to finance an investment in any EWG, or to guarantee the securities
of any EWG, a registered holding company that is unable to satisfy the
requirements of paragraph (a) or (b) of Rule 53 must "affirmatively demonstrate"
that such proposal:
o will not have a substantial adverse impact upon the financial
integrity of the registered holding company system; and
o will not have an adverse impact on any utility subsidiary of the
registered holding company, or its customers, or on the ability of the
State commissions to protect such subsidiary or customers.
E.ON notes that the Commission has previously analyzed the requirements of
Rule 53(c) in connection with requests by a number of U.S. registered holding
companies to exceed the so-called "50 percent limit" under Rule 53. See Southern
Co. ("Southern"), Holding Co. Act Release No. 26501 (April 1, 1996); Central and
South West Corporation ("CSW"), Holding Co. Act Release No. 26653 (Jan. 24,
1997); GPU, Inc. ("GPU"), Holding Co. Act Release No. 26779 (Nov. 17, 1997);
Cinergy Corp. ("Cinergy"), Holding Co. Act Release No. 26848 (March 23, 1998);
American Electric Power Company ("AEP"), Holding Co. Act Release No. 26864
(April 27, 1998); and New Century Energies ("NCE"), Holding Co. Act Release No.
26982 (Feb. 26, 1999), Cinergy Corp., Holding Co. Act Release No. 27190
(aggregate limit in EWGs and FUCOs of $1.58 billion consisting of its current
investment of $580 million plus $1.0 billion additional); Entergy Corp., Holding
Co. Act Release No. 27184 (June 13, 2000) (aggregate limit of $2.7 billion based
on average retained earnings in 1999); KeySpan Corp., Holding Co. Act Release
No. 27272 (Nov. 8, 2000); Exelon Corp., Holding Co. Act Release No. 27296 (Dec.
8, 2000) (aggregate investment of $4.0 billion) (collectively, the "100%
Orders"). In each of the 100% Orders, the applicant sought relief from the
safe-harbor requirements of Rule 53(a)(1). The Commission found that the
applicants in each of the 100% Orders had demonstrated successfully, through the
use of certain financial indicators, that investing in EWGs and FUCOs in an
amount in excess of 50% of their respective consolidated retained earnings would
not have a substantial adverse impact on the financial integrity of the holding
company system.
In addition, in the National Grid Order and the Powergen Order, the
Commission concluded that the applicants, each of which had significant existing
FUCO investments, made the requisite showing under Rule 53(c), and authorized
additional EWG and FUCO investments in an aggregate amount in excess of 50% of
its consolidated retained earnings. Similar to the other foreign registered
holding companies, E.ON has significant existing FUCO investments
61
and seeks to invest additional amounts in FUCOs and EWGs in an amount in excess
of 50% of its consolidated retained earnings.
Like the other foreign registered holding companies, E.ON is also seeking
to demonstrate here its compliance with a rule that was not drafted with foreign
registered holding company systems in mind. The premise of Rule 53 is that the
issuance of securities to fund foreign investments should not adversely affect
the U.S. utility business of a registered holding company or the holding
company's financial soundness. By focusing on the proposed EWG and FUCO
investment as a percentage of the registered holding company's consolidated
capitalization, net utility plant, total consolidated assets and market
capitalization, the 100% Orders could be read to suggest that only investments
that are small in relation to those financial measures are acceptable. The
question simplistically stated is: "If the EWG and FUCO investments were lost,
would that substantially hurt the holding company and its U.S. utility
subsidiaries?" This test is fairly easily met where, as would generally be the
case, a U.S. registered holding company has substantially more assets invested
in its U.S. utility business than in its EWG or FUCO investments (even when the
latter amount to a few billion dollars). E.ON, on the other hand is placed in a
"tail wagging the dog" situation by such an interpretation of Rule 53 because it
must show that its vastly larger foreign utility assets are insignificant in
relation to the LG&E Energy Group and that the loss of its non-U.S. investment
could not lead to adverse effects on the Utility Subsidiaries.
It would be disingenuous to suggest that E.ON's FUCO assets are
insignificant. Not only are they significant but they are anticipated to grow
consistent with E.ON's strategy of divesting its nonutility businesses to become
a leader in the global utility and energy industry. E.ON's focus on growing its
energy and utility business in Europe, the U.S. and elsewhere around the world
should make E.ON stronger, more diversified (in terms of exposure to the utility
business in any one country), more profitable, and more able to develop and
implement the best practices in the utility industry. The transformation from a
conglomerate, active in many industries, to a pure-play energy and utility
company also will improve the focus and responsiveness of E.ON's management to
the utility business. These strengths should redound to the benefit of the
Utility Subsidiaries.
Because it is unrealistic to begin the Rule 53 analysis from the premise
that E.ON might suffer a total loss in its FUCO investment, the question under
Rule 53 should not be whether a FUCO portfolio or proposed investment amount is
too big, but whether history and current practice indicate sound FUCO operations
and investment practices and whether there are assurances that unexpected future
adversities do not impact U.S. utility subsidiaries of a registered holding
company. The discussion below explains why, for E.ON, this is indeed the case.
62
E.ON's Financial Soundness
As described below, the size and market position of E.ON, as well as the
financial integrity of the E.ON Group, is at least as secure as that of the
applicants in the other matters in which the Commission has previously granted
exceptions to the safe harbor requirements of Rule 53. Thus, this Application is
consistent with the rationale of, and the conclusions reached by the Commission
in, prior precedent.
Each of the requirements of Rule 53(c) are addressed below:
(A) The Proposed Transactions Will Not Have a Substantial Adverse
Impact Upon the Financial Integrity of the E.ON System
The use of proceeds from the issuance of debt and equity securities of E.ON
to make additional investments in EWGs and FUCOs in amounts of up to the
Aggregate EWG/FUCO Financing Limitation, and the issuance of, or provision for,
guarantees in connection therewith by E.ON, will not have a "substantial adverse
impact" on the financial integrity of the E.ON Group. This is demonstrated
through analysis of historic trends in E.ON's consolidated capitalization ratios
and retained earnings as well as consideration of E.ON's stringent review
process for new investments.
(1) Key Financial Ratios/Benchmarks
As the figures below demonstrate, E.ON developed first as a foreign
corporation engaged in the utility business in Germany and throughout Europe and
only now will become involved, through the Acquisition, in the U.S. energy
industry. As of December 31, 2000, E.ON's aggregate investment in FUCOs (i.e.,
E.ON Energie and its subsidiaries) was approximately $6.009 billion, or 44% of
its pro forma consolidated retained earnings as of such date. On a pro forma
basis to reflect the Acquisition and the reinvestment of the estimated proceeds
of divestitures ($35 billion) in FUCO investments, E.ON's "aggregate investment"
in EWGs and FUCOs as of December 30, 2000 would be approximately $42.057
billion, or approximately 305% of E.ON's pro forma consolidated retained
earnings at December 31, 2000, calculated in accordance with U.S. GAAP.
Additional investments in EWGs and FUCOs in an amount up to $25 billion, would
result in total aggregate investment of approximately $67.057 billion, or 486%
of E.ON's pro forma consolidated retained earnings at December 31, 2000.
Although the reinvestment of divestiture proceeds is only a reallocation of
assets from diversified businesses to foreign utilities and energy-related
businesses, Bridge Loans may be used to accommodate differences in the timing of
investment opportunities and divestiture proceeds. Since Bridge Loans could
theoretically remain outstanding for as long as five years - the proposed
retention period for Degussa and Viterra - the Bridge Loans are properly viewed
as an issuance of securities for purposes of financing investments in EWGs and
FUCOs. For these reasons, the Aggregate EWG/FUCO Financing Limitation includes
both the maximum amount of Bridge Loans ($35 billion) and the new incremental
issuance of securities ($25 billion) for purposes of financing investments in
EWGs and FUCOs proposed by E.ON.
63
In an effort to compare E.ON's proposed investment in the manner
traditionally followed in the 100% Orders, Applicants use the $25 billion
proposed investment amount only, since that is the net additional investment
over the long-term that will be financed through the issuance of securities.
Capitalization Ratios. Aggregate investments in FUCOs (as defined in Rule
53(a)) in amounts up to $25 billion on a U.S. GAAP basis as of December 31, 2000
would be a significant commitment of E.ON's capital, based on various key
financial ratios but, nevertheless, a commitment consistent with E.ON's existing
level of FUCO investment and E.ON's strategy of refocusing its operations on the
utility and energy business. The following chart shows how the proposed issuance
of securities in an amount up to $25 billion for purposes of EWG and FUCO
investments compared to the percentages for the companies that received the 100%
Orders and for National Grid and Powergen in the National Grid Order and the
Powergen Order.
For example, as of December 31, 2000, on a pro forma basis reflecting only
the Acquisition, investments of $25 billion would be equal to 40.8% of E.ON's
total consolidated capitalization ($61.2 billion), 21.4% of total consolidated
assets ($117.0 billion), and 56.9% of the market value of E.ON's outstanding
common stock ($43.9 billion).
64
Investments in EWGs and FUCOs* as a percentage of:
Company Consolidated Consolidated Net Total Consolidated Market Value of
Capitalization Utility Plant Assets Outstanding Common
Stock
Southern 16.3% 15.4% 11% 20.4%
CSW 23% 23% 14% 31%
GPU 24.9% 34.2% 19.4% 49.8%
Cinergy 16% 16% 11% 19%
AEP 16% 13.8% 9.8% 18.5%
NCE 15.5% 12.9% 9.8% 13.5%
Entergy Corp. 18.6% 17.4% 11.7% 43.8%
Cinergy 2000/52/ 24.3% 24.6% 16.5% 47.9%
Exelon 2000/53/ 18.9% 23.3% 11.1% 28.2%
Keyspan/54/ 16.6% 20.9% 11.5% 29.2%
Average U.S. Based 19.0% 20.2% 12.6% 30.1%
National Grid/55/ 46.6% N/A 33.0% 7.8%
Powergen/56/ 24.9% 46.4% 21.9% 58.1%
Average Non-US Based 35.8% 46.4% 27.5% 33.0%
Average of Above 21.8% 22.5% 15.0% 30.6%
E.ON (pro forma the 40.8% N/A 21.4% 56.9%
Acquisition only)
* Assumes investment in EWGs and FUCOs is equal to 100% of consolidated retained
earnings or, with respect to National Grid and Powergen, the amount of EWG and
FUCO investment authorized by the Commission.
The percentages for E.ON listed above are close to the percentages given
for National Grid and Powergen but higher than those of U.S.-based registered
holding companies. The comparison demonstrates the "tail wagging the dog"
problem. E.ON's foreign operations are significant and its proposed FUCO
investment is commensurately larger. U.S.-based registered holding companies, in
contrast, have been subject to diversification restrictions and have
substantially more assets invested in the U.S. utility business than in EWG or
FUCO investments.
It is also worth noting that the full amount of E.ON's proposed $25 billion
additional aggregate investment would not be made at once. It will be made over
a period of time during which E.ON's consolidated capitalization and retained
earnings are likely to grow. For this reason, the percentage comparison
presented above is static, one dimensional and of limited value as a predictor
of the effect of FUCO investments on the overall financial soundness of the E.ON
Group. E.ON's ongoing commitments to follow prudent investment practices and
-----------------------
/52/ Cinergy Corp., supra, Holding Co. Act Release No. 27190 (aggregate
limit in EWGs and FUCOs of $1.58 billion consisting of its current investment of
$580 million plus $1 billion additional).
/53/ Exelon Corp., supra, Holding Company Act Release No. 27266.
/54/ KeySpan Corp., supra, Holding Co. Act Release No. 27272.
/55/ The National Grid Order.
/56/ Powergen Order. In computing investments in EWGs and FUCOs as a
percentage of consolidated net utility plant, Powergen included distribution and
generation assets subject to U.K. regulation.
65
to maintain minimum common stock equity levels and investment grade credit
ratings will do more to assure its continued financial soundness.
E.ON's credit rating is currently Aa2/AA by Moody's and Standard & Poor's.
E.ON's consolidated capitalization and interest coverage ratios for 2000, on a
pro forma basis to reflect the Acquisition, are within industry ranges set by
independent debt rating agencies for similarly rated companies, as shown below:
-------------------------------------- -------------------------------------------------- ----------------------------
E.ON's Consolidated Debt to Capitalization and 1999 Average Industry
Interest Coverage Ratios for the year ended Ratios for Similarly Rated
December 31, 2000 Investor-Owned Utilities/57/
-------------------------------------- -------------------------------------------------- ----------------------------
Total Debt/Capital 48.7% 52.0%
-------------------------------------- -------------------------------------------------- ----------------------------
Pre-Tax Earnings Interest Coverage/58/ 5.4x 3.0x
-------------------------------------- -------------------------------------------------- ----------------------------
Funds from Operations Interest 3.4x 4.0x
Coverage
-------------------------------------- -------------------------------------------------- ----------------------------
As these statistics demonstrate, E.ON will be financially sound
post-Acquisition. Further, in the Financing Application, E.ON will commit to
maintain its common stock equity (including minority interest) as a percentage
of total capitalization, measured on a book value U.S. GAAP basis, at 30% or
above. E.ON also will commit to maintain its senior unsecured long-term debt
rating at an investment grade level. These commitments will provide the
Commission with the assurance that financings for the purpose of funding EWG and
FUCO investments would not cause E.ON to become financially unsound.
Rule 53(b) factors. It is noteworthy that none of the financial conditions
described in Rule 53(b) is applicable. First, there has been no bankruptcy of
any E.ON subsidiary company "having assets with book value exceeding an amount
equal to 10 percent or more of consolidated retained earnings" in which a plan
of reorganization has not been confirmed. Second, the average consolidated
retained earnings for the two most recent semiannual periods has not decreased
by 10 percent from the average for the previous two semiannual periods./59/
Third, in the past fiscal year, E.ON has not reported, on a consolidated basis,
operating losses attributable to its direct or indirect investments in FUCOs.
E.ON undertakes to notify the Commission by filing a post-effective amendment in
this proceeding in the event that any of the circumstances described in Rule
53(b) arise during the Authorization Period.
Other Indicators. Other financial indicators also show the financial
strength of E.ON. For example, E.ON's net income for 2000 was $3.352 billion, an
increase of $340 million over net income of $3.012 billion for 1999, which was
$1.635 billion higher than 1998.
-----------------------
/57/ Source: Standard and Poor's Utility Financial Statistics.
/58/ Pre-tax interest coverage was calculated as the ratio of the interest
expense of the combined E.ON/Powergen group as compared to the combined group
EBIT (earnings before net interest income and taxes).
/59/ Although Rule 53 specifies quarterly periods, E.ON is not required to
prepare accounts with this frequency.
66
Similarly, E.ON's earnings per share were $5.40 for 2000 as compared to $5.99
for 1999 and $2.75 for 1998. On a pro forma basis to reflect the Acquisition,
E.ON's earnings per share are $6.43 per share and its return on equity is 12.8%.
E.ON will continue to provide the financial information required by Form 20-F to
permit the Commission to monitor the effect of E.ON's EWG and FUCO investments
on E.ON's financial condition. E.ON's indicated dividend rate for the year ended
December 31, 2000, was $1.27 per share. In comparison to E.ON's earnings per
share of $5.40 for the year ended December 31, 2000, the dividend payout ratio
is 23.5%. These numbers demonstrate that E.ON is operated conservatively and
that much of its earnings are reinvested in operations.
(2) E.ON's Review Process for New Investments
Another aspect of the Commission's inquiry into the proposed FUCO financing
focuses on whether risks associated with the foreign utility businesses could
adversely affect the financial stability of the system. In this regard, E.ON's
successful operation of an international generation, distribution, and supply
business indicates that E.ON has sound management skills and expertise in the
utility industry, particularly as it relates to foreign utility operations.
In addition, E.ON utilizes a stringent review process to assess the risks
associated with new investments, including EWGs and FUCOs, to provide a
framework for managing investment decisions and to establish minimum
requirements for the investment process, so that decisions are made in a
consistent, informed and controlled environment.
The E.ON capital expenditure guidelines ("Capex Guidelines") establish
group-wide, uniform valuation criteria and procedures for assessing investments.
"Investment" is a generic term covering capital expenditure (i.e., the purchase,
manufacture, rental, and leasing of assets), equity investments, and the sale of
assets or investments. The Capex Guidelines ensure that the E.ON Group takes a
uniform approach to strategy, returns, and risk exposure and allocates its
financial resources efficiently. They provide a framework for managing
investment decisions and set out minimum requirements for the assessment
procedure. The procedure applies to all projects within the E.ON Group with a
volume that exceeds the threshold established in the bylaws of the Board of
Management, in the division parent company's Articles of Association, or agreed
on between E.ON and the divisions.
Investments are evaluated against a range of criteria, including strategic
and financial fit, impact on E.ON Group earnings and financing, and economic
measures. Economic measures include dynamic valuation criteria such as
discounted cash flows, internal rate of return, and payback period. Investments
are assessed on an after tax basis and on the basis of nominal parameters. All
investments are assessed against individual hurdle rates. The hurdle rates are
the minimum requirement. In order to create value, projects must demonstrate a
positive net present value ("NPV") at these discount rates. The hurdle rates are
updated and approved by the E.ON Management Board annually.
A project presentation is required to gain approval for investment. The
presentation includes all relevant information that is necessary to understand
the project and its strategic, legal, tax, and economic background as well as
its profitability, earnings impact, and risk exposure.
67
Key factors on the project's profitability (like development of sales
volume, of prices, and of margins) are subject to uncertainty. The project
presentation therefore also covers scenarios and sensitivity analyses. These
analyses illustrate the changes in profitability due to altered key factors.
Sensitivity analyses illustrate the changes in profitability due to gradual
fluctuations of individual factors. Contingency scenarios, however, describe
possible and consistent future developments with changes in several of these
factors.
Post Completion Audits ("PCAs") are presented after the investment has been
made, to enable lessons to be learned. PCAs are presented for individual
projects with strategic significance and for projects that show significant
deviations to the business plan originally presented (for example with regard to
cash flows, time schedule). PCAs include a comparison of the planned and the
realized initial capital expenditure as well as a comparison of the planned and
realized operating cash flows, an updated profitability calculation based on
realized cash flows and an updated business plan, information about delays in
the time schedule, and a deviation analysis including a description of
counteractions to secure the present value and the return originally expected.
(B) The Proposed Transactions Will Not have an Adverse Impact on
Any U.S. Utility Subsidiary, Any Customers of a U.S. Utility
Subsidiary, or on the Ability of the State Public Utility
Commissions to Protect Such Customers
E.ON's request for authorization to make additional investments in EWGs and
FUCOs after the Acquisition will not have an "adverse impact" on the Utility
Subsidiaries, their respective customers, or on the ability of the relevant
state commissions to protect the Utility Subsidiaries or their customers. This
is well supported by: (i) the insulation of the Utility Subsidiaries and their
customers from potential direct adverse effects of investments in EWGs and
FUCOs; (ii) analyses of the Utility Subsidiaries' financial integrity (including
ability of the Utility Subsidiaries to issue senior securities); and (iii) the
proven effectiveness of the state commission oversight together with the
affirmation by the KPSC in its decision regarding the Acquisition, and the
expected affirmation of the state commissions of Virginia and Tennessee, that
they have the authority and jurisdiction, and will exercise such authority, to
protect ratepayers in their respective states from adverse impact.
(3) Insulation From Risk
The investments of E.ON in EWGs and FUCOs will be segregated from the
Utility Subsidiaries. None of the Utility Subsidiaries will provide financing
for, extend credit to, or sell or pledge its assets directly or indirectly to
any EWG or FUCO in which E.ON owns any interest, except in the case of EEI, an
EWG subsidiary of KU. Any losses that may be incurred by E.ON's EWGs and FUCOs
will have no effect on domestic rates of any Utility Subsidiary. E.ON commits
not to seek recovery in retail rates of the Utility Subsidiaries for any failed
investment in, or inadequate returns from, an EWG or FUCO investment.
Moreover, to the extent that there may be indirect impacts on the Utility
Subsidiaries from E.ON's EWG or FUCO investments through effects on E.ON's
capital costs, the state commissions regulating the Utility Subsidiaries can set
the cost of capital for electric utilities by comparison with selected groups of
domestic utilities, which may exclude any
68
utilities with adverse impacts due to EWGs and FUCOs. Therefore, the states have
the authority and the mechanism to prevent any adverse effects on the cost of
capital due to investments in EWGs and FUCOs from being passed on to ratepayers.
E.ON will comply with the requirements of Rule 53(a)(3) regarding limiting
the use of the Utility Subsidiaries' employees to provide services to EWGs and
FUCOs. It is contemplated that project development, management and home office
support functions for the FUCOs currently held by E.ON will be largely performed
by Powergen and E.ON Energie and their respective subsidiary companies, and by
outside consultants (e.g., engineers, investment advisors, accountants and
attorneys) engaged by Powergen or E.ON Energie. Accordingly, E.ON's need for the
support of personnel provided by the Utility Subsidiaries is expected to be
modest. E.ON also will comply with the other conditions of Rule 53(a) providing
specific protections to customers of the Utility Subsidiaries and their state
commissions, in particular, the requirements of Rule 53(a)(1) regarding the
preparation and making available of books and records and financial reports
regarding EWGs and FUCOs, and the requirements of Rule 53(a)(4) regarding the
provision of EWG and FUCO-related information to every federal, state and local
regulator having jurisdiction over the retail rates, as applicable, of the
Utility Subsidiaries.
E.ON also will comply with Rule 53(a)(2)(ii), which requires each
majority-owned FUCO subsidiary of a registered holding company to maintain its
books, records and financial statements in conformity with U.S. GAAP and
requires the registered holding company to provide the Commission with access to
such books and records. For each non-majority owned FUCO subsidiary, E.ON will
endeavor to comply with Rule 53(a)(2)(iii), which requires either US GAAP books,
records and financial statements or, upon request, for E.ON to provide a
description and quantification of material variations from U.S. GAAP if another
comprehensive body of accounting principles is followed.
(4) Financial Integrity of the Utility Subsidiaries
Investments in EWGs and FUCOs will not have any negative impact on the
ability of the Utility Subsidiaries to fund operations and growth. The Utility
Subsidiaries currently have financial facilities in place that are adequate to
support their operations. These facilities will continue after the Acquisition.
The Utility Subsidiaries are in good financial health, as indicated by such
factors as debt/equity ratios of the Utility Subsidiaries, earnings coverages,
and security ratings. The expectation of continued strong credit ratings by the
Utility Subsidiaries should allow them to continue to access the capital markets
to finance their operations and growth.
Debt/Equity Ratios. Debt (including short-term debt) ratios of the two
Utility Subsidiaries are consistent with the industry range for "A" rated
electric utilities. The current industry median for "A" rated utilities is
approximately 50.5%. See Standard & Poor's Utility Financial Statistics.
69
Debt as % of Capitalization 12/31/98 12/31/99 12/31/00 9/30/01
LG&E 44.96% 48.96% 45.24% 41.27%
KU 45.79% 44.66% 43.48% 39.47%
E.ON commits to maintain the common stock equity ratios of each of LG&E and
KU, on an individual basis, at a minimum of 30%.
Earnings Coverages. The Utility Subsidiaries' ability to issue debt and
equity securities in the future depends on their financial strength at the time
such securities are issued. To the degree they issue senior secured debt, they
must comply with certain coverage requirements designated in their mortgage bond
indentures. For the twelve month period ended December 31, 2000, indenture
earnings coverages for the Utility Subsidiaries were approximately 6.25x for
LG&E and 5.29x for KU, in each case well above the required coverages of 2.0x.
Accordingly, the Utility Subsidiaries should have more than adequate earnings
coverages to meet their interest expense obligations in the foreseeable future.
Security Ratings. The Utility Subsidiaries' coverages have generally been
within the 3.0x to 5.0x ranges set by the major rating agencies in recent years.
The Utility Subsidiaries continue to show adequate financial statistics as
measured by the rating agencies.
-------------------------------- --------------- --------------- -------------- ---------------
LG&E* 12/31/98 12/31/99 12/31/00 4/9/01
-------------------------------- --------------- --------------- -------------- ---------------
-------------------------------- --------------- --------------- -------------- ---------------
Long-Term Corp. Rating A+ A+ BBB+ BBB+
-------------------------------- --------------- --------------- -------------- ---------------
Senior Secured Debt A+ A+ A- A-
-------------------------------- --------------- --------------- -------------- ---------------
Senior Unsecured Debt A A BBB BBB
-------------------------------- --------------- --------------- -------------- ---------------
Preferred Stock A A- BBB- BBB-
-------------------------------- --------------- --------------- -------------- ---------------
-------------------------------- --------------- --------------- -------------- ---------------
KU* 12/31/98 12/31/99 12/31/00 4/9/01
-------------------------------- --------------- --------------- -------------- ---------------
-------------------------------- --------------- --------------- -------------- ---------------
Long-Term Corp. Rating A+ A+ BBB+ BBB+
-------------------------------- --------------- --------------- -------------- ---------------
Senior Secured Debt AA- AA- A- A-
-------------------------------- --------------- --------------- -------------- ---------------
Senior Unsecured Debt n/a n/a n/a n/a
-------------------------------- --------------- --------------- -------------- ---------------
Preferred Stock A+ A- BBB- BBB-
-------------------------------- --------------- --------------- -------------- ---------------
* Standard & Poor's
E.ON does not believe that investments made in EWGs and FUCOs will
negatively affect the credit ratings of the Utility Subsidiaries, LG&E and KU.
(5) Utility Subsidiaries' Capital Needs
Additional investments in EWGs and FUCOs will not have any negative impact
on the Utility Subsidiaries' ability to fund operations and growth. Present
projections indicate that the Utility Subsidiaries will continue to fund their
operations and their construction expenditures primarily from internal sources
of cash and from sales of securities and other borrowings for the next two
years. Moreover, due to their credit ratings the Utility Subsidiaries should be
able to access the capital markets as needed.
70
Utility Subsidiaries - Construction Expenditures: actual and projected,
including Allowance for Funds Used During Construction ($ million):
1998 1999 2000 2001 2002
LG&E $138 $195 $192 $274 $141
KU $92 $181 $174 $155 $151
Percent internally generated:
1998 1999 2000 2001 2002
LG&E 100% 100% 100% 89% 100%
KU 100% 100% 100% 100% 100%
(6) Adequacy of State Commission Oversight
E.ON believes that the three state commissions having jurisdiction over the
Utility Subsidiaries, namely, Kentucky, Virginia, and Tennessee (collectively,
"State Commissions") are able to protect utility customers within their
respective states. The State Commissions that have reviewed the Acquisition have
not raised objections to Powergen's and/or LG&E Energy's current investments in
EWGs or FUCOs./60/
Additionally, E.ON will be subject to reporting requirements at the state
level. The Utility Subsidiaries are also subject to audits by the FERC. Such
audits have not raised any issue relative to affiliate transactions generally.
In connection with the Acquisition, it is Applicants' understanding that
the Commission will request each of the State Commissions to provide the
Commission with a letter certifying that the State Commission has jurisdiction
over the respective Utility Subsidiaries and that the State Commission will
exercise this authority to protect ratepayers. Such certifications should attest
to the adequacy of State Commission oversight.
Finally, as noted above, the State Commissions will have the authority to
make adjustments in a Utility Subsidiary's cost of capital to take into account
any negative effect from E.ON's investments in EWGs and FUCOs.
For all these reasons, the State Commissions will have adequate authority
to protect the Utility Subsidiaries' ratepayers from any adverse effect
associated with E.ON's investments in EWGs and FUCOs.
b. Compliance With Rule 54
Rule 54 provides that the Commission, in determining whether to approve the
issue or sale of a security by a registered holding company for purposes other
than the acquisition of an EWG or FUCO, or other transactions by such registered
holding company or its subsidiary other than with respect to EWGs or FUCOs,
shall not consider the effect of the capitalization or earnings of any
subsidiary which is an EWG or FUCO upon the registered
-----------------------
/60/ Section 33(c)(2) provides that the State Commissions may make
recommendations to the Commission regarding a registered holding company's
relationships to FUCOs, and that the Commission shall "reasonably and fully
consider" such recommendations.
71
holding company system if the provisions of Rule 53(a), (b), and (c) are
satisfied. Since E.ON's pro forma "aggregate investment" in EWGs and FUCOs will
exceed 50% of its pro forma consolidated retained earnings, the provision of
Rule 54 will not be satisfied. However, to enable the Commission to monitor the
impact of transactions for which authority is sought, E.ON proposes to report
the following additional information in the semiannual Rule 24 certificates:
1. A Rule 53(a) computation - a calculation of the ratio of E.ON's
aggregate investment in EWGs and FUCOs to E.ON's average consolidated retained
earnings (both as determined in accordance with Rule 53(a));
2. A statement of aggregate investment as a percentage of the following:
total capitalization, net utility plant, total consolidated assets and market
value of common equity, all as of the end of that semiannual period;
3. A statement of E.ON's authorized EWG and FUCO investment limit and the
amount of unused investment authority based on the aggregate investment as of
the date of the report;
4. Consolidated capitalization ratios as of the end of that semiannual
period;
5. The market-to-book ratio of E.ON's common stock at the end of that
semiannual period;
6. An analysis of the growth in consolidated retained earnings, which
segregates total earnings growth attributable to EWGs and FUCOs from that
attributable to other E.ON subsidiaries; and
7. A statement of revenues and net income of each of E.ON's EWGs and FUCOs
for the twelve months ended as of the end of that semiannual period (such
statement to indicate which EWGs and FUCOs were acquired during the reporting
period).
This information is the same as that required by the Commission with
respect to the registered systems that have obtained 100% Orders. The Applicants
believe that such reporting requirements will assist the Commission in its
determinations concerning the effect of EWGs and FUCOs on other transactions for
which E.ON and other system companies will require Commission authorization.
72
I. Investments in TBD Subsidiaries
E.ON has committed to divest the TBD Subsidiaries, which are not consistent
with its global pure-play energy and utility strategy, over a 3-5 year period.
However, pending such divestitures, it is essential that E.ON be permitted to
continue to manage its investment in those businesses as it has done in the past
to preserve and protect the value of that investment. Any immediate cessation of
credit support for or investment in those companies would deprive the companies
of the capital they need to maintain their current business lines and manage
their ongoing affairs and would result in a definite and immediate diminution of
their value, both real and as perceived by the market and potential purchasers.
This situation is directly analogous to the situation involving the
divestiture of Dominion Capital, Inc. by Dominion Resources, Inc., and E.ON
seeks similar relief./61/ In this connection, E.ON is willing to agree to
restraints on its future investment in the TBD Subsidiaries. E.ON will commit to
an aggregate limitation on such investments of $5.5 billion prior to
divestiture, which represents less than 10% of the $70 billion annual revenues
of these businesses in 2000. The $5.5 billion amount is based both on historical
investments in the TBD Subsidiaries and on assumptions E.ON has made regarding
the need for future investments. E.ON's approximate level of investment in the
TBD Subsidiaries over the last three years was $3.7 billion. E.ON expects that
its future investments in these businesses may well exceed historical
investments to properly prepare them for disposition. E.ON will be guided by
normal considerations of prudence and business management in making future
investments, up to the $5.5 billion limit.
The authority requested is necessary to protect and preserve the value of
E.ON's investment in these businesses and to prevent any diminution in the value
or the prospects of the business pending divestiture. Under Section 11 of the
Act, the Commission may permit the retention of businesses that are "reasonably
incidental, economically necessary or appropriate to the operations [of an
integrated public utility system that the Commission finds] necessary or
appropriate in the public interest or for the protection of investors or
consumers and not detrimental to the proper functioning of such system or
systems." The Act seeks to protect holding company system investors and utility
consumers from the risks of nonutility ventures by limiting the extent to which
registered holding companies and their subsidiaries could engage in these
businesses./62/ In this case, E.ON has already agreed that divestiture of the
TBD Subsidiaries is consistent with its utility and energy focus and growth
strategy. Consequently, an order of the Commission requiring divestiture is not
necessary. The Act's deference to the interests of investors and the financial
soundness of the holding company system favors an orderly sale and this
implicitly includes the right to manage the TBD Subsidiaries as ongoing concerns
pending their divestiture. Funding needed investments that enhance business
value is part of maintaining an ongoing business. Therefore, permitting
investments pending sale, is
-----------------------
/61/ See Dominion Resources, Inc., Holding Co. Act Release No. 27112 (Dec.
15, 1999) (approving future investments of up to $1.6 billion in businesses
which Dominion Resources had committed to divest within three years). See also,
New England Electric System, Holding Co. Act Release No. 26057 (May 25, 1994)
(stating that a subsidiary of NEES would divest its interest in a company
developing an uninterruptible power system on or before January 1, 2005, but
requesting authorization to invest an additional amount in such company in the
interim).
/62/ The Regulation of Public Utility Holding Companies, SEC Division of
Investment Management study, June 1995, at 77.
73
consistent with the voluntary posture of the divestitures in this proceeding and
furthers the interest of investors and the financial soundness of the holding
company system. The requested relief is also consistent with Rule 45(b)(4),
permitting capital contributions or open account advances without interest by a
company to its subsidiary company.
J. E.ON's Investments in Portfolio Securities
E.ON Group companies, particularly E.ON Energie, hold significant
investments as reserves against long-term liabilities, specifically, pension and
-- for E.ON Energie only -- nuclear decommissioning obligations. These
investments, which currently total roughly Euro 9 billion ($7.9 bn), include
publicly traded common stocks of other companies. While such stocks currently
comprise about 50% of the total investment, E.ON is willing to commit that they
will comprise no more than 25% of future aggregate net investments. The
remaining 50% of the investments is made up of fixed income bonds, including a
small portion of non-Euro currency fixed income bonds. Large parts of the
investments are held through investment funds. Applicants request that the
Commission authorize E.ON and its FUCO and nonutility subsidiaries located in
Germany to retain these investments "in the ordinary course of business" of a
German company under Section 9(c)(3) of the Act. The relief requested in this
section would not apply to the Powergen Group or the LG&E Energy Group.
Section 9(c)(3) permits registered holding companies and their subsidiaries
to acquire "other securities, within such limitations, as the Commission may by
rules and regulations or order prescribe as appropriate in the ordinary course
of business of a registered holding company or subsidiary company thereof and as
not detrimental to the public interest or the interest of investors or
consumers." As explained in detail below, investments held by E.ON are
appropriate in the ordinary course of business for a German company and will not
have a detrimental effect on the protected interests under the Act. E.ON's
request is limited to investments by it and its German subsidiaries in
connection with reserving against certain identified business liabilities. This
practice is in the ordinary course of business for E.ON and its German
subsidiaries and is common business practice for all similarly situated German
companies. Reserves are also held by E.ON Energie to cover nuclear
decommissioning obligations and those held by E.ON and its subsidiaries to
support pension obligations.
E.ON Energie operates a number of nuclear power stations in Germany and
Sweden. E.ON Energie and its subsidiaries are required under their respective
European accounting principles, especially under German GAAP, to make provision
(i.e., set up reserves) for the decommissioning of these facilities. German law
does not require that the financial provision made for the decommissioning of
nuclear facilities be set aside in a separate segregated fund. In this respect
German law is similar to the law of a number of countries outside of the U.S.,
including England, Canada, Denmark, France and Portugal./63/ However, under
German law and accounting standards, E.ON is required to establish and show
these provisions in its financial statements.
-----------------------
/63/ See the European Commission's publication "Nuclear Safety and the
Environment: Schemes for Financing Radioactive Waste Storage and Disposal"(EUR
18185 EN, 1999) for a survey of the regimes for funding decommissioning of
nuclear facilities in a variety of jurisdictions.
74
In a number of jurisdictions, including the U.S., investment in equity
securities is recognized as being a prudent investment policy for nuclear
decommissioning funds, given that the time periods over which the
decommissioning costs may be incurred may be as long as 80 to 150 years and
equity returns are not particularly volatile when viewed over such long time
periods. Indeed, the U.S. Nuclear Regulatory Commission ("NRC") does not
prohibit external decommissioning trusts from being invested in common stocks;
instead, NRC guidance indicates that speculative issues (e.g., stocks of
companies with limited operating history or that have low "safety" rankings from
rating agencies) should be avoided and that a licensee's own stock, as well as
those of other power reactor licensees, are inappropriate./64/ Accordingly, a
number of U.S. utilities have invested a portion of such trust funds in common
stocks./65/
It is reasonable to conclude, therefore, that investment in common stocks
of amounts set aside by E.ON Energie to meet part or all of the costs of
decommissioning of its nuclear facilities is entirely appropriate and in the
ordinary course of its business. Such investments are clearly for the purpose of
meeting nuclear power station decommissioning obligations and are functionally
related to the utility business. The investments are not for speculative
purposes or for the independent purpose of engaging in the investment management
business. E.ON Energie's investments are made in accordance with applicable law
in the jurisdiction which regulates its nuclear activities. The investments
represent a prudent business practice which contribute to the overall financial
soundness of the E.ON Group because they assist in protecting E.ON's other
assets from being burdened by the costs of decommissioning. The investments are
appropriate because investment in common stocks is a practice that is accepted
by the NRC and that is employed by U.S. utility companies.
E.ON and its affiliates also have invested in equity securities to fund
employee benefit obligations. As with nuclear decommissioning obligations, it
has not been customary in Germany for corporations to establish segregated funds
to meet liabilities to pay pensions and other employee benefits. U.S. law, on
the other hand, provides for the establishment of segregated funds to meet
pension obligations of U.S. corporations. However, U.S. public utility holding
companies that do business in parts of the world which do not recognize such
segregated funds would find themselves faced with the same requirement as E.ON
to make financial provision to meet pension and other employee benefit
liabilities. To make such investments to fund future liabilities is prudent
business practice and in the ordinary course of business. Where a substantial
proportion of the employees to which the liabilities relate are not yet near
retirement, it also would be normal prudent business practice to invest a
significant portion of the overall investment in equity securities./66/ German
law does not require and German companies
-----------------------
/64/ See the Nuclear Regulatory Commission's "Standard Review Plan on Power
Reactor Licensee Financial Qualifications and Decommissioning Funding Assurance"
(NUREG-SR1577r1) and Regulatory Guide 1.159.
/65/ See, e.g., Form 10-K of Duke Energy Corp. filed on April 2, 2001,
under "Management's Discussion and Analysis of Results of Operations and
Financial Condition - Liquidity and Capital Resources - Equity Price Risk"
("Duke Energy maintains trust funds, as required by the Nuclear Regulatory
Commission, to fund certain costs of nuclear decommissioning. (See Note 11 to
the Consolidated Financial Statements.) As of December 31, 2000 and 1999, these
funds were invested primarily in domestic and international equity securities,
fixed-rate, fixed-income securities and cash and cash equivalents.").
/66/ To underscore the prudent nature of such investments, we note that the
average yield of E.ON's long-term investments during 1998-2000 was about 9.5%,
whereas the average yield of money market investments during the same period was
roughly 4%. Thus, if E.ON were restricted to money market investments, it would
lose the 5.5% spread between these figures, which we estimate would amount to a
loss of roughly Euro 500 million ($440 mm) annually on its current investments.
75
including E.ON do not in practice segregate the investments/funds they hold with
respect to these kinds of liabilities (i.e., nuclear decommissioning and pension
liabilities). To ensure that the relief requested is appropriately matched to a
continuing need in the ordinary course of business, E.ON proposes to make equity
investments for the purposes of funding future employee benefit and nuclear
decommissioning expenditures only if, at the time of investment, the actuarial
value of the prospective obligations exceeds the aggregate of the investments
that will be held by E.ON immediately after the investment has been made.
Further, E.ON will not accumulate an affiliate interest in the equity of any
company purchased to fund the reserves. During the year 2002, E.ON will divest
shares held in companies in which E.ON holds an affiliate interest to reduce
that interest below 5%./67/ Furthermore, on a going forward basis, E.ON's
additional net investments in its reserves will be limited to 25% common
stocks./68/ E.ON's annual report on Form U5S will include a statement
reconciling the reserve investments with the related long-term liabilities that
indicates the asset class breakdown of the reserves. The proposed relief is
therefore narrowly designed to allow E.ON to continue its historical practice of
maintaining reserves to support its long-term liabilities. E.ON expects at the
present time to make investments in accordance with the forgoing conditions to
fund employee benefits and nuclear decommissioning obligations.
K. Intrasystem Provision of Services
1. LG&E Services and the LG&E Energy Group
After the Acquisition, LG&E Energy Services Inc. ("LG&E Services"), which
was previously approved by the Commission as meeting the requirements of Section
13(b) of the Act in the Powergen Order, will continue to provide services to the
members of the LG&E Energy Group. Except as otherwise described in this
Application, the operation of LG&E Services will be in conformity with the
authorization granted in the Powergen Order. The form of service agreement of
LG&E Services is included as Exhibit J-1 to the Application.
2. Services provided by Powergen Group and E.ON Group
It is intended that after the Acquisition Powergen and members of the
Powergen UK Group will continue to provide services to the LG&E Energy Group.
For example, members of the Powergen UK Group will provide management services
in the areas of internal audit, tax and treasury and consultation regarding
engineering, research and development projects and transmission best practices.
It is also expected that E.ON and other members of the E.ON Group, especially
E.ON Energie, will provide services to LG&E Services and other members of
-----------------------
/67/ E.ON holds an interest above 5% in a company that it plans to divest
in 2002 by either selling the stock or issuing a bond that would be exchangeable
for the stock of such company or cash. The terms of the exchange offer,
including when the exchange would be triggered, have not been determined at this
time.
/68/ This limit will be applied over the course of E.ON's fiscal year and
will be based on the value of the investments at the time they were made.
76
the LG&E Energy Group after the Acquisition./69/ Those services would generally
be limited to high-level management, administrative and technical services.
Because they will be registered holding companies after the Acquisition,
E.ON and Powergen do not intend to render services to their subsidiaries at a
charge and will not allocate to or charge the LG&E Energy Group for any general
overhead costs incurred at the E.ON or Powergen level. If in the future E.ON
would seek to charge the costs for general administrative services relating to
corporate-wide objectives, policies and activities incurred by E.ON or Powergen,
including costs of senior management, shareholder services, investor relations,
corporate affairs, strategic planning and business development, E.ON would file
an application setting forth allocation methods and describing such transactions
in further detail.
To the extent that costs for services provided by members of the Powergen
UK Group or the E.ON Group (other than E.ON and Powergen) can be attributed to a
specific member of the LG&E Energy Group, such member will be directly charged
such cost. Billing and coordination of services would be performed by LG&E
Services as described below. The costs for such service will be directly
assigned, distributed or allocated by activity, project, program, work order or
other appropriate basis. The service provider will use appropriate policies and
procedures to assure that all costs are identified and attributed to particular
projects, programs or work orders for purposes of direct cost allocation. As
required by Rule 91 under the 1935 Act, the costs allocated across the
businesses served by any such service provider will represent the total true
cost of providing the corporate service. The costs considered in the allocation
will include: (1) total payroll and associated costs; (2) materials and
consumable costs; (3) building and facilities costs; (4) information systems
infrastructure costs; and (5) other departmental costs. Records related to
services provided by any service provider to the LG&E Energy Group companies
will be made available to the Commission staff for review.
To the extent that any services cannot be directly attributed to a specific
LG&E Energy Group company, members of the LG&E Energy Group will pay a share of
the costs of services that benefit them. The portion of the costs attributable
to the LG&E Energy Group companies will be determined using measures that
reflect the relevant contribution and size of the individual businesses. With
respect to costs incurred at the Powergen Group level, the allocation of group
costs will use four measures (revenues, operating profit, employee numbers and
net assets) and allocate the group costs equally across the four. Revenues will
be adjusted to exclude the income resulting from sales of purchased power within
the LG&E Energy Group. Powergen will use figures from the latest published
accounts to calculate the percentage of revenues, operating profit, employee
numbers and net assets on an annualized basis, and these four percentages will
be averaged to calculate the group allocation.
LG&E Services will generally act as the gatekeeper or coordinator for
services flowing to and from the LG&E Energy Group. Applicants expect that the
majority of costs billed by members of the Powergen UK Group to the LG&E Energy
Group will be paid initially by LG&E Services which will then charge the
appropriate service recipient. LG&E Services will allocate the costs of service
among the LG&E Energy Group using one of several methods.
-----------------------
/69/ It is not expected that significant services or goods would be
provided by other members of the E.ON Group to LG&E Services or other companies
in the LG&E Energy Group.
77
The method of cost allocation varies based on the department rendering the
service. The cost allocation methods used by LG&E Energy Services are described
in Exhibit J-1 hereto.
Except as otherwise authorized by the Commission, all services provided by
members of the E.ON Group and/or the Powergen UK Group to LG&E Services and the
other members of the LG&E Energy Group will be billed at cost and pursuant to
fair allocation methods, in accordance with Section 13 of the Act and the rules
thereunder. If a service provider provides services for the benefit of a
specific LG&E Energy company, the charge applicable to that company will be
specifically identified in the invoice. Otherwise, the service provider's
charges will be allocated to individual LG&E Energy companies through LG&E
Services' allocation procedures.
3. Exemptions for Transactions with Non-utility Companies
Each member of the E.ON Group, the Powergen Group and the LG&E Energy Group
(including LG&E Services) requests authorization under Section 13(b) of the Act
to provide services and sell goods to non-utility companies in the LG&E Energy
Group, the Powergen Group and the E.ON Group, at fair market prices determined
without regard to cost, and requests an exemption under Section 13(b) of the Act
from the cost standards of Rules 90 and 91 as applicable to these transactions,
in any case in which the non-utility subsidiary purchasing these goods or
services is:
(1) a FUCO or foreign EWG which derives no part of its income,
directly or indirectly, from the generation, transmission, or
distribution of electric energy for sale within the United States.
(2) an EWG which sells electricity at market-based rates which have
been approved by the FERC, provided that the purchaser is not a public
utility company in the LG&E Energy Group;
(3) a "qualifying facility" ("QF") within the meaning of the Public
Utility Regulatory Policies Act of 1978, as amended ("PURPA") that
sells electricity exclusively (a) at rates negotiated at arms' length
to one or more industrial or commercial customers purchasing the
electricity for their own use and not directly for resale, and/or (b)
to an electric utility company other than a public utility in the LG&E
Energy Group at the purchaser's "avoided cost" as determined in
accordance with PURPA regulations;
(4) a domestic EWG or QF that sells electricity at rates based upon
its cost of service, as approved by FERC or any state public utility
commission having jurisdiction, provided that the purchaser is not a
public utility company in the LG&E Energy Group;
(5) a subsidiary engaged in Rule 58 activities or any other
non-utility subsidiary that (a) is partially owned by a member of the
LG&E Energy Group, the Powergen UK Group or the E.ON Group, (b) is
engaged solely in the business of developing, owning, operating and/or
providing services or goods to the non-utility subsidiaries described
in clauses (1) through (4) immediately above, or
78
(c) does not derive any part of its income from a public-utility
company within the LG&E Energy Group.
See Energy East Corporation Holding Company Act Release No. 27228 (Sep. 12,
2000), and Powergen plc Holding Company Act Release No. 27291 (Dec. 6, 2000).
4. Interaction with Other Regulatory Agencies
E.ON is aware that questions concerning the FERC's policy in this area are
likely to arise with respect to affiliate transactions involving the LG&E Energy
subsidiaries that are public utilities under the Federal Power Act. In
connection with the requested FERC authorization, the applicants in that matter
have committed "to be subject to the [FERC's] policy on intra-corporate
transactions with respect to any transaction involving the sale of non-power
goods and services between or among any of the LG&E Companies and E.ON or any of
its subsidiary or affiliated companies." See FERC Application, included as
Exhibit C-5. The FERC intra-corporate transactions policy, with respect to
non-power goods and services, generally requires that affiliates or associates
of a public utility not sell non-power goods and services to the public utility
at a price above market; and sales of non-power goods and services by a public
utility to its affiliates or associates be at the public utility's cost for such
goods and services or market value for such goods and services, whichever is
higher.
The Applicants recognize that, unless exempt, transactions among E.ON's
associate companies and other companies in the holding company system will be
subject to the jurisdiction of the Commission under Section 13(b) of the Act and
the rules and regulations thereunder. Section 13(b) generally requires that
affiliate transactions involving system utilities be "at cost, fairly or
equitably allocated among such companies." See also Rule 90. Nonetheless, E.ON
believes that, as a practical matter, there should not be any irreconcilable
inconsistency between the application of the Commission's "at cost" standard and
the FERC's policies with respect to intra-system transactions as applied to
E.ON.
On this basis, the applicants believe that E.ON will be able to comply with
the requirements of both the FERC and the "at cost" and fair and equitable
allocation of cost requirements of Section 13, including Rules 87, 90 and 91
thereunder, for all services, sale and construction contracts between associate
companies and with the holding company parent unless otherwise permitted by the
Commission by rule or order./70/
Section 6 of the Service Agreement contains language that clarifies the
scope of the jurisdiction of the Kentucky Commission and the Virginia
Commission, as follows:
Louisville Gas and Electric Company ("LG&E") and Kentucky Utilities
Company will not seek to overturn, reverse, set aside, change or
enjoin, whether through appeal or the initiation or maintenance of any
action in any forum, a decision or order of the Kentucky Public
Service Commission, or the Virginia State
-----------------------
/70/ Under circumstances of divergent cost and market prices such that both
the FERC and SEC pricing standards could not be reconciled if the transaction
was performed, E.ON will comply by refraining from performing the affected
service, sales or construction contract. See Powergen Order.
79
Corporation Commission which pertains to recovery, disallowance,
allowance, deferral or ratemaking treatment of any expense, charge,
cost or allocation incurred or accrued by LG&E or KU in or as a result
of a contract, agreement, arrangement, or transaction with any
affiliate, associate, holding, mutual service or subsidiary company on
the basis that such expense, charge, cost or allocation: (1) has
itself been filed with or approved by the SEC or (2) was incurred
pursuant to a contract, agreement, or allocation method which was
filed with or approved by the SEC.
As noted above, Applicants recognize that affiliate transactions among the
member companies of the E.ON Group will be subject to the jurisdiction of the
Commission under Section 13(b) of the Act and the rules and regulations
thereunder. Applicants do not believe that the above-quoted language in Section
6 of the Service Agreement is in conflict with the Commission's jurisdiction
under the Act. However, in the event that a state commission were to take action
that would preclude LG&E, KU or an affiliate from providing a service in
compliance with Section 13(b) of the Act or the Commission rules thereunder,
Applicants will cause the utility or affiliate to cease rendering the service
until the dispute can be resolved.
5. Restriction on Amendments
No change in the organization of LG&E Services, the type and character of
the companies to be serviced, the methods of allocating costs to associate
companies, or in the scope or character of the services to be rendered subject
to Section 13 of the Act, or any rule, regulation or order thereunder, shall be
made unless and until LG&E Services shall first have given the Commission
written notice of the proposed change not less than 60 days prior to the
proposed effectiveness of any such change. If, upon the receipt of any such
notice, the Commission shall notify LG&E Services within the 60-day period that
a question exists as to whether the proposed change is consistent with the
provisions of Section 13 of the Act, or of any rule, regulation or order
thereunder, then the proposed change shall not become effective unless and until
LG&E Services shall have filed with the Commission an appropriate declaration
regarding such proposed change and the Commission shall have permitted such
declaration to become effective.
80
L. E.ON's Water Operations
E.ON's Water Operations are Related to and Integrated With its Foreign
Electric and Gas Utility Businesses and Should Be Retainable Under Section
33 of the Act.
As part of E.ON's strategy to become a global pure-play utility and to
focus on its core energy/utility business, E.ON is committed to retain and
expand its multi-utility business, which under prevailing European industry
practice, includes not only electric and gas service but also water, waste
management and other services. In Germany and in many other parts of Europe -
and from the perspective of local utility regulators - it is typical for a
utility to offer such a complement of services. For example, privatized utility
functions that E.ON has acquired from municipalities have often included
electric, gas, heat and water as part of a bundled service. Acquiring water
operations can also provide an entree into the electric and gas businesses.
E.ON Energie's principal water-related activities are centered in the
German stock exchange-listed company Gelsenwasser, which also provides
gas-utility services. After purchasing RWE's 28.1% equity interest in
Gelsenwasser in January 2001, E.ON Energie holds an 80.5% equity interest
through its wholly owned subsidiary E.ON Aqua GmbH. Though water deliveries
decreased 3.5% to 238.5 million cubic meters in 2000, Gelsenwasser is still the
largest privately held water utility in Germany (based on volume of water
deliveries).
E.ON Energie also holds stakes in various regional electricity and gas
distributors and in municipal utilities ("Stadtwerke"). Therefore, its ability
to select which utility services to provide is often limited. E.ON Energie's
water, heating, engineering and waste management services are closely tied to
its local utility operations. They not only provide synergies but in most cases
share facilities and customers. The context in which E.ON acquired these
operations underscores how integral they are to the utility service expected by
E.ON's European customers. For historical and political reasons E.ON Energie
rarely owns 100% of the regional utilities or Stadtwerke. E.ON's expansion of
its electric and gas business through the acquisition of regional utilities and
Stadtwerke brought with it other services that these companies traditionally
provided, including water, heating, waste management and other services./71/
Continued provision of those services was typically a condition of acquiring the
electric and gas operations. Indeed, the continuing shareholdings of counties,
municipalities and other local shareholders in their former Stadtwerke or
regional utilities serve to ensure that municipal and regional customers will
continue to have those services available and enjoy the efficiencies of
integrated service.
E.ON is not unique in providing multi-utility service. For example, 64% of
gas distribution in Germany is provided by companies that also provide water
services. This allows a high degree of cost savings in operations, maintenance,
customer care, billing and sales. Operations and maintenance are performed by
skilled craftsmen who have to study both gas and water installations. For this
reason, the integration of electricity, gas and water services has been
increasing in Germany and many other European countries, such as Austria and
Italy. The three businesses require many of the same skills to deliver an
essential commodity to residential and industrial customers in an economical and
efficient manner. All three businesses require
-----------------------
/71/ In this regard, the situation is similar to that presented in Middle
South Utilities, Inc., Holding Co. Act Release No. 11782 (March 20, 1953) in
which the Commission did not preclude Middle South from continuing to provide
bus service within New Orleans.
81
operating and maintaining infrastructure assets that deliver the commodity
directly to the customer, measure and meter the amount delivered and bill and
collect revenues. There is also consumer demand for such integration, as many
European customers are used to receiving multiple utility services from one
source.
Given the historical development of this linkage through traditional
municipal and regional services and labor training practices, E.ON could not
readily split its water services from the gas and electricity business. The
interests of other shareholders in Stadtwerke and regional utilities, including
the municipalities and other local authorities themselves, also prevent such a
separation, particularly where such shareholders are capable of blocking
corporate actions.
In 2000, E.ON Energie had total revenues of approximately Euro 11 billion
($9.7 bn). Gas and electricity revenues (including district heating) accounted
for 89% of these revenues. Of the remaining revenues, 2% were attributable to
water activities and 9% were derived from other sales. Retention of the water
interests also is consistent with the Commission's decision in WPL Holdings,
Inc., Holding Co. Act Release No. 26856 (April 14, 1998), in that there is an
overlap in service territories between the water and other utility operations
and, further, the water and gas or electric operations have long been under
common ownership.
It should be noted that Section 33(a)(3) of the Act, which defines the term
"foreign utility company," does not by its terms or in any way, limit the type
or extent of the types of businesses in which a FUCO or its subsidiaries may
engage. By contrast, Section 32(a)(1) of the Act, which defines the term "exempt
wholesale generator" ("EWG") and was also enacted with FUCOs as part of the
Energy Policy Act of 1992 ("EPACT"), expressly requires an EWG to be engaged
exclusively in the business of owning and/or operating certain types of utility
facilities and selling electricity at wholesale. It seems apparent to Applicants
from the legislative history of EPACT that Congress did not intend to place any
limitations on the activities of a FUCO. Applicants are not seeking in this
Application for the Commission to define all of the parameters of investments by
FUCOs in non-utility businesses. This is demonstrated by E.ON's commitment to
sell the TBD Subsidiaries. E.ON believes however, that its water utility
business conforms to the "other businesses" standards of the Act as held by the
Commission. E.ON's water utility activities will not be detrimental to the
public interest or the interests of investors. Rather, as shown above, such
business is beneficial to investors, consumers and the public at large at least
to the same extent as was present in WPL Holdings, supra.
Finally, the original framers of the Act appear to have contemplated the
possibility that a water company could be a nonutility subsidiary in a
registered holding company system. Rule 49 of the Act provides an exemption from
Section 9(a) of the Act, under specific circumstances, for the acquisition of
the securities of a water company, without prior Commission approval. Rule 49
provides in pertinent part that:
(a) Companies Exempted. - The exemptions provided by this section shall
apply to any subsidiary of a registered holding company which subsidiary is
not-
(1) A holding company,
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(2) A public utility company,
(3) A company engaged in the business of performing services or
construction for or selling goods to associate holding or public
utility companies, or
(4) A company controlling, directly or indirectly, any company
specified in paragraphs (a) (1) to (3) of this section. . . .
(d) Exemption from section 9(a).
(2) Any such subsidiary company which is subject to regulation as a
water, telephone, common carrier or other public service company,
under the laws of the State in which it operates, shall be exempt
from section 9(a) of the Act with respect to any acquisition
expressly authorized by the State Commission of such State
provided that such acquisition does not include utility assets,
securities of a public utility or holding company, or any other
interest in any class of business other than that in which such
public service company is engaged.
Rule 49 has been amended as recently as 1994 and neither the SEC staff nor
the commenters to the proposed amendment to the rule voiced any concerns
regarding the Rule 49(d)(2) self-executing exemption regarding the acquisition
of the securities of a water company without prior SEC approval. In addition,
Rule 82 of the 1935 Act even allows for an exemption to the at cost provisions
of Section 13 for the performance of services or the sale of goods relating to
the sale of water by such company. The enactment in 1935 of Rule 49 demonstrates
that the retention of water properties was not one of the evils that the Act was
intended to prohibit. To the contrary, under the right set of circumstances, the
Act intended that the acquisition of U.S. water properties by registered holding
companies would not require SEC authorization. Therefore, it seems reasonable to
conclude that the acquisition of or the retention of water properties by a FUCO,
which by definition is not a holding company, public utility company or a
service company in a registered holding company system, and which derives no
part of its income from U.S. utility companies, is that much more removed from
regulation under the Act.
For all these reasons, E.ON requests authorization to continue to own and
acquire water businesses in the context of its FUCO operations.
M. Reporting Requirements
Under German law, E.ON must prepare and publish consolidated financial
information at least semi-annually. Applicants propose to provide Rule 24
certificates on a semiannual basis, consistent with the frequency of required
financial reporting required in Germany. The Rule 24 certificates will be
provided to the Commission within 180 days after the end of E.ON's fiscal year
and within 60 days of the end of its second fiscal quarter and will contain
paper copies of E.ON's filings of Form 20-F and reports to shareholders. The
semiannual reports provided to the Commission in Rule 24 filings under this
Application shall be
83
organized so that all columns showing amounts in Euros in financial statements
or tables are accompanied by parallel columns showing U.S. dollar amounts.
The Applicants will file Form U5S annually within 180 days of the close of
E.ON's fiscal year. In addition, as required by the 1934 Act and the 1933 Act,
respectively, E.ON will file Form 20-F and reports on Form 6-K containing
material announcements as made. To maintain a consistent presentation of
financial information, the Applicants propose that the Form U5S filing will
contain: (1) U.S. GAAP financial statements for all the LG&E Energy Group
companies; and (2) U.S. GAAP financial statements or financial statements in the
format required by Form 20-F for (a) E.ON, on a consolidated basis, and (b) any
intermediate holding companies. The reporting requirements imposed by the
Commission will enable the Commission to oversee the operations of the E.ON
companies, including intrasystem transactions. All amounts expressed in Euros
shall be converted to U.S. dollars. Form U5S filings will state amounts in U.S.
dollars.
E.ON also will report annually, as a supplement to the Form U5S, service
transactions among the E.ON system companies. The report will contain the
following information:
o a narrative description of the services rendered by members of the
E.ON Group or the Powergen Group for the LG&E Energy Group, by the
members of the LG&E Group for the E.ON Group or the Powergen Group,
and by the members of the LG&E Energy Group for each other (other than
as reported on Form U-13-60);
o disclosure of the dollar amount of services rendered according to
category or department;
o identification of companies rendering services and recipient
companies; and
o disclosure of the number of LG&E Energy Group employees engaged in
rendering services to other E.ON system companies on an annual basis,
stated as an absolute and as a percentage of total employees.
Applicants also request an exemption from Rule 26(a)(1) under the Act,
regarding the maintenance of financial statements in conformance with Regulation
S-X, for any subsidiary of E.ON organized outside the U.S. Due to E.ON's
extensive foreign holdings, significant additional work and expense would be
required for the holding company to prepare such financial statements in
conformity with Regulation S-X.
The Applicants also will report annually, as a supplement to the Form
U-13-60 filed by LG&E Services, service transactions among E.ON system companies
(excepting the LG&E Energy Group) and the LG&E Energy Group. The report will
contain the following information:
(a) a narrative description of the services rendered by individual E.ON
system companies (excepting the LG&E Energy Group) to the LG&E Energy Group
and by the LG&E Energy Group to other E.ON system companies;
84
(b) disclosure of dollar amount of services rendered according to category
or department;
(c) identification of companies rendering service and recipient companies,
including disclosure of the allocation of services costs among the
companies of the LG&E Energy Group; and
(d) disclosure of the number of LG&E Energy Group employees engaged in
rendering services to other E.ON system companies on an annual basis,
stated as an absolute and as a percentage of total employees.
Item 4. Regulatory Approvals
Any German or European utility regulation affecting E.ON would apply only
to its respective German or European operating companies and not to the parent
registered holding company; therefore, there is no conflict between the
regulatory scheme under the 1935 Act and German regulation. Similarly, U.K.
utility regulation affecting Powergen (and E.ON following its acquisition of
Powergen) would apply only to its U.K. operating companies and not directly to
the parent registered holding company; therefore, there is no conflict between
the regulatory scheme under the 1935 Act and U.K. regulation. In addition to the
U.S. federal and state approvals described below, the transaction has been
reviewed by the European Commission and the U.K. Office of Gas and Electricity
Markets.
The Office of Gas and Electricity Markets has reviewed the Acquisition to
determine whether it has any adverse effect on the Powergen Group's licenses
under the Electricity Act 1989 or the Gas Act 1986 as amended by the Gas Act
1995 and subsequent legislation, including the Utilities Act 2000. E.ON has
agreed assurances with the Office of Gas and Electricity Markets.
The European Commission has reviewed the Acquisition to determine whether
it would result in undue market concentration within the scope of European
Council Regulation (EEC) 4064/89 (as amended). The European Commission has
authorized the Acquisition./72/
Set forth below is a summary of the U.S. federal and state regulatory
approvals that E.ON and Powergen expect to obtain in connection with the
Acquisition.
-----------------------
/72/ See note 12, supra.
85
A. Antitrust
The Acquisition is subject to the requirements of the HSR Act and the rules
and regulations thereunder, which provide that certain acquisition transactions
may not be consummated until certain information has been furnished to the
Antitrust Division of the Department of Justice (the "Antitrust Division") and
the Federal Trade Commission (the "FTC") and until certain waiting periods have
been terminated or have expired. Applicants have filed their premerger
notifications and the applicable waiting periods expired on November 15, 2001.
B. Federal Power Act
Section 203 of the Federal Power Act (the "FPA") provides that no public
utility may sell or otherwise dispose of its facilities subject to the
jurisdiction of the FERC or, directly or indirectly, merge or consolidate such
facilities with those of any other person or acquire any security of any other
public utility without first having obtained authorization from the FERC.
Because this transaction involves a change in ownership and control of
Powergen's Utility Subsidiaries, the prior approval of the FERC under FPA
Section 203 is required in order to consummate the Acquisition.
Under Section 203 of the FPA, the FERC is directed to approve acquisition
if it finds that it is "consistent with the public interest." In its review, the
FERC generally evaluates: (1) whether the transaction will adversely affect
competition; (2) whether the transaction will adversely affect rates; and (3)
whether the transaction will impair the effectiveness of regulation. In its
order dated October 15, 2001, the FERC authorized the Acquisition under Section
203. See Exhibit C-6.
C. Exon-Florio
The Committee on Foreign Investment in the United States ("CFIUS") may
review and investigate the Acquisition under the Exon-Florio Amendment to the
Defense Production Act of 1950, and the President of the United States or his
designee is empowered to take certain actions in relation to mergers,
acquisitions and takeovers by foreign persons that could result in foreign
control of persons engaged in U.S. interstate commerce. In particular, the
Exon-Florio Amendment enables the President to block or reverse acquisitions by
foreign persons that threaten to impair U.S. national security. Before the
Acquisition may be consummated, any CFIUS review and investigation of the
Acquisition must have terminated, and the President must not have taken any of
his authorized actions. An Exon-Florio Amendment notice to CFIUS regarding the
Acquisition was filed on November 16, 2001. On December 19, 2001, the Department
of Treasury determined that there are no issues of national security sufficient
to warrant an investigation under section 721, and that action under that
section had concluded with respect to this transaction. See Exhibit C-7.
D. State Regulatory Approval
The Acquisition requires the approval of the KPSC, VSCC and TRA.
The KPSC has jurisdiction over the Acquisition due to LG&E's and KU's
status as public utility companies in Kentucky. E.ON, Powergen, LG&E Energy,
LG&E and KU filed a joint application with the KPSC on May 14, 2001. The KPSC
approved the Acquisition on August 6, 2001, subject to the acceptance of various
business and operational conditions regarding E.ON, Powergen, LG&E Energy, LG&E
and KU. The parties notified the KPSC of their acceptance of the conditions
through letters dated August 14, 2001 and filings on
86
August 29, 2001 and September 7, 2001, and on September 17, 2001, following a
review of the record, the Commission issued an order approving the Acquisition.
The VSCC has jurisdiction over the Acquisition because of KU's utility
operations in Virginia under the name Old Dominion Power Company. E.ON,
Powergen, LG&E Energy and KU filed a joint application with the VSCC on May 24,
2001, which was accepted June 12, 2001. The VSCC approved the Acquisition on
October 5, 2001 subject to the same or similar conditions and commitments
imposed by the VSCC on Powergen's acquisition of LG&E Energy.
Consistent with previous acquisitions of holding companies that had owned
and controlled KU, KU, E.ON and Powergen requested by letter that the TRA
disclaim jurisdiction with respect to the Acquisition and provided the TRA with
a copy of their application before the KPSC for informational purposes. The TRA,
however, declined to not take jurisdiction over the proposed Acquisition and on
October 23, 2001 voted in an open session to approve the transaction. The TRA
issued an order on December 14, 2001 confirming its decision; its decision to
approve the Acquisition is effective as of October 23, 2001.
In addition, under Section 33(a)(2) of the Act, Applicants expect the
Commission to seek letters from each of the affected State Commissions
certifying that each State Commission has the authority and resources to protect
ratepayers.
The Applicants represent that the Acquisition proposed in this filing shall
be carried out in accordance with the terms and conditions of, and for the
purposes stated in, the declaration-application no later than 260 days after the
issuance of an order granting and permitting the Application to become
effective.
Item 5. Procedure
Applicants respectfully request the Commission to issue and publish the
requisite notice under Rule 23 with respect to the filing of this Application as
soon as possible, such notice to specify the minimum period allowed under the
Commission's rules during which comments may be entered. It is submitted that a
recommended decision by a hearing or other responsible officer of the Commission
is not needed for approval of the Acquisition. The Division of Investment
Management may assist in the preparation of the Commission's decision. There
should be no waiting period between the issuance of the Commission's order and
the date on which it is to become effective.
Item 6. Exhibits and Financial Statements
Exhibit List
A-1 Articles of Association and Bylaws of E.ON AG.
A-2 Memorandum and Articles of Association of Powergen plc.
B-1 Letter Agreement dated April 8, 2001.
87
C-1 Application to the Kentucky Public Service Commission.
C-2 Orders of the Kentucky Public Service Commission.
C-3 Application to the Virginia State Corporation Commission.
C-4 Order of the Virginia State Corporation Commission.
C-5 Application to the Federal Energy Regulatory Commission.
C-6 Order of the Federal Energy Regulatory Commission.
C-7 Letter from the Committee on Foreign Investment in the United States.*
C-8 Letter to the Tennessee Regulatory Authority.
C-9 Order of the Tennessee Regulatory Authority.*
D-1 Map of the Utility Service Territory of the LG&E Energy Group, filed in
paper format under cover of Form SE.
E-1 Corporate Chart of the Combined E.ON and Powergen Group, filed in paper
format under cover of Form SE.*
E-2 Management of LG&E Energy Corp., filed in paper format under cover of Form
SE.*
F-1 Annual Report of E.ON AG on Form 20-F, filed in paper format under cover of
Form SE.
F-2 Annual Report of Powergen plc on Form 20-F, filed in paper format under
cover of Form SE.
G-1 Description of E.ON's Subsidiary Companies, Including To-Be-Divested
Subsidiaries.*
G-2 Description of Powergen's Subsidiary Companies.*
H-1 Proposed Form of Notice.*
I-1 Appointment of Agent for Service of Process.
J-1 Services Agreements, incorporated by reference to Exhibit B-1, SEC File No.
074-00049, Form U-9C-3, filed May 30, 2001.
K-1 Opinion of Counsel - E.ON.
K-2 Opinion of Counsel - Powergen.
88
K-3 Past Tense Opinion of Counsel.**
Financial Statements
FS-1 E.ON AG Consolidated Financial Statements for the Year Ended and As of
December 31, 2000.
FS-2 E.ON AG Consolidated Financial Statements As of September 30, 2001.*
FS-3 Powergen plc Consolidated Financial Statements for the Year Ended and As of
December 31, 2000, incorporated by reference to Exhibit D of SEC File No.
1-13620, Form U5B, filed March 9, 2001.
FS-4 Powergen plc Consolidated Financial Statements As of September 30, 2001.*
FS-5 Pro Forma Consolidated Balance Sheet and Income Statement for the Year
Ended and As of December 31, 2000, including Notes.
FS-6 LG&E Energy Consolidated Financial Statements for the Year Ended and As of
December 31, 2000.
FS-7 LG&E Energy Consolidated Financial Statements As of September 30, 2001.**
* Filed herewith.
** To be filed by Amendment.
Item 7. Information as to Environmental Effects
The Acquisition neither involves a "major federal action" nor
"significantly affects the quality of the human environment" as those terms are
used in Section 102(2)(C) of the National Environmental Policy Act, 42 U.S.C.
Sec. 4321 et seq. Consummation of the Merger will not result in changes in the
operations of Powergen and its subsidiaries that would have any impact on the
environment. No federal agency is preparing an environmental impact statement
with respect to this matter.
SIGNATURES
Pursuant to the requirements of the Public Utility Holding Company Act of
1935, the Applicants have duly caused this Application-Declaration to be signed
on their behalf by the undersigned thereunto duly authorized. The signature of
the Applicants and of the persons on their behalf are restricted to the
information contained in this application which is pertinent to the application
of the respective companies.
Date: December 20, 2001 E.ON AG
89
By: Hans Gisbert Ulmke
Name: Hans Gisbert Ulmke
Title: Financial Director, Executive
Vice President
By: Guntram Wuerzberg
Name: Dr. Guntram Wuerzberg
Title: Vice President General Legal
Affairs
---------------------------------------- ---------------------------------------
Date: December 20, 2001 Powergen plc
Powergen US Holdings Limited
Powergen US Investments
Powergen Luxembourg sarl
Powergen Luxembourg Holdings sarl
Powergen Luxembourg Investments sarl
Powergen US Investments Corp.
By: David Jackson
Name: David Jackson
Title: Company Secretary and General
Counsel
---------------------------------------- ---------------------------------------
90
EXHIBIT INDEX
C-7 Letter from the Committee on Foreign Investment in the United States.
C-9 Order of the Tennessee Regulatory Authority.
E-1 Corporate Chart of the Combined E.ON and Powergen Group. (P)
E-2 Management of LG&E Energy Corp. (P)
G-1 Description of E.ON's Subsidiary Companies, Including To-Be-Divested
Subsidiaries.
G-2 Description of Powergen's Subsidiary Companies.
H-1 Proposed Form of Notice.
FS-2 E.ON AG Consolidated Financial Statements As of September 30, 2001.
FS-4 Powergen plc Consolidated Financial Statements As of September 30, 2001.
91