Does East Going West Make Sense For Southern Co.?
Southern is copying PCG strategy by combining its electric utility with a natural gas company. The deal will take Southern’s profitability over that of PCG. Its nuclear plant remains a risk. Southern Co. (NYSE: SO ) today announced its most transformative deal to date, an agreement to buy AGL Resources (NYSE: GAS ), parent of Georgia utility Atlanta Gas Light, for $68 in cash, a 38% premium over Friday’s close. Southern will also assume AGL’s debt, making the deal worth $12 billion. Does this make sense? If your interest lies in controlling customers, controlling a regional economy, and maintaining your dividend yield, it makes perfect sense. The model here is Pacific Gas & Electric (NYSE: PCG ), which controls both natural gas and electric utilities businesses in northern California. Over the last year PCG has done much better, as a stock, than Southern, and is still up 9% over the last year despite Monday’s sell-off. Southern, by contrast, has been flat for the year, and is now down. This has happened despite PCG having a much, lower-yielding dividend than Southern, 3.5% vs. 4.9%. It has happened despite PCG having much less control over its home state’s politics than Southern. PCG is in California, while Southern is in Georgia, Alabama, Mississippi and Florida. This means that when someone puts up a solar panel in northern California, PCG pretty much has to buy their excess power. It means that when someone wants to compete against PCG with their own grid, PCG’s ability to fight that is limited. It means that if PCG wants to build another coal-fired or nuclear power plant, and throw that cost on the back of ratepayers over the next 20-30 years, its regulators aren’t going to just roll over and ask to have their bellies tickled. Southern Co. has succeeded in slowing the growth of alternative energy throughout its service area. It has been successful in getting new power plants built and put into the rate base. It has used this to spin a story that it is a more stable investment than a company like PCG, which is subject to both market and regulatory discipline. The market says that argument is nonsense, so Southern is now interested in copying the PCG strategy, at least to the extent of offering heating as well as cooling. The impact of this deal will not be as great as many think, because Southern is much, much bigger than AGL. The combined company had revenue last quarter of $5.014 billion, and $685 million of net income. Compare that to the $406 million in net income on $4.217 billion achieved by PCG over the last quarter – Southern actually comes out a bit ahead with 13.6% of gross going to net against 9.6% for PCG. Then consider the “synergies,” the administrative expenses Southern can cut out, and this looks very good, indeed. Southern still has some serious problems. Southern’s latest nuclear effort has already cost it $1 billion in overruns – Southern subsidiary Georgia Power is on the hook for a little less than half that, $467 million. Can it sell that extra power for enough to justify the expense? That is becoming a real risk. Excepting that, this is a pretty good deal. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.