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(AS FILED APRIL 21, 1999)
File No. 70-[____]
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM U-1
APPLICATION OR DECLARATION
UNDER THE
PUBLIC UTILITY HOLDING COMPANY ACT OF 1935
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SEMPRA ENERGY
101 Ash Street
San Diego, California 92101
(Names of companies filing this statement and
addresses of principal executive offices)
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None
(Name of top registered holding company parent)
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John R. Light
Executive Vice President and General Counsel
Sempra Energy
101 Ash Street
San Diego, California 92101
(Name and address of agent for service)
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The Commission is requested to send copies of all notices,
orders and communications in connection with this Application
or Declaration to:
Gary Kyle, Esq. Richard M. Farmer, Esq.
Donald C. Liddell, Esq. Andrew F. MacDonald, Esq.
Sempra Energy William C. Weeden
633 West Fifth Street, Suite 5200 Thelen Reid & Priest LLP
Los Angeles, California 90071 40 West 57th Street
New York, New York 10019
Martha B. Wyrsch, Vice President, William S. Scherman, Esq.
General Counsel and Secretary Skadden, Arps, Slate, Meagher & Flom LLP
370 Van Gordon Street 1440 New York Avenue, NW
P.O. Box 281304 Washington, D.C. 20005-2111
Lakewood, Colorado 80228-8304
TABLE OF CONTENTS
Item 1. Description of Proposed Transaction ................................. 1
1.1 Introduction ......................................................... 1
1.2 Description of Parties to the Transaction and Their Businesses ....... 2
(a) Sempra Energy ................................................... 2
(i) Sempra's Public-Utility Operations ........................ 2
(ii) Sempra's Non-Utility Subsidiaries ......................... 6
(b) K N Energy, Inc. ................................................ 8
(i) K N's Retail Gas Distribution Operations .................. 8
(ii) K N's Non-Utility Subsidiaries ............................ 11
Interstate Pipelines .................................... 11
Intrastate Pipelines .................................... 13
Gathering and Processing Operations ..................... 14
Marketing Operations .................................... 15
Other Non-Utility Operations ............................ 15
1.3 Principal Terms of Merger Agreement .................................. 16
1.4 Sempra's Reasons for the Merger ...................................... 17
Item 2. Fees, Commissions and Expenses ...................................... 19
Item 3. Applicable Statutory Provisions ..................................... 20
3.1 General Overview of Statutory Requirements ........................... 20
3.2 Section 10(b) ........................................................ 21
(a) Section 10(b)(1) ................................................ 21
(i) Interlocking Relationships ................................. 21
(ii) Concentration of Control .................................. 22
(b) Section 10(b)(2) ................................................ 25
(i) Reasonableness of Consideration ............................ 26
(ii) Relationship of Consideration to be Paid to Earnings
Capacity of Utility Assets Underlying Securities
to be Acquired ......................................... 28
(iii) Reasonableness of Fees ................................... 29
(c) Section 10(b)(3) ................................................ 29
(i) Capital Structure .......................................... 29
(ii) Protected Interests ....................................... 31
3.3 Section 10(c) ........................................................ 31
(a) Section 10(c)(1) ................................................ 32
(b) Section 10(c)(2) ................................................ 33
(i) Operation as a "Single Coordinated System .................. 34
Effect of the California Affiliate Transaction Rules ... 35
Coordination Through Non-Utility Marketing Affiliates .. 37
(ii) Single Area or Region ..................................... 39
Common Source of Supply ................................ 40
State of the Art ....................................... 41
(iii) No Impairment ............................................. 42
(iv) Economies and Efficiencies ................................ 43
3.4 Section 10(f) ........................................................ 43
3.5 Section 3(a)(1) ...................................................... 44
(a) Sempra Will Not Derive Any Material Part of Its Income From K N's
Retail Gas Division .......................................... 44
(b) Sempra Will Remain Predominantly Intrastate in Character and
Carry On its Business Substantially in a Single State ........ 49
(c) The Exemption of Sempra Will Not Be Detrimental to the Public
Interest or Interest of Investors or Consumers ............... 49
Item 4. Regulatory Approvals ................................................ 50
Item 5. Procedure ........................................................... 51
Item 6. Exhibits and Financial Statements ................................... 51
A Exhibits ....................................................... 51
B. Financial Statements ........................................... 53
Information as to Environmental Effects ............................. 54
ii
ITEM 1. DESCRIPTION OF PROPOSED TRANSACTION.
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1.1 Introduction. Sempra Energy ("Sempra"), an exempt holding company
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pursuant to Section 3(a)(1) of the Public Utility Holding Company Act of 1935,
as amended (the "Act"),1/ herein requests authorization pursuant to Sections
9(a)(2) and 10 of the Act to acquire all of the issued and outstanding common
stock of K N Energy, Inc. ("K N") (the "Transaction"). K N is directly engaged
in retail natural gas distribution operations in three states and is therefore a
"gas utility company" within the meaning of Section 2(a)(4) of the Act. Through
its non-utility subsidiaries, K N engages in gas transportation, gathering and
production, gas marketing and other energy-related businesses. On a consolidated
basis, K N's gas distribution operations account for a minor part (about 5%
based on gross revenues) of its overall operations, which are overwhelmingly
focused in the midstream and upstream segments of the natural gas industry.
Sempra also requests an order of the Commission confirming that it will
continue to be entitled to an exemption under Section 3(a)(1) of the Act
following its acquisition of K N as an additional public utility subsidiary.
The Transaction will be governed by the terms of an Agreement and Plan of
Merger (the "Merger Agreement"), dated as of February 20, 1999, among Sempra, K
N and Cardinal Acquisition Corp. ("Cardinal"), a wholly-owned, special purpose
California corporation organized by Sempra for the purpose of carrying out the
Transaction. Consummation of the Transaction is conditioned upon approval by
this Commission and by the Colorado Public Utilities Commission ("Colorado
PUC"), the Wyoming Public Service Commission ("Wyoming
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1/ See Sempra Energy, 67 SEC Docket 994 (June 26, 1998) and 69 SEC Docket 104
(February 1, 1999).
PSC"), and the Federal Energy Regulatory Commission ("FERC").2/ The Transaction
is also subject to the filing of Pre-Merger Notification Report Forms under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976 ("H-S-R Act") and the
expiration or early termination of the required waiting period, approval by the
shareholders of Sempra and K N and other usual and customary conditions
precedent for a transaction of this type.
1.2 Description of Parties to the Transaction and Their Businesses.
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(a) Sempra Energy. Sempra, a California corporation, was organized in
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1997 in order to effect a business combination between Pacific Enterprises (the
parent company of Southern California Gas Company ("SoCalGas"), a gas utility
company), and Enova Corporation (the parent company of San Diego Gas and
Electric Company ("SDG&E"), a combination gas and electric utility company).
That business combination was consummated in June 1998. As a result, Sempra
indirectly owns all of the issued and outstanding common stock of SoCalGas and
SDG&E. At February 28, 1999, Sempra had issued and outstanding 240,111,553
shares of common stock, without par value. Its shares trade on the New York and
Pacific stock exchanges.
(i) Sempra's Public-Utility Operations. SoCalGas distributes gas at
retail to approximately 4.8 million customers3/ within a service territory of
23,000 square miles in central and southern California. The SoCalGas system
includes approximately 2,900 miles of transmission and storage pipeline, 44,000
miles of distribution pipeline, 43,000 miles of service pipeline, and 10
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2/ In their Application to the FERC (Exhibit D-5 hereto), the applicants
also requested FERC to disclaim jurisdiction over the transaction. However,
because the applicants have requested FERC approval by July 15, 1999, the
disclaimer request was made in the alternative.
3/ Here and elsewhere in this Application, customers are counted by meters,
as distinct from the number of people in a household served by a single meter.
2
compressor stations, as well as five underground storage reservoirs with a
combined working capacity of about 116 billion cubic feet ("Bcf").
SDG&E is engaged in the generation, transmission, distribution, and sale of
electricity and the distribution and sale of natural gas. SDG&E serves
approximately 1.2 million electricity customers within a franchised service
territory that includes San Diego County and southern Orange County, California.
SDG&E currently operates fossil fuel-fired generating units with an aggregate
capacity of 1,924 MW. This generation consists of two steam stations, Encina
(965 MW) and South Bay (706 MW), and 17 non-power plant combustion turbines (253
MW).4/ In November 1997, SDG&E committed itself to divesting all of its fossil
fuel-fired generating capacity by the end of 1999.5/ On December 11, 1998, SDG&E
concluded separate agreements for the sale of the South Bay station, the Encina
station and the 17 combustion turbines. SDG&E also owns a 20 percent share (430
MW) of the San Onofre Nuclear Generating Station ("SONGS"). When divestiture of
its fossil fuel-fired generation is complete, SDG&E's generation capacity will
be limited to its share of SONGS. SDG&E has announced its intention to divest
itself of SONGS, but has not yet concluded any agreement to do so.
In addition to providing electric service, SDG&E provides natural gas
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4/ One of the five generating units at the Encina station, Unit 5, is owned
by PSEG Resources, Inc., which leases the unit to SDG&E.
5/ SDG&E was subsequently required to divest its Encina and South Bay plants
by the terms of a Stipulation and Order entered into with the Department of
Justice in March 1998 with respect to the Enova Corporation/Pacific Enterprises
merger. That agreement (a copy of which was lodged with the FERC in Docket No.
EC97-12-000 on March 10, 1998) also limits SDG&E's future ability to acquire
generation in California. Separately, the California Public Utilities
Commission required SDG&E to divest itself of its gas-fired generation as a
condition to authorization of the Enova Corporation/Pacific Enterprises merger.
See In Re Pacific Enterprises, et al.,184 PUR 4th 417, 498 (1998).
3
service to more than 700,000 customers in San Diego County. SDG&E's natural gas
facilities include 164 miles of transmission pipeline, 6,843 miles of
distribution pipeline, and two compressor stations. All of the gas delivered to
SDG&E by its suppliers is transported through the SoCalGas pipeline system.
For the year ended December 31, 1998, Sempra reported consolidated
operating revenues of $5.525 billion, of which $2.772 billion represented gas
utility revenues (including revenues from transporting customer-owned gas) and
$1.865 billion represented electric revenues. At December 31, 1998, Sempra had
total assets of $10.456 billion, of which $5.441 billion represented net utility
(electric and gas) plant. During 1998, the total gas delivered on the Sempra
system was 962 Bcf, of which 521 Bcf (or about 54%) represented deliveries of
customer-owned gas for which the company provides only transportation service.
Electric sales in 1998 totaled 17,955 million kwhrs.
SoCalGas and SDG&E derive substantially all of their gas requirements from
sources outside of California. SoCalGas and SDG&E purchase gas for their "core"
customer6/ needs under a variety of long-term, short-term and daily contracts
from producers in several different supply basins, as well as from gas marketers
and brokers, including Sempra Energy Trading Corp. ("Sempra Trading"), Sempra's
principal marketing affiliate, under an open-bidding program. Specifically, in
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6/ The term "core" customer is used here and throughout this Application to
refer to customers who purchase their gas from the utility company which
delivers it, as distinct from customers (called "transportation-only" customers)
who purchase their gas from marketers or other third parties and merely pay the
local distribution utility a transportation charge for the delivery service.
Sales of gas to core customers are also sometimes referred to as "bundled"
sales, whereas transportation provided separately is sometimes referred to as
"unbundled" transportation service.
4
1998, SoCalGas and SDG&E purchased approximately 40% of their combined system
gas requirements from production in the San Juan Basin, which is located
primarily in New Mexico and Colorado in the "Four Corners" area, approximately
20% in the Permian Basin, which is located in west Texas, approximately 18% in
the Western Canada Sedimentary Basin, which is located primarily in western
Alberta,7/ and most of the balance from marketers at the California border.
Gas purchased by SoCalGas and SDG&E in the San Juan and Permian Basins is
transported under long-term contracts between SoCalGas and El Paso Natural Gas
Company ("El Paso") and Transwestern Pipeline Company ("Transwestern"). Canadian
gas is transported to southern California via the Alberta Natural Gas ("ANG")
pipeline system to a point of interconnection at the U.S.-Canada border with the
PG&E Gas Transmission, Northwest Corporation ("PGT") pipeline and from there to
the Stanfield, Oregon interconnection with Northwest Pipeline Corp.
("Northwest"). Northwest, in turn, interconnects at the Blanco/San Juan Hub with
both El Paso and Transwestern, which deliver the gas to the California border.
Most of the gas delivered to SoCalGas for redelivery to transportation-only
customers is produced in the San Juan and Rocky Mountain region basins.8/ Of the
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7/ Here and throughout this Application, the designations of the major
producing regions in the U.S. and Canada, and of the basins and fields which
comprise those regions, follow the designations used by the U.S. Department of
Energy - Energy Information Administration. See "Deliverability on the
Interstate Natural Gas Pipeline System," Energy Information Administration
(DOE/EIA-0618(98)) (May 1998), ch. 2.
8/ The Rocky Mountain region describes a producing area that is generally
understood to include, in whole or in part, the Uinta/Piceance Basin in eastern
Utah and western Colorado, the Denver/Julesberg Basin in Colorado, and the
Powder River, Green River, and Wind River Basins in Wyoming.
5
520 Bcf of customer- owned gas delivered in 1998, it is estimated that 320 Bcf
and 128 Bcf, respectively, was produced in these two basins. Gas from the Rocky
Mountain basins is transported on the Kern River Gas Transmission Co. system to
the interconnection with SoCalGas at Wheeler Ridge, California.9/
SoCalGas and SDG&E are subject to pervasive regulation by the California
Public Utilities Commission ("California PUC").
In 1998, Sempra acquired an interest in Frontier Energy, LLC ("Frontier
Energy"), a North Carolina limited liability company that is completing
construction of a new gas utility distribution system in a four-county area of
western North Carolina.10/ Frontier Energy commenced gas deliveries in December
1998. Frontier Energy is subject to regulation as to its rates and service by
the North Carolina Utilities Commission.
(ii) Sempra's Non-Utility Subsidiaries. Sempra's principal non-utility
subsidiaries and their respective businesses are as follows:
Sempra Trading is a marketer of natural gas, electricity, and other energy
products. Sempra Trading (formerly AIG Trading Corp.) was acquired by Sempra in
December 1997. It is authorized by FERC to make sales of electricity, and
ancillary services in California, at market-based rates.11/ Sempra Trading
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9/ The Kern River Gas Transmission system was constructed primarily to serve
the enhanced oil recovery (EOR) operations in Kern County, California. The
facilities were designed to transport 1.1 Bcf per day of gas produced in Wyoming
to California. See Kern River Gas Transmission Company, et al., 50 FERC
(PARAGRAPH) 61,069 (January 24, 1990), reh'g denied 51 FERC (PARAGRAPH) 61,195
(May 21, 1990).
10/ See Sempra Energy, 69 SEC Docket 104 (February 1, 1999) (hereinafter
referred to as "Sempra/Frontier").
6
neither owns nor controls any physical facilities for the production,
processing, or transportation of any of the commodities it trades or sells.
Enova Energy, Inc. ("E.I.") is a marketer of electricity. It is authorized
to make sales of electricity at market-based rates,12/ but is not actively
engaged in doing so. Like Sempra Trading, E.I. has no physical facilities for
the production, processing, or transportation of the commodity it sells.
Sempra Energy Resources is an unregulated subsidiary engaged in the
business of acquiring and developing power plants and natural gas storage,
production, and transportation assets in support of other Sempra subsidiaries.
Sempra Energy Resources is the joint owner, with Houston Industries Power
Generation, of El Dorado Energy, LLC, which is developing a 480 MW merchant
power plant in Boulder City, Nevada, near Las Vegas. The El Dorado facility is
scheduled for completion in late 1999.
Sempra Energy Solutions, Sempra's retail marketing subsidiary, provides
energy services and products at retail to competitive energy markets in
California and throughout the United States.
Sempra Energy International is engaged in the construction, ownership and
operation of natural gas distribution and power generation projects outside the
United States. Sempra Energy International does not own or operate any regulated
utilities within the United States.
Sempra Energy Financial participates in tax-advantaged investments such as
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11/ AIG Trading Corp., 71 FERC (PARAGRAPH) 61,148 (1995); Sempra Energy
Trading Corp., 85 FERC (PARAGRAPH) 61,122 (1998).
12 Enova Energy, Inc., 76 FERC (PARAGRAPH) 61,242 (1996).
7
affordable housing and alternative fuels.
Sempra Energy Utility Ventures ("SEUV") engages in the acquisition,
development, and operation of regulated energy utilities in the eastern United
States and Canada. SEUV was instrumental in completing the development of the
Frontier Energy system in North Carolina and is currently involved in other
similar development efforts in New England and Canada.
(b) K N Energy, Inc. K N and its subsidiaries engage in natural gas
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gathering, processing, storage, transportation, distribution, and marketing of
natural gas, natural gas liquids and electric power in 16 central and western
states, with the majority of its operations in Texas, Oklahoma, Kansas,
Nebraska, Colorado, Wyoming and Illinois. K N and its subsidiaries operate more
than 26,000 miles of interstate, intrastate and offshore transmission pipelines,
approximately 11,000 miles of gathering and processing pipelines, approximately
7,000 miles of local gas distribution pipelines, 16 storage facilities, and 19
natural gas processing plants with a total processing capacity of approximately
1.7 Bcf per day.
For the year ended December 31, 1998, K N reported consolidated operating
revenues of $4.388 billion, of which $222.8 million (or about 5.1%) were derived
from the distribution of gas at retail. At December 31, 1998, K N had total
assets of $9.612 billion, including $7.023 billion of net property, plant and
equipment, of which $165.5 million (or about 2.4% of the total) consisted of net
plant associated with K N's retail gas distribution business.
At February 28, 1999, K N had issued and outstanding 69,651,991 shares of
common stock, $5 par value. Its shares trade on the New York Stock Exchange.
(i) K N's Retail Gas Distribution Operations. K N is directly engaged
in the distribution of natural gas at retail to more than 210,000 customers in
mostly rural areas of Nebraska, Colorado, and Wyoming through a system of 7,200
8
miles of distribution pipelines. It distributes gas in these three states
directly through a corporate division that is hereinafter referred to as the
"Retail Gas Division."13/ All of K N's other business activities, which are
described below, are conducted through wholly and partly-owned subsidiaries
which, for purposes of the Act, are not public-utility companies.
In Colorado, the Retail Gas Division provides retail service to
approximately 47,400 residential, commercial, industrial, irrigation and grain
drying customers in more than 30 towns in the western slope of Colorado, 4 towns
north of Denver in the Front Range area, and 11 towns in the northeast corner of
the state. The largest towns served in Colorado are Glenwood Springs, Aspen, and
Montrose. Rocky Mountain Natural Gas Company, an intrastate pipeline subsidiary
of K N which operates a 717-mile a pipeline system, provides transportation
service to the Retail Gas Division and other transportation customers in the
western slope area. The Retail Gas Division's service area in Colorado is shown
on Exhibit E-2 hereto.
In Wyoming, the Retail Gas Division provides gas service to approximately
64,700 residential, commercial and irrigation customers in 40 towns in the
eastern and central parts of the state. The largest towns served are Casper,
Laramie, and Gillette. Northern Gas Company, an intrastate pipeline subsidiary
of K N, provides transportation service for most of the towns served by the
Retail Gas Division over a 727-mile pipeline system. The Retail Gas Division's
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13/ The only operations of K N that are gas utility operations, within the
meaning of the Act, are those conducted directly by K N through its Retail Gas
Division. K N itself has no other significant operating assets. In this regard,
the structure of K N is similar to that of ENSERCH Corporation, which was also
an integrated gas company, at the time that it was acquired by TUC Holding
Company. See TUC Holding Company, 65 SEC Docket 301 (August 1, 1997).
9
service area in Wyoming is shown on Exhibit E-3 hereto.
In Nebraska, the Retail Gas Division serves approximately 99,700
residential, commercial, industrial and agricultural customers in 180 towns
throughout much of the state. The largest towns served are Scotts Bluff,
Kearney, and McCook. The Retail Gas Division's facilities in Nebraska consist of
approximately 4,348 miles of distribution pipelines. Gas is delivered to the
Nebraska system by K N Interstate Gas Transmission Company (" K N Interstate"),
an interstate pipeline subsidiary of K N. The Retail Gas Division's service area
in Nebraska is shown on Exhibit E-4 hereto.
For the year ended December 31, 1998, the Retail Gas Division reported
total operating revenues of $222.8 million, net operating revenues (gross
revenues less cost of gas) of $104.7 million, and net income of $11.9 million,
respectively. At December 31, 1998, the Retail Gas Division had total assets of
$290.2 million, including $165.5 million in net utility plant and equipment,
$37.5 million in advances to associate companies, and $51.1 million in current
assets (cash, accounts receivable, prepaid items, etc.). As indicated, the
operations and assets of the Retail Gas Division represent an immaterial part of
K N's consolidated operations and assets (5.1% in terms of gross revenues) and,
on a pro forma basis, will represent less than 5% of the combined operations and
assets of all of Sempra's public utility subsidiaries (also based on gross
revenues).
The Retail Gas Division purchases all of its gas supplies from gas
marketers, including K N Services, Inc. ("K N Services"), K N's principal gas
marketer subsidiary. Most of this gas is produced in the Rocky Mountain region
basins (currently about 61%) and the Anadarko/Arkoma Basin (currently about
29%). The company also purchases gas that is produced in the San Juan Basin, the
10
Western Canada Sedimentary Basin, and in producing areas in Montana, Kansas and
western Nebraska. In contrast to Sempra's subsidiaries, which in 1998 delivered
962 Bcf of gas, the Retail Gas Division in 1998 delivered only 50 Bcf of gas.
Approximately 57% (28.4 Bcf) of the gas delivered by the Retail Gas Division
represented bundled sales and the remaining 43% (21.6 Bcf) deliveries of
customer-owned gas under various "customer choice" programs that have been
implemented in the three-state service area. Approximately 58% of the gas
purchased by the Retail Gas Division for bundled sales was supplied by K N
Services. K N Services also supplied about 80% of the gas delivered by the
Retail Gas Division under customer choice programs.
(ii) K N's Non-Utility Subsidiaries. Through its non-utility
subsidiaries, K N is engaged in interstate and intrastate pipeline
transportation, gathering and production, and marketing, among other non-utility
businesses. K N's principal non-utility subsidiaries, broken down by major
business segment, are as follows:
Interstate Pipelines: K N Interstate and MidCon Corp. ("MidCon"), which K N
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acquired in January 1998 and which owns Natural Gas Pipeline Company of America
("NGPL"), are K N's principal interstate pipeline subsidiary companies. K N
Interstate owns and operates more than 6,600 miles of transmission lines in
Wyoming, Colorado, Kansas, Nebraska and Missouri.14/ The K N Interstate system
is powered by 120 compressor stations with an aggregate of approximately 127,000
horsepower. K N Interstate operates one storage field, located in Nebraska, with
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14 This figure includes the 804-mile Pony Express Pipeline, which extends
from Lost Cabin, Wyoming eastward through Nebraska, Colorado, Kansas, and
Missouri, terminating in Freeman, Missouri, near Kansas City.
11
a working capacity of 2.9 Bcf.
NGPL owns and operates approximately 11,600 miles of interstate pipelines,
field system lines, and related facilities. The NGPL system consists primarily
of two major interconnected transmission pipelines.15/ The Amarillo Line,
comprised of 6,600 miles of mainline and small-diameter lines, originates in the
basins of West Texas and New Mexico and terminates in the Chicago, Illinois
metropolitan area. The Gulf Coast Line, comprised of approximately 4,300 miles
of mainline and small-diameter lines, originates in the Gulf Coast areas of
Texas and Louisiana and also terminates in the greater Chicago area. The
Amarillo and Gulf Coast lines are connected by a 230-mile line running between
Texas and Oklahoma. NGPL's system is powered by 61 compressor stations with an
aggregate of approximately one million horsepower. NGPL owns and operates nine
underground storage fields in four states with over 200 Bcf of working gas
capacity.
In addition to K N Interstate and NGPL, K N owns or holds interests in two
new interstate pipeline projects. K N Wattenberg Transmission Company ("K N
Wattenberg") has received authorization to acquire, construct and operate a new
interstate pipeline between Rockport, Colorado, near the Colorado-Wyoming
border, and Denver.16/ K N Wattenberg's authority to construct the 108-mile
line, dubbed the "Front Runner," will expire in July 1999. In addition, K N is a
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15 NGPL also owns equity interests in several regulated natural gas pipeline
systems, including the High Island Offshore System, U-T Offshore System, and
Stingray offshore pipeline, all in the Gulf of Mexico, and the Trailblazer
pipeline, which carries gas from production areas in Wyoming and Colorado to
Mid-Continent pipelines.
16 Although the line falls entirely within Colorado, it will carry
Wyoming-produced natural gas and is thus an interstate line subject to the
FERC's jurisdiction under the Natural Gas Act of 1938. See K N Wattenberg
Transmission, LLC, 85 FERC (PARAGRAPH) 61,204 (1998).
12
50 percent partner with Questar Corp. in TransColorado Gas Transmission Company
("TransColorado"), which owns and operates a pipeline system in western
Colorado.17/ The TransColorado pipeline, which was completed in February 1999,
has a transmission capacity of 300 MMcf per day and extends 292 miles from an
area in northwest Colorado known as the Greasewood Hub, where it interconnects
with several other interstate pipelines, to the Blanco/San Juan Hub in northwest
New Mexico, where it interconnects with the El Paso and Transwestern pipeline
systems. The TransColorado pipeline was designed to link production in the
Piceance Basin of western Colorado and Uinta Basin of eastern Utah with the El
Paso and Transwestern systems, thereby improving the access of west coast
markets to production in the Rocky Mountain region. It will also provide the
Retail Gas Division with increased flexibility in obtaining gas produced in the
San Juan Basin.
Intrastate Pipelines. In addition to Rocky Mountain Natural Gas
---------------------
Company and Northern Gas Company, K N's intrastate pipeline subsidiaries in
Colorado and Wyoming, K N also operates intrastate transmission systems in Texas
and Oklahoma. K N's West Texas system includes 4,900 miles of pipeline capacity
interconnected with eight interstate pipelines. MidCon Texas Pipeline Operator,
Inc. ("MidCon Texas") has a partial interest in a storage facility near Markham,
Texas, with a 5.7 Bcf working gas capacity. A second subsidiary, American Gas
Storage, L.P., operates storage facilities in the West Texas region with a
combined working gas capacity of 16.4 Bcf.
Another subsidiary, Westar Transmission Company ("Westar"), owns and
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17/ See TransColorado Gas Transmission Company, 67 FERC (PARAGRAPH) 61,301
(1994), 76 FERC (PARAGRAPH) 61,366 (1996), and 85 FERC (PARAGRAPH) 62,062
(1998).
13
operates approximately 6,500 miles of intrastate transmission lines in western
Texas. This includes the Red River Pipeline and most of the Texas pipelines of
AOG Gas Transmission Company ("AOGGT"), which were made part of Westar on
November 1, 1998. The remainder of AOGGT's Texas facilities are subject to a
lease arrangement under which a third-party financial institution is the lessor
and AOGGT remains the lessee. AOGGT, in turn, has authorized Westar to operate
the leased facilities as part of the Westar intrastate system.
Gathering and Processing Operations: K N operates gathering and processing
-----------------------------------
facilities in seven Mid-Continent and Rocky Mountain states, primarily through K
N Gas Gathering, Inc. ("KNGG"). These facilities include approximately 11,000
miles of gathering lines, with annual gathering of 344 Bcf, and 20 natural gas
processing plants. The company's largest gathering operation is in the Hugoton
field in Kansas,18/ which gathers approximately 530 MMcf per day. K N's
Wattenberg system, in northeastern Colorado, has a throughput of 150 MMcf per
day. K N's West Texas System, located primarily in western Texas and the Texas
Panhandle, includes gathering, intrastate transmission and storage pipelines,
six processing plants, and one storage facility, and has gathering throughput of
140 MMcf per day. K N also owns gathering facilities in the Powder River and
Wind River Basins of Wyoming and the Piceance and Uinta Basins of Colorado and
Utah, with a combined throughput of 130 MMcf per day.
K N also owns an equity interest in the Red Cedar Gathering System in the
San Juan Basin of New Mexico. This system gathers approximately 440 MMcf of
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18/ The Hugoton field is the largest gas field in the Anadarko/Arkoma Basin,
which extends through Arkansas, Kansas and Oklahoma.
14
natural gas per day and is connected to a processing plant. It will also be
connected to the recently completed TransColorado pipeline system. Interenergy
Corp, a subsidiary acquired by K N in December 1997, owns a system which gathers
20 MMcf per day, a gas processing plant in Wyoming, and an interest in a gas
processing plant in North Dakota.
Finally, Wildhorse Energy Partners, LLC, a joint venture between K N and
Tom Brown, Inc., owns natural gas gathering and processing facilities in western
Colorado with a throughput of approximately 70 MMcf per day. The joint venture
also owns storage facilities with 2.7 Bcf of working gas capacity.
Marketing Operations: K N Services and K N Marketing, L.L.P. are K N's
--------------------
principal natural gas marketing and brokering subsidiaries. Although authorized
by the FERC to sell electric power at market-based rates, K N Services is not
actively engaged in doing so. As previously indicated, K N Services supplies
about 58% of the total requirements of Retail Gas Division for its bundled gas
sales and, in addition, is the predominant supplier under the Retail Gas
Division's customer choice programs.
Other Non-Utility Operations: K N also provides unregulated retail service
----------------------------
through EN*able, LLC, a joint venture with PacifiCorp. EN*able markets the
"Simple Choice" package of products that allows customers to order natural gas
service, satellite TV, long-distance telephone service, internet access, and
other products and services through a single service provider. EN*able is
strictly a service company, with no physical facilities for the production or
transportation of energy.
Through other subsidiaries, K N holds interests in four qualifying
facilities ("QFs"), as defined under the Public Utility Regulatory Policies Act
of 1978, which are located in Ft. Lupton and Greeley, Colorado. The four QFs
15
have a total generation capacity of 380 MW. The power generated by these QFs is
sold to Public Service Company of Colorado under long-term contracts that expire
between 2009 and 2019.19/
Consolidated assets of K N and subsidiaries as of December 31, 1998, were
approximately $9.6 billion, consisting of $7.0 billion in net plant property and
equipment, and $2.1 billion in current assets (cash, securities, accounts
receivable, etc.). For the twelve months ended December 31, 1998, K N reported
consolidated operating revenues of $4.4 billion, consolidated operating income
of $344.5 million and consolidated net income of $60 million. As indicated,
only 5.1% of K N's consolidated operations, based on gross revenues, is
represented by the Retail Gas Division.
1.3 Principal Terms of Merger Agreement. The Merger Agreement provides that
-----------------------------------
K N will be merged with and into Cardinal, a wholly-owned subsidiary of Sempra.
Upon completion of the merger, Cardinal will be renamed "K N Energy, Inc." All
of the property, rights, privileges, immunities, powers and franchises of K N
before the merger will vest in Cardinal and all of the debts, liabilities and
duties of K N before the merger will become the debts, liabilities and duties of
Cardinal.
On the effective date of the merger, each share of K N's common stock ("K N
Shares") (other than shares as to which appraisal rights have been perfected
under Kansas law, shares held in the treasury of K N and shares owned by Sempra
or any of its subsidiaries) will be converted, at the election of the holder
- -------------
19/ K N will assure that its interests in the QFs are structured as
necessary to maintain their QF status (and hence their exemption as "electric
utility companies" under the Act) after the combination with Sempra.
16
thereof, into the right to receive 1.115 shares of Sempra's common stock
("Sempra Shares"), or $25.00 in cash, or a combination of Sempra Shares and
cash, for each K N Share. This ratio represents a blended premium of 24 percent
to the market price of K N Shares, based on the average closing price of the
stock of each company during the week immediately preceding conclusion of the
Merger Agreement. Shareholders of K N have the option to choose cash, Sempra
Shares, or a combination of the two, subject to pro-ration, such that at least
70 percent of the K N Shares outstanding will be converted into Sempra Shares
and not more than 30 percent of the K N Shares will be converted into cash.
As a result of the Transaction, K N will become a wholly-owned subsidiary
of Sempra, and the former K N shareholders will own approximately 19% of
Sempra's outstanding common stock after the merger, based on the number of
shares of Sempra's common stock and K N's common stock outstanding on March 16,
1999. Under the terms of the Merger Agreement, three members of K N's board of
directors will become members of Sempra's board, which will have 17 members.
As indicated, the Transaction is subject to approval by the shareholders of
both companies, to the approvals of this Commission and the FERC and the public
service commissions of Colorado and Wyoming.
1.4 Sempra's Reasons for the Merger. Sempra believes that its combination
-------------------------------
with K N will create a good strategic fit between two energy companies which are
currently engaged in different, yet complementary, segments of the natural gas
industry: local gas distribution in the case of Sempra, and midstream (i.e.,
transportation, storage and marketing) and upstream (i.e., gathering and
processing) operations in the case of K N. Sempra derives almost all of its
17
revenues from regulated sales of gas and electricity and sales of electricity
into the California Power Exchange. In contrast, K N is primarily engaged in gas
transportation and related midstream market businesses and gathering and
processing operations, primarily in the Rocky Mountain and Mid-continent
regions, and only incidentally engaged (through its Retail Gas Division) in
retail gas distribution.
Among other benefits of the Transaction, Sempra believes that K N's
interstate pipeline system will allow Sempra to expand its participation in the
highly-competitive energy market that broadly stretches from the Gulf Coast to
Chicago (the terminus of both legs of the NGPL system) and across the Rocky
Mountains to California. The combination will broaden Sempra's assets and
earnings base into non-state regulated energy sectors with higher growth
potential. See the Joint Proxy Statement (Exhibit C-2 hereto) for a more
detailed discussion of Sempra's reasons for the merger.
The Transaction is expected to produce benefits for investors and consumers
and will satisfy all of the applicable standards under Section 10 of the Act.
Sempra and K N believe that the Transaction will provide important strategic and
financial benefits to their respective shareholders and will position the
combined company to compete more effectively with other energy suppliers in the
increasingly unregulated and competitive energy services industry. Further, as
explained more fully in Item 3 - Applicable Statutory Provisions, Sempra
believes that K N's Retail Gas Division will realize various operating economies
and efficiencies as a result of the Transaction.
Upon consummation of the Transaction, Sempra will own an integrated gas
utility system comprised of its existing gas distribution properties in southern
California, K N's Retail Gas Division properties in Colorado, Wyoming and
18
Nebraska, and Frontier Energy's system in western North Carolina, as well as an
integrated electric utility system in San Diego and surrounding areas. As stated
above, the utility operations of Sempra in California are substantially larger
than those of K N's Retail Gas Division and Frontier Energy combined. Thus,
after giving effect to the Transaction, Sempra will remain predominantly an
intrastate (i.e., California) holding company that will not derive any material
part of its income from any non- California public-utility operations.
Accordingly, Sempra requests an order pursuant to Section 3(a)(1) of the Act
confirming that Sempra and its subsidiary companies, as such, will continue to
be exempt from all provisions of the Act, except Section 9(a)(2).
ITEM 2. FEES, COMMISSIONS AND EXPENSES.
------------------------------
The fees, commissions and expenses to be paid or incurred, directly or
indirectly, in connection with the Transaction, including the solicitation of
proxies, registration of securities of Sempra under the Securities Act of 1933,
and other related matters, are estimated as follows:
SEC filing fee for the Joint Proxy/
Registration Statement on Form S-4 $ 425,000
Accountant's fees 1,000,000
Legal fees and expenses 4,500,000
Investment advisors' fees 18,100,000
Costs of proxy solicitation (incl. printing and mailing) 1,750,000
HSR Act filing fee 45,000
Consulting fees related to public relations,
regulatory support, and other matters
19
pertaining to Transaction 1,000,000
Other (travel, printing, exchange listing fees, etc.) 400,000
==========
TOTAL $27,220,000
ITEM 3. APPLICABLE STATUTORY PROVISIONS.
-------------------------------
3.1 General Overview of Statutory Requirements. Sections 9(a)(2) and 10 of
------------------------------------------
the Act are applicable to the Transaction. Section 9(a)(2) provides that it is
unlawful, without approval under Section 10 of the Act, "for any person . . . to
acquire, directly or indirectly, any security of any public-utility company, if
such person is an affiliate, under [Section 2(a)(11)(A)] of such company and of
any other public utility or holding company, or will by virtue of such
acquisition become such an affiliate." As defined in Section 2(a)(11)(A), 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 . . .." Sempra is
currently an "affiliate" of three public-utility companies: SoCalGas, SDG&E, and
Frontier Energy; and will, upon consummation of the Transaction, become an
"affiliate" of an additional public-utility company: K N, by virtue of the
Retail Gas Division.
The statutory standards for approval of the Transaction are set forth in
Sections 10(b), 10(c), and 10(f) of the Act. The Transaction satisfies all of
the requirements of Section 10 and should therefore be approved. Specifically,
as more fully explained below:
o the Transaction will not tend towards interlocking relations or the
concentration of control of public-utility companies to the detriment
of investors and consumers;
o the consideration, including all commissions and fees, to be paid in
connection with the Transaction is reasonable;
20
o the Transaction will not unduly complicate the capital structure of
the Sempra holding company system;
o the Transaction is in the public interest and the interests of
investors and consumers;
o the Transaction will tend towards the economical and efficient
development of an integrated gas utility system; and
o the Transaction will comply with all applicable State laws.
3.2 Section 10(b). Section 10(b) provides that, if the requirements of
-------------
Section 10(f) are satisfied, the Commission shall approve an acquisition under
Section 9(a) unless the Commission finds that:
(1) 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;
(2) in 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; or
(3) 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.
In this case, there is no basis for the Commission to make any adverse
findings under Section 10(b).
(a) Section 10(b)(1).
----------------
(i) Interlocking Relationships. By its nature, any merger results in
new links between theretofore unrelated companies. In this case, the Merger
21
Agreement provides that Sempra's board of directors following the merger will
have 17 members, of whom three shall be designees of K N reasonably acceptable
to Sempra. One of those individuals will be the current chairman and chief
executive officer of K N. These interlocking relationships are necessary to
integrate the operations and management of the two companies, and are crucial to
obtaining the strategic benefits of combining two companies that are engaged in
different, yet complementary, segments of the natural gas industry, and to
achieving the operating synergies anticipated to result from the merger. In
similar situations, the Commission has recognized that common directors among
companies in a coordinated system are permissible and that an integrated public-
utility holding company system presupposes, in the interest of efficiencies and
economies, the existence of interlocking officers and directors. See e.g.,
Northeast Utilities, 50 S.E.C. 427 at 442 - 443 (1990); American Natural Gas
Co., 36 S.E.C. 387 at 414 (1955). Moreover, these are not the types of
interlocking relationships targeted by Section 10(b)(1), which was primarily
aimed at preventing business combinations unrelated to operating
efficiencies.20/
(ii) Concentration of Control. Section 10(b)(1) is intended to
prevent utility acquisitions that would result in "huge, complex and irrational
holding company systems at which the Act was primarily aimed." American Electric
Power Co., 46 S.E.C. 1299 at 1307 (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 at 700
- --------------
20/ See Section 1(b)(4) of the Act (finding that the public interest and
interests of consumers and investors are adversely affected "when the growth and
extension of holding companies bears no relation to economy of management and
operation or the integration and coordination of related operating properties .
. . .").
22
(1968). Sempra's acquisition of K N's Retail Gas Division will not create a
"huge, complex and irrational system." Sempra's current utility operations are
confined almost exclusively to California, and its operations will remain
predominantly intrastate in character even after acquiring K N's Retail Gas
Division, which, in comparison to SoCalGas and SDG&E, is an immaterial gas
distribution business. Further, Sempra's primary objective in the Transaction is
to expand its participation in the highly competitive, midstream and upstream
segments of the natural gas industry. The merger will thus combine the
complementary strengths of the two companies, which will enable them to offer
customers a broader array of energy products and services than either company
alone could offer. At the same time, the merger will create a larger and more
diverse asset and customer base, which will create opportunities for operating
efficiencies.
Size: The Sempra system currently provides gas distribution service
(including transportation of customer-owned gas) to approximately 5,500,000
residential, commercial and industrial gas customers in a 27,260 square-mile
area of central and southern California, as well as electric service to
approximately 1.2 million customers in San Diego and surrounding areas. The
acquisition of K N's Retail Gas Division, which has only 216,000 retail
distribution customers (including transportation-only customers), will add only
modestly (less than 4%) to that number. Thus, the Transaction will have a
negligible impact in terms of any increase in the concentration of control over
gas utility companies.
Efficiencies and Economies: Under Section 10(b)(1), the Commission's
determination of whether to prohibit enlargement of a holding company system by
acquisition is made on the basis of various factors, including projections of
efficiencies and economies that can be achieved through the integration and
coordination of utility operations. By virtue of the Transaction, Sempra and K N
23
(through their respective marketing and trading subsidiaries) will have
opportunities to achieve operating economies and efficiencies through joint
management and coordination of their respective portfolios of natural gas supply
and transportation and storage rights. Among other things, Sempra and K N's
marketing affiliates will have numerous opportunities to coordinate purchases of
gas in common supply basins and to manage their combined portfolio of
transportation and storage rights. Importantly, both companies have access to
several strategic natural gas trading hubs and market centers in the region.
They will thus have both the opportunity and means for achieving operating
economies and efficiencies. This must be kept in context, however, given that
the Retail Gas Division represents only 5.1% of K N's overall business in terms
of operating revenues and only 2.4% in terms of net plant. Thus, the economies
and efficiencies directly attributable to the integration of Sempra's and K N's
gas distribution operations are likely to represent a relatively minor part of
the overall savings and operating synergies projected to result from the
Transaction.
Competitive Effects: As the Commission has stated, the "antitrust
ramifications of an acquisition must be considered in light of the fact that the
public utilities are regulated monopolies and that federal and state
administrative agencies regulate the rates charged to the customers." Northeast
Utilities, supra, 50 S.E.C. at 445. Moreover, in scrutinizing the potential
competitive effects of a merger transaction, it is appropriate for the
Commission to "watchfully" defer to the determinations of other regulatory
bodies having jurisdiction over the transaction. See City of Holyoke Gas &
Electric Department v. SEC, 972 F.2d 358, 363 - 64 (D.C. Cir. 1992); Madison Gas
and Electric Company, et al. v. SEC, __ F.3d __, 1999 LEXIS 4164 (D.C. Cir.
1999).
24
There is no basis for the Commission to conclude that the Transaction is
likely to have the anti-competitive consequences that the Act was designed to
prevent for several reasons. First, Sempra and K N are engaged in substantially
different segments of the natural gas industry, and the Retail Gas Division
accounts for an immaterial part of K N's overall business. Second, franchised
gas distribution operations conducted in different areas (and, in this case,
different states) do not compete directly with each other. And third, there is
already substantial competition in the retail markets served by Sempra and K N's
Retail Gas Division. Both companies transport customer-owned gas on an
open-access basis under "customer choice" programs that have already been
implemented.
In addition, the Transaction must be approved by the Wyoming PUC and
Colorado PSC, as well as by the FERC (unless, as requested, FERC disclaims
jurisdiction). If FERC exercises jurisdiction, it will likely focus on the
competitive impacts of the Transaction as a whole. Finally, as previously
indicated, the Transaction is subject to the pre-merger notification provisions
of the H-S-R Act. The required statements, which describe the effects of the
Transaction on competition in the relevant markets, were filed on March 10,
1999.
(b) Section 10(b)(2). The Commission may not approve the proposed
----------------
Transaction if it determines pursuant to Section 10(b)(2) that the consideration
(including fees and expenses of the Transaction) to be paid by Sempra in
connection with the Transaction is not reasonable or does not bear a fair
relation to investment in and earning capacity of the utility assets underlying
the securities being acquired. For the reasons given below, there is no basis in
this case for the Commission to make either of the negative findings concerning
the consideration being offered by Sempra in this Transaction.
25
(i) Reasonableness of Consideration. This Commission has previously
recognized that when the agreed consideration for an acquisition is the result
of arms'-length negotiations between the managements of the companies involved,
supported by opinions of financial advisors, there is persuasive evidence that
the requirements of Section 10(b)(2) have been satisfied. See Entergy
Corporation, et al., 51 S.E.C. 869 at 879 (1993); The Southern Company, et al.,
40 SEC Docket 350 at 352 (February 12, 1988). In this case, K N shareholders may
elect to receive in exchange for each share of K N common stock either (i) .7805
shares of Sempra common stock plus $7.50 in cash, (ii) 1.115 shares of Sempra
common stock, or (iii) $25 in cash, subject to pro-ration, such that at least
70% of the shares of K N common stock will be converted into Sempra common stock
and not more than 30% of shares of K N common stock will be converted into cash.
The terms of the Merger Agreement, including the exchange ratio, were the
product of vigorous arms'-length negotiations between Sempra and K N. The
announcement of the Merger Agreement was preceded by extensive due diligence and
analysis and evaluation of the assets, liabilities and business prospects of K
N. Finally, the terms of the Merger Agreement are subject to approval by the
shareholders of both companies at special meetings to be called for that
purpose.
In connection with its evaluation of K N, Sempra engaged Goldman, Sachs &
Co. ("Goldman Sachs") as its financial advisor. Goldman Sachs delivered a
written "fairness" opinion to Sempra, dated February 19, 1999, to the effect
that, as of such date and based on certain assumptions therein stated, the
consideration to be paid by Sempra pursuant to the Merger Agreement is fair,
from a financial point of view, to Sempra. See Annex B to the Joint Proxy
Statement.
26
K N, for its part, engaged Merrill Lynch, Pierce, Fenner & Smith
Incorporated ("Merrill Lynch") as its financial advisor. Merrill Lynch also
delivered a "fairness" opinion to K N in which it concluded that the
consideration to be received by K N's shareholders under the Merger Agreement is
fair from a financial point of view. See Annex C to the Joint Proxy Statement.
In rendering its fairness opinion to Sempra, Goldman Sachs considered
various factors, including the historical market prices and trading activity for
K N Shares and Sempra Shares and results of operations of the two companies,
which were compared to those of other selected companies in the diversified
energy industry.21/ Goldman Sachs also reviewed and compared certain financial
information relating to K N to corresponding financial information, ratios and
public market multiples for the same group of selected energy companies.
Specifically, Goldman Sachs considered estimated earnings per share, price to
earnings multiples, and multiples of enterprise value to earnings before
interest, taxes, depreciation and amortization for the years 1999 and 2000.
Goldman Sachs also compared other relevant financial ratios of K N to those of
the selected energy companies, including multiples of book value, dividend yield
and dividend payout ratio. Finally, Goldman Sachs performed a discounted cash
flow analysis for the K N common stock using certain financial forecasts for the
years 1999 through 2003 prepared by K N's management and modified by Sempra's
- ------------
- -
21/ Goldman Sachs compared the historical performance of K N's common stock
over the preceding 12 months to an index comprised of the following selected
energy companies: Coastal Corp., Columbia Energy, Consolidated Natural Gas, El
Paso Energy, Enron Corp., Questar Corp., Sonat, Inc. and Williams Companies. The
historical performance of Sempra's common stock (or, prior to June 26, 1998,
Enova Corporation's common stock) during the same period was compared to an
index comprised of the following selected energy companies: American Electric
Power Company, Inc., Cinergy Corp., Edison International, FPL Group, Inc., New
Century Energies, Inc., and PG&E Corporation.
27
management and certain forecasts of merger savings and operating synergies for
the years 1999 through 2003, also prepared by K N's management and modified by
Sempra's management. Goldman Sachs calculated a net present value of K N's
estimated free cash flows and per share value of K N's common stock using a
range of discount rates. Importantly, the per share price ranges for K N's
common stock implied by these various valuation methods support the value of the
consideration offered by Sempra under each of the three elections that K N
shareholders may make. Goldman Sachs also compared the proposed financial
terms of the Transaction with the financial terms of other mergers involving
midstream energy concerns since 1994, and determined a range of values for the K
N Shares using various valuation methodologies deemed by it to be relevant.
Merrill Lynch, K N's financial advisor, reached a like conclusion, which it
set forth in its opinion to K N, also dated February 19, 1999. For a discussion
of Goldman Sach's and Merrill Lynch's fairness opinions and the valuation
methods used, see the Joint Proxy Statement.
In light of these opinions and an analysis of all relevant factors,
including the benefits that may be realized as a result of the Transaction,
there is no basis for the Commission to conclude that the consideration being
offered by Sempra for the K N Shares is unreasonable.
(ii) Relationship of Consideration to be Paid to Earnings Capacity of
Utility Assets Underlying Securities to be Acquired. Likewise, there is no basis
for the Commission to conclude that the consideration to be paid by Sempra for
the K N Shares does not bear a fair relation to the earnings capacity of K N's
utility assets. As an initial matter, it must be emphasized, again, that K N's
Retail Gas Division represents an immaterial portion (5.1% based on gross
revenues and 2.4% based on net plant) of K N's overall operations, which are
overwhelmingly concentrated in the upstream and midstream segments of the
28
natural gas industry. Thus, the consideration to be paid in this transaction is
only incidentally related to the earning capacity or value of K N's Retail Gas
Division assets. Also, it must be reiterated that the proposed Transaction
resulted from arms'-length bargaining and that the Merger Agreement was executed
after extensive negotiations and due diligence on Sempra's part.
(iii) Reasonableness of Fees. Sempra believes that the overall fees,
commissions and expenses paid or incurred or to be paid or incurred in
connection with the Transaction will be reasonable and fair in light of the size
and complexity of the Transaction relative to other similar transactions and
that the anticipated benefits of the Transaction to the public, investors and
consumers, are consistent with recent precedent, and meet the standards of
Section 10(b)(2).
As set forth in Item 2 - Fees, Commissions and Expenses, the estimated
fees, commissions and expenses paid or incurred and to be incurred by Sempra and
K N in connection with the proposed Transaction total $27,220,000, or about 1.6%
of the total value (estimated at approximately $1.7 billion) of the
consideration (Sempra Shares plus cash) to be issued in exchange for the K N
Shares. The relationship of the aggregate amount of fees, commissions and
expenses paid to the size of the Transaction is within the same range as other
recent merger cases that this Commission has approved.
(c) Section 10(b)(3). Section 10(b)(3) requires the Commission to
----------------
determine whether the Transaction will unduly complicate Sempra's capital
structure or will be detrimental to the public interest, the interest of
investors or consumers or the proper functioning of Sempra's system.
(i) Capital Structure. The capital structure of Sempra after the
Transaction will not be unduly complicated and the pro forma consolidated
capitalization ratios will be within the range that this Commission has found
29
acceptable in other cases. Sempra will issue additional shares of its single
class of common stock and cash in exchange for all of the outstanding K N
Shares. K N will become a direct, wholly-owned, subsidiary of Sempra. The
long-term debt of K N will not be affected by the Transaction and will remain
the obligation solely of K N. In this regard, the Sempra capital structure will
closely resemble that of most registered holding company systems.
Set forth below are summaries of the historical capital structures of
Sempra and K N as of December 31, 1998, and the pro forma consolidated capital
structure of Sempra, as of December 31, 1998 (assuming that the consideration
paid by Sempra for the K N Shares will consist of 70% Sempra Shares and 30%
cash):
Sempra and K N Historical Capital Structures (000s omitted)
Sempra K N
------ ---
Common stock equity $2,913 $1,217
Preferred stock equity 204 282*/
Long-term debt 2,795 3,300
------ ------
Total $5,912 $4,799
====== ======
Sempra Pro Forma Consolidated Capital Structure
(000s omitted) (unaudited)
Common stock equity $4,167 38.79%
Preferred stock equity 479 4.46
Long-term debt 6,095 56.75
------ -----
Total $10,741 100%
======= =====
*/ K N will redeem $7.4 million of its outstanding preferred stock in
connection with the Transaction.
30
Sempra's pro forma consolidated common equity to total capitalization ratio
of 38.79% as of December 31, 1998, is well above the "traditionally acceptable
30% level." See Northeast Utilities, supra, 50 S.E.C. at 440, n. 47.
(ii) Protected Interests. As set forth more fully in the discussion of
the standards of Section 10(c)(2) below, and elsewhere in this Application, the
Transaction will create opportunities for Sempra and K N to achieve savings,
chiefly through the elimination of duplicate corporate and administrative
programs and greater efficiencies in operations, business processes and
purchasing. The Transaction will therefore be in the public interest and the
interest of investors and consumers, and will not be detrimental to the proper
functioning of the resulting holding company system. Moreover, as the Commission
has stated, "concerns with respect to investors' interests have been largely
addressed by developments in the federal securities laws and the securities
markets themselves." Entergy Corporation, supra, 51 S.E.C. at 883. Sempra will
continue to be a reporting company subject to the continuous disclosure
requirements of the Securities Exchange Act of 1934 following completion of the
Transaction, which will provide investors with readily available information
concerning the companies and the Transaction. Further, the Transaction is
subject to various other federal and state regulatory approvals (See Item 4 -
Regulatory Approvals, below). For these reasons, the Commission has no basis for
making a negative finding under Section 10(b)(3).
3.3 Section 10(c). Section 10(c) of the Act provides that, notwithstanding
-------------
the provisions of Section 10(b), the Commission shall not approve:
(1) 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; or
31
(2) 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 the efficient development of an integrated public- utility
system . . . .
(a) Section 10(c)(1). Under Section 10(c)(1), the Commission may not
----------------
approve an acquisition that "is unlawful under the provisions of Section 822/ or
is detrimental to the carrying out of the provisions of Section 11." Section
11(b)(1) of the Act, with an exception, confines a registered holding company to
ownership of a single integrated public-utility system, either electric or gas.
In this case, the combined gas distribution properties of Sempra's two
California operating subsidiaries and K N's Retail Gas Division will constitute
an integrated gas utility system within the meaning of Section 2(a)(29)(B).
These properties will be operated as a coordinated system. (See discussion in
subpart b, immediately below). SDG&E's electric utility properties, which
constitute an integrated electric utility system within the meaning of Section
2(a)(29)(A), will not be affected by the Transaction.
Section 11(b)(1) permits a registered holding company to own one or more
additional integrated public-utility systems only if the requirements of Section
11(b)(1)(A) - (C) (the "ABC clauses") are satisfied. By its terms, however,
Section 11(b)(1) applies only to registered holding companies and therefore does
not preclude the acquisition and ownership of a combination gas and electric
system by an exempt holding company, such as Sempra, whose ownership of both gas
and electric operations in California is permitted and subject to "affirmative
- -------------
22/ Section 8 prohibits an acquisition by a registered holding company of an
interest in an electric utility and a gas utility serving substantially the same
territory unless expressly approved by a State commission where State law
prohibits or requires approval of any such acquisition.
32
state regulation." See WPL Holdings, Inc., 49 S.E.C. 761 at 770 (1988), aff'd in
part and rev'd in part sub nom., Wisconsin's Environmental Decade v. SEC, 882
F.2d 523 (D.C. Cir. 1989), reaffirmed, 50 S.E.C. 728 (1991); Dominion Resources,
Inc., 40 SEC Docket 847 (April 5, 1988).
The Commission has also previously held that a holding company may acquire
utility assets that will not, when combined with its existing utility assets,
make up an integrated system or comply fully with the "ABC" clauses, provided
that there is de facto integration of contiguous utility properties and the
holding company is exempt from registration under Section 3(a) of the Act
following the acquisition.23/ In this case, Sempra is requesting an order
exempting it from the registration requirements under the Act pursuant to
Section 3(a)(1). Further, there is and will continue to be following the
Transaction de facto integration of Sempra's gas and electric utility
properties. The Commission has fully addressed this issue in its 1998 order
approving the formation of Sempra.
(b) Section 10(c)(2). Under Section 10(c)(2), the Commission must
----------------
affirmatively find that the acquisition of K N's Retail Gas Division by Sempra
"will serve the public interest by tending towards the economical and the
efficient development of an integrated public-utility system . . . ." An
"integrated public-utility system" is defined in Section 2(a)(29), to mean:
(B) As applied to gas utility companies, 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
- -------------
23/ See e.g., TUC Holding Co., et al., 65 SEC Docket 301 (August 1, 1997);
Sempra Energy, 67 SEC Docket 994 (June 26, 1998); and PP&L Resources, Inc., et
al., 67 SEC Docket 1685 (August 12, 1998).
33
from a common source of supply may be deemed to be included in a
single area or region.24/
The gas utility operations of K N's Retail Gas Division, when combined with
the existing gas utility operations of Sempra in California, will constitute an
integrated gas-utility system within the meaning of Section 2(a)(29)(B) of the
Act.
(i) Operation as a "Single Coordinated System." Under optimal
circumstances, when two gas distribution companies combine in a holding company
structure, they will centralize and coordinate the management of their
respective portfolios of gas supply, transportation and storage assets (i.e.,
their physical properties as well as contractual assets) so as to maximize
savings and efficiencies of operations. See e.g., NIPSCO Industries, 69 SEC
Docket 245, 249 - 51 (February 10, 1999). Moreover, the merging utilities would
typically seek to integrate and share information systems and technologies. In
this case, however, there are substantial legal restrictions, in the form of
rules that have been adopted by the CPUC, that will prevent SoCalGas and SDG&E
from engaging in joint or coordinated gas procurement practices with K N's
Retail Gas Division and from sharing information and information systems. As a
result, it will not be possible for Sempra and K N to centralize the
administrative responsibility for gas purchasing and pipeline and storage
contracting in one organization, as was done in NIPSCO Industries, or to
otherwise combine gas purchases or pipeline capacity reservations by SoCalGas
and SDG&E with those of their affiliates. Further, the CPUC rules prohibit any
- ----------------
24/ Unlike the definition of an "integrated electric utility system" in
Section 2(a)(29)(A) of the Act, physical interconnection of the component parts
of a gas utility system is not required. Further, the Commission has previously
recognized, that "integrated and coordinated operations of a gas system under
the Act may exist in the absence of [physical] interconnection." See American
Natural Gas Co., 43 S.E.C. 203, 207 (1965) n. 5.
34
exchange of non-public information on gas supplies or pipeline or storage
availability between California utilities and any affiliate. On the other hand,
as the Commission noted in Sempra/Frontier, the CPUC rules do not prohibit
shared corporate support services among California utilities and their
affiliates. 69 SEC Docket at 107, n. 14. Thus, there will be substantial
opportunities for Sempra to achieve operating economies and efficiencies between
the California utilities and K N's Retail Gas Division in areas other than gas
procurement and information systems. Moreover, there will be substantial
opportunities for Sempra and K N to coordinate gas procurement functions and
information systems through their respective marketing affiliates, which, as
discussed below, both supply gas to a significant number of the non-core (or
"unbundled") customers in the service areas of the two companies.
Effect of the California Affiliate Transaction Rules: The CPUC has adopted
----------------------------------------------------
two sets of rules that are designed to enhance competition in energy markets and
prevent potential self-dealing, preferential treatment, and cross-subsidies
between California utilities and their non- utility affiliates. Importantly, the
CPUC rules do not prohibit all commercial transactions between the California
utilities and their non-utility affiliates, but any such transactions must be
fully disclosed and meet stringent non-discrimination standards.
First, the CPUC has promulgated a comprehensive set of affiliate
transaction rules ("ATRs")25/ applicable to all California energy utilities, and
has required each utility to prepare detailed compliance plans showing how the
ATRs are being implemented. The ATRs contain provisions designed to ensure that
- -------------
25/ See "Opinion Adopting Standards of Conduct Governing Relationships
Between Energy Utilities and Their Affiliates," CPUC Decision No. 97-12-088, 183
PUR4th 503 (1997), modified by Decision No. 98-08-035, 188 PUR4th 317 (1998).
35
a utility does not discriminate in favor of its non-utility affiliates, and that
commercially-sensitive information is not selectively disclosed. Among other
restrictions, the ATRs require that utilities and non-utility affiliates: (1)
keep separate books and records, (2) refrain from jointly purchasing goods and
services associated with the utility merchant function, (3) share only certain
governance, oversight, and corporate support functions, (4) retain separate
corporate identification, (5) refrain from engaging in joint commercial
activities, and (6) refrain from joint employment practices, except in limited
cases associated with providing corporate support services.
Second, the CPUC order approving the Pacific Enterprises/Enova Corporation
business combination incorporated a set of 25 market power remedial measures
which govern Sempra Energy's gas transportation operations.26/ The remedial
measures are largely designed to ensure that SoCalGas's potential market power
in transporting gas to Southern California cannot be exercised in favor of
affiliates active in the downstream electricity markets. The remedial measures
incorporate FERC's rules governing the relationship between interstate pipelines
and their gas marketing affiliates,27/ impose certain restrictions on
communications between the gas operations and gas acquisitions departments
within SoCalGas, and require the daily posting of certain information that may
be helpful to customers using the SoCalGas system to transport gas.
- -------------
26/ See In Re Pacific Enterprises, et al., supra n. 5. These remedial
measures were the same as those that had been imposed under the terms of FERC's
order approving the business combination. See San Diego Gas & Electric Company,
et al., 79 FERC (PARAGRAPH) 61,372 (1997).
27/ See "Inquiry Into Alleged Anticompetitive Practices Related to Marketing
Affiliates of Interstate Pipelines," FERC Order 497, 53 Fed. Reg. 22139 (1988),
FERC Stats. & Reg. [Regulations Preambles 1986 - 1990] (PARAGRAPH) 30,820
(1988), as amended and extended.
36
The two sets of rules described above clearly limit the types of activities
and interactions that may exist between SoCalGas and SDG&E and their non-utility
affiliates. For purposes of these rules, non-California gas distribution
utilities like K N's Retail Gas Division and FERC- jurisdictional interstate
pipelines are all treated as "non-utilities." The ATRs will effectively prevent
any direct coordination in gas supply functions between Sempra's California
utilities and the K N Retail Gas Division. Nevertheless, as indicated, the ATR's
and merger order's remedial measures will permit integration and consolidation
across the Sempra Energy holding company system. First, the ATR's will allow
Sempra to provide the following corporate governance, oversight, and shared
services to all business units: administrative, human resources, audit, finance,
accounting, affiliate compliance, telecommunications, governmental and community
relations, regulatory, communications, and legal services. Second, the ATRs will
allow Sempra's California utilities to loan non-marketing employees to
non-energy marketing affiliates, provided that no more than 30% of an employee's
time may be loaned in any calendar year. And third, the utilities may sell
tariffed and non-tariffed products and services to their affiliates on an open-
access, non-discriminatory basis. Non-tariffed products and services may prove
to be particularly useful in helping the Sempra family of companies achieve
synergies, best practices, and enhanced profitability.
Coordination Through Non-Utility Marketing Affiliates: As previously
-----------------------------------------------------
indicated, K N Services provides about 58% of the gas that the Retail Gas
Division purchases for resale to its customers, and has competed successfully to
be a major supplier under the retail "customer choice" programs that the Retail
37
Gas Division has implemented in Nebraska and Wyoming.28/ In addition, in 1998, K
N's marketing affiliates sold approximately 4.2 Bcf of gas to SoCalGas and SDG&E
and 13.3 Bcf of gas to transportation-only customers of those utilities. For its
part, Sempra Trading in 1998 sold 71 Bcf of gas that was delivered to customers
on the SoCalGas system.
Sempra Trading and K N Services each manages a similar and complementary
portfolio of physical and contractual assets (i.e., contracts for supply,
transportation and storage), and each company has broad experience in managing
risk. After the merger, gas procurement for the Retail Gas Division will be
undertaken by the combined marketing, trading and risk management operations of
Sempra Trading and K N Services. The combined operations should see enhanced
efficiencies arising from increased scope and scale as well as from the exchange
of intellectual capital. The cost of gas to customers of the Retail Gas Division
should reflect these gains.
In addition, given that more than 40% of all the gas delivered on the K N
Retail Gas Division system and more than 50% of all gas delivered on the Sempra
system is owned by the customer, and that, in time, customer-choice programs are
likely to be available for all categories of retail customers, it is relevant
for this Commission to take into account Sempra's and K N's penetration of the
non-core (or "unbundled") market in their respective service areas for purposes
of assessing the degree of coordination that is likely to exist. In this regard,
it should be emphasized that the CPUC rules described above would not prevent
- -------------
28/ K N Retail Gas Division has voluntarily opened its system to retail
choice in substantially all of Nebraska and in its eastern Wyoming service area.
Legislation permitting retail choice in Colorado is pending before the Colorado
legislature and has broad bi-partisan support.
38
the marketing affiliates of the two companies from coordinating gas purchases
and combining information and information systems. Given the vast disparity in
the size of Sempra's California utilities and K N's Retail Gas Division, it is
also relevant to compare the relative quantities of gas sold to the two
utilities and their unbundled customers by the marketing affiliates. In this
regard, the combined 88.5 Bcf of gas sold in 1998 by the marketing arms of
Sempra and K N for delivery into the SoCalGas system represents well over 50%
more than the total gas delivered by K N's Retail Gas Division in 1998 to all
customers (50 Bcf).
(ii) Single Area or Region. Although the retail gas service areas of
the Retail Gas Division and Sempra's subsidiaries in southern California are
separated by a distance of approximately 500 miles, and are located in
non-contiguous States, such factors alone are not determinative. See MCN
Corporation, 62 SEC Docket 2379 (September 17, 1996) (approving acquisition of
an interest in a gas-utility company by an exempt gas-utility holding company
whose service area is located more than 500 miles distant in a non-adjoining
State); Sempra/Frontier, supra (approving Sempra's acquisition of Frontier, a
small start-up gas utility serving parts of western North Carolina); and NIPSCO
Industries, supra, (approving combination of gas utilities located approximately
650 miles apart at their nearest point). On the contrary, Section 2(a)(29)(B)
specifically contemplates 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." Moreover, in considering whether an "area or region" is so large as to
impair "the advantages of localized management, efficient operation, and the
effectiveness of regulation . . .," the Commission has taken into account the
"state of the art" in the natural gas industry, in terms of current industry
structure, evolving competition, and the deliverability of natural gas on the
39
nation's pipeline network. Id.
In the Sempra/Frontier case, the Commission observed that it is appropriate
to treat gas utilities that are separated by a substantial distance as being in
a "single area or region" if they purchase gas from a common source of supply
(see discussion below), and if doing so would not contravene the policy of the
Act against "scatteration," or the ownership of widely dispersed utility
properties which are not susceptible of efficient operation. 69 SEC Docket at
109. The Act is directed against "the growth and extension of holding companies
[that] bears no relation to economy of management and operation or the
integration and coordination of related operating properties" or that result in
the "lack of effective public regulation." See Sections 1(b)(4) and (b)(5). For
reasons that are explained elsewhere in this Application, none of the conditions
or circumstances at which the policies of the Act are directed will be present
in this case.
Common Source of Supply: In NIPSCO Industries, the Commission stated that,
-----------------------
in its consideration of whether a "common source of supply" exists, the relevant
inquiry is "whether the system utilities purchase substantial quantities of gas
produced in the same supply basins, and whether there is sufficient
transportation capacity available in the marketplace to assure delivery on an
economical and reliable basis." 69 SEC Docket at 251. Further, although holding
"firm" capacity on the same pipelines is relevant to the "common source of
supply," if the system companies hold capacity on different pipelines, it is
also relevant to inquire whether those pipelines intersect at, and form,
industry recognized trading hubs. Id.
As previously indicated, K N's Retail Gas Division currently purchases
about 61% of its total gas requirements from production in the Rocky Mountain
region basins, 29% from production in the Anadarko/Arkoma Basin, and the
remainder from production in the San Juan Basin, the Western Canada Sedimentary
40
Basin, and other producing areas in the region. Of the total gas delivered on
the SoCalGas system in 1998 (962 Bcf), 128 Bcf, or about 13% of the total, was
produced in the Rocky Mountain region basins. This represents more than two and
one-half times the total quantity of gas (50 Bcf) delivered in 1998 by K N's
Retail Gas Division to both its core customers and to customers who purchase
only transportation service.
Moreover, with the completion of the TransColorado pipeline, K N's Retail
Gas Division will have improved access to the San Juan Basin. As indicated, the
San Juan Basin accounts for about 40% of all gas purchased by Sempra's
California subsidiaries for sale to core customers and more than 60% of the
customer-owned gas delivered on the SoCalGas system. The TransColorado pipeline
links the Uinta/Piceance (one of the Rocky Mountain region basins) and the San
Juan Basins, which are in close proximity to each other. This will allow the
Retail Gas Division to take advantage of favorable price differentials between
Rocky Mountain and San Juan gas supplies. It will also facilitate the
aggregation and integration of gas supplies between these two producing areas,
which in turn will allow the Retail Gas Division to treat the two basins as
essentially a single supply source. This will enhance the flexibility,
reliability, and competitive pricing of gas supply for the Retail Gas Division's
markets. In this regard, the Retail Gas Division expects to increase its
purchases of San Juan gas in the future to meet the needs of its customers.
The common source of supply, therefore, is the Rocky Mountain/San Juan
region. In 1998, more than 60% of the gas delivered to core and non-core
customers by both Sempra and the K N Retail Gas Division was produced in this
region.
State of the Art: Any determination of the appropriate size of the "area or
----------------
region" calls for consideration of the "state of the art" in the gas industry.
41
In this regard, the "state of the art" in the gas industry continues to evolve,
primarily as a result of decontrol of wellhead prices, the continuing
development of an integrated national gas transportation network, the emergence
of marketers and brokers, and the "un-bundling" of the commodity and
transportation functions of the interstate pipelines in response to various FERC
initiatives, in particular Order 636,29/ which has dramatically altered the way
in which local gas distribution companies purchase and transport their required
gas supplies. The Commission noted the structural, regulatory and technological
changes that have reshaped the natural gas industry since the Act was passed in
its recent NIPSCO Industries and Sempra/Frontier decisions.
(iii) No Impairment. The resulting integrated gas system to be formed
by the combination of K N's Retail Gas Division with those of Sempra will 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." In this case, the Retail Gas Division will
maintain its local business presence in each of the three states in which it
provides public-utility service. It will also maintain its present workforce of
approximately 445 employees, who will continue to be under the supervision of
locally-based management. In this connection, it is not contemplated that there
will be any involuntary reductions in the Retail Gas Division's workforce, as
presently constituted.
Further, following the Transaction, the Retail Gas Division will remain
- -------------
29/ See "Pipeline Service Obligations and Revisions to Regulations Governing
Self- Implementing Transportation; Regulation of Natural Gas Pipelines After
Partial Wellhead Decontrol," Order No. 636, 57 Fed. Reg. 13,267 (April 16,
1992), aff'd in part, United Distribution Cos. v. FERC, 88 F.3rd 1105 (D.C. Cir.
1996).
42
subject to regulation as to rates, service, and other matters by the public
service commissions in Colorado and Wyoming, each of which must also approve the
Transaction, as well as to municipal regulation of rates and service in
Nebraska. Accordingly, the Transaction will not result in any impairment of
localized management or effective regulation.
(iv) Economies and Efficiencies. Section 10(c)(2) requires that the
Commission find that a proposed acquisition will produce economies and
efficiencies. As indicated, the Transaction is likely to produce economies and
efficiencies over time, chiefly through the elimination of duplicate corporate
and administrative programs and greater efficiencies in operations, business
processes and purchasing. Specifically, these efficiencies relate to shared
corporate services provided to all of Sempra's subsidiaries by the corporate
center. Although there are some limitations on the sharing of services under the
ATRs, many corporate support services would be permitted. These include
corporate communications and advertising, regulatory and external affairs,
legal, accounting, treasury, investor relations, environmental and safety,
non-gas purchasing, human resources policy and employee training and
development. Sempra estimates that these cost savings will range from $20
million to as much as $60 million annually. Although some of the anticipated
economies and efficiencies will undoubtedly benefit K N's Retail Gas Division,
because that operation represents such a small component of K N's overall
business, the quantifiable dollar savings will necessarily be small in absolute
dollar terms.
3.4 Section 10(f). Section 10(f) provides that:
-------------
The Commission shall not approve any acquisition as to which an application
is made under this section unless it appears to the satisfaction of the
Commission that such State laws as may apply in respect of such acquisition
have been complied with, except where the Commission finds that compliance
with such State laws would be detrimental to the carrying out of the
provisions of section 11.
43
As explained in Item 4 - Regulatory Approvals, the Transaction is subject
to review and approval by the public service commissions in Colorado and
Wyoming. There is no regulatory body in Nebraska which has jurisdiction over the
Transaction.
3.5 Section 3(a)(1). Sempra also requests that the Commission issue an
---------------
order pursuant to Section 3(a)(1) of the Act confirming that Sempra, and each of
its subsidiary companies as such, will continue to be exempt from all provisions
of the Act, except Section 9(a)(2). Section 3(a)(1) provides that the Commission
shall exempt a holding company, and every subsidiary thereof as such, from some
or all provisions of the Act, unless such exemption would be detrimental to the
public interest or the interest of investors or consumers, if:
such holding company, and every subsidiary company thereof which is a
public-utility company from which such holding company derives, directly or
indirectly, any material part of its income, are predominantly intrastate
in character and carry on their business substantially in a single State in
which such holding company and every such subsidiary company thereof are
organized.
Following its acquisition of K N, Sempra will not derive any material part
of its income from K N's Retail Gas Division operations. Further, Sempra, and
each of its public-utility subsidiary companies from which it derives any
material part of its income, will remain predominantly intrastate in character
and carry on their business substantially in a single State, namely, California.
(a) Sempra Will Not Derive Any Material Part of Its Income From K N's
-----------------------------------------------------------------
Retail Gas Division. As is clear from the plain language of Section 3(a)(1), the
- -------------------
test of whether the public-utility subsidiaries of a holding company are
"predominantly intrastate in character" is applied separately to each
44
public-utility subsidiary from which such holding company "derives, directly or
indirectly, any material part of its income." See Public Service Company of
Oklahoma, 8 S.E.C. 12, 16 (1940); Wisconsin Electric Power Company, 28 S.E.C.
906, 909 - 911 (1948). Hence, the fact that a holding company has, as a
subsidiary, a public-utility company incorporated and operating in a State other
than its own State of incorporation is irrelevant for purposes of determining
whether such holding company is entitled to an exemption under Section 3(a)(1)
if that out-of-State subsidiary does not contribute "any material part" of the
holding company's income. See Washington Railway and Electric Company, 4 S.E.C.
191 at 192 - 193 (1938); Commonwealth Edison Company, 28 S.E.C. 172 at 173
(1948); WPL Holdings, Inc., 49 S.E.C. 761 at 773 (1988). If, on the other hand,
a public-utility subsidiary does contribute a "material part" of the holding
company's income, then it must be both incorporated in the same State as the
holding company and carry on its business "substantially" in that State.
In cases under Section 3(a)(1) in which the materiality of an out-of-State
public- utility subsidiary has been considered, the Commission has consistently
focused on the relative size of the out-of-State subsidiary's public-utility
operations, expressed as a percentage of the applicant holding company's total
public-utility operations, using a variety of financial measurements. In its
early decisions, including Public Service Company of Oklahoma, Washington
Railway and Wisconsin Electric, supra, the Commission placed greatest importance
upon the relationship of the dividends actually paid by and undistributed
earnings of the out-of-State subsidiary, expressed as a percentage of the
45
holding company's consolidated net income.30/ The Commission has also considered
size in terms of other quantifiable factors. In Commonwealth Edison Company,
supra, for example, which was decided the same year as Wisconsin Electric, the
Commission compared an out-of-State subsidiary's gross operating revenues from
off-system sales to the parent's consolidated gross operating revenues.
Similarly, in WPL Holdings, Inc., supra, the Commission appears to have
considered only the operating revenues of an out-of-State public-utility
subsidiary. In other recent cases, the Commission has taken into account various
financial comparisons, without indicating which, if any, was entitled to
greatest deference. See e.g., Unicom Corporation, 57 SEC Docket 660 (July 22,
1994) (percentage of consolidated operating revenues, consolidated net income,
consolidated net utility plant and consolidated total assets represented by
out-of-State subsidiary); Providence Energy Corporation, 60 SEC Docket 2109
(November 30, 1995) (percentage of consolidated gas revenues and income
represented by out-of-State subsidiary); and Atlanta Gas Light Company, et al.,
61 SEC Docket 1057 (March 5, 1996) (percentage of consolidated operating
revenues and total assets represented by out-of-State subsidiary).
To date, the Commission has not embraced any numerical bright-line test of
materiality under Section 3(a)(1). Moreover, it is noteworthy that, in a June
- -------------
30/ In Wisconsin Electric, the Commission found that an out-of-State
subsidiary of the applicant contributed a "material part" of its income where
the dividends paid by such subsidiary, as a percentage of the applicant's
consolidated net income, ranged between 9.45% and 11.92% over a four-year period
(1944-1947). 28 S.E.C. at 912. These were the lowest percentages in any case
decided under Section 3(a)(1) in which the Commission has expressly held that an
out- of-State subsidiary contributed a "material part" of the applicant's income
and, accordingly, denied an exemption.
46
1995 study prepared by the Division of Investment Management, the Commission was
urged to apply a more liberal standard for exemptions under Section 3(a). Rather
than redefining phrases such as "predominantly intrastate" and "material part of
income" in terms of any bright-line numerical limits, however, the Division of
Investment Management urged the Commission to adopt a more flexible standard for
exemption under Section 3(a) that would take into account the ability of the
affected States to "adequately protect utility consumers against any detriment
that might be associated with certain activities of exempt holding
companies."31/
In fact, a review of the recent decisions indicates that the Commission is
already moving toward a more flexible standard of interpretation of the
materiality test (as well as of the "predominantly intrastate in character"
test, which is discussed below). In Atlanta Gas Light Company, supra, for
example, the Commission granted an exemption under Section 3(a)(1) to a
newly-organized Georgia holding company (AGL Resources, Inc.) with a
public-utility subsidiary operating in Tennessee which represented 6.2% and
6.9%, respectively, of the holding company's consolidated utility revenues and
total utility assets. And in NIPSCO Industries, supra, an exemption under
Section 3(a)(1) was granted where one of the holding company's out-of-state
public-utility subsidiaries would represent, on a pro forma basis, between 10.8%
and 11.2% of the combined net utility operating revenues of all of the parent's
utility subsidiaries over a three year period.
In the present case, the K N Retail Gas Division's gross operating
revenues, net operating revenues (operating margin), number of customers, gross
utility plant and total gas delivered, and the percentage of each on a pro forma
- ------------------
31/ See "The Regulation of Public-Utility Holding Companies," Report of the
Division of Investment Management (June 1995), pp. 119 - 120.
47
basis, to the total combined gross operating revenues, net operating revenues,
utility customers, gross utility plant and total gas delivered of Sempra's
public-utility subsidiaries are as follows:
--------------------------------------------------------
PRO FORMA
COMBINED
UTILITIES SOCALGAS/ K N RETAIL GAS
SDG&E DIVISION
--------------------------------------------------------
AMOUNT PERCENT AMOUNT PERCENT
GROSS OPERATING --------------------------------------------------------
REVENUES ($MM) A/
1998 $4,859.8 $4,637 95.4% $222.8 4.6%
1997 $4,989.8 $4,733 94.9% $256.8 5.1%
--------------------------------------------------------
OPERATING
MARGIN ($MM) B/
1998 $3,833.5 $3,728.8 97.3% $104.7 2.7%
1997 $3,509.5 $3,401.0 96.9% $108.5 3.1%
--------------------------------------------------------
NUMBER OF ELECTRIC
AND RETAIL GAS 5,716,000(G) 5,500,000 96.2% 216,000 3.8%
CUSTOMERS 1,200,000(E) 1,200,000 100% -0- -0-
--------------------------------------------------------
GROSS UTILITY
PLANT ($MM)
1998 $11,491.1 $11,235 97.8% $256.1 2.2%
1997 $11,167.4 $10,902 97.6% $265.4 2.4%
--------------------------------------------------------
TOTAL GAS
DELIVERIES (BCF)
1998 1,0128Bcf 962 Bcf 95.1% 50 Bcf 4.9%
--------------------------------------------------------
a/ Includes revenues from transportation-only customers.
b/ Gross operating revenues less cost of gas for distribution and cost
of fuel for electric generation.
As the foregoing demonstrates, Sempra will not derive "any material part"
of its income from K N's Retail Gas Division. Regardless of the financial
yardstick for comparison that is used, the Retail Gas Division represents, on a
48
pro forma basis, a smaller portion of the combined utility operations of Sempra
and K N than in either AGL Resources or NIPSCO Industries.
(b) Sempra Will Remain Predominantly Intrastate in Character and Carry
------------------------------------------------------------------
On its Business Substantially in a Single State. As indicated, Sempra and its
- -----------------------------------------------
two material public utility subsidiaries, SoCalGas and SDG&E, are all
incorporated in California, and carry on their public utility operations
exclusively within California. Taking into consideration the acquisition of K
N's Retail gas Division, Sempra's utility operations will still be
"predominantly intrastate in character." The state of incorporation and situs of
the business activities of K N's pipeline transportation, gathering, marketing
and other non-utility subsidiaries are not relevant for purposes of determining
whether Sempra is entitled to an exemption under Section 3(a)(1). See Eastern
Gas and Fuel Associates, 30 S.E.C. 834, 848 (n. 19) (1950).
As shown in the table above, for the year ended December 31, 1998, the
Retail Gas Division's gross operating revenues and net operating revenues
(operating margin) represented only 5.1% and 2.7%, respectively, of
Sempra's pro forma combined gross operating revenues and net operating revenues.
These percentages are substantially lower than the percentages of out-of-state
gross operating revenues (19.8%) and net operating revenues (13.7%) found to be
acceptable in NIPSCO Industries, supra.32/
(c) The Exemption of Sempra Will Not Be Detrimental to the Public
-------------------------------------------------------------
Interest or Interest of Investors or Consumers. For the reasons noted above, a
- ----------------------------------------------
finding by the Commission that Sempra will not derive "any material part of its
- -------------
32/ Frontier Energy's operations in North Carolina, for which there is no
historical data, would have only a de minimis impact on the relative size of
Sempra's out-of-state utility operations.
49
income" from K N's Retail Gas Division would not be inconsistent with settled
interpretations of Section 3(a)(1). Moreover, granting Sempra an exemption in
this case will not, in the words of Section 3(a), be "detrimental to the public
interest or the interest of investors or consumers." In this case, Sempra's
acquisition of K N must be approved by the Colorado PSC and the Wyoming PUC.
Following the merger, those two commissions will continue to have the same
jurisdiction and authority over K N's Retail Gas Division's rates, service and
operations as they currently have, and their ability to protect ratepayers will
not be impaired by virtue of K N's ownership by an out-of-state holding company.
Likewise, the municipalities served by the Retail Gas Division in Nebraska will
continue to have the same jurisdiction and authority over the Retail Gas
Division's rates and service in that state.
As the foregoing demonstrates, each of the affected State commissions will
have the ability to protect utility customers of K N's Retail Gas Division
against any possible detriment that might be associated with the relationship of
such companies to Sempra. Granting Sempra's request for an exemption, therefore,
will not be "detrimental to the public interest or interest of investors or
consumers."
ITEM 4. REGULATORY APPROVALS.
--------------------
In addition to the required approval of this Commission, the Transaction is
subject to the jurisdiction of the FERC (unless FERC disclaims such
jurisdiction), the Colorado PSC and the Wyoming PUC. Applications have been
filed with each of those commissions. See Exhibits D-1, D-3, and D-5. The
Transaction is also subject to the pre-merger notification and reporting
50
requirements of the HSR Act. No other State or Federal commission, other than
this Commission, has jurisdiction over the proposed Transaction.
Nebraska does not have a state public service commission. The rates and
service of gas distribution utilities in Nebraska are subject to the
jurisdiction of the municipalities that are served. However, the municipalities
served by the Retail Gas Division in Nebraska do not have any jurisdiction over
any aspect of the Transaction.
ITEM 5. PROCEDURE.
---------
Sempra requests that the Commission publish a notice of the Transaction as
soon as practicable, that the Commission's order be issued as soon as
practicable following receipt by Sempra and K N of all other required federal
and state regulatory approvals, presently expected to be as early as August 1,
1999, and that there should not be a 30-day waiting period between issuance of
the Commission's order and the date on which the order is to become effective.
Sempra hereby waives a recommended decision by a hearing officer or any other
responsible officer of the Commission and consents that the Division of
Investment Management may assist in the preparation of the Commission's
decision and/or order, unless the Division opposes the Transaction.
ITEM 6. EXHIBITS AND FINANCIAL STATEMENTS.
---------------------------------
A - EXHIBITS.
--------
A-1 Amended and Restated Articles of Incorporation of Sempra
Energy (filed as Exhibit 3.1 to the Registration Statement
on Form S-3, dated April 29, 1998, in File No. 333-51309,
and incorporated herein by reference).
A-2 Amended and Restated Bylaws of Sempra Energy effective May
26, 1998 (filed as Exhibit 3.2 to the Registration Statement
on Form S-8, dated June 5, 1998, in File No. 333-56161, and
incorporated herein by reference).
A-3 Restated Articles of Incorporation of K N Energy, Inc.
(filed as Exhibit 3(a) to K N's Annual Report on Form 10-K
for the year ended December 31, 1994, in File No. 1-6446,
and incorporated herein by reference).
A-4 By-Laws of K N Energy, Inc., as amended on February 10, 1998
(filed as Exhibit 3(c) to K N's Annual Report on Form 10-K
for the year ended December 31, 1998, in File No. 1-6446,
and incorporated herein by reference).
B-1 Agreement and Plan of Merger, dated as of February 20, 1999,
among Sempra Energy, Cardinal Acquisition Corp., and K N
Energy, Inc. (filed as Exhibit 2.1 to the Current Report of
Sempra Energy on Form 8-K, dated February 23, 1999, in File
No. 1-14201, and incorporated herein by reference).
C-1 Registration Statement of Sempra Energy on Form S-4. (To be
filed by amendment).
C-2 Joint Proxy Statement of Sempra Energy and K N Energy, Inc.
(included in Exhibit C-1 Annex A).
D-1 Application of Sempra Energy, et al., to Public Utilities
Commission of Colorado, dated March 9, 1999. (To be filed by
amendment).
D-2 Order of the Public Utilities Commission of Colorado. (To be
filed by amendment)
D-3 Joint Application of Sempra Energy, et al., to Wyoming
Public Service Commission, dated March 9, 1998. (To be filed
by amendment).
D-4 Order of the Wyoming Public Utilities Commission. (To be
filed by amendment).
D-5 Application of Sempra Energy and K N Energy, Inc. to the
Federal Energy Regulatory Commission for Authorization to
Dispose of Jurisdictional Assets or for Disclaimer of
Jurisdiction, dated March 9, 1999. (To be filed by
amendment).
D-6 Order of the Federal Energy Regulatory Commission (To be
52
filed by amendment).
E-1 Map of natural gas service areas of SoCalGas, SDG&E and K
N's Retail Gas Division, interconnecting pipelines, and
supply basins. (Paper format filing). (To be filed by
amendment).
E-2 Map of K N Retail Gas Division's Colorado service area.
(Paper format filing). (To be filed by amendment).
E-3 Map of K N Retail Gas Division's Wyoming service area.
(Paper format filing). (To be filed by amendment).
E-4 Map of K N Retail Gas Division's Nebraska service area.
(Paper format filing). (To be filed by amendment).
F Opinion of Counsel. (To be filed by amendment).
G-1 Financial Data Schedule for Sempra Energy - per books
(incorporated by reference to Exhibit 27 to the Annual
Report on Form 10-K of Sempra Energy for the year ended
December 31, 1998, in File No. 1-14201).
G-2 Financial Data Schedule for Sempra Energy - pro forma. (To
be filed by amendment).
H Proposed form of Federal Register Notice.
B. FINANCIAL STATEMENTS.
--------------------
FS-1: Sempra Energy Unaudited Pro Forma Combined Condensed
Balance Sheet as of December 31, 1998. (Included in Joint
Proxy Statement).
FS-2: Sempra Energy Unaudited Pro Forma Combined Condensed
Statement of Income for twelve months ended December 31,
1998. (Included in Joint Proxy Statement).
FS-3: Sempra Energy Consolidated Balance Sheet as of December 31,
1998 (incorporated by reference to the Annual Report on Form
10-K of Sempra for the fiscal year ended December 31, 1998,
in File No. 1-14201.
FS-4: Sempra Energy Consolidated Statement of Income for the year
ended December 31, 1997 (incorporated by reference to the
Annual Report on Form 10-K of Sempra for the fiscal year
ended December 31, 1998, in File No. 1-14201.
53
FS-5: K N Energy, Inc. Consolidated Balance Sheet as of December
31, 1998 (incorporated by reference to the Annual Report on
Form 10-K of K N Energy for the fiscal year ended December
31, 1998, in File No. 1-6446).
FS-6: K N Energy, Inc. Consolidated Statement of Income for the
fiscal year ended December 31, 1998 (incorporated by
reference to the Annual Report on Form 10-K of K N Energy
for the fiscal year ended December 31, 1998, in File No.
1-6446).
FS-7: K N Energy, Inc. - Unaudited Balance Sheet Retail Gas
Division as of December 31, 1998. (To be filed by
amendment).
FS-8: K N Energy, Inc. - Unaudited Income Statement of Retail Gas
Division for the fiscal year ended December 31, 1998. (To be
filed by amendment).
ITEM 7. INFORMATION AS TO ENVIRONMENTAL EFFECTS.
---------------------------------------
The Transaction does not involve a "major federal action" nor will it
"significantly affect the quality of the human environment" as those terms are
used in section 102(2)(C) of the National Environmental Policy Act. The
Transaction that is the subject of this Application or Declaration will not
result in changes in the operation of the Applicant or its subsidiaries that
will have an impact on the environment. Sempra is not aware of any federal
agency that has prepared or is preparing an environmental impact statement with
respect to the Transaction.
SIGNATURE
Pursuant to the requirements of the Public Utility Holding Company Act of
1935, as amended, the undersigned company has duly caused this statement to be
signed on its behalf by the undersigned thereunto duly authorized.
SEMPRA ENERGY
By: /s/ John R. Light
-------------------
Name: John R. Light
Title: Executive Vice President
and General Counsel
Date: April 21, 1999
55
EXHIBIT H
PROPOSED FORM OF FEDERAL REGISTER NOTICE
SECURITIES AND EXCHANGE COMMISSION
(Release No. 35-_____)
Filings under the Public Utility Holding Company Act of 1935, as amended ("Act")
April __, 1999
Notice is hereby given that the following filing(s) has/have been made with
the Commission pursuant to provisions of the Act and rules promulgated
thereunder. All interested persons are referred to the application(s) and/or
declaration(s) for complete statements of the proposed transaction(s) summarized
below. The application(s) and/or declaration(s) and any amendments thereto
is/are available for public inspection through the Commission's Office of Public
Reference.
Interested persons wishing to comment or request a hearing on the
application(s) and/or declaration(s) should submit their views in writing by
, 1999 to the Secretary, Securities and Exchange Commission,
- --------------
Washington, D.C. 20549, and serve a copy on the relevant applicant(s) and/or
declarant(s) at the address(es) as specified below. Proof of service (by
affidavit or, in case of an attorney at law, by certificate) should be filed
with the request. Any request for hearing shall identify specifically the issues
of fact or law that are disputed. A person who so requests will be notified of
any hearing, if ordered, and will receive a copy of any notice or order issued
in the matter. After , 1999, the application(s) and/or
--------------
declaration(s), as filed or as amended, may be granted and/or permitted to
become effective.
* * * * * *
SEMPRA ENERGY (70-[ ])
- ------------- ----
Sempra Energy ("Sempra"), 101 Ash Street, San Diego, California 92101, has
filed an application - declaration pursuant to Sections 9(a)(2) and 10 of the
Act requesting authorization to acquire all of the issued and outstanding common
stock of K N Energy, Inc. ("K N"), a Kansas corporation. Sempra is an exempt
holding company pursuant to Section 3(a)(1) of the Act.1/ Its
- --------
1/ See Sempra Energy, 67 SEC Docket 994 (June 26, 1998) and 69 SEC Docket 104
(February 1, 1999)
predominant subsidiaries are Southern California Gas Company ("SoCalGas"), a gas
utility company), and San Diego Gas and Electric Company ("SDG&E"), a
combination gas and electric utility company. K N distributes natural gas at
retail in parts of Colorado, Wyoming and Nebraska, and is therefore a "gas
utility company" within the meaning of Section 2(a)(4) of the Act. Through its
non-utility subsidiaries, K N engages in gas transportation, gathering and
production, gas marketing and other energy-related businesses. On a consolidated
basis, K N's gas distribution operations account for a minor part (about 5%
based on gross revenues) of its overall operations, which are overwhelmingly
focused in the midstream and upstream segments of the natural gas industry.
Sempra also requests an order of the Commission confirming that it will
continue to be entitled to an exemption under Section 3(a)(1) of the Act
following its acquisition of K N as an additional public utility subsidiary.
Sempra and K N have entered into an Agreement and Plan of Merger (the
"Merger Agreement"), dated as of February 20, 1999, pursuant to which K N would
be merged into and survived by Cardinal Acquisition Corp. ("Cardinal"), a
wholly-owned, special purpose California corporation organized by Sempra for the
purpose of carrying out the merger transaction. Consummation of the merger is
conditioned upon approval by this Commission and by the Colorado Public
Utilities Commission, the Wyoming Public Service Commission, and the Federal
Energy Regulatory Commission ("FERC").2/ The Transaction is also subject to the
filing of Pre-Merger Notification Report Forms under the Hart-Scott-Rodino
Antitrust Improvements Act of 1976 and the expiration or early termination of
the required waiting period, approval by the shareholders of Sempra and K N and
other usual and customary conditions precedent for a transaction of this type.
Sempra and its Subsidiaries. Sempra indirectly owns all of the issued and
outstanding common stock of SoCalGas and SDG&E. SoCalGas distributes gas at
retail to approximately 4.8 million customers within a service territory of
23,000 square miles in central and southern California. The SoCalGas system
includes approximately 2,900 miles of transmission and storage pipeline, 44,000
miles of distribution pipeline, 43,000 miles of service pipeline, and 10
compressor stations, as well as five underground storage reservoirs with a
combined working capacity of about 116 billion cubic feet ("Bcf").
SDG&E is engaged in the generation, transmission, distribution, and sale of
electricity and the distribution and sale of natural gas. SDG&E serves
approximately 1.2 million electricity customers within a franchised service
territory that includes San Diego County and southern Orange County, California.
SDG&E currently operates fossil fuel-fired generating units with an
- --------
2/ In their application to the FERC, the applicants also requested FERC to
disclaim jurisdiction over the transaction. However, because the applicants have
requested FERC approval by July 15, 1999, the disclaimer request was made in the
alternative.
aggregate capacity of 1,924 MW, but is in the process of divesting all of its
fossil fuel-fired generation. SDG&E provides natural gas service to more than
700,000 customers in San Diego County. SDG&E's natural gas facilities include
164 miles of transmission pipeline, 6,843 miles of distribution pipeline, and
two compressor stations. All of the gas delivered to SDG&E by its suppliers is
transported through the SoCalGas pipeline system.
Sempra is also indirectly a member in Frontier Energy L.L.C. ("Frontier
Energy"), a North Carolina limited liability company that was formed to
construct, own and operate a new gas distribution system to serve rural areas of
western North Carolina. Frontier Energy commenced making gas deliveries in
December 1998.
Sempra's principal non-utility subsidiaries include Sempra Energy Trading
Corp., a marketer of natural gas, electricity, and other energy products; Sempra
Energy Resources, which is engaged in the business of acquiring exempt power
projects and natural gas storage, production, and transportation assets in
support of other Sempra subsidiaries; Sempra Energy Solutions, a retail energy
marketing subsidiary operating in California and throughout the United States;
Sempra Energy International, which is engaged in the construction, ownership and
operation of natural gas distribution and power generation projects outside the
United States; Sempra Energy Financial, which participates in tax-advantaged
investments such as affordable housing and alternative fuels; and Sempra Energy
Utility Ventures, which is engaged in the acquisition, development, and
operation of regulated energy utilities in the eastern United States and Canada.
For the year ended December 31, 1998, Sempra reported consolidated
operating revenues of $5.525 billion, of which $2.772 billion represented gas
utility revenues (including revenues from transporting customer-owned gas) and
$1.865 billion represented electric revenues. At December 31, 1998, Sempra had
total assets of $10.456 billion, of which $5.441 billion represented net utility
(electric and gas) plant.
K N and its Subsidiaries. K N and its subsidiaries engage in natural gas
gathering, processing, storage, transportation, and distribution, and marketing
of natural gas, natural gas liquids and electric power in 16 central and western
states, with the majority of its operations in Texas, Oklahoma, Kansas,
Nebraska, Colorado, Wyoming and Illinois. K N and its subsidiaries operate more
than 26,000 miles of interstate, intrastate and offshore transmission pipelines,
approximately 11,000 miles of gathering and processing pipelines, approximately
7,000 miles of local gas distribution pipelines, 16 storage facilities, and 19
natural gas processing plants with a total processing capacity of approximately
1.7 Bcf per day.
K N is directly engaged in the distribution of natural gas at retail to
more than 210,000 customers in mostly rural areas of Nebraska, Colorado, and
Wyoming. It distributes gas in these three states directly through a corporate
division that is hereinafter referred to as the "Retail Gas Division." All of K
N's other business activities are conducted through wholly and partly- owned,
subsidiaries which, for purposes of the Act, are not public-utility companies.
For the year ended December 31, 1998, K N reported consolidated operating
revenues of $4.388 billion, of which $222.8 million (or about 5.1%) were derived
from the distribution of gas at retail. At December 31, 1998, K N had total
assets of $9.612 billion, including $7.023 billion of net property, plant and
equipment, of which $165.5 million (or about 2.4% of the total) consisted of net
plant associated with K N's retail gas distribution business.
K N's principal interstate pipeline subsidiaries are K N Interstate Gas
Transmission Company ("K N Interstate") and MidCon Corp. ("MidCon"), which owns
Natural Gas Pipeline Company of America ("NGPL"). K N Interstate owns and
operates more than 6,600 miles of transmission lines in Wyoming, Colorado,
Kansas, Nebraska and Missouri. NGPL owns and operates approximately 11,600 miles
of interstate pipelines, field system lines, and related facilities. The NGPL
system consists primarily of two major interconnected transmission pipelines.
The Amarillo Line, comprised of 6,600 miles of mainline and small-diameter
lines, originates in the basins of West Texas and New Mexico and terminates in
the Chicago, Illinois metropolitan area. The Gulf Coast Line, comprised of
approximately 4,300 miles of mainline and small-diameter lines, originates in
the Gulf Coast areas of Texas and Louisiana and also terminates in the greater
Chicago area. The Amarillo and Gulf Coast lines are connected by a 230-mile line
running between Texas and Oklahoma. In addition to K N Interstate and NGPL, K N
owns or holds interests in two new interstate pipeline projects: K N Wattenberg
Transmission Company and TransColorado Gas Transmission Company
("TransColorado"). TransColorado owns and operates a pipeline system in western
Colorado which was completed in February 1999. K N, through subsidiaries, also
owns and operates intrastate pipelines in Colorado, Wyoming, Texas and Oklahoma.
K N's West Texas system includes 4,900 miles of pipeline capacity interconnected
with eight interstate pipelines and gas gathering and processing facilities in
seven Mid-Continent and Rocky Mountain states.
K N Services, Inc. ("K N Services") and K N Marketing, L.L.P. are engaged
in natural gas marketing and brokering subsidiaries. K N Services supplies about
58% of the total requirements of Retail Gas Division for its bundled gas sales
and, in addition, is the predominant supplier under the Retail Gas Division's
customer choice programs.
Through other non-utility subsidiaries, K N holds interests in four
qualifying facilities ("QFs"), as defined under the Public Utility Regulatory
Policies Act of 1978, which are located in Ft. Lupton and Greeley, Colorado. The
four QFs have a total generation capacity of 380 MW. The power generated by
these QFs is sold to Public Service Company of Colorado under long-term
contracts that expire between 2009 and 2019.
Consolidated assets of K N and subsidiaries as of December 31, 1998, were
approximately $9.6 billion, consisting of $7.0 billion in net plant property and
equipment, and $2.1 billion in current assets (cash, securities, accounts
receivable, etc.). For the twelve months ended December 31, 1998, K N reported
consolidated operating revenues of $4.4 billion, consolidated operating income
of $344.5 million and consolidated net income of $60 million. For the year ended
December 31, 1998, K N's Retail Gas Division reported total operating
revenues of $222.8 million, net operating revenues (gross revenues less cost of
gas) of $104.7 million, and net income of $11.9 million, respectively. At
December 31, 1998, the Retail Gas Division had total assets of $290.2 million,
including $165.5 million in net utility plant and equipment, $37.5 million in
advances to associate companies, and $51.1 million in current assets (cash,
accounts receivable, prepaid items, etc.).
Principal Terms of Merger Agreement. The Merger Agreement provides that K N
will be merged with and into Cardinal, a wholly-owned subsidiary of Sempra. Upon
completion of the merger, Cardinal will be renamed "K N Energy, Inc." All of the
property, rights, privileges, immunities, powers and franchises of K N before
the merger will vest in Cardinal and all of the debts, liabilities and duties of
K N before the merger will become the debts, liabilities and duties of Cardinal.
On the effective date of the merger, each share of K N's common stock ("K N
Shares") (other than shares as to which appraisal rights have been perfected
under Kansas law, shares held in the treasury of K N and shares owned by Sempra
or any of its subsidiaries) will be converted, at the election of the holder
thereof, into the right to receive 1.115 shares of Sempra's common stock
("Sempra Shares"), or $25.00 in cash, or a combination of Sempra Shares and
cash, for each K N Share. Shareholders of K N have the option to choose cash,
Sempra Shares, or a combination of the two, subject to pro-ration, such that at
least 70 percent of the K N Shares outstanding will be converted into Sempra
Shares and not more than 30 percent of the K N Shares will be converted into
cash. The total consideration (Sempra Shares plus cash) to be paid for the K N
Shares will be about $1.7 billion.
Sempra states that its combination with K N will create a good strategic
fit between two energy companies which are currently engaged in different, yet
complementary, segments of the natural gas industry: local gas distribution in
the case of Sempra, and midstream (i.e., transportation, storage and marketing)
and upstream (i.e., gathering and processing) operations in the case of K N.
Sempra currently derives almost all of its revenues from regulated sales of gas
and electricity and sales of electricity into the California Power Exchange. In
contrast, K N is primarily engaged in gas transportation and related midstream
market businesses and gathering and processing operations, primarily in the
Rocky Mountain and Mid-continent regions, and only incidentally engaged (through
its Retail Gas Division) in retail gas distribution. Sempra states that the gas
utility operations of the Retail Gas Division represent only 5.1% of K N's
consolidated operations, in terms of revenues, and 2.4% in terms of net plant.
After the merger, the Retail Gas Division will represent less than 5% of the
combined utility operations, customers and plant of all of Sempra's public
utility subsidiaries.
Sempra states that the transaction is expected to produce benefits for
investors and consumers and will satisfy all of the applicable standards under
Section 10(c) of the Act and that there is no basis for the Commission to make
any negative findings under Section 10(b) of the Act. Specifically, Sempra
states that the transaction will provide important strategic and financial
benefits to the shareholders of Sempra and K N and will position the combined
company to compete more effectively with other energy suppliers in the
increasingly unregulated and competitive energy services industry. Sempra
further states that, upon consummation of the transaction, it will own an
integrated gas utility system, as defined in Section 2(a)(2)(29)(B) of the Act,
comprised of its existing gas distribution properties in southern California, K
N's Retail Gas Division properties in Colorado, Wyoming and Nebraska, and
Frontier Energy's system in western North Carolina, as well as an integrated
electric utility system in San Diego and surrounding areas. Sempra asserts that
the K N's Retail Gas Division and SoCalGas and SDG&E share a common source of
supply, namely the San Juan and Rocky Mountain basins, which are in close
proximity to each other and linked by an interstate pipeline that is partly
owned by K N. Sempra states that economies and efficiencies will be achieved
through, among other things, the combined operations of Sempra's and K N's
marketing subsidiaries, which together will sell significant quantities of gas
to K N's Retail Gas Division and to the transportation-only customers of both
SoCalGas and K N Retail Gas Division.
Request for Exemption. Sempra is also requesting that the Commission issue
an order pursuant to Section 3(a)(1) of the Act confirming that Sempra, and each
of its subsidiary companies as such, will continue to be exempt from all
provisions of the Act, except Section 9(a)(2). In support of this request,
Sempra states that it and each public-utility subsidiary from which it derives
any material part of its income are incorporated in California and conduct their
public-utility operations substantially in California. Sempra further states
that it will not derive any material part of its income from K N's Retail Gas
Division operations. Specifically, Sempra asserts that on a pro forma basis,
based on 1998 data, the K N Retail Gas Division will account for 4.6% of its
combined utility revenues, 2.7% of operating margin (utility revenues less cost
of gas and cost of fuel for electric generation), 3.8% of total gas utility
customers, 2.2% of gross utility plant, and 4.9% of total gas deliveries to
retail customers (including deliveries to transportation-only customers).