D.C. gas merger hinted for BGE Idea of alliance has not reached formal talks

Combining with Pepco

Deal would consolidate customers, head off potential competitors


The Baltimore Gas and Electric Co., deeply enmeshed in completing a merger with the Potomac Electric Power Co., is considering a similar future alliance with the Washington area's primary natural gas supplier, company sources said.

Although BGE has yet to hold formal talks with the Washington Gas Light Co., several "high-level discussions" on the subject have occurred internally at the $8.1 billion utility.

But a top Washington Gas official said last week that such a combination between the $1.3 billion gas supplier and Constellation Energy Corp., the entity BGE and Pepco are working to create, may not make sense.

"I don't see anyone providing better value to our shareholders or customers than we are," said James H. DeGraffenreidt Jr., Washington Gas' president and chief operating officer.

"We're an efficiently run company. However, if we saw a good deal, we would have an obligation to pursue it."

Aligning with Washington Gas would provide various strategic advantages for Constellation, including securing more than 768,000 homes and businesses as customers and eliminating potential competition as the utility industry becomes less regulated.

It would also allow Constellation immediate entry into the Washington gas market, without costly capital expenditures. BGE has said that expanding its natural gas territory is a prime objective.

"We do not comment on rumors or speculation, and this falls into those categories," BGE spokesman Arthur J. Slusark said.

Washington Gas, 148 years old and the nation's 17th-largest natural gas concern, supplies customers in Washington, Virginia, West Virginia and Western Maryland.

By 2000, the company projects it will have 850,000 customers. Last year, Washington Gas added a record 25,000 new customers, a 3.4 percent increase vs. an industry average of 1.7 percent.

"It would make as much sense as combining with any other geographically contiguous utility," said Frank J. Setian, a partner in Barr, Devlin Associates Inc., a New York investment banking firm specializing in utility mergers.

"Certainly Washington Gas would be on a short list of likely future candidates, if that was part of Constellation's strategy."

The formation of Constellation Energy is slated to occur in March 1997, creating the nation's ninth-largest power company with $15.1 billion in assets.

No merger overtures to Washington Gas are expected before then, because of necessary regulatory approvals.

Because of Washington Gas' solid financial performance of the past few years, any deal would be relatively expensive. For the 12 months ended Dec. 31, Washington Gas generated record net income applicable to common stock of $72.2 million, a 27.5 percent jump from the year before.

Based on Washington Gas' recent stock price, its number of outstanding shares and the 20 percent premium BGE will pay to Pepco shareholders, Constellation would have to pay at least $1.13 billion for Washington Gas stock.

"Unless the offer was very attractive, it would be very difficult to persuade Washington Gas to go along in a friendly way," Mr. DeGraffenreidt said.

For Washington Gas, a merger would avoid the potential loss of roughly 10 percent of its annual revenues from Pepco, the company's largest single customer, according to its most recent annual report.

It would also prevent a hostile takeover from utilities such as Dominion Resources or Virginia Power, two Goliath power companies eager to expand.

Pepco officials cited the ability to control their own destiny as one of the factors behind the BGE merger.

A deal to make Washington Gas part of Constellation would contain negatives, however.

Chief among them is that more than half of Washington Gas' employees -- like Pepco's -- are unionized. BGE executives have said they hope to keep Constellation union-free in order to compete effectively, and are working to defeat an organizing movement within the Baltimore-based power concern.

And Washington Gas has had a resurgence of union activity in the wake of a breakdown of contract talks with the International Union of Gas Workers, which led to a June lockout.

Although employees returned to work in September, it wasn't before the union filed charges of unfair labor practices with the National Labor Relations Board. The NLRB dismissed the charges last week.

Still, several industry experts believe that a Constellation-Washington Gas pairing may not only be advantageous to both sides, but inevitable.

"It would be a logical fit, and for the customer it would likely be a better deal because of the benefits of Constellation's size," said Alex Hart, a utility analyst with Ferris, Baker Watts Inc. in Baltimore.

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