Deals: Rationalisation In Pipelines?

According to the market, APA Group's $1.06 billion takeover offer for fellow pipeliner, Hastings Diversified Utilities Fund (HDF), is over before the shouting starts.

APA revealed the $2 a security offer yesterday before trading opened and Hastings (HDF) securities jumped to the offer price, then to a day's high of $1.93, before closing at $1.90.

That was a gain of 13c or just under 8% on the day. The securities had closed at $1.77 on Tuesday.

APA securities ended the day down just 3c at $4.57, they had been down 10c at one stage, but investors concluded the deal would be positive and bid the units higher in the afternoon.

Investors seem to think the APA Group, which already owns 20.7% of HDF, has the box seat for the offer and a rival won't appear.

But shareholders in both companies might be getting ahead of themselves: the bid faces intense scrutiny from the competition regulator, the ACCC and don't be surprised if asset sales are ordered.

If APA succeeds with the bid, there will only be one other pipeline group of note and it will lack the scale of the merged APA-HDF group.

For that reason the deal faces big questions and perhaps some of the relative weakness in the price reflects that caution.

APA has already tried to meet any competition problems by pushing its Queensland Allgas pipelines into a separate unlisted company, while retaining 20% and management control. That might not be enough for the ACCC.

APA is offering 50c and 0.326 of a security for each remaining HDF security in an off-market bid.

The offer implies a value of $2 for each HDF security, and implies an enterprise value of about $1.8 billion for the investment fund managed by Hastings Funds Management.

All in all, the offer is really 20% less in value for that figure because of the existing 20% stake in HDF.

APA has raised around $477 million in cash by selling its Allgas pipeline business into a new unlisted investment vehicle.

APA said those funds would be used to pay down debt and the added capacity will be used to fund the cash component of the bid.

That will cost (at 50c a security) around $265 million.

APA will keep 20% of that new group (Marubeni of Japan will have 40% and the RREEF trust the other 40%).

HDF's pipeline assets include Epic Energy's three natural gas transmission pipeline systems - the Moomba to Adelaide pipeline system, the South West Queensland pipeline and the Pilbara pipeline system.

(The South West Queensland Pipeline of Hastings would be why the Allgas assets were spun off into a new business to try and avoid competition concerns at the ACCC.)

APA Group Chairman Len Bleasel said in a statement that the HDF assets are a natural fit with APA's infrastructure as they are able to be connected to one or more of its pipelines.

"The combined group of APA and HDF will form a unique asset footprint of infrastructure assets, and is expected to own and/or operate more than 15,000 kilometres of gas transmission pipelines across mainland Australia," he said in the statement.

"This transaction will create a bigger and broader energy infrastructure business, with a clear strategic focus on natural gas transmission."

The offer requires a minimum 90% acceptance level from HDF securityholders, plus regulatory approvals from FIRB and the ACCC. The offer documents will be sent out early next month.

Hastings Funds Management chairman Alan Cameron said the board would carefully consider the terms of the proposed takeover offer and comment as soon as their assessment has been completed.

A combined APA and HDF group would either own or operate more than 15,000 kilometres of gas transmission pipelines spread across the country.

Comment:

HDF is managed by Hastings Funds Management, a subsidiary of Westpac Banking Corp.

The bank holds about 9% of HDF, and its wealth management subsidiary BT Investment Management owns about 6.9%.

APA needs to make the offer friendly by lifting the price, say through allowing HDF holders to receive a distribution in early 2012 (that is barred under the terms of APA's offer yesterday).

APA also needs to get a recommendation from the HDF board to avoid triggering the re-negotiation of $1 billion in debt held in the Epic Energy associate that is co-owned by the two companies and which controls the Moomba to Brisbane pipeline, the key asset in HDF.

Without a recommendation and the bid classified as friendly, APA's offer has no chance of succeeding, even with its 20.7% stake.

So expect lot's of hot air from APA and not much from HDF, and then the announcement of a recommendation and a price comfortably above the $2 a security opening gambit.

And then the two companies can get down to the real issue: getting competition approval, which could be tricky without asset disposals.