III. The Proposed Transaction
A. Overview
LGS, Western Hub, and WHP Acquisition, the Joint Applicants in this proceeding, seek Commission authorization for a change in the ownership and control of LGS and its Lodi Facility. From the time of certification, LGS has been the wholly owned subsidiary of Western Hub.
As initially proposed (in the Application and 2001 Amendment), Joint Applicants sought authority for two entities, Aquila, Inc. (the former UtiliCorp. United Inc.) and ArcLight Energy Partners Fund I, L.P. (ArcLight), to acquire equal shares in Western Hub through a chain of affiliated companies and thereby to acquire indirect control of LGS. Specifically, Joint Applicants proposed that WHP Acquisition (which was owned jointly by Aquila, Inc. and ArcLight), purchase Western Hub from its current owners. To this end, on August 22, 2001, Western Hub, its owners and WHP Acquisition executed a Unit Purchase Agreement for the sale of Western Hub to WHP Acquisition for cash consideration of $105 million plus up to $3 million in expenses.
The 2002 Amendment and Supplement propose a much simpler transfer in which Aquila, Inc. plays no role, as its interest in WHP Acquisition has been bought out by ArcLight. Under the terms of the revised transfer proposal, Western Hub and WHP Acquisition would become indirect co-owners of LGS and the Lodi Facility. Attachment A to today's order illustrates the organizational structure of the revised proposed transaction,3 which is memorialized in the Amended and Restated Unit Purchase Agreement, executed on October 30, 2002,4 and the attachments to it. The proposal requires that Western Hub spin off all of its equity interest in LGS (valued at approximately $110 million) into a new subsidiary, Lodi Holdings, L.C.C. (Lodi Holdings), formed for the express purpose of owning, directly, 100% of LGS. WHP Acquisition would purchase a 50% share of Lodi Holdings by assigning to Lodi Holdings its interests (approximately $110,000,000) in a note for the construction loan financing LGS obtained through the replacement debt financing arrangement approved by D.01-08-023. WHP Acquisition would also extend the maturity date of the note to June 30, 2003 (it was previously extended from August 22, 2001 to October 30, 2002 and then to December 31, 2002). Western Hub would serve as Company Manager under the parties' agreement and in that capacity would continue to provide the day-to-day management of LGS.
According to Joint Applicants, the purpose of Lodi Holdings is:
. . . to simplify WHP Acquisition's investment in LGS. Western Hub has separate employees and holds other assets and liabilities unrelated to LGS. If WHP Acquisition were to purchase 50% of Western Hub, the Joint Applicants would need to create a mechanism to separately account for those other employees, assets and liabilities. The Joint Applicants therefore decided to establish a standalone entity-Lodi Holdings-to serve as the vehicle for the joint ownership of LGS by Western Hub and WHP Acquisition. The creation of Lodi Holdings avoids the need to address a number of complex compensation, accounting and tax issues and keeps the non-LGS business interests of Western Hub separate from LGS. (Supplement at 2-3.)
In addition to Lodi Holdings, the proposed transaction would utilize a second new entity, Lodi Finance, L.L.C. (Lodi Finance), also represented in Attachment A. Lodi Holdings would transfer the $110 million note from WHP Acquisition to Lodi Finance as a secured loan. Joint Applicants explain that the purpose of Lodi Finance is:
. . . to hold the construction Loan to be contributed by WHP Acquisition at the closing in exchange for its 50% interest in Lodi Holdings. This structure is intended to preserve LGS' potential tax benefits associated with the Construction Loan. It will also facilitate any future refinancing of the Construction Loan by enabling a prospective lender to purchase LGS Finance with the loan in place, thereby eliminating the necessity of re-filing mortgages and obtaining new title insurance policies. (Supplement at 3.)
The transaction Joint Applicants now propose differs from the prior one in the following, additional respects:
● Joint Applicants are no longer considering the debt-financing package (approximately $175 million) submitted as part of the Application and 2001 Amendment. Joint Applicants state that in the near future LGS may seek additional debt financing and at such time, will submit an application for Commission approval.
● Joint Applicants are no longer considering other contracts associated with the abandoned debt financing proposal and referred to in the Application and 2001 Amendment as the Turnkey Wrap of Construction Arrangements, the LGM Gas Storage Agreement, the LGM Marketing Contract or the Operations and Maintenance Contract.
● Joint Applicants recognize that the issue of whether LGS may retain its exemption from the 1997 Affiliate Transaction Rules will be considered in R.01-01-001 and they do not seek a determination in this proceeding.5
● Joint Applicants recognize that LGS is subject to the Interim Affiliate Reporting Requirements, the general reporting requirements for utility-affiliate transactions adopted in 1993 by D.93-02-019, as well as to other disclosure and filing requirements under Pub. Util. Code § 587 and Commission's General Orders (GOs), including GO 65-A, GO 77-K, and GO 104-A. Joint Applicants do not seek a relaxation of any of these requirements in this proceeding.
B. Parties to the Proposed Transaction
At present, three limited partnerships (Haddington/Chase Energy Partners LP, Haddington Energy Partners LP and Haddington Energy Partners II LP) own all but approximately 1% of Western Hub; ten individuals own the remainder.6 Western Hub has owned LGS since its certification in 2000.
WHP Acquisition is a Delaware limited liability company with its principal place of business in Kansas City, Missouri. As related above, ArcLight now owns 100% of WHP Acquisition.
ArcLight, is a Delaware limited partnership with its principal place of business in Boston, Massachusetts. It is managed by ArcLight Capital Holdings, L.L.C., a Delaware limited liability company founded by former executives of John Hancock Life Insurance Company and the investment banking community. The company was formed to make passive private equity and equity-like investments, and certain debt investments in regulated and unregulated public utilities and in other energy and telecommunications enterprises. According to the Application, as of September 2001 John Hancock Life Insurance Company had committed to invest up to $500 million in ArcLight. The 2002 Amendment states that subsequently ArcLight has received additional capital commitments from limited partners, resulting in total commitments of $950 million as of September 27, 2002.
C. Legal Standards
Pub. Util. Code § 854 requires Commission authorization before a company may "merge, acquire, or control . . . any public utility organized and doing business in this state . . . ." The purpose of this and related sections is to enable the Commission, before any transfer of public utility authority is consummated, to review the situation and to take such action, as a condition of the transfer, as the public interest may require. (San Jose Water Co. (1916) 10 CRC 56.)
The 2002 Amendment queries whether the transaction, as now proposed, is a change of control under Pub. Util. Code § 854. Joint Applicants point out that, under the revised Unit Purchase Agreement, Western Hub will retain 50% ownership of Lodi Holdings as well as operational control of LGS' day-to-day operations. Joint Applicants ask the Commission to approve the proposed transaction, or in the alternative, to state that such approval is not required.
Historically, the Commission has determined the applicability of § 854 on a case-by-case basis. Several previous Commission decisions explicitly recognize that Pub. Util. Code § 854 does not define "control" and refer to the California Corporations Code for guidance7; the Commission has not promulgated regulations to define "control" in terms of a percentage of stock ownership.
Under diverse fact situations where a public utility owner has either transferred or proposed to transfer a 50% interest in the utility, or has acquired a 50% interest in another utility, the Commission has asserted jurisdiction to review the transaction under § 854 and has approved or disapproved the transfer.8 Under facts involving a change in the form of ownership but no change in the actual control of the utility, several Commission decisions have held § 854 to be inapplicable and have dismissed the underlying application.9 But in an application under Pub. Util. Code § 852 (which requires any corporation holding a controlling interest in a California public utility to obtain prior Commission authorization before it acquires any part of the capital stock of another California public utility), the Commission expressed concern that blanket authorization for a utility to purchase additional shares in its holding company parent could affect control of the parent, and limited the authorization to five years to avoid conflict with § 854.10
3 Attachment A is a copy of the diagram filed with the Supplement as Exhibit 6 to the 2002 Amendment. We have revised the diagram to include names, shown in parentheses, consistent with the nomenclature used in this order. 4 The Amended and Restated Unit Purchase Agreement, filed with the Supplement, is Exhibit 5 to the 2002 Amendment. 5 The Affiliate Transaction Rules, adopted by D.97-12-088 as subsequently modified by D.99-09-002, govern relationships between energy utilities and their affiliates and resulted from proceedings the Commission initiated in 1997 in light of fundamental changes in the California electric and gas markets stemming from electric restructuring and the consequent potential for utility/affiliate self-dealing and cross-subsidization. D.00-05-048 granted LGS an exemption from the Affiliate Transaction Rules because LGS had not been made a respondent to the rulemaking that promulgated those rules and because the Commission had determined that, at that time:- . . . it [LGS] does not possess market power in the California gas storage market or the ability to cross-subsidize LGS' affiliates with ratepayer assets at this time . . . . (D.00-05-048, 2000 Cal. PUC LEXIS at *99.)
- a) Except as provided in subdivision (b), "control" means the possession, direct or indirect, of the power to direct or cause the direction of the management and policies of a corporation.
b) "Control" in Sections 181, 1001, and 1200 means the ownership directly or indirectly of shares or equity securities possessing more than 50 percent of the voting power of a domestic corporation, a foreign corporation, or an other business entity.
