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Eversource enters 'lower risk' business with unconventional water deal

Some Wall Street analysts were admittedly left scratching their heads over Eversource Energy's proposed $1.68 billion purchase of New England's largest private water company, but agree the move makes strategic sense.

Eversource on June 2 announced that it agreed to acquire Aquarion Water Co. from a partnership led by Macquarie Infrastructure Partners. Eversource will pay about $880 million in cash and assume $795 million in debt to acquire Aquarion Water of Connecticut, Aquarion Water of Massachusetts and Aquarion Water of New Hampshire. Aquarion Water serves about 230,000 customers in the same New England states where Eversource serves 3.7 million electric and gas customers through its six regulated utility subsidiaries.

"[W]hile the deal is somewhat of a head scratcher to us it does complement [Eversource's] infrastructure business and has regional overlap," Guggenheim Securities LLC analyst Shahriar Pourreza wrote in a June 2 research report.

The deal comes as the bid deadline approaches for the auction of Eversource's portfolio of hydroelectric and fossil-fueled power plants primarily in New Hampshire. J.P. Morgan Securities LLC on Feb. 28 began the sales process for more than 1,000 MW of generation capacity owned by Eversource subsidiary Public Service Co. of New Hampshire. The sale is part of an agreement between Eversource and New Hampshire regulators and lawmakers "aimed at completing deregulation of the electric utility industry in the Granite State and stabilizing rates."

Pourreza noted that the Aquarion deal "backfills" the generation earnings, while providing the potential for synergies.

"Potential synergies from the transaction could stem from additional procurement power at the water utility and additional finance savings, although we don't view synergies to be substantial," Pourreza wrote. "That said, the Aquarion assets would allow [Eversource] to enter into a lower risk business with nearly the same ROE with higher rate base and growth at a time when they are exiting the higher risk generation business." Eversource is expected to fund the Aquarion acquisition with proceeds from the generation sale.

Guggenheim added that the regulatory framework for water utilities in Connecticut allows for decoupled rates and immediate recovery of investments. In addition, there is legislation that "allows premiums to be added to financially distressed water assets," which could set the stage for further acquisitions.

"We view acquisition growth coupled with the need to replace an aging water system in the region as a strong complement to [Eversource's] overall growth profile with substantially reduced risk," Pourreza wrote.

"The acquisition is an excellent strategic fit for both companies," Eversource spokesman Michael Durand said in an email response to questions. "From an operational and financial perspective, Aquarion also has a similar business model to Eversource's electric and natural gas distribution companies, driven by replacing older infrastructure and meeting customer needs."

Wells Fargo Securities LLC, in a June 5 report, called the deal "somewhat of a surprise outcome."

"We don't believe this is the start of a trend," analysts wrote.

Wells Fargo, however, noted that infrastructure improvement needs have driven strong M&A interest among gas utilities, while water utilities have similar pipeline replacement needs and offer low-risk growth. Still, the brokerage doesn't expect a wave of acquisitions.

"[T]he pool of water utility acquisition targets is quite limited and the multiples likely required to entice a seller to the bargaining table would make accretion a challenge for most electric utilities ­— particularly in the face of federal tax reform uncertainty," analysts wrote.

Morgan Stanley Research said the acquisition adds 7 cents to 8 cents of EPS accretion in 2018-2020. The firm raised its price target for Eversource to $64 from $63 to reflect the transaction.

"We see the deal as a positive as Aquarion's utilities have low regulatory lag in favorable jurisdictions, the business offers additional growth opportunities for [Eversource] through potential acquisitions of municipal water systems in New England, and it provides [Eversource] an avenue to reallocate cash from its generation business (where earnings are declining) into a premium business offering attractive growth," Morgan Stanley analyst Devin McDermott wrote in a June 5 report.

"While operating synergies are likely limited, there could be opportunities to refinance some of the Aquarion debt at lower rates due to [Eversource's] strong credit rating," McDermott added.

The transaction is subject to certain customary closing conditions, including approvals from the Connecticut Public Utilities Regulatory Authority, the Massachusetts Department of Public Utilities and the New Hampshire Public Utilities Commission and the expiration or termination of the Hart-Scott-Rodino Act waiting period. It is expected to close by Dec. 31.

"We believe regulatory pushback will be relatively limited since [Eversource] already has a presence in each of Aquarion's states and interacts with the same regulators," Morgan Stanley said.