Before diving into the acquisition terms further, first here is some background on both of these companies. Dominion is a $52 billion utility company, providing electricity and natural gas to nearly 5 million homes across 18 states. Headquartered in Richmond, VA, it primary serves the eastern U.S. Its Generation segment provides electricity through gas, coal, nuclear, oil, renewables, hydro, and solar. And its Energy segment engages in natural gas distribution operations, gas transmission pipeline and storage operations, and natural gas gathering and processing.
SCG is a much smaller company with a market cap of about $5.5 billion. It is headquartered in South Carolina and it also engages in the generation, transmission, distribution, and sale of electricity to customers in the Carolinas. As of December 31, 2016, the company provided electricity to approximately 709,000 customers, compared to the roughly 5 million for Dominion.
From a strategic standpoint, the acquisition of SCG would significantly bolster Dominion's presence in the southeastern U.S. In the press release this morning, management commented that the acquisition would complement its existing operations in the Carolinas, including Dominion Energy Carolina Gas Transmission, Dominion Energy North Carolina and the Atlantic Coast Pipeline. Furthermore, it would give Dominion a natural gas pipeline network totaling 106,400 miles, representing one of the nation's largest natural gas systems.
For SCG, the benefit is quite easy to understand. As noted above, the deal represents more than a 30% premium to its stock price over the past month. And, upon closing, SCG shareholders would own an estimated 13% of the combined company.
So, the question is, why are shares of Dominion sinking today if the deal seems to make strategic sense, and, given that it is expected to be accretive to earnings? There could be a couple causes. First, perhaps shareholders feel the company is being overly generous with the 0.669/shares of stock for a company that is a tenth the size of Dominion. Put another way, starting with a 30% premium may look rich, especially if SCG comes back to the negotiating table looking for a little bit more.
On top of that, Dominion is also issuing a $1.3 billion cash payment to all customers, and, it is offering a 5% rate reduction from current levels. This latter is a result of lower federal corporate taxes under the new tax reform legislation, but, investors would probably prefer to see those savings paid out in the form of distributions. The reason Dominion is putting these offers together is for regulatory approval purposes. If it can show regulators that the combined company isn't a threat to consumers, it has a better chance of gaining approval.
To wrap up, the deal does look appealing overall for Dominion over time as it expands its reach and enhances earnings. In the short term, the cash outlays and stock distributions to SCG shareholders isn't sitting too well with investors at the moment. But, for the longer term investor, this dip in stock price may ultimately become an opportunity as the combined company will likely generate higher distributions over time.