Avista deal began to unravel over the summer with Ontario elections

A hearing in Olympia in May offered hints that Avista Corp.’s sale to Hydro One Ltd. was headed for trouble.

Ontario’s legislative election was just days away, and the three-member Washington Utilities and Transportation Commission was asking pointed questions of Mayo Schmidt, Hydro One’s chief executive officer.

Schmidt’s pay at Hydro One had become a campaign issue in Ontario, where the province owns 47 percent of Hydro One’s stock.

Doug Ford, a Progressive Conservative Party candidate, dubbed Schmidt the “$6 million man.” While Ford took aim at Hydro One’s executive compensation and promised a shakeup at the utility and lower electric rates if elected, another political party wanted Hydro One to return to full ownership by the province.

“Mr. Schmidt, I’d like you to address this issue of concern about foreign ownership and the role of the province in having significant control of Hydro One,” UTC Commissioner Ann Rendahl said during the Olympia hearing. “Especially with the potential change in the political landscape.”

Schmidt was unruffled by the questions fired at him.

“The province is a shareholder, not a manager of the business,” he told the commission. “The province has been exemplary in not involving themselves in the business of the organization.”

Seven weeks later, Schmidt was gone. Ford asked for the resignation of Hydro One’s board of directors and Schmidt’s retirement in July shortly after he took office. And the $5.3 billion sale of Avista – which had looked promising earlier in the year – was suddenly on the rocks.

To Craig Hart, president of Hart Capital Management in Spokane, the UTC’s decision last week not to approve Avista’s sale to Hydro One wasn’t a surprise.

After the shakeup at Hydro One, “it was definitely more of a challenge,” Hart said of the companies’ path to winning regulatory approval for the sale. “I was actually surprised that (Avista’s) stock held up as well as it had.”

Avista’s stock continued to trade near Hydro One’s proposed purchase price of $53 per share through the summer and fall, tumbling back to the low- to mid-$40 per share range only after the Washington commission announced its decision last week.

In blunt language, the UTC said the province’s political meddling in Hydro One’s business affairs made the deal too risky for Avista customers.

Commission members cited the sudden ouster of Schmidt and the board, Ford’s promise to cut electric rates by 12 percent and recent legislation related to Hydro One’s executive pay as evidence the utility was under the provincial government’s thumb and subject to the political whims of its leadership.

Ford’s government, they said, acted with “careless disregard” for Hydro One’s financial integrity by seeking the abrupt departure of the board and Schmidt for political reasons. Avista’s and Hydro One’s stock prices dropped after the ouster and Hydro One’s credit rating was damaged. Neither the board nor Schmidt stood up to Ford. Those actions contradicted repeated assurances from Hydro One’s new chairman about the utility’s independence. As a result, Hydro One isn’t a “reasonable or appropriate” partner for Avista, and the sale isn’t in the best interest of customers, the commission said.

Avista and Hydro One can challenge the commission’s ruling, but the companies haven’t indicated if they’ll pursue an appeal. They’ve been silent, except for a brief statement expressing disappointment in the decision.

Ford, meanwhile, issued a defiant statement Thursday, saying he’s a champion for Hydro One’s customers, not “foreign regulators.”

“Our government ran on a clear promise to clean up the mess at Hydro One. This included a firm commitment to renew the Hydro One senior leadership that had lost the confidence of Ontario ratepayers,” Ford said in the statement.

The deal to purchase Avista “did nothing to lower hydro rates for Ontario residents,” he said.

Wednesday’s decision by the UTC raises a number of questions: Would the commission have approved the sale if the Hydro One shakeup hadn’t occurred? What happens next? Will Avista look for another sale or merger opportunity?

The commission speaks only through its rulings. So it’s hard to discern whether the UTC would have rejected the sale without the dramatic upheaval at Hydro One last summer.

The July 11 ouster of Schmidt and the Hydro One board, however, came just a month before the commission’s initial, mid-August deadline to issue a decision on the sale. Others were supporting it.

UTC staff favored a settlement proposal from the companies detailing how Avista would operate after the purchase. So did the state attorney general’s Office of Public Counsel, which reviewed it on behalf of Avista customers. The settlement offered a number of concessions from Hydro One to sweeten the deal: Avista’s headquarters would remain in Spokane; employees would keep their jobs; Avista would continue its role in local philanthropy and economic development; customers would get rate credits.

From a business standpoint, Hydro One “appeared to be a very solid acquirer up until the point when they reshuffled the management,” Hart said. “This partner-purchaser really bent over backwards to try to arrange for a merger that allowed for many of Avista’s community investments to continue.”

The Hydro One shakeup brought renewed scrutiny to the sale. Public utility commissions in Washington, Idaho and Oregon put their deliberations on hold, refusing to make a decision before a new board of directors was in place.

The sale was already unpopular with many of Avista’s Washington and Idaho customers, who were suspicious of foreign ownership of the utility that supplied their electricity and natural gas. Barbs traded between President Donald Trump and Canadian Prime Minister Justin Trudeau at the G7 Summit in Quebec in June helped fuel unease. “America first,” one Idaho resident testified at a public hearing on the sale in Coeur d’Alene.

Avista’s assurances that it would continue to operate with a high degree of autonomy and a separate board of directors after the sale didn’t allay opponents’ concerns. Hundreds of public comments poured into public utility commissions in Washington and Idaho.

Customers also wondered why Avista was seeking to be acquired. The company – formerly Washington Water Power – has been a corporate presence in Spokane since 1889.

Scott Morris, Avista’s chairman and CEO, characterized the sale to Hydro One as an opportunity for the utility to choose its partner during a time of financial strength. Avista is among the U.S.’s smallest publicly traded utilities, and the industry has been consolidating for years.

“By selecting an acquisition partner that truly understands this heritage of Avista, we may avoid the potential of someday being acquired by others who might be less appreciative of how we do business,” Morris testified to the commission.

Hydro One, which serves 1.3 million customers in suburban and rural Ontario, was the right size for the acquisition to be a “merger of equals,” Morris said.

Morris also enjoyed a cordial relationship with Schmidt, a dual U.S.-Canadian citizen who was recruited to lead Hydro One in 2015 when the province decided to sell off its government-owned electric transmission business.

Schmidt, a native Kansan, had turned a struggling Saskatchewan wheat co-op into a global business valued in the billions of dollars. He had previously worked in Montana, where he still owns a ranch.

“He’s somebody that could absolutely work here at Avista,” Morris said when he introduced Schmidt to Avista employees a few months after the sale was announced in July 2017.

Although Morris viewed Hydro One as “representing the best among alternatives” for an acquisition because of his interactions with Schmidt, Hydro One’s direction has now shifted, the commission wrote in its decision.

In addition, both Morris and Schmidt had testified that neither company expected much “in the way of synergies from their combination, at least in the near term.” Beyond that, the prospect for future benefits from the merger appeared vague, the commission said.

With the apparent demise of the Hydro One deal, Avista is likely to remain “in play,” Hart said, receiving other inquiries about mergers or acquisitions. But “is management now actively looking for other partners? You’ll never get a clear answer on that,” he said.

Avista and other utilities have benefited from interest rates being at historic lows, Hart said. When interest rates decline, the dividends utilities pay out are more attractive to investors, which helps their share price. Utilities can also borrow money at more attractive interest rates, and that’s important because they spend heavily on infrastructure, he said.

If interest rates were to trend up over the next five years, Avista’s value could be impacted, Hart said.

Whether Avista would be better off as part of a larger company is a hard call, Hart said.

“We don’t have the luxury of knowing what the future holds or the future of energy,” he said. “They are one of the smallest of the publicly traded companies, but there are many private companies that are much smaller.”