The merger of Southern Electric and Scottish Hydro is likely to herald yet more bid activity in the sector, writes Andrew Taylor of the Financial Times

THE spate of mergers among UK electricity utilities, which face their biggest period of change since the industry was privatised in 1991, shows no signs of abating.

Southern Electric and Scottish Hydro-Electric recently announced that they were joining forces to create one of the country's biggest energy businesses with a combined market

capitalisation of more than £ 4.5bn.

The deal follows hard upon PowerGen's £1.9bn purchase of East Midlands, a regional electricity supply company, announced in June.

In August, Entergy of the US announced plans to sell London Electricity, bought for £1.3bn in December 1996. Southern and Scottish Hydro are thought to have been among 20 groups which had expressed an interest in buying the capital's electricity supplier.

The upsurge in bid activity has been prompted by several factors, but most importantly the introduction of competition to supply electricity to Britain's households - a move

expected to strengthen suppliers with the largest numbers of customers.

Competition started last month for the first 700,000 domestic electricity customers. By the end of next June, all 26m households are expected to have a choice of supplier.

Electricity companies have also been concerned about the prospect of tougher regulatory controls as well as proposed mergers.

Companies such as PowerGen, the country's second largest fossil-fuel generator, Southern Electricity and Scottish Hydro argue that integrated generation and supply operations will be best placed to thrive in the new competitive environment.

PowerGen has offered to sell at least 2,000MW of its 13,628MW of generating capacity in a bid to persuade the Government not to block its bid for East Midlands.

Stephen Littlechild, the industry regulator, is thought to want PowerGen and National Power, the largest fossil-fuel generators, to sell at least 10,000MW of coal-fired capacity

to promote competition. Prospective purchasers are thought to include Centrica, the trading arm of BG, the gas company, which is seeking to break into domestic electricity supply.

If the Southern/Scottish merger goes ahead, Jim Forbes, chief executive of Southern, indicates that a merged group would be interested in purchasing power stations from PowerGen or National Power.

A Government proposal that would require companies to split their supply and distribution operations into separately run businesses is expected to encourage further disposals and

acquisitions in the sector.

Mr Forbes, who will become chief executive of the merged Scottish and Southern Energy, also believes that an integrated power generation and supply business will perform better and have greater defensive qualities than stand-alone generation and supply businesses. He said: "Operating the length of the electricity supply chain - from generator to customer - will make it much easier to manage pricing risk.

"An integrated company can decide whether to step up or restrict generation, according to whether prices are high or low. It is also in a better position to protect low-margin supply operations from price volatility.

"An increased customer base - Scottish Hydro will add its 634,000 domestic customers to Southern's 2.65m - would increase market power and provide opportunities to improve efficiency."

Southern, which already has 200,000 gas customers in England, will now be able to sell gas to Scots - though many of Hydro's customers are beyond the pipeline network.

Mr Forbes said substantial savings would be achieved through the introduction of common systems and by combining management in a single head office, in Perth, Tayside.

However, he was reluctant to say how much, for fear the financial benefits might be clawed back by the industry regulator in the forthcoming pricing round.

Converted for the new archive on 30 June 2000. Some images and formatting may have been lost in the conversion.