Texas Pacific Group (TPG) and Kohlberg Kravis Roberts & Co. (KKR) smell opportunity. Under the terms, shareholders will be offered a 25 percent premium that amounts to $69.25 a share. They are furthermore offering a 10 percent rate decrease as well as price protections through September 2008. The private firms also say that they will only build 3 of the 11 proposed coal-fired powered plants that TXU had wanted -- all leading to endorsements from the Natural Resources Defense Council and Environmental Defense, which have proclaimed an end to older forms of coal generation.

“TPG and KKR have structured a deal that puts them in a 'good guy' position,” says Robert Bellemare, CEO of consulting firm UtiliPoint International. “And deregulation in Texas makes the buying and selling of utility assets simpler than if they were in a state with more traditional vertically integrated utilities. There will be some federal filings and anti-trust concerns. But, this appears to be more of a box-checking exercise in this case. In the end, given the strength of their initial offer I expect they’ll be able to get the necessary approvals -- ironic because it is the biggest private buyout ever proposed.”

Last year, of course, state regulators ended up denying two major utility combos that involved Exelon and PSEG and FPL and Constellation. At the same time, Oregon regulators previously rejected TPG's bid for Portland General Electric while Arizona regulators did the same to a KKR-led group in its bid to buy UniSource.

In the case of TXU, TPG and KKR come into the situation riding a white horse. The private equity firms won't face strong protests from environmental and consumer organizations. That's because they have vowed to scrub the proposal to build 11 coal-fired power plants -- a concession that many skeptics say cost them absolutely nothing because most of those generators had no shot of ever getting erected. Instead, they will build three of those facilities that are expected to be among the most profitable.

Clearly, TPG and KKR are interested in TXU's underlying assets and specifically its power plants. TXU has been able to price its power based upon the marginal supply, meaning the high price of natural gas allows it to profitably sell its coal-fired power. Furthermore, TXU sells energy into a market where out-of-state power suppliers do not exist, giving it first dibs into a lot of lucrative markets.

End Game

Ordinarily, regulators are skeptical of private investors. Power plants and transmission wires, after all, are vital components of communities and the economic engines that make them roar. Those watchdogs are rightfully concerned that private parties are interested in churning assets in an effort to make fast and large profits.

"Is that the end game?" asks James Halloran, Wall Street analyst with National City Bank in Cleveland. "At some point, it probably is. Just like the buyout offer, the regulatory process is a negotiation. What are TPG and KKR willing to give up for Texas regulators to approve it? The offer to not build 11 coal plants is the most visible piece, but it's just one aspect of the approval process."

There's no disagreement that the demand for power both nationally and specifically in Texas is expected to rise. And, more power plants will be necessary to meet that need. The private investors know that they will not only be able to maximize the output of TXU's current fleet of generation but also that they would likely be able to do the same for all new power plants.

The unanswered questions are what technologies and what fuel types will replace the 9,000 megawatts of generation that TXU proposed. The private firms will go ahead with three coal-fired plants. The balance, however, will probably be wind, nuclear and possibly coal gasification -- the most modern form of coal generation, says Christine Tezak, regulatory analyst with Stanford Policy Research in Washington.

TXU understood from the outset the difficulty of getting all 11 coal-fired plants permitted, necessitating it go into the regulatory proceedings with other alternatives. But, no one ever predicted that private investors would seek to purchase the biggest utility in Texas. Now, TXU is foregoing its business plan and embracing a new course while the private equity firms are trying to be good corporate citizens.

"We intend to hold this as a long-term asset, and we recognize the need to balance growth with environmental considerations," says Henry Kravis, principal of KKR that has partnered with TPG before in the Texas energy sector. The two were part of a broader consortium that bought a Houston wholesale power generation company called Texas Genco. They held the asset for more than year before selling it to NRG Energy for six-times what they paid.

If private firms are committed, however, they can make a real difference -- just as Berkshire Hathaway has done with MidAmerican Holdings. The private firm, which bought the utility in 2000, is making money and modernizing infrastructure.