SEC alleges illegal insider trading in TXU deal

updated 7:23 p.m. ET March 5, 2007

WASHINGTON - Federal regulators charged Friday that unknown investors pocketed more than $5.3 million in illegal profits from insider trading before TXU Corp. announced it had agreed to be sold for $32 billion.

The Securities and Exchange Commission said the insider trading was done through foreign brokerage firms to conceal the investors’ identities.

SEC lawyers in Fort Worth filed a lawsuit in federal district court in Chicago seeking restitution and civil fines against unknown defendants who bought options on TXU shares last week. The agency said it won a court order freezing $5.4 million in assets.

The SEC said the options allowed the defendants to buy shares when they hit prices ranging from $57.50 to $62.50. At the time the options were purchased, most if not all were above the price of TXU shares at the time.

The shares jumped 13.2 percent — from $60.02 to $67.93 — on Monday, when TXU announced that its board agreed to sell to Kohlberg Kravis Roberts & Co., Texas Pacific Group and four Wall Street firms in what would be the largest leveraged buyout ever. The buyers offered $69.25 per share.

Separately, TXU disclosed Friday that its purchasers have lined up $24.6 billion in debt financing to complete the deal.

The new debt would be heaped on top of TXU’s current debt of about $12 billion, pushing the utility’s total debt close to $37 billion. The TXU disclosure indicates that the buyers would contribute less than $8 billion to the deal.

In its annual financial report filed with the SEC, TXU said a “substantial majority” of the new debt would be added to its retail energy division and none would be added to the transmission business, the only regulated part of its business.

Fitch Ratings service said because of the disclosure, it expected to downgrade the credit of TXU and its subsidiaries again, from double-B-plu to single-B, further into junk-bond territory.

That means TXU bonds are a speculative investment but Fitch doesn’t yet expect default, said analyst Denise M. Furey.

A debt load of nearly $37 billion would put TXU’s debt-to-cash flow ratings higher than Dynegy Corp. and much higher than other rivals such as Mirant Corp. and NRG Energy Inc., Furey said. She believes TXU can handle the debt load as long as its power-generation business keeps producing strong earnings.

TXU benefits from high electricity rates in Texas and the lack of new power plants being built. However, Furey said in an interview, the company could be squeezed by an economic downturn or falling natural gas prices, which would cause rates to fall.

Mark Williams, who teaches energy risk management at Boston University, said the level of debt in the KKR-Texas Pacific deal, combined with TXU’s junk-bond status, will mean higher borrowing costs and ultimately higher rates to consumers. It could also unravel the deal, he said.

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