Energy Companies and Financial Crisis by puk10787

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									                              EUROPEAN MINE, CHEMICAL AND ENERGY                     6-8 July 2010
                                             WORKERS' FEDERATION
                                                                       Bierville (Etampes - France)
                            EUROPÄISCHE FÖDERATION DER BERGBAU-,
                              CHEMIE- UND ENERGIEGEWERKSCHAFTEN

                             FEDERATION EUROPEENNE DES SYNDICATS
                                                                                   with financial support of
                             DES MINES, DE LA CHIMIE ET DE L'ENERGIE             the European Commission



DISCUSSION PAPER of the developments in the energy sector.

                                             Sjef Stoop, FNV Formaat, february 2010


       1. Development of production, markets; pattern of internationalisation

Ever since the local energy markets began opening up to competition in the 1990s, a sweeping
structural transformation has taken place across national borders. Nevertheless the opportunities to
export are still limited so electricity companies instead focused on acquiring companies in other
countries. For example, France‟s EDF has grown through major acquisitions in the UK, Germany, Italy
and Eastern Europe. Germany‟s E.ON has acquired companies in the Nordic countries, Spain, Italy,
Eastern Europe and Russia, among other markets.
Within Europe there are some movements of electricity across borders and in fact some smaller
Member States and candidate countries are particularly dependent on external sources for their
electricity supply. But real competition is still limited in the retail electricity and gas markets that remain
highly concentrated.


       2. Costs, profits and company developments

The relatively low labour input in this sector is underlined by the very low share of personnel costs in
operating expenditure, just 7.4 % in the EU-27, less than half the non-financial business economy
average. Average personnel costs in the EU-27‟s electricity, gas, steam and hot water supply sector
were high in comparison with non-financial business economy averages, but even more so the
apparent labour productivity, indicating that value added per person employed was over three times as
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high as average personnel costs.

Power companies‟ earnings have been relatively unaffected by the financial crisis in 2008. However in
2009 companies have been dealing with the risks of large customers going into liquidation, defaulting
on payments, bargaining over delivery or simply shutting down plants and requiring less supply. Also,
the financial crisis has generally led to financing problems and considerably higher borrowing costs.
Companies have therefore increased their focus on liquidity issues. As a result of recent years‟
acquisitions, increased investment programmes and large loan redemptions in 2009, companies in the
electricity sector have very large borrowing needs. This, combined with a decrease in electricity and
gas demand in Europe and a drop in electricity and gas wholesale prices will put the sector under
pressure in 2010.
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Lacking figures over 2009, we can look at the 2 market leaders in Europe. EDF‟s 1 half 2009 results
show how the current economic crisis is impacting the industry. EDF reported that performance in
France was impacted by increased capital expenditure investment, exceptional events, and a
backdrop of the revival of nuclear power worldwide. But EDF nevertheless reported stable net
income. E.ON, by the end of 2009, said it was seeing the first signs of an end to shrinking power
demand while International Power said continental Europe businesses was ahead of expectations.
Both companies singled out the UK as a weak market. E.ON and International Power's more
optimistic outlooks bucked the trend of more gloomy forecasts from other European rivals such as
Sweden's Vattenfall, Austria's Verbund and Italy's Edison.


1
    See the comparative data fact sheet for more details.


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E.ON is benefiting from selling more power ahead of time than other utilities, escaping the price
decline. This price decline has led power prices in Germany, Europe's largest power market and a
benchmark for others, to halve in a year. The gas business, one of Europe's largest, is also helping
E.ON with volumes for the first time this year increasing in the third quarter.
Energy users have had to deal with dramatic fluctuations in the price they pay for energy commodities,
be it oil products, gas or power. Commodity and electricity prices generally have a large impact on
earnings. Companies with fixed-cost generation, such as nuclear or hydro power, are not affected by
rising fuel prices and therefore achieve higher margins. This applies, for example, for EDF and the
Nordic power companies. Nor do higher commodity prices affect companies that own fuel assets, such
as companies with own coal mines, like RWE, Endesa and Vattenfall. On the other hand, power
companies with high CO2 emissions are affected by higher costs for emission allowances.


       3. Employment development

The electricity,gas, steam and hot water supply sector across the EU-27 in 2006 employed 1.2 million
persons:
Largest countries in terms of employment            % of EU employment
Germany                                             19.1
France                                              13.0
Poland                                              12.8
UK                                                  9.0
Rumania                                             7.8

Over the ten years between 1997 and 2007, electricity, gas, steam and hot water supply output in the
EU-27 increased more or less in line with that for total industry, but employment fell 2.5 times faster
although also output prices grew much faster.

The workforce contained a particularly high proportion of men, above the industrial average. The
incidence of full-time employment was also above the averages. The age profile was also very
different from that for the rest of the economy. The proportion of the workforce aged less than 30 was
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particularly low.


       4. Main companies in the sector; Mergers and acquisitions (M&A’s)

Thousands of companies operate in the various national and regional energy markets in Europe -
everything from local, municipal companies to very large international companies with operations
spanning the entire value chain: generation, distribution, electricity trading and sales to end customers.
Several companies also have substantial sales of gas and are actively striving to integrate their
electricity and gas operations.
The sector is dominated by large enterprises. It has the highest employment share contributed by
large enterprises among the sectors.
In the 2000s some megadeals took place, for example Endesa was jointly acquired by the Italian
company Enel and Spain‟s Acciona, for a recordbreaking amount of US$68.2bn. Another example is
the merger between Suez and GDF.
Four years of record breaking M&A activities, ended in 2008. E.ON was the biggest buyer in 2007,
EDF in 2008. About 40% of all deals were cross border, the other 60 % domestic. Often domestic
mergers were the starting point to create „national champions‟ that would be able to play the global
M&A game. When this fails, foreign buyers step in as is shown in the Netherlands where plans to
merge Essent and Nuon failed and RWE acquired Essent (for €9.3 billion and including all of Essent's
business with the exception of its waste business and distribution grids), and Vattenfall acquired 49%
of the shares of Nuon in 2009.
It is noticeable that there have been no big acquisitions inside the EU from companies outside EU.



2
    See the comparative data fact sheet for more details.


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The main strategic drivers behind these M&A‟s are:
   - achieve economies of scale
   - acquire new customers
   - spread risks, securing supply and demand balance in power
   - establish a pan-European presence, companies seek to acquire scale and presence across
       territories
   - provide for a basis to leverage major investments that must be made in Europe‟s energy
       infrastructure, especially in new generation capacity, electricity and gas grids, and gas storage
       facilities.
Besides these drivers, regulatory pressure was also identified as a strong driver for M&A. For example
in 2009 Electrabel acquired certain power plants and drawing rights on certain electricity generation
capacity in Germany from E.ON AG of Germany. (Drawing rights make available guaranteed volumes
of electricity to the right-holder.). This transaction is linked to E.ON's acquisition from Electrabel of
power generation assets and drawing rights to electricity capacities in Belgium and The Netherlands,
which resulted from a commitment made by E.ON to divest power generation assets and electricity
drawing rights to resolve competition problems in Germany.
The political pressure towards unbundling (see par. 6) lead E.ON at the end of 2009 to sell its
high-voltage grid operator Transpower to TenneT, the Dutch state-owned grid operator for EUR 885
million. TenneT‟s takeover of Transpower is a step in developing a European electricity market. Also
Vattenfall has proposed to sell its transmission networks.
Regional spread however seems to be the most important driver of M&A‟s, followed by vertical
integration as is shown in PWC‟s survey 2009: 83% of the CEO‟s said their company is repositioning
by country and 50% within the value chain.
Vertical integration has several faces. Oil and gas companies are looking to integrate electricity
activities. Dong, BP and Total are examples of such companies. Conversely, certain electricity
companies are seeking to acquire positions in gas production by acquiring stakes in gas fields.
The revival of nuclear power is being reflected in a race among the big players to position themselves
in this sector. France‟s EDF went on the acquisition trail in the UK and the US for nearly US$30bn of
assets. The nuclear revival also spurred a number of joint venture deals between utility companies and
nuclear technology and construction companies.

The push for additional renewable generation was a major impetus behind many of the recent all-
Europe deals like the sale of a 25% stake in EDP Renováveis, the wind power arm of Portuguese
power group EDP, to institutional investors or UK-based electricity distribution network operator; and
Scottish & Southern Energy, acquiring Irish-based renewable energy company, Airtricity Holdings.

Now, for the time being, the time of giant M&A‟s is over. Many of the busiest M&A players are
concentrating on bedding down their acquisitions and delivering the synergies they are seeking.
Companies will also concentrate more on organic growth through investment. Most energy companies
in Western Europe shift their focus from acquisitions to organic growth and launched extensive
investment programmes, ranging from construction of entirely new power plants to upgrading and
renewal of existing plants, to expansion and strengthening of their electricity networks. According to
the Credit Outlook 2009 report, published in November 2008, the following investment programmes
have been announced:


              Amount, EUR                                              Amount, EUR
Company                            Year               Company                           Year
              billion                                                  billion
E.ON          60                   2007-2010          RWE              25               2007-2011
EDF           30                   2008-2010          Iberdrola        18               2008-2010
GDF Suez      30                   2008-2010          Vattenfall       18               2008-2012
Enel          37                   2008-2012


Due to the financial crisis and economic downturn, a few companies have indicated that they will be
reducing or delaying some investments if the negative market conditions persist.




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The more recent consolidation focus was at a domestic level. Spain‟s Gas Natural paid US$ 35.9bn
for the country‟s third biggest power company, Union Fenosa in 2008. In Switzerland, Atel and EOS
announced a combination that will form the leading electricity generation company in the country. In
Germany, EnBW, the country‟s third largest energy provider, purchased a 26% share of its peer, EWE
that had been held by the company‟s municipal stakeholders. Significantly, the German and the Swiss
deals each also mark expansion for EDF which has stakes in both combined entities.

Companies concentrate on smaller deals and divest non-core activities. EDF wants to sell 5 billion
euros of assets by the end of 2010. Group debt stood at 24.5 billion euros at the end of 2008, up from
16.3 billion a year earlier following the acquisition of British Energy.
One of the most recent upcoming deals offers an interesting insight in what the future could bring. EDF
is set to launch the sale of its British distribution arm at the end of January. EDF is hoping to get more
than 4 billion euros ($6 billion) for the networks to help cut its debts. Hong Kong's Cheung Kong
Infrastructure Holdings (CKI) has said to be are interested in the business, and so are Australia's
Macquarie, the Canada Pension Plan (CPP), and the Abu Dhabi Investment Authority (ADIA) who
have formed a consortium. This shows that financial players (Investment banks, private equity and
infrastructure funds) will continue to play an important role in power deal making.


All these deals have led to, for the time being, EDF and E.ON becoming the largest energy companies
in Europe:


                              Europe‟s largest electricity generators, 2007




Enel‟s acquisition of Endesa is not reflected in the diagram above. The opportunities for the biggest 5-
6 companies to continue growing through acquisitions in Europe are limited due to a lack of potential
acquisition candidates. However, they are expected to make complementary acquisitions - in Russia
and eastern Europe, for example. In addition, a number of asset swaps will most likely be initiated as a
result of the EU‟s demands for asset divestments to promote competition in the market.

Behind these giants is a group of companies that consists of more regionally based companies. Some
of these companies are generally regarded as acquisition candidates, while others are actively striving
to grow through mergers or acquisitions. Germany‟s municipal-owned Stadtwerke companies are
frequently singled out as acquisition targets.




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    5. Technology and the environment

Technological innovation is seen as central to a range of key developments in the sector. It is seen as
having most new impact on energy efficiency, solar power, combined heat and power, distributed
generation and combustible renewable generation. Looking further, carbon capture and storage will be
essential for the sector‟s contribution to the mitigation of climate change.
Looking ahead, the potential of distributed local off-grid generation may also provide opportunities for
power equipment and technology companies to play a more visible role with end customers.

All these developments will increase the likelihood of technology-driven competition. Utilities will try to
lower their “cost to serve” and distribution costs; adapt to new customer relationships; streamline and
simplify their organizations, processes and IT to increase efficiency; and manage their strategic
resources and take advantage of new technologies.


    6. Regulatory developments (with special attention to EU policies)

The EC has come with the Third Energy liberalisation Package. Calls for completer separation of
production and distribution arms of large integrated energy firms, have been dropped in return for a
series of measures, including tighter regulation of the separation of management (but not of
ownership) of supply and transmission as well as various consumer-oriented measures. It also deals
with the issue of cross–border transmission networks. Under the third liberalisation package, operators
of the main transportation networks will be obliged to co–operate and co–ordinate the operation of
their networks through the European Networks of Transmission System Operators. With sufficient
interconnection capacity foreign suppliers will be able to exert competitive pressure on national
incumbents.
All non-EU countries will be required to comply with the same unbundling requirements as EU
companies before they are certified to operate in the common market. Moreover, member states must
refuse certification if it is deemed to "put at risk the security of energy supply of the member state and
the Community". This so-called 'reciprocity clause' is widely interpreted as being directed at the
Russian state-controlled Gazprom, which is seeking to increase its share of the EU gas market.

Another important regulatory issue concerns carbon emission. The EU emissions trading scheme has
been in operation since 2005. Until now, consumption and CO2 emission drops are more cyclical than
structural. In 2009 the European Commission adopted the Climate-Energy package. Investments in
renewable energies are hit by the crisis. Carbon capture and storage is needed on the long term.
Besides, nuclear energy is still a contentious issue.


    7. Main issues for trade unions en EWC’s

In the coming years most of the big groups that have spent much money on acquisitions will be
looking for cash to pay off their debts.
The big struggle for market leadership will continue. For employees this might mean either working for
a company that changes ownership, or in a company that continually changes its outlook.
For smaller companies that have not yet become part of a big player, employee reps. wanting to
safeguard employment have supported different management strategies:
- being bought by a big player that is not yet (strongly) present in your country/region, so an
operational integration may be avoided and the local company may become the nucleus for the
national/regional headquarters with overhead jobs included.
- merging with other small players to have a stronger position when being bought by one of the giants
or even to withstand their pressures.
- stress local connections and become a locally based all-utility provider.
- being bought by one of the giants so at least the chance that in the foreseeable future yet another
even bigger company will again buy your owner is not too big.

Their might be a lack of funding for real investments and/or restructuring of newly merged entities.

Another issue to be dealt with is the relative high age of the average worker.




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Sources:
- European Commission, European Business – Facts and figures 2009
- European Commission Sectoral Growth Drivers and Competitiveness in the European Union, 2009
- Eurostat, Statistics in focus 37/2008, The main features of the EU manufacturing industry
- PWC: Utilities global survey 2009.
- PWC: Power Deals, Mergers and acquisitions activity within the global electricity and gas market,
2008.
- Vattenfall: Industry report 2008
- Cap gemini: 11th edition of the European Energy Markets Observatory, 2009




                           Sjef Stoop, FNV Formaat, february 2010




                         EMCEF Project
                         Exchanging sector experiences among EWCs
                         VS/2009/0494
                         VP/2009/003/429
                         SI2.545443
      With financial support of the European Commission



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