Two’s company
Set against a background of bad press relating to its Pakistani
assets, loss of confidence in its management team, a number of
profit warnings and strategic mishaps which were then followed by
the resignation of the chief executive officer ? National Power's
share price has had a fairly rough ride over the past two years. So
it is little surprise that the November 1999 decision to de-merge
the company, which was completed on October 2 2000, was motivated
by shareholders desperate to make sense of a business with
contradictory aims.
The de-merger, which split National Power's UK power business and its international operations into two companies Innogy and International Power (IPower), also poses the question of how companies juggle the roles of a developer with that of a utility competing in a liberalised market.
National Power, the developer, had built up an international portfolio of power assets, some of which are in developing countries, and most of which are financed as single assets under a project finance structure. ?It's much higher risk than a vertically integrated business,? says Paul Lund of Standard & Poor's in London. ?These are single assets in various countries and markets.?
But at the same time, the company was continuing to act as a utility in the UK ? now one of the most aggressive and competitive markets in the world.
National Power was aware that companies such as AES, Calpine, Dynergy and NRG were competing with its international operations but had higher stock market ratings. However, the value of National Power's international business was not being reflected in its own share price. In the UK, the company was already hit by an increasingly competitive market, government regulations and restrictions on the number of power plants being built have hit power utilities.
But it was the realisation that investors that held National Power for its UK utility status and annual dividend were not necessarily the same investors who were attracted to its international operations ? a high growth capital hungry international business.
In a recent report Schroder Salomon Smith Barney said: ?The skills needed to run a declining UK utility business and a fast growth international merchant generator business are so different that it was necessary to have separate companies that can focus specifically on each challenge.?
Both companies are now listed separately on the London Stock Exchange. Says Geoff Knox of ANZ in London: ?IPower is clearly different stock and one that is not particularly well understood in the UK because there is no dividend but wealth is gained through the share price.?
Competing in a tough market
Liberalisation in the UK power sector has brought a host of new power companies on the scene all competing on price. Whereas 10 years ago National Power held 52% of the generating capacity, that share had dwindled to nearer 8% shortly before the demerger.
Says Standard & Poor's Lund: ?In terms of generating capacity, Innogy's market share may be much smaller than National Power's was 10 years ago but the company is still set up reasonably well. Innogy now has a fairly good balance between generation and supply. But it has also negotiated quite a good deal with Independent Energy recently.?
The deal, which was announced in the middle of September this year, involves Innogy's acquisition of the major supply business assets of Independent Energy, a business then in the hands of the joint receivers Roger Oldfield, Myles Halley and Mick McLoughlin of KPMG.
Given the small price tag of £10 million, the size of the assets and the fact that it does not acquire the company's debts, Innogy's deal is good. Assets acquired in the Independent Energy sale include contracts to sell electricity to about 240,000 customers, 100,000 of which are domestic customers, as well as contracts with 80,000 domestic gas customers. Up to 12TWh of sales to industrial and commercial customers is also included in the deal, as is the York Gas supply business.
?Independent Energy adds another 10% to Innogy's customer base and at £10 million it is very cheap,? says Lund. ?Innogy stands to make its acquisition fee back providing they have resolved initial problems.?
But Innogy has problems to resolve. When Standard & Poor's gave Innogy a A2 short-term rating and BBB+ long-term rating, it took into account the company's relatively weak financial structure and downward pressure on wholesale electricity prices in the UK. And despite its recent asset sell off aimed at rebalancing its portfolio, Innogy' cash flows have greater exposure to price and volume risk because it does not own a regulated distribution business.
?Innogy's financial profile is likely to be weaker than the previous profile of National Power,? says Lund, ?although this will be partially offset by an improved business profile.?
Countering that the company does keep costs down and recent press speculations has hinted that it may be about to make another UK acquisition to enhance its market share. But essentially its role as a utility not as a developer.
All eyes on IPower
But while Innogy sets itself up to compete in the ever complex and overcrowded UK market, it is IPower that project financiers will really be watching.
With an impressive new management team drawn from companies such as Enron, ABB and Invensys and a redefined strategy, IPower hopes to compete more effectively with the likes of AES, NRG and Calpine
Says one project financier: ?In the past a lot of people said that National Power had no strategy and that it made no sense to have both types of businesses in the same entity. The rationale for shareholders made no sense either. I think with International Power things will really change.?
IPower intends to build up its presence in three core areas: in the US, where over 50% of its assets could conceivably be present in the next few years; Australia; and in Europe and the Middle East. In July this year, IPower was awarded the contract to build, own and operate the 250MW Al-Kamil gas-fired power project in Oman. And the company is among those bidding for a host of similar concessions in the Middle East.
The company is also in quite a unique position as it will be acting as a new player but with an existing track record as well. ?This brings with it certain constraints, for example, they probably wouldn't have chosen to have the Pakistan assets on their books,? says Knox of ANZ, ?but it also gives IPower the benefits of cash generative projects such as Deeside in the UK.?
IPower stands to benefit from the cashflow of its existing plants but at the same time will have to carry the burden of less stable projects.
Among its assets, built and under construction, are two in Pakistan ? the 1,292MW Hub plant, in which IPower has a 25.5% stake, and Kot Addu plant, in which IPower holds a 36% share. Both plants were caught in Pakistan's dispute over an incentive package, introduced by the then prime minister Benazir Bhutto, to entice investors into the power sector ? 34 contracts were signed among them National Power's Hub and Kot Addu deals.
However, subsequent claims by the Nawaz Sharif government that the tariffs outlined under the power-purchase agreements would bankrupt the state-owned Water and Power Development Authority and the Karachi Electric Supply Corporation, triggered a dispute. As a result, Hubco is seeking arbitration at the International Chamber of Commerce. At the same time Hubco employees are being taken to court in Pakistan.
Hubco is in breach of its debt service coverage ratios but so far lenders have not pursued it and guarantees from three export credit agencies and the World Bank are still in place. Against this background National Power wrote down its investments by 50% in its 1999/2000 results.
The two projects in Pakistan and a third, Hazlewood in Australia which has been hit by a collapse in wholesale market prices, have, perhaps unfairly tarnished the company. Criticisms of National Power's international operations have focused on its over exposure to developing countries and to market risk through its merchant power plants. In fact, according to a report by Credit Suisse First Boston, over 75% of projects are in countries with an investment grade rating.
Further IPower estimates that only 24% of its current projects are merchant plants, fully exposed to the wholesale market price risk. But experience in Pakistan has shown that a power-purchase agreement does not guarantee payment either.
In fact, IPower is inheriting a power plant asset portfolio totalling 10,800MW (net) and a pipeline of projects totalling 7,700MW.
According to a report by Schroders Salomon Smith Barney: ?National Power had already shifted its investment focus from developing countries towards the developed world and in particular to the US and Australia.?
This new focus is likely to make IPower an attractive prospect although some argue that the company has an over concentration of operations in Texas and New England
?Most importantly IPower has a prudent investment strategy,? says Jan Plantagie of Standard & Poor's in London. ?There are unlikely to be deals in countries where there is an unstable political and economic environment. Instead the focus will be much more on the US and in the Middle East. In Malaysia, the company has decided to participate in the Kapar power station through its 20% interest in Malakoff rather than taking a direct stake. It is clear that IPower wants to invest but under clear guidelines.?
Says ANZ's Knox: ?We see the de-merger as quite an exciting opportunity. It's like having a new IPP player and one that it going to be more aggressive and more fleet footed. IPower is also going to rely much more on limited recourse financing so will behave more like companies such AES and CMS.?
The next big break
Redefining its strategy and being able to compete more effectively with other similar developers means cracking the big market, the US. CSFB predicts that over the next 10 years Asia will have the fastest demand for power of any region. However, it is in the US where most of the developers will be focusing attention. CSFB estimates that North America will have 100GW of new capacity over the next 10 years.
IPower has already made significant investment in the US and over the next 18 months will commission 3.9GW of net new capacity, leaving the developer with over 40% of its portfolio in the US.
Says ANZ's Knox: ?I think you will progressively see US shareholders buying into IPower. If that happened you could see IPower seeking a US listing.?
IPower's business focuses on two areas Texas and New England. Both of these states are characterised by their previous lack of investment by incumbent utilities and high growth. In Texas, IPower already has a 50% stake in an existing 424MW power plant but the company is also investing $1.3bn building 2,750MW of gas-fired power plants.
The lure of the US market is compelling. And in Texas, like the UK, liberalisation is leading to a wide array of new participants. It should provide IPower with a good base.
Perhaps the irony is that as IPower moves itself away from the overly competitive UK market where prices have been driven down and down, it could be about to move into another such market in the US. As Schroder Salomon Smith Barney puts it: ?Experience in markets such as the UK, Germany and Australia, shows that concentration of generation ownership is an important determination of wholesale price stability. As ownership becomes fractured, then price instability tends to follow.?
The de-merger, which split National Power's UK power business and its international operations into two companies Innogy and International Power (IPower), also poses the question of how companies juggle the roles of a developer with that of a utility competing in a liberalised market.
National Power, the developer, had built up an international portfolio of power assets, some of which are in developing countries, and most of which are financed as single assets under a project finance structure. ?It's much higher risk than a vertically integrated business,? says Paul Lund of Standard & Poor's in London. ?These are single assets in various countries and markets.?
But at the same time, the company was continuing to act as a utility in the UK ? now one of the most aggressive and competitive markets in the world.
National Power was aware that companies such as AES, Calpine, Dynergy and NRG were competing with its international operations but had higher stock market ratings. However, the value of National Power's international business was not being reflected in its own share price. In the UK, the company was already hit by an increasingly competitive market, government regulations and restrictions on the number of power plants being built have hit power utilities.
But it was the realisation that investors that held National Power for its UK utility status and annual dividend were not necessarily the same investors who were attracted to its international operations ? a high growth capital hungry international business.
In a recent report Schroder Salomon Smith Barney said: ?The skills needed to run a declining UK utility business and a fast growth international merchant generator business are so different that it was necessary to have separate companies that can focus specifically on each challenge.?
Both companies are now listed separately on the London Stock Exchange. Says Geoff Knox of ANZ in London: ?IPower is clearly different stock and one that is not particularly well understood in the UK because there is no dividend but wealth is gained through the share price.?
Competing in a tough market
Liberalisation in the UK power sector has brought a host of new power companies on the scene all competing on price. Whereas 10 years ago National Power held 52% of the generating capacity, that share had dwindled to nearer 8% shortly before the demerger.
Says Standard & Poor's Lund: ?In terms of generating capacity, Innogy's market share may be much smaller than National Power's was 10 years ago but the company is still set up reasonably well. Innogy now has a fairly good balance between generation and supply. But it has also negotiated quite a good deal with Independent Energy recently.?
The deal, which was announced in the middle of September this year, involves Innogy's acquisition of the major supply business assets of Independent Energy, a business then in the hands of the joint receivers Roger Oldfield, Myles Halley and Mick McLoughlin of KPMG.
Given the small price tag of £10 million, the size of the assets and the fact that it does not acquire the company's debts, Innogy's deal is good. Assets acquired in the Independent Energy sale include contracts to sell electricity to about 240,000 customers, 100,000 of which are domestic customers, as well as contracts with 80,000 domestic gas customers. Up to 12TWh of sales to industrial and commercial customers is also included in the deal, as is the York Gas supply business.
?Independent Energy adds another 10% to Innogy's customer base and at £10 million it is very cheap,? says Lund. ?Innogy stands to make its acquisition fee back providing they have resolved initial problems.?
But Innogy has problems to resolve. When Standard & Poor's gave Innogy a A2 short-term rating and BBB+ long-term rating, it took into account the company's relatively weak financial structure and downward pressure on wholesale electricity prices in the UK. And despite its recent asset sell off aimed at rebalancing its portfolio, Innogy' cash flows have greater exposure to price and volume risk because it does not own a regulated distribution business.
?Innogy's financial profile is likely to be weaker than the previous profile of National Power,? says Lund, ?although this will be partially offset by an improved business profile.?
Countering that the company does keep costs down and recent press speculations has hinted that it may be about to make another UK acquisition to enhance its market share. But essentially its role as a utility not as a developer.
All eyes on IPower
But while Innogy sets itself up to compete in the ever complex and overcrowded UK market, it is IPower that project financiers will really be watching.
With an impressive new management team drawn from companies such as Enron, ABB and Invensys and a redefined strategy, IPower hopes to compete more effectively with the likes of AES, NRG and Calpine
Says one project financier: ?In the past a lot of people said that National Power had no strategy and that it made no sense to have both types of businesses in the same entity. The rationale for shareholders made no sense either. I think with International Power things will really change.?
IPower intends to build up its presence in three core areas: in the US, where over 50% of its assets could conceivably be present in the next few years; Australia; and in Europe and the Middle East. In July this year, IPower was awarded the contract to build, own and operate the 250MW Al-Kamil gas-fired power project in Oman. And the company is among those bidding for a host of similar concessions in the Middle East.
The company is also in quite a unique position as it will be acting as a new player but with an existing track record as well. ?This brings with it certain constraints, for example, they probably wouldn't have chosen to have the Pakistan assets on their books,? says Knox of ANZ, ?but it also gives IPower the benefits of cash generative projects such as Deeside in the UK.?
IPower stands to benefit from the cashflow of its existing plants but at the same time will have to carry the burden of less stable projects.
Among its assets, built and under construction, are two in Pakistan ? the 1,292MW Hub plant, in which IPower has a 25.5% stake, and Kot Addu plant, in which IPower holds a 36% share. Both plants were caught in Pakistan's dispute over an incentive package, introduced by the then prime minister Benazir Bhutto, to entice investors into the power sector ? 34 contracts were signed among them National Power's Hub and Kot Addu deals.
However, subsequent claims by the Nawaz Sharif government that the tariffs outlined under the power-purchase agreements would bankrupt the state-owned Water and Power Development Authority and the Karachi Electric Supply Corporation, triggered a dispute. As a result, Hubco is seeking arbitration at the International Chamber of Commerce. At the same time Hubco employees are being taken to court in Pakistan.
Hubco is in breach of its debt service coverage ratios but so far lenders have not pursued it and guarantees from three export credit agencies and the World Bank are still in place. Against this background National Power wrote down its investments by 50% in its 1999/2000 results.
The two projects in Pakistan and a third, Hazlewood in Australia which has been hit by a collapse in wholesale market prices, have, perhaps unfairly tarnished the company. Criticisms of National Power's international operations have focused on its over exposure to developing countries and to market risk through its merchant power plants. In fact, according to a report by Credit Suisse First Boston, over 75% of projects are in countries with an investment grade rating.
Further IPower estimates that only 24% of its current projects are merchant plants, fully exposed to the wholesale market price risk. But experience in Pakistan has shown that a power-purchase agreement does not guarantee payment either.
In fact, IPower is inheriting a power plant asset portfolio totalling 10,800MW (net) and a pipeline of projects totalling 7,700MW.
According to a report by Schroders Salomon Smith Barney: ?National Power had already shifted its investment focus from developing countries towards the developed world and in particular to the US and Australia.?
This new focus is likely to make IPower an attractive prospect although some argue that the company has an over concentration of operations in Texas and New England
?Most importantly IPower has a prudent investment strategy,? says Jan Plantagie of Standard & Poor's in London. ?There are unlikely to be deals in countries where there is an unstable political and economic environment. Instead the focus will be much more on the US and in the Middle East. In Malaysia, the company has decided to participate in the Kapar power station through its 20% interest in Malakoff rather than taking a direct stake. It is clear that IPower wants to invest but under clear guidelines.?
Says ANZ's Knox: ?We see the de-merger as quite an exciting opportunity. It's like having a new IPP player and one that it going to be more aggressive and more fleet footed. IPower is also going to rely much more on limited recourse financing so will behave more like companies such AES and CMS.?
The next big break
Redefining its strategy and being able to compete more effectively with other similar developers means cracking the big market, the US. CSFB predicts that over the next 10 years Asia will have the fastest demand for power of any region. However, it is in the US where most of the developers will be focusing attention. CSFB estimates that North America will have 100GW of new capacity over the next 10 years.
IPower has already made significant investment in the US and over the next 18 months will commission 3.9GW of net new capacity, leaving the developer with over 40% of its portfolio in the US.
Says ANZ's Knox: ?I think you will progressively see US shareholders buying into IPower. If that happened you could see IPower seeking a US listing.?
IPower's business focuses on two areas Texas and New England. Both of these states are characterised by their previous lack of investment by incumbent utilities and high growth. In Texas, IPower already has a 50% stake in an existing 424MW power plant but the company is also investing $1.3bn building 2,750MW of gas-fired power plants.
The lure of the US market is compelling. And in Texas, like the UK, liberalisation is leading to a wide array of new participants. It should provide IPower with a good base.
Perhaps the irony is that as IPower moves itself away from the overly competitive UK market where prices have been driven down and down, it could be about to move into another such market in the US. As Schroder Salomon Smith Barney puts it: ?Experience in markets such as the UK, Germany and Australia, shows that concentration of generation ownership is an important determination of wholesale price stability. As ownership becomes fractured, then price instability tends to follow.?
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