Germany’s power grid is the largest and most reliable power transmission network in Europe, extending over a length of around 1.7 million kilometres. If regulators have it their way, its unique structure of four balancing zones, currently split between electricity providers E.ON, EnBW, RWE and Vattenfall to ensure energy supply security, is on the verge of radical transformation – and could present infrastructure investors seeking large, long-term cash flows with an unprecedented opportunity.
For some two years political debate has been raging in both Berlin and Brussels as to the efficacy of the current arrangement. Recently the EU has made it clear that it doesn’t view the current grid ownership structure in Germany as ideal in terms of competition. At the same time, pressure towards an unbundling of Germany’s utilities has also come from the Bundesnetzagentur, which regulates the country’s electricity, gas, telecommunications, postal and railway networks.
This has led the operators, some more reluctantly than others, to start the ball rolling with grid auctions. Completion would satisfy the regulators and also provide the vendors with a means to raise capital. None of them are thought to be desperate for cash, but at a time when capital markets remain difficult to access, raising fresh capital through asset disposal can be an attractive option to have.
It is rare that electricity assets of the scale and quality of those in Germany come up for sale. Unsurprisingly, there has been plenty of interest in the market place. However, the peculiarity of the German market in terms of size, structure and regulatory oversight, has stymied much of this enthusiasm. The present dearth of financing options for acquisitions has not helped matters either.
As a result, deal flow has been slow to develop. E.ON, which controls the largest section of transmission infrastructure through the centre of the country, told the European Commission earlier this year it would sell its grid, although these plans are still at a preliminary stage. Meanwhile RWE is concentrating on auctioning its gas transmission assets, although again the process has yet to advance.
The only electricity grid in Germany to have reached the competitive bidding phase is the one owned by Vattenfall. The Swedish power group voluntarily kicked off the auctioning of its grid in the summer of 2008 when it appointed Citigroup to handle the process.
Still, even Vattenfall is not in a hurry. Its need for capital is not so great as to warrant a fire-sale, and it is also concerned with placing the grid in the hands of an operator who can be trusted to serve the interests of all stakeholders going forward. Vattenfall has publicly stated any potential buyer of its grid must demonstrate a long-term focus, ensure substantial investments in network extension, grant continued free access to the grid to all energy producers and, perhaps most crucially, promote the flow of electricity across European borders.
Protraction
Ironically, despite the regulator’s keenness on breaking up the utilities, many believe the regulatory regime currently in place will need an upgrade if it is to adequately oversee power grids that operate as standalone entities. According to market practitioners, the UK, France and Italy already have frameworks in place that fit this purpose better. Germany still has some work to do: “Germany is excellent at regulating vertically integrated multi-utilities; but now that the utilities are having to sell [their] grids, what Germany needs to do now is understand how to regulate the unbundled components of each sector in isolation,” says Mathias Burghardt, head of infrastructure at AXA Private Equity.
Meanwhile Vattenfall is continuing its search for a buyer. Upon commencing the sale process last summer, market interest was initially keen, with more than 20 suitors closely following proceedings, a number of whom went so far as to carry out due diligence on the assets. Among the parties showing the most interest in the asset were both financial investors and strategics.
On the financial side, private equity and infrastructure funds were among those out in front. In fact, almost any infrastructure fund one cares to mention is likely to have looked into the Vattenfall grid at some stage, although many would have been put off by the regulatory pitfalls involved.
At present, a consortium comprising Deutsche Bank’s alternative investments platform RREEF, giant insurer Allianz and Goldman Sachs is rumoured to be leading the way, a line-up with such powerful connections in Germany that it could conceivably exert some political leverage on the proceedings. Ontario Teachers’ Pension Plan is also understood to have shown an ardent interest in the grid, as is Global Infrastructure Partners, the New York-based global fund manager.
In the strategic camp, National Grid is widely known to have ambitions to expand beyond its current markets in the UK and the US. The group undoubtedly has the knowledge base to be able to handle a grid of Vattenfall’s size. However, there are questions over whether it would be able to finance such a large acquisition without teaming up with an institution with greater financial firepower. Dutch utility TenneT has also been mentioned in industry circles as a serious contender.
Valuation headache
Any buyer, strategic or financial, will have their work cut out to value the Vattenfall grid. Vattenfall is understood to be looking in the region of €1 billion for what is the second most extensive electricity network in the country after E.ON. Whether it can achieve a price approaching this is open to debate, and understandably industry players are unwilling to hazard a guess with regards to price given the variables involved. Marcus Ayre, director of transactions and capital projects at First State Investments in London, says the acute difficulty of valuing the grid stems primarily from the current lack of regulatory clarity: “The pricing of the grid will largely depend on the certainty that potential bidders can derive from the German regulator that it will put a sensible regime in place.”
Another big factor any would-be buyer must bear in mind is that Vattenfall, like E.ON, has been told by the Bundesnetzagentur to connect its offshore wind plants to the network, which requires a sizeable investment. Vattenfall has said that over the next three to five years some €2.5 billion will need to be invested in the network to make this happen. Any potential suitor would have to be willing and able to stump up this kind of sum, in addition to possessing the patience to wait for a return: under the current tariff regime, there will likely be a lengthy time lag between making sufficient capex available and reaping the ensuing returns.
Long road ahead
One source close to the deal says despite the quality of the assets and their inherent attractiveness to acquisitive investors, the complexity of the process and the extent to which it is politically influenced are hindering progress.
Kai Pritzsche, a partner at Linklaters in Berlin specialising in energy and utilities, agrees: “The sale of the German power transmission grids is a politically highly sensitive process. For a number of reasons the start of the grid sales has been slow. As Germany will have federal elections in September of this year, the process will have to be handled very carefully.”
Something that could stifle any plan to auction individual assets is the possible establishment of an all-encompassing German grid company, the creation of which has been touted in the past. However, this also depends on the outcome of September’s election.
Whatever the make-up of Germany’s next government, Vattenfall has made it known that it wants to conclude the sale of its network in the second half of 2009. At press time, all a Vattenfall spokesperson was willing to say on the matter is that the company is in the midst of the auction process and is looking to wrap it up later this year. Considering that the process has already been postponed three times so far, whether that is achievable is anybody’s guess. Though the fact that Vattenfall is foreign might count in its favour: its auction might be less politicised than those to come.
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