AMSTERDAM Speculation of interest from private infrastructure investors may still trigger rallies in company shares in the sector but the fundamentals that make the expectations of buyers and sellers hard to bridge persist.
A hint of interest from an infrastructure fund or private equity firm can be enough for shares in a range of companies holding infrastructure assets, from water companies to indebted construction firms and utilities, to jump.
But financing conditions that previously allowed financial investors to take infrastructure assets private, leveraging them up in multibillion euro deals, have not eased much in the aftermath of the credit crunch, industry experts say.
"It is the leverage that allowed buyers to pay more in the old days and this is very difficult now," said Iain Turner, an equity analyst at the Royal Bank of Scotland.
The focus of infrastructure funds on assets has also shifted to what they see as more defensive "core infrastructure," such as power grids and water companies, assets where cashflows are regulated and less dependent on wider economic growth.
"There is a preference for lower risk, regulated assets at the moment, so, given the same credit rating, water and power transmission and distribution is favored, followed by power generation and then transport," said Philip Iley, head of transport and logistics at Credit Suisse.
In a recent example of M&A exuberance, shares in British water utilities Severn Trent (SVT.L), United Utilities (UU.L) and Pennon Group (PNN.L) surged in February when Ontario Teachers' Pension Plan was rumored to be preparing a 1.7-billion-pound bid for Northumbrian Water NWG.L, only to drop when the pension fund eventually denied this.
Since then several infrastructure deals have been canceled as seller expectations failed to materialize, also disappointing investors who pushed stocks up based on bid talk.
E.ON (EONGn.DE) pulled its Italian gas network sale, waste management firm Shanks SKS.L spurned a takeover bid from buyout firm Carlyle Group and Forth Ports FPT.L has turned down several offers from a consortium of infrastructure funds.
Major buyouts that have gone through have seen sellers booking losses. Spain's Ferrovial FER1.MC sold Gatwick Airport at a 142-million-euro capital loss while Sweden's state-owned Vattenfall sold its German power grid at half its regulated asset base (RAB) -- the regulator's valuation of the asset.
BREAKING THE ICE
Credit Suisse analysts have argued that debt financing is becoming increasingly available, albeit with tighter covenants and higher spreads, allowing buyers to still make offers at a premium to the RAB.
They have pointed to the sale of French utility EDF's (EDF.PA) 4-billion pound-plus sale of its British power networks as a landmark deal that, although at its early stage, could open up the infrastructure M&A market should it materialize.
"There is a still a lot of caution from people who have the equity for these deals but are not sure that the debt is there. A couple of big deals getting done successfully would boost the market," said an Australian infrastructure fund source.
Yet even those who take an optimistic view of the infrastructure market acknowledge that assets cannot fetch the prices seen in the heydays of 2007, when cheap debt, economic growth and favorable regulatory regimes drove dealmaking.
"If you look at the UK water companies, they are now trading between 1.03 and 1.06 times their RAB, with the exception of Pennon that also does waste and is at 1.10 times," said Evo Securities analyst Lakis Athanasiou.
The hit in valuations was demonstrated when Challenger Infrastructure Fund sold its remaining 15.6-percent stake in Southern Water in November for 168 million pounds, or 1.26 times the RAB. According to a source familiar with the matter, it paid around 1.38 times the RAB buying into the company in 2007.
Sellers are therefore likely to hold on to assets unless they have to sell, either because of their overstretched balance sheet, or because they are forced by a regulator. RWE (RWEG.DE) for example has been asked to sell its German gas grid.
Cash-rich buyers with a strong asset management track record going after assets where clear regulation leaves little uncertainty stand the best chance of seeing deals through, industry experts say.
"The valuation of assets may still be high and share prices in some companies also show that market expectations can be high. A couple of deals in the next three months should show if the market has opened up," said Pierre Nicoli, head of power, energy & infrastructure at BNP Paribas in London.
(Editing by Sitaraman Shankar)