Funds News

Vattenfall's retreat from Europe fraught with pitfalls

* Vattenfall looking to reverse costly European expansion

* European unit seen worth at least 15 billion euros

* Buyers scarce amid weak industry demand, high debt levels

* IPO a possibility, but utilities valuations have slumped

By Arno Schuetze and Vera Eckert

FRANKFURT, Sept 26 (Reuters) - Swedish utility Vattenfall faces a lengthy battle to extricate itself from a costly and ill-timed expansion across Europe, with sluggish demand for power and uncertainty over energy policies putting off buyers and depressing asset prices.

Scandinavia’s biggest utility spent around 22 billion euros ($30 billion) on acquisitions over the past 15 years, trying to catch up with bigger rivals such as Germany’s E.ON and France’s EDF.

But, wrong-footed by a prolonged economic downturn across much of Europe and a drive in Germany towards renewable energy, the state-owned group is now under pressure at home to retrench to its better-performing Scandinavian markets and pay down the 162.5 billion crowns ($25 billion) of debt it has racked up.

Vattenfall, which has already taken about 8.5 billion euros of impairments on European assets, said in July it would split into two units - one Swedish, one European - by the end of 2013, in what was seen as a first step towards divesting the latter.

The company and potential advisers are now starting to prepare the ground for a sale or a stock market flotation of the European business, bankers told Reuters, with some estimating the unit could be worth at least 15 billion euros.

But they also said finding a buyer for the whole unit - and even some large parts - at an acceptable price would be hard.

“Vattenfall bought expensive trying to become a European champion, now they may have to sell when prices are down,” one utilities banker said, on condition of anonymity.

Another, who said he was pitching to advise Vattenfall, added a stock market listing could prove difficult as well, predicting utilities’ asset valuations - which have dropped a third over the last year - would have to come off their current lows for the group to press ahead with such a move.

European utility shares are trading at an average of 12.1 times forecast earnings, compared with 14.2 times for the broader stock market, with E.ON and RWE in Germany - which is also Vattenfall’s largest market - at 11.6 and 8.1 times respectively, according to Thomson Reuters data.

The longer Vattenfall delays, however, the more its bonds could suffer, as credit rating agencies press it to deleverage.

The most liquid Vattenfall bond, the 4.25 percent euro issue maturing in May 2014, has fallen steadily, shedding three percentage points over the past year to 102.4 percent of face value, while earlier this month, ratings agency Fitch cut the outlook on its A- rating for Vattenfall to negative from stable.


Vattenfall’s European business accounted for about two thirds of its 167 billion crowns of sales last year, but less than 10 percent of its earnings before interest and tax of 26 billion crowns, highlighting the weakness of demand in its recession-hit markets there.

The Swedish group is not alone in suffering. But with rivals also grappling with a gloomy industry outlook and high debt levels, they are unlikely to splash out on big acquisitions.

That could leave Vattenfall reliant on interest from infrastructure funds such as GIP and Macquarie for many assets.

Germany, accounting for about 40 percent of Vattenfall’s electricity output last year, is at the heart of its problems, in part because of the country’s decision to exit nuclear power after Japan’s nuclear disaster in 2011.

Vattenfall’s German unit, the country’s third-biggest power group by output, has already idled two German nuclear reactors.

Its four brown coal-fired power sites, responsible for 90 percent of its electricity production in Germany, also have problems. Highly profitable if running round-the-clock, they often have to curb output as German law gives power from renewable sources priority grid access.

Vattenfall is already in talks to sell its Lippendorf plant to Czech investor EPH, though bankers expect it to fetch only 700-800 million euros - two thirds of what it cost to build.

The price of the remaining plants will hinge in part on future energy policy and buyers’ willingness to raise their exposure to “dirty” brown coal, bankers said.

Lignite profits could erode quickly if prices for EU carbon emissions rights come off their historic lows. Experts believe that, in the long run, Germany could even become hostile towards CO2-heavy brown coal and introduce a special tax.

Much will depend on the stance taken by the country’s new coalition government, which could take some time to emerge and so delay Vattenfall’s attempts to sell local businesses.

Even the group’s most prized German assets, its electricity grids in Berlin and Hamburg, are under a cloud. With their stable revenue streams, the grids could reap at least 2 billion euros each if sold to yield-hungry infrastructure investors.

But whether such a sale is feasible, remains unclear. Hamburg’s citizens on Sunday decided the city should buy back the grid and Berlin will have a similar poll in November. Vattenfall’s concessions for both grids end in late 2014 and a positive vote could make to harder to extend those, with Hamburg already saying it could set up its own grid operator.

It’s not all bad news, as bankers forecast Vattenfall will find strong demand for its British wind parks. The group has invested 2.3 billion euros in five UK wind parks since 2008.

“Resell values can vary greatly. However, I expect they would get at least their investment back,” a sector banker said.

Dutch business Nuon, which was bought for 8.5 billion euros in 2009, is a different matter though, as much of its gas-burning capacity now often lies idle due to cheaper imported German wind or solar power.

“Nuon is probably worth 3 billion euros now, but even at that price, it will hardly attract a buyer,” one banker said.