Utility Week

UTILITY Week 30th January 2015

Utility Week - authoritative, impartial and essential reading for senior people within utilities, regulators and government

Issue link: https://fhpublishing.uberflip.com/i/453394

Contents of this Issue


Page 16 of 31

UTILITY WEEK | 30Th JanUarY - 5Th FEbrUarY 2015 | 17 Finance & Investment Analysis M any political commentators, as well as chancellor George Osborne, expect May's general election to be a rerun of the tight race fought in 1992. That one was won – narrowly – by the Conserva- tives under John Major (now Sir John Major). Bookmakers expect May to deliver another multi-party government, although its constituents are far from certain. One favoured outcome is a minority Labour gov- ernment supported by the Scottish National Party (SNP). The only permutation ruled out is a grand coalition between the two leading parties. In the lead-up to 7 May, stock markets are bound to be volatile, with the utilities sector being especially vulnerable to politi- cal uncertainty, as the response to the unex- pected 1992 result vividly demonstrated. On the day aer polling day, water stocks rose by c20 per cent as investors piled in. Electric- ity shares also moved sharply upwards. By contrast, the election of the Labour government in 1997 had less of an impact, since the opinion polls consistently showed a formidable Labour lead throughout the campaign. And it was widely known that the Labour party had pledged to introduce a util- ity tax, which it wasted little time in levying. Importantly, though, this tax was a one- off hit to utility balance sheets, which were generally robust. Only Welsh Water found itself exposed, partly because the tax liabil- ity formula used was based on the price/ earnings (P/E) ratio at flotation. Welsh's P/E ratio had been particularly low, which inflated its utility tax liability. Combined with other adverse factors, this contributed to the demise of Hyder, its parent company. In 2015, the utility focus will be far more on the energy sector rather than on the water companies. Back in 2013, Labour leader Ed Miliband announced that a 20-month freeze on energy prices would be imposed on entering office. At the time, this pledge was widely seen as a political coup, with the coalition struggling to respond meaningfully to it. However, it has been subsequently over- taken by events, most obviously the plunge in oil and gas prices: the Brent crude per barrel price has more than halved since last summer. Furthermore, the energy compa- nies are now announcing price cuts, with Centrica confirming a 5 per cent reduction in domestic gas prices. Importantly, too, a Miliband-led govern- ment would introduce powers requiring Ofgem – or, given Labour's commitment to scrap it, presumably a successor body – to impose energy price cuts if the companies fail to pass on lower input costs. Such a pro- posal is halfway towards a formal re-intro- duction of energy price regulation, which was effectively scrapped in the late 1990s. Many uncertainties, including the forth- coming election, have already deterred sev- eral planned investment projects. And, if a second general election becomes necessary – shades of 1974 – investment levels may fall even further. Utility investors will be particularly con- cerned about the durability of the various renewable subsidies, most notably the pay- ments for coal conversion at Drax and those for the evolving high-cost offshore wind sector. It seems inevitable, too, that the con- troversial Hinkley Point C nuclear project will feature during May's campaign. With plunging oil and gas prices, the £92.50 per megawatt-hour 35-year price guarantee now looks inordinately generous even though no output is expected until 2023. To date, the Labour party has held the coalition line on Hinkley Point, but – on entering office – may decide that the detailed numbers in the contract for difference do not stack up. With four of the big six integrated energy suppliers being overseas-owned, there will be close scrutiny as to how they respond to the election result. In particular, RWE's future prospects look grim, while EDF could exit the UK if Hinkley Point C, for whatever reason, is pulled. Centrica's management will be closely analysing political events: Centrica's shares are expected to be particularly volatile dur- ing the campaign itself. Miliband's price freeze pledge, which – if implemented – would seriously dent Centrica's margins, has already depressed its share price. Some concerns remain about its ability to sustain its current level of dividend payments and, with the arrival of a new chief executive, Ian Conn, a reassessment of its long-term strat- egy is widely expected. However, this process may be deferred until the Competition and Markets Authority has reported – and, even more importantly, until there is certainty as to whether the new government will seek to implement its key recommendations or simply kick them into the long grass. Having survived the result of the Scottish referendum, SSE's share price is still affected by political issues: it remains dependent on renewable subsidies. A Labour-led coalition with the SNP could result in a second inde- pendence referendum. As for National Grid, Europe's most valuable utility worth c£35 billion, the election should pass it by since it has no domestic customer base. Unlike in 1992, the water sector is now far lower profile. With the periodic review broadly complete – apart from possible CMA referrals led by Bristol – and modest price cuts being implemented, political interven- tion is far less likely. Nigel Hawkins, director, Nigel Hawkins Associates The toll of democracy It looks as though this May's general election will be too close to call until the results are in, but what is the fallout of this uncertainty for utility share prices? Nigel Hawkins reports. Key points: • Many expect another coalition govern- ment following 7 May, though its make-up is uncertain. • Plunging gas and oil prices have cast Labour's price freeze pledge into the shade of debate. • Utility investor interest in the election will focus on the durability of renewables subsidies. • The election outcome may influence the future of EDF and RWE in the UK. • Centrica's share price is expected to be volatile throughout the election.

Articles in this issue

Archives of this issue

view archives of Utility Week - UTILITY Week 30th January 2015