Analysis: Challenges remain for energy company financial performance

Over the last month, there has been a flurry of news from the UK energy sector as the leading energy companies have updated the market on current trading conditions.

 Centrica’s Interim Management Statement (IMS) released last week set out the many challenges that it currently faces, aside from the impact of Ed Miliband’s proposed 20-month energy price freeze.

Its IMS confirmed that mild weather had reduced average residential gas consumption in the first 10 months by a whopping 21%, compared with the same period in 2013.

On the nuclear front, the ongoing problems at the Heysham 1 and Hartlepool plants, in which Centrica has a 20% stake, have also reduced expected revenues.

Furthermore, with the pronounced fall recently in the benchmark Brent Crude oil price, Centrica has had to pare back its earnings per share (EPS) expectations.

The range for the 2014 full-year is now 19p-20p compared with 21p-22p previously. For 2015, projected growth may well be hit by weak oil prices.

Given the many challenges facing Centrica on the political and regulatory fronts, these factors raise real questions about the sustainability of Centrica’s ongoing dividend level. A cut next year certainly cannot be discounted.

With new management in place, Centrica is expected to ring the changes in 2015, especially once May’s General Election has taken place. And, on a positive note, Centrica’s balance sheet, with net debt of £5.2 billion, is in far better shape than the other integrated energy suppliers.

SSE recently published its half-year results. The key numbers looked satisfactory, with adjusted EPS up by 5.8% at 31.2p; the dividend, too, inched up to 26.6p.

With electricity distribution and transmission operating profits exceeding £310 million for the six months, SSE looks well-placed.
But, on the generation front – like its competitors – SSE certainly has challenges.

Although the Electricity Portfolio and Management (EPM) and Generation division did report an operating profit, it was – at below £12 million – decidedly modest.

Aside from recurring weak spark spreads, SSE was also impacted by the fire at the Ferrybridge plant in Yorkshire, which substantially reduced output.

Furthermore, its much-cherished renewable generation portfolio seriously under-performed. Over the last six months, lower wind speeds contributed to a decline of no less than 22% in on-shore wind output compared with 2013.

SSE is also seeking to sell some £1 billion of surplus assets in order to lower its near £8 billion of net debt.

With its 2015/16 EPS forecast being similar to this year’s full-year figure, SSE is reviewing its existing asset base and exerting greater rigour in determining its investment programme.

In its own IMS earlier this month, Drax Power confirmed that trading conditions were challenging, although it did conclude forward sales at c£52 per MWh.

Considerable focus has been on its quest to secure further lavish biomass subsidies – and its share price has reacted accordingly. Drax also indicated that its 2014 full-year earnings expectations remain unchanged.

Compared with the ‘big six’ integrated energy companies, National Grid – with a market capitalisation of c£35 billion – finds itself in an enviable position.

Much recent public comment has concerned the possibility of widespread power cuts – not just this winter but beyond – and the various measures that National Grid is taking to minimise the chances of black-outs.

Its recently issued – and very solid – half-year figures were well received by the market, whilst its current share price is close to a record high as investors increasingly value the comfort of its eight-year UK regulatory deal with Ofgem – and the robust dividend payments that it underpins.

At the 2014/15 half-year, National Grid reported operating profits from its UK electricity and gas operations of over £1.2 billion; no wonder, Chief Executive, Steve Holliday, stated that ‘the UK is performing well’.

National Grid’s US business is also recovering although major price filings are coming up in both Massachusetts and New York.

Significant progress was also reported in reducing interest payments – down by an impressive 19% over the comparative period last year. With net debt now just shy of £22 billion, such savings are undoubtedly material.

National Grid also confirmed a London-centric property deal with the flourishing Berkeley Group, run by the colourful Tony Pidgely Senior – the UK’s top house price expert bar none; this joint venture will build houses on redundant brownfield sites.

The four overseas-based ‘big six’ members still face major challenges as the Euro-zone finds sustained recovery elusive.

France’s EdF reported an underlying 1.3% fall in revenues over the first nine months of 2014. Whilst French nuclear output has risen, EdF’s UK revenues were flattered by a major currency gain: but the Heysham 1 and Hartlepool outages had a marked negative impact.

EdF is still confident of EBITDA growth for this year, if its Edison division is stripped out.

Importantly, too, after many years’ delay, EdF has now confirmed that its first third-generation nuclear plant, Flamanville, should be commissioned in 2017: the pivotal decision on the go-ahead for Hinkley Point C is due next year.

Germany’s deteriorating macro-economic situation is replicated by both RWE and E.On. Both companies are facing massive changes with nuclear power generation in Germany ceasing in 2022. Instead, the Energiewende will involve vast investment in renewable power sources.

E.On’s 2014 nine-month figures saw a 7% fall in EBITDA to €6.6 billion. For the full-year, E.On is projecting EBITDA of between €8 billion and €8.6 billion: the 2013 comparative EBITDA was €9.4 billion.

In Germany, E.On is still struggling against low wholesale prices and the plant merit order system that prioritises renewables output.

And post Russia’s annexation of Crimea, the collapsing rouble has adversely impacted E.On’s returns from its heavy generation investment in Russia.

Whilst its net debt is now down to €31 billion, the fact remains that E.On’s share price has halved over the last five years.

Arguably, RWE’s position is even worse; its shares have shed 60% of their value since late 2009.

RWE’s recently released 2014 nine-month figures gave little reason for optimism. EBITDA was down by 22% compared with 2013; for the full year, RWE is forecasting EBITDA to be between €6.4 billion and €6.8 billion.

And its recurrent net income is forecast to fall very sharply – by around 60%.

In terms of net debt, it still exceeds €30 billion, although some disposals are expected shortly, notably of RWE Dea – eventually.

Iberdrola has performed more robustly of late and its shares have consequently rallied.

In late October, Iberdrola confirmed an EBITDA rise of 1.4% for the first nine months of 2014; its full-year forecast is €6.6 billion. Currently, almost half of its EBITDA arises from its networks businesses – the UK return was up by a robust 10% over the first nine months of 2013.

With more plants coming on stream, Iberdrola’s overall generation and supply EBITDA was up by 26%.

However, its Spanish renewable generation EBITDA fell by a worrying 44%, due to tighter regulation, low prices and inadequate wind-speeds.

But Iberdrola’s net debt is moving in the right direction; excluding the tariff deficit, it is now below €25 billion.

In summary, none of these companies – National Grid and Drax aside – is enjoying easy times; this is reflected by their lacklustre share price performances in recent years.

Nigel Hawkins is a Director of Nigel Hawkins Associates which undertakes investment and policy research.