Energy networks in Labour’s sights

The UK’s energy networks were privatised during the 1980s and the 1990s. Despite all the years of private ownership, their status is now less certain given the radical proposals being advocated by the Labour party.

At a general level, UK politics are currently shambolic as parliament declines to ratify the Brexit policy that was approved in the 2016 referendum.

How this impasse will be resolved is far from clear. But an early general election should not be discounted, something that the Conservative party is desperate to avoid.

If there were such an election, the Labour party’s policies would be carefully scrutinised, not least in the utilities sector.

Not only is renationalisation of the water sector in Labour’s sights but the focus is now turning towards the energy sector.

Back in 2017, the Labour party manifesto included the pledge to regain “control of energy supply networks…. and transition to a publicly-owned decentralised energy system”.

Earlier this week, the Daily Telegraph considered how such a policy might be implemented in the event of a Labour government with a sufficiently large majority to pass the necessary renationalisation legislation.

No less than 13 energy companies were singled out, namely National Grid, the two Scottish electricity transmission businesses, owned by SSE and Scottish Power respectively, the six distribution network operators (DNOs), and the four gas distribution companies that were demerged from National Grid.

Renationalising such a grouping would be a monumental task – politically, financially, legally and administratively.

Transmission

National Grid, with a market capitalisation of circa £28 billion, has roundly criticised the Labour party’s proposals, arguing that it would impede the development of green power.

Furthermore, many of its assets are US-based as are many of its shareholders: me thinks my learned US friends, aka lawyers, would become extensively – and expensively – involved.

At least the other transmission grid operators are part of SSE and the Iberdrola-owned Scottish Power – and therefore more accessible to an interventionist Labour Party.

Moreover, the transmission element is a relatively small part of both companies’ overall businesses – unlike National Grid’s UK transmission operations.

DNOs

As for the six DNOs, floated in 1990, renationalisation would pose immense challenges. Some are embedded within major overseas companies; to dislodge them from their existing ownership would not be straightforward.

In some cases, DNOs have key far eastern shareholders, who make seek protection under the various bilateral investment treaties that cover renationalisation threats. The Human Rights Act 1998 might also come into play.

Interestingly, one of the six DNOs, Electricity North West, is up for sale; currently it is owned by international infrastructure funds.

Based on a regulatory asset value (RAV) of circa £1.7 billion, it would normally expect to attract a winning bid north of £2 billion, based on recent premia over RAVs that have been paid.

Acquiring the whole set will hardly be cheap.

Add to that the four gas distribution companies that were demerged from National Grid – SGN, Cadent, Northern Gas Networks, and Wales and West Utilities – and it is clear that the Labour Party is not lacking in ambition to overturn the UK energy sector.

National Energy Agency

According to extensive leaked Labour Party documents, the over-arching authority presiding over this grouping would be a National Energy Agency (NEA).

Although its powers are likely to be less wide-ranging than the long-forgotten Central Electricity Generating Board (CEGB), they will still be considerable – even if electricity generation is outside the NEA’s proposed remit.

Part of the proposed NEA’s responsibilities would be the promotion of renewable generation, a sector that is prospering at present, with wind and solar now making meaningful contributions.

Energy customers would certainly expect more favourable prices, but the imposition of the price cap last year has already placed downward pressure on retail energy prices, as recent lacklustre results from both Centrica and SSE demonstrate.

Compensation

Shareholder compensation will be a key issue if a future Labour government succeeds in passing the necessary legislation. Shadow chancellor, John McDonnell, has suggested that MPs should decide the level of any compensation.

Hence, if a three-line whip were imposed, such levels might be extremely modest.

The Labour party has apparently cited Northern Rock as a precedent for its renationalisation policy. One salient difference remains.

Northern Rock was effectively bust when it was renationalised – few small banks survive a ‘run’ on their customers’ deposits.

Basing any energy renationalisation policy for National Grid on the disastrous chain of events that embraced a small bank that expanded far too fast – and crucially relied on overnight funding – is perverse.

Like the proposed water renationalisation policy, McDonnell has indicated that it would be financed by gilts issuances; these would be used to compensate shareholders at whatever price is eventually decided.

Whilst it is true that a sharp reduction in the annual public sector deficit of late has meant far fewer gilts being issued, this tap cannot be turned on indefinitely without unwelcome side-effects.

Indeed, if borrowing levels soared, interest rates would assuredly rise and the UK’s credit rating would come under real pressure, as would sterling.

 Investment

Renationalisation also raises the question of how investment levels would be sustained.

As David Smith, chief executive of the Energy Networks Association (ENA), has pointed out: “In the last six years alone, they [network companies] have invested over £22 billion in their gas and electricity grids across the country … This vital investment could all be jeopardised with these plans.”

Indeed, it would mean the energy networks sector having to fight, alongside the NHS, for large investment budgets – a battle that they are unlikely to win.

Furthermore, it would hardly send a reassuring message to potential overseas investors that the UK remains open for business.

Undoubtedly, taking control of the UK’s energy networks is a highly ambitious aspiration – but to achieve it would be an even more formidable undertaking.

Nigel Hawkins is a Director of Nigel Hawkins Associates which undertakes investment analysis on various sectors.