In the face of market liberalisation and a growing environmental agenda, the consolidation of European power companies has been inevitable. Enel, which might itself have been in play, instead embarked upon its own ambitious campaign to acquire critical mass and achieve substantial cost synergies with a daring take over programme.
This summer Enel paid €11bn to acquire all but 8% of the remaining equity in Spain’s Endesa, after launching a tender offer in 2007 for which it raised €35bn and which eventually led Enel to hold 67.05% in Endesa. That same year the Italian utility had bought a controlling interest in Russia’s generator OGK-5 for €1.5bn and pledged to invest in expanding the company. As a result, this June it owed €55.7bn, which it promised to cut to €45bn by the end of 2010, through a programme of disposals and pay downs.
The markets seem to back Enel’s debt management strategy. Shareholders bought in to an €8bn rights issue this June, albeit at a 34% discount to TERP. Indeed, the likely discount had until this spring caused Enel to set its face against a new issue.
The company also agreed to cut its capex by €12bn up to 2013 to €33bn. Shareholder appetite was not, however, dampened by the announcement of a planned cut in their dividends. The company will now only pay out 60% of ordinary net profits rather than a fixed figure, as they had done in the past.
A key concern for Enel was the maintenance of its A-/A2 long-term credit rating, put in jeopardy by the rise in its debt to an Earnings Before Interest Taxes Depreciation and Amortisation (EBITDA) ratio of 3.8 times. Growing cashflows, coupled with further asset disposals, are being targeted to get the ratio back to less than three times by the end of next year. After the rights issue, S&P and Fitch removed the negative watch and upgraded the outlook to stable from negative.
Investor confidence in these plans was further demonstrated by this September’s €6.5bn equivalent fixed rate bond issue, which was more than four times oversubscribed. The non-euro portion of the deal was two long-dated bonds totalling £2.25bn, the largest ever recorded bond issue in sterling. Enel CEO and General Manager Fulvio Conti, glowing with pleasure at the success, announced that in the coming months the company would be looking at further deals – this time targeting the Italian retail market.
Before that month was out Enel had indeed tapped the US market with three more fixed rate bonds totalling $4.5bn, with due dates of 2014, 2019 and 2039. The bonds were issued under Enel’s recently-renewed Global Medium Term Notes (GMTN) programme. With this new issue under Enel’s belt, Conti said that he expected to be tapping the Italian retail market in the early part of 2010.
Luigi Ferraris explains that a major impact of the euro and sterling issues, which included one 5.75% bond due for 2040 has been to push out Enel’s debt maturity.
"At the end of June 2009, we had an average maturity on our debt equal to five years and four months. With the September bonds, we now have an average maturity of more than seven years."
Ferraris also points out a key change in Enel’s debt profile.
"Before launching this bond process, we had a ratio in terms of bonds to bank loan facilities close to 40:60. We are working to reverse these proportions."
Even despite market conditions he says, bank money has not been tight even with respect to our CP programmes.
"Today I really don't see any problems. If you look at our liquidity profile at the end of June, we were more than covered. In Endesa we had something like 28 or 26 months of maturity covered. For Enel, we are aiming to have a coverage of 18 months. So I think we are in excellent shape at this moment. There is not a liquidity issue. We do not have any problems asking for a credit line and of course after the bond exercise we have more liquidity. So ideally we would like to have an extended maturity profile with bonds as the funding for what we have acquired as a strategic asset for the long term."
Although analysts had been concerned that Enel was over-extending itself not just financially but in too many countries, investors clearly buy Ferraris’s view that the acquisition strategy, not least of Endesa means that the company now has solid margins in a diverse range of markets.
"In Europe we have seen a process of integration and merging of the most important utilities, which means that size now matters and is key in supporting investments and diversification.
"On top of this we saw that increasing our size would enable us to boost our technology, our geography and leverage our synergies. We needed to be big enough to support future investments," he adds.
Ferraris explains that in terms of EBITDA, on a 100% consolidation basis Endesa now represents between 40 and 45% of Enel’s business. Besides boosting its presence in Spain and thus Europe, the Endesa acquisition brought with it 12 million Latin American customers from its operations in Argentina, Chile, Colombia and Peru as well as Brazil. Because the global downturn has not hit South America as hard as elsewhere and Brazil is continuing strong growth, Enel’s Latin American portfolio has bolstered revenues at a time when, for instance, in its Italian market, electricity demand has dropped 7.0% YOY.
Ferraris maintains that the integration of Endesa is extracting the expected value and that Enel is on target to produce €813m in savings by 2012.
"Clearly it has not been an easy exercise. As often happens in these deals, the speed of implementation sometimes is not as expected. If you have to decide, for instance, where or how to have one single place to perform some activities, some people will not be so happy. The human factor is always the most difficult. So you have to be very careful in managing the sensibilities of the involved management and try to maximise the results without effecting the motivation."
The Endesa brand is being maintained by a major drive – undertaken to boost synergies.
"We started by seeking to leverage the economies of scale, the classic synergies on the procurement. Much attention has been given to managing the logistics of fuel supply to our power plants. We have also shared best practise," says Ferraris.
One such example is the programme to switch Endesa’s 13 million Spanish consumers to the same digital meters that are now used by Enel with its 30 million customers in Italy. These allow readings to be taken remotely and also enable the utility to cut off or switch on supply remotely. Enel was the first utility to roll out the technology that also permits time-of-use monitoring, giving customers savings for power consumed in the evening and at weekends.
Enel is also looking to transfer automated network management tools to Spain. Coming the other way into Enel, says Ferraris, are Endesa’s strong marketing and sales expertise, to boost performance throughout the company.
"We were talking about our core business. Both Enel and Endesa have a very good knowledge of this, so it was not difficult for us to see where we could improve, and where one was better than the other."
The disposal of assets has not appeared to the markets like a fire sale with consequently distressed pricing. In April this year, Enel sold its Italian high voltage electricity lines to Italian utility Terna for €1.2bn and, in September, its gas distribution network Enel Rete Gas to two investment funds for more than €1.2bn.
Last September it completed the sale of a 20.4% stake in its Russian gas operation SeverEnergia to Gazprom for €400m (€0.4bn). Enel has invested c. €700m in the business and maintains a 19.6% stake with Gazprom now holding 51%. Gazprom had secured the option to buy the controlling interest when Enel, in partnership with Italian oil company Eni, bought the SeverEnergia’s western Siberian gas fields at auction following the bankruptcy of Yukos oil. Earlier this year, Conti was still talking about investing a further €2bn into its other Russian asset, generator OGK-5, over the next four years.
"Driving costs out of the business is now the priority," says Ferraris. "At the beginning of the year we launched a programme to generate €2.7bn operating cashflow before taxes in the next four years, mainly by attacking working capital and operational expenditure."
So when Enel has driven down its debt and achieved all the planned synergies, will it be looking for further acquisitions or will it focus on expanding its current reduced investment programme in existing assets?
"Strategically, I think we have reached the right size and the right dimension," says Ferraris. "The evidence is there to show that our acquisitions are delivering the effective results, therefore our acquisition campaign is over. It is true that size matters in this business and now I believe we have reached the right size."