Eon and RWE pursue radical restructurings

Michael Lewis always has strong emotions driving past Ratcliffe-on-Soar, a 48-year-old coal-fired power station in middle England whose massive chimney and cooling towers dominate the landscape.

It was the first plant he ever visited when he started out in the energy industry more than 20 years ago, and he retains a soft spot for it. “When you see it, you have a certain pride that you’re keeping the lights on,” he says.

But Ratcliffe is no longer part of his world. Mr Lewis’ company Eon, Germany’s biggest utility, has dispensed with all of its coal- and gas-fired power stations, hiving them off into a new entity called Uniper at the start of 2016. It is the most radical corporate restructuring Germany has seen in decades.

Mr Lewis, head of renewables at Eon, is sad to see Ratcliffe go, but recognises Europe can only combat climate change if it reduces carbon dioxide pollution from traditional power stations. “We have to make this transition,” he says. “CO2 emissions have gone from a marginal to a mainstream issue and the world has to get to grips with it.”

Eon is not alone in finalising a far-reaching overhaul this year. Rival RWE has embarked on an equally drastic restructuring, as both companies respond to a crisis in the German power industry that many have described as existential.

The trigger was the Energiewende, Germany’s decisive shift away from fossil fuels and nuclear power towards renewables. The transformation has shaken up the industry in ways no one saw coming. “What happened went beyond my worst case [scenario],” says Johannes Teyssen, chief executive of Eon.

Germany has become an incubator for changes that are now taking hold across the industrialised world, and which will accelerate as a result of a climate change accord finalised in Paris in December. The agreement is designed to stop global temperatures rising more than 2C from pre-industrial times and, if implemented, will force power companies to entirely rethink their business models.

“Germany is at the forefront, but you can see these changes on a global scale,” says Hans Bünting, head of renewables at RWE. “Last year, 50 per cent of the generation capacity built worldwide was renewables.”

Against this backdrop, conventional coal and gas-based power, once the mainstay of the global electricity generation, will gradually diminish.

But this shift has been disastrous for Eon and RWE. The power they generate from coal and gas has been squeezed out of the market by heavily subsidised wind and solar.

Meanwhile the massive build out of renewable capacity, combined with sluggish demand and a slump in the value of crude oil and gas, has triggered a collapse in the price of wholesale electricity — from €60 per megawatt-hour in 2011 to about €25 now.

Both RWE and Eon have taken massive writedowns on their coal and gas-fired power stations, which barely break even at such prices. Germany’s utilities have also had to deal with the country’s decision after the 2011 Fukushima disaster in Japan to abandon nuclear power.

All of this has hammered their valuations. Eon’s share price has fallen 64 per cent since Fukushima, and RWE’s by three-quarters. Eon slumped to a record loss of €7bn last year, while RWE was forced to scrap its dividend.

Eon announced its big break-up in 2014, hoping to get ahead of the crisis. Uniper would keep the dirty plants and energy trading while Eon retained the cleaner, greener businesses: renewables, energy distribution and customer solutions. The plan is for Eon to list 53 per cent of the new company in the second half of the year, pending shareholder approval at a meeting on June 8.

But the external environment has deteriorated markedly since Eon unveiled the split.

It had intended to transfer all its nuclear reactors into Uniper, but the government, worried Eon was trying to dodge its share of the cost of Germany’s atomic clean-up, forced it to keep them.

“It means that both Eon and Uniper have businesses with negative momentum, which will burden their valuations,” says Guido Hoymann, analyst at Bank Metzler. “It makes you wonder whether it was worth doing the split in the first place.”

Meanwhile many question Uniper’s viability, considering the continuing fall in power prices since the restructuring was announced. Critics say Eon has simply created the energy equivalent of a “bad bank”.

“The economic starting point of the two new companies is less fortunate than we thought,” says Mr Teyssen. “But there’s no better answer than to still move ahead.”

RWE took a different approach. Instead of carving out the older assets it split off the more attractive ones — its renewables, grid and retail operations — into a new subsidiary, which will take a stock market listing by the end of 2016.

RWE will initially sell 10 per cent of the subsidiary’s shares, and then dispose of more stock later. The resulting break is much more clear-cut than Eon’s.

But for RWE, too, the conditions have worsened. In April, a government-appointed commission ruled that Germany’s four nuclear generators should pay €23.3bn to cover the cost of storing the country’s atomic waste.

RWE vowed to fight the proposal, but most analysts say it will probably be adopted as law. That would mean an additional debt burden for RWE, already labouring under the low power price and its high exposure to coal and lignite — a dirty fuel that has an uncertain future in Germany. Those factors prompted Moody’s to downgrade RWE’s credit rating last week.

Thomas Deser of Union Investment, a shareholder in both Eon and RWE, says the companies’ fundamental problem is that they don’t have the same kind of political support from the state enjoyed by European rivals such as French utilities EDF and Engie, both partly owned by the French government.

“At the moment there is a lot of uncertainty about their ability to pay a decent dividend in the future,” he adds. “A lot of that has to be clarified before you can compare Eon and RWE to their European peers.”