Utilities Offer Rare Spark for Dealmakers in First Half of 2016by
Big deals power resurgence in M&A for electricity producers
Need for consolidation sees companies forking over cash
North America is once again the focus for big utility deals, as customer demand for product -- electricity -- continues at reduced levels, while the need to spend on infrastructure remains high.
Globally, electric utility deal volume totaled about $56 billion in the first six months of 2016, according to data compiled by Bloomberg, compared with about $16 billion in the year-earlier period. The U.S. and Canada accounted for 63 percent of the total this year, the data show.
It was one of the few bright spots in a year that has seen total global deal volume drop by about 13 percent -- and one in which more than $300 billion in deals were terminated in the second quarter alone.
It also has been the biggest first half for the industry since 2011, when there were two huge deals: Duke Energy Corp.’s buyout of Progress Energy Inc. for $25.5 billion and Exelon Corp.’s tie-up with Constellation Energy Group Inc. for $10.2 billion -- both all-stock deals.
“It has been an amazing volume of utility M&A,” said Stephan Feldgoise, Goldman Sachs Group Inc.’s co-head of Americas M&A.
In North America, the volume of deals in the electric utility sector for the first six months of the year totaled $35 billion, data compiled by Bloomberg show, compared with $5 billion in the same period a year ago. Twenty-six such deals were announced in the six months through June 30, compared with 18 in the same period of 2015.
Leading off the bigger deals this year was the $12 billion Midwestern marriage of Kansas City’s Great Plains Energy Inc. and Topeka, Kansas-based Westar Energy Inc. Canada’s Fortis Inc. did its second-biggest deal in a little more than three years by making an $11 billion offer for Michigan’s ITC Holdings Inc.
Both mega-billion-dollar deals this year were done at premiums to forward price-to-earnings, a good sign for deals going forward.
Favorable financing rates are enabling buyers to pay relatively high premiums while still striking deals that should generate solid returns, said Michael Casey, managing director of Royal Bank of Canada’s RBC Capital Markets power group.
The way investors endlessly search for yield, utilities search for growth. In a highly regulated industry, where consumers are increasingly more energy efficient, M&A is one of the few sure paths to returns.
“Electricity demand growth is flat in many areas,” Feldgoise of Goldman Sachs said. "Plus there’s pressure, especially on smaller, sub-scale utilities to invest in infrastructure where scale matters, such as in cyber security."
The rapid pace of M&A could actually depress dealmaking volume going forward, according to John Lange, head of global power and utilities at Barclays Plc.
“There may be a decrease in available targets,” Lange said.
Companies with at least $20 billion in market value are most interested in merging with like-size companies or buying companies with decent heft, he said. Those types of targets are becoming scarcer. While the industry has a lot of utilities with market values of $1 billion to $3 billion, would-be buyers have to consider whether the regulatory risk of doing a deal of that size is worth it, he said.
Feldgoise said Canadian utilities seeking to expand beyond their borders and Canadian funds seeking to invest in U.S. infrastructure will still be on the prowl.
He expects mergers of companies of $10 billion or less to continue because of the high premiums relative to their low-premium bigger cousins.
"In a highly regulated industry, M&A is proving to be an area to create opportunities for buyers to invest capital," Feldgoise said.