The great energy carve-up of 2004

By Shoeshine

Friday 2nd July 2004

The impending electricity and gas utilities sector shake-up is providing energy analysts with the most fun they can have with their clothes on.

This is not said in a spirit of disrespect to analysts, who like a good time as much as lawyers and accountants, but to emphasise the endless possibilities for well-informed speculation and the probability that their shrewder clients are about to make a lot of money.

At the top of the recommended list is a hefty punt on shares in NGC, which are trading at around $2.76.

Any exit by majority shareholder AGL and the consequent offer for 100% would have to be made at well north of $3, with estimates ranging up to $3.70.

One reason for their confidence is that NGC's lot has improved considerably due to the string of recently announced gas deals.

Principal among these are contracts for the supply of gas from the Pohokura field from mid-2006. The redetermination of the reserves left in the Maui field has also resulted in new supply arrangements.

The deals leave NGC with the majority of its gas coming from Maui until its 2006 financial year, after which it will be reliant on Pohokura, Kapuni and gas from some smaller fields.

The positive for NGC is that it has sewn up at reasonable prices at least as much gas as analysts had expected.

In the case of Maui gas, most of it is prepaid or advance-paid, so will not be a drain on the company's cashflows.

There is also a downside in that gas prices have now risen to the point where coal is competitive.

For gas resellers such as NGC, this exposes them to the risk large customers will be able to play one off against the other but the threat to earnings doesn't appear large.

That's the boring bit.

The fun bit lies in speculating how sales of two large energy utility stakes on the block majority positions in Contact Energy and Powerco will play out.

As the Contact sale is being driven from the US by its 51% owner, Edison Mission Energy, there isn't a lot of reliable information.

AGL is said to be one of the parties interested and offers are said to close on Monday.

What is sure is that the successful bidder for the Edison stake will have to bid for all the rest of the shares at the same price, so it will have to have deep pockets and more than a nodding acquaintance with the New Zealand energy sector.

The main point of interest for investors is the price. If Edison, a distressed seller, is obliged to take less than the $5.80 market price, it's unlikely any of Contact's loyal minorities will sell into the mop-up offer; everything will go on as before, just with a new big owner.

But if the price paid is higher than market, the situation becomes much more interesting as it's unlikely the minorities will budge without a large premium to the share price.

The situation with Powerco and NGC is even less clear-cut.

News of "talks" between NGC and Powerco and, presumably separately, between NGC and Vector prompted the councils and the trust holding 53.6% of Powerco to put their combined stake on the block.

In running the sale process, PricewaterhouseCoopers has reported "keen interest," even though the owners are asking for a huge premium to the pre-bid market price. Analysts remain sceptical about the true level of interest.

As with Contact, the sale of the stakes will trigger a requirement that the buyer offer the same price for all the rest of the shares.

The major uncertainty here is that the "talks" with NGC involve the purchase of AGL's 66% shareholding, which would trigger yet another compulsory bid.

At a justifiable 20% premium to the current market price NGC is worth $1.4 billion. As Powerco's balance sheet is geared heavily following the purchase of UnitedNetworks assets, it would have to raise a huge dollop of fresh equity.

Powerco's major holders have given themselves until the end of August to consider the bids. As no one in their right mind would go ahead with a purchase until the NGC situation is resolved, that suggests to Shoeshine that August is also the deadline for AGL to make its hand known.

One possibility is that, rather than buying the councils' and trust's stakes, one of the parties the sale process has flushed out will finance an NGC bid by pumping in the required equity in exchange for new shares.

The joker in the pack here is the Commerce Commission's gas control inquiry, which is due to produce its final report in November. Its May draft report elicited howls of protest from the sector especially NGC, Vector, and Powerco, all identified as extractors of excess profits.

The commission has taken some heed, admitting it may have overestimated some companies' returns.

What the final report will say is anyone's guess but the threat of regulation isn't something sector players can ignore when they draw up their bids.

Meanwhile, Vector has said it isn't interested in buying Powerco. But unnamed industry commentators apparently think they have reason to believe its "no" means something other than no.

They miss the point. It's NGC, not Powerco, Vector has been talking to.

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