Capital Confidence Barometer:

Power & Utilities, October 2012–April 2013

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Slower-than-expected global economic recovery lowers M&A appetite as buyers and sellers face an impasse on value

Top 5 key findings

  • Low confidence: 80% executives think the global economy shows no signs of improvement.
  • Continued pessimism: 67% expect the downturn to last for more than one year.
  • Valuations key deterrent to M&A: 38% cite the valuation gap between buyers and sellers at 10–20%; 66% believe it is greater than 10%.
  • Smaller ticket size: 79% of executives expect their acquisitions to remain below US$500m.
  • Efficiency and cost control top the boardroom agenda, not growth.

Our seventh Capital Confidence Barometer shows tumbling global economic confidence, with power and utility executives more pessimistic than six months ago. However, a greater sense of stability is emerging.

Amid continued economic uncertainty, large transformation deals are off the table for most power and utility executives. Confidence is low in both global and local economies, except Brazil, one of the lone bright spots in our survey.

M&A appetite is low, and 79% of executives believe the size of any M&A they do will be below US$500 million.

What’s behind this doom and gloom? We have a standoff between buyers and sellers, a valuation gap that the majority of power and utility executives surveyed place in the range of 10% to 20%. Buyers think assets are overpriced, and the number of executives now expecting valuations to fall has risen from 14% a year ago to 30% in this survey. Sellers are less willing to divest.

The good news? There is general consensus that the market is stable. While it’s not improving, the negative sentiment is limited and opportunity is on the horizon. The fundamentals are in place for transactions that make good strategic sense.

Financial buyers are likely to contribute some robust activity. With reasonable credit availability and stockpiled cash, M&A in this industry is not dead — it’s just playing a waiting game.

Joseph Fontana
Joseph Fontana
Global Power & Utilities Transaction Leader

Joseph Rodriquez
Joseph Rodriquez
Global Power & Utilities Sector Resident,
Transactions

In the spotlight: Brazil bucks global trend with rising confidence

A clear bright spot in our survey was Brazil, where power and utility executives believe their local economy is improving. Though lower than 2011 levels, positive sentiment about the domestic economy rose nearly 70%: from 38% positive in April 2012 to 63% positive in October 2012. Underpinning this was the fact that 49% of executives believe credit availability is improving at a global level, compared with 12% six months ago. Additional capital has found its way into the market as local development bank BNDES continues to support the energy market, banks work to create a secondary market for infrastructure bonds and private banks begin to finance infrastructure projects.

Our survey reveals the following trends:

  • Focus on growth: 50% of respondents are focused on growth, up from 38% six months ago. This is on par with the levels cited in April 2011.
  • Appetite for M&A: Companies with excess cash remain focused on paying down debt (37% cite this as their priority), but inorganic growth (M&A) jumped up as a priority, from 6% in April to 25% in October.
  • Deal size: 50% of respondents anticipate making an acquisition in the next 12 months, with 100% expecting a deal size of over US$500m (33% higher than US$1b). The regulatory environment was cited as the overwhelming reason not to pursue an acquisition.

Viewpoint: Increased stability

While there is no doubt that our survey reveals power and utility executives around the world have less confidence that the global economy is improving compared with six months ago, it’s encouraging to see that over half (55%) of executives cite a stable global economic environment.

We are seeing more stability in the market now than we have in the last 18 months: only 29% thought the economy was stable six months ago, and 33% one year ago. It’s good to see a level of stability returning, albeit at the expense of positive sentiment.

Smart power and utility companies are using this time to realign the capital base, reduce costs, trim the asset portfolio and deleverage. As we gain economic and political clarity in many of the developed markets, look for stability to give way to optimism and opportunities to follow as a result.

Fundamentals are there

The current global economic uncertainty and valuation gap concerns have stymied M&A activity in the power and utilities sector. Added to this has been the record-low interest rate environment across much of the developed world, which some may say is artificially low. As bond and fixed-income investors search for investment options, we are seeing some high valuations in the regulated space. This has also acted as a deterrent for some of the large-cap M&A moves.

However, it is not all doom and gloom. With liquidity still in the market and companies being forced to grow and deleverage from a number of their lower-growth domestic markets, we see opportunity on the horizon. The big deals might be on the back burner for now, but we still anticipate robust activity from financial buyers and the potential for some big mergers where it strategically makes sense. We also expect the tide to turn as sellers bite the bullet on valuations to redeploy capital across their portfolios.

About this survey

The Global Capital Confidence Barometer is a regular survey of senior executives from large companies around the world, conducted by the Economist Intelligence Unit (EIU). Our panel is composed of select EY clients and contacts and regular EIU contributors. This snapshot of our findings gauges corporate confidence in the economic outlook, and it identifies boardroom trends and practices in the way companies manage their capital agenda.

Profile of respondents

  • Panel of more than 1,500 executives surveyed in August and September 2012, including 171 power and utility executives (51% from the C-suite)
  • 55% of respondents have revenue of US$1bn or more

Also available

Power transactions and trends Q3 2012
Our quarterly analysis of global power and utility mergersand acquisitions. Key findings:

  • Significant decline in European and Asia-Pacific dealactivity drags Q3 2012 global power and utilities valuedown 60% on Q2, to US$19b
  • Average deal value reaches US$352m, a decline of 59%compared to Q2 2012, reflecting an aversion to risky,transformational transactions amid renewed globaleconomic uncertainty
  • A valuation gap between buyers and sellers proves themajor barrier to deal completions, impacting global M&A
  • Europe remains hub for clean energy deals; Americaswitnesses rise in renewables deal activity driven byCanada and Brazil