Energiedienst Holding (CH0039651184) revisited

Almost exactly one year ago, I looked at Energiedienst Holding, the Swiss/German Hydropower utility.

That was my summary from last time:

The current system for renewable energy in Germany (selling renewable electricity into the market at any price with the consumer paying the difference) is hell for “traditional” utilities including hydro power.

The German utilities have maybe underestimated the extent of renewable production, otherwise they could have done the exactly same thing themselves. Now however, the are in a kind of “death grip” between having to run their expensive black coal and gas plants for peaks and the artificially low electricity prices. Combined with unfavourable natural gas delivery contracts, especially for E.on the air will remain quite thin.

So unless something changes significantly, German utilities (including Energiedienst) will need a long long time to adjust capacity and change their business models.

So the first questions is of course: Did something change ?

Well, firstly, the stock price of Energiedienst dropped a further -25% form around 38 CHF to currently around 29 CHF. So just from the pure valuation point of view, the stock clearly looks cheaper:

P/B 0.86
P/E 12
EV/EBIT 12
EV/EBITDA 7
Div. Yield 5.1%.

Energiedienst released preliminary numbers for 2013 today. At a first look, it doesn’t look pretty. EPS came in at 1.99 EUR per share, the third consecutive decline since the peak at 2.70 EUR in 2010.

Looking further into their preliminary numbers, I was especially surprised by this:

  2013 2012 change in %
EBIT in Mio. € 79 99 -20%
EBIT Segment Deutschland in Mio. € 53 56 -6%
EBIT Segment Schweiz in Mio. € 27 43 -38%

Profit in Germany was only slightly lower, but we see a big drop in Switzerland which is surprising. In the text they mention that they took a special charge for long-term electricity purchases in the first half-year so one can assume that this has to do with the Swiss business. So not surprisingly, Free Cash Flow looks better than earning:

  2013 2012 change in %
Free Cash Flow in Mio € 79 83 -5%
Bruttoinvestitionen in Mio. € 44 57 -23%

This results in a total net cash balance of 146 mn EUR at year-end or 4.40 EUR per share which is almost 20% of the current market cap. So “cash adjusted” P/E is around 10. Additionally, they announced some kind of strategy change and review, however without any real details

OK, so we do have a relatively cheap but declining business, why bother ?

First, at least to me it looks that Electricity prices have at least for now stopped their free fall as those two charts show:

I am clearly not an expert on electricity prices, but with the currently mild winter (or no winter at all), I would have expected a further drop but that doesn’t seem to happen at least for now.

Political environment

Since last year, again some things have changed. We have now the “GroKo” in Germany, the coalition between the two large parties, conservative (CDU) and Social democrats (SPD). Interestingly, the boss of the junior party SPD, Sigmar Gabriel, has taken over the responsibility for Energy.

As I described a year ago, under the current system, mostly retail clients have to pay a surcharge in order subsidize above-market prices offered to the owners of solar and wind power plants. Many large companies are not subject to this “tax”.

The surcharge is increasing every year, both because of lower wholesale prices and additional capacity. However, pressure is building up against this system from many sides. Clearly, the established utilities are fighting against this as hard as they can and threaten to switch of expensive gas-fired power plants which are essential for net stability. But now, also the EU commission started to look into the exceptions for large companies already in December.

Also the core voters of the SPD are mostly lower-income recipients which are most effected by increasing electricity prices along rising rents. So Sigmar Gabriel, the SPD energy minister has to do something in order to stop further retail price increases or he will have no chance of winning the next election. Some ideas were already floated, mostly a limitation of future renewable capacity and lower rebates in the future. The concept drew a lot of critic from all side, although some parts, especially the requirement for direct marketing of renewable power doesn’t seem to be that bad.

In parallel, the bankruptcy of wind energy “pioneers” like Prokon shows that even under current high transfer payments, the big boom in new renewable energy seems to be mostly over and I guess investors will be much more careful in the future.

On top of that, the big utilities are taking out a lot of conventional capacity in Germany, party also in order to increase the pressure on the politicians.

So without being an expert in those issues, it looks like that the “tide might be turning” at some point in time in the future with regard to electricity prices or at least that they are not falling that much more. But this is clearly my own opinion and cannot be supported by a stringent theory or facts.

But why Energiedienst ?

As I have written before, the big traditional utilities like RWE, EON etc. have a lot of other problems, like too much debt, nuclear liabilities, pensions, problematic foreign subsidiaries etc. Even Verbund, thy Austrian Hydro Power utility has a lot of issues with Italian and other foreign investments. Energiedienst, on the other hand does not have those additional issues.

Energiedienst still looks more expensive than its peers:

Name P/E EV/T12M EBIT EV/EBITDA T12M P/B Dvd 12M Yld – Net Net D/E LF
             
ENERGIEDIENST HOLDING AG-REG 11,8 10,2 5,9 0,8 5,2 -7,8
VERBUND AG 9,4 9,8 4,8 1,1 3,8 70,5
RWE AG 108,3 7,2 3,0 1,5 7,4 77,9
MAINOVA AG 15,4 50,5 23,3 2,3 2,4 76,4
E.ON SE 12,2 8,2   0,7 8,3 45,2
ENBW ENERGIE BADEN-WUERTTEMB 51,0 13,0 6,1 1,4 3,1 43,0
LECHWERKE AG 21,7 21,6 14,7 3,1 2,8 -55,8

They do not jump out of this comparison table as the “super cheap” utility. But if we look at Lechwerke in comparison, a comparable, regional, Hydropower utility in Bavaria owned by RWE, sometimes quality is honored with very rich valuations.

In my opinion, the quality of Energiedienst, especially in comparison to EON, RWE & Co is not reflected in the share price. Clearly they suffer as well from current electricity prices and they are not a growth stock, on the other hand, as a hydropower generator without variable input cost, they will benefit the most from increasing prices.

The downside at the current level is in my opinion relatively protected, unless they do something really stupid with their net cash. This is in my opinion the key issue to watch going forward. Energiedienst will generate a lot of cash as reinvestment requirements will be rather limited. If they owuld actually start ti buy back shares, this couldbe a nice surprise but there is no indication that they willdo so.

I am aware that buying a German utility stock now is a pretty contrarian play and many people will say EON and RWE are cheaper and could more speculative upside or not to invest in utilities at all. My focus however is more on the downside, where I think Energiedienst is much better protected than the big, indebted players. So overall, I think the “full” risk/return relationship of Energiedienst is better.

Summary:

An investment into Energiedienst is clearly a bet on constant or higher electricity prices based on potential political changes, so it is rather a “special situation” investment with regard to potential regulatory changes from the current, unsustainable status quo. What I like about this bet is that to a large extent this will be driven by political actions which will be either uncorrelated or even negatively correlated to the overall economic situation and hence, to the rest of my portfolio.

My return target over 3 years would be the annual dividend of currently 5% plus a stock price increase of ~30% which would indicate a target P/E of 13-14 at current Earnings (ex then cumulated cash).

So for the portfolio, I will initiate a 2.5% position for the “special situation” bucket at ~29.50 CHF / 24.50 EUR per share.

13 comments

  • investorsmind84

    Looking at the last earnings release, the EBIT of Energiedienst dropped again to €~26m (half yr) or €~65m 12month forecast. Drivers: Low prices and below-agerage water volumes of the Rhine. According to the newest EEG-reform, there might not be a push into the direction of capacity reduction. I am thinking about other scenarios, which could lead to a electricity price increase. Maybe there might be upcoming shutdowns of traditional plants? Otherwise, which development could lead to increasing energy prices (from the market perspective)?

    • #Invest,

      more industrial activity in Europe could be one scenario. Honestly I do not know if this works out as planned but clearly a lot of patience is required.

      mmi

  • Hi MMI,

    Last year when you wrote about this idea, I found it very attractive and decided to look into it. After spending some time researching this industry I came to the conclusion that you may risk very low return on the LT. I believe that EnergieDienst is facing a major technological risk due to the development of renewable energies.

    Dam operating is currently a very profitable business because it is the most efficient way of producing electricity, the marginal cost of production for large hydro is about 9-10€ / MWh smaller hydro have even lower cost of around € 2/MWh. They can rund 24/7 and need no operational staff they can be “remote-controlled”. So the costs are perfectly scalable and fixed this implies a very high operating gearing. Therefore a small price decline transforms into a very large EBITDA decline.

    Then looking at the futur for electricity price. Electricity price has declined a lot in continental Europe since 2008 and it is mostly due to the large scale development of renewable energies. For exemple the swing supplier in Germany used to be gas now it is coal (this is the reason why Eon and RWE are mothballing gas plants). This is due to all the renewable energies (wind and solar have lower marginal production costs therefore they push the cost curve further to the right, as demand is not increasing the swing supplier move towards the left (cheaper marginal producer) resulting in price decline). By 2020 the swing producer will probably be lignite which is 15% to 20% cheaper than coal. It implies that LT price for electricity is underpressure.

    In the end I believe that an investment in Energiedienst is like a call on the coal/lignite price but with a hughe imbedded leverage. You may earn money on the short run if coal prices go up and electricity prices follow but in the LT you face a lot of pressure.

    Another negative point about Energiedienst is the management (it is like a public company…)

    Paul.

  • Hi MMI, hast du doch noch zugeschlagen! Viel Erfolg!
    Ich peile ja immer noch Aufstocken von EON an (ja, ich kenne deine Vorbehalte) – wir können ja nach 3 Jahren vergleichen und der Verlierer zahlt eine Pizza 😉 (oder der Gewinner, quasi als Sozialausgleich ?!? )

    Woodpecker

  • Again very interesting article! I took down a note to look further into this when I find time.

  • Thank you for this thoughtful article. I like the idea and will look into it.
    My understanding so far of this company and your argument:
    Electricity provider to Germany, nearly totally fixed costs, results and share price react directly to electricity price, electricity price too low by government order and subsidized by consumer, economic and political laws dictate this can not last, strong balance sheet protects you somewhat, you earn a dividend while waiting for higher prices.
    In case stock markets tank, this will probably suffer not so much. Instead of negative real rates on cash and AAA, you receive a 5% dividend.
    Main risk: government interference in electricity market; I do not know how much of a risk the dependence on water – dry years – on the production site is.

    Great links!
    I have looked at Alleghany several times. For me the financial statements of insurers and banks are difficult. If I remember correctly, even Buffett did not estimate the numbers in General Re’s books correctly in 1998.
    In addition insurance is cyclical, very competitive and heavily influenced by money policy – at the moment financial repression.

  • “I am clearly not an expert on electricity prices, but with the currently mild winter (or no winter at all), I would have expected a further drop but that doesn’t seem to happen at least for now.”
    Bin zwar ebenfalls kein Energiepreis-Experte, doch würde ich mitten im Winter bei wenig veränderten Öl- und Gaspreisen keine niedrigeren Strompreise erwarten als im Frühjahr oder Herbst, da in Dtld. der Stromverbrauch im durchschnittlichen Winter gut 10% höher ist als im Sommer, wobei im Januar der höchste Wert erreicht wird. (www.ibl.fh-muenster.de/kitewiki/index.php/Datei:Energieverbrauch.JPG)
    Einflüsse dieser Art sind auch in saisonalen Charts zu erkennen, wobei hierfür zwecks statistischer Relevanz die Daten für einige Jahrzehnte vorliegen müssten. Der saisonale Chart für Heizöl zeigt beispielsweise die höchsten Werte Ende September und Anfang Oktober. Ein entsprechender Chart für Strompreise liegt mir leider nicht vor und auf jenem Markt scheint auch das Angebot variabler zu sein (zum Bsp. weniger Atom- und Wasserkraft nach langer Trockenheit im Sommer, weniger Solarstrom im Winter).

    Auf ihrer Website las ich: “Neben Beteiligungen an Laufwasserkraftwerken besitzt die EnAlpin AG Anteile an Speicherkraftwerken.”
    Speicherkraftwerke sind zunehmend wichtig, doch scheinen die Preisunterschiede innerhalb eines Tages geringer als früher zu sein. Aber jene Anteile an Speicherkraftwerken sind wohl ohnehin nur ein Nebengeschäft.

  • Did they own distribution network (mentioned in the first post)? Shouldn’t this be quite valuable asset alone if they have 750 000 customers (say 10xEBITDA or more)?

    You know, the network operators just takes the distribution fee which should not be correlating with the “energy part” of the electricity price.

    Or are there some regulation which makes the network asset less valuable than in most of the western countries?

    • They do own local distribution networks but there is no split between generation and distribution available at least to my knowledge.

      • Hmm…okay. Fortum just sold their pure play distribution business in Finland for EV/EBITDA=17, EV/Sales=7.8 and ~4000 EUR/Customer. With that multiple Energiedienst distribution could be worth up to 3 BEUR. I don’t know if its applicable to this situation as I don’t understand their reporting language.

      • Actually its less fun to have a distribution business in Germany.
        As a consequence of “Energiewende” you have to invest heavily: In the past Energy was produced in big powerplants and distributed via high-voltage powerlines down to middle-voltage powerlines and finally low-voltage powerlines.
        Nowadays you get more an more small energy producer: Small solar plants can feed Energy to small-voltage powerliner, wind mills to middle-voltage powerlines. In times of much sun and wind sometimes you have more energy-feeder than energy-user in these lower powerlines. So the direction of energy-feeding has to be changed. Thats new, the power lines were not made for it,, so that needs lots of new investitions.

        On the other hand the tariff rates for conducting energy through power lines are heavily dictated by state, so the sector speaks about a revival of state planned economy.

  • Looks like a classical contrarian investment to me. I would not even want to call it a bet like you do because it is not in my eyes. Low P/E, low P/B and while waiting for the turn around (might take longer than three years though) you will collect a nice dividend.
    I myself are sitting on E.ON. shares and I am not so happy with the share development since I bought it but when the dividend drops in I get a smile on my face. 🙂

    • Fredrik, thanks for the comment. I do think it is at least partly a bet because they clearly need an “external” event for better profits. One could say it is a bet with a positive carry….

      mmi

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