Uniper/E.On Spin-off: Take one ugly duck and transform it into ….. 2 really ugly ducks ?

Background:

Monday, Sep 12th will be the first trading day for Uniper, the E.On spin-off. E.On shareholders will get one Uniper share for each 10 E.On shares they are holding.

Just to recap: Uniper will contain all the (unwanted) power generation assets of E.on, so all the “fossil fuel” power plants, the Russian assets and the Swedish nuclear plants plus some other stuff. The German Nuclear assets (and the corresponding liabilities) will remain at E.on due to the reasons I mentioned in the last post.

Uniper is clearly an ugly Duck, maybe the “most ugliest spin-off” I have seen since I started the blog. If we look into the most recent investor presentation, it is clear that you have a problem when the 3 listed growth projects are a German Hard Coal Power plant, q Russian power plant closed due to an accident which will reopen in 2018 and some strange dealings around the North Stream gas pipeline (page 9.). It doesn’t help either that Uniper had to take a 3,8 bn EUR pre tax write down in the first 6 months of 2016.That makes the duck still uglier.

Unfortunately, also E.On will not turn into the beautiful swan as the will carry the (significant) nuclear liabilities. I think they wanted to have E.On emerging as the beautiful swan, but now they got two ugly ducks instead of one.

Back to the spin-off:

Similar to Siemens/Osram 3 years ago, for one day Uniper will be part of the DAX, which will be calculated with 31 instead of 30 stocks on Monday, but then they will drop out of the DAX on Tuesday.

Any index fund will therefore need to sell the stock on Monday, they will not care about the price level as long as they can sell at the price which is used for calculating the index. Vanguard and Blackrock own almost 10% of E.on which is mostly index money, on top of that also Deutsche, Lyxor and Deka have significant index fund stakes in E.On. My rough guess would be that ~15% of E.On are held by index funds.

The potential effect of this can be nicely seen at the first 2 days of trading at Osram back in 2013:

osram-2day

The stock started trading on the first day at 23 EUR and ended on the second day at 28 EUR, a nice 22% increase with around 25% of all stocks traded on the first day. Much of that was (in my opinion) driven from price insensitive selling of index funds on day one.

The question of course is: Will this happen again ? The E.On CEO himself expects volatile prices on Monday. 

They do have all incentives that Uniper doesn’t fall too much as the are keeping slightly less than half of Uniper and would have to write down the stake if the value falls far below their book value which in my understanding is around 12 bn EUR.

Clearly many arbitrage funds have seen Osram (and Lanxess) and will be prepared, on the other hand Uniper is such an ugly duck that there are little other long-term investors and those Arbitrage funds will earn some serious money. too.

Valuation attempt 1: Book Value multiple

One of the big questions is: What should Uniper be worth ? “Conventional” power plants powered by Hydrocarbon don’t trade that rich.

Drax UK, a coal based power plant trades at ~0,7x book value, the Polish coal based utilities trade at 0,4 times book value, CEZ from Czech Republic at 0,9x. It is always difficult to separate Power generation and distribution for listed utilities. Distribution is better and fetches higher multiples, generation is the part that no one wants. As a “gut valuation” I would say that 0,7x book value could be a “fair” value for something like Uniper.

With shareholders equity of 11 bn EUR and 365,96 mn shares, that would be 30,24 EUR book value per share or a “fair” value of 21,17 EUR per share at 0,7x book value.

Valuation attempt 2:  EV/EBITDA multiplee

Uniper will carry around 3,6 bn net debt after the spin-off. If we assume EBITDA of 2 bn p.a. as a reasonable number, then a valuation of 5-6x EV/EBITDA would justify a range of 17,49 EUR to 23,33 EUR per share with the mid-point at around 20,50 EUR.

Interestingly (and without making it up), my 2 gut feeling valuations have resulted at the same ball park for the fair value per share which I find very surprising.

So what to do now ?

Uniper is clearly not a long-term investment, I have used the word ugly a couple of times and that’s what it is.

On the other hand, within Spin-offs, the ugly parts often start undervalued and then perform much better than the sexier part. This was also the case in the Metso Spin-off (Valmet) in early 2014. Metso, the sexy part gained 22,7% since spin-off, “ugly” Valmet however more than doubled (+111%) within 2,5 years.

But it could be an interesting short-term special situation, similar to Osram. If they start trading significantly below my fair value estimate (<15 EUR per share) I will allocate 1-2% as a special situation depending on the price.

In any case I will not hold this for a longer period of time. Time to get the Popcorn ready for Monday morning…….

If someone wonders why I would buy Uniper after “bashing” E.On (and Einhorn) for the last 12 months: I do distinguish completely between special situations and long term holdings. A stock could be a really bad long term holding but an interesting short term special situation. Uniper could be the typical “Cigar Butt” with one last puff in it. I think it is however important not to mix up the categories. If such an investment doesn’t work out, you have to take the loss quickly. It doesn’t make sense to argue a short-term special situation gone wrong into a great long term investment.-

 

UPDATE (9.9.2016)

After a lot of input via the comments & Email, I also lower my buying threshold for Monday. The fair value range seems to be rather in the 9-12 EUR range. So buying prices would be rather in the single digit rangelike 7-8 EUR. Let’s wait and see, this will be VERY interesting.

 

 

42 comments

  • I like reading your blog, especially because of the transparency you provide on your assumptions!
    The reason why I believe you reach rather high valuations for Uniper is that we all are used to take multiples that we consider conservative as they look like a “no growth” scenario. However, I believe that Uniper will be rather a declining business over time, cashing out the assets they currently have. So in 10-20 years time, there might be no residual value – and for that, I think 5-6 EV/EBITDA might be too high, and also the book value multiple.

  • Fundamentally, Uniper is a massive Scheisshaufen. I’d rather stay away at the moment.

  • No action from my side. Based on the updated info, the shareprice is pretty much in “No man’s land”, neither cheap nor expensive. Maybe there is a jump tomorrow, maybe there isn’t.

  • looks like that we don’t see single digits for Uniper, at least in the beginning….

    • It was close.
      What do you mean with “at least in the beginning”? Do you think the price will go south 10,00? (Do you think the price will go under 10,00 today?)

      When looking at the first day of OSRAM (you posted the screenshot), the price was never lower than on the 1st trade of the day (I know this is no guarantee, but maybe a pattern).

      And tomorow selling pressure from index-funds should be lower.

      • “Hindsight Capital” says it would have been good to buy in the morning… Fairly unspectacular day with ~46 mn stocks traded. VWAP around 10,38 EUR.

        Interestingly E.On suffered a -3% decline after adjusting for the spin-off. I think this was not the intention of managment 😉

        • Hindsight Capital 😉

          The pattern from Osram has partly repeated: price not unter first listing
          partly not: no jump on second day

          There is a psychological bias (I forgot the name):
          -foreign visitors feel more comfortable in London with a map of Paris than without any map at all
          -dumb investors (like me) feel more comfortable with a Chart of Osram while trading Uniper than without any chart at all

        • it seems that the “market” seems to learn…..

  • I’m a big fan of this blog, but in this particular instance, I think your analysis is incredibly light. I hope the following doesn’t come across as brusque, but having done a bit of work here, I thought I’d chime in.

    Let’s start with how you arrive at equity value. Have you looked into the discrepancy between what the Company defines as economic net debt and what you should interpret as net debt? I urge you to look into the asset retirement obligations the Company is excluding from its definition. If you choose to capitalise these and hold firm on your enterprise value, the value left to equity is significantly smaller. Equally, I urge you think more about the significant negative working capital position the Company finds itself in and why that is. Now compare that to some of the peers mentioned, e.g. Drax or CEZ. Management have been suitably cagey here. Ditto on how they see their working capital position changing.

    I also think you should spend more time looking at the underlying assets and specifically what the Company flouts as wholesale versus non-wholesale. While 60pct of the portfolio faces the wholesale market – the bulk of which Global Commodities settles on EEX – management has purposefully been cagey on the term duration of the non-wholesale bit. In fact, their power purchase agreements in place with E.ON’s retail arm are not as long-dated as you might think. I’ve repeatedly asked management to comment on the contractual relationship between related parties in this respect, but to no avail. All I would say, bar UK capacity payments, I would give no credit to their non-wholesale claim. And so you’re left with a large chunk of generation suffering from declining load factors from a rapidly changing merit order, compressing clean dark spreads from increasing coal prices in the short term and carbon taxes in the medium term, and continued negative clean spark spreads that won’t correct until you see widespread mothballing. Yes, you have two years of hedging benefits (although note these are only hedges for baseload), but European Generation for me is a structurally declining business and should be worth no more than 3-4x EBITDA given dire free cash flow prospects come ’19 and onwards. On my ’16E of c.EUR 650m in EBITDA, I’ll therefore carry European Generation at EUR c.2.0-2.6bn

    As for Global Commodities, how much work have you done into Uniper’s long term contractual terms with Gazprom and Yushno Russkoye? The former is a complete black box, and you have to hope GC can continue to clip a spread to their procurement cost. The latter sells roughly 50% into the domestic market and exports the rest. Realised pricing here is incredibly volatile, especially in the domestic segment. That said, the actual midstream assets (pipelines and storage), could fetch an attractive price (statutory filings puts EBIT at EUR 130m, with European midstream comps in the 14-15x range). So I’m going to apply 5-6x to GC sans-midstream (a small discount to large, more diversified global traders here), or EUR 650m ’16E. The combination of the two gets me an EV range of EUR 5.0bn – 5.9bn.

    Ironically, I view the Russian generation assets as offering the most predictability given their entrenched position in the merit order and therefore high load factors (blended in the 70s vs. 40-50 for hard coal and lignite in Germany) coupled with very generous capacity markets. But this is Russia, and you wonder at the marketability of the asset (notwithstanding the fact that you have a public stub that values Uniper’s stake at EUR 2bn+). Let’s apply an arbitrary 30% haircut here, so add EUR 1.4bn to the tally. Altogether, I get an EV of EUR 8.4-9.9bn. I’ll leave you to mull over what number this range should be netted with and what discount to fair value is appropriate.

    As an aside, what are your thoughts on management incentivisation? Total shareholder return of 25% over a four year period. Management only needs to buy one year’s base salary worth of stock over a four year period. Tells you how much conviction they have in the business.

    • thank you for the comment. How much work did I put into the valuation ? I guess between 5-10 minutes. I think you somehow missed the whole point of this post. Maybe just to reiterate the point: This is a special situation (Spin-off), not a long term investment. And yes, your comment comes along very (incredible) brusque.

    • Droideth,
      Thank you for the great post. But please don t let your work unfinished!!
      Tell us about what you think is the realistic economic debt of Uniper!
      Thank you!

      • Look to the Miscellaneous Provisions. Of all the archanae of accounting, provisioning withdrawals and how to capitalise are among the most difficult. Ultimately, these are very long dated provisions with a host of assumptions. You may haircut IAS 19 as it relates to pensions (a horribly obtuse concept and event irrelevant one in certain jurisdictions, ie Netherlands) but AROs are much more difficult give lacking reporting standards.

        As an aside. Notice the Datteln IV news yesterday? Watch this be space. Uniper at €10 per share is a compelling short (ex-dividend).

  • As a contestant for ugliest spin off I would like to suggest The Chemours Company, which was spun off from Dupont last year. As producer of commodity chemicals with high debt levels and environmental liabilities it had to cut its dividend after the first quarterly payment. Interestingly, the share price started trading at relatively high levels and then fell dramatically over the following months. It has since recovered a bit. A scenario with selling pressure in the first days of the listing followed by a rising share price did not play out in this case.

  • Hi MMI,

    that’s why I like your blog. Good posts and even better comments 🙂

    The Uniper-presentation can be a little bit misleading because important information is missing in my opinion (e.g. the explanation for the seasonality in net debt that Ivan brought up or what they expect for the rest of ’16). So some analysts might take the OCF of 2b € (page 12), the investments of 0,3b € (page 23) and come up with a FCF of 1,7b € for the first half of 2016. From the presentation you have no real clue what will happen in H2 or the coming years (will FCF/OCF be positive, zero or negative) ? With an FCF of let’s say 1,5b € and a multiple of let’s say 5 (too low, too high?) you would also come to a value of around 20 €/share. Waiting for single digits means a margin of safety of 50 % which might be enough 🙂

    My problem: Too many unknown factors for the present (even with the Uniper-presentation and EON-Annual Reports) and the future (see Daves comment). Therefore no real chance for a non-pro investor like me to come up with an inner value. And therefore no investment planned for now. Good luck with this kind of huge cigar butt. Just have this image of a coal plant combined with a last puff in my head 🙂

    • I re-post the message sent out by Reuters and probably others:

      “There will be no advance price range released for Uniper shares, but an expected dividend yield of 5 percent suggests an opening price of 11 euros and a market capitalisation of about 4 billion, a person familiar with the spin-off said”.

      • thanks for the comment.

        SocGen is out with research saying: “Below €10 Uniper does look quite interesting”. Other opinions via Bloomberg:

        (Bloomberg) — With EON spin-off Uniper set to be included in the DAX for one day only as it commences trading on Sept. 12, Uniper may see selling from index funds tracking the German blue chip index.
        Uniper SE will be worth about EU4b, according to the average estimate of 12 investors and analysts polled by Bloomberg
        EON shareholders will receive 1 new Uniper share for every 10 EON shares
        Uniper prospectus here
        JEFFERIES
        Estimate Uniper to be worth ~EU11/share in a EU27/MWh German power price scenario
        Initial sell-off from index tracking funds could drive stock much lower than this
        Low investor confidence is understandable
        EON rated buy, PT EU9.50
        RBC
        A EU4bn valuation implies share price for Uniper of EU10.90 and a first year yield of 5%
        Expect first few days of trading in Uniper could be volatile, with knock on impacts into the EON share price
        EON share price anticipated to fall by just over EU1
        EXANE
        EON
        Better asset mix, worse balance sheet
        Dividend could disappoint, Exane est. EU0.22 in 2016 rising to EU0.25 by 2018 vs consensus at EU0.24 and EU0.29 respectively
        Assume that EON will resume scrip dividend offer
        Reiterate underperform, PT EU6.20 post Uniper Spin-off
        Uniper
        Remaining ~47% overhang from and the relationship with parent EON, post 2017, could weigh on valuation beyond fundamentals
        Uniper is a play on power market spreads and Russian FX, to lesser extent gas and power prices
        Attractive but risky dividend
        Forecast dividends per share to rise from EU0.55 in 2016 to EU0.60 in 2017
        Share price levels EU11 unattractive

        • Thank you, MMI.

          I am here just because of your stimulating post!

          One more question: wouldn’t tangible book value a better way to look at Uniper?

        • Clearly you could use tangible equity and compare it to P/Tangible equity of other Power companies. But both could be misleading if the tangible equity consists of outdated fossil fuel powerplants….

  • Hmm, Uniper ist fundamental so hässlich, dass es etwas von einem verzweifelten Lotterielos hat. Mir wäre es zu heiß, auch wenn ich zuweilen auf antizyklische Crashkandidaten stehe – ist das Risiko wirklich schon eingepreist?
    Spruch für den Hinterkopf: “Lotterielose sind an der Börse systematisch überbewertet.”

    • Lotterielos ist hier m.E. nicht die richtige Analogie, “Cigar Butt” trifft es hier eher. Zudem ist es ja die klassische Spin-off/Index Sondersituation. Man wird am Montag sehen, was der mArkt einpreist. Nach den Kommentaren werde ich auch eher auf einstellige Kurse warten.

      • Ein Cigar Butt hat meist Sicherheiten. Das Geschäftsmodell ist beispielsweise kaputt, aber es ist genug Substanz vorhanden, um diese vor dem Ende an die Aktionäre auszuschütten. Damit ist Zeit meist nicht der krass limitierende Faktor, eher das Risiko einer value trap.

        Ich sehe hier neben dem erschütterten Geschäftsmodell auch noch Schulden und eine bröcklige Substanz. Abschreibungsbedarf bei Kohlekraftwerken, Sanierungsbedarf oder Rückbaubedarf bei schwedischen AKWs etc. pp.
        Das ist keine Aktie, die du mit Ruhe zum Aussitzen für Monate oder länger halten kannst, weil jederzeit eine neue Bilanzbobe hochgehen kann – E.ON hat hier seinen toxischen Müll entladen. Darum sehe ich hier eher ein Lotterielos (Lieber HErr, lass die Bomben erst hochgehen, nachdem ich einen anderen Dummen gefunden habe) als einen Zigarrenstummel.

        Kann immer noch profitabel sein, durch Unterbewertung oder durch Glück, aber das Risiko ist hoch.
        Und ja, SpinOffs unter Druck geben Chancen auf Schnäppchenpreise, genauso wie Kapitalerhöhungen unter Druck. Aber eben keine Sicherheit.

        • Hi Roger,

          er will sie ja auch nicht länger halten, auch wenn man das bei Cigar Butts normalerweise machen würde 🙂

        • Bei einer Sondersituation wie bei Uniper gelten andere regeln. Selbstverständlich kann das im Einzelfall auch schief gehen. Über längere Zeit und viele verschiedene Sondersituationen sollte es aber eine positive erwartete Rendite geben. Deswegen sollte man das auch eher in kleinen “homöopatischen” Dosen machen.

        • Zugegeben, mit Index-Sondersituationen habe ich bislang noch nicht gespielt. Ich wünsche dir viel Erfolg und schaue interessiert von der Seitenlinie zu.

        • Das istz durchaus nachvollziehbar. Ich werde auch nur mit einer sehr kleinen Positionsgröße agieren, wenn überhaupt. WIe heisst es so schön “Ein bischen Spass muss sein”……

  • Hi mmi and rest,

    I like the rationale behind the idea as a special situation (the Uniper is so ugly that it will present opportunities).
    I do agree with you that next Monday is going to be a bloody one for Uniper and that should create opportunity.
    The way I see it, the stock (Uniper) is going to have a really nasty start and –in my opinion- it will trade in the 9-10 € range in the two first days of trading (as you correctly pointed out many of the funds will not be able to replicate the index and will become forced sellers).
    But, to the best of my knowledge, you will need a serious change in the fundamentals of the German generation business to reach the valuation levels that you are mentioning (17-20 €).

    Don’t get me wrong, It could happen, but not in the short term.
    Bear in mind that Uniper (or the depressed part of its valuation) relies on CCGT (gas) in Germany. And here comes the funny part. Gas (Zeebrudge) presumably will increase in value but since CCGT are not setting marginal prices in Germany (coal does it the most part), their margins would get eroded in the coming 12-24 months.
    The only way that CCGTs should benefit from current situation would come from a sharp increase in CO2 prices. At a level of around 40 €/tn of CO2 (currently at 6-7€/tn) a CCGT would become more competitive than a coal power plant in Germany and –therefore- a change in the merit order would occur.
    Only in that situation Uniper would experience a significant margin expansion that would allow for a rerate of its CCGT fleet (vs. RWE coal power plants).
    Will that happen? Yes, but not before a new European directive is transposed after Paris climate agreements and that’s going to take time (not before 2018 my best guess. More likely post 2020). And in the meantime more renewables coming on stream will cut the already depressed thermal utilization factor.

    Without this relevant change, and with the current state of regulation in Germany, (that’s to say, no capacity payments) a more reasonable valuation (fair value) for Uniper would be in the 12-14 range, which still is a good play.
    In other words, if you buy Uniper at 9-10 EUR still have a nice upside (agree) till you reach the 12-14 range for a business that has a long term structural flaw (I do agree with your special situation optic).

    On the contrary, if one choses (the new) E.On, you get a similar potential valuation (+40%) with higher leverage (but manageable) and all the upside from a potential positive outcome from nuclear (i.e. nuclear tax or even a bolder decision as revoking the closure of nuclear –could you visualize Merkel losing elections?-…).

    I don’t want to convince you on anything and I do respect your intellectual honesty but I think that E.On would be a good structural play (my 2 cents).

    Definitely I am going to visit you in Munich for the beers in 1 year time 🙂 unless you prefer Miami, pls let me know

    Take care,

    Dave

    • Thanks for the detailed input. I was only once in Miami, like 15 years ago…not sure if I manaage within the next 15 years.

    • I have found Dave’s post particularly interesting.
      Dave, could you please elaborate on how you get to a 12-14 euros valuation?

      I see that the message sent out via Reuters and probably others is the following

      “There will be no advance price range released for Uniper shares, but an expected dividend yield of 5 percent suggests an opening price of 11 euros and a market capitalisation of about 4 billion, a person familiar with the spin-off said”.

      • Hi Max, I tried to make it very simple. The 14 €/share is a 7xEV/EBITDA multiple in line with other European peers with a similar generation mix exposure (predominantly CCGT but also hydro). That would be a fair price in my opinion.

        Best,

  • You will buy hand-over-fist on Monday if you keep >20 EUR as Fair Value!
    Your 2bn EBITDA is too high.
    Look at page 14 of your presentation you see Global Commodities has the reversal of the Gazprob provision – almost 400m (http://www.eon.com/en/media/news/press-releases/2016/3/29/agreement-reached-with-gazprom-on-price-adjustments-to-long-term-gas-supply-contracts.html). Maybe this year they get 2bn but its is not sustainable. 1.7bn is a better run-rate.
    Also look at page 28 and you see the HUGE seasonality in Net Debt. You take the seasonal low point in inventories and Net Debt (the gas storage tanks are at the lowest point in June and get filled towards the winter). 4.5 EURbn is the better estimate. If you rerun your calcs you get to maybe 12 EUR for Uniper, so buy if it is single-digit on Monday. 🙂

  • Interesting! The Company has stated that it aims to join the MDAX – would that offset selling pressure? Have they announced the trading symbol/ticker for the Uniper spin?

  • Nice idea. Getting my popcorn ready 😉

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