Coal fired power generation in Germany: Realpolitik?

The improvements in the draft for coal legislation in Germany could imply a better than expected outcome for the sector. Montpellier Analysis estimates no early closures on the back of the current proposals. The relief is greater for E.ON than for RWE.

The German Economy Minister has presented amended proposals for new coal legislation. By and large, the new proposal is an improvement for the sector, chiefly Vattenfall and RWE: The amount of CO2 reduction from coal has been brought down to 16mt, from 22mt. Further, coal plant would have to pay emission levies after 37 years of operation, rather than 20 years in the previous draft. The levy itself would now be indexed to power prices, as opposed to being decreed according to the old proposal.

The final shape of legislation is far from clear. Chancellor Merkel needs to be seen to take some action, in light of her comments at the Paris climate change meeting. But, large parts of the CDU are against the coal bill sponsored by the junior coalition partner. Emotions on coal, for and against run high, and the mining lobby is strong, it must not be forgotten.

A shut down would have implied the end of operation of all coal plant of RWE and E.ON that is older than 37 years. RWE’s share of coal plant with current operating age of 37 years or more is 7.2GW, E.ON’s 2.8GW.

A levy according to the previous proposal would equate to a shut down. Montpellier Analysis estimates a marginal cost of old coal plant in the region of Eur 28/MWh. A levy of Eur 18-20 Per ton of CO2 as it has been in the early discussions, would bring that to Eur 46-48/MWh, compared to the current power price of Eur 32/MWh.

In the theoretical case of such a shut down, and not considering any nuclear shut down, the big winner would have been gas. There would have been an immediate shift down the merit order, even if some of the demand would have been filled by more renewables.

Adding the nuclear closure would have left the system in perilous undersupply by 2020 already, according to our models, even when building in full achievement of the country’s renewables build and energy efficiency targets. That thought may contribute to the final shape of legislation.

About 5.5GW of plant by E.ON, RWE and Vattenfall would no longer be covered by the emission levy under the new draft.

According to our calculation, the new proposal leaves enough room before the emissions levy kicks in to let coal plant run at load factors of 65-70%. That is a normal utilisation rate for hard coal or lignite plant, but far above the actual runs rates of plant in Germany currently.

The direct implication is that there would be no impact on power prices from the legislation in the medium term.

There is risk of a gradual reduction of the emissions ceiling, in our view.

The chance that upward movement in CO2 prices on the back of political measures will accelerate the process can also not be fully ruled out.
On balance, the near term impact is bearish for gas plant, but there is a marginal improvement to prospects for gas plant profitability over the longer term.

Whilst the immediate relief reaction on RWE shares is intuitive, fundamentally it may be less than commonly thought. RWE won’t de facto lose 16% of its fleet. Still, the underlying problem of low utilisation and weak profitability of conventional generation remains. We gage the impact of all of the above is worse for RWE than for E.ON. E.ON benefits from a more competitive hard coal exposure and stacks up relatively better.

French nuclear sector – Big or little French solution?

A “big French solution”, ie a purchase of the bulk of Areva’s nuclear reactor and engineering business by EDF, is currently favoured by the State. But a “little French solution”, a purchase of the maintenance business by Engie, would be a more favourable outcome for all parties involved, investors included.

The French State is reported to be pushing for EDF (EDF FP) to acquire Areva’s (AREVA FP) nuclear reactor and engineering businesses. The broad outline has been known for a while. Now, EDF is said to be finalizing an offer. Press reports suggest Area is looking for Eur 1bn for just the engineering business. A Eur 300m, EDF’s valuation is considerably lower. That compares to market valuations floating between in a Eur 1.5-3bn range for the reactor business. We estimate an implied EV/Sales range of 1.1-2.1x on that basis. But, on those revenues come the risks and liabilities which are highly uncertain.

Engie (GSZ FP) might emerge as a strong competitive bidder. The CFO recently confirmed potential interest. Engie seems to be interested in the reactor maintenance business, which it could be valuing at around Eur 3bn. That would imply just short of 2x sales, which is reasonable for a high margin and stable cash flow business.

In our view, a deal with Engie would be in the interest of all parties involved. Even the state could find reassurance, given its holding in Engie. It would be much better received by markets, too.

EDF would benefit from vertical integration, a potentially more streamlined and efficient new build operation, and all in all lower future costs of its nuclear fleet. Conversely, the reactor build business its outside of its core business and expertise. Lastly, a deal would not be helpful for EDF’s cash flow as it is already capex strained.

An EDF deal might not provide enough funding to Areva. The government might look for a more complex solution with Chinese investors.

Engie has existing expertise in large utility engineering through Tractebel and its energy engineering and services business. The nuclear maintenance business could tie in well with that. There would be much less of an issue with providing the service to competitors than in the case of EDF. Engie’s business does that already. The company would also derive synergies with its own large fleet of operational nuclear reactors.

Investors are prepared for M&A from Engie, following recent management comments. We gage a deal would, contrary to EDF, be perceived as coming from sound management rationale, and given all indications, free from political pressures.

Vestas is flying high again

Vestas is coming out of its turnaround and now fully benefiting from favourable macro factors with the added benefit of fx, regulation, good demand, and continued operational improvement. The positive winds are likely to persist for the remainder of this year and we see out-performance vs the sector peers ahead. Investors may take some heart in the name again.

Vestas’s (VWS DC) Q1 results beat was stunning. Net income was 88% above consensus of Eur 29.7m. Order intake of 1.78GW was very strong and management’s hints towards a good pipeline imply expectations for another good quarter. Management has upgraded guidance to Eur 7.5bn well covered by Eur 15bn of multi-year backlog, and above consensus of Eur 7.4bn. The upgraded guidance for EBITDA margins of at least 8.5% is marginally short of consensus of 8.6%. In line execution should deliver at Ebit at least at the level of current consensus.

There is positive impact from some tailwinds that could reverse: Euro weakness first and foremost helps US sales materially, but also other exports. Further, it improves achieved ASP’s. We do, however, acknowledge that there is likely underlying ASP recovery. Note that the favourable fx effect is not unique to Vestas, we have seen it coming through the entire sector and beyond. It is chiefly US exposed businesses with strong underlying product that are benefiting.

Any impact from weak oil prices is also yet to come through.

The company is still steps behind strong competitors in offshore, the sector’s big near growth segment.

Eventually, we see wind turbine manufacturing as a mid to high single-digit margin business. Thus, in Montpellier Analysis’s view, scope for margin expansion from here is very limited. The services business, a higher and stable margin and cash flow business is a potential source for further margin expansion.

Engie (formerly GDF Suez) – in transition

GDF Suez’s Q1 results were uninspiring and the current environment demands patience of investors. The re-branding is unlikely to help sentiment. The company’s assets and business mix is positioned second to none with regards to long term energy transition. It will, however, take some potential catalysts to return the shares to out-performance: Restart of the Belgian nuclear reactors, M&A, commodities.

GDF Suez Q1 results were below expectations, chiefly due to commodities. Revenues were in line at Eur 22.1bn, Ebitda was Eur 3.6bn, short of expectations of Eur 3.7bn. Current operating income was Eur 2.39bn, below consensus of Eur 2.46bn. Management has reiterated its guidance for 2015, for Ebitda of Eur 11-11.7bn and net recurring income of Eur 3-3.3bn.

Sentiment on the numbers is weak. We sense that the realization of the commodities impact, particularly on LNG, along with higher risk attribution, is the main issues. LNG margins have reduced as pricing has reflected the LNG market weakness. LNG is going through a difficult period. We estimate that might carry well into 2016.

There is residual risk with regards to further delay to the nuclear restarts in Belgium, as well as with regards to Brazilian hydro conditions.

The re-branding exercise has created concern over costs while providing little help with transparency. The new structure will not foster a clearer view on the key earnings drivers.  As far as brand equity creation goes – one of the big new requirements for energy transition as I have often pointed out: We do not see any uplift from the name change, rather a challenge. The company already has strong reputational equity; it now needs to ensure that gets associated with the name change.

It is difficult to see any uptick in earnings momentum. Equally, these results are unlikely to have helped sentiment. There could be positive impact on sentiment from M&A. Do not expect a major transaction, but management is clearly in an acquisitions mode, according to my gauge.

The French state now has the ability to sell down its 30% stake as it the Florange law allows it to double voting rights. The declared policy is a disposal of energy assets for deficit reduction. The overhang has now crystallised as real.

Comps will get easier as the year progresses. Q1 was the worst y/y comp as far as commodities are concerned. Also LNG arbitrage was very favourable in Q1 14. Provided a restart of Doel 3 and Tihange  2 broadly as guided, y/y momentum on H2 will also be helped.

We note management’s comments that it could see a scenario where its conventional power generation assets may be pooled with those of other companies. We see such structures as a realistic possibility in the future energy world as it radically restructures. We will keep a watchful eye. Conventional power generation could change beyond recognition. This part of the business holds potential for positive catalysts.

Despite patchy performance, Engie stacks up well within the peer group. The shares have under-performed the European utilities sector by 8% ytd. Engie is the only name with positive earnings growth within the close peer group. Its conventional generation fleet is entirely free cash flow positive. It is trading on an 8% premium to the European utilities sector, with a P/E of 16x 2015E, and an EV/Ebitda of 6.8x 2015E. The yield of 5.5% is at the high end of the sector and well supported. At this stage, however, we cannot see a return to a greater premium rating and therefore we don’t see a return to relative out-performance. But long term, the company is positioned as a leader in the sector.

Petrofac (PFC LN) and that old risk: execution

Petrofac’s profit warning highlights execution risk. While the company’s backlog covers revenue expectations well, profitability is far more uncertain. As a name with an increased risk perception, the ytd relative outperformance vs the sector might reverse.

Petrofac has delivered its second profits warning on the Laggan-Tormore project in the North Sea on bad weather and cost overruns. The company will recognize a GBP 195m loss on the project. This follows the downgrade to guidance (USD 500m down to USD 460m) in February.

The company has a strong backlog of USD 21bn including 2015 order intake. The 2015 share covers 80% of consensus revenues. Even though that will provide some hedge, the oil price impact is clearly visible. And it has a good share of risky projects. Revenues might come through, but profitability is uncertain.

Even though the shares have underperformed the sector by 9% since the news, PFC is still outperforming the sector by 22% ytd. There is chance of reversal of performance, in fact performance has already reversed for the start of this quarter. A name that is not spotless and delivering very strong execution is likely to underperform a sector that where sentiment is already weak due to commodities. Earnings momentum is solidly negative. The attractive valuation of the shares will now be seen as a discount reflecting execution risk.

On that account, other names look less risky, namely Technip (TEC FP). Technip trades on similar multiples: Technip’s 2015e P/E is 11.1x vs 10.4x for Petrofac, the yield is 3.8% vs that of Petrofac 4.6%, but Technip’s cash dividend cover is stronger.

Slippery oil and clean communication

Clean energy needs to find strong messages of perspectives and viability in the weak commodity price environment. The arguments exist in the contribution to lower energy prices as well as prolonged resource life. Communication also needs to go further and proactively address business viability long term under prolonged oil and gas price weakness. Those sectors that can achieve that will be at a distinct advantage in the view of investors and policy makers alike. I see good chances for that in solar, storage, smart energy and industrial solutions.

Clean energy performance has been historically and remains still correlated to the oil price. There are perception and direct earnings reasons.

The clean energy sector faces a new struggle with low oil and gas prices.

The idea of ever rising conventional energy prices needs a re-think with big implications for the clean energy sector. Oil and gas prices are cyclical and have and will experience material down turns. Clean energy needs to re-evaluate its communication on ever increasing fossil fuel prices and in many a case business models predicated on an uninterrupted rise of oil and gas prices. It needs to consider its argument and commercial viability for prolonged fossil fuel commodity weakness.

The oil vs clean correlation is cyclical and self-perpetuating. Increasing supply of alternative energy along with energy conservation (in our universe part of alternative energy) has a negative impact on competing fossil fuel demand and prices. Demand reduction and increased supply (through renewables) lowers prices and at the same time increases supply through prolongation of conventional resource lives.  In here, I see an argument for clean energy. It is contributing to reduction in costs of energy and energy security indirectly.

The grid parity goal post has moved materially.  I estimate a new entrant cost in the order of Eur 96/MWh for Europe and USD 130, both of which provides retail grid parity. That will remain the case even when commodity induced price reductions come through. The difficulty lies in commercial segments where PPA (power purchase agreement) has slowed as a result of weaker commodities, ie grid parity. The sector needs to strongly communicate in all directions how it is addressing that through cost reductions. The scale and high tech based sectors are at an advantage, namely solar.

The peak oil argument has been largely put to a side some time ago. Peak oil is further away than ever, at least on markets’ minds. The urgency to build up alternatives has decreased materially.

A similar thinking to a point is on the mind of many policy makers. The urgency to build up alternatives has decreased materially, even though long term energy security considerations are still a concern.

It is demand weakness amongst others that has induced the latest commodity weakness. With priority off-take rights, the market has further shifted towards a higher weight of renewable energy. See above, the circular correlation.

The sector has another argument to rely on, climate change. With that, it heavily depends on politics and regulation. Public powers that are supportive of the sector for whatever reason are considering the issue. It may help to hold incentives up for longer. But without a doubt, the base will get thinner, because many a politician will look at the other side of the equation.

For it to be viable, the clean energy sector needs to find a sustainable (in a business sense) way to wean itself off regulation and incentives.

It needs to find new avenues that are more independent of the oil argument. It will never fully rid itself of the oil and gas connection, its ultimate competitor, though.

The sector is well advised to use the current commodities trough to become more competitive and accelerate the transition to main stream in order to emerge as a true alternative.

The clean energy sector can dissociate itself from the oil connection, through differing demand dynamics. This has been the case in the past: See the various speculative solar bubbles, wind build demand in function of incentive expiries, idem biomass, macro correlations for energy efficiency, lighting, the industrial argument and the like.

The changing nature of electricity supply markets, migration towards service and equipment package based businesses with strong consumer relation and brand equity components is a change for clean tech to achieve viability.

There are viable business models across the sector that can persist in a long term very weak oil environment. Storage and optimisation is one. Smart energy is another. Integration of clean features into conventional energy is also very viable. Solar will become viable even at lower oil prices, it is well equipped to address the cost challenge through technology advance still.

Yield co’s have a great advantage: yield differentiation and mature projects with stable returns and low commodities correlation. That argument has led them to hold up well. Other project developers might consider that and shed more light on the mature parts of their portfolios.

Gas is the truly important commodity for clean tech. It impacts coal and is the direct competing alternative in many instances – notwithstanding, it being a necessary complement at the same time. Clean tech has an argument that low gas prices foster clean energy through the complementarity.

I see potential for outperformance by those parts of the sector that adopt a communications strategy that focuses on commercial and consumer merits as well as the direct and indirect contributions to the energy system. Investors and policy makers will find those as credible and viable sectors and focus their support there.

Solar manufacturers: Who can benefit from demand growth?

As the solar sector continues on the path of volume recovery, we look at the module manufacturers in an environment of increased differentiation. Canadian Solar stands out as the name that may have the most to gain on fundamentals, while JA Solar is the cheapest on multiples among the large names. Small module manufacturers need to offer very distinct differentiation on niche products.

Montpellier Analysis forecasts global solar demand to grow by 12% y/y to 52GW. The US, China and Japan are the key growth markets. Within Europe, the UK will likely be the strongest market. The supply demand balance in the market is favourable for manufacturers. We see increased differentiation and consider the module manufacturers below.

Solarworld (SWV GR) is reaping the benefit of having secured strategic investors, but is not likely to outperform its peers. Management has issued new guidance, for a return to positive Ebit and shipments in excess of 1GW. That implies 17% volume growth y/y. The company’s US exposure is now coming to the rescue. That is in our view the underlying driver of the volume guidance. But, we still expect it to lose market share globally. Its manufacturing costs are still not competitive, and we gage the acquisition of the Bosch facilities gives it scale but aggravates the cost issue. The company’s operating margin of 2.4% is significantly below the sector average. Leverage is now at the low end of the sector since the financial restructuring. That and the support from its strategic investors will allow it to go through with its planned capacity expansion to 1.6GW and thus keep up with the market. But we see risk for disappointment. Revenue guidance implies 23% y/y growth at least, thus does not account for pricing pressure. The company continues to insist on a high end strategy, but we doubt that will shelter it from pricing pressure.

Jinko Solar (JKS) is coming through as one of the stronger names. It has been one of the beneficiaries of the 2014 recovery and reported FY 2014 earnings above expectations. Guidance was also better than expected. Management is looking for 40% y/y volume growth and c 20% external volume growth, thus the company should be gaining market share. Gross margins are still expanding at a very high level, despite pricing pressure (22% likely 2015 gross margin, ie 200bps improvements). That and additional operating margin should lead to earnings growth well above the sector.

Canadian Solar’s (CSIQ) strong integrated business model should continue to support the share price. 2014 earnings were below consensus, but Q1 guidance was above. Y/Y shipment growth guidance is for 21% at the midpoint, before own project shipments. Including those, brings volume growth up to 50% at the high end. The balance sheet is strong which allows for expansion. The announced plans for a yieldco are a positive for financial flexibility.

JA Solar (JASO) is the cheapest name on valuation, it trades on an EV/Ebitda of 6.0x 2015E and P/E of 6.5x 2015E. The volume outlook is in line with the market, at 22% y/y shipment growth. Earnings growth of 27% y/y is at the low end. But there may be room for multiple expansion and a catch up on relative performance vs the sector peers.

Trina Solar (TSL) should gain some market share, but at a lower rate than the other major competitors, it already being a high market share manufacturer. We expect 25% y/y volume growth. The shares trade on a 30% P/E 2016E premium to the rest of the sector which we see as reflective of its leading market position. But we see limited scope for relative multiple expansion vs the peer group.

Yingli (YGE) is still very leveraged. That puts it at a disadvantage when it comes to the quest for market share. That is visible through the guidance of 3.4-3.6GW including to own projects: It implies 6.4% y/y volume growth. Under the central assumption of ongoing pricing pressure, revenue growth will be close to nil. That makes it very hard to see any material improvement in earnings. The problem is circular. The company would require scale and expansion in order to turn to profit. But, it does not have the financial flexibility for the required capex.

There should be room for niche producers to make inroads, off the large volume path. But they will have to bring a much differentiated proposition to the market, be it on technology, efficiency, system or product integration etc.

Green and grey energy convergence

RWE’s acquisition of RUMM is small but makes strategic sense and reinforces credibility that RWE is focused on its innovative energy strategy as a path to a long term sustainable business. We see more large to small transaction activity in a context of energy and services convergence, and sustained multiples amongst opportunities aplenty.

RWE (RWE GR) is acquiring Remote Utility Monitoring & Management (RUMM) in a deal that values RUMM c GBP 10m. RUMM provides cloud based software and remote demand management for large industrial businesses.

The deal is small in scale in the greater scheme of RWE, but it is important in that it continues the path of its recent transaction activity and strategic direction. We have seen a step up in the company’s efforts to increase presence in new energy and build up a comprehensive package offering of renewables, energy efficiency, smart energy and services. Recent deals as well as organic activity have served to step up equipment exposure and brand equity.

RUMM gives access to industrial energy efficiency and smart energy. We see this as a crucial sector for margin protection and expansion for RWE. That is a difference with regards to the company’s recent activity. The required offering and market strategy is similar to the low volume segments, but still requires differentiation at various levels. RWE’s presence is still limited and it makes sense that it expands through acquisitions. We have seen acquisitive activity by competitors in the sector.

We think it makes sense for RWE to follow a strategy of small deals in order to gain expertise in the new energy business. The niches that the company needs to get into are very new. Almost by definition, they are occupied or created by new ventures and small companies. Those are the ones that can offer differentiated kit or services (or both), which is what RWE needs. RWE can take RUMM to scale in a win win proposition.

We can see sustained M&A activity of this type, large to small, established to new ventures. There should be exit opportunities for early venture investors on sustained multiples. We see activity by utilities, but also new entrants to downstream energy from various sectors as energy, technology, consumer and financial services in the sector, as well as renewables and other services converge.

Nuclear champ(explos)ion?

Risk outweighs benefit from a potential minority investment by EDF in Areva.

French press reports suggests that EDF is considering a bid for a stake in Areva. EDF management had previously ruled out any minority investment in Areva. The change of mind could have various origins, but we gather the market will take a specific interpretation, the political one, as the most probable.

EDF’s investment would be concentrated onto the former Framatome activities, ie nuclear build, engineering and services. Below, we consider the potential positives and negatives.

Tighter integration of the nuclear engineering capacity could yield a benefit to EDF’s nuclear new build. Integrated execution could lead to improved project management, greater timeliness, in tandem with it materially lower financing cost. Ultimately, EDF should be able to build at lower cost per MWh and ease the case for new build. It will not likely reap any enhanced benefit of standardization, because according to our calculation its capex strain is too great to deliver a larger new build fleet within a shorter than currently envisaged time frame. And, permitting and external processes do not correspond fully to the required background environment for that either. Lastly, its new build is (other than the UK fleet) geographically diverse.

It is uncertain whether EDF would have real operational influence in such a way that would benefit its own new build programme. Reportedly, EDF has made an investment conditional upon majority control of the above mentioned activities. It could thus be a manager, but would not be a capital allocator to these activities from the wider Areva group. It may have to rely on help from political powers’ interest in the business as the core of the French nuclear industry.

Assuming EDF achieves operational control, investors should consider EDF’s expertise. The company’s core skills are in power plant management and not necessarily in the OEM, construction and services parts of the business. Those demand very different expertise and management.

EDF would acquire exposure to a business with great litigation risk and liabilities. Amongst others, investors should have questions on their mind regarding liabilities relating to existing projects but also future litigation risk management. They might remain with Areva, but ultimate exposure might still be there.

EDF’s ability to source a global nuclear new build order book and execute on it for the business also merits a thought. The French government’s commitment to reduce nuclear from 75% to 50% of electricity production deprives it of domestic growth. There might be growth potential for the utility business as future operator or stakeholder of plant to be built in new geographic markets. But, the company would be taking on a big task.

It is worth noting, that China, the most important global market for nuclear new build, is increasingly developing its own technology. Western suppliers’ share is continuously falling.

EDF might be in control of operations, but it will not be in control of capital allocation to the business, other than from its own sources. And those are constrained by the heavy capex burden over the next years.

There might be some relief on return on capital. If EDF could classify the investment as dedicated asset offsetting against nuclear liabilities, there would be a lower ROCE requirement. The trouble is the risky nature of the business to which is not akin to such a view.

Any transaction would highlight the prevalence of industrial policy over corporate management. The state intervention overhang weighs heavily and repeated reminders are unhelpful for market perception with regards to overhang.

The reality is not far from perception. In the event of a transaction, there would be many points where various interests cross and many issues of conflict. Political intensity of the company’s profile would certainly increase.

Gulf investment in RWE?

A minority investment in RWE by sovereign Gulf investors would make sense for both sides. RWE needs funding for balance sheet repair and growth and is looking for new growth regions. The Gulf region lends itself to that, and a stable shareholder and cooperation partner could facilitate the path. RWE’s multiples are low which could be attractive to a long term investor into an asset heavy business. I have been expecting M&A in the sector for a while, and the potential for a deal confirms my view that M&A prospects can underpin valuations.

RWE has confirmed that it is in talks with Arab investors on cooperation. The company has said it is looking at several potential routes of cooperation and would not rule out anything. Gulf investors could take a minority stake, possibly 10%. Dubai’s Sheik Mansur bin Zayed Al Nahyan is being mentioned. A stake at those levels would amount to c. Eur 1.5bn at RWE’s current market capitalisation.

A full take-over is very unlikely. German municipalities hold about 25% of RWE. That has been a hard stop of any potential deal in the past and will likely remain so.

The interest by RWE in cooperation with Gulf investors, including a potential minority investment could be on several levels. Firstly, to acquire a stable shareholder that would not likely take material influence on operational management decisions. There are other big German companies with minority investors from the Gulf region, notably Siemens, Deutsche Bank and. RWE could look for a similar deal.

The company needs funding for investment in renewables and down stream electricity, its new focus areas. Its capex is now close to maintenance levels, after the most recent reduction that came after company reiterated its focus on cash preservation during its 2014 earnings call. The company is barely cash generative in its generation business, which accounts for approximately 36% of total Ebitda.

Beyond that, there could be potential growth avenues for RWE in the Gulf. Energy demand growth is amongst the highest globally, and there is keen interest in renewables (aside from new nuclear, but I think it is unlikely that RWE will get involved there). RWE has mentioned it is looking for new geographic growth regions. Masdar, one of the largest global clean energy developers is owned by Dubai.

RWE has announced it is taking a minority stake in solar manufacturer and developer Conergy recently, in my view a transaction that makes a lot of strategic sense for RWE (see previous post – “RWE/Conergy – Let the sunshine in”). It might need funding for growth coming out of that deal. Gulf investors might find that an attractive proposition.

RWE is cheap on headline multiples, at a P/E of 11.4x 2015E, vs a sector average of 16x, EV/Ebitda of 6.6x and a yield of 3.8%. That is another attraction for a potential investor, despite the weak earnings outlook. Sovereign investors tend to look for long term underlying assets. Even though those have below average cash generation prospects, there still of high asset quality which makes them appealing for such a deal.

While I only see short term out-performance for RWE from this, there is some positive from the funding impact and potential signal towards valuation underpinning. I have been expect sustained M&A activity in the energy sector going forward. This confirms my view.