EDF Group (“EDF”) and Centrica plc (“Centrica”) announced today that they have reached a definitive agreement whereby Centrica will invest in EDF’s nuclear business in the UK encompassing the current British Energy nuclear power station fleet and the development and construction of the next generation of nuclear power stations which will be central to securing the future electricity requirements of the UK.
Centrica will acquire a 20 per cent. interest in British Energy, the operator of eight existing nuclear power stations of which EDF acquired control in January 2009. EDF and Centrica will also form an 80/20 joint venture to pursue a planned programme to build four new nuclear power stations in the UK. Finally, the EDF Group will acquire Centrica’s 51 per cent. stake in Belgian generation and supply business SPE.
The key terms of the transaction are:
- Centrica will invest £2.3 billion (€2.5 billion) for a 20 per cent. stake in Lake Acquisitions, the vehicle through which EDF acquired British Energy. This investment represents a 6 per cent. discount as compared to the price of EDF’s offer for British Energy, consistent with Centrica’s position as a 20 per cent. partner
- Centrica will also assume 20 per cent. of the liability for contingent guarantees given by EDF in respect of the Contingent Value Rights (CVRs) issued by Lake Acquisitions as part of its acquisition consideration for British Energy
- EDF will operate British Energy, with Centrica having board representation and other appropriate governance rights
- EDF and Centrica will offtake the available power from the British Energy fleet on an 80/20 basis
- EDF will provide Centrica with an additional 18TWh of power at market prices over five years from 2011
- EDF and Centrica will form a separate 80/20 joint venture through which they will undertake the pre-development activities for a planned nuclear new build programme
- EDF and Centrica intend the new nuclear joint venture to construct, operate and decommission four European Pressurised Reactors (EPRs)
- EDF will acquire Centrica’s 51 per cent. stake in SPE for €1.3 billion (£1.2 billion)
- Centrica’s investment in British Energy and the acquisition of SPE by the EDF Group are inter-conditional and will be subject to relevant regulatory approvals in the UK and in Europe, and to approval by Centrica’s shareholders (for which an extraordinary general meeting is planned for June)
- With an effective asset swap of 20 per cent. of British Energy for 51 per cent. of SPE, the net cash consideration to be paid by Centrica to EDF for the transactions will be approximately £1.1 billion (€1.2 billion)
- Completion is expected to take place towards the end of the third quarter of 2009
Pierre Gadonneix, Chairman and Chief Executive of EDF, said:
“This transaction, part of the group's strategy of developing its positions in Europe, will enable leading British generator, Centrica, alongside EDF, to take part in the re-launch of nuclear energy in the United Kingdom through an industrial partnership in a form already pioneered by EDF in China and the US. This transaction will also help balance both the generation and supply businesses of EDF Energy. The asset swap in this deal will also see the EDF group reinforce its Benelux presence by becoming the second-largest generator in Belgium.”
Roger Carr, Chairman of Centrica, said:
“We are delighted to have successfully concluded an agreement with EDF as a world leader in nuclear power. The deal represents good value for Centrica shareholders, improves the strategic balance of our business and further underpins our green energy credentials. The attractive price secured for the sale of SPE will help preserve our balance sheet firepower as we focus the group on growth opportunities in the UK and North America.”
Strategic Rationale
Investment in Lake Acquisitions and Entry into Power Purchase Agreements
One of Centrica’s strategic priorities is to reduce the Group’s existing exposure to short-term movements in wholesale energy costs through increased integration. Centrica had capacity to meet approximately 58 per cent. of peak demand from its own power generation assets in 2008 and the remainder of the power must be bought in the wholesale market, exposing Centrica to movements in volatile wholesale power prices, which are in turn heavily influenced by wholesale gas prices. Centrica’s existing power generation portfolio is gas-fired which, along with Centrica’s customer gas demand, also exposes Centrica to volatile wholesale gas prices.
Acquiring power generation assets enables Centrica to secure the cost of more of the electricity it supplies to its customers and therefore reduces the overall exposure of the Centrica Group to movements in wholesale power prices. Power generation assets not fuelled by natural gas also reduce the Centrica Group’s exposure to wholesale gas prices.
British Energy is the leading supplier of nuclear energy in the UK and owns and operates eight nuclear reactors and one coal-fired power plant, which have capacities of 8.7 GW and 1.9 GW respectively. In the financial year ended 31 March 2008, British Energy generated 50.3 TWh of electricity from its nuclear plants and 8.1 TWh of electricity from its coal-fired plant. In the six months ended 28 September 2008, British Energy generated 19.2 TWh of electricity from its nuclear plants and 3.5 TWh of electricity from its coal-fired plant.
Centrica is entering into power purchase agreements which entitle Centrica to its pro-rata share of British Energy's output and, in addition, 18TWh of power from EDF (over five years from 2011) at market prices. The output of British Energy’s existing fleet will vary from year to year but Centrica’s offtake is expected to result in Centrica being able to supply approximately 85 per cent. of its customers’ peak electricity requirements from its own resources (27 per cent. higher than in 2008) and will give Centrica access to significant volumes of power without exposure to gas prices. The full effect of this decreased exposure to volatile power prices is expected to be realised by Centrica from 2012 when British Energy’s existing forward sales contracts, which fix the price at which British Energy sells power, substantially expire.
Participation in New Nuclear Build
In 2008, EDF announced its intention to build four European Pressurised Reactors (EPRs) in the UK with the aim of having the first reactor operational by the end of 2017. These new reactors are expected to form part of the UK’s future energy mix and will in part replace British Energy’s existing power stations (which are scheduled to be decommissioned between 2014 and 2035). Centrica has the right to participate in these projects which, when operational, will provide greater security for Centrica’s energy needs for several decades, reduce Centrica’s exposure to short-term wholesale commodity price fluctuations and provide another growth platform. Although the initial plan for the new nuclear build (NNB) joint venture between Centrica and EDF consists of four new EPRs, further reactors may be built as part of the joint venture in the future.
Centrica will have the right to take up to a 20 per cent. interest in the NNB joint venture. Centrica will be responsible for its pro rata share of costs after it elects to participate in an NNB project and, once the NNB Project is operational, will be entitled to its pro rata share of power offtake.
Sale of interest in SPE and continental European presence
In January 2009, Centrica acquired GDF’s interest in SPE for €585 million (including €70 million paid after completion in relation to the Pax Electrica II contract) in order to increase its interest from 25.5 per cent. to 51 per cent. Centrica has now agreed to sell this 51 per cent. interest in SPE for €1,325 million. In addition, deferred consideration of up to approximately €30 million will be payable based on the final terms and the timing of approval of the Pax Electrica II agreements. Such deferred consideration will only be payable if and to the extent that deferred consideration is also payable by Centrica under the terms of its purchase of GDF's interest in SPE.
Centrica believes that the price agreed with EDF for the sale of SPE in Belgium is an attractive valuation in the European marketplace. SPE comprises the majority of Centrica’s continental European assets and the remaining businesses are under strategic review. Centrica will continue to retain a presence in continental Europe, particularly given that the infrastructure for delivery of gas remains important to Centrica’s UK business and the benefits that come from maintaining knowledge of gas flows across Europe.
Financial Effects of the Transactions
Centrica will acquire a 20 per cent. interest in Lake Acquisitions in return for a cash payment of £2,289 million, representing a 6% discount to the price per share EDF paid to acquire British Energy. Centrica will receive consideration of €1,325 million (equivalent to approximately £1,180 million) for the SPE disposal.
Centrica will fund the net cash element of the consideration from existing cash resources, including the £2.2 billion rights issue proceeds raised in December 2008. Following the transactions, Centrica will maintain a strong balance sheet with the residual rights issue proceeds available for further value enhancing investment opportunities.
The financial impact on Centrica will depend on a number of variables, including power prices and the output from British Energy’s nuclear power stations. Based on current forward power prices, and Centrica’s estimates of output, synergies and other variables, Centrica estimates that:
- the transactions, financed by the SPE disposal and from existing cash resources, would be strongly accretive to earnings per share in 2010 and 2011, before taking into account the impact of fair value accounting adjustments which are described below1.
- if the dilutive effect of the rights issue is included, up to the amount of the net cash consideration, then the transactions would, on the basis of the same assumptions above, be neutral on earnings per share in 2010 and 2011 before taking into account the impact of fair value accounting adjustments1.
Fair Value Accounting¹
Centrica expects to account for its interest in Lake Acquisitions as an associate using the equity method of accounting. On acquisition, for the purposes of consolidated accounts, Centrica will be required to adjust the value of Lake Acquisitions’ assets and liabilities, which will include the acquired British Energy Group, to fair value. This is expected to result in an increase in the carrying values of the nuclear power stations which will be depreciated over the expected life of each power station. These additional depreciation charges will reduce the consolidated profit after tax of Lake Acquisitions and, therefore, reduce reported earnings per share in Centrica’s consolidated group accounts. Centrica estimates that the impact on net earnings, after tax, of these additional depreciation charges will be in the range of £80-100 million per annum. Fair value accounting will also require contracts entered into by British Energy to sell power forward to be marked-to-market, based on forward power prices at the date the transactions are completed. If forward power prices remain at their current level, the fair value of these contracts will have an adverse impact on Centrica’s 2009 earnings per share (the extent of which will depend on when the transaction completes) and a small positive impact on earnings per share in 2010 and 2011.
New Nuclear Build
NNB is a long-term investment which is expected to have relatively limited costs during the pre-development phase. The final investment decision date (“FIDD”) for the first NNB project is currently expected to take place in 2011, after which time Centrica will incur significant costs until the first EPR is commissioned which is targeted for 2017. Centrica has the right to participate up to 20 per cent. in each of EDF’s planned four NNB projects (subject to any election to take a lower interest in an NNB project) and the FIDDs for each project are expected to be 18 to 24 months apart.
Centrica’s Governance Rights
Centrica will be a 20 per cent. investor in the joint venture. Under the agreed structure, EDF will have day-to-day operational control and Centrica has a package of governance rights appropriate to an investment of this nature. These include Board representation on the Boards of both Lake Acquisitions and British Energy Group together with appropriate minority protections. Lake Acquisitions will adopt a 100 per cent. dividend policy, subject to certain restrictions.
Centrica will have similar governance rights in relation to the NNB joint venture and will have the right to appoint directors to the holding company for that joint venture.
Transaction Conditions
The transactions are conditional upon Centrica shareholder approval which is to be sought at a general meeting in June. A circular will be available to shareholders and a Notice of General Meeting will be sent to shareholders in due course.
The transactions are also conditional upon regulatory approval which is expected to be received during the third quarter of 2009.
Closing of the sale of SPE is conditional upon closing of the UK transactions and vice versa.
Advisers
Goldman Sachs International and Linklaters LLP are advising Centrica on the acquisition of the interest in British Energy and the sale of Centrica’s interest in SPE. Allen & Overy are also advising Centrica on the sale of Centrica’s interest in SPE. Credit Suisse are also advising Centrica on the acquisition of the interest in British Energy.
Merrill Lynch acted as financial adviser to EDF. Herbert Smith LLP acted as legal adviser to EDF in relation to the British Energy transaction and Sullivan & Cromwell LLP acted as legal adviser to EDF in relation to the SPE transaction.