£15bn UK Power Networks deal collapses

September 2022 | DEALFRONT | PRIVATE EQUITY & VENTURE CAPITAL

Financier Worldwide Magazine

September 2022 Issue

The proposed £15bn takeover of UK Power Networks, Britain’s largest electricity distribution company, by private equity giants KKR and Macquarie has collapsed.

UK Power Networks, which is owned by CK Infrastructure, Power Assets Holdings Ltd and CK Asset Holdings Ltd, controls and maintains electricity cables across London and other regions of southern England, serving about 8.3 million homes.

Talks over a potential deal for UK Power Networks began in earnest in March, according to a report in the Financial Times. The joint deal was supposedly also backed by other investors, including Canada’s Ontario Teachers’ Pension Plan, and was evidence of the private equity sector’s appetite to buy into UK infrastructure.

But the deal was abandoned shortly after the UK’s energy regulator Ofgem published its draft proposals for the sector. Discussions between Ofgem and UK electricity distribution network operators have been ongoing for some time regarding how much they will be permitted to charge customers for the five years starting in 2023, thus profitability in the sector could be constrained.

In the year to 31 March 2021, UK Power Networks delivered a pre-tax profit of £614.8m on revenues of £1.76bn, while paying out £237m in dividends as well as £76.9m in interest on shareholder loans.

Rising inflation is also believed to have contributed to the deal being abandoned. UK inflation is currently at its highest level since the early 1980s. Typically, privatised infrastructure assets in the UK benefit from rising inflation because their returns are set by the regulator and linked to either the CPI or RPI index. The benefits generally outweigh the costs associated with rising inflation, such as staff, maintenance and materials, as the businesses are not labour-intensive.

According to reports, CK Infrastructure Holdings, which bought UK Power Networks for £5.5bn in 2010, tried to increase the sale price just two days before an agreement was due to be signed in June. As a result, the consortium pulled out of the deal.

Interest in UK infrastructure assets has remained strong throughout the coronavirus (COVID-19) era. In 2021, National Grid agreed to buy PPL Corp’s UK electricity distribution business for £7.8bn, while Macquarie bought a majority stake in Southern Water, one of the largest water monopolies, for £1bn. Equally, a Macquarie-led consortium also acquired a 60 percent stake in National Grid’s UK gas transmission business.

Macquarie’s participation in the consortium had attracted some negative press following the company’s prior involvement with UK water utilities. Macquarie owned the Thames Water utility between 2006 and 2017 and was found to have dumped an illegal amount of untreated sewage into rivers. Though dumping sewage is legal in the UK, the volume of waste dumped by Thames Water broke environmental laws, resulting in the company incurring a £20m fine. In issuing the fine, judge Francis Sheridan said that the dumping came about because of “inadequate investment, diabolical maintenance, and poor management”.

Thames Water also amassed $2.4bn in debt during its ownership by Macquarie. An investigation found that the funds created by this debt went to Macquarie, contravening the conditions of operation the company agreed. Responding to this, a Macquarie spokesperson said: “The consequences of a company failing to meet its commitments to the regulator are serious. Over the life of our investment, we reduced the risks and the cost of financing, while maintaining a strong investment grade credit rating.”

These difficulties have not dissuaded Macquarie from making additional investments in the UK utilities space. In 2021, the firm purchased a majority stake in Southern Water, and earlier in 2022 it led a consortium to take a controlling stake in energy network company National Grid’s gas infrastructure business in a £5.8bn deal.

The collapse of the deal for UK Power Networks is the latest in a growing number of deals falling through because inflation and rising interest rates have made it more costly for firms to take on debt to fuel their purchases. In June, Walgreens Boots Alliance announced it had abandoned its plans to sell high street chemist Boots, blaming an “unexpected and dramatic change” in financial markets.

Richard Summerfield