Energy transition and the M&A outlook

October 2023  |  FEATURE | MERGERS & ACQUISITIONS

Financier Worldwide Magazine

October 2023 Issue

The global energy transition is vital for the future of our planet. The 1.5 degrees Celsius target of the Paris Agreement calls for countries to take concerted climate action to reduce greenhouse gas emissions. Success depends on transforming the energy sector from fossil-based to zero-carbon sources by the second half of this century.  The aim is to reduce energy-related CO2 emissions to mitigate climate change and limit global temperature to within 1.5C of pre-industrial levels.

Decarbonisation requires urgent action on a global scale. High fossil fuel prices, energy security concerns and the urgency of climate change have combined to underscore the pressing need to move faster toward a clean energy system. It will require a widespread shift to replace fossil-based systems of energy production and consumption – including oil, natural gas and coal – with renewable energy sources like wind and solar, as well as lithium-ion batteries.

In addition to aiding the journey toward 1.5C, investing in the energy transition also brings other socioeconomic and welfare benefits. It could add 85 million jobs worldwide in renewables and other related technologies between now and 2030. These job gains would vastly surpass the loss of 12 million jobs in fossil fuel industries. Overall, more countries would experience greater benefits on the energy transition path than under business as usual, according to the World Energy Transitions Outlook.

Ah, Paris

Whether the energy transition can materialise quickly enough to realise national and regional commitments and meet the goal set by the Paris Agreement hangs very much in the balance. According to the University of Washington, there is a 0.1 percent chance of keeping global warming below the 1.5C agreed in Paris.

Even with the coronavirus (COVID-19) pandemic temporarily curtailing economic activity, the world is nowhere near its emissions reduction target. The belief that many companies would build back greener has also proved false: carbon dioxide emissions have rapidly recovered.

Even the slightly less ambitious target of limiting the temperature rise to 2C above pre-industrial levels is unlikely. Average global temperatures could breach the 2C mark by 2050, the University of Washington notes. Achieving the 1.5C target would require a 45 percent cut in global greenhouse emissions by 2030, and net zero by 2050.

According to the International Renewable Energy Agency’s ‘World Energy Transitions Outlook 2022’, investment of $5.7 trillion per year until 2030 is needed, including the imperative to redirect $700bn annually away from fossil fuels to avoid stranded assets. The energy transition is likely to see trillions poured into the energy sector, creating significant investment opportunities. Over 170 countries have renewables targets, and many have included them in their ‘nationally determined contributions’.

There is appetite for a new energy system, one based on renewable technologies, complemented by green hydrogen and modern bioenergy. New capacity addition patterns show that renewables routinely outpace fossil fuels and nuclear combined.

Greener deals

The need to tackle climate change risks and build green infrastructure is generating greater transaction volumes in the space. Despite a declining M&A market, in 2022 energy transition was a deal driver. Renewable energies and hydrogen were the basis for transactions involving both majority and minority stakes.

With all of the changes underway in the energy space, new trends are permeating the sector and having a knock-on effect on M&A transactions. “In the renewable space, there have been a number of transactions where companies or large private equity (PE) firms are purchasing portfolios of wind and solar assets from traditional utilities such as NextEra and Duke Energy,” says Mr Jeffrey S. Merrifield, a partner at Pillsbury Winthrop Shaw Pittman LLP.

In 2022, the US saw several notable deals. BP North America agreed to purchase EDF Energy Services in order to expand its presence in commercial & industrial (C&I) retail power and gas. TotalEnergies announced a definitive agreement to acquire SunPower’s C&I division for $250m. Attentive Energy won a maritime lease to develop more than 3GW of offshore wind projects in the New York Bight and, in conjunction, TotalEnergies acquired EnBW’s stake in the Attentive Energy joint venture. In addition, Equinor acquired Charlottesville-based East Point Energy, which owned a 4.1GW pipeline of early to mid stage battery storage projects.

Dealmaking continued into the current year. According to GlobalData, renewable energy accounted for 309 power deals announced in Q1 2023, worth a total value of $22.5bn. Renewable energy-related deals accounted for a 72 percent share of the global power industry’s M&A activity in the quarter, up 14 percent over the previous quarter. In Australia, the $3.4bn acquisition of CuString by the Queensland government was the industry’s largest disclosed deal, aimed at transmitting renewable energy from the state’s north-west to the national electricity market.

Drivers and incentives

Deal flow in the renewables space is expected to remain strong. In the US, for example, developers are looking to monetise opportunities and take advantage of the Inflation Reduction Act (IRA) of 2022, which granted $370bn in tax credits for renewable energy projects. Emerging technologies and subsectors within renewables are likely to attract interest as acquirers seek to increase their rate of return.

“We have seen a huge growth in interest in energy transition technologies as a result of a variety of bipartisan congressional and executive branch initiatives over the last six years – most recently the Build Back Better Act and the IRA that were enacted into law,” says Mr Merrifield “In the case of the IRA, this legislation provided a series of production and investment tax credits for clean technologies including renewables, nuclear and new hydrogen generation.

“All of these are fostering a tremendous amount of investment, both on the demand side with utilities and industrial users seeking to utilise these types of technologies, as well as on the supply side, including emerging technology developers deploying advanced nuclear reactors, hydrogen technologies and other innovative green energy technologies,” he adds.

“Key government drivers include the recent appropriations bills passed in Congress that have included investments at the Department of Energy, the Nuclear Regulatory Commission, the Federal Energy Regulatory Commission and other departments and agencies that will enable the development and deployment of clean energy technologies that can help our country meet our clean carbon needs going forward,” notes Mr Merrifield. “Additionally, these technologies also provide a significant opportunity for exports. Given the events in the Ukraine, Eastern Europe is a major potential export market, particularly for advanced nuclear deployment.”

Going nuclear

There is a rising imperative for nuclear power to support the shift to renewables. According to Mr Merrifield, chief operating officers at utilities are trying to address the clean energy demand expectations they face from their industrial and commercial users.  As utilities attempt to decarbonise their energy portfolios, they are looking at how to ensure they can provide their clients with sufficient reliability and redundancy.

“Many utilities are trying to maximise the amount of wind, solar and batteries that they are deploying, but a significant challenge they face is that these assets can only get them to about 80 percent of the total generation they need,” explains Mr Merrifield. “They need reliable, dispatchable energy sources that can meet the remaining 20 percent of their generation requirements in order to make sure their systems are appropriately balanced and stable. For that reason, many of them are turning to nuclear generation assets. As a result, there has been enhanced interest in not only existing nuclear power plants, but many utilities, including some such as Sask Power in Canada, are evaluating the potential to deploy advanced nuclear generation as part of their future generation portfolio.”

Consequently, we should expect to see opportunities for both renewable and nuclear energy resources in the US market. Similar patters are emerging in Canada and parts of Europe, where the scope for adding nuclear generation to portfolios is being assessed.

“We are seeing increased interest in the potential from PE firms and component suppliers that are acquiring shares of companies that produce the goods and equipment needed for the energy transition,” says Mr Merrifield. “One recent example was SK, a South Korean-based conglomerate, purchasing a chunk of Terrapower, an advanced nuclear technology company founded by Bill Gates. Another was Nucor, America’s largest steel producer, purchasing a share of NuScale, an advanced reactor developer based in Oregon.

“These transactions took place because these companies were interested in enabling those technologies, engaging with companies that could help them decarbonise and making sure that they had a diverse portfolio of partners in the US market,” he continues. “That is an example of some of the interest that we are seeing in fusion, in fission and other advanced energy technologies, including hydrogen and renewables.”

In another trend, there has been a series of nuclear and fusion transactions involving companies that have not traditionally been involved with these technologies. As Mr Merrifield points out, a variety of suppliers have been evaluating advanced nuclear, fusion and hydrogen technologies. “They are now dipping their toes in these waters, recognising that they want to be part of this quickly emerging trend,” he says. “This is driven by a couple of factors. First, there are a number of supplier companies, including many in Asia, that want to play a part in the US market. Second, private equity firms are among the major players that have identified a real market in the deployment of these technologies and want to invest now and take advantage of that investment wave.”

Regional pockets of interest are springing up with an eye on nuclear assets. “In Ontario, which is almost already fully decarbonised, it is clear that the province is committed to building several new advanced nuclear reactors that are designed by General Electric/Hitachi (GEH) to meet future demand,” notes Mr Merrifield. “Similarly, the Tennessee Valley Authority is committing to a series of GEH advanced reactors at a site called Clinch River outside of Oak Ridge, Tennessee. We are likely to see a series of other companies, including utilities in both Canada and the US, that will follow the lead of those two companies in the coming years.

“Overall, we are seeing the beginning of what could be a potential wave of interest in advanced nuclear reactors,” he continues. “Poland, Romania, Ukraine and the UK have all made commitments to deploying these technologies, including those developed by NuScale, GE/Hitachi and Holtec. Certainly, a significant impetus for these decisions is directly related to the Russian invasion of Ukraine and a valid concern about maintaining energy reliability and independence in light of the cutoff of Russian natural gas.”

Reaction

The energy marketplace is likely to become increasingly competitive. As is does, it will offer a different risk and return profile than prior transactions in the energy space. This, in turn, will require acquirers to adopt different approaches to value creation, across various forms of energy.

Companies are responding to the pace of change shaping the energy sector. Repositioning and restructuring will be needed for those hoping to emerge successfully from the energy transition. M&A, with the right deal strategy and execution, is set to play a crucial role.

© Financier Worldwide

BY

Richard Summerfield