20
Benchmarking European power and utility asset impairments Lessons from 2012
Benchmarking European power and utility asset impairmentsLessons from 2012
Contents
1. Executive summary 03
042. Impairment numbers higher
again in 2012
063. The story behind the numbers
104. Have we reached the bottom?
185. Conclusion: be proactive,
communicate early — and consider disclosing more numbers
This publication aims to help power and utility companies prepare for the 2013 round of impairment exercises by benchmarking the approach of different companies. It summarizes key factors affecting utility asset valuations today and provides broad comparisons between major European utility reports and accounts.
If you would like to discuss how the issues raised here affect your local markets and your business, please speak to your usual EY contact. Alternatively, contact Louis-Mathieu Perrin at +33 1 4693 4614 or [email protected].
viewed their assets. With poor energy demand
impairment went through the books; companies
Charles-Emmanuel Chosson Global Assurance Power & Utilities Leader
EY, France
3
With more than €30b of assets and goodwill impaired over the last three years, the power and utilities sector has already paid a high price for the economic and
but they don’t tell the entire story. We
2012 to assess the trends at work — and the likelihood of further pain to come.
In tracking impairments at 16 major European power and utility companies1 since 2010, we have highlighted the
impairment exercise, and how challenging it is to make decisions and communicate on the topic with stakeholders in a meaningful way.
Impairments totaled €12.8b in 2012, up 38% on the previous year. This upward trajectory doesn’t paint the brightest picture for the sector, but it’s hard to say with certainty whether the trend will continue in 2013.
This report analyzes impairments booked by our sample of 16 companies in the
We examine the rationale for write-downs that these companies present in their annual report and accounts. We explore how key external forces — supply, demand,
conditions — may continue to trigger additional impairments. And we compare
the 2011 assessment of risk with actual impairments booked in 2012, to explore what’s changed.
Balance sheet cleanup continuesPower and utility companies cleaned
asset impairment in 2012. They reacted realistically to changing local business environments and market fundamentals, in some cases taking hard decisions to
portfolios.
Compared to 2011 reporting, disclosures show that there has been a striking evolution — particularly concerning the nature of assets impaired, the locations most affected and, above all, the rationale for posting impairments.
But looking back to 2011 disclosures and comparing them to the 2012 impairments number, there seems to be a mismatch between companies’ statements about the risk of future impairment one year, and the size of impairment that goes through the books the next year.
Disclosures in 2011 said the risks of further impairments were limited. But despite this essentially positive message, in 2012 our sample of companies posted a record high level of asset and goodwill
impairment. This clearly casts some doubt on the predictive nature of sensitivity analysis disclosed in annual reports: once again, companies are indicating limited risk of further impairment.
After three years of pain, is there light at the end of the tunnel?In fact, it is very hard to say whether we can expect to see further big impairments in 2013. We do know that economic and
contributing to a much more uncertain environment than even last year. Despite signs of slight improvement, complex underlying economics will make the upcoming impairment exercise — which many European utilities will do in the third quarter of 2013 — particularly tough.
leaders can take the opportunity to reinforce, and potentially extend, the information they disclose about the assumptions on which they base impairment testing.
The more transparent they are — and the more willing they become to disclose precise underlying numbers — the greater
ability to anticipate future impairment.
EY’s Power & Utilities Assurance and Valuation teams have deep knowledge of these highly complex issues and challenges. We are dedicated to helping clients assess the consequences of asset impairment for business and accounts. Please talk to your EY advisor or contact one of the authors of this paper to discuss the issues raised in more detail.
Executive summary
1. Centrica, CEZ, EDF, Energias de Portugal (EDP), E.ON, Enel, Fortum, Gas Natural, GDF Suez, Iberdrola, RWE, Scottish and Southern, Suez Environnement, Vattenfall, Veolia Environnement and Verbund.
1.
4 Benchmarking European power and utility asset impairments
Impairment numbers higher again in 2012
2.
In 2012, impairments were higher than in 2010 and 2011.
2. The 2011 numbers differ slightly from those mentioned in our June 2012 report. Last year, EDP’s
been added back in this current report. The 2012 numbers also include EDP’s impairment numbers. 3. Benchmarking European utility asset impairment, EY, June 2012.
4. The negative amounts derive mostly from the reversal of an impairment posted in 2011 by Verbund on three hydropower plants in Austria (previously impaired in connection with the deregulation of electricity markets in 1998).
Our sample of 16 European power and utility companies wrote €12.8b off their balance sheets, compared with €9.3b2 of impairments posted in 2011 and €8.5b in 2010. In total, from 2010 to 2012, €30.6b of value was wiped off. The fact
market capitalization of the majority of companies in our sample highlights the tough business and operating conditions they continue to face.
To help us understand why the numbers rose, we have once again taken a deeper
have changed since our report last year.3
locations.
1st quartile 2nd quartile 3rd quartile 4th quartile
€ €18.9b €9.8b €1.9b €(0.02)b4
% 62% 32% 6% 0%
Source: EY analysis
From 2010 to 2012, €30.6b was wiped off power and utility balance sheets. This is higher than the individual market capitalization of the majority of companies in our sample.
Impairments in value spread in tough economic times
to a selected number of companies (see Table 1). However, the top three companies in 2012 are completely different from the top three over the period 2010–2011.
Over the 2010–2011 period, E.ON, EDF and Vattenfall represented close to 60% of the aggregated total impairment.
In 2012, Enel, RWE and GDF Suez represented 59% of the amount posted for the year, showing that depressed economic conditions are now affecting the sector across the wider board.
As an additional illustration, eight companies in our sample posted impairments for an aggregate amount higher than €1b over 2010–2012, compared to only six over the 2010–2011 period.
of the assets, their location and accounting value), the persistent tough economic environment leaves only a limited number of companies relatively immune. Four companies posted impairments totaling less than €150m each over 2010–2012. This is the same number as last year, demonstrating a certain level of resilience in some companies.
We provide further insight into the rationale companies used to explain their impairments in section 3 of this report (page 6).
5
2012 2011 2010 Total
Generation assets
€6.0b €5.4b €3.3b €14.6b
Other assets €2.9b €2.1b €2.9b €7.9b
Total impairment of assets
€8.9b €7.5b €6.2b €22.5b
Source: EY analysis
Focus turns to Continental Western Europe Europe still represents the largest share of impairments by geography — not surprising, given European utilities’ geographic footprint. Continental Western Europe now leads in the impairment league table, ahead of Southern Europe. This is the reverse of the situation last year (see Table 4).
In 2012, impairments posted in Continental Western Europe represented slightly less than double the impairments posted in Southern Europe. Worsening business and economic conditions are affecting a region that was comparatively less hit in previous years.
It is interesting to note that, except for Eastern Europe where impairments were stable compared to last year, and Southern Europe where impairments peaked last year at €3.4b and remained at a high level this year, impairment numbers have increased in other locations. Companies continued to reduce their
Southern Europe
Continental Western Europe
and Nordic region
UK Eastern Europe
Others/
5
2010 €2.5b €2.4b €1.1b €0.3b €2.3b
2011 €3.4b €2.7b €1.4b €0.6b €1.2b
2012 €2.9b €5.5b €1.6b €0.6b €2.2b
Total €8.8b €10.5b €4.1b €1.5b €5.7b
Total % 29% 34% 14% 5% 19%
conditions may continue, goodwill related to acquisitions that were concluded in brighter economic times (2005–2007) became
In 2010 and 2011, the largest goodwill impairments were borne by E.ON on its Italian non-regulated business, Vattenfall on its Benelux operating segment and Veolia Environment on its transport and energy services businesses. In 2012, Enel took the biggest goodwill hit on its Endesa-Iberia cash-generating
Turning to assets, impairments in value continued to increase, reaching €8.9b in 2012 versus €7.5b in 2011 and €6.2b in 2010. Generation assets still represented the largest share at €6.0b or 67% of the total in 2012 (see Table 3). Commodity markets in general, and electricity markets in particular, have shown no sign of real improvement in most of Europe over the last year,
impairment exercises.
Other impairments booked in 2012 were related to a diverse range of assets, particularly distribution networks, optimization and trading-related assets, or development projects. Several of the latter were simply cancelled as a consequence of prevailing economic conditions, which demonstrates that companies are trying to adapt proactively to current business prospects.
2012 2011 2010 Total
Impairment of goodwill
€3.9b €1.8b €2.4b €8.0b
Impairment of assets
€8.9b €7.5b €6.2b €22.5b
Total impairment
€12.8b €9.3b €8.5b €30.6b
Impairment of goodwill reaches record highWhile utilities mainly continue to write off assets — totaling close to €22.5b over the 2010–2012 period — impairment of goodwill reached a record high number at €3.9b (see Table 2).
6 Benchmarking European power and utility asset impairments
behind the numbers
A deeper dive into companies’ annual reports provides the full rationale for the impairments posted. Following the precedent of our June 2012 report, below
discussing each in detail and assessing the main shifts since last year.
Commodity prices and policy are still driving impairments of assets and goodwill. However, the impact of policy appears to have been very much localized in 2012 compared to the previous year, when it had a cross-sector impact.
At the same time, the importance of supply is growing as a factor in a European electricity market where the increasing market share of renewable energy and coal-versus-gas competition are both
to trigger very selective impairments in countries that were the most affected by the debt crisis — but this does not indicate a trend per se.
As impairment numbers continued their upward trend in 2012, we saw a certain amount of change in the nature of businesses and the geographies most affected. But compared to the trends we highlighted in our June 2012 publication, Benchmarking European utility asset impairment, the picture has not changed fundamentally.
Source: E&Y analysis
Less important driverMajor driver Important driver
Utilities
FinancingconditionsSupply
Commodityprices
Policy
Demand
3.
7
most important factorThere was, unsurprisingly, no upward revision of the assumptions about commodity prices in 2012. As for last year, commodity prices are the most common reason cited by power and utility companies for booking impairments in their accounts. Companies continue to blame both the absolute level of prices and spreads in explaining impairments — for example:
“In light of the sustained downward trend of the clean spark spreads, which corresponds to the differences between the price of electricity and the price for gas and CO2, the general
triggered an impairment of the Mellach combined-cycle gas turbine power plant.
• Vattenfall’s annual report 2012 highlighted: “sharply lower
with “additional taxes on coal-based power generation in the
production assets in its thermal power CGU.
This trend didn’t just affect European operations. It extended to
report 2012 that: “In the United States, the decline in gas prices
impairments in this region.
Most European power and utility companies with impaired generation assets cited continued adverse commodity prices or spreads as one of the key explanations in 2012, as was the case in the previous year.
2. Supply: growing structural importanceSupply conditions — both in their own right and, as last year, through their impact on power prices — are now highlighted as
impairment.
Growing competition among various generation sources is now regularly cited by power and utility companies as having a very
�impairment losses], €1.7 billion is attributable to our Dutch power plants, the earnings prospects of which is deteriorated considerably due to market conditions. Among other things, the
which is also forcing conventional power stations out of the
�registration document 2012 mentioned: “In Europe, the Group is currently facing a particularly tough economic environment,
of the development of renewable energies and of competition
highlighted as a fundamental driver in the impairments booked.
The fast development of renewable energy sources in Europe now appears to be a growing source of concern for the sector. It tends to push thermal power plants out of the merit order, lowers electricity prices on wholesale markets and has led some companies to contemplate mothballing gas power plants or actually closing them. For additional details see section 4, (page 10).
8 Benchmarking European power and utility asset impairments
3. Policy: still key in some local markets As in 2011, evolutions in local regulation and policy remain an important factor behind the impairments booked in 2012. But contrary to last year — when the consequences of the Fukushima nuclear accident had a very strong cross-sector impact on national policy, particularly in Germany — drivers of regulatory change remained largely local. Strong impacts at a local market level are demonstrated in the following examples.
rationale for the impairment booked on the Romanian distribution and sale CGU, CEZ pointed directly to “the outlook of electricity distribution regulation and current market
• GDF Suez: in the registration document 2012, to explain an impairment booked on assets related to a nuclear project in France, the company mentions that, “the Group has taken notice of the French Government’s decision not to launch
• Enel: in the annual report 2012, as a rationale for the €2.4b impairment posted on the Endesa-Iberian peninsula CGU, the
from the assets belonging to the CGU, partly as a result of various measures adopted by the Spanish government in the
This highlights the wide diversity in local regulation and policy; we cannot draw a uniform picture of Europe in assessing this factor, contrary to commodity prices and supply, where the picture seems gloomy across the board.
4. Financing conditions: starting to have an impact in selected markets
debt markets did not have any major impact on European utilities’ impairment tests, despite the fact that some European countries had been downgraded by rating agencies.
Looking at the discount rates used in impairment testing in 2012 by our 16 companies, we can see there is relative stability between 2011 and 2012. Table 5 shows a selection of discount rates. A small number of companies have started to highlight the change in risk premium associated with selected countries as a factor potentially impacting impairment testing.
Enel in particular stressed in its 2012 annual report that: “the
affected by the rise in country risk, which is factored into the
However, changes in Enel’s discount rate pre-tax show overall only limited variances in magnitude compared to last year
risk premiums attached to local geographies are not per se the fundamental factor triggering impairment. They generally work in combination with commodity prices, supply and policy, leading companies to revise their assumptions.
Company
Centrica Pre-tax discount rate used in impairment testing was stable in 2012 compared to 2011, ranging from 7.5% to 8.5%.
E.ON31 December 2012, ranged between 5.0% and 9.9% after taxes (5.4% and 9.9% in 2011).
Energia de Portugal (EDP) • HC Energia: discount rate after taxes ranged between 6.77% and 7.47% (between 6.3% and 7.2%, respectively, in 2011).
• EDPR: discount rate after taxes ranged between 7.0% and 7.1% for Portugal and Spain (6.7% in 2011), 5.5% and 6.8% for the United States (5.0% and 6.0% in 2011) and 5.9% and 8.2% for the rest of Europe (6.0% and 8.6% in 2011).
• EDP Brazil: discount rate used was 8.05% in 2012 (8.3% in 2011).
Iberdrola The discount rates used, before taxes, ranged from 5.78% to 10.51% pre-tax (5.87% to 10.6% in 2011).
Fortum Pre-tax discount rate used for Russia was 10.8% (11% in 2011).
Scottish and Southern The discount rates remained unchanged between 2011 and 2012 ranging from 7% to 10% (pre-tax real).
Vattenfall For the generation operating segment, the discount rate used was 5.10% after tax in 2012 (5.26% in 2011).
Source: EY analysis
9
5. Demand: not considered on a standalone basis
for impairments reported by our 16 sample companies. In most cases, demand remained one element considered among others,
plants … resulting in a decrease in electricity prices and in the
contributed to impairments posted by the company in 2012.
Summing upFinally, E.ON offers a succinct summary of how our drivers combine to trigger impairments: “In the third quarter of 2012, events including, in particular, the further deterioration in the overall market environment and regulatory intervention, as well as the periodic updates of the cost of capital and of long-term price assumptions, made it necessary to test goodwill and other assets for impairment, particularly in the Generation, Renewables, Optimization & Trading and Other
The company goes on to say: “These event-triggered impairment tests were performed on the basis of medium term
Source: Data is drawn from the Enel annual report 2012
2012 2011 Delta
Endesa-Iberian peninsula 8.0% 7.5% 0.5%
Endesa-Latin America 9.5% 9.4% 0.1%
Enel OGK-5 13.3% 13.0% 0.3%
Slovenské elektrárne 9.6% 9.1% 0.5%
Enel Romania 10.3% 9.8% 0.5%
Enel Energia 11.5% 10.6% 0.9%
EGP España 8.4% 8.3% 0.1%
EGP Latin America 9.9% 9.2% 0.7%
EGP North America 7.7% 7.8% –0.1%
EGP Hellas 16.8% 15.8% 1.0%
RusEnergoSbyt 16.5% 15.6% 0.9%
Nuove Energie 9.2% 9.8% –0.6%
EGP Portoscuso and other minor entities 10.1% 10.9% –0.8%
EGP France 7.8% 7.9% –0.1%
EGP Romania 11.5% 11.1% 0.4%
EGP Bulgaria 9.3% 9.2% 0.1%
Enel Stoccaggi 8.8% – N/A
Marcinelle Energie – 10.3% N/A
10 Benchmarking European power and utility asset impairments
But these factors are all backward-looking. To assess the risks power and utility companies face and the outlook for additional impairments, we need to look in detail at the sensitivity analysis they disclosed in the context of the current economic and business environment.
No material change in overall goodwill on power and utility balance sheetsDespite the €3.9b of goodwill impairment posted in 2012, there is still a large amount of goodwill on utility balance sheets (see Table 7), amounting to €117.5b in 2012 versus €124.5b last year (part of the difference is linked to change in perimeter).
represent close to 70% of the total, so assessing the real value of goodwill remains very important to the sector.
Have we reached the bottom?
Source: EY analysis
Company Currency Net carrying amount Net carrying
GDF SUEZ € 30,035 30,035
Enel € 15,963 15,963
RWE € 13,545 13,545
E.ON € 13,440 13,440
EDF € 10,412 10,412
Iberdrola € 8,309 8,309
Gas natural € 5,837 5,837
Veolia € 4,795 4,795
Vattenfall SEK 29,494 3,437
Energia de Portugal (EDP) € 3,318 3,318
Suez environment € 3,257 3,257
Centrica € 2,543 3,116
Scottish and Southern € 628 769
Verbund € 606 606
CEZ CZK 9,739 387
Fortum € 309 309
Total – – 117,535
Our review of European power and utility annual reports over the 2010–2012 period shows the key role that commodity prices, supply conditions and regulation played in driving the sizeable impairments that were posted.
4.
11
No big change in the nature of key
granularity of disclosuresTo understand potential risk areas, we reviewed the key assumptions and sensitivity analysis disclosed by power and utility companies — which is mandatory under International Financial Reporting Standards (IFRS) IAS 36, Impairment of Assets.
The same analysis last year revealed consistency in the nature of the assumptions and drivers that power and utility companies considered in their impairment testing.6
considered in 2012. Companies were largely consistent, keeping discount rates, long-term growth rate, commodity prices and change in regulatory and operating conditions as their main drivers. This is fully consistent with the stable nature of the business they operate.
But although they are basing impairment decisions on similar drivers, companies rarely communicate their detailed assumptions especially about power prices. The exceptions are discount rates,
growth rates, which are almost systematically disclosed.
In a January 2013 cross-sector report,7 the European Securities and Markets Authority (ESMA) went on record to say that issuers
• Key assumptions of management
• Sensitivity analysis
• Determination of recoverable amount
• Determination of growth rates
• Disclosure of average discount rates
Regarding key assumptions of management, ESMA highlighted
focus “on disclosing the key assumptions in detail and in a way
assumptions and discuss the approach management has adopted
Companies disclose methods, but fewer numbersThe 2012 annual reports from our sample of 16 companies vary greatly in terms of the key assumptions they disclose (apart from discount rates and long-term growth rates, which all 16 show). Many disclose details of their method to determine the value of key assumptions for impairment testing (e.g., power prices are frequently extrapolated from quoted prices using internal models and the company’s assessment of market fundamentals). But
compare companies operating in the same area, or operating the same type of assets.
in impairment testing for their CGUs. For example, Verbund discloses detailed elements, notably on its Bruck/Hollern/Petronell-Carnuntum wind farms CGU (Figure 2) and run-of-river power plants group on the Inn River CGU (Figure 3). This enables
starting point for the key assumptions in impairment testing. As a consequence, it’s easier for readers to assess the potential risks
Louis-Mathieu Perrin Assurance Power & Utilities Sector Resident
EY, France
6. See Benchmarking European utility asset impairment, EY, June 2012. 7. European enforcers review of impairment of goodwill and other intangible assets in the IFRS
, ESMA, January 2013.
12 Benchmarking European power and utility asset impairments
Source: annual report 2012, after Verbund
1Electricity prices were determined based on the forecasts of a reputable market research institute and information service provider in the energy market. The electricity price indicated relates to the year
uniformly over the period up to the planning horizon. 2 3The forecast annual output is based on data from wind measurements and the resulting forecast model calculations. 4 5The discount rate corresponds to the weighted average cost of capital after taxes. The parameters to determine the discount rate were derived from market data and/or a peer group.
Sensitivity analysis for the wind farms in Bruck/Hollern/Petronell-Carnuntum €m
assumption recoverable amount to equal the carrying amount
1 €65.3/MWh –1.0%
Annual output of wind power plants in operation2 100.0 GWh –12.5 GWh
Annual output of existing wind power plants after repowering3 192.3 GWh –4.2 GWh
Annual output of wind power plants to be constructed3 139.8 GWh –2.6 GWh4 €1.65 m €+0.04m
Discount rate5 5.25% +0.13 percentage points
Source: annual report 2012, after Verbund
1Electricity prices were determined based on the VERBUND Energy Market Model (VEMM). The electricity price indicated relates to the year 2013. The sensitivity analysis varies the electricity price uniformly over the period up to the planning horizon. 2The discount rate corresponds to the weighted avaerage cost of capital before taxes. The parameters to determine the discount rate were derived from market data and/or a peer group.
Sensitivity analysis for the run-of-river power plant group on the Inn river €m
assumption recoverable amount to equal the carrying amount
Price of electricity1 €48.20/MWh –17.00%
Discount rate2 7.00% +2.1 percentage points
Sensitivity analysis is reassuring … as it was in 2011
look at the sensitivity analysis they provide, which is mandatory according to IAS 36.
Based on the disclosure provided by the 16 companies, we hear a reassuring message — as we did in 2011.
In the vast majority of cases, most companies that have tested their goodwill and assets continue to conclude that, within the
no additional impairments would arise (see Table 8).
The extent of disclosures remains relatively unchanged compared to last year. Some companies mention headroom, which at least gives us a sense of the likelihood that risks will or will not
the low number of potential areas of further risks highlighted (see Table 9).
13
Company
Centrica For all material CGUs, the recoverable amounts exceeded their carrying values at the impairment test date. Reasonably possible changes in the key assumptions listed above would not cause the recoverable amounts of the goodwill balances to be equal to or less than the carrying amounts.
CEZ Management believes that any reasonably possible change in the key assumptions on which recoverable amount is based would not cause the carrying amount to exceed its recoverable amount.
E.ONwould necessitate the recognition of goodwill impairment.
EDF The recoverable value of the Nuclear CGU is sensitive to assumptions regarding long-term movements in electricity prices and WACC, mainly as a result of the operating lifetimes of nuclear plants, but using a WACC one half-point higher would not lead to impairment on this CGU. Also, if the number of EPRs constructed was reduced from 4 to 2 the recoverable value of the CGU would remain higher than its book value.
Enel In order to verify the robustness of the value in use of the CGUs, sensitivity analyses were conducted for the main drivers of the values, in particular WACC and the long-term growth rate, the outcome of which fully supported that value.
Energias de Portugal (EDP)
• HC Energia: The group has performed a series of sensitivity analyses to the results of impairment tests in some key variables, such as (i) pool price, (ii) cost of fuel, (iii) discount rates and (iv) trade energy. The sensitivity analysis results show that (i) a 5% decrease on the pool price or in trade energy, or (ii) a 5% increase in the fuel costs, or (iii) a +100 bps increase on the discount rate do not result in any impairment indicator.
• EDPR: The sensitivity analyses performed for each assumption independently would not suppose any impairment for the goodwill allocated to each country.
•
Fortum
impairment losses for property, plant and equipment or goodwill.
Gas Natural Likewise, Gas Natural Fenosa estimates that the unfavorable variances the sensitive aspects mentioned, on which the determination of the recoverable amount in certain CGUs were based could suffer, would not vary the conclusions reached that the recoverable amount is greater than the carrying amount. Concretely, the most important sensitivity analysis performed considered a drop of 5% in the energy produced and in the price of energy in the case of the CGUs for electricity, a drop of 5% in the price of gas in Union Fenosa Gas, as well as a drop of 5% in the tariff/remuneration and an increase in operation and maintenance costs in the case of the CGUs for the distribution of gas and electricity. With regard to the discount rate, this sensitivity analysis was performed applying a 50-basis-point increase on the discount rates applied in the base case.
GDF SUEZ • CWE GCU: An increase of 0.5% in the discount rate used would have a negative impact of 70% on the excess of the recoverable amount over the carrying amount. However, the recoverable amount would remain above the carrying amount. A decrease of 0.5% in the discount rate used would have a positive 56% impact on this calculation. A decrease of €1/MWh in electricity sale price would have a negative impact of 14% on the excess of the recoverable amount over the carrying amount; however, the recoverable amount would remain above the carrying amount. An increase of €1/MWh in electricity sale price would have a positive 14% impact on this calculation. The 10-year extension of the life spans of the Doel 3, Doel 4, Tihange 2 and Tihange 3 reactors, followed by the disappearance of any nuclear component in the portfolio, would have a negative impact of 64% on the excess of the recoverable amount over the carrying amount. However, the recoverable value would remain above the carrying amount;
• Other CGUs: A reasonable change in any of the valuation parameters would not result in the recoverable amount becoming lower than the carrying amount.
Iberdrola The sensitivity analyses carried out separately for each basic assumption did not detect the existence of any impairment, except in two cases.
RWE As of the balance-sheet date, the recoverable amounts were higher than the carrying amounts of the cash-generating units. These surpluses react especially sensitively to changes in the discount rate, the growth rate and the operating result after taxes in terminal value.
Scottish and Southern value less cost to sell/the value in use would not cause a change to the conclusion reached, except for one CGU.
Suez Environment
value over recoverable amounts. A change of 50 basis points upward or downward in the discount rate or rate of growth of normalized free cash
Vattenfall For the Distribution and Sales operating segment, a change of the discount rate by +/-0.5% … would not require recognition of further impairments.
Veolia Environment
Recoverable amounts determined for impairment testing purposes were tested for their sensitivity to a 1% increase in discount rates,
Verbund Management believes the carrying amount of the electricity segment, including goodwill, will not exceed the recoverable amount as a result of potential changes in the key valuation assumptions.
Source: EY analysis
14 Benchmarking European power and utility asset impairments
Further risks of impairment still limited, according to companiesSome limited risks continue to be mentioned, as in 2011, but
trend across companies.
But if we compare the few risks highlighted in 2011 annual reports with the record-high impairments ultimately posted in 2012, we might well ask where companies have gone wrong in assessing what constitutes a “reasonably possible change in a key
risks noted in the accounts.
depressed. Supply conditions have worsened and regulatory environments have been unstable in some locations. But it also
a rapid return to a pre-crisis environment. They have started factoring into their medium-term assumptions the possibility that tough economic conditions will persist.
However, because there is only limited disclosure of the precise
changed their mind about risk, beyond the few factors they mention in this year’s reports.
know the numbers behind the 2012 impairment testing — notably, power prices, spreads and operating and economic conditions.
To assess what could lie ahead for the sector, we have to review
does not present an overly positive picture.
Company
GDF SUEZ • CWE segment: The disappearance of any nuclear component from the portfolio, after a period of 40 years operating the current plants, would have a sharply negative impact on the recoverable amount. The resulting recoverable amount would be lower than the carrying amount of the CGU. In that scenario, the risk of impairment loss would amount to approximately €1,200 million at 31 December 2012, assuming that the other impairment test assumptions remained unchanged.
Iberdrola • Production of renewable energies in the United States, the value in use of which is €220 million greater than its carrying amount, in which an increase of 30 basis points in the discount rate, a decline in wind energy output of 3%, a decline in the price of uncontracted wind output of 7% or an increase in the operating and maintenance cost of 8% would make the value in use lower than the carrying amount.
• Gas storage in the United States and Canada, the value in use of which is €114 million greater than its carrying amount, in which an increase of 40 basis points in the discount rate or a decline in the gas storage spread of 4% would make the value in use lower than the carrying amount.
RWE • Renewables segment: Impairment would have been necessary if the calculations had used an after-tax discount rate increased by more than 0.49 percentage points to above 6.49%, a growth rate decreased by more than 0.80 percentage points to below 0.20% or an after-tax operating result reduced by more than €69 million in terminal value.
• Netherlands and Belgium segment: Impairment would have been necessary if the calculations had used an after-tax discount rate increased by more than 0.23 percentage points to above 6.48%, a growth rate decreased by more than 0.51 percentage points to below 0.49% or an after-tax operating result reduced by more than €21 million in terminal value.
Scottish and Southern • Gas storage segment: There is an inherent uncertainty in the valuation process but reasonably possible changes in the key assumptions applied in assessing the value-in-use may potentially require further impairment. The impact of these changes is dependent upon a number of factors but reasonably possible changes could further impair the remaining goodwill balance of £26.2 million.
Vattenfall • Generation operating segment: An increase in the discount rate of 0.5% would give rise to a need to recognize additional impairment of the book value of noncurrent assets by approximately SEK6.5 billion in the thermal power cash-generating unit.
Veolia Environment • Difference of €–119 million between the recoverable amount and the net carrying amount, with an increase in the discount rate of 1% for the UGT Water — France, Environment Services Germany and Environment Services Poland.
• Difference of €–35 million between the recoverable amount and the net carrying amount, with a decrease of the long-term growth rate of 1% for the UGT Water — France, Environment Services Germany and Environment Services Poland.
Source: EY analysis
15
Main drivers not that reassuring, but companies are trying to adapt Looking at how key drivers affecting power and utility asset values have evolved since the 31 December 2012 closing, we do not really see great signs that conditions are changing, although some rays of hope have emerged at local levels. Companies are clearly working on adapting their portfolios: while triggering additional short-term impairments, this could also contribute to a change in market fundamentals.
Demand is still quite depressed according to recent data and this is affecting Europe in general. In Italy, for example, in the
adjusted for weather and calendar effects, it dropped by 2.8%. In France, while electricity demand fell 4% in 2012, transmission system operator RTE now expects French power demand to lag GDP growth, as a consequence of lower industrial demand and
As far as regulation and national policies are concerned, the cost of renewable energy for electricity systems is a hot topic in many European countries. Some are contemplating reductions in the premium that renewable generation has been earning over the past few years. In addition, a number of countries still envisage reform of the energy markets, including Spain and possibly France where a national debate is underway to determine future energy policy choices. Localized pressure on power and utility companies is still possible.
The one area wherein the situation remains very much depressed is electricity prices. There is a fairly gloomy picture in Continental Europe and to a lesser extent in the UK, which has been relatively resilient in the past few months (see Figures 4 and 5).
The recent fall in CO2 prices, which resulted from the European
credits, clearly reinforces this gloomy picture and does not bode well for any short-term improvement.
Source: Bloomberg, Thomson Reuters Datastream, EY analysis
German power one-year fwd baseload (€/MWh) Spanish power one-year fwd baseload (€/MWh) Nordic power one-year fwd baseload (€/MWh) Italian power one-year fwd baseload (€/MWh) UK power one-year fwd baseload (€/MWh)
European forward baseload prices
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16 Benchmarking European power and utility asset impairments
Figure 5. European clean spark spreads continue to deepen
Source: Bloomberg, Thomson Reuters Datastream, EY analysis
-20
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Germany — clean spark Spain — clean spark France — clean spark Italy — clean spark
Euro/MWh European clean spark spreads
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3
The situation regarding clean spark spreads continues to deteriorate across the board, with spreads negative in a number of countries (see Figure 5). This has a direct impact on gas plant
companies have recently taken.
Turning to supply conditions, power and utility companies have been actively trying to reshape their portfolios. They
the current market environment (with no sign of short-term relief), and decided to close or mothball them.
While this decision leads to impairment of assets, it also reduces capacity available in the market. This may contribute to a rebalancing of reserve margins, which until recently were considered adequate in many European countries.
One example of recent steps was GDF Suez. In its 2012 annual results presentation, the company announced that, having closed or mothballed 3.6 GW over 2009–2011 and 2.8 GW in 2012, it would close an additional 0.9 GW in 2013. In early April, it also decided to temporarily mothball three additional CCGTs. Meanwhile in the UK in early 2013, Scottish and Southern decided
a decision supplemented by the company’s freeze on new-build
at least 2015.
17
While reducing supply, these decisions have to be put in the context of continued investments in renewable energy. Europe installed more than 12 GW of wind capacity in 2012, bringing the total capacity to 109 GW, while demand decreased. The overall impact of plant mothballing or closure may take some time to be felt on European power markets.
Financing conditionswith debt spreads tending to narrow gradually in countries most affected by the debt crisis (e.g., Spain and Italy), and continuing to reach record low levels for some well-rated countries such as Germany and France. Nevertheless, as evidenced by the recent
European debt crisis are still possible.
The global picture, while still quite negative, does include rays of hope that could gradually improve some market fundamentals.
As an illustration, in January 2013, Ofgem stated that it expects capacity margins to tighten in the short term in the UK, falling below 5% in 2015–2016, which could contribute to a recovery in power markets.
Nevertheless, the structural transformation that the sector is undergoing at the moment prevents us from drawing any
In this complex context, forecasting what 2013 reporting may bring requires much caution.
18 Benchmarking European power and utility asset impairments18 Benchmarking European power and utility asset impairments
consider disclosing more numbersSince €30b of assets and goodwill has already been impaired in the last three years, one might think the worst is over. And 2012 annual reports convey a neutral message with limited additional risks highlighted.
But the situation was similar last year, and 2012 still proved a record year for impairments in the sector.
The uncertainties affecting demand, power market fundamentals across the board and regulatory stability in some regions mean companies have to be cautious in what they do and say about impairments to come.
Key questions and decisions for utilitiesThe combination of depressed indicators with some early signs of limited improvement will make the 2013 impairment campaign very challenging.
Companies will have to address the following issues in Europe:
• Will plant closure and mothballing of assets have any impact in the short term on power market fundamentals? Or will any positive impact be outweighed by new renewables capacity and further demand destruction?
• Should operating and commodity estimates used in 2012 valuations be revised down, to account for continued weakness in power prices and spark spreads?
• Will regulatory environments for renewables be affected by growing costs — and can we expect further instability in countries that are struggling with their public budget?
• Can we expect further convergence in terms of geographic impact and magnitude of impairments — particularly given that in 2012 the top three companies by value of impairment changed completely compared to 2011 and 2010?
5. Conclusion
19 19
More detailed disclosure could be
One thing power and utility companies do have is an opportunity to reinforce their disclosures around the potential impact of risks on the value of their assets. This would support investors in understanding how changing market fundamentals could impact their investments.
Further disclosure would help all stakeholders to understand
regulatory drivers are not affecting companies in the same way, even if they operate similar assets in the same geographies. Investors would then be in a position to assess which assumptions look the most realistic or supported to them, and draw their own conclusions.
With the half-year 2013 results due out shortly, there may be an opportunity to anticipate these issues and communicate to stakeholders in a way that would set clear guidelines for what to expect at the year-end.
“ Companies have acknowledged the tougher
Louis-Mathieu Perrin Assurance Power & Utilities Sector Resident
EY, France
ContactsAuthor
Assurance Power & Utilities Sector Resident EY, France Tel: +33 1 4693 4614 Email: [email protected]
Contributor
Global Assurance Power & Utilities Leader EY, France Tel: +33 1 4693 7162 Email: [email protected]
Duncan Coneybeare Strategic Analyst, Global Power & Utilities London, UK Tel: +44 20 7951 5628 Email: [email protected]
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