Maybe the worst is behind for Uniper but can we say the same for E.ON?

Right before our eyes, we are seeing new technology enabled service business models across energy. The new business model of utilities are not about selling KWhs of electricity but instead selling flatrates, software as a service, energy service agreements, platforms for data sharing, all of which are empowering customers across the world. But change is not easy and in a large part of the world we are seeing traditional utilities lose customers; they are also seeing lower and even negative wholesale power prices, as renewable energy soars. A radical overhaul of the power market value chain is inevitable. Changes are coming to the suppliers of fossil fuels, including coal and gas; to the technology suppliers; the utilities and the grid operators. One of the biggest changes is the transformation of E.ON, one of Europe’s biggest utilities. This week the commodity exposed businesses (conventional power generation, gas and trading) will be spun out and listed on the German stock exchange under the name Uniper. The success or failure of the Uniper spinout will be a critical milestone for the re-positioning of other utilities across the world.

E.ON in the words of its CEO Johannes Teyssen “…will in the future totally concentrate on renewable energy, the distribution grid as well as customer solutions and with that concentrate on the most important elements of the new energy world.” A very noble and promising vision for the company but execution will not be easy. As part of this process, E.ONs conventional power generation assets across Europe (42GW) as well as E.ON’s mid-stream gas (storage, transport, etc) business and its trading arm is being spun out to existing shareholders. E.ON shareholder will all receive 1 Uniper share for every 10 E.ON shares with E.ON retaining a 46.65% stake in the business. What they will do with those shares is a critical question, but let’s be clear, they will be investors in the “problem children” of E.ON over the last years, all of which have exposure to commodity prices. But that said, maybe the worst is behind Uniper. What about E.ON?

The break up of E.ON’s comes amid a very challenging operational environment for traditional utilities across Europe. E.ON itself has been too slow to react to the structural changes going on in the market and over the last five years has managed to amass close to €23bn in losses most of which are write downs in relation to power generation assets. Unsurprisingly the share price has only gone down, as has the market capitalisation of E.ON which is now €16bn, down from €37bn in 2012.

After the spin out of Uniper, E.ON will be left with its retail business, its distribution grid business and renewables, with 60% of its earning more or less regulated, although one needs to be cautious about both the distribution and renewables business.In today’s low interest rate environment, there must be a risk that regulated returns in distribution come under pressure as we are already seeing in renewables. Most countries are moving towards auctioning for renewable projects which means that returns are going to fall. And let’s be clear, the reason E.ON owns so little renewables in its domestic market Germany (less than 1GW out of 80GW) is because it was not able to compete with low costs of capital and returns that other parties were willing to pay.

To make matters worse, E.ON has to keep its nuclear liabilities on its own balance sheet despite its original goal of intending to pass these onto Uniper. Those liabilities for nuclear decommissioning total close to €17bn, noting that they may be higher depending on how an ongoing German government investigations into decommissioning fairs out. And the outcome of these negotiations as well as plans to set up a fund for decommissioning German nuclear will be critical for the credit rating of E.ON noting that the company is currently rated BBB+/Baa1 by S&P and Moody’s with negative outlooks.

As to the share prices of E.ON and Uniper, they will probably be under pressure the next days as investors decide how best to position themselves. Going forward it will be up to the management teams of both companies to gain the trust of the financial markets. The success of E.ON's transformation is not only critical for E.ON and Uniper shareholders but also the government and customers across Europe not to mention other utilities who are looking at how best to restructure and re-position their own businesses.