Dominion Energy is expected to ramp up clean energy investments, such as its Coastal Virginia Offshore Wind project, as the company and utility industry embark on a period of decarbonization underpinned by asset transactions. Source: Dominion Energy Inc. The U.S. election outcome and worsening COVID-19 crisis portend an uncertain 2021 for utilities, which is driving a wave of deals and potential transactions at the corporate and asset level as the sector's major players look to cut business and environmental risk.
"I think the common theme that we do see across all these transactions is the pivot to regulated businesses," Fitch Ratings analyst and Managing Director Shalini Mahajan said during a Nov. 10 presentation at the 2020 Virtual Edison Electric Institute Financial Conference.
"We do think [the transactions] are positive for credit," Mahajan said, noting that the deal activity comes amid a likely increase in regulated rate base growth opportunities.
Moody's pointed out that environmental, social and governance factors also have been a key consideration in recent transactions. "We are likely to see more of these transactions," Moody's Associate Managing Director Michael Haggarty said.
Dominion Energy Inc. in July announced the sale of its natural gas transmission and storage business to Berkshire Hathaway Energy as it increases its focus on regulated utilities and cleaner energy.
Public Service Enterprise Group Inc. is exploring strategic alternatives for PSEG Power LLC's non-nuclear generation fleet as well as the PSEG Solar Source LLC portfolio.
PSEG is looking to off-load the fossil fleet to reduce "overall earnings volatility" and enhance the company's ESG position, PSEG Chairman, President and CEO Ralph Izzo told analysts and investors.
Avangrid Inc. and PNM Resources Inc. pointed to ESG alignment as a factor in their planned merger. The deal is expected to provide the financial strength PNM needs to exit coal and pursue its carbon-free strategy, management said.
PPL Corp., Exelon Corp. and DTE Energy Co. also are among the utilities pursuing simplification through business sales or spins.
NextEra Energy Inc., meanwhile, continues to make headlines with reportedly rebuffed takeover attempts of Duke Energy Corp. and Evergy Inc.
Guggenheim Securities LLC analyst Shahriar Pourreza met with NextEra Chairman, President and CEO James Robo and came away with the feeling that there is "no interest in an attempt to re-engage" with Evergy.
"In light of the utility sector going through multiple strategic changes ... [NextEra] went on to confirm that the company is surely looking at subsidiary acquisitions to bolt on to the existing regulated platform, much like [Gulf Power Co.]," Pourreza wrote in a Nov. 12 report.
The potential sale of South Carolina state-owned utility Santee Cooper, known legally as South Carolina Public Service Authority, is "still very much of interest," Pourreza added.
While M&A has become "increasingly topical," Scotia Capital (USA) Inc. analyst Andrew Weisel said, "we see widespread consolidation as unlikely."
Still, the analyst pointed out that NextEra is "the most likely acquirer of our coverage" with Southern Co. expressing "theoretical interest" after the construction of the Alvin W. Vogtle Nuclear Plant expansion is complete.
Southern Chairman, President and CEO Thomas Fanning defended the business case for unregulated subsidiary Southern Power Co. in an interview with S&P Global Market Intelligence.
"Southern Power is a very different animal than, for example, what Exelon and others are doing," Fanning said. "Exelon lives in these so-called organized markets that, in my opinion, are a bad electricity policy design for America. ... Southern Power does virtually all of its power sales via long-term contracts. ... So, we are not exposed to short-term vagaries in the power markets and therefore, we can manage our risk and our return in a much more optimal way."
"Would we consider Southern Power as a spinout candidate as potentially is being discussed at Exelon or other places? My sense is not yet," Fanning added. "I think we get No. 1, fair value for those assets and No. 2, an important option for the future. We are the best holder for those assets right now."
NiSource subsidiary Northern Indiana Public Service Co. plans to retire its last coal plant, the 469-MW Michigan City facility, by 2028.Source: Northern Indiana Public Service Co. American Electric Power Co. Inc. is one of the few companies looking at the possibility of selling regulated assets.
"Management highlighted that they would look to sell some regulated assets to offset any potential equity needs for the [North Central Wind projects]," Mizuho Securities LLC analyst Paul Fremont wrote in a Nov. 11 report.
AEP Executive Vice President and CFO Brian Tierney, who will soon transition to head of strategy, said the company "will look into the ability to recycle capital from lower-performing projects to more desirable assets," Fremont noted.
At NiSource Inc., Guggenheim's Pourreza said potential "asset sales would lead to lower equity needs" to fund the company's robust renewables investment plans.
"If [NiSource] looks to sell and investors attempt to triangulate on which assets [NiSource] could be willing to sell, they will likely target their smaller utilities which would come with less dis-synergies and less dilution that would need to be backfilled," Pourreza wrote.
In a Nov. 9 interview, NiSource President and CEO Joseph Hamrock said the company evaluates "each of the operating companies, whether it's a gas distribution company or the electric company" as it determines how to allocate capital.
"Are we getting appropriate returns and cash flows associated with that? And are we in a policy environment that provides the appropriate support for the investments that are needed and prudent for those businesses?" Hamrock said. "On the gas side, it's largely safety investments, modernization of the systems. We enjoy very constructive regulatory environments in each of our six states. All of those are inputs into how we think about the business in both the near term and more importantly, in the long term."
"As we look around the industry now, we are certainly seeing what is happening," the CEO added. "Some of the restructuring tends to be along the lines between what is regulated and what is unregulated, or not typically the state-regulated utilities. We are a 100% pure-play regulated utility with a healthy, diverse mix of gas and electric businesses. We will always evaluate [M&A] through that lens."
ESG is not a trend
Industry observers and experts, by and large, agreed that the move to decarbonization and the importance of ESG is not a trend that will subside in the next five to 10 years.
"At the end of the day, we do see the regulated utility sector benefiting from the ESG wave that is taking place right now," Moody's Managing Director Jim Hempstead said, adding that utilities score well on social and governance issues. "And there is no sector that we can find that can move the dial on greenhouse gas emissions more than utilities, as quickly as utilities can."
Weisel pointed out that "the buildout of renewables has been a major theme for the industry" during the past several years and the trend "has only accelerated through 2020."
"Those companies that benefit from the 'ESG premium' see it as justified [NextEra, WEC Energy Group Inc. and Eversource Energy in particular], whereas those that don't are increasing efforts to get it [Exelon, PSEG, DTE, Dominion and AEP in particular]," Weisel wrote. "Just about every company is looking into new technologies like [renewable natural gas] and hydrogen ... while batteries have become fairly ubiquitous, at least in conversations about planning."
In an Edison Electric Institute panel called "The Evolution of ESG: Emerging Social and Governance Issues," participants agreed that ESG will be relevant for years to come.
"Absolutely, the ESG train is not a buggy that is going to break down. It's going to continue going," said Jan Childress, director of investor relations at Consolidated Edison Inc.
Panelists said the U.S. is "likely in the early innings" of the movement with an increasing focus on social issues, especially in the wake of civil rights protests across the U.S. earlier this year.
"I think the more we are aware, the more we understand, the better we'll be at tackling issues and reporting it out to shareholders," Fortis Inc. Executive Vice President and CFO Jocelyn Perry said.