European utilities: liquidity improves; Uniper nationalisation, guarantees show state support vital
The liquidity crisis is set to diminish, assuming EU governments finalise agreement on a cap on energy prices while providing general state guarantees or (temporarily) relaxing the requirements for the provision of cash collateral for hedged positions.
But other financial pressures are building for the European sector in general over and above the collateral issue, with potential long-term consequences for investment.
“Still elevated energy prices put new stress on working capital, with risk from higher defaults on receivables and delays in receivables collection,” says Sebastian Zank, deputy head of corporate ratings at Scope.
Rising interest rates are increasing debt-servicing costs in the capital-intensive sector. Uncertainty over future taxation as governments consider windfall levies risks deterring or delaying investment projects that Europe needs to improve the functioning and security of the energy market – new clean generating capacity, more storage, more interconnectors – and to meet environmental goals.
Government support helps ease liquidity squeeze
“For now, the immediate source of respite for the sector is the combination of factors narrowing the gap between market and power prices hedged via exchange-traded futures that had widened dangerously when Russia’s use of its energy exports in its war against Ukraine sent European gas and electricity prices soaring even higher this year,” says Zank.
The wider that this gap is and the more volatile the underlying commodity price, the more cash utilities are obliged to set aside as collateral (initial and variation margin) because of the size of the swing in the value of the hedging contract. This explains the liquidity squeeze they faced as Russia’s suspension of some supplies of gas to Europe sent prices for electricity and gas to more than 10 times the levels of last year when many utilities had hedged much of their output.
In addition to government action to stabilise energy prices, success in replenishing European gas stocks despite the lack of Russian gas, fears of recession, and setbacks in Russia’s war effort have also helped bring market prices more in line with hedged prices.
“The risk of another spike in gas and electricity prices is much reduced even if prices remain volatile,” says Zank.
Utilities to benefit from release of working capital
The roll-off of hedging contracts for which utilities had to provide massive extra collateral is now leading to the release of working capital, freeing up cash for utilities to take out less onerous new hedges, build up cash reserves and/or pay down debt that was raised for working capital funding.
If some utilities remain under intense financial pressure, the cause is Russian state-controlled gas utility Gazprom OAO’s refusal to honour long-term gas supply contracts, forcing these utilities, most notably Uniper, to buy alternative supplies of gas at elevated spot-market prices, well above those at which they had contracted to sell gas to industry. The result is unsustainable operating losses.
“We remain confident that government support will prevent bankruptcies of systemically important utilities such as Uniper and the market contagion that would lead to,” says Marco Romeo, analyst at Scope Ratings. “Other utilities less reliant on Russian gas have ample liquidity or access to bank credit lines or guarantees from sovereigns or sub-sovereigns,” Romeo says.