Holland Opens for New Energy Investments

Holland Opens for New Energy Investments

January 01, 2006

A proposal for “unbundling” or separation of the regulated and unregulated gas and electricity businesses of Dutch energy companies is expected to be debated in Parliament at the end of January.  If adopted, the proposal will open new investment opportunities in the Dutch energy sector.  However, it is controversial.

Background

The Netherlands government sent a proposal to Parliament at the end of August 2005 for restructuring the energy market.  The core element of the proposed legislation is the obligatory unbundling of all integrated energy companies into “network companies” that transport energy, on the one hand, and “commercial energy companies” that supply or produce gas or electricity as a commodity, on the other.

The government expects that the unbundling will create a level playing field in the commercial energy — or commodity — business by taking away from gas and electricity suppliers the advantages of the natural monopoly offered by also owning the network.  It also expects that the increased cost transparency of the network managers will benefit consumers.

A further objective of the proposal is to give the present shareholders of Dutch energy companies the opportunity to divest their interests in the commercial energy business.  Practically all integrated energy companies are owned currently by municipalities and provinces.  Privatization of network activities is not allowed.  Following implementation of the unbundling proposal, the current public shareholders will be able to sell their stakes in the commercial energy business, while maintaining, at least for now, ownership of the shares in companies operating the networks.

Two Dutch energy companies have already unbundled and sold their commercial energy subsidiaries in anticipation of the new legislation.  On June 6, 2005, Intergas Energie sold its commercial energy company to the Danish DONG.  The gas and electricity network remained with Intergas Energie.  On September 14, 2005, the fifth largest energy supplier in The Netherlands, NRE Holding, sold its commercial energy companies to E.ON Benelux. The electricity network remained with NRE Holding.  Most surprising was the acquisition by Macquarie European Infrastructure Fund of a 49% interest in the network company of NRE, conditional upon obtaining the required consent for such a sale.

The government expects to be able to debate the proposal in the second chamber of Parliament by the end of January 2006.  If the proposal is adopted, it will have to be sent to the first chamber for final approval.

Unbundling

The proposed legislation prohibits the operation of gas and electricity networks and the commercial energy business within the same group of companies.  Furthermore, network companies will not be allowed to hold shares of companies engaging in the commercial energy business, and vice versa.  Therefore, if the proposed legislation is adopted, the currently integrated Netherlands energy companies will be required to spin off either their energy networks or their assets and activities relating to the commercial energy business.

The energy companies will have two years to implement the required changes after the proposed legislation comes into force.

Municipalities, provinces and the state will not be affected by the unbundling requirement.  They are allowed to continue holding shares in both network companies and commercial energy companies.  However, these interests will have to be held through separate holding companies.

The unbundling requirement relates solely to energy companies that are active in the Dutch commercial market and are operating networks located in The Netherlands.  It will remain possible for companies operating energy networks located outside of The Netherlands to hold shares in a company participating in the production, trade or supply of energy in the Dutch market and vice versa.

Spinoffs of the kind proposed would ordinarily lead to imposition of a real estate transfer tax on the immovable property involved, including the networks.  However, the proposal exempts from real estate transfer tax all transfers of immovable property that take place in the course of the obligatory unbundling.  In addition, the Tax Plan 2006 contains a more general exemption of networks from real estate transfer tax.

Investment Opportunities

The Dutch government envisages that, after the unbundling requirement is implemented, there will be two groups of energy companies in The Netherlands: companies in which one or more subsidiaries operate gas or electricity networks — called “network companies” — and companies engaging in the commercial energy business.

No further restrictions are placed on the ownership of commercial energy companies.  Once the unbundling is implemented, the current shareholders can sell their stakes to private investors.  In addition to the NRE and InterGas transactions that have already closed, there are many more transactions already rumored to be under negotiation.

The recent conditional acquisition by Macquarie of a 49% interest in the NRE networks can be seen as an indication of the appetite in the market for Netherlands energy networks.  However, it is unclear whether private investment in network companies will be possible in the foreseeable future.

Netherlands law currently prohibits privatization of networks and network companies.  Restrictions on privatization have been part of the Electricity Act since 1998 and part of the Gas Act since 2000.  However, these restrictions were seen initially as temporary measures only, to be lifted in 2006 at the latest (when the energy supply market would be fully liberalized).

On or about March 2004, when obligatory unbundling was first raised by the government, the government indicated that the prohibition on the privatization of networks could be lifted, at least for minority interests in network companies, upon the unbundling requirement becoming law.  Full privatization would be allowed, in the view of the government, upon full implementation of the law.  When it released the legislative proposal in August 2005, the government indicated that it expects to be able to allow a minority privatization upon the law going into effect.  However, an explanatory memorandum released at the same time did not directly address the timing for allowing full privatization.

More recently, on November 20, 2005, in its response to hundreds of questions submitted by Parliament about the proposal, the government indicated that it would allow privatization of a minority interest in network companies only after full implementation of the unbundling legislation: therefore, no sooner than two years after it comes into effect.  According to the November 20, 2005 response, whether full privatization will ever be allowed remains to be seen.

Opposition to Unbundling

Although a majority in Parliament appears to be in favor of the unbundling proposal, there is strong opposition from the four largest Netherlands energy companies, from certain municipalities and provinces and from the Christian Democrats, a party that is a member of the governing coalition.

The energy companies claim the legislation “has the potential to create substantial inefficiencies in the Dutch energy sector, could jeopardize the reliability of the energy supply and could lead to considerable and unjustified costs for Dutch consumers, energy companies, the shareholders of the Dutch energy companies and the Dutch taxpayers.” The provinces of Zeeland, Gelderland and North-Brabant, which hold shares in Delta, Nuon and Essent, respectively, are opposed to the proposed legislation. The provincial government in North-Brabant believes that privatization, with its loss of control over energy companies, would lead to loss of jobs in the province and less production of “green” power.  However, the province of Friesland is reportedly very much in favor as is the city of Eindhoven, and they wish to sell their shares in Nuon and NRE, respectively, as soon as possible.

A major objection against the proposal raised by the energy companies is that the unbundling will make Dutch energy companies easy acquisition targets for other European energy companies that are not subject to similar restrictions and will also put them otherwise at a disadvantage when competing within the northwestern European market.  However, the Netherlands government — or, more specifically, the Netherlands minister of economic affairs — is convinced that Europe will ultimately follow the Dutch unbundling model.

Although the European commissioner for competition, Ms. Smit Kroes, has openly supported the minister of economic affairs, the other members of the European Commission remain silent on whether the Dutch policy for unbundling should be implemented on a European level.  In this respect, it is interesting to note that according to The Business Sunday, the European Commission is currently in the process of reviewing the energy markets in Europe.  It intends to impose fines on French and German energy companies for violating competition law, specifically for the lack of transparency between their commercial and network businesses.  Although not explicitly named in the report itself, The Business Sunday suggests that the report is referring to EdF, RWE, GDF and E.ON.  If this is indeed the case, then these companies in future might have to spin off certain of their activities. These developments would support the proposals of the Dutch government and take the discussion surrounding required unbundling of integrated energy companies to a European level.

Possible Amendment

The Christian Democratic party, which has so far strongly opposed the unbundling proposal despite participating in the governing coalition, announced recently that it might be willing to accept unbundling, provided privatization of network companies will not be allowed.  It also insists on assurances that the issue will not be revisited until at least three years have passed after the legislation has been fully implemented by the energy companies.  At that time, the effects of the proposal should first be evaluated.  After the evaluation, Parliament will decide whether a minority privatization of 49% of the shares of network managers can be permitted.  However, under the Christian Democrats’ proposal, full privatizations would not be allowed at any time.

The largest opposition party, PvdA, has indicated that it looks favorably at the proposed amendment.  As a result, the Christian Democrats’ amendment, if submitted, has a fair chance of being accepted.

Outlook

The shares in most integrated energy companies in The Netherlands are held by provincial and municipal governments. These shares are currently locked up as a result of the prohibition on privatization of network companies.

If the proposed legislation becomes law, the energy companies will have to split up into commercial energy companies and network companies.  Most likely a substantial part of the commercial energy companies will then be put up for sale (to the extent they are not already on the market).

Even if the proposed legislation becomes law, it remains to be seen whether network companies will be up for sale.  The government’s current position is that it would be in favor of allowing the privatization of a minority interest after the unbundling is implemented, which would be two years after the proposal comes into effect.  However, a majority appears to be forming in Parliament that would not allow such a minority privatization until, at the earliest, three years after the implemented unbundling: therefore, five years after the law comes into effect.

More information on the extent of investment opportunities in the Netherlands energy market should become available in the coming months.