Monday, November 3, 2008

Nuon Posts a Loss? Wake Up, Netherlands


The following post, while important in its way, is too boring to read. So be warned. Stop now while there's still time.

It's a sad paradox: there is no industry that's bigger, or more important than the energy industry. Yet it is so deadly boring that it's impossible to get anybody to read about it, let alone think about it.

No matter how much we hate those monthly bills.

The Dutch energy company Nuon posted a net loss for the third quarter.

This despite enacting rate hike after rate hike in the past several years.

What's going on here? And why should we care?

Well, Nuon calls itself a "company" but in fact its is owned entirely by city, province and federal governments.

So in one sense I suppose it doesn't really matter if this "company" makes or loses money. You have very little choice but to pay your electricity bill, and if Nuon loses money, the governments that own it will have to raise taxes to cover the difference. If it makes money, then governments can lower other kinds of taxes.

However, Nuon pays its executives and managers as if they were in the private sector, so to the extent they are doing a poor/ineffective/inefficient job, they are effectively throwing away money or stealing it from the public.

And now we come to the point:

I've read many and many an earnings report in my day, but never have I seen a report more lacking in transparency than what they published today. (Here it is in English, for anybody insane enough to care).

The only facts we are given are that sales were flat, while profit plummeted from EUR179 million profit to a EUR2 million loss.

Why is this?

They say part of the reason was losses on "fair value items" which I think means investments.

Here's another of the reasons for the loss, in Greek. Don't try to understand this, you cannot:

"The efforts in connection with strategic processes including the unbundling of Nuon into a network company and a production and supply company have led to an increase in, notably, ICT and personnel expenses. Other expenses concern the credit crunch, which necessitated a revaluation of an investment relating to a cross border lease."

Nuon spends a fair amount of its press release grousing about a Dutch government decision, that ordered energy companies to split apart their generation plants and delivery network (i.e. wires!) into two separate companies.

The government did that because they are imagining a future when lots of generation companies (read: alternative energy companies) will want access to the grid, and they don't want the big energy co's playing dirty tricks to keep them out.

So, to make sure everybody plays nice, in the future the grid will be run independently.

Nuon fought that decision tooth and nail, like the other 3 generation companies, to protect their monopoly. But Nuon (and Essent) had a special secret second reason.

Here's where it gets complicated, but it's juicy if you can understand it:


Before this decision came down the pipe, Nuon had struck a deal with U.S. companies to help them cheat U.S. tax authorities _ sorry, I mean 'take advantage of a U.S. tax loophole' _ and split the proceeds.

How did this work? The exact details and numbers have never been made public, but here's the basic idea:

Nuon sold its network to the U.S. companies, and then immediately leased it back for 100 years. Huh?

Because the U.S. "owners" were able to claim a tax deduction for depreciation of the assets.

An electricity network is a valuable thing, and the tax savings on its depreciation was a huge number.

There's a lot of room for variations on the theme above, but that's the basic idea.

Returning to the idea of Nuon as private "company": this kind of scam, I mean deal, called "Cross Boarder Leasing" is a very much private sector behavior. Organizations on two sides of the Atlantic colluding, I mean, cooperating, to lower their combined taxes. One can wonder why Nuon and Essent were allowed to do this. An answer would be LITTLE OVERSIGHT and LITTLE COMPREHENSION of the deal among their shareholders, i.e., governments; and of course little interest or understanding by the public.

The two things go hand and hand, n'est pas?

There was a buyback clause somewhere in the 100-year lease agreement, just in case Nuon had to repossess the network for some reason. Say, for instance, by order of the Dutch government.

Which is what happened, effective July 1, 2008.

So now Nuon
a) no longer gets the expected benefit of its side of the deal
b) probably has to pay its U.S. partners for the unexpected losses on their side of the deal.

Without the details of the deal, it's impossible to know how much money Nuon lost as a result; things could have been hedged or insured in various ways.

But I believe the company itself bandied about numbers like 1 billion euros as their 'worst case' loss when they were lobbying against the Dutch government doing this.


How do I know all this stuff? A little bird told me. Otherwise stated: Nuon, feel free to contact me to deny it.

Or maybe I'm dead wrong. Still sure would be nice to understand why it is that Nuon is hiking rates, & energy prices were sky high for most of the 3rd quarter but they are still losing money.

Nuon shareholders, are you listening?
Dutch press? NRC?


Colin Brace said...

Not at all boring. Fascinating. One thing isn't clear to me from your story with regard to this cross-boarder lease: what was in it for NUON? You only mention that the US partner gets a tax write-off.

Toby Sterling said...

@Colin _ They split the benefit of the tax gain. On what basis (60-40?), it's hard to say. It's also hard to say what provisions they had in case Nuon was forced to sell the property (after having already sold it to the U.S. company and leasing it back). But presumably the ferocity with which they lobbied against the decision to split the network is an indication that it was very negative for them.

Somewhere in the argument papers filed at the time, they said that they stood to lose at least a billion euros as a result of the decision.

To give credit where credit is due, it was then-Economic Affairs minister Laurents Jan Brinkhorst who saw through the BS and said, (and this is a pretty direct paraphrase) 'the fact that these companies stand to lose money as a result of shady tax-dodging deals they struck in the US cannot be a reason for us not to make good policy.'

Splitting the generation from the networks is absolutely the right thing to do, in my opinion.

Anonymous said...

[i]They say part of the reason was losses on "fair value items" which I think means investments.[/i]

Fair value items are mostly inventory. As these energy companies buy the power and gas required for their customer portfolios over the course of years in advance, the market value ("fair value") of these positions shot up when energy prices rose (Q1 & Q2, record profits posted everywhere), and fell when prices went down (Q3). They will probably post another loss in Q4. All energy companies (Essent, RWE, E.On, etc) but all companies with commodity inventory like airlines, chemicals, steel, etc have been forced to write down these positions under IFRS accounting. Nothing too mysterious or sinister about that.

Toby Sterling said...

@Anon _ I think you're right, they lost a lot of money on commodities hedging. I won't make fun of them for that, since I don't think many people foresaw oil prices would explode then collapse in '08.

What I want to know is
-How much of their loss is attributable to commodities write down
-How much is attributable to the cross border leasing debacle.

If you look at the earnings report, you see that they mention commodities at the top, then the cross border hedge multiple times in the text, along with 'unbundling' (splitting) the network and generation activities.

Just out of curiosity, where did you find Essent's write-down?

Toby Sterling said...

@Colin, Anon _ If you have Dutch, you can check out what the companies themselves said about the size of the damages they would be facing from the Cross Border Leases if the network was split from generation (as happened in July).

They railed about the jobs it would cost, and played on nationalistic sentiment that it would make good Dutch companies easy prey for foreign investors as well (actually that one is probably true, but _ cry me a river).

And of course, they played the "stupidity card" by saying, hey, as dumb as we were to enter into these Cross Border Lease agreements, it's probably going to cost taxpayers EUR3.5 billion if you force us to get rid of them.

That's for the whole sector, and probably exaggerated.


I'd like to see the exact number, especially for Nuon and Essent. (I'm not sure whether Delta or Eneco had significant CBLs _ probably relative to their size, they did the same as the bigger co's).

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Anonymous said...

>>> some numbers on Cross Border Lease contracts DELTA N.V. <<<

from Jaarrekening 2004:

Verplichtingen inzake cross border leases per 31.12.2004: 3.598 EUR x1000

"Sale / Lease-back contracten
In voorgaande jaren heeft DELTA een aantal warmtekrachtinstallaties en windparken gerealiseerd. Een aantalvan deze activa zijn ondergebracht in sale / lease back constructies. De contante waarde van de contractuele verplichtingen bedraagt ultimo 2004 EUR 53,8 miljoen. Door deposito van de koopsommen zijn voor een bedrag van ca. EUR 45,0 miljoen zekerheden verstrekt; deze bedragen zijn als vorderingen opgenomen onder de financiële vaste activa.

Cross border lease G- en E-infrastructuur
Deze lease contracten zijn aangegaan in 1998 resp. 2000 en hebben een looptijd van ca. 23 jaar. In verband met deze transacties bestaan contractuele verplichtingen met een contante waarde van ruim EUR 450 miljoen. Deze verplichtingen hebben deels een onvoorwaardelijk, deels een voorwaardelijk karakter. De verplichtingen worden gecompenseerd door rechten van dezelfde omvang.
Tot meerdere zekerheid van de nakoming van de verplichtingen uit deze transacties is het recht van eerste en tweede hypotheek verstrekt op bepaalde gasstations."

>>> some numbers on Cross Border Lease contracts ESSENT <<<

from Jaarverslag 2000:

"In 2000 bedroegen de bijzondere baten EUR 40 miljoen. Het betreft hier met name de opbrengst verkregen uit het afsluiten van een cross border lease-overeenkomst met betrekking tot een aantal gasnetwerken."

"Door NV Mega Limburg, NV EDON en BV PNEM Leidingen zijn cross-border-lease-transacties aangegaan met
betrekking tot het grootste deel van de gasnetten. Deze activa zijn voor een langdurige periode, via daarvoor opgerichte groepsmaatschappijen, verhuurd aan derden. De betrokken derde partijen hebben deze activa weer onderverhuurd aan Essent Groepsmaatschappijen. Aan het einde van de overeengekomen looptijd van de onderverhuurperiode hebben deze het recht om de bij derden berustende rechten van verhuur te kopen. Zowel het juridisch als economisch eigendom zijn door de vennootschap behouden. Derhalve zijn deze activa opgenomen overeenkomstig de grondslagen die gehanteerd worden voor de overige materiële vaste activa van de Groep. Het nettovoordeel van deze transacties is in het betreffende boekjaar rechtstreeks ten gunste van het resultaat gebracht.
Door de NV VAM is een cross-border-transactie aangegaan met betrekking tot de vuilverbrandingsinstallatie te
Wijster. Het nettovoordeel van deze transactie is in het betreffende boekjaar rechtstreeks ten gunste van het resultaat gebracht."

In verband met lease-and-lease-back-transacties in 1998 bij NV MEGA LIMBURG gerealiseerd, bestaan contractuele verplichtingen en rechten met een contante waarde van USD 516,8 miljoen.
Door NV EDON zijn in 1998 en 1999 cross border lease transacties aangegaan, waarbij de contractuele verplichtingen en rechten een contante waarde vertegenwoordigen van USD 1.094,4 miljoen resp. USD 689,5 miljoen.
Door NV VAM is in 1999 een cross border lease transactie aangegaan, waarbij de contractuele verplichtingen en
rechten een contante waarde vertegenwoordigen van USD 460,0 miljoen.
Door Essent NV is in 2000 een cross-border-lease-transactie aangegaan, waarbij de contractuele verplichtingen en rechten een contante waarde vertegenwoordigen van USD 683,2 miljoen.
Naar de inschatting van de Raad van Bestuur zullen de verplichtingen en rechten volledig worden gecompenseerd."

some more on Cross Border Leasing:
the great Austrian documentary "Let's make Money"

specific for Dutch energy-companies: paper from Clingedael Institute "Ownership Unbundling of energy distribution in The Netherlands" -> the annex

emma - curious and breath-taken myself as well

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Toby Sterling said...

Wow!Thanks for that Emma. I guess not everybody was watching the game last night...
Of course your post reminds me that the Supreme Court (or other high court) has recently ruled against the splitting of the networks.
So there should be a windfall coming for all of these companies.
With the exception of the ones that have already been sold. I believe that the CBL deals are automatically unwound if there is a change of ownership. I'll have a look at this today if I have time.

Anonymous said...

toby, my post was published 5 times - I pushed the publish button 5 times because I got the note: comment too long. Please delete the 4 last posts - emma

On the Den Haag Gerechtshof-ruling: It seems that here's a lot of PR texting going on. The most recent EU-Richtlijnen are clear on the fact that energy companies should be unbundled. The background of these fights against the Splitsingswet lay in the Cross Border Lease transactions, and in the fact that RWE wants to build another kerncentrale with Delta.