Microsoft word - ewpo monthly report july 2004.doc

Ecofin Water & Power Opportunities Plc – July 2004 Update

The following is a report on the Company’s performance and investment activity through the
month of July 2004. All information is unaudited.
Performance
31 July 2004 1 month 3 months 12 months Since launch*
Assets
Gross Assets

Income Shares
Income Share Price

Capital Shares
Capital Share Price

Units***
Unit Share Price
* Based on a share price of 100p and the NAV on 27 February, 2002, net of initial expenses associated with the organisation of, and placement of shares in, the Company. ** Share price ÷ total dividends paid over last 12 months *** A “Unit” is made up of two Income Shares and one Capital Share. Sector Analysis
% of gross
Country Analysis
% of gross
Top Ten Investments
% of gross

Review of July
In July, your Company’s gross assets declined by 0.7% compared to a decline of 1.6% in
the FTSE All Share index. Over the month, the Dow Jones Euro Stoxx index of European
Euro-denominated markets fell by 4.4% and the U.S. S&P 500 index fell 3.5%, both in
sterling terms, as markets declined on concerns about the economic outlook, rising interest
rates and developments in the Middle East. In July, the FTSE Utilities index rose 2.2%
while the Dow Jones Euro Utilities index fell 2.3% and the U.S. S&P Utilities index rose
1.3%, both in sterling terms.

July was an exceptionally busy month for the European utilities with companies reporting
first half figures. July also saw the announcement of a number of acquisitions and
disposals, as well as two rights issues. The European sector finished the month up 0.8%
with the best performers being Fortum (+9.3%) and International Power (+7.2%). Pennon
was the worst performer in the sector over the month, down 9.1% (including the impact
of the stock going ex-dividend).
In the UK water sector July was a month of waiting…. for August. There was little
newsflow with the reporting season completed in June and the forthcoming Draft
Determinations for the regulatory review due to be announced on 5th August. Water shares
lost some ground over the month with Pennon and Northumbrian Water being the weakest
performers. Kelda shares were up 4.3% during the month reflecting investor interest in the
company’s dividend (due to be paid in August).
In France, Veolia Environnement announced the sale of Culligan, its US bottled water
business, and, towards the end of the month, the disposal of its stake in Spanish
construction group FCC. Although both deals were expected by the market, there was
some disappointment in the prices achieved and Veolia Environnement’s shares fell 4.2%
over the month. Suez continued the disposal theme and underlined its apparent lack of
enthusiasm for the international water business by announcing the sale of a 30.1% stake in
Chilean water business Aguas Andinas to Agbar. Suez finished the month down 3.1%. In
France, the Senate signed off on the change of status of EDF and GDF as public
companies, which opens the door for the part privatisation of both companies.
In Iberia the principal companies announced their first half earnings numbers. Figures were impacted by the current dry spell in the region, and also reflected the relatively low Spanish electricity pool price and high fuel prices. Iberdrola kicked off the reporting season with numbers marginally below expectations, and this was broadly the case for the other companies. The only company to buck the trend was EDP, which reported a strong set of figures, beating expectations. EDP also announced its intention to raise its stake in Cantábrico from 39.5% to 95.7%, funded by a EUR1.2bn rights issue. The structure of the deal would also see the government’s current 25% stake reduced to around 15%. The shares finished the month down 4.1%, the worst performer in the region over the month. Endesa was down by nearly 2% in the month, while Gas Natural fell 1.7%. Enagas was the only stock to buck the negative trend in Iberia, ending the month up by 0.7%. In Germany, the main news in the month was the signing of a memorandum of understanding between E.ON and Gazprom on cooperation in gas production and power generation in Russia; gas transport into Europe (including joint construction of the North European Gas Pipeline) and gas and power marketing infrastructure in Europe. The shares did little in response to the announcement with the market recognising that in Russia it is easier to announce plans than it is to implement them. E.ON finished the month broadly unchanged, while RWE shares finished July up 4.5%. In Italy Enel completed the long awaited sale of its real estate assets. The price was EUR1.4bn, in line with market expectations. Rumours also began emerging of another placement of Enel shares by the Italian state, possibly ahead of the payment of the special dividend later in the year. Enel shares finished the month up 1.0%. News of acquisitions in the UK closed out the month. International Power surprised the market by bringing forward its half year results release, but also announced the acquisition of the Edison Mission Energy international asset portfolio, a GBP300m rights issue and a conclusion to the restructuring of its US debt facility. The market responded well to news and the shares finished the month as the second best performer in the sector, up 7.2%. International Power’s slew of announcements threatened to overshadow the announcement by Scottish & Southern of the acquisition of the 4,000MW Fidder’s Ferry and FerryBridge coal fired stations. SSE was up 6.6% on the month as the shares performed ahead of their ex-dividend date on 25th August. July was also a busy month for the American utilities with several important developments, and companies reporting second quarter earnings. Edison International (EIX) had the big news with the announcement of a major sale of international assets for $5.5B including assumed debt. Management indicated that after tax equity proceeds of some $2 billion, including the previously announced sale of its stake in the New Zealand company Contact, would go towards further debt reduction at the Edison Mission Energy unregulated subsidiary. Management gave guidance for 2004 and said that guidance for 2005 would come in the fall. This was another in the long series of sales, restructurings, and recapitalizations that the industry has undergone following heavy reversals of investments in the unregulated power industry and overseas acquisitions. Illinois commission chairman Ed Hurley spoke to a group of analysts in New York last month on the lengthy post-2006 proceedings in the state. The most affected stocks are Exelon (EXC), Ameren (AEE), and Edison International (EIX). Our interpretation was that Hurley sees considerable conflict between the consumer groups, who want to hold down Exelon’s prices, and the utilities that would like to see an auction process as in New Jersey. Hurley said, for example, that he did not even know how the NJ auction would work. However, even a rate freeze would be reasonably supportive for Exelon, in our view. So far this earnings season, we have seen a marked increase in shareholder-oriented uses of cash flow from many of the stronger companies in the sector. In conjunction with second-quarter earnings, companies such as Exelon, FPL Group, and Dominion Resources announced surprise dividend increases. In a similar vein, Entergy announced a $1.5B share buyback on August 2. Despite the increased return of cash to shareholders, these companies will all continue to have sufficient capital available to fund growth opportunities when they arise. These previously low-yielding stocks with strong balance sheets and solid earnings growth potential have now become stocks with high yields, strong balance sheets with their earnings growth potential unimpaired. For example, Exelon’s yield based on our estimated 2005 dividend is now 4.7%, well above the average electric utility yield in the U.S. In addition, because we estimate that these companies will have above average earnings growth over the next several years, dividend growth will also likely follow at an above average rate. In a rising interest rate environment, we believe this will be an especially important reason why these companies should outperform low-growth, high yield companies. Another trend that surfaced during the second quarter earnings announcements was the decline of retail marketing gross margins during the second quarter. Great Plains Energy (GXP) and Constellation Energy (CEG), two of the largest retail marketers, confirmed experiencing some margin erosion since the beginning of the year. Interestingly, Northeast Utilities (NU) indicated that the roll-off of some less profitable retail contracts has left its retail marketing unit better off versus prior years. Clearly the information from GXP, CEG and even NU indicate that the retail marketing business is experiencing increased competition—and that’s no shock—but what took investors by surprise, perhaps, is the pace at which margins have been declining. Also of interest is that both GXP and NU have said they would expect to return to higher margins at some point, as more markets deregulate and more and different types of customers begin to switch suppliers. While we would certainly view increased deregulation and switching as definite positives for retail marketers, we have yet to witness either trend take off. As such, we believe the margin pressure will continue for the foreseeable future.

Source: http://www.ecofin.co.uk/eco/uploads/monthreview/jul2004.pdf