Ongoing surges in gas and power prices in Europe will likely be dominant drivers of performance for utilities during the fourth-quarter 2021 earnings season. Electricity and gas bills continued to rise for industry and households, and regulatory interventions emerged in response.

However, the impact of any profit clawbacks on utilities was less severe than some in the industry feared when the price surge began building in late September 2021. Utility bosses fired warnings toward lawmakers in October, urging them to refrain from "short-sighted" market interventions to ensure investment keeps flowing and the energy transition stays on track. A planned clawback in Spain was weakened after review, saving Enel SpA subsidiary Endesa SA from a €110 million hit.

As a result, analysts surveyed by S&P Global Market Intelligence expect most utilities to post higher EBITDA in the fourth quarter when compared to both the year-ago period and the preceding three months.

Germany's 'major challenges'

In Germany, Europe's largest energy market, the fourth quarter brought visibility to legislative priorities on decarbonization, as the new traffic light coalition government of the Social Democrats, Green Party and Free Democrats presented its policy plan in November. Coal-fired power generation is now set to end in 2030, years sooner that previously agreed. Meanwhile, the road is being cleared for ramped-up onshore wind and solar deployment, with more land being made available and permitting procedures sped up.

Utilities largely welcomed the plan. "The coalition agreement is ambitious — and that's right, because our country faces major challenges," Uniper SE CEO Klaus-Dieter Maubach said in an emailed statement in November. "I particularly like the approach of proceeding as simply, unbureaucratically and efficiently as possible. I'm hoping for a real jolt in speeding up planning procedures, because these are a millstone around the neck of any major project."

Another German power producer, RWE AG, is already pivoting its strategy to focus mainly on renewables, presenting a €50 billion spending plan to that end in November. But as power markets tightened in the last quarter of 2021, RWE ramped up coal-burning in Germany.

Margin calls raise eyebrows

The energy crunch brought margin calls to the fore; the otherwise rare financial warnings are made during periods of substantial cash outflow and liquidity problems.

If a utility sells one gigawatt hour at a fixed price, it will have hedged the variable cost of producing that power, for instance coal and CO2, and locked in a certain spread. If power prices rise beyond the level at which the electricity was sold, the utility has to deposit a variation margin representing the difference between that price and the power price, leading to a temporary cash outflow.

As gas and power prices spiked, these normally minor variation margin outflows also surged. In response, Uniper was forced to take out a €10 billion credit facility to weather what it said were temporarily higher margining requirements. Of that, €8 billion came from majority owner Fortum Oyj, and €2 billion from German state-owned bank KfW.

"The sheer size of the credit line raised a few eyebrows and led to questions of whether this could be an issue for the whole sector," Lueder Schumacher, an equity analyst at Société Générale, said in a Jan. 6 note.

The impact may not be so temporary. While the surging energy prices were initially seen as a short-term issue resolved after the winter, commodity forward curves now reflect an expectation of sustained high prices. If all parties in the market can find credit lines to cover their requirements, margin calls do not pose a problem, Schumacher said.

"However, given the unprecedented nature of the price moves we have seen, it is somewhat surprising that there have not been more casualties so far," the analyst added.

Upbeat outlook

Looking ahead at 2022, analysts at CreditSights are mostly upbeat on European utilities. "Ratings mostly have stable outlooks, the elevated power prices will likely bring benefits, and, even if they mean the utilities need to be extra vigilant about liquidity management, they all have easy market access, good banking relationships and reasonable cash balances," the analysts said in a Jan. 21 note.

European Union efforts to speed up the energy transition and meet ambitious climate targets are set to funnel further investments into networks and renewables, the analysts added.

One exception, according to CreditSights, is British utility SSE PLC, which remains the target of hedge fund Elliott Management Corp. around a possible spinoff of its renewables division in a bid to target more sustainability-minded investors.

France's state-controlled Electricité de France SA also faces a more challenging outlook. New laws targeting surging power bills will force the nuclear giant to up the volumes it sells to competitors at a fixed price under what is known as the ARENH mechanism. Meanwhile, technical problems are plaguing several reactors in its fleet.

While the precise financial consequences of the government's measures are yet to be determined, EDF said it expects its 2022 EBITDA to be impacted by between €7.7 billion and €8.4 billion, depending on market prices.