Stewardship Highlights: AGL's Proposed Demerger | BetaShares

Stewardship Highlights: AGL’s Proposed Demerger

BY Greg Liddell | 12 May 2022
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AGL demerger

BetaShares has been engaging with the Board of AGL Energy, and Mike Cannon-Brookes’ Grok Ventures, about the proposed AGL demerger. BetaShares Director – Responsible Investment, Greg Liddell, answers some questions about the upcoming shareholder vote.

Q: What’s happening with AGL?

A: The Board of AGL Energy is proposing to split the company into two, with the electricity and gas retail business to be called ‘AGL Australia’, and the electricity generation business to be called ‘Accel Energy’.

Q: Why is AGL’s Board proposing to split the company?

A: AGL’s share performance has lagged the market in recent times. From a high of $28.47 in April 2017, the share price fell to a low of $5.10 in November 2021. Currently it is trading around $8.30. The fall has largely resulted from the impact of deflationary renewables, particularly rooftop solar, on the value of AGL’s coal-fired power stations. In FY2021 AGL wrote down the value of its coal and gas generation fleet by $1.4 billion. Managing the risk of thermal coal assets becoming stranded has been a challenge for energy utilities for some years. However, it’s hard not to compare AGL’s strategy with a company like NextEra in the United States (the world’s largest investor in renewable energy for over a decade), that has prospered from being at the forefront of the transition to clean energy.

The Board believes the company will be more flexible and better able to adapt to the rapidly changing nature of energy markets as separate businesses. This would also include better access to capital markets for the retail business. Accel Energy would focus on paying down debt and returning cash to shareholders. It has plans to develop renewable assets through a ‘ringfenced’ investment vehicle in partnership with a large overseas infrastructure manager, Global Infrastructure Partners (GIP), but this is relatively modest.

Q: What are the downsides to the proposed demerger?

A: Grant Samuel, an advisory firm which has prepared the independent expert’s report, has identified several disadvantages. Implementation of the demerger would cost an estimated $260 million, as well as $35 million a year in additional corporate overhead. Accel’s interest costs would rise by 1.2 – 1.4% ($12 million – $14 million) per annum due to a downgrade in credit rating and the company would also lose a deferred tax benefit in relation to the Loy Yang power station of $125 million.

Q What are the risks of the demerger?

A: In relation to AGL’s retail business, there is little doubt the demerger makes sense. There are a lot of risks in running an energy retailing business and the demerger doesn’t appear to create any major new risks.

The risk falls more on the Accel Energy side. In the immediate term, it’s possible that Accel Energy may be sold down by ESG focussed investors because of the high percentage of its revenue coming from fossil fuels, and may drop out from the ASX 200, which will result in further index selling.

The aging coal fired power stations are also at risk of becoming stranded assets, with declining reliability and increasing CAPEX to keep operational. Firstly, they will be exposed to considerable climate policy risk. For example, an emissions reduction target of 43% by 2030 as proposed by Federal Labor, could only be achieved with substantial decarbonisation of the National Energy Market (NEM). Secondly, many (if not most) of AGL’s largest corporate clients have announced their own plans for net zero. Australia’s single largest user of electricity, the Tomago aluminium plant, intends to switch to 100% renewable energy by 2029. If Accel Energy runs Bayswater and Loy Yang A with an intention to decommission in 2033 and 2042 respectively, including ongoing maintenance CAPEX spending, that might be a worse outcome for shareholders than a planned earlier decommissioning.

Q: Is there an alternative approach? What does Mike Cannon-Brookes have to do with all this?

A: Well-known tech entrepreneur Mike Cannon-Brookes is proposing an alternative approach that would keep the company together and accelerate the decommissioning of the coal fired power stations. His investment vehicle, Grok Ventures, in partnership with Canadian private capital firm Brookfield, made a bid for AGL of $8.25 per share that was rejected by the Board. Cannon-Brookes has since announced that he has acquired an 11.28% holding in AGL and is actively campaigning against the demerger.

Q: Will the demerger get shareholder approval?

A: This is impossible to say. AGL shares are widely held, with 60% owned by retail investors. If all voters vote, which is very unlikely, Cannon-Brookes only needs to find 14% of votes to block the demerger. It depends on how much trust shareholders have in the current Board, and that trust may have been impacted by recent performance.

Q: What has BetaShares been doing?

A: BetaShares has met with senior management at AGL Energy, representatives of Grok Ventures and has reviewed in detail the information provided by the Board and the experts opinion provided by Grant Samuel. We will be meeting with our proxy advisor, ISS, and other stakeholders, including the Australasian Centre for Corporate Responsibility, before making a decision on how to vote our shares at the special shareholders meeting on 15 June 2022.

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