Kelda joins the private equity party

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The unsuccessful Southern Water bidders have bagged a bigger prize – with no rivals to unseat them this time.

Yet another UK water group will disappear from the stock market at the year end and move to a highly geared financing model, after Kelda’s management agreed on 26 November to recommend an offer from a consortium of financial investors.

The Saltaire Water consortium, whose members comprise Citigroup Alternative Investments, HSBC, GIC Special Investments – the private equity arm of the Singapore government – and the Prudential Group’s Infracapital Partners, will pay £5.55 billion (including the assumption of just over £2.5 billion of debt) for the parent of Yorkshire Water.

The equity price represents a premium of 17.5% to Kelda’s closing share price on 21 November, the day before the company announced that it had received an approach. More significantly, the bid equates to around 134% of Yorkshire Water’s regulated asset value (RAV).

All the members of the Saltaire consortium (named after a town in Yorkshire) were involved in unsuccessful bids for Southern Water, which Royal Bank of Scotland sold for £4.2 billion in late September, and – while analysts do not entirely rule out the possibility – the premium they are offering makes the prospect of a rival bid unlikely.

Under the terms of the agreement, Saltaire will pay Kelda investors 1,090p per share plus a 10.65p dividend, which values the target company’s equity at just over £3.03 billion.

The consortium’s members are proposing to put up £1.47 billion of equity to finance their bid, and will raise at least a further £2.26 billion from two debt facilities – one arranged by RBS, HSBC and Banco Santander, and the other coming from an infrastructure fund managed by Deutsche Bank.

Given the assumption of Kelda’s existing debt, this will burden the group with around £4.8 billion of debt, which will significantly raise the leverage at the holding company level.

Kelda’s new owners will want to put a securitisation-style financing structure in place for Yorkshire – similar to those at Glas Cymru, AWG, Southern and most recently Thames – in order to minimise the cost of the debt for the regulated business. “Obviously it’s something we will consider at some stage,” confirmed one of Kelda’s bankers.

“That’s the only way you can really see it working,” added Neil Beddall, utilities analyst at Barclays Capital.

But Saltaire will not have the problem that Thames’ new owners had in August, when they had to complete such a refinancing in the worsening credit crisis, because it has secured medium-term acquisition finance for the deal, with maturities of of three to five years. Whether Ofwat will want to amend the Yorkshire licence to further safeguard the regulated utility’s credit rating remains to be seen.

The industry regulator is unlikely to welcome the switch of another traditionally financed company in the sector to the highly leveraged model, although it has no powers to determine companies’ financial structures.

Much will depend on Saltaire’s ability to project itself as a responsible owner. Kevin Whiteman, Kelda’s chief executive, insisted that the consortium’s members are “highly credible institutions taking a long-term view of our business”.

The consortium already seems to be thinking of Kelda as a springboard for further acquisitions in the utility sector, both in the UK and elsewhere in Europe. Juan Bejar Ochoa, the public representative for the group, said the acquisition offered “the potential to deliver further growth and investment opportunities”.