Buy British Energy
argues Evil Knievil of www.t1ps.com

British Energy has paid for many a lunch over the past couple of years. I have been shorting it aggressively Convinced that it was going bust I regarded it as the quickest way of making money since Cherie Blair and her ghastly husband turned freeloading into an art form. But, while the liar-in-chief and the wicked witch continue will continue to carry on sponging forever, other things have changed and I am now aggressively long of British Energy to the tune of five million shares. I admit my timing was not perfect - I am only running at break-even at this stage but I am expecting to trouser it in a big way over the next six months. In putting together this bull case I am most indebted to the publication Utilities Week - a must read in every household and whose words I have cribbed liberally.

The Bail Out

British Energy runs nuclear power stations. As such it has high fixed costs and always has a potential liability for decommissioning its plants when they come to the end of their useful lives. Its problems started when a slump in electricity prices meant that it was not covering those fixed costs which exposed the fact that its borrowings were unsupportable. It was this that allowed me to profit so greatly on the short tack.

Then the Government stepped in with a "rescue" plan. Surprisingly for a body which shows an ability to waste taxpayers' cash of unmatched proportions this did not involve a huge bail out. Instead it involves the Government, bond-holders, BNFL, other creditors and an array of vastly overpaid parasites (i.e. advisors on a success only fee) reconstructing the business such that equity holders will be diluted to obliteration. This motley crew are determined that their proposed reconstruction goes ahead and the board seems happy to play ball but any such proposal must be agreed by shareholders and I think that the times they are a changin'.

If the reconstruction proceeds, existing shareholders will be diluted to 2.5% of the equity plus warrants to buy a further 5%. Since 65% of free cash flow will be diverted to the Nuclear Liabilities Fund (i.e. decommissioning), this 7.5% becomes an economic interest of just 2.6%. This is clearly not an attractive proposition and if it goes through the shares, at 7.65p may be overvalued. However, I think that even on the current reconstruction terms, 15p-25p will prove to be the eventual outturn.

In the interim results, announced in December, and again with the latest quarterlies British Energy warned shareholders that if they did not support the proposed reconstruction by approving either a scheme of arrangement or the disposal of the company, the shares would be de-listed and the reconstruction completed anyway. But if it can be shown that the company is a going concern without the reconstruction, Turkey's won't vote for Christmas and shareholders (who have to approve any deal) will block it.

The Upside from a No Vote

The disposal of British Energy's 50% interest in Amergen, netted 160 million pounds. This repaid the 94 million owed to the Government so removing its ability to force insolvency by calling in its loan. It leaves three groups of creditors to be satisfied from the remaining 66 million pounds, the 20 million pounds of other cash, any cash flow from trading since 12th December and any cash that can be released from the 359 million pounds tied up in trading collateral.

Group one are the bondholders, owed 408 million. The 2003 bonds have matured, but British Energy can probably pay the 110 million pounds owed to the holders from its cash. The 2006 and 2016 bonds may be in default even though their interest continues to be paid. They are very generously treated in the proposed reconstruction, as a result of which the bonds are trading well above par. They may have the right to put British Energy into receivership if the reconstruction is voted down, but it would not be in their interest to do so. In a liquidation, they would receive very little, whereas, if British Energy continues to trade, they will continue to receive interest and can be repaid in full on redemption.

The second group of creditors are the Banks who lent 475 million pounds to finance the purchase of the 2000 MW coal-fired Eggborough power station. They are being offered 150 million pounds in new bonds and 14% of the new shares being issued, worth some 150 million pounds at 5p each. The value of Eggborough has risen significantly in the last year. It is half the size of the Drax power station, and, like Drax, is being fitted with a Flue Gas Desulphurisation plant, due for completion this year. In December, Drax's creditors rejected an offer by International Power to buy up to 36% of its equity and 15% of its debt. Since then, the value of Drax's debt in the secondary market has continued to rise, and Drax is now valued in the market at about 1.25 billion pounds . This suggests that Eggborough is worth closer to 600 million pounds than the 300 million pounds it is valued at in the secondary debt market. If the reconstruction fails, the Eggborough banks will be significantly better off whether or not the power station is sold.

The third group of creditors are the three parties claiming 316 million pounds in relation to onerous trading contracts. Two of the contracts, accounting for half the total, were terminated in 2003, making their claims payable. The third contract, with Teeside Power, may be renegotiable. The sharp rise in electricity prices makes this contract to buy high-priced electricity no longer a financial liability, but 158 million pounds must still be found to satisfy the other two.



In the short term, British Energy would struggle to satisfy these creditors, but given time, the prospects look better. 75 million pounds was absorbed into working capital in the first half of 2003/4, which may be reversible. The Board is "exploring initiatives to reduce the demand for trading collateral," which should diminish as the forward sales run out. Halving the collateral would release 180 million pounds.

And Critically...

The strength of electricity prices means that British Energy will be highly cash-generative when it can take advantage of current prices, and only half of output for the year to 31st March 2005 has been sold forward at low prices. Implementation of the Emission Trading Scheme, due to start on January 1st, 2005, could add a further 10% to electricity prices, increasing profits and cash flow by 160 million pounds per annum. What British Energy's shareholders need is time.

Fortunately, the bureaucracy and delays of the European Union are working in our favour. The EU is not expected to reach a decision on the restructuring until the middle of 2004, delaying a shareholder vote until the Autumn. With luck, if it runs true to form the EU will take longer, postponing the vote until 2005. This gives more time for cash flow to build up and for the prospects to look more secure. It also gives larger shareholders time to prepare an alternative plan. This is necessary because British Energy is firmly committed to the restructuring. Shareholders cannot look to their Board to safeguard their interests and indeed should think about handing out P45s liberally to the top table.

While negotiating with the creditors is the short-term priority of such a plan, there are other considerations. If the reconstruction is voted down, it is quite possible that the government will force the reconstruction through by Act of Parliament, leaving shareholders with nothing. But does this sordid little Government really want to repeat its Railtrack fiasco with an election looming?

The key to this gamble - and I admit it is such - is that electricity prices are increasing which makes a big difference to cashflow. If shareholders are given time to work out an alternative plan, British Energy will still need to raise cash via a rights issue but it is not ludicrous to suggest that current investors will be left owning 65% of the company rather than 2.5%. In other words the shares would be worth 150p each and possibly rather more.

There are obvious risks. The board might steamroller shareholders into accepting a deal that is patently not in the interests of shareholders. Electricity prices might fall. Big shareholders might cave in cravenly. The EU might whizz through approval giving shareholders no time to organise. Okay, there is no risk of the EU being efficient that was my little joke. But there are risks. If I am wrong these shares could conceivably be overvalued but could even in this scenario head up towards 20p. But if I am right 150p here we come. On a risk reward basis that looks good to me.

Key Data

EPIC: BGY
NMS: 150,000
Market Cap: 47 million pounds
Market: Full
Spread: 7.6-7.7p

British Energy sets nuclear output target of 64.5 TWh for 2004/05 - UPDATE

(Adds details) LONDON (AFX) - British Energy PLC has set an indicative target for nuclear output for 2004/05 of 64.5 TWh which takes into account an estimated loss of 2.5 TWh resulting from work required to carry out cast iron pipeworkreplacement at its stations.

The move follows a review of the implications for further cast iron pipework replacement after the recent unplanned outage at Heysham 1. The cost of the replacement work will be absorbed within the company's
normal plant expenditure plans, British Energy said.

The anticipated level of nuclear output in subsequent years is not affected by the work.

The measures are unlikely to materially impact results for the current year, but may exceed the levelof budgeted investments in the future. British Energy plans to give an further update with its full year results.

British Energy reiterated, that, if it is unable to implement the proposed estructuring, insolvency remains a possibility, leavingshareholders with little hope of seeing any cash and unsecured creditors receiving only a small proportion of what they are owed.

newsdesk@afxnews.com

Neutral (Short term) - Mar 19, 2004
Has risen 64% since the bottom on 17 Dec 2003 at 4.03. Is within a falling trend and continued decline within the current trend is indicated. On reactions back, there is resistance against the ceiling of the trend channel. The stock is approaching the support at p 6.20, which may give a positive reaction. The average difference between the lowest and highest price of an average month is 89%. The risk is therefore high.

Weak Positive Candidate (Medium term) - Mar 19, 2004
Has fallen 92% since the peak on 30 Aug 2002 at 84.50. Is within an approximate horizontal trend, which indicates further development in the same direction. Has reacted back after the break of the rectangle formation. There is support around 6.28, which now indicates good buying opportunities. An established break through this support will neutralize the positive signal. The stock has marginally broken down through the support at p 6.80. An established break predicts a further decline. The average difference between the lowest and highest price of an average month is 89%. The risk is therefore high.

Positive Candidate (Long term) - Mar 19, 2004
Has fallen 99% since the peak on 20 Jan 1999 at 730. Is within a falling trend, which indicates a continued decline. Has reacted back after the break of the rectangle formation. There is support around 6.28, which now indicates good buying opportunities. An established break through this support will neutralize the positive signal. The stock has support at p 3.50 and resistance at p 255. The average difference between the lowest and highest price of an average month is 89%. The risk is therefore high.

Hi Sue,

Just had a very quick look at this one. I'm always on for a little gamble, hence my recent purchase of shares in Millwall FC.

But in this case, the downside for shareholders post restructuring is surely massive dilution. If insolvency ensues the downside is ZERO.

What kind of upside do you see, prior to an announcement from the Secretary of State, that would justify a gamble in this company?

TSQ.

One can also read the contents of Sue's last 3 posts on http://www.investtech.com! :o)

One of the main risers today which is a surprise.. still much better than poor MT..

Spiked up 1/2p this morning and there is plenty of volume the last 3 days; perhaps they will get even higher in the course of time say around May time..

MAY...I wanted them to pay for a holiday before then. Oh well...

sue helen . view on the recent rise?

any price expectations short term

I am holding on for at least 10p.....hows that for a short term target..I would like to hear from Sue Helen as well..

Hi guys, been very busy lately hence the lack of posts.

Today was rather interesting, with good volume and some very big buys reported towards close. The price needs to break the 8 pence resistance first and if we have good volume then I would think 12-13 pence should be achievable in the short term. In addition, need Automatic Trades (buys) going through like today.

Something is definetely brewing here again.

Investtech Analysis:

Neutral (Short term) - Apr 5, 2004
Has risen 86% since the bottom on 17 Dec 2003 at 4.03. An approximate horizontal trend is broken up. A continued strong development is indicated, and the stock now meets support on possible reactions down towards the trend lines. Has risen strongly since the positive signal from a inverse head and shoulders formation at the break through the resistance at 7.00. The objective at 7.42 is now met, but the formation still gives a signal in the same direction. The stock is approaching the resistance at p 8.00, which may give a negative reaction. The average difference between the lowest and highest price of an average month is 60%. The risk is therefore high.

Positive Candidate (Medium term) - Apr 5, 2004
Has fallen 65% since the peak on 25 Sep 2002 at 21.19. Has broken through the floor of a rising trend channel. This indicates a slower rising rate at first, or the start of a more horizontal development. Has reacted back after the break of the rectangle formation. There is support around 6.28, which now indicates good buying opportunities. An established break through this support will neutralize the positive signal. The stock has broken up through the resistance at p 7.00. This predicts a further rise. In case of negative reactions, there will now be support at p 7.00. High risk.

Positive Candidate (Long term) - Apr 5, 2004
Has fallen 99% since the peak on 20 Jan 1999 at 730. Is within a falling trend, which indicates a continued decline. Has reacted back after the break of the rectangle formation. There is support around 6.28, which now indicates good buying opportunities. An established break through this support will neutralize the positive signal. The stock has support at p 3.50 and resistance at p 255. High risk.

price up on good volume

Now up 10% on very strong volume.. you were right on with your comments yeaterday Suehelen.. something is happening behind the scenes.Did it really spike to 14p..?

LONDON (AFX) - CGE Power, a company set up by six leading banks to buy financially distressed UK power stations, is to raise 2 bln stg of bank debt to fund its proposed spending spree, reported The Times without citing sources.

The report said the move is a change in strategy for the group, which has been trying to buy power stations by offering the stations's creditors debt in CGE in return for their existing debt.

The report says the cash injection is expected to help to bring to a head negotiations over several plants, including Drax, Europe's largest coal fired power station.

CGE, which is backed by four British high street banks - Abbey national PLC, Royal Bank of Scotland Group PLC, HBOS PLC and Lloyds TSB Group PLC- and two German banks, has been competing with established electricity generators, including Scottish Power PLC, to buy distressed assets.

mps/lam

Good call- SueHelen - maybe not such a lifetime gamble after all, done the 1 bagger heading fot the 2 bagger +++++ now.
Well done that girl....