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Turning up the heat: M&A in the renewable energy sector


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This KPMG report was written in co-operation with the Economist Intelligence Unit and is based on a survey of 202 senior executives from across the global energy industry, conducted in February 2008. …

This KPMG report was written in co-operation with the Economist Intelligence Unit and is based on a survey of 202 senior executives from across the global energy industry, conducted in February 2008. Respondents were senior representatives, 50 percent with executive boardroom positions, from power generators, oil & gas majors, renewable energy suppliers, energy distributors and financial investors. A range of company sizes were represented, including some of the biggest, with one in five having revenue of more than US$10bn. About 35 percent of respondents were based in North America, 30 percent in Europe and 22 percent in Asia-Pacific.

Supplementary to the survey results,interviews were also conducted by the Economist Intelligence Unit with the following senior executives:

Scottish and Southern Energy – Rhys Stanwix, Head of Energy Strategy
Suzlon Energy – Vivek Kher, Head of Communications
Babcock & Brown Wind Partners – Geoff Dutaillis, COO
Viridis Clean Energy Group – Ed Northam, CEO
Iberdrola Renovables – Estanislao Rey-Baltar, CFO
Macquarie Group – Ian Learmonth, Executive Director, European Renewables Business

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  • 1. Turning up the heatAn insight into M&Ain the renewable energy sector in 2008A DV I S O RY
  • 2. © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 3. ContentsChapter pageForeword 2About the research 3Executive summary 4The competing technologies 6Who is buying and why? 8Regionalization or globalization? 13Heading towards a bubble? 15The role of government 20Other KPMG Thought Leadership 23Background 25 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 4. 2 Foreword / Turning up the heatForeword Andrew Cox Our report into M&A in the renewable build new wind farms. All this is also Partner, KPMG in the UK energy sector has revealed an putting aside one the most basic risks Global Head of Energy and Utilities explosion in the number of deals. of all - that investors are putting for Transaction Services Analysts estimate that 2007 saw money into technology that could US$55.7 billion in M&A transactions ­ become obsolete very quickly. up by 47 percent on the year before. Yet, while teething problems certainly While the reasons for this are varied ­ do exist, early investment made now power generators are buying to meet in renewables could prove an regulatory targets, oil and gas majors insightful move in years to come. It is are buying in the hunt for cleaner clear energy companies and investors fuels and financial buyers are should review their acquisition searching for stable long-term cash strategies and evaluate the risks and flow - the overall effect has been to opportunities. The activity that Im push valuations up to record levels. In currently seeing points towards fact, 50 percent of respondents, and exciting times ahead for all those nearly two-thirds in Europe, agreed involved in the renewable that there is a real risk of a bubble in energy sector. the renewable energy sector. Despite this, the survey shows that competition for deals is likely to increase, as will the pace of consolidation, but at what cost? Some industry players appear to be ignoring the many risks involved in investing in renewables, such as the ability of national governments to change their green energy policies. On a more micro level, there are other issues including the fact that many sites have difficulty connecting to electricity grids and there is a shortage of turbines to © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 5. Turning up the heat / About the research 3About the researchThis report was written in co-operation Supplementary to the survey results, • Scottish and Southern Energy – with the Economist Intelligence Unit interviews were also conducted by the Rhys Stanwix, Head of Energyand is based on a survey of 202 senior Economist Intelligence Unit with the Strategy executives from across the global following senior executives: energy industry, conducted in February • Suzlon Energy – Vivek Kher, Head of 2008. Respondents were senior • Babcock & Brown Wind Partners – Communications representatives, 50 percent with Geoff Dutaillis, COO executive boardroom positions, from • Viridis Clean Energy Group – power generators, oil & gas majors, • Iberdrola Renovables – Estanislao Ed Northam, CEO renewable energy suppliers, energy Rey-Baltar, CFO distributors and financial investors. A range of company sizes were • Macquarie Group – Ian Learmonth, represented, including some of the Executive Director, European Businesses represented biggest, with one in five having Renewables Business by survey respondentsrevenue of more than US$10bn. About35 percent of respondents were based Financial in North America, 30 percent in investor Europe and 22 percent in Asia-Pacific. 22% Power generator/supplier 38% 21% 19% Lender or advisor Oil & gas/extractive firm Location of survey respondents Middle East & Africa North America 14% 34% Asia Pacific 22% 30% Europe Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 6. 4 Executive summary / Turning up the heatExecutive summary The rate and size of mergers & Industry executives believe a bubble up a presence in the market, given the acquisitions (M&A) activity in the may be developing. One-half of the lengthy lag times in developing newrenewable energy sector has been respondents polled for this report sites, even though greenfield growing rapidly. Analysts estimate agreed that a bubble in the renewable development can be more profitable.that 2007 saw US$55.7bn in M&A energy sector is a “real risk” with high , “The only way to enter this sector transactions - up by 47 percent valuations noted as being by far the heavily is really to acquire other from 2006. Although most deals leading cause for the failure of M&A companies," says Estanislao Rey- are relatively small, blockbuster efforts in the last three years. Baltar, CFO of Iberdrola Renovables. transactions crop up regularly: Valuations have continued to rise and Accordingly, 68 percent of executives during 2007 for example, , there have been a number of deals polled see competition for M&A Portugals EDP snapped up US- recently completed where enterprise targets increasing over the next three based Horizon Wind Energy for value per operating MW acquired has years. US$2.15bn, E.On entered the US hit the US$4-5m mark, representing a market with the US$1.4bn willingness by many acquirers to pay The pace of consolidation will acquisition of Airtricity North significant premiums for their targets. accelerate, but not for all America, while Indias Suzlon But judging appropriate valuations is technologies. Roughly 60 percent of entered the European market by tricky due to the role of government executives surveyed expect to see acquiring the German firm, targets and regulations and the further consolidation in wind, solar and REpower, for US$1.6bn. Big deals significant development pipeline that biofuels - indeed, 30 percent expect to are still happening in 2008: comes with many of the targets. The purchase such a company themselves Scottish and Southern Energy problem is that, as Rhys Stanwix, between now and 2010. The figures (SSE) recently bought the Irish Head of Energy Strategy at SSE, puts are about half for hydro, and even lessfirm, Airtricity, for about US$2.2bn, it, renewables represent “an artificially for tidal. This is purely a question of while Babcock & Brown Wind created market driven by concerns economics: wind especially, but solar Partners has announced its about climate change and security and biofuels to a lesser degree, are intention to sell off some of its of supply” . becoming more financially viable and European wind assets, which have pricing structures designed to market speculation predicts could Competition for M&A deals is likely support them as the technology generate proceeds of € 3-4bn. Ed to increase. A number of factors improves. Eight out of ten Northam, CEO of Viridis Clean appear to be constraining growth in respondents expect them to see Energy Group, talks of an the industry, ranging from delays in moderate to substantial growth. Hydro “explosion in interest" in the obtaining planning permissions to has long been profitable, but has little market. But where is all the develop sites, to a shortage of key growth potential, and tidal technology activity headed? materials, such as wind turbines, or is still a long way from being specialized equipment, such as commercially viable on a large scale, vessels to develop offshore wind with dozens of competing farms. Until some of these constraints technologies all vying ease up, the rush to meet renewable for investment. energy targets may continue to boost valuations. In part, this is because M&A is the only way to quickly build © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 7. Turning up the heat / Executive summary 5M&A activity varies according to Consolidation appears to be Government is both a driver ofthe distinct interests of different primarily regional, although some growth and a barrier to it. Politicalbuyers. One common factor, global renewable energy businesses initiatives to achieve major climatehowever, is that the big are are also starting to appear. Two- change targets, such as the Kyotoswallowing up the small. Major thirds of survey respondents expect Protocol and Europe’s planned 2020energy companies and renewable national and cross-border consolidation carbon reduction goals, have servedenergy specialists are the main to increase in the coming years. as key drivers for growth in theinvestors in this sector, according to However, cross-border activity to date renewable energy sector. Thisthe survey, although other types of is focused on regional purchases: nine presents something of a paradox ininvestor have become more prominent in ten of those buying a renewables the renewable energy industry, asduring recent times, particularly company in Canada were from North government also acts as a barrier toinfrastructure and other specialised America, and five of the top six growth. Among the key factors drivingfunds. Among energy firms, power investment destinations for Europeans up valuations is that the actual numbercompanies are the most active in were EU countries, although the last of renewable energy sites constrainedacquiring renewable energy players, 18 months has seen several major - permissions to build new wind farmsespecially wind farms. Executives in European utilities entering the US or solar arrays are tough to secure. Inthe oil & gas majors appear to be renewables market. Looking ahead, the UK, for example, commentatorsmore drawn to biofuels, probably as a respondents see their respective believe that there are around 9 GW ofdirect replacement for their current region as the one having the greatest wind energy tied up in the planningproducts. Renewables specialists, growth potential. How far global firms process, and there are recentmeanwhile, expect to turn increasingly develop depends on how companies examples of planning consent takingto solar. Across the board, however, weigh the advantages of detailed local up to five years to be achieved; thislarge firms are buying up smaller ones knowledge and geographic risk process should normally take a matteras, in Mr Rey-Baltar’s words, “large­ diversification. Global fuel firms are of months.scale investments ... have allowed already common and infrastructurecompanies to take advantage of lower investors usually look for opportunitiesinvestment and O&M costs". Of the worldwide. For power generation,companies polled for this report, larger however, as Ian Learmonth, Executiveones are far more active in M&A: Director heading the Europeanthose having annual revenue of over Renewables Business of Macquarie,US$10bn are acquiring others at more the Australian investment group,than twice the rate of smaller rivals. explains, “the economics are veryEven with a surge in valuations over different and more localised thanthe past few years, the majority of people might think". Many companiesdeals during 2006-07 were done at are choosing to stay regional; some,between US$5m and US$20m. especially financial investors, are looking worldwide. © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 8. 6 The competing technologies / Turning up the heatThe competing technologies Consolidation within the sector is Still, executives expect M&A activity to economies of scale in owning the facility. occurring rapidly. Over the last three accelerate. Nearly three-quarters (72 I think it was almost inevitable that thisyears, 89 percent of traditional power percent) of respondents believe that the would start. Ed Northam, CEO of Viridis ” generation companies polled for this size of deals will increase, while over two- Clean Energy Group, an infrastructure report had purchased a renewable thirds (68 percent) expect that fund, also cannot see consolidation energy enterprise, with the vast competition for targets will grow - and 59 slowing over the next four to five years. majority acquiring more than one. percent think that infrastructure funds and “You are starting to see an explosion in financial investors will bring more money interest, he says. ” into the sector. Rhys Stanwix, Head of Energy Strategy at Scottish and Southern This interest, however, is concentrated in Energy (SSE), a major UK-listed utility, particular parts of the renewable energy thinks this consolidation “will likely market. Roughly 60 percent of those continue for the foreseeable future” His . surveyed expect consolidation to company recently completed a €1.45bn accelerate in biofuels, solar and wind. (US$2.2bn) acquisition of Ireland - based Conversely, a minority expect the same Airtricity, a renewable energy company. for hydroelectric firms (27 percent) and Suppliers, he explains, are required to tidal energy (14 percent), with the clear deliver on increasing targets, but there majority expecting no change. Growth are a large number of developers, many predictions follow a similar pattern: over of which are often small. “That will drive three-quarters foresee high or moderate you to do either a lot of contracting or, growth from wind, solar and biofuels, but what has happened, consolidation where only 46 percent from hydro and just 27 suppliers buy them up, he argues. ” percent from tidal. “There are a lot of portfolio benefits and Over the next three years, what change do you expect to the pace of consolidation of renewable energy companies in the following sectors? Wind 58 31 8 3 Solar 61 31 4 4 Biofuels 62 27 8 3 Tidal 14 61 7 18 Hydroelectric 27 55 9 9 0 10 20 30 40 50 60 70 80 90 100 Pace will accelerate No change Pace will decelerate Don’t know values in percentage Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 9. Turning up the heat / The competing technologies 7 In the past three years, has your company acquired a business within any of the following sectors of the renewable energy industry? Does it plan to acquire a business in these sectors in the next three years? 45% 40% 35% 30% 25% 20% 42 35 36 15% 29 22 23 23 21 10% 5% 9 3 0% Wind Solar Biofuels Tidal Hydroelectric last 3 years Next 3 years values in percentage Source: The Economist Intelligence Unit 2008A notable shift away from Geoff Dutaillis, COO of Babcock & Stanwix sees future hydro as a morehydroelectricity is currently taking place. Brown Wind Partners (BBW), a wind challenging investment prospect. TheSo far, it has featured as heavily as other energy business operating globally, company, the country’s largest hydrotechnologies in the search for renewable agrees: “Compared with solar, tidal, producer, has built only one significantenergy sources: over the past three biofuels [and] biomass, generally new facility recently. This is because ofyears, for example, companies polled for speaking wind energy is streets ahead. ” the difficulty in finding sites withthis report were as likely to acquire Ian Learmonth, the Executive Director sufficient efficiency to make them viablehydro facilities as solar or wind. Going heading the European Renewables prospects. “There are few great riversforward, however, hydro is being Business of Macquarie, also believes sitting out there that people haven’toverlooked in favour of alternatives. Over that wind “is a proven technology”. already dammed up to the extent theythe next three years, the number Equally important, European support will be able to, says Geoff Dutaillis. ”expecting to purchase a hydro firm will mechanisms and feed in tariffs are Environmental concerns about dammingdrop by about 9 percent, while those favourable to both wind and solar, even and flooding, often associated withplanning to buy a wind, solar or biofuel though the latter is markedly more greenfield hydroelectricity projects, alsobusiness will go up between 45 percent expensive to produce. lessen appeal. “Not only are there fewand 60 percent. opportunities left, I doubt whether they On the other hand, hydroelectric power would get community approval forRhys Stanwix describes the varying has long been a viable technology, with them," he says. "Mini-hydro has a role,appeal of these power sources as purely Niagara Falls providing power to but the big schemes have had their day,a question of economics. “Wind and Ontarians for nearly a century. Longevity certainly in Western countries. ”biomass are benchmark technologies: is, however, part of the problem. Inthey’re at market; they are economic. ” Britain, for example, SSEs Rhys © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 10. 8 Who is buying and why? / Turning up the heatWho is buying and why? Most executives polled for this report When considering M&A in the ten (89 percent) power generators had believe that big, international energy renewable energy industry, however, it acquired a renewable energy firm in companies will be among the most is best to see it as several overlapping the last three years and 78 percent are active in seeking acquisitions (68 markets, rather than one large one. either in the process of completing an percent), followed by specialist Depending on what they currently do, acquisition or actively seeking one. By renewable companies (56 percent). traditional energy companies are comparison, 57 percent of oil & gas Major utility firms have led the way in seeking different things from the majors and extractive firms had the past 18 months with a number of renewable energy sector. For example, completed an acquisition in the past deals over the US$1bn mark. These power generators are buying far more three years, while 42 percent are have included the acquisition of firms than extractive energy firms, currently completing a deal or seekingSpanish Energi E2s assets by E.On (€ encompassing gas, oil and coal one-still significant, but not in722m, or about US$1.1bn); the Trinergy extractors or refiners. Nearly nine in same league. acquisition by International Power (€ 1.8bn, or about US$2.8bn); and the acquisition of Horizon Wind Energy in the US by EDP of Portugal (US$2.15bn). M&A snapshot: a selection of major wind deals Target company Stake Acquirer Purchase price, in Completed acquiring currency (US$ equivalent) Airtricity 100% Scottish & Southern Energy € 1.4bn (US$ 2.2bn) 2008 Trinergy 100% International Power € 1.8bn (US$ 2.8bn) 2007 Horizon Wind Energy 100% Energias de Portugal (EDP) US$ 2.15bn 2007 REpower 75% Suzlon US$ 1.6bn 2007 Airtricity (US assets) 100% E.On US$ 1.4bn 2007 Energi E2 Renovables Ibericas 100% E.On € 722m (US$ 1.1bn) 2007 Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 11. Turning up the heat / Who is buying and why? 9 Over the next three years, which of the following categories of acquirer do you think are likely to be most active in seeking targets for acquisition? (Respondents selected up to three categories) Large, international power companies 68 Specialist renewable energy companies 56 Infrastructure funds 35 Private equity funds 32 Sovereign wealth funds 22 Hedge funds 12 Investment banks 9 Governments (nationalisation) 7 Other 1 values in percentage 0 10 20 30 40 50 60 70 80 90 100 Source: The Economist Intelligence Unit 2008Power generating firms growth: increased market share is a top percent have bought such a companyPower generators are looking at their priority (selected by 68 percent), as is in the last three years, twice theend product: electricity. Accordingly, the penetration of new markets number that bought solar, and threethey are buying a lot of wind (54 percent). Far behind are energy times that of wind. Their focuses arecompanies. About 39 percent of those security (7 percent) and technology greater market share (selected bypolled have done so in the last three acquisition (4 percent). Ultimately, 50 percent), but these firms are alsoyears and 54 percent expect to do so however, regulatory targets are behind interested in diversifying asset typesin the next three. SSE, for example, much of this activity. With (50 percent) and acquiring betterrecently announced its target to grow governments, especially in the EU technology (47 percent). In a worldits renewable energy capacity in the where M&A activity is particularly with increasing demand for oil, theyUK and Ireland to 4,000 MW by 2013, strong, mandating significant renewable are also more interested in energyby investing £2.5bn. Hydroelectric sourcing for energy, power companies security (24 percent), compared withtargets are even more popular: two- have no choice but to look for power generators. Essentiallythirds of power generators have such options. commodity traders, these companiesacquired one in the past three years, are primarily looking for cleaner fuelsalthough only one-half expect to Oil & gas majors and extractive firms with fewer geopolitical complicationsbetween now and 2011. This suggests Respondents from oil & gas majors, to substitute for current offerings. Asthat hydro is a useful technology, but including coal and other extractive SSEs Rhys Stanwix notes, biogas andwith limited growth potential. In the firms, have a markedly different biomass are still small players inimmediate future, wind is more outlook. They are much more electricity generation: biofuels in manyinteresting. With these purchases, interested in biofuels than other parts of the world are about "finding apower generators are focused on renewable energies. Thirty-seven replacement for fossil fuel-based © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 12. 10 Who is buying and why? / Turning up the heatpetrol” Of course, some of the oil & . share (56 percent cited this among disturbances. It has the credentials togas majors - most notably BP and their top three responses) and sit on a network and draw investmentShell, have been active in the wind and geographic growth (40 percent). Given dollars," he says. Ed Northam adds thatsolar industry. BP recently valued its their size and mission, they are also wind is attractive because it is one ofalternative energy assets, which pursuing better economies of scale more easily understood andencompasses solar, wind, hydrogen (40 percent) and new technologies commoditized technologies. "It isand biomass, at between US$5bn and (32 percent). getting attention from financialUS$7bn, but says the unit does not investors because they think theydeliver a profit as yet. There have even Financial investors/infrastructure understand the fundamentals, ”been rumours of a sell-off or flotation. firms he says. Infrastructure funds, private equityRenewable energy firms firms and other financial investors are Regardless of the technology beingRenewable energy providers have yet a likely to be the most active M&A acquired, the underlying drivers fordifferent profile. They are much smaller participants after power generating consolidation are remarkably similaron average: two-thirds of the companies, according to the survey. across all respondents:renewable energy firms polled for this Financial investors look set to addsurvey have annual revenue of less liquidity, and potentially higher • Problems with fossil fuels:than US$500m. Historically, many have valuations-to all sectors of the 77 percent consider rising oil pricesconsidered their mission at least as renewables market: 39 percent of to be a significant driver ofmuch environmental as economic. those who took part in the survey consolidation, and 70 percent agreeOver the past few years, their interest expect to purchase a wind business in there is a desire to diversify awayhas covered solar, wind and biofuels. In the next three years, and one-half from fossil fuels. As the cost offuture, however, far more expect to intend to do the same for solar and these fuels has risen, technologicalbuy into solar (48 percent), than wind biofuels. Different kinds of investors, advances have brought down the(32 percent) or biofuels (36 percent). however, will focus on different cost of generation from renewableThis is partly owing to increased technologies. Private equity firms, and sources, especially wind;competition from larger energy players especially venture capital players, arein wind and biofuels, as well as the more interested in biofuels and solar, • General business strategy: Costgreater need for innovation to make which remain more speculative efficiencies (63 percent) and portfoliosolar viable, which is more attractive to investments. Infrastructure funds, on diversification (57 percent) play aspecialist outfits. Indeed, the current the other hand, are turning to wind large role;attraction to solar involves something assets, given its stable long-term cashof an almost romantic desire to tap flow. BBWs Geoff Dutaillis explains • Government carrots and sticks:into the world’s ultimate energy that wind is being perceived as a Subsidies (56 percent) and regulatorysource, believes Viridis’s Ed Northam. mainstream technology. "It has pressures (54 percent) are alsoAs with traditional power generators, demonstrated that it can generate prominent factors.renewable energy companies are energy within a regulated voltageengaging in M&A to boost market range and can ride through network © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 13. Turning up the heat / Who is buying and why? 11 How significant do you think the following factors are as drivers of consolidation within the renewable energy sector? Rising oil prices 46 31 12 7 4 Diversification of portfolio of renewable assets by region and type 15 42 29 8 3 3 The drive for cost efficiencies through scale 26 37 23 11 2 1 Government support and subsidies 16 40 28 9 52 Regulatory pressures 21 33 25 14 5 2 Changing end-customer expectations 10 28 35 18 7 2 Desire among financial investors to invest in renewables 22 34 26 12 42 Search for diversification away from fossil fuels 30 40 18 9 21 0 10 20 30 40 50 60 70 80 90 100 Very significant 1 2 3 4 Not at all significant 5 Don’t know values in percentage Source: The Economist Intelligence Unit 2008Although figures vary between different expectations are a significant factor in (in particular the need for costtypes of buyers, the overall pattern consolidation. Oil & gas majors efficiencies) explains the shape of theholds. Attitudes only diverge significantly (33 percent) and power companies current consolidation. Although smallerover customer demands. For renewable (21 percent) are less convinced. companies are also making purchases,specialists, for whom being green is the activity in this sector is usually a mattercore appeal of their sales proposition, Although all of these drivers are of big companies snapping up small54 percent say that changing customer important, general business strategy ones (see table below). Big appetites Renewables deals by size of acquirer (all revenue in US$) Annual revenue Annual revenue Annual revenue more than $10bn $1bn - $10bn less than $1bn Average acquisitions last three years 4.13 2.03 1.91 Companies making at least one acquisition 85% 74% 64% Companies now involved in or actively seeking acquisitions 69% 58% 47% Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 14. 12 Who is buying and why? / Turning up the heatEstanislao Rey-Baltar, CFO of Iberdrola becomes more apparent, larger players most dynamic, aggressive andRenovables, a separately listed unit of will enter and acquire the smaller, less competitive commodities in the world.the Spanish Iberdrola power group, says well-capitalized organizations for their Ultimately renewables are part of thatlarge-scale investments in renewables development potential. This echoes commodity market and consolidation ishave allowed companies to “take other industry consolidations, says Ed acceptance of another form ofadvantage of lower investment and Northam: “you have an immature technology operating in it. That is theoperating and maintenance costs” . industry and the first step to maturity main driver of consolidation. Now that ” starts with consolidation” In his view, . regulators, governments and evenHistorically speaking,Viridis’s Ed Northam previous attempts by large companies to consumers are facing up to thebelieves, “you have a very fragmented move into renewables failed because challenges of climate change, theand vertically integrated industry that “they decided it was too Mickey Mouse structure of the renewables sector isstarted with tree-huggers and attracted and small scale, and because changing from that of a cottage industry.smaller players” He argues that . communities were not behind it” It is .developers are driving the industry only now that industry potential is beingforward, but development is still recognized. BBWs Geoff Dutaillis alsofragmented and at a small scale. sees the sector maturing, especiallyHowever, as the industry’s potential within wind. "Electricity is one of the © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 15. Turning up the heat / Regionalization or globalization? 13Regionalization or globalization? The ultimate shape that the mature The majority of respondents to the destinations for European investorsindustry will take is another matter. The survey expect increased levels of were EU countries. In fact, the energy sector has always had a mix of national (67 percent) and cross-border emphasis on cross-border integration products and business models. (65 percent) consolidation. The latter, was particularly strong in Europe, with Leading oil companies have typically however, is likely to involve 75 percent of respondents there been global in reach; while national, or predominantly regional rather than expecting an increased level, compared even local, utilities have traditionally global integration, although in recent with just 61 percent elsewhere, provided much of the world’s times there have been a number of probably because of interest in electricity. The current spate of examples of transatlantic activity among integration within a unified market. consolidation raises the question of European firms. Most respondents More tellingly, respondents in each what type of energy company might made purchases close to home: nine major region saw their own area as the dominate a low-carbon world. out of ten of those who bought in one offering the best growth prospects Canada, for example, were based in for renewables and likely to see the North America; and five of the top six most consolidation (see table below). Where to buy? Regional prospects for renewables Best prospects for renewables Likely to see most consolidation Home region Next highest Home region Next highest North America 61% 19% Asia-Pacific 59% 17% Western Europe Europe 55% 17% North America 70% 17% North America Asia-Pacific 64% 17% North America 53% 19% Western Europe Source: The Economist Intelligence Unit 2008 Does interest in renewables go beyond regional investment. Macquarie’s Ian a regional focus? For power companies Learmonth agrees, but differentiates and distributors the issue is whether risk between large financial investors and is better managed through superior utilities: “The economics are very knowledge or diversification. Rhys different and more localized than people Stanwix says that SSE made a might think. Because local rules and conscious decision to stay in Europe and conditions are so relevant, developers not buy American assets. “Closer to tend to be more localized than major home we have a better understanding of sources of capital. The latter, especially ” the market, political and regulatory infrastructure funds, are more likely to environments, he notes. In his view, ” go further afield. this explains much of the preference for © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 16. 14 Regionalization or globalization? / Turning up the heatNot only do regulatory regimes differ the simple reason for Viridis’s global to be in a number of regions and globalwith geography, the survey also points expansion is its need to diversify its in your search for new markets," heto differences in expectations regarding asset portfolio. “If we looked only at says. As one of the minority of powertechnology. More North Americans, for Australian renewable energy assets, we companies going global, Estanislao Rey-example, thought that consolidation wouldn’t have many to look at. We look Baltar says that Iberdrola Renovables, awould accelerate among biofuel globally for diversification and out of European producer that has acquired incompanies than any other renewable necessity. Geoff Dutaillis adds that as a ” the US, takes a global approach for theenergy sector, while Europeans put solar wind specialist, BBW decided that same reason. “Having assetsand wind far ahead, perhaps because of “doing wind energy well entailed having geographically diversified lets you bediffering political emphasis. diversification strategy across a number less dependent on the regulation of one of fronts". These include geography, country, wind availability in that country,Of course, not everyone agrees, in regulatory environments, revenue price differences, or transmissionparticular infrastructure funds. Although streams and suppliers. “Diversification issues. The risks are real risks for theEd Northam acknowledges a lack of local flows out of being a sector specialist, sector, and this is the only way tounderstanding as a big barrier, he says and if you are going to diversify you have mitigate them. ” © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 17. Turning up the heat / Heading towards a bubble? 15Heading towards a bubble? The prices currently being paid for Calculating the average enterprise renewable energy companies are rising value (EV) per operating MW of rapidly. Take Suzlon Energy’s acquisition of recently completed deals, based on REpower in 2007 Vivek Kher, Head of . available data (see table below), Communications, estimates that the price suggests an average of US$4.9m per his company paid for REpower was MW of operating capacity as an roughly four times its value a few years approximate measure. By comparison, earlier. The final sale price was about four several greenfield developments have times REpowers annual revenue, been built for approximately half that according to the Financial Times of amount per MW, according to publicly London. Although precise multiples are available costs. Given that EV is a rarely reported, executives interviewed for measure of a company’s value this report unanimously spoke of high typically used to gauge a theoretical valuations in current deals being takeover price, this data suggests that conducted in the market. The Franco- buyers have been willing to pay a Belgian Suez Group’s aquisition of significant premium for renewable Compagnie du Vent, for example, valued energy targets. However, true the French wind generator at more than valuations are difficult to determine, 50 times its annual revenue. Some firms, given variances in the amount of such as BBW, are actively seeking to take pipeline capacity. advantage of current prices. The company recently announced plans to potentially sell off a selection of its European wind assets (see case study: Babcock & Brown Wind Partners).M&A deal metricsTarget Aquirer Announced Enterprise %purchased MW in operation EV per operating Completed value (US$m) MWAirtricity Scottish & Southern 2,200 100.0% 400 5.5 2008Trinergy International Power 2,800 100.0% 581 4.8 2007Horizon Wind Energy EDP 2,150 100.0% 1,324 1.6 2007Airtricity (US assets) E.On 1,400 100.0% 210 6.7 2007Energi E2 E.On 1,100 100.0% 260 4.2 2007Compagnie du Vent Suez/Gas de France 950 50.1% 148 6.4 2007Average 4.9 Source: Company announcements (where relevant these have been converted to US$ using foreign exchange rates per the FT on 7 May 2008) © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 18. 16 Heading towards a bubble? / Turning up the heat“Any industry that has growth potential are already having an impact on the seller expectations as a contributingattracts investors like bees to pollen, ” level of activity. With 52 percent of cause, nearly double the number givingsays Ed Northam. The multiples and respondents believing that high any other reason, with 21 percentvaluations of renewables companies valuations are a factor restricting the simply being outbid at auction.are now causing widespread concern, growth of the renewable energyparticularly in Europe. One-half of sector. Only regulatory constraints andrespondents to this survey (and nearly uncertainty score higher (57 percent).two-thirds in Europe) agree that thereis real risk of a bubble - although about For companies that had considered butone in five still disagree. Such worries not completed acquisitions in the lastmay well be justified. High valuations three years, 44 percent listed high If your company has considered specific targets for acquisitions in the last three years but did not complete the takeover, what deterred you? Seller’s price expectation was too high 44 Deadlock in negotiations between buyer and seller 22 Decided the target was too risky / inappropriate during the due diligence phase 22 It was an auction process, and another bidder was successful 21 Seller decided not to sell 15 Synergies not expected to be realised; insufficient scope for cost-savings 13 Integration issues, including cultural integration 8 Own (buyer’s) board of directors vetoed the acquisition 8 Other, please specify 1 Not applicable / Don’t know 21 values in percentage 0 10 20 30 40 50 60 70 80 90 100 Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 19. Turning up the heat / Heading towards a bubble? 17Between January and mid-March expectations” remain about price in corporate bonds. And of those for2008, the WilderHill New Energy some parts of the market, in whom it was relevant, over one-halfGlobal Innovation Index (NEX), which particular for projects and pipelines. expected to use gearings of moretracks the world’s 50 largest clean or Still, 56 percent of respondents than 50 percent in making newlow-carbon energy producers, believe that valuations will increase acquisitions. Compared with otherdropped by some 25 percent, but this (compared with just 10 percent industries, such levels of gearing arecame on the back of a 58 percent rise expecting the opposite), and seven in not necessarily alarming, but manyduring 2007. By comparison, another ten predict that the size and ambition large utility players are cash-rich,technology-rich index, the Nasdaq, of deals will grow in the next following several years of high powerwhich fell by 16 percent over the three years. prices, thus allowing them to snap upsame period at the start of this year, smaller companies without assumingrose by just 10 percent over 2007. Of those companies looking to buy, much debt.Macquarie’s Ian Learmonth points out 39 percent expect to do so bythat, despite what is happening to increasing their debt, 29 percent byshare prices, “unrealistic direct financing and 10 percent by Which of the following will your company rely on most heavily to fund acquisitions over the next three years? Bank financing 29 Share issue 17 Financing through parent company/group 17 Cash reserves 11 Corporate bond 10 Sale of assets 6 Not applicable/Don’t know 6 Other 5 values in percentage 0 10 20 30 40 50 60 70 80 90 100 Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 20. 18 Heading towards a bubble? / Turning up the heatAnother sign of a bubble is small upsurge in the valuations of the ideas, the renewable energy sectorinvestors piling in where bigger, companies involved, a large correction, makes something measurable.seasoned ones are more cautious. Two- and then more restrained growth as Moreover, Vivek Kher, Head ofthirds (66 percent) of the largest businesses build real value. The most Communications at Suzlon Energy, ancompanies (those with annual revenue prominent recent example was the India - headquartered wind solutionsover US$10bn) agree that a bubble is a dotcom boom and bust, but American company, argues that it is not price perpossibility. Far fewer (44 percent) railroads in the 1880s exhibited the se that matters. “If a company will addsmaller companies (with revenue under same pattern. Ed Northam sees a value, it will be acquired, he says. In ”US$500m) are concerned. Although the similar trajectory as likely. “I don’t think the survey, 61 percent of executivesbigger firms are doing more buying, it will be as extreme as with dotcoms, agree that their company’s lastsmaller ones are much more likely to but we haven’t seen the end of the acquisition has added value, comparedincur new debt (45 percent compared frenzy stage yet. Current valuations will ” with just 3 percent who believe it hadwith 24 percent). Smaller companies eventually seem conservative, he decreased shareholder value.also take on higher gearings, with about thinks, but not as quickly as some seem Respondents may be seeing the worldone-half (48 percent) accepting figures to believe. “Those with a long-term through very rose - coloured glasses: inof over 50%. Just one-third (32 percent) focus will be proven correct, but people detailed studies of the impact of M&Aof larger companies do the same. who will have used aggressive across a variety of sectors, theViridis’s Ed Northam says that some assumptions in the medium term will proportion of deals failing to add value“highly leveraged groups have come end up under pressure. ” often outnumbers those that do,into the sector in the last 18 months despite executives’ perceptions thatand paid high prices that ultimately may The dotcom parallel, however, is not shareholder value has increased. The bigbe substantiated, but I’m not sure that exact. Iberdrola Renovables had about question is how much is being paid forthe structure and focus of some of 8,000 MW of generating capacity at the the jam tomorrow in the form of a longthese players is long term” . end of 2007 “This is a heavy and real . trail of development projects. asset base, says Estanislao Rey-Baltar. ”The adoption of new technologies is Unlike many dotcom - era Internetfrequently accompanied by a rapid firms, which were based on unproven Thinking of your company’s last acquisition, what impact do you think it has had on shareholder value? Increased shareholder value substantially 27 Increased shareholder value slightly 34 No change to shareholder value 23 Decreased shareholder value slightly 3 Decreased shareholder value substantially 0 Not applicable/Don’t know 14 values in percentage 0 5 10 15 20 25 30 35 40 45 50 Source: The Economist Intelligence Unit 2008 © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 21. Turning up the heat / Heading towards a bubble? 19Case study: Babcock & Brown Wind PartnersThe high multiples and prices that renewables companies are attracting have raised concerns in some quarters about abubble. Geoff Dutaillis, COO of Babcock & Brown Wind Partners (BBW), is among those who see the current valuationsas, broadly speaking, justified. He cites the major, worldwide drivers of growth in the market: government renewableenergy targets to address climate change, energy security concerns, wind technology becoming ever more economicallyefficient, and the increasing price of fossil fuels. Although some companies may have “toppy” valuations, he says,usually because of overly optimistic claims about the development pipeline, “you can’t draw parallels with the techboom primarily because this is a sector selling a real product and drawing real revenue. If you start to factor energy andcarbon costs into the future, the valuations start to look very sensible. ”This confidence in the inherent value of the sector does not mean that current prices are not affecting BBWs strategy.“We want to capitalise on it, notes Dutaillis, because “we think BBW is undervalued given current security prices". He ”explains that the company’s current portfolio of 2,500 MW cost about US$2.3m per MW to develop or acquire. Itscurrent market price suggests a value of just US$2m per MW. On the other hand, recent initial public offering (IPO) andpurchase activity in Europe have seen valuations running at roughly double these levels. “We want to capture thatvaluation gap, he says. The company has accordingly launched a “Strategic Initiative” to identify and sell appropriate ”high-value assets, particularly in Europe.This is not a question of simply cashing in investments at a good time. BBW is looking for capital to fund new projectsand acquisitions. However, “it makes no sense if we sell a bunch of assets in Spain, and make a great return” only tohave to buy similar ones at the same price. He notes that BBW has a number of framework agreements allowing it todevelop its pipeline at lower than the market price, and could also take money out of its sales in Europe in order to put itinto new markets, such as Australia, New Zealand and Canada. “If and when the heat comes off in Europe, potentiallywe would move back in, he notes. Moreover, by making clear the value in its assets, the Strategic Initiative is designed ”to increase BBW’s own share price, making access to capital easier. © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 22. 20 The role of government / Turning up the heatThe role of government One of the difficulties in assessing Of course, some technologies are its total energy from such sources valuations, however, is that so much is much closer to being economically by 2020. dependent on state support. Although viable than others. Estanislao Rey- respondents listed government subsidies Baltar distinguishes on the basis of As Ed Northam points out, a primaryand regulation behind other factors driving technology. Onshore wind could be driver of regulatory interest is a the consolidation of renewables, it is economical within a few years, he fundamental community concern important to remember that renewables predicts, but if a country wants other about global warming and the “are an artificially created market driven technologies, “subsidies will have to potential for climate change. "This is by concerns about climate change and last for many, many years” . not going to go away, it is only going security of supply” as Rhys Stanwix puts , Unsurprisingly, the level of government to increase," he says. All interviewees it. Renewables are totally dependent on subsidy and support is seen as a major agree on this point. In Estanislao Rey­ subsidies, he says. "You couldn’t build factor in determining where M&A Baltars view, companies are wind without subsidy, not in the UK. That opportunities are pursued for nearly operating in an environment where is unlikely to change soon." Others agree one-half of all respondents concern about security of energy that subsidies are essential for most (47 percent). Just 15 percent say supply and CO2 emissions is defining forms of renewable energy. "Without it is not. long-term government goals. "I think government support many, if not all, that this is a real growth story, he ” would be uneconomical," says Accordingly, the value of renewable says. Global environmental security is Macquaries Ian Learmonth. energy companies depends on pushing in the same direction as expectations about the price that national security for many developed governments will ensure is paid for countries. The implications of their output, either through special dependence on a resource frequently tariffs, direct subsidies or regulatory found in unstable regions, or on restrictions on the use of non­ countries whose relations with the renewable energy. In this respect, the West are worsening, has not gone future looks bright. The EU has unnoticed in Washington or European mandated that 20 percent of its capitals. Meanwhile, countries like energy must come from renewables China, India or even South Africa are by 2020, setting binding targets on seeking fuel for their rapid member states. However, not all development anywhere they can get sectors have been given renewable it, and renewables are no exception. energy targets-heating and cooling, As Suzlons Vivek Kher notes, it is for example, which accounts for 40 expectations about government policy percent of energy consumption in the that are reflected in the valuation of EU, is currently excluded. In practice, companies. says BBWs Geoff Dutaillis, this means electricity generation is likely The devil is, as always, in the detail. to have a much higher renewables Even using market mechanisms to target to achieve. Even China, soon to price negative carbon externalities is be the world’s biggest emitter of CO2, not straightforward, as the EU has has a goal of sourcing 15 percent of found with its Emission Trading © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 23. Turning up the heat / The role of government 21Scheme. On renewables specifically, Ireland, for example, planning companies to increase their capacityEstanislao Rey-Baltar says that many permission can take up to three years organically, because this approachcountries have strong market growth to obtain, and in much of the rest of extracts maximum value frompotential but a regulatory framework the UK over a year. “Probably the projects. Nevertheless, thosethat is neither stable nor supportive, main catalyst of a correction will be surveyed expect to see revenueincluding some of the biggest whether the government eases up the growth coming nearly equally fromdeveloping world markets. "This is a access to these sites," says Rhys M&A and organic investment. Thehandicap," he says. As noted above, Stanwix. "If planning consents are lengthy development time required54 percent of executives polled awarded in greater numbers, prices means that M&A is the fastest way toconsider regulation a significant driver will come down." The problem is not expand rapidly. "The only way to enterof consolidation, but 57 percent also exclusive to the UK: 41 percent of this sector heavily is really to acquireconsider regulatory constraints and respondents agree that lack of land other companies, says Iberdrolas ”uncertainty a hindrance, making sites and public opposition will Estanislao Rey-Baltar. Accordingly,regulation an interesting paradox. hamper the wind power industry. 68 percent of survey respondents Governments may be tempted to think that competition for M&AIf governments are creating a market, push the turbines out to sea, but that targets will increase in the next threehow they go about it will have a is more expensive. years, compared with just 5 percentprofound impact on the value of the who expect a decrease.companies involved. Macquaries Build or buy?Ian Learmonth, for example, believes Even if the supply of available sites As a result, valuations are risingthat current high valuations are expands, there will be a lag before rapidly, and investors are behaving in"a reflection of people’s desire to be in this translates into more power and some ways as they do during aa leading position as governments are executives estimate that it takes four bubble. What is different, however, issetting higher emission reduction to five years for a generation project that the industrys current form is intargets". Nevertheless, these higher- to reach maturity. The time involved is many ways reliant on the state, andvalue companies would still need not merely that needed to prepare where supply, demand and potentialsubsidies to make the profits to justify and build a site. It can take years growth depends as much onthe valuations. simply to secure the turbines government policy as technological themselves because of current high innovation or traditional marketAnother reason for the rapid increase levels of global demand, a major structures. In a world focused onin valuations is the mismatch between reason behind Suzlons strategy of climate change, these might explaincurrent, government-defined, output vertical integration in its acquisition of current valuations better than irrationaldemand and current, frequently Hansen Transmissions (see case exuberance.government-regulated, input supply. In study: Suzlon Energy). On top of this,Britain, for example, the government there are problems inherent inis pushing for higher renewable deploying any relatively newenergy output, but has maintained technology, such as the limitedrelatively stringent planning controls number of specialised vessels capableon the creation of new wind power of deploying offshore wind farms.sites, creating high economic rents for Those interviewed agree that thethe current owners. In Northern most desirable economic course is for © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 24. 22 The role of government / Turning up the heat Case study: Suzlon Energy Reviewing M&A activity at a macro level can obscure how individual investment decisions are made. Deals take place one at a time, each sitting within a company’s broader corporate strategy. Suzlon Energy, an India-headquartered wind solutions company, is a case in point. It has been an active acquirer, purchasing Hansen Technologies of Belgium, a maker of turbine gearboxes, and REpower of Germany, a wind turbine producer, over the last two years. Instead of expanding market share or geographic scope, the acquisition of Hansen was all about supply chain security. Vivek Kher, Suzlons Head of Communications, explains that the wind energy sector is growing in a peculiarly restricted environment. "Enormous market opportunities exist, but the supply chain is not keeping pace. Companies have been forced to merge to have flexibility there," he says. Suzlon made a strategic decision early on to vertically integrate all elements of wind power production: in addition to running wind farms, it is the world’s fifth-largest supplier of turbines. By 2006, however, the company made every element of the turbine barring the gearbox. Buying Hansen allowed it to make a more integrated design. The companys location was not of great importance. Suzlon had already established an R&D subsidiary in Germany in the 1990s because it thought this provided the highest value output for the investment- the same reason it choose to manufacture in India. Its acquisition of REpower, on the other hand, was primarily about geography. Suzlon had long looked abroad for growth because, with over 50 percent of India’s market share, foreign activity has been the only way for it to diversify. Forays into other countries, such as America, China and Australia, usually involved the creation of a local subsidiary. Europe, however, is the world’s biggest wind market. “One of the considerations when we went in for REpower was accelerated access to [this market]," explains Vivek Kher. A further need was to bolster the companys limited offshore wind technology, which will play a growing role in Europe. REpower filled this gap. Having plugged a technology gap and entered the European market, Suzlon is now set to focus on organic growth. “There is little need for us to look further," says Vivek Kher. "There is nothing that is going to add value. We will now grow entirely organically. The underlying market drivers of consolidation may not have changed, but these affect an ” individual firm’s decisions only insofar as they change its specific strategy. Regardless of the aggregate picture of consolidation in the industry, businesses still need to make M&A decisions that fit their particular strategy. © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 25. Turning up the heat / Other KPMG Thought Leadership 23Other KPMG Thought Leadership Original thinking by KPMG firms can help To receive electronic copies or lead the way in addressing areas of additional information about any of the concern and can provide insight into documents below please e-mail some of the key questions that or contact businesses involved in the renewables your local KPMG office. Alternatively, sector may be asking. please visit the following web sites: KPMG’s Global Energy Institute ­ Carbon Advisory Group ­ Publications Determinants of M&A Success An examination into the factors that contribute to M&A success. Offshore wind farms in Europe A comparison of the revenue and cost structures of wind farms in Europe Taxes and Incentives for Renewable Energy An overview of renewable energy tax incentives available worldwide © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 26. 24 Other KPMG Thought Leadership / Turning up the heat Getting the measure ENR Annual review 2007 Helping companies understand the A snapshot of our strategic framework requirements and processes required in the energy and natural resources to plot a course for Carbon footprint industries and our organizations measurement and reporting. performance in implementing them. Climate Change Business Leaders Survey II KPMG’s second survey looking at how business leaders are responding to the issues and challenges of climate change. Friend or foe? – a focus on carbon offsetting Looking at the options, benefits, risks and purchasing checklist that may be required when entering into an offsetting agreement. Climate Change – a clearer view Reviews the current debate on climate change and provides an update on how policies are being shaped to tackle global warming through legislation, regulation and taxation. © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 27. Turning up the heat / Background 25BackgroundKPMGs Global Energy & Natural tailored to the needs of our firm’s clients, KPMG’s M&A Energy & Utilities teamResources (ENR) practice is dedicated to and can be delivered by our industry at KPMG is a leading global network ofassisting all organizations operating in the focused professionals. We have a well transaction professionals that regularlyOil & Gas, Power & Utilities, Mining and balanced portfolio of clients, ranging from advises on some of the largest deals inForestry industries in dealing with global super-majors to next generation the sector. The team provides advice onindustry trends and business issues. Our leaders including those raising capital, acquisitions, disposals and deal financing.reason for being is that we believe we some for the first time, in local markets.have a distinctive portfolio of serviceofferings which have been carefully © 2008 The Economist Intelligence Unit Ltd. All rights reserved.
  • 28. KPMG’s M&A Energy and Utilities team Primary Contacts Andy Cox (KPMG in the UK) Partner +44 (0)207 311 4817 Tony Bohnert (KPMG in the US) Partner +1 713 319 2524 Leif Zierz (KPMG in Germany) Partner +49 69 9587 1559 Mat Panopoulos (KPMG in Australia) Director +61 3 9288 5148 information contained herein is of a general nature and is not intended to address the circumstances of any © 2008 The Economist Intelligence Unit Ltd. Allparticular individual or entity. Although we endeavour to provide accurate and timely information, there can be no rights reserved.guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the Designed and produced by KPMG LLP (UK)s future. No one should act on such information without appropriate professional advice after a thorough examination Design Servicesof the particular situation. Publication name: Renewables Survey 2008KPMG and the KPMG logo are registered trademarks of KPMG International, a Swiss cooperative. Publication number: 313-398 Publication date: May 2008The views and opinions expressed herein are those of the survey respondents and do not necessarily represent Printed on recycled materialthe views and opinions of the Economist Intelligence Unit, KPMG International or KPMG member firms.