Key trends in the UK critical utility services market
The UK’s critical utility services market is currently experiencing several positive macro trends, resulting in the sector being an attractive proposition for many institutional investors and strategic acquirers.
A country’s utility infrastructure is essential for the effective running of its economy and the safeguarding of its people. Spend within the power, telecoms and water markets is expected to increase in the short, medium, and long term. This is driven by a combination of historical underspend on frontline infrastructure, energy transition away from fossil fuels, increased utilisation of data and connectivity, plus the heightened involvement of private investment alongside public funds in addressing spend requirements.
Power
The positive market trends are presenting growth opportunities for specialist service providers within the sector
The regulated power market is operated by three transmission network operators (TNOs) comprising National Grid, Scottish Power and Scottish Hydro Electric, alongside six distribution network operators (DNOs) covering SP Energy Networks, UK Power Networks, Northern Powergrid, Electricity North West, Western Power Distribution and Scottish and Southern Energy.
TNO and DNOs spend is regulated by Ofgem through five-to-eight-year budgetary cycles. The DNOs recently published their projected budgets for 2024-2028, with a proposed 40% increase in annual spend from 2024, to £5bn. Ofgem responded with a proposal for average annual spend of £4.2bn in the period, still representing a 16% increase versus 2023¹. Final determinations will be confirmed by December 2022, with final spend targets likely to be somewhere between the two proposals.
The proposed increase in core spend has been driven by several factors, including reducing outages and increase speed of reconnections, supporting vulnerable customers in fuel poverty and accommodating a growing UK population. It is also anticipated that further increases in spend will be required in the longer term, to facilitate the UK government’s ambitious carbon “net zero” plans. Their sixth carbon budget forecasts £38bn of investment is required in the market between 2022 and 2035, to reach targets².
The positive market trends are presenting growth opportunities for specialist service providers within the sector. Coupled with increasing levels of spend, TNOs and DNOs are increasingly shifting from mostly Tier 1 contract models to more direct outsourcing. This shift is being driven by a demand for access to key decision makers, increased flexibility, cost reduction, and increased performance.The energy transition agenda is also expected to result in increased spend within the complementary non-regulated power market. This is presenting the service providers with further opportunities in battery energy storage solutions, electric vehicle charging infrastructure, renewable technologies, hydrogen solutions, and private data centre solutions.
Carrying out capital and maintenance work within the regulated and non-regulated power sector requires a highly skilled and accredited workforce, of which there is a current shortage. Some service providers currently focusing on lower growth markets are starting to upskill their workforce to meet demand, taking share in what is expected to be a buoyant market for many years.
Telecoms
The UK telecoms market is currently experiencing rapid growth as network operators such as BT Openreach, Virgin Media, City Fibre, and other alternative networks (altnets) ramp up their investment in the Fibre to the Premises (FTTP) roll out. Fibre is set to replace the legacy copper-based network.
The UK is significantly behind other European countries in terms of rollout, having historically focused on other technologies. Spain, Portugal and Sweden have very strong fibre coverage, with less than a quarter of the UK currently covered by comparison.
The government is targeting large scale full-fibre coverage throughout the UK, providing gigabit-capable broadband to at least 85% of homes by 2025³. BT Openreach, Virgin Media and other altnets (such as City Fibre, Hyperoptic and Community Fibre) have issued ambitious FTTP roll-out targets to deliver government initiatives.
Investment in FTTP is resulting in significant demand for specialist utility service contractors with a skilled workforce and specialist fleets, to provide design solutions and build the network. As the major operators grapple to build and own as much of the network as possible, contractors are securing highly lucrative multi-year frameworks to build out the network.
It is widely accepted that the current speed of rollout will not result in initial UK government targets being met, with an expectation that major roll out activities will continue towards the end of the decade. Following full fibre coverage, further long-term opportunities will be created, including ongoing repair and network maintenance, private networks, copper recovery of the legacy network, home connections and 5G opportunities.
Water
Increasing UK population and urbanisation is also putting increasing stress on the network, heightening flood risk
The UK water value chain follows clean water from sourcing, through to distribution and wastewater treatment. A small number of regulated water companies operate throughout the UK, with individual companies responsible for the infrastructure in specified regions, alongside Ofwat being the main regulator setting spend limits.
The length of the UK clean and wastewater network is more than 800,000km, with more than 70 million connection points to residencies and businesses⁴. As most of the infrastructure is significantly aged and underground, it can often suffer damage, leaks and blockages, with a requirement for specialist labour and assets to repair and upgrade the network.
The increasing UK population and urbanisation is also putting increasing stress on the network, heightening flood risk. Regulators are putting more pressure on water companies to reduce waste, with the public increasingly finding leaks and blockages unacceptable. Water companies will have to pay more attention to the quality and resilience of the network, which will require the implementation of major structural upgrades.
The prevalence of blockages within the wastewater infrastructure is also increasing as a result of fat, oil, wet wipe and other sanitary product build up. As such, there is increasing demand for national contractors, with the scale and expertise to react quickly to repair and maintenance requirements.
Water company spend on the network is regulated by Ofwat through five-year budgetary cycles, known as asset management plan (AMP) cycles. AMP 6 covered 2016-2020, with total spend of £45bn across the period, whilst total spend is set to increase in AMP 7 (2021- 2025), to £50bn⁵. Recent spend has largely been driven by maintenance of the ageing infrastructure and Ofwat implementing tighter environmental standards. Early indications for AMP 8 is that spend will largely be in line with AMP 7.
Investment and acquisition opportunities
The UK critical utility services sector has seen significant M&A activity in recent years, which is expected to continue. In addition to growth drivers previously noted, the sector has proved resilient, despite major global challenges such as COVID-19, the war in Ukraine, alongside unprecedented levels of rising inflation and interest rates, which is proving an attractive proposition for many investors and acquirers.
Major players within the space often have strong visibility of future earnings, through multi-year capital and maintenance framework agreements. Barriers to entry remain high, with network operators favouring long-standing suppliers with years of successful delivery. The ongoing shortage of skilled labour and specialist equipment in the UK also makes scaling difficult for smaller players. In addition to traditional private equity, these characteristics are becoming increasingly attractive to long capital and core-plus infrastructure investors.
The sector is dominated by a relatively small number of larger players (many now private equity backed) and a long tail of smaller players. As such, the sector is suitably positioned for buy and build strategies, as dominant players look to take further share of growing markets.
Clearwater International has recently acted as lead advisor on the sale of the O’Connor Group (OCU) to Triton Partners. OCU is a leading UK multi-utility services specialist, operating within regulated infrastructure markets including power, telecoms, water and gas. The group has a workforce of over 3,000 employees and contractors, delivering revenues of c.€350m (£300m) in the financial year to April 2022. The new partnership will see a continuation of growth in its core markets alongside further investment in non-regulated opportunities, as the economy increasingly focuses on its energy transition agenda.
Clearwater also advised H&MV Engineering (H&MV) on its recent investment from Exponent. H&MV is a leading European specialist in the design, installation, commission and maintenance of high-voltage transmission and distribution networks. Under new ownership, H&MV plans to leverage the capital investment to expand internationally, both organically and via acquisitions.
Clearwater is active across critical infrastructure services, leveraging the most relevant sector transactional experience
M Group Services (currently backed by PAI) has also been successful in executing a buy and build strategy within the sector over many years, having gone through multiple rounds of private equity investment and scaling, to more than £1.5 billion turnover. Other notable private equity backed groups in the UK and Ireland include JSM (Rutland), John Henry Group (Growth Capital Partners), Ipsum (Aliter Capital), WHP Telecoms (Equistone), Circet (ICG) and Network Plus (Omers), which demonstrates the attractiveness of the sector and further scope for M&A activity in the coming years.
Clearwater is active across the full landscape of critical infrastructure services, leveraging the most relevant sector transactional experience and having access to interested financial investors and strategic acquirers. We have seen strong competition on recent transactions in the sector and we expect to see demand continue.
If you would like to discuss our recent experiences and understanding of the space, please do not hesitate to contact Paul Jones, Zack Goddard or another member of the Clearwater team.
