Gate 2 uncertainty reshapes energy M&A

The UK’s electricity Connections Reform and the rollout of Gate 2 Offers are creating significant uncertainty for energy and infrastructure projects, reshaping buyer and seller behaviour in M&A transactions. As developers and investors adapt to evolving grid connection risks, deal structures are becoming increasingly complex to manage pricing, timing and execution uncertainty.

Gate 2 – Ongoing impact on M&A

As many within the sector will be aware, the GB electricity sector is experiencing a period of profound and rapid regulatory change.

Policy developments, including Net Zero initiatives, the Review of Electricity Market Arrangements, Reformed National Pricing, the early switch from RPI to CPI for the RO and FIT schemes, the Long Duration Energy Storage cap and floor scheme, and the continued uncertainty around the Fixed Price ROC regime, have all created issues that developers, investors, lenders and funds have had to consider carefully, with market participants, together with their advisors, then needing to assess the risks arising from these actual or proposed changes and consider how best to mitigate them.

In addition to these developments, over the past eighteen months one particular reform has and continues to have a significant impact on the GB energy and infrastructure M&A market, and equally the M&A market in relation to projects requiring a grid connection or with a material energy demand (such as data centres): Connections Reform.

We have previously written a number of articles on Connections Reform (please find links here and here to some of these), but at a high level CMP434 and CMP435 introduced significant changes to the electricity grid connection process, with the intended impact (which has been approved by many) being to move the GB electricity grid connection process for almost all electricity generation projects and transmission connected demand projects from a “first come, first served” approach to a “first ready, first needed, first connect” approach. 

This reform has resulted in large numbers of “winners” and “losers” amongst those projects seeking to secure a connection, but also created a high degree of uncertainty for all involved in developing these projects due to (i) delays in the application process, (ii) some surprising decisions in relation to which projects received Gate 1 or Gate 2 Offers, (iii) delays to the issuing of notifications, (iv) ongoing delays to the issuing of Gate 2 Offers and (v) in some cases, the contents of Gate 2 Offers being very different to what was expected (even where projects benefited from one or more of the various Strategic Alignment protection criteria).

As a result of this uncertainty, there has been a notable change in buyers’ appetite to sign transactions, and on how parties are trying to deal with these risks in M&A transactions. We explore this in more detail below.

Impact

The uncertainty arising from the Connections Reform, including uncertainty as to when a Gate 2 Offer will be received and what its terms will be, has made buyers more reluctant to transact before a Gate 2 Offer is in hand. Where buyers are willing to proceed, they are increasingly seeking alternative ways to manage that uncertainty and the associated risk.

Absent the issues arising from the Connections Reform and the delays in receiving a new or amended connection offer, many buyers and sellers would previously have considered a project as “ready to build”, and therefore at a stage at which it could be sold, when all of the project rights required for that project had been secured (notwithstanding the residual risk of grid connection delays and/or changes). This view, however, has increasingly been challenged and, as a result, developers are facing real sell-side challenges, particularly if they rely on sale proceeds to fund ongoing operations and the development of further projects.

The market is responding to this uncertainty in a number of ways.

1. Sellers holding projects for longer and continuing development and build-out

Where sellers have the financial capacity to do so, they may choose to hold a project for longer and “de-risk” it further, with the hope that this will also increase the sale price. Given the often-tight development timelines, this may mean beginning the build-out process themselves and committing significant capital to place orders for long lead items, with a view to selling the project later once the Gate 2 Offer has been received.

However, this approach does not resolve the issue for sellers that need sale proceeds to support their ongoing business, or that do not have access to funding to meet the required capital expenditure, noting that there are signs of some difficulties in the development funding market. It can also make a future sale more complex, as the transaction may then need to address committed construction contracts, build-out risk allocation, and other project matters that would not arise, or would arise to a lesser extent, on a pre-construction phase sale.

2. Split exchange and completion

We are seeing a number of transactions proceed on the basis of split exchange and completion, with receipt of a Gate 2 Offer being a condition to completion.

Given the uncertainty and limited visibility as to the likely contents of a Gate 2 Offer, the drafting of that condition can vary considerably. At one end of the spectrum, where a buyer is less risk-averse, the condition may be drafted simply as receipt of a Gate 2 Offer (with a targeted connection deadline). At the other end, the condition may be highly detailed, specifying the required terms of the Gate 2 Offer, such as confirmation of connection costs, connection date, curtailment risk and other key provisions, or even a requirement for the offer to be formally accepted and NESO acknowledge receipt of acceptance before completion can occur. In some cases, we have also seen a multi-layered approach under which completion will still take place if some, but not all, specified criteria are met, with automatic price adjustments applying instead. This unavoidably leads to complex and bespoke drafting and transaction delay.

The inclusion of split exchange and completion mechanics in a share purchase agreement inevitably makes the document more complex. In addition to the condition itself, it typically requires detailed provisions dealing with matters such as termination rights, seller interim covenants, and the repetition of warranties. These can be amongst the most heavily negotiated provisions in any transaction and can add both time and cost to the deal process.

In addition, in some instances, we have seen sellers looking to mitigate the cash flow issues of a split exchange and completion (as consideration is paid on completion) by requiring some form of part-payment or deposit on signing. This approach can lead to discussion and often significant negotiation as to whether that deposit is refundable and in what circumstances, which can result in additional complex mechanisms in the share purchase agreement.

3. Deferred consideration

As an alternative to a split exchange and completion, we are also seeing transactions complete on a simultaneous basis, with part of the consideration deferred until the Gate 2 Offer is received and/or further milestones are reached.

Although this removes some of the complexity associated with split exchange and completion mechanics, similar issues arise in drafting the conditions that must be satisfied before the deferred consideration becomes payable. In many respects, those drafting considerations mirror the issues that arise when framing a condition to completion.

This structure does, however, provide both seller and buyer with greater certainty that the transaction itself will proceed. From the buyer’s perspective, though, it is a riskier approach, because if the conditions for payment of the deferred consideration are not satisfied, for example because the Gate 2 Offer is not received or is received on unacceptable terms, the buyer will already have acquired the project.

The level of initial consideration paid on completion will shape the dynamics of the discussion on the deferred consideration clause and what protections the parties may wish to include. This could go as far as sellers requesting some form of parent company guarantee or security over the project or even a right to buy back the project if the deferred consideration is not paid.

Other considerations

Another issue arises where a Gate 2 Offer has already been received before a sale process begins, but that offer contains materially higher costs than expected or is otherwise considered to be challengeable.

Given the tight deadlines for acceptance of offers, and the practical difficulty developers may face in engaging with NESO and/or the relevant network operator in time, some developers may feel compelled to accept the offer first and seek to challenge it later. This creates additional complexity where the project is being sold. Taking the example of unexpectedly high grid costs, those costs are likely to reduce the price a buyer is willing to pay. In those circumstances, a seller may wish to preserve the ability to challenge the costs, or to require the buyer to pursue that challenge following completion and pass through any resulting savings.

Conclusion

The issues explored above will continue to affect the energy M&A market until all Gate 2 Offers have been issued (and potentially beyond given the upcoming Gated Application Window and proposed reforms to the demand connections queue), with the final tranche of Gate 2 Offers resulting from the 2025 Gated Application Window currently expected to be circulated between mid-October 2026 and mid-March 2027.

We are finding though that all of these issues can be navigated and overcome through a combination of careful analysis of the risks, pragmatism and flexibility on all sides, and a willingness to implement more complicated transaction arrangements than were required historically in certain cases.

If you would like to discuss any of the issues raised in this article, please contact Rebecca Brown.