What is new: According to la Lettre de l'Expansion (16/11/15), Engie's CEO
has asked financial advisors to look into a scenario that would allow Engie to
gain back control of Suez.
Engie currently owns 33.7% of Suez. The article says that Suez's activities
would fit well with Engie's strategy to focus on regulated markets and invest in
the energy transition, while selling thermal assets in the US. The companies
have not commented on this article – this corresponds to the policy of both
companies to never comment on press rumours.
On balance, we see a lack of obvious strategic rationale for such a deal. We
expect the focus at Engie to be more on streamlining its current portfolio
rather than extending it, and continue to believe that Suez could be a plausible
candidate for asset rotation (see our related Engie Insight note of Oct 13). The
announcement today by the Belgian Safety authority allowing the restart of
Doel 3 Tihange 2 helps de-risk the Engie equity story (1st Take: Restart of
Belgian reactors confirmed by safety authority). We can now focus on the
next important step: details on the new restructuring story in February,
including new cost cutting targets, more asset rotation and, possibly, more
return of cash to shareholders.
Our view: while we note the content of the article, the strategic
rationale mentioned for such a deal would be unclear to us, and so for 3
reasons.
1/ Water and Waste does not fit into the strategy of becoming a global
energy company: In our recent report on Engie dated 13/10/15, we
explained that Engie's strategy was to be a global energy company, focusing
on gas and electricity regulated assets, renewables, energy services, as well as
the gas value chain and power generation in growth geographies. It is not
obvious that Suez fits into this description, being a water and waste
management company (although a portion of its water activity is indeed
regulated). Energy production is only a small subset of the energy from waste
business.
2/ Potential synergies around joint marketing to industrial customers
are not obvious to us: SEV increasingly focuses on industrial clients (for
instance for Industrial Water treatment and Hazardous Waste treatment), and
these clients could also be interested in energy saving services. After all, this is
Veolia’s business model, combining Water, Waste and Energy Services. Yet we
remain unconvinced about the value derived from combining Energy with
Water and Waste – for proof, Engie has been able to make strong progress and
become the world leader in energy services that it is today without the help of SEV.
3/ Recent rebranding sets Suez apart from Engie: the rebranding was
aimed at aligning the old GDF Suez name to the group strategy focusing on
Energy. The new Suez corporate identity ensures that confusion with Engie is
now pretty much impossible. We view the rebranding of the 2 groups earlier
this year as an indication that the paths of the 2 companies have been
gradually moving in different directions.
•Why do we believe Suez could be a plausible candidate for asset
rotation, rather than a target for control? Suez is posting strong growth at
the bottom line (+13% EPS CAGR 2015-18e), but the SEV businesses of water
and waste management are not aligned with Engie’s ambition to become a
global leader in energy. We also note that Engie only has a 33.6% stake in SEV.
As a principle, Engie would rather own controlling stakes in its core businesses,
as is the case for all its energy holdings whether listed businesses (eg
Tractebel, Glow) or non listed fully consolidated entities (E&P division). We
note however that Engie CEO G Mestrallet has repeatedly said that Suez
remains core to Engie, with the latest example being during the 1Q15
conference call on 27/04/15. The 2 groups remain close, sharing selected
industrial projects together.
•A gradual path of reduction of Engie’s influence over Suez: since 2008,
Engie has demonstrated a gradual yet clear path to reduce its influence over
Suez, with the listing of Suez allowing Engie to reduce its economic stake from
100% to 34%. The full consolidation was maintained due to the shareholders’
pact. But its non–renewal in 2013 means that the entity is now only
consolidated as an associate.
•The valuation argument: given Suez's current level (trading at 19.7x PE16e)
relative to Engie (at 14.2x PE16e) a deal would be dilutive, even before
considering the level of premium that Engie would have to attach to an offer
for control.
On balance, we see a lack of obvious strategic rationale for such a deal
and continue to believe that Suez could be a plausible candidate for
asset rotation.
What form of asset rotation ? As we wrote recently, a disposal could be
structured via a sale to an industrial partner or a market placement. History
provides good examples, with the listing of Suez orchestrated by Engie in
2008, or the various conversation between Suez/Engie and other groups. Over
the past decade, VIE and GSZ/SEV have held talks with Vinci and Air Liquide,
respectively (although these talks were very brief and did not lead to any form
of agreement), latest evidence being in October 2012 for an aborted business
combination between the 2 competing companies (see our report dated
22/10/2012).