Water and Electricity Can Mix

A French Pipe Dream

Engie's Isabelle Kocher could afford to buy Suez, but she needs to prove the benefits.
At Closing, May 25th
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Break it up and put it back together again. It’s a game plan that has kept bankers in work for years. The idea currently doing the rounds is the potential reunion of Suez , the French waste and water company, with Engie, the energy group from which it was spun off eight years ago. This has long looked like a pipe dream. But it has some logic.

Engie is the renamed GDF Suez, the utility formed in 2008 from the merger of the state-owned Gaz de France and Franco-Belgian Suez. Suez's water assets were separated into a new listed company, Suez Environnement, as part of the deal and Engie retains a 32.4 percent stake. The arrangement followed months of wrangling to arrive at a structure that appeased both investors and regulators.

Water Conducts Electricity?

Engie and Suez shares have converged in the last 18 months

Source: Bloomberg

Now Engie CEO Isabelle Kocher is considering buying out the remainder and bringing everything back together again, French news outlet BFM has reported. It would be ambitious but financially achievable. The 67.6 percent of Suez that Engie doesn’t own was worth 5.1 billion euros ($5.3 billion) on Monday. Add a small premium and the take-out price could nudge 6 billion euros. This could be funded by gearing up the combined entity, which would have net debt to Ebitda of about 3 times, against Engie’s predicted 2.3 times for the year-end.  That would exceed Engie's leverage target of 2.5 times. But a disposal of Suez's waste business, or a small equity placement, would alleviate the strain.

The question is the industrial rationale. Energy and water are different businesses. But the management skills in running them are comparable: capital expenditure efficiency and customer service are paramount. Since Suez split in 2008, new technology may have created scope for synergies in metering and billing. That would be on top of general network management efficiencies.

It’s not certain how big these financial benefits would be. Plus there would be costs. The two companies have distinct strategies and cultures. A buyout would involve one-off costs followed by a tail of disruption. What’s more, a high price may be needed to secure Suez’s approval. Suez could examine alternative transactions, such as a previously discussed tie-up with Veolia Environnement SA, as analysts at Raymond James note.

Engie is 33 percent owned by the French state, while Suez is fully privatized and may balk at coming back under government influence through a deal. The potential for political complications gives Kocher a reason to move sooner rather than get stuck in the crowded in-tray of a new government after next year's presidential election.

If Engie had never had to sell down Suez and still owned 100 percent, would the benefits of the combination be so small that investors would be pushing for a break up to reap the advantage of more focus? Probably not. But with Suez shares inching up on the expectation of an offer, Kocher still needs to prove that returning to full ownership is worth the cost and disruption.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

    To contact the author of this story:
    Chris Hughes in London at chughes89@bloomberg.net

    To contact the editor responsible for this story:
    James Boxell at jboxell@bloomberg.net

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