Company Reports

European utilities have reversed their outperformance in the fourth quarter of 2023 because of a fall in wholesale power prices in the wake of gas prices after a very mild winter, and a pickup in interest rates due to inflation receding more slowly than expected. The former led to some of the companies, most exposed to power prices, cutting their guidance for 2024.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola.

We maintain our EUR 18 fair value estimate after no-moat Engie released 2023 results in line with company-compiled consensus, raised its 2024 recurring net income guidance by 10%, trimmed its 2025 outlook by 5%, and set its 2026 forecast well above our and consensus expectations due to higher profits from Global Energy Management & Sales. Engie will pay a EUR 1.43 dividend on 2023 results for a 9.8% yield. Applying the midpoint of the 65%-75% expected payout range to the bottom end of 2024 guidance points to a dividend of EUR 1.22 for an 8.4% yield, which reflects the shares' material undervaluation as the market has overreacted to the recent decline in wholesale power prices.

European utilities are up by 14% year to date, slightly underperforming the broader European markets. Since the end of September, the sector strongly outperformed thanks to the rally in government bonds and solid third-quarter results that drove multiple guidance upgrades although growth slowed down from the second quarter due to higher comps. All in all, companies that are the most exposed to commodity prices are set to exceed their 2022 record profits in 2023. Meanwhile, firms with big retail businesses that were hit by a margin squeeze because of the energy crisis in 2022 will post a significant rebound in earnings.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola.

We don't expect to materially change our EUR 17 fair value estimate after no-moat Engie released 9-month earnings implying a decline in the third quarter because of high comps, but raised its 2023 guidance for the third time this year. Applying the midpoint of the group's target payout to new guidance points to a dividend of EUR 1.57, 12% above 2022 and involving a juicy 10% yield on top of the 12% upside offered by our fair value estimate.

European utilities have underperformed the European market by 4% year to date with most of the underperformance occurring in the third quarter because of the rise in interest rates. This overshadowed strong second-quarter results driven by the easing of the energy crisis, persisting commodity price volatility, and the hedging improvement. These drivers have persisted in the third quarter. Moreover, some power price clawbacks expired at the end of June like in Germany and Belgium. On the flip side, the comparison basis will be tougher as of the third quarter.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola.

Engie has released very strong first-half results thanks to yet another outstanding performance of the general energy management and sales business. As a result, the guidance, which was materially upped in June, already appears conservative. In late June, Engie also reached an agreement with the Belgian government for the 10-year extension of the Doel 4 and Tihange 3 nuclear reactors, including a EUR 4.5 billion increase of the nuclear waste management provisions. In exchange, the total nuclear waste management provisions of EUR 15 billion will be transferred to the Belgian government. This means that Engie will no longer be exposed to the evolution of those costs reviewed every three years by the Nuclear Provisions Commission. This considerably derisks the equity story, since the nuclear provisions-related uncertainties have been fuelling a discount to peers like Iberdrola and Enel for years. All in all, we maintain our EUR 17 fair value estimate.

No-moat Engie revealed a strong rebound in its first-quarter EBIT, well above FactSet consensus, due to the continuing strong performance of the general energy management and sales business. This led the firm to guide for the upper end of its 2023 guidance, which still seems conservative.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola. Under the tenure of previous CEO Isabelle Kocher, the firm sold EUR 16.5 billion of mostly commodity-exposed assets—E&P, LNG, and coal plants—to focus on regulated, renewables, and client-facing businesses. Kocher was blamed for the lack of visibility of the client-facing businesses and was ousted by the board in 2020. Since then, the firm shifted its strategy to reduce the weight of these activities, leading to the sale of Engie's stake in Suez to Veolia and Equans to Bouygues at attractive prices. On the other hand, Engie increased its annual renewable capacity addition targets from 3 GW to 4 GW between 2022 and 2025 and 6 GW beyond.

We don't expect to materially change our EUR 18 fair value estimate after no-moat Engie posted record 2022 profits and set 2025 guidance above our estimates and consensus. The firm will pay a EUR 1.4 dividend on 2022 earnings, 65% higher than in 2021, implying a 10% yield. Normalization of profits expected in 2023 points to a EUR 1.08 dividend, still implying a juicy 7.9% yield, reflecting the material undervaluation of the shares.

On completion of its triennial revision, the Belgian Commission for Nuclear Provisions, or CPN, requested no-moat Engie increase its nuclear provisions by EUR 3.3 billion. The latter includes EUR 2.9 billion to be borne by Engie’s subsidiary Synatom, which supplies uranium and handles radioactive waste management. This increase is chiefly driven by a decrease in the discount rate from 3.25% to 3.0% and increase in the decommissioning cost estimate. The former is a surprise to us and the market against a backdrop of rising interest rates. Engie claimed for an increase of EUR 0.9 billion. Accordingly, it will submit an adapted proposal for discussion that should conclude by end-March 2023, at the latest. Then, the group will assess whether to submit an appeal to the Court of Markets. In any case, Engie will have to book a EUR 2.3 billion increase in its nuclear provisions by year-end. Should Engie fail to lower the EUR 3.3 billion total provisions increase requested by the CPN, this would shave EUR 1 off our EUR 18 fair value estimate or 6%. This would still leave significant upside to the current share price. The Dec. 20 pullback offers an entry point.

European utilities are the main winners of the first California floating offshore wind lease auctions held by the Bureau of Ocean Energy Management. The lease areas they won mean there is the potential for Equinor to develop around 2 gigawatts, 2 GW for Central California Offshore Wind (a joint venture between Canada Pension Plan Investment Board and Ocean Winds, itself a joint venture between Engie and EDP Renovaveis), 1.6 GW for RWE, 1 GW for Copenhagen Infrastructure Partners, and 1 GW for Invenergy, the only winning U.S. company.

Most of the European utilities are well positioned against high inflation due to rising wholesale power prices and the indexation of most networks' revenue to inflation. However, the sector is down by 7% year to date, in line with the market, because of two headwinds: rising government bond yields and political risk. The former makes the sector's dividend yield less attractive. Further, it will increase the cost of debt, which will weigh on European utilities' bottom lines as the sector is the second-most-leveraged in Europe. Renewable developers and southern diversified utilities will be the hardest hit. Political risk varies greatly across countries. As in the European sovereign debt crisis, it is highest in Italy and Spain, and lowest in Germany. France and Belgium stand in the middle and the U.K. power windfall tax was milder than expected. Overall, political risk is stabilizing.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola. Under the tenure of previous CEO Isabelle Kocher, the firm sold EUR 16.5 billion of mostly commodity-exposed assets—E&P, LNG, and coal plants—to focus on regulated, renewables, and client-facing businesses. This strategy lowered the weight of activities that typically have volatile cash flows and no economic moats. However, Kocher was blamed for the lack of visibility of the client-facing businesses. After she was ousted by the board in early 2020, the firm shifted its strategy to reduce the weight of these activities leading to the sale of Engie's 32.05% stake in Suez to Veolia and of its multitechnical subsidiary Equans to Bouygues at attractive prices. The latter is part of an EUR 11 billion disposal plan by 2023. On the other hand, Engie will increase annual investments in renewables from 3 GW to 4 GW between 2022 and 2025 and 6 GW beyond.

We maintain our EUR 17.5 fair value estimate after no-moat Engie released strong third-quarter results and raised its 2022 guidance above expectations. This print confirms our view that Engie is one of the main beneficiaries of skyrocketing power prices and expanding clean spark spreads among European utilities thanks to its hydro and nuclear plants and its large fleet of CCGTs. Engie maintains its dividend policy based on a 65%-75% payout. The low end of it involves a 2022 dividend of EUR 1.4 and a 10.5% yield. Shares are undervalued.

We raise our fair value estimate for no-moat Engie by 6% to EUR 17.50 from EUR 16.50 after increasing our 2022-24 recurring net income estimates by 32% on average due to higher power prices. The hedged price of European nuclear and hydropower generation for coming years has significantly increased since our last update. For the unhedged portion through 2024, we apply the EUR 180/megawatt-hour power price cap for nongas power producers proposed by the European Commission, still well below current extreme forward prices. Our long-term estimates, based on our normalized power prices forecasts of EUR 60/MWh, are unchanged. Our new EUR 17.50 fair value estimate offers 38% upside to the current share price.

Engie is one of the three largest integrated international European utilities, along with Enel and Iberdrola. Under the tenure of previous CEO Isabelle Kocher, the firm sold EUR 16.5 billion of mostly commodity-exposed assets—E&P, LNG, and coal plants—to focus on regulated, renewables, and client-facing businesses. This strategy lowered the weight of activities that typically have volatile cash flows and no economic moats. However, Kocher was blamed for the lack of visibility of the client-facing businesses. After she was ousted by the board in early 2020, the firm shifted its strategy to reduce the weight of these activities leading to the sale of Engie's 32.05% stake in Suez to Veolia and of its multitechnical subsidiary Equans to Bouygues at attractive prices. The latter is part of an EUR 11 billion disposal plan by 2023. On the other hand, Engie will increase annual investments in renewables from 3 GW to 4 GW between 2022 and 2025 and 6 GW beyond.

In a state of the union speech on Sept. 14, President of the European Commission Ursula von der Leyen confirmed all proposals made on Sept. 7 to tackle the energy crisis, except a price cap on Russian gas. Proposals include a mandatory reduction of electricity use at peak hours with the aim of reducing overall electricity demand by 10% until March 2023 and a power price cap at EUR 180/megawatt-hours on "inframarginal" electricity producers, that is renewables, nuclear, and lignite. The commission also intends to reform the electricity market design.