Company Reports

While wholesale power prices stabilized, government bonds’ yields fell on weak economic indicators and lower inflation in the US and Europe. Second-quarter results were boosted by very favorable hydro conditions that led to some guidance upgrades. This goldilocks scenario bolstered a rally in European utilities, enabling them to massively outperform the market and recover much of their earlier underperformance.

We confirm our EUR 18 fair value estimate after no-moat Engie raised its 2024 current net income guidance by 18% or EUR 800 million on the back of solid first-half results and higher financial income. Assuming that the 2024 dividend is based on a 65% payout ratio, in line with last year and at the lower end of the 65%-75% guidance range, this points to a EUR 1.43 dividend per share, in line with last year and implying a 9.8% yield reflecting the undervaluation of the shares.

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

On June 9, French President Emmanuel Macron called a snap parliamentary election after his party was trounced by the right-wing populist party Rassemblement National at the European elections. The two-round parliamentary election will be held on June 30 and July 7. Since the announcement, the spread between the 10-year French and German government bond yield rose by 26 basis points to 0.74%. French stocks underperformed, including large utilities Engie and Veolia. The former decreased by 10% between June 7 and June 13 and the latter by 5%, while the Morningstar Europe utilities index was down by 1%. We think the selloff is overdone and offers an entry point. We confirm our fair value estimates of EUR 18 for Engie and EUR 38.5 for Veolia that yield 8.1% and 5.3%, respectively.

Utilities have reversed part of their first quarter’s fall, thanks to a strong rebound in power prices. Moreover, the deep undervaluation of renewables developers has driven takeovers by big investment firms at very high multiples. Neoen’s main shareholders accepted an offer at 18 times the EBITDA. The sector is still significantly lagging the market in 2024 because of high interest rates. Should they fall, it would boost the sector.

We confirm our EUR 18 fair value estimate after no-moat Engie released good first-quarter results and confirmed its 2024 guidance. Shares appear undervalued.

We are withdrawing no-moat Engie from our Best Ideas list after a 64% total return since we added the stock to the list in August 2021, compared with the S&P 500's total return of 25%. This strong outperformance was fueled by: (1) record results in 2022 and 2023 since Engie was one of the main winners of the energy crisis among European utilities because of its high exposure to power prices and clean spark spreads; (2) the derisking of the equity story after an agreement with the Belgian government for the transfer of Engie's nuclear liabilities to it.

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.