I have documented in successive posts my take on the shakeout happening in European utilities. The squeeze of higher gas prices, the absolute dependence of the European continent on outside sources of fuel (at least carbon-based), the increasingly dominant position of nuclear power in France and the looming Russian energy bear right outside of Europe's doors all make for a volatile and explosive cocktail.

In the coming few months, the European utilities that are going to come out ahead are either already jockeying for position in Russia or investing heavily in alternative, renewable energy sources. In particular, the Spanish and (to some extent) Italian utilities that I discuss below are already capitalizing heavily on the resources that seem plentiful in Southern Europe -- sun and wind.

Electricite de France

Electricite de France is the second-largest utility in the world. With a market cap of $184.8 billion, the company has posted a steady and vigorous stock appreciation since its initial IPO on November 2005. Its two-year and one-year stock returns came to 88.7% and 66%, respectively.

Electricite de France's power generation is almost exclusively based on nuclear power (71.2%), with hydro power constituting 7.8% of its power generation base and fossil fuel thermal, 5.3% derives from fossil fuel thermal and the remaining 15.7% from renewable energies excluding hydro.

Sixty-nine percent of its revenue is generated by the production and sale of electricity and natural gas. Its net earnings growth last quarter came to 71%, with the following breakdown: Revenue originating from generation and supply of electricity (70% of revenue) increased by 20%, while distribution revenue (16% of revenue) declined by 7%, and transmission revenue (7% of revenue) declined by 3.5%. Finally, the last segment, consisting of energy services (7% of revenue), including thermal and renewable energy services, posted a 57% increase in revenue. An unusually warm winter in Western Europe did a number on Electricite de France's revenue, as well as other European utilities.

The problem with Electricite de France is that, in an increasingly eco-conscious Europe and in the face of increasingly severe European Union directives, the utility is unable to manage its carbon dioxide emissions, which increased by 255.6% last quarter. Nevertheless, due to France's dominant nuclear position along with the support of the population, I foresee bright days ahead for this stock, with continued strong price appreciation like in the past.

Gaz de France

For an average French person, Gaz de France is indelibly associated with Electricite de France, but Gaz de France (market cap $46.2 billion) is more outward-oriented than Electricite de France -- particularly in the U.K. Since its IPO in July 2005, its two-year and one-year price appreciations, less spectacular than Electricite de France's, have been 40% and 37%, respectively.

Similar to Electricite de France, this company suffered from an 11% decrease in sales last quarter, partly due to climactic conditions. The only segment that posted positive growth for Gaz de France was gas transmission and storage (8.6% of revenue), where revenue increased by 1.5%, and this was primarily due to the rise in price for storage facilities.

As I have already discussed in prior posts, Gaz de France is considering merging with French water and waste utility Suez ( SZE), an intensely unpopular move in France that is being mulled over by the newly elected Sarkozy government. Looking outward to consolidate its gas supplies, Gaz de France is also considering an alliance with Algerian oil consortium Sonatrach, the 11th-largest oil producer in the world. Gaz de France has already secured a 20-year agreement with Sonatrach to purchase 1 billion cubic meters of Algerian natural gas per year.

If the takeover of Suez is given the green light, as is looking likely, the merged entity, worth $91 billion exclusive of merger synergies, would be Europe's second-largest utility. I would thus foresee continued strong price appreciation for Gaz de France on this basis in at least past ranges, if not 10% higher.


Suez is a French utility with a market cap of $65.32 billion that is involved in the production, transmission and distribution of electricity and gas (51.2%) but also provides energy services (30.4% of revenue) as well as environmental services (18.4% of revenue). Suez's EPS grew in 2006 by 20%, and both its five-year and one-year stock price appreciations averaged 32%. Suez's dividend yield was 2.6%. Over the first quarter of this year, Suez posted an organic growth of 3.6% and 6.9%, excluding climactic effects.

Suez's Energy International segment grew by 10.4% primarily because of Suez Energy Resources North America (SERNA). Suez's Water Europe segment posted growth of 4.6% because of new waste water and services contracts, and its Waste Europe segment posted 6.7% growth due to higher volume in incineration and recycling. In short, Suez's presence in waste and water presents a natural hedge to the vicissitudes of its revenue due to downturns in electricity and gas revenue.

The company has 25 wind energy projects in the pipeline in six eastern Canadian provinces anticipated to generate 2,000 megawatts of additional electricity. Again, I anticipate strong potential for this stock, especially in anticipation of its merger with Gaz de France.


Enel ( EN) is Italy's largest electricity generator and the third largest utility worldwide in terms of revenue. With a market cap of $61.9 billion, Enel is investing especially in geothermal production, anticipating a marginal cost for geothermal sources to be 4.5 cents to 6 cents per kilowatt-hour (kWh) vs. the current prices of residential electricity of 9 cents per kWh.

Enel's expansion goals include the takeover of Spanish utility Endesa ( ELE) jointly with Spanish infrastructure company Acciona ( ACXIF); former rival German utility E.On's ( EON) bid for Endesa bit the dust due to the refusal of the Spanish government to give the green light. Enel is also looking eastward, having recently bought interests worth $5.8 billion of Russian oil and gas assets, including a 20% stake in GazProm Neft, the Russian oil and gas exploration and production company.

Enel has posted a five-year and one-year stock price increase of 21.8% and 19.7%, respectively. However, its hefty 5.6% dividend yield more than compensates for the anemic stock returns. With the upcoming takeover of Endesa in the works, I foresee even better returns for Enel.


E.On, the German utility with the strange name and a market cap of $105.18 billion, is the world's largest non-government utility, and its ace in the hole is its Central and Eastern European presence.

Foiled in its recent takeover bid of Endesa and still reeling from E.U. allegations that it allegedly colluded with Gaz de France in anti-competitive behavior, E.On is looking to shore up its power generation facilities and make them more efficient.

In addition, a recent fire at one of its nuclear bases will only fuel the anti-nuclear stance of German's green movement. E.On is investing $16 billion in a project to make state-of-the-art coal-fired power; this is important since 99% of E.On's power generation is through coal. E.On is also investing heavily in Central Europe and its Pan-European Gas segment, in which investments have increased by 45% by 96%, respectively.

E.On's earnings increased by 33% last quarter due to volume increases in power sales and in Central Europe. Its five-year and one-year returns have increased by 19% and 39%, respectively. I foresee only moderate growth for E.On due to its heavy reliance on coal.


Centrica ( CPYYY), with a market cap of 14 billion pounds, is the U.K.'s largest gas and electricity company and the seventh largest in the world in terms of revenue.

The company has been through its ups and downs. Although last quarter's EPS increased by 182%, it was only because 2006 earnings posted a loss of 4.3 pence per share, down from the previous year's profit of 27.4 pence per share. The company has lost a lot of customers to the likes of competitors such as Gaz de France, but recently, it has passed the decrease in gas prices onto customers, although at only a 50% level.

Centrica's business gas segment has performed especially well, and the company has 12 exploration blocks in the U.K., Norway, Egypt, Trinidad and Nigeria. The company's cash flow from operations declined, however, to 737 million pounds from 1.1 billion pounds last year, and the company's leverage ratio, at 1.7, is one of the highest among European utilities. As a consequence, its net interest expense increased to 183 million pounds from a net interest income of 37 million pounds last year.

The company only posted a 25% stock return last year, and I expect this to decline even further as Centrica is buffeted by the encroachment of the European gas companies onto its home turf.


Iberdrola ( IBDRF) is Spain's largest utility (market cap $42 billion) and is doing very well. Last quarter, it posted record profits of 1.1 billion euros, up 34.7% from last year, and it anticipates feeling the positive effects of its recent merger with Scottish Power, the Scottish gas and electricity company and wind farmer, which has already contributed to 16.4% of Iberdrola's EBITDA over the first half of 2007. It is anticipated that the enterprise value of Iberdrola and Scottish Power will be on the order of 64 billion euros, in third place after Electricite de France and E.On, and exclusive of merger synergies.

Iberdrola is especially noted for its commitment to renewable energy and will shortly spinoff its renewable energy segment, Iberdrola Renewable, in an IPO. Installed capacity in its renewable energy platform is to be expanded almost sixfold to 40,152 megawatts, of which 51% is slated to be invested in the U.S. As I have already reported, Iberdrola is especially well-positioned in Latin America and Mexico. Even more important, Iberdrola has reduced its carbon dioxide emissions by 2% over the first half of the year.

Iberdrola's leverage ratio is high at 1.36; on the other hand, its two-year and one-year stock returns were 41% and 47%, respectively. Its dividend yield, at 3.8%, is also very satisfactory, and I foresee even greater stock returns for Iberdrola given its commitment to renewable energy and its now prominent position in wind-based sources of energy.

At the time of publication Vijayraghavan was long Gaz de France, Enel and Iberdrola

Vasu Vijayraghavan was an academic finance professor at the University of Paris who has now turned to a new career as a financial consultant. As an academic, she wrote on corporate governance issues, especially in the European context, and she believes in a long-run and balance sheet approach to stock picking.

Currently, Vasu is working as a consultant for lawyers, doing business valuation. She is a Level II CFA candidate and enjoys writing long/short and earnings calls pieces for TheStreet.Com.

Vasu holds a Ph.D. from the University of Michigan and a B.A. from Harvard University.

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