Veolia’s ‘skeleton in the attic’ vision
- From: Vol 11, Issue 3 (March 2010)
- Category: Analysis
- Region: Europe
- Country: France
- Related Companies: Agbar, Kurita Water Industries, Suez and Veolia Environnement (formerly Vivendi Environnement)
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Christopher Gasson argues that Veolia has been living a lie by pretending there is growth in the long-term municipal operating contract model. It needs to make a fresh proposition to investors.
Veolia Environnement clearly needs a new direction. At the beginning of 2008, its shares were trading at €62 each. It was delivering long-term organic growth with a high degree of forward visibility. Investors could not get enough of it. Today, the shares are struggling at around €24, and all that self-confidence has evaporated.
What happened in between was the solid waste business. It turns out that this is a much more cyclical business than anyone believed. When economic activity slows, there is less waste to process, and prices for recyclable materials fall. The long-term growth story was a myth, and so was the forward visibility.
Now Veolia has to come up with a new strategy to salvage its reputation with investors. It certainly has to be a lot more impressive than the one presented alongside the 2009 full-year results. Essentially, this boiled down to two things: cut costs by €250 million a year and sell €1 billion of assets a year. Add to that the fact that the company is likely to lose one or two of its plum contracts over the next few years, and there is a good chance that all that will be left of Veolia in 10 years’ time is a dry-boned skeleton in a forgotten attic of the Avenue Kléber.
To be fair, I suspect that what was presented by CEO Antoine Frérot at the results meeting is likely to have been a stop-gap while the longer term strategic vision is put together. Here are my thoughts on what he should be doing:
1) Accept that the old model is broken. Hitherto, the promise of Veolia and Suez Environnement has been based on the availability of long-term municipal outsourcing contracts. These offer long-term earnings growth with high forward visibility without tying up any capital. It is an exceptionally attractive proposition. The only problem is that they don’t make contracts like that much any more, and many of the old ones (such as SEDIF) are coming up for renewal. Most of Veolia’s (and Suez’s) growth in recent years has come from construction contracts (particularly in the water division), short-term operating contracts, and waste materials trading. What has happened is that the recession has exposed the myth that Veolia was built on long-term contracts (Suez Environnement has covered up this weakness in the short term by taking control of Agbar).
2) Be prepared to commit capital. The bottom line is that you can’t grow a decent business without committing capital. Either you have to invest in asset ownership, or technology development, or both. There are not many municipalities prepared to outsource operations on a longterm basis when unemployment is high, but there may be a few who would like help with finance and technology. If you think that you have the best water technology in the world and the best operating expertise in the world, but you are not prepared to bet your own money on it, why should anyone else?
3) Set up a separate Veolia Infrastructure Fund to finance projects. You don’t have to spend your own money. You can act like a fund manager, bringing in other people’s money, and make a turn on managing it, as well as taking a share in the upside. Look at the Macquarie model. To kick things off, transfer the UK and Middle Eastern water assets which were up for sale last year into the Veolia Infrastructure Fund, then start raising money into it.
4) Grow an asset-owning business on the industrial side. People used to say that industrial BOTs (build-operate-transfer) were too difficult because the liquidated damages expected by customers were off the scale. If that is the case, how come Kurita Water has managed to build a $260 million a year industrial BOT business selling ultrapure water to the microelectronics industry? Risks are best held by those best able to manage them, and if Veolia is not the best company in the world at handling water risks, why is it in the business at all? If it is the best company in the world at handling water risks, it should have a great business in industrial BOTs.
5) Make technology a more central part of the customer proposition. Selling operations contracts on their own is difficult. Politicians just see redundancies. Selling operations on the back of technology is much easier, because the customer is much more apprehensive of technology risks. Veolia should focus on those parts of the environmental services sector where technology can make the most difference, and build its business there.
6) Redefine the business. Veolia (and to a lesser extent Suez Environnement) has historically pitched itself as a municipal services business. That is the logic behind driving buses, emptying bins, fixing boilers and supplying water. The trouble is that the municipalities don’t pay that well, and there is not really that much difference between a Veolia bus driver and any other bus driver. It needs to reposition itself in such a way that it has strong growth prospects and more defensible margins, without exposing itself to the corporate equivalent of open heart surgery. My view is that it should pitch itself as the leading environmental risk outsourcing company in the world. Every organisation – including municipalities – is under pressure to minimise its environmental footprint, but for most, environment is not their business. By putting greater emphasis on unique technology propositions and asset ownership, it will have a defendable market position and a strong growth proposition.
7) Sell Veolia Transport, and buy out the EDF minority in Dalkia. Veolia Transport is not about environmental risk management. It is about taking people from A to B. Once the proposed merger with Transdev goes ahead, the company should push for an early stock market flotation and exit the business completely. The money raised should be used to buy EDF out of its minority interest in Dalkia. This would stop EDF taking a bigger stake in Veolia, and it would end the inherent conflict of interest between a company which sells energy with one whose main objective should be saving it. Alternatively, the cash raised could be returned to shareholders as a bribe to keep them sweet while the corporate repositioning takes place.
8) Discreetly tell Henri Proglio to move on. It is going to be very difficult for Frérot to make a clean break with the mistakes of the past while the former chief executive is still haunting the Avenue Kléber as chairman. From a shareholder’s point of view, it is hard to believe in change unless there is some firmness on this issue. It may sound rather Anglo-Saxon, but when things go wrong, heads have to roll. Breaking the ties with EDF would also help Veolia to present a more cosmopolitan face to the market.