Jack Daley, manager at TwentyFour Asset Management. (photo: DR)
By Jack Daley, Portfolio Manager at TwentyFour Asset Management
Shares of Electricité de France (EDF) fell nearly 25% last Friday after the French government announced exceptional measures to limit the impact of rising electricity prices on consumers French, at the expense of the energy supplier, whose shares have fallen more than 30% since the beginning of December.
EDF stated that the financial consequences of these measures could not be “precisely determined” at this stage and would depend on market prices over the period of implementation of these measures, but that on the basis of market prices at January 12, 2022, they would have an impact of approximately 7.7 billion euros on 2022 EBITDA. The company indicated that it will examine the appropriate measures to strengthen its balance sheet structure, adding that it will communicate again at the latest later when the annual results are published on February 18.
Early market assessments put the impact at 45% of consensus EBITDA estimates. Between 1.5 and 1.6 billion euros could however be recovered in the form of a tariff deficit and charged back to EBITDA. This situation has been exacerbated by EDF’s decision to reduce its French nuclear production by 30 TWh for the whole of the year, bringing it to 300-330 TWh. This adjustment results from the extension of the shutdown of five EDF nuclear reactors. In effect, EDF could be forced to buy electricity on the open market at the prevailing spot price, in order to sell to the competition, probably at a loss.
The French government says the measures are intended to curb inflation and protect consumers amid the European energy crisis. However, it is likely that they will also aim to boost support for President Emmanuel Macron a few weeks before the presidential elections to be held in April. The fact that EDF is majority-owned by the French state makes it easier for the government to implement such measures. No one denies the inflationary pressures exerted worldwide on energy prices. These measures, however, target a single company and contrast with other European countries, which are examining fairer methods, like the United Kingdom, which is considering a reduction in VAT on electricity bills.
This is not the first time that the French government has exerted its influence on EDF. In 2015, the main nuclear supplier of EDF, Areva, in difficulty, asked for a capital injection. Given the state’s stake in EDF, the government ordered the company to support (and ultimately buy out) Areva. Our fear was that this capital call could compromise EDF’s dividend. Eventually, the spread more than doubled to around 700bp as reality set in, dragging the performance of these sterling corporate bonds down. Seven years later, EDF still does not, in our opinion, constitute an acceptable risk, which is confirmed by recent events.
EDF is one of the largest issuers of hybrid bonds, with an outstanding amount of 17 billion euros. Prior to the announcement, EDF’s hybrid bonds were included in certain Investment Grade indices. On Monday, Fitch downgraded EDF’s issuer rating from A- to BBB+ and its hybrid bond rating from BBB to BBB-. In addition, the three rating agencies have now placed EDF on negative watch at issuer level. Any further downgrading of hybrid bonds could mean their exit from the Investment Grade index, adding to the margin pressures that will be felt as a result of the French government’s intervention from the selling pressures exerted by Investment Grade investors. Overall, EDF’s hybrid bonds have fallen 1-3 bps across durations since last week’s announcement. Although at this stage the true extent of the impact cannot yet be determined, it goes without saying that the measures taken by the French government have not been well received by the market.
This latest episode in the EDF saga is an example that justifies our particular distrust of companies with strong government holdings. Governments will be tempted to exert influence over corporate decisions at their convenience, potentially resulting in a significant reduction in the bond issuer’s ability to pay dividends and possibly postponing the payment of bond coupons. hybrid instruments.