A couple of updates

I have been covering a rather large range of topics over the last few weeks. Some of them made the headlines again more recently. A couple of examples:

  • new-nuclear-build
    Credits: www.edfenergy.com

    Despite all the execution risks involved Theresa May approved the Hinkley point project. As mentioned in my post published in April, she did not have the hardest role, however: EDF (and the French State) will have much more to lose.

  • Ecommerce is forming an increasing share of our daily purchases, with 48% of French people said to have made at least a clothing purchase since the beginning of the year. Traditional retailers such as FNAC, Carrefour, Lecler, Darty etc. account for 8 of the top 15 ecommerce platforms in France. On the other hand, the lack of ecommerce capabilities has been highlighted as one of the main reasons for Primark’s disappointing performance this quarter.

In my next post I will address ‘unicorns’, the not so rare anymore start-ups valued at $1bn or more. I will focus in particular on the term ‘valuation’; there are interesting thoughts to have in mind when dealing with this dangerously hot topic.

A plan B for point C

Credits: www.edfenergy.com
Hinkley Point C (artist view). Credits: www.edfenergy.com

The debate about Hinkley Point C, although not new (the project has been on the table since 2008), has got passionate over the last few weeks, involving incessant decision adjournments, a CFO resignation, diverging positions from two engineering groups both operating within the same company as well as the usual high volume of well-intentioned statements from politicians sitting on both sides of the Channel. The current situation stakeholders are facing could appear surprising and complex; however, this tension could have been forecast from the beginning by simply paying attention to each one’s incentives.

For the UK government, for instance, the optimal behaviour is straightforward: they should keep championing the project, which features as a prominent part of their ‘cleaner’ energy strategy – the UK government intends to cut carbon emissions by 60% by 2030 – and acts as a strong relationship builder with China – which indirectly owns one third of the project. Furthermore, under the current contract terms, the UK government does not bear any financial risk linked with the construction of the plant – actually, the longer the delay, the higher the compensation penalties EDF will have to pay. The only itching point is the high purchase price promised to EDF for the electricity generated: £92.50/MWh, i.e. more than twice the current electricity wholesale price and the equivalent of $150 per oil barrel according to Deutsche Bank. That being said, the first bill will not come before 2025, which leaves room for 2 successive governments, including the current one, to put this point back on the table as (and if) the project moves forward.

FLA220-079
EPR project in Flamanville (France)

For EDF Energy’s employees, the situation is as straightforward, but in the opposite direction. Combined together, the size of EDF Energy’s initial financial commitment (£18bn), the back-and-forth movements the Hinkley Project has been subject to as well as the unproven nature of the European Pressurized Reactor (EPR) technology and the delays that the other projects using the same technology are facing throughout the world appear as great ingredients for a disaster recipe which could wipe out a significant portion of EDF Energy’s equity value – Areva_Logo.svgvalue which already got weakened by EDF Energy’s acquisition of Areva’s distressed nuclear reactor business in January. That is in substance the point Thomas Piquemal, EDF Energy’s CFO earlier this year, defended to the extreme by summarily resigning last month – pouring additional oil on the fire.

Delays and overruns of EDF's other 2 EPR projects. Source: Financial Times
Delays and overruns of EDF’s other 2 EPR projects. Source: Financial Times

China General NuclearDespite its strong financial interest in the project through General Nuclear Power Corporation, the Chinese government has stayed mum. At first sight, this is surprising. With hindsight, it clearly appears that the Chinese stakeholders do not need to make any effort or take any decision. Financially speaking, they are in the same boat as EDF Energy, which also needs to fight to defend its wallet. Politically speaking, the Centrica withdrawal has reinforced their minority investor position. As a first-of-a-kind cooperation in the nuclear energy sector between China, France and the UK, one can expect that the last two will do anything to keep the relationship afloat.

Dr-Jekyll-y-Mr-HydeThis leaves us with one torn – and sometimes schizophrenic – entity, namely the French government. The ‘Dr. Jekyll and Mr. Hyde’-type behaviour of the French State as shareholder is not news and already got criticised by the Cour des Comptes in 2008As a 85% equity holder in EDF Energy, it should depress the brake pedal. The project’s current estimated return on investment (9.2%) is not exceptional and relies on (i) the perfect completion of the project from now on and (ii) unchanged energy purchase prices from the UK government, two factors whose strength is not unquestionable and which have already been flagged by the Cour des Comptes, France’s state audit body. The government seems to have already forecast trouble ahead by indicating that it could inject fresh capital into the company. As a champion of French industrial excellence, it should push the accelerator. Hinkley Point C is a massive project that could showcase the French capabilities in last-generation nuclear power plant building, an increasingly competitive arena, while strengthening our ties with the ’emerging world’, whose energy needs will undoubtedly be called to further grow over the next decades. Last but not least, the government pushing for the project will not be the one paying for damages at completion – in 2025, President Hollande will not be in office any more. Unfortunately, any driver will know that pushing the brake pedal and the accelerator at the same time makes a car spin

Credits: www.autoracingf1.com
Credits: www.autoracingf1.com

So where do we go from here? The usual three options are envisaged: Hold, Drop and Change. The first one is the official line, championed by governments as well as EDF Energy’s CEO, and consists in keeping the project going as it is, despite all the risks previously highlighted. Others call for a full withdrawal of the project which would open the door for renewable energy and alternative nuclear power plant builders, although this would entail significant adverse consequences on UK’s future energetic independence, on the ability of France to remain a nuclear know-how pioneer and on the appetite for Chinese investors to support and collaborate on large projects in cutting-edge industries. Finally, the most reasonable option could involve a further delay to enable engineers to design an alternative solution, made of a number (4 to 6) smaller and thus more highly mastered plants. This would enable France to save face while minimising the risk of failure. The latter option seems to gain momentum following the publication of an internal white paper written by senior EDF engineers late last month.

27976819-Un-match-de-bras-de-fer-de-bande-dessin-e-avec-l-homme-mince-vaincre-l-homme-muscl--Banque-d'imagesThe Hinkley Point C project is an interesting example of apparent conflict between politic imperatives and economic logic. The next few weeks should indicate us which side (if any) takes over.