How France's Sarkozy muscled a merger through
The new French president presents himself as a free marketeer, but he's not above using state power to create a giant utility. Fortune's Peter Gumbel delves inside the mixture of state and business in today's France.
PARIS (Fortune) -- Even before Nicolas Sarkozy was elected President of France in May, he never hid his belief in a strong state-backed industrial policy or his willingness to intervene in the business world if necessary to help further such a policy. But with this week's $110-billion merger agreement between two French energy companies - the privately-held electricity and environmental services firm Suez and state-controlled gas utility Gaz de France (GdF) - Sarkozy has taken that dirigiste attitude to an extraordinary level.
According to sources familiar with how the deal was put together, Sarkozy essentially adopted the sort of intense hands-on role more befitting of a lead investment banker than a head of state. He personally dictated the final merger terms to the Suez chief executive, Gérard Mestrallet, wore down Mestrallet's resistance to those terms with angry phone calls - and then individually lobbied Suez's biggest shareholders to accept them.
Sarkozy's extraordinary involvement in the merger, which was announced Monday, is a sign both of his personal energy and his singular focus on problems he is eager to resolve. At the same time, it shows that, even if by the standards of French leaders he is relatively free-market in his economic beliefs, he still has no qualms about giving the state a central role in the economy.
Sarkozy was intent on driving this deal because he and his advisors at the Elysée consider energy a strategic industry - especially at a time of worries about security of supply and dependence on suppliers like Russia - and they want France to have strong players. "It's all in accordance with France's grand Colbertist tradition," says French economist Philippe Chalmin, referring to the 17th century practice of mercantilism; Chalmin nonetheless thinks Sarkozy acted smartly to break a deadlock.
Still, while Mestrallet and GdF chief executive Jean-François Cirelli publicly praised Sarkozy's role as midwife of their merger at a press conference on Monday, some stock market analysts and investors expressed misgiving about the French state's heavy hand in the deal, and the stock of both companies has dropped sharply this week. Some investors have also been giving the deal the thumbs down because the collapse of the merger would have put Suez into play, and thus given its stock a huge boost.
The merger would create one of the world's largest energy groups with sales of $95 billion and a stock market capitalization of about $120 billion. It still faces several tests before it becomes final sometime early next year, including from French labor unions who are opposing it. France's powerful Communist CGT union on Tuesday announced it is launching a national petition against the deal in the hope of blocking it, arguing among other points that it will send up electricity costs and lead to job cuts, which the companies deny. "It's a bad deal for employees of both GdF and Suez and for consumers," said CGT leader Bernard Thibault.
There is also a small possibility that an outside bidder for Suez might emerge at the 11th hour, although that seems increasingly unlikely. But the two firms have already overcome the potentially biggest hurdles, including anti-trust clearance from the European Union and a change in French law allowing GdF to be privatized. Sarkozy's involvement dates back to 2004, during his period as Finance Minister. At the time, Gaz de France sold some of its stock to the public in a partial privatization that left the state with a solid majority. Sarkozy promised the government wouldn't allow its stake in the firm to drop below 70%. With the merger agreed by the boards of both companies this weekend, the state will hold a direct 35.6% stake, not including stakes held by state-owned firms including nuclear power company Areva and CDC bank. Together they will take the government's effective stake to almost 40%.
A merger between the two companies was originally announced in February 2006. It was largely a defensive move - at the time, Suez was facing the prospect of hostile bid by Italy's Enel working together with France's Veolia - and it came about with the active blessing of then prime minister Dominique de Villepin, who hailed it as an example of what he called "economic patriotism." But in the months since, the deal bogged down in part because the two firms are of unequal size - Suez's sales are about 50% higher than GdF's - which made it hard to finalize a supposed merger of equals.
The biggest sticking point quickly became the refusal by Suez's Mestrallet to change his dual strategy. He has transformed the group over the past decade from a rag-tag holding company into a firm with two divisions, one focused on energy generation and distribution, and the other active in such areas as water treatment and waste management. He wouldn't countenance giving up this dual strategy, and as the months went by, negotiations turned acrimonious and there was a serious possibility that the deal could fall through altogether.
That's where Sarkozy came in, according to the sources familiar with the developments. Their account was corroborated by officials of both companies and government sources. On August 2, the French president met with Mestrallet and told him clearly that he was in favor of the merger proceeding, but that Suez needed to spin off its environmental business. By divesting its water and waste division, he argued, the deal would become a true merger among equals, rather than the one-sided affair it would have been otherwise. Also, he said publicly that he wanted the merged firm to concentrate fully on energy, rather than split its attention. Sources familiar with the situation say his key adviser on this deal is a former Rothschild banker named François Pérol who is now at the Elysée (although, interestingly, Rothschild itself was advising Suez on the transaction).
Mestrallet resisted and, curiously, wrote a letter to the government asking it to make its intentions clear. That letter caused uproar at the Elysée, where it was interpreted as an ultimatum to the president. Sarkozy was furious, according to people briefed on the reaction, and quickly piled the pressure on Mestrallet both behind the scenes and in public. On Aug. 30, Sarkozy went public with his position, telling a meeting of French business executives that it was now up to Suez to make up its mind. He spelled out his proposition and said that it "supposes that Suez makes a strategic choice to specialize in energy. Now it's up to the shareholders to decide."
Mestrallet's reply was vague. Suez issued a press statement underscoring the "pertinence" of his twin energy-environment strategy. But that afternoon, he was summoned back to the Elysée for another tough session with Sarkozy, who essentially told him that it was either the deal on the table or no deal at all. Suez officials with hindsight now describe the meeting as "a dialogue aimed at consensus," but at the time it was far from clear that an agreement would be possible, according to other sources.
At that point, Sarkozy personally began to work the phones. Among those he called were Suez's two biggest independent shareholders, the Belgian financier Albert Frère, who will hold a 5% stake in the combined firm, and René Carron, chairman of France's biggest bank, Crédit Agricole, which has a stake of almost 2% in the combined entity. Both of them signed off on Sarkozy's plan, and at a tense board meeting on Sunday, directors pushed Mestrallet to reverse course and accept a spin off of Suez's environmental activities. Under the agreement, Suez will spin off 65% of that business by issuing stock in the division to its existing shareholders.
In public, at least, Mestrallet isn't talking about being overruled. Instead, at the Monday press conference, he praised Sarkozy for his "determining role in concluding this transaction." The French state's big shareholding in the merged firm "will be a positive and stabilizing factor," he said. "The state is perfectly in its role."