In recent weeks, a lot of attention and focus was devoted by the media to General Electric's (NYSE:GE) acquisition of Alstom's (OTCPK:ALSMY) energy assets. The acquisition came with a large bill of $16.1 billion and the negotiations surrounding General Electric, Alstom, Bouygues and the French government continued for a long time until all parties were satisfied with the conditions of the deal. Siemens (OTCPK:SIEGY) was competing with General Electric for the contract which was eventually won by the latter. It turns out that this was actually a very big deal for all parties involved.
Conditions of the deal
Actually this was not a simple acquisition where one company buys assets of another company either in part or in entirety. This deal carried multiple implications. The first implication is that Bouygues will sell 20% of Alstom to the French government to ensure that the government holds enough shares of the company. After this, GE will be adding Alstom's turbine operations to its portfolio and it will be selling its rail-signaling operations to Alstom for $825 million. Furthermore, the two companies will form partnerships and joint ventures in several areas such as steam turbine, renewable energy and electrical transmission. Alstom will use about $3.2 billion of the capital it will receive from GE to invest in this joint venture.
Alstom is a major player in France's energy sector and the company is also highly involved in the country's high-speed train system. This puts the company in a strategic position in France. This is why the French government had to be convinced as a major stakeholder before the deal could go forward. GE had to assure the French government of its intentions and a lot of lobbying had to be done in order to prevent the French government from blocking the deal.
This deal can add significant fuel to GE's growth
First of all, buying the energy assets of Alstom will add a significant amount to General Electric's revenues and profits almost immediately. Alstom's management predicts that Alstom Energy is on track to earn $1.16 billion before depreciation and amortization (EBIT), which means that GE is paying about 13.8 times this amount to purchase the company. In recent years, many large acquisitions in the corporate world came with huge premiums since the market itself has been cruising near historically high figures and it appears that GE is not paying much of a premium for this purchase. This is one of the first and major benefits of this acquisition for GE.
To be honest, the business units that were acquired by General Electric did not have their best year behind them. Overall, it was a tough year for Alstom and the company saw its revenues fall from $30.9 billion to $28.0 billion compared to the previous year. For the thermal power business, service orders were particularly strong while new build contracts saw a decline. This business saw major contract gains in Poland, the US and Iraq. The renewable power, commercial business performed above expectations but growth was lacking. This business unit received a new onshore wind contract along with a contract for a storage power station in Israel. The grid business also saw some declines marked by the low frequency of HVDC (high-voltage direct current) projects. This business unit posted some gains in Saudi Arabia and India for transmission equipment and smart grid projects.
Things are still looking better in the future because the company is currently turning things around in some of its major business units. Alstom's thermal power business has been working on developing gas turbines that will result in flexibility and efficiency for customers. The renewable power business has made a lot of progress in tidal turbine tests and the grid business has launched "MaxSine eStorage," a new solution to stabilize grids. The company also made several investments in Brazil, China and Canada to increase its production capacity. The hydro equipment manufacturing site in China is now expanded and a wind tower factory was established in Brazil along with another plant in Canada. The new products and solutions, increased capacity and the synergy between GE and Alstom will turn these business units around as quickly as possible.
As a result of the deal, Alstom's grid business and GE's digital energy business will be merging to create a joint venture. The renewable businesses will include hydro, offshore wind and tidal businesses. The companies will also from a Global Nuclear and French Steam business that will be run by the joint venture and governed by the French government because this business unit will also serve as a strategic initiative for the country of France.
Another joint initiative between the two companies will allow Alstom to gain exposure to the American railroad industry. This initiative will be called Global Rail Alliance and this will allow Alstom to maintain and service some of GE's existing locomotives, gain access to GE Capital for funding of future projects and joint development of related technologies. This will probably benefit Alstom more than this will benefit GE, but still, GE will see some growth from this as Alstom becomes more successful.
Power of scale comes in play
Together, the two companies will be able to simplify their supply-chain management and be able to get better deals due to an increase in size. Having a better scale and combination of better technologies will allow both companies to see higher profit margins. Alstom mostly conducts business in areas where GE already conducts business, so there won't be much of a learning curve and the benefits of the joint initiative will be collected by both companies almost immediately after the transaction. If everything goes correctly, both companies will get better at what they already have been doing.
GE sees a lot of potential in its power business as the demand for clean power increases exponentially around the world. For example, Asian countries have a huge need for more power generation while they also suffer from high levels of environmental pollution. GE has been investing a lot of resources into clean energy and the company sees a lot of future in this particular initiative.
During GE's presentation, it was mentioned that this transaction would add $4 billion annually to GE's net income for the next three years, which would provide a strong return on investment. Part of this new income will come from Alstom's existing businesses and part of it will come from the synergies between the two companies. Furthermore, the two companies will have other opportunities to work together and experience growth on both sides. Due to the recurring nature of most of Alstom's revenues, there is predictability and visibility in the near future.
The transaction will close in 2015
The transaction will not close until next year. During this time, other companies can legally attempt to outbid GE. However, this bid cannot be solicited. In other words, Alstom can't invite other companies to come up with a better bid, but if they happen to do so with their own will, they are free to do so. It is highly unlikely that any other company will have as much access to capital as GE and be able to come up with a better deal. Siemens was in the game at some point but the company's offer was not as good as GE's offer. GE's management is fairly confident that the acquisition will come through and all benefits will be captured by the company.
GE is buying a company with recent revenue declines but Alstom's future looks much brighter than its recent past. The company has several projects in the pipeline and it is in the process of a turnaround. As the two companies put their forces together and create synergy, GE should be able to get a solid return on its investment. Alstom will also benefit from this transaction both directly and as a result of the joint venture. There is a huge demand for clean energy generation across the world, and these two companies should be able to take advantage of this. Alstom's acquisition might be just the game-changer GE needs to move its game up.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.