Size is not everything in creating good utility businesses

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Utility liberalisation has come slowly and belatedly to continental Europe. But the lessons so expensively learnt by British and American investors have been ignored and utilities are at the centre of Europe’s rising tide of cooperate activity.

Utilities are both easier and harder to manage than other businesses. Electricity, water and telecommunications are essential services and natural monopolies: there are few substitutes and few competitors. But these activities are maintained by a dispersed workforce in which people of modest skills carry heavy responsibilities. It is easy for a utility to get sales but hard to get high levels of productivity.

Historically, utilities were regulated monopolies, usually state owned, and could raise prices to compensate for low efficiency. Generally run by engineers, they maintained a culture of technical excellence. Such organisations were less interested in financial control. They viewed customers with a certain disdain.

From the 1980s deregulation and privatisation swept around the world. The men in charge were encouraged to believe they were leaders of international business rather than chief engineers. Many traditional professionals resented this change, or failed to adapt to it, and sought early retirement. Others revelled in their new roles as strategists, visionaries and deal-makers. They assumed the arrogance and personal aggression they thought characteristic of business. The transformation was encouraged by their new colleagues from the private sector.

These changes had many good consequences and some bad. Workforces were drastically reduced, sometimes too drastically. The businesses acquired the financial controls and customer relationship management systems they had needed for so long. But ambitions tended to exceed capabilities. Most large companies are large because they have outperformed their competitors and have superior management. But utilities were large because of their history of legal monopoly.

City lunches gave way to less gastronomic but more exciting evenings, as offer documents were finalised and bid tactics tuned over takeaway pizza. Travel budgets soared: it was much more agreeable to treat with politicians in Asian or Latin American capitals than to watch people mend sewers, or to deal with unsympathetic domestic regulators.

The secure cash flows from domestic monopolies made these expansion schemes bankable, if rarely profitable. Financial markets demanded them: organic growth in markets for gas, electricity and water was low and the only route to survival in the telecoms industry was to be big enough to be indigestible.

The most spectacular boom and bust was Enron, which only 20 years ago was dull, humble but profitable Houston Natural Gas. Accounting fraud brought the company down, but the need to preserve earnings growth in the face of mounting losses on international operations made the frauds necessary. More honest managers simply owned up to the errors of their predecessors. The small shareholders who bought Britain’s privatisations made short-term gains but would have done better in an indexed mutual fund than remaining as long-term holders.

Utility liberalisation has come slowly and belatedly to continental Europe. But the lessons so expensively learnt by British and American investors have been ignored and utilities are at the centre of Europe’s rising tide of corporate activity. International acquisitions mean that Londoners buy their water from Germans, their electricity from the French and soon their mobile phone calls from the Spanish. Domestic mergers are justified by the need to establish scale to play this global game.

These companies have much to learn about running their own business before they claim the right to run others. There should be consolidation of utility operators. But the companies that emerge should be distinguished not by the size of the cheques their domestic customers can fund but by proved skills in the prosaic business of managing utility operations.

Changes of control would then be significant, not for the size of the deal, but for their effect on prices and customer service. These are the criteria that regulators should use – not just in the interests of consumers and subscribers, but also those of investors.

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