A deal to create Europe’s biggest gas and power utility is to be thrashed out over the weekend between Suez and Gaz de France as Gerard Mestrallet, the Suez chief, retreats from his confrontation with President Sarkozy over the future of the two French energy giants.

Suez is expected to sell most of its environmental arm, yielding to Mr Sarkozy’s preferred strategy of creating a pure energy company. The sale of the environmental unit, a proposal that has, until now, been rejected by Mr Mestrallet, would help to equalise the valuation of the two companies; yesterday Suez was capitalised at €54 billion (£36 billion), while GdF’s market worth was only €36 billion.

The widening valuation gap between Suez and GdF has been a significant obstacle to completing the merger, announced in February 2006, as it would require a huge cash payment by the state-owned GdF to compensate Suez shareholders. For Mr Sarkozy, a deal between Suez and GdF without Suez Environment would be a political coup, reinforcing his position as principal architect of French industrial strategy and strengthening the State’s shareholding in a merged Suez-GdF, a key objective of French trade unions.

Shorn of Suez Environment, the State’s interest could rise to more than 40 per cent, sources close to the transaction suggested, ensuring that the French Government has a controlling interest in the future direction of Suez-GdF.

With a market value of about €90 billion, the merged companies would have a preeminent position in Europe’s energy markets, including massive purchasing power in natural gas and a commanding role in the emerging North Atlantic market for liquefied natural gas.

Sources close to the companies yesterday suggested that Suez would seek to retain a minority position of approximately a third in the environment business, which includes the French water company Lyonnaise des Eaux, as well as waste and recycling businesses. One proposal is a stock market flotation of the environment arm, in which Suez would retain a 34 per cent shareholding.

On Thursday Suez insisted that its twin-pole strategy of developing its energy and environmental businesses was intact, even as Mr Sarkozy called on Suez to divest its environment business and pursue a pure energy combination with GdF.

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