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United Utilities - half year in line with expectations

Nicholas Hyett | 20 November 2019 | A A A
United Utilities - half year in line with expectations

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No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

United Utilities Group Plc Ordinary 5p

Sell: 1,075.50 | Buy: 1,076.50 | Change -8.50 (-0.78%)
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United Utilities saw half year revenues rise 2.1% to £936m, which together with lower infrastructure renewal spending, meant operating profits rose 6.5% £392m.

The interim dividend is set to rise 3.2%, to 14.2p, consistent with the target of increasing the payment by at least RPI inflation through to 2020.

The shares were broadly unmoved following the announcement.

View the latest United Utilities share price and how to deal

Our view

While the various Brexit permutations have buffeted other sectors, utilities' revenue and profits have been shielded from the wider economic uncertainty. After all, come rain or shine, we all need water.

Life in this bubble has been reasonably straightforward in recent years, and the group has been able to focus on making incremental improvements to its service, while delivering its target of RPI-linked dividend growth.

However, there are a few risks on the horizon.

Interest rate rises seem to have stalled for now, but it's something to keep an eye on. That's not really an operating issue, but higher rates have the effect of eroding the relative appeal of shares, particularly those where income is central to the investment case, over the likes of bonds and gilts.

Believe it or not, there's also an existential risk. Labour has said that if it wins the upcoming general election, taking utilities back into public ownership could be on the cards. Of course, whether that's right for the country or not is a separate question, but it could mean investors have to hand over their shares for less than market value.

A tougher pricing structure from the regulator presents obvious challenges too. The group's confident it can find significant cost savings, and its plans have got a glowing review from Ofwat. However, investment's increased to improve efficiency and analysts expect profits to fall as a result.

We'll need to wait and see if the lower profits could have knock-on effects for the dividend. We feel a change to the pace of future growth is more likely than a material rebasing at this point, but there's always a risk the group decides to cut. UU will confirm its plans at the end of the year.

Despite these uncertainties the shares currently trade at a slight premium to their long run average at 18.6 times expected earnings. That's perhaps thanks to the economic headwinds facing the wider market, making the 4.7% prospective yield more attractive.

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Half year results

Revenue growth reflects allowed regulatory changes following increased investment.

Total net regulatory capital investment in the first half of the year was £323m, down from £393m the year before. For the full year, United Utilities expects to spend £700m.

Net debt rose from £6.9m to £7.2m. Lower operating cash flows, reflecting a £103m contribution to the pension deficit, a change in the way the company accounts for leases, and losses on derivative positions were key contributors to the increase.

Despite an increase in United Utilities' regulatory capital value the rise in net debt saw gearing, a measure of indebtedness that compares net debt to asset values, rise from 61% to 62%.

Continued improvements in customer service means the group expects to receive a service incentive payment of at least £6m this year. The group now expects to achieve £50m, up from £30m, in outcome deliver incentive rewards from the regulator in the 2015-2020 regulatory period. The increase reflects a £22.5m outperformance payment in relation to the West Cumbria project - where the group is switching the areas water supply from the Ennerdale Valley to the wider regional water network.

Find out more about United Utilities shares including how to invest

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.