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SSE - first quarter as expected, full year dividend reiterated

Emilie Stevens, Equity Analyst | 16 July 2020 | A A A
SSE - first quarter as expected, full year dividend reiterated

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SSE plc Ord 50p

Sell: 1,615.50 | Buy: 1,616.50 | Change 9.00 (0.56%)
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Coronavirus has impacted first quarter performance, but the impact is in line with expectations for reduced electricity demand announced in June. Operating profit for the year is expected to be £150m-£250m, but that's before taking into account any actions SSE may take.

SSE continues to target delivery of its five year dividend plan to 2022/23, with this year's dividend expected to be 80p plus RPI inflation.

The shares rose 1.4% following the announcement.

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Our view

With the sale of its retail business complete and the Gas Production business on the block, SSE now splits into two - a Networks business which delivers electricity to homes and a renewable energy giant.

Networks is SSE's core business - delivering electricity across Scotland and Southern England and owns high voltage transmission cables in the Scottish Highlands and Islands. This is classic utility territory - with revenues predictable and profits closely regulated. As a result, the group's firmly in the income category. And until announcing a dividend cut ahead of the separation of the retail division, the payout had grown for over 20 years.

Regulated profits might be more predictable, but they're unlikely to grow quickly, which makes renewable energy SSE's growth engine. Increasing concern about climate change is and hydropower could be a good solution. Renewables made up about 38% of profits last year, but the plan ramping demand for cleaner energy and SSE's wind farms is to treble renewable output by 2030 to 30 TWh a year (enough to power Scotland).

So far so good, but there are challenges.

Cash has been something SSE has found hard to come by in the past. It hasn't always generated enough to cover the multi-billion pound infrastructure bill and fund the dividend as well. The result has been an upward trend in net debt.

A moderate level of debt is no bad thing, especially for a business with such reliable revenues, but SSE can't keep borrowing forever. The scrip dividend, where dividends are paid in shares rather than cash, is helping ease the burden short term, as are disposals and spending reductions, but none of these are permanent solutions.

There are external threats too. Lockdown is reducing energy demand and increasing bad debts - particularly from business customers. It's already starting to dent profits. More important is a tougher regulatory regime on the horizon, which will likely see profits squeezed as the regulator puts pressure on prices while increasing performance expectations. The final proposals will be published in December this year.

We think SSE's focus on networks and renewables makes sense, but there's work to be done, particularly in turning around the cash position. The shares currently trade on 16.9 times expected future earnings, above a longer run average of 12.2. And while that's likely a reflection of wider market turmoil, we don't think it reflects the performance challenges SSE has to overcome. SSE offers a prospective dividend yield of 6.0% and while the current dividend policy has been reaffirmed once again, if it's income you're after, we think there could be more reliable places to find it.

SSE key facts

  • Current 12m forward P/E ratio: 16.9
  • 10 year average 12m forward P/E ratio: 12.2
  • Prospective yield: 6.0%

We've introduced this section in response to recent survey feedback.

Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Trading Details

Over the quarter electricity distribution was 7.7 TWh compared to 8.8 last year. Poor weather conditions meant that Renewable electricity output of 1,988 GWh in the quarter was lower than the 2,352 planned, but still higher than the same period last year. Gas fired electricity generated in the quarter rose to 4,260 GWh up from 3,810 last year.

SSE's raised around £1.1m in new hybrid bonds at a cost of just under 3.8% per annum, to replace existing bonds costing just over 4%.

Ofgem recently released draft plans for the next regulatory period (2021 - 26) 'RIIO-T2'. SSE said that without changes in the consultation period (which lasts until September 2020) "the draft settlement risks failing to deliver on net zero, inadequately reflecting stakeholder and customer needs, and falling short in attracting the significant investment required."

Progress is being made in plans to sell a stake in the Dogger Bank offshore wind project, which will be the largest in the world once complete.

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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.