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Severn Trent - non-household demand returns

Severn Trent - non-household demand returns

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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.

Severn Trent plc Ordinary 97 17/19p

Sell: 2,739.00 | Buy: 2,741.00 | Change 0.00 (0.00%)
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Severn Trent reported a 6.4% increase in full year turnover to £1.9bn, toward the top end of expectations, as non-household demand returned to pre-pandemic levels. The group hit 88% of its outcome delivery incentives (ODIs), resulting in a net reward of £79m.

Underling profit before interest and tax rose 7.5% to £508.3m as an increase in regulated revenue was partially offset by higher costs.

For the full year 2022/23, turnover is expected between £1.97bn-£2.02bn.

The board proposed a final dividend of 61.3p.

The shares fell 1.0% following the announcement.

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Our view

Severn Trent is primarily a straight-forward water utility, providing water and sewerage services to over 4m customers in the Midlands and Wales. There are renewable energy and food waste recycling businesses tucked in there too - but their contribution to profits is minimal at present.

Water utility prices are set by the regulator, Ofwat. They're reviewed every five years and aim to make sure water is readily available at an affordable price. In return well run water companies can achieve reasonable financial returns.

Severn Trent has historically coped well under the system, delivering steady earnings growth and a gentle flow of dividends - characteristics which have made it a popular choice with pension funds and other income seeking institutions. This is particularly true considering the current, uncertain, economic conditions where reliable cash flows attract a premium.

Despite already offering some of the lowest prices around, the group's committed to doing more to help those impacted by the current cost-of-living crisis. A new £30m scheme has been set out to help around 100,000 customers, taking the total number supported by 2025 to 315,000.

However, there are challenges ahead.

Inflation in costs from power to chemicals mean costs are expected to rise. The group has a natural hedge against rising energy costs, with Bioresources and Severn Trent Green Power generating around half of the group's energy consumption.

A new regulatory regime which lasts until 2025 has moved the goal posts. Ofwat has reduced the financial returns water utilities can make and set challenging performance targets. As with most businesses, lower earnings tend to mean less generous returns for shareholders. Cue Severn Trent's new dividend policy.

The goal is to grow the dividend at least in line with inflation (compared to 4% above inflation under the old regime). Above inflation growth isn't out of the question, but coronavirus has made operational outperformance and cost efficiencies (both of which can boost earnings) harder to achieve.

The balance sheet remained fairly stable, but it's worth keeping an eye on the cost to service that debt. Higher interest rates mean the cost of that debt is increasing. Its manageable, but worth keeping an eye on.

Despite headwinds, Severn Trent has some of the more reliable revenues out there, and a strong operational record. Such qualities are especially valuable when the world is so uncertain. Remember though, nothing is guaranteed and share prices can fall as well as rise.

Severn Trent key facts

  • Forward price/earnings ratio: 25.1
  • Ten year average price/earnings ratio: 19.8
  • Prospective dividend yield (next 12 months): 3.4%

All ratios are sourced from Refinitiv. 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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Full Year Results

The Regulated Water and Waste Water business saw turnover up 6.5% to £1.8bn. That was largely driven by a £62.0m net increase from higher non-household consumption following the easing of restrictions. A drop in bad debts helped offset rising costs to some extent but owing to higher turnover, underlying profit before interest and tax rose 5.6% to £476.3m,

Business Services saw turnover up 6.6% to £143.6m, with a fairly even split between Operating Services and Green Power. Underlying profit before interest and tax rose 49.2% to £38.5m. This was largely due to an almost 6-fold increase from Property Development as the group lapped a prior year where there were no large disposals. Green Power profit more than doubled, benefiting from higher energy prices.

Net debt rose 1% to £6.5bn but higher inflation meant the cost on index-linked debt increased, contributing to net finance costs up £82.3m to £269.4m. Gearing, a measure of overall indebtedness, fell from 85.0% at the start of the financial year to 83.7%.

The group's targeting real regulatory capital value growth of 10.8% over the regulatory period.

Find out more about Severn Trent shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.