Pennon is on track to deliver full year results in line with management expectations. Results will be announced on 1 June 2023 and will included nearly a full year's contribution from the acquisition of Bristol Water.
As the drought status in the South West remains in place, the group's reinvesting in South West Water to increase water resilience and is on track to meet its targeted returns on investment.
The group's accelerating its plan to achieve around 50% self-generation of energy by 2030. The roll out of solar generation coupled with its hedging strategy means two thirds of the group's 2023/24 energy needs have been de-risked.
Pennon is trying to support its customers and has announced it will deliver below inflation bill increases in 2023/24.
The shares were broadly flat following the announcement.
View the latest Pennon share price and how to deal
Our View
Pennon's full year results are on track with management's expectations, which previously guided for lower revenues and higher costs across the second half of the year. The results will also reflect the first full year contribution from Bristol Water.
Pennon provides water and wastewater services to businesses and individuals. The group's business is regulated, and this oversight translates into stable and predictable revenues - one of its main attractions.
The group's benefitted from the Bristol Water acquisition, which raised Pennon's Regulatory Capital Value (RCV) by around 16%. In the first half of the year, Bristol Water contributed £69.7m to the group's total revenues of £425.5m.
However, that deal and a £1.5bn special dividend paid out in the last financial year, have contributed to a substantial net debt position. Pennon and its peers have index-linked debt, the costs of which increase in line with inflation. But compared to peers, Pennon has a relatively low portion of its debt linked to inflation. And it's also important to remember the bulk of these charges are non-cash and should be non-recurring, which hopefully removes a headwind moving forward.
In return for providing reliable and affordable service, Ofwat (the regulator) allows Pennon to earn an acceptable financial return. This return is reviewed every five years, which means earnings have tended to be stable and predictable. But cashflow has been squeezed by higher costs, and investment commitments which could put some pressure on the generous 5.2% prospective dividend. As always, remember that all dividends are variable and not guaranteed.
Ofwat reduced what it considers to be 'acceptable' this regulatory period and increased performance targets. Another review isn't on the cards until 2024, but it's worth considering that there could be another downward revision, particularly if the cost-of-living crisis is still hanging around. As with other businesses, lower earnings could result in less generous returns for shareholders and there are no guarantees.
Another thing to bear in mind is the group's water resilience. Unseasonably dry winter weather has meant that a drought status in southwest England remains in place. Come Summertime, we wonder if reservoir levels will be sufficient to keep customer's supplies running at full flow. If not, the group could find itself being punished by the regulators.
To date, Pennon's built a good record as a water business and while the next regulatory cycle is set to be tougher, we see no reason why this shouldn't continue. Rigid cost control has helped generate some of the best regulated returns in the sector, while service levels have been good enough to earn additional rewards from Ofwat. Investors are paying for that strength, with a price to book ratio some way above its average.
Pennon key facts
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.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. 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 disclosure for more information.