Pennon confirmed that trading is in line with previous expectations. Full-year revenue is set to rise from a base of £825.0m, while flat costs year-on-year mean there should be an improvement in near-term earnings.
Financial performance this year is set to be weighted toward the second half, as lower power costs and improved efficiencies from the merger of Bristol Water kick in.
The group's on track to deliver investment of over £400m this year. Coupled with high levels of inflation, which has a positive impact on regulatory assets, the asset base is expected to rise to around £5.4bn by 2025.
The business plan covering 2025-2030 has been submitted to the regulator, Ofwat. Plans include £2.8bn of investment aimed at addressing challenges around pollution, water quality, water resilience and delivering on Net Zero targets. Gearing (the ratio of net debt to regulatory assets) is expected to remain within the group's 55-65% target range.
The shares rose 3.1% following the announcement.
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Our view
With the new regulatory period looming (2025-2030), water utility companies are submitting their plans to the regulator, Ofwat. In return for providing reliable water and wastewater services, Ofwat allows Pennon to earn an acceptable financial return.
Last year, Pennon's revenue was buoyed by a strong performance from its non-household arm, Pennon Water Services, which scored a handful of contract wins. But despite rising revenue, Pennon saw profits begin to evaporate as high power and inflation-related costs took their toll.
Margins should get some breathing room this year, with costs expected to remain flat. High levels of inflation are also increasing the revenue the group's allowed to earn on its assets, which are measured by Regulatory Capital Value (RCV).
The Bristol Water acquisition helped on this front, raising Pennon's RCV by around 16%. And further growth's being supercharged by investment, with RCV expected to grow by around £0.7bn to £5.4bn by 2025.
There's a large amount of infrastructure spending expected over the second half of the decade. But despite this, debt levels are expected to remain within the group's target range. That means future investment should be covered without the need to issue new equity - which may not be the case for some peers.
The higher investment levels have their drawbacks though. Cashflows are getting squeezed as a result, which could put some pressure on the generous 7.9% prospective dividend. As always, remember that all dividends are variable and not guaranteed.
Another thing to bear in mind is the regulatory pressure that's been mounting against water utility companies. South West Water, which is owned by Pennon, has already been on the receiving end of fines for discharging untreated sewage into rivers and lakes. The group's water resilience is in question too, with the drought status in southwest England remaining in place . Pledges have been made to clean up its act, which is underpinning the large investment commitment in the next regulatory period, but improving performance won't happen overnight, meaning Pennon could find itself back in the regulator's firing line.
Pennon has a history of sector-leading performance and looks well-placed to benefit if it can execute its long-term strategy. But regulatory challenges and some high-profile slip-ups mean it currently trades at a discount to both its long-term valuation and the peer group . We see that as an opportunity, but nothing is guaranteed.
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.
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