Severn Trent PLC (LON: SVT) – Expects to deliver FY21 performance consistent with prior guidance, while AMP7 plans remained unchanged.

Severn Trent PLC is a FTSE 100 listed Utility Company, which deals in providing water and waste-water services and developing renewable energy solutions. It is amongst the ten largest water and sewerage regulated companies in England and Wales. The Company is focused on providing high-quality services to both households and business customers. It operates through two main business segments – ‘Regulated Water & Waste-Water’ and ‘Business Services’. The Regulated Water and Waste-Water segment include the wholesale water and waste-water activities of Severn Trent Water Limited. The Business Services division deals in the operating services businesses in the UK & Ireland, the Bioresources business, the Green Power business, the Property Development business and Developer Services. In FY19, it serves around 4.6 million households and business by supplying 2 billion litres of drinking water each day.

On 26 November 2020, SVT expects to release its half-yearly results for FY21.

 (Source: Presentation, Company Website)

Growth Prospects and Risk Assessment

The Company has a proven track record of paying consistent dividends. Further, SVT has consistently delivered an ROE of above 15 per cent over the past five years. It has invested £3 billion in long-term future over the past five years to emerge strongly from the crisis. In terms of credit ratings, both Moody’s and Standard & Poor’s are on stable outlook with long-term credit ratings of Baa2 and BBB, respectively. It has also improved 1,600 kilometres of rivers with Water Framework Directive.

 

The business remained financially strong, and it has made significant improvement against leakage, supply interruptions and water quality complaints. Over the course of AMP6 (Asset Management Plan 6), it has been keeping the bills low, investing for the long term, improving service standards, and generating a cumulative RoRE of 8.5%.

However, the Company also operates in a strict regulatory framework, which can affect the pricing and performance. Moreover, the unfavourable economic conditions can lead to a non-recovery of customer debt and change in the commodity prices. It is also exposed to operational risk arising from a loss of customers with increased competition and poor operating performance due to climate change. The financial risk arising from the exchange rate and interest rate exposure, fluctuation in electricity prices and change in the regulatory model from RPI to CPIH.

Industry Outlook Dynamics

As per the publication from the ReportLinker, the market size for global water and wastewater treatment equipment industry is projected to reach around USD 38.65 billion by 2025, representing a compounded annual growth rate (CAGR) of 3.68% between 2019 to 2025. The growing demand for clean water is primarily driven by rapid urbanisation, increasing population, and infrastructure development. The water industry in the UK serves nearly 50 million household and business customers across Wales and England.

After understanding the industry dynamics, we will analyse some key fundamental and shareholders statistics of Severn Trent Plc.

A Glimpse of Business Segments (FY20)

Trading Update (for the period to 15 July 2020, as on 15 July 2020)

• The Company stated that the first-quarter performance has been in line with anticipations and continues to expect trading for the financial year 2021 to be consistent with the previous guidance.
• As per the operational performance, the Company made a strong start to the financial year 2021, with a net positive outcome on Customer ODIs.
• SVT has already contracted 80% of the year one capital programme under AMP7 plan and stays on track to invest £430 million to £510 million this year in infrastructure.
• In the current quarter, the Company has increased renewable energy generation by 4% year-on-year to 127Gwh, supported by the Solar and Bioresource assets.
• The balance sheet stays strong with committed facilities of £1.1 billion, and in June 2020, the Company issued an inaugural Sustainable Bond to raise £300 million for over 20 years at 2% fixed rate.

Financial Highlights (for the year to 31 March 2020 (FY20), as on 20 May 2020)

Financial Ratios 

Share Price Performance Analysis

   (Source: Refinitiv, chart created by Kalkine Group)

On 9 November 2020, at the time of writing (before the market close, at 8:05 AM GMT), Severn Trent Plc shares were trading at GBX 2,469.20, up by 0.58% against the previous day closing price. Stock 52-week High was GBX 2,716.00 and Low of GBX 1,994.50, respectively.

In the last one year, SVT’s stock price has delivered a positive return of ~12.02% return as compared to negative ~18.52% of FTSE-100 index and a positive ~2.96% return of FTSE All Utilities index, which shows that the stock has outperformed the benchmark index and the sector during the last one year.

From the technical standpoint, the shares were trading above the short-term support level of 100-day simple moving average price, which reflects a bullish signal for the stock. Also, 14-day RSI is currently supporting an upside move (around 42.34 level), which means the stock price could increase in the short term. MACD line is placed above the central line, indicating a bullish setup.

In the last two years, Severn Trent Plc share price has delivered ~28.27% return as compared to negative ~16% return of FTSE 100 index, which shows that the stock has outperformed the index during the last two years.

Valuation Methodology: Price/Cash Flow Approach (NTM) (Illustrative)

Business Outlook Scenario

In FY20, the business remained strong and made significant progress against leakage, supply interruptions and water quality complaints. In FY21, the Company expects a £50 - £85 million negative impact on revenue due to Covid-19 pandemic. Operationally, it has delivered a strong start and remained confident of a net positive outcome on Customer ODIs (Outcome Delivery Incentives).

(Source: Company Website)

 It is also on track to invest £430 - £510 million in infrastructure which underpins strong start to AMP7. The Company has substantial liquidity with committed facilities of £1.1 billion. In a nutshell, the Company has robust financial resources and operational resilience to manage the impact of the Covid-19 outbreak.

 (Source: Presentation, Company Website) 

Considering the strong final year of AMP6, good underlying performance, AMP7 on track, robust liquidity, solid fundamentals, high level of cash generation capabilities, and support from the valuation as done using the above method, we have given a “Buy” recommendation on Severn Trent at the current price of GBX 2,469.20 (as on 9 November 2020, before the market close at 8:04 AM GMT), with lower-double digit upside potential based on 11.02x Price/NTM Cash Flow (approx.) on FY21E cash flow per share (approx.). 

*All forecasted figures and Peer information have been taken from Refinitiv, Thomson Reuters.

*Dividend Yield may vary as per the stock price movement.

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