ii view: heavy rain causes Pennon profit shortage

Second-half trading update to 9 March

• Now expects full-year adjusted profits up 55% from last year – down from a previous estimate of up 60%

ii round-up:

Pennon Group (LSE:PNN) today reduced full-year profit expectations given a combination of higher-than-expected rainfall related costs and investments made under the first year of its new five-year regulatory period. 

The owner of South West Water now expects annual adjusted profits (EBITDA) to grow by 55% year-over-year. That’s down from an estimate of 60% growth made in November. Pre-tax profits are now forecast to come in at the lower end of analyst estimates of £124-148 million. 

Against a backdrop of raised hopes for an end to the war in the Middle East, Pennon Group shares rose 2%. Shares in the FTSE 250 company improved by just over a tenth during 2025. That’s similar to fellow water companies Severn Trent (LSE:SVT) and United Utilities Group Class A (LSE:UU.). The FTSE 250 index gained 9% last year.  

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Pennon provides clean water to a population of around 3.5 million people. Heavy rainfall weighing on performance targets is now expected to see a net Outcome Delivery Incentive (ODI) penalty position for the full year. 

ODI’s are paid to or taken from water companies by the regulator depending on the performance of criteria such as reducing leakage or environmental pollution. Heavy rainfall can cause sewage to flood into clean water. 

Ongoing investments into Storm overflows had resulted in a 17% fall in their use over the last year. Storm overflow mechanisms help prevent or reduce sewage flooding. 

Chief executive Susan Davy is soon to retire with Keith Haslett, current head of Affinity Water, set to take over from 1 April.

Broker Morgan Stanley reiterated its overweight stance on Pennon shares post the news, highlighting an estimated target price of 680p per share.  

Full-year results to late March are scheduled for 2 June. 

ii view:

Floating on the UK stock market as South West Water in 1989, the group later combined with Bournemouth Water to become Pennon Group. Subsequent acquisitions of Sutton and East Surrey (SES) water and Bristol Water have also been made, as well as the sale of waste management business Viridor. 

For investors, a reshaped regulator under the current government could yet see higher performance targets impact financial performance. The water industry’s accountability and impact on the environment cannot be overlooked. Operational issues such as the Devon water parasite incident during 2024 have led to fines and additional costs, while net debt of £4.3 billion as of late September compares to a stock market value of £2.58 billion. 

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More favourably, the relative defensiveness of a utility operator, given that we all need water no matter what the health of the economy, offers appeal and backing to dividend payments. Record investment is now being made in improving operational efficiency. A series of acquisitions have offered cost saving opportunities, while management continues to target the retaining of a Baa1 credit rating over the current K8 regulatory period. 

For now, and while heightened regulatory scrutiny is not to be dismissed, a forecast dividend yield of over 5% should at least see income investors remain interested.  

Positives:

• Attractive dividend (not guaranteed)
• Targeting cost savings from acquisitions

Negatives:

• The weather can impact performance
• Elevated net debt

The average rating of stock market analysts:

Buy