ii view: Pennon ups the divvy despite rising costs

It's spending money on improving efficiency and resilience, and the shares offer a potential dividend yield of over 4%. We assess prospects. 

First-half results to 30 September

• Adjusted revenue up 9% to £426 million
• Pre-tax profit down 74% to £21 million
• Interim dividend up 10.8% to 12.96p per share
• Net debt up 13% to £2.88 billion

ii round-up:

Water company Pennon Group (LSE:PNN) today detailed first half results broadly in line with City estimates as it raised its dividend by an inflation linked 10.8% to 12.96p per share. 

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Revenue climbed 9% to £426 million, aided by its takeover of Bristol Water, while pre-tax profit declined by almost three-quarters to £21 million as rising interest on its inflation-linked debt doubled financing costs. 

Pennon shares fell by more than 3% in UK trading having come into this latest update down by around a fifth year-to-date. That’s similar to the fall for the wider FTSE 250 during 2022. Larger water companies Severn Trent (LSE:SVT) and United Utilities Group (LSE:UU.) are down around 8% and 6% respectively year-to-date. 

Pennon, which operates throughout 860 miles of coastline and sees its population about treble in the summer months to over 10 million people due to tourism, announced a further £45 million into schemes to boost water resilience such as repurposing ex-quarries and adding de-salination facilities.

Operationally, Pennon remains on track to achieve around 80% of its Outcome Delivery Incentives (ODI) for South West Water and around 75% for Bristol Water. ODI’s are paid to water companies by the regulator for meeting or exceeding targets in relation to operational items such as reducing leakage or environmental pollution.

Pennon’s net interest charge rose 102% to £74.7 million compared to the first half of last year due to the spike in inflation following Russia’s invasion of Ukraine and its impact on inflation linked debt or bonds. Overall, group net debt rose 3.4% from its last year-end in March to £7.83 billion. 

The interim dividend of 12.96p per share is expected to be paid to eligible shareholders on 5 April. 

ii view:

Pennon joined the UK stock market in 1989 as South West Water. It later combined with Bournemouth Water to become Pennon. In 2020, it agreed to sell its waste management business Viridor, later returning funds to shareholders. Most recently, it purchased Bristol Water, adding around 1.2 million new customers. 

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For investors, rising costs including interest payments on its index-linked debt and those for energy and chemicals, all warrant firm consideration. So do periodic negotiations with the industry regulator and the water industry’s accountability and impact on the environment. The previous sale of Viridor also removed an opportunity for growth outside of its regulated water business.

More favourably, ongoing investments such as £160 million towards renewable energy generation all point towards improved operational efficiency in future. Its acquisition of Bristol Water has also provided cost saving opportunities, while management continues to point towards a responsible and sustainable balance sheet. 

For now, and with Bristol Water still being integrated and the shares sat on an estimated future dividend yield of over 4%, income focused investors are likely to remain patient. 

Positives:

• Attractive dividend (not guaranteed)
• Targeting cost savings from Bristol Water acquisition

Negatives:

• Growth opportunities via waste management business now removed
• The weather can impact performance

The average rating of stock market analysts:

Strong hold