ii view: Severn Trent shares slide after explaining new plans

Capital Markets Day

ii round-up:

Severn Trent (LSE:SVT) today outlined plans for the new regulatory five-year period to 2030 known as AMP8.

The Midland headquartered water and sewage company hopes to reduce leakages by more than 30% from their 2020 levels, aided by the installation of 1,500 storm weather overflows within the last year.  

Shares in the FTSE 100 company fell 3% in UK trading having come into this latest news little changed over the last year. Rival United Utilities Group Class A (LSE:UU.) is down by close to 5% over that time. The FTSE 100 index is up 15%.  

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Severn supplies over eight million people with around two billion litres of clean drinking water every day. Plans to reduce leakages include the insourcing of a team of around 450 personnel to replace 1,400 kilometres of pipework.

Hoping to halve spills by 2030, Severn is guiding to net operational outperformance in AMP8 of over £300 million, which includes up to £50 million in Price Control Deliverables (PCDs), with the rest derived from ODI rewards. 

Outcome Delivery Incentives (ODI) are paid to water companies by the regulator for meeting or exceeding targets such as reducing leaks and pollution, and are expected by Severn to be weighted towards the latter stages of the AMP8 period.

As such, Severn expects ODI rewards for the full-year 2026 to be a minimum of £25 million. Net ODI rewards for the group’s financial year to 31 March 2024 totalled £55 million.  

Other management goals during AMP8 include reducing pollution by a further 30% and improving standards and capacity at over 400 pumping stations, as well as investing an extra £50 million into infiltration programmes to keep groundwater out of sewers – potentially reducing processing and treatment costs.

Looking beyond AMP8, Severn envisages a multi-decade investment cycle, focused on mitigating and adapting to climate change as well as meeting population growth and tightening environmental standards.

Full-year results to 31 March are likely to be announced mid-to-late May. 

ii view:

Headquartered in Coventry, Severn Trent employs around 7,000 people. A constituent of the FTSE 100 index, the group’s name comes from the two predecessor River Authorities which managed the catchment of the Severn and the Trent.

For investors, periodic negotiations with the industry regulator remain a constant, with expected ODIs over AMP8 assisting profits, largely expected towards 2030. Group net debt of £7.66 billion as of late September compares to a current stock market value of £7.3 billion. Index-linked group debt has previously seen financing costs rise, pressuring earnings, while the water industry’s general accountability for the environment cannot be overlooked. 

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To the upside, recent agreement with the regulator for the AMP8 period reduces outlook uncertainty. Defensive qualities persist given the need for water no matter what state of health the economy might be in. Operational improvements and investment in group infrastructure are ongoing, while management has previously summarised Severn’s financial position as ‘resilient’. 

For now, and despite ongoing risks, a forecast dividend yield of close to 5% is likely to keep income investors happy.

Positives: 

• Attractive dividend payment (not guaranteed)
• Defensive qualities 

Negatives:

• Uncontrollable factors such as the weather can hinder performance
• Regulatory constraints

The average rating of stock market analysts:

Hold