United Utilities Group PLC (LON: UU.): Delivered a solid start to AMP7 post delivering operational transformation in AMP6.

United Utilities Group PLC is a FTSE-100 quoted Company, which is involved in the water and wastewater services. It prominently serves in the North West of England, and it provides 1.8 billion litres of water every day to over 3 million business and homes. United Utilities Group has steadily reduced the average household bill. The Group is focusing on innovation and sustained investments, to deliver against a challenging set of performance targets, while also protecting and enhancing the environment and supporting the local communities.

On 25 March 2021, the Company will release its pre-close trading update for FY21, while the full results will be announced on 27 May 2021 for the year ended 31 March 2021.

(Source: Company Website)

Recent Trend of Dividend Payments

Despite the short-term uncertainties, the Group is assured of medium and long-term business prospects, which has given the Board to reaffirm the dividend policy. The interim dividend for H1 FY21 was proposed of 14.41 pence, which reflected an increase of 1.5% year-on-year. The chart below shows the progressive dividend policy adopted by the Company.

On 1 February 2021, the Company expects to pay the interim dividend for H1 FY21. The last dividend was paid on 3 August 2020 for FY20, while the ex-dividend date was 25 June 2020.

Growth Prospects and Risk Assessment

The Group has been maintaining reliable and resilience services to over 7 million people, and also providing support schemes to help 142,000 customers facing financial difficulties. Despite the pandemic, it delivered a stable operational performance, while the cash collection remained robust. Moreover, the Company has delivered a positive momentum into AMP7 (new regulatory period) by an additional investment of £130 million. It is also targeting 7% real reduction in average household bills in FY21. It also has been able to maintain a strong balance sheet, which fetched A3 stable credit rating with Moody’s. Furthermore, the Company has maintained a progressive dividend policy in line with CPIH (Consumer Prices Index including owner occupiers' housing costs) inflation.

(Source: Company Presentation)

(Source: LSE, chart created by Kalkine Group)

However, the performance can be impacted with ongoing Covid-19 challenges which can disturb the cash collection, operational delivery, and supply chain for water and wastewater services. The business is also exposed to the risks pertinent to failure of wastewater network, unfavourable price outcome, credit rating downgrades, unfunded projects, lower inflation, and competition in the bioresource market.

Industry Outlook Dynamics

The utility companies in the UK are defensive players as they pay a consistent dividend to the investors, with a significant shareholder return. These companies also have a large amount of money as pension assets, and many older people are dependent on such companies for a regular stream income.

As per the recent publication from the Fortune Business Insights, the market size of global water and wastewater treatment was US$265.30 billion in 2018, and it is projected to reach US$456.68 billion by 2026, reflecting a CAGR of 7.1% from 2018 to 2026. The key market drivers include growing demand for bottled water, stringent regulations on effluent treatment, growing demand for agriculture needs, and increasing population.

After understanding the industry dynamics, we will analyse some key fundamental and shareholders statistics of United Utilities Group Plc.

A Glimpse of Segments (H1 FY21)

(Source: Company Website, chart created by Kalkine Group)

Financial and Operational Highlights (for the six months ended 30 September 2020 (H1 FY21), as on 25 November 2020)\

(Source: Company Website)

• The Company witnessed a strong operational performance during Covid-19, with robust cash collection, enhanced social tariff, confident in adequacy of 2019/20 provision, service levels maintained against higher domestic demand.
• It has generated a revenue of £894.40 million in H1 FY21, which was down by 4.4% year-on-year from £935.5 million in H1 FY20. The revenue was mainly affected due to average capital bill reduction.
• The Company saw strong and confident start of AMP7, with accelerating £500 million of AMP7 capex and extended by approximately £150 million through additional enhancement projects at Vyrnwy and Bolton. The Company already invested around £130 million last year, which is to drive better performance against the AMP7 ODIs (outcome delivery incentives) and improve the operational performance further. In FY21, the Company expects an ODI reward to be around £10 million.
• United Utilities has shown a strong balance sheet and low customer debtor risk, with stable Household bad debt and A3 stable credit rating (given by Moody’s).
• The Company reported an operating profit of £318.5 million, which was down by 18.7% year-on-year from £391.7 million reported in H1 FY20. The operating profit was affected due to lower revenue and an increase in IRE (infrastructure renewals expenditure) following ongoing work to optimise the Group’s network's performance.
• United Utilities announced the interim dividend of 14.41 pence per share for FY21, which was up by 1.5 year-on-year. The Company has set a target of paying a dividend in line with inflation each year through 2025. Moreover, the growth AMP7 dividend policy remained in line with CPIH inflation in the first half of 2021.
• In 2020/21, the average customer bills have decreased by 7% in real terms.
• The Company expects revenue in the range of £1.75-£1.80 billion, which will be affected by a fall in non-household consumption partly offset by increased household consumption.
• The underlying operating cost is expected to increase due to a higher IRE alongside a small inflationary increase in core cost.
• The underlying finance expense is expected to be lower year-on-year due to lower inflation.
• The capital expenditure is expected to be £590-£640 million following the AMP7 capital expenditure profile's acceleration.
• Overall, it has a strong balance sheet and a fully-funded pension scheme.

Financial Ratios for the period H1 FY2021 (ended on September 2020)

Share Price Performance Analysis

On 15 January 2021, at the time of writing (before the market close, at 8:30 AM GMT), United Utilities Group PLC shares were trading at GBX 925.20, down by 0.98% against the previous day closing price. Stock 52-week High was GBX 1,068.50 and Low of GBX 743.00, respectively.

From the technical standpoint, 20-day SMA (918.90) and 20-day EMA (921.70) are supporting the upside potential.

In the past two years, United Utilities Group PLC’s stock price has delivered a positive return of ~21.98% return as compared to negative ~0.77% return of FTSE 100 index and a positive ~8.96% return of FTSE All Utilities index, which shows that the stock has outperformed the benchmark index and the sector.

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

Business Outlook Scenario

United Utilities Group has given a solid start to a new regulatory period, and it has successfully adapted to the challenging operating conditions. It has invested £130 million in the last year of AMP6 to meet the targets set against AMP7. The customer satisfaction score has remained high, which made them deliver a resilient operational performance and maintain a progressive dividend policy. As per guidance for FY21, the Company expects to report revenue in the range of £1.75 billion to £1.80 billion, which is reflecting a net impact of Covid-19 disruption over bill reduction and non-household consumption. The underlying finance expenses are anticipated to be lower year-on-year due to lower inflation.

(Source: Company Presentation)

Considering the strong and confident start to AMP7, good financial performance backed by the robust balance sheet, reaffirming AMP7 dividend policy, robust cash collection, fully funded pension scheme, solid momentum on strategic priorities, sustainable business model, improved profitability margins, and support from the valuation as done using the above method, we have given a “Buy” recommendation on United Utilities Group at the current price of GBX 925.20 (as on 15 January 2021, before the market close at 8:30 AM GMT), with lower-double digit upside potential based on 9.40x 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.

*The dividend yield is subject to change as per the stock price movement.

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